Undergoing a PCAOB audit is a critical milestone for any business aspiring to become a publicly traded company. These audits, completed under the standards prescribed by the Public Company Accounting Oversight Board (PCAOB), provide investors with reasonable assurance that a business’s audited financial statements are informative, accurate, and independent. They also ensure that your company complies with Securities and Exchange Commission (SEC) regulations.
The process can feel a little intimidating if your business hasn’t undergone a PCAOB audit before. A PCAOB audit is far more detailed than the traditional financial statement audits your business may have undergone as a private company. But these audits are precursors to going public, and your business’s accounting and finance leaders must know how to prepare for the process.
Dive Deeper: PCAOB Audit Services: Your Essential Guide to Going Public
What is a PCAOB Audit?
Before you kick off the process of hiring a PCAOB audit firm and work your way through the checklist provided below, you must understand what a PCAOB audit is and whether your company is required to obtain one.
Public companies are required to obtain a PCAOB audit to provide independent assurance over the integrity of financial statements filed with the SEC (Securities and Exchange Commission). These audits are far more rigorous than those for private companies and must be completed by registered public accounting firms that prepare audit reports for issuers.
Publicly traded companies are required to obtain a PCAOB audit annually. Companies that aim to list on the public markets, including companies aiming for an Initial Public Offering (IPO) or those entering a reverse merger, are required to file two years of PCAOB audited financial statements with the SEC, along with many other filings.
Companies positioning themselves to be acquired by a public company may also obtain a PCAOB audit. This step offers potential acquirers greater assurance that they can easily integrate an acquisition target into their existing accounting and finance infrastructure with minimal compliance challenges.
Preparing for a PCAOB Audit: Key Steps to Take
As a public company, your business will face far more onerous financial reporting requirements than it did as a private company. Expect the workload of your accounting and finance department to increase significantly, both during the preparation phase and after your company is listed.
In advance of this, companies will need to take steps to ensure they comply with reporting requirements such as GAAP, IFRS, U.S. federal securities laws, and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
To determine your level of PCAOB audit readiness, consider the following factors as part of a PCAOB audit readiness checklist:
- Financial Reporting and Compliance
- Sophistication of Internal Controls & IT System Capability
- Establishing Governance Frameworks
- Understanding Typical Audit Timelines
- Selecting an Auditor & Preparing for the Audit
Let’s examine these activities more closely and explore what it means for your organization to be well-prepared for the PCAOB audit process.
Financial Reporting and Compliance
Adhering to GAAP (Generally Accepted Accounting Principles) and SEC reporting standards is a central component of preparing for a PCAOB audit. Companies must ensure that their financial statements comply with these guidelines. Companies may be required to adjust their previous financial statements if reported under different standards (e.g. Cash or Tax basis reporting).
There are many distinctions here, and it’s important that you have an experienced advisor to help you navigate this process. Key elements to pay attention to here include:
- Revenue Recognition: As a public company, you must comply with ASC606, a five-step framework that defines how companies recognize revenue from contracts with customers.
- Asset Valuations and Impairment: Estimation and judgment play significant roles in the valuation of your company’s assets, particularly when it comes to intangible assets like goodwill. If you’ve acquired a company or hold significant assets, make sure you have the necessary documentation and external valuations for auditors to review.
- Management’s Discussion and Analysis (MD&A): In addition to financial disclosures, your company’s leadership must provide detailed insights into its operations, financial position, and future outlook.
- Risk Factors: Risks related to your business model, financial reporting, and external factors like economic changes or cybersecurity threats must be thoroughly explained in SEC filings.
- Segment Reporting: If your company operates in multiple business segments, you must disclose detailed information about each segment, such as the chief decision-making officer responsible for resource allocation. The audit will evaluate how well your reporting aligns with these requirements.
This is far from a complete list. We encourage you to contact a Grassi advisor to understand how GAAP and SEC reporting standards apply to your business,
Sophistication of Internal Controls
To have a successful PCAOB audit, companies must have robust internal controls that comply with all relevant regulations. These internal controls must be documented and in effect throughout the audit period (i.e., the two preceding years from the date of the audit).
Some areas to focus on include:
- IT Systems: Ensure your financial and IT systems are integrated and reliable. Any weaknesses in IT controls must be disclosed as “material weaknesses,” which could raise red flags with auditors and investors.
- Segregation of Duties: Implement segregation of duties to prevent any single individual from having too much control over financial transactions. This helps in reducing the risk of fraud and errors.
- Independent Review and Approval: Ensure that journal entries, transactions, and other financial activities are subject to independent review and approval. Reconciliations should be performed regularly, and thresholds should be defined to follow up on any identified variances.
Like the financial reporting requirements detailed above, your company must fulfill many internal control requirements. If you’re unsure of how to proceed, contact a Grassi advisor.
Establishing Governance Frameworks
Public companies often must establish an audit committee to oversee the PCAOB audit process. Refer to your company’s by-laws to identify whether this is a requirement for your company.
Audit committees tend to be a sub-committee of the board. They are made up of three or more independent directors, at least one of whom should have significant financial experience. This committee is responsible for selecting the auditor, overseeing the audit process, approving audit services, and ensuring compliance with SEC requirements. It’s crucial to have a strong audit committee in place before beginning the audit process.
In addition to the audit committee, it’s also important to ensure your business has the right professionals to handle the day-to-day interactions with your auditor. A CFO or a Controller commonly leads this process.
Understanding Typical Audit Timelines
Preparing for a PCAOB audit and the wider journey toward becoming a public company is not a quick process. Ideally, companies planning an IPO should allocate at least two years for preparation. This timeline can be thought of in three strategic phases:
- Initial Preparation (6-12 months): During this phase, focus on ensuring compliance with financial reporting standards, establishing internal controls, upgrading IT systems, and more.
- IPO Preparation Phase (6 – 12 Months): This phase is focused on hiring the right professionals to help your company navigate the process. Hire an experienced SEC attorney and a PCAOB audit firm.
- Transaction Phase (6 months): Finalize financial statements, perform internal reviews, and ensure all documentation is audit-ready. You’ll undergo a PCAOB audit to obtain audited financial statements. During this process, you’ll submit preliminary filings to the SEC for review and respond to any comments before submitting your complete audited financial statements. Once these comments are cleared, you can go on your IPO roadshow and meet potential investors.
Selecting An Auditor and Preparing for the Audit
Independence is a foundational element of PCAOB audits. The firm providing the audit must be independent and cannot assist with preparing the financial statements or internal controls. To ensure you meet PCAOB standards:
- Hire an External Auditor: The audit firm must be PCAOB-registered and independent from any work they perform for you in financial preparation.
- Consider Bringing in Additional Advisors: You may need to hire external experts to help with specialized areas like internal control documentation, valuation, or IT system evaluations. Since your auditor cannot assist with these preparations, securing additional advisory services early on is key.
For more information on how to select a PCAOB Audit Firm, read this article: Navigating PCAOB Audits: Frequently Asked Questions
As the PCAOB audit date approaches, you should:
- Finalize Documentation: Gather all financial documents, internal control assessments, risk assessments, and compliance reports. Make sure your financial reporting packages are well-organized and ready for review. Your auditor will share a request list detailing all of the source documents they may need to review for the audit.
- Assess Your Team’s Skills & Assign Internal Roles: Ensure you have designated individuals to manage the audit relationship and facilitate communication between your team and the external auditors. This responsibility typically falls on the CFO or Controller.
- Test and Review Internal Controls: Perform a final test of your internal controls and IT systems to ensure they function correctly. Address any last-minute weaknesses immediately.
By preparing well for a PCAOB audit, you’ll set your company up for success, both during the audit itself and for life as a public company.
Grassi: Experienced PCAOB Audit Firm
Preparing for a PCAOB audit is a complex, multi-year process that requires a thorough understanding of SEC reporting regulations, strong internal controls, and a well-resourced team aware of what’s involved in the process.
The steps outlined above are a helpful starting point, but every company’s situation is unique and requires a tailored approach. At Grassi, our professionals help companies navigate the PCAOB audit process and fulfill their ongoing reporting requirements as a public company.
To learn more about Grassi’s SEC Accounting Services, contact an advisor today.
