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Auditors' Auditor Faces Moment of Truth: The Ticker
A funny thing happened last month when the board that makes the rules for the U.S. auditing profession floated the idea of setting mandatory term limits for public companies' audit firms. A majority of the board's five members released statements showing they were anywhere from noncommittal to leery.
Lewis Ferguson, a former securities lawyer at Gibson Dunn & Crutcher who was appointed to the Public Company Accounting Oversight Board this year, said "mandatory audit firm rotation inevitably increases costs as a new auditor becomes familiar with a new client." Jay Hanson, a former partner at the accounting firm McGladrey & Pullen, also appointed this year, said the board needed "to weigh carefully whether its benefits would outweigh its costs and potential unintended consequences." Daniel Goelzer, a former auditor and corporate lawyer whose term is about to expire, said he had "serious doubts that mandatory rotation is a practical or cost-effective way of strengthening [auditor] independence."
The champion of the term-limits initiative, which would cap the number of consecutive years a firm could serve as a company's auditor, is the board's new chairman, James Doty. And with Goelzer leaving, there's a lot riding on the Securities and Exchange Commission's choice of who should fill his open seat. Doty also is pressing to require auditors to supplement their boilerplate (i.e., worthless) opinion letters with narrative discussion-and-analysis reports, similar to those that companies' management teams must include in the financial reports they file with the SEC.
Both concepts have strong support from investors, while the auditing profession predictably is closing ranks to oppose them. Common sense tells you 20 years as a company's auditor -- which is the norm at large companies -- is too long and promotes overly cozy ties. The argument that familiarity breeds expertise or cost-effectiveness is a specious one. Somehow the PCAOB's inspectors have managed to find botched audits at hundreds of companies during the board's nine-year history, even though the inspectors' familiarity with those companies was scant.
As it stands, Doty has only one reliable ally on the board on these sorts of investor-protection issues: Steven Harris, who helped draft the Sarbanes-Oxley Act while he was staff director for the Senate Banking Committee. Without a third vote to back him up, Doty's initiatives won't go anywhere.
PCAOB members are appointed by the SEC as a whole. Practically speaking, the decision of who to pick as Goelzer's successor -- which could come any day now -- rests largely with SEC Chairman Mary Schapiro. Under the board's rules, Goelzer's slot must be filled with a certified public accountant. Doty, a former corporate lawyer and SEC general counsel who was appointed in January, has turned out to be more investor-friendly than his predecessors at the historically sleepy agency. The SEC has the chance to make clear whether that was what it intended or an accident.
By saddling Doty with another opposing vote to kneecap his agenda, the SEC could show it stands on the side of the big accounting firms that sat quietly while the country's banks imploded. Or it could tilt the board Doty's way by selecting someone who has a long history as an advocate for the investing public -- and who doesn't hail from the industry the PCAOB is charged with regulating. Whatever choice Schapiro and the SEC make will demonstrate their true colors.
(Jonathan Weil is a Bloomberg View columnist.)
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