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PRE-ENGAGEMENT ACTIVITIES/OVERVIEW OF THE RISK BASED AUDIT PROCESS Risk-based audit approach- is an audit approach that begins with an assessment of the types and likelihood of misstatements in account balance and then adjusts the amount and type of audit work to the likelihood of material misstatements occurring in account balances. Account-based auditing- auditors first obtain an understanding of control and assess control risk for particular types of errors and frauds in specific accounts and cycle. Risk- a concept used to express uncertainty about events and or their outcomes that could have a material effect on the organization. Audit plan- an overview of the expected scope and conduct of the audit Audit risk- the risk that an auditor may give an unqualified opinion on financial statements that are materially misstated. Business risk- those risk that affect the operations and potential outcomes of organizational activities. Financial reporting risk- those risk that relate directly to the recording of transactions and the presentation of financial data in an organizations financial statements. Engagement risk- the economic risk that a CPA firm is exposed to simply because it is associated with a particular client including loss of reputation. Audit program- executes the audit strategy. A detailed procedures to be performed. Standard all purpose audit program- lists standard practices applicable to almost every engagement Tailor made audit program- lists the procedures to be followed on a specific audit engagement Modified standard form audit program- a preprinted program that outline the usual audit procedures common to most businesses and provides space for an auditor to indicate other specific procedures applicable to the business under examination. Time budget- the estimate of the time that will be spent in executing the audit procedures listed in the audit program. Performance materiality- is used by the auditor to reduce the risk to an appropriate low level that the accumulation of uncorrected and unidentified misstatements exceeds materiality for the financial statements.

Audit planning- involves establishment of the overall audit strategy for the engagement and developing an audit plan, in order to reduce audit risk to an acceptably low level. Risk assessment procedures- procedures to be used to obtain an understanding about the entity and its environment including its internal control. Inherent risk- the susceptibility of an account balance or class of transactions to misstatement that could be material assuming there are no related controls. Control risk- the risk that a misstatement that could occur in an account balance or class of transactions and that could be material will not be prevented or detected and corrected on a timely basis by the accounting and internal control systems. Detection risk- the risk that an auditors substantive procedures will not detect a misstatement that exists in an account balance or class of transactions that could be material. Analytical procedures- involve analysis of significant ratios and trends, including the resulting investigation of fluctuations and relationships that are inconsistent with other relevant information or deviate from predicted amounts. Should be predictable 3 PHASES OF THE AUDIT PROCESS: RRR 1. risk assessment 2. risk response 3. reporting COMPONENTS OF RISK: FEBA 1. financial reporting risk 2. engagement risk 3. business risk 4. audit risk ASSERTIONS: 1. about classes of transactions and events: (OCCCA) a. occurrence- transactions and events that have been recorded have occurred and pertain to the entity. b. completeness- all transactions and events that should have been recorded have been recorded. c. accuracy- amounts and other data relating to recorded transactions and events have been recorded appropriately. d. cutoff- transactions and events have been recorded in the correct accounting period. e. classification- transactions and events have been recorded in the proper accounts. 2. about account balances at period end: (RECAV) a. rights and obligations- the entity holds or controls the rights to assets, and liabilities are the obligations of the entity b. existence- assets, liabilities, and equity interests exist. c. completeness- all assets, liabilities and equity interests that should have been recorded have been recorded.

d. allocation and valuation- assets, liabilities, and equity interests are included in the financial statements at appropriate amounts and any resulting valuation or allocation adjustments are appropriately recorded. *confirmation is only applicable to assertions about account balances 3. about presentation and disclosure (ORCCUAV) a. occurrence and rights and obligations- disclosed events, transactions, and other matters have occurred and pertain to the entity. b. completeness- all disclosures have been included in the financial statements have been included. c. classification and understandability- financial information is appropriately presented and described, and disclosures are clearly expressed. d. accuracy and valuation- financial and other information are disclosed fairly and at appropriately amounts. AUDIT PROCEDURES: ACRRIIO 1. analytical procedures 2. confirmation 3. recalculation 4. reperformance 5. inquiry 6. inspection 7. observation AUDIT PROCESS: 1. pre-engagement activities 2. audit planning 3. understanding the entity and its environment including its internal control 4. performing substantive testing 5. completing the audit 6. issuance of auditors report 7. post-engagement activities PRELIMINARY ENGAGEMENT ACTIVITIES: (PEE) 1. performance of the procedures regarding continuance of client relationship and specific audit engagements. 2. evaluating compliance with ethical requirements 3. establishing an understanding of the terms of the engagement. *evaluation of clients should be made once a year or upon occurrence. PRELIMINARY ENGAGEMENT ACTIVITIES CONSIDERATIONS: (ICIA) 1. independence of the firm 2. competence of the auditors 3. integrity of the management 4. ability to serve the client properly PERFORMING THE PRELIMINARY ENGAGEMENT ACTIVITIES AT THE BEGINNING OF THE CURRENT AUDIT ENGAGEMENT ASSISTS THE AUDITOR IN: PI 1. planning the audit 2. identifying areas that may adversely affect the auditors ability to perform the audit engagement

QUESTIONS THAT CAN BE RAISED BY A SUCCESSOR AUDITOR TO THE PREDECESSOR: ARA 1. any disagreement between the predecessor and the client 2. reasons for the change of the auditor. 3. any facts relating to the integrity of the client. ENGAGEMENT LETTER COMPRISES: FORRRBEATS 1. forms or any reports that the auditor expects to use 2. objective of the audit 3. responsibility of the auditor 4. responsibility of the management 5. responsibility of the client to allow the auditor to have unrestricted access to whatever records, documentation and other information requested in connection to the audit. 6. billing concerns 7. expectations of receiving management representation letter. 8. arrangement concerning involvement of others. 9. the fact that because of inherent limitations of the audit, there is an unavoidable risk that material misstatements may remain undiscovered. 10. scope of the audit IMPORTANCE OF ENGAGEMENT LETTER: TD 1. to avoid misunderstandings with respect to the engagement 2. document and confirm the auditors acceptance of the appointment FACTORS THAT MAY MAKE IT APPROPRIATE TO REVISE THE TERMS OF THE AUDIT ENGAGEMENT: CCRRESS 1. change in legal or regulatory 2. change in financial reporting framework 3. revised or special terms 4. recent change in senior management 5. entity misunderstands the scope and objective of the audit 6. significant change in ownership 7. significant change in nature, size of the entity FACTORS THAT MAY INFLUENCE THE AUDITORS DECISION WHETHER TO SEND A SEPARATE AUDIT ENGAGEMENT LETTER TO RELATED PARTIES: WWDDL 1. whether a separate auditors report is to be issued on the component. 2. who appoints the auditor 3. degree of ownership 4. degree of independence 5. legal requirements II. AUDIT PLANNING/UNDERSTANDING RISK ASSESSMENT PROCEDURES: AII 1. analytical procedures 2. inquiries 3. inspection and observation USES OF ANALYTICAL PROCEDURES 1. planning phase (required) 2. substantive procedures 3. completion phase (required) ASPECTS THAT NEED BE OBTAINED UNDERSTANDING: MINIT

1. measurement and review of the entitys performance. 2. industry, regulatory, and other external factors. 3. nature of the entity 4. internal control 5. the entitys objectives and strategies


1. the use of acceptable financial reporting framework of the management. 2. the agreement of management to the premise on which an audit is conducted. ADDITIONAL CONSIDERATION ON NEW ENGAGEMENTS: OP 1. that the opening balances do not contain material misstatements. 2. that the prior periods closing balances have been correctly brought forward to the current period or, when appropriate, MATERIALITY CAN BE EXPRESSED AS: LS 1. the largest amount that the auditor can tolerate 2. smallest aggregate amount that can misstate the financial statements. MATERIALITY INVOLVES: QQ 1. qualitative factors 2. quantitative factors USES OF MATERIALITY: PC 1. planning stage (to know the scope of procedures) 2. completion stage (to evaluate the effect) USING MATERIALITY IN AN AUDIT: DDPC 1. determine the overall materiality 2. determine the tolerable misstatement 3. perform audit procedures 4. compare the aggregate amount of misstatements with overall materiality BASES THAT CAN BE USED TO DETERMINE THE MATERIALITY LEVELS: BAP 1. budgeted financial statements. 2. annualized interim financial statements. 3. prior years financial statements. LEVELS OF MATERIALITY: OS 1. overall (financial statement level) 2. specific (assertion level) DOCUMENTATION OF THE PLANNING PROCESS: AAAT 1. audit plans 2. audit program 3. time budget 4. audit strategy EXTENT OF PLANNING WILL VARY ACCORDING TO THE: (SAC) 1. size of the entity 2. auditors knowledge and experience. 3. complexity of the audit BENEFITS OF PLANNING: FACTITA 1. facilitates the direction and supervision of the engagement team. 2. appropriate attention is given to important areas. 3. can respond to anticipated risks 4. the audit is conducted effectively and efficiently. 5. identifying and resolving potential problems. 6. the audit can be done expeditiously 7. assists in coordination of work done by the auditor.

SOURCES OF INFORMATION IN UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT INCUDING ITS INTERNAL CONTROL: RRRTD 1. review of prior periods working papers 2. reading publications related to the clients industry. 3. reading corporate documents and financial reports. 4. tour of clients facilities 5. discussion with people within and outside the entity. USES OF THE INFORMATION OBTAINED: PAPE 1. planning and performing the audit effectively and efficiently 2. assessing the risks and identifying potential problem 3. providing better service to the client. 4. evaluating audit evidence STEPS IN APPLYING ANALYTICAL PROCEDURES: DIC 1. develop expectations regarding financial statements 2. compare the expectations with the financial statements under audit 3. investigate significant differences DOCUMENTATION: TTKD 1. the identified and assessed risks of material misstatement at the FS level and assertion level 2. the risks identified and related controls evaluated. 3. key elements of the understanding obtained regarding each aspect. 4. discussion among the engagement team regarding the susceptibility of the entitys FS to material misstatements. AN AUDIT PLAN SHOULD BE MADE REGARDING: HW 1. how much evidence to accumulate 2. when and how the evidence be accumulated AUDIT PLAN INCLUDES: WATTDDAPAC 1. work to be done by the clients employer 2. audit objectives 3. timetable of the audit work 4. target completion date 5. Description of the clients company 6. description of the nature and extent of other services to be performed. 7. assignment of audit staff 8. preliminary evaluation about materiality 9. any special problems to be resolved. 10. conditions that may require changes in audit testing TYPEPS OF AUDIT PROGRAMS: TMS 1. tailor made audit proram 2. modified standard form audit program 3. standard all-purpose audit program PRECONDITIONS FOR AN AUDIT: UA

IN ESTABLISHING THE AUDIT STRATEGY: (ACCAI) 1. ascertain the reporting objective of the engagement to plan the timing and nature 2. consider the factors that are significant in directing the engagement teams efforts 3. the results of preliminary engagement activities 4. ascertain the nature, timing, and extent of resources necessary. 5. identify the characteristics of the engagement and its scope. STEPS IN USING THE AUDIT RISK MODEL: 1. set the desired level of audit risk 2. assess the level of inherent risk 3. assess the level of control risk 4. determine the acceptable level of detection risk Detection risk= audit risk/(inherent*control) 5. design substantive tests