Professional scepticism is a hot topic for auditing, and new research provides pointers on how to develop it.
Auditors need to cultivate a certain level of scepticism – without becoming completely distrusting – in order to do their job properly.
Yet simply telling auditors to be more sceptical is unlikely to have much impact on audit quality, according to the synthesis research, Auditor Professional Scepticism: Impact of Trust and Distrust (Harding et al) funded by CPA Australia.
The research points to increasing distrust and reducing trust to raise levels of professional scepticism, but it’s important to understand human nature to determine how to do that effectively. Most of us are disposed to trust others – it is a basic human motivation.
The research suggests looking beyond disposition and focusing on the circumstances the auditor faces.
Firms can seek to recruit individuals with a more sceptical nature, but once recruited, emphasis needs to turn to the situation in which auditors work.
What affects auditor trust and distrust?
An auditor’s perception of their working circumstances is critical in determining whether, and to what extent, they trust management. The audit team will be more sceptical when team members understand the importance of their role and the risks of missing errors.
To distrust everything management says, or every piece of evidence, is impractical in a role that requires the client’s cooperation. However, identifying with the client because a close relationship has developed will undermine professional scepticism.
Infographic: Why are auditors raising uncertainty on going concern?
Therefore, stringent independence requirements and engagement partner rotation will also support auditors’ scepticism.
To focus suspicion appropriately, auditors need training and experience to recognise red flags that should trigger distrust and call for investigation.
Carrot and stick
The Harding et al research finds the most effective way to reduce trust and increase distrust is through a system of rewards and consequences for the auditor.
An auditor will be less trusting if they see management benefit from inappropriate behaviour or not suffer sanctions. The auditor who is aware of the potential negative consequences for themselves of excessive trust in management will be more distrustful.
Competent and confident auditors can challenge effectively
Professional scepticism can be affected by lack of knowledge. An auditor may fear making a fool of themself by asking the client “a silly question”.
Auditors who are competent and have sound technical skills know the questions to ask. If you couple this competence with the confidence to challenge management then professional scepticism will be triggered and exercised appropriately.
Why scepticism matters
Regulators and standard setters have been calling for auditors to have an “attitude” that includes a questioning mind and a critical assessment of the evidence.
The Australian Securities and Investments Commission (ASIC) in its latest audit inspection report cites professional scepticism as one of three broad areas where audit firms need to improve. Regulators point to:
- lack of accountability
- insufficient challenge of key assumptions and inputs
- inadequate corroboration of management’s explanations
- insufficient verification of supporting calculations.
The International Forum of Independent Audit Regulators
(IFIAR) says professional scepticism contributes significantly to quality financial statement audits “and should be a high priority for audit firms”.
IFIAR members identify insufficient scepticism as the root cause of inconsistent audit quality.
A joint international standard setters’ working group is focused on how to achieve effective scepticism, and there is considerable research on professional scepticism. The International Auditing and Assurance Standards Board (IAASB) has identified 59 published and unpublished research papers on professional scepticism written between 2013 and 2015 alone.
So if professional scepticism is a “silver bullet” for audit quality, then it is critical that educators, standard setters, regulators and – arguably most importantly – audit firms, understand the drivers to achieving and enhancing it.
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How to promote professional scepticism
- Share insights from fraud and error case studies, to develop competence in recognising red flags.
- Develop soft skills, such as how to detect personality-driven fraudulent tendencies, coupled with effective interview techniques and communication skills.
- Develop strategies to counteract client actions, such as intimidation of audit staff. This can occur by highlighting inherent audit risks and encouraging both support for and opposition to management’s assertions.
How to reinforce rewards and consequences
- Ensure the audit team’s tone at the top supports challenging and questioning behaviour.
- Create incentives through motivating sources of pressure, such as the likelihood of regulator inspection or audit file review.
- Reduce disincentives, by seeking to ease pressures when shorter deadlines have been imposed, when regulators expect increased documentation, or undue budgetary constraints exist.
- Reward the process rather than the outcomes of exercising professional scepticism, especially as the outcome is not always identification of fraud or misstatement.
- Reinforce with audit teams their intrinsic motivation and the value of their role.
- Raise awareness of the risks of poor audit quality relevant to the engagement.
Three key drivers of professional scepticism
Claire Grayston is CPA Australia’s policy adviser for audit and assurance.
- Ensure sufficient experience and knowledge within the audit team to effectively and appropriately challenge management.
- Encourage intuitive thinking, which more effectively supports a sceptical mindset, rather than primarily analytical thinking.
- Foster presumptive doubt rather than simple neutrality, to encourage critical thinking.
Auditor professional scepticism: impact or trust and distrust