How sceptical should an auditor be?

That question underpins a consultation undertaken in the UK by the Financial Reporting Council, the accountancy watchdog, and the Financial Services Authority, still for a while the market regulator. The answers it received voice many of the usual platitudes, but some interesting insights appear, not least about how difficult it is to strike the balance. The accounting firm KPMG, for example, wants to support measures that enhance "well informed scepticism", but it then explains why it's so difficult. Being well informed is a requirement of the auditors. They must understand the businesses they audit – and understand them well – if they are to be able to judge accurately the accuracy of the accounts. But getting close to the business means getting close to the company. So "a balance needs to be struck to prevent the auditors become so familiar that they lose their sense of objectivity or professional scepticism", it writes. Moreover, the main "downside" of time and cost seen by the FRC and FSA in their paper isn't particularly important, KPMG says, when set alongside the risk that "unwarranted overt scepticism" will be perceived by the client as "aggressive" and "translated as a lack of trust". Such a defensive reaction by the client can result in a lack of openness and a poorer quality audit.

The investor's side: The submission by the International Corporate Governance Network set a rather more sceptical tone about how well the auditors do at striking that balance. Among its comments: "ICGN believes that during the lead-up to the financial crisis, there was insufficient auditor scepticism as demonstrated by PricewaterhouseCoopers declaring Northern Rock a 'going concern'." The bank was forced into state ownership following an old-fashioned bank-run in August 2007. ICGN said the auditors' problems have been exacerbated, however, by frequent changes to accounting standards. It urges, therefore, a "return to greater prudence and emphasis to a high degree of auditor scepticism".

Source document: The FRC news release has a link to the lists of responses.