In May 2020 the FRC issued a thematic review of Audit Quality Indicators (AQIs). AQIs are quantitative and qualitative measures of external audit quality, including both inputs to the process, such as time spent and outputs, such as audit documentation. The idea behind AQIs is to allow firms to monitor where past failings have occurred, or are currently occurring, and enable corrective action to be taken. AQIs can also be used by audit committees to judge a firm’s quality and by the firm itself to encourage a quality culture.
The key messages set out by the Thematic Review were that firms should:
- Continue to develop and embed AQI monitoring
- Improve the reporting and governance of AQI
- Increase monitoring of AQIs at engagement level
- Consider the types of AQI used. The most common were found to be:
- other inputs
- project management
- other processes
- management initiatives
- Increase the extent of leading (before the audit starts) and in-flight (during the audit) AQIs (as opposed to historical AQIs)
- Consider development of AQIs in the context of upcoming International Standard on Quality Management 1 (ISQM 1)
- Develop the monitoring of AQIs where this is not already done
- Improve the reporting of AQIs in firms’ Transparency Reports
- Report AQIs on individual audits to audit committees.
The review goes on to describe a number of the AQIs which firms are currently using or could use. For instance, the hours spent by the Engagement Quality Control Reviewer, or by the partner and senior staff, can give an indication as to whether sufficient senior time is being spent on the audit. Other AQIs, related to staff and partner involvement, might include hours worked, levels of sickness (which might indicate over-work), partner portfolios and involvement of specialists. From a project management perspective AQIs might look at whether the various stages of an audit were completed in an appropriate time frame.
There are benefits in perception and trust in audit as well and the FRC notes that where there is public reporting:
“AQIs help reduce the expectation gap and strengthen confidence in the audit firms”
Good practice found in the review included frequent (e.g. monthly or even real-time) reporting of AQIs making use of automated data flows to support this. Reporting packs that highlighted ongoing progress helped to focus attention on areas for improvement.
One notable area that root cause analysis (RCA) has demonstrated to be a problem from an audit quality perspective is poor project management. AQIs that include milestones, such as when client acceptance and planning occur, can help to improve project management and therefore quality. This type of AQI is often dependent on the ability to extract this information automatically from the software. Some firms already have this capability and others are working on updating their software to allow automatic extraction.
The review notes that for many AQIs it is the ability to measure them at a granular level, such as for a particular office or on a particular audit, which is important. Coupled with AQIs that include leading and in-flight information, for instance whether clients have delivered the required information on time, firms can act to either prevent problems within the current audit or at least swiftly change procedures for future audits.
Overall, the FRC is encouraging firms who do not yet have an AQI monitoring programme to develop one. The case studies provided near the end of the review give examples of where useful interventions have been possible because of AQI information. These help to highlight how to translate AQI reporting into quality improvements. Whilst the report is focusing on larger firms, all the principles also apply to smaller firms.
If you need help with root cause analysis, or producing a framework for AQIs get in touch.