The Role of the Public Accountant in the American Economy

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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 Highest Expresses

opinionSufficient to limitattestation risk tolow level

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Attestation Engagements

Type ofEngagement

Level ofAssurance

Nature of Report

Procedures

Examination

Review

Highest

Moderate orLimited

Expresses opinion

Expressesnegativeassurance

Sufficient to limitattestation risk tolow level

Generally limited toinquiry & analyticalprocedures

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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 FunctionPeriodPeriod DevelopmentsDevelopments Audit ObjectiveAudit Objective Nature of AuditNature of Audit

Ancient - Ancient - 18501850

Audits of city states, Audits of city states, individuals & venturesindividuals & ventures

Detection of fraudDetection of fraud Detailed; No reliance on Detailed; No reliance on controlscontrols

1850-1850-19051905

Industrial revolution Industrial revolution resulted in the need for resulted in the need for corporate audits corporate audits

Detection of fraud & Detection of fraud & clerical errorsclerical errors

Some testing; No reliance Some testing; No reliance on controlson controls

1905-19401905-1940Development of stock Development of stock markets - increased markets - increased emphasis on earningsemphasis on earnings

Determination of Determination of fairness; detection of fairness; detection of fraud & errorsfraud & errors

Increased emphasis on Increased emphasis on testing; Slight reliance on testing; Slight reliance on controlscontrols

1940-19751940-1975 Development of auditing Development of auditing standardsstandards

Determination of Determination of fairnessfairness

Substantial reliance on Substantial reliance on controlscontrols

1975-19851975-1985 Criticism by Congress; Criticism by Congress; Increased self-regulationIncreased self-regulation

Determination of Determination of fairnessfairness

Internal control determines Internal control determines scope of auditscope of audit

1985-19951985-1995 Increased demands for Increased demands for reporting on compliance & reporting on compliance & internal controlinternal control

Determination of Determination of fairnessfairness

Risk assessment determines Risk assessment determines audit scope; must assess audit scope; must assess risk of fraudrisk of fraud

1995-Present1995-PresentPanel on Audit Panel on Audit Effectiveness; Sarbanes-Effectiveness; Sarbanes-Oxley Act of 2002 Oxley Act of 2002

Determination of Determination of fairnessfairness

Business risk approach toBusiness risk approach toauditsaudits

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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 Examination

Note: 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 Fraud Investigation

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Typical Structure of a National CPA Firm

Partners

Managers

Seniors

Staff