What is communication with those charged with governance?

Relevant to ACCA Qualification Paper P7

When considering the reporting ‘outputs’ of an audit of historical financial information, attention is usually focused on the report issued by the auditors to shareholders, which contains the audit opinion. However, there is another important reporting ‘output’ produced as a result of the audit process – the auditor’s communication to those charged with governance. This short article outlines the main features of this communication and summarises the requirements of ISA 260, Communication of Audit Matters With Those Charged With Governance, and the UK equivalent, ISA 260 (UK and Ireland), Communication of Audit Matters With Those Charged With Governance.

Auditors are required by ISA 260 to communicate audit matters of governance interest to those charged with governance. It is important that those charged with governance have an understanding of all significant issues that have arisen from the audit process.

Relevant persons

The first step is to consider to whom the communication should be directed. ISA 260 does not specify this exactly, but states that ‘governance is the term used to describe the role of persons entrusted with the supervision, control and direction of an entity’. This implies that the communication should be with the highest level of management, including the executive and non-executive directors, and the audit committee, where relevant. The identity of the relevant person(s) to whom the communication will be addressed may be clarified in the engagement letter.

Matters to be communicated In the second step, the auditor should consider the type of issues that should be communicated. ISA 260 provides some guidance as to the matters which ordinarily could be incorporated in the communication, including:

• the overall approach and scope of the audit, including any limitations on the scope of the audit
• the accounting policies, and any changes to them, that could materially affect the financial statements
• adjustments arising as a result of audit procedures which could materially impact the financial statements
• material events or uncertainties which could jeopardise the going concern status, and which require disclosure within the financial statements
• disagreements with management over accounting treatments or disclosures
• any expected modifications to the audit report
• material weaknesses discovered in the internal systems and controls.
  

All of the above are referred to as ‘findings from the audit’ (also often called ‘management letter points’).

The reason for communicating such matters is to ensure that the auditors have brought them to the attention of the people responsible for the accounting and financial reporting function of the entity. Those responsible can then discuss the matters and decide any actions that need to be taken in respect of them. For example, if the management of the entity was totally unaware of the matters regarding control weaknesses, it then has the opportunity to implement corrective action. It could also be the case that the management lacks technical knowledge; for example, it may not be appreciated that a specific accounting policy is in breach of acceptable accounting practice. Again, armed with information from the auditor, management can then resolve the problem by deciding on a new accounting policy.

It is important that material errors found in the financial statements are highlighted to management; if they are left uncorrected, the audit opinion will be modified. Management must be made aware of this and given the opportunity to correct the financial statements if necessary, in order to avoid a modified audit report.

Other relevant matters to be communicated The communication to those charged with governance should not just contain findings from the audit, but should cover the range of issues related to the audit, which the auditor may want to raise with management. Such matters may include:

• details of any threats to independence and objectivity, and of any safeguards adopted
• explanations of the audit approach used (for example, the concept of materiality and its application to the audit process)
• a summary of business risks identified, including an assessment of the likelihood of the risks materialising
• a review of the contents of the management’s representation letter
• recommendations, where relevant, to help improve the entity’s internal systems and controls.
  

The timing and form of communication
The auditor should communicate matters to those charged with governance on a timely basis, in order for management to react to the matters raised as soon as possible. Findings from the audit relevant to the accounting and financial reporting function should be communicated before the approval of the financial statements by management. This means that material errors can be corrected by management prior to the audit report being issued, thus avoiding a modification of the report.

ISA 260 discusses the various forms that the communication should take. In most cases, the communication will be in writing, and in the UK and Ireland this is a requirement of the standard. A communication should be issued even if there are no matters that the auditor wishes to bring to the attention of those charged with governance, stating that there are no significant findings from the audit to be communicated.

Outside the UK and Ireland, the communication could be made orally. In this situation, it is important that the auditor has a written record within the audit working papers of the discussion of significant matters with management.

Whichever method is used to formally communicate the matters, oral or written, the process should be seen as a two-way dialogue. Management should have the opportunity to respond to the auditor regarding the matters raised.

Conclusion

The communication with those charged with governance should be viewed as a crucial reporting ‘output’ of the audit. It allows management to be informed of significant matters arising from the audit process, and allows management the chance to respond to the auditor regarding these matters, and to take action to improve the accounting and financial reporting function of the entity.

Written by a member of the Paper P7 examining team

Communications with Those Charged with Governance

Matters that the auditor may consider communicating with those charged with governance with respect to the auditor’s views about significant qualitative aspects of the entity’s accounting practices related to accounting estimates and related disclosures include:

1. How management identifies transactions, other events and conditions that may give rise to the need for, or changes in, accounting estimates and related disclosures.
2. Risks of material misstatement.
3. The relative materiality of the accounting estimates to the financial statements as a whole;
4. Management’s understanding (or lack thereof) regarding the nature and extent of, and the risks associated with, accounting estimates;
5. Whether management has applied appropriate specialized skills or knowledge or engaged appropriate experts.
6. The auditor’s views about differences between the auditor’s point estimate or range and management’s point estimate.
7. The auditor’s views about the appropriateness of the selection of accounting policies related to accounting estimates and presentation of accounting estimates in the financial statements.
8. Indicators of possible management bias.
9. Whether there has been or ought to have been a change from the prior period in the methods for making the accounting estimates
10. When there has been a change from the prior period in the methods for making the accounting estimate, why, as well as the outcome of accounting estimates in prior periods.
11. Whether management’s methods for making the accounting estimates, including when management has used a model, are appropriate in the context of the measurement objectives, the nature, conditions and circumstances, and other requirements of the applicable financial reporting framework.
12. The nature and consequences of significant assumptions used in accounting estimates and the degree of subjectivity involved in the development of the assumptions;
13. Whether significant assumptions are consistent with each other and with those used in other accounting estimates, or with assumptions used in other areas of the entity’s business activities.
14. When relevant to the appropriateness of the significant assumptions or the appropriate application of the applicable financial reporting framework, whether management has the intent to carry out specific courses of action and has the ability to do so.
15. How management has considered alternative assumptions or outcomes and why it has rejected them, or how management has otherwise addressed estimation uncertainty in making the accounting estimate.
16. Whether the data and significant assumptions used by management in making the accounting estimates are appropriate in the context of the applicable financial reporting framework.
17. The relevance and reliability of information obtained from an external information source.
18. Significant difficulties encountered when obtaining sufficient appropriate audit evidence relating to data obtained from an external information source or valuations performed by management or a management’s expert.
19. Significant differences in judgments between the auditor and management or a management’s expert regarding valuations.
20. The potential effects on the entity’s financial statements of material risks and exposures required to be disclosed in the financial statements, including the estimation uncertainty associated with accounting estimates.
21. The reasonableness of disclosures about estimation uncertainty in the financial statements.
22. Whether management’s decisions relating to the recognition, measurement, presentation and disclosure of the accounting estimates and related disclosures in the financial statements are in accordance with the applicable financial reporting framework.

CONFORMING AND CONSEQUENTIAL AMENDMENTS TO OTHER INTERNATIONAL STANDARDS

Note: The following are conforming amendments to other International Standards as a result of the approval of ISA 540 (Revised). These amendments will become effective at the same time as ISA 540 (Revised), and are shown with marked changes from the latest approved versions of the International Standards that are amended. The footnote numbers within these amendments do not align with the International Standards that are amended, and reference should be made to those International Standards. These conforming amendments have received the approval of the PIOB which concluded that due process was followed in the development of the conforming amendments and that proper regard was paid to the public interest.

ISA 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance With International Standards on Auditing

Application and Other Explanatory Material

Sufficient Appropriate Audit Evidence and Audit Risk (Ref: Para. 5 and 17)

Audit Risk

Risks of Material Misstatement

A42. The assessment of the risks of material misstatement may be expressed in quantitative terms, such as in percentages, or in non-quantitative terms. In any case, the need for the auditor to make appropriate risk assessments is more important than the different approaches by which they may be made. The ISAs do not ordinarily refer to inherent risk and control risk separately, but rather to a combined assessment of the “risks of material misstatement.” However, ISA 540 (Revised)68 requires a separate assessment of inherent risk and control risk to provide a basis for designing and performing further audit procedures to respond to the assessed risks of material misstatement, including significant risks, for accounting estimates at the assertion level in accordance with ISA 33069. In identifying and assessing risks of material misstatement for significant classes of transactions, account balances or disclosures other than accounting estimates, the auditor may make separate or combined assessments of inherent and control risk depending on preferred audit techniques or methodologies and practical considerations.

The assessment of the risks of material misstatement may be expressed in quantitative terms, such as in percentages, or in non-quantitative terms. In any case, the need for the auditor to make appropriate risk assessments is more important than the different approaches by which they may be made.

68 ISA 540 (Revised), Auditing Accounting Estimates and Disclosures, paragraph 16
69 ISA 330, paragraph 7(b)

ISA 230, Audit Documentation

Requirements

Documentation of the Audit Procedures Performed and Audit Evidence Obtained

Form, Content and Extent of Audit Documentation

8. The auditor shall prepare audit documentation that is sufficient to enable an experienced auditor, having no previous connection with the audit, to understand: (Ref: Para. A2–A5, A16–A17)

1. The nature, timing and extent of the audit procedures performed to comply with the ISAs and applicable legal and regulatory requirements; (Ref: Para. A6–A7)
2. The results of the audit procedures performed, and the audit evidence obtained; and
3. Significant matters arising during the audit, the conclusions reached thereon, and significant professional judgments made in reaching those conclusions. (Ref: Para. A8–A11)

Application and Other Explanatory Material

Documentation of the Audit Procedures Performed and Audit Evidence Obtained

Form, Content and Extent of Audit Documentation (Ref: Para. 8)

Documentation of Compliance with ISAs (Ref: Para. 8(a))

A7. Audit documentation provides evidence that the audit complies with the ISAs. However, it is neither necessary nor practicable for the auditor to document every matter considered, or professional judgment made, in an audit. Further, it is unnecessary for the auditor to document separately (as in a checklist, for example) compliance with matters for which compliance is demonstrated by documents included within the audit file. For example:

• The existence of an adequately documented audit plan demonstrates that the auditor has planned the audit.
• The existence of a signed engagement letter in the audit file demonstrates that the auditor has agreed the terms of the audit engagement with management or, where appropriate, those charged with governance.
• An auditor’s report containing an appropriately qualified opinion on the financial statements demonstrates that the auditor has complied with the requirement to express a qualified opinion under the circumstances specified in the ISAs.
• In relation to requirements that apply generally throughout the audit, there may be a number of ways in which compliance with them may be demonstrated within the audit file:
  • For example, there may be no single way in which the auditor’s professional skepticism is documented. But the audit documentation may nevertheless provide evidence of the auditor’s exercise of professional skepticism in accordance with the ISAs. For example, in relation to accounting estimates, when the audit evidence obtained includes evidence that both corroborates and contradicts management’s assertions, documenting how the auditor evaluated that evidence, including the professional judgments made in forming a conclusion as to the sufficiency and appropriateness of the audit evidence obtained. Such evidence may include specific procedures performed to corroborate management’s responses to the auditor’s inquiries.
  • Similarly, that the engagement partner has taken responsibility for the direction, supervision and performance of the audit in compliance with the ISAs may be evidenced in a number of ways within the audit documentation. This may include documentation of the engagement partner’s timely involvement in aspects of the audit, such as participation in the team discussions required by ISA 315 (Revised)70.

Documentation of Significant Matters and Related Significant Professional Judgments (Ref: Para. 8(c))

A10. Some examples of circumstances in which, in accordance with paragraph 8, it is appropriate to prepare audit documentation relating to the use of professional judgment include, where the matters and judgments are significant:

• The rationale for the auditor’s conclusion when a requirement provides that the auditor “shall consider” certain information or factors, and that consideration is significant in the context of the particular engagement.
• The basis for the auditor’s conclusion on the reasonableness of areas of subjective judgments made by management

  (for example, the reasonableness of significant accounting estimates)

  .
• The basis for the auditor’s evaluation of whether an accounting estimate and related disclosures are reasonable in the context of the applicable financial reporting framework, or are misstated.
• The basis for the auditor’s conclusions about the authenticity of a document when further investigation (such as making appropriate use of an expert or of confirmation procedures) is undertaken in response to conditions identified during the audit that caused the auditor to believe that the document may not be authentic.
• When ISA 701 applies71, the auditor’s determination of the key audit matters or the determination that there are no key audit matters to be communicated.

70 ISA 315 (Revised), Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment, paragraph 10
71 ISA 701, Communicating Key Audit Matters in the Independent Auditor’s Report

Appendix

(Ref: Para 1)

Specific Audit Documentation Requirements in Other ISAs

• ISA 540 (Revised), Auditing Accounting Estimates

  , Including Fair Value Accounting Estimates,

  and Related Disclosures – paragraph 39

ISA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements

Application and Other Explanatory Material

Responses to the Assessed Risks of Material Misstatement Due to Fraud

Accounting Estimates (Ref: Para. 33(b))

A48. A retrospective review is also required by ISA 540 (Revised). That review is conducted as a risk assessment procedure to obtain information regarding the effectiveness of management’s previous

prior period estimation process

ISA 260 (Revised), Communication with Those Charged with Governance

Application and Other Explanatory Material

Matters to Be Communicated

Significant Findings from the Audit (Ref: Para. 16)

Significant Qualitative Aspects of Accounting Practices (Ref: Para. 16(a))

A19. Financial reporting frameworks ordinarily allow for the entity to make accounting estimates, and judgments about accounting policies and financial statement disclosures, for example, in relation to the use of assumptions in the development of accounting estimates

for which there is significant measurement uncertainty

A20. As a result, the auditor’s views on the subjective aspects of the financial statements may be particularly relevant to those charged with governance in discharging their responsibilities for oversight of the financial reporting process. For example, in relation to the matters described in paragraph A19, those charged with governance may be interested in the auditor’s

evaluation of the adequacy of disclosures of the estimation uncertainty relating to accounting estimates that give rise to significant risks.

Appendix 1

(Ref: Para. 3)

Specific Requirements in ISQC 1 and Other ISAs that Refer to Communications with Those Charged With Governance

This appendix identifies paragraphs in ISQC 172 and other ISAs that require communication of specific matters with those charged with governance. The list is not a substitute for considering the requirements and related application and other explanatory material in ISAs.

• ISQC 1, Quality Control for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements – paragraph 30(a)
• ISA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements – paragraphs 22, 39(c)(i) and 41-43
• ISA 250 (Revised), Consideration of Laws and Regulations in an Audit of Financial Statements – paragraphs 15, 20 and 23–25
• ISA 265, Communicating Deficiencies in Internal Control to Those Charged with Governance and Management – paragraph 9
• ISA 450, Evaluation of Misstatements Identified during the Audit – paragraphs 12-13
• ISA 505, External Confirmations – paragraph 9
• ISA 510, Initial Audit Engagements―Opening Balances – paragraph 7
• ISA 540 (Revised), Auditing Accounting Estimates and Related Disclosures – paragraph 38
• ISA 550, Related Parties – paragraph 27
• ISA 560, Subsequent Events – paragraphs 7(b)-(c), 10(a), 13(b), 14(a) and 17
• ISA 570 (Revised), Going Concern – paragraph 25
• ISA 600, Special Considerations―Audits of Group Financial Statements (Including the Work of Component Auditors) – paragraph 49
• ISA 610 (Revised 2013), Using the Work of Internal Auditors – paragraphs 20 and 31
• ISA 700 (Revised), Forming an Opinion and Reporting on Financial Statements – paragraph 46
• ISA 701, Communicating Key Audit Matters in the Independent Auditor’s Report – paragraph 17
• ISA 705 (Revised), Modifications to the Opinion in the Independent Auditor’s Report – paragraphs 12, 14, 23 and 30
• ISA 706 (Revised), Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor’s Report – paragraph 12
• ISA 710, Comparative Information—Corresponding Figures and Comparative Financial Statements – paragraph 18
• ISA 720 (Revised), The Auditor’s Responsibilities Relating to Other Information – paragraphs 17―19

72 ISQC 1, Quality Control for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements

Appendix 2

(Ref: Para. 16(a), A19–A20)

Qualitative Aspects of Accounting Practices

The communication required by paragraph 16(a), and discussed in paragraphs A19–A20, may include such matters as:

Accounting Estimates and Related Disclosures

For items for which estimates are significant, issues discussed in ISA 54073, including, for example:

• How management identifies those transactions, events and conditions that may give rise to the need for accounting estimates to be recognized or disclosed in the financial statements.

• Changes in circumstances that may give rise to new, or the need to revise existing, accounting estimates.

• Whether management’s decision to recognize, or to not recognize, the accounting estimates in the financial statements is in accordance with the applicable financial reporting framework.

• Whether there has been or ought to have been a change from the prior period in the methods for making the accounting estimates and, if so, why, as well as the outcome of accounting estimates in prior periods.

• Management’s process for making accounting estimates (e.g., when management has used a model), including whether the selected measurement basis for the accounting estimate is in accordance with the applicable financial reporting framework.

• Whether the significant assumptions used by management in developing the accounting estimate are reasonable.

• Where relevant to the reasonableness of the significant assumptions used by management or the appropriate application of the applicable financial reporting framework, management’s intent to carry out specific courses of action and its ability to do so.

• Risks of material misstatement.

• Indicators of possible management bias.

• How management has considered alternative assumptions or outcomes and why it has rejected them, or how management has otherwise addressed estimation uncertainty in making the accounting estimate.

• The adequacy of disclosure of estimation uncertainty in the financial statements.

73 ISA 540, Auditing Accounting Estimates, Including Fair Value Accounting Estimates, and Related Disclosures

ISA 500, Audit Evidence

Introduction

Scope of this ISA

1. This International Standard on Auditing (ISA) explains what constitutes audit evidence in an audit of financial statements, and deals with the auditor’s responsibility todesign and perform audit procedures toobtain sufficient appropriate audit evidence to be able to draw reasonable conclusions on which to base the auditor’s opinion.

2. This ISA is applicable to all the audit evidence obtained during the course of the audit. Other ISAs deal with specific aspects of the audit (for example, ISA 315 (Revised)74), the audit evidence to be obtained in relation to a particular topic (for example, ISA 570 (Revised)75), specific procedures to obtain audit evidence (for example, ISA 52076), and the evaluation of whether sufficient appropriate audit evidence has been obtained (ISA 20077 and ISA 33078).

74 ISA 315 (Revised), Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment
75 ISA 570 (Revised), Going Concern 76 ISA 520, Analytical Procedures 77 ISA 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing 78 ISA 330, The Auditor’s Responses to Assessed Risks

Effective Date

3. This ISA is effective for audits of financial statements for periods beginning on or after December 15, 2009.

Objective

4. The objective of the auditor is to design and perform audit procedures in such a way as to enable the auditor to obtain sufficient appropriate audit evidence to be able to draw reasonable conclusions on which to base the auditor’s opinion.

Definitions

5. For purposes of the ISAs, the following terms have the meanings attributed below:

1. Accounting records – The records of initial accounting entries and supporting records, such as checks and records of electronic fund transfers; invoices; contracts; the general and subsidiary ledgers, journal entries and other adjustments to the financial statements that are not reflected in journal entries; and records such as work sheets and spreadsheets supporting cost allocations, computations, reconciliations and disclosures.
2. Appropriateness (of audit evidence) – The measure of the quality of audit evidence; that is, its relevance and its reliability in providing support for the conclusions on which the auditor’s opinion is based.
3. Audit evidence – Information used by the auditor in arriving at the conclusions on which the auditor’s opinion is based. Audit evidence includes both information contained in the accounting records underlying the financial statements and information obtained from other sources.
   cA. External information source – An external individual or organization that provides information that has been used by the entity in preparing the financial statements, or that has been obtained by the auditor as audit evidence, when such information is suitable for use by a broad range of users. When information has been provided by an individual or organization acting in the capacity of a management’s expert, service organization79, or auditor’s expert80 the individual or organization is not considered an external information source with respect to that particular information. (Ref: Para. A1a-A1c)
4. Management’s expert – An individual or organization possessing expertise in a field other than accounting or auditing, whose work in that field is used by the entity to assist the entity in preparing the financial statements.
5. Sufficiency (of audit evidence) – The measure of the quantity of audit evidence. The quantity of the audit evidence needed is affected by the auditor’s assessment of the risks of material misstatement and also by the quality of such audit evidence.

79 ISA 402, Audit Considerations Relating to an Entity Using a Service Organization, paragraph 8
80 ISA 620, Using the Work of an Auditor’s Expert, paragraph 6

Requirements

Sufficient Appropriate Audit Evidence

6. The auditor shall design and perform audit procedures that are appropriate in the circumstances for the purpose of obtaining sufficient appropriate audit evidence. (Ref: Para. A1-A25)

Information to Be Used as Audit Evidence

7. When designing and performing audit procedures, the auditor shall consider the relevance and reliability of the information to be used as audit evidence, including information obtained from an external information source. (Ref: Para. A26-A34f)

8. If information to be used as audit evidence has been prepared using the work of a management’s expert, the auditor shall, to the extent necessary, having regard to the significance of that expert’s work for the auditor’s purposes: (Ref: Para. A35–A37)

1. Evaluate the competence, capabilities and objectivity of that expert; (Ref: Para. A38-A44)
2. Obtain an understanding of the work of that expert; and (Ref: Para. A45-A48)
3. Evaluate the appropriateness of that expert’s work as audit evidence for the relevant assertion. (Ref: Para. A49)

9. When using information produced by the entity, the auditor shall evaluate whether the information is sufficiently reliable for the auditor’s purposes, including, as necessary in the circumstances:

Obtaining audit evidence about the accuracy and completeness of the information; and (Ref: Para. A50-A51)

Evaluating whether the information is sufficiently precise and detailed for the auditor’s purposes.(Ref: Para. A52)

Selecting Items for Testing to Obtain Audit Evidence

10. When designing tests of controls and tests of details, the auditor shall determine means of selecting items for testing that are effective in meeting the purpose of the audit procedure. (Ref: Para. A53-A57)

Inconsistency in, or Doubts over Reliability of, Audit Evidence

11. If:

1. audit evidence obtained from one source is inconsistent with that obtained from another; or
2. the auditor has doubts over the reliability of information to be used as audit evidence,

the auditor shall determine what modifications or additions to audit procedures are necessary to resolve the matter, and shall consider the effect of the matter, if any, on other aspects of the audit. (Ref: Para. A58)

Application and Other Explanatory Material

External Information Source (Ref: Para 5(cA))

A1a. External information sources may include pricing services, governmental organizations, central banks or recognized stock exchanges. Examples of information that may be obtained from external information sources include:

• Prices and pricing related data;
• Macro-economic data, such as historical and forecast unemployment rates and economic growth rates, or census data;
• Credit history data;
• Industry specific data, such as an index of reclamation costs for certain extractive industries, or viewership information or ratings used to determine advertising revenue in the entertainment industry; and
• Mortality tables used to determine liabilities in the life insurance and pension sectors.

A1b. A particular set of information is more likely to be suitable for use by a broad range of users and less likely to be subject to influence by any particular user if the external individual or organization provides it to the public for free, or makes it available to a wide range of users in return for payment of a fee. Judgment may be required in determining whether the information is suitable for use by a broad range of users, taking into account the ability of the entity to influence the external information source.

A1c. An external individual or organization cannot, in respect of any particular set of information, be both an external information source and a management’s expert, or service organization or auditor’s expert.

A1d. However, an external individual or organization may, for example, be acting as a management’s expert when providing a particular set of information, but may be acting as an external information source when providing a different set of information. In some circumstances, professional judgment may be needed to determine whether an external individual or organization is acting as an external information source or as a management’s expert with respect to a particular set of information. In other circumstances, the distinction may be clear. For example:

• An external individual or organization may be providing information about real estate prices that is suitable for use by a broad range of users, for example, information made generally available pertaining to a geographical region, and be determined to be an external information source with respect to that set of information. The same external organization may also be acting as a management’s or auditor’s expert in providing commissioned valuations, with respect to the entity’s real estate portfolio specifically tailored for the entity’s facts and circumstances.
• Some actuarial organizations publish mortality tables for general use which, when used by an entity, would generally be considered to be information from an external information source. The same actuarial organization may also be a management’s expert with respect to different information tailored to the specific circumstances of the entity to help management determine the pension liability for several of the entity’s pension plans.
• An external individual or organization may possess expertise in the application of models to estimate the fair value of securities for which there is no observable market. If the external individual or organization applies that expertise in making an estimate specifically for the entity and that work is used by management in preparing its financial statements, the external individual or organization is likely to be a management’s expert with respect to that information. If, on the other hand, that external individual or organization merely provides, to the public, prices or pricing-related data regarding private transactions, and the entity uses that information in its own estimation methods, the external individual or organization is likely to be an external information source with respect to such information.
• An external individual or organization may publish information, suitable for a broad range of users, about risks or conditions in an industry. If used by an entity in preparing its risk disclosures (for example in compliance with IFRS 781), such information would ordinarily be considered to be information from an external information source. However, if the same type of information has been specifically commissioned by the entity to use its expertise to develop information about those risks, tailored to the entity’s circumstances, the external individual or organization is likely to be acting as a management’s expert.
• An external individual or organization may apply its expertise in providing information about current and future market trends, which it makes available to, and is suitable for use by, a broad range of users. If used by the entity to help make decisions about assumptions to be used in making accounting estimates, such information is likely to be considered to be information from an external information source. If the same type of information has been commissioned by the entity to address current and future trends relevant to the entity’s specific facts and circumstances, the external individual or organization is likely to be acting as a management’s expert.

81 International Financial Reporting Standards 7 (IFRS), Financial Instruments: Disclosures

Sufficient Appropriate Audit Evidence (Ref: Para. 6)

A1. Audit evidence is necessary to support the auditor’s opinion and report. It is cumulative in nature and is primarily obtained from audit procedures performed during the course of the audit. It may, however, also include information obtained from other sources such as previous audits (provided the auditor has determined whether changes have occurred since the previous audit that may affect its relevance to the current audit82) or a firm’s quality control procedures for client acceptance and continuance. In addition

to other sources inside and outside the entity

A2. Most of the auditor’s work in forming the auditor’s opinion consists of obtaining and evaluating audit evidence. Audit procedures to obtain audit evidence can include inspection, observation, confirmation, recalculation, reperformance, and analytical procedures, often in some combination, in addition to inquiry. Although inquiry may provide important audit evidence, and may even produce evidence of a misstatement, inquiry alone ordinarily does not provide sufficient audit evidence of the absence of a material misstatement at the assertion level, nor of the operating effectiveness of controls.

A3. As explained in ISA 20083, reasonable assurance is obtained when the auditor has obtained sufficient appropriate audit evidence to reduce audit risk (that is, the risk that the auditor expresses an inappropriate opinion when the financial statements are materially misstated) to an acceptably low level.

A4. The sufficiency and appropriateness of audit evidence are interrelated. Sufficiency is the measure of the quantity of audit evidence. The quantity of audit evidence needed is affected by the auditor’s assessment of the risks of misstatement (the higher the assessed risks, the more audit evidence is likely to be required) and also by the quality of such audit evidence (the higher the quality, the less may be required). Obtaining more audit evidence, however, may not compensate for its poor quality.

A5. Appropriateness is the measure of the quality of audit evidence; that is, its relevance and its reliability in providing support for the conclusions on which the auditor’s opinion is based. The reliability of evidence is influenced by its source and by its nature, and is dependent on the individual circumstances under which it is obtained.

A6. ISA 330 requires the auditor to conclude whether sufficient appropriate audit evidence has been obtained84. Whether sufficient appropriate audit evidence has been obtained to reduce audit risk to an acceptably low level, and thereby enable the auditor to draw reasonable conclusions on which to base the auditor’s opinion, is a matter of professional judgment. ISA 200 contains discussion of such matters as the nature of audit procedures, the timeliness of financial reporting, and the balance between benefit and cost, which are relevant factors when the auditor exercises professional judgment regarding whether sufficient appropriate audit evidence has been obtained.

Sources of Audit Evidence

A7. Some audit evidence is obtained by performing audit procedures to test the accounting records, for example, through analysis and review, reperforming procedures followed in the financial reporting process, and reconciling related types and applications of the same information. Through the performance of such audit procedures, the auditor may determine that the accounting records are internally consistent and agree to the financial statements.

A8. More assurance is ordinarily obtained from consistent audit evidence obtained from different sources or of a different nature than from items of audit evidence considered individually. For example, corroborating information obtained from a source independent of the entity may increase the assurance the auditor obtains from audit evidence that is generated internally, such as evidence existing within the accounting records, minutes of meetings, or a management representation.

A9. Information from sources independent of the entity that the auditor may use as audit evidence may include confirmations from third parties and information from an external information source, including analysts’ reports, and comparable data about competitors (benchmarking data).

Audit Procedures for Obtaining Audit Evidence

A10. As required by, and explained further in, ISA 315 (Revised) and ISA 330, audit evidence to draw reasonable conclusions on which to base the auditor’s opinion is obtained by performing:

1. Risk assessment procedures; and
2. Further audit procedures, which comprise:
   1. Tests of controls, when required by the ISA or when the auditor has chosen to do so; and
   2. Substantive procedures, including tests of details and substantive analytical procedures.

A11. The audit procedures described in paragraphs A14-A25 below may be used as risk assessment procedures, tests of controls or substantive procedures, depending on the context in which they are applied by the auditor. As explained in ISA 330, audit evidence obtained from previous audits may, in certain circumstances, provide appropriate audit evidence where the auditor performs audit procedures to establish its continuing relevance85.

A12. The nature and timing of the audit procedures to be used may be affected by the fact that some of the accounting data and other information may be available only in electronic form or only at certain points or periods in time. For example, source documents, such as purchase orders and invoices, may exist only in electronic form when an entity uses electronic commerce, or may be discarded after scanning when an entity uses image processing systems to facilitate storage and reference.

A13. Certain electronic information may not be retrievable after a specified period of time, for example, if files are changed and if backup files do not exist. Accordingly, the auditor may find it necessary as a result of an entity’s data retention policies to request retention of some information for the auditor’s review or to perform audit procedures at a time when the information is available.

Inspection

A14. Inspection involves examining records or documents, whether internal or external, in paper form, electronic form, or other media, or a physical examination of an asset. Inspection of records and documents provides audit evidence of varying degrees of reliability, depending on their nature and source and, in the case of internal records and documents, on the effectiveness of the controls over their production. An example of inspection used as a test of controls is inspection of records for evidence of authorization.

A15. Some documents represent direct audit evidence of the existence of an asset, for example, a document constituting a financial instrument such as a stock or bond. Inspection of such documents may not necessarily provide audit evidence about ownership or value. In addition, inspecting an executed contract may provide audit evidence relevant to the entity’s application of accounting policies, such as revenue recognition.

A16. Inspection of tangible assets may provide reliable audit evidence with respect to their existence, but not necessarily about the entity’s rights and obligations or the valuation of the assets. Inspection of individual inventory items may accompany the observation of inventory counting.

Observation

A17. Observation consists of looking at a process or procedure being performed by others, for example, the auditor’s observation of inventory counting by the entity’s personnel, or of the performance of control activities. Observation provides audit evidence about the performance of a process or procedure, but is limited to the point in time at which the observation takes place, and by the fact that the act of being observed may affect how the process or procedure is performed. See ISA 501 for further guidance on observation of the counting of inventory86.

External Confirmation

A18. An external confirmation represents audit evidence obtained by the auditor as a direct written response to the auditor from a third party (the confirming party), in paper form, or by electronic or other medium. External confirmation procedures frequently are relevant when addressing assertions associated with certain account balances and their elements. However, external confirmations need not be restricted to account balances only. For example, the auditor may request confirmation of the terms of agreements or transactions an entity has with third parties; the confirmation request may be designed to ask if any modifications have been made to the agreement and, if so, what the relevant details are. External confirmation procedures also are used to obtain audit evidence about the absence of certain conditions, for example, the absence of a “side agreement” that may influence revenue recognition. See ISA 505 for further guidance87.

Recalculation

A19. Recalculation consists of checking the mathematical accuracy of documents or records. Recalculation may be performed manually or electronically.

Reperformance

A20. Reperformance involves the auditor’s independent execution of procedures or controls that were originally performed as part of the entity’s internal control.

Analytical Procedures

A21. Analytical procedures consist of evaluations of financial information through analysis of plausible relationships among both financial and non-financial data. Analytical procedures also encompass such investigation as is necessary of identified fluctuations or relationships that are inconsistent with other relevant information or that differ from expected values by a significant amount. See ISA 520 for further guidance.

Inquiry

A22. Inquiry consists of seeking information of knowledgeable persons, both financial and non-financial, within the entity or outside the entity. Inquiry is used extensively throughout the audit in addition to other audit procedures. Inquiries may range from formal written inquiries to informal oral inquiries. Evaluating responses to inquiries is an integral part of the inquiry process.

A23. Responses to inquiries may provide the auditor with information not previously possessed or with corroborative audit evidence. Alternatively, responses might provide information that differs significantly from other information that the auditor has obtained, for example, information regarding the possibility of management override of controls. In some cases, responses to inquiries provide a basis for the auditor to modify or perform additional audit procedures.

A24. Although corroboration of evidence obtained through inquiry is often of particular importance, in the case of inquiries about management intent, the information available to support management’s intent may be limited. In these cases, understanding management’s past history of carrying out its stated intentions, management’s stated reasons for choosing a particular course of action, and management’s ability to pursue a specific course of action may provide relevant information to corroborate the evidence obtained through inquiry.

A25. In respect of some matters, the auditor may consider it necessary to obtain written representations from management and, where appropriate, those charged with governance to confirm responses to oral inquiries. See ISA 580 for further guidance88.

82 ISA 315 (Revised), paragraph 9
83 ISA 200, paragraph 5 84 ISA 330, paragraph 26 85 ISA 330, paragraph A35 86 ISA 501, Audit Evidence—Specific Considerations for Selected Items 87 ISA 505, External Confirmations 88 ISA 580, Written Representations

Information to Be Used as Audit Evidence

Relevance and Reliability (Ref: Para. 7)

A26. As noted in paragraph A1, while audit evidence is primarily obtained from audit procedures performed during the course of the audit, it may also include information obtained from other sources such as, for example, previous audits, in certain circumstances, a firm’s quality control procedures for client acceptance and continuance and complying with certain additional responsibilities under law, regulation or relevant ethical requirements (e.g., regarding an entity’s non-compliance with laws and regulations). The quality of all audit evidence is affected by the relevance and reliability of the information upon which it is based.

Relevance

A27. Relevance deals with the logical connection with, or bearing upon, the purpose of the audit procedure and, where appropriate, the assertion under consideration. The relevance of information to be used as audit evidence may be affected by the direction of testing. For example, if the purpose of an audit procedure is to test for overstatement in the existence or valuation of accounts payable, testing the recorded accounts payable may be a relevant audit procedure. On the other hand, when testing for understatement in the existence or valuation of accounts payable, testing the recorded accounts payable would not be relevant, but testing such information as subsequent disbursements, unpaid invoices, suppliers’ statements, and unmatched receiving reports may be relevant.

A28. A given set of audit procedures may provide audit evidence that is relevant to certain assertions, but not others. For example, inspection of documents related to the collection of receivables after the period end may provide audit evidence regarding existence and valuation, but not necessarily cutoff. Similarly, obtaining audit evidence regarding a particular assertion, for example, the existence of inventory, is not a substitute for obtaining audit evidence regarding another assertion, for example, the valuation of that inventory. On the other hand, audit evidence from different sources or of a different nature may often be relevant to the same assertion.

A29. Tests of controls are designed to evaluate the operating effectiveness of controls in preventing, or detecting and correcting, material misstatements at the assertion level. Designing tests of controls to obtain relevant audit evidence includes identifying conditions (characteristics or attributes) that indicate performance of a control, and deviation conditions which indicate departures from adequate performance. The presence or absence of those conditions can then be tested by the auditor.

A30. Substantive procedures are designed to detect material misstatements at the assertion level. They comprise tests of details and substantive analytical procedures. Designing substantive procedures includes identifying conditions relevant to the purpose of the test that constitute a misstatement in the relevant assertion.

Reliability

A31. The reliability of information to be used as audit evidence, and therefore of the audit evidence itself, is influenced by its source and its nature, and the circumstances under which it is obtained, including the controls over its preparation and maintenance where relevant. Therefore, generalizations about the reliability of various kinds of audit evidence are subject to important exceptions. Even when information to be used as audit evidence is obtained from sources external to the entity, circumstances may exist that could affect its reliability. For example, information obtained from a source independent of the entity may not be reliable if the source is not knowledgeable, or a management’s expert may lack objectivity. While recognizing that exceptions may exist, the following generalizations about the reliability of audit evidence may be useful:

• The reliability of audit evidence is increased when it is obtained from independent sources outside the entity.
• The reliability of audit evidence that is generated internally is increased when the related controls, including those over its preparation and maintenance, imposed by the entity are effective.
• Audit evidence obtained directly by the auditor (for example, observation of the application of a control) is more reliable than audit evidence obtained indirectly or by inference (for example, inquiry about the application of a control).
• Audit evidence in documentary form, whether paper, electronic, or other medium, is more reliable than evidence obtained orally (for example, a contemporaneously written record of a meeting is more reliable than a subsequent oral representation of the matters discussed).
• Audit evidence provided by original documents is more reliable than audit evidence provided by photocopies or facsimiles, or documents that have been filmed, digitized or otherwise transformed into electronic form, the reliability of which may depend on the controls over their preparation and maintenance.

A32. ISA 520 provides further guidance regarding the reliability of data used for purposes of designing analytical procedures as substantive procedures89.

A33. ISA 240 deals with circumstances where the auditor has reason to believe that a document may not be authentic, or may have been modified without that modification having been disclosed to the auditor90.

A34. ISA 250 (Revised)91 provides further guidance with respect to the auditor complying with any additional responsibilities under law, regulation or relevant ethical requirements regarding an entity’s identified or suspected non-compliance with laws and regulations that may provide further information that is relevant to the auditor’s work in accordance with ISAs and evaluating the implications of such non-compliance in relation to other aspects of the audit.

External Information Sources

A34a. The auditor is required by paragraph 7 to consider the relevance and reliability of information obtained from an external information source that is to be used as audit evidence, regardless of whether that information has been used by the entity in preparing the financial statements or obtained by the auditor. For information obtained from an external information source, that consideration may, in certain cases, include audit evidence about the external information source or the preparation of the information by the external information source, obtained through designing and performing further audit procedures in accordance with ISA 330 or, where applicable, ISA 540 (Revised)92.

A34b. Obtaining an understanding of why management or, when applicable, a management’s expert uses an external information source, and how the relevance and reliability of the information was considered (including its accuracy and completeness), may help to inform the auditor's consideration of the relevance and reliability of that information.

A34c. The following factors may be important when considering the relevance and reliability of information obtained from an external information source, including its accuracy and completeness, taking into account that some of these factors may only be relevant when the information has been used by management in preparing the financial statements or has been obtained by the auditor:

• The nature and authority of the external information source. For example, a central bank or government statistics office with a legislative mandate to provide industry information to the public is likely to be an authority for certain types of information;
• The ability to influence the information obtained, through relationships between the entity and the information source;
• The competence and reputation of the external information source with respect to the information, including whether, in the auditor’s professional judgment, the information is routinely provided by a source with a track record of providing reliable information;
• Past experience of the auditor with the reliability of the information provided by the external information source;
• Evidence of general market acceptance by users of the relevance and/or reliability of information from an external information source for a similar purpose to that for which the information has been used by management or the auditor;
• Whether the entity has in place controls to address the relevance and reliability of the information obtained and used;
• Whether the external information source accumulates overall market information or engages directly in “setting” market transactions;
• Whether the information is suitable for use in the manner in which it is being used and, if applicable, was developed taking into account the applicable financial reporting framework;
• Alternative information that may contradict the information used;
• The nature and extent of disclaimers or other restrictive language relating to the information obtained;
• Information about the methods used in preparing the information, how the methods are being applied including, where applicable, how models have been used in such application, and the controls over the methods; and
• When available, information relevant to considering the appropriateness of assumptions and other data applied by the external information sources in developing the information obtained.

A34d. The nature and extent of the auditor’s consideration takes into account the assessed risks of material misstatement at the assertion level to which the use of the external information is relevant, the degree to which the use of that information is relevant to the reasons for the assessed risks of material misstatement and the possibility that the information from the external information source may not be reliable (for example, whether it is from a credible source). Based on the auditor’s consideration of the matters described in paragraph A34a, the auditor may determine that further understanding of the entity and its environment, including its internal control, is needed, in accordance with ISA 315, or that further audit procedures, in accordance with ISA 33093, and ISA 540 (Revised)94 when applicable, are appropriate in the circumstances, to respond to the assessed risks of material misstatement related to the use of information from an external information source. Such procedures may include:

• Performing a comparison of information obtained from the external information source with information obtained from an alternative independent information source.
• When relevant to considering management’s use of an external information source, obtaining an understanding of controls management has in place to consider the reliability of the information from external information sources, and potentially testing the operating effectiveness of such controls.
• Performing procedures to obtain information from the external information source to understand its processes, techniques, and assumptions, for the purposes of identifying, understanding and, when relevant, testing the operating effectiveness of its controls.

A34e. In some situations, there may be only one provider of certain information, for example, information from a central bank or government, such as an inflation rate, or a single recognized industry body. In such cases, the auditor’s determination of the nature and extent of audit procedures that may be appropriate in the circumstances is influenced by the nature and credibility of the source of the information, the assessed risks of material misstatement to which that external information is relevant, and the degree to which the use of that information is relevant to the reasons for the assessed risk of material misstatement. For example, when the information is from a credible authoritative source, the extent of the auditor’s further audit procedures may be less extensive, such as corroborating the information to the source’s website or published information. In other cases, if a source is not assessed as credible, the auditor may determine that more extensive procedures are appropriate and, in the absence of any alternative independent information source against which to compare, may consider whether performing procedures to obtain information from the external information source, when practical, is appropriate in order to obtain sufficient appropriate audit evidence.

A34f. When the auditor does not have a sufficient basis with which to consider the relevance and reliability of information from an external information source, the auditor may have a limitation on scope if sufficient appropriate audit evidence cannot be obtained through alternative procedures. Any imposed limitation on scope is evaluated in accordance with the requirements of ISA 705 (Revised)95.

Reliability of Information Produced by a Management’s Expert (Ref: Para. 8)

A35. The preparation of an entity’s financial statements may require expertise in a field other than accounting or auditing, such as actuarial calculations, valuations, or engineering data. The entity may employ or engage experts in these fields to obtain the needed expertise to prepare the financial statements. Failure to do so when such expertise is necessary increases the risks of material misstatement.

A36. When information to be used as audit evidence has been prepared using the work of a management’s expert, the requirement in paragraph 8 of this ISA applies. For example, an individual or organization may possess expertise in the application of models to estimate the fair value of securities for which there is no observable market. If the individual or organization applies that expertise in making an estimate which the entity uses in preparing its financial statements, the individual or organization is a management’s expert and paragraph 8 applies. If, on the other hand, that individual or organization merely provides price data regarding private transactions not otherwise available to the entity which the entity uses in its own estimation methods, such information, if used as audit evidence, is subject to paragraph 7 of this ISA, but is being information from an external information source and not the use of a management’s expert by the entity.

A37. The nature, timing and extent of audit procedures in relation to the requirement in paragraph 8 of this ISA, may be affected by such matters as:

• The nature and complexity of the matter to which the management’s expert relates.
• The risks of material misstatement in the matter.
• The availability of alternative sources of audit evidence.
• The nature, scope and objectives of the management’s expert’s work.
• Whether the management’s expert is employed by the entity, or is a party engaged by it to provide relevant services.
• The extent to which management can exercise control or influence over the work of the management’s expert.
• Whether the management’s expert is subject to technical performance standards or other professional or industry requirements.
• The nature and extent of any controls within the entity over the management’s expert’s work.
• The auditor’s knowledge and experience of the management’s expert’s field of expertise.
• The auditor’s previous experience of the work of that expert.

The Competence, Capabilities and Objectivity of a Management’s Expert(Ref: Para. 8(a))

A38. Competence relates to the nature and level of expertise of the management’s expert. Capability relates the ability of the management’s expert to exercise that competence in the circumstances. Factors that influence capability may include, for example, geographic location, and the availability of time and resources. Objectivity relates to the possible effects that bias, conflict of interest or the influence of others may have on the professional or business judgment of the management’s expert. The competence, capabilities and objectivity of a management’s expert, and any controls within the entity over that expert’s work, are important factors in relation to the reliability of any information produced by a management’s expert.

A39. Information regarding the competence, capabilities and objectivity of a management’s expert may come from a variety of sources, such as:

• Personal experience with previous work of that expert.
• Discussions with that expert.
• Discussions with others who are familiar with that expert’s work.
• Knowledge of that expert’s qualifications, membership of a professional body or industry association, license to practice, or other forms of external recognition.
• Published papers or books written by that expert.
• An auditor’s expert, if any, who assists the auditor in obtaining sufficient appropriate audit evidence with respect to information produced by the management’s expert.

A40. Matters relevant to evaluating the competence, capabilities and objectivity of a management’s expert include whether that expert’s work is subject to technical performance standards or other professional or industry requirements, for example, ethical standards and other membership requirements of a professional body or industry association, accreditation standards of a licensing body, or requirements imposed by law or regulation.

A41. Other matters that may be relevant include:

• The relevance of the management’s expert’s competence to the matter for which that expert’s work will be used, including any areas of specialty within that expert’s field. For example, a particular actuary may specialize in property and casualty insurance, but have limited expertise regarding pension calculations.
• The management’s expert’s competence with respect to relevant accounting requirements, for example, knowledge of assumptions and methods, including models where applicable, that are consistent with the applicable financial reporting framework.
• Whether unexpected events, changes in conditions, or the audit evidence obtained from the results of audit procedures indicate that it may be necessary to reconsider the initial evaluation of the competence, capabilities and objectivity of the management’s expert as the audit progresses.

A42. A broad range of circumstances may threaten objectivity, for example, self-interest threats, advocacy threats, familiarity threats, self-review threats and intimidation threats. Safeguards may reduce such threats, and may be created either by external structures (for example, the management’s expert’s profession, legislation or regulation), or by the management’s expert’s work environment (for example, quality control policies and procedures).

A43. Although safeguards cannot eliminate all threats to a management’s expert’s objectivity, threats such as intimidation threats may be of less significance to an expert engaged by the entity than to an expert employed by the entity, and the effectiveness of safeguards such as quality control policies and procedures may be greater. Because the threat to objectivity created by being an employee of the entity will always be present, an expert employed by the entity cannot ordinarily be regarded as being more likely to be objective than other employees of the entity.

A44. When evaluating the objectivity of an expert engaged by the entity, it may be relevant to discuss with management and that expert any interests and relationships that may create threats to the expert’s objectivity, and any applicable safeguards, including any professional requirements that apply to the expert; and to evaluate whether the safeguards are adequate. Interests and relationships creating threats may include:

• Financial interests.
• Business and personal relationships.
• Provision of other services.

Obtaining an Understanding of the Work of the Management’s Expert (Ref: Para. 8(b))

A45. An understanding of the work of the management’s expert includes an understanding of the relevant field of expertise. An understanding of the relevant field of expertise may be obtained in conjunction with the auditor’s determination of whether the auditor has the expertise to evaluate the work of the management’s expert, or whether the auditor needs an auditor’s expert for this purpose96.

A46. Aspects of the management’s expert’s field relevant to the auditor’s understanding may include:

• Whether that expert’s field has areas of specialty within it that are relevant to the audit.
• Whether any professional or other standards, and regulatory or legal requirements apply.
• What assumptions and methods are used by the management’s expert, and whether they are generally accepted within that expert’s field and appropriate for financial reporting purposes.
• The nature of internal and external data or information the management’s expert uses.

A47. In the case of a management’s expert engaged by the entity, there will ordinarily be an engagement letter or other written form of agreement between the entity and that expert. Evaluating that agreement when obtaining an understanding of the work of the management’s expert may assist the auditor in determining the appropriateness of the following for the auditor’s purposes:

• The nature, scope and objectives of that expert’s work;
• The respective roles and responsibilities of management and that expert; and
• The nature, timing and extent of communication between management and that expert, including the form of any report to be provided by that expert.

A48. In the case of a management’s expert employed by the entity, it is less likely there will be a written agreement of this kind. Inquiry of the expert and other members of management may be the most appropriate way for the auditor to obtain the necessary understanding.

Evaluating the Appropriateness of the Management’s Expert’s Work (Ref: Para. 8(c))

A49. Considerations when evaluating the appropriateness of the management’s expert’s work as audit evidence for the relevant assertion may include:

• The relevance and reasonableness of that expert’s findings or conclusions, their consistency with other audit evidence, and whether they have been appropriately reflected in the financial statements;
• If that expert’s work involves use of significant assumptions and methods, the relevance and reasonableness of those assumptions and methods;
• If that expert’s work involves significant use of source data the relevance, completeness, and accuracy of that source data; and
• If that expert’s work involves the use of information from an external information source, the relevance and reliability of that information.

Information Produced by the Entity and Used for the Auditor’s Purposes (Ref: Para. 9(a)–(b))

A50. In order for the auditor to obtain reliable audit evidence, information produced by the entity that is used for performing audit procedures needs to be sufficiently complete and accurate. For example, the effectiveness of auditing revenue by applying standard prices to records of sales volume is affected by the accuracy of the price information and the completeness and accuracy of the sales volume data. Similarly, if the auditor intends to test a population (for example, payments) for a certain characteristic (for example, authorization), the results of the test will be less reliable if the population from which items are selected for testing is not complete.

A51. Obtaining audit evidence about the accuracy and completeness of such information may be performed concurrently with the actual audit procedure applied to the information when obtaining such audit evidence is an integral part of the audit procedure itself. In other situations, the auditor may have obtained audit evidence of the accuracy and completeness of such information by testing controls over the preparation and maintenance of the information. In some situations, however, the auditor may determine that additional audit procedures are needed.

A52. In some cases, the auditor may intend to use information produced by the entity for other audit purposes. For example, the auditor may intend to make use of the entity’s performance measures for the purpose of analytical procedures, or to make use of the entity’s information produced for monitoring activities, such as reports of the internal audit function. In such cases, the appropriateness of the audit evidence obtained is affected by whether the information is sufficiently precise or detailed for the auditor’s purposes. For example, performance measures used by management may not be precise enough to detect material misstatements.

89 ISA 520, paragraph 5(a)
90 ISA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements, paragraph 14 91 ISA 250 (Revised), Consideration of Laws and Regulations in an Audit of Financial Statements, paragraph 9 92 ISA 540 (Revised), Auditing Accounting Estimates and Disclosures 93 ISA 330, paragraph 6
94 ISA 540 (Revised), paragraph 30 95 ISA 705 (Revised), Modifications to the Opinion in the Independent Auditor’s Report, paragraph 13 96 ISA 620,

Using the Work of an Auditor’s Expert,

Selecting Items for Testing to Obtain Audit Evidence (Ref: Para. 10)

A53. An effective test provides appropriate audit evidence to an extent that, taken with other audit evidence obtained or to be obtained, will be sufficient for the auditor’s purposes. In selecting items for testing, the auditor is required by paragraph 7 to determine the relevance and reliability of information to be used as audit evidence; the other aspect of effectiveness (sufficiency) is an important consideration in selecting items to test. The means available to the auditor for selecting items for testing are:

1. Selecting all items (100% examination);
2. Selecting specific items; and
3. Audit sampling.

The application of any one or combination of these means may be appropriate depending on the particular circumstances, for example, the risks of material misstatement related to the assertion being tested, and the practicality and efficiency of the different means.

Selecting All Items

A54. The auditor may decide that it will be most appropriate to examine the entire population of items that make up a class of transactions or account balance (or a stratum within that population). 100% examination is unlikely in the case of tests of controls; however, it is more common for tests of details. 100% examination may be appropriate when, for example:

• The population constitutes a small number of large value items;
• There is a significant risk and other means do not provide sufficient appropriate audit evidence; or
• The repetitive nature of a calculation or other process performed automatically by an information system makes a 100% examination cost effective.

Selecting Specific Items

A55. The auditor may decide to select specific items from a population. In making this decision, factors that may be relevant include the auditor’s understanding of the entity, the assessed risks of material misstatement, and the characteristics of the population being tested. The judgmental selection of specific items is subject to non-sampling risk. Specific items selected may include:

• High value or key items. The auditor may decide to select specific items within a population because they are of high value, or exhibit some other characteristic, for example, items that are suspicious, unusual, particularly risk-prone or that have a history of error.
• All items over a certain amount. The auditor may decide to examine items whose recorded values exceed a certain amount so as to verify a large proportion of the total amount of a class of transactions or account balance.
• Items to obtain information. The auditor may examine items to obtain information about matters such as the nature of the entity, or the nature of transactions.

A56. While selective examination of specific items from a class of transactions or account balance will often be an efficient means of obtaining audit evidence, it does not constitute audit sampling. The results of audit procedures applied to items selected in this way cannot be projected to the entire population; accordingly, selective examination of specific items does not provide audit evidence concerning the remainder of the population.

Audit Sampling

A57. Audit sampling is designed to enable conclusions to be drawn about an entire population on the basis of testing a sample drawn from it. Audit sampling is discussed in ISA 53097.

97 ISA 530, Audit Sampling

Inconsistency in, or Doubts over Reliability of, Audit Evidence (Ref: Para. 11)

A58. Obtaining audit evidence from different sources or of a different nature may indicate that an individual item of audit evidence is not reliable, such as when audit evidence obtained from one source is inconsistent with that obtained from another. This may be the case when, for example, responses to inquiries of management, internal auditors, and others are inconsistent, or when responses to inquiries of those charged with governance made to corroborate the responses to inquiries of management are inconsistent with the response by management. ISA 230 includes a specific documentation requirement if the auditor identified information that is inconsistent with the auditor’s final conclusion regarding a significant matter98.

98 ISA 230, Audit Documentation, paragraph 11

ISA 580, Written Representations

Appendix 1

(Ref: Para. 2)

List of ISAs Containing Requirements for Written Representations

This appendix identifies paragraphs in other ISAs that require subject-matter specific written representations. The list is not a substitute for considering the requirements and related application and other explanatory material in ISAs.

• ISA 240, The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements – paragraph 40
• ISA 250 (Revised), Consideration of Laws and Regulations in an Audit of Financial Statements – paragraph 17
• ISA 450, Evaluation of Misstatements Identified during the Audit – paragraph 14
• ISA 501, Audit Evidence—Specific Considerations for Selected Items – paragraph 12
• ISA 540 (Revised), Auditing Accounting Estimates

  , Including Fair Value Accounting Estimates,

  and Related Disclosures – paragraph 37
• ISA 550, Related Parties – paragraph 26
• ISA 560, Subsequent Events – paragraph 9
• ISA 570 (Revised), Going Concern – paragraph 16(e)
• ISA 710, Comparative Information—Corresponding Figures and Comparative Financial Statements – paragraph 9
• ISA 720 (Revised), The Auditor’s Responsibilities Relating to Other Information – paragraph 13(c)

Appendix 2

(Ref: Para. A21)

Illustrative Representation Letter

The following illustrative letter includes written representations that are required by this and other ISAs. It is assumed in this illustration that the applicable financial reporting framework is International Financial Reporting Standards; the requirement of ISA 570 (Revised)99 to obtain a written representation is not relevant; and that there are no exceptions to the requested written representations. If there were exceptions, the representations would need to be modified to reflect the exceptions.

(Entity Letterhead)

(Date)

(To Auditor)

This representation letter is provided in connection with your audit of the financial statements of ABC Company for the year ended December 31, 20XX100 for the purpose of expressing an opinion as to whether the financial statements are presented fairly, in all material respects, (or give a true and fair view) in accordance with International Financial Reporting Standards.

We confirm that (, to the best of our knowledge and belief, having made such inquiries as we considered necessary for the purpose of appropriately informing ourselves):

Financial Statements

We have fulfilled our responsibilities, as set out in the terms of the audit engagement dated [insert date], for the preparation of the financial statements in accordance with International Financial Reporting Standards; in particular the financial statements are fairly presented (or give a true and fair view) in accordance therewith.

Significant The methods, the data, and the significant assumptions used in making accounting estimates, including those measured at fair value, and their related disclosures are appropriate to achieve recognition, measurement or disclosure that is reasonable in the context of the applicable financial reporting framework. (ISA 540 (Revised))

99 ISA 570 (Revised), Going Concern
100 Where the auditor reports on more than one period, the auditor adjusts the date so that the letter pertains to all periods covered by the auditor’s report

ISA 700 (Revised), Forming an Opinion and Reporting on Financial Statements

Requirements

Forming an Opinion on the Financial Statements

13. In particular, the auditor shall evaluate whether, in view of the requirements of the applicable financial reporting framework:

1. The financial statements appropriately disclose the significant accounting policies selected and applied. In making this evaluation, the auditor shall consider the relevance of the accounting policies to the entity, and whether they have been presented in an understandable manner; (Ref: Para. A4)
2. The accounting policies selected and applied are consistent with the applicable financial reporting framework and are appropriate;
3. The accounting estimates and related disclosures made by management are reasonable;
4. The information presented in the financial statements is relevant, reliable, comparable, and understandable. In making this evaluation, the auditor shall consider whether:
   • The information that should have been included has been included, and whether such information is appropriately classified, aggregated or disaggregated, and characterized.
   • The overall presentation of the financial statements has been undermined by including information that is not relevant or that obscures a proper understanding of the matters disclosed. (Ref: Para. A5)
5. The financial statements provide adequate disclosures to enable the intended users to understand the effect of material transactions and events on the information conveyed in the financial statements; and (Ref: Para. A6)
6. The terminology used in the financial statements, including the title of each financial statement, is appropriate.

ISA 701, Communicating Key Audit Matters in the Independent Auditor’s Report

Requirements

Determining Key Audit Matters

9. The auditor shall determine, from the matters communicated with those charged with governance, those matters that required significant auditor attention in performing the audit. In making this determination, the auditor shall take into account the following: (Ref: Para. A9–A18)

1. Areas of higher assessed risk of material misstatement, or significant risks identified in accordance with ISA 315 (Revised). (Ref: Para. A19–A22)
2. Significant auditor judgments relating to areas in the financial statements that involved significant management judgment, including accounting estimates that are subject to

   been identified as having

   a high degree of estimation uncertainty. (Ref: Para. A23–A24)
3. The effect on the audit of significant events or transactions that occurred during the period. (Ref: Para. A25–A26)

Application and Other Explanatory Material

Determining Key Audit Matters (Ref: Para. 9–10)

Considerations in Determining Those Matters that Required Significant Auditor Attention (Ref: Para. 9)

Significant Auditor Judgments Relating to Areas in the Financial Statements that Involved Significant Management Judgment, Including Accounting Estimates that

Have Been Identified as Having

ISA 260 (Revised) requires the auditor to communicate with those charged with governance the auditor’s views about significant qualitative aspects of the entity’s accounting practices, including accounting policies, accounting estimates and financial statement disclosures101. In many cases, this relates to critical accounting estimates and related disclosures, which are likely to be areas of significant auditor attention, and also may be identified as significant risks.

However, users of the financial statements have highlighted their interest in accounting estimates that are subject to a

been identified as having

101 ISA 260 (Revised), paragraph 16(a)
102 See paragraphs 16–171 of ISA 540 (Revised), Auditing Accounting Estimates

, Including Fair Value Accounting Estimates,