30 June Ms. Hilde Blomme Fédération des Experts-Comptables Européens Avenue d'auderghem, 22-28/ Brussels Belgien

Transcription

1 30 June 2014 Ms. Hilde Blomme Fédération des Experts-Comptables Européens Avenue d'auderghem, 22-28/ Brussels Belgien by Dear Hilde Re.: Opening a Discussion: The Future of Audit and Assurance As a FEE member body, the IDW appreciates the opportunity to join the discussion on the future of audit and assurance. We agree with the contention in the paper that the profession ultimately shares the same objective as its stakeholders, i.e., improving quality in both corporate reporting and assurance and making the profession s services the most relevant possible. We support FEE taking a proactive role in fostering this discussion, since audit and assurance services are central to our members activities. As legislators perceive a need to raise the thresholds for statutory audit, we firmly believe the profession will need to promote the range of assurance and related services it is able to offer and individual assurance practitioners will need to be able to make a case for the respective benefits to individual entities. As the paper points out, the profession needs to be open to change and to be seen to be so. In particular, issues such as whether assurance on management reports and reporting of non-financial information such as that under the <IR> framework are issues that already warrant further discussion. We have also noted further areas that IDW members are increasingly involved with in responding to individual questions below. We also believe this discussion needs to take place at national, multi-national and international level, and would encourage FEE to take its own initiative

2 page 2/15 to the comment letter to FEE dated 30 June 2014 forward in due course in order to reflect the views of a wide range of interested parties. Finally we note that changes in the field of audit and assurance will undoubtedly require the profession to move from a largely conservative to a far more proactive mindset. We wish FEE every success in promoting the discussion opened in this paper both within and outside of the profession. As our members are predominantly engaged in public practice, we respond to each of the questions raised in the paper from the perspective of the auditing profession as follows: Questions related to the objectives of opening this discussion 1. How can we respond to expectations in a constructive and realistic manner? It is essential that the profession s role is perceived as relevant and the public has trust and confidence in the profession. The profession needs to address both the current and the future expectations of stakeholders, and thus will need to be increasingly proactive in ensuring its audit and assurance services continue to be valued, as well as in exploring how these can develop and adapt to address changing circumstances and demands in the market. Increasingly, the profession needs to promote itself and its services more than was the case in the past. This will involve being more transparent as to what an audit involves, considering supplementary assurance services and, for those entities not subject to statutory audit, alternative assurance and related services to meet their individual needs. In addition, professional skepticism, and, as we discuss further in response to q. 3, the auditor s ability to make professional judgments, are key issues in meeting expectations. A wider discussion with all stakeholders would be highly beneficial, as it would give both a valuable insight as to the current and anticipated stakeholder needs and expectations and allow the profession the opportunity to explain the possibilities and, where applicable, limitations of responding. We acknowledge FEE s work to date in this regard, and believe that FEE has an important role to play in both promoting the profession within Europe and taking the development of the profession s role forward in a European context.

3 page 3/15 to the comment letter to FEE dated 30 June How should the profession engage with stakeholders? The profession already has a fairly high level of engagement with various stakeholders, but this engagement occurs at differing levels. Individual assurance practitioners engage with their clients officers and often with external finance providers including clients banks etc. Institutes and regional organizations within the profession, such as FEE, hold conferences, roundtables and the like, inviting a broad range of participants. Following the move into financial crisis in 2008 and the audit policy debate started by the EU Commission s green paper in 2010, the press has arguably shown far more interest in the role of the profession recently than at any time previously, and the profession has entered the debate at an unprecedented level including individual firms, networks national institutes and regional organisations. Coordinating this engagement is likely to be challenging, and will require the profession to agree to adopt a proactive stance and to be willing to speak with one voice. We would welcome FEE continuing to take a proactive role in this regard. For example, by encouraging the EU Commission to adopt ISAs without undue delay and representing the profession at meetings of the CEAOB. In the longer term, we would also welcome initiatives at an international level, and encourage FEE to join forces with IFAC, and the international standard setting boards in this regard, as and when appropriate. Among other things, we welcome the fact that the IAASB has recently established an INFO Working Group 1 to monitor emerging developments related to assurance and related services. Questions related to the section on the professional accountant s focus in day-to-day activities 3. Do standards add the intended value or do they inhibit innovation? Are standards becoming too rules-based? The application of high-quality standards (including standards on auditing and assurance, professional education and ethics) should enhance consistency in audit quality, and result in high-quality auditing provided these standards are 1 IAASB Consultation Paper The IAASB s Proposed Strategy for ; The IAASB s Proposed Work Program for

4 page 4/15 to the comment letter to FEE dated 30 June 2014 applied as intended. Thus, adherence to well-written standards in conjunction with effective oversight regimes ought to add the intended value. The application of standards should not, per se, inhibit innovation. However, the way they are applied in practice may. When standards become viewed as checklists of requirements to be merely ticked off by the audit team, e.g., with the intention of minimising auditor oversight findings, an audit team may to some extent just follow the given procedures rather than using their professional judgment to really think through their work. Whilst standards are necessary to guide auditor behavior, they cannot substitute the experience and integrity that auditors need to exercise in their day-to-day work. Indeed, auditors and audit firms do look to improve the way they perform audits with a view to enhanced efficiency and competitiveness, and this is what has led to innovation in the past, which with appropriate involvement of the profession filters into standards over time. The IDW has continually expressed a preference for principles-based as opposed to rules-based standards. In recent years, following completion of the IAASB s clarity project, we do not believe there has been a clear tendency to make standards more rules-based. A certain degree of precision in standard setting is needed given the complexities encountered in practice. However, this is an issue that standard setters need to be aware of, and guard against. As regulators increasingly assume a greater role in standard setting the temptation for standards to become rules-based and for the approach to move to form over substance is likely to increase, not least because measuring auditor behavior against rigid rules is far more straightforward than assessing the appropriateness of professional judgments made. The auditor s ability to make appropriate professional judgments remains a cornerstone of the auditing profession an ability which needs to be fostered by appropriate professional education and sufficient experience, not checklists or overly rules-based standards. 4. Do standards make our profession stand out? Why or why not? In our view, the answer is yes. The auditing (and assurance) profession is one of the few professions to have quality standards at an international level, not only to ensure the performance of audit and other assurance engagements to a high quality, but also in respect of professional behaviour, including ethics, professional education and internal quality control mechanisms. Few other

5 page 5/15 to the comment letter to FEE dated 30 June 2014 professions can be said to have achieved a parallel. IFAC and the standard setting boards operating under its auspices have been highly instrumental in this regard. The EU Commission also recognises the merits of consistency throughout the European Union, and has determined that ISAs will become applicable throughout the European Union. However, whether the public has such an appreciation of the profession is an issue that, as we debate in response to q. 1, the profession needs to address. Some aspects of relatively recent developments have had a less desirable impact on the perception of the profession. For example, as audit oversight authorities have been established in various jurisdictions and reports of their findings publicised, the public has heard far more about negative findings than about positive ones, possibly resulting in a skewed perception of audit failures. Furthermore, auditing and assurance cannot be viewed in isolation from the financial statements and other subject matters. If the underlying information reported by a company is not satisfactory to users (i.e. financial reporting standards are seen to be a factor in the problem), then assurance will be of little value. The profession therefore also needs to be more active in contributing to high-quality financial reporting, and related standards. 5. How can we further develop and demonstrate integrity and objectivity instead of only independence? In our view, integrity and objectivity are key character traits of a professional assurance practitioner, and vital attributes as far as the reputation of the entire profession is concerned. We discuss how these attributes can be developed and demonstrated in turn: Develop: No individual will be forced by rules alone however stringent to act with either integrity or objectivity in their own right. It therefore is essential that these attributes are highly developed within the profession. A thorough appreciation of what integrity and objectivity are and involve must first be learnt, and then reinforced throughout a practitioner s career. Thus professional education and quality control mechanisms within audit firms both have a key role to play. Professional firms need to consistently demonstrate integrity and objectivity in their operations (tone at the top) and thus will view integrity and objectivity as key characteristics when hiring staff in mentoring those entering the profession and enabling appropriate experience to be gained in practice.

6 page 6/15 to the comment letter to FEE dated 30 June 2014 Demonstrate: Demonstrating integrity and objectivity is less easy, as these are a part of a person s character, which become evident in that person s day-to-day activities. Demonstrating on paper, e.g., in audit documentation whether a practitioner has acted with integrity or was objective is therefore challenging. As FEE points out, it is far easier to stipulate and oversee adherence to measures to safeguard an assurance practitioner s independence than his or her integrity or objectivity. Indeed, where rules seek to force a particular behavior, the opportunity for personal development decreases, since an acceptance that following the rules will suffice can preclude proper deliberation. Furthermore, rules cannot foresee every eventuality. We agree that independence is a key issue and that effective safeguards need to be in place to ensure that it cannot be seen to be overly compromised. Thus, whilst a degree of regulatory intervention may be appropriate to clarify, e.g., where safeguards alone will not be sufficient to address a threat to independence, over-regulation does not necessarily achieve the desired aims. As FEE has pointed out, not all regulatory limitations will be in the public interest, particularly if they prove to be at the expense of audit quality. 6. At which level will you be affected by IT innovation in the coming years? If applicable, for which type of services? The IDW agrees that IT innovation is a significant area affecting all parts of the profession s work that will undoubtedly become more pervasive in the future. For example, the profession faces challenges in how to manage matters such as the extended application of IT audit software, big data and the use of shared service centers by both clients and firms while retaining the quality of the audit. From our point of view as an institute, initiatives such as training and CPD for the profession and the development of software solutions, particularly for the SMP community will be key to the profession s success as will looking at audit techniques to ensure IT can be applied to maximum effectiveness. The IDW has recently launched an initiative aimed at raising awareness of the opportunities and risks IT poses to both its members and their clients in their respective everyday operations. We believe that smaller businesses in particular may need to be made better aware of the risks they face and so will benefit from sound advice in this area.

7 page 7/15 to the comment letter to FEE dated 30 June What are your views on the education and training of professional accountants and auditors? Is it fit for purpose? How can we ensure that it will be in the future? How can we develop education to improve the quality of services? Accountants will need to be educated to have strong IT literacy, but the level of expertise of an IT specialist will not be required for all accountants and auditors. Whilst it is likely that some assurance practitioners and/or firms may choose to specialise in e.g., forensic IT, or application of sophisticated audit tools and software, all practitioners will need to have a good basis grasp of their clients IT solutions and any risks attaching thereto. The educational system will thus need to be adapted to ensure IT literacy of an appropriate level, beyond the level for general education. Thus some changes to the syllabus for professional education and continuing professional development programs will be needed to address this. 8. How can we ensure that we create a new type of auditor who can adapt and react to the current and future business challenges? The need for practitioners to have a high level of technical skill remains, given the increasing complexity of financial reporting and the increasingly global nature of the business environment. In addition, there is a growing recognition of the importance of soft skills. Communication, whether in the auditor s report or by other means, is one area of change that demands such abilities. As we note in our response to q. 7, education will also generally have to adapt to the changes brought about by ongoing developments in IT. The IDW believes that individual practitioners and/or firms will increasingly choose to specialise, and hone their skill sets accordingly. For example, in response to enhanced regulatory demands, clients are increasingly requesting their auditors support in other areas such as compliance management systems, risk management, etc.

8 page 8/15 to the comment letter to FEE dated 30 June 2014 Questions related to the section on the focus on the auditor s communication 9. Do you see merit in further exploring the suggested changes in auditor reporting outlined above? FEE states that the profession should deliberate further on some or all of three specific suggestions that are outlined in the paper. We discuss each in turn: Introduction of a grading or rating system for a client s performance in areas such as financial reporting, corporate governance, internal control and sustainability reporting: At first glance, applying a rating scale may sound innovative; it would certainly constitute a significant change from the current reporting model. However, the usefulness to users would depend entirely on how many grades might be used, whether appropriate criteria could be developed such that meaningful consistency in allotting grades could be achieved. There is also a danger that the subject being graded would be misunderstood. Investors familiar with grading by rating agencies might misunderstand an audit grading as to how well an entity conforms to the applicable financial or sustainability reporting frameworks, or corporate governance or internal control regulations. In our view, the current reporting scenarios already allow for a type of grading in four categories, i.e., unmodified opinion, qualification on a specified area, adverse opinion and disclaimer of opinion. In the event that the opinion is modified the auditor is also required to identify the matter. We anticipate that as key audit matters are introduced in auditors reports, users will find this type of information more useful than that that can be delivered by a grading system. More frequent reporting, alongside more frequent reporting by entities, e.g., even in real time: This may be an area for further consideration as the extent, content and frequency of reporting by entities changes. For example, capital market participants may benefit from assurance in relation to interim financial statements, or to the effective functioning of certain systems or processes. More frequent reporting on an entity s financial performance could lead to an increase in the perceived value of both financial reporting and audit. However, certain aspects of an audit of financial statements are

9 page 9/15 to the comment letter to FEE dated 30 June 2014 complex and demand considerable professional judgment. Real-time reporting by the auditor would involve an extremely high degree of automation, and thus it is unclear how professional judgment could be integrated to a satisfactory degree. Other methods of communication, such as oral communication to shareholder about significant audit risks and key findings: The development of the auditor s report to provide shareholders with information about certain key matters encountered in the audit is already ongoing. This needs to be applied in practice and experience gained to gauge whether it meets stakeholder needs as intended. The concept of oral reporting to shareholders must be considered carefully. In principle, shareholders may welcome the chance to question the auditor in detail, but since the company itself, not the auditor, should be the initial source of any company specific information, the opportunity to question the auditor could lead to disappointment if the auditor is unable to answer questions posed that go beyond the audit. Individual shareholders may not appreciate the dividing line. We do not see a benefit of oral reporting of information already in the written report. We believe that other methods of communication should be explored: o For example, the German experience with the long-form audit report to the supervisory board has recently been drawn upon in shaping EU audit policy legislation. o Reporting specific matters in more detail to competent authorities is also prevalent in some industries, e.g., financial institutions. 10. Are there any other areas in which the auditor s involvement could add value? Yes, in our view, assurance engagements and related services can be helpful in several other areas. In Germany there has been considerable interest in a relatively new assurance standard covering engagements regarding an entity s compliance management system (CMS) (IDW AsS 980). The purpose of such an engagement is to support the supervisory board in its oversight activities, by providing assurance on either the design of the CMS or its design and operating effectiveness. The IDW is currently in the process of developing further standards of a similar nature covering an entity s risk management system over (strategy and) operations, internal control over (financial) reporting, internal audit systems

10 page 10/15 to the comment letter to FEE dated 30 June 2014 (monitoring) and proper governance-reporting of the management board to the supervisory board. We are also aware that there are calls from some for the auditor to give his or her insight as to the operating effectiveness of the entity s management, similar to the case in certain public sector entities (under German law [Article] 53 HGrG [Haushaltsgrundsätzegesetz: Law governing budgetary principles for governance at German federal and state level]). This is an area the IDW believes could be explored further, but the profession would need to take care that assurance given on particular processes and their operating effectiveness is not misunderstood as representing an opinion on management decisions or business advice. The internal organs such as a supervisory board not the auditor are responsible for vetting operating decisions. In our opinion, a further area worthy of consideration is whether an auditor could go further and look at the approach to future risks and the entity s systems designed to manage them etc., and thus exercise the warning function that some appear to have expected of the auditor. 11. Do investors want different assurance to banks, to shareholders, to management? Legislators generally require a statutory audit for a certain size or type of entity, and thus seek to protect the public interest in financial statements for such entities. Recent trends increasing audit thresholds reflect a desire not to burden other entities with an audit when this is not necessarily in the wider public interest, leaving it instead to market forces to determine the assurance needs in individual cases. When statutory audit thresholds are raised, many market participants, having been used to receiving an auditor s report, are ill-prepared to express their assurance needs, and may be unaware of the alternatives to audit that may best meet their needs. The respective use to which investors, banks, shareholders, management and other stakeholders put financial statements on the one hand and other (unaudited/unassured) information about an entity on the other differs, and thus the underlying assurance wants of these groups may well be diverse. Indeed, their individual appetites as to both the level of assurance and subject matter/scope of assurance engagements will differ; and these may further differ depending on the nature of the particular entity and is operations.

11 page 11/15 to the comment letter to FEE dated 30 June 2014 To the extent that such wants are not fully dealt with by the audit of financial statements auditors and assurance practitioners can be engaged to perform additional work. For example, it is not uncommon for those charged with governance to request additional work from the auditor to support them in their own supervisory role. External stakeholders may likewise put pressure on the entity to have specific additional work done. Examples include forensic auditing e.g., to look into possible suspected corruption, specific agreed upon procedures engagements to look at specific areas. In addition, when, in the absence of a statutory requirement, no audit is performed, other alternative assurance or related services engagements may be appropriate. 12. Should the recipients of the audit report be more clearly defined? In many jurisdictions audit reports are readily available to the public and so the issue seems to us not to be about recipients but one about whom the auditor is liable. This is generally established in law, and not solely by naming addressees. Questions related to the focus on alternatives to better meet stakeholders needs 13. According to your view, what range of services could be developed? Many different types of services are already covered by international standards, including reasonable assurance, limited assurance and other related services such as compilation engagements and agreed-upon procedures. Rather than developing one or more additional range(s) of services, we believe there is a need for the profession to promote its work and better inform interested stakeholders as to the various possibilities that already exist. For example it may be appropriate to combine the services offered, e.g., a review engagement may be supplemented by specific agreed-upon procedures in a particular area, or financial statement item. 14. How can FEE be instrumental in further developments in this area? In our view, FEE could be more instrumental in promoting the profession including what makes our profession stand out from the competition its role,

12 page 12/15 to the comment letter to FEE dated 30 June 2014 and the services it is able to offer in the European context. FEE already has contacts with business associations and so is well placed to act in this area. In this context, we would support FEE holding roundtables and seminars to discuss the topics raised in its paper and by respondents thereto. 15. Is there a need to consider alternatives to statutory audit for SMEs? Yes. SMEs are not homogenous, and can have very diverse needs in terms of assurance and related services. Cultural differences also likely play a more prominent role in the smaller entity market, such that the range of international standards we mentioned in response to q. 13 above may not hold the answer in all cases, but may need some adaptation. In Germany the compilation standard (IDW S7) has become well-accepted by banks when looking at SME financial statements. See our response to q. 16 below for further details of this service. 16. How could the range of service offerings be adapted in order to meet current and future needs in the SME environment? As noted above, there are likely to be cultural differences impacting the SME environment, thus some adaption of international standards may be needed in the services offered to SMEs. For example, Germany has a long history of practitioners performing other assurance engagements for smaller entities. IDW Standard 7 (IDW S7) reflects the three types of compilation engagement that have been common in Germany for quite a while. The first type being a pure compilation engagement, the second a compilation where the practitioner obtains limited assurance on the underlying documents and records, and the third a compilation where the practitioner obtains reasonable assurance on the underlying documents and records. Such engagements are often chosen by entities that are not subject to audit, but desire involvement of a professional practitioner with or without some comfort on their financial statements, particularly when seeking bank funding, etc. As we explain above, we believe there is an increasing need for awareness of the profession and its work, so that SMEs can be better placed to make the

13 page 13/15 to the comment letter to FEE dated 30 June 2014 decisions as to their individual needs in terms of assurance and related services. 17. Is the profession too focused on financial information? The need for reliable financial information has evolved over time, and has much to do with accountability of management for funding provided by others, whether external shareholders, creditors or employees. In jurisdictions such as Germany this narrow focus is already being expanded. On the one hand the auditor is required to opine on the management report in the auditor s report on the financial statements of certain entities. As mentioned in our response to q.10, auditors are also becoming more involved in areas such as risk recognition and further aspects of corporate governance, either reporting externally or internally to assist those charged with an entity s internal governance. These areas represent a move away from historical financial information to broader information about the entity and its operating environment. We believe that the focus on financial information in its broader sense will remain, but that as governance becomes more complex and user needs develop so will the scope of assurance engagements need to change. Developments including <IR> also demand the involvement of the profession. 18. Is there a market demand for assurance on narrative reporting in annual reports? Why (not)? Yes. In Germany the auditor of the financial statements has long been required to obtain assurance in respect of the management report and report specifically thereon in the auditor s report. In our view, this is an area we believe the profession should be open to and explore further. To the extent that information in the management report influences the economic decisions of users they have a vested interest in assurance as to the reliability of that information, and thus we believe the demand for assurance on such information will increase.

14 page 14/15 to the comment letter to FEE dated 30 June Will the market demand assurance on CSG, ESG and <IR> as this type of reporting becomes more widespread? Why (not)? Once users of CSG, ESG and <IR> information have become more familiar with this type of information and perceive that it has a beneficial use for them demand for assurance will increase. Without assurance of any type, users will be wary of relying on such information. Whether a particular user needs such information for economic or social reasons is of less relevance, since there is always the propensity for reporting entities to gloss up their reporting to their own advantage to a greater or lesser degree. However, when financial or economic decisions become increasingly based on such information the demand for assurance will grow. 20. How can the profession help public sector entities achieve high-quality financial reporting? At an international level, the profession has already made a significant contribution in this regard in its work within the IPSASB in developing accounting standards for the public sector. The nature of the public sector means that there is often a conflict between decisions on financial reporting and those required to report. Thus our profession is generally not in a position to do more than promote IPSASs at a national level. However, to the extent possible, we encourage FEE to be proactive in the ongoing debate surrounding the development of EPSASs. Question related to the conclusion 21. What additional points should be considered in this debate? We agree with the conclusions FEE has reached in summing up, and believe that if the profession is to retain its status as the primary provider of quality assurance active promotion is urgently needed in the face of change. This will undoubtedly require the profession to move from a largely conservative to a far more proactive mindset.

15 page 15/15 to the comment letter to FEE dated 30 June 2014 We trust our comments will be useful in taking the discussion forward, and look forward to working with FEE in this regard. Yours sincerely Klaus-Peter Naumann CEO Gillian Waldbauer Technical Manager 541/584