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SEC Approves PCAOB Standard on Remediation of Material Weakness 

The SEC has approved the Public Company Accounting Oversight Board's Auditing Standard No. 4 which establishes requirements for auditors that are engaged to report on whether a previously reported material weakness in internal control over financial reporting continues to exist. The SEC received only six comment letters in response to its notice of the proposed standard, four from the Big Four accounting firms and two from professional associations. The SEC provided guidance in response to three commenters' questions on the acceptable forms to use in filing the management and auditor's reports.

The PCAOB's standard is applicable to voluntary engagements, undertaken at the election of management, solely to report on whether a previously reported material weakness continues to exist. A previously reported material weakness is one that was previously described in an auditor's report that was issued pursuant to PCAOB Auditing Standard No. 2. These engagements may be performed at any time, as requested by management, and may report on the remediation of one or more material weaknesses as part of a single engagement. The engagement does not have to be performed in conjunction with an audit or a review of the company's financial statements.

Management must provide the auditor with a written report which states that the identified material weakness no longer exists as of a specified date. If the auditor determines that the material weakness continues to exist, the company may re-engage the auditor to provide an opinion on whether the material weakness continues to exist. The PCAOB's rule proposal included illustrative auditor's reports and guidance regarding the basis for the auditors' conclusions.

The SEC advised that, since its rules do not address the filing of voluntary information such as that contemplated by the PCAOB standard, an issuer may use any Exchange Act form that it believes is appropriate if it wishes to publicly disseminate the management and auditor's reports. The SEC's rules do not specify the form of disclosure that management should use when describing the circumstances surrounding the remediation of a previously reported material weakness, so the general disclosure principle and requirements would apply.

The SEC emphasized that the disclosure should not amend management's conclusion on the effectiveness of internal control over financial reporting as of the end of the fiscal year. Management can only conclude that the internal control over financial reporting is effective if, as of the time of the remediation of a material weakness, an assessment of effectiveness under the rules implementing Sarbanes-Oxley Act Section 404 is also performed.

If the remediation is completed between the end of the fiscal year and the filing of the Form 10-K, the SEC advised that management may include a single, combined report on the results of the annual assessment of internal control over financial reporting and the subsequent conclusion related to the remediation of a material weakness that was identified in the annual assessment.

The SEC believes that the PCAOB's rules provide a reasonable format for assessing whether a material weakness that has been or is being reported to investors continues to exist. However, in order to facilitate the implementation of the standard, the SEC said that it expects the PCAOB to issue, within 90 days, a clear and concise outline of the affirmative audit steps that are set forth in the standard. The PCAOB's standard was effective upon the SEC's approval.