SEC Seeks Reform Of Auditor Controls
Battered Enron Fires Accounting Firm
"The AICPA has long struggled with a conflicted mission. There have been two camps inside the group -- "
those who believed. . . that the profession's
first responsibility was to protect the public good,"
and others who believed the AICPA's efforts "should primarily be directed toward the benefit of its
members," according to a history by past
president Philip B. Chenok."
By David S. Hilzenrath
Washington Post Staff Writer
Friday, January 18, 2002; Page A01
The chairman of the Securities and Exchange Commission yesterday proposed the most significant change in the way
accountants are regulated since the Great Depression in an effort to restore the public's trust in corporate financial
statements.
"We simply cannot afford a system like the present one that facilitates failure rather than success,"
SEC Chairman Harvey L. Pitt said, noting a pattern of increasingly frequent corrections to corporate earnings reports and massive investor losses,punctuated most recently by the bankruptcy of Enron Corp.
Enron yesterday fired its longtime auditor, Arthur Andersen, as the fallout from Enron's collapse continued
to spread
[Details on Page A8].
Pitt said the heart of his plan is "a tough,
no-nonsense" disciplinary body. The new oversight
board would be funded by the private sector but
kept separate from the American Institute of Certified Public Accountants (AICPA), a lobbying and trade
group that has long been responsible for professional discipline.
The SEC would continue to handle cases involving
legal violations, and it would also review disciplinary actions taken by the new board.
Though the industry has vigorously opposed past attempts to limit its control of professional discipline, accounting
industry leaders generally supported Pitt's plan. "I think we need to make this happen," AICPA President Barry Melancon
said. "I can't say that conceptually . . . that I disagree with him."
The plan comes as the SEC, the Justice Department and several congressional committees investigate Enron's collapse,including accounting maneuvers that hid large debts from public scrutiny.
Pitt said the plan he outlined yesterday was still at an early stage. The SEC will consult members of Congress,
he said, as well as every constituency that has a stake in the outcome before proposing any formal regulations. He said he would work with Congress if legislation is needed.
"I place restoring the public's confidence in the auditing profession to be immediate goal number one," Pitt said.
Former SEC Chairman Arthur Levitt Jr., who battled industry lobbyists with limited success to regulate audit firms more
strictly, said Pitt's plan is a "a good first step" and "moves the ball a little bit."
Other observers expressed skepticism.
Barbara Roper, director of investor protection at the Consumer Federation of America, said the accounting industry's poor track record in maintaining the integrity of financial statements calls for more fundamental
change -- taking audit work
away from the big accounting firms and creating a government-sponsored watchdog to do the job.
"As long as auditors are paid by the audit client and are concerned not to lose the business of the audit client, they will not be independent, particularly when they also have tens of millions of dollars in consulting contracts also on the line," Roper
said.
Enron's November disclosure that it had overstated profits and understated debts helped drive it into bankruptcy, and
Andersen's subsequent announcement that it destroyed many Enron-related records damaged the profession's already
tarnished image.
As a lawyer in private practice, Pitt represented the AICPA and each of the five largest accounting firms, including
Andersen.
His comments at a news conference yesterday contrasted with the posture he struck last fall, when he promised
"a kinder, gentler" approach to the accounting profession and others regulated by the agency.
In an interview in November,
he said the SEC was partly to blame for the wave of financial corrections because in hindsight it faulted accounting judgments made in good faith.
A Washington Post study of the accounting profession, published last month, found a system of lax or limited enforcement.
The SEC, constrained by inadequate resources, tackles only the worst cases of alleged accounting abuse, officials said.
The Post examined more than a decade of SEC professional misconduct cases against accountants and found that the
AICPA took disciplinary action against fewer than a fifth of those sanctioned by the SEC. Even when the AICPA found that accountants sanctioned by the SEC had committed violations, it closed the vast majority of ethics cases without disciplinary action or public disclosure. Instead, it typically issued confidential letters directing the offenders to undergo additional
training.
Cases often took many years to resolve because they were put on hold while private lawsuits against the accountants ran their course. At the end of the process, the AICPA's maximum penalty is expelling a member from the organization.
Pitt said the new oversight body would:
• Have the power to ban auditors from reviewing the books of publicly traded corporations.
• Be dominated by members of the public, not members of the accounting profession.
• Be able to gather evidence and compel witnesses to testify.
• Publicize its disciplinary actions.
• Do its work "expeditiously."
The SEC would oversee the board and investigate cases of suspected lawbreaking, while the proposed regulatory body
would handle cases that involved alleged incompetence or violations of professional ethics.
The new body would also take over the job of monitoring accounting firms' performance, ending the current "peer review" system in which firms examine each other's work for quality-control purposes. No major accounting firm has failed a peer review.
Pitt said the private sector would "bear the responsibility for staffing and funding" the new body. An SEC spokeswoman
said the money could come from accounting firms, corporations and stock exchanges.
Pitt envisions the SEC appointing
the leaders of the oversight group but that aspect is "still in the works," spokeswoman Christi Harlan said.
Pitt said the SEC will consider restricting auditors from taking jobs at their audit clients, a common practice that some critics say compromises auditors' independence.
Asked if he is thinking of restricting another alleged conflict of interest -- the sale of consulting services by audit firms to clients -- Pitt said his concern focuses on the way individual auditors are compensated. Auditors have been rewarded based on the volume of consulting fees they generate from the companies they audit.
Howard Schilit, president of the Center for Financial Research and Analysis in Rockville, which scrutinizes corporate accounting for institutional investors, said Pitt's plan represents only
"5 percent of the solution."
The problem, he said, is with the auditors themselves.
"They don't understand what it means to serve the public interest."
Levitt said he understood that the plan could allow accounting firms to have final disciplinary judgments postponed until any lawsuits against the auditor are resolved, which could result in the kind of delays that plague the current system. The SEC spokeswoman said such details have not been decided.
Charles A. Bowsher, chairman of the Public
Oversight Board, which oversees the current
industry-funded peer-review system, said Pitt's
plan is "a step backward" because it would allow
much of the oversight group's membership -- just
short of a majority -- to come from the accounting profession.
Sen. Jon S. Corzine (D-N.J.), a member of the Banking Committee, said that the plan was "unacceptable" and that the SEC should do the oversight job itself. "A private sector organization will be largely dependent on the accounting industry for its survival," he said.
Four of the Big Five accounting firms -- KPMG, PricewaterhouseCoopers, Ernst & Young and Andersen -- said they generally supported the proposal. A spokesman for Deloitte & Touche could not be reached. An Andersen spokesman said, "We look positively on anything that restores public confidence and improves audit quality."
Melancon, the AICPA president, said responsibility for setting auditing standards would remain with the AICPA.
Another private-sector group, the Financial Accounting Standards Board, sets the rules that govern corporate accounting. Pitt urged FASB to do a better job.
Pitt yesterday declined to say whether he would recuse himself from future involvement in the Enron case in light of his past relationship with Arthur Andersen. Asked about the destruction of documents, he said the SEC will turn its "full wrath" on anyone who obstructs an agency investigation.
In the 1930s, Congress gave the SEC the power to set accounting standards, but the agency has largely ceded that role to private-sector groups.
The AICPA has long struggled with a conflicted mission. There have been two camps inside the group -- "those who believed. . . that the profession's first responsibility was to protect the public good," and others who believed the AICPA's efforts "should primarily be directed toward the benefit of its members," according to a history by past president Philip B. Chenok.
Staff writer Dana Hedgpeth contributed to this report.
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