auditing 3.1 college 1, chptr 2, eme03.pdf

7/27/2019 Auditing 3.1 college 1, chptr 2, eme03.pdf

1/49

Kom verder. Saxion.

Auditing 3.1

Week 1.1

Chapter 2: Professional standards

Edwald Mentink


2/49

Kom verder. Saxion.

Agenda

Part 1Financial statementAuditingAuditing Standards

Errors and fraudProblem 2.14, 2.16, 2.26, 2.27

Part 2Quality Control

Peer review & InspectionProblem 2.19, 2.33, 2.38, 2.39


3/49

Kom verder. Saxion.

Financial Statement

A financial statement is intended to presentfairly, in all material respects, the financialposition and operating results of a company.

Procter & Gamble

fairly in all material respects financialposition operating results
http://localhost/var/www/apps/Voorbeelden/Jaarverslagen/PG_2011_AnnualReport.pdfhttp://localhost/var/www/apps/Voorbeelden/Jaarverslagen/PG_2011_AnnualReport.pdf


4/49

Kom verder. Saxion.

Auditing


5/49

Kom verder. Saxion.

Auditing

Purpose of an audit Provide an opinion whether or not a financial statement is

in accordance with the applicable financial reporting

framework. The framework is ordinarily GAAP (Generally Accepted

Accounting Principles)


6/49

Kom verder. Saxion.

Auditing

Premise of an auditManagement (and thosecharged with governance) have responsibility to:

Prepare financial statements in accordance withapplicable financial reporting framework.

Provide the auditor with needed information andunrestricted access to those in the entity fromwhom the auditor determines it necessary toobtain audit information.


7/49

Kom verder. Saxion.

Auditing

Personal responsibility of the auditorAppropriatecompetence and capabilities to perform audit inaccordance with standards, including maintainingprofessional skepticism and exercising professional

judgment throughout the audit.

Professional skepticismA questioning mind and acritical assessment of audit evidence.


8/49

Kom verder. Saxion.

Auditing

uditor actions in performing the audit Obtain reasonable assurance about whether

financial statements are free from error or fraud.

The auditor is unable to obtain absoluteassurance due to:

Nature of financial reporting.

Nature of audit procedures.

Need to conduct audit within a reasonableperiod of time.


9/49

Kom verder. Saxion.

Auditing

Reporting the results of an auditExpress in awritten report an opinion on findings (or statementthat opinion cannot be expressed).

The opinion is on whether the financial statementsare in accordance, in all material respects, with theapplicable financial reporting framework.


10/49

Kom verder. Saxion.

The 10 Generally Accepted AuditingStandards

General Standards

Standards of Field Work

Reporting Standards


11/49

Kom verder. Saxion.

General Standards

Adequate technical training and proficiency

Independence in mental attitude is to be

maintained Due professional care is to be exercised


12/49

Kom verder. Saxion.

Standards of Field Work

Auditor must adequately plan and properlysupervise work

Auditor must obtain a sufficient understanding

of entity, and its environment, includinginternal control to assess risk of materialmisstatement and to design further auditprocedures

Auditor must obtain sufficient appropriate

audit evidence to afford a reasonable basis forthe opinion


13/49

Kom verder. Saxion.

Standards of Reporting

State whether the financial statements arepresented in accordance with GAAP

Identify circumstances in which such

principles have not been consistentlyapplied

Informative disclosures are adequate unlessotherwise stated in the report

Report should clearly state the degree ofresponsibility being assumed by theauditors by expressing an opinion or statingthat one cannot be expressed, and the

reason therefore


14/49

Kom verder. Saxion.

Auditor Responsibility for theDetection of Errors and Fraud

Obtain information to assess the inherent risksand fraud risks

Information about the company and itsenvironment

Discussion among audit team members

Inquiries of management and others

Risk assessment analytical procedures,including those involving revenue

Assess the risk of errors and fraud that maycause the financial statements to contain amaterial misstatement.


15/49

Kom verder. Saxion.

Auditor Responsibility for theDetection of Errors and Fraud

Plan and perform the audit to obtain reasonableassurance that material misstatements, whethercaused by errors or fraud, will be detected.

Exercise due care in planning, performing andevaluating the results of audit procedures, and theproper degree of professional skepticism to achievereasonable assurance that material misstatementsdue to error or fraud will be detected.


16/49

Kom verder. Saxion. Problem 2.14

A CPA-firm offers only opinions no guarantees, yet we

respect and accept these opinions. What does a CPA have todo to earn this acceptance?


17/49


The public accounting firm must observe generally accepted

auditing standards. By following these standards, the CPA can issue an audit

report that includes a reasonable assurance that the financialstatements do not contain material misstatements due toerrors or fraud.

Reasonable (not absolute) assurance is necessary due to the nature of financial reporting (the necessary use of

judgment),

the nature of audit procedures (they do not provideabsolutely conclusive evidence)

the need to conduct an audit within a reasonable period oftime at a reasonable cost.

Accordingly, the auditor expresses an opinion on the financialstatements, not a statement of fact.


18/49


What is a material amount from the perspective of auditors?

Give an example of how that amount may differ based on thenature of the item.


19/49


A material amount is an amount that is sufficiently important

to influence decisions made by reasonable users of financialstatements.

The amount may differ by account based on specific accountcharacteristics.

For example, a $100,000 shortage of cash may be extremelymaterial to a small company, and a shortage of that amountmight lead to bankruptcy. But, a $100,000 valuationoverstatement of equipment may be of less significance if the

company continues to produce its products and operate as inthe past


20/49


An attitude of independence is a most essential element of an

audit by a firm or CPA. Describe several situations in which the CPA firm might find it

somewhat difficult to maintain this independent point of view.


21/49


A firm of certified public accountants might find it difficult to

maintain an attitude of independence during the audit offinancial statements if the public accounting firm or a partnerin the firm:

Derived a major portion of the firm's income from one client;

Had a personal financial interest in the company beingaudited;

Made the fee contingent upon the obtaining of a bank loan bythe client;

Was financially indebted to the client;

Was a member of the board of directors of the client companyor otherwise participated in the management of the company.


22/49


Jane Lee, a director of a nonpublic corporation with a number

of stockholders and lines of credit with several banks,suggested that the corporation appoint as controller JohnMadison, a certified public accountant on the staff of theauditing firm that had made annual audits of the corporationfor many years. Lee expressed the opinion that this movewould effect a considerable savings in professional feesbecause annual audits would no longer be needed.

She proposed to give the controller , if appointed, an internalauditing staff to carry on such continuing investigations ofaccounting data as appeared necessary.

Evaluate this proposal.


23/49


If the certified public accountant is appointed controller of the

corporation, he or she loses the independent status. The interests of outside groups like creditors, bankers, or

stockholders are best protected when independent CPAsexamine the financial statements prepared by management ofthe corporation.

An internal auditor under the direction may be a highlydesirable step, but it does not eliminate the need for anindependent audit.


24/49

Kom verder. Saxion.

Elements of Quality Control

Leadership responsibilities for quality within the firm(tone at the top)

Relevant ethical requirements

Acceptance and continuance of clients and

engagements Human Resources

Engagement performance

Monitoring


25/49

Kom verder. Saxion.

QC Element 1: Leadership responsibilitiesfor quality within the firm

Firms internal culture recognizes that quality isessential in performing engagements and recognizesthe need to

perform work that complies with professional

standards and regulatory and legal requirements and

issue reports that are appropriate in thecircumstances.

Example: Assign management responsibilities so that

commercial considerations do not override the qualityof work performed.


26/49

Kom verder. Saxion.

QC Element 2: Relevant ethicalrequirements

Firm and its personnel comply with relevant ethicalrequirements.

Example: At least annually, the firm should obtainwritten confirmation of compliance with itsindependence policies and procedures from all firmpersonnel who are required to be independent.


27/49

Kom verder. Saxion.

QC Element 3: Acceptance andContinuance

Firm will undertake to continue relationships andengagements only where the firm:

1. Has considered client integrity.

2. Is competent to perform the engagement.

3. Can comply with legal and ethical requirements.

Example: Background information is gathered on allprospective audit clients, including the attitude of

principal owners, key management, and those chargedwith governance on matters such as aggressiveaccounting and internal control over financial reporting.


28/49

Kom verder. Saxion.

QC Element 4: Human Resources

Firm has personnel with the capabilities, competence,and commitment to ethical principles to:

1. Perform engagements in accordance withprofessional standards and regulatory and legal

requirements.2. Enable the firm to issue reports that are appropriate

in the circumstances.

Example: Design effective recruitment processes andprocedures to help the firm select individuals meetingminimum academic requirements established by thefirm, and maturity, integrity and leadership.


29/49

Kom verder. Saxion.

QC Element 5: Engagement Performance

Firms engagements are consistently performed inaccordance with professional standards and regulatoryand legal requirements, with policies and proceduresaddressing:

1.Engagement performance.2.Supervision responsibilities.

3.Review responsibilities.

Example: Design policies and procedures that addressthe tracking of progress of each engagement.


30/49

Kom verder. Saxion.

QC Element 6: Monitoring

Firms policies and procedures established for each ofthe elements are suitably designed and effectivelyapplied.

Example: Working papers, reports, and client financialstatements are reviewed to assess compliance with thefirms quality control policies and procedures.


31/49

Kom verder. Saxion.

Peer Reviews

Members of AICPA Conducted by CPAs or other CPA firms

Two types of peer reviews

System review

Study of CPA firms system of quality control Select sample of firms engagements and examine

related working paper files

Engagement review

Sample of CPA work including reports to evaluateappropriateness

Less in scope than system review

Report: pass, pass with deficiencies, or fail


32/49


What is the meaning of quality control and peer review as

these terms relate to the operation of a CPA-firm? Is peer review mandatory?


33/49


Quality control means policies and procedures which help

assure that each audit meets at least a minimum standard ofquality.

Peer reviews refer to a study and appraisal by an independentCPA of a CPA firms work. Two types of peer review:

system review : the evaluator considers the CPA firms system

of quality control to perform accounting and auditing work engagement review: the evaluator studies and evaluates a

sample of a CPA firms actual accounting work

Peer reviews are indeed mandatory


34/49


Statement Type of udit ReportThe auditors are unable to determine the overall fairness

of the financial statements.This is the report most clients prefer.

A limitation on the scope of the audit is significant, butnot so as to overshadow an overall opinion

The financial statements are not fairly presented

A material departure from GAAP exists, but not so

material as to overshadow an overall opinion.

Match each of the following statements with the appropriate

type of auditorsreport. A. Adverse D. Disclaimer Q. Qualified S. Standard unmodified


35/49



of the financial statements.

D. Disclaimer

This is the report most clients prefer.





Match each of the following statements with the appropriate

type of auditorsreport. A. Adverse D. Disclaimer Q. Qualified S. Standard unmodified


36/49




D. Disclaimer

This is the report most clients prefer. S. Standard unmodified





Match each of the following statements with the appropriatetype of auditorsreport.

A. Adverse D. Disclaimer Q. Qualified S. Standard unmodified


37/49




D. Disclaimer



Q. Qualified







38/49




D. Disclaimer



Q. Qualified

The financial statements are not fairly presented A. Adverse






39/49




D. Disclaimer



Q. Qualified

The financial statements are not fairly presented A. Adverse



Q. Qualified




40/49


Hide-It

Team Case!


41/49


Hide-It: a

No, this is not an error since errors are unintentional.


42/49


Hide-It: b

This situation does appear to involve misstatements due tomisappropriation of assets.

It is a misstatement due to fraudulent financial reportingbecause of the omission of the information from the financial

statements. If the $100,000 withdrawals have been abstracted for personal

use, the situation also involves a misstatement arising frommisappropriation of assets.


43/49


Hide-It: c

Certain laws have a direct effect on the financial statementamounts and are considered on every audit.

An example is income tax law that affects the amount ofincome tax expense in the financial statements of most clients.

This situation involves what appears to be non-compliance witha law that has a "direct effect" since, at a minimum, taxes havenot been paid on the income involved.


44/49


Hide-It: d

The auditors will need to consider whether withdrawal isnecessary, perhaps after consultation with their attorney.

The case suggests that the unrecorded deposits occurred priorto current management involvement with the company. Note,

however, that interest was earned during the period thismanagement has been with the company, and withdrawals havebeen made during this same period.

The auditors would wish to consider when current managementbecame aware of the account and the nature of the withdrawals

when considering whether to resign from the engagement.


45/49


Enormo Corporation

Research and Discussion Case


46/49


Enormo Corporation

When the auditors discover illegal acts by a public client, theyshould consider three major factors.

First, the auditors should consider the effect of the acts on theclient's financial statements, including the possibility of fines

and loss of business. Second, the illegal acts may affect the auditors' assessment of

the integrity of management. In deciding whether to continueto serve the client, the auditors should consider the nature ofthe illegal acts and management's response to the acts after

they are uncovered. Third, the auditors should consider whether the occurrence of

the illegal act indicates that there is a material weakness in thecompanys internal control over financial reporting.


47/49


Enormo Corporation

The following courses of action are available to the auditors:

The auditors could issue an unqualified opinion and take nofurther steps regarding the illegal activities, since the effect ofthe acts on the financial statements is not material.

The auditors could issue a qualified opinion because thefinancial statements depart from generally accepted accountingprinciples, in that they fail to disclose the illegal acts. Thiscourse of action could be argued on the basis that any illegalactivities by the client are material.

The auditors could withdraw from the engagement, because theclient's failure to take actions to prevent such activitiesindicates that Enormo's management lacks sufficient integrity.


48/49


Enormo Corporation

We believe that the auditors should consider withdrawing fromthe engagement.

Enormo's top management seems far too complacent regardingthese activities.

Their refusal to take any action to prevent the acts in the futureprovides a signal to lower level management that topmanagement approves of illegal acts.


49/49

Kom verder. Saxion.

See you next week!

auditing 3.1 college 1, chptr 2, eme03.pdf

Documents