The Role of the Public

Accountant in the American

Economy

Chapter 1

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The Attest Function

Management

SubjectMatter

SuitableCriteria

The CPA

Gathers Evidence

SubjectMatter*

The AttestReport

IssuesReport

*May be management’s assertion about the subject matter.

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Attestation Engagements

Type ofEngagement

Level ofAssurance

Nature of Report Procedures

Examination

Review

Agreed-upon procedures

Highest

Moderate orLimited

Varies with procedures

Expresses opinion

Expressesnegativeassurance

States findings

Sufficient to limitattestation risk tolow level

Generally limited toinquiry & analyticalprocedures

Procedures agreed-upon with the specified users

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Audit of Financial Statements

Management

PreparesFinancial

Statements

Criteria (e.g., GAAP)

The Auditors

Gathers Evidence

FinancialStatements

The Auditors’Report

IssuesReport

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What Creates the Demand for Audits?

Audits lend credibility to information by reducing information risk, the risk that information is materially misstated

Financial statement misstatements arise due to-- Accidental errors Lack of knowledge of accounting principles Unintentional bias Deliberate falsification

Audits do not directly address business risk, the risk that a company will not be able to meet its financial obligations due to economic conditions or poor management decisions

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History of the Attest Function

Period Developments Audit Objective Nature of AuditAncient - 1850

Audits of city states, individuals & ventures

Detection of fraud Detailed; No reliance on controls

1850-1905 Industrial revolution resulted in the need for corporate audits

Detection of fraud & clerical errors

Some testing; No reliance on controls

1905-1940 Development of stock markets - increased emphasis on earnings

Determination of fairness; detection of fraud & errors

Increased emphasis on testing; Slight reliance on controls

1940-1975 Development of auditing standards

Determination of fairness

Substantial reliance on controls

1975-1985 Criticism by Congress; Increased self-regulation

Determination of fairness

Internal control determines scope of audit

1985-1995 Increased demands for reporting on compliance & internal control

Determination of fairness

Risk assessment determines audit scope; must assess risk of fraud

1995-Present Panel on Audit Effectiveness; Sarbanes-Oxley Act of 2002

Determination of fairness

Business risk approach to audits

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The Accounting Profession’s Credibility Crisis

2000—The Panel on Audit Effectiveness made a variety of suggestions to improve audits.

2001—Enron Bankruptcy 2002—WorldCom Fraud 2002—Sarbanes-Oxley Act 2003—Public Company Accounting

Oversight Board began operations

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Types of Audits

Audits of Financial Statements

Compliance Audits

Operational Audits

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Types of Auditors

External Auditors Internal Auditors GAO Auditors Tax Auditors

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AICPA’s Traditional Role Establishes Standards Research and Publication Continuing Professional Education Self-Regulation CPA ExaminationNote: The standards setting and regulation

roles have been taken over by the SEC and the PCAOB with respect to auditors of public companies.

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Types of Professional Services

Attestation and Assurance Tax Consulting Accounting Personal Financial Planning Litigation support Fraud Investigation

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Typical Structure of a National CPA Firm

Partners

Managers

Seniors

Staff