Expectation Gap In Auditing
IntroductionWithin the current crisis of confidence in the public accounting profession after the Enron debacle and series of high profile failures of financial services firms, the issues about ‘audit expectation gap’ have never been more important. Though it would take an enormous amount of effort to address these issues, I will argue that tremendous amounts could be done in order to close the gap down. In this essay I will discuss some of these issues and in particular the strategies to reduce the gap.DefinitionsVarious definitions have been proposed for the audit expectation gap. Humphrey, Moizer and Turley (1992), suggest that the common element in the various definitions of the gap is that auditors are performing in a manner. There are positive signals that this component of the gap is being addressed. Post-Enron reforms which led to the Auditing Practices Board being responsible for settling standards on objectivity, integrity and independence should improve the standard setting process and provide more consistency to the way standards are interpreted.
More efforts should be concentrated on looking at the reforms of auditing standards since this represents half of the expectations gap.(2) The reasonableness gap, one of the more subjective components of the gap, is caused by society’s increasing and often unrealistic demands for accountability. This gap can be narrowed by improving and increasing public education so as to demonstrate to the public that existing professional standards and legislative requirements are adequate. Proactive approaches such as the implementation of auditing education has to be enforced in as my occasions as possible, from business meetings to shareholders’ meeting. The MacDonald Comission expressed their opinion that audit educations have been ineffective as it concluded that most of the public expectations were reasonable and achievable. Therefore in addition, auditors have to both accustom to society’s more reasonable demands and improve the manner in which they communicate their findings to financial statement users.
The accounting. 1922 Words 8 PagesThe audit expectation gapThe meaning of the expectation gap involves argument concerning the contradictory meaning of what an audit is to user of financial statement, the public and the audit profession. Expectation gap is the difference between what the public assumes to be the role of audit and what the audit profession claim their role is in carrying out the audit function. All the theories above describe the expectations the stakeholders have of the auditors, including protection against. 1215 Words 5 PagesAudit planning is a process that entails designing a road map to be followed when conducting an audit.
It also extends to identifying the specific guidelines to be adhered to direct the audit direction in the most professionally way. It can be established that are various guidelines that guide the audit depending on whether it is internal or external. Notably, external audit is guided by various standards, which require financial information to be prepared in a specific way as stipulated by various. 8505 Words 35 PagesManagerial Auditing JournalEmerald Article: Audit disaster futures: antidotes for the expectation gap?
Wolf, James A. Tackett, Gregory A. ClaypoolArticle information:To cite this document: Fran M. Wolf, James A.
Tackett, Gregory A. Claypool, (1999),'Audit disaster futures: antidotes for the expectation gap?' , Managerial Auditing Journal, Vol. 14 Iss: 9 pp. 468 - 478 Permanent link to this document: Downloaded on: References: This. 875 Words 4 PagesSales Associate within the Gap organisation.
Donald and Doris Fisher established ‘The Gap’ in 1969. Between 1969 and 2004 Donald gradually transformed the company into a trust, with a unique organizational structure, considering the size of the firm. GAP was started by introducing an employee profit-sharing scheme and after his death; the group of stores owned by the family became completely owned and run by them and their employees, who were made Partners. Through GAPs strong line of communication. 1717 Words 7 PagesAs noted by Meredith and Mantel (2012) “The audit life cycle includes audit initiation, project baseline definition, establishing a database, preliminary project analysis, report preparation, and termination” (p.
We are going to define what happens in each stage of the audit life cycle:1.Project audit initiation: This step defines the purpose and the scope of the audit, determines the proper audit methodology to use.2.Project baseline definition: This step will determine which areas of the. 1188 Words 5 PagesIntroductionIn the early days of independence the audit, audit methods are for the detailed audit approach which is using the accounting books of the audited entity to verify case by case basis, and for the purpose of exposing the wrong check fraud; With the expansion of enterprise scale and complex business activities, audit sampling appears that, according to accounting statements balance and accounting data sample extraction section, and then inferring the overall result of the review. 1135 Words 5 PagesAudit methodologyThe audit methodology will be used as a step by step guideline that will be used by the auditors to keep track of their progress and enable them to ensure that quality standards are maintained during the auditing phase.To audit the International Bank of Africa information system we will go through five phases or steps.Step one: PlanningThe first phase will determine the sort of audit team that will be assembled. The team selected will be best placed to handle all obstacles. 2003 Words 9 Pages1.Planning an audit is one the most important phase in an audit because without enough planning programme, the auditor risks taking the work blindly which increases audit risks which will lead to forming an informed opinion on the financial statements. There are many areas in audit planning that will themselves lead to misunderstanding or misrepresentation and many auditors have fallen under criticism for lack of proper planning documentation. It is from the filed documentation that inspectors.
1828 Words 7 PagesAudit Expectation Gap & Audit RotationA Critical ViewAuditing is one of the most critical fields where the external auditors are always subjected to criticism and legal regulations which are mostly directed against them. Mostly this criticism arises because of lack of sufficient understanding of how the company law and auditing standards work and also due to related misconception about the actual role of an auditor (Porter, 1993).
This lack of understanding is called expectation gap where the.
Expectation gap is “ the gap between the role of an as perceived by the auditor, and the expectations of the users of ” (Hussey, 1999). Expectation gap is an important current auditing issue because it involves two important groups in an audit which are stakeholders and auditors. Moreover, expectation gap worth discussing because its continuous existence would lead to the public not being capable to recognise auditor’s contribution to the public and this may weaken the significance of audit purpose. Therefore, this report will aim to look at the reasons as to why the expectation gap still exists and any possible solution which can be taken to solve this problem. In order to conclude on the reasons as to why the gap still exists, this report will critically discuss causes of the gap and suggested solution put forward by other researchers. After critical discussion of the causes, possible solution to the gap and conclusion of the reasons as to why the gap still exists, this report will provide recommendation on how the gap can be bridged. The name “expectation gap” was firstly used in United States in the auditors’ responsibilities commission famous as the Cohen Commission formed by AICPA in early 1974.
This commission was established due to the increase in public criticisms regarding the quality of auditors’ performance; it had one specific task of recommending on the responsibilities of auditors. The commission concluded that stakeholders expectation towards auditors' abilities were reasonable. Nevertheless, many stakeholders misunderstood the nature of the auditor’s role, especially in the situation of an unqualified opinion.
Expectation Gap In Auditing
In 1975 the US government decided to establish the senate subcommittee famous as the Metcalf Committee due to failure of auditors to report on failures in public companies. This committee was formed to look into and recommend ways in which the accountability of auditors and public companies management can be improved. This was followed by the House commerce committee known as Moss Committee which was formed in 1976 to investigate on the corporate accountability standards. In 1977 comparable issues led to the establishment of the special committee known as Adams Committee by CICA to investigate on auditor’s roles. Auditor’s deficient performance is one of the causes of the expectation gap.
Deficient performance includes lack of experience, knowledge and care. This is associated with the way audit firms arrange their day to day work which mostly is carried out by people with less or no experience and qualification ( See appendix 2). Lee et al (2007) in Malaysia and Porter in New Zealand found that some of the audit duties done by non-auditor respondents were poorly performed.
According to Humphrey et al. (1992) one of the reasons for the incompetence is the Level of audit fees.
This means the lower the audit fee the lesser time spent on the company and less experienced staff involved due to cost of equating them being low. Moreover, audit fees may force auditors to limit their performance in order to maximise their interest at client’s expense as it happened in the Grays building Society. ( See appendix 3 and 5).
Furthermore, Lee et al. (2009) argued competition for human capital is another factor causing incompetence. This means skilled and experienced auditors prefers to move to countries where they will be offered high wages and benefits. Commercial life complexity is another reason for incompetence as argued by Gray and Manson (2000).
For example Bank of Credit and Commercial International where their complicated interest around the world with complex financial arrangements plus fraudulent activities by their management made a toxic combination which many auditors might find hard to manage. However it can be argued that lack of competence is no longer the reason for the gap due to the introduction of “rules regarding issuing of practising certificates by the audit professional bodies, post-qualifying educational requirements of the professional bodies, monitoring of audit activity by professional bodies following the company Act 1989 and disciplinary procedures by the accounting bodies following investigation of apparent audit failures” (Gray and Manson, 2000 pg.521). Auditor Independence is the way in which auditors show that they can perform their responsibilities in an objective way, (Salehi, M. Auditor’s independence is important since it adds creditability to the report and is the basis of an audit work and its inadequate can lead to the auditor’s opinion to be questioned. Society observation of auditor independence is vital because the clear independence depends on public view of things which could damage the genuine auditor independence. Therefore auditors should make sure that the performance and quality of the audit will not be settled below standards. Inadequate auditor’s independence can arguably be caused by closeness between auditors and clients, blood or marriage relationship between auditors and clients, and auditors looking to pay favour to the board of directors due to re-appointment.
Beattie, et al (1999) in their survey in UK argued provision of non audit services to be another factor for auditor’s inadequate independence since it increases auditor’s economic dependency to his clients. For example, in 2000 Andersen received from Enron $25 million as audit fees and $27million as non audit fees.
However, it can be argued that auditor dependence has been decreased by the introduction of Company Act 1985 sections 384-394 which regulate ways in which auditors can be appointed, removed, resigned and remunerated. Fraud detection is one of the reasons for expectation gap since investors are expecting auditors to detect fraud while auditors are trying to suggest to investors that their duty to detect fraud is limited. Lack of fraud detection has played a huge part in many of the accounting scandals such as PARMALAT and has resulted into investors losing their money.
However, Cosserat, (2004) argued that the auditing standards have been improved after fall of big organisations in order to put emphasis on auditors responsibility in detecting fraud. He argued that before Enron Scandal Auditors were required to report only on fairness and truth of the financial statements without regarding if the misstatement was accidental or fraudulent. The fall of Enron showed that the approach used by auditors did not take into account management intention when producing falsified financial statements. This led to the introduction of new standards such as ISA 240 which requires auditors to take more positive steps in fraud searching such as question reasons for rise of matters such as unusual and unreasonable transactions which lacks business underlying principle, any figure of accounting estimates which is unjustifiable and uncertainty in correcting errors exposed by an audit which are immaterial. Another standard is ISA 315 where auditors are required to assess management risk framework of an entity as the proper way to prevent misstatements. Going concern “is the assumption that the enterprise will continue in operational existence for the foreseeable future” (Gray and Manson, 2000).
This means, the financial statements show no intention or need to liquidate or reduce the level of operation. Auditors mostly come into criticism after there has been a failure of the company and in its Annual report by auditors or directors has been no suggestion that the organisation had any problems with going concern. This causes expectation gap since investors expects auditors to suggests any problems regarding going concern while auditors are limited by the standard only to be attentive to the likelihood that the concept of going concern was not valid. However this problem has been minimised after the introduction of the ISA 570 and SAS 130 which requires directors to decide whether the company does not have going concern problems.
Moreover, it requires auditors to discuss with directors on how they decided that there is no going concern problem and look at the appropriate financial statements. Unreasonable expectation is when public is expecting auditors to do what they are not required by the standards to do or may not be capable of doing it due to cost-beneficial issues, (Lee and Azham, 2008). Unreasonable expectation is mostly caused by the public ignorance and inexperience on the auditor’s duties.
(See appendix 4). The community is the free audit function attacker; therefore it may be adamant that auditors should take on duties which in reality cannot be performed by auditors due to cost-beneficial issues. This cannot be avoided because public is not paying for the cost of the audit. Moreover, there are confusions concerning auditor’s duties in fraud detecting and reporting.
This is because the public assume that auditors check every transaction during audit function which is in contrast with the actual audit function where an auditor uses sampling techniques. (2009) argued that unreasonable expectation may have a negative impact on audit profession because community may possibly not be capable to recognize the auditor’s contribution to the public and may weaken the significance of the audit purpose. He argued that the only solution to unreasonable expectation is by making the public contributing to the cost of performing an audit function. However, this may lead to more expectation since the public will expect more from the auditors than before. Gray and Manson (2000) argued that expansion of auditor’s duties will help to reduce the gap. Humphrey, et al (1993) argued that it is impossible for the community to discard their expectation that auditor is a fraud detective through modification of auditor’s report length or education. Therefore it is the responsibility of the auditing bodies to introduce/improve auditor’s duties and responsibilities.
What Is The Expectations Gap
Knutson (1994) suggested that auditing bodies should introduce a standard to deal with the expectation gap which will hold auditors liable for what they must have known and not for what they might have known. Moreover, Sherer, et al (1997) suggested that standards should be introduced to limit number of services auditor can offer in order to limit his economic interest.
However, these suggested solutions might be expensive to implement and therefore cost benefit issues should be assessed before the implementation. Epstein and Geiger (1994) discovered that investors with some knowledge in accounting, investment or finance will be likely to demand lower audit assurance compared to ignorant investors. Therefore the only way to reduce expectation gap is through explanation of the audit function and limitations to the public. This communication of audit function and limitations can be done in Annual General Meeting or be included as part of the audit report.
This will help to reduce the unreasonable expectation gap since the public will be aware that their expectations are unrealistic. Et al 1997 suggested that in order to solve the problem of expectation gap, auditing standards should be adjusted to make rules and regulations clearer to both Public and Auditors. For example, SAS 130 and ISA 240, from the titles of these standards (see Appendix 1) it can be suggested that duties and responsibilities of auditors are clear however they are not clear when reading them especially to the public with no auditing background. According to Lee, et al (2007) SAS 130 raises the problem of who is responsible to report going concern, directors or auditors? In ISA 240 Directors of the company have the primary responsibility to detect fraud and auditors have the secondary responsibility with limitations.
The standard agrees with the fact that detecting fraud is more difficult than detecting an innocent error since efforts have been made to hide the misstatement. This standard limits auditors’ efforts to find material misstatements since they have a secondary responsibility in detecting fraud. Therefore, auditing standards should be clearer with situations where auditors will and won’t have duties and responsibility to deal with issues such as going concern and fraud. Technological change is another solution suggested by Gray and Manson (2000).
This solution may help to reduce the problem of unreasonable expectation. This is because, public assume auditors verify all transaction during an audit while in reality is not true, therefore an introduction of the new technology might let this happen. The introduction of the sophisticated auditing techniques would allow an auditor to set parameters for testing every transaction and for transactions which do not meet the parameters should be subjected to further examination. This technology will make the impossible possible and hence solve the problem of unreasonable expectation. However, this new technology will cost money to develop and run it, therefore cost beneficial issues should be measured before the implementation.
Humphrey, et al (1993) argued that, auditing bodies should introduce an independent auditing office which will examine the appointment of auditors, the level of audit fees paid and review the audit done by auditors in order to improve auditor’s independence. Furthermore, introduction of the regulatory pressure on the performance of the auditor will help to improve the auditor’s actual performance. This means, audit office by monitoring all auditing firms will have a positive effect on the auditor’s performance.
However this solution would lead to dishonest from some members when reviewing auditing firms they have interest in. It has been suggested in the solution (independent audit office) that by having audit office monitoring all auditing firms will have a positive effect on the auditor’s performance.
This solution has some limitation in implementing it since it is time consuming and members will have to be trained in order to perform the annual reviews. Moreover if members are interested in one audit firm, then there is a possibility that they will try to favour that firm by performing the reviews dishonestly just to get their employees cleared to perform audits. Moreover, level of audit fees is another contributing factor as to why the gap still exists. According to Lee et al (2007) it will not be cost beneficial for the audit firms to send their best, experienced and most expensive auditors to perform audits on small companies which will pay small audit fees. This will result to smaller companies not getting the same level of service compared to larger more wealthy companies. This means the less skilled auditors might fail to spot mistakes or fraud within the smaller companies which a more skilled and experienced auditor might pick up. Furthermore, difficulties in educating the public are another reason as to why the gap still exists.
It has been suggested in one of the solution (awareness of the public) that public should be given education on audit functions and its limitation through annual general meeting ( Epstein and Geiger 1994). However this solution has some limitation in implementing since not all shareholders attend annual meeting. Moreover, since each shareholder will have his/her own interest, he/she may not be interested in listening to the audit functions and limitations during the meeting. Final reason is the cost beneficial issue. Most of the solution put forward by many researchers could not be implemented due to cost beneficial issues. For example, Gray and mason 2000 suggested about the introduction of the new auditing technology, this technology is not yet introduced due to cost of researching and developing it being high. Another example is Knutson 1994 suggested to the board to introduce new standard dealing with expectation gap only, this standards is not yet introduced due to time consuming and being expensive to set it.
Expectation gap is an important current auditing issue which has existed for many years. This report critically discussed reasons for the expectation gap such as lack of auditor’s independence which can be caused by economic dependency on clients, inadequate competence which can be caused by level of audit fees paid by different clients, deficient standards and unreasonable expectation gap. Moreover this report critically discussed solutions such as expansion of auditor’s duties and responsibilities, Public awareness, provision of clarity auditing standards and introduction of new auditing software to verify all transactions during an audit. However expectation gap still exist even though there have been solution suggested to solve it due to cost involved in implementing those solutions, continuous changing in auditing standards, improper ways of educating the public and dishonest by some of the members of the auditing bodies/peer.
In the light of these conclusions, this report is recommending the auditing bodies to run free seminars on audit functions and limitations to public and allow the public to ask or put forward their suggestions concerning an audit. However this recommendation has limitations such as not all stakeholders will attend these free seminars. Therefore, after running free seminars, audit firm should be given time during the Annual General Meeting to educate the shareholders on audit functions and limitations. Moreover, in Annual General Meeting, the company should encourage conversation between auditors and shareholder.
After the general meeting, since not all shareholders will attend the meeting, audit firm should be allowed to use mass media to educate the public about audit functions, importance and limitations. Moreover, auditing bodies should have a free yearly professional development program which will help auditors to refresh their skills and keep up to date with the most recent audit techniques and any improvement in audit standards or legislation and hence solve the problem of inadequate competence.
Furthermore, this report agrees with Knutson (1994) by recommending to the auditing bodies an introduction of a new standard to deal with the expectation gap. Final recommendation is that, each company should give the current audit committee a more active role or establish an independent shareholders committee which will be choosing auditors to perform an audit instead of directors recommending to the shareholders auditors which they want to perform an audit. This report is aware that some of these recommendations are expensive and time consuming however in order for the gap to be bridged; auditing bodies should implement them accordingly. Anonymoussaid.There is one more repetition. Earlier this year alone - a 0. Then I met the goal,' Schauer.
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