Subsequent events - Procedures for reviews

Learning Outcomes

After studying this article, you will be able to explain the auditor's responsibilities for subsequent events, distinguish between adjusting and non-adjusting events after the reporting period, and describe the required audit procedures up to the date of the auditor’s report, as expected in the ACCA Foundations in Audit (FAU) exam.

ACCA Foundations in Audit (FAU) Syllabus

For ACCA Foundations in Audit (FAU), you are required to understand the impact of subsequent events on the audit and financial statements. Revision should focus on:

• The definition of subsequent events and their two categories: adjusting and non-adjusting
• The responsibilities of the auditor regarding events occurring after the reporting period but before the auditor’s report
• The audit procedures that must be performed to identify subsequent events up to the auditor’s report date
• The required responses to identified subsequent events, including when to recommend adjustments or disclosures

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which of the following best describes an "adjusting event" after the reporting period?
   1. An event providing new evidence of conditions that arose after the reporting period
   2. An event providing new evidence of conditions that existed at the reporting period end
   3. Any event requiring a change in accounting policy
   4. An immaterial event not disclosed in the accounts

2. True or false? Auditors have no duty to review events occurring between the reporting date and the date of signing the auditor’s report.

3. State two types of audit procedures that should be performed up to the date of the auditor’s report to identify any required adjustment or disclosure of subsequent events.

4. Briefly explain the difference between adjusting and non-adjusting events.

Introduction

After a business prepares its year-end financial statements, other relevant events may occur before the accounts are approved and the auditor’s report is signed. These subsequent events can affect the financial statements and the auditor’s opinion. Auditors must be alert to such events and ensure that all information is current and complete, so that users can rely on the accounts.

This article focuses on the auditor’s responsibilities for reviewing and identifying subsequent events, the distinction between adjusting and non-adjusting events, and the practical audit procedures required for the ACCA FAU exam.

Key Term: subsequent events
Events, both favourable and unfavourable, occurring between the end of the reporting period and the date the financial statements are authorised for issue.

TYPES OF SUBSEQUENT EVENTS

Subsequent events fall into two main categories. Knowing which category an event belongs to is essential for determining the appropriate response in the audit.

Key Term: adjusting event
An event after the reporting period that provides evidence of conditions existing at the end of the reporting period and requires the financial statements to be adjusted.

Key Term: non-adjusting event
An event after the reporting period that is indicative of conditions that arose after the reporting date and, if material, may require disclosure but not adjustment.

Adjusting Events

If an event provides additional evidence about conditions that already existed at the reporting date, it is an adjusting event. These events require the financial statements to be updated. Examples include:

• Bankruptcy of a customer that was already struggling at the reporting date
• Settlement of a court case, confirming the existence of an obligation at year end
• Receipt of information about asset values that were uncertain at period end

Non-Adjusting Events

Non-adjusting events are those that relate to new circumstances arising after the reporting date. If these events are material and could influence users’ decisions, they should be disclosed in the notes, not adjusted in the numbers. Examples include:

• Major fire or flood occurring after the period end
• Announced restructuring or sale of a subsidiary after year end
• Major share or debt issue after the reporting date

AUDITOR’S RESPONSIBILITIES FOR SUBSEQUENT EVENTS

Auditors are responsible for reviewing subsequent events up to the date of their report. The purpose is to ensure the financial statements are not misstated or incomplete.

Key Term: auditor’s subsequent events review
The procedures performed by the auditor to identify and evaluate events occurring between the reporting date and the date of the auditor’s report, to determine if financial statements require adjustment or disclosure.

If the auditor discovers subsequent events, they must consider whether:

• The financial statements need to be adjusted (for adjusting events)
• A disclosure is required (for material non-adjusting events)
• There is any implication for the auditor’s opinion if the client refuses to adjust or disclose

AUDIT PROCEDURES FOR SUBSEQUENT EVENT REVIEWS

Between the reporting date and the date the auditor’s report is signed, the auditor must actively search for subsequent events. Standard procedures include:

• Inquiring of management about their identification and review process for subsequent events
• Reading minutes of meetings of shareholders, directors, and relevant committees
• Reviewing the latest available financial records and management accounts
• Making inquiries of legal advisers regarding new or expected litigation or claims
• Examining interim financial information and updated forecasts
• Obtaining written confirmation that all relevant subsequent events have been disclosed

Worked Example 1.1

Question:
You are auditing Brownstone Ltd for the year ended 31 December 20X4. The audit is ongoing, and on 15 January 20X5 you learn that a customer owing £50,000 at year end was declared bankrupt. The financial controller says the loss should not affect the 20X4 financial statements because the bankruptcy notice arrived after year end.

Answer:
The bankruptcy provides evidence that the customer was already in financial difficulty at 31 December 20X4—an adjusting event. The £50,000 receivable should be written off in the 20X4 accounts, as recoverability was doubtful at the reporting date.

Worked Example 1.2

Question:
On 10 January, after the 31 December year-end but before signing the auditor’s report, a fire destroys half of the company’s finished goods. There was no indication at year end that the fire risk existed.

Answer:
This is a non-adjusting event because it arose after the reporting date. If material, the event should be disclosed in the notes to the accounts stating the nature and estimated financial effect. The asset and profit figures should not be adjusted.

Exam Warning

A common error is to treat all significant post-year-end events as adjustments. Only events providing evidence of conditions existing at year end (e.g., customer insolvency, settlement of ongoing litigation) are adjusting events. New events unrelated to year-end conditions require only disclosure if material.

WHAT IF SUBSEQUENT EVENTS ARE IDENTIFIED AFTER THE AUDITOR’S REPORT IS SIGNED?

If auditors learn of facts after signing the report (but before the accounts are published), they must discuss with management whether the statements require amendment. If management refuses necessary changes, auditors should consider modifying their opinion and seeking legal advice.

Summary

The auditor must review events occurring between the reporting date and the auditor’s report date. Adjusting events require changes to the accounts if they confirm pre-existing year-end conditions. Non-adjusting events that are material may require disclosure in the notes, but not adjustment. Proper procedures must be followed and any misstatements corrected before the report is signed.

Key Point Checklist

This article has covered the following key knowledge points:

• Define subsequent events, adjusting events, and non-adjusting events after the reporting period
• Explain the auditor’s responsibility for reviewing subsequent events up to the auditor’s report date
• List and describe the audit procedures required to identify subsequent events
• Distinguish between events requiring adjustment and those requiring only disclosure
• State the actions the auditor must take if necessary changes are not made before the auditor’s report is signed

Key Terms and Concepts

• subsequent events
• adjusting event
• non-adjusting event
• auditor’s subsequent events review