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5 - 1Copyright 2003 Pearson Education Canada Inc.
CHAPTER 5Audit
Responsibilitiesand Objectives
5 - 2Copyright 2003 Pearson Education Canada Inc.
What is the What is the objectiveobjective of an audit? of an audit?
5 - 3Copyright 2003 Pearson Education Canada Inc.
What is the What is the objectiveobjective of an audit? of an audit?
An expression of opinionon the fair presentation of the financial statements in
accordance with GAAP.
5 - 4Copyright 2003 Pearson Education Canada Inc.
Regarding financial reporting, what are Regarding financial reporting, what are management’smanagement’s responsibilities? responsibilities?
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Regarding financial reporting, what are Regarding financial reporting, what are management’smanagement’s responsibilities? responsibilities?
- adopting sound accounting policies
5 - 6Copyright 2003 Pearson Education Canada Inc.
Regarding financial reporting, what are Regarding financial reporting, what are management’smanagement’s responsibilities? responsibilities?
- adopting sound accounting policies- maintaining adequate internal controls
5 - 7Copyright 2003 Pearson Education Canada Inc.
Regarding financial reporting, what are Regarding financial reporting, what are management’smanagement’s responsibilities? responsibilities?
- adopting sound accounting policies- maintaining adequate internal controls- ensuring fairness of financial statements
5 - 8Copyright 2003 Pearson Education Canada Inc.
These responsibilities may be specifiedThese responsibilities may be specifiedin a in a
Management ReportManagement Report..
?
5 - 9Copyright 2003 Pearson Education Canada Inc.
- typically includes statements regarding management’s responsibility for inter- nal controls and financial statements
These responsibilities may be specifiedThese responsibilities may be specifiedin a in a
Management ReportManagement Report..
5 - 10Copyright 2003 Pearson Education Canada Inc.
- typically includes statements regarding management’s responsibility for inter- nal controls and financial statements- explains operations of audit committee and Board of Directors
These responsibilities may be specifiedThese responsibilities may be specifiedin a in a
Report of Management’s ResponsibilityReport of Management’s Responsibility..
5 - 11Copyright 2003 Pearson Education Canada Inc.
- typically includes statements regarding management’s responsibility for inter- nal controls and financial statements- explains operations of audit committee and Board of Directors- is signed by client management and in- cluded in the company’s annual report
These responsibilities may be specifiedThese responsibilities may be specifiedin a in a
Report of Management’s ResponsibilityReport of Management’s Responsibility..
5 - 12Copyright 2003 Pearson Education Canada Inc.
- typically includes statements regarding management’s responsibility for inter- nal controls and financial statements- explains operations of audit committee- is signed by client management and in- cluded in the company’s annual report- not required but requested by auditor
These responsibilities may be specifiedThese responsibilities may be specifiedin a in a
Report of Management’s ResponsibilityReport of Management’s Responsibility..
WHY?WHY?
5 - 13Copyright 2003 Pearson Education Canada Inc.
What are the What are the auditors’auditors’ responsibilities? responsibilities?
5 - 14Copyright 2003 Pearson Education Canada Inc.
What are the What are the auditors’auditors’ responsibilities? responsibilities?
- performing audit and completing report in accordance with GAAS
5 - 15Copyright 2003 Pearson Education Canada Inc.
What are the What are the auditors’auditors’ responsibilities? responsibilities?
- performing audit and completing report in accordance with GAAS- designing the audit to provide reason- able assurance of detecting fraud, errors & irregularities that are material
5 - 16Copyright 2003 Pearson Education Canada Inc.
There is There is much confusionmuch confusion among among the investing public regarding the investing public regarding
auditor responsibilities.auditor responsibilities.
I thoughtauditorslooked at
every bit ofevidence andrecalculatedeverything!
5 - 17Copyright 2003 Pearson Education Canada Inc.
There is There is much confusionmuch confusion among among the investing public regarding the investing public regarding
auditor responsibilities.auditor responsibilities.
Auditors are responsible for designing the audit to detect material misstate-ments (which include fraud, errorsand irregularities).
5 - 18Copyright 2003 Pearson Education Canada Inc.
There is There is much confusionmuch confusion among the among the investing public regarding auditor investing public regarding auditor
responsibilities.responsibilities.
BUTBUT
Auditors are not responsible for finding all material fraud & other irregularities.
Auditors are responsible for designing the audit to detect material misstate-ments (which include fraud, errors& irregularities).
5 - 19Copyright 2003 Pearson Education Canada Inc.
Could auditors Could auditors guaranteeguarantee that that everyevery material fraud, error & material fraud, error & irregularity was detected?irregularity was detected?
Guarantee
5 - 20Copyright 2003 Pearson Education Canada Inc.
Could auditors Could auditors guarantee guarantee that that everyevery material error, fraud & material error, fraud & irregularity was detected?irregularity was detected?
PerhapsPerhaps, through a 100% audit (no samples) which would require:
an army of auditors and enormous audit fees.
5 - 21Copyright 2003 Pearson Education Canada Inc.
What is the difference between What is the difference between fraudfraud and an and an illegal actillegal act??
5 - 22Copyright 2003 Pearson Education Canada Inc.
fraud - individual(s) within the client organization acting against the client organization
What is the difference between What is the difference between fraudfraud and an and an illegal actillegal act??
5 - 23Copyright 2003 Pearson Education Canada Inc.
fraud - individual(s) within the client organization acting against the client organization
illegal act - intentional violation of law by the client organization
What is the difference between What is the difference between fraudfraud and an and an illegal actillegal act??
5 - 24Copyright 2003 Pearson Education Canada Inc.
Why is auditor detection of fraud Why is auditor detection of fraud difficult?difficult?
5 - 25Copyright 2003 Pearson Education Canada Inc.
- the auditor’s knowledge of client internal controls may be inferior to that of employees
Why is auditor detection of fraud Why is auditor detection of fraud difficult?difficult?
5 - 26Copyright 2003 Pearson Education Canada Inc.
- the auditor’s knowledge of client internal controls may be inferior to that of employees- the fraud will be intentionally concealed
Why is auditor detection of fraud Why is auditor detection of fraud difficult?difficult?
5 - 27Copyright 2003 Pearson Education Canada Inc.
- the auditor’s knowledge of client internal controls may be inferior to that of employees- the fraud will be intentionally concealed- client management may have the ability to override internal controls
Why is auditor detection of fraud Why is auditor detection of fraud difficult?difficult?
5 - 28Copyright 2003 Pearson Education Canada Inc.
The The likelihood of fraudlikelihood of fraud may be detected may be detectedin the evaluation of internal controls:in the evaluation of internal controls:
weak internal controls = greater risk of fraud
5 - 29Copyright 2003 Pearson Education Canada Inc.
What are the auditors’ responsibilities What are the auditors’ responsibilities regarding client regarding client illegal actsillegal acts??
violations of environmental laws, for example?
5 - 30Copyright 2003 Pearson Education Canada Inc.
The auditor must provide reasonableassurance of detection of illegal
acts that have a direct effecton the financial statements.
What are the auditors’ responsibilities What are the auditors’ responsibilities regarding client regarding client illegal actsillegal acts??
5 - 31Copyright 2003 Pearson Education Canada Inc.
The auditor must provide reasonableassurance of detection of illegal
acts that have a direct effecton the financial statements.
The auditor provides noassurance of detection of illegalacts that have an indirect effect
on the financial statements.
What are the auditors’ responsibilities What are the auditors’ responsibilities regarding client regarding client illegal actsillegal acts??
5 - 32Copyright 2003 Pearson Education Canada Inc.
Regarding Regarding illegal actsillegal acts, auditors , auditors should, in should, in allall audits, audits,
- read minutes of board meetings
Minutes ofBoard of Directors’
Meetings
Ace Company
5 - 33Copyright 2003 Pearson Education Canada Inc.
- read minutes of board meetings- enquire of client’s lawyers
Regarding Regarding illegal actsillegal acts, auditors , auditors should, in should, in allall audits, audits,
5 - 34Copyright 2003 Pearson Education Canada Inc.
- read minutes of board meetings- enquire of client’s lawyers- enquire of client management regarding the occurrence of illegal acts AND client policies regarding illegal acts
Regarding Regarding illegal actsillegal acts, auditors , auditors should, in should, in allall audits, audits,
5 - 35Copyright 2003 Pearson Education Canada Inc.
What should auditors do if theysuspect
that an illegal act has occurred?
5 - 36Copyright 2003 Pearson Education Canada Inc.
- enquire of client management at a level above those involved
What should auditors do ifWhat should auditors do ifthey they suspectsuspect that an illegal that an illegal
act has occurred?act has occurred?
5 - 37Copyright 2003 Pearson Education Canada Inc.
- enquire of client management at a level above those involved
- consult with client’s lawyer oranother specialist
What should auditors do ifWhat should auditors do ifthey they suspectsuspect that an illegal that an illegal
act has occurred?act has occurred?
5 - 38Copyright 2003 Pearson Education Canada Inc.
- enquire of client management at a level above those involved
- consult with client’s lawyer oranother specialist
- gather evidence regarding theillegal act
What should auditors do ifWhat should auditors do ifthey they suspectsuspect that an illegal that an illegal
act has occurred?act has occurred?
5 - 39Copyright 2003 Pearson Education Canada Inc.
What should auditors do if they knowthat an illegal act has occurred?
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- consider effects on financial state- ments (including footnotes); if inade- quate, ask for modification
What should auditors do ifWhat should auditors do ifthey they knowknow that an illegal that an illegal
act has occurred?act has occurred?
5 - 41Copyright 2003 Pearson Education Canada Inc.
- consider effects on financial state- ments (including footnotes); if inade- quate, ask for modification- consider client management integrity; consult with lawyer; withdraw if appropriate
What should auditors do ifWhat should auditors do ifthey they knowknow that an illegal that an illegal
act has occurred?act has occurred?
5 - 42Copyright 2003 Pearson Education Canada Inc.
- consider effects on financial state- ments (including footnotes); if inade- quate, ask for modification- consider client management integrity; consult with lawyer; withdraw if appropriate- inform audit committee or others
What should auditors do ifWhat should auditors do ifthey they knowknow that an illegal that an illegal
act has occurred?act has occurred?
5 - 43Copyright 2003 Pearson Education Canada Inc.
- consider effects on financial state- ments (including footnotes); if inade- quate, ask for modification- consider client management integrity; consult with lawyer; withdraw if appropriate- inform audit committee or others
What should auditors do ifWhat should auditors do ifthey they knowknow that an illegal that an illegal
act has occurred?act has occurred?
5 - 44Copyright 2003 Pearson Education Canada Inc.
EE
Inan audit
engagement,where doesthe auditor
start?
TTNN
CCLLII
5 - 45Copyright 2003 Pearson Education Canada Inc.
Would it make sense to startwith the financial statements and
audit each line item?
Inan audit
engagement,where doesthe auditor
start?
5 - 46Copyright 2003 Pearson Education Canada Inc.
A better approach would be to grouptogether similar accounts and audit
each group (cycle approach).
NO! grossly inefficientgrossly inefficient
Would it make sense to startwith the financial statements and
audit each line item?
5 - 47Copyright 2003 Pearson Education Canada Inc.
financial statements
financial statement cycles
management assertions
general auditobjectives
specific auditobjectives
the cycleapproach
audittests
5 - 48Copyright 2003 Pearson Education Canada Inc.
financial statements
financial statement cycles
the cycleapproach
What transaction cyclesand groups of accounts are
relevant to this particular client?
5 - 49Copyright 2003 Pearson Education Canada Inc.
financial statements
financial statement cycles
management assertions
the cycleapproach
What is client’s management“asserting” about the statements,
cycles, and internal controls?
5 - 50Copyright 2003 Pearson Education Canada Inc.
Management assertionsManagement assertions
- existence or occurrence - financial components exist at a given date, transactions have occurred during a given period
5 - 51Copyright 2003 Pearson Education Canada Inc.
- existence or occurrence - completeness - all transactions and accounts are presented, nothing has been left out
Management assertionsManagement assertions
5 - 52Copyright 2003 Pearson Education Canada Inc.
- existence or occurrence - completeness- valuation or allocation - com- ponents of financial statements are included at appropriate amounts
Management assertionsManagement assertions
5 - 53Copyright 2003 Pearson Education Canada Inc.
MortgageAgreement
Property
Deed
- existence or occurrence - completeness- valuation or allocation - rights and obligations - assets are rights of the entity and liabilities are obligations
Management assertionsManagement assertions
5 - 54Copyright 2003 Pearson Education Canada Inc.
- existence or occurrence - completeness - rights and obligations - valuation or allocation - presentation and disclosure - financial statement components are properly classified, de- scribed, and disclosed
Management assertionsManagement assertions
5 - 55Copyright 2003 Pearson Education Canada Inc.
}
financial statements
financial statement cycles
management assertions
general auditobjectives
the cycleapproach
Audit evidence must be
gathered to support/refute management assertions.
specific auditobjectives
5 - 56Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives
related tomanagement
assertions
5 - 57Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives
- existence
Did recordedDid recordedtransactionstransactions
actually occur?actually occur?
5 - 58Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives- existence- completeness
Have allHave alltransactionstransactions
been recorded?been recorded?
5 - 59Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives
- existence- completeness- accuracy
Are recorded trans-Are recorded trans-actions stated at theactions stated at the
correct amounts?correct amounts?
5 - 60Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives- existence- completeness- accuracy- classification
Are transactionsAre transactionsproperlyproperly
classified?classified?
5 - 61Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives- existence- completeness- accuracy- classification- timing
Are transactionsAre transactionsrecorded on therecorded on thecorrect dates?correct dates?
5 - 62Copyright 2003 Pearson Education Canada Inc.
Transaction-related Audit ObjectivesTransaction-related Audit Objectives- existence- completeness- accuracy- classification- timing- posting and summarization
Are recorded Are recorded transactionstransactions
properly included properly included in the accountingin the accounting
records and records and correctly correctly
summarized?summarized?
5 - 63Copyright 2003 Pearson Education Canada Inc.
Balance-related Audit ObjectivesBalance-related Audit Objectives
alsorelated to
managementassertions
5 - 64Copyright 2003 Pearson Education Canada Inc.
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence
Do amountsDo amountsincluded in theincluded in the
financial statementsfinancial statementsactually exist?actually exist?
5 - 65Copyright 2003 Pearson Education Canada Inc.
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness
Have Have allall amounts that amounts thatshould have been in-should have been in-
cluded in the financialcluded in the financialstatements actuallystatements actually
been included?been included?
5 - 66Copyright 2003 Pearson Education Canada Inc.
Are financial state-Are financial state-ment balances in-ment balances in-
cluded at the correctcluded at the correctarithmetic amounts?arithmetic amounts?
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy
5 - 67Copyright 2003 Pearson Education Canada Inc.
Are amounts properlyAre amounts properlyclassified in theclassified in the
correct accounts?correct accounts?
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification
5 - 68Copyright 2003 Pearson Education Canada Inc.
Are transactions near theAre transactions near thebalance sheet date recordedbalance sheet date recorded
in the proper period?in the proper period?
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification- cutoff
5 - 69Copyright 2003 Pearson Education Canada Inc.
Do details in Do details in account balances account balances agree with other agree with other
related accounting related accounting information?information?
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification- cutoff- detail tie-in
5 - 70Copyright 2003 Pearson Education Canada Inc.
When When appropriate, appropriate, are assets are assets
included in the included in the financial financial
statements at statements at realizable realizable
value?value?
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification- cutoff- detail tie-in- realizable value
5 - 71Copyright 2003 Pearson Education Canada Inc.
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification- cutoff- detail tie-in- realizable value- rights and obligations
Do liabilities Do liabilities represent represent
actual actual obligations?obligations?
Are assets Are assets owned?owned?
5 - 72Copyright 2003 Pearson Education Canada Inc.
Balance-related Audit ObjectivesBalance-related Audit Objectives- existence- completeness- accuracy- classification- cutoff- detail tie-in- realizable value- rights and obligations- presentation and disclosure
Are account Are account balances and balances and
related related disclosures disclosures
properly properly presented in presented in the financial the financial statements?statements?
5 - 73Copyright 2003 Pearson Education Canada Inc.
financial statements
financial statement cycles
management assertions
general auditobjectives
the cycleapproach
How doesan auditor address
thespecific auditobjectives?
specific auditobjectives
5 - 74Copyright 2003 Pearson Education Canada Inc.
financial statements
financial statement cycles
management assertions
general auditobjectives
specific auditobjectives
the cycleapproach
obtain sufficient
appropriate audit evidence
5 - 75Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
I II
III IV
5 - 76Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
II
III IV
I. Plan and designan audit approach.
5 - 77Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
III IV
I. Plan and designan audit approach.
II. Perform testsof controls.
5 - 78Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
II. Perform testsof controls.
What aretests of controls?
5 - 79Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
II. Perform testsof controls .
Tests of controls examine the effective-
ness of internal controls.
5 - 80Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
I. Plan and designan audit approach.
II. Perform testsof controls.
III. Perform analyt-ical procedures and
tests of details ofbalances.
IV
5 - 81Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
III. Perform analyt-ical procedures and
tests of details ofbalances.
Whatare analyticalprocedures?
5 - 82Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
III. Perform analyt-ical procedures and
tests of details ofbalances.
Analytical proceduresuse comparisons and relation-ships to determine reasonable-
ness of transactions and balances.
5 - 83Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
III. Perform analyt-ical procedures and
tests of details ofbalances.
Whatare tests of details
of balances?
5 - 84Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
III. Perform analyt-ical procedures and
tests of details ofbalances.
Tests of detailsof balances examine monetary
errors and irregularities indetails of financial statements.
5 - 85Copyright 2003 Pearson Education Canada Inc.
An audit can be divided into An audit can be divided into four four phasesphases..
I. Plan and designan audit approach.
II. Perform testsof controls.
III. Perform analyt-ical procedures and
tests of details ofbalances.
IV. Complete theaudit and issue an
audit report.
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