PowerPoint Slides to accompany Auditing and Assurance Services in Australia 4th ed.

By Grant Gay & Roger Simnett Slides prepared by Roger Simnett

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Part One The Auditing and Assurance Services Profession

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Chapter 1 Assurance and auditing: an overview

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 1: The framework for assurance engagements

Many parties provide reports to users as

an aid to making decisions.

Reports are potentially biased due

to the vested interests of the report providers.

Users may demand that the credibility of the

report be enhanced by having an independent expert examine it.

Financial statements are just one type the

most common of report that can be assured.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Definition of assurance engagement

Assurance engagement:

an engagement in which an assurance practitioner expresses a conclusion designed to enhance the degree of confidence of the intended users other than the responsible party about the outcome of the evaluation or measurement of a subject matter against criteria.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Diagram of assurance engagement

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Five elements of assurance engagement

1. Three-party relationships:

Practitioner (auditor) Responsible party (preparer) Intended user

2. Subject matter 3. Suitable criteria 4. Sufficient appropriate evidence 5. Written assurance report

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Why is there value in the assurance service?

Independence:

Users derive value from the knowledge that the assurance provider has no interest in the information other than for its usefulness.

Expertise:
Assurers must have the competence to obtain sufficient relevant information to provide a reasonable basis for their conclusions. Requires professional judgement and professional scepticism.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Professional judgement and professional scepticism

Professional judgement:

Users derive value from the knowledge that the assurance provider has no interest in the information other than for its usefulness. An attitude that includes a questioning mind, being alert to conditions indicating possible misstatement and critically assessing audit evidence.

Professional scepticism:

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 2: Structure of assurance standards and pronouncements

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Levels of assurance

For any subject matter, two levels of assurance can be provided:

1. 2.

Reasonable assurance Limited assurance.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Reasonable assurance (Figure 1.3)

(cont.)
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Limited assurance (Figure 1.3 cont.)

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Level of assurance on financial statements

Reasonable assurance engagements are commonly

called 'audit engagements'. Reasonable assurance = positive expression of opinion. Limited assurance engagements are commonly called 'review engagements'. Limited assurance = negative expression of opinion. There are also engagements that provide no assurance:

Agreed-upon procedures engagements and reports of factual findings.

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Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

Attest v direct reporting

Audit and review engagements can involve

either an attest or a direct reporting engagement.

Attest reporting engagement:

The auditor issues an opinion on written assertions made by the party responsible for the subject matter.

Direct reporting assurance engagement:

The auditor issues an opinion directly on the subject matter (no written assertion is made by the party responsible for the subject matter).

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 3: Auditing defined

A Statement of Basic Auditing Concepts

(ASOBAC the American Accounting Association) defines auditing as:

A systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the degree of correspondence between those assertions and established criteria, and communicating the results to interested users.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Auditing defined (cont.)

The important parts of this definition:

Systematic process audits are structured activities Objectivity freedom from bias Obtaining and evaluating evidence allows the auditor to determine the support for assertions or representations Assertions about economic actions and events describes the subject matter of an audit Degree of correspondence established criteria the purpose of the audit is to determine conformity with some specified criteria Communicating results the results must be communicated to interested parties

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 4: Fundamental principles underlying an audit

The International and Australian Auditing Standards

Boards released a draft paper in which they outlined possible fundamental principles underlying an audit. These principles should:
Underpin the objective(s) of an audit, and help

drive the conduct of the auditor in using professional judgment to meet the professional requirements of the auditing standards Be easily understood, both by auditors and other readers of auditing standards Be universally applicable to all audits Entrench the expectations that auditors are expected to accept and abide by.
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Ethical principles
Contained in national and international codes of

ethics:

Integrity Objectivity Professional competence and due care Confidentiality Professional behaviour

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Fundamental auditing principles

Knowledge Responsibility Quality control Rigour and scepticism Professional judgement Evidence Documentation Communication Association Reporting
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 5: Attributes of accounting information

From AASB/IASB framework, the following four

attributes of accounting information provide the basis for the audit function:

Relevance Reliability Comparability True and fair presentation

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 6: Demand for assurance

Demand arises because users are not in a position

to establish the credibility of the information they are presented with. This may be due to:
Conflict of interest managers may present biased information, as they are also evaluated on the information. Consequence information provided forms the basis of many users decisions. Complexity many users do not have the expertise required to determine the quality of information presented. Remoteness the separation of owners from management prevents users from assessing information quality.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Hypotheses explaining demand for assurance

1. Agency theory (stewardship hypothesis)
2. Information hypothesis 3. Insurance hypothesis

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Agency theory

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 7: Other benefits of assurance

An assurance service may also result in one or both of the following:
Recommendations by the assurance provider to improve the efficiency and effectiveness of operations; and/or A positive influence on the behaviour of people whose activities are being assured.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 8: The evolution of the audit function

Audits have been performed since at least the

thirteenth century.
Until the early 1900s, audits focused on a

companys solvency and the detection of fraud and error.

Audits from early 1900s to 1940s added objectives

of verification of financial report accuracy and attestation to financial report credibility.

Since the 1940s, the overall objective of auditing

has been the expression of an opinion as to whether the financial report is materially misstated.
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Approaches to Auditing
These have evolved over time:

Statement of financial position approach this involved the auditor auditing the assets and liabilities with little emphasis on profit and loss account items. Transactions-cycle approach this emphasised the review of controls that operated within each transaction cycle and provided for limited testing of balance sheet items.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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More recent audit approaches

Financial risk approach

The auditor considers relative financial risk and materiality in planning the audit, such that audit work is concentrated in areas where there is a higher risk of misstatement.

Business risk approach (audit risk approach)

As well as financial risk, the auditor considers business strategy, associated business risks, and managements plans to respond to changes in the business environment.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Example of business risk approach

Refer Example 1.1 on page 13 of textbook.

The auditor uses a risk-based assertion-based methodology in undertaking the audit. For example, the assertions that management are implicitly making by recording an inventory balance of $1 million in the statement of financial position are: Inventory of $1 million exists (existence); The entity has the rights of ownership of this inventory (rights and obligations); All inventory that should have been recorded has been recorded (completeness); and Inventory has been recorded in the financial report at the appropriate value, and any resulting valuation adjustment (such as obsolescence) has been correctly recorded (valuation and allocation).

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Example of business risk approach (cont.)

The auditor uses a risk-based methodology to identify risks of misstatement and relates these through to assertions (Chapters 68). For example, consider that the auditor identifies major risk as entity wishing to overstate profit. They can achieve this by overstating inventory, which understates cost of goods sold (if goods are in inventory, they are not sold). The auditor assesses how entity is likely to achieve this overstatement, and concentrates their audit attention on the related assertions. In this example, two ways of achieving overstatement of inventory are to include inventory that does not exist (for example, goods that have been sold) or overstate valuation of the inventory items included in the statement of financial position (valuation and allocation). The auditor then uses specific procedures to test assertions at risk (Chapters 9-11).
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Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

Learning objective 9: The auditorclientpublic relationship

The auditors primary reporting responsibility

is to resource providers of the client entity; however, the client entity usually engages the auditor and pays the auditors fees. The auditor also discusses the audit findings with management prior to releasing information to the resource providers. In order to combat pressures on independence and objectivity, the auditing profession has issued a series of ethical rulings and professional standards to guide the auditor in the conduct of his or her duties.
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 10: Expectation gap

Defined as: the gap between societys expectations of auditors and auditors performance as perceived by society. There are 3 components of the expectation gap:
The reasonableness gap between what society expects auditors to achieve and what they can reasonably be expected to accomplish. 2. The performance gap arising from deficient standards. 3. The performance gap arising from deficient performance by auditors.
1.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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The gap between audit expectation and audit performance

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Four major issues in the expectation gap

1. The nature and meaning of audit report messages 2. Early warning by auditors of corporate failure 3. Auditors responsibility for the detection and

reporting of earnings management and fraud

4. The auditors ability to communicate different levels

of assurance

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 11: The role of auditing standards

Auditing standards in Australia are developed by

the Auditing and Assurance Standards Board (AUASB).

The standards prescribe the basic principles and

essential procedures governing the conduct of an auditor.

For audits conducted under the Corporations Act

2001, the auditing standards (ASAs) must be applied, thus giving them legal authority.
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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The role of auditing standards (cont.)

Guidance Statements (GSs) or Auditing Guidance

Statements (AGSs): provide guidance on procedural matters or industry-specific issues, but do not establish new principles or amend existing standards. Professional obligations extend application of standards to all other audit and assurance engagements by members of professional bodies. Failure to observe these standards may expose a member to investigation and disciplinary action from the Australian Securities and Investments Commission (ASIC).
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Authority of auditing standards

Auditing standards applying to audits and reviews

of financial reports prepared in accordance with the Corporations Act 2001 :

Australian auditing standards relating to these audits are now designated as ASAs, and have the same numbering as the equivalent ISAs. Note: there are still a number of standards designated as AUSs, which relate to frameworks or assurance engagements on other than financial reports prepared in accordance with the Corporations Act 2001.

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 12: Audits under Corporations Act 2001

Management is responsible for the preparation

and presentation of appropriate accounts. Accounts are to be accompanied by a report of an independent auditor appointed by the shareholders.
The Corporations Act 2001 (ss 292306) indicates

that directors must prepare a financial report (income statement, balance sheet, statement of changes in equity cash flow statement, directors declaration and other related notes and reports), together with any other information or explanation necessary to give a true and fair view.
Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Auditors responsibilities under the Corporations Act 2001

Auditors are responsible for reporting to company

members on the directors financial report presented at the AGM. They say whether the financial report:

Is in accordance with the law, including compliance with accounting standards (s 296) Provides a true and fair view (s 297).

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Learning objective 13: Other applications of the assurance function

Evidence-gathering methods of auditing are

also employable in the audit of activities other than financial reports. Compliance audit:

Examination for the purpose of reporting on legality and control of operations. Analyses organisation structure, internal systems, workflow and managerial performance efficiency, effectiveness and economy of these items.

Performance audit:

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett

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Other applications of the assurance function (cont.)

Comprehensive audit:

Usually includes components of compliance, performance and financial report audits. Audits performed by employees of the entity as a part of the entitys risk management process. Associated many times with fraud detection.

Internal audit:

Forensic audit:

Assurance on subject matter other than historical financial information:

Including prospective financial information, internal controls and sustainability and carbon emissions reports.
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Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs t/a Auditing and Assurance Services in Australia 4e by Grant Gay and Roger Simnett Slides prepared by Roger Simnett