The head of the accounting oversight board warned there are still significant problems at the nation's four biggest audit firms, which have struggled to regain credibility after confidence-rattling financial scandals over the past three years.
William J. McDonough, chairman of the Public Company Accounting Oversight Board, yesterday told Congress that the board's investigators had identified unspecified "audit and accounting issues," including auditors' failures to keep adequate documents to back up their judgments.
The landmark 2002 Sarbanes-Oxley Act gave the board control over discipline and standard-setting for accountants, who came under fire for failing to detect fraud at Enron Corp., WorldCom Inc., and other public companies.
McDonough did not provide details about the problems that surfaced in reviews last year of the Big Four firms -- PricewaterhouseCoopers, Ernst & Young, Deloitte & Touche, and KPMG.
While no major audit blowups surfaced, at least one public company has been forced to restate its earnings based on issues the board's inspectors found, according to three sources involved in the process who asked not to be identified because the reviews are confidential.
The board is prevented by law from making deficiencies public for at least 12 months, to give the firms time to fix bad practices. But edited reports with more general descriptions of trouble spots will be released as early as August, board officials said.
Lawmakers said the findings suggest that the accounting industry will -- and should -- continue to face close scrutiny by independent overseers and the investing public. Rep. Richard H. Baker (R-La.), who presided over yesterday's House Capital Markets Subcommittee hearing, said in an interview that disclosures about continued problems were "disconcerting."
Baker said he was confident in the accounting board's work and added: "I think we're in a very suspect marketplace where everyone is watching carefully the others' performance."
Deloitte and KPMG declined to comment yesterday about the oversight board's assessment. PricewaterhouseCoopers did not return calls. Ernst spokesman Charles Perkins said independent oversight "is good for investors and the profession. It will help ensure that our audit work meets the highest possible standards."
Earlier this year Ernst was barred from taking on new public audit clients for six months after an administrative judge at the Securities and Exchange Commission ruled the firm had developed an overly cozy relationship with client PeopleSoft Inc. in the 1990s.
That was the most recent blow to the accounting industry, which reeled after Arthur Andersen LLP was convicted of obstructing justice in 2002 for destroying papers related to its work for Enron. Andersen collapsed, and most of its partners dispersed to other firms.
The five-member accounting oversight board voted unanimously earlier this month to require auditors to preserve work papers for seven years. At the time, Douglas R. Carmichael, the board's chief auditor, said the new recordkeeping requirements would help to ensure auditors are actually performing all the work they claim.
McDonough's testimony yesterday was based on "limited" reviews of the work papers from a small slice of audits performed by the Big Four.
But the board's inspectors last month started to roll out more widespread reviews of other accounting firms that audit publicly traded clients. In all, the board plans to examine more than 500 audits performed by the Big Four and 150 audits performed by the next four largest accounting firms.
Among the factors that inspectors will consider are how auditors try to detect possible fraud, whether they maintain sufficient independence from their clients and how they comply with audit standards, McDonough said.
Rep. Michael G. Oxley (R-Ohio), chairman of the House Financial Services Committee, said yesterday that "the board has spread a little fear, and Chairman McDonough has hit the proper tough-but-fair tone, in my estimation."
Dennis R. Beresford, an accounting professor at the University of Georgia and chairman of the audit committee at MCI Inc., said the board is still ironing out some "start-up" issues.
Beresford said he and other corporate directors are concerned that problems the board's inspectors uncover may not be passed along promptly to directors and managers at public companies since the board has jurisdiction only over outside auditors.
"Corporations are pretty outraged by the idea that their accounting could be challenged by this third party and they don't even have their day in court," he said.
Beresford said he has solved the problem by telling outside auditors who review the books of the three companies on whose boards he sits to notify him quickly if inspectors turn up accounting questions and problems.
Researcher Richard S. Drezen contributed to this report.