The Public Company Accounting Oversight Board (PCAOB) made headlines in November with historic penalties announced against PwC's affiliates in China and Hong Kong, marking the PCAOB's first enforcement settlements in these regions since the enactment of the Holding Foreign Companies Accountable Act. PwC Hong Kong and PwC China found themselves facing substantial fines of $4 million and $3 million, respectively. These penalties not only stand as the largest ever imposed on a China-based firm but also rank as the second and third largest in the entire history of the PCAOB.
The fines were levied against the PwC entities due to alleged shortcomings in preventing employees from cheating on mandatory internal training exams. This development brings to light an issue that, while making headlines due to its monetary and geographical significance, is not novel. The practice of auditors cheating on internal exams has been a focal point for regulatory bodies such as the PCAOB and the Securities and Exchange Commission (SEC) for an extended period.
EY, in a notable case from June 2022, incurred the highest SEC fine ever imposed on an audit firm—amounting to $100 million. This substantial penalty was a consequence of EY's acknowledgment that auditors had been cheating on state ethics and other exams from 2017 to 2021. Moreover, EY had identified a similar issue spanning from 2012 through 2015, involving hundreds of its auditors.
The regulatory response to these transgressions indicates a systemic problem extending beyond individual auditors. It underscores deficiencies in the quality control systems of audit firms, a matter that has caught the attention of the PCAOB. Erica Williams, Chair of the PCAOB, emphasized the regulatory body's commitment to holding firms accountable. In her statement following the enforcement actions against China-based firms, Williams made it clear that the PCAOB's efforts to hold firms in China accountable are "just getting started." The regulator's 2024 budget allocates resources to continue rigorous inspection activities, extending to the remaining firms registered in mainland China and Hong Kong, coupled with robust enforcement actions.
The PCAOB's strategic plan for 2022-26 underscores two key goals: enhancing inspections and strengthening enforcement. Williams, in recent speeches, reiterated the PCAOB's dedication to strengthening its overall enforcement program. The focus is not solely on penalties but on imposing increasingly high penalties to act as a deterrent. In 2023, fines imposed by the PCAOB exceeded $20 million, indicating an 80% increase from the previous year.
Looking ahead to 2024, the PCAOB plans to intensify its inspection program, increasing the number of engagements reviewed and expanding procedures to assess auditors' compliance with laws, rules, and standards, including independence and fraud. Williams and other board members have expressed concern about inspection deficiency rates, stating they are "trending in the wrong direction" and deeming it "unacceptable." Auditors are expected to commit to improvements and rectify deficiencies within a year of inspection.
U.S. firms, especially those anticipating their first inspections by the PCAOB, should be mindful of the ethical issues highlighted by the China-based cases. The PCAOB and the American Institute of Certified Public Accountants have clear and specific ethical standards outlining the actions and appearances required of individuals and firms. Beyond addressing exam cheating issues, firms need to carefully consider the PCAOB's broader message about audit quality. This includes evaluating policies and procedures for employee education and regular monitoring.
Monitoring the PCAOB and SEC websites for inspection reports, deficiencies, and sanctions is crucial for firms aiming to stay ahead of regulatory expectations. Auditors should also be aware of the PCAOB's proposed auditing standards expected to be finalized in 2024. These standards, particularly "A Firm’s System of Quality Control," emphasize proactive identification and monitoring of quality risks for continuous improvement.
As U.S. firms navigate potential inspections and increased regulatory scrutiny, proactive measures addressing education procedures, overall audit quality, and ethical conduct become paramount. The regulatory landscape underscores the importance of firms aligning with evolving standards and expectations to ensure compliance and maintain the highest ethical and quality standards in the audit profession.
By fLEXI tEAM