INTERVIEW-US audit watchdog eyeing hard-to-value securities
By Rachelle Younglai
WASHINGTON (Reuters) - The U.S. audit watchdog is examining hard-to-value items such as auction rate securities and collateralized debt offerings as it inspects 2007 annual reports, a Public Company Accounting Oversight Board (PCAOB) official told Reuters on Wednesday.
U.S. banks and other companies have struggled with valuing securities linked to the subprime mortgage crisis and Wall Street has been forced to write down billions of dollars in related losses in recent months.
George Diacont, the PCAOB's director of inspections, said the complex securities would be closely scrutinized as the board examines 2007 work by the major accounting firms.
"We identify a high risk portion of the audits and inspect that slice of it," Diacont said in an interview.
"The valuation of certain investment vehicles such as collateralized debt offerings, auction rate securities... are high risk from an inspection perspective," Diacont said. "Off-balance sheet transactions also fall into that category."
The PCAOB has been inspecting work by the major accounting firms annually since 2002, when Congress passed the Sarbanes-Oxley law to bring order to an accounting industry hit by a series of book-cooking scandals.
This year, complex securities that have become hard to value since the U.S. credit market seized up will be under the microscope. They include structured finance products such as residential mortgage backed securities and structured investment vehicles.
Fair value accounting requires assets and liabilities to be valued based on how much they are currently worth as opposed to using historical values. Values can be based on a simple price quote in an active market, but others have to be based on management's best estimation derived from mathematical models.
"The risk of those valuations increases as those investments become illiquid. In today's market everybody understands that there are a lot of investments that are, strictly speaking, illiquid or very difficult for those investments to be sold," said Diacont.
The PCAOB started inspecting the 2007 audits conducted by the largest accounting firms in April. The industry is dominated by four firms -- Deloitte & Touche LLP [DLTE.UL], Ernst & Young LLP [ERNY.UL], KPMG [KPMG.UL] and PricewaterhouseCoopers LLP [PWC.UL].
The PCAOB's current staff of about 250 is sufficient to conduct the inspections, he said. When the board first started inspecting auditors in 2003, it had a staff of about 20.
Diacont declined to say whether the current round of audits are the toughest faced by the auditing industry.
"To conduct those audits each year is extremely difficult and extremely complex," he said.
"When you add that there is a liquidity problem with respect to certain investments and difficulties in valuing those investments, and the accounting itself is very complex for some of the things they must deal with... I think they are under a tremendous amount of pressure."
(Reporting by Rachelle Younglai; Editing by Tim Dobbyn)
