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Audit Risk

Proposed International Standards on Auditing

and

Proposed Amendment to ISA 200, 'Objective and Principles Governing an Audit of Financial Statements'

Issued for Comment by The International Federation of Accountants

Comments from ACCA

March 2003

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ACCA is the largest and fastest-growing international accounting body, with over 300,000 students and members in 160 countries. ACCA has an extensive network of 70 staffed offices and other centres around the world. ACCA's mission is to provide quality professional opportunities to people of ability and application, to be a leader in the development of the global accountancy profession, to promote the highest ethical and governance standards and to work in the public interest.

Further information on ACCA is available on ACCA's website,

Executive Summary

ACCA welcomes the opportunity to comment on the proposed International Standards on Auditing and an amendment to ISA 200 Objective And Principles Governing an Audit of Financial Statements arising from the International Auditing and Assurance Standards Board's (IAASB) 'Audit Risk' project.

ACCA is very supportive of the work of The International Federation of Accountants (IFAC) and the development and promotion by IAASB of high quality auditing standards. ACCA has endorsed this with an examination stream based on International Accounting and Auditing Standards which has been chosen by over 25,000 of our students.

ACCA has had long-standing concerns about IAASB's over-concentration on the audits of large listed entities. The current proposals, which stem from this approach, are extensive and procedural and their implementation would result in a disproportionately large extra cost for audits of smaller entities.

ACCA believes that the current proposals represent a watershed for ISAs. In order to approach full global acceptance, it is necessary for ISAs to be understandable, useful and cost effective outside, as well as within, capital markets. IAASB should refocus to provide standards which meet these criteria. Such a refocus should not harm the rigour of auditing standards used in capital markets which must be of a high and internationally acceptable quality.

In the long term, ACCA recommends that it will be appropriate for IAASB to prepare principles-based standards together with guidance for their use in the public sector as well as for large and smaller commercial enterprises.

The Future Direction of ISAs

ACCA's View

  1. IAASB was formed in April 2002, taking over the standard setting role previously undertaken by the International Auditing Practices Committee (IAPC). In September 2001, ACCA responded to a consultation document issued by an IFAC task force reviewing the operations of IAPC. Our response, included the following points:

'The proposed objectives [for the new body] are too narrowly focused on the needs of transnational listed companies, ignoring the important current role of ISAs as a model set of standards to be used as the basis of national standards, especially in developing countries, and therefore applying to listed and non-listed companies alike.'

'We recognise that IAPC is committed to achieving recognition of ISAs by IOSCO. However, that is only one part of its mission. In order to gain endorsement by legislators, its standards must be appropriate for entities which are not listed on securities exchanges. We are concerned that IAPC is currently devoting significant resources to the revision of core standards explicitly to accommodate the 'business risk' approach to auditing of the major international firms when such an approach is already implicit within existing standards.'

  1. ACCA's concern over the direction of these exposure drafts is, therefore, of long-standing. The current proposals have been drafted with a focus on the audit of large companies and this has added to our concerns. More importantly, there has been structural change in the environment in which IAASB operates which, in our view, requires appropriate recognition if full global acceptance of ISAs is to be approached.

Current Focus

  1. As set out in IAASB's 2002 Annual Report, there is a focus on certain strategic objectives, including:
  • 'Development of standards – Establishing high quality auditing, assurance, quality control and related services standards.
  • Global acceptance – Promoting the adoption and acceptance of IAASB pronouncements.'
  1. Standards have been developed in a way suited to the audits of large commercial entities. This has facilitated the use of ISAs by transnational audit firms. By embedding ISAs in their audit methodologies and promoted their use more widely, as an aid to consistency of approach in multinational audits, those firms have fostered the adoption and acceptance of ISAs.
  1. The national acceptance of ISAs is also made more likely if they are endorsed by regulators for use in major capital markets. Regulators, represented by IOSCO, focus on the audit of listed entities and find ISAs written for such audits more readily understandable.
  1. This focus on large commercial enterprises has undoubtedly contributed to the fact that the 2002 Annual Report is able to state that '. . . more than 70 countries have indicated that they either have adopted ISAs or noted that there are no significant differences between their national standards and ISAs'. While the figure of 70 countries is encouraging, nevertheless, there are still many more countries where auditing standards are not equivalent to ISAs.

Future Focus

  1. ACCA believes that the current proposals represent a watershed in the progress towards full global acceptance of ISAs. This is because, if they are implemented in their current form and accompanied by the many conforming changes which would be necessary, they would shift ISAs too far towards being usable only in major capital markets.
  1. Although it has been beneficial to date to have ISAs which are primarily suited to capital markets, there is now a need to go beyond this if there is to be full acceptability of the standards. This is because, if ISAs are not appropriate for audits of smaller entities they may not be accepted in future in emerging economies or in developed economies in which such entities may be of considerable economic significance. For example, in the European Union, which has not yet decided on adoption of ISAs, smaller entities account for two thirds of private sector employment. Moreover, as the public sector accounts for typically more than a seventh of total employment in developed economies, the future direct application of ISAs in the public sector is also of considerable importance.
  1. In order to approach full global acceptance, it is now necessary for ISAs to be understandable, useful and cost effective outside as well as within capital markets. IAASB should refocus, therefore, to provide standards which meet these criteria. Such a refocus should not harm the rigour of auditing standards used in capital markets which must be of a high and internationally acceptable quality.
  1. In the long-term, it makes sense for IAASB to prepare principles-based standards which are easily adapted for use in all types of audit through the issue of tailored guidance. As well as for large listed entities, guidance should be produced for smaller entities and for public sector bodies. Such an approach will also make it easier to accommodate the needs of auditors of specialised entities, such as banks.

  1. IAASB's 2002 Annual Report states that the World Bank has initiated dialogue between IAASB and the International Organisation of Supreme Audit Institutions (INTOSAI). ACCA is please to note that the INTOSAI Auditing Standards Committee has expressed an interest in contributing to the work of IAASB. As the Report itself states, this is clearly an important step towards the globalisation of auditing standards and the approach to, and implications of, such an endeavour require careful deliberation by IAASB.
  1. The current approach of IAASB is to issue supplementary guidance such as IAPS 1005 The Special Considerations in the Audit of Smaller Entities. Such guidance requires auditors of smaller entities to have regard to more material than auditors of large and complex entities as it explains how aspects of ISAs should be interpreted in the audit of a smaller entity. A more appropriate approach will be for basic principles and essential procedures (identified by bold type black lettering) to be kept simple. Common guidance should be applicable to all audits and not assume a large audit team or uncommon circumstances (e.g. in-house legal counsel). Further guidance applicable only in defined circumstances should meet the needs of auditors of large listed entities or complex public sector entities.
  1. Currently IAPS 1005 is under revision as it has not been updated in parallel with recently issued pronouncements. The 'Audit Risk' exposure drafts include some material which already indicates 'application to smaller entities' as well as some which deals separately with 'larger, more complex entities'. It seems from this that IAASB is already faced with transition in the way it addresses the needs of entities of differing complexity. A refocus as recommended above would also address such anomalies.

Answers to Specific Questions

  1. We set out below our answers to the specific questions (which we have paraphrased) raised in the 'Explanatory Memorandum to Audit Risk Exposure Drafts'.

The audit of small entities

Are there special audit considerations in applying the standards and guidance contained in the proposals?

  1. As set out in our comments on the future direction of ISAs, we believe that the documents should be written to apply directly to such entities. This will remove the issue.

Internal Control

Is the further guidance in Appendix 2 of ISA XX 'Understanding the Entity and its Environment and Assessing the Risks of Material Misstatement' helpful?

  1. Neither this nor much of the associated material in the body of the document is necessary. It is inappropriate to prefer one model of internal control (COSO) to another.

Reliance on unchanged controls

Is it appropriate for the ISA to specify a time period for testing and if so is every third audit the right one?

  1. This should be a matter for auditor judgement. Guidance could be provided on factors which would be relevant to such a judgement.

Documentation

Is it appropriate to establish detailed documentation requirements? Are the proposals practical? If not, what suggestions do you have for documentation which achieves the objective of improving compliance with standards.

  1. ISAs rightly establish documentation requirements. The objective of documentation should be related, however, to the specific purpose in each instance not to an overall one of 'improving compliance with standards'.
  1. There is currently considerable scope for confusion over the role of ISA 230 Documentation and documentation requirements in individual ISAs. IAASB should consider how documentation is addressed in the whole range of its pronouncements, including those relating to quality control as well as ISAs.

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