Investor Views of Audit Assurance: Recent Evidence of the Expectation Gap

Investors and financial statement users long have agreed on the usefulness of the audit in financial reporting. Over time, however, auditors have been expected to provide assurance in varying degrees and for different purposes. Differences in perception--especially regarding assurances provided--between users, preparers and auditors have been termed the "expectation gap." This article provides some startling evidence of the existence of such a gap in investor perceptions of the assurance provided by an audit. EVOLUTION OF THE AUDIT In the early years of the U.S. auditing profession--from 1850 to the early 1900s--auditors primarily were engaged to provide almost absolute assurance against fraud and intentional mismanagement. As corporate America grew and the auditing profession developed, the early 1900s saw a shift away from verifying all transactions and amounts for purposes of fraud detection to determining fairness in financial statement reporting. This shift partly was a response to the burgeoning volume of business activity (making fraud detection less feasible) and the appearance and increased importance of a new business player--the shareholder. Corporate shareholders and other outside parties became increasingly reliant on auditors to attest to management-provided information, necessitating a shift in the primary audit objective to providing assurance on externally reported financial information. Current practice has not strayed far from that of early corporate America, with the primary audit focus on financial statement reasonableness. Current standards still reflect the material misstatement focus and increasingly have relied on the concept of "reasonable assurance" in depicting the level of reliance to be placed on audited information. One need only skim current auditing standards to find pervasive evidence of the reasonable assurance concept's use as the foundation for reliance on audited financial statements. Statement on Auditing Standards no. 31, Evidential Matter, SAS no. 39, Audit Sampling, and SAS no. 53, The Auditor's Responsibility to Detect and Report Errors and Irregularities, all rely on the concept of reasonable assurance. Regardless of professional standards, however, an important question for the profession is, What assurance does the public currently expect auditors to provide? As a profession, CPAs continually must assess public reaction to their stated role in financial reporting as well as determine the public's perception of the type and level of assurances believed or desired to be provided by auditors. THE ASSURANCE PROBLEM The expectation gap has plagued the public accounting profession almost from inception. Yet the profession has tried to minimize the disparity. From 1945 to 1950, the American Institute of Accountants (an American Institute of CPAs predecessor) undertook an active campaign to enlighten the public to the public accountant's "true" responsibility. Around this time, the profession began to clarify communications to the public regarding its self-perceived responsibility. Specifically, the standard auditor's report was modified in 1948 to communicate better to the public what an audit was and to present the auditor's opinion more clearly. In 1950, over 70,000 copies of a pamphlet describing an audit, audit reports and auditor responsibilities were distributed to banks and other groups interested or involved in financial reporting. These early efforts were the profession's attempts to bring public perception in line with the profession's notion of its role. Recent efforts have focused on both public opinion and changing professional standards to bridge the gap. THE NEW SASs A battery of expectation gap SASs were issued in 1988 partly to address public criticism of the auditing profession and partly to provide increased levels of service to audit clients and the public. Although several of the SASs depict auditor responsibility in terms of the reasonable assurance concept, two are especially germane. …