The New Auditor’s Report

29 July 2016Muhammad Shahzad Anjum

PresentationCFE Lahore

Contents and Scope (to discuss the contents of new audit report)

► Background - Why change the auditor’s report

► What is changing - New and revised audit reportingrequirements

► Application in UK and US and other countries

► Legal requirements in Pakistan for auditor’s report

► Implementation Issues and challenges in Pakistan

Page 2

Overview of the IAASB’s Auditor Reporting Project – New Audit

Report

Research & Consultation

Academic Research (2006 – 2009)

Review of National Developments /

Initiatives (2009-2010)

Commencement of Standard Setting

Project Proposal (December 2011)

Task Force and Drafting Teams(January 2012)

Public Consultation

Invitation to Comment:

Improving the Auditor’s Report

(June 2012)

Outreach and Roundtables

Released new and revised Auditor Reporting ISA in Jan 2015

Effective Date – Periods ending on or after December 15, 2016

Exposure Draft (June 2013)

Why change the auditor’s report ?

► Business has over the last few years become more complex, due to

( and financial reporting has had to evolve, increasing the judgement,

estimates and uncertainty underlying the financial statements.

► In particular, it was felt that the binary ( Pass / Fail ) auditor’s report with limited, if any, information that relates specifically to the entity, while providing no indication of the complexities relating to the entity or the audit.

► The IAASB;s work to develop new audit reporting standards responds to this call to provide more entity-specific and relevant information in the auditor’s report.

Page 3

► Since auditing is a profession that goes about its work behind the scenes, investors and other financial statements users have demanded more transparency and insight into the audit.

Expected Benefits of the New Auditor’s Report

Page 3.1

More robust interactions and communication among users, auditors and those charged with governance (TCWG)

Increased attention by management and TCWG to the disclosures referred to in the Key Audit Matters(KAM) section of the auditor’s report

Increased professional skepticism in areas where KAM are identified

Increased audit quality or users’ perception of audit quality

What is changing ?

► The auditor’s report is the key deliverable addressing theoutput of the audit process

► To enhance the communicative value and relevance of theauditor’s report, the IAASB has introduced new andrevised Auditor Reporting Standards in January 2015

► These standards require various enhancements in theauditor’s report including the Communication of Key AuditMatters in the audit report

► The implementation of the new and revised standards willrepresent a significant change in the audit reportingpractice

Page 4

New and revised Auditor Reporting ISAs

ISA 700 (Revised) - Overarching (influencing)Standard for Auditor Reporting

ISA 705 (Rev)NEW ISA 701 Modifications

Key Audit to auditor’sMatters opinions

ISA 570 (Rev) ISA 720 (Rev)Going Other

concern information(including (including new

revised reporting)reporting)

Revisions to ISAs 260 and 706 as a result of ISA 701, andconforming amendments to related ISAs

All ISAs effective for audits of financial statement for periods ending on orafter 15 December 2016

Page 5

Key enhancements to the auditor’s report

► New section to communicate Key audit matters (KAM)

► KAM is the heart of the revised auditor’s reports for listedentities

► KAM are those matters that, in the auditor’s judgementwere of most significance in the audit of the financialstatements

► ISA 701 sets out requirements and guidance for theauditor’s determination and communication of key auditmatters

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Other Enhancements

Going Concern► A separate section with the heading “Material uncertainty

related to Going Concern” is required in the auditor’sreport to highlight the existence of any materialuncertainties related to going concern - (instead ofreporting under Emphasis of Matter para)

► New descriptions of responsibilities related to goingconcern to be included in the respective sections formanagement and auditor responsibilities

► A new requirement for auditor to evaluate the adequacy of disclosures in going concern “close call” i.e. when events or conditions were identified that may cast significant doubt on an entity’s ability to continue as a going concern but due to management’s plans, it was concluded that no material uncertainty exists.Page 7

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Audit report to state

► Management responsibilites

………In preparing the financial statements, management isresponsible for assessing the Company’s ability tocontinue as a going concern, disclosing, as applicable,matters related to going concern and using the goingconcern basis of accounting unless management eitherintends to liquidate the Group/Company or to cease operations, or has no realistic alternative but to do so………………

Page 8

Other Enhancements (continued)

Other Information in the Annual Report

► Identification in the auditor’s report of what comprises theother information such as Director’s report, Chairmanreview and other financial analysis etc,

► The responsibilities of the management and the auditorsin relation to other information

► A statement that the other information is materiallyconsistent or not consistent with the financial statements

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Audit report to state

Other information [ annexed in annual report ]Management is responsible for the other information. The other

information comprises the director’s report, analysis etc……………..Our opinion on the financial statements does not cover the otherinformation and we do not express any form of assurance conclusionthereon.

In connection with our audit of the financial statements, ourresponsibility is to read the other information and, in doing so,

consider whether the other information is materially inconsistentwith the financial statements or our knowledge obtained in the audit orotherwise appears to be materially misstated. If, based on the work wehave performed, we conclude that there is a material misstatement ofthis other information, we are required to report that fact.[We havenothing to report in this regard [or a statement that describes anymaterial misstatement of the other information]].

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Other Enhancements (continued)

► Enhanced description of both the responsibilities of theauditor and key features of an audit

► Identification of Those Charged With Governance withinthe management’s responsibilities section

► An affirmative statement about the auditor’s independenceand the auditor’s fulfillment of relevant ethical

responsibilities

► Disclosure of name of the engagement partner for listedentities

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Form of Audit Report under revisedstandards vs. Current Audit Report

Independent Auditors’ ReportCurrent Audit Report

► Report on the Audit of the FinancialStatements

► Opinion► Basis for Opinion

► Material Uncertainty Related to GoingConcern (if applicable)

► Emphasis of Matter (if applicable)► Key Audit Matters

► Other Matters (if any)► Other Information (if applicable)► Responsibilities of Management and TCWG

for the Financial Statements► Auditors’ Responsibilities for the Audit of

Financial Statements► Report on Other Legal and Regulatory

Requirements► The engagement partner on the audit [name].► Signature, Address and Date

► Identification offinancial

statements audited

► Management’sresponsibilities

► Description of auditscope

► Audit opinion

Page 12

Appendix 1: Illustrative auditor’s report

Page 13

The new auditor’s report(Extracted from ISA 700 (Revised) - Forming an Opinion and Reporting on Financial Statements)

INDEPENDENT AUDITOR’S REPORTTo the Shareholders of ABC Company [or Other Appropriate Addressee]

Report on the audit of the financial statements

OpinionWe have audited the financial statements of ABC Company (the Company), which comprise the statement offinancial position as at December 31 20X1, and the statement of comprehensive income, statement of changes inequity and statement of cash flows for the year then ended, and notes to the financial statements, including asummary of significant accounting policies.

In our opinion, the accompanying financial statements present fairly, in all material respects, (or give a true and fairview of) the financial position of the Company as at 31 December 20X1 and (of) its financial performance and its cashflows for the year then ended in accordance with International Financial Reporting Standards.

Basis for opinionWe conducted our audit in accordance with International Standards on Auditing (ISAs). Our responsibilities underthose standards are further described in the Auditor’s responsibilities for the audit of the financial statements sectionof our report. We are independent of the Company in accordance with the ethical requirements that are relevant to

our audit of the financial statements in [Country], and we have fulfilled our other ethical responsibilities in accordancewith these requirements. We believe that the audit evidence we have obtained is sufficient and appropriate to providea basis for our opinion.

Key audit mattersKey audit matters are those matters that, in our professional judgment, were of most significance in our audit of thefinancial statements of the current period. These matters were addressed in the context of our audit of the financialstatements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these

matters.

Enhancements tothe auditor’s report

Opinion first. The auditor’s opinion - the“pass/fail” statement that users have saidthey continue to value - is required to bepositioned at the beginning of the report,followed by the Basis for Opinion.

Required Basis for Opinion section.Currently required only when the auditor’sopinion was modified.

New affirmative statement about theauditor’s fulfillment of independence andother relevant ethical responsibilitiesrequirements.

The new KAM section is the centerpieceof the revised auditor’s report.

Required for audits of listed entities,but may be applied voluntarily to otheraudits.

[Description of each key audit matter in accordance with ISA 701.]Page 14

The new auditor’s report

Other information [ annexed in annual reports]Management is responsible for the other information. The other information comprises the [information included in theAnnual Report, but does not include the financial statements and our auditor’s report thereon.]

Our opinion on the financial statements does not cover the other information and we do not express any form ofassurance conclusion thereon.

In connection with our audit of the financial statements, our responsibility is to read the other information and, in doingso, consider whether the other information is materially inconsistent with the financial statements or our knowledgeobtained in the audit or otherwise appears to be materially misstated. If, based on the work we have performed, weconclude that there is a material misstatement of this other information, we are required to report that fact. [We havenothing to report in this regard[or a statement that describes any material misstatement of the other information]].

New descriptions of management’sresponsibilities relating to goingResponsibilities of management [and those

charged with governance] for the financialstatements

Management is responsible for the preparation and fair presentation of the financial statements in accordance withIFRSs, and for such internal control as management determines is necessary to enable the preparation of financialstatement that are free from material misstatement, whether due to fraud or error.

In preparing the financial statements, management is responsible for assessing the Company’s ability to continue as agoing concern, disclosing, as applicable, matters related to going concern and using the going concern basis of

accounting unless management either intends to liquidate the Group or to cease operations, or has no realisticalternative but to do so.

[Those charged with governance] are responsible for overseeing the Company’s financial reporting process.]

concern. Intended to reflect therequirements of the applicable financialreporting framework.

Identification of TCWG is requiredwhen a separate body exists that isresponsible for the oversight of thefinancial reporting process (in manycases, the audit committee).

When individuals responsible for suchoversight are also responsible for thepreparation of the financial statements,no reference to oversight

responsibilities Is required.

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The new auditor’s report

Expanded description of the auditor’sresponsibilities, including key features

Auditor’s responsibilities for the audit of thefinancial statements

Our objectives are to obtain reasonable assurance about whether the financial statements as a whole are free frommaterial misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion.

Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance withISAs will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and areconsidered material if, individually or in the aggregate, they could reasonably be expected to influence the economicdecisions of users taken on the basis of these financial statements.

As part of an audit in accordance with ISAs, we exercise professional judgment and maintain professional skepticismthroughout the audit. We also:

Identify and assess the risks of material misstatement of the financial statements, whether due to fraud or error,design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and

appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud ishigher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions,

misrepresentations, or the override of internal control.

Obtain an understanding of internal control relevant to the audit in order to design audit procedures that areappropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the

Company’s internal control.

Evaluate the appropriateness of accounting policies used and the reasonableness of accounting estimates andrelated disclosures made by management.

of the audit. The auditor'sresponsibility section is intended toexplain more fully the concept of a risk-based audit, as well as to clarify themeaning of certain audit-technicalterms. This approach results in a fullerdescription of the auditor’s

responsibilities in relation to specificmatters, including fraud; internal

control, accounting policies andestimates, evaluating the overall

presentation, structure and content ofthe financial statements and

disclosures, group audits, andcommunications with TCWG.

Because of the increased length of thissection, ISA 700 include a provisionthat certain components of thisdescription may be presented in anappendix to the auditor’s report or,where law, regulation or nationalauditing standards expressly permit, byreference to a website of an

appropriate authority.

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The new auditor’s report

Auditor’s responsibilities for the audit of thefinancial statements (continued)

Conclude on the appropriateness of management’s use of the going concern basis of accounting and, based on the auditevidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on theCompany’s ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to drawattention in our auditor’s report to the related disclosures in the financial statements or, if such disclosures are inadequate, tomodify our opinion. Our conclusions are based on the audit evidence obtained up to the date of our auditor’s report. However,future events or conditions may cause the Company to cease to continue as a going concern.

Evaluate the overall presentation, structure and content of the financial statements, including the disclosures, and whether thefinancial statements represent the underlying transactions and events in a manner that achieves fair presentation.

[[For group audits] Obtain sufficient appropriate audit evidence regarding the financial information of the entities or businessactivities within the Group to express an opinion on the consolidated financial statements. We are responsible for the direction,

supervision and performance of the group audit. We remain solely responsible for our audit opinion.]

We communicate with [those charged with governance] regarding, among other matters, the planned scope and timing of the auditand significant audit findings, including any significant deficiencies in internal control that we identify during our audit.

We also provide [those charged with governance] with a statement that we have complied with relevant ethical requirements regardingindependence, and to communicate with them all relationships and other matters that may reasonably be thought to bear on our

independence, and where applicable, related safeguards.

From the matters communicated with [those charged with governance], we determine those matters that were of most significance inthe audit of the financial statements of the current period and are therefore the key audit matters. We describe these matters in ourauditor’s report unless law or regulation precludes public disclosure about the matter or when, in extremely rare circumstances, wedetermine that a matter should not be communicated in our report because the adverse consequences of doing so would reasonablybe expected to outweigh the public interest benefits of such communication.

Report on other legal and regulatory requirements[The form and content of this section of the auditor’s report would vary depending on the nature of the auditor’s other reportingresponsibilities prescribed by local law or regulation]

The partner in charge of the audit resulting in this independent auditor’s report is [name].

[Signature][Auditor address][Date]

New descriptions of responsibilitiesrelating to going concern. Reflectsresponsibilities under ISA 570, whichare required regardless of the

applicable framework.

A separate section (when applicable)relating to other information in an

annual report.

More information will be shared on therevised auditor’s responsibilities,

including its new reportingrequirements, when ISA 720 TheAuditor’s Responsibilities Relating toOther Information.

Disclosure of the name of theengagement partner for audits of listedentities.

Already common practice in manyjurisdictions, the name of the

engagement partner is now included inauditor’s reports under the ISAs, but isonly required for audits of listed

entities.

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Closer look - Reporting of Key Audit Matters

► Significant audit risks :areas of risk of material

Those matters that,in the auditor’s

professionaljudgment, were ofmost significance inthe audit of the

financial statementsfor the current period

misstatement in the financialstatements

► Significant judgmentalareas in the financialstatements: accounting

estimates with high estimationuncertainty

► Significant events ortransactions during the

year: with the effects on thefinancial statements

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Closer look - Reporting of Key Audit Matters

Going concern assessment

Revenue recognition

Effect of new accountingstandards

Impairment of assets

Valuation of financialinstruments

Measurement of retirementbenefit plan liabilities

Disposal of a business unit

Business combination andaccounting impacts

Deferred Taxation

Goodwill impairment

Provisions for contingencies

Page 19

KAM - Decision-making framework

► Auditor’s communicationMatters communicatedwith TCWG

Matters requiringsignificant auditor

attention

KAM:Mattersof most

significancein the audit

of significant matters tothe Board ( Those

Charged withGovernance ) should bethe starting point todetermine the Key AuditMatters

► The number of KAMs willvary depending on thesize and complexity ofthe entity and the natureof its business

environment

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Sensitive matters : Not part of KAM Section

► ISA 701 allows for the possibility, in extremely rarecircumstances , that the auditor might decide not tocommunicate a matter when:

► Laws or regulations preclude a disclosure such as amatter that may prejudice an investigation of illegal act

► Adverse consequences on the entity are expected tooutweigh the public interest benefits of communication

► This is a complex decision and involve significant auditorjudgment. Accordingly, the auditor may consider itappropriate to obtain legal advice

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KAM - what to state

► Description of each KAM in the auditor’s reportrequired to include:

`

► Why the matter was considered to be one of mostsignificance in the audit

► How the matter was addressed in the audit - auditapproach and overview of procedures performed withan indication of outcome

► Reference to the related disclosure(s)

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KAM - points to note

► Should be specific to the entity - avoid generic orstandardized language

► Does not imply that the matter has not been appropriatelyresolved in the audit - KAM is Not an Audit Qualification

► KAM is not a substitute for disclosures required infinancial statements

► Does not imply discrete opinions on separate elements ofthe financial statements

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KAM - expected impacts

► KAM does not change the audit scope Nor does it changethe responsibilities of the Board (TCWG) and themanagement in relation to the financial statements

► KAM only intends to highlight ‘Through the Eyes of theAuditor” matters of most significance

► Will provide users of the financial statements a basis tofurther engage with the management and may be with theauditors

► Will require Enhanced communication between theAuditor and the Audit Committees

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Appendix 2: Key audit matters - anillustration

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Key audit matters - an illustration

Goodwill[Why a matter was determined to be a KAM]

Under IFRSs, the Group is required to annually test the amount of goodwill for impairment.This annual impairment test was significant to our audit because the balance of XX as of 31December 20X6 is material to the financial statements. In addition, management’sassessment process is complex and highly judgmental and is based on assumptions,specifically [describe certain assumptions], which are affected by expected future market oreconomic conditions, particularly those in [name of country or geographic area].

[How a KAM was addressed in the audit]Our audit procedures included, among others, using a valuation expert to assist us in

evaluating the assumptions and methodologies used by the Group, in particular thoserelating to the forecasted revenue growth and profit margins for [name of business line]. Wealso focused on the adequacy of the Group’s disclosures about those assumptions to whichthe outcome of the impairment test is most sensitive, that is, those that have the mostsignificant effect on the determination of the recoverable amount of goodwill.

[Refer to the related disclosures]The Company’s disclosures about goodwill are included in Note X, which specifically

explains that small changes in the key assumptions used could give rise to an impairmentof the goodwill balance in the future.

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Practice in UK : Recent Practice

Audit Committee► UK Corporate Governance

Code require to publish inthe annual report a

separate report describingthe work of the AuditCommittee including thesignificant issues that theCommittee considered inrelation to the financialstatements and how theseissues are addressed

AuditorsExtended audit report►A description of significant

risks►An explanation of how the

auditor applied theconcept of materiality;

and►A summary or the auditscope, including responseto the significant risk andapplication of the conceptof materiality

Page 27

Audit Reports issued in UK: Recent Practice

Rolls Royce Holding plc

►6 Pages Report

►7 Significant Risks reported

►Key risks include revenuerecognition, consolidationof SPV, provisions forcontingencies, Bribery andcorruption

Vodafone Group plc

►8 Pages Report

►7 areas of focus reported

►Key risks include Taxation,Goodwill valuation, IT

system and controls,revenue recognition

Page 28

PCAOB proposals for changes in the auditreporting model

► In 2013 PCAOB proposed a new auditing standard toenhance the auditor’s report

► The proposed new standard require the communication ofCritical Audit Matters as determined by the auditor

► Enhancements to existing language have also beenrelated to auditor’s independence, auditor’sresponsibilities for fraud and other information in theannual report

► The effective date of the standard in not yet specifiedPage 29

Public Company Account ing Oversight Board US: Protecting

Investors through audit oversight

Adoption in other countries

► Singapore - adopted the revised standard effective 2016

► Malaysia - adopted the revised standard effective 2016

► Australia - comment period over for the exposure draft,effective date yet to be notified

► India - auditing standards are aligned to ISAs andtherefore, expect the Indian institute to adopt the standardin due course

► Saudi Arabia - Planned to adopt in 2017

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Implementing the Change: Responsible

Audit Regulators

Audit Firms

Audit Committees

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Implementing the Change

► National auditing standard setters to consider the changein view of the Laws and Regulations in their respectivejurisdictions

► Audit firms have commenced the important work ofdeveloping implementation guidance, training andcommunications to educate the audit teams

► Audit Committees and CFOs to engage with the auditorsat an early stage to identify potential KAMs and how thesematters are currently addressed in the disclosures in thefinancial statements, director’s report and CCG report

Page 32

Laws and regulations in Pakistan

► Section 255 (3) of the Companies Ordinance, 1984prescribes the contents of the auditor’s report whichinclude opinions on the following

► True and fair view of the financial statements: AND

► Completeness of information obtained for the purposes ofaudit

► Proper Books of accounts► Compliance with the requirements of the Companies

Ordinance, 1984 with regard to the accounts► Expenditure incurred, investments made and business

conducted for the purposes of the company’s businessand objects

Page 33

Laws and regulations in Pakistan

Form 35 A

Form 35 B andSECP’s directives

Form 35 C

• Auditors’ Report in case ofCompanies

• Auditors’ Report in case of Banks• Auditors’ Report for Insurance

Companies

• Auditor’s Report on ConsolidatedFinancial Statements

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Suggested Approach to Change in the legalforms relating to the auditor’s report

Independent Auditors’ Report► Report on the Audit of the Financial

Statements► Opinion

► Basis for Opinion► Material Uncertainty Related to Going

Concern (if applicable)► Emphasis of Matter (if applicable)► Key Audit Matters

► Other Matters (if any)► Other Information (if applicable)► Responsibilities of Management and TCWG

for the Financial Statements► Auditors’ Responsibilities for the Audit of

Financial Statements► Report on Other Legal and Regulatory

Requirements► The engagement partner on the audit [name].► Signature, Address and Date

Opinions requiredby the CompaniesOrdinance, 1984in addition to theopinion on the

financialstatements (true& fair view) maybe reported undera separate

section of thereport in

accordance withthe ISAs

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Role of Audit Committee

► As per the requirements of the Code of CorporateGovernance for listed companies, the Audit Committee isrequired to review the financial statements prior to theirapproval focusing on:

► Major Judgmental areas

► The going concern assumption

► Any changes in the accounting policies and practices► Compliance with accounting standards and other

regulatory requirements

► Significant adjustments resulting from the audit

► Significant related part transactionsPage 36

Public reporting by directors

► Section 236 of the Companies Ordinance, 198 requiresthe Director’s Report to contain he fullest information andexplanation with regard to any reservation, observation,qualification or adverse remarks contained in the auditor’sreport

► Under the listing regulations every listed company shallimmediately disseminate material information such asmerger or acquisition or loss of any material contract;purchase or sale of significant assets; any unforeseen orundisclosed impairment of assets due to technologicalobsolescence, etc

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Suggestions

► We should take a holistic approach to incorporate therequired changes in the laws and regulations instead of

updating audit report under ISAs only.► The UK Model which requires both the Auditors and the

Audit Committee to report on Key audit matters can befollowed

► As we state in the audit report that the audit has beenconducted in accordance with the ISAs, therefore, theform and content of the audit report should also complywith ISAs

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Implementation Issues and challenges

► Auditor’s report may be seen as the primary source ofinformation about a company

► Key Audit Matters may be confused with auditor’sobservations or concerns

► Regulators and tax authorities may require additionalinformation about Key Audit Matters or challenge theauditors rather than the management

► Changes in laws and regulations required to implementthe change

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Conclusion

►“If you change the way you look atthings, the things you look at, change.”

Wayne Dyer

► Need to hold more awareness sessions and roundtableswith investors, audit committees, regulators and allstakeholders to see their views on the potential changesto the auditor’s report BEFORE deciding the date ofimplementation

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Thank you