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There is Growing Int'l Consensus Among Audit Committees on the High Value of Outside Auditors

By Jim Hamilton

A report issued by the Accounting and Corporate Regulatory Authority (ACRA) of Singapore found that company audit committees place a very high value on the outside independent audit of the company?s financial statements. The external audit by an independent audit firm is regarded as extremely valuable by the audit committees, noted ACRA, predominantly for the assurance it brings them that the financial statements prepared by management present a true and fair view of the company?s financial position and results to its shareholders. They see audit 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. It therefore assists the audit committees in meeting their corporate governance responsibilities and statutory duties. More broadly, ACRA views external audits as an important indispensable niche in the corporate governance eco-system.

The audit committees said that the most important criterion for the selection of the outside auditor was the engagement partner?s expertise and knowledge of the company?s industry and business; and an informed audit team with international reach. The audit committees expect the engagement partner to set the tone for the audit team with regards to the quality of the audit, the level of professional skepticism, and engagement with the client. Further, the audit committees expect to deal with the same engagement partner and team during the entire audit.

The report indicates that audit committees want their auditors to be independent and speak their mind. Outside audits provides an invaluable independent perspective on the numbers generated by management. Challenging questions from auditors and subsequent responses by management give the audit committees confidence that the figures are reliable for financial reporting purposes. The outside auditor is well-placed to bring to the committee?s attention any current or potential problems. Also, given the growing complexity of international financial reporting standards, the outside auditors? knowledge of new accounting standards and their ability to draw the attention of the audit committee to the impact that financial reporting standards will have on the company?s financial statements was seen as very valuable.

In addition, the management letter, in which auditors outline weaknesses in internal controls, was particularly important to audit committees, who might not otherwise be informed of these weaknesses. The management letter refers to the letter prepared by the auditor and addressed to management, outlining internal control weaknesses and other related issues, together with management?s responses, based on discussions the auditor had with relevant management personnel during the audit.

The report also found important additional intangible benefits generated by the audit, such as auditors? feedback on the quality of management?s finance team and the competence and co-operation of staff, particularly those in foreign locations. These and other insights would be lost without the external auditors.

That said, the report emphasized that auditor liability is a key problem that must be addressed. The audit committees believe that auditors have become risk-averse to offering professional views that would be useful to the company but are not required within the scope of the statutory audit. Thus, the full potential value of the audit is generally not being realized.

Dovetailing with the growing global consensus on the value of the outside audit, a study conducted by Maasstricht University found that CFOs and audit committees value the communications with the outside auditor in the audit process, and find it useful to work with the auditor on financial reporting issues. The CFOs envision an enhanced role for the auditor as an independent expert to check and challenge their views on critical and complex issues. The CFOs and audit committees urged that close attention be given to the content of management letters since these are a valuable form of communication.

That said, the CFOs and audit committees would like to see the audit model reconsidered to offer a less compliance driven, more comprehensive approach that additionally offers a broader, more holistic view of the business. They also urged auditors in all jurisdictions to strive for a universally consistent interpretation and application of auditing standards. Policy makers and regulators should support common standards and consistent regulatory oversight across jurisdictions.

Full post as published by Jim Hamilton's World of Securities Regulation on September 13, 2010 (boomark / email).