Auditors in the spotlight

CalculatorA recent hearing between the Treasury Committee and representatives of the auditing profession questions the role of the auditor in the current economic crisis. The hearing reflects the fact that auditors are facing increasing difficulties not only in their day to day auditing of companies but also in respect of external perception of their work. The Treasury Committee’s inquiry follows mounting criticism of auditors’ work and a growing demand to bring the auditors themselves to account.

Audit risk

Auditors are faced with numerous difficulties when attempting to audit the accounts of a company during times of economic turmoil. Two areas prove particularly problematic:

Fair value estimates - In times of economic turmoil, the nature and reliability of information available to management to support the making of a fair value estimate (the price an asset would fetch right now in a sale) varies wildly. This increases the degree of uncertainty associated with such estimates and therefore the risk of material misstatement; and

Going concern - Guidance issued by the Auditing Practices Board states that during times of economic turmoil, auditors need to ensure that they fully consider going concern assessments and refer to them in reports only when appropriate. This highlights the delicate balance required of auditors in ensuring they do flag genuine concerns but do not cause alarm unnecessarily.

Litigation risk

The difficulties listed above, combined with the current market volatility make the profession vulnerable to a variety of claims. Last summer the US Treasury's Advisory Committee of the Auditing Profession met in Washington and heard that between them the six largest firms had 27 outstanding litigation proceedings against them with damage exposure above $1bn, seven of which exceed $10bn.

Way forward

Since 6 April 2008 auditors in the UK have been able to agree “liability limitation” agreements with audit clients following a change in the law under the Companies Act 2006. This allows auditors to limit their liability. The risks faced by auditors in the current economic climate make the use of limitation of liability agreements potentially more important.

Avoiding any implication of a conflict of interest is also crucial for auditors. The Treasury Committee has previously expressed concern at the fees derived from non-statutory auditing work. Representatives at this week’s hearing reiterated this fear, criticising auditors for accepting such fees and as a result not being able to bite the hand that feeds them.

In response, the hearing saw auditors call for a closer relationship with the Financial Services Authority, specifically in order to improve supervision of banks. Leading auditors proposed that there should be regular meetings between each bank, its regulator and the auditors, as happened commonly during the 1980s. In doing so the auditing profession appears to be recommending a future where it works more closely with the regulator, allowing the regulator to take advantage of the auditors’ close relationship with their client, in a bid to answer its critics and reaffirm the auditors’ role.

If you would like to know more about agreeing Liability Limitation Agreements please contact us via the details below.

Liam O’Connell, CMS Cameron McKenna +44 (0) 20 7367 2640

This article first appeared in Law-Now, CMS Cameron McKenna's free online information service, and has been reproduced with their permission. For more information about Law-Now, please go to www.law-now.com.