Subsequent Events Part 1

Question 1

IAS10 and ISA 560

Answer 1

Absolutely, I’d be happy to explain!

Objective:
IAS 10 governs how and when entities should adjust their financial statements for events that occur between the end of the reporting period and the date when the financial statements are authorised for issue. It also dictates the disclosures required for such events.

Types of Events After the Reporting Period:
1. Adjusting Events: These events provide evidence of conditions that existed at the end of the reporting period. They require adjustments to the financial statements.
2. Non-adjusting Events: These events arise after the reporting period due to new conditions. They don’t require adjustments, but may require disclosure if they are significant.

Example:
A company’s year-end is December 31, 2024.
- Adjusting Event: On January 15, 2025, a major customer files for bankruptcy. This indicates that the customer was already in financial trouble by December 31, 2024. Therefore, the company should adjust its receivables.
- Non-adjusting Event: On January 20, 2025, the company decides to purchase new equipment. This decision didn’t exist at the year-end and does not affect the financial position on December 31, 2024, so it is a non-adjusting event.

Objective:
ISA 560 outlines the auditor’s responsibility to review and reflect on events occurring between the date of the financial statements and the date of the audit report. It also covers how auditors should respond to events discovered after the audit report date.

Auditor’s Role:
1. Obtain Sufficient Evidence: The auditor should gather evidence to determine if subsequent events are properly accounted for in the financial statements.
2. Responding to New Facts: If new facts are discovered after the audit report date, and they would have impacted the report, the auditor should take appropriate actions, which may include amending the audit report.

Example with Numbers:
Imagine an auditor is reviewing financial statements for the year ending December 31, 2024. On January 25, 2025:
- Adjusting Event: The auditor discovers that inventory worth $100,000 was found obsolete due to a market downturn that started before year-end. The company should adjust its inventory value and reflect this loss in the December 2024 financial statements.
- Non-adjusting Event: The auditor learns that the company issued new shares worth $500,000 on January 10, 2025. This doesn’t require an adjustment but should be disclosed as it affects users’ understanding of the company’s financial health.

By considering both IAS 10 and ISA 560, the preparation and auditing of financial statements ensure a more accurate and complete reflection of a company’s financial position, incorporating relevant events up to the point of issuance.

Sure, I’ll break it down for you with practical examples to make it clear!

Objective:
The auditor needs to obtain sufficient appropriate evidence that all events which require adjustment or disclosure in the financial statements have been:
1. Identified.
2. Suitably reported in the financial statements.

Normal Audit Verification Work:
During the audit, the auditor might naturally come across evidence of subsequent events through their routine audit procedures. In such cases, additional procedures may not be necessary. Here are some examples:

1. Audit of Receivables:
   
   • Example: Suppose a company has accounts receivable of $200,000 at the year-end (December 31, 2024). During the audit, the auditor checks cash receipts in January 2025 and finds that a major customer who owed $50,000 declared bankruptcy and didn’t pay. This is an adjusting event as it provides evidence of conditions existing at the reporting period end. The receivable should be written off as bad debt.
   • Mathematical Impact: Accounts Receivable before adjustment: $200,000. Adjusting for the bankruptcy: $200,000 - $50,000 = $150,000.
2. Audit of Inventory:
   
   • Example: A company has inventory valued at $500,000 at the year-end. In January 2025, the auditor notices that the company sold a significant portion of this inventory at a price lower than its cost, due to market decline. This indicates that the inventory’s net realizable value (NRV) was below cost at year-end.
   • Mathematical Impact: If the NRV is $450,000, the inventory should be written down by $50,000. Inventory value after adjustment: $500,000 - $50,000 = $450,000.
3. Search for Unrecorded Liabilities:
   
   • Example: During the audit, the auditor finds an invoice dated January 5, 2025, for services provided in December 2024 for $30,000. This expense pertains to the year-end and should be recorded as a liability at December 31, 2024.
   • Mathematical Impact: Liabilities before adjustment: $100,000. Adding unrecorded liability: $100,000 + $30,000 = $130,000.
4. Review of Cash Position:
   
   • Example: The auditor notices that a cheque from a customer for $10,000, included in the bank balance as of December 31, 2024, was dishonoured in January 2025. This indicates that the cash position was overstated at the year-end.
   • Mathematical Impact: Cash balance before adjustment: $150,000. After dishonoured cheque adjustment: $150,000 - $10,000 = $140,000.

• IAS 10 ensures that events after the reporting period are appropriately considered for adjustments or disclosure.
• ISA 560 guides auditors in obtaining evidence and responding to subsequent events discovered during or after the audit.

These practices ensure the financial statements provide a true and fair view, reflecting all material events up to the date they are authorised for issue.Indeed, auditors must actively seek out subsequent events up to the date of the audit report. Here’s a breakdown of the procedures they should follow, along with some practical examples:

1. Understanding Management’s Procedures:
   
   • Example: The auditor should understand how management identifies subsequent events. If the company has a routine of reviewing financial statements at monthly board meetings, the auditor should review the minutes of these meetings to identify any subsequent events.
2. Inquiries of Management:
   
   • Example: The auditor should ask management directly if any significant events have occurred since the year-end. For instance, if management reveals a major lawsuit filed in January, this might require disclosure in the financial statements.
3. Reading Subsequent Financial Statements:
   
   • Example: If the company prepares interim financial statements (e.g., for the first quarter of the next year), the auditor should review these for any material changes or events.
4. Reviewing Minutes of Meetings:
   
   • Example: The auditor should read minutes from shareholders’ meetings, board meetings, and senior management meetings held after the year-end. If the minutes reveal a decision to close a major division, this might need to be disclosed.
5. Written Representations:
   
   • Example: The auditor should obtain written confirmations from management about the completeness of subsequent events. This written representation serves as an added layer of assurance.

If the above procedures are not sufficient, the auditor may perform additional procedures:

1. Reviewing or Testing Accounting Records:
   
   • Example: The auditor could review transactions recorded between the year-end and the audit report date. For example, a significant sale in January 2025 might indicate the need for inventory adjustments or sales recognition adjustments.
2. Inspecting Books and Records:
   
   • Example: If interim financial statements or meeting minutes are not available, the auditor might review bank statements or other records. For instance, a large payment made in January 2025 for a December 2024 liability might indicate an unrecorded liability.
3. Reading Budgets and Forecasts:
   
   • Example: Reviewing the company’s latest budgets and forecasts can reveal significant events or trends. If a budget shows a planned large-scale layoff, this might need to be disclosed in the financial statements.
4. Inquiries with Legal Counsel:
   
   • Example: The auditor should inquire with the company’s legal counsel about ongoing or potential litigation. If new claims are revealed, these might need to be disclosed or provided for in the financial statements.

By performing these procedures, the auditor ensures that all significant subsequent events are identified, properly adjusted, or disclosed in the financial statements, providing a true and fair view of the company’s financial position.