Emile Woolf - The best audit quality safeguard: the fearless auditor

Emile Woolf calls for audits that are executed without concern for the consequences of expressing opinions that are unpalatable to management.

A year ago the institute, through its Audit and Assurance Faculty, launched the Audit Quality Forum (AQF) to work in the public interest to promote quality and confidence in corporate reporting, a laudable aim to be sure.

According to the faculty's publication Audit Quality, the focus of the AQF's current agenda is 'to support shareholder involvement in the audit process', a key aspect of which is the relationships: the auditor develops a relationship with the client company's management during the course of the audit; yet the auditor's ultimate responsibility is owed to the shareholders.

Given that the directors' personal objectives are not necessarily consistent with the best interests of the shareholders, the close proximity of the auditor's dealings with management must not get in the way of the auditor's objectivity. The relationship must therefore be carefully managed.

This has been at the heart of auditing controversy for three decades and the de facto (if not de jure) power of the board to hire and fire the auditors does not help matters. This is why I have consistently advocated that once auditors have successfully undergone an appropriate selection process, the interests of shareholders would be best served if they remained securely in place for a fixed term of five years, or even seven - without any re-appointment option.

Safeguarding independence

The independence threat posed by building up too cosy a relationship would dissolve. The audit work, and the opinion which follows, would be given objectively without fear that a displeased management might seek to appoint a more sympathetic firm. The reality is that you can never be truly independent of those who have the power to sack you.

Although this would, at a stroke, eliminate the single most potent impediment to the audit quality that the new AQF now seeks to boost, they do not appear to have considered it, still less proposed it. Under the banner of supporting shareholder involvement they favour greater transparency and have addressed such issues as putting written questions to auditors; publishing their engagement terms; encouraging greater clarity in auditors' resignation statements; and competition in the large listed company audit market. Worthy subjects indeed while independence remains under threat.

My own view, as a shareholder, is that I don't actually want an involvement in the audit process, any more than I want an involvement in management.

I expect, as I am entitled to, that both management and auditors are competent in the roles to which they have been appointed.

It is only when shareholders become aware, invariably too late, that they have been poorly served by incompetent or dishonest stewards, abetted by utterly inept auditors, that the big governance and audit quality drums begin to beat, and in the post-Enron/WorldCom era we are bound to listen to any plausible suggestions. But by failing to tackle the root cause of such failings such suggestions, at best, finish up treating the symptoms.

Non-audit services too

If fixed-term audit appointments are to succeed in preserving audit independence they would have to be accompanied by a requirement for severance of any ongoing non-audit services that pose a similar threat. After all, it is no hardship to give up a 'loss-leading' audit if the retention of lucrative consultancy or corporate finance advisory work is the real prize.

It will be argued that whereas each year's audit is a discrete historical assignment, advising on, say, corporate tax strategy (if you'll pardon the word in an age that no longer distinguishes avoidance from evasion) requires an ongoing involvement to ensure successful implementation.

This is true - and, as such, retainers of this nature must not be offered to auditors nor, if offered, should they be accepted. For when the jubilee is sounded there shall be all change. Just think: the audit as a profit-leader that generates full fee recovery of the time costs needed to do the job properly.

Shareholders' quality expectations have always been clear: they want audits that are executed without concern for the consequences of expressing opinions that are unpalatable to management. To remove that concern is the audit quality priority.

Emile Woolf is head of Kingston Smith's forensic accounting services, specialising in professional negligence and valuation claims. He is also a director of the Hyperion Insurance Group. The views expressed in this article are those of the author.

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