During an audit, the auditor will identify, assess and address any audit and accounting issue or control deficiencies, but all this audit work needs to be summarised and communicated to important internal audit executives or key management personnel as well as those charged with governance.
That is why the auditor will then further classify certain audit and accounting issues or control deficiencies as key issues and put them in the Key Issue Memorandum. A Key Issue Memorandum is usually used internally by the auditor or when communicating with management and those charged with governance, such as the audit committee.
Content of the Key Issue Memorandum
Key Issue Memorandum may contain as many matters as the auditor may wish to include since there is no one fixed format. However, it will generally contain a list of key audit and accounting issues, control deficiencies identified, and other significant events or transactions that may significantly impact the financial statements.
Key audit and accounting issues are the most common items to be included as the auditor will very often come across such issues during an audit. Key audit and accounting issues may span across a wide range of issues such as misstatements due to either fraud or error, wrong application of accounting standards, or inappropriate accounting estimates made by the management.
For example, the management may have been over-optimistic in determining the recoverable amount of certain assets as part of their impairment assessment using a forecast or a projection.
The auditor then plans appropriate audit procedures to assess the reasonableness of the forecast or projection, such as discussing with management to understand how the numbers within are derived.
The procedures may end up requiring the management to make revisions to the forecast and a certain audit adjustment being made. After that, this entire process will be summarised and included in the Key Issue Memorandum.
Control deficiency is also one of the issues that can be included in the Key Issue Memorandum. This is because control deficiency will have an impact on the overall audit strategy.
If there is a control deficiency, the auditor may not be able to place much reliance on the information generated under control. This may ultimately increase the audit work to be performed and translate to a higher risk of material misstatement in the financial statements as the affected account balances are now more prone to error.
For example, the auditor identifies a control deficiency in the company’s bank reconciliation process. The auditor may alter his audit strategy to place less or no reliance on the control relevant to the bank reconciliation process and increase the audit work performed.
The result could be that the auditor identifies multiple errors in the cash balances. The auditor then summarises this identified issue in the Key Issue Memorandum by highlighting the control deficiency and the resulting misstatement. The auditor may include a brief improvement point to the management as well.
Some significant events or transactions may also be part of the Key Issue Memorandum even when they are not exactly an issue, i.e., do not lead to a misstatement in the financial statements.
This is because such events or transactions could be the focus of the auditor of the management and those charged with governance. It could also be that the auditor has allocated significant resources to audit such events or transactions.
An example of such events or transactions could be an acquisition of a new subsidiary which contributes significantly to the financial performance and results of the company.
The auditor and management or those charged with governance are most likely going to pay a high level of attention to the accounting treatment of this acquisition and ensure that the consolidation is performed appropriately.
As a result, the auditor is likely to include this as an issue in the Key Issue Memorandum, explaining the details of the acquisition, appropriateness of the accounting treatment, its financial effect, and the audit procedures performed.
When is the Key Issue Memorandum used?
The Key Issue Memorandum is used either internally by the auditor or for external communication with the company’s management or those charged with governance. The format and presentation may vary depending on the circumstances, but there will always be a list summarising all the key issues identified by the auditor.
Do take note that the Key Issue Memorandum is not limited to just those parties we mentioned above. It could be for any parties of which the auditor intends to communicate with those identified issues depending on the scope of the engagement.
For internal purposes, the Key Issue Memorandum is used when the audit is near completion. The audit team will make a list of audit and accounting issues identified throughout the audit and discuss them with the audit executives, such as the audit partner.
The audit team and the audit executive will conclude if the procedures performed adequately addressed the issues and if sufficient appropriate audit evidence has been obtained to form a conclusion.
For external purposes, the auditor will often hold formal discussions with key management personnel or those charged with governance to discuss issues identified during an audit. To ease discussion, the auditor will normally prepare a set of key information regarding the audit, including the Key Issue Memorandum.
This provides an avenue for the auditor to raise the awareness of management and those charged with governance that such issues are present in the company. It also provides an opportunity for the auditor to obtain further information, resolve the issues and identify ways the management or those charged with governance can address the issues.
The Key Issue Memorandum consists of other information regarding the audit and a summary of issues identified during the audit. It can also include the audit procedures performed, how the issues were resolved, and improvement points to the management.
Key Issue Memorandum truly enhances the quality of an audit as issues can be communicated to the intended parties more efficiently.