AQI 2020: BDO in dock for revenue audit failings

FRC urges ‘robust action’ as audit quality takes a backwards step at mid-tier firm with only 63% of audits up to scratch

BDO has lost its position as the best performing large audit firm in the Financial Reporting Council’s 2020 round of Audit Quality Inspection reports after only two thirds (63%) of its audits were deemed to be either good or requiring limited improvement.

And having only had one audit found to be in need of significant improvement in the last four years, the firm now has received this lowest score for two audits in this year’s assessments.

Last year, the firm scored 87.5% in terms of good/limited improvement audits, with only one requiring improvement and no audits needing significant improvements.

The FRC report highlighted the need for the firm to improve its audit of revenue work, while also drawing attention to the need to strengthen the assessment and evaluation of work performed by internal and external specialist. The firm will also be required to focus on its audit teams’ challenge to estimates and provisions.

The news will be a setback to the firm, which has continued to win large audit mandates in the FTSE 250.

A review of BDO’s firm-wide procedures also revealed the need to improve the consistency of consideration and assessment of audit quality within the appraisal process as well as the need to introduce a formal and standardised assessment process for senior manager promotions.

The FRC called on the firm to clarify how it will take robust action through its audit quality plan to reinforce the firm’s commitment to a culture of both continuous improvement and enhanced audit quality.

Revenue recognition

The FRC said BDO’s approach adopted on one or more audits did not provide sufficient assurance over the accuracy and occurrence of revenue recognised. In particular, in one case, the audit team did not consider the implication of weaknesses arising from IT work and any related impact on the integrity of data. Furthermore, the audit team did not assess and evaluate other work performed outside of the statutory audit.

On one of these audits, insufficient audit procedures were performed to corroborate the completeness of revenue derived from a system maintained and operated by a third party.

Use of specialists

In half of the audits reviewed, audit teams did not sufficiently assess the relevance and reasonableness of certain inputs and/or assumptions used by management’s experts to support the valuation of various judgemental balance s in the financial statements. In two cases, the audit team did not consider the objectivity of management’s expert to value various assets and liabilities in the financial statements. In one of these instances, the experts had been engaged by management for 20 years.

On two of the audits reviewed, the audit team engaged internal specialists to address the identified significant risk and provide additional assurance over the balance. The audit teams did not sufficiently integrate the specialists in the audit team and did not adequately follow up on matters raised and weaknesses identified.

Estimates and provisions

The FRC raised concerns over the evidence of appropriate consideration or challenge of certain estimates and provisions including those arising on long-term contracts and insurance technical liability provisions.

The FRC also found inadequate assessment of the stage of completion on individual contracts and the appropriateness of revenue recognised. The watchdog added that, in relation to estimated future costs on loss-making contracts, there was inadequate testing and evidence of challenge of management’s estimate of future costs and whether additional provisions were required.

The FRC also found insufficient evaluation of the validity and appropriateness of amounts claimed and recognised as revenue from contract variations not formally agreed with the client. On two audits reviewed, the audit teams did not sufficiently evaluate, challenge and corroborate management’s claim estimates.

However, the FRC did find examples of good practice around the effective use of tailored analytics, the extent to which group audit teams oversaw and interacted with component audit teams, as well as the appropriate level of challenge and follow up over matters raised by the firm’s internal expert.

Scott Knight, head of audit at BDO LLP, said: ‘Having topped the table for audit quality for the last two consecutive years, we are disappointed to see a decline in our results. Today’s scores remind us we must remain committed to continuous improvements and, having carefully considered the root causes of the AQR findings, we will be implementing detailed action plans where required.

‘What remains clear is that there is no link between audit firm size and audit quality. The market is increasingly alive to this, spurred by four independent reviews in the last year which have articulated the need for more choice. The depth of expertise and sector specialisms in BDO’s 2,250-strong audit team is increasingly recognised and this has contributed to an increased demand for our services.

BDO Audit Quality Inspection Report Jul 2020

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