Chapter 2: Basic Concepts of Auditing

Question 1

Which statements are included in Complete Set of Financial Statements?

Answer 1

1. Statement of financial position
2. Statement of profit or loss, and Other Comprehensive income.
3. Statement of changes in equity.
4. Cash Flow Statement.
5. Notes to the financial statements.

[Chapter 2: LO 1]

Question 2

What is meant by True and Fair View?

Answer 2

Generally:
 true means free from errors, and
 fair means free from undue bias in preparation or presentation of financial statements.

The phrase “True and fair view” indicates that judgment is applied in preparation of financial statements by management, and in expressing opinion by auditor.

[Chapter 2: LO 2]

Question 3

Define General Purpose Framework:

Answer 3

General Purpose Framework is used to prepare financial statements for wide range of users.

[Chapter 2: LO 3]

Question 4

Define Special Purpose Framework:

Answer 4

Special Purpose Framework is used to prepare financial statements for specific users.

[Chapter 2: LO 3]

Question 5

Define Fair Presentation Framework:

Answer 5

Fair presentation framework is a financial reporting framework that requires compliance with requirements of the framework and contains acknowledgment that, to achieve fair presentation, it may be necessary for management:
 To provide disclosures in addition to specific requirements of framework or
 To depart from a requirement of framework

An example is International Financial Reporting Standards.

[Chapter 2: LO 3]

Question 6

How Unmodified Opinion is expressed in Fair Presentation Framework:

Answer 6

In Fair presentation framework, auditor expresses opinion whether:
 “financial statements give true and fair view in accordance with the framework”, or
 “financial statements are presented fairly, in all material respects, in accordance with the framework”. (Both phrases are equivalent)

[Chapter 2: LO 3]

Question 7

Define Compliance Framework:

Answer 7

Compliance framework is a financial reporting framework that requires compliance with requirements of the framework, **and does not contain acknowledgements **which are contained in fair presentation framework (regarding additional disclosures or departure from requirements of framework to achieve fair presentation).

An example is Tax-basis Framework.

[Chapter 2: LO 3]

Question 8

How Unmodified Opinion is expressed in Compliance Framework:

Answer 8

In Compliance framework, auditor expresses opinion whether “financial statements are prepared, in all material respects, in accordance with the framework”.

[Chapter 2: LO 3]

Question 9

Define Applicable Financial Reporting Framework (AFRF):

Answer 9

AFRF is the financial reporting framework adopted by management and Those Charged With Governance (TCWG), in preparation of financial statements considering **legal requirements, nature of entity, nature of financial statements, and purpose of financial statements. **

AFRF includes financial reporting standards (e.g. IFRS or US GAAP), and may be supplemented by law or regulation.

[Chapter 2: LO 3]

Question 10

Which parties are included in the terms “Management” and “TCWG” in Audit?

Answer 10

1. Management means persons responsible for operational and managerial duties (e.g. CFO, CEO).
2. TCWG means persons responsible for Overseeing the strategic direction and Accountability (e.g. Directors).

[Chapter 2: LO 3]

Question 11

Briefly highlight the management’s responsibilities relating to the financial statements?

Answer 11

An audit is conducted on the premise that management is responsible:
1. For preparation and presentation of financial statements in accordance with AFRF.
2. For design, implementation and operating effectiveness of such internal controls which are necessary for preparation of reliable financial statements;
3. To provide auditor with:
a. all relevant information,
b. additional information requested by auditor, and
c. unrestricted access to persons within the entity to obtain evidence.

[Chapter 2: LO 4]

Question 12

What are the primary/overall objectives of an audit?

Answer 12

The overall objectives of the auditor are:
 To obtain reasonable assurance whether financial statements are free from material misstatement (whether due to error or fraud), and
 To report on financial statements which includes auditor’s opinion, and
 To communicate auditor’s findings as required by ISAs (e.g. to directors, regulators).

[Chapter 2: LO 5]

Question 13

Explain the term ‘Expectation Gap’.

Answer 13

Expectation gap means public perception of the role and responsibilities of the external auditor is different (and is usually higher) from his statutory role and responsibilities.

[Chapter 2: LO 6]

Question 14

Give some examples of expectation gap.

Answer 14

1. Auditor prepares financial statements.
2. Auditor checks 100% transactions of entity during the accounting period.
3. Auditor provides absolute assurance (i.e. he certifies or guarantees that financial statements are correct in all respects, and can be relied for all decision making purposes).
4. Auditor is responsible to prevent and detect fraud.
5. Auditor is responsible to express opinion on internal controls.

[Chapter 2: LO 6]

Question 15

List down some situations in which Auditor’s Independence is impaired.

Answer 15

1. Holding financial interest (e.g. shares) in audit client by team members or his relative
2. Loan or guarantee with an audit client
3. Business Relationships
4. Family and Personal relationships with client
5. If an audit team member has recently served as an employee

[Chapter 2: LO 7]

Question 16

List down some situations in which there is high risk of misstatement, and auditor should particularly increase professional skepticism in those areas?

Answer 16

1. Unusual growth of sales.
2. Management’s bonuses based on financial performance.
3. Imports and Exports.
4. Lack of competence or integrity in management or employees.
5. Revaluation of PPE.
6. Provision for warranty
7. There is dispute with major debtor

[Chapter 2: LO 7]

Question 17

Briefly discuss the concept of ‘Professional skepticism’.

Answer 17

Professional skepticism is an attitude that includes:
i. a questioning mind,
ii. being alert to conditions which indicate possible misstatement (due to error or fraud), and
iii. critical assessment of audit evidence.

Even if management has shown honesty and integrity in past, still auditor shall apply professional skepticism in planning and performing the audit. He shall corroborate every assertion of management, by obtaining persuasive evidence.

[Chapter 2: LO 7]

Question 18

Why application of ‘Professional skepticism’ is important in Audit.

Answer 18

Professional skepticism ensures that auditor does not:
 Overlook unusual circumstances.
 Over-generalize when drawing conclusions from audit observations.
 Use inappropriate assumptions in determining audit procedures, and evaluating results.

[Chapter 2: LO 7]

Question 19

Define “Professional Judgment”:

Answer 19

Professional Judgment is the application of Cumulative Audit Knowledge, Experience and Training (within the context of accounting, auditing, and ethical standards), to reach an appropriate course of action or conclusion during an audit.

[Chapter 2: LO 7]

Question 20

Give some examples of areas where auditor usually applies Professional Judgment.

Answer 20

Areas where Professional Judgment is applied in:
 Planning of audit (e.g. in risk assessment, in determination of materiality).
 Performance of audit (e.g. in deciding nature, timing and extent of audit procedures, in evaluating sufficiency and appropriateness of audit evidence).
 Reporting stage (in drawing conclusions based on evidence obtained)

[Chapter 2: LO 7]

Question 21

What is “International Federation of Accountants (IFAC)”

Answer 21

IFAC is the worldwide leader of audit profession. It is the global organization of professional accountants dedicated to serving the public interest.

[Chapter 2: LO 8]

Question 22

What are Functions/Role/Activities of IFAC:

Answer 22

IFAC supports the development of profession in the area of ①auditing, ②ethics, ③professional education and ④public sector by following activities:
1. development of high-quality standards and guidance.
2. facilitating the adoption and implementation of standards and guidance.
3. promoting the value of professional accountants worldwide.
4. speaking out on public interest issues where professional voice is important.

[Chapter 2: LO 8]

Question 23

List four Boards of IFAC:

Answer 23

1. International Auditing and Assurance Standards Board (IAASB)
2. International Ethics Standards Board for Accountants (IESBA)
3. International Public Sector Accounting Standards Board (IPSASB)
4. International Accounting Education Standards Board (IAESB)

[Chapter 2: LO 8]

Question 24

Which activities are performed by International Auditing and Assurance Standards Board (IAASB)?

Answer 24

1. It develops and promotes standards for assurance and related services.
2. It also provides **facilitation **in adoption and implementation of international standards. In doing so, IAASB enhances quality and consistency of assurance practice throughout the world.
3. In addition to ISAs, IAASB also issues International Auditing Practice Statements (IAPS) to help auditors in implementing ISAs and to promote good auditing practice in general. IAPS do not have same authority as ISAs.

[Chapter 2: LO 8]

Question 25

List various types of services which a Chartered Accountant can provide to its clients:

Answer 25

There are two broad categories of services i.e. Assurance Services, and Non-Assurance Services.

Assurance Services:
1. Audit [conducted as per ISAs]
2. Review [conducted as per ISREs]
3. Other assurance engagements [conducted as per ISAEs]

Related Services: [Non-assurance Services conducted as per ISRSs]
1. Compilation Engagement [conducted as per ISAs]
2. Agreed upon Procedures [conducted as per ISREs]

[Chapter 2: LO 8]

Question 26

Which Standards/Regulations apply on ALL types of engagements performed by a Chartered Accountant?

Answer 26

1. Code of Ethics
2. International Standards on Quality Control [ISQC]

[Chapter 2: LO 8]

Question 27

Summarize process of development of a new ISA.

Answer 27

1. A subject is selected for detailed study.
2. After conducting comprehensive study and research, an exposure draft is produced which is approved by IAASB and then distributed widely for public comments.
3. Comments and proposed amendments are considered by the IAASB.
4. The new ISA is then published.

[Chapter 2: LO 9]

Question 28

Under which circumstances, an auditor does not perform a procedure required by ISAs and still states in Audit Report that he has conducted audit in accordance with ISAs?

Answer 28

A required procedure will not be performed if it is:
 not relevant or
 not practicable.

However, if a procedure is not practicable, auditor shall document:
 reason of departure from required procedure, and
 alternative procedures performed to obtain evidence/assurance.

[Chapter 2: LO 9]