Applying a new audit regulation: Reporting Key Audit Matters in Jordan

• Author: Modar Abdullatif,Ayat S. Al‐Rahahleh
• Date: 01 July 2020
• DOI: http://doi.org/10.1111/ijau.12192
• Published date: 01 July 2020

ORIGINAL ARTICLE

Applying a new audit regulation: Reporting Key Audit Matters

in Jordan

Modar Abdullatif

1

| Ayat S. Al-Rahahleh

2

1

Department of Accounting, Princess Sumaya

University for Technology, Amman, Jordan

2

Department of Accounting, Finance and

Business Law, Texas A&M University - Corpus

Christi, Corpus Christi, TX, USA

Correspondence

Modar Abdullatif, Department of Accounting –

KingTalal School of BusinessTechnology,

Princess Sumaya University for Technology,

P.O.Box 1438. Amman 11941, Jordan.

Email: m.abdullatif@psut.edu.jo

This study aims to explore the application of a new audit regulation, International

Standard on Auditing no. 701 (ISA 701) on Key Audit Matters (KAMs), in the

developing country context of Jordan. To do so, the researchers analyzed the content

of audit reports issued in Jordan in 2017 and 2018, and conducted interviews with

18 Jordanian audit partners and directors involved in KAM reporting. Findings of this

study show that the number of KAMs reported in Jordan is relatively small, and that

they emphasize items such as accounts receivable, inventory, investment property,

and revenue. They also show that audit firms generally disagree on the nature and

content of KAMs, overwhelmingly tend to report industry-specific KAMs rather than

entity-specific KAMs, and avoid reporting KAMs related to governance or internal

controls. Justifications by interviewees include ambiguity of ISA 701 and discretion

in its application, fear of displeasing closely held clients who do not demand high-

quality audits, and limited interest by regulatory authorities in the detailed content

of KAMs.

KEYWORDS

Audit Quality, Institutional Theory, ISA 701, Jordan, Key Audit Matters

1|INTRODUCTION

Calls for expanding the audit report have been present for decades.

The traditional audit report format has been criticized by its users for

being limited in terms of providing relevant entity-specific information

(International Auditing and Assurance Standards Board

[IAASB], 2015), and for providing more information about the audit

itself rather than about the audit client (Coram, 2014; Litjens, van

Buuren, & Vergoossen, 2015). Some recent studies also show that

modifying previous audit report standards by expanding, using stan-

dardized wording, the discussion of the work of auditors and their

responsibilities, did not sufficiently reduce the audit expectations gap

(Chong & Pflugrath, 2008; Gold, Gronewold, & Pott, 2012; Litjens

et al., 2015). In response to the demand for reducing the gap in infor-

mation between what the users desire and what the audit report pro-

vides, regulatory authorities such as the IAASB and the Public

Company Accounting Oversight Board (PCAOB) proposed changes in

the audit report that required significant increases in disclosure to

increase its relevance (Bedard, Coram, Espahbodi, & Mock, 2016).

While it does not add new auditor responsibilities in terms of the

nature of required audit work, the new format of audit reports

adopted by the IAASB in 2016 includes additional disclosures about

the conduct of the audit and the responsibilities of the auditors. One

of the most notable additional disclosures was that of Key Audit Mat-

ters (KAMs). This particular piece of disclosure stands out as some-

what free in the wording of its content, in an aim to make the audit

report more entity-specific. In summary, International Standard on

Auditing (ISA) 701 requires auditors to select, based on their profes-

sional judgment, from matters that were communicated to those

charged with governance the matters that were of highest importance

and posed the highest risks to the audit (IAASB, 2016). “The auditor is

required to identify the KAMs, explain why they are a KAM and to

say something about how the KAM was addressed”(External

Reporting Board [XRB], 2017, p.3). In reporting such matters, it is

Received: 22 April 2019 Revised: 14 April 2020 Accepted: 15 April 2020

DOI: 10.1111/ijau.12192

268 © 2020 John Wiley & Sons Ltd Int J Audit. 2020;24:268–291.wileyonlinelibrary.com/journal/ijau

intended that the audit report will be of more communicative value

and transparency concerning a particular audit and its outcome

(Köhler, Quick, & Willekens, 2016). Despite such potential advantages

of KAM reporting, some concerns were raised as to its likely

unintended consequences, such as keeping too much to the auditor's

discretion, limiting added value through boilerplate reporting, and put-

ting the audit firm at more risk regarding confidentiality issues with its

clients (Segal, 2017).

If there is worldwide concern that the application of KAM

reporting may have low added value than that anticipated by the

IAASB, then these concerns could be expected to occur to a higher

extent in developing countries. Hopper, Lassou, and

Soobaroyen (2017) argue that the level of compliance with Interna-

tional Standards on Auditing (ISA) in developing countries can be

questionable given the level of efficiency of capital markets, sophisti-

cation of investors, and effectiveness of regulators and legal systems.

Other matters of concern regarding the quality of auditing in develop-

ing countries include poor corporate governance systems, weakness

of minority shareholders, and prevalence of family businesses who

demand lower quality audits and pay lower audit fees

(Abdullatif, 2016; Khan, Badrul Muttakin, & Siddiqui, 2015). In such an

environment, it can be argued that particular compliance with new

auditing standards, especially those including a certain level of auditor

discretion (such as ISA 701), can be relatively restricted. Indeed,

Haapamäki and Sihvonen (2019) conducted a literature review on ISA

research, and concluded that harmonization of the audit report is not

sufficient in some countries, causing information asymmetry and

restricting the reliability of the information presented. If this is the

case with the wording of the audit report, a relatively standardized

matter, the problem of heterogeneity of audit reports is likely to be

even higher in the case of the less-standardized wording of KAMs.

This problem could potentially be of a large extent in developing

countries, for the reasons mentioned above.

Jordan, the setting for this study, is a developing country that

exhibits to a significant extent the above characteristics, including the

prevalence of the closely held business system (where family busi-

nesses and high ownership concentration are common), in addition to

concerns over the quality of corporate governance, the quality of

auditing, and the effectiveness of the legal environment concerning

auditing (Abdullatif, 2016; Abdullatif, Alhadab, & Mansour, 2019;

Abdullatif & Al-Khadash, 2010; Alhababsah, 2019; Almarayeh, 2018).

According to Hofstede's (1984) cultural dimensions, Jordan (among

other Arab countries) can be classified as a country with high power

distance (Hofstede, 1991). This implies that managers of companies

have low levels of accountability toward shareholders, prompting

managers not to seek an external audit of high quality. It is therefore

expected that the level of effective compliance with ISA in Jordan

would be substandard, due to a lower demand from closely held cli-

ents for high quality of their external audits (Abdullatif, 2016; Khan

et al., 2015), coupled with limited effectiveness of the legal system in

penalizing auditors for substandard compliance with ISA (Abdullatif &

Al-Khadash, 2010). This argument is exacerbated by the nature of ISA

701, given the relatively high level of discretion it gives to auditors in

selecting and reporting KAMs. Therefore, this study is motivated by

the need to explore the application of ISA 701 in a developing country

such as Jordan, where the business characteristics are different from

those in more-developed countries, in order to assess the extent and

nature of KAM reporting in it, and the effect of its institutional back-

ground and business characteristics on this.

International published research studies on KAMs (or the rela-

tively similar Critical Audit Matters [CAMs] in the United States

1

) are

mainly concentrated in the United States and Western European

countries. Therefore, this study seeks to contribute to extant litera-

ture on KAMs by showing how KAM reporting may be different in a

developing country, Jordan. The main objective of this study is there-

fore to explore how KAM reporting was applied in Jordan in the first

two years of coming into effect, taking into account the characteris-

tics of the Jordanian business context. In particular, this study

explores perceptions of external auditors in Jordan about their under-

standing of the main concepts of KAMs as stipulated by ISA 701, and

how this shaped their application of KAM reporting.

To achieve this, an analysis of the content of KAM reporting by

Jordanian audit firms in 2017 and 2018 (after ISA 701 came into

effect) was conducted, and was complemented by an interview survey

with auditors involved in preparing audit reports including KAMs, in

an attempt to explain the findings of this analysis. Using an institu-

tional theory perspective, this study suggests that audit firms do face

coercive pressures to report KAMs (as they are a part of ISA, adopted

in Jordan in response to the need for foreign aid and creation of

investment opportunities), and could be under pressure to imitate the

practices of leading international audit firms, as this is generally con-

sidered best practice. However, under counterpressure from their cli-

ents and limited interest from regulatory authorities, audit firms may

choose to decouple by reporting less-informative KAMs. In particular,

this study finds that in an environment characterized by powerful

pressure from closely held audit clients, low demand for an audit of

high quality, and limited intervention by regulatory authorities, audit

firms tend to use the level of discretion and professional judgment

allowed by ISA 701 to restrict their KAM reporting in terms of the

level of detail, especially in describing the nature of the KAM, and to

emphasize reporting industry-specific matters that do not cause con-

flict with their powerful clients. These findings are expected to be of

value to several parties. First, international regulators, such as the

IAASB, may find them useful for assessing the worldwide application

of a new audit standard. Second, the local Jordanian regulators and

policymakers, in addition to audit firms, are likely to find these find-

ings useful for assessing compliance of audit firms with the require-

ments of ISA 701, and assessing the need and type of intervention by

these authorities to improve compliance with it.

This article proceeds by discussing KAMs and the findings of pre-

vious studies on them, followed by discussing the theoretical frame-

work for this study. It then analyzes the Jordanian auditing context

and the KAM content of audit reports. The interview method used in

the study is then discussed, and is followed by presenting the findings

of the interviews. Finally, the findings of the study and their implica-

tions are discussed.

ABDULLATIF AND AL-RAHAHLEH 269