2 Key Topics in Chapter 6 Understand the responsibility of : Management, for the financial statements and internal controlsThe independent auditor:SAS 1 – auditor’s responsibility in performing the auditFor discovering illegal actsUnderstand the four phases of a financial statement audit
3 Key Topics in Chapter 6Be familiar with the different transaction cyclesKnow the management assertionsKnow the general transaction-related and general balance-related audit objectives
4 Objective of Conducting an Audit of Financial Statements The objective of the ordinary audit of financialstatements is the expression of an opinion ofthe fairness with which they present fairly, inall respects, financial position, result ofoperations, and its cash flows inconformity with GAAP.
5 Management’s Responsibilities Management is responsible for the financialstatements and for internal control.The Sarbanes–Oxley Act increases management’sresponsibility for the financial statements.It requires the CEO and the CFO of publiccompanies to certify the quarterly and annualfinancial statements submitted to the SEC.
6 Auditor’s Responsibilities Material versus immaterial misstatementsCombined uncorrected errors likely to affectA user’s decision are usually considered materialErrors vs. fraudBoth are a potential source of material misstatement,however, fraud has further implications.Reasonable assuranceNot a guaranteeProfessional skepticismThe attitude we adopt in all aspects of the engagement
7 Auditor’s Responsibilities for Discovering Illegal Acts Direct-effect vs. Indirect-effect illegal acts* Auditors have the same responsibility for detectingdirect-effect illegal acts, as they do fraud.* Auditors provide no assurance indirect-effect illegalacts will be detectedEvidence accumulation when there is no reasonto believe indirect-effect illegal act exists* Inquiries of management and the B.O.D., readingthe B.O.D. minutes.
8 Auditor’s Responsibilities for Discovering Illegal Acts Actions when the auditor knows of an illegal act* Consider effects on the financial statements anddisclosures. More evidence may be required.* Who you gonna tell?Within the client’s companyOutside the client’s company
9 Financial Statements Cycles Audits are performed by dividing the financialstatements into smaller segments or components.
11 Management Assertions 1. Existence or occurrence2. Completeness3. Valuation or allocation4. Rights and obligations5. Presentation and disclosure
12 Transaction-Related Audit Objectives and Management Assertions General Transaction-Related Audit ObjectivesExistence or occurrenceCompletenessValuation or allocationExistenceAccuracyClassificationTimingPosting and summarizationRights and obligationsPresentation and disclosureN/A
13 Transaction-Related Audit Objectives and Management Assertions ExistenceRecorded transactionsexist.CompletenessExisting transactions arerecorded.AccuracyRecorded transactionsare stated at thecorrect amounts.
14 Transaction-Related Audit Objectives and Management Assertions ClassificationTransactions are properlyclassified.TimingTransactions are recordedon the correct dates.Posting andsummarizationTransactions are includedin the master files andare correctly summarized.
15 Assertions and Balance-Related Audit Objectives Management AssertionsGeneral BalanceRelated Audit ObjectivesExistence or occurrenceCompletenessValuation or allocationExistenceAccuracyClassificationCut-off, Detail tie-inRealizable valueRights and obligationsPresentation and disclosure
16 General Balance-Related Audit Objectives ExistenceAmounts included exist.CompletenessExisting amounts areincluded.AccuracyAmounts included arestated at the correctamounts.
17 General Balance-Related Audit Objectives ClassificationAmounts are properlyclassified.CutoffTransactions are recordedin the proper period.Detail tie-inAccount balances agreewith master file amounts,and with the general ledger.
18 General Balance-Related Audit Objectives RealizablevalueAssets are included atestimated realizable value.Rights andobligationsAssets must be owned.PresentationanddisclosureAccount balances anddisclosures are presentedin financial statements.
19 Balance and Transactions Affecting Balances Example Beginning balanceSales$ 17,521$144,328$137,087Cash receipts$ 1,242Sales returnsand allowancesCharge-off ofuncollectibleaccountsEnding balance$ 20,197$ 3,323Accounts Receivable (in thousands)
20 How Audit Objectives Are Met The auditor must obtain sufficient competentaudit evidence to support all managementassertions in the financial statements.An audit process is a methodologyfor organizing an audit.
21 Four Phases of a Financial Statement Audit Phase IPlan and designan audit approach.Phase IIIPerform analyticalprocedures andtests of detailsof balances.Phase IIPerform tests ofcontrols andsubstantive testsof transactions.Phase IVComplete theaudit and issuean audit report.
22 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.