It’s about time to migrate from audit to independent review

Organisations have been slow to embrace independent reviews as an alternative to audits, but this is changing.

Independent Reviews were introduced in the “new” Companies Act, Companies Act 71 of 2008, as amended (new Act), and there are signs that the auditing profession and the business world in general are finally acknowledging the benefits that this type of engagement offers. However, it’s important that companies and those performing the independent review tackle the migration in a structured manner.

Prior to the new Act, all companies’ financial statements had to be audited, a requirement that smaller companies found extremely onerous both from the point of view of the expense incurred and management’s time required by the audit team. The new Act, which came into force in 2011, provided welcome relief by providing a mechanism, the public interest score, to segment companies and thus the kind of financial scrutiny they need to undergo.

Companies that fall into the middle range are mostly not required to undergo an audit and can generally opt in for an independent review, while companies with a low public interest score generally do not require any assurance on their financial statements. Each company and its facts, however, must be considered individually as there are also other factors to consider when deciding on the most appropriate engagement for the company.

Take up of the new option to have the financial statements independently reviewed was initially slow for several reasons. Innate conservatism played a role, and an audit was probably seen as “better”. It’s also true that, at the beginning, banks were reluctant to grant finance on the basis of an independent review report, although they were relatively quick to change their view.

Another reason for the slow uptake was the perception that independent reviews would be less profitable because they required a highly analytical approach and thus, it was thought, more senior staff. In fact, the rapid emergence of sophisticated analytical tools means that junior staff can continue to be used to run the analysis, with senior staff only having to come in to draw the conclusions from the analysis – a division of labour similar to that of the traditional audit.

As a result, there is a considerable increase in the use of the analytical tools available.

Even more compelling from the reviewer’s point of view, an independent review exposes the reviewer to much lower risk. While an audit expresses a positive opinion that the financial statements contain no material misstatements, the independent review expresses a negative opinion – in effect that nothing came to the reviewer’s attention that would indicate any material misstatements exist.

Because auditors express a positive opinion, they take on extreme regulatory risk if any misstatements do come to light. The dramatic revelations of audit failures in the case of Steinhoff and other companies in the past few years have surely put risk and quality right at the top of the agenda in audit practices.

Getting the migration right
When the decision is made to move from an audit to an independent review, both the company and its reviewer need to take some common-sense steps to ensure success. These include:

  • Develop a deep understanding of what an independent review is, and how it differs from an audit. Both parties need a common understanding of what an independent review entails and what its aims are – the danger is to default into an “audit lite”. An independent review is primarily an analytical exercise to pinpoint apparent anomalies, and then to discuss these with the appropriate company officials to understand why they came about. Only when these discussions are unsatisfactory would the independent review actually involve delving into the facts.
  • Brief staff appropriately. It goes without saying that the reviewer’s employees need to be trained in the use of analytical technology and generally how to conduct the independent review. But one must not overlook the staff of the company being reviewed who will no longer be asked to provide a long list of documents but will rather have to answer penetrating questions designed to probe how the business is doing – for example, what products or services were introduced? Was an office opened or closed? What were the market figures? What was the inflation? And so on. The firm doing the independent review should take the lead in helping its clients’ employees to prepare.

Reviews have benefits for both the company and the firm undertaking the independent review, but care should be taken to prepare the way for a successful migration.