Healthcare Sector of Australia: Key Audit Matters in Independent Auditor’s Report
Executive Summary
The main purpose of this study is to understand the main reason for ASA 701 development, and certain new requirements have brought changes in the transparency auditing process. The sector selected for this research report is the healthcare sector of Australia. The research started with a discussion of the case of Lehman Brother during the crisis faced by the company. The next part is based on understanding the basic requirements of both ASA 701 and ASA 570. The analysis of identifying key audit matters is performed on different companies based on the objective of understanding how communication of key audit matter delivers superfluous information to the report’s users. At the end, recommendations and conclusions have been presented.
Introduction
Before Lehman Brother’s case happened, there were certain issues facing the users of financial information. The user’s concerns were based on the accuracy and transparency of audit perfumed by the audit firm. During the time Lehman case happened, the focus was diverted to new standard development with the name of ASA 701. The purpose of this standard was to address the judgment of auditors in the context of providing information regarding audit matters. In this report, annual reports of healthcare sector companies have been evaluated to evaluate the KAMs because it helps not only the senior management, but it also increases the transparency of the decision of users of financial information (Carson et al., 2016).
Lehman Brother’s Case Overview
When signs of weakening were shown by the real estate market in mid of 2007, then at that time Lehman Brothers was exposed to a higher level of risk because of its highly leveraged business model. The largest bankruptcy proceedings were started against Lehman Brothers, which was one of the largest investment banks in the country. The management of Lehman had employed Ernst and Young to conduct its audit of financial reports. According to the responsibilities of auditors, the audit firm had the responsibility to detect fraud and error and identify key audit issues that could reduce the credibility of the financial information to the users. But unfortunately, it was discovered after Lehman filed for bankruptcy that certain questionable accounting process was used by the firm in respect of unboxing Repo 105, a financing transaction carried by Lehman Brother’s management to show better results (Wiggins et al., 2014). This eventually resulted in a lack of communication of Repo 105, which was the repurchase agreement transaction by the auditor. Based on evaluation of a case of Lehman Brothers, it could see that auditors were aware of the use of Repo 105 by the management of Lehman Brothers, and they were also aware the failure of management to disclose it in financial statements (Gómez & Piñeiro, 2017).
Auditing Standard ASA 701
Communication of KAMs was the main objective of developing this new standard in the field of auditing. This standard has created the requirement of placing a separate section for the KAMs which should be based on the opinion of the firm’s auditors. KAM’s communication in this way gives importance to the knowledge and information provided to the users of financial information. This ASA 701 could be applied to both the audit of reports of all the public entities, and it could also be applied to circumstances under which the auditor decides to communicate any key matters in the report. This standard requires a focus on the needs of users in drafting KAMs to understand the level of understanding of users regarding the accounting and auditing terms used by the auditors in the report. The standard ASA 701 also requires the engagement of auditors with the managers charged with governance in drafting key audit matters (Xu et al., 2011).
Auditing Standard ASA 570
This was developed based on resolving the concern of users of financial information whether an organization can continue in the future. According to the standard, the auditor is responsible regarding the collection of appropriate evidence regarding the preparation of the financial report of the company by the management by following the going concern basis of accounting (Pinto & Morais, 2018). This standard requires from the auditors to ensure that auditing standard has been followed and there is no material ambiguity occurs associated to conditions or events that case substantial doubt of the ability of the company to continue as going concern (Hossain et al., 2018).
KAMs in Independent Auditor’s Reports of Healthcare Industry
Healthcare industry in Australia
Healthcare industry in Australia is one of the competitive industries of the company because it is receptive and sophisticated to the development of the new product. There is a high level of demand for cretin and development of full range medical devices. This huge competition in the industry has increased the need for the provision of sound and effective auditing to provide accurate financial information about companies. The implementation of ASA 701 in the healthcare industry is to enhance the requirements of auditor to ensure that there is the use of data analytics by the healthcare companies to target compliance activities, there is a proper system for managing the inappropriate activities that lead to fraud and error and to inform the users of financial statement that all those key matters have been indicated which could lead to material misstatement.
Key Audit Matters in the Healthcare Industry
Some of the key audit matters that should be indicated in the auditor’s report of the healthcare industry are given below:
- The most common KAM that could be part of the auditor report of the healthcare industry is based on goodwill impairment and assessment of carrying value. This Goodwill is one of the main KAMs in the healthcare industry.
- 29% of the companies in the healthcare industry had shown a KAM of revenue. It is considered as one of the most important drivers, so it is included in the auditor’s responsibility to check the accuracy of revenue accounting.
- Taxation is another area of focus of auditor because about 20% of the companies in the healthcare industry had indicated this taxation KAM. The most critical area of consideration is the inaccurate forecasting that leads to making a judgment on the likelihood of future profits which are taxable.
- The fourth important KAM in this healthcare industry is the association of significant judgment of the management with the identification of the fair value assets and intangible assets in respect of the acquisition.
- The valuation of inventory could also be inaccurate because of which it is the area of KAM.
KAMs of some healthcare companies
Ansell Limited
The identified KAM was the brand names and goodwill valuation. The auditors considered it as KAM because of the involvement of significant judgment and integral complication in respect of conduction of audit of assumptions such as prices of raw materials, terminal growth and growth rate regarding the VIU (Value in Use) model applied for each CGU in Ansell Limited.
The second key audit matter identified by auditors was taxation because Ansell Limited is executing a global commercial strategy. It was key audit mater because auditors pointed out that management did not follow different tax rules for different jurisdictions like Australia, Belgium, and the U.S. and they did not consider varying tax complexities (Ansel, 2018).
Cochlear Limited
The first key audit matter identified by auditors was the recovery of trade receivable with an amount of $299.1 million. The auditors considered that it could be based on the judgment of the management about the exposure of credit risk. Auditors thought that Cochlear Limited is dealing with customers of distinctive characteristics and geographic locations that could impact the recovery of certain receivable of the company on a timely basis (Sirois et al., 2018).
Warranty provision with the amount of $39.8 million was considered second KAM by the auditors of Cochlear Limited, and the main reason behind this was the existence of inherent uncertainty in the estimation of applied key assumptions. According to auditors, the amount of warranty provision could be different because of different warrantable periods for different products of the company (Cochlear Ltd, 2018).
CSL Limited
The first key audit matter in the case of CSL Limited was the existence and valuation of inventories based. The auditor considered that the inventories of the company could be valued by the management at greater than the recoverable amount. The reason behind this is that complex accounting for inventories could be used by the company that has made the costing of inventories key matters for the users.
The second key audit matter was based on the complexities associated with the taxation system of the company. Based on the evaluation of the recoverability of the deferred tax assets, the auditor came to consider that the focus of the management in the context of valuation of taxable assets could be based on depending on the timing of Profits Company will generate n future. But the assessment of the future taxable profit requires the consideration of significant estimates, which is a complex process (CSL, 2018).
Healthscope Limited
The first KAM in the company was the divestment of Asian pathology business. The auditors considered it a KAM because of the presentation of the trading results of Asian pathology business. They identified that management showed this business as a net asset held for sales and discontinued operations, but a binding offer had been accepted by the company after the balance sheet date.
The outcome of the portfolio review of the hospital was another key audit matter because it identified that decision by the management of groups was taken to close the Cothran and Geelong private hospitals. According to the auditors, the estimation of the values for that private hospital was considered based on the judgment of management regarding the expected cash flow in future for those sites, estimates regarding the fair value of land and building and unavoidable costs in respect of the arrangement considered for leasing (Healthscope, 2018).
Ramsay Health Care
The recoverable amount of goodwill was the identified matter of interest by the stakeholders of the company’s reports. The requirement of judgment for estimating the amount of goodwill was the main factor of considering it as a risky area in the company’s reports. The company was using the value in the US model in respect of the calculation of recoverable amounts of the company’s assets. There was a doubt whether or not the management has considered and followed the Australian Accounting Standard.
Consideration of the onerous provision of lease and impairment of assets of the company was another key area of consideration. The auditors have certain concerns, which became the reason for considering it as KAM because of the involvement of the judgment required in making the estimation. Provision of insurance was also a key area of risk because of the requirement of significant judgment for determination of provision for insurance because of the existence of uncertainty in respect of prediction of future claims based on past events (Ramsay Health, 2018)
Sonic Healthcare
The auditors of Sonic Healthcare considered the indefinite life-intangible assets of the company as the focused area along with it; the estimated recoverable amount of goodwill was also measured as key KAM. As according to the accounting standard, the management had the responsibility to test the indefinite intangible assets and the goodwill on an annual basis as this process of assessment is judgmental and inherently complex. The provision of information regarding the significance of the company’s intangible assets to users of financial reports was the basic reason for considering its key audit matter.
Taxation was also reflected in KAM because of multiple jurisdictions under which the company is operating. There are certain levels of the tax provisions presented based on the assumptions, but their actual value will come based on the future outcome of assessment that will be carried out by the relevant authorities (Sonic Health care, 2018).
Recommendations
It is recommended to auditors of all the companies operating in the healthcare sector of Australia to follow ASA 701 in preparing reports. The auditor s must have to ensure that the ethical and professional behavior has been maintained to provide greater transparent audit. According to ASA 701, the decisions of users could be increased by providing significant and key information of risky and sensitive areas of performance within a particular organization. The managers of the organization should have to focus on the implementation of the process of assessment of risk because timely communication of significant and risky area enables the management to apply effective policies that could reduce the concerns of users. It encourages the management of an organization to make or enhance new disclosures that could have greater importance for the decision making of users of financial information. For example, it is recommended to the management of Ansell Limited to consider the requirements of ASA 701 in dealing with goodwill valuation and brand names. According to ASA 701, it is the responsibility of auditors to discuss the situation with management and provide required guidance to disclose the amount of unallocated goodwill during the period along with providing the reasons why it was unallocated. In respect to taxation, it is recommended to the management of Ansell Limited consider the taxation rules of specific countries in which business transactions are occurring.
In respect of the assessment of KAMs, ASA 701 required auditors to consider the identification of significant risks and those areas where there is the possibility of a high misstatement risk. The identification of risks of these risky areas could enable the management to take proper steps to create a plan to resolve the concerns of users of financial information regarding key audit matters. For example, in the case of CSL Limited and Sonic Healthcare, taxation was considered as KAMs because of certain complexities associated with it. In this perspective, it is recommended to the management of CSL Limited to ensure the users of financial information that company that proper steps have been taken by the company based on the recommendations of auditors.
Conclusion
The conclusion is drawn that auditors are liable under the requirements of ASA 701 to provide all the required information about those areas which could have an impact on the transparency of audit. It is concluded that the auditors should clearly explain each key audit matter to provide an understanding of the area of material misstatement to intended users of financial information. The development of this auditing standard ASA has increased the credibility of audit firms in conduction of audit. It is concluded that Lehman Brother’s case had become the base for developing this new standard of auditing.
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