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Audit isn’t working, will anyone ever fix it?

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As reports on substandard audits are becoming a weekly occurrence, Philip Fisher wonders whether it is time for a complete overhaul.

31st Aug 2023
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If you were to set up one of those word association trials and ask a representative group of accountants to come up with an answer for “audit”, there is a fair chance that their answer would be “fee”.

Should you ask a random selection of members of the general public to respond, they are more likely to associate “audit” with “scandal”.

That is the sorry state to which our profession has descended and solutions proposed by the powers that be generally seem to tinker around the edges rather than addressing what appears to be a growing problem head-on.

Recent audit scandals

Regular readers might worry that this column can sometimes be dominated by articles about audits to go wrong. It would be no great stretch to create a weekly column solely devoted to this topic.

Indeed, in the last month, the writer has reluctantly neglected the opportunity to highlight a report from the Financial Reporting Council noting that it has levied fines of £40m on members of our profession, most of which are related to substandard audits.

There was also a couple of golden opportunities to give the Big Four a break, since the most recent disasters have been at the hands of “challenger” firms as Mazars and Crowe hit the headlines for the wrong reasons.

The public may view the latter as a prime example of auditors failing to do the basics, since reports suggested it related to the audit of a company built around a scam, which both reviewing the accounts failed to notice over a number of years.

Some might argue that at least 90% of audits are carried out to an extremely high standard with nothing untoward taking place. That is true.

A box-ticking exercise

However, this might be a case of mistaking cause and effect. In many of the 90% of cases and possibly rather more, those preparing the accounts do an exemplary job to the point where an audit is completely superfluous – merely a box-ticking exercise.

This may be part of the problem. Auditors seem to build their business model on the basis of signing off a perfect set of accounts. When this happens, their recovery rates are bad rather than shocking and everybody is happy.

The problem comes when the accounts are inadequate, when a cursory level of checking, which seems to be the standard these days, will often fail to uncover some or all of the inadequacies.

It doesn’t help that audits are generally carried out for a fixed fee meaning that, whether consciously, subconsciously or unconsciously, those doing the work are looking to avoid discovering anything that might take up additional time and, as a result, adversely impact on the auditor’s profit margins. Is that unfair?

This is the fundamental dichotomy since auditors knowing that their responsibilities are limited, are steered towards confirming that the profit and loss account shows a true and fair view of the company’s performance and that the numbers largely stack up.

On the other hand, with pretty good justification, the man in the street or the reader of the scandal sheet naïvely expects that an auditor will discover a fraud or theft that materially affects the accounts under review.

Stop tinkering around the edges

This may be the crux of the matter. Perhaps it is time for those in high places to stop tinkering around the edges and propose a complete overhaul of raison d’être and methodology of auditing?

Is it really acceptable that auditors can sign off a set of unqualified accounts where there is a substantial fraud that has passed them by?

At the other end of the scale, you could easily argue that some of the 90% of clean audits could be replaced by something less stringent. Perhaps full-scale audits could take place on a less frequent but a regular basis, using a spot check principle instead of something more comprehensive that is largely redundant.

In the year leading up to the next general election, the government has far too much on its plate to take this seriously, while the Financial Reporting Council is slowly bowing out to be replaced by ARGA, which might easily turn out to be the same thing by a different name.

Is anyone ever going to grab the bull by the horns? Many of us will fear not since these issues stretch way beyond our shores.

Ultimately, we may just have to accept that auditing is a disaster area and an embarrassment to those in the profession. Even so, it would be nice to think that one day a group will be set up with the grief to go back to basics and create an audit process that is fit for the 21st century, identifying far more frauds before they get out of hand and deterring those who believe on the best current evidence that they can get away with the financial equivalent of murder.

Replies (9)

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By Hugo Fair
31st Aug 2023 14:59

".. one day a group will be set up with the grief to go back to basics .."
- your Freudian slip is showing, Philip!

But I agree with your central point:
* If the police stopped every person they saw and asked them to empty their pockets, then (aside of the rioting) they would find 90% of people had no drugs/knives/etc on their person ... but that wouldn't mean the police were doing a good job.
* And, unlike my poor analogy, the 10% of 'dodgy' accounts are unlikely to be spotted under the current regime (which is far from policing in intent).

It's the lack of a proposed solution (especially as you say globally) that resembles the writing on the wall for western capitalism.

Thanks (2)
Replying to Hugo Fair:
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By johnjenkins
01st Sep 2023 09:56

Western Capitalism and Eastern communism are already dead. The only thing that needs to be sorted is what to replace them with. At the moment "money rules" (I know it always has but now even more so). There is a school of thought that we need to press the reset button or "reboot".
Back to the plot. To be an auditor you need a criminal mind cos that's what you're looking for, otherwise an audit is pointless.

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By D V Fields
31st Aug 2023 19:03

Problems are probably twofold. Reappointment “may” cloud judgement. The tick box culture means they don’t see the wood for the trees.

Policies rules seem to be set by technical departments who do not have a clue and carried out by operatives too gormless to challenge.

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By listerramjet
01st Sep 2023 10:50

to my mind this represents a failure of regulation and cynically, a targetted attack on PI insurance. What I find hard to understand is how otherwise competent people can place so much faith in regulation, particularly given its track record. You might make an argument for some regulation, but we are way beyond that.

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paddle steamer
By DJKL
01st Sep 2023 15:29

What would an audit cost to be certain (if that were possible) that any fraud (including that requiring collusion to execute ) would be uncovered?

When can an external auditor know more about a business than an in house accountant (who possibly is a former auditor)?

Black cat in dark room that is maybe or maybe not even there.

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By [email protected]
01st Sep 2023 22:53

Other than the usual necessary and worthy routine of obtaining statements from external parties, there's the undervalued tool, i.e. to establish infallible/ verifiable models which if created and then utilized in the appropriate manner each month will unfailingly keep the financial records of any entity in check.

That's the way in which I've discovered record-breaking levels of reporting errors (for what it's worth at Financial Service Providers and at an array of businesses as an industry accountant, as you might expect early on in my stints there).

I've often concluded that if directors really knew what they were doing, then I would be hired to shape the accounting systems of every organization in London.

Various key aspects are lacking generally in the industry as follows (examinations never were and never will be the answer , mainly due to the sheer contrast in nature of 3 hour exams and real accountancy work). Ethic (helps avoid sloppiness if you have professional pride, and if you are honest). Technically (principally lacking in a high standard of algebra, and data-handling skills, as well as solid grasps of elementary accounting/economic concepts).

Boards of Directors are a huge factor, and are usually not remotely close to having the correct experience for checking that internal controls are being implemented effectively, or for selecting the correct accounting pros. The Directors are appointed by the shareholders.

Therefore, ultimately the appropriate double entry to represent losses owing to a dysfunctional accountancy dept of an entity is Dr Shareholders Cr Retained Earnings.

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boxfile
By spilly
02nd Sep 2023 22:05

It feels like audit has become more of a box-ticking exercise now than the ‘enquiring mind’ audits I was trained in (before the introduction of audit software). Or maybe as johnjenkins puts it so succinctly, ‘think like a criminal’ instead of following a pre-ordained audit programme.

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John Toon
By John Toon
05th Sep 2023 16:02

I think the word association most accountants would come up when audit is mentioned is boring...

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Replying to johnt27:
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By johnjenkins
07th Sep 2023 09:28

Number crunchers will find Audits "boring".

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