An effective definition of audit quality should encompass two key factors, the Center for Audit Quality (CAQ) told the PCAOB in a comment letter dated May 13.
The CAQ, which is affiliated with the AICPA, has been working over the past several months to develop perspectives that could help define audit quality and how relevant audit quality indicators can be identified.
According to the CAQ, an effective definition of audit quality should acknowledge the importance of the quality of outcomes (outputs) as well as the quality of processes (inputs) that deliver those outcomes.
Input-based quality indicators would reflect the degree to which the process meets a predetermined list of criteria, similar to the way proper formulation of a medication would work for a pharmaceutical manufacturer. Output-based quality indicators would show the perceived value a user gets from a process, such as the level of pain relief that medication would give a customer.
Taking these two factors into consideration, the CAQ says, would mean that a definition of audit quality should:
- Recognize the audit committee’s oversight role and how it enhances confidence in financial statements.
- Incorporate compliance with input- and output-based regulations and professional standards, as well as consideration of the audit firm’s system of quality control.
- Provide linkage to the key elements of an audit quality framework based on the PCAOB’s quality-control standards or other professional standards, such as value, ethics, and attitude; knowledge, experience, and time; process and execution; and reporting and communications.
This week, the PCAOB’s Standing Advisory Group (SAG) is scheduled to consider audit quality indicators that might be most helpful to audit committees and investors when evaluating audit services at the engagement team or firm level. The SAG meets Wednesday and Thursday.
The CAQ’s letter also proposes that guiding principles or selection criteria should be developed and applied during the process of identifying audit quality indicators. Those criteria are divided into essential criteria, which all indicators should meet; important criteria, which the board is encouraged to strongly consider; and collective criteria, which are conditions the criteria as a whole should meet.
Essential criteria for audit quality indicators, according to the CAQ, are:
- Conveying information that has value/utility to stakeholders.
- Measuring an input or output related to an element of the audit quality framework.
- Avoiding or minimizing unintended negative consequences.
- Being scalable to audit firms of different sizes.
Important criteria are described as:
- The ability to be measured consistently over time.
- The ability to capture information without unduly significant efforts.
- Objectivity and ability to be quantified.
Collective criteria are described as:
- Helping narrow—or at least not widening—existing expectation gaps.
- Addressing all important elements of the audit quality framework.
- Being supported by an accompanying narrative that provides the context for consideration of audit quality indicators.
“The CAQ believes audit quality indicators could be used to better inform audit committees and other stakeholders about audit quality, and how it evolves over time,” CAQ Executive Director Cindy Fornelli said in a news release. “We feel it is appropriate to share our perspectives in advance of the SAG meeting in an effort to further the dialogue on this important topic.”
—Ken Tysiac (email@example.com) is a JofA senior editor.