The Demand for Audit and Assurance Services Chapter

The Demand for Audit and Assurance Services Chapter 1 © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -1

Learning Objective 1 Describe assurance services and distinguish audit services from other assurance and nonassurance services provided by CPAs. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -2

Assurance Services Assurance services are professional services that improve the quality of information for decision makers. Assurance services can be performed by CPAs or by a variety of other professionals. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -3

Attestation Services An attestation service is a type of assurance service in which the CPA firm issues a report about the reliability of an assertion that is the responsibility of another party. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -4

Other Assurance Services Most other assurance services do not meet the formal definition of attestation services. The CPA must be independent. The CPA must provide assurance. The CPA is not required to provide a written report. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -5

Other Assurance Services The Elliott Committee was charged with researching and developing new assurance services opportunities for CPAs to provide to business and individual clients who need relevant and reliable information for critical decision making. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -6

Assurance Services on Information Technology There is an increased demand for assurance about computer controls surrounding information transacted electronically and the security of the information related to the transactions. – assurance over Web site controls – assurance about information system reliability © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -7

Assurance Services on Information Technology Web. Trust is an attestation service, and the Web. Trust seal is a symbolic representation of the CPA’s report on management’s assertions about its disclosure of electronic commerce practices. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -8

Assurance Services on Information Technology Sys. Trust is an attest-type engagement to evaluate and test system reliability in areas such as security and data integrity. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 -9

Other Assurance Services Examples Controls over and risks related to investments, including policies related to derivatives… assessing the processes in a company’s investment practices to identify risks and to determine the effectiveness of those processes. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 10

Other Assurance Services Examples Mystery shopping… performing anonymous shopping to assess sales personnel dealings with customers and procedures they follow. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 11

Other Assurance Services Examples Assess risks of accumulation, distribution, and storage of digital information… assessing security risks and related controls over data and other information stored electronically, including the adequacy of backup and off-site storage. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 12

Other Assurance Services Examples Fraud and illegal acts risk assessment… developing fraud risk profiles and assessing the adequacy of company systems and policies in preventing and detecting fraud and illegal acts. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 13

Assurance, Attestation, and Nonassurance Services ASSURANCE SERVICES ATTESTATION SERVICES Audits Reviews Other Attestation Services (e. g. , Web. Trust, Sys. Trust) Certain Management Consulting Other Assurance Services (e. g. , CPA Performance View) © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 14

Assurance, Attestation, and Nonassurance Services NONASSURANCE SERVICES Other Management Consulting Certain Management Consulting Accounting and Bookkeeping Tax Services © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 15

Learning Objective 2 Explain the importance of auditing in reducing information risk. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 16

Economic Demand for Auditing Information risk reflects the possibility that the information upon which the business risk decision was made was inaccurate. Auditing can have a significant effect on information risk. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 17

Learning Objective 3 List the causes of information risk, and explain how this risk may be reduced. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 18

Causes of Information Risk 1. Remoteness of information 2. Biases and motives of the provider 3. Voluminous data © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 19

Reducing Information Risk 1. User verifies information 2. User shares information risk with management 3. Audited financial statements are provided © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 20

Capital Costs to Shrink Elliott’s Example Assuming a cost of capital of 13%, Elliott estimates this rate is composed of the following: 5. 5% risk-free interest rate 3. 5% economic risk premium (business risk) 4. 0% information cost (information risk) © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 21

Capital Costs to Shrink Elliott’s Example Elliott believes the following factors will drastically reduce information risk: Advanced technology New accounting and auditing standards Auditors finding more efficient ways to audit © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 22

Learning Objective 4 Describe auditing. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 23

Nature of Auditing is the accumulation and evaluation of evidence about information to determine and report on the degree of correspondence between the information and established criteria. Auditing should be done by a competent, independent person. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 24

Accumulating and Evaluating Evidence is any information used by the auditor to determine whether the information being audited is stated in accordance with the established criteria. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 25

Competent, Independent Person The auditor must be qualified to understand the criteria used and must be competent to know the types and amount of evidence to accumulate to reach the proper conclusion after the evidence has been examined. The competence of the individual performing the audit is of little value if he or she is biased in the accumulation and evaluation of evidence. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 26

Reporting The final stage in the auditing process is preparing the Audit Report, which is the communication of the auditor’s findings to users. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 27

Audit of a Tax Return Example Competent, independent person Internal revenue agent Accumulates and evaluates evidence Examines cancelled checks and other supporting records Information Federal tax returns filed by taxpayer Report on results Determines correspondence Report on tax deficiencies Established criteria Internal Revenue Code and all interpretations © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 28

Learning Objective 5 Distinguish between auditing and accounting. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 29

Distinction Between Auditing and Accounting is the recording, classifying, and summarizing of economic events for the purpose of providing financial information used in decision making. Auditing is determining whether recorded information properly reflects the economic events that occurred during the accounting period. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 30

Learning Objective 6 Differentiate three main types of audits. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 31

Types of Audits Financial Statement Audit Operational Audit Efficiency Effectiveness Compliance Audit © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 32

Financial Statement Audit Example Information Established Criteria Available Evidence Annual audit of Boeing’s financial statements Boeing's financial statements Generally accepted accounting principles Documents, records, and outside sources of evidence © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 33

Operational Audit Example Information Established Criteria Available Evidence Evaluate computerized payroll system for efficiency and effectiveness Number of records processed, cost of the department, and number of errors Company standards for efficiency and effectiveness in payroll department Error reports, payroll records, and payroll processing costs © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 34

Compliance Audit Determine whether bank requirements Example for loan continuation have been met Information Established Criteria Available Evidence Company records Loan agreement provisions Financial statements and calculations by the auditor © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 35

Learning Objective 7 Explain the strategic systems approach to auditing. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 36

Strategic Systems Audit The auditor must have a thorough understanding of the entity and its environment. Client’s industry Operations Regulations Relationships Business strategies © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 37

Learning Objective 8 Identify the primary types of auditors. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 38

Types of Auditors Certified Public Accounting Firms General Accounting Office Auditors Internal Revenue Agents Internal Auditors © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 39

Learning Objective 9 Describe the requirements for becoming a CPA. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 40

Three Requirements for Becoming a CPA Educational Requirement Uniform CPA Examination Requirement Experience Requirement © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 41

CPA Examination Sections Audit and Attestation Accounting and Reporting Regulations Business Environments and Concepts © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 42

Learning Objective 10 Describe the impact of e-commerce on CPAs. © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 43

Impact of E-commerce CPAs need to understand how key technologies are transforming all aspects of business. Information Technology Hardware Software Internet Communications © 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 44

© 2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 1 - 45