The auditing profession – Where to next?

Our views in this article are to large extent based on our involvement in high-profile cases involving the prosecution of professional misconduct allegations levelled against auditors

Several auditing and accounting scandals in recent years − most notably in relation to African Bank, Steinhoff and Tongaat Hulett − undoubtedly had a negative impact on the reputation of the auditing and accountancy professions. Public trust and confidence in the auditing profession have reached an all-time low. The question that may well be asked is whether the high-profile audit failures signal a decline in standards of professional conduct and integrity in the auditing profession in particular. The fact is that large multinational auditing firms are probably better resourced, in terms of internal technical advisory capacity and digital resources in particular, than ever before and have, one would assume, all the necessary internal checks and balances to avoid significant audit failures.

Audit firms that held so much prestige and were sought-after places of employment for not only auditors and accountants but also other professionals have in recent times found themselves having to explain their role in major corporate failures. To their credit, the auditing firms have acknowledged their failings and have set about trying not only to repair the reputation of the profession but also to implement practical measures to close the gaps that have emerged in high-profile matters such as the collapse of Steinhoff, Tongaat Hulett and African Bank. It is, however, of vital importance not only to the auditing and accounting professions but also to the commercial world that relies so heavily on audit opinions, that confidence and trust in the auditing profession be restored.

The audit failures and corporate collapses have also brought into sharp focus the role of the Independent Regulatory Board for Auditors (IRBA) and the South African Institute of Chartered Accountants (SAICA). Both bodies have reaffirmed their commitment to ensuring the integrity of the profession through the enforcement of standards of professionalism and conduct.

What are the problems?

What could the causes be of what can only be described as fundamental audit failures? Although the potential causes are, in our view, no doubt complex and not capable of definitive comment in a condensed format such as this article, we offer the following observations and comments on some potential areas of concern:

• A failure by auditors to look at the ‘bigger picture’, including the overall commercial outcome and impact of what they are auditing
• A false sense of comfort gained by auditors from complying with internal control systems that can induce a ‘tickbox’ approach to auditing as opposed to encouraging auditors to engage with the substantive audit issues
• A failure to appreciate the challenges posed by crucial judgemental issues in major audits and, in particular, an unwillingness to challenge client assumptions on matters considered to be judgemental
• Component auditing of increasingly complex multinational commercial structures that takes place in isolation when dealing with large group audits
• A failure to adopt a sufficiently sceptical approach to related0party transactions, particularly those across jurisdictions
• Lack of audit documentation evidencing the connection between audit evidence, reasoning applied by the auditor and conclusions arrived at on material matters relating to the audit, and
• A general lack of sufficient professional scepticism being applied when presented with information from management and a failure to adequately interrogate management’s assumptions.

All of the above, at first blush, appears to be relatively easy to remedy. However, it is important to acknowledge that auditing does not take place in isolation from the audit client or from the problems that beset other professional services’ industries. Pressure from clients for a clean audit opinion, and therefore a clean bill of financial health, is very real. Accordingly, a new model of engagement with clients is needed.

Some suggestions on a new approach

Without presuming to be exhaustive, we suggest that the following points of import may be identified as learnings for auditors arising from the cases that have been reported in the media and have served before the disciplinary committee of the IRBA over time:

• There is a need to apply an enhanced level of professional scepticism, independence and objectivity.
• Consider the audit holistically and not on a piece-meal basis, particularly where the audit relates to complex corporate structures.
• Analyse the client’s motivation properly, even where this may lead to a degree of discomfort in the relationship.
• Approach management bias in relation to key management assertions in the annual financial statements as an ever-present and serious risk.
• Ensure that the audit file is well documented to support the audit conclusions reached and also clearly records the reasoning applied in arriving at a conclusion. As basic as this audit principle may be, it is critical in holding the auditor accountable for his/her decisions insofar as these must inter alia be reasonable based on audit evidence that must be documented.
• Design and implement quality control systems that identify and engage with the primary issues of import in the audit at the level of understanding the connection between audit evidence and the reasoning applied. Avoid simply adding ‘heads’ to an audit as the standard response to heightened audit risk and to be beguiled by compliance with internal systems if these are simply a ‘tickbox’ approach to auditing. Engage with the substantive issues at hand.
• The audit partner must take responsibility for the overall audit; an overreliance on technical opinions will not necessarily provide greater assurance in relation to the audit outcomes, and ultimately the buck stops with the audit partner. This means that the audit partner must engage with technical experts to understand their findings within the context of the overall audit. A piece-meal approach to auditing is simply not satisfactory.
• Design and implement appropriate systems for storing data electronically and improving quality control.
• Scrutinise related party transactions with the level of detail required.
• Engage meaningfully with component auditors − there may be audit issues that are pervasive across the group.
• Assess management’s assumptions and test them vigorously against the required audit standards.
• Identity a failure by the entity to comply with laws and regulations and take appropriate steps to address these failures.

Regulatory responses to audit risk

What has been the response from the profession so far to the state it finds itself in? It has, through various mechanisms, attempted to address the shortfalls. Two of these are briefly discussed below.

Ethical standards

One of the ways in which the profession has responded to the possible limitations that maintaining client confidentiality by an auditor may have on an auditor not disclosing a client’s non-compliance with laws and regulations has been the implementation of the Non-Compliance with Laws and Regulations (NOCLAR) standard by the International Ethics Standards Board for Accountants (IESBA). This has subsequently been included in the SAICA Code of Professional Conduct. NOCLAR addresses acts of omission or commission, intentional or unintentional, committed by a client or an employer, or their employees or contractors, contrary to prevailing law. It allows auditors and other professional accountants to make disclosures of non-compliance with laws and regulations to public authorities without being constrained by the duty of confidentiality to the client. It effectively provides for a ‘whistle-blowing’ option for auditors and is a clear indication of the profession’s obligation to act in the public interest at all times.

Enhanced sanctioning powers for regulatory bodies

Another mechanism adopted to restore public trust and confidence in the profession is through the amendments articulated in the Auditing Profession Amendment Act 5 of 2021 (Amendment Act). The Amendment Act does away with the maximum fine of R200 000 which a disciplinary committee of the IRBA could impose on an auditor found guilty of professional misconduct. Compared to other jurisdictions such as the UK and the USA, this amount is menial and arguably does not represent a significant deterrent. In addition, it amounts to not even a fraction of the audit fees that the audit firms charge clients in audit fees on major audits. The amount of the fine will in future be an amount to be determined by the Minister of Finance. This amount will likely be significantly higher given that regulators in other jurisdictions are handing down significant fines to auditors and audit firms. The Amendment Act also contains other provisions which seek to strengthen the powers of the IRBA, including include search and seizure provisions, the power to subpoena in the investigation process, and the simplification of the disciplinary hearing process. All of these amendments appear to be aimed at ensuring that the IRBA can, as the watchdog of the profession, hold auditors accountable in a more streamlined and efficient process. Inevitably the effect of this would be to enhance the credibility of both the IRBA and the profession.

The auditor’s place in the compliance ecosystem

We draw your attention to an article by Professor Michael Katz, chair of ENSafrica, in the Daily Maverick [1] in which he analyses the allocation of responsibility for corporate failures to all the role-players in the compliance ecosystem. It is important to appreciate that the auditor is only one of the role-players involved in the compliance ecosystem − others include management, the board of directors (particularly the non-executive directors), the audit committee, the institutional investors who elect the directors and the regulators such as the JSE, IRBA and SAICA. Katz also suggests that the time has arrived, in the complexity of the modern business world (and often added to by global dimensions), for the redesign of the audit model, the role of the auditor and the legal liability and responsibility of auditors.

Conclusion

Real and concrete reform in the profession must start with the auditors and audit firms themselves. If they have an understanding that what they do is in the public interest and that they are indeed accountable to the public who rely on assertions made in audit opinions signed by them, a real shift in the auditing profession can take place. The legislative reform is there in the form of the Amendment Act and other mechanisms. What is needed is genuine ‘buy-in’ and cooperation from auditors and audit firms and a will from the profession as a whole to recover the prestige and esteem it once held. It appears to us that there has not been a fundamental decline in standards of professional conduct and integrity, but that the auditing profession simply finds itself out of step with the increasingly complex and demanding modern commercial world. The difficulty may be that the methods and processes have remained relatively static in a rapidly evolving world.

[1] https://www.dailymaverick.co.za/opinionista/2020-12-01-how-the-compliance-ecosystem-helps-prevent-corporate-failure/.

AUTHORS │ Pareen Rogers BA (cum laude), LLB (Wits) is an admitted attorney of the High Court of South Africa; Fritz Malan BA, LLB (US) is an admitted notary and attorney of the High Court of South Africa and admitted to the Texas Bar. They are both executives in the employment law department of ENSafrica