Deck 1: An Overview of Auditing

Question 1

Describe management's assertions regarding the financial statements.

Answer 1

Financial statement:
The financial statement is the statement of the company position at a particular time period.
Every company prepares two types of financial statement:
1. Income statement (Profit and loss statement)
2. Balance Sheet
Income Statement:
The income statement is the statement of revenue and expenses which provide us information about net profit and a net loss of the organization.
Balance sheet:
Balance Sheet is the statement of assets and liabilities which provide information about the financial position of the company.
Revenue:
Revenue is the total income earned by the business before the deduction of expense in its normal course of activity.
Example: Amount received from the sale of goods and services, rent received, commission.
It is added to the capital. It is an inflow of assets and increases the wealth of the organization, that result increases the owners' equity.
Expense:
Expense is defined as the cost incurred to acquire something or in order to earn revenue; it is expired during the accounting period. Expenses normally have a debit balance; a decrease in expense is credited.
Example: Cash paid for salaries, rent, taxes and depreciation.
It is an outflow of assets. So it is debited to the Income statement.
Assets:
Assets are the resources (property) for which monetary value can be attached. It is presented in the balance sheet.
Liabilities:
Liability is the amount owed (payable) by the organization to the outsider. It is presented in the balance sheet.
Equity:
Equity is an owner's value and the difference between the assets and liabilities. Equity shareholders are the owner of the organization.
At the end of the accounting period when all the books of accounts are closed management prepared the financial statement and hand to the auditor. Management makes certain assertions about the financial statement. These are
1. Existence or occurrence
2. Completeness
3. Valuation and allocation
4. Rights and obligations
5. Accuracy
6. Cutoff
7. Classification
It is asserted by the management assets liability and equity accounts in the balance sheet and revenue and expense in the income statement that occurred during the year is recorded (existence or occurrence). The all transaction presented in the financial statement is complete and according to the applicable financial reporting framework (completeness). The management has a right to purchase assets and obligations to paid liability (rights and obligations). Finally, the management asserts all transaction is accurate, properly classified in the proper account (classification) and cut-off (assets, liabilities, revenues and expenses) according to the applicable financial reporting framework.

Question 2

Explain how the audit report is used to describe the responsibilities of the auditor and management, the work done by the auditor during the audit, and the conclusions reached by the auditor regarding the financial statements being audited.

Answer 2

Audit report:
A written opinion on the company's financial statement through an auditor is called an audit report. The audit report is mandated by GAAS (generally accepted auditing standards) and should be written in a standard format.
The responsibility of auditors and management is described in the first paragraph of the audit report.
The manager responsibility safeguards and keeps control overs the assets, inventory on the behalf of the owner. At the end of the accounting period when all the books of accounts are closed, management prepares the financial statement. Management should design (set up) an effective and efficient internal control system that sure the financial statement is free from misstatement. The auditors are independent from the management and use his professional knowledge and responsible for moral judgment in all his activities done in the course of action. He systematically examines books of account and expressing his opinion on the financial statement as per his assessment.
The second paragraph of the audit report describes the work done by the auditor.
At the end of the accounting period when all the books of accounts are closed management prepared the financial statement and hand over to the auditor. The auditing standard requires the auditor to a systematic examination of books of accounts. He is responsible for gathering enough, appropriate evidence to assess the risk of misstatement and financial records prepared according to the applicable financial reporting framework.
The audit is conducted according to an audit standard.
The public companies register under SEC (Securities and Exchange Commission) the PCAOB (Public company accounting oversight board) maintain external audit standard for them. The PCAOB controlled audit profession body in the US and POB (professional oversight board) in the UK.
The US auditing standards are writes by the ASB for non-public companies. Its many standards are the same as PCAOB.
The third paragraph of the audit report is an auditor conclusion and opinion on the financial statement as per his assessment. In this paragraph, the auditor opinion on the financial statement (income statement, balance sheet, and cash flow) all entries recorded accurate, fairly according to the applicable financial reporting framework.

Question 3

What are the various regulatory bodies that regulate the accounting profession Describe the functions of each.

Answer 3

There are various regulatory bodies that regulate and influence the accounting profession. The auditor should understand this regulation because these regulation terms also impose on the auditor.
Regulatory bodies that regulate the accounting profession:
1. International accounting system board (IASB)
2. Securities and Exchange Commission (SEC)
3. Financial Accounting and Standard Board (FASB)
4. American institute of certified public accountant (AICPA)
The FASB was formed in 1973, set accounting rules and financial reporting standards for US companies and nonprofit organizations.
These rules help the manager in managing accounts properly. It increases the transparency of accounts. It helps in fair representation of accounts.
The AICPA was established in the 1880s, it is a private organization for all certified public accountant. It established professional code of conduct, the exam for CPA, and audit standards for private companies.
The SEC was established in 1934, It enforcing the federal securities law, rules industry listed in stock and options exchange. It also requires the company once a year to audited financial statements file.
The IASB was formed in 2001; it is an independent body developed IFRS (international financial reporting standards) for the preparation of the financial statement.

Question 4

How would you describe the auditing profession to a friend Describe at least one element of the profession that is appealing to you. Describe another element that is less appealing, and explain why.

Question 5

Describe management's incentive to misstate financial statements. What challenge do auditors face as they review such misstatements

Question 6

After it was convicted of a felony in connection with the failed Enron audit, Arthur Andersen went out of business in August 2002 because it could no longer file audit opinions with the SEC. In 2005, the conviction was overturned due to procedural errors in the instructions the judge gave to the jury. Do you believe it was fair that Arthur Andersen firms around the world were forced to close as a result of a failed audit in Dallas, Texas Explain your answer.

Question 7

Go to the websites for the SEC, PCAOB, AICPA, and your state CPA society. Review the information that it provides, and describe the individuals who might be interested in the information.

Question 8

Explain the role of the auditor in the corporate governance process. Is this role more important or less important today than twenty years ago

Question 9

Go to the website for one of your favorite companies. Describe the information on the website related to financial information. Is there any information on corporate governance Who is the company's auditor Did the company receive a clean opinion on the financial statements

Question 10

What is involved in the auditing process

Question 11

Review the websites for one of the big four accounting firms (Deloitte Touche, KPMG, PricewaterhouseCoopers, or Ernst Young). Describe the information available on the website related to careers in public accounting.

Question 12

How does the principal-agent relationship apply to the audit process

Question 13

Describe the three standard-setting organizations involved in writing auditing standards and the roles of each in establishing guidelines for auditors.

Question 14

What is evidence How does the auditor use it in the audit process

Question 15

How does the auditor gather evidence using internal control testing

Question 16

How does the auditor gather evidence using substantive testing Describe three types of substantive tests.

Question 17

What are classes of transactions What other terms might be used to describe them How does the auditor use the concept of transaction classes in the audit process

Question 18

What are tests of account balances How are they used in the audit process