Earlier today (July 29), the PCAOB voted to adopt final rules and a corresponding form (“Form 4”) to facilitate transferring the registration status from predecessor to successor audit firms in the event of a merger or other change in the registered firm’s legal form. Separately, as detailed further below, the SEC is scheduled to consider tomorrow whether to issue interpretive guidance on use of corporate websites.
PCAOB Adopt Rules and Related Form 4 to Ease Successor Firm RegistrationIn a press release issued following today’s meeting, PCAOB Chairman Mark Olson said, "Today’s action will allow for registered firms -- in appropriate and well defined circumstances – to provide audit services without a break in their PCAOB registration status when there has been some change in their legal form. The rules would provide flexibility that is important given the serious implications of a firm operating without registration.” Note: if a successor audit firm does not meet the circumstances specified in the PCAOB rules for use of Form 4, it can still apply for status as a registered audit firm by using the normal Form 1 application process and paying related application fees.
Further details on the results of the PCAOB meeting follow, based on my listening to the webcast of the meeting.
PCAOB staff said the final rules presented today and related Form 4 are substantively as originally proposed. One matter noted in the 5 comment letters they received related to the proposed filing deadline; staff noted they decided to retain as originally proposed, the requirement that a Form 4 must be filed by the successor firm within 14 days of a triggering event. Staff noted there is a provision for a late filing of a Form 4, but continuance of registration status for a late filed form (as opposed to a timely filed Form 4 that meets all other criteria) is not automatic.
Criteria for use of Form 4There are two categories of circumstances in which audit firms can use Form 4 to succeed to registered status of the predecessor firm without any break in its registered status: (1) change in legal form of organization (e.g. changing from a private corporation to a limited liability partnership); and (2) acquisitions or combinations involving registered firms – in which the previously registered firm ceases to exist as a registered firm. Additional criteria also apply, including that (1) a majority of equity owners of the predecessor firm are part of the successor firm, (2) the successor firm makes certain required affirmations (e.g. regarding the authority of the PCAOB and intent to cooperate with the PCAOB, and responsibility for matters of the predecessor firm with respect to the PCAOB), and (3) in the case of an unregistered firm seeking to obtain the registration status of a firm it is merging with or acquiring, that the unregistered firm be able to assert it did not: (a) have employees under disciplinary proceedings, (b) issue any audit reports for issuers (public companies) without being registered, or (c) operate without a license (i.e. where such license to provide accounting or audit services is required by a state, agency, board, or other authority).
PCAOB staff noted one change made in the final rule based on comments on the proposed rule was an attempt to narrow scope of a requirement for which the successor firm affirms responsibility for the predecessor firm. Commenters said the proposed requirement implied the successor firm would take on continuing obligations of the predecessor firm in civil or criminal proceedings. Staff said the new language in Item 4.2 of Form 4 attempts to narrow the scope of this affirmation by relating it more directly to assuming responsibility over matters of the predecessor firm relating to the Board (i.e., PCAOB).
Form 4 not likely to lead to ‘gaming’ the system; Registration status not a ‘commodity’Board member Dan Goelzer noted, “When we talked about this at the proposal stage, there was some concern about firms gaming the system and avoiding full registration by using Form 4.” He asked, “What would happen if an unregistered firm, with an extensive state disciplinary history, decided it would be a good idea to have one of their partners, perhaps someone who didn’t personally have a disciplinary history, form a new firm, and then register that firm, and then have the old partners move into that firm? Would that be an end-run around our system? Or how would these rules effect that situation?”
Michael Stevenson, Deputy General Counsel, said, “I actually think - going through the Form 4 process - if someone were of a mind to game the system, that’s not how they would do it.” In the circumstances described by Goelzer, Stevenson noted, the firm would only receive temporary registration since they would have to answer in Form 4 that they had individuals with disciplinary histories. He explained “the permanence of the registration would depend on [PCAOB] Board action.”
Goelzer also asked for clarification of the requirement that, for the successor firm’s registration to succeed that of the predecessor firm, the predecessor firm ‘no longer exist as a public accounting firm.’ For example, he asked, “If partners with a public company audit practice leave an existing registered firm, [go] elsewhere, and want to take the registration along, but the old firm will continue to practice accounting, say private company audits, and perhaps a tax practice, would that be a bar to use of Form 4?”
Stevenson replied that while the rule does not preclude that type of situation from happening - and noted that situation could be ‘perfectly appropriate’ (i.e. from a business point of view) – the particular circumstance described by Goelzer would preclude use of Form 4. “The reason for that,” said Stevenson, “is the registration status should not be treated as - and isn’t - a commodity to be transferred from one firm to another.” Stevenson continued, “As long as the registered firm continues to exist as a public accounting firm… that registration status can’t go anywhere else.” He noted the PCAOB intentionally requires that the predecessor firm ‘cease to exist as a public accounting firm’ vs. ‘cease to exist’ so as “not to needlessly rule out that an entity legally formed … couldn’t be used for something else, a different kind of business couldn’t’ be housed there, without having to shut it down altogether.”
Goelzer followed up, “If the old entity survived, it would have to go into some totally unrelated business, something not connected to accounting, in order for Form 4 to be available?” Stevenson agreed.
Foreign audit firmsGoelzer noted that with respect to foreign firms, “Often in their registration applications, they withhold some of the information that we normally require, based on an assertion that to provide it would conflict with their home country law.” He asked, “Would that have any impact on a firms’ ability to use Form 4?”
Stevenson replied, “I wouldn’t think so, maybe in a rare, unusual case.” He noted, “A non-US [audit] firm can use Form 4 and still assert a legal conflict with respect to the item that requires that they affirm their consent to cooperate with the Board [PCAOB] and enforce that consent with associated persons, which is an item that occasionally firms in the Form 1 context assert a legal conflict with respect to, and that’s allowed in Form 4.” He added, “If there is something in Form 4 that a firm thinks it is precluded by its local law from providing other than that, then I think it just can’t use Form 4, but I would add that, based on our experience in reviewing the kinds of conflicts that firms assert in the Form 1 context, there isn’t anything in Form 4 that I would expect to raise that problem; [it is] very straight forward, very high level information, so we wouldn’t anticipate that that would be a problem in the usual case.”
NOTE: This discussion did not pertain to substantive cooperation of foreign audit firms per se, but to the fact that under the current regime (Form 1) and under the proposed Form 4, foreign audit firms sometimes state they are precluded by local (also called ‘home country’) law from being able to ‘affirm’ certain matters (including as relates to ‘cooperation’) on which their affirmation is required on their registration forms with the PCAOB. Further background on this issue can be found in the PCAOB’s “Frequently Asked Questions Regarding Issues Relating to Non-U.S. Accounting Firms.”
Inspection aspects, Next stepsBoard member Charlie Niemeier noted he supported the rule because “It provides an easy mechanism to qualify for uninterrupted registration,” and that “the proposal appropriately describes situations in which a new firm should not be treated as succeeding to another firms’ registration.” He added, “I am comforted to know we will be inspecting the firms, whether it’s through Form 4 or Form 1 that they are registered with us, and if they don’t live up to the applicable standards then we will address it in that context.”
As is the case for all final rules of the PCAOB (as set forth in the Sarbanes-Oxley Act), the final rule will now be filed with the SEC. The SEC posts final PCAOB rules with a Notice and Comment period, and then determines whether to approve the PCAOB final rule (and in this case associated Form 4). The PCAOB states in its press release the final rule and Form 4 will become effective 60 days after SEC approval.
SEC to Consider Interpretive Guidance on Use of Corporate WebsitesIn other regulatory news, the SEC is slated to consider at an open commission meeting tomorrow (July 30), “whether to publish an interpretive release to provide guidance regarding the use of company web sites.” Other matters on the agenda for tomorrow’s open commission meeting relate to municipal securities disclosures and investment company boards.
SEC’s Advisory Committee on Improvements to Financial Reporting (CIFIR) – which is holding its final meeting (by teleconference) this Thursday, included a related recommendation on use of corporate websites in its deliberations. CIFIR will consider its Revised Draft Final Report at its meeting this week, and will vote on whether to issue it as a Final Report to the SEC.
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