The Financial Reporting Council (FRC) has downgraded EY’s performance in its latest Annual Quality Inspection Report compared to last year’s inspection, saying that the firm needs to do more in particular to improve its auditing of ‘letterbox’ companies
The regulator reviewed 16 of EY’s audit engagements for its 2013/14 inspection. Of these, six were judged to be performed to a good standard, compared to ten the year before. Six audits required improvements compared to one in 2012/13. The remaining four required significant improvements, compared to one in the previous year.
Two of the problematic audits were of entities where the company’s general and financial management are located outside the UK (‘letterbox’ companies). In both cases the regulator said there was insufficient evidence of EY supervising and directing the work of the third party undertaking the audit. The FRC said EY needed to enhance guidance on group audit engagement and provide training for all partners and staff.
The FRC identified issues in other areas including revenue recognition, testing of IT controls and impairment of goodwill, as well as the impact of resourcing challenges on audit quality. On the subject of testing internal controls, the FRC queried EY’s global audit approach. The firm believes that where a suite of controls are subject to common control and are applied consistently in a number of locations globally, a single global sample may be selected for testing. The FRC said: ‘It has yet to be demonstrated to us that this approach complies with Auditing Standards’.
The regulator also raised concerns about potential breaches auditor independence on one audit, where part of the fee arrangements agreed for non-audit services involved what was, in substance, a contingent fee.
In a letter to the FRC outlining the firm’s response to the review, Hywel Ball, EY’s UK head of audit, said he was ‘disappointed’ that the current year’s gradings ‘were not as positive as there have been no material changes in our audit practice’.
‘However, as the report points out, a wide range of factors can influence your inspectors’ ratings each year. We also note that the change in gradings is not necessarily indicative of any overall change in audit quality at our firm. Nevertheless, we have already taken actions to address specific findings, such as those in relation to letterbox companies which had a major impact on our gradings this year,’ Ball said.
