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As the Supreme Court prepares to consider the Public Company Accounting Oversight Board's fate, the board seeks a budget increase.
Sarah Johnson, CFO.com | US
December 3, 2009
The week before Supreme Court justices will hear reasons why the Public Company Accounting Oversight Board should be dissolved, the auditor watchdog appears undeterred and has asked for a 16% boost to its 2010 budget.
Members of the board attribute the request for an additional $25.7 million — for a total budget of $183.3 million — to the need for 60 more employees, as the board expects to do more international inspections, undertake a new group of audit firms, and deal with the increasing complexity of accounting rules. The board also expects increased pressure from its regulator to ensure that high-quality audits are occurring at publicly traded companies.
"Changes in economic and business conditions during the past 18 months have made auditing more difficult, particularly in areas like financial-instrument valuation, impairment, going-concern evaluation, and other aspects of financial reporting that require significant estimates and judgments," said PCAOB acting chairman Daniel Goelzer during a meeting to approve the proposed budget earlier this week. "As a result, our inspections are more challenging and the need for thoughtful risk assessment is greater."
Nearly half of the additional $25.7 million will go toward the board's inspections division. In addition, for the first time, the PCAOB will be taking in registrations and annual reports from an estimated 1,200 accounting firms that audit broker-dealers (on top of the more than 2,000 already registered with the board). Before Bernard Madoff's notorious Ponzi scheme, these firms were not required to register with the PCAOB.
Assuming the budget is approved — which is likely since the Securities and Exchange Commission, which oversees the PCAOB, works closely with the board during the budgeting process — it will mark a 78% increase over the six-year-old organization's first full-year budget of $103 million, in 2004. The request could rankle CFOs who may see their accounting-support fees rise next year. "In this day and age, there are not a lot of CFOs who have budgets that are increasing," notes Andy Burczyk, regional attest leader at accounting firm Mayer Hoffman McCann. "This is just another expense that public companies are going to have to bear."
The PCAOB funds its activities through fees collected from public companies that have at least $25 million in market capitalization, as well as from investment companies. The annual fee ranges by company size: about half paid $1,000 or less annually in 2008, and 15 companies paid between $1 million and $3 million that year.
In the meantime, the board will likely spend the first half of the year wondering about its immediate future. On Monday the highest court will hear arguments in a case questioning whether the existence of the PCAOB — created out of the Sarbanes-Oxley Act of 2002 — violates the U.S. Constitution's separation-of-powers principle. The justices are expected to make their decision by spring.
As of press time, a PCAOB spokeswoman did not respond to CFO's request to comment for this article. In the board's most recent strategic plan, it says it "will continue to defend this action vigorously."
Entering its fourth year in the court system, the lawsuit was filed by the Free Enterprise Fund, a policy group interested in promoting small government, which took on the case of a small accounting firm criticized by the board after one of its inspections. The group contends that because the regulator was not a legal body, it had no standing to perform its reviews and critiques of auditors. The Supreme Court will be weighing in on the specific question of whether Sarbox violates the Constitution because it gives the President no say in the appointment of the PCAOB's five-member board.
Mark Olson, a former PCAOB chairman who stepped down this summer, believes the oversight question will fall flat since the board — a private, nongovernmental entity — is overseen by the SEC, whose commissioners are appointed by the President. "That takes away the strongest argument, that it's a separate agency without oversight," he told CFO. "It doesn't stand up to reality, either in the construct of the law or the way the law was implemented."
The matter concerns just one provision of Sarbox that governs the accounting oversight board, but the plaintiffs have not shied away from hoping the case will make the entire seven-year-old law unravel. Moreover, Sarbox dissenters hope the Supreme Court will agree with them that there is no "severability" clause in the act and that any change made to it would open up all of its provisions to debate (including the much-maligned Section 404). "With the issue back at the forefront of the legislative agenda, we anticipate that Congress will consider proposals to reform Sarbanes-Oxley in other ways," Chris Vergonis, a partner at Jones Day, the law firm that represents the plaintiffs in the Supreme Court case, told CFO.
Olson, who now co-chairs the consultancy Corporate Risk Advisors, considers the constitutionality argument a last-ditch effort to get Sarbox repealed by "a group that represents a point of view that was offended by the whole Sarbanes-Oxley legislation."
The PCAOB was created as a private entity, mostly to help it keep up with private-sector salaries, as well as to keep itself independent from the industry it's charged with scrutinizing, Olson explains. Four board members are paid just over $500,000 each, more than the SEC commissioners and the U.S. President earn, while the PCAOB chairman's salary is $654,406.
However, the board hasn't been able to fill its empty slots. A spokesman says the SEC has made "no final decision" on the three available seats, including Olson's (which has been vacant since July) and that of Charles Niemeier, who still sits on the board even though his term expired in October 2008. Bill Gradison's term recently expired as well.
Olson suggests that vacant seats at the PCAOB aren't unusual; his spot was empty for eight months before he was appointed. The SEC "has a lot on their plate, a lot of things competing for their attention," he adds.
A group of academics is watching the Supreme Court case closely in the hope it will lead to a rethinking of the board's makeup and its distance from the SEC. In a critical paper published in Accounting Horizons earlier this year, three professors claim the board members lack practical public-company auditing experience, backgrounds in standard-setting, and variety of audit-related expertise. "The PCAOB approach essentially embodies, in our view, a limited form of the 'political representative' approach — 'limited' in that the board fails to adequately represent all interested parties," they wrote.
In particular, says co-author Mark Taylor, an accounting professor at Case Western Reserve University, the PCAOB hasn't kept pace with its standard-setting activities and has fallen behind converging its rules with other audit rule makers. A Supreme Court decision against the PCAOB could lead to the SEC having to appoint a new board, new directives on standard-setting, and a halt in inspections during any transition, Taylor theorized to CFO.
Sarbox limits the board members from having much practical experience. In response to the coziness between auditors and corporates revealed by the Enron/Arthur Andersen scandal, independence was the word of the day when Sarbox was passed in 2002. The law also put a stop to the self-regulation of public-company auditors. Only two of the PCAOB's five members can be a certified public accountant, and if one of the CPAs serves as chairman, he or she cannot have been practicing during the previous five years. "You have to go back and remember the context of when the law was passed, that one of the objectives of Sarbanes-Oxley was to take the supervision of the profession out of the profession," says Olson.
Olson stands by the board's format and says it should serve as a model for new agencies. "It is extremely difficult to bring in people under a government salary structure and to be able to attract people at the same level of sophistication as the people they are trying to inspect," he says.