HW #2

Tanvir T Rahman

Q.3. Briefly discuss the key events that led up to the Sarbanes-Oxley Act of 2002 and the
creation of the PCAOB.

During the late 1990s and early 2000s, accounting firms aggressively sought opportunities to
expand their business in non-audit services such as consulting. This expansion from their core
audit practice, combined with allegations of auditors refusing to challenge management's actions,
resulted in conflict between regulators and the accounting profession. There was lack of fairness
and integrity due to conflict of interest. Most of the auditing firms executed various non-audit
services to their clients with a very high price. The consulting fee of some of the largest public
accounting firms exceeded external audit fees. There was a huge drop in investor confidence.
Subsequent financial fiascos such as those at Enron, WorldCom, Tyco, and many others caused
investors to doubt the fundamental integrity of the financial reporting system. Under pressure to
restore the public's confidence, Congress passed the Sarbanes-Oxley Act in 2002 which
transferred authority to set and enforce auditing standards for public company audits to the
Public Company Accounting Oversight Board.

Q.5. Compare and contrast management’s responsibility for the entity’s financial statements with
the auditor’s responsibilities for detecting errors and fraud in the financial statements.

Management is responsible to prepare financial statements that fairly present the company's
financial condition and operations in accordance with established accounting standards.
Management and auditors both have to conform to GAAP. The auditor's opinion explicitly states
that the financial statements are the responsibility of management. Financial statements prepared
by management are assessed by the auditor to issue an opinion regarding them and in order to do
so, the auditor must plan and perform the audit in accordance with established standards to
obtain reasonable assurance that the financial statements are free of material misstatement,
whether caused by error or fraud. However, it is important to remember that an auditor's
unqualified opinion does not mean that errors or fraud do not exist but rather that there is
reasonable assurance that they do not exist in material amounts.

Q.14. Why is independence such an important standard for auditors? How does auditor
independence relate to the agency relationship between owners and managers discussed in
Chapter 1?

Independence is a fundamental principle for auditors. If an auditor is not independent of the

client, users may lose confidence in the auditor's ability to report objectively and truthfully on
the financial statements. The agency relationship between owners and managers involves
information asymmetry or conflict of interest. Therefore, an external auditor is appointed by the
manager to verify its accounts and ensure the owner that its resources are properly utilized. Same
applies for manager-auditor agreement. Therefore, the manager must provide complete freedom
to the auditor to work as per the audit plan.

Q.17. Which of the following would be considered a non-attest assurance service engagement?

d. Neither I or II.

Q.19. Which of the following statements best describes management’s and the external auditor’s
respective levels of responsibility for a public company’s financial statements?

d. Management has the primary responsibility to ensure that the company's financial statements
are prepared in accordance with GAAP, and the auditor provides reasonable assurance that the
statements are free of material misstatement.

Q.24. For each of the following descriptions, indicate which type of audit (financial state-ment
audit, audit of internal control, compliance audit, operational audit, or forensic audit) best
characterizes the nature of the audit being conducted. Also indicate which type of auditor
(external auditor, internal auditor, government auditor, or forensic auditor) is likely to perform
the audit engagement.
a. Evaluate the policies and procedures of the Food and Drug Administration in terms of bringing
new drugs to market.
b. Determine the fair presentation of Ajax Chemical’s balance sheet, income statement, and
statement of cash flows.
c. Review the payment procedures of the accounts payable department for a large manufacturer.
d. Examine the financial records of a division of a corporation to determine if any accounting
irregularities have occurred.
e. Evaluate the feasibility of forecasted rental income for a planned low-income public housing
project.
f. Evaluate a company’s computer services department in terms of the efficient and effective use
of corporate resources.
g. Audit the partnership tax return of a real estate development company.
h. Investigate the possibility of payroll fraud in a labor union pension fund.

=
a. Operational-Government
b. Financial Statement-External 
c. Compliance or operational or possibly internal control - Internal or external 
d. Forensic/Financial - Internal, external or forensic
e. Operational - Government, external, or internal
f. Operational - Internal or external
g. Compliance - Government 
h. Compliance or forensic - Government, external, or forensic.