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Audit quality

Transparency reporting
Independent inspection
Audit expectation gap

Definition proposed by DeAngelo (1981):

Audit quality is the market-assessed joint
probability that a given auditor will both: (i)
identify a breach in the client companys
accounting system and (ii) report that breach,
that is, that the auditor has both the technical
competence to detect any material errors
during the audit process, and the
independence to ensure that material errors
and omissions are corrected or disclosed in the
auditors report.

Aspects to Audit Quality:

Inputs (audit firm size, audit fees, audit
tenure and industry specialisation) and
Outcomes (financial reporting quality and
cases analysis) related to audit quality
Process (audit procedures, judgement and
decision making, and quality threatening
Perception (users-investors, bankers and

Inputs Factors Which May Influence Audit Quality

Characteristics of audit firm:
1. Size
2. Audit fees
3. Non-audit services
4. Audit tenure
Characteristics of auditors:
1. Professional attributes
2. Professional values

Outcomes Related to Audit Quality

Financial Reporting Quality:
1. Quality of earnings
2. Accurate financial
3. Restatements of Financial
4. Accurate audit opinion
5. Regulatory sanctions
Audit Failure Cases:
1. Litigation

Literature defines QTB or dysfunctional

behaviour as actions that could impair the
ability of the auditor to detect material errors
(Kelley and Margheim, 1990).
Herrbach (2001) defines dysfunctional
behaviour as actions taken by an auditor
during an engagement that reduce evidencegathering effectiveness inappropriately.
Malone and Roberts (1996) define it as the
auditors failure to properly execute audit

Premature sign off

Reducing the amount of work performed below
what auditor would consider reasonable
Failing to research accounting principles
Making superficial reviews of client documents
Accepting weak client explanations
Bias in sample selection
Reduction in sample size
Reduction in amount of documentation
Failing to research technical issues
Reliance on client work more than appropriate

Statutory Auditors Transparency Reporting Project

The Statutory Audit Directive introduced a mandatory
requirement for annual transparency reporting by
auditors of UK companies with securities admitted to
trading on a UK regulated market. The Statutory
Auditors (Transparency) Instrument 2008 gives effect
to this.
In 2008 the FRC reviewed the transparency reports of
seven of the 10 largest firms who published
a transparency report on a voluntary basis. A
further report in 2009/10 reviewed the quality of the
first reports prepared to meet the statutory

Information about the auditors legal

structure and ownership Where the auditor
belongs to a network, information about the
network and the legal and structural
arrangements in the network
Information about the auditors governance
structure Information about the internal
quality control system of the auditor

Details of when the last reviews of the auditor

conducted by an authorised body took place
Names of the relevant entities audited
Information about the auditors independence
The auditors continuing professional
development policy
Financial information for the auditor regarding
their audit and non-audit revenue, and
Information regarding the basis of remuneration
of an auditors partners or directors (nrfia).

The Audit Inspection Unit (AIU) was part of

the Professional Oversight Board, and
was responsible for the monitoring of the
audits of all listed and other major public
interest entities. The AIU was set up following
the UK Governments post-Enron review of
the regulation of the UK accountancy
profession which reported in January 2003

PCAOB inspects registered public accounting

firms to assess compliance with the
Sarbanes-Oxley Act, the rules of the Board,
the rules of the Securities and Exchange
Commission, and professional standards, in
connection with the firm's performance of
audits, issuance of audit reports, and related
matters involving U.S. companies, other
issuers, brokers, and dealers.

he Audit Oversight Board (AOB) is established

under Part IIIA of the Securities Commission Act
1993 (SCA) which came into force on 1 April
2010 to promote and develop an effective audit
oversight framework and to promote confidence
in the quality and reliability of audited financial
statements in Malaysia. The key responsibilities
of the AOB, amongst others, are:
implement policies and programmes in ensuring
an effective audit oversight system in Malaysia;

register or recognise auditors of public interest

entities (PIEs);
direct the Malaysian Institute of Accountants
(MIA) to establish or adopt, or by way of both,
the auditing and ethical standards to be applied
by registered auditors;
conduct inspections and monitor programmes on
registered auditors to assess the degree of
compliance of auditing and ethical standards;
conduct inquiries and impose appropriate
sanctions against registered auditors who fail to
comply with auditing and ethical standards;

cooperate with relevant authorities in formulating

and implementing strategies for enhancing
standards of financial disclosures of PIEs;
liaise and cooperate with oversight bodies
outside Malaysia to enhance the standing of the
auditing profession in Malaysia and
internationally; and
perform such other duties or functions as the
Audit Oversight Board determines necessary or
appropriate to promote high professional
standards of auditors and to improve the quality
of audit services provided by auditors.

The difference between the actual and

expected performance of an auditor. According
to the the American Institute of Certified Public
Accountants (AICPA) in 1992, the expectation
gap could be defined as "the difference
between what the public and financial
statement users believe auditors are
responsible for and what auditors themselves
believe their responsibilities are.

Porter (1993, p.50) provides an analysis of

the components of the expectation gap:
The reasonableness gap: defined as a gap
between what society expects auditors to
achieve and what auditors can reasonably be
expected to accomplish.
The performance gap: defined as a gap
between between what the public can
reasonably expect auditors to accomplish and
what they are perceived to achieve.

The audit expectation-performance gap can be

further divided into:
The deficient standards gap: a gap between the
duties which can reasonably be expected of
auditors and auditors existing duties as defined
by law and professional promulgations.
The deficient performance gap: a gap between
the expected standard of performance of
auditors existing duties and auditors perceived
performance, as expected and perceived by

Dr. Noor Adwa Sulaiman

Room A1-10
Office Hours
(book appointment via email):
2:00 3:00