ACAP -The Acronym Tells The Story

By • Mar 18th, 2008 • Category: Bear Stearns, Liability Caps, PCAOB


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On March 13, 2008, the U.S. Treasury Advisory Committee on the Auditing Profession (ACAP), co-chaired by former SEC Chairman Arthur Levitt, Jr. and former SEC Chief Accountant Don Nicolaisen, met to discuss the preliminary recommendations of its subcommittees on human capital, [audit] firm structure and finances, and concentration and competition.

Edith Orenstein was quick enough to summarize the key recommendations on the FEI Blog for our convenience. She has an even more complete summary of the whole meeting on the main blog page, as well as the comments made which foreshadowed the Bear Stearns crisis over the weekend.

It’s a luxurious collection of information.

I’d like to reprint her summary with my comments in bold and a few more comments about what wasn’t recommended. In particular, take a look at things that didn’t make the list that have been recommended by some great minds on these issues like:

Arthur Levitt

Don Nicolaisen:
“I recognise the office of chief accountant has tremendous authority, and with that goes tremendous responsibility. The number one thing that I have focused on is: ‘Is the investor protected?'”

And he and I agree on this point – …”Mr Nicolaisen insists on a “trade-off” to any reform of auditors’ liability. He says
accounting firms must publish annual accounts and provide information about partners’ compensation. Now, they only give revenue figures. He says the firms should embark on corporate governance changes, and have boards that, like public companies, have a majority of independent directors.”

Richard Breeden

Why are most of these recommendations not on the list, you ask? (And where are the women?????)
Because the Committee members, as well as the regulators and the SEC, have all capitulated to the same malaise affecting the PCAOB Standing Advisory Committee Group meeting on February 27th – The strong desire of the Audit firms to allow to move forward only what is on their agenda, no more and no less. The audit firms are holding everyone hostage to the threat of another another failure of one of the firms.

Those that know better are afraid to be the one to push for any change that could be blamed for precipitating the next big firm failure. And another big firm failure is inevitable. A “next tier” firm failure is around the corner.

What is never voiced in this crowd, in public, are the questions my friend Jim Peterson has raised and now others have voiced:

Why in the world do we even need the firms or their stinkin’ audit reports?

What purpose do auditor’s opinions really serve anymore except to provide false confidence in a system that is crumbling before our eyes.

Rome is burning and the Neros are still fiddling on the perimeter.

ACAP. Get it? A Cap (on Liabilities?)

Edith’s summary of the 13 preliminary recommendations contained in ACAP’s March 13 report follows.

Subcommittee on Human Capital

The Subcommittee on Human Capital submits the following preliminary recommendations to the Advisory Committee on the Auditing Profession for its consideration:
(In general, I found these recommendations to be more goal oriented than action oriented.  Who is going to do this stuff?  “Mom and apple pie” wish lists are not what we need to improve the experience of students in the university and the preparation of students for professional life.  But never forget, being an accountant is a job.  Our university educational process, especially for accountants , has turned into vocational training, serving only the firms’ needs to save on entry level training and not the student’s needs to get a well rounded, complete, best available higher education that will give them options and choices in the career, not a fast track to a job that is controlled by an oligopoly and to firms that will lay them off in two years if the firm hasn’t forecasted its revenues  well enough.)


1. Implement market-driven, dynamic curricula and content for accounting students that continuously evolve to meet the needs of the auditing profession and help prepare new entrants to the profession to perform high quality audits.
a. Regularly update the accounting certification exams to reflect changes in the accountancy profession, its relevant standards, and the skills and knowledge required to serve increasingly global capital markets.  (It would be nice if the state requirements for the number of hours necessary to sit for the CPA exam were consistent.)

b. Reflect real world changes in the business environment more rapidly in teaching materials. (For this we need more real world practitioners involved in the teaching process.)

c. Require (Who has jurisdiction?) that schools build into accounting curricula current market developments.

2. Ensure a sufficiently robust supply of qualified financial accounting, audit, and tax faculty to meet demand for the future and help prepare new entrants to the profession to perform high quality audits.

a. Increase the supply of accounting faculty through public and private funding as well as through raising the number of professionally qualified faculty that teach on campuses.
b. Emphasize the utility and effectiveness of cross-sabbaticals.  (Professors in the firms and professionals in the classroom on voluntary sabbaticals?  Neat idea in theory, but the danger of co-opting is strong.  Why not have firm sponsored or CAQ sponsored free workshops and continuing updates for the professors?  Why not have firms pay for their employees via a fund for MBAs and Masters and PhD in Accounting and Taxation on a consistent basis?  Right now it’s “catch as catch can.”)

c. Create tax incentives for private sector institutions to fund both accounting faculty and faculty research, to provide practice materials for academic research and for participation of professionals in behavioral and field study projects, and to encourage practicing accountants to pursue careers as academically and professionally qualified faculty.  (Tax incentives are too indirect and not immediate enough.)

3. Improve the representation and retention of minorities in the auditing profession so as to enrich the pool of human capital in the profession.  (Gee, that would be nice.  Unfortunately, minorities and “diversity” candidates sometimes come with student visas that need to be turned into H1B or better visas.  Maybe make sure firms make a commitment of more than a year to the student who thinks they have joined a world-class organization?


And the qualification for higher education of minorities and other students from non advantaged backgrounds starts in grade school, making sure they don’t drop out of high school, making sure they can choose the kinds of schools the firms recruit from, and coaching them about what it means to take the step out of working class into the professional class.  The firms can’t pay for all of this, for sure, but let’s not ignore the root causes of the lack of candidates while we are noticing that the firms don’t hire and retain them in great numbers even when they pass all those tests.)

a. Recruit minorities into the auditing profession from other disciplines and careers.  (Huh?)

b. Emphasize the role of community colleges in the recruitment of minorities into the auditing profession.  (Yeah, just try to get most firms to change their recruiting rotation and choice of schools.  The list is usually embedded in the local DNA, and turns into a self fulfilling prophecy of, ” We recruit there because we get the best candidates. We get the best and most candidates from that school because we support that school. We support that school with endowments and other perquisites because we recruit there…”

c. Emphasize the utility and effectiveness of cross-sabbaticals with Historically Black Colleges and Universities [HBCU’s].

d. Increase the numbers of minority accounting doctorates through focused efforts.  (Whose focused efforts?  Got to get them into college first and then don’t ignore the ones with student visas from Nigeria and other places that are coming to small schools that are giving them a chance to change their lives. They are paying big money because they think you will actually hire them if they get good grades.)

4. Develop and maintain consistent demographic and higher education program profile data sets.

Subcommittee on Firm Structure and Finances

The Subcommittee on Firm Structure and Finances submits the following preliminary recommendations to the Advisory Committee on the Auditing Profession for its consideration:

1. Urge the creation of a center (preferably under the sponsorship of the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and/or the Center for Audit Quality (CAQ)) for auditing firms and other market participants to share fraud prevention and detection experiences, and further, encourage the auditing firms and other market participants to develop best practices regarding fraud prevention and detection and clarify communications with the public regarding auditor responsibility relating to fraud detection, all in order to strengthen the audit process and improve the likelihood of preventing and detecting fraud.

(The CAQ is the best choice.    That’s an industry trade organization.  They should support their member firms with this kind of information sharing. )

a. Urge the creation of a center (preferably under the sponsorship of COSO and/or CAQ) to facilitate auditing firms’ and other market participants’ sharing of fraud prevention and detection experiences, practices, and data and innovation in fraud prevention and detection methodologies and technologies, commission research and other fact-finding regarding fraud prevention and detection, and further, have the auditing firms, investors, other financial statement users, public companies, and academics develop, in consultation with the PCAOB, the Securities and Exchange Commission (SEC), international regulators, and the National Association of State Boards of Accountancy (NASBA), best practices regarding fraud prevention and detection.
b. Urge that the PCAOB and the SEC clarify in the auditor’s report the auditor’s role in detecting fraud under current auditing standards and further that the PCAOB review these standards.  (The bottom line is the firms do not want to be responsible for detecting fraud, Sarbanes-Oxley or not.  Who’s going to make them?)

2. Encourage greater regulatory cooperation and oversight of the public company auditing profession to improve the quality of the audit process and enhance confidence in the auditing profession and financial reporting.

a. Institute the following incentive mechanism to encourage the states to substantially adopt the mobility provisions of the Uniform Accountancy Act, Fifth Edition (UAA): Congress should pass a federal provision requiring the adoption of the mobility provisions of the UAA for those states failing to adopt these provisions of the UAA by December 31, 2010. (Need to look at this more closely.  Comments later…)

b. Require regular and formal roundtable meetings of the PCAOB, the SEC, the Department of Justice, state boards of accountancy, and state attorneys general, in a cooperative effort to improve regulatory effectiveness and reduce the incidence of duplicative and potentially inconsistent enforcement regimes.  (Sure.  Like this will happen…  Although I did see some SEC guys at the Standing Advisory Group of the PCAOB meeting.  Looks like at least these guys are talking and SEC talks to DOJ…)
c. Urge the states to create greater financial and operational independence of their state boards of accountancy.  (Are we admitting the state boards are not independent enough of the firms?  It’s an age old problem. None of these regulatory bodies has any credibility with the firms, an oh so important ingredient, unless it’s made up of alumni.  However alumni tend to continue to see things from the perspective of their firm and the profession rather than the investor.  More activist investors, I say, and plaintiff lawyers, yeah get the lawyers!  in these regulatory bodies. That’s my recommendation.  Ha.)

3. Urge the PCAOB and the SEC, in consultation with other federal and state regulators, auditing firms, investors, other financial statement users, and public companies, to analyze, explore, and enable, as appropriate, the possibility and feasibility of firms appointing independent members with full voting power to firm boards and/or advisory boards with meaningful governance responsibilities to improve governance and transparency at auditing firms.  (Yea.  This one made it.  Thanks Arthur, Don and Richard.  However, let’s see how this would work in real life.  The firms would select a friendly advocate from the list of companies that they can find no independence conflict with [a short list for sure], a company they are not doing significant business with yet but want to grow with.  Then they would have a revolving door as independence and other business conflicts conflicted those guys out every other month.


Oh, maybe a university professor would be good. I’m sure Prem Sikka is interested.  Or maybe a lawyer like John Coffey or Jake Zamansky. Maybe Jonathan Weil would be a good choice.  I think that would be a cool part-time gig for me.  I choose PwC.  Fat chance.

The average business executive “independent” director would rubber stamp the firm’s decisions because he would have neither an understanding of the firm’s business model nor any real authority or influence.  It’s a neat idea but really, probably, won’t work in reality.  But at least it will get some folks talking.  )

4. Urge the SEC to amend Form 8-K disclosure requirements to characterize appropriately and report every public company auditor change and to require auditing firms to notify the PCAOB of any premature engagement partner changes on public company audit clients.  (Yep.  Ask Chris Ames. Making sense out of the current SEC  noodle soup and getting a real story is next to impossible.  )

[The report added:]
“Observation: Further Subcommittee consideration of transparency and liability issues.

Subcommittee on Concentration and Competition

The Subcommittee on Concentration and Competition submits the following preliminary recommendations to the Advisory Committee on the Auditing Profession for its consideration:

1. Promote the growth of smaller auditing firms consistent with the overall policy goal of promoting audit quality. Because smaller firms are likely to become significant competitors in the market for large company audits only in the long term, the Subcommittee recognizes that Recommendation 2 will be a higher priority in the near term.

a. Require disclosure by public companies in their proxy reports of any provisions in material agreements with third parties limiting auditor choice.  (What’s this about?  Can anyone help me?)
Where is the requirement for full disclosure of financial results, according to GAAP, with full disclosure of litigation exposure and level of reserves?

2. Create a mechanism  (??????) for the preservation and rehabilitation (Is that what we want ?  To preserve and rehabilitate a corrupt, bankrupt firm?  The law firms let them die a natural death.) of troubled larger public company auditing firms.

a. Broadly monitor, through the Public Company Accounting Oversight Board (PCAOB) authority over registered firms, potential sources of catastrophic risk, which would threaten audit quality.
b. Establish a mechanism to assist in the preservation and rehabilitation of a troubled larger auditing firm. A first step would encourage larger auditing firms to adopt voluntarily a contingent streamlined internal governance mechanism that could be triggered in the event of threatening circumstances. If the governance mechanism failed to stabilize the firm, a second step would permit the Securities and Exchange Commission (SEC) to appoint a court-approved trustee to seek to preserve and rehabilitate the firm by addressing the threatening situation, or if such a step were unsuccessful, to pursue a reorganization.

3.  Promote the understanding of and compliance with auditor independence requirements among auditors, investors, public companies, audit committees, and boards of directors, in order to maintain investor confidence in the quality of audit processes and audits.

a. Compile the SEC and PCAOB independence requirements into a single document and make this document website accessible. The American Institute of Certified Public Accountants (AICPA) and states should clarify and prominently note that differences exist between their standards and those of the SEC and the PCAOB and indicate, at each place in their standards where differences exist, that additional SEC and PCAOB independence requirements applicable to public company auditors may supersede or supplement the stated requirements. This compilation should not require rulemaking by either the SEC or the PCAOB because it assembles existing rules.
b. Develop training materials to help foster and maintain the application of healthy professional skepticism with respect to issues of independence among public company auditors, and inspect auditing firms, through the PCAOB inspection process, for independence training of partners and mid-career professionals.  (The SEC, DOJ, and PCAOB are the ones that need more training on this .  They’re letting the firms get away with too much because their field inspectors and investigators are former auditors and not skeptical professional services firm partner level professionals or lawyers with the training needed to root these issues out and not wait for the firms to self-report.)
Where are the standards and practices applicable to high priced former government officials hired as roving lobbyists and ambassadors of the firms?What professional standards, including independence, are they being held to?


4. Adopt annual shareholder ratification of public company auditors by all public companies.  (Yes.  Absolutely.  Critical.  Get these issues out in the public eye.  No more sliding in a firm over and over again, even though they lack independence, for example…)

5. Enhance continuously regulatory collaboration and coordination between the PCAOB and its foreign counterparts, consistent with the PCAOB mission of promoting quality audits of public companies in the United States.  (Interesting.  How about making the firms take more responsibility for their foreign offices and not be able to hide behind the shield of complex legal entity?   Taking money from each other, across international borders, representing themselves as a global enterprise and then disclaiming knowledge of their actions later when someone does something illegal sounds like a RICO issue to me. )

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6 Responses »

  1. Francine, thanks for citing FEI blog summary of Treasury ACAP mtg.. you have a knack for catching subliminal (probably unintended, but nonetheless interesting) metaphor in the committee’s abbreviated name …. In general, there are often varying points of view on many current topics being discussed in various venues today – I find your analysis of issues of interest given your experience in the industry.

  2. [...] and begged, borrowed, or worse enough to cover the judgement if they lose on appeal?  Given the lack of transparency of all the audit firms with regard to actual profits and reserves for such contingencies, [...]

  3. [...] touched on audit industry issues. The Treasury’s Advisory Committee on the Auditing Profession (ACAP), a panel formed after the Enron scandal, also delivered recommendations in early [...]

  4. First, thank you for your excellent work on this blog and at Forbes. I am a reader and in Internet lingo, a lurker.

    Please take this criticism in the flattering light in which it is written, for I believe you are one of the few experts who will at least understand the point I am trying to make, and the post above is an example of it.

    To frame it, let us agree that the financial crisis highlighted just how far off the reservation many of our professional classes have gone. In too many respects, they are merely a regulated transactional tax without significantly adding value. Markets are defined by some very simple rules. One of them is communication. So then we come back to the FASB and government institutions like the SEC, and return to elementals:

    1. Financial instruments are no longer readable, even by experts. What is off-Balance sheet? And do not tell me that the issue becomes nuanced. I could take 20 laymen off the street and in a morning explain to them the principles of accounting necessary to make a pronouncement on whether a firm’s financial statements materially reflected reality. And I wager 18 of 20 of them would agree on any example we put in front of them. And I wager that given current FASB rules, 18 of 20 would agree that most large public firm financials are intentionally obfuscatory and materially misleading.

    2. Auditing is BS and has been for decades. The examples of failure are everywhere. Let me make my point this way: Let us say that the goal is a true “Opinion” of accuracy and honest representation, without chance of material malfeasance with 95% confidence. If that is a valid goal, then I submit that the whole auditing approach is wrong, audit firm pyramid structure is wrong, and regulation is too concerned with the status quo and sees only the trees instead of the forest. Regulation aside, is the above goal possible without impossible fees? Damn straight it is. That is not the problem. The problem is that most auditors wouldn’t know how to go about it.

    So if we begin with these two simple precepts, the auditing profession is bankrupt, both morally and technically. It has failed to accomplish its primary purpose; ensure the sanctity of markets. Even more spectacularly and telling, the larger the entity, the worse it is. The ‘top’ of a profession should be its best, not its worst. We have fallen into the weeds so far that we no longer think rationally. The question is not whether to ‘preserve’ the Big 4, but whether we would all be better off, especially the investor, without them. I submit we can make an argument that they would be, and that is a terrible indictment of the state of the profession.

    And so all the propositions in the post above are fiddling, acting as small band-aids to preserve a broken system that asks for even higher contributions from taxpayers for almost no return. Until the profession views say, the Bernie Madoff and Lehman fiascos as serious fundamental signals that we are now staring at a professional corpse, we will get nowhere.

    There is now a real argument that we go back to basics, clear all the clap trap away, and begin again. Serious self-reflection, simplification and renewal is a proper and appropriate response to complete failure.

  5. @Jim

    Thanks for reading. It’s ok to be a lurker. People contribute in many ways to the discussion. Perhaps yore one who has told others about my work and therefore supported me behind the scenes until now. I’m grateful.

    I agree with you wholeheartedly. The point of my post – and I’ve said it many times since – is that the thing the accounting industry wants most is liability caps or a full blown safe-harbor from litigation. Then they can go on and do their work under a government sponsored franchise, making oligopolistic profits, in peace.

    It’s time to create a new assurance product that the capital markets and investors need and to deliver that product in a truly independent way.

  6. Thank you for your reply. Until our lawmakers insist on writing laws that protect markets instead of pandering to social classes, I fear new assurance products will not find a solid grip in the market unless they can find a way to do so at less cost. Which is a very high bar.

    I long ago gave up on waiting for the fiduciary duty of the FASB.

    The story of our times could easily be written through the lens of the erosion of our professional institutions’ sense of propriety, idealism, excellence, fiduciary duty and mea culpa. Even my dentist is selling me now, and I think twice before telling my doctor anything. On the other hand, Mancur Olson would probably say that is how all nations eventually fall.

    Keep up your passionate work. I am a great fan and I am heartened to meet your words. Too many professionals give up on the big picture as unalterable. A chorus must rise which can not be politicized or ignored.

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