Importance of ISA 701 in Auditing

The assignment explores the significance of International Standard on Auditing (ISA) 701, 'Communicating Key Audit Matters,' focusing on how it helps auditors identify and communicate important audit matters to stakeholders. It utilizes the ABC Learning case study to demonstrate the practical implications of ISA 701 in preventing business failures through effective auditing practices. The analysis also emphasizes the importance of communication between auditors and those charged with governance, along with the significance of audit documentation for determining crucial audit matters.

Running head: AUDITING & ASSURANCE SERVICES
Title: Auditing & Assurance Services
University Name:
Student Name:
Authors’ Note

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Executive Summary:
The current study critically assesses issues of auditing surrounding the collapse of the business
concern ABC Learning. This helps in comprehending the issues and helps in learning lessons
that might help in identifying the gaps in auditing. Moving further, this leads to the development
of new standard of auditing ASA 701 that if were applied before could have averted the collapse
of the firm. In addition to this, this study also helps in gaining deep understanding regarding
analysis as well as usefulness of the auditing standard ASA 701.

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Table of Contents
Introduction......................................................................................................................................3
Analysis of the collapse of the ABC Learning Centre....................................................................3
Study of the background of the collapse..........................................................................................3
Accounting and Auditing Issues Recognized..................................................................................4
Reports Presenting Audit Failures that surround the collapse of ABC Learning Centre................5
Issues that led to the development of the new auditing standard ASA701.....................................5
Evaluation of the usefulness of ASA 701........................................................................................6
Conclusion.......................................................................................................................................7
Recommendation.............................................................................................................................8
References........................................................................................................................................9

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Introduction
The AUASB issued the auditing standard ASA 701 that shows the level of commitment to
conformity with the current enhancements and modifications to audit reporting designed by the
International Auditing and Assurance Standards Board. This study helps in understanding that
auditing standard takes account of authorizing the communication of KAM in the reports of the
assessor and enables auditors of other business units to decide whether to take in KAM in the
report of the assessor. Furthermore, this study helps in analytically gaining understanding as
regards auditing issues surrounding the collapse of the firm ABC Learning Centre. In addition to
this, this study also carries out a detailed analysis of the issues related to the development of
novel accounting standard ASA 701 Communicating Important Audit Matters in the Independent
Auditor’s Report. Consequently, important audit materials are required in the audit report to
different members of ABC Learning Centre. Moving further, the study helps in analysis of
accounting standard ASA 701.
Analysis of the collapse of the ABC Learning Centre
Study of the background of the collapse
Analysis of reports on collapse of the firm ABC Learning Centre reveals the fact that the external
assessors of the firm ABC that is the Pitcher Partners delivered unqualified opinions since the
appointment during the year 2003. Nevertheless, after the appointed auditor left during 2007,
new assessors Ernst & Young presented a very diverse opinion regarding the profits of the firm
formerly mentioned by the management of the firm in the account statements. In addition to this,
the board also called KPMG as a third party in a bid to settle the variances between the two
different assessors.
Detailed study of the operations of ABC Learning reveals that ABC was co-established as a
childcare unit by Edmund Grooves and his wife. Previously, childcare units in Australia were
primarily not-for-profit organizations backed by government subsidies. However, during 1996,
management of ABC operated around 18 care units and became a chief player in private
childcare segment in Australia. During this period, the Australian government arrived at the
decision to provide the subsidy directly to the families that in turn generated potential for higher
rate of growth. Consequently, ABC seized the golden opportunity and arrived at decisions of
expansion by acquirement of properties in different prime locations and purchasing out
individual daycare centre with smaller childcare units. During the year 1999, the company
owned 30 units. Again, during the year 2001, ABC got listed in the Australian Stock Exchange,
providing it the opportunity of attainment of further growth in capital. However, the company
attained growth at an exponential rate after undergoing the process of listing, along with the
corporation nearly doubling the entire operations every year (William Jr et al. 2016). As such, by

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the end of the year 2005, the company acquired around 660 units in Australia and initiated
overseas ventures during 2006. However, at the time when the corporation was listed, the market
capitalization of the firm was at about AUD 25 million. Consequently, ABC became pear shaped
and the company ABC became overwhelmed by the repayments of debt and had to market
around 60% of the US subsidiary along with the entire UK auxiliary segments. Thereafter, it was
lastly traded at AUD 0.54 and thereafter was delisted from the A UX. Primarily; the primary
criticisms were made regarding the business model, diverse accounting practices, hostile
acquirement, capital expenditure, business leverage together with weak operational flow of cash
(Simnett et al. 2016). Essentially, it can be said that these can be considered as the contributing
factors that led to the collapse of the firm ABC Learning.
Accounting and Auditing Issues Recognized
Several accounting and auditing issues can be recognized in this regard. Acquisitions of ABC led
to the recognition of licenses of operations of childcare centers along with huge amounts of
goodwill. All these two can be considered to be intangible assets presented at the fair value in the
balance sheet. Assessment of financial reports revealed the fact that the goodwill of the company
increased to around AUD 271 million and licenses to AUD 2.4 billion during the period 2007
and 2008. Nevertheless, charges of the impairment for the intangibles were roughly AUD 2
million for specifically goodwill and AUD 8.4 million for license for childcare. Particularly, it
can be hereby mentioned that intangible assets mainly become worthless at the time when a
corporation runs into difficulty (Messier et al. 2014). As per Phillips Ross, chief of the school of
accounting at the University of Western Sydney it can be said that profits of ABC amplified
swiftly by means of acquirements that again could have raised questions as regards underlying
asset valuation that it obtained- particularly provided 70% of the assets were intangible. In
addition to this, inherent risks related to valuation of asset were massive.
During the period 2006, anonymous criticism was raised and concerns were associated to the
Australia Securities along with the Investment Commission regarding the valuation of childcare
licenses of ABC. Again, the complainant also mentioned that majority of the value generated
was founded completely on the net cash flow during the future of the corporation (Knechel
2016). In essence, this might possibly or might not be realized and approximated that between
the period 2001 and the year 2005, the company ABC generated more around AUD 390 million
in gains by means of revaluation of the licenses. It can be said that audit failures also added to
the collapse of the firm. The external assessor of the firm ABC Pitcher Partners provided ABC
unqualified viewpoints since their appointment during the year 2003. Nevertheless, after the
resignation of Pitcher Partners during the year 2007, the new assessor Ernst & Young provided a
totally diverse opinion regarding the profits mentioned in the accounts (Louwers et al. 2015).
However, KPMG was also appointed by the board.

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Reports Presenting Audit Failures that surround the collapse of ABC Learning Centre
As per report published by the Sydney Morning Herald, three different assessors counting two of
the largest names in the business examined the account exercises of ABC Learning. Again,
KPMG also could not locate mistakes with two materially different viewpoints provided by
diverse auditors of the company (Knechel and Salterio 2016). However, the findings have not
been divulged publicly, nevertheless, the Groves expressed it clearly that KPMG could not locate
the mistakes. Thus, it can be said that three diverse audit corporations including even two of the
biggest names in the business examined the account practices of the firm ABC Learning.
Although KPMG could not locate mistakes within two materially divergent viewpoints presented
by two different auditors, one of the audit corporations appropriately diagnosed the miserable
condition of the firm. Furthermore, the total liabilities of the firm ABC almost remained
reasonably constant. Nevertheless, during the period December 2007, approximately AUD 1.1
billion of borrowings was re-categorized from specifically current to diverse non-current
liabilities owing to refinancing. Again, the lenders of the firm ABC contained different leading
banks (Elder et al. 2011). During the period June in the year 2007, the firms ABC confirmed a
syndicated multi-alternative bank capacity for approximately AUD 1.48 billion of firm’s
borrowings.
Issues that led to the development of the new auditing standard ASA701
Analysis of financial assertions ABC could develop adequate operating cash flows in a bid to
pay interest, wages as well as salaries along with dividends. Even though profits of the firm
increased progressively over the past few years, there have been the several cases of corporations
that have failed on the backdrop of specifically positive earnings and profit along with the
negative operational flow of cash (Eilifsen et al. 2013). Again, it emerged that Grooves along
with other directors of the company ABC had assured their shares to acquire money. According
to the reports, it can be said that since the price of the share escalated, they were compelled to
sell all the shares that is equivalent to roughly 5.6% of the corporation to satisfy the entire
margin call provided by the corporation. In addition to this, analysis of the business case of ABC
Learning shows that forced sell of shares had immense influence on the stock price of the
corporation. The study thus helps in understanding the fact that all kinds of corporate collapses
have certain similarities as well as variances (Cohen and Simnett 2014). Nonetheless, similarities
from the perspective of issues that led to the collapse of the firm ABC are considerably
significant.
The scope of the auditing standard ASA 701 helps in understanding the basis of development of
the same. However, comparison to auditing issues encountered in the corporation ABC Learning
also helps in understanding the reason for the development of the accounting standard. Analysis
of business case on ABC Learning divulges the fact that improper communication by the audit
partners of the firm led to the collapse of the firm. Arens et al. (2013) asserts that the scope of

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the accounting standard ASA 701 helps in dealing with the accountability of the assessor and this
helps in communicating important audit matters in the report of the auditor. Again, it is intended
to deal with the judgment of the assessor as to what can be communicated in the report of the
assessor. Arens et al. (2016) also adds that the accounting standard ASA 701 also helps in
enhancement of the entire communicative value of the assertion of the auditor. This in turn can
help in delivering greater amount of transparency as regards the assessment that was undertaken.
Communication of particularly key matters of audit thereby delivers supplementary information
to specific users in assessing the business entity along with different areas of important corporate
judgment in the specific audit reports of the corporation. In addition to this, the scope of this
specific accounting standard ASA 701 also elucidates the fact that the communication of
important audit matters in the assertions of the audit assists in forming an opinion regarding the
financial reports on the whole. Again, communication of important audit matters in the
assessor’s audit that the appropriate financial reporting structure. Furthermore, auditing standard
is also applicable to the processes of audit of different general purpose financial reports of
diverse listed business entities at the time when the assessor decides to communicate diverse
important audit matters in the report of the auditor. Thus, it can be said that business case on
ABC Learning also helps in comprehending the negative effects of improper communication and
ill effects of unqualified opinions (Arens et al. 2012). This lesson learnt from the case on
collapse of ABC Learning leads to the development of the accounting standard ASA 701 that can
help in rectification of errors created by improper communication.
Evaluation of the usefulness of ASA 701
There are things that need to be divulged in the audit account to members of ABC Learning
Centre in case if the new auditing standard ASA 701 had been implemented before collapse.
Adherence to accounting standard ASA 701 can thereby aid in determination of important audit
matters, essentially those matters that necessitated attention of the assessor in carrying out the
assessment. As per paragraph 9 of ASA 701, this accounting standard takes into account diverse
areas of high amount of examined risk of material misstatement or else important risk detected as
per the ASA 315 (Arens et al. 2017). In addition to this, this accounting standard ( according to
paragraph A 23 to A24) of ASA 701 also considers important judgment of the assessor
associated to financial declarations that involved important judgment of the management
counting accounting approximations that have been recognized as having higher approximation
uncertainty (Auasb.gov.au 2017). Furthermore, the influence of assessment of important events
or else transaction that took place during the phase is also taken into account as per the directives
of the accounting standard ASA 701 (presented in the paragraph A 25 to paragraph A 26). The
assessor also need to determine diverse matters determined as per paragraph 9 of ASA 701 that is
significant in the assessment in the process of assessment of financial reports of the firm and
thereby the important audit matters (according to A 9 to A 11 along with A 27 to A 30)
(Auasb.gov.au 2017).

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Particularly, analysis of business case on collapse of the ABC Learning reveals the issues
associated to improper detection of material misstatements that led to inappropriate
determination of important audit matters. Thus, compliance to the auditing standard ASA 701
can thereby help in incorporating key factors as stated above for determination of key matters of
audit. Consequently this help in detection of risk of material misstatement, inappropriate
accounting approximations and proper inclusion of important events. Thus, the business issues
faced in case of ABC Learning points out towards the needs for the development of the
accounting standard.
In addition to this, lessons learnt from the business case on ABC Learning also reflects the need
for not only determination of key audit matters and but also proper communication of
professional judgments. The unqualified opinion by the auditors of ABC therefore reflects the
need for the design as well as development of ASA 701. ASA 701 (referring to paragraph 14 and
paragraph 15) mentions that there are audit matters along with necessity of professional
judgement that is of huge importance in the process of audit of pecuniary assertions. Again, this
standard also helps in properly addressing diverse matters in the specific context of audit of
financial declarations and in developing an opinion of auditor (as per paragraph A 31 to A 33)
(Auasb.gov.au 2017).
In addition to this, ASA 705 also refers to matters that give rise to modified estimation or
material uncertainty associated to diverse events or else conditions that might cast considerable
doubt on the capability of the business unit to continue as a going concern. These are not present
there in the requirements of paragraph 13 to 14 of this specific auditing standard. Thus, reports
on these matters can be presented as per Australian Auditing Standards and incorporated as a
reference to the (“Basis for Qualified Opinion”) (Auasb.gov.au 2017).
Conclusion
In conclusion, it can be said that unqualified opinions by different accounting and auditing firms
can be challenged in the after different corporate scandals such as that of the collapse of ABC
Learning. The study also helps in understanding Particular failures of financial institutions
during the period of global financial crisis that led to difficulties owing to the unqualified
opinions of the accounting firms. Additionally, the current study also assists in comprehending
the issues that led to the failure of business and consequent collapse of the ABC Learning. Thus,
the lessons learnt from the provided business cases helps in gaining understanding regarding
factors that lead to the development of the ISA 701. This subsequently describes diverse
important audit matters and explains significance of audit in the financial assertions of the
present period as per the personal judgment of the assessor that can avert business failures.

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Recommendation
Analysis of the business case on ABC Learning shows the importance for carrying on
communication with the ones charged with processes of governance. Therefore, management of
firm might have considered matters that auditors need for determination of important matters of
audit. Audit documentation can also be regarded to be very significant for determination of Audit
matters along with communication of reports of audit (paragraph 15 of ASA 701).

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References
Arens, A.A., Best, P., Shailer, G., Fiedler, B., Elder, R.J. and Beasley, M., 2017. Auditing and
assurance services in Australia: an integrated approach. Pearson Education Australia.
Arens, A.A., Elder, R.J. and Mark, B., 2012. Auditing and assurance services: an integrated
approach. Boston: Prentice Hall.
Arens, A.A., Elder, R.J., Beasley, M.S. and Hogan, C.E., 2016. Auditing and assurance services.
Pearson.
Arens, A.A., Elder, R.J., Beasley, M.S. and Jenkins, G.J., 2013. Essentials of Auditing and
Assurance Services: An Integrated Approach. New Jersey: Prentice Hall.
Auasb.gov.au. 2017. Auditing and Assurance Standards Board (AUASB) - Home. [online]
Available at: http://www.auasb.gov.au [Accessed 31 Aug. 2017].
Cohen, J.R. and Simnett, R., 2014. CSR and assurance services: A research agenda. Auditing: A
Journal of Practice & Theory, 34(1), pp.59-74.
Eilifsen, A., Messier, W.F., Glover, S.M. and Prawitt, D.F., 2013. Auditing and assurance
services. McGraw-Hill.
Elder, R.J., Beasley, M.S. and Arens, A.A., 2011. Auditing and Assurance services. Pearson
Higher Ed.
Knechel, W.R. and Salterio, S.E., 2016. Auditing: Assurance and risk. Taylor & Francis.
Knechel, W.R., 2016. Auditing: Risk and assurance. Routledge.
Louwers, T.J., Ramsay, R.J., Sinason, D.H., Strawser, J.R. and Thibodeau, J.C., 2015. Auditing
& assurance services. McGraw-Hill Education.
Messier, W.F., Glover, S.M. and Prawitt, D.F., 2014. Auditing and Assurance Services: A
Systematic Approach; Diterjemah oleh Denies Priantinah, Linda Kusumaning Wedari, 2014.
Salemba Empat. Jakarta.
Simnett, R., Carson, E. and Vanstraelen, A., 2016. International Archival Auditing and
Assurance Research: Trends, Methodological Issues, and Opportunities. Auditing: A Journal of
Practice & Theory, 35(3), pp.1-32.
William Jr, M., Glover, S. and Prawitt, D., 2016. Auditing and assurance services: A systematic
approach. McGraw-Hill Education.

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