Professional standards for audit under the spotlight

This article was current at the time of publication.

New Zealand’s External Reporting Board (XRB) is focusing on continually scrutinising audit quality.

PES 3, a standard that sets out how audit firms should go about establishing and monitoring a system of quality management for the audits they undertake, has been revised.

The standard deals with a firm’s responsibilities to design, implement and operate a system of quality management for audits and reviews of financial statements or other assurances or related services engagements.

Firms should have complied with the first part of the regulatory regime – designing and implementing a system of quality management – by 15 December 2022.

Evaluate your quality management annually

As the objective of PES 3 is for the system of quality management “to operate continually and iteratively”, the standard includes requirements to evaluate systems annually, with the first evaluations due within 12 months of implementation.

CPA Australia’s Head of Professional Standards, Melissa Read, says the New Zealand regime is in line with  the International Standard on Quality Management ISQM 1.

Read says that following the implementation of PES 3 last year, audit firms should note paragraphs 53-56, which set out the responsibilities of the individuals “assigned ultimate responsibility and accountability for the system of quality management”.

“It’s the responsibility of these individuals to evaluate the system of quality management,” she says.

Quality management tools and advice

CPA Australia’s System of Quality Management Tool for firms providing audit and assurance services is being revised to include a step-by-step process of evaluating the operational effectiveness of firms’ responses to identified risks to quality objectives. 

The tool provides for the steps a firm must take if it is unable to conclude it has “reasonable assurance” the objectives of the system are being achieved.

The specifics: reasonable assurance and periodic evaluation

Paragraph 54 of the standard requires that those individuals – if they can’t conclude “reasonable assurance” can be given – must decide whether it could be given “except for matters related to identified deficiencies that have a severe but not pervasive effect on the design, implementation and operation of the system of quality management”.

The alternative is to conclude that reasonable assurance can’t be given.

If either of the above applies, the standard notes that a firm must take “prompt and appropriate action” and communicate to engagement teams and other individuals assigned activities within the system of quality management (to the extent relevant to their responsibilities), and “external parties in accordance with the firm’s [required] policies or procedures”.

Paragraph 56 requires firms to undertake periodic performance evaluations of the individual or individuals assigned ultimate responsibility and accountability for the system of quality management, and the individuals assigned operational responsibility for the system of quality management.

A further standard, PES 4 Engagement Quality Reviews, deals with the appointment and eligibility of the “engagement quality reviewer”.

A firm’s system of quality management needs to include specified responses set out in PES 3, including establishing policies or procedures addressing engagements that are required to be subject to engagement quality reviews.

A risk-based approach to quality management

XRB Chief Executive April Mackenzie emphasises that PES 3 is not a “done once and forgotten” system of quality management but requires a risk-based approach. Accordingly, the system of quality management is scaled for the nature and circumstances of both the firm and the engagements the firm performs.

“The standard provides examples of how scalability could be achieved throughout the standard,” Mackenzie notes.    

“PES 3 requires an iterative process with monitoring and remediation playing an important part to identify learnings, ensuring the QM [quality management] system continues to evolve to test and as appropriate improve quality, trust and confidence.”