What is happening at the PCAOB?

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Common Inspection Findings - Zicklin School of Business

What is happening at the

PCAOB?

Baruch College – November 29, 2012

Jennifer A. Rand

Deputy Chief Auditor/ Deputy Division

Director, Office of the Chief Auditor

1


Caveat

The views I express are my individual views and do not

necessarily reflect the views of the Board as a whole,

Board Members, or other staff of the PCAOB.

2


Discussion Outline

• Common Inspection Findings

• Audit Risk in the Current Economic

Environment

• New PCAOB standard – AS No. 16,

Communications with Audit Committees

• Near-term PCAOB Standard-Setting

Activities

3


Common Inspection

Findings

4


Common Inspection Findings

• Internal Control Over Financial Reporting

• Revenue Recognition

• Substantive Analytics

• Management Estimates

• Fair Value Measurements & Disclosures

• Allowances for Loan Losses

• Consideration of Fraud

5


Audit Risk in the

Current Economic

Environment

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Audit Risk in the

Current Economic Environment

• Financial reporting and auditing environments are still

challenging

‣ Additional risks affecting fair values and estimates

‣ Risks related to omitted, incomplete, or inaccurate

disclosures (e.g. loss contingencies, risks and

uncertainties)

‣ Changes in controls or processes due to changes in

business (e.g. lay-off of key personnel)

7


Audit Risk in the

Current Economic Environment

• Considerations for 2012 audits

‣ Current market may require a reassessment of audit

strategy, materiality, risk assessments, and

significant locations

‣ Consider sufficiency of substantive procedures (e.g.

roll-forward of interim testing, substantive test)

‣ Importance of PCAOB risk assessment standards

PCAOB Staff Audit Practice Alerts are still relevant

(e.g. Alerts 8 and 9)

‣ Maintain and apply professional skepticism

throughout the audit

8


New PCAOB Standard –

Auditing Standard No. 16,

Communications with

Audit Committees

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AS No. 16, Communications with

Audit Committees

PCAOB adopted AS 16 on August 15, 2012

‣ Effective for audits of fiscal years beginning on or

after December 15, 2012 (subject to SEC approval

of standard)

‣ Incorporates requirements from

o Existing PCAOB standards and

o SEC communication requirements, and

‣ Adds new communication requirements linked to

auditor performance requirements or conduct of the

audit

• Requires timely communication, prior to issuance of

the auditor’s report

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* http://pcaobus.org/Rules/Rulemaking/Pages/Docket030.aspx

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AS No. 16, Communications with

Audit Committees

• AS 16 expands auditor communication requirements

‣ Overview of the overall audit strategy and

identified risks

‣ Information about others involved in the audit,

including internal auditors or other independent

public accounting firms

‣ Information regarding the company’s accounting

policies, practices, estimates, and significant

unusual transactions

‣ Difficult or contentious matters for which the

auditor consulted outside the engagement team

‣ The auditor’s evaluation of the company’s ability

to continue as a going concern

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Near-term PCAOB

Standard-Setting

Activities

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Near-term PCAOB

Standard-Setting Activities

• Related Parties (adoption or re-proposal)

• Reorganization of PCAOB Auditing Standards (proposal)

• Auditor’s Reporting Model (proposal)

• Auditor’s Responsibilities with Respect to Other

Accounting Firms, Individual Accountants, and

Specialists (proposal)

• Audit Transparency: Identification of the Engagement

Partner (adoption or re-proposal)

• Audits of Brokers and Dealers (adoption or re-proposal)

• Going Concern (proposal)

* For further information about the PCAOB standard-setting agenda, see

http://pcaobus.org/Standards/Pages/default.aspx

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13


APPENDIX –

Additional Information

about Common

Inspection Findings

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Common Inspection Findings

• Internal Control Over Financial Reporting

• Revenue Recognition

• Substantive Analytics

• Management Estimates

• Fair Value Measurements & Disclosures

• Allowances for Loan Losses

• Consideration of Fraud

15


Internal Control Over Financial

Reporting

• Commonly identified deficiencies include failures to:

‣ Identify and sufficiently test controls that address the

risks of material misstatement

‣ Sufficiently test the design and operating effectiveness

of controls that are used to monitor the results of

operations (“management review controls”)

‣ Sufficiently test controls during a roll-forward period

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Internal Control Over Financial

Reporting

• Commonly identified deficiencies include failures to:

‣ Sufficiently test controls that depend on systemgenerated

data and reports

‣ Sufficiently perform procedures regarding the use of the

work of others

‣ Sufficiently evaluate identified control deficiencies and

consider their effect on both the financial statement

audit and on the audit of internal control

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Revenue Recognition

• Commonly identified deficiencies include failures to:

‣ Design appropriate analytical procedures

‣ Sufficiently review revenue contracts for terms and

conditions that might affect revenue recognition

‣ Obtain sufficient corroboration of information obtained

from management representations and client-prepared

analyses

‣ Select sample items for testing that are representative of

the population of revenue transactions

‣ Sufficiently test complex revenue-generating transactions

or processes

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Substantive Analytics

• Commonly identified deficiencies include failures to:

‣ Develop appropriate expectations for analytical procedures that

were intended to be substantive tests. For example, firms failed to:

o

o

o

Establish that a plausible relationship existed between the expectation and

the recorded amount being tested

Test the completeness and accuracy of certain data or information used in

developing the expectations

Develop expectations at an appropriate level of precision to obtain the

necessary level of assurance

‣ Investigate significant differences from expectations. For example,

firms failed to:

o

o

Investigate differences between expectations and the recorded amounts

that were in excess of established thresholds

To obtain corroboration of management’s explanations for significant

differences from expectations

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Management Estimates

• Commonly identified deficiencies include failures to:

‣ Perform sufficient procedures to evaluate the impairment of

assets, including goodwill and other intangible assets

‣ Perform sufficient procedures to evaluate management’s

reserve estimates, including allowances for doubtful accounts

and inventory reserves

‣ Perform sufficient procedures to evaluate the valuation of

deferred tax assets and tax contingency reserves

‣ Obtain corroboration of management representations about

key assumptions

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Fair Value Measurements

• Commonly identified deficiencies include failures to:

‣ Evaluate the reasonableness of issuers’ significant assumptions,

including:

o Appropriateness of valuation methods and/or related controls

o Available contradictory evidence

‣ Develop an independent expectation for corroborative purposes,

including:

o Understanding the methods and assumptions used by third parties

o Evaluating significant differences between independent estimates

used/developed by firms and the fair values recorded by issuers

‣ Test, or test sufficiently, significant, difficult to value securities

‣ Perform sufficient tests to determine level of financial

instruments disclosed in financial statements (FASB ASC 820)

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Allowances for Loan Losses

(“ALL”)

• Commonly identified deficiencies include failures to:

‣ Perform sufficient procedures to test the underlying data

and evaluate the reasonableness of assumptions

‣ Test the issuer’s processes for identifying impaired loans or

collateral values

‣ Perform sufficient procedures to evaluate whether issuerprepared

ALL analyses appropriately incorporate relevant

environmental factors

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Consideration of Fraud

• Commonly identified deficiencies include failures to:

‣ Perform sufficient testing of journal entries and other

adjustments for evidence of possible material misstatement due

to fraud, including, for example, the failure to:

o Sufficiently test the completeness of the population of manual journal entries

that was used for selecting the sample of journal entries subject to testing

o Examine supporting documentation for certain journal entries selected for

testing

o Test automated journal entries in situations where either relevant ITGCs had

not been tested or the firm had concluded that ITGCs were not effective and

could not be relied upon

‣ Perform sufficient procedures that are responsive to identified

fraud risk , including, for example:

o Failure to sufficiently test cut-off over revenue recognition and management

override of certain controls

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