August 2013

The Public Company Accounting Oversight Board (PCAOB) is considering changes to the standard auditor’s report, which has remained relatively unchanged for decades.  The hope is that these changes will make the standard auditor’s report more informative, relevant and useful to investors and other financial statement users.  The proposed expanded language would require auditors to include a discussion of critical audit matters specific to the audit and potentially require auditors to provide a formal evaluation of other information.

Critical audit matters identified by the auditor during the audit period are described by the PCAOB as those which

  • “Involved the most difficult, subjective, or complex auditor judgments
  • Posed the most difficulty to the auditor in obtaining sufficient appropriate evidence
  • Posed the most difficulty to the auditor in forming an opinion on the financial statements
  • [Were] included in engagement completion documents
  • [Were] reviewed by the engagement quality reviewer
  • [Were] communicated to the audit committee”

Each critical audit matter would be identified in the auditor’s report with a description of the auditor’s basis for inclusion as a critical audit matter and reference to the relevant financial statement accounts and disclosures.

Other proposals include adding language to the auditor’s report relating to the auditor’s responsibilities for fraud and notes to the financial statements, and new elements related to auditor independence and tenure.  There may also be a discussion of the auditor’s responsibilities and conclusions regarding items outside the financial statements.  This is a significant change from the current responsibility of auditors to “read and consider” other information with no reporting requirement.

The PCAOB notes that the proposed standards on other information would:

  • “Apply the auditor’s responsibility for other information specifically to a company’s annual report filed with the Securities and Exchange Commission under the Exchange Act that contains the company’s audited financial statements and the related auditor’s report
  • Enhance the auditor’s responsibility with respect to other information by adding procedures for the auditor to perform in evaluating the other information based on relevant audit evidence obtained and conclusions reached during the audit
  • Require the auditor to evaluate the other information for a material misstatement of fact as well as for a material inconsistency with amounts or information, or the manner of their presentation, in the audited financial statements
  • Require communication in the auditor’s report regarding the auditor’s responsibilities for, and the results of, the auditor’s evaluation of the other information.”

Although the existing “pass/fail” model would be preserved, this type of specificity in the auditor’s report would be a significant change from the boilerplate language that is currently employed.  While more information should allow investors to make more informed choices, there is no dispute that there are costs associated with these changes.  The increased work to support the proposed required language will be borne by the firms, and thereby paid for by the shareholders, who are the owners of such firms.  Therefore, these users of information should weigh the cost/benefit of these additional auditor obligations before supporting such changes and ensure the changes accomplish their stated goals.  While the auditors will enjoy increased fees related to this work, the additional representations will likely bring them further liability exposure should problems subsequently be discovered.

Fulcrum Inquiry performs forensic accounting investigations and auditor standard of care analysis.