An important, interesting, and popular amendment was made in the Standard of Auditing (SA) 701 in May 2016 by the ICAI which deals with an inclusion of a new paragraph in the Independent Audit report called the “Key Audit Matters” (KAM). The new standard of auditing is expected to provide greater transparency in the audit that is performed and increase the communicative value of the auditor’s report. This amendment was first done on an international level by IAASB where many countries accepted the amendment and later it was accepted in India. The benefits of inclusion of KAM are expected by various corporate stakeholders, supervisory bodies, and those in charge of governance and audit firms.
Standard of Auditing (SA) 701 deals with the auditor’s responsibility to communicate the key audit matters in the auditors report. SA701 intends to address both the auditor’s judgment as to what to communicate in the auditor’s report as well as the form and content of such communication.
The objectives of KAM is to determine key audit matters and the auditor, having formed an opinion on the financial statements, should communicate those matters by describing them in the auditor’s report. This new amendment was effective for audits of financial statements beginning April 1, 2018.
WHAT ARE THE KEY AUDIT MATTERS?
The auditor shall determine from the matters communicated with those charged with governance, those matters that required significant auditor attention in executing the audit, including:
- Areas of higher assessed risk of material misstatement, or for which substantial risks have been identified
- Significant auditor’s judgments relating to areas of significant management judgments in the financial statements, which includes accounting estimates subject to a significant degree of uncertainty
- The effect on the audit of significant events or transactions that occurred during the relevant period.
- Areas that include related party transactions and other complex transactions
- Significant event or transactions that occurred during the year and had impacted the auditor’s overall audit strategy
The auditor should conclude which of the matters identified by the above-mentioned criteria are the most significant ones in the audit of financial statements of the relevant period and therefore, the key audit matters.
IMPACT ON AUDITING OF COMPANIES
The auditors have always communicated their findings and opinions to the board with the standard wordings in their Independent auditors’ report. But, since the corporate stakeholders demanded more clarity on those findings, ICAI entrusted the auditors with the new responsibility of a new style of audit system along with their opinions on the financial statements without changing the scope of the independent audit report.
This new Standard on Auditing has opened the door for the auditor to give the users more insight into the audit and improve transparency. The need for inclusion of Key audit matters is to get rid of the uninteresting audit report format. The Key audit matter will make the audit report more interesting, transparent, and will capture the attention of the readers of the financial statements towards the matters that are of significant importance. This new change has also required the auditor to be more vigilant in his findings and pay extra attention to the estimates, risks, and opinions. KAM is expected to be relevant and insightful.
KAM IN THE INDEPENDENT AUDIT REPORT
While drafting the KAM, it is important to keep in mind the auditors report the audience’s knowledge and their understanding of auditing and accounting terms. Timely communication and discussion need to be held with those charged with governance to consider how the KAM should be addressed in the auditors’ report.
KAM should be presented as a separate section under the heading “Key Audit Matters”. Each KAM should be described in detail unless otherwise prohibited by law or regulation. It is essential that the auditor’s description of how the KAM was addressed correlates with the work performed and is supported by adequate documentation. It is important to note that the KAM is communicated by the auditor after having formed an opinion on the financial statements as a whole and not a separate opinion on individual matters.
KAM’s main objective is to provide insightful and useful information to investors. A high-quality audit report suggests that the auditors have risen to the challenge and have successfully done their work. But the impact of KAM is not only limited to provide more information to the investors.
KAM increases the conversation between the auditors and those in charge of governance. This, in turn, contributes to better governance. KAM requires the auditors to focus on many areas of financial transactions and have a thorough eye and careful judgment. This improves the quality of the audit report. KAM also provides incentives or opinions to improve financial reporting and disclosures. The inclusion of KAM has a positive and wider impact on financial reporting and identifying areas for improvement.
To understand how KAM applies to your company and the impact it will have, let’s get connected.
Follow us on Social Media for regular updates.