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Fair Value Deficiencies Drop Amid M&A Pick-Up

Nov 29th 2017
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Fair market value audit deficiencies continued to fall from their peak in 2013 and that decline can be attributed to more quality control measures amid a pick-up in mergers and acquisitions activity, according to a new report by valuation and litigation consultancy Acuitas.

While the deficiencies have dropped to 31.6 percent of audits and other engagements that were studied from the high of 42.9 percent in 2013, those attributed to mergers and acquisitions rose to 68 percent in 2015 — up from 56 percent in 2014.

According to the Acuitas study, 2017 Survey of Fair Value Audit Deficiencies, the Public Company Accounting Oversight Board (PCAOB) considers the “robust pace” of merger and acquisition activity to be a risk factor for material misstatements.

“It’s apparent that the number of audit deficiencies remains high, owing to a surge in deal-making activity,” said Acuitas Managing Director Mark Zyla in a prepared statement. “But we are seeing industry and accounting firm leaders committing to more quality control measures and ensuring due professional care, hence the decline.”

A word of caution about the study: The PCAOB’s selection process is weighted according to risk and therefore isn’t random. Risk evolves from economic trends, company or industry developments and the audit firm’s inspection history.ndards.

    According to the study, the board targets areas of auditing challenges, audit and financial reporting risks, and recurring deficiencies. The focus, therefore, is primarily on financial statements that are more uncertain, require more management judgment and present more risk for material misstatement. So conclusions only are drawn according to the audits that were inspected — not all audits.

    Here’s a snapshot of the study’s key findings:

    • Most fair market value and impairment audit deficiencies are caused by failures to assess audit risks, and test internal controls and underlying assumptions about the information.
    • The PCAOB ties improvements to more responsive management and increased quality control.
    • The PCAOB continues to be concerned about internal control, assessing the risk of material misstatements and auditing accounting estimates, including fair value measurements.
    • 83 percent of the total audits inspected in the global network mostly targeted revenue and receivables.
    • For nonaffiliated firms, revenue and receivables were the highest targets at 52 percent.
    • The 2017 inspection cycle will target two key areas: recurring audit deficiencies that include fair market value and the economic risks of business combinations (i.e. mergers and acquisitions).
    • Three key trouble areas in recurring audit deficiencies include those related to the testing of internal control over financial reporting, auditors’ failures to properly assess and respond to the risk of material misstatements, and deficiencies related to complex estimates that include fair market value.
    • Mergers and acquisitions can give rise to material misstatements related to identification of intangible assets, assignment of goodwill to reporting units and the measurement of contingent consideration.
    • The 2017 inspection cycle also will look at financial reporting that requires significant levels of judgment, such as an entity’s ability to continue as a going concern and the evaluation of income tax accounting and disclosures.
    • A new area of focus will be changes in firm processes and procedures that will be required under new revenue recognition and lease accounting standards.