Getting ready for the implementation of ISQM 1 in Nigeria (Part 1)
The dynamics and rapid changes in the business environment, including economic uncertainty, technological disruptions, changing demographics, new business models, sustainability, and COVID 19, have created significant challenges for professional firms in the audit practice. Challenges such as remote working, great migration, and high employee turnover have resulted in a huge brain drain in the audit profession in Nigeria. Other challenges, such as increased business risks and frequent changes in reporting standards, which result in more complicated accounting issues, also pose a challenge for professional accountants in practice. Furthermore, dwindling revenue which can impair audit quality, and increasing demands from investors and stakeholders for quality financial reporting practices have fostered the need for firms to adjust and thrive.
In the light of the above changes in a post-covid business environment, the International Auditing and Assurance Standards Board (IAASB) published ISQM 1, which directly responds to the need for improvements in the quality of services rendered by firms in professional audit practice and those that conduct a review of financial statements.
What is ISQM 1
International Standard on Quality Management (ISQM) 1, previously International Standard on Quality Control 1, covers a firm's responsibility to design, implement and operate a quality management system for audits, reviews of financial statements, or other assurance/related services engagements. The standard was issued in December 2020 to respond to the need for a robust risk-based approach to quality management. Firms are therefore required to design and implement systems of quality management following this standard by December 15, 2022.
Who should apply ISQM 1 (Scope)
ISQM1 applies to all firms in professional practice that perform audits or reviews of financial statements or other assurance or related services engagements, irrespective of the firm's size. The standard, therefore, applies to big, medium, or small-sized firms in terms of capacity and resources. The standard is not necessarily applicable to firms that perform other accountancy services but do not conduct any form of audit or review of financial statements. For example, firms that render only tax services to their clients will not apply ISQM 1, but firms that render this service and audit services are expected to comply with the standard. As a result, ISQM 1 applies to all services like tax, accounting, financial advisory, and other consulting and outsourcing services rendered within a firm that performs an audit of financial statements, irrespective of the firm's size.
Overview of ISQM 1 Requirements
ISQM1 requires that firms adopt a risk-based approach in a coordinated and interrelated manner such that the firm effectively manages the quality of engagements in its purview. Under ISQM1, a quality management system addresses eight components: the firm's risk assessment process, Governance and leadership, Relevant ethical requirements, Acceptance and continuance of client's relationships and engagements, Engagement performance, Resources, Information and communication, the Monitoring and remediation process.
This risk-based approach is embedded in establishing quality objectives, identifying, and assessing risks to achieve quality objectives, and designing and implementing responses to address the quality risks. The standard also requires that individuals responsible for managing quality objectives assess annually, at minimum, the system of quality management and conclude whether the system allows for the achievement of the quality objectives.
ISQM1 requires Root Cause Analysis (RCA) for risk assessment. RCA relates to identifying the underlying root cause of a problem and providing solutions to prevent a re-occurrence. The analysis works by examining patterns of effects with negative outcomes as there could be multiple causes of a problem. As a result, varying solutions will arise from the strings of patterns investigated. This paves the way for a reprisal attack when problems surface. The steps involved in RCA are to identify the problem, gather data, analyze the problem, and solve the problem.
- Monitoring and remediation: This process is important in the SOQM. It is necessary to note that there is no need to establish a system without necessary procedures for monitoring. The monitoring ensures the effectiveness and efficiency of the overall system of quality. A firm is expected to saddle this responsibility to a dedicated quality team, depending on the capacity of the firm, for effective performance.
Practical factors for consideration
In designing the firm's quality management system, the firm should consider:
- the nature and circumstances of the firm. This includes the size of the firm, availability of resources to monitor or handle specific tasks, the extent of use or reliance on information systems, including network service providers, etc.
- the nature and circumstances of the engagements performed by the firm. This will include the clients' size, the client's risk exposure, whether or not the client is a PIE, etc.
Generally, the complexity and formality in the design of a system will vary according to the firm's size and the portfolio of clients handled. The standard also addresses firms belonging to a network and firms that use resources from service providers to manage their quality system or in the performance of engagements.
Even when the firm complies with the network requirements or uses network services or resources from a service provider (component auditors), the firm is responsible for its system of quality management. For example, Mazars is a global firm present in more than 90 countries; however, Mazars in Nigeria is responsible for its system of quality management using the available resources and guidance from the group.
- Scalability: The IAASB has ensured that the standard is scalable to the small firms in professional practice. However, the ability of smaller firms to understand and tailor the standard to their specific processes and systems will still be a challenge.
- Resources / Capacity: The cost of implementing ISQM 1 requirements to the level prescribed by the standard might be expensive for firms with smaller capacities and resources. This is because their commercial reality, business model, systems, and processes might not capture all the requirements designed and implemented in line with ISQM1.
- Inadequate awareness: This includes proper understanding and guidance on the requirement of the standard by would-be users.
Improvements to a firm's system of quality management are a continuous process that may evolve. The standard does not prescribe every matter to be documented by a firm because the nature and complexity of a firm's system vary. However, the standard serves as a coping mechanism for firms in the face of looming quality risks. As noted in the introductory section, this is the first part of our article on the implementation of ISQM1 in Nigeria. Please lookout for the second part of our article, which will focus more on the step-by-step approach for the implementation and other appropriate recommendations.
To be continued next week.