SOX compliance: Title I—Public Company Accounting Oversight Board explained

Title I of the Sarbanes-Oxley Act (SOX) establishes the Public Company Accounting Oversight Board (PCAOB) and outlines its role in independently overseeing public accounting firms providing auditing services.

It primarily focuses on ensuring corporate accountability, improving financial disclosures, and preventing corporate and accounting misconduct. It encompasses measures related to corporate governance, financial reporting, auditor autonomy, and the supervision of accounting entities.

Section 101: Establishment and administrative provisions

• Section 101 of SOX establishes the PCAOB to oversee companies' audits, safeguard investor interests, and ensure accurate audit reports.
• The PCAOB operates as a nonprofit corporation independent of the government, with duties including registering public accounting firms, setting auditing standards, conducting inspections, and enforcing compliance.
• The board is comprised of five members appointed by the Securities and Exchange Commission (SEC), with term limits and prohibitions on concurrent professional activities. The board has various powers, including legal representation, property acquisition, fee collection, and contract execution.
• The PCAOB's rules cover its operations, delegation of functions, ethics, and reporting obligations, with an annual report submitted to the SEC and relevant congressional committees.

Section 102: Registration with the board

• Section 102 of SOX mandates the registration of public accounting firms with the PCAOB. Firms must submit detailed applications and annual reports disclosing client information, fees, financial data, personnel details, and legal actions.
• The PCAOB reviews applications within 45 days and assesses registration and annual fees to cover processing costs.
• Application and annual report information may be made public, with safeguards for confidential data.

Section 103: Auditing, quality control, and independence standards and rules

• Section 103 of SOX mandates that the PCAOB establish auditing, quality control, and independence standards for registered public accounting firms.
• These standards aim to ensure informative, accurate, independent audit reports, with requirements for audit work papers, partner reviews, and internal control testing.
• The PCAOB may adopt existing professional standards and convene expert advisory groups to inform its rule-making process.
• The annual report of the PCAOB must include an evaluation of its standard-setting activities and plans for future projects.

Section 104: Inspections of registered public accounting firms

• Section 104 requires the board to conduct ongoing inspections of registered public accounting firms and their associated personnel to ensure compliance with SOX, PCAOB and SEC rules, and professional standards during audits and related activities involving issuers.
• Inspections are conducted annually for large firms and every three years for smaller ones.
• Violations are reported to the SEC, and firms have the chance to respond before reports are made partially public.
• This section also addresses the disclosure of foreign branch accounting firms and imposes trading prohibitions on issuers with consecutive non-inspection years.

Section 105: Investigations and disciplinary proceedings

• Section 105 outlines procedures for the board's investigations and disciplinary proceedings regarding registered public accounting firms and their associates.
• The board has the power to investigate potential violations of SOX, securities laws, and professional standards. This includes the authority to subpoena testimony and documents. Noncooperation with investigations can result in sanctions, such as suspension or revocation of registration.
• The board coordinates with the SEC and other authorities and ensures the confidentiality of investigation materials unless released in a public proceeding.
• Sanctions for violations include suspension, revocation of registration, civil penalties, and censure. The board must report sanctions to the SEC, state regulatory authorities, foreign licensing boards, and the public. A stay of sanctions can be requested pending review by the SEC, with expedited procedures available in certain cases.

Section 106: Foreign public accounting firms

• Section 106 establishes regulations for foreign public accounting firms that issue audit reports for issuers, brokers, or dealers in the United States. These firms are subject to the same rules and regulations as domestic firms, including the mandate to provide audit work papers upon request by the SEC or board.
• Foreign firms must designate a US agent to carry out requests or processes. Willful refusal to comply with requests is considered a violation of SOX.
• The SEC and the board have the authority to exempt foreign firms from certain provisions.

Section 107: Commission oversight of the board

• Section 107 outlines the SEC's oversight responsibilities over the board. It grants the SEC the authority to approve the board's proposed rules and to review and modify disciplinary actions taken by the board.
• The SEC can also censure the board or its members if they violate provisions of SOX, fail to enforce compliance, or engage in misconduct.
• The SEC may further rescind the board's authority or impose limitations on its activities if deemed necessary for the public good or investor protection.

Section 108: Accounting standards

• Section 108 addresses accounting standards. It grants the SEC the authority to establish rules and regulations to implement Section 19(b) of the Securities Act of 1933, added by this section, for the public good and investor protection. It clarifies that nothing in SOX affects the SEC's authority to set accounting principles for securities law enforcement.
• It mandated a study on adopting a principle-based accounting system within the US financial reporting system. This study assessed various aspects, such as the presence of principle-based accounting, the transition period from a rule-based system to a principle-based system, and the economics of implementing such a system.
• The SEC was required to submit a report on the study's results to specific congressional committees within one year of SOX's enactment.

Section 109: Funding

• Section 109 of SOX establishes the funding framework for the PCAOB and a designated standard-setting body overseen by the SEC.
• The PCAOB's budget is primarily funded through accounting support fees from issuers, brokers, and dealers. Furthermore, the monetary penalties it collects are used to support a scholarship program for accounting students.
• Fees are based on the market capitalization for issuers and are proportional to the net capital for brokers and dealers.
• This section clarifies the issuers' obligation to pay fees and exempts the PCAOB and the standard-setting body from congressional appropriations procedures. Additionally, it authorized the Secretary of the Treasury to advance funds from unexpended SEC appropriations to cover the PCAOB's startup expenses.