Panel Addresses Regulatory Reform: The New World Order
June 27, 2009
FEI Summary

On June 16, 2009 a panel at the Maryland Business Expo, sponsored by the Maryland Association of CPAs, addressed the topic of regulatory reform.  Moderator Francine McKenna, President of McKenna Partners and author of the Re: The Auditors blog, introduced the panel - observing it included "a regulator, a practitioner, and a journalist - a good balance"  - including Colleen Cunningham, Global Managing Director, Finance and Accounting, of Resources Global International (and former President and CEO, FEI); Joanne O'Rourke, Special Advisor to PCAOB Board Member Steven Harris; and Susan Webster, Managing Editor, BNA Accounting Policy and Practice Report.  FEI Baltimore Chapter was an association sponsor of the conference; FEI Baltimore Chapter President Don McConnell participated in the Expo's opening ceremonies, attended panel presentations and greeted conference attendees at the FEI booth in the Exhibit Hall. 

Regulatory Reform
McKenna kicked off the regulatory panel - which took place on the eve of the Obama administration releasing its plan for financial regulatory reform [contained in the U.S. Treasury Department's June 17 report, Financial Regulatory Reform, A New Foundation] - by asking BNA's Webster to highlight what was anticipated in the regulatory reform proposals.

Webster's remarks and related handout were right on the money, particularly on the Obama administration's recommendations regarding systemic risk regulation (empowering the Fed and creating a council of regulators), strengthening capital requirements and more stringent regulation, capital and/or reporting requirements pertaining to securitization transactions and derivatives, enhanced authority for dealing with the resolution of failing firms, formation of a financial consumer regulatory agency focused on such subjects as predatory lending and unfair credit card practices, and the fact that the administration would not propose to formally merge the SEC and CFTC at this time. She noted that Republicans in the House of Representatives had floated their own package of reforms as well.

Cunningham described the current course of regulatory reform as a 'missed opportunity,' adding, 'we are giving away regulatory reform for things like health care [reform]. It seems like we are adding on more regulations and more agencies," instead of closing regulatory gaps and making the system more efficient. She also noted that more stringent capital requirements on financial institutions could have a trickle-down effect by tightening lending, adding, "small companies already have difficulty getting credit - so that won't help them." 

O'Rourke said, "It seems to always be after the fact," comparing it to creating vaccine for the flu, in that, "in the meantime, people get sick," or in the case of regulatory reform, "investors have to lose a lot of money" before there is impetus for regulatory reform. "It would be nice to get to a spot to sit down and evaluate all the risks out there," she added. 

Paralysis, Anxiety
"When we talk to our clients," added Cunningham, "there is almost a paralysis, a lot of anxiety in determining how to plan strategy," given the uncertain regulatory environment.

For example, on the question of whether and when to move to International Financial Reporting Standards (IFRS), Cunningham noted that "most commenters" on the SEC's proposed IFRS Roadmap "support [having] one set of global standards - like motherhood and apple pie." However, she added, "The issue is convergence or some other way - another issue is lack of a date certain" for when any switch to IFRS may be required. Therefore, she said, "There is zero incentive to adopt IFRS earlier, because of the uncertainty," including the fact that one of the milestones on SEC's proposed IFRS Roadmap was to look at the filings and experience of early adopters.

She said a possible reaction may be, "[If] I'm going to be reviewed [as an early adopter of IFRS] and they [the SEC] may drop the requirement, it would be negligent to early adopt."

Cunningham also noted, "It seems like the G-20 meetings are gating decisions these days," with respect to movement on IFRS in the U.S., adding, "My sense is at the next G-20 meeting in October - since one  commitment in the G-20 Declarations is to move to a global set of accounting standards - I can't see Obama not having anything [to report in October]," and that she believes at a minimum the U.S. may at least have agreed on a timeline to consider adoption of IFRS (i.e., potentially in the form of a final IFRS roadmap, after the SEC considers comments received on the proposed IFRS roadmap).

Another topic Cunningham highlighted was the SEC's new requirement for companies to report financial information using interactive data tags or XBRL, beginning this year for the largest companies reporting to the SEC in U.S. GAAP, and phased in over two additional years for smaller companies and companies filing with the SEC in IFRS.

"Right now, a lot of companies are relying on financial printers," to prepare their XBRL filings, she said, adding, "the problem is one of ownership." A major issue, she added, is "whether it [the XBRL-tagged data] should be audited or not."

Global Audit Networks and Litigation Risk
PCAOB's O'Rourke provided some general background on the PCAOB, including that 2006 firms have been registered to date, and that 45% - over 900 firms, are located in 86 different countries. Contrary to popular perception, she noted, Big 4 firms encompass not only one registered firm, but many individual registered firms, noting that, for example, Ernst and Young has 53 individual firms registered in different countries, so the PCAOB has to inspect 53 different firms. She added the PCAOB has looked at audits at 5,000 different issuers, and noted the PCAOB issued a '4010 report' in December, 2009 relating to its international work. Among challenges the PCAOB inspectors face, she noted, includes "The European Union just announced their member countries won't let them come in and inspect."

On the subject of global networks (global audit firm networks), O'Rourke said, "We have to ask what is the purpose of global networks," whether "they do it to avoid litigation or regulatory oversight." She added there are "other dangers," including the concern of some as to whether the Big 4 audit firms are 'too big to fail."

A specific concern she noted is "It is highly likely foreign firms don't understand the [U.S.] independence rules including the SEC's four principles of independence," and besides the four general principles, " not to mention the elaborate and complex independence rules of the SEC and PCAOB."

She noted that the U.S. Treasury Department's Advisory Committee on the Auditing Profession, which was formed and completed its work during former Treasury Secretary Paulson's tenure, made numerous recommendations, two of which in particular stand out with regard to global audit networks, that (1) audit firms should file financial statements with the PCAOB, and that (2) the PCAOB should monitor sources of catastrophic risk for the firms.

McKenna noted that in her remarks on an earlier panel about careers, one topic of interest was the potential impact of litigation against the audit firms. She listed a number of major cases, involving  Deloitte and Parmalat, BDO International  and E.S. Bankest, KPMG and New Century, and PwC and Satyam, noting that in addition to litigation over audits, there was additional litigation in cases surrounding audit firms' roles in promoting tax shelters, and a case involving alleged insider trading by a Big 4 firm partner.

She said "All firms, Big 4, next tier, and smaller registered firms, are seriously preoccupied with litigation and whether or not they'll have exposure with regard to their international networks." She added that the lack of public disclosure of the firms' financial position meant "we do not know if they have the ability to pay" (i.e. litigation fines and settlements), "and yet they all want liability protection."

BNA's Webster posted a related question to PCAOB's O'Rourke: "Do you see anything happening regarding financial statements of [audit] firms?"

O'Rourke replied, "There are five [PCAOB] board members with diverse opinions; some of them believe there is no reason why we shouldn't [have financial statements from the audit firms], but there is a lot of resistance." She noted the Treasury advisory committee "debated whether [audit firm financial statements] should be publicly available or confidential to the PCAOB - they landed on confidential to the PCAOB."

Accounting standards, Auditing Standards, Sarbanes-Oxley and the COSO Framework
McKenna asked O'Rourke if she could discuss "the difference between a standard-setter and one who enforces standards."

O'Rourke replied, "We have to wait and see [following] any change in GAAP," such as the FASB's recent guidance relating to FAS 157, Fair Value Measurement, and that the PCAOB "respond[s] to these changes; we could respond with new audit pronouncements," noting the PCAOB issued a Practice Alert on fair value in December 2008.

Cunningham noted,  "FASB sets standards, with which you prepare financial statements; PCAOB inspects [the auditors]," adding there is a 'trickle down' effect, in which companies are second guessed by their auditors, then by the SEC, PCAOB, shareholders and the plaintiff's bar.

 During the Q&A, an audience member asked," Is there a single guideline that says it is to prevent or minimize companies, businesses, accounting firms, rating agencies, from taking on liability they can't afford to write the check for?"

O'Rourke responded, "I would contend COSO's Internal Control Framework addresses prudent risk," in that considerations should be made in terms of "compliance, financial reporting, and operations." She noted, "COSO's Internal Control-Integrated Framework [says] - the first thing you do is address risk." She added, "To me, the controls weren't there," noting, "That's why the SEC and PCAOB have [Sarbanes-Oxley] Section 404, which has been much maligned, but you have to have those controls if you want financial statements to be accurate."

Additional details from the Maryland Business Expo can be found at www.mdbizexpo.com.

Prepared June 28, 2009 by Edith Orenstein, director, Accounting Policy Analysis, Financial Executives International (FEI). This summary does not reflect FEI opinion unless specifically noted above.