Rise in M&A Deals Key Factor in Audit Deficiencies

Nov 4th 2015
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A new analysis of Public Company Accounting Oversight Board (PCAOB) inspections found that nearly half of all audits in 2013 were deficient, and business mergers and acquisitions led to an increase in fair value measurement deficiencies.

Acuitas Inc.'s 2015 PCAOB Survey of Fair Value Audit Deficiencies reveals a continuing rise in deficiencies rooted in a lack of risk assessment and internal controls.

“We have seen a significant shift from the years where fair value measurement deficiencies were largely the result of financial instruments to the current trend of business combinations and a failure to test or understand financial assumptions,” Acuitas Managing Director Mark Zyla said in a prepared statement. “This shift has likely been caused by audit improvements for financial instruments that resulted from the PCAOB inspection process and by increased merger activity in recent years.”

Auditors should be concerned about the continuing rise in deficiencies caused by a failure to assess risk and internal controls, and the PCAOB's assessment that they are caused by “a lack of due professional care,” Zyla said.

The Atlanta-based CPA firm's fourth annual analysis offers the following key takeaways and trends from 2008 to 2013 inspection reports.

  • Forty-three percent of all audits inspected by the PCAOB were deficient in 2013, compared to 16 percent of audit reviews in 2009.
  • Fair value measurement and impairment deficiencies have decreased for annually inspected firms since peaking in 2010, but other deficiencies have increased. In 2010, fair value measurement and impairment deficiencies comprised 48.4 percent of all deficiencies. In 2013, fair value measurement and impairment deficiencies represented 31 percent of all deficiencies.
  • Fair value measurement deficiencies increasingly are due to M&A activity, jumping from an average of 9 percent in 2008 through 2011, to 45 percent in 2012, and 49 percent in 2013.
  • Deficiencies caused only by failures to assess risk and test internal controls increased in 2012 and remained high in 2013. Risk assessment and internal-control testing comprised 45.3 percent of fair value measurement deficiencies and 32.3 percent of impairment deficiencies for the top 25 firms in 2013. (See page 8 in the report for a list and description of fair value measurement deficiencies and page 10 for impairment deficiencies.) According to the report, “this is a significant shift from earlier years when fair value measurement deficiencies were primarily caused by inadequate substantive testing of asset prices and impairment deficiencies were primarily caused by inadequate substantive testing of management's prospective financial information.”

According to Acuitas' analysis, PCAOB reports indicate that deficiencies are the result of a firm failing to obtain sufficient appropriate evidence to support its opinion that:

  • The financial statements were presented fairly, in all material respects, according to applicable accounting principles.
  • The issuer maintained, in all material respects, effective internal controls over financial reporting.

“The PCAOB indicates that audit deficiencies involve the lack of due professional care in the planning and performance of audit work,” the analysis states. “According to the PCAOB, audit failures are caused by a critical absence of due professional care which requires that auditors apply professional skepticism to assess the appropriateness and sufficiency of audit evidence taking into consideration the risk of material misstatement, the risk mitigated by controls, and the relevance and reliability of audit evidence.”

Related article:

Deficiencies Continue to Plague Audits of Broker-Dealers


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