Why SMEs want limited audits | ACCA Global
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UK research offers insights into audit needs of smaller, non-publicly accountable businesses

This article was first published in the February 2011 UK issue of Accounting and Business magazine.

One of the questions asked in the European Commission’s green paper on audit policy is: Would you favour a lower level of service than an audit (a so-called limited audit or statutory review) for the financial statements of SMEs instead of a statutory audit?

However, a major concern for European internal market commissioner Michel Barnier is the lack of credible evidence on the value of the small company audit in the context of widespread exemption for smaller entities across the EU.

Research in the UK offers insights into the needs of smaller, non-publicly accountable companies whose directors took part in a 2008 survey (by Jill Collis and available at www.bis.gov.uk) that contributed to the regulatory impact assessment on raising the UK thresholds to the EU maxima.

What is particularly useful is the evidence is based on the decisions made after the UK had raised the audit turnover threshold in 2004 from £1m to £5.6m, whereas previous studies had been limited to asking what the directors would do if the thresholds were raised.

The key findings are that 39% of the 592 small companies studied and 18% of the subset of 364 micro-companies chose to have a voluntary audit of their 2006 accounts. The research found a strong association between choosing a voluntary audit and opting to publish full rather than abbreviated accounts. For example, 75% of micro-companies which opted for a voluntary audit also filed voluntary full accounts.

The decision to have a voluntary audit depends on whether the directors consider the benefits outweigh the costs. The research found evidence that demand for voluntary audits increases with turnover, so it is not surprising that cost was not seen as a major burden by the directors of companies choosing to have a voluntary audit.

Powerful drivers

But size is not the only thing that matters. The two most powerful drivers of voluntary audits are, first, demand from owners, regardless of whether the company is family owned or has external shareholders (demand from lenders, major customers/suppliers and directors’ desire for consistency with previous years were minor factors); and, second, receiving advice on accounting or auditing regulations from an external accountant.

It is widely recognised that accountants are the main source of advice to small businesses and the research shows that when the thresholds were raised in UK, the profession did not make blanket recommendations, but accountants tailored advice to the needs of clients. This suggests that if medium companies were allowed to opt out of the statutory audit, the take-up levels would be modest.

Demand for a limited audit

The research shows that 58% of the 1,294 small and medium companies studied were against extending audit exemption to medium-sized companies. Nevertheless, 69% said they would be interested in what was described as ‘a less rigorous and cheaper form of assurance’. Such interest was significantly associated with small companies whose 2006 accounts had not been audited.

This evidence from the UK suggests that if the cost of the audit were to decline, more small companies would have a voluntary audit. Reducing the cost of audit could be addressed by creating less complex auditing standards than the International Standards on Auditing (ISAs) that would focus directly on the needs of smaller entities, or by marketing the merits of a ‘limited audit’.

However, any form of limited assurance, such as a review, would suffer from the major disadvantages that the level of assurance is likely to be poorly understood by the directors of SMEs and might not meet the needs of the users of their accounts.

Professor Robin Jarvis is ACCA’s head of SME affairs and professor of accounting at Brunel University

Dr Jill Collis is a reader at Brunel University

Last updated: 18 Mar 2014