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  • Writer's pictureDaniel Goelzer

PCAOB Isn’t Happy with EQR and Has Questions for Audit Committees to Ask

The Public Company Accounting Oversight Board has issued a staff report on engagement quality reviews (EQRs).  An EQR is an evaluation by a competent individual not otherwise involved in the audit of significant judgments made by the engagement team. The PCAOB’s standards require EQRs in public company audits and certain other engagements performed under its standards.  The staff report, Spotlight:  Inspection Observations Related to Engagement Quality Reviews (EQR Report), finds that 42 percent of the audit firms the PCAOB inspected in 2022 received a quality control criticism related to engagement quality review, up from 37 percent in 2020.  Three of the six large U.S. global network firms had at least one EQR deficiency, up from only one of the six having such a deficiency in the 2021 and 2020 inspection cycles. PCAOB Chair Erica Williams said in a statement:  “Engagement quality reviews are an important investor safeguard during the audit process. Unfortunately, audit firms are increasingly falling short when performing this function. We urge audit firms and audit committees to read our EQR report so they can fully live up to their responsibility to protect investors against insufficiently supported audits.”

 

Under the PCAOB’s standards, the objective of the EQR reviewer is to perform an evaluation of the significant judgments made by the engagement team and the related conclusions reached in forming the overall conclusion on the engagement.  The EQR Report states that the PCAOB adopted the review requirement to increase the likelihood auditors will identify significant audit deficiencies before issuing their audit or attestation report.  To evaluate the engagement team’s judgments and conclusions, the EQR reviewer should hold discussions with the engagement partner and other members of the team and review the audit documentation.  An EQR, including the EQR reviewer’s concurring approval of issuance of the engagement report, is required for audit engagements performed under the PCAOB’s standards, reviews of interim financial information, and attestation engagements related to securities broker-dealer compliance with certain SEC requirements. 

 

The EQR Report discusses deficiencies identified in 2021 and 2022 PCAOB comment forms issued to audit firms related to the EQR process or the EQR reviewer.  (A comment form is the PCAOB inspection staff’s initial communication to an audit firm of a deficiency observed in an inspection.)  Common EQR deficiencies, and the proportion each represented of total EQR comment forms, were: 

 

  • Failing To Identify Certain Engagement Level Performance Deficiencies in the Audit (82 percent of EQR comment forms).  In these instances, the  EQR reviewer did not identify deficiencies in audit responses to areas of significant risks, including fraud risks, which were subsequently identified by the PCAOB inspection staff.

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  • Failing To Provide Competent, Knowledgeable EQR Reviewer (6 percent EQR comment forms).  The firm failed to ensure that the EQR reviewer possessed the level of knowledge and competence in accounting, auditing, and financial reporting required to serve as an EQR reviewer or failed to appropriately address the objectivity of the EQR reviewer. This deficiency category also includes situations in which the audit firm failed to ensure that the EQR reviewer had not served as the engagement partner during either of the two audits preceding the audit subject to the EQR, as required by the PCAOB’s standards.

 

  • Failing To Properly Document the EQR (6 percent of EQR comment forms).  These comments cited inadequacies in the documentation of the EQR reviewer’s procedures.  For example, the work papers may not have indicated that the EQR reviewer evaluated or reviewed judgments about materiality and the effect of those judgments on engagement strategy. 

 

  • Failing To Provide Concurring Approval (6 percent of EQR comment forms).  These comments reflect instances in which  an audit firm did not obtain concurring approval from an EQR reviewer prior to issuance of an engagement report.

 

  • Failing To Provide an EQR (5 percent of EQR comment forms).  In these situations, the audit firm did not have an EQR reviewer perform an EQR on an audit or attestation engagement.

 

Consistent with Chair Williams’s recommendation that audit committees read the EQR Report, the Report states that audit committees and management may find it “useful for engaging their auditors in meaningful discussions about EQRs, which are vital to high-quality audits.”  The EQR Report includes four questions that “may be of interest to audit committees to consider amongst themselves or in discussions with their independent auditors.”  These questions are:

 

  • What policies and procedures does the audit firm have in place to provide reasonable assurance that the EQR reviewer has sufficient competence, independence, integrity, and objectivity to perform the EQR in accordance with the standards of the PCAOB?

 

  • Does the audit firm have individuals with experience in their specific industry that have not served as the engagement partner during either of the two audits preceding the current audit, who can serve as the EQR reviewer? If not, will the auditor go outside of the audit firm to fill this role?

 

  • Were there any significant judgments discussed or challenged by the EQR reviewer? What was the outcome of those discussions?

 

  • Has the auditor obtained concurring approval of issuance from the EQR reviewer prior to the issuance of the engagement report (or communicating its conclusion if no report is issued)?

 

Comment:  The third PCAOB question, relating to significant judgments discussed or challenged by the EQR reviewer, could be particularly useful for audit committees to ask their engagement partner as an additional way of gaining insight into the most difficult aspects of the audit. Further, in many cases, some issues evaluated by the EQR would likely parallel those discussed in the auditor’s report as critical audit matters. 

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