Engagements to examine and report on prospective financial information

 

Management is responsible for the preparation and presentation of prospective financial information. The auditor may be asked to examine and report on prospective financial information to enhance its credibility for use by third parties or for internal purposes.

What is “prospective financial information”?

“Prospective financial information” means financial information based on assumptions about events that may occur in the future and possible actions by an entity.

Prospective financial information can be in the form of a forecast, a projection, or a combination of both, for example, a one-year forecast plus a five-year projection.

Prospective financial information can include financial statements or one or more elements of financial statements and may be prepared:

(a) As an internal management tool, for example, to assist in evaluating a possible capital investment; or (b) For distribution to third parties in, for example:

● A prospectus to provide potential investors with information about future expectations.

● An annual report to provide information to shareholders, regulatory bodies, and other interested parties.

● A document for the information of lenders which may include, for example, cash flow forecasts.

The auditor may be asked to examine and report on the prospective financial information to enhance its credibility whether it is intended for use by third parties or for internal purposes.

The difference between a forecast and a projection

A “forecast” means prospective financial information prepared on the basis of assumptions as to future events which management expects to take place and the actions management expects to take as of the date the information is prepared (best-estimate assumptions).

A “projection” means prospective financial information prepared on the basis of:

(a)    Hypothetical assumptions about future events and management actions which are not necessarily expected to take place, such as when some entities are in a start-up phase or are considering a major change in the nature of operations; or

(b)    A mixture of best-estimate and hypothetical assumptions.

  Evidence obtained when examining the prospective financial information

In an engagement to examine prospective financial information, the auditor should obtain sufficient appropriate evidence as to whether:

(a) Management’s best-estimate assumptions on which the prospective financial information is based are not unreasonable, in the case of hypothetical assumptions, such assumptions are consistent with the purpose of the information.

(b)   The prospective financial information is properly prepared on the basis of the assumptions.

(c) The prospective financial information is properly presented, and all material assumptions are adequately disclosed, including a clear indication as to whether they are best-estimate assumptions or hypothetical assumptions; and

(d)  The prospective financial information is prepared on a consistent basis with historical financial statements, using appropriate accounting principles.

 Acceptance of an engagement to examine prospective financial information.

Before accepting an engagement to examine prospective financial information, the auditor would consider, amongst other things:

• The intended use of the information.

• Whether the information will be for general or limited distribution.

• The nature of the assumptions, that is, whether they are best-estimate or hypothetical assumptions.

• The elements to be included in the information; and

• The period covered by the information.

The auditor should not accept an engagement when the assumptions are clearly unrealistic or when the auditor believes that the prospective financial information will be inappropriate for its intended use. Usually, the auditor sends an engagement letter to help in avoiding misunderstandings regarding the engagement.

 Procedures  to examine prospective financial statements

When determining the nature, timing, and extent of examination procedures the auditor should:

·   Assess the source and reliability of the evidence supporting management’s best-estimate assumptions.

·  Consider whether, when hypothetical assumptions are used, all significant implications of such assumptions have been taken into consideration.

·    Be satisfied that hypothetical assumptions are consistent with the purpose of the prospective financial information.

·  Be satisfied that the prospective financial information is properly prepared from management’s assumptions by, for example, making clerical checks such as recomputation and reviewing internal consistency.

·   Focus on the extent to which those areas that are particularly sensitive to variation will have a material effect on the results shown in the prospective financial information.

·      Consider the interrelationship of other components in financial statements.

·   Obtain written representations from management regarding the intended use of the prospective financial information, the completeness of significant management assumptions and management’s acceptance of its responsibility for the prospective financial information.

Example of an extract from an unmodified report on a forecast

The following is an example of an extract from an unmodified report on a forecast:

“We have examined the forecast in accordance with the International Standard on Assurance Engagements applicable to the examination of prospective financial information. Management is responsible for the forecast including the assumptions set out in Note X on which it is based.

Based on our examination of the evidence supporting the assumptions, nothing has come to our attention which causes us to believe that these assumptions do not provide a reasonable basis for the forecast. Further, in our opinion the forecast is properly prepared on the basis of the assumptions and is presented in accordance with .... (Indicate the relevant financial reporting framework).

 Actual results are likely to be different from the forecast since anticipated events frequently do not occur as expected and the variation may be material.”

 Example of an extract from an unmodified report on a projection

The following is an example of an extract from an unmodified report on a projection:

“We have examined the projection in accordance with the International Standard on Assurance Engagements applicable to the examination of prospective financial information. Management is responsible for the projection including the assumptions set out in Note X on which it is based.

This projection has been prepared for (purpose of …..). As the entity is in a start-up phase the projection has been prepared using a set of assumptions that include hypothetical assumptions about future events and management’s actions that are not necessarily expected to occur. Consequently, readers are cautioned that this projection may not be appropriate for purposes other than that described above. Based on our examination of the evidence supporting the assumptions, nothing has come to our attention which causes us to believe that these assumptions do not provide a reasonable basis for the projection. Further, in our opinion the projection is properly prepared on the basis of the assumptions and is presented in accordance with ....

Even if the events anticipated under the hypothetical assumptions described above occur, actual results are still likely to be different from the projection since other anticipated events frequently do not occur as expected and the variation may be material.”