Big 4 Firms Fight Against Metrics That Would Reveal the Workloads Behind the Curtain

While the AICPA and large accounting firms have begged urged the SEC not to approve the PCAOB Firm and Engagement Metrics rule (PCAOB-2024-06) approved by the PCAOB on November 21, 2024, at least one person would like to see the added transparency this rule could provide and he’ll explain why in a comment letter we’ll discuss below. As a refresher, this rule requires reporting of metrics at both the firm and the engagement levels.

Those metrics are (text taken directly from the PCAOB):

• Partner and Manager Involvement. Hours worked by senior professionals relative to more junior staff across the firm’s large accelerated and accelerated filer engagements and on the specific engagement.
• Workload. For senior professionals who incurred hours on large accelerated or accelerated filer engagements, average weekly hours worked on a quarterly basis, including time attributable to all engagements, administrative tasks, training, and all other matters.
• Training Hours for Audit Personnel. Average annual training hours for partners, managers, and staff of the firm, combined, across the firm and on the engagement.
• Experience of Audit Personnel. Average number of years worked at a public accounting firm (whether or not PCAOB-registered) by senior professionals across the firm and on the engagement.
• Industry Experience. Average years of career experience of senior professionals in key industries audited by the firm at the firm level and the audited company’s primary industry at the engagement level.
• Retention of Audit Personnel (firm-level only). Continuity of senior professionals (through departures, reassignments, etc.) across the firm.
• Allocation of Audit Hours. Percentage of hours incurred prior to and following an issuer’s year-end across the firm’s large accelerated and accelerated filer engagements and on the specific engagement.
• Restatement History (firm-level only). Restatements of financial statements and management reports on internal control over financial reporting (“ICFR”) that were audited by the firm over the past three years.

The PCAOB believes tracking these metrics “will not be overly costly, time-consuming, or burdensome” as most firms are already tracking some or most of these metrics internally; firms say “nah fam.”

To be clear, I have made my contempt for the PCAOB well known on this website over the past 16 years (contempt might be too strong a word). In my view, and in that of many others, they’ve pointlessly pushed paper around for the 20+ years they’ve been around. Worse, in recent years they’ve gotten petty in a way that leads me to believe they care more about big fines to justify their existence than they do about getting to the core of the audit profession’s issues. See also Project on Government Oversight’s 2019 banger “How an Agency You’ve Never Heard of Is Leaving the Economy at Risk.”

To date, the PCAOB’s biggest fine is $25 million against KPMG Netherlands for “cheating,” rather “sharing answers” on internal training. Something everyone does. Partially because they are so overworked they struggle to find time to do BS checkbox training. The PCAOB has nabbed some genuine cheaters in its seine net but the most notorious one got bungled in court and thrown out.

PCAOB paper pushing aside, someone needs to wrangle firms. Once upon a time audit firms were trusted to regulate themselves but we know how that turned out.

I’ll put an excerpt from PwC US’s comment letter to the SEC here to give you an idea what firms are saying about PCAOB-2024-06 in their pleas for the SEC to reject it. The letters from the firms are all basically the same.

We believe that providing transparency about our work and the health of our audit practice, including many of the factors we consider in evaluating how we are measuring up to our quality expectations, is important, which is why we publish detailed information in our Audit Quality Report2 (“AQR”). Despite this strong belief, we are unable to support SEC approval of the PCAOB final rules because the prescribed, static form of the PCAOB’s final metrics may result in investors and other stakeholders forming inappropriate conclusions about audit quality based on incomplete information. [Emphasis ours] In addition, the PCAOB adopting release:

• overstates the expected benefits, particularly the usefulness of the information in decision making by investors, audit committees, and other stakeholders; and
• understates the cost to gather and prepare the metrics required by the PCAOB final rules – costs that are compounded by the lack of reasonable de minimis thresholds or materiality considerations.

Right. So they’re afraid outsiders and, specifically, investors will look at their training, experience, retention, and workload data and make assumptions on audit quality such as “holy shit this place is a sweatshop,” “wow they can’t retain senior-level talent at all,” and “OMG you mean to tell me overworked 20-somethings are doing this much work upon which the entire trustworthiness of capital markets relies??” The Audit Quality Report allows the firm to control the data and since it’s voluntary, they aren’t having to file yet another form with the PCAOB that goes into their permanent record with the regulator.

Here are some figures PwC shared from their 2024 audit quality report, found here:

Whatever, we’re not here to talk about the data firms trickle out of their own accord and the anti-metrics position since it’s obvious why firms and the AICPA would be lobbying against this rule. We’re here to talk about this comment letter by Robert Conway, a retired KPMG audit partner who also worked at the PCAOB from 2005 to 2014. I’ll embed his full 19-page letter below but if you read any part of it, read this one:

“The long hours and loss of work-life balance are not new issues. I have been in and around the profession for 45 years. This issue persists year after year. This is a systemic problem that needs attention. The audit firms have failed to make a dent in this problem because of the conflict between profitability and audit quality. Doesn’t this sound like something a regulator should be really concerned about?”

Robert Conway,
RESPONSE TO SEC REQUEST FOR PUBLIC COMMENT related to PCAOB-2024-06

“At first glance, there seem to be several prominent organizations urging the SEC to vote against the PCAOB’s new rules,” Conway told us in an emailed request for comment. “Those organizations include the Big 4, AICPA, the Center for Audit Quality, and the US Chamber of Commerce. What do these organizations have in common? Directly or indirectly, they receive major funding from the Big 4. None of the commenters are truly independent or unbiased.”

Here are the comment letters he mentioned:

• Big 4
  • Deloitte
  • EY
  • KPMG
  • PwC
• AICPA
• Center for Audit Quality
• US Chamber of Commerce

These are groups that endorse the PCAOB rule and have asked the SEC to vote to approve it:

• American Federation of Labor and Congress of Industrial Organizations (AFL-CIO); Americans for Financial Reform Education Fund; Better Markets; Ceres Accelerator; Communications Workers of America; Consumer Federation of America; Interfaith Center on Corporate Responsibility; Oxfam America; Public Citizen; Revolving Door Project; Seventh Generation Interfaith Coalition for Responsible Investment; Zevin Asset Management [Ed. note: These groups “strongly endorse” the rule, not just regular endorse.]
• AARP
• The Council of Institutional Investors

Hmm there’s a pattern here I just can’t put my finger on it…

Conway’s position is that the large audit firm staffing model is a mismatch for the complexity auditors are expected to master. In his comment letter he says:

A Succinct Statement of the Large Audit Firm Staffing Model Risks

The fundamental risk of the large audit firm staffing model is that audits are conducted by inexperienced staff with minimal year-over-year continuity. This poses a heightened risk of errors not being detected. This heightened risk is compounded by the concurrent risk that the audit may not be adequately supervised due to heavy partner and manager workloads. Further compounding this risk is the perception that reporting deadlines are seemingly fixed, leaving some auditors wishing they had more time to conduct a better audit. This business model is a complete mismatch for the complexity auditors need to master in today’s environment to achieve suitable levels of audit quality. This is not the staffing model we would adopt if we were starting from scratch.

And gives these examples:

To fully understand just how problematic the large audit firm staffing model is, I have other data points to share with you:

• My estimate of the weighted average experience of audit staff (excluding partners and managers) post-CPA licensing is only 1.3 years,
• My estimate of the annual turnover among audit professionals during years three, four, and five at the Big Four is 33% per year
• In another matter, EY paid a $100 million fine to the SEC because audit professionals were caught cheating on internal tests. The SEC’s “Administrative and Cease and Desist Order” stated that “Many professionals acknowledged during the firm’s investigation that they knew their conduct violated EY’s Code of Conduct, but they cheated because of work commitments or an inability to pass training exams after multiple attempts.12 I make no excuses for cheating. But the words in bold tell me that EY professionals must have been “overworked” and “out of time” in order to have rationalized cheating, and
• A January 2018 article published by Reuters about the FDIC’s claim against PwC in the Colonial Bank matter reinforces the flaws in the Big Four staffing model and how PwC managed its human capital:
  Among PwC’s shortcomings, according to Judge Rothstein: The auditor relied upon the chief architect of the fraud, Taylor Bean chair Lee Farkas, to verify key information about the collateral underlying a Colonial credit facility for Taylor Bean. PwC also signed off on Colonial’s audit without ever understanding the third and most complex iteration of the fraud, which involved a credit facility based on phantom mortgage securitizations. After an auditor who was supposed to make sense of the transactions gave up, saying they were “above his pay grade,” PwC assigned a college-aged intern to evaluate the nearly $600 million asset.
  Judge Rothstein was distinctly harsh about PwC’s failings. Basing Colonial’s certification on Farkas’ account of Taylor Bean’s collateral was “… quintessentially the same as asking the fox to report on the condition of the hen house,” she wrote. And charging an intern to decipher a loan facility beyond the expertise of a senior auditor was a “truly astonishing” departure from PwC’s mandate, the judge wrote.”

Further reading on Colonial Bank if you weren’t cognizant of global financial collapse because you were like 5 years old in 2008: Colonial Bank Collapse Will Cost PwC $625 Million, Reports Say.

Says Conway:

There is a familiar expression often cited by performance improvement experts: “That which gets measured improves.” This is the gist of what the PCAOB is trying to do with the Firm and Engagement Performance metrics. If audit committees, acting on behalf of investors, have visibility to this information, they can monitor whether the audit firm in the local office has historically provided the workload capacity, experience, and supervision and review that are foundational to conducting a good audit. As it stands today, auditors will promise great service delivery, but often there is no accountability or only anecdotal accountability as to whether the firm 1) delivered as promised or 2) overpromised and under-delivered. In instances where the blend of metrics are unfavorable, the audit committee deserves an explanation as to what the audit firm did to ensure that audit quality was not compromised. The audit committee can also consider whether the metrics of competing audit firms in the local geography have a better history of managing their human capital.

This is what EY had to say about that in their comment letter [PDF]:

The rule introduces a new public oversight model to issuer audits that, in our opinion, has not been adequately studied and is based on metrics susceptible to misinterpretation and misuse that will be costly to produce. The rule also has the potential of disrupting the model established by the Sarbanes-Oxley Act of 2002 (SOX) for auditor oversight by an independent audit committee and also does not properly address the information needs of audit committees.

So same as PwC.

In a graphic Conway included in his letter, he breaks down audit quality like Maslow’s hierarchy of needs.

As in Maslow’s hierarchy, if the basics aren’t met then forget all the stuff at the top. In Maslow’s those things are food, water, and safety. In audit quality, it’s supervision and review, reasonable partner workloads, reasonable staff workloads, suitably experienced professionals, good audit team continuity, and ongoing continuing education.

The important takeaway from the above graphic is that there are three basic groupings of ingredients needed to conduct an audit of high quality, with each level building upon the lower level.

1. At the bottom of the pyramid are the “basic inputs” which are essentially “the firm and engagement performance metrics.” To do any job well, one needs time, knowledge / experience, and supervision / review. This is common sense. Providing transparency to these basic inputs is akin to labeling the ingredients in a food product and providing nutritional information.
2. The next level up the pyramid I refer to as “skills and tools” such as a sound audit methodology and good policies promoting consultation.
3. The top level is about “Fortitude to Do the Right Thing” when the engagement partner finds him or herself on the horns of a dilemma. This level involves elements like independence and a good tone at the top that supports “doing the right thing.”
   The lowest level (the engagement performance metrics) lends itself to measurement. In fact, these are things the largest audit firms are already measuring internally. However, as one moves up the pyramid, the higher levels almost defy measurement.

The PCAOB’s rule is all about that all-important bottom level. “Sound and consistent information strengthens investor confidence and can drive audit quality,” said PCAOB Chair Erica Y. Williams in December 2024. “The new requirements we are adopting today will make PCAOB oversight more effective and equip investors, audit committees, and others with clear, consistent, and actionable data related to audit firms and the engagements they perform.” *sound of papers and brooms intensifies*

Anyway, this has already run too long and dear reader probably didn’t get this far. Read the whole letter below and sound off in the comments if you want to. You can also email me and/or submit a letter to the editor if you prefer that route.