Audits performed by international accounting firms are becoming progressively more defective, posing a threat to investors’ decision-making capabilities. A U.S. Public Company Accounting Oversight Board (PCAOB) report revealed that approximately 40% of the audits they reviewed in 2022 were so deficient that the auditing firms lacked adequate evidence to support their opinion on clients’ financial statements or financial reporting.
The quality of audits has been on a downward trend in recent years, with the report highlighting that the most substantial increase in defects was found among global network firms, including the “Big Four” accounting firms: Deloitte, EY, KPMG, and PwC. The PCAOB discovered that 34% of audits in 2021 and 29% in 2020 were deficient.
Taking into account other shortcomings in PCAOB standards, the regulator found that nearly 60% of audits were defective, up from 55% in 2021 and 44% in 2020. The PCAOB has sought to raise public awareness of defective audits by enhancing the transparency of its inspection process. Earlier this year, it pledged to disclose more information about audit firms’ independence violations and allow for a comparison of different firms’ deficiency rates. The PCAOB also penalizes audit firms that breach its standards or related U.S. laws. However, critics argue that the PCAOB lacks the strength to effectively regulate the audit industry. Two decades after its establishment, audit quality is declining, and the PCAOB is currently engaged in efforts to reinforce auditor responsibilities to detect fraud.
J. Edward Ketz, an associate professor at Pennsylvania State University’s Smeal College of Business, stated, “The penalties imposed by PCAOB have not changed behavior; one can conclude that the fines are too small to change the thinking of audit partners.” He added that auditors’ resistance to identifying fraud is another indication of the PCAOB’s ineffectiveness as a regulator.
The PCAOB report indicates that audit firms attribute the escalating flaws in their work to the necessity of remote work due to the COVID-19 pandemic, unusually high staff turnover, and the subsequent employment of less experienced personnel. However, PCAOB chair Erica Williams dismissed these pandemic-related justifications. In an op-ed for the Wall Street Journal, she argued that three years into the pandemic, these challenges should no longer be novel and firms ought to have strategies to address them. In a separate statement, Williams labeled the report’s findings as “utterly unacceptable” and urged firms to implement changes for improvement.
However, the more significant issue is whether the PCAOB possesses the capacity to exert sufficient pressure on audit firms to alter their operational methods. Francine McKenna, the author of The Dig, a newsletter focusing on the auditing industry, contends that the PCAOB’s effectiveness as a regulator continues to be hindered by industry influence and political pressure.
McKenna told ICIJ, “The PCAOB is a regulatory body that was never truly endowed with the authority and influence to instruct audit firms, ‘You need to enhance, you need to accomplish it, or there will be consequences.'” She added, “The largest firms have the advantage and are operating without fear of punishment.”
