On August 15, 2012, the Public Company Accounting Oversight Board (PCAOB) announced its adoption of Auditing Standard No. 16 that seeks to improve communications between auditors and audit committees. Auditing Standard No. 16 supersedes the PCAOB's interim standards AU sec. 380, Communication With Audit Committees, and AU sec. 310, Appointment of the Independent Auditor. Auditing Standard No. 16 was proposed on March 29, 2010 and was re-proposed on December 20, 2011.

Auditing Standard No. 16 expands upon the requirements of AU sec. 310 in two notable ways. First, Auditing Standard No. 16 requires the auditor to establish an understanding of the terms of the audit engagement with the audit committee, which is consistent with the provision of the Sarbanes-Oxley Act of 2002 (SOX) that requires the audit committee of listed companies to be responsible for the appointment of the external auditor. The provisions of AU sec. 310 merely instruct the auditor to establish an understanding with the client regarding the services to be performed for each engagement and do not require such understanding to be established with the audit committee. Second, Auditing Standard No. 16 requires the auditor to record the terms of the engagement in an engagement letter and to have the engagement letter executed by the appropriate party or parties on behalf of the company and determine that the audit committee has acknowledged and agreed to the terms. These requirements expand the requirement in AU sec.310 that requires the auditor to document the understanding in the working papers, preferably through a written communication with the client.

Auditing Standard No. 16 also seeks to improve upon AU sec. 380 by requiring the communications with the audit committee to occur before the issuance of the audit report. In addition, the standard enhances certain existing auditor communication requirements by requiring the auditor to communicate each of the following:

  • certain matters regarding the company’s accounting policies, practices and estimates
  • the auditor’s evaluation of the quality of the company’s financial reporting
  • information related to significant unusual transactions, including the business rationale for such transactions
  • the auditor's views regarding significant accounting or auditing matters when the auditor is aware that management consulted with other accountants about such matters and the auditor has identified a concern regarding these matters  

Auditing Standard No. 16 also adds new communication requirements that provide the audit committee with additional information about important aspects of the audit, including certain communications related to the results of the audit procedures and the conduct of the audit. Several of these notable new requirements were identified in our News to Note publication from January 10, 2012: http://www.hklaw.com/publications/PCAOB-Re-Proposes-Auditing-Standard-on-Communications-With-Audit-Committees-01-10-2012

The PCAOB acknowledged that several commenters suggested that Auditing Standard No. 16 should require the auditor to communicate to the audit committee the results of PCAOB inspection findings and any necessary remediation by the audit firm. The PCAOB noted that SOX prohibits the PCAOB from compelling an auditor to disclose nonpublic inspection information to an audit committee. Nevertheless, the PCAOB acknowledged that this need not prevent an audit committee from discussing inspection results with its auditor, and stated that the PCAOB encourages auditors to communicate effectively with audit committees about inspection matters. The PCAOB also pointed out that SOX does not restrict an auditor from disclosing to an audit committeenonpublic information regarding PCAOB inspections (including quality control deficiencies and the audit firm's remediation of those deficiencies) or PCAOB disciplinary matters.

The PCAOB anticipates that Auditing Standard No. 16 will be effective, subject to SEC approval, for audits of fiscal years beginning on or after December 15, 2012.