Ch 2 Flashcards
Role of PCAOB (primary role)
Provide external and independent oversight over audits of
Public entities
What did the SOX Act create?
Public Company Accounting Oversight Board (PCAOB)
Public entity
One that offers registered securities (such as stocks or bonds)
For sale to the general public
Other 3 roles the PCAOB plays
1 registering public accounting firms
2 establishing and enforcing standards for audit engagements
3 inspecting quality of audits conducted by registered public
Accounting firms
The PCAOB issues Auditing Standards, which are subject to formal approval of…
The SEC
Auditing standards: what is the primary source of guidance for public entities
Auditing Standards, PCAOB
Auditing Standards: sole source of guidance for no public entities?
Statements of Auditing Standards ASB
When do Statements on Auditing Standards ASB apply to public entities?
Apply if stared issued before 2003 and content not superseded
By PCAOB
Relevant pronouncements of AICPA and PCAOB are collectively referred to as…
General accepted auditing standards (GAAS)
GAAS
Auditing standards that identify necessary qualifications and
Characteristics of auditors
Guide conduct if audit examination
2 objectives of audit examination under GAAS (AU 200.12)
1 obtain reasonable assurance about whether financial statements
As a whole are free of material misstatement whether from fraud
Or error
2 to issue report on financial statements
Unconditional requirements on auditors
They are expected to fully comply with provisions of standards
Presumptively mandatory requirements
Auditors can depart from standards under appropriate
circumstances and with appropriate documentation
Interpretative publications in auditing standards literature
Includes: 1 Interpretations, 2 exhibits, 3 AICPA Audit and Accounting Guides 4 AICPA Auditing Statements of Position
GAAS: Fundamental Principles
Guide general conduct of audit engagements
GAAS: PCAOB Auditing Standards and ASB Statements on Auditing Standards
Provide requirements supporting fundamental principles
GAAS: Interpretive Publications
Provide guidance on application of GAAS
Audit procedures
Particular and specialized actions that auditors take to obtain
Evidence in specific audit engagement
Auditing standards
Quality guides to audit that apply to all audits
Convergence
Making standards coordinated if not uniform throughout world
Public Entities: 1) Rule making body 2) standards
1) Public Company Accounting Oversight Board (PCAOB)
2) Auditing Standards (ASs)
Nonpublic Entities: 1) Rule making body 2) standards
1) AICPA Auditing Standards Board (ASB)
2) Statements on Auditing Standards (SASs)
Governmental Entities: 1) Rule making body 2) standards
1) US Government Accountability Office (GAO)
2) Government Auditing Standards (the Yellow Book)
Foreign Entities: 1) Rule making body 2) standards
1) IFAC International Auditing and Assurance Standards Board
(IAASB)
2 International Standards on Auditing (ISAs)
3 categories of 10 basic GAAS standards
1 General standards
2 standards of fieldwork
3 standards of reporting
GAAS 10 basic standards: 3 General Standards
1 auditor must have adequate technical training and proficiency
To perform the audit
2 auditor must maintain independence in mental attitude in
All matters relating to audit
3 auditor must exercise due professional care in performance
Of audit and preparation of report
GAAS 10 Basic Standards: 3 standards of Fieldwork
1 adequately plan work and supervise assistance
2 understand entity and its environment
3 obtain sufficient evidence through performing audit procedures
Understanding of entity and its environments: 3 things
Understanding:
1 internal control
2 risk of material mistatment
3 design nature, timing and extent of audit procedures
GAAS 10 Basic Standards: 4 standards of reporting
1 state auditors report whether financial statements presented
In accordance with GAAP
2 identify principles which haven’t been consistently observed
In current period compared to prior period
3 determine if disclosures aren’t adequate
4 give auditors opinion or why they can’t give opinion
GAAS Fundamental Principles: Responsibilities Principle 3 things auditors are responsible for?
1 appropriate competence and capabilities to perform audit
2 complying with ethical requirements
3 maintaining professional skepticism and professional
Judgement throughout audit
GAAS Fundamental Principles: Performance Principle 4 things auditor does to obtain reasonable assurance financial statements are free from material misstatement
1 plans work and properly supervises assistants
2 determines/applies appropriate materiality levels throughout Audit
3 identifies and assesses risks of material misstatement
4 obtains audit evidence whether material misstatements exist
Identifies and asses risks of material misstatement, what are possible causes? 2 things
1 fraud or error
2 insufficient internal control
Reporting principle
Auditors opinion in written report according to evidence about
Whether financial statements are fairly presented
5 stages of an audit
1 obtain engagement 2 engagement planning 3 risk assessment 4 audit evidence 5 reporting
Independence in mental attitude
Auditors are expected to be unbiased with respect to financial
Statements and other info they audit
Independence in fact
Allows auditors to form an opinion on entity’s financial statements
Without being affected by influences that might compromise that
Opinion
Independence in appearance
Relates to others’ (particularly financial statement users’)
Perceptions of auditors’ independence
In 2001 the SEC issued rules that prohibited auditors from providing…
Financial systems implementation and internal audit services to
Their clients
3 requirements of how SOX addresses auditor independence for audits of public entities
1 limiting service for engagement partner and engagement quality
Partner on client to max of 5 years
2 can’t conduct audit if client employee with financial oversight
Responsibility
3 1 year cooling off period before auditor is permitted to assume
Employment for client in key management position
2 relationships that jeopardize independence
1 financial relationships (owning stock or having loan outstanding
Which client)
2 managerial relations (ability to make decisions on behalf of client)
Due care
Reflects level of performance that would be exercised by
Reasonable auditors in similar circumstances
Professional skepticism
State of mind that is characterized by appropriate questioning
And critical assessment of audit evidence
When exhibiting professional skepticism, what 3 aspects do auditors evaluate and consider?
1 contradictory audit evidence obtained through different
procedures
2 reliability of documentary evidence
3 reliability of info obtained from management and those charged
With governance of entity (audit committee)
Professional judgement
Application of relevant training, knowledge and experience in
Making informed decisions about appropriate courses of action
During audit
The fundamental principle of: performance, sets forth what?
General quality criteria for conducting an audit
What 5 elements does the performance principle contain
1 reasonable assurance 2 planning and supervision 3 materiality 4 risk assessment 5 audit evidence
Reasonable assurance 3 things
1 Recognizes that a GAAS audit may not detect all material misstatements
2 And auditors aren’t insurers or guarantors regarding fairness of
entity’s financial statements
3 auditors should provide high level of assurance regarding their
Work
Professional standards for engagement planning 3
1 preparing audit plan and supervising audit work
2 obtaining knowledge of client’s business
3 dealing with differences of opinion among accounting firm’s
Own personnel
Audit plan (required by GAAS)
List of audit procedures that auditors need to perform to gather
Sufficient evidence to base their financial statements
Must provide enough detail for assistants of work to be done
Materiality
Recognizes auditors should focus on matters important to
financial statement users
Dollar amount that influences lending and investment decisions
The risk assent process requires an understanding of the client’s… 3 things
1 Operating environment
2 industry
3 it’s internal controls
Internal control
Policies and procedures implemented by entity to prevent
Or detect material accounting frauds or errors
And provide their correction on timely basis
Risk of material misstatement
Combination of inherent risk and control risk
Inherent risk
Probability that material misstatement, either error or fraud
Will occur
Control risk
Probability that material misstatement either fraud or error won’t
Be prevented/detected on timely basis in entities internal controls
The process of risk assessment presumes 2 necessary relationships
1 effective internal control reduces control risk, auditors have
Reasonable basis for reducing necessary effectiveness of further
Audit procedures
2 ineffective internal controls increase control risk and increase
Work by auditors
Substantive procedures
Audit procedures used to obtain evidence with respect to
Fairness of account balance
Reflected in determination of detection risk
Auditing Standard No. 5
Standard requires auditor to evaluate and report public entity’s
Internal control over financial reporting
Evidence
Information auditors use in arriving at conclusions on which
To base audit opinion
Includes underlying accounting data and all available corroborating
Info
Appropriate evidence
Evidence must be trustworthy (reliable)
And provide audit team with information of interest (relevant)
Reliability of evidence 4 things
1 evidence created by sources external more reliable than by entity
2 more reliable when directly received by external source
3 evidence from entities with more effective internal controls is
More reliable
4 evidence from original source documents is more reliable
Than evidence from photocopies, electronic documents
Order of most reliable evidence 3
1 Most is auditors evidence
2 external parties
3 internal evidence (least reliable)
Relevance
Nature of info provided by audit evidence
Ex. A/R evidence that sale took place, but not that account
Will be collected
Appropriateness relates to evidence of
Quality
Affected by both relevance of evidence and its reliability
Sufficiency relates to evidence of…
Quantity
Relates to number of transactions or components evaluated
Detection risk
Represents risk that audit team’s substantive procedures will
Fail to detect material misstatement
Sufficiency and appropriateness of audit evidence affect…
Detection risk
What is the final stage of the audit process
Reporting
Financial reporting framework
Set of criteria used to determine the measurement, recognition,
Presentation and disclosure of material items in financial statements
Ex. GAAP, IFRS or special purpose framework
Unqualified opinion AKA unmodified opinion
Concludes entity’s financial statements present its financial
Condition, results of operations, cash flows in conformity
With GAAP
Qualified opinion
Concludes except for relatively isolated departure, entity’s
financial Statements are presented in conformity with GAAP
Order of auditor’s report for public company 6 things
1Report title 2 addressee 3 intro paragraph 4 scope paragraph 5 opinion paragraph 6 internal control paragraph
Disclaimer of opinion
Report where auditor chooses not to express his opinion
Has additional paragraph explaining why they have no opinion
System of quality control, purpose is to provide the firm reasonable assurance that firm and its personnel… 2 things
1 comply with professional standards and applicable regulatory
And legal requirements
2 issue reports that are appropriate in the circumstances
6 elements under the Statement on Quality Control Standards No. 8
1 Leadership responsibilities for quality within firm
2 relevant ethical requirements
3 acceptance and continuance of client relationships and
Specific engagements
4 human resources
5 engagement performance
6 monitoring
Leadership responsibilities for quality within firm
Company promotes people based of quality of work
Relevant ethical requirements
1 communicate independence requirements to personnel
2 identify circumstances and relationships that threaten
independence
3 obtain written confirmation form all firm personnel with respect
To compliance with independence requirements
Engagement quality control reviews
An internal evaluation of significant judgements made by audit
Team
and conclusions reached in formulating its report on an
engagement conducted by that firm
Inspection
Evaluation of accounting firm’s audit engagements and system of
Quality control conducted by PCAOB
and required for firms providing services to public entities
Copies of the PCAOB’s inspection reports assessing the quality of audits can be found on a…
Firm by firm basis of the PCAOB’s website
