POST BALANCE SHEET EVENTS AND THE POST-AUDIT CLIENT REVIEW

The Final Review of the Financial Statements

The work we have considered so far has shown that the auditor first gathers facts about
the enterprise and the environment it operates in. The next stage was the gathering of
audit evidence about individual items and groups of items which together form the
accounts. We then find that the auditor is in a position of knowing that he has sufficient
evidence to substantiate the detail of the accounts. He then needs to form an opinion as
to whether the accounts contain certain qualities, and this is when a final review is
carried out.

This is a stage of the audit carried out by senior members of the audit team using
financial statements.
This is further to the analytical review procedures carried out as part of substantive
tests. The aims of this review are:
i. To provide audit evidence by determining if the financial statements provide
information that is internally consistent with other information in the possession
of the auditor
ii. To determine if the financial statements have been prepared using acceptable
accounting policies, they comply with IFRS and other requirements and that
there is adequate disclosure of all relevant matters.

We need to stress on the following two issues:

i. Qualities of the auditor who performs this review: this auditor must have:

a. An ability to distinguish between non-material, material and fundamental

items
b. An ability to assess the accuracy and completeness of information gathered in
the audit.
c. Must possess skill, imagination, and good judgement particularly on
professional and economic issues.
d. An ability to recognise apparent inconsistencies and abnormalities which
might indicate areas where errors, omissions, frauds, irregularities have
occurred which might not have been revealed by the routine audit procedures
and
e. An ability to assess whether an audit opinion is possible.
ii. The qualities required of the final accounts: the final accounts must possess
certain qualities, and these are:
a. Use of acceptable accounting policies, appropriate to the business and
consistently applied.
b. They must show the results of operations in the profit and loss account,
state of affairs in the balance sheet, changes in the financial position in
the statement of source and application of funds and all other
information included in the financial statement should be compatible
with each other and with the auditor's knowledge of the enterprise
c. All appropriate matters should be adequately disclosed, and information
contained in the accounts should be suitably classified and presented
d. There must be compliance with statutory requirements.
e. There must be compliance with other relevant regulations.
f. There must be compliance with Kenyan Accounting Standards.

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The final review may reveal:

a) All is well or
b) Further audit evidence is required in some areas or
c) That it may be desirable to make amendments to the accounts and
d) That a qualified report may be required.

The review stage is very important in modern auditing as current auditing opinion is
moving more towards a consideration of the view given to users by financial statements.
The detail is still important, but the view given must be true in detail and fair in totality.

Going Concern Considerations

IAS 1 Presentation of Financial Statements recognizes the going concern assumption as
one of the fundamental assumptions that underlie the periodic financial statements of
enterprises. The meaning of going concern can be said to be that the financial statements
assume that the enterprise will continue in operational existence for the foreseeable future
or put another way the financial statements assume no intention or necessity to liquidate
or curtail significantly the scale of operation or put more simply that the enterprise can
meet its financial obligations as they fall due. The going concern idea is very well
established in accounting and there is an authoritative document, ISA 570 Going
Concern, the student is advised to read it in detail. The points to note however are:

i. The importance of the principle

ii. The auditor's duty
iii. Indications of the inapplicability of the principle
iv. Counter indications
v. Audit procedures
vi. The impact on audit reports in practice.

The importance of the principle:

We will probably understand better how important this principle is if we consider the
implications of abandoning it. The effects of abandoning the principle include among
others the following:

a. Fixed assets would need to be valued at realisable values and not depreciated
cost.
b. Fixed assets would have to be classified as current assets as they would have
no future benefits to the organization.
c. Stock would have to be regarded at lower of cost or forced sale net realisable
value.
d. Prepayments and intangible assets may have no future benefits.
e. New liabilities may appear such as redundancy pay, leave pay and closure
costs.
f. Long-term liabilities may crystallize and become immediately payable hence
they cannot be classified as long-term liabilities.
g. The departure from the assumption, the reasons for this departure and its
effect need to be explained in the accounts in accordance with IAS 1.

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The auditor's duty
The auditor has a duty to express an opinion on the truth and fairness and compliance
with legislation, of the accounts. The valuation basis adopted in preparing the accounts
assumes that the company is a going concern in accordance with IAS 1. Therefore, for
the auditor to form an opinion he should consider whether he has reasonable grounds
for accepting the applicability of the going concern assumption.
It follows; therefore:
a) He must carry out sufficient work to ensure that this assumption is justified.
b) He therefore looks for evidence that the company is likely to continue trading
for at least the next 12 months from the balance sheet date or 6 months from
the date of the audit report or more practically
c) He looks for evidence that there is no indication to the contrary. He must,
however, take account of significant events which are likely to occur even
later.

 In the event that the auditor considers that the company is not a going concern,
he should advise the directors accordingly and ensure that the accounts are
prepared on a market value or a break-up basis.
 If the directors refuse to comply, then the auditor will have to qualify the
accounts to the effect they are not true and fair.
 It is not possible for the auditor to rely on an assessment of the going concern
position at the balance sheet date alone because the accounts usually only
become public knowledge much later after the balance sheet date. It therefore
becomes necessary to consider events taking place after the year end and
before the AGM which may affect the company as a going concern.
Indications of inapplicability of going concern
Insolvency, unfortunately, is a growth in the industry as the economy suffers a
downturn and therefore for a majority of enterprises in Kenya, the abandonment of the
going concern assumption is no longer a remote possibility. Consequently, on all
audits the auditor must consider whether or not his client is a going concern. ISA 570
gives numerous indications of going concern inapplicability.
Counter-indications
That the auditor has found indications of going concern non-applicability does not of
itself justify immediate conclusion that the entity is not a going concern. He must also
seek counter-indications or mitigating factors. This may include the following:

a. Ability to raise cash by selling assets.

b. Ability to obtain new sources of finance for example leasing, factoring debts,
hiring plant.
c. Opportunities of rearranging debt repayments or conversion of long-term debt
into equity.
d. The possibility of a rights issue.
e. Support from other group companies or from associated companies.
f. The possibility of making alternative trading arrangements.

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The auditors’ procedures.
In forming an opinion on the going concern position of a company, the auditor should:

a) Investigate the company, its background, its plans for the future, review of cash
flows and financing plans.
b) At every stage of the audit search for and against, evaluate evidence for and
against the going concern applicability.
c) If the auditor is in doubt, and the directors have formulated plans for the
continuation of the company, he should evaluate these plans, ensuring that:

1) All parts of the plan are consistent with each other

2) If the plans are contingent on the response of third parties, then he
should seek third parties written confirmations;
3) Ascertain that the plans are specific rather than general.
4) Review the supporting evidence for the plans if available for
reasonableness.
5) Seriously consider any professional advice obtained by the directors.
6) Consider any potential support from other group companies by looking
at any contractual obligations, directors’ intentions and the ability of the
group company to give the support.

7) Consider whether auditor has sufficient evidence to form an opinion on

the applicability of the going concern assumption.

Audit Reports
In most cases, the going concern assumption is appropriate and if applied no mention
need be made in the auditor's report.
In rare incidences, notes to the accounts may make reference to the going concern
assumption. This may include references to continued favourable trading or
availability of finance. It may be that the going concern assumption is not in doubt, but
for a full understanding of the accounts there is need for amplification of these notes.
In such cases, the auditor may use an emphasis of matter which is not a qualification
and is allowed in ISA 700

When the auditor has complete doubt about the going concern assumption he may be
required to qualify his report and this is a highly charged area for the auditor because
an expression in his audit report that a company is not a going concern may in itself
bring about the closure of the company. The auditor should therefore:
i. Not refrain from expressing a qualified opinion even though this may lead to
receivership or liquidation
ii. The auditor should consider materiality, if the adjustments required on abandoning
the going concern assumption are not material, then no qualification should be
given
iii. If the auditor concludes that there is doubt then he should consider the
consequences for the figures in the accounts. For example, he should obtain an
estimate of the necessary provision against stock or the redundancy payments.

In practice because of the difficulties involved in making adjustments to the accounts

and producing them on a break up basis, accounts in most cases in Kenya are produced

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on the going concern assumption and qualified by the auditor on the grounds that the
going concern assumption may not be appropriate.
Subsequent Events
Definition
IAS 10 Events After the Balance Sheet Date prescribes the accounting for, and
disclosure of, events after the balance sheet date.
Events after the balance sheet date are those events that occur between the balance
sheet date and the date when the financial statements are authorized for issue.
Events After the Balance Sheet Date may be classified into two categories:
 Adjusting events and
 Non-adjusting events.

An entity adjusts the amounts recognised in the financial statements to reflect adjusting
events after the balance sheet date.

Adjusting events are those that provide evidence of conditions that existed at the
balance sheet date (e.g. the settlement of a court case after the balance sheet date that
confirms that the entity had a present obligation at the balance sheet date; the
bankruptcy of a customer that occurs after the balance sheet date usually confirms that
a loss existed at the balance sheet date on a receivable).

An entity does not adjust the amounts recognized in the financial statements to reflect
non-adjusting events after the balance sheet date.
Non-adjusting events are those that are indicative of conditions that arose after the
balance sheet date (e.g. a decline in the market value of investments between the
balance sheet date and the date when the financial statements are authorized for issue).

For each material category of non adjusting event after the balance sheet date, an entity
discloses the nature of the event and an estimate of its financial effect.

Dividends declared after the balance sheet dates are not recognized as a liability at the
balance sheet date.

Financial statements are not prepared on a going concern basis if management

determines after the balance sheet date either that it intends to liquidate the entity or to
cease trading, or that it has no realistic alternative but to do so.

The financial statements disclose the date when the financial statements were
authorized for issue, and who gave that authorization.

Auditors Procedures
The relevant authority on post balance sheet events is ISA. The preparation of profit
and loss account and balance sheet will always involve the consideration of events
which have or will occur after the balance sheet date. The reason being there are
numerous transactions in progress at the balance sheet date whose outcome is uncertain
and therefore events subsequent to the balance sheet date which have occurred or are
expected to occur need to be examined to determine the appropriate values of assets
and liabilities. Examples abound such as the collectability of debts, the net realisable
value of old stocks, the outcome of litigation. Even the value of fixed assets is a
function of their expected future useful life.
Since the directors in preparing the accounts will invariably use post balance sheet
events, the auditor must obtain evidence that all post balance sheet events have been

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considered and where appropriate used and balance sheet values correctly incorporate
post balance sheet events.

 The questions that arise are concerned with what subsequent events should be taken
into account and how should they be treated in the accounts

Principles
i. Financial statements should be prepared on the basis of conditions existing at the
balance sheet date.
ii. A material post balance sheet event requires changes in the amounts to be included
in the financial statements where:

a. It is an adjusting event or
b. It indicates that application of the going concern assumption to whole or
a material part of the company is not appropriate.

iii. A material post balance sheet event should be disclosed where:

a. It is a non-adjusting event of such materiality and its non disclosure

would affect the ability of the users of financial statements to reach a
proper understanding of the financial position or
b. It is the reversal or maturity after the year end of a transaction entered
into before the year end, the substance of which is primarily to alter the
appearance of the company's balance sheet.
iv. In respect of each post balance sheet event which is required to be disclosed under
paragraph (iii) above, the following information should be stated by way of note
in the financial statement:

a. The nature of the event and

b. An estimate of the financial effect or a statement that is not practicable
to make such as estimate.
v. The estimate of the financial effect should be disclosed before taking account of
taxation and the taxation implication should be explained where necessary for a
proper understanding of the financial position.

vi. The date on which the financial statement is approved by the board of directors
should be disclosed in the financial statements.

Post balance sheet events occupy a very important place in auditing and therefore
there is usually a program of work that is carried out in this area. This includes:

i. A routine examination of such events such as collection of debts, sale of stocks,

payment of creditors, resolution of pending litigation;
ii. A comparison of significant ratios before and after the year end, seeking
explanations for any material differences as they may indicate the presence of
adjusting or non-adjusting events or have going concern implications.
iii. Examination of all material provisions and contingent liabilities at the latest
feasible date prior to signing of the accounts to determine whether any
additional evidence exists that may affect original estimates used.
iv. Review of director’s minutes looking for any major new contract or losses of
customers or losses of major contracts, capital expenditure commitments, and changes in
accounting policy, new borrowing or share issues, extra-ordinary or abnormal
transactions, changes in market conditions or products.

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 v. Discussions with the management, a review of management accounts,
review of profit forecasts and cash flow projections, review of non-risk areas and
vi. Review of relevant external information e.g. reports in newspapers. This
review must be as near as possible to the date of signing the audit report.
It should be noted that
i. The auditor must always date his audit report. This date should be as close
as possible to the date of approval of the financial statement by the directors
but must be after that date. ISA 700 requires that the date the directors
approve their accounts must be disclosed.
ii. Special situation. These are relatively rare circumstances but possible:

a. If the auditor becomes aware between the date of his report and the
AGM when the accounts will be presented, of information which
would change his report then he should
b. Discuss the matter with the directors who may wish to amend the
accounts
 Consider taking legal advice
 Consider making a statement at the AGM as he is allowed to by the
Companies Act.

iv. If the directors wish to amend the accounts between the date of the report and the
posting to the members, the auditor should
a. Consider if the proposed amendment requires a change in his report
b. Re date his report
c. Review post balance sheet events up to the re dating.

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