Strings attached

A call for a kitemark-based system to simplify the audit report has received a lukewarm response from the profession. Why? asks Christian Doherty

What purpose does the audit report serve? Is it there as simple assurance? Or is there greater value to be derived and should the scope of the report be greater?

The issue has come under the spotlight recently following a speech by KPMG's lead partner John Griffith-Jones. Speaking to the ICAS annual dinner, Griffith-Jones called for the introduction of a kitemark-based system which would allow auditors to certify the veracity of accounts with a simple stamp.

'I am making the case for the acknowledgement of reality,' Griffith-Jones said. 'I believe the “kitemark” that the profession and society should agree to work towards could be summarised in the vernacular as “these accounts are about right unless the management have deliberately conspired to falsify them”.'

The speech has received a mixed reaction. To some, any simplification of the audit reporting process is to be welcomed; others fear the audit will become a rubber-stamping exercise with little added value and will reduce what is a complex process to a simple thumbs up/thumbs down (with the attendant liability that would bring).

The accountancy firms have generally been cautious in their welcome. All agree on the need to simplify audit reports. 'I think we would like to see stripping out of the caveats and the jargonistic spelling out of roles and responsibilities that is currently in place,' says Grant Thornton's Steve Maslin. 'And ultimately we'd like to see a simplification of the accounts and more of getting to the point and finding the opinion of the auditors.'

It's a view widely held. What is concerning many in the profession, and what Griffith-Jones is most determined to tackle, is the length of audit reports. Almost everyone in the debate recognises that audit reports have now become too long and too reliant on disclaimers and boilerplate clauses.

'The average report is a lot longer than it was 25 years ago and you have to ask the question whether that is serving the users of the accounts,' says Martyn Jones of Deloitte. He points to the Bannerman decision of 2002 that mandated auditors caveat anything that might impact on third parties as ushering in another level of complexity to the audit report.

In Griffith-Jones' view this has now become far too unwieldy and long-winded to the point of losing its meaning. So his suggestion is a simple kitemark to bring the audit report back to a level of simplicity and clarity that would serve the users of the accounts far better than what is currently in place.

However, very few audits are as clear cut as a simple pass or fail. With the increased burden of compliance under IFRS, auditors are now including more explanation and caveats than previously. To some, this is necessary to explain the grey areas.

David Herbinet is senior partner at Top Ten firm Mazars. He says increased disclosure from auditors might actually go some way towards bridging the 'expectation gap' that exists between users of the accounts and reporters. 'It's very easy to say that audit reports should just be one line. But in reality that doesn't work,' he says.

'Things are rarely black and white in audit and I think we should be able to communicate this to the shareholders. At the end of the day, it's a question of illumination. And no matter what some people might say, I don't believe that audit is a question of pass or fail. As a firm we would certainly be very supportive of more discursive audit reports.'

Herbinet's view is endorsed by ACCA's head of auditing practice David York. To his mind, the current round of reporting by banks in the middle of the credit crunch is of public interest and illustrates the need for greater communication and illumination from auditors. 'Take something like the gains some are reporting on the fair value of their own debt, and they have a miracle way of taking a profit out of a bad economic situation,' York says. 'This might be an area for auditors, were they to provide longer and more detailed reporting, to point out to investors what's happening.'

York recently formulated ACCA's response on the issue of audit reports to an FRC discussion paper. That stated: 'The development of narrative reporting (and sustainability reporting, if the latter can be regarded as separate) has undoubtedly increased the demands of users for auditor-originated comment on performance.' But is the audit report the right place for this?

'I'm sure many would argue that the audit report is not the right place to include certain audit opinion,' Herbinet says. 'Perhaps the corporate governance report or notes to the accounts would work – and since IFRS enable and even demand more discursive comments on elements of risk and uncertainty.'

For some, though, including Richard Sexton at PwC, the kitemark debate misses the point. In his view this goes to a more fundamental issue of companies communicating clearly with its stakeholders. 'In all of the discussions we've had with the investment community, investors are not saying the audit report is a problem,' Sexton says. 'They are focused on how they can get more meaningful and more understandable information from the companies through their reports.'

Sexton believes that finance directors are facing a serious challenge in communicating effectively with investors, and that auditors have a part to play in that. 'Many FDs today are trying to tell the company's story to the City, good or bad. That's so the market can understand what the company is doing. And the CFO needs some help to do that. The auditors, their own accounting support staff, financial PR, people who can provide other insights into better communication.'

But it's clear that the audit report, as a stamp of approval of the company's true and fair accounts, is limited in what it convey to investors. So while a simplification of audit reporting is welcomed by all concerned, the method of achieving this is still some way from consensus.

THE FD'S VIEW

We canvassed a number of finance directors to see what the views were from that side of the fence.

'My view is that for the average user of a set of accounts, the precise wording of the audit report means nothing whatsoever. All the user wants to know is, 'Is there a clean audit report?' and if not, 'Why is it qualified'. In that respect, Griffith-Jones makes some sense. So far as I can tell there has been no benefit to anyone from extending the audit report from a few lines to a whole page over the last 15 years. As a CFO, the wording in the audit report means nothing to me at all. Having said all that, there are plenty of other areas of confusion in a set of accounts that fiddling the audit report won't suddenly make them more user friendly.'
Jim Buckle, FD, Lovefilm

'On a general level, anything that can be introduced to cut down on the amount of words that are put into published accounts, I would support wholeheartedly. Published accounts are beginning to look and feel like lawyers' statements which the average Joe and Josephine investor cannot and will not want to understand. In this case I think a more in depth explanation would be required for investors: clean = kitemark, not clean = no kitemark (but rather an explanation).'
Michael Hitchcock, FD Moss Bros

'The current audit report is written the way it is to specify what has been and has not been audited. This is important for the users and the insurers (of the auditors). Any changes or reductions would still have to refer to the "items covered list". I would prefer to leave it unchanged for clarity.'
Paul Pascan of FD Solutions

Christian Doherty is a freelance journalist.