What does the market expect of audit committees? Michael Coleman at the joint IGAP & CPA Australia Annual Forum.

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MC picWhat does the market expect of audit committees? Increasingly, ‘everything’, Michael Coleman told the Annual Forum, held in October, 2014.

The joint IGAP and CPA Australia Annual Forum gathers leaders from industry, the accounting profession and academia to address key issues in contemporary governance and performance.

This year’s topic – ‘The  evolving role of audit committees’ – explored how audit committees are responding to rapidly evolving risks, liability, technological advancements and complexity in reporting, among a myriad of other challenges.

Coleman was Chair of the Financial Reporting Council (FRC), sits on a number of prestigious boards and has also had 30 years as an audit partner. He used his keynote address to highlight a potential expectations gap between what markets expect of audit committees and what directors can reasonably deliver.

Coleman highlighted several key challenges that audit committees are facing:

  • Changing expectations of regulators and the market; for example, that audit committees should be satisfied that auditors are doing their job or commenting on financial reviews;
  • A greater focus on risk; and
  • The proliferation of reports (e.g. Integrated Reporting).

A particular difficulty Coleman highlighted is the expectations for audit committees to form a judgement on audit quality:

“So whether it’s a good audit or not a good audit is a tough one and this is something that as audit committees we’re probably going to have to take a reasonable amount of time to consider.”

“We need to question amongst other things whether or not the auditor has been sufficiently sceptical. Now, how does an auditor demonstrate to the board that they’ve been sceptical?”

Coleman also highlighted how Australia has to some extent followed the United States trend of increasing the responsibilities of audit committees:

“In particular in my experience it’s become common for audit committees to approve fees over a certain level in relation to non-audit services provided by the auditor and audit committees have taken on a far more extensive role in relation to overseeing the financials.”

However, unlike in the United States, Australia still sees the audit committee as a sub-committee of the board:

“It’s not a separate creature, it’s not a separate animal and so therefore, and especially following Centro, we have the situation where boards, very, very rigorously in my experience, are actually as a whole considering the financials.

“The audit committee might look at the detail, but then the board as a whole still wishes to satisfy itself that it’s actually doing the right thing.”

Finally, Coleman observed how the expectations on audit committees would continue to evolve in the future with the release of a new auditing reporting standard in June 2016, which “will require the auditor’s report to include commentary on their key audit matters”. The new standards are likely to some interesting discussions, and to some changes to the dynamic of the relationship between the auditor and audit committee.

Communicating Safety: Avoiding common mistakes

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???????????????????????????????????????????????????????????????????????????????????????????????A discussion by James Harkness (for Zenergy Recruitment), headed Reporting on WHS: where companies go wrong, illustrates how IGAP’s Dr Sharron O’Neill’s research on work health and safety (WHS) can improve how organisations communicate their safety practices.

Harkness cites Dr O’Neill’s presentation at Safe Work Australia’s Virtual Seminar Series in October, which found a large gap between the WHS information stakeholders want and what annual reports provide.

Some common mistakes organisations make are:

  • Providing a generic statement of commitment to WHS, but without detailed information on WHS governance;
  • Failing to provide key lead and lag indicators, which can deliver important evidence on whether WHS practices are effective;
  • Providing limited evidence on whether audits and training sessions are effective;
  • A lack of consistent indicators and evidence e.g. Using different names for the same indicator, failing to define their indicators or failing to stick to their definitions;
  • Being reluctant to talk about the severity of injuries, effectively hiding the impact of gaps in companies’ health and safety systems; and
  • Building inaccurate narratives around their data.

By contrast, for best-practice WHS reporting in annual reports, organisations should:

  • Recognise who the users of the report are;
  • Clearly articulate their WHS vision;
  • Identify their critical risks;
  • Outline how risks are being managed; and
  • Acknowledge the consequences of failure;
  • Provide analysis where there has been a serious injury or illness: What happened, what was the cause, what is the lesson, what is being done to prevent this occurring again.

Where poor WHS reporting can be confusing or misleading, Dr O’Neill’s address highlighted how best-practice WHS reporting in annual reports can help instil confidence in an organisation’s WHS performance and practices in its stakeholders.

For more information on this research, or on improving WHS performance in your organisation, contact Dr O’Neill at: sharron.oneill@mq.edu.au.

Audit, Aristotle and the Clean Energy Regulator

The Clean Energy regulator used its Annual Audit and Assurance Workshops held earlier this year to emphasise the importance of audit to the agency. This including having two members of the regulator – Annie T. Brown and Michael D’Ascenzo – as keynote speakers to ‘reinforce the point that the Clean Energy Regulator takes its audit functions very seriously’.

IGAP’s Prof. Nonna Martinov-Bennie, who also sits on the Australian Auditing and Assurance Standards Board (AUASB), was also a keynote speaker.

Prof. Nonna Martinov-Bennie presented on the key audit concept of ‘professional scepticism’. The presentation was based on in-depth interviews with senior audit practitioners, and covered a number of aspects of professional scepticism and their practical implications. Prof Martinov-Bennie also highlighted the apparently conflicting views of audit scepticism as a relatively fixed character trait, but also a ‘skill’ that can be trained over time.

The presentation introduced an ‘Aristotelian’ idea of professional scepticism – developed in collaboration with A/Prof Dyball and Dr Dale Tweedie – which shows how these seemingly contradictory elements of audit scepticism might be resolved. Far from being simply ‘academic’, Prof. Martinov-Bennie outlined important practical implications of understanding audit scepticism in this way.

Prof. Martinov-Bennie and A/Prof Dyball also presented their research findings at the ICAA academic leadership series. Slides of both presentations are available below:

Clean Energy Regulator Presentation >

< ICAA Academic Series >

For more information on this research and analysis, contact: nonna.martinov-bennie@mq.edu.au

How Managing Tax Risk Impacts Tax Compliance

A recent study by Dr Catriona Lavermicocca, in the Department of Accounting and Corporate Governance at Macquarie University, and Professor Margaret McKerchar from the University of NSW, provides insight into the tax risk decision-makers and the tax risk management practices of large Australian companies.

????????????????????????????????????????????????????????????????????????????????????Benefits of Tax Risk Management

The study is based on in-depth interviews and a survey of tax decision makers from large Australian companies (turnover exceeding $250 million). It finds that companies that identify and manage tax risk improve their compliance behaviour in several ways:

  • Management of tax risks reduces the company’s acceptable level of tax risk;
  • Directors and tax decision-makers, including the CEO, CFO and tax manager, are more informed concerning the tax risk to which the company is exposed; and
  • In a majority of large companies, a tax risk management system identifies both non-compliance with the income tax laws and new opportunities to minimise income tax. It ensures that companies act on the tax issues they identify, and place greater importance on income tax compliance.

Tax Management Systems

Although identifying and managing tax risks does improve the income tax compliance behaviour of large companies, the study finds that the effects of managing tax risk depends on the specific tax risk management system.

Effective systems of managing tax risk improve the flow of information about tax risks within a company. More precisely, the systematic consideration of tax risk throughout a large company assists the company to achieving the tax risk profile it seeks.

Ultimately numerous factors, including pressure from shareholders and other stakeholders, influence the board’s decision about an acceptable tax risk profile. Nonetheless, this research found that a tax risk management system tends to lower the level of tax risk that company decision-makers find acceptable.

Understanding – not eliminating – tax risk

Tax adjustments and amendments still occur despite having a tax risk management system in place. These arise for various reasons, including ATO audits or when companies identify their own errors and make a voluntary correction.

Large companies also indicate that they are increasingly required to obtain the advice of an external tax specialist in an effort to minimise the risks associated with uncertainty and complexity of tax laws, despite the additional cost.

Whilst a tax risk management system cannot identify or control all external risks, the study shows that a documented and operationalised tax risk management system ensures that decision-makers are at least more aware of the tax risks they face.

– Dr Catriona Lavermicocca and Professor Margaret McKerchar

Why governance can’t ignore safety

A recent Four Corner’s report (screened 3/2/2014) on road safety and the heavy vehicle transport industry in Australia revealed the human toll of work-related accidents: 242 people killed in truck-related accidents, and many more injured, in just one year. According to Four Corners, safer work practices might have avoided many of these tragic events.

The Four Corners exposé highlights, in two interrelated ways, the fundamental importance of work health and safety (WHS) to all businesses.

truck_givewayphot1. Effective business governance includes effective governance of WHS.

The new WHS Act (enacted in all States but WA and VIC) requires all officers of a business or undertaking (PCBU) to exercise due diligence so as to ensure the health and safety of workers. The Act explicitly requires all businesses to provide safe systems of work – including safe equipment, safe processes and work methods (such as appropriate rosters, supervision, instruction etc.).

The Four Corners program drew particular attention to the potential health and safety implications of deferred maintenance. This is especially relevant to accountants, given their role in allocating budgets for maintenance programs. Moreover, recent research suggests that accountants are less likely than operational personnel such as engineers to perceive maintenance as even having been ‘deferred’.

2. Health and safety risks requirement management along the entire supply chain.

The Four Corners program also documented how a fatal incident on Sydney’s North Shore in October 2013 prompted an external safety investigation into the Cootes transport fleet. Impacting along the supply chain, this incident resulted in retail fuel shortages along the east coast while road safety checks were carried out on hundreds of Cootes vehicles. For example:

Frustrated Melbourne motorists again faced empty bowsers for some types of fuel or complete service station shutdowns today because of disrupted deliveries, with about 25 Caltex, 30 per cent of BP and a number of Shell ­outlets affected. BP spokesman Jamie Jardine said the company would have difficulty maintaining fuel supplies until all of the [Cootes] trucks were back on the road. (Herald Sun, October 10, 2013)

The vehicle checks identified more than 200 defects, many being major defects in safety critical systems such as brakes, steering and suspension. Three months on, the transport company has this week announced the loss of a major contract with Shell to distribute its fuel. The potential for safety issues to pose a risk to the well-being of workers’ and bystanders is clear. These events further demonstrate the potential for poor safety to also impact on the financial performance of both suppliers and purchasers.

Safety and Corporate Responsibility: Systemic Issues

Concerns over the role of payments, subcontracting, incentives and safety are not new. Similar issues raised by the NSW Staysafe Inquiry into Road Safety almost a decade ago, formed the basis of a research note published in the Accounting, Auditing and Accountability Journal in 2007 by IGAP researcher Dr Sharron O’Neill.

The pervasive nature of this problem raises serious questions, explored by Four Corners, about the sustainability of heavy transport business model and the corporate responsibility of business practices. Low wage rates for contractors and drivers coupled with increasing fuel and other transport costs were reported to still be providing incentives for long hours and excessive speed.

Four corners identified two factors motivating these unsafe behaviours.

1. Some drivers reported being directed by transport managers to meet “impossible deadlines”. Importantly, prosecutions and fines for subsequent speeding and log book infringements were falling on the drivers rather than those employers and companies who direct the systems of work. This alludes to a critical disconnect in enforcement processes that appears at odds with the legislated accountability of PCBUs under both the WHS Act (as outlined above) and the chain of responsibility legislation introduced by the National Heavy Vehicle Regulator. The latter suggests,

All parties in the road transport supply chain can be held responsible for their actions (or inactions) relating to breaches of the road transport, fatigue, speed, mass, dimension and load restraint laws.

If you consign, pack, load or receive goods as part of your business, you could be held legally liable for breaches of road transport laws even though you have no direct role in driving or operating a heavy vehicle.

2. Four Corners reported that unsustainably low wage rates lead drivers to work long hours to make a reasonable income. The Road Safety Remuneration Tribunal, established under the previous federal government in 2012, had proposed to examine pay and conditions and ensure ‘safe rates’ for heavy vehicle drivers. However, the future of ‘safe’ remuneration is already in doubt following a Federal Government review of the Tribunal which is due to be handed down by April 2014.

All in all, heavy vehicle safety is a complex problem with significant accounting and corporate social responsibility implications. We now wait to see the outcome of the government’s inquiry, and the response by the retail and transport industries to the Four Corners report. One would hope appropriate changes can be implemented before more lives are lost.

– Dr S O’Neill and Dr D Tweedie.

Podcasts: Ethics and the Professional Accountant

dreamstime_m_16826054In 2013 CPA Australia’s In the Black magazine hosted a series of informative and entertaining podcasts on ethical behaviour and the professional identity of accountants, with Professor Sally Gunz.

Sally is Professor of Professional Ethics and Business Law at the University of Waterloo in Canada, and the Director of the Centre for Accounting Ethics. She visited Macquarie University’s International Governance and Performance (IGAP) Research Centre in mid-2013, and discussed ethics with Dr Eva Tsahuridu, Policy Adviser at CPA Australia.

The pod-casts cover three themes:

1. common ethical challenges.

2. ethical obligations; and

2. professional trust, obligation and crises of consciousness;

This series explores ethical challenges facing professional accountants across different industries, including in public practice, not-for-profits, business and the public sector.

For Professor Gunz, the common ethical obligation for all professional accountants to consider is serving the public interest:

“It always comes back to the ultimate responsibility to serve the public. You have to remember as a professional of any stripe that even though you may act as a manager many times, you’re different from a manager.”

“You have additional responsibilities. You ultimately have the responsibility to your profession, which translates to serving the public.”

“You are there because of that responsibility. And when push comes to shove, if you don’t remember that, the question is, ‘Why are you there?’”

A good question to consider heading into 2014.

Des Pearson on Public Sector Audit

DP PicThe International Governance and Performance (IGAP) Research Centre was pleased to host Mr Des Pearson, who recently retired as Auditor General of Victoria, as the IGAP Executive in Residence sponsored by CPA Australia. Des’s public sector career spanned over 40 years and 5 jurisdictions, with more than 30 years’ experience at senior, chief executive and statutory officer levels. Des has worked in governance, financial and program management, performance evaluation and accountability roles, including more than 21 years as an Auditor General across two jurisdictions.

During his time at IGAP, Des presented two seminars: at an IGAP/ CPA Australia Roundtable on performance reporting; and at Macquarie University’s Department of Accounting and Corporate Governance on public sector reporting. The slides and key points from Des’s presentations are below.

Performance Reporting (at CPA Australia)

  • Public sector audits include financial and non-financial audit: both financial ‘how much’ and performance ‘how well’, are critical.
  • While financial reporting in the public sector is well-developed, performance reporting is still ad-hoc.
  • Public sector audits have unique challenges: a democracy (and therefore adversarial governance); and the rationing of limited (taxpayer funded) resources against excess demand (from the community).
  • Other challenges include: adopting market models within the public sector; co-ordination between the government and other entities; and public sector timelines (3-4 year terms of office).
  • Possible responses to these challenges are: comprehensive performance reporting; sustainability and integrated reporting; and, building on the Productivity Commission’s Report of Government Services.

SLIDES: PERFORMANCE REPORTING CPA

Public Sector Reporting (at Macquarie University)

  • The Federal, NSW and Victorian state public sectors arguably represent Australia’s first, second and third largest businesses. The auditor general needs to provide assurance to Parliament that these sectors are performing and accountable.
  • Public sector clients are diverse, including local governments, water corporations, police, emergency services, financial institutions, and universities.
  • The key focus for all audits is accountability: that is, reporting back to those who have charged you with a responsibility. The funding of the public sector by a forcible extraction of funds via taxes and charges adds an extra layer of accountability as there is an obligation to apply these funds ‘in the public interest ‘.
  • The Australian public sector needs to be made accountable, not only for probity, integrity and performance management, but also for a working democracy. Quality in public service audit, means reliable assurance of efficiency, economy and effectiveness in program delivery.

SLIDES: PUBLIC SECTOR ACCOUNTING MACQUARIE UNIVERSITY

What promotes confidence and trust in the audit function?

Confidence in the financial reporting of established and emerging firms, the credibility of the audit function and perceptions of audit quality are critical to the success of the Australian economy, argue Professor Nonna Martinov-Bennie and Dr Alan Kilgore from IGAP, in an article published in the October 2012 edition of Think and Grow Rich.

?????????????????????????????????????????????????????????????????????????????Increased Scrutiny of Audit

In the wake of corporate collapses and the Global Financial Crisis,  what actually constitutes a high quality audit has come under public and regulatory scrutiny. This has most recently taken form in the establishment of the Advisory Committee on the Auditing Profession in the United States, and the release of key frameworks and documents internationally, including:

  • the International Auditing and Assurance Standards Board (IAASB)’s consultation paper: A Framework for Audit Quality (2013);
  • the Public Company Accounting Oversight Board’s Strategic Plan: Improving the Relevance and Quality of the Audit for the Protection and Benefit of Investors (2012);
  • the European Commission’s (EC) Green Paper Audit Policy: Lessons from the Crisis  (2010);
  • Audit Quality in Australia – A Strategic Review (2010); and
  • the Audit Quality Framework (2008) in the United Kingdom.

As Martinov-Bennie and Kilgore argue, the credibility of the audit function plays an important role in establishing and maintaining an effective and efficient capital market. There are public and private benefits to these efficiencies: the equitable distribution of investment gains; reliable financial statements that encourage a broader range of investors; and the potential for higher investment returns through reducing financial statement risk.

Key Audit Quality Attributes – The Audit Team

However, as highlighted in a recent study by Kilgore and colleagues, with representative users of audit services (audit committee members, financial analysts, and fund managers), perceptions of quality also play an important role in maintaining trust and credibility in the audit function.

The study established that factors relating to the audit team were perceived to be relatively more important than factors related to the audit firm. More specifically, perceptions of five key audit team attributes were found to be relatively more important than perceptions of audit firm attributes such as audit quality assurance review and audit firm industry experience; namely:

  1. the partner / manager attention to the audit
  2. the manager knowledge of the client industry;
  3. knowledge and experience of the audit team;
  4. communication between the audit team and client; and
  5. the partner knowledge of the client industry.

Only audit firm size was considered relatively more important than these five audit team attributes.

In another project, commissioned by Association of Chartered Certified Accountants (ACCA), Dr Kilgore, Prof Martinov-Bennie and Associate Professor Sue Wright are currently undertaking research on perceptions of audit quality among other stakeholders. Preliminary results suggest that while different stakeholder groups have different views, audit team characteristics remain important to perceptions of audit quality.

Implications and Future Research

The implications of these findings are important at both national and international levels for the audit profession, regulators, and standards setters, and for efforts aimed at improving the effectiveness and integrity of the audit process. These findings are particularly important  for regulatory and professional accounting bodies working to improve audit quality, since they have tended to focus on audit firm factors, in lieu of (perceptions of) audit team expertise and experience. Combined, the findings suggest that not only do different stakeholders have different perceptions of the key drivers of audit quality, but also that audit quality is viewed by market participants as a multi-dimensional construct. In trying to better understand what makes a quality audit, we really need to know more about the people who actually perform them.

The impact of the virtual university on accounting and business education

A new publication explores the rapidly expanding relationship between technology and education delivery and the impact for business and accounting education.

The Virtual University: Impact on Australian Accounting and Business Education, is co-edited by Assoc. Prof. Elaine Evans and Prof. James Guthrie from Macquarie University, with Prof. Roger Burritt from the University of South Australia.

?????????????????????????????????????????????????????????????????????Produced by the Institute of Chartered Accountants in Australia in conjunction with the University of South Australia’s Centre for Accounting, Governance and Sustainability (CAGS), the text explores the many opportunities and challenges for tertiary educators bought on by this evolving education environment.

The text investigates how technological advances and the rise of online education offerings, including massive open online courses (MOOCs), are changing the higher education landscape. In a series of papers by practitioners and academics, the potential impact of this transformation on business and accounting education is explored.

Currently over three million students globally are taking part in MOOCs. As Prof. Guthrie observes on his blog, the access that MOOCs provide have the potential to make future generations more educated than any previous generation, but they also bring many challenges, including high attrition rates and concerns over quality of learning outcomes.

The papers are designed to stimulate discussion around how traditional universities can adapt to the changing market and develop strategies that ultimately create the best possible outcomes for students and professions.

In their introduction to the publication, Guthrie, Burritt and Evans discuss the competitive threat that MOOCs pose to the traditional higher education model of university, with its bricks and mortar. This threat is currently restricted because MOOCs do not offer qualifications, course majors or an on-campus student experience. Nevertheless this could change rapidly, and business schools and accounting departments need to incorporate technology into teaching as part of a blended learning approach.

The issues facing business and accounting education include: the quality of learning outcomes in both a blended learning and MOOC environment; public scrutiny over student qualifications; and the lack of a campus experience for students who want to enter a profession which requires graduate capabilities such as communication skills.

Guthrie, Burritt and Evans conclude that, despite the number of challenges that face a virtual university, accounting and business educators and the accounting profession will have abundant opportunities to collaborate over issues such as credentialing of future business professionals; the quality of blended learning experiences for students; and the production of quality, interactive teaching and learning resources.

Four ideas for improving Integrated Reporting

The International Integrated Reporting Council (IIRC) recently completed the consultation period for its draft version of the International Integrated Reporting (<IR>) framework, with <IR> ‘Version 1’ to be released in December. IGAP researchers Dr Dale Tweedie and Prof. Nonna Martinov-Bennie raised four ideas for the IIRC to consider in its revisions.

????????????????????????????????????????????????????????????????????????????????????????1. Clarifying the relationship between <IR> and other reporting systems

The IIRC’s ‘value-creation’ approach to non-financial reporting is very different from the ‘impact-assessment’ approach used by the Global Reporting Initiative (GRI). Users of <IR> would benefit from greater guidance on how <IR> and GRI4 can be complementary in a practical reporting context; for example, by clarifying differences in the materiality determination processes of <IR> and GRI4 and which – if any – takes precedence.

2. Acknowledge and address stakeholder conflicts

The IIRC’s view that the interests of providers of financial capital – the primary audience of <IR> – and other stakeholders will align over the long term overlooks potential conflicts between these groups, and so how conflicts should be reported. An example in Australia is coal seam gas (CSG) exploration, which promises significant financial benefits to mining and energy organisations, but which other stakeholders have claimed is a long-term risk (e.g. to primary production and water supply). Given this perceived conflict, what should be reported by organisations engaged in CSG exploration? Further clarity on the ‘legitimate needs, interest and expectations’ of other stakeholders that an <IR> should acknowledge would help address these kinds of issues.

3. Increase comparability through a stronger ‘core’

As our earlier blog discussed, while a principles-based framework is a useful method of avoiding boiler-plate disclosures, <IR>s need sufficient commonalities to be comparable over time and between organisations. Providing a stronger ‘core’ of reporting requirements and methods, best practice guidance (e.g. on carbon reporting) and definitions of key terms could encourage comparability without sacrificing the principles-based approach.

4. Governance as accountability

The draft <IR> framework asks each organisation to explain how its ‘governance structure support[s] its ability to create value in the short, medium and long term’. While good governance is part of value creation, the key features of governance are accountability, transparency and ethics, which are fundamental to ensuring that the value that organisations create is managed and distributed in appropriate ways. Following the King Reports in South Africa, <IR> could play a greater role in emphasising and communicating the importance of these aspects of governance.