A decade of regulatory evolution

In the last decade some significant changes have been made to the regulatory environment in which accountants operate. Looking ahead, further change is anticipated, reports Sarah Perrin

It is hard to look back at the last decade of regulatory developments in the accountancy profession without running straight into Enron and Sarbanes-Oxley. However, Charles Niemeier, a member of the Public Company Accounting Oversight Board (PCAOB) in the US, notes that the development of the regulatory environment in the US had been made in 'gradual steps' up until Enron, and the other scandals triggered the Sarbox legislation. 'There was then a lack of credibility in the systems that were put in place before,' he says. 'There was frustration that WorldCom and Enron could occur after reforms had been put in place previously that were supposed to prevent them.'

A public oversight board had been introduced back in the late 1970s charged with overseeing firms' peer review programmes. 'In 25 years, not once did one accountancy firm openly criticise another,' says Niemeier. This body lost its credibility after Enron, with the result that the PCAOB was established. 'The PCAOB was given the powers to oversee the profession in a meaningful way,' says Niemeier. 'The accountancy profession's credibility was in dire straits and it put at risk the credibility of the whole financial system that we have. It's not something we should put at risk.'

Many jurisdictions around the world are following the American lead by establishing independent oversight bodies like the PCAOB, although others have models more akin to that of the US 25 years ago, Niemeier notes. 'We have established rules that allow us to co-operate and work with oversight organisations in other countries based on a sliding scale,' he says. 'The more robust and independent they are, the more we can rely on them. And the opposite is also true.' He adds: 'We have a very clear mandate - to ensure that high quality audits are performed in the US markets.'

The Sarbanes-Oxley Act and its requirements have had a positive impact in the US, Niemeier feels. The associated costs have not jeopardised the appeal of the US capital markets. 'I think the demise of the American markets because of Sarbanes-Oxley has been greatly exaggerated,' he says. 'Litigation in the securities area is down. It seems the system is working.' No-one could deny there were costs associated with the initial compliance process required to ensure compliance with the S404 provisions on internal controls. But that, Niemeier suggests, was partly because companies had let these slip previously and so had to do a degree of 'deferred maintenance'. The need to comply in a relatively short time-frame also created costs as expertise was in short supply. 'Accelerated filers in the US completed the process first,' says Niemeier. 'The costs are now down to a level which is acceptable and sustainable.'

Niemeier stresses that there is little new in the Sarbox internal control requirements. Similar provisions were introduced in the 1970s. The problem was that companies could get away without complying. 'The real dramatic impact [of Sarbox] is because, this time, it puts accountability into the system,' he says. 'There's an audit report associated with the internal controls. It's a public report card.

'At some point the limits of regulation have to be recognised,' says Niemeier. 'The PCAOB or any other oversight organisations will not be effective if we view ourselves as policemen. In the end it comes down to the profession itself. If we are a catalyst for improvement, then I think we are doing our job. Most auditors I know have always wanted to do the right thing, but often the system puts them in a difficult position.' Thus, overseers need to focus on freeing auditors from the pressures and limitations that prevent them from doing the right thing. 'As regulators I hope we will be their buttress, giving them confidence to do the right thing, without fear of reprisal,' says Niemeier.

He warns that the hard part of the PCAOB's regulatory job is now beginning. 'Changes to the regulatory environment have been made. Now we are into the hard part - the maintenance,' he says. This could get particularly challenging as companies feel the economic squeeze and want to present their results in a more positive light. 'We have to stay vigilant,' says Niemeier. 'It's not additional regulation that's required, but staying focused on the work in hand.'

If Enron was one major determinant of the current regulatory environment, another is the widespread adoption of IFRS around the world. Paul Boyle, chief executive of the UK's Financial Reporting Council (FRC), believes this trend 'will accelerate with the US gradually coming on board'. In mid-November, the Securities and Exchange Commission (SEC) announced that it would drop the requirement for foreign issuers in the US preparing accounts under IFRS to have to reconcile them to US GAAP. It is now consulting on whether to allow US domestic companies the option of preparing accounts under IFRS.

There are challenges facing regulators, however. Boyle notes that the Statutory Audit Directive (8th Company Law Directive), which comes into force this year, requires European regulators to include foreign auditors in their review remit. 'This gives us significant new responsibilities,' says Boyle. 'We are going to have to regulate these foreign auditors. How are we going to organise the conduct of inspections in Taiwan or the Cayman Islands…? And who is going to pay for it?' Further details from Europe on implementing the directive were being eagerly awaited.

The FRC's role has previously undergone significant expansion. 'The FRC is about five times bigger than it was 10 years ago and has three times as many responsibilities,' says Boyle. These now encompass accounting and auditing standards, corporate governance and the regulation of the accountancy and actuarial professions - all under one roof. 'We are an integrated corporate reporting and governance regulator,' says Boyle. 'This makes sense. All these issues are linked. Audits are affected by accounting standards. Pensions accounting is crucially dependent on what actuaries do. Corporate governance sets the tone at the top in public companies. That's why we think it makes sense to regulate them on a joined-up basis. The overall design we have here is pretty good. We don't see major changes being necessary.'

As for self regulation, Boyle does not think it exists any more in the sense of regulation of the profession by the profession. 'The professional bodies in the UK still do have an important role to play in the regulatory environment, but it's much less important than it was 10 or 15 years ago,' he says. 'They no longer have responsibility for setting accounting and auditing standards, for example. The enforcement of accounting and auditing standards, at least for public interest companies, is done independently of the profession.' However, self regulation in the sense of accountants regulating their own behaviour remains highly important, Boyle feels. 'It's about individuals behaving ethically, following standards, facing up to difficult decisions and dealing with them in the best way,' he says. 'Almost all the scandals we have had have not been failures by the professional bodies to do their job properly. The underlying cause has been individual accountants and auditors not doing as good a job as they can. If people want to have a light touch regulatory regime, the biggest thing they can do is to do the best job they can, to the highest professional standard.'

Peter Large, ACCA's executive director of professional standards, feels that ACCA's regulatory regime has evolved in line with changing expectations. 'There is a need to ensure all stakeholders have confidence in the regulatory process,' says Large. 'That means not just doing the right things, but doing them in the right way. That's one of our key themes.' Thus, regulation needs to be based on principles that are clear and understood.

Independent oversight is essential for maintaining stakeholder confidence, Large believes. 'I am not confident that pure self regulation commands significant public respect. It smacks too much of things being done behind closed doors. Oversight by an independent body is also vastly superior to governments getting involved. There is no evidence that stakeholders have more confidence in civil servants as regulators.'

However, Large does have a warning for regulators. He says: 'There is a tendency for independent oversight bodies to move from pure oversight towards micro-managing some of the elements of regulation. Oversight is not the same as hands-on regulation. Pure oversight can work really well.'

Asked how effective the current regulatory environment is, Olivier Boutellis-Taft, chief executive of European accountancy body FEE, says: 'Let's wait and see.' His point is that the environment in Europe is undergoing a period of significant change. The Statutory Audit Directive, for example, which addresses public oversight, third country auditors and various other matters, must be implemented by June 2008. Boutellis-Taft also notes that there are also a number of 'very important debates' going on, in relation to issues such as auditor liability, quality assurance, competition and choice in the audit market, the ownership of audit firms and the proposed IFRS for SMEs, to name but a few.

Looking ahead, Boutellis-Taft does not wish to see constant and continuous changes being made long into the future. 'Constant changes of regulation are not at all helpful,' he says. 'Sometimes it is wise to have a pause to digest the changes that have been made.' Above all, Boutellis-Taft is keen to urge regulators to stick to the principle of delivering 'better regulation'. In regulation, as in most areas of life, it is quality, not quantity, that really counts.

Sarah Perrin is an accountant and writer.