Presentation on theme: "Importance of Auditing"— Presentation transcript:
1 Importance of Auditing Chapter 1Importance of Auditing
2 Define Auditing“A systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the degree of correspondence between those assertions and established criteria and communicating the results to interested users.
3 What is auditing?Auditing is both more and less than public accountingMore because it includes internal and operational auditing, governmental auditing, and other services that evaluate and report on managerial performanceLess because public accounting firms provide a variety of other assurance and non-audit services
4 Free Market EconomyA free market economy exists only if accurate, reliable data is availableAuditors contribute to an effective capital market by providing independent evaluations about the reliability of an organization's financial statements or the efficiency and effectiveness of various aspects of its performance
5 Auditing is all about evidence The auditor gathers evidence to determine if the client's processes are working correctly, its financial data are recorded and presented correctly, and its financial statements as a whole are fairly presented.This implies that--the process of auditing is to gather and evaluate evidence to test assertionsthe audit process is systematicthe auditor must be independent of the entity audited and the process followed in gathering evidence must be unbiased
6 Discuss Management & GAAP When management prepares financial statements, they assert that those statements are fairly presented in accordance with GAAPGAAP is the criteria by which "fairness" of financial statement presentation is judgedHowever, the interpretation and application of GAAP is difficultThe auditor's task is to determine whether the financial statements present fairly in accordance with GAAP
7 Comment on Communication Communication of audit results to management and third parties completes the audit processTo minimize misunderstandings, this communication follows a prescribed format that states the responsibilities of both management and the auditor, summarizes the audit process, and expresses the auditor's opinion on the financial statements
8 Define an Unqualified Audit Report & List Its Three Paragraphs Most audits result in reports that do not contain reservations about the fair presentation of the financial statements.1.Introductory paragraph - identifies company, statements, and accounting periods examined, management's responsibility for the financial statements, auditor's responsibility for expressing an opinion2. Scope paragraph - performance of the audit in accordance with GAAS and limitations of the audit3. Opinion paragraph - statements present fairly, in all material respects, in conformity with GAAP
9 Discuss the accounting profession’s decade of unprecedented turmoil & change 1. The failure of one of the largest public accounting firms (Andersen)2. Four of the largest bankruptcies ever - each in companies where financial statement misrepresentation had taken place3. Billions of investment and retirement dollars lost4. Perception that auditors were not independent from their clients
10 What was Congress’ response? Passing the Sarbanes-Oxley Act of That focused on five critical improvements in how financial information is presented.1. Improved corporate governance2. Reporting on internal controls3. Greater independence of audit function4. Acknowledgment of greater audit responsibility5. Audit standard setting moved to a new quasi-public organization
11 Improved Corporate Governance The lack of corporate governance was a major factor in business failures; most notably, a failure of Boards of Directors to oversee management, and effectively utilize the audit function.Sarbanes requires Boards of Directors be independent of the organization and exercise oversight over management and the audit functionFurther, the Board of Directors, through its audit committee, is the "client" of the public accounting firm.
12 Reporting on Internal Controls In most cases of major fraud, companies had poor internal controls over financial reportingSarbanes requires the CEO and CFO of SEC registered companies to assess and publicly report on the quality of its internal controls over financial reporting
13 Greater Independence of Audit Function The audit function must be independent and objective if assurances are to be trusted by third parties. Auditor independence has been strengthened by requiring:1. The audit committee has the authority to hire and fire the external auditors2. Mandatory rotation of the audit engagement partner every five years3. Consulting work cannot be performed for audit clients4. Increased oversight of potential independence conflicts by the audit committeeNon-public companies and smaller audit firms are not required to follow all these guidelines
14 Audit Standard Setting Moved The public lost confidence in the ability of the profession to serve the public interest. Sarbanes created the Public Company Accounting Oversight Board (PCAOB).The PCAOB has authority to develop audit standards for audits of publicly traded companies.The PCAOB is also charged with performing peer review of all public accounting firms that perform audits of public companies.The PCAOB is comprised of five public members appointed by the SEC. No more than two members can be CPAs.
15 Who Are the Providers of Assurance Services? The Public Accounting ProfessionThe Internal Audit ProfessionThe Governmental Audit Profession
16 The Public Accounting Profession More than 45,000 CPA firms in the United States, ranging sole-practitioners to large multinationals such as the Big 4.These firms provide a variety of services in the areas of assurance and financial statement services, tax planning and compliance, and consultingThe SEC has prohibited accounting firms from providing most consulting services to public companies that they auditSuch restriction on services has not been specified by the AICPA or regulatory authorities for public accounting firms that do not audit SEC registered clients
17 Requirements to Enter the Public Accounting Profession Accounting and Auditing Expertise - in addition to technical knowledge, auditor must have sound conceptual understanding of financial reporting and auditingKnowledge of Business and its Risks - auditor must understand the basic structure of a business in order to identify significant risks affecting the clientUnderstanding Accounting System Complexity - auditor must understand the challenges posed in a system in which traditional source documents do not exist
18 Organization of CPA Firms The organizational hierarchy of CPA firms has been described as a pyramidal structure.Partners (or owners) are at the top and are responsible for the overall conduct of each auditNext, managers review the detailed audit work performed by staff auditorsSeniors are responsible for overseeing much of the day-to-day activities on a specific auditStaff auditors perform the basic, detailed audit work.Partners and managers may be involved in a number of audit engagements being conducted simultaneously; seniors and staff are usually assigned to only one audit at a time
19 The Internal Audit Profession Internal auditing is defined as" an independent, objective assurance and consulting activity designed to add value and improve an organization's operations. It helps an organization accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and governance processes."
20 Internal auditors add value to an organization by evaluating processes to identify and management risk, develop and implement effective internal controlsassuring management and the Board of Directors on the company's compliance with policies or regulatory requirements, or the effectiveness of processes and operationsproviding consulting services such as analyzing problems and identifying potential solutionsperforming operational audits designed to evaluate the effectiveness, economy, and efficiency with which resources are employedIts broad scope makes internal auditing an excellent training ground for future management positions
21 Governmental Auditing Profession Employed by various Federal, state, and local agenciesGovernmental auditors perform all the types of audits that internal auditors perform including compliance, operational, and performance audits
22 Professional and Regulatory Organizations The PCAOB established as part of the Sarbanes-Oxley Act of 2002 has authority to set auditing standards for audits of public companies and to perform quality reviews of all registered CPA firmsThe SEC oversees the PCAOB and all companies publicly traded on the U.S. capital markets. It has the authority to establish GAAP for publicly traded companies, and to prosecute companies who violate SEC lawsThe AICPA has long served as the primary governing organization of the public accounting profession. It provides a variety of continuing education programs and administers the Uniform CPA Examination. Membership in the AICPA is voluntary
23 Professional and Regulatory Organizations The State Boards of Accountancy are responsible for certifying and licensing CPAs in their state. While all state boards require passage of the Uniform CPA Examination, education and experience requirements vary by state.The Institute of Internal Auditors issued internal auditing standards and administers the Certified Internal Auditor programThe U. S. General Accounting Office is the nonpartisan audit agency for Congress. The GAO develops auditing standards for governmental audits.