The Financial Statement Chapter 2 The Financial Statement Auditing Environment

Types of Auditors External Auditors Internal Auditors Government Auditors Forensic Auditors

Types of Services Offered by Audit Firms Audit Services: Financial statements audits, internal control audits, compliance audits, operational audits and forensic audits Review Services: Review of financial information, e.g. review of interim financial information Other Assurance Services: Assurance other than audit and reviews of historic financial information, e.g. assurance on a entity’s reporting on its sustainability performance Related Services: Agreed-upon procedures regarding financial information and compilation of financial information Other Non-Assurance Services: Tax services and management advisory services

Audit Firms Deloitte EY KPMG PwC Big 4 Mid-Tier National Local Audit firms range in size from a single proprietor to thousands of owners (or ‘partners’) and thousands of professional and administrative staff employees. Big 4 Deloitte EY KPMG PwC Mid-Tier Baker Tilly BDO Crowe Horwath Grant Thornton Praxity RSM National Local

Table 2–1 Selected Duties of Audit Team Members Audit Teams Table 2–1 Selected Duties of Audit Team Members

A Time of Challenge and Change 1990 2000 During the economic boom of the late 1990s and the early 2000s, accounting firms aggressively sought opportunities to market a variety of high-margin non-audit services to their auditees.

A Series of Scandals Enron WorldCom Parmalat Lernout & Hauspie Ahold Arthur Andersen

An Explosion of Scandals Corporate Giants Brokerage Firms Stock Exchanges Mutual Fund Managers Accounting Firms

Regulation Self-regulation by the profession versus government regulation Stricter regulation More public oversight and stricter enforcement International Standards on Auditing more comprehensive

Financial Crisis 2007-2009 Rating Agencies Banks Supervisors Hedge Funds Central Banks Accounting Firms

Society’s Expectations and the Auditor’s Responsibilities The auditor has a responsibility to plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud. Because of the nature of audit evidence and the characteristics of fraud, the auditor is able to obtain reasonable, but not absolute, assurance that material misstatements are detected.

Context of Financial Statement Auditing The primary context with which an auditor is concerned is the industry or business of his or her auditee. In other words, the context provided by the entity’s business impacts the auditor and the audit, and is thus a primary component of the environment in which financial statement auditing is conducted. Thought Question: How would your concerns about the inventory account differ for a Computer Hardware Manufacturer versus a Jewelry Store?

A Model of Business Business organizations exist to create value for their stakeholders. Due to the way resources are invested and managed in the modern business world, a system of corporate governance is necessary, through which managers are overseen and supervised. Board of Directors Audit Committee

A Model of Business Objectives Strategies Processes (5 broad categories) Transactions Controls Reports

A Model of Business Processes: Five Components Financing Process Purchasing Process Human Resource Management Process Inventory Management Process Revenue Process 15

An Overview of Business Figure 2-1 An Overview of Business

Organizations that Affect the Accounting Profession International Federation of Accountants IFAC International Auditing and Assurance Standards Board (IAASB) International Ethics Standards Board for Accountants (IESBA) International Accounting Standards Board IASB International Organization of Supreme Audit Institutions INTOSAI International Organization of Securities Commissions IOSCO United States Securities and Exchange Commission (SEC) Public Company Accounting Oversight Board (PCAOB) Financial Accounting Standards Board (FASB) American Institute of Certified Public Accountants (AICPA) European Union EU EU 8th Directive on Statutory Audits

IAASB Standards • International Standards on Auditing (ISAs) International Standards on Review Engagements (ISREs) • International Standards on Assurance Engagements (ISAEs) • International Standards on Related Services (ISRSs) • International Standards on Quality Control (ISQCs)

IAASB issues International Standards on Auditing (ISAs). Auditing Standards Auditing standards serve as guidelines for and measures of the quality of the auditor’s performance. IFAC members IAASB issues International Standards on Auditing (ISAs). ISAs are considered to be minimum standards of performance for auditors.

General Principles and Responsibilities ISA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing ISA 210 Agreeing the Terms of Audit Engagements ISA 220 Quality Control for an Audit of Financial Statements ISA 230 Audit Documentation ISA 240 The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements ISA 250 Consideration of Laws and Regulations in an Audit of Financial Statements ISA 260 Communication with Those Charged with Governance ISA 265 Communicating Deficiencies in Internal Control to Those Charged with Governance and Management

Risk Assessment and Response to Assessed Risks ISA 300 Planning an Audit of Financial Statements ISA 315 Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment ISA 320 Materiality in Planning and Performing an Audit ISA 330 The Auditor’s Responses to Assessed Risks ISA 402 Audit Considerations Relating to an Entity Using a Service Organization ISA 450 Evaluation of Misstatements Identified during the Audit

Audit Evidence ISA 500 Audit Evidence ISA 501 Audit Evidence – Specific Considerations for Selected Items ISA 505 External Confirmations ISA 510 Initial Engagements – Opening Balances ISA 520 Analytical Procedures ISA 530 Audit Sampling ISA 540 Auditing Accounting Estimates, Including Fair Value Accounting Estimates, and Related Disclosures ISA 550 Related Parties ISA 560 Subsequent Events ISA 570 Going Concern ISA 580 Written Representations

Using Work of Others ISA 600 Special Considerations – Audits of Group Financial Statements (Including the Work of Component Auditors) ISA 610 Using the Work of Internal Auditors ISA 620 Using the Work of an Auditor’s Expert

Audit Conclusions and Reporting ISA 700 Forming an Opinion and Reporting on Financial Statements ISA 705 Modifications to the Opinion in the Independent Auditor’s Report ISA 706 Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor’s Report ISA 710 Comparative Information – Corresponding Figures and Comparative Financial Statements ISA 720 The Auditor’s Responsibilities Relating to Other Information in Documents Containing Audited Financial Statements

Specialized Areas ISA 800 Special Considerations – Audits of Financial Statements Prepared in Accordance with Special Purpose Frameworks ISA 805 Special Considerations – Audits of Single Financial Statements and Specific Elements, Accounts or Items of a Financial Statement ISA 810 Engagements to Report on Summary Financial Statements

Sections in ISAs Introductory material Objectives Definitions Requirements Application and other explanatory material

Ethics, Independence and the Code of Ethics Ethics refers to a system or code of conduct based on moral duties and obligations that indicates how we should behave. Professionalism refers to the conduct, aims, or qualities that characterize or mark a profession or professional person. All professions operate under some type of code of ethics or code of conduct.

IESBA Code of Ethics for Professional Accountants Conceptual Framework Approach Principles Integrity Objectivity Professional competence and due care Confidentiality Professional behaviour Application to specific situations, including situations that threaten independence of mind or independence in appearance

Auditors’ Legal Liability Threat of legal liability: Main deterrent to auditor’s misconduct Legal doctrines: Joint and several liability Proportional liability Liability caps Litigation exposure and audit markets: Concentration Barriers to entry Liability reforms