Assurance Engagements Explained

Assurance Explained

• Auditors who are qualified and experienced provide a conclusion and opinion at the end of their work.
• The process involves assessing information and determining its accuracy.
• Assurance enhances the confidence of those using the information, such as shareholders and banks.

Assurance Engagement: The Five Key Elements

• The practitioner (auditors)
• Intended users (shareholders)
• The responsible party (Directors)
• Subject matter (financial statements)
• Suitable criteria (IFRS, UK GAAP)
• Sufficient and appropriate evidence is obtained by the practitioner.
• A written assurance report is provided by the practitioner.

Types of Assurance Engagement

Reasonable Assurance

• Provides the highest possible level of confidence.
• Draws reasonable conclusions.
• Proves the subject matter conforms in all material respects.
• Includes a positively worded opinion.
• Example: Domino's Pizza Group plc's group financial statements provide a true and fair view as at December 31, 2022.

Limited Assurance

• Less detailed work is undertaken.
• Offers a moderate/low level of assurance.
• Gives a negatively worded conclusion.
• Example: “There is nothing that would cause us to believe that....”

Assurance Engagement Examples

Reasonable Assurance

• Includes an external audit of financial statements as required by Company Law.

Limited Assurance

• Involves a review engagement.
• Applies to SMEs below the audit threshold.
• Banks might need assurance about a company's financial statements before providing loan finance.

Assurance Engagement Meetings

• Meetings would be PRIOR to the start of the engagement.
• An agreement is met on issues such as the purpose and scope of work, engagement terms, report format, exclusions, confidentiality, fees, and deadlines.

Typical Assurance Report Contents

• Title
• Addressee
• Description of engagement
• Subject matter
• Responsibilities of parties
• Restriction: purpose and parties
• Professional/audit standards
• Criteria
• Conclusion
• Report date
• Practitioner's name

Financial Statement Assertions

• Auditors need evidence to support assertions, or assumptions, in financial statements.

ACCA COVER: Financial Statement Assertions

• Accuracy: Are amounts recorded correctly, and do they add up?
• Completeness: Is everything included, e.g., supplier invoices in the system?
• Cut-off: Has everything been recorded in the correct period?
• Allocation: Have transactions been entered in the correct account?
• Classification: are categorized transactions, and is everything in assets where it should be?
• Occurrence: Did the transaction occur, e.g., is there a supplier invoice?
• Valuation: Are the current values on SFP correct, e.g., non-current assets amount?
• Existence: Do assets actually exist?
• Rights and obligations: Do we control the assets? Do obligations exist, e.g., a bank loan?

Linking Financial Statement Assertions

• Completeness: Cut Off
• Occurrence: Completeness, Existence
• Valuation: Accuracy
• Allocation: Classification Existence, Rights & Obligations

Risk Assessment

Context of Risk Assessment

• Risk assessment is part of accepting an engagement and is considered annually for existing clients.

The Planning Process

• Assess risk.
• Audit strategy.
• An audit plan is made.
• Audit procedures are designed.

Audit Risk Components

• Audit risk is the potential for an auditor to issue an incorrect audit opinion.
• Audit Risk = Inherent Risk x Control Risk x Detection Risk.
• Inherent risk is the risk of errors, regardless of internal controls.
• Inherent risk is based on industry nature, complex accounting, industry type, business type, and financial performance.

Internal Controls and Audit Impact

• Control risk is the potential for internal controls to fail to prevent errors or fraud.
• Control risk depends on the design of controls and the reliability of accounting systems.
• Detection risk is the chance that audit procedures fail to detect material misstatement and auditors can control this.
• Audits can alter detection risk through responses like more experienced teams, intensive reviews, increased sample sizes, detailed testing, changing procedures, and increased professional skepticism.
• Professional skepticism includes a questioning mind being alert to conditions that show any possible misstatements from error or fraud, and a critical assessment of evidence.

Risk Assessment Requirements

International Standards on Auditing (ISA) 315 (Revised)

• The Objective of the auditor; identifying and assessing material misstatement risks through understanding the entity, its environment, and its internal control.
• Offers a basis for responses to assessed material misstatement risks.

Material Misstatement

• A difference between a reported item and what is strictly required (IFRS, UK GAAP).
• Materiality considers if misstatements, individually or aggregated, influence economic decisions based on financial statements.
• Errors that cause financial statements not to mirror accurate performance or position.

Materiality Benchmarks

• 0.5%-1% of Revenue (PorL)
• 5%-10% of profit before tax (PorL)
• 1%-2% of Total Assets (SFP)
• Material by nature is when a misstatement turns profit into a loss or net assets into liabilities. Also, if there are disclosures regarding legal action or transactions with directors.

Auditor Concerns

• Auditors focus on material items because financial statements are untrue and become the audit's focus.

Audit impact

• Impacts the audit because every transaction above the materiality figure will be sampled. For transactions below materiality only some will be sampled.
• If errors exceed materiality, financials need amendment, or an adverse opinion will be issued.

Performance Materiality

• Reduced risk is to reduce the aggregate total misstatements that don't exceed materiality as a whole.
• Performance materiality is 75%

Business vs Audit Risk

• Business risk is the business not achieving its goals/objectives.
• Audit risk is the risk of issuing an incorrect opinion in FS.
• Business risk will impact audit risk.

Understanding Potential Financial Statement Issues

• Assess events that may incorrectly state figures (under/overstated).
• Understand if there’s an incentive for fraud.
• Understand if errors exist in the financial statements due to internal controls.
• The financial statements should be prepared on the correct basis, eg could the company be a going concern risk?

Internal Controls

• Internal controls are checks and procedures to ensure completeness:
• Completeness, all transactions are recorded properly.
• Timeliness, Transactions are promptly recorded up to date.
• Validity, only business transactions are recorded.
• Safeguarding. protecting assets from theft, damage, and deterioration.

Internal Control Examples

• Arithmetic and accounting controls - Reviewing calculations on invoices
• Segregation of duties - Having multiple staff involved in a process
• Physical controls - Locks on doors
• External information comparison - Comparison of bank balance to bank statements
• Computer controls - Password and restrictions
• Control accounts - Balancing between ledger accounts and control accounts • Authorisation/approval controls - Management approvals
• Auditors and Internal Controls Effective controls may allow auditor to reduce detailed testing

Internal Control Documents

• Descriptive notes.
• Flowcharts.
• Questionnaires.
• There has to be some form of documentation.

Internal Control Testing and Design

• Conduct a walkthrough test.
• Tracing one transaction through the system.
• Performing tests on controls.
• Design and performing tests of key internal controls.
• Is part of planning and risk assessment stage of audit.
• Inherent Limitations of Internal Controls:

Internal Control

• Human error.
• Fraudulent collusion.
• Management override.
• Abuse of Authority.
• Limited resources.
• Staff.
• The auditor can never fully rely on internal controls.

Deficiencies

• Communicating Deficiencies in internal control to those charged with governance and management.

Audit Documentation

• Provides evidence the audit was prepared while remaining compliant with ISA's and legal/regulatory rules.
• Provide evidence that forms the opinion of the auditor.
• Assistance in planning/performing audit.
• Supervision reviews.
• Teams are accountable for work and records.
• The process enables quality control reviews and inspections.
• Prepare documentation so it is clear and understandable from another auditor.
• The timing, nature and extent of audit procedures.
• Audit risk of each section.
• Performance materiality.

Sampling

ISA 500

• There are three options available to the auditor.
• Select all items (100% examination), you would select all items when:
• A small number of items are being tested.
• This is appropriate if there is a risk and the test is repetitive.

Selecting Specific Items

• Includes high-value items.
• All items over a certain amount.
• Items to Obtain Information.
• Gain a better understanding of the entity or transactions.
• Audit Sampling
• Enables conclusions about an entire population with testing <100% of items.

Selection Methods

• Impossible to test every single transaction.
• Auditors give reasonable assurance not absolute and reasonable auditors select the items to test.
• Sampling Conclusion- can be different based on the test.
• Sample must be sufficient to get an accurate number.
• The samples selected should be random.

Statistical Sampling Methods

Random Selection

• Use of random number generators
• Systematic Selection
• Constant interval is selected
• Used in conjunction with a random number generator

Non - statistical Sampling

• Non-structured selection.

Haphazard Selection

• Avoid bias choices.

Block selection

• A block of items are selected (adjacent to one another)
• More appropriate for cut off testing.

Deviations

• Any issues identified while testing.
• For example, if a sample of 30 items shows 10 issues, the deviation rate is 33%.
• If the deviation rate > tolerable deviation rate risk of misstatement is high.

Mistatements

• Was it a one-off error which can be proven? If so, no further testing required
• Found in a sample could indicate other errors in the population

Mistatements must be projected for the whole of the population

• Calculate and compare to tolerable the misstatement number (performance materialty). If the projected number goes over the tolerable misstatement = extend sample if not = no further testing.

Professional Ethic

• Practitioner conclusion to enhance the confidence.
• Code Of Conduct accounting bodies have adopted this standard. straight forward conduct.

Integrity

• Straightforward and Honest.

Objectivity

• Independent and not affected by bias.

Professional Competence and Due Care

• Act as a skills to maintain knowledge that.

Confidentiality

• All client information must remain.

Professional behavior

• Avoid actions that hurt profession.

Objectitvity Threats

• Occurs when Auditor has other services which can be used in testing.

Safeguard

• Different teams can used each serive that is provided.

Self - Interest

• Auditors show personal in the client which is likely to affect objectivity.

Safeguard

• Dont owning shares.
• Any employee owns shares they cant be audit teamed.
• Do not accept high gifts

Familiarity

• The client Auditor has a formed relationships.

Adovacy

• The Auditor is forced or under prusse to get the job done.

• Intimadation

• Audit are under stress to do the work to get the cash.

Threat Review Ethics

• Review Initial client.
• Review before every audit.

Objectivity threat of

• Intimidation or self interest.
• Relationship of family to self interset.
• Same team prep work self or intrest.

screening process

auditors.

• Only exept after you do an aduit.
• You cant met the engagement! ( unless required by law or regulation)
• That the financial framework is being applied i.e. IFRS, UK GAAP to the financial statements.
• acknowledgement by management of there responsibilty to keep
• prepare fs

professional clearance.

• Assess information acceptance
• Are they known to lack practices?

Expertise

• Do we have the skill to do work?

Engagment letter

• That terms of engagement letter with management need.
• Responsibility of being the auditor and manager.
• You must state the any circumstance and can change depending on content or expectations

outside law engagemnt include

• Payment terms are agreed.
• legal between both cliennt and auditor that sets our conditions so that there are no misunderstandings! Internal .

Engagment letter

internal audit

• Its apprasial activity manager the control stsyem.
• Condering the wotk auditors
• can consider acitivies of internal aldit
• The major of comapnies do have this.

types of Internal audit

• Transcation/balance audits that involve money.
• reports include effective ness has beeb achieved. auditor on intenmal
• If has any review on test this audit
• has to be fully communication in testing
• has to review all work.
• must a be fully testted on testing.

Liabilty

• You have to test all items that have committed criminal charges
• A member of a business.
• Has personal connecions

Civil law

• Cant have contact.
• Cant do duty to third pratices.
• Who is engallbe

Section 507 – Offences in connection with the auditor's report

• Recklessly or knoe report the account include matters are misleading and faluse.

fraud

• financial over sttements.

IS 240

• is need to aduit risks of the finacial statements.

• Trading information.

• Disqualidition is possble for the fincail

Criminal Law

• Money laundry is used to discusting the monmey.
• Transfer of illedgeal activity

The three steps are

• Invert the dirty money
• Make them go around to disquise is
• Returns clean and legal

Is imporrnatbto do

• Report suspicion in organised crime that the MLRO

Civil law contract

• Duth do care if;

The auditor are

• neglect in breaching contact.
• The loss is countable
• Successful case.

The risk of being audited.

• All has to be legal
• Is has to be fair with reasonable
• improve work.
• is test the standard to ensure everything works.