September 13, 2000
Jonathan G. Katz, Secretary
Securities and Exchange Commission
450 Fifth Street, N.W
Washington D.C. 20549-0609
Dear Mr. Katz:
On June 27, 2000 the United States Securities and Exchange Commission (the "SEC") approved issuance of a major new rule proposal that would force a restructuring of the accounting profession and radically alter independence requirements for accounting firms that audit SEC registrants. This is the most significant rule proposal on auditor independence since the federal securities laws were enacted in the 1930's.
I am a manager in the accounting firm of Hood & Strong LLP located in San Francisco, California. I have been a practicing CPA for seven years and think that the proposed new rules by the SEC are ill conceived and will cause undue harm to the accounting profession. It will not improve the quality of the audit services provided to public companies.
The SEC has ignored the conclusion of the current Panel on Audit Effectiveness of the Public Oversight Board, a Panel that was formed at the request of the SEC. The panel concluded that, "both the profession and the quality of audits are fundamentally sound." The Panel said it could find no evidence that the provision of non-audit services has hurt audit quality. On the contrary, it concluded that in 25% of audits reviewed by the Panel, the non-audit services contributed to a more effective audit.
Most dangerous for the accounting profession is the likely prospect that the proposed rule would set a precedent for other regulators. Even accounting firms that do not audit SEC registrants could be impacted by these new rules. This could have a major impact on a locally based accounting firm like Hood & Strong LLP. Hood & Strong LLP has been providing quality audit services in the San Francisco bay area for over 80 years and has never experienced an audit failure or had an independence issue.
By enumerating several specific restrictions on the scope of non-audit services that auditing firms can offer to SEC registrants, the proposed rule would apply an open-ended independence test through the codification of an appearance standard, the use of four general overarching principles, and "catch-all" provisions that leave the SEC with broad discretion to restrict audit firm activities beyond those expressly prohibited by the rule. Despite the Commission's claims to the contrary, the proposed rule would severely restrict accounting firms in providing non-audit services to audit clients. Historically, accounting firms have provided consulting and other non-audit services to their audit clients. The SEC repeatedly states that non-audit services "may" or "could" affect auditor independence, but never state that such services "do" affect or "have" affected auditor independence.
The SEC has ignored the conclusions of the current Panel on Audit Effectiveness of the Public Oversight Board (known as the O'Malley Panel). During in-depth reviews of a significant number of audits involving eight of the largest audit firms, the O'Malley Panel identified 37 engagements which involved the provision of both audit and non-audit services to audit clients, none of which resulted in the Panel identifying "any instance in which providing non-audit services had a negative effect on audit effectiveness." In terms of money the SEC has failed to include a realistic cost benefit analysis of the proposed rule.
To reiterate the SEC would be forcing accounting firms to avoid entering into almost any joint venture or partnership, since the accounting firm's independence could be impaired as a result of the activities of other parties in which it may have only an immaterial investment, or with which it may be associated in only limited respects, but does not control. Regional alliances or cooperative agreements between accounting firms could result in each firm being required to be independent of each other firms' attest clients. Moreover, the restrictions would extend to any alliance or cooperative agreement with overseas accounting and other firms (such as legal service providers).
In a rush to regulate, the SEC has:
In conclusion, the SEC's proposal to restrict the services offered by accounting firms represents a fundamental restructuring of a profession that has successfully given investors the reliable, independent data they need for the past century. A decision by a government agency to tell some business organizations what services they may offer and to tell other businesses from whom they can buy services is an extraordinary economic intervention without any empirical or other basis. This scope of services rule must not go any further.