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ISA 260 213 A U D IT IN G INTERNATIONAL STANDARD ON AUDITING 260 COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE (Effective for audits of financial statements for periods beginning on or after December 15, 2009) CONTENTS Paragraph Introduction Scope of this ISA ........................................................................................ 1−3 The Role of Communication ....................................................................... 4−7 Effective Date ............................................................................................. 8 Objectives .................................................................................................. 9 Definitions .................................................................................................. 10 Requirements Those Charged with Governance ................................................................ 11−13 Matters to Be Communicated ..................................................................... 14−17 The Communication Process ...................................................................... 18−22 Documentation ............................................................................................ 23 Application and Other Explanatory Material Those Charged with Governance ................................................................ A1−A8 Matters to Be Communicated ..................................................................... A9−A27 The Communication Process ...................................................................... A28−A44 Documentation ............................................................................................ A45 Appendix 1: Specific Requirements in ISQC 1 and Other ISAs that Refer to Communications with Those Charged with Governance Appendix 2: Qualitative Aspects of Accounting Practices International Standard on Auditing (ISA) 260, “Communication with Those Charged with Governance” should be read in conjunction with ISA 200, “Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing.” COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 214 Introduction Scope of this ISA 1. This International Standard on Auditing (ISA) deals with the auditor’s responsibility to communicate with those charged with governance in an audit of financial statements. Although this ISA applies irrespective of an entity’s governance structure or size, particular considerations apply where all of those charged with governance are involved in managing an entity, and for listed entities. This ISA does not establish requirements regarding the auditor’s communication with an entity’s management or owners unless they are also charged with a governance role. 2. This ISA is written in the context of an audit of financial statements, but may also be applicable, adapted as necessary in the circumstances, to audits of other historical financial information when those charged with governance have a responsibility to oversee the preparation of the other historical financial information. 3. Recognizing the importance of effective two-way communication in an audit of financial statements, this ISA provides an overarching framework for the auditor’s communication with those charged with governance, and identifies some specific matters to be communicated with them. Additional matters to be communicated, which complement the requirements of this ISA, are identified in other ISAs (see Appendix 1). In addition, ISA 2651 establishes specific requirements regarding the communication of significant deficiencies in internal control the auditor has identified during the audit to those charged with governance. Further matters, not required by this or other ISAs, may be required to be communicated by law or regulation, by agreement with the entity, or by additional requirements applicable to the engagement, for example, the standards of a national professional accountancy body. Nothing in this ISA precludes the auditor from communicating any other matters to those charged with governance. (Ref: Para. A24-A27) The Role of Communication 4. This ISA focuses primarily on communications from the auditor to those charged with governance. Nevertheless, effective two-way communication is important in assisting: (a) The auditor and those charged with governance in understanding matters related to the audit in context, and in developing a constructive working relationship. This relationship is developed while maintaining the auditor’s independence and objectivity; 1 ISA 265, “Communicating Deficiencies in Internal Control to Those Charged with Governance and Management.” COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 217 A U D IT IN G nonetheless be satisfied that communication with person(s) with management responsibilities adequately informs all of those with whom the auditor would otherwise communicate in their governance capacity. (Ref: Para. A8) Matters to Be Communicated The Auditor’s Responsibilities in Relation to the Financial Statement Audit 14. The auditor shall communicate with those charged with governance the responsibilities of the auditor in relation to the financial statement audit, including that: (a) The auditor is responsible for forming and expressing an opinion on the financial statements that have been prepared by management with the oversight of those charged with governance; and (b) The audit of the financial statements does not relieve management or those charged with governance of their responsibilities. (Ref: Para. A9-A10) Planned Scope and Timing of the Audit 15. The auditor shall communicate with those charged with governance an overview of the planned scope and timing of the audit. (Ref: Para. A11-A15) Significant Findings from the Audit 16. The auditor shall communicate with those charged with governance: (Ref: Para. A16) (a) The auditor’s views about significant qualitative aspects of the entity’s accounting practices, including accounting policies, accounting estimates and financial statement disclosures. When applicable, the auditor shall explain to those charged with governance why the auditor considers a significant accounting practice, that is acceptable under the applicable financial reporting framework, not to be most appropriate to the particular circumstances of the entity; (Ref: Para. A17) (b) Significant difficulties, if any, encountered during the audit; (Ref: Para. A18) (c) Unless all of those charged with governance are involved in managing the entity: (i) Significant matters, if any, arising from the audit that were discussed, or subject to correspondence with management; and (Ref: Para. A19) (ii) Written representations the auditor is requesting; and (d) Other matters, if any, arising from the audit that, in the auditor’s professional judgment, are significant to the oversight of the financial reporting process. (Ref: Para. A20) COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 218 Auditor Independence 17. In the case of listed entities, the auditor shall communicate with those charged with governance: (a) A statement that the engagement team and others in the firm as appropriate, the firm and, when applicable, network firms have complied with relevant ethical requirements regarding independence; and (b) (i) All relationships and other matters between the firm, network firms, and the entity that, in the auditor’s professional judgment, may reasonably be thought to bear on independence. This shall include total fees charged during the period covered by the financial statements for audit and non-audit services provided by the firm and network firms to the entity and components controlled by the entity. These fees shall be allocated to categories that are appropriate to assist those charged with governance in assessing the effect of services on the independence of the auditor; and (ii) The related safeguards that have been applied to eliminate identified threats to independence or reduce them to an acceptable level. (Ref: Para. A21-A23) The Communication Process Establishing the Communication Process 18. The auditor shall communicate with those charged with governance the form, timing and expected general content of communications. (Ref: Para. A28-A36) Forms of Communication 19. The auditor shall communicate in writing with those charged with governance regarding significant findings from the audit if, in the auditor’s professional judgment, oral communication would not be adequate. Written communications need not include all matters that arose during the course of the audit. (Ref: Para. A37-A39) 20. The auditor shall communicate in writing with those charged with governance regarding auditor independence when required by paragraph 17. Timing of Communications 21. The auditor shall communicate with those charged with governance on a timely basis. (Ref: Para. A40-A41) COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 219 A U D IT IN G Adequacy of the Communication Process 22. The auditor shall evaluate whether the two-way communication between the auditor and those charged with governance has been adequate for the purpose of the audit. If it has not, the auditor shall evaluate the effect, if any, on the auditor’s assessment of the risks of material misstatement and ability to obtain sufficient appropriate audit evidence, and shall take appropriate action. (Ref: Para. A42-A44) Documentation 23. Where matters required by this ISA to be communicated are communicated orally, the auditor shall include them in the audit documentation, and when and to whom they were communicated. Where matters have been communicated in writing, the auditor shall retain a copy of the communication as part of the audit documentation.2 (Ref: Para. A45) *** Application and Other Explanatory Material Those Charged with Governance (Ref: Para. 11) A1. Governance structures vary by jurisdiction and by entity, reflecting influences such as different cultural and legal backgrounds, and size and ownership characteristics. For example: • In some jurisdictions, a supervisory (wholly or mainly non-executive) board exists that is legally separate from an executive (management) board (a “two-tier board” structure). In other jurisdictions, both the supervisory and executive functions are the legal responsibility of a single, or unitary, board (a “one-tier board” structure). • In some entities, those charged with governance hold positions that are an integral part of the entity’s legal structure, for example, company directors. In others, for example, some government entities, a body that is not part of the entity is charged with governance. • In some cases, some or all of those charged with governance are involved in managing the entity. In others, those charged with governance and management comprise different persons. • In some cases, those charged with governance are responsible for approving3 the entity’s financial statements (in other cases management has this responsibility). 2 ISA 230, “Audit Documentation,” paragraphs 8-11, and A6. 3 As described at paragraph A40 of ISA 700, “Forming an Opinion and Reporting on Financial Statements,” having responsibility for approving in this context means having the authority to conclude COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 222 Matters to Be Communicated The Auditor’s Responsibilities in Relation to the Financial Statement Audit (Ref: Para. 14) A9. The auditor’s responsibilities in relation to the financial statement audit are often included in the engagement letter or other suitable form of written agreement that records the agreed terms of the engagement. Providing those charged with governance with a copy of that engagement letter or other suitable form of written agreement may be an appropriate way to communicate with them regarding such matters as: • The auditor’s responsibility for performing the audit in accordance with ISAs, which is directed towards the expression of an opinion on the financial statements. The matters that ISAs require to be communicated, therefore, include significant matters arising from the audit of the financial statements that are relevant to those charged with governance in overseeing the financial reporting process. • The fact that ISAs do not require the auditor to design procedures for the purpose of identifying supplementary matters to communicate with those charged with governance. • When applicable, the auditor’s responsibility for communicating particular matters required by law or regulation, by agreement with the entity or by additional requirements applicable to the engagement, for example, the standards of a national professional accountancy body. A10. Law or regulation, an agreement with the entity or additional requirements applicable to the engagement may provide for broader communication with those charged with governance. For example, (a) an agreement with the entity may provide for particular matters to be communicated when they arise from services provided by a firm or network firm other than the financial statement audit; or (b) the mandate of a public sector auditor may provide for matters to be communicated that come to the auditor’s attention as a result of other work, such as performance audits. Planned Scope and Timing of the Audit (Ref: Para. 15) A11. Communication regarding the planned scope and timing of the audit may: (a) Assist those charged with governance to understand better the consequences of the auditor’s work, to discuss issues of risk and the concept of materiality with the auditor, and to identify any areas in which they may request the auditor to undertake additional procedures; and (b) Assist the auditor to understand better the entity and its environment. A12. Care is required when communicating with those charged with governance about the planned scope and timing of the audit so as not to compromise the COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 223 A U D IT IN G effectiveness of the audit, particularly where some or all of those charged with governance are involved in managing the entity. For example, communicating the nature and timing of detailed audit procedures may reduce the effectiveness of those procedures by making them too predictable. A13. Matters communicated may include: • How the auditor proposes to address the significant risks of material misstatement, whether due to fraud or error. • The auditor’s approach to internal control relevant to the audit. • The application of the concept of materiality in the context of an audit.6 A14. Other planning matters that it may be appropriate to discuss with those charged with governance include: • Where the entity has an internal audit function, the extent to which the auditor will use the work of internal audit, and how the external and internal auditors can best work together in a constructive and complementary manner. • The views of those charged with governance of: o The appropriate person(s) in the entity’s governance structure with whom to communicate. o The allocation of responsibilities between those charged with governance and management. o The entity’s objectives and strategies, and the related business risks that may result in material misstatements. o Matters those charged with governance consider warrant particular attention during the audit, and any areas where they request additional procedures to be undertaken. o Significant communications with regulators. o Other matters those charged with governance consider may influence the audit of the financial statements. • The attitudes, awareness, and actions of those charged with governance concerning (a) the entity’s internal control and its importance in the entity, including how those charged with governance oversee the effectiveness of internal control, and (b) the detection or possibility of fraud. 6 ISA 320, “Materiality in Planning and Performing an Audit.” COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 224 • The actions of those charged with governance in response to developments in accounting standards, corporate governance practices, exchange listing rules, and related matters. • The responses of those charged with governance to previous communications with the auditor. A15. While communication with those charged with governance may assist the auditor to plan the scope and timing of the audit, it does not change the auditor’s sole responsibility to establish the overall audit strategy and the audit plan, including the nature, timing and extent of procedures necessary to obtain sufficient appropriate audit evidence. Significant Findings from the Audit (Ref: Para. 16) A16. The communication of findings from the audit may include requesting further information from those charged with governance in order to complete the audit evidence obtained. For example, the auditor may confirm that those charged with governance have the same understanding of the facts and circumstances relevant to specific transactions or events. Significant Qualitative Aspects of Accounting Practices (Ref: Para. 16(a)) A17. Financial reporting frameworks ordinarily allow for the entity to make accounting estimates, and judgments about accounting policies and financial statement disclosures. Open and constructive communication about significant qualitative aspects of the entity’s accounting practices may include comment on the acceptability of significant accounting practices. Appendix 2 identifies matters that may be included in this communication. Significant Difficulties Encountered during the Audit (Ref: Para. 16(b)) A18. Significant difficulties encountered during the audit may include such matters as: • Significant delays in management providing required information. • An unnecessarily brief time within which to complete the audit. • Extensive unexpected effort required to obtain sufficient appropriate audit evidence. • The unavailability of expected information. • Restrictions imposed on the auditor by management. • Management’s unwillingness to make or extend its assessment of the entity’s ability to continue as a going concern when requested. COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 227 A U D IT IN G (c) No procedures were carried out to determine whether other such matters exist. The Communication Process Establishing the Communication Process (Ref: Para. 18) A28. Clear communication of the auditor’s responsibilities, the planned scope and timing of the audit, and the expected general content of communications helps establish the basis for effective two-way communication. A29. Matters that may also contribute to effective two-way communication include discussion of: • The purpose of communications. When the purpose is clear, the auditor and those charged with governance are better placed to have a mutual understanding of relevant issues and the expected actions arising from the communication process. • The form in which communications will be made. • The person(s) in the audit team and amongst those charged with governance who will communicate regarding particular matters. • The auditor’s expectation that communication will be two-way, and that those charged with governance will communicate with the auditor matters they consider relevant to the audit, for example, strategic decisions that may significantly affect the nature, timing and extent of audit procedures, the suspicion or the detection of fraud, and concerns with the integrity or competence of senior management. • The process for taking action and reporting back on matters communicated by the auditor. • The process for taking action and reporting back on matters communicated by those charged with governance. A30. The communication process will vary with the circumstances, including the size and governance structure of the entity, how those charged with governance operate, and the auditor’s view of the significance of matters to be communicated. Difficulty in establishing effective two-way communication may indicate that the communication between the auditor and those charged with governance is not adequate for the purpose of the audit (see paragraph A44). Considerations Specific to Smaller Entities A31. In the case of audits of smaller entities, the auditor may communicate in a less structured manner with those charged with governance than in the case of listed or larger entities. COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 228 Communication with Management A32. Many matters may be discussed with management in the ordinary course of an audit, including matters required by this ISA to be communicated with those charged with governance. Such discussions recognize management’s executive responsibility for the conduct of the entity’s operations and, in particular, management’s responsibility for the preparation of the financial statements. A33. Before communicating matters with those charged with governance, the auditor may discuss them with management, unless that is inappropriate. For example, it may not be appropriate to discuss questions of management’s competence or integrity with management. In addition to recognizing management’s executive responsibility, these initial discussions may clarify facts and issues, and give management an opportunity to provide further information and explanations. Similarly, when the entity has an internal audit function, the auditor may discuss matters with the internal auditor before communicating with those charged with governance. Communication with Third Parties A34. Those charged with governance may wish to provide third parties, for example, bankers or certain regulatory authorities, with copies of a written communication from the auditor. In some cases, disclosure to third parties may be illegal or otherwise inappropriate. When a written communication prepared for those charged with governance is provided to third parties, it may be important in the circumstances that the third parties be informed that the communication was not prepared with them in mind, for example, by stating in written communications with those charged with governance: (a) That the communication has been prepared for the sole use of those charged with governance and, where applicable, the group management and the group auditor, and should not be relied upon by third parties; (b) That no responsibility is assumed by the auditor to third parties; and (c) Any restrictions on disclosure or distribution to third parties. A35. In some jurisdictions the auditor may be required by law or regulation to, for example: • Notify a regulatory or enforcement body of certain matters communicated with those charged with governance. For example, in some countries the auditor has a duty to report misstatements to authorities where management and those charged with governance fail to take corrective action; • Submit copies of certain reports prepared for those charged with governance to relevant regulatory or funding bodies, or other bodies such as a central authority in the case of some public sector entities; or COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 229 A U D IT IN G • Make reports prepared for those charged with governance publicly available. A36. Unless required by law or regulation to provide a third party with a copy of the auditor’s written communications with those charged with governance, the auditor may need the prior consent of those charged with governance before doing so. Forms of Communication (Ref: Para. 19-20) A37. Effective communication may involve structured presentations and written reports as well as less structured communications, including discussions. The auditor may communicate matters other than those identified in paragraphs 19 and 20 either orally or in writing. Written communications may include an engagement letter that is provided to those charged with governance. A38. In addition to the significance of a particular matter, the form of communication (for example, whether to communicate orally or in writing, the extent of detail or summarization in the communication, and whether to communicate in a structured or unstructured manner) may be affected by such factors as: • Whether the matter has been satisfactorily resolved. • Whether management has previously communicated the matter. • The size, operating structure, control environment, and legal structure of the entity. • In the case of an audit of special purpose financial statements, whether the auditor also audits the entity’s general purpose financial statements. • Legal requirements. In some jurisdictions, a written communication with those charged with governance is required in a prescribed form by local law. • The expectations of those charged with governance, including arrangements made for periodic meetings or communications with the auditor. • The amount of ongoing contact and dialogue the auditor has with those charged with governance. • Whether there have been significant changes in the membership of a governing body. A39. When a significant matter is discussed with an individual member of those charged with governance, for example, the chair of an audit committee, it may be appropriate for the auditor to summarize the matter in later communications so that all of those charged with governance have full and balanced information. COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 232 environment.10 Inadequate two-way communication may indicate an unsatisfactory control environment and influence the auditor’s assessment of the risks of material misstatements. There is also a risk that the auditor may not have obtained sufficient appropriate audit evidence to form an opinion on the financial statements. A44. If the two-way communication between the auditor and those charged with governance is not adequate and the situation cannot be resolved, the auditor may take such actions as: • Modifying the auditor’s opinion on the basis of a scope limitation. • Obtaining legal advice about the consequences of different courses of action. • Communicating with third parties (for example, a regulator), or a higher authority in the governance structure that is outside the entity, such as the owners of a business (for example, shareholders in a general meeting), or the responsible government minister or parliament in the public sector. • Withdrawing from the engagement, where withdrawal is possible under applicable law or regulation. Documentation (Ref: Para. 23) A45. Documentation of oral communication may include a copy of minutes prepared by the entity retained as part of the audit documentation where those minutes are an appropriate record of the communication. 10 ISA 315, paragraph A70. COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 APPENDIX 1 233 A U D IT IN G Appendix 1 (Ref: Para. 3) Specific Requirements in ISQC 1 and Other ISAs that Refer to Communications with Those Charged With Governance This appendix identifies paragraphs in ISQC 11 and other ISAs in effect for audits of financial statements for periods beginning on or after December 15, 2009 that require communication of specific matters with those charged with governance. The list is not a substitute for considering the requirements and related application and other explanatory material in ISAs. • ISQC 1, “Quality Control for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements” – paragraph 30(a) • ISA 240, “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements” – paragraphs 21, 38(c)(i) and 40-42 • ISA 250, “Consideration of Laws and Regulations in an Audit of Financial Statements” – paragraphs 14, 19 and 22–24 • ISA 265, “Communicating Deficiencies in Internal Control to Those Charged with Governance and Management” – paragraph 9 • ISA 450, “Evaluation of Misstatements Identified during the Audit” – paragraphs 12-13 • ISA 505, “External Confirmations” – paragraph 9 • ISA 510, “Initial Audit Engagements―Opening Balances” – paragraph 7 • ISA 550, “Related Parties” – paragraph 27 • ISA 560, “Subsequent Events” – paragraphs 7(b)-(c), 10(a), 13(b), 14(a) and 17 • ISA 570, “Going Concern” – paragraph 23 • ISA 600, “Special Considerations―Audits of Group Financial Statements (Including the Work of Component Auditors)” – paragraph 49 • ISA 705, “Modifications to the Opinion in the Independent Auditor’s Report” – paragraphs 12, 14, 19(a) and 28 • ISA 706, “Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor’s Report” – paragraph 9 1 ISQC 1, “Quality Control for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements.” COMMUNICATION WITH THOSE CHARGED WITH GOVERNANCE ISA 260 APPENDIX 1 234 • ISA 710, “Comparative Information—Corresponding Figures and Comparative Financial Statements” – paragraph 18 • ISA 720, “The Auditor’s Responsibilities Relating to Other Information in Documents Containing Audited Financial Statements” – paragraphs 10, 13 and 16