ISA 540 (Revised) Auditing Accounting Estimates & Related Disclosures

Written by Charlotte Gambling | 17 August 2020 11:24:00 Z

Written by: Jonathan Millar, Product Manager (Audit)

I previously wrote about ISA 540 back in January 2019 when the standard was still in its draft stage. However, the deadline for its implementation is now upon us (periods commencing on or after 15 December 2019), and for some short accounting period scenarios will be relevant even now. So, it is worth reviewing the main elements that auditors will have to be aware of and how methodologies are changing to address those areas.

In a recent article for Audit & Beyond¹, John Selwood addresses the issues arising with the headline that “Effectively implementing the revised ISA 540 requires careful thinking, planning, training, coaching and guidance”.

In the article John raises the issue of audit methodologies and how difficult it can be for these to steer auditors in the right direction in relation to accounting estimates. The conversations we have had with our methodology providers (Mercia and HAT) have shown this to be the case. The challenge is to prepare standardised documentation taking into account the many new requirements of the ISA without it becoming too cumbersome.

What has become clear is that the consideration of accounting estimates is something that is going to span the entire audit process from the very start of the planning through to the overall concluding file review.

Such a consideration of each accounting estimate will require:-

i) A retrospective review of the effectiveness of management’s estimation process in prior periods;
ii) A separate inherent risk assessment for each estimate, taking in to account estimation uncertainty, complexity, subjectivity and other factors;
iii) The risks identified to be considered on a spectrum which considers how those risk factors affect the likelihood or magnitude of misstatement. This will require a change in thinking from the traditional “High, Medium, Low” assessment perhaps used in the past;
iv) Each estimate will have to be tested in its own right with procedures designed to:

test how management made the estimate,
develop an auditor’s point estimate or range,
obtain evidence after the balance sheet date.

All of these will need to be done with the auditor displaying professional scepticism whilst trying to avoid bias to corroborative audit evidence and exclusion of evidence that may appear to be contradictory;

v) A final review and conclusion on accounting estimates will be required with considerations on

management bias,
further audit work being required,
appropriateness of risks of material misstatement at the assertion level,
sufficiency of audit evidence obtained,
disclosure and the applicable financial reporting framework.

The ICAEW has also provided a number of resources to assist members with their preparations for the implementation of the revised ISA. These can be found here.

CaseWare AuditAdvanced templates

As we mentioned, we have been talking to both Mercia and HAT as they develop their methodologies and our next stage of development of the Audit templates (both Hybrid and Cloud) will include those revisions as well as those for the implementation of ISA 570 (Revised) on Going Concern.

AuditAdvanced’s intelligent audit processing allows risks to be linked directly to where further audit procedures are carried out, with significant items being flagged within the final review. This ensures the auditor has a full audit trail from beginning to end of how such risks have been assessed and addressed.

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