acca bpp p7 study text

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Paper P7Advanced Audit and Assurance (International) Study Text for exams up to June 2015

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Advanced A

udit and Assurance (International) S

tudy TextACCA P7

For exams up to June 20

15

ACCA approved content providerBPP Learning Media is dedicated to supporting aspiring business professionals with top-quality learning material as they study for demanding professional exams, often whilst working full time. BPP Learning Medias commitment to student success is shown by our record of quality, innovation and market leadership in paper-based and e-learning materials. BPP Learning Medias study materials are written by professionally qualified specialists who know from personal experience the importance of top-quality materials for exam success.

Paper P7

Advanced Audit and Assurance (International)

This ACCA Study Text for Paper P7 Advanced Audit and Assurance (International) has been comprehensively reviewed by the ACCA examining team. This review guarantees appropriate depth and breadth of content and comprehensive syllabus coverage.

In addition to ACCA examining team reviewed material you get:

A user-friendly format for easy navigation Exam focus points describing what the examining team will want you to do Regular Fast Forward summaries emphasising the key points in each chapter Questions and quick quizzes to test your understanding A practice question bank containing exam- standard questions with answers A full index All you need in one book

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ACP7(INT)ST14 (HO).indd 1-3 27/05/2014 17:43



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File Attachment9781445367477.jpg

S T U D Y

T E X T

PAPER P7 ADVANCED AUDIT AND ASSURANCE

(INTERNATIONAL)

BPP Learning Media is an ACCA Approved Learning Partner content. This means we work closely with ACCA to ensure this Study Text contains the information you need to pass your exam.

In this ACCA examination-team reviewed Study Text, we:

Highlight the most important elements in the syllabus and the key skills you need Signpost how each chapter links to the syllabus and the study guide Provide lots of exam focus points demonstrating what is expected of you in the exam Emphasise key points in regular fast forward summaries Test your knowledge in quick quizzes Examine your understanding in our practice question bank Reference all the important topics in our full index

BPP's Practice & Revision Kit and i-Pass products also support this paper.

FOR EXAMS IN DECEMBER 2014 AND JUNE 2015



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ii

First edition 2007

Seventh edition June 2014

ISBN 9781 4727 1091 8 (Previous ISBN 9781 4453 9660 6)

e-text ISBN 9781 4453 6747 7

British Library Cataloguing-in-Publication Data

A catalogue record for this book is available from the British Library

Published by

BPP Learning Media Ltd BPP House, Aldine Place London W12 8AA

www.bpp.com/learningmedia

Printed in the United Kingdom by

Polestar Wheatons Hennock Road Marsh Barton Exeter EX2 8RP

Your learning materials, published by BPP Learning Media Ltd, are printed on paper obtained from traceable sustainable sources.

All our rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission of BPP Learning Media Ltd.

We are grateful to the Association of Chartered Certified Accountants for permission to reproduce past examination questions. The suggested solutions in the practice answer bank have been prepared by BPP Learning Media Ltd, unless where otherwise stated.

BPP Learning Media Ltd 2014



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Contents iii

Contents Page

Introduction Helping you to pass .......................................................................................................................................................... v Studying P7 .................................................................................................................................................................... vii Syllabus and study guide............................................................................................................................................... xiii The exam paper ........................................................................................................................................................... xxiii

Part A Regulatory environment 1 International regulatory environments for audit and assurance services .................................................................. 3

Part B Professional and ethical considerations 2 Code of ethics and conduct ................................................................................................................................... 33 3 Professional liability.............................................................................................................................................. 67

Part C Practice management 4 Quality control....................................................................................................................................................... 97 5 Obtaining and accepting professional appointments ........................................................................................... 111

Part D Audit of historical financial information 6 Planning and risk assessment ............................................................................................................................. 135 7 Evidence.............................................................................................................................................................. 183 8 Evaluation and review (I) ..................................................................................................................................... 217 9 Evaluation and review (II) matters relating to specific accounting issues.......................................................... 251 10 Evaluation and review (III) matters relating to specific accounting issues......................................................... 277 11 Group audits and transnational audits ................................................................................................................. 315

Part E Other assignments 12 Audit-related services and other assurance services............................................................................................ 349 13 Prospective financial information (PFI)................................................................................................................ 379 14 Forensic audits.................................................................................................................................................... 393 15 Social, environmental and public sector auditing ................................................................................................ 405 16 Internal audit and outsourcing............................................................................................................................. 431

Part F Reporting 17 Reporting............................................................................................................................................................. 449

Part G Current issues and developments 18 Current issues ..................................................................................................................................................... 475

List of articles by the examining team .......................................................................489

Practice question and answer bank ...........................................................................493

Index.........................................................................................................................575

Review form



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iv

A note about copyright Dear Customer

What does the little mean and why does it matter?

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v Introduction

Helping you to pass the BPP Learning Media Study Text reviewed by the ACCA examining-team!

BPP Learning Media ACCA Approved Learning Partner content

As ACCAs Approved Learning Partner content, BPP Learning Media gives you the opportunity to use study materials reviewed by the ACCA examination team. By incorporating the examination teams comments and suggestions regarding the depth and breadth of syllabus coverage, the BPP Learning Media Study Text provides excellent, ACCA-approved support for your studies.

The PER alert

Before you can qualify as an ACCA member, you not only have to pass all your exams but also fulfil a three year practical experience requirement (PER). To help you to recognise areas of the syllabus that you might be able to apply in the workplace to achieve different performance objectives, we have introduced the PER alert feature. You will find this feature throughout the Study Text to remind you that what you are learning to pass your ACCA exams is equally useful to the fulfilment of the PER requirement.

Your achievement of the PER should now be recorded in your on-line My Experience record.

Tackling studying

Studying can be a daunting prospect, particularly when you have lots of other commitments. The different features of the text, the purposes of which are explained fully on the Chapter features page, will help you whilst studying and improve your chances of exam success.

Developing exam awareness

Our Study Texts are completely focused on helping you pass your exam.

Our advice on Studying P7 outlines the content of the paper, the necessary skills you are expected to be able to demonstrate and any brought forward knowledge you are expected to have.

Exam focus points are included within the chapters to highlight when and how specific topics have been examined, or how they might be examined in the future.

Using the Syllabus and Study Guide

You can find the Syllabus and Study Guide on page xiv to xxiii of this Study Text.

Testing what you can do

Testing yourself helps you develop the skills you need to pass the exam and also confirms that you can recall what you have learnt.

We include Questions lots of them both within chapters and in the Practice Question Bank, as well as Quick Quizzes at the end of each chapter to test your knowledge of the chapter content.



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vi Introduction

Chapter features Each chapter contains a number of helpful features to guide you through each topic.

Topic list

Topic list Syllabus reference

Tells you what you will be studying in this chapter and the relevant section numbers, together with ACCA syllabus references.

Introduction Puts the chapter content in the context of the syllabus as a whole. Study guide Links the chapter content with ACCA guidance.

Exam guide Highlights how examinable the chapter content is likely to be and the ways in which it could be examined.

Knowledge brought forward from earlier studies

What you are assumed to know from previous studies/exams.

Summarises the content of main chapter headings, allowing you to preview and review each section easily.

Examples Demonstrate how to apply key knowledge and techniques. Key terms Definitions of important concepts that can often

earn you easy marks in exams.

Exam focus points Tell you when and how specific topics have been examined, or how they may be examined in the future.

Formula to learn Formulae that are not given in the exam but which have to be learnt.

This is a new feature that gives you a useful indication of syllabus areas that closely relate to performance objectives in your Practical Experience Requirement (PER).

Question

Essential practice of techniques covered in the chapter.

Case Study

Real world examples of theories and techniques.

Chapter Roundup A full list of the Fast Forwards included in the chapter, providing an easy source of review.

Quick Quiz A quick test of your knowledge of the main topics in the chapter.

Practice Question Bank Found at the back of the Study Text with more comprehensive chapter questions. Cross referenced for easy navigation.

FAST FORWARD



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vii Introduction

Studying P7 As the name suggests, this paper examines advanced audit and assurance topics. Paper P7 is one of the professional level Options papers and as such candidates must consider carefully whether they have the required competencies.

The P7 examination team The examination team expects you to demonstrate a highly professional approach to all questions not just presenting information in a professional manner, but also integrating knowledge and understanding of topics from across the syllabus. The examination team is also very keen for students to demonstrate evidence of wider reading and to demonstrate an understanding of current issues as they affect audit and assurance. At the absolute minimum you should read Student Accountant. The examination team often examines topics that it has written about in Student Accountant.

Syllabus update The P7 syllabus has been updated for the December 2014 sitting onwards. The full syllabus and study guide can be found in this Study Text on pages xiv to xxiii.

1 What P7 is about The aim of the syllabus is to analyse, evaluate and conclude on the assurance engagement and other audit and assurance issues in the context of best practice and current developments.

The paper builds on the topics covered in Paper F8 Audit and Assurance but as an advanced paper it tests much more than just your knowledge of ISAs and your ability to list standard audit procedures. You must be able to apply your knowledge to more complex audit and assurance scenarios, identifying and formulating the work required to meet the objectives of audit and non-audit assignments and to evaluate the findings and results of work performed. Accounting knowledge examined in Paper P2 Corporate Reporting is also assumed. Therefore, candidates studying for P7 should refer to the Accounting Standards listed under P2.

The syllabus is divided into SEVEN main sections:

(a) Regulatory environment

This section introduces the legal and regulatory environment including corporate governance issues. It also examines the topics of money laundering and the consideration of laws and regulations.

(b) Professional and ethical considerations

The details of the various ethical codes should be familiar to you from your earlier studies, however the importance of this topic should not be underestimated. The examination team has indicated that ethical and professional issues are likely to feature in every sitting. This section also covers fraud and professional liability, both of which are topical issues.

(c) Practice management

This part of the syllabus covers quality control, tendering and professional appointments. It also covers advertising, publicity, obtaining professional work and fees.

(d) Audit of historical financial information

This is the largest section of the syllabus looking in detail at the procedures involved in a range of audit and assurance assignments. The examination team has indicated that evidence gathering is a key part of the syllabus and is likely to feature at each sitting. Requirements are likely to focus on specific assertions, balances or transactions.

(e) Other assignments

This section also covers a range of audit-related and assurance services. The examination team has stressed the need for candidates to be able to tackle these types of scenario.



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viii Introduction

(f) Reporting

The detail of audit reports should be familiar to you from your earlier studies. At this level you will be expected to apply this knowledge to more complex scenarios. The examination team has also stressed the importance of the relationship between financial reporting and auditing. This will be particularly important when forming an appropriate audit opinion. This section of the syllabus also includes reports to management and other reports.

(g) Current issues and developments

Current issues and developments includes a wide range of topics including the IAASB clarity project, professional, ethical and corporate governance, information technology, going concern, transnational audits and social and environmental auditing. The examination team has indicated that this is likely to be examined at each sitting, and that candidates are expected to have read around the issues for themselves. You will need to be able to discuss current issues topics in the context of a client scenario.

2 Skills you have to demonstrate 2.1 Knowledge and application Even with exams youve previously taken, you'll remember that passing didn't only mean reproducing knowledge. You also had to apply what you knew. At Professional level, the balance is tilted much more towards application. You will need a sound basis of technical knowledge. The exams will detect whether you have the necessary knowledge. However you won't pass if you just spend your time acquiring knowledge. Developing application skills is vital.

2.2 Skills A thorough understanding of the relevant audit, assurance and financial reporting regulations that

fall within the syllabus

The ability to apply knowledge to specific client scenarios The ability to have an independent opinion, backed by reasoned argument An appreciation of commercial factors which influence practice management An appreciation of fast-moving developments in audit and assurance practices The P7 examination team made very similar comments in a number of recent examiners reports which is so important that we will quote it here:

Similar factors as detailed in previous examiners reports continue to contribute to the unsatisfactory pass rate:

Failing to answer the specific question requirements Not applying knowledge to question scenarios Not explaining or developing points in enough detail Lack of knowledge on certain syllabus areas Illegible handwriting As seen in previous sittings, what makes the difference between a pass and a fail script is usually the level of application skills which have been demonstrated. Candidates who answer the specific question requirement, and tailor their answers to the scenarios provided are likely to do well.

(Examiners Report, June 2011)



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ix Introduction

3 How to pass 3.1 Study the whole syllabus Study the entire syllabus. Although Section B of the paper contains an optional element, the two questions in Section A are compulsory and could cover a range of topics from across the syllabus. Question spotting at this level is unwise and not recommended.

3.2 Focus on themes, not lists There are quite a number of lists in the texts. This is inevitable because corporate governance guidance quoted as best practice is often in list form. Lists are also sometimes the clearest way of presenting information. However the examination team has stressed that passing the exam is not a matter of learning and reproducing lists. Good answers will have to focus on the details in the scenario and bring out the underlying themes that relate to the scenario. The points in them will have more depth than a series of single-line bullet points.

3.3 Read around Read the financial press and relevant websites for real life examples the examination team is specifically looking for evidence of wider reading.

Read Student Accountant (the ACCA's student magazine) regularly it often contains technical articles written either by or on the recommendation of the examination team which can be invaluable for future exams.

3.4 Lots of question practice You can develop application skills by attempting questions in the Exam Question Bank and later on in the BPP Learning Media Practice and Revision Kit.

4 Answering questions Practise as many questions as you can under timed conditions this is the best way of developing good exam technique. Make use of the Question Bank at the back of this text. BPPs Practice and Revision Kit contains numerous exam standard questions (many of them taken from past exam papers) as well as three mock exams for you to try.

Section A questions will be the case study type of question make sure you relate your answers to the scenario rather than being generic. Answers that are simply regurgitated from texts are unlikely to score highly.

Present your answers in a professional manner there are between four and six professional marks available for setting answers out properly and for coherent, well structured arguments and recommendations. You should be aiming to achieve all of these marks.

Consider the question requirement carefully so that you answer the actual question set.

Answer plans will help you to focus on the requirements of the question and enable you to manage your time effectively

Answer the question that you are most comfortable with first it will help to settle you down if you feel you have answered the first question well.



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x Introduction

4.1 Analysing question requirements It's particularly important to consider the question requirements carefully to make sure you understand exactly what the question is asking, and whether each question part has to be answered in the context of the scenario or is more general. You also need to be sure that you understand all the tasks that the question is asking you to perform.

Remember that every word will be important. If for example you are asked to:

'Explain the importance of identifying all risks that Company X is facing', then you would explain that:

Taking risks is bound up with strategic decision-making Some risks may have serious consequences Identifying all risks means they can be prioritised and managed efficiently and effectively You would NOT identify all the risks that Company X would be facing.

4.2 Understanding the question verbs

Verbs that are likely to be frequently used in this exam are listed below, together with their intellectual levels and guidance on their meaning.

Intellectual level

1 Define Give the meaning of

1 Explain Make clear

1 Identify Recognise or select

1 Describe Give the key features

2 Distinguish Define two different terms, viewpoints or concepts on the basis of the differences between them

2 Compare and contrast

Explain the similarities and differences between two different terms, viewpoints or concepts

2 Contrast Explain the differences between two different terms, viewpoints or concepts

2 Analyse Give reasons for the current situation or what has happened

3 Assess Determine the strengths/weaknesses/ importance/ significance/ability to contribute

3 Examine Critically review in detail

3 Discuss Examine by using arguments for and against

3 Explore Examine or discuss in a wide-ranging manner

3 Criticise Present the weaknesses of/problems with the actions taken or viewpoint expressed, supported by evidence

3 Evaluate/critically evaluate

Determine the value of in the light of the arguments for and against (critically evaluate means weighting the answer towards criticisms/arguments against).

3 Construct the case Present the arguments in favour or against, supported by evidence

3 Recommend Advise the appropriate actions to pursue in terms the recipient will understand

A lower level verb such as define will require a more descriptive answer. A higher level verb such as evaluate will require a more applied, critical answer. The examination team has stressed that higher-level requirements and verbs will be most significant in this paper, for example critically evaluating a statement and arguing for or against a given idea or position. The examination team is looking to set questions that provide evidence of student understanding.



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xi Introduction

Certain verbs have given students particular problems.

(a) Identify and explain

Although these verbs are both Level 1, the examination team sees them as requiring different things. You have to go into more depth if you are asked to explain than if you are asked to identify. An explanation means giving more detail about the problem or factor identified, normally meaning that you have to indicate why its significant. If you were asked to: (i) Identify the main problem with the same person acting as chief executive and chairman

you would briefly say excessive power is exercised by one person. (ii) Explain the main problem with the same person acting as chief executive and chairman

you would say excessive power is exercised by one person and then go on to say it would mean that the same person was running the board and the company. As the board is meant to monitor the chief executive, it cant do this effectively if the chief executive is running the board. Also you may be asked to explain or describe something complex, abstract or philosophical in nature.

(b) Evaluate

Evaluate is a verb that the examination team uses frequently. Its meaning may be different from the way that you have seen it used in other exams. The examination team expects to see arguments for and against, or pros and cons for what you are asked to evaluate.

Thus for example if a question asked you to:

Evaluate the contribution made by non-executive directors to good corporate governance in companies

You would not only have to write about the factors that help non-executive directors make a worthwhile contribution (independent viewpoint, experience of other industries). You would also have to discuss the factors that limit or undermine the contribution non-executive directors make (lack of time, putting pressure on board unity).

If the examination team asks you to critically evaluate, you will have to consider both viewpoints. However you will concentrate on the view that you are asked to critically evaluate, as the mark scheme will be weighted towards that view.

4.3 Content of answers Well-judged, clear recommendations grounded in the scenario will always score well as markers for this paper have a wide remit to reward good answers. You need to be selective. As weve said, lists of points memorised from texts and reproduced without any thought won't score well.

The examiner identified lack of application skills as a serious weakness in many student answers. What constitutes good application will vary question by question but is likely to include:

Only including technical knowledge that is relevant to the scenario. For example, although the SPAMSOAP mnemonic can be a useful memory aid, you shouldnt quote it in full just because the question requirements contain the word control

Only including scenario details that support the points you are making, for example quoting from the scenario to explain why youre making a particular recommendation

Tackling the problems highlighted in the scenario and the question requirements Explaining why the factors youre discussing are significant Taking a top-down strategic approach remember that at Professional level youre meant to be

adopting the viewpoint of a partner or finance director. Excessive detail about operations is not important

Important!



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xii Introduction

5 Gaining professional marks As P7 is a Professional level paper, 4 professional level marks will be awarded in a section A question. These are marks allocated not for the content of an answer, but for the degree of professionalism with which certain parts of the answer are presented.

The examination team has stated that some marks may be available for presenting your answer in the form of a letter, presentation, memo, report, briefing notes, management reporting, narrative or press statement. You may also be able to obtain marks for the layout, logical flow and presentation of your answer. You should also make sure that you provide the points required by the question.

Whatever the form of communication requested, you will not gain professional marks if you fail to follow the basics of good communication. Keep an eye on your spelling and grammar. Also think carefully, am I saying things that are appropriate in a business communication?

6 Brought forward knowledge The P7 syllabus assumes knowledge brought forward from F8 Audit and Assurance. It also assumes knowledge from Paper F7 Financial Reporting and Paper P2 Corporate Reporting. It is very important to be comfortable with your financial reporting studies because such aspects are likely to come up in scenario-based questions in Sections A and B of this paper.

The P7 examination team has written a number of articles relevant to the P7 exam and it is highly recommended that you read them. A list of these articles can be found after Chapter 18 of this study text.

Important!



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xiii Introduction

Syllabus and Study Guide The P7 syllabus and study guide can be found below.

Syllabus AIM

To analyse, evaluate and conclude on the assurance engagement and other audit and assurance issues in the context of best practice and current developments

MAIN CAPABILITIES

On successful completion of this paper candidates should be able to:

A Recognise the legal and regulatory environment and its impact on audit and assurance practice

B Demonstrate the ability to work effectively on an assurance or other service engagement within a professional and ethical framework

C Assess and recommend appropriate quality control policies and procedures in practice management and recognise the auditors position in relation to the acceptance and retention of professional appointments

D Identify and formulate the work required to meet the objectives of audit assignments and apply the International Standards on Auditing

E Identify and formulate the work required to meet the objectives of non-audit assignments

F Evaluate findings and the results of work performed and draft suitable reports on assignments

G Understand the current issues and developments relating to the provision of audit-related and assurance service

RELATIONAL DIAGRAM OF MAIN CAPABILITIES

CR (P2) AAA (P7)

AA (F8)

Regulatoryenvironment (A)

Professional and ethical considerations (B)

Practice management (C)

Audit of historical financialinformation (D)

Other assignments (E)

Reporting (F)

Current issues and development (G)

ACCA 2014 All rights reserved.



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xiv Introduction

RATIONALE

The Advanced Audit and Assurance syllabus is essentially divided into seven areas.

The syllabus starts with the legal and regulatory environment including money laundering, and professional and ethical considerations, including the Code of Ethics and professional liability. This then leads into procedures in practice management, including quality control and the acceptance and retention of professional engagements.

The syllabus then covers the audit of financial statements, including planning, evidence and review. It then covers other assignments including prospective financial information, and other assurance assignments, as well as the reporting of these assignments.

The final section covers current issues and developments relating to the provision of audit-related and assurance services.




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xv Introduction

DETAILED SYLLABUS

A Regulatory Environment

1. International regulatory frameworks for audit and assurance services

2. Money laundering

3. Laws and regulations

B Professional and Ethical Considerations

1. Code of Ethics for Professional Accountants

2. Fraud and error

3. Professional liability

C Practice Management

1. Quality control

2. Advertising, publicity, obtaining professional work and fees

3. Tendering

4. Professional appointments

D Audit of historical financial information

1. Planning, materiality and assessing the risk of misstatement

2. Evidence

3. Evaluation and review

4. Group audits

E Other assignments

1. Audit-related and assurance services

2. Prospective financial information

3. Forensic audits

4. Internal audit

5. Outsourcing 6 The audit of performance information in

public sector F Reporting

1. Auditors reports

2. Reports to those charged with governance and management

3. Other reports

G Current Issues and Developments

1. Professional and ethical

2. Transnational audits

3. The audit of social, environmental and integrated reporting

4. Other current issues




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xvi Introduction

APPROACH TO EXAMINING THE SYLLABUS

The examination is a three hour paper constructed in two sections. Questions in both sections will be largely discursive. However, candidates will be expected, for example, to be able to assess materiality and calculate relevant ratios where appropriate.

Section A questions will be based on case study type questions. That is not to say that they will be particularly long, rather that they will provide a setting within a range of topics, issues and requirements can be addressed. Different types of question will be encountered in Section B and will tend to be more focussed on specific topics, for example auditors reports, quality control and topics of ISAs which are not examinable in Paper F8, Audit and Assurance. (This does not preclude these topics from appearing in Section A). Current issues will be examined across a number of questions.

Section A: 2 compulsory questions Question 1 35 marks Question 2 25 marks

Section B: Choice of 2 from 3 40 marks questions 20 marks each 100 marks




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xvii Introduction

Study Guide A REGULATORY ENVIRONMENT

1. International regulatory frameworks for audit and assurance services

a) Explain the need for laws, regulations, standards and other guidance relating to audit, assurance and related services.[2]

b) Outline and explain the need for the legal and professional framework including:[2]

i) Public oversight to an audit and assurance practice

ii) The role of audit committees and impact on audit and assurance practice

2. Money laundering

a) Define money laundering.[1]

b) Explain how international efforts seek to combat money laundering.[2]

c) Explain the scope of criminal offences of money laundering and how professional accountants may be protected from criminal and civil liability.[2]

d) Explain the need for ethical guidance in this area.[2]

e) Describe how accountants meet their obligations to help prevent and detect money laundering including record keeping and reporting of suspicion to the appropriate regulatory body.[2]

f) Explain the importance of customer due diligence (CDD).[2]

g) Recognise potentially suspicious transactions and assess their impact on reporting duties.[2]

h) Describe, with reasons, the basic elements of an anti-money laundering program.[2]

3. Laws and regulations

a) Compare and contrast the respective responsibilities of management and auditors concerning compliance with laws and regulations in an audit of financial statements.[2]

b) Describe the auditors considerations of compliance with laws and regulations and plan audit procedures when possible noncompliance is discovered.[2]

c) Discuss how and to whom non-compliance should be reported.[2]

d) Recognise when withdrawal from an engagement is necessary.[2]

B PROFESSIONAL AND ETHICAL CONSIDERATIONS

1. Code of Ethics for Professional Accountants

a) Explain the fundamental principles and the conceptual framework approach.[1]

b) Identify, evaluate and respond to threats to compliance with the fundamental principles.[3]

c) Discuss and evaluate the effectiveness of available safeguards.[3]

d) Recognise and advise on conflicts in the application of fundamental principles.[3]

e) Discuss the importance of professional scepticism in planning and performing an audit.[2]

f) Assess whether an engagement has been planned and performed with an attitude of professional scepticism, and evaluate the implications.[3]

2. Fraud and error

a) Define and clearly distinguish between the terms error, irregularity, fraud and misstatement.[2]

b) Compare and contrast the respective responsibilities of management and auditors for fraud and error.[2]

c) Describe the matters to be considered and procedures to be carried out to investigate actual and/or potential misstatements in a given situation.[2]

d) Explain how, why, when and to whom fraud and error should be reported and the circumstances in which an auditor should withdraw from an engagement.[2]

e) Discuss the current and possible future role of auditors in preventing, detecting and reporting error and fraud.[2]

3. Professional liability

a) Recognise circumstances in which professional accountants may have legal liability.[2]

b) Describe the factors to determine whether or not an auditor is negligent in given situations.[2]

c) Explain the other criteria for legal liability to be recognised (including due professional care and proximity) and apply them to given situations.[2]




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xviii Introduction

d) Compare and contrast liability to client with liability to third parties.[3]

e) Evaluate the practicability and effectiveness of ways in which liability may be restricted.[3]

f) Discuss liability limitation agreements.[2]

g) Discuss and appraise the principal causes of audit failure and other factors that contribute to the expectation gap (eg responsibilities for fraud and error).[3]

h) Recommend ways in which the expectation gap might be bridged.[2]

C PRACTICE MANAGEMENT

1. Quality control

a) Explain the principles and purpose of quality control of audit and other assurance engagements.[1]

b) Describe the elements of a system of quality control relevant to a given firm.[2]

c) Select and justify quality control procedures that are applicable to a given audit engagement.[3]

d) Assess whether an engagement has been planned and performed in accordance with professional standards and whether reports issued are appropriate in the circumstances.[3]

2. Advertising, publicity, obtaining professional work and fees

a) Recognise situations in which specified advertisements are acceptable.[2]

b) Discuss the restrictions on practice descriptions, the use of the ACCA logo and the names of practising firms.[2]

c) Discuss the extent to which reference to fees may be made in promotional material.[2]

d) Outline the determinants of fee-setting and justify the bases on which fees and commissions may and may not be charged for services.[3]

e) Discuss the ethical and other professional problems, for example, lowballing, involved in establishing and negotiating fees for a specified assignment.[3]

3. Tendering

a) Discuss the reasons why entities change their auditors/professional accountants.[2]

b) Recognise and explain the matters to be considered when a firm is invited to submit a proposal or fee quote for an audit or other professional engagement.[2]

c) Identify the information to be included in a proposal.[2]

4. Professional appointments

a) Explain the matters to be considered and the procedures that an audit firm/professional accountant should carry out before accepting a specified new client/engagement including:[3]

i) Client acceptance

ii) Engagement acceptance

iii) Establish whether the preconditions for an audit are present

iv) Agreeing the terms of engagement

b) Recognise the key issues that underlie the agreement of the scope and terms of an engagement with a client.[2]

D AUDIT OF HISTORICAL FINANCIAL INFORMATION

1. Planning, materiality and assessing the risk of misstatement

a) Define materiality and performance materiality and demonstrate how it should be applied in financial reporting and auditing.[2]

b) Identify and explain business risks for a given assignment.[3]

c) Identify and explain audit risks for a given assignment.[3]

d) Identify and explain risks of material misstatement for a given assignment.[3]

e) Discuss and demonstrate the use of analytical procedures in the planning of an assignment.[3]

f) Explain how the result of planning procedures determines the relevant audit strategy.[2]

g) Explain the planning procedures specific to an initial audit engagement.[2]

h) Identify additional information that may be required in order to effectively plan an assignment.[2]

i) Recognise matters that are not relevant to the planning of an assignment.[2]

2. Evidence

a) Identify and describe audit procedures to obtain sufficient audit evidence from identified sources.[2]




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xix Introduction

b) Identify and evaluate the audit evidence

expected to be available to:

i) Support the financial statement assertions and accounting treatments (including fair values)

ii) Support disclosures made in the notes to the financial statements [3]

c) Apply analytical procedures to financial and non-financial data.[2]

d) Explain the specific audit problems and procedures concerning related parties and related party transactions.[2]

e) Recognise circumstances that may indicate the existence of unidentified related parties and select appropriate audit procedures.[2]

f) Evaluate the use of written management representations to support other audit evidence.[2]

g) Recognise when it is justifiable to place reliance on the work of an expert (e.g. a surveyor employed by the audit client).[2]

h) Assess the appropriateness and sufficiency of the work of internal auditors and the extent to which reliance can be placed on it. [2]

3. Evaluation and review

a) Evaluate the matters (eg materiality, risk, relevant accounting standards, audit evidence) relating to:[3]

i) Inventory and construction contracts

ii) Standard costing systems

iii) Statement of cash flows

iv) Changes in accounting policy

v) Taxation (including deferred tax)

vi) Segmental reporting

vii) Non-current assets

viii) Fair value

ix) Leases

x) Revenue recognition

xi) Employee benefits

xii) Government grants

xiii) Related parties

xiv) Earnings per share

xv) Impairment

xvi) Provisions, contingent liabilities and contingent assets

xvii) Intangible assets

xviii) Financial instruments

xix) Investment properties

xx) Share-based payment transactions

xxi) Business combinations

xxii) Assets held for sale and discontinued operations

xxiii) Events after the end of the reporting period

xxiv) The effects of foreign exchange rates

xxv) Borrowing costs

b) Explain the use of analytical procedures in evaluation and review.[3]

c) Explain how the auditors responsibilities for corresponding figures, comparative financial statements, and other information, are discharged.[3]

d) Apply the further considerations and audit procedures relevant to initial engagements.[2]

e) Discuss the courses of action available to an auditor if an inconsistency or misstatement of fact exists in relation to other information such as contained in the integrated report.[2]

f) Specify audit procedures designed to identify subsequent events that may require adjustment to, or disclosure in, the financial statements of a given entity.[2]

g) Identify and explain indicators that the going concern basis may be in doubt and recognize mitigating factors.[2]

h) Recommend audit procedures, or evaluate the evidence that might be expected to be available and assess the appropriateness of the going concern basis in given situations.[3]

i) Assess the adequacy of disclosures in financial statements relating to going concern and explain the implications for the auditors report with regard to the going concern basis.[3]

4. Group audits

a) Recognise the specific matters to be considered before accepting appointment as principal auditor to a group in a given situation.[3]

b) Explain the responsibilities of the component auditor before accepting appointment, and the procedures to be performed in a group situation.[2]




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xx Introduction

c) Identify and explain the matters specific to planning an audit of group financial statements including assessment of group and component materiality, the impact of non-coterminous year ends within a group, and changes in group structure.[2]

d) Justify the situations where a joint audit would be appropriate.[2]

e) Recognise the audit problems and describe audit procedures specific to a business combination, including goodwill, accounting policies, inter-company trading, the classification of investments, equity accounting for associates, changes in group structure, and accounting for a foreign subsidiary.[3]

f) Identify and explain the audit risks, and necessary audit procedures relevant to the consolidation process.[3]

g) Identify and describe the matters to be considered and the procedures to be performed at the planning stage, when a principal auditor considers the use of the work of component auditors.[3]

h) Consider how the principal auditor should evaluate the audit work performed by a component auditor.[2]

i) Explain the implications for the auditors report on the financial statements of an entity where the opinion on a component is qualified or otherwise modified in a given situation.[2]

E OTHER ASSIGNMENTS

1. Audit-related and assurance services

a) Describe the nature of audit-related services, the circumstances in which they might be required and the comparative levels of assurance provided by professional accountants and distinguish between:[2]

i) Audit-related services and an audit of historical financial statements

ii) An attestation engagement and a direct reporting engagement [2]

b) Plan review engagements, for example: [2]

i) A review of interim financial information

ii) A due diligence assignment (when acquiring a company, business or other assets)

c) Explain the importance of enquiry and analytical procedures in review engagements and apply these procedures.[2]

d) Describe the main categories of assurance services that audit firms can provide and assess the benefits of providing these services to management and external users.[3]

e) Describe the level of assurance (reasonable, high, moderate, limited, negative) for an engagement depending on the subject matter evaluated, the criteria used, the procedures applied and the quality and quantity of evidence obtained.[3]

2. Prospective financial information

a) Define prospective financial information (PFI) and distinguish between a forecast, a projection, a hypothetical illustration and a target.[1]

b) Explain the principles of useful PFI.[1]

c) Identify and describe the matters to be considered before accepting a specified engagement to report on PFI.[2]

d) Discuss the level of assurance that the auditor may provide and explain the other factors to be considered in determining the nature, timing and extent of examination procedures.[1]

e) Describe examination procedures to verify forecasts and projections.[2]

f) Compare the content of a report on an examination of PFI with reports made in providing audit-related services.[2]

3. Forensic audits

a) Define the terms forensic accounting, forensic investigation and forensic audit.[1]

b) Describe the major applications of forensic auditing (eg fraud, negligence, insurance claims) and analyse the role of the forensic auditor as an expert witness.[2]

c) Apply the fundamental ethical principles to professional accountants engaged in forensic audit assignments.[2]

d) Plan a forensic audit engagement.[2]

e) Select investigative procedures and evaluate evidence appropriate to determining the loss in a given situation.[3]

4. Internal audit

a) Evaluate the potential impact of an internal audit department on the planning and performance of the external audit.[2]

b) Explain the benefits and potential drawbacks of outsourcing internal audit.[2]




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xxi Introduction

c) Consider the ethical implications of the external auditor providing an internal audit service to a client.[2]

5. Outsourcing

a) Explain the different approaches to outsourcing and compare with insourcing.[2]

b) Discuss and conclude on the advantages and disadvantages of outsourcing finance and accounting functions.[3]

c) Recognise and evaluate the impact of outsourced functions on the conduct of an audit.[3]

6. The audit of performance information in public sector

a) Describe the audit of performance information and differentiate from performance auditing. [2]

b) Plan the audit of performance information, and describe examination procedures to be used in the audit of performance information. [3]

c) Discuss the existence, measurability and relevance of reported performance information. [3]

d) Discuss the form and content of a report on the audit of performance information [2]

e) Discuss the content of an audit conclusion on an integrated report of performance against predetermined objectives [3]

F REPORTING

1. Auditors reports

a) Critically appraise the form and content of an auditors report in a given situation.[3]

b) Recognise and evaluate the factors to be taken into account when forming an audit opinion in a given situation and justify audit opinions that are consistent with the results of audit procedures.[3]

c) Assess whether or not a proposed audit opinion is appropriate.[3]

d) Advise on the actions which may be taken by the auditor in the event that a modified audit report is issued.[3]

e) Recognise when the use of an emphasis of matter paragraph and other matter paragraph would be appropriate.[3]

2. Reports to those charged with governance and management

a) Critically assess the quality of a report to those charged with governance and management. [3]

b) Advise on the content of reports to those charged with governance and management in a given situation.[3]

3. Other reports

a) Analyse the form and content of the professional accountants report for an assurance engagement as compared with an auditors report.[2]

b Discuss the content of a report on examination of prospective financial information.[2]

c) Discuss the effectiveness of the negative assurance form of reporting and evaluate situations in which it may be appropriate to express a reservation or deny a conclusion.[3]

G CURRENT ISSUES AND DEVELOPMENTS

Discuss the relative merits and the consequences of different standpoints taken in current debates and express opinions supported by reasoned arguments.

1. Professional and ethical

a) Discuss the relative advantages of an ethical framework and a rulebook.[2]

b) Identify and assess relevant emerging ethical issues and evaluate the safeguards available.[3]

c) Discuss IFAC developments.[2]

2. Transnational audits

a) Define transnational audits and explain the role of the Transnational Audit Committee (TAC) of IFAC.[1]

b) Discuss how transnational audits may differ from other audits of historical financial information (eg in terms of applicable financial reporting and auditing standards, listing requirements and corporate governance requirements). [2]

3. The audit of social , environmental and integrated reporting

a) Plan an engagement to provide assurance on integrated reporting (performance measures and sustainability indicators).[2]

b) Describe the difficulties in measuring and reporting on economic, environmental and social performance and give examples of performance measures and sustainability indicators.[2]




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xxii Introduction

c) Explain the auditors main considerations in respect of social and environmental matters and how they impact on entities and their financial statements (eg impairment of assets, provisions and contingent liabilities).[2]

d) Describe substantive procedures to detect potential misstatements in respect of socio-environmental matters.[2]

e) Discuss the form and content of an independent verification statement of an integrated report [2]

4. Other current issues

a) Explain current developments in auditing standards including the need for new and revised standards and evaluate their impact on the conduct of audits. [3]

b) Discuss other current legal, ethical, other professional and practical matters that affect accountants, auditors, their employers and the profession. [3]




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xxiii Introduction

The exam paper

Format of the paper Number of marks Section A: Two compulsory questions: Question one 35 Question two 25 Section B: Choice of two from three questions (20 marks each) 40 100

Time allowed: 3 hours

Guidance

Section A will consist of two compulsory case study style questions. These will include detailed information including, for example, extracts from financial statements and audit working papers. The questions will include a range of requirements covering different syllabus areas.

Section B questions will tend to be more focused towards specific topic areas, such as ethical issues and auditors reports. Short scenarios will be provided as a basis for these questions.



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xxiv Introduction

Analysis of past papers The table below provides details of when each element of the syllabus has been examined and the question number and section in which each element appeared. Further details can be found in the Exam Focus Points in the relevant chapters.

Covered in Ch

D 13

J 13

D 12

J 12

D 11

J 11

D 10

J 10

D 09

J 09

D 08

J 08

D 07 PP

Regulatory environment

1 International regulatory frameworks for audit and assurance services

2(d) 5 (b)

1 Money laundering 3(a) 2 (c)

4 (a)

5

(a) 5

(b)

1 Laws and regulations

3(b) 4 (b)

Professional and ethical considerations

2 Codes of ethics for professional accountants

1(c) 4

1(b)2(a)

1(a), 3(b)

1(b),

3(b), 4

2

(b)

3 (a)

2 (a) 4

(b)

3(b), 4

4 (b)

4 4 4 5 (b)

4 (b) 4

(c)

5

(b)

3 Fraud and error 4(a) 2(d) 5 (a)

3 Professional liability

4(a) 5(b) 5 (c)

Practice Management

4 Quality control 2(a) 5(a) 1

(b)

2 (b)

5 (c)

3 (c)

1 (c)

3, 5

(b)

5 Advertising, publicity, obtaining professional work and fees

1

(b)

4 (a)

4 (b)

5 Tendering 3(a) 2 (b) 2

(c)

5 Professional appointments

3 (a)

4 (a)

2 (a) 2

(c)

1 (c)



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xxv Introduction

Covered in Ch

D 13

J 13

D 12

J 12

D 11

J 11

D 10

J 10

D 09

J 09

D 08

J 08

D 07 PP

Assignments

6,7,8, 9,10

The audit of historical financial information including:

(i) planning, materiality and assessing the risk of misstatement

(ii) Evidence

(iii) Evaluation and review

1, 3, 5

1 (a) 3

4 (b)

5 (b)

(c)

1, 2, 3(a)-(b), 5(a)

1(a),

2(b),

3(a)-(b), 5(a)

1

(a)2

(a)-(b) 3

(a)-(c) 5

(a)-(b)

1, 2, 3

(b)

1

(a) 2

(c) 3

(a)-(c)

1, 3(b)

, 5(a)

1, 2 (a)-(b)5

1 (a) 1

(b) 1

(c) 3

(a) 3

(b)

1 (a)1 (b) 3, 5

1 (a) 1

(b) 3

(a) 3

(b)

1 (a) 1

(b) 2

(b) 2

(c) 2

(d)

11 Group audits 1 (b)

5 (a)

1(a) 5 (b)

2 (d)

2 (b) 2

(c)

1

(a)1

(b) 1

(c) 1

(d)

Other assignments

12 Audit-related services

2 4 3 (b)

5 (c)

12 Assurance services

2(a),

2(b)

3 (b)

2 (a)

3 (a) 3

(b)

13 Prospective financial information

2(a) 2 (a)

3

14 Forensic audits 2 (b)

3(c) 4

(a)-(b)

2(c) 2 3 (c)

2

(a) 2

(b)2

(c) 2

(d)

15 Social and environmental auditing

2(b) 2

(a)2

(b)

1

(c)

15 Public sector audit of performance information

16 Internal audit and outsourcing

4 (a)

2(b), (b)

2 (a)



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xxvi Introduction

Covered in Ch

D 13

J 13

D 12

J 12

D 11

J 11

D 10

J 10

D 09

J 09

D 08

J 08

D 07 PP

Reports

17 Auditors reports 5 (b)

5 5 5(b) 5(a)-(b)

5 (a)

5(a) 5(a) 5 (b)

5 (a)

4

17 Reports to management

5(b) 5 (a)

17 Other reports 3 (b)

Current issues and developments

1,2,3 Professional, ethical and corporate governance

4(c) 4(b) 4

11 Transnational audits

2(d)

15 Social and environmental auditing

18 Other current issues

4(a) 3(a) 4 (a)

5 (a)



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1

Regulatory environment

P

A

R

T

A



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2



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3

Topic list Syllabus reference

1 International regulatory frameworks for audit and assurance services

A1

2 Audit committees A1

3 Internal control effectiveness A1

4 Money laundering A2

5 Laws and regulations A3

International regulatory environments for audit and assurance services

Introduction This chapter covers a wide range of regulations that affect the work of audit and assurance professionals. You need to be aware of the international nature of the audit and assurance market and the main issues driving the development of regulatory frameworks.

The detailed requirements relating to money laundering are then discussed. You should be prepared to explain the responsibilities of professional accountants in this area and to outline the procedures that audit firms should implement.

The final section looks at the auditor's responsibilities in respect of laws and regulations that apply to an audit client. This is a topic that could be built in to a practical case study question.



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4 1: International regulatory environments for audit and assurance services Part A Regulatory environment

Study guide Intellectual level

A Regulatory environment

A1 International regulatory frameworks for audit and assurance services

(a) Explain the need for laws, regulations, standards and other guidance relating to audit, assurance and related services

2

(b) Outline and explain the legal and professional framework including:

(i) Public oversight to an audit and assurance practice

(ii) The role of audit committees and impact on audit and assurance practice

2

A2 Money laundering

(a) Define 'money laundering' 1

(b) Explain how international efforts seek to combat money laundering 2

(c) Explain the scope of criminal offences of money laundering and how professional accountants may be protected from criminal and civil liability

2

(d) Explain the need for ethical guidance in this area 2

(e) Describe how accountants meet their obligations to help prevent and detect money laundering including record keeping and reporting of suspicion to the appropriate regulatory body

2

(f) Explain the importance of customer due diligence (CDD) 2

(g) Recognise potentially suspicious transactions and assess their impact on reporting duties

2

(h) Describe, with reasons, the basic elements of an anti-money laundering program

2

A3 Laws and regulations

(a) Compare and contrast the respective responsibilities of management and auditors concerning compliance with laws and regulations in an audit of financial statements

2

(b) Describe the auditor's considerations of compliance with laws and regulations and plan audit procedures when possible non-compliance is discovered

2

(c) Discuss how and to whom non-compliance should be reported 2

(d) Recognise when withdrawal from an engagement is necessary 2

Exam guide The technical content of this part of the syllabus is mainly drawn from your earlier studies. Questions in this paper are unlikely to ask for simple repetition of this knowledge, but are more likely to require explanation or discussion of the reasons behind the regulations.



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Part A Regulatory environment 1: International regulatory environments for audit and assurance services 5

1 International regulatory frameworks for audit and assurance services Major developments in international regulation of audit and assurance have recently concluded, with far-reaching effects on ISAs.

1.1 The need for laws, regulations, standards and other guidance Corporate scandals, such as Enron and Worldcom in the USA, and more recently Olympus in Japan and Autonomy in the UK, have brought the audit profession under close scrutiny from investors, businesses, regulators and others.

Businesses have become more complex and global, and firms of accountants have expanded their range of services well beyond traditional assurance and tax advice. This has led to a great deal of re-examination of regulatory and standard-setting structures both nationally and internationally in recent years.

1.2 The legal and professional framework

One of the competencies you require to fulfil Performance Objective 18 of the PER is the ability to describe the audit regulatory and legal framework. You can apply the knowledge you obtain from this section of the Study Text to help you demonstrate this competency.

You have studied the regulatory framework in earlier papers. The following summaries will provide a quick reminder. Note that the UK regulatory framework is given in this International-stream Study Text as an example only.

1.2.1 Overview of the UK regulatory framework

The EU 8th Directive on company law requires that persons carrying out statutory audits must be approved by the authorities of EU member states. The authority to give this approval in the UK is delegated to Recognised Supervisory Bodies (RSBs). An auditor must be a member of an RSB and be eligible under its own rules. The ACCA is a RSB.

The RSBs are required by the Companies Act to have rules to ensure that persons eligible for appointment as a company auditor are either:

Individuals holding an appropriate qualification Firms controlled by qualified persons

The Financial Reporting Council

The Financial Reporting Council (FRC) is the UK's independent regulator for corporate reporting and governance. Its structure has recently been revised.

The FRC now has the following core structure and responsibilities under the overarching FRC Board:

Codes and Standards Committee responsible for actuarial policy, audit and assurance, corporate governance, and accounting and reporting policy

Conduct Committee responsible for audit quality review, corporate reporting review, professional discipline, professional oversight, and supervisory inquiries

Executive Committee providing day to day oversight of the work of the FRC

FAST FORWARD



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The main changes that concern P7 students are:

The APB (Auditing Practices Board) is no longer responsible for auditing standards (ISAs). This is now the direct responsibility of the FRC Board but the Board is advised by the new 'Codes and Standards Committee', which is in turn advised by the new 'Audit and Assurance Council'.

The ASB (Accounting Standards Board) is no longer responsible for accounting standards. Again, this responsibility has now passed to the FRC Board, which is advised by the 'Codes and Standards Committee' and the 'Accounting Council' in turn.

The revised role of the FRC Board is:

To set high standards of corporate governance through the UK Corporate Governance Code To set standards for corporate reporting and actuarial practice To monitor and enforce accounting and auditing standards To oversee regulatory activities of the actuarial profession and professional accountancy bodies To operate independent disciplinary arrangements for public interest cases The revised structure is shown by the following diagram.

Although this restructure took place some time ago, the FRC is still in the process of 're-branding' documents and other publications issued by the former APB and other bodies under the old structure. You will therefore see references in the text to APB pronouncements where these still exist and are in force.

Point to note



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1.2.2 International standard setting

International Standards on Auditing (ISAs) are produced by the International Auditing and Assurance Standards Board (IAASB), a technical standing committee of the International Federation of Accountants (IFAC). You should also be familiar with the International Ethics Standards Board for Accountants (IESBA), another body of IFAC and the producer of the Code of Ethics (see Chapter 2).

The IAASB's Preface to International Standards on Quality Control, Auditing, Assurance and Related Services Pronouncements states that all of the IAASB's 'engagement standards' above are 'authoritative material', which means that they must be followed in an audit that is conducted in accordance with ISAs.

The IAASB also publishes four kinds of 'non-authoritative material':

International Auditing Practice Notes (IAPNs). These do not impose additional requirements on auditors, but provide them with practical assistance.

Practice Notes Relating to Other International Standards, eg in relation to ISREs, ISAEs or ISRSs Staff Publications, which are used to help raise awareness of new or emerging issues, and to direct

attention to the relevant parts of IAASB pronouncements

Consultation Papers, which seek to generate discussion with stakeholders Within each country, local regulations govern, to a greater or lesser degree, the practices followed in the auditing of financial or other information. Such regulations may be either of a statutory nature, or in the form of statements issued by the regulatory or professional bodies in the countries concerned.

National standards on auditing and related services published in many countries differ in form and content. The IAASB takes account of such documents and differences and, in the light of such knowledge, issues ISAs which are intended for international acceptance.

The IAASB issued the Consultation Paper on A Framework for Audit Quality (Jan 2013) in this area, which is covered in Chapter 18.

IFAC (International Federation of

Accountants)

IAASB (International Auditing and

Assurance Standards Board) ISAs (International

Standards on Auditing) ISQCs (International

Standards on Quality Control)

ISREs (International Standards on Review Engagements)

ISAEs (International Standards on Assurance Engagements)

ISRSs (International Standards on Related Services)

IESBA (International Ethics Standards Board for Accountants) Board

for Accountants) Code of Ethics for

Professional Accountants

Point to note



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1.2.3 The IAASB clarity project

In 2003 the IAASB reviewed the drafting conventions used in its ISAs, with a view to improving the clarity and overall understandability, and therefore the consistent application of its ISAs.

The IAASB's Preface to International Standards on Quality Control, Auditing, Review, other Assurance and Related Services (2007) established the conventions to be used by the Board in drafting future ISAs. In accordance with this, redrafted ISAs are structured as follows.

Objective. This provides the context in which the requirements of the ISA are met. Requirements. These are contained in a separate section and expressed using the word 'shall'. Application and other explanatory material. This is an integral part of the ISA.

1.2.4 Current ISAs

No Title

200 Overall Objective of the Independent Auditor, and the Conduct of an Audit in Accordance with International Standards on Auditing

210 Agreeing the Terms of Audit Engagements

220 Quality Control for an Audit of Financial Statements

230 Audit documentation

240 The Auditor's Responsibilities Relating to Fraud in an Audit of Financial Statements

250 Consideration of Laws and Regulations in an Audit of Financial Statements

260 Communication with Those Charged with Governance

265 Communicating Deficiencies in Internal Control to Those Charged with Governance and Management

300 Planning an Audit of Financial Statements

315 Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment (Revised)

320 Materiality in Planning and Performing an Audit

330 The Auditor's Responses to Assessed Risks

402 Audit Considerations Relating to an Entity Using a Service Organization

450 Evaluation of Misstatements Identified during the Audit

500 Audit Evidence

501 Audit Specific Considerations for Selected Items

505 External Confirmations

510 Initial Audit Engagements Opening Balances

520 Analytical Procedures

530 Audit Sampling

540 Auditing Accounting Estimates, Including Fair Value Accounting Estimates, and Related Disclosures

550 Related Parties

560 Subsequent Events

570 Going Concern

580 Written Representations

600 Special Considerations Audits of Group Financial Statements (Including the Work of Component Auditors)

610 Using the Work of Internal Auditors (Revised)

620 Using the Work of an Auditor's Expert

700 Forming an Opinion and Reporting on Financial Statements

705 Modifications to the Opinion in the Independent Auditor's Report



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706 Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor's Report

710 Comparative Information Corresponding Figures and Comparative Financial Statements

720 The Auditor's Responsibilities Relating to Other Information in Documents Containing Audited Financial Statements

ISQC 1 Quality Controls for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements

Notes

1 Students should be aware of the nature and meaning of the audit report and should be able to discuss the contents and wording of the report. Students would not be asked to reproduce the audit report in full in an exam question, but they may be requested to prepare explanatory paragraphs for inclusion in the report particularly in situations leading to a modified report.

2 Students are advised that questions will be based on the principles and good practice set out in the International Standards on Auditing.

International standards are quoted throughout this text and you must understand how they are applied in practice. Make sure you refer to auditing standards when answering questions.

1.3 Public oversight

Public oversight of the audit profession and of standard-setting has been a trend in recent regulatory developments internationally.

1.3.1 Public oversight internationally

In February 2005 the Public Interest Oversight Board (PIOB) was launched to exercise oversight for all of IFAC's 'public interest activities' including its standard-setting bodies such as the IAASB. Its work involves:

Monitoring the standard-setting boards Overseeing the nomination process for membership of these boards Co-operation with national oversight authorities The objective of the international PIOB is to increase the confidence of investors and others that the public interest activities of IFAC are properly responsive to the public interest. The PIOB is based in Madrid, Spain, where it operates as a non-profit Spanish foundation.

1.3.2 Other examples of public oversight

An example of public oversight is the Professional Oversight team of the UK's FRC (formerly the Professional Oversight Board, or POB), which has a number of statutory responsibilities. These include:

Independent oversight of the regulation of statutory auditors by the RSBs (eg ACCA) Independent supervision of Auditors General in respect of the exercise of their function as

statutory auditors

The receipt of statutory change of auditor notifications from companies and statutory auditors in respect of 'major audits'

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Case Study

Amongst other significant scandals in America in recent years was the Enron scandal, when one of the country's biggest companies filed for bankruptcy. The scandal also resulted in the disappearance of Arthur Andersen, one of the then-Big Five accountancy firms who had audited Enron's financial statements. The main reasons why Enron collapsed were over-expansion in energy markets, too much reliance on derivatives trading which eventually went wrong, breaches of federal law, and misleading and dishonest behaviour. However enquiries into the scandal exposed a number of deficiencies in the company's governance

(a) A lack of transparency in the financial statements, especially in relation to certain investment vehicles that were kept off-balance sheet.

(b) The non-executive directors were weak, and there were conflicts of interest.

(c) Inadequate scrutiny by the external auditors. Arthur Andersen failed to spot or failed to question dubious accounting treatments. Since Andersen's consultancy arm did a lot of work for Enron, there were allegations of conflicts of interest.

(d) Information asymmetry where the directors and managers knew more than the investors.

(e) Executive compensation methods were meant to align the interests of shareholders and directors, but seemed to encourage the overstatement of short-term profits. Particularly in the USA, where the tenure of Chief Executive Officers is fairly short, the temptation is strong to inflate profits in the hope that share options will have been cashed in by the time the problems are discovered.

In the US, the response to the breakdown of stock market trust caused by perceived inadequacies in corporate governance arrangements and the Enron scandal was the Sarbanes-Oxley Act 2002. The Act applies to all companies that are required to file periodic reports with the Securities and Exchange Commission (SEC).

The Public Company Accounting Oversight Board (PCAOB) is a private sector body in the USA created by Sarbanes-Oxley. Its aim is to oversee the auditors of public companies. Its stated purpose is to 'protect the interests of investors and further the public interest in the preparation of informative, fair and independent audit reports'. Its powers include setting auditing, quality control, ethics, independence and other standards relating to the preparation of audit reports by issuers. It also has the authority to regulate the non-audit services that audit firms can offer.

Sarbanes-Oxley has been criticised in some quarters for not being strong enough on certain issues, for example the selection of external auditors by the audit committee, and at the same time being over-rigid on others. Directors may be less likely to consult lawyers in the first place if they believe that legislation could override lawyer-client privilege.

In addition, it has been alleged that a Sarbanes-Oxley compliance industry has sprung up focusing companies' attention on complying with all aspects of the legislation, irrespective of how significant they may be. This has distracted companies from improving information flows to the market and then allowing the market to make well-informed decisions. The Act has also done little to address the temptation provided by generous stock options to inflate profits, other than requiring possible forfeiture if financial statements are subsequently restated.

Most significantly perhaps, there is recent evidence of companies turning away from the US stock markets and towards other markets such as London. An article in the Financial Times suggested that this was partly due to companies tiring of the increased compliance costs associated with Sarbanes-Oxley implementation. In addition the nature of the regulatory regime may be an increasingly signi

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