PART B: IMPACT ON AUDIT OF FINANCIAL STATEMENTS
The COVID-19 related challenges on an auditor while conducting audit of financial statements are described below:
Travel and other movement restrictions
Due to increasing restrictions on travel, meetings and access to client locations for COVID-19 (i.e. in Bangladesh, Government has declared holiday initially from 26 March to 4 April 2020 which is now extended to 25 April 2020), auditors are facing practical diﬃculties in carrying out audits. Despite all these logistical challenges and underlying conditions, the delivery of high quality audit cannot be compromised. Audits should continue to be planned and performed in compliance with the International Standards on Auditing (ISA). To enable the auditors to perform audits, additional time may be required and alternative audit procedures may need to be performed in order to obtain suﬃcient appropriate audit evidence.
The auditor should immediately communicate any logistical challenges to conduct audit with both management and ‘Those Charged With Governance (TCWG)’ including any additional support they require from the client. The auditor should consider alternate audit procedures to obtain sufficient and appropriate audit evidence.
For example, if a client’s year-end is 31 March 2020 and due to country-wide lockdown the Auditor could not able to attend/observe physical stock take, another stock take attendance shall be arranged immediately at a subsequent date and physical balance found during the subsequent date stock take shall be reconciled to the stock report at the year-end (ISA 501 Audit Evidence - Speciﬁc Considerations for Selected Items). In such case, the auditor may add an ‘Other matter’ paragraph in audit report in accordance with ‘ISA 706 (Revised), Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor’s Report.’
Similarly, if an auditor is conducting audit of consolidated financial statements due to COVID-19 related matters audit procedures on the component FS including reviewing work component audit could not be performed as per ‘ISA 600 Special Considerations—Audits of Group Financial Statements’ or the auditor may not able to receive direct external confirmations from banks, debtors, lawyers, suppliers etc. in accordance with ‘ISA 505 External Confirmations’, the auditor need to consider whether alternate audit procedures can be applied.
If the auditor could not able to conduct any alternate audit procedures due to restrictions from COVID-19 and it was not possible to satisfactorily conclude on the basis of alternate audit procedures, the audit report may need to be modified in accordance with ‘ISA 705 (Revised), Modifications to the Opinion in the Independent Auditor’s Report.’
ISA 570, Going concern confirms that the auditor’s responsibilities are to obtain sufficient appropriate audit evidence and conclude on the appropriateness of management’s use of the going concern basis of accounting in the preparation of the financial statements, and to conclude, based on the audit evidence obtained, whether a material uncertainty exists about the entity’s ability to continue as a going concern.
The auditor will only be able to form a conclusion relating to going concern once management has made its own assessment. The auditor should inquire of management and those charged with governance as to what information available about the future, and determine whether this has been appropriately considered as part of management’s assessment. The auditor should apply similar considerations to those of management, in assessing the appropriateness of the going concern assumption.
If events or conditions have been identified that may cast significant doubt on the entity’s ability to continue as a going concern, the auditor shall obtain sufficient appropriate audit evidence to determine whether or not a material uncertainty exists. This should, for example, include a detailed and robust review of up to date forecasts, cash flows, sensitivity analyses and reviews of COVID-19 contingency plans and impact assessments conducted by management.
Impact on auditor’s report
The implications of COVID-19 on the auditor’s report will depend on the sufficiency and appropriateness of audit evidence obtained, the basis of preparation adopted and the disclosures provided in the financial statements.
For example, there is a situation where management has concluded that the entity is a going concern but there is a material uncertainty and if the auditor agrees that the entity is a going concern, and the material uncertainty is adequately disclosed in the financial statements, in the auditor’s report, the ‘conclusions relating to going concern’ section should be removed and instead a ‘material uncertainty related to going concern’ section shall be included. However, if management is not willing to disclose material uncertainties, then the auditor may need to consider issuing a modified auditor’s report.
Similarly, due to COVID-19 impact operating activities and cash flow of an entity can be significantly reduced during the first two quarters of 2020 and management has concluded that such reduction is temporary and once the outbreak is contained the entity would be back to its normal activities in very short period of time. Accordingly, management has not made any significant adjustment to the operating plan/cash flow forecast used for impairment assessment and just recalculated discount rate and other market related conditions. If the auditor concludes that management’s assessment is reasonable but there is a risk that if the spread of outbreak is not contained by June 2020 there are some key assumptions that would require modification with possible impairment charges, the auditor can issue audit report with an EOM paragraph as per ‘ISA 706 (Revised), Emphasis of Matter Paragraphs and Other Matter Paragraphs’ in the Independent Auditor’s Report without any modification and highlighting the uncertainty.
Delaying the issuance of audit report
Given the unpredictable nature and impact of the COVID-19 outbreak, in some cases it might be appropriate to consider the possibility of delaying the approval of the financial statements and issuance of audit report until more certainty about the impact of such outbreak is known. For example, if Bangladesh Government has made general declaration of economic stimulus package to support a particular industry but the detail of that package is not yet announced and if management has assumed certain incentive from that Government package to support its going concern assumption, the auditor may like to wait until the detail package is announced to satisfactorily conclude on appropriateness of going concern assumption.
Consequently, auditors may not be able to meet previously agreed deadlines and required to wait for some time in order to satisfactorily obtain sufficient and appropriate audit evidence for issuing an unmodified audit report. If this is the case, the auditor should immediately inform both management and TCWG about the possible delay including the reason for such delay. Due to regulatory timeline for submission of audited financial statements, the client may need to approach the concerned regulators at the earliest opportunity to seek extension.
However, if the client is not willing to extend the timeline of completing the audit, the Auditor need to assess whether they have obtained sufficient and appropriate audit evidence to issue an audit opinion. If the answer is negative, the auditor needs to appropriately modify audit report.
COVID-19 brought in significant changes at very fast pace with limited time to react by an auditor. At the same time, during this period of global turmoil and uncertainty, the users of financial statements in general and investor community in particular would expect to see high quality audit more than ever. Accordingly, this is quite complex time for an auditor with added public expectation and hence the auditor should maintain continuous communication line with management and TCWG and constantly made them aware of any audit related issue, be it restrictions of movement or difficulties in obtaining sufficient and appropriate audit evidence. Some of the matters need to be communicated with the TCWG, in particular with audit committee are as follows:
- Significant changes in the planned scope and timing of the audit, including new significant risks and modifications to the audit plan and key audit matters (KAM);
- Major difficulties/restrictions encountered during the audit in areas such as absence from physical attendance during stock take, unavailability of management for corroborative inquiry, lack of response in external confirmations etc. resulting lack of sufficient appropriate audit evidence and/or completing alternate audit procedures;
- Critical matters that were discussed or subject to correspondence with management, including disagreements on key estimates and judgments taken by management on COVID-19 related impact;
- Expected modifications to the auditor’s report, e.g. modifications as a result of a scope limitation or disagreement, emphasis of matter paragraphs in respect of significant uncertainty, other matter paragraph to highlight alternate audit procedures etc.;
- Expected delay in finalization of audit due to changes circumstances and lack of clarity to validate reasonableness of management assumptions on key COVID-19 related matters. As mentioned above in the example that if management is planning to rely on Government support for going concern assumption and the detail of the support package is not yet available, the auditor may need to wait for satisfactorily conclude on the appropriateness of going concern assumption.
Validation of critical management estimates and judgments
As explained under financial reporting section, due to COVID-19 related issues, a number of areas in financial reporting shall be impacted and management need to make critical estimates and judgments about those matters. Such areas of critical estimates and judgments include among others, business plan and forecast to support going concern assumption, impairment assessment of non-current assets, expected credit losses, fair value of assets and liabilities without active market, etc. However, due to rapidly changing environment, in many such cases information and data used by management could be very difficult for an auditor to validate and assess for reasonableness.
Nevertheless, ‘ISA 540 Auditing Accounting Estimate, including Fair Value Accounting Estimates, and Related Disclosures’ require an auditor to evaluate, based on the audit evidence, whether the accounting estimates in the financial statements are either reasonable, or are misstated. In addition, auditor shall evaluate the adequacy of the disclosure of estimation uncertainty in the financial statements and review whether there are indication of possible management bias in making those estimates.
Accordingly, auditor shall observe all related steps outlined in ISA 540 and in other auditing standards to conclude that all critical management estimates and judgments are reasonable and should also obtain management representation as per ISA 580. However, if an auditor is unable to conclude on reasonableness of critical estimates and judgment applied by management they should discuss the matter with TCWG and try to resolve differences through developing a ‘Point Estimate or Range’ as prescribed in ISA 540. However, despite all these efforts if the disagreement persist and there are no alternatives, the auditor may consider modification of the audit report in accordance with ISA 705.
For ease of reference, a list of potential COVID-19 impacts on audit with reference to the related international standards on auditing are given below:
- Identifying new risks from COVID-19 related impact and re-assessments of the initial Risk of Material Misstatements (RMM) and Materiality in line with ‘ISA 315 (Revised) Identifying and Assessing the Risks of Material Misstatement Through Understanding the Entity and its Environment’ and ‘ISA 320 Materiality in Planning and Performing an Audit’.
- Evaluate applicability of going concern assumption used by management for the preparation of the financial statements in line with ‘ISA 570 (Revised) Going Concern’.
- Consider all subsequent events from the date of year-end to the date signing audit report and assess whether these are adjusting or non-adjusting event requiring recognition and disclosure in the financial statements respectively and auditors obligation in accordance with ‘ISA 560 Subsequent Events’.
- Obtain specific representations from management especially on any estimates and judgments applied related to COVID-19 related impact in line with ‘ISA 580 Written Representations’.
- Formulation of Auditor's Opinion in accordance with ‘ISA 700 (Revised) Forming an Opinion and Reporting on Financial Statements’, ‘ISA 705 (Revised) Modiﬁcations to the Opinion in the Independent Auditor's Report’, ‘ISA 706 (Revised), Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor's Report’.
- Due to COVID-19 related impact if any changes is required in Key Audit Matters (KAM) previously communicated to TCWG updated KAM should be discussed with Management and TCWG in accordance with ‘ISA 701 Communicating Key Audit Matters in the Independent Auditor's Report’.
- Risk of material misstatements in financial statements due to fraud including fraud risk factors identified previously may require re-assessment due to pervasive changes in economic environment from COVID-19 related impact and hence the auditor should consider this matter in audit in in accordance with ‘ISA 240 The Auditor's Responsibilities Relating to Fraud in An Audit of Financial Statements’.
- All listed entities in Bangladesh are required to publish annual reports and most likely there would be comments about COVID-19 and its impact on those entities in their annual reports. The auditor now has an added responsibility to read and comment on other information published along with the financial statements such as contents in annual report. Accordingly, the auditor should read such disclosure in the annual report and follow the steps prescribed in ‘ISA 720 (Revised) The Auditor's Responsibilities Relating to Other Information’.