Recent Audit Developments

John McCarthy

25th February 2009

 CONTENTS:

• Auditing in the crunch

• ISA 570 Going concern

• ISA 700 Audit report

– Modified reports

• ISA 240 Fraud

CONTENTS – Cont'd

• ISA 300 Planning

• ISA 315 Understanding the entity

• ISA 330 Response to risk

• ISA 520 Analytical procedures

• ISA 560 Subsequent events

Going Concern Issues during the Credit Crunch
Introduction:

•The general economic situation does not of itself

necessarily mean that a material uncertainty
exists about an entity's ability to continue as a
going concern

•FRC Guidance 'An update for directors of listed

companies: going concern and liquidity risk' (Dec
08)

•Bulletin 2008/10 supplements Bulletin 2008/1

 Recent Guidance
The Credit Crunch: A Practical Guide
Bulletin 2008/1 - January 2008
Dealt with:
• Going concern
- Obtaining external finance
- Management plans to overcome
financing difficulties
Risk Factors:
- Fair Values
- Other Risk Factors
Bulletin 2008/10 - December 2008
Expansion of:
- Future cash flows
- Impairments
New Specific Guidance on:
- Current v Non-current
classification
- Revenue Recognition
- Pensions
- Insurance
- Deferred income taxes
Impact on Directors approach to Going Concern

• IFRS and UK GAAP require

– an assessment of a company's ability to
continue as a going concern, and
– disclose the uncertainties
• Emphasis on:
– Rigour and formality
– Early discussions with auditor; minimise risk
– Subsequent developments at date of annual
report approval
ISA 570 – Going Concern – The Entity's
Responsibilities

• the outcome of an event is less certain the further it is

likely to occur from the date the assessment is made

• Judgements can only be made on the basis of

information available at the time

• Any judgement will be affected by the size and

complexity of the entity, its type of business and how
susceptible its activities are the external influences
Planning the audit

• Is liquidity a material risk in coming year?

• Companies need to present relevant disclosures

• For Irish GAAP, required by FRS 18, where

applicable FRS 13 and FRS 29
Planning the audit cont'd

• Risk assessments during planning and audit

• Audit procedures designed in response to risk

• Evaluate the results of procedures

• Form an opinion
ISA 570 – Going Concern – The Auditor's
Responsibilities

• Planning the audit:

– gathering of knowledge of the business to identify events
or risks which may indicate the entity is not a going
concern

• Evaluating the entity's assessment of going concern:

– discussions with those charged with governance
– examining appropriate supporting documentation
– planning and performing procedures designed to identify
any material matters which could impact on the entity's
ability to continue as a going concern
Evaluate directors conclusions on going concern

• Analyse cash flow, profit, and other relevant

forecasts
• Review terms of loan agreements
• Read minutes of shareholder meetings
• Review post year end events

• The greater the risks – the more audit evidence

required
Evaluate directors conclusions on going concern

Banks may be reluctant to provide confirmations:

• This does not, of itself, cast doubt
• Reasons:
- May be bank policy
- Recent renewal of a rolling facility prior to issue
of client's annual report
ISA 570 – Going Concern – Issues Auditors
Should Consider

• period assessed by those charged with governance

• system for identifying future risks
• existence/quality of budgets or forecasts
• appropriateness of assumptions
• sensitivity of budgets
• adequacy of borrowing facilities
• nature of the entity, including size & complexity
• the entity's plans for resolving going concern problems

•
ISA 570 – Going Concern – Issues Auditors
Should Consider

• Borrowing facilities
– auditors must decide what level of borrowing facilities
may be reasonably expected to be available
– If there is a low margin of financial resources ("financial
headroom") available
– Facilities are due for renewal
– Directors have predicted significant deterioration in the
cash position
– Recent or likely breaching of borrowing covenants
Conclude whether or not to concur with the
directors view

• Based on

– Adequacy of disclosures

– Quality of information
Determining the implications for the auditors
report

• Going concern issue, of itself, does not give rise to

significant doubt

• Take account of ability of entity to mitigate

uncertainty
• disposal of assets
• reschedule loan repayments
• obtain additional capital etc.
ISA 570 – Going Concern – Audit Conclusions
and Reporting

• Entity not considered to be a going concern

• Inadequate disclosures

• Those charged with governance not taking adequate steps

• Material Uncertainty
•
ISA 570 – Going Concern – Audit Conclusions
and Reporting

• Material Uncertainty
– describe adequately the principal events that give rise to
the uncertainty that the entity can continue in operation
and the entity's plans to deal with these events or
conditions
– assess whether the material uncertainty exists and that it
may cast significant doubt on the entity's ability to
continue as a going concern
ISA 570 – Going Concern – Audit Conclusions
and Reporting

• To be content with the disclosures made in the financial

statements, auditors should ensure that the financial
statements include:
– A statement that the going concern basis has been used
– A statement of relevant facts
– The nature of the concern
– The assumptions adopted by the entity
– The entity's plans, where practicable, to resolve the
concern
– Details of any relevant actions taken by the entity
Additional Considerations

• Ethical Issues:
- Self review – if auditor closely involved in
decisions with client
- Management threats from provision of non-audit
services – ensure 'informed management'
Safeguards
• Review of going concern conclusion, by non-
member of audit team
• Additional procedures to Engagement Quality
Control Review
Questions for Final Client Meeting

• Reliability of entity's information?

• Adequacy of support for assumptions made?
• Limitations on current finance?
• Future availability of finance?
• What are directors plans? – supported with written
representation
• Sufficient audit evidence to dispel/confirm doubt
• Any mitigating circumstances?
ISA 700 – The Independent Auditors Report

APB Bulletin 2006 / 1

ISA 240 – The Auditor's Responsibility to Consider
Fraud
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements

• The definition of fraud and error

• The responsibilities of those charged with governance
• The auditor's responsibility
• Evaluating audit evidence
• Reports to management
• Communication with those charged with governance
• Communication with the authorities
• Documentation
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements

• Definition of fraud
– Falsification or alteration of records and documents
– Misappropriation of assets or theft
– Suppression or omission of the effects of transactions
from records or documents
– Recording fictitious transactions
– Wilful misrepresentation of transactions or of an entity's
state of affairs
– Intentional misapplication of accounting policies
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements

• Definition of error

– Mathematical or clerical mistakes in the underlying

records and accounting data

– Oversight or misinterpretation of facts

– Unintentional misapplication of accounting policies

ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements – Auditor's Responsibilities

• Compliance with Auditing Standards will not guarantee that

the financial statements are free from material
misstatement
• The risk of undetected misstatement will be higher with
regard to those resulting from fraud or error due to:
– The inherent limitations of the accounting and internal control
systems and the use of audit sampling to test them
– The persuasive, rather than conclusive, nature of the evidence
generally obtained by auditors
– Frauds sometimes taking place over a number of years but only
being discovered when they become material
– Frauds often involving collusion or intentional misrepresentations to
auditors
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements

• The assessment of fraud risk is a three-stage process.

Auditors use their professional judgement to:

– Identify risks of fraud through risk assessment

procedures

– Relate the risks of fraud to the assertions

– Consider the likely size of the potential misstatement

and the likelihood of the risk occurring
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements

• In their overall response to the risk of material misstatement

due to fraud, auditors are required by ISA 240 to pay
particular attention to:

– The assignment and supervision of suitably experienced

personnel and experts

– The accounting policies used by the entity, particularly

those related to subjective and complex areas

– The selection, nature and timing of audit procedures,

including incorporating an element of unpredictability in
their audit plan
ISA 240 – The Auditor's Responsibility to
Consider Fraud in an Audit of Financial
Statements – Management Representations

• ISA 240 requires auditors to obtain written representations

from management "that:
– It acknowledges its responsibility for the design and
implementation of internal controls to prevent and detect
fraud
– It has disclosed to the auditor the results of its
assessment of risk that the financial statements may be
materially misstated as a result of fraud
– It has disclosed to the auditor its knowledge of any
allegations of fraud, or suspected fraud, affecting the
entity's financial statements, communicated by
employees, former employees, analysts, regulators or
others"
ISA 300 – PLANNING THE AUDIT
ISA 300 – Planning the Audit

• Overview of planning
• Preliminary planning activities
• The overall audit strategy
• The audit plan
• Changes to planning decisions during the course of the
audit
• Direction, supervision and review
• Documentation
• Communication with those charged with governance
• Initial audit engagements
ISA 300 – Planning the Audit

• Ensure that appropriate attention is directed to important

areas of the audit
• Ensure that potential problems are identified
• Organise and manage the engagement properly
• Assist with proper allocation of work to engagement team
members
• Assist with the coordination of work performed by other
auditors or specialists
• Facilitate review
• Enable the audit to be performed in an effective and timely
manner
ISA 300 – Planning the Audit

• Auditors should set an overall strategy for the audit which

assists with the development of the more detailed audit
plan. This plan will involve:

– Considering the scope of the engagement

– Understanding reporting deadlines and key dates for

communications with those charged with governance
ISA 300 – Planning the Audit (Cont'd)

– Making initial assessments in relation to, for example:

• appropriate materiality levels
• areas where there may be a higher risk of material
misstatement
• the identification of material components and account
balances
• possible reliance on the effectiveness of internal
control
• identification of recent significant events in terms of
the business and its industry
ISA 315 – Understanding the Entity and its Environment
ISA 315 – Obtaining an Understanding of the
Entity and its Environment

• Risk assessment procedures & info. about the entity and its
internal control:
– enquiries
– analytical procedures
– observation
– Inspection
• Understanding the entity & its environment:
– regulations
– nature of entity & size
– business risks
– measurement of financial performance
– materiality
– diversity
– complexity of operations
ISA 315 – Obtaining an Understanding of the
Entity and its Environment

• Assessing the risks of material misstatement:

– the information system
– procedures for initiating, recording, processing & reporting that information
in the financial statements
– Pervasive risks & significant risks

• Communicating with those charged with governance:

– auditor's understanding of day-to-day operation & overall design of the
control system

• Documentation:
– likelihood of material misstatement from fraud or error & decisions reached
– understanding of entity and its environment
– risks of material misstatement
– significant risks
– risks that cannot be mitigated by substantive tests alone
ISA 330–The Auditor's Procedures to Assessed Risks
ISA 330 – The Auditor's Procedures in Response
to Assessed Risks

• Emphasising the need for professional scepticism

• Assigning more experienced audit staff

• Using specialists or experts

• Providing additional supervision

• Incorporating further elements of unpredictability in the

selection of audit tests
ISA 330 – Responses at the Assertion Level

• The significance of the risk

• The likelihood that a material misstatement will occur

• The characteristics of the class of transactions, account balance or

disclosure involved

• The nature of the specific controls used by the entity and in particular
whether they are manual or automated

• Whether the auditors expect to obtain audit evidence about related

controls
ISA 330 – Evaluating Audit Evidence

• A higher level of misstatements being discovered than

planned during the performance of substantive procedures

• Failures of the entity's controls during the period

• Discrepancies coming to light as a result of the overall

analytical review of the financial statements at the
completion stage of the audit
ISA 230 – DOCUMENTATION
ISA 230 - Documentation

• The ISA 230 requirement is for an "experienced auditor,

having no previous connection with the audit" to be able to
understand:

– The nature, timing, extent and results of the audit

procedures

– The results of audit procedures

– Significant matters arising during the audit and

conclusions reached thereon
ISA 230.12

In documenting the nature, timing and extent of audit

procedures performed, the auditor should record the
identifying characteristics of the specific items or matters
tested
ISA 230.13

• identify the documents selected for testing by their dates

and unique purchase order numbers.

• review of all items over a specific amount from a given

population, the auditor may record the scope of the
procedure and identify the population (for example, all
journal entries over a specified amount from the journal
register).
ISA 230.13 – Cont'd

• systematic sampling from a population of documents, the

auditor may identify the documents selected by recording
their source, the starting point and the sampling interval
(for example, a systematic sample of shipping reports
selected from the shipping log for the period from April 1 to
September 30, starting with report number 12345 and
selecting every 125th report).
• inquiries of specific entity personnel, the auditor may record
the dates of the inquiries and the names and job
designations of the entity personnel.
• observation procedure, the auditor may record the process
or matter being observed, the relevant individuals, their
respective responsibilities, and where and when the
observation was carried out.
ISA 520 - Analytical Procedures
ISA 520 - Analytical Procedures

• the nature & purpose of analytical procedures:

– should be applied at planning & review stages of an
audit - ratios, trends, investigating fluctuations &
inconsistencies
– Problems: computed on a consistent basis for each
period or location
– there ought to be a meaningful relationship between the
items being compared
– results and balance sheet values are not distorted by the
effects of changing price levels
– they are not distorted by unusual items
– they are not distorted by changes in accounting policy or
estimates
ISA 520 - Analytical Procedures

• Use in risk assessment:

– to assist planning the nature, timing, & extent of other
audit procedures
– based on financial information, budgets & management
accounts & for smaller co's: information from VAT
returns & bank statements
• As substantive procedures:
– suitability of using substantive analytical procedures
– reliability of data
– precision of expected results, i.e. enough to show when
a material misstatement has occurred and the difference
between expected, and actual results which would be
acceptable to the auditor
ISA 520 - Analytical Procedures

• Overall review at the end of the audit:

– whether financial statements reflect the information &
explanations previously obtained and conclusions
previously reached during the audit
– whether procedures reveal any new factors that may
affect the presentation or disclosures in the financial
statements
– whether the presentation adopted in the financial
statements may have been unduly influenced to present
matters in a favourable or unfavourable light
– the potential impact on the financial statements of the
aggregate of uncorrected misstatements identified
during the course of the audit
ISA 520 - Analytical Procedures

• Investigating unusual items

• May occur as a result of:
– actions of the client which the auditors were unaware of
– uncontrollable external factors of which the auditor's were unaware
of
– errors or omissions.
• Investigation of fluctuations will usually involve discussion between
client & auditors whereby explanations are corroborated by:
– comparing explanations with existing knowledge of the business
from previous years or obtained during the audit
– performing extra audit procedures to confirm the explanations
received
ISA 520 - Analytical Procedures

• Recording: ISA 230 – "Documentation"

• ED ISA 520(Redrafted):
more appropriate to keep all guidance on analytical risk
assessment procedures in one place. Expected 15 Dec.
2009
ISA 560 - Subsequent Events
ISA 560 – Subsequent Events

• Relevant events
• provide additional evidence on conditions existing at the
balance sheet date, for which an adjustment should be
made or concern conditions which did not exist at balance
sheet date but require disclosure because of their
materiality
ISA 560 – Subsequent Events

These are:

• Events between the period end & date of audit

report
• Events between the audit report but before the
financial statements are issued
• Events discovered after the financial statements
are laid before members
• Revising or "withdrawing" financial statements
ISA 560 – Subsequent Events

• procedures that management has established to identify

subsequent events
• reviewing minutes of meetings of members, directors and
audit and executive committees since the period end
• reading the latest available information concerning the
entity
• making enquiries of the entity's legal counsel concerning
litigation and claims
• making enquiries of management regarding any
subsequent events have occurred which might affect the
financial statements
ISA 560 – Subsequent Events

• if financial statements are amended:

– perform additional procedures as appropriate
– provide management with new audit report

• once the financial statements have been issued auditors

have no obligation to make any enquiry regarding the
financial statements.

• They have a right to attend the AGM and be heard on any

part of the business of the meeting that concerns them as
auditor
ISA 560 – Subsequent Events

• carry out necessary audit procedures

• consider legislative/regulatory bodies require information to
be publicised
• requirements for reports to regulators
• review of management's procedures for informing those in
receipt of the original financial statements
• issue a new report
• refer to note which explains events and reasons for
amendment
• refer to earlier report
John McCarthy
john@jmcc.ie

Mobile 00 353 86 839 8360