LOC Issues

Closing the Loop on Documentation Findings

The way the loop (conclusion) is being closed on documentation type findings is frequently not correct. Reviewers often are closing the loop by stating something to the effect that that the required work was performed. This is not an acceptable way to close the loop since professional auditing standards now require that the work performed be documented. If there is no documentation for the work performed and if it is a critical auditing procedure, the engagement in question would be substandard. However, it is not unusual for reviewers to find that the performed work was partially documented. If the partial documentation is sufficient for the engagement not to be substandard, the loop in the letter of comment finding could be closed with wording along the following lines: “We were able to determine that the work was performed and that there was enough documentation in the files to support the firm’s opinions.” While there really is not a clear cut requirement to close the loop on documentation findings in the letter of comments, if the loop is to be closed, it needs to be done correctly.

Closing the Loop

For system reviews, the last sentence of most LOC findings should describe the effect that the deficiency had on the financial statements or the work performed. This is referred to as “closing the loop.” For example, for disclosure deficiencies that do not result in a a modified/adverse report, the loop may be closed with the following type statement: “None of the missing disclosures were of such significance as to make the financial statements misleading.” However, it the deficiency is significant, meaning that the report is modified/adverse, the loop should be closed with a statement describing the action the firm is taking regarding the engagement, such as “On future engagements the firm will ensure that documentation requirements are met.”

Repeat Findings

There still are recurring problems with identifying repeat findings in peer review reports. In a system peer review, if the system deficiency (as opposed to the individual problem) is the same in consecutive reviews, the deficiency would be considered a repeat. For example, if a firm had a system deficiency with preissuance reviews in consecutive peer reviews and in one peer review report it resulted in disclosure problems and in the other it resulted in reporting problems, the finding would be considered a repeat because the system problem was the same. Also, if the deficiency was a repeat in the prior review, the current peer review report must so indicate stating something the effect that “Similar system problems were disclosed in prior reviews.”

In contrast, for engagement and report peer reviews, a finding is automatically considered a repeat if the problem in consecutive reviews falls in one of four general categories: reporting, disclosure, documentation, or presentation. For example, if there were reporting problems in consecutive reviews, by definition the finding would be a repeat even if the specific reporting problems were different. Also, if the problem was a repeat in the prior review, the current review must so indicate by stating something the effect that “Reporting problems were mentioned in prior reviews.”

Repeat Findings in System Peer Reviews

When writing letters of comment, team captains need to make sure that findings relating to the system of quality control are not written in a general manner as to be considered all-inclusive. Findings that are written in a general manner may be inappropriately construed as findings repeated from the prior peer review, which will confuse reviewed firms as to the systematic cause of the deficiency addressed in the finding. In determining whether a finding in the current peer review is a repeat finding from the prior review, refer to paragraph 96 of the Standards for Performing and Reporting on Peer Reviews as it provides some guidelines as follows:

“… the team captain should evaluate the matter to determine whether the repeat finding is a result of the firm not appropriately implementing the action(s) it stated it would in its prior letter of response or the underlying cause(s) was incorrectly identified and, therefore, the action taken was inappropriate for correcting the matter. In the latter case, the team captain should discuss the matter in detail with the reviewed firm to determine the weakness in the firm’s system of quality control that is causing the matter to occur.”

A deficiency, such as those relating to financial statement disclosures, may be uncovered on a current review that was similar to a deficiency noted in the prior peer review’s letter of comments. However, the cause of the deficiency may differ between the prior review and the current review. For example, the letter of comments on the prior peer review addressed a finding under Engagement Performance, which resulted in inappropriate answers on disclosure checklists that generated disclosure deficiencies. The current peer review revealed that there were still inappropriate answers on the disclosure checklists. The team captain should consult with the firm in order to obtain their conclusions as to the systematic cause for the deficiencies. The conclusion could be that the problem relates to a lack of professional staff education on accounting and auditing matters, which would be a systematic problem with respect to Personnel Management. In this situation, the team captain would address this finding under Personnel Management in the letter of comments. The finding would not be a repeat finding because inappropriate answers on disclosure checklists was not the end result of a systematic problem with Engagement Performance on the current peer review. Again, it is the firm that will best understand how these deficiencies occurred and what must be done to correct them.

When there is a systematic problem repeated from the prior peer review, which resulted in deficiencies, such as an inadequate financial statement disclosure, wording along the following lines should be included in the last sentence of the finding: “A similar system problem was noted in the firm’s prior peer review.” Since the repeat issue relates to a system problem and not to a specific deficiency, such as inadequate disclosure, it would be inappropriate to declare in the last sentence of the finding that disclosure deficiencies were also noted in the firm’s prior peer review.