Of course, the status of the audit service is not a black-and-white issue. Few products have the same margins; however, in the long run, the most profitable service lines attract the best people, the most attention, and the lion’s share of investment. The issue is further muddled by the favorable economic climate that has brought high demand and higher profits for consulting services. Nevertheless, if this trend continues over an extended period of time, the profession will need to look for ways to improve the profitability of the audit service.

The Paradox

The financial statement attestation services (a more up-to-date term for “auditing”) rendered in the United States are a source of pride. They have set a standard of excellence for reliable financial information that is crucial to the proper functioning of the world’s capital markets. Nevertheless, despite the clear importance of financial statement attestation services, their long-term profitability is less than secure.

Current and Future Challenges

As stated previously by the authors (“What’s in a Name Change?” Journal of Accountancy, August 1999), the blame for audit failures rests on the shoulders of individual auditors that fall short in their ability to analyze and interpret the financial statements. The perception that public accounting firms have reduced the extent of their substantive audit procedures, relying heavily instead on risk assessment, is disturbing. As presently applied, risk assessment techniques are appropriate, but best handled by practitioners with specialized training and experience. Broadening the education and experience requirements for individuals in risk assessment will enhance the quality of the service. This may not appear consistent with the present market value of audit services, but it is consistent with the real value of these services.

As challenging as the financial attestation process currently is, future changes and increased complexity are probable. Former AICPA Chair Robert K. Elliott has made the following observation:

[F]acilitated by information technology, other sources of relevant information are increasingly available; for example, investors can get up-to-the-minute data about companies through public and proprietary databases without waiting for quarterly or annual reports.… Once capital suppliers have real-time access to an enterprise’s databases, they will have little interest in annual financial statements—and, by extension, auditors’ opinions on them—issued well after the entity’s fiscal year-end. What they might be far more interested in is real-time assurance from the auditor that either the information in the enterprise’s databases is reliable or the system itself is highly likely to produce reliable data (“The Future of Audits,” Journal of Accountancy, September 1994).

If Elliott’s prediction comes to pass, auditors will need broader knowledge and experience in business management as well as better information management skills. In a world of real-time financial information, auditors will be expected to react in real time to business changes and operations. They will also be expected to be as technology-savvy as the issuer of the financial information.

Enhancing the Quality of Financial Attestation

The accounting profession needs to think beyond accounting parameters and redefine itself as an information profession. Redefining the profession would require many changes—some of which are already taking place—including substantial revisions to education, standards setting, and licensure. As the authors have previously suggested, the profession should adopt “information consultant” as its designation for those providing the various services of the profession. Information consultants would continue to render attestation services but their skill sets would be even broader.

One of the impetuses behind this new designation would be to help accountants develop a more thorough understanding of statements of financial position and results of operations as well as improve the informational content of those finanancial statements. With these goals in mind, accountants would learn how to generate, process, and communicate basic information about an organization’s activities, as well as convert it into financial formats appropriate for regulatory, management, and other informational purposes.

To assess the information and determine its associated risks, improved skills in the areas of consulting and management (strategic planning, management information, and control techniques) will be necessary. These skills will also improve the ability to communicate with client management about matters pertinent to attestation.

A Potential Education and Experience Framework

The authors are suggesting more than just a name change; such a transition will require an overhauled educational and professional framework, including, for those specializing in attestation, a new degree, a master’s in financial attestation (MFA). Information consultants would improve the quality of the attestation service and reestablish it as the profession’s premier service. The core education of information consultants would include the following:

Additional education and three to five years of experience would be required for financial attestation information consultants. The additional education would include a one-year program on issues that are crucial to understanding the financial attestation process, such as accounting theory and practice (GAAP), attestation theory and practice (GAAS), fraud, financial statement preparation and presentation, and business law.

Following completion of the MFA studies, a standardized test similar to the CPA exam also would be required. Alternatively, the information consultant candidate could take the broader business information sections of such an exam upon completion of an undergraduate program while deferring the financial attestation section.

Enhancing the Image of Financial Attestation

Improving the quality of financial attestation will enhance its image. According to University of Notre Dame Professor David Ricchiute (author of Auditing and Assurance Services), practitioners spend a lot of time selling unique services but not enough time building up attestation services.

It is appropriate, then, to ask the question: What is the value of an audit? For clients, recognizing the value of an audit is difficult until a banker or underwriter asks for verifiable financial information—at which point the audit becomes essential, facilitating business decisions and reducing the risks to capital suppliers.

In “The Value of Auditor Assurance: Evidence from Loan Pricing,” (Journal of Accounting Research, Vol. 36:1, 1998) authors David W. Blackwell, Thomas Noland, and Drew B. Winters concluded that an audited firm with

$1 million of total assets saves an estimated 40 basis points more than an unaudited firm. Although the basis point savings decline as the firm increases in size (for example, a firm with $5 million in total assets saves about 12 basis points), the absolute amounts increase in significance.

The benefits of an audit do not end there. Audits enhance the comfort level of all parties, including stockholders, managers, investment bankers, commercial banks, and other lenders. While difficult to quantify, this comfort level is invaluable to the health and efficiency of the financial system.

Apparently, the profession fails to emphasize these benefits, perhaps wrongfully assuming clients already know about them. Complicating matters is the possibility that clients feel forced to pay for costly financial attestation services. At the very least, the profession needs to better inform the business community—and individual clients—of financial attestation’s critical role in the global financial marketplace. The profession must also discourage classifying attestation services as a “commodity.” The term conveys common characteristics and lowers the value of the service.

A Practice Suggestion

A key element of financial attestation is confirming the going concern assumption critical to financial statements. Historically, by the time the going concern issue is addressed, the client’s operations have already deteriorated beyond repair.

A more formal, proactive program that assesses the going concern issue and is incorporated into the financial attestation process would provide the practitioner with a more complete understanding of the client, benefit client management, and possibly preempt the deterioration of operations. Depending upon the organization, the work would vary and would likely require the use of a wide variety of skills and experience. Market share trends, product quality, and systems integrity as well as profit trends and debt coverage would be examined. A report of the findings would be made to management and, where applicable, the audit committee.

The Evolving Need for Other Skills

In addition to a broader range of education and experience, information consultants will need to develop other skills as technology proliferates. In his speech, “Renewing the Covenant with Investors,” former SEC Chairman Arthur Levitt addressed the need for those skills:

[N]ew financial instruments, new technologies, and even new markets demand more specialized know-how to effectively audit many of today’s companies. If a firm is auditing a major computer company or a global financial services firm, it needs to have the necessary technological or financial skills. And, as technology becomes increasingly important to business and to the future of the profession, firms need to be able to develop and maintain these essential skills.

In the same speech, Levitt cautioned against using those skills as a means to obtain consulting services rather than to augment the financial attestation service.

Some of these “other” skills will come through performing financial attestation and preparing going-concern reports. However, some of the skills may already be required in service areas like consulting and taxation, which reiterates the need for integration of all accounting services.

Will all of this solve the profitability problem? In the short run, it will likely exacerbate it. But if the entire profession implements these changes, the quality of the people and the service will begin to demand better profit performance.

Editor:
Robert H. Colson, PhD, CPA
The CPA Journal

©2009 The New York State Society of CPAs. Legal Notices