Chapter 15 International Auditing Issues The Accounting and Auditing Profession Auditing has 3 important requirements An objective (independent), competent person Quantifiable (and verifiable) information Established criteria (or auditing standards) Quality of auditing profession depends on Reputation of the profession Quality of the educational system Certification process International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Global Audit Services Audit/Attestation and Assurance Services Tax Advisory and Compliance Services Consulting/Management Advisory Services Standard auditing packages are difficult to use because of international differences International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Risks in determining the scope of a multinational audit (Hermanson, 1993) Significant or unusual transactions at a sub Size of sub (revenue, net income, assets) Large changes in a sub’s net income Audit committee expectations Competence of sub’s accounting personnel Research shows that risks for domestic and international audits are similar International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Challenges: Local Business Practices Predominance of cash Makes tracing transactions difficult Japan – use of checks may not be traceable due to a lack of provision of cancelled checks Inability to confirm accounts receivable Translation into another language Receiving returned confirmations is difficult Auditors may be seen as intrusive International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Challenges: Currency, Language, and Law Foreign Currency Language and Culture Auditor must determine if the choice of translation method is correct Translators may not give the full story Knowledge of language is essential Interaction of Home Country and Local Law Home countries may have laws that extend to subs of their domestic companies that operate abroad Example – Sarbanes-Oxley 404 compliance by 2006 International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Challenges: Distance and Organization Distance Operations are not audited as frequently or as thoroughly Communication is slow Organization Firms may need to expand abroad Global firm alliances are often used International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Challenges: Diversity, Availability, Training Supply of Auditors Differences in Training – 3 models Apprenticeship approach – does not require specific university training in Accounting – U.K. University-based model – U.S. and Germany Dual track model – Netherlands and France International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Reciprocity General Agreement on Trade in Services Addresses problems of qualifying to practice in other countries in two ways Requires countries to administer their licensing rules in a reasonable, objective, and impartial manner and forbids countries from using licensing rules as disguised barriers to trade Encourages countries to recognize other countries’ qualifications, either autonomously or through mutual recognition agreements International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Reciprocity Principles for Reciprocity Signed between the AICPA, NASBA, and CICA Extended to Australia (ICAA) A short-form exam is administered Eighth Directive (EU) – auditors must Obtain qualifications that are deemed to be equivalent to the reviewing authorities in the host country Demonstrate that they understand the laws and requirements for conducting statutory audits in the host country International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Reciprocity Sarbanes-Oxley and PCAOB made reciprocity more difficult European Commission established a provision similar to Sarbanes-Oxley in 2004 Requirements include Regular rotations of auditors Independent audit committees at every company Registration and regular inspection by the PCAOB Proposal on establishing national watchdog organizations is still in the works International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Structure of the Audit Industry Statistics found in Economist, 2004 Big Four Audit 97% of all public companies in the U.S. with sales over $250 million Audit 80% of public companies in Japan Audit two-thirds of public companies in Canada Audit all of U.K.’s 100-biggest public companies Hold over 70% of the European market by revenue International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Structure of the Audit Industry Enron and Sarbanes-Oxley brought changes PCAOB was established to regulate the accounting profession and monitor firms Sarbanes-Oxley prohibits firms from providing many non-audit services to audit clients (Sarbanes-Oxley Act, 2002) Risks have increased for large international firms Compliance with Audit Standard 2 on internal control has been difficult and costly Some firms have had to drop clients International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Structure of the Audit Industry Trend is to organize around industry This trend results in a matrix form or organization Industry is the primary focus Functional organization is a secondary focus Firms offer tax and consulting services Some firms have sold some non-audit practices Some firms are outsourcing services International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Strategies of the Global Audit Firm Companies who switch to international auditors give these reasons for the switch The need to reflect the increasing size of overseas business The need to have one firm auditing all companies within the group Large audit firms have become multinational firms with strong global focus and control International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Strategies of the Global Audit Firm Mergers allow firms to gain stronger market share in emerging markets Citron and Manalis (2001) findings indicate Companies in emerging markets hire large international audit firms to add credibility to the financial statements This credibility allows companies to obtain international financing and list on foreign exchange markets International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Standards Vary considerably from country to country Standards come from The public sector (government) – U.S. now The private sector – U.K., Canada A combination of the two – Germany Requirements for a compliance audit U.S. – all publicly-traded companies and those with more than 500 shareholders and assets of more than $5 million U.K. – all limited companies must be audited International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Audit Standards Some audits simply test whether the financial statements reflect the books and records of the firm Other audits test whether the books and records accurately reflect the original transactions Why do standards vary? Differing capital markets Differing accounting professions Cultural differences – Japanese confirmations are obtained from the company as a sign of respect and trust International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black International Harmonization of Audit Standards IFAC is attempting to harmonize audit standards and audit professions globally IFAC sets standards in the following areas Auditing, assurance engagements, and related services Quality Control Code of Ethics Education Public Sector Accounting IFAC is also involved in issues relating to small and medium size companies in developing countries International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black International Harmonization of Audit Standards International Auditing and Assurance Standards Board (IAASB) Develops ISAs and International Standards on Review Engagements Develops International Standards on Assurance Engagements Develops related practice statements (IAASB Handbook, 2005) International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Benefits of Developing and Enforcing International Standards Readers of financial statements have justifiable confidence in auditor’s opinion Readers of financial statements have greater assurance that accounting standards are adhered to Readers are assisted in making international financial comparisons Further incentive to improve and extend the set of international accounting standards International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Benefits of Developing and Enforcing International Standards Increased flow of investment capital Developing countries will find it easier to produce domestic auditing standards The broader information gap between investors and management of MNEs is lessened International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Forum of Firms and IFAC Work together to improve international accounting and auditing standards Forum of Firms requirements Having policies and practices in compliance with ISAs and the IFAC Code of Ethics Maintenance of appropriate internal control procedures including intra-firm practice review Agreement to implement training on international accounting and auditing standards including the Code of Ethics Agreement to subject assurance work to periodic external quality control assurance Agreement to support the development of the professional bodies and implementation of international standards of accounting and auditing in developing countries International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black International Forum on Accountancy Development IFAD was formed after the Asian crisis (1997) IFAD works for conformity and consistency of national accounting standards with IAS IFAD needs to globally promote education on IAS, ISA, and IFAC’s Code of Ethics International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black Harmonization European Commission plans to adopt ISAs for all audits effective January 2007 (Sylph, 2005) Gaining PCAOB collaboration is key to the success of IFAC’s initiatives PCAOB may slow down harmonization in the U.S. (Giles et al., 2004) International Accounting & Multinational Enterprises - Chapter 15 – Radebaugh, Gray, Black