Students

Current issues in auditing: part 1

Candidates must be fully prepared on the topic of current and professional issues in auditing, as reflected in the AIA’s May 2019 support paper.

As highlighted to students in the last study guidance article, within the syllabus for Paper 15 Professional Practice (Auditing) is section 15.5 Current and Professional Issues and Pronouncements. It states in this section of the syllabus that: “Candidates are expected to keep abreast with the latest developments in professional issues, decisions of legal cases, changes in legislation and issuance of audit and accounting pronouncements that will affect processes, strategies and legal implications of audit assignments and evaluation services and the profession.”

I re-emphasise to students that this topic is weighted at 20% and is therefore as important as topic 15.1 Regulatory Issues and Professional Practices; and only 5% less important than 15.2 Statutory Audit and Other Evaluation and 15.3 Audit Strategy and Process. It is therefore of continued concern to the examiner that students do not appear to be adequately prepared in this area. Following the performance on the November 2019 paper, the examiner continues to feel that candidates are expecting this topic to be

examined as a discrete question which they can choose to avoid, rather than as a requirement to contextualise other aspects of the syllabus around the emergent concerns for the profession in a more embedded manner.

To this end, the AIA has produced the following support for candidates preparing for the May 2020 sitting of Paper 15, highlighting a number of emerging issues which they should ensure familiarity with. This article is not intended to be exhaustive but should signpost candidates towards their wider professional reading.

Students should also be familiar with the specific more advanced areas of auditing practice that are only examined on Paper 15. The last sitting again exposed limited understanding of both the audit of segmental reports and the audit of related party transactions. A diligent review of the detailed syllabus for Paper 15 should highlight these specific technical concerns.

Students are also reminded that Paper 15 is 90% application rather than knowledge recall and that their answers must reflect this. To this end, the examiner advises students to ensure that they understand the key issues in accounting standards and auditing standards, codes, etc. and then apply this to the question diligently. Reiterating the question does not score marks and merely

stating the theory without application also results in a very low mark.

The examiner’s main observation on the performance of both papers in 2020 concerned the lack of depth that students brought to their answers. Where students did have a grasp of the issues under consideration, they often failed to develop the discussion to show their application to the case in the question.

Key accounting standards The most significant changes to accounting standards in recent days relate to both IFRS 16 Leases and IFRS 15 Revenue Recognition, as they create significant new accounting judgments around the lease classification and revenue, and create additional subjectivity in both aspects of accounting. As new standards which are more complex and often not compatible with previous practice, the risk of error in application and the possibility for management bias being refl ected in the estimates is signifi cant. Both standards have also required additional disclosure, which needs to be balanced and meaningful to enable users of the fi nancial statements to understand the impact of assumptions on the fi gures. IFRS 16 is now mandatory and students should be familiar with the treatment required.

One key area related to both of the standards which is causing concern to the IASB relates to the treatment of onerous contracts. This will require amendments to IAS 37 Provisions, Contingent Liabilities and Contingent Assets, which are expected in the fi rst half of 2020. These will attempt to resolve the issue of which costs should be included in determining the cost of fulfi lling a contract for the purpose of determining whether it should be considered onerous.

For IFRS 16 Leases, students should be aware of the reclassifi cation of leases from operating leases recognised in the income statement to fi nance leases recognised in the statement of fi nancial position with the resultant non-current asset recognition and consequent depreciation. This raises a number of subjective areas for the audit; namely, the valuation and impairment of non-current assets (already recognised as a challenging area of high subjectivity) and the valuation of the lease and the recognition of its costs through the income statement. Students are advised to ensure that they understand the key issues in IFRS 16 and so could explore how they would audit the resulting fi gures.

Developments in auditing standards: audit of accounting estimates Following the review of IFRS 3 Business Combinations in 2015, the IASB has been reviewing four significant areas of concern within this accounting area; namely: ● the effectiveness and complexity of testing goodwill and impairment; ● the issues around accounting for goodwill subsequent to its initial recognition; ● the identification and fair value measurement of intangible assets; and ● the information regarding the subsequent performance of the acquiree. These issues relate to areas of concern to auditors where professional judgment is key. The Discussion Paper will be published in February 2020 and the findings are outwith the syllabus for the final two sittings of Paper 15; however, a familiarity with the problems raised in the debate do represent an area that students should be familiar with. Therefore, students should focus some attention around why accounting in these areas is problematic and how the auditor may find it difficult to find persuasive evidence to support the director’s assertions.

Developments in audit practice: data analytics and ethics A key emerging trend in internal and external audit is the use of data analytics to generate core analysis to highlight anomalies in the integrity of the accounting data. Students should ensure that they have explored the role of data analytics, its strengths and limitations in practice for both internal and external auditors in their wider reading. At the time of writing, the IESBA Technology Working Group is exploring the impact of big data, blockchain, data analytics, etc. on the ethics of the auditor but this will not report until mid 2020 and therefore is an emerging issue. However, the IESBA issued an ED Proposed Revisions to the Code to Promote the Role and Mindset Expected of Professional Accountants in July 2019, which aims to identify opportunities to emphasise and reinforce the mindset and behavioural characteristics expected of professional accountants in business and in public practice. This is discussed in more depth in the professional judgment section, which will be published in the next issue of International Accountant.

Audit reporting Students are reminded that audit reporting is another core area of the syllabus and that it extends more widely than the conventional audit report. The development of the extended audit report in the UK has influenced international audit reports and students should be familiar with this.

There do, however, remain weaknesses in reporting and the Brydon Review recommends the following areas for improvement: ● Create continuity between successive audit reports. ● Provide greater transparency over differing estimations, perhaps disclosing graduated findings. ● Call out inconsistencies in information made public. ● Reference external negative signals and how they have informed the audit.

ISA 720 The Auditor’s Responsibilities relating to Other Information was revised in June 2016 and its impacts are starting to be seen in the current cycle of audit reporting. Under ISA 720, the auditor is responsible for ensuring that other information included in the audited financial statements is not materially inconsistent with either the financial statements or their understanding of the entity’s

A key emerging trend in internal and external audit is the use of data analytics to highlight anomalies in the the integrity of the accounting data.”

position from their knowledge of the business gained during the audit. This relates to all of the narrative information issued by the reporting entity and covers all of the material issued before the audit report. This supports the ethical requirement that the auditor avoids being knowingly associated with information that is either materially false or misleading. It is particularly focused at the need to make the auditor’s comment on the extended disclosure requirements for directors around risk and viability statements. The standard requires that the auditor specifi cally reviews and comments upon: a) the directors’ confirmation in the annual report that they have carried out a robust assessment of the principal risks facing the entity, including those that would threaten its business model, future performance, solvency or liquidity; b) the disclosures in the annual report that describe those risks and explain how they are being managed or mitigated; and c) the directors’ explanation in the annual report as to how they have assessed the prospects of the entity, over what period they have done so and why they consider that period to be appropriate, and their statement as to whether they have a reasonable expectation that the entity will be able to continue in operation and meet its liabilities as they fall due over the period of their assessment, including any related disclosures drawing attention to any necessary qualifications or assumptions. ISA 720 Auditors’ Responsibilities Relating to Other Information 2016

This raises an interesting issue within the idea of the expectation gap, as the auditor’s requirement to comment has been operationalised as a statement that the auditors have reviewed the issues detailed above and have nothing material to add or draw attention to.

The Brydon Review further proposes a Resilience Statement [which] would replace the existing Going Concern and Viability Statements: ● The short term reporting component of the statement would incorporate the existing going concern assessment, but with enhanced transparency, including the disclosure of material uncertainties that could impact on the company as a going concern before any mitigating action has been taken into account. ● The medium term component would be a more robust and transparent version of the existing Viability Statement. This component of the Resilience Statement should include stress testing of various scenarios that could threaten the company’s business model, drawing on existing models currently used by the Prudential Regulation Authority for financial services companies. ● The long term component would provide an opportunity for directors to set out how they are positioning the business strategically to address the risks of, for example, climate change and other potential existential threats.

The directors must ensure that the Annual Report is fair, balanced and understandable, and provides the necessary information for shareholders to assess the group’s position.”

www.sasb.org/ standards-overview/ download-current-standards ❯

These suggestions highlight current areas of concern in reporting and students should be familiar with these.

The directors must ensure that the Annual Report, taken as a whole, is fair, balanced and understandable, and provides the necessary information for shareholders to assess the group’s position, performance, business model and strategy. In an examination context, the narrative information around risk reporting or going concern assessment, or other information issued with the fi nancial statements, may not be accurate and students should be prepared to develop an appropriately worded report.

Sustainability reporting and assurance The UN Sustainable Development Goals are being used as a framework by investors to assess the exposure of companies to risks to their ability to sustainably create value within the organisation. This is linking into the developments of Integrated Reporting and the recent report by the Task Force for Climate Based Financial Disclosure. Policy makers within governments and regulators are also looking to these goals to drive the future direction of sustainability in companies.

Within this framework, the Sustainability Accounting Standards and other sustainable measures are developing and the former were issued at the end of 2018. The 2017 recommendations of the Financial Stability Board (FSB) “Task Force for Climate Related Disclosures”, which seek to establish a framework for an organisation’s disclosures “that will help fi nancial market participants understand their climate risk”, were widely adopted in the 2018 corporate reports. This is creating a signifi cant market opportunity for sustainability assurance and sustainability consultancy as the standards provide a key framework against which corporate sustainable reporting can be assured.

The approach of the professional practice to such an assignment is the same as any other assurance assignment. It consists of initially identifying the subject matter for the engagement, the interested parties who may be using this information, and the standards against which the assurance would be carried out must be explored and clarifi ed. This process is essential to clarify the real risk areas in the assurance assignment, to understand the concerns of the company and to understand what assurance is seeking to achieve.

A key idea for the auditor providing assurance against new sustainability standards is the idea of what would render the information useful. In common with all other information for decision making, this would refl ect the ideas of appropriate standards of relevance, completeness, reliability, neutrality and understandability. This debate mirrors other debates around quality reporting, including narrative reporting, risk reporting and KPI reporting, whereby there are challenges in ensuring that the information is fairly represented, unbiased, consistent and transparent and the ideas from the FRC in their Cutting the Clutter publication may help this wider issue to be appreciated.●