British auditors have been told by the UK industry watchdog to show greater scepticism when assessing company accounts in the wake of high profile corporate scandals.
The Financial Reporting Council on Thursday published “professional judgment guidance” for accountants to improve their approach to auditing.
It has warned auditors that poor professional judgment had become one of the most significant issues affecting the standard of their work in the UK.
As part of the new guidance, the FRC has flagged that professional scepticism was “a key part of an appropriate auditor mindset, supporting the quality of judgments made on the engagement and, through these judgments, the overall effectiveness”.
It has set out a number of ways that auditors can better approach this as a mindset, as well as specific practical examples for use. The FRC said that this sort of “mindset” guidance was the first of its kind. It includes a framework for making professional judgments.
Andrew Likierman, professor of management practice and former dean of the London Business School, said the new guidance would help auditors “track down what has hitherto been that elusive animal — good professional judgment — [and] as a result keep them out of the wrong kind of headlines”.
He added that traditionally one of the main safeguards of audit quality had been professional scepticism. “Carillion and Patisserie Valerie are the most notorious, Galliard Try and Keir the most recent firms where the audit, one way or another, has gone wrong. This rightly encourages rigorous questioning of information provided by management.”
Mark Babington, the FRC’s executive director of regulatory standards, said that professional judgment was a “fundamental requirement for high quality audit”.
He added: “Unfortunately the FRC’s supervision and enforcement work regularly finds professional judgment has not been exercised effectively and consistently, undermining audit quality and trust in audited accounts.”
The guidance focuses on the “mindset” of the auditor given the typical “latitude for the individual or team making a professional judgment to decide on the appropriate approach in the circumstances”.
The new guidance comes in the wake of several large corporate scandals, including bakery chain Patisserie Valerie and outsourcer Carillion.
The FRC is seeking to improve the guidance and rules governing audit even though proposed legislation to help turn the group into a more effective regulator were only included in the Queen’s Speech this year in draft form. This could delay the long-awaited plans even further, with the new audit watchdog unlikely to be in place until after 2023.
The FRC said that professional judgment was needed on a range of important areas from risk assessment, fair values and going concern to the interpretations of standards and assessment of evidence.
It added that firms that do not use or consider this guidance will need to be prepared to explain how they have complied with the relevant engagement standards.
Sotiris Kroustis, partner and head of public policy at PwC UK, said that professional judgment was “subjective, complex and at the heart of what we do as auditors”.
He added: “This guidance is helpful not just for those undertaking audits, but for other parties involved in preparing financial statements, and we encourage it to be used constructively by all those involved in the financial reporting chain.”