Topic 2 - Obtaining and planning assurance engagements Flashcards
What are the appointment considerations?
Information to determine whether they can accept the appointment
TRIMROT
1. Technical Competence
2. Resources
3. Independance
4. Money Laundering
5. References/risks
6. Outgoing Auditors
7. Terms of engagement
- Sufficient skills and expertise?
- Sufficient resources?
- Ethically barred from acting?
- Impacts ee
- Circumstances for change of auditor?
When can we contact the outgoing auditors
If it was not the client’s first audit, then outgoing auditors will need to be contacted
ONLY if the potential client gives them permission. If permission is refused, then the auditor should decline the engagement
What happens after permission is granted to contact outgoing auditors?
Prospective auditor must ask them to disclose all relevant information to them (any professional reason why they shouldn’t accept the engagement)
Money laundering regulations
Client due diligence
- documents giving full name and address of client (Individual)
- Companies House or certificate of incorporation (Companies)
How long should client indentification documents be kept for at minimum?
Money Laundering regulations
Minimum of 5 years and until 5 years have elapsed since relationship with client in question has ceased
What must propsective auditors do after acceptance?
- ensure proper removal/ resignation of the outgoing aduditors
- ensure vote at general meeting has been passed (valid)
- submit letter of engagement
What is a letter of engagement?
Sets out objectives, scopes and responsbilites of audit.
Also outlines the reporting framework
What is the purpose of engagement letters?
- define the resposibilities of the auditor (review f.s. and express opinion) and directors (prepare f.s.)
- provide written confirmation of acceptance of the engagement
Should be sent to all new clients soon after their appointment
What must be included in the engagement letter?
SARD
1. Auditors’ responsibilities
2. Directors responsbilities
3. Scope/Objectives of the assurance engagement
4. Report to management (nature and content of these reports)
When is Materiality considered and how is it helpful?
Before Audit planning
- identifying and assessing the risks of material misstatement
- evaluation effect of uncorrected misstatements on f.s. and in forming and opinion in the auditors report
how many items to test, whether to use sampling techniques, what level of error would lead to a modification of audit opinion
How is level of materality calculated?
RAP
Revenue: 1/2 - 1%
Total Assets: 1-2%
Profit before tax: 5-10%
Often (not always) expressed as a proportion of profit
Remember some items are material by nature, regardless of monetary value of item
When should the level of materiality be reviewed
Constantly
How is performance materiality calculated?
Higher the assessed risk, the lower the percentage
What is professional scepticism?
Before Audit Planning
- maintaining a questioning mind, seeking to verify the validity of answers
- neither assuming that management are dishonest nor accepting answers without question
What is professional judgement?
Before Audit Planning
Application of relevant training knowlegde and experience in making informed decisions about courses of actions that are appropraite in the circumstances of the audit engagement
What is first stage of Audit Strategy?
Audit Strategy key element
Understanding the entity environment:
* general economic conditions
* current trends and developments in industry
* understanding principal business strategies
* extent of the experience and compentence of management
helps us identify risk
What is Audit Risk?
The risk that the auditor expresses an inappropraite audit opinion when the f.s. are materially misstated
What is Audit Risk made up of?
AR = IR X CR X DR
What is inherent risk?
The susceptibility of a transcation misstatement being material before consider of any related controls
What causes inherent risk?
- complex calculations are more likely to be misstated
- transcations derived from accouting estimates
- business may be under pressure to produce results in tough economic climate
What is control risk?
Risk of a mistatement being material and not being prevents or detected and corrected on a timely basisby entity’s system of internal control
e.g. too few employees in accounting department
What is detection risk?
Risk that the procedures perfromed by the auditor to reduce audit risk to an acceptably low level will not detect a misstatement that exists and could be material
e.g. inexperienced audit staff, lack of time, poor planning, sampling risk
What is physical risk?
physical effects of climate change such as storms, extreme temp, wildfires or flooding
what is transition risk?
social or economic shifts to a low-carbon economy such as changes to policy, regulation, technology and market
What are analytical procedures?
evaluation of financial information through the study of plausible relationships among both financial and non-financial data
comparison with: prior periods, anticiapted results, similar industry info
What are genuine reasons why gross profit margin might go up?
- increased selling price
- change in sales mix
- change to cheaper supplier
- cost control
What are possibles errors why gross profit margin would go up?
- revenue overstated
- cos understated
- closing inventory adjustment overstated
What are genuine reasons why operating profit margin would go up and down?
- good at controlling your admin expenses
- bad at controlling admin expenses
- one off large expense for legal issue or advertising
What are erros why operating profit margin woud go up and down?
- omitted admin costs (e.g. forgotten to accure for electricity)
- changed classification of cost categories year on year
What are genuine reasons + errors why inventory days might go up?
- business has changed since last year and now holds more inventory
- just received a large delivery of items which have yet to be sold
- overstated inventory if the inventory is obslete
Current ratio
- a ratio greater than 1:1 shows that businesses can pay their liabilities from their assets and has good working capital management/ liquidity
- a ratio less than 1:1 shows business can not pay their liabilities from their asstes - possible going concern
What are genuine reasons + errors why receivable days might go up?
- have offered extended crefit terms to attract new customers
- slow payers leading to a heightened risk of unrecorded bad debts
What are genuine reasons + errors why payables days might go down?
- suppliers have shortened the credit period offered
- trade payables figure is understated due to cut off issues
What is an audit plan?
Sets out the nature, timing and extent of audit procedures
What are key objectives of planning an audit?
- ensure appriopriate attention is devoted to important areas of audit
- identify potential problems and try resolve in timely manner
- assign work engagement team properly, according to ability, experience or technical knowledge
- ensure work is properly managed and organised
What is an audit strategy?
scope, timing and direction of the audit and guides the development of the plan
What are key concepts of the audit strategy?
- understanding the entity and its environment
- understanding the accounting and internal control systems
- risk and materality
- nature, timing, of procedures
