SEC Chief Accountant Paul Munter released one of his insightful statements yesterday on the topic of fostering a healthy “tone at the top” at audit firms, and I think his guidance is applicable to other professional service organizations as well. Munter notes:
To be an effective public watchdog, audit-firm leadership must set the right tone at the top by always placing the public-interest obligations of our profession ahead of business interests and profits. Doing so is essential for educating and instilling in our young accountants the critical importance of acting ethically, with integrity and fidelity to the public trust in all our professional activities. These are core tenets of the accounting profession.
Munter highlights how tone at the top is particularly important in audit firms, noting:
For example, setting a proper tone at the top is critical in supporting auditors’ ability to exercise professional skepticism—having an attitude that includes a questioning mind and a critical assessment of audit evidence at all times. We understand that skepticism can prolong an audit by requiring auditors to obtain additional audit evidence and perform additional, but necessary, procedures to have sufficient appropriate audit evidence in support of the audit opinion. Such time pressures “can create an environment in which audit quality might be compromised if engagement team members, at any level, perceive that their individual performance is measured primarily by meeting time deadlines and budget estimates.” So in order for a less-experienced accountant on an engagement team to be empowered to exercise such skepticism, they need the unwavering support of engagement team and firm leadership, who should shield members of the engagement team from client pressure and resist the desire to wrap up an engagement quickly so that they can move on to the next book of business.
Tone at the top is also critical for having an effective quality control system. Leaders who understand and are dedicated to their role in protecting the interests of investors through adherence to professional ethics, values, and attitudes—and instilling those priorities in their employees—are the foundation of a strong quality control system.
So when firm leadership fails to set a strong tone at the top¬—for example, by sweeping mistakes and bad behavior under the rug, treating violations of law as isolated incidents or the “cost of doing business,” not holding wrongdoers throughout the firm and across service lines accountable, or changing their firm structures in ways that could pose future independence challenges for the firm with respect to its audit engagements—they risk eroding the firm’s culture, professional skepticism, quality control systems, and public responsibility as gatekeepers of our capital markets.
Munter’s statement goes on to recommend how to instill a healthy “tone at the top” into the organization, including taking appropriate actions rather than merely relying on a code of ethics, setting an appropriate example, integrating ethics and character into the firm’s hiring, retention, and promotion criteria, making professional integrity and an integral part of the promotion and compensation process, promoting candor and transparency and avoiding conflicts in the firm’s business structure (e.g., selling a portion of the firm to a third party).
If you are interested in the SEC Chief Accountant’s important role in shaping accounting and audit policy over the course of the SEC’s history, check out this exhibit that I curated for the SEC Historical Society.
Today on CompensationStandards.com at 2:00 pm Eastern, join us for the webcast – “The Top Compensation Consultants Speak” – to hear Blair Jones of Semler Brossy, Ira Kay of Pay Governance and Jan Koors of Pearl Meyer discuss the latest considerations for compensation committees. The panel will be covering the following topics:
– Year 2 of Pay vs. Performance
– Incentive Plans – Setting Goals and Considering Adjustments
– Trends in Strategic and Operational Metrics
– Clawback Policies – What HR Teams and Compensation Committees Are Focusing on Now
– Human Capital Management – Recent Considerations and Disclosure Trends
– Director Compensation Today
Members of CompensationStandards.com are able to attend this critical webcast at no charge. If you’re not yet a member of CompensationStandards.com, subscribe now. If you need assistance, send us an email at info@ccrcorp.com – or call us at 800.737.1271.
We will apply for CLE credit in all applicable states (with the exception of SC and NE, which require advance notice) for this 60-minute webcast. You must submit your state and license number prior to or during the program using this form. Attendees must participate in the live webcast and fully complete all the CLE credit survey links during the program. You will receive a CLE certificate from our CLE provider when your state issues approval, typically within 30 days of the webcast. All credits are pending state approval.
On Monday, the PCAOB adopted two new standards. First, the PCAOB adopted a new audit quality control standard, replacing the existing AICPA standard that pre-dated the creation of the PCAOB. The new standard requires all PCAOB registered firms to identify their specific risks and design a quality control system that includes policies and procedures to address those risks. The PCAOB’s announcement notes the following key provisions of the new audit quality standard:
– The new standard strikes a balance between a risk-based approach to QC (which should drive firms to proactively identify and manage the specific risks associated with their practice) and a set of mandates (which should assure that the QC system is designed, implemented, and operated with an appropriate level of rigor).
– All PCAOB-registered firms would be required to design a QC system that complies with the new standard. Firms that perform audits of public companies or SEC-registered brokers and dealers would be required to implement and operate the QC system they design, monitor the system, and take remedial actions where policies and procedures are not operating effectively – creating a continuous feedback loop for improvement.
– Those firms would be required to annually evaluate their QC system and report the results of their evaluation to the PCAOB on new Form QC, which would be certified by key firm personnel to reinforce individual accountability.
– Firms that audit more than 100 issuers annually would be required to establish an external oversight function for the QC system, referred to as an External QC Function (EQCF), composed of one or more persons who can exercise independent judgment related to the firm’s QC system. In response to comments, the new standard clarifies that the EQCF’s responsibilities should include, at a minimum, evaluating the significant judgments made and the related conclusions reached by the firm when evaluating and reporting on the effectiveness of its QC system.
The new audit quality standard will apply to all PCAOB-registered firms. Subject to approval by the SEC, the new standard and related amendments will take effect on December 15, 2025.
The PCAOB also adoptedAS 1000, General Responsibilities of the Auditor in Conducting an Audit, along with related amendments to other PCAOB standards. The PCAOB’s announcement of the new standard notes: “AS 1000 enhances and consolidates a group of standards that were adopted on an interim basis by the PCAOB in April 2003 and that address the general principles and responsibilities of the auditor, such as due professional care, professional skepticism, competence, and professional judgment.” This new standard will apply to all audits conducted under PCAOB standards. Subject to approval by the SEC, the new standard and related amendments will take effect for audits of financial statements for fiscal years beginning on or after December 15, 2024. For certain firms, the amendment relating to the documentation completion date will take effect for audits of financial statements for fiscal years beginning on or after December 15, 2025.
The committee advises and consults with the Commission on rules, regulations, and policies as they relate to:
– Capital raising by emerging, privately held small businesses and publicly traded companies with less than $250 million in public market capitalization;
– Trading in the securities of emerging companies and smaller public companies; and
– Public reporting and corporate governance requirements of emerging companies and smaller public companies.
Interested persons should email a letter of interest to smallbusiness@sec.gov with information about their relevant experience. The deadline for submissions is June 14, 2024. The SEC’s announcement lists the particular experience that would be relevant to service on the Small Business Capital Formation Advisory Committee.
Our early bird in-person Single Attendee Price is $1,750, which is discounted from the regular $2,195 rate. If you can’t make it in person, we also offer a virtual option, and we offer discounted rate options for groups of virtual attendees.
You can register now by visiting our online store or by calling us at 800-737-1271.
Don’t miss PracticalESG.com’s free virtual event – “Developments in EU Policy and ESG Disclosure Assurance.” You can register here for this 3-hour program, which will kick-off at 12:00 pm eastern today, May 14th. This virtual event features three panels of experts who will provide insights into the intricate policy landscape shaping EU regulations, strategies for ensuring compliance, and what to expect in ESG/climate report assurance and how to prepare for it.
These events are free to all – you don’t have to be a member of PracticalESG.com to attend. But if you’re attending events like these, you need the resources that PracticalESG.com provides. Become a member today by clicking here, emailing sales@ccrcorp.com or by calling (800) 737-1271.
If you are looking for other reasons to become a member of PracticalESG.com, I note from Zach Barlow’s post on the PracticalESG.com blog that the site’s newest feature is now live – a Glossary of the ever-growing collection of acronyms, terms and abbreviations that make up the ESG, climate, sustainability and DEI landscape. This is an essential resources for everyone who works in areas that touch on these topics. You can become a member of PracticalESG.com today by clicking here, emailing sales@ccrcorp.com or by calling (800) 737-1271.
I have to admit, after having spent almost three decades now either regulating or advising on the preparation of issuer disclosure, I sometimes wonder, is it really serving any purpose? For example, it always troubles me that when I receive a prospectus or proxy statement in the mail, I never actually have time to review it, because I am too busy helping issuers with their prospectuses and proxy statements! Well, my self-doubt was assuaged last week in a speech by Chair Gensler before the 11th Annual Conference on Financial Market Regulation, where he extolled, among other things, the benefits of issuer disclosure on the financial markets. After describing the Commission’s efforts toward making issuer disclosure easily accessible to the public through the EDGAR system, Chair Gensler concluded:
Adam Smith’s nearly 250-year-old notion—that the whole economy benefits when the price of information is lowered, or information is free—is as relevant today as it has ever been. The SEC, as mandated by Congress, has an important role to promote data as a public good.
I’m proud to work with all of my colleagues at the SEC, including those of you from DERA, to ensure for the public good of data.
With Chair Gensler’s encouragement, I can now go about my day promoting data as a public good!
We are now just a little over two weeks away from the new T+1 settlement timeframe, which will be implemented over the Memorial Day holiday weekend across securities markets in the U.S. What seemed like a distant to-do list item the last time I blogged about the move to T+1 is now very much a reality. Here are few last-minute considerations for you as we hurtle toward this more rapid settlement cycle:
1. If you have a contemplated capital markets transaction over the course of the next few weeks, it will be important to adjust the timeline for when you will conduct diligence calls, obtain signed documents and make filings with the SEC. For example, deal teams will need to prepare for a much quicker timetable for filing a prospectus or prospectus supplement in a T+1 settlement cycle, even though SEC rules permit filing on the second or fourth day after first use of a prospectus or prospectus supplement.
2. If you have a selling securityholder transaction that will settle after the T+1 settlement cycle goes into effect, keep in mind all of the documents and actions that will be required in anticipation of settlement, including such things as medallion guarantees, delivery of “wet ink” signatures and “know your customer” or “customer due diligence” documentation and delivery of delegending and local counsel opinions. Now is the time to plan for these matters given the impending compressed settlement timeframe.
3. For issuers with active “at-the-market” or “ATM” offerings, note that, after the Memorial Day weekend, ATM sales will settle on a T+1 basis, so now is a good time to modify your procedures and timelines around ATM sales to accommodate the faster settlement cycle.
4. Beginning on May 29, 2024, the ex-dividend and ex-rights dates for dividend payments and rights distributions will be the same date as the record date for the relevant dividend or distribution. During the transition, ex-dividend dates will be as follows: (i) if the Record Date is May 24, the Ex-Dividend Date will be May 23; (ii) if the Record Date is May 28, the Ex-Dividend Date is May 24; and (iii) if the Record Date is May 29, the Ex-Dividend Date is May 29.
5. If you are contemplating a global securities offerings, note that markets outside North America will remain on their current settlement cycle, potentially resulting in conflicting timelines for documentation and funds flow. These issues may be particularly acute when dealing with markets in Asia due to time zone issues.
With just two weeks to go, now is the time to act! This is one of those times when pulling out the last deal’s timeline and documents just won’t cut it, you will need to dig deep to anticipate all of the potential consequences of a faster settlement, while managing your client’s expectations.
It boggles my mind that, almost fourteen years after the Dodd-Frank Act was enacted, we still have unfinished rulemaking directives from that legislation. For those of you who may not have been practicing fourteen years ago, the enactment of Dodd-Frank was a big deal, because at the time we were still very much hurting from an extraordinary financial crisis for which there had been little accountability. Unfortunately, instead of accountability, we got some real gems of new disclosure rules out of the Dodd-Frank Act, such as pay versus performance, CEO pay ratio, conflict minerals and resource extraction payments. But one piece of Dodd-Frank actually sought accountability through rigid limitations on incentive compensation at financial institutions, and that is the rulemaking that remains unfinished to this day.
As Meredith noted last week on The Advisors’ Blog on CompensationStandards.com, some of the financial institutions tasked with writing the incentive compensation rules recently took action to re-propose the rules, which were last proposed in June 2016. Last week, the FDIC, the Office of the Comptroller of the Currency, and the Federal Housing Finance Agency adopted a Notice of Proposed Rulemaking to address incentive-based compensation arrangements, as required under Section 956 of the Dodd-Frank Act. The National Credit Union Administration is expected to take action on the proposed rules in the near future, and the SEC has included a rulemaking to implement Section 956 on its rulemaking agenda. The Board of Governors of the Federal Reserve did not join the joint proposal of the banking regulators, with Chair Powell recently testifying: “I would like to understand the problem we’re solving, and then I would like to see a proposal that addresses that problem.”
As this Sullivan & Cromwell memo notes, the proposed rules is consistent with the 2016 proposed rule and includes the following key provisions:
– Approach to Proportionality. Covered institutions are categorized into three tiers based on average total consolidated assets, with increasingly stringent requirements applying to institutions with over $1 billion, $50 billion and $250 billion in assets (Level 3, Level 2 and Level 1 covered institutions, respectively).
– Defining Covered Persons. Additional, more stringent rules apply to incentive-based compensation paid to “senior executive officers” and “significant risk-takers” at Level 1 and Level 2 covered institutions. The proposed rule provides a list of roles that would be classified as senior executive officers and identifies significant risk-takers based on relative compensation levels or ability to commit or expose 0.5% of the covered institution’s capital.
– Limits on Incentive Opportunity & Structures. At Level 1 and Level 2 covered institutions, the maximum earned incentive for senior executive officers is limited to 125% of the target amount, and for significant risk-takers is limited to 150% of target. (There are no fixed limits on the absolute size of potential targets.) General requirements for performance determinations would apply to all covered institutions, and Level 1 and Level 2 covered institutions would face prohibitions on the use of relative or volume-driven performance measures in isolation.
– Mandatory Deferral Requirements. The proposed rule introduces longer deferral periods (up to four years after the end of the performance period) and higher minimum deferral amounts (up to 60%) for incentive-based compensation depending on whether the covered institution is Level 1 or Level 2 and whether the individual is a senior executive officer or significant risk-taker. Deferred incentive-based compensation generally may not vest faster than on a pro rata annual basis beginning on the first anniversary of the end of the performance period and must include a “substantial portion” of both equity-like instruments and deferred cash.
– Putting and Keeping Pay at Risk. All incentive-based compensation for senior executive officers and significant risk-takers at Level 1 and Level 2 covered institutions must be subject to downward adjustment, forfeiture and clawback. The proposed rule includes a list of triggering events that require a downward adjustment and forfeiture review at Level 1 and Level 2 covered institutions. In addition, it would subject incentive pay to clawback for seven years after compensation vests.
– Governance, Risk Management and Recordkeeping Requirements. New requirements would apply to board of director and compensation committee oversight and approvals. Covered institutions would be subject to annual recordkeeping and seven-year retention requirements, with records disclosed to the appropriate Agency on request. The proposed rule also contains specific risk management and control requirements.
In my view, Section 956 of the Dodd-Frank Act was flawed from the start, making this rulemaking effort particularly challenging for the financial regulators. The reactionary approach taken by Congress in Section 956 was perhaps somewhat understandable in the wake of the financial crisis, but now seems overboard given that we are over a decade and a half removed from that particular situation. Unfortunately, the financial institutions regulators are stuck with the statutory directive, making it difficult for them to adopt rules that are more reflective of where we stand today.
