AUDITING & ASSURNACE SERVICES (M)

LECTURE AND TUTORIAL OUTLINE FOR WEEK 1 (WEEK OF MARCH 4th 2019)
LECTURE 1: INTRODUCTION TO AUDITING

Lecture 1 (Part 1) introduces the subject of auditing. In so doing, five issues are explored:
(1) The definition of an audit
(2) An overview of an audit
(3) The reasons for an audit
(4) The legal and professional framework
(5) The concept of assurance

The definition of an audit

An audit is defined as,
“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.” (American Accounting Association,
1973, cited in Leung et al., 2019, p.3)

In Lecture 1 we will “unpack” this definition in order to get a clear understanding of what an
audit is (and what auditors do when conducting an audit). This is important because, as we
progress through the course, we will explore in some detail all aspects of the audit of a set
of financial statements.

In defining an audit, we also consider what the audit of a set of financial statements
provides. The following quote from the document, “Understanding Financial Statement
Audits: a guide for Financial Statement Users, Ch. 3”, which is in the Auditing, Assurance
and Ethics Handbook 2019, sums this up nicely. It states,
“The auditor provides... an opinion on whether the financial information is
presented fairly…in conformance with the basis of accounting indicated. The
auditor…carries out audit procedures that… enable him or her to provide this high
level of assurance about the reliability of management representations in the
financial statements. The auditor tests the data underlying the entity’s financial
statements and the systems generating that data to obtain evidence that…
provides the basis for the auditor’s opinion whether the financial statements are
free from material misstatement.”

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An overview of the audit process
Lecture 1 also includes a brief overview of the audit process. It highlights the phases of an
audit and the risk based approach to auditing. In a risk based audit, the auditor identifies
those issues at most risk of misstatement and directs his/ her attention to those.

Reasons for an audit

Audits (in one form or another) have been undertaken for thousands of years. While the
objective of auditing and the method of auditing has changed over time, they are
undertaken because of the benefits they provide. In Lecture 1 we see that there are three
broad reasons for having audits: (1) economic demand for high quality information through
reducing information risk; (2) particular benefits for the client; and (3) legal requirements.

Benefits of an audit
An external audit can bring with it benefits such as (1) access to capital markets; (2) a
lower cost of capital; (3) deterrence to inefficiency and fraud; and (4) internal control and
operational improvements.

The ethical and legal framework

Auditing is an applied discipline, that it, it is undertaken to serve particular economic and
social objectives. It takes place within a well-defined ethical and legal framework. Lecture 1
introduces that framework. We explore this framework in greater detail in weeks 10 and 11
of the course.

The concept of assurance

In Lecture 1 we also see that auditing is an assurance service. An assurance service is
defined in the AUASB Glossary as,
“An engagement in which an assurance practitioner expresses a conclusion
designed to enhance the degree of confidence of the intended user…about the
outcome of an evaluation or measurement of a subject matter against criteria.”

Importantly, we see that an assurance engagement (of which a financial statement audit is
an example) has five elements:
(1) a three party relationship comprising the responsible party, the intended user
and the assurance practitioner;
(2) a subject matter;
(3) suitable criteria;
(4) sufficient appropriate evidence; and
(5) a written assurance report.

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A NOTE ABOUT THE READINGS IN WEEK 1
In week 1 we use four readings in addition to the textbook and the handbook. These
readings are short (one is just one page) but provide essential material on the nature of an
audit and the reasons for undertaking an audit. Readings can be accessed through the
course web page.

2: LEARNING OBJECTIVES: LECTURE

1: Define auditing.
2: Become familiar with the main steps in undertaking an audit
3: Be aware of the Business Risk approach to auditing.
4: Understand the reasons for undertaking an audit.
5: Understand the benefits of an audit
6: Appreciate the legal and ethical framework within which an audit takes place
7: Define an assurance engagement
8: Gain an overview of the wider auditing and assurance framework.
9: Compare an audit of a financial report with a review of a financial report.

Textbook: Auditing and Assurance (First Edition). Leung, P., Coram, P., Cooper, B. and
Richardson, P. Wiley, Milton Qld, 2019. pp. 1-14; pp. 21-23; pp.138-141; p. 193; and pp.
195-197

Handbook:
Understanding Financial Statement Audits – A Guide for Financial Statement Users.
APES 110. Section 2, Definitions.

Readings:
Reading 1: Arens, A., Best, P.J., Shailer, G.E.P., Fiedler, B.A., Elder, and Beasley (2013).
Auditing, Assurance Services and Ethics in Australia: An integrated Approach, 9th edition,
pp. 10-12.

Reading 2: Institute of Chartered Accountants in Australia (2013) Audit and review

requirements for Australian entities.

Reading 3: PwC. What is an audit?

Reading 4: PwC. What is a half-year review?

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Additional Guidance:
Answering Case Study Questions

Film Clips
Film Clip 1: A Few Minutes With… Film1: The importance of an audit.
Film Clip 2: Interview between Lee White and Greg Medcraft. Institute of Chartered
Accountants in Australia
Film Clip 3: Professional Scepticism. Institute of Chartered Accountants of England and
Wales.

4: WEEKLY QUESTIONS (To be completed prior to your tutorial in the week of

March 11th)

QUESTION 1 (Exploring the Auditing, Assurance and Ethics Handbook)

Consider the document titled, “Understanding Financial Statement Audits: A Guide for
Financial Statement Users”, which is the Auditing and Assurance Handbook, and answer
the following questions:
(i) Why are financial statements needed?
(ii) Why are financial statement audits needed?
(iii) In the process of providing reasonable assurance that the financial statements are
fairly presented, what does an auditor address?
(iv) Does an auditor guarantee the accuracy of the financial statements that he/she
audits?

QUESTION 2
(a) Explain the concept of differential reporting.
(b) Define the following and cite the appropriate sections of the Corporations Act 2001
to support your answer.
(i) Small proprietary limited company;
(ii) Large proprietary limited company.
(c) Using the information in Reading 2 compare the financial reporting and assurance
requirements of a large proprietary limited company with those of a small
proprietary limited company.

QUESTION 3
The textbook, at pp. 138-14, outlines the five elements of an assurance report. Discuss
each of the five elements using the Using examples from the Independent Audit Report on

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the 2018 Financial Report of Downer EDI Ltd (which can be accessed through the course
home page), answer the following questions:
(a) Who is the responsible party?
(b) What is the subject matter of the audit?
(c) What are the criteria against which the subject matter you identifies in (ii) above are
evaluated?
(d) What does this audit report tell the reader about the role of Australian
Auditing Standards in the audit?

QUESTION 4 (Exploring audit resources):

Access the website of the Australian Auditing and Assurance Standards Board
(www.auasb.gov.au). From the menu ribbon at the top of the screen, select Publications.
Scroll down and select AUASB Bulletins. Click on the hot link titled, “Professional
Scepticism in an Audit of a Financial Report” (which is dated Aug 12 2012) and, in your
own words, answer the following questions:
(a) What is professional skepticism?
(b) How is professional secpticism applied in an audit?

QUESTION 5 (Using the series of films titled, “A Few Minutes With…)

View film no. 1 of the series, A Few Minutes With.., titled, “The Importance of an Audit”,
and answer the following questions:
(i) What are the benefits of a financial statement audit?
(ii) How can a financial statement audit can reduce information risk?

QUESTION 6
Explain the role and authority of auditing standards.

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 TUTORIAL WORKSHOP QUESTIONS (TO BE ANSWERED IN TUTORIALS DURING
THE WEEK OF MARCH 11th 2019)

QUESTION 1: Frank Smart started a manufacturing business ten years ago. Over that
time, the business has grown steadily. Frank now employs 40 staff and has a turnover of
$100m. To fund this growth, Frank sold equity interest to a small group of family members
and friends, and took out a bank loan. He renamed the company Future Pty Ltd. Two
years ago, the company installed a new computerised financial information system in order
to manage its accounting function better, and to reduce costs. The company is considering
further expansion into a potentially lucrative overseas market.

Required: Consider the facts given above and use them to explain the ways in which
Future Pty Ltd can benefit from an external audit of its annual financial statements.

LEARNING OBJECTIVES: Lecture 1 Learning Objective 8: Understand the reasons for

undertaking an audit; and Learning Objective 9: Understand the benefits of an audit

REFERENCES:
Lecture Slides: Lecture 1, Slides 51-61
Textbook: p. 193

QUESTION 2 Vial-tek Ltd borrowed $1.5m from Australia Bank at an annual interest rate
of 9.5%. Under the loan agreement, the bank requires Vial-tek to provide it with a copy of
its annual financial statements, but does not require an assurance report of any kind. The
bank has offered to replace Vial-tek’s existing loan agreement with a new one at a rate of
8.5%, but would require Vial-tek to provide financial statements that have been reviewed
by a public accounting firm. Alternatively, the bank can replace the existing loan
agreement with a new one at a rate of 7.5%, but would require Vial-tek to have the
financial statements audited by a public accounting firm. The financial controller of Vial-tek
approached a public accounting firm and was given an estimated cost of $12,000 to
perform a review and $20,000 to perform an audit. The accounts clerk has provided this
comparative information in the table below.

ASSURANCE COST OF ANNUAL ANNUAL ANNUAL

SERVICE ASSURANCE INTEREST INTEREST LOAN COST ($)
SERVICE RATE EXPENSE
None 0 9.5% $ 142,500 142,500
Review $12,000 8.5% $ 127,500 139,500
Audit $ 20,000 7.5% $ 112,500 132,500

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Required: Explain why the interest rate charged by the lender is highest when Vial-tek
does not provide an assurance report on the financial report and is and lower when an
audit report is provided than when a review report is provided.

LEARNING OBJECTIVES: Lecture 1 Learning Objective 8: Understand the reasons for

undertaking an audit; and Learning Objective 9: understand the benefits of an audit

REFERENCES:
Reading 1 Arens, A., Best, P.J., Shailer, G.E.P., Fiedler, B.A., Elder, and Beasley (2013).
Auditing, Assurance Services and Ethics in Australia: An integrated Approach, 9th edition,
pp. 10-12.
Lecture Slides: Lecture 1, slides 45 and 52-56

QUESTION 3: Give one example of decision that you may be faced with as you go about
your day-to-day activities for which there is a risk due to the quality of the information you
rely on. Sate one source of information that can reliably reduce risk and one which is less
reliable. An example is provided below.

(Hint: The questions to consider here are: (1) what are some examples of information that
is used in day-to-day activities; (2) what decisions are made on the basis of using the
information; and (3) what assurance can be obtained to ensure that the information is
reliable.)

Decision Information Reliable information source Less reliable

What to Weather Get the information from a
wear. reputable source, such as the
Bureau of Meteorology Website,
a ‘phone app such as
WillyWeather, or a newspaper.
information source
Your next door neighbour,
who claims he can tell
when it is going to rain
because his arthritis gets
worse as humidity builds.

REFERENCES
Lecture Slides: Lecture 1, slide 45