Audit Responsibilities and Objectives

Chapter 6

Key Topics in Chapter 6

Understand the responsibility of :

Management,

for the financial statements and internal

controls The independent auditor:

SAS 1 auditors responsibility in performing the audit For discovering illegal acts

Understand the four phases of a financial statement audit

Key Topics in Chapter 6

Be familiar with the different transaction cycles Know the management assertions Know the general transaction-related and general balance-related audit objectives

Objective of Conducting an Audit of Financial Statements

The objective of the ordinary audit of financial statements is the expression of an opinion of the fairness with which they present fairly, in all respects, financial position, result of operations, and its cash flows in conformity with GAAP.

Managements Responsibilities
Management is responsible for the financial statements and for internal control. The SarbanesOxley Act increases managements responsibility for the financial statements. It requires the CEO and the CFO of public companies to certify the quarterly and annual financial statements submitted to the SEC.

Auditors Responsibilities
Material versus immaterial misstatements
Combined uncorrected errors likely to affect A users decision are usually considered material

Errors vs. fraud

Both are a potential source of material misstatement, however, fraud has further implications.

Reasonable assurance
Not a guarantee

Professional skepticism
The attitude we adopt in all aspects of the engagement

Auditors Responsibilities for Discovering Illegal Acts

Direct-effect vs. Indirect-effect illegal acts * Auditors have the same responsibility for detecting
direct-effect illegal acts, as they do fraud. * Auditors provide no assurance indirect-effect illegal acts will be detected

Evidence accumulation when there is no reason to believe indirect-effect illegal act exists
* Inquiries of management and the B.O.D., reading the B.O.D. minutes.

Auditors Responsibilities for Discovering Illegal Acts

Actions when the auditor knows of an illegal act
* Consider effects on the financial statements and disclosures. More evidence may be required. * Who you gonna tell? Within the clients company Outside the clients company

Financial Statements Cycles

Audits are performed by dividing the financial statements into smaller segments or components.

Relationships Among Transaction Cycles

General cash Capital acquisition and repayment cycle Sales and collection cycle Inventory and warehousing cycle Acquisition and payment cycle Payroll and personnel cycle

Management Assertions
1. Existence or occurrence 2. Completeness 3. Valuation or allocation 4. Rights and obligations 5. Presentation and disclosure

Transaction-Related Audit Objectives and Management Assertions General TransactionManagement Assertions Existence or occurrence Completeness Related Audit Objectives Existence Completeness

Valuation or allocation

Accuracy Classification Timing Posting and summarization

Rights and obligations N/A Presentation and disclosure N/A

Transaction-Related Audit Objectives and Management Assertions

Existence Recorded transactions exist. Existing transactions are recorded. Recorded transactions are stated at the correct amounts.

Completeness

Accuracy

Transaction-Related Audit Objectives and Management Assertions

Classification Transactions are properly classified. Transactions are recorded on the correct dates. Transactions are included in the master files and are correctly summarized.

Timing

Posting and summarization

Assertions and Balance-Related Audit Objectives

Management Assertions Existence or occurrence Completeness
General Balance Related Audit Objectives Existence Completeness Accuracy Classification Cut-off, Detail tie-in Realizable value Rights and obligations

Valuation or allocation

Rights and obligations

Presentation and disclosure Presentation and disclosure

General Balance-Related Audit Objectives

Existence Amounts included exist. Existing amounts are included. Amounts included are stated at the correct amounts.

Completeness

Accuracy

General Balance-Related Audit Objectives

Classification Amounts are properly classified. Transactions are recorded in the proper period. Account balances agree with master file amounts, and with the general ledger.

Cutoff

Detail tie-in

General Balance-Related Audit Objectives

Realizable value Rights and obligations Presentation and disclosure Assets are included at estimated realizable value. Assets must be owned. Account balances and disclosures are presented in financial statements.

Balance and Transactions Affecting Balances Example

Accounts Receivable (in thousands) Beginning balance $ 17,521

Sales

$144,328

$137,087 Cash receipts

Sales returns 1,242 and allowances Charge-off of 3,323 uncollectible accounts

$ Ending balance $ 20,197

How Audit Objectives Are Met

The auditor must obtain sufficient competent audit evidence to support all management assertions in the financial statements. An audit process is a methodology for organizing an audit.

Four Phases of a Financial Statement Audit

Phase I Plan and design an audit approach.

Perform analytical procedures and Phase III tests of details of balances.

Phase II

Perform tests of controls and substantive tests of transactions.

Complete the Phase IV audit and issue an audit report.

Announcements
First midterm next Wednesday, Feb. 1. A topic guide that will summarize the main items that could be represented on the midterm will be available on the website within the next 2 days. Next class: guest professors from PwC will present material from Chapter 6.