Becker CPA Review AUDIT 1 Version B THE

Becker CPA Review AUDIT 1 Version B

THE BASICS • What is an Audit? – Methodical review & objective examination – Objective is to express an opinion on whether the F/S are presented fairly, in all material respects, in accordance with the applicable financial reporting framework (GAAP, IFRS) – Adds credibility due to independence & objective view – for stockholders & outsiders

THE BASICS - Responsibilities Company’s management – Financial statements – Internal control – Access to information & persons within the entity needed to complete the audit Auditors – Expression of opinion (attest function)

Performance Reasonable assurance – high, but ot absolute, level of assurance – – Plan & supervise the work Determine and apply materiality levels Identify and assess risks of material misstatement Obtain sufficient audit evidence Inherent limitations – Judgment & uncertainty – estimates – Fraud – Errors Timeliness – achieve a balance between benefit & cost

Professional Standards Auditing standards: – Generally Accepted Auditing Standards – Generally Accepted Government Auditing Standards Public Company Accounting Oversight Board – Sarbanes-Oxley Act of 2002 – Issuers – entities subject to the SEC – 5 full time, financially literate members – Public accounting firms must register with the PCAOB in order to audit – Firms are subject to inspection, disciplinary proceedings, and sanctions – Standards replace SAS

Professional Standards International Standards on Auditing – The International Auditing and Assurance Standards Board (IAASB) • A standard setting board of the International Federation of Accountants (IFAC) • Establishes international standards on auditing • In the USA, the Auditing Standards Board is working to converge its standards with the standards of the IAASB, the CLARITY project.

Professional Standards for Engagements other than audits: • Statements on Standards for Attestation Engagements • Statements on Standards for Accounting & Review Services

Professional Standards Other guidelines: • AICPA Code of Professional Conduct • Quality Control Standards • Securities and Exchange Commission (Acts of 33 & 34) • The Sarbanes-Oxley Act of 2002 – PCAOB • International Federation of Accountants (IFAC) Code of Ethics for Professional Accountants

GAAS Hierarchy A. Statements on Auditing Standards – published by the AICPA & PCAOB Auditing Standards – SAS – for audits of non-issuers – PCAOB standards – for audits of issuers

GAAS Hierarchy B. Interpretative publications – Sas interpretations. AICPA guides, and AICPA Statement of Position C. Other publications – no authoritative like articles, textbooks, etc.

GAAS – Minimum requirements • General – Training – adequate training and proficiency – Independence – fact and appearance – Professional Care – required at planning, performance, and preparation of report (good faith, integrity, and diligence). Enables to obtain reasonable assurance; absolute assurance is not possible. Evidence is indicated by reviews of work performed at every phase. Professional skepticism.

GAAS • Fieldwork – Planning & supervision – the work is to be adequately planned and assistants, if any, are to be properly supervised and reviewed. – Internal control, Entity, and Environment – A sufficient understanding of the entity and its environment, including its internal control is to be obtained to assess the risk of material misstatement of the financial statements whether due to error or fraud, and to design the nature, extent, and timing of audit procedures. – Evidence – sufficient, competent evidential matter is to be obtained to afford a reasonable basis for an opinion.

GAAS – REPORTING (4) Consistency – the report shall identify circumstances in which such principles have not been consistently observed (IMPLICIT) Silence = OK Principles of Accounting – the report should state whether the F/S are presented in accordance with GAAP (EXPLICIT) Disclosure – Informative disclosures in the F/S are to be regarded as reasonably adequate unless otherwise stated in the report (IMPLICIT) Silence = OK Opinion Expression – report should contain either an opinion or an assertion that an opinion cannot be expressed. Reasons should be stated (EXPLICIT)

GAAS PASS KEY (1 of 2) • The objective of the fourth standard is to prevent misinterpretation of the degree of responsibility. • Consistency & disclosure standards are IMPLICIT • Accounting and Opinion expression are EXPLICIT

GAAS PASS KEY (2 of 2) General requirements related to the conduct of the audit are: – Professional skepticism – Independence in both fact & appearance – Professional judgment (materiality, risk and procedures) – Sufficient evidence – Compliance with GAAS Weak internal control ≠ adverse opinion

REPORTS ON AUDITED FINANCIAL STATEMENTS

Forming an opinion Fair presentation, in all material respects, in accordance with the applicable financial reporting framework – Adequately disclose – Consistent – Estimates are reasonable – Information is relevant, reliable, comparable, & understandable – Financial statements represent the underlying transactions and events that achieves fair presentation

Unmodified Report • Title: Independent Auditor’s Report • Addressee: to the Company, its stockholders and/or its board of directors, not management

Unmodified Report – 1 st Parag. Heading: – Report on the Financial Statements – unnecessary in circumstances when the second subtitle “Report on Legal and Regulatory Requirements” is not used • Includes: – Identify the entity been audited – Statement that the F/S were audited – Identify the title of each financial statement – Specify the dates or periods covered by each financial statement

Unmodified Report – Management Responsibility Paragraph Heading: – Management’s Responsibility for the Financial Statements Includes: – An explanation that management is responsible for the preparation and fair presentation of the financial statements in accordance with the applicable financial reporting framework – A statement that this responsibility includes the design, implementation and maintenance of internal control relevant to the preparation & fair presentation of financial statements that are free from material misstatement, whether due to fraud or error

Unmodified Report – Auditor’s Responsibility Paragraph Heading: – Auditor’s Responsibility Includes: – A statement the responsibility is to express an opinion based on the audit – A statement that the audit was conducted in accordance with US GAAS – A statement that those standards require that the auditor plan & perform the audit to obtain reasonable assurance about whether the F/S are free from material misstatement – A description of the audit – A statement whether the auditor believes that the evidence is sufficient and appropriate o provide a basis for the opinion.

Unmodified Report – Opinion Paragraph Heading: – Opinion Includes: – A statement that the financial statements present fairly, in all material respects, the financial position of the entity as of the balance sheet date and the results of operations and its cash flows for the period then ended, in accordance with the applicable financial reporting framework

Unmodified Report – Other Reporting Responsibilities Heading: – Report on Other Legal and Regulatory Requirements Reason for use: – If the auditor addresses other reporting responsibilities in the auditor’s report in addition to GAAS

Standard Report – Other Issues • Signature of the auditor – Either printed or signed • Auditor’s address – should name the city and state where the auditor practices • Auditor's report – date on which the auditor has obtained sufficient appropriate audit evidence – Exception – dual dating due to subsequent events – For comparative financial statements, the completion date of the most recent audit is used. (EXAMPLE PAGE #14)

PASS KEY • Remember – GAAS – auditor’s responsibility paragraph – GAAP – Opinion paragraph • Remember – Public Company Accounting Oversight Board • We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States)

Audits of Group of Financial Statements The auditor must determine whether to make reference to any component auditors in the auditor’s report on the group of financial statements The group engagement team must understand for each component auditor: • Independence • Competence • Program steps

Audits of Group of Financial Statements (Page #19) Making reference to the component auditor – The component’s F/S are prepared using the same financial reporting framework as the group F/S – The component auditor has performed an audit in accordance with GAAS or PCAOB – The component auditor’s report is not restricted Naming the Component Auditor – Permission is granted by the component auditor – The component auditor is presented with the auditor’s report on the group financial statements Wording – Component was not audited by the auditor – Was audited by a component auditor – Include the magnitude of the portion audited by the component auditor

Audits of Group of Financial Statements (Page #19) Assumption of Responsibility – No reference to the component auditor Additional requirements – Significant components – the group engagement team or the component auditor should perform an audit – Not Significant components – the group engagement team should perform analytical procedures

TYPES OF OPINION • Unmodified (clean or standard) – F/S present fairly, in all material respects. • Unmodified with Emphasis-of-Matter and Other-Matter Paragraphs – special circumstances not affecting the opinion • Qualified opinion (except for) – except for the effects of the matters, the F/S present fairly… • Adverse opinion – do not present fairly… • Disclaimer of opinion – auditor does not express an opinion because was not able to perform an audit sufficient in scope.

UNMODIFED OPINIONS – With Additional Paragraphs A. Emphasis-of-Matter Paragraphs – used when required by GAAS or at the auditor’s discretion. The matter is appropriately presented or disclosed. Does not affect the auditor’s opinion. Report requirements: – Place the paragraph immediately after the opinion paragraph – Use the heading Emphasis-of-Matter – Describe the matter and the location of disclosures in the financial statements – Indicate that the auditor’s opinion is not modified

UNMODIFED OPINIONS – With Additional Paragraphs Use of Emphasis-of-Matter Paragraphs – Required when: – Substantial doubt about the entity’s ability to continue as a going concern – To describe a justified change in accounting principle – Subsequently discovered facts lead to change in audit opinion – The financial statements are prepared in accordance with an applicable special purpose framework

UNMODIFED OPINIONS – With Additional Paragraphs Use of Emphasis-of-Matter Paragraphs –May be necessary when: – An uncertainty related to the outcome of unusually important litigation or regulatory action – A major catastrophe – Significant related party transactions – Unusually important subsequent events

UNMODIFED OPINIONS – With Additional Paragraphs B. Other-Matter Paragraphs – used when required by GAAS or at the auditor’s discretion. Refer to matters other than those presented or disclosed. Does not affect the auditor’s opinion. Report requirements: – Place the other-matter paragraph after the opinion paragraph and after any emphasis-of-matter paragraph – Use the heading Other-Matter – Describe the matter – Indicate that the auditor’s opinion is not modified

UNMODIFED OPINIONS – With Additional Paragraphs Use of Other-Matter Paragraphs –Required when: – – – To alert that restrict the use of the auditor’s report Subsequently discovered facts lead to a change in audit opinion. An Emphasis-of-Matter could be used instead The F/S of the prior year were audited by others and the report is not presented Current period F/S are audited and presented in comparative format with prior year not audited Prior to the audit report date, the auditor identifies a material inconsistency in other information and management refuses to make the revision When the auditor chooses to report on supplementary information in the auditor’s report

UNMODIFED OPINIONS – With Additional Paragraphs Use of Other-Matter Paragraphs –Required when: – To refer to required supplementary information that a designated accounting standards setter requires to accompany the basic financial statements – To restrict the use of the auditor’s report when special purpose financial statements are prepared in accordance with a contractual or regulatory basis of accounting – A report on compliance is included in the auditor’s report on the financial statements

UNMODIFED OPINIONS – With Additional Paragraphs Use of Other-Matter Paragraphs – May be necessary when: – To describe the reasons why the auditor cannot withdraw from an engagement when the auditor is unable to obtain sufficient appropriate audit evidence due to a management imposed scope limitation – Law, regulation, or generally accepted practice require or permit the auditor to provide further explanation of the auditor’s responsibilities – The auditor has been engaged to report on more than one set of F/S when each set has been prepared with a different framework

Emphasis-of-Matter due to GOING CONCERN Determine whethere is substantial doubt The going concern period should not exceed 1 year from the B/S date Procedures include: – Analytical procedures – Debt compliance – Minutes – Legal letter – Subsequent events

GOING CONCERN Conditions: – Financial difficulties – Internal matters (huelgas, productos) – Negative trends – External matters (loss of key, natural disasters) Mitigating factors: – Plans to borrow or restructure – Plan to sell assets – Plans to delay or reduce expenditures – Plans to increase ownership equity

GOING CONCERN • If there is substantial doubt, the auditors should state their concerns in an Emphasis-of -Matter paragraph. • The auditor is not precluded from issuing a Disclaimer of Opinion • The auditor should evaluate conditions and events and then look for mitigating factors. • Documentation should include the conditions, mitigating factors, audit work performed, conclusion and effect on the auditor’s report. (EXAMPLE PAGE # 27)

Emphasis-of-Matter due to LACK OF CONSISTENCY • Only used when management is justified in the change • An Emphasis-of-Matter paragraph

Other-Matter – Restricts the Use When: Example: page #31 – Measurement or disclosure criteria that are suitable for only a limited number of users – Measurement or disclosure criteria that are available only to specified parties – Matter identified during an audit that are not the primary objective of the audit engagement (a byproduct) Communication should include a statement that the report is intended solely for the information & use of the specified parties Identification of the specified parties

QUALIFIED AND ADVERSE OPINIONS

Reason for a Qualified or Adverse Opinion When the auditor concludes that misstatements, individually or in the aggregate, are: • Material = Qualified opinion • Very material (pervasive) = Adverse opinion

Reason for a Qualified or Adverse Opinion Examples: • Departure from GAAP • Non GAAP change • Inadequate disclosure • Unreasonable accounting estimate

Qualified Opinions – Form & Content • The Auditor’s Responsibility paragraph is modified • A Basis for Modification paragraph should be placed immediately before the opinion paragraph and should use the heading Basis for Qualified Opinion or Basis for Adverse Opinion and should include: – A description and quantification of the financial effects of any misstatement – An explanation of how disclosures are misstated – A description of the nature of omitted information

Qualified & Adverse Opinions – Form & Content Opinion Paragraph – when the auditor expresses a qualified or adverse opinion, the opinion paragraph should have the heading Qualified Opinion or Adverse Opinion Qualified Opinions –the opinion paragraph should state that, in the auditor’s opinion, except for the effects of the matters discussed in the basis for qualified opinion paragraph, the financial statements are presented fairly, in all material respects, in accordance with the applicable financial reporting package. Example: Page #35 & 36

Qualified & Adverse Opinions – Form & Content Adverse Opinions – the opinion paragraph should state that, in the auditor’s opinion, because of the significance of the matters described in the basis for adverse opinion paragraph, the financial statements are not presented fairly in accordance with the applicable financial reporting framework. EXAMPLE: Page #37

QUALIFIED AND DISCLAIMER OPINIONS

Reason for a Qualified or Disclaimer Opinion When the auditor has a scope limitation. A scope limitation occurs when the auditor is unable to obtain sufficient appropriate audit evidence to conclude that the F/S as a whole are free from material misstatement • Material = Qualified opinion • Very material (pervasive) = Disclaimer opinion

Qualified or Adverse Opinion – Scope Limitation • Unable to obtain sufficient evidential matter (inventories, A/R, Representation letter, etc. ) and NO alternative procedures • May be imposed by: – Circumstances (consider alternative procedures) – Client • Must express a qualified or disclaimer

Qualified Opinion – Scope Limitation Form & Content The Auditor’s Responsibility paragraph should be amended to state that the auditor believes that the audit evidence obtained is sufficient and appropriate to provide a basis for the auditor’s qualified audit opinion A Basis for Modification paragraph should be placed immediately before the opinion paragraph and should use the heading Basis for Qualified Opinion

Qualified Opinion – Scope Limitation Form & Content The opinion paragraph should have the heading Qualified Opinion. This paragraph should state that in the auditor’s opinion, except for the possible effects of the matters describe in the basis for qualified opinion paragraph, the financial statements are presented fairly, in all material respects, in accordance with the applicable financial reporting framework Example: Page #42

Disclaimer Opinion – Scope Limitation Form & Content The Auditor’s Responsibility paragraph should be amended as to the auditor’s responsibility and the scope of the audit A Basis for Modification paragraph should be placed immediately before the opinion paragraph and should use the heading Basis for Disclaimer of Opinion

Disclaimer Opinion – Scope Limitation Form & Content The opinion paragraph should have the heading Disclaimer of Opinion. This paragraph should state that: – Because of the significance of the matters described in the basis for disclaimer opinion paragraph, the auditor has not been able to obtain sufficient appropriate audit evidence to provide a basis for an audit opinion – Accordingly, the auditor does not express an opinion on the financial statements Example: Page #43

Reports on Comparative Financial Statements

Comparative Financial Statements The auditor’s current year report will cover all F/S for all years presented. • Different opinions for the different years presented Examples: Pages 45 -47

Comparative Financial Statements • Changing prior opinions – Disclose reasons in a Other-Matter paragraph • Date of the previous report • Opinion type previously issued • Reason for prior opinion • Changes that have occurred • Statement “opinion … is different • (Page #48)

Report of a Predecessor - Presented In deciding whether to reissue their report, the predecessor auditors should: • Read current period F/S • Compare to prior years • Obtain letter of representation from successor auditor and management

Report of a Predecessor – Not Presented Indicate in an Other-Matter paragraph: • That the statements were examined by other auditors • The date of that report • The type of opinion expressed • Substantive reasons for other than unqualified report

Prior Period Statements – Not Audited Reviewed or compiled: • Include an Other-Matter paragraph that includes: – The service (review or compilation) perform in the prior period – The date of the report – A description of any material modifications – A statement that the service was less in scope than an audit and does not provide the basis for expressing an opinion on the F/S Not audited, reviewed, or compiled: • Include an Other-Matter paragraph that includes: – A statement that the auditor did not audit, review or compile the prior period financial statements & the auditor assumes no responsibility for them

Events Occurring After Year End SUBSEQUENT EVENTS

Events Occurring after Y/E Subsequent events – occur after the balance sheet date, but before the F/S are issued • Type 1 – Conditions existing on or before balance sheet. An adjustment is usually required ($$$) • Type 2 – Conditions existing after the balance sheet date. May require significant additional disclosure (Disclosure).

Auditor’s Responsibility Procedures (during field work) include: • Review cutoff • Obtain representation letter • Inquiry: – Contingent liabilities – Significant changes in capital, liabilities and working capital – Unusual adjustments after the B/S • Obtain legal letters • Review minutes • Examine latest interim financial statements

Auditor’s Responsibility The auditor has no active responsibility to perform any other procedures after field work. If, however, the auditor becomes aware of any information relating to subsequent events, the auditor should consider whether it is necessary to adjust the financial statements or disclosures.

Report Date No subsequent events or before field work is completed – last day of field work Subsequent event after field work • A later date may be used, but this extends the auditor’s responsibility for all subsequent events to this later date (IFRS requirement). • Dual date the report to extend responsibility only for the particular subsequent event. The original date of the report is retained for the rest of the financial statements.

Subsequent Discovery of Facts Auditor action: • Advise the client to disclose the new information and its impact to persons currently relying. This may be accomplished by: – Advising the client to issue revised F/S – Advising the client to make the necessary disclosures and revisions to any imminent financial statements – Advising the client to notify users that the report should not be relied upon.

Subsequent Discovery of Facts If client refuses: • Notify each member of the board of directors of such refusal, and of the fact that the auditor will take additional steps: – Notify client that the report must no longer be associated – Notify regulatory agencies – Notify persons known to be relying or likely to rely on the F/S • It may be advisable to PRAY and consult legal counsel

Omitted Audit Procedures Auditor action: • Analyze if other audit procedures tended to compensate • Promptly undertake to apply the omitted procedures • If after performing the audit procedures, the financial statements are found to be in error, follow the Subsequent discovery of facts procedures

Reporting on Other Information

Other Information in Documents Containing Audited Financial Statements (1 of 2) Auditor’s responsibility is to read the other information. If a material inconsistency is found and the client refuses to adjust: – Include in the report an other-matter paragraph describing the material inconsistency – Withhold the use of the report – Withdraw from the engagement The auditor may report on such information. – The auditor expresses an opinion on whether the information is fairly stated in all material respects to the F/S

Other Information in Documents Containing Audited Financial Statements (2 of 2) The auditor may disclaim an opinion on Other Information – The auditor includes an other-matter paragraph disclaiming an opinion on the other information The auditor may report on such information. – The auditor expresses an opinion on whether the information is fairly stated in all material respects to the F/S

Optional Supplementary Information (1 of 2) Outside the basic financial statements An auditor is not required to audit supplementary information. The audit report should include an other-matter paragraph disclaiming an opinion on the supplementary information An auditor may be engaged to report on supplementary information. The objectives are: – – Evaluate presentation in relation to the financial statements To report on whether the information is fairly stated, in all material respects, in relation to the financials.

Optional Supplementary Information (2 of 2) Audit procedures: • Inquire management regarding purpose & criteria • Determine whether the information complies with criteria • Obtain understanding of methods used • Compare & reconcile information to the financials • Inquire regarding assumptions • Evaluate appropriateness and completeness of information • Obtain written representations from management Example page 60.

Required Supplementary Information Limited procedures: 1. Inquire how was prepared (methods, assumptions) 2. Determine if information is consistent with management responses, financial statements, and other knowledge 3. Obtain written management representations regarding supplementary information An auditor is not required to audit supplementary information.

Required Supplementary Information Opinion not required – should include an othermatter paragraph, with language to explain the following circumstances, as applicable: – – – The required information is included & the auditor has applied the required procedures The information is omitted Some required information is missing There are material departures from guidelines The auditor is not able to complete procedures There are unresolved doubts about conformance of information

Required Supplementary Information Opinion Permitted – same as for optional Audit procedures: • Inquire management regarding purpose & criteria • Determine whether the information complies with criteria • Obtain understanding of methods used • Compare & reconcile information to the financials • Inquire regarding assumptions • Evaluate appropriateness and completeness of information • Obtain written representations from management

Application of Accounting Principles Reporting accountant: – Prepares a written report or provides oral evidence on : • The application of accounting principles to specific transactions • The type of opinion that may be rendered on a specific entity’s F/S – May not report on the application of accounting principles to a “hypothetical transaction”

Application of Accounting Principles Procedures for Reporting Accountant: – Obtain understanding – Review applicable financial reporting framework (ie. GAAP) – If appropriate, consult with other professionals or experts – Consult with the continuing accountant to ascertain all the available facts relevant to forming a professional judgment

Application of Accounting Principles Reporting Accountant’s report should include: • • Description of the nature of the engagement A statement that was performed in accordance with AICPA An identification of entity and transaction (s) Conclusions A statement that preparers are responsible A statement that differences in information presented may change the report A separate paragraph restricting the use If the reporting accountant is not independent, a statement indicating the lack of independence

Reporting on F/S for Use O/S USA The auditor should obtain an understanding of: – – The purpose of the financial statements Whether the framework is a fair presentation The intended users The steps taken by management to determine whether the applicable financial reporting framework is acceptable in the circumstances The auditor should comply with GAAS and the auditing standards of the other country

Reporting on F/S for Use O/S USA Distribution outside USA or with limited distribution to specific parties within USA – may use either: • • The report of the other country A USA style report modified to report on the accounting principles of another country

Reporting on F/S for Use O/S USA More than limited distribution within the USA • The auditor’s report should be the US report with an emphasis-of-matter paragraph that: • • • Identifies the financial reporting framework Refers to the note in the financial statements Indicates that the framework differs from accounting principles generally accepted in the United States of America

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