Message from the Chair of the Auditing and Assurance Standards Board Regarding Auditing in Emerging Markets

Excerpted from the Chair’s Message on Auditing in Emerging Markets

Significant concerns have been expressed about the quality of financial reporting of some companies with operations in an emerging market country and the audits of these companies’ financial statements.1 An emerging market country is characterized as a country that currently has relatively lower levels of gross domestic product per capita but relatively higher levels of economic growth and volatility. Capital markets within emerging market countries may not be well developed or have a long operating history. As a result, the business environment and customs in these markets, and the risks of fraud, may be different from those with which a Canadian auditor is familiar. Auditors of public and private companies operating in an emerging market country should consider what additional or modified procedures might be necessary or advisable to help ensure that, in all cases, a high-quality audit is performed.

The Chair's message covers three important aspects of these audits and reflects guidance in the relevant Canadian Auditing Standards (CASs):

1. Assigning competent and capable group engagement team members and component auditors;

Significant factors that may affect how the group engagement team plans and performs the audit of a company operating in an emerging market country include:

• the ability to communicate effectively in the language used by the company in the emerging market country;

• a working knowledge of the business environment in which the company operates in the emerging market country, for example, obtained by work experience in the relevant country; and

• availability to travel to and within the emerging market country to conduct the audit.

While there are different ways to address these factors, ultimately the group engagement team needs to be involved in the work of the component auditors to the extent necessary to obtain sufficient appropriate audit evidence.

2. Obtaining sufficient knowledge of the company’s business practices and environment; and

Auditing standards require the auditors to obtain knowledge of the company being audited, its business practices, the environment in which it operates and relevant local laws and regulations.

It is important to note that, in many cases, emerging market business customs and practices may differ significantly from those followed by companies in Canada.

Some companies operating in an emerging market country may have turned to the Canadian capital market for financing because they were unable to get domestic financing or they want the prestige of being a public company listed on a Canadian stock exchange. As with most public companies, there will be pressure to meet market expectations, but companies from an emerging market country may not have the same experience with Canadian standards for corporate governance, ethics and disclosure requirements. Management of some companies may be tempted to respond to the high expectations by using aggressive or even fraudulent financial reporting.

3. Using this knowledge to plan and perform effective audit procedures.

Modified or additional procedures may be needed in auditing the emerging market operations to provide the auditors with an appropriate basis for their opinion.

Auditing standards require auditors to plan and perform an audit with professional skepticism, which is an attitude that includes a questioning mind, being alert to conditions that may indicate possible misstatement due to fraud or error, and a critical assessment of evidence. Recent concerns expressed by both auditing and securities regulators suggest that, for some companies operating in emerging market countries, there are numerous indicators of a high risk of misstatement due to fraud or error to which the auditors must appropriately respond. Auditors may need to modify the standard procedures they apply in an emerging market country as compared to Canada.

1. considering the impact of economic conditions on the audit;
2. auditing fair value measurements and estimates;
3. the auditor's consideration of a company's ability to continue as a going concern; and,
4. auditing financial statement disclosures.

1. a foreign government registering its debt securities;
2. a foreign private issuer that is listed or is concurrently listing its securities on a non-U.S. securities exchange;
3. a foreign private issuer that is being privatized by a foreign government; or
4. a foreign private issuer that can demonstrate that the public filing of an initial registration statement would conflict with the law of an applicable foreign jurisdiction.