Professional Scepticism

1. Professional Scepticism Presented byMr. Yuvraj THACOOR, FCAChairman of the Financial Reporting Monitoring Panelat the Financial Reporting Council

2. What is professional scepticism? The International Standards on Auditing (ISA’s) define professional scepticism as “an attitude that includes a questioning mind, being alert to conditions which may indicate possible misstatement due to error or fraud, and a critical assessment of audit evidence”.

3. Why is so much importance laid on professional scepticism? • Plays a fundamentally important role in the audit of financial statements • Forms an integral part of the auditor’s skill set • Facilitates the appropriate exercise of professional judgment by the auditor

4. When does an auditor start using his/her professional scepticism? • Engagement acceptance • Identifying and assessing risks of material misstatement • Designing the nature, timing and extent of further audit procedures that are responsive to assessed risks of material misstatement, and evaluating audit evidence • Forming an opinion on whether the financial statements are prepared, in all material respects, in accordance with the applicable financial reporting framework

5. How does professional scepticism relate to the auditor’s responsibilities with respect to fraud? Fraud may include sophisticated and carefully organised schemes designed to conceal it and may equally involve acts of collusion. In this respect the auditor’s professional scepticism is essential when considering the risks of material misstatement due to fraud.

6. How does professional scepticism relate to the auditor’s responsibilities with respect to fraud?(Cont.) • The ISA’s note that the risk of the auditor not detecting a material misstatement resulting from management fraud is greater than for employee fraud, because management is frequently in a position to directly or indirectly manipulate accounting records, present fraudulent financial information or override control procedures designed to prevent similar frauds by other employees. In this regard, the ISA’s: • Indicate that evaluating management’s responses to inquiries with an attitude of professional scepticism may need to include corroboration of management’s responses to inquiries with other information. • Require the auditor to investigate the inconsistencies where responses to inquiries of management or those entrusted with Governance are inconsistent, • Require the auditor to reevaluate the prior assessment of the risks of material misstatement due to fraud, the consequential impact on the nature, timing and extent of audit procedures.

7. Other aspects of an audit where professional scepticism may be particularly important • Accounting estimates, including fair value accounting estimates, and related disclosures • Going concern • Related party relationships and transactions • Consideration of laws and regulations • Auditing of significant unusual or highly complex transactions

8. What can be done by audit firms and auditors to enhance the awareness of the importance of professional scepticism and its application? Professional scepticism is influenced by personal behavioural traits as well as the competence level of the individuals undertaking the audit. These, in turn, are influenced by education, training and experience. Professional scepticism within the engagement team is also influenced both by the actions of the firm’s leadership and the engagement partner, and by the culture and business environment of the firm.

9. 4 tips when applying professional scepticism while gathering and evaluating audit evidence • Do not forget the possibility of fraud or any material misstatement • Regardless of honest and/or ethical management may seem to be, fraud can still be present. • While you are gathering evidence, without passing any judgment on the behaviour of management, always review it with a mindset that it could possibly be fraudulent. You should always have a critical and challenging mind. • Make sure to probe deeper with less persuasive evidence by performing further substantive tests, that is, further inquire with management and request for examination of records.

10. Professional Scepticism Professional scepticism is fundamentally a mindset which drives auditor behavior to adopt a questioning approach when considering information and in forming conclusions. In this regard, professional scepticism is inseparably linked to the fundamental ethical principles of objectivity and auditor independence.

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