Accountants and auditors these days certainly wouldn’t complain about their jobs being the same as they have always been.
Several new standards issued within the past few years have caused significant changes to the processes used by accountants and auditors as well as to the reports they produce.
Reporting for public company auditors, for example, changed substantially with the issuance of a new PCAOB standard that requires disclosures of “critical audit matters” that arise during an engagement. The standard provides auditors with an opportunity to communicate more than in the past, and practitioners have been carefully studying the requirements to make sure they fully comply.
Meanwhile, company finance departments have been taking stock of FASB’s vote to approve a delay of the effective dates of three key standards for private companies and certain other financial statement preparers.
On the heels of a difficult revenue recognition implementation, the delay in the effective date of FASB’s standards for accounting for leases, credit losses, and hedging will provide eligible preparers more time to make sure they comply fully and to potentially build process improvements around the new rules.
Here’s a closer look at some of the most important developments that are affecting accountants and auditors today.
Critical audit matters
Some familiar matters have emerged as the most commonly reported critical audit matters, as the first group of audit reports under the PCAOB’s new auditor’s reporting model have appeared in the company filings of large accelerated filers.
The new PCAOB standard represents the first substantial change to auditor reporting in the past 70 years. The standard requires auditors to disclose critical audit matters in the auditor’s report. The PCAOB standard defines a critical audit matter as any matter arising from the audit of the financial statements that:
Was communicated or required to be communicated to the audit committee;
Relates to accounts or disclosures that are material to the financial statements; and
Involved especially challenging, subjective, or complex auditor judgment.
A Deloitte analysis of public filings showed that there was an average of 1.8 critical audit matters in the auditor’s reports for large accelerated filers with fiscal years ending on or after June 30, 2019. The most commonly disclosed critical audit matters related to:
Goodwill and intangible assets (35%).
Income taxes (15%).
The standard already has taken effect for large accelerated filers for fiscal years ending on or after June 30, 2019, and will become effective for audits of all other companies that are subject to the requirements for fiscal years ending on or after Dec. 15, 2020.
For more information, auditors can visit the PCAOB’s resource page dedicated to the implementation of critical audit matters.
As with any new standard, auditors who are working with a later effective date may wish to carefully review the early filings to understand how reporting was handled by auditors of large accelerated filers.
Providing an opportunity to review the filings of large public companies is one reason FASB has voted to extend the effective dates for private companies and certain other preparers for its standards for accounting for leases, credit losses (the CECL standard), and hedging.
FASB members said they voted for the extension because they believed private companies and others implementing the standards were working hard to comply and could use the extra time to improve their processes, controls, and operations. Studying the implementation of large public companies is one way to do that.
Other items on the to-do list for preparers may include:
Carefully evaluate lease accounting software options. The rollout for lease accounting software has been bumpy. In a letter urging FASB to delay the effective date for private companies, the AICPA Technical Issues Committee explained that some of the software developed by third-party vendors contained errors. “It will take some time to sort through to ensure these solutions are accurate and auditable,” the letter said.
Work with lenders. The addition of lease liabilities to balance sheets may place companies in default on their debt covenants. Companies may need to work with their lenders to modify these covenants to accommodate the changes to financial statements that will accompany the new lease accounting standard.
Build the best model. The new credit loss standard requires companies to use reasonable and supportable forecasts to book their loan loss reserves on a more forward-looking basis. A delay will provide more time to make sure the forecast models are based on valid source data with strong controls. The extra time also could be used to more extensively test the models.
Consider hedging opportunities. Hedge accounting is optional. In the past, some private companies have shied away from using hedging to manage risk because hedge accounting was so complicated. The new standard is designed to simplify hedge accounting so that more companies will use hedging to manage risk. With extra implementation time, preparers may wish to evaluate whether they will take advantage of this opportunity.
An ethics interpretation that took effect July 1 clarifies what CPAs need to do to preserve their independence while holding clients’ information on cloud-based and virtual platforms.
The new “Hosting Services” interpretation (ET §1.295.143) of the “Independence Rule” (ET §1.200.001) in the AICPA Code of Professional Conduct is designed to ensure that CPAs do not perform activities for attest clients that are management’s responsibility.
Under the interpretation, a CPA cannot remain independent while taking responsibility for hosting a client’s data. So, a CPA could run afoul of independence rules by:
Serving as the sole host of a client’s financial or nonfinancial information system.
Serving as the custodian for the client’s data or records in a way that makes the data or records accessible only through the CPA and incomplete without the CPA’s involvement.
Providing business continuity, disaster recovery, or electronic security services for a client.
Independence is compromised if a client is unable to change service providers without access to data, records, or documents a member holds.
You can find more information in a Frequently Asked Questions document issued by the AICPA Professional Ethics Team.
Other information responsibilities
A new standard issued by the AICPA Auditing Standards Board is designed to reduce confusion about auditors’ duties for considering information that is included in annual reports but is not included in financial statements.
Statement on Auditing Standards No. 137, The Auditor’s Responsibilities Relating to Other Information Included in Annual Reports, takes effect for audits of financial statements for periods ending on or after Dec. 15, 2020, and early implementation is not permitted.
So, auditors of nonpublic entities have time to consider how best to embed the new rules into their processes. The standard is intended to clarify what documents auditors need to consider and reduce diversity in practice.
Under the standard, the auditor is required to read and consider the other information included in the annual report. If the other information is inconsistent with the financial statements or with what the auditor has learned during the engagement, a material misstatement may exist.
The standard is intended to preserve the credibility of the financial statements and the auditor’s report.
SAS No. 137 clarifies the scope of documents that the auditor is required to consider subject to the procedures and states that though a document may be referred to as an annual report, the document may not meet the definition of an annual report for purposes of the SAS.
Determining which documents constitute the entity’s annual report is often difficult when the entity does not have a regulatory requirement to prepare an annual report or a framework that dictates what that annual report should contain.
SAS No. 137 includes a requirement for the auditor, through discussion with management, to determine and obtain management’s written acknowledgment regarding which document or documents comprise the annual report. This is intended to ensure that both the auditor and management understand the documents that are considered the entity’s annual report and therefore are subject to the auditor’s procedures.
A worthwhile objective
Although these developments will bring about changes for CPAs, they all also have the potential to help CPAs provide better service to their clients, employers, and the public. Disclosing critical audit matters and giving appropriate consideration to other information can improve the quality and transparency of audits.
FASB’s new standards have the potential to improve the information in company financial statements, and the effective date delays provide an opportunity for companies to improve their processes and perhaps even their operations.
Meanwhile, following the new “Hosting Services” interpretation will help CPAs maintain the independence they need in order to provide effective services to their attest clients.
To be sure, there will be effort associated with these new developments. But, while using good judgment to comply, accountants and auditors can be comfortable that their efforts are going toward a worthwhile objective.