AU-C section 706, Emphasis-of-Matter Paragraphs and Other-Matter Paragraphs in the Independent Auditor's Report, covers two ways an auditor of a nonissuer can add a paragraph to the report without changing the opinion. One draws attention to something already in the financial statements. The other points to something outside them. Neither is a substitute for a modified opinion under AU-C 705.
This page paraphrases the standard. Read AU-C 706 in AICPA Professional Standards before relying on any point here.
What is the objective of AU-C 706?
The auditor's objective, having formed an opinion, is to draw users' attention, when in the auditor's judgment it is necessary to do so, by way of clear additional communication in the auditor's report, to a matter appropriately presented or disclosed in the financial statements that is of such importance that it is fundamental to users' understanding of the financial statements, or to any other matter that is relevant to users' understanding of the audit, the auditor's responsibilities or the auditor's report.
What is an emphasis-of-matter paragraph?
An emphasis-of-matter paragraph refers to a matter that is appropriately presented or disclosed in the financial statements and that, in the auditor's judgment, is fundamental to users' understanding of them. The matter has to be in the statements. The paragraph does not provide information that management has not disclosed.
The auditor includes an emphasis-of-matter paragraph when it is necessary, provided the matter does not require a modified opinion and, where AU-C 701 applies, has not been determined to be a key audit matter. Some AU-C sections require an emphasis-of-matter paragraph in specific situations (an exhibit to AU-C 706 lists them). Others are at the auditor's discretion. Common examples:
| Example | Required or discretionary |
|---|---|
| Financial statements prepared under a special purpose framework, such as cash or tax basis | Required, under AU-C 800 |
| A change in accounting principle with a material effect | Required where AU-C 708 on consistency applies |
| An uncertainty, such as significant litigation, whose outcome is disclosed | Discretionary |
| A significant subsequent event | Discretionary |
| Substantial doubt alleviated by management's plans | Discretionary, see AU-C 570 |
| Significant transactions with related parties | Discretionary |
| A restatement of previously issued financial statements | Discretionary or required by another section, depending on circumstances |
Going concern, where substantial doubt exists and the disclosure is adequate, has its own section in the report. It is not an emphasis-of-matter paragraph.
What is an other-matter paragraph?
An other-matter paragraph refers to a matter other than those presented or disclosed in the financial statements that, in the auditor's judgment, is relevant to users' understanding of the audit, the auditor's responsibilities or the auditor's report. Examples include:
- the prior period was audited by a predecessor auditor whose report is not reissued, or was not audited (including reviewed or compiled only), which the AICPA reporting standards require an other-matter paragraph to address, see AU-C 510
- restriction on the use or distribution of the report, where another AU-C section or the engagement calls for it
- a different opinion on the prior period than the one originally issued, which the reporting standards let the auditor explain in an emphasis-of-matter or other-matter paragraph
- a revised report issued after subsequently discovered facts, see AU-C 560
Other AU-C sections require an other-matter paragraph in specific circumstances (an exhibit to AU-C 706 lists them). Where another section requires a separate section or a specific heading, use that and not an other-matter paragraph.
What must the paragraph say?
For an emphasis-of-matter paragraph, the auditor:
- includes it in a separate section of the report with an appropriate heading that includes the term "Emphasis of Matter"
- refers only to information presented or disclosed in the financial statements
- includes a clear reference to the matter being emphasized and to where relevant disclosures that fully describe the matter can be found in the financial statements
- indicates that the auditor's opinion is not modified with respect to the matter emphasized
For an other-matter paragraph, the auditor includes it in a separate section with the heading "Other Matter" or another appropriate heading. The paragraph states the matter and why it is relevant. It does not suggest the opinion is modified for it.
Placement
AU-C 706 does not specify placement. It depends on the nature of the matter and on the auditor's judgment about its relative significance. Where a Key Audit Matters section is presented, an emphasis-of-matter paragraph can sit directly before or after it. An other-matter paragraph about other reporting responsibilities can sit in the Report on Other Legal and Regulatory Requirements section, and one relevant to all of the auditor's responsibilities can be a separate section after both parts of the report. See the illustrations in the standard and AU-C 700.
What are the limits?
- Not a substitute for modification. An emphasis-of-matter paragraph cannot be used to address a material misstatement or a limitation on evidence. Those require a qualified, adverse or disclaimer opinion. Adding emphasis to a matter that is also misstated does not cure the misstatement.
- Not a place for information management has not disclosed. If the auditor believes the information is needed and management has not disclosed it, the issue is whether the financial statements are misstated and whether the opinion should be modified.
- Not a substitute for required sections. Going concern, other information and key audit matters each follow their own sections.
- Use sparingly. The test is whether the matter is fundamental to users' understanding, not whether it is interesting.
Communicating with those charged with governance
When the auditor expects to include an emphasis-of-matter or other-matter paragraph in the report, the auditor communicates to those charged with governance the expectation and the wording of the paragraph. This gives them a chance to provide further information and can prompt management to improve disclosure. AU-C 260 covers that communication.
What must be documented?
The file should show why the auditor concluded that the paragraph was appropriate, the wording, and the communication with those charged with governance. See AU-C 230 audit documentation.
Common weaknesses in these paragraphs
Practice checks, not requirements of the standard. Gaps to avoid:
- Emphasis-of-matter paragraph on a matter not disclosed in the notes
- Paragraph used instead of a qualification
- Missing statement that the opinion is not modified with respect to the matter
- Required paragraph for a special purpose framework left out
- No reference to the note where the matter is disclosed
- Going concern labeled as an emphasis-of-matter paragraph
Related
- Types of audit opinions
- Independent auditor's report example
- AU-C 700 forming an opinion and reporting
- AU-C 705 modifications to the opinion
- AU-C 570 going concern
- Subsequent events: Type 1 vs Type 2 (ASC 855)
Sources
- AICPA, AU-C Section 706, Emphasis-of-Matter Paragraphs and Other-Matter Paragraphs in the Independent Auditor's Report, as amended by SAS No. 134
- AICPA, AU-C Sections 570, 701, 705, 708 and 800
- AICPA, AU-C Section 260
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AU-C references are to AICPA Professional Standards, paraphrased here; read the standard itself before relying on a requirement. This page is guidance, not professional advice. Report an error