A federal appeals court today rejected a challenge from Nevada accounting firm Beckstead and Watts, and the pro-business Free Enterprise Fund, claiming that the Public Company Accounting Oversight Board (PCAOB) is unconstitutional. The plaintiffs argued that the Sarbanes-Oxley Act of 2002, which gave rise to the PCAOB, violated the Constitution’s separation of powers provisions because the PCAOB’s board is not subject to presidential power to appoint or remove members, and because Congress does not control the board’s budget. The 2-1 ruling upholds a March 2007 lower court decision.

In a statement, the PCAOB said it was “gratified” by the decision and noted the court’s opinion is consistent with positions taken by several investors and investor groups, including the Council of Institutional Investors, AFL-CIO, and TIAA-CREF, as well as regulatory bodies such as the Securities and Exchange Commission.

“The decision today … is welcome news for the [SEC], investors and U.S. capital markets,” SEC Chairman Christopher Cox noted in a press release. “The [SEC] believes that the PCAOB is a highly effective organization whose continued existence is vital to protecting investors and furthering the public interest in the preparation of accurate and informative audit reports.”
Critically, observers say the decision will be welcome news at a time when capital markets are pulling back. “Had the decision gone the other way, it would have introduced a lot of uncertainty to capital markets, particularly at a time when we don’t need more uncertainty,” Duke University securities law professor James Cox told RiskMetrics Group. “From a public policy perspective, this was a very welcome decision.”

Professor Cox noted that it was the poor performance of the audit profession that gave rise to the last period of significant market uncertainty, when Enron, WorldCom, and other corporate titans collapsed under the weight of accounting irregularities. “We’ve avoided [a repeat] with this decision,” he said.

Today’s ruling also is a boost to the PCAOB’s financing mechanism, which relies on fees paid public companies.

According to the Associated Press, Judge Brett Kavanaugh of U.S. Court of Appeals for the District of Columbia circuit wrote in his dissent that the case represented “the most important separation-of-powers case regarding the president's appointment and removal powers to reach the courts in the last 20 years.” The PCAOB’s structure “unconstitutionally restricts the president's appointment and removal powers,” Kavanaugh wrote.

Christian Vergonis, an attorney for the Free Enterprise Fund, said the group was disappointed with the decision and intends to appeal either to the full appeals court or directly to the Supreme Court, the AP reported.