EXTERNAL AUDITOR EVALUATION OF THE INTERNAL AUDIT FUNCTION

This study examines the relative importance of the factors used by external auditors when valuating an internal audit function. The study also examines the consistency of external auditors in making evaluations of an internal audit function. The factors used are based on Statement of Auditing Practice AUP 2 “Using the Work of an Internal Auditor” and a similar study conducted in the U.S.A. The two factors which this study finds to be the most significant are ‘technical competence’ and ‘due professional care’. The study finds a high degree of consensus across the respondents with respect to the evaluation of the internal audit function, and a high degree of insight and stability in their judgements.     

Topical coverage in internal auditing: academic versus practitioner perceptions

This study reports the results of research that investigates whether a gap may exist between academic content and practitioner needs in the area of internal auditing within the USA. Questionnaires were sent to internal auditing faculty and practitioners to identify and quantify the perceived importance of 25 different internal auditing topics, as well as the use of case studies and practitioner classroom visits as pedagogical techniques. Groups were in substantial agreement on the relative importance of the topics. However, some specific topic differences were noted, with educators placing more importance on items including engagement planning, preliminary surveys, audit programmes, risk management and fraud. Practitioners placed more importance on the qualities desired in staff internal auditors, Certificate in International Auditing (CIA) examination preparation, and computer auditing. In addition, there was considerable agreement between the two groups on the use of case studies in the classroom, as well as classroom visits from practicing internal auditors.     

The use of analytical procedures by external auditors in Canada

The Enron debacle and other scandals highlight the issue of whether analytical procedures (APs) or more traditional audit approaches based on substantive testing are more appropriate. This paper surveys the use of APs by Canadian external auditors and augments understanding of the impact of auditing standards on professional practice. Our results demonstrate that APs are extensively applied in practice, particularly by larger firms, and that their use dominates the final review stage of the audit regardless of firm size. While standards do not appear to be an important influence upon practice for audit firms in general, this is not the case for smaller firms. Though auditors place more reliance on APs to reduce tests of detail, there are limits to this reliance. Our results indicate that while auditors may have increased their use of APs with the expectation of efficiency gains, these may be realized at present only partially.     

Inherent risk: An investigation of auditors' judgments

The assessment of inherent risk is a judgment required of auditors by Statement on Auditing Standards 47 (Auditing Standards Board, AICPA, New York, 1983) that normatively affects the scope of work performed on audit engagements. This study explores the judgments of auditors concerning inherent risk in inventory. Four inherent risk factors were examined: turnover of the controller, financing pressure, the amount of complexity of overhead in inventory, and the quality of the personnel responsible for the inventory calculation. A human information processing approach employing ANOVA was utilized to determine the relative reliance on these factors in the inherent risk judgments of 65 practicing auditors. Correlation techniques were used to measure consensus, reliability, and self-insight.The results suggest that although all four inherent risk factors were important to auditors, quality of personnel was the most significant. Reliability was slightly lower than in previous research, but was still fairly high. Self-insight was moderate.     

PROFESSIONAL SOCIALISATION, COMMERCIAL PRESSURES AND JUNIOR STAFF'S TIME-PRESSURED IRREGULAR AUDITING—A CONTEXTUAL INTERPRETATION

Research suggests a correlation between commercial concerns, time pressures and junior staff's ‘irregular auditing’ that results in audit failures. This article examines junior staff's irregular auditing in the context of trainees' normal auditing responsibilities and the specific nature of time pressures at their firms. The discussion recognises that omnipresent commercial concerns often leads to adoption of new audit methods that may militate against time pressures. Empirical evidence from in-depth interviews is used to highlight that firms that use risk-based auditing expect their trainees to help realise commercial gains by focusing audit work on areas where material misstatements could occur. The evidence shows that trainees do concentrate work on areas where material misstatements could occur. Acts that reduce audit quality occur in other areas and may often be seen by senior staff who may sanction extra work, if necessary. The article uses these findings to infer that junior staff do not have low regard for audit protocol.     

Human Information Processing the Consistency of Audit Risk Judgments

This research utilises the human information processing methodology to determine whether audit risk judgments are consistent with those obtained by using the audit risk model advanced by Statements on Auditing Standards (SAS) Nos. 39 and 47. The effects of two audit-risk specific factors (the level of algorithmic audit risk and the combination of components of audit risk) are examined. The results of analysis of variance (ANOVA) procedures and cue-utilisation indices reveal that some of the auditors' judgments are inconsistent with the multiplicative nature of the audit risk model. In addition, evidence suggests that auditors affiliated with regional and local firms may depart from the audit risk model when substandard tests of details procedures are performed. The differences noted in the judgments of Big Eight auditors and regional and local auditors indicate that modified versions of the audit risk model may be employed by auditors in different types of audit engagements.     

An Analysis of Comment Integration Involving SAS 54

The process by which auditing standards are established in the United States was criticized by the late Senator Metcalf (1977) and more recently by the Treadway Commission (1987). Their allegations involving the Auditing Standards Board (ASB) encompass many perceived deficiencies, ranging from the charge that the large accounting firms dominate the standard-setting process, to the notion that the auditing standards currently promulgated do not address emerging policy issues on a timely basis. However, despite these criticisms, there is a paucity of empirical research involving the actual formulation of auditing standards in the United States. Accordingly, this research investigates certain behavioural facets involving the evolution of Statement on Auditing Standards No. 54, Illegal Acts by Clients , along certain dimensions, including audit-firm size. Specifically, the paper examines reactions to the exposure draft of SAS 54 and the extent to which written suggestions were incorporated into the final standard. The results do not support the proposition that either audit firm size or an employee's membership on the ASB has a significant impact on achieving the integration of a respondent's comments into the final audit statement.     

The Effect Of The Longform Audit Report On Users‘ Perceptions Of The Auditor's Role

This study examined the effect of the new longform auditor's report on users' perceptions of the auditor's role in financial reporting in Australia. One hundred and eighty financial report users took part in the study, including 60 senior bank lending officers, 60 investors and 60 non-investors with business backgrounds. The results of the study indicated that the changed wording of the longform audit report advocated in the revised Statement of Auditing Practice AUP 3 The Audit Report on a General Purpose Financial Report, issued in July 1993, significantly increased users' understanding of the role of the auditor, the nature of the audit process and the financial reporting process.     

An Empirical Investigation of the Influence of Qualitative Risk Factors on Canadian Auditors’ Determination of Performance Materiality*

This paper presents the results of a field experiment that tested the effects of various qualitative risk factors suggested by auditing standards and prior literature on practicing Canadian auditors’ estimates of performance materiality, a concept introduced by Canadian Auditing Standard (CAS) 320, in the audit of specific accounts in a financial statement audit. Ninety‐four practicing auditors responded to four scenarios and, based on “good” and “bad” versions of six qualitative risk factors, revised or not, as they deemed appropriate, initially established performance materiality for the audit of four different transaction streams/account balances. For all four scenarios, on average, the auditors revised, to a statistically significant degree, performance materiality, downward on the basis of “bad” information and upward on the basis of “good” information. Different combinations of transaction streams/accounts and risk factors were associated with different magnitudes of revision. However, at the level of individual participants, responses were quite varied. Some participants did not revise performance materiality and some even stated that performance materiality should not be revised based on risk‐related information. It may be that the concept of performance materiality as promulgated in CAS 320 and the relationship between overall materiality, performance materiality, and risk requires clarification to provide appropriate guidance for auditors to make performance materiality judgments.     

Teaching audit reports: A flowchart approach

The effective and efficient communication of audit report material for historical generally accepted accounting principles (GAAP)-based financial statements is a challenging task for auditing educators. A sizable number of auditing standards focus on this subject matter. Moreover, several recent expectation-gap standards, notably Statement on Auditing Standards (SAS) No. 58, impact directly on the reporting issue. Two instructional issues are of concern with regard to audit report materials. They are (a) the complexity of the material and (b) timing-when this material should be presented. With respect to the complexity issue, SAS No. 58 and related standards are so complex that many auditing students are overwhelmed by the topic. With regard to timing, some instructors feel a need to communicate an overview of the reporting process when the topic is first introduced and then deliver a more detailed discussion later in the course. To address the complexity and timing issues, this paper illustrates two different levels of flowcharts. These materials may be used in the classroom by accounting educators to effectively communicate the set of reporting conditions and the related audit report responses.     

Performance Audit Scope and the Independence of the Australian Commonwealth Auditor-General

The introduction of performance auditing through the 1979 Australian Audit Act amendments continues to challenge the Australian Commonwealth Auditor-General's independence. By international consensus, performance auditing includes effectiveness issues. In contrast, the Australian amendments omit reference to 'effectiveness' issues and do not define 'efficiency' audit. Interpretation of these omissions varies. The Australian National Audit Office sees no prohibition on including effectiveness audit. But successive governments have attempted to curb the CAG's independence by excluding effectiveness auditing as a forbidden intrusion into policy areas; an exclusion that the ANAO rejects in relation to audit of effectiveness at operational levels. This study investigates the practical effect of these conflicts on performance audit scope. The results show that the ANAO consistently goes beyond audit of economy and efficiency to make substantive recommendations on effectiveness issues.     

Alternatives for addressing major challenges in teaching introductory auditing courses

Due to the numerous and extensive recent changes in business, regulatory, and auditing environments, instructors are faced with difficult choices when designing an introductory auditing course that sufficiently meets the needs of students and the firms that will employ them. Instructors whose students are primarily hired by firms that audit SEC registered companies, for example, might allocate significant class time to PCAOB Auditing Standard No. 5 [Public Company Accounting Oversight Board (2007). Board proposes new standard on internal control over financial reporting. www.pcaob.com]. On the other hand, instructors whose students are primarily hired by firms that audit non-SEC registered companies, might allocate significant class time to reviews and agreed-upon procedure services. This paper presents four alternatives for designing introductory auditing courses, and discusses some of the major issues and constraints that instructors should consider in choosing which alternative best suits their needs. Finally, the paper provides an example that illustrates the differences among the four alternatives by discussing how each might incorporate one such specific regulatory change—PCAOB Auditing Standard No. 5.     

The Differential Impact of the Force of Law Australian Auditing Standards

This qualitative study explores whether the impact of the introduction of the legally enforceable Australian Auditing Standards (ASAs) differs between audit firms based on their size. It complements and extends the Australian Government's pre‐implementation April 2006 Regulation Impact Statement ( AUASB 2006 ) and Hecimovic et al.'s (2009) study exploring the perceptions of key stakeholders. The results of the current study, based on data from extensive interviews with auditors from small, medium and large audit firms, suggest that compliance with the legally enforceable ASAs does not appear to increase perceived audit quality or public confidence. The study also finds that the costs/benefits to small audit firms and their clients differ to those of medium and large firms, raising questions about the viability of smaller firms remaining in the audit market.     

A Framework for Identifying (and Avoiding) Fraudulent Financial Reporting*

This commentary analyzes the relationship of fraud risk assessments to other risk assessments by auditors. The Public Company Accounting Oversight Board notes that this is a problem area of current practice. Effective detection of fraudulent financial reporting requires an integrative accounting/auditing conceptual framework. As a result, this paper is as much about accounting theory as it is about auditing. To simplify the development of such an integrated framework, this paper uses an expanded risk model. This effectively results in a risk perspective on fraudulent financial reporting. There are many potential implications but the major findings are as follows. First, the study identifies the crucial role of benchmarks based on acceptable levels of risk to help differentiate between intentional and unintentional misstatements. Such differentiation is critical to successfully implementing the American Institute of Certified Public Accountants' Statement on Auditing Standards (SAS) No. 99 and international standards ISA Nos. 240, 540, and 700. Second, the paper shows the importance of not allowing the major categories of risks identified here from getting too high. This paper explains the need to set acceptable levels of these risks, either by standard‐setters as a matter of broad policy, or by individual practitioners as part of the terms of specific engagements. I propose that a major factor in the concept of “present fairly” be the acceptable levels of accounting risks that are defined here, especially the risks due to intentional forecast errors. Third, this paper clarifies how the fraud risk of SAS No. 99, and similar international standards, relates to the current audit risk model framework.     

The acceptance and adoption of continuous auditing by internal auditors: A micro analysis

The umbrella of “advanced technology” covers a range of techniques widely used in the U.S. to provide strategic advantage in a very competitive business environment. There is an enormous amount of information contained within current-generation information systems, some of which is processed on a real-time basis. More importantly, the same holds true for actual business transactions. Having accurate and reliable information is vital and advantageous to businesses, especially in the wake of the recent recession. Therefore, the need for ongoing, timely assurance of information utilizing continuous auditing (CA) and continuous control monitoring (CM) methodologies is becoming more apparent. To that end, we have conducted interviews with 22 internal audit managers and 16 internal audit staff members at 9 leading internal audit organizations to examine the status of technology adoption, to evaluate the development of continuous auditing, and to assess the use of continuous control monitoring. We found that several companies in our study were already involved in some form of continuous auditing or control monitoring while others are attempting to adopt more advanced audit technologies. We also made a large number of surprising observations on managerial, technology training and absorption, and other issues. According to our audit maturity model, all of the companies were classified between the “traditional audit” stage and the “emerging stage,” not having yet reached the “continuous audit” stage. This paper,¹ to our knowledge, is the first to study CA technology adoption in a micro level by an interview approach.     

AE Briefings — Statement of Intent

This paper seeks to address the perceived failure of university teaching to foster critical understanding of audit practice and to identify a potential remedy. It contributes to the debate (Maltby, 2001, “Second thoughts about ‘Cases in Auditing’,” Accounting Education: an international journal, 10(4), 421–428) by investigating the double-faceted nature of auditing: as a sub-set of the academic discipline of accounting and as professional practice. Although case studies are helpful for students of auditing, they tend to be artificial, or at best, retrospective. This paper introduces a different type of case study for audit education using corporate failure stories from the media as an example, proposing and explaining the notion of the ‘living case’ in order to foster critical appraisal of audit practice. It contributes to the literature on audit education by describing how this different type of case can address both the technical activities and the social practice of audit through Kolb's (1984, Experiential Learning: Experience as the Source of Learning and Development, Englewood Cliffs, NJ: Prentice Hall) experiential learning theory and thus concludes that there is a place for the practical nature of auditing in academic study, in order to fully appreciate the social aspects.     

From common sense to expertise: Reflections on the prehistory of audit sampling

This essay argues that sampling emerges as a claimed “technique” in auditing in both the U.K. and U.S.A. much later than is commonly imagined. While practical auditing texts provide evidence that auditors were selective in testing prior to 1900, this is not explicitly articulated as sampling at least until the 1930s. Accordingly, statistically based sampling develops to rationalise practices that had been in place for some years and to invest auditing with a new scientific authority. The essay further suggests that the history of development in auditing technique may be decoupled from changes in audit objectives. Overall, the argument represents a preliminary stage in a wider programme for understanding auditing in its social and organisational context.     

AN EMPIRICAL INVESTIGATION OF THE AUDIT EXPECTATION GAP: AUSTRALIAN EVIDENCE

This paper examines the existence and nature of the expectation gap in Australia and whether recent changes to the wording of audit reports have affected that gap. A mail questionnaire was completed by auditors, accountants, directors, creditors, shareholders and undergraduate students. There was a gap between auditors and the various user groups under the old report wording prior to the issuance of the revised AUP 3. The modified wording in the revised AUP 3 had a significant impact on beliefs about the nature of an audit and the relative responsibilities of auditors and management. The modified wording eliminated some of the differences, but also created some new differences in beliefs about the messages communicated through audit reports. The auditing profession's fears about an expectation gap appear to be justified.     

The joint influence of client attributes and cognitive moral development on students’ ethical judgments

Academic interest in the ethical quality of accountants’ judgments has produced a steady stream of research addressing the role of education in fostering ethical behavior. Although various studies have evaluated the cognitive moral development of accounting students, few studies have considered the influence of accounting contextual factors on ethical judgments. This study evaluates the influence of cognitive moral development and a contextual factor, client risk level, on both ethical judgments and behavioral intentions. Results from a study of auditing students indicate that students with higher moral development evaluate earnings management as less ethical and are less likely to accept earnings management by an audit client than are students with lower moral development. Students in a high client risk scenario evaluated earnings management as less ethical and were also less likely to accept earnings management by an audit client than were students in a low client risk scenario. The results also show an interaction between client risk and moral development.     

An Investigation of Auditors’ Judgments When Companies Release Earnings Before Audit Completion

The majority of U.S. public companies release annual earnings prior to the completion of audit fieldwork. We investigate this phenomenon in a controlled experiment with audit partners and senior managers. We find that releasing earnings before completion of the audit pressures auditors to adopt the goals of management, thereby reducing the likelihood of post‐announcement audit‐adjustment recommendations. We also examine the effect of audit committee (AC) strength in improving auditors’ judgments after annual earnings are released. When ACs are actively involved in accounting issues and proactively communicating with auditors—characteristics currently lacking in most ACs—the negative effects on auditors’ judgments are completely mitigated. Our study provides evidence on potential unintended consequences of early release of earnings and the importance of investing in high‐quality ACs to mitigate adverse effects of client pressures on audit judgment and financial reporting quality.