1. Chapter 17 Completing the Audit Engagement McGraw-Hill/IrwinCopyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

2. Review for Contingent Liabilities A contingent liability is defined as an existing condition, situation, or set of circumstances involving uncertainty as to possible loss to an entity that will ultimately be resolved when some future event occurs or fails to occur. Probable: The future event is likely to occur. Reasonably Possible: The chances of the future event occurring is more than remote but less than probable. Remote: The chance of the future event occurring is slight. Probable: The future event is likely to occur. Reasonably Possible: The chances of the future event occurring is more than remote but less than probable. Remote: The chance of the future event occurring is slight. Examples Pending or threatened litigation Actual or possible claims and assessments Income tax disputes Product warranties or defects Guarantees of obligations to others Agreements to repurchase receivables that have been sold Examples Pending or threatened litigation Actual or possible claims and assessments Income tax disputes Product warranties or defects Guarantees of obligations to others Agreements to repurchase receivables that have been sold LO# 1 17-2

3. Audit Procedures for Identifying Contingent Liabilities Read minutes of meetings of the board of directors, committees of the board, and stockholders. Review contracts, loan agreements, leases, and correspondence from government agencies. Confirm or otherwise document guarantees and letters of credit. Inspect other documents for possible guarantees or other similar arrangements. Review tax returns, IRS reports, and schedules supporting the client’s income tax liability. LO# 2 17-3

4. Audit Procedures for Identifying Contingent Liabilities Inquire and discuss with management about its policies and procedures for identifying, evaluating, and accounting for contingent liabilities. Examine documents in the entity’s records such as correspondence and invoices from attorneys for pending or threatened lawsuits. Obtain a legal letter that describes and evaluates any litigation, claims, or assessments. Obtain written representation from management that all litigation, asserted and unasserted claims, and assessments have been disclosed in accordance with FASB ASC Topic 450. Specific Audit Procedures Conducted Near Completion of Audit LO# 2 17-4

5. Legal Letters A letter of audit inquiry (legal letter) sent to the client’s attorneys is the primary means of obtaining or corroborating information about litigation, claims, and assessments. LO# 3 17-5

6. Example of Legal Letter LO# 3 17-6

7. Commitments Long-term commitments are usually identified through inquiry of client personnel during the audit of the revenue and purchasing processes. In most cases, such commitments are disclosed in a footnote to the financial statements. Long-term contracts to purchase raw materials or sell their products at a fixed price To obtain a favorable pricing arrangement To secure the availability of raw materials LO# 4 17-7

8. Review of Subsequent Events for Audit of Financial Statements Figure 17-1 LO# 5 17-8

9. Review for Subsequent Events for Audit of Financial Statements Balance Sheet Date Type I Event Conditions existed before the balance sheet date and affect estimates that are part of financial statements Type II Event Conditions did not exist at the balance sheet date and do not affect the accuracy of the financial statements Require adjustment of the financial statements Require disclosure and possibly pro forma financial statements LO# 5 17-9

10. Dual Dating When a subsequent event is recorded or disclosed in the financial statements after sufficient, appropriate audit evidence has been obtained but before the issuance of the financial statements, the auditor considers the following options for dating of the auditor’s report: (1) “Dual date” the report (original date of report plus date of subsequent event—limits liability) (2) Change the date of the auditor’s report to the date of the subsequent event—extends liability LO# 6 17-10

11. Audit Procedures to Look for Subsequent Events Inquire of Management Read Interim Financial Statements Examine the Books of Original Entry Examples of audit procedures Read Minutes of Meetings Inquire of Legal Counsel LO# 7 17-11

12. Review of Subsequent Events for Audit of Internal Control over Financial Reporting Auditors of public companies are responsible to report on any changes in internal control that might affect financial reporting between the end of the reporting period and the date of the auditor’s report. LO# 7 Internal audit reports Independent auditor reports of reportable conditions Regulatory agency reports on ICFR Information obtained from audit of ICFR 17-12

13. Subsequent Discovery of Facts Existing at the Date of the Auditor’s Report Notify the client that the auditor’s report must no longer be associated with the financial statements. Notify any regulatory agency having jurisdiction over the client that the auditor’s report can no longer be relied upon. Notify each person known to the auditor to be relying on the financial statements. LO# 11 17-13

14. Final Evidential Evaluation Processes Perform final analytical procedures. Evaluate entity’s ability to continue as a going concern. Obtain a representation letter. Review working papers. Assess final audit results. Evaluate financial statement presentation and disclosure. Obtain an independent review of the engagement. LO# 8 17-14

15. PERFORM FINAL ANALYTICAL PROCEDURES Required by auditing standards Required by auditing standards Identify unusual fluctuations Identify unusual fluctuations If you cannot explain unusual fluctuations you are not done your audit. If you cannot explain unusual fluctuations you are not done your audit.

16. OBTAIN A MANAGEMENT REPRESENTATION LETTER Letter written by auditor, but worded as if written by management, that lists all important information management told auditor during the audit Letter written by auditor, but worded as if written by management, that lists all important information management told auditor during the audit Management signs letter Management signs letter E.g. pp. 430-431 E.g. pp. 430-431

17. REVIEW WORKING PAPERS Auditors that completed audit will review their working papers Auditors that completed audit will review their working papers Complete? Complete? Thorough? Thorough? Due-diligence? Due-diligence? Loose ends? Loose ends?

18. Assess Final Audit Results LO# 8 17-18

19. EVALUATE FINANCIAL STATEMENT PRESENTATION AND DISCLOSURE Are all necessary footnote disclosures present? Are all necessary footnote disclosures present? F/S disclosure check list F/S disclosure check list

20. OBTAIN AN INDEPENDENT REVIEW OF THE ENGAGEMENT Another partner in firm not involved in audit Another partner in firm not involved in audit Working papers should tell the story of the audit Working papers should tell the story of the audit Complete? Thorough? Due- Diligence? Loose ends? Complete? Thorough? Due- Diligence? Loose ends?

21. GOING CONCERN JUDGMENT Will the client continue on as a going concern into the foreseeable future? Will the client continue on as a going concern into the foreseeable future? Will the client survive for one more year? Will the client survive for one more year? Steps in a going concern judgment: Steps in a going concern judgment: 1. 1.Gather evidence 2. 2.If a potential going concern problem, talk with management about their plans 3. 3.Make final going concern judgment - If you do not think they will survive, add an explanatory paragraph after the opinion paragraph explaining your concern

22. Going Concern Considerations LO# 9 17-22

23. Going Concern Considerations LO# 9 17-23

24. Archiving and Retention Sarbanes-Oxley Act and PCAOB’s Documentation Standard: Require audit firms to archive their public-company audit files for retention within 45 days following the time the auditor grants permission to use the auditor’s report in connection with the issuance of the company’s financial statements. Require audit firms to retain audit documentation for 7 years from the date of completion of the engagement, as indicated by the date of the auditor’s report, unless a longer period of time is required by law. Require audit firms to retain all documents that “form the basis of the audit or review.” Require audit firms to include in the audit file for significant matters any document created, sent, or received, including documents that are inconsistent with a final conclusion. Significant changes in audit plans or conclusions must also be documented. LO# 8 17-24

25. Communications with “Those Charged with Governance” LO# 10 17-25