There has been a great deal of talk nationally and internationally about the state of auditing standards for small company audits. Despite the differences in opinion, there’s general agreement that they are longer and more complex, and many believe that they are now particularly difficult to apply to smaller audits.
By the International Auditing and Assurance Standards Board’s (IAASB) own admission, its ISAs have become longer, less principles based, more prescriptive and more procedural over the years. Auditing standards that spanned about 50 pages just a few decades ago in the UK now fit into a 1,000-pagelong handbook – appropriate perhaps for the audit of a global giant, but excessive for a local corner shop.
Unilateral action by several countries to drive a standalone standard for small company audits has pushed the IAASB to produce a discussion paper on the audits of ‘less complex entities’. The paper asks for feedback to help the IAASB under - stand the challenges faced by the auditors of these companies and the possible routes that can be taken to address them. If the IAASB does not act now in addressing small company audits it risks losing its locus as the global standard setter for all audits, says Katharine Bagshaw, manager, auditing standards at ICAEW. “If individual jurisdictions go their own way, we will lose the benefits of a global standard, which goes against everything the IAASB has worked towards for so many years. This consultation is timely in light of the work done by national standard setters outside of the UK.”
Going it alone
The first steps towards creating a new standard for small company audits were taken by the Nordic Federation of Public Accountants in 2015, in response to demand from auditors in its region. The Norwegian Association of Auditors had discussed the problem with the IAASB for many years, says managing director Per Hanstad. “At some point they challenged us and said, could you sit down and prepare a standard and show what you think this should look like? This was when we decided to develop the draft standard for audits of smaller entities (SASE).” The 30-page exposure draft focused on the fundamental principles of audit, which, as Hanstad points out, have been in place for more than 100 years.
“There are several ways of approaching an audit: ISAs are one way and the standard we developed is another. But the basic ideas behind each approach are the same,” he says. Most of the feedback on the SASE consultation, including that from international accounting and auditing institutes, was positive. The main point of contention was from large accounting firms: they were concerned that any standard resulting from the consultation would not be global. “We decided that since it would be difficult to get full accept - ance from all stakeholders for a Nordic standard, we would put our efforts into getting the IAASB to take this up on their agenda,” says Hanstad.
Meanwhile, patience was running out in other countries. In France, a recent change in the law, which led to about one-third of companies falling below the statutory audit threshold, has shaken up the audit market for small entities. The fallout led to professional institutes and the audit regulator working together to produce an eight-page standard for SME audits, which came into force in June 2019. The ethos behind the French standard is similar to that of the SASE.
It is more principles-based and puts more emphasis on the auditors’ professional judgement. It is a philosophical issue, says Cédric Gélard, director of International affairs at the Compagnie Nationale des Commissaires aux Comptes. “The ISAs are getting very complicated and rules-based. The regulators want to enforce the standards in full and this means the auditors are getting into a compliance mindset that they should not be in: they should be in a professional mindset instead.” Gélard’s stance is all the more interesting since he is a former IAASB member and for a long time was a proponent of having one set of auditing standards for every company. What made him change his mind?
“When I see the direction of travel of the IAASB and the audit world overall, I think it will be very difficult to change the trend towards more rules-based, long and detailed standards, especially as the regulators are getting very involved in the standard setting,” he says. “At some point there will be a partition between the standard for smaller and less complex entities and those for more complex and public interest entities.”
Belgium and Sri Lanka also introduced their own small-company audit standards earlier this year, and Germany has issued an exposure draft. There is slightly less pressure for a separate standard in the UK, as the relatively high audit threshold means most companies do not require an audit by law. However, a number of companies that are below the threshold still need an audit for financing reasons or for other regulatory reasons because they are part of a larger group.
Having ISAs and a separate standard for smaller or less complex companies would mean firms doing both kinds of audit would need to run two parallel methodologies, something that may be difficult for smaller firms. The concern is that this could create a two-tier audit market, limiting mobility and discouraging ambitious firms from the public interest entity (PIE) audit market. This argument cuts little ice with Peter Hollis, principal of Hollis and Co and ICAEW Council member. “We’ve got a two-tier audit market already,” he states. “With a separate standard for smaller companies, there will always be a good number of firms that have to operate to both sets of standards. If we had a new standard for SME audits it would have to be consistent with the ISAs, applying the same principles. There would simply be more requirements for PIE audits.”
Writing a new standard for small or less complex companies is one of three options set out in the IAASB discussion paper. Another is to revise the full suite of ISAs. In theory these could in be written from a bottom-up approach, starting with what is needed for small company audits and adding requirements as companies grow, as opposed to the current top-down approach, which takes large and public interest company audits as the starting point. “A lot of people have tried to rewrite the standards, to scale them down,” says Hanstad.
“But as the ISAs are fundamentally developed to deal with the audit of large and complex entities it’s very difficult to do that. And it would take a long time. Since there’s urgency for something global, we don’t think this is the best route.” Klaus-Peter Naumann, CEO of IDW (the Institute of Public Auditors in Germany), agrees that the situation is urgent. “We would prefer a solution whereby the ISAs are suitable for all audits. However, there are various factors at play which could impact the feasibility of this (such as the outcome of the monitoring group review), so it is unclear at this point whether or when the IAASB would be able to deliver. Failing this, we would not support a national-only solution, but would be open to the development of a global or regional solution if necessary.” A third option is for more guidance around the existing ISAs, something Bagshaw says ICAEW has encouraged IAASB to issue in the past.
“The problem is that non-mandatory guidance is often treated by many regulators as if it were mandatory, meaning that the whole body of material which practitioners need to look at increases rather than decreases,” she says. Howard Gross, chief executive of Gross Klein and ICAEW Council member, is in favour of greater simplification. “If auditing standards are simple and clear then there should be little need for guidance,” he says. “The standards should be written so they can be understood by the client, the auditor and all users of the accounts.” The IAASB paper suggests the possibility of following more than one route at a time, something that Bagshaw thinks might be workable.
“We are all in uncharted waters,” she says. “Everyone involved needs to pursue and debate and experiment with the options.” Whatever is decided, one thing is clear: the status quo is not an option. Without standards that are better fit for purpose, the audit will be so expensive for small companies that they will not be able, or want, to pay for them, argues Hanstad.
The consultation is open until12 September 2019.