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inbox: letter to the editor [CPA Journal, The](CPA Journal, The Via Acquire Media NewsEdge) PCAOB International Inspections I want to compliment Thomas G. Calderon and Hakjoon Song for their excellent article and analysis of PCAOB's annual inspections of registered foreign auditors of U.S. issuer clients, as well as for their clarity and timeliness ("PCAOB International Inspections: Descriptive Evidence from PCAOB Reports," The CPA Journal, January 2014, pp. 30-39). I think it might be instructive to note a few minor observations from their analysis and to relate the authors' study of foreign auditor inspections to PCAOB's domestic inspections. Minor observations. From the authors' research, there appears to be a strong correlation between the number of audits performed and the relative percentage of audit and quality control deficiencies uncovered by the PCAOB (Exhibit 1 of Calderon and Song's article). The likelihood is that with additional audits, the relative percentage of audit and quality control deficiencies will increase. In addition, the authors might have noted that deficiencies have increased over the past five years (2007-2011; Exhibit 2 of the article). Finally, audit inspections in the top five countries (Canada, Hong Kong, India, Mexico, and Russia) contributed to more than 60% of the audit deficiencies and more than 50% of the quality control deficiencies. Audit failures and the profession. For many of us who have devoted our lives to the highest ethical standards of being a CPA, how do we reconcile the high level of audit failure found in our profession? How do we respond when former SEC Chief Accountant Lynn Turner concludes, "If any other business, such as manufacturing or software companies had such high failure rates in their products, they would go out of business" (Floyd Norris, "Bad Grades are Rising for Auditors," New York Times, Aug. 23,2012)? And how do we answer accounting professor Lee Seidler's conclusion that "no major fraud has ever been discovered by auditors ... in as much of the auditors work is based on the faulty assumption that separation of duties within the corporation prevents fraud, a core albeit unsupportable foundational auditing standard" (D. Larry Crumbley and Lester E. Heitger, Forensic and Investigative Accounting, CCH Inc., 2011)? As I argued in a CPA Journal article, "Auditors' Responsibility for Detecting Fraud: Putting Ethics and Morality Firsf ' (June 2012), during the last five years, it is undeniable that public accounting firms rendered clean opinions on entities later determined to be Ponzi schemes or institutions whose activities forced them into insolvency, bankruptcy, bailout, or forced merger only months later. Clean audits were reported on many of the largest financial intermediaries who required backstopping by the federal government to a degree not seen since the Great Depression. As a profession with the highest standards of ethics, how do we better respond to the public we serve? Can these authors suggest, perhaps in a future article, meaningful ways to raise our profession to become more socially responsible to the public we serve? Richard H. Kravitz RH Kravitz & Company, CPAs bland Park, New York The Authors Respond Richard H. Kravitz's observations about our article are very insightful and cover multiple issues. First, he addresses the trends we observed in the inspection reports and the countries that contribute most to those trends. Second, the comments presume that observed audit deficiencies are audit failures, and accordingly imply a strict definition of an audit failure for which there may not be consensus. Third, he points to the issue of the auditor's responsibility for fraud, which we know is a troubling one relative to the public's expectations, management expectations, auditing standards, and current practices. Fourth, he raises the issue of whether auditors would continue to be in business if they were in any other industry-a preposition that is highly speculative and probably impossible to test objectively. Finally, he brings up socially responsible auditing. These are important questions that need to be addressed at various levels in the profession. PCAOB inspections and audit failures. The PCAOB has adopted a risk-based approach in its inspections. It has tried to identify and focus on high-risk audit clients and audit areas through analyses of industry and sector risk and historical inspection findings (PCAOB 2012 Annual Report). The board's selection of audit engagements for inspections is purposely biased, so inspections are not based upon a representative sample of audit eigagements. Kravitz's observations about the correlation between the number of inspection reports and the relative percentage of audit deficiency and quality control defects are consistent with the PCAOB's risk-based approach. Foreign countries with relatively high proportions of audit deficiencies and quality control defects (Canada, Israel, Mexico, Australia, and India) have close political and diplomatic ties with the United States, so it may be relatively easy for the PCAOB to investigate the work of auditors in these countries. Due to the short history of the PCAOB inspections, further research is needed to make conclusive statements about the trend of audit deficiencies on individual countries as more inspection reports are published. Stakeholders, as well as researchers, have not really yet concluded that audit deficiencies or quality control defects are audit failures. Some inspected audit firms have noted that audit deficiencies are caused by differences in professional judgment and, sometimes, by insufficient documentation. There is acknowledgement of deficiencies, but it is not clear that 1) those deficiencies resulted in the wrong audit opinions being issued or 2) stakeholders acted in ways in which they would not otherwise have acted if the observed deficiencies and quality control defects were not present. Thus far, the professional and academic empirical literature is light on the effect of PCAOB reports containing audit deficiencies on perceptions and actions of investors, creditors, and financial analysts. Similarly, not many researchers have examined the impact of audit deficiencies and quality control defects like those reported by the PCAOB on stakeholders' decision processes. Impact on the profession. We agree that the profession needs to ponder audit failures from a broad ethical perspective that takes into consideration the implications for society at large, rather than just the immediate stakeholders that are most directly affected. Socially responsible auditing is a new and intriguing concept. Future articles could suggest meaningful ways to raise awareness in this area. Thomas G. Calderon, PhD, and Hakjoon Song, PhD University of Akron (c) 2014 New York State Society of Certified Public Accountants |