For better or worse, auditor’s reports at public companies are going to become more interesting. How this will impact interactions between auditors, companies, audit committees and shareholders is not yet clear.

On October 23, 2017, the SEC unanimously approved requirements for an enhanced auditor’s report, AS 3101, as proposed by the Public Company Accounting Oversight Board (PCAOB). Despite the receipt of an unprecedented number of comment letters and criticism from powerful industry trade groups, SEC chairman Jay Clayton indicated strong support for the SEC’s decision. The new standard represents the first major overhaul of the auditor’s report in more than 50 years.

Overview

Auditor’s reports will fundamentally change under the new standard. Most notably, auditors must include a discussion of any “critical audit matters” (CAMs) communicated to the audit committee, particularly those involving “challenging, subjective or complex auditor judgment.” CAMs also include matters communicated to the audit committee relating to accounts or disclosures material to the financial statements. The PCAOB chief auditor and director of professional standards stated, “The communication of critical audit matters in the auditor’s report will mark a new era in the way auditors communicate with investors.” The PCAOB believes CAMs could include “significant management estimates and judgments made in preparing the financial statements; areas of high financial statement and audit risk; significant unusual transactions; and other significant changes in the financial statements.”

Other changes to the auditor’s report include:

  • Auditors must disclose the year in which the auditor began serving consecutively as the company’s auditor.
  • Auditor’s reports must include information clarifying the auditor’s responsibilities.
  • Auditors must include a statement that the auditor is required to be independent.
  • New standardized language—“whether due to error or fraud”—must be added in discussing the auditor’s responsibility to get reasonable assurance that financial statements are free of material misstatements.
  • The format of the report will be standardized, with the opinion in the first section and new section titles.

Compliance Timeline

The communication of CAMs becomes effective for annual periods ending on or after June 30, 2019, for large accelerated filers and on or after December 15, 2020, for all other filers. The additional changes (changes other than the communication of CAMs) become effective for audits of annual periods ending on or after December 15, 2017.

Conclusion

Ultimately, the PCAOB crafted the new standard to elicit more information about the audit directly from the auditor and to then provide that information to the investors. However, the concern of many is that the requirements will have the opposite effect, resulting in frivolous litigation, overly broad auditor disclosure, and a deterioration in communications between the company and the auditor. The actual impact will be a topic of discussion for years to come.