Internal Audit, Value for Money and the Reliance Decision
You are the external auditor of a large housing association, Bracken Housing, which receives £40m of public grant funding. The association has an internal audit function of three staff reporting to the audit committee. Internal audit has completed a review of rent arrears recovery and concluded that controls are 'satisfactory', based on a sample of 20 tenancies out of 14,000. You are planning to rely on internal audit's work to reduce substantive testing of rental income (£38m). Separately, the board has asked for a value-for-money review of the repairs service, which costs £9m a year and has a backlog of 4,000 outstanding repairs. Internal audit has never performed a value-for-money review. The head of internal audit reports administratively to the finance director, who also chairs the repairs working group.
1. Evaluate whether you can rely on the internal audit function's work on rent arrears, applying the factors in ISA 610.
Read the worked answer
Factors to assess:
- Objectivity. The head of internal audit reports administratively to the finance director, who chairs the repairs working group. This compromises objectivity, particularly for any work touching repairs; for rent arrears the threat is lower but still relevant. The audit committee should oversee the function.
- Technical competence. Three staff for a £40m organisation is thin; assess qualifications, training and supervision.
- Due professional care. Review the working papers for planning, supervision and review.
- Communication and documentation. The report concludes 'satisfactory' from a sample of 20 out of 14,000 tenancies - a sample that is far too small to support a conclusion on a £38m income stream. The conclusion is not adequately supported.
Conclusion. I cannot rely on the internal audit conclusion as it stands. The sample size is inadequate and the reporting line compromises objectivity. I could use internal audit to perform specific, well-defined tests under my direction, but I must re-perform or extend testing myself. I should discuss the sample size and the reporting line with the audit committee.
2. Design a value-for-money review of the repairs service and explain the three E's, giving examples of evidence for each.
Read the worked answer
The three E's:
- Economy - acquiring resources of the right quality at the lowest cost. Evidence: tender documentation for repairs contracts, benchmarking of hourly rates and materials against other housing associations, analysis of procurement savings.
- Efficiency - the relationship between inputs and outputs. Evidence: repairs completed per operative per day, average cost per repair, time from report to completion, comparison with targets and peers, analysis of the 4,000 backlog and why it arose.
- Effectiveness - whether objectives are achieved. Evidence: tenant satisfaction surveys, percentage of repairs completed right first time, repeat repairs, compliance with statutory timescales, achievement of the board's repairs targets.
Approach. Define scope and criteria with the board; gather quantitative and qualitative evidence; benchmark; interview operatives, managers and tenants; analyse the backlog and root causes; and report findings with recommendations and an action plan. Because internal audit has no value-for-money experience and the finance director chairs the repairs group, independence is compromised; the review should be led by someone independent of the repairs function, reporting to the audit committee, with external support if necessary.