Why the Big Four Are Still a Big Mystery

Critics say the PCAOB's latest round of inspection reports are too vague and released one year too late to tell the public what kind of job the large audit firms are doing.

Another hole in the reports is the PCAOB’s take on each audit firm’s quality-control systems. Although it reviews those systems, the PCAOB redacts its findings from the public versions of its inspection reports and gives audit firms one year to make any fixes. If defects are not corrected within that time frame, the board will make those findings public.

The Issue of Timeliness

The delay in posting inspection reports to the PCAOB Website also gives accounting experts little leeway in being able to gauge the performance of an audit firm. “Due to the cyclical nature of the inspection process, many of these enhancements were made over the past year and a half and therefore are not reflected in the results of the 2005 inspections,” PwC wrote in its response to the PCAOB’s findings in the 2005 report. The firm did not respond to CFO.com’s requests for further comment.

Considering that the inspections are meant to be a learning tool for the auditors, “I wonder about the effectiveness of this process if the 2005 reports are just getting posted in January 2007,” says Bierstaker.

Niemeier says timeliness hasn’t been an issue, as the PCAOB and the firms discuss issues continually. He believes the turnaround will be quicker for future reports now that the board is no longer creating reports from scratch. Its auditors will primarily look at the Big Four’s 2006 audits starting this spring. (The PCAOB is required to annually inspect firms that audit more than 100 public companies; those with fewer than 100 issuers are inspected every three years.)

For existing corporate clients, the timing of inspection reports on their auditors may not be a concern. Craig Omtvedt, CFO of Fortune Brands and member of the PCAOB’s Standing Advisory Group, says most finance executives already have a solid handle on whether their audit firms’ work is up to snuff. In fact, he thinks the deficiencies noted for the 2004 audits of his firm, PwC, were “not terribly surprising,” considering that the PCAOB is still fairly new, he told CFO.com. Still, he says, he did find it necessary to look over the report and share the findings with his audit committee.

What the Reports Do Say

Charles Mulford, a professor of accounting at Georgia Institute of Technology, notes that the reports on KPMG and E&Y, for example, show their clients are “getting their money’s worth.” The PCAOB does not report any major errors at either firm.

For “Issuer A” in the E&Y report, the firm “failed to address appropriately a departure from GAAP before issuing its audit report.” The issuer revised its inventory standard costs “to include certain indirect costs that it had previously expensed when incurred.” Instead of recognizing the effect of the accounting change, the company amortized “the effect of the accounting change into net income on a straight-line basis over a six-year period.”

“On first examination, this would appear to make the financial statements incorrect,” Mulford says. But in its response letter to the PCAOB, E&Y said its auditors had noticed the mistake and had accounted for it on their “summary for audit differences” before completing their audit opinion. The firm acknowledged that it should have documented this fix better.

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