Splitting the audit model

By Fiona Czerniawska

We’ve talked on this blog before about what we modestly describe as our ‘string theory’. No, it’s not an attempt to re-write the laws of physics or to solve some of the great mysteries of the universe, but to highlight the way in which the consulting industry is being pulled in two directions.Torn between growing demand for high-value consulting and a shrinking (but sizeable) need for low-cost consulting, the market, like a piece of string, is being pulled in different directions and may break in two.

Increasingly we’re realising that this state of affairs isn’t confined to consulting but is directly applicable to all other professional services, from creative agencies to actuaries, from law firms to investment banking. And it’s certainly true of the audit market.

It’s long been obvious that the lifespan of the current audit process was likely to be limited. We’ve seen other industries that depend on people performing vital but highly prescribed and essentially repetitive tasks change out of all recognition as automation and innovation change the roles of customers and suppliers. Twenty years ago there was (briefly) talk of audit going the same way, but then Enron came along and reminded everyone that the audit, done well, was a vital component of economic growth without which investment would fall. Audit fees went up, not down, as companies realised the importance of high-quality work. But in the intervening period, computing and technology have also changed, to a point where we’re not simply talking about the routine audit processes being replicated by machines, but in which the process of reassuring shareholders and investors could be done differently and better by using better analytical techniques. None of this means that people have no role to play, but it will involve a shift of focus with effort going on high-value activities, while the machines take over the mundane ones. That in turn is going to depend on absolute clarity about what processes fall into which category, and on reinventing the types of analysis auditors of the future will do.

But what happens to audit firms? For all the attention that’s currently being paid into possible structural reform of the profession by the European Union, the changes wrought by a bifurcating market are likely to have a much greater, and long-lasting impact. In the first place, greater automation gives technology firms a way in at a much lower price point. Firms that are good at auditing aren’t necessarily good at writing code, so we may well see joint ventures emerging as audit firms pick off technology partners and vice versa. The audit firms themselves are going to need better tools (to allow them to do predictive analysis, for example) and, while they may build some themselves, they’re probably going to have a range to choose from as an audit-tech industry grows up (the equivalent of fintech in financial services). The role of the human auditor will change–higher-value will depend on higher-skills–but the number of junior people will shrink massively (and that paves the way for more, smaller firms playing a role here, something that EU reform was keen to encourage but unlikely to make happen in practice).

So maybe there is a parallel with physics here after all: Just as when you split a single atom, you get a massive explosion of energy, so splitting today’s single audit market is going to result in a huge explosion of activity as firms try to redefine their position in a market that has–finally–changed.