Strategies for efficient, effective audit documentation

An AICPA study found that the most common audit issue is a lack of adequate documentation. Although some auditors may think that documenting the nature, timing, extent and results of audit procedures will break the audit budget, many practitioners have found that this is not the case.

In fact, strong documentation will facilitate compliance with auditing standards and it usually leads to a more efficient engagement. The time spent documenting in accordance with the standards is an investment that will pay dividends later. Complying with the requirements while implementing the best practices will help auditors and audit firms perform high-quality work while increasing overall efficiency. In other words, take a smart approach to planning, embrace standardization, document now and save time later, and be prepared for what's ahead.

For more information, read the November 2017 article “4 strategies for efficient, effective audit documentation” in the Journal of Accountancy online. As well, review the additional AICPA guidance and resources at the end of that article. Further guidance on audit documentation in the context of exercising professional judgment is also available in previous posts on this blog.

Announcing PCAOB’s new auditor’s reporting model

In June 2017,  the United States Public Company Accounting Oversight Board (PCAOB ) issued a new standard and related amendments called “The Auditor's Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion and Related Amendments to PCAOB Standards”. The new standard creates the first significant change to the standard form auditor’s report in 70 years. Reports prepared by public company auditors will contain more information for investors and other financial statement users as a result of new rules.

Under the new standard, the auditor's report will retain the pass/fail opinion of the existing auditor’s report but will also include a new description of “critical audit matters,” providing financial statement users with information about complex aspects of the audit. Critical audit matters are any matters arising from the current period's audit of the financial statements that were communicated or required to be communicated to the audit committee, and that (1) Relate to accounts or disclosures that are material to the financial statements, and (2) Involved especially challenging, subjective or complex auditor judgment.

The US Center for Audit Quality (CAQ), affiliated with the AICPA, views the new standard as a positive step toward continuous improvement of the audit to better serve investors and capital markets. The CAQ welcomes the enhanced auditor’s reporting model to provide additional information to investors and other stakeholders in an increasingly complex and global business environment. It noted the PCAOB’s responsiveness to the auditing profession’s concerns and recommendations throughout the proposal process, including observations from the CAQ’s field-testing.

In October 2017, the US Securities and Exchange Commission (SEC) unanimously approved the PCAOB’s new auditor’s reporting standard, supporting the communication of “critical audit matters” as a way for auditors to provide more information to investors and the public.

For more information on the work of the PCAOB with regards to professional judgment and the auditor, review previous blog postings.

Addressing Unconscious Bias in Decision Making

According to a recent article in the American Institute of Certified Public Accountants (AICPA) Journal of Accountancy, many professionals, without realizing it, make “unconscious” choices regarding those who are different in terms of race, gender, geographic origin, college education and other factors. This “unconscious bias” is a hidden bias that can significantly undermine good decision making and impacts both personal and business decisions.

How much do you know about unconscious bias? Try a short, 10-question, online quiz to help test your knowledge on the subject. To learn more, watch the following AICPA Unconscious Bias webcast series of three information videos:

• “Help Me in the Heart - Understanding Unconscious Bias”: This session will help participants understand the full scope of what unconscious bias entails, where it comes from, and the areas of business it impacts. 
• “Look Me in the Brain – Identifying Unconscious Bias”: This session will help participants identify personal biases which might be holding us back from true inclusiveness.
• “Fix Me in the Act – Managing Unconscious Bias”: This session will help participants manage biases in a constructive manner to obtain the highest level of inclusiveness and performance. 

In addition, review previous blog postings on “bias” and how it affects the exercise of professional judgment.

Guidance for Teaching Professional Judgment and Ethics

In 2015, Pearson Canada published the textbook Auditing: The Art and Science of Assurance Engagements,Thirteenth Canadian Edition by Professor Alvin A. Arens (Michigan State University), Randal J. Elder (Syracuse University), Mark S. Beasley (North Carolina State University) and Joanne C. Jones (York University). Chapter 4 (on pages 63-91) covers Professional Judgment and Ethics. The Chapter presents A Framework for Professional Judgment, discusses the Auditor’s Mindset and Judgment Tendencies, presents A Framework for Ethical Reasoning, and offers Professional Guidance on Ethical Conduct.

The authors note (see page 65) that “In its research report, Professional Judgment and the Auditor, the Canadian Institute of Chartered Accountants (now CPA Canada) said: Professional judgment in auditing is the application of relevant knowledge and experience, within the context provided by auditing and accounting standards and Rules of Professional Conduct, in reaching decisions where a choice must be made between alternative possible courses of action.”

The report further explained that professional judgment is analytical and systematic, objective, prudent, and carried out with integrity and recognition of responsibility to those affected by its consequences. This means that auditors must be able to justify a decision on the basis that it:

• Is well thought out;

• Is objective;

• Meets the underlying principles of GAAP and GAAS;

• Has evidence to support the decision;

• Maximizes the likelihood of “good” consequences;

• Is carried out with truthfulness and forthrightness; and

• Considers the impact on the financial statement users.

Accordingly, this type of decision making can be both complex and difficult. To assist auditors and firms, several professional associations such as CPA Canada, the Institute of Chartered Accountants of Australia, and the Institute of Chartered Accountants of Scotland, as well as the American Center for Audit Quality, have issued professional judgment and professional skepticism frameworks that provide auditors with a methodical approach.

The approach depicted in Figure 4-1 above (see page 66) is based on those various frameworks. Although the framework may seem to be simple, such frameworks are considered effective tools in guiding thinking and encouraging auditors to be aware of their own judgment biases and traps and what can go wrong. Judgment biases and traps are considered in more detail as part of the auditor mindset component of the framework (see page 67).

Ernst & Young Foundation - Introducing the Professional Judgment Framework to Students

A 2017 brochure prepared by the Ernst & Young Foundation (US) states that “Professional judgment skills have never been more important for professionals to operate successfully in an environment of increasing risk and complexity.” In this regard, the Ernst & Young Academic Resource Center (EYARC) is providing free, leading-edge resources to prepare students for the fast-changing, global marketplace.

Professional Judgment Framework (click to enlarge)

As the above graphic illustrates, the EYARC has developed curriculum materials to introduce the professional judgment framework to students. According to the accompanying User Guide, lecture notes and supplemental curriculum materials allow students to apply the professional judgment framework to a variety of accounting and auditing scenarios. The supplemental materials include an “application template” which serves as a tool to track, organize and evaluate considerations of the judgment framework. For each application scenario provided, this template can be used by the students to support their judgment.

Documenting the rationale and support for important judgments made during the course of the audit is generally required by professional standards. In addition, for preparers, documentation helps support assertions made in the financial statements and supports an effective system of internal control. As such, requiring students to develop a written memorandum will assist in reinforcing the concepts included in the judgment framework and the development of effective writing skills.

Finally, the lecture notes discuss that the overarching considerations for the professional judgment framework are to be continually readdressed throughout the overall judgment process. However, in completing the application scenarios, for simplicity purposes, students will only address the overarching considerations at the beginning of the judgment process.

Ethical Lapses Force More CEOs Out of Office

The share of CEOs forced out of office for ethical lapses has been on the rise, according to the 2016 CEO Success study by Strategy&, PwC’s strategy consulting business. The study, which analysed CEO successions at the world’s largest 2,500 public companies over the past 10 years, reports that forced turnovers due to ethical lapses rose from 3.9% of all successions in 2007–2011, to 5.3% in 2012–2016. The 36% increase was due in large part to increased public scrutiny and accountability of executives.

The increase was more dramatic at companies in the US and Canada, where forced turnovers for ethical lapses increased from 1.6% of all successions in 2007–2011 to 3.3% in 2012–2016, or a 102% jump. In Western Europe, the share of CEOs forced out for ethical lapses increased to 5.9% from 4.2%, and in the BRIC countries, to 8.8% from 3.6%.

It is noteworthy that there were 12 women globally appointed to the role of CEO in 2016 – 3.6% of the incoming class. This marks a return of the slow trend toward greater diversity that had been in place over the last several years, and a recovery from the previous year’s low point of 2.8%. The share of incoming female CEOs was highest in the US and Canada, rebounding to 5.7% after falling for the previous three years. Five industries – healthcare, industrials, information technology, consumer staples, and telecom services – did not have a single incoming female CEO in 2016.

Read the full story “More CEOs forced out of office for ethical lapses” at Chartered Accountants Worldwide online. This article was originally published by the Institute of Singapore Chartered Accountants (ISCA) in the June 2017 edition of ISCA Journal.