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Investor Protection and Public Trust

The PCAOB's Role in Transparency

Mary-Jo Kranacher, MBA, CPA/CFF, CFE

The Public Company Accounting Oversight Board (PCAOB) was established by Congress in 2002 “to oversee the audits of public companies in order to protect investors and the public interest by promoting informative, accurate, and independent audit reports.” Since PCAOB Chairman James R. Doty began his term on February 1, 2011, it hasn't taken him long to understand what the PCAOB needs to get the job done. During the first week of April, he spoke at a meeting for the Council of Institutional Investors and he testified before the Securities, Insurance, and Investment Subcommittee of the Senate Banking Committee. In both venues, his message was clear: The board's disciplinary hearings of audit firms need to be public.

Currently, restrictions imposed by the Sarbanes-Oxley Act of 2002 (SOX) prevent the PCAOB from publicly disclosing the identity of the firms under disciplinary investigation by the agency. This seems counterintuitive to the PCAOB's original reason for existence—to improve auditing quality and enhance protection of the investing public. Keeping the public in the dark regarding audit firms that are not doing their job properly doesn't further the public interest. Imagine if there were no Better Business Bureau to alert the public to businesses that engage in substandard marketplace behavior; consumers would not have an essential resource for objective, unbiased information on businesses. Yet the PCAOB, serving as a sort of Better Business Bureau for auditors, is not allowed to warn the investing public of auditors and audit firms found in violation of applicable laws, rules, or standards.

Consequences of Secrecy

SOX was also intended to restore auditors' credibility as public watchdogs over financial reporting. But during the recent financial crisis, many of the world's leading financial institutions failed—or were prevented from failing by taxpayer bailout money—without prior warning of problems in their financial statements or auditor reports. Millions of investors lost their savings and retirement funds; approximately $11 trillion in household wealth evaporated. Consequently, serious questions have been raised about financial reporting practices and the quality of the related audits. So why, after almost a decade, haven't the changes implemented as a result of SOX helped to improve audit quality, raise audit standards, and hold auditors accountable for meeting those standards?

According to Doty, the secrecy of the existing process encourages audit firms that are under investigation for alleged misconduct to prolong the process through litigation. This is often used as a stalling tactic to keep interested parties, such as investors, audit committees, and other auditors, unaware of the charges even after a hearing and adverse findings. Furthermore, the PCAOB doesn't have the authority to issue a temporary cease-and-desist order while litigation is in process, so these firms are able to continue their questionable practices—sometimes for years—without the investing public being aware of the issue.


Not surprisingly, talk of making the process more transparent has prompted pushback by auditors and their clients. These stakeholders oppose public hearings because, from their perspective, this approach negates the assumption of “innocent until proven guilty” and implies instead that the auditor is “guilty unless proven innocent.” They worry that a public hearing would irrevocably tarnish an auditor's reputation and the credibility of the client's financial reports—regardless of the final outcome of the case.

Lynn Turner, a former SEC chief accountant, has recommended a process—akin to that of the SEC's—whereby PCAOB cases would only be made public after they have been completed and the board has voted to pursue an action against an auditor or the firm. Unlike the SEC, however, the PCAOB does not have the authority to change its rules in this regard. It would take an act of Congress to allow the oversight agency to conduct public disciplinary proceedings.

Investor protection and public trust form the backbone of our capital markets. A lack of transparency anywhere in the process has the potential to jeopardize the public's perception of integrity and fairness in our economic system.

As always, I welcome your comments.

Mary-Jo Kranacher, MBA, CPA/CFF, CFE. Editor-in-Chief. ACFE Endowed Professor of Fraud Examination, York College, The City University of New York (CUNY), mkranacher@nysscpa.org.

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