Monday, October 31, 2011

UK Audit Regulator Comments on PCAOB Concept Release on the Audit Report

Commenting on the PCAOB’s Concept Release on the audit report, the Financial Reporting Council, the Board’s counterpart in the UK, said that the audit report cannot be treated in isolation and that attempts to improve the usefulness of the auditor reporting model must begin with improvements to corporate reporting more generally. In addition, the primary responsibility for providing information to investors should rest with the company’s management, said the FRC. The auditor should review that information and supplement or correct it as necessary; but should not be obliged to duplicate management disclosures. The FRC also envisions a key role for the audit committee.

It is the FRC’s view that the primary responsibility for communicating key information on historical performance and future opportunities and risks lies with the company’s directors and executive management. Substantive involvement by the auditor in direct reporting in this area runs the risk that the auditor takes on a management role. For these reasons, the FRC does not believe that the auditor should be responsible for the provision of information on a company’s business strategy or key risks. However, there is scope for the auditor to add greater value in this area.

The FRC proposed that auditors provide a fuller report to audit committees aimed at ensuring that the committee understands fully the factors that the auditors relied upon in exercising their professional judgment in the course of the audit and, in particular, in reaching their audit opinion. These factors are likely to include the effectiveness of the system of control, the materiality judgments made in the audit plan and the implications of those judgments for the level of assurance provided by the audit, and the appropriateness of the accounting policies.

In the FRC’s view, the audit report itself should be expanded to provide a new section on the completeness and reasonableness of the audit committee’s report and the identification of any matters in the annual report that the auditors believe are incorrect or inconsistent with the information contained in the financial statements or obtained in the course of their audit.

Noting that audit committees are well placed to deliver effective governance and oversight of the audit process, the FRC proposed that the audit committee report to the full board, with the report to be included in the annual report, on the approach that it took to the discharge of its duties, describing the key risks, including the choice of accounting policies, that it identified to the integrity of the annual report, including the financial statements, and how it arranged for those to be addressed. The report should also include matters of material significance identified by the audit committee that are not addressed elsewhere in the annual report, and which should be known to users if the annual report, taken as a whole, is to be fair and balanced.

The report should also detail the steps the audit committee took and the judgments it made to assess the effectiveness of the audit. It should explain the policies that the audit committee adopted to avoid the independence of the company's auditors being compromised through the provision of non-audit services and the process by which the committee reached its recommendation to appoint or reappoint the company's external auditors and the reasons for that recommendation. Finally, the report should set out any dialogue that the audit committee may have had with investors in relation to any material audit issues not addressed elsewhere in the report.