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Audit Committee Workshop Panelists Discuss Recent Developments

Panelists at the Practising Law Institute's recent audit committee workshop agreed that no one anticipated the back-dating of stock options to be an emerging issue of concern. John Olson, a partner at Gibson, Dunn & Crutcher LLP who co-chaired the program, asked whether audit committees should have recognized the potential for abuse and what they should do now. He believes that every public company should sit down with its outside auditors to discuss what to do. He said that companies should be proactive in identifying and resolving any back-dating problems.

Kayla Gillan, a member of the Public Company Accounting Oversight Board, reviewed the status of the board's projects, the largest impact of which may be the auditor's role in attesting to management's assessment of a company's internal control over financial reporting. She also acknowledged criticisms that the PCAOB's inspection reports are released to the public "woefully late." The staff is working on the timeliness issue for firms other than the largest ones, she said, but remains embarrassingly slow with respect to those large firms.

Ms. Gillan was asked whether someone acting on behalf of an audit committee can have access to their audit firm's inspection report. She advised that only the PCAOB is prohibited from providing the confidential portion to third parties. She believes that some firms have adopted policy decisions not to provide the inspection reports, but recommends that audit committees push to get them. She said audit committees should at least have access to the narrative portions of the inspection reports and then probe deeper if details warrant. If auditing problems or accounting failures are identified, Ms. Gillan said to ask for the audit firm's 12-month remediation plan. If the problems are not resolved within that time frame, the PCAOB may then disclose the information to the public.

Former Deloitte & Touche LLP chairman and CEO J. Michael Cook said if the PCAOB thinks that audit committees ought to have the information, it should instruct them to do so. Mr. Cook serves on audit committees and said he asks for the information. He advises the auditing firm that if it provides the information to any client anywhere, it must also be provided to his committee. Mr. Cook added that most firms will agree in the engagement letter to advise the audit committee if an audit of the company is selected for review.

Ms. Gillan said she did not know how much more the PCAOB can do to encourage firms to provide the inspection reports, short of drafting a standard to require it. The confidentiality provision is one area in which she would like to see the Sarbanes-Oxley Act amended.

Ms. Gillan advised that the PCAOB is currently seeking nominations for new members to its standing advisory group. The group needs good audit committee members, she said, whose views the board is not regularly hearing.

Carol Stacey, the chief accountant in the SEC's Division of Corporation Finance, reviewed a number of initiatives underway, including the concept release on management's assessment of internal control over financial reporting. She said she tries to update the division's report on current accounting and disclosure issues about every six months and should provide another update soon.

The staff continues to receive comment letters on the executive compensation proposal, she advised, even though the comment period closed some time ago. For instance, she said the AFL-CIO recently submitted a comment letter regarding stock options since it has become a very big issue. The division has four rule proposals out right now, which Ms. Stacey predicted will be completed this summer. Executive compensation will probably be the first of the four, she said.

Kenneth Daly, the executive director of KPMG's Audit Committee Institute and also a co-chair of the PLI workshop, endorsed views previously expressed by Mr. Cook that it is time for audit committees to refocus their agendas on major financial reporting risks, the processes used by management in accounting judgments and risk management. He asked whether there is sufficient coordination among committees such as the audit and compensation committees.

Holly Gregory, with Weil, Gotshal & Manges LLP said that more coordination is needed, as evidenced by the options timing issue. Mary Bush, president of Bush International LLC, agreed that better coordination is extremely important, including communications with the pension, investment and finance committees. Ms. Bush said that some companies say they are still spending so much time on Section 404 that they neglect audit work. That is a very risky approach, she said.

Mr. Cook said that while companies were spending 75 to 80 percent of their time on Section 404 in 2004 and 2005, they should now be spending the inverse proportion. After five years of playing defense, Mr. Cook said it is time to "play offense" by emphasizing the quality of financial statements, taking some of the complexity of out accounting, converging financial reporting standards and focusing on risk management.