Systems of Quality Management Monitoring
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Background
We monitor the largest twelve audit firms’ compliance with the quality management standards (ISQM (UK) 1 & ISQM (UK) 2), which came into effect on 15 December 2022.
Overview of the Quality Management Standards
These standards set out the quality management requirements for firms that perform audits, reviews of financial statements and other assurance and related engagements. ISQM (UK) 1 requires firms to establish and maintain a system of quality management, centring on establishing quality objectives, identifying and assessing quality risks, and designing and implementing responses to them. It also requires firms to design and implement monitoring and remediation activities, including root cause analysis, to ensure the effectiveness of these responses and address deficiencies arising. This system of quality management covers:
- Risk assessment process
- Governance and Leadership within the firm
- Relevant ethical requirements
- Acceptance and continuance of relationships with audited entities and specific engagements
- Resources (including human, technology and intellectual resources obtained from the firm’s network and service providers)
- Engagement performance (including implementation of ISQM (UK) 2), and
- Information and communication
ISQM (UK) 2 specifically covers the requirements relating to the use of engagement quality reviews in the system of quality management.
Inspection Approach for the largest twelve audit firms
Our inspection activities are designed to be proportionate and tailored for each firm, focused on inspecting areas of risk and change for each firm, with the extent and depth of inspection activities for each firm proportionate to the size and risk of the firm. For each inspection cycle, our inspection activities will be driven by identifying which areas in firms’ SoQMs have been subject to significant changes or where we do not have up-to-date knowledge, as well as responding to firm-specific risks identified by the FRC.
Through our work, we assess how firms have tailored their system of quality management to their specific circumstances and use benchmarking against their peer group to identify good practice and areas for improvement. In each inspection cycle, we will undertake inspection activities over firms’ risk assessments, monitoring and remediation procedures, and annual evaluations, as well as inspecting areas of relevant ethical requirements, and governance and leadership.
Risk assessment
Each cycle, we review firms’ risk assessment process and the changes to their risks each year, with a stand back review over the completeness of changes.
Monitoring and remediation procedures
We review changes to firms’ programs for monitoring their systems of quality management, including how they monitor other sources of information regarding audit quality, how they monitor the culture of quality within the audit practice, reporting from service providers, and reporting from networks on the services and resources provided. We assess the robustness of the monitoring procedures in place, including through review of the monitoring of other sources of information and sample testing of the monitoring of responses. We also review how firms identify and assess findings, and how they design, implement, and monitor remediating actions.
Annual evaluation
Under ISQM (UK) 1, firms are required to perform an annual evaluation of their system of quality management. We review the process, evidence, and outcome for the firms’ annual evaluations. We do not reperform the annual evaluation to form a view on what the conclusion should be.
We also review the firms’ reporting on their evaluations, including in their Transparency Reports, for reasonableness.
Relevant ethical requirements
Our monitoring of the relevant ethical requirements component of ISQM (UK) 1 assesses the audit firms’ compliance with the FRC’s Ethical Standard for Auditors. In each cycle we inspect how firms manage the relevant ethical requirements for non-audit services, focusing on areas of change, and one other area of the UK Ethical Standard. We also engage with firms’ Ethics Partner periodically. We also review the firms’ biannual breach reporting to assess whether any breaches need referring to the case examination team for further consideration.
Governance and leadership
Our monitoring of the governance and leadership component includes cyclical inspection of compliance with the requirements of the Audit Firm Governance Code, annual inspection of how the firms monitor if they are achieving their objectives in relation to a culture of quality, and annual inspection of how these with responsibility for the SoQM are held responsible and accountable.
Inspection approach for smaller PIE audits firms
Our monitoring of smaller PIE firms’ compliance with the quality management standards is performed on a six-yearly basis by the Audit Quality Review team, with support from the Systems of Quality Management team. Our approach is to perform a full scope approach of each firm when they are due for review, considering the size and nature of each firm to drive a proportionate approach.
These inspection activities are complemented by the SoQM Scalebox Building Capacity program. Insights from our inspection activities are used to support this programme.
Interaction with other supervisory pillars
Our supervision of these quality management standards draws on, and integrates with, the work of the other AMS supervisory pillars (Governance, Leadership, and Culture and Risk and Resilience), and the work of the Audit Firm Supervision and Audit Quality Review teams.
Oversight processes
The quality and consistency of our work is supported by quality control and peer-review processes together with oversight from the Executive Director of Supervision and the FRC’s Board.
Reporting
Significant findings from this inspection activity are reported annually in our Annual Review of Audit Quality Publication.