Audit Framework and regulation Flashcards
Exempt from audit
Uk company exempt from audit if it meets two out of three criteria
Turnover less than 10.2m
Assets less than 5.1m
Employees less than 50
five elements of an assurance engagement
(a) A three party relationship:
A practitioner (i.e an accountant)
A responsible party
An intended user
(b) An appropriate underlying subject matter
(c) Sustainable criteria
(d) sufficient appropriate evidence
(e) written assurance report
what is an assurance engagement
Assurance engagements are simply assignments where a practitioner expresses a conclusion designed to give confidence about outcome of a particular subject matter.
Traditionally financial statements but could be on a budget
what is a review engagement
it may involve reviewing financial data eg. six-monthly figures, interim financial statements etc.
This involves the practitioner undertaking procedures to state whether anything has come to their attention which the practitioner believes that the financial data is not in accordance with the financial reporting framework.
Assurance engagement v review engagement
Review engagements are not nearly as comprehensive as those in an audit
the practitioner does not need to comply with ISAs
Levels of assurance provided by audit and other review assignments
- Limited
-‘nothing has come to their attention’ that causes them to believe that the subject matter is not free from material misstatement
-commonly used for review engagements - Reasonable
-positive opinion
-subject matter conforms in all material respects with the identified criteria stating that the financial statements give a ‘true and fair view’ - Absolute
-Absolutely correct
-Cannot be given on an assurance engagement due to limitations of the engagement eg audit only test samples - Absolute
External audit - key features
Carried out by auditors who are external to the company.
Most companies are required to have an external audit (except small and dormant)
some companies may decide to have an external audit even if not required
Statutory audits must be carried out with the legal requirement of the country in which they take place
Where is an external auditor appointed?
-appointed by shareholders in general meeting
Before an auditor can accept a new appointment:
-check to ensure the audit firm is independent of the client
-check to make sure the firm has the necessary resources (staff numbers, time and expertise)
-Assess the risk attached to the new client
-Ensure there are no conflicts of interest
Once satisfied an auditor can accept a new appointment he should:
-ask client permission to contact outgoing auditor
-If client denies, this audit must be rejected
-Contact the outgoing auditor, asking if there are any ‘relevant matters’ e.g has the client paid promptly, acted with integrity etc.
-The outgoing auditor should contact the client to request permission to reply to the incoming auditor’s requests
-If the permission is denied, the new auditor should be informed
Once completed, incoming auditor to send a letter of engagement to the client. setting out key terms of the contract
External auditor rights
access to the company’s books
receive all information or explanations that they think is necessary
receive all communications relating to written resolutions
receive all notices of, and other communications relating to, any general meeting which a member of the company is entitled to receive
attend general meetings of the company and to be heard at any general meeting which an auditor attends on any part of the business of the meeting which concerns them as an auditor
Removal of an external auditor
only can be removed by shareholders with a majority vote at the general meeting
When directors write to the shareholders to communicate the holding of the meeting, they must also inform the auditor. The auditor has the right to attend and speak
auditor must produce a statement of circumstances. If there are no circumstances that need to be brought to the attention of the shareholders, then a statement of no circumstances is required. If they have been removed before the end of their term in office, then they must notify ACCA
External auditor - resignation
an auditor can resign at any time in writing
they can request that the company calls an extraordinary general meeting, of which the auditor can attend and speak
In all cases where am auditor ceases to audit for a particular company, it must submit a ‘statement of circumstances’ to the company, explaining any issues involved in the auditor ceasing to audit the company
this statement must be submitted even if it says there are no circumstances that need to be reported
Again if the auditors have resigned before the end of their term of office, they must notify ACCA
Limitations of external audits
relies heavily on the integrity of client management to provide the necessary information, allow access to records etc.
Nature of financial reporting is such that it involves management judgement and subjective decisions, which is not possible to conclude are absolutely correct
Auditors only spend limited time at client premises as there is a cost benefit element. It is not possible to address all of the information that may exist
auditors plan their work to detect material errors and frauds only - so minor errors and frauds may not be detected
What is corporate governance
refers to the way in which companies are organised and controlled.
Executive directors
are involved in the day-to-day running of the company. They are usually
full-time employees and paid a salary.
Non-executive directors (NEDs)
(NEDs) are independent, part-time directors who scrutinise the
company’s affairs. They generally only attend Board meetings and the meeting of any
committees to which they belong. As this is more of a part-time role, NEDs are usually paid a
fee, depending on their experience and time commitment to the company
NEDs should, as far as possible be ‘independent’ of the company (i.e. not former employees) so that
they can be more objective.
Audit committees
An audit committee should be made up of at least three independent NEDs (two in smaller
companies), at least one of whom has recent and relevant financial experience. Ideally, the Chairman
of the board would not be one of these
The responsibilities of the audit committee will include:
Monitor the integrity of the financial statements (and other formal announcements relating to
financial performance) of the company and reviewing significant financial reporting judgements
in them
Providing advice (when required) on whether the annual report and accounts as a whole is fair,
balanced and understandable, and provides the necessary information for shareholders to
assess the company’s performance and position.
Review the company’s internal financial controls and risk management and internal control systems
Monitor and review the effectiveness of the internal audit function (or consider annually whether one is needed, if none exists)
Conduct the tender process and make recommendations to the Board re appointment/remuneration of external auditor (to be submitted to the shareholders for approval)
Review and monitor the independence/objectivity of the external auditor and the effectiveness of the audit process
Develop and implement policy on the use of the external auditor to provide non-audit services
Report to the board on how the audit committee (itself) has discharged its responsibilities
3.4 Advantages of an audit committee
As it is made up of non-execs performing a part-time role, they have more time than the
executive directors to review key documents such as the auditor’s report.
Increased public confidence in the credibility and objectivity of published financial information.
Shareholders may view the committee as a form of “internal control”, leading to a stronger
control environment.
ACCA AA Course Notes 9
Financial reporting – the audit committee can assist the board by checking the financial
statements to ensure that they comply with appropriate accounting standards. As noted above,
one of the members should have “financial expertise”.
The audit committee could have a variety of business backgrounds, bringing valuable skills,
knowledge and expertise to the company.
May be easier and cheaper to raise finance if there is a perception of good corporate
governance created by the presence of an audit committee.
Acts as a bridge between the external auditor and the board and can help the external auditor
to maintain independence in the audit process (by being a buffer between the external auditor
and the executive directors)
Internal audit can report to the audit committee ensuring an element of independence in their
role too, giving a similar buffer to executive directors, especially the finance director.
3.5 The limitations of an audit committee
Finding suitable candidates – it is not easy to find independent non-executives with relevant
knowledge of corporate governance and the company itself.
Diminished importance of the board ─ the board may see the NEDs as having too much power
and effectively “running our company”.
Slower decision-making by the company ─ by adding another layer to the decision-making process.
Cost – The audit committee will increase the expenditure of the company as the NEDs will
obviously require remuneration for their time and expertise.
Internal control and risk management
Key business risks
Financial risks – those risks that would affect the entity’s cash flow such as movement in
interest rates or exchange rates.
Compliance risks – those risks relating to laws and regulations e.g. health and safety rules.
Operational risks – those risks relating to the day-to-day operations of the business e.g. loss of
key staff, inventory management.
