Auditors and bank examiners: a new era of cooperation; cooperation can lead to more effective bank audits and examinations.
As the number of failures increases, the question inevitably arises, where were the auditors and examiners? This concern has intensified following some well-publicized cases in which CPAs had to reissue their reports because of the findings of a supervisory regulator, such as the OCC, the Federal Deposit Insurance Corporation (FDIC) or a federal reserve bank.
A PROPOSED SOP
The OCC and the American Institute of CPAs believe improved communication and cooperation between a bank's independent auditor and the OCC examiners can go a long way toward eliminating concerns over the effectiveness of audits and examinations. This view is expressed both in the AICPA proposed Statement of Position, Inquiries of Representatives of Financial Institution Regulatory Agencies, and OCC advisory letter 90-3.
The proposed SOP recommends that, as part of a financial institution's audit, the CPA should review examination reports and other communications from regulators and question the regulators as appropriate. Furthermore, with the financial institution's approval, the SOP recommends that the CPA attend the exit conference between the examiner and the institution. The point is to be sure the CPA doesn't overlook the examiner as a source of evidential matter when auditing the financial institution's statements.
The OCC advisory letter encourages banks to give their CPAs access to their OCC examination reports. It also recommends that OCC examiners have access to the CPA's management letter and the bank's response to it. In addition, the advisory recommends that the bank's directors encourage management to pursue other avenues of cooperation between the bank's outside auditors and the OCC examination team.
The draft SOP and the OCC advisory reflect the growing need for bank regulators and accountants to communicate and cooperate with one another to reduce bank and thrift failures. The findings of the National Commission on Fraudulent Financial Reporting (the Treadway commission) also argue persuasively for better communication. The commission's report specifically suggested financial institutions give their independent auditors access to the regulator's report and that the auditor give the examiner access to the management letter and management's response. The Treadway commission recognized that the ability of regulators to perform their duties, and of CPAs to discharge their roles, would improve with the exchange of information.
Even the bill signed to resolve the thrift industry crisis criticizes the lack of communication between regulators and auditors. It requires an institution insured by the FDIC to submit to its auditor a copy of the latest examination reports, any supervisory memorandum of understanding and any report of action against it by a federal banking agency.
GREAT IDEA, BUT CAN WE MAKE IT WORK?
Traditionally, CPAs and bank regulators have been wary of each other. Cooperation and exchanging information were the exception, not the rule. The CPA had, and continues to have, concerns about the confidentiality of information obtained in the working relationship with the client bank and compliance with generally accepted auditing standards. The OCC examiner questions the CPA's independence--after all, isn't he or she employed by the institution's board of directors? And instances of the FDIC suing accounting firms haven't helped matters.
In 1986 the OCC asked the AICPA banking committee to help select a representative sample of banks across the country to participate in a pilot program for improving communication and cooperation between bank external auditors and bank examiners. The only criterion for banks selected to participate was approval by a bank's OCC examiners, its CPAs and its management.
TEST RESULTS POSITIVE
Initial meetings between the examiners and the independent auditors of the banks selected for the study developed a rapport and an understanding of each other's duties and responsibilities. Typically, the CPA brought accounting and auditing knowledge to the table; the OCC examiner was familiar with the banking industry and current regulatory concerns.
The exchanges paid off. One participating bank, for example, had become active in mortgage banking activities--an area new to the examination team. Its CPAs, with their knowledge of the specialized accounting for such activities, were able to help the examiners quickly understand these new operations. This improved the efficiency of the OCC examination. Also, the burden on the bank's personnel was reduced because they didn't have to go over the same information twice--with auditors and examiners.
After the first year of the pilot program, additional benefits were noticed. At the bank above, for example, further cooperation allowed the auditors to evaluate the allowance for loan and lease losses more efficiently. The examiners offered to include loans identified by the CPAs for testing in the credit review procedures. Thus, the CPAs were able to use the OCC results to perform compliance testing of the internal control environment surrounding the bank's credit review procedures. Again, the bank benefited because its employees weren't tied up.
At other banks, the second-year results also were beneficial. Typically, the CPAs and OCC examiners discussed information in the CPA's management letter and the OCC examination report. They also identified areas of mutual concern to assure each was aware of potential problems that surfaced at the bank.
As expected, some of the test results were less positive. At a number of banks, the CPAs did not participate fully in the program because of concern over the confidentiality of client information or a misunderstanding of each other's roles. However, the overall results were encouraging. They supported the idea that improved communication and cooperation would have a positive impact on identifying problem banks.
Although the evaluation of the adequacy of the loan loss reserves is an obvious area that needs immediate improvement in communications and cooperation, other areas--based on the individual skills of the examiner and the CPA--could be equally benefited. The CPA has accounting and auditing skills that differ from the OCC examiner's banking expertise. For example, the CPA can assist in understanding the impact of Financial Accounting Standards Board Statement no. 96, Accounting for Income Taxes, on the bank. Furthermore, he or she can help in determining whether the bank's management is following generally accepted accounting principles. Also, the CPA knows about the bank's EDP and internal control systems.
The OCC examiner, on the other hand, is trained in bank regulations and is familiar with the entire banking industry. He or she can provide useful insights into current banking regulations and assist the CPA in interpreting them. The OCC examiner also is knowledgeable about capital adequacy, credit evaluation and asset and liability management. This information can assist the CPA in evaluating management and operational decisions.
In any cooperative effort, however, the confidentiality of information obtained by the CPA and the examiner in performing their professional duties must be respected. Both have information about other banks that's not available to each other, to the bank being reviewed or to the public.
THE BOTTOM LINE
What about the costs? If increased communication and cooperation improve audit and examination efficiency, banks will expect a reduction in their audit and examination fees. Unless the bank's management encourages these efforts at cooperation and responds quickly to inquiries, however, logistical problems will eliminate any measurable cost improvements. Also, bank managers must remember this process will evolve over time. Immediate cost savings will be hard to identify.
Cooperation initially will place additional time burdens on the auditors and examiners. The present burdens, though, will be offset in later years as improved communication lessens the number of perceived bank audit and examination failures.
The CPAs and OCC examiners who participated in the pilot program developed a mutual trust and respect for each other. Some even asked if the project could be extended to other banks. The examiners were less inclined to challenge the auditor's independence and more apt to seek out the CPA to discuss the issues challenging the bank.
Auditing and examining banks are difficult and risky tasks in today's sophisticated financial environment. The draft SOP and OCC advisory letter won't eliminate those risks entirely but they will reduce the chance for error. With that in mind, CPAs should think of the SOP and the advisory as a recommendation to take advantage of a resource that has always been there but seldom been used--the OCC examiner.
RANDALL J. BLACK, CPA, is a senior accountant in the Chief Accountant's Division of the Office of the Comptroller of the Currency, Washington, D.C. He is a member of the American Institute of CPAs and the Florida Institute of CPAs.
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|Author:||Black, Randall J.|
|Publication:||Journal of Accountancy|
|Date:||Sep 1, 1990|
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