Concerns highlighting audit judgments and the cross-selling of audit and non-audit services to clients at Ernst & Young have been raised in the 2009 Audit Inspection Unit reports.
The Financial Reporting Council's inspection arm looked at 11 individual audit engagements undertaken by the firm in the second year of its reports, and although 'concluded that the firm places importance on high quality audit work', found important areas needed improvement.
The AIU noted that in one of the audits it reviewed 'we considered that the reasons why certain non-audit services provided were considered to be permissible under the Ethical Standards and the firm's ethical policies were not adequately explained on the audit files'. This is the second time the firm has been pulled up for its ethical standards, since the first publication of the reports last year.
It also found that while the Big Four firm had prepared guidance to address the matter of audit staff cross-selling non-audit services to clients, 'it did not form part of the firm's independence policies and had not, in our view, been adequately communicated to partners and staff'.
In a large majority of audits reviewed in the inspection, the following areas were identified as having weaknesses: the identification of significant risk; the evidencing of the evaluation of the design and implementation of the related controls; and the communication of significant risks to subsidiary auditors. 'This was the first year that the audits concerned had been performed using the firm's new audit support system,' the report said. 'In out view, the firm needs to identify and address the underlying causes of these weaknesses.' On the subject of audit judgments, the report said it 'was generally satisfied' but room for improvement was found relating to certain audits. In some audits, the AIU said there was 'insufficient evidence on the audit files that the client's use of hedge accounting was appropriate', and in another it said 'the audit team did not identify a third party entity as a service organisation. As a result, it did not, in our view, perform sufficient audit procedures in this area'. In its response, Ernst & Young said: 'We fully support independent regulation and oversight of the audit profession, recognising its contribution to the confidence that investors and capital markets must have in corporate reporting. 'We believe the report on Ernst & Young is balanced and fair, reflecting some of the efforts and investments we make in delivering consistently high quality audits whilst providing insights and recommendations on areas for improvement. We have developed an action plan for the areas for improvement and have shared that with the AIU.'
In a large majority of audits reviewed in the inspection, the following areas were identified as having weaknesses: the identification of significant risk; the evidencing of the evaluation of the design and implementation of the related controls; and the communication of significant risks to subsidiary auditors. 'This was the first year that the audits concerned had been performed using the firm's new audit support system,' the report said. 'In out view, the firm needs to identify and address the underlying causes of these weaknesses.' On the subject of audit judgments, the report said it 'was generally satisfied' but room for improvement was found relating to certain audits. In some audits, the AIU said there was 'insufficient evidence on the audit files that the client's use of hedge accounting was appropriate', and in another it said 'the audit team did not identify a third party entity as a service organisation. As a result, it did not, in our view, perform sufficient audit procedures in this area'. In its response, Ernst & Young said: 'We fully support independent regulation and oversight of the audit profession, recognising its contribution to the confidence that investors and capital markets must have in corporate reporting. 'We believe the report on Ernst & Young is balanced and fair, reflecting some of the efforts and investments we make in delivering consistently high quality audits whilst providing insights and recommendations on areas for improvement. We have developed an action plan for the areas for improvement and have shared that with the AIU.'