Why You Should Care About PCAOB'S Far Reaching Fair Value Plan

by Edith Orenstein

The key issue of fair value, which has vexed regulators since the 2008 financial crisis, may be reaching another tipping point, as the PCAOB releases a staff paper seeking comment.

PCAOB Chairman James Doty (via Flickr)

The Public Company Accounting Oversight Board (PCAOB) released a Staff Consultation Paper earlier today on Auditing Accounting Estimates and Fair Value Measurements. Observing an uptick in the use of fair value measurements and disclosures, the PCAOB said that auditing fair value and estimates has proven “challenging.”

As a standard-setter, the PCAOB is in a unique position. It is closer to that of the U.S. Securities Commission than the Financial Accounting Standards Board (FASB), for example, in the sense that  the audit regulator’s duties include not only setting auditing standards  but also inspecting the adherence of its registered audit firms to those auditing standards. The PCAOB also has related quality control standards and independence standards,  and when called for, can take enforcement actions against audit firms that fail to follow those standards.

Therefore, it is significant when the PCAOB states that when it comes to the subject of fair value and estimates, “Through its oversight activities, the PCAOB has observed significant audit deficiencies in this area.”

PCAOB Considering Potential New Standard

The PCAOB states in the Staff Consultation Paper released today that -- among various alternative paths -- it is currently considering and seeking feedback on "a single standard (the "potential new standard") which could replace many existing auditing standards that address auditing estimates, fair value, derivatives and hedging activities.  The potential new standard, the PCAOB believes, could replace the aforementioned list of standards (“the existing standards”), collectively."

Among new features to watch for in the PCAOB’s plan is specific audit requirements relating to the use of third parties in developing accounting estimates and fair value measurements.

Additionally, the PCAOB staff aims to align any new standards with its risk assessment standards, and generally retain the approaches to substantive testing from the existing auditing standards on estimates and fair value.

Management’s Process – and Third Party Valuations

CFO’s and other members of management should pay attention to this staff paper and consider filing comments on it. There is a great deal of discussion about what procedures auditors should undertake to understand management’s process for developing its estimates and fair values and the use of independent third party values.

COSO, AS5 and Internal Control Too

Although this particular staff paper  is entitled Estimates and Fair Value – don’t lose sight of the fact that this paper also expressly proposes some requirements relating to Internal Control over Financial Reporting, through its discussion of AS12 and AS13 among the Risk Assessment Standards. I strongly urge company management to read this Staff Consultation Paper cover to cover, and don’t treat PCAOB staff papers like this as something that just impacts “your auditors.”

This will ultimately impact you.

Comment Deadline; SAG to Discuss

Concurrent with releasing the staff paper on fair value and estimates today, the PCAOB announced that its Standards Advisory Group (SAG) will meet on October 2, 2014 to discuss this subject.

Although the comment deadline on the Staff Consultation Paper is November 3, 2014, it is possible that comments sent in a fair amount of time prior to the SAG meeting may be considered by individual SAG members. That is my own personal observation.

The Final Word

I’d reiterate the need for financial executives to pay serious attention to this forty-seven (47) page PCAOB Staff Consultation Document, which ventures into areas broader than just fair value and estimates, such as internal control over financial reporting generally – as noted above – and, let’s face it – what area of financial reporting doesn’t include estimates, if not fair values, these days?