2016 BPP Passcard p7

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ACCA Passcards
Paper P7
Advanced Audit and Assurance
(International)
Passcards for exams from
1 September 2015 31 August 2016
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Professional Paper P7
Advanced Audit and Assurance (INT)
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Preface Contents
Welcome to BPP Learning Media's ACCA Passcards for Paper P7 Advanced Audit and Assurance (INT).
They focus on your exam and save you time.
They incorporate diagrams to kick start your memory.
They follow the overall structure of BPP Learning Media's Study Texts, but BPP Learning Media's ACCA
Passcards are not just a condensed book. Each card has been separately designed for clear presentation.
Topics are self contained and can be g rasped visually.
ACCA Passcards are still just the right size for pockets, briefcases and bags.
Run through the Passcards as often as you can during your final revision period. The day before the exam, try
to go through the Passcards again! You will then be well on your way to passing your exams.
Good luck!
Page iii
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Preface Contents
Page Page
1 International regulatory environments 10 Evaluation and review (iii): matters
for audit and assurance services 1 relating to specific accounting issues 79
2 Code of ethics and conduct 9 11 Group audits and transnational audits 89
3 Professional liability 19 12 Audit-related services and other
assurance services 97
4 Quality control 27
13 Prospective financial information 105
5 Obtaining and accepting professional
appointments 33 14 Forensic audits 111
6 Planning and risk assessment 39 15 Social, environmental and public sector
auditing 117
7 Evidence 51
16 Internal audit and outsourcing 127
8 Evaluation and review (i) 61
17 Reporting 139
9 Evaluation and review (ii): matters
relating to specific accounting issues 71 18 Current issues 151
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1: International regulatory environments

for audit and assurance services
Topic List This chapter looks at the regulator y environment in which

auditing takes place. Directors of companies are
encouraged to follow what has been set down as good
International regulatory frameworks for practice by various government committees.
audit and assurance
Those charged with governance need to ensure that
Audit committees internal controls perform effectively, as part of their
Internal control effectiveness statutory duties. Recent moves have sought transparency
by asking directors to repor t to shareholders on these
Money laundering issues.
Law and regulations
International regulatory Audit Internal control Money Law and

frameworks for audit and assurance committees effectiveness laundering regulations
International Regulatory Framework Example: UK Regulatory Framework

IFAC Auditors
EU requires member states to approve auditors.
IAASB IESBA
In UK RSBs, eg ACCA
Audit framework
International IESBA
Standards on Code of The FRC regulates corporate reporting in the UK, and
Auditing (ISAs) Ethics issued the UK Corporate Governance Code.
The FRC issues auditing standards, practice notes and
bulletins.

Audit committees
Advantages Disadvantages
Increased confidence in financial statements Selecting suitable independent non-executive
Frees executive directors to manage directors can be difficult
Clear reporting lines for internal audit/impartial Formality may dissuade reporting on
link for external audit judgmental issues
Creates culture opposed to fraud Cost of audit committee
Relation to external auditors Review of internal audit

Recommendation for appointment
Engagement terms and
remuneration
Responsibilities Review of internal controls
Discussion and liaison with auditor
Assess auditor's independence Review of financial reporting
Page 3 1: International regulatory environments for audit and assurance services

Codes of Best Practice for corporate governance are increasingly common worldwide. We focus on some UK
guidance, the UK Corporate Governance Code and the FRC's Guidance on Audit Committees.
UK Corporate Governance Code Key effects on auditors

Auditors must review compliance
Compliance with the UK Corporate Governance with code and statement of
Code is voluntary, but all UK listed entities must compliance/non-compliance.
report on how they have applied it (in the annual
report). The Code requires companies to
establish an audit committee.
This is known as the 'comply or explain' basis.
Listed entities must either comply with the Code, or Listed (UK FTSE 350)
explain why they have not done so. companies applying the Code
must put the external audit out
to tender at least every ten
years.

Directors Auditors
Internal controls and risk management are very important
in fulfiling directors' duties to the shareholders, which are:
As part of their audit:
To safeguard assets Ascertain what the controls are
To prevent and detect fraud
Review controls
Evaluate controls
Protect the investment of Determine audit approach based on controls
the shareholder Can also offer services:
Therefore directors: To review controls
Set up a system of internal control Report to shareholders
Review its effectiveness
Consider the need for internal audit as a function separate from audit


Money laundering is the process by which criminals attempt to conceal the tr ue origin and ownership of
the proceeds of their criminal activity, allowing them to maintain control over the proceeds and, ultimately,
providing a legitimate cover for their sources of income.
Money laundering is the attempt to conceal the or igin of 'dirty' money by making it look legitimate or 'clean'.
There are three stages:
1 Placement. This is the introduction or placement of the illegal funds into the financial system.
Layering. This is passing the money through a large number of transactions or 'layers', so that it becomes
2
very difficult to trace it to its original source.
3 Integration. This is the final integration of funds back into the legitimate economy.
Exam questions in this area may require you to identify that money laundering is taking place. This means using
professional skepticism.
Criminal offences in the UK UK Money Laundering Regulations

2007
Possessing, dealing with or concealing the Appoint a ML Reporting officer (MLRO)

proceeds of any crime Undertake Customer Due Diligence
Attempting, assisting or incitement to commit Report suspicion of money laundering
money laundering Maintain specific records
Failure of an individual in the regulated sector Put internal procedures in place to ensure
to report a suspicion money laundering continued compliance with regulations
Tipping-off Train staff in all these issues


The auditor's responsibilities for considering law and

regulations as part of their audit is discussed in ISA 250
Reporting non-compliance
Consideration of laws and regulations in an audit of financial Management
statements:
Non-compliance should be discussed with
Procedures
those charged with governance
... should plan so as to identify any examples of non-
compliance. Shareholders
Evidence Consider the impact on audit repor t
... should obtain sufficient appropriate audit evidence of modified opinion
compliance with laws and regulations with a direct effect
on material amounts and disclosures in the FS. Third parties
Document findings Is there a statutory duty?
... document non-compliance and the results of Is it in the public interest?
discussion with management, those charged with Obtain legal advice
governance and third parties.
Management are responsible for ensuring that laws and regulations are kept.
2: Code of ethics and conduct
Topic List
Much of this chapter is revision from your earlier auditing
Fundamental principles and studies.You must understand the principles-based
conceptual approach approach and be familiar with the guidance issued by
Independence ACCA and the IESBA.
Threats In the exam you are likely to be faced with scenarios
Safeguards where you have to apply your knowledge, identify ethical
threats and recommend appropriate safeguards.
Confidentiality
Conflicts of interest
Conflicts in application of principles
Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

and conceptual approach of interest application of principles
ACCA Code of Ethics and Conduct

The Code contains a conceptual framework, setting out five fundamental principles. This recognises that it is
impossible to define every single situation that may give rise to a threat, and to prescr ibe specific safeguards for
each. The ACCA Code has been based on the IESBA Code of Ethics for Professional Accountants.
Integrity Objectivity Professional competence and due care

To be straightforward To not allow bias, conflicts of
and honest in all interest or undue influence To maintain professional knowledge and skill at a
professional and of others to override level required to ensure that a client or emplo yer receives
business relationships. professional or business
judgements. competent professional services based on current
developments in practice, legislation, techniques and
act diligently and in accordance with applicable
technical and professional standards when providing
professional services.
Confidentiality Professional behaviour

To respect the confidentiality of information acquired as a To comply with relevant laws and regulations and to
result of professional and business relationships and, avoid any action that discredits the profession.
therefore, not disclose any such information to third
parties without proper and specific authority, unless
there is a legal or professional right or duty to disclose,
nor use the information for the personal advantage of the
professional accountant or third par ties.
Although not a fundamental principle, auditors must plan and perform the audit with professional skepticism. ISA 200
defines this as follows.
Professional skepticism is an attitude that includes a questioning mind, being aler t to conditions which may
indicate possible misstatement due to error or fr aud, and a critical assessment of audit evidence.
Page 11 2: Code of ethics and conduct


Independence
Independence of mind is the state of mind that Independence in appearance is the avoidance of facts and
permits the provision of an opinion without being circumstances that are so significant that a reasonab le and
affected by influences that compromise professional informed third party, having knowledge of all relevant
judgement, allowing an individual to act with integ rity, information, including safeguards applied, would reasonably
and exercise objectivity and professional scepticism. conclude a firm's, or a member's, integrity, objectivity or
professional scepticism had been compromised.
Objectives of this section of the ACCA code are to help
Financial Loans and Close business
firms and members to:
interests guarantees relationships
1 Identify threats to independence
Litigation Family and
2 Evaluate the significance of the threats indentifical
personal
Threats to independence
3 Apply safeguards, when necessary, to eliminate relationships
the threats or reduce then to an acceptable level Fees
Employment
Gifts/ connections with
Provision of Long
hospitality assurance client
multiple services association

Compliance with the fundamental principles may potentially be threatened by a broad range of circumstances:
Threats
Self-interest threat eg financial interests, incentive compensation arrangements, undue dependence on

fees
Self-review threat eg data being reviewed by the same person responsible for preparing it
Advocacy threat eg acting as an advocate on behalf of an assurance client in litigation or disputes with
third parties
Familiarity threat eg former partner of the firm being a director or officer of the client
Intimidation threat eg threat of dismissal or replacement, being pressured to reduce inappropr iately the
extent of work performed in order to reduce fees


Three categories of safeguards exist: those created by regulations, those created by the individual and those created in the
work environment.
Regulations Work environment

ACCA code/IESBA code
ISAs Recruitment procedures
Appropriate disciplinary processes
Leadership that stresses the impor tance of ethical
Individual behaviour
Complying with continuing professional Policies and procedures to implement and monitor the:
development requirements Quality of employee performance
Quality control of engagements
Keeping records of contentious issues and
decisions Using different partners and teams for the provision of
non-audit services to assurance clients
Using an independent mentor Discussing ethical issues with those charged with
Maintaining contact with legal advisers and governance
professional bodies Consultation with another professional accountant

Accountants owe their clients a professional duty of confidence, except in the following situations:
Obligatory disclosure Areas of controversy

If a member knows or suspects his client to have committed a
terrorist offence, an offence of treason or a money laundering Conflicts of interest
offence he is obliged to disclose all the information at his Insider dealing
disposal to a competent authority. In the UK, he is required to
report a suspicion of money laundering. Local legislation may
also require auditors to disclose other infr ingements.
Safeguards to consider
Voluntary disclosure Practice management issues, such

In certain cases voluntary disclosure may be made by the
as staff disclosure procedures
member where:
'Chinese Walls', but how successful
Disclosure is reasonably required to protect the member's are they?
interests Engagement letters
Disclosure is required by process of law
There is a public duty to disclose


Auditors should identify potential conflicts of interest as the y could result in the ethical codes being breached.
Conflicts between members' and clients' interests

Example: member competes directly with client.
Do not accept engagement
Conflicts between the interests of different clients

Safeguards include:
Example: clients in competition with each other.
Accept only if safeguards are sufficient Disclosure of the conflict to both clients
Separate engagement teams.

The general principles of the Code may conflict in some circumstances. This is because the Code is principles-
based (not rules-based). Rather than simply following a rule, auditors must ensure they are independent by
judging how best to apply the fundamental principles. This sometimes involves balancing the principles
against each other. For example:
Auditor encounters a fraud
Matters to consider where there is a
conflict:
Relevant facts
Conflict: duty to report vs Ethical issues involved
confidentiality Fundamental principles related to
the matter in question
Established internal procedures
Alternative courses of action
Take legal advice on whether
there is duty to repor t

Notes
3: Professional liability
The responsibility of the auditor is simple: to report to the

Topic List shareholders on the truth and fairness of the financial
statements.
Legal liability and negligence However, the auditor has subsidiary responsibilities and
liabilities: to the company (in contract) and potentially to
Restricting liability
third party users of the financial statements (in tor t).
Fraud and error There are some methods by which auditors may restrict
The expectations gap their potential liability.
The auditor's responsibilities for fraud and error are a
common area of public misunderstanding, and an
example of the expectations gap.
Legal liability Restricting Fraud and error The expectations

and negligence liability gap
AUDITOR LIABILITY Negligence A common law concept whereby a

person who has suffered loss due to another
In contract
and tort person's wrongful neglect is compensated
In criminal law: A successful claim for negligence requires:

Various insolvency issues 1 An enforceable duty of care to have existed
Insider dealing 2 The duty to have been breached
Money laundering issues
3 Loss to have resulted
In English (and many other) law(s) a contract for

Therefore, the auditor always owes the service implies a duty of care. (In practice, this
company (the client) a duty of reasonable care. means to adhere to ISAs.)
However, such a duty of care is only implied to the company.

Various other users of financial statements (individual shareholders , employees, prospective shareholders, tax
authorities, lenders, others) must seek to prove that is true in their case.
It is in the interest of auditors to a void liability The key case that provides insight on judicial
claims from a wide range of parties. thinking on this issue is Caparo Industries plc v
Dickman and Others 1990.
They can try to disclaim liability
They can make good use of quality control
The Caparo case
procedures to avoid problems Caparo Industries purchased Fidelity shares in the open
market. After the audited accounts were published they
If auditors are sued, they may choose to settle bought more and in the end, bought enough to tak e over
out of court. Fidelity. Caparo later alleged that the audited accounts
were misleading - a profit should really ha ve been a loss.
Cheaper
They argued the auditors owed a duty of care to investors
Less adverse publicity and potential investors. The House of Lords held that
auditors did not owe a duty of care to the pub lic at
Quicker
large deciding whether to buy shares.
Page 21 3: Professional liability


Professional indemnity insurance

ACCA requirement insurance against civil claims.
If >6 employees must have fidelity guarantee insurance too (covers fraud by firm)
Incorporation
Auditors can incorporate in UK, and can obtained stock exchange listings.
Limited Liability Partnerships (LLPs)

Many audit firms in the UK are LLPs. This provides limited liability but with the flexibility and tax structure of a
partnership.
Liability limitation agreements

Auditors have wanted limited liability agreements/liability caps for some time. This is part of the ongoing debate
over the future of audit.

Fraud is an intentional act by one or more An error is an unintentional misstatement.

individuals among management, those
charged with governance, employees or third
parties, involving the use of deception to Exam focus
obtain an unjust or illegal advantage.
Look for factors in questions which might indicate a
The directors are responsible for risk of fraud. These could include:
preventing and detecting fraud.
Management with poor integrity
ISA 240 states that by conducting an audit in Deficient internal control components
accordance with ISAs the auditor obtains Unusual transactions
reasonable assurance that FS are free from Financial reporting pressures
material misstatement whether caused by
Problems in gaining sufficient appropriate evidence
fraud or error.
Unique issues arising from systems


REPORTING FRAUD
Reporting to If the auditors suspect or detect any fraud (even if immaterial), as soon as they can they
those charged should tell:
with governance The appropriate level of management (employee fraud); or
Those charged with governance (management fraud).
Reporting to In terms of the audit opinion given on the financial statements, if the auditor feels that
members the financial statements are materially misstated as a result of fr aud, he should modify
his report accordingly.
If the auditor feels he has to withdraw from the engagement as a result of his disco very,
he should consider whether there is a prof essional or legal requirement to repor t to the
person who appointed him.
Reporting to When the auditors discover or suspect a fraud they should consider whether there is a
third parties duty to disclose.
The auditors would in practice seek legal advice to ensure that the y were not breaching
their ethical duties regarding confidentiality.

Expectations gap
Any gap between the expectations of users of audited financial statements, and those auditors.
Fraud is a common area where expectations diverge: it is sometimes incorrectly thought that the pur pose of the
audit is to detect fraud.
Logically, there are two ways of narrowing the gap:
Educating users Extending auditors'

responsibilities
Eg improve audit report's
explanation of audit Eg Requiring auditors to report
process on the adequacy on fraud
prevention controls

Notes
4: Quality control
Topic List Probably the most important consideration in practice

management is quality control. This chapter covers the
specific guidance in relation to quality pr actice and
Quality control: firm level procedures: ISA 220 Quality Control for an Audit of
Quality control: individual audit Financial Statements and ISQC 1 Quality control for
firms that perform audits and reviews of financial
statements, and other assurance and related services
engagements.
Quality control: Quality control:

firm level individual audit
Litigation against the firm

Disciplinary Safeguards
action by Bad publicity
ACCA Observing
Loss of the litigious client
acceptance
Loss of other clients
procedures and
not accepting
Loss of key
Client loss other than personnel 'difficult' clients
through litigation Instituting client
care procedures
to competitors
Key man
RISK OF BUSINESS insurance
FAILURE FOR Setting up a
AUDIT FIRM
system of quality
control
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ISQC 1.11
Quality control systems, policies and procedures are the responsibility of the audit fir m. Under ISQC 1, the firm has
an obligation to establish and maintain a system of quality control to pro vide it with reasonable assurance that:
(a) The firm and its personnel comply with professional standards and applicable legal and regulatory requirements
(b) The reports issued by the firm or engagements partners are appropriate in the circumstances
The entire business strategy of the firm should be

Human resources
driven by the need for quality.
Recruitment
Capabilities
Career development
Leadership responsibilities Compensation
Performance evaluation
Sufficient and appropriate experience Competence
Ability to carry out the job Promotion
Authority to carry out the job Estimation of personnel needs
Page 29 4: Quality control


Assignment of engagement teams Monitoring
This is the responsibilty of the engagement par tner. QC procedures must be:
Relevant
Engagement performance Adequate
Operating effectively
This involves: Complied with
Direction Corrective action includes:
Supervision
Review Remedial action with individual
Consultation Communication with training dept.
Resolution of disputes Changes in QC policies and procedures
Disciplinary action (if necessary)
The firm must also have standards as to what
constitutes a suitable quality control review.

ISA 220 Quality control for an audit of Engagement performance

financial statements applies the general
principles of ISQC 1 to individual audits. Direction. Informing staff about:
The work to do Potential problems
Nature of client Responsibilities
Individual audits
Supervision. Overall by engagement partner but
more practical supervision given within the audit
Leadership engagement partner team
responsible Review. Includes consideration of whether:
Adhering to professional Work complies with required standards
requirements (independence and Significant matters/conclusions documented
objectivity) Evidence is sufficient and appropriate
Acceptance/continuance of audit Consultation. Contentious matters must be
Appropriately discussed and properly reviewed
qualified/experienced staff Quality Control review. Evaluation of:
Engagement performance Significant judgements
Monitoring QC procedures Conclusions
Page 31 4: Quality control

Notes
5: Obtaining and accepting professional appointments
Topic List Exam questions could be set in the conte xt of a change

of auditor. This could involve:
Ethical issues
Change in auditor Practice management issues
Advertising, fees and tendering Be prepared to link issues in the syllab us when you are
Acceptance working through these passcards. Generally questions in
the exam are scenario-based and bring in lots of different
Agreeing terms
issues. Bear in mind that the professional appointment
may be for a service other than audit.
Change in Advertising, fees Acceptance Agreeing

auditor and tendering terms
Percieved not to Client falls below

be value for money exemption limit
Perceived to be
too high Interested in whether
price is negotiable Size
Audit fee
Clients business
expands beyond
auditors capacity
Not competetive
CHANGE IN AUDITOR
Auditor does not

seek re-election Personality: client falls
out with the auditor
Disagreement with
the client
Auditor rotation: relationship
Another client is ended for independence
in competition Auditor has other ethical
resons
reasons

Advertising Tendering
The medium used should not reflect Approach by prospective client
adversely on the member, ACCA or the
accountancy profession. Firm considers if it wants the work
Consider practical issues

Fees
No prescribed basis Fees
Estimate work involved/fees
Percentage/contingency only if unrelated to Staff
audit Location
Quoting too low a fee may introduce threat to
competence and due care Obtain further details from client
Fair and reasonable re:
Seniority of staff Work required Background information
Time
Risk/responsibility Prepare proposal
Page 35 5: Obtaining and accepting professional appointments


ISQC 1 requires that a fir m carry out the following steps when deciding whether to accept an audit:
Step 1 Obtain relevant information (eg from previous auditors, from other firm personnel)
Step 2 Identify relevant issues (eg client's integrity, firm's competence to carry out engagement)
Step 3 If resolvable issues exist, resolve them and document that resolution
Money laundering
Firms must carry out 'Know Your Client' (KYC) procedures in order to comply with Anti-Mone y Laundering
regulations. Examples include obtaining information such as the source of the client's funds , its business model,
and expected patterns of business.
Politically exposed persons (PEPs)

Being involved with PEPs may be risky for the firm the firm must have risk management procedures to identify
potential PEPs.

It is vital to agree terms with a client so that there is no misunderstanding as to what the ser vice will be, to prevent problems later on.
This is usually achieved through the engagement letter.
Items included in engagement letter Books/documents

Working papers are owned by the
The objective/scope of the audit (law/standards) auditor. The client has no right of access
Confirmation that preconditions for an audit exist to them.
Confirmation of understanding of respective responsibilities
The form of any reports/communications In a new audit situation, the old auditors
Inherent limitations (risk of undiscovered misstatements) may grant the new auditors access to
Arrangements regarding planning of the audit their papers, however they are not yet
Expectations in relation to representations required to do so by law or professional
Basis on which the fees are computed/billing arrangements regulations. However, UK law is
Arrangements re. involvements of IA/3P in audit changing to give new auditors access by
Any restriction of the auditors' liability where possible right.
Reference to further agreements between client/auditor
ISA 210 requires that auditors do not accept the engagement where wr itten representations are not provided by management
on their responsibilities.
Page 37 5: Obtaining and accepting professional appointments

Notes
6: Planning and risk assessment
Topic List Planning is a key skill for an auditor. Auditors must plan
their audit so as to perform it in an effective manner. Two
key areas in planning are:
Methodologies Materiality
Materiality Risk
Risk Exams regularly include scenarios where you need to
identify either business or audit risks, so you need to
Analytical procedures
have a thorough understanding of this area.
Methodologies Materiality Risk Analytical

procedures
ISA 315.15 Business risk approach
The auditor shall obtain an understanding of Recognises that most business risks will eventually have
whether the entity has a process for identi- an effect on the financial statements
fying business risks relevant to financial Allows the auditor to gain a g reater understanding of the
reporting objectives and deciding about business and therefore increases the chance of
actions to address those risks. identifying risks of material misstatement
Enables auditor to give constructive business advice
Examples of Risks of material

business risks misstatement
Inventory values (IAS 2)
Economic pressures causing reduced unit sales and eroding margins Going concern
Customer dissatisfaction related to inability to meet order requirements Going concern
Economic pressures resulting in demands for extended credit Receivables' recoverability

'Top down' approach Impact of approach on procedures

Controls testing: Auditor concentrates on more
Business high level controls used by directors to manage
risks.
Analytical procedures: Higher use than in
traditional audit (consistent with desire to
understand the entity).
Financial statements Detailed testing: Reduced due to the two factors
above but not eliminated.
The approach starts with the business and its
Top down approach
objectives and works back down to the financial
statements. Advantages
Added value to client as business focused
Audit efficiency/cost is reduced
Focuses on corporate governance
Lower engagement risk as the auditor
understands the client's business
Page 41 6: Planning and risk assessment


procedures
Systems audit
Auditors always ascertain and evaluate the systems of REMEMBER
an audit entity. If auditors conclude systems are: Substantive testing can
Effective, they will undertake tests of controls and never be eliminated entirely
aim to reduce substantive testing from an audit.
Ineffective, they will not test controls and will
undertake detailed substantive testing instead
Transaction cycles approach:

When auditors take a cycles approach they
test the transactions which result in the
Exam focus income statement. They will trace transactions
If auditors have judged that systems at a client are through the system from order to payment.
ineffective, they may choose the transactions approach
to the audit so that the tr ansactions which have gone
through the poor systems can be substantiated.
Directional testing is an approach to testing used within a substantiv e approach. It is a methodology which
gives assurance using the double entry accounting system.
Primary test also gives comfort on

Type of account Purpose of primary test Assets Liabilities Income Expenses
Assets Overstatement (O) U O O U
Liabilities Understatement (U) U O O U
Income Understatement (U) U O O U
Expenses Overstatement (O) U O O U
Summary
The auditor will choose the audit approach which best fits the situation at the client, b ut may use a combination
of the approaches discussed here. Therefore, directional testing can be used in a cycles or balance sheet
approach, an analytical approach can be used with a b usiness risk approach, etc.


procedures
For you to consider

You have been asked to plan the audit of Hugues Co, a listed construction company. It has been an audit
client of your firm for a number of years. You have learnt the following:
The company issued a profits warning for the year three months prior to the year-end. Shareholders are
accustomed to receiving two dividends annually, after interim and final results are published. The company has
been badly affected by the general, poor economic condition in the countr y. Revenue on houses already built
is significantly down and advance orders on proposed new builds are also down. However, despite slow
movement in house sales nationally, the company recently purchased rights to buy land in the capital city
where prices for land continues to rise.
Identify audit risks arising from the information you have been given.
(Some factors are given overleaf. You should note it is not intended to be a comprehensiv e answer to the
question, however.)
Relevant factors
General matters: The construction industry is subject to volatility and is therefore likely to be particularly hard
hit if economic conditions are poor. Given shareholders expectations re. dividends, this could lead to profit
manipulation by creative accounting to give the 'best-case' picture in the accounts. The auditors may want to
render materiality with regard to profit/loss quite low, particularly if the result is marginal. The issue of going
concern should also be considered if revenue is low, profits have been affected and if this has affected or will
adversely affect the share price.
Inventory: The fact that revenue on already built homes is low may mean that the company has high levels of
inventory, which should be investigated for obsolescence. The general increase due to poor economic
conditions might hide specific and different selling problems with individual sites. Inventory affects profit.
Land: How should the transaction be accounted for? Timing of purchase: commitment or asset? Do the r ights
themselves have value? How have these transactions been accounted for before? Has the company entered
into such transactions before or is it designed to affect the accounts?


procedures
Performance materiality is the amount or amounts set by the auditor at less than the materiality for the
financial statements as a whole to reduce to an appropriately low level the probability that the aggregate of
uncorrected and undetected misstatements exceeds materiality for the financial statements as a whole or in a
particular class of transaction, account balance or disclosure.
Materiality is an expression of the relative significance or importance of a particular matter in the context of
the financial statements as a whole.
Criteria of Materiality
An item might be material due to its:
(a) Nature eg transactions related to directors, such as remuneration or contracts with the company.
(b) Value eg land with a value which comprised three-quarters of the asset value of the company.
(c) Impact eg a proposed journal which is not material in itself could convert a profit into a loss.
Exam focus
In P7, calculating materiality will never get many marks by itself it is likely to be startingpoint for discussing
other issues from the question scenario.
In order to calculate a level of

Rules on materiality planning materiality, the
Materiality is judgemental, but a number of generally accepted rules exist. auditors will often take a
An example is the range of percentage values commonly applied. When range of values and use an
assessing materiality in exam questions calculate the relevant matter as a average or weighted average.
percentage of the relevant indicator (profit, revenue, total assets) and Profit before tax
assess whether it falls within these ranges. 5%
Gross profit
Problems with materiality 1/2-1%
Prescriptive rules will not always be helpful when assessing mater iality. Revenue
There is a risk that a significant matter falls outside the boundaries of the 1/2-1%
rules and there is a mater ial misstatement in the financial statements. Total assets
1-2%
Net assets
2-5%
Profit after tax
5-10%


procedures
Overview of revised approach Audit risk is the risk that the auditors give an
inappropriate opinion on the financial statements. It is made
Perform risk assessment procedures (ISA 315) up of inherent risk, control risk and detection risk.
Inherent
Affecting client as a whole (management
Assess the risk of material misstatement (ISA 315)
integrity, nature, IT, industry factors, pressures)
Affecting individual balances (complex
accounts, assets at risk, staff)
Respond to assessed risk (ISA 330)
Control
Nature of controls
Perform further audit procedures (ISA 330) Attitude to controls
Detection
Evaluate audit evidence obtained (ISA 330) Chance of discovering misstatements

Business risk is the risk arising to a Examples of risks

business from being in operation.
Cash flow issues
Overtrading
Capital issues
Going concern
Breakdown of accounting systems
Financial risk Compliance risk

Credit risk
Loss of key supplier/customer
Risk arising from the Risk that arises from Loss of key employees
financial activities or non-compliance with Physical disasters
financial consequences laws and regulations. Poor brand management
of an operation. Operational risk Breach of law/regulation: fines
Risk arising with Tax problems: fines
regard to operations. Environmental law: fines/compensation
It is vital that you do not confuse audit r isk with business risk


procedures
In an analytical approach, this area is concentr ated

Analytical procedures on more highly.
Analytical procedures consist of comparing items
expected to have a relationship. Analytical Analytical approaches are commonly taken on:
procedures can be used in three ways during an Business risk approach assignments
audit: Reviews
Risk assessment procedures Assurance engagements
Substantive procedures Prospective financial information
Overall review
Techniques include:
Analytical approach
Is taken in situations where: Reasonableness Comparison Trend

Auditor expects little change in figures checks analysis
Auditor has high degree of knowledge of
expected changes
7: Evidence
Topic List Auditors need to obtain evidence in order to reach their

audit opinion. This evidence should be:
Sufficient (a measure of quantity)
Revision: audit evidence Appropriate (a measure of quality)
Related parties Some issues in the financial statements can be difficult
to obtain evidence about eg, related par ty transactions.
Written representations Transactions may not be recorded, and only
Using the work of an auditor's expert management have details of who the related par ties are,
therefore auditors will use written representations as
Using the work of internal audit evidence. Sometimes the auditors will use evidence
created by third parties (internal audit or experts).
Revision: audit Related parties Written Using the work Using the work
evidence representations of an auditor's expert of internal audit
Auditors seek audit evidence about Audit procedures

the assertions (the representations Inspection of assets/documentation
made by the directors in the financial Observation
statements). These are: Enquiry
Confirmation
Accuracy Recalculation
Completeness Reperformance
Cut-off Analytical procedures
Allocation Audit automation tools
Classification (understandability)
Occurrence Auditors must gain sufficient, appropriate audit evidence.
Valuation
Existence Sufficient Appropriate
Rights and obligations
Sampling (statistical or not) Source?
Materiality Oral?
Risk Written?
Related party
A related party is either:
(a) A related party as defined in the applicable financial reporting framework; or
(b) Where the applicable financial reporting framework establishes minimal or no related par ty requirements:
(i) A person or other entity that has control or signiicant influence , directly or indirectly through one or
more intermediaries, over the reporting entity;
(ii) Another entity over which the reporting entity has control or significant influence, directly or indirectly
through one or more internediaries; or
(iii) Another entity that is under common control with the repor ting entity through having:
Common controlling ownership;
Owners who are close family members; or
Common key management.
Page 53 7: Evidence
Auditors shall inquire of management regarding:

(a) The identity of the entity's related par ties.
(b) The nature of the related party relationships.
(c) Any transactions with the related parties during the period, and if so,
their type and purpose.
(d) Controls to identify, account for and disclose related par ty relationships
and transactions.
(e) Controls over authorisation and approval of significant related party
transactions and transactions outside the normal course of business.
Issues Evidence
Inherent difficulties of (self) detection There are two key problems with regard to evidence:
Not even necessarily evident to management May be limited
Transactions not necessarily charged for (not May be created by the related party
processed)
Chance of concealment by management Sources of evidence
Complex corporate structures Minutes of meetings of those charged with
Responsibility of management to identify related governance
parties Analytical review of transactions
Materiality judged in relation to related par ties Confirmation of loans (eg who is guar antor)
not entity Written representations
Correspondence with solicitors
Page 55 7: Evidence
ISA 580.9
The auditor shall request written representations from management with appropr iate responsibilities for the
financial statements and knowledge of the matters concerned.
General representations Specific representations
Management fulfilled responsibility for preparation Due to provisions of other ISAs

and presentation of FS To support audit evidence
FS prepared and presented in accordance with Where sufficient appropriate audit evidence
applicable FR framework cannot be obtained independently
All relevant information provided
All transactions recorded and reflected
Description of management's responsibilities
ISA 620 Using the work of an auditor's expert, distinguishes between two types of expert that may be used by the auditor:
Auditor's expert An individual or organisation with expertise is an area outside auditing or accounting. An auditor's
expert may be an internal expert (ie belong to the auditor's fir m or network firm) or an external expert.
Management's expert An individual or organisation with expertise in an area outside auditing or accounting who
will assist the entity in the preparation of the financial statements.-
ISA 620 identifies four issues The following might require evidence from an expert:
for an auditor to assess. Asset valuation, determination of quantity/ completion of assets or of specialist
1 Whether it is amounts (eg pensions accounting)
necessary to use an
auditor's expert The auditor must consider the professional certification of the expert, his reputation,
2 Competence and his capacity in relation to the entity (ie emplo yee or contracted third party)
objectivity of the
auditor's expert Evaluate the expert's written instructions to assess: objectives/ scope of work,
general outline of matters covered, intended use of information, extent of the
3 The auditor's expert's access to information and files. Determine whether to include expert in
expert's scope of
work risk discussion.
4 The actual work of Consider: the source data used, assumptions and methods used, the timing of the
the auditor's expert
work, the results in the light of the auditor's o verall knowledge of the business.
Page 57 7: Evidence
ISA 610 Using the work of internal auditors highlights

three important things for external auditors to Using work of internal audit
consider when making use of the w ork of internal
audit in the audit. Have the internal auditors sufficient and adequate
training to carry out the work?
1 Understanding/assessing the role and scope of
internal audit in the organisation Are the internal auditors competent?
2 Timing of liaison and co-ordination Does internal audit adopt a systematic and
disciplined approach?
3 Evaluating specific audit work Is the work of assistants properly supervised,
reviewed and documented?
Steps one and two will be carried out as part of the
process of identifying and assessing the risks of Are the conclusions reached appropriate given the
material misstatement. evidence obtained?
If the auditors decide to make use of the work of Are reports produced consistent with the work
internal audit, they must evaluate that work to ensure undertaken?
that it is sufficient and appropriate for them to base Have any unusual matters discovered by the
their opinion on. This is step three. The table adjacent internal audit department been resolved?
gives examples of questions which they might ask.
Direct assistance
The use of internal auditors to perform audit procedures under
the direction, supervision and review of the external auditor
ISA 610 allows the use of direct assitance. This depends on three key issues:
The amount of judgement involved (cannot be used where significant judgements needed)
Risk of material misstatement (cannot be used if higher r isk area)
The internal auditors' independence and their competence (cannot audit their own work)
The external auditor then directs, supervises and reviews the work performed in direct assistance.
The external auditor must communicate the nature and extend of the use of direct assitance to TCWG.
Page 59 7: Evidence
Notes
8: Evaluation and review (i)
Topic List Most of this chapter is revision from your previous

auditing studies. Any of the topics included here could be
part of a scenario question. Alternatively, these areas
Revision: Review procedures could form relatively easy marks in the exam.
Revision: Opening balances and
comparatives
Revision: Other information
Revision: Subsequent events
Revision: Going concern
Revision: Revision: Opening Revision: Revision: Revision:

Review procedures balances and comparatives Other information Subsequent events Going concern
Overall review Analytical procedures

Should be performed at end of audit
Exam focus
Auditors should carry out a review of the financial Accumulating and evaluating misstatements
statements to, in conjunction with evidence already Auditors must consider:
obtained, draw an audit conclusion. Aggregate of known misstatements
Whether circumstances indicate that there may
be other misstatements (which are not known
Compliance with accounting regulations/examine
about)
accounting policies
Auditors then consider if these uncorrected
Review for consistency and reasonableness
misstatements are material.
Presentation
Disclosure All uncorrected misstatements are communicated to
New factors included TCWG.

Opening balances are those account balances that exist at the beginning of the per iod, reflecting the effect
of transactions of the preceding period and its accounting policies.
Auditors shall obtain sufficient appropriate audit Incoming auditors

evidence that:
Opening balances correctly b/f Testing opening balances can be difficult for new
auditors because they did not audit the pr ior year
They do not contain misstatements mater ial to
figures. They should:
current year figures
Ascertain whether prior report was unqualified
Accounting policies are consistently applied or
changes adequately disclosed Undertake discussions with management about
opening figures
Undertake substantive procedures on opening
figures if concerns arise
Page 63 8: Evaluation and review (i)


Corresponding figures are the corresponding amounts and other disclosures from the preceding per iod
which are part of the current year's financial statements. They are distinguished from comparative
financial statements which the auditor's report should refer to separately if they exist.
Continuing auditors Incoming auditors: audited corresponding

figures
Check balances b/f correctly
Responsible for corresponding figures as par t of
If unresolved prior year problem is material to
CY accounts
CY, qualify report due to opening balances and
Procedures as for continuing auditors
comparatives
If material to CY but opening balances are not Incoming auditors: unaudited corresponding
affected, report should refer to comparatives figures
Modification
Emphasis of matter paragraph Ensure there is clear disclosure that the
corresponding figures are unaudited
Should carry out procedures as for continuing
auditors, as far as possible

Other information Auditors should always ensure that the other information
Financial and non-financial information other than does not contain:
the financial statements and the auditor's repor t, A misstatement of fact
which is included, either by law, regulation or An inconsistency with the audited financial statements
custom, in a document containing audited
financial statements and the auditor's repor t On discovering a material inconsistency, the auditor should
thereon. determine whether the audited financial statements or other
information needs to be revised:
Example
If financial statements need revising, then modify
auditor's report (ISA 705)
Financial summaries/highlights
If other information needs revising, include other matter
Employment data
paragraph in the auditor's repor t.
Report by management/directors on operations
Planned capital expenditures If a material misstatement of fact is discovered in the other
Financial ratios information (but does not conflict with information in the
Names of officers/directors financial statements), the auditor shall discuss this with
Selected quarterly data management.


Subsequent events Prior to auditor's report being signed

Auditors shall perform procedures designed to obtain
... are events which occur between the date of sufficient appropriate audit evidence that subsequent
the FS and the date of the auditors' repor t, and events requiring adjustment or disclosure in the financial
facts that beome known to the auditor after the statements have been identified. These are likely to
date of the report. include:
There are two types of event (IAS 10): Audit procedures

Provide further evidence of conditions that
existed at the period-end (adjusting events). Enquiries of management
Indicative of conditions which arose (Status of judgemental issues, new
subsequent to the period-end (non-adjusting commitments, unusual accounting
events). adjustments etc)
Reading minutes of meetings
Reviewing most recent financial information
After the auditor's report has been signed

Before FS issued After FS issued
Auditors do not have any obligation to perform Auditors have no obligation to perform procedures or
procedures or make enquiries regarding the make enquiries regarding the financial statements
financial statements after the date of their repor t. after they have been issued.
If material subsequent events become known, the When management revise the financial statements the
auditor shall: auditor shall:
(a) Discuss the matter with management and (a) Carry out necessary audit procedures
where appropriate, those charged with (b) Review steps taken by management to ensure
governance anyone in receipt of the previously issued financial
(b) Determine whether the financial statements statements is informed
need amendment and, if so, (c) Extend the audit procedures to the date of the
(c) Inquire how management intends to address new auditor's report
the matter in the financial statements (d) Issue a new report on the revised financial
If appropriate, the auditors should extend their statements
procedures and issue a new audit report. The amended auditor's report should contain an
emphasis of matter or other matters par agraph.


Going concern assumption

Under the going concern assumption, an entity is viewed as continuing in business for the foreseeable future.
General purpose financial statements are prepared on a going concer n basis, unless management either
intends to liquidate the entity or to cease oper ations, or has no realistic alter native but to do so.
Auditor responsibilities Risk assessment

The auditor's responsibility is to obtain sufficient When performing risk assessment procedures, the
appropriate audit evidence about the auditor shall consider whether there are events or
appropriateness of management's use of the going conditions that may cast significant doubt on the entity's
concern assumption in the preparation and ability to continue as a going concern (examples given
presentation of the financial statements and to below). If management has performed a preliminary
conclude whether there is a mater ial uncertainty assessment of the entity's ability to contin ue as a going
about the entity's ability to continue as a going concern, the auditor shall discuss it with management.
concern. The auditor shall remain aler t throughout the audit for any
factors which would indicate problems.
Examples Evaluation
The auditor shall evaluate management's assessment of the
Financial entity's ability to continue as a going concern.
Net liabilities
Fixed term borrowing approaching maturity Additional audit procedures
without realistic prospect of renewal/repayment When events or conditions have been identified that may
Negative operating cash flows cast significant doubt on the entity's ability to contin ue as a
Adverse financial ratios going concern, the auditor shall obtain sufficient appropr iate
Substantial operating losses audit evidence to determine whether or not a mater ial
Inability to finance new products uncertainty exists through performing additional audit
Operating procedures. Examples include:
Loss of key management/markets/franchise Analysis and discussion of cashflow/profit/other
Labour difficulties/supply shortage forecasts/interim FS with management
Emergence of highly successful competitor Read minutes of shareholder meetings
Other Make enquiries of lawyers regarding legal claims
Major legal proceedings/non-compliance Reading terms of debentures/loan agreements


Reporting
Adequate disclosure Adequate disclosure
Emphasis of matter paragraph Qualified/adverse opinion:
Without qualifying our opinion we draw attention to Going concern appropriate, but material uncertainties
Note X in the financial statements which indicates not adequately disclosed Qualified/adverse
that the company incurred a net loss of ZZZ dur ing opinion
the year ended December 31, 20X1 and, as of that Going concern not appropriate Adverse opinion
date, the company's current liabilities exceeded its If there are multiple material uncertainties that are
total assets by YYY. These conclusions, along with significant to the financial statements as a whole , the
other matters as set forth in Note X, indicate the auditor may consider it appropriate to express a
existence of a material uncertainty that may cast disclaimer of opinion.
significant doubt about the company's ability to
continue as a going concern.
9: Evaluation and review (ii): matters relating

to specific accounting issues
Topic List In the exam you will be expected to evaluate the issues
surrounding items in FS from an audit perspectiv e. The
key matters you should consider are:
Fair value Materiality Relevant accounting standards
Inventory Risk Audit evidence to be sought
Tangible and intangible non-current Much of this will depend on the par ticular issues raised in
assets a question. This chapter gives some pointers in terms of
Financial instruments accounting standards/audit procedures. Remember any of
the financial reporting areas you have previously studied
Foreign exchange rates could come up in this exam.
Fair value Inventory Tangible and intangible Financial Foreign

non-current assets instruments exchange rates
IFRS 13 Fair value measurement contains extensive

Accounting estimate guidance on measuring FVs. There is a risk that this
has not been followed.
An approximation of a monetary amount in the
absence of a precise means of measurement. The Audit procedures
term is used for an amount measured at fair value
where there is estimation uncer tainty as well as for
Refer to the market where FV=market value
other amounts that require estimation.
Use the work of an expert
Consider management's past history of
The auditor is required to assess the entity's process
carrying out its stated intentions with respect
for determining accounting estimates including fair
to assets or liabilities
value measurements and disclosures and the related
control activities and to assess the ar ising risks of
Review written plans and other
material misstatement. documentation
Consider management's stated reasons for
Once the auditors have assessed the risks associated choosing a particular course of action
with determining fair value, they should design further Consider management's ability to carry out a
procedures to address those risks. particular course of action

Standard costs
Is valuation basis reasonable?

Purchase invoices
Price index
Enquire
Is calculation correct?
Check maths
Consider if reasonable
Verify to invoices, personnel records, nominal
expense accounts
Use analytical procedures?
Page 73 9: Evaluation and review (ii): matters relating to specific accounting issues

Main accounting aspects of IAS 16 Property, plant IAS 36 Impairment of assets is relevant to the valuation
and equipment are assumed knowledge from earlier assertion.
studies.
Key issues Audit procedures
Depreciation Identify any indicators of impairment

Disposals Review calculation of recoverable amount
Revaluations Assess reasonableness of cash flows used in
value in use calculation
Impairments
Consider the use of an expert to corroborate the
net realisable value
Check that any impairment losses recognised are
correctly written-off
Goodwill (IFRS 3) Development costs (IAS 38)

Positively purchased goodwill should be The criteria for allowing development costs to be capitalised are:
capitalised as an asset. Internally Technically feasible
generated goodwill (including brands)
Intention to complete or sell
should not be capitalised.
Ability to use or sell
Existence of a market
Audit tests Availability of resources
Prepare analysis of movements Expenditure can be measured reliably
Obtain any third party
confirmations Audit tests reflect these criteria:
Review specialist valuations Check accounting records
Inspect purchase documentation Review market research
Confirm authorisation Review budgets/forecast cash
Review sales returns for income Check amortisation
Identify any indicators of
impairment In other words, ensure that the criteria are met and disclosure is
Review calculation of recoverable adequate.
amount

Financial instruments
Classification Valuation
Amortised cost Utilise information from 3rd party, eg a broker
Fair value
Gather data and develop own estimation model
Existence Engage an expert
Examine certificates of title Check basis is appropriate per IAS 32/
Third party confirmations IFRS 7/IFRS 9
Transfer documents
Purchase invoices/contracts Investment income
Sales invoices Ensure only recognised when appropriate
Other aspects Completeness/occurrence/measurement
Consider business risk (management may not Check all income received
fully understand it) Review for unusual entries
The more complex the financial instruments, the
greater the need for professional skepticism

The presence of foreign exchange is likely to increase audit risk.
Individual company
Risk is that IAS 21 The effects of changes in foreign exchange rates is not complied with.
Audit procedures:
Check monetary items in SOFP are translated at Closing Rate
Check non-monetary items translated at Historical Rate
Check SoPLOCI items translation at Historical Rate
Groups
If a parent has a different functional currency from its subsidiaries, then:
Check that assets & liabilities translated at Closing Rate
Check that income statement items translated at Historical Rate (or average rate)
Check that exchange differences are reported in equity.
Notes
10: Evaluation and review (iii): matters

relating to specific accounting issues
Topic List In the exam you will be expected to evaluate the issues
surrounding items in FS from an audit perspectiv e. The
key matters you should consider are:
Income Materiality Relevant accounting standards
Liabilities Risk Audit evidence to be sought
Expenses Much of this will depend on the par ticular issues raised in
a question. This chapter gives some pointers in terms of
Disclosure and other issues
accounting standards/audit procedures. Remember any of
the financial reporting areas you have previously studied
could come up in this exam.
Income Liabilities Expenses Disclosure and

other issues
Revenue
Accounting treatment found in IFRS 15 Revenue from contracts with customers. Revenue is often audited by
analytical procedures as it has predictable relationships and there is generally lots of available information
about it.
ISA 240 states that auditors must presume there is a risk of fraud in revenue recognition.
IFRS 15 covers both short- and long-term contracts. Revenue is recognised when control is transfered = when
performance obligations are satisfied.
When performance obligations satisfied at a point in time , procedures:
Substantive procedures
Analytical procedures, eg comparison with:
Prior year, budgets
Related figures, eg inventory and receivables
Similar industry information
Performance obligations may be satisfied over time (eg a construction contract).

Recognise revenue as performance obligations are satisfied. Measured by input methods (entity's inputs, eg labour hours),
or output methods (eg survey of performance completed).
Procedures included:
Obtain calculation of revenue recognised and recalculate.
Assess whether the basis of calculation is comparable with prior years.
Confirm that method for measuring progress for performance obligations is appropriate and reasonable in line with IFRS 15.
Verify figures in calculation, eg:
Total contract price to original contract
Revenue to amount of performance completed to date
Performance completed to date to input methods
Receivables to sales invoice
Payments on account to remittance advices
Government grants and assistance IAS 20
Revenue Capital
Check classification Accounting basis comparable to PY?
Agree to documentation (eg letter/application) Discuss with directors
Agree receipt to bank statements Agree any transfers between SoFP and SoPLOCI (This
should be like testing depreciation.)
Page 81 10: Evaluation and review (iii): matters relating to specific accounting issues

other issues
Deferred tax is the tax attributable to temporary differences, which are differences between the carrying amount of
an asset or liability in the statement of financial position and its tax base .
Deferred tax
Obtain a copy of the deferred tax workings and the tax computation
Check the arithmetical accuracy of the deferred tax working
Agree the figures used to calculate timing differences to those on the tax computation and the financial
statements
Consider the assumptions made in the light of y our knowledge of the business and any other evidence
gathered during the course of the audit to ensure reasonableness
Agree the opening position on the deferred tax account to the pr ior year financial statements
Review the basis of the provision to ensure:
It is in line with accounting pr actice under IAS 12 Income taxes
It is suitably comparable to practice in previous years
Any changes in accounting policy have been disclosed
A provision is a liability of uncertain timing or amount, to be settled b y Audit procedures

the transfer of economic benefits. A contingent liability is a possible The auditors have to assess the
obligation that arises from past events and whose existence will be treatment of provisions against the
confirmed only by the occurrence/non-occurrence of one or more events adjacent criteria. This will involve
not within the entity's control, or a present ob ligation arising from past considering such evidence as:
events that is not recognised because it is not probab le that an outflow
Reviewing correspondence
of resources will be required or the amount cannot be measured reliab ly.
A contingent asset is a possible asset that arises from past events to Discussion with the directors
be confirmed by future events not wholly within the entity's control. Referring to comparable past
events
A provision should be recognised as a liability when:
Seeking verification from
An entity has a present obligation (legal or constructive) from a
solicitors
past event
Recalculating provisions for
It is probable that an outflow of resources embodying economic accuracy
benefits will be required to settle it
Considering the nature of the
A reliable estimate can be made of the ob ligation business

other issues
IFRS 2 Share-based payment
Equity-settled Cash-settled equity-settled

Choice of or
cash-settled
DR asset/expense DR asset/expense
CR equity CR liability
Transactions recognised when goods/services obtained/received

Transactions measured at fair value
IAS 19 Employee benefits

Audit procedures
Types of plans
Defined benefit Review actuary's report

Defined contribution More complex
Accruals basis Assess reasonableness of
Actuarial assumptions to
No actuarial assumptions assumptions
estimate future liabilities
Review board minutes post year
end
Statement of financial position Statement of profit or loss
Liability = Expense = total of:
PV of defined obligation at SoFP date Current service cost
+ Actuarial gains/- actuarial losses Interest
Past service cost not yet recognised Expected return on any
Fair value of assets at SoFP date plan assets
Actuarial gains/losses
Past service cost
Effect of any
curtailments/settlements

other issues
Segmental information Earnings per share
Accounting treatment found in IFRS 8 Operating Accounting treatment found in IAS 33 Earnings per
segments. share.
Obtain schedule of workings Likely to be material because of the nature of the
Discuss method with directors ratio: investor interest.
Verify a sample of items to sales in voices Recalculate to check accuracy
Ensure consistent with other years
Discontinued operations Statement of cash flows
Accounting treatment found in IFRS 5 Non-current Accounting treatment found in IAS 7 Statement of
assets held for sale and discontinued operations. cash flows.
May be material through size/nature. Statement of cash flows is often audited by the
Discuss with management auditor reproducing it from the other audited
Review minutes/correspondence information (SoFP and SoCI). However, may be
Agree workings to FS checked line by line.
Trace sample to invoices
Borrowing costs
Accounting treatment found in IAS 23 Borrowing

costs.
Obtain client workings

Review for correctness
Agree relevant figures to FS
Agree figures to lender statement
Notes
11: Group audits and transnational audits
Topic List When faced with a question about auditing in a g roup

context remember that there are two aspects:
Single company audit issues (for the parent or
Group auditors and component subsidiaries individually)
auditors
Group audit issues (discussed in this chapter).
Consolidation process
Auditing foreign subsidiaries
Transnational audit
Group auditors and Consolidation Auditing foreign Transnational

component auditors process subsidiaries audit
Group financial statements Group engagement partner Group engagement team

Financial statements that include The partner who is responsible for Partners and staff who establish
the financial information of more the group audit engagement and the overall group audit strategy,
than one component the auditor's report on the group communicate with component
auditors, perform work on the
financial statements consolidation process and
Component evaluate the conclusions drawn
An entity whose financial from the audit evidence as the
Responsibilities basis for forming an opinion on
information is included in the group
the group financial statements
financial statements
Direction, supervision and
Acceptance and continuance
performance of group audit Component auditors
Opinion on group financial
An auditor who, at the request of
... must determine whether statements the group engagement team,
sufficient appropriate audit evidence performs work on financial
can be obtained in the consolidation NO reference to component information of a component for the
process and the financial group audit
information of components. auditors in the report.
Understanding the component Communication with the component auditors

auditors
Engagement team will communicate:
Group engagement team must obtain an
Work to be performed and the use to be made of it
understanding of:
A request to confirm that component auditor will co-operate with the group
Whether the component auditor engagement team
understands the relevant ethical Relevant ethical requirements
requirements and is independent Component materiality
Identified significant risks
The component auditor's professional
Related parties
competence
Component auditor will communicate:
Whether the group engagement team Identification of information reported on
will have sufficient involvement in the Risks of material misstatements in group financial statements
work of the component auditor Lists of uncorrected misstatements
Whether the component auditor Indicators of management bias
operates in a regulatory environment Material deficiencies in internal control over financial reporting
that actively oversees auditors Other significant matters including fraud/suspected fraud
Page 91 11: Group audits and transnational audits


The group engagement team shall determine the type of work to be performed on the financial information of components in
response to assessed risks.
Group engagement team must be involved in risk assessment
Significant components
Work to be done by group engagement team or component
Components that are not significant
auditor on their behalf
Group engagement team shall perform analytical procedures at group level.
Significant due to risks of material Evaluation of component auditors work

Individual
misstatements due to specific circumstances
financial
significance Evaluate communications from component auditor
One of: Discuss matters arising with component auditor or
(Full) Audit of financial information component management
using component materiality
Decide whether it is necessary to review parts of
Audit of one or more account balances
component auditor's audit documentation
(Full) Audit of or classes of transaction relating to the
likely risks
If conclusion is that component auditor's work is
financial
Specified audit procedures relating to
insufficient, determine additional procedures
information required
the likely risks

1 Check the transposition from the audited accounts of each subsidiar y/associate to the consolidation schedules.
2 Check that adjustments made on consolidation are appropr iate and comparable with the previous year.
This will involve:
Recording the dates and costs of acquisitions of subsidiaries and the assets acquired
Calculating goodwill and pre-acquisition reserves arising on consolidation
Preparing an overall reconciliation of movements on reserves and non-controlling interests
3 Check for business combinations
Whether combination has been appropriately treated as an acquisition
Review the policy chosen in respect of whether or not to measure non-controlling interests at f air value.
The appropriateness of the date used as the date of combination
The treatment of the results of investments acquired during the year
If acquisition accounting has been used, that the fair value of acquired assets and liabilities is
reasonable (to ascertainable market value by use of an expert)
Goodwill has been calculated correctly and reviewed for impairment
4 Check for disposals
The appropriateness of the date used as the date for disposal. This can be agreed to sales documentation.
Whether the results of the investment have been included up to the date of disposal, and whether figures used are
reasonable


5 Consider whether previous treatment of existing subsidiaries or associates is still correct (consider level of
influence, degree of support)
6 Verify the arithmetical accuracy of the consolidation workings
7 Review the consolidated accounts for compliance with legislation, accounting standards and other relevant
regulations. Care will need to be taken where:
Group companies do not have coterminous accounting periods
Subsidiaries are not consolidated
Accounting policies of group members differ because foreign subsidiaries operate under different rules
8 Other important areas include:
Treatment of associates and par ticipating interests
Treatment of goodwill and intangible assets
Foreign currency translation
Treatment of loss-making subsidiaries
Treatment of restrictions on distribution of profits of a subsidiar y
Review the consolidated accounts to confirm that they give a true and fair view in the circumstances.

A significant component of the group may be a foreign subsidiary. A full audit may encounter the following issues.
Issues
Language difficulties
Differences in local accounting and auditing conventions
Permit to work
Cultural differences
Country-specific problems (eg civil unrest, hyperinflation)
The auditors must ensure that they have sufficient support in their base office to help them.


A transnational audit is an audit of financial statements which are or may be relied upon outside the
audited entity's home jurisdiction for purposes of significant lending, investment or regulatory decisions; this
will include audits of all financial statements of companies with listed equity or debt and other pub lic interest
entities which attract particular public attention because of their size, products or services provided.
Transnational audit examples Transnational Auditors Commitee

(TAC) of IFAC
Private company in UK raising debt finance in
Canada Identifies audit practice issues and makes
International charity taking donations through
various national branches and making grants recommendations for changes to standards
around the world Provides a forum to discuss 'best practices'
Private internet betting company registered in BVL,
which operates from Costa Rica and takes wagers Identifies members for standard-setting boards
by credit card on a worldwide basis via internet
Project financial statements for the construction of Acts as conduit for interaction among
an electrical generation facility in Nigeria using transnational firms and international regulators
funds loaned by the World Bank
12: Audit-related services and other

assurance services
Topic List Assurance services are a key aspect of the P7 syllabus

so you should not neglect them. Remember that the key
aspect of an assurance service is that the accountant
Audit-related services evaluates specified criteria. Audit-related services are
Assurance engagements other assignments which an auditor can under take which
are not audits, such as review engagements.
Risk assessments
Audit-related Assurance Risk

services engagements assessments
Audit firms may be engaged to perform a variety of engagement types other than the statutor y audit.
Engagements
Assurance Non-assurance
engagements engagements
Historical financial Other Review

information information, eg engagements:
reviews of: Compilation
Prospective assignments
Reasonable Limited Financial Agreed-upon
assurance assurance Information (PFI) procedures
eg Statutory audit eg Voluntary KPIs
(ISAs) audit (ISREs) Internal controls
E-commerce
VFM audits
Due diligence (can be either agreed

upon procedures, or limited assurance)
Reviews follow a similar process to auditing:

A review engagement enables an
auditor to state whether, on the basis of Planning
procedures which do not provide all the Seeking evidence (often analytical procedures are used)
evidence that would be required in an Reporting conclusions
audit, anything has come to the Limited assurance is given on review assignments.
auditors' attention that causes the
auditor to believe that the financial The review conclusion is phrased using a negative form of
statements are not prepared in words.
accordance with the reporting Although the level of assurance is lower than audit, the
framework. conclusion may be modified in the same kinds of w ay:
Qualified conclusion (material, not pervasive)
Adverse conclusion (material and pervasive misstatement)
Disclaimer of conclusion (material and pervasive inability to
obtain sufficient and appropriate evidence)
Page 99 12: Audit-related services and other assurance services


Agreed-upon procedures are where an auditor If an accountant is engaged to use accounting

is engaged to carry out procedures of an audit expertise, as opposed to auditing e xpertise, to
nature which have been pre-agreed, and to report collect, classify and collate inf ormation, eg tax
factual findings. Results confined to those par ties return or accounts , then this is kno wn as a
who have commissioned the report. compilation engagement.
Audit-related services
Agree terms with relevant parties Information does not have to be financial
Carry out the agreed procedures Information compiled should have reference to
the fact that the information is unaudited
Report:
No assurance expressed Report: No assurance expressed
Report factual findings Identification of information compiled

An assurance engagement is one where an Elements

accountant evaluates or measures a subject matter
that is the responsibility of another par ty against Accepting appointment
suitable criteria, and expresses an opinion which
provides the intended user with a level of assurance Ethics/quality control
about that subject matter. Competent?
True assurance engagement?
Agree terms
Why have an assurance engagement?

Planning
Improves quality of decision-making for users
Decline in audit for small companies Strategy/plan
Professional scepticism
Importance of computer systems Understanding of the entity/environment
Criteria suitable?
Materiality/risk


Assurance given Evidence

A reasonable level of assurance is given as the
accountant is evaluating specific criteria. Absolute Gain appropriate evidence
assurance cannot be given. Document matters arising
Consider subsequent events
Assess experts used
Not assurance engagements Reporting
Agreed-upon procedures Express conclusion giving

Compilations reasonable/limited level of assurance
Tax return preparation Describe criteria
Management/tax consulting State if restricted purpose
Other advisory services Clearly state qualifications or limitations

Responsibility Responses to risk

It is part of the governance duties of the directors Management can choose to:
(sometimes using internal audit) to assess and manage
Avoid risk
business risks.
Mitigate risk
Accept risk
Assessing risks
The key way to mitigate risk is to create controls to
Contractual risks (important customers not agreeing prevent risk arising, ie the system of internal
to given contractual terms) controls in the business.
Operational risks (scarce raw materials, risks arising
through storage and use) Assurance services
Physical risks (for example, health and safety
compliance) Relating to:
Product distribution (logistics, networks, outlets) Directors' risk assessment
Regulation (different jurisdictions, internet trading) Design of control system
Reputation (brands and staff profile) Operation of control system

Notes
13: Prospective financial information
Topic List The key issues for auditors when asked to report on
prospective financial information (PFI) are:
What their potential liability might be, and to whom
Reporting on prospective financial
The nature of the assumptions in the PFI (is it
information
possible to draw valid conclusions?)
Accepting an engagement
Procedures
Expressing an opinion
Reporting on prospective Accepting an Procedures Expressing

financial information engagement an opinion
Some definitions
Forecast: PFI prepared on the basis of The key areas that forecasts and projections relate to
assumptions about expected future events and are:
management actions ('best estimate'). Capital expenditure
Projection: PFI prepared on the basis of: Profits
Cashflows
Hypothetical assumptions
Mixture of best estimate and hypothetical
assumptions ('what-if')
Firms are often engaged to repor t on PFI for various reasons. ISAE 3400 The examination of prospective
financial information gives direction in this area. Problems include: inherent uncertainties and the extent to
which auditors can be liable.

ISAE 3400 Factors to consider
The auditor should not accept/withdraw from Intended use of the information
an engagement where the assumptions are
clearly unrealistic or when the auditor believes Intended distribution of the information
the PFI will be inappropriate for its intended (limited vs public)
use. Nature of the assumptions made in the PFI
The auditor and the client should ag ree on the (hypothetical/known/best estimate)
terms of the engagement. Elements to be included in the information
Period covered by the PFI (6 months ... 10
years?)
Knowledge of the business (sufficient?)
Assurance on figures or conclusions drawn by
management?
Page 107 13: Prospective financial information


There are four general matters which the auditor should review.
Business: nature/background Accounting policies used in past
Is the forecast consistent with the business? What are the accounting policies used?
Is forecasting ordinary or extra-ordinary? Are forecast policies consistent with normal
Current activities/products/customers accounting?
Assumptions forecast based on Procedure followed
Are they Backing documentation (is there any?)

Best estimate? Basis
Hypothetical? Is the basis justified?
Reliable? Is the basis approved?
Reasonable?
Procedures
Profit forecasts
Verify income figures to evidence (such as income from current projects/mar ket prices)
Verify expenditure figures to evidence (quotes/estimates/current bills/market prices)
Capital expenditure
Check cap ex projections for reasonableness:
Costs verified to quotations/estimates where possible
Other reasonableness tests such as prevailing market price (eg for property)
Cash forecasts
Ensure that timings involved are reasonable
Check that cash forecast is consistent with other forecasts (profit/cap ex)
Where no other forecasts exist, check income/expenditure as outlined above
Page 109 13: Prospective financial information


It is clear that the subjectivity of PFI means that it is

impossible to give the same level of assurance in
ISAE 3400
relation to PFI as for HFI (historic financial ISAE 3400 recommends negative assurance that:
information). It is extremely difficult for auditors to
Assumptions are reasonable basis for PFI
report on whether forecasts are achievable. The ISAE
PFI is properly prepared (assumptions/framework)
recommends giving negative assurance.
The report should also include caveats as to the
Negative assurance is assurance of something in the achievability of the forecasts.
absence of any evidence to the contrary.
An important point to remember is that responsibility f or the PFI rests with management.
14: Forensic audits
Forensic audit is an expanding area of work for many

Topic List firms. Its applications range from fraud investigations to
insurance claims.
Definitions In the pilot paper it appeared in a case study question
Applications and the requirements asked for practical procedures that
would be applied in a specific fr aud investigation.
Ethical principles
Procedures
Reports
Definitions Applications Ethical Procedures Reports

principles
Forensic audit is the gathering, analysing Forensic investigations are carried out for civil
and reporting on data, for the purpose of or criminal cases. These can involve fraud, asset
finding facts and/or evidence in the context training for money laundering.
of financial/legal disputes and/or
irregularities and giving preventative advice
in this area.
Forensic accounting is undertaking a financial
investigation in response to a par ticular event,
where the findings may be used as evidence in
court or to help resolve disputes.

principles
Main applications Other disputes
Fraud investigations Shareholder

Negligence cases Partnership disputes
Insurance claims Contract disputes
Terrorist financing Sales and purchase disputes
Expert witness Matrimonial disputes
Page 113 14: Forensic audits


principles

principles
The procedures used in forensic work are likely to be very similar to those used in other types of audit and
assurance assignment.
Key considerations
Materiality likely to be no materiality threshold

Timing needs to be unpredictable
Documentation reviewed more critically than for audit
Interviewing aim to donate admission
Computer-aided techniques may employ techniques such as data-mining
Page 115 14: Forensic audits


principles
Reports
Expert witness reports Other reports
Form and content of repor t will depend on the
Key elements:
terms of the assignment.
CV of expert
Instructions and issues
Documentation
Chronology factual evidence
Opinion with explicit reasons
15: Social, environmental and public

sector auditing
Topic List Remember the implications environmental and social

issues can have on the statutory audit; this could be
examined in a planning scenario question. It could also
Importance for the company be examined in the context of a company setting social
Measuring social and environmental and environmental performance indicators.
performance
Implications for the statutory audit
Implications for assurance services
Public sector performance information
Integrated reporting
Importance Measuring social and Implications for Implications for Public sector Integrated
for the company environmental performance the statutory audit assurance services performance information reporting
Shareholders Directors Lenders

The company
The environment Society Employees
Primary impact processes of Society is made up of Rely on the company for
business. Regulated by law. consumers. livelihood and safety at work.
Many make 'green' aware
Secondary impact products. purchases. Also form part of society, ie
Regulated by law/consumer May speak on behalf of the are potential consumers.
opinion. environment.
Turnbull report stated that Risks Controls

directors were responsible for Bad publicity
risk assessment and mitigation Illegal products IS0 14001
as part of corporate governance. Health and safety Employment policies
Employee protection H and S policy
Case Study Social
Zero work-related employee deaths

Social and environmental issues are important to Shell for
various reasons: use of earth's natural resources, Not exploit child labour
environmental legislation, employees working in risky Pursue equal opportunities
environments, varied approach to human rights worldwide.
Environmental
In response to these issues, the company has set targets of
performance relating to social and environmental issues.
Reduce CO2 emissions
Develop cleaner fuels
The company also has a set of general sustainability principles: Reduce all emissions
Sustainability principles Eliminate spills
Respect and safeguard people
Minimise impact on environment The company reports on all these issues to
Maximise profitability its shareholders, and, wherever possible this
Engage/work with stakeholders is verified by independent verifiers.
Use resources efficiently
Maximise benefits to the community
Page 119 15: Social, environmental and public sector auditing

A social audit is undertaken to see if social targets Environmental audits seek to assess how well the
have been met. organisation performs in safeguarding the
environment in which it operates, and whether the
company complies with environmental policies.
Social audits Environmental audits

Obtain a copy of the environmental policy
Is there a rationale for engaging in socially
responsible activities? Assess whether it will achieve objectives
What are the objectives?
Are social programmes congruent with the
mission of the company? Test implementation and adherence
Assess objectives of social policies Discussion
Observation
Evaluate the performance of the company Walkthrough tests
Planning Substantive procedures
Knowledge of the business (ISA 315) Provisions (site restoration/fines/compensation)

Inherent risk assessment (ISA 315 and 330) Contingent liabilities (pending legal action)
Asset values (impairment)
Capital/revenue expenditure (clean-up/rectification)
Development costs (new products)
Going concern issues
Audit procedure pointers
Review
Use minutes of meetings/correspondence
Review trade magazines/newspapers
Particularly the impact on going concer n
Discuss with management
(ISA 570)

Variety of services available:

Internal audit (risks/controls)
Case Study (continued)
Review of internal controls The directors in the case of Shell could mak e
assertions such as:
Management letter (byproduct of audit)
CO2 emissions were X million tonnes in
Independent verification assurance services 20X1, a 2% decrease from 20X0.
We have implemented a strategy to ensure
that in five years, no one we deal with will
Remember have involvement with child labour.
An assurance engagement is where an accountant These assertions can be reviewed and
evaluates a subject matter which is the responsibility assurance given about them. The contents of an
of another party against suitable criteria and assurance report could include objectives,
expresses an opinion to give the user a level of opinions, basis of the opinions, work
assurance. performance, limitations.
To promote accountability, public sector organisations' performance information is subject to operational

audit against pre-determined objectives.
Examples include:
Police force performance reported crime figures
Health service performance waiting times for operations
School performance educational league tables
Measurement problems Incentives
Generating relevant KPIs (may use stakeholder May give rise to perverse incentives
analysis) (behaviours meet targets but are worse for
Reporting too much data stakeholders)
Validity does the KPI measure what it is
intended to?

Planning Procedures
Identify the organisation's objectives These may include:

Plan procedures to test whether objectives Analysis of quantitative data
achieved Review of user experience surveys
Keep documentation of planning and evidence Surveys of key management
obtained Case studies
Literature reviews
Concluding
No specific form of words

May take form of an integrated report,
alongside the information itself
International Integrated Reporting Council (IIRC) issued its 'International IR Framework' in 2013. An integrated
report is a single repor t which integrates the various strands of information about an entity - financial,
management commentary, governance and remuneration, and sustainability reporting. It is not limited to any
one silo, eg not just financial, not just social or en vironmental.
Focus on creation of value over time, looking forward into the long-term (unlike financial statements alone).
'International IR Framework' analyses organisation into six capitals:
Financial
Manufactured
Intellectual
Human
Natural
Social and relationship

An integrated report has eight key elements:

Overview of organisation and its environment Strategy and resource allocation
Governance structure and how this supports value Performance and achievement of objectives
Business model Future outlook and challeges
Risks and opportunities Basis of preparation and presentation
for the integrated report
Auditing integrated reports

Auditors may be engaged to produce an independent v erification statement of an integrated report. This is an
assurance report and the engagement would therefore need to performed in line with the guidance contained in
ISAE 3000, as a limited assurance engagement. Alternatively, an agreed-upon procedures engagement could
be performed, giving no assurance as such.
16: Internal audit and outsourcing
Both the topics in this chapter could f orm part of a

Topic List question on audit planning. An external auditor would
need to consider the implications for his audit of the
client having an internal audit department, or outsourcing
Revision: internal audit
some of its functions.
Other internal audit issues
Alternatively, either subject could be examined as an
Outsourcing essay style question. Internal audit could feature as part
Outsourcing internal audit of a question on corporate governance and the
responsibilities of directors.
Outsourcing finance and accounting
functions
Implications of outsourcing on audit
Revision: Other internal Outsourcing Outsourcing Outsourcing finance Implications of

internal audit audit issues internal audit and accounting functions outsourcing on audit
Corporate governance Use by external auditors

Guidelines relating to:
Consider the following.
Internal controls
Managing risks Proficiency/training of staff
Monitoring Supervision/documentation/review
Sufficient/appropriate evidence
Internal auditors have a role in assisting Appropriateness of conclusions
directors, particularly with regard to internal Consistency of reports
controls and monitoring. Amendments to our programme?
Internal auditors and risk management

Directors need to take three steps in their business:
1 Identify risks 3 Monitor risks
2 Control risks
1 Identify risks 2 Control risks

A detailed review of the following systems will be The methods will depend on the r isks. Broad
required. measures include:
Information flow Training/communication
Document trail Risk awareness at all levels
This is an area of expertise for internal auditors. Risk policies
Accept risk (low impact/likelihood)
Reduce risk (set up IC system)
Potential risks
Avoid risk (don't accept contract etc)
Transfer risk (take out insurance)
Include:
Contractual risks
Operational risks 3 Monitor risks
Physical risks The entire process needs to be monitored to ensure
Product distribution that the process is followed continuously. Internal
Regulation auditors are well placed to monitor. Alternatively this
could be an external assurance service.
Reputation
Page 129 16: Internal audit and outsourcing


Multi-site operations
Approaches:
Operational audits are audits of the operational Compliance approach
processes of the organisation and check not only Cyclical
compliance with controls but also the effectiveness Risk-based
of the controls.
Process-based approach
Cyclical
Risk-based
Practical considerations
Compliance audits are audit checks intended to
determine whether employee actions are in Where to go/how often/when
accordance with policy/law/regulations. Routine/surprise visits
Size of operations
History of systems compliance
Management interest

Outsourcing is the process of purchasing key functions from an outside supplier contr acting-out certain
functions. Insourcing, is when an organisation decides to retain a centr alised department for the key function,
but brings experts in from an external market on a short-term basis to account for "peak" and "trough" periods.
Examples of outsourcing possibilities

ACCOUNTING or any Pension, payroll, tax functions,
FUNCTION elements invoicing, credit control ....
HUMAN or any Welfare, health and safety, recruit-

RESOURCES elements ment ....
FUNCTION


Advantages of outsourcing Disadvantages of outsourcing
Cost. It is often cheaper to contract a service The company loses control over function to an
out than it is to conduct it in-house . extent.
The initial cost of outsourcing may be
Specialist service. Specialists are used to
substantial, if an aspect of the decision is to close
provide the service.
a current department of the business, for example,
Indemnity. The service organisation may potential redundancies.
provide indemnity in the event of problems The contract has to be managed to ensure that
arising. the service being provided is appropriate and in
Cash flow. It may assist with cash flow, as the accordance with the contract. This may take a
contract will represent a flat fee. The cost of disproportionate amount of time.
providing the service in-house might lead to The contract might limit the liability of the
fluctuating costs. contractor, leading to problems if the contract is not
performed well. This might even result in court
action being required.
The above could cause the cost of outsourcing to
outweigh the benefit.

Outsourcing internal audit
Advantages to client Disadvantages to client

Service provider has good quality staff Cost of recruiting staff
Has specialist skill Need for staff of particular skill/qualification
Can direct their own work and educate Difficulty of managing an internal audit
management as to the service required department for directors
Provides immediate team Extended time frame between set up and results
Can be appointed for appropriate timescale Work involved may not justify a full time team
May cost less than setting up a depar tment Team might be required due to variety of skill
needed


Data Disadvantages There may be logistical difficulties in outsourcing data processing, due to the
processing high level of paper involved (invoices, goods received notes etc). This
information will have to be given to the service organisation.
A secondary, and more important, effect is that the company might not always
have control of its key accounting documentation and records. It is a legal
requirement that the directors maintain this information. While they may
delegate the practicalities, they are still responsible for maintaining the records.
Pensions Advantages Pensions are a specialist area and there is mer it in getting a specialist to
operate the company's pension provision.
Disadvantages Pensions are closely related to the payroll and the company will need to share
sensitive information with the pension provider, which may make the situation
complicated.
Due Advantages A key advantage in relation to outsourcing due diligence is the high le vel of
diligence expertise that can be brought in.
The company can expect quality from its service contractor, and can seek
legal compensation from them in the event of negligence.
Information Advantages A key advantage of outsourcing all, or elements of, the IT function is that this
technology will enable the company to keep pace with rapid technological advances.
It also allows the company to take advantage of the work of specialists in a field
that many people still find difficult but which they use regularly to carry out their
business.
Outsourcing can provide a useful safety net of a technical helpline or indemnity
in the event of computer disaster.
It is also possible that through outsourcing, the company will be able to obtain
added-value, such as new ways of doing business identified (for example,
e-commerce).
Taxes Advantages In relation to taxes, the key advantage is also the buying-in of expertise.
Disadvantages The disadvantage of outsourcing tax work is that while the work can be
outsourced, the responsibility cannot. The tax authorities will deal with the
responsible person, not the agent, so the loss of control is par ticularly risky in
this case.


A service organisation is an organisation that provides services to another organisation. A user entity is the
entity which purchases those services and whose financial statements are being audited.
Auditor considerations with regard to the contract

Planning
Are the terms of the contract with the service
Know what is outsourced
organisation sufficiently clear for the service to be good?
Understand the contract
Risk of misstatement How are the relevant accounting records maintained?
Does the user entity have the right to inspect the service
Designing procedures (depends on): organisation's records?
Contract nature Do the terms of the agreement take account of any
Degree of authority delegated relevant regulatory requirements?
Quality assurance Does the user entity monitor the performance?
Nature of assets involved
Does the service organisation indemnify the user?
Reputation of service provider
Can the auditors have access to relevant records?
Procedures
Inspecting records and documents held by the Requesting specified procedures performed by
user entity
The service organisation
Establishing the effectiveness of internal control
The user entity's internal audit department
Obtaining representations to confirm balance
Reviewing information from the service
and transactions from the service organisation
organisation or its auditors concerning the design
Performing analytical review on: and operation of its control systems
The records maintained by the user entity; or
The returns received from the service
organisation.
Using reports
If the auditor makes use of a repor t on the service organisation, he should consider the reputation/skill of the
service provider (eg auditor), and what the repor t is about. He must not refer to the report in his audit repor t.

Notes
17: Reporting
Topic List The impact of certain items on the audit repor t was
examined in the pilot paper.You should work through this
chapter in tandem with Chapters 8, 9 and 10, alw ays
Auditor's opinion bearing in mind the impact of accounting treatments and
materiality on the auditor's repor t.
Auditor's report
The 'effectiveness' of the auditor's repor t could be
Reports to management discussed in an essay type question, perhaps in
Actions when modified opinion is conjunction with a discussion of the regulator y
expressed environment outlined in Chapter 1.
Auditor's opinion Auditor's report Reports to Actions when modified

management opinion is expresssed
Financial statements are fairly presented Unmodified auditor's opinion
Material item(s) in the financial statements are Qualified audit opinion. Financial statements
not fairly presented fairly presented 'except for'...
Multiple material misstatements might result in

the financial statements not being fairly
presented
Financial statements are not fairly presented Adverse auditor's opinion

because misstatements are material and
pervasive
The auditor cannot tell whether the financial Qualified auditor's opinion. Financial statements
statements are fairly presented in respect of are fairly presented 'except for'... + and implied
material item(s), due to being unable to obtain opinions
sufficient appropriate audit evidence
Auditor cannot tell whether financial statements

are fairly presented at all, due to being unab le to Disclaimer of opinion + any implied opinion
obtain sufficient appropriate audit evidence
Question 1
Have all the procedures necessary to meet auditing standards and to obtain all the inf ormation and explanations
necessary for the audit been carried out?
Question 2
Have the financial statements been prepared in accordance with IFRS?
Question 3
Are the financial statements fairly presented?
Page 141 17: Reporting


The process of forming an audit opinion can be summar ised in a step format, as follows:
1 Read through all the information given in the question 5 Ascertain whether the financial statements have
carefully and analyse the requirement. been prepared in accordance with IFRS.
2 Read through the information given in the question 6 If not, determine whether departure was required
again in the light of the requirement, making notes of to give a fair presentation and if so, whether it has
any key factors. been properly disclosed.
3 Ascertain whether all the evidence reasonably 7 Decide whether any unnecessary departure is
expected to be available has been obtained and material to the financial statements ('except for'
evaluated. opinion) or is pervasive to them (adverse opinion).
4 If not, identify whether the effect of not gaining 8 Conclude whether the financial statements as a
evidence is such that the financial statements could as whole are fairly presented.
a whole be misleading (disclaimer of opinion) or in
material part could be misleading ('except for' opinion).
Even if the answers to steps 3 and 5 are y es, you must still carry out step 8 and make an overall assessment of
whether the financial statements are fairly presented in order to conclude that an unmodified opinion is appropr iate.
You should be aware of the various modifications to an auditor's opinion (qualified, adv erse, disclaimer) from
your previous studies.
Critically appraising an auditor's opinion Why?

This will involve the reviewer forming his own opinion
and then comparing it to the original to see if he feels Engagement partner reviewing the file
the original opinion is reasonable.
Auditor asked for second opinion
'Peer' or pre-issuance review
The step process just discussed is therefore

vital for your exam.
So is knowing what the standard repor t should look

like in case a repor t you have been asked to critique
is presented wrongly.


Independent Auditor's Report

Report on the financial statements
We have audited the accompanying financial statements of ABC Company which comprise, the statement of financial
position as at December 31, 20X1, and the statement of profit or loss and other comprehensiv e income, statement of
changes in equity and statement of cash flo ws for the year then ended, and a summar y of significant accounting
policies and other explanatory information.
Management's responsibility for the financial statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with
International Financial Reporting Standards, and for such internal control as management determines is necessary
to enable the preparation of financial statements that are free from mater ial misstatement, whether due to fraud or
error.
Auditor's responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit
in accordance with International Standards on Auditing. Those standards require that we comply with ethical
requirements and plan and perform the audit to obtain reasonable assurance about whether the financial statements
are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial
statements. The procedures selected depend on the auditor's judgement, including the assessment of the r isks of
material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments,
the auditor considers internal control relevant to the entity's preparation and fair presentation of the financial
statements in order to design audit procedures that are appropr iate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the entity's internal control. An audit also includes evaluating the
appropriateness of accounting policies used and the reasonab leness of accounting estimates made by management,
as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropr iate to provide a basis for our audit
opinion.
Opinion
In our opinion the financial statement present f airly, all material aspects (or give a true and fair value of) the financial
position of ABC Company as at December 31, 20X1, and of it is financial perf ormance and its cash flows for the year
then ended in accordance with Inter national Financial Reporting Standards.


Merits of the report Criticisms of the report
The report clearly spells out to whom the report is

Steps taken are insufficient and
addressed
the report is not clear to a non-
The report clearly states the financial statements it refers to financial investor
The report refers to the respective responsibilities of The report includes
directors/auditors incomprehensible audit jargon
The report confirms the auditor's compliance with ethical True and fair
requirements
Materiality
It outlines the process of auditing
Description of audit unclear
It explains the auditor's opinion
Extent of management
responsibility not clear
Emphasis of matter paragraph

An EoM paragraph does not modify the auditor's opinion it modifies the repor t. An EoM is used where the
auditor wishes to draw attention to a matter that is not mater ially misstated in the FS.
Examples include:
Where there is significant uncer tainty over going concern which FS disclose adequately
Where there is a significant uncer tainty over the recovery of a material receivables balance
Other matter paragraph

An Other Matter paragraph is used to draw attention to something other than the FS that are being audited.
Examples include:
Where prior period FS were audited by a predecessor auditor
Where prior period FS were not audited at all
Where other information must be revised, eg because it is inconsistent with the FS and the FS are not
materially misstated


Reporting to those charged with governance

Guidance on reporting to management and other non-shareholders as a b y-product of audit is giv en in ISA 260
Communication with those charged with governance.
Governance is the ter m used to descr ibe the role of persons entr usted with the super vision, control and
direction of the entity. Those charged with governance ordinarily are accountable for ensuring that the entity
achieves its objectives, financial reporting and reporting to interested parties. Those charged with governance
include management only when it performs such functions.
Matters should be discussed with those charged with go vernance on a sufficiently prompt basis so that they
can react to what the auditor has said. The auditor should determine who those charged with governance are.
If an audit committee exists, it is likely to be the appropriate body to report matters arising from the audit to. Such
relevant matters are outlined here.
Communications to audit committee
General approach and overall scope

Selection of, or changes in, significant accounting policies
The potential effect on the FS of any material risks, and exposures, eg pending litigation, that are required
to be disclosed in the account
Findings from the audit and their impact on the audit repor t
Unadjusted misstatements, and the reasons for them
Significant matters arising, for example, law and regulations, fraud and error, internal control issues
Material uncertainties affecting the organisation's ability to continue as a going concern
Significant disagreements with management
Other matters mentioned in terms of engagement


When the auditor expresses a modified opinion, simply issuing the auditor's repor t is not the end of the stor y.
Actions when modified

opinion expressed Withdrawal from
Communicate with TCWG engagement
Communicate all Only if matter is very
surrounding External consulation Management serious
circumstances integrity?
Allows TCWG to Consult with: Consult with legal
provide more Especially if scope of counsel
Legal counsel
information before audit is limited If limitation on prior your
(confidentially)
report issued ACCA Reconsider if audit means disclaimer of
Applies to EoM and (anonymously) representations are opinion this year, do not
OM as well reliable
Communicate other accept engagement
Possibly perform
'significant difficulties' 'hot' review
18: Current issues
Topic List Current issues may feature within questions on a range

of topics in this exam. It is important that you keep up to
date with topical issues within the audit and assur ance
Update profession. Keep a look out for relevant articles in
Student Accountant.
Update
Auditor's reports
There has been extensive debate over possible
improvements to the auditor's repor t.
The IAASB has suggested an extensive 'Auditor
Commentary' for public interest entities. This
would highlight the matters the auditor
considers most important to users'
understanding of the financial statements.
Some respondents expressed concerns that this
would extend auditors' responsibilities too far,
and that this is the proper responsibility of
management.
Notes
Notes
Notes
Notes

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ACP7(INT)PC15.indd 1 23/03/2015 11:29

Your learning materials, published by BPP Learning

1: International regulatory environments

Topic List This chapter looks at the regulator y environment in which

International regulatory Audit Internal control Money Law and

International Regulatory Framework Example: UK Regulatory Framework

International regulatory Audit Internal control Money Law and

Relation to external auditors Review of internal audit

International regulatory Audit Internal control Money Law and

UK Corporate Governance Code Key effects on auditors

International regulatory Audit Internal control Money Law and

Page 5 1: International regulatory environments for audit and assurance services

International regulatory Audit Internal control Money Law and

Criminal offences in the UK UK Money Laundering Regulations

Possessing, dealing with or concealing the Appoint a ML Reporting officer (MLRO)

Page 7 1: International regulatory environments for audit and assurance services

International regulatory Audit Internal control Money Law and

The auditor's responsibilities for considering law and

2: Code of ethics and conduct

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

ACCA Code of Ethics and Conduct

Integrity Objectivity Professional competence and due care

Confidentiality Professional behaviour

Page 11 2: Code of ethics and conduct

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Self-interest threat eg financial interests, incentive compensation arrangements, undue dependence on

Page 13 2: Code of ethics and conduct

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Regulations Work environment

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Obligatory disclosure Areas of controversy

Voluntary disclosure Practice management issues, such

Page 15 2: Code of ethics and conduct

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Conflicts between members' and clients' interests

Conflicts between the interests of different clients

Fundamental principles Independence Threats Safeguards Confidentiality Conflicts Conflicts in

Page 17 2: Code of ethics and conduct

The responsibility of the auditor is simple: to report to the

Legal liability Restricting Fraud and error The expectations

AUDITOR LIABILITY Negligence A common law concept whereby a

In criminal law: A successful claim for negligence requires:

In English (and many other) law(s) a contract for

However, such a duty of care is only implied to the company.

Page 21 3: Professional liability

Legal liability Restricting Fraud and error The expectations

Professional indemnity insurance

Limited Liability Partnerships (LLPs)

Liability limitation agreements

Legal liability Restricting Fraud and error The expectations

Fraud is an intentional act by one or more An error is an unintentional misstatement.

Page 23 3: Professional liability

Legal liability Restricting Fraud and error The expectations

Legal liability Restricting Fraud and error The expectations

Educating users Extending auditors'

Page 25 3: Professional liability

Topic List Probably the most important consideration in practice

Quality control: Quality control:

Litigation against the firm

The entire business strategy of the firm should be

Page 29 4: Quality control