PCAOB inspection reports and SEC enforcement releases show difficulties in subsequent events audits. Based on our survey of 76 practicing auditors at one firm, actions that may improve those audits include:
Integrate procedures. Auditors can consider subsequent events implications throughout their fieldwork. To encourage this consideration, audit firms may wish to add specific steps to the audit programs for each account group.
Interview widely. Auditors may wish to question client personnel besides the controller or CFO, such as individuals in operations, as part of their normal subsequent events procedures. Firms could add explicit language to internal subsequent events checklists instructing auditors to broaden the personnel they interview.
Ensure knowledge of the client. Audit firm management should ensure that all audit team members have an appropriate level of client and industry knowledge, as this may affect their ability to identify and evaluate subsequent events. Auditors can gain client-specific knowledge by serving the same client year after year, but this is not always possible due to scheduling conflicts, auditor turnover, or audit partner rotation. Audit firms might consider other ways to enhance auditors' familiarity with client activities, such as devoting time in the planning phase of the audit to obtain background information and knowledge of the client's business and including some type of "understanding the client" memo in the planning section of the audit file.
Use a decision aid. We (the authors) have drafted our own flowchart, which may be used as a decision aid to assist auditors in subsequent events procedures regarding contingent liabilities. The flowchart is available along with our full article at aaajournals.org.
Limit the length of the subsequent events period. Firms may wish to limit the length of the subsequent events period by promoting the timely issuance of financial statements. Although a longer period may be helpful in clarifying a situation that existed at the balance sheet date, a drawn-out subsequent events period may prove problematic for auditors. Auditors may wish to limit their exposure to a long subsequent events period to mitigate the risk that they might miss something.
Use a "cushion." Audit firms could add a slight "cushion" to time budgets for various high-risk areas to allow auditors to reflect on subsequent events implications during the substantive testing phase, and also devote more time to subsequent events matters in the wrapup phase. Similar to fraud brainstorming sessions that engagement teams typically hold at the beginning of an audit, firms could have teams hold a live discussion on subsequent events in the wrapup phase of the audit.
This checklist is excerpted from "Auditing Subsequent Events: Perspectives From the Field," which the authors published in the December 2014 issue of the American Accounting Association Journal Current Issues in Auditing. The full article is available at aaajournals.org, as part of the AAA digital library (aaajournals.org).
—By David N. Herda, Ph.D. (firstname.lastname@example.org), an assistant professor of accounting at Texas State University, and James J. Lavelle, Ph.D. (email@example.com), an associate professor in the department of management at the University of Texas—Arlington.