New standard new opportunities

In the first in a series of accounting articles, Liz Stamford explains the benefits of the new auditing standard requirements for listed entities.

As directors, you already know the insights that your financial statement auditors provide to you. Imagine if these were also made available to shareholders. Well shortly this will be the case, at least for listed entity audit reports. While the idea may initially fill you with horror, a closer look reveals a number of advantages. It may be a bumpy ride but the opportunity to enhance trust and confidence is welcome.

What is happening?
Revolutionary changes to the format and content of the public audit report are coming, likely for June 2017 year ends in Australia. Although 2017 may seem a long way off, it is timely to start talking to your auditors about the changes and how it will impact your audit.

Change is generally confronting and the combined effect of these changes to the audit report is substantial. But this is a change to be welcomed. Some of the positives are already being seen and reported by directors and investors in the UK, who in 2013 introduced a similar requirement for key audit matters (KAMs) which includes the following:

• The new requirements assist investors to engage on audit and accounting matters with the entity by providing helpful “hooks” which investors can use in discussions with directors or management.
• The KAMs provide shareholders with greater insight into the auditor’s work and how the auditor has perceived and addressed risks of material misstatement in the financial statements.
• The expanded text provides additional understanding for investors of the judgemental areas in financial statements.
• The explicit content on the auditors’ responsibilities helps investors and analysts be better informed and have a better appreciation of the roles of directors and auditors and how they interact.
• The engagement between the directors and auditor is enhanced as their reporting responsibilities are more closely aligned.
• More generally, there is a perceived overall value to markets through increased contribution to understanding and trust.

What is it going to look like?
The most revolutionary change is the introduction of KAMs. KAMs are those matters that were of most significance in the audit of a set of financial statements for the particular year.

By definition this text has to be unique to the entity and this is the first time that the auditor is expected to include “free text” in their public report. The new auditing standard requiring this change requires auditors to highlight KAMs and to explain their audit approach to these matters.

Auditors currently provide communication to the board and audit committee on matters arising from their audit. However, do not expect to see this just replicated in the public audit report. Directors have knowledge of most matters and have the opportunity to have discussions with the auditor.

These attributes are not available to general shareholders. Therefore the explanation provided publicly will be crafted quite differently to take these differences into account. 

Before this gets too scary however, there is good news. The standard makes clear that the matters to be included relate to the audit work and scope and not to business risks. Also it is clear that there will not be separate opinions on the matters highlighted.

The most comfort, though, can be taken from the fact that Australia will not be a first-adopter. The UK introduced a similar standard in 2013. Although there are clear differences, the KAM obligations are similar. Why is this good news? Because there will be more than three years of practical examples on how the proposals have been adopted in a similar capital market. To bring to life what this may mean, set out above is an extract from the 2014 Vodafone UK audit report.

In this report, the auditor identified seven KAMs in total and the extract includes two of these by way of illustration. It is worth noting that in the UK regime, the audit committee is required to publish a public report on their view of financial statement risks. The topics illustrated are also covered by the audit committee in their report.

Other changes
For all audit reports, whether listed or not, there will be other changes to format and content. The audit opinion will move to the start of the report and the wording of the standard descriptions, including directors’ responsibilities for going concern, will be more explicit.

What next?
The overall objective of the changes is to enhance trust in the financial statement reporting process. Even if your entity is not likely to be subject to the KAMs, the changes can be a good springboard to consider your overall financial reporting approach and whether any enhancements to clarity can be enacted. An opportunity like this does not come every day.

EXTRACT from Vodafone’s UK March 2014 Audit Report

Our significant findings in respect of each risk are communicated to the audit and risk committee and a high level summary is as follows:

• We identified deficiencies in certain privileged user access controls at the IT infrastructure level that could have a negative impact on the group’s controls and financial reporting systems. A number of the group’s significant IT applications depend upon the infrastructure affected.

• Where these deficiencies affected specific applications within our audit scope, we extended our controls testing to provide assurance over both compensating controls and the completeness and accuracy of management information used in other key controls. In addition, and where appropriate, we extended the scope of our substantive procedures.

• The continued threatened and actual legal, regulatory and tax cases brought against the group, and the high level of judgement required to establish the level of provisioning increases the risk that provisions and contingent liabilities may not be appropriately provided against or adequately disclosed. Due to the lower materiality level applied in our audit for the year ended 31 March 2014 this is now considered a risk that has a significant impact on our audit strategy.
 

In responding to this risk, our key audit procedures included:

• Testing key controls surrounding litigation, regulatory and tax procedures.

• Meeting with management in each of the significant local markets and a review of subsequent group correspondence.

• Meetings with the group litigation, regulatory and tax teams.

• Meetings with regional management.

• Circulation of legal letters to relevant third party legal representatives and direct discussion regarding material cases.

Further details on the new requirements can be seen in the Perspective series of articles on the Chartered Accountants ANZ website at
www.charteredaccountants.com.au.

More information can also be found in the International Auditing Assurance Standards Board (IAASB) At a Glance publication at www.ifac.org.