Are audits of ICFR improving?

Preliminary evidence indicates that audit work in the challenging area of internal control over financial reporting (ICFR) may be improving, PCAOB member Jeanette Franzel said during a recent speech.

The PCAOB issued Staff Audit Practice Alert No. 11, Considerations for Audits of Internal Control Over Financial Reporting, in October 2013 to help auditors succeed in this challenging area.

ICFR also was identified as a judgmental or complex audit area on a Center for Audit Quality (CAQ) list of audit considerations for the 2014 audit cycle. The CAQ, which is affiliated with the AICPA, reiterated some of the same considerations mentioned in Staff Audit Practice Alert No. 11 for auditors to consider to address deficiencies related to internal control over financial reporting cited in PCAOB inspection reports.

At the American Accounting Association’s annual meeting Saturday in Chicago, Franzel said a “perfect storm of ICFR” was created by:

• The implementation of the 2013 internal control framework of the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
• Steps taken by many external audit firms to respond to deficiencies noted in PCAOB inspections related to their audits of internal control.

“We are weathering the storm well, as auditors have focused on improving the quality of their audits of ICFR while companies have focused on adopting the 2013 COSO framework,” Franzel said. “However, we continue to see significant challenges with ICFR across the system.”

Although Franzel said ICFR audit deficiencies continue to be the most frequent inspection findings, she said the results of the PCAOB’s 2014 inspections of audit firms indicate that some improvements have been made in the area of auditing ICFR.

Franzel presented data from Audit Analytics showing that the percentage of adverse ICFR opinions among issuers with ICFR audits rose from 3.4% in 2010 to 5.2% in 2014. She said other data suggest there may be room for improvement in identifying and disclosing material weaknesses.

But she struck a positive tone about audits related to ICFR.

“This [data], together with what I hear from leaders in the profession, makes me optimistic that the audit work in the area of ICFR may be improving, though questions remain about whether auditors appropriately recognize and act on all material weaknesses as required by applicable standards,” Franzel said.

These improvements may come at a cost, she said. The PCAOB has not seen any unexpected increases in audit fees among issuers with ICFR audits, but will continue to monitor these fees, Franzel said.

“Ultimately, it is my hope that, as auditors become more effective at auditing the effectiveness of ICFR, they will also continue to do so efficiently and cost-effectively and possibly gain efficiencies through an appropriate risk-based focus,” she said.

—Ken Tysiac (ktysiac@aicpa.org) is a JofA editorial director.