Auditing Standard ASA 540 Auditing Accounting Estimates and Related Disclosures (Cth)
| Compiled Auditing Standard | ASA 540 (December 2021) |
Auditing Standard ASA 540
Auditing Accounting Estimates and Related Disclosures
This compilation was prepared on 10 November 2021 taking into account amendments made by ASA 2020‑1 and ASA 2021-5.
Compilation Number: 1
Compilation Date: 14 December 2021
Prepared by the Auditing and Assurance Standards Board
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ISSN 1833-4393
CONTENTS
COMPILATION DETAILS
AUTHORITY STATEMENT
CONFORMITY WITH INTERNATIONAL STANDARDS ON AUDITING
Paragraphs
Application.......................................................................................................... Aus 0.1-Aus 0.2
Operative Date................................................................................................................. Aus 0.3
Introduction
Scope of this Auditing Standard................................................................................................... 1
Nature of Accounting Estimates............................................................................................... 2-3
Key Concepts of this Auditing Standard................................................................................... 4-9
Effective Date............................................................................................................................ 10
Objective................................................................................................................................... 11
Definitions................................................................................................................................. 12
Requirements
Risk Assessment Procedures and Related Activities............................................................. 13-15
Identifying and Assessing the Risks of Material Misstatement.............................................. 16-17
Responses to the Assessed Risks of Material Misstatement.................................................. 18-30
Disclosures Related to Accounting Estimates............................................................................. 31
Indicators of Possible Management Bias.................................................................................... 32
Overall Evaluation Based on Audit Procedures Performed................................................... 33-36
Written Representations............................................................................................................. 37
Communication with Those Charged With Governance, Management, or Other Relevant Parties 38
Documentation.......................................................................................................................... 39
Application and Other Explanatory Material
Nature of Accounting Estimates.......................................................................................... A1-A7
Key Concepts of this Auditing Standard........................................................................... A8-A13
Definitions...................................................................................................................... A14-A18
Risk Assessment Procedures and Related Activities........................................................ A19-A63
Identifying and Assessing the Risks of Material Misstatement........................................ A64-A80
Responses to the Assessed Risks of Material Misstatement........................................... A81-A132
Indicators of Possible Management Bias..................................................................... A133-A136
Overall Evaluation Based on Audit Procedures Performed......................................... A137-A144
Written Representations........................................................................................................ A145
Communication with Those Charged With Governance, Management or Other Relevant Parties A146-A148
Documentation............................................................................................................ A149-A152
Appendix 1: Inherent Risk Factors
Appendix 2: Communications with Those Charged with Governance
COMPILATION DETAILS
Auditing Standard ASA 540 Auditing Accounting Estimates and Related Disclosures (as Amended)
This compilation takes into account amendments made up to and including 5 November 2021 and was prepared on 10 November 2021 by the Auditing and Assurance Standards Board (AUASB).
This compilation is not a separate Auditing Standard made by the AUASB. Instead, it is a representation of ASA 540 (December 2018) as amended by other Auditing Standards which are listed in the Table below.
Table of Standards
| Standard | Date made | Operative Date |
| ASA 540 [A] | 5 December 2018 | Financial reporting periods commencing on or after 15 December 2019* |
| ASA 2020-1 [B] | 3 March 2020 | Financial reporting periods commencing on or after 15 December 2021# |
| ASA 2021-5 [C] | 5 November 2021 | Financial reporting periods commencing on or after 15 December 2021 |
* Early adoption of this Auditing Standard is permitted prior to this date.
# Early adoption, in conjunction with ASA 315 Identifying and Assessing the Risks of Material Misstatement, permitted.
[A] Federal Register of Legislation – registration number F2019L00014, 3 January 2019
[B] Federal Register of Legislation – registration number F2020L00252, 13 March 2020
[C] Federal Register of Legislation – registration number F2021L01525, 8 November 2021
Table of Amendments
| Paragraph affected | How affected | By … [paragraph] |
| 4 | Amended | ASA 2020-1 [137] |
| 4 Footnote 5 | Addition | ASA 2020-1 [137 and 138] |
| 5 | Amended | ASA 2020-1 [139] |
| 6 | Amended | ASA 2020-1 [140] |
| 6 Footnote 6 | Deleted | ASA 2020-1 [140] |
| 8 | Amended | ASA 2020-1 [141] |
| 13 and Footnote 9 | Amended | ASA 2020-1 [142] |
| 16 and Footnote 11 | Amended | ASA 2020-1 [143] |
| 17 and Footnotes 12 and 13 | Amended | ASA 2020-1 [144] |
| 17 Footnote 14 | Addition | ASA 2020-1 [144] |
| 19 | Amended | ASA 2020-1 [145] |
| A8 | Amended | ASA 2020-1 [146] |
| A8 Footnote 33 | Addition | ASA 2020-1 [146] |
| A9 | Amended | ASA 2020-1 [147] |
| A9 Footnote 34 | Addition | ASA 2020-1 [147] |
| A10 | Amended | ASA 2020-1 [148] |
| Sub-heading under section heading “Risk Assessment Procedures and Related Activities” | Amended | ASA 2020-1 [149] |
| A19 | Amended | ASA 2020-1 [150] |
| A20 | Amended | ASA 2020-1 [151] |
| Sub-heading under section heading “The Entity and Its Environment” | Amended | ASA 2020-1 [152] |
| A24 | Amended | ASA 2020-1 [153] |
| Sub-heading after paragraph A27 | Amended | ASA 2020-1 [154] |
| A28 and Footnote 36 | Amended | ASA 2020-1 [155] |
| A32 | Amended | ASA 2020-1 [156] |
| A34 | Amended | ASA 2020-1 [157] |
| A35 and Footnote 39 | Amended | ASA 2020-1 [158] |
| A39 | Amended | ASA 2020-1 [159] |
| A44 | Amended | ASA 2020-1 [160] |
| Sub-heading before paragraph A50 | Amended | ASA 2020-1 [161] |
| A50 | Amended | ASA 2020-1 [162] |
| A51 | Amended | ASA 2020-1 [163] |
| A52 | Amended | ASA 2020-1 [164] |
| A53 and Footnote 41 | Amended | ASA 2020-1 [165] |
| A54 | Amended | ASA 2020-1 [166] |
| A59 | Amended | ASA 2020-1 [167] |
| A60 | Amended | ASA 2020-1 [168] |
| A65 | Amended | ASA 2020-1 [169] |
| A65 Footnote 46 | Addition | ASA 2020-1 [169] |
| A66 | Amended | ASA 2020-1 [170] |
| A66 Footnote 48 | Addition | ASA 2020-1 [170] |
| A68 | Amended | ASA 2020-1 [171] |
| A70 and Footnote 49 | Amended | ASA 2020-1 [172] |
| A79 | Amended | ASA 2020-1 [173] |
| Sub-heading before paragraph A85 | Amended | ASA 2020-1 [174] |
| A85 | Amended | ASA 2020-1 [175] |
| Renumbering of footnotes | Amended | ASA 2020-1 [176] |
| A104 Footnote 56 | Amended | ASA 2020-1 [177] |
| A137 Footnote 65 | Amended | ASA 2020-1 [178] |
| A149 Footnote 72 | Amended | ASA 2020-1 [179] |
| 4 | Amended | ASA 2021-5 [22] |
AUTHORITY STATEMENT
Auditing Standard ASA 540 Auditing Accounting Estimates and Related Disclosures (as amended to 5 November 2021) is set out in paragraphs Aus 0.1 to A152 and Appendices 1 to 2.
This Auditing Standard is to be read in conjunction with ASA 101 Preamble to AUASB Standards, which sets out how AUASB Standards are to be understood, interpreted and applied. This Auditing Standard is to be read also in conjunction with ASA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Australian Auditing Standards.
Conformity with International Standards on Auditing
This Auditing Standard conforms with International Standard on Auditing ISA 540 Auditing Accounting Estimates and Related Disclosures issued by the International Auditing and Assurance Standards Board (IAASB), an independent standard‑setting board of the International Federation of Accountants (IFAC).
Paragraphs that have been added to this Auditing Standard (and do not appear in the text of the equivalent ISA) are identified with the prefix “Aus”.
This Auditing Standard incorporates terminology and definitions used in Australia.
The equivalent requirements and related application and other explanatory material included in ISA 540 in respect of “relevant ethical requirements”, have been included in Auditing Standard, ASA 102 Compliance with Ethical Requirements when Performing Audits, Reviews and Other Assurance Engagements. There is no international equivalent to ASA 102.
Compliance with this Auditing Standard enables compliance with ISA 540.
AUDITING STANDARD ASA 540
The Auditing and Assurance Standards Board (AUASB) made Auditing Standard ASA 540 Auditing Accounting Estimates and Related Disclosures pursuant to section 227B of the Australian Securities and Investments Commission Act 2001 and section 336 of the Corporations Act 2001, on 5 December 2018.
This compiled version of ASA 540 incorporates subsequent amendments contained in other Auditing Standards made by the AUASB up to and including 5 November 2021 (see Compilation Details).
AUDITING STANDARD ASA 540
Auditing Accounting Estimates and Related Disclosures
Application
Aus 0.1 This Auditing Standard applies to:
(a) an audit of a financial report for a financial year, or an audit of a financial report for a half-year, in accordance with the Corporations Act 2001; and
(b) an audit of a financial report, or a complete set of financial statements, for any other purpose.
Aus 0.2 This Auditing Standard also applies, as appropriate, to an audit of other historical financial information.
Operative Date
Aus 0.3 This Auditing Standard is operative for financial reporting periods commencing on or after 15 December 2019. Early adoption of this Auditing Standard is permitted prior to this date. [Note: For operative dates of paragraphs changed or added by an Amending Standard, see Compilation Details.]
Introduction
Scope of this Auditing Standard
This Auditing Standard deals with the auditor’s responsibilities relating to accounting estimates and related disclosures in an audit of a financial report. Specifically, it includes requirements and guidance that refer to, or expand on, how ASA 315,[1] ASA 330,[2] ASA 450,[3] ASA 500[4] and other relevant Auditing Standards are to be applied in relation to accounting estimates and related disclosures. It also includes requirements and guidance on the evaluation of misstatements of accounting estimates and related disclosures, and indicators of possible management bias.
[1] See ASA 315 Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment.
[2] See ASA 330 The Auditor’s Responses to Assessed Risks.
[3] See ASA 450 Evaluation of Misstatements Identified during the Audit.
[4] See ASA 500 Audit Evidence.
Nature of Accounting Estimates
Accounting estimates vary widely in nature and are required to be made by management when the monetary amounts cannot be directly observed. The measurement of these monetary amounts is subject to estimation uncertainty, which reflects inherent limitations in knowledge or data. These limitations give rise to inherent subjectivity and variation in the measurement outcomes. The process of making accounting estimates involves selecting and applying a method using assumptions and data, which requires judgement by management and can give rise to complexity in measurement. The effects of complexity, subjectivity or other inherent risk factors on the measurement of these monetary amounts affects their susceptibility to misstatement. (Ref: Para. A1–A6, Appendix 1)
Although this Auditing Standard applies to all accounting estimates, the degree to which an accounting estimate is subject to estimation uncertainty will vary substantially. The nature, timing and extent of the risk assessment and further audit procedures required by this Auditing Standard will vary in relation to the estimation uncertainty and the assessment of the related risks of material misstatement. For certain accounting estimates, estimation uncertainty may be very low, based on their nature, and the complexity and subjectivity involved in making them may also be very low. For such accounting estimates, the risk assessment procedures and further audit procedures required by this Auditing Standard would not be expected to be extensive. When estimation uncertainty, complexity or subjectivity are very high, such procedures would be expected to be much more extensive. This Auditing Standard contains guidance on how the requirements of this Auditing Standard can be scaled. (Ref: Para. A7)
Key Concepts of this Auditing Standard
This Auditing Standard requires a separate assessment of inherent risk for identified risks of material misstatement at the assertion level.[5] In the context of ASA 540, and depending on the nature of a particular accounting estimate, the susceptibility of an assertion to a misstatement that could be material may be subject to or affected by estimation uncertainty, complexity, subjectivity or other inherent risk factors, and the interrelationship among them. As explained in ASA 200,[6] inherent risk is higher for some assertions and related classes of transactions, account balances and disclosures than for others. Accordingly, the assessment of inherent risk depends on the degree to which the inherent risk factors affect the likelihood or magnitude of misstatement, and varies on a scale that is referred to in this Auditing Standard as the spectrum of inherent risk. (Ref: Para. A8–A9, A65–A66, Appendix 1)
[5] See ASA 315, paragraph 31.
[6] See ASA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Australian Auditing Standards, paragraph A40.
This Auditing Standard refers to relevant requirements in ASA 315 and ASA 330, and provides related guidance, to emphasise the importance of the auditor’s decisions about controls relating to accounting estimates, including decisions about whether:
·There are controls required to be identified by ASA 315, for which the auditor is required to evaluate their design and determine whether they have been implemented.
·To test the operating effectiveness of controls.
ASA 315 also requires a separate assessment of control risk when assessing the risks of material misstatement at the assertion level. In assessing control risk, the auditor takes into account whether the auditor’s further audit procedures contemplate planned reliance on the operating effectiveness of controls. If the auditor does not plan to test the operating effectiveness of controls, or does not intend to rely on the operating effectiveness of controls, the auditor’s assessment of the control risk is such that the assessment of the risk of material misstatement is the same as the assessment of inherent risk. (Ref: Para. A10)
This Auditing Standard emphasises that the auditor’s further audit procedures (including, where appropriate, tests of controls) need to be responsive to the reasons for the assessed risks of material misstatement at the assertion level, taking into account the effect of one or more inherent risk factors and the auditor’s assessment of control risk.
The exercise of professional scepticism in relation to accounting estimates is affected by the auditor’s consideration of inherent risk factors, and its importance increases when accounting estimates are subject to a greater degree of estimation uncertainty or are affected to a greater degree by complexity, subjectivity or other inherent risk factors. Similarly, the exercise of professional scepticism is important when there is greater susceptibility to misstatement due to management bias or other fraud risk factors insofar as they affect inherent risk. (Ref: Para. A11)
This Auditing Standard requires the auditor to evaluate, based on the audit procedures performed and the audit evidence obtained, whether the accounting estimates and related disclosures are reasonable[7] in the context of the applicable financial reporting framework, or are misstated. For purposes of this Auditing Standard, reasonable in the context of the applicable financial reporting framework means that the relevant requirements of the applicable financial reporting framework have been applied appropriately, including those that address: (Ref: Para. A12–A13, A139–A144)
[7] See also ASA 700 Forming an Opinion and Reporting on a Financial report, paragraph 13(c).
·The making of the accounting estimate, including the selection of the method, assumptions and data in view of the nature of the accounting estimate and the facts and circumstances of the entity;
·The selection of management’s point estimate; and
·The disclosures about the accounting estimate, including disclosures about how the accounting estimate was developed and that explain the nature, extent, and sources of estimation uncertainty.
Effective Date
[Deleted by the AUASB. Refer Aus 0.3]
Objective
The objective of the auditor is to obtain sufficient appropriate audit evidence about whether accounting estimates and related disclosures in the financial report are reasonable in the context of the applicable financial reporting framework.
Definitions
For the purposes of this Auditing Standard, the following terms have the meanings attributed below:
(a)Accounting estimate – A monetary amount for which the measurement, in accordance with the requirements of the applicable financial reporting framework, is subject to estimation uncertainty. (Ref: Para. A14)
(b)Auditor’s point estimate or auditor’s range – An amount, or range of amounts, respectively, developed by the auditor in evaluating management’s point estimate. (Ref: Para. A15)
(c)Estimation uncertainty – Susceptibility to an inherent lack of precision in measurement. (Ref: Para. A16, Appendix 1)
(d)Management bias – A lack of neutrality by management in the preparation of information. (Ref: Para. A17)
(e)Management’s point estimate – The amount selected by management for recognition or disclosure in the financial report as an accounting estimate.
(f)Outcome of an accounting estimate – The actual monetary amount that results from the resolution of the transaction(s), event(s) or condition(s) addressed by an accounting estimate. (Ref: Para. A18)
Requirements
Risk Assessment Procedures and Related Activities
When obtaining an understanding of the entity and its environment, the applicable financial reporting framework and the entity’s system of internal control, as required by ASA 315,[8] the auditor shall obtain an understanding of the following matters related to the entity’s accounting estimates. The auditor’s procedures to obtain the understanding shall be performed to the extent necessary to obtain audit evidence that provides an appropriate basis for the identification and assessment of risks of material misstatement at the financial statement and assertion levels. (Ref: Para. A19–A22)
[8] See ASA 315, paragraphs 19–27.
Obtaining an Understanding of the Entity and Its Environment and the Applicable Financial Reporting Framework
(a)The entity’s transactions and other events or conditions that may give rise to the need for, or changes in, accounting estimates to be recognised or disclosed in the financial report. (Ref: Para. A23)
(b)The requirements of the applicable financial reporting framework related to accounting estimates (including the recognition criteria, measurement bases, and the related presentation and disclosure requirements); and how they apply in the context of the nature and circumstances of the entity and its environment, including how ,the inherent risk factors affect susceptibility to misstatement of assertions. (Ref: Para. A24–A25)
(c)Regulatory factors relevant to the entity’s accounting estimates, including, when applicable, regulatory frameworks related to prudential supervision. (Ref: Para. A26)
(d)The nature of the accounting estimates and related disclosures that the auditor expects to be included in the entity’s financial report, based on the auditor’s understanding of the matters in 13(a)–(c) above. (Ref: Para. A27)
Obtaining an Understanding of the Entity’s System of Internal Control
(e)The nature and extent of oversight and governance that the entity has in place over management’s financial reporting process relevant to accounting estimates. (Ref: Para. A28–A30).
(f)How management identifies the need for, and applies, specialised skills or knowledge related to accounting estimates, including with respect to the use of a management’s expert. (Ref: Para. A31)
(g)How the entity’s risk assessment process identifies and addresses risks relating to accounting estimates. (Ref: Para. A32–A33)
(h)The entity’s information system as it relates to accounting estimates, including:
(i)How information relating to accounting estimates and related disclosures for significant classes of transactions, account balances or disclosures flows through the entity’s information system; and (Ref: Para. A34–A35)
(ii)For such accounting estimates and related disclosures, how management:
Identifies the relevant methods, assumptions or sources of data, and the need for changes in them, that are appropriate in the context of the applicable financial reporting framework, including how management: (Ref: Para. A36–A37)
iSelects or designs, and applies, the methods used, including the use of models; (Ref: Para. A38–A39)
iiSelects the assumptions to be used, including consideration of alternatives, and identifies significant assumptions; and (Ref: Para. A40–A43)
iiiSelects the data to be used; (Ref: Para. A44)
Understands the degree of estimation uncertainty, including through considering the range of possible measurement outcomes; and (Ref: Para. A45)
Addresses the estimation uncertainty, including selecting a point estimate and related disclosures for inclusion in the financial report. (Ref: Para. A46–A49)
(i)Identified controls in the control activities component[9] over management’s process for making accounting estimates as described in paragraph 13(h)(ii). (Ref: Para. A50–A54)
[9] See ASA 315, paragraphs 26(a)(i)–(iv)
(j)How management reviews the outcome(s) of previous accounting estimates and responds to the results of that review.
The auditor shall review the outcome of previous accounting estimates, or, where applicable, their subsequent re‑estimation to assist in identifying and assessing the risks of material misstatement in the current period. The auditor shall take into account the characteristics of the accounting estimates in determining the nature and extent of that review. The review is not intended to call into question judgements about previous period accounting estimates that were appropriate based on the information available at the time they were made. (Ref: Para. A55–A60)
With respect to accounting estimates, the auditor shall determine whether the engagement team requires specialised skills or knowledge to perform the risk assessment procedures, to identify and assess the risks of material misstatement, to design and perform audit procedures to respond to those risks, or to evaluate the audit evidence obtained. (Ref: Para. A61–A63)
Identifying and Assessing the Risks of Material Misstatement
In identifying and assessing the risks of material misstatement relating to an accounting estimate and related disclosures at the assertion level, including separately assessing inherent risk and control risk at the assertion level, as required by ASA 315,[10] the auditor shall take the following into account in identifying the risks of material misstatement and in assessing inherent risk: (Ref: Para. A64–A71)
[10] See ASA 315, paragraph 31 and 34.
(a)The degree to which the accounting estimate is subject to estimation uncertainty; and (Ref: Para. A72–A75)
(b)The degree to which the following are affected by complexity, subjectivity, or other inherent risk factors: (Ref: Para. A76–A79)
(i)The selection and application of the method, assumptions and data in making the accounting estimate; or
(ii)The selection of management’s point estimate and related disclosures for inclusion in the financial report.
The auditor shall determine whether any of the risks of material misstatement identified and assessed in accordance with paragraph 16 are, in the auditor’s judgement, a significant risk.[11] If the auditor has determined that a significant risk exists, the auditor shall identify controls that address that risk,[12] and evaluate whether such controls have been designed effectively, and determine whether they have been implemented.[13] (Ref: Para. A80)
[11] See ASA 315, paragraph 32.
[12] See ASA 315, paragraph 26(a)(i).
[13] See ASA 315, paragraph 26(a)
Responses to the Assessed Risks of Material Misstatement
As required by ASA 330,[14] the auditor’s further audit procedures shall be responsive to the assessed risks of material misstatement at the assertion level,[15] considering the reasons for the assessment given to those risks. The auditor’s further audit procedures shall include one or more of the following approaches:
[14] See ASA 330, paragraphs 6–15 and 18.
[15] See ASA 330, paragraphs 6–7 and 21.
(a)Obtaining audit evidence from events occurring up to the date of the auditor’s report (see paragraph 21);
(b)Testing how management made the accounting estimate (see paragraphs 22–27); or
(c)Developing an auditor’s point estimate or range (see paragraphs 28–29).
The auditor’s further audit procedures shall take into account that the higher the assessed risk of material misstatement, the more persuasive the audit evidence needs to be.[16] The auditor shall design and perform further audit procedures in a manner that is not biased towards obtaining audit evidence that may be corroborative or towards excluding audit evidence that may be contradictory. (Ref: Para. A81–A84)
[16] See ASA 330, paragraph 7(b).
As required by ASA 330,[17] the auditor shall design and perform tests to obtain sufficient appropriate audit evidence as to the operating effectiveness of controls, if:
[17] See ASA 330, paragraph 8.
(a)The auditor’s assessment of risks of material misstatement at the assertion level includes an expectation that the controls are operating effectively, or
(b)Substantive procedures alone cannot provide sufficient appropriate audit evidence at the assertion level.
In relation to accounting estimates, the auditor’s tests of such controls shall be responsive to the reasons for the assessment given to the risks of material misstatement. In designing and performing tests of controls, the auditor shall obtain more persuasive audit evidence the greater the reliance the auditor places on the effectiveness of a control.[18] (Ref: Para. A85–A89)
[18] See ASA 330, paragraph 9.
For a significant risk relating to an accounting estimate, the auditor’s further audit procedures shall include tests of controls in the current period if the auditor plans to rely on those controls. When the approach to a significant risk consists only of substantive procedures, those procedures shall include tests of details.[19] (Ref: Para. A90)
[19] See ASA 330, paragraphs 15 and 21.
Obtaining Audit Evidence from Events Occurring up to the Date of the Auditor’s Report
When the auditor’s further audit procedures include obtaining audit evidence from events occurring up to the date of the auditor’s report, the auditor shall evaluate whether such audit evidence is sufficient and appropriate to address the risks of material misstatement relating to the accounting estimate, taking into account that changes in circumstances and other relevant conditions between the event and the measurement date may affect the relevance of such audit evidence in the context of the applicable financial reporting framework. (Ref: Para. A91–A93)
Testing How Management Made the Accounting Estimate
When testing how management made the accounting estimate, the auditor’s further audit procedures shall include procedures, designed and performed in accordance with paragraphs 23–26, to obtain sufficient appropriate audit evidence regarding the risks of material misstatement relating to: (Ref: Para. A94)
(a)The selection and application of the methods, significant assumptions and the data used by management in making the accounting estimate; and
(b)How management selected the point estimate and developed related disclosures about estimation uncertainty.
Methods
In applying the requirements of paragraph 22, with respect to methods, the auditor’s further audit procedures shall address:
(a)Whether the method selected is appropriate in the context of the applicable financial reporting framework, and, if applicable, changes from the method used in prior periods are appropriate; (Ref: Para. A95, A97)
(b)Whether judgements made in selecting the method give rise to indicators of possible management bias; (Ref: Para. A96)
(c)Whether the calculations are applied in accordance with the method and are mathematically accurate;
(d)When management’s application of the method involves complex modelling, whether judgements have been applied consistently and whether, when applicable: (Ref: Para. A98–A100)
(i)The design of the model meets the measurement objective of the applicable financial reporting framework, is appropriate in the circumstances, and, if applicable, changes from the prior period’s model are appropriate in the circumstances; and
(ii)Adjustments to the output of the model are consistent with the measurement objective of the applicable financial reporting framework and are appropriate in the circumstances; and
(e)Whether the integrity of the significant assumptions and the data has been maintained in applying the method. (Ref: Para. A101)
Significant Assumptions
In applying the requirements of paragraph 22, with respect to significant assumptions, the auditor’s further audit procedures shall address:
(a)Whether the significant assumptions are appropriate in the context of the applicable financial reporting framework, and, if applicable, changes from prior periods are appropriate; (Ref: Para. A95, A102–A103)
(b)Whether judgements made in selecting the significant assumptions give rise to indicators of possible management bias; (Ref: Para. A96)
(c)Whether the significant assumptions are consistent with each other and with those used in other accounting estimates, or with related assumptions used in other areas of the entity’s business activities, based on the auditor’s knowledge obtained in the audit; and (Ref: Para. A104)
(d)When applicable, whether management has the intent to carry out specific courses of action and has the ability to do so. (Ref: Para. A105)
Data
In applying the requirements of paragraph 22, with respect to data, the auditor’s further audit procedures shall address:
(a)Whether the data is appropriate in the context of the applicable financial reporting framework, and, if applicable, changes from prior periods are appropriate; (Ref: Para. A95, A106)
(b)Whether judgements made in selecting the data give rise to indicators of possible management bias; (Ref: Para. A96)
(c)Whether the data is relevant and reliable in the circumstances; and (Ref: Para. A107)
(d)Whether the data has been appropriately understood or interpreted by management, including with respect to contractual terms. (Ref: Para. A108)
Management’s Selection of a Point Estimate and Related Disclosures about Estimation Uncertainty
In applying the requirements of paragraph 22, the auditor’s further audit procedures shall address whether, in the context of the applicable financial reporting framework, management has taken appropriate steps to:
(a)Understand estimation uncertainty; and (Ref: Para. A109)
(b)Address estimation uncertainty by selecting an appropriate point estimate and by developing related disclosures about estimation uncertainty. (Ref: Para. A110–A114)
When, in the auditor’s judgement based on the audit evidence obtained, management has not taken appropriate steps to understand or address estimation uncertainty, the auditor shall: (Ref: Para. A115–A117)
(a)Request management to perform additional procedures to understand estimation uncertainty or to address it by reconsidering the selection of management’s point estimate or considering providing additional disclosures relating to the estimation uncertainty, and evaluate management’s response(s) in accordance with paragraph 26;
(b)If the auditor determines that management’s response to the auditor’s request does not sufficiently address estimation uncertainty, to the extent practicable, develop an auditor’s point estimate or range in accordance with paragraphs 28–29; and
(c)Evaluate whether a deficiency in internal control exists and, if so, communicate in accordance with ASA 265.[20]
[20] See ASA 265 Communicating Deficiencies in Internal Control to Those Charged with Governance and Management.
Developing an Auditor’s Point Estimate or Range
When the auditor develops a point estimate or range to evaluate management’s point estimate and related disclosures about estimation uncertainty, including when required by paragraph 27(b), the auditor’s further audit procedures shall include procedures to evaluate whether the methods, assumptions or data used are appropriate in the context of the applicable financial reporting framework. Regardless of whether the auditor uses management’s or the auditor’s own methods, assumptions or data, these further audit procedures shall be designed and performed to address the matters in paragraphs 23–25. (Ref: Para. A118–A123)
If the auditor develops an auditor’s range, the auditor shall:
(a)Determine that the range includes only amounts that are supported by sufficient appropriate audit evidence and have been evaluated by the auditor to be reasonable in the context of the measurement objectives and other requirements of the applicable financial reporting framework; and (Ref: Para. A124–A125)
(b)Design and perform further audit procedures to obtain sufficient appropriate audit evidence regarding the assessed risks of material misstatement relating to the disclosures in the financial report that describe the estimation uncertainty.
Other Considerations Relating to Audit Evidence
In obtaining audit evidence regarding the risks of material misstatement relating to accounting estimates, irrespective of the sources of information to be used as audit evidence, the auditor shall comply with the relevant requirements in ASA 500.
When using the work of a management’s expert, the requirements in paragraphs 21–29 of this Auditing Standard may assist the auditor in evaluating the appropriateness of the expert’s work as audit evidence for a relevant assertion in accordance with paragraph 8(c) of ASA 500. In evaluating the work of the management’s expert, the nature, timing and extent of the further audit procedures are affected by the auditor’s evaluation of the expert’s competence, capabilities and objectivity, the auditor’s understanding of the nature of the work performed by the expert, and the auditor’s familiarity with the expert’s field of expertise. (Ref: Para. A126–A132)
Disclosures Related to Accounting Estimates
The auditor shall design and perform further audit procedures to obtain sufficient appropriate audit evidence regarding the assessed risks of material misstatement at the assertion level for disclosures related to an accounting estimate, other than those related to estimation uncertainty addressed in paragraphs 26(b) and 29(b).
Indicators of Possible Management Bias
The auditor shall evaluate whether judgements and decisions made by management in making the accounting estimates included in the financial report, even if they are individually reasonable, are indicators of possible management bias. When indicators of possible management bias are identified, the auditor shall evaluate the implications for the audit. Where there is intention to mislead, management bias is fraudulent in nature. (Ref: Para. A133–A136)
Overall Evaluation Based on Audit Procedures Performed
In applying ASA 330 to accounting estimates,[21] the auditor shall evaluate, based on the audit procedures performed and audit evidence obtained, whether: (Ref: Para A137–A138)
[21] See ASA 330, paragraphs 25–26.
(a)The assessments of the risks of material misstatement at the assertion level remain appropriate, including when indicators of possible management bias have been identified;
(b)Management’s decisions relating to the recognition, measurement, presentation and disclosure of these accounting estimates in the financial report are in accordance with the applicable financial reporting framework; and
(c)Sufficient appropriate audit evidence has been obtained.
In making the evaluation required by paragraph 33(c), the auditor shall take into account all relevant audit evidence obtained, whether corroborative or contradictory.[22] If the auditor is unable to obtain sufficient appropriate audit evidence, the auditor shall evaluate the implications for the audit or the auditor’s opinion on the financial report in accordance with ASA 705.[23]
[22] See ASA 500, paragraph 11.
[23] See ASA 705 Modifications to the Opinion in the Independent Auditor’s Report.
Determining Whether the Accounting Estimates are Reasonable or Misstated
The auditor shall determine whether the accounting estimates and related disclosures are reasonable in the context of the applicable financial reporting framework, or are misstated. ASA 450[24] provides guidance on how the auditor may distinguish misstatements (whether factual, judgemental, or projected) for the auditor’s evaluation of the effect of uncorrected misstatements on the financial report. (Ref: Para. A12–A13, A139–A144)
[24] See ASA 450, paragraph A6.
In relation to accounting estimates, the auditor shall evaluate:
(a)In the case of a fair presentation framework, whether management has included disclosures, beyond those specifically required by the framework, that are necessary to achieve the fair presentation of the financial report as a whole;[25] or
[25] See also ASA 700, paragraph 14.
(b)In the case of a compliance framework, whether the disclosures are those that are necessary for the financial report not to be misleading.[26]
[26] See also ASA 700, paragraph 19.
Written Representations
The auditor shall request written representations from management[27] and, when appropriate, those charged with governance about whether the methods, significant assumptions and the data used in making the accounting estimates and the related disclosures are appropriate to achieve recognition, measurement or disclosure that is in accordance with the applicable financial reporting framework. The auditor shall also consider the need to obtain representations about specific accounting estimates, including in relation to the methods, assumptions, or data used. (Ref: Para. A145)
[27] See ASA 580 Written Representations.
Communication with Those Charged With Governance, Management, or Other Relevant Parties
In applying ASA 260[28] and ASA 265,[29] the auditor is required to communicate with those charged with governance or management about certain matters, including significant qualitative aspects of the entity’s accounting practices and significant deficiencies in internal control, respectively. In doing so, the auditor shall consider the matters, if any, to communicate regarding accounting estimates and take into account whether the reasons given to the risks of material misstatement relate to estimation uncertainty, or the effects of complexity, subjectivity or other inherent risk factors in making accounting estimates and related disclosures. In addition, in certain circumstances, the auditor is required by law or regulation to communicate about certain matters with other relevant parties, such as regulators or prudential supervisors. (Ref: Para. A146–A148)
[28] See ASA 260 Communication with Those Charged with Governance, paragraph 16(a).
[29] See ASA 265, paragraph 9.
Documentation
The auditor shall include in the audit documentation:[30] (Ref: Para. A149–A152)
[30] See ASA 230 Audit Documentation, paragraphs 8–11, A6, A7 and A10.
(a)Key elements of the auditor’s understanding of the entity and its environment, including the entity’s internal control related to the entity’s accounting estimates;
(b)The linkage of the auditor’s further audit procedures with the assessed risks of material misstatement at the assertion level,[31] taking into account the reasons (whether related to inherent risk or control risk) given to the assessment of those risks;
[31] See ASA 330, paragraph 28(b).
(c)The auditor’s response(s) when management has not taken appropriate steps to understand and address estimation uncertainty;
(d)Indicators of possible management bias related to accounting estimates, if any, and the auditor’s evaluation of the implications for the audit, as required by paragraph 32; and
(e)Significant judgements relating to the auditor’s determination of whether the accounting estimates and related disclosures are reasonable in the context of the applicable financial reporting framework, or are misstated.
* * *
Application and Other Explanatory Material
Nature of Accounting Estimates (Ref: Para. 2)
Examples of Accounting Estimates
A1.Examples of accounting estimates related to classes of transactions, account balances and disclosures include:
·Inventory obsolescence.
·Depreciation of property and equipment.
·Valuation of infrastructure assets.
·Valuation of financial instruments.
·Outcome of pending litigation.
·Provision for expected credit losses.
·Valuation of insurance contract liabilities.
·Warranty obligations.
·Employee retirement benefits liabilities.
·Share‑based payments.
·Fair value of assets or liabilities acquired in a business combination, including the determination of goodwill and intangible assets.
·Impairment of long‑lived assets or property or equipment held for disposal.
·Non‑monetary exchanges of assets or liabilities between independent parties.
·Revenue recognised for long‑term contracts.
Methods
A2.A method is a measurement technique used by management to make an accounting estimate in accordance with the required measurement basis. For example, one recognised method used to make accounting estimates relating to share‑based payment transactions is to determine a theoretical option call price using the Black‑Scholes option pricing formula. A method is applied using a computational tool or process, sometimes referred to as a model, and involves applying assumptions and data and taking into account a set of relationships between them.
Assumptions and Data
A3.Assumptions involve judgements based on available information about matters such as the choice of an interest rate, a discount rate, or judgements about future conditions or events. An assumption may be selected by management from a range of appropriate alternatives. Assumptions that may be made or identified by a management’s expert become management’s assumptions when used by management in making an accounting estimate.
A4.For purposes of this Auditing Standard, data is information that can be obtained through direct observation or from a party external to the entity. Information obtained by applying analytical or interpretive techniques to data is referred to as derived data when such techniques have a well‑established theoretical basis and therefore less need for management judgement. Otherwise, such information is an assumption.
A5.Examples of data include:
·Prices agreed in market transactions;
·Operating times or quantities of output from a production machine;
·Historical prices or other terms included in contracts, such as a contracted interest rate, a payment schedule, and term included in a loan agreement;
·Forward‑looking information such as economic or earnings forecasts obtained from an external information source, or
·A future interest rate determined using interpolation techniques from forward interest rates (derived data).
A6.Data can come from a wide range of sources. For example, data can be:
·Generated within the organisation or externally;
·Obtained from a system that is either within or outside the general or subsidiary ledgers;
·Observable in contracts; or
·Observable in legislative or regulatory pronouncements.
Scalability (Ref: Para. 3)
A7.Examples of paragraphs that include guidance on how the requirements of this Auditing Standard can be scaled include paragraphs A20–A22, A63, A67, and A84.
Key Concepts of this Auditing Standard
Inherent Risk Factors (Ref: Para. 4)
A8.Inherent risk factors are characteristics of events or conditions that affect susceptibility to misstatement, whether due to fraud or error, of an assertion about a class of transactions, account balance or disclosures, before consideration of controls.[32] Appendix 1 further explains the nature of these inherent risk factors, and their inter‑relationships, in the context of making accounting estimates and their presentation in the financial report.
[32] See ASA 315, paragraph 12(f)
A9.When assessing the risks of material misstatement at the assertion level[33], in addition to estimation uncertainty, complexity, and subjectivity, the auditor also takes into account the degree to which inherent risk factors included in ASA 315, (other than estimation uncertainty, complexity, and subjectivity), affect susceptibility to misstatement of assertions to misstatement about the accounting estimate. Such additional inherent risk factors include:
[33] See ASA 315, paragraph 31
·Change in the nature or circumstances of the relevant financial statement items, or requirements of the applicable financial reporting framework which may give rise to the need for changes in the method, assumptions or data used to make the accounting estimate.
·Susceptibility to misstatement due to management bias, or other fraud risk factors insofar as they affect inherent risk, in making the accounting estimate.
·Uncertainty, other than estimation uncertainty.
Control Risk (Ref: Para. 6)
A10.In assessing control risk at the assertion level in accordance with ASA 315, the auditor takes into account whether the auditor plans to test the operating effectiveness of controls. When the auditor is considering whether to test the operating effectiveness of controls, the auditor’s evaluation that controls are effectively designed and have been implemented supports an expectation, by the auditor, about the operating effectiveness of the controls in establishing the plan to test them.
Professional Scepticism (Ref: Para. 8)
A11.Paragraphs A60, A95, A96, A137 and A139 are examples of paragraphs that describe ways in which the auditor can exercise professional scepticism. Paragraph A152 provides guidance on ways in which the auditor’s exercise of professional scepticism may be documented, and includes examples of specific paragraphs in this Auditing Standard for which documentation may provide evidence of the exercise of professional scepticism.
Concept of “Reasonable” (Ref: Para. 9, 35)
A12.Other considerations that may be relevant to the auditor’s consideration of whether the accounting estimates and related disclosures are reasonable in the context of the applicable financial reporting framework include whether:
·The data and assumptions used in making the accounting estimate are consistent with each other and with those used in other accounting estimates or areas of the entity’s business activities; and
·The accounting estimate takes into account appropriate information as required by the applicable financial reporting framework.
A13.The term “applied appropriately” as used in paragraph 9 means in a manner that not only complies with the requirements of the applicable financial reporting framework but, in doing so, reflects judgements that are consistent with the objective of the measurement basis in that framework.
Definitions
Accounting Estimate (Ref: Para. 12(a))
A14.Accounting estimates are monetary amounts that may be related to classes of transactions or account balances recognised or disclosed in the financial report. Accounting estimates also include monetary amounts included in disclosures or used to make judgements about recognition or disclosure relating to a class of transactions or account balance.
Auditor’s Point Estimate or Auditor’s Range (Ref: Para. 12(b))
A15.An auditor’s point estimate or range may be used to evaluate an accounting estimate directly (for example, an impairment provision or the fair value of different types of financial instruments), or indirectly (for example, an amount to be used as a significant assumption for an accounting estimate). A similar approach may be taken by the auditor in developing an amount or range of amounts in evaluating a non‑monetary item of data or an assumption (for example, an estimated useful life of an asset).
Estimation Uncertainty (Ref: Para. 12(c))
A16.Not all accounting estimates are subject to a high degree of estimation uncertainty. For example, some financial statement items may have an active and open market that provides readily available and reliable information on the prices at which actual exchanges occur. However, estimation uncertainty may exist even when the valuation method and data are well defined. For example, valuation of securities quoted on an active and open market at the listed market price may require adjustment if the holding is significant or is subject to restrictions in marketability. In addition, general economic circumstances prevailing at the time, for example, illiquidity in a particular market, may impact estimation uncertainty.
Management Bias (Ref: Para. 12(d))
A17.Financial reporting frameworks often call for neutrality, that is, freedom from bias. Estimation uncertainty gives rise to subjectivity in making an accounting estimate. The presence of subjectivity gives rise to the need for judgement by management and the susceptibility to unintentional or intentional management bias (for example, as a result of motivation to achieve a desired profit target or capital ratio). The susceptibility of an accounting estimate to management bias increases with the extent to which there is subjectivity in making the accounting estimate.
Outcome of an Accounting Estimate (Ref: Para. 12(f))
A18.Some accounting estimates, by their nature, do not have an outcome that is relevant for the auditor’s work performed in accordance with this Auditing Standard. For example, an accounting estimate may be based on perceptions of market participants at a point in time. Accordingly, the price realised when an asset is sold or a liability is transferred may differ from the related accounting estimate made at the reporting date because, with the passage of time, the market participants’ perceptions of value have changed.
Risk Assessment Procedures and Related Activities
Obtaining an Understanding of the Entity and Its Environment, the Applicable Financial Reporting Framework, and the Entity’s System of Internal Control (Ref: Para. 13)
A19.Paragraphs 19–27 of ASA 315 require the auditor to obtain an understanding of certain matters about the entity and its environment, the applicable financial reporting framework and the entity’s system of internal control. The requirements in paragraph 13 of this Auditing Standard relate more specifically to accounting estimates and build on the broader requirements in ASA 315.
Scalability
A20.The nature, timing, and extent of the auditor’s procedures to obtain the understanding of the entity and its environment, the applicable financial reporting framework, and the entity’s system of internal control, related to the entity’s accounting estimates, may depend, to a greater or lesser degree, on the extent to which the individual matter(s) apply in the circumstances. For example, the entity may have few transactions or other events or conditions that give rise to the need for accounting estimates, the applicable financial reporting requirements may be simple to apply, and there may be no relevant regulatory factors. Further, the accounting estimates may not require significant judgements, and the process for making the accounting estimates may be less complex. In these circumstances, the accounting estimates may be subject to, or affected by, estimation uncertainty, complexity, subjectivity, or other inherent risk factors to a lesser degree and there may be fewer identified controls in the control activities component. If so, the auditor’s risk identification and assessment procedures are likely to be less extensive and may be obtained primarily through enquiries of management with appropriate responsibilities for the financial report, such as simple walk‑throughs of management’s process for making the accounting estimate (including when evaluating whether identified controls in that process are designed effectively and when determining whether the control has been implemented).
A21.By contrast, the accounting estimates may require significant judgements by management, and the process for making the accounting estimates may be complex and involve the use of complex models. In addition, the entity may have a more sophisticated information system, and more extensive controls over accounting estimates. In these circumstances, the accounting estimates may be subject to or affected by estimation uncertainty, subjectivity, complexity or other inherent risk factors to a greater degree. If so, the nature or timing of the auditor’s risk assessment procedures are likely to be different, or be more extensive, than in the circumstances in paragraph A20.
A22.The following considerations may be relevant for entities with only simple businesses, which may include many smaller entities:
·Processes relevant to accounting estimates may be uncomplicated because the business activities are simple or the required estimates may have a lesser degree of estimation uncertainty.
·Accounting estimates may be generated outside of the general and subsidiary ledgers, controls over their development may be limited, and an owner‑manager may have significant influence over their determination. The owner‑manager’s role in making the accounting estimates may need to be taken into account by the auditor both when identifying the risks of material misstatement and when considering the risk of management bias.
The Entity and Its Environment
The entity’s transactions and other events or conditions (Ref: Para. 13(a))
A23.Changes in circumstances that may give rise to the need for, or changes in, accounting estimates may include, for example, whether:
·The entity has engaged in new types of transactions;
·Terms of transactions have changed; or
·New events or conditions have occurred.
The requirements of the applicable financial reporting framework (Ref: Para. 13(b))
A24.Obtaining an understanding of the requirements of the applicable financial reporting framework provides the auditor with a basis for discussion with management and, where applicable, those charged with governance about how management has applied the requirements of the applicable financial reporting framework relevant to the accounting estimates, and about the auditor’s determination of whether they have been applied appropriately. This understanding also may assist the auditor in communicating with those charged with governance when the auditor considers a significant accounting practice that is acceptable under the applicable financial reporting framework not to be the most appropriate in the circumstances of the entity.[34]
[34] See ASA 260, paragraph 16(a).
A25.In obtaining this understanding, the auditor may seek to understand whether:
·The applicable financial reporting framework:
oPrescribes certain criteria for the recognition, or methods for the measurement of accounting estimates;
oSpecifies certain criteria that permit or require measurement at a fair value, for example, by referring to management’s intentions to carry out certain courses of action with respect to an asset or liability; or
oSpecifies required or suggested disclosures, including disclosures concerning judgements, assumptions, or other sources of estimation uncertainty relating to accounting estimates; and
·Changes in the applicable financial reporting framework require changes to the entity’s accounting policies relating to accounting estimates.
Regulatory factors (Ref: Para. 13(c))
A26.Obtaining an understanding of regulatory factors, if any, that are relevant to accounting estimates may assist the auditor in identifying applicable regulatory frameworks (for example, regulatory frameworks established by prudential supervisors in the banking or insurance industries) and in determining whether such regulatory framework(s):
·Addresses conditions for the recognition, or methods for the measurement, of accounting estimates, or provides related guidance thereon;
·Specifies, or provides guidance about, disclosures in addition to the requirements of the applicable financial reporting framework;
·Provides an indication of areas for which there may be a potential for management bias to meet regulatory requirements; or
·Contains requirements for regulatory purposes that are not consistent with requirements of the applicable financial reporting framework, which may indicate potential risks of material misstatement. For example, some regulators may seek to influence minimum levels for expected credit loss provisions that exceed those required by the applicable financial reporting framework.
The nature of the accounting estimates and related disclosures that the auditor expects to be included in the financial report (Ref: Para. 13(d))
A27.Obtaining an understanding of the nature of accounting estimates and related disclosures that the auditor expects to be included in the entity’s financial report assists the auditor in understanding the measurement basis of such accounting estimates and the nature and extent of disclosures that may be relevant. Such an understanding provides the auditor with a basis for discussion with management about how management makes the accounting estimates.
The Entity’s System of Internal Control
The nature and extent of oversight and governance (Ref: Para. 13(e))
A28.In applying ASA 315,[35] the auditor’s understanding of the nature and extent of oversight and governance that the entity has in place over management’s process for making accounting estimates may be important to the auditor’s required evaluation of whether:
[35] See ASA 315, paragraph 21(a).
·Management, with the oversight of those charged with governance, has created and maintained a culture of honesty and ethical behaviour;
·The control environment provides an appropriate foundation for the other components of the system of internal control considering the nature and size of the entity; and
·Control deficiencies identified in the control environment undermine the other components of the system of internal control.
A29.The auditor may obtain an understanding of whether those charged with governance:
·Have the skills or knowledge to understand the characteristics of a particular method or model to make accounting estimates, or the risks related to the accounting estimate, for example, risks related to the method or information technology used in making the accounting estimates;
·Have the skills and knowledge to understand whether management made the accounting estimates in accordance with the applicable financial reporting framework;
·Are independent from management, have the information required to evaluate on a timely basis how management made the accounting estimates, and the authority to call into question management’s actions when those actions appear to be inadequate or inappropriate;
·Oversee management’s process for making the accounting estimates, including the use of models; or
·Oversee the monitoring activities undertaken by management. This may include supervision and review procedures designed to detect and correct any deficiencies in the design or operating effectiveness of controls over the accounting estimates.
A30.Obtaining an understanding of the oversight by those charged with governance may be important when there are accounting estimates that:
·Require significant judgement by management to address subjectivity;
·Have high estimation uncertainty;
·Are complex to make, for example, because of the extensive use of information technology, large volumes of data or the use of multiple data sources or assumptions with complex interrelationships;
·Had, or ought to have had, a change in the method, assumptions or data compared to previous periods; or
·Involve significant assumptions.
Management’s application of specialised skills or knowledge, including the use of management’s experts (Ref: Para. 13(f))
A31.The auditor may consider whether the following circumstances increase the likelihood that management needs to engage an expert:[36]
[36] See ASA 500, paragraph 8.
·The specialised nature of the matter requiring estimation, for example, the accounting estimate may involve measurement of mineral or hydrocarbon reserves in extractive industries or the evaluation of the likely outcome of applying complex contractual terms.
·The complex nature of the models required to apply the relevant requirements of the applicable financial reporting framework, as may be the case in certain measurements, such as level 3 fair values.[37]
[37] See, for example, Accounting Standard AASB 13 Fair Value Measurement.
·The unusual or infrequent nature of the condition, transaction or event requiring an accounting estimate.
The entity’s risk assessment process (Ref: Para. 13(g))
A32.Understanding how the entity’s risk assessment process identifies and addresses risks relating to accounting estimates may assist the auditor in considering changes in:
·The requirements of the applicable financial reporting framework related to the accounting estimates;
·The availability or nature of data sources that are relevant to making the accounting estimates or that may affect the reliability of the data used;
·The entity’s information systems or IT environment; and
·Key personnel.
A33.Matters that the auditor may consider in obtaining an understanding of how management identified and addresses the susceptibility to misstatement due to management bias or fraud in making accounting estimates, include whether and, if so, how management:
·Pays particular attention to selecting or applying the methods, assumptions and data used in making accounting estimates.
·Monitors key performance indicators that may indicate unexpected or inconsistent performance compared with historical or budgeted performance or with other known factors.
·Identifies financial or other incentives that may be a motivation for bias.
·Monitors the need for changes in the methods, significant assumptions or the data used in making accounting estimates.
·Establishes appropriate oversight and review of models used in making accounting estimates.
·Requires documentation of the rationale for, or an independent review of, significant judgements made in making accounting estimates.
The entity’s information system relating to accounting estimates (Ref: Para. 13(h)(i))
A34.The significant classes of transactions, events and conditions within the scope of paragraph 13(h) are the same as the significant classes of transactions, events and conditions relating to accounting estimates and related disclosures that are subject to paragraphs 25(a) of ASA 315. In obtaining the understanding of the entity’s information system as it relates to accounting estimates, the auditor may consider:
·Whether the accounting estimates arise from the recording of routine and recurring transactions or whether they arise from non‑recurring or unusual transactions.
·How the information system addresses the completeness of accounting estimates and related disclosures, in particular for accounting estimates related to liabilities.
A35.During the audit, the auditor may identify classes of transactions, events or conditions that give rise to the need for accounting estimates and related disclosures that management failed to identify. ASA 315 deals with circumstances where the auditor identifies risks of material misstatement that management failed to identify, including considering the implications for the auditor’s evaluation of the entity’s risk assessment process.[38]
38 See ASA 315, paragraph 22(b).
Management’s identification of the relevant methods, assumptions and sources of data (Ref: Para. 13(h)(ii)(a))
A36.If management has changed the method for making an accounting estimate, considerations may include whether the new method is, for example, more appropriate, is itself a response to changes in the environment or circumstances affecting the entity, or to changes in the requirements of the applicable financial reporting framework or regulatory environment, or whether management has another valid reason.
A37.If management has not changed the method for making an accounting estimate, considerations may include whether the continued use of the previous methods, assumptions and data is appropriate in view of the current environment or circumstances.
Methods (Ref: Para. 13(h)(ii)(a)(i))
A38.The applicable financial reporting framework may prescribe the method to be used in making an accounting estimate. In many cases, however, the applicable financial reporting framework does not prescribe a single method, or the required measurement basis prescribes, or allows, the use of alternative methods.
Models
A39.Management may design and implement specific controls around models used for making accounting estimates, whether management’s own model or an external model. When the model itself has an increased level of complexity or subjectivity, such as an expected credit loss model or a fair value model using level 3 inputs, controls that address such complexity or subjectivity may be more likely to be identified as relevant to the audit. When complexity in relation to models is present, controls over data integrity are also more likely to be identified controls in accordance with ASA 315. Factors that may be appropriate for the auditor to consider in obtaining an understanding of the model and related identified controls include the following:
·How management determines the relevance and accuracy of the model;
·The validation or back testing of the model, including whether the model is validated prior to use and revalidated at regular intervals to determine whether it remains suitable for its intended use. The entity’s validation of the model may include evaluation of:
oThe model’s theoretical soundness;
oThe model’s mathematical integrity; and
oThe accuracy and completeness of the data and the appropriateness of data and assumptions used in the model.
·How the model is appropriately changed or adjusted on a timely basis for changes in market or other conditions and whether there are appropriate change control policies over the model;
·Whether adjustments, also referred to as overlays in certain industries, are made to the output of the model and whether such adjustments are appropriate in the circumstances in accordance with the requirements of the applicable financial reporting framework. When the adjustments are not appropriate, such adjustments may be indicators of possible management bias; and
·Whether the model is adequately documented, including its intended applications, limitations, key parameters, required data and assumptions, the results of any validation performed on it and the nature of, and basis for, any adjustments made to its output.
Assumptions (Ref: Para. 13(h)(ii)(a)(ii))
A40.Matters that the auditor may consider in obtaining an understanding of how management selected the assumptions used in making the accounting estimates include, for example:
·The basis for management’s selection and the documentation supporting the selection of the assumption. The applicable financial reporting framework may provide criteria or guidance to be used in the selection of an assumption.
·How management assesses whether the assumptions are relevant and complete.
·When applicable, how management determines that the assumptions are consistent with each other, with those used in other accounting estimates or areas of the entity’s business activities, or with other matters that are:
oWithin the control of management (for example, assumptions about the maintenance programs that may affect the estimation of an asset’s useful life), and whether they are consistent with the entity’s business plans and the external environment; and
oOutside the control of management (for example, assumptions about interest rates, mortality rates or potential judicial or regulatory actions).
·The requirements of the applicable financial reporting framework related to the disclosure of assumptions.
A41.With respect to fair value accounting estimates, assumptions vary in terms of the sources of the data and the basis for the judgements to support them, as follows:
(a)Those that reflect what marketplace participants would use in pricing an asset or liability, developed based on market data obtained from sources independent of the reporting entity.
(b)Those that reflect the entity’s own judgements about what assumptions marketplace participants would use in pricing the asset or liability, developed based on the best data available in the circumstances.
In practice, however, the distinction between (a) and (b) may not always be apparent and distinguishing between them depends on understanding the sources of data and the basis for the judgements that support the assumption. Further, it may be necessary for management to select from a number of different assumptions used by different marketplace participants.
A42.Assumptions used in making an accounting estimate are referred to as significant assumptions in this Auditing Standard if a reasonable variation in the assumption would materially affect the measurement of the accounting estimate. A sensitivity analysis may be useful in demonstrating the degree to which the measurement varies based on one or more assumptions used in making the accounting estimate.
Inactive or illiquid markets
A43.When markets are inactive or illiquid, the auditor’s understanding of how management selects assumptions may include understanding whether management has:
·Implemented appropriate policies for adapting the application of the method in such circumstances. Such adaptation may include making model adjustments or developing new models that are appropriate in the circumstances;
·Resources with the necessary skills or knowledge to adapt or develop a model, if necessary on an urgent basis, including selecting the valuation technique that is appropriate in such circumstances;
·The resources to determine the range of outcomes, given the uncertainties involved, for example by performing a sensitivity analysis;
·The means to assess how, when applicable, the deterioration in market conditions has affected the entity’s operations, environment and relevant business risks and the implications for the entity’s accounting estimates, in such circumstances; and
·An appropriate understanding of how the price data, and the relevance thereof, from particular external information sources may vary in such circumstances.
Data (Ref: Para. 13(h)(ii)(a)(iii))
A44.Matters that the auditor may consider in obtaining an understanding of how management selects the data on which the accounting estimates are based include:
·The nature and source of the data, including information obtained from an external information source.
·How management evaluates whether the data is appropriate.
·The accuracy and completeness of the data.
·The consistency of the data used with data used in previous periods.
·The complexity of IT applications or other aspects of the entity’s IT environment used to obtain and process the data, including when this involves handling large volumes of data.
·How the data is obtained, transmitted and processed and how its integrity is maintained.
How management understands and addresses estimation uncertainty (Ref: Para. 13(h)(ii)(b)–13(h)(ii)(c))
A45.Matters that may be appropriate for the auditor to consider relating to whether and how management understands the degree of estimation uncertainty include, for example:
·Whether and, if so, how management identified alternative methods, significant assumptions or sources of data that are appropriate in the context of the applicable financial reporting framework.
·Whether and, if so, how management considered alternative outcomes by, for example, performing a sensitivity analysis to determine the effect of changes in the significant assumptions or the data used in making the accounting estimate.
A46.The requirements of the applicable financial reporting framework may specify the approach to selecting management’s point estimate from the reasonably possible measurement outcomes. Financial reporting frameworks may recognise that the appropriate amount is one that is appropriately selected from the reasonably possible measurement outcomes and, in some cases, may indicate that the most relevant amount may be in the central part of that range.
A47.For example, with respect to fair value estimates, AASB 13[39] indicates that, if multiple valuation techniques are used to measure fair value, the results (i.e., respective indications of fair value) shall be evaluated considering the reasonableness of the range of values indicated by those results. A fair value measurement is the point within that range that is most representative of fair value in the circumstances. In other cases, the applicable financial reporting framework may specify the use of a probability‑weighted average of the reasonably possible measurement outcomes, or of the measurement amount that is most likely or that is more likely than not.
[39] See Accounting Standard AASB 13, paragraph 63.
A48.The applicable financial reporting framework may prescribe disclosures or disclosure objectives related to accounting estimates, and some entities may choose to disclose additional information. These disclosures or disclosure objectives may address, for example:
·The method of estimation used, including any applicable model and the basis for its selection.
·Information that has been obtained from models, or from other calculations used to determine estimates recognised or disclosed in the financial report, including information relating to the underlying data and assumptions used in those models, such as:
·That no subsequent event requires adjustment to the accounting estimates and related disclosures included in the financial report.
·When accounting estimates are not recognised or disclosed in the financial report, about the appropriateness of management’s decision that the recognition or disclosure criteria of the applicable financial reporting framework have not been met.
Communication with Those Charged With Governance, Management or Other Relevant Parties (Ref: Para. 38)
A146.In applying ASA 260, the auditor communicates with those charged with governance the auditor’s views about significant qualitative aspects of the entity’s accounting practices relating to accounting estimates and related disclosures.[69] Appendix 2 includes matters specific to accounting estimates that the auditor may consider communicating to those charged with governance.
[69] See ASA 260, paragraph 16(a).
A147.ASA 265 requires the auditor to communicate in writing to those charged with governance significant deficiencies in internal control identified during the audit.[70] Such significant deficiencies may include those related to controls over:
[70] See ASA 265, paragraph 9.
(a)The selection and application of significant accounting policies, and the selection and application of methods, assumptions and data;
(b)Risk management and related systems;
(c)Data integrity, including when data is obtained from an external information source; and
(d)The use, development and validation of models, including models obtained from an external provider, and any adjustments that may be required.
A148.In addition to communicating with those charged with governance, the auditor may be permitted or required to communicate directly with regulators or prudential supervisors. Such communication may be useful throughout the audit or at particular stages, such as when planning the audit or when finalising the auditor’s report. For example, in some jurisdictions, financial institution regulators seek to cooperate with auditors to share information about the operation and application of controls over financial instrument activities, challenges in valuing financial instruments in inactive markets, expected credit losses, and insurance reserves while other regulators may seek to understand the auditor’s views on significant aspects of the entity’s operations including the entity’s costs estimates. This communication may be helpful to the auditor in identifying, assessing and responding to risks of material misstatement.
Documentation (Ref: Para. 39)
A149.ASA 315 [71] and ASA 330[72] provide requirements and guidance on documenting the auditor’s understanding of the entity, risk assessments and responses to assessed risks. This guidance is based on the requirements and guidance in ASA 230.[73] In the context of auditing accounting estimates, the auditor is required to prepare audit documentation about key elements of the auditor’s understanding of the entity and its environment related to accounting estimates. In addition, the auditor’s judgements about the assessed risks of material misstatement related to accounting estimates, and the auditor’s responses, may likely be further supported by documentation of communications with those charged with governance and management.
[71] See ASA 315, paragraphs 38 and A237–A241.
[72] See ASA 330, paragraphs 28 and A63.
[73] See ASA 230, paragraph 8(c).
A150.In documenting the linkage of the auditor’s further audit procedures with the assessed risks of material misstatement at the assertion level, in accordance with ASA 330, this Auditing Standard requires that the auditor take into account the reasons given to the risks of material misstatement at the assertion level. Those reasons may relate to one or more inherent risk factors or the auditor’s assessment of control risk. However, the auditor is not required to document how every inherent risk factor was taken into account in identifying and assessing the risks of material misstatement in relation to each accounting estimate.
A151.The auditor also may consider documenting:
·When management’s application of the method involves complex modelling, whether management’s judgements have been applied consistently and, when applicable, that the design of the model meets the measurement objective of the applicable financial reporting framework.
·When the selection and application of methods, significant assumptions, or the data is affected by complexity to a higher degree, the auditor’s judgements in determining whether specialised skills or knowledge are required to perform the risk assessment procedures, to design and perform procedures responsive to those risks, or to evaluate the audit evidence obtained. In these circumstances, the documentation also may include how the required skills or knowledge were applied.
A152.Paragraph A7 of ASA 230 notes that, although there may be no single way in which the auditor’s exercise of professional scepticism is documented, the audit documentation may nevertheless provide evidence of the auditor’s exercise of professional scepticism. For example, in relation to accounting estimates, when the audit evidence obtained includes evidence that both corroborates and contradicts management’s assertions, the documentation may include how the auditor evaluated that evidence, including the professional judgements made in forming a conclusion as to the sufficiency and appropriateness of the audit evidence obtained. Examples of other requirements in this Auditing Standard for which documentation may provide evidence of the exercise of professional scepticism by the auditor include:
·Paragraph 13(d), regarding how the auditor has applied an understanding in developing the auditor’s own expectation of the accounting estimates and related disclosures to be included in the entity’s financial report and how that expectation compares with the entity’s financial report prepared by management;
·Paragraph 18, which requires further audit procedures to be designed and performed to obtain sufficient appropriate evidence in a manner that is not biased toward obtaining audit evidence that may be corroborative or towards excluding audit evidence that may be contradictory;
·Paragraphs 23(b), 24(b), 25(b) and 32, which address indicators of possible management bias; and
·Paragraph 34, which addresses the auditor’s consideration of all relevant audit evidence, whether corroborative or contradictory.
Appendix 1
(Ref: Para. 2, 4, 12(c), A8, A66)
INHERENT RISK FACTORS
Introduction
In identifying, assessing and responding to the risks of material misstatement at the assertion level for an accounting estimate and related disclosures, this Auditing Standard requires the auditor to take into account the degree to which the accounting estimate is subject to estimation uncertainty, and the degree to which the selection and application of the methods, assumptions and data used in making the accounting estimate, and the selection of management’s point estimate and related disclosures for inclusion in the financial report, are affected by complexity, subjectivity or other inherent risk factors.
Inherent risk related to an accounting estimate is the susceptibility of an assertion about the accounting estimate to material misstatement, before consideration of controls. Inherent risk results from inherent risk factors, which give rise to challenges in appropriately making the accounting estimate. This Appendix provides further explanation about the nature of the inherent risk factors of estimation uncertainty, subjectivity and complexity, and their inter‑relationships, in the context of making accounting estimates and selecting management’s point estimate and related disclosures for inclusion in the financial report.
Measurement Basis
The measurement basis and the nature, condition and circumstances of the financial statement item give rise to relevant valuation attributes. When the cost or price of the item cannot be directly observed, an accounting estimate is required to be made by applying an appropriate method and using appropriate data and assumptions. The method may be specified by the applicable financial reporting framework, or is selected by management, to reflect the available knowledge about how the relevant valuation attributes would be expected to influence the cost or price of the item on the measurement basis.
Estimation Uncertainty
Susceptibility to a lack of precision in measurement is often referred to in accounting frameworks as measurement uncertainty. Estimation uncertainty is defined in this Auditing Standard as susceptibility to an inherent lack of precision in measurement. It arises when the required monetary amount for a financial statement item that is recognised or disclosed in the financial report cannot be measured with precision through direct observation of the cost or price. When direct observation is not possible, the next most precise alternative measurement strategy is to apply a method that reflects the available knowledge about cost or price for the item on the relevant measurement basis, using observable data about relevant valuation attributes.
However, constraints on the availability of such knowledge or data may limit the verifiability of such inputs to the measurement process and therefore limit the precision of measurement outcomes. Furthermore, most accounting frameworks acknowledge that there are practical constraints on the information that should be taken into account, such as when the cost of obtaining it would exceed the benefits. The lack of precision in measurement arising from these constraints is inherent because it cannot be eliminated from the measurement process. Accordingly, such constraints are sources of estimation uncertainty. Other sources of measurement uncertainty that may occur in the measurement process are, at least in principle, capable of elimination if the method is applied appropriately and therefore are sources of potential misstatement rather than estimation uncertainty.
When estimation uncertainty relates to uncertain future inflows or outflows of economic benefits that will ultimately result from the underlying asset or liability, the outcome of these flows will only be observable after the date of the financial report. Depending on the nature of the applicable measurement basis and on the nature, condition and circumstances of the financial statement item, this outcome may be directly observable before the financial report is finalised or may only be directly observable at a later date. For some accounting estimates, there may be no directly observable outcome at all.
Some uncertain outcomes may be relatively easy to predict with a high level of precision for an individual item. For example, the useful life of a production machine may be easily predicted if sufficient technical information is available about its average useful life. When it is not possible to predict a future outcome, such as an individual’s life expectancy based on actuarial assumptions, with reasonable precision, it may still be possible to predict that outcome for a group of individuals with greater precision. Measurement bases may, in some cases, indicate a portfolio level as the relevant unit of account for measurement purposes, which may reduce inherent estimation uncertainty.
Complexity
Complexity (i.e., the complexity inherent in the process of making an accounting estimate, before consideration of controls) gives rise to inherent risk. Inherent complexity may arise when:
·There are many valuation attributes with many or non‑linear relationships between them.
·Determining appropriate values for one or more valuation attributes requires multiple data sets.
·More assumptions are required in making the accounting estimate, or when there are correlations between the required assumptions.
·The data used is inherently difficult to identify, capture, access or understand.
Complexity may be related to the complexity of the method and of the computational process or model used to apply it. For example, complexity in the model may reflect the need to apply probability‑based valuation concepts or techniques, option pricing formulae or simulation techniques to predict uncertain future outcomes or hypothetical behaviours. Similarly, the computational process may require data from multiple sources, or multiple data sets to support the making of an assumption or the application of sophisticated mathematical or statistical concepts.
The greater the complexity, the more likely it is that management will need to apply specialised skills or knowledge in making an accounting estimate or engage a management’s expert, for example in relation to:
·Valuation concepts and techniques that could be used in the context of the measurement basis and objectives or other requirements of the applicable financial reporting framework and how to apply those concepts or techniques;
·The underlying valuation attributes that may be relevant given the nature of the measurement basis and the nature, condition and circumstances of the financial statement items for which accounting estimates are being made; or
·Identifying appropriate sources of data from internal sources (including from sources outside the general or subsidiary ledgers) or from external information sources, determining how to address potential difficulties in obtaining data from such sources or in maintaining its integrity in applying the method, or understanding the relevance and reliability of that data.
Complexity relating to data may arise, for example, in the following circumstances:
(a)When data is difficult to obtain or when it relates to transactions that are not generally accessible. Even when such data is accessible, for example through an external information source, it may be difficult to consider the relevance and reliability of the data, unless the external information source discloses adequate information about the underlying data sources it has used and about any data processing that has been performed.
(b)When data reflecting an external information source’s views about future conditions or events, which may be relevant in developing support for an assumption, is difficult to understand without transparency about the rationale and information taken into account in developing those views.
(c)When certain types of data are inherently difficult to understand because they require an understanding of technically complex business or legal concepts, such as may be required to properly understand data that comprises the terms of legal agreements about transactions involving complex financial instruments or insurance products.
Subjectivity
Subjectivity (i.e., the subjectivity inherent in the process of making an accounting estimate, before consideration of controls) reflects inherent limitations in the knowledge or data reasonably available about valuation attributes. When such limitations exist, the applicable financial reporting framework may reduce the degree of subjectivity by providing a required basis for making certain judgements. Such requirements may, for example, set explicit or implied objectives relating to measurement, disclosure, the unit of account, or the application of a cost constraint. The applicable financial reporting framework may also highlight the importance of such judgements through requirements for disclosures about those judgements.
Management judgement is generally needed in determining some or all of the following matters, which often involve subjectivity:
·To the extent not specified under the requirements of the applicable financial reporting framework, the appropriate valuation approaches, concepts, techniques and factors to use in the estimation method, having regard to available knowledge;
·To the extent valuation attributes are observable when there are various potential sources of data, the appropriate sources of data to use;
·To the extent valuation attributes are not observable, the appropriate assumptions or range of assumptions to make, having regard to the best available data, including, for example, market views;
·The range of reasonably possible outcomes from which to select management’s point estimate, and the relative likelihood that certain points within that range would be consistent with the objectives of the measurement basis required by the applicable financial reporting framework; and
·The selection of management’s point estimate, and the related disclosures to be made, in the financial report.
Making assumptions about future events or conditions involves the use of judgement, the difficulty of which varies with the degree to which those events or conditions are uncertain. The precision with which it is possible to predict uncertain future events or conditions depends on the degree to which those events or conditions are determinable based on knowledge, including knowledge of past conditions, events and related outcomes. The lack of precision also contributes to estimation uncertainty, as described above.
With respect to future outcomes, assumptions will only need to be made for those features of the outcome that are uncertain. For example, in considering the measurement of a possible impairment of a receivable for a sale of goods at the balance sheet date, the amount of the receivable may be unequivocally established and directly observable in the related transaction documents. What may be uncertain is the amount, if any, for loss due to impairment. In this case, assumptions may only be required about the likelihood of loss and about the amount and timing of any such loss.
However, in other cases, the amounts of cash flows embodied in the rights relating to an asset may be uncertain. In those cases, assumptions may have to be made about both the amounts of the underlying rights to cash flows and about potential losses due to impairment.
It may be necessary for management to consider information about past conditions and events, together with current trends and expectations about future developments. Past conditions and events provide historical information that may highlight repeating historical patterns that can be extrapolated in evaluating future outcomes. Such historical information may also indicate changing patterns of such behaviour over time (cycles or trends). These may suggest that the underlying historical patterns of behaviour have been changing in somewhat predictable ways that may also be extrapolated in evaluating future outcomes. Other types of information may also be available that indicate possible changes in historical patterns of such behaviour or in related cycles or trends. Difficult judgements may be needed about the predictive value of such information.
The extent and nature (including the degree of subjectivity involved) of the judgements taken in making the accounting estimates may create opportunity for management bias in making decisions about the course of action that, according to management, is appropriate in making the accounting estimate. When there is also a high level of complexity or a high level of estimation uncertainty, or both, the risk of, and opportunity for, management bias or fraud may also be increased.
Relationship of Estimation Uncertainty to Subjectivity and Complexity
Estimation uncertainty gives rise to inherent variation in the possible methods, data sources and assumptions that could be used to make an accounting estimate. This gives rise to subjectivity, and hence, the need for the use of judgement in making the accounting estimate. Such judgements are required in selecting the appropriate methods and data sources, in making the assumptions, and in selecting management’s point estimate and related disclosures for inclusion in the financial report. These judgements are made in the context of the recognition, measurement, presentation and disclosure requirements of the applicable financial reporting framework. However, because there are constraints on the availability and accessibility of knowledge or information to support these judgements, they are subjective in nature.
Subjectivity in such judgements creates the opportunity for unintentional or intentional management bias in making them. Many accounting frameworks require that information prepared for inclusion in the financial report should be neutral (i.e., that it should not be biased). Given that bias can, at least in principle, be eliminated from the estimation process, sources of potential bias in the judgements made to address subjectivity are sources of potential misstatement rather than sources of estimation uncertainty.
The inherent variation in the possible methods, data sources and assumptions that could be used to make an accounting estimate (see paragraph 19) also gives rise to variation in the possible measurement outcomes. The size of the range of reasonably possible measurement outcomes results from the degree of estimation uncertainty and is often referred to as the sensitivity of the accounting estimate. In addition to determining measurement outcomes, an estimation process also involves analysing the effect of inherent variations in the possible methods, data sources and assumptions on the range of reasonably possible measurement outcomes (referred to as sensitivity analysis).
Developing a financial statement presentation for an accounting estimate, which, when required by the applicable financial reporting framework, achieves faithful representation (i.e., complete, neutral and free from error) includes making appropriate judgements in selecting a management point estimate that is appropriately chosen from within the range of reasonably possible measurement outcomes and related disclosures that appropriately describe the estimation uncertainty. These judgements may themselves involve subjectivity, depending on the nature of the requirements in the applicable financial reporting framework that address these matters. For example, the applicable financial reporting framework may require a specific basis (such as a probability weighted average or a best estimate) for the selection of the management point estimate. Similarly, it may require specific disclosures or disclosures that meet specified disclosure objectives or additional disclosures that are required to achieve fair presentation in the circumstances.
Although an accounting estimate that is subject to a higher degree of estimation uncertainty may be less precisely measurable than one subject to a lower degree of estimation uncertainty, the accounting estimate may still have sufficient relevance for users of the financial report to be recognised in the financial report if, when required by the applicable financial reporting framework, a faithful representation of the item can be achieved. In some cases, estimation uncertainty may be so great that the recognition criteria in the applicable financial reporting framework are not met and the accounting estimate cannot be recognised in the financial report. Even in these circumstances, there may still be relevant disclosure requirements, for example to disclose the point estimate or range of reasonably possible measurement outcomes and information describing the estimation uncertainty and constraints in recognising the item. The requirements of the applicable financial reporting framework that apply in these circumstances may be specified to a greater or lesser degree. Accordingly, in these circumstances, there may be additional judgements that involve subjectivity to be made.
Appendix 2
(Ref: Para. A146)
COMMUNICATIONS WITH THOSE CHARGED WITH GOVERNANCE
Matters that the auditor may consider communicating with those charged with governance with respect to the auditor’s views about significant qualitative aspects of the entity’s accounting practices related to accounting estimates and related disclosures include:
(a)How management identifies transactions, other events and conditions that may give rise to the need for, or changes in, accounting estimates and related disclosures.
(b)Risks of material misstatement.
(c)The relative materiality of the accounting estimates to the financial report as a whole;
(d)Management’s understanding (or lack thereof) regarding the nature and extent of, and the risks associated with, accounting estimates;
(e)Whether management has applied appropriate specialised skills or knowledge or engaged appropriate experts.
(f)The auditor’s views about differences between the auditor’s point estimate or range and management’s point estimate.
(g)The auditor’s views about the appropriateness of the selection of accounting policies related to accounting estimates and presentation of accounting estimates in the financial report.
(h)Indicators of possible management bias.
(i)Whether there has been or ought to have been a change from the prior period in the methods for making the accounting estimates
(j)When there has been a change from the prior period in the methods for making the accounting estimate, why, as well as the outcome of accounting estimates in prior periods.
(k)Whether management’s methods for making the accounting estimates, including when management has used a model, are appropriate in the context of the measurement objectives, the nature, conditions and circumstances, and other requirements of the applicable financial reporting framework.
(l)The nature and consequences of significant assumptions used in accounting estimates and the degree of subjectivity involved in the development of the assumptions;
(m)Whether significant assumptions are consistent with each other and with those used in other accounting estimates, or with assumptions used in other areas of the entity’s business activities.
(n)When relevant to the appropriateness of the significant assumptions or the appropriate application of the applicable financial reporting framework, whether management has the intent to carry out specific courses of action and has the ability to do so.
(o)How management has considered alternative assumptions or outcomes and why it has rejected them, or how management has otherwise addressed estimation uncertainty in making the accounting estimate.
(p)Whether the data and significant assumptions used by management in making the accounting estimates are appropriate in the context of the applicable financial reporting framework.
(q)The relevance and reliability of information obtained from an external information source.
(r)Significant difficulties encountered when obtaining sufficient appropriate audit evidence relating to data obtained from an external information source or valuations performed by management or a management’s expert.
(s)Significant differences in judgements between the auditor and management or a management’s expert regarding valuations.
(t)The potential effects on the entity’s financial report of material risks and exposures required to be disclosed in the financial report, including the estimation uncertainty associated with accounting estimates.
(u)The reasonableness of disclosures about estimation uncertainty in the financial report.
(v)Whether management’s decisions relating to the recognition, measurement, presentation and disclosure of the accounting estimates and related disclosures in the financial report are in accordance with the applicable financial reporting framework.
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