Business Idea: Shamrock Audit Firms

No, it is not St. Patrick’s Day and we are not going to praise Guiness in this article J

I am currently studying different forms of business organisation and try to apply this knowledge in the field of audit. I was interested by Handy’s concept of shamrock organisation, which is defined in BPP P3 study text as follows:

     “The shamrock organisation, or flexible firm, has a core of permanent managers and specialist staff supplied by a contingent workforce of contractors and part-time and temporary workers.”

Thus, in this post I would like to discuss the concept of flexible firms, which might change not only the value chain and network of audit firms, but also the whole audit market.

Problems

Audit businesses face number of problems:

1.     Financial crisis – clients less keen on paying for audit and there is the necessity to cut costs;

2.    New Legislation – the split of audit and advisory services would lead to problems in staff utilization. Firms might face the issue of overstaffing or understaffing (before it was more leeway to balance advisory and audit projects).

3.   Employee expenses – as a result of the two issues above, fixed expenses related with employees become burdensome for audit firms. Fixed salaries, pension schemes and other elements of package expose pressure on profit.

4.      Efficiency – are resources invested in junior staff employees show real pay off?

5.   Focus – to pick up appropriate people for audit job accounting firms should  maintain comprehensive recruitment department, waste  time of managers involved in the process, which might seen as waste of resources and shift of focus from delivery of quality services.

I think that flexible firm structure might help to address these problems and change marker

Answer: Concept of Shamrock Organisation

The shamrock concept comprises four so called leaves or elements.

The first leaf is professional core, which consists of professionals defining organization’s core competence. In audit firms it could be employees above manager assistant level or even higher grade staff. They would elaborate methodology, business processes, communicate with clients on major negotiations, review audits and sign up audit reports, establish and implement strategy.

The second element is self-employed professionals and technicians. For audit firms it could be extremely relevant element. IT services might be outsourced and there no need to be reliant on huge army of salary-paid IT specialists; tax, legal, valuation personnel and audit seniors could be hired separately for each audit project. To satisfy demand for these services freelancers as well as specialised firms could be hired.

The third leaf is contingent work force. The hire of this type personnel would totally depend on the external demand for audit firm’s services. I always wandered why audit firms hire people with higher education to do stock counting or cash section audit? Give me a week or two and I will teach secondary school graduates how to audit not only above mentioned sections but also receivables, payables, and even deferred taxes provided that these guys would know that 2x2=4 and more or less have common sense.

Thus, the contingent work force would cover the work of junior level staff, second and third year associates; this might include also the work of senior auditors in some cases (small project; tightly controlled by manager).

The forth element is supposed to be the contribution of consumers. Indeed, unlike other industries there are whole bunch of opportunities for better interaction with client in audit, e.g. audit committee, internal audit departments. I am going to expand this idea further.

            

Practical Implications

The question is rather simple: how is this model going to work? I would outline following solutions:

·    Active markets of freelance professionals;

·    Human resources (staffing) firms specialising in recruiting and training staff in certain area. For example, such kind of company might develop diverse skills in secondary school graduates and utilize this employees’ hours efficiently by outsourcing them both to audit, advisory, financial and other firms (e.g. data input/processing centers; call centers). Thus, the contingent work force could be provided by special HR firms;

·    Overseas professionals. The new developments in IT and communication allow audit firms to transfer part of work to overseas professionals achieving economy in costs. Tax section and legal contact within audit project could be easily reviewed by specialist in China or India for less fee with the same quality.

·   Consumer intervention. The model might provide client with means to influence costs. For example, there are two HR firms (A and B) providing contingent work force for audit services: A has brand name, B is less known but charges lower fees. An audit firm might provide opportunity to client to chose the firm (A or B) to be included into audit budget.

The implementation of shamrock concept might lead to rise of staffing firms specialising on low skilled financial employees. Audit firms would be focused on recruitment experienced high skilled professionals. The necessity in audit seniors (also known as “audit executives” or “assistant managers”) could be liquidated: the managers should be able to undertake some tasks and delegate less complicated issues to temporary workers.

The exchanges (analogy to stock exchanges) of professional and semi-professional labor should become more developed, elaborated and structured. They should provide businesses/audit firms with access to information about freelancer’s previous works, rate per hour, references. There are professional and freelance internet projects (e.g. Odesk or LinkedIn), but they are patchy and not so developed as commodity or stock exchanges.

I would be glad if you share your thoughts on this subject. May be you have some reservations regarding this idea or you might offer the other ways to make audit business more profitable and professional

References

BPP. (2011). Paper P3. Business Analysis. Study Text. London: BPP Learning Media Ltd.

Disclaimer:
"This group is not associated with or approved by ACCA and the views expressed on this page do not necessarily reflect the views of ACCA".

Audit Method: Client Acceptance Procedure

This first step in an audit engagement of client acceptance is very crucial where the practicing firm has to decide whether to accept the new client relationship or in case of existing client a periodic review whether to continue with the existing relationship. The decision to accept or continue an audit engagement depends on the client evaluation and ethical considerations.

As per paragraph 26 of ISQC-1, “The firm shall establish policies and procedures for the acceptance and continuance of client relationships and specific engagements, designed to provide the firm with reasonable assurance that it will only undertake or continue relationships and engagements where the firm:

• Is competent to perform the engagement and has the capabilities, including time and resources, to do so;
• Can comply with relevant ethical requirements; and
• Has considered the integrity of the client”

If the issues have been identified, and the firm decides to accept or continue the client relationship or a specific engagement, the firm shall document how the issues were resolved.

As per paragraphs 12 and 13 of ISA-220 on Quality Control for an Audit of Financial Statements, the engagement partner shall be satisfied that the firm’s policies and procedures were duly followed in acceptance and continuation of client relationship and audit engagement and shall determine that the conclusions reached in this regard are appropriate.

The auditor shall be alert to and appropriately address the following threats while accepting a new engagement or continuing an existing one:

• Self interest
• Self-review
• Familiarity
• Intimidation
• Advocacy

Practice

The auditor is generally more careful about accepting the new client because of lack of previous experience with the management and those charged with the governance and knowledge of the business, transactions and associated risks affecting the financial statements. While certain assessment procedures for both the prospective and existing clients would be common, however, they may assume additional importance in case of a new client.

Audit Procedures: Final Stage

The incentive for writing this post was recent article by Lisa Weaver, ACCA Advanced Audit examiner, on the topic of audit completion. Following essential subjects were covered there:

1)  Review of audit files and evaluation of misstatements (ISA 220, ISA 230, ISA 450);

2)      Final analytical procedures (ISA 520);

3)      Subsequent events and going concern procedures (ISA 560);

4)  Written representation and communication with those charged with governance (ISA 580, ISA 260);

5)      Audit clearance meeting.

The issue of subsequent events and going concern auditing I have already covered in one ofmy previous articles. In this post I would like to consider analytical procedures and meetings with client.

Being analyst

The task of performing analytical procedures in respect of financial statements usually called overall analytical review (OAR). It enables to examine client’s financials in terms of common sense and ensure that test of details were relevant. In addition, for audit senior or manager it is great opportunity to show broadness of mind and deepness of understanding of client. Of course, the quality of work done would influence his/her performance assessment.

Example of Gross Margin Analysis

The major problem, which auditors face in performing OAR is lack of time. This is because at the end of audit project everybody expects deliverables from you, there are lots of work need to be done. So it is necessary to organise audit process in a way that it would save time in future.

One possible solution is to delegate part of work to junior staff while they are doing audit of separate accounting sections. For example, after performing principal audit procedures junior auditor would be responsible to make reasonable analysis from the business point of view. Why inventory item in trial balance increased so dramatically this year? So by the time of doing OAR senior auditor will have preliminary analysis of item in balance sheet, which could be expanded or left as it is if explanation provided is comprehensive and sensible.

Inventory structure analysis

I would also like to emphasise necessity of using understanding of general business tendencies and economic factors while doing OAR. For example, I had following case. The inventory of client increased and accountant explained vaguely that it is due to prices leap. To address this explanation I have undertaken following steps:

1)    Found out what kind of inventory caused increase: it was special alloyed construction steel;

2)  Found out that sales and percentage of this kind of steel in total inventory also increased;

3)   Found out from external sources (steel producers magazines, special business overviews) and internal sources (invoices, contract specifications) that special alloyed construction steel is rather expensive type of metal;

4)   Found out that due to increase of demand on construction steel in China (it was before 2008) price on all types construction steel and its components (e.g., chemical additives) had increased.

So the shift to production of more expensive special alloy steel was driven by market and fit into general economic tendencies, i.e. there was nothing controversial in client’s explanations of increase in inventory value.

I like analytical procedures, because it is creative and intellectual task: it allows you to compare facts from different sources, and find out if client explanations are coherent and persuasive enough.

Being diplomat       

At the end of audit it is necessary to discuss major issues occurred during audit process and their implications. Generally, there are no problems in carrying out this meeting. However, there are some issues arising in case of multilocation audit. Management of subsidiary is usually rather nervous about audit outcomes and sometimes there is a substantial lag between the moment of fieldwork end and issuing of audit opinion. So to my opinion if auditors want to maintain good relations with local management it would be good to communicate some preliminary (flexible) deadlines of finalising work or find words which make client employees understand further steps and ensure your future effective cooperation.

If you have any interesting examples of your experience finalising audit please comment and give some tips.