PCAOB May Soon Require that Engagement Partners be Named in Audit Report

By Cydney Posner

You might recall that, among many changes designed to enhance audit accountability and transparency, the PCAOB had contemplated requiring the audit engagement partner to sign his or her name to the audit report. However, concerns were raised that a signature requirement would minimize the firm's accountability and role in conducting the audit. As a result, in 2011, the PCAOB proposed instead that registered accounting firms be required to disclose in the audit report the name of the engagement partner responsible for the most recent period's audit and the names of other accounting firms and other persons not employed by the auditor that took part in the audit (including the internal control audit). (See my article of 10/12/11.) This article in Compliance Week reports that the PCAOB is now planning to move forward on the proposal in September, although it is not known whether the PCAOB will issue a final standard or revise its current proposal.

Investors had originally advocated that engagement partners be required to sign the audit report – similar to the signing of certifications by CEOs and CFOs and common practice in the UK—to reinforce their "ownership" of audit reports. According to the article, given the demise of the signature requirement, investors are now "even more fervent in their call for the engagement partner's name." They point to the allegations of insider trading by one Big Four engagement partner, as well as "a recent academic study by a former member of the PCAOB's own Standing Advisory Group show[ing] that the signature requirement adopted in the United Kingdom has been followed by an improvement in some key indicators of audit quality. Those include a reduction in abnormal accruals, an easing on the part of preparers to try to meet earnings targets, and an increase in the issuance of qualified audit reports. The study also points out a significant increase in audit cost after the signature requirement took effect. The study doesn't establish a cause-and-effect link to the signature requirement, but [the study's] author…speculates that people act differently when they know they are going to be publicly identifiable." (An excerpt from the paper is copied below.)

Needless to say, most audit firms are opposed to the proposal, protesting "that even naming engagement partners would not improve audit quality or increase the auditor's sense of accountability for the audit opinion, but would still expose them to added liability because they would be deemed ‘experts' under SEC rules, therefore assumed to have certified the contents of the report. Their naming in the report would also complicate subsequent registration statements, firms said." The audit firms were concerned that the engagement partners named might be viewed to have individually prepared or certified part of the registration statement and could be required to separately consent, resulting in exposure to "significant increased liability for engagement partners…." One of the Big Four firms protested that naming the engagement partner could lead "the trial bar in litigation or … others [to] associate the name with other publicly available information." Other audit firms argued that the proposal would be ineffective and would not "stop certain rogue individuals from doing what they want to do"; the real "solution lies in more education about the appropriate conduct of audit engagements and the independence and ethics of accountants."

One of the Big Four took a different approach, supporting the proposal if the PCAOB "could engage the SEC to address the liability issue." While the firm doesn't "see how the proposal would improve audit quality or give investors useful information, but they support the objective to increase transparency. In fact, they suggest the board take the naming of key auditors a little further. ‘In addition to naming the engagement partner responsible for the audit, a member or members of firm leadership should also be named in the audit report….Examples could include the firm's audit/assurance leader and/or CEO/senior partner. Including the name and/or names of firm leadership will convey to the users of the financial statements that the accounting firm as a whole takes responsibility for the audit and alleviate any misimpressions that the audit report is the product of the engagement partner rather than the firm.'"

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Below is an excerpt from the academic paper, "Costs and Benefits of Requiring an Engagement Partner Signature: Recent Experience in the United Kingdom," included in the article. The excerpt describes possible outcomes of increased engagement partner accountability.

An increase in partner accountability may change partner behavior in ways that would affect audit quality. First, greater accountability may lead the partner, and the audit team that s(he) directs, to perform more work (i.e., extent of procedures performed). Prior research finds that greater accountability leads auditors to put forth greater effort (e.g., Asare, Trompeter, and Wright 2000; DeZoort et al. 2006). Also, Carcello and Santore (2011) develop an analytical model of the effects associated with a partner signature requirement and find that the auditor will gather more audit evidence.

Second, greater partner accountability may change the nature of audit procedures performed. The audit engagement team may gather not just more evidence, but more persuasive (better) evidence. For example, Asare et al. (2000) find that greater accountability led auditors to increase the breadth of the work they performed, and it was the change in the nature of audit procedures, not the extent of audit procedures, that led to better auditor performance.

Third, greater partner accountability may lead the partner and the engagement team to exercise greater diligence in performing their work (ICAEW 2005). For example, Messier and Quilliam (1992) find that greater accountability led to an increase in cognitive processing by auditors. Tan and Kao (1999) find that accountability only improved performance when both knowledge and problem-solving ability were high, and both traits characterize partners.

Finally, greater accountability may lead to more conservative auditor reporting. For example, Hoffman and Patton (1997) find that accountability led to more conservative fraud risk judgments. DeZoort et al. (2006) find that given greater accountability auditors were less likely to pass on proposed audit adjustments. Deciding whether or not to pass on a proposed audit adjustment is the type of key decision made by the engagement partner, and it has a direct effect on the amounts reported in the financial statements. The analytical model developed by Carcello and Santore (2011) also predicts that partners will report more conservatively in the presence of a signature requirement.

Source: Academic Paper.

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