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The Auditor's Guide to Analytical Procedures Under ISA 520
Complete guide: ISA 520 requirements quick reference, decision flowchart for when to use analytical procedures vs. tests of details, industry-specific ratio checklists for 12 sectors, threshold-setting guide by risk level, sample completed working paper, common quality-review findings, and documentation checklist.
ISA 520 Analytical Review for Real Estate Entities
Real estate and property companies are fundamentally asset-driven businesses where the balance sheet — specifically investment property measured at fair value under IAS 40 — dominates both the financial statements and the audit. Analytical review for property entities must focus on the relationship between rental income, occupancy rates, and fair value movements. Under ISA 520, the auditor's expectation for rental income should be developed from the property portfolio's lettable area, contracted rental rates, and occupancy levels. For a portfolio with 100,000 sqm of lettable space at an average rent of €200/sqm and 95% occupancy, expected rental income is approximately €19M. Deviations from this expectation indicate changes in occupancy, rental rates, or portfolio composition that require investigation.
Fair Value Analysis Under IAS 40
Fair value changes on investment property are typically the most significant and most judgmental line item in a property company's income statement. The auditor should develop an independent expectation of fair value movements based on market yield data, comparable transactions, and portfolio-specific factors. If market capitalisation rates have compressed by 25 basis points across the year, the auditor can estimate the expected fair value increase and compare it to the reported figure. Significant deviations suggest either that the entity's portfolio has performed differently from the market or that the valuation assumptions require further scrutiny. External valuations involve key assumptions including capitalisation yields, estimated rental values, vacancy assumptions, and capital expenditure deductions — each should be benchmarked against observable market data. The auditor should review the valuer's assumptions report and challenge any that differ materially from market evidence.
Financing and Loan Covenant Monitoring
Property entities are typically highly leveraged, making finance costs and loan covenant compliance critical analytical focus areas. Interest expense should correlate with the average debt balance and applicable interest rates — variable rate loans will fluctuate with base rates while fixed rate loans should be stable. Loan-to-value covenants tie directly to property fair values: a decline in fair values without corresponding debt reduction tightens LTV ratios and may trigger covenant breaches. The auditor should calculate key covenant metrics (LTV, interest coverage, debt service coverage) as part of analytical review and assess whether any metrics are close to covenant limits. For property developers, the split between investment property (IAS 40, fair value) and development property (IAS 2, cost) has significant accounting implications — transfers between categories should be investigated for commercial rationale.
Key Ratios to Monitor for Real Estate
- Net rental yield
- Occupancy rate
- Revenue per sqm
- Loan-to-value ratio
- Interest coverage ratio
- EPRA NAV per share
What Drives Account Fluctuations
Occupancy rate changes driving rental income fluctuations
Market yield movements affecting fair value under IAS 40
Rental reversions on lease renewals
Development completions and disposals changing the portfolio
Interest rate changes affecting financing costs and property yields
Seasonal Considerations
Real estate operations are generally not seasonal, but transaction volumes in the property market may be cyclical. Year-end valuations reflect market conditions at the balance sheet date — mid-year vs. year-end comparisons may be misleading if market conditions have changed.
Recommended Investigation Thresholds for Real Estate
| Account Category | Threshold % |
|---|---|
| Revenue | 5% |
| Cost of Goods Sold | 10% |
| Operating Expenses | 10% |
| Current Assets | 10% |
| Equity | 5% |
Regulatory note: Real estate entities may be structured as REITs with specific distribution requirements affecting retained earnings. IAS 40 fair value option vs. cost model choice affects the analytical approach fundamentally.
Worked Example: Real Estate Analytical Review
A commercial property investment company with a €400M office portfolio. Overall materiality €4,000,000, performance materiality €2,600,000.
Overall materiality: €4,000,000 | Performance materiality: €2,600,000 | Threshold: 10%
| Account | PY | CY | Change | % |
|---|---|---|---|---|
| Rental Income | €21,500,000 | €22,000,000 | €500,000 | +2.3% |
| Service Charge Income | €3,100,000 | €3,200,000 | €100,000 | +3.2% |
| Property Operating Expenses | €5,200,000 | €5,800,000 | €600,000 | +11.5% |
| Fair Value Changes FLAG | €15,000,000 | €-12,000,000 | €-27,000,000 | -180.0% |
| Finance Costs | €6,200,000 | €8,500,000 | €2,300,000 | +37.1% |
| Investment Property | €400,000,000 | €388,000,000 | €-12,000,000 | -3.0% |
| Secured Bank Loans | €198,000,000 | €195,000,000 | €-3,000,000 | -1.5% |