AQI 2020: EY ‘disappointed’ as results reveal lack of challenge

With a third of its audits failing to hit the top grade, EY has been pulled up by the accountancy watchdog for shortcomings over challenging management assessments of impairments and inadequate oversight of component audit teams

Nearly a third (29%) of EY’s audits have failed to be classed as good or in need of limited improvement in this year’s round of audit quality inspections.

In its 2019/20 AQI report for the Big Four firm, the Financial Reporting Council says that of the 14 audits it reviewed, one required significant improvement while a further three fell short and were in need of more than limited improvement. Some 10 (71%) were classed as either good or requiring limited improvement.

Looking specifically at the firm’s FTSE 350 clients, seven were in the good/limited improvement bracket, with one requiring more than limited improvement and one in need of significant improvement.

The FRC said that the firm fell short over the consideration and challenge of management’s impairment assessments in relation to goodwill and other assets, an aspect of audit that will become increasingly important as companies grapple with impairments following the coronavirus pandemic.

The firm also was ordered to enhance group audit teams’ oversight of component audit teams and reinforce consistent quality control procedures.

The FRC also identified firm-wide issues, calling on EY to improve its staff appraisal system implemented in late 2017 and to strengthen the culture of challenge within the audit process.

It also told the firm to improve its root cause analysis process, particularly the timeliness of its reviews.

EY’s results are worse than last year’s findings, which also revealed one audit requiring significant improvements and three that required some improvement. However, because the FRC was able to review more audits than this year, the 2019 report revealed that 78% of audits were either good or in need of only limited improvement.

In this year’s report, the FRC identified examples of good practices within EY’s audit practice, including effective group audit oversight, IFRS 9 Accounting for Financial Instruments implementation, the audit of fair value and IT audit testing of data migration.

It also saw good examples of linking audit quality to partner remuneration, manager promotion process and partner portfolio reviews.

In response, Andrew Walton, EY’s UK head of audit, said: ‘We are disappointed our overall results are not higher and we have plans in place to address the FRC’s feedback. This year, we are launching a redesigned audit quality strategy as part of a further multi-year investment to improve the consistency of audit quality in our business and to respond to the increased expectations placed on audit.

‘This will include a continued focus on developing a culture of professional scepticism, management support of audit partners, further investments in data-driven audit processes, and additional training for our teams. We are pleased the FRC has recognised the improvements we have made to resolve last year’s findings alongside recognising areas of good practice.’

Impairment

The FRC reviewed the audit of impairment of goodwill and other assets on all audits that it inspected where this was identified as an area of significant risk. The watchdog reported that while there were some audits with good audit work, it identified three issues relating to the consideration and challenge of management’s impairment assessments on six audits.

On three audits, the audit teams did not sufficiently challenge and, on another audit, corroborate management’s growth forecasts to assess the forecast levels of headroom for each cash generating unit (CGU). On one of these audits there was insufficient evidence of the corroboration of the forecast cost and profit improvements and sensitivity analysis.

On one audit there was insufficient evidence of the audit team’s challenge in relation to the discount rate used. The audit team also did not perform sufficient sensitivity analysis or adequately assess the accuracy of the sensitivity disclosures in the financial statements.

On another audit the audit team did not obtain sufficient evidence, for one of the CGUs, to support its assessment of a key assumption or ensure that the internal valuation specialists confirmed the reasonableness of the assumption. On another CGU in the same group, the audit team did not sufficiently challenge and corroborate the reasonableness of management’s projected price increases, including the status of negotiations with key customers.

Component audit team oversight

The FRC found there was insufficient evidence of the group audit team’s involvement and oversight of aspects of the component auditors’ work at a number of group audits.

On two significant components of a group audit, there was insufficient evidence of the group audit team’s review of significant risk workpapers, discussions with the component audit team, the follow-up of late and incomplete component reporting and the resolution of challenges raised to the component audit team by the group audit team.

On another audit, given the group audit partner’s previous involvement on the audit of a significant UK component, another partner was assigned responsibility for the oversight of that component, however that partner was not sufficiently involved in the review of that component audit.

On another significant component of a group audit there was no evidence of discussions between the group audit partner and the component audit team, including attendance at the closing meeting, and no review of the underlying work papers for significant risk areas. On another audit the group audit team did not review the largest component’s key revenue audit work papers. On both of these audits, the engagement quality control review (EQCR) did not discuss the results of their review with the component key audit partners, as required by auditing standards.

On three audits, there was insufficient assessment and evaluation of the IT audit procedures performed by component audit teams.

 

EY’s AQI report can be found here.

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