Who’d be an auditor?
Audit failures will always attract negative headlines. As the government launches its latest consultation on audit quality, Julia Penny sets out some of the questions the proposed new corporate auditing profession will face.
The government consultation on restoring trust in audit and corporate governance takes forward many of the options in previous consultations, including the Brydon proposal to create a new “corporate auditing” profession.
The logic behind the proposal isn’t just because financial statements need auditing, but potentially a host of other information that an entity might publish. But more broadly than this, Brydon saw the separate designation as an opportunity to redefine and refocus audit. It could move audit to a higher plane, by providing a more informative process that he outlined as:
“To help establish and maintain deserved confidence in a company, in its directors and in the information for which they have responsibility to report, including the financial statements”.
There’s little to object to in his statement. Ultimately it captures the aim that audit has always had, which is to give investors confidence in a business. Within today’s more complex business environment, the consultation document places more emphasis on the auditor’s responsibility to consider relevant director conduct and envisages a wider range of information to be included within the audit.
Which pieces of wider information should be considered may well be problematic. The solution suggested is that a company would create its own audit and assurance policy (AAP), stating which areas beyond the statutory minimum should be audited and taking into account the views of shareholders and other stakeholders. Examples of the areas that might be covered by the AAP include culture, cybersecurity, controls, mineral reserves and environmental, social and corporate governance (ESG).
It makes sense to let companies consider which areas they need to provide assurance on to their shareholders or wider stakeholders, rather than mandating additional costs where a company sees little benefit. A company relying on heavy use of scarce minerals or carbon might be willing to pay for an audit of its disclosures for these areas, but for other companies nobody would be interested in the answers, or the costs would outweigh the benefits.
The operational split
Related to the idea of a corporate auditing profession is the requirement, already part-implemented by the Big Four, for the auditing part of firms to be operationally split from the rest of the firm. The current consultation also makes clear that the option to require a full structural split between audit and other elements of the firm has not been ruled out, dependent on the perceived success of the operational split.
The logic behind a split is that you cannot be a true, independent auditor if you are interested in the outcome of the other activities of the firm (ie advisory work) as well as audit. So, audit partners must get profits only from the audit element of the practice and staff will be paid according to the budget and profitability of the audit division. The culture of the audit division will be focused around the need to be independent. The aim is not to “keep the client happy”, but produce a good quality audit for the shareholders and other stakeholders.
Again, this does not seem unreasonable. Of course auditors must be focused on independence above all else, but let’s dig a little deeper into some of the other implications.
Focus on public interest entities
Brydon’s vision of a corporate auditing profession and companies deciding on their own audit and assurance policy applies to the world of public interest entity (PIE) audits. While the consultation proposes widening the definition of PIE audits to include large private or AIM-listed companies, many non-PIE companies and charities are still audited.
The consultation proposals do not currently apply to non-PIE auditors. But if corporate auditing is to be a separate profession, then what training route do graduates, or school leavers take? If they train with a firm with no PIE audits, will they need to top up their training (formally perhaps, as well as on the job) to become corporate auditors? If they train as corporate auditors focusing on PIEs, will they also be equipped to audit non-PIE entities?
If they join a firm in the audit department, will they be able to develop their experience through secondments into other departments? Will there be mobility from the audit side of the practice to the non-audit side? And related to all of these questions, will the new corporate auditing profession wipe the reputational slate clean and be an attractive career option?
Improvements in audit quality are sorely needed and Brydon’s new corporate auditing profession would be an attractive career option for bright young things leaving university and school, as well as those currently within the accounting profession who specialise in audit.
But at the moment many individuals train as accountants and auditors. Some choose to pursue auditing after qualifying as their specialised area, some seek to include audit as part of a more general practice offering, but many use their experience and qualifications to launch careers away from audit. Will this still work if corporate auditing is a separate profession?
If signing up to audit is a one-way ticket to an auditing career and nothing else, fewer individuals are likely to commit to that option. Perhaps a building block approach would be more practical along these lines:
Step 1 – qualify according to your underlying specialism. So, auditors of financial information will qualify as accountants. Auditors of carbon footprints might have a qualification demonstrating expertise in this, or will otherwise learn by experience.
Step 2 – qualify as an auditor of financial statements as your area of expertise as part of your qualification, but only as an auditor of non-PIEs. This step may not be necessary for auditors of non-financial information if there is no demand for it outside of the PIE market.
Step 3 – add a corporate auditing qualification that instils the additional skills and technical knowledge necessary to audit PIEs in the relevant area of expertise.
This staged approach means that corporate auditors will not necessarily have the same skills. One might audit financial statements, while another might audit culture, or carbon. What they will share is a common purpose and a commitment to independence and quality in their field of work. But does that make them a distinct profession? And is it sensible to exclude auditors of non-PIE entities from this new elite?
Personal and reputational risks
Audit has had a bad press for years. But if it ups its game and improves quality, the new-look auditing profession would probably still get a bad press. Many high-profile audit failures result in disciplinary compliants and huge fines for both the firms and the individuals.
Audit scandals will always attract more press coverage than the thousands of audits that don’t cause problems. This extra scrutiny is a potential disincentive for individuals considering a career in audit and firms deciding whether to provide PIE audit services.
Fines for poor work might not be terminal for the firms, but the chance of continuing your career as an audit partner who brought the wrath of the regulator down upon the firm, with the related financial penalty is about nil. On top of this, while regulators may ensure their fines do not sink the firm, litigators may have no such qualms.
It’s easy to say, “well if you do the work correctly, you won’t have a problem”, but audit involves a huge number of complex judgements. It requires excellent project management skills, an ability to have difficult conversations with clients and possibly colleagues, and a strong ethical outlook that means you don’t bow to intimidation even if it results in financial loss or career setbacks. It also requires excellent technical knowledge of thousands of pages of auditing and financial reporting standards and regulatory requirements.
Audit is not easy.
Find the right balance
If we push the bar too high, we might find the risk-reward balance tips the scales away from choosing to be a PIE auditor. Or it could push the price of audit so high that investors are not willing to foot the bill. If the stakes get too high, individuals might too afraid to voice their concerns about audit quality.
If we truly want a quality culture within audit firms, we need to accept that sometimes things will go wrong. If the downsides for failure are too great, individuals, firms and companies may not be willing to play the game. If there are easier ways to make a better living, then why choose audit? If a particular client is too high risk, then why not let someone else take that risk? But who is that someone else? And why would they accept the risk when you will not?
There are many strong proposals in the consultation, and it is worth taking the time to read and respond to areas which are of interest to you. But care is needed to ensure the government does not regulate the audit profession out of existence or create a second-rate profession with second-rate prospects because those with greater opportunities choose less risky and more rewarding careers.
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Julia Penny is the principal of JS Penny Ltd which provides technical and training consulting on anti-money laundering procedures, auditing and financial reporting. Julia is a member of ICAEW Board and Council, chair of the ICAEW Ethics Advisory Committee and past chair of the ICAEW...