Auditing accounting estimates

Accounting Estimates


Common accounting estimates include:
  • inventory valuations (net realisable value; need for impairments)
  • depreciation method and useful life
  • all provisions and contingent liabilities
  • irrecoverable debts and allowances for receivables
  • tangible asset valuations where revaluations have occurred

The problem with estimates

Accounting estimates are of particular concern to the auditor as, by their nature, there may not be any physical evidence to support them and they are prone to inaccuracy. They are also subjective and therefore prone to management bias. If the directors wished to manipulate the accounts in any way, accounting estimates are an easy way for them to do this. The auditor must take care when auditing estimates to ensure this has not been the case.

Procedures for auditing estimates

In accordance with ISA 540 Auditing Accounting Estimates auditors need to obtain an understanding of:

  • How management identifies those transactions, events and conditions that give rise to the need for estimates; and
  • How management actually makes the estimates, including the control procedures in place to minimise the risk of misstatement.

ISA 540 also requires the auditor to:

  • Evaluate the degree of uncertainty associated with an accounting estimate; and
  • Consider if estimates with a high degree of uncertainty give rise to significant risks.

In response to this assessment auditors should perform the following further procedures:

  • Review of the outcome of the estimates made in the prior period (or their subsequent re-estimation);
  • Consider events after the reporting date that provide additional evidence about estimates made at the year-end;
  • Test the basis and data upon which management made the estimate (e.g. review mathematical methods);
  • Test the operating effectiveness of controls over how estimates are made;
  • Develop an independent estimate to use as a point of comparison; and
  • Consider whether specialist skills/knowledge are required (e.g. lawyer).
Created at 10/4/2012 8:36 AM  by System Account  (GMT) Greenwich Mean Time : Dublin, Edinburgh, Lisbon, London
Last modified at 11/2/2016 10:44 AM  by System Account  (GMT) Greenwich Mean Time : Dublin, Edinburgh, Lisbon, London

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