IFRS, IAS, ISA Update

IASB publishes revised proposals for determining the cost of an investment in separate financial statements

The IASB published for public comment an exposure draft – Cost of an Investment in a Subsidiary, Jointly Controlled Entity or Associate – containing proposed amendments to IFRS 1 First-time Adoption of International Financial Reporting Standards and IAS 27 Consolidated and Separate Financial Statements. The exposure draft was developed in response to comments received on a related exposure draft published in January 2007. In the light of those comments and further consultation with interested parties, the IASB reconsidered its proposals and, in accordance with its due process, is now inviting comment on the revised proposals.

The proposals address concern that retrospectively determining cost in accordance with IAS 27 on first-time adoption of IFRSs cannot, in some circumstances, be achieved without undue cost or effort. Consequently, this might create a barrier to entities’ adoption of IFRSs in separate financial statements. Additionally, the proposals respond to enquiries received about the measurement of cost in the separate financial statements of a new parent entity.

The proposed amendments to IFRS include:

1. a proposal to allow entities, in their separate financial statements, to use a deemed cost option for determining the cost (in accordance with paragraph 37 of IAS 27) of an investment;
2. the use of either fair value (determined in accordance with IAS 39 Financial Instruments: Recognition and Measurement) or the carrying amount at that deemed cost under previous national standards; and
3. a change in scope of the applicability of the deemed cost option to include jointly controlled entities and associates as well as subsidiaries.

The proposed amendments to IAS 27 include:

1. the removal of the ‘cost method’ from paragraph 4 of IAS 27; and
2. a proposal to require a new parent to measure cost using the carrying amounts of the existing entity at the date when the new parent is formed.

The exposure draftis open for comment until 26 February 2008.

IASB proposes guidance on group cash-settled share-based payment arrangements

The IASB published for public comment an exposure draft – Group Cash-settled Share-based Payment Transactions – with proposed amendments to IFRS 2 Share-based Payment and IFRIC 11 IFRS 2—Group and Treasury Share Transactions.

The proposals respond to requests for guidance on how a group entity that receives goods or services from its suppliers (including employees) should account for the following arrangements:

1. Arrangement 1: the entity’s suppliers will receive cash payments that are linked to the price of the equity instruments of the entity;
2. Arrangement 2: the entity’s suppliers will receive cash payments that are linked to the price of the equity instruments of the entity’s parent.

Under either arrangement, the entity’s parent has an obligation to make the required cash payments to the entity’s suppliers. The entity itself does not have any obligation to make such payments.

The proposed amendment to IFRS 2 clarifies that IFRS 2 applies to arrangements such as those described above even if the entity that receives goods or services from its suppliers has no obligation to make the required share-based cash payments. The proposed amendment to IFRIC 11 specifies that the entity should measure the goods or services in accordance with the requirements for cash-settled share-based payment transactions.

The exposure draft is open for comment until 17 March 2008.

IFAC publishes Guide to SME audits

Sylvie Voghel, Chair of the IFAC Small and Medium Practices (SMP) Committee, recently announced the committee’s launch of a free, “how-to” guide on understanding and applying the body of International Standards on Auditing (ISAs) in audits of Small and Medium Entities (SMEs).

The Guide to Using ISAs in the Audit of Small- and Medium-sized Entities is aimed at helping practitioners better serve the public interest by enabling them to conduct high quality and cost-effective SME audits. The Guide can be viewed at http://www.ifac.org/Store/Details.tmpl?SID=1197644225547443.

The Guide provides non-authoritative guidance on applying ISAs issued by the IAASB as at 31 December 2006 as set out in the2007 edition of IFAC’s Handbook of International Auditing, Assurance, and Ethics Pronouncements.

IFAC’s SMP Committee commissioned the Canadian Institute of Chartered Accountants (CICA) to develop the Guide, and a global advisory panel, drawn from a broad cross section of IFAC member bodies, along with IAASB staff, has reviewed the publication.

The Guide is not intended as a substitute for reading the ISAs but rather as a supplement to promote a deeper understanding of the standards. It offers, among other things, an in-depth case study based on a typical SME audit. The Guide will be regularly revised to ensure it reflects current standards. The next update is expected in late 2009 based on the newly clarified ISAs that take effect for periods beginning on or after 15 December 2009.

IAASB proposes new standards on Service Organisations and Communicating Deficiencies in Internal Control

The IAASB approved three new proposed standards: two focus on enhancing the auditors’ consideration of controls at service organisations, and the third addresses the communication of deficiencies in internal control to those charged with governance.

Third Party Service Organisations

Many entities outsource aspects of their businesses to organisations that provide services ranging from performing a specific task under the direction of the entity to replacing one or more of the entity’s business units or functions. Frequently, services provided by such organisations are integral to the entity’s information system relevant to financial reporting.

Following a risk-based approach, proposed ISA 402 (Revised and Redrafted), Audit Considerations Relating to an Entity Using a Third Party Service Organization, deals with the auditor’s responsibilities to obtain audit evidence when an entity uses one or more service organisations. This may include obtaining reports prepared by the auditors of those organisations.

Proposed International Standard on Assurance Engagements (ISAE) 3402, Assurance Reports on Controls at a Third Party Service Organization, is the first subject matter-specific standard developed under the IAASB’s International Framework for Assurance Engagements. It complements proposed ISA 402 (Revised and Redrafted) in that reports prepared in accordance with proposed ISAE 3402 will be capable of providing appropriate audit evidence under the proposed ISA. It will help to bring consistency in reporting on controls at service organisations, thereby assisting such organisations to meet the needs of clients (“user entities”) and their auditors. In particular, it should ensure that reports issued in one country are likely to meet the requirements of the auditors of user entities in other countries.

Comments on proposed ISA 402 and ISAE 3402 are requested by 30 April and 31 May, 2008, respectively.

Communicating Deficiencies in Internal Control

The IAASB also approved proposed ISA 265, Communicating Deficiencies in Internal Control. This deals with the auditor’s responsibility to communicate to management and those charged with governance deficiencies in internal control that have been identified by the auditor. It distinguishes between significant and other deficiencies in order to establish requirements to communicate to the appropriate levels within the audited entity. It also requires the former to be communicated in writing to those charged with governance. The comment deadline is 30 April 2008.

IAASB issues three clarified Standards

Following the consideration and approval of due process by the Public Interest Oversight Board (PIOB), the IAASB issued three final standards that reflect its new clarity drafting conventions:

1. ISA 230 (Redrafted), Audit Documentation;
2. ISA 260 (Revised and Redrafted), Communication with Those Charged with Governance; and
3. ISA 720 (Redrafted), The Auditor's Responsibility in Relation to Other Information in Documents Containing Audited Financial Statements.

Audit Documentation

ISA 230 (Redrafted) incorporates several enhancements and additional guidance to clarify the auditor's documentation obligations. In particular, it explains in clearer terms what is expected of the auditor in fulfilling the requirement to document compliance with ISAs, and provides clarifying guidance regarding the circumstances in which it is appropriate for the auditor to prepare audit documentation relating to the use of professional judgment. The flow of the requirements in the redrafted ISA, particularly in relation to changes to audit documentation after the date of the auditor's report, has also been simplified and clarified.

Communication with Those Charged with Governance

ISA 260 (Revised and Redrafted) has been fully revised. It sets out an overarching framework for communication with those charged with governance; it also identifies specific matters to be communicated by the auditor, including a requirement to communicate in writing about auditor independence. It acknowledges that law or regulation or an agreement with the entity, for example, may require that other matters be communicated. The ISA contains new requirements and guidance dealing with the communication process, including a specific requirement for the auditor to evaluate the adequacy of the two-way communication between the auditor and those charged with governance.

The Auditor's Responsibility in Relation to Other Information

ISA 720 (Redrafted) deals with the auditor's responsibility in relation to other information in documents containing audited financial statements and the corresponding auditor's report. It requires the auditor to read this other information and to respond appropriately when such information could undermine the credibility of the financial statements.

The clarified ISAs can be downloaded free-of-charge from the IFAC website.

IAASB makes further progress on Clarity of Standards

The IAASB approved two exposure drafts. The first addresses concerns about the use and reliability of external confirmations as audit evidence. External confirmations are written responses to the auditor from a third party. The second proposes stricter requirements when an auditor uses an expert to obtain audit evidence.

External Confirmations

Recent experience has indicated that external confirmations may not always be as reliable as expected as audit evidence, giving rise to requests for more rigorous requirements governing the auditor's use of external confirmations. The auditor's decision about whether to use external confirmation procedures is based upon the identification and assessment of risks of material misstatement in accordance with other ISAs. Proposed ISA 505 (Revised and Redrafted), External Confirmations, is directed at the effective performance of external confirmation procedures when the auditor determines that such procedures are an appropriate response to an assessed risk of material misstatement.

Use of the Work of an Auditor's Expert

Proposed ISA 620 (Revised and Redrafted), Using the Work of an Auditor's Expert, deals with the auditor's use of the work of a person or organisation possessing expertise in a field other than accounting or auditing, employed or engaged by the auditor to assist the auditor to obtain sufficient appropriate audit evidence. It places particular emphasis on the need for the auditor to evaluate the expert's objectivity, and to establish a proper understanding with the expert of the expert's responsibilities for the purposes of the audit.

Comments on proposed ISAs 505 and 620, which may be viewed by going to http://www.ifac.org/eds, are requested by 15 February 2008.

The IAASB more recently also released two exposure drafts written in accordance with the new clarity drafting conventions, namely proposed ISA 501 (Redrafted), Audit Evidence Regarding Specific Financial Statement Account Balances and Disclosures and ISA 520 (Redrafted), Analytical Procedures. Comments on both are requested by 31 March 2008.

IAASB issues new requirements for the audit of Group Financial Statements

The IAASB released new requirements designed to enhance the quality of audits of group financial statements. ISA 600 (Revised and Redrafted), Special Considerations - The Audit of Group Financial Statements (Including the Work of Component Auditors), assists the group engagement partner in taking responsibility for the direction, supervision and performance of the group audit and the issue of an auditor's report that is appropriate in the circumstances.
To assist the group engagement team to obtain sufficient appropriate audit evidence on which to base the group audit opinion, the ISA specifies the types of work that the group engagement team, or component auditors on its behalf, should perform on the financial information of significant components. It also requires the group engagement team to be appropriately involved in the work that component auditors perform.
The ISA is effective for audits of financial periods commencing on or after 15 December 2009. This date is consistent with the effective date for all the standards being redrafted under the Clarity project.
ISA 600 (Revised and Redrafted) can be downloaded free-of-charge from the IFAC online bookstore at http://www.ifac.org/store.