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Lecture

BUS 426 Lecture Notes - Financial Audit, Audit Evidence, Audit Risk


Department
Business Administration
Course Code
BUS 426
Professor
Brad Bart

Page:
of 14
MODULE 3
AUDIT OBJECTIVES, EVIDENCE,
PROCEDURES AND DOCUMENTATION
AUDITOR’S RESPONSIBILITIES: Errors, irregularities, illegal acts
There are audit standards from several sources that set out the
auditor’s responsibilities for errors, irregularities and illegal acts. The
CICA Handbook lists a number of rigorous auditing standards. These
include standards concerning:
Misstatements – CAS 240 (Sect. 5135)
Misstatements due to illegal acts by clients – CAS 250 (Sect.
5136)
Auditing accounting estimates – CAS 540 (Sect. 5305)
Communication with those having responsibility for financial
reporting – CAS 240 & CAS 260 (Sect. 5135 & 5751)
Communication of matters identified during the financial
statement audit – various sections of CAS (Sect. 5750)
Auditor’s Responsibility to Consider Fraud and Error in Audit of
Financial Statements
Since Enron, standards have been revised and require the auditor to
make enquiries of management about fraud and to consider fraud risk
factors on every audit engagement. The traditional assumption on
management’s honesty was removed.
CAS 240.04 “The primary responsibility for the prevention and
detection of fraud rests with both those charged with governance of the
entity and management. It is important that management, with the
oversight of those charged with governance, place a strong emphasis
on fraud prevention, which may reduce opportunities for fraud to take
place, and fraud deterrence, which could persuade individuals not to
commit fraud because of the likelihood of detection and punishment.
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This involves a commitment to creating a culture of honesty and ethical
behavior which can be reinforced by an active oversight by those
charged with governance. Oversight by those charged with governance
includes considering the potential for override of controls or other
inappropriate influence over the financial reporting process, such as
efforts by management to manage earnings in order to influence the
perceptions of analysts as to the entity's performance and profitability.
Responsibilities of the Auditor
CAS 240.05. An auditor conducting an audit in accordance with
CASs is responsible for obtaining reasonable assurance that the
financial statements taken as a whole are free from material
misstatement, whether caused by fraud or error. Owing to the inherent
limitations of an audit, there is an unavoidable risk that some material
misstatements of the financial statements may not be detected, even
though the audit is properly planned and performed in accordance with
the CASs. “
The auditor should assess inherent risk [the probability that material
misstatements have occurred] and control risks [the risk that the
client’s internal control will not prevent or detect a material
misstatement] so that, together with the substantive tests [the
performance of procedures to obtain direct evidence to produce
evidence about the dollar amounts and disclosures in the financial
statements] performed, the risk of material misstatement from fraud
and error is appropriately low. Another important requirement is
obtaining written representations from management concerning the
non-existence or extent of fraud.
The appendices to CAS 240 (Sect. 5135) contain numerous examples
of situations that indicate the possibility of fraud.
Further to the requirements set out in CAS 240.12 (Sect. 5135, Sect.
5090. 05) states that “In accordance with CAS 200, the auditor shall
maintain professional skepticism throughout the audit, recognizing the
possibility that a material misstatement due to fraud could exist,
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notwithstanding the auditor's past experience of the honesty and
integrity of the entity's management and those charged with
governance. (Ref: Para. A7-A8) & CAS 200.15 states “The auditor
shall plan and perform an audit with professional skepticism
recognizing that circumstances may exist that cause the financial
statements to be materially misstated. (Ref: Para. A18-A22) In other
words, there is no valid excuse for an auditor to omit the consideration
of potential material misstatements when planning an audit.
Illegal Acts by Clients
Responsibility of Management
CAS 250.03 “It is the responsibility of management, with the oversight
of those charged with governance, to ensure that the entity's
operations are conducted in accordance with the provisions of laws
and regulations, including compliance with the provisions of laws and
regulations that determine the reported amounts and disclosures in an
entity's financial statements.”
Responsibility of the Auditor
CAS.04 “The requirements in this CAS are designed to assist the
auditor in identifying material misstatement of the financial statements
due to non-compliance with laws and regulations. However, the auditor
is not responsible for preventing non-compliance and cannot be
expected to detect non-compliance with all laws and regulations.”
CAS.05 “The auditor is responsible for obtaining reasonable
assurance that the financial statements, taken as a whole, are free
from material misstatement, whether caused by fraud or error. In
conducting an audit of financial statements, the auditor takes into
account the applicable legal and regulatory framework. Owing to the
inherent limitations of an audit, there is an unavoidable risk that some
material misstatements in the financial statements may not be
detected, even though the audit is properly planned and performed in
accordance with the CASs. In the context of laws and regulations, the
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