In recent decades the creep in complexity in the International Auditing Standards (ISAs) has made it difficult for auditors to do appropriate and cost-effective audit work for their SME clients.
Using the full might of the ISAs on something like the local bowling club is a bit like using a rocket launcher to kill a mouse.
The IIASB has acknowledged this is a recent discussion paper. The chairman, Prof. Arnold Schilder says:
“Smaller entities make a critical contribution to the world economy, and quantitatively the majority of audits globally are audits of smaller entities. The ongoing challenges relating to the complexity and difficulties in applying the International Standards on Auditing (ISAs) faced by those auditing smaller entities is an area that is of particular importance to the Board, and to me personally.”
The paper uses the term “Less Complex Entities” (LCEs). The IAASB Glossary defines these as entities which typically possesses qualitative characteristics such as:
a. Concentration of ownership and management in a small number of individuals (often a single individual – either a natural person or another enterprise that owns the entity provided the owner exhibits the relevant qualitative characteristics); and
b. One or more of the following:
i. Straightforward or uncomplicated transactions;
ii. Simple record-keeping;
iii. Few lines of business and few products within business lines;
iv. Few internal controls;
v. Few levels of management with responsibility for a broad range of controls; or
vi. Few personnel, many having a wide range of duties.
The report acknowledges that 129 jurisdictions use, or are committed to using, the ISAs (up from some 90 countries in the mid-2000’s), however the vast majority of entities being audited are being saddled with requirements designed for large complex entities.
They state that “there is a growing perception in some jurisdictions that the increasing length and complexity of standards may lead to overly costly audits in the LCE sector of their economy.” This is what I hear from our clients all the time.
The scope and complexity of the ISAs can then actually act as a barrier to auditors reading and understanding them, result in a perceived ‘checklist-approach,’ with a greater focus on compliance rather than using professional judgment, leading to increased documentation in audit files, with no perceived commensurate benefit (!)
So what has been designed to increase audit quality can potentially lead to a reduction in audit quality as the auditor, overwhelmed by the content and requirements, struggles just to complete the checklists, taking his or her eye off the real task, and in the process blows a huge hole in the wall while the mouse runs away!
So where is this going? IFAC has developed a “Guide to Using ISAs in the Audits of Small and Medium Sized Entities”. There is some great content and background reading but if you are looking for shortcuts it doesn’t really reduce complexity that much.
The Nordic Federation of Public Accountants has produced an excellent draft standard called “Nordic Standard for Audits of Small Entities”. This basically reduces all the essentials of the ISAs into one standard.
In our development of our audit templates we are always aware of this tension between complying with the full requirements of all the ISAs and taking a sensible approach for our users whose client base often consists solely or mainly of SME/LCE type work. A template based on the Nordic Standard would be awesome, but may not perhaps please Practice Review.
We always welcome suggestions from users as to how we can cater better for LCEs, so please do contact us with your suggestions. We follow this discussion from IAASB with interest.