 Hello, and welcome to the session. This is Professor Farnhatt, and this session we're gonna be covering the new PCA OB standard, which is enhancing the auditor's reporting and specifically covering the critical audit matters or CAMs. This topic is covered in an auditing course and soon to be tested on the CPA auditing exam. Some of it will be tested very soon, which is stage one, which we'll talk about shortly. Always, I'd like to remind you, my viewers, that's listening to me now to please connect with me, connect with me on a professional level, if you have a LinkedIn account. If you're a Facebook user, you like my Facebook page and connect with me on a personal level. But if you don't have a LinkedIn account, I strongly suggest you do open an account. You wanna make sure you subscribe to my YouTube. All my lectures are posted on YouTube, and this way you have access to all the updated lectures. This is my Twitter account, and I do have a website, and on my website I do post my lectures organized by course and chapter. But the most that we're gonna be discussing, the new PCAOV reporting standard, and this is gonna be stage one of two. Little bit of history, October 2017, the SEC approved a new rule by the PCAOV requiring significant changes to the public company's public report that have significant effect on investors, audit committees, and others. And here I'm targeting you, others as you, you are a student, you are a CPA student, you're gonna have to know those rules, which they will be tested on the exam pretty shortly. And those major changes are from over many decades. So this is the first change to the audit report, major change to the audit reports from many decades, from many decades. So what is the goal? The goal is to make the report more informative, to be more specific, more transparent, and relevant to investors. That's the goal. So we're gonna talk about stage one first, and then we'll talk about stage two. Stage one will be effective for 2017 calendar year audit. So if you are a calendar year audit 2017, it means you're gonna be audited maybe in 2018. Simply put, six months after a rule takes place, it will start to be tested on the exam. So expect those new rules for stage one to be tested pretty shortly. So the new rule, what happened is this, it made additional requirements to the report. First is disclosure of auditor tenure. Going forward, the report will have to disclose the auditor tenure. And what do we mean by the auditor tenure? We have to put a date, the earlier of when the CPA firm signs an engagement letter, or when it begins performing audit procedures. So now we have to disclose this. And you will see this on the report. Also what they did is they did some changes to clarify the auditor responsibility. Okay, role and responsibility. So now they added a statement. Our audit included performing procedures to assess the risk of material misstatements or financial statement, whether to error fraud and performing procedure that respond to those risks. So this is basically a clarification of the auditor's role and responsibility. The third thing is they standardize the form of the report. Which will see an old report and a new report as well as a summary on the next slide. Cause this is a major, this is the major change. Basically the format of it. The format is important. You'll be tested on the format on the exam. The purpose is to make it easier to read and emphasize the opinion. What they did is now you're gonna see in a moment that the opinion comes first. Which is the opinion used to be actually kind of at the bottom last. Now the opinion is first. And now they have section titles to guide the readers. Also they added a statement regarding the auditor's independence and statement addressing the report to the shareholders and the board of directors. So let's take a look at this point here. What does the new report looks like? Here's what the old report looks like first. Hopefully you are familiar with the old report. If not, you don't have to worry about it. But if you already studied the old report in college and now you are studying for your exam then you need to kind of, it's good to see the difference anyway. The old report started with the report title and include the word independent. The auditor's report, who's it addressing? Introductory paragraph, management responsibility paragraph, auditor's responsibility that included the scope of the work. The opinion paragraph, the signature and the date of the report. This is what the old report looks like. And I will show you one. Just give me a moment on the next slide. Here's what the new report would look like. We'll still have a title that include the word independent. We're still gonna be addressing it to specific people. Notice the opinion went basically from the last, in a sense last because signature is not really a paragraph and they put it in the first paragraph. Okay, the opinion, you will see a report. Then they have another paragraph called basis of opinion. Under the basis of opinion, now what they did, they put management responsibility and auditor's responsibility. So those two responsibilities now under the basis for opinion, then they added a new paragraph called critical audit matter. And this paragraph could span over many, many pages depending on how many critical audit matter you are going to talk about. Now, what is critical audit matter or matters? You're gonna see, we're gonna talk about them, maybe spend 20 minutes discussing this. This is the stage two. Okay, then we'll have the signature. Then we'll have the auditor's tenure. This is also, notice I highlighted what's new and red. So the auditor's tenure and you will see how it's listed and date of the report. So the new report looks a little bit differently but practically the same except you have the critical audit matter, not practically the same. It is major changes since the critical audit matter is included. And this is the old report. Introductory paragraph, management responsibility, auditor's responsibility, the scope paragraph and the opinion, then the signature of the CPA firm. This is the old. The new paragraph, the new one is, we still have the word independent in the title to the shareholders and the board of directors. Notice it's addressing it to someone, to the board of directors and shareholders. Now notice what's gonna happen, the opinion is first. The opinion is first. So the opinion versus the opinion used to be last. Notice we expressed an unqualified opinion. Here we expressed an unqualified opinion at the end of the, at the end. Basis for the opinion. Under the basis of the opinion, you're gonna see the management responsibility. The financial statements are the responsibilities of the company's management, okay? Then the auditor responsibility. Our responsibility is to express an opinion and how we conducted the audit. The audit are conducted according to the standard with the PCAOB because here we're discussing public company, public company. So notice the basis of the opinion included both the auditor responsibility as well as the management responsibility. Those are as well as the scope, all three actually. It's called actually the basis for the opinion. It included also the scope. And the new, and the new topic, the new is the critical audit matters. The critical audit matters communicated below are matters arising from the current period and it's only include the current period. You could use other period, but you only are required the current period of the financial statement that were communicated or required to be communicated to the audit committee and those are related to audit, relate to accounts or disclosure that are material to the financial statements. Involving specially challenging, subjective or complex judgment. So they're telling you what critical audit matters is but this is what I need to explain next. Then notice here, we have served as the company's auditor since this is the tenure. This is the new thing, the tenure, then the signature and the date. Now we need to talk about those CAM or CAM's critical audit matter. So this is a stage two and this the audit period ending June 30th, 2019 for large accelerated filers, they will have to start to include this critical audit matters. So right now you're just learning about it. So the first thing is you wanna know is what is a CAM? What is a CAM? It's any matter arising from the audit that were communicated or required to be communicated to the audit committee. Remember, when you are dealing with an audit and we talked about this in our audit courses that there are certain things you have to communicate to the audit committee. Now anything that you communicate to the audit committee or required to be communicated that might have to be disclosed in the CAM, okay? And so notice not everything, it was communicated or has to be communicated and relate to accounts or disclosure. That is material that are material to the financial statements and that involve challenging, subjective, complex auditor's judgment. So it has to meet all of those. Something that you communicated or you should have communicated and relate to accounts or disclosure. You may communicate it's something else that doesn't relate to account or disclosure. Therefore, it doesn't have to be included in the CAM. It has to be material. Maybe what you communicated is not material that's executed. It involves challenging, subjective and complex auditor judgment. Now what are those? We'll talk about those little bit more. What is challenging, subjective and complex? It's basically it's gonna boil down to a judgment but the PCAOB gave us some guidelines. And this is similar to UK standard and the UK they do have this CAM but they call it CAM with the K key auditing matters. And in the UK it has been implemented since I believe 2016 or 2015. So they already started this implementation. So the US companies, they're gonna practically referring to UK and other international companies that report CAM as a basis, as a guide because this is basically a new standard. So basically what did the new standard do? It took auditing standard 3102 and broke it down into two components. So remember from a high level perspective we still have two standard for an audit either qualified, which is not good or unqualified. Basically we have failed or pass audit. The new rule it's gonna clarified auditing standard in each case. But what it did, the new rule broke down the old auditing standard 3102 into two parts. The first part is the AS 301, the audit report on the audited financial statements when the auditor expressed an unqualified opinion. So basically they said, here's the unqualified opinion. There's more information about the unqualified opinion. An unqualified opinion could be unqualified standard report, unqualified additional financial statement related information included in the report or unqualified report, additional audit related information included in the audit report. So you could issue three unqualified audit opinion and they discuss each one of those. Now I have to create a new recording about this new report but this recording is not for the report. This recording is for the new standard but eventually you will see me covering all of those in details. Then they created the new AS 3105 which is departure from unqualified and other reporting circumstances. And this is where you have either a qualified opinion, adverse opinion or disclaimer of opinion. So basically fail or pass and I put under fail qualified that could be adverse disclaimer but you still have those two criteria either you failed or you passed. Unqualified or qualified just they broke them down a little bit further. Also what they do require auditor to communicate CAM and the auditor's report or if there is no CAM explicitly state there is no CAM to be communicated. And remember what we talked about CAM only relate to the current period. If you choose to put other period that's optional and you have to mention this. So let's see, let's take a look at what's included in CAM what could be a possibility of CAM? The first thing we have to ask ourselves was the matter communicated or required to be communicated to the audit committee? If the answer is no, we did not communicate this matter because that's not required or to be communicated. We did not, there's no CAM, there's no critical audit matter. If the answer is yes, it was communicated or required to be communicated then we have to ask ourselves does the matter relate to an account or a disclosure that is material? Account or disclosure and that account or disclosure is material to the financial statements. Now what's materiality? Go view my lecture about what's materiality. Okay, to the financial statement. If the answer is no, guess what? We stop, we have no CAM because it's not material, it doesn't relate to an account, it doesn't relate to a disclosure. If the answer is yes, yes. Then we have to ask ourselves the third question. Does the matter involve especially challenging, subjective or complex audit judgment? If the answer is no, then we have no CAM. If the answer is yes, we have the CAM. Okay, there you go. Now you have a CAM. So, what is challenging, subjective or complex audit judgment? Because you need to know what materiality is from prior session, what needs to be communicated, that's also what we talked about. But challenging, subjective or complex judgment, the PCAOB gave us basically a guidelines of what we need to follow. Okay, so rules or principle provide a list of consideration. One is assess the risk of material in the statement includes significant judgment. If that's the case, then it's a challenging and complex. The degree of auditors related financial statements areas that involve the application of significant judgment or estimation by management, including estimates with significant measure, measurement uncertainty. So anytime you have a major significant judgment or a major estimate that's been made by management, this could be a challenging or a complex issue. Nature and timing of significant unusual transaction in the extent of audit effort and judgment related to them. So if there's any unusual transaction in nature and timing and we have to make another judgment about them, then those could be considered challenging or complex. Nature and extents of audit effort required to address the matter, including the extent of user specialized skill, knowledge needed or the nature of needed consultation outside the engagement team. That could be if you're using somebody from the outside, it could be a challenging or a complex issue. Nature of audit evidence obtained regarding the matter. The nature of the evidence, it tells you if this matter is challenging or complex. So simply put, it has to be a material event that require thought and complexity for it to be considered challenging. Of course, and it meets the element. Remember, it has to be material and it has to be required to be communicated with the audit committee. And it has to cover account or disclosure. It's the same thing that I have on the prior slide. Nothing else. Also, more specific about CAM, for each CAM, the auditor must include the following information, identification of the matter. We have to identify the matter, description of the principle consideration that led the auditor to determine that the matter is a CAM. So you need to tell us why, describe it. Describe of how the CAM was addressed in the audit. How did you address it in the audit? Refer to the relevant financial statement accounts and disclosure that relate to the CAM. You have to be specific to what account and what disclosure does it relate. Simply put, the auditor must articulate what matter is a CAM, how it was addressed. What documentation do they have? We wanna make sure you keep the documentation because remember, when you have a CAM, you should have working papers. You wanna make sure the CAM, the working papers support your CAM. So if you claim you have a CAM, you have a critical audit matter, show me in the work paper, what did you do to address that CAM? Because remember, the auditor could be audited themselves and they are audited by the PCAOE. They are looked overview or think about, you are sued. Then you have to make sure you have the work papers that support what you are claiming. What are some of the unintended or interesting consequences as a result of CAMs? Because again, they're not implemented yet but you wanna kind of think about those things in order to understand what CAM is. The first is increase news and shareholders litigation. Remember, now you're gonna have to disclose CAMs. Now the investors, they're gonna know about the critical audit matter. And if there's a critical audit matter that carries on from year to year and something happened eventually, you're gonna have a lawsuit on your hand. I just asking you, why wasn't addressed properly? Okay, because they know about it. Auditors judgment, auditor and management behavior. How are they gonna behave? It's gonna put a chill on the auditor company audit committee communication. Because remember, you have to be careful. You communicated with the audit committee. Now it might be a CAM issue. Do you really wanna bring that to light? Is it necessary? So there's gonna be very careful management in audit and auditor as well as the audit committee. Investors might have questions and we hope that the CAM will be self-explanatory. Otherwise, the investor relation job is to explain those issues. And then the consequences could be the audit fees. Of course, if we need to put more work, we need more money. So it may increase the audit fees for companies. Also training at CPA firms. I mean, again, we're just learning about this but how our CPA firms are going to train their employees, staff management of how to deal with this new issue. Also the quality reviewers, the reviewers that review the CAMs. It's something new. So how are we gonna deal with this? The company itself is not prepared. So what's gonna happen is you're gonna have to communicate with the company. What is considered the CAM? What's not considered a CAM? So on and so forth. And right now, I know from, I know a couple of people that work in it, not the big four, but they don't work with the big four. They're already going through some dry runs. They're going through brainstorming what companies of preparing themselves as what's gonna be a CAM? What's not gonna be a CAM? Okay. Workpapers reflect what's in the CAM. Remember, you wanna make sure that what you said it's a CAM, you have work papers. Otherwise you're gonna put yourself in a litigation issue. Will the audit report include original source of information about the company? Well, what you include in the CAM, is this gonna be the first time that the public knows about? And it's gonna be interesting issue. Is this public information or not public information? Well, as of today, it doesn't have to be original. It should not be original unless it's critical. So in the rare situation, they said it should be original, otherwise it should not be new information. No boilerplate, the SEC and the PCAOB stated and insisted that the CAM should not be boilerplate. Basically, you have a template and it just changed some numbers. Simply put, what companies are doing, they're trying to assign this to a specific team to draft. And what's gonna happen too in this situation, we may have a black market where let's share information. My team share how you drafted your CAM. So that could happen. Also, we might have similar CAM in similar industries. For example, if you're in the airline industries, your CAM might be similar. I would say maybe we'll have some consulting companies popping up just trying to help with that matter. Also a significant risk like acquisitions and merger versus critical audit matters. Are these critical audit matters? Are we gonna consider them? What's gonna happen with that? Any significant risk? Significant deficiency in internal control. Now, this is not an account or disclosure related, but it could be a factor for a CAM. But if we say there's a deficiency in internal control, remember, that's not an account or a disclosure. Also acquisition or merger, it may not be an account or it may not be related to a specific account. It could be related to a disclosure, but is it really a critical audit matter? And can you think of many unintended consequences? I'm sure you can think of many. Now, again, this topic, it's still not fully implemented. So it's gonna be very interesting, but hopefully I gave you an introduction about what a CAM is, critical audit matters. If you want to view more recordings, similar to this one, please visit my website. If you happen to do so, please consider donating. Study hard for your CPA exam. See you on.