A Professional Corporation Fax

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Salt Lake City, Utah 84180

January 13, 2003

Jonathan G. Katz, Secretary
U.S. Securities and Exchange Commission
450 Fifth Street, NW Washington, DC, 20549-0609

Re: File No. S7-49-02

Dear Mr. Katz:

Hansen Barnett & Maxwell is pleased to have this opportunity to comment upon the Commission's proposed rule amendments contained in its recent Release No. 33-$154, also 3446934, 35-27610, IC-25838, IA-2088, and FR-64 (the Release) entitled "Strengthening the Commission's Requirements Regarding Auditor Independence." We understand that our comment letter will be available for public inspection and copying.

The Commission's proposal is far-reaching and quite extensive, and the allowable time for comments is short, so we have limited our comments to the matters of greatest concern to us and presented them in descending order in that regard. For the subject areas that we have selected to comment upon, we have attempted to answer many, but not all, of the bulleted questions posed in the Release by the Commission but have organized our comments in what we believe to be a most logical, readable order rather than attempt to link them to or coordinate with the sequence of the questions. Our failure to address any particular question posed in the Release is not meant to be interpreted as either agreement or disagreement with the related proposal. Our comments are set forth in the attachment to this letter. The flowing is a summary of our positions on principal issues selected for comment:

  • Partner Rotation We find the proposed partner rotation requirements to be excessive primarily as a result of extension of the statutory requirements beyond the engagement and concurring review partners and the five-year "time-off' period. We believe these proposed rules if adopted, will drive smaller firms out of SEC practice and have the undesirable effect of severely reducing competition for audit services and be unlikely to produce intended improvements in audit quality. We believe the effect of the proposed rule amendments on firms with less than ten audit partners is to require rotation of audit firms by smaller SEC registrants. If clients were to stay with the same firm, most smaller audit firms do not have sufficient depth in their SEC qualified audit partners to rotate an SEC client to another partner for a long-term period without curtailing all or most of the services the new partner can provide for his or her existing non-SEC clients and SEC clients. The proposed rule amendments would be disruptive of entire auditing firm's practices and clients. Accordingly, we strongly recommend modifying the proposed rule amendments to exempt firms with less than ten audit partners and in its place continue the present two-year requirement for the engagement partner.

  • Tax Services - We believe the final rules should state clearly that the rendering of an objective tax opinion based on facts and circumstances known or assumed shall not constitute an advocacy role and, therefore, not impair auditor independence. We believe an advocacy role that impairs independence should be limited to matters of dispute resolution, except that a significant portion of our accounting and auditing practice (too significant to want to abandon). Our Firm has dispute with the IRS or other taxing authority should not impair auditor independence when the opinion represents, in substance, an audit firm's defense of advice given to an audit client in connection with the preparation of a tax return or other permitted tax planning or advisory service.

  • Expert Services - We believe the word "legal" should be removed from the proposed rule defining "expert" services because it may inappropriately be read as encompassing any legal document or context such as a contract or offering statement. We believe it is both unnecessary and inappropriate to prohibit any and all instances of "consultation and other services to an audit client's legal counsel in connection with litigation, administrative or regulatory proceedings" because, it would prevent auditors from explaining to a client's attorney, under protection of an attorney work product privilege, the basis for the firm's audit conclusions relative to accepting the client's accounting positions that may be subject to dispute. We believe the proposed exclusion for testifying as a fact witness regarding one's audit work or tax return preparation should be extended to consulting and forensic services with a client's attorney that have the same substance.

  • Internal Audit Outsourcing - We believe the proposed rule language prohibiting "[a]ny internal audit services related to the internal accounting controls, financial systems, or financial statements, for an audit client" to be effectively misdirected at the wrong kind of internal audit services. We believe auditor independence should be considered impaired only when performing operational auditing, which is more akin to consulting services. We believe that when the auditor performs for management's purposes, in the role of internal auditor, tests of the internal controls or financial records that he or she might have opted to perform as part of a GAAS audit, independence should not be considered impaired.

Before proceeding with our detailed comments, we would like to tell readers of this letter something about our firm.

We are a local firm of approximately 40 people with six shareholders. Four of our shareholders are engaged in audit practice directly servicing SEC clients; SEC audit services (including quarterly reviews) constitute a provided services to public clients for over 30 years. We currently have over 30 public clients. We have been members of SECPS since its beginning and have always received unqualified peer review reports.

If you have any questions about the accompanying comments, please contact Robert K. Bowen, (801) 532-2200, ext. 111 or rbowen@hbmcpas.com.

Very truly yours,

Hansen, Barnett & Maxwell

Partner Rotation

We believe the effect of the proposed rule amendments on firms with less than ten audit partners is to require rotation of audit firms by smaller SEC registrants. If clients were to stay with the same firm, most smaller audit firms do not have sufficient depth in their SEC qualified audit partners to rotate an SEC client to another partner for a long-term period without curtailing all or most of the services the new partner can provide for his or her existing non-SEC clients and SEC clients. The proposed rule amendments would be disruptive of entire auditing firm's practices and clients. Accordingly, we strongly recommend modifying the proposed rule amendments to exempt firms with less than ten audit partners and in its place continue the present two-year requirement for the engagement partner.

We believe the proposed new rule amendments regarding partner rotation do not merely go beyond the statutory requirements of the Act, as admitted by the Commission in its current Release, but that they so far exceed the statutory requirements as to likely serve to undermine the achievement of their objective (as stated, "to increase investor confidence in the independence of auditors, in the audit process, and in the reliability of reported financial information," that is, to help assure quality audits) by tempting firms to test the limits of their partners' competency in specialized industries to enable them to comply and retain their SEC practices. Moreover, we believe the proposed rule amendments constitute, in their present form, an overwhelming disincentive for many highly competent smaller firms who are unwilling to test these limits to continue servicing or accept SEC clients because of their perceived inability to comply with the rotation rules. Thus, these proposed rule amendments are substantially and inappropriately biased in favor of the largest firms, who appear to have the depth to comply.

We believe it is noteworthy that the smaller firms who might likely be so dissuaded from engaging in this area of practice and, thus, inappropriately penalized, are substantially less likely to take the apparently profit-motivated auditing shortcuts that we have observed among the large firms in the recent accounting scandals that have produced the 2002 legislation. To adopt rule amendments that tend to exclude smaller firms from accepting SEC audit clients and enable only the largest firms to be able to, excludes small businesses and small firms from participating in our capital system.

We understand that the large majority of audit failures occur in the first two years of an audit engagement. We further believe that this observation supports the idea that knowledge of the financial statement issuer's business and industry, its inherent risks, motivators and operating practices is of paramount importance in conducting a quality audit. We believe that no amount of reading or training can substitute for experience with the client to deepen and enhance such knowledge. We believe, therefore, that the value of such experience far exceeds that of the limited benefit, indeed, if any, that one can expect to be realized from any additional so-called "periodic fresh look." To the contrary, we believe excessive partner rotations will substantially heighten the risk of audit failures resulting from lack of depth of such knowledge, even for large firms who appear to have adequate reserves of qualified personnel to assign to engagements.

Although the Release is entitled "Strengthening the Commission's Requirements Regarding Auditor Independence," we believe that partner rotation has virtually nothing to do with auditor independence. In fact, we believe the proposed rule amendments are entirely needless because we are unaware of any evidence that would suggest that auditors' independence, the appearance thereof or the quality of audit work would be even slightly enhanced by imposing the restrictive partner rotation requirements that are being proposed. We believe the "time-out" period (discussed in the next subsection, below) is the only thing about partner rotation missing from the Act that needs to be addressed by new rules to be adopted currently. We believe any further extension of the statutory requirements to individuals other than the engagement and concurring review partners to be hasty and premature and that such extension, if any, should be a matter of more thoughtful deliberation and due process not by the Commission but by the new Public Company Accounting Oversight

Board (PCAOB), which is empowered by the Act, subject to the oversight of the Commission, to set, among others, auditing and auditors' quality control standards.

The real problem, which is only partially addressed in the Commission's proposal, has nothing to do with partner rotation; it has to do with partner compensation (see Compensation, below). In large firms, partners generally compete for a bigger share of the pie and are evaluated and rewarded based primarily on how much

new business they obtain (and are penalized for old business they are unable to retain). In many firms, particularly the largest, few partners, if any, are rewarded significantly for exercising professional skepticism, for standing up to client pressure for what is right, for technical knowledge and proficiency, or for generally doing good audits. Until the partner reward system is turned back to what it should be, we are likely to continue to observe behavior that appears to lack independent judgement.

The "time-out" period

We believe the proposed five-year "time-out" period proposed is likewise excessive, unnecessary and unlikely to afford any discernable benefit. It is apparent from the language in the Release that the Commission would prefer permanent reassignment of partners, which it believes (and rightfully so in many cases) would be the likely result of the proposed five-year "time-out" period. This has never been, and we believe should never be, the objective of partner rotation. We believe the present two-year requirement to be quite adequate and that lengthening it would further sacrifice the valuable benefit of experience with the client in favor of a "fresh look" of questionable value. We believe the rationale expressed in the Release for lengthening the "time-out" period is inherently weak and unsupportable with facts.

We believe there is no reliable support for the belief that the currently SECPS-required two-year "timeout" period should be lengthened for any required rotations. Nevertheless, if longer periods are to be required, we believe such requirements should apply only to the primary engagement partner. We also believe that required "time-out" periods of any length should not be shortened in the event the partner did not serve his or her full five-year tour as a member of the engagement team.

As is inherent in our views of the inherent value of experience with the client, we do not believe rotation of several partners at one time should ever be required. In fact, while we are in favor of staggered rotations, we do not believe they should be required by law or regulation either but rather strongly encouraged. Audit committees, on the other hand, might be encouraged to require staggered rotations.

In practice, it is likely that a partner who has been "rotated off' an engagement will often be sought to consult informally on that engagement as a means of taking some advantage of his or her client knowledge, thus, affording an audit firm some limited protection from the risks of ignorance ordinarily associated with new engagements. Once again, with the objective of achieving higher quality audits, we believe the final rules should (a) encourage, rather than prohibit or discourage, such consultations with rotated partners during their "time-out" periods and (b) make it clear (which it now is not) that such a partner who consults periodically with assigned audit personnel will not be disqualified from being reassigned to the engagement following his or her time out.

Applicability issues

While we are strongly opposed to the proposed extensions of the statutory rotation requirements, primarily for reasons cited in the first subsection, above, we firmly believe that if such requirements are to be adopted, even if less restrictive than proposed, all firms with fewer than 25 audit partners should be automatically exempt and larger firms of up to 100 audit partners should be able to apply for exemption based on facts and circumstances presented in relation to a pre-determined set of criteria. If the final rules are to go beyond the statutory rotation requirements of the Act (other than to set a "time-out" period), we propose that firms that are exempt be subject only to the rotation requirements as set forth in the Act (limited only to the primary engagement partner and the concurring reviewer) with a two-year "time-out" period. Absent such exemption, we believe the smaller firms clearly should be given a reasonable, transitional, phase-in period (at least three, maybe five, years) to develop and implement a plan to comply, which for those involved in substantial SEC audit practice might likely entail seeking out, negotiating and absorbing practice mergers (which carry with them some serious quality control challenges) to obtain the necessary depth of human resources. Otherwise, we believe these rule amendments will have the effect of driving an intolerable number of qualified audit firms suddenly out of SEC practice in a crisis mode, causing disruption in the market as a result of excessive auditor changes and inappropriately (i.e., not in the public interests) reward the largest firms by reducing competition and fortifying their oligopoly in the SEC market. Moreover, it is possible that many of the smaller issuers serviced by the smaller audit firms will not meet the client acceptance criteria of the larger firms and be unable to replace their resigning auditors timely.

It is our belief that, subject to the mandatory policies maintained by audit firms for the resolution of disagreements among professionals, ordinarily, the engagement partner alone is (or should be) responsible for all significant audit decisions. To extend, as does the Act, the partner rotation requirements to the concurring review partner, is, in our opinion, entirely unnecessary and, therefore, not likely to achieve any meaningful object, but to extend such requirements to other partners who participate in the audit process, including a tax partner who reviews the income tax provision, is, without question, overkill. We believe the tax partner, for example, "serves, primarily, as a technical resource for members of the audit team" as the Commission's proposal describes "national office" functions, and, therefore, should not be subject to rotation. We likewise believe that partners assisting an engagement partner, in a vertically structured subordinate role, as in-substance senior managers, should not be subject to rotation unless and until he or she assumes the primary partner's role. Moreover, we believe that any further extension of the rotation requirements to senior managers (actual or in-substance) will only contribute further to the disadvantages of excessive rotation that we have mentioned, and will add no discernable benefit. For large engagements, on the other hand, where the decision-making responsibility for the audit work is divided horizontally among several engagement partners such as for different operating segments or components of the issuer, such engagement partners should be subject to rotation.

We are not aware of any situations in which a partner other than the audit engagement partner would be primarily responsible for quarterly reviews (unless this is a practice common among the largest firms), but we believe such would be an unwise practice at best (and perhaps something should be Released that would prohibit or at least discourage it). Assuming the audit partner is primarily responsible for the quarterly reviews, we do not believe any purpose would be served by requiring partner rotation on any other non-audit services that are both permissible under the law and related regulations and approved by the issuer's audit committee.

In its Release, the Commission asked whether the rotation rules should be extended to "audit clients" as defined in 2-01(f)(6) of Regulation S-X or the "significant subsidiaries" of issuers. We see no reason why the rule amendments, as finally adopted, should not apply equally to all audits of, or that impact significantly on, financial statements to be filed with the Commission.

Forensic audits

We find the very choice of the term "forensic" to be prejudicial, implying, as noted by the Commission in its current proposal, that there is already wrongdoing on the part of the auditor that requires investigation. More than anything else proposed to date, this notion is offensive to the overwhelming majority of honest auditors who conduct themselves under the firm belief that, despite the recent events that have led to this legislation, our profession has, indeed, earned over the last 100 years the right to assert that it is grounded in integrity and objectivity. The notion also prejudges a conclusion that the periodic "inspections" to be performed (most likely in lieu of peer reviews under the auspices of the SECPS by the PCAOB) will likely be inadequate.

Moreover, we believe that offering a choice of rotating partners or having a client engage forensic auditors is not a practical reality because it is a choice that will almost never be selected. We believe that any suggestion that an issuer needs to engage a forensic auditor only when and because the auditor of record is unable to comply with (to obviate the "need" for compliance with) the proposed partner rotation requirements will almost universally result in a change in auditor, most likely otherwise unwarranted, to one of the larger audit firms that can. We believe that the so-called "need" for partner rotation rules as far reaching as are being proposed has never been demonstrated and, therefore, need not be obviated. Accordingly, we do not believe such "forensic" audits should be required or available as an option under any rule at this time either as a substitute for or supplement to any partner rotation requirement to be adopted under the Act.

As an option we think will never be taken, we do not believe that a "forensic auditor" requirement would open opportunities for firms to offer such services. However, if the process were to be made mandatory in addition to rotation, we believe the Commission (or, preferably, the PCAOB) would necessarily have to adopt guidelines as to scope, frequency and, possibly, report language, and special independence rules, but we also believe such a program would be both costly and redundant and do not believe anyone would really benefit from it.

Tax Services

We believe that providing tax opinions, including tax opinions for tax shelters, to an audit client or an affiliate of an audit client, unless clearly made in an advocacy role, for example, for use in judicial or regulatory proceedings or in arbitration or other dispute resolution, should not impair, nor should it appear to reasonable investors to impair, an auditor's independence. Our belief is based on the belief that a tax opinion for use by an investor or similar use represents the independent, objective judgment of a competent tax professional based on an analysis conducted with due care of the facts and circumstances, and supporting evidence therefore (or stipulated assumptions), and the applicable tax law, regulations and rulings, etc., intended to add credibility to a client's assertion for reliance by a known class of third parties (to whom the author can reasonably expect to be liable). Therefore, we believe the role assumed by the author of such a tax opinion is significantly more closely related to the attest function than an advocacy function.

We also believe that a tax opinion by the audit firm prepared in connection with a dispute with the Internal Revenue Service (IRS) or other taxing authority, whether presented in writing or by oral testimony, as either a fact or expert witness, or in preliminary or settlement discussions with the IRS, its attorneys, or the client's attorneys (for example, to facilitate an assessment of the case or develop a strategy) should not impair auditor independence under certain conditions. Those conditions are when the . opinion represents, in substance, an audit firm's defense of advice given by the firm to an audit client in connection with the preparation of a tax return or other permitted tax planning or advisory service. (See also our discussion under Expert Services, below.) Opinions rendered in such circumstances should be clearly exempt from the provisions of any rule that would otherwise classify them as prohibited legal or expert services and, thus, cause a question about impairment of auditor independence.

Expert Services

We regret the conclusion made by Congress in the Act that expert services by auditors represent advocacy when, in fact, they are supposed to be, and usually are, in our experience, objective, unbiased expressions of professional opinions. However, the Commission appears able to limit this inappropriate conclusion, apparently based on the perceptions of uninformed and, therefore, unreasonable observers (an inherent weakness in the notion of "independence in both fact and appearance") to expert testimony.

In the Release, the Commission quotes Senator Sarbanes who stated, "A public company auditor, to be independent, should not act as an advocate of its audit client (as it would if it provided legal and expert services to an audit client in judicial or regulatory proceedings)." Then, it goes on to say that "[t]he proposed rule, therefore, states that an accountant's independence is impaired as to an audit client if the accountant provides expert opinions for an audit client in connection with legal, administrative, or regulatory proceedings or acts as an advocate for an audit client in such proceedings." (Emphasis added.) We believe the word "legal" (which does not appear in the Sarbanes quote) is too broad for this context and should be deleted because it may be read as encompassing (inappropriately, in our view) a tax opinion to be incorporated or referenced in any legal document or context such as a contract or offering statement.

In the proposed rule amendments, the Commission provides a clear exclusion for an independent auditor's testifying as a fact witness to its audit work or tax return preparation for a particular audit client. As stated in the Release, "[i]n those instances, the auditor is merely providing a factual account of what he or she observed and the judgments he or she made." However, as explained in the following two paragraphs, we believe a similar exclusion should be articulated for consultation and forensic services rendered for a client's attorney.

We believe the extension of the Congressional prohibition of expert services to include any and all instances of "consultation and other services to an audit client's legal counsel in connection with litigation, administrative or regulatory proceedings" to be both unnecessary and inappropriate because, without exculpatory language to the contrary, it would prevent auditors from explaining to a client's attorney, under protection of an attorney work product privilege, the basis for the firm's audit conclusions relative to accepting the client's accounting positions that may be subject to challenge in the dispute. We strongly disagree with the Commission's statement that "[a]n auditor who takes on such duties, either directly or by being engaged by the audit client's legal counsel, [invariably] takes on a role as an advocate for the client" because we don't believe such activity to be in-substance advocacy merely because the attorney's objective and ethical duty is "to `represent a client zealously and diligently within the bounds of the law' and to `take whatever lawful and ethical measures are required to vindicate a client's cause or endeavor."'

We believe the distinction made by the Commission in the following language to be lacking in substance and, therefore, inappropriate:

Although ... an auditor's independence would be impaired if it were engaged by the audit client's counsel to provide ... forensic accounting services in connection with a legal, administrative or regulatory proceeding, the auditor's independence would not be impaired if it were assisting the audit committee in fulfilling its responsibility to conduct its own investigation of a potential accounting impropriety, so long as the auditor did not take on the role of an advocate in such an investigation. For example, an audit committee may engage the auditor to render forensic services, and should the audit committee choose to engage counsel, the work product of the auditor may be provided to the audit committee's counsel without impairing the auditor's independence.

We believe the issue should be whether the auditor's forensic work or other service is "managed" or directed by the attorney so as to produce a desired result or prove a particular point, or whether, on the contrary, the auditor is engaged to render an unbiased professional opinion or other form of conclusion or findings and is free to be objective in conducting the assignment, as he or she would be expected to be if performed for an audit committee acting properly in the discharge of its oversight responsibilities. (Auditors should be cautioned to deal with such distinctions in their letters of engagement with attorneys to afford them protection against an independence challenge.) If this exception is not provided for, we believe the final rules will have the effect only of forcing litigants to commission the forensic work for their defense through their audit committees, rather than directly by their attorneys and thus, the possibility of protecting the work from discovery, and the auditor from testimony, will be lost. Cooperating with the client's attorney to protect the privilege does not, in our opinion, cause the auditor to become an advocate.

Internal Audit Outsourcing

For reasons presented in the following paragraphs, we believe the proposed rule language prohibiting "[a]ny internal audit services related to the internal accounting controls, financial systems, or financial statements, for an audit client." to be effectively misdirected at the wrong kind of internal audit services.

We support the notion that to be independent, CPAs should not be permitted to perform certain significant consulting services, for example, systems design and implementation, for their audit clients that are publicly held. We are aware that this has been debated seriously for over 40 years, and agree that this is now an idea with merit whose time has come. We do not, however, hold the same view with respect to certain types of internal audit services.

The broad issue

The apparent conflict of interests with respect to consulting services, or more precisely, the potential for impairment of objective judgment that results from "auditing one's own work," relates to internal auditing activity, in our judgment, only with regard to a variety commonly characterized as "operational auditing." Operational auditing ordinarily is motivated principally to find and recommend better, faster or more efficient or profitable ways to achieve management objectives, usually in areas other than financial reporting, for example, production, procurement or distribution, investment strategies or management, contract administration, or human resource management. For reasons set forth below, we believe a prohibition on independent auditors from performing internal audit services should be limited in applicability only to this type of activity.

On the other hand, a great deal of internal audit activity is financial in nature and includes the application of internal control tests and substantive tests intended to provide evidential matter that reduces the risk of undetected misstatements in financial statement assertions. Such tests are similar in nature, and in many cases, timing and extent, to the tests ordinarily performed by independent auditors to enable their expression of a professional opinion as to the fair presentation of financial statements. As provided for in Statement on Auditing Standards (SAS) No. 65, The Auditor's Consideration of the Internal Audit Function in an Audit of Financial Statements, it is common under certain conditions for independent auditors to reduce the scope of their work in reliance on work performed by qualified internal auditors. Therefore, if the independent auditors themselves were to perform the same or similar work in the internal audit function, it would have the additional benefit of reducing or eliminating the risks that would be present if performed by client employees and, therefore, could only be more reliable. This is clearly not "auditing one's own work" in the same sense as would be the case for the kind of consulting services described above. The situation is substantially the same as when there is no internal audit function upon which the independent auditor could rely to reduce the planned scope of tests of controls and/or substantive tests deemed necessary to support an opinion.

Under generally accepted auditing standards (GAAS), there is no notion of a maximum scope of an audit, and there are (and should be) no restraints placed thereon by the standards. To do so would, in our opinion, be contrary to the public interests. An auditor is now and always should be free to expand scope (for example, as is required based on risk considerations) above what another informed person might judge to be the minimum necessary to constitute GRAS. When the scope of internal audit work of this type (excluding, if you will, operational auditing) goes beyond the auditors' judgment as to the requirements of a GAAS audit of the client's financial statements principally to serve the interests of management, rather than the auditors and financial statement users (who will also benefit nonetheless), we believe the constraints contained in AICPA Ethics Interpretation 101-13 (effectively making management responsible for the determination of such scope, the interpretation and communication of results, and determination and implementation of any corrective action) are adequate to protect the independence of the auditor from impairment either in fact or appearance. Therefore, the gathering of additional evidence to support financial statement assertions beyond the theoretical need or minimum has no potential for impairing audit independence (when done in compliance with Interpretation 101-13), but rather serves only to make the audit conclusions more reliable. In our opinion, reliance on one's own work is not an issue in such circumstances because the work is of a nature the auditors might have decided to do themselves anyway in a GARS audit. Accordingly, we believe this kind of circumstance also does not place the independent auditors in a position of possibly compromising their professional judgment and objectivity.

We also believe that the revision to Rule 2-01(b) of the SEC's Reg. S-X that became effective about two years ago was arbitrary and ill-advised with particular regard to the limitation it placed on permissible internal audit services based on the size of the auditee entity. As stated above, we agree with the current proposal only in the sense that we believe that any restriction on internal audit services to be rendered by independent auditors should be based on the nature of the services and their resultant potential for influencing audit judgments, not the size of the entity.

Our specific concern

A specific example is when internal audit services relates to circumstances when internal audit procedures are mandated by regulators, as in the casino gaming industry, and outsourced to independent auditors. In Nevada (and in some other jurisdictions), casino gaming operators are subject to regulatory "Minimum Internal Control Standards" among which are requirements for the performance of minimal internal audit tests of the operating effectiveness of such controls. For the smaller casino operations subject to these requirements, the minimum tests of controls necessary to meet the applicable regulatory objectives are all the internal audit work deemed necessary to meet management's objectives as well, and no other internal audit work is performed. Since these minimum tests often do not warrant the full-time employment of even a single internal auditor, the regulations permit outsourcing of this work to the independent auditors, and the licensees often elect to do so. The internal control testing work that we commonly perform for our gaming industry audit clients primarily to meet regulatory requirements are also viewed frequently by management as suitable to meet its objectives and, in our judgment, likewise represents work we would most likely have had to perform anyway to conduct a GAAS audit in this industry. Accordingly, the work serves a dual purpose and therefore represents a substantial cost savings to smaller gaming industry clients because they need not pay for the work to be done twice or alternatively, pay its independent auditors the cost of additional procedures that would be required under SAS 65 to enable reliance on the work of any other internal auditors that might otherwise have been engaged.

We urge the Commission to consider the foregoing and to reach a conclusion that only internal auditing services that are either performed in violation of AICPA Ethics Interpretation 101-13 or operational in nature should be deemed to impair auditor independence and that regulatory auditing, such as described herein, whether characterized as internal auditing or not, should not be restricted in any way other than by Interpretation 101-13.

Appraisal or Valuation Services

We believe the proposed rule on valuation services, providing that independence is impaired by the performance of "[a]ny appraisal service, valuation service or any service involving a fairness opinion or contribution-in-kind report for an audit client, where it is reasonably likely that the results of these services will be subject to audit procedures during an audit of the audit client's financial statements" is quite clear and reasonable, particularly when viewed in the context of the following paragraph:

The proposed rule does not limit an accounting firm from utilizing its own valuation specialist to review the work done by the audit client itself or an independent, third-party specialist employed by the audit client, provided the audit client or the client's specialist (and not the specialist used by the accounting firm) provides the technical expertise that the client uses in determining the required amounts recorded in the client financial statements. In those instances, because a third party or the audit client is the source of the financial information subject to the review or audit, the accountant will not be reviewing or auditing his or her own work. Additionally, the quality of the audit may be improved where specialists are utilized in such situations.

We also believe that valuation or appraisal services made for income tax purposes ordinarily are reasonably likely to impact the client's financial statements in the tax provision and, therefore, if such is the case, are likely to impair auditor independence.

Audit Committee Communications

Critical Accounting Policies and Practices

In the Commission's releases, the term "critical accounting policies and practices" seems to be used interchangeably with the shorter version (the only one that is defined), "critical accounting policies." If the same understanding of both terms is intended, we would like a clear statement to that effect to rely upon; if not, the intended distinction should be articulated.

We believe that the Commission should clarify in its definitions) that policies adopted to comply with applicable accounting standards when their adoption or application neither requires "difficult, subjective or complex judgments" nor entails making choices from among available alternatives, even though they may materially impact reported operating results, are not encompassed within the meaning of the term(s).

(See the second paragraph in the next subsection, below, for our comments on the need for written communications.)


We believe that the audit committee's financial oversight responsibilities inherently require it to do its due diligence to enable a pre-issuance approval of the issuer's financial statements for public distribution. We likewise believe that although the extent of such due diligence may be largely based on the judgment of the committee members, at a minimum, all auditor communications mandated by law, regulation or professional standards should be made prior to such approval.

We believe that written communications should be required to eliminate any question or doubt as to what was communicated and when and to mitigate the risk of misunderstanding, we believe that there may be circumstances when it is impractical to properly draft written communications timely to meet meeting schedules and filing deadlines. Accordingly, we believe all audit committee communications mandated by law, regulation or professional standards, including critical accounting policies, should be in writing, and if it is not practical to make such written communications prior to the audit committee's approval for public distribution and filing with the SEC of any financial information, then they may be made orally and followed up in writing within five business days thereafter.

Subject to our comments about the definition of terms in the previous subsection, above, we do not believe any specific instructions regarding the nature of communications are necessary at this time.


As we suggested under Partner Rotation, above, we believe the Commission's proposal on partner compensation does not go far enough because it does not affirm that to be independent, a functional audit partner's performance evaluation and compensation must be based primarily on exercising professional skepticism, standing up to client pressure for what is right, for technical knowledge and proficiency, and generally for doing quality audits, rather than obtaining new business (of any kind, not just nonaudit services) or retaining old business. We believe such a rule could best and should be enforced by requiring that the PCAOB periodic inspection process be developed to include procedures for evaluation of the partner reward system to obtain reasonable assurance of compliance with these principles.