(The news featured below is a selection from the news covered in the Federal Securities Report Letter, which is distributed to subscribers of the Federal Securities Law Reports.)

PCAOB Chair Tells Congress of Scope of Inspections, Standard-Setting

Inspections by the Public Company Accounting Oversight Board will go beyond what had been traditionally examined in peer reviews, Chairman William J. McDonough told the House Financial Services Committee. Board inspectors will, for example, evaluate the "tone at the top" of registered accounting firms in an effort to determine the messages that are coming from the highest levels of the firms and their frequency. Inspectors will also examine partner compensation and promotion, said the chairman, looking into what behaviors are rewarded and reinforced through compensation and promotions. Moreover, the inspections will consider the firms' overall communication and training practices.

Generally, under the Sarbanes-Oxley Act, information obtained in inspections is confidential, explained the chairman. Portions of a final inspection report that deal with criticisms of or potential defects in a firm's quality control system cannot be made public if the firm addresses the items to the board's satisfaction within 12 months of the report. Final inspection reports will be provided to the SEC and appropriate state regulatory authorities, however, and the board may refer information learned from inspections to relevant authorities and commence an investigation or disciplinary proceeding if the facts and circumstances warrant.

The Sarbanes-Oxley Act directs the board to establish standards related to the work done by auditors of public companies. The board has decided to establish professional standards by creating a standard-setting division of the board, rather than by delegating the standard-setting function to another body, such as the AICPA's auditing standards board.

The PCAOB will systematically review all of the interim professional standards and determine whether each of the interim standards should be modified, repealed, or made permanent. According to the chairman, the board plans a general process for setting the permanent auditing and other professional standards. The process includes the appointment of an advisory group, including members of the accounting profession, issuers, investors, regulators and others. The board has adopted a rule concerning the composition of the advisory group and expects to begin the process of forming the group shortly after the SEC approves the rule, testified Mr. McDonough. The standing advisory group will be comprised of approximately 25 members with a variety of backgrounds.

The board envisions the advisory group acting at a high level to provide advice and recommendations on policy matters, significant issues related to specific standards setting projects, and the board's agenda and priorities. The advisory group will not be a standards-setting committee in the traditional sense, explained the chairman. Most of the drafting and debating of proposed standards will be done by the board's staff.

Finally, he noted that the board plans to employ other means to obtain the expertise and advice of the profession and the public, including such things as ad hoc task forces based on the need for specific expertise. The board will also convene roundtables to obtain input and advice as the need arises.