Strategic Systems Audit

Strategic Systems Audit

Introduction

As the organizations’ business strategies are becoming more complex over time, the auditing practices have been evolving correspondingly over the last century (Bell et al. 1997, 10), from a transaction-based audit prior to 1900, to risk-based audit approach during the twentieth century to today’s “Strategic Systems Audit” (SSA) as promoted by Solomon and Peecher over the last several years to reinvent the financial statement audit. Strategic Systems Audit focuses on the auditing procedures that test the assertions at entity-level based on the holistic understanding of the client business environment and business dynamics (Bell et al. 1997, 10, 22). However, there have been many critics of this approach where some criticize that SSA gave rise to a number of audit failures.

In the light of this, the purpose of this essay is to examine and critique the rationale and practicality of the suggested solutions given by the Strategic Systems Audit approach to audit planning and the conduct of the audit. To achieve such purpose, empirical evidence will be used where the principles set forth by the theoretical literature on the Strategic Systems Audit will be applied to a real-life audit scenario. As such, the SEC registrant, Hollywood Media Corp. is chosen as the organization to be audited by the SSA approach.

There are three sections in this paper, 1) Background and literature review, in which the background and fundamental concept of SSA approach will be discussed and critiqued; 2) Business Risk Analysis of Hollywood Media Corp., in which an Entity-Level Business Model suggested by SSA of this organization will be analyzed and the risk of this corporation will be identified as a precursor to planning the financial audit; 3) Conclusion and Recommendation, where suggestions will be made on how the approaches set out by Solomon and Peecher can be incorporated into a typical financial statement audit.

Background and Literature Review

Background

Traditionally, the audit approach adopted by auditors is transaction-based where auditors assessed the audit risk and tested accounting transaction without paying attention to the understanding of the entity and its environment (Bell et al. 1997, 15). However, as the organizations’ business strategies are becoming more complex in twentieth century, such transaction-based approach is no longer enough to ensure audit effectiveness (Bell et al. 1997, 15). The audit failure in the case of Lincoln Savings and Loan illustrates the importance of a risk-based audit, in case of management fraud, even auditors apparently followed standard audit procedures, yet they failed to discover material misstatements in the financial statement due to receiving unreliable evidence from client (Bell et al. 1997, 15 - 16).

As such, to enhance audit quality in response to the evolving audit environment, Solomon and Peecher believe auditors should ground their opinion about the client by understanding its operating environment and the interaction between its internal business process and external environment. This is called a risk-based Strategic System Audit (SSA) (Bell et al. 1997, 16), which they believe could better detect intentional or unintentional fraud than traditional approach.

Literature Review of Strategic System Audit – KPMG Business Measurement Process

The KPMG Business Measurement Process (BMP) adopts the Strategic System Audit approach where the focus of risk assessment is changed from transaction risk orientation to a strategic client business risk orientation by building an expectation about the client’s performance through deeper knowledge of its business dynamics. There are five principles of business monitoring and measurement for BMP, namely, 1) strategic analysis, 2) business process analysis, 3) business measurement, 4) risk assessment and 5) continuous improvement. The relationships among the five principles are illustrated in the figure on the right. (Bell et al. 1997, 22)

1. Strategic Analysis

First, the risk measurement starts with strategic analysis. To facilitate the strategic analysis, the entity level business model for the client is constructed as a strategic-system decision framework that integrate the processes within the company and the relationship between the entity and the external environment, it helps auditor understand the effectiveness of the design of client business, the client’s strategy to achieve sustainable success, the significant business risk threatening such strategy and