The Act on External Audit of Stock Companies has undergone numerous amendments since its enactment in 1981.
The latest amendment, which took effect on Nov. 1 this year, contains the most sweeping reform measures affecting all stakeholders in the accounting industry -- companies, auditors and regulators – which could bring fundamental change to the accounting and audit practices in Korea.
In particular, the amended act aims to improve auditor independence, corporate accountability and regulatory control by implementing heightened accounting and audit regulations and standards.
|Hyeongjoon David Choi (left) and Jung Hyun-suk|
Previously, as the name of the act suggests, only stock companies were required to perform an external audit. However, the act has been amended to also include limited liability companies.
Second, the amended act demands greater accountability and stronger internal control from companies.
Under the amended act, companies are held more accountable for preparation of their financial statements because they can no longer request an external auditor to prepare their financial statements on their behalf. They also have a new obligation under the amended act to disclose reasons for non-compliance if they fail to submit their financial statements to the external auditor and the regulatory authority within the statutory deadline.
Also, to secure transparency in the selection of external auditors, the right to appoint an external auditor has been vested in companies’ internal audit organizations (statutory auditor or audit committee) rather than companies’ management as in the past.
Moreover, the amended act has created an additional incentive for companies to implement more effective internal control over financial reporting. Under the new system, the level of an external auditor’s standard of scrutiny over a company’s internal control is to be reinforced from the previous “review” level to an “audit” level. Also, a company’s representative director has to directly report on the effectiveness of the company’s internal control at a general meeting of shareholders.
Third, the amended act reinforces external auditors’ independence and audit quality control.
To ensure independent and fair accounting practices by external auditors, the mandatory external auditor designation system has been newly introduced under the amended act.
Under this system, external auditors of all listed companies and unlisted companies whose ownership and management are not segregated are to be designated by the regulatory authority for three out of any nine-year period.
Also, the amended act provides legal grounds for establishing standards for audit quality control, such as standards for appropriate audit hours, as a means of assuring audit quality.
In addition to their compliance with statutory standards for audit quality control, the amended act also encourages external auditors to improve the audit quality on their own because the regulatory authority may now publicly disclose its recommendations for improvement made to external auditors after any deficiency is discovered as a result of the audit quality control review.
Finally, the amended act imposes stricter disciplinary actions and supervisory standards for enhanced regulatory control.
The amended act now places an obligation on external auditors to immediately report to the regulatory authority any material issues in its management, assets and quality control, and introduces penalty surcharges, with no maximum amount limitation, which may be imposed for audit malpractice or accounting fraud.
In light of the above changes, it is anticipated that the regulatory authority, empowered with greater authority under the amended act, will take stronger enforcement actions against companies and external auditors to deter and detect audit and accounting misconduct.
Therefore, companies that now fall under the purview of the act must reinforce their financial and accounting capabilities to ensure that they are in compliance with all heightened accounting and audit regulations and standards.
At the same time, the external auditors must be diligent in identifying and evaluating any threats to independence and applying appropriate safeguards to preserve independence and audit quality.
Jung Hyun-suk is an attorney and partner at Yoon & Yang LLC, with expertise in banking and finance and financial regulations.
Hyeongjoon David Choi is a US-qualified attorney at Yoon & Yang LLC, with expertise in banking and finance and financial regulations.