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Auditing Best Practice

The Complex World of International Auditing Regulation

by Christopher Humphrey and Anne Loft

Setting Global Standards

International Standards for Auditing (ISAs) are set by the International Auditing and Assurance Standards Board (IAASB), which is situated within the International Federation of Accountants (IFAC) —a private organization whose member bodies are the national associations of professional accountants in each country. At April 2009, there were 157 member bodies of IFAC, representing 122 countries and around 2.5 million professional accountants worldwide, with a current operating budget of US$18 million. IFAC recently celebrated its 30th anniversary, having been formed in 1977, four years after the International Accounting Standards Committee (IASC), which was the predecessor of the International Accounting Standards Board (IASB).

The members of the IAASB are a mixture of practicing professional accountants (especially members of the large audit firms) and persons from outside the profession. A number of important global organizations have supported the development and application of ISAs, which are now used in more than 100 countries around the world.1 These include the Financial Stability Forum (FSF), a body set up by the G7 Finance Ministers and central bank governors in 1999 in the wake of the financial crisis in Asia in 1997/8.2 The objective of the FSF/FSB is to strengthen financial systems and ensure the stability of international financial markets, and, as part of this remit, it designated 12 key standards and codes as most relevant to strengthening financial systems. Both International Accounting Standards (IASs/IFRS and ISAs were included in this group (the only private standard-setters to be included).3 These 12 standards and codes were seen as “best practices” associated with the legal, regulatory, and institutional framework for financial systems.

The International Organisation of Securities Commissions (IOSCO) is another important organization in this respect. Despite the FSF’s inclusion of ISAs in its leading globally recognized standards and codes, the endorsement of ISAs by IOSCO has proven to be a more problematic and longstanding issue. In 2008, one can find IFAC and other accounting bodies such as the ACCA, PwC and Institut der Wirtschaftsprüfer in Germany urging IOSCO to move promptly to endorse ISAs on the grounds that they are already in widespread, international usage (see IOSCO, 2008). IOSCO does appear to support the development of high quality, internationally accepted auditing standards by the IAASB (which it considers as beneficial to global capital markets), and to be actively monitoring the situation. Public speeches by staff involved4 have suggested that IOSCO will formally endorse ISAs for cross-border purposes once IAASB has completed its Clarity Project, with the 2008 annual report of the IAASB stating that liaison with IOSCO continues on the issue of ISA endorsement and that a “positive solution” is looked forward to in 2009 (p. 12).

IAASB’s Clarity Project, started in 2004, was completed in February 2009.5 The project’s aim was to ensure that ISAs have clear objectives and that each standard distinguishes what the auditor absolutely shall do when carrying out an audit, from guidance on how to achieve this. In the process of clarification, some standards have ultimately been revised quite considerably (and more than was originally anticipated). In total, the Clarity Project has produced 36 updated and clarified ISAs, and a clarified International Standard on Quality Control (ISQC). The standards are to be applied to audits of financial statements for reporting periods beginning on or after 15 December 2009.

The EU similarly continues to review the feasibility of a formal EU endorsement of ISAs. In 2003, the European Commission issued a communication titled Reinforcing the statutory audit in the EU, announcing that it intended that ISAs would apply to all statutory audits in Europe. It emphasized, though, that this required the public interest to be fully taken into account in the IAASB’s standard-setting processes, with a subsequent communication reiterating that the EU needs to be content that ISAs are “developed with proper due process, public oversight and transparency”, and that IFAC’s governance arrangements are adequate to ensure the pursuit of the public interest, specifically that the standards are “conducive to the European public good”. In the Statutory Audit Directive issued on May 17, 2006, it repeated this message, while at the same time the text of the directive indicated that it was expected that ISAs should become EU’s auditing standards, ultimately to be legally binding in all member states.

IFAC has moved towards satisfying these demands through establishing an active Public Interest Oversight Board (PIOB), and, as indicated above, has developed ISAs through the Clarity Project. The members of the PIOB have been selected by leading institutions in the international regulatory community, including IOSCO, the Basel Committee on Banking Supervision (BCBS), the International Association of Insurance Supervisors (IAIS), the European Commission, World Bank, and the FSF/FSB. Included in the activities of the PIOB is monitoring all the meetings of IFAC’s standard-setting committees, making this a very active process of oversight. Thus, IFAC appears to have satisfied one of the regulators’ requirements to improve governance arrangements by clearly including the public interest.

The ISAs are moving towards being the global standards for auditing, although the US is, as yet, not abandoning its own auditing standards. Up until 2002, the American Institute of Certified Public Accountants (AICPA) was responsible for setting standards for auditors, but, in the wake of the Enron scandal and others like it, that responsibility was removed from them and given to a new independent body under the supervision of the Securities and Exchange Commission (SEC). This Public Company Accounting Oversight Board (PCAOB) has its own processes for setting independent audit standards, and extraterritorial powers of regulatory reach in relation to audits of US-quoted companies. The SEC’s proposed roadmap for US-listed companies to move to IFRS is currently under consultation. Supportive action here could certainly aid the chances of ISAs becoming truly “world standards”, although there are signs that the Obama administration is less keen than its predecessor on IFRS adoption.6

It is also important to point out that, while scandals such as Enron regularly illustrate the international significance of both auditor independence and competence, international independence standards remain some way off. While IFAC’s Code of Ethics for Professional Accountants7 provides a potential international regulatory solution in this area, the lack of international consensus on the issue of auditor independence is such that regulation here is more likely to be of national or regional orientation, influenced strongly by related legal structures.

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