PCAOB Adopts Auditing Standard No. 16, Communications with Audit Committees

By Cydney Posner

Today, the PCAOB adopted new Auditing Standard No. 16, Communications with Audit Committees. The Standard is designed "to improve the audit by enhancing communications between auditors and audit committees." The standard is subject to SEC approval and, if approved, would be effective for public company audits of fiscal periods beginning after December 15, 2012. Note, however, that Auditing Standard No. 16 is the first auditing standard adopted by the PCAOB subsequent to the enactment of the JOBS Act and, therefore, the SEC must separately determine whether it will apply to audits of EGCs.

The Standard defines "audit committee" (as in SOX), retains or enhances existing communication requirements, incorporates certain SEC requirements for auditor communication to audit committees and adds other new communication requirements. Under the Standard, the auditor must establish an understanding of the terms of the audit engagement with the audit committee, not the company, and record the terms of the engagement in an engagement letter executed on behalf of the company, with the committee's acknowledgement and agreement.

The Standard incorporates many of the SEC communication requirements from SOX, in addition to enhancing existing requirements. Under the Standard, communications with the audit committee must occur before the issuance of the audit report. The Standard expands existing requirements by also requiring the auditor to communicate 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; and
• 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."

The auditor's inquiries of the audit committee regarding the identification and assessment of risks of material misstatements have also been expanded by the Standard. The additional inquiries relate to whether the audit committee is aware of matters relevant to the audit, including, but not limited to, violations or possible violations of laws or regulations.

Under the Standard, the auditors must also provide the audit committee with additional information about significant aspects of the audit, such as the results of the audit procedures or the conduct of the audit, including the following:

• "An overview of the overall audit strategy, including timing of the audit, significant risks the auditor identified, and significant changes to the planned audit strategy or identified risks; 
• Information about the nature and extent of specialized skill or knowledge needed in the audit, the extent of the planned use of internal auditors, company personnel or other third parties, and other independent public accounting firms, or other persons not employed by the auditor that are involved in the audit;
• The basis for the auditor's determination that he or she can serve as principal auditor, if significant parts of the audit will be performed by other auditors;
• Situations in which the auditor identified a concern regarding management's anticipated application of accounting pronouncements that have been issued but are not yet effective and might have a significant effect on future financial reporting;
• Difficult or contentious matters for which the auditor consulted outside the engagement team;
• The auditor's evaluation of going concern;
• Departure from the auditor's standard report; and
• Other matters arising from the audit that are significant to the oversight of the company's financial reporting process, including complaints or concerns regarding accounting or auditing matters that have come to the auditor's attention during the audit."

Under the Standard, the auditor may provide additional information to the audit committee and respond to audit committee requests for additional information.

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