Emphasis of Matter and Other Matter Paragraphs
Beyond the core opinion, auditors sometimes need to draw attention to important information or provide additional context in their report. The mechanisms for doing this differ between nonissuer audits (AICPA standards) and issuer audits (PCAOB standards). This section covers emphasis-of-matter paragraphs, explanatory paragraphs, and other-matter paragraphs — when they are required, what they contain, and how they affect the audit report.
An emphasis-of-matter or other-matter paragraph does not change the auditor's opinion. These paragraphs supplement the opinion — the auditor is still issuing an unmodified, qualified, adverse, or disclaimer opinion as appropriate.
Emphasis-of-Matter Paragraphs (Nonissuers)
An emphasis-of-matter (EOM) paragraph is used in nonissuer audit reports to draw the reader's attention to a matter that is appropriately presented or disclosed in the financial statements and that, in the auditor's professional judgment, is of such importance that it is fundamental to users' understanding of the financial statements.
Key Characteristics
- The matter is already properly accounted for and disclosed — this is not a deficiency or misstatement
- The EOM paragraph does not result in a modification to the opinion
- The paragraph is placed after the opinion section and before the "Other Matter" paragraph (if any)
- The heading must include the term "Emphasis of Matter" (or a more descriptive heading such as "Emphasis of Matter — Going Concern")
- The paragraph must include a clear reference to the matter being emphasized and to where it is disclosed in the financial statements
- The paragraph must state that the auditor's opinion is not modified with respect to this matter
When an Emphasis-of-Matter Paragraph Is Required
The AICPA standards require an EOM paragraph in the following situations:
| Situation | Explanation |
|---|---|
| Going concern uncertainty | Substantial doubt exists about the entity's ability to continue as a going concern, and the matter is adequately disclosed |
| Change in accounting principle | The entity has adopted a new accounting principle or changed an existing one, and the change has a material effect on the financial statements |
| Correction of a material misstatement in prior-period financial statements | Restated comparative financial statements are presented due to correction of a prior-period error |
| Special purpose framework | The financial statements are prepared on a special purpose framework (e.g., tax basis, cash basis), alerting users that the basis differs from GAAP |
When an Emphasis-of-Matter Paragraph Is Optional
The auditor may also include an EOM paragraph at their discretion for other matters, such as:
- A significant subsequent event
- An unusual or significant related-party transaction
- A major catastrophe that has had (or may have) a significant effect on the entity
- Significant uncertainties (such as pending litigation)
Example: Illini Entertainment recently changed its revenue recognition method from a completed-contract approach to the percentage-of-completion method for its long-term entertainment venue construction projects. The change is material and properly disclosed in Note 3. The auditor includes an emphasis-of-matter paragraph stating: "As discussed in Note 3 to the financial statements, the Company changed its method of accounting for long-term construction contracts in 20X4. Our opinion is not modified with respect to this matter."
The emphasis-of-matter paragraph always includes two things: (1) a reference to the disclosure in the financial statements, and (2) a statement that the opinion is not modified. If a question describes a paragraph that draws attention to a properly disclosed matter and includes both of these elements, it is an EOM paragraph.
Explanatory Paragraphs (Issuers)
Under PCAOB standards, the equivalent mechanism for issuer reports is the explanatory paragraph. While the concept is similar to the EOM paragraph, there are differences in terminology and application.
When an Explanatory Paragraph Is Required or Permitted
The PCAOB requires (or permits) the auditor to add an explanatory paragraph in situations such as:
| Situation | Requirement |
|---|---|
| Going concern | Required when there is substantial doubt about the entity's ability to continue as a going concern |
| Lack of consistency | Required when there is a material change in accounting principle or the method of its application |
| Reference to another auditor | Required when the principal auditor decides to make reference to the work of another auditor |
| Restatement | Required when prior-period financial statements have been restated |
| Other matters | Permitted at the auditor's discretion to emphasize significant matters |
Placement
In issuer reports, the explanatory paragraph is typically placed after the opinion paragraph (or after the Basis for Opinion section, depending on the specific circumstance).
Example: Kingfisher Industries is a public company that recently adopted a new lease accounting standard, resulting in material changes to its balance sheet. The auditor adds an explanatory paragraph after the opinion section noting the change in accounting principle and referencing the note where it is disclosed.
The PCAOB does not use the terms "emphasis-of-matter" or "other-matter." Instead, PCAOB standards refer to explanatory paragraphs or explanatory language added to the standard report. The functional purpose is the same: drawing attention to important information without modifying the opinion.
Other-Matter Paragraphs (Nonissuers)
An other-matter (OM) paragraph is used in nonissuer reports to draw attention to a matter that is not presented or disclosed in the financial statements but that is relevant to users' understanding of the audit, the auditor's responsibilities, or the auditor's report.
Key Characteristics
- Unlike an EOM paragraph, the matter is not disclosed in the financial statements themselves — it relates to the audit or report
- The OM paragraph is placed after the opinion section and any EOM paragraphs
- The heading must include the term "Other Matter" (or a more descriptive heading)
- The OM paragraph does not modify the opinion
When an Other-Matter Paragraph Is Required
| Situation | Explanation |
|---|---|
| Prior-period financial statements audited by a predecessor | The current auditor uses an OM paragraph to note that the prior year was audited by another auditor, the type of opinion they expressed, the date of their report, and any modifications |
| Prior-period financial statements reviewed or compiled | The current auditor notes the lower level of service applied in the prior period |
| Restriction on use | When the auditor's report is restricted to specific parties (e.g., for regulatory-basis financial statements) |
| Supplementary information | When the auditor has been engaged to report on supplementary information accompanying the basic financial statements |
| Required supplementary information (RSI) | The auditor reports on the results of limited procedures applied to RSI |
| Other information in documents | The auditor may address other information (e.g., a president's letter) included in a document containing the audited financial statements |
Distinction Between EOM and OM Paragraphs
| Feature | Emphasis-of-Matter | Other-Matter |
|---|---|---|
| Subject | A matter in the financial statements | A matter not in the financial statements |
| Purpose | Draw attention to a properly disclosed item | Provide information about the audit or auditor's report |
| Placement | After the opinion section | After the opinion and any EOM paragraphs |
| Modifies opinion? | No | No |
| Example | Going concern, change in accounting principle | Prior year audited by predecessor, restriction on use |
Example: MSA Records engaged a new audit firm this year. The prior year's financial statements were audited by a different firm that issued an unmodified opinion dated March 10, 20X3. The current auditor includes an other-matter paragraph in the 20X4 report stating: "The financial statements of MSA Records for the year ended December 31, 20X3, were audited by another auditor, who expressed an unmodified opinion on those statements on March 10, 20X3."
Reporting Requirements Summary
Nonissuer Reports
| Paragraph Type | Heading Required? | Placement | Modifies Opinion? |
|---|---|---|---|
| Emphasis-of-Matter | Yes — "Emphasis of Matter" or descriptive variant | After Opinion section | No |
| Other-Matter | Yes — "Other Matter" or descriptive variant | After Opinion and any EOM paragraphs | No |
Issuer Reports
| Paragraph Type | Heading Required? | Placement | Modifies Opinion? |
|---|---|---|---|
| Explanatory paragraph | No specific heading required by PCAOB | After Opinion section (or after Basis for Opinion) | No |
Do not confuse emphasis-of-matter paragraphs with modified opinions. A modified opinion (qualified, adverse, or disclaimer) reflects a problem — either with the financial statements or with the auditor's ability to obtain evidence. An EOM or explanatory paragraph, by contrast, highlights something the auditor believes is important but that does not represent a deficiency requiring a modification.
Practical Scenarios
Scenario 1: Going Concern with Adequate Disclosure
BIF Partners has experienced recurring losses and negative operating cash flows. Management has disclosed its plans to address the situation (seeking additional financing and reducing costs) in Note 12. The auditor concludes that substantial doubt exists about BIF Partners' ability to continue as a going concern but that the disclosure is adequate.
- Nonissuer report: Include a required emphasis-of-matter paragraph referencing Note 12 and stating the opinion is not modified
- Issuer report: Include a required explanatory paragraph describing the going concern uncertainty
Scenario 2: Change in Accounting Principle
Gies Co. adopted the new current expected credit losses (CECL) model for estimating its allowance for credit losses, resulting in a material cumulative-effect adjustment. The change is properly disclosed in Note 2.
- Nonissuer report: Include a required emphasis-of-matter paragraph referencing Note 2
- Issuer report: Include a required explanatory paragraph noting the lack of consistency
Scenario 3: Prior Year Audited by Predecessor
Illini Security changed auditors. The predecessor auditor issued an unmodified opinion on the 20X3 financial statements dated February 28, 20X4. The predecessor's report is not being reissued with the 20X4 comparative statements.
- Nonissuer report: The successor auditor includes an other-matter paragraph identifying the predecessor, the opinion type, date, and noting the predecessor's report is not presented
Key Takeaways for the AUD Exam
- EOM paragraphs (nonissuers) and explanatory paragraphs (issuers) draw attention to properly presented matters in the financial statements
- Other-matter paragraphs (nonissuers) address matters outside the financial statements that are relevant to understanding the audit or report
- None of these paragraphs modify the auditor's opinion
- Required situations include going concern, changes in accounting principles, restatements, and special purpose frameworks
- The auditor also has discretion to add these paragraphs for other significant matters
On exam questions, watch the wording carefully: if the matter is in the financial statements → EOM paragraph. If the matter is about the audit or report but not in the financial statements → Other-matter paragraph.