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Auditor's General Responsibility

The auditor must communicate with those charged with governance matters related to the financial statement audit that are, in the auditor's professional judgment, significant and relevant to the responsibilities of those charged with governance in overseeing the financial reporting process. Certain matters should be communicated in each audit (as described below); however, the auditor is not required to perform procedures specifically to identify these matters.

Those Charged with Governance

AU-C 260.09 and AU-C 206.A6-.A9 provide some guidance on how the auditor should determine which persons or bodies are “those charged with governance” (see “Definitions of Terms”). Governance structures vary by entity; however, in most entities, governance is the collective responsibility of a governing body, such as a board of directors, a supervisory board, partners, proprietors, a committee of management, trustees, or equivalent. In some entities, one person, such as the owner-manager, may be the sole person charged with governance of the entity.

When “those charged with governance” are not clearly identifiable, the auditor and the engaging party should agree on the person(s) with whom the auditor will communicate. In those situations where the entity's governance structure includes subgroups (e.g., an audit committee), the auditor also should evaluate whether communication with a subgroup is sufficient.

Matters to Be Communicated

The auditor should communicate with those charged with governance:

1. The auditor's responsibility under generally accepted auditing standards, that is, forming and expressing an opinion on statements prepared by management with oversight by those charged with governance in accordance with the applicable financial reporting framework.

2. The fact that the audit of the financial statements does not relieve management or those charged with governance of their responsibilities.

3. An overview of the planned scope and timing of the audit.

4. Significant findings from the audit.

(AU-C 260.10-11)

The auditor may communicate matters such as:

● The auditor is responsible for performing the audit in accordance with GAAS.

● An audit is designed to obtain reasonable, not absolute, assurance.

● An audit includes consideration of internal control as a basis for designing audit procedures, but not for expressing an opinion on the effectiveness of internal control over financial reporting.

● The auditor is responsible for communicating significant matters related to the audit that are relevant to the responsibilities of those charged with governance.

● The auditor is responsible for communicating particular matters required by laws or regulations, agreement with the entity, or additional requirements applicable to the engagement.

(AU-C 260.A13)

Overview of the Planned Scope and Timing of the Audit

The auditor should communicate an overview of the planned scope and timing of the audit. To meet that general requirement, the auditor may communicate matters such as the following:

● How the auditor proposes to address the significant risks of material misstatement.

● The auditor's approach to internal control.

● The concept of materiality in planning and executing the audit.

● Where the entity has an internal audit function and the internal auditors can work together in a constructive manner, the extent to which the auditor will use internal auditors.

● The views of those charged with governance about:

● The appropriate person(s) in the entity's governance structure with whom to communicate

● The allocation of responsibilities between those charged with governance and management

● The entity's objectives and strategies, and the related business risks that may result in material misstatements

● Matters those charged with governance consider warrant particular attention during the audit, and any areas where they request additional procedures to be undertaken

● Significant communications with regulators

● Other matters those charged with governance believe are relevant to the audit of the financial statements

● The attitudes, awareness, and actions of those charged with governance concerning (1) the entity's internal control and its importance in the entity and (2) the detection or the possibility of fraud.

● The actions of those charged with governance in response to developments in financial reporting, laws, accounting standards, corporate governance practices, and other related matters.

● The actions of those charged with governance in response to previous communications with the auditor.

(AU-C 260.A20-A21)

Significant Findings

The auditor should communicate the following matters:

● The auditor's views about qualitative aspects of the entity's significant accounting practices, including accounting policies, accounting estimates, and financial statement disclosures.

● Significant difficulties, if any, encountered during the audit.

● Disagreements with management, if any.

● Other findings or issues, if any, arising from the audit that are significant and relevant to those charged with governance.

(AU-C 260.12)

The auditor should communicate significant difficulties, if any, encountered during the audit; these may include:

● Significant delays in management providing required information.

● An unnecessarily brief time within which to complete the audit.

● Extensive unexpected effort required to obtain sufficient appropriate audit evidence.

● The unavailability of expected information.

● Restrictions imposed on the auditors by management.

● Management's unwillingness to provide information about management's plans for dealing with the adverse effects of the conditions or events that lead the auditor to believe there is substantial doubt about the entity's ability to continue as a going concern.

(AU-C 260.A26)

The auditor should also communicate uncorrected misstatements, other than those the auditor believes are trivial. This information should include the effect they may have, individually or in the aggregate, on the auditor's opinion. Material uncorrected misstatements should be identified individually, and the auditor should request that they be corrected. So, too, the auditor should communicate the effect of uncorrected misstatements related to prior periods. (AU-C 260.13)

Unless all of those charged with governance are involved in managing the entity, the auditor also should communicate:

● Material corrected misstatements that were brought to the attention of management as a result of audit procedures.

● Written representations the auditor is requesting from management.

● The auditor's view of management's consultations with other accountants.

● Significant issues, if any, that were discussed, or the subject of correspondence, with management.

(AU-C 260.14)

Communication Process

The auditor should communicate, on a timely basis, with those charged with governance regarding the timing and expected general content of communications. (AU-C 260.15) The auditor may also communicate matters such as:

● The purpose of communications. When the purpose is clear, the auditor and those charged with governance are in a better position to have a mutual understanding of relevant issues and the expected actions arising from the communication process.

● The person(s) on the audit team and among those charged with governance who will communicate regarding particular matters.

● The form of communication.

● The auditor's expectation that communication will be two-way, and that those charged with governance will communicate with the auditor matters they consider relevant to the audit. Such matters might include strategic decisions that may significantly affect the nature, timing, and the extent of audit procedures; the suspicion or the detection of fraud; or concerns about the integrity or competence of senior management.

● The process for taking action and reporting back on matters communicated by the auditor.

● The process for taking action and reporting back on matters communicated by those charged with governance.

(AU-C 260.A35)

The auditor may discuss matters with management before approaching those charged with governance. In some circumstances, for instance where management's competence or integrity are involved, it would be appropriate to go directly to those charged with governance. In other circumstances, it might be helpful to go to management or to those in the internal audit function to clarify facts. (AU-C 260.A38)

Form of Communication

If it is the auditor's judgment that communication is not adequate, the auditor should communicate in writing significant findings from the audit (see “Matters to be Communicated”). If matters are communicated during the audit and satisfactorily resolved, those matters do not have to be documented. (AU-C 260.16) All other communications may be oral or in writing. When matters are communicated orally, the auditor should document them.

Timing of Communication

The auditor should communicate with those charged with governance on a sufficiently timely basis to enable those charged with governance to take appropriate action. (AU-C 260.18)

Evaluating the Communication Process

The auditor should evaluate whether the two-way communication between the auditor and those charged with governance has been adequate for the purpose of the audit. If the communication between the auditor and those charged with governance has not been adequate, the auditor should assess the effect on risk and the ability to obtain sufficient audit evidence, and should take appropriate action. (AU-C 216.19)

Qualitative Aspects of Accounting Practices

Auditors should seek to have an open and constructive communication with those charged with governance about the qualitative aspects of the entity's significant accounting practices. This communication may include comment on the acceptability of significant accounting practices.

When making this communication, the auditor should explain why he or she considers the practice not to be appropriate. When necessary, the auditor should request changes. If requested changes are not made, the auditor should inform those charged with governance that the auditor will consider the effect of this on the financial statements of the current and future years, and on the auditor's report.

The AU-C 260.A48 Appendix includes matters that may be communicated, such as the following:

Accounting Policies

● The appropriateness of the accounting policies to the particular circumstances of the entity, considering the need to balance the cost of providing information with the likely benefit to users of the entity's financial statements. Where acceptable alternative accounting policies exist, the communication may include identification of the financial statement items that are affected by the choice of significant policies as well as information on accounting policies used by similar entities.

● The initial selection of, and changes in, significant accounting policies, including the application of new accounting pronouncements. The communication may include the effect of the timing and method of adoption of a change in accounting policy on the current and future earnings of the entity, and the timing of a change in accounting policies in relation to expected new accounting pronouncements.

● The effect of significant accounting policies in controversial or emerging areas (or those unique to an industry, particularly when there is a lack of authoritative guidance or consensus).

● The effect of the timing of transactions in relation to the period in which they are recorded.

Accounting Estimates

For items for which estimates are significant, issues discussed in AU-C 540, Auditing Accounting Estimates, Including Fair Value Accounting Estimates and Related Disclosures, include, for example:

● Management's identification of accounting estimates

● Management's process for making accounting estimates

● Risks of material misstatement

● Indicators of possible management bias

Financial Statement Disclosures

● The issues involved, and related judgments made, in formulating particularly sensitive financial statement disclosures (for example, disclosures related to revenue recognition, going concern, subsequent events, and contingency issues)

● The overall neutrality, consistency, and clarity of the disclosures in the financial statements

Related Matters

● The potential effect on the financial statements of significant risks and exposures, and uncertainties, such as pending litigation, that are disclosed in the financial statements.

● The extent to which the financial statements are affected by unusual transactions, including nonrecurring amounts recognized during the period, and the extent to which such transactions are separately disclosed in the financial statements.

● The factors affecting asset and liability carrying values, including the entity's bases for determining useful lives assigned to tangible and intangible assets. The communication may explain how factors affecting carrying values were selected and how alternative selections would have affected the financial statements.

● The selective correction of misstatements – for example, correcting misstatements with the effect of increasing reported earnings, but not those that have the effect of decreasing reported earnings.

Other AU-C Sections

Requirements to communicate with those charged with governance are included in other AU-C sections, and readers should refer to those sections in this book: AU-C Sections 210, 240, 250, 265, 550, 560, 570, 600, 705, 706, 720, 730, 930, and 935.