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Overview
As the end of 2023 approaches, we highlight the financial reporting matters, SEC actions and other recent developments that audit committee members need to know about for year-end reporting.
1. Impacts of the geopolitical and economic environment
Businesses continue to bear the continuous strain of elevated interest rates, prolonged inflation, geopolitical instability, fluctuating labor markets and lingering impacts from the pandemic (e.g., supply chain disruptions). With the recent tragic events in the Middle East adding an additional layer of uncertainty, executives, boards and investors will need to continually reassess short and long term priorities including operational strategy, forecasts and projections, and the availability of financial and human capital resources to execute on those priorities. The audit committee will want to understand how these macroeconomic trends and geopolitical events are impacting the organization’s current and projected financial performance, its business operations and management’s response.
What questions should the audit committee ask?
- How has management considered the ongoing macroeconomic challenges in developing its operational and financial forecasts?
- What, if any, strategic or operational shifts (e.g., restructurings, compensation or benefit plan changes, contract modifications) has management considered in the short or long term to manage identified risks to the organization?
Where to go for more information: FAQ on accounting in uncertain economic times
2. Income tax considerations
As we move closer to year end, there are several income tax-related matters that should be top of mind considerations for the audit committee.
- Tax credits: The Inflation Reduction Act of 2022 (IRA)
The audit committee will want to understand how management is considering capitalizing on the benefits of IRA tax credits and how it plans to account for such benefits. It will also want to understand how these credits may align with the execution of the company’s strategy. - Organisation for Economic Co-operation and Development (OECD) Pillar Two
While Pillar Two requirements may not be effective in the US, with the enactment of Pillar Two elsewhere in the world, several key stakeholder groups within multinational organizations — including accounting and finance teams — will be impacted. The audit committee will want to understand the company’s international tax structure and how the Pillar Two requirements could affect it. - FASB income tax disclosure standard
The FASB issued a final income tax standard on December 14. The new standard requires significant additional disclosures, primarily focused on the disclosure of income taxes paid and the rate reconciliation table. The standard requires companies to disaggregate the disclosure of income taxes paid (net of refunds received) by federal, state and foreign taxes annually. Companies will also annually disclose income taxes paid disaggregated by individual jurisdiction using a quantitative threshold of 5% of total net income taxes paid.
What questions should the audit committee ask?
- How has management considered whether taking advantage of tax credits fits into the company’s existing strategy?
- How has management determined which accounting policy elections should be made?
Where to go for more information: OECD Pillar Two: Time to act on the global minimum tax
3. SEC comment letter trends
The SEC Division of Corporation Finance’s filing review process is a key function utilized by the SEC staff to monitor the critical accounting and disclosure decisions applied by registrants. Our analysis of SEC comment letters issued in relation to Form 10-K and Form 10-Q filings identifies the frequency of topical areas addressed by the SEC staff and how their focus areas change over time. While non-GAAP measures have been a perennial top-five comment letter area, it rose to number one in the current period (followed by comments in the areas of MD&A and business combinations). The audit committee will want to stay abreast of the areas in which the SEC is providing comment letters, which may help the committee refine its oversight efforts and support the company’s financial reporting transparency.
What questions should the audit committee ask?
- Has the company received a comment letter and, if so, what are the issues raised by the SEC? How does management plan to respond?
- How does management monitor comment letters issued to other companies in its industry?
Where to go for more information: SEC comment letter trends
4. Preparing for mandatory sustainability reporting
This year brought notable developments in mandatory sustainability reporting, with major milestones reached: adoption of the final sustainability reporting standards in Europe, issuance of the first two standards from the International Sustainability Standards Board (ISSB) and California’s two landmark climate disclosure laws. Yet only 46% of audit committee members say they are prepared to oversee mandatory sustainability disclosures. Understanding management’s processes and controls in place around the scope and quality of disclosures is an important aspect of the board’s oversight role and more squarely, the audit committee. Adequate policies, procedures, and internal controls over the quantitative and qualitative data disclosed will be needed to ensure that disclosures are free from inaccuracies. It should also be noted some of these mandatory disclosures require independent assurance, another area of audit committee oversight. Finally, for those companies with subsidiaries subject to mandatory reporting, the audit committee would want to understand what role the subsidiary audit committee, if one exists, will play and whether they are up to speed on reporting requirements.
What questions should the audit committee ask?
- What oversight role does the audit committee have compared to that of the full board and other committees as it relates to sustainability disclosures?
- How is management monitoring and evaluating the impacts of global sustainability reporting developments in territories where the company has subsidiaries?
Where to go for more information: Final European Sustainability Reporting Standards have been adopted
5. The implications of AI on financial reporting
Companies are at various stages in their journeys of adopting and implementing artificial intelligence (AI). Some are in the initial stages, just beginning to explore the potential of AI, while others have incorporated AI into certain aspects of their businesses. Companies may be leveraging AI to help drive innovation, create new products or services, or drive operational efficiencies. In some cases, these AI solutions may directly or indirectly impact financial reporting and/or underlying processes and controls — key elements of audit committee oversight. Audit committees should stay informed about how the company is using (or plans to use) AI, particularly uses with implications to the financial reporting process or internal controls over financial reporting.
What questions should the audit committee ask?
- What is the overall AI strategy, and which AI uses or policies have the potential to impact financial reporting and/or underlying processes and controls?
- How does management identify and address AI’s benefits and risks that could impact financial reporting?
Where to go for more information: Responsible AI: Building trust, shaping policy (Podcast)
6. Enhancing transparency through proxy disclosures
Stakeholders, including investors, tell us they expect greater transparency about how the audit committee discharges its responsibilities. In recent years, as the audit committee’s responsibilities have continued to expand, we have seen increases in disclosure rates related to key areas of oversight in the proxy statement. In the current economic environment, along with geopolitical crises and evolving technological advancements, an audit committee has an opportunity to tell its own oversight story through enhanced disclosure in the proxy statement. Audit committees may benefit from revisiting their proxy disclosures to confirm that they are up to date and tailored to the company’s specific events and circumstances this year end.
What questions should the audit committee ask?
- Have investors asked questions about audit committee matters that could be proactively addressed through enhanced transparency in the proxy?
- How has management considered incremental disclosure in the proxy statement to reflect the current state of audit committee oversight responsibilities or processes?
Where to go for more information: CAQ: 2023 Audit Committee Transparency Barometer
7. FASB standard-setting developments
The FASB recently issued final standards on its segment reporting, crypto assets and income tax disclosures projects. The segment reporting standard was issued on November 27; the crypto assets standard was issued on December 13; and the income tax standard was issued on December 14. The FASB also continued to move forward its proposal that would require new disclosures disaggregating income statement expenses with comments on the proposal due October 30 and a public roundtable to obtain additional stakeholder feedback on December 13. The audit committee should be aware of accounting standards developments and their potential impacts on the company’s financial reporting.
What questions should the audit committee ask?
- What is management’s process for monitoring, evaluating and implementing new accounting standards?
- What challenges might the company face (e.g., data quality concerns) as it prepares for the required adoption of new standards?
Where to go for more information:
8. Continuing to enhance the audit committee’s efficiency and effectiveness
Today’s dynamic business environment continues to expand the remit of many audit committees and their agendas. Expanding audit committee responsibilities reflect the continued impacts of geopolitical and macroeconomic matters on companies’ financial reporting, such as supply chain challenges and increased cost of capital. The audit committee’s oversight of an increasing number and types of risks and emerging standards and regulations are also increasing its workload. At the same time, the audit committee must maintain a sharp focus on its core oversight responsibilities relating to the quality and sufficiency of accounting and financial reporting processes as well as its oversight of internal and external audit. As Q4 comes to a close, now is a good time for the audit committee to explore opportunities to enhance its efficiency and effectiveness while keeping priority matters at the forefront of its agenda.
What questions should the audit committee ask?
- What protocols and processes can be implemented to enhance overall audit committee effectiveness?
What process can be implemented to map out risks so that deep dives on a rotation of topics can be done throughout the year?
Where to go for more information: Audit committee effectiveness: practical tips for the chair
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