The Impact of ASA 701 on Auditor's Report: ABC Learning Analysis

This report provides a comprehensive analysis of the impact of Australian Auditing Standard (ASA) 701 on auditor's reports, using the collapse of ABC Learning as a case study. It begins with an executive summary and an introduction to ABC Learning, a company that faced financial difficulties ...Read More

RUNNING HEAD: IMPACT OF ASA 701 ON AUDITOR’S REPORT
APPLICATION OF ASA 701 TO THE
AUDIT OF ABC LEARNING CENTER

IMPACT OF ASA 701 ON AUDITOR’S REPORT 1
Executive Summary
This research gives a clear understanding about the implications of new changes that are
brought in the reporting requirement through the introduction of new standards on auditing.
One of such standards is ASA 701 which requires the independent auditors of the company to
report on all the matters that are of significance to the intended users of financial statements
so that adequate information about the company’s financial position can be delivered to them
in time to assist the investors in proper decision-making about investments made in the
company. The report also sets out the major auditing issues which had contributed to the
collapse of ABC Learning centres as ASA 701 was not in effect at the time company was
facing the financial crisis. The financial statements of ABC Learning were manipulated and
the auditor of the company failed to apply required auditing procedures to modify the opinion
in the audit report which turned out to be one of the issues for the company’s collapse.

IMPACT OF ASA 701 ON AUDITOR’S REPORT 2
Table of Contents
Executive Summary...............................................................................................................................1
Introduction...........................................................................................................................................3
Auditing issues that revolved around the collapse of ABC Learning.....................................................3
The issues that led to the development of ASA 701..............................................................................5
Key Audit Matters to be disclosed in the auditor’s report......................................................................5
Usefulness of ASA 701.........................................................................................................................7
Recommendations.................................................................................................................................8
Conclusion.............................................................................................................................................9
References...........................................................................................................................................10

IMPACT OF ASA 701 ON AUDITOR’S REPORT 3
Introduction
ABC Learning was a company listed on Australian Stock Exchange. The company had it’s
privately owned centres for child-care and it was established in the year 1988. But
unfortunately, the company had to face its sudden fall in the market which led to the delisting
of company’s name from the stock exchange. The financial statements of the company were
falsified to a great extent and the auditor of the company had failed to provide an appropriate
opinion about the true and fair view of the financial position of the company as a result of
which the investors of the company could not be acknowledged about the company’s actual
financial situation. Resultantly this became the reason for the suspension of ABC Learning
auditor. If ASA 701 (Communicating the key audit matters in the independent auditor’s
report) was introduced at the time company was facing the downfall in its position the
investors could get a true picture of company’s standing in the market through the auditor’s
report as ASA 701 is an Australian standard of auditing which sets out the responsibility on
an independent auditors of the companies to incorporate the important matters as a result of
the audit findings in auditor’s report. ASA 701 was introduced by Australian Auditing &
Assurance Standards Board on December 1st, 2015 and this standard is in effect for the audits
of financial statements of the periods ending on or after December 15th, 2016.
Auditing issues that revolved around the collapse of ABC Learning
 Firstly, the auditor of the company had failed perform his audit engagement duties
with due care and independence. Professional scepticism was required of the auditor
of ABC Learning to be maintained throughout the work of audit which he did not
apply. According to the reports of investigation done by the Australian Securities
&Investments Commission the company’s auditor was unable to obtain reasonable

IMPACT OF ASA 701 ON AUDITOR’S REPORT 4
level of assurance as to whether the financial report pertaining to the year 1997 was
free from all the significant misstatements (Xu, et al.,2011).
 Secondly, the auditor was required to obtain sufficient and appropriate audit
evidences by applying detailed audit procedures to check the appropriateness of
accounting treatment given by ABC Learning in its financial statements for various
transactions such as the development fees of centres that was included as the income
of the company which resultantly led to the significant overstatement of revenues of
the company.
 Thirdly, the auditor was failed to apply his professional judgement regarding the
correctness of entity’s going concern assumption as he was unable to gather
appropriate evidences to check the reliability of the assumption made by the company
about its ability to operate indefinitely (Ross, Sy & Tinker, 2012).
Moreover, as per the reports of the commission, the auditor was also guilty of
negligence towards the duties in the areas of identification and disclosure of
company’s transactions with its related parties as he did not apply adequate audit
procedures to identify and disclose the related parties of ABC Learning. Since the
company had complex transactions with the related parties which required reader’s
attention, the auditor failed to disclose those issues in the audit report. At the same
time auditor did not pay required attention towards the improper valuation of
company’s assets which were the major part of company’s balance sheet (Bita, 2012).
The financial statements that were issued to the stakeholders were in conflict with the
company’s actual position as the auditor failed to report on this matter it led to the
auditor’s suspension for the 5 years (Kruger, 2012).

IMPACT OF ASA 701 ON AUDITOR’S REPORT 5
The issues that led to the development of ASA 701
The basic purpose of development of such standards on auditing is to enhance the quality of
audit and to function in accordance with the legislative framework of Australia. ASA 701
was taken into effect with the aim of improving the communication between the auditor of
the entity and the intended users of audit report as this will assist the investors and other
stakeholders to have a better understanding of the significant matters to take informed
decisions in future while engaging with the entity (Coram, Mock, Turner & Gray, 2011). As
the shareholders invests huge amounts of funds in the company they expect the company to
maintain a higher degree of transparency about its functioning to build up the confidence of
the investors in the company. The auditors are expected to justify their independence to the
maximum level while providing the opinion as to whether the financial statement of the
company are free from any material misstatements due to frauds and errors. Prior to the
introduction of the new standards of auditing there was a lack of proper and adequate
communication about the matters which are of great significance to the intended users of
financial reports of the company.
Key Audit Matters to be disclosed in the auditor’s report.
The auditor has to apply his own judgement in order to determine as to which matters are to
be included in his report. Some of the matters that the auditor of ABC Learning needs to
incorporate in his report are as follows:
 The going concern assumption of the company:
The auditor of the company has to report on the appropriateness of the going concern
assumption which the company is following in the preparation and presentation of its

IMPACT OF ASA 701 ON AUDITOR’S REPORT 6
financial statements. And he must provide the details of events that cast significant doubt
about the company’s assumption of going concern.
 Any material deficiencies found in the internal control system of the company:
The auditor should report adequately about the significant weaknesses in the system of
internal controls that he comes across during his audit engagement which may result in the
occurrence of material misstatements at the financial statement level or at the assertion level.
 Regulatory and taxation matters of company:
The auditor of ABC Learning has to consider the laws and regulations that are applicable on
the company and then report appropriately on how well the company is adhering to the
regulatory requirements. Auditor must ensure that the company has adequately disclosed and
accounted for all penalties and litigation fines, if there are any. The auditor must also look to
the matters of taxation as to whether the company is regular in paying the taxes or not and if
any material discrepancies in the regulatory compliances are found then it must be reported.
 Criteria of recognizing revenue in the financial statements:
The revenue of the ABC Learning was grossly misstated in the financial statements of the
company as the development fees of the centres was incorrectly included in the income of the
centres. So the auditor has to ensure that the company is following the appropriate criteria for
recognizing its revenue in the financial statements.
 Purchase and Sale of investments by the company:
The auditor of ABC Learning should report on the accounting treatment for the investments
acquired and disposed off during the financial period after examining the certificates
investments made to check whether the investments are correctly classified and valued.
 Risk of impairment of assets of the company:

IMPACT OF ASA 701 ON AUDITOR’S REPORT 7
If during the audit engagement auditor identifies any indications of decline in the market
value of assets such as goodwill leading to asset impairment the same must be reported
adequately if the company has not provided for the decline in the market values of the assets.
Moreover, the auditor of ABC Learning must also report such matters where there is higher
degree of risk of misstatements. As per the AUASB the entities which are listed on the
Australian Securities Exchanges must not have more than 6 key audit matters.
However, there are certain matters which are sensitive enough to not to be disclosed publicly
as it would have adverse impact on the management of the company. So the auditor has to
keep in mind several factors while deciding as to what to disclose in his report and what
needs to be kept confidential (Audit.tas.gov, 2016). Also, there are some governmental
restrictions for certain matters’ disclosures, so the auditors must not disclose them in the
report (Council, 2013).
Usefulness of ASA 701
Introduction of ASA 701 was an important initiative towards the improvement of audit
quality as it requires the auditor to remain aware of anything unusual that he comes across
during the entire audit engagement. As ASA 701 has widened scope of the reporting
requirements to be done by an independent auditor of a company assist will result in
prevention and control of frauds and errors to an extent. The additional information that is
provided by a way of audit report helps the users of financial reports to understand the
significant matters more accurately so that they can have the proper knowledge of company’s
financial position (Bajada & Trayler, 2010). The Standards of auditing enables the auditors to
know well about their responsibilities so that audit can be planned and performed in the best
possible manner subject to auditor’s knowledge and expertise. ASA701 defines the key audit

IMPACT OF ASA 701 ON AUDITOR’S REPORT 8
matters and also talks about the manner of determination of those important matters to be
reported in the audit report. If proper information was imparted through the audit report the
stakeholders could get to know well in advance that ABC Learning is going to liquidate soon.
The main objective of an audit of financial statements is to enable the auditor to express the
opinion about the truth and fairness of the financial statements of the entity. Since the
financial statements of the company are prepared by the management, there remains higher
chances of falsification of financial reports made by the entity to mislead the investors and
other users of the report (Aasb, 2015). However, if proper audit is conducted by the auditor in
accordance with the standards of auditing, the risk of misstatements due to frauds and errors
in the statements could be reduced to a reasonable level as the auditors are the independent
parties with requisite knowledge and expertise to conduct an audit with due diligence, they
can be relied upon by the investors. Once these audit procedures are over, then starts the
requirement of reporting about the key findings of the audit function. The auditor’s report
shall state that the audit was conduct in accordance with Standards on Auditing (Arens, et al.,
2010). The auditor’s report shall state whether the auditor believes that the evidences the
auditor has obtained are sufficient enough to provide an opinion. Since the external parties
dealing with the company do not involve in the presentation and preparation of financial
statements they rely on the third party i.e. the auditor of the company and believes him to be
independent enough to present the true and fair view of company’s financial position (Ball,
Tyler & Wells, 2015).
Recommendations
Through the above research it is highly recommended for the auditors of the companies to
maintain an excellent level of independence in the audit engagement so that true opinion on
the preparation and presentation of financial statements of the company can be formed. The
auditors are therefore required to follow the ASA 701 in a complete sense while reporting

IMPACT OF ASA 701 ON AUDITOR’S REPORT 9
about the audit findings. As ASA 701 requires the auditor to report appropriately all the key
and significant findings of audit process on a timely basis, the auditor must follow the
standard while communicating with the intended users of financial report of the company to
enhance the credibility of audited financial statements in the eyes of intended users.
Conclusion
From the above research it is well demonstrated that the introduction of ASA 701 was
brought into the concept to enhance the reporting responsibilities of the auditors of the listed
entities so as to increase the level of confidence of the investors of the company as the
application of such standards on auditing will help company to maintain a better transparency
and it will also help in the prevention and reduction of frauds to a certain extent. Therefore it
can be said that if ASA 701 was introduced before the time the company ABC Learning had
to face the severe issue of financial crisis it could have reduced the severity of the issue of
collapse.

IMPACT OF ASA 701 ON AUDITOR’S REPORT 10
References
Aasb.gov. 2015. Presentation of Financial Statements. Available at:
http://www.aasb.gov.au/admin/file/content105/c9/AASB101_07-15.pdf(Accessed on 25th
August, 2017).
Arens, A., Best, P., Fiedler, B.A., Shailer, G., Elder, R.J. and Beasley, M., 2010. Auditing,
assurance services and ethics in Australia: an integrated approach.
Audit.tas.gov. 2016. Accounting and Auditing Developments. Available at:
http://www.audit.tas.gov.au/wp-content/uploads/Accounting-Auditing-Developments-
newsletter-April-20161.pdf(Accessed on 25th August, 2017).
Bajada, C. and Trayler, R., 2010. How Australia Survived the Global Financial Crisis. The
Financial and Economic Crises: An International Perspective, Edward Elgar: Cheltenham,
UK and Northampton, USA, pp.139-154.
Ball, F., Tyler, J. and Wells, P., 2015. Is audit quality impacted by auditor
relationships?. Journal of Contemporary Accounting & Economics, 11(2), pp.166-181.
Bita, N., 2012. Five-year ban slapped on ABC Learning auditor: The Australian, 9 August,
Available at:http://www.theaustralian.com.au/news/nation/five-year-ban-slapped-on-abc-
learning-auditor/news-story/00525dc8af00cf00989f8e19d750a634 (Accessed on 25th August,
2017).
Coram, P.J., Mock, T.J., Turner, J.L. and Gray, G.L., 2011. The communicative value of the
auditor's report. Australian Accounting Review, 21(3), pp.235-252.
Council, F.R., 2013. Proposed International Standard on Auditing (ISA) 701: Communicating
Key Audit Matters in the Independent Auditor’s Report (2013).

IMPACT OF ASA 701 ON AUDITOR’S REPORT 11
Kruger, C., 2012.Lessons to be learnt from ABC Learning's collapse: The Sydney Morning
Herald, 2 January, Available at: http://www.smh.com.au/business/lessons-to-be-learnt-from-
abc-learnings-collapse-20090101-78f8.html (Accessed on 25th August, 2017).
Kruger, C., 2012.Five-year suspension for former ABC Learning Auditor: The Sydney
Morning Herald, 9 August, Available at: www.smh.com.au/business/fiveyear-suspension-
for-former-abc-learning-auditor-20120808-23uj8.html(Accessed on 25th August, 2017).
Ross, P., Sy, A. and Tinker, T., 2012. ABC Learning: accounting lessons never
learned?. International Journal of Critical Accounting, 4(1), pp.21-29.
Xu, Y., Jiang, A.L., Fargher, N. and Carson, E., 2011. Audit reports in Australia during the
global financial crisis. Australian Accounting Review, 21(1), pp.22-31.