It will be a busy year for auditors in 2021. As well as the challenges of remote auditing and Coronavirus audit matters, auditors are dealing with significant changes to auditing standards for accounting periods commencing on or after 15 December 2019. These include enhancements to the auditing standards on accounting estimates and going concern and additional wording in the audit report.
In this article we highlight some of the most relevant changes for businesses:
Auditing accounting estimates and related disclosures (ISA (UK) 540)
The auditing standard on accounting estimates (ISA (UK) 540) has been substantially enhanced, with the majority of changes relating to the audit planning process. This means that businesses can expect a lot more questions up front. It will be necessary for the auditor to perform specific procedures to identify and risk assess accounting estimates. They will need to understand the controls in place, review previous period’s accounting estimates and document the business management’s processes for making accounting estimates. This will form the basis for the planned audit response.
All businesses will have some accounting estimates. For example, depreciation, stock provisions, share-based payments and fair values. Accounting estimates are, obviously, always subject to a certain amount of estimation uncertainty as they are not directly observable monetary amounts. However, some accounting estimates present a higher degree of audit risk, depending upon the level of estimation uncertainty, the degree of complexity, subjectivity and other inherent risk factors. It is the difference between, for example, a straight-line depreciation charge for computer equipment and a complex goodwill impairment model with multiple, subjective inputs and assumptions.
The auditor will need to place each accounting estimate on a spectrum of inherent risk, and this will subsequently drive the audit procedures. Whilst the testing strategies for auditing accounting estimates remain the same (obtaining subsequent audit evidence, testing how management made the estimate or developing an auditor’s point estimate or range) the higher the risk attached to the estimate the more persuasive the audit evidence needs to be and the more detailed the testing. Other additional elements of the revised auditing standard are a new requirement to ‘stand-back’ and assess the audit evidence obtained and the need to consider both corroborative and contradictory evidence.
In summary: expect more challenge in this area and lots more information gathering by auditors.
Going concern (ISA (UK) 570)
The impact of the Coronavirus pandemic means that cash flow projections supporting the going concern assessment may be more complex in the coming reporting season. Projections will be based on uncertain revenue streams and will include subjective assumptions, such as when lockdown restrictions may be lifted. Government support measures must also be factored in, alongside additional costs such as health and safety assessments and potential reduced production capacity.
For a management team to prepare financial statements on the going concern basis they must have performed their own going concern assessment. Because of the revisions to ISA (UK) 570 Going Concern the auditor will be asking management to provide this assessment at the planning stage of the audit. There have been further enhancements to the standard around the risk assessment processes that the auditor must undertake and the evaluation of management’s going concern assessment. Auditors must also conclude not only on the appropriateness of the use of the going concern basis of accounting but also whether a material uncertainty relating to going concern exists. Again, auditors must consider both corroborative and contradictory evidence and be aware of possible indicators of management bias.
Forming an opinion and reporting on financial statements (ISA (UK) 700)
The audit report will also be getting longer for accounting periods commencing on or after 15 December 2019, due to additional requirements in ISA (UK) 700 Forming an opinion and reporting on financial statements. The report will now need to explain to what extent the audit was considered capable of detecting irregularities, including fraud. Large, listed audit reports have included this wording for some time but this will be a new addition for other entities. It is expected to be specific to the circumstances and therefore not all audit reports will be the same.
To facilitate a smooth audit process, businesses must be prepared. It is important to discuss the audit process in plenty of time and understand how procedures will change, not just as a result of the remote working conditions but also the new auditing standards. Consider whether a stock take can go ahead, whether property valuations will be available and whether any Coronavirus-support measures have been accessed. Think about accounting estimates and the processes around how these are prepared. Make sure that the going concern assessment is performed up front and ensure that support is available for key assumptions. Finally, expect your audit report to look and feel different.
Anna Hicks, Director