Ed 15 Dr. Gehan CH 2

The audit standards’ setting
process
Chapter 2
©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-1

Learning Objective 1
Describe the nature of CPA firms,

what they do, and their structure.

Certified Public Accounting
Firms
The legal right to perform audits is granted
to CPA firms by each state.
CPA firms also provide many other services to

their clients, such as tax and consulting services.
CPAs continue to develop new products and

services—such as financial planning, business
valuation and information technology.
Firms
 Big Four international firms
 National firms
 Regional and large local firms
 Small local firms

Firms
The four largest CPA firms in the United States
are called the “Big Four” international CPA firms.
These four firms have offices in most major

cities in the United States and in many
cities throughout the world.

Firms

Activities of CPA Firms
 Accounting and bookkeeping services
 Tax services
 Management consulting services

Structure of CPA Firms
Three main factors influence the organizational

structure of all firms:
1. The need for independence from clients.

2. The importance of a structure to encourage
competence.
3. The increased litigation risk faced by auditors.

Organizational Structure
 Proprietorship
 Professional corporation
 General partnership
 Limited liability company
 General corporation
 Limited liability partnership

Hierarchy of a Typical
CPA Firm
Breadth of Experience
Partners 10+ years
Managers 5-10
Seniors and
In-charge Auditors 2-5
Staff Assistants 0-2
©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 10

CPA Firm
Staff Level Experience Typical Responsibilities
Staff Performs most of the

0-2 years
assistant detailed audit work
Senior or Responsible for the audit

in-charge 2-5 years field work, including
auditor supervising staff work

CPA Firm
Staff Level Experience Typical Responsibilities
Helps the plan, manages

Manager 5-10 years the audit, reviews work,
and works with the client
Reviews audit work and

Partner 10+ years makes significant audit
decisions

Understand the impact of the PCAOB and

Sarbanes-Oxley on the CPA profession.

Sarbanes-Oxley Act
This Act is considered by many observers to

be the most important legislation affecting
the auditing profession since the 1930s.
The provisions of the Act apply to publicly

held companies and their audit firms.

Sarbanes-Oxley Act
SEC
PCAOB
(Public Company
Accounting
Oversight Board)

Summarize the role of the Securities and

Exchange Commission in accounting and
auditing.

Securities and Exchange
Commission
The purpose is to assist in providing investors
with reliable information upon which to make
investment decisions
The Securities Act of 1933
The Securities Exchange Act of 1934

The SEC has
considerable influence in setting generally
accepted accounting principles and
disclosure requirements for financial
statements because of its authority for
specifying reporting requirements
considered necessary for fair disclosure
to investors.

Securities and Exchange
Commission
Form S-1 to S-1 the company must complete when
issues new securities.
Form 10-K the company must complete annually.
Form 8-K the company must report significant events.
Form 10-Q the company must complete each quarter.

The Public Company Accounting Oversight
Board (PCAOB)
provides oversight for auditors of public companies,
including establishing auditing and quality control
standards for public company audits, and performing
inspections of the quality controls at audit firms
performing those audits. The PCAOB now has
responsibility for establishing auditing standards for
public companies, while the Auditing Standards
Board (ASB) of the AICPA establishes auditing
standards for private companies.

Describe the key functions performed by the

AICPA.

AICPA
Performs the following services for CPAs:

 Sets professional requirements
 Conducts research
 Publishes materials related to services
performed
Empowered to set standards (guidelines)

and rules

Establishing Standards
and Rules
1. Auditing standards
2. Compilation and review standards
3. Other attestation standards
4. Code of Professional Conduct

Other AICPA Functions
The CPA examination
Research and Grants
Publishes a variety of materials
Provides seminars and

continuing education
Understand the role of international auditing

standards and their relation to U.S. auditing
standards

Statements on Auditing
Standards
 Classification of Statements on Auditing Standards
 GAAS and Standards of Performance

International Standards on Auditing
International Standards on Auditing (ISAs) are issued by
the International Auditing Practice Committee of the
International Federation of Accountants (IFAC).
IFAC is the worldwide organization for the accountancy

profession.
The IAPC works to improve the uniformity of auditing

practices and related services throughout the world.

International Standards
on Auditing
IFAC is the worldwide organization
for the accountancy profession.
The IFAC works to improve the

uniformity of auditing practices and
related services throughout the world.

International Standards
on Auditing

Use U.S. auditing standards as a basis for

further study

GAAS

Use generally accepted
auditing standards as a
basis for further study.

General Standards=3 standards
1. The audit is to be performed by a person or

persons having adequate technical training
and proficiency as an auditor.
2. In all matters relating to the assignment,

an independence in mental attitude is to
be maintained by the auditor or auditors.

3. Due professional care is to be exercised
in the planning and performance of the
audit and the preparation of the report.

Standards of Field Work=3
Standards
1. The work is to be adequately planned
and assistants, if any, are to be
properly supervised.
2. A sufficient understanding of internal

control is to be obtained to plan the audit
and to determine the nature, timing, and
extent of tests to be performed.

3. Sufficient competent evidential matter is to
be obtained through inspection, observation,
inquiries, and confirmations to afford a
reasonable basis for an opinion regarding
the financial statements under audit.

Standards of Reporting=4
standards
1. The report shall state whether the financial
statements are presented in accordance with
generally accepted accounting principles.
2. The report shall identify those circumstances

in which such principles have not been
consistently observed in the current period
in relation to the preceding period.
3. Informative disclosures in the financial
statements are to be regarded as
Reasonably adequate unless otherwise
stated in the report.
4. The report shall contain an expression of

opinion regarding the financial statements,
taken as a whole.

GAAS
©2012 2-
Prentice
39 Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 39
Relationship Between GAAS and
PCAOB Auditing Standards
PCAOB GAAS
Public Private
company company
audits audits

Statements on Auditing
Standards
The 10 generally accepted auditing standards
are too general to provide meaningful guidance.
SAS interpret the 10 generally accepted

auditing standards and are the most
authoritative references available to auditors.

Identify quality control standards and

practices within the accounting profession.

The element of quality control
The element of quality control is personnel
management. The purpose of the requirement is
to help assure CPA firms that all new personnel
should be qualified to perform their work
competently. A CPA firm must have competent
employees conducting the audits if quality audits
are to occur.

Elements
L of Quality Control
Relevant ethical requirements
Leadership responsibilities
 Human resources
 Acceptance and continuation of clients
and engagements
 Engagement performance
 Monitoring

Relationships

Peer review (every 3 years):-
CPA review by another CPA firm to ensure
compliance with quality control standards.
-Failure to have peer review lead to loss of
AICPA membership.
peer review meets the purpose:
1. to improve the performance of CPA firms.
2. to provide high quality service to his clients
3. to make more competitive to CPA firms.
CPAs Encouraged to Conduct
Themselves at a High Level
GAAS and
interpretations Continuing
CPA
education
examination
requirements
Quality Conduct of Legal

control liability
CPA firm
personnel
Peer AICPA practice
review sections
PCAOB Code of
and SEC Professional
Conduct
Questions
List and describe the three factors that influence the organizational
structure of all CPA firms. What are the most common forms of CPA
firm organization?
 Answer: The three factors that influence the organization of a CPA
firm include:
 1. Independence from clients. Independence is important as it
allows the auditors to remain unbiased in drawing conclusions on
client financial statements.
 2. Auditor Competency. Competency allows auditors to conduct
audits and perform services effectively and efficiently.
 3. Litigation. The increased litigation risk faced by auditors increases
audit firm business risk. Certain organizational structures allow a
degree of personal protection to individual firm members.

True or False questions
 1. Sarbanes-Oxley and the Securities Exchange
Commission restrict auditors from providing many
consulting services to their publically traded audit clients.
 A) True
 B) False
 Answer: B
 2. The overall purpose of the Securities and Exchange
Commission is to assist in providing investors with
reliable information upon which to make investment
decisions. A) True B) False
 Answer: A

MCQ:
 1) The organization that is responsible for providing oversight for auditors
of public companies is called the ________.
 A) Auditing Standards Board.
 B) American Institute of Certified Public Accountants.
 C) Public Oversight Board.
 D) Public Company Accounting Oversight Board.
 Answer: D
 2) Members of the Public Company Accounting Oversight Board are
appointed and overseen by:
 A) the U.S. Congress.
 B) the American Institute of Certified Public Accountants.
 C) the Auditing Standards Board.
 D) the Securities and Exchange Commission.
 Answer: D

MCQ:
5) Which of the following statements most accurately captures the
intent of the standards of field work?
A) Field work standards are primarily concerned with personal
attributes necessary during the conduct of the audit.
B) Field work standards provide extensive guidance regarding the
conduct of an audit.
C) Field work standards are primarily directed at the auditor's planning,
understanding of internal control, and evidence accumulation.
D) Field work standards are primarily concerned with the conduct of
substantive testing as opposed to testing of internal controls.
Answer: C
6) The Statements on Auditing Standards issued by the Auditing
Standards Board:

MCQ:
A) interpret generally accepted auditing standards.
B) are the equivalent of laws for audit practitioners.
C) must be followed in all situations.
D) are optional guidelines which an auditor may choose to follow or not follow when
conducting an audit.
Answer: A
7) Which of the following statements about Generally Accepted Audit Standards are
true?
I. They serve as broad guidelines to auditors for conducting an audit engagement.
II. They are sufficiently specific to provide any meaningful guide to practitioners.
III. They represent a framework upon which the AICPA can provide interpretations..
A) I and II
B) I and III
C) II and III
D) I, II and III
Answer: B
8) Generally Accepted Auditing Standards (GAAS) and
Statements on Auditing Standards (SAS) should be
looked upon by practitioners as:
A) ideals to work towards, but which are not achievable.
B) maximum standards that denote excellent work.
C) minimum standards of performance that must be
achieved on each audit engagement.
D) benchmarks to be used on all audits, reviews, and
compilations.
Answer: C

End of Chapter 2

Ed 15 Dr. Gehan CH 2

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The audit standards’ setting

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-1

Describe the nature of CPA firms,

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-2

CPA firms also provide many other services to

CPAs continue to develop new products and

 Regional and large local firms

 Small local firms

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-4

These four firms have offices in most major

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-5

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-6

 Accounting and bookkeeping services

 Management consulting services

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-7

Three main factors influence the organizational

1. The need for independence from clients.

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-8

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2-9

Partners 10+ years

Staff Assistants 0-2

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 10

Staff Performs most of the

Senior or Responsible for the audit

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 11

Helps the plan, manages

Reviews audit work and

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 12

Understand the impact of the PCAOB and

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 13

This Act is considered by many observers to

The provisions of the Act apply to publicly

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 14

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 15

Summarize the role of the Securities and

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 16

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 17

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 18

Form 10-K the company must complete annually.

Form 8-K the company must report significant events.

Form 10-Q the company must complete each quarter.

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 19

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 20

Describe the key functions performed by the

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 21

Performs the following services for CPAs:

Empowered to set standards (guidelines)

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 22

2. Compilation and review standards

3. Other attestation standards

4. Code of Professional Conduct

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 23

The CPA examination

Research and Grants

Publishes a variety of materials

Provides seminars and

Understand the role of international auditing

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 25

 GAAS and Standards of Performance

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 26

IFAC is the worldwide organization for the accountancy

The IAPC works to improve the uniformity of auditing

©2012 Prentice Hall Business Publishing, Auditing 14/e, Arens/Elder/Beasley 2 - 27