Simplifying Auditing Standards for Small or Non-Complex Entities–Exploring Possible Solutions

Noémi Robert, Hilde Blomme | May 18, 2018 | 4

Confidence in small business benefits us all. The difficulties of applying the International Standards on Auditing (ISAs) in small or non-complex entity audits are apparent, and as such the status quo is not an option.

With our new publication, we aim to open the conversation to find an efficient way to deal with the small or non-complex entity audits.

Same standards for everyone?

SMEs, including small or non-complex entities, contribute more to the EU economy than large enterprises do, accounting for 66.6% of total employment and 56.8% of value added in the EU28 non-financial business sector.

However, audit regulators and standard setters focus on protecting capital markets. This has made the current ISAs too complex for smaller entities’ needs. An audit of financial statements (hereafter: audit) can instil required trust and confidence as auditors check if historical financial information is reliable.

Should auditing a company with less than 25 employees follow the same standards as a large company with thousands of employees? Smaller entities are major contributors to growth and therefore, regulators and standard setters must not overlook them when dealing with auditing standards.

Possible solutions

For solutions to be workable, they should be global, technology oriented, and ensure a consistent audit comfort and assurance level. In our publication, we explore the following options to overcome the difficulties of applying the ISAs in small or non-complex entity audits:

  • Build within the ISAs: This could be one, or a combination of, the following four streams: a) develop guidance to apply the ISAs to small or non-complex entities, b) revise the ISAs applying a ‘think small first’ approach, c) revise the ISAs to deal with complex language, and d) apply information technology to the ISAs.
  • Develop a standalone standard: This standard could design an audit that achieves the same objectives as the current audit while tailoring it to smaller entities’ circumstances. Considering the difficulties faced when carrying out smaller entity audits, a standalone standard could adapt the current audit approach. It could make more use of professional judgement, moving away from an approach that is too focused on compliance and documentation of non-applicable requirements. A standard with clear and explicit principle-based requirements could also help avoid misunderstandings and unnecessary discussions with oversight authorities.

Next to these possible solutions, we identified two other routes that may be part of a solution, but do not fully respond to all issues at stake:

  • Include a direct engagement dimension to audit: Under the IAASB assurance framework, providing assurance within a direct engagement is possible, such as an engagement in which the practitioner directly measures or evaluates the underlying subject matter against the criteria.
  • It is possible to imagine an audit engagement where the auditor is involved in calculating the closing entries and the measurement of the final estimates. This would result in a combined engagement: a direct engagement on the final estimates and an assertion-based audit on the overall financial statements. While remaining responsible for the financial statements, the general manager will receive added-value from the auditor beyond the usual audit work on the financial statements.
  • Make full use of data analytics in audit: This would allow the auditor to use the entity’s data more easily. It could also pave the way for adopting more straightforward controls that could simplify the audit approach.

Experimenting is key

To identify the best solution, experimenting is key. A fruitful example of this is the Financial Reporting Council’s Audit and Assurance Lab, which explores the role of audit committee reporting in promoting audit quality. The IAASB has started setting up advisory panels, for instance on technology. But the mandate of such initiatives should not only be to advise, but also to work collaboratively and test new ideas in practice.

To discover different and potentially better ways of dealing with the audit of smaller entities, the IAASB would need to experiment with possible solutions and set up a safe space to innovate. One example would be to conduct audit pilots using new solutions like those suggested in our publication. Subsequently, practitioners should assess the outcome of these pilot projects. Representatives of audited entities, along with auditors, should also be part of this assessment.

Next steps

At our 30 May event, Accountancy Europe, the IAASB and other stakeholders will pursue the debate on the audit of small or non-complex entities and how auditing standards could help to better respond to the challenges faced. Join us at the event to provide your views on finding a solution on this strategic issue.

Audit is a valuable service to small or non-complex entities. Further research must be done to find a possible solution that serves these entities.

Noémi Robert

Audit & Assurance Manager, Accountancy Europe

Noémi Robert is a Senior Manager at Accountancy Europe and in charge of the audit and assurance work streams. In her role, she focuses on technical aspects of the professional work of Accountancy Europe dedicated to audit and assurance, as well as professional ethics. See more by Noémi Robert

Hilde Blomme

Deputy CEO, Accountancy Europe

Hilde Blomme is Reviseur d’Entreprises (Belgium), MBA, FCCA, CPA. She joined Accountancy Europe in 2003 as Director of Practice Regulation. In 2011, she became Deputy Chief Executive. In her role, she focuses on supporting and advising Accountancy Europe's governing bodies related to public policy and technical matters, co-developing strategy with a focus on public policy and regulatory matters, representing Accountancy Europe on professional and technical matters and developing staff. See more by Hilde Blomme

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Tong Soonnan September 13, 2018

I am agree with above article. Recently i bought a book "Core Auditing Standards For Practitioners" By Katharine Bagshaw & John Selwood, published by Wiley 2014. Refer to this book introduction. That ".... that ISAs are unsuitable for the audit of SMEs. ISAs were developed so that they could be applied to the largest of audits but that does not mean that they cannot be used perfectly well in smaller audits, given a little thought about how they are applied." What I see in this statement mean a SMPs have to map well with larger audit firm methodologies and culture. If this is the case, the regulators for SMPs will continuing finding unsatisfactory audit quality in future as what happen in the past. Also, in this book introduction the authors wrote "Causes of audit inefficiency and unprofitability in smaller firms are manifold but there are 3 key drivers of many problems: (1) over-engineered audit methodologies and procedures that simultaneously result in under-auditing in important new areas and over-auditing in established areas; (2) lengthy auditing standards designed with the larger audit in mind that need to be interpreted for smaller entity audits; (3) regulatory inspections focusing on compliance with the requirements of standards, as well as the judgement made. The 3 keys problem drivers have the similarity with above article. So, can same standards fit everyone?

Jesus Vicente Salazar Ras July 13, 2018

Es tan cierto la necesidad de adaptar los procedimientos de grandes empresas hacia los pequeños negocios que en el caso de la seleccion de muestras podriamos prescindir del enfoque de riesgo (inherente, deteccion y control); y trabajar de una manera mas sencilla aplicando muestreo por alcance. contribuyendo de esta manera a minimizar el uso de las horas-hombre sin descuidar los estandares de calidad en cuanto a la revision, y serian efectivos utilizando metodos aleatorios para la seleccion de la muestra por alcance, metodologia que pudieramos aplicar principlamente en el examen de la cartera de cuentas por cobrar clientes [The need to adapt the procedures of large companies to small businesses is so true that in the case of the selection of samples we could dispense with the risk approach (inherent, detection and control); and work in a simpler way applying scoping sampling. contributing in this way to minimize the use of man-hours without neglecting the quality standards in terms of revision, and would be effective using random methods for the selection of the sample by scope, methodology that we could apply mainly in the examination of the portfolio of accounts receivable customers]

Luis Valencia July 2, 2018

Following the excellent publication of simplifying audit standards for small entities and with the aim of debating possible solutions in addition to those raised by Hilde Blomme, Deputy CEO, Accountancy Europe and Robert Noémi, Audit & Assurance Manager, Accountancy Europe, I ask how to implement effective auditing standards in small companies whose corporate governance is rebellious (it is characterized by the legal breach in the operations of the company: tax evasion, accounting make-up, double accounting and other creative frauds), with the aggravation of that corporate governance has power within the company and its justification for committing fraud and legal breach is that the government of the country is corrupt and that the government charges high taxes, so that public servants steal the public treasury and commit fraud ?

Tagaloa Faafouina SUA May 23, 2018

This is a very smart move to assist auditors with an alternative Standard applicable to SMEs parallel to the IFRS for SMEs. For instance in Samoa most of the companies are SMEs and are privately owned of which a tailor made standard focusing on key components is suffice.

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