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Thursday, 25th April 2024 |
| Enron casts long shadow |
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| With the collapse of Enron, the investigations into its affairs have given the role of the independent auditor a major media profile. The next 12 months will see a renewal of the debate on the degree to which the auditing profession in Ireland can self regulate. With substantial changes taking place on an international scale, the profession will have a lot of work to do in arguing the case for self-regulation says Peter Carroll. |
It looks like 2002 will be the year in which the auditing profession will be subject to its greatest public scrutiny. The fall-out from recent events will be widespread and the profession’s current concerns cover a number of issues including:
• The structure of the Big 5 and Anderson’s continuation as a major international accounting firm.
• The ability of the profession to self-regulate and willingness of the Government to allow it to do so.
• Renewed scrutiny of accounting standards and in particular the convergence of one international standard.
• Responsibility of directors of public companies who will be increasingly conscious of the need to ensure that credibility financial statements and the audit process remains unquestioned.
Structure of the Profession
The structure of the profession is that it is currently dominated by the Big 5 and the fact that these firms derive considerable proportion of their fees from non-audit services has been debated extensively. A number of firms including Ernst & Young have separated their consulting services. This month Deloitte & Touche announced their intention to split their accounting and consulting businesses. I believe that in the future there will be a necessity for firms to demonstrate that they see the audit service as a key part of their business and that they are not merely using the audit service to attract clients to sell more lucrative non-audit services. An interesting point, which has not been subject of much coverage in the Enron case is the fact that the SEC implemented in February 2001 a new set of independence rules which preclude auditors from providing a range of non-audit services. These services cover advice on IT and financial systems and valuations. While the independence rules have only taken effect since the middle of 2001 the profession is starting to see a change.
I believe that it is possible that similar regulations may be adopted in Ireland when the current legislation, which is being drafted between the department and the Irish Authority on Auditing Standards, is finally presented.
Role of US GAAP and International Accounting Standards
Recently the view has been expressed that given the dominance of the US capital markets and the apparent success of its regulatory system under the Securities and Exchange Commission, international companies would seek to adopt US GAAP as their reporting standard. Separately, the European profession has stepped up its efforts to codify and widen the application of international accounting standards.
In the wake of the Enron scandal the prescriptive nature of US generally accepted accounting principles has been heavily criticised. Observers have questioned whether such a prescriptive approach best serves shareholders in ensuring that complex transactions particularly those involving debt and joint ventures can be communicated in a transparent manner. Under international accounting standards, accountants are constantly reminded of the importance of substance over form and auditors have an overriding obligation to report on the fairness of financial statements. Many argue that this principle-based approach is far superior to that of the US. The scale of the crisis of confidence in financial reporting in the US and the close involvement of Government-led enquiries may lead to a possible re-think in this approach. For the moment I believe the momentum is now with the European profession to lead the way in the promotion of international accounting standards.
Fundamentally, the current crisis will, in the short to medium term, greatly reduce the profession’s ability to successfully argue the case for self-regulation. The American public oversight board which is responsible for the regulation of the audit profession has threatened to dissolve itself on the grounds of a lack of consultation by the SEC. Currently discussions are taking place between the SEC and the oversight board about its future role. However, the SEC chairman Mr Harvey Pitt has indicated that he wants to see significant change. He has called for ‘a tough, no nonsense, fully transparent disciplinary system subject to independent leadership, and regular monitoring of the ways in which accounting firms perform their responsibility.’ It would appear that the SEC’s chairman has in mind a system, which mirrors that which is currently being established in the UK. This system has also been proposed here. The SEC have expressed preference for an oversight board which would be dominated by members from outside the profession and would have responsibility for discipline and quality control. It is interesting to note that a number of UK professions’ senior representatives have met with their counterparts in the US to advise on how their system of regulation is being established.
Here in Ireland, the profession has argued that the area of disciplinary procedures should be left to the accountancy bodies such as the Institute of Chartered Accountants in Ireland. The next 12 months will see a renewal of the debate over the degree to which the profession in Ireland can self regulate, with substantial changes taking place on an international scale the profession will have a lot of work to do in arguing the case for self-regulation.
While the drafting of legislation between department and the IAAS continues there is no expected date for the release of this legislation. I believe that in Ireland a wait and see approach will be adopted by authorities.
In the UK the new oversight board has been established under the leadership of Sir John Bourn, the auditor general. This board has eight members, only two of which are drawn from the profession. Already commentators are stating that this board will provide checks that do not exist in the current US system, though it is somewhat unclear as to how the oversight board will discharge responsibilities. There have been suggestions that it will carry out a detailed review of how audit firms charge for its services and look at the level of profitability of the audit service. As most firms are still conducted through partnership such information has never been made available publicly and has allowed the impression to be formed that firms actively attract clients by low-balling the audit fee to earn more lucrative consulting work. The Irish profession will watch closely the developments of the UK oversight board. The close links which are now being established with the US regulators will mean that UK will have a major role to play in the shaping of future regulation.
I believe the greatest changes to how the profession conducts and regulates itself will be client led. The scale of the Enron collapse and the intense media focus on the lack of transparency in public companies financial statements has heightened the concerns of directors of public companies. Currently a number of leading UK public companies including Unilever are reviewing professional service arrangements with accounting firms to remove any possibility that investors will perceive a less than objective audit approach. In the next year, the directors of public companies will face questions for the first time about the quality and integrity of the external audit process and the relationships with the audit firms. Investors and the investment management industry will take a closer interest in establishing whether the audit firms have the required level of independence and objectivity. Companies will become more aware of the disclosure of fees paid for audit and non-audit services. Furthermore I believe the debate regarding the rotation of auditors is likely to re-emerge.
At the end of the day, I do believe that the profession will come through in a stronger position. While the fall-out of the current crisis in accounting may be significant, the audit process which has been largely forgotten about in the frenetic bull-run of the late 90s will re-emerge as being an important part of our financial system. It is essential to provide investors with the necessary confidence. I believe the role of the auditor in providing an independent and objective view of a company’s financial statement disclosures will be given a new prominence. The challenge facing the profession is to be seen to be receptive to change and willing to take a leading part in the debate.
Pull quotes....Here in Ireland, the profession has argued that the area of disciplinary procedures should be left to the accountancy bodies such as the Institute of Chartered Accountants in Ireland.
I believe the greatest changes to how the profession conducts and regulates itself will be client led.
While the fall-out of the current crisis in accounting may be significant, the audit process which has been largely forgotten about in the frenetic bull-run of the late 90s will re-emerge as being an important part of our financial system. |
Peter Carroll is partner-in-charge of Business Assurance & Advisory Services of BDO Simpson Xavier.
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| Article appeared in the February 2002 issue.
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