Auditor Independence and Audit Evidence Added to PCAOB Agenda

On Tuesday, September 8th, the Public Company Accounting Oversight Board (PCAOB) updated its research and standard-setting agenda, reiterating its ongoing efforts to increase transparency and provide more timely and relevant information to stakeholders. The Board, aiming to modernize its approach in managing their agendas, is planning to only include specific projects where a public milestone (e.g., a proposal, a staff publication, or a concept release) is anticipated in the next 12 to 18 months.

With that said, the PCAOB made the following changes to its agenda:

Auditor Independence

According to the update, the Board added auditor independence to the standard-setting agenda to make targeted amendments to existing PCAOB independence rules to conform to changes the SEC is considering to its independence rules.

In June 2019, the SEC adopted amendments – which took effect on October 3, 2019 – to its auditor independence rules relating to the analysis that must be conducted to determine whether an auditor is independent when the auditor has a lending relationship with certain shareholders of an audit client.

Prior to the amendments, Rule 2-01(c)(1)(ii)(A), more commonly referred to as the “Loan Provision”, prohibited a firm from auditing a fund while also borrowing money from a lender that owns a stake of 10% or more in the same fund.

The amendment replaced the previous 10% threshold with a different form of appraisal referred to as a “significant influence test” after the rule seemed to capture relationships that did not pose threats to an auditor’s objectivity and impartiality. In addition, other changes to the Loan Provision include:

  • a focus on the analysis on beneficial ownership rather than on both record and beneficial ownership;
  • add a known through reasonable inquiry standard with respect to identifying beneficial owners of the audit client’s equity securities; and
  • exclude from the definition of audit client, for a fund under audit, any other funds that otherwise would be considered affiliates of the audit client under the rules for certain lending relationships.

Not long after, on December 30, the SEC issued a press release proposing to modernize its auditor independence rules. The proposed changes would update certain aspects of the nearly 20-year-old auditor independence framework, aiming to “more effectively structure the independence rules and analysis so that relationships and services that would not pose threats to an auditor’s objectivity and impartiality do not trigger non-substantive rule breaches or potentially time consuming audit committee review of non-substantive matters.”

However, the PCAOB has their own independence standards and definitions, specifically PCAOB Rule 3501. Without amendments, the proposed changes to the SEC’s independence rules could cause confusion if certain terms are used in both the SEC’s and PCAOB’s rules but defined differently. In fact, commenters on the SEC’s proposed amendments urged the Commission and the Board to collaborate to keep the independence rules aligned.

Audit Evidence

Audit evidence, added to the PCAOB’s research agenda, will consider whether standard-setting or staff guidance is needed given the increasing prevalence of technology-based tools, as well as the use of information from external sources, both in the financial reporting process and as audit evidence.

AS 1105 defines what constitutes as audit evidence and establishes requirements regarding the design and performance of audit procedures to obtain sufficient appropriate audit evidence. According to the PCAOB, “advancements in technology and expanded use of data from external sources are affecting the nature, timing, preparation, and use of financial information and, in turn, the nature and extent of information available to auditors.”

More specifically, the Board explains that the increasing use of technology could affect how auditors assess the accuracy, completeness, relevance, and reliability of audit evidence, potentially leading to variation in practice with respect to how auditors evaluate that information.

Although the Staff is still obtaining and analyzing information, considerations include:

  • observations from the Board’s oversight activities;
  • changes to audit firms’ methodologies;
  • academic research;
  • outreach with stakeholders; and
  • the requirements of other standard setters and regulators.

Removed Projects

As for the removed projects, the PCAOB notes that there is not a current need to change its standards or take other action on these topics.

The Board also notes:

“The projects on Quality Control, Other Auditors and Data and Technology remain on our agendas as priorities of the Board. Although we have removed certain topics from our research and standard-setting agendas, we continue to monitor relevant developments on these and many other topics, particularly in light of the COVID-19 pandemic. Our monitoring activities—along with prior research, new challenges, or other issues that may arise—could result in new projects being added to our agendas in the future.”

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