US audit firms ordered to bring in outsiders to oversee quality

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The largest US accounting firms will have to appoint independent outsiders to help oversee audit quality, under new rules approved by the Securities and Exchange Commission on Monday over the objections of the industry.

The SEC brushed aside a last-minute effort by firms including EY and PwC to halt the new governance rules, which are part of a broad overhaul of quality control standards written by the audit regulator, the Public Company Accounting Oversight Board.

Under the new PCAOB standards, firms that audit more than 100 public companies will have to set up an oversight board that includes at least one independent outsider. Around a dozen firms, including the Big Four, will be affected.

“Without high-quality audits, investors won’t receive complete and truthful financial disclosures,” said Gary Gensler, SEC chair, and “without strong quality control systems, auditors can’t consistently conduct high-quality audits.”

The PCAOB, under Biden administration-appointed chair Erica Williams, has been taking a tougher line against shoddy audit work, after its inspectors found a spike in the number of deficient audits after the Covid pandemic.

The agency has also been pursuing an ambitious agenda to modernise audit standards that, in some cases, were written by the industry itself decades ago, before the PCAOB was created in the wake of the Enron scandal.

The SEC must approve new PCAOB standards, and the agency did so on Monday by a three to two vote, despite a warning from the US Chamber of Commerce that it would consider suing to halt the new governance arrangements.

While all of the Big Four accounting firms boast “advisory” bodies that help monitor quality, PwC argued it was unnecessary to give them a formal oversight role with the specific requirements set out by the PCAOB.

Other firms, including some smaller auditors, objected to a lack of detail on how the new oversight should work and how the PCAOB would enforce compliance.

“The PCAOB is pursuing a very expansive agenda without articulating what problems they’re trying to solve,” said Tom Quaadman, executive vice-president of the US Chamber, adding it would evaluate whether the PCAOB and SEC followed the proper legal process for setting the new standard.

The agency argued that external input to oversee a firm’s quality control processes would be an important check on management.

“When a firm’s QC system operates effectively, quality audits follow,” said Williams after SEC approval. “And when QC systems operate ineffectively, investors are put at risk.”