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SEC Reminds Audit Committees of Their Oversight Role

On December 30, 2019, Jay Clayton, the Chairman of the Securities and Exchange Commission, Sagar Teotia, Chief Accountant, and William Hinman, Director of the Division of Corporation Finance, jointly released a statement on the role of audit committees in financial reporting and the oversight responsibilities of audit committees.

The statement contains observations and reminders that are intended to assist audit committees with their 2019 calendar year-end financial reporting obligations. These observations are framed within the SEC’s view that effective oversight by audit committees plays a crucial role in public reporting by “providing high-quality, reliable financial information to investors and our markets.” A summary of these observations follows:

General Observations:

  • Tone at the Top — The statement encourages audit committees to create and maintain an environment that supports the integrity of the financial reporting process and the independence of the audit in two ways: by setting “an expectation for clear and candid communications to and from the auditor” and by proactively communicating with the independent auditor in order “to understand the audit strategy and status.”
  • Auditor Independence — The statement encourages audit committees to periodically review the processes that are in place to monitor the engagement between the company and its independent auditor. These processes should address corporate changes or other events that might affect auditor independence and facilitate timely communication of these events to the audit firm.
  • Generally Accepted Accounting Principles (GAAP) — Audit committees should engage proactively with management and auditors in order to implement recently released accounting standards, and assess whether the implementation plan provides sufficient time and resources to develop well-reasoned judgments and accounting policies.
  • Internal Control Over Financial Reporting (ICFR) — Audit committees should have a detailed understanding of identified ICFR issues and engage proactively in their resolution. Once a material weakness has been identified, the audit committee should be engaged in understanding and monitoring management’s remediation plans.
  • Communications to the Audit Committee from the Independent Auditor — As part of their obligations under PCAOB AS 1301, Communications with Audit Committees, auditors should be communicating with the audit committee regarding certain accounting policies and practices, estimates and unusual transactions. The statement encourages audit committees to be proactive in engaging in this communication.

More Specific Observations:

  • Non-GAAP Measures — Audit committees are encouraged to actively engage in the review and presentation of non-GAAP measures and metrics. They should understand how management uses the measures to evaluate performance, whether they are consistently prepared and presented from period to period, and the company’s related policies and disclosure controls and procedures.
  • Reference Rate Reform (LIBOR) — Audit committees are encouraged to understand management’s plan to address the material risks associated with the discontinuation of LIBOR, and more specifically, “the impact on accounting and financial reporting and any related issues associated with financial products and contracts that reference LIBOR.”
  • Critical Audit Matters — While it is the independent auditor’s sole responsibility to address critical audit matters (CAMs), audit committees should engage in a substantive dialogue with the auditor regarding expected CAMs in order to understand the nature of the CAMs, the basis for determining each CAM, and how each CAM will be described in the auditor’s report.

Mintz Takeaways:

The statement reiterates the SEC’s view that audit committees play an important role in our markets by ensuring companies deliver reliable financial information. In order to best fulfill this role, audit committees should be proactive and collaborative in their communication with company management and independent auditors, especially with regard to the areas identified in the statement. While the SEC notes that the statement does not function as a comprehensive list of audit committee responsibilities, company management and audit committees should nevertheless carefully review the statement and make sure they are proactive in addressing the areas identified.

 

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Authors

Dan is a corporate and securities attorney whose practice spans the full gamut of corporate law. He has advised clients for nearly two decades in public and private equity and debt financings, securities law matters, mergers and acquisitions, and strategic advice on a broad range of other corporate matters. He capably counsels public and private companies with offerings, compliance, and securities questions and leads buyers and sellers throughout the transaction process. Dan represents life sciences companies as well as clients in other technology fields, financial services, and professional services firms.

Zane S. Polston

Associate

Zane S. Polston focuses his practice on corporate and securities law. He has represented clients in mergers and acquisitions, venture capital financings, securities transactions, and other general corporate matters.