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Concerns with the quality of auditing,
and other related matters
Another key theme of the December 2012 public hearing concerned the role
of auditors. In his opening statement to the committee, ASIC's Chairman, Mr
Greg Medcraft, raised concerns with the quality of auditors' performance in
In part, the Chairman's comments were made in the context of auditors' role in
the recent collapse of the Victorian debenture issuer Banksia Securities
Limited. However, Mr Medcraft also identified broader concerns with the
auditing industry based on ASIC's audit inspection report for the period 1
January 2011 to 30 June 2012. The report found that there has not been an
improvement in audit quality since the last report, for the 18 months to 31
December 2010. Indeed, there had been an increase in instances where auditors
did not perform all of the procedures necessary to obtain reasonable assurance
that the audited financial report was not materially misstated.
ASIC's concerns with auditing quality and 'professional scepticism'
At the public hearing on 3 December 2012, Mr Medcraft foreshadowed the
findings of ASIC's audit inspection report, due for release the following day.
He told the committee that while ASIC's previous inspection report found that 15
per cent of the survey sample was inadequate, that figure had increased in the
2011–12 report. The Chairman provided the following interpretation of this
...last year I indicated that a level of 15 per cent was
already far too high in terms of having problems where it really was inadequate
evidence to support an audit opinion. I think clearly we expect as a country
that that number should be substantially less than 10 per cent and, in terms of
audit quality, significantly less. These results, I find, being a former
auditor and chartered accountant, very disappointing and frustrating. I
consider what we are seeing now as second strike for the audit sector and it is
clearly one I think the profession should consider itself on notice: it needs
to lift its game.
The report presented the following data and observations:
We found that, in 18% of the 602 key audit areas that we
reviewed across 117 audit files over firms of all sizes, auditors did not
obtain sufficient appropriate audit evidence, exercise sufficient scepticism,
or otherwise comply with auditing standards in a significant audit area. While
the financial reports audited may not have been materially misstated, in these
instances, the auditor had not obtained reasonable assurance that the financial
report as a whole was free of material misstatement...
Some audit firms inspected need to improve their quality
Further, we believe there are a number of actions that audit
firms should consider to improve and maintain audit quality...
In the report, ASIC identified three broad areas requiring improvement
by audit firms. These relate to:
- the sufficiency and appropriateness of audit evidence obtained by
- the level of professional scepticism exercised by auditors; and
- the extent of reliance that can be placed on the work of other
auditors and experts.
Concerned with these findings, the committee asked Mr Medcraft to explain
what he believed was reason why many in the auditing profession were failing to
deliver on the quality of work expected. He responded:
We have talked to the firms about it and, clearly, it is a
lack of scepticism. I think the institute would acknowledge that scepticism is
a big issue in the audit firms and being critical. You are there as an auditor
and you are meant to be sceptical about seeing what is presented to you.
It is a global problem. I think it probably comes down to a
cultural problem in the profession. I can tell you that at IOSCO, at the global
level, it is also troubling. I do think it has to go to, clearly, the training
and the types of people that are coming into the profession. It is the belief
that that is part of the issue. From my point of view, if we have a further
deterioration next year, it builds a case for change. One in five is a very
significant level. This is not a statistical outlier. This is one in five. This
is about audit quality. I think the profession has to throw everything it can
at it in the next 12 months to get that number to start trending down,
otherwise we really are going to need to think about what else can be done.
There has been talk about rotation of audit firms, that
bringing in a fresh set of eyes may be a solution. It is back to the profession
itself to lift its game, frankly. It is a serious problem, and they recognise
ASIC Commissioner Mr John Price also noted that the decline in auditing
quality is evident in various international jurisdictions as well as in
Australia. He suggested that in terms of arresting this decline, broader use of
the larger firms' training programs would probably be useful. Mr Price also
drew the committee's attention to the current economic cycle where 'companies are
under cost pressures, and that is being passed on to auditors'. However, he
I think companies need to realise and accept that they do
need to pay a bit more for a quality audit and that a quality audit is
important for market integrity issues more broadly.
The Banksia collapse
In May 2012, ASIC raised concerns in relation to certain disclosures
made in the financial statements and prospectus of the rural Victorian finance
company Banksia Securities Limited. As a result, in June 2012, Banksia released
a supplementary prospectus.
However, in October 2012, Banksia was placed into receivership. The
active accounts of thousands of retail investors in debentures were frozen. The
same month, ASIC established an internal taskforce to examine the failure of
Banksia and the regulation of the wider Australian and listed debenture sector.
The taskforce, headed by Mr Price, has made some early recommendations to
The committee understands that Banksia's receiver, McGrathNicol, is (at
the time of writing) investigating potential breaches of the law by the auditors.
Mr Anthony McGrath was reported as saying:
There were a set of accounts that were signed off in
September that said the company was in a surplus position to the tune of $24
million,'' Mr McGrath said. ''Today, we are telling debenture holders that they
are in deficit of around $200-$300 million - that's quite a significant change.
At the public hearing, Mr Medcraft's opening statement commented on the
Banksia collapse in the context of the role of auditors. The Chairman drew the
committee's attention to the fact that the auditors had signed off the accounts
of Banksia in September 2012, only a few weeks before the group collapsed. He noted
that ASIC had identified Banksia as a 'high risk' and had done 'a surveillance
some months ago' to bring the matter to the attention of the trustee. However,
he added that:
It was not really our job to go in and detect these
things—you have gatekeepers called trustees and auditors—but we are trained to
be proactive to the extent of the funding we have available to us, both in
terms of going and looking and trying to be proactive publicly where we see
Mr Medcraft again emphasised that the system—through its use of
gatekeepers—is meant to be 'self-executing'.
It relies on disclosure and the important role of gatekeepers. ASIC's role is
one of surveillance. In the context of debentures, the Chairman told the
committee that ASIC had been expressing its concerns publicly 'for some time'
that these investments are 'high risk'.
He argued that there is a need to 'lift the regulatory intensity' to ensure
that consumers can be confident and informed when they are investing in these
The committee's previous concerns with auditors
In its May 2012 report into the collapse of Trio Capital, the committee pointedly
criticised the role of the Trio's auditors, WHK and KPMG. The report stated:
It is of concern to the committee that auditors' approval of
financial statements does not necessarily mean that the actual assets
underlying the financial statements exist. Further, an auditor's assessment of
a compliance plan and the work of the compliance committee as 'effective'
essentially only means that they exist. Clearly in the case of Trio, the requirement
for the auditors to demonstrate 'professional scepticism' about the information
given to them was insufficient to prevent the loss of investors' funds.
In its submission to the inquiry, ASIC was also highly critical of the
auditors' role and outlined areas for future regulatory consideration. These
- the obligation of auditors to report on the adequacy of
- whether a particular compliance plan measure achieves its
reliance on other auditors;
- audit independence and competence declarations;
- how the auditor satisfies themselves that the responsible entity
has complied with its obligations in all material respects as required under ASAE
- audit approach and testing methodology.
The committee's report endorsed ASIC's suggestion of an approval process
for compliance plan auditors so that the regulator has the powers to remove or
impose conditions on such approval. It also supported ASIC's proposal to review
the effectiveness of compliance plans and, if necessary, require more detail to
be provided in these plans.
Auditors of SMSFs
ASIC has recently been given responsibility for the registration of
auditors of self-managed superannuation funds (SMSFs).
ASIC Commissioner Mr Greg Tanzer told the committee:
Auditors will be subject to an obligation to register from
July 2013 and to meet the competency requirements ASIC will set, on which we
are currently consulting. The registration that you are speaking of, from
31 January 2012, is a voluntary preregistration. Auditors are able to
register with ASIC from 31 January in anticipation of the date by which they
are required to be registered, which is 1 July. We are currently developing the
competency requirements...We expect to issue an information sheet in the next
little while which will set out the process for registering from 31 January
and to be accepting those registrations from that date.
...The competencies are currently out and being consulted on.
In fact, we started consulting with the audit bodies a couple of months ago.
The standards are very much based on the competency standards that the joint
accounting bodies put out back in 2008. The consultation period finished on 30
November, just last week. We expect to finalise those in the next week or so.
On 10 December 2012, ASIC released guidance to assist auditors of SMSFs to
register. In January 2013, it released a guide explaining how to apply for
registration as an approved SMSF auditor, the types of registers of SMSF
auditors maintained by ASIC and the transitional arrangements for the
registration of existing approved auditors of SMSFs.
Also in December, ASIC released proposed competency standards for
approved SMSF auditors. ASIC explained that these standards are based on
pre-existing standards issued by The Institute of Chartered Accountants in
Australia, CPA Australia and the Institute of Public Accountants. The standards
also apply to members of the Superannuation Professionals' Association of
Australia to ensure continuity in requirements for most SMSF auditors.
The committee also notes that the voluntary preregistration process for
SMSF auditors was established on 31 January 2013. An ASIC officer was quoted in
a media release as saying:
This is a key step in the Stronger Super Reform process. The
register and associated competency standards will improve the quality of SMSF
audits. The ability to identify registered SMSF auditors is critical in
underpinning confidence for SMSF trustees.
The committee shares ASIC's concern at the apparent decline in auditing
standards in Australia. Auditors play a crucial role as gatekeepers of the
Australian financial system. When they fail to exercise the requisite
professional scepticism in their work, investors and superannuants can suffer
significant consequences. The Trio Capital experience is but one example. The
failure of auditors to raise the necessary flags to avert corporate collapses
results in lower investor confidence.
The committee commends ASIC for its work to date to identify some of the
dimensions of the low quality of auditing work in Australia, and to highlight
publicly the need for improvement. It is incumbent on professional
associations, standard setting bodies such as the Financial Reporting Council
(FRC) and the Auditing and Assurance Standards Board (AUASB), and the large
auditing firms to reaffirm a commitment to the highest professional standards
and to take action to remedy areas of weakness. The committee strongly supports
efforts to this end.
The committee will continue to closely monitor developments in this
area. As the committee has previously noted, it is concerned that there is a
divergence between auditors' statutory requirements and the actual performance
of their duties. It also continues to be concerned that auditing standards are
falling below the public's expectations of the profession.
The committee intends to call the AUASB and the FRC to attend the first
oversight hearing of 2013. At that hearing, it intends to discuss with these
bodies ASIC's concerns with the application of professional standards. The
committee will seek the FRC's advice about the work of the FRC Audit Quality
Taskforce and the AUASB's views on Australia's adherence to the standards
established by the International Auditing and Assurance Standards Board.
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