External auditors' evaluation of a management's expert's credibility: Evidence from Australia

Abstract

The Australian Securities and Investments Commission (ASIC) has concerns that auditors are not adequately evaluating the reliability of the work of management's experts (MEs). We interviewed nine experienced auditors to understand how auditors evaluate MEs. We observe that some factors specified by auditing standards, such as an ME's competency in accounting standards, geographical location of the subject matter or the ME, and the sourcing of an ME play a minor role in an auditor's evaluation of an ME's credibility. In contrast, the reputation of an ME's firm is a key determinant. Auditors corroborate information from multiple sources, but verify only the ME's professional qualification. We identify three potential reasons for the ASIC's concerns: "Experts are considered cognitive authorities,""Documentation is the key," and "Move from a risk-based approach to a checklist approach."

External auditors' reliance on management's experts: The effects of an early‐stage conversation and past auditor–client relationship

“…According to Agrawal (2018), if auditors do not agree to an ME's intended methodology and approach towards the valuation or they believe that the scope of the work assigned is not appropriate for financial reporting purposes, auditors are likely to raise their concerns with the client. As shown in Figure 1, the client then takes necessary action and ensures that auditor requirements are met (e.g.…”

“…Once the issue is resolved, all parties are in basic agreement, and the initial disagreement is unlikely to have a follow‐up effect on auditors' judgements and decision‐making. Furthermore, the interviewees in Agrawal (2018) explained that issues were rarely identified during the early‐stage conversation because clients are generally knowledgeable and MEs are aware of the financial reporting requirements. Issues, if any, were largely due to a restricted or incomplete scope assigned to the ME.…”

“…Agrawal et al (2020) raise concerns that MEs' perceived cognitive authority status increases the risk of insufficient scepticism exercised by auditors in seeking and evaluating audit evidence. This is because auditors tend to perceive MEs as being specialists in their field, so consequently ‘know what they are talking about’ and ‘know something that auditors do not know’.…”

“…The Australian auditing standard ASA 500 (identical to the equivalent International Standard on Auditing ISA 500) defines an ME as ‘an individual or organisation possessing expertise in a field other than accounting or auditing, whose work in that field is used by an entity to assist the entity in preparing the financial report’ (ASA 500, para 5e). Examples of expertise that may be classified as being provided by MEs include the valuation of complex financial instruments, land and buildings, plant and machinery, jewellery, art, intangible assets, assets and liabilities acquired in business combinations, information used for impairment assessments, estimation of resources such as oil and gas reserves, valuation of environmental liabilities, actuarial calculations, provision of engineering data required in the valuation of roads and the interpretation of contracts and laws (Agrawal, Tarca, & Woodliff, 2020; AUASB, 2020; Chartered Professional Accountants Canada, 2019; South African Institute of Chartered Accountants, 2020).…”

“…Based on interview findings, Agrawal (2018) reported that although an early‐stage conversation is recommended by GS 005, auditors do not always consider it necessary to engage with the ME in the early stages. Auditors are more likely to initiate an early‐stage conversation with an ME when the task is a one‐off, unusual or complex.…”