Expert comment from leading figures within the business community, on a variety of topical issues across a range of sectors. AUDIT: SHIFTING EXPECTATIONS BY SIMON NICHOLAS Partner KPMG Audit LLC EDWARD HOUGHTON Director KPMG Audit LLC Following well publicised business failures such as BHS, Carillion and Patisserie Valerie there is a marked shift in the public profile of audits, expectations surrounding audit quality and the role auditors play in the financial condition of businesses. It has recently become clear that auditing standards and the profession have not kept pace with the latest expectation that society now has on the level of assurance an audit should provide. Indeed in a number of cases the Big 4 firms have sought to extend the scope aspects of assurance but this has not been universally accepted by the market. The words in the audit opinion are not consistent with the public’s understanding of an audit and as a result there has been a significant erosion of trust in the profession, our work and the assurance an audit opinion provides. This trust must be restored and the work performed as part of an audit has to evolve to greater meet the needs of users of financial statements. It is vital that the profession addresses whether an audit now meets the needs of the users, is free from all perceived conflicts and can be effectively supervised by a regulator. ‘THE EXPECTATION GAP’ Arguably auditing standards have not been enhanced enough as a result of the issues seen during the financial crisis where there was a gap between what the profession and the public, via the media, thought an audit represented – in particular on the forward looking aspects of an audit such as going concern. Going concern as it currently stands relates to the ability and intent of a company to continue trading in the near future – this is not an opinion on the viability of a company’s business model and financial statements do not address all of the risk factors that will impact the future success of the company. Yet public sentiment would suggest that an audit should address this area in order to meet their needs. Whilst the audit regulators and standard setters seek to address the ‘expectation gap’, audit firms have been told to invest significantly in areas where the profession faces scrutiny and for audit to go deeper and further. This includes a need for auditors to invest heavily in specialist resources and technology solutions to enable the provision of greater assurance, for example through advanced data analytics tools providing the ability to analyse thousands of transactions to find the needle in the haystack and understand unusual transactions. In the past, the profession has relied on hiring the best graduates and developing its people through world class training, primarily in accountancy. However, there is now the expectation that audit teams have such a depth of skills and technical expertise that audit teams need to evolve from primarily comprising accountants to increased use of deep specialists in tax, investment valuation, property valuation, actuaries and IT and cyber on an audit. This is in order to provide comfort that the key risks are fully understood and the audit assurance provided is to a greater level of precision. Whilst this does create additional work, if executed well there will be benefits to clients as the specialists are in a unique position to be able to deliver greater insight on peer benchmarking, best practices and industry insights. As a result locally we have continued to build our specialist teams in these areas, not only to advise clients directly, but also involving these specialists in the audits we complete to ensure robust challenge and high quality conclusions. Inevitably all of this translates into the increased cost of an audit, a trend which has been observed in the UK for the past couple of years. CONFLICTS The underlying principle of auditor independence has never wavered, but the perception of conflicts of interest, how these are identified, considered and safeguarded against has continued to evolve. There is the clear desire to ensure that an audit, given the trust and reliance placed on it by stakeholders, is seen as truly independent. To ensure there is no perception that independence is not at the heart of the audit, structural change is being proposed in the UK to ensure that audits are in no way linked to, or subsidised by, wider consulting relationships. Any perceived threat to audit quality, independent challenge of management and robust conclusions must be eradicated. KPMG in the UK has been a first mover in this regard in ensuring absolute clarity over independence by ceasing to provide advisory services where they act as auditor on their largest listed clients. It is possible that this may not be deemed to go far enough with the current debate exploring the complete separation of the management of audit practices. REGULATORY EXPECTATIONS The spectre of regulatory oversight looms large over the audit sector, with increased frequency of reviews, time spent and depth of challenge a matter of routine – not just where failure has occurred. Regulator expectations of both management and auditors has never been higher. There have been a number of high profile instances of record sanctions in the UK for management, businesses and auditors in recent years where non-compliance has been identified. The need for the highest levels of professional scepticism, independent challenge and consideration of contradictory evidence throughout represents a high hurdle. This is not to say that professional scepticism hasn’t always been a key pillar that an audit is built on, but that pillar just got wider and the depth of expected inspection deeper. Following this increase in regulator supervision, audit firms have been told to better document outright compliance with the relevant standards and justify house interpretations of the rules. The bar has been raised significantly, resulting in a transformation of audit execution in order to comply and retain audit registrations. Put simply, this environment is driving a step change for auditors demanding a greater quality of assurance and an evolution of audit techniques and the skillsets of those involved in the audit, no matter what the cost. With audit fees in the UK already rising in double digit percentages and various on-going reviews of the audit market, the pace of change impacting the profession and its clients shows no signs of slowing down. | 9