AICPA National Governmental and Not-for-Profit Training Program NPO ADVANCED AUDITING October 23, 2007 Presented

by: Flo Ostrum, Grant Thornton LLP

Objectives

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Economic and Industry Developments Affect of new auditing standards New regulatory developments Future auditing standards

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Economic And Industry Developments

‡ The State of the Economy ‡ The State of the Not-for-profits

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The State of the Economy

‡ In planning their audits, auditors need to understand the economic conditions facing the industry in which the client operates

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The State of the Economy

‡ Economic activities relating to factors such as ± interest rates, ± consumer confidence, ± overall economic expansion or contraction, ± inflation, and ± the labor market ‡ Are likely to have an impact on the organization¶s financial statements being audited.
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Critical strains to economy and business environment
‡ Rising interest rates continuing from the prior year. ‡ Soaring gasoline prices, which may threaten consumer spending, a vital tower of strength for the U.S. economy also continued from the prior year. ‡ Dangerously high and rising consumer debt levels. ‡ Negative savings rate. ‡ A softening housing boom in some markets.
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Risks

‡ Although the U.S. economy on the whole has been quite favorable, these strains could upset economic growth, possibly affecting your client¶s operations and therefore possibly impacting audit risk ‡Such strains may impact discretionary consumer spending and thereby decrease the willingness of consumers to make contributions to not-for-profit organizations
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Risks

‡ Decreased giving may: ± increase risk to improperly access restricted funds ± increase risk to properly recognize restrictions ± increase risk in false reporting to obtain grants ± increase risk in false reporting to meet matching requirements

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The State of Not-for-profits

‡ Growth industry ‡ As of 9/30/06 ± 1.6 million ‡ Auditor expectations: ± regional and national conditions ± health of local labor market

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The State of Not-for-profits

‡ Corporate sponsorship ± goals of sponsors = goals of organization ‡ Funding Administrative Costs ‡ Retiring workforce ‡ Cyber donations

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Internet Fund-Raising

‡ The Internet - great way for charities to: ± raise awareness about a charity¶s mission ± communicate with supporters ± email appeals, supplying new donors ± compelling government to give more, and ± stimulating donations

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Internet Fund-Raising

‡ Following Hurricane Katrina ± 45 percent of the funds that the Red Cross received were through online fundraising ± 22 percent of funds raised online during the 2004 tsunami ± internet increasingly effective measure of collecting funds in times of need

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E-Philanthropy

‡ Internet proven to be a powerful tool for helping notfor-profits raise significant dollars ««auditor faces new challenges

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E-Philanthropy

‡ Not-for-profits with online donation transactions may automatically ± initiate ± authorize ± record ± summarize, and ± settle transactions electronically without human intervention or physical documentation
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E-Philanthropy

‡ Pay Pal offering services ‡organization has an account

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E-Philanthropy

‡ As a result, key audit evidence in electronic form may exist only for a limited amount of time

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E-Philanthropy

‡ Key audit evidence in electronic form may exist only for a limited amount of time ‡ Traditionally, audit procedures are performed after fiscal year-end. ‡ Waiting may be too late to obtain competent sufficient evidence of controls or transactions. ‡ The not-for-profits conducting e-philanthropy may not have hard-copy or paper evidence of transactions
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Risks

‡ Use of Internet may: ± increase risk of maintaining adequate support contributions ± increase risk of maintaining adequate support of restrictions ± increase risk of generating computer documents as support for nonexistent transactions

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Risks

‡ Use of Internet may: ± increase risk of manipulating computer information ± increase risk of reliance upon use of specialists to audit electronic transactions

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Objectives

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Economic and Industry Developments Affect of new auditing standards New regulatory developments Future auditing standards

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FO4

Audit And Attestation Issues And Developments
‡ Alternative Investments - Auditing ‡ Implementation of New Standards ‡ Risks

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Slide 21 FO4 old slide
Flo Ostrum, 10/18/2007

Alternative investments
Quick overview

‡ AICPA Alternative Investment Practice Aid ‡ AICPA NFP Accounting and Audit Guide - Chapter 8 ± Investments not covered by SFAS Nos. 124 (Marketable Debt and Equity Securities ) or 133 (Derivatives and Hedging Activities) are ³other investments´ ‡ What are some examples? ± Real estate, mortgage notes, venture capital funds, partnership interests and equity securities that do not have a readily determinable fair value

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Alternative investments
Quick overview
Fair Value of equity security is "readily determinable" if: ‡ Sales price or bid/ask quotation is currently available on a securities exchange registered with SEC or in over-the-counter market, provided those prices or quotes for the OTC market are publicly reported by NASDAQ systems or by the National Quotation Bureau, or ‡ Traded only in foreign market---that foreign market is a of a breath and scope comparable to one of U.S. markets referred to above, or ‡ Mutual fund ± FV per share is determined and published and is basis for current transaction

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Alternative Investments
Quick overview summary
‡ Generally investment vehicles other than stock, bonds, and mutual funds ± Not a defined GAAP or GAAS term ± Not traded on a national exchange such as NYSE or Nasdaq
Hedge funds (LPs, LLPs, LLC, Ltds, Inc.) Private equity funds Venture capital funds Fund of funds Trusts (other than charitable) Commodity funds

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Applying lessons learned«

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Management : should, must, prepare, consider, assess, do, view, complete«management, management, management! ‡Auditors can not audit what management has not done!

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Applying lessons learned«

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Management can never, ever prepare TOO much documentation for its alternatives

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Applying lessons learned«

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Good internal controls include having STRONG documentation

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Applying lessons learned«

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If management uses 3rd party investment managers, they must develop appropriate monitoring controls over them

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Applying lessons learned«

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Management must have a sufficient complement of personnel--investment, accounting, finance

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Transparency means more than seeing the underlyings

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Excerpt from investee's fund's offering document does NOT constitute adequate valuation policies and procedures

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Cannot ignore controls when auditing alternatives

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Applying lessons learned«

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'One-size-fits-all' audit approach may not be appropriate or even possible

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Applying lessons learned«

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Auditing alternatives is like auditing AIR«you know it's there, you just can't see or get your hands around it

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Guidance and focus

‡ Current guidance (Practice Aid) focuses on due diligence, oversight and transparency ±Transparency-an issue that should be considered BROADLY to incorporate all forms of information ±Importance of DOCUMENTED management-developed risk assessment ±Management MUST establish controls and processes ‡ Initial due diligence ‡ Ongoing monitoring ‡ Financial reporting Guidance: http://www.aicpa.org/members/div/auditstd/alternative_investme nts.htm.
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Management and auditor roles

Management

Auditor

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What management must do

Management

‡ Existence and valuation is management's responsibility ± Must be prepared to take responsibility in its own right for the valuation ‡ Management must find other information or conduct other activities that will provide information on its alternative investments ‡ Outsourced oversight ± Management must develop appropriate monitoring controls and DOCUMENTATION over it's 3rd party service provider

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What management must do

Management

‡ Controls and process ± Establish strong procedural controls ± Design controls that are appropriate for each type of alternative ± Ensure effective process to have sufficient understanding ‡ Regardless of how they do it, it is still their responsibility for: ± Performing sufficient due diligence ± Making informed investment choice ± Documenting process

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What auditors must do

Auditor

‡ Auditor's evaluation includes± Adequacy of management's process and related documentation AND, ± Quantity and quality of audit evidence available FROM MANAGEMENT ‡ Auditor's risk assessment should address at least: ± Materiality and significance ± Nature and extent of management's process and controls ± Degree of transparency to management to support its valuation process and conclusions ± Nature, complexity and liquidity

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What auditors must do

‡ Understand and document controls ± Facts and circumstances based ± Must fully (robustly!) document our solid understanding of management's initial due diligence, on-going monitoring, and financial reporting process and controls

Auditor

‡ Understanding will affect and determine nature, timing and extent of audit procedures

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Slide 40 SN1 Frank, I moved some points to the notes section, please let me know if you want me to move them back. They should look and flow better if they are just speaking points.
Steven Ng, 6/9/2007

What auditors must do

‡ Level of comfort obtained from understanding controls drives auditor to help determine nature and extent of other procedures performed and audit evidence to be obtained ‡ Audit evidence

Auditor

‡ Greater the risk, the more audit evidence required ‡ Higher the quality of audit evidence, the less the quantity of audit evidence
Considerable judgment is involved here!

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What the auditors must do«.continued

‡ Auditor should not rely exclusively on fund manager-provided information while ignoring investor controls ‡ Investor entity's financial statements ± Obtain management's documented reconciliation ‡ Why send a confirmation? ± Interpretation (and clarified by PA) requires it ± Information can corroborate or be helpful ‡ Security-by-security confirmation ± generally, by itself, does not provide adequate information as to existence and valuation

Auditor

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Summary

‡ Obtain management's risk assessment ‡ Review and assess risk assessment and corroborate / test the information ‡ Design efficient and effective procedures to address the unique risks associated with each investment

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Alternative Investments - Risks

‡ is the NFP acting as a prudent investor? ‡ valuations of the alternative investments ‡ potential effects on the organization¶s ability to continue as a going concern ‡ unrelated business income

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Statement 158 - Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans
Overview

Statement 158 represents Phase I of a comprehensive project on employers¶ accounting for postretirement benefit plans Phase I
Requires: ‡ recognition of the funded status on the statement of financial position ‡ recycling of amounts recognized in other comprehensive income ‡ alignment of the measurement date with the date of the statement of financial position
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Phase II May reconsider all aspect of postretirement benefit accounting including measurement issues

Applying Statement 158
Objective

‡ Improve the employer¶s statement of financial position by recognizing the over-funded or underfunded statuses of defined benefit postretirement plans as assets or liabilities ‡ Does not change« ± Measurement of plan assets, benefit obligations, or net periodic benefit cost ± Accounting and reporting with respect to multiemployer plans
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Applying Statement 158
Primary changes Statements 87, 88, 106 Statements 158

Deferred recognition of prior Immediate recognition of the funded status with offsetting entry to equity service costs, gains and through other comprehensive losses and transition income amounts Recognition of a minimum No minimum liability required liability for pensions No consideration of Recognized net of deferred deferred taxes for tax impact (and any "unrecognized" effects allowance)
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Applying Statement 158
Primary changes, continued Statements 87, 88, 106
Amortization of certain "unrecognized amounts" into earnings Measurement date up to 90 days prior to the balance sheet date allowed Reconciliation of the funded status to the amounts recognized
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Statement 158 Recycling of certain amounts recognized in comprehensive income into earnings Measurement date and the balance sheet date will be the same New disclosure requirements based on recycling

Effective dates

‡ Recognition of funded status and disclosure ±as of the end of the fiscal year ending after June 15, 2007 ‡ Changing the measurement date ±effective for fiscal years ending after December 15, 2008

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Applying Statement 158
Debrief
‡ Apply Statement 158 last ± Apply Statements 87, 88, 106 and 132R first ± Transition amount is an adjustment to Accumulated Other Comprehensive Income ± Do NOT include the amount in other comprehensive income ‡ Recycle prior service costs and gains and losses (Third time¶s a charm) ‡ Select either an additional measurement (stub period) or an extended measurement period ‡ Remember that Statement 157, Fair Value Measurements, will apply to the fair value of plan assets

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SAS 103 Audit Documentation

‡ December 2005 SAS No. 103, Audit Documentation. SAS

No. 103 supersedes SAS No. 96, Audit Documentation, and amends SAS No. 1, Codification of Auditing Standards and Procedures, ³Dating of the Independent Auditor¶s Report.´ ‡Statement establishes standards and provides guidance to auditors of nonissuers on audit documentation ‡The SAS is effective for audits of financial statements for periods ending on or after December 15, 2006

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Practice Alert 07-1, Dating of the Auditor's Report and Related Guidance
‡ suggests a possible revision to firm's process ‡Guidance: ± audit report date ± evidence supporting FS ± FS prep and management's assertions ± evidence that audit documentation has been reviewed ‡www.aicpa.org/download/auditstd/pract_alert/pa_20 07_1.pdf
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Implementation of New Standards

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SAS 114 SAS 112 practice issues Risk assessment standards (applicable June 2008) Practice Alert 07-1

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SAS 114, "The Auditor's Communication with Those Charged with Governance"

‡ Effective for periods beginning on or after December 15, 2006 ‡ Supersedes SAS 61 ‡ Includes required communications, form and timing, and to whom

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SAS 112, "Communicating Internal Control Related Matters Identified in an Audit"

‡ Effective for periods ending on or after December 15, 2006 ‡ How revisions will affect practice: ± significant deficiencies and material weaknesses ± communications ± more time evaluating deficiencies

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SAS 112, "Communicating Internal Control Related Matters Identified in an Audit"

‡ Discussions with management and others ‡ Issues for audits of smaller entities ± ??? increased costs ± drafting of financial statements ± possible opportunities ‡ AICPA Risk Alert

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Guidance on Evaluating Control Deficiencies in a Single Audit
‡ GAQC Alert #62 ‡ Evaluation guidance ± factors that may affect the likelihood that a control, or combination of controls, could fail to prevent or detect noncompliance ± factors that affect the magnitude of noncompliance

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Guidance on Evaluating Control Deficiencies in a Single Audit (cont.)
‡ For purposes of deficiencies in a single audit the following areas ordinarily are at least significant deficiencies in internal control: ± Policies and procedures that are incomplete, inadequate, or outdated for the activities subject to a type of compliance requirement. ± Inadequate segregation of duties over a type of compliance requirement. ± Controls over complex types of compliance requirements. ± IT controls relating to the activity subject to the type of compliance requirement.
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Risk Assessment Standards
‡ SAS No. 104 ± SAS No. 111 ‡ Effective for periods beginning on or after December 15, 2006 ‡ Some highlights ± requires auditor to understand and respond to risk ± more emphasis on understanding internal controls (no more default to maximum control risk) ± significant changes to audit methodology and training
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Risk Assessment Standards
‡ Guidance: ± AICPA Audit Risk alert ± AICPA Audit Guide ‡ understand and implement ‡ examples ‡ in-depth case study

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What's not coming up.

‡ Proposed FSP FAS 154-a²Considering the Effects of Prior-Year Misstatements When Quantifying Misstatements in Current-Year Financial Statements ± FASB removed this item from the agenda

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Objectives

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Economic and Industry Developments Affect of new auditing standards New regulatory developments Future auditing standards

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Internal Revenue Service Activities

‡ Pension Protection Act of 2006 (August 17, 2006) ± Controlling organizations ± 990T now available for public inspection ± private foundation and excess penalty excise taxes doubled ± Donor advised, supporting, and credit organizations ± 2007- donors must have written documentation for all contributions
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Internal Revenue Service Activities

‡ changes to the Form 990 ± compensation of officers, directors, etc from related organizations ± Supporting organization must generally file a Form 990 or 990-EZ ± new lines to complete if donor advised funds ± if controlled entities, must still file a 990 ± travel and entertainment payments reported separately
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2007 IRS Activities

‡ implementing new legislation ‡gaming ‡employment taxes ‡telephone excise tax refund ‡community foundations ‡college UBIT

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Other

‡ Frequently asked questions about exempts ‡www.irs.gov/charities/article/0,,id=96583,00.html ‡Report on Exempt Organizations Executive Compensation Compliance Project ± released March 2007 ‡Electronic filing requirement for small organizations ± 990-N

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Internet Based Workshop for Exempt Orgs

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tax-exempt status UBIT employment issues Form 990 required disclosures www.stayexempt.org

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Independent Sector

‡ issued in June 2005 ‡ April 2006 additional recommendations issued ‡ www.nonprofitpanel.org

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Risks

‡ Initiatives may increase risk: ± of misstatement of use of expenditures to support purpose ± in misstatement of donations ± in use of tax-exempt bonds ± reporting of funded status of pension plan

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AICPA Governmental Audit Quality Center

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Launched in late September 2004 Membership growing (740+) Membership is voluntary for CPA firms Center a resource for members including monthly newsletters and periodic alerts for important events, comprehensive Web site, member discussion forum, annual Webcast, etc.

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AICPA GAQC Home Page

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Center Resources

‡ E-mail Alerts on current audit and regulatory developments ‡ Dedicated Center Web sites with a complete listing of CPA firm members in your state ‡ Online Member Discussion Forums for sharing best practices and discussing issues you are facing ‡ Web seminars, webcasts, and teleconferences updating you on a variety of technical, legislative, regulatory, and practice management subjects
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Center Resources

‡ Governmental Audit Quality Article Collection ± How to reissue a single audit report ± GAQC member update on the National Statistical Sample of Single Audits ± Audit Quality Issue: Basis of Accounting ± Applying the 50% / 25% rule for selecting federal programs to test

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Center Resources

‡ Teleconferences ± What You Should Know About the 2007 Revision of Government Auditing Standards ± Impact of SAS 112 on Governmental Financial Audits ± What You Should Know about Recent Proposed FASB NPO Exposure Drafts on Accounting for Mergers and Acquisitions ± Avoiding the Most Common Single Audit Deficiencies
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GAQC Updates and Alerts

‡ Accounting and auditing matters ‡ Governance issues ‡ OMB A-133 guidance: ± Compliance Supplement ± Federal Agency waivers ‡ HUD guidance ‡ GASB ± New Statements ± meeting minutes ± implementation guides
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AICPA Governmental Audit Quality Center ‡ ‡ ‡ ‡ For more information go to www.aicpa.org/GAQC Inquiries can also be sent to GAQC@aicpa.org Firms join via the Center Web site Demonstrate your commitment to audit quality by joining the Center!

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AICPA Assistance

‡ AICPA Audit Guide, Government Auditing Standards and OMB Circular A-133 Audits ‡ GAS/A133 Audit Risk Alert ‡ Practice Aid: Auditing Recipients of Federal Awards: Practical Guidance for Applying OMB Circular A-133 ± 2005 -2006 Edition ‡ Federal single audit roundtable ‡ Government Audit Quality Center
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Any questions?

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