Materiality Misstatements and Reporting Part I ISA Implementation

Materiality, Misstatements and Reporting − Part I ISA Implementation Support Module Prepared by IAASB Staff October 2010

Overview of Module (Old) ISA 320 (Revised) ISA 320 (Old) ISA 700 (New) ISA 450 (Amended) ISA 700 2

Overview of ISA 320 • Introduction • Significant Features of New Standard – New Approach to Understanding Materiality – Materiality Levels • Materiality for Financial Statements as a Whole • Materiality for Particular Classes of Transactions, Account Balances or Disclosures • Performance Materiality – Revision of Materiality – Documentation 3

Introduction • The context for revising ISA 320 – Developments in national standards and guidance – Need for greater consideration of nature of an item and the entity’s circumstances when determining materiality and evaluating misstatements – Importance of considering possibility of aggressive earnings management and management bias when evaluating whether the financial statements are free of material misstatement 4

New Approach to Understanding Materiality • Definition of materiality replaced by description of common characteristics often discussed in financial reporting frameworks (FRFs) – If FRF provides a definition or discussion of materiality, use this as a frame of reference in determining materiality for the audit – If not, use characteristics in the ISA as a frame of reference • Apply materiality in – Planning the audit – Determining nature, timing and extent of further procedures 5

Materiality Levels Materiality for the financial statements as a whole Particular classes of transactions, account balances or disclosures, if any Performance materiality(s) for above, if any Performance materiality for assessing risks and planning further audit procedures 6

Materiality for Financial Statements as a Whole • Users’ information needs drive overall materiality level – No specific methodologies prescribed − use of professional judgment is key • Often a percentage of a chosen benchmark may be an appropriate starting point – Standard provides guidance on choosing an appropriate benchmark – No specific guidance on percentages provided • Consider whether adjustments to benchmark needed for significant changes in entity’s circumstances 7

Materiality for Particular Classes of Transactions, Account Balances, or Disclosures • Lower materiality levels used if specific items would influence users’ economic decisions taken on the basis of the financial statements – However, this does not mean a materiality level needs to be determined for every line item or disclosure • Consider whethere any relevant factors that may indicate whethere are particular items that would influence users’ judgments 8

Performance Materiality • Performance materiality (PM) less than materiality for financial statements as a whole • Serves two purposes: – To allow for aggregation of immaterial amounts – To provide margin for possible undetected misstatements • Used to: – Assess risks of material misstatement – Determine nature, timing and extent of further audit procedures 9

Performance Materiality • Possible approaches: – One PM level based on materiality for financial statements as a whole, or – More than one PM level in relation to different items • If materiality level(s) have been set for particular items, PM also refers to amount(s) set at less than these levels • Determination of PM not a mechanical exercise – Use of professional judgment is key 10

Revision of Materiality • Materiality levels not cast in stone once determined • Adjust as necessary as the audit progresses for – Changes in entity’s circumstances – New information – Change in understanding of entity and its operations • If materiality levels adjusted, consider whether nature, timing, and extent of further audit procedures also need adjustment 11

Documentation • Document – Materiality for financial statements as a whole – Materiality level(s) for particular items – Performance materiality for above – Revisions to the above as the audit progresses 12

Note This set of support slides does not amend or override the ISAs, the texts of which alone are authoritative. Reading the slides is not a substitute for reading the ISAs. The slides are not meant to be exhaustive and reference to the ISAs themselves should always be made. In conducting an audit in accordance with ISAs, the auditor is required to comply with all the ISAs that are relevant to the engagement. 13

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