How new technology and legislation threatens the auditing sector

After decades of relatively little change, the auditing sector is suddenly facing a raft of new technologies and legislation that threatens to fundamentally alter the nature of the role.

The most significant developments currently have been around application programme interface (API), through which different software packages and apps can integrate with each other, and data-blending solutions, enabling auditors to extract and validate information from accounting systems, says Gary Jones, director of audit at Grant Thornton UK. This is being complemented by machine learning techniques, which can help analyse data, and robotic process automation, he adds.

“A combination of these tools should also allow for more ‘real-time’ analysis of data, which will open more avenues of work that could complement an audit of the statutory financial statements or provide a very different form of assurance on transaction streams,” he says.

There are already examples of data mining impacting the role of auditors, says Kim Hau, senior proposition manager for Onesource Indirect Tax at Thomson Reuters.

“A very simple example of this is where transactions for a group of entities were downloaded as part of an audit and the analytics showed that there was a spike of expenditure at just below or on the £500 mark,” she adds.

“On further investigation, it transpired that a second signature for approval was required on purchases of over £500 and that the purchasing staff were therefore ‘taking the easy option’. This was costing the group a lot of money in lost bulk-buying discounts and resulted in them changing their purchasing process.”

The benefits of blockchain for auditors

Blockchain also offers significant opportunities for auditors, and could impact how the job is done, says Alexandre Karako, director at Psion. “The main work of the auditor is to verify and justify the audit trail, so blockchain is the natural solution through its traceability and immutability,” he says.

“Blockchain will reduce external auditors’ lost time on audit trails, although there will still be the need to verify the internal files of the company and the accuracy of any data entered into the blockchain.” This is still in its early stages, he adds, and it’s currently unclear whether there will be one main market leader providing a public blockchain facility, or whether each company or audit firm will have their own versions.

One advantage of blockchain is that it enables auditors to directly access the transactions in the supply chain, rather than having to rely on the co-operation of third parties.

“This could potentially render the traditional testing balance-sheet focused methods obsolete,” says Jones. “Blockchain could provide access to a far greater and more immediate level of assurance on a transaction level rather than having to focus on the year-end balance sheet. Where there is overlap with the current skillset and judgment of the auditor is the need to assess the integrity of the control environment of a business.”

Auditing cryptocurrency

Blockchain also has potential to transform how tax authorities collect money, particularly VAT, believes Hau. “A central distributed ledger would improve and reduce the need for audit as both taxpayer and tax collector are guaranteed to be looking at the same data and a single record of truth,” she says. “This could eliminate the need for external audits, saving both time and reducing the possibility of tax fraud.”

The use of cryptocurrencies – currently also in its infancy – could have ramifications for accountants and auditors. For now, Jones says investments in Bitcoin and other cryptocurrencies should be seen as intangible assets, rather than a replacement or equivalent for cash. “The fundamentals of auditing a cryptocurrency have similarities with auditing currency – there will still be the same challenges around auditing the existence of the asset, but if the price volatility seen in 2018 continues this would present a further challenge,” he points out. “There is also the lack of a regulated market, which increases the risk relating to cryptocurrency balances and transactions.”

Why HMRC are keen to introduce API

Alongside new technology, legislation could also impact on the sector in the coming years. HMRC’s adoption of API ahead of the introduction of Making Tax Digital (MTD) demonstrates its intentions to go beyond just the nine boxes of the UK VAT return, which will kickstart the process from April 2019. “If the launch goes to plan, then HMRC could start demanding the details of all the transactions behind the VAT calculations to be delivered through the API platform,” says Richard Asquith, VP global indirect tax at Avalara.

“This would follow European trends in countries like Spain, Hungary and Italy where businesses have to e-file sales and purchase invoices in real-time. Ultimately, HRMC’s API technology will give HMRC the power to pre-approve or even block sales invoices that it does not understand or suspects errors on.”

Taking control away from the big four

Laws around data protection will also be a big issue going forward, particularly as more information becomes available. “Audit firms will need to ensure they have the appropriate processes in place to comply proactively with GDPR and other data protection regimes, and the cross-jurisdictional nature of international clients and flows of data makes this increasingly challenging,” says Jones. “They will also need to remain abreast of developments in data protection law all over the world – as more information crosses global boundaries, the risk of a breach of local law, where laws may be stricter than in the UK, becomes ever higher.”

The government is also under pressure to introduce more far-reaching change, particularly around the dominance of the big four accounting firms. “In theory this could lead to those firms being broken into pieces to encourage competition and get rid of some of the ethical problems,” says Paul Merison, London ACCA director at the London School of Business and Finance. “An industry that is reliant on reputation has lost so much trust that its work is at risk of becoming irrelevant.”

A particular concern for him is the relationship between auditors and clients, which he believes has created an environment where auditors are afraid to challenge information. “One suggestion that I have made to students for the past 15 years is that big company audits should be allocated by a government body,” he says. “But probably the quickest positive thing that can be done is to open up competition in the industry. Virtually every big company is audited by the big four firms and that cannot continue given all of them have suffered reputation damage and fines.”

How often should audits be carried out?

Taken together, the impact of new technology and legislation could lead to a number of changes to the industry. Jones suggests the proliferation of technology and introduction of MTD could lead to a questioning of just how frequent audits should be. “For a listed business, reporting three months after year-end, the information in the report can be as much as 15 months old,” he points out. “This may increasingly be seen as too historic to be relevant in a fast-paced world. The investor community could push for more frequent assurance, beyond what is required by the Companies Act, and eventually for continuous assurance in real time, which would mean a rethink of the business model for most UK audit firms.”

There are also implications for the skills required by auditors. “Auditors will need to have a data scientist background for big data analysis through artificial intelligence and machine learning, and should already take lessons on blockchain as they will need to interact with different blockchains and understand how they work,” says Karako.

Yet while technology will help auditors get a better understanding of both the numbers and the underlying performance of a business, the fundamentals of the job are likely to remain the same, says Hau. “An audit will still be required to give assurance over the financial reporting of an entity or group of entities, and the auditor will still be required to make some judgement calls and be happy that ultimately the financial statements being reported on give a true and fair view.”

Nick Martindale is a freelance journalist, editor and copywriter. He regularly contributes to a wide range of national and business media, including The Telegraph, Raconteur supplements in The Times and HR magazine.