Beware of risks pegged to the economy | KPMG | CA

Beware of risks pegged to the economy

Beware of risks pegged to the economy

Factor economic uncertainty into your audit planning process

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Beware of risks pegged to the economy

“Uncertainty” is without question one of the most broadly apt descriptors for today’s economy, applying to specific national scenarios as well as to the global situation. At home, for instance, the Canadian economy continues its recent weak performance; at the same time—on the far side of the world—China’s own downturn continues apace, threatening further global repercussions. And these two examples are just part of a long chain of economic calamities and crises affecting the world’s nations to varying degrees, all of which are currently enveloped by the global cloud of terrorism that threatens to impact markets in as yet unknown ways.

 

Getting back to basics

With such uncertainty dominating the economic agenda on multiple business and financial fronts, a flexible agenda that considers prioritizing a few core activities is a must heading into 2016. For one, audit committees should make sure that management, despite ongoing economic anxiety, remains focused on the long term rather than reacting hastily to short-term pressures and exigencies. ACs should also strive to better understand their companies’ risk profile and risk appetite, as well as how management and the auditors are responding. Staying abreast of ongoing regulatory changes and requirements—one way to effectively mitigate risk—should also be a stabilizing priority.

More specifically, ACs should consider putting greater emphasis on their oversight of corporate financial statements and the imminent, significant risks therein. This particularly applies to areas related to fair value measurements, financial estimates and judgements, debt provisions, and uncertain tax positions—essentially, anything that is pegged to cash flow or stock market prices, which can shift rapidly in an uncertain economic and/or regulatory environment and have sudden, serious impacts.

AC questions for key stakeholders

As always, strong communication between audit stakeholders is critical. To help ensure they can consider and address the above focus points effectively, audit committees should ask some specific questions of management and both the internal and external auditor:

Ask management:

  • Where are the significant estimates in the financial statements?
  • What assumptions did you use in making those estimates?
  • How did you determine what approach to take?
  • Are all estimates, judgements and risks appropriately disclosed in the MD&A?
  • Is there undue exposure to uncertain tax positions?
  • Is there any tax exposure related to corporate transfer pricing policies and, more broadly, the expected changes coming under the global Base Erosion and Profit Shifting (BEPS) initiative?

Ask the internal auditor:

  • How do you ensure management review controls are adequate?
  • What is your involvement in assessing key areas of risk?
  • What has changed in the operating environment?

Ask the external auditor:

  • How do you audit and evaluate estimates and judgements?
  • How do you ensure professional skepticism?
  • How has current economic uncertainty impacted your audit approach, particularly in areas such as cash flow forecasts and fair-value measurements?
  • What type of sensitivity analysis did you apply to understand where judgement is relevant in the financial statements?

Preparing for year-end is critical

The task of prioritizing the financial statements should be part of the audit planning process. During discussions with management, aim to ensure they are focused on the most critical areas and recheck their approach regularly to help ensure it’s adaptive and up-to-date. What do cash flows look like? Is market capitalization affected? Are reasonable judgements being proactively made to avoid hasty reactive ones?

If there was ever a time to bear down on financial reporting, prioritize it and get it right, current economic realities suggest this is it. Risks related to economic uncertainty will be heightened over the next six-to-nine months, spurring audit committees to help identify, address and resolve any financial reporting risks and issues before turning their attention to their broader, longer term risk management mandate.

 

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