Is the auditing of firms and other sectors that bad?

IN the wake of the recent global financial and economic crisis, the role of audit was queried. Fingers were pointed at external auditors as easy scapegoats for not providing forewarning of the crisis. However, it must be remembered that audit has not failed one hundred percent.

Corporate failure and by association, audit failure, accounts for only a small percentage of the thousands of audits carried out across the world every year.

For every debacle, there are dozens of reputable entities. But human nature is such that bad news dominates the headlines.

Since external auditors report to the audit committee, the role of the audit committee has assumed great importance internationally in the debate over the value of audit.

Where audit committee chairmen are concerned, the external audit is still regarded as extremely valuable, predominantly for the assurance that the financial statements prepared by management present a “true and fair” view of the company’s financial position and results to its shareholders.

Audit is perceived as an essential part in the financial reporting value chain which provides them with comfort that the company’s own internal accounting staff, processes and systems are generating reliable information.

Audit therefore assists audit committee chairmen to meet their corporate governance responsibilities and statutory duties.

Here in Malaysia, a great deal of attention has also been paid to improving the quality of audit and thus financial statements with the aim of enhancing corporate and market reputation. The establishment of the Audit Oversight Board (AOB) on April 1, 2010 was a clear signal that the regulators intend to upgrade audit quality.

At the same time, other primary stakeholders, such as shareholders, have also weighed in on what should be done to improve audit and thus the quality and credibility of financial statements, and by association the reputation of listed companies.

So how can audit be improved? The recent audit roundtable on Restating the value of audit jointly organised by the Association of Chartered Certified Accountants (ACCA) and the Malaysian Institute of Accountants (MIA) proposed some key steps to enhance audit quality. Perhaps the most fundamental step is to go back to basics and embrace and embed ethical behaviour.

All across the world – not necessarily only in audit but also in other sectors and industries – there is a decoupling between what is legally right and what is morally and ethically right.

This is the real challenge faced by businesses. Because all standards are principle-based, they can be properly applied only by people of principle.

AOB executive chairman Nik Mohd Hasyudeen Yusoff put it succinctly when he said during the audit roundtable that in addition to complying with the letter of the standard, firms and auditors were expected to comply with the spirit of the standard.

They are expected to demonstrate professional scepticism and to have the fortitude and courage to challenge management if the latter is in error or going astray.

Another key recommendation is to pay auditors what they’re worth in order to preserve their independence.

The value of an audit opinion rests on the independence of the auditor. In the Malaysian context, audit fees are ridiculously low.

Audit is even regarded as a loss-leader which will be subsidised by non-audit fees earned from services rendered to the same client. In such a case, where is the independence of mind? Auditor independence and frank speaking is precious to audit committee chairmen; for these directors, audit provides an invaluable independent perspective on the numbers generated by management.

Auditors should also be preparing audit reports that reflect the complexities of modern business. Generic two-page audit opinions are insufficient, commented stakeholders such as the Minority Shareholder Watchdog Group, which represents the voice of shareholders.

Stakeholders want to see more pertaining to current and future performance, risks and prospects. While there are litigation risks, it was recommended that companies publish the letter to management beyond the scope of management in order to offer more information that is relevant to stakeholders.

In fact, the management letter, in which auditors outline weaknesses in internal controls, is particularly important to audit committee chairmen, who might not otherwise be informed of these weaknesses.

It might also be necessary to address growing risk aversion among audit firms and auditors, which is thought to be a significant impediment to realising the full potential value of the audit.

The threat of liability and litigation is believed to be a key factor behind the desire to negate risk, and strategies will have to be devised to cap limit liability in order to optimise audit performance.

If changes such as these can be made, audit will still offer value to business and the wider economy by instilling further trust and confidence in companies’ financial statements.

It will engender wider intangible benefits in terms of imposing discipline on companies, deterring fraud and giving comfort to stakeholders that businesses are going concerns.

The audit model is not broken beyond repair, but it needs to be reworked.

·Jennifer Lopez is the country head for ACCA Malaysia.

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