Improving Your Audit Process, Part 6: Eliminating Excessive Audit Evidenceby
When I began my career in the audit profession, competitive bidding was prohibited by the AICPA Code of Professional Conduct. Because a CPA firm could not ethically be underbid on an audit, clients generally could be convinced to pay fees charged for most or all time charges on an engagement (this has been my frequent dream since!).
Once competitive bidding was permitted, CPA firms were forced to find more efficient ways to audit or, by default, incur lower engagement profitability. Unfortunately, many CPAs had become comfortable (maybe I should say entrenched) in excessive evidence collection paradigms and have found it difficult to change. Some of these paradigms still exist today!
Here is a case in point: A recent live seminar I taught was attended by both CPA firm partners and management accounting persons. A finance director of a large nonprofit organization described the extensive work and cost of designing the entity’s internal controls, which were similar to those required by the Sarbanes-Oxley Act for publicly-held companies.
The finance director lamented that during her auditor’s risk assessment procedures, the new internal control system was completely ignored! The auditors continued to gather evidence primarily through their extensive tests of balances procedures, which was their old and more costly audit strategy. I later observed two CPA firm partners arranging a meeting with the finance director to discuss their cost-efficient audit strategies of performing tests of controls to reduce costly tests of balances!
This 10-part series of articles will focus on ways to improve the audit process, reduce audit costs, and enable CPA firms to make some money on audit engagements. This article, in particular, is not about techniques to eliminate excessive audit evidence (scores of my articles archived on AccountingWEB discuss specific techniques).
While these techniques are important, none will be very effective unless members of CPA firm management are committed to making changes in their operating philosophies and practices. Let me count a few of the ways change may be necessary to improve the audit process:
1. Planning for less-costly substantive evidence. For example, while working on the staff of an international CPA firm early in my career, I was told the audit strategy for an entity without adequate segregation of duties must rely primarily on analytical procedures and tests of balances procedures for substantive evidence. While we know the Clarified Auditing Standards permit testing management’s entity-level controls to offset the lack of segregation of duties and other control deficiencies, to reduce control risk, and to provide less-expensive substantive evidence, some auditors continue to apply their outdated, inefficient strategies and treat control risk as high in every engagement’s circumstances. High control risk almost always requires more costly substantive evidence from tests of balances procedures.
2. Eliminating unnecessary client documents from engagement files. Copies of client bank statements, accounts receivable printouts, and inventory records are routinely included in engagement documentation by many auditors. Even if such records are stored electronically, they must be subjected to all the quality control procedures applied to other audit documentation (e.g., initialing and dating, indexing and cross-referencing, etc.). Once client documents are included in engagement documentation, the auditor becomes responsible for all the information in the documents. This includes unusual matters, errors, and fraud indicators the auditor may have overlooked! Rest assured that a plaintiff’s attorney will not overlook such matters in the event of a third-party adversarial action!
3. Foregoing individual partner preferences for the sake of firm-wide unity. A staff assistant in one of my staff training seminars shared that her firm had six audit partners and each one had different requirements for performing certain auditing procedures and the preparation of audit documentation. Unable to remember the different requirements of each partner, the staff assistant had to change documentation and even re-perform some procedures during engagement review and completion. The result? Continual budget overruns and staff turnover!
4. Gaining agreement among partners and engagement leaders. Unity among CPA firm leadership personnel extends beyond auditing procedures and documentation. For operating philosophies and quality control policies and procedures to pay dividends in the form of engagement and firm profits, unity must extend beyond compromise on application of these policies and procedures. All leadership personnel must demonstrate unity in support of the overall objectives and operating policies of a CPA firm.
History has shown that when one leader is in disagreement with other leaders, staff personnel may feel justification for their deviation from or disagreement with firm policies and procedures. Like the power of a raging river pushing against a dam with a hole in it, the force of such disagreements among leadership can eventually tear down even the strongest firm structure. For example, consider the number of larger CPA firms that have dissolved into individual offices over the last several decades!
5. Knowing what professional standards require. This probably sounds really obvious. CPAs have mandatory professional education, have purchased audit guides, and obtained peer reviews for years, all of which focus on the requirements of professional standards. For some of us, however, information obtained is not always information applied! Budget pressures, client demands, 24 hours limiting a day, personal and family objectives all compete for a CPA’s time. Like studying for the CPA exam, we meet the requirements necessary to stay in practice, but our learning doesn’t always get transferred to our job responsibilities to produce future investment returns.
The Professional Ethics pages of the AICPA website contain descriptions of violations of its Code of Professional Conduct, along with resulting disciplinary actions. One CPA firm partner cited on those pages delegated his quality control and auditing responsibilities to a manager-level person. The ethics investigation revealed the partner didn’t know what he was doing, nor was he involved on the engagement in any way required by the standards! His sanctions were suspension from practice for two years, completion of hundreds of hours of CPE, and subjection to a pre-issuance review on any of his future audits. Not knowing and applying professional standards likely ended his career! Wisdom is knowledge applied!
The age-old question about audits has been “how much is enough?” The five considerations above form a framework for the answers to this question. An auditor’s professional judgment and professional skepticism determines how this framework is applied to each audit engagement.
Eliminating excessive audit evidence is the result of collecting the minimum amount of evidence required for each individual engagement to satisfy the requirements of professional standards. It is not always easy to do, but this is a major key to improving the audit process!