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Some of the largest public companies in the U.S. and their auditors are set to test this year a new audit report that will detail factors that could have a significant impact on their financial statements or involve complex audit decisions.
The new auditor’s report format, which takes effect next summer, represents a generational shift from the traditional pass/fail model that auditors have used for decades. The new audit report, approved by the Public Company Accounting Oversight Board last year, is intended to shed more light on a company’s financial health by detailing critical audit matters.
Under the new audit standard, critical audit matters are anything shared with the audit committee that is both material to the financial statements—something on which a user might base an investment decision—and involves complex auditor judgment. Critical audit matters must be described in the audit report. Accounting changes related to revenue recognition or a large acquisition could trigger a critical audit matter, for example.
The results of the test audit reports aren’t expected to be shared publicly but will allow companies to see internally what critical audit matters might be identified. Companies, concerned about how investors and regulators will respond, want to be prepared to explain any critical audit matters.
Companies are all over the map in their preparations for the new audit format, said Sarah Ovuka, professional accounting fellow with Financial Executives International, who works with preparers representing Fortune 100 companies.
Some companies have run through a mock audit report while others are just starting to discuss the new report model with their auditor, Ovuka told Bloomberg Tax.
A third group has yet to focus on the pending standard change. “But they’re going to need to,” Ovuka said.
Clients of Ernst & Young LLP are asking to take part in pilot tests as part of their audits this year, said audit partner Josh Jones, at a May 3 financial reporting conference at Baruch College in New York.
“Companies are interested in how this process is going to work,” Jones said.
They want time to prepare for questions they might hear from investors and to understand how their audit reports compare to those of their competitors. They also want to understand the judgments made to identify any critical audit matters that might be detailed on the report, Jones said.
Auditors with PricewaterhouseCoopers LLP are encouraging their clients to take part in similar dry-runs. Len Combs, the firm’s chief auditor in the U.S., hopes that most would take part.
“We’d expect those conversations to be happening pretty soon,” he told Bloomberg Tax.
The mock audits will build on the experiences of several small-scale test audits the firm completed over the past year, said Combs, based in Florham Park, N.J.
Combs said the goal is to help auditors, company management, and audit committees to understand the significant changes to the report.
PwC also plans to roll out in-person and online training for its audit teams later this year so they are prepared to make changes to their planning, how to identify the critical audit matters, and how to best describe them on the reports, he said.
“It’s a great opportunity for us to engage all stakeholders in the process and make sure that we’re thinking about it appropriately and understanding the challenges around implementing the new auditing standard,” Combs said.
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