Audit regulator wants lead auditor to provide better oversight on farmed out audit work

The Public Company Accounting Oversight Board has proposed changes to audit standards that would require lead auditors to provide better oversight and take more responsibility for audit work that they farm out to other audit firms. It also wants to impose a more uniform approach to the lead auditor's supervision of other auditors and has proposed a new auditing standard for situations in which the lead auditor divides responsibility for the audit with another firm.

When auditing a multinational company, lead auditors often seeks the help of other firms or individual accountants to complete the audit. According to the PCAOB, other auditors are used in about 55 percent of audits performed by large U.S. audit firms.

Additionally, about 80 percent of Fortune 500 audits performed by U.S. global firms involved other auditors, according to a PCAOB analysis of data from Audit Analytics and Standard & Poor's.

In audits involving other auditors selected by the PCAOB for inspection, other auditors audited an average of between one-third and one-half of the total assets and total revenues of the audited company, the regulator found. "Without adequate supervision by a lead auditor, deficiencies in the work of other auditors can result in deficient audits," the PCAOB wrote in its proposal.

"While many auditors properly supervise the use of other auditors, PCAOB inspectors have found that other firms need to strengthen their practices. Inspectors have identified audit deficiencies in the work of other auditors that the lead auditors did not identify or address," the regulator said.

The Board's proposal would make the following changes to existing PCAOB auditing standards:

  • Amend Audit Standard 1201 (AS 1201), Supervision of the Audit Engagement to provide additional direction to a lead auditor on how to apply AS 1201's principles-based supervision provisions to supervision of other auditors. The proposed amendments would prescribe certain procedures to be performed by the lead auditor in supervising other auditors' work.

  • Amend AS 2101, Audit Planning to incorporate and update requirements from AS 1205 to specify that they be performed by a lead auditor in an audit that involves other auditors. For example, the proposal would incorporate and revise requirements for determining a firm's eligibility to serve as lead auditor in an audit that involves other auditors.

  • Amend AS 1215, Audit Documentation to require that a lead auditor properly document which specific work papers of other auditors the lead auditor has reviewed, but not retained.

  • Amend AS 1220, Engagement Quality Review to require explicitly that the engagement quality reviewer evaluate the engagement partner's determination of a firm's eligibility to serve as lead auditor.

The Board is also proposing a new standard – AS 1206, Dividing Responsibility for the Audit with Another Accounting Firm.

The proposed new standard would retain, with modifications, many of the requirements of current standard AS 1205, Part of the Audit Performed by Other Independent Auditors, including the requirement that a lead auditor disclose in its audit report which portion of the financial statements was audited by each other auditor.

Proposed AS 1206 includes new requirements that a lead auditor:

  • Obtain a representation from each other auditor that the other auditor is duly licensed to practice under the applicable laws of the relevant country or jurisdiction.

  • Determine whether each other auditor that would play a substantial role in the preparation or furnishing of the lead auditor's report is, or is required to be, registered with the PCAOB.

  • Disclose the name of the other auditor in the lead auditor's report.

"Investors depend on the lead auditor to provide assurance that there are no material misstatements in audited financial statements or material weaknesses in internal control, no matter where those misstatements or weaknesses may reside," said PCAOB Chairman James R. Doty. "Today's proposal is intended to improve the consistency in the quality of engagement partner oversight of other firms engaged to assist in the audit."

The PCAOB has set a deadline for public comment on its proposal of July 29, 2016.