Hearings Before the U.S. Securities and Exchange Commission on
File No. S7-13-00 (Auditor Independence)
September 13, 2000
New York

Statement of Baxter Rice
President, California Board of Accountancy

Thank you for the privilege to testify before you. My name is Baxter Rice. I am the President of the California Board of Accountancy. I should also note that I am a public member of the Board, not a CPA member. My comments reflect my personal views and may not necessarily echo the collective thinking of my Board. However, I can state that the Board appreciates your request for comments from the individual states on how your proposal may affect a State's regulatory scheme. Also, I anticipate that the California Board will forward written comments to you when it has had an opportunity to more fully consider your proposal.

First, I would like to commend the Commission for elevating public awareness of the critical public policy issue of auditor independence. Independence is universally recognized as a core value of the accounting profession. It is a key element upon which the public's trust in the profession is based. It cannot be disputed that independent auditors play a critical role in maintaining public trust in the integrity of publicly held corporate financial statements and, in fact, in the financial statements of a variety of other entities, the list of which goes far beyond SEC registrants: for example, government, non-profit and closely held corporations.

It is important to remember that the majority of CPA's in California and throughout the nation do not practice in Big 5 Firms, and while they perform scores of audits and other attest/assurance work, their clients may not be publicly traded companies. So, most licensees may not appear to be directly impacted by the Commission's rules. However, what the Commission does on this issue will have a significant trickle down impact on the concept of independence. Because of this, it is possible that the proposed rules may result in two standards for independence -- one for the audits of SEC registrants and one for all other audits. This possibility must be carefully evaluated to provide for equitable treatment and equitable outcomes and to ensure that the public interest remains the focus of attention.

As you know, the primary purpose of state boards of accountancy is consumer protection. The public's perception of auditor independence is a fundamental aspect of consumer confidence in "the way things work." The public perception that regulatory agencies are "on the job" and working together to guarantee that things are working well is, I believe, a part of the public's assumption about how the system works. I would add that it is "taken for granted" by the consumer - - who may understand very little about the intricacies of how the system works - - that there are "watchdogs" and "gatekeepers" present in the system, in the form of auditors and regulators, contributing this very important independent tone and viewpoint to the endeavor.

Further, speaking as one involved in adopting and enforcing regulations in California, I am especially interested in and will follow closely the discussion of the costs and benefits of the proposal, the impact on small business, and other required analyses. These critical steps are similar to the exercise we go through in California whenever we adopt or amend a regulation.

I would now like to comment on a few key points in the proposal:

• Generally, I support the concept of modernization of independence rules, provided this can be accomplished without lessening auditor independence, including the public perception of auditor independence. It is important to recognize that in our changing world some prohibitions may be rendered obsolete.

• We appreciate the discrete examples provided which relate to the four guiding principles. We as regulators find it helpful to have clear rules in addition to the broader concepts. Without such examples, our enforcement people tell us it is not always easy to apply abstract concepts. Further, we recognize that in a profession where auditor judgment is enshrined as a guiding principle, it is critical that this judgment be applied within a framework where there is a common understanding of the basic approach to independence.

• The proposed restrictions on non-audit services are the most controversial segment of the proposal. I echo previous comments that it is important to consider the impact providing these services may have upon the appearance and fact of independence, as well as upon the ability of firms to provide quality audits. However, I remain concerned regarding the availability and affordability of non-audit services to the public. The Commission's proposal suggests that there are services that may be permitted as a natural outgrowth of the audit process and that providing these services would not impair an auditor's independence. Examples include business risk assessments, tax services, actuarial valuations of pension and other post-employment benefits, consulting on the client's internal controls, and similar services. I agree that providing these services could be very important for quality audits. I also endorse the concept that these services would nevertheless impair independence if they involve the auditor in making management decisions, operating the client's internal controls or information systems, marketing the client's products, or sharing risks or reward with the client.

• On the topic of disclosure, the California Board has traditionally supported disclosure requirements where such disclosure would assist the public in making informed - choices. There are limitations to the value of disclosure in proxy statements because proxy statements have less relevance to investment decisions than to shareholder voting decisions. Therefore, if disclosure is adopted as part of the solution, the placement and format of the disclosure statement needs to be carefully evaluated to ensure that it provides information that is meaningful to investors.

Thank you for your willingness to listen to your regulatory partners, the State Boards of Accountancy. We are joined in our mission of public protection.

Baxter Rice
Baxter Rice Associates
50 California Street, 34th Floor San
Francisco, CA 94111 -2438
Tel: 415-391 -1432
Fax: 415-398-2438
e-mail brass@nossaman.com