December 20, 2006
PCAOB Rules Out on Section 404
The PCAOB has issued companion rules to the SEC rules announced last week on Section 404. The PCAOB, detailing auditing practice, are "more risk-based and principles-based." In an effort to cut back on the cost and time of auditing checklists based on internal control minutia, the new rules seek a "top down" approach -- identify potential material problems, design controls to monitor those problems and audit those controls. The PCAOB and SEC rules in the abstract seem sensible enough but practice is what counts. The practice will be determined by the negotiating positions of the auditor vis a vis the firm in the audit practice. If the firm dominates the relationship, the risk based approach could be too lenient, as it was before the 2002 scandals erupted. If the auditing firms, through collective action (read trade association understandings), dominate the relationship, the risk-based approach will deteriorate into uniform rules that ossify and justify heavy billing. I am betting on the latter based on the small number of auditing firms and the inertia from past practice under the old rules.
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