Periods of sustained uncertainty are becoming a persistent feature of the business environment. We consider how auditors can maintain a disciplined and adaptive approach.
Geopolitical unrest, shifting trade relationships, supply chain disruption, persistent inflation and wider economic volatility have created conditions in which management’s judgements are more complex and financial reporting risks elevated.
Uncertainty arising from international conflict can disrupt operations and fundamentally alter business models. It may also limit access to audit evidence, requiring auditors to continuously reassess risk and remain responsive to rapidly changing conditions.
The nature of uncertainty varies between sectors and jurisdictions but the auditors’ underlying responsibilities remain unchanged. The International Standards on Auditing (ISA) (UK) provide a robust framework for responding to uncertainty, but effective application requires heightened professional scepticism, timely reassessment of risk and careful evaluation of management assumptions.
We explore 10 factors to help members consider the effects of uncertainty on their audits.
- Risk assessment in an evolving environment
Uncertainty increases the likelihood and magnitude of risks of material misstatement. ISA (UK) 315 on risk assessment requires auditors to obtain an understanding of the entity and its environment. These include external factors that may influence the entity’s operations, financial position and performance.
Geopolitical developments, sanctions regimes and trade restrictions can disrupt supply chains and restrict market access or increase costs. Tariffs and volatility of input prices may reduce margins or create pressure on working capital. These developments may also affect management behaviour and incentives, increasing the risk of bias in forecasting and reporting.
Risk assessment should be iterative rather than a one-off exercise. ISA (UK) 315 requires risk reassessment as new information becomes available. In rapidly changing environments, this may require more frequent reassessment than in previous years.
In a group audit context, changing economic or geopolitical conditions may also affect the auditor’s scoping decisions. A component that was previously considered lower risk, and therefore subject only to limited audit procedures, may require a fuller scope audit where uncertainty increases the risk of material misstatement or the significance of that component within the group. As a result, group auditors may need to revisit and adapt the planned scope of work as circumstances evolve.
- Heightened management override risk
Periods of heightened uncertainty can increase pressure on management to meet targets, maintain financing arrangements or mitigate the appearance of declining performance. The ability of management to override controls remains a pervasive fraud risk in all entities, particularly if there are incentives or pressures to manipulate results or conceal adverse performance. In such environments, auditors should remain alert to the risk that journal entries, estimates or unusual transactions may be used to achieve desired financial outcomes, and ensure that procedures addressing the risk of management override are appropriately responsive to the heightened risk.
- Judgement and accounting estimates
Accounting estimates are becoming more judgemental and inherently uncertain during periods of economic and geopolitical volatility, as they depend on forward-looking assumptions that may change rapidly as conditions evolve. ISA (UK) 540 on accounting estimates requires auditors to focus on this estimation uncertainty and evaluate whether management’s judgements are appropriately supported, consistent with available evidence and free from bias. In practice, disruption can significantly affect key assumptions underpinning cash flow forecasts, discount rates and valuation models, meaning that estimates that were previously reasonable may no longer reflect current conditions.
The auditor’s focus always extends beyond checking the arithmetical accuracy of models in response to this risk and requires increased challenge of underlying assumptions and the sensitivity of outcomes to change. Where relatively small movements in assumptions lead to significant changes in valuation or impairment conclusions, estimation uncertainty increases and the need for robust challenge becomes more pronounced. This is particularly relevant in areas such as impairment assessments, expected credit loss provisioning and fair value measurement, where outcomes are highly judgemental and closely linked to external economic conditions.
Auditors should also assess whether the related disclosures provide sufficiently clear and entity-specific explanations of significant judgements, key assumptions and estimation uncertainty, including sensitivities and ranges of possible outcomes where relevant. This has been an increasing area of regulatory focus, with the FRC highlighting the importance of high-quality disclosures that enable users to understand the potential impact of changing economic conditions on reported amounts.
- Obtaining sufficient appropriate audit evidence in disrupted conditions
During periods of heightened uncertainty, the availability, reliability and timeliness of audit evidence may be affected in ways that are not anticipated at the planning stage. Operational and supply chain disruption, restrictions on movement and reduced access to key personnel can all affect how and when evidence can be obtained, particularly where entities operate across multiple jurisdictions or rely on third-party data.
ISA (UK) 500, Audit Evidence, requires the auditor to design and perform procedures that enable sufficient appropriate audit evidence to be obtained. In practice, uncertainty may require auditors to reconsider not only the nature and timing of procedures, but also the sources of evidence available. Evidence that would ordinarily be obtained directly may need to be corroborated through alternative means, including increased use of external data, subsequent events work or expanded analytical procedures.
Where restrictions are significant, the challenge is not simply procedural. There may be insufficient audit evidence for the auditor to conclude. ISA (UK) 705, covering modification to the opinion, may become relevant where alternative procedures are unable to provide the necessary level of assurance, and the auditor is unable to conclude that sufficient appropriate audit evidence has been obtained. In such circumstances, the implications for the audit opinion should be carefully evaluated and clearly documented.
- Compliance with laws and regulations in a changing geopolitical landscape
Uncertainty is often accompanied by rapid changes in regulatory frameworks, particularly where geopolitical developments lead to sanctions, export controls or changes in cross-border trading requirements. These changes may apply directly to the entity, or indirectly through counterparties, suppliers or financing arrangements, increasing the complexity of compliance assessment.
ISA (UK) 250, Laws and Regulations, requires auditors to remain alert to the risk that non-compliance with laws and regulations could have a material effect on the financial statements. In uncertain environments, this extends beyond confirming the existence of compliance policies to understanding how effectively management identifies, interprets and responds to regulatory change in practice.
Particular attention may be needed where regulatory developments are evolving quickly or inconsistently across jurisdictions. In such cases, compliance may depend heavily on judgement, increasing the risk that obligations are misunderstood or inconsistently applied. Auditors should therefore consider management’s processes for monitoring legal and regulatory change, and whether potential exposures have been appropriately reflected in the financial statements.
- Going concern and resilience in uncertain conditions
Going concern assessments are often highly sensitive to uncertainty, as they depend heavily on forward-looking information and management judgement. ISA (UK) 570, Going Concern, requires auditors to evaluate both the assumptions used in management’s assessment and the completeness of the information considered.
In practice, uncertainty may affect liquidity, access to financing, customer demand and supply chain stability, all of which influence the entity’s ability to continue operating as a going concern. Forecasts prepared in such environments are often highly judgemental and may be sensitive to relatively small changes in underlying assumptions.
This is where structured approaches such as reverse stress testing become particularly valuable. Rather than focusing solely on expected outcomes, these techniques allow management and auditors to explore adverse conditions and identify the point at which the business model may no longer be viable. ICAEW guidance highlights the value of reverse stress testing in exposing vulnerabilities that may not be apparent under traditional forecasting approaches.
In evaluating going concern, auditors should therefore focus not only on whether management has prepared forecasts, but whether those forecasts reflect sufficiently robust consideration of downside scenarios and whether mitigating actions are both realistic and executable.
Where management has adequately disclosed a material uncertainty related to going concern in the financial statements, ISA (UK) 570 requires the auditor to include a dedicated ‘Material Uncertainty Related to Going Concern’ section in the auditor’s report to draw attention to those disclosures, rather than modifying the audit opinion. However, if the financial statements do not adequately disclose the material uncertainty, the auditor will be required to modify the audit opinion accordingly.
- Subsequent events and evolving disclosures
In uncertain environments, events occurring after the reporting date may provide important additional insight into conditions that existed at the balance sheet date or new developments requiring disclosure. The distinction between adjusting and non-adjusting events may be particularly judgemental where conditions are evolving rapidly. Importantly, new information arising after the reporting date does not automatically result in an adjusting event if it relates to conditions that developed subsequently.
ISA (UK) 560, Subsequent Events, requires auditors to consider the implications of such events up to the date of the auditor’s report. Where significant developments occur, auditors should evaluate whether management has appropriately reflected them in the financial statements and/or provided sufficient disclosure to enable users to understand their impact.
- Implications for auditor reporting outcomes
Under ISA (UK) 705, where sufficient appropriate audit evidence cannot be obtained, or where misstatements are material, auditors may be required to issue a qualified opinion, adverse opinion or, a disclaimer of opinion, depending on the pervasiveness of the matter. These outcomes become more likely in environments where uncertainty restricts access to reliable evidence or where management’s judgements cannot be adequately supported.
Even where a modified opinion is not required, uncertainty can still affect reporting. ISA (UK) 706 describes how auditors may seek to draw users’ attention to matters that are fundamental to understanding the financial statements through an emphasis of matter paragraph, while ISA (UK) 701 may require significant areas of judgement or estimation uncertainty to be reported as key audit matters (KAMs). In practice, heightened uncertainty increases the likelihood that these reporting mechanisms will be used.
- Maintaining professional scepticism throughout the audit
Professional scepticism is not a discrete audit requirement but a mindset that underpins the application of all auditing standards. In uncertain environments, its importance is heightened as the risk of management bias increases and the reliability of forward-looking information becomes more difficult to assess.
ISA (UK) 200 requires auditors to maintain a questioning mindset and to critically assess audit evidence. In practice, this means not only evaluating whether evidence supports management’s assertions, but also actively considering whether alternative explanations or contradictory evidence exist.
Uncertainty can increase the tendency for optimistic assumptions to be presented as reasonable expectations. In such circumstances, professional scepticism is demonstrated through the auditor’s willingness to challenge assumptions and remain alert to inconsistencies across different sources of information. These should be evident throughout the audit rather than being confined to isolated audit areas. Management should not overlook severe but plausible scenarios.
- The quality management loop
Changes in the operating environment affect entities’ risk profiles, and the profile of auditors’ portfolios. ISQM 1 (UK) describes an iterative process for the improvement of Systems of Quality Management (SoQM) and firms should consider whether there are new quality risks that require changes to the SoQM in the form of new or altered risks or responses. Root cause analysis may identify particular areas of audit methodology or training that need to take these changes into account.
Conclusion
Uncertainty shapes how entities operate, forecast performance and report financial outcomes. Disruption is not new in itself, and does not call for reinvention of audit – the ISAs (UK) provide the tools for approaching these areas. For auditors, uncertainty requires an approach that is disciplined in applying the ISAs (UK) and adaptive in responding to change.
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