The Enforcer

If audit firms don't voluntarily improve their processes, PCAOB chairman William McDonough promises he'll make them.

Personally, I am a believer in rational markets. I think markets will distinguish [between] cases in which a company just isn’t very well managed [and cases in which] a company has work to do, but it will probably get a clean opinion next year. Right now, though, everybody is afraid of the unknown.

What would you say if there were no failures?

[I'd say,] “So what?” If an audit firm could say, “We have done a really thorough job of our attestation work, and each and every issuer gets a clean opinion,” then that’s OK with me.

There are rumors that quotas will guarantee that some companies fail.

If an audit firm has quotas, I think it’s nuts. We certainly don’t have any quotas.

Many CFOs also believe that 404 has tipped the scales firmly in favor of the audit firms. Is that your view?

We have made it very clear to the audit firms that 404 is not the way that they can afford to send all of their grandchildren to Harvard. The law establishes new requirements for attestation, which clearly are going to be a new expense for companies. But the amount of work they’ve done should be reasonable and justified. That is why I expect the audit committee not to roll over dead, but rather to have a meaningful discussion with the outside auditors on how much work is needed. It’s like auditing a financial statement: at the end of the day, the auditor has to decide if it gets a clean opinion or not. So while I don’t think 404 inappropriately shifts the balance of power to the audit firms, we do not expect auditors to be using it inappropriately to enrich their firms.

As a former CFO yourself, what responsibility do you see finance chiefs now having in the audit process?

The CFO has traditionally been the corporate officer with major responsibility for dealing with the outside auditors. This role will and should continue, but it will also have to change. The audit committee, and particularly the chairman of the audit committee, now has the primary corporate-governance relationship with the outside auditors. I believe the CFO should have as open a relationship as possible with both the chairman of the audit committee and the engagement partner. The goal is to have highly reliable financial statements for the good of investors and the general public. That is also in the clear interest of the issuer.

Finally, what kind of grade would you give the PCAOB at this juncture?

The PCAOB has been in business for just over a year and a half. When I joined on June 11, 2003, I was person number 42 on the rolls. For a start-up with a massive responsibility to the public, I give us as high a grade as one can imagine. With the superb staff we have assembled, I expect to keep meriting that high grade. A colleague once described me as “the most demanding man who ever lived,” so I do not give high grades easily.

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