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, ASA 330, ASA 450, ASA 500 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.
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. 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, 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)
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 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)
- 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.
See ASA 315 Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment.
See ASA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Australian Auditing Standards, paragraph A40.