summary chapter6

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Summary: Chapter 6 – Audit responsibilities and objecties

September 2, 2009

Objective of conducting an audit of Financial Statements

• To issue an opinion on the fairness with which the Financial Statements present, in all

material respects, financial position, results of operations, and cash flows in conformity with

GAAP.

Management’s responsibilities

• To adopt sound accounting policies, maintain adequate internal control, and make fair

representation in Financial Statements.

Auditor’s responsibilities\

• To plan and perform the audit to obtain reasonable assurance (level of certainty that auditor

obtained at the completion of the audit – although it is high, but auditor is not a guarantor of

the correctness) about whether Financial Statements are free of material misstatement (the

combined uncorrected errors and fraud would have changed the decision of reasonable

person using the statements), whether caused by error or fraud (error – unintentional

misstatement, fraud – intentional , can be employee or management fraud).

• Professional skepticism is an attitude that includes a questioning in mind and critical

assessment of audit evidence. To accomplish in providing reasonable assurance, auditor

must plan and perform with an attitude of professional skepticism in all aspects of the

engagement.

• Illegal acts (other than fraud) – direct effect on specific account balances in the financial

statements and indirect effect. The auditor should identify the effects (direct or indirect)on

the financial statements, including adequacy of disclosure.

Financial Statement cycles – to divide the financial statements into smaller segments

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• Cycle approach – to keep closely related types of transactions and account balances in

the same segment.

Setting audit objectives – the most efficient and effective way to cconduct auits is to obtain some

combination of assurance for each class of transactions and for the ending balance in the related

accounts.

Management assertion – directly related to GAAP, as they are part of the criteria that management

uses to record and disclose accounting information in financial statements. There are 3 categories of

assertions;

1. Assertion about classes of transactions and events for the period under audit.

• Occurrence

• Completeness

• Accuracy

• Classification

• Cutoff

2. Assertion about account balances at period end

• Existence

• Completeness

• Valuation and allocation

• Right and obligation

3. Assertion about presentation and disclosure

• Occurrence & right and obligation

• Completeness

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• Accuracy and valuation

• Classification and understandability

Transaction-related audit objectives (to link the 6 general transaction-related audit objectives to

management assertions for classes of transactions).

o Occurrence – recorded transactions exist.

o Completeness – exiting transactions are recorded.

o Accuracy

o recorded transactions are stated at the correct amounts.

o Posting and summarization – recorded transactions are properly included in

the master files and are correctly summarized.

o Classification – transactions included in the client’s journals are properly classified.

o Cutoff (timing) – transactions are recorded on the correct dates.

Balance-related audit objectives (to link the 8 general balance-related audit objectives to

management assertions for account balance).

• Existence – amount included exist

• Completeness – exiting amounts are included

• Valuation and allocation

• Accuracy – amount included are stated at the correct amounts

•

Classification – amounts included in the client’s listing are properly classified

• Cutoff – transactions near the balance sheet date are recorded in the proper

period

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• Detail tie-in – detail in the account balance agree with related master file

amounts

• Realize value- assets are included at the amounts estimated to be realized

• Right and obligation

Presentation and disclosure-related audit objectives – identical to management assertion for

presentation and disclosure.

Relationship between audit objectives and the accumulation of the audit evidence – audit must

obtain sufficient and appropriate audit evidence to support all management assertions in the

financial statements. This is done by accumulating evidence in support of some appropriate

combination of transaction-related audit objectives and balance-related audit objectives. Also, audit

must follow an audit process, which is well-defined methodology for organizing and audit to ensure

that the evidence gathered is both sufficient and appropriate and that all required audit objectives

are both specified and met.

Audit process (accumulate sufficient appropriate evidence and minimize the cost of accumulating

the evidence).

1. Plan & design an audit approach

a. Obtain an understanding of the entity and its environment

b. Understand internal control and asses control risk

c. Assess risk of material misstatement

2. Perform tests of controls and substantive tests of transactions

3. Perform analytical procedures and test of details of balance

4. Complete the audit and issue an audit report

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