On October 23, 2017, the SEC approved Auditing Standard (AS) 3101, The Auditor’s Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion. This standard requires some of the most significant changes to the auditor’s report in more than 70 years. The PCAOB’s standard enhanced the auditor’s report beyond the traditional pass/fail model to an expanded report that includes Critical Audit Matters (CAM), auditor tenure, and other information related to the audit engagement.One of the most significant changes in this new standard is the CAM disclosure requirement. The PCAOB stated that CAMs are intended to “provide audit-specific information that is meaningful to investors and other financial statement users about matters that required especially challenging, subjective, or complex auditor judgment.” CAMs are material matters that arise from a financial statement audit that are either “communicated or required to be communicated to the audit committee.” AS 3101 also requires that the auditor’s report include auditor tenure, as defined by the year “in which the auditor began serving consecutively as the company’s auditor”; adds a statement of independence; changes the format and wording of the auditor’s report; and requires the auditor’s report be addressed to the shareholders and board of directors (or the equivalent for non-corporations) of the audited company.

Around the same time AS 3101 was being deliberated in the United States, several other countries and jurisdictions adopted similar standards. The International Auditing and Assurance Standards Board (IAASB) issued the International Standard on Auditing (ISA) 701, Communicating Key Audit Matters in the Independent Auditor’s Report, in January 2015, and it became effective in December 2016. It requires auditors to communicate key audit matters (KAM), which are considered the most significant matters communicated to governance committees. Although there are many similarities between the IAASB and PCAOB standards, ISA 701 gives auditors a judgment-based decision-making framework to decide which matters are KAMs.

Although feedback on the implementation of AS 3101 remains relatively limited at this point, CPAs can glean insights from the experience in other countries. This article summarizes the lessons learned from the implementation of KAM standards in other countries over the past three years. The best practices identified from these other jurisdictions can be helpful for U.S. auditors.

European Union

The European Union (EU) began requiring KAMs under ISA 701 for fiscal years ending on or after December 15, 2016. Audit Analytics (AA) reviewed 2,300 audit opinions of 1,201 companies in the EU under the new standard. The opinions were spread out over the course of three fiscal year-ends to improve the representativeness of the sample. The following are the key findings from the sample of EU audit opinions:

  • The number of KAMs has decreased each year over the three-year period: on average, there were 3.1 KAMs per opinion in 2016, 3.0 in 2017, and 2.7 in 2018. This might be attributable to increased auditor experience and stakeholder familiarity with the new auditor’s report.
  • The Big Four had a slightly higher average number of KAMs per opinion (3.0) than other firms (2.7).
  • More than half of the KAMs are related to three topics: 20% of the KAMs were related to asset impairment and recoverability, 16% were related to revenue and other income, and 11% were related to the valuation of investments, including fair value.

Exhibit 1 breaks down the topics by industry based on 2017 audits for additional insights.

Exhibit 1

EU KAM Topic Rankings, Broken Down by Industry

Industry; Valuation of Investments; Revenue & Other Income; Asset Impairment & Recoverability; Income Taxes; Inventory Finance, Insurance, Real Estate; 1; 2; 3 Manufacturing; 2; 1; 3 Retail Trade; 3; 2; 1 Services; 2; 1; 3 Wholesale Trade; 3#; 1*; 3#; 1* Note: *or # represents a tie. EU=European Union KAM=Key Audit Matters

United Kingdom

The United Kingdom passed ISA 700 in 2013. In March 2015, the Financial Reporting Council (FRC) of the United Kingdom released a first-year review of the implementation of the new standard. The review was conducted in 2014; the FRC used a sample of 153 audit reports. Most companies sampled were among the top 100 U.K. firms by value and audited by the Big Four. The following are the key findings from this sample:

  • There was innovation on disclosures, such as materiality benchmark disclosures, greater detail regarding audit findings for identified risks, and generally better going concern disclosures.
  • The three most frequently reported risks were, in order, the impairment of assets, taxes, and goodwill impairment.
  • Risk reporting should be more granular, and auditors should provide more information about how materiality was determined.
  • Auditors should provide clearer explanations with regards to how the scope of an audit is affected by the auditor’s materiality judgements and risk assessments.

The FRC published its follow-up review in January 2016. For this second-year review, the FRC expanded its sample to 278 auditor reports. The reports again came from the audits of the highest valued companies and constituted nearly 80% of U.K. auditors’ reports for the largest public companies in 2016. The following are the key findings from this second-year review:

  • Audit firms continued to make innovations in auditor’s reports and retained past innovations in the second year. Audit firms, however, had slowed down their pace of innovation.
  • The FRC also noted that second-year risk descriptions had become more “granular” compared with the first. They also became more entity-specific.
  • Investors preferred the language in auditor’s reports to be as concise as possible.
  • Many investors preferred if auditors could disclose and explain any changes in audit strategies and approaches. Some were not satisfied with the lack of explanations about materiality thresholds or audit risks that change from year to year.


The Malaysian Institute of Accountants (MIA) adopted the enhanced auditor’s report (EAR) standard under ISA 701, effective starting on December 15, 2016. The MIA, the Malaysia Securities Commission Audit Oversight Board (AOB), and the Association of Chartered Certified Accountants (ACCA) sampled 190 publicly traded companies to examine the impact of the new standards after the first year of implementation. They also conducted online surveys and focus group discussions attended by audit committee members and investors.

Overall, the MIA study found that KAM disclosure has improved the quality of communication by auditors and the quality and transparency of disclosures related to the corresponding matters in the financial statements.

More than 85% of audit committee members agreed that more robust discussions with management and auditors about the KAM issues helped them gain deeper insight into financial reporting risks and enhanced their understanding of audit procedures performed. This strengthened their role as independent directors ensuring accountability on behalf of investors.

The following are the key findings of the MIA report:

  • A majority of investors found that KAMs helped them obtain “more insight into the financial reporting risks of the companies” (67%) and reduced information asymmetries.
  • Most audit committee members witnessed an increase in audit partner involvement (68%); a high proportion (84%) considered this increase sufficient for strengthening the audit process.
  • Nearly two-thirds of audit committee members indicated that management made efforts to improve disclosures (64%) and other elements (59%) in the financial statements following discussions of the KAMs.
  • The vast majority of investors (86%) reported that the EAR rules improved the relevance and value of the auditors’ report.
  • The average number of KAMs per auditor’s report was 2.09.

Auditors and audit committees should help investors and management understand that the number of KAMs included in an auditors’ report can be indicative of firm-level complexity and auditor judgment, instead of the quality of a company’s governance and financial reporting. The following were given as good examples of KAM disclosures:

  • Described the issues in the KAMs in detail and the reason the auditor considered them to be KAMs
  • Elaborated on how the auditors responded to the risks, audit procedures performed related to KAMs, and references to notes to the financial statements
  • Used simple language to facilitate the understanding of the subject matter
  • Provided a conclusion on the audit procedures performed on each KAM.

Enhanced reporting.

Most surveyed audit committee members (78%) and investors (73%) agreed that the EAR was an improvement over the old format of the auditors’ report. Most investors (67%) reported that the EAR helped to increased insight into the audit process, and a majority (57%) reported that the EAR, and especially the KAMs, increased their confidence in audit quality. In comparison, a higher proportion of audit committee members (77%) felt better about audit quality.

The survey presented the following suggestions going forward for the different parties in the audit process: Investors

  • Engage with and enhance the understanding of a company and its management through the new insights.
  • Seek clarification from management for KAMs that are not clearly described or understood.


  • Use simple language that is specific to the circumstances of the company.
  • Engage early with the audit committee and enlist its support to counter any resistance by management.
  • Consider investors’ requests to share the outcomes of the procedures performed on KAMs.


  • Engage with the auditor to facilitate the disclosure of useful KAMs.
  • Embrace the reported KAMs because the number of KAMs does not always directly correlate with management quality. KAMs can reflect business complexity and industry-specific circumstances.
  • Use KAMs to enhance corporate governance, transparency, and engagement with stakeholders, which can improve the firm’s market value.

Audit Committee Members

  • Help other board directors understand the informative role of KAM disclosures and utilize KAMs to drive improvements in the companies’ corporate governance and financial reporting functions.

ACCA Report

The Association of Chartered Certified Accountants (ACCA), a global organization for professional accountants, issued a report in March 2018 that reviewed the first-year implementation of the EAR standards under ISA 701 in ten countries across four regions. The ACCA examined 560 auditors’ reports issued under the new standard in Brazil, Cyprus, Greece, Kenya, Nigeria, Oman, Romania, South Africa, the UAE, and Zimbabwe. It also conducted roundtable discussions in several countries to gather information from auditors, audit committee members, preparers, and academics on the new reports. The report found that benefits of the KAM requirement included improved governance, better audit quality, enhanced corporate reporting, and higher quality information for investors.

The following are good examples of disclosures provided by the ACCA report:

  • Cross-referencing the KAMs to management’s disclosures in the notes to the financial statements
  • Providing a two-column table to distinguish each KAM and the corresponding auditor response and procedures
  • Disclosing the monetary balances in the financial statements to which the KAM refers
  • Listing KAMs at the beginning of the report so they are more accessible and can be compared across companies more easily.

Asset impairment was the most frequently listed KAM, followed by revenue recognition (excluding any reference to fraud), allowance for doubtful debt, goodwill impairment, and taxes (including the valuation of deferred tax assets).

The average number of KAMs ranged from 2 to 3, with little variation across for most of the industry sectors. Telecommunications had the highest average number of KAMs at 3.9.

Learning from Experience

A survey of audit reports across different countries and regions seems to suggest that audit quality, corporate financial reporting, and corporate governance have improved with the implementation of the EAR standards and KAM reporting. Auditors in the United States can learn from the experience of other countries and utilize the insights gained from these reports to guide their implementation of AS 3101.

Li Wang, PhD, CPA, CMA, ABV, is a professor of accounting and chair of the school of accountancy at the University of Akron, Akron, Ohio.
George S. Lu is a PhD student in accounting at the Fisher College of Business, Ohio State University, Columbus, Ohio.