1. Understanding the Client and General Planning

2. Client Acceptance Quality control policies and procedures
Communication with predecessor auditor
Engagement letters
Conferences with client personnel

3. Engagement Letter

4. Engagement Letter (continued)

5. Knowledge of the Business
Organization structure
Operations and legal structure
Knowledge of operations
Tour of plant
Legal documents
Minutes, contracts, and correspondence
Industry and economic conditions

6. General Planning Decisions
Anticipated assessed level of control risk
Preliminary estimates of materiality
Risk conditions or financial statement items likely to require adjustment
Overall timing of audit work
Extent of involvement of specialists and internal auditors
Staffing
Result: Preliminary audit plan and time budget

7. Knowledge -- Preliminary Audit Plan
Business
Industry
Control environment, risk assessment, and monitoring
Accounting system
Control activities
Management integrity

8. At the CPA Firm Review of files Discussion with firm personnel
Correspondence files
prior year’s work papers
permanent files
prior years’ financial statements and audit reports
Discussion with firm personnel
nonaudit services provided to client
experts in the industry

9. At the CPA Firm (continued)
Review of industry information
AICPA industry guides
Trade publications
Annual reports of other companies in industry
Review of authoritative pronouncements
Existing or new
Accounting or auditing
Identify reports to be issued
SEC filings
Special report on contractual compliance
etc.

10. At the Client Inquiry of management
Reading current year’s interim financial statements
Agreement on engagement
Type
Scope
Timing
Tour facilities

11. At the Client (continued)
Reading legal documents and minutes
corporate charter, bylaws
major contracts
minutes of directors’ and stockholders’ meetings
Analytical procedures - calculating general profitability, liquidity, and solvency ratios and trends and comparing to:
client experience
client plans
industry ratios and trends

12. Audit Decisions in Preliminary Planning
Materiality
Control risk
Audit risk

13. Materiality
The magnitude of an omission or misstatement of accounting information that in the light of surrounding circumstances, makes it probable that the judgment of a reasonable person relying on the information would have been changed or influenced by the omission or misstatement

14. Materiality

15. Audit Risk
The risk that the auditor may unknowingly fail to appropriately modify his or her opinion on financial statements that are materially misstated

16. Special Audit Risks Management fraud Related-party transactions
Illegal acts
Business failure

17. Fraud - Terminology Errors Irregularities Management fraud
Employee fraud
Red flags

18. Red Flags Management Characteristics
Management operating and financing decisions are dominated by a single person.
Management’s attitude toward financial reporting is unduly aggressive.
Management (particularly senior accounting personnel) turnover is high.
Management places undue emphasis on meeting earnings projections.
Management’s reputation in the business community is poor.

19. Red Flags (continued) Operating and Industry Characteristics:
Profitability of entity relative to its industry is inadequate or inconsistent.
Sensitivity of operating results to economic factors (inflation, interest rates, unemployment, etc.) is high.
Rate of change in entity’s industry is rapid.

20. Red Flags (continued)
Operating and Industry Characteristics (continued):
Direction of change in entity’s industry is declining with many business failures.
Organization is decentralized without adequate monitoring.
Internal or external matters that raise substantial doubt about the entity’s ability to continue as a going concern are present.

21. Red Flags (continued) Engagement Characteristics:
Many contentious or difficult accounting issues are present.
Significant difficult-to-audit transactions or balances are present.
Significant and unusual related-party transactions not in the ordinary course of business are present.

22. Red Flags (continued) Engagement Characteristics (continued):
Nature, cause (if known), or the amount of known and likely misstatements detected in the audit or prior period’s financial statements is significant.
It is a new client with no prior audit history or sufficient information is not available from the predecessor auditor.

23. Related-Party Transactions
Identify related parties
Identify material transactions
Examine identified material related-party transactions
Evaluate disclosure

24. Illegal Acts
SAS 53 vs. SAS 54
“direct and material effect on the determination of a financial statement line item amount”
Violations with indirect effects
loss contingencies
effect on audit
Communication responsibilities

25. Business Failure

26. Engagement Timing Basic time segments
Efficiency and effectiveness in timing
Timing decisions

27. Involving Specialists
Engaged or
employed by
client
CPA firm
industry specialists
CPA firm functional specialists
CPA firm technical specialists

28. Analytical Procedures
In planning the audit*
To understand the client and industry
To identify transactions and events since the last audit date
To identify a risk requiring more than normal audit attention
To plan the nature, timing, and extent of other audit procedures.
*Required by SAS No. 56

29. Analytical Procedures (continued)
As substantive tests
To obtain evidential matter about assertions
In overall review at end*
Identify any unusual or unexpected balances not previously noted
Consider going concern status
To assess the conclusions the auditor has reached
To evaluate overall financial statement presentation
* Required by SAS No. 56