Learning about Professional Skepticism – Part 3 of 3

What does it mean to be sceptical? What does it mean to cast doubt on something you feel is not right, despite popular consensus? Scepticism may be generally defined as a personal disposition toward doubt or incredulity of facts, persons, or institutions.

For a general overview of sketicism, watch the YouTube video "What is Skepticism? A primer for understanding reality."

For an indepth analysis, refer to the research paper "A Model and Literature Review of Professional Skepticism in Auditing" by Mark W. Nelson, Auditing: A Journal of Practice & Theory, Vol. 28, No. 2, November 2009, pp. 1–34. This paper reviews research that examines professional skepticism in auditing. Consistent with much research and with recent regulatory concerns, the paper defines professional skepticism as "indicated by auditor judgments and decisions that reflect a heightened assessment of the risk that an assertion is incorrect, conditional on the information available to the auditor."

In many circumstances the assertion in question will be a client’s assertion that the financial statements are free of material misstatement, but the definition could apply to other assertions as well (e.g., attesting to the effectiveness of a client’s internal controls). This definition reflects more of a "presumptive doubt" than a "neutral" view of professional skepticism, implying that auditors who exhibit high professional skepticism are auditors who need relatively more persuasive evidence (in terms of quality and/or quantity) to be convinced that an assertion is correct. Depending on how an auditor's decisions are evaluated, it is possible under this definition for an auditor to exhibit too much professional skepticism, in that they could design overly inefficient and expensive audits.

The paper provides a model that describes how audit evidence combines with auditor knowledge, traits, and incentives to produce judgments that reflect professional skepticism. The model also describes how, given a judgment that reflects some level of professional skepticism, the judgment combines with auditor knowledge, traits and incentives to produce actions that reflect relatively more or less professional skepticism. The model highlights that auditors’ pre-existing knowledge, traits and incentives all combine (and potentially trade off or interact) to affect the amount of professional skepticism in audit judgment and audit actions. This perspective also facilitates understanding how audit firms can influence professional skepticism in practice via hiring, training, performance appraisal, review, decision aids, incentives and changes in tasks and institutions.

Learning about Professional Skepticism – Part 2 of 3

In January 2007, the US Public Company Accounting Oversight Board (PCAOB) sponsored a Forum on Auditing in the Small Business Environment. Kayla J. Gillan, Board Member, gave a presentation on Unconscious Human Nature Affecting “Professional Skepticism.” During that presentation, she observed that: “Because we are human, we are not perfect. Because we are not perfect, we will make errors. But, because the cost of auditor error is so significant, we must try (within the limits of reasonable human capacity) to minimize the frequency, size and severity of errors. To put an even finer point to it: I am speaking of those characteristics of human behaviour that affect “professional skepticism” – not because we want them to, but because we are usually not even aware of them.”

Gillan further observed that: “Over two decades of psychological research has revealed at least one truism: even the most well-meaning person unintentionally allows unconscious thoughts and feelings to influence his or her seemingly objective decisions. We all have what Yale Professor David Armor calls “the illusion of objectivity.” While we obviously do not have time today to even list, in a comprehensive manner, all of the reasons for this, let me describe briefly a few that I have noted that seem most relevant to the work of an auditor in today’s world. [Implicit Prejudice; In-Group Favouritism; Bias Favouring Those Who Can Benefit You; and Bounded Awareness]”

In summary, Gillan offered the following conclusion: “What can we do to minimize risks of unconscious attitudes impairing audit quality? Clearly, we do not have time today for an exhaustive examination of that question. But, I can leave you with a few thoughts, and ask that you further consider these issues as you go back to your offices. Studies show that, when we are mindful of relevant risks, we will be more conscientious about managing them. One way to be mindful of unconscious biases that may affect the way in which we interact with audit clients is to collect data aimed at revealing how these same biases may exist in your own offices or professional relationships. Look at the internal management of your firm: Who do you hire?  How do you reward good performance? How do you define “good performance”? On whom do you tend to place greater trust? With this introspection, then ask yourselves: Does any of this data indicate an unconscious bias that may also impact the way in which you relate to your client and plan and perform audits?”

On August 16, 2011, the PCAOB issued a concept release to solicit public comment on ways that auditor independence, objectivity and professional skepticism could be enhanced. One possible approach on which the Board is seeking comment is mandatory audit firm rotation, which is explored in detail in PCAOB Release No. 2011-006. However, the Board seeks advice and comment on other approaches as well. Comments should be submitted no later than December 14, 2011. The Board will also convene a public roundtable meeting in March 2012, at which interested persons will present their views. Additional details about the roundtable will be announced at a later date.

Learning about Professional Skepticism – Part 1 of 3

With the move toward a more principles-based financial reporting framework and increased emphasis on fair value measurement, along with increased expectations from stakeholders and regulators, the ability to consistently make high quality professional judgments is increasingly important. In response, KPMG has launched a professional judgment initiative, which includes development of a Professional Judgment Framework and training all assurance professionals on a good judgment process, as well as common threats to good judgment. This Framework and training are intended to elevate judgment quality and professional skepticism across the firm and to provide a common vocabulary that facilitates implementation and mentoring on professional judgment.

“Professional scepticism” may be defined as an attitude that includes a questioning mind and a critical assessment of the supporting evidence. Professional skepticism helps to frame the professional accountant’s mindset. If that mindset is aligned with the objectives of the accounting profession and the duty to the public trust, professional judgments are also likely to be appropriately aligned with those objectives.

According to the KPMG monograph (on page 16): “Professional skepticism refers to the ability of the auditor to approach issues in an objective, balanced way, with a questioning mind and an appropriate level of critical evaluation. Accordingly, it is important that you learn what professional skepticism is and how to develop and improve your own sense of professional skepticism. It is important to understand that professional skepticism does not mean that auditors should adopt a cynical attitude toward client management. To the contrary, professional standards indicate that auditors should neither assume that management is dishonest nor assume unquestioned honesty.”

The accompanying exhibit sets out six characteristics of scepticism, summarized from the current research, as follows:

·       Questioning Mind - A disposition to inquiry, with some sense of doubt;

·       Suspension of Judgment - Withholding judgment until appropriate evidence is obtained;

·       Search for Knowledge - A desire to investigate beyond the obvious, with a desire to corroborate;

·       Interpersonal Understanding - Recognition that people's motivations and perceptions can lead them to provide biased or misleading information;

·       Autonomy - The self-direction, moral independence and conviction to decide for oneself, rather than accepting the claims of others;

·       Self-Esteem - The self-confidence to resist persuasion and to challenge assumptions or conclusions.

To learn more, read the research article “Development of a Scale to Measure Professional Skepticism” by R. Kathy Hurtt, PhD, CPA, in Auditing: A Journal of Practice &Theory, Vol. 29, No. 1, May 2010, pp. 149–171.

Survey on Professional Judgment Matters for CAs

Chartered Accountants in Canada and internationally are invited to participate in an online “Survey on Professional Judgment Matters for CAs.” The objective is to assess whether there is a need for enhanced communication and collaboration by CAs with regard to professional judgment matters. This seedcorn project is sponsored by the Institute of Chartered Accountants of Scotland (ICAS).

According to the academic research, the value of “professional judgment” is a function of both its importance and its quality, and each of these depends on the other. Regardless of whether CAs work in education, public practice, industry, government or elsewhere, the quality of their professional judgment is based on ethical behaviour, together with an appropriate foundation of technical skills and critical thought processes, sustained and enhanced by professional development.

The importance and quality of professional judgment is the subject of the survey, which examines the feasibility of creating an Internet-based professional judgment resource centre. Survey questions require a simple Yes or No answer, but space is provided for participants who want to add comments. The survey results will be used in summary form only and all responses will be treated as confidential. An overall summary of the survey results will be provided by e-mail to all survey participants in December 2011 upon completion of this initial phase of the project.

The “Professional Judgment Project Proposal” and the “Support for Survey on Professional Judgment Matters” are available online at Google Docs.

Please take 5 minutes to complete the online survey by November 18, 2011 (www.surveymonkey.com/s/ProfessionalJudgmentMatters).

 J. Paul-Emile Roy, CA, Researcher and Consultant

E-Mail: paul.emile.roy@gmail.com