Audit News Briefing: 28 June 2016

Audit-is-cool is pleased to accumulate and provide its readers with the news on audit and related topics:

June 27, 2016

AccountingWeb.com

Internal Controls Over Information Technology at Your Firm

American Institute of CPA awardee for Information Management & Technology Assurance, Sundeep Bablani wrote: “… enhancements in technology have significantly changed the outlook of evaluating controls from an auditor’s perspective.” This is about organizations’ reliance on manual controls in identifying unusual transactions. He explained the ‘integrated audit technique’ and emphasized on the necessity to conduct frequent IT audit evaluations in view of constant change in technology.

“Controls over technology have a direct impact on the overall reliability of financial statements regardless of the size of the organization. Financial auditors are therefore required to obtain a general understanding of information technology (IT) controls as part of their audits.”

Please follow link for details: http://www.accountingweb.com/technology/trends/internal-controls-over-information-technology-at-your-firm

June 24, 2016

AccountingToday.com

Will the Brexit Break E.U. Audit Firm Rotation?

Editor-in-chief Michael Cohn explained the impact of timing – when U.K. voted to “Brexit” from the E.U. only a week before the effectivity of the new rules for mandatory audit firm rotation.

His opinion states: “It’s probably too soon to say for sure. The mandatory audit firm provisions are only part of a wide-ranging set of audit market reforms now mandated in the E.U. They aim to force large public companies to tender requests for new audit firms at least every 10 years and to actually rotate audit firms at least every 20 years.”

He also disclosed a recent statistical finding by Ernst & Young that – One out of five large companies in the United Kingdom is “woefully unprepared” for the new EU rules on audit firm rotation.

Please follow link for details: http://www.accountingtoday.com/blogs/debits-credits/news/will-the-brexit-break-eu-audit-firm-rotation-78506-1.html

June 14, 2016

Economia.ICAEW.com

Big Four will take in each other's dirty washing under new audit law, says Lord Hodgson

Pointing out concerns regarding the effect of the new regulation – The Statutory Auditors and Third Country Auditors Regulations 2016 (effective 17 June 2016), Lord Hodgson of Astley Abbots lobby for joint auditing: “The challenge to the government and the profession is: how do you achieve break-in to the magic circle? One way would be to encourage joint auditing.”

He raised lack of competition in the audit market – an issue that the new regulation failed to resolve: “These regulations are the produce of tired thinking. It is a shame that the profession and its regulators have not been able to think more creatively about the real issues and, instead, have fallen back on the old policy of, ‘If in doubt, stick in another regulation’.”

Please follow link for details: http://economia.icaew.com/news/june-2016/big-four-will-take-in-each-others-dirty-washing-under-new-audit-law

June 8, 2016

The Wall Street Journal

WSJ: Top 10 Audit Firms Now Audit 61% of SEC Registrants

Based on the recent data released by the Audit Analytics research provider, CFO Journal’s Senior Editor Maxwell Murphy marked the observation that audit work is now concentrated among fewer accounting firms. The reason – top 10 U.S. accounting firms have stepped up the share of corporate books they oversee.

·         3.8% increase from 2015 – top firms audit 60.7% of nearly 7,000 firms and funds under SEC audit regulation.

·         Global Six audit 96.8% of large multinational accounts of companies categorized as “accelerated filers”. The Big Four handle almost 91% of these audit work.

·         Global six also captured 2/3 or more of smaller accelerated filers and non-accelerated filers.

Please follow link for details: http://blogs.wsj.com/cfo/2016/06/08/top-10-audit-firms-now-audit-61-of-sec-registrants-2/

Audit Firms: Audit Market

The large listed audit market is dominated by the Big Four accounting firms; this has led to concerns about the lack of competition and choice in the audit market. With only four possible firms, because of reputation and expertise, to choose from there might be a lack of competition. The high degree of concentration in the audit market became obvious when the Price Waterhouse and Coopers & Lybrand merged in 1998 (Big six to Big five) and the demise of Arthur Andersen in 2002, following its involvement in the Enron Scandal (Big Five to Big Four).

There is a genuine concern about the impact of concentration in the audit market and, in particular, the potential impact of a major firm failure on capital markets. The problem would for sure become very serious significantly if the Big 4 audit firms were to become a Big 3.

The Big Four audit firms audit all but one of the FTSE 100 companies. In the perception of most large listed companies, the Big Four are better placed to offer two key components of the audit product: value-added services on top of the audit itself, and insurance against catastrophes and reputational risk. The Big Four are also perceived to have greater capacity and international coverage to deliver the third key component: the technical audit itself (Oxera, 2006, p.1). Reputation is an important driver of choice, favoring the Big Four, whether this is based on real or perceived differences.

For mid-tier firms there are various entry barriers. They lack the expertise, manpower and funding to compete with the Big Four firms. Big Four firms have

•                a credible reputation with large companies, their investors and other stakeholders.
•      appropriate resources and expertise in place to carry out large company audits,   including relevant sector-specific skills.
•     an effective capability to secure timely and reliable audit opinions on overseas subsidiaries for audits of companies with significant international operations.

Additional Thoughts

Large accounting networks are necessary to perform quality audits of the financial statements of multinational companies. Most stakeholders agree that additional choice in the audit market would be beneficial but should this be left to market forces or should regulatory measures be adopted? Taking away or limiting a company’s ability to choose its best provider would not enhance objectivity, skepticism, or the public interest. Reforms should be made to encourage more natural competition in the audit market such as reforms that govern firms’ access to capital, reform of regulation around auditor liability, reforms to apply ban on restrictive big four clauses in audit proposals. Measures that are designed to artificially limit the scope and outreach of existing large global networks are inappropriate and will likely to limit a company’s choice of auditor, reduce competition and restrict continuous quality improvement.

Audit firms: Sponsorship Activities

Big accountancy firms have much to gain from sponsorship activities, from supporting charitable causes to developing leadership programmes and promoting sports and arts. Through sponsorship programmes the audit firms not only fulfill their corporate social responsibility by making a positive impact on society and the environment but also maximize value for their business. For the smaller accountancy firms, sponsorship is often more about cultivating business and identity locally. Sponsorships programmes aim to extend positive impact across communities, sports, the arts and business. Audit firms support others to make progress where it matters most whilst offering exciting opportunities for their people and clients to experience who they are in different ways. Firms pursue focused sponsorship partnership strategy where they support a large number of causes aligned with their vision, values and purpose.

Through various sponsorship programmes the Big 4 accountancyfirms spend money all over the world.

EY has been an official partner to the 2012 and the 2014 Ryder Cups. EY also will serve as an official supporter and exclusive provider of professional services in the consulting category for the Rio 2016 Olympic Games. On 15 July 2013, Tate and EY announced a major new three-year arts partnership, making EY one of the largest corporate supporters of Tate.

Deloitte has been a top-tier partner of the Royal Opera House in UK since 2007. British Paralympic Association is the official charity partner of the Deloitte Ride Across Britain event.

PWC sponsor PGA tour event TPC Sawgrass in USA. PWC also supports Irish rugby, Irish Ice Hockey and The America’s Cup.

KPMG's association with the golfers Stacy Lewis and Phil Mickelson reflects shared values.

Additional thoughts

How can the risks be managed?

The key to manage risks in a sponsorship deal is by clearly defining the expectations and objectives of the programme. Choosing the right sponsorship programme and knowing when to end the deal if any controversy erupts can potentially make or break a firm’s reputation. Endorsement insurance can also help protect the sponsor in the event of a scandal or negative publicity. Another method is to sponsor numerous programmes across a range of venues such as sports, arts, culture and charity thus weakening the link between sponsorship and brand.

New Audit Order: Take 2. Remodeling audit services

The audit profession is very conservative by its nature but to survive any organism must be flexible, open for changes and new trends.

How can we modify meaning of “audit services” terminology? How could it influence audit firms market and multinational companies (MNC)?

New services – more analysis

Let’s be clear about it. Society demands from auditor to give the opinion about financial soundness and performance of listed companies, given that auditors have extensive access to information. Green Paper of  European Commission suggests that ‘forward looking analysis’ of ‘large listed companies’ might be ‘real value added to the stakeholders’.

So auditors are going to move to the business of credit rating agencies and financial/equity analysts. And I would suggest this is very good news! Auditors are extremely fit for this job: auditors have enough expertise, knowledge and analytical skills to provide sound analysis of companies, moreover they know degree of reliability and relevance of each line of financial statements.

Format of product: three-fold report

We have already had reports with two types of opinions: financial statements opinion and effectiveness of internal control (over financial reporting) opinion. Under SEC requirement Companies listed in US need to be audited in accordance with Public Company Accounting Oversight Board (PCAOB) standards (after enacted SOX legislation). See, for instance, extracts from Hershey’s financial statements audit report:

Source: http://www.thehersheycompany.com/investors.aspx?ICID=HCOMP1005        

Obviously, the third part could be added to this report. Brief paragraph about financial viability of company (going concern analysis) which must be accompanied by detailed analysis of company’s previous financial year performance and financial perspectives based on evidences  gathered as at  audit report date. The brief paragraph in the body of report together with detailed analysis should give unambiguous understanding of auditor’s opinion about the company financial and business perspectives.  

How to do – technique

Some words about audit team management. In my opinion, in the above case scenario the audit team should split at least in 2 parts: financial statements audit team and business audit team. The first one would be concerned with internal controls and financial statements. The business audit team would have to spend time on analysis. These split in two roles is necessary to avoid any eye-soaping of members of audit team and would encourage fresh look on business activity and company’s reports by business team.  Definitely, both team must work together and question each other on their findings, inconsistencies and misunderstanding. For example, such procedures like overall analytical review supposed to be carried out in cooperation.

Responsibility of auditor: less regulated more active and open?

Responsibility of auditors is very complicated issue to discuss. There are similar kind of services provided by other companies, but their responsibility is not as much auditors’. What does hold our profession from development? How does responsibility influence on competition?

I suggest responsibility should be limited to quality of services provided. In any case, dissatisfaction by work of auditors whether they failed to predict bankruptcy of Lehman brothers or failed to reveal fraud in Enron is caused by bad quality of audit work; non-compliance with audit standards or weak audit standards itself. If society is not satisfied by quality audit standards then it is time to change them, but there is no use to blame auditors, because they complied with wrong standards.

On the hand we have market, which is supposed to regulate audit business. If shareholders are not satisfied with quality of audit services they hire another auditor and bad reputation would not let providers’ of bad services to succeed.

Some considerations about other industries…

Let us look on credit rating agencies. There are no much regulations about them. They do not have such comprehensive quality standards as accountants do. But it is also quite oligopoly market (Big three:  Standard & Poor's, Moody's Investor Service and Fitch Ratings). The agencies also has faced severe criticism after financial crunch for not being accurate in their assessment of companies’ rating. This reminds me something…

There is another interesting industry which is worth mentioning: the higher education institutions. Suppose, I hired MBA graduated from Yale University with GPA = A+. After we signed one year labour contract it have been appeared that my new hire has had idea neither  about efficient market hypothesis nor net present value analysis. What should I do? Should I sue Yale University for that? Does it mean that there is unsatisfactory education quality control and attesting system at University? Or is there anything wrong with my  recruitment system?

Anyway I think it is time to make Porter’s five force analysis and PESTEL for regulators and audit professionals to assess:

1)      if legal, social and political barriers have been already rather high and suppress competition in industry;

2)      if lowering of those barriers might increase competition level;

3)      if increased completion level might positively impact quality of audit services and provide additional value for society.

There are lots of work to be done and long journey to be made.