Lecture 1 & 2

Question 1

There are five key elements of an assurance engagement. What are they?

Answer 1

• Three people or groups of people involved: the practitioner, the intended user, the responsible party
• Appropriate subject matter ( data like financial statements or business projections, systems or processes like internal control systems or computer systems, behaviour like social and environmental performance)
  -Suitable criteria ( the person providing the assurance must have something by which to judge whether the information is reliable and can be trusted)
  -Sufficient appropriate evidence ( the practitioner must substantiate the opinion that they draw in order that the user can have confidence that it is reliable) like accounting standards and legislation
  -Written report in suitable form ( this adds to assurance that the user is being given as it ensures that key information is being given and that the assurance given is clear and unequivocal)

Question 2

Assurance can never be absolute because of inherent limitations. List examples of limitations of assurance services.

Answer 2

• the fact that most audit evidence is persuasive rather than conclusive
• the fact that assurance provide every item in the subject matter
• the fact that some items in the subject matter may be estimates and therefore are uncertain so it’s impossible to conclude absolutely that judgemental estimates are correct
• the fact that the accounting systems on which assurance providers may place a degree of reliance also have inherent limitations

Question 3

For a statutory audit, define the three people or groups of people involved

Answer 3

three party involvement:
- the shareholders (users)
- the board of directors (the responsible party)
- the audit firm (the practitioner)

Question 4

what are the criteria and requirements set out in the Companies Act to claim exemption from audit?

Answer 4

-Turnover has to be no more than £10.2m
-Total assests has to be no more than £5.1m
-Number of employees has to be 50 or fewer on average

Question 5

how do you obtain sufficient appropriate evidence?

Answer 5

• understand the circumstances of the engagement
• understand the business
• assess the risks of rendering inappropriate conclusion
• respond to risks
• execute tests (eg. inspection, analytical procedures, recalculation reperformance)
• evaluate evidence and conclude

Question 6

what are the two levels of assurance?

Answer 6

• reasonable
• limited

Question 7

reasonable assurance

Answer 7

• a high but not absolute level of assurance
• obtain sufficient and appropriate evidence to reduce risk to an acceptably low level
• positive conclusion
  testing procedures involved

Question 8

limited assurance

Answer 8

• limited assurance
• obtain lower level of sufficient and appropriate evidence
• negative conclusion
• often through review, analysis and enquiry

Question 9

what is audit

Answer 9

• audit is an independent opinion on whether the financial statements give a true and fair view and have been properly prepared in accordance with applicable financial reporting framework

Question 10

what’s the purpose of an engagement letter

Answer 10

• minimises possible misunderstandings by defining clearly the extent of the directors and auditors responsibilities
• provides written confirmation of acceptance
• confirms the scope of the engagement and form the report
• must be discussed and agreed with client
  it incorporates:
• description of the engagement objective and responsibilities
• scope of work
• restrictions on use of reports
• fees and billing arrangements

Question 11

what’s the audit risk formula?

Answer 11

AR = IR x CR x DR
if IR and CR are high DR must be low

Question 12

describe audit risk

Answer 12

Audit risk: the risk that the auditor expresses an inappropriate opinion on the financial statements
- it has two elements: risk that the financial statements contain a material misstatement inherent and control risk
risk that the auditor will fail to detect material misstatements detection risk

Question 13

describe inherent risk

Answer 13

the susceptibility of an assertion about a class of transaction, account balance or disclosure to a misstatement that could be material either individually or when aggregated before consideration of any related controls

Question 14

describe control risk

Answer 14

a misstatement that could occur in an assertion about a class of transaction, account balance or disclosure and could be a material either individually or when aggregated with other misstatements, will not be prevented or detected and corrected on a timely basis by the entity’s internal control

Question 15

describe detection risk

Answer 15

• the risk is under the auditor’s control
• the risk that the procedures performed by the auditor to reduce audit risk to an acceptably low level will not detect to a misstatement that exists and could be material, either individually or when aggregated

Question 16

why should companies expect to pay higher audit fees if they have poor internal controls

Answer 16

• management are responsible for implementing controls to enable reliable financial reporting
• if controls are poor, detection risk increases and therefore auditors need to do more work to keep audit risk at an acceptable level
• if auditors are required to do more work, they will charge a higher fee

Question 17

significant risks

Answer 17

highest assessed risks are “significant risks”
these risks require special audit attention
these risks are frequently described in enhanced audit reports as “key audit matters”

Question 17

what’s an example of significant risk

Answer 17

fraud risk
- auditors responsibility is to identify material misstatement
- risks of misstatement arises from fraud or error
- fraud risks are always significant risks: fraudulent financial reporting; misappropriation of asset
- “fraud triangle” helps to identify potential fraud risks

Question 18

how do auditors obtain sufficient appropriate audit evidence

Answer 18

• test of controls: audit procedures to evaluate the operating effectiveness of controls in preventing or detecting and correcting material misstatements at the assertion level
• substantive procedures: audit procedures designed to detect material misstatements at the assertion level

Question 19

what’s appropriate audit evidence

Answer 19

measure of the quality and reliability of audit evidence
- External: audit evidence from external sources is more reliable than obtained from the entity’s records
- Auditor: evidence obtained directly by auditors is more reliable than the obtained indirectly or by inference
- Entity: entity records are more reliable when related control systems operate effectively
- Written: evidence in the form of documents or written representations are more reliable than oral representations
- Originals: are reliable than photocopies or facsimiles