October 2003

On Commercial and Guardian Ethics

Last month I talked about the distinction that urban planner and social critic Jane Jacobs makes between commercial and guardian moralities as a way to focus more clearly on the scope of CPAs’ ethical responsibilities. If the services performed by CPAs are differentiated between those that involve a report or a tax return explicitly for the use of a third party and those that involve only an engagement on behalf of the client, Jacobs’ distinction illuminates the current public concern over the possibility of a systemic problem in the CPA profession’s approach to ethics.

Although CPAs have long been characterized as gatekeepers for the financial statements published by SEC registrants, this characterization has found its way into wider public acceptance since the O’Malley Report on Audit Effectiveness was published in 2000. During Congressional hearings on the Enron collapse, a number of individuals expressed concern over potential problems with the gatekeeping roles of auditors and analysts. Many recent SEC chief accountants have also supported the position that auditors’ primary allegiance should be to protect the interests of individual investors. In addition, SEC commissioners have warned that consulting services lead to an alignment of CPA firms’ interests with those of management, to the detriment of auditors’ primary allegiance to the investing public.

These and other examples demonstrate how aspects of Jacobs’ guardian morality have become part of what the public expects from CPAs performing audits.
In the past two years, guest editorials in The CPA Journal have addressed aspects of these criticisms. Three basic positions have been adopted by those guest editorialists. The first position blames the “rogue auditor” and calls for stricter enforcement of existing standards. Both of the other two positions posit a potential conflict of interest when one party pays the bill while another party is supposed to benefit from the report, but from this point they diverge in two ways:

The guest editorials, however, proposed more radical solutions. Some proposed that SEC registrants purchase financial statement insurance, with insurance companies employing auditors. Another suggested that the SEC choose and pay auditors. Another suggested that stock exchanges should play this role, and still another preferred the creation of a completely new body. All subscribed to the idea that auditing would improve if there were a tighter alignment between the monetary interests of auditors and the investing public.

All of these proposals depend upon significant changes in the ordinary commercial practices that have developed between CPAs and their clients. In other words, at least when performing audits of SEC registrants, CPAs would need to follow a set of constraints well beyond the demands of normal commercial practices and ethics. CPAs would have to place the interests of third parties ahead of their own interests and the interests of their clients.

One of the six principles of CPAs’ Code of Professional Conduct addresses CPAs’ responsibility to the public interest. In part, it reads—

Those who rely on certified public accountants expect them to discharge their responsibilities with integrity, objectivity, due professional care, and a genuine interest in serving the public. They are expected to provide quality services, enter into fee arrangements, and offer a range of services—all in a manner that demonstrates a level of professionalism consistent with these Principles of the Code of Professional Conduct.

Nothing in this principle directly states that CPAs should place any specific party’s interest over another party’s. The code describes how individuals should behave, rather than prescribing to whom they owe loyalty. Indeed, another principle, objectivity and independence, aims at neutrality rather than taking sides. “Independence” itself denotes freedom from specific ties.

The conflict at the professional level is the juxtaposition of a highly developed code of professional conduct premised on the highest commercial practices against the critical desire that CPAs as a class have an ethic that places the interests of one of the inherent parties in attest engagements above others.

Now, the questions: Should the CPA profession adopt a guardian ethic for attest services? What about other services? Is it possible for one profession to follow guardian ethics for some services and commercial ethics for others?

Robert H. Colson, PhD, CPA
Editor-in-Chief, The CPA Journal

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