Archive for the ‘Audit’ Category

FAQs on Two Recent Concept Releases on Audit Committee Matters

September 18th, 2015 | By

1. On July 1, 2015, the Securities and Exchange Commission (SEC) issued a Concept Release on Possible Revisions to Audit Committee Disclosures. What does it say?

The release asserts that current  disclosure rules may not mandate enough disclosures about activities of audit committees  in the reports they make in annual proxy statements and explores possible disclosure mandates in several areas—most of them pertaining to the external auditor. The areas outlined are as follows:

  • Audit Committee’s Oversight of the Auditor
  • Audit Committee’s Process for Appointing or Retaining the Auditor
  • Qualifications of the Audit Firm and Certain Members of the Engagement Team Selected by the Audit Committee
  • Location of Audit Committee Disclosures in Commission Filings
  • Smaller Reporting Companies and Emerging Growth Companies

In addition to these areas, the SEC asks for comment on the possible need for disclosures on accounting and financial reporting process or internal audits and invites comment on the scope of audit committee work.

Throughout the 55-page release, the SEC asks questions—74 in all—seeking the views of interested parties, such as audit committee members and investors, on what disclosures would be valuable. All but two of these questions pertain to oversight of the independent auditor.

2. What exactly is a concept release?

A concept release is an early indication that an agency is thinking about a matter and may issue new rules or standards on it. Any agency may issue a concept release. This current SEC concept release is the only one issued so far in 2015, and it is the first SEC concept release issued since 2011. (There were no SEC concept releases at all from 2012–2014.) While there are no recent studies showing the correlation between concept releases and rulemaking, we can assume that new rulemaking may follow. In this sense, concept releases are not the same as interpretive releases, which interpret new laws or court decisions, or policy statements, which clarify the SEC’s positions on particular matters.

3. How does this SEC concept release fit into the SEC’s overall “disclosure effectiveness initiative”?

The release is aimed at improving audit committee disclosures in concert with the stated goal of the SEC’s ongoing disclosure effectiveness initiative, described in a recent NACD Directorship article. Under this initiative, the SEC’s Division of Corporation Finance is reviewing the disclosure requirements under Regulation S-K (regarding company disclosures generally) and Regulation S-X (regarding company disclosures in financial statements) to “facilitate timely, material disclosure by companies….” So far the SEC has focused on the forms 10-K (annual report), 10-Q (quarterly report), and 8-K (updates). Later phases of the project will cover the compensation and governance information in proxy statements.

If the SEC’s new concept release on audit committee disclosures leads to rules mandating additional disclosures that are not material to investors, it would operate against the goals of the initiative. As SEC Chair Mary Jo White said in her keynote speech at NACD’s fall conference two years ago, “[w]e must continuously consider whether information overload is occurring as rules proliferate and as we contemplate what should and should not be required to be disclosed going forward.”

4. Has NACD commented on the SEC’s concept release?

Yes. On Sept. 8, 2015, the NACD submitted a comment letter affirming the importance of improved disclosures. However, the letter also argues that the choice of what to disclose should be up to audit committees themselves because they are in the best position to describe how they are fulfilling those duties. The NACD letter cautions that information should only be included in a proxy statement (or any other disclosure for that matter) if it would be useful to investors.

In the letter, NACD proposes that audit committees take voluntary action by finding new ways of disclosing the broad scope of their work. NACD has also offered to convene a meeting between the SEC and audit committee leaders in order to accomplish this.

The NACD letter followed a more detailed comment submitted to the SEC on Aug. 3, 2015, by Dennis Beresford, a member of the NACD board of directors, an experienced director and audit committee leader, and the former chair of the Financial Accounting Standards Board (FASB).

In his letter, Mr. Beresford states that the concept release focuses too heavily on the audit committee’s relationship with the auditor, which he says is important but should not dominate the committee’s work. He notes that of the 74 questions asked in the release, all but the last two focus on this topic.

Based on his experience, Mr. Beresford suggests that audit committee reports need to cover a wider range of topics, as suggested by the Audit Committee Collaboration, a group that includes NACD. In order of priority, these topics include:

  • Scope of duties (as referenced in the audit committee charter).
  • Committee composition (especially information on qualifications of the “audit committee financial expert”).
  • Oversight of financial reporting (highlighting how the committee is assessing the quality of financial reporting).
  • Oversight of independent audit (selection of the audit firm and lead engagement partner, and compensation, oversight, and evaluation of the audit firm). Mr. Beresford argues that the disclosure of the lead engagement partner’s name is unnecessary. [This is the subject of a separate Public Company Accounting Oversight Board (PCAOB) release on Rules to Require Disclosure of Certain Audit Participants on a New PCAOB Form.]
  • Risk assessment and risk management (which is often assigned to the audit committee).
  • Information technology (such as cybersecurity, which is also often assigned to the committee).
  • Internal audit (namely, internal audit plan review and results).
  • Legal and compliance (such as any discussions with legal counsel).

This list of possible topics for voluntary audit committee disclosures accords with NACD’s own publications on audit committee work. These subjects are frequently discussed in meetings of our Audit Committee Chair Advisory Council and in the webcasts and gatherings we produce with KPMG’s Audit Committee Institute.

Notably, Mr. Beresford warns against turning these subjects into mandatory “check-the-box” disclosures. Because audit committee reports are still in an early stage of development, he hopes “that the SEC allows them to continue to develop largely as ‘best practices’ without becoming overly prescriptive [emphasis added].” Regarding disclosure of the name of the lead engagement partner, he says that this should be left to the discretion of audit committees: “If they felt it would be useful to investors, they could include it in their reports in the proxy statement.”

5. Are there any other agency concept releases that audit committee members should know about?

Yes. On July 1, 2015, the PCAOB issued a concept release on Audit Quality Indicators (AQIs) with a comment deadline of Sept. 29, 2015. The release notes that “[t]aken together with qualitative context, the indicators may inform discussions among…audit committees and audit firms.”

NACD does not plan to comment on this release. However, we note that NACD member J. Michael Cook, chair of Comcast’s audit committee, together with Comcast’s executive vice president and chief accounting officer, Lawrence J. Salva, sent a comment letter advising the PCAOB of their views: “We encourage the PCAOB to be judicious with regard to the number of recommended AQIs, as we believe too many AQIs would lessen their impact. As you have previously noted, audit committees have many responsibilities and a limited amount of time, and as you are aware, audit quality requires more than measurable indicators; skepticism and independence are necessary to turn quantifiable indicators into real audit quality.”

6. What is the key takeaway from the SEC and PCAOB concept releases for audit committees?

The SEC and PCAOB are being proactive on the audit committee front. The SEC wants audit committees to say more about their activities in the proxy statement, and the PCAOB wants audit committees to use specific metrics to judge the quality of audits. Comments from the director community have pointed out the importance of ensuring that disclosures are material and that metrics are useful. In response to these two concept releases, audit committee leaders and members might consider taking two main actions:

  • Review disclosures and their metrics to ensure they are useful.
  • Reach out to the SEC and PCAOB to express views on these matters.

A Final Word

SEC and PCAOB regulators strive to strengthen the U.S. economy through enlightened rulemaking, but they cannot do it alone. They need to hear the voice of the director. NACD members can make a positive difference in this regard.

Proxy Season Toolkit

January 14th, 2015 | By

NACD Proxy Season Toolkit

As the 2015 proxy season gets underway, are you looking for the latest information on the priorities of major institutional investors? Are you interested in benchmarking your board’s approaches to proxy statement disclosures and other critical shareholder communications?

To help you prepare, we’ve bundled five of our most recent and most relevant publications into the NACD Proxy Season Toolkit, a one-stop shop for public company boards.

  1. Investor Perspectives: Critical Issues for Board Focus in 2015
  2. Sample Board Expertise Matrix
  3. Preparing the CD&A: Priority Considerations for Boards
  4. Pay for Performance and Supplemental Pay Definitions 
  5. Enhancing the Audit Committee Report: A Call to Action 

For more insights on the issues currently facing public company boards and key committees, visit NACD’s Board Leaders’ Briefing Center. And be on the lookout for our exclusive proxy season preview, written by ISS’ Patrick McGurn, in the next issue of NACD Directorship magazine.

Current Efforts Toward Corporate Disclosure Reform

August 22nd, 2014 | By

The discussion surrounding corporate disclosure reform has consistently centered on the issue of how to provide sufficient levels of information to investors and other readers without overburdening those responsible for preparing the disclosures. On July 29, the U.S. Chamber of Commerce’s Center for Capital Markets Competitiveness (CCMC) hosted an event addressing corporate disclosure reform. A variety of issues involving disclosure reform were discussed in panels featuring general counsels from leading companies, former officials from the Securities and Exchange Commission (SEC), the current head of the SEC’s Division of Corporation Finance, and other stakeholders.

Corporate disclosure reform has also been a recurring topic of discussion among the delegates of NACD’s advisory council meetings. Delegates are committee chairs of Fortune 500 companies and, along with key stakeholders, they discuss the issues and challenges currently affecting the boardroom. In particular, NACD’s Audit Committee Chair Advisory Council has discussed this topic at length, and this issue featured prominently in the discussions at the June 2013, November 2013 and March 2014 meetings. In particular, the November meeting featured senior leaders from the Society of Corporate Secretaries and Governance Professionals to discuss their efforts to streamline disclosures, while the March meeting included analysts from Moody’s Analytics and Morgan Stanley to share how they use disclosures.

Many of the key takeaways from the CCMC’s July meeting have been echoed at NACD’s advisory council meetings. These include:

The “disclosure burden” is largely driven by a desire to reduce liability. The first CCMC panel focused on the perspectives of two former SEC commissioners: Roel Campos, who is currently a partner at Locke Lord; and Cynthia Glassman, now a senior research scholar at the Institute for Corporate Responsibility at the George Washington University School of Business. There was agreement that disclosures have become documents of litigation. The usefulness of many disclosures was called into question, and in fact, many of the disclosures found on today’s financial statements are not actually mandated. For example, while comment letters issued by SEC staff from the Division of Corporation Finance and the Division of Investment Management “do not constitute an official expression of the SEC’s views” and are “limited to the specific facts of the filing in question and do not apply to other filings,”[1] many companies include disclosures based on these comment letters, often aiming to reduce their company’s liability by accounting for every possible contingency.

What’s more, if one company is asked by the SEC to provide a particular disclosure, other companies may feel compelled to disclose the same information even though they may operate in different industries.

Nevertheless, elimination of unnecessary or outdated disclosures requires a lengthy review process. Without a champion for reform, disclosures can linger on financial statements in perpetuity. An advisory council delegate noted: “It’s possible to take the initiative and cut the 10-K down. But it’s a significant time commitment, so you need buy-in from the CEO, CFO, and audit committee.”

Technology provides promising solutions. It was also observed that many disclosures are mandated by laws and rules stemming from the 1930s to the 1980s, when corporate information was only accessible in a physical form. Today, company websites often provide more detailed, current information than the 10-K. One CCMC panelist suggested that the SEC should encourage companies to rely more on these websites for the disclosure of certain information, such as historical share prices.

CCMC panelists also discussed ways to take advantage of technology to redesign and standardize the financial statements themselves, which could make them searchable and allow investors to make comparisons over time or across companies more easily. One panelist suggested that disclosure transparency could be enhanced by creating a “digital executive summary” document. In this summary, new, newly relevant, and the most material disclosures could be grouped in one place with hyperlinks to more detailed information. A similar notion has been discussed at recent Audit Advisory Council meetings, as one delegate offered: “Perhaps we need a second document, aside from the 10-K, that provides a shorter, more meaningful narrative that’s focused on the material issues that investors are interested in.”

Disclosure reform involves multiple stakeholder groups. The second CCMC panel of the morning focused on balancing the disclosure needs of various stakeholders. The panel included the perspectives of several professionals whose work is heavily influenced by the disclosure regime. They included Julie Bell Lindsay, managing director and general counsel for capital markets and corporate reporting, Citigroup Inc.; Chris Holmes, national director of SEC regulatory matters, Ernst & Young; Flora Perez, vice president and deputy general counsel, Ryder System Inc.; and Ann Yerger, executive director, Council of Institutional Investors.

From the investors’ perspective, it was noted that because investors are voracious consumers of information, they will rarely say “no” if offered more information.

Several corporate counsels noted initiatives at their companies that are designed to increase disclosure transparency, including efforts to work directly with investors to determine the information that was the most important to them. In fact, nearly half of the respondents to the 2013–2014 NACD Public Company Governance Survey indicated that a representative of the board had met with institutional investors in the past 12 months:

survey graphic

The SEC is currently developing solutions. The final panel of the morning featured Keith Higgins, director of the SEC’s Division of Corporation Finance, who provided his views regarding the state of the disclosure system and described how the division is currently conducting its disclosure reform initiatives. More details regarding the division’s plans to tackle disclosure reform can be found in this speech by Higgins to the American Bar Association in April.

Throughout the morning’s discussions, there were also points of disagreement, such as the relevance of specific disclosures. Each session, however, provided evidence that on all sides of the issue there are those making good-faith efforts to improve the system.