Common attributes of quality audits.
Practitioners must understand better what makes an audit substandard. A 1992 survey of 93 government audits by the American Institute of CPAs federal assistance audit quality task force identified common attributes associated with quality federal financial assistance audits. The study results reported in this article establish a strong link between quality audits and 11 specific audit characteristics. Federal financial assistance recipients and their auditors can use this information as a basis for improving audit quality.
IMPROVING AUDIT QUALITY
The AICPA established the federal assistance audit quality task force in 1991 to
1. Determine the attributes affecting the quality of federal financial assistance audits and compare them to the recommendations in Report of the Task Force on the Quality of Audits of Governmental Units (the 1987 Steinberg report, so-called after the task force's chairman, Harold I. Steinberg).
2. Ascertain the underlying nature of substandard work noted by the IGs.
3. Evaluate the approach the IGs use to review, classify and summarize the quality of federal financial assistance audits.
4. Develop recommendations, if any, to improve audit quality and the IGs' method of reporting the results.
The task force developed a survey for IGs to complete when performing quality control reviews (QCRs). (Unlike desk reviews, which involve only a review of auditors! reports, QCRs also review workpapers.) A total of 93 surveys were completed from January to June 1992. Exhibit 1, page 63, summarizes the types of audits included.
Types of audits surveyed
Types of audits
A-128 single audits 32
A-133 single audits 5
Federal program-specific audits 56
Types of federal program-specific audits
Department of Education 29
(student financial assistance)
Department of Agriculture, Farmers Home
Administration, Rural Rental Housing 20
Small Business Investment Corp. 4
Housing and Urban Development 3
Based on survey responses, 21 attributes were found to be strongly associated with audit quality; 2 related to recipient attributes while 19 related to auditor attributes. The 2 recipient attributes pertained to whether recipients used competitive bidding to select auditors and had audit the likelihood of getting a quality audit assessment from the IGs. The 19 auditor attributes were grouped in the categories shown in exhibit 2, page 64.
Nineteen important auditor attributes (including two recipient contributes)
Strongest attributes are presented in boldface.
* KnowLedge of the industry
* Average hours of biennial government auditing continuing professional
education earned by the audit team
* Average percentage of time the partner spent on federal financial
assistance audits in the current year
* Average percentage of time spent on federal financial assistance audits by the audit
team in the current year (partner, manager and in-charge auditor)
* Average percentage of time spent on federal financial assistance audits by the audit
team in the last three years
* Percentage of firm business relating to federal financial assistance audits
* Familiarity with industry authoritative literature
* Audit hours and audit fees
* Manager time as a percentage of total audit hours
* Hours spent by the audit team on the audit
* Total audit fees
* Whether the in-charge auditor was a CPA
* General audit knowledge and experience
* Hours of accounting anti auditing CPE by the in-charge auditor
* Percentage of total time spent doing audits by the audit team
* Whether the audit firm derived at least 10% of its business from audits
not related to federal financial assistance
* Average hours of accounting and auditing CPE earned by the audit team
* Firm quality control commitment
* Whether the audit report and workpapers received a second partner
* Whether the firm received an unqualified or qualified peer or quality
* Whether the audit firm had a peer or quality review in the last three years
* Whether responsibility for monitoring CPE for staff auditors (below the in-charge level)
was independent of the audit team and centralized
* The time needed to complete the audit (from beginning of fieldwork to the audit report date!
The IGs were asked to assess audit quality based on two measures established by the President's Council on Integrity and Efficiency (PCIE). One measure identifies three standard levels of audit quality:
* Level one (no or minor changes).
* Level two (major changes).
* Level three (significant inadequacies).
Level one suggests acceptable audit quality; levels two and three suggest substandard audit quality. Level-three audits may be considered so substandard they are referred to the AICPA professional ethics division or the appropriate state board of accountancy for corrective action. (See JofA, Apr.94, pages 14 and 16, for an ethics division listing of common financial assistance audit deficiencies.)
The second PCIE measure includes a 16-category checklist divided into the five general standards, six audit fieldwork and workpaper standards and five audit report standards described below. The greater the number of categories checked off by the IGs, the lower the assessed audit quality.
General standards. Deficiencies might relate to an auditor's lack of appropriate qualifications, violation of the due professional care standard or the lack of quality control.
Audit fieldwork and workpaper standards. Deficiencies might include a lack of adequate planning and supervision, inadequate workpaper documentation, a lack of understanding and tests of the internal control structure and insufficient financial and compliance substantive testing.
Audit report standards. Deficiencies might include insufficient reporting of audit findings and inadequate report formats or the lack of a report on internal controls or on the general and specific compliance requirements.
WHAT THE SURVEY REVEALED
The survey findings addressed the task force's first objective--to determine the primary attributes affecting the quality of federal financial assistance audits. An analysis of the survey data showed 11 of the 21 auditor and recipient attributes were those most strongly associated with at least one of the two PCIE measures. An IG's assessment of acceptable audit quality appeared to be positively associated with
1. An audit team that obtained a large amount of biennial continuing professional education related to federal financial assistance audits.
2. A CPA firm partner who spent a large percentage of his or her current-year time on federal financial assistance audits.
3. An auditor who had copies of or otherwise referred to all authoritative literature.
4. A manager whose time on the engagement represented a large percentage of the total audit hours.
5. An in-charge auditor who was a CPA.
6. An in-charge auditor who obtained a large amount of biennial accounting and auditing CPE.
7. An audit team that spent a large percentage of its total time doing audits.
8. An audit firm that derived at least 10% of its business from audits not related to federal financial assistance.
9. An audit subject to a second partner review.
10. An audit firm that received an unqualified peer or quality review.
11. Federal financial assistance recipients who engaged in competitive bidding to select an auditor.
IMPLICATIONS OF SURVEY FINDINGS
Audit team characteristics appear to be atleast as important to audit quality as audit firm characteristics. The first 7 attributes above apply to the audit team, the next 3 to the audit firm and the last to federal financial assistance recipients.
Many of the 11 attributes relate to recommendations made in the Steinberg report. The task force that developed that report identified the five Es of quality government audits: education, evaluation, engagement, exchange of information and enforcement. The first three Es relate directly to 5 of the 11 attributes.
Education. Since the Steinberg report was released in 1987, government auditing standards require 24 of the 80 biennial CPE hours to be directly related to government auditing. The report also recommended that additional standards and professional guidance be developed. In response, the OMB updated its Compliance Supplement for Single Audits of State and Local Governments in 1990. In 1992, the AICPA auditing standards board issued Statement on Auditing Standards no. 68, Compliance Auditing Applicable to Governmental Entities and Other Recipients of Governmental Financial Assistance, and issued Statement of Position no. 92-7, Audits of State and Local Governmental Entities Receiving Federal Financial Assistance. A revised audit and accounting guide, Audits of State and Local Governmental Units, was issued in August 1994.
These actions relate directly to attributes 1 and 3. Specifically, the IGs checked off tN`ice as many of the 16 categories if the auditor had less than 24 hours of biennial government auditing CPE. In addition, the survey found an audit was more than twice as likely to be assessed substandard if the auditor did not refer to all industry authoritative standards.
Evaluation. Government Auditing Standards (the yellow book) and the AICPA bylaws now require a triennial peer or quality review for firms that perform audits (attribute 10). Auditors receiving other than unqualified peer or quality reviews (qualified, adverse or disclaimer) within the previous three years were more than twice as likely to receive a substandard audit assessment.
Engagement. To help ensure high audit quality, the General Accounting Office and the National Intergovernmental Audit Forum have emphasized the importance of the auditor selection process (attributes 2 and 11). Federal financial assistance recipients should consider technical attributes such as government auditing experience when selecting an auditor. For example, a partner who spent less than 25% of his or her current-year time on federal financial assistance audits was three times more likely to obtain a substandard audit assessment. Competitive bidding was an important component of an effective auditor procurement process--in the survey the IGs checked off twice as many of the 16 categories if federal financial assistance recipients did not engage in competitive bidding.
In addition to the 5 attributes directly related to the Steinberg report recommendations, 6 other attributes also were strongly associated with the IGs' assessment of audit quality--attributes 4 through 9. Three attributes related to general audit knowledge and experience. Specifically, the IGs checked off twice as many of the 16 categories if the in-charge auditor had not obtained at least 80 hours of biennial accounting and auditing CPE (attribute 6) and the audit firm derived at least 10% of its business from audits not related to federal financial assistance (attribute S). An audit team that spent less than 60% of its total time doing audits was more than three times as likely to obtain a substandard audit assessment (attribute 7).
The remaining 3 attributes related to the extent of manager involvement in the audit (attribute 4), whether the in-charge auditor was a CPA (attribute 5) and whether the audit was subject to a second partner review (attribute 9). In general, lack of manager involvement in the audit process appeared to be negatively associated with audit quality. In-charge auditors who were not CPAs were almost twice as likely to obtain a substandard audit assessment. The IGs checked off twice as many of the 16 categories if the audit was not subject to a second partner review--only 56% of the sample audits used such a review.
FEDERAL IG FINDINGS
The federal IGs' findings relate to the AICPA task force's second objective--to determine the underlying cause of substandard audits. Exhibit 3, above, suggests there is a strong positive association between substandard audit quality assessments (levels two and three) and the 16-category checklist. (The exhibit focuses on only 5 of the 16 categories because they explain over 50% of the substandard audit quality assessments.) For example, audits assessed as needing major changes were in violation of the due professional care standard 11.9% of the time; audits assessed as significantly inadequate violated the workpaper standards 14.5% of the time.
IGs' APPROACH TO EVALUATING AUDIT QUALITY
Exhibit 4, page 68, addressee the task force's third objective--to review the IGs' approach to classifying and summarizing the quality of federal financial assistance audits. The exhibit supports the view that the quality of large A-128 single audits is substantially better than the quality of small school district audits in accordance with OMB Circular A-128, audits in accordance with OMB Circular A-133 and individual federal financial assistance program audits. Only 5.3% of large A-128 single audits were classified as substandard. However, 75% of school district audits, 50% of A133 audits and 50.9% of individual federal financial assistance program audits were classified substandard. This is consistent with the PCIE fiscal year 1992 QCR results.
The IGs were asked to identify whether the sample audit was chosen judgmentally or randomly. Some of the reasons cited for judgmental selection included the auditor's most recent desk review results, the recipient's amount of federal financial assistance and the auditor's low number of federal assistance audits performed and the auditor's prior history of audit problems.
Overall, the IGs classified 42 out of 93 audits (45.2%) as substandard. The substandard audit percentage was almost identical for randomly selected versus judgmentally selected audits (44.8% versus 44.1%). However, the 12 small school district audits greatly influenced these percentages. If these audits were excluded, the substandard percentage for randomly selected audits declined to 21.1% and the substandard percentage for judgmentally selected audits increased to 45.6%.
The task force's final objective was to provide recommendations to improve the quality of federal assistance audits and the IGs' reporting methods.
Improving audit quality. Many of the significant attributes identified by the AICPA task force relate to the Steinberg report recommendations. Auditors who complied with these recommendations appeared to have much higher assessed levels of audit quality. In the future, the CPA profession should put greater emphasis on these attributes.
Two Steinberg report recommendations still have not been implemented. Membership in the national and regional Intergovernmental Audit Forums should be open to CPAs in public practice and the federal government's numerous rules governing the conduct of a single audit should be consolidated.
Inadequate audit training appeared to be a contributing factor, especially for audits of individual federal financial assistance programs. The AICPA CPE division and others provide government auditing courses. The U.S. Department of Education offers low-cost courses for student financial assistance programs. However, greater emphasis needs to be placed on training for individual federal financial assistance program and small school district audits.
IGs' reporting method. The current reporting process provides a critical means for identifying and correcting substandard audit quality. Yet, because a combination of random and judgmental selection was used, the sample percentage of substandard audits should not be projected to the entire population. Judgmental selection and the small number of audits limited our ability to conclude the same 11 attributes would be strongly associated with audit quality if all federal financial assistance audits were subject to QCRs.
GUIDELINES FOR IMPROVING QUALITY
For practitioners, the strong association between 11 specific attributes and audit quality identified in the study translate into guidelines for improving audit quality. If auditors and federal financial assistance recipients focus on these key attributes, the quality of federal financial assistance audits should improve in the future.
RELATED ARTICLE: EXECUTIVE SUMMARY
* SOME AUDITS OF FEDERAL financial assistance recipients do not meet established standards. An American Institute of CPAs study of 93 government audits identified common attributes associated with quality audits that practitioners and recipients can use as a basis for improving audit quality.
* AN AICPA AUDIT QUALITY TASK force was established in 1991 to determine attributes of quality federal financial assistance audits, ascertain the factors underlying substandard work, evaluate the approach federal inspectors general (IGs) use to evaluate these audits and make recommendations to improve audit quality.
* AN IG's ASSESSMENT OF acceptable audit quality appears to be positively associated with 11 factors, including the audit team's experience, expertise and training, certain audit firm characteristics and how the recipient selected the auditor.
* HOW THE IGs SELECTED AUDITS for evaluation is important. Because some audits were selected judgmentally instead of randomly, it may not be possible to project the results of the AICPA study to all federal financial assistance audits.
* TO IMPROVE AUDIT QUALITY, the task force suggests auditors comply with the recommendations in Report of the Task Force on the Quality of Audits of Governmental Units (the 1987 Steinberg report).
GEORGE R. ALDHIZER III, CPA, PhD, is assistant professor of accounting, Northern Kentucky University, Highland Heights. He is a member of the American Institute of CPAs, the Institute of Internal Auditors and the American Accounting Association. JOHN R. MILLER, CPA, is partner in charge of KPMG Peat Marwick's metro New York public services practice and a member of the firm's board of directors. He is chairman of the AICPA federal assistance audit quality task force and a former chairman of the AICPA government accounting and auditing committee. JOSEPH E. MORAGLIO, CPA, is vice-president-federal government of the AICPA in Washington, D.C.