Key takeaways from the FRC Audit Quality Inspection Results 2020/21
The Financial Reporting Council’s (FRC’s) Annual Audit Quality Inspection results for 2020/21 were released in July. The reviews cover the UK’s seven largest audit firms: The Big Four plus BDO, Grant Thornton and Mazars.
To the envy of all others, each of these seven firms has a team of highly experienced individuals, who are dedicated to improving audit quality in their firms.
But if the audit profession is to improve the quality of its work, which is the overall message in the FRC’s overview of the results, we must embrace the “Black Box Thinking” of the aviation industry. To understand the cause of the issues identified and support the profession in mitigating against these issues happening again.
The 7 individual reports sum to 239 pages and there is wealth of valuable insights within. As well as the key findings the FRC has noted during their individual audit reviews, the reports include the results of the firm’s root cause analysis on the issues identified, the broader actions they are taking, good practices noted and assessments of firm wide procedures.
So, what can accounting firms outside the largest seven learn from the FRC’s reviews in 2020/21?
Overall quality results
Overall, 71% of the audits reviewed by the FRC achieved the highest rating, up from 67% in the prior year – with 29% of audits achieved the lowest rating, down from 33%. While positive variations, the result still indicate than approximately 1 in 3 audits reviewed is not meeting quality expectations. More significant changes are needed for audit quality improvements to register in a more meaningful way.
PwC, Deloitte and EY achieved nearly identical inspection results, with 79-80% of audits achieving the highest rating. None of these firm’s audits achieved the lowest rating. KPMG however had notably poorer results than their Big 4 counterparts, with only 59% of audits achieving the highest rating and 5% in the lowest category.
Across the mid-tier, or challenger, firms Grant Thornton registered a standout performance, with 86% of their audits in the highest category – the highest figure for any firm. BDO and Mazars are now expected to implement additional measures to support high quality audit after registering the lowest grading across all seven firms inspected.
The quality results for each firm are compared below.
Key findings identified
Reviewing the key findings withing each of the seven firm reviews we can identify some of the key themes where the FRC are highlighting quality concerns.
The most common topic raised related to the challenge of management estimates and assumptions. This topic was raised in all 7 of the reports, showing how pervasive the issue is across firms. Judgemental areas of the financial statements such as going concern and impairment assessments were commonly cited as lacking audit work of a sufficient standard.
Revenue testing also remains an issue. Comments were raised in areas linked to judgement, such as long-term contract income, as well as testing approaches used, such as the use of cash receipts reconciliations.
Areas such as fraud and journals testing, group engagements and pension schemes also attracted comments across multiple firms, showing issues remain in the more complex aspects of an audit engagement.
The key findings for each firm are compared below.
Good practice comments
As well as highlighting quality issues as key findings, the FRC also reported several good practices it observed in each firm during inspections.
Given the nature of each firm having multiple audits reviewed, a topic which is a key finding for a firm on one audit may also be a good practice in another audit by the same firm. 4 firms received good practice comments relating to challenge of management estimates and assumptions, with 4 firms complemented on their group audit approach and 2 on their revenue testing.
The reports of 5 firms also included positive comments regarding going concern testing – a high-risk are on many audit engagements over the past year. The effective use of internal specialists was also commented on for 3 firms.
The FRC also complemented 2 firms on their use of audit data analytics. For one of these firms, a user of Inflo’s audit data analytics, the FRC commented “audit data analytic techniques were used effectively on revenue and journals to enable a targeted audit response to risks identified in those areas”. This further evidences the FRCs view on the role audit data analytics can play in audit quality, building on previous thematic reviews on the topic such as “The use of technology in the audit of financial statements”.