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The new auditing standard ASA701 Communicating Key Audit Mattersin the Independent Auditor’s Report is developed in the wake of the global financial crisis. This development is in response to calls from shareholdersto know more about the companiesthey invest in. Further, investors have also requested earlier warnings of potential issues that may exist with respect to an entity’s ability to continue as a Going Concern which resulted in the revision of ASA 570 (ISA 570) Going Concern. Students are required to research into the rationale for the new auditing standard ASA 701, explain clearly what it is and select an industry, eg. banking, mining, etc and analyse Key Audit Matters in the Independent Auditor’s reports of all companies in that industry in ASX Top 100 listed companies as part of your evaluation of this new standard.

Required Using reference materials available on the internet, research the topic and prepare a report, fully referenced (including the Annual Reports of companies selected for your assignment) and up to 2,500 words (assignment in excess of 2,500 words will be penalized). Minimum of 8 academic referencesis required. Due Date: Week 10 – 11:59 pm Thursday of Week 10 The report should include title page, executive summary, table of contents, appropriate headings and sub headings, recommendations,reference list (HarvardAnglia style), attachmentsif relevant,single spaced, font Times New Roman 12pt. The marking guide will be as follows: 30% Analysis 30% Research – extent and application 30% Recommendations/conclusions 10% Presentation Total mark will be scaled to a mark out of 30 subject marks.

Identification of Key Audit Matters for Each Bank

In the report a few companies from various industry segments have been analyzed. On this basis of the analysis the key audit matters have been found. The identification of the key audit matter i.e. which topic required most audit analysis focus for each company has been made. It has been investigated that every company basis its nature of business and working style has a separate key audit matter which has been mentioned and basis that the communication between the management and auditing committee also undergoes changes.

A high level of prudent judgment via critical evaluation has been employed and small variations in business environments like that of uncertainty in doing business have been monitored to suggest why that specific matter was considered key to the auditing process. The report is structured cohesively and captures all these sensitive details in a lucid way. Not just the key area for analysis has been shared but also what steps were undertaken to carry out the analysis have been mentioned with integrity and sincerity thereby justifying the capturing of this most sensitive information required. Recommendation on improvisations have been provided. Though ASA701 consumes more time and cost it has its intangible benefits and the report stands in humble testimony.

ASA 701

The job of a financial report is to communicate the general financial health of the company and whether it is adhering to financial and legal protocols. It needs to be clear, concise, crisp and appropriate. The format needs to be widely followed and understood by all parties. Its key purpose is communication. When there is a gap in communication interpretation comes and the message that is intended to be delivered gets distorted which is what happened in older reporting formats.  Public confidence in the process of auditing and company’s financial statements was reducing over the years and people begun seeing reporting as deception. To reinstall the lost confidence the enhanced reporting of ASA701 came up with tools and methods which ensure greater transparency. Some information was easy to be hidden and in lieu of the partial disclosure key decision making was also suffering.

The loopholes had to be filled and the enhanced disclosure of ASA 701 would enable that. The audit process of ASA701 is certainly lengthier and costlier but more meaningful information is being provided to the users of the financial statements. The assessment didn’t change much from older standards but what information is disclosed has changed. The location of the paragraphs has also changed and the opinion of the auditor will now be presented in the beginning of the report. The information is being captured more sharply.

Evaluation of Compliance with ASA 701 and ASA 570

ASA- 570

This standard issues by Australian Accounting Standard Board is concerned with following going concern concept. This concept dictates that business is running on the assumption that it will continue its operation in its foreseeable future. If it is not the case then company has to prepare their accounts on liquidation basis. There are certain events that can affect going concern of business that should be assessed by the company.       

Key audit matter and Going concern principal discussed in Annual reports

Here Audit report, director’s report and financial statements of four major banks in Australia are discussed. Main focus of analyzing annual reports of these companies would be to evaluate whether these companies has complied with accounting principles of ASA 701 and ASA 570 and whether they have given related disclosure in annual report or not. Four banks selected for this evaluation are-

  1. Commonwealth Bank
  2. Westpac Banking Corp
  3. National Aust. Bank
  4. ANZ Banking Group Limited

Common wealth bank-

It is largest bank in Australia in term of market capital as it acquire around 8.16% of market capital acquired by ASX 100 companies in aggregate.      

ASA 570- Going concern principal

In audit report ending 2017, auditor of the company has stated that it is primary responsibility of directors of the company to identify and such even or occasion of the continuance of business in future, This provision is properly followed by the company and they have not identified any such event that would suggest that their future business and existence might be in danger (Christensen et.al, 2014).

ASA 701- Key audit matters

Key audit matters reported by auditor of company are as follows with the manner in which auditor of the company has dealt with these matters-

  1. Provision for impairment of lending assets-

This particular of financial statement is included in key audit matter by the audit as provision made by management is based on their subjective assessment. Management included the provision in the balance sheet is the impairment on a particular lending asset increases a particular threshold limit set by management. These assessments are based on future expected cash flows from these lending assets which is totally subjective and can vary from person to person who is making such estimation. There is also grouping of lending assets it an individual asset is not impaired or the amount of impairment is low. All these estimation of cash flows are based on the experience of management in case of these lending assets.

Auditor of the company has taken into account the assumptions and estimation process used by the management to assess the provision made by management of the company. Models prepared for estimation of future expected cash flows are also analyzed by auditor to get a detailed understanding of estimation process.

  1. Fair value of financial instruments

Assessment of Management's Handling of Key Audit Matters

Financial instruments are required to be valued at their fair market price and there are not specific method through which this value can be estimated. Due to subjectivity in estimation of fair value, this item is also included in key audit matters of auditor’s report (Kachelmeier et.al, 2017). The process of estimation of fair value of financial instrument by management of the bank is based on its prices and rates prevailing in market. Company has three types of financial instruments that are identified under ASA as Level 1, Level 2 and Level 3.

For getting to know the process of determining fair value of financial instruments, auditor of the company has taken appropriate steps to understand their valuation model. In addition to that auditor has also evaluated the accuracy and relevance of the data that is put by management in this model to arrive at final result.        

  1. Provisions relating to conduct risk, litigation and regulatory action, including related disclosures

As per assessment of auditor this particular is exposed to legal risk and compliance risk in different jurisdiction. In year 2017, there are pending civil proceedings against company under Anti-Money Laundering and Counter-Terrorism Financing Act 2006. Here management has to estimate the outcome of the proceeding and form a provision for penalty is they are of the opinion that final result might not be in favor of company (Fellnäs, 2012).

Auditor of the company has discussed the case with the experts to ascertain the possible outcome of the case. In addition to that they have also read minutes of every BOD meeting conducted regarding this case.  

  1. Valuation of retirement benefit obligations

Due to financial important of retirement benefit obligations, this is considered as key audit matter by the auditor. There are various estimation that are taken by management in estimating the retirement benefit obligations such as rate of inflation, increase in salary etc. auditor of the company has examined the underlying data on which this estimation is formed to examine it in detail (Commonwealth bank , 2017).        

Westpac Banking Corp

ASA 570- Management of the company has followed the concept of going concern while preparing financial statement of the company and followed all rules ASA 570 to determine that it will remain in business for coming financial years (Sirois et.al, 2018).

ASA 701

  1. Provision for impairment charge on loan

Being a banking company, impairment of loans and advances provided to customers is an important from financial perspective. Creating provision for impairment creates subjectivity on part of management of the company. This subjectivity is the reason why it has been included in key audit matters. There are various assumption and estimation that were done by management of the company that increases the level of subjectivity.

Auditor has assessed all the key controls that were put by management of the company in this process. Some of the key factors that are assessed by auditor are-

  • Evaluating credit quality of loans
  • Review of approval process of loan granted to customers.
  • Controls on errors that are made by IT systems of the bank.
  • Latest development known to customers in relation to credit worthiness of customers.
  1. Operations of IT system and controls

A banking company rely heavily on Information technology for their day to day operation and that makes the IT structure a vital part of an organization (Carson et.al, 2012). With advancement in technology threats to such structure also increased which is the reason that auditors of the company has considered the operations of IT systems and its controls as an Key audit matter. The authorization of transactions is a very important process for any business organization specially a banking company.

Audit has addressed this matter in following manner-

  1. Auditor has analyzed all security and other controls applied on IT operations.
  2. Specific consideration is given to controls that are applied for maintaining security of customers.
  3. Change management process of the company has also been analyzed in detail.
  4. Communication has been done with the auditor of the software development company that has implemented IT framework for the company.
  5. Internal control and design are tested (Westpac Banking Corp, 2017).
  6. Provisions, customer refunds and contingent liabilities relating to operational and reputational matters, litigation and regulatory actions including related disclosures

A banking company is always exposed to a risk of litigation, rule and regulation in relation to customer and other parties involved in business. Provision on this type of risk is based on estimations and assumption of management of the company. Hence this is also included in key audit matter by the auditor. Disclosures are also provided by management of the company in relation to these liabilities in notes to accounts of the company (Albu and Albu, 2012).

Audit has addressed this matter in following manner-

  1. Auditor of the company has checked the controls that are implemented by management of the company that are covering operational matters in relation to estimation of litigation and customer refunds.
  2. Accounting estimated and policies used to make provision for contingent liabilities is also assessed by the company.
  3. Data processed over IT Structure in relation to this matter is also evaluated by the company.

ANZ Banking Group Limited

It is also one of the biggest banking corporation in Australia in terms of market capital it is considered to be fourth largest banking company with as aggregate market capital of around AUD 77,802,700,000 (Around 5.02% of total market capital of AUX 100 companies).

ASA 570- Auditor of the company has stated that it is primary responsibility of management of the company to prepare financial statements of the company on going concern concept. Directors of the company has stated that they have followed the concept of going concern.        

ASA 701- there are three key audit matters that are identified by auditor of the company that are-

  • Provision for Credit Impairment;
  • Valuation of Financial Instruments held at Fair Value; and
  • IT Systems and Controls
  1. Provision for credit impairment

Company has taken various judgments and estimations to arrive at the value of credit impairment provision and hence it is included in the key audit matters of the bank. According to the auditor of the company credit impairment is exposed to a high credit risk which can affect business organization in significant manner. Some amount of loans and advances is very high and complexity of process of estimation of credit impairment can have huge financial impact on banking company.

Specific points considered in audit process-

  1. Counterparty risk is tested in detail by auditor (Deegan, 2013).
  2. Evaluation of credit asset process that has been adopted by the management and compare this process with process used by auditor in audit of other banking companies.
  3. Models used by management of an organization to estimate provisions for credit impairment is assessed by the auditor.
  4. Various factors such as discounting factors, nature of business environment is reassessed by auditor.
  5. Valuation of Financial Instruments held at Fair Value

There are various method that are used to value financial instruments as it is essential to value these instruments at fair value in accordance with the accounting standard issues by Australian accounting standard board. These valuation method involves a lot of estimations and assumptions. Hence it becomes an essential for a banking company (Rahman, 2013). The number of transactions that involves foreign currency is very high in a bank that of size of ANZ banking corporation. Any wrong estimation on part of management of the company can have vital impact on financial performance of the company. Due to these reasons Valuation of Financial Instruments held at Fair Value become a key audit matter of financial performance of the company.

Specific points considered in audit process-

  1. Auditor of the bank has analyzed the financial model of the management of the company that is used to value financial instruments. This model is also compared with the model prepared by auditor to check accuracy of final results of making provision for financial instrument.
  2. Auditor has also checked all the calculation made by management of the company to arrive at provision for financial instruments.       
  3. Auditor of the company has also analyses the financial instruments on which company has not made any provision in this financial year to check whether provision is required to made or not.
  4. IT Systems and Controls

ANZ Banking Group Corporation has many operation that are being conducted with the help of information technology that has made them somehow dependent on IT infrastructure. IT has become integral part of business operation of the bank. Hence it is essential for auditor to include this as part of key audit matters. It is essential for management to implement internal controls to protect their IT infrastructure (Deegan, 2012).

Specific points considered in audit process

  1. Auditor of the company has checked in detail all the internal compliances and controls implemented by company on IT of the company.
  2. Auditor of the company has also analyzed the master file of the company to analyze any recurring error that could be harmful for the company (ANZ Banking Corporation, 2017). 

Conclusion

Report prepared by auditor of the company is very important for both shareholders and management of the company. There are certain matters that are very complicated and auditor cannot present clear view on such matters. Hence it is very important to give special importance to these matters and present them in separate section of audit report. This will helps in giving true and fair representation of the company. This will also help management to give special consideration to such matters and make future policies of such matters.    

References

Albu, N. and Albu, C.N., 2012. International Financial Reporting Standards in an emerging economy: lessons from Romania. Australian Accounting Review, 22(4), pp.341-352.

ANZ Banking Corporation, 2017. ANZ Corporation.

Carson, E., Fargher, N.L., Geiger, M.A., Lennox, C.S., Raghunandan, K. and Willekens, M., 2012. Audit reporting for going-concern uncertainty: A research synthesis. Auditing: A Journal of Practice & Theory, 32(sp1), pp.353-384.

Christensen, B.E., Glover, S.M. and Wolfe, C.J., 2014. Do critical audit matter paragraphs in the audit report change nonprofessional investors' decision to invest?. Auditing: A Journal of Practice & Theory, 33(4), pp.71-93.

Commonwealth bank , 2017. Commonwealth bank.

Deegan, C., 2012. Australian financial accounting. McGraw-Hill Education Australia.

Deegan, C., 2013. Financial accounting theory. McGraw-Hill Education Australia.

Fellnäs, V., Strömbäck, J. and Anell, A., KEY AUDIT MATTERS.

Kachelmeier, S.J., Schmidt, J.J. and Valentine, K., 2017. The disclaimer effect of disclosing critical audit matters in the auditor’s report.

Rahman, A.R., 2013. The Australian Accounting Standards Review Board (RLE Accounting): The Establishment of Its Participative Review Process. Routledge.

Sirois, L.P., Bédard, J. and Bera, P., 2018. The informational value of key audit matters in the auditor's report: evidence from an Eye-tracking study. Accounting Horizons.

Westpac Banking Corp, 2017. Westpac Banking Corp. 

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