Unit 3: Introduction to Auditing Flashcards
Audit
the comparison of reported information with its underlying real economic transactions.
Audit report
The result of the comparison of reported information with its underlying real economic transactions.
What is the core matter of auditing?
solve asymmetric information
Auditing
reduce the information asymmetry between investors and management by obliging listed companies to publish various report components that are reviewed by the auditor
or another definition
“The accumulation and evaluation of evidence about
information to determine and report on the degree of
correspondence between the information and established
criteria.
Do small companies need audit?
–> limited audit for SME (see page 25)
–> no audit for Micro firms (below 10 employee and if all shareholders agree)
What is an ordinary audit ?
audit for larger companies (see page 25)
-Public Companies (Listed at stock exchange, have bonds outstanding, contribute at least 20 per cent of the assets, the turnover to the consolidated accounts of a company)
-Public Interest Entities (PIE) ( Total assets > CHF 20 Mio. Revenue > CHF 40 Mio.Full-time positions > 250, Companies that are required to prepare
consolidated accounts. –> need to have 2 out of 3 criteria)
Do audits need to protect more investor form companies who are listed in the stock exchange?
If companies are listed on the stock exchange, meaning that they have raised
money from a large number of investors, they are particularly worth being
protected
–> Listed companies are therefore generally subject to the strictest regulations.
What is the most important task of audit?
to protect the interests of the investors
How is the auditor elected?
The auditor is elected by the general assembly, or what some call the “board of directors”.
–> The General Assembly to which the auditors address their reports
What is purpose of auditing?
The purpose of an audit is to enhance the degree of confidence of intended users in the financial statements.
Why is there a need for Auditing
- Ensures Accuracy and Reliability
- Enhances Stakeholder Confidence
- Supports Regulatory Compliance
- Improves Operational Efficiency
- Strengthens Corporate Governance
- Facilitates Effective Communication
Audit committee
special committee within the Board of Directors that deals in depth with issues of reporting, internal control and auditing
What are the two annual report ?
- Financial Statements
-Descriptive Reports
Financial Statements
- Balance Sheet
-Income Statement
-Cash Flow Statement
-Statement of
-Changes in Equity - Notes
Descriptive Reports
- Management Report / CEO Letter
-Corporate Governance
-Sustainability Report
-Segment Report
-Additional Reports
What are the two types of audit?
-internal and external audit
Internal Audit definition
-Integral part of the company –> by permanent employee of that company
-Audits in accordance with management guidelines (for internal problems)
External Audit definition
-Audits on contractual basis and is independent
-Coordinates with internal audit –> best possible coverage of existing risks
Internal audit : client
board of Directors (BoD)
External audit : client
General assembly (GA)
Internal audit : role
- independent function of the company
- reporting directly to the BoD
-assurance and consulting activity to add value and improve an organizations operations
external audit: role
-Statutory body of the company
-Service relationships
-audit of the financial statement
statutory audit
is an audit that must be conducted in accordance with relevant legislation
Internal audit : Operating model
insourced
–> use of resources outside of internal audit
External audit : Operating model
- Third party provider (i.e accounting / local / statutory body)
internal audit : objective
- Supporting the BoD to achive their objective
-protect organizational value by providing risk-based and objective assurance and advice
External audit : objective
- Ensure shareholder and creditor protection
-Increase added value and user as well as stakeholder confidence in the financial statement throught transparency and reliability
internal audit : professional standards
- IPPF
-specific regulatory or statutory requirement
external audit : professional standards
- Swiss standard on Auditing (SA- CH)
-International standards on auditing (ISA)
-Regulatory standards (FINMA)
internal audit: scope
- Entire control environment of the company
external audit : scope
- Focus on financially relevant processes and report –> standards and legal framework
internal audit: know how
Industry business
in deph company wide knowledge
external : know how
Industry accounting expertise
Financial reporting and accounting standard
Does medium size company choose a Big 4 company for their audit ?
Usually, smaller companies tend to opt for smaller audit firms and larger companies rather than larger audit firms
“Big 4”:
Deloitte, EY, KPMG and PWC
Why listed company choose international audit firm ?
- image reasons
- stability of the financial system
-on a kind of “quasi-public” task by having to vouch with their names for the accuracy of financial reporting in all major capital markets
Is there any competition between the Big 4?
no competition because only a few provider
–> a company is sometimes audited by the same audit firm for many years.
Outside of themandatory annual audit of the annual accounts what does the audit company provide ?
provide services in the areas of management consulting, mergers & acquisitions, tax consulting and legal advice.
Auditing standards
regulations that define how exactly an auditor must proceed in performing their audits.
Which auditings standards it exist ?
Swiss Auditing Standards issued by the professional association ExpertSuisse.
International Standards on Auditing (ISA) different from the IAS accounting rule
United States Generally Accepted Auditing Standards or US- GAAS similarity with the US GAAP (comprised of several thousands of pages and yet cannot always cover all practical issues)
Audit supervisory institutions
responsible for approving auditors and are concerned with the quality of the audits carried out, which can go so far as to inspect the documents of the auditing company and, so to speak, to re-examine its auditing activities.
The auditor must be…
independent and form its audit opinion objectively. Its true or apparent independence must not be adversely affected.
Potential Issues with Auditor
- Company assigns and pays for the audit
- Long relation between audit firm and the company
that gets audited - Requirement to change the auditor in case of an
ordinary audit (but not the firm) after 7 years (CO
730/2) - Non-Audit Fees (NAF) as an important revenue
stream for audit firms - Market-pressure to cut costs
- Audit market is highly concentrated
Swiss Approach with Auditor Rotation
Individual auditors rotate (usually after 7 years) while the audit firm remains.
–> the Swiss approach for continuity and deep client understanding
European Approach with Audit Firm Rotation
The entire audit firm rotates after about 10 years.
–> for enhanced independence and reduced conflicts of interest.
Mid-sized Audit Company
BDO International, Grant Thornton, RSM International.
“material” misstatement
refer to inaccuracies or omissions in financial statements that are significant enough to influence the economic decisions of users relying on those statements.
Expectation gap
the public often expects much more from the auditors than what you have just learned, which can lead to disappointment.
legal disputes occur time and again, what should we do?
–> then we need settlement deal
What are the drivers of higher audit fees?
Higher audit fees are driven by complexity in financials, new regulations, client risk profiles, weak internal controls, the reputation of the audit firm, geographical location, use of technology, staffing needs, tight deadlines, and the size of the client.
The Audit Process Model
- Client acceptance
- Planning
- Testing and evidence
- Evaluation and Judgement
Client acceptance : process
- Evaluate the client’s background
and reasons for the audit. - Determine whether the auditor is
able to meet the ethical requirements regarding the client. - Determine need for other professionals
- Communicate with predecessor
auditor - Prepare client proposal
- Select staff to perform the audit.
- Obtain an engagement letter.
Planning: process
- Perform audit procedures to understand the entity and its environment, including the entity’s internal control.
- Assess the risks of material misstatements of the financial statements.
- Determine materiality
- Prepare the planning
memorandum and audit
programme, containing the
auditor’s response to the
identified risks.
Testing and evidence: process
- Tests of controls.
- Substantive tests of transactions.
- Analytical procedures.
- Tests of details of balances.
- Search for unrecorded liabilities
Evaluation and Judgement: process
- Evaluate governance evidence.
- Perform procedures to identify
subsequent events. - Review financial statements and
other report material. - Perform wrap-up procedures.
- Prepare Matters of Attention for
Partners. - Report to the board of directors.
- Prepare audit report.
Client acceptance: objectives
deciding
whether to accept a new client or
continue with an existing one.
Planning : objectives
Determine the amount and type of
evidence and review required to give
the auditor assurance that there is no
material misstatement of the financial
statements.
Testing and evidence: objectives
Test for evidence supporting internal
controls and the fairness of the
financial statements.
Evaluation and Judgement: objectives
Complete the audit procedures and
issue an opinion.
Substantive Procedures
Procedures designed to test for dollar misstatements that
directly affect the correctness of financial statement balances
Substantive tests of transactions
determine whether
transaction-related audit objectives are satisfied
Analytical procedures
comparisons of recorded amounts to
expectations developed by the auditor
Tests of details of balances
Focus on the monetary
correctness of the ending general ledger balances for balances
sheet and income statement accounts
Test of Controls
When policies and procedures are believed to be effectively
designed: control risk at a level that reflects the relative
effectiveness of those controls.
Types of evidence of manual and automated tests of controls:
‒ Make inquiries of appropriate client personnel.
‒ Examine documents, records, and reports.
‒ Observe control-related activities.
‒ Re-perform client procedures.
Going Concern Assumption
an entity is viewed as
continuing in business for the foreseeable future.
Auditor responsibility
- Obtain sufficient appropriate audit evidence about the
appropriateness of management’s use of the going concern
assumption in the preparation of the financial statements. - Obtain sufficient appropriate audit evidence to conclude
whether there is a material uncertainty about the entity’s
ability to continue as a going concern.
–> the auditor cannot predict future events or conditions = cannot be viewed as a guarantee as to the entity’s ability to continue
as a going concern.
Audit Opinion
- Unmodified (= Unqualified)
-Modified
Unmodified (= Unqualified)
that the auditor believes the financial statements present a true and fair view of the company’s financial position and performance, in accordance with the applicable financial reporting framework
Modified audit opinon is composed of ?
- Qualified Opinion
- Adverse Opinion
-Disclaimer ofOpinion
Qualified Opinion
The auditor concludes
that the over financial
statements are fairly
presented, but the scope
of the audit has been
materially restricted or
applicable accounting
standards were not
followed in preparing the
financial statements
–> Implies that, except for specific issues, the statements are fairly presented.
Adverse Opinion
The auditor concludes that
the financial statements
are not fairly presented.
Disclaimer of Opinion
The auditor is unable to
form an opinion as to
whether the financial
statements are fairly
presented, or the auditor
is not independent.
New Audit Report why ?
The standard unqualified auditor’s report does not communicate potentially useful information about the
audit, such as complex issues that require significant judgement and the ways in which the audit addresses them
–> The new extended audit report: to enhance investors’ understanding of the audit process, including the critical judgements made during the audit.
What are drivers of high audit fees ?
- Number of subsidiaries
-Audit during Busy Season
-Size
In auditing, “opting up” :
refers to the practice of a company choosing to adopt a higher standard of financial reporting than what is legally required. This might involve transitioning from a lower set of accounting standards (like cash basis accounting) to a more rigorous framework (like International Financial Reporting Standards, or IFRS).
Consequences of accounting scandals
- Increased regulation on financial report
-Decrease in confidence in public companies (shareholders)
-Selling of previous owned stocks (shareholders)
-Less demand for stock (shareholders)
-Lawsuits
The materiality level can be calculated on the basis of …
- Equity
-Net income
-Sales
-Total assets
Key audit matters are often related to…
- Revenue
-Goodwill
What are the drivers of high audit fees ?
- Size
- Audit during busy Season
- Numbers of subsidiaries
materiality
An item is considered material if its omission or misstatement could influence the economic decisions of users based on the financial statements.
Which auditing standards use Large oublic companies ?
IFRS and/or GAAP —- and OR
Which auditing standards use Small / medium companies?
OR
Audit expectation GAP
- Knoweldge gap : What the public thinks auditor do
- Performance gap : what auditor actually do
- Evolution gap : What auditor are supposed to do and what the public wants auditor to do
Company with consolidated account is subject to which audit ?
ordinary audit
materiality levels are subjectively determined by …
the auditors based on that specific firm’s unique background, performance, risks, etc.
Analytical procedures, which audit ?
- Critical assessment of bank balances in terms of amount and development during the year
- Review of general ledger accounts and clarification of the economic facts for larger or unusual postings
- Verification of interest expense / income with holdings
–> Limited Audit, will most likely concentrate more on analytical procedures (no 3rd party confirmations)
Results-oriented detailed checks, which audit ?
- Obtaining bank confirmations
- Reconciliation of the balanced balances with the balance reports and
bank statements on the balance sheet date - Checking the rates and converting foreign currency balances
- Checking the booked inputs and outputs using documents
- Check accrued interest
- ID check (maturities liquid funds, long-term / short-term)
–> Ordinary Audit
will most likely concentrate on both analytical and substantive procedures
Substantive tests of transaction
focus primarily on verifying the correctness of transactions that affect account balances rather than directly on the ending balances themselves
