AdSlot 1 (Leaderboard)

The balance of scepticism in auditing

Relationships between finance directors and audit partners are under scrutiny as regulators attempt to learn some lessons from the financial crisis and recession.

The Auditing Practices Board (APB) issued a discussion paper in August that asks one deceptively simple question: what is the degree of scepticism auditors need to apply to conduct a high-quality audit? While it would be easy to tell FDs and their team to expect, even demand, that their auditors be more sceptical, it is not an easy concept to apply in practice.

Scepticism taken too far would result in a breakdown of the FD-auditor relationship needed to get the job done. The secret is to find a balance between the audit team taking the more-travelled road – accepting everything the company tells them ­– and challenging every­thing to the nth degree. But auditors must now show they are prepared to challenge manage­ment assertions and that they understand that if they do not they fail to act as a deterrence to fraud – and they will not be in a position to confirm with any confidence that a company’s financial statement gives a true and fair view.

The degree to which auditors are allowed to exercise their professional scepticism remains largely with their client’s FD. The FD sets the corporate tone and behaviour of the relation­ship. If FDs react to the legitimate challenge posed by the audit, by readily suggesting the firm or the partner could or should be removed from the job, then those FDs are deliberately undermining the value of the audit. On the other hand, only the most steel-necked FD enjoys a rough ride from an auditor when there is so much else on the agenda.

The APB suggests that auditors apply scepticism in the form of a sliding scale, where the intensity of their scrutiny and challenge depends on the initial response to their findings. It suggest that, currently, auditors approach an audit without a strong predis­position to believe that either the financial information is misrepresented or that the manage­ment is anything other than honest and candid. If on the way, the audit team receives answers or information that gives them cause for concern, they should ramp up the scepticism.

This starting point of a neutral mindset may no longer be good enough. If audit scepticism needs to be put at the heart of the process, auditors will need to shift away from a neutral position – where there is no assumption of error or dishonesty – to what some may view as a more combative position, one the APB calls presumptive doubt. So those setting audit standards now want auditors to start off thinking there could be something wrong and maintain that thought until the last moment of sign off, even where the auditor’s experience of the FD and the team has never given them a moment of doubt.

Of course, auditors know in practice that scepticism can cost dearly. Like everyone else, auditors are under pressure both from within their own firm and from the client to complete the job on time and on budget. And that atmosphere of “let’s just get the job done” is probably the most powerful force militating against auditor scepticism.

It would be sensible to review the reasons behind a lack of forceful scepticism and the need for it now. But the APB work has to be put in the context of the criticism the audit profession has faced this summer from sources close to home. Out of a blue summer sky, auditors have faced two barrages of criticism from the joint Financial Services Authority and FRC paper Enhancing the auditor’s contribution to prudential regulation and the annual report of the FRC’s Audit Inspection Unit.

This emphasises the failure of auditors to challenge sufficiently hard management assumptions and valuations. Care is needed before accepting wholeheartedly this analysis: it is in the wider interest of corporate governance to see the evidence and possible causes for auditors in general being a soft touch.

Related reading

brexit-referendum-uk-flag-fd
/IMG/963/92963/compass2
/IMG/651/108651/navigate-africa-web
/IMG/277/124277/frc