This summary points to issues and initiatives of importance from the perspective of professional accountants in business covering audit quality, and specifically the role of audit committees, and finance leaders. The analysis below will help the International Federation of Accountants (IFAC) Professional Accountants in Business (PAIB) Committee in its own discussions, as well as support the Chairman and members in their outreach in this area. This includes the participation of the PAIB Committee chair at the IAASB's event on "Audit Quality in the Public Interest" in March in Paris. The event supplements the IAASB’s recently issued consultation on the public interest issues the Board believes should be addressed as a matter of priority.

Audit reform impacts audit committees and finance leaders. Audit reform is taking place in various ways and involves all main parties involved in financial reporting - regulators, users, boards and their audit committees, management and the external auditor. Each party and the way they interact has significant bearing on achieving consistently high quality audit, and ultimately financial reporting.

As the needs of audit committees increase, better relationships between audit committees and finance functions is critical. EY’s Financial Accounting and Advisory Services 2016 survey of 1,000 CFOs across 25 countries (Are you prepared for corporate reporting’s perfect storm?) highlights that CFOs are losing confidence in corporate reporting and its effectiveness, as pressure from audit committees, the complexity of implementing new reporting requirements and reporting overload affect performance.

The report recommends that organizations need to build strong and trusted relationships with audit committees and boards, understanding their needs and prioritizing focused, high-quality insight over the quantity of information. A strong relationship between finance function and board creates more confidence in the data and leads to further requests for insightful information and value-added insights.

What are the Main Issues?

Changes to auditor reporting at global, regional and local levels.

The International Auditing and Assurance Standards Board’s (IAASB) new and revised Auditor Reporting standards provide for a more informative auditor's report. The PAIB Committee has generally welcomed the changes as an opportunity for organizations to have a more useful engagement with their auditors leading to an audit report, and underlying process, that is more useful to the company and its investors. However, some PAIBs are concerned that the audit report reveals information that should be included in director or company reporting. The PAIB Committee concluded that there needs to be targeted communication specifically focused on boards, audit committees and finance of the benefits and scope of the audit report including the main feature - Key Audit Matters. The communication could include a) the benefits of the new arrangements, b) clarify key intentions and aspects, and c) the implications for boards and audit committees.

Anecdotal evidence from the UK suggests that the change to the audit report has seen shareholders take more interest in the auditor's report. The UK FRC reported on the results of its survey, Extended Auditor’s Reports: A Further Review of Experience, covering 80% of the FTSE 350 companies. The three key findings were that a) investors welcome the information included in extended auditor’s reports, and particularly for smaller companies, b) auditors have continued to move away from generic language and descriptions of risk, and c) the best reports usually signpost to key information and make innovative use of design.

In addition to the tools and guidance provided by the IAASB, a number of PAOs have provided information to their members on the future of audit reporting. The IAASB's communication to the "preparer" community on the implications of the changes to the audit report is imminent.

The use of audit quality indicators (AQIs) to better inform audit committees about those factors that may contribute to the quality of an audit.

The development of AQIs is seen as a way to provide audit committees with a way to evaluate audit quality at the auditor engagement level. The Federation of European Accountants (FEE) recently published an Overview of Audit Quality Initiatives, which finds that AQI initiatives differ significantly throughout the globe.

In 2015, IFAC responded to the PCOAB's Concept Release on AQIs in which it raised some limitations inherent in the use of AQIs, for example when they are used formulaicly and without context. Furthermore, some of the AQIs are not in the auditor's control. Ultimately, IFAC supports a “phase-in over time” approach to implementation to allow for learning and continuous improvement.

A recent article by Cindy Fornelli, Executive Director of the Center for Audit Quality (CAQ), highlights the CAQ's work on developing AQIs of relevance to audit committees and that reinforces their communication with auditors. The CAQ is clearly a strong advocate for the use of both firm and engagement level AQIs for use by audit committees.

The jury still seems to be out on the extent to which AQIs provide audit committees with a means to make a realistic assessment on audit quality. Without additional analysis and interpretation, AQIs may not in themselves provide the answer, and indeed an over reliance on them might lead to unintended consequences.

New requirements and demands affect the role and responsibilities of audit committees.

Although the primary responsibility for audit quality rests with auditors (according to the IAASB), in many jurisdictions in recent years, changes to governance, regulation and company law has propelled the scope and responsibilities of audit committees to higher levels. FEE has specifically published, The Impact of the Audit Reform on Audit Committees in Europe, that highlights the developing role of the audit committee in Europe. Since the global financial crisis, audit committees are increasingly subject to mandatory requirements, particularly for listed entities, in terms of their existence, role and responsibilities, composition, and education and experience requirements.

It might be useful to investigate trends in reform affecting the role of audit committees in various regions and jurisdictions, including the roles and functions of comparable governance mechanisms - such as the Asian Corporate Governance Association's investigation of Japanese Kansayaku (which the ACGA concluded provide weaker oversight than audit committees).

While audit committees have been a long established part of the corporate governance landscape, there is continually room for improvement so that there is assurance and confidence that they are equipped to fulfill their function (as well as being adequately transparent about their work). In 1999, a publication of the Blue Ribbon Committee by the New York Stock Exchange and National Association of Securities Dealers identified audit committees, together with management and the independent auditor, as one of the three legs of the stool that supports appropriate financial disclosure and an environment of active and participatory oversight over the financial reporting process. Importantly, the report stated that the audit committee must be first among equals in this process, because the audit committee is an extension of the full board and hence the ultimate monitor of the process. Nine years later, the 2008 report for the President of the French Republic on the Financial Crisis noted that the audit committees of banks “had internal control and risk management arrangements that were ill-suited to the new financial innovations, and their governing bodies, i.e. board of directors, audit committee, which in many cases received only partial information, were not prepared to take the right decisions.” The journey continues to help ensure that audit committees are the trusted third leg of the stool, and this journey involves market pull and regulator push.

An area of increasing regulatory attention is audit committee transparency. As part of the effort to enhance understanding of their effectiveness, there is increasing interest on the transparency on how they execute their audit oversight role. The aim of enhancing transparency is to give investors the information they need to assess the independence and effectiveness of the audit committee and the external auditor. In 2015, EY reviewed audit committee-related disclosures by the largest listed companies in five jurisdictions. Observations based on their research include:

• Drivers of audit committee-related disclosures vary mainly due to differences in regulatory and listing requirements and corporate governance guidance.
• The key areas of focus disclosed by audit committees also vary widely - Disclosure about audit committees’ work often is a high-level summary of audit committee responsibilities. However, some companies are going beyond this basic approach to provide investors with greater insight into the key areas of focus for the audit committee. In Canada, over 50% of companies disclosed the key topics that the audit committee focused on, although this level of transparency is the exception in most jurisdictions.
• Emerging disclosure can be found around execution of audit committee responsibilities relating to auditor selection or reappointment. Disclosure of audit committee oversight of the provision of non-audit services by the auditor is common.

Although some research (such as from The CAQ) shows that audit committee disclosure is improving, as Matt Waldron of the CFA Institute highlights in an article in November 2015, investors may not share this perspective, particularly in some jurisdictions such as the US.

An increase in transparency appears to be associated with the least informative disclosures around audit firm selection, compensation, evaluation/supervision, and selection of the audit partner. Matt Waldron suggests that investors in fact value information that allows them to assess a company’s risks, audit work related to risk, how the audit committee addressed these risks with the auditor, and how they assessed the quality of the auditor’s work.

Over time, it will also be interesting to assess whether there continues to be a close alignment between audit committee reporting and auditor’s reports. The FRC report, Extended Auditor's Reports, A Further Review of Experience, published in 2016, looks at how well aligned are extended auditor’s reports with audit committee reports in the UK.

In its review, the FRC collected a large quantity of data on reported risks, and considered the extent to which this information is consistent with or complementary to issues raised in Audit Committee Reports. The trend has been for audit committee reports and auditor’s reports to align more closely on specific issue identified in the auditor's report. In year one of the FRC review, 76% of the risks identified by auditors were also included in audit committee reports, it rose to 95% in year two.

Whilst we recognise that there is no requirement for these two components to contain identical information, it is reasonable to expect a degree of complementarity. Allowing users to triangulate between the information presented by the preparers of financial statements, the Audit Committee and the auditor has the potential to significantly enhance the credibility and value of that information. It is also important to understand the way in which risk and assurance activity has been managed, and the extent of interaction between the Audit Committee and the auditor.

The perceived value of the audit.

At the September 2015 PAIB Committee meeting, a key issue that arose in discussion was the need to raise awareness of the need for high quality audits as a key element of achieving the objective of enhancing trust in business and financial markets. Concern was expressed with the trend towards the "commoditization" of audit, which involves organizations for their part trying to drive down audit costs as an objective. To combat this, communications on audit quality should clearly show how the requirements of high quality audits, and what is needed to drive up professionalism and audit quality.

There is evidence to suggest that audit committee chairman generally value the external audit for the assurance it provides of the reliability of the financial statements prepared by management. The 2010 ACCA research, The Value of Audit: Views from Audit Committee Chairmen, presents the results of a research project on the value of audit commissioned by The Accounting and Corporate Regulatory Authority of Singapore and conducted by ACCA. The results confirm that they see audit as an essential part in the financial reporting value chain which provides them with comfort that the company’s own internal accounting staff, processes and systems are generating reliable information.

Research also indicates that CFOs typically value the external audit on various grounds, including the incentive it provides to encourage their company and its subsidiaries to robust financial reporting processes, and the sounding board auditors can provide on complex accounting matters.

Perceptions of the value of audit vary, not least between auditors and the public. However, it is clear that price is not a guide to audit quality. Analysis from the Analyst’s Accounting Observer finds that audit fees are not excessive in terms of absolute dollars (in 2014, the S&P 500’s fees for audit and audit-related services was $5.15 billion), nor on the basis of earnings per share. In the S&P 500, there are 71 firms with audit and audit-related fees that did not take one penny away from earnings per share in 2014. For others, fees could increase by nearly 50% without affecting earnings per share.

The conclusion is that investors are willing to pay for high quality audits. In return, they seek confidence is understanding whether a quality audit was performed, which can be difficult given that there is little information about audits.

Auditors for their part often perceive that they have to operate in an environment in which delivery costs increase, and prices fall. As was reflected in KPMG's The Value of the Audit, which is based on conversations with KPMG audit partners, audit quality is compatible with efficiency based on leveraging enabling technology, and improving consistency across audits.

What's new on the audit committee agenda?

The scope of the work undertaken by audit committees is increasing. In addition to dealing with new accounting rules from a strategic and operational perspective, such as revenue recognition, new issues are becoming critical, such as IT risk, including cyber security, and regulatory change management. Audit committees are also increasingly considering third-party risks including bribery and fraud along the supply chain.

Furthermore, the audit committee has a significant role in overseeing the reporting process and related risk to maintaining effective processes and accountabilities across all forms of reporting and disclosure to financial capital providers. By establishing and maintaining effective risk management and internal control over all relevant reporting processes and systems and beginning to expand into the wider range of data and issues encompassed by the International <IR> Framework, the audit committee can also ensure that all organizational information moves toward the highest level of quality.

The consequence of increasing demands on audit committee members, and the scrutiny they find themselves subjected to, particularly after accounting irregularities, has made it difficult for organizations to attract the strongest candidates to serve in this capacity.