A first-year audit of financial statements entails increased complexity and scope of work for the auditor. This applies both to companies audited by a different auditor in the previous period and to those subject to a statutory audit for the first time.
In the absence of prior audit documentation, it is essential for the auditor to obtain and verify the accuracy of opening balances and to gain a thorough understanding of the client’s business environment. Active communication and cooperation between the auditor and the client are key to ensuring a smooth audit process.
Unlike a continuing engagement, the auditor gathers additional information from various sources, including management and other authorized persons, to obtain a comprehensive understanding of the company’s operations. The auditor assesses whether there were any material misstatements or non-compliance with accounting regulations in the previous period, focusing on the accuracy and completeness of accounting records at the beginning of the period and the consistency of accounting principles.
The auditor’s responsibilities in the first year of engagement are set out in International Standard on Auditing (ISA) 510, which focuses on verifying opening balances and the completeness of data from prior periods to ensure that the financial statements present a true and fair view of the company’s opening financial position.
The company was audited by a different auditor in the previous year
If the financial statements of the prior period were audited by another auditor, the current auditor should obtain sufficient and appropriate audit evidence relating to the opening balances by reviewing the predecessor auditor’s working papers. Whether such a review provides adequate evidence depends on the competence and independence of the previous auditor.
The current auditor communicates with the predecessor auditor in accordance with relevant ethical and professional requirements. The client should provide written consent releasing the former auditor from confidentiality and requesting the necessary information regarding the previous year’s audit. This obligation arises from the Auditors Act and the Code of Ethics.
The time devoted to communication with the predecessor auditor, verification of opening balances, and other first-year audit activities is reflected in the audit fee for the first year. Complications may arise if the incoming auditor determines that additional audit procedures are necessary based on the assessment of the predecessor’s work. The auditor discusses such issues openly with the client.
If the prior-year audit report included a modified opinion, the auditor is required—under ISA 315—to assess the impact of the matter leading to the modification on the current-year financial statements when evaluating the risk of material misstatement.
The auditor was unable to verify opening balances
If the auditor cannot obtain sufficient and appropriate audit evidence regarding the opening balances, this may result in a modified opinion in the auditor’s report—either a qualified opinion or a disclaimer of opinion, depending on the extent of the limitation, in accordance with ISA 705.
This situation typically arises when the auditor did not observe the physical inventory count at the beginning of the year and cannot obtain adequate evidence about opening inventory balances. If inventory is material but does not have a pervasive impact on financial performance or cash flows, a qualified opinion may be appropriate.
If the auditor determines that the opening balances contain misstatements that materially affect the current-year financial statements and these misstatements have not been properly adjusted, presented, or disclosed, the auditor must issue a qualified or adverse opinion in accordance with ISA 705.
The auditor was able to verify opening balances
If the auditor is satisfied that the financial statements fairly present both opening and closing balances, an unmodified opinion is issued.
The auditor’s report will also include an “Other Matter” paragraph indicating that the prior-year financial statements were audited by another auditor, specifying the type of opinion issued, any modifications, and the date of that auditor’s report, or noting that the company is subject to a statutory audit for the first time.
