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Advanced Auditing
Class Notes

Class One – Enron and WorldCom

Class Two – Ethics and Auditing

What are Values?

 Values are our fundamental beliefs. They are principles of we use to define
what is wrong and right, good and just.
 Values provide guidance in determining the right versus the wrong
 They are our standards

What is a Professional?
 Possesses specialized skill and knowledge
 Belongs to and abides by the standards of a society (follows a Code)
 Serves an important aspect of the public good

What is a Code of Ethics?

 Adopted by a community because its members accept the adherence to these
rules, including the restrictions that apply
 Consists of general statements of ideal conduct or specific rules that define
unacceptable behaviour
 Emphasizes positive activities

CPA Ethics Fundamental Principles:

 The public interest
 Members should accept the obligation to act in a way that will serve the
public interest, honor the public trust, and demonstrate commitment to

 Integrity:
o To maintain and broaden public confidence, members should perform
all professional responsibilities with the highest sense of integrity
 Objectivity and Independence:
o A member should maintain objectivity and be free of conflicts of
interest in discharging professional responsibilities.
o A member in public practice should be independent in fact and
appearance when providing auditing and other attestation services
 Due Care:
o A member should observe the profession’s technical and ethical
standards, strive continually to improve competence and the quality
of services, and discharge professional responsibility to the best of the
member’s ability
Why Do Auditing Professionals Need a Professional Code of Ethics?
 Codes of Conduct are concerned with a range of issues, including:
o Academic honesty
o Ensure adherence to confidentiality agreements
o Professional accountability
o Resolution of conflicts of interest

What does Having a Code Do For the Profession?

 Set out the ideals and responsibilities of the profession
 Exerts a regulatory effect, protecting both clients and professionals
 Improve the profile of the profession
 Provide guidance on acceptable conduct, raise awareness and consciousness
of issues
 Improve quality and consistency

Enron’s Code of Ethics: Highlights

 Respect:
o We treat others are we would like to be treated ourselves.
Ruthlessness, callousness and arrogance don’t belong here
 Integrity:
o We work with customers and prospects openly, honestly, and
sincerely. When we say we will do something, we will do it
 Communication:
o We believe that information is meant to move and that information
moves people

Moral Dilemma:
 Moral dilemma is a situation in which two or more obligations, duties, rights,
or ideals come into conflict
 To resolve we must:
o ID the factors
o Gather facts
o Rank considerations
o Consider alternative courses of action
o Arrive at a judgment
 Ethics – Auditors/Employers
 Ethics – Audit Employees
 Confidentiality

Class Three – Assurance Standards

What is an Assurance Engagement?

 An assurance engagement is an engagement where, pursuant to an
accountability relationship between two or more parties, a practitioner is
engaged to issue a written communication expressing a conclusion
concerning a subject matter for which the accountable party is responsible
 Not always financial statements

Accountability Relationship?
 An accountability relationship is a prerequisite for an assurance engagement
 Exists when:
o The accountable party is answerable to and/or is responsible to
another party (the user) for a subject matter

Levels of Assurance:
 Two distinct levels of assurance – a high level and a moderate level

What is a Review?
 In a review engagement practitioner = moderate level of assurance

General Standards:
 Before undertaking an assurance engagement, need to have reason to believe
that the engagement can be completed in accordance with the relevant
 SM is or will be within the collective professional expertise of the
practitioner and other persons performing the assurance engagement
 Two Responsibilities under the General Standards:
o The assurance engagement should be performed with due care and
with an objective state of mind
 Objective State of Mind:
o Remain unbiased in carrying out responsibility in forming conclusion
Performance/Examination Standards:
 The practitioner should identify or develop criteria that are suitable for
evaluating the subject matter
 What are criteria?
o Relevance
o Reliability
o Neutrality
o Understandability
o Completeness
 Criteria needs to have significance to be suitable in order to have an
appropriate conclusion

Special Purpose Financial Statements:

 Special purpose financial statement are a set of F/S that are prepared using a
special purpose framework to cater special needs of specific users of
financial statements
 Limited use, not for public consumption
 Users – management, special limited external users
 Less detailed
 Special purpose framework is considered special because it differs most of
the time significantly from the requirements of general purpose framework
 Does not necessarily have to have all the qualities and characteristics of
general purpose framework but such frameworks is designed to best suit the
information needs of specific user(s)
 Examples:
o Framework that does not comply with fundamental assumptions of
general-purpose framework; financial statements prepared using cash
basis. Such F/S may be helpful for certain stakeholders that are
interesting in knowing liquidity position of the entity like creditors
o Framework prepared according to taxation regulations ignoring
normal accounting norms; many a times tax regulations contradicts
accounting norms. If financial statements are prepared according to
guidance provided by taxation authorities then it is a special purpose
F/S based on special purpose framework
 Reporting guidelines as provided by regulatory bodies under specific
situations for example at the time of liquidation or some other matters
concerned authority may require preparers of financial statements to
prepare using different basis of reporting

Summary Financial Statements:

 Summary F/S – historical financial information that is derived from F/S but
that contains less detail than the F/S
 The auditor should only accept an engagement to report on summary F/S
only when the auditor has been engaged to conduct the audit of the complete
F/S from which the summary F/S are derived
 Before accepting an engagement to report on summary F/S:
o Determine whether they applied criteria are acceptable
o Obtain the agreement of management that it acknowledges and
understands its responsibility:
 For the preparation of the summary F/S in accordance with
the applied criteria
 To make the audited F/S available to the intended users of
the summary F/S without undue difficulty
 To include the auditor’s report on the summary F/S in any
documents that contains the summary F/S and that indicates
that the auditor has reported on them
 Agree with management the form of opinion to be expressed
on the summary F/S
 Statement that the auditor is responsible for expressing an
opinion about whether the summary F/S are consistent, in all
material respects, with the audited F/S based on the
procedures required by GAAS

Compliance with Agreements, Statues and Regulation:

 Audit opinion as to a client’s compliance with criteria established by
provisions of agreements, statutes, or regulations
 Wide variety of subject matters including:
o Report on whether funding received by an entity was spent for
intended purpose per agreement/regulation
o Reporting on compliance with leasing agreements
o Compliance with covenants in loan agreements
 Key Terms – compliance with specified provisions, criteria, internal control
over compliance, material non compliance

Performance Standards:
 Responsibilities: the work should be adequately planned and the practitioner
should ensure any other persons performing the assurance engagement are
properly supervised
 Need a general strategy and a detailed approach to the execution of the
 Factors including:
o Objective of the engagement
o Criteria to be used in the engagement
o Planned level of assurance
o Possible sources of evidence
o Preliminary judgments about materiality and expertise required,
including the nature and extent of specialist involvement
 Assurance is obtained through obtaining sufficient, appropriate audit
 The concepts of sufficiency and appropriateness of evidence are interrelated

Assertions F/S:
 Management asserts F/S are correct with regard to:
o Existence or occurrence of assets, liabilities, or transactions
o Completeness of information in the F/S
o Rights and obligations at a point in time
o Appropriate valuation or allocation
o Presentation and disclosure

Analytical Procedures Done Throughout the Audit

 Planning – understand clients industry and business, going concerns,
possible misstatements, reduce detailed tests
 Testing – possible misstatements, reduce possible tests
 Completion – assess going concern, indicate possible misstatements

Four General Types of Analytical Procedures:

1. Compare client and industry data
2. Compare client data with similar prior period data
3. Compare client data with client determined expected results
4. Compare client data with auditor determined expected results

Tips –
 Be proactive
 Look for patterns
 Evaluate management explanations
 Establish if they are reasonable to you or them

Class Four – Legal Liability and Independence

Deep Pocket Theory:

 When someone has caused you harm and you are able to pay even if you are
1% involved you are required to pay

What is Objectivity?
 Is an independent mental attitude which requires auditors to perform
audits in such a manger that they have an honest beliefs in their work
product and that no significant quality compromises are made
 Objectivity requires auditors not to subordinate their judgment on audit
matters to that of others
 The ability to view something without influence of feelings/emotions
Five Independence Threats:
1. Self interest
2. Self review
3. Advocacy
4. Familiarity
5. Intimidation

Non Audit Services:

 The standards for non-audit services is based on two principles:
o Auditors should not perform management functions or make
management decisions and
o Auditors should not perform management functions or make
management decisions and;
o Auditors should not audit their own work or provide non-audit
services in situations where the amounts or services involved are
material to the subject matter of the audit

Legal Liability – Objectives:

 Understand the environment in which CA’s practice
 Explain difference between business failure, audit failure, and audit risk
 Describe audit liabilities to clients and related defenses
 Describe liabilities to third parties and related defenses
 Specify criminal liabilities

Business Failure vs. Audit Failure

 Business Failure – a business fails because they are unable to satisfy your
cash flow obligations
 Audit Failure – occurs if an auditor fails to identify something or issues an
unqualified opinion when it is qualified

Liability to Clients:
1. Breach of Contract
 Inappropriate withdrawal from an audit
 Failure to discover theft – if specifically contracted
 Breaching confidentiality
2. Negligence
 The elements in any negligence action against your accountants are as
o Must have owed duty of care
o Must not have met the required standard of care
o Actions must have been the cause of plaintiff damages
o Damage must be reasonably foreseeable or not too remote
 Duty of Care – exists if relationship between parties that is sufficiently
close to allow one party to contemplate that carelessness on its part will
cause hard to the other party
 Damages – for the auditor to be liable, damages must be the proximate
result of negligence; limited to losses that use of reasonable care would
have avoided
 Liability to Third Parties Under Common Law – third parties include:
actual and potential stockholders, vendors, bankers, employees,
customers; bank could claim it relied on a F/S to provide loan
3. Gross Negligence (Recklessness/Constructive Fraud)
4. Fraud

Criminal Law:
 Can be found guilty for willful illegal conduct:
o Omission of material facts needed to not mislead
o Knowingly putting false information on F/S