PCAOB Warns About Using Work of Foreign Auditors

The Public Company Accounting Oversight Board has issued an alert cautioning audit firms about using work performed by others outside the United States.

The PCAOB’s Staff Audit Practice Alert was prompted by the observation during some PCAOB inspections that some U.S.-based firms are issuing audit reports based on work performed by other firms and assistants outside the U.S. and not properly applying PCAOB standards. In recent years, a number of companies, particularly companies operating largely in China, have come to have securities trading in the U.S. by engaging in reverse mergers with U.S. shell companies that have previously registered their securities under U.S. law, the PCAOB noted. For many such companies, the audit report is issued by registered public accounting firms located in the U.S., including smaller firms, even though the majority of audit procedures are performed by auditing firms or individuals located outside the U.S. These types of arrangements have been a focus of the PCAOB’s inspection process.

The practice alert reminds registered firms of their obligations when using the work of other firms or using assistants engaged from outside the firm. It describes the circumstances under which the firm issuing the audit report may use the work and reports of another auditor. The alert also notes that auditors who engage assistants from outside the firm are governed by the same standards regarding planning the audit and supervising assistants that apply when audit work is performed by assistants who are partners of, or employed by, the auditor's firm.

The practice alert describes examples in which PCAOB inspectors reported having observed that a U.S. audit firm issued an audit report on the financial statement of an issuer in the China region, despite the fact that the firm’s personnel did not travel to the China region during the audit, and the work performed by an accounting firm in the China region retained by the U.S. audit firm in connection with the audit constituted substantially all of the audit procedures on the issuer’s financial statements. In another example of the problem, a U.S. audit firm issued an audit report on the financial statement of an issuer in the China region, despite the fact that none of the U.S. firm’s partners or employees traveled to the China region or planned, performed, supervised, or meaningfully reviewed the audit work of consultants it retained to serve as assistants on the audit who could read, write, and speak the language of the area in which the issuer’s operations were located.

“Investors are put at risk when the firm issuing the audit report has performed none of the procedures itself, or cannot effectively communicate with those conducting significant audit procedures because of language barriers,” said George Diacont, director of the PCAOB’s division of registration and inspections.