Generalists, careers, and creative solutions

Appearing in In The Black magazine, November 2019

 

Range: Why Generalists Triumph in a Specialized World
By David Epstein
Riverhead, A$53

Tiger Woods’ story is well-known: living and breathing golf since he could walk, putting in untold hours of practice, laser-like focus on building the skills. But this model is deceptive, according to Epstein, a sports writer who has crossed into business analysis. He provides plenty of examples of very successful people – Roger Federer is one, but there also mathematicians, musicians and inventors – who started fairly late, after a lengthy period of sampling other things. A better method for doing well, rather than the practice-practice-practice pattern, is having a generalist base with a specialisation on top. Range high resEpstein calls this “interleaving”, an approach that develops inductive reasoning and abstract thinking, and which applies to both physical and mental skills.
Along the way, Epstein draws on studies by cognitive psychologists and brain researchers. He has an eye for a telling example, such as the point that most successful start-ups are established not by twenty-somethings but by people in their fifties. Highly-developed skills can easily be degraded by a shift in technology or social patterns but an innovative mind never goes out of fashion.
This is a fascinating, briskly-written book. Epstein does not dismiss the achievements of hyper-specialists but there are, he says, other paths to success.

 

Career Conversations: How to Get the Best from Your Talent Pool
By Greg Smith
Wiley, A$22

When it comes to career development, getting the best from employees – and giving the best to them – is no longer a matter of promotion interviews and performance reviews, according to HR specialist Smith. Rather, it is about coaching them towards the career path they really want, and aligning their personal goals with the goals of the organisation.Career Conversations
Many people will move through several careers in their working life. The stages are exploration, engagement, advancement, growth, maintenance and disengagement. Smith provides good advice on the conversations to have with employees at each stage, looking at the structure of coaching interactions. He believes a narrative approach of helping employees recognise key transition points is usually the best path. He readily acknowledges that this sort of coaching is not easy, and he provides a useful chapter to help leaders evaluate their own competencies in the area, emphasising the role of active listening.
A crucial aspect of the book is the tests and checklists provided. There is a particularly useful template to help the employee and the coach write down the career development plan. A written plan helps to crystallise ideas and options and, says Smith, turns vague notions into a long-term, actionable strategy.

 

Unlocking Creativity: How to Solve Any Problem and Make the Best Decisions by Shifting Creative Mindsets
By Michael Roberto
Wiley, A$28

For a long time, the prevailing wisdom was that only certain people had a talent of creativity. Not so, says academic Roberto. He cites a number of highly successful companies that operate on the assumption that most people have a creative streak, and that a central activity for a leader is to bring it out.
Many large companies, especially those with a long history, have inadvertently constructed barriers against novel approaches. This explains why employees often say that their ideas go nowhere even while the CEO is talking about the need for innovation. Some of the barriers are structural, with managerial layers stopping ideas flowing upwards. But most of them are cultural. Benchmarking can Unlocking Creativity coverprevent people looking broadly, and there can be too much focus on the next quarter’s results. A common problem is that people are simply not given the time to ponder, consider, and try new things.
Roberto is better at identifying problems than presenting solutions but his view that leaders should see themselves more as teachers than executives, including providing positive feedback, is moving in the right direction. The book does not answer all the questions it raises but it offers a wealth of interesting things to think about.

 

Building negotiation skills

Appearing On In The Black Digital site, October 2019

 

Everyday, we act as negotiators. But we seldom think about the skills required or the processes we must follow to negotiate successfully, according to Chas Savage, CEO of Ethos CRS, a company that specialises in customised capability training in communications, regulation, policy, and leadership. In his CPA Congress address, ‘Mastering Negotiation Skills’, he examines the requirements of successful negotiations, especially in business.
“The negotiating process is about how you can create and increase value,” he says. “Ideally, it involves a conclusion that involves everyone walking away satisfied.”
There are two types of negotiations. The first is transactional. One side gains while the other side loses, at least in the short term. The zero-sum nature involved means that this type of negotiation is not well-suited if there has to be a long-term relationship between the parties.
The other type, collaborative negotiations, is one in which both sides maximise their gains and minimise their losses, because they work to realise common objectives.
negotiation“It is important that you don’t mistake one for the other,” says Savage. “Any negotiation requires clarity of mind – and a lot of homework. You must understand what the other side wants, both the practical elements and the psychological needs. Yes, negotiation is a form of manipulation, but that does not mean that it cannot work out to the benefit of both parties.”
As an exercise, Savage asked the audience to put themselves in the position of the North Korean negotiators dealing with the US team and President Donald Trump, trying to reach an agreement over nuclear weapons. This helped to understand how to assess the needs of those on the other side of the table.

Planning needed

Much of the hard thinking has to be done even before negotiations begin. What is your real objective? What are you willing to do to achieve it? What do you think the other side is trying to achieve, and what will they give up? What is the anticipated outcome, your minimum acceptable outcome, and your ideal outcome? Is no deal better than a bad deal?
A critical part of this is knowing what you will do if negotiations fail. This is called the Best Alternative To a Negotiated Agreement, or BATNA. The key is to establish and expand the areas of agreement. This is the Zone of Possible Agreement, or ZOPA. The larger the ZOPA the more the two sides will seek to collaborate.
“Business negotiations are generally done by teams,” Savage notes. “And everyone in the team must know what their role is and who is leading the team. The last thing you want is your own people contradicting each other or not having required information to hand. The good cop/bad cop tactic, where one member of the team makes extreme demands and another one offers a more moderate position, can be useful, but everyone has to know exactly what they are doing.”
Depending on the nature of the negotiations, it can be very useful to conduct a test run, with an ‘opposing’ team. Gaming can reveal potential problems and weaknesses, which can be addressed before the real thing starts.

Tactics and trust

Good preparation makes for good negotiations but across-the-table tactics are also crucial. A solid start is to cite standards, precedents, and the benefits of an agreement. This will provide a framework for discussion. From here, it should be possible to divide the negotiations into small steps, to minimise risks and misunderstandings. However, there has be a clear focus on the overall objective, and disputes on unrelated issues should be closed down immediately.
“There needs to be an element of trust,” says Savage. “That doesn’t mean you have to like each other. It just means that you have to know the other side can and will deliver on their commitments, and they know that you can and will deliver on yours.”
A useful idea is to draft an agreement document as soon as possible in the process, to give discussions a focal point. But ensure that there is only one copy in circulation at a time. The two sides having different documents is a recipe for conflict, and an undermining of trust. Do not, Savage emphasises, allow the other side to draft the document.
“In the closing stage, look for things like fading counter-arguments, body language suggesting fatigue, and converging positions,” he says. “The end is then in sight. Once there is an agreement, follow up promptly on the commitments you have made.”
Savage makes the point that the negotiation process can be intellectually and physically demanding. Complex negotiations require a high level of concentration over an extended period.
“Make sure you are healthy and relaxed,” Savage suggests. “There should be planned time and resources for rest and recovery. It’s hard work, after all.”

AAT minefield

Appearing in In The Black magazine, November 2019

 

Registered tax agents should think carefully before representing a client on a tax dispute at the Administrative Appeals Tribunal, as many of the rules are unclear and the issues are poorly-defined. It is entirely legal for accountants to appear for a client at the AAT – in fact, the Tax Agent Services Act expressly allows registered tax agents to do so – but that they can does not automatically mean that they should.
According to figures provided by the AAT in its submission to the review of the Tax Practitioners Board, last year about 30 per cent of people who took a tax dispute to the AAT were represented by their accountant/tax agent, or 198 of the 316 cases in the Taxation and Commercial Division. In the other cases, the appellant was represented by a lawyer.
The AAT is not a court but an administrative body that reviews specific decisions of other government agencies, including the Australian Tax Office. It considers whether, on the facts presented to it, the correct or preferable decision was made in respect of the applicable law, rules and government procedures. Its own decisions are judicially reviewable.
Despite the administrative status of the AAT, many issues put before it involve questions of statutory interpretation and close reading of rules. This raises a critical question for accountants: where is the line that separates appropriate tax advice to a client from unqualified legal advice?
Melbourne barrister and part-time Deputy President of the AAT, Frank O’Loughin QC, notes that when tax agents present cases in the AAT on behalf of their clients they are involved in work that includes both legal and factual elements.
“Applying taxation laws to the facts of a taxpayer’s case is always legal work,” he says. “Registered tax agents are permitted to represent their clients in undertaking this work. Different aspects of Australia’s tax system call for deployment of different types of skill and knowledge. Some aspects of the work in the AAT lend themselves to the skills of accountants, others lend themselves to the skills of lawyers. Other aspects are common to both.”

Safe harbour

The TASA provides a ‘safe harbour’ for registered tax agents against the prohibition on legal advice. This is a provision in a law or regulation that affords protection from liability or penalty under specific situations, or if certain conditions are met. The safe harbour concept is used in several areas of law, including taxation.
Stormy harbourA difficulty is that it applies only when an accountant is doing the ordinary, ‘bread and butter’ work of an accountant, including advising on general Commonwealth tax issues.
Chris Wallis, a barrister who has published a number of articles on the subject, believes that many accountants do not really understand the limits of the ‘legal advice’ safe harbour. He also questions a key decision known as the Felman Bubble.
The Felman Bubble concept is derived from the decision in Felman v Law Institute of Victoria [1998] 4 VR 324; (1997) 142 FLR 383, where Kenny J said [at pp.383-4]
… a tax agent who gives advice, as to income tax matters … does not give what is ordinarily understood as legal advice …

“Accountants have long believed that they are entitled to give advice, including legal advice, about the operation of the tax laws more generally,” he says. “But there is no legal basis for this belief, even if the advice is provided in relation to the preparation and lodging of a tax return.”
Wallis cautions that the Felman Bubble does not extend to work in relation to state taxes or superannuation (other than in the context of income tax).
He sees no real difference between ‘engaging in legal practice’ and providing legal advice, a distinction sometime made in the literature and legislation. He believes that accountants’ training simply does not extend to commercial law, legal personality, equity or rules of evidence.

Issues with TASA

John Morgan, a Melbourne barrister highly experienced in the tax field, likewise sees the weakness of the Felman decision, and argues that a registered tax agent must know not only the tax law but the general law as well, and so must have comparable skills to a legal professional.
“Tax agents are allowed to give ‘advice’ about ’taxation laws’ because it is a ‘tax agent service’ under s90-5(1)(a)(ii) of TASA 2009, and a Federal law overrides the State and Territory laws that prohibit unqualified legal practice,” he says. “Whether this protects non-lawyers from any advice they give that culminates in a tax liability has not apparently been not tested. It may be that a Court would ‘read down’ the TASA protection, in cases where the ‘public interest’ was not served, because of the complexity of the general law.”
There is also the possibility that the TASA may be unconstitutional in attempting to give non-lawyers the right to ‘give advice’ on general law matters, or on ‘liabilities under taxation laws’, at all.
“In any event, registered agents must comply with the TASA requirements, including the Code of Conduct,” Morgan notes. “This includes an obligation to do this, amongst other things, ‘competently’. Often this will be difficult without legal training.”
Morgan also points out that providing legal documents to a client is fairly clearly outside what tax agents are permitted to do. A breach of the Code of Conduct can lead to disciplinary action by the TPB, resulting in suspension or cancellation of registration.
There is also legislation in each state and territory that prohibits an unqualified, uncertified person from engaging in legal practice, and substantial penalties are involved, with similar carve-out arrangements impacting accountants.
And just because a matter relates to tax does not mean that it qualifies for the carve-out: it can depend on the particular circumstances of a case.

Serving the client

Another issue that Wallis raises is the potential for accountants to unwittingly engage in legal practice when they choose to represent a client at the AAT. He believes that many accountants who go to the AAT do not understand the breadth of the issues that can arise and whether the Felman Bubble, while it applies to the representation in the hearing, can be stretched to the research and other work required to prepare for the hearing.
“An accountant before the AAT is almost always appearing to defend a client in relation to work undertaken by the accountant,” he says. “If the accountant submits that the client had provided everything that was needed the accountant has implicitly advised on evidence rather than tax. Similarly, if the accountant concludes that the client did not provide everything that was needed they are advising on evidence.”
He also takes the view that it might be appropriate to require registered tax practitioners to undertake relevant continuing professional development in this area to qualify for the safe harbour provisions.
John Morgan emphasises that in the objection process there is a need to inform the client of the available options, including independent advice, representation by a lawyer and the choice between the AAT and the Federal Court.
“Strange as it sounds, there have been accountants who go to the AAT without their client’s knowledge,” he says. “Perhaps they are trying to defend a mistake they have made. In any case, it is hard to see that it meets the standards of the Code of Conduct.”
Chris Wallis emphasises that the protective strength of the Felman Bubble, which applies in Victoria but not necessarily in other states, is untested.
“From a tax practitioner’s point of view, a prohibition without a bright line test is a disaster waiting to happen,” he says. “The lesson is: if you go to the AAT, be very sure about the scope of the task you are undertaking and why you are doing it.”

Realistic assessment

Accountants who appear at the AAT should be aware of the indemnity issues, although Director of Fenton Green, CPAA’s Insurance Broking partner notes that not all PI Policies provide complying cover for accountants. “The Professional Indemnity policy coverage needs to provide cover for CPA By Laws as well as all usual professional activities an accountant would undertake. That would include going to the AAT for a review.”
He goes on to suggest that accountants representing their clients at the AAT should keep clear records relating to verbal advice and always reiterate verbal advice in writing. “Do not stray from providing factual and verifiable accounting advice for taxation and bankruptcy,” he says. “Peripheral and personal advice should be highly avoided.”
Deliberately committing an offence invalidates the policy through a ‘fraud and dishonesty’ exclusion. There is a ‘write back’ provision for innocent partners in a practice.
Fenton advises that taking a case to the AAT can involve significant time and effort.
“This decision really needs to be made jointly through consultation between accountant and client,” he says. “Part of that discussion should be to identify the possible benefits as well the chances of success. You have to be realistic in your assessment.”

The Journey Within

Appearing in Sunlight Press magazine, October 2019

 

The White Book

By Han Kang, translated by Deborah Smith

Random, $12, 160 pages, ISBN 9780525573067

 

If you want a novel with a clear, three-act narrative and an all’s-well conclusion, then this book by Korean writer Han Kang is not for you. In fact, it does not even look like a novel, written in short and seemingly unconnected snatches of prose. It is more like an extended meditation on life and death, on what might have been and on what once was. And that is enough. More than enough.

White book coverIt is unknown how much of The White Book is autobiographical but it feels as if a good part of it is drawn from lived experience. Han has no lack of courage as a writer, in that she was willing to make such a departure from her previous book, The Vegetarian, which won the Booker International prize in 2016. That novel – actually three connected novellas – followed the increasing detachment of a woman from the real world when she announces she will no longer eat meat, and then eventually stops eating altogether. Significantly, we never really find out why: the three novellas are (effectively) centred on her husband, her brother-in-law, and her sister.

But we know that she is on a journey that leads to the most innermost part of the soul – something we find again in The White Book, and an idea that underlies much of the dynamism of the current Korean literary scene. The narrator of the book is in search of herself through an examination of the past, reflecting the way that South Korea is itself looking for a way forward (a theme, interestingly, often taken up by Han’s novelist father, Han Seung-won). It is a culture looking for the elusive balance between past and future, retaining what is most valuable without a trace of bleary-eyed nostalgia. The path has not yet been found but there is a sense that it will be, eventually.

Make no mistake: making one’s own fate is not an easy process, just as The White Book is not an easy read, despite its apparent brevity. It requires a certain level of engagement, and the reader has to be willing to follow the twists and turns of the narrative. The story that weaves in and out of the book centres on the premature birth and death, after only two hours, of a baby that would have been Han’s older sister (eonni is the Korean term). Han imagines the heartrending scene of the mother holding the newborn close and begging: “Don’t die. Please don’t die.”

But the universe decided otherwise, and the tiny corpse is taken into the forest for burial. The white swaddling cloth became a funeral shroud. It is this image that leads Han to examine the white things that punctuate her life: rice, pills, salt, waves, a bird on the wing, an empty page where text should be. And snow, a connection that leads Han to reflect on “the city” where she lives for a while, a place where snow disguises and then reveals the past. It is Warsaw (although never identified by name), a city which, like Seoul, has been repeatedly destroyed and rebuilt, a cycle in which Han sees an image of her departed, un-named eonni and herself.

For she eventually comes to realise that if the baby had lived then she, Han, would probably not have been born. It is a duality, a balance, that provides Han with a comfort, with a sense that things worked out as they were supposed to, as they were fated to. In the book’s final passage, Han bids her ethereal sibling farewell: “Within that white, all of those white things, I will breathe in the final breath that you released.”

There is a toughness in Han, a sense of resilience and a willingness to peel back layers to find the core of being. This book could easily have become a mawkish plea for sympathy but the restrained, poetic writing provides a sense of moving from mourning to acceptance, a completed circle. It is a limited emotional pallet but the right one. It is no surprise to learn that the book took a long time to write and almost as long a time to translate.

The White Book is not for everyone but those who accept it on its own terms will find that it offers beauty, poignancy and resonance, a knowledge of what is lost and what is gained, and how one becomes the other.

Han Kang

Quo vadis?

Appearing in Australian Spectator, 5 October 2019

 

Justice on Trial: The Kavanaugh Confirmation and the Future of the Supreme Court

By Mollie Hemingway and Carrie Severino

Regnery Publishing, A$57, 376 pages

 

How did it come to this? When did the constitutional right of the US Senate to “advise and consent” on Supreme Court nominees become a mission to ‘search and destroy’ individuals by any means? Hemingway and Severino, both connected to conservative legal groups, provide a carefully researched and highly detailed account of the battle over the confirmation of Brett Kavanaugh. After reading it one cannot help but be amazed at how the liberal left, which once held itself out as the exemplar of due process and reasoned argument, has become mired in its own self-righteousness and venom.

The Kavanaugh nomination was particularly important to the left because it might lead to the reversal of the Roe vs Wade decision, as it involved the replacement of a liberal judge with a conservative one. To the activist warriors the protection of Roe vs Wade is an end that justifies any means. When added to their hatred of Donald Trump, the result is a lack of any moral compass and the loss of any sense of legal procedure.

Justice on Trial coverSenior Democrats like Dianne Feinstein announced minutes after his nomination was made public that she would vote against anyone put forward by Trump regardless of their qualifications. Most of the other Senate Democrats said the same, making one wonder about the point of the whole business. But this left them a few votes short. The strategy was to attack Kavanaugh’s personality and background to swing some moderate Republicans over.

Kavanaugh had been warned by the White House that it was going to be tough, and it says much about the man’s character that he never considered not accepting the nomination. Right from the start, there were claims that he had assaulted or raped women, usually pushed along by the Democrats on Judiciary Committee. The claims quickly collapsed when the FBI investigated; the claimants often seemed astonished that there was any investigation at all. Activist lawyer Michael Avennatti brought forward a woman called Julie Swetnick who claimed that Kavanaugh, when at university, had been part of a plot to drug and gang-rape women. It fell apart when she admitted that she had no solid evidence for any such thing, and had a long history of making spurious charges.

The White House was thinking that the confirmation was going to proceed according to plan when Feinstein introduced another claimant. It was all secretive; Feinstein willingly broke the committee rules by withholding details until the last moment. When the claimant, Christine Blasey Ford, eventually appeared before the committee she said that Kavanaugh had sexually assaulted her at a party when they were in high school, leaving her permanently traumatised. Hemingway and Severino note that her social media presence had been scrubbed to remove any evidence of her militant anti-Trump views.

Her account was impressive, as a media performance, but cracks soon began to appear. She was fuzzy on when it occurred: she first said the late 1980s, but that did not work because by then Kavanaugh had moved away. She eventually settled on 1982, which would have made her 15. She could not say where the party was, how she got there, or how she got home. The real killer to her story, however, was that the friends she said with her at the time had no recollection of either the party or the assault.

Neither did her account of trauma ring true. She said she was afraid to fly, but in fact she often flew to other countries to surf.

None of this mattered to the anti-Kavanaugh forces, who said quite blatantly that Kavanaugh was guilty until he could prove himself innocent (although it is unlikely that any amount of proof would have been enough). Kavanaugh, for his part, could not remember ever meeting Ford, although he admitted that, yes, in high school and university he sometimes attended parties and he sometimes drank beer.

Depositions from women in Kavanaugh’s life saying that he had always treated them with respect were ignored. A common pattern was that activist women would say that they had been assaulted, and therefore Kavanaugh should be held responsible for all assaults. A confirmation vote for Kavanaugh, they shrieked, was a vote in support of rape and misogyny. Even the fact that Kavanaugh coached a junior basketball team was raised as evidence of likely paedophilia.

When Kavanaugh spoke before the committee, he avoided attacking Ford personally. He said that she had probably been assaulted and had mistakenly conflated the experience with him. It was a generous view, given what he was being accused of. Nevertheless, he carefully debunked her allegations as well as all the others against him, and emphasised that his judicial philosophy sat squarely within the mainstream.

It ended where it began, with a confirmation vote largely along party lines (one senator of each side switched). The left claimed victory, saying that any vote Kavanaugh made was now fatally tainted. Their media allies agreed, but when he was sworn in several Supreme Court judges, including liberals Ginsburg and Kagan, made a point of attending.

The left also said that any other potential conservative nominees would now be afraid to accept a nomination but Hemingway and Severino are sceptical. Judges tend to be tough characters, they say, and a Supreme Court position is the professional pinnacle. Nevertheless, the viciousness of the attacks on Kavanaugh indicate the depth of the divides in US society, as well as the issue of who can be trusted to communicate the truth. Certainly, the mainstream media came out of the whole affair with their collective reputation badly diminished.

Justice on Trial is not a light read, with a large cast and overlapping timelines. But it should be read by anyone with an interest in US politics. It is not a happy story but it is an important one.

Teams, valuation, and tax traps

Appearing in In The Black, October 2019

 

The Australian Tax Pitfalls of Administering an Estate with International Connections

By Ian Raspin

BNR Partners, 80 pages, $25

Estate Tax PitfallsNearly half of all Australians were either born overseas or had at least one parent born overseas. The figure is increasing, with growing numbers coming from Asian countries. For finance professionals working in the estate administration area this diversity raises a host of tax issues, especially as legal liabilities can pass to the executor.

Raspin, a senior CPA and director of the specialist firm BNR Partners, knows everything there is to know about this area, and in this short, useful book he writes with the clarity of the well-organised expert. He explains residency definitions and the basics of estate taxation, and then moves onto issues regarding foreign-based assets (with a separate chapter on real estate, where some special rules apply). There can be problems when the deceased person had assets or property that was generating income which was not declared in Australia. Raspin, using a detailed case study, explains that the best course is to negotiate a settlement with the ATO. He also looks at CGT issues and includes a useful appendix on double-taxation agreements.

This book is best read with two other Raspin books, Taxation of Deceased Estates and CGT on a Deceased’s Residence. Both are currently being updated.

 

Business Valuation: Theory and Practice

By Marco Fazzini

Macmillan, 227 pages

Business valuation lies at the heart of financial management but discussion often turns into a dry analysis of calculation methods. Fazzini, an academic in the valuation area, does not deny the importance of the formal processes but he argues that a true picture requires a broad consideration of the firm as well. For this he suggests an Integrated Valuation Approach, based on methods recommended by the International Valuation Standards Council, to give integrity and consistency to objective components. Fazzini emphasises the importance of looking at the firm’s financial strategy, its growth outlook, and position within its industry.Business Valuation

He does a solid job of explaining how to move between theoretical concepts and practical applications, examining the income-based method, the market-based approach, and the cost approach along the way. There is a chapter dealing with the tricky issues of valuation of intangible assets and a good discussion of when and how to apply adjustments in valuations (including control premiums and lack-of-control discounts).

The book is designed as a textbook but it would also be useful for financial managers who need to brush up on their valuation skills, as well as those working in a company looking to expand globally or considering an IPO.

 

Turning People into Teams: Rituals and Routines That Redesign How We Work 

By David Sherwin and Mary Sherwin

Penguin, 192 pages

There is often an assumption that a group of talented individuals will automatically produce effective team outcomes. Not so, say the Sherwins, who specialise in team training and development. In a good team the whole is greater than the sum of the parts, but getting it to work takes effort and organisation. They suggest a number of rituals – 27 in all – to get the machine humming. It starts by formally identifying the skills each person brings to the table and their area of responsibility. There also needs to be an understanding about the problem to be solved, the available tools, and relevant metrics. Using a timer to ensure that no member dominates discussion can be useful.

But the real value of the book lies in the diagrams and flow-charts that can be used to formalise communication and consensus-building. (The book links to a website from which the templates can be downloaded.) For the team facilitator, this is a way to keep all members moving in the same direction, with feedback mechanisms, progress reports, and conclusion reviews built into the process. The book adds up to a useful package, with an emphasis on getting the job done in the most co-operative and efficient way possible.

Turning People Into Teams

Checking the checkers

Appearing in In The Black magazine, October 2019

Auditing faces an uncertain future

Independent auditing has long been one of the foundation-stones of business but the profession, in Australia and globally, is facing unprecedented challenges – as well as emerging opportunities. No-one can say with certainty where the path is leading but there is a sense that auditing as a profession and a process is under pressure.

Much of the current concern has been driven by events in the UK, after a series of business collapses, most notably the BHS and Carillion failures, following sign-off of the accounts by one of the Big Four audit firms – PwC, KPMG, EY and Deloitte. Regulators are now pushing the firms to clearly separate the audit and non-audit services they provide to clients, even to the extent of splitting off a separate company.

Speaking recently to a UK parliamentary committee, the heads of PwC, KPMG, and EY indicated that they would cease providing non-audit work for large audit clients within a year. PwC UK has been the first to make serious moves in this area, announcing in June that it will have one business to focus on external audits and another to deal with internal audits and issues such as cyber-security and technology risk. It also plans to recruit more than 500 auditors, introduce new training and technology initiatives, and increase the number of specialists in its audit quality control section. This will cost about £30 million a year, which is a good indication of the seriousness of the issues.

“Globally, the UK is leading efforts to improve Auditing 2audit quality and avoid conflicts of interest,” says Professor Ian Gow, Director of the Melbourne Centre for Corporate Governance and Regulation at the University of Melbourne, and co-author of the book The Big Four: The Curious Past and Perilous Future of the Global Accounting Monopoly*. “But in South Africa, India, and Ukraine, there have also been cases of Big Four firms being excluded from audit work due to sloppy practices.”

This raises the question of how auditing is faring in Australia, especially since the Big Four handle audits for over 90 per cent of the companies listed on the ASX. It appears that, generally, the situation does not directly compare with the UK. A survey recently released by the Auditing and Assurance Standards Board, Audit Quality in Australia: The Perspectives of Professional Investors, found that 93 per cent of respondents indicated that they saw audit quality as “average” or “above average”.

Related to this, a Financial Reporting Council survey, Audit Quality in Australia: The Perspectives of Audit Committee Chairs, revealed a high degree of satisfaction with the quality of external auditing, with 92 per cent of respondents rating them “above average” or “excellent”.

“We were very pleased to see these results but we can never be complacent,” says Matt Graham, Managing Partner, PwC Assurance. “For some time we have felt that the audit quality debate in Australia could be broader, more balanced and aided by increased transparency. This is why we released the country’s first-ever balanced scorecard on audit quality recently. That scorecard showed audit inspection results along with other key measures of audit quality such as internal inspection findings, restatement rates and adjustments to financial statements. We plan to release data like this on an annual basis.”

The corporate regulator supports greater transparency and is considering whether to publish individual firm inspection results in its next public report. ASIC is also continuing work on possible additional audit quality measures to complement inspection findings. Doug Niven, ASIC’s senior executive leader, financial reporting and audit, notes that ASIC’s audit inspection report for the 18 months to 30 June 2018 found that in 24 per cent of the key audit areas that were reviewed auditors did not obtain reasonable assurance that the financial report was free of material misstatement. This is slightly better than the figure of 25 per cent for the 18-month period ended 31 December 2016.

“Sustainable improvement requires a focus on culture and talent in firms,” says Niven. “Our inspection findings suggest that further work and, in some cases, new or revised strategies are needed.”

But he is wary about splitting large accounting firms into audit-only firms, believing that it could adversely affect audit quality.

Graham notes that PwC in Australia has no plans to hive off its audit business (and none of the other big audit firms have signalled intentions to do so). He sees the business and regulatory environments in the UK and Australia as very different, and believes that the discussion in Australia should be more broadly aimed at audit quality, independence, conflicts of interest, and the needs of businesses and their shareholders.

Professor Gow is pleased to see moves like PwC’s scorecard although he wonders where it will lead. He notes that all of the Big Four firms have recently started to reveal new information. “Clearly the incentives to reveal more are stronger if your numbers look better,” he says. “I suspect that this wave of disclosure will prompt some tweaks to the inspection process to make the numbers more meaningful. An issue with the reported numbers is that audits are selected for inspection because they are perceived to be ‘risky’ audits, which makes it difficult to draw general conclusions. But overall it seems to be a healthy conversation to have.”

Focus shift

Discussions on ways to improve audit quality are important but there is an even more crucial question: in the current environment, what is auditing actually for? In an era when Big Data allows for real-time tracking of all of a company’s transactions, does the idea of checking and re-checking historical financial data make sense anymore?

Auditing 1Professional investors and audit committee chairs may be reasonably satisfied with the work of auditors but there are other stakeholders in the mix as well. There is certainly a bloc of investors who are concerned with a company’s non-financial performance as well as the traditional metrics.

While Big Data has the potential to take over many of the mechanical, repetitive tasks associated with auditing it is likely to push the profession into non-financial fields and towards predictions and business analysis.

Matt Graham says: “The industry has to evolve the audit in line with market demands, as well as engaging more effectively with stakeholders along the way. For example, should an audit include new levels of coverage such as fraud, going concern and cybersecurity? Could it provide assurance over non-financial measures such as culture, sustainability and the control environment? Should it look forward as well as back and provide comfort over forecast information?”

In this context it might be noted that the Australian Accounting Standards Board and the Auditing and Assurance Standards Board recently released a Practice Statement, Climate-related and Other Emerging Risks Disclosures: Assessing Financial Statement Materiality. The Practice Statement is not mandatory but it points auditing towards an integration of financial and non-financial data.

A key problem with this is that auditing financial statements is largely about providing assurance that the statements were prepared in accordance with accounting standards. When auditing begins to look at issues such as the environment, fraud and cyber-security there are no widely-accepted standards that can be used to assess and check performance, and even if there were it is not clear that understanding accounting standards provides a basis of relevant expertise.

“The Big Four firms are definitely trying to claim a future stake on auditing things such as sustainability, environmental risks, and even privacy,” says Professor Gow. “But skills-wise it is a real stretch. Auditors still graduate with accounting degrees that focus on standards and the like. The auditor of the future is likely to be someone who is comfortable with advanced data analytics.”

Doug Niven counsels caution about moving too quickly into the non-financial field. “Investors and other users of annual reports may benefit from independent assurance over non-financial information in an operating and financial review, integrated reporting, sustainability reporting and climate change reporting,” he says. “But at present, there are no detailed reporting frameworks to audit against and many of those promoting innovation by companies in non-financial reporting suggest that independent assurance is premature.”

Competition pressure

Another issue relates to competitive pressures. Professor Gow points to his current research showing that audit fees generally increase slightly over time, and then often decline markedly when a new auditor is appointed. This suggests that some audit appointments are based on price.

“This could be a concern,” he says. “I suspect that the Big Four would rather compete on quality. The problem is that audit quality is very difficult to measure, so it is hard to prove that you are adding sufficient value to justify the costs.”

There is also the possibility that competition may come from smaller, more nimble firms that can offer quasi-auditing services in non-financial areas.

So what might the future of auditing look like in Australia? In short, while financial review is likely to remain at the essential core of auditing practice it might cease to be the reliable source of revenue that it has long been for the large firms. Regulators and stakeholders are likely to demand greater division between audit and non-audit functions, although pressure for complete separation is unlikely. Auditing firms will have to go further into non-financial issues, requiring a significant change in corporate culture. At the same time, they will face increasing competition from new entrants, especially in fields such as the environment.

“One is always hesitant when trying to predict the future, as so many past predictions turned out to be wrong,” says Professor Gow. “But one thing is clear: it’s going to be a very different profession from what it is now.”

 

* The Big Four: The Curious Past and Perilous Future of the Global Accounting Monopoly by Stuart Kells and Ian Gow (LaTrobe University Press, 2018). This book won the 2018 Ashurst Australian Business Literature Prize. A copy of the book is available at the CPA Library.

https://www.auasb.gov.au/admin/file/content102/c3/InvestorSurveyReport.pdf [Audit Quality in Australia: The Perspectives of Professional Investors]

http://www.frc.gov.au/documents/publication/audit-quality-in-australia-the-perspectives-of-audit-committee-chairs   [Audit Quality in Australia: The Perspectives of Audit Committee Chairs]

https://download.asic.gov.au/media/4990650/rep607-published-24-january-2019.pdf [ASIC Audit inspection program report for 2017-18]

https://download.asic.gov.au/media/1338902/info184-published-19-August-2013.pdf [ASIC Information Sheet – Audit transparency reports]

https://www.auasb.gov.au/admin/file/content102/c3/AASB_AUASB_Joint_Bulletin_May2019.pdf [Australian Accounting Standards Board and Auditing and Assurance Standards Board Practice Statement]