News highlights for February 2013

PCAOB member Jay Hanson said that he struggles to see how the board would ever be able to create a mandatory audit firm rotation requirement for the U.S. public company auditors it regulates.

During a question-and-answer session at the AICPA Conference on Current SEC and PCAOB Developments in Washington in early December, Hanson said that many obstacles to mandatory audit firm rotation make its implementation unlikely. “I can’t imagine that we’d go forward,” he said.

In an interview after the Q&A session, Hanson elaborated on his comments. He said that to create a mandatory rotation requirement that would have a chance of being approved, the PCAOB would have to consider statistical evidence that firm tenure is linked to audit failures and deficiencies. The board also would have to complete an analysis showing that the benefits of mandatory firm rotation would outweigh the costs, he said.

“We’ve got all those things to do before we could meaningfully propose or adopt mandatory firm rotation,” Hanson said. “I’m skeptical as to whether we’d ever get there with all those hurdles in front of us.”

Hanson emphasized that the comments were his own and that he was not speaking on behalf of the other four members of the PCAOB, which would ultimately have to vote on the topic. His comments—and those of fellow board members—suggest that the discussion is far from over. PCAOB Chairman James Doty said at the conference that it is important to examine ways to protect auditors’ independence, “including by considering term limits.”

The PCAOB on Aug. 16, 2011, issued a concept release asking for comments on whether mandatory audit firm rotation would improve auditor independence, objectivity, and professional skepticism. The release said that at the time, the average audit firm tenure for the top 100 U.S. public companies was 28 years. The PCAOB was concerned that auditors’ objectivity could be diminished if they were afraid their work jeopardized those long-standing, lucrative relationships between their firms and the companies they audit.

A few months later, the European Commission issued mandatory audit firm recommendations that have been the subject of debate in the European Parliament. The PCAOB has held numerous public hearings on mandatory rotation where the board has heard many alternatives that could improve objectivity and independence.

The AICPA has written a comment letter opposing mandatory audit firm rotation, saying rotation would have costly and unintended consequences and may hinder audit quality. (The letter is available at tinyurl.com/cl45dnf.) The PCAOB has received more than 650 letters on the subject; an Ernst & Young study released in January 2012 showed that more than 90% of the letters posted at that time opposed mandatory rotation.

During a hearing in March, some members of the U.S. House Subcommittee on Capital Markets and Government Sponsored Enterprises grilled Doty on audit firm rotation, saying the board needed to consider the costs and benefits. Doty said the board would not implement a mandatory audit firm rotation requirement without such a study.

“We have numerous obstacles,” Hanson said.