Q. Has the quality of the audit improved since the 2007 financial crisis? If so, have stronger regulatory oversight and standards driven the improvement, or has the profession done so?
I didn’t see a big problem with the quality of audit in 2007. It was a market crisis, a bubble that burst. The significant improvement in audit quality started in the days of Enron and WorldCom. That was an accounting crisis that triggered the creation of the Public Company Accounting Oversight Board, which has been followed up by national accounting regulation in most large and medium-sized countries. That has been accompanied by a refocusing by the profession, which needed to regain credibility. All of this led to a tremendous improvement in the quality of audit, which has continued through the global financial crisis.
Q. Do auditors have the capability to give anything more than a binary pass or fail audit opinion? Is the profession sufficiently sophisticated to deliver a more narrative-based opinion?
We support providing more information relating to the audit. The International Auditing and Assurance Standards Board has just issued a formal proposal that would recommend moving away from a binary report and require the auditor to discuss the most important elements of the audit. Auditors certainly have the skills to provide more information. In the more difficult judgmental areas where ultimately you come down to a number, for example when there’s an exchange of one asset for another, informing readers of the financial statements about the key assumptions used gives a better idea of the key judgements in the accounts. Investors would like a seat at the audit committee table but that’s unrealistic. But it’s very hard in a one-way communication to replicate the discussion that goes on in the audit committee meeting.
Q. Does the common compliance-based training that auditors around the world receive encourage them to take a ‘tick-the-box’ approach, rather than the more inquisitorial approach that is required?
We’ve been focusing on the importance of exercising professional judgment and skepticism, so that you don’t simply take information from the client as good. One needs to be a respectfully questioning business person and when the economics of a transaction don’t make sense you need to continue to dig until you understand what’s happened. At that point you understand whether the information is reasonable or not. ultimately our work benefits the users of the financial statements – the investors. You need the respect and cooperation of the management, but you must respectfully challenge what they give you.
Q. What meaningful improvements or innovations in the audit has the profession made recently? What is the most meaningful improvement or innovation?
I think technology has greatly improved the efficiency of the audit. The focus on professional skepticism we have just talked about has been the most important improvement. Looking into the medium term, we are very excited about how we can use data analytics to help identify problems that more traditional techniques might not.
Q. What is the single largest weakness remaining in the audit (or the profession) and what could be done to rectify it?
The single largest weakness is that the scope of the audit has not changed for 100 years and is limited to historical financial statements.
Q. Is there merit in extending the audit beyond the financial statements or even the annual report? If so, what would you suggest? Who wants this? Who will pay for it?
The realm of opportunity is very great in terms of what more auditors could do. The key question is how do we remain relevant when a greater and greater part of a company’s value is either an intangible asset that’s on the balance sheet or some kind of intangible value that’s not even recorded? You take a drug pipeline in the case of a pharmaceutical company. If the auditors are going to remain relevant we have to provide assurance on some of these areas. We’re starting to identify these areas and talk to the regulators and folks in the public arena to see if there’s an interest. We do think there’s an interest. ultimately the company will have to pay for this. But investors have to make clear they want this.
Larry is Global Vice Chairman of Quality and Risk Management for KPMG International and serves as an executive member of the senior leadership team and as an Account Executive for a number of clients. During his 34 years with KPMG, he has held numerous leadership positions, including Chair of the US Board’s Audit and Finance Committee and Lead Partner on some of KPMG’s largest global accounts.