SEC Comment File No. S7-13-00: September 20 Hearing
Summary of Intended Testimony of Joseph F. Berardino
and Gail Steinel, Arthur Andersen LLP.

1. As the economy has become globally-integrated and information and technology-based, the audit function and the role of accounting firms have been redefined. Among other things, the new start-up companies that fuel the economy typically cannot hire multiple consulting and accounting firms to address all their service needs, and look to their accounting firms for both audit and non-attest services. E-business initiatives at large companies are similarly integrated from front-end to back-end, and require technology and systems expertise from professionals familiar with all parts of the business.

2. To meet these demands, and to ensure the continued competence and relevance of auditors in the New Economy, the business model of the accounting firm has rapidly evolved. Accounting firms have vastly broadened the range of expertise of the audit teams-bringing in specialists with unique skills and competencies in areas such as information technology, business processes, portfolio valuation, and corporate finance. Accounting firms have also entered into a range of strategic alliances and other business relationships to secure access to cutting-edge technology and related skills, tools, and techniques. These changes are essential to maintain and enhance the high quality of financial auditing.

3. The only way that an accounting firm can staff its audit team with specialists is by winning the war for talent. That war pits accounting firms against dot.com companies, investment banks, consulting firms, software companies and other technology providers, and businesses of all types. Accounting firms will not be able to attract and retain such specialists unless they can provide non-attest services to audit clients. Further, if those specialists are restricted to audit services, or just problem diagnosis and assessment, they will not be able to retain the best skill-sets in their profession. Audit quality will decline.

4. That the rule permits specialists to provide non-audit services to non-audit clients does not solve the problem. Audit firms cannot win the war for talent if audit firms-unlike every other provider of similar services-cannot serve major portions of the market. Moreover, much of the value of specialists on an audit team comes from the knowledge those specialists obtained from the provision of non-attest services to that audit client.

5. The SEC's new "affiliation" rules compound the problem. In nearly every part of the business world today, industries are increasingly connected by networks of affiliations and other relationships to maintain competitiveness and productivity. That is, and will continue to be, a central feature of the New Economy. The SEC's "affiliation" amendments would make the accounting profession an anomaly: practically any entity with which the accounting firm has a direct business relationship or an ownership interest would be treated as a firm "affiliate" and subject to the same independence restrictions-regardless of whether the accounting firm has control or any significant influence over the operations of that entity. In light of this radical disincentive for entities to be "affiliates" with accounting firms, accounting firms will be unable to form strategic business relationships necessary to protect and enhance their skills and competencies in cutting-edge technologies. Again, audit quality will decline.

6. These consequences were probably not intended by the SEC, but they are indicative of the problems created by the SEC's rush to regulate. A more fundamental problem is that the rule lacks an adequate conceptual foundation to identify and resolve independence issues. The blanket prohibitions in § 210.2-01 (b)'s appearance standard are based upon generalities that, as ISB Chairman William Allen has stated, "need much more conceptual refinement before they can be useful guides to standard-setting independence determinations". The rule does not allow audit firms or audit clients to distinguish what is prohibited and permitted--chilling the provision of even permitted non-attest services.

7. Fundamentally, independence issues are context-specific and require informed risk-balancing judgments by those best situated to take all the facts into account-auditors and audit committees. This is the reality on which the existing self-regulatory framework is based. The framework has three key elements: (1) a system of internal safeguards at accounting firms; (2) self-regulatory standards adopted and enforced by public/private oversight boards; and (3) audit committee assessment of all independence issues. The framework has been proven effective and dynamic in protecting auditor independence without compromising auditor competence and relevance in the New Economy.

8. The SEC's proposed rule, by contrast, is not proven and in fact not workable. It fails to respect the existing role of audit committees and auditors in making informed judgments to resolve independence problems. It does not allow accounting firms to protect audit quality or their skills and competencies in the New Economy. The rule's replacement of a successful self-regulatory framework with a command-and-control approach to be administered by the SEC is not consistent with basic standards of good government, and it is not good for investors, auditors, audit clients, or the economy.