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BUS 426 (14)
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Business Administration
BUS 426
Brad Bart

Preface: Auditing An International Approach, Fifth Edition, Smielauskas & Bewley st “Many Professional developments have taken place in the first decade of the 21 century. These include adoption of new Canadian Auditing Standards (CASs), the further development of public accountability boards and their monitoring activities, and increasing emphasis on corporate governance, internal controls, risk-based auditing, independence and quality controls. In this edition, we summarize these developments through mid 2009, offering our perspective on their significance. We refer to this dramatically altered corporate landscape as the “post- Enron audit environment.” In this environment, we see not only radical changes in audit standards and the regulatory environment, but also significantly revised expectations of the auditor’s role in corporate governance and capital markets. The environment is characterized by more risks for auditors and their clients than ever before, as well as more restrictions on non-audit services for audit clients. However, we find the broadening adoption of internationalized auditing standards in Canada and other countries opens the door on an exciting new era for the auditing profession. With a high quality globalized set of audit standards, developed by an international standards board, and based on codes of conduct that encompasses ethical conduct and independence as key requirements, a new bar is set for quality in audit practice. Fraud, corporate governance, independence risk, the role of audit committees, global convergence of audit and accounting standards, and information technology have all become more prominent since the fourth edition; consequently, all these issues have been updated for the fifth edition. As in the past editions, we continue to provide thorough coverage of auditing at the conceptual and procedural levels. Overall, we hope that the students come away with a well-rounded and forward-looking learning experience in the field of auditing, and a thorough introduction to the new Canadian Auditing Standards coming into effect for financial statements for periods ending on or after December 14, 2010. We hope this edition’s coverage of the introduction of the new CAS in Canada may also be a helpful reference and resource during this transition stage in auditing practice.” ACCT4570 WINTER 2013 ROBERTSON Page 1 MODULE 1 INTRODUCTION TO AUDITING AUDITING - DEFINED A good definition of auditing provided by the Committee on Basic Auditing Concepts of the American Accounting Association: Auditing is a systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the correspondence between these assertions and established criteria and communicating the results to interested users. Explanation of terms • Objectively: in an unbiased and impartial manner • Evidence: all the influences upon the minds of auditors that ultimately guide their decisions. Evidence includes the underlying accounting data and all available corroborating information as discussed in section 5300. • Assertions: usually in the form of financial statements, are management representations. • Established criteria: GAAP • Communicating the results: an example is the opinion paragraph of the audit report. ACCT4570 WINTER 2013 ROBERTSON Page 2 Opinion paragraph – CAS 700 (Sect 5400.14) ♦In the opinion paragraph, the auditor should express his or her opinion whether the financial statements present fairly, in all material respects, the financial position, results of operations and cash flows of the entity in accordance with Canadian generally accepted accounting principles. THE AUDIT PROCESS Using their training and experience (judgement) auditors determine: • what evidence to examine, or its nature • how much evidence to examine, or its extent • when to collect the evidence, or its timing Two Main Parts to the Audit Process 1. Determining the nature, extent and timing of audit evidence to obtain, and evaluating the evidence efficiently and effectively. (Efficiency – cost of auditing; effectiveness – reaching the right conclusion) 2. Communicating the auditor’s findings through the auditor’s report. INFORMATION RISK Defined: The failure of accounting statements to appropriately reflect the economic substance of business activities, including business risks and uncertainties. From the auditor’s perspective, ACCT4570 WINTER 2013 ROBERTSON Page 3 the risk or probability that the financial statements distributed by the company will be materially false or misleading. How audit risk arises and how audits can help reduce information risk. 2 primary reasons why companies are audited: • To fulfil statutory requirements • To reduce information risk 1. Statutory Requirements • Canada Business Corporations Act • Provincial Securities Act • Government funding agreements 2. Information Risk Not all users of financial statements have access to all inside information about the organization in order to ensure that the financial statements are not materially misstated. An audit reduces the information risk that the financial statements are false or misleading. Users and providers of financial statements create a demand for financial statements. How do auditors reduce information risk? • Audits are done by independent auditors who can reduce the effect of biases that management may have in preparing the financial statements ACCT4570 WINTER 2013 ROBERTSON Page 4 • Auditors have expertise in accounting matters and can ensure that complex transactions are adequately and accurately recorded and reported • Auditors are bound by ethical standards that govern how they perform their work Auditors also exercise professional judgement during the audit process and professional judgement in an audit engagement requires an auditor to: • exercise due care; • maintain an attitude of professional scepticism; • comply with professional standards and applicable regulations • identify viable alternatives and recognize/consider, the effects of the economy, the environment, industry factors, risk factors, user needs and significance, techniques, standards and related matters for evaluating alternatives appropriately; and • reach a balanced decision Possible Sources of Information Risk • asymmetry of information between management and financial statement users • weak accounting system, incompetent employees • potential of deliberately deceptive accounting and reporting practices PUBLIC ACCOUNTING ACCT4570 WINTER 2013 ROBERTSON Page 5 The text discusses the accounting profession and public accounting (PA) firms beginning on page 18. Public accountants offer a range of services to clients including audit engagements, review engagements, compilation engagements, taxation services and a broad range of consulting services. A potential conflict of interest The possibility for a conflict of interest exists for an accounting firm between the firm generating profits and performing quality audits in a professional and responsible manner. In some cases, an auditor performs a wide range of other services for an audit client. The auditor may be in a difficult position when audit results could be critical of other work done by the auditor or by the auditor’s firm. In addition, an auditor may have difficulty resolving a difference of opinion on financial statement presentation when the client represents a significant source of revenue. EXTERNAL AND INTERNAL AUDITING The definition of internal auditing adopted by the Institute of Internal Auditors: Internal auditing is an independent, objective assurance and consulting activity designed to add value and improve an organization’s operations. It helps an organization accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control and governance processes. ACCT4570 WINTER 2013 ROBERTSON Page 6 Similarities in internal and external auditors: Independence – both should be independent in order to function effectively. The two groups define independence differently. External auditors should not be employees of the company but most internal auditors are employees. Evidence – both gather information to support their report on the company operations. Qualifications – Both should be competent, adequately trained and diligent in exercising due care in their activities. Objectivity – Both types of auditors face pressure to compromise their independence. Both groups need to be aware of the pressures and maintain a commitment to be objective. External auditors may feel pressure from their client because of their service contract. Internal auditors may feel pressure as employees of the company. Differences in internal and external auditors: Nature of Reporting – Internal auditors prepare their reports for management and these reports rarely become public whereas external auditors’ reports may be widely distributed. ACCT4570 WINTER 2013 ROBERTSON Page 7 Audit Focus – Internal auditors assess the effectiveness, efficiency and economy of the operations of the company and may or may not audit financial matters. External auditors focus on the company’s financial statements. Internal Control – External auditors need to gain an understanding of and evaluate the internal control of the company being audited as part of the audit process. Internal auditors are normally part of the internal control system. OTHER TYPES OF AUDITING Operational Auditing The study of business operations for the purpose if making recommendations about the economic and efficient use of resources, effective achievement of business objectives and compliance with company policies. The goal of operational auditing is to help managers discharge their management responsibilities and improve profitability. Operational auditing may be done by internal auditors or by external auditors where a company does not have internal auditors. Public Sector Auditing Similar to the internal auditor role in a governmental setting. Public Sector Accounting Handbook provides recommended accounting principles and is separate from the CICA Handbook . ACCT4570 WINTER 2013 ROBERTSON Page 8 Increasingly, audits in the public sector include value-for- money (VFM) audits which looks at economy, efficiency and effectiveness of the operation. The term Comprehensive Government Auditing refers to auditing financial reports, compliance with laws and regulations and VFM. Regulatory Auditing CRA auditors, Provincial Sales Tax Auditors and others who audit compliance with rules and regulations as set out in various Municipal, Provincial and Federal statutes. Not-For-Profit Auditing The CICA Handbook sets out accounting standards to be used for Not - For - Profit organizations in Sections 4400 to 4460. VFM auditing is also becoming popular for these organizations. Fraud Auditing and Forensic Auditing It is not the responsibility of a professional accountant to detect fraud in the course of a normal audit of financial statement information. If fraud or other dishonest presentation is detected during an audit, the auditor must deal with the problem but detection of fraud is not the goal of a financial statement audit. Fraud audits and forensic accounting are special purpose work performed separately from a regular audit and are designed to investigate particular issues. ASSURANCE ENGAGEMENTS ACCT4570 WINTER 2013 ROBERTSON Page 9 Definitions: Assurance – verifying the truthfulness of an assertion by an accountable party with independent corroborating evidence. Assurance Engagement – an engagement in which the auditor adds either reasonable or moderate levels of assurance. Assertion - the responsible or accountable party’s conclusion on the subject matter based on suitable criteria. Asserter – the party making the assertion Assurer – the assurer is the party providing credibility or assurance on the assertions made by the asserter. The assurance is provided for the benefit of the user. e.g. In a situation where a company owner wants to sell a business, the owner/seller is the asserter, the assertion is that the financial statements accurately reflect the company’s operations and the auditor is the assurer providing assurance on the owner’s report (in this case, a written assertion.) The user of the information would be the potential buyer of the company. The auditor comes into the transaction as a third party in addition to the seller and buyer. In addition to the most common assurance engagements (audits) there are many other types of engagements where credibility is added to information. Counting votes at the Academy Awards, witnessing lottery draws, checking sales revenues for commercial landlord/tenant agreements etc. all provide some increased level of assurance to others that information or procedures are correct. ACCT4570 WINTER 2013 ROBERTSON Page 10 AUDIT, REVIEW AND COMPILATION ENGAGEMENTS Audit Audits provide the highest level of assurance of the 3 engagements. The auditor obtains extensive evidence and performs significant procedures to state an opinion that the financial statements present fairly the financial position of the company. These procedures include: inspection, observation, inquiry, confirmation, computation and analysis. The auditor must be objective, have an understanding of and document the system of internal control and have knowledge of the business. The understanding of the terms of the engagement must be documented through the use of an engagement letter. The cost of an audit is relatively high because of the extent of the procedures performed. The report issued is called the Auditor’s Report Review Engagement Review engag
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