Matters to be considered prior to accepting an audit client

• Integrity of management.
• Competence of the engagement team.
• Compliance with ethical requirements.
• Significant matters that have arisen during the current or previous audit
engagement and their implications for continuing the relationship.

Safeguards to deal with conflict of interest

Notify Centipede Co and its competitor
Advise seek independent advice
Separate engagement teams
Procedures prevent access to information
Clear guidelines on security and confidentiality
Confidentiality agreements
Monitoring of safeguards
1. Both current and prospective client should be notified that Ant & Co will be acting as
auditors for each company and if necessary, consent obtained.
2. Advise one or both clients to seek independent advice.
3. Use separate engagement teams, with different engagement partners and team
members. Once an employee has worked on one audit, then they should be prevented
from being on the audit of the competitor for a period of time.
4. Implement procedures to prevent access to information, such as strict physical
separation of both teams, confidential and secure data filing.
5. Communicate clear guidelines for members of each engagement tam on issues of
security and confidentiality. These guidelines could be included within the audit
engagement letters.
6. Use confidentiality agreements signed by employees and partners of the firm.
7. A senior individual in Ant & Co not involved in either audit should regularly monitor the
application of the above safeguards.
Benefits of audit planning
Important areas of the audit
Potential problems
Effective and efficient audit
Selection of engagement team members and assignment of work
Direction, supervision and review
Coordination of work
1. Helps the auditor to devote appropriate attention to important areas of the audit.
2. Helps the auditor to identify and resolve potential problems on a timely basis.
3. Helps the auditor to properly organize and manage the audit engagement so that it
is performed in an effective and efficient manner.
 4. Assists in the selection of the engagement team members with appropriate levels of
capabilities and competence to respond to anticipated risks and the proper
assignment of work to them.
5. Facilitates the direction and supervision of engagement team members and the
review of their work
6. Assists, where applicable, in coordination of work done by experts.
Supervision and review of assistants’ work
Monitor the progress of the audit engagement to ensure the audit timetable was met
Consider the competence and capabilities of team members, sufficient available time, understanding of instructions and if
work in accordance with planned approach
Address any significant matters arising, consider their significance and modifying the approach
Responsible for identifying matters for consultation/consideration by senior team members
Work performed in line with professional standards and other requirements
Work supports conclusions reached and properly documented
Significant matters raised for partner attention or further consideration
Appropriate consultations have taken place with conclusions documented
Supervision: During the audit, the supervisor should keep track of the progress of the audit
engagement to ensure that the audit timetable is met and should ensure that the audit
manager and partner are updated of the progress.
The competence and capabilities of individual members of the engagement team should be
considered, including whether they have sufficient time to carry out their work, whether they
understand their instructions and whether the work is being carried out in accordance with the
planned approach to the audit.
Part of the supervision should involve addressing any significant matters arising during the
audit, considering their significance and modifying the approach appropriately.
The supervisor would also be responsible for identifying matters for consultation or
consideration by the audit manager or engagement partner.
Review: The supervisor would be required to review the work completed by the assistants and
consider whether this work has been performed in accordance with professional standards and
other regulatory requirements and if the work performed supports the conclusions reached and
has been properly documented.
The supervisor should also consider whether all significant matters have been raised for partner
attention or for further consideration and where appropriate consultations have taken place,
whether appropriate conclusions have been documented.
Factors to consider for outsourced payroll service
Gain an understanding of the services being provided
Assess the design and implementation of internal controls over Aquamarine’s payroll at Coral
Visit Coral and undertake tests of controls
Contact Coral’s auditors to request either a type 1 or type 2 report
No reference in auditor’s report of use of information from Coral’s auditors
 1. Gain an understanding of the services being provided by he outsourcing
Company, including the materiality of payroll and the basis of the outsourcing
contract
2. Access the design and implementation of internal controls over client’s payroll.
3. The team may wish to visit the Outsourcing Co and undertake tests of controls to
confirm the operating effectiveness of the controls.
4. If this is not possible, Client should contact the outsourcer’s auditors to request
either a type 1 or type 2 report.
5. Audit firm is responsible for obtaining sufficient and appropriate evidence,
therefore no reference may be made in the audit report regarding the use of
information from Outsourcer’s auditors.
Factors to revise engagement letter
Entity misunderstands the objective and scope of the audit
Revised or special terms of the audit
Recent change of senior management/change in ownership
Change in nature or size of the entity’s business
Change in legal or regulatory requirements
Change in the financial reporting framework
Change in other reporting requirements
 Any indication that the entity misunderstands the objective and scope of the audit
 Any revised or special terms of the audit engagement
 A change of senior mgmt or significant change in ownership. The letter is signed by a
director on behalf of those charged with governance; if there have been significant
changes in mgmt they need to be made aware of what the audit engagement letter
includes.
 A significant change in nature or size of the entity’s business. The approach taken by the
auditor may need to change to reflect the change in the entity and this should be
clarified in the engagement letter.
 A change in the legal or regulatory requirements. The engagement letter is a contract;
hence if legal or regulatory changes occur, then the contract could be out of date.
 A change in the financial reporting framework adopted in the preparation of the
financial statements. The engagement letter clarifies the role of auditors and those
charged with governance, it identifies the reporting framework of the financial
statements and if this changes, then the letter requires updating.
 A change in other reporting requirements. Other reporting requirements may be
stipulated in the engagement letter; hence if these change, the letter should be
updated.
Matters to be considered in an audit engagement letter

 The objective and scope of the audit

 The responsibilities of the auditor
 The responsibilities of the management
 Expected form and content of any reports to be issued
 Identification of the financial reporting framework for the preparation of the FS
 Elaboration of the scope of the audit with reference to legislation
 The form of any other communication of results of the audit engagement
 The fact that some material misstatements may not be detected.
 Any restrictions on the auditor’s liability
 Arrangements concerning the involvements of internal auditors and other staff of the
entity
 The basis on which fees are computed and any billing arrangements
 The expectation that management will provide written representations.
 A request for management to acknowledge receipt of the audit engagement letter and
to agree to the terms of the engagement
 Arrangements to make available draft FS arrangements to inform the auditor of facts
which might affect the FS.
Sources of information relating to understanding the entity
1. Prior year financial statements: Provides information in relation to the size of a company
as well as the key accounting policies, disclosure notes and whether the audit opinion
was modified or not.
2. Discussions with previous auditors/access to their files: Provides information on key
issues identified during the prior year audit as well as the audit approach adopted.
3. Prior year report to management: If this can be obtained from the previous auditors or
from management, it can provide information on the internal control deficiencies noted
last year. If these have not been rectified by management, then they could arise in the
current year audit as well and may impact the audit approach.
4. Accounting system notes/procedure: Provides information on how each of the key
accounting systems operates and this will be used to identify areas of potential risk and
help determine the audit approach.
5. Discussions with management: Provides information in relation to the business, any
important issues which have arisen or changes to accounting policies from the prior
year.
6. Current year budgets and management accounts: Provides relevant financial
information for the year to date. It will help the auditor during the planning stage for
preliminary analytical review and risk assessment.
7. Company website: Recent press releases from the company may provide background on
the business during the year as this will help in identifying the key audit risks.
8. Financial statements of competitors: This will provide information about the company’s
competitors, in relation to their financial results and atheir accounting policies. This will
 be important in assessing the performance in the year and also when undertaking going
concern review.
Quality control procedures during engagement performance
Briefing/direction of the team
The audit team should be informed of their responsibilities, the objectives of their work, the nature of
the client’s business and any other relevant information to enable them to perform their work efficiently
and effectively. This will enable them to identify material misstatements and know which areas require
greater attention.
Supervision – tracking the progress of the audit
The audit supervisor should keep track of the progress of the audit in order to ensure the work is being
completed on time or whether action needs to be taken such as bringing in additional staff to help
complete the work or whether to agree an extended deadline with the client.
Supervision – addressing significant matters
The audit supervisor will also ensure that significant matters are being dealt with promptly. If issues are
resolved as soon as they are identified the audit is more likely to be completed within the agreed
timeframe.
Supervision – considering competence of team
The audit supervisor will consider the competence of the audit team and will provide additional
coaching if required. The supervisor should be available for the team members to refer to in case of any
queries.
Consultation
Consultation will be required where the team does not have the necessary expertise. The audit
supervisor should identify any areas where consultation with an expert is required and make
arrangements for such consultation whether this is referring the matter to another person within the
audit firm or using an external expert.
Review of work
Each team member’s work should be reviewed by someone more senior. This is to ensure the work has
been to the required standard. The reviewer may identify additional work that needs to be performed
before a conclusion can be drawn reducing the risk that material misstatements go undetected.
Purpose of review engagement and their level of assurance
Review engagements are often taken as an alternative to an audit, and involve a
practitioner reviewing financial data, such as six-monthly figures. This would involve the
practitioner undertaking procedures to state whether anything has come to their attention
which causes the practitioner to believe that the financial data is not in accordance with the
financial reporting framework.
A review engagement differs to an external audit in that the procedures undertaken are not
nearly as comprehensive as those in an audit, with procedures such as analytical review and
enquiry used extensively. In addition, the practitioner does not need to comply with ISAs as
these only relate to external audits
Level of assurance
 External audit- This provides comfort that the financial statements prepared fairly in all
material respects and are free from material misstatements.
A high but not absolute level of assurance is provided. This is known as reasonable
assurance.
Review engagement- The practitioner gathers sufficient evidence to be satisfied tha the
subject matter is plausible. In this case negative assurance is given whereby the practitioner
confirms that nothing has come to their attention which indicates that the subject matter
contains material misstatements.
Auditor’s responsibility in relation to fraud
Reasonable assurance FS free from material misstatement, whether caused by fraud or error
 Identify and assess the risks of material misstatement due to fraud
 Obtain sufficient appropriate audit evidence
 Respond appropriately to fraud identified during the audit
 Maintain professional skepticism throughout the audit
 Discussion within the engagement team
 Report fraud to management and those charged with governance

Materiality and performance materiality

Materiality is defined as misstatements including omissions, are considered to be material if they,
individually or in aggregate, could reasonably be expected to influence the economic decisions of users
taken on the basis of FS.
In assessing the level of materiality there are a number of areas that should be considered. First the
auditor must consider both the amount and the nature of the misstatements, or a combination of both.
The quantity of the misstatement refers to the relative size of it and the quality refers to an amount that
might be low in value but due to its prominence could influence the user’s decision, for example,
directors’ transactions.

Materiality is often calculated using benchmarks such as 5% of profit before tax or 1% of total revenue
or total expenses. These values are useful as a starting point for assessing materiality.
The assessment of what is material is ultimately a matter of the auditor’s professional judgment, and it
is affected by the auditor’s perception of the financial information needs of users of the financial
statements and the perceived level of risk; the higher the risk, the lower the level of overall materiality.

In assessing materiality, the auditor must consider that a number of errors each with a low value may,
when aggregated, amount to a material misstatement. In calculating materiality, the auditor should also
set the performance materiality level. Performance materiality is normally set at a level lower than
overall materiality. It is used for testing individual transactions, account balances and disclosures. The
aim of performance materiality is to reduce the risk that the total of errors in balances, transactions and
disclosures does not in total exceed overall materiality.

Report to management
Board of directors
Amberjack Co
21 Under the Sea
Shorelife City
Shark Country
1 July 20X5
Dear Sirs,
Audit of Amberjack Co for the year ended 30 April 20X5
Please find enclosed the report to management on deficiencies in internal controls identified during the
audit for the year ended 30 April 20X5. The appendix to this report considers deficiencies in the sales
and dispatch system and recommendations to address those deficiencies.

Please note that this report only addresses the deficiencies identified during the audit and if further
testing had been performed, then more deficiencies may have been reported.
This report is solely for the use of management and if you have any further questions, then please do
not hesitate to contact us.
Yours faithfully
An audit firm

Documenting systems

Description Advantage Disadvantage

Narrative notes Narrative notes consist of
a written description of
the system. They detail
what occurs in the system
at each stage and include
any controls which
operate at each stage.
Questionnaires Internal control
questionnaires
(ICQs) or internal control
evaluation questionnaires
(ICEQs) contain a list of
questions for each major
transaction cycle.
ICQs are used to assess
whether controls exist
whereas ICEQs assess the
effectiveness of the
controls in place.
They are simple to
record; after discussion
with staff members,
these discussions are
easily written up as notes.
They can facilitate
understanding by all
members of the audit
team, especially more
junior members who
might find alternative
methods too complex
Questionnaires are quick
to prepare, which means
they are a timely method
for recording the system.
They ensure that all
controls present within
the system are
considered and recorded;
hence missing controls or
deficiencies are clearly
highlighted to the audit
team.
Narrative notes may
prove to be too
cumbersome, especially
if the system is complex
or heavily automated.
This method can make
it more difficult to
identify missing internal
controls as the notes
record the detail but do
not identify control
exceptions clearly.
It can be easy for staff
members to overstate
the level of the controls
present as they are
asked a series of
questions relating to
potential controls. A
standard list of
questions may miss out
unusual or more
bespoke controls used
by the company.

Flowcharts Flowcharts are a graphic It is easy to view the

illustration of the internal system in its entirety as it
 control system for the is all presented together
sales system. Lines usually in one diagram. Due to
demonstrate the the use of standard
sequence of events and symbols for controls, it
standard symbols are can be effective in
used to signify controls or identifying missing
documents. controls.
.
Matters to consider in obtaining an understanding of the entity:
 The market and its competition
 Legislation and regulation
 Regulatory framework
 Ownership of the entity
 Nature of products/services and markets
 Location of production facilities and factories
 Key customers and suppliers
 Capital investment activities
 Accounting policies and industry specific guidance
 Financing structure
 Significant changes in the entity on prior years.

Analytical procedures
Analytical procedures can be used at all stages of an audit, however, ISA 315 Identifying and Assessing
the Risks of Material Misstatement through Understanding the Entity and Its Environment and ISA 520
Analytical Procedures identify three particular stages.

During the planning stage, analytical procedures must be used as risk assessment procedures in order to
help the auditor to obtain an understanding of the entity and assess the risk of material misstatement.

During the final audit, analytical procedures can be used to obtain sufficient appropriate evidence.
Substantive procedures can either be tests of detail or substantive analytical procedures.

At the final review stage, the auditor must design and perform analytical procedures which assist them
when forming an overall conclusion as to whether the financial statements are consistent with the
auditor’s understanding of the entity.

Areas to be included in the audit strategy document

The audit strategy sets out the scope, timing and direction of the audit and helps the development of
the audit plan. ISA 300 Planning an Audit of Financial Statements sets out areas which should be
considered and documented as part of the audit strategy document and are as follows:
Main characteristics of the engagement - The audit strategy should consider the main characteristics of
the engagement, which define its scope. For Prancer Construction Co, the following are examples of
things which should be included:
 Whether the financial information to be audited has been prepared in accordance with the relevant
financial reporting framework.
 Whether computer‐assisted audit techniques will be used and the effect of IT on audit procedures.
 The availability of key personnel at Prancer Construction Co.
Reporting objectives, timing and nature of communication - It should ascertain the reporting objectives
of the engagement to plan the timing of the audit and the nature of the communications required, such
as:
 The audit timetable for reporting including the timing of interim and finalstages.
Organisation of meetings with Prancer Construction Co’s management to discuss any audit issues
arising.
Any discussions with management regarding the reports to be issued.
The timings of the audit team meetings and review of work performed.
Significant factors affecting the audit - The strategy should consider the factors which, in the auditor’s
professional judgement, are significant in directing Prancer Construction Co’s audit team’s efforts, such
as:
The determination of materiality for the audit.
The need to maintain a questioning mind and to exercise professional scepticism in gathering and
evaluating audit evidence.
Preliminary engagement activities and knowledge from previous engagements - It should consider the
results of preliminary audit planning activities and, where applicable, whether knowledge gained on
other engagements for Prancer
Construction Co is relevant, such as:
 Results of any tests over the effectiveness of internal controls.
 Evidence of management’s commitment to the design, implementation and maintenance of sound
internal controls.
 Volume of transactions, which may determine whether it is more efficient for the audit team to rely on
internal controls.
 Significant business developments affecting Prancer Construction Co, such as the improvement in
building practices and construction quality.
Nature, timing and extent of resources - The audit strategy should ascertain the nature, timing and
extent of resources necessary to perform the audit, such as:
 The selection of the audit team with experience of this type of industry.
 Assignment of audit work to the team members.
 Setting the audit budget.

Factors that can increase audit risk

1. Inherent risk- The susceptibility of an assertion about a class of transaction, account
balance or disclosure to a misstatement that could be material either individually or
when aggregated with other misstatements, before consideration of any related
controls.
Inherent risk is affected by the nature of an entity and factors which can result in an
increase are:
o Changes in the industry in which it operates
o Operations that are subject to a high degree of regulation.
o Going concern and liquidity issues including loss of significant customers.
o Developing or offering new products or services, or moving into new lines of
business. Expanding into new locations.
o Application of new accounting standards.
o Accounting measurements that involve complex processes.
o Events or transactions that involve significant accounting estimates.
 o Pending litigation and contingent liabilities.
2. Control risk- The risk that a misstatement that could occur in an assertion about a class
of transaction, account balance or disclosure and that could be material, either
individually or when aggregated with other misstatements, will not be prevented,
detected and corrected, on a timely basis by the entity’s internal control.
The following can result in an increase in control risk:
o Lack of personnel with appropriate accounting and financial reporting skills.
o Changes in key personnel including departure of key management.
o Deficiencies in internal control, especially those not addressed by management.
o Changes in the information technology environment.
o Installation of significant new IT systems related to financial reporting.
3. Detection risk- The risk that the procedures performed by the auditor to reduce audit
risk to an acceptably low level will not detect misstatement that exists and that could be
material, either individually or when aggregated with other misstatements.
Detection risk is affected by sampling and non-sampling risk factors which can result in an
increase include:
o Inadequate planning
o Inappropriate assignment of personnel to the engagement team.
o Failing to apply professional skepticism
o Inadequate supervision and review of the audit work performed.
o Inappropriate sampling techniques performed
o Inappropriate sampling size.
Purpose of audit working papers
 To assist with the planning and performance of the audit.
 To assist in the supervision and review of audit work
 To record the audit evidence resulting from the audit performed to support the
auditor’s opinion.