By James L. Craig, Jr., with Douglas R. Carmichael and Dan M. Guy
Is the World Ready for GAIAS?
Generally accepted international accounting principles (GAIAP) may soon be the standards of choice in financial statements used for global securities markets. But what about generally accepted international auditing standards?
Are they of high quality, and is there a system of self-regulation to protect the public?
The CPA Journal and members of its Editorial Board met with IFAC's technical director to find out.
The International Federation of Accountants (IFAC) has a vision of a high-quality, transparent global financial reporting system supporting the free flow of capital throughout the world. Financial statements would be prepared in accordance with international accounting standards and audited in accordance with international auditing standards.
The first part of the vision, financial statements prepared in accordance with international accounting standards, may not be that far off. The International Organization of Securities Commissions (IOSCO), of which the SEC is a member, is currently evaluating the core set of international accounting standards developed by the International Accounting Standards Committee (IASC) for acceptability in cross-border filings. The SEC is making its own review and recently issued a concepts release asking about the experiences users have had with international accounting standards, whether they can be interpreted rigorously, and whether there is an appropriate financial reporting infrastructure within which credible financial statements are transmitted. In the SEC's view, this infrastructure would include--
* effective, independent, and high-quality accounting and auditing standards setters;
* high-quality auditing standards;
* effective quality controls at audit firms worldwide;
* profession-wide quality assurance; and
* active regulatory oversight.
The concepts release appropriately explains at great length the current status of international accounting standards setting and the work and recent restructuring of IASC. But the second part of the IFAC vision, audits conducted in accordance with international auditing standards, may be farther away. Although the SEC concepts release identifies the need for high-quality auditing standards, it makes no mention of international auditing standards or the International Auditing Practices Committee (IAPC).
IAPC. As described in an October 1999 CPA Journal article by IAPC Chair Robert S. Roussey, IAPC is the international equivalent of the Auditing Standards Board. International auditing standards, not unlike international accounting standards, have been evolving from guidelines for harmonization of national standards to true standards. Roussey also described IAPC's relationship to IFAC, which has the objective of incorporating international auditing standards into a total financial reporting system that includes ethical conduct, corporate governance, high-quality accounting standards, and effective self-regulation and governmental regulation.
IAPC is appointed by the IFAC Council, the international organization of national accountancy bodies. The AICPA, Institute of Management Accountants, and Institute of Internal Auditors are members of IFAC, which was chartered to develop international auditing standards and best practices. Acceptance of the standards is on a voluntary basis by the national member bodies with the authority to do so.
The Similarities End
Although international accounting standards and international auditing standards have evolved in much the same way, their progress toward becoming the global standards of choice is proceeding at different paces. The global securities markets, led by IOSCO, are pushing international accounting standards into the limelight. But what is the moving force behind the adoption of international auditing standards over national standards?
One person making the case is Jim Sylph, the recently appointed IFAC technical director. One of Sylph's major objectives is to elevate the standing of international auditing standards around the world while helping IAPC to address important emerging audit issues and develop high-quality auditing standards. CPA Journal Editor-in-Chief James L. Craig, Jr., and Editorial Board members Douglas R. Carmichael and Dan M. Guy met with Sylph to explore the future of international auditing standards and ask whether they would ever replace U.S. GAAS.
The lack of IOSCO endorsement or even commitment to endorse IAPC standards is an obvious missing ingredient in moving international auditing standards to a level of global prominence. According to Sylph, IFAC has been seeking IOSCO endorsement of the core body of international auditing standards since about 1995. IOSCO has deferred addressing the issues until it has fulfilled its commitment to determining the appropriateness of international accounting standards. IOSCO has indicated that it would like to develop a process for accepting the IAPC standards, and Sylph hopes to meet with IOSCO in the first half of the year to help speed its involvement. IOSCO has assembled a team that will examine existing standards, consider those on the work program, and identify areas, if any, where additional standards are needed before the IOSCO imprimatur could be given.
IFAC wants the same level of approval from IOSCO for auditing standards as accounting standards. The ultimate recognition would be securities commissions', including the SEC's (after due process), acceptance of financial statements audited in accordance with international auditing standards as part of regulatory filings in their respective countries.
Best Kept Secret in North America
Unlike the recent restructuring of the IASC Board (see The CPA Journal, May 2000), there are no plans at the moment to overhaul the basic structure behind the setting of international auditing standards. The 14 members of IAPC are appointed by the national accounting bodies of the countries designated by IFAC Council and serve for 2 wQ- year terms. The board members do not represent any constituency and vote their consciences. IAPC's meetings, held in various cities throughout the world, are not open to the public; however, proposed standards are exposed for public comment, usually for 90 days, through mass mailings and posting on IFAC's website (www.ifac.org). During the comment period, the member bodies have time to translate the document in their own languages for full debate; IAPC's official language is English.
Final statements are distributed in paper form and electronically. According to Sylph, typical exposure draft respondents are accounting bodies, accounting firms, academics, and regulators. Few state CPA societies respond.
Sylph commented that even though its administrative roots are in New York City, IAPC--and for that matter, IFAC--is one of the best kept secrets in North America. IAPC's work is not well known because its most significant contributions have been to countries with less-developed national accountancy bodies. In addition, the North American stock exchanges are not clamoring for international auditing standards. Sylph noted, however, that because of the geographical proximity of its many countries, Europe is much more interested in IAPC standards.
IAPC has no public members; they are all CPA and chartered accountant (CA) types. Although there are no permanent national seats, a number of countries always receive a seat because their contribution is viewed as critical: Australia, Canada, France, Germany, the Netherlands, the United Kingdom, and the United States. Currently there are also members from Brazil, Hong Kong, India, Italy, Japan, and Taiwan.
A two-thirds majority is needed to pass an international auditing standard. The board's votes are not made public.
Sylph noted that a few relatively minor proposed changes to IAPC will be considered at IFAC's May Council meeting, to be held in Edinburgh. The changes would increase the size of IAPC and lengthen the term of service to three years, with new members taking office on a staggered basis, one-third every year. IAPC is also looking at ways of making its deliberations more public in an international forum. Roussey, the present IAPC chair, represents the United States, and his term expires this June. The AICPA will designate his replacement.
Each member is permitted to bring two technical advisors to each meeting. Dan Guy, while at the AICPA, served as one of the U.S. advisors. Many IAPC members are practicing partners in firms and not experienced in writing standards. Here the technical advisors play a vital role, Sylph said. Other members are technical partners, usually from large firms, who bring their firms' extensive resources to the committee's work.
The success of the standards requires international appeal and perspective, possessing practical applicability in Taiwan or Sri Lanka. Sylph said that a major objective is to have the standards accepted and used in the more sophisticated global capital markets while remaining relevant in all IFAC member countries.
"Unless someone steps forward with huge amounts of money, a full-time IAPC would be out of the question," Sylph said. Cost is a major consideration. IASC board members, which will become full-time January 1, 2001, will be paid around £300,000 annually, the chair £400,000. If national resources were pooled, a full-time international auditing board might be possible. Sylph said that, unlike FASB and the AICPA, IAPC and IFAC do not receive significant revenue from publications. He indicated that IFAC will be introducing a more aggressive pricing policy for all its publications in the months ahead.
Sylph's personal vision for a more effective IAPC role in international markets would include a full-time board chair who would be both technically adept and a very visible spokesperson on global auditing issues at international forums. Sylph paid tribute to Roussey's contribution, which has included voluntarily doing many of the things a full-time chair would be paid to do, and expressed concern that full-time board members might lose the perspective of the working auditor.
The Effect of State Licensing
In the United States and many other countries, CPAs are licensed by local jurisdictions. In Sylph's ideal world, where international auditing standards prevail, the question arises as to whether local licensing jurisdictions would only allow CPAs or CAs to issue reports under international auditing standards. Sylph wants international standards to be usable by anyone who meets the ethical and competency requirements (i.e., a CA meeting the educational and experience requirements should be able to perform an audit in the United States under international standards).
He identified two ways in which international auditing standards would gain acceptance: Either the laws of the country or jurisdiction would have to be changed to permit the use of international standards or the local regulatory or self-regulatory standards setter would have to adopt the international standards as its own. In the United States, this would mean changing the laws of jurisdictions to permit the use of both AICPA and international standards or replacing AICPA auditing standards with international standards.
It will be a long time before the international standards take precedence over local standards in the United States, according to Dan Guy, who sees the possibility that each U.S. auditing standard would contain a section describing how it differs from its international counterpart. Guy also sees the ASB paying closer attention to international standards than it used to, primarily because of the work of its international auditing standards standing subcommittee, whose stated purpose is to support the ASB's leadership role in the development of international standards.
Douglas Carmichael believes that greater recognition of international standards will not be achieved unless a public interest perspective is injected into the process in a meaningful way. Public trust will not come without greater involvement of public interest representatives.
While some years away, the ultimate role of national audit standards setting, as Guy sees it, lies in supplementing international standards for unique local conditions and needs, with the national role becoming secondary. Sylph notes that this is already happening in many countries. Germany, the Netherlands, New Zealand, and the United Kingdom are just four of the more than 50 countries that have completely accepted international standards on auditing as their own, and according to Sylph the two French auditing institutes (Commisaires aux Comptes and Ordres des Experts Comptables) will soon jointly announce that they have accepted them too. Those institutes will now focus their attention on the unique needs of French entities not covered in international auditing standards. Both Sylph and Guy think this is the right model.
It's More than Just Standards
The portion of the SEC concepts release that addresses auditing concerns seems to presume that U.S. GAAS is the benchmark for evaluating auditing standards and goes on to explore the need for auditors to operate under an effective quality control system. The SEC, for example, seeks comment on the need for quality control procedures, such as internal working-paper inspection programs, external peer reviews for audit work, mandatory rotation of audit partners, and continuing education programs.
Guy envisions an effective auditing infrastructure as a pyramid with international auditing standards at the top followed by ethics and ethics enforcement, peer review (including its educational aspects), continuing professional education (CPE), and institutional education from colleges and universities. Guy said the standards are almost there, but the underpinnings of the pyramid have a long way to go. In most parts of the world, CPE is in the very elementary stages. Guy said that training materials and courses to help the various parties learn, understand, and apply international auditing standards are nonexistent. This causes problems for an organization seeking to have its financial statements audited in accordance with international standards.
Sylph pointed out that the International Forum on Accountancy Development, founded in June 1999 and sponsored in part by the major accounting firms, has begun to explore a quality control infrastructure for firms auditing multinational enterprises. A special meeting of the IFAC Council was held in January to consider a forum proposal that would include a worldwide peer review system. Sylph said that issues must be resolved in creating an international self-regulatory activity such as peer review, because it would have to somehow be superimposed over national regulatory and self-regulatory systems.
"The idea is right," Sylph said. "The implementation will be difficult. Let's see what response the SEC gets from its concepts release."
Areas for Improvement
Issuing Standards with Effective Dates. Sylph noted that IAPC intends to issue future standards with an effective date. The thinking had been that various national standards setters could proceed at their own pace during implementation, based upon how quickly a standard could be translated and absorbed. But Sylph believes that to make international auditing standards more useful, all entities should implement changes at the same time.
Increasing Output Without Sacrificing Quality. Sylph thinks the volume and speed of the development of new standards must be increased, but not at the expense of quality. This is a real challenge for voluntary members who are not compensated for their time and whose travel costs are paid for by their member bodies.
Encouraging Participation by Local Practitioners. Another difficulty, according to Guy, is convincing practitioners from local firms to become IAPC members. Without their input, standards may not address the concerns of smaller entities and firms--an important issue for accounting bodies in developing countries considering adopting international standards.
Addressing Cultural Differences. Sylph noted the difficulty of factoring in cultural differences when designing auditing standards. For example, the Japanese work ethic precludes questioning a superior. This can mean that senior audit staff and even audit partners do not have access to the senior executive officers of major client companies. How would the audit firm obtain representations from management at the appropriate level or learn of issues of which only the senior officers are aware? Sylph thinks the standards must be written without regard to cultural differences but with the recognition that they will be implemented within the culture that exists. Sylph also noted that professional skepticism as known and expected in the United States may not be as intense in other countries.
IAPC's Advisory Council
Sylph noted that IAPC has a consultative advisory group made up of members from various organizations with an interest in high-quality auditing standards. Attending are representatives of organizations such as the Basle Committee on Banking Supervision, the European Federation of Financial Executive Institutes, the Fédération des Experts Comptables Européens (FEE), the Bank for International Settlements, and IOSCO. The International Association of Insurance Supervisors has indicated an interest in joining the advisory group. Forty people attended a recent advisory group meeting in Europe, where the group usually meets and where the interest in international auditing standards is concentrated. A similar meeting in New York, Sylph said, would attract far fewer.
Why Not Adopt U.S. GAAS?
Sylph said he believes that adoption of U.S. GAAS as a basis for international auditing standards would not work. U.S. standards were written in a highly litigious environment, which doesn't exist to the same extent in other parts of the world. Also, many countries would not accept "Made in America" standards.
The quality of international auditing standards is very close to U.S. GAAS, Guy said, but gaps do exist (e.g., in the addressing of claims arising out of litigation. U.S. GAAS has a whole statement on the topic, whereas international standards have just a paragraph or two). Carmichael pointed out that in some areas, such as illegal acts, international standards are more rigorous than GAAS.
Overhauling the Audit Risk Model. An important project currently under way among Canadian, U.K., and U.S. auditing standards setters involves rethinking the audit risk model. The SEC asked the POB Panel on Audit Effectiveness to determine whether the trend toward risk-based auditing was in any way undermining audit effectiveness. The group's findings, which will, according to Sylph, be used by IAPC in deciding what changes to consider, are due in June.
Sylph mentioned that IOSCO is concerned about IAPC's approach toward the use of external confirmations. IAPC's thinking is that auditors should apply the audit risk model in determining whether confirmations can produce the required audit evidence. If not, they need not be used. IOSCO, on the other hand, seems to favor using more confirmations rather than less. Sylph indicated that IAPC is sitting on an exposure draft on confirmations awaiting developments elsewhere in the profession.
Auditing in a Computerized Environment. IAPC is in the midst of updating its less authoritative material on computer auditing but will not finalize it until discussions on the risk model are concluded. The updating that is currently under way will raise the material not quite up to the needs of 21st century North America but will be a big help to many others in the world.
Establishing an Ethical Framework. As in the United States, a separate IFAC ethics committee is responsible for establishing and monitoring a code of professional conduct. A strong framework of ethics founded on auditor independence is necessary for the success of a worldwide accounting profession. IFAC's ethics committee recently released a discussion paper on auditor independence that was proposed as an exposure draft at the May IFAC Council meeting.
The guidance will present new and innovative proposals for workable independence rules. Independence would be expected of all professionals participating in the engagement and all other persons that can directly influence the engagement. The proposals would also impose standards on immediate family members (as defined in the exposure draft) that differ from the standards imposed on close relatives.
Unlike the AICPA and the SEC, IFAC is strictly an advisory group. It does not monitor or discipline individuals for violations in behavior or failure to follow standards; its members are national bodies. Sylph acknowledged that there is no other regulator quite like the SEC. The other regulators don't have the resources or the apparent interest to assume a police or gatekeeper role.
Guy suggested that there might be a place for a division of firms in IFAC similar to the AICPA's SECPS and PCPS sections. Through membership requirements, including separate dues, IFAC could become a self-regulator and help create the structural framework desired by the SEC, and perhaps satisfactory to IOSCO.
Sylph noted that alternative firm structures exist only in the United States. Multidisciplinary practices of attorneys and CAs, prevalent in Canada and the United Kingdom, are the next topic on IFAC's ethics agenda.
Combating Fraud and Related Projects. IAPC is nearing completion of a revised standard on the auditor's responsibility for fraud in the audit of financial statements. Because it was in the deliberation phase, Sylph was not free to discuss the document. He recently completed a discussion paper on corruption and is considering something along the same lines on money laundering.
Sylph said fraudulent financial reporting outside the United States is a problem in a few high-profile cases but is not endemic. He said he believes that trying to meet short-term performance goals and analysts' expectations is putting enormous pressure on companies and their auditors worldwide.
Guy said there is fraudulent reporting around the world, but it is not identified the way it is in the United States. Nevertheless, if public sector organizations are included in the equation, fraud is an incredible problem internationally, Guy said. Sylph said there is an enormous need for improved financial reporting for governments.
The discussion closed with a question to Sylph from Guy: "If you could make three major changes in what IFAC and IAPC are trying to accomplish, what would they be?" First, Sylph said he would have IFAC and IAPC spend more time on public relations, both in the front--when projects are in the development stage--and at the end, when standards are finished. Second, the standards would be produced in five languages: Chinese, English, French, Russian, and Spanish. Sylph said that effective January 1, 2000, the chief executive of the Chinese Institute of CPAs reported that 6,500 accounting firms were severed from the ministry of finance and became independent. These firms will need professional guidance. Also, last year 450,000 people wrote the CPA exam in China. Even though only 1% passed, that still equates to 4,500 new CPAs. The numbers are mind-boggling. Third, Sylph said he would speed up the process of standards setting. *
Douglas R. Carmichael, PhD, CFE, CPA, is the Wollman Distinguished Professor of Accountancy at the Stan Ross Department of Accountancy of the Zicklin School of Business at Bernard M. Baruch College.
Dan M. Guy, PhD, CPA, is a former vice president of the AICPA and serves as a consultant and author on professional issues from his home in Santa Fe, N.M. For an analysis of IFAC's Code of Ethics, see Carmichael and Guy's Guide to International Standards on Auditing and Related Services (Practitioner's Publishing Company).
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