Chapter 1
Auditing and Assurance Services
"If you want to be successful, it's just this simple:
Know what you're doing. Love what you're doing.
And believe in what you're doing."
-- Will Rogers
McGraw-Hill/Irwin
Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.
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User Demand for Reliable Information
• Today’s information
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More complex
Demanded by remote users
Demanded in a more timely manner
Has far reaching consequences
• Information risk
– the risk (probability) that the information (mainly
financial) disseminated by a company will be materially
false or misleading.
– users demand an independent third party assessment of
the information
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Exhibit 1.2
Overview of Financial Statement Auditing
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Definition of Auditing
Financial Statements
(including footnotes)
Persons who rely on
the financial reports
•Creditors
•Investors
Auditing is a systematic process of
objectively obtaining and
evaluating evidence regarding
assertions about economic actions
and events to ascertain the degree
of correspondence between the
assertions and established criteria
GAAP
and communicating the results to
Auditor's Report/
interested users.
Other Reports
Source: American Accounting Association Committee on Basic Auditing Concepts.
1973. A Statement of Basic Auditing Concepts, American Accounting Association
(Sarasota, FL).
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The Relationships Among Auditing,
Attestation, and Assurance Engagements
Assurance Services
Any Information
Attestation Services
Primarily Financial Information
Auditing
Financial Statements
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Assurance Services
• Assurance services are independent professional services
that improve the quality of information, or its context, for
decision makers.
• Examples
• Consumer reports
• Underwriters laboratories
• CPA WebTrust
• Performance View
• PrimePlus Services
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Attestation Engagements
• An attestation engagement - a practitioner is assesses and
reports on “subject matter or an assertion about the subject
matter that is the responsibility of another party.”
• Some financial attestation engagements (other than audits)
• Supplementary financial statistics
• Pro forma financial information
• Financial forecasts and projections
• Some non-financial attestation engagements
• Compliance with contractual requirements
• Effectiveness of internal control systems
• Inventory quantities and locations
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Sarbanes-Oxley Act of 2002
• In response to several accounting related corporate
scandals Congress passed the Sarbanes-Oxley Act
• The Act’s major provisions include:
– Requirement of CEO/CFO certification of financial statements
– Requirement of auditor examination of company internal controls
– Creation of the Public Company Accounting Oversight Board
(PCAOB) to serve as an auditing profession “watchdog.”
– Prohibition of certain client services by firms conducting a client’s
audit.
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Sarbanes-Oxley:
Management’s Responsibility For Financial Reporting
•
•
One of its most important provisions (Section 302) states that the key
company officials must certify the financial statements.
The company CEO and CFO must sign a statement indicating:
1.
They have read the financial statements.
2.
They are not aware of any false or misleading statements (or any key
omitted disclosures).
3.
They believe that the financial statements present an accurate picture of the
company’s financial condition.
Source: U.S. Congress, Sarbanes-Oxley Act of 2002, Pub. L. 107-204, 116 Stat/ 745
(2002).
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PCAOB Management Assertions
• Existence or occurrence – Assets included in accounts exists
and events that give rise to transactions have taken place
• Rights and obligations- Entity has a legal claim on all assets
and revenues reported and has a legal responsibility for all
liabilities and expenses
• Completeness and cutoff - All transactions have been
recorded
• Valuation or allocation – Transactions are recorded at the
correct amount in the proper period
• Presentation and disclosure – All accounts are presented in
the appropriate place and all information required has been
disclosed in the statements and footnotes.
Exhibit 1.5
Example Assertions and their
Relationships to the Financial Statements
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Professional Skepticism
• Professional skepticism - auditor’s questioning, evaluative,
attitude toward evidence
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Management’s assertions without sufficient corroboration.
Financial trends need investigation
Documents are checked for authenticity or alteration
Ask questions, get answers, then verify the answers.
• A potential conflict of interest always exists between the
auditor and the client.
– Management wants to portray the company and its operations in the
best possible light.
– Auditors want to portray the company and its operations fairly.
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Professional Service Firm Organization
Executive Committee
Managing Partner
Practice Offices
Partners-in-Charge
Tax Consulting
Services
Audit, Assurance and
Business Advisory
Services
Partner
Manager
Manager
Consulting
Services
Partner
Manager
Senior (In-charge) Accountants
Staff Accountants (or Associates)
Manager
Manager
Manager
Senior (In-charge) Accountants
Staff Accountants (or Associates)
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The Public Accounting Profession
• Assurance services
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Audit engagements
Assurance engagements
Attestation engagements
Compilations
Reviews
• Tax consulting services
• Consulting services
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Prohibited Services to Audit Clients
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•
•
Sarbanes-Oxley and the PCAOB prohibit professional service firms
from providing any of the following services to an audit client:
1) bookkeeping and related services
2) design or implementation of financial information systems
3) appraisal or valuation services
4) actuarial services
5) internal audit outsourcing
6) management or human resources services
7) investment or broker/dealer services
8) legal and expert services (unrelated to the audit)
Professional service firms may provide client tax services (with some
restrictions) and other non-prohibited services to audit clients if the
company’s audit committee has approved them in advance.
In summary, Sarbanes-Oxley prohibits professional service firms
from performing any client services in which the auditors may find
themselves making management decisions or auditing their own
firm’s work.
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Types of Audits and Auditors
• Financial (External Auditors/CPAs)
• Ensure that financial statements are accurate.
• Operational (Internal and Governmental
Auditors/CIAs)
• Improve operational economy
• Improve operational efficiency
• Compliance (Internal and Governmental Auditors)
• Ensure compliance with company and/or governmental rules
and regulations
• Forensic (Fraud Auditors/CFEs)
• Most audits are a combination of financial,
operational, and compliance audits.
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Organization of the Profession
• “Big Four” Accounting Firms
– D&T, E&Y, KPMG, PwC
• National
– Grant Thornton, BDO Seidman
• Local/Regional
– Melton & Melton (Houston)
– Plante Moran (Michigan/Illinois/Wisconsin)
– Goodman & Company (Virginia)
• Sole Proprietor
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Become Certified!
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Education
Examination
Experience
State License!
• After that CPE