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Big Four calls for leeway on high-risk audits

Large accounting firms want the regulator to ease up and give them some leeway in return for auditing high risk clients, but many in the profession disagree and see the big firms as misunderstanding basic aspects of the job.

28th Apr 2021
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Fear of public criticism has prompted large audit firms to request leniency from the accountancy regulator for taking on difficult jobs, but the proposals have not gone down well with industry experts.

The Big Four and a handful of challenger firms want to pause inspections of their work if they agree to audit high-risk companies listed on the London Stock Exchange, the Financial Times first reported.

Their work for new clients should be free of scrutiny due to the complexities of auditing a company for the first time, and the subsequent concern of public criticism for any errors made.

The request was made on a January call with the Financial Reporting Council, which was attended by staff from Deloitte, EY, KPMG and PricewaterhouseCoopers, along with executives from BDO, Grant Thornton and Mazars.

It is understood the regulator rejected the proposal that new clients should be totally exempt for annual quality inspections.

One auditor is believed to have argued that unless the FRC backed off when firms took on high risk audits “the best thing for us to do is swerve it”. Another added that putting people off tough audits was “not a good outcome”.

On having the request turned down, the auditors then suggested the FRC could instead inspect the audits of new or potentially high-risk companies, but that the results would be excluded from the audit firms’ public grades. This would give the watchdog an opportunity to identify areas of improvement and protect the auditor from reputational damage.

The FRC, Deloitte, EY, KPMG, PwC, BDO, Grant Thornton and Mazars declined to provide comment.

‘All that is wrong with the profession’

Few punches have been pulled in in response to the pleas.

“Big accounting firms deliver dud audits and have asked the UK regulator to suspend audit quality checks for new clients whilst still collecting fat fees. How would that improve audit quality? Should we suspend quality concerns for new medicines, automobiles?” said Labour peer and accounting expert Lord Prem Sikka. “The audit firms’ proposals are a recipe for a race-to-the-bottom.”

“These would seem to be precisely the type of clients that need oversight. What is going on that they don’t want discovered, is my first question?” added Tim Bush, head of corporate governance at shareholder advisory group PIRC.

Accounting professors and manager of Tax Research UK Richard Murphy said if auditors cannot get the job right in the first year then they should not take the job, as “that is what professional ethics requires that they decide”.

The appeal suggests that the auditors are unaware they can qualify their opinion on companies presenting this type of risk, Murphy said. “If that risk is real it should be reported, and nor be whitewashed by relaxing audit standards,” he said, adding that if the companies themselves couldn’t get auditors they would have to change their behaviour or risk going out of business.

“Can’t these auditors see that changed behaviour is what they are meant to deliver? Apparently not. And that is what is wrong with the profession,” Murphy said.

An accountant in the forensic services team at PwC speaking anonymously told AccountingWEB the worst-case scenario was if nobody audits a company due to fear, then the Secretary of State is forced to step in which will grant the firm leniency anyway.

“We’ve seen what happens when big firms drop risky clients; smaller auditors get appointed which can impact quality,” the accountant said. “There’s also the question of liability; the regulator might give some leeway but ultimately wronged shareholders can still sue so it’s not like the accounting firm gets off easily.”

Blacklist under-performing auditors

Pressure has been mounting on audit firms following years of high-profile scandals, from Carillon to Patisserie Valerie, Wirecard, Thomas Cook and Lookers, that have undermined faith in the sector from the public, investors and government.

The Department for Business, Energy and Industrial Strategy (BEIS) is taking responses to a consultation to improve transparency in the sector and strengthen audits of the UK’s largest firms.

PIRC however believes large audit firms who are not doing enough to find and deal with corporate fraud should be blacklisted.

It told investors not to reappoint PwC, KPMG, EY or Grant Thornton because it believes they have not done enough to improve their fraud detection process.

PIRC is trying to force accounting firms to address the “expectations gap” between existing professional standards for auditors over corporate fraud and what the public and courts demand.

In contrast, PIRC said Deloitte, BDO and Mazars have improved or committed to enhance their fraud detection processes.

A PwC spokesperson said: “We support measures that promote high quality audits and, as part of our three-year Programme to Enhance Audit Quality, we introduced additional training for our auditors from our forensic investigations practice about frauds they have investigated and what our auditors can learn from their experiences.”

KPMG, EY and Grant Thornton were also contacted for comment.

“The blacklisting of certain UK auditors is an influential development, particularly since Pirc is one of Europe’s largest shareholder consultancies,” said Anita Clifford, barrister at Bright Line Law. “The decision occurs in the wake of high-profile corporate collapses in the UK in recent years, such as Patisserie Valerie and Carillion, which have had underlying fraud allegations. There have also been a handful of Deferred Prosecution Agreements of household name companies for fraud.

“These scandals have turbo-charged an ongoing debate about the role of an auditor, what professional scepticism means in practice and whether the major players are doing enough to combat fraud. When a well-known company fails or is reprimanded, the finger is inevitably pointed at the independent auditor rightly or wrongly.”

Suggestions of blacklisting may refocus minds on anti-fraud procedures, Clifford said, adding that if the recommendation was followed, large firms “stand to lose a significant stream of work”.

Replies (18)

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Hallerud at Easter
By DJKL
28th Apr 2021 19:36

Surely the obvious answer is to seek extra fees year one (and possibly year two) to conduct far wider and more extensive audit checks, rigorously write up and test systems notes and perform deeper risk assessments into perceived high risk areas then arising, if companies and their shareholders want to move auditor they will require to pay for so doing.

This surely is just an exercise re scope of work and price, if it is not then these entities must be incapable of audit and nobody will accept appointment to be their auditor.

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By Paul Crowley
29th Apr 2021 01:47

It really is entertaining
Big boys want 'leeway' and no criticism for inadequate auditing.
I thought there was an expectation of senior auditor rotation, effectively the equivalent in internal new audit clients. I must be mistaken.
Small firms get visits and are expected to imitate the big firms. ICAEW use released big firm ex employees to do checks on small firms.
That basis is flawed if the big firms do not get it right.
We gave up audit registration as we had no audits. Best decision we ever made.
Should have given up years prior.
Thankless task that just did not make money sufficient to compensate for risk and audit related overheads.

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By Duggimon
29th Apr 2021 10:07

You either do enough work to be able to provide an unqualified report, or do enough work to uncover material uncertainties that are reflected in your report, or are unable to/prevented from doing enough work in which case your report reflects that.

It sounds like they want to d most of the work, guess the rest and sign off the accounts. On quoted companies.

I think the best thing for shareholders and the audit profession would be if they did take a swerve. I'm not impressed with PxC's statement that "if nobody audits a company due to fear, then the Secretary of State is forced to step in" - the fees they command for these engagements are massive and someone will do the audit properly if they won't.

Perhaps I'm an irredeemable cynic but the issue is that they absolutely do not want to risk a client relationship by providing anything other than an unqualified report so instead compromise the audits by allowing the accounting gymnastics engaged in by the clients. The reason audits exist is to reign this behaviour in, a culture of equally massive audit firms endorsing their dubious practices in return for massive fees is entirely counter to the purpose of the profession and is exactly what the FRC exists to stamp out.

So no, don't give them additional leeway, remove the leeway they already have.

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By AndrewV12
29th Apr 2021 10:28

Remember, the large 4 offer more than Auditing services, their also work for such 'high risk audits' as consultants, tax advisors, advisers, technical advisors, ......................................

And as for .......
An accountant in the forensic services team at PwC speaking anonymously told AccountingWEB the worst-case scenario was if nobody audits a company due to fear, then the Secretary of State is forced to step in which will grant the firm leniency anyway.

Write your own punchlines, some say (not me) they will put there name to anything and everything.

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Replying to AndrewV12:
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By Arcadia
04th May 2021 10:58

It is no longer the case that auditors can offer consultancy, tax advice etc to public interest entity audit clients. There is a whitelist of services such an auditor can offer, and it is things like reviewing the half year results, covenant compliance etc (who else could do this anyway?). I do not think this issue can be attributed to protecting lucrative other services. Rotation of auditors, and hence the year one problem, was imposed on companies by parliament, and companies did not want it. They therefore do not want to pay for it. I think it was a mistake for the firms to ask for leniency, and it shows zero understanding on their part. However the cost of hosting and dealing with the regulators must be colossal, and if the investing public want the assurance it supposedly provides, they will have to pay for it.

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By Paul Crowley
29th Apr 2021 10:55

May be it is time to change perspective
Make audit reports meaningful
Accept that there should be qualified audit reports

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Replying to Paul Crowley:
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By Arcadia
04th May 2021 11:11

Indeed. The old binary report, where the auditor either gives a 'clean bill of health', as the press call it, or a qualified report, cue collapse in share price, is a ridiculous over-simplification of a complex situation. Audit reports are moving towards giving more information, but still come down to clean or qualified.

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Pile of Stones
By Beach Accountancy
29th Apr 2021 17:41

Perhaps there would be fewer audit [***]-ups if they weren't just staffed with 21 to 23 year olds straight out of university, and where the manager spends 1 day on site, and the partner spends 2 hours (at most).

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Replying to Beach Accountancy:
Hallerud at Easter
By DJKL
29th Apr 2021 22:46

To me it is not the staff but the approach, the holy grail of analytical review (cheap) over compliance and substantive testing (expensive).

I am not sure staff age matters, I spent the best part of two years as part of an audit team containing first years, second years, qualifieds, managers and odd partner visits, I am not sure our ages were an issue (I was mid 20s but a late starter), but what we did do is spend time documenting how things operated, performed walk throughs, sorted /updated system notes, devised tests, performed tests, now if a computer does all this fine but a computer does not smell client evasive answers.

Boots on the ground and a proper understanding of how the business does really operate is key, if that means more hours, greater cost, so be it.

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Replying to DJKL:
Pile of Stones
By Beach Accountancy
30th Apr 2021 11:37

I agree with all of the above. I did my auditing in the late 80's / early 90's, and the approach was the same as you've said. However, the 21 to 23 year olds do not have experience, which (hopefully) the manager and partner do have. The new starters are less likely to question what the client staff are telling them, or to spot when something looks odd. If the audit partner spent more time on site, then 1) he/she would be more in tune with what was really happening, and also 2) could be more approachable for the junior members of the team.

Maybe I am just out of date, but the approach didn't seem to have changed much, apart from the computers, even when I was last in industry (three years ago).

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Replying to DJKL:
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By Arcadia
04th May 2021 11:01

Analytical review found far more errors than reams of testing ever will. Analytical review was abandoned by the big firms years ago. Maybe time to bring it back?

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By tedbuck
30th Apr 2021 11:55

Many, many years ago I worked for a major Big 4 practice which audited a brewery. The coffee there was foul so we started each day with a case of bottled beer ( courtesy of the brewery) to drink instead. I always felt that this was a bit strange especially as we had to drive home but the case was always empty at the end of the day. Do they still do things like that? DiC of an audit - that really sounds like fun!

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By jon_griffey
30th Apr 2021 18:06

The issue here is the unavoidable conflict that auditors do not want to upset the client and lose the recurring fee.

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Replying to jon_griffey:
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By Arcadia
04th May 2021 11:04

Agreed. So should audit be carried out by a public body?

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Replying to Arcadia:
By jon_griffey
04th May 2021 17:06

Arcadia wrote:

Agreed. So should audit be carried out by a public body?

No but I would suggest that auditors are appointed by a public body, not by the directors. A client would have an auditor imposed on them for say a 3 year term and being unable to sack them, the conflict of interest would be gone and the auditors have a free reign to do their job properly.

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Replying to jon_griffey:
By tonyaustin
04th May 2021 11:08

I agree that recurring fees and fees for other work create a conflict. So appoint an auditor for 3 years but the firm is then not allowed to audit that company for the following 3 years. Do not allow the audit firm to do other work for the client during 3 year audit term or the following 3 years. That way there are recurring fees for 3 years and no conflict about upsetting client and so losing work when audit period ends. It would also stop 2 firms taking it in turns to audit one year and advise the next.

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Replying to tonyaustin:
Hallerud at Easter
By DJKL
04th May 2021 23:46

Methinks I would give up auditing (max three years out of six working) and concentrate on just doing the consulting (max six years out of six working)

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By indomitable
05th May 2021 00:10

I certainly don’t believe the auditors should be under less scrutiny from the regulators but it’s a difficult one.

Without knowing the ins and outs of corporate collapses mentioned it’s difficult to say whether the audit needs ‘strengthening’. This is the purpose of the regulators.

Certainly an audit should pick up any material issues and probably fixing of fees and pressure to retain a client does not help but conversely having an audit client for years can mean that you have a much better understanding of the client as long as you can maintain independence.

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