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Auditor Scepticism.
Martyn Jones
17 September 2010
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Key points
• Current hot topic
• The opportunity for debate is welcome
• Much is already happening to improve the application of auditor scepticism
• There are some ‘red herrings’
• But there is scope for more than can be done
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Significance of scepticism
Paramount importance to auditors
Essentially a behavioural issue
Strong connection with need for
good ethics
Also connected with need to
find fraud
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Important to investor confidence
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Symptoms of unethical behaviour
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Overly dominant management
Someone who talks too much and who always wants to know where you have got to on the audit
Extravagant lifestyle and behavioural change
Excessive gambling
My wife has a private income or we have won the lottery or something similar
Never takes holidays or records in a mess
Starts early and finishes late
Insomnia
Doesn’t allow others to do their work
Someone who avoid meetings us or stops us gaining access ourselves
An attempt to “bribe” you
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Symptoms of unethical behaviour
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Inconsistencies Backdating Involvement of related parties
Destruction of documents
Business not conducted on normal terms
Override of normal
procedures by senior
management
Photocopied documents
Entries with no or thin
documentary support
Large or unusual entries
near period ends
Business model does not make
sense
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Symptoms of lying
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Nervousness (fidgeting, scratching, itching or sweating)
Voice changes (higher pitch,
pausing or stuttering)
Eye signs (avoiding eye contact and
looking up and to the right)
Posture (not able to stand still,
tight posture or hands turned
down)
Illogicalities and strange excuses
Talking quickly
Hands on face particularly over
the mouth
Overstated friendliness
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Auditor scepticism is now high on the agenda
Aftermath of the global liquidity meltdown
Impact of austerity on public sector
Need to increase trust in business
Continued economic difficulties
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EC Green Paper on Lessons from the Crisis
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Auditor scepticism is now high on the agenda
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AIU public reports: comparison with other firms
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Auditor scepticism is now high on the agenda
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Audit of client money
Repo 105Loan
provisionsGoing concern
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APB suggestions for debate
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Presumptive doubt instead of enquiring
mind
Non acceptance of
client schedules
Auditors afraid to bill
clients for cost overruns
Changes to Ethical Standards (e.g. Restricting
provision of non-audit services)
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EC suggestions for debate
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More comfort on financial
health of companies
More dialogue with internal auditors and
the audit committee
More and earlier reporting to stakeholders
Making ISAs legally binding
Appointment by third party
Maximum length for audit
firm’s engagement
Prohibition on non audit services
Maximum fee level from single
client
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EC suggestions for debate
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Mandate rotation of firms
Joint audits including non systemic firms
Pan European supervision
Balance sheet substantive testing
only
Changes in structure of market
Pan Europe passport
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So what’s the evidence?
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Academic Research
Source: Beattie, Vivien, Fearnley, Stella and Hines, Tony “Auditor/company interactions in the 2007 UK Regulatory Environment”, April 2008
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So what’s the evidence?
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Source: The Deloitte CFO Survey: 2010 Q2 results
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So what’s the evidence?
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Source: The Deloitte CFO Survey 2010 Q3 results
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Is there an alternative to presumptive doubt?
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Enquiring Mind
Clarified ISAs
•new standards already released• not apply until periods ending on or after 15 December 2010 No opportunity for their effectiveness to be tested
+Other regulatory
measures
•Companies Act auditor offence•Ethical Standards•Audit Firm Governance Codes•AIU inspections•FRRP referrals•Audit Firm Transparency reports
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Some key revisions in the Clarified ISAs
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More work required if anomalies identified
More fraud and risk-based ISA on related parties
Tougher stance on management representations
Management override is a significant risk
Tough new standard on confirmations
Much tougher ISA on groups
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Some key revisions in the Clarified ISAs
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Objective based approach to ISAs
Audit of accounting estimates
Investigate conflicting
explanations
Communicate significant
deficiencies in internal control and significant
difficulties
Document rationale for
significant professional judgements
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Some things we do to assist scepticism
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Involvement of forensic
specialistsData analytics
Sharing of ideas by financial institutional specialists
Monthly training session
Accelerate work on significant
risks and disclosures
Identify sub-population of audit interest
and focus testing on these sub-populations
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Some thing we do to assist scepticism
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Professional standards review Whistleblowing facility
Independent Review Partners
Encouraging our more senior people to
mentor on scepticism
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Some things we do to assist scepticism
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Electronic processes for checking audit file
completenessConsultation culture
Industry support Additional specialist and quality reviewers
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Some things we do to assist scepticism
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Regulation Assurance Reviewers
Partner rotationTough
independence processes
Variety of work for our people
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However more can be done
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Guidance for directors and auditors on
impairment
Avoidance of yet more box ticking
requirements
Guidance on understanding the business model –
barely mentioned in ISAs and Practice notes
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However more can be done
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Support for the IASB in its work on changing
current accounting for losses incurred to losses
expected
Debate a more meaningful role for
auditors on narrative reporting
Targeted and focused assurance reporting
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However more can be done
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Increased communication between regulators and auditors
Targeted and focussed assistance engagements
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Some other views
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Qui Chen, Khim Kelly and Steven SalterioChanging the nature of the evidence collected and more critical questioning helps but merely extending the extent of the sample does not
Karen A Van PeursemNeed to draw on the understandings of ancient sceptics to understand why audits failed
Geoffrey George and Francis MaloneNeed for a forensic phase in all audits
Treasury Select CommitteeLittle evidence to suggest that auditors failed in their duties in the run up to the financial crisis
Public Company Accounting Oversight BoardThe firm have frequently strayed from the PCAOB’s standards in issues related to revenue management's accounting estimates, fair value measurements and materiality thresholds
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Some red herrings
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Mandatory joint audits Independent appointments board
Further outright prohibition on non audit services Mandatory firm rotation
Limit on Big 4 FTSE audit appointments
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Some other red herrings
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Earlier reporting to stakeholders Pan European supervision
Balance sheet substantive testing only with reliance on internal auditor for controls
work
More rules-based approach
There needs to be sufficient scope for properly documented professional judgements
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Relevance to business schools and accounting departments
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Further research Development of skills
Possible skills to develop further may include mentoring, communication, more sceptical behaviour, critical questioning, challenging business models
and analytical procedures
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Suggested next steps
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Increased focus on implementation of the
clarified standards
More focus on behaviour and on
communication issues
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Bibliography
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Clarified International Standards on Auditing (UK and Ireland) http://www.frc.org.uk/apb/publications/clarified.cfm?cat=68
Fraud and Audit: choices for societyhttp://www.frc.org.uk/images/uploaded/documents/Fraud%20and%20Audit%20-%20Choices%20for%20Society%20_final_1.pdf
Audit of banks: lessons from the crisis http://www.icaew.com/index.cfm/route/172480/icaew_ga/Technical_and_Business_Topics/Thought_leadership/Inspiring_confidence_in_financial_services/Audit_of_banks_lessons_from_the_crisis/pdf
Discussion Paper 'Auditor Scepticism: Raising the Bar‘http://www.frc.org.uk/images/uploaded/documents/Discussion%20paper%20Auditor%20Scepticism%20-%20raising%20the%20bar21.pdf
Banking crisis: regulation and supervision: Responses from the Government and Financial Services Authority to the Committee's Fourteenth Report of Session 2008-09http://www.publications.parliament.uk/pa/cm200910/cmselect/cmtreasy/47/47.pdf
Do Audit Actions Consistent with Increased Auditor Scepticism Deter Potential Management Malfeasance? , Qui Chen, Khim Kelly and Steven Salterio, 2009http://aaahq.org/meetings/AUD2010/AuditActionsConsistentWithIncreasedAuditorScepticism.pdf
Dairy containers’ New Zealand Audits 1981-1989 Pyrrhic Victory for the Ancient Sceptic, Karen A Van Peursemhttp://www.victoria.ac.nz/sacl/6ahic/Publications/6AHIC-33_FINAL_Paper.pdf
Auditors and corporate failure: an analysis of the AWA and HIH failures in Australia and the Role of the Auditors, Geoffrey George and Francis Malanehttp://reference.kfupm.edu.sa/content/a/u/auditors_and_corporate_failure__an_analy_86455.pdf
EC Green Paper - Consultation on audit policy - Lessons from the Crisishttp://ec.europa.eu/internal_market/consultations/docs/2010/audit/green_paper_audit_en.pdf
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Biographical details
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Martyn Jones
•BSc Hons, FCA, FRSA•Trained with Robson Rhodes and Deloitte Haskins & Sells and qualified with ICAEW in 1976•Lecturer then Head of Centre, Accountancy Tuition Centre 1977-1981•Under-Secretary then Secretary UK and Ireland Auditing Practices Committee 1981-1984•UK and Irish Technical Adviser to International Auditing Practices Committee 1983-1984•National Audit Technical Partner, Deloitte UK 1987-•Member DTTL global Audit Technical Advisory Board•Chairman Deloitte Corporate Governance Services Group and of Quality Group on Sustainability and Carbon Reporting•Chairman Consultative Committee of Accountancy Bodies Ethics Standards Group•Chairman International Standards on Auditing Implementation Sub-Group•Chairman Advisory Group for International Standards on Auditing methodology, software and training providers and of Stakeholder Panel on stewardship assurance reporting•Chairman Institute of Chartered Accountants in England and Wales (ICAEW) Ethics Standards Committee and Deputy-Chairman of ICAS Working Group on non-audit services•Member ICAEW Technical Strategy Board and of its Council•Member Audit Quality Forum•Member Confederation of British Industry’s Companies Committee•Member Auditing Practices Board’s working group on going concern issues during the current economic conditions and of its International Committee•Member Policy and Regulatory Group (Big 4 + 2)•Member Swansea University School of Business and Economics Advisory Board 2009-
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Member ofDeloitte Touche Tohmatsu