Audit Responsibilities

and Objectives
 Learning Objective 1
• Explain the objective of
• conducting an audit of
• financial statements and
• an audit of internal controls.
Objective of Conducting an Audit of
Financial Statements
The objective of the ordinary audit of financial
statements is the expression of an opinion of
the fairness with which they present fairly, in
all respects, financial position, result of
operations, and its cash flows in
conformity with GAAP.
Steps to Develop Audit Objectives
Steps to Develop Audit Objectives

4. Know general audit objectives for

classes of transactions and accounts.

5. Know specific audit objectives for

classes of transactions, accounts and
disclosures.
 Learning Objective 2
• Distinguish management’s
• responsibility for the financial
• statements and internal control
• from the auditor’s responsibility
• for verifying the financial
• statements and effectiveness
• of internal control.
 Management’s Responsibilities

Management is responsible for the financial

statements and for internal control.

The Sarbanes-Oxley Act increases management’s

responsibility for the financial statements.

It requires the CEO and the CFO of public

companies to certify the quarterly and annual
financial statements submitted to the SEC.
Management’s Responsibilities

The Sarbanes-Oxley Act provides for criminal

penalties for anyone who knowingly falsely
certifies the statements.
 Learning Objective 3
• Explain the auditor’s
• responsibility for discovering
• material misstatements.
 Auditor’s Responsibilities

 Material versus immaterial misstatements

 Reasonable assurance

 Errors versus fraud

 Professional skepticism

 Fraud resulting from fraudulent financial

reporting versus misappropriation of assets
 Auditor’s Responsibilities for
Discovering Illegal Acts
 Direct-effect illegal acts

 Indirect-effect illegal acts

 Evidence accumulation when there is no reason

to believe indirect-effect illegal act exists
 Auditor’s Responsibilities for
Discovering Illegal Acts
 Evidence accumulation and other actions
when there is reason to believe direct- or
indirect-effect illegal acts may exist

 Actions when the auditor knows of an illegal act

 Learning Objective 4
• Classify transactions and account
• balances into financial statement
• cycles and identify benefits of a
• cycle approach to segmenting
• the audit.
 Financial Statements Cycles

Audits are performed by dividing the financial

statements into smaller segments or components.
 Transaction Flow Example
Ledgers,
Transactions Journals Trial Balance,
and Financial
Sales Statements
Sales
journal
General ledger
and subsidiary
records
Cash Cash receipts
receipts journal
General ledger
trial balance
Acquisition
Acquisitions Financial
of goods
journal statements
and services
 Transaction Flow Example
Ledgers,
Transactions Journals Trial Balance,
Cash and Financial
Cash Statements
disbursements
disbursements
journal General ledger
and subsidiary
records
Payroll
Payroll
services and
journal
disbursements General ledger
trial balance
Allocation
General Financial
and
journal statements
adjustments
 Relationships Among Transaction
Cycles
General
cash

Capital acquisition
and repayment cycle

Sales and Acquisition Payroll and

collection and payment personnel
cycle cycle cycle

Inventory and
warehousing
cycle
 Learning Objective 5
• Describe why the auditor obtains
• a combination of assurance by
• auditing classes of transactions
• and ending balances in accounts,
• including presentation and
• disclosure.
 Balance and Transactions Affecting
Balances Example
Accounts Receivable (in thousands)
Beginning balance $ 17,521

Sales $144,328 $137,087 Cash receipts

Sales returns
$ 1,242 and allowances

Charge-off of
$ 3,323 uncollectible
accounts

Ending balance $ 20,197

 Learning Objective 6
• Distinguish among the three
• categories of management
• assertions about financial
• information.
 Management Assertions

1. Assertions about classes of transactions and

events for the period under audit

2. Assertions about account balances at period end

3. Assertions about presentation and disclosure

 Management Assertions for
Each Category of Assertions
Assertions About Classes Assertions About Assertions About
of Transactions and Events Account Balances Presentation and Disclosure
Occurrence Existence Occurrence and rights
and obligations
Completeness Completeness Completeness
Accuracy Valuation and Accuracy and
allocation valuation
Classification Classification and
understandability
Cutoff
Rights and
obligations
 Learning Objective 7
• Link the six general transaction-
• related audit objectives to
• management assertions
• for classes of transactions.
 General Transactions-related Audit
Objectives

Recorded transactions
Occurrence
exist

Existing transactions
Completeness
are recorded

Recorded transactions
Accuracy are stated at the
correct amounts
 General Transactions-related Audit
Objectives

Transactions are included

Posting and
in the master files and
summarization
are correctly summarized.

Transactions are properly

Classification
classified.

Transactions are recorded

Timing
on the correct dates.
 Hillsburg Hardware Co.
(Applied to Sales Transactions)

Management Assertions General Transaction- Specific Sales Transaction-

About Classes of related Audit related Audit Objectives
Transactions and Events Objectives
Occurrence Occurrence Recorded sales are for
shipments made to
nonfictitious customers
Completeness Completeness Existing sales
transactions are recorded
Accuracy Accuracy Recorded sales are for
the amount of goods
shipped and are correctly
billed and recorded
 Hillsburg Hardware Co.
(Applied to Sales Transactions)

Management Assertions General Transaction- Specific Sales Transaction-

About Classes of related Audit related Audit Objectives
Transactions and Events Objectives

Accuracy Posting and Sales transactions are

summarization properly included in the
master file and are
correctly summarized
Classification Classification Sales transactions are
properly classified
Cutoff Timing Sales transactions are
recorded on the correct
dates.
 Learning Objective 8
• Link the eight general balance-
• related audit objectives to
• management assertions
• for account balances.
 General Balance-related
Audit Objectives

Existence Amounts included exist

Existing amounts are

Completeness
included

Amounts included are

Accuracy stated at the correct
amounts
 General Balance-related
Audit Objectives
Amounts are properly
Classification
classified

Transactions are recorded

Cutoff
in the proper period

Account balances agree

Detail tie-in with master file amounts,
and with the general ledger
 General Balance-related
Audit Objectives
Realizable Assets are included at
value estimated realizable value

Rights and
Assets must be owned
obligations
 Hillsburg Hardware Co.
(Applied to Inventory)

Management Assertions General Balance- Specific Balance-related Audit

About Account Balances related Audit Objectives Applied to Inventory
Objectives
Existence Existence All recorded inventory exists
at the balance sheet date
Completeness Completeness All existing inventory has
been counted and included
in the inventory summary
 Hillsburg Hardware Co.
(Applied to Inventory)

Management Assertions General Balance- Specific Balance-related Audit

About Account Balances related Audit Objectives Applied to Inventory
Objectives
Valuation and Accuracy Inventory quantities on the
allocation client’s perpetual records
agree with items physically
on hand
Prices used to value
inventories are materially
correct
Extensions of price times
quantity are correct and
details are correctly added
 Hillsburg Hardware Co.
(Applied to Inventory)

Management Assertions General Balance- Specific Balance-related Audit

About Account Balances related Audit Objectives Applied to Inventory
Objectives
Valuation and Classification Inventory items are properly
allocation classified as to raw
materials, work in process,
and finished goods
Cutoff Purchase cutoff at year end
is proper
Sales cutoff at year end is
proper
 Hillsburg Hardware Co.
(Applied to Inventory)

Management Assertions General Balance- Specific Balance-related Audit

About Account Balances related Audit Objectives Applied to Inventory
Objectives
Valuation and Detail tie-in Total of inventory items
allocation agrees with general ledger
Realizable Inventories have been written
value down where net realizable
value is impaired
Rights and obligations Rights and The company has title to all
obligations inventory items listed
Inventories are not pledged
as collateral
 Learning Objective 9
• Link the four presentation and
• disclosure-related audit objectives
• to management assertions for
• presentation and disclosure.
 Hillsburg Hardware Co.
(Applied to Notes Payable)

Management General Specific Presentation and

Assertions About Presentation- Disclosure-related Audit Objectives
Presentation and and Disclosure- Applied to Notes Payable
Disclosure related Audit
Objectives
Occurrence Occurrence Notes payable as described in the
and rights and and rights and footnotes exist and are
obligations obligations obligations of the company
Completeness Completeness All required disclosures related
to notes payable are included in
the financial statement footnotes
 Hillsburg Hardware Co.
(Applied to Notes Payable)

Management General Specific Presentation and

Assertions About Presentation- Disclosure-related Audit Objectives
Presentation and and Disclosure- Applied to Notes Payable
Disclosure related Audit
Objectives
Valuation and Valuation and Footnote disclosures related to
allocation allocation notes payable are accurate.
Classification Classification Notes payable are appropriately
and and classified as to short-term and
understandability understandability long-term obligations and
related financial statement
disclosures are understandable
 Learning Objective 10
• Explain the relationship between
• audit objectives and the
• accumulation of audit evidence.
 How Audit Objectives Are Met

The auditor must obtain sufficient appropriate

audit evidence to support all management
assertions in the financial statements.

 An audit process has four specific phases

 Four Phases of a Financial
Statement Audit
Perform analytical
Plan and design procedures and
Phase I an audit approach Phase III tests of details
of balances

Perform tests of
Complete the
controls and
Phase II substantive tests Phase IV audit and issue
an audit report
of transactions
End of Chapter 6