This week we continue our series looking at some lessons that auditors can learn from past Decision Notices (DN) published by the Financial Reporting Council. For the sake of brevity we are omitting the title ‘Ireland’ from the names of the ISAs as we are referring to the Irish ISAs throughout this post.

To catch up on last week’s post in the series click here.

Today we focus on the topic of revenue recognition and recoverability of debtors. Both of these are often considered high-risk areas in many audits. In the audit of the consolidated financial statements for ‘Associated British Engineering plc’ (‘ABE’) for the FY 2018 significant audit risks relating to:

  • Revenue recognition and
  • Recoverability of debtors

were identified in the audit file as a key audit matter (KAM).

Provision against trade debtors was a significant accounting estimate made by ABE’s management.

ISA 240.32(b) of the Auditor’s Responsibilities Relating to Fraud requires the auditor to design and perform audit procedures to review accounting estimates for biases and evaluate whether the circumstances producing any bias represent a risk of material misstatement due to fraud.

Paragraph 32(b)(ii) requires that such review must include a retrospective review of management judgements and assumptions related to significant accounting estimates reflected in the financial statements of the prior year.

ISA 240.A46 explains that a retrospective review has the purpose of determining whether there is an indication of a possible bias on the part of management.

In the circumstances of the Audit, the Respondents were required by these provisions of ISA 240 to perform a retrospective review of management’s judgements and assumptions related to the provision against trade debtors in ABE’s financial statements for the prior year. The auditors failed to comply with that requirement.

They did not carry out work which met the requirement of ISA 240.32(b)(ii) to conduct a retrospective review on the prior year’s provision against trade debtors. Such audit work as was carried out was inadequate for the purpose of meeting the requirement of ISA 240.A6.

As regards Audit Sampling the relevant section of ISA 530.6 requires the auditor, when designing an audit sample, to:

  • consider the purpose of the relevant audit procedure and
  • the characteristics of the population from which the sample in question will be drawn.

The auditors failed to comply with this requirement in their audit work on revenue recognition and recoverability of debtors, in that they did not appropriately address the difference between the two classes of ABE’s sales to its customers, namely

  • products (predominantly engine parts) and
  • services (repair work);
  • they did not consider the respective risks presented by those two revenue streams; and
  • they did not differentiate between them in the substantive testing work that was carried out for the Audit.

Another problem area related to ISA 701 Communicating Key Audit Matters (‘KAM(note 1) in the Auditor’s Report), by virtue of its paragraphs 9, 10, 13 and 18(a), which require the auditor:

  • to determine, from the matters communicated to those charged with governance, those matters that required significant attention in performing the audit;
  • to determine which of those matters were of most significance in the audit and therefore formed the KAMs; and
  • to record within the audit documentation the significant matters and,
  • in respect of each of them, the rationale for the auditor’s determination as to whether or not the matter is a KAM, including (in respect of each matter determined to be a KAM):a reference to any disclosure(s) in the financial statements related to the matter; and information as to:
  • why the matter was determined to be a KAM; and
  • how the matter was addressed in the

The auditors’ audit work in the area of revenue recognition and recoverability of debtors did not comply with the above requirements of ISA 701 even though this area was identified, both in the audit file and the auditor’s report, as a KAM.

However, the reasoning behind that identification was lacking; the audit team’s assessment of the risks in relation to revenue recognition had in fact led them to a contrary conclusion; and the identification of this matter as a KAM was an error.

Please go to our website to see our new ISQM TOOLKIT or if you prefer to chat through the different audit risks and potential appropriate responses presented by this new standard, please contact John McCarthy FCA by e-mail at

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[1] Note that KAMS apply most frequently to listed entities but can also apply to circumstances when the auditor decides to communicate key audit matters in the auditors’; report.