In an interview with Compliance Week, Julie Bell Lindsay, executive director of the Center for Audit Quality, shared her perspectives on how public company auditors are coping with new challenges from the coronavirus pandemic.
“It’s unquestionable that the current environment has presented the profession with challenges and uncertainties they would not have thought of six months ago,” Lindsay said. “Surely it is making their job more difficult, but auditors have quickly adapted without ever losing their focus on audit quality.”
“The [Securities and Exchange Commission’s] Chairman [Jay] Clayton recognized early on that continued well-functioning capital markets are an essential component of the U.S. response to and recovery from the current pandemic, and public company auditors are a key gatekeeper in the markets,” Lindsay said. “The SEC has been very active in sharing guidance and expectations, and I have been incredibly impressed with the way the profession has focused on continually ensuring the appropriate actions are taken for the stability and protection of the capital markets.”
Although many calendar year-end 2019 audits were completed before the coronavirus hit, first-quarter earnings releases and quarterly reports will include COVID-19 impacts on businesses and their employees for the first time. Also, March 31 and June 30 year-end audits are still in progress.
COVID-19 presents significant fraud risks. The three sides of the fraud triangle—pressure, opportunity, and rationalization—will be heightened during this economic downturn and health crisis. Companies are under new pressures to meet business goals and earnings expectations. Layoffs and downsizings are putting employees under financial pressures and may create psychological rationalizations to commit fraud, either to help themselves or the company. Working remotely can create new opportunities to commit fraud as internal controls and processes are not functioning normally, and it may be the first time that client personnel and their audit committees are working remotely.
Key audit committee considerations
In executing their oversight responsibilities, both of the year-end annual Form 10-K and related audit, if not yet complete, or the interim quarterly report on Form 10-Q, audit committees may want to consider the following:
1. Has the COVID-19 crisis impacted the financial reporting process and controls? Have employees or auditors been working remotely? Has the audit or interim review by auditors been affected?
2. Have business conditions affected the company’s financial position and results of operations? How has management considered the impact of COVID-19 on the valuation of accounts, including asset impairment, allowances, restructuring charges, or other expenses? How have significant estimates and assumptions changed? How has management communicated such changes and executed related controls?
3. Is COVID-19 expected to materially affect the demand for the company’s products or services? How has management considered the impact of COVID-19 on contracts including revenue and leases? How has management communicated the impact of COVID-19 on long -term projections and assertions?
4. Is COVID-19 impacting the company’s liquidity and capital resources? How has management communicated the impact of COVID-19 on financing arrangements, including debt covenants? Have related accounting and disclosure requirements been considered?
5. Have there been changes to the company’s use of non-GAAP financial measures? If yes, what is the rationale for such changes and are disclosures compliant with SEC regulations?
6. Have material corporate events occurred triggering a requirement to issue a Form 8-K?
7. Has the company considered whether to apply for assistance under the CARES Act (or other government relief programs)? If yes, what conditions of that relief might have disclosure and financial reporting consequences?
Lindsay shared steps public companies and auditors should take to reduce fraud risks. “Companies are scrambling right now, and auditors should not lose sight of this,” she said. “Tone at the top must be reinforced through management and boards and audit committees that no matter what happens there will not be a sacrifice of ethics or controls or culture, so that employees can take their lead.” Lindsay has seen this done effectively at audit firms, where leaders are communicating audit quality is not to be sacrificed despite the current situation.
She also encourages auditors and their clients to review and revise their risk assessments and consider how COVID-19 will affect all financial statement areas, including the company’s disclosures. Auditors must continue to adapt to challenges of travel restrictions, working remotely, and completing audits virtually without sacrificing audit quality. “Audit plans cannot be static,” Lindsay said. “Auditors are by their nature creative and skeptical, and in this environment they need to continue to be creative but never lose sight of the skepticism.”
Lindsay has been impressed with how audit firms have become an essential repository of coronavirus information and the extent of communications from auditors to their clients’ management, audit committees, and regulators. “Audit firms have been engaged in activities 24/7 to provide resources to their engagement teams and clients on how to adapt to COVID-19,” Lindsay said. “Even in normal times, auditors are the nexus of communications, but the continuous information flow among stakeholders in the financial reporting supply chain has been impressive and beneficial for all.”
Lindsay also commended audit firms for putting their employees first without sacrificing audit quality, including flexible work arrangements, avoiding layoffs, and partners taking pay cuts. Firms have also contributed significant amounts of money and time to help individuals and businesses during the pandemic, including donating millions of dollars to healthcare professionals, creating information and resources, and volunteering in their communities.
The CAQ published a COVID-19 Resource in April for auditors and audit committees as they complete quarterly reviews and plan for 2020 audits. It includes key audit, accounting, and disclosure implications of COVID-19, along with fraud risks. It also includes other resources from the SEC, Public Company Accounting Oversight Board, and Big Four firms on important considerations for accounting and financial reporting resulting from the pandemic.
In addition, the CAQ’s resource page includes a growing number of resources developed by audit firms, standard setters, and regulators to help auditors, management, and audit committees understand the impact of the COVID-19 pandemic on financial reporting and oversight.