In the context of accounting estimates, it is the susceptibility of the estimate and related exposures to an inherent lack of precision in measurement. Typically, it is used for an amount measured at fair value where there is an inherent lack of precision in measurement, and also for other amounts for which an estimate is required due to lack of accurate or observable inputs.

An accounting estimate refers to an approximation of a monetary amount in the absence of a precise tools of measurement. This principally applies to an amount measured at fair value involving a degree of estimation uncertainty, as well as for other amounts that require estimation. The nature and reliability of information available to an entity’s management to support its accounting estimates vary extensively, which thereby affects the degree of estimation uncertainty associated with accounting estimates. In turn, the degree of estimation uncertainty affects the risks of material misstatement of accounting estimates, including their susceptibility to unintentional or intentional management bias. Management bias represents the lack of neutrality by management in the preparation of financial information.

Auditors of financial accounts evaluate certain considerations for accounting estimates that give rise to significant risks, including how management has considered alternative assumptions or outcomes, and in the case of rejection, the reasons why, or how management has otherwise addressed estimation uncertainty in creating the accounting estimate. Other considerations include whether the main assumptions used by management are reasonable and management’s intent to follow specific courses of action (within applicable norms and financial reporting framework) and its ability to do so.

If, in their judgment, an entity’s management has not adequately tackled and accounted for the effects of estimation uncertainty on the accounting estimates that give rise to significant risks, the auditors may need to develop a range with which to evaluate degree to which the accounting estimate is reasonable and attainable.