principles of auditing an introduction to isas ch 11 · slide 11.2 hayes, gortemaker and wallage,...

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Hayes, Gortemaker and Wallage, Principles of Auditing PowerPoints on the Web, 3rd edition © Pearson Education Limited 2014

Principles of Auditing: An Introduction to

International Standards on Auditing

Chapter 11 – Completing the Audit

Rick Hayes, Hans Gortemaker

and Philip Wallage

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Illustration 11.2 Audit Process Model – Phase IV Evaluation and Reporting

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ISQC 1 says the audit firm should establish a

system of quality control designed to

provide it with reasonable assurance that:

a. The firm and its personnel comply with

professional standards and applicable legal and

regulatory requirements

b. Reports issued by the firm or engagement

partners are appropriate in the circumstances.

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Illustration 11.3 Responsibilities of the Engagement Partner

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Sarbanes–Oxley Act (SOX)

The Sarbanes–Oxley Act (SOX) addresses overall

review procedures required of the auditor such as

second partner review, partner rotation and quality

control. It also discusses the client’s audit committee

responsibilities and inspection by PCAOB.

PCAOB conducts a programme of inspections of

audit firms to determine if they comply with

professional standards and quality control.

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SOX requires every public accounting firm

to use quality control policies relating to

i. monitoring of professional ethics and independence from issuers on which the firm issues audit reports;

ii. consultation within the firm on accounting and auditing questions;

iii. supervision of audit work;

iv. hiring, professional development and advancement of personnel;

v. the acceptance and continuation of audit engagements;

vi. internal inspection;

vii. such other requirements as the Public Company Accounting Oversight Board (PCAOB) may prescribe.

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SOX company audit committee

• Under SOX, section 301, public company audit

committees are directly responsible for the

appointment, compensation and oversight of the

work of any registered public accounting firm

employed by their company (including resolution

of disagreements between management and the

auditor regarding financial reporting).

• Audit firm reports directly to the audit committee.

Auditors may also have to discuss accounting

complaints with the Audit Committee.

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Evaluate governance evidence

The important governance information to be

gathered from the client includes:

• a legal letter;

• a written representations by management

(management representations letter);

• information about contingent liabilities and

commitments;

• identification of related parties.

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Field procedures to obtain evidence

concerning claims against client

• Read corporate meetings’ minutes

• Read contracts, leases, correspondence and other certain documents

• Review guarantees of indebtedness disclosed on bank confirmations

• Inspect other documents for client guarantees

• Determine if there are any side letters*

* Agreements made outside the standard

company contracts. These otherwise undisclosed

agreements may be signed by senior officers,

but not approved by the board of directors.

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Legal letters – are the primary procedure auditors rely

on for discovering litigation, claims and assessments

that affect the client (Illustration 11.4).

• Legal letters are obtained from the clients legal

counsel

• Attorney Letter informs the auditor of pending

litigation or other information involving legal counsel

that is relevant to the financial statements.

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Legal letter

The attorney letter should request evidence

relating to:

• existence of conditions or circumstances indicating

a possible loss from litigation, claims or

assessments;

• the period in which the underlying cause occurred;

• likelihood of an unfavourable outcome;

• amount of potential loss, including court costs.

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Written representations by management

• In instances when other sufficient appropriate

audit evidence cannot reasonably be expected

to exist, the auditor should obtain written

representations from management on matters

material to the financial statements.

• The possibility of misunderstandings between

the auditor and management is reduced when

oral representations are confirmed in writing by

management.

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Review for contingent liabilities and

commitments

Contingent liability is a potential future obligation to

an outside party for an unknown amount resulting

from the outcome of a past event.

Commitments are agreements that the entity will

hold to a fixed set of conditions, such as the

purchase or sale of merchandise at a stated price,

at a future date, regardless of what happens to

profits or to the economy as a whole.

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Subsequent events

Subsequent events are events occurring

between the date of the financial statements

and the date of the auditor’s report, and facts

that become known to the auditor after the

date of the auditor’s report.

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Types of events after the F/S Date

IAS 10 deals with the treatment of financial

statement events occurring after period end.

It identifies two types of events:

• Those that provide evidence of conditions that

existed at the end of the reporting period

(requires adjustment to the financial statements).

• Those that are indicative of conditions that arose

after the reporting period. (No adjustment, but, if

material, requires disclosure.)

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Events relating to conditions that existed

at period end

• Adjustments for a loss on a trade receivable

account that is confirmed by the bankruptcy of a

customer that occurs after the balance sheet

date.

• Settlement of litigation at an amount different

from the amount recorded on the books.

• Disposal of equipment not being used in

operations at a price below current book value.

• Sale of investments at a price below recorded

cost.

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Events not affecting conditions at period end

• A decline in the market value of securities held

for temporary investment or resale

• Issuance of bonds or equity securities

• A decline in the market value of inventory as a

consequence of government action barring

further sale of a product

• An uninsured loss of inventories as a result of

fire.

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The auditor shall take into account the auditor’s risk assessment

in determining the nature and extent of such audit procedures,

which shall include the following:• Obtaining an understanding of any procedures management has

established to ensure that subsequent events are identified.

• Inquiring of management and those charged with governance as to

whether any subsequent events have occurred which might affect the

financial statements.

• Reading minutes of the meetings of the entity’s owners and

management that have been held after the date of the financial

statements and inquiring about matters discussed for which minutes

are not yet available.

• Reading the entity’s latest subsequent interim financial statements.

• Reading the entity’s latest available budgets, cash flow forecasts and

other related management reports for periods after the date of the


• Consider whether written representations covering particular

subsequent events may be necessary to support other audit

evidence and thereby obtain sufficient appropriate audit evidence.

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Facts become known after the date of the auditor’s

report but before the Issuance of the F/S

• When management amends the financial statements

• The auditor carries out the procedures necessary in the

circumstances

• Provide management with a new report on the

amended financial statements.

• When management does not amend the financial statements in circumstances where the auditor believes they need to be amended

• The auditors report has not been released the auditor

should express a Qualified or an Adverse Opinion

• If the auditors report has been released to governance

body, the auditor should notify the governance body not

to issue the FS and auditor’s report.

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Discovery of facts after the financial

statements have been issued

• After the financial statements have been issued the auditor has no obligation to make any inquiry regarding such financial statements.

• If, however, after the statements have been issued, the auditor becomes aware of a fact which existed at the date of the auditor’s report, if known then, may have caused the auditor to amend the auditor’s report, the auditor should consider revision of the financial statements.

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Review financial statements and

other report material

• The final review of the financial statements

involves procedures to determine if disclosures

of financial statements and other required

disclosures (for corporate governance,

management reports, etc.) are adequate.

• Adequate disclosure includes consideration of

all the financial statements, including related

footnotes.

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Review financial statements and other report

material (Continued)

• Financial statement disclosures

• Disclosure checklist

• Corporate governance disclosures

• Fair values

• Other information in the annual report.

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Adequate disclosure and disclosure checklist

• Review for adequate

disclosure is an ongoing

activity of the audit. Many

audit firms use a financial

statement disclosure

checklist.

• Disclosures checklist for

inventory might include:

The accounting policies

adopted in measuring

inventories.

The total carrying amount of

inventories and the carrying

amount in classifications.

The carrying amount of

inventories carried at net

realisable value.

The amount of any reversal

of any write-down.

The circumstances or events

that led to the reversal or

write-down of inventories.

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Corporate governance

• The London Stock Exchange Code of Best Practice state

that: the directors should report on the effectiveness of the

company’s system of internal control and that the

business is a going concern, with supporting assumptions

or qualifications as necessary.

• Under the Sarbanes–Oxley Act (SOX) auditors have

responsibility considering certain governance disclosures

connected with the financial statements.

– The company must disclose whether or not, and if not, the

reason why, it has adopted a code of ethics.

– SOX section 407 requires company disclosure of whether or

not, and if not, the reasons, their audit committee is

comprised of at least one member who is a financial expert.

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Other information in annual reports

‘The auditor should read the other information

(in documents containing audited financial

statements) to identify material inconsistencies

with the audited financial statements.’

ISA 720 Says

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Other information, on which the auditor

may have to report, includes

• An annual report

• A report by management or the board of

directors on operations

• Financial summary or highlights

• Employment data

• Planned capital expenditures

• Financial ratios

• Names of officers and directors

• Selected quarterly data

• Documents used in securities offerings.

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Material inconsistency

A material inconsistency exists when other

information contradicts information contained in

the audited financial statements. A material

inconsistency may raise doubts about the audit

conclusions drawn from audit evidence obtained

and, possibly, about the basis for the auditor’s

opinion on the financial statements.

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Wrap-up procedures

Wrap-up procedures are those procedures

done at the end of an audit that generally

cannot be performed before the other audit

work is complete. They include supervisory

review, final analytical procedures, working

capital review, evaluating audit findings for

material misstatements, client approval of

adjusting entries, review of laws and regulation

and evaluation of going concern.

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Supervisory review

• Review starts with the in-charge (senior) accountant reviewing the work of the staff accountant.

• The manager and partner in charge of the audit review the work submitted by the in-charge accountant.

• For larger audits, there is an additional review of the engagement performed by a manager or partner not working on the engagement.

• In auditing firms with multiple offices, it is common practice for review teams to visit the various offices periodically and review selected engagements.

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• Working papers (or ‘work papers’) are a

record of the auditor’s planning; nature,

timing and extent of the auditing

procedures performed; results of such

procedures and the conclusions drawn

from the evidence obtained.

• Two functions:

• Aid in conduct and supervision of audit.

• Support for auditor’s opinion, especially

representation.

Working paper review

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• When the audit tests for each item in the financial

statements are completed, the staff auditor doing

the work will sign off completion of steps, identify

monetary misstatements in the financial

statements, and propose adjustment to the


• Monetary misstatement are misstatement that

cause a distortion of financial statement.

• Result from mistakes in processing transactions,

mistakes in selection of accounting principles and

mistakes in facts or judgement about accounting

estimates.

Evaluating audit findings for material

misstatements

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Review laws and regulation

The auditor should:

– know the laws that apply to their client;

– review the criteria required to comply with that statute;

– test for the client company’s compliance.

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Going concern

• The going concern assumption is that the enterprise is normally viewed as a going concern, that is, as continuing in operation for the foreseeable future.

• An entity’s continuance as a going concern is assumed in the preparation of the financial statements in the absence of information to the contrary.

• For example, assets and liabilities are recorded on the basis the entity will be around long enough to pay the liabilities and fully depreciate the assets.

ISA 570

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Procedures if going concern doubt

If there is significant doubt of the entity’s ability to continue as a going concern, the auditor should:

Inquire of management as their assessment of the entity’s ability to continue as a going concern.

Evaluate management’s proposed future actions to mitigate going concern issues.

Analyse management’s cash flow forecase in terms of management’s plans for future action.

Request written representations from management with regards to plans for future actions.

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Matters for Attention of Partners (MAPs) is a

report by audit managers to be reviewed by the

partner or director detailing the audit decisions

reached by managers or partners and the

reasons for those decisions.

Matters for Attention of Partners

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• A cover page signed by audit manager and

partners stating the basic conclusions of the audit

• General matters, management comments,

comments on results

• Discussions of accounts that required special

consideration

• Compliance with statutory laws, ISAs and IASs

• Comments on accounting systems

• Comments on management letters

• Discussion of any matters that were outstanding at

that date.

Items included in the MAP

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Reports to the board of directors

• The board of directors has significant influence over accounting and financial policies of the entity. The auditor must communicate their important findings to the board.

– Board has responsibility for hiring independent auditor.

• Typical areas of discussion in the Long-Form report to the board of directors is information which the client has omitted from its notes and the errors the auditor has found in performing his work.

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SEC requires auditors to report to the audit

committee of the publicly traded company

• All critical accounting policies and practices to be

used.

• All alternative treatments of financial information

within generally accepted accounting principles that

have been discussed.

• Other material written communications such as any

management letter or schedule of unadjusted

differences.

SEC report to audit committee

US classes

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Thank you for your attention

Any Questions?