Assurance Revision Notes

Chapter 1
The need for assurance
What is assurance?
Assurance engagement - One whereby the practitioner expresses a judgement that is designed to enhance the degree of condence of
the intended users.
The Key elements of the assurance engagement
Three People Concept
The user - Shareholders e.c.t
The practitioner - The Accountant (Auditor)
The Responsible party - The directors of the company
The Subject Matter
What the Auditor Will Audit, (Data, Systems/processes, Behaviour)
Suitable Criteria
The Practitioner needs something to judge the material against, in order to arrive at a conclusive judgement
Sufcient appropriate audit evidence
Sufcient - Enough of the evidence, Appropriate - The Quality/reliability of that evidence
Written Report
The evidence must be written to document the opinion as evidence to support either the Client/Auditor in legal or other
proceedings.
Levels of Assurance
Limited - This is a negative opinion given by the practitioner - Less than the reasonable assurance
Reasonable - This is a positive conclusion given by the auditor. This is not however to be confused with an absolute opinion
An opinion can never be fully conclusive (Full Assurance)
The level of assurance given is dependent on the amount of sufcient appropriate audit evidence that can be obtained
Denition on an Audit.
All large companies are required by statute to have an audit.
An Audit of the Financial statements gives an opinion whether they are prepared, in all material respects, in accordance with an
applicable nancial reporting framework.
True and Fair View
True - Info is factual and conforms with reality, the accounts have been correctly extracted from the books of original entry.
Fair - Info is free from discrimination and bias. Accounts should reect the commercial substance of the company.
The Companies Act 2006
Requires that auditors are members of a Recognised Supervisory Body
- Individuals holding the appropriate qualication;
- Firms Controlled by qualied persons.
Not allowed to be an auditor in the following circumstances:
An ofcer or employee of the company
A partner in a partnership
Why is Assurance important?
Independent and a professional opinion
Added condence to other Users
Deterrent to error/fraud.
Limitations of Assurance
Subjective, Sampled Limitations of the systems, information from 3rd Parties, Includes estimates
The expectations Gap
Users not aware of the nature of the limitations in assurance provision
Assurance provider not offering guarantee of correctness.
Chapter 2 - Governance
What is Governance?
The set of Legal and regulatory methods put into place to ensure effective corporate governance
Statutes - Legal requirements
Codes of practice - Recommendations on how to govern
OECD - The Organisation for economic C-operation and development
1. Transparent and efcient nancial markets
2. Protect Shareholders Rights
3. Equitable treatment of all shareholders
4. Recognise the rights os Stakeholders
5. Timely and accurate disclosure of material matters
6. Effective board
Internal Audit
Nomination committee
Shareholders and stakeholders
Internal controls
Disclosure
Effective board
Audit Committee
CEO/ Chairman
Remuneration
Accounting function
Balanced Board
The UK Corporate Governance Code 2012
FTSE 350 Index:
- Must comply with the principles of the code
- Explain why they have not complied
Must have a section in their annual report (Statement Of Compliance)
Five Sections of the UK Corporate Governance Code
- Leadership
- Effectiveness
- Accountability
- Remuneration
- Relations With Shareholders
External Audit
Purpose - To provide an opinion whether the nancial statements produced by the directors give a True and Fair view of the nancial
performance of the company.
Auditors - Appointed by the Shareholders
Internal Audit - Monitors the effectiveness and efciency of internal; controls and risk management. - Not required by Statute.
Chapter 3 - Obtaining the Audit Engagement
Auditors can advertise and tender for the appointment of the audit of a company.
Auditors must carry out before accepting:
- Professionally Qualied
- Existing Resources are adequate
- Obtain References
- Communicate with the present auditors
Sources of evidence Regarding New Clients
Enquiries - Bankers and solicitors
Documents - annual accounts and credit rating
Previous auditors - Should disclose fully relevant information
Rules and Industry standards - consider any rules and regulations that govern the industry
After Accepting the Nomination
1. Ensure that the outgoing auditors removal/resignation has been conducted properly
2. Ensure that the New Auditors appointment is valid. (Copy of the resolution passed at the GM)
3. Set up and submit a letter of engagement.
Should obtain all of the books from the outgoing auditors.
Money Laundering
Money Laundering Regulations 2007 - Client Documentation should be kept for am minimum of Five Years and until Five Years have
elapsed since the relationship with the client ceased.
Agreeing the terms of the engagement
Engagement Letter
Dene the extent of the Firms responsibilities
Provide written conrmation of the rms acceptance
Other Things it will include - The Scope of the Audit & the fees for the Audit.
Chapter 4 - Planning The Audit
Audit Strategy - General Strategy - Scope, Timing & direction of the Audit
Audit Plan - sets out the Nature, Timing & Extent of Audit Procedures (Risk Management)
Why plan?
Appropriate attention to specic areas
Identify Potential problems and rectify
organised and managed properly
Direction and supervision for engagement team members
facilitate review of work
Audit Strategy
- Identify Relevant characteristics
- discover the Key Dates
- Determine Materiality and Risk assessment
- Consideration of Audit team members
Audit Plan
- Understanding the entitys environment
- Understanding the Control Systems
- Risk and Materiality
- Nature timing and extent of procedures
- Co-ordination, direction and supervision
- Other Matters - Going Concern?
The entity and the environment - Helps with understanding the risk, the businesses transactions and ability to design audit procedures to
help discover fraud and other misstatements.
Professional Scepticism - The need for auditors to have a questioning mind and not necessarily believing everything mangers and
employees have to say about controls and the running of the business in general.
Analytical Procedures
Evaluation of nancial information through analysis of plausible relationships among both nancial and no-nancial information.
Comparison of the companies nancial information with industry averages and industry statistics.
ISA 520 - Requires the auditors to apply analytical procedures in the overall review at the end of the audit and as substantive procedures.
Analytical Procedures include :
- Comparable information for prior periods;
- Anticipated results of the entity;
- Similar industry information.
Materiality
Relates to the level of misstatement that affects the decisions of the users of the accounts
Materiality must be calculated at the planning stage of the audit.
Materiality must be reviewed through the audit
Audit Risk
The risk that the auditor expresses an inappropriate audit opinion when the nancial statements are materially misstated.
Inherent Risk - The risk that items will be misstated due to characteristics of those items and the very nature of the business.
Control Risk - The risk that a misstatement wouldnt be prevented, detected or corrected by the accounting and internal control systems.
Detection Risk - The risk that the auditor will fail to detect the misstatement in the audit. The Auditor has some degree of control over this
risk as they could decrease materiality and increase the sample size e.c.t.
Audit Risk = Inherent Risk X Control Risk X Detection Risk.
Audit Risk must = low
when the detection risk must = low, the materiality must be set as low. This is because you are more likely to detect a misstatement when
the buffer for materiality is reduced.
Chapter 5 Audit Evidence and Reporting
Audit evidence - Evidence used by the auditor in arriving at the conclusions on which the auditors opinion is based.
Tests of Controls - Audit Procedures designed to evaluate the operating effectiveness of the controls in place.
Substantive Procedures
- Tests of Detail - account balances and disclosures
- Substantive Analytical Procedures
ISAs require Auditors to always carry out some substantive procedures on material items.
An audit opinion is always a positive opinion and gives a reasonable level of assurance.
Less testing will be carried out on lower level assignments.
The expectations gap
Three misunderstandings that contribute to the expectations gap:
- The nature of the nancial statements
- The type and extent of the work undertaken by auditors
- The level of assurance given by auditors
The quality of evidence
External - 3rd party evidence is better that information gained from the client itself
auditor - More reliable than obtaining info indirectly or inference
Entity - Information from the entity is more reliable when their control systems operate effectively
Written - More reliable than oral information
Originals - More reliable than photocopies
Financial Statement Assertions
Representations by management used by the auditor to consider the different types of misstatement that may occur.
Chapter 6
ISA 315 - identifying and assessing the risks of material misstatement through understanding the entity and its environment.
Internal control - provide reasonable assurance with regard to nancial reporting, effectiveness, efciency of operations and compliance
with applicable laws.
5 Internal controls set out by ISA 315:
- The control environment - includes governance and management functions. - Audit committees (non-executive directors)
- Business Risk - the risk that an entity will be unable to achieve its objectives and execute its strategies due to an event, circumstances
and conditions. (entity risk assessment - identifying business risk and deciding how to address those risks.)
- Information system relevant to nancial reporting - established to initiate, record, process and report entity transactions.
- Control Activities - policies and procedures that help ensure that management directives are carried out.
Information processing,
Authorisation,
performance review,
physical controls,
segregation of duties.
- Monitoring of Controls - Should review its overall control system, often done by the audit committee.
Flow charts = great for recording systems
charts and family trees = great for recording relationships
Chapter 7 - Revenue System
Risks for orders:
- orders taken from those who cant pay
- orders taken from those who will pay at a later date
- orders might not be recorded properly and therefore not fullled
Controls:
Segregation of duties;
Authorisation of credit terms;
authorisation for changes in other customer data;
orders accepted from those with good credit rating;
sequential numbering;
correct prices quoted to customers;
matching of customer orders to the GDN and production orders;
dealing with customer queries.
Risks Of Dispatching and invoicing
- Goods dispatched but not recorded
- Good dispatched but not invoiced
- invoices raised in error
Controls:
Authorisation of despatch of goods;
examination of goods outwards;
Preparation of GDN;
agreement of GDN to customer invoices;
pre-numbered despatched notes;
condition of goods returned checked;
recording of goods returned to goods returned note;
signature of despatch notes by customers;
inventory records updated.
Recording Risk:
- invoiced sales not properly recorded
- credit notes not properly recorded
- sales recorded in wrong customer accounts
- bad debts/written off debts included in receivables ledger
Controls e.c.t.
Cash Collection Risk:
- Money received not recorded
- Money received not banked
Controls e.c.t.
Chapter 8 - Purchase System
Ordering Risk
Risks:
- Goods are fore personal use
- Goods are not on the most advantageous terms
Goods Inwards and recording Invoices
Risks:
- Goods may be misappropriated
- Invoices may by mislaid, leading to non-payment
- Invoices are paid at wrong time/amount
- Payments/Credits are not recorded
- Recorded in wrong period
Cash Payments
Risks:
- Payments are made inappropriately
- Blank cheques and cash are stolen
Chapter 9 - Employee Costs
Setting Wages
Risks:
- Employees are paid for work they havent done
Recording Wages and deductions
Risks:
- Incorrect recording of wages and cash paid
- Incorrect deductions leading to future liabilities
Payment
Risks:
- Employees are not paid
- Non-employees are paid
Chapter 10 - Internal Audit
Internal Audit Function - Examining, evaluating and monitoring the adequacy and effectiveness of internal controls.
Can audit board reports not audited by the external auditors
liaising with external auditors, and reduce the time and cost of external audit.
Internal audit focused on the operations of the entire business, not just the nancial statements
The internal auditors tend to be independent and separate from the departments that they are auditing. They can be either outsourced, or
an employee of the company.
Chapter 11 - Documentation
Audit documentation - The record of procedures performed, relevant evidence obtained and conclusions the auditor has reached.
Audit Providers record their work to:
Help plan future audits
Enable the audit team to be accountable for their work
enable an experienced auditor to carry out quality control reviews
To protect the auditor from any legal disputes
Audit working papers
Owned by the Auditor
Need permission to distribute to 3rd parties
Usually allow the client to view the papers
The report once issued belongs to the client
Chapter 12- Evidence and Sampling
Sufcient appropriate audit evidence
Sufcient - Measure of Quantity
Appropriate - Measure of Quality and reliability
Quality of Audit Evidence:
External - Evidence from 3rd parties is more reliable than the evidence from the client
Auditor - Evidence obtained directly by the assurance provider is more reliable than indirectly/ or by inference
Entity - Evidence is more reliable when control systems operate efciently
Written - Witten is better than oral evidence
Originals - Originals = better than photocopies.
Computer assisted audit techniques
CAATs - Computer assisted audit techniques
Test data
Audit software
Test Data:
The assurance provider supervises the process of running data through the clients system
Audit Software:
Select a sample - dependent on relevant criteria
Calculate ratios
check calculations
prepare reports
Analytical procedures
Analytical procedures compulsory at the planning and overall review stage
Audit sampling: testing a portion of the population to draw conclusions about the entire population.
testing all items with a specic characteristic is not sampling
Sampling Risk - The risk the auditor will reach a conclusion based on a sample may be different from the conclusion if the entire
population was tested.
Tolerable Misstatement - Monetary amount set by the auditor in respect the level of risk of the company and allows the auditor to accept
an error up to the tolerable misstatement.
With tolerable misstatement, if you exceed this in sampling, then you only include the amount measured.
Methods of selecting a sample:
1. Random selection - all items in the population have equal chance of selection
2. Systematic selection - Constant interval between selection
3. Haphazard selection
4. Sequence or block selection - (sample of 50 consecutive cheques)
5. Monetary unit Sampling - Once you go over a balance e.g. 50,000 you will take that value that breached the threshold.
If considerable misstatements are found throughout the audit and management refuse to correct these, the auditor should
Request a Written Representation from management. This will be drafted by the Auditor and signed by the management.
Written representations should not act as a substitute for other evidence that is available.
Chapter 13 - Written representations assurance evidence
Signed by the management to assure that:
- Fullled responsibility for preparation of the nancial statements in accordance with the applicable nancial reporting framework.
- Provided the auditor with all relevant information and access as agreed in the terms of the audit engagement
- Recorded and reected all transactions in the nancial statements
The above is required by ISA 580
Chapter 14 - Substantive procedures
Non-Current Assets:
Tangible non-current assets
Key Issue:
Existence, completeness, rights & Obligations, valuation,
Sources of information:
asset register, purchase invoices, physical assets, third party valuations
Inventory
Key Issue:
Existence, completeness, valuation, Rights & Obligations.
Sources of information:
Inventory count, invoices, third party conrmation, client controls over audit count
Receivables
Key Issues:
Rights & Obligations, Existence, valuation
Sources of Information:
Third party conrmation, cash payments after date
Payables
Key Issues:
Completeness
Sources of information:
Supplier statements,
Bank
Key Issues:
Completeness,, Existence, Rights & Obligations, Valuation
Sources of information:
conrmation from bank, bank statements, reconciliations.
Long-term liabilities
Key issues:
Completeness, accuracy, disclosure.
Sources of Information:
Loan documentation, statutory books, conrmation from lenders, board minutes, client calculations.
Income Statement
Key Issue:
Completeness.
Chapter 15 - Codes of professional ethics
Accountants need to have an ethical code. This is because People rely on them and their expertise.
ISAC Code - contains a number of fundamental principles
- Integrity
- Objectivity
- Professional competence and due care
- Condentiality
- Professional behaviour
IESBA Code - principle based
The principle based system:
- Allows exibility
- Allows broad interpretation
- Encourages evaluation
- Allows individual situations
- Can contain rules
Chapter 16 - Integrity, Objectivity and independence
Integrity - This means that an accountant must be straightforward and honest. It implies fair dealing and truthfulness.
Objectivity - this is a state of mind that excludes bias, prejudice and compromise and that gives fair and impartial consideration all
matters that are relevant to the task in hand, disregarding those that are not.
Independence - is related to you and underpins objectivity -
Threats and safeguards
Self interest threat - this can include nancial interest i.e. an interest in equity and others security.
Close business relationships - one should not accept a gift if it is to be a bribe i.e. of nancial signicance
Employment with an assurance client - you cannot be employed by a client for two years.
Where there are overdue fees, the assurance provider should withhold the report until overdue payments are received.
Percentage or contingent fees - where one specic client amounts were large percentage of the business i.e. over 15% of the fees, the
assurance provider should disclose this fact and if they are offering other services such as tax, then they should stop doing these.
Lowballing is not permitted in practice, - this is where a competitor offers a signicantly lower price in order to get the client.
If the assurance provider has the opportunity to also get a client competitor, they should disclose this fact of both parties before they
accept any assurance work.