Recent SEC And PCAOB Enforcement Actions Signal Increased Focus On Independence Controls And Non-U.S. Firms

Author:Mr Jonathan Lahn, John F. Hartmann, Javier Rubinstein and Gabor Balassa
Profession:Kirkland & Ellis International LLP

SEC and PCAOB regulations impose stringent requirements to ensure that auditors of SEC registrants are independent of their audit clients. In addition to prohibiting a wide range of financial relationships and non-audit services, SEC regulations require firms to have a “quality control system in place that provides reasonable assurance ... that the accounting firm and its employees do not lack independence....” Similarly, PCAOB rules provide that a registered accounting firm "shall have a system of quality control for its accounting and auditing practice,” including “[p]olicies and procedures ... to provide the firm with reasonable assurance that personnel maintain independence (in fact and in appearance) in all required circumstances....” These requirements apply to all firms, wherever located, that audit SEC registrants.

Historically, SEC and PCAOB enforcement activity relating to independence standards has focused on discrete instances of independence violations relating to prohibited financial relationships or the provision of prohibited non-audit services to audit clients. Several recent enforcement actions by both regulators, however, appear to signal an increased focus on the second prong of independence by imposing sanctions on firms for failure to maintain adequate internal quality controls to ensure independence from audit clients. These enforcement actions also suggest a new focus on non-U.S. affiliates of major international accounting firm networks and their systems of quality control over independence.

PCAOB enforcement orders highlight independence control deficiencies, including at non-U.S. audit firms

On August 1, 2019, the PCAOB announced a $100,000 civil monetary penalty as well as prospective compliance obligations against the Mexican member firm of a major international accounting network. The PCAOB's disciplinary order not only identified specific instances of independence violations (relating to prohibited financial relationships with an unnamed bank client) but also sanctioned the firm forfail[ure] to comply with PCAOB quality control standards by failing tosuitably design, effectively apply, and appropriately monitor quality control policies and procedures to provide reasonable assurance with respect to independence. The PCAOB noted that the firm had failed to detect three prohibited financial relationships between the firm's partners and the audit client at the time of the initial engagement. Moreover, even...

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