The U.K. Financial Reporting Council has reprimanded and fined KPMG and one of its former senior partners for a failure to exercise “sufficient professional skepticism” and for failure to obtain “sufficient appropriate audit evidence.” The sanctions come at a time when the FRC is calling for improvements in audit quality from the Big Four.
According to the FRC’s final decision notice, KPMG was fined £455,000 (U.S. $564,225), while Nicola Quayle, a former senior partner in its Manchester office, was fined £29,250 (U.S. $35,905). Quayle must also undertake appropriate training, in a format to be agreed upon with the FRC.
Regarding the failure “to exercise sufficient professional skepticism,” KPMG and Quayle “failed to explain on the fiscal year 2016 (FY2016) audit file why the audit risk in relation to ‘promotional income’ differed from that relating to ‘overrider income.’” They also “failed to perform sufficient audit procedures in relation to a manually accounted trial balance code, which was included within cost of sales in the 2016 financial statements. The substantive analytical review, which was the only procedure carried out for this account, did not provide sufficient audit evidence and was not capable of doing so as designed,” the final notice states.
The final notice goes on to state that KPMG and Quayle also “failed to conduct any substantive inquiry into the provenance of a very substantial promotional income balance on the reconciliation workbook of a large supplier, which balance was by far the largest single item and approximately 35 times larger than the average item.”
Audit evidence lacking
KPMG and Quayle’s failure to obtain “sufficient appropriate audit evidence” specifically related to “verifying the provenance of the information contained in the supplier statement reconciliation workbooks. While KPMG and Quayle stated that certain audit work was carried out in relation to verifying the provenance of such information, the work was not documented in the FY2016 audit file,” the final notice stated. “Particularly, the respondents did not retain on the FY2016 audit file copies of supplier statement reconciliation workbooks to support the summaries of supplier statement reconciliations documented on the FY2016 audit file.”
According to the FRC, Quayle “failed to deal with certain matters that fell within the scope of her responsibility for the direction, supervision, and performance of the audit engagement in compliance with relevant requirements.” Specifically, the FY2016 audit file recorded the controls relating to reconciliations of overrider income as “high risk” of the failure of the controls. “This was erroneous, as the auditors did not rely on these controls,” the FRC said.
However, a thorough review of the relevant part of the file should have detected the inconsistency between the FY2016 audit file and the actual work undertaken. And despite both the company and the respondents using the terminology of revenue or income to describe “overrider income” and “promotional income,” these credits were accounted for within cost of sales, not revenue. “The references in the FY2016 audit file to their inclusion within revenue were incorrect and misleading to a reader of the FY2016 audit file,” the final notice stated.
According to the FRC, the seriousness of the breaches was aggravated by the fact that it had made auditors aware, through publications in 2014 and 2015, “that complex supplier arrangements would be an area of particular attention in its reviews.” Furthermore, the FRC said, both KPMG and Quayle have “poor recent regulatory records.” The final decision notice lists five previous fines by KPMG and lists Quayle’s former senior management responsibilities within KPMG as another aggravating factor.
In addition to the sanction, the FRC ordered KPMG within two years from the date of the decision notice to undertake a quality performance review of three statutory audits for which Quayle is the statutory auditor, to be conducted by a statutory auditor from KPMG’s London office. KPMG will be required to report the results annually to the FRC.
The executive counsel’s determination as to sanctions reflects that Quayle will not undertake statutory audits of public interest entities for a period of two years from the date of the decision notice; Quayle has already received fines from KPMG in relation to the FY2016 audit and in respect of her prior regulatory record; and that the breaches of relevant requirements “were not intentional, dishonest, deliberate or reckless.”
“This is a measured and proportionate package of sanctions, which balances, on the one hand, the limited nature of the breaches, which did not call into question the truth or fairness of the financial statements, with the fact that auditors should have been on alert to pay particular attention to these types of complex supplier arrangements,” said Claudia Mortimore, deputy executive counsel to the FRC. “Professional skepticism remains at the core of an auditor’s duty, and the FRC will take appropriate action where it has been lacking, as in this case.”