PCAOB Adopts Auditing Standard No. 18, Related Parties

The Public Company Accounting Oversight Board today adopted a new auditing standard and amendments to other auditing standards to strengthen auditor performance requirements in three critical areas of the audit: related party transactions, significant unusual transactions, and a company's financial relationships and transactions with its executive officers.

The Board took this action today because these transactions and relationships could pose increased risk of material misstatement in company financial statements. The Board determined that its existing requirements in these critical areas do not contain sufficient required procedures and are not sufficiently risk-based. Further, the Board's inspection and enforcement activities indicate that there are continuing weaknesses in auditors' scrutiny in these areas.

"The new auditing standard and amendments we adopted today address transactions and relationships that have been contributing factors in a number of financial reporting frauds," said James R. Doty, PCAOB Chairman. "Subjecting these areas to enhanced auditor scrutiny may help avert corporate failures and avoid harm to investors."

The Board initially proposed the standard and amendments on February 28, 2012, and reproposed them on May 7, 2013. Commenters widely supported the Board's efforts to improve its auditing standards in the three critical areas. After considering comments received on the reproposal, the Board today adopted the standard and amendments substantially as reproposed.

Auditing Standard No. 18, Related Parties, requires specific audit procedures for the auditor's evaluation of a company's identification of, accounting for, and disclosure of transactions and relationships between a company and its related parties. The new standard supersedes the Board's interim auditing standard, AU sec. 334, Related Parties.

The amendments regarding significant unusual transactions include specific audit procedures that are designed to improve the auditor's identification and evaluation of such transactions, and to enhance the auditor's understanding of their business purposes.

Other amendments to PCAOB auditing standards include, among other things, specific audit procedures requiring the auditor to obtain, during the risk assessment process, an understanding of a company's financial relationships and transactions with its executive officers.

"The new performance requirements for auditors are designed to provide a cohesive audit approach to three challenging areas that warrant additional auditor effort and focus," said Martin F. Baumann, PCAOB Chief Auditor and Director of Professional Standards.

"Given the potential risks of material misstatement from these types of company transactions and relationships, investors will benefit from auditors' comprehensive and consistent examination of them," said Chief Auditor Baumann.

All new auditing standards and amendments to PCAOB standards adopted by the Board are submitted to the Securities and Exchange Commission for approval. If approved, the SEC also determines if the new requirements would apply to audits of emerging growth companies.

The new standard and amendments will be effective, subject to SEC approval, for audits of financial statements for fiscal years beginning on or after December 15, 2014, including reviews of interim financial information within these fiscal years.

The final rule and Board statements from the open meeting will be available on the PCAOB website under Rulemaking Docket No. 038. An archive of the webcast and a podcast of the Board meeting also will be available later on the PCAOB website.

A fact sheet on the adopted standard and amendments also is available.