Scope and objectives
A Standard on Assurance Engagement (SAE) that provides guidance for auditors who are engaged to examine and report on prospective financial information. This type of information is based on assumptions about future events and possible actions by an entity and can take the form of a forecast, projection, or combination of both.
The SAE 3400 establishes examination procedures for best-estimate and hypothetical assumptions, ensuring that management’s assumptions are not unreasonable, and that the information is properly prepared and presented, including adequate disclosure of material assumptions. The SAE 3400 also requires the use of appropriate accounting principles and consistency with historical financial statements.
Prospective financial information may be used for internal management purposes or distributed to third parties, such as potential investors, shareholders, regulatory bodies, or lenders. Management is responsible for preparing and presenting the information, including identifying and disclosing sources of information, basis of forecasts, and underlying assumptions. Auditors may be asked to examine and report on the information to enhance its credibility, whether it is intended for use by third parties or for internal purposes.
The Auditor’s Assurance Regarding Prospective Financial Information
The limitations of an auditor’s ability to provide assurance regarding prospective financial information. Prospective financial information is based on assumptions about future events and actions, which are inherently uncertain and speculative. As a result, the evidence available to support these assumptions is also future-oriented and cannot be verified with the same degree of certainty as historical financial information.
Given these limitations, the auditor cannot express an opinion on whether the results shown in the prospective financial information will be achieved. Instead, the auditor provides a moderate level of assurance on the reasonableness of management’s assumptions. This means that the auditor provides limited assurance that the assumptions are not unreasonable and that they are consistent with the purpose of the information. The auditor also examines whether the prospective financial information is properly prepared and presented, and whether all material assumptions are adequately disclosed.
Acceptance of Engagement
SAE 3400 provides guidance to auditors when they are engaged to examine prospective financial information. This type of information is related to events and actions that have not yet occurred and may or may not happen. The auditor is not in a position to express an opinion on whether the results shown in the prospective financial information will be achieved.
Before accepting an engagement to examine prospective financial information, the auditor must consider several factors, including the intended use of the information, whether the information will be for general or limited distribution, the nature of the assumptions, the elements to be included in the information, and the period covered by the information.
The auditor should not accept or withdraw from an engagement if the assumptions are clearly unrealistic or if the auditor believes that the prospective financial information will be inappropriate for its intended use. The auditor and the client should agree on the terms of the engagement, and an engagement letter should be sent to avoid misunderstandings regarding the engagement. The engagement letter would address the matters mentioned in paragraph 10 and set out the management’s responsibilities for the assumptions and for providing the auditor with all relevant information and source data used in developing the assumptions.
Knowledge of the Business
SAE 3400 provides guidance to auditors on how to conduct an examination of prospective financial information. It emphasizes the importance of obtaining a sufficient level of knowledge of the business to be able to evaluate whether all significant assumptions required for the preparation of the prospective financial information have been identified.
To achieve this, the auditor must become familiar with the entity’s process for preparing prospective financial information. This may include evaluating the internal controls over the system used to prepare prospective financial information, the expertise and experience of those people preparing the prospective financial information, the nature of the documentation prepared by the entity supporting management’s assumptions, the extent to which statistical, mathematical, and computer-assisted techniques are used, and the methods used to develop and apply assumptions.
The auditor must also consider the extent to which reliance on the entity’s historical financial information is justified. The auditor requires knowledge of the entity’s historical financial information to assess whether the prospective financial information has been prepared on a basis consistent with the historical financial information and to provide a historical yardstick for considering management’s assumptions. If the audit or review report on prior period historical financial information was other than a clean report, or if the entity is in a start-up/expansion phase, the auditor would consider the relevant facts and the effect on the examination of the prospective financial information.
Period Covered
The factors that the auditor should consider when evaluating the period covered by the prospective financial information.
The auditor should assess the length of the period covered by the information, as assumptions tend to become more speculative as the length of the period increases. The period covered should not extend beyond the time for which management has a reasonable basis for the assumptions.
The auditor should consider factors such as the operating cycle of the entity, the degree of reliability of the assumptions, and the needs of the users of the information. For example, the period covered may be dictated by the time required to complete a major construction project or to generate sufficient funds for loan repayment.
Overall, the auditor should use their professional judgment to assess the reasonableness of the period covered by the prospective financial information.
Examination Procedures
The examination procedures that an auditor should follow when examining prospective financial information (PFI). The auditor should consider a number of factors when determining the nature, timing, and extent of examination procedures, including their knowledge obtained from previous engagements, management’s competence regarding the preparation of PFI, the likelihood of material misstatement, and the sources of information considered by management to support their assumptions.
The auditor should assess the reliability of the evidence supporting management’s assumptions, obtained from both internal and external sources, and consider whether all significant implications of hypothetical assumptions have been taken into consideration. The auditor should also check that the assumptions are consistent with the purpose of the PFI and that there is no reason to believe they are clearly unrealistic.
The auditor should focus on areas that are particularly sensitive to variation and consider the extent to which procedures need to be applied to the historical information when any elapsed portion of the current period is included in the PFI. The auditor should obtain written representations from management regarding the intended use of the PFI, the completeness of significant management assumptions, and management’s acceptance of its responsibility for the PFI.
When engaged to examine one or more elements of PFI, the auditor should also consider the interrelationship of other components in the financial statements. Overall, the auditor should conduct a thorough examination of the PFI to ensure that it is properly prepared from management’s assumptions and to evaluate its appropriateness and adequacy of disclosure.
Presentation and Disclosure
The considerations that the auditor should keep in mind when assessing the presentation and disclosure of the prospective financial information and the underlying assumptions. The auditor should ensure that the presentation of the prospective financial information is informative and not misleading. This includes checking whether the accounting policies are clearly disclosed in the notes to the prospective financial information and whether the assumptions are adequately disclosed in the notes.
In particular, the auditor should ensure that the assumptions are clearly identified as either management’s best-estimates or hypothetical, and that any material assumptions subject to a high degree of uncertainty are adequately disclosed, including the uncertainty and the resulting sensitivity of the results.
The auditor should also ensure that the date as of which the prospective financial information was prepared is disclosed, and that management has confirmed that the assumptions are appropriate as of this date, even if the underlying information may have accumulated over a period. If results are expressed in terms of a range, the basis of establishing points in the range must be clearly indicated, and the range must not be selected in a biased or misleading manner.
Finally, the auditor should check if there is any change in the accounting policy of the entity from that disclosed in the most recent historical financial statements, and if so, whether the reason for the change and the effect of such change on the prospective financial information have been adequately disclosed.
Documentation
The auditor should document matters that are important to support their report on the examination of the prospective financial information. This means that they need to keep detailed records of the evidence that they have gathered to support their conclusions, and to provide a clear and transparent audit trail of their work.
The auditor must document the sources of information that were used in the examination, the basis of the forecasts, and the assumptions that were made in arriving at those forecasts. This is important because it helps to provide a clear understanding of the information that was used and the methods that were employed.
The auditor must document any hypothetical assumptions that were made and the evidence that supports those assumptions. Hypothetical assumptions are those that are not based on actual data, and therefore require additional documentation to support their validity.
The auditor must document any management representations regarding the intended use and distribution of the information. This means that they need to keep a record of any discussions they had with management about how the information would be used and who would have access to it.
The auditor must document the completeness of material assumptions, meaning they should ensure that all relevant assumptions have been identified and evaluated.
The auditor must document management’s acceptance of its responsibility for the information, indicating that management has acknowledged that the information is their responsibility and they have taken steps to ensure its accuracy.
The auditor must document the audit plan, which outlines the procedures to be performed during the examination.
The auditor must document the nature, timing, and extent of the examination procedures performed. This means that they need to keep detailed records of all the procedures that were carried out, including the dates and times they were performed, the evidence that was gathered, and any conclusions that were reached.
If the auditor expresses a modified opinion or withdraws from the engagement, they must document the reasons for their decision. This is important because it provides transparency and accountability for their actions and helps to ensure that the examination is conducted in accordance with the required standards.
Report on Examination of Prospective Financial Information
The requirements for a report on the examination of prospective financial information by an auditor. The report must contain certain elements, including a title, addressee, identification of the financial information being examined, a reference to applicable auditing standards, a statement that management is responsible for the information, and a statement that the examination included a test of the assumptions, amounts, and disclosures in the forecast or projection.
The report must also include a statement of negative assurance regarding whether the assumptions provide a reasonable basis for the financial information, and an opinion on whether the information is properly prepared and presented in accordance with relevant financial reporting frameworks. Additionally, the report should contain appropriate caveats concerning the achievability of the results indicated by the prospective financial information.
SAE 3400 also provides examples of unmodified reports on a projection and a forecast. These examples illustrate how the various elements required in the report should be presented.
It provides guidance for auditors on the requirements for reporting on the examination of prospective financial information. The report should include specific elements, and appropriate caveats must be included to caution readers about the uncertainties inherent in projecting future financial performance.
Compatibility with International Standard on Assurance Engagement
The compatibility of the Standard on Assurance Engagement (SAE) 3400 with the International Standard on Assurance Engagement (ISAE) 3400, which deals with the examination of prospective financial information. The text notes that, except for some minor differences, the basic principles, and essential procedures of SAE and ISAE 3400 are generally consistent.
The differences between SAE and ISAE 3400 include.
(a) SAE 3400 precludes the auditor from expressing positive assurance regarding the assumptions made in the prospective financial information, while ISAE 3400 permits this if an appropriate level of satisfaction has been obtained.
(b) The sub-points in of SAE 3400 have been rearranged and additional factors to be considered by the auditor have been added.
(c) A phrase in of SAE has been deleted as it was felt to be inconsistent with the need for the auditor to obtain evidence to support their conclusions.
(d) The term “professional standards” of SAE has been changed to “professional pronouncements” to include other relevant documents.
(e) SAE 3400 requires a scope section to be included in the examination report, while ISAE 3400 does not contain an equivalent requirement.
(f) SAE 3400 specifically requires documentation by the auditor regarding any engagement of examination of prospective financial information, while ISAE 3400 does not contain such an explicit provision.
Overall, the suggests that while there are some minor differences between the two standards, the basic principles and procedures are largely consistent.
Quiz: The Examination of Prospective Financial Information
1. What does SAE 3400 provide guidance on?
a) Auditing historical financial statements
b) The examination of prospective financial information
c) Internal control evaluation
d) Risk assessment procedures
Answer: b)
2. What forms can prospective financial information take?
a) Forecast only
b) Projection only
c) Combination of forecast and projection
d) None of the above
Answer: c)
3. What level of assurance does the auditor provide regarding the results shown in the prospective financial information?
a) High level of assurance
b) Moderate level of assurance
c) Low level of assurance
d) No assurance
Answer: b)
4. What are the factors that the auditor should consider before accepting an engagement to examine prospective financial information?
a) Nature of assumptions and elements to be included
b) Intended use and period covered by the information
c) Distribution of the information
d) All of the above
Answer: d)
5. What does the auditor need to assess regarding the period covered by the prospective financial information?
a) Length of the period
b) Reliability of assumptions
c) Users’ needs
d) All of the above
Answer: d)
6. What are the examination procedures that the auditor should follow when examining prospective financial information?
a) Assessing the reliability of evidence
b) Checking consistency with the purpose of the information
c) Assessing the sensitivity of assumptions
d) All of the above
Answer: d)
7. What should the auditor ensure when assessing the presentation and disclosure of the prospective financial information?
a) Adequate disclosure of material assumptions
b) Clear identification of best-estimate and hypothetical assumptions
c) Disclosure of the date as of which the information was prepared
d) All of the above
Answer: d)
8. Why is documentation important in the examination of prospective financial information?
a) It provides transparency and accountability for the auditor’s work
b) It supports the conclusions and provides an audit trail
c) It ensures compliance with professional standards
d) All of the above
Answer: d)
9. What elements should be included in a report on the examination of prospective financial information?
a) Title, addressee, and identification of the information being examined
b) Statement of management’s responsibility
c) Opinion on the reasonableness of assumptions
d) All of the above
Answer: d)
10. How does SAE 3400 compare to ISAE 3400?
a) They are completely different standards with no similarities
b) SAE 3400 provides positive assurance on assumptions, while ISAE 3400 does not
c) The basic principles and procedures are largely consistent, with minor differences
d) SAE 3400 requires more extensive documentation than ISAE 3400
Answer: c)
Additional questions:
11. What is the purpose of examining prospective financial information?
a) To express an opinion on the achievability of the results
b) To provide assurance on the reasonableness of management’s assumptions
c) To verify the accuracy of historical financial information
d) To assess the internal controls of the entity
Answer: b)
12. Who is responsible for preparing and presenting the prospective financial information?
a) Auditors
b) Regulatory bodies
c) Potential investors
d) Management
Answer: d)
13. What are the limitations of an auditor’s ability to provide assurance regarding prospective financial information?
a) Limited access to future-oriented evidence
b) Inability to express an opinion on achievability of results
c) Uncertainty and speculation inherent in assumptions
d) All of the above
Answer: d)
14. What factors should the auditor consider when evaluating the assumptions made in the prospective financial information?
a) Reliability of internal controls
b) Degree of uncertainty associated with assumptions
c) Competence of management in preparing the information
d) All of the above
Answer: d)
15. Why is knowledge of the entity’s historical financial information important in examining prospective financial information?
a) To assess the consistency of assumptions with historical data
b) To determine the period covered by the information
c) To evaluate the internal controls over the information preparation process
d) To identify potential misstatements in the information
Answer: a)
16. What are some of the examination procedures that an auditor should perform when examining prospective financial information?
a) Testing the reliability of assumptions
b) Evaluating the sufficiency of supporting evidence
c) Assessing the appropriateness of accounting principles used
d) All of the above
Answer: d)
17. What should the auditor ensure regarding the presentation and disclosure of the prospective financial information?
a) Adequate disclosure of material assumptions
b) Clear identification of management’s responsibility for the information
c) Proper documentation of the sources of information used
d) All of the above
Answer: d)
18. Why is the period covered by the prospective financial information important?
a) It determines the length of the engagement period for the auditor
b) It affects the level of assurance provided by the auditor
c) It influences the degree of uncertainty associated with the assumptions
d) It determines the distribution channels for the information
Answer: c)
19. What should the auditor document to support their report on the examination of prospective financial information?
a) Evidence gathered to support conclusions
b) Management’s representations regarding the information’s use and distribution
c) Assessment of the reliability of assumptions
d) All of the above
Answer: d)
20. What elements should be included in the report on the examination of prospective financial information?
a) Identification of the financial information being examined
b) Opinion on the achievability of the results indicated by the information
c) Statement of negative assurance on the reasonableness of assumptions
d) All of the above
Answer: d)
Statement on Auditing Standards – SA 210
Statement on Auditing Standards – SA 220
Statement on Auditing Standards – SA 230
Statement on Auditing Standards – SA 240
Statement on Auditing Standards – SA 250
Statement on Auditing Standards – SA 260
Statement on Auditing Standards – SA 265
Statement on Auditing Standards – SA 299
Statement on Auditing Standards – SA 300
Statement on Auditing Standards – SA 315
Statement on Auditing Standards – SA 320
Statement on Auditing Standards – SA 330
Statement on Auditing Standards – SA 402
Statement on Auditing Standards – SA 450
Statement On Auditing Standards – SA 500
Statement on Auditing Standards – SA 501
Statement on Auditing Standards – SA 505
Statement on Auditing Standards – SA 510
Statement on Auditing Standards – SA 520
Statement on Auditing Standards – SA 530
Statement on Auditing Standards – SA 540
Statement on Auditing Standards – SA 560
Statement on Auditing Standards – SA 570
Statement on Auditing Standards – SA 580
Statement on Auditing Standards – SA 600
Statement on Auditing Standards – SA 610
Statement on Auditing Standards – SA 620
Statement on Auditing Standards – SA 700
Statement on Auditing Standards – SA 701
Statement on Auditing Standards – SA 705
Statement on Auditing Standards – SA 706
Statement on Auditing Standards – SA 710
Statement on Auditing Standards – SA 720
Statement on Auditing Standards – SA 800
Statement on Auditing Standards – SA 805
Statement on Auditing Standards – SA 810
Statement on Auditing Standards – SAE 3400
Statement on Auditing Standards – SAE 3402
Statement on Auditing Standards – SRE 2400
Statement on Auditing Standards – SRE 2410
Statement on Auditing Standards – SRS 4400
Statement on Auditing Standards – SRS 4410
