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rocess of assurance:

© The Institute of Chartered Accountants in England and Wales, March 2009 17

ontents

ntroduction

xamination context

opic List

1 Obtaining an engagement

2 Accepting an engagement

3 Agreeing terms of an engagement

ummary and Self-test

echnical reference

nswers to Self-test

nswers to Interactive questions

btaining an engagement

Assurance

18 © The Institute of Chartered Accountants in England and Wales, March 2009

Introduction

Learning objectives Tick off

Be aware of how assurance firms obtain work

Understand the key issues practitioners must consider before accepting engagements

Know what a letter of engagement is and what it does

The specific syllabus reference for this chapter is: 1f.

Practical significance

In practice, the matters covered in this chapter are very important to assurance firms. It is important toknow how to obtain clients and therefore secure future revenue. It is important to only accept clientswhich the firm is able to serve and engagements which the firm has the resources to carry out. It isparticularly important that all parties understand the nature of the work that will be carried out, as this mayprevent disputes and problems later on.

Another important area for practitioners is the increased client awareness and identification proceduresrequired to guard against involvement in money laundering. The crime of money laundering includes chargeswhich accountants may fall foul of. It is vital to practitioners that 'know your client' procedures areunderstood by all staff and carried out properly.

Stop and think

Given the problems with assurance noted in the previous chapter, how can assurance firms ensure thattheir clients understand the services they are being offered?

Working context

During your training, you are unlikely to be involved in obtaining clients or determining whether anengagement is going to be accepted. However, if you continue in your career to higher levels, evenpartnership, then these will be important practical issues for you.

However, you are the face of the assurance firm when carrying out engagements, and you may be in aposition where it is necessary to clarify the scope of the work that you are carrying out to aid a client’sunderstanding. In such a case, it might be necessary to refer to the terms of engagement between the firmand the client, and it will be important that you understand what you are talking about, if asked.

Syllabus links

The issues of obtaining engagements will be looked at in much greater detail in the Audit and Assurancepaper at the Application level.

PROCESS OF ASSURANCE: OBTAINING AN ENGAGEMENT


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Examination context

Exam requirements

This is a fairly minor area for the exam, but you could expect at least one question on the scope of theengagement (there is a question about engagement letters in the sample paper) and possibly another on theconsiderations of the assurance firm when deciding to accept engagements.

In the assessment, candidates may be required to:

Identify acceptance procedures

Identify sources of information about new clients

Select procedures required by money laundering legislation

Determine the purpose of a letter of engagement

Assurance


1 Obtaining an engagement

Section overview

Accountants may sometimes be invited to tender for an audit.

How assurance firms obtain clients is an important practical question, but it is largely outside the scope ofthis syllabus. In brief, you should be aware that:

Accountants are often invited to tender for particular engagements, which means that they offer aquote for services, outlining the personnel, usually in competition with other firms which are tendering atthe same time.

In this syllabus, if the topics in this chapter are examined, it will be in the context of an accountant beinginvited by a potential client to accept an engagement. We will go on now to look at the things which anaccountant must consider when he is so invited.

2 Accepting an engagement

Section overview

The present and proposed auditors should normally communicate about the client prior to theaudit being accepted.

The client must be asked to give permission for communication to occur. If the client refuses to givepermission, the proposed auditors must consider the reasons for such refusal.

The auditors must ensure they have sufficient resources (time and staff, for example) to carry out theappointment.

This section covers the procedures that the auditors must undertake to ensure that theirappointment is valid and that they are clear to act.

2.1 Appointment considerations

Schedule C of ICAB Code of Ethics as well as IFAC Code of Ethics sets out the rules under whichaccountants should accept new appointments. Before a new audit client is accepted, the auditors mustensure that there are no independence or other ethical issues likely to cause significant problems withthe ethical code (i.e. significant threats to complying with the fundamental principles of ethical behaviour –see later in this text). Furthermore, new auditors should ensure that they have been appointed in a properand legal manner.

The nominee auditors must carry out the following procedures.

Acceptance procedures

Ensure professionally qualified to act Consider whether disqualified on legal or ethical grounds,for example if there would be a conflict of interest withanother client. We will look in more detail at ethicalissues later in this Study Manual.

Ensure existing resources adequate Consider available time, staff and technical expertise.



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Acceptance procedures

Obtain references Make independent enquiries if directors not personallyknown.

Communicate with present auditors Enquire whether there are reasons/circumstances behindthe change which the new auditors ought to know, also asa matter of courtesy.

Some of the basic factors for consideration are given below.

The integrity of those managing a company will be of great importance, particularly if the company iscontrolled by one or a few dominant personalities.

The audit firm will also consider whether the client is likely to be high or low risk to the firm in termsof being able to draw an appropriate assurance conclusion in relation to that client. The following tablecontrasts low and high risk clients.

Low risk High risk

Good long-term prospects Poor recent or forecast performance

Well-financed Likely lack of finance

Strong internal controls Significant control weaknesses

Conservative, prudent accounting policies Evidence of questionable integrity, doubtful accountingpolicies

Competent, honest management Lack of finance director

Few unusual transactions Significant unexplained transactions or transactions withconnected companies

Where the risk level of a company's audit is determined as anything other than low, then the specific risksshould be identified and documented. It might be necessary to assign specialists in response to these risks,particularly industry specialists, as independent reviewers. Some audit firms have procedures for closelymonitoring audits which have been accepted, but which are considered high risk.

Generally, the expected fees from a new client should reflect the level of risk expected. They should alsooffer the same sort of return expected of clients of this nature and reflect the overall financial strategy ofthe audit firm. Occasionally, the audit firm will want the work to gain entry into the client's particularindustry, or to establish better contacts within that industry. These factors will all contribute to a totalexpected economic return.

The audit firm will generally want the relationship with a client to be long term. This is not only to enjoyreceiving fees year after year; it is also to allow the audit work to be enhanced by better knowledge of theclient and thereby offer a better service.

Conflict of interest problems can be significant; the firm should establish that no existing clients will causedifficulties as competitors of the new client. Other services to other clients may have an impact here, notjust audit.

The audit firm must have the resources to perform the work properly, as well as any specialistknowledge or skills. The impact on existing engagements must be estimated, in terms of staff time andthe timing of the audit.

Assurance


Sources of information about new clients

Enquiries of other sources Bankers, solicitors

Review of documents Most recent annual accounts, listing particulars, credit rating

Previous accountants/auditors Previous auditors should be invited to disclose fully allrelevant information

Review of rules and standards Consider specific laws/standards that relate to industry

Prospective auditors should seek the prospective client’s permission to contact the previous auditors. If thispermission is not given, the prospective auditors should consider carefully the reason for such refusal whendetermining whether or not to accept the appointment. Normally permission will be given, so theprospective auditors can write to the outgoing auditors.

Example: Initial communication

This is an example of an initial communication.

To: Retiring & Co

Chartered Accountants

Dear Sirs

Re: New Client Co Ltd

We have pleasure in informing you that we have been appointed as auditors of “New Client Co Ltd” Forthe year XX June, 200X. Since you were the previous auditors of the company, we would like to knowfrom you if there is any professional reason as to why we should not accept the appointment.

Acquiring & Co

Chartered Accountants

Having negotiated these steps the auditors will be in a position to accept the nomination, or not, as the casemay be.



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Example: Appointment decision chart

No

Approach by potentialnew audit client

Is this the firstaudit?

Does client givepermission tocontact old

auditor?

Prospective auditor canmake own decision

Yes

Yes

No

Write for all informationpertinent to the

appointment

Does client giveold auditor

permission toreply?

Does old auditorreply with

informationrelevant to newappointment?

Accept/rejectappointment

Prospective auditor shouldconsider carefully, thereason for this refusal

Give old auditor duenotice then decide on

basis of knowledgeobtained otherwise

Yes

Yes

No

No

Assurance


Interactive question 1: Accepting appointment [Difficulty level: Easy]

Identify whether the following are true or false. The audit firm should consider the following factors whendetermining whether to accept an engagement.

True False

Whether the firm is ethically barred from acting.

Whether the firm has sufficient resources to carry out the engagement.

Whether the firm can make sufficient profit from the engagement.

Whether the client is new to the firm.

Whether the client gives permission to contact the outgoing auditors.

See Answer at the end of this chapter.

The following procedures should be carried out after accepting nomination.

Ensure that the outgoing auditors' removal or resignation has been properly conducted inaccordance with national legislation.

The new auditors should see a valid notice of the outgoing auditors' resignation, or confirm that theoutgoing auditors were properly removed.

Ensure that the new auditors' appointment is valid. The new auditors should obtain a copy ofthe resolution passed at the general meeting appointing them as the company's auditors.

Set up and submit a letter of engagement to the directors of the company.

Where the outgoing auditors have fees still owing by the client, the new auditors need not declineappointment solely for this reason. They should decide how far they may go in aiding the former auditors toobtain their fees, as well as whether they should accept the appointment.

Once a new appointment has taken place, if applicable, the new auditors should obtain all books andpapers which belong to the client from the outgoing auditors. The outgoing auditors should ensurethat all such documents are transferred, unless they have a lien (a legal right to hold on to them) over thebooks because of unpaid fees. The outgoing auditors should also pass any useful information to the newauditors if it will be of help, without charge, unless a lot of work is involved.

2.2 Other assurance engagements

Similar considerations will be required for any assurance engagements. The legal considerations relating toaudit will not be relevant to other assurance engagements, but the ethical, risk and practical considerationswill be just as valid.



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Section overview

An engagement letter should be sent to all clients to clarify the terms of the engagement.

Agreement of audit engagement terms must be in writing.

It must include an explanation of the scope of the audit, the limitations of an audit and theresponsibilities of auditors and those charged with governance.

It may contain other information concerning practical details of the audit.

The purpose of an engagement letter is to:

Define clearly the extent of the firm's responsibilities and so minimise the possibility of anymisunderstanding between the client and the firm

Provide written confirmation of the firm’s acceptance of the appointment, the scope of theengagement and the form of their report

If an engagement letter is not sent to clients, both new and existing, there is scope for argument about theprecise extent of the respective obligations of the client and its directors and the auditors. The elements ofan engagement letter should be discussed and agreed with management before it is sent.

An engagement letter for any type of assurance engagement will contain the same contents as an auditengagement letter (discussed below). Clearly details will be different (for instance, it will cover the scope ofthe engagement, but the scope of an audit and the scope of a review of forecast information, for example,will be different). An engagement letter for an assurance engagement other than audit is likely to refer tospecific fees for the engagement. As you will see below, as an audit engagement is often recurring, specificfees are initially not mentioned.

3.1 Audit engagement letters

Auditing standards require that the auditor and the client should agree on the terms of the engagement. Theagreed terms must be in writing and the usual form would be a letter of engagement. Any other form ofappropriate contract, however, may be used.

Even in countries where the audit objectives and scope and the auditor's obligations are established by law,an audit engagement letter may be informative for clients.

The auditors should send an engagement letter to all new clients soon after their appointment asauditors and, in any event, before the commencement of the first audit assignment. They should alsoconsider sending an engagement letter to existing clients to whom no letter has previously been sent assoon as a suitable opportunity presents itself.

The engagement letter must document and confirm the auditor's acceptance of the appointment, andinclude a summary of the responsibilities of those charged with governance and the auditor, the scope ofthe audit and the form of any reports. The form and remaining content of audit engagement letters mayvary for each client, but they would generally include reference to the following.

The objective of the audit of financial statements.

Management's responsibility for the financial statements.

The scope of the audit, including reference to applicable legislation, regulations, or pronouncementsof professional bodies to which the auditor adheres.

The form of any reports or other communication of results of the engagement.

Assurance


The fact that because of the test nature and other inherent limitations of an audit, together withthe inherent limitations of any accounting and internal control system, there is an unavoidable risk thateven some material misstatement may remain undiscovered.

Unrestricted access to whatever records, documentation and other information is requested inconnection with the audit.

The auditor may wish to include in the letter the following items.

Arrangements regarding the planning of the audit.

Expectation of receiving from management written confirmation of representations made inconnection with the audit.

Request for the client to confirm the terms of the engagement by acknowledging receipt of theengagement letter.

Description of any other letters or reports the auditor expects to issue to the client.

The confidentiality of any reports issued, and, if relevant, the terms under which they can be sharedwith third parties.

Basis on which fees are computed and any billing arrangements.

When relevant, the following points could also be made.

Arrangements concerning the involvement of other auditors and experts in some aspects of theaudit.

Arrangements concerning the involvement of internal auditors and other client staff.

Arrangements to be made with the predecessor auditor, if any, in the case of an initial audit.

Any restriction of the auditor's liability when such possibility exists.

A reference to any further agreements between the auditor and the client.

Example: Audit engagement letter

To the Board of Directors or the appropriate representative of senior management

You have requested that we audit the financial statements of . . . . . . . . . . . . . . . which comprise the balancesheet as at . . . . . . . . ., and the profit and loss account, statement of recognised gains and losses, and cashflow statement for the year then ended, and a summary of significant accounting policies and otherexplanatory notes. We are pleased to confirm our acceptance and our understanding of this engagement bymeans of this letter. Our audit will be made with the objective of our expressing an opinion on the financialstatements.

Responsibilities of directors and auditors

As directors of ……………………. you are responsible for ensuring that the company maintains properaccounting records and for preparing financial statements which give a true and fair view and have beenprepared in accordance with the Companies Act 1994. You are also responsible for making available to us,as and when required, all the company's accounting records and all other relevant records and relatedinformation, including minutes of all management and shareholders' meetings. We are entitled to requirefrom the company's officers such other information and explanations as we think necessary for theperformance of our duties as auditors.

We have a statutory responsibility to report to the members whether in our opinion the financialstatements give a true and fair view, whether they have been properly prepared in accordance with theCompanies Act 1994 and whether the information given in the directors’ report is consistent with the



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financial statements. In arriving at our opinion, we are required to consider the following matters, and toreport on any in respect of which we are not satisfied:

Whether proper accounting records have been kept by the company and proper returns adequatefor our audit have been received from branches not visited by us

Whether the company's balance sheet and profit and loss account are in agreement with theaccounting records and returns, and

Whether we have obtained all the information and explanations which we consider necessary for thepurposes of our audit.

In addition, there are certain other matters which, according to the circumstances, may need to be dealtwith in our report.

We have a professional responsibility to report if the financial statements do not comply in any materialrespect with applicable accounting standards, unless in our opinion the non-compliance is justified in thecircumstances. In determining whether or not the departure is justified we consider:

Whether the departure is required in order for the financial statements to give a true and fair view,and

Whether adequate disclosure has been made concerning the departure.

Our professional responsibilities also include:

Including in our report a description of the directors' responsibilities for financial statements wherethe financial statements or accompanying information do not include such a description, and

Considering whether other information in documents containing financial statements is consistentwith those financial statements.

Assurance


Scope of audit

Our audit will be conducted in accordance with the Bangladesh Standards on Auditing issued by the ICAB,and will include such tests of transactions and of the existence, ownership and valuation of assets andliabilities as we consider necessary. We shall obtain an understanding of the accounting and internal controlsystems in order to assess their adequacy as a basis for the preparation of the financial statements and toestablish whether proper accounting records have been maintained by the company. We shall expect toobtain such appropriate evidence as we consider sufficient to enable us to draw reasonable conclusionstherefrom.

The nature and extent of our procedures will vary according to our assessment of the company'saccounting system, and may cover any aspect of the business's operations that we consider appropriate.Our audit is not designed to identify all significant weaknesses in the company's systems but, if suchweaknesses come to our notice during the course of our audit which we think should be brought to yourattention, we shall report them to you. Any such report may not be provided to third parties without ourprior written consent. Such consent will be granted only on the basis that such reports are not preparedwith the interests of anyone other than the company in mind and that we accept no duty or responsibilityto any other party as concerns the reports.

As part of our normal audit procedures, we may request you to provide written confirmation of certainoral representations which we have received from you during the course of the audit on matters having amaterial effect on the financial statements. In connection with representations and the supply of informationto us generally, we draw your attention to s 397A of the Companies Act 1994 under which it is an offencefor an officer of the company to mislead the auditors.

In order to assist us with the examination of your financial statements, we shall request sight of alldocuments or statements, including the chairman's statement, operating and financial review and thedirectors' report, which are due to be issued with the financial statements. We are also entitled to attendall general meetings of the company and to receive notice of all such meetings.

The responsibility for safeguarding the assets of the company and for the prevention and detection of fraud,error and non-compliance with law or regulations rests with yourselves. However we shall endeavour toplan our audit so that we have a reasonable expectation of detecting material misstatements in the financialstatements or accounting records (including those resulting from fraud, error or non-compliance with lawand regulations), but our examination should not be relied upon to disclose all such material misstatementsor frauds, errors or instances of non-compliance as may exist.

(Where appropriate) We shall not be treated as having notice, for the purposes of our auditresponsibilities, of information provided to members of our firm other than those engaged on the audit (forexample, information provided in connection with accounting, taxation and other services).

Once we have issued our report we have no further direct responsibility in relation to the financialstatements for that financial year. However, we expect that you will inform us of any material eventoccurring between the date of our report and that of the Annual General Meeting which may affect thefinancial statements.

We look forward to full cooperation with your staff and we trust that they will make available to uswhatever records, documentation and other information are requested in connection with our audit.

[insert additional information here regarding fee arrangements and billings as appropriate]



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This letter will be effective for future years unless it is terminated, amended or superseded.

Please sign and return the attached copy of this letter to indicate that it is in accordance with yourunderstanding of the arrangements for our audit of the financial statements.

XYZ & Co

Acknowledged on behalf of

ABC Company by

(signed)

. . . . . . . . . . . . . . .

Name and Title

Date

Interactive question 2: Engagement letters [Difficulty level: Exam standard]

Which three of the following will normally be contained within a letter of engagement?

Responsibilities of the auditors

Responsibilities of the directors

The staff assigned to the engagement

The scope of the audit

See Answer at the end of this chapter.

Assurance


Summary and Self-test

Summary

Auditors will often be invited to tender

for audits

When an audit firm accepts and engagement it must:

- Check the outgoing auditor’s removal was carried out properly

- Ensure its appointment is valid

- Set up Letter of Engagement

When an audit firm is invited to accept an engagement (usually as a result of a

tender), it must:

- Consider whether it is ethically barred from acting

- Consider whether it has resources available to undertake the engagement

- Obtain permission to contact the outgoing auditors, and do so

Clarifies terms of engagement Must be sent prior to first audit

Self-test

Now answer the following questions.

1 An audit firm must not accept an engagement if the client is not previously known to them.

True

False

2 If a prospective client declines permission to contact the previous auditors, the audit firm should:

A Report the client to the Companies RegistrarB Contact the previous auditors anywayC Accept the engagement provisionally and continue to request permissionD Consider carefully the reasons for refusal



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3 Complete the questions that should be in the diagram.

No

Approach by new audit

client

No need to followprofessional rules – theauditor can make own

decision

Yes

Yes

No

Write for all informationpertinent to the

appointment

Accept/rejectappointment

decision

Prospective auditorshould consider carefully

the reason for refusal

Give old auditor duenotice then decide on

basis of knowledgeobtained otherwise

Yes

Yes

No

No

Assurance


4 An engagement letter is only ever sent to a client before the first audit.

True

False

5 An engagement letter defines the scope of the engagement.

True

False

Now, go back to the Learning Objectives in the Introduction. If you are satisfied you have achieved theseobjectives, please tick them off.



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Technical reference

1 Accepting an engagement IFAC and ICAB Code of Ethics


Agree the terms in writing BSA 210.2

Send letter before first audit BSA 210.5

Contents of engagement letter BSA 210.6-8

Recurring audits BSA 210.10-11

Change in engagement BSA 210.12-19

Assurance


Answers to Self-test

1 False. However, if the client is unknown to the audit firm, they should seek references in respect ofkey personnel associated with the client, and must carry out customer due diligence (as they mustwith all clients).

2 D. Consider carefully the reasons for the refusal. It is helpful to the firm that the client allows thiscontact, as the firm needs to know if there is an ethical reason that would bar them from taking up theappointment. The auditors must not contact the previous auditors without permission as this wouldbe a breach of confidentiality.

3 Is this the first audit? Does the client give permission to contact the old auditor? Does the client give old auditor permission to reply? Does the old auditor reply with information relevant to the new appointment?

4 False. It should be re-issued if there is a change in circumstances.

5 True



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Answers to Interactive questions

Answer to Interactive question 1

The auditors should consider all these factors except whether the client is new to the firm. This isirrelevant in making the decision, although the firm may have to carry out additional procedures to get toknow the client if it is a new client. The auditors must consider if they are ethically qualified to act, whetherthey have sufficient resources and whether the client gives permission to contact the previous auditors (ifthis is declined, the auditors must consider carefully the reasons for the refusal). As the audit firm is also acommercial enterprise, it must consider whether taking on the engagement is commercially viable.

Answer to Interactive question 2

The specific staff assigned to the engagement will not normally be referred to (as the auditors will reservethe right to change their arrangement and the client should not have influence over assurance staff anyway).The other three items will normally be included.

Assurance


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