Making professional judgments and applying skepticism in financial reporting and auditing 2017 Mid-year IAS AAA meeting Tampa January 19, 2017 Dave Simko, IAESB Professional Skepticism Taskforce Chair and PSWG Member

Skepticism-related Quotes: Can you guess who said this? “Those who can make you believe absurdities, can make you commit atrocities” (Hint: French born) “Blind belief in authority is the greatest enemy of truth” (Hint: German born)

Today’s Objectives Summarize key themes related to professional skepticism from the IAASB’s Invitation to Comment (ITC): Enhancing Audit Quality in the Public Interest Provoke discussions on how accountants, auditors, and company directors should act when facing difficult situations

Key themes– IAASB ITC PS is about the appropriate mindset of the auditor Concerns over a lack of PS in audits cannot be fixed in isolation by changes to the definition or within the IAASB’s International Standards Mixed views over whether the definition needs to be changed or whether the IAASB could instead be more clear how it expects PS to be demonstrated PS is about behavior–how can auditors be encouraged to act as critical challengers? Can changes to certain auditing standards more effectively direct auditors to what is expected? How does the culture of the firm influence and encourage skeptical behavior? Additional guidance on exercising PS in particular circumstances (e.g., when auditing highly judgmental areas) would be helpful to enhance practice – linkage to IAASB’s ISA 540 project Auditors need a sufficient knowledge of the business to more effectively challenge management, and better consider evidence obtained – PS relevant throughout the audit Linkage to the IAASB’s ISA 315 (Revised) project

Key themes – IAASB ITC (cont.) Strong link between PS and the role of the “tone at the top” and the “tone at the middle” Audit firm, the engagement partner, senior staff, and the engagement quality control (EQC) reviewer (where applicable) all have a role – communication and mentoring particularly important Linkage to the IAASB’s Quality Control project Training and education is important to infuse a professional skeptical attitude into the “DNA” of auditors Raise awareness for auditors of their (and management’s) potential biases, including within the standards Support for a joint approach by the IAASB, IESBA, and IAESB, with a focus on Consistency between the SSBs on the concept/definition of PS Clarification as to how the concept of PS relates to the fundamental principles in the IESBA Code – is a lack of PS noted in audits actually more a lack of due care, objectivity, or professional competence? Planned actions should match the impediments they are designed to address – at the individual level, engagement level, firm level, and profession levels

False Assurance video: Background Created by the Institute of Chartered Accountants in England and Wales (ICAEW) A journey through two turbulent years in the life of a fictitious company called D-Merton Video incorporates realistic issues related to: Valuation of technology assets and impairment Related party transactions Mindset decisions

False Assurance video – part 1 and debrief

False Assurance video – part 1 discussion Do you think the impairment test should be conducted on the original acquired technology asset in isolation or should it be tested instead as part of a wider reporting unit to include the other development assets? Have the auditors done enough to verify there is a sufficient link between the later versions and the original technology?  If not, what more should they have done? How would control testing procedures be impacted if budgeted sales information is the basis for developing the projected financial information (PFI) in the technology valuation that is used within management’s review control over the impairment analysis? Do you believe that sufficient procedures were performed regarding the CEO’s sister's former connection to Premintel? If not, what should the auditors have done?

False Assurance video – part 2 and debrief

False Assurance video – part 2 discussion If you were the engagement partner, would you have involved a specialist? If so, why? If the valuation is used in a review control over the impairment analysis, how would the independent expert’s conclusion affect our ICFR procedures? What are some ways that you encourage junior team members to maintain a questioning mindset when performing procedures? Did the engagement partner treat the report from the audit staff member properly? How would you have handled the situation? If this were an integrated audit, would that change your considerations? What fraud risks should have been identified during the audit team’s meeting?

Key takeaways Quality financial reporting is significantly influenced by the appropriate knowledge and behaviors of preparers, those charged with governance, and auditors Establishing a questioning mindset and the application of professional skepticism needs be developed, just like one’s knowledge of accounting and auditing matters