The death of audit

The Satyam Computer Services scandal involved one of the biggest frauds in India’s history.

The fraud, revealed in 2009, was as serious as it was partly because of major audit failures on the part of Price Waterhouse, PwC’s Indian audit unit. As a result of those failures, the unit has recently been banned from auditing in India for two years.

Blame the auditor

The tale may sound familiar. Whenever a big company collapses, or accounting black holes are exposed, the finger of blame inevitably points at the auditors. Indeed, there has been much handwringing in recent years among investors, politicians, regulators, academics and even auditors themselves over why audit is ‘broken’, and whether it can be fixed.

Prem Sikka, emeritus professor of accounting at the University of Essex, and a long-time critic of audit governance, believes the fundamental problem with audit has not been resolved.

Despite shareholders at listed companies annually voting on the appointment of auditors, auditors are still, in reality, chosen by the board. The auditors then report on the work of, and are remunerated by, the people who appointed them, creating a conflict of interest. “Until that issue is addressed, there will always be disquiet about auditors,” says Sikka.

Sikka believes that there is another problem with audits too: they are no longer fulfilling the aims of regulators, which are now more interested in realtime audits – that is, constant monitoring of information. That, says Sikka, is “what an audit can’t deliver”.

And, as businesses create financial-reporting models built less on physical products and assets, and more on intangible assets and goodwill, audit becomes more problematic.

“All auditors can do is confirm the model,” says Sikka. “It’s not really a professional skill. They’ll be relying on economists and others, rather than understanding how it works themselves.”

What’s the answer?

Even the accounting institutes, which have sometimes taken a circumspect view of thorny issues involving their members in the past, are raising questions and looking for answers to the audit problem. The ICAEW’s Audit and Assurance Faculty, for example, has published a series of papers discussing key issues around trust and technology.

“The audit profession recognises that it needs to respond to changing demands in partnership with regulators, standard-setters, business and investors,” says Dr Nigel Sleigh-Johnson, head of the ICAEW Financial Reporting Faculty.

A thesis by ACCA’s head of audit and assurance, Andrew Gambier, also breaks down some of the issues with audits – namely, human error and bias. The paper Banishing Bias? Audit, Objectivity and the Value of Professional Scepticism argues that regulators, standard-setters and investors simply telling auditors to be ‘more sceptical’ won’t cut the mustard.

The complexities of human decision-making mean that cognitive bias can find its way into any process of “objectivity and rigour”, even an audit. For example, an audit team can demonstrate ‘groupthink’ – a natural desire to coalesce around an idea, rather than challenging and questioning it. “It can be difficult to have different points of view aired as a group,” says Gambier. “It’s part of the human condition.”

If even humans with the best intentions can’t be trusted, perhaps it’s time to pass more of the responsibility for auditing to machines

Enter the robots

So, if even humans with the best intentions can’t be trusted, perhaps it’s time to pass more of the responsibility for auditing to machines. Or maybe not. Machines ‘learn’ by analysing vast quantities of data, which has usually been generated by humans, says Gilly Lord, PwC’s head of audit strategy and transformation. “So it’s very easy for our human biases
to be shared with our machine friends. Giving assurance that machines are free from bias, and that algorithms will perform objectively, is an area where I think the auditors of the future will have an important role.”

Lord argues that not only are the big accounting firms listening to and taking part in the debate about the efficacy of audit, but they are using technology to find new ways to approach audit and make their work more rigorous.

For Lord, there are two distinct characteristics that audit will develop. Firstly, audits will be performed by both humans and machines, the technology processing vast quantities of data, and the humans adding emotional intelligence.

Secondly, the scope of audits will broaden beyond historical financial data, and cover more kinds of performance, such as corporate social responsibility. “This means our audits will be more relevant to a wider set of stakeholders,” Lord adds.

So Lord sees the role of the auditor changing, but not disappearing. “We expect all of our PwC auditors to be ‘digitally fit’. That means, for example, that they understand data flows and data security.

But we also need our auditors to have highly developed ‘human’ skills. “We can use machines to improve lots of aspects of our audits, but we still need human auditors to understand
corporate culture, identify audit risks driven by dysfunctional behaviours, and have the emotional intelligence to resolve issues in the right way. Auditors who combine these two skillsets will be game changers.”

So rumours of audit’s death may be exaggerated but, at the very least, audit seems set to undergo a radical makeover.

This article appeared in our Mar/Apr 2018 issue of AT magazine.

Mark Rowland is the Editor of Accounting Technician and 20 magazine.

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