Scope of appropriate content, structure in auditor’s report under debate

Change apparently is coming to the auditor’s report, but views vary over the appropriate content and structure for reports, and particularly over the issue of “auditor commentary.”

The question of appropriate content and structure for the auditor’s report was the subject of an International Auditing and Assurance Standards Board (IAASB) round-table meeting Monday in New York. The IAASB is seeking feedback from investors, auditors and other interested parties on an Invitation to Comment (ITC) it issued in June on the auditor’s report.

The ITC proposes that additional information in the auditor’s report should be provided as “auditor commentary” to highlight matters that the auditor believes are likely to be most important to users’ understanding of the audited financial statements or the audit. Auditor commentary would be required for entities, which at a minimum include listed entities, and could be provided at the auditor’s discretion for other entities.

“What would be of most interest to investors is how the auditor viewed the risks in the audit and satisfied themselves to them to the degree that it is communicated to the audit committee,” said Jack Ciesielski, president of Maryland-based investment research and management firm R.G. Associates.

But while investors seek more information regarding auditors’ expert opinions on important elements of the financial statements, there is concern that more information could increase legal liability. Richard Murray, chairman emeritus of the U.S. Chamber of Commerce’s Center for Capital Markets Competitiveness, said requiring such information in reports would significantly increase the legal liability for both issuers and auditors.

“Those cautionary comments will introduce in the US a wave of opportunity for litigation against any company whose affairs decline,” Murray said. “ … Because you now have established by the auditor’s commentary a dispute over what’s the true picture. That will make it much harder for early dismissal, much more expensive for potential litigation, and much more necessary to settle it at prices that will not be welcomed by the investing community.”

The content of the auditor’s report has been reviewed by a number of standard-setters in the wake of business failures that occurred during the recent financial crisis. The IAASB’s ITC contains recommendations and questions for discussion advanced by the independent standard-setting body, which aims to strengthen auditing and assurance standards worldwide.

Although the IAASB recognises that the auditor’s report will vary across jurisdictions, the organisation aspires to improve auditing on a global basis. Comments on the ITC are due October 8th and can be submitted on the IAASB’s website.

Proposed changes in the ITC include:

  • A conclusion by the auditor on the appropriateness of management’s use of the going-concern assumption in preparing the financial statements, and an explicit statement about whether material uncertainties related to going concern have been identified.

  • A statement by the auditor identifying whether any material inconsistencies between the audited financial statements and other information have been found based on the auditor’s reading of other information. Specific identification of the information considered by the auditor also would be included.

  • Prominent placement of the auditor’s opinion and other entity-specific information in the auditor’s report.

The ITC also asks whether auditor’s reports should describe audit procedures, involvement of other auditors, and the auditor’s responsibilities, as well as whether disclosure of the engagement partner’s name should be required.

The AICPA’s Auditing Standards Board asked members to complete a survey to help inform its response to the ITC. The survey was scheduled to close Tuesday; The ASB will use the survey results as it drafts its comment letter.

According to IAASB officials, there is clear demand for auditors to provide greater transparency about significant matters in the financial statements, as well as the conduct of audits. The IAASB cites recent initiatives by the US Public Company Accounting Oversight Board (PCAOB) and the European Commission to improve auditor reporting as evidence that users in many parts of the world believe the auditor’s report must be enhanced.

Some round-table participants predicted that the inclusion of auditors’ commentary would produce a fear of liability and cause auditors to fill their reports with voluminous disclosures of risks that are possible but not likely. That would run counter to the IAASB’s aim to reduce complexity by including the most relevant disclosures.

Professor Arnold Schilder, the IAASB chairman, said that between two and ten comments per financial statement would be desirable.

“The question from this part of the discussion is how can we stimulate a way to require auditors to focus on the essence in their auditor’s report and not have it deteriorate into a very defensive document,” he said. “That’s not what we want.”

The concept of what should be included in auditor commentary was one of the most hotly debated ideas at the round table. The length of commentary is a concern because audit matters are difficult to describe succinctly. Many speakers, including Xerox Chief Accounting Officer Gary Kabureck, said the auditor’s report is not the appropriate vehicle for communicating new information with respect to reporting on the finances of a business. Those messages are the responsibility of management, he said.

Howard Levy, a member of the Auditing Standards Committee of the New York State Society of CPAs, said auditors need to remain focused on their attest function. Kabureck said speculation has no place in the auditor’s report, and Deloitte Deputy Managing Partner Bill Platt said statements by auditors should be objective, not subjective.

But Schilder said “subjectivity” can be another word for “judgement” that should have a role in auditor reporting. For example, he said, an auditor might conclude that the valuation of a financial instrument falls within an “acceptable” range. Schilder said commentary describing the auditor’s judgement on whether the valuation falls in the high or low part of that range might be appropriate.

“You could discuss whether this is information that should have come from management itself rather than the auditor,” he said. “So I think it’s a very interesting example … where the auditor could say more than they did in the past. People would say, ‘This is new. This is different from what we are used to.’ That’s why it’s a very important discussion.”

There was considerable agreement that the IAASB and audit regulators should not be alone in seeking changes to improve the quality of information available to investors. Speakers said accounting standard-setters in particular should continue to address that issue.

As for the extent of information that should be included in the auditor’s report, a sample report distributed by the IAASB was four pages. (The sample report begins on page 9 of the ITC.) IAASB member Bill Kinney said the European Commission had proposed that the auditor’s report be limited to four pages or 10,000 characters.

Determining exactly what should be contained in those pages will not be easy, though.

“Clearly there is no shortage of views,” said Dan Montgomery, chair of the IAASB task force examining the issue. “Strong views … but clearly a diversity of views.”

Ken Tysiac ( is a CGMA Magazine senior editor.