Auditing Term Paper

  Ryan Toomey

           Term Paper on Current Auditing Topic

  Molloy College

               Professor Tutino

The auditor's report is an authoritative indication of whether or not the company being audited has followed the generally accepted accounting principles (GAAP). It also provides an understanding of whether the company’s management is using proper financial reporting procedures. Investors rely on the accuracy of financial statements in order to make sound business decisions. In an effort to improve the auditor’s report, on June 1, 2017 the PCAOB issued a new auditing standard entitled, The Auditor’s Report on an Audit of Financial Statements when the Auditor Expresses an Unmodified Opinion. This new standard was approved by the SEC on October 24, 2017, and will start being implemented in audits for fiscal years ending after December 15, 2017. Changes such as disclosure of auditor tenure and improved communication of critical audit matters are present in the new auditing standard (PCAOB Page 4).

Although the average investor is not necessarily a client, as a third party expert, the auditor has a responsibility to protect the interests of investors and further the public interest in the preparation of informative, accurate and independent audit reports. One of the key reasons the PCAOB felt the need to improve the auditor’s report was to assist with this, by providing additional, easily accessible information to investors.  This need for improvement is partly because the current report doesn’t require auditors to provide a majority of the information they’ve obtained and evaluated as part of the audit. In past generations this lack of disclosure may not have been a huge issue. However, companies have progressively shifted towards more complex and global operations. There has also been an increasing use of estimates such as fair value measurements within financial reporting frameworks. These new developments have made it necessary for auditors to perform challenging, subjective, and complex judgements and procedures. This new standard encourages the inclusion of information regarding these difficult parts of the audit, as well as information that the auditor gained from the audit that he or she would want to know as an investor.  The current auditor’s report’s deficiency in communicating this important information to investors is known as information asymmetry. The PCAOB believes that reducing information asymmetry between investors and auditors will, in turn, improve the communication of information between investors and management as well (PCAOB Pages 1-2)

Quite a few key changes will occur to the unqualified audit report. One example is the required inclusion of section headers.  In addition, the auditor’s opinion on the financial statements must be included in the first section of the auditor’s report. In the section immediately following the auditor’s opinion, a basis for the opinion must be provided. Within this “Basis for Opinion” section, the auditor must also state that they are a member of a PCAOB registered public accounting firm, and that they are required to be independent from the company in accordance with U.S. federal securities laws as well as the regulations of the SEC and PCAOB. Also included in this new standard, is an enhanced description of the auditor’s role and responsibilities. A statement regarding independence requirements must be listed in this section as well. Another change in the unqualified audit report is the requirement to disclose audit tenure. Specifically, the year in which the auditor began serving consecutively as the company’s auditor must be disclosed. (Zietsman Page 2). Having a consistent location for this information is for the benefit of the investor as it is convenient and may even reduce their search costs in some circumstances. The auditor is free to disclose this information at any point within the report.

Perhaps the most important change in this new standard relates to the communication of Critical Audit Matters (CAMs). The new standard defines a CAM as “any matter arising from the audit of the financial statements that was communicated or required to be communicated to the audit committee and that relates to accounts or disclosures that are material to the financial statements and involved especially challenging, subjective, or complex auditor judgment.” (Zietsman Page 2)  In determining whether a matter meets this criteria, the auditor should take multiple factors into account. The factors listed by the PCAOB include A.) The auditor's assessment of the risks of material misstatement, including significant risks; B.) The degree of auditor judgment related to areas in the financial statements that involved the application of significant judgment or estimation by management, including estimates with significant measurement uncertainty; C.) The nature and timing of significant unusual transactions and the extent of audit effort and judgment related to these transactions; D.) The degree of auditor subjectivity in applying audit procedures to address the matter or in evaluating the results of those procedures; E.)The nature and extent of audit effort required to address the matter, including the extent of specialized skill or knowledge needed or the nature of consultations outside the engagement team regarding the matter; and F.) The nature of audit evidence obtained regarding the matter (PCAOB Page 11). There are a few requirements regarding the communication of a CAM. The auditor must first identify the CAM that they found to be present.  They then must describe the principal considerations that led them to consider the matter a CAM, as well as how the CAM was addressed in the audit. Finally, the auditor must refer to the relevant financial statement accounts or disclosures that relate to the CAM. All of this information should be shown in a separate section in the auditor’s report titled “Critical Audit Matters.” If the auditor determines that no CAMs at all are present, he or she still must include a statement in the auditor’s report saying that there are no CAMs.  However, it is expected that, in most audits, the auditor would determine at least one matter that involves especially challenging, subjective, or complex judgement (PCAOB Page 14).