Despite debates over its relevance, auditor tenures are beginning to appear in public company filings, giving investors added insight into how embedded firms are at their various public company clients.
Auditors are required to include a statement disclosing their tenure on each audit engagement in the audit report filed with financial statements beginning with 2017 year-end audits. The Public Company Accounting Oversight Board included it as one of a handful of changes to the standard audit report meant to make audit reports more informative to financial statement users.
In addition to tenures, this year’s audit reports will include new language explaining the auditor’s requirement to be independent of the company, a new phrase to explain that auditors are required to provide assurance about financial statement freedom from misstatements whether they might be due to error or fraud, and other enhancements to the format.
Wes Bricker, chief accountant at the Securities and Exchange Commission, said during a recent regional conference of the Institute of Management Accountants that audit committees should not regard the tenure disclosure as an indicator in itself of the quality of the firm’s audit work. “It’s a reference point in an overall consideration of audit committee oversight, selection, and retention of the audit relationship,” he said.
Academic research has not been clear on the extent to which long or short tenure on an audit is a good or bad thing for audit quality. In some circles, a long tenure suggests deep institutional knowledge of a company that makes the audit more effective and more efficient. In other circles, long tenure suggests ties so deep they harm the auditor’s independence, which compromises the auditor’s ability to be adequately skeptical. The PCAOB initially sought term limits on public company enagements that would produce a system of auditor rotation, but failed to gain any kind of support or consensus for such a restriction.
Bricker said it’s perfectly plausible for companies to get good audits from auditors who have both short and long tenures on engagements, and it’s also plausible to get bad audits under both tenure scenarios. The key is audit committee oversight, he said. “The audit committee is the safeguard of the ability of the auditor to bring forward tough issues and resolve them, ultimately, if need be, at the board level, particularly if there are disagreements between the auditor and management,” he said.
Beginning in 2019, audit reports will begin carrying the bigger change required by the PCAOB’s new auditing standard modifying the audit report. That’s the inclusion of “critical audit matters,” which auditors must disclose as a way of advising investors on where auditors encountered the most difficulty in arriving at their audit opinion.
Those in corporate roles as well as investors and even auditors should care about CAMs because they will give perspective into difficult audit issues, both at individual companies and across capital markets, said Bricker. “You will get insights into areas that are tough within your peer group, and areas that are tough across firms,” he said.
With another year before that portion of the new audit report goes live, the SEC is encouraging companies and auditors to have “dry run” conversations about what might be included in that disclosure, said Bricker. That will give the system a “test drive” before the CAM disclosures are included in audit reports, he said.