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Integrated Assurance at Philips Electronics N.V Case Solution
Increasing number of companies are moving towards an integrated reporting system where not only the financial performance is mentioned, but also the non-financial performance e.g. environmental, social and governance (ESG) is included, in the annual report. Since, audit firms like KPMG serve as an independent third party to conduct audit i.e. to review and confirm the correctness of a company’s performance statistics that are to be provided to the investors, it is their duty to verify the reliability of the non-financial performance, as well. The main challenge these audit companies have been facing in recent times is of providing integrated assurance on integrated reports to their clients. Audit companies are risk averse and usually play safe by providing assurance on limited financial data so as to limit their liability and avoid law suits. Now, clients like Philips are expecting integrated assurance that not only covers the financial figures but the non-financial part, as well. Though, this might be an opportunity for KPMG to set itself as a key provider of sustainability assurance, but it has come with a cost of high risk i.e. of the increased responsibility of reviewing additional company information.
Following questions are answered in this case study solution:
Identification of the Issue
Integrated Assurance at Philips Electronics N V Case Analysis
As the stock exchanges globally are gradually making it mandatory for the listed companies to incorporate the non-financial data in their annual reports, the role of auditors has come in the limelight more than ever. Based on the international accounting standards, it is easier for audit companies to provide assurance level to their clients depending upon their financial metrics, but because of lack of non-financial or ESG metrics measuring standards, providing a reasonable level of assurance has become an issue for the auditors. When it comes to auditing an integrated report, the issue is that each company not only pursues different ESG activities, but also prepares a report differently because of its unique risks and opportunities. This makes it very difficult for the auditors to evaluate whether the company has disclosed all the relevant details appropriately, or not. Moreover, one major disadvantage of integrated reporting is that managers deliberately would skip out information that is not linked to the company’s financial performance. Furthermore, if the perspective of the auditor is considered, the reviewing of the additional information lays a heavy responsibility on them of verifying whether the information is complete or not. This addition in responsibility will require audit companies to change their strategy from risk averse to risk neutral, if not risk seeking. Lastly, from the investor’s point of view, it has become an issue of how much significance should be given to non-financial figures. If a company has produced extraordinary financial results, but it is below par on the corporate social responsibility side or vice versa, what should be the reaction of the investor? Is there a need to teach investors and other stakeholders on how to evaluate the integrated report? All these issues and others, which are not addressed in this case analysis, will require both the auditors and clients to develop new standards and let the field of auditing evolve and take a newer form so that non-financial metrics can be reported and measured in a better way.
Since traditional audit models and legal frameworks under which auditors operate are not sufficient to provide a high level assurance; therefore, there is a need for a comprehensive framework that is capable of facilitating the assurance for non-financial performance, as well. First step that the client needs to take is of developing internal control systems and standards to measure and report the (environmental, social and governance) ESG data as effectively as the financial data. Secondly, audit companies like KPMG should integrate all their internal departments and develop technical skills and expertise to assess the non-financial metrics of its clients. Third, organizations should get involved at an early stage with their auditors/assurance providers so as to further enquire about the aspects that are to be assured in an integrated report. This step will allow companies to acquire a reasonable level of assurance from the auditor’s side before the process is completed as the auditor will be more informed about the activity and its processes. Moreover, the company should clearly mention the scope of the report, in addition to define its difference from a combined annual report, where non-financial and financial metrics have their separate sections and are not integrated.
Shifting from financial reports to integrated annual report is a lengthy journey and will require undertaking of complicated processes for the successful achievement. The below mentioned flow chart explains the case scenario and implications if the recommendations are implemented.
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