Auditing Standard 5 – Oh, the Ennui!

A mentsh tracht und Gott lacht.
A person plans and God laughs.
Photo is by Joseph Cornell, American, 1903–1972
Untitled (Sun Box), c. 1955
In the permanent collection at the Art Institute of Chicago
Box construction with painted glass 6 3/8 x 9 3/4 x 4 1/8 in.
Inscribed and signed on back on paper labels: blue marble in glass. / Joseph Cornell
Lindy and Edwin Bergman Joseph Cornell Collection, 1982.1864
Art © The Joseph and Robert Cornell Memorial Foundation / Licensed by VAGA, New York, NY

The feeling was so strong today I had to get a four-shot venti vanilla latte after walking my dog, after having already downed a regular dose venti vanilla latte during the walk. My dog, her name is Rosie, is a 100 lb female American Rottweiler. So she gives me quite a workout when we walk in the mornings. And the air is still cool and brisk here in Chicago, even though we’ve had a thaw these last few days from the frigid temperatures of last week and most of the snow has melted.

Perhaps it was seeing the ice floes move past my window down below my balcony. I live on the river here in Chicago, and given its shallow depths, (it’s actually somewhat man-made) there was a sheet of ice on the surface last week that broke into glaciar-style (sic) floes this week, slowly knocking into each other and then disappearing as the temperatures stayed warm.

What does all this have to do with Auditing Standard 5, you ask? Well, permit me the indulgence of another sip of my latte before I begin to tell you of the utter boredom I experienced yesterday and that persists today when reading the comments that have been submitted thus far, in response to the proposal.

One more large gulp of caffeine…

Ok, now where to begin? I hesitate in commenting at all on the comments (It’s so meta!), but I am finding that the number one search criteria that is bringing readers from all over the world to my site is “Auditing Standard 5.” Who knew there were so many in search of such tedious stuff?

We’re not seeing any comments yet from the Big 4 or any of the other main audit firms. But those always come in at the last minute. It takes a lot of time to take a partner vote on their letter and then all those lawyers have to review it… But, there are some interesting comments:

1) Met Life and Alamo who tow the embarrassingly predictable corporate “this is overkill, please lower the costs” line…

2)The new Center for Audit Quality which practically gets down on their knees (and I hesitate to suggest that image, since the signer is a woman…)and thanks the PCAOB for a brilliant proposal. Mere words can not describe the glowing praise they bestow. At least my mere words will never describe, since I am not good with flowery phrases.

3) The Teamsters Union, whose author quotes Glass Lewis and the WSJ in promoting thoughtful standards for smaller companies. Although they say they support the quick adoption of the proposal, they make some stipulations. I think they are trying to have their cake and eat it too…

4) United Technologies writes a very short note because they only have a problem with the audit rotation wording. Somebody has a bone to pick with someone and wants to make it public…

5) Monica Radu writes a thesis, but an interesting one. Who is this person? She sounds like my kind of girl…

6) Many other very long and tedious, paragraph by paragraph exercises in ego and geeky audit-speak.

7) Finally, poor Todd Nielsen. I really feel for the guy. It’s not clear what company he works for, the identification is not on the document, but his name is in the index. I reprint his letter here, below, for your perusal. This guy really has had it rough and it’s all Sarbanes-Oxley’s fault. This is what’s wrong with how the bill was introduced. There was no PR. They should have put Edelman on the job or something. For some reason everyone blames the law instead of their own management for the fact they work in a dysfunctional, inefficient organization that doesn’t know where transactions start and where they end and that requires their poor accountants to jump through hoops to prove everything to the big, bad mean auditors. Woe is me…(My comments in parenthesis in bold)

To all,
I first would like to thank you for the opportunity to provide feedback. I think it’s very important for the board to hear first hand from people who have been directly impacted by Section 404. (Did someone in his company set this guy up to be the voice of the ordinary accountant on the front lines?)

Let me start by saying flat out that my coworkers and I are utterly disgusted and outraged by what Section 404 has done to our workplace. There’s really no other way to describe it. It is very unfortunate that what should have been an attempt to address fraud by executives turned into a massive misguided attempt to prevent any time of accounting error from ever occurring. That is impossible, and has resulted in incredible cost to U.S. public companies – not just in terms of audit $’s, but also in terms of lost efficiency, worker satisfaction, people laid off (to pay for all this) (Most companies had to hire all kinds of consulting and temporary support to get the work done, but this company laid people off so they could hire temps? I’m confused.) , and even increased errors (What????).

It’s very important to distinguish between fraud by executives and true errors by accountants. They are very different things. (But Sarbane’s purpose was to increase veracity and completeness of financial reporting. There is no differentiation made in why or how inaccuracies or incompleteness are caused, just whether they have an impact.) The scandals at Enron and Worldcom were not errors by accountants (What about Andy Fastow and Richard Causey, their chief accountants?) . They were intentional fraud and/or misstatements by executives at those companies. All of this was directly or indirectly driven by the large sums of money the executives had at stake, which was all dependent on the
financial results of the companies and meeting analysts earnings expectations.

The good news is that Sarbanes-Oxley has done a good job of addressing intentional financial misstatements (fraud) by executives. Most people could name the items needed to address this fraud without ever reading or knowing anything about Sarbanes. Definitely it needed to be made very clear to executives that fraud (ie. normally involving manipulation of earnings numbers) will no longer be tolerated. (Oh really? Why does it keep happening then, a la stock options backdating?) Along with that comes clear guidelines of what the penalties will be and the requiring of positive certification each reporting period that they have not committed fraud. Another big item was providing a mechanism for employees to report fraud without repercussion (although this can be a little dangerous since it can potentially be manipulated – but the good hopefully will outweigh the bad). (Sounds like this guy was on the wrong side of some complaints by his staff…)

Aside from the items above, the other big item that needed to be addressed was the lack of audit scrutiny by the partners in the auditing firms. (Well, I think I can agree that audit Partners and Senior Managers are not spending enough time in the details. That doesn’t fit their model for leverage of lower paid staff.) Again, money was the root cause of audit partners not taking measures to dig deep enough or push high enough on high level issues that normal audit procedures would not detect. The last thing the big CPA firms wanted to do was lose the audit engagement, since it was their doorway into big profit tax and consulting work. But clearly the rules on this have changed, and this problem area has been effectively addressed. (So the auditors are willing to throw down the gauntlet and give up the client when they think the client is doing something wrong?) So the good news is that the root causes of what brought about Sarbanes-Oxley have been well addressed. (Huh? Is this guy living under a rock?)

Granted, there will be future intentional misstatements by executives – personal financial greed and pressure to meet the forecasts has not gone away. But at least the expectations and penalties are very clear now. So this is by no means an across the board indictment of all Sarbanes-Oxley. But the bad news is that Section 404 went way beyond what was necessary and decided to take on the impossible (but extremely expensive) task of trying to prevent not only fraud/financial misstatement by executives, but all possible errors. This is absolutely insane. And it has caused incredible chaos at my company and the companies of my peers. (Chaos? Is this because these companies had no policies and procedures that documented their controls over key external financial reporting systems and activities? Is this excusable, Sarbanes-Oxley or not?)

As I overheard my former boss say to an auditor out of frustration the other day, “I can’t guarantee I’ll never make a mistake.” But unfortunately, that’s what Section 404 has attempted to do. Again, this wasn’t the problem in the first place. Intentional misstatement by executives isn’t a “mistake.”

And the sad thing is that my department is actually making mistakes now that we never did – directly as a result of Section 404. (This is unbelievable!) We have been mandated to have so much separation of duties that tasks that were once simple and straightforward have now become unduly complicated and involve a number of people. (Someone is using SOX as a scapegoat or doesn’t understand basic internal controls.)As a result, the work flow is constantly interrupted while waiting for someone else to now do their piece,
which forces us to set things down and restart them constantly. And items such as journal entries often get keypunched three times (Does this guy work in a 1980’s era department? Keypunched? Sounds like prehistoric systems and processes.)because of the separation of duties/system accesses. We now have to deal with keypunch errors that never existed before.

These types of things have caused us to make numerous mistakes that we’ve never made in the past. (There’s the mistakes again. This is sad. No wonder this guy’s company name is not identified. If I were their internal and external auditors, I would be looking at them even more closely.)And we’ve been given no leeway to use judgement anymore as to how much separation of duty we consider necessary for each area. Section 404 is quoted as a blanket statement over everything. (This is the fundamental problem. But whose fault is it? The management or their auditors?) It’s very frustrating.

We at the lower levels were not the problem in the first place, yet we are the ones suffering from the results of all this. Section 404 has caused errors in many other ways – both direct and indirect. The amount of time it takes away from both the staff accountants and managers is obscene and directly impacts the quality of our work.

We now have to find time to go over things constantly with regular internal auditors, our internal Sarbanes compliance people, and the external auditors. And of course now there are two external audits – one compliance and one financial. This time is stolen from the time we used to be able to spend on actual accounting work. As a result, my people are making mistakes they have never made in the past (Mistakes again) simply because they don’t have sufficient time to concentrate on their actual work. (What actually is their “actual work” if it is not the accounting activities that result in the financial statements?)

And simply working longer hours is not a quick fix. We have to remember that people only have so much mental energy (Clearly…)to use each day. Again, if you have to spend half of every day digging things up and explaining things to the numerous auditors we now have to deal with, you are often half burned out by the time you get to your actual accounting work. It feels like the work itself has taken a huge back seat to the auditing of the work. Several people have noted that it feels like you do one small task, and then numerous auditors come out of the woodwork and audit it to death. And simply adding staff (which is very tough to get approved) isn’t always the answer since there is only so much good meaningful work to do. These are real people, not machines.

And specifically for my company and accounting department, we are still slowly recovering from the fact that we were going through a massive systems implementation at the time that we were also implementing Section 404. (Well, now we’re getting to the bottom of this. Sounds like bad planning.) So instead of our people being able to spend the time they needed learning all the intricities of the new system and making sure the initial setup was done correctly, we instead spent day after day in rooms with Sarbanes consultants explaining over and over again what we do and how everything works.

As a result, numerous things were missed or done poorly in the implementation that would have been nobrainers if we had been allowed to spend the time needed. (More areas the auditors should be looking at.)

I think sometimes that people associated with Sarbanes forget that we actually have jobs to do. So now even after a couple years have passsed we are still trying to fix the initial systems (Very bad situation, I’m starting to feel sorry for the guy…)setup and and learn how certain things work – things that would have
been done easily while the systems implementation team was in place and ready to help.

Another depressing outcome of Section 404 (I’m getting depressed imagining it…)is the massive amount of administration we now have to go through to do routine tasks. I currently serve as a supervisor, and rather than getting meaningful work done – my days are typically spent reviewing SOX narratives, preparing things to be signed by my manager, signing/dating/initialing paperwork, responding over and over again to the same compliance type questions, pulling items for the various auditors, re-explaining how things work to various auditors, etc. It has taken the quality of my workday and other managers and reduced it to endless administration.

Not a day goes by that someone in my area doesn’t think about looking for a job at a non-public company. (That’s a good idea. Go where there is less scrutiny and you can make mistakes without any shareholders complaining. Only your bankers. And VC guys. And retirees. And your employees when the company goes under.) But we hate to be forced out of jobs that we used to get a great deal of satisfaction out of. Unfortunately, several very good people have left out of frustration over what Section 404 has done to their jobs. And ironically, by losing these intelligent knowledgable people, our risk of errors has increased. (Again, the errors.) Again, part of Section 404 backfiring.

And perhaps that is what much of this boils down to. Section 404 has inadvertently led to a tremendous decrease in job satisfaction amongst accountants. (Oh my gosh, those happy go-lucky accounting types are becoming morose and depressed and burnt out? This is certainly a new phenomenon.) Every single accountant I know that is impacted by Section 404 (at other companies also, not just mine) absolutely hates it. Hate is a strong word, but that is the sentiment. I have never seen so much frustration as I have with Section 404. We’ve always had good,
motivated accountants that thrive on challenges. But Section 404 has taken a great deal of this away from them. It is punishing them for problems that they couldn’t possibly have been further away from causing.

The reason I have taken the time to write the above items is that I think it’s important to understand this in order to talk about the auditing standard. Ideally we would want much of Section 404 to be abolished and return the control of the Accounting Departments back to the controllers. (Yeah, that’s the ticket…)

The best way to minimize true accounting errors is the same as it has always been – hire intelligent motivated accountants and have intelligent motivated managers in place to oversee things. You can put all the rules and controls and narratives, etc., in place that you want, but “you can’t legislate stupidity.” True mistakes can and will continue to happen no matter how many controls you have. But if you have good people in place – and give them sufficient time to do their job (ie. not spending all their time on admin) – you should be able to minimize the materiality of most errors.

So the single biggest improvement we can make with regards to auditing is to minimize the time impact on the accounting departments. Having to explain the same things over and over again to multiple auditors – internal and external – steals time away from actually doing the work properly. Every minute spent making copies and pulling backup and re-explaining things is a minute we’ve taken away from our accountants concentrating on doing actual work. The media appears to only be focused on the external $ cost to companies – we seem to have completely ignored the incredible drag on our people’s time and their own internal motivation to go to work and do a good job every day.

So anything you can do to decrease the time impact on our accounting departments will be incredibly appreciated. Again, most of the controls that have been added have little to do with the real issue of the large $’s at stake that drove executives to manipulate financial results and that drove CPA firms to not address the real risk areas in the first place. I guess the new joke is “how many accountants does it take to change a lightbulb?” Unfortunately, after Section 404 the answer might be quite high. You’d probably need one to authorize the lightbulb change, one to supervise the change, one to physically twist the bulb out, one to bring the new bulb over, one to screw the new bulb in, one to check off that the bulb was changed, and then a minimum of three auditors to verify that everyone checked the right boxes – regardless of whether the bulb was properly changed or not. So I guess the answer would be nine. (He forgot one more to complain about it in a whining tone.)

But unfortunately this is no joke.

We will be anxiously awaiting (But not too anxiously, since most of them, it sounds like, are now on anti-depressant drugs.) news on what will hopefully be some good changes. Thank you for your time.

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