Critical Analysis of Key Audit Matters in ASA 701 Auditing Report

This report provides a comprehensive analysis of ASA 701, focusing on Key Audit Matters (KAM) and their critical role in modern auditing practices. The study begins with the context of the Lehman Brothers collapse, highlighting the significance of KAM in preventing financial failures and protecting investor wealth. The report delves into the development of ASA 701 and its implications for the banking industry, emphasizing the importance of transparent financial reporting and risk management. The analysis includes a detailed examination of the practical application of KAM in the annual reports of major banks such as AMP Bank, Suncorp Group, and ANZ Bank. Specific KAMs, like the sale of AMP Life wealth and customer remediation provisions, are examined, along with goodwill impairments and life insurance liabilities. The report underscores the vital role of auditors in identifying and communicating KAMs to ensure the reliability of financial statements and protect stakeholders' interests. The report concludes by emphasizing the necessity of following ASA 701 guidelines to maintain ethical standards in auditing and prevent significant financial losses.

AUDITING

KAM ASA 701
Executive Summary
The Key audit matter has assumed a place of special importance because a neglect of the same
led to major issues and eroded the wealth of the investors. The downfall of Lehman brothers was
a glaring example that shook the world by surprise. The current report is dedicated towards ASA
701, the manner of its development and why it is important in the current scenario. The advent of
ASA 701 is studied with the collapse of Lehman brothers. Further, the banking industry is
studied and the major banks annual report is studied that gives an evidence of the manner in
which the key audit matter is presented.
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KAM ASA 701
Contents
Introduction................................................................................................................ 3
Auditing issues surrounding the Lehman collapse:.....................................................4
Importance of the key audit matters..........................................................................5
AMP Bank..................................................................................................................... 7
Suncorp group............................................................................................................ 7
ANZ Bank..................................................................................................................... 8
Conclusion................................................................................................................ 10
References............................................................................................................... 11
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KAM ASA 701
Introduction
Lehman brothers were considered as a pioneer when it comes to the mode of investment banking
in the United States and are also said to provide various kind of international financial services to
the public and other organizations. It was observed in September of 2008 that the organization
declared itself to be insolvent and filed for chapter 11 bankruptcies. The most important causes
for failures and downfall of the organization were improper approach to risk management by the
management structure and also the inefficient audit process that was carried out in the firm. The
audit process carried out by the management neglected all the risks that were prevailing upon the
organization because of which various items from the financial statements that were at high stake
in nature were ignored (Wiggins, Piontek & Metrick, 2014). Therefore, it is important for
organizations to follow proper rules and regulations so that stick control measures can help them
to improve their course of action.
Details needing proper highlight for preparing the financial statements
It was observed between the years 2001-2008 that the housing market was blooming in the
industry. This was analyzed by Lehman brothers Limited and later they invested a huge sum in
the housing market after borrowing money from various investors. It was gradually observed that
the business of the mortgage market was becoming worse and hence the organization was going
to face a huge loss (Wiggins, Piontek & Metrick, 2014). The Organization was also observed to
provide real estate, private financing from its own capital but none supported it at the time of
downfall. Billions of dollars were invested by the organization in risky portfolios without
analyzing the consequences that may be faced by them in the future (Livne, 2015). In order to
make those investments, billions of dollars were raised with the help of financers, who were also
observed to be at stake because of the inefficient decisions of the firm.
Issues of Audit that led to Lehman downfall
The downfall of Lehman brothers limited state various points of inefficient audit facility that was
provided to the organization. Disclosing the material facts and communication or providing
disclosure pertaining to KAM would have helped the organization to understand the loopholes
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KAM ASA 701
present in the management system. It is vital that KAM should be properly highlighted as per th
regulation of ASA 701 which was absent at that time and was not followed by the organization.
Repo 105 transactions financial statements approval
It was seen that the organization had the liability to buy back the billion of dollar of securities
that were temporarily transferred to the third parties. The financial statements were devoid of
such transactions. Because of the absence of these kinds of transactions in the balance sheet,
alterations were observed in the report (Lapsley, 2012).
The Organization was also liable to repurchase all the securities at a much lower rate. However,
these transactions were kept hidden under the necessary information that was provided in the
footnotes of the financial documents. The auditors should have analyzed these facts carefully so
as to mention them in their audit report and report them as material misstatements.
Miss-stated leverage ratios were not disclosed
It was mentioned in the reports that the leverage ratio of the organization falls in the year 2008 in
contrast to the date of 2007. Also, it can be stated that this decline may have been a result of the
false repo 105 transactions. By the end of the accounting period, The Organization was also
asked to repay the debts of all the transactions pertaining to repo and that would be shown in the
balance sheet of the organization. This affected the leverage ratios of the organization materially
because of which it was necessary for the auditors and accountants to mention these transactions
in the financial statements and audit reports.
The points mentioned above were one of the most important reasons for the decline.
Miscommunication and inefficient governance structure of the organization made it vulnerable to
various risks. If proper guidelines of ASA 701 were followed, then the organization would have
strictly followed the rules and regulations that were required for maintaining ethnicity in the
audit and financial reports. The use of this standard would have helped the organization to
safeguard itself from various vulnerabilities and also dodge the irrecoverable losses.
Approval of the organization's repo 105 policy that manipulated the balance sheet:
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KAM ASA 701
The Lehman brothers Limited were observed to approve all the repo 105 and reverse repo
transactions that were treated in the balance sheet comprising of investments trading. This policy
was clearly approved by the auditors. The auditor should have stopped the organization from
making such transactions and want them so that they could have been saved from the bad
consequences. Later, it was also observed that the organization started repo 108 transactions in
which the equity of the organization was used to suffix the fixed income securities as collaterals.
The auditor's approved this policy also because of which organization suffered from the adverse
consequences in the future.
Importance of the KAM
The key audit matter is reflected and described with the help of ASA 701 of the committee set up
by AUASB. The crucial matters are defined in the annual report which forms a part of the
auditor report so that the investors are able to get a clear picture of the happenings. This standard
ensures that the auditor project the key audit matter so that the related parties are able to know
the matters that affects the company (Geoffrey, Joleen, Kelli & David, 2016). Further, it even
states the manner that the auditor has addressed such issues. The introduction of ASA 701 clearly
states the importance of enhancement and development that are needed to be made in the
organization’s financial statements so that everything is recorded in accordance to the
International Auditing and Assurance Standard Board. The application of this new standard also
has the organization in various other ways:
• presenting the KAM in the communication report of the auditors is now made compulsory in
nature.
• Allowing external auditors to take a decision in regards to the KAM that must be highlighted
in the Auditor report
• Determination of the ways that will be used by the auditor to state the KAM in the report.
Also, the areas that are needed to be considered for risk assessment should be judged by the
auditors so as to take significant decisions and further help the management to judge the situation
precisely (Fazal, 2013).
• It defines the way of how the auditor should work in accordance with the KAM.
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KAM ASA 701
• The analysis is conducted for various situations which are not stated in the annual report but
are major key audit matters.
• Other documents that should be presented in relation to the key audit matters are also made
compulsory because of this auditing standard (Fazal, 2013).
KAM can be said to be those matters that required professional judgment and are very important
for the profitability of the organization (Merchant, 2012). The financial report contains certain
points which are very necessary to be analyzed and any kind of vulnerability present in them
should be clearly noticed because they will affect the overall condition and performance of the
business (Elder, Beasley & Arens, 2010). Each and every key audit matters should be audited
carefully and an opinion should be formed on it so as to determine their effectiveness. Audit
procedures that are to be carried out by the organization should be communicating all the key
audit matters and the relevant topics so that the audit report can be helpful for the users of
financial statements. Identification of the risks and vulnerabilities in the financial statements will
help the organization to use strict measures that can help the Organization to avoid any
unbearable circumstances.
To understand the concept of KAM in the banking industry we are considering three banks and
highlighting the key audit matter presented by them and the role played by the auditor
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KAM ASA 701
AMP Bank
Sale of AMP life wealth production and mature portfolios
It was observed that the group announced the completion of its portfolio review on October 25th,
2018 that resulted in the sale of the wealth protection and mature portfolios to resolution life and
also help the organization to complete and fulfill the listing that was remaining in the New
Zealand business and stock exchange. The complex nature of the transactions and their
completion periods were very important for judgment tasks because they were considered to be
key audit matters. Various classifications of assets and liabilities were being made in order to
assess the total operations that were being carried out by the organization. The organization
recognized all the assets and liabilities so as to discontinue the operations that were not fulfilling
the Australian accounting standards (AMP Bank, 2018). Also, proper disclosures were made in
the financial report of the organization after determining the adequacy of the transactions.
Customer remediation provisions
Various types of provisions were recorded by the organization in relation to the customer
remediation programs. The total amount of the provisions amounted to 656 million dollars as at
31st December 2018. Different judgments were made by the auditors of the organization in
relation to this matter because it is very important for them to determine the reliable position of
the provisions that have been kept by the company (AMP Bank, 2018).
The audit procedures of the organization included the evaluation of various types of potential
risks that can lead to customer complaints, regulatory breach, and other claims or litigations. a
proper understanding was also made in relation to the programs carried out by the organization
by the help of management investigations, questionnaire with the regulators, key audit matters
that were being determined and also the approaches used to carry out the decision making task
by the board members and other managers or directors.
Suncorp group
Goodwill
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KAM ASA 701
One of the most important aspects of an organization is to create clear reservations on the
impairment of the Goodwill value as to forecast the discount rates, cash flows, and other
assumptions that can help the organization to grow in future. The net interest income and growth
of the assets of the organization are dependent on the terminal growth rate assumptions
(Suncorp, 2018).
The organization conducted various processes to carry out the audit task. The auditors assess the
organizational transactions for CGU based understandings that were being operated in the
business. An analysis was also being made in order to determine the results that were aggregated
and monitored internally by the organization. The analysts and valuation specialists were
challenged to forecast the cash flows, discounted and growth assumptions in the most
appropriate value possible (Suncorp, 2018). The valuation specialist was also required to assess
the external data that is being published in the economic growth projections of the industrial
organizations so that proper comparison can be made in relation to the inputs like discount rates.
Life insurance contract liabilities and gross policy liabilities under insurance
It was observed that the organization was trying to consider a broader life insurance industry so
as to elevate the protection for the business. Amendments and reinsurance arrangements were
made in order to estimate the life insurance contract liabilities. Various strategic reviews were
conducted in order to determine the life of business in the Australian market which will further
help them to improve the claims and outcomes by reducing the cost. The comparison was made
by the organization in relation to the actual historical cost experiences and observable market
data for the business and assumptions of actuarial accounting standard requirements.
ANZ Bank
Credit impairment provision
The organization should properly use the accounting standard while preparing the financial
reports. Proper use of accounting standards will help to develop a financial report which is free
from material misstatement. Also, proper disclosure should be made so that the investors can
determine the loans and advances that have been exercised by the company (ANZ Bank, 2018).
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KAM ASA 701
The methods and models used by the organization to record the transactions and make judgment
should also be presented as the KAM in the audit report of the organization.
The auditor is determined to evaluate the risks contained in the financial statements of the
organization so that the credit quality of the counterparties can be assessed and the performance
of the annual loan assessment can be made. Different type of test control systems and
identification of microeconomic factors that can affect the business of the organization should be
conducted so as to fulfill the policies and regulatory requirements of the firm.
Valuation of financial instruments held at FV
All the financial instruments of the organization were measured on the basis of fair value with
the help of profit or loss. Hence the instruments were also mentioned in the key audit matters
because of the significant benefit they play in the organizational business for the range of
products that are managed and can lead to inaccurate valuations (ANZ Bank, 2018). The audit
procedures were included in the management and test control systems so that transaction
processing systems and the accuracy of data transfer can be evaluated across the products for
inconsistency.
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KAM ASA 701
Conclusion
Overall it can be commented that the main role in terms of evaluation is being played by the
auditors. Hence the financial statements should be properly evaluated so that a genuine view can
be attained. The auditor should work in tandem with the auditing regulations and search the
books of account for any kind of material misstatements. In the case of Lehman Brothers
Limited, it was observed that the auditors depended on third parties for evaluation of the
financial statements which led to inaccurate appropriations. The downfall of Lehman brothers
Limited also indicated that there was a huge gap present between the regulation that was to be
followed and the implementation of the actual process. The failure of the organization clearly
indicates a problem in the supervision and auditing standards that were used for assessment of
the financial statements. Auditors should strictly follows the norms and abide by the ethics that
will lead to clarity and presentation avoiding the risks.
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KAM ASA 701
References
AMP Bank. (2018) AMP Bank 2018 Annual report & accounts. Available from:
https://corporate.amp.com.au/content/dam/corporate/aboutus/files/AMP_2018_AR.pdf
[Accessed 19 May 2019]
ANZ Bank. (2018) ANZ Bank 2018 Annual report & accounts. Available from:
https://shareholder.anz.com/sites/default/files/anz_2018_annual_report_final.pdf [Accessed 19
May 2019]
Elder, J. R, Beasley S. M. and Arens A. A. (2010) Auditing and Assurance Services. Person
Education, New Jersey: USA
Elder, J. R., Beasley S. M., and Arens A. A. (2010) Auditing and Assurance Services. Person
Education, New Jersey: USA
Fazal, H. (2013) What is Intimidation threat in auditing?. Available from:
http://pakaccountants.com/what-is-intimidation-threat-in-auditing/ [Accessed 19 March 2019]
Gay, G., and Simnet, R. (2015) Auditing and Assurance Services. McGraw Hill
Geoffrey D. B, Joleen K, K. Kelli S. and David A. W. (2016) Attracting Applicants for In-House
and Outsourced Internal Audit Positions: Views from External Auditors. Accounting Horizons.
30(1), pp. 143-156. Available from https://doi.org/10.2308/acch-51309 [Accessed 19 March
2019]
Hoffelder, K. (2012) New Audit Standard Encourages More Talking. Harvard Press.
Lapsley, I. (2012) Commentary: Financial Accountability & Management. Qualitative Research
in Accounting & Management. 9(3), pp. 291-292. Available from https://doi.org/10.1111/1468-
0408.00081 [Accessed 19 March 2019]
Livne, G. (2015) Threats to Auditor Independence and Possible Remedies. [online] Available
from: http://www.financepractitioner.com/auditing-best-practice/threats-to-auditor-independence-
and-possible-remedies?full [Accessed 19 March 2019]
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