INTRODUCTION

Worldwide, the requirement for certain firms financial

statements to be audited by an external independent auditor has
constituted since its introduction, the foundation of confidence in the
financial systems. The benefit of an audit is reflected by the fact that it
provides assurance that the management has showed a true and fair
view of the companys financial performance. The audit establishes the
trust and obligation between those who own a firm and those who
manage it. Taking into account its role and importance, doubts are often
raised about the auditors, the audit, the stakeholders and this is the
reason I have chosen as subject of this paper the audit report.
The auditors report is the key sending the yield of the audit
process. The users of the financial statements have claimed that the audit
report should to be more explanatory and that particularly, the auditors
should provide more consistent information for the users based on the
audit that was executed. An upgraded auditor reporting is critical to
influencing the value of the audit of the financial statements, and to the
importance of the audit as a profession.
The purpose of this disertation paper is to highlight the
communicative value of the audit report, in the public interest, through
the anaysis of the new auditors report.
For this, in the beginning of this paper are described the new
standards of the audit reports (ISA 700, ISA 705 and ISA 706) issued by
standard setters, which developed the new and revised Auditor Reporting
Standards that represent and support an important change in practice.
In addition to this, in the next part of this paper is presented an
analysis of the main changes that appeared along with this new report
and a research regarding the opinion of the standard setters, regulators
and the BIG 4 companies regarding the respective changes.
The intent of the standard setters for the new and revised
auditor reporting is to result in a report that develops confidence in the
audit and in the financial statements. In addition to the increased
transparency and informational value of the audit report, the innovation
to the report will also have the benefit of strenghtening the
communication between the investors and the auditors as well as the
auditors and those charged with governance, expanded attention by
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management and those charged with governance to the disclosures in the

financial statement, improved focus of the auditor on subjects to be
disclosed in the report, which might lead to an increase in professional
skepticism.
In the final chapter an analysis is highlighted about the audit
expectations gap and the expected effects (positive and negative)
regarding the usefullness of this enhanced report.

1. THEORETICAL ASPECTS REGARDING THE AUDIT

AND THE AUDIT REPORT

1.1. LITERATURE REVIEW

Accounting and financial audit were defined nationally and

internationaly by different authors and various professional bodies by
activities like controlling, checking, overseeing, inspecting. Regardless of
the name under which it can be met, auditing is defined as a independent
and systematic examination of operations, data, statements and records
of an enterprise for a settled purpose. The auditor collects evidence,
evaluates them and on this basis expresses her/his judgment, through the
audit report.
All the needed information regarding the financial position and
performance of a company is provided by its financial statement, as it
represents an important tool that stakeholders, such as investors, use
when making economic decisions. A representative example is the fact
that those that own a company are not the ones managing it, but instead
they analyse the financial statements of the company, which gives the
owners and other stakeholders an insight, through all the material
respects, about the companys financial situation. Moreover, it is not
unusual for a companys stakeholders to hire a qualified external auditor
to analyze the financial statements in order to give their professional
judgement on all the subjects the companys financial statement reflects
on a given period of time (income statement) and financial position as of
specific dates (balance sheet).
As the shareholders are the ones requesting the auditors view
upon the financial statement, it is a standard procedure that they
generally and ultimately report directly to them, or through different
channels, such as the audit committee or other performing audit
activities. Even so, there are companies (mostly the public ones) whose
audited financial statement is on public register. The information provided
is not only used by shareholders but also by other parties, such as
potential investors, suppliers or lenders who are implied in the companys
activities or are considering doing business with it. Rigurous audit
processes not only analyze the financial statement, but also identify and
offer guidance for the areas where the management is not efficient and
might improve. In such cases, the auditor is, most of the times, required
to communicate his observations to the management responsibles or to
the ones charged with governance. This communication process does not
only add value to the company but it also enhances the overall quality of
business processes.1
1 Price Waterhouse Coopers, Understanding a financial statement audit,

The audit report has a lengthy history. The audit reporting

configuration has been subject to change over time and across nations.
The literature provides evidence that the audit report had informational
value for users and had an impact on users decisions, but there are also
signs that changes to the audit report could increase its worth. Moreover,
there is still an audit expectation gap, and an informational gap, that
might be solved by an improved audit report.
Over the past years research in auditing has tried to measure the
benefits of external audit and has investigated the informational value of
the audit reports. The market studies have examined the market reaction
from the point of view of the release of certain types of audit opinions.
These studies are classified as reaction studies, meaning that they find
evidence in market feedback. For example, for a sample of listed US
bankrupt companies, Chen and Church (1996) found that firms receiving
going concern opinion, went through extremely lower negative returns
than companies which received an unqualified opinion, implying that
these assessments have informational value for investors. Also, for a large
pattern of French listed firms which have received a qualified audit
opinion, Soltani (2000) found that these firms experienced negative
returns around the announcement date of the qualified audit opinion.
Furthermore, other studies did not find evidence of a market
reaction. For example, for a sample of listed US companies it was
discovered that the issuance of a considerable modified opinion did not
result in a noticeable market reaction. In addition to this, for a sample of
Spanish listed firms Pucheta Martnez (2004) showed that returns do not
differ significantly according to companies that receive qualified opinions
and the ones that receive unqualified opinions, meaning that qualified
audit reports do not provide relevant information to investors. Although
Herbohn (2007) did not find any short term market feedback for first time
companies received a going-concern opinion, they did find instead
negative market reactions with 12 months before the issuance of a going
concern opinion, meaning that the auditors only confirmed what investors
already knew.
There are also studies that have examined the effects of audit
opinion on loan officers decisions and perceptions. Globally, the results
suggested that the auditor independence and the audit quality were
relevant for their resolutions and that the information from the audit
opinions counted to them. It was discovered that bank loan officers from
Great Britain offered meaningfully smaller loans to firms which received
going-concern audit opinions. Also Bamber and Stratton (1997) reported
that in comparison to clients which received an immaculated audit
opinion, clients which received a modified audit report had a smaler
probability to receive a loan, were considered riskier and were charged a
http://download.pwc.com/ie/pubs/2014-pwc-ireland-understanding-financial-statement-audit.pdf,
accessed February 2015

higher interest rate. Drendez Gmez Guillamn (2003) found that

Spanish credit institutions appreciated the audit report as vital for loan
decisions and considered the audited financial statements the most
relevant informational sources.
Guiral-Contreras (2007) declared based on an experiment on
Spanish financial institutions that the officers from the banks assess the
riskiness of the loan request by the type of audit report expressed by the
auditor. Consequently, the companies that had a qualified audit report
were considered riskier than companies with an unqualified report,
especially when the qualified report was in contrast with the financial
results submitted in the financial statements, meaning that loan officers
treated the qualified audit report as independent and useful when it came
to making decisions regarding loans.
There are studies which are focused on the value of audited
information for venture capitalists. Despite the fact that the volume of
evidence was narrow, it seems that venture capitalists had no particular
preference for audited information, and audit reports, in making their
investment decisions. Wright and Robbie (1996) surveyed UK venture
capitalists regarding the information sources and techniques they used in
their preinvestment decision making (in making the invest or buy
decision). Apart from their own due diligence report, venture capitalists
considered that accounting statements were one of the most important
sources of information equally important as unaudited information .
Several studies have inspected the use of information in audit
opinions and the approach of messages communicated by audit opinions.
Spanish financial analysts showed that the type of audit opinion affected
the investment decision and also the future amount to be invested.
However, the results from a survey by Vergoossen (1993) indicated that
although audit reports have meaningful information, other sources were
consulted as well during the investment decision.
Considering the fact that going-concern audit qualifications have
a great informational value for analysts, OReilly (2006) concluded that a
going-concern audit report had a negative outcome on stock prices
estimates. Nonetheless, a sample of Greek IPOs showed that certain types
of qualified audit opinions have not affected the earning forecasts,
meaning that the audit opinions have not had informational value for
analysts in this case.
In another early study, based on an experiment among North
American certified financial analysts, Bailey (1981) showed that according
to analysts, the audit report transmitted more about the auditors
credibility than about managements credibility. A substantial number of
analysts also considered the auditor to be the sole source of financial
statement information, rather than management, who is responsible for
this information. Furthermore, for analysts the auditors credibility is
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dependent on the type of audit report issued, with auditors issuing

adverse opinions having the highest credibility and auditors issuing
unqualified opinions having the lowest credibility. These results suggest
the existence of an audit expectation gap. Baileys results were in line
with Robertson (1988). Based on an experiment among US financial
analysts, he found that analysts had trouble in properly interpreting
different types of audit reports. Regulators shared this concern since the
US Auditing Standards Board changed the audit report qualification
system shortly after this study was conducted. In contrast, however,
Gaffney and Lynn (1991) found that US analysts were very well able to
distinguish among messages communicated by different audit reports for
municipalities. Furthermore, analysts perceptions were in line with the
auditors perceptions, suggesting that an expectation gap is less of a
problem in this particular context.2
In conclusion, although the audit report influences the decisions
and perceptions of the users it seems that there is still room to improve
the informational value.

2 Maastricht Accounting, Auditing and Information Management Research Center (MARC), A

Framework for Extended Audit Reporting, http://www.accaglobal.com/content/dam/acca/global/PDFtechnical/audit-publications/extended_audit_reporting.pdf, accessed May 2015

1.2. THE AUDIT REPORT

The auditors report is defined as representing a formal opinion

of an internal or an external independent auditor, as a response to
internal or external audit effectuated on a legal entity or on one of its
subdivisions. Afterwards, the report is made available for a user, which
might be a company, an individual, a group of persons or a government
so that financial decisions can be taken upon it.
The auditors must report the outcome of their report directly to
shareholders/members on two elementary matters: first, if the financial
statements give an objective and fair perspective and secondly, if the
financial statements have been prepared in a proper way and in
accordance with relevant rules (International Accounting Standards, a
particular countrys legal requirements).
The auditors main purpose is to form an objective opinion on the
financial statement which is based entirely on the assessment of the
conclusion drawn from the audit report and to clearly present his opinion
through a written report.
In business, one of the most important tools when reporting
financial information, is the auditors report. It is not an uncommon
practice for third parties to require financial information which is
guaranteed by an independent external auditor. As a consequence, most
of the audited entities rely on the reports provided by the auditors to
attest the financial situation of the company, so that it attracts investors,
supports the obtaining of loans and even improves the companys public
image. It has not been astonishing the fact that some see the financial
information as being essentially worthless for future investment, without
an auditors report.3
Probably the most important thing worth to be mentioned about
the auditors report is that it does not represent an evaluation having as
main purpose the process of decision making. What the report represents
is an opinion on whether the information provided is appropriate and does
not lead to material misunderstandings.
There are two types of auditor's reports, each one showing a
different case detected during the auditor's work:

unmodified report, when the financial statements show a true

and fair view of the company;
3 Wikipedia, Auditors report, http://en.wikipedia.org/wiki/Auditor%27s_report#cite_notefundamental-1, acessed February 2015

modified report, which can be with emphasis of matter (when

the financial statements show a true and fair view but there is something
that needs to be brought to the atention of the user by an additional
paragraph) or with modified opinion (when the financial statements do not
fuly show a true and fair view or the auditor has not obtained suffient
appropriate evidence to make a conclusion).

1.3. THE UNMODIFIED REPORT

To ensure consistency and clarity in the reporting of the audit

opinion, ISA 700, explains the basic principles of audit reporting and
identifies the components of the auditors report.
Even thought it recognizes the fact that there might be specific
circumstances of certain jurisdictions that must be accommodated, the
ISA encourages consistency in the auditors report. Not only it promotes
consistency, but also credibility, especially when the audit report has
been conducted under the provisions of ISAs (at global level, it highlights
the audits that have been performed under the provisions of worldwide
established standards). Least but not last, it promotes the identification of
extraordinary circumstances that might occur and it helps the user to
recognize it.4
Regarding the content of the audit report, this should be in
writing. There are seven elements that this report should have
compulsory: title and addressee, introductory paragraph, managements
responsibilities, auditors responsibilities, opinion, other reporting
responsibiities, signature, date and address.
The title distinguishes this report from any other report produced
internally or by other non-statutory auditors. Also here it should be clearly
mentioned that this is the report of an independent auditor.
The report should be addressed to the intended user of the
report which is usually the board of directors, shareholders, or other party
defined in the engagement or local regulations, based on the
circumstances of the engagement. This varies from country to country,
but is usually addressed to the members of the company. This may also
be regarded as an attempt to prevent other parties relying on the report
when it is not intended for their use.
The introductory paragraph identifies the financial statements
which have been audited, by name or by the use of page numbers, and
stating the period they cover. This highlights that the auditor is not
expressing an opinion on other information which is published with the
financial statements (for example the Directors Report) and it can also
serve to restrict the scope of the auditors implied responsability.
Moreover, there is often a reference on the accounting convention or the
applicable reporting framework in the introductory paragraph, which
clarifies the basis on which the financial statements are being drafted.

4 IFAC, ISA 700 (Revised), http://www.ifac.org/sites/default/files/publications/files/Proposed%20ISA

%20700%20%28Revised%29-final.pdf, accessed March 2015

As mentioned in ISA 700, the auditors report should comprise a

fragment with the heading Basis for opinion which:

remarks that the audit was organised in accordance with ISAs;

refers to the section of the auditors report that presents the

responsibilities of the auditor;

contains a statement specifying that the auditor is independent

of the company considering the ethical requirements, applicable law,
regulation;

is satisfactory and relevant to provide a basis for the opinion of

the auditor.
The auditors report claims that the auditor has audited the
financial statements of the company which comprise the entire set of
financial statements required by the applicable financial reporting
framework, specifying the date or period enclosed by each financial
statement and notes to the financial statements, including a summary of
significant accounting policies.5
The statement of responsibilities of the management is an
attempt to manage the expectation gap, by making it clear to the reader
what management is responsible for. It should contain statements like
the preparation of the financial statements shows a true and fair view or
presents fairly and in accordance with the suitable financial framework,
designing and implementing an effective internal control system, applying
proper accounting policies and making reasonable accounting estimates.
In this section of the report, in conformity with ISA 700 (Revised),
it should be described the responsibilities of the ones from the
organization which are liable of preparing the financial statements and of
the internal control, given the fact that they established the preparation
of the financial statement which is free from any material
misrepresentation, whether as a result of an error or of fraud intention.
The management responsible or the ones governing, are
preparing the financial statement in accordance with the specified
financial report framework and, when needed, they also include their own
and objective presentation. As it has previously been stated, the
management responsible makes sure that all the necessary actions have
been taken, so no material misstatements (as errors or fraud intentions)
will be encountered during the process. One of the most important
purpose of the description of the management responsabilities is to guide
the user upon a better understanding, the premise on which the audit
process is based and conducted.
5 IFAC, ISA 700 (Revised), http://www.ifac.org/sites/default/files/publications/files/Proposed%20ISA
%20700%20%28Revised%29-final.pdf, accessed March 2015

10

The statement of responsibilities of the auditors principally aims

at managing the expection gap and includes information regarding ethical
requirements, reasonable assurance (assessing the risk of material
misstatement), the risk-based approach, true and fair opinion and no
opinion on the efficiency of internal control (considering internal control as
a basis for preparing financial statements without responsibility for
implementing it). Also it is very important to mention the fact that the
auditor believes that sufficient and appropriate evidence has been
obtained.
As mentioned in ISA 700 (Revised), the auditors report should
state that:

the main objectives of the audit are to offer fair assurance on the
lack of any material misstatement, due to errors of fraud and issue a
written report containing his own unbiassed opinion;

even if it offers a fair assurance, it does not guarantee that the

namely audit report, conducted in accordance with ISA, will always
identify a material misstatement, when existing;

the misstatements are defined as the material results of fraud or

errors, individually or collective, that have the power of resonably
influence the users economic decision, which will be taken on the basis of
the provided financial statement;

the auditor, while conducting an audit in accordance with the

ISAs, performs under professional judgenemt and maintains his objectivity
during the entire process of the audit;

provides information about the audit process and the auditors

accountabilities:
(i) identifies and comes out with a final audit report which is
sufficient and appropriate, offering a basis for the clients decision, taking
into consideration all the material misstatement of the financial statement
that might prejudice the report. Given the fact that fraud implies
intentional omissions, it is important that the auditor gives high
importance to the misstatements resulting from fraud intention;
(ii) the auditor obtains relevant and understanding
information of internal control which is significant in order to perform
audit activities, but expressing an opinion about the efficiency of the
entitys internal control is not inluded in his purposes. Only in case the
auditor is responsible with formulating an opinion concerning the
effectiveness of the internal control, the auditor should omit the phrase
stating that is not his objective to analyse the performance of the entitys
internal control;

11

(iii) evaluate the adequacy of the accounting policies used as

well as any relevant disclosures made by management;
(iv) prepares a financial statement which is written in
accordance with an adequate presentation framework and evaluates the
final presentation, taking into account the structure, its content and the
fact that the financial statement should represent all the transactions and
events performed in such way that suitable presentation is offered.
Another two important aspects regarding the activity of the
auditor, and which must be mentioned in the auditors report are:

permanent communication with the ones charged with

governance, starting with planning the audit process and continuously
informing the responsible ones with significant findings and deficiencies
encountered during the audit;

in case of listed entities, the auditor should provide to the ones

charged with governance a statement according to which he is compliant
with the ethical requirements in relation to independence, his judgement
bears on independence and that any related safeguards have been
applied so that threats to independence have been ceased or sufficiently
reduced.
The objectives of an auditors report are explained as being the
intention of obtaining fair assurance that the financial statements are free
from any material misstatement and, if needed, to contradict his results
to the ones of the management responsible of preparing the financial
statement.
The final opinion of the auditor must state in a clear and fair
manner the considerations upon the efficiency and the effectiveness of
the company. There are various ways of formulating an unmodified
opinion on the financial statement which has been written according to a
fair presentation framework.
In cases the auditors intention is to give an unmodified opinion
on financial statement, which has been writtten and drafted in accordance
with the framework, he should state that the financial statements are
prepared in accordance with the corresponding reporting framework.
Taking into account that the financial statements are formulated
according to the fair presentation framework, in the auditors report
should be described the financial statements, using two of the following
formulas: the preparation of the financial statements give a true and fair
view or the preparation and fair presentation of these financial
statements. Without doubt, the description of the financial statements
which specify that the report has been prepared in corespondance with a
specific applicable financial reporting framework is recommended only
12

when the financial statement complies with all the regulations of the
framework.
Unadequate descriptions such as the financial statements are in
substantial compliance with IFRS are examples of imprecise qualified and
limited language and it might mislead the users of the financial
statements.
Given the fact that the financial statements are written in
conformity with the corresponding financial reporting framework, it
uncovers the degree of compliance with a different framework. Such
information is included in the opinion of the auditor if it cannot be plainly
distinguished from the financial statements. In accordance with proposed
ISA:

705, if the disclosure regarding the compliance with the framework is

ambiguous, a modified opinion should be expressed;

706, if the disclosure is not ambiguous, but the auditor thinks its of such
importance that its vital to the users understanding, an Emphasis of
matter paragraph is inclosed.
As it is stipulated in the applicable reporting framework, the
entire set of financial statement must be covered by the opinion of the
auditor. An eloquent example is the one which has included in the
financial statement: an income statement, a balance sheet, a statement
of changes in equity, a cash flow statement and relevant notes, which
commonly comprise a summary of important accounting guidelines and
other information.
The auditors report should be signed. Regarding this aspect,
different jurisdictions have different rules as to whether the report must
be signed in the name of the engagement partner or in the name of the
company.
ISA 700 (Revised) introduced the demand that the name of the
engagement partner should be included in the report of audit of listed
entities unless, in particular situations, this disclosure is expected to lead
to a security threat to that person.
Regarding the date, it signifies the end of the auditors active
responsibilities. Once the audit report is signed the passive duty
commences.
The date of the auditors report should be after the day on which
the auditor has obtained enough audit proof on which to base his opinion,
including proof that:

all the financial statements and respective notes have been made;
13

those with the allowed authority have affirmed that they have taken
responsability for the financial statements.
In terms of address, as many audit firms have more than one
office, the audit report should name the specific location, where the
auditor maintains the office that has responsibility for the audit.

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1.4.
OPINION

THE

UNMODIFIED

REPORT

WITH

UNMODIFIED

There are cases when the auditor faces difficulties in deciding if

the financial statements give a just fair and real view, or he simply does
not agree with some aspects, and the unmodified report is not suitable.
When this is the case, the audit report will have to suffer modifications.
One of these modifications may require the auditor to make additional
communications in the audit report, although the financial statements
show a true and fair view. Issues requiring communication include:

matters already communicated in the financial statements that are of

fundamental importance to stakeholders understanding of the financial
statements through the use of an emphasis of matter paragraph;

any other matters relevant to the responsibility of the auditor, the

stakeholders understanding of the audit and the report of the auditor
through the use of an other matters paragraph.
It is important to note that these do not impact the wording of
the opinion and do not constitute either an adverse, qualified or
disclaimer of opinion.

1.4.1. EMPHASIS OF MATTER PARAGRAPH

The emphasis of matter is included in the report of the auditor

but it does not influence, in one manner or another, the auditors opinion,
nor it replaces the following:

the auditor expressing an appropriate opinion or disclaiming an opinion,

when specific audit engagement requests so;

exposures in the financial statements that the correponding reporting

framework requests management to do.
Emphasis of matter is used to transmit a matter that has been
adequately
disclosed or presented in the financial statements by
directors. The auditors judgement is that these matters are of such
fundamental importance to the understanding of the user of the financial
statements that the auditor should emphasise them in the disclosure.
Examples of such fundamental matters include:
15

uncertainties regarding the firms capacity to continue as a going

concearn;

major catastrophes that have had a significant result on the entitys

financial position;

whether the financial statements have been prepared on a basis other

that the going concern;

an uncertainty regarding the future outcome of exeptional litigation or any

other action;

early application of a new accounting standard.

Whenever the auditor considers it is necessary, he can use ISA
706, which deals with additional communication in the report, as it
highlights:

the aspects that are presented in the financial statement and have a
significant importance, as represent the basis for users understanding;

different aspects than the ones presented in the financial statement, but
are just as important for the users understanding of the audit report, the
auditors responsabilities and the audit process as a whole.
Each time the auditor decides to include and emphasis of matter
paragraph in his report, he should:

includ it right after the opinion one;

use a suitable heading, such as the heading Emphasis of matter;

the paragraph should contain a remittance to the matter which is

emphasized, as well as relevant disclosures that will completely present
the aspects that can be found in the financial statement;

specify that the opinion of the auditor has not been modified in
accordance with the matter emphasized.

1.4.2. OTHER MATTER PARAGRAPH

If the auditor considers it is important to communicate certain

16

aspects regarding the matters that are presented in the financial

statement, but which, in his opinion, are just as important in
understanding the audit process, he can include an other matter
paragraph in his report. This paragraph should be included right after the
Opinion and the Emphasis of matter ones.
There are certain circumstances when the Other matter
paragraph may be necessary:

there are specific and rare cases when the auditor is not allowed to
withdraw from his engagement, due to a limitation on the scope of the
audit process, which has been imposed by the management and will have
an effect of incapacity of obtaining proper audit evidence. In this cases,
the auditor might consider it is necesary to include an Other matter
paragraph in his report, which will clearly explain why the auditor is not
allowed to withdraw from his engagement;

specific law regulations or practices accepted in different jurisdictions

demand or allow the auditor to elaborate certain aspects that will need
further explanations both on the auditors responsibilities and on the
auditors reports as a whole. In such case, the auditor has the possibility
to describe the issue in the Other matter paragraph;

there are cases when the auditor is asked to report on two different sets
of financial statements: first in accordance with a general framework, as
it is the national one, and secondly, in accordance with a different
general purpose framework, as it is the IFRS. After the auditor decides
that both frameworks can be used in the given situation, he has the
possibility of including an Other matter section in his report, specifing
that the same entity has prepared another set of financial statements,
but in accordance with a different framework.
The Other matter section clearly states that this other matter
is not necessarily presented in the financial statements. Also, the Other
matter section does not contain information according to which the
auditor is forbidden from providing by law, rules or regulations.
If the auditor decided to include an Emphasis of matter or
Other matter paragraph in the auditors report, the auditor should
communicate his decision to the ones charged with governance,
regarding the proposed working of the paragraph and its final
expectations.

1.5. THE UNMODIFIED REPORT WITH MODIFIED OPINION

17

The auditors may decide that they need to modify the opinion
when they conclude that:

based on the evidence collected, the financial statements are not free
from material misstatement. This is when the client has not complied
with the applicable reporting framework;

they have been unable to collect sufficient appropriate evidence to be

able to determine that the financial statements are free from material
misstatement.
ISA 705 handels the responsibility of the auditor to emit an
accurate report in circumstances when the auditor affirms that a change
is needed in the opinion of the auditor regarding the financial statement.
There are three broad categories of modified opinions:

qualified opinions;

adverse opinions;

disclaimer of option.
The nature of the modification depends upon whether the
auditor considers the matter to be material and if so, whether it is
pervasive to the financial statements. The term pervasive is explained in
ISA 705 as those effects that, in the auditors judgement:

are not connnected to specific elements of the financial statements;

represent a massive percentage of the financial statements;

in relation to disclosures, are essential

understanding the financial statements.

to

users

capacity

of

In order to be considered pervasive, the elements must affect

the overall view given by the financial statement as a whole. Given so,
the auditor will not be able to form an opinion at all, and if it is a
disagreement, the financial statement will not reflect a fair and true view.
There are certain elements that are considered pervasive, as it follows:

material misstatement requiring an adverse opinion:

1. preparation of the financial statements on the wrong basis;

2. non consolidation of a subsidiary;
3. material misstatement of a balance which represents a substantial
18

porportion of the assets or profits.

inability to obtain sufficient appropriate evidence requiring a disclaimer of

option:

1. failure by the client to keep adequate accounting records;

2. refusal by the directors to provide written representation;
3. failure by the client to provide evidence over a balance which represents
a substantial proportion of the assets or profits or over multiple balances
in the financial statements.
When the auditor decides to modify the opinion, a basis for this
must be included in the report:

the paragraph will be included above the opinion paragraph;

the paragraph will explain the reason why the opinion is modified (for
example, which balances are misstated, which disclosures are missing or
inadequate, from which balances the auditor was unable to obtain
sufficient or appropriate evidence and why);

if possible, a quantification of the financial effect of the modification will

be included.
There are certain times when the auditor should provide a
qualified opinion, as it follows:

after obtaining appropriate and sufficient audit evidence, the auditor

concludes if the misstatements are material, but not pervasive to the
financial statement;

the auditors opinion is not based on sufficient and appropriate audit

evidence, as he has been unable to obtain the needed information, but
he is able to conclude if the misstatement could possibly have material,
but not pervasive effects on the financial statement.
In case the auditor does obtain sufficient and appropriate audit
evidence and is both material and pervasive to the financial statement,
the auditor expresses his opinion, which in this case is refered to as being
adverse.
After accepting the commitment, the auditor might discover that
the management has imposed limitations on the final scope of the audit
report which the auditor regards as having as final results the express of
a qualified opinion, or even the disclaiming. In this case, the auditor
19

should request the removal of the limitations. In case the management

refuses to remove the limitations, the auditor should address to the ones
charged with governance and conclude if it is possible to obtain sufficient
and adequate audit evidence.
When the auditor is not able to obtain sufficient and appropriate
audit evidence, the conclusions should be expressed:

qualified opinion: if the auditor concludes that the undetected

misstatement could possibly have material but not pervasive results on
the financial statement;

in case the auditor considers that the undetected misstatement could

have both mateial and pervasive results on the financial statement, the
qualified opinion would be inappropriate, as it would be impossible to
transmit the gravity of the problem, and he should:

1. resign from the audit, if it is accepted by law or regulation;

2. disclaim an opinion on the financial statement as a whole, if resignation is
not possible.
If the auditors decision is to resign, he is bound to
communicate, to the ones charged with governance, all the aspects
regarding the detected misstatements that would have influenced and
modified the opinion.
The appropriate headings the auditor should use when
modifying the auditor opinion should be Qualified opinion, Disclaimer
of opinion or Adverse opinion.
If the auditor reveals a qualified opinion due to material
misstatement, he should specify in the opinion paragraph that:

the financial statement is justly presented, on a fair and true view and in
conformity with the suitable financial reporting framework, as it reports
based on a reasonable presentation framework;

the financial statement has been prepared and written accordingly to the
suitable financial framework.
When the auditor is unable to gather sufficient and relevant
audit evidence, and the modification arises as a consequence, the auditor
has to use the phrase except for the possible effects of the matter(s) ...
to express the modified opinion.
When the auditor obtains enough and approrpiate audit
evidence, but has an adverse opinion, he should assert in the opinion
paragraph that based on the matter described in the Basis for adverse
20

opinion paragraph:

the financial statement does not justly present, in a fair and true view,
according to the pertinent financial reporting framework, when the report
is based on a fair presentation framework;

the financial statement has not been prepared and written in conformity
with the corresponding financial reporting framework, when the report is
based on a compliance framework.
If the auditor disclaims an opinion as a consequence of the fact
that was unable to gather enough audit evidence, the auditor should
state in the opinion paragraph because of the matters described in the
Basis for disclaimer of opinion paragraph, the auditor has been unable
to obtain sufficient and appropriate evidence to provide the basis of the
audit report, and, as a consequence, he does not express an opinion on
the financial statements.
There are certain circumstances when the auditor can not gather
enough evidence:

circumstances across the control of the entity;

limitations imposed by management.

If the auditor gathers enough audit evidence, but he is unable to
execute a specific procedure, does not represent a limitation on the scope
of the audit, as the auditor has the possibility of performing alternative
procedures. The limitations imposed by the management can have
impact on the audit, as for examnple the consideration of engagement
continuation.
Circumstances beyond the control of the company include:

the companys accounting records have been destroyed;

the accounting records have been confiscated indefinitely by the

government authorities.
Limitation on the scope imposed by management include:

management inhibits the auditor from taking part in the counting of the
physical inventory;

management hinders the auditor from demanding external confirmation

of balances of accounts.
It is important to communicate with the ones charged with
21

governance the aspects that conduct to a modification of the opinion of

the auditor and the suggested wording of the modification allow:

the auditor to inform those charged with governance upon the intended
modifications and their reasons;

the auditor to seek for competition of the ones charged with governance
relating the facts of the matter which gave rise to expected modification,
or even to confirm aspects of disagreement with the management;

the ones charged with governance have the opportunity of offering the
auditor further information or explanations regarding the matter which
gave rise to modifications.
Modification of the audit report is always the final course of
action. As the directors have a legal responsibility to prepare the financial
statements to show a true and fair view, the number of modified opinions
is in real life very low.
If the auditor has to modify the report, the following actions will
be taken:

discuss the matter with those charged with governance. This may lead to
the matter being resolved as the client may decide to amend the
financial stataments or the auditor may be provided with further
evidence to suggest that a modification is not necessary;

consider managements integrity; it is generally expected that the client

would want to avoid a modified opinion, therefore if the issue cannot be
solved satisfactorily it casts doubt over management integrity. This
means that any management representations may not be reliable. If
management representations cannot be relied on, this would lead to a
disclaimer of opinion;

seek external advice. Before resigning, the auditor may decide to seek
legal advice or consult with the relevant professional organisation about
the issues;

resign. Where the auditor has reason to doubt the management integrity
or where the auditor expects in the future that there will be a need to
issue a disclaimer, resignation must be considered. These are both
matters that would have been considered at the acceptance stage and
they must be reconsidered at the end of the audit to decide whether to
continue with the engagement.
The practicality of resigning from the audit team depends on the
stage of finalisation of the commitment when the management enforces
the limitation of scope. If the auditor has considerably finalised the audit,
the auditor could decide to finalise the audit as much as possible,
22

disclaim an opinion and elucidate the limitation of scope in the Basis for
disclaimer of opinion section preceding resignation.
In some circumstances, resignation from the audit could not be a
possibility if the auditor is requested by law to finish the audit
engagement. This could be the situation for an auditor of public sector
entities.
When the auditor concludes that resignation is necessary due to
a limitation of scope, there may be a legal or proffesional requisite for the
auditor to disclose the issues related to the resignation from the
engagement to the entitys owners or regulators.

23

2. CASE STUDY

The International Federation of Accountants is the global

organisation for the accountancy profession, whose overall mission is to
bring harmony in the profession of accountancy on an international scale,
serve the public interest and contribute to the progress of international
economies by promoting adherence to
high-quality professional
standards.
In order to pursue this mission and to deliver high quality
international auditing standards for global use, the IFAC Board has
established, under its authority, the International Auditing and Assurance
Standards Board, which wants to set high-quality assurance, auditing and
quality control in order to improve the accounting profession worldwide.
Consequently, in the attempt of increasing the confidence in the
financial statements and the audit, which is in the public interest, IASSB
has decided to implement new and revised standards in audit. This
innovation will represent a significant change in practice, with
collaboration needed by all participants in the financial reporting supply
chain to ensure the IAASBs objectives of the auditor reporting project.
In this way IAASB plans for its new audit reporting standards to
result in an auditors report that boosts the confidence in the audit. The
IAASB considers that in addition to the expanded transparency and
informational value of the audit report, the changes to audit report will
also have the benefit of:

strenghten the connection between the auditors, investors and those

charged with governance;

increased attention by management to the disclosures in the financial

statements and

increased focus of the auditor on matters that need to be disclosed.

The IAASBs new auditor reporting standards will be eligible for
the period ending on December 31, 2016. Consequently, the enhanced
auditors reports will be available to users at the beginning of the year
2017.
Several reasons were behind this decision of improving the audit
report, namely:

foundation of global auditor reporting;

24

improved auditor management communication;

persistent significance of the audit profession worldwide:

1. the audit view is appreciated, but should be more
informatory;
2. the users demand more relevant information.

increased attention by those charged with governance and maangement

to the disclosures reffered to in the key audit matters;

expanded professional scepticism in sectors where key audit matters are

identified;

expanded audit quality or users perception of audit quality.

Further, we will analyse the main changes from the new audit
report.

2.1.

KEY AUDIT MATTERS (KAM)

The users of the financial statements have pointed out that the
opinion of the auditors regarding the financial statements is valuable, but
it should be more informatory. They have asked the auditors to provide
more relevant content to the reports. IAASB responds to this request by
developing a new ISA 701 (Communicating key audit matters in the
independent auditors report) and it represents the main enhancement
brought to the auditor report through the new and revised standards.
Selected from matters discussed with those charged with
governance, the key audit matters are those matters that have been in
the professional judgment of the auditor of highly noteworthiness during
25

the audit of the financial statements.

Disclosing key audit matters does not change the auditors
responsibilities to perform procedures, assess risks and form an opinion
based on the proof gathered. Also it does not change the accountabilities
of management and those charged with governance regarding the
preparation of the financial statements, including suitable disclosures in
accordance with the congruent financial reporting framework. Rather, the
introduction of key audit matters in the auditors report wants to highlight
matters of highly importance in the audit that was completed. Adding key
audit matters in auditors reports might supplement benefits to the
quality in audit or users perception. This might as well, boost the
confidence of the users in the financial statements and in the audit.
During the IAASBs public consultation, the notion of key audit
matters has received boundless support among regulators, authorities,
investors, national standard setters and accounting firms.
Adding key audit matters in auditors reports will:

boost transparency regarding the performed audit;

concentrate the users of the financial statements on areas subjective to

significative management judgment and significative auditor attention,
which may help them better understand the company audited and the
financial statements;

provide users a basis to discuss with those charged with governance and
management about particular subjects regarding the audited financial
statements, the entity or the performed audit;

improve communication between the Audit Committee and the auditor

regarding the most important matters in the audit, which could result in
boosted consideration to disclosures;

improve the focus of the auditor on matters to be disclosed, which could

lead to a boost in professional skepticism and consequently a boost in
audit quality.
The disclosure of key audit matters in the new report of audit will
be necessary for all of the audits performed to listed companies
conducted in accordance with ISAs.
The key audit matters should be particular to the company and
the performed audit in order to deliver significative information to the
users. Consequently, ISA 701 comprises a judgment based decision
making framework in order to help auditors decide which are the most
important key audit matters. This was developed to help the auditors
focus on sectors about which users have explicitly expressed the highest
26

interest. Therefore, the decision making framework should help the

auditors to disclose key audit matters which are meaningful to
stakeholders needs.
ISA 701 and 230 require the auditor to document the proffesional
judgements regarding the reason why a matter which needed significative
attention from the auditor is or is not a key audit matter and if there are
no KAMs, the rationale why.
As a first step in establishing key audit matters, the auditor has
to select from the matters which were discussed with those charged with
governance, the ones that required significant of their attention. The
auditor should take into account:

areas of meaningful risks of material misstatement;

the results on the audit of certain transactions that took place over the
year.
As soon as the auditor determined the matters that needed
meaningful consideration from the auditor, he is then challenged to
establish which of those matters have been of most importance in the
financial statements audit and consequently, which are key audit matters.
ISA 701 provides guidance in order to assist the decision making
framework in estabishing the importance of a communicated matter and
whether this matter is a key audit matter:

the characteristic communication with those charged with governance

about a matter, taking into account that there may be a lot of synergies
between the auditor and those charged with governance on many
complex matters;

the relevance of the matter to stakeholders and particulary, the

materiality in accordance with the financial statements;

the materiality and the nature of misstatements due to error or fraud;

the effort required to deal with a matter, comprising the extent of

professional qualification required to implement the audit procedures to
assess the results of those procedures;

the hardness in implementing audit procedures,

measuring
outcomes and getting relevant proof on which to base the opinion;

the rigor of control shortcomings detected significant to the matter.

the

The purpose of the decision making process of the auditor in

27

establishing the key audit matters is to select less matters from those
communicated with the persons charged with governance.
Consequently, key audit matters may vary depending on the
view of the auditor due to the fact that some audit or entity particular
elements could impact the judgment of the auditor regarding which
matters have been of most importance during the audit process of the
ongoing period.
The requirement regarding the disclosure of key audit matters is
meant to result in a depiction that allows the users of the audit report
comprehend why the matter was considered to be one of importance in
the audit and how it was dealt with during the audit. Also, the level of
details comprised in the description of key audit matters is a question of
professional judgment and could differ according to the particular
circumstances of the engagement. This flexibility allows the auditors to be
creative and adaptable to the audit and company particular situations in
the presentation of a key audit matter in order to reduce the concerns of
the stakeholders that communication of key audit matters could soon
result in a standardized transmission of information.
ISA 701 shows that auditors can portray how a key audit matter
was dealt with during the audit by presenting:

facts regarding the approach of the auditor that were relevant to the
matter;

an overview of procedures executed;

the result of the auditors proceedings;

key observations regarding the matters.

Considering the number of key audit matters which will be

presented in the audit report, it can be said that this number might be
affected by the complexity of the company, the particular details of the
audit engagement and the nature of the business. A fact that should be
taken into account is that there will be at least one KAM for an audit of a
listed company.
In order for the stakeholders to comprehend the importance of a
key audit matter and the relation between KAMs and other parts of the
auditor report, as for example their opinion, the auditors have to take care
that the language from the portrayal of a key audit matter:

avoids a standardized or general language and presents the matters

taking into account particular circumstances of the company;
28

does not suggest that the situation was not solved by the auditor;

considers how the matter is dealt with in the corresponding disclosures

from the financial statements.
The auditors communication of KAMs in his report is not
supposed to be a substitute for the inclusion of significative disclosures in
the financial statement, taking into account that the disclosure of the
information regarding the financial statements and the company is
principally the duty of management.
The key audit matter part of an audit report will comprise
introductive language to show that the auditor has dealt with the subjects
in the context of the audit of the financial statements and does not have
another opinion on them.
Regarding the future steps, attempts to effeciently implement
and adopt the new ISAs will depict a representative change in practice.
Given the fact that the final reporting standards of the audit were issued,
the national standard setters of audit will have to look at these
amendments in the perspective of the law of their jurisdiction. Assurance
firms will start the significant work of developing guidance for
implementation and training needed to teach the engagement teams
what will disclose as key audit matters in their reports.
The IAASB will monitor the activities of implementation and also
wants to try a post implementation recension of the new auditor reporting
standards after a two years period from the efective date.
This review will help IAASB in evaluating whether the disclosure
of key audit matters in consistency with ISA 701 has served its intended
purpose and meets the needs of the users.
All stakeholders concerned with the new changes of the audit
report were persued by IFAC, seeking views in relation to the IAASBs
proposals to enhance the auditor report globally. Below is a summary of
10 of the responses provided by selected accounting firms, member
bodies, regulators and national auditing standard setters.
Q1. Do users of audited financial statements believe the
introduction of a new section in the auditors report describing the matters
the auditor determined to be of most significance in the audit will enhance
the usefulness of the auditors report? If not, why?6

6 Exposure Drafts and Consultation Papers, https://www.ifac.org/publications-resources/reporting-audited-financialstatements-proposed-new-and-revised-international, accessed May 2015

29

Table no. 1
No
.

Sourc
e

Stakeholde
r class

Detailed responses

PWC

Accounting
firm

The most significant proposal in the Exposure Draft is undoubtedly the

introduction of a new section of the auditors report describing key audit matters.
Other proposals make the work the auditor already more transparent. Describing
key audit matters is a more fundamental change. Although the audit model itself
is not fundamentally changing, the need to identify the matters of most
significance in the audit will require changes in processes to facilitate their
selection. It will also require greater engagement with management and those
charged with governance around the basis for our selection of these matters and
what we will say about them in our reports.
Of all of the proposed changes to the auditors report, we believe that the
proposed reporting of key audit matters will be the most valuable to users.
Deciding which matters to highlight in the auditors report (the filter) and what
the auditor should describe about them are critical to getting the model right. It is
not easy. We believe that, with some further refinement, the proposed standards
can provide the judgment framework needed to guide the auditors selection of
key audit matters that were most important in the audit and to provide insight
into why from the auditors perspective.
We considered what we thought the reporting of key audit matters should
achieve:
Insight that is relevant to users understanding of the financial statements.
Although not explicitly stated in the proposed standard, there is an underlying
impression in it that the IAASB believes that most key audit matters will be rooted
30

in the financial statements, an impression supported by the illustrative examples.

We agree that a focus on why and how the audit addressed key financial
statement areas is the insight from the audit that is the most meaningful and
valuable to users because it is relevant to their understanding of the financial
statements.
Focussed on the most significant matters. We believe auditors reports will
be the most effective when the key audit matters highlight the most significant
matters in that particular audit.
Within that context, we support the direction taken by the requirements and
application material in the proposed standard with respect to the selection of key
audit matters and how such matters are to be described. We believe, however,
that refinements can, and should, be made to help better guide auditors in
making these determinations to enhance prospects for achieving the overall
objective of relevant and valuable reporting. We have provided suggestions in our
responses to Q2 through Q4 below that we believe support that goal, by:
making clearer the framework that supports the judgments auditors will
need to make in determining key audit matters, by refining the filter for their
selection, and
avoiding the reporting of matters that could risk unintended market
consequences, which would not be in the public interest.7
2

KPMG

Accounting
firm

As auditors, we believe that including key audit matters in the auditors report is
an important first step towards better meeting the needs of users who want more
insight into the audit that was performed than is possible under the current

7 PricewaterhouseCoopers International Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/IAASBAuditorReportingED.PwCNetwork.21.11.2013.pdf, accessed May 2015

31

model.
We believe it is important that the IAASB evaluates user reaction to the expanded
auditors report. We therefore support the IAASBs planned post-implementation
review. A critical part of such a review will be to understand if the information
reported as key audit matters meets the expectations of users and whether
further enhancements are needed, for example, by broadening the key audit
matters reported by auditors and/or the information included in the report
regarding the auditors response to such matters.
While we recognize that the IAASB is not able to require changes to auditors
reporting responsibilities on its own within existing ISAs, it is nevertheless
important that the IAASBs post-implementation review include consideration of
whether users expectations may be better met by having the auditor provide
assurance on company information beyond the annual financial statements.
Examples of such information may include earnings announcements, certain
financial and non-financial information presented outside the financial statements
such as information included in management discussion and analysis, company
disclosures of key performance indicators or other operational or risk disclosures.
We believe such additional assurance would contribute to narrowing the
significant expectations gap that exists today between what the audit is and what
many in the market place believe or would like the audit to include.
The implementation of change works best when there is alignment of the goals of
all stakeholders. Whilst the IAASB does not set rules that govern reporting by
management and those charged with governance, we believe it is important the
IAASB encourages global and national organizations that establish governance
standards and reporting for management and those charged with governance to
report on matters that were of most significance in the discharging of their
responsibilities with respect to the preparation of the financial statements and
oversight thereof. This will help to better align the reporting responsibilities of
32

management/those charged with governance with those of the auditor in respect

of reporting key audit matters. For example, the UK Financial Reporting Council
simultaneously introduced new requirements for auditors, directors and audit
committees to report on the significant matters related to the financial
statements and how these were addressed.
While we agree that the proposed requirements and related application material
provide an appropriate framework to guide the auditors judgment in determining
key audit matters, we have the following observations.
We are not supportive of including original information about an entity in the
auditors description of a key audit matter because it is the role of management
and those charged with governance to provide information about the entity to
users. However, we acknowledge that in rare cases it may be necessary when the
description of a key audit matter would be incomplete without disclosing original
information about the entity.
It is important that the IAASB clarify that an auditor is not required to
communicate a matter as a key audit matter when the auditor is precluded from
reporting the matter by laws, regulations or other professional standards.8
3

Deloitt
e

Accounting
firm

Yes. Although this question is directed to users of financial statements, from a

DTTL perspective it is believed that the introduction of the KAM section in the
auditors report for listed entities is responsive to the call from investors, analysts,
and other users of the auditors report for more transparency, and for more
meaningful and useful information to be provided in the report. Proposed ISA 701
will call for the auditor to provide information in the auditors report about the
challenging aspects, from an audit perspective, of the entitys financial

8 KPMG IFRG Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/KPMGresponsetoEDReportingonAuditedFinancialStatements.pdf, accessed May 2015

33

statements. As such, DTTL believes it will enhance the usefulness of the auditors
report.9
4

EY

Accounting
firm

We believe the introduction of a new section in the auditors report describing

key audit matters (KAMs) will enhance the usefulness of the auditors report
through providing greater transparency into important areas where the auditor
devoted the most time and attention and had substantive discussions with those
charged with governance.
Applicability of KAMs to audits of completed sets of financial statements of listed
entities
We understand and accept the IAASBs rationale for limiting the requirement to
determine and communicate KAMs in the auditors report to the audits of
completed sets of financial statements of listed entities. However, we believe that
the auditors report should disclose that an audit conducted in accordance with
ISAs requires communication of KAMs only for listed entities. This will be even
more important if some jurisdictions define a listed entity differently than the
ISAs, for example, by exempting audits of listed entities below a certain threshold
from the requirement to communicate KAMs. This communication could be
accomplished by adding an element in the auditors responsibilities (for example,
We are required to communicate in our report Key Audit Matters...in our audit of
the financial statements of listed entities).
KAMs and adverse opinions
ISA 705 explains that, if the auditor expresses an adverse opinion on the entitys
financial statements, it is still appropriate to disclose KAMs in the auditors report.

9 Deloitte Touche Tohmatsu Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/DTTLIAASBReportingProposalCommentLetter.pdf, accessed May 2015

34

Given the seriousness of an adverse opinion, particularly for listed entities to

which KAMs primarily apply, we believe that, similar to when the auditor disclaims
an opinion on the financial statements, KAMs should not be included in the
auditors report when an adverse opinion is expressed. We believe that disclosing
KAMs in conjunction with an adverse opinion may suggest that some aspects or
elements of the financial statements are not subject to the adverse opinion and
could lead users to treat the KAMs as piecemeal opinions.10
5

ACCA

Member
Body

We agree that the inclusion of a new section in the auditors report, as specified
in proposed ISA 701 Communicating Key Audit Matters in the Independent
Auditors Report, will be beneficial for users. As we said in our response to an
earlier consultation Improving the auditors report, we support the concept
because it is a focused and timely response to meet the diverse demands of
stakeholders, particularly institutional investors and financial analysts.
There is, by now, a reasonable body of evidence that users value such information
and, no doubt, the current consultation will provide further insights.11

FAP Federa
tion of
Accou
nting
Profes
sions

National
Auditing
Standard
Setter

Yes, many users of the audited financial statements believe that the introduction
of a new section in the auditors report describing the matters the auditor
determined to be of most significance in the audit will enhance the usefulness of
the auditors report because the introduction of a new section in the auditors
report will be able to provide the users of the audited financial statements with an
useful information. Moreover, this new section could add further value to the audit
opinion and helps to reinvigorate the publics trust and confidence in the

10 Ernst & Young Global Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/EYGCommentLettertoIAASBonAuditorReportingProposalsED22.11.pdf, accessed May 2015
11Association of Chartered Certified Accountants, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/TECH-CDR-1224_0.pdf, accessed May 2015

35

Thaila
nd

independent auditor and increases the relevance of the audit.

Nevertheless, some users believe that this new section in the auditors report
could lead to some difficulties due to information overload. In addition, some
users may not be able to find information relevant to their economic decisions.12

EAIG
Europe
an
Audit
Inspec
tion
Group

Regulator

We believe that the "Key Audit Matters" (KAM) section could be an appropriate
means of informing the users of the financial statements about the audit. It also
provides a positive incentive for management to enhance the quality of
information disclosed.
We welcome the fact that the content of the additional paragraphs on KAM is
based on the audit, and that it presents those matters of most importance to the
audit of the financial statements, rather than on the content of the financial
statements, which are the responsibility of management.13

In conclusion, all of the above mentioned parties (accounting firms, standard setters and regulators)
consider that adding the KAM from the audit report is a big change, a significant step towards a better encountering
of the users needs who expect more comprehension of the audit. Also they believe that out of all the proposed
changes for the report of the auditor, the introduction of the KAMs is the most precious to stakeholders.

12 Federation of Accounting Professions Thailand, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/CommentsfromFAPThailand.pdf , accessed May 2015
13 EAIG European Audit Inspection Group, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/EAIGMembersCommentLetter-AuditorReporting-20131120.pdf, accessed May 2015

36

The introduction of key audit matters is trying to increase the

utility of the report of audit by providing major clearness in significant
sections where the auditor spent most time, consideration and had
particular discussions with those charged with governance.
Even though the model of audit is not drastically changing, the
necessity of identifying the matters of most noteworthiness from the audit
will demand transformations in procedures to ease their selection. This
will also involve greater commitment with management and those
charged with governance for selecting these matters and what the
auditors will say about them in their reports.
Regarding this new part of the report, if accorded the appropriate
focus, will be considered by the stakeholders as increasing its utility.
Anyhow, the ultimate goal will only be attained if the substance of that
part is designed in a way that gives legitimate insight and is both
important and understandable to its reader. Basically the users of the
financial statements will be in the position of judging the practicality of
the new disclosures.
Nevertheless, some users believe that this new part in the report
of audit could lead to some difficulties due to information overload. In
addition, some stakeholders may not be able to find information relevant
to their economic decisions.
Furthermore, to improve the utility of the report, the key audit
matters disclosed must be the ones that represent real significance for
the stakeholders and must be concentrated on issues related to the
financial statements and judgements applied. The parties questioned
acknowledge that IAASB has admitted this, but consider that the criteria
for including the KAMs must be further analysed to reduce the risk of
unforseen consequences. In order to reduce that risk, the duty of the
auditor must be very concise and clear. Also, the auditors will have to
document the motivation why some matters discussed with those charged
with governance are not considered key audit matters.
Despite of their support towards the improvement of the audit
report, the parties questioned have also expressed some concearns
regarding the introduction of KAMs. Among them, some parties have
made it clear that they do not support the inclusion of genuine
information about a company in the summary of the auditor of a KAM
because it is the job of those charged with governance and the
management to supply information about the company to users.
Nonetheless, they also agree, that in rare circumstances, it may be
required for them to disclose these issues when the presentation of a KAM
would not be complete without revealing authentic information about the
entity.

37

Consequently, there may be actual challenges in disclosing the

information. Also, there might be disagreements with the client about
what key audit matters to comprise in the auditors report, the client
might motivate that the information is senssitive, the client might have
another interpretation than the auditor of the key audit matter and this
will result in a danger of confusing the role of the auditor and the role of
management. Also, stakeholders may reach awareness of the risks of the
company if the auditor disclosed some key audit matters, which could
have unforeseen market consequences or the disclosure of original
information about the company could end in a breach of confidentiality.
Moreover, another aspect of concearn dealt by the parties with is
the fact that the IAASB must explain that an auditor does not have to
disclose a matter as a KAM when the auditor is forbidden by regulations,
laws or other professional standards from reporting the matter.There were
also concerns about the fact that the auditor will probably tend to disclose
the same issues every year.
A fact that should be taken into consideration by the companies,
the regulators, the auditors and all the parties involved is the expected
increase in efforts and costs associated with such reporting. Some
stakeholders thought that taking into account the narrow amount of the
information provided in the examples and expected costs, maybe it would
be more efficient for the key audit matters to contain of a list of matters
which the auditor found of highly importance, instead of delivering
additional information regarding audit decisions.
On one hand, there is a change for auditors that may result in a
series of problems like auditors being publicly challenged for their
decisions, auditors overcomment for fear of not reporting, debates
regarding gap expectations of confidentiality, darken of the opinion of
audit by the fact that the users misinterpret the facts summarized as key
audit matters, increases to auditor liability and possibly increased costs,
key audit matters rising questions in the minds of stakeholders and a
border to free conversations with those charged with governance or
management, which could have a great effect on audit fees. Also there is
the view that generally stakeholders prefer a simple certification that an
audit has been conducted to established standards, rather than a longer
audit report.
Moreover, as long as some users support the fact that these key
audit matters should be presented only for listed companies, others
wonder why, if they are requirements assessed as best practice, they are
not demanded for all of the entities.
On the other hand the key audit matters allow the auditor to give
observations and highlight key issues in the annual report where
stakeholders may find them easily. For this, the auditors will have to make
a selection in determining KAMs and avoid the reporting of matters which
38

could risk unforeseen market results.

The key audit resolutions are a significant concept, but they
should contain information relevant to the understanding of the users of
the financial statements and concentrate on the most important matters.
The truth is that in the end assuring transparency regarding meaningful
matters in the financial statements audit is timely but is in the public
benefit.

2.2. GOING CONCERN

The subject of going concern is of high importance in the spot of

the worldwide financial crisis. Users of the financial statements have
demanded enhanced attention on going concern matters from auditors
and management. IAASB in his role as a global standard setter tried to
answer to the demand for higher attention on going concern matters.
Nonetheless, many users, including regulators, think that a more
extended approach to going concern is needed.
The feedback to IAASB has pointed out that there are several
basic accounting issues, for which further guidance or elucidation is
needed to supplement the efforts of IAASB regarding going concern. Also
a necessity to examine the reporting requisitions, inquiring the
consistency of the disclosures of management with respect to going
concern has been suggested. Moreover, there is a preoccupation that the
statements of the auditor regarding going concern might expand the gap
expectations if stakeholders do not realize that this kind of statements are
not an assurance to the future of the company.
The IAASB has desired to discover a suitable equilibrium between
a more standardized language portraying the way that the auditor
approaches in an audit the going concern and the company particular
information regarding the findings of the auditor in relation to going
concern. Consequently, IAASB has revised ISA 700 in order to improve the
communication in the report of audit regarding going concern and ISA 570
- Going Concern, in relation to the work related effort of the auditor.
The following shows what might be encountered in the report of
the auditor regarding going concern in the light of the particular situations
of the company:

a presentation of the responsibility of the management for evaluating the

companys capacity to carry on as a going concern and if the utilisation of
39

the basis of accounting as going concern is adequate, and a disclosure, if

it is the case of matters regarding going concern. The explanation of the
responsibility of the management involves a depiction of when the use of
the going concern basis of accounting is corresponding, which will be
customed to the demands of the suitable reporting framework regarding
going concern.

a statement that the responsibilities of the auditor assert the suitability of

the use of going concern of the management and on the basis of the audit
evidence gathered, if a material incertitude exists regarding the events
that may cast a high degree of doubt on the companys capacity to carry
on as a going concern. If the auditor comes to the conclusion that there is
a material incertitude, he has to draw attention in the related disclosures
from his report or, if the disclosures are inappropriate, he has to change
his opinion. The conclusions of the auditor are fundamented on the
evidence gathered until the date of the report of audit. Nevertheless,
subsequent circumstances might determine the suspension of the
company to carry on as a going concern.
If the financial statements were drafted according to the going
concern basis of accounting but, the auditor thinks that management has
not used appropriately the going concern in the financial statements, the
report of audit will cover:

an adverse opinion, situated as the primary section of the report;

a depiction of this facts in the Basis for adverse opinion section.

If the use of going concern basis of accounting is adequate but
there is a material uncertainty regarding going concern, the auditors
report will include:

a unmodified opinion

a section named Material uncertainty related to going concern;

reference to the note from the financial statement where the material
uncertainty is described;

an assertion that these circumstances show that there is a material

uncertainty which might reveal serious doubts regarding the capacity of
the company to carry on as a going concern and that the opinion of the
auditor is not modified regarding this matter;

if it is the case, an adverse or qualified opinion;

an assertion in the Basis for adverse opinion part of the report that a
material uncertainty which might reveal serious doubts regarding the
40

capacity of the company to carry on as a going concern and that this fact
is not adequately disclosed in the financial statements.
Stakeholders have asked for prior notice of possible problems that
might exist regarding a companys capacity to carry on as a going
concern. Such cases were identified and may cast significant ambiguity on
the entitys capacity to carry on as a going concern, but after
understanding the plans of the management in dealing with these
incidents, the auditor determines that material uncertainty does not exist
(situations called close call).
The appreciation and disclosure about a companys capacity to
carry on as a going concern as per the requisitions of the appropriate
financial reporting framework are the duty of those charged with
governance and the management, taking into account that going concern
is a basic characteristic of the financial reporting.
These amendments to ISA 570 answer the general interest of the
public for higher consideration by the auditor to going concern and will be
finalized in an improved working effort by the auditor related to going
concern close call episodes and an ascending concentration on
disclosures when a substantial uncertainty exists. This improved focus of
the auditors might result in enhanced disclosures from management,
which is as well in the interest of the public.
IAASB has made amendments within ISA 570 to improve the
work of the auditor regarding disclosures by:

giving direction with respect to the recognition of suitable disclosures

when a material uncertainty exists;

requesting the auditor to assess the compatibility of disclosures in close

call cases with consideration of the demands of the suitable financial
reporting framework.
IAASB is aware of the fact that, it may happen that some
elements regarding going concern might be considered to be KAMs, partly
due to the fact that this might be related to the judgment of the auditor
when shaping an opinion regarding the financial statements. The new ISA
701 report states that the description of KAMs from the report of the
auditor regarding going concern might cover comments from the events
identified in the financial statements, like significant operating losses,
noncompliance with loan contracts or debt refinancing. The auditor might
also be requested to explain why the matter was treated as one of highly
importance and consequently established to be a KAM, as well as how the
subject was treated in the audit. These KAMs are disclosed in the report of
the auditor in consistency with ISA 701 revised and are communicated
independently in the Material uncertainty related to going concern
paragraph from the report of the of the auditor.
41

Taking into account the future steps, the necessity of subsequent

work on going concern by auditing and also accounting standard setters
was underlined. IAASB wants to carry on an after implementation analysis
of the new auditor reporting standards after two years from the efective
date, which will cover communication with IASB and other important
entities on the outcomes of the review and reflection if additional work is
necessary in the sector of going concern.
The main changes to ISAs and the report of the auditor regarding
going concern are:

explicit description of the individual responsibilities of the auditors and

management in all the reports of audit;

distinct going concern paragraph necessary when material uncertainty

exists;

new demand for disclosures for going concern close calls.

Below is a summary of 10 of the responses provided by
selected accounting firms, member bodies, regulators and national
auditing standard setters regarding the going concern issue.
Question 9 Do respondents agree with the statements
included in the illustrative auditors reports relating to:
a) The appropriateness of managements use of the going
concern basis of accounting in the preparation of the entitys financial
statements?
b) Whether the auditor has identified a material uncertainty
that may cast significant doubt on the entitys capacity to continue as a
going concern, including when such an uncertainty has been identified)?
In this regard, the IAASB is particularly interested in views as to whether
such reporting, and the potential implications thereof, will be
misunderstood or misinterpreted by users of the financial statements. 14

14 Exposure Drafts and Consultation Papers, https://www.ifac.org/publications-resources/reportingaudited-financial-statements-proposed-new-and-revised-international, accessed May 2015

42

Table no. 2
No
.

Sourc
e

Stakehold
er class

Detailed responses

PWC

Accounting
firm

We consider going concern to be an area of corporate reporting that is of

fundamental importance it is a key principle underlying the preparation of
financial statements. . Our view is that there should be a requirement for all
preparers of financial statements to provide an explicit explanation of the
rationale for their going concern conclusion. This would help clarify the use of the
going concern assumption to users. We believe the IAASB should continue to
work with accounting standards setters (including the IASB) and other bodies
that set the framework for financial reporting and should encourage those
organisations to add such an explanation to their requirements.
We acknowledge, however, that there is undoubtedly demand from some
stakeholders to hear from the auditor on going concern and for this reason we
would be prepared to support the new section and statements by the auditor
regarding going concern proposed in the Exposure Draft. Initial feedback from
our field testing and from what we hear from some other stakeholders does,
however, indicate that the proposed new section on going concern may be
perceived as boilerplate which does not provide the transparency around
going concern judgments that users are seeking. If the Board were to go forward
with its current going concern proposal, we believe further attention is needed on
a number of aspects before these statements are implemented not least the
practical issue of close call going concern situations.
The treatment of close call situations which do not constitute a material
uncertainty
In the Exposure Draft, the IAASB notes in paragraph 87 that a going concern
43

material uncertainty would, by its nature, be considered a key audit matter.

Under the IAASB key audit matters proposals, auditors will almost certainly
consider that such close call situations would be discussed with the audit
committee and hence could constitute a key audit matter and require discussion
in the auditors report. Our own internal field testing of the proposals for key
audit matters has shown that some audit engagement teams consider that going
concern issues, particularly where there is the possibility of a material
uncertainty, constitute a key audit matter.
We believe this to be the most significant of a number of issues pertaining to the
relationship between the key audit matters and going concern sections of the
auditors report and urge the Board to clarify its intentions in this area. As noted
elsewhere in our response, we suggest scoping out going concern matters from
proposed ISA 701 and explaining that such matters will be dealt with in ISA 570
(including close call situations in due course). Another consideration, as we
note further below, is that the Board has itself acknowledged that there may be
an option to defer finalisation of the auditor reporting elements relating to going
concern pending further deliberation by the IAASB and related developments by
other standards setters. The difficulties posed by close calls could be part of
that further deliberation.
Other aspects of the interrelationship between key audit matters and going
concern
We believe there are pros and cons as to whether going concern matters could
be included within key audit matters or, as proposed in the Exposure Draft, in a
separate section. Some of the advantages of inclusion in key audit matters are:
(i) it would help avoid the impression the auditor is reporting on going concern
separately from the audit of the financial statements; (ii) where there is an issue,
going concern will be a key audit matter discussed with the audit committee; and
44

(iii) it may aid consistency in treatment where auditors judge that a close call
situation also qualifies as a key audit matter, as discussed above.
Against this, some of the difficulties of inclusion of going concern matters in key
audit matters are: (i) auditors reports on non-listed companies may not include a
key audit matters section; (ii) where there are no issues or uncertainties
regarding going concern, it is questionable as to whether the matter should be
elevated as a key audit matter; and (iii) highlighting a matter as a key audit
matter may have unintended consequences (for example, provoking undue
concern among investors and other users of reports, particularly in the case of
financial institutions).
On balance, we believe inclusion in the illustrative auditors report of a separate
section headed going concern is appropriate. However, the IAASB, in finalising
these proposals, should give further thought to the interaction between key audit
matters and going concern and the impact on international convergence and
should consider providing further guidance.15
2

KPMG

Accounting
firm

We recognize that the enhanced reporting requirements being proposed by the

IAASB are intended to be responsive to users and regulators who have asked for
clarification of the roles and responsibilities of management and the auditor
within existing requirements. Given this objective, we are supportive of
enhancing current reporting requirements around the going concern basis of
accounting. In our view, reporting on going concern and material uncertainties is
most relevant when either:
a material uncertainty has been identified, in which case it is included in the

15 PricewaterhouseCoopers International Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/IAASBAuditorReportingED.PwCNetwork.21.11.2013.pdf, accessed May 2015

45

auditors report in accordance with the requirements in ISA 570 (Revised); or

an event or condition that may cast significant doubt about an entitys ability to
continue as a going concern is identified, but it is concluded that a material
uncertainty does not exist, in which case the matter is disclosed as a key audit
matter (see discussion below).
We believe that statements relating to the use of the going concern basis of
accounting and material uncertainties would be more informative to users if they
were only included when an issue with respect to going concern has arisen. This
would also be consistent with the requirements introduced by the UK Financial
Reporting Council which does not require statements in the auditors report when
the use of the going concern basis of accounting is appropriate and no material
uncertainties are identified.
Recommendations for improving information included in the auditors report
when a going concern issue has arisen
When it is determined that managements use of the going concern basis of
accounting is appropriate there are four broad conclusions that can be reached
by the auditor on managements assessment of whether material uncertainties
exist:
1) no uncertainty exists;
2) an event or condition that may cast significant doubt about an entitys ability
to continue as a going concern was identified but it is concluded that a material
uncertainty does not exist;
3) a material uncertainty exists and is appropriately disclosed in the financial
46

statements; or
4) a material uncertainty exists and the disclosure in the financial statements is
inadequate.
The proposals indicate that scenarios 1, 3, and 4 are matters dealt with under
ISA 570 (Revised) and would be discussed in the going concern section of the
auditors report (and in the basis of opinion, in certain circumstances). However,
we believe that the second scenario may represent a key audit matter, but it is
not clear from ISA 570 (Revised) and proposed ISA 701 if such a matter could be
considered a key audit matter.
To clarify and improve the value of the auditors report, we recommend that the
proposals specifically acknowledge that scenario 2 above may represent a key
audit matter.
An inherent issue with our recommendation is that under IFRS, an entity is not
specifically required to make going concern disclosures when a material
uncertainty has not been identified. Practice today relating to the nature and
extent of disclosures by entities in such a situation varies significantly. Therefore,
including guidance that such circumstances may meet the criteria of a key audit
matter may result in having the auditor include original information about the
entitys operations, liquidity, business risks and future plans. Our view is that this
issue could be overcome if the IASB were to introduce specific disclosure
requirements that address the scenario described above. Absent a corresponding
change by the IASB, we believe that indicating that going concern related
matters could be a key audit matter may improve financial statement disclosures
in these situations since management may be reluctant to have the auditor as
primary provider of such information.

47

Addressing the expectations gap

While the inclusion of the explicit statements on going concern and material
uncertainties is responsive to user and regulator concerns, we continue to
believe that requiring the auditor to make explicit statements on managements
use of the going concern basis of accounting and managements assessment of
whether material uncertainties exist will not, on its own, reduce the expectations
gap. We believe that the IAASB should also consider the following issues that will
in some circumstances require the IAASB to work with other bodies such as the
IASB and regulators to address.
Circumstances in which preparers are required to undertake a going concern
assessment.
Consistency and clarity as to the key terms relating to the going concern
assessment.
Disclosures that should be provided in the financial statements relating to the
assessment.
Additional information that should be provided outside the financial statements.
How the above should be applied to financial institutions, in particular,
banks.16
3

Deloitt

Accounting

DTTL supports the auditor addressing, in the auditors report, matters relating to
going concern where the applicable financial reporting framework, laws, or

16 KPMG IFRG Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/KPMGresponsetoEDReportingonAuditedFinancialStatements.pdf, accessed May 2015

48

firm

regulations include appropriate assessment and disclosure requirements

(including note disclosures) for management to apply in preparing the financial
statements. In the absence of such requirements DTTL doesnt believe it is
appropriate for the auditor to be the original provider of information about going
concern matters and believes that auditor reporting in such situations is
inconsistent with the auditor/client relationship, and will likely be misunderstood
by users.
DTTL is of the view that with respect to the topic of going concern, it is important
to have a holistic approach reconciling the expectations and needs of the user
community (including investors) with respect to the financial reporting
framework used in the preparation of the financial statements and the auditing
standards used to audit those financial statements. DTTL continues to encourage
the IAASBs efforts to expand disclosure in the auditors report as it relates to the
use of the going concern basis of accounting in the preparation of the entitys
financial statements, and whether material uncertainties have been identified,
and in particular commends the IAASBs efforts to monitor the activities of and
liaise actively with the accounting standard setters in order to keep the focus on
the importance of moving forward to respond to stakeholder concerns in this
area.
DTTL would not be supportive of requirements for the auditor being established
in the absence of appropriate requirements in the applicable financial reporting
frameworks, and therefore believes it is appropriate for the IAASB to be
considering deferral of these requirements where the applicable financial
reporting framework or laws or regulations do not include appropriate
assessment and disclosure requirements for management to apply in preparing
the financial statements. The IAASB could proceed to finalize revisions to
proposed ISA 570 (Revised), Going Concern, which would require auditor
reporting when the financial statements are prepared in accordance with
financial reporting frameworks that do have appropriate assessment and
49

disclosure requirements for management to apply in preparing the financial

statements. When the IASB and FASB projects are complete, and recognizing that
the related requirements may ultimately differ, the IAASB may need to revisit the
ISAs to evaluate the need for and make necessary changes such that the
proposed ISA 570 (Revised) is capable of being applied to audits of financial
statements prepared in accordance with either framework.17
4

EY

Accounting
firm

We support disclosures about going concern in the auditors report, because we

share the IAASBs view that an appreciation of going concern is of great
importance to users of the financial statements. However, we have concerns with
the IAASBs proposed approach, as discussed below.
Going concern as a KAM
We appreciate the proposal for going concern is to be discussed in a separate
section of the auditors report, given its importance, and revised ISA 570 Going
Concern sets out the requirements related to these disclosures. However, both
revised ISA 570 and proposed ISA 701 are silent as to what the auditor is
expected to do when the auditor considers that going concern is a KAM, as a
result of the considerable work effort and professional judgment involved in
evaluating underlying events and conditions that may cast significant doubt on
the entitys ability to continue as a going concern and ultimately concluding that
no material uncertainty exists. The Key Audit Matters section of auditors reports
relating to going concern states that In addition to the material uncertainty as
described in the Going Concern section of our report This appears to suggest
that a material uncertainty is a KAM, yet the Going Concern section of the
auditors report only includes the proposed required standard disclosures in ISA
570. We believe that the IAASB needs to address the interaction between revised

17 Deloitte Touche Tohmatsu Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/DTTLIAASBReportingProposalCommentLetter.pdf, accessed May 2015

50

ISA 570 and proposed ISA 701, and when the disclosures in proposed ISA 701
would be required. In addition, we believe the IAASB should provide specific
guidance as to whether a KAM about going concern should be included in the
auditors report when the auditor concludes that no material uncertainty exists.
This specific guidance also should take into account the concerns expressed
about auditors providing disclosure of original information in the auditors report.
Conclusion regarding material uncertainty
We understand that the going concern section of the auditors report does not
extend our responsibilities regarding going concern beyond what is currently
required by professional standards, but merely explicitly states the implicit
conclusions we have made regarding going concern during the course of our
audit.
However, we are concerned that the suggested conclusions (i.e., we have
concluded that managements use of the going concern basis of accounting in
the preparation of the financial statements is appropriate and we also have not
identified such a material uncertainty) could result in misunderstanding or
confusion by users. Because of the lack of disclosures in the financial statements,
and the use of specialized terminology, such as material uncertainty, users
may misinterpret a statement about the appropriateness of managements use
of the going concern assumption as conveying more than simply a conclusion on
the basis of accounting used to prepare the financial statements.
We believe that it is possible that users of the auditors report will infer more
from these paragraphs than intended, particularly in the absence of disclosures
in the financial statements, as mentioned above.
IASBs work on going concern

51

As we discussed in our response to the IAASBs Invitation to Comment: Improving

the Auditors Report, such a holistic approach to going concern, which involves
consideration of both the preparers and the auditors responsibilities, would
enhance going concern reporting. This would also provide the opportunity to
address the current lack of clarity by users regarding the meaning of the
auditors conclusion on the appropriateness of managements use of the going
concern basis of accounting in the preparation of the financial statements as
well as the meaning of certain terminology, such as material uncertainty,
significant doubt and ability to continue as a going concern.
Should the IAASB wish to adopt interim requirements regarding going concern
disclosures in the auditors report, we suggest the IAASB consider:
Adding a bullet in the section Responsibilities of Management and Those
Charged with Governance for the Financial Statements, explaining
managements responsibilities for going concern, for example adding a new
second sentence: Managements responsibility includes making an assessment
of the entitys ability to continue as a going concern
Adding a bullet in the section Auditors Responsibilities for the Audit of the
Financial Statements, explaining the auditors responsibilities for going concern,
for example: Obtain sufficient appropriate audit evidence and conclude
regarding the appropriateness of managements use of the going concern basis
of accounting in the preparation of the financial statements and whether a
material uncertainty exists related to events or conditions that may cast
significant doubt on the entitys ability to continue as a going concern.18
5

ACCA

Member

We agree with the statements included in the illustrative auditor's reports

18 Ernst & Young Global Limited, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/EYGCommentLettertoIAASBonAuditorReportingProposalsED22.11.pdf, accessed May 2015

52

Body

relating to the going concern basis and the identification of a material

uncertainty. Such statements make explicit what the auditor concludes and so
add value to the audit.
There is potential for user misunderstanding and this will be higher in the first
year of disclosure, or where KAM is not also presented and there are relatively
unsophisticated users. Nevertheless, this does not amount to a reason why the
disclosures should not be made. User misunderstanding is not an insurmountable
problem. It should be addressed by education of, and communication with, users.
The IAASB should be prepared to take a lead in such matters.19

FAP Federa
tion of
Accou
nting
Profes
sions
Thaila
nd

National
Auditing
Standard
Setter

EAIG
Europe

Regulator

Yes, we agree with the proposed standard requiring the explicit conclusion about
going concern issue in the auditors report. However we understand that the
users may not be aware how long of the period of assurance is. Hence, we
suggest that the IAASB adds some information regarding the period covered by
the going concern matters mention in the auditors report for identification of
material uncertainty i.e. 12 months from the financial reporting date.
However, we woud like to raise concerns about some misunderstandings which
could occur among users. Because it is possible that some users might get
confused whether an entity with going concern issue disclosed in the auditors
report could carry on its operations or not.20
We are aware that the issue of the disclosure of information regarding going
concern is one that is currently being addressed by both the auditing and

19 Association of Chartered Certified Accountants, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/TECH-CDR-1224_0.pdf, accessed May 2015
20 Federation of Accounting Professions Thailand, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/CommentsfromFAPThailand.pdf , accessed May 2015

53

an
Audit
Inspec
tion
Group

accounting professions at a global level.

We generally welcome a specific statement in the audit report about the going
concern assumption and on any identified material uncertainties in this regard.
This enhances the focus of the auditor on going concern issues, which would be a
positive incentive, without changing his current responsibilities. We believe that a
specific auditors statement on a management assumption is in line with the role
of the auditor.
We agree that the auditor can only report on the facts and the conditions that
have been identified during the audit and cannot provide a guarantee on the
outcome of future events. A statement on inherent limitations regarding future
developments and events could be helpful to users in this regard. However, we
are not in favour of the inclusion of the proposed statement that neither
management nor the auditor can guarantee the entity's ability to continue as a
going concern which appears to be more in the nature of a caveat. We believe
that the type of wording proposed could create some misunderstanding or
doubts in the readers' minds on the ability of the entity to continue as a going
concern, when no material uncertainties have, in fact, been identified.21

21 EAIG European Audit Inspection Group, Submitted Comment Letters, https://www.ifac.org/system/files/publications/exposuredrafts/comments/EAIGMembersCommentLetter-AuditorReporting-20131120.pdf, accessed May 2015

54

In conclusion, all of the above mentioned parties (accounting

firms, standard setters and regulators) consider that adding the going
concern matter, as a key principle underlying the preparation of financial
statements to the audit report is an important change. The opinions
regarding this change are currently split though.
The enhanced reporting requirements being proposed by the
IAASB are intended to be responsive to users and regulators who have
asked for clarification of the roles and responsibilities of management and
the auditor within existing requirements.
There are for sure requests from some users to listen on going
concern from the auditor so this step is seen as a better encountering of
the requirements of stakeholders who ask for more insight into the audit.
On the other hand though, some users do not think that the auditors
should be the authentic providers of information about going concern
matters.
The statements are open to misinterpretation and confusion by
less informed stakeholders, especially regarding material uncertainties.
Certainly, the misunderstanding of the users is not an overwhelming
issue. It can be dealt with by education and communication with users,
but for this, IAASB has to take measures.
When it is determined that managements utilisation of going
concern basis of accounting is appropriate there are four broad conclusions
that can be reached by the auditor if material uncertainty exists:

no uncertainty exists;

a circumstance that may raise considerable incertitude about an entitys

capacity to carry on as a going concern has been detected but it is
determined that a material uncertainty does not exist;

a material uncertainty exists and is suitably commented in the financial

statements;

a material uncertainty exists and the disclosure from the financial

statements is improper.
The first, the third and the forth scenarios are matters
mentioned in ISA 570 and should be disclosed in the going concern part
of the report of the auditor or in the basis of opinion, in particular
situations. Nonetheless, the second scenario may represent a KAM, but it
is not clear from ISA 570 and ISA 701 if such a matter could be
considered a key audit matter.
In this respect, both revised ISA 570 and proposed ISA 701 are
55

silent as to what the auditor is expected to do when the auditor considers

that going concern is a KAM, as a consequence of the considerable work
effort and professional judgment involved in evaluating underlying events
which may spread significative incertitude on the companys capacity to
carry on as a going concern and finally determining that no material
uncertainty exists.
Also, there are issues that must be beard in mind relating to the
going concern issues, as for example the fact that in the present the
management is not demanded under IFRS to make a precise afirmation
that it has prepared the financial statements on the basis of going
concern. The auditors think that this may mislead stakeholders regarding
the roles of the auditor and the management regarding going concern.
Moreover, certain auditors think that the requests will increase the cost of
the audit due to the fact that preapring precise statements in the report
of the auditor will require the implication of senior audit staff and quality
control reviewers.
While the incorporation of precise statements regarding material
uncertainties and going concern responds to stakeholders concerns,
requesting the auditor to give specific comments on the use of going
concern basis of accounting of management and his evaluation of
whether there are material uncertainties, these will not, on their own,
decrease the expectancy gap.
Bassicaly, considering the comments received from the
questioned parties, the suggested comments on going concern could
fulfill the needs of the stakeholders or could be of scarce value for the
users and rise the expectancy gap rather than diminish it. Also, there is
the risk that these matters might end up with the auditor including
authentic information regarding the operations of the company,business
risks, liquidity and future plans.

2.3. OTHER CHANGES TO THE AUDITORS REPORT

Among other changes to the report of the auditor, we can

mention:

the opinion of the auditor requested to be presented first

The suggested restructuring of the report of audit, with the

necessary elements and the opinion of the auditor notable in the
commencement of the report, are meaningful enhancements that support
the requirements of the users according to which comparability and
consistency in the report of audit are considerable features. The
fail/pass opinion gives the stakeholders a precise summary as to
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whether the financial statements are presented entirely in consistency

with the suitable reporting framework and the highlighted relevance of
this judgement gives enhanced context for the financial statements users
as they read the rest of the report of audit.

statement regarding independence and other ethical duties

A clear assertion of the independence and other ethical duties in

the report of audit might enlighten the responsibilities of the auditor and
advocate efficient communication.
Nevertheless, there are concerns that inside an audit group or in
jurisdictions where ethical requirements and independence were not
summarised, the register of moral claims might be too vast. Taking into
account that this assertion of compliance can be found in the Basis for
opinion section, which is the commencemnt of the report, a long list may
be formed and may reduce the attention of the stakeholders from other
information from the
report. Consequenty, alternative suggestive
wordings, such as We are independent of the Company within the
meaning of the Code of Ethics for Professional Accountants, and have
fulfilled our responsibilities under those ethical requirements and laws and
regulations have been proposed.

naming the engagement partner (listed entities only)

This aspect has attracted a number of various oppinions. Some

parties support the inclusion of the engagement partners name in all
audit reports, not only in those of listed entities. Taking into account that
assigning the name of the engagement partner is already a present praxis
in the majority of Europe countries, they think this has an affirmative
effect over the responsability and implication of the engagement partner.
Others on the other side, are not satisfied with the fact that
revealing the name of the engagement partner will have positive conduct
significance for auditors and neither is necessary nor adds to the quality
of the audit. They are concerned that users might reach inappropriate
conclusions with respect to the performance of engagement partners on
larger audits. They are pleased that IAASB has suggested that the
requirements contain exceptions for cases when such divulgations are
rationally presumed to lead to a meaningful threat in the safety of the
individual. Nonetheless, they are not convinced that communication of the
name of the engagement partner will enhance the quality of the audit or
his liability, however the parties admit that this clarity will be apreciated.
The parties admit though, that a demand for the recognition of the audits
engagement partner has existed in a lot of jurisdictions for a period now
and is an operation of the legal environment from those authorities. That
is why, they believe that such requirements should be left to be decided
by the national standard setters or by local law or regulation.

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enhanced description of
characteristics of the audit

auditor

responsibilities

and

basic

Many users have been preocupied by the fact that if the

presentation of the responsibilities of the auditor neglects a part of the
content requested by specific paragraphs in ISA 700 IAASB should clear
up if this oversight represents an inconsistency. They are afraid that the
suggested disclosure in the report of the auditor portraying the
accountabilities of the auditor is not clear enough and might boost the
gap of expectations.
In addition, the users might not comprehend these
accountabilities and might suppose a bigger implication from the auditor
than it is the case. Taking this into consideration, the description of the
procedures should explain the restrictions and the nature of the
procedures of the auditor in order to diminish and not increase this
misaprehension.

required identification section when those

governance are separate from management

charged

with

The parties interviewed believe that a elucidation has to be

made that just the liabilities of the persons in charge with the drafting of
the financial statements have to be included in the report of the auditor,
even when the persons in charge with the supervision of the financial
statements are not the same as those in charge with drafting of the
financial reports.

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CONCLUSIONS

Over the course of many years, the users of the financial

statements have reported that the opinion of the auditor on the financial
statements is semnificative, but the report of the auditor should be more
informatory. They have asked the auditors to supply the stakeholders with
more substantial and particular information about the company in their
reports. While the traditional approach of the audit report remains
valuable, many believe it is no longer enough.
In the attempt of increasing the confidence in the financial
statements and in the audit, IASSB has decided to implement new and
revised standards in audit. This innovation will be an important
modification in practice, with collaboration needed by all members of the
supply chain of financial reporting to ensure the IAASBs objectives of the
new project.
IAASB plans for its new audit reporting standards to result in an
auditors report that boosts the confidence in the audit profession. The
IAASB considers that in addition to the expanded transparency and
informational value, the changes to audit report will also have the benefit
of: strenghten communication between the auditor and investor as well as
between the auditors and those charged with governance, rising care by
management with the disclosures from the financial statements and
renewed focus of the auditor on matters to be reported, which might
result in a boost in professional skepticism.
The advocates of enhanced auditor reporting believe that the
enhancements would lead to a greater understanding of what auditors do
and dont do and boost the significance of the audit report. Some people
also think that the report of the auditor should not become the origin of
authentic information regarding a company and that financial statements
disclosure needs to remain managements responsibility. Some have
raised concerns about the potential liability risks associated with an
enhanced auditors report. The challenge is how to draft an auditors
report that provides relevant and meaningful information which can be
helpful to users of the financial statements, without resulting in
unintended consequences.
Most of the regulators, standard setters and BIG 4 Companies
support initiatives to enhance the auditors report. They believe expanded
auditor reporting will not only help respond to investor demands, but will
also help increase public confidence in financial reporting and
governance. Despite the practical challenges, they believe that auditors
should be more transparent with the public about the audit. This will add
value to the continuing significance of the audit of financial statements
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and help serve the public interest.

One of the most important changes in the audit report is the
introduction of the key audit matters, which are those matters that, in the
judgment of the auditor have been of highly importance in the audit of
the ongoing period.
According to the study prepared in the third chapter of this
paper, most of the accounting firms, standard setters and regulators
interviewed consider that the introduction of the key audit matters is
trying to improve the utility of the report of audit by delivering higher
clearness into important areas where the auditor spent most time,
consideration and had particular discussions with those charged with
governance.
Despite of their support regarding the improvement of the audit
report, the parties questioned have also expressed some concearns
regarding the introduction of the KAMs. Among them, they have made it
clear that there may be challenges in revealing the information. There
might be misunderstandings with the customers about what key audit
matters to comprise in the report of audit, the customers might motivate
that information is senssitive and consequently, the jeopardy of shading
the role of the auditor and the role of management is high. Also, investors
might fiind out about the risks the company faces if the auditor comments
on some key audit matters, which could have unforeseen market
consequences. Nonetheless, communication of original information
regarding a company might lead to breaches in confidentiality.
There are also concerns about the fact that the auditor will have
the tendency of reporting the same issues one year after another.
Moreover, a fact that should be taken into consideration by all the parties
involved is the expected increase in efforts and costs associated with such
reporting.
There is a change for auditors that may result in a series of
problems like auditors being publicly challenged for their decisions,
auditors overcomment for fear of not reporting, debates regarding gap
expectations of confidentiality, darken of the opinion of audit by the fact
that the users misinterpret the facts summarized as key audit matters,
increases to auditor liability and possibly increased costs, key audit
matters rising questions in the minds of stakeholders and a border to free
conversations with those charged with governance or management, which
could have a great effect on audit fees. Also there is the view that
generally stakeholders prefer a simple certification that an audit has been
conducted to established standards, rather than a longer audit report.
Moreover, as long as some users support the fact that these
KAMs should be presented only for listed companies, others wonder why,
if they are requirements appreciated as best praxis, are not demanded for
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all companies, rather than being limited to listed companies.

Another important change in the audit report is regarding the
going concern. The opinions regarding this change are currently split
though.
There is undoubtedly demand from some stakeholders to hear
from the auditor on going concern so this step is seen as a better
encountering of the necessities of the stakeholders. On the other hand
though, some users do not think that the auditors should be the authentic
providers of information about going concern matters.
The statements are open to misjudgements and also confusing
for the stakeholders which are not very informed, especially regarding
material incertitudes. Certainly, user misunderstanding is not an
overwhelming problem. It should be addressed by education and
communication with users, but for this, the IAASB should be prepared to
take measures.
The addition of the explanatory comments on material doubts
and going concern responds to users concearns, requesting the auditor to
make precise comments, but this will not diminish the gap expectations
on its own.
Bassicaly, considering the comments received from the
questioned parties, the suggested assertions on going concern could fulfill
the needs of the stakeholders or could have a negative impact on
stakeholders boosting the gap expectations rather than decrease them.
The greater uniformity observed in the responses among users from both
small and large companies, regulators or standard setters regarding the
new audit report indicates that the new ISAs will reduce the expectations
gap.
Among other modifications to the report of audit, there is the
request for auditors opinion required to be presented first, which is
tought to provide the stakeholders a summary if the financial statements
are in consistency with the suitable framework of reporting.
In addition, another modifications consist of the statements
regarding ethical values and independence, which might illuminate the
responsibilities of the auditor and stating the name of the engagement
partner (listed entities only), which has attracted a number of various
oppinions. Some parties sustain the addition of the name of the
engagement partner in all the reports of audit, not just in the ones of the
listed companies. Others on the other side, are not convinced that
communication of the name of the engagement partner will enhance the
quality of the audit or his liability, however the parties admit that this
clarity will be apreciated.

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Another change is the enhanced description of auditor

respponsibilities and basic characteristics of the audit, which is tought to
boost the gap expectations by taking into account that the users might
not comprehend them and might expect a bigger implication from the
auditor than it is the case. It is important, therefore, that the description
clarifies both the nature and limitations of the auditors procedures in
order to reduce rather than intensify this misunderstanding.
In conclusion, the modifications brought to the reporting audit
should boost the quality of audit, improve the audit worth to stakeholders
and enhance the accuracy of disclosures the company supplies in the
public reports. These modifications should keep or improve the efficiency
of the cooperation between those charged with governance, auditors and
management in the reporting of financial statements proceedings. The
report of audit can supply major insight, but the auditor does not have to
be the authentic origin of information regarding the company. Particularly,
the supplementary disclosures from the report of audit are going to be
efficient if they do not create misunderstandings which might discredit the
trust in the audit.
Taking into account that the stakeholders believe that the new
audit report is both more understandable and of greater value than the
old report, the foreseen results are encouraging. Of course, there are both
advantages and disadvantages rgarding the improved audit report, but in
the end, the advantages prevail. As such, the communication between
auditors and users of financial statements will be refined. Stakeholders
will be better able to identify the degree of responsibility that both
management and the auditor assume for the financial statements. As a
result, greater consistency will be present for stakeholders receiving the
messages of the new auditor's report than was the case with the old
report.
There is still space for subsequent convergence in the
suggestions available now and all the interested parties should be
struggling in order to achieve that target. Taking into account that the
starting moments are different depending on jurisdictions, convergence
might take a while to be realised.
Ultimately, the victory of the new auditor report will hang on
efficient implementation. To a significant extent this depends on auditors
accepting the transformation and working with the new model in a way
which will contribute to a significant insight in the audit. The legal
jurisdictions in which the auditors will work might certainly influence the
way the new auditor reporting model will be enforced. The considerations
that the auditors have to make in choosing the issues that will be
disclosed are complicated and might end up in boosted legal jeopardy in
many jurisdictions. In order to completely accomplish the significant
comprehension that is aimed for in the report of auditor, regulators from
local nations should assess what safeguards might be necessary to
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defend the auditors. The way into accomplishing a common model

worldwide for the report of audit is not unbeatable and smaller than it was
before. The suggested models applied recently are of great importance,
but there is still space for a bigger convergence. All standard setters,
stakeholders and regulators are encouraged to to their best to touch
woldwide alignment.
In the end providing transparency about significant matters in
the financial statements audit will take time but is in the public interest.

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