Auditing: An International Approach

CHAPTER 1

Importance of Auditing

- Auditing is the verification of information by someone other than the one

providing that information
- Important decisions are made based on accounting information. Audits
reduce risk that these decisions will be based on inaccurate information.
o Auditors provide assurance as to the accuracy of accounting
information
o Creates “three-party accountability”
- Auditing is highly important for it to be precise and honest because if
audits are perceived to fail, then the capital markets can do the same.
- Without effective audits, modern capital markets can’t fulfill their role as
efficient economic systems leading to high living standards
- Auditors, regulators, and corporate governance are key contributors to
financial stability

How should profit be calculated?

- Buyer and seller should agree on the method of calculation of profit

o GAAP provides a useful guideline
o F/S prepared in accordance with GAAP can be compared to other
financial statements
o GAAP have been determined by third parties, there’s no particular
bias toward buyer or seller

How can we trust the financial information?

- The seller of the business prepares the financial statements

o The seller has a natural bias toward increasing income which will
increase the selling price.
o The purchaser may not have the ability to check the accuracy
themselves.
 The purchaser could hire a third party to verify the financial
information – an Auditor
o Under three-party accountability the auditor is expected to act in
the interest of the user of the information.
 To meet the public interest, it’s important that the auditor is
trustworthy
Demand for reliable information:

- Accounting attempts to record and summarize a company’s transactions

into financial statements for the benefit of users
o Accounting is a function of the organization’s management
o Users are removed from accounting due to:
 Complexity: a company’s transactions can be numerous and
complicated. User of financial information are not trained to
collect and compile it themselves. They need the services of
professional accountants
 Remoteness: user of financial information is usually
separated from a company’s accounting records by distance
and time, as well as by lack of expertise. They need to
employ full-time professional accountants to do the work
they can’t do for themselves
  Consequences: financial decisions are important to the state
of investors’ and other users’ wealth. Decisions can involve
large dollar amounts and massive efforts. The consequences
are so important that good information, obtained through the
financial reports prepared by accountants, is an absolute
necessity

What creates the demand for audits?

- Audits lend credibility to information by reducing information risk, the risk

that information is materially misstated
- F/S misstatements arise due to:
o Accidental errors
o Lack of knowledge of accounting principles
o Unintentional bias
o Deliberate falsification
- Audits don’t directly address business risk, the risk that a company will
not be able to meet its financial obligations due to economic conditions or
poor management decisions

Auditing:

- Preparation of financial information by management creates a conflict of

interest between users of financial information and management
o The auditor serves as an independent intermediary who lends
credibility to the financial information
 Also called providing assurance as to the reliability of the
information
- An external auditor is independent of management and of the production
of financial information
o This creates three-party accountability
o Auditee  meaning the organization whose financial information is
being audited
o Client  meaning the person who hires the auditor and pays the
fee

Professional Judgement:

- The application of relevant training, knowledge, and experience, within

the context provided by auditing, accounting, and ethical standards, in
 making informed decisions about the courses of action that are
appropriate in the circumstances of the audit engagement
- It is important for documentation of professional judgement at the time
the judgements are made
o If it is not documented, it is not done.

Professional Skepticism:

- Is an auditor’s tendency not to believe management assertions but,

instead, to find sufficient support for the assertions through appropriate
audit evidence
- It is an important aspect of professional judgement
- It means recognizing that circumstances causing the F/S to be materially
misstated may exist

Attestation Services:

- To attest information means to provide assurance as to its reliability

- Attest engagement: a practitioner is engaged to issue or does issue an
examination, a review, or an agreed-upon procedures report on subject
matter or an assertion about subject matter that’s the responsibility of
another party (e.g. management)
- Direct reporting engagement: a type of assurance engagement in which
the assertions are implied and not written down in some form

Expectations Gap:

- An auditing expectation gap is the term used to signify the difference in

expectations of users of F/S and auditor’s expectation concerning audited
F/S
- It can also be explained as the difference between the effectiveness of
audit engagement what users believe and what auditors believe
- It can also refer to difference in understanding regarding nature of audit
engagement i.e. what users believe audit is and what audit actually is
- An auditor is required to reduce audit risk to an acceptably low level to
attain reasonable assurance – but what is reasonable? This can be
different in the eyes of auditor and in the eyes of auditor and eyes of
users of F/S and this creates expectation gap
CHAPTER 2

The Essentials of Auditors’ Professional Roles and Responsibilities:

- Public accounting – accountants provide assurance services for use by

general public
- Must be a CPA to practice
- CPAB – Canadian Public Accountability Board
- Firms must be registered with CPAB
- CPAB will inspect audit work performed by firms
- CPA must comply with professional ethics code which requires integrity,
objectivity, professional competency, due care, confidentiality
- CPA’s must maintain independence in fact and also independence in
appearance to outsiders

The Current Environment of Auditing:

- The audit environment has undergone a profound change following

several spectacular corporate failures
o As a result, the integrity of capital markets is being questioned all
over the world

Sarbanes-Oxley Act (SOX):

- Key features include:

o Increased oversight of auditors, including audit standard setting by
the newly created Public Company Accounting Oversight Board
(PCAOB)
o Increased penalties for corporate wrongdoers
o More timely and extensive financial disclosures
o More timely and extensive disclosure of the way the firm is
governed
o New options of recourse for aggrieved shareholders, including
increased legal liability for auditors
- Has had impact on management and auditors in the U.S. including:
o Management certification of all its publicly issued financial
information
o Evaluation of internal control statements made by management
o Closer regulation of the profession, including regular monitoring of
its activities
o Greater responsibilities assigned to client audit committees
o Increased importance of the role of the internal auditor
 - Internal controls gained increasing importance, as they refer to the
system of policies and procedures needed to maintain adherence to a
company’s objectives; especially, the accuracy of recordkeeping and
safeguarding of assets
- Audit committees monitor management’s financial reporting
responsibilities, including meeting with the external auditors and dealing
with various audit and accounting matters that may arise during an audit
- Corporate governance describes how well a company is run in the
interests of shareholders and other stakeholders

SOX – the Canadian response

- Instead of SOX, Canada thus has provincial-level regulations/guidelines

that can be referred to collectively as “governance guidelines established
by Canadian Market Regulators,” referred also as Canadian Governance
Guidelines or CGG.

Regulation of Public Accounting

- Is a provincial matter in Canada

- 3 principal activities of the OSC (Ontario securities commission) ensure
the orderly functioning of capital markets within its jurisdiction, such as
the TSX,
o Registering issuers, dealers, and advisers trading in securities and
commodity futures contracts
o Monitoring the full extent of reporting requirements, including those
related to prospectuses, takeovers, and continuous disclosure of
material information
o Enforcing the provisions of the Securities Act and the Commodity
Futures Act

Ontario Securities Commission – other responsibilities

- Monitors the setting of auditing and accounting standards by CPA Canada

- Provides input on emerging issues as well as commentary on proposed
standards
- Issues Staff Accounting Communiques (SACs) intended to explain the
OSC staff’s view on specific reporting issues

CPAB – Canadian Public Accountability Board

- CPAB created in 2002

- Represents the public interest through being dominated by non-CPA
members (seven of the eleven CPAB members are to be non-CPAs)
 - Monitors audit practice and conducts annual inspections of accounting
firms to assess to protect the public interest

Practice Standards

- CASs, sometimes referred to as GAAS

- Other assurance standards, as promulgated by Canadian Standards on
Assurance Engagements
- CPA Canada’s General Standards of Quality Control of Firms Performing
Assurance Engagements
- Quality control standards as reflected in firm peer reviews and provincial
institutes’ practice inspection manuals

General Accepted Auditing Standards (GAAS)

- GAAS identify the objectives and key principles of the F/S audit
o GAAS provides framework under which all auditing standards are
applied
o The objectives and key principles are found in CAS 200
- The overall objective of the audit is to enable the auditor to express an
opinion on whether the F/S are prepared in all material respects, with an
applicable (acceptable) financial reporting framework
o Note how this objective implies three-party accountability
- The auditor should comply with relevant professional ethical requirements
relating to audit engagements:
o Competence:
 Refers to adequate technical training and proficiency
 It is gained through education and on-the-job experience
 Allows the auditor to:
 Recognize underlying assertions made by
management
 Decide which evidence is relevant to support assertion
 Select and perform procedures for obtaining evidence
 Evaluate evidence for reality and conformity to GAAP
o Objectivity and Independence
 Auditors must have characteristics of: intellectual honesty,
unbiased and impartial
 Achieved by maintaining independence
 Independence in fact is the mental attitude, or state of
mind of the auditor
 Independence in appearance is covered by rules of
professional conduct
o Due to professional care
  Requires observance of the rules of professional ethics and
GAAS
 Competent and independent, exercise proper care in
planning and supervising the audit, understanding the
auditee’s control structure, and obtaining sufficient
appropriate evidence
 Due care is best understood in the context of the prudent
auditor
 Is a matter of what competent auditors do and how
well they do it
 Determination of due care must be reached on the
basis of facts and circumstances in the case
 Due care is frequently at issue in legal suits

GAAS: Examination Standards:

- Planning and Supervision

o Timing is important consideration in audit planning
 Audit planning needs to begin before the client’s fiscal year
end
 Some audit procedures can be conducted at an interim date,
a date weeks or months before the fiscal year end
 This allows the auditor to make adjustments to make
the year-end audit more efficient
- Internal Control Assessment
o Examination standard CAS 315.12-23 requires an understanding of
the auditee’s internal control
 This consists of a company’s control environment, accounting
system, and control procedures
o Good internal control reduces the probability of errors or
irregularities in the F/S
 Internal control is a system’s capability to prevent or detect
material data processing errors or fraud and provide for
correction on a timely basis
 Understanding internal controls is the foundation for
assessment of control risk
- Sufficient Appropriate Evidential Matter
o CAS 200 requires auditors to obtain enough evidence to justify
opinions
 Appropriate evidence is both reliable and relevant
 The standards require sufficient, not absolute, evidence
GAAS: Reporting Standards

- The report should identify the financial statements and distinguish

between the responsibilities of management and the responsibilities of the
auditor
- The auditor should determine whether the financial reporting framework
adopted by management in preparing the F/S is acceptable
- The auditor should refer to CASs 700 and 705 when expressing an opinion
on a complete set of general purpose F/S prepared in accordance with a
financial reporting framework that is designed to achieve fair presentation

Standard Unmodified Opinion Report

o Unmodified opinion audit report: good, as the auditor isn’t calling
attention to anything that may be wrong in the statements; there
are no reservations
 Auditing standards dictate use of a standard report
o Modified opinion audit report: bad, as the auditor reports a
departure from GAAP, or a limitation in the scope of the audit

The Standard Report

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