Exam focus
A common requirement in the exam is to critically evaluate the audit work already performed on an engagement and identify if the audit has been carried out to the required standard of quality. If the firm does not perform work to a high quality it increases the risk of issuing an inappropriate report which could damage the reputation of the firm and the profession.
1 The principles and purpose of
There are two professional standards that set out the responsibilities of auditors regarding :
ISQC 1 for Firms that Perform Audits and Reviews of Financial Statements, and Other Assurance and Related Services Engagements which sets out an accountancy firm’s responsibilities with regard to their systems of for audits, reviews and other assurance engagements.
ISA 220 for an Audit of Financial Statements which applies to audit engagements only. It establishes the responsibilities of the auditor (mainly the engagement partner and engagement quality reviewer) regarding their procedures during audits.
Most of the requirements of ISA 220 are covered by ISQC 1. This chapter therefore focuses on ISQC 1 requirements.
The purpose of assurance services is to enhance the intended user’s confidence in the subject matter they are using to make decisions. In order for there to be confidence in the assurance process, engagements must be performed to a satisfactory quality. Failure to do so would not only mean a loss of confidence in the profession as a whole but could lead to professional negligence claims against the assurance provider.
If a professional negligence claim is made, and the firm has followed suitable procedures, they should be able to defend the claim.
Therefore firms must:
Perform work that complies with professional standards and regulatory and legal requirements.
Issue reports that are appropriate in the circumstances.
[ISQC 1, 11]
2 ISQC 1
ISQC 1 identifies six key principles:
Leadership: Strong and ethical leadership demonstrated by the managing partners.
Ethics: Firms comply with ethical requirements such as the Code of Ethics.
Acceptance and continuance: Only suitable clients and engagements are accepted and retained.
Human resources: A firm and its employees have the necessary knowledge, technical competence, and experience.
Engagement performance: Engagements are performed in an effective manner.
Monitoring: Evaluating the procedures to ensure they are effective.
[ISQC 1, 16]
Ethical considerations and arrangements for the acceptance and continuance of client relationships and specific engagements are covered in s 3 and 6 respectively. In this we will focus on the remaining four key principles.
Leadership
Firms must establish policies and procedures to promote an internal culture that recognises the importance of quality in performing engagements. This requires the firm’s management team (i.e. managing partners) to:
Establish policies and procedures to address performance evaluation, compensation and promotion to demonstrate commitment to quality.
Ensure commercial consideration does not override quality.
Ensure resources are sufficient to support the procedures.
Assign operational responsibility to those with sufficient and appropriate
experience, ability and authority to implement those procedures.
[ISQC 1, A5]
Human resources
The standard stresses that if a firm wants quality flowing through all levels of staff it must go through the steps outlined below.
[ISQC 1, A24]
A firm must have policies and procedures in place to ensure an appropriate engagement partner is assigned to an engagement, i.e. one who has the competence, capability and time to perform the role.
The engagement partner should then ensure the right people are allocated to the engagement team, i.e. staff with the relevant knowledge, experience, and training.
Engagement performance
Firms must design policies and procedures to ensure engagements are performed to a satisfactory standard. Policies and procedures should cover:
Matters relevant to promoting consistency in the quality of engagements. Supervision responsibilities.
Review responsibilities.
[ISQC 1, 32]
Consistency in the quality of engagement performance
Firms promote consistency through their policies and procedures. This is often accomplished through written manuals, software tools and standardised documentation. Particular matters that can be addressed include:
How engagement teams are briefed to obtain an understanding of the engagement and their objectives.
Processes for complying with engagement standards.
Processes of engagement supervision, training and coaching.
Methods of reviewing work, judgments and reports issued.
Documentation of work performed and the timing and extent of reviews. Processes to keep policies and procedures current.
[ISQC 1, A32]
Supervision responsibilities
Supervision responsibilities include:
Tracking the progress of the engagement.
Considering the competence and capabilities of the team members.
Addressing significant matters that arise during the engagement.
Identifying difficult or contentious matters for consultation. Areas requiring consultation (both internally and externally) should be organised in advance to facilitate timely, and cost effective, completion of the engagement.
[ISQC 1, A34]
Review responsibilities
Work of less experienced team members should be reviewed by more experienced team members to identify whether:
The work has been performed in accordance with professional standards. Significant matters have been raised for further consideration.
Appropriate consultations have taken place and resulting conclusions have been documented.
The work performed supports the conclusions reached and is appropriately documented.
The evidence obtained is sufficient and appropriate to support the report. The objectives of the engagement procedures have been achieved. [ISQC 1, A35]
Engagement review
Listed entities and other high risk clients should be subject to an engagement review (EQCR). This is also referred to as a pre-issuance review or ‘Hot’ review.
High risk clients include those which are in the public interest, those with unusual circumstances and risks, and those where laws or regulations require an EQCR.
The EQCR should include:
Discussion of significant matters with the engagement partner.
Review of the financial statements and the proposed report.
Review of selected engagement documentation relating to significant judgments the engagement team made and the conclusions reached. This includes:
– Significant risks and responses to those risks
– Judgments with respect to materiality and significant risks
– Significance of uncorrected misstatements
– Matters to be communicated to management and those charged with governance, and where applicable, other parties such as regulatory bodies.
[ISQC 1, A45]
Evaluation of conclusions reached in formulating the report and consideration of whether the proposed report is appropriate.
The engagement team’s evaluation of the firm’s independence.
Whether appropriate consultation has taken place on matters involving
differences of opinion and the conclusions of those consultations.
Whether documentation selected for review reflects work performed in relation to significant judgments and supports the conclusions reached.
[ISQC 1, 37]
Eligibility criteria
The engagement reviewer:
should have the technical qualifications to perform the role, including the necessary experience and authority, and
should be objective. To be objective the reviewer should not be selected by the engagement partner and should not participate in the engagement.
[ISQC 1, 39]
Monitoring
policies alone do not ensure good quality work. They must be implemented effectively. Therefore the firm must evaluate:
Adherence to professional standards and regulatory/legal requirements.
Whether s have been implemented on a day-to-day basis.
Whether the firm’s policies and procedures are effective so that reports issued by the firm are appropriate in the circumstances.
[ISQC 1, A64]
Firms should carry out post-issuance or ‘cold’ reviews to ensure that procedures are adequate, relevant, and are operating effectively.
| Post-issuance (Cold) review | ||
| Purpose… | To assess whether the firm’s policies and procedures | |
| were implemented during an engagement and to | ||
| identify any deficiencies therein. | ||
| When… | After an engagement has been completed. | |
| Which files… | A selection of completed engagements. | |
| Who by… | A dedicated compliance or quality department/a | |
| qualified external consultant/an independent partner. | ||
| What considered… | Working papers should demonstrate that: | |
| Sufficient appropriate evidence has been | ||
| obtained | ||
| All matters were resolved before issuing the | ||
| auditor’s report. | ||
| All working papers should be: | ||
| On file | ||
| Completed | ||
| Signed as completed | ||
| Evidenced as reviewed. | ||
| Outcomes… | A report of the results will be provided to the partners | |
| of the firm flagging deficiencies that require corrective | ||
| action. Recommendations will be made including: | ||
| Communication of findings | ||
| Additional reviews | ||
| Training | ||
| Changes to the firm’s policies and procedures | ||
| Disciplinary action. | ||
| 5 | |||||||||
| Summary of pre and post-issuance reviews | |||||||||
| Pre-issuance (Hot) review | Post-issuance (Cold) | ||||||||
| review | |||||||||
| Purpose… | To enhance the quality of | Monitoring – to identify | |||||||
| assurance work. | any deficiencies in the | ||||||||
| firm’s processes. | |||||||||
| When… | Before the auditor’s report is | After the auditor’s report | |||||||
| issued. | has been issued. | ||||||||
| Which | Listed clients | A selection of completed | |||||||
| files… | Public interest | engagements. | |||||||
| engagements | |||||||||
| Engagements where | |||||||||
| there are particular risks | |||||||||
| Each partner should | |||||||||
| have some of their | |||||||||
| engagements reviewed. | |||||||||
| Who by… | An independent partner of | A dedicated compliance | |||||||
| suitable experience and | or quality department/a | ||||||||
| authority. | qualified external | ||||||||
| consultant/an | |||||||||
| independent partner. | |||||||||
| What | Processes underpinning | Wholesale review of all | |||||||
| considered.. | judgments made. | working papers on an | |||||||
| . | audit file. | ||||||||
| Specifically.. | Processes underpinning | To ensure that all | |||||||
| . | judgments about: | working papers are: | |||||||
| Significant risks and | On file | ||||||||
| responses to them | Complete | ||||||||
| Matters requiring | |||||||||
| Signed as | |||||||||
| consultation | |||||||||
| completed | |||||||||
| Materiality | |||||||||
| Evidenced as | |||||||||
| Independence | |||||||||
| reviewed | |||||||||
| Conclusions | The work | ||||||||
| Misstatements | undertaken is | ||||||||
| sufficient and has | |||||||||
| The audit opinion | |||||||||
| been documented | |||||||||
| Matters to be | appropriately. | ||||||||
| communicated to | |||||||||
| management and those | |||||||||
| charged with | |||||||||
| governance. | |||||||||
| 133 | |||||||||
| Outcomes… | A reduction in audit risk, | Identify corrective action | ||||
| i.e. the risk that the auditor | that should be taken. | |||||
| expresses an inappropriate | Recommendations will be | |||||
| audit opinion when the | made including: | |||||
| financial statements are | Communication of | |||||
| materially misstated. | ||||||
| findings | ||||||
| Additional quality | ||||||
| control reviews | ||||||
| Training | ||||||
| Changes to the | ||||||
| firm’s policies and | ||||||
| procedures | ||||||
| Disciplinary action. | ||||||
3 Documentation
In addition to the main elements of identified in the previous sections, ISA 220 for an Audit of Financial Statements also requires auditors to document certain matters:
Issues with respect to ethical requirements and how they were resolved. Conclusions on compliance with independence requirements.
Conclusions reached regarding the acceptance and continuance of engagements.
The nature, scope and conclusions resulting from consultations undertaken during the course of the audit.
[ISA 220, 24]
During completion of the audit the engagement quality reviewer has to document:
The procedures required by the firm’s engagement quality review procedures.
That the engagement quality review has been completed (on or before the date of the auditor’s report).
That the reviewer is not aware of any unresolved matters that would cause the reviewer to believe that the significant judgments of the team were not appropriate.
[ISA 220, 25]
Audit quality monitoring
In the UK, monitoring visits are carried out by the national regulatory body. During 2016/17, 81% of audits were assessed as good or only requiring limited improvements compared with 77% in the prior year.
The five most common areas of concern were:
Fair value and value in use measurements including impairment testing and property valuations
Revenue recognition
Audit committee communication
Auditor’s reports inaccuracies Independence and ethics.
FRC Audit Quality Thematic Reviews
Thematic reviews are inspections performed by the FRC which look at specific aspects of the audit process.
Engagement Reviews (EQCR)
One tenth of the audits reviewed identified weaknesses in the audit work that the EQCR did not identify which could directly impact audit quality.
Principal findings
Some EQCRs did not have sufficient specialist experience, limiting
their ability to evaluate key judgments specific to the industry.
The need to be objective is not always adhered to. For example, on one audit the EQCR was to become the audit partner following the audit and had attended audit committee meetings as an observer. In several audits the name of the EQCR was included in the tender document and could therefore have been contacted by the audit committee which would threaten their objectivity.
In several audits there was insufficient evidence that the EQCR had been performed.
In several audits the EQCR had been performed too late to provide meaningful input.
In several audits the EQCR had not identified deficiencies in the work performed by the audit team that should have been identified and raised by the EQCR.
The FRC has recommended that audit firms evaluate the effectiveness of the EQCR to prevent these weaknesses recurring. When ensuring the EQCR is effective firms must consider:
The eligibility of the person to perform the EQCR taking into consideration the qualifications and experience of the reviewer.
Objectivity of the EQCR throughout the whole audit, not just at the start of the audit.
The EQCR should be performed in a timely and effective manner to ensure there is sufficient time to resolve issues and perform more audit work if necessary.
There must be evidence of the EQCR.
In order to ensure effectiveness of the EQCR firms should:
Complete checklists confirming completion of procedures required by standards.
Copies of financial statements and reports to the audit committee should be annotated by the EQCR and kept as evidence of review.
Key audit working papers should be signed off by the EQCR to indicate that they have read them.
EQCR notes should be kept as evidence.
Audit file notes of significant matters discussed with the audit team and how they were resolved should be kept as evidence.
The time recorded by the EQCR on the audit should be recorded. Firms should ensure the ECQR has sufficient industry experience.
The EQCR should be required to re-confirm their objectivity at the completion stage to ensure any issues arising during the audit have been appropriately dealt with.
Firms’ Audit Procedures and Other Audit Quality Initiatives
26 audits from the six largest audit firms were reviewed during 2016/17 with a focus on leadership responsibilities for within the firm, human resources and engagement performance.
Key findings
Leadership
All firms have audit quality policies and procedures in place.
All firms have resources at a leadership and management level dedicated to audit quality.
Review of work by more senior members
All firms have policies where the audit work is reviewed by someone more senior.
However, 31% of the audits reviewed required more than limited improvement as the procedures were not sufficiently robust.
Inclusion of specialists and experts in the audit team
Specialists were included in audit teams for all audits reviewed, mainly in the areas of taxation, valuations and IT.
Where references were made to the specialists’ work in the auditor’s report some were not described accurately.
Consultation on accounting or audit matters
Audit teams documented consultations clearly and in line with methodology requirements.
Evaluation of the overall presentation of the financial statements
All firms have a technical review process to help ensure the quality of the financial statements being audited.
One firm included a review of the audit file as part of the technical review.
Use of service delivery centres
Five firms used service delivery centres (SDCs) for the completion of certain elements of audit work.
Four of these firms stipulated the nature of the audit work that was permitted to be performed by the SDC.
One firm placed the onus on the audit team to evaluate if the SDC staff had the skills and competence to complete the work assigned.
Audit firms should consider how audit quality can be maintained or improved as the trend for outsourcing audit work increases.
Real time quality reviews of audit work in progress
Five firms have implemented a real time independent quality review on a sample of audits.
One firm performs an independent review of audit work for all audits.
Compliance monitoring
All firms conducted post-issuance reviews.
Two firms had post-issuance reviews to provide feedback and coaching to audit teams.
Good practices observed
Half of the firms have dedicated boards or committees tasked with overseeing, maintaining and continuously improving audit quality.
One firm has established an audit quality forum where audit staff discuss audit quality improvements.
Audits with a higher level of partner or director had a greater likelihood of achieving a high quality outcome prior to issuing the auditor’s report.
There is a consultation culture embedded in the firms with a willingness to improve audit quality.
Having a technical reviewer who considers additional information as well as the financial statements increases the likelihood of potential material undisclosed matters being identified by the technical reviewer.
Two firms perform periodic pre-issuance reviews of each partner and manager at least once during the year.
All firms are recommended to consider these good practices and implement them where appropriate.
Future activity
The IAASB intends to incorporate a quality management (QMA) approach to strengthen and improve the management of risks to quality. ISQC 1 will be revised to incorporate the principles of the QMA at the firm level. ISA 220 will be revised to incorporate the principles of the QMA at the engagement level. The current standards are no longer deemed sufficient to support audit firms in today’s environment.
Good quality monitoring
Monitoring should be performed on an ongoing, cyclical basis, including an inspection of at least one completed engagement for each engagement partner. The responsibility for this monitoring process should be assigned to a partner and those performing the inspections should not have had any involvement in the engagements under review.
The monitoring process goes beyond the simple enforcement of policies and procedures. It has to consider:
How the firm responds to new developments in professional standards and regulatory and legal requirements.
How the firm ensures compliance with independence rules by all its partners and staff. (Usually achieved through the use of independence or ‘fit and proper’ forms, which will need checking for completeness).
How the firm ensures all partners and staff comply with continuing professional development requirements. (Often achieved by controlling course bookings centrally, or by maintaining training logs).
How the firm ensures that appropriate decisions are made about the acceptance of new appointments or the continuance of client relationships. (Should be covered as part of the independent review of assignments).
Arrangements then need to be made for follow up where breaches of policy or ineffective procedures are revealed.
Applying ISQC 1 proportionately with the size and nature of a firm
The IAASB allows proportionate application of the requirements of ISQC 1 for smaller firms.
Firms need only comply with those requirements that are relevant to the services provided.
Firms can exercise appropriate judgment in implementing a system of .
Firms can draw on external resources to meet some of the requirements.
ISQC 1 does not suggest a specific approach to implementation in order to allow smaller firms the flexibility to apply the provisions proportionately.
Smaller firms may have less formal processes, procedures and communication than larger firms.
Smaller firms can use advisory services provided by other firms, professional and regulatory bodies and commercial organisations that provide services.
Monitoring of procedures must still be performed by smaller firms. These may be performed by individuals who are responsible for the design and implementation of the policies and procedures, or who may be involved with the review.
The firm can also choose a qualified external person to carry out inspections.
The existence of an audit regulator inspection program is not a substitute for the firm’s own monitoring program.
ISQC 1 requires inspection of at least one completed engagement for each engagement partner on a cyclical basis. This must not be conducted by personnel involved in performing the engagement. Smaller firms may make arrangements with other smaller firms to perform inspections of each other’s files.
IAASB: A Framework for Audit Quality
The objectives of the Framework of Audit Quality include:
Raising awareness of the key elements of audit quality.
Encouraging key stakeholders to explore ways to improve audit quality.
Facilitating greater dialogue between key stakeholders on the topic.
The IAASB expects that the Framework will generate discussion, and positive actions to achieve a continuous improvement to audit quality.
The IAASB believes that such a Framework is in the public interest as it will:
Encourage firms and professional accountancy organisations to reflect on how to improve audit quality and better communicate information about audit quality.
Raise the level of awareness and understanding among stakeholders of the elements of audit quality.
Enable stakeholders to recognise factors which require priority to enhance audit quality.
Assist standard setting, both nationally and internationally.
Facilitate dialogue between the IAASB and key stakeholders. Stimulate academic research.
Assist auditing students to understand the fundamentals of the profession.
A quality audit is likely to have been achieved by an engagement team that has:
Exhibited appropriate values, ethics and attitudes.
Was sufficiently knowledgeable, skilled and experienced and had sufficient time allocated.
Applied a rigorous audit process and audit procedures compliant with law, regulation and applicable standards.
Provided useful and timely reports.
Interacted appropriately with relevant stakeholders.
The Framework contains the following elements:
- Inputs
The values, ethics and attitudes of auditors.
- Process
The rigor of the audit process and procedures that impact audit quality. The firm’s audit methodology should evolve with changes in professional standards. Whilst methodologies enable an efficient and effective audit to take place, there is a risk that insufficient emphasis will be given to tailoring the audit procedures to the specific circumstances of the client. Therefore a firm’s methodologies should be flexible and adapted to each client to ensure a quality audit is performed.
- Outputs
The reports and information that are formally prepared and presented by one party to another. The outputs from the audit are often determined by the context, including legislative requirements.
- Key interactions within the financial reporting supply chain The formal and informal communications between stakeholders groups. Audit quality will be affected by the frequency of communication and the nature of the information communicated. Expectations can be managed through effective communication.
- Contextual factors
These are environmental factors such as laws and regulations and corporate governance which have the potential to impact the nature and quality of financial reporting and therefore audit quality.
Approach to exam questions:
A common requirement in the exam is to critically evaluate the audit work already performed on an engagement and identify if the audit has been carried out to the required standard of quality.
In order to assess the quality of the audit you should consider factors such as:
Have ISAs been followed?
If not, sufficient appropriate evidence will not have been obtained and an inappropriate report may be issued.
Has the work been allocated to the appropriate level of staff? Areas which are judgmental or subjective, such as goodwill, WIP, impairments, fair values, revenue recognition, material estimates, should be audited by senior members of the team with appropriate experience. Juniors may also apply less professional scepticism than someone more senior.
Has the audit been time pressured?
If the audit has been rushed insufficient work will have been performed and conclusions may not be appropriate.
Has the appropriate type of evidence been obtained?
Auditors should try and obtain the most reliable forms of evidence. Too much reliance on enquiry and written representations may mean sufficient appropriate evidence has not been obtained and sufficient scepticism has not been applied.
Has the audit been performed in accordance with the audit plan? The audit plan will have been developed to address the risks of material misstatement. Sample sizes will have been chosen to ensure sufficient appropriate evidence is obtained. If the plan is not followed, inappropriate conclusions may be drawn.
Has the audit been properly supervised and reviewed? Supervision is necessary to ensure issues are identified on a timely basis, the competence of the team is continually assessed and the audit is on track to be completed on schedule. If there is inadequate supervision issues will not be identified. Look for information in the scenario that suggests the supervisor has been too busy with other work, has been absent during the audit or has not visited the client for a while.
Reviews should take place on a timely basis to ensure the work has been performed to the required standard. Issues which need to be dealt with by someone more senior can then be resolved. Review of work should be taking place on a timely basis, i.e. shortly after the work has been completed, not several weeks later. Reviews should be performed by someone more senior than the person who performed the work to ensure issues are identified. If issues are discovered too late there may not be sufficient time to address them.
Test your understanding 1
You are the manager responsible for the quality of the audits of new clients of Signet, a firm of Chartered Certified Accountants. You are visiting the audit team at the head office of Agnesal, a limited liability company, the date is 5 June 20X4. The audit team comprises Artur Bois (audit supervisor), Carla Davini (audit senior) and Errol Flyte and Gavin Holst (trainees). The company provides food hygiene services which include the evaluation of risks of contamination, carrying out bacteriological tests and providing advice on health regulations and waste disposal.
Agnesal’s principal customers include food processing companies, wholesale fresh food markets (meat, fish and dairy products) and bottling plants. The draft accounts for the year ended 31 March 20X4 show revenue $19.8 million (20X3: $13.8 million) and total assets $6.1 million (20X3: $4.2 million).
You have summarised the findings of your visit and review of the audit working papers relating to the audit of the financial statements for the year to 31 March 20X4 as follows:
- Against the analytical procedures section of the audit planning checklist, Carla has written ‘not applicable – new client’. The audit planning checklist has not been signed off as having been reviewed by Artur.
- Artur is currently assigned to three other jobs and is working from Signet’s office. He last visited Agnesal’s office when the final audit commenced two weeks ago. In the meantime, Carla has completed the audit of non-current assets (including property and service equipment) which amount to $1.1 million as at 31 March 20X4 (20X3: $1.1 million).
- Errol has just finished sending out requests for confirmation of trade receivable balances as at 31 March 20X4 when trade receivables amounted to $3.5 million (20X3: $1.6 million).
- Agnesal’s purchase clerk, Jules Java, keeps $2,500 cash to meet sundry expenses. The audit program shows that counting it is ‘outstanding’. Carla has explained that when Gavin was sent to count it he reported back, two hours later, that he had not done it because it had not been convenient for Jules. Gavin had, instead, been explaining to Errol how to extract samples using value-weighted selection. Although Jules had later announced that he was ready to have his cash counted, Carla decided to postpone it until later in the audit. This is not documented in the audit working papers.
- Errol has been assigned to the audit of inventory (comprising consumable supplies) which amounts to $150,000 (20X3: $90,000). Signet was not appointed as auditor until after the year-end physical count. Errol has therefore carried out tests of controls over purchases and issues to confirm the ‘roll-back’ of a sample of current quantities to quantities as at the year-end count.
- Agnesal has drafted its first ‘Report to Society’ which contains health, safety and environmental performance data for the year to 31 March 20X4. Carla has filed it with the comment that it is ‘to be dealt with when all other information for inclusion in the company’s annual report is available’.
Required:
Identify and comment on the implications of these findings for Signet’s
policies and procedures. (15 marks)
Test your understanding 2
You are a senior manager with Flute and Co and are a member of the team conducting cold reviews. You are currently reviewing the audit file of Cello Co, a subsidiary of a listed overseas parent, which imports and distributes office furniture, usually manufactured by other group companies.
During your review you notice the following.
Minutes of the planning meeting are on file but were not signed by the partner.
The company’s year-end is 31 December. Fieldwork was completed by 15 February and the financial statements together with the auditor’s report were signed on 15 April. The subsequent events checklist was completed on 15 February.
The company has very little headroom in its overdraft and apparently no other borrowing facilities.
There is a letter of support on file from the holding company dated 15 April.
Materiality is calculated at $60,000, which is in line with the firm’s recommended procedures.
Non-current assets consist of office furniture, office equipment and racking and forklifts for the rented warehouse. Carrying value is $250,000 and additions in the year were $40,000. Copy invoices for all the additions are on file but you find it difficult to see precisely what work was done and the working papers other than the pre-printed audit programme and lead schedule were neither initialled nor dated.
The receivables circularisation was successful except for one non-reply for $40,000.
Required:
Comment on the quality of the audit of Cello Co and describe the recommendations would you make to the firm’s audit quality committee.
(10 marks)
Test your understanding 3
‘The objective of the auditor is to implement procedures at the engagement level that provide the auditor with reasonable assurance that:
– The audit complies with professional standards and applicable legal and regulatory requirements; and
– The auditor’s report issued is appropriate in the circumstances.’
(ISA 220 for an Audit of Financial Statements).
| Required: | ||
| Describe the nature, and explain the purpose of | (5 marks) | |
| procedures appropriate to the individual audit. |
Test your understanding 1
Implications of findings for QC policies and procedures
- Analytical procedures
Analytical procedures should have been performed at the planning stage, to assist in understanding the business and in identifying areas of potential risk, in accordance with ISA 315 (Revised) Identifying and Assessing the Risks of Material Misstatement through Understanding the Entity and Its Environment. The audit senior should know this.
Audit staff may have insufficient knowledge to assess the risks of the highly specialised service industry in which this new client operates. In particular, Agnesal may be exposed to risks resulting in unrecorded liabilities (both actual and contingent) if claims are made against the company in respect of outbreaks of contamination.
The audit has been inadequately planned and audit work has commenced before the audit plan has been reviewed by the audit supervisor. The audit may not be carried out effectively and efficiently.
- Supervisor’s assignments
The senior has performed work on non-current assets which is a less material (18% of total assets) audit area than trade receivables (57% of total assets) which has been assigned to an audit trainee. Non-current assets also appears to be a lower risk audit area than trade receivables because the carrying amount of non-current assets is comparable with the prior year ($1.1 m at both year-ends), whereas trade receivables have more than doubled (from $1.6m to $3.5m). This corroborates the implications of (i).
The audit is being inadequately supervised as work has been delegated inappropriately. It appears that the firm does not have sufficient audit staff with relevant competencies to meet its supervisory needs.
- Direct confirmation
It is usual for direct confirmation of trade receivables to be obtained where trade receivables are material and it is reasonable to expect customers to respond. However, it is already more than two months after the statement of financial position date and, although trade receivables are clearly material (57% of total assets), an alternative approach may be more efficient (and cost effective). For example, testing of after-date cash will provide evidence about the collectability of trade receivables as well as corroborate their existence.
- Cash count
Although $2,500 is very immaterial, the client’s management may expect the auditor to count it to confirm that it has not been misappropriated.
The briefing given to the trainee may have been inadequate. For example, Gavin may not have understood the need to count the cash at the time the request was made of the client. However, the behaviour of Gavin also needs to be investigated in that he failed to report back to the audit senior on a timely basis and allowed himself to be unsupervised.
The trainees do not appear to have been given appropriate direction. Gavin may not be sufficiently competent to be explaining sample selection methods to another trainee.
Although it is not practical to document every matter, details should have been recorded to support Carla’s decision to change the timing of a planned procedure. Carla’s decision appears justified as it is inappropriate to perform a cash count when the client is ‘ready’ for it. Also, if some irregularity is discovered by the client at a later date (e.g. if Jules is found to be ‘borrowing’ the cash), documentation must support why this was not detected sooner by the auditor.
- Inventory
Whilst material, (2.5% of total assets), inventory is relatively low risk given the company has no inventory-in-trade, only consumables used in the supply of service. Therefore it seems appropriate that a trainee should be auditing it. However, the audit approach appears highly inefficient. Such in-depth testing (of controls and details) on a relatively low risk area may be due to a lack of monitoring or a mechanical approach being adopted by a trainee. This provides further evidence that the audit has been inadequately planned, and demonstrates a lack of knowledge and understanding about Agnesal’s business. This may be a further consequence of the audit having been inadequately planned.
Supervision of the audit may be inadequate. For example, if the audit trainee did not understand the alternative approach but mechanically followed circularisation procedures.
Depending on the reporting deadline, there may still be time to perform a circularisation. However, consideration should be given to circularising the most recent month-end balances (i.e. May) rather than the year-end balances which customers may be unable or reluctant to confirm retrospectively.
- ‘Report to society’
The audit senior appears to have assumed that this is other information to be included in a document containing audited financial statements (the annual report). To be dealt with presumably means to be read with a view to identifying significant misstatements or inconsistencies. The comment indicates that Carla possibly does not know what needs to be done with the report. By leaving it until the end of the audit, it could cause problems, for instance if the audit firm is actually required to provide assurance on the Report to Society there may not be sufficient time to perform the work required to be able to issue the report by the required deadline.
As the preceding analysis casts doubts on Signet’s ability to deliver a quality audit to Agnesal, it seems unlikely that Signet has the resources and expertise necessary to provide such assurance services.
Conclusions
The audit is not being conducted in accordance with ISAs e.g. ISA 315
Identifying and Assessing the Risks of Material Misstatement Through Understanding the Entity and Its Environment and ISA 520 Analytical Procedures which indicates Signet’s policies and procedures are not established and/or not being communicated to personnel.
Audit work is being assigned to personnel with insufficient technical training and proficiency which indicates weaknesses in procedures for hiring and/or training of personnel.
Insufficient direction, supervision and review of work at all levels suggests a lack of resources.
In deciding whether or not to accept the audit of Agnesal, Signet should have considered whether it had the ability to serve the client properly. The partner responsible for accepting the engagement does not appear to have evaluated the firm’s (lack of) knowledge of the industry.
Test your understanding 2
Planning meeting
The planning should be documented fully and approved by the partner before the start of fieldwork. It is possible that evidence of this approval is to be found elsewhere on the file, but it would have been better if the partner had signed off the meeting minutes as soon as they were available.
Going concern and subsequent events
The subsequent events review should be updated to the date of signing the auditor’s report. The review should arguably be more rigorous and comprehensively documented because of the lack of financial facilities and the raised risk of going concern issues.
The fact that the parent is listed overseas does not mean that the comfort letter is valid evidence that Cello Co is a going concern.
It may be that the letter of comfort from the holding company is sufficient to eliminate this risk, but this should be made clear on the file, and the checklist still needs updating.
Non-current assets
Non-current assets might be considered low risk, but the total is material, even if the current year’s additions may not be material.
This section of the file demonstrates a lack of clarity in the approach to the audit and the firm’s basic procedures for initialling and dating working papers have not been observed, albeit in what may be a relatively low-risk area.
Receivables
The uncleared item may not be material but it may be in excess of the tolerable error threshold.
The item should have been followed up and other evidence obtained and, if this was not possible, the potential misstatement should have been calculated in theoretical terms to see if the misstatement in the financial statements as a whole might have been material.
Conclusions/recommendations
There is a risk that the auditor’s report (on the assumption that an unmodified opinion was given) is wrong because of the going concern and receivables issues.
Planned audit procedures need to be followed for the planning meeting, subsequent events review, non-current assets working papers and receivables sample.
Training implications need to be considered.
Test your understanding 3
procedures
s are the policies and procedures adopted by a firm to provide reasonable assurance that all audits done by a firm are being carried out in accordance with the objective and general principles governing an audit.
Individual audit level
Work delegated to assistants should be directed, supervised and reviewed to ensure the audit is conducted in compliance with ISAs.
Assistants should be professionally competent to perform the work delegated to them with due care.
Direction (i.e. informing assistants about their responsibilities and the nature, timing and extent of audit procedures they are to perform) may be communicated through:
– briefing meetings and on-the-job coaching
– the overall audit plan and audit programs
– audit manuals and checklists
– time budgets.
Supervisory responsibilities include monitoring the progress of the audit to ensure that assistants are competent, understand their task and are carrying them out as directed. Supervisors must also address accounting and auditing issues arising during the audit (e.g. by modifying the overall audit plan and audit program).
The work of assistants must be reviewed to assess whether:
– it is in accordance with the audit program
– it is adequately documented
– significant matters have been resolved
– objectives have been achieved
– conclusions are appropriate (i.e. consistent with results). Documentation which needs to be reviewed on a timely basis includes:
– the overall audit plan and any modifications thereto
– results from tests of control and substantive procedures
– conclusions drawn
– audit adjustments
– financial statements
– proposed audit opinion.
An independent review (i.e. by personnel not otherwise involved in the audit), to assess the quality of the audit (before issuing the auditor’s report) should be undertaken for listed and other public interest or high risk audit clients.
Additional point
procedures reduce the risk of litigation claims thereby reducing the risk of reputational damage.
