Who Qualifies as an Audit Committee Financial Expert Under SEC Regulations and NYSE Rules?

Abstract

During recent years heightened standards for board audit committee membership has been imposed by the SEC, NYSE and others. Sarbanes-Oxley requires that the Audit Committee will be comprised solely of independent directors, and that the company must disclose whether at least one of the members of the Audit Committee is a “financial expert” and if not, why not. An “audit committee financial expert” is defined as a person who has the following attributes: (i) an understanding of generally accepted accounting principles and financial statements; (ii) the ability to assess the general application of such principles in connection with the accounting for estimates, accruals and reserves; (iii) experience preparing, auditing, analyzing or evaluating financial statements that present a breadth and level of complexity of accounting issues that are generally comparable to the breadth and complexity of issues that can reasonably be expected to be raised by the registrant’s financial statements, or experience actively supervising one or more persons engaged in such activities; (iv) an understanding of internal controls and procedures for financial reporting; and (v) an understanding of audit committee functions. Many seasoned audit committee chairmen hold the view that Audit Committee Financial Experts should be experienced in performing financial accounting functions themselves -- rather than simply having supervisory experience over the function. Indicative of this view is that if accounting is the language of business, an Audit Committee Financial Expert needs to fluently “speak GAAP and GAAS” to understand the nuances of sophisticated and complex accounting, auditing, internal controls and SEC regulations. Who then qualifies as a financial expert? This is a fact-dependent practical question that must be answered by every board, governance and nominating committee, and audit committee member. My goal here is to examine the technical requirements imposed by law and regulation and to present thoughts as to best practice.