The Current State and Future of the Audit Profession

Volume 9, Issue 1 2015 Pages P10 P16 PRACTITIONER SUMMARY American Accounting Association DOI: 10.2308/ciia-50988 The Current State and Future of the Audit Profession Danielle R. Lombardi, Rebecca Bloch, and Miklos A. Vasarhelyi SUMMARY: Audited financial statements are intended to be timely and useful in decision making. To remain a valuable and relevant service, auditing must find a way to evolve. This paper summarizes a recent study ( The Future of Audit, Lombardi, Bloch, and Vasarhelyi [2014]), which conducts an interactive forecasting method to gain expert consensus on the current state of the auditing profession and on how the profession will evolve over the next decade. Expert consensus emerging from the study includes increasing automation of audit procedures, more predictive financial statements, continuous auditing, and maintaining a global outlook on audit transactions. Keywords: audit; brainstorming; forecasting; information systems; expert panel. Data Availability: Please contact the corresponding author for data. INTRODUCTION The auditing profession is at a crossroads. Technology is advancing rapidly, and the real-time economy is changing the way information is received and analyzed. However, audits continue to be conducted at periodic intervals and express opinions on historical data. Audited financial statements are intended to meet the information needs of investors and creditors, and are to be timely and useful in decision making. To remain a valuable and relevant service to the investors, creditors, and others who use audited financial statements, auditing must find a way to evolve. This paper summarizes a recent study ( The Future of Audit, Lombardi, Bloch, and Vasarhelyi [2014]), which conducts an interactive forecasting study to gain expert consensus on the current state of the auditing profession and on how the profession will evolve over the next decade. Danielle R. Lombardi is an Assistant Professor at Villanova University, Rebecca Bloch is an Assistant Professor at Fairfield University, and Miklos A. Vasarhelyi is a Professor at Rutgers, The State University of New Jersey, Newark. We thank the expert panels of participants for allowing us to utilize them and their resources and expertise in audit. We also thank the editors of the journal and the anonymous reviewers for their helpful feedback and comments, as well as giving us the opportunity to share our research through this journal. Submitted: September 2014 Accepted: November 2014 Published Online: November 2014

P11 The Financial Accounting Standards Board s Conceptual Framework states that to meet the needs of financial statement users, financial statements must be useful for decision making, in that they are relevant and reliable; in order for financial statements to be relevant, they must be timely. Before the Internet was widely available and utilized, periodic financial statements were the primary source of information about a company s financial condition, so periodic audited financial statements were considered to be timely. Now, with the Internet and with the widespread use of technology, corporations have the ability to provide information to the public in real time. Although companies do not disclose in real time, economic effects are very rapid in the real-time economy (Vasarhelyi and Greenstein 2003; Vasarhelyi and Alles 2005). New technologies, along with the evolution of large, interconnected datasets, allow for more rapid analyses of large amounts of data, providing the potential for forward-looking predictions about those data, which can identify and prevent potential problems (Vasarhelyi, Alles, and Williams 2010). This technology allows for potentially on-demand analysis and auditing of information that changes frequently or has the potential to be materially wrong. Closer monitoring of this type of information may ultimately lead to costs savings for companies and investors by predicting and preventing potential issues. The accounting literature has documented that the use of Internet searches prior to earnings announcements partially preempts the information content of the announcement (e.g., Drake, N. Myers, L. Myers, and Stuart 2014), potentially indicating a declining importance of the audited financial statements as a primary source of information to investors and creditors, who have access to other sources of information. Other literature has shown that some information in financial reports, including earnings, have declined in importance over time (Francis and Schipper 1999; Dontoh, Radhakrishnan, and Ronen 2004). Concerns include that audited financial statements leave out important information such as knowledge (of particular import in valuing hightechnology firms or service providers), or fair value, or provide information in a format that has declined in value, and that investors have access to competing information that is timelier than the audited financial statements. To explore the current state of the auditing profession, and evaluate where the profession is heading over the next decade, the study enlisted a panel of experts with extensive backgrounds in the fields of accounting and auditing. The expert participants included academics, consultants, CPA firm partners and directors, and executives and presidents of national professional accounting organizations. Participants first participated in a brainstorming session to gain consensus on the current state of the auditing profession, and then participated in an interactive forecasting exercise to gain consensus on the future of the auditing profession. The interactive forecasting exercise (described below in more detail) consisted of two rounds with a discussion in between, and the experts responded to the same questionnaire before and after discussion. The questionnaire was developed with input from a team of researchers with varied backgrounds in accounting and auditing. Overall results indicated expert consensus about the current state of the auditing profession and the forecast of the profession a decade out. Experts agreed that although the auditing profession is beginning to evolve to incorporate new advances in technology and become more sensitive to changes in the global economy, it will further incorporate technology over the next decade to allow auditors to produce continuously audited financial statements, have more guidance in making important judgments, and shift their focus to evaluate risks rather than focusing on transactional data. The published study has important implications for the auditing profession as a whole. Whereas a large body of prior literature has studied the declining importance of financial statement

P12 information (see, for example, Ramesh and Thiagarajan 1995; Chiang and Venkatesh 1988; Lev and Zarowin 1999; Francis and Schipper 1999; Brown, Lo, and Lys 1999; Dontoh et al. 2004) there is little research that either provides empirical evidence about the current state of the auditing process, or expert consensus about specific ways that the profession will have to evolve to remain relevant. This research is needed to adequately address the declining importance of financial statements and make important changes. It will be useful to regulators, researchers, and practitioners who can use the results to guide them in making necessary modifications to auditing standards, auditing practices, and research related to these modifications. It also is an important contribution to the debate about maintaining the usefulness of traditional audited accounting information as we proceed further into this digital era. The remainder of this article is organized as follows: the research method used in the study, then the results, and finally the conclusion. RESEARCH METHOD The study employs two separate research sessions (performed six months apart) and compiles predictions from each session. At each session both a brainstorming and interactive forecasting method were employed. The brainstorming exercise involved experts responding to open-ended questions regarding the current state of the auditing profession. In the first session, participants were in small breakout groups and each group responded collectively to a set of openended questions about hot topics in the auditing profession. Topics included nonaudit opportunities, e-audit, audit automation, and the audit process. In the second session, participants individually responded to open-ended questions covering technologies, audit fees, the relationship between internal and external audit, audit education (higher education), litigation, and services provided by CPA firms. The interactive forecasting methodology (Delphi Method) was first used by the RAND Corporation and involves providing experts in a field with at least two rounds of a questionnaire, with structured feedback in between, in order to ultimately obtain their consensus (Bell 1967). The interactive forecasting method has been shown to provide value to research and to accurately forecast future occurrences and predict the direction of specific industries (Bell 1967; Holstrum, Mock, and West 1986; Baldwin-Morgan 1993; Rowe and Wright 1999; Cegielski 2008; Worrell, Di Gangi, and Bush 2013). The topics covered in the discussion were automation, roles of internal and external audit, sampling and analytical procedures, audit judgment, XBRL, auditor compensation, continuous assurance and audit, and frequency of financial reporting. All questions and topics were developed by a team of researchers. Responses from the brainstorming exercises were in line with the questions asked during the interactive forecasting method; further validating that the questions targeted significant areas impacting the future of audit. Both research sessions were recorded and participant discussions were transcribed for analysis. Each session had eight expert participants with extensive experience and knowledge in auditing (Figure 1). The participants were a combination of academics, consultants, CPA firm partners and directors, and executives and presidents of national professional accounting organizations. Each expert participant had over ten years of experience in the field of auditing. RESULTS During the brainstorming session, participants indicated that the profession as a whole has moved to a paperless environment, highlighting three major areas that have progressed from the

P13 FIGURE 1 The Experts Used in This Study This figure was obtained from Lombardi et al. (2014). traditional historical audit function: the audit model, technology and automation, and education. The audit model has become increasingly risk based and continuous, a progression from the traditional, periodic historical audit. Auditors tools used during fieldwork have also progressed. For example, paper and pencil checklists have been replaced by automated decision aids and interactive checklists, which are completed electronically. Other examples include software that customizes audit plans based on the characteristics of the individual client, analytical software programs, and the use of XBRL (extensible Business Reporting Language) as an enhancement to auditor fieldwork. Higher education is believed to have progressed to include more current issues in auditing. There has been an increased emphasis on fraud concerns, the development of risk analyses, and the differences between IFRS and U.S. GAAP, as well as between the International Auditing and Assurance Standards and U.S. Statements on Auditing Standards. There has also been an increasing emphasis on technology and applying analytical procedures. There was also consensus that the increasing use of technology will require additional training for veteran staff that may be less up to date with current technology than newer staff. As for the future of the audit profession, expert participants came to an overall consensus of forecasts related to the following topical areas: automation of judgment and audit procedures, reliance on the internal audit function, frequency of external audit opinions and audited financial statement presentation, and the utilization of XBRL/GL (XBRL Global Ledger Taxonomy Framework). Topical areas where consensus was reached are discussed below in more detail and areas of dissent are also highlighted. For a summary of predictions from the experts refer to Figure 2. Participants predicted that although automation will continue to increase and become more enhanced, auditor judgment and decision making cannot be completely automated. More refined decision aids will be used to assist auditors in developing overall judgments; however, these

P14 FIGURE 2 Highlights and Recommendations Provided by Experts This figure was obtained from Lombardi et al. (2014). judgments will not be completely superseded with technology, as judgment becomes even more important when using automation. Automation will be used for more repetitive, transactional tasks, allowing auditors more time to apply their expert judgments to riskier, more pressing areas. To keep up with changing technology, frequent auditor training will be needed, bringing costs and the need for staff availability for training. Automation in the future will also vary with company type and size. The increased use and continual advancement of technology will bring about new safeguards to retain companies, as well as individuals, privacy (e.g., Health Insurance Portability and Accountability Act). These safeguards and policies will evolve to stay relevant to the technologies and data. Experts agree that external auditors will rely more on the work of internal auditors. Internal auditors perform similar procedures and assessments as external auditors on a more continual basis and they are commonly viewed as qualified, objective, and somewhat independent from the corporate accounting side of the business. Reliance by external auditors on the procedures performed by internal auditors will allow them to dedicate more time to the riskier issues/areas of a company. This shift could lead to a reduction in audit time and, consequently, audit costs. There was some initial dissent in this area among participants who felt that most companies do not have the resources to invest in training internal audit personnel and expanding internal audit departments to enable them to take over some of the responsibilities of external auditors. However, after extensive discussion, participants reached an overall consensus. Finally, some of the experts forecasted that audits will be performed more frequently, and even continuously through the use of advanced technology. Other experts forecasted that there would be little change in the current format of the external audit, because it would not be possible to perform audits more frequently. For those who forecasted more frequent audits, the consensus was that instead of quarterly reviews and an annual audit, audits will be cycled throughout the year and not just at year-end. As a result, financial statements will be produced throughout the year, rather than just quarterly and annually, with companies having the ability to develop a set of

P15 financial statements at any time with technologies and software such as XBRL, XBRL/GL, and Enterprise Resource Planning (ERP) systems. Using this technology, the format of the financial statements will also evolve to become more forward-looking and transparent, as opposed to traditional historical statements. Those who forecasted little change in the format of the external audit indicated that although information will be released more frequently, there will not be an increase in demand for more frequent opinions. Additionally, although XBRL is mandated for public companies and foreign private issuers, and most companies may be capable of taking advantage of technology such as XBRL/GL, little change in the use of these technologies will occur over the next decade. Dissenters indicated that a common data model 1 needs to be created across all ERP systems to use these new technologies, and companies and educational institutions must improve learning and training in this area. CONCLUSION Our study set out to provide a formal methodology for understanding the current state of the auditing profession and forecasting the profession a decade in the future. This is an important contribution to developing understanding of how the auditing profession and audited financial statements can continue to compete and remain a valuable source of information in a digital world where information is readily available from many sources. The experts agreed that the profession has been changing to incorporate new technology, such as XBRL and automated decision aids, to conduct more effective and efficient fieldwork. In addition, auditors are using technology to better analyze risks and detect fraud. Audit higher education is also beginning to focus more on technology, including the use of technology in auditing and auditing through sophisticated accounting and ERP systems. The experts also agreed that the profession will significantly evolve over the next decade to remain relevant and competitive. Technology will allow audits to be performed more frequently, even allowing audited financial statements to be continuously produced. Increased reliance on internal auditor work will enable some of this evolution. As a result, technological safeguards will be put in place to ensure corporate safety and privacy. Although audit judgment will always be an important component of an effective audit, electronic decision aids will allow auditors to make more consistent and effective judgments. To continue a viable and relevant field, the auditing profession, as any profession, cannot resist advances that may further the efficiency or effectiveness of the process, or it will find itself no longer viable. Audited financial statements are widely accepted as a gold standard of reliable financial information. However, the importance of annual financial statements is decreasing. A decade ago, if a person were told that bookstores would no longer be a viable model, then it would too have been an unlikely scenario. However, with the increasing use of tablets and smart devices, there is less and less in actual print, and major retail chains, such as Borders, have gone out of business, in part because they were not able to predict or make necessary modifications to keep up with the changing market. The auditing profession does not want to find itself in the same predicament. This study provides guidance through a panel of experts on where the field is now and where it will be in a decade. Now it is time to get ready for the future. Preparing for the future includes keeping up with technology and providing training on a more frequent basis with how to best use this technology. Automation through the use of advanced 1 The AICPA s audit data standard (available at: http://www.aicpa.org/interestareas/frc/assuranceadvisoryservices/ DownloadableDocuments/FINAL%20Audit%20Data%20Standards%20ED.pdf) may be a step in this direction.

P16 technology provides auditors a means to complete mundane tasks in an efficient and timely manner, while allowing more time to be spent in complex, judgmental areas. Together, researchers could develop a meta-information exchange to increase comparability among companies, industries, and transactions. Also, with internal audit taking on more responsibilities, the AICPA should provide current guidance regarding external audit placing reliance on the work of internal audit and how to sufficiently examine the work. Finally, there has been a lag between the profession and education that should be shortened in order to properly educate and prepare students for the audit profession. Researchers could examine current audit and accounting programs and offer suggestions of how to integrate the new and changing environment and practices into the classroom. Traditionally taught classes might not continue to be a plausible option in order to stay current with the profession in the classroom. REFERENCES Baldwin-Morgan, A. 1993. The impact of expert system audit tools on auditing firms in the year 2001: A Delphi investigation. Journal of Information Systems 7 (1): 16 34. Bell, W. 1967. Technological forecasting What it is and what it does. Management Review 56 (8): 64. Brown. S., K. Lo, and T. Lys. 1999. Use of R 2 in accounting research: Measuring changes in value relevance over the last four decades. Journal of Accounting & Economics 28 (1): 83 115. Cegielski, C. G. 2008. Toward the development of an interdisciplinary information assurance curriculum: Knowledge domains and skill sets required of information assurance professionals. Decision Sciences Journal of Innovative Education 6 (1): 29 49. Chiang, R., and P. Venkatesh. 1988. Insider holdings and perceptions of information asymmetry: A note. The Journal of Finance 43 (4): 1041 1048. Dontoh, A., S. Radhakrishnan, and J. Ronen. 2004. The declining value relevance of accounting information and noninformation-based trading: An empirical analysis. Contemporary Accounting Research 21 (4): 795 812. Drake, M. S., J. N. Myers, L. A. Myers, and M. D. Stuart. 2014. Short sellers and the informativeness of stock prices with respect to future earnings. Review of Accounting Studies (forthcoming). Francis, J., and K. Schipper. 1999. Have financial statements lost their relevance? Journal of Accounting Research 37 (2): 319 352. Holstrum, G. L., T. J. Mock, and R. N. West. 1986. The Impact of Technological Events and Trends on Audit Evidence in the Year 2000: Phase I. Auditing Symposium VIII. Proceedings of the 1986 Touche Ross-University of Kansas Symposium on Auditing Problems, Lawrence, KS, 125 146. Lev, B., and P. Zarowin. 1999. The boundaries of financial reporting and how to extend them. Journal of Accounting Research 31 (2): 353 386. Lombardi, D., R. Bloch, and M. Vasarhelyi. 2014. The future of audit. Journal of Information Systems and Technology Management 11 (1): 21 32. Ramesh, K., and R. Thiagarajan. 1995. Inter-Temporal Decline in Earnings Response Coefficients. Working paper, Northwestern University. Rowe, G., and G. Wright. 1999. The Delphi technique as a forecasting tool: Issues and analysis. International Journal of Forecasting 15 (4): 353 375. Vasarhelyi, M. A., and M. G. Alles. 2005. Continuous Monitoring and Assurance in a Real Time Economy. The Impact of European Integration on the National Economy. Proceedings of the International Conference of Business Information Systems, Babes-Bolyai University of Cluj-Napoca, Romania, October 28 29. Vasarhelyi, M. A., and M. Greenstein. 2003. Underlying principles of the electronization of business: A research agenda. International Journal of Accounting Information Systems 4: 1 25. Vasarhelyi, M. A., M. G. Alles, and K. T. Williams. 2010. Continuous Assurance for the Now Economy. A Thought Leadership Paper for the Institute of Chartered Accountants in Australia. Available at: http://raw.rutgers.edu/ docs/previousprojects/continuous_assurance_for_the_now_economy_-_2nd_draft%20mav.pdf Worrell, J. L., P. M. Di Gangi, and A. A. Bush. 2013. Exploring the use of the Delphi method in accounting information systems research. International Journal of Accounting Information Systems 14 (3): 193 208.