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Chapter 4 Engagement Planning "Vision without action is a daydream. Action without vision is a nightmare.” - - Japanese Proverb McGraw-Hill/IrwinCopyright.

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Presentation on theme: "Chapter 4 Engagement Planning "Vision without action is a daydream. Action without vision is a nightmare.” - - Japanese Proverb McGraw-Hill/IrwinCopyright."— Presentation transcript:

1 Chapter 4 Engagement Planning "Vision without action is a daydream. Action without vision is a nightmare.” - - Japanese Proverb McGraw-Hill/IrwinCopyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

2 Goals of Planning Obtain (or update) an understanding of important events that have affected the client and its operations Identify areas of the engagement that may represent special risks to the public accounting firm. Ensure that the engagement can be completed in a timely fashion 4-2

3 Pre-Engagement Arrangements Client selection and retention Communication between predecessor and successor auditors Engagement letters Staff assignment Time budget 4-3

4 Communication between Predecessor and Successor Auditors (SAS 84) Attempt to communicate required If client permits, issues to discuss –Disagreements about accounting principles or audit procedures. –Communications the predecessor auditors gave the former client about fraud, illegal acts, and internal control recommendations. –The predecessor auditors’ understanding about the reasons for the change of auditors (particularly about the predecessor auditors’ termination). 4-4

5 Understanding the Client’s Business Methods and sources of information –Inquiry, including prior year working papers –Observation –Study Other aspects of planning –Materiality and planning –First-time audits –Internal auditors –Identification of related parties –Specialists –Analytic procedures 4-5

6 Enterprise Risk Management Framework Internal Environment Monitoring Information and Communication Risk Response Risk Assessment Objective Setting Event Identification Control Procedures 4-6

7 Planning Memorandum Summary of planning procedures Considerations 1. Investigation or review of the prospective or continuing client relationship. 2. Provision of special services or reports and needs for special technical or industry expertise. 3. Staff assignment and timing schedules. 4. Assessed level of control risk. 5. Significant industry or company risks. 6. Computer system control environment. 7. Utilization of the company’s internal auditors. 8. Identification of unusual accounting principles problems. 9. Schedules of work periods, meeting dates with client personnel, and completion dates. Basis for audit program 4-7

8 Preliminary Analytic Procedures (SAS 56) RECORDED ACCOUNT BALANCE ESTIMATED ACCOUNT BALANCE Attention directing –Identify potential problem areas An organized approach –A standard starting place to start examining the financial statements Describe the financial activities –Identify unusual changes in relationships in the data Ask relevant questions –What could be wrong? –What legitimate reasons are there for these results? Cash flow analysis 4-8

9 Analytic Procedure Steps 1.Develop an expectation. 2.Define a significant difference. 3.Calculate predictions and compare them with the recorded amount. 4.Investigate significant differences. 5.Document each of the above steps. 4-9

10 Analytic Procedures: Sources of Information Analytic ProceduresSources of Information Comparison of current-year account balances to those of one or more comparable periods Financial account information for comparable periods. Comparison of the current-year account balances to anticipated results found in the company’s budgets and forecasts. Company budgets and forecasts. Evaluation of the relationships of current- year balances to other current-year balances for conformity with predicable patterns based on the company’s experience. Financial relationships among accounts in the current period (ratios). Comparison of the current-year account balances and ratios with similar industry information. Industry statistics. Study of the relationships of current-year balances with relevant nonfinancial information (e.g., production statistics). Nonfinancial information, such as production statistics. 4-10

11 Analytic Procedures: Stages of Use Preliminary planning-- required Substantive testing -- optional Final review -- required 4-11

12 Effect of Electronic Environment on Audit Engagement The definition of auditing is not changed. The purposes of auditing are not changed. The generally accepted auditing standards are not changed. The assertions of management embodied in financial statements are not changed. The requirement to gather sufficient competent evidence is not changed. The independent auditor's report on financial statements is not changed. 4-12

13 What has changed? The auditor must evaluate the impact of technology on the client’s operations. The auditor must evaluate computer controls implemented by the client in the auditor’s study and evaluation of the client’s internal controls. The auditor can use the computer’s speed and accuracy to assist in the audit. 4-13

14 Effect of Computer Processing on Transactions Transaction trails Uniform processing of transactions Segregation of duties Potential for fraud Potential for increased management supervision Initiation or subsequent execution of transactions by computer 4-14

15 Planning considerations Extent to which computers are used Complexity of computer operations Organizational structure of computer processing Availability of data Use of CAATs- the use of software to perform audit procedures Need for specialized skills 4-15

16 Computer Assisted Audit Tools and Techniques (CAATs) With CAATS, the auditor is able to access and extract client information without disrupting data processing. Some CAATs Procedures: –Calculate field statistics (totals, high, low and average value) –Perform complex recalculations –Join, concantenate and compare different files –Perform detailed analysis Stratification Gap and duplicate key detection Sample selection 4-16

17 Audit Documentation (AS 3) Definition –The written record of the basis for the auditor’s conclusions that provides the support for the auditor's representations, whether those representations are contained in the auditor's report or otherwise. Objectives –Improve audit quality –Enhance public confidence Contents –Planning and performance of the work –Procedures performed –Evidence obtained –Conclusions reached by the auditor 4-17

18 Purposes of Audit Documentation Integral part of audit quality Documents the nature, timing and extent of work performed Evidence of due professional care Basis for conclusion Facilitates planning, performance and supervision Provides basis for review 4-18

19 Audit Documentation Files Current files Permanent files Prior year files 4-19

20 Exhibit 4.6 Current Audit Documentation File 4-20

21 Exhibit 4.7 Illustrative Audit Documentation Information on Workpaper –Name, date, purpose, page number –Procedures performed and conclusions reached by the auditor Evidence that auditor followed general standards and standards of field work Audit Mark Legend –Reviewers’ initials Insert Exhibit

22 Audit Documentation Requirements Audit documentation should be prepared in sufficient detail to enable an experienced auditor having no previous connection with the engagement to: –Understand the nature timing, extent and results of procedures, evidence obtained and conclusions reached. –Determine who performed the work, date of work, reviewer and date of review. Audit documentation should provide a clear link to significant findings or issues and –Demonstrate compliance with PCAOB standards. –Support basis for conclusions on every relevant assertion. –Document that accounting records agree with financial statements. 4-22

23 Significant Findings or Issues Selection, application and consistency of accounting principles, including disclosures Results of procedures that indicate need for significant modification of procedures, existence of material misstatements, significant deficiencies in controls Audit adjustments Disagreements Circumstances that cause significant difficulty Significant changes in assessed audit risk Matters that could result in report modification 4-23

24 Specific Audit Documentation Matters Should include identification of items inspected, confirmed or tested. –Satisfied by indicating source and selection criteria. Documentation of inspected agreements should include abstracts or copies. Should include contradictory information found –Information the auditor has identified relating to significant findings or issues that is inconsistent with or contradicts the auditor’s final conclusions. –Procedures performed in response. –Records documenting consultation on or resolutions of differences among team and with others consulted. 4-24

25 Engagement Completion Document (AS 3) Must include all significant findings or issues. Must include items identified during interim review. Must have completed all necessary procedures and obtained sufficient evidence before report release date. Documentation should be complete (documentation completion date) no more than 45 days after report release date. 4-25

26 Documentation Retention (AS 3) Documentation must be retained seven years from report release date. –If no report—from last day of fieldwork Additions/Amendments –Documentation may not be deleted or discarded after report release date. –Additions must indicate Date the information was added Name of preparer Reason 4-26

27 Specific Documentation Retention Requirements (AS 3) Issuing office must retain prior to report release date –Engagement completion document –List of significant fraud risk factors, responses and results of related procedures –Inconsistent or contradictory information –Finding affecting consolidating or combining of accounts –Information to reconcile amounts audited by other auditors to consolidated financial statements –Schedule of audit adjustments –All significant control deficiencies and material weakness and clear distinction between categories –Representation letters –Matters to be communicated to audit committee 4-27

28 Audit Documentation Review Hierarchical review process Reviewers include –New auditors –Supervisory personnel –Engagement supervisors and quality reviewers –Successor auditor –Inspection teams –Others including advisors engaged by the audit committee or parties to an acquisition 4-28

29 Other Issues Related to Audit Documentation Ownership –Auditors maintain ownership, even after auditor-client relationship is over. Confidentiality –Only can be made public with permission, or if subpoenaed, or as part of a peer review of firm practices, or as part of an ethics investigation of firm personnel. 4-29


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