October 29, 2021

Auditor Independence: Stay Vigilant

The SEC’s Acting Chief Accountant, Paul Munter, issued a statement earlier this week. I might be reading too much into it, but when public statements are issued out of the blue, I take it to mean that there’s some urgency and importance to the issue, and the SEC might be paying extra attention to it.

The purpose of this particular statement is to remind auditors, managers, and audit committees of the importance of auditor independence – and the need to continually monitor independence in light of business activities & relationships. Here’s an excerpt:

We continue to encourage audit committees to consider the sufficiency of the auditor’s and the issuer’s monitoring processes, including those that address corporate changes or other events that potentially affect auditor independence. This is particularly relevant in the current environment as companies seek to access public markets through new and innovative transactions, and audit firms continue to expand business relationships and non-audit services.

Management, the audit committee and the independent auditor should proactively seek to inform themselves of any potential impact to auditor independence, in fact and appearance, as companies negotiate potential transactions with third parties. This requires all parties to potential transactions to understand the filings that could be required by such transactions, the existing auditors’ relationship with counterparties, and the potential impact of transactions and the auditor’s relationships with the counterparty on the existing auditor’s ability to continue to comply with the Commission’s auditor independence rule applicable to such filings. This proactive monitoring requires management, the audit committee, and the independent auditor to each consider the potential effects of the auditor’s existing business and service relationships with other companies on the auditor’s ability to remain independent of the issuer if a contemplated transaction is consummated.

For example, it is important to understand what business relationships exist, including non-audit service relationships, between the audit firm and other entities that will, or in the future could, require an audit, become the existing audit entity’s affiliates, or result in other companies that have significant influence over the entity. Given the importance of independence as it relates to the audit of financial statements, these relationships and services and their implications to auditor independence should be carefully considered when management is negotiating the timing and substance of a transaction with third parties.

The statement also urges an understanding of the general standard of independence in Rule 2-01 of Reg S-X. This Cooley blog provides even more context and lays out the bottom line for companies:

It is important for companies to keep in mind that violations of the auditor independence rules can have serious consequences not only for the audit firm, but also for the audit client. For example, an independence violation may cause the auditor to withdraw the firm’s audit report, requiring the audit client to have a re-audit by another audit firm. As a result, in most cases, inquiry into the topic of auditor independence should certainly be a recurring menu item on the audit committee’s plate.

Liz Dunshee