Module 1 summary
This module provides a framework for auditing and an explanation of its nature and purpose. External and internal auditing are described and compared. The module also includes a discussion of the audit report and an overview of the umbrella concept of assurance engagements.
Explain the objective and purpose of an audit of financial statements, and outline the two key components of the audit process
- Auditing is the systematic process of objectively obtaining and evaluating evidence regarding assertions to ascertain the degree of correspondence between assertions and established criteria.
- The objective of an audit of financial statements is to express an opinion as to whether or not the information in the financial statements is presented fairly.
- The purposes of an audit of financial statements include
- fulfilling statutory or other requirements
- reducing information risk, and
- addressing the asymmetry of information between providers and users of financial information.
The two key components of the audit process are
- determining the nature, extent, and timing of evidence to obtain, and obtaining and evaluating the evidence effectively and efficiently, and
- communicating the auditor’s findings through the auditor’s report.
Explain how information risk arises and how audits can help reduce information risk
- Information risk is the risk that the financial statements are false or misleading. Sources of information risk are
- asymmetry of information
- errors from weak accounting system
- deceptive management practices
- Information asymmetry arises because of
- remoteness of information
- bias or motivation of those providing information
- high volumes of transactions and data
- the complexity of transactions
- Audits help reduce information risk because
- auditors are independent and can reduce or counter the effect of the biases that management may have in preparing the financial statements
- auditors have accounting expertise and are able to ensure that complex financial transactions are appropriately recorded and reported
- the auditor must apply judgement within clearly defined professional and ethical standards
Describe the principal activities of a public accounting firm
- The principal activities of a public accounting firm include
- audit engagements
- review engagements
- other assurance services
- accounting services
- taxation services
- consulting services
- bankruptcy and receivership engagements
Describe the role of the staff accountant on a typical audit engagement, and explain how continuous training on audit engagements prepares staff for future opportunities in the organization
- The staff accountant (or junior auditor) prepares working papers to document the results of audit procedures and performs other tasks assigned by the in-charge accountant on the engagement.
- Auditors must gain a combination of both theoretical knowledge and practical experience. On-the-job training provides practical experience, allowing the auditor to develop professional judgment and move on to undertake more challenging tasks. Continuing professional development is required of all professional accountants to keep abreast with changes in standards and other developments.
Compare external auditing to internal auditing
- External auditing and internal auditing are similar in a number of ways:
- Both require independence.
- Both use sampling.
- Both produce reports.
- Both function within established standards.
- External auditing and internal auditing are different in a number of ways:
- They produce reports for different people.
- They have different objectives.
- They have different scopes of work.
- They have different degrees of concern with day-to-day operations.
- The nature and form of their reports are different.
- They are remunerated in different ways.
Describe the concept of an assurance engagement, explain audit engagements in terms of the general framework of assurance engagements, and explain the difference between an attest engagement and a direct reporting engagement
- In an assurance engagement, the auditor issues a written opinion about the subject matter of the engagement for which the accountable party (usually management) is responsible.
- The public accountant provides credibility or assurance to the assertions made by the responsible party.
- Financial statement audits are a sub-class of assurance engagements.
- Audit engagements are attest engagements.
- Management (the asserter) is responsible for the assertions in the financial statements.
- The users are the investors, creditors, and others, who make decisions based on the financial statements.
- The auditor (the assurer) provides a high level of assurance on the assertions made by management. The audit can only be carried out by suitably qualified, independent public accountants.
Attest engagements and direct reporting engagements:
- In an attest engagement, the public accountantís conclusion will be on a written assertion prepared by the accountable party.
- In a direct reporting engagement, the public accountantís conclusion will evaluate directly, using suitable criteria, the subject matter for which the accountable party is responsible.
Distinguish between audit, review, and compilation engagements
- An audit provides a high level of assurance that financial statements are fair in all material respects.
- Review engagements provide a moderate level of assurance that financial statements are in accordance with appropriate criteria, in all material respects. The accountant’s role is to ensure that the information is plausible (or credible).
- A compilation engagement is used when an accounting firm provides bookkeeping services or prepares financial statements for a client. No assurance is provided by the accountant, but there is an over-riding professional responsibility not to be associated with information that the accountant believes to be misleading.
Draft a standard auditor’s report and describe its components
Drafting a standard auditorís report:
- An example of a standard unqualified auditor’s report is given in CAS 700 (CICA Handbook section 5400) and page 62 of the text.
- Study carefully the wording of the report and be familiar with the contents of each of the three paragraphs.
Components of a standard auditorís report:
- The standard unqualified auditorís report consists of three paragraphs:
- The introductory paragraph identifies the statements reported upon, states that financial statements are the responsibility of management, and states that the opinion of the financial statements is the responsibility of the auditor.
If differential reporting is used by the client, this should be identified in the introductory paragraph, with reference to the supporting note disclosure.
- The scope paragraph states that the audit has been completed in accordance with generally accepted auditing standards and sets out some of the audit work done as a basis for the auditorís opinion.
- The opinion paragraph states the auditorís opinion of the financial statements.
- In addition, the report must contain a title, the name of the addressee, the city and date of issue, as well as the auditorís signature.
Evaluate when an auditor would issue an audit report containing an unqualified opinion, a qualified opinion, an adverse opinion, or a denial of opinion
- There are two causes for reservations of opinion:
- Departure from generally accepted accounting principles, such as
- an inappropriate accounting treatment
- an inappropriate valuation
- inadequate disclosure
- A limitation to the scope of the audit caused by
- client-imposed restrictions
- circumstances or uncertainties
- If the reservation arises because of a departure from GAAP, the auditor will issue an unqualified opinion, a qualified opinion, or an adverse opinion, depending on whether the auditor considers the effect of the departure to be immaterial, material, or highly material.
- If the reservation is caused by a scope limitation, the auditor will issue an unqualified opinion, a qualified opinion, or a denial of opinion, depending on whether the auditor considers the effect of the scope limitation to be immaterial, material, or highly material.