Ch. 24 LN.pptx

COMPLETING THE AUDIT Chapter 24 Chapter 24 Learning Objectives 1. Design and perform audit tests related to presentation and disclosure audit objectives. 2. Conduct a review for contingent liabilities and commitments. 3. Obtain and evaluate letters from the client’s attorneys. 4. Conduct a post-bala...

COMPLETING THE AUDIT Chapter 24 Chapter 24 Learning Objectives 1. Design and perform audit tests related to presentation and disclosure audit objectives. 2. Conduct a review for contingent liabilities and commitments. 3. Obtain and evaluate letters from the client’s attorneys. 4. Conduct a post-balance-sheet review for subsequent events. 5. Design and perform the final steps in the evidenceaccumulation segment of the audit. 6. Integrate the audit evidence gathered and evaluate the overall audit results. 7. Communicate effectively with the audit committee and management. 8. Identify the auditor’s responsibilities when facts affecting the audit report are discovered after its issuance. OBJECTIVE 24-1 Design And Perform Audit Tests Related To Presentation And Disclosure Audit Objectives. OBJECTIVE 24-2 Conduct A Review For Contingent Liabilities And Commitments. Review For Contingent Liabilities And Commitments Three conditions are required for a contingent liability to exist: 1. There is a potential future payment to an outside party or the impairment of an asset that resulted from an existing condition. 2. There is uncertainty about the amount of the future payment or impairment. 3. The outcome will be resolved by some future event or events. Review For Contingent Liabilities And Commitments Review For Contingent Liabilities And Commitments Review For Contingent Liabilities And Commitments Auditors are especially concerned about certain pending liabilities: – Pending litigation for patent infringement, product liability, or other actions – Income tax disputes – Product warranties – Notes receivable discounted – Guarantees of obligations of others – Unused balances of outstanding letters of credit Review For Contingent Liabilities And Commitments Auditor’s primary objectives in verifying contingent liabilities: – Evaluate the accounting treatment of known contingent liabilities to determine whether management has properly classified the contingency (classification presentation and disclosure objective). – Identify, to the extent practical, any contingencies not already identified by management (completeness presentation and disclosure objective). Review For Contingent Liabilities And Commitments Audit Procedures for Finding Contingencies: – Inquire of management about the possibility of unrecorded contingencies. – Review current and previous years’ internal revenue agent reports for income tax settlements. – Review the minutes of directors’ and stockholders’ meetings for indications of lawsuits or other contingencies. – Analyze legal expense for the period under audit for indications of contingent liabilities, especially lawsuits and pending tax assessments. – Obtain a letter from each major attorney performing legal services for the client as to the status of pending litigation or other contingent liabilities. – Review audit documentation for any information that may indicate a Review For Contingent Liabilities And Commitments Closely related to contingencies are commitments: Agreements to commit the firm to a set of fixed conditions in the future, regardless of what happens to profits or the economy as a whole. Audit Procedures for Finding Commitments: The search for unknown commitments is usually performed as part of the tests in each audit area. The auditor should also be aware of the possibility of commitments when reading minutes, contracts, and correspondence files. Objective 24-3 Obtain And Evaluate Letters From The Client’s Attorneys. Inquiry of Client’s Attorneys Inquiry of the client’s attorneys is a major procedure auditors rely on for evaluating known litigation or other claims against the client and identifying additional ones The standard inquiry to the client’s attorney should include the following – A list including (1) pending threatened litigation and (2) asserted or unasserted claims or assessments with which the attorney has had significant involvement – A request that the attorney furnish information or comment about the progress of each item listed – A request of the law firm to identify any unlisted pending or threatened legal actions or a statement that the client’s list is complete – A statement informing the attorney of the attorney’s responsibility to inform management of legal matters requiring disclosure in the financial statements and to respond directly to the auditor Inquiry of Client’s Attorneys The nature of the refusals by attorneys to provide auditors with complete information about contingent liabilities falls into two categories: – The attorneys refuse to respond due to a lack of knowledge about matters involving contingent liabilities – The attorneys refuse to disclose information that they consider confidential If an attorney refuses to provide the auditor with information about material existing lawsuits (asserted claims) or unasserted claims, auditors must modify their audit report to reflect the lack of available evidence The Sarbanes–Oxley Act requires attorneys serving public companies to report material violations of federal securities laws committed by the company Objective 24-4 Conduct A Post-balancesheet Review For Subsequent Events. Review For Subsequent Events Two types of subsequent events require consideration by management and evaluation by the auditor: – Those that have a direct effect on the financial statements and require adjustment – Those that do not have a direct effect on the financial statements but for which disclosure may be required Examples of those that require adjustment: – Declaration of bankruptcy by a customer with an outstanding accounts receivable balance – Settlement of litigation at an amount different from the amount recorded on the books – Disposal of equipment not being used in operations at a price below the current book value Examples of those for which disclosure may be required: – The issuance of bonds or equity securities – The uninsured loss of inventories as a result of fire – A merger or acquisition Review For Subsequent Events Audit Tests: There are two categories of audit procedures for the subsequent events review: 1. Procedures normally integrated as a part of the verification of year-end account balances 2. Procedures performed specifically for the purpose of discovering events or transactions that must be recognized as subsequent events The first category includes cutoff and valuation tests done as part of the tests of details of balances. Review For Subsequent Events Audit Tests: The second category are performed specifically to obtain information to incorporate into the current year’s account balances or footnotes as tests of the completeness presentation and disclosure objective. These include: – Review records prepared subsequent to the balance sheet date. – Review internal statements prepared subsequent to the balance sheet date. – Examine minutes issued subsequent to the balance sheet date. – Correspond with attorneys. Objective 24-5 Design And Perform The Final Steps In The Evidenceaccumulation Segment Of The Audit. Final Evidence Accumulation Perform Final Analytical Procedures: Auditing standards require auditors to perform analytical procedures during the completion of the audit. It is common for a partner to do analytical procedures during the final review of the audit documentation. Results from final review may indicate that additional audit evidence is necessary. If any unexpected relationship is found due to client misstatement, the auditor should propose an adjustment if the misstatement is material. Final Evidence Accumulation Evaluate Going-Concern Assumption: Auditing standards require the auditor to evaluate whether there is a substantial doubt about a client’s ability to continue as a going concern at least one year beyond the balance sheet date. – Auditors use analytical procedures, discussions with management, and their knowledge of the client’s business to assess the likelihood of financial failure within one year. – A final assessment of the entity’s going-concern status is desirable after all evidence has been accumulated and proposed audit adjustments have been incorporated into the financial statements. Final Evidence Accumulation Obtain Management Representation Letter: Auditing standards require the auditor to obtain written representations from management, usually in a letter of representation documenting management’s most important oral representations made during the audit. – This letter is prepared on the client’s letterhead, addressed to the CPA, and signed by high-level corporate officials. – The letter should be dated no earlier than the date of the auditor’s report to ensure that there are adequate representations about subsequent events. Final Evidence Accumulation Obtain Management Representation Letter (cont): The three purposes of the client letter of representation are: – Impress upon management its responsibilities for the assertions in the financial statements. – Remind management of potential misstatements or omissions on the financial statements. – Document the responses from management to inquiries about various aspects of the audit. Final Evidence Accumulation Consider Supplementary Information in Relation to Financial Statements as a Whole: – Clients often include additional information beyond the basic financial statements. – The basic financial statements and additional supplementary information are illustrated in Figure 244. – Auditors must clearly distinguish their audit and reporting responsibility for the primary financial statements and for supplementary information. Final Evidence Accumulation Read Other Information in the Annual Report: Auditing standards require the auditor to read other information included in the annual report pertaining directly to the financial statements. – Auditor responsibility to read other information included in annual report pertains only to information that is not part of the financial statements but is published with them. – If the auditor concludes that a material inconsistency exists, they should request the client to change the information. If the client refuses, the auditor should include an explanatory paragraph in the audit report or withdraw from the engagement. Objective 24-7 Communicate Effectively With The Audit Committee And Management. Communicate With The Audit Committee And Management Communicate Fraud and Illegal Acts: Auditing standards require the auditor to communicate in writing all fraud and illegal acts to the audit committee or equivalent, regardless of materiality. Communicate Internal Control Deficiencies: The auditor must communicate in writing significant internal control deficiencies and material weaknesses in the design or operation of internal control to those charged with governance. Communicate With The Audit Committee And Management Other Communications with Audit Committee: Auditing standards require the auditor to communicate certain additional information to those charged with governance. There are four principal purposes of these required communications: – Communicate auditor responsibilities in the audit of financial statements. – Provide an overview of the scope and timing of the audit. – Provide those charged with governance with significant findings arising during the audit. – Obtain from those charged with governance information relevant to the audit. Communicate With The Audit Committee And Management Other Communications with Audit Committee: – Sarbanes-Oxley requires additional communications for auditors of public companies. As the audit is completed, the auditor should determine that the audit committee is informed about the initial selection of and any changes in significant accounting policies. – Management Letters: A management letter is intended to inform client personnel of the CPAs recommendations for improving any part of the client’s business. Objective 24-8 Identify The Auditor’s Responsibilities When Facts Affecting The Audit Report Are Discovered After Its Issuance. Subsequent Discovery Of Facts Although rare, auditors sometimes learn after the audited financial statements have been issued that the financial statements are materially misstated. When this subsequent discovery of facts occurs, the auditor has an obligation to make certain that users who are relying on the financial statements are informed about the misstatements or change in the conclusion on the effectiveness of internal controls. If the auditor discovers that the statements are misleading after they have been issued, the most desirable action is to request that the client issue an immediate revision of the financial statements that includes an explanation of the reason for the revision. The timeline for subsequent discovery of facts is shown in Figure 24-9. Questions?