PCAOB: Revised AS2 to Debut by December

The accounting board plans to make the standard governing audits of internal controls "more clearly scalable to companies of any size," says Mark O...
David Katz and Helen ShawNovember 17, 2006

The Public Company Accounting Oversight Board will “shortly” propose a new standard to “replace” AS2, its current guide for independent auditor assessments of corporate internal-controls reports, PCAOB chairman Mark Olson said in a speech in New York on Friday.

The proposed revision, which could make it easier and cheaper for smaller companies to comply with Section 404 of the Sarbanes-Oxley Act, could be issued for public comment as early as the second week in December, suggested Olson.

The PCAOB is coordinating the release of the proposed revision — which would make the standard “more clearly scalable to companies of any size” — with that of Securities and Exchange Commission guidance for corporate executives on compliance with internal-controls rules, according to Olson. The SEC recently announced it would hold an open meeting on December 13 to consider recommendations regarding Sarbox 404, the overarching internal-controls provision.

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After his speech at the Financial Executives International conference on the future of financial reporting, Olson told reporters that the proposed standard could come out in December. Concerning possible disagreements between the PCAOB chief and SEC chairman Christopher Cox on the revisions, Olson said: “There’s almost no difference between me and Cox on goals.” Olson did not say what the remainder of the difference might be.

The staffs of the SEC and the PCAOB have been meeting to work on the draft of the AS2. In a joint statement issued Monday, they wrote: “Considerable progress has been made and the SEC and PCAOB continue to meet to coordinate efforts in order to assure that implementation of section 404 of Sarbanes-Oxley will continue to strengthen investor protections while reducing unnecessary or disproportionately high costs.”

SEC spokesman John Nester said the commission would have no comment on relations between it and the PCAOB on Sarbox 404 and AS2 beyond the joint statement and Cox’s remarks in a keynote address he gave at a conference by the International Organization of Securities in London on Thursday. “In the weeks ahead, the U.S. will unveil significant changes to the implementation of Section 404 of Sarbanes-Oxley that are designed to make it more useful for investors,” said Cox. “Those changes will be aimed at ensuring that the internal-control audit is top-down, risk-based, and focused on what truly matters to the integrity of a company’s financial statements. They will provide guidance for both companies and their auditors to permit common-sense reliance on past work, and on the work of others.”

In revising the standard, the PCAOB plans to make it “simpler to read, easier to understand, and more clearly scalable to companies of any size,” said Olson. Indeed, both auditors and corporative executives have complained that the Sarbox internal-controls provisions have been disproportionately costly and administratively burdensome for smaller companies. The accounting board also plans to change the standard to encourage auditors to shed unneeded procedures and make them more efficient, the audit regulator said.

Besides describing AS2’s problems, however, Olson cited newly available statistics that he said were suggestive of improvements in the quality of internal-controls audits. He said, for instance, that the overall rate of audit opinions on corporate internal-controls reports that describe material controls weaknesses dropped from 15.8 percent of all opinions filed for the first year of compliance with Sarbox 202 to an estimated 9.6 percent for the second year.

Still, the number of qualified controls opinions by auditors that refer to either restatements or material year-end adjustments remains high as a percentage of total qualified controls opinions, the chairman said. Nevertheless, “there has been a shift from those referencing restatements of previously issued financial statements to those referencing current-year errors,” he told the FEI. “This may imply that errors are being identified earlier than in the past.”

The source of corporations’ biggest controls problems is people, Olson suggested. Qualified controls opinions that included material weaknesses involving staff issues jumped from 48.1 percent of total qualified controls opinions in the first year of compliance to 52.8 percent in the second year. “The areas of staffing, training, or competence continue to be the most commonly reported weaknesses,” the PCAOB chairman said.