Audit quality insights from False Assurance
We know that audit regulators continue to identify and highlight weaknesses in the quality of audits performed by the audit firms they regulate but what are their key concerns?
Screened as part of an ICAEW audit and assurance essentials roadshow, ICAEW’s recent foray into film production, False Assurance, provides a fresh – and interactive – way of looking at current hot audit topics where audit quality still requires improvement. The film provoked much discussion among delegates about the good – but mainly bad – behaviours evidenced by the Board of Directors, the Audit Committee and the auditors, alongside recognition that it could be all too easy for auditors to find themselves facing similar issues or in similar situations.
To set the scene… the story revolves around the audit over a two year period of a listed company, D-Merton, which designs radar systems. The audit is performed by a small audit team (partner, senior audit manager and two juniors) at TYSL Accountants. The film is fast paced as there is a lot to cover in 45 minutes and it is broken down into four sections to help aid discussion and consideration of the issues.
The film is packed full of issues – too many to discuss in detail in this article - and we wouldn’t want to spoil it for those who plan to see the film – but I’ve picked out a few of my takeaways on audit quality.
What's inside the guide
The importance of risk assessment on audits cannot be underestimated. In the case of D-Merton, the auditors struggle with a number of key risks covering:
- related party transactions (and fraud risk);
- accounting estimates, in this case, valuation of the radar technology;
- going concern;
- management incentives;
- cyber security and the upgrade of IT systems; and
- independence threats through partner rotation.
Related parties will always pose a potential risk because of the possibility that these relationships and transactions might mask a fraud. All known related parties should therefore be recorded at the planning stage of an audit and a fraud risk assessment performed. At the fieldwork stage auditors should keep in mind that there may be other unrecorded related parties.
By their very nature, accounting estimates are a particular area of risk on audits. D-Merton designs the technology for the radar systems it sells and the auditors need audit evidence to support the valuation of this asset. In these circumstances, you might expect auditors to be thinking about:
- whether there might be a need for external expertise in valuing the technology;
- Whether reliance can be placed on ‘internal experts’ within the client company about its continuing value;
- The potential impact that an impairment might have on the going concern of the company; and
- The incentives management might have to deliver healthy results.
The film highlights the potential impact that IT weaknesses and cyber risks might have in relation to the risk of material misstatement in the financial statements of the business. It also explores how audit partner rotation might pose an independence risk. In the film, we see the audit partner being rotated and a more junior partner, the protégée of the client’s existing audit partner, take on the role.
The film highlights how important it is for audit firms to ensure that where there is audit partner rotation, objectivity and independence aren’t compromised.
Having assessed the key risks, auditors therefore need to ensure that they get sufficient, appropriate audit evidence on them. Here, the film raises key issues in relation to:
- The need for professional scepticism and the use of judgement when gathering audit evidence;
- The emphasis placed on management’s oral assurances as opposed to third party or written corroborative evidence; and
- The impact audit evidence might have on reassessing audit planning, risk and materiality.
Along with emphasising the importance of assessing fraud risk on audits, the need for scepticism and the value of seeking an understanding of an entity from broad sources, the film also highlights key considerations for auditors when handling a potential fraud at a client, including that :
- Auditors need to think carefully about who is the best person to approach at the client, and how and have gathered the evidence to share their concerns.
- Auditors need to think very carefully about their money laundering responsibilities, and in particular the risk of “tipping off”.
- Where in doubt about the best course of action, auditors should seek internal advice and support from within their audit firm. Audit firms are likely to have established procedures/practices to help deal with these situations.
Audit team discussions: make sure you involve all the key members of the audit team in the planning of an audit and give them an opportunity to participate in the discussions and share knowledge and experience.
Communication with those charged with governance: consider how, as an auditor partner, you handle audit committee meetings. This is a mechanism for you to challenge the audit committee and raise questions on aspects of the audit of the company’s financial statements that you have concerns about. The audit committee should be knowledgeable about the audited entity and be seen to be holding management to account.
Staffing and training: The film conveys some very powerful messages about the importance of supervision and review within the audit team. Make sure you have the right expertise within the audit team.
And to end on a slightly more positive note, it was good to see that one of the juniors on the audit team in the film displays professional scepticism and judgement throughout the entire performance and has, therefore, the potential to be a very good audit partner!
Manager, International Standards
False Assurance is a high quality, exciting training tool that can be used by accountancy firms, businesses or universities. Generic themes and settings allow False Assurance to be used around the world. Film workshops can be tailored to draw out issues and dilemmas accountants face in their day-to-day work.