Assurance

Definition

"An engagement in which a practitioner expresses a conclusion designed to enhance the degree of confidence of the intended users about the outcome of the evaluation or measurement of a subject matter against criteria."

In simple terms, giving assurance means: offering an opinion about specific information so the users of that information are able to make confident decisions knowing that the risk of the information being 'incorrect' is reduced.

The elements of an assurance engagement

There are 5 elements of an assurance engagement:

(i)the three parties involved:

• the practitioner (i.e. the reviewer of the information);
• the intended users (of the information); and
• the responsible party (i.e. the preparer of the information).

(ii) the subject matter under scrutiny;

(iii)suitable criteria against which to judge the reliability and accuracy of the subject matter (e.g. IFRS);

(iv)sufficient appropriate evidence to substantiate an opinion; and

(v) a written report in an appropriate form.

Examples of assurance services

• an audit of financial statements
• a review of financial statements
• risk assessment reports
• systems reliability reports
• reports on social and environmental issues (e.g. to validate an employer's claims about being an equal opportunities employer or a company's claims about sustainable sourcing of materials)
• reviews of internal controls
• value for money audit in public sector organisations.

Types of assurance engagement

The IAASB International Framework for Assurance Engagements permits two types of assurance engagement:

• reasonable, and    
• limited.

Reasonable assurance engagements

In a reasonable assurance engagement, the practitioner:

• Gathers sufficient appropriate evidence to be able to draw reasonable conclusions;
• Concludes that the subject matter conforms in all material respects with identified suitable criteria; and
• Gives a positively worded assurance opinion.

 Illustration of a positively worded assurance opinion

"In our opinion, the financial statements present fairly, in all material respects (or give a true and fair view of) the financial position of ABC Company as at December 31 20X1, and (of) its financial performance and its cash flows for the year then ended in accordance with International Financial Reporting Standards."

Statutory audit is an example of a reasonable assurance assignment. The approach to these assignments must be consistent with local legislative requirements, such as the Companies Act in the UK, and audit work will need to be carried out in accordance with International Standards on Auditing (ISAs).

Limited assurance engagement

In a limited assurance assignment the practitioner:

• Gathers sufficient appropriate evidence to be able to draw limited conclusions;
• Concludes that the subject matter, with respect to identified suitable criteria, is plausible in the circumstances; and
• Gives a negatively worded assurance opinion.

 Illustration of a negatively worded assurance opinion

"Nothing has come to our attention that causes us to believe that the financial statements as of 31 December 20X1 are not prepared, in all material respects, in accordance with an applicable financial reporting framework."

An example of a limited assurance assignment is a review engagement. It is possible for small companies, who are not legally required to have a full audit, to have a review of their financial statements to enable them to present their accounts to potential lenders.

There is no precise definition of what is meant by reasonable or limited in this context. However, it is clear that the confidence inspired by a reasonable assurance report is designed to be greater than that inspired by a limited one.

It therefore follows that:

• there are more regulations/standards governing a reasonable assurance assignment;
• the procedures carried out in a reasonable assurance assignment will be more thorough; and
• the evidence gathered in a reasonable assurance assignment will need to be of a higher quality.

Review Engagements

The objective of a review of financial statements is to enable an auditor to state whether, on the basis of procedures which do not provide all the evidence required in an audit, anything has come to the auditor's attention that causes the auditor to believe that the financial statements are not prepared in accordance with the applicable financial reporting framework (ie negative/limited assurance).

Guidance on how to perform this type of assignment is given by the IAASB in International Standard on Review Engagements (ISRE) 2400, Engagements to Review Financial Statements.

Characteristics

Review engagements will be carried out using much more limited procedures than a statutory audit. Typically the following procedures are used:

• analytical review; and
• enquiry

The Expectations Gap

The greatest level of assurance auditors can provide is reasonable. The limitations of an audit mean that it is not possible to provide 'absolute' assurance. These limitations include:

• Financial information includes subjective and judgemental matters.
• Inherent limitations of controls used as audit evidence.
• Representations from management may have to be relied upon as the only source of evidence in some areas.
• Evidence is often persuasive not conclusive; and auditors
• Do not review 100% of the transactions and balances, they test on a sample basis.

Some users incorrectly believe that an audit does provide absolute assurance; that the audit opinion is a guarantee the financial statements are 'correct'. This and other misconceptions about the role an auditor plays are often referred to as the 'Expectations Gap.' Other examples of these misconceptions include:

• a belief that auditors test 100% of transactions and balances: they test on a sample basis;
• a belief that auditors are required to detect fraud; auditors are required to offer an opinion that the financial statements are free from material misstatement, which may be caused by fraud;
• auditors are responsible for preparing the financial statements; this is the responsibility of management.

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