 Assurance services (Chapter-1)

 Attestation (Chapter-1)
 Financial reporting framework, GAAP & GAAS, PCAOB, AICPA, SBA
(Chapter-1)
 Independence and threats (Chapter-3)
 Types of audits and auditors (Chapter-1)
 Responsibility of auditors (Chapter-2)
 Why audits are demanded by society (Chapter-1)
 Nature of financial statement audits (Chapter-1)
 Ethics and ethical dilemmas and principles (Chapter-3)
 Elements of quality control (Chapter-2)
 GAAS principles (Chapter-2)
 10 Generally accepted auditing standards
(PCAOB standards (Chapter-2)
 Standard auditors report & its elements (Chapter-2)

2-1
©McGraw-Hill Education. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further
distribution permitted without the prior written consent of McGraw-Hill Education. 2-2
Three sets of auditing standards
 AICPA (Auditing Standards Board) for
nonpublic companies in US.
 PCAOB for public companies in US

 International Auditing Standards with

differing levels of authority in the various
countries

©McGraw-Hill Education 2-3

©McGraw-Hill Education 2-4
 Public Company Accounting Oversight Board
 Auditing, Attestation, Quality Control, Independence, Ethical
Standards for audits of public companies
 Registers and regulates auditors of public companies

 American Institute of Certified Public Accountants

 Auditing, Attestation, Quality Control, Independence, Ethical,
Accounting and Review Standards for engagements involving
nonpublic companies
 Coordinates peer review programs for firms nonpublic attest
practice
 State Boards of Accountancy
 License CPAs and CPA firms to practice in their jurisdictions

©McGraw-Hill Education 2-5

©McGraw-Hill Education 2-6
 General Standards
 Standards of Field Work
 Reporting Standards

2-7
1. Adequate technical training and
proficiency
2. Independence in mental attitude is to
be maintained
3. Due professional care is to be
exercised

2-8
1. Auditor must adequately plan and properly
supervise work
2. Auditor must obtain a sufficient
understanding of entity, and its
environment, including internal control to
assess risk of material misstatement and to
design further audit procedures
3. Auditor must obtain sufficient appropriate
audit evidence to afford a reasonable basis
for the opinion

2-9
1. State whether the financial statements are
presented in accordance with GAAP
2. Identify circumstances in which such principles
have not been consistently applied
3. Informative disclosures are adequate unless
otherwise stated in the report
4. Report should clearly state the degree of
responsibility being assumed by the auditors by
expressing an opinion or stating that one cannot be
expressed, and the reason therefore should be
stated.

2-10
 Purpose of an audit
 Premise of an audit
 Personal responsibilities of the auditor
 Auditor actions in performing the audit
 Reporting the results of an audit

©McGraw-Hill Education 2-11

 Purpose of an audit—Provide an opinion
that financial statements are in
accordance with the applicable financial
reporting framework.
 In the U.S. the framework is ordinarily
GAAP.
 The applicable framework corresponds to
the “suitable criteria” of an attest
engagement.

©McGraw-Hill Education 2-12

 Premise of an audit—Management (and
those charged with governance) have
responsibility to:
 Prepare financial statements in accordance
with applicable financial reporting
framework.
 Provide auditors with needed information
and unrestricted access to those in the
entity.
©McGraw-Hill Education 2-13
 Personal responsibility of the auditor—
Appropriate competence and capabilities to
perform audit in accordance with standards,
including maintaining professional skepticism
and exercising professional judgment
throughout the audit.
 Professional skepticism—A questioning mind and
a critical assessment of audit evidence.

©McGraw-Hill Education 2-14

 Auditor actions in performing the audit
 Obtain reasonable assurance about whether
financial statements are free from material error
or fraud.
 The auditor is unable to provide absolute
assurance due to:
 Nature of financial reporting.
 Nature of audit procedures.
 Need to conduct audit within a reasonable period of
time.

©McGraw-Hill Education 2-15

 Reporting the results of an audit—
Express in a written report an opinion on
findings (or statement that opinion
cannot be expressed).
 The opinion is on whether the financial
statements are in accordance, in all material
respects, with the applicable financial
reporting framework.

©McGraw-Hill Education 2-16

©McGraw-Hill Education 2-17
©McGraw-Hill Education 2-18
©McGraw-Hill Education 2-19
 Obtain information to assess inherent risks and fraud
risks
 Information about the company and its
environment
 Discussion among audit team members
 Inquiries of management and others
 Risk assessment analytical procedures, including
those involving revenue
 Assess the risk of errors and fraud that may cause
the financial statements to contain a material
misstatement.

©McGraw-Hill Education 2-20

 Based on that assessment, plan and perform
the audit to obtain reasonable assurance that
material misstatements, whether caused by
errors or fraud, will be detected.
 Exercise due care in planning, performing and
evaluating the results of audit procedures, and
the proper degree of professional skepticism
to achieve reasonable assurance that material
misstatements due to error or fraud will be
detected.

©McGraw-Hill Education 2-21

 Noncompliance with laws and regulations that could have a direct
and material effect on financial statement amounts and
disclosures—same as for errors and fraud. An audit obtains
reasonable assurance of detecting noncompliance with these laws
and regulations.
 Other Laws and regulations (no direct effect on financial statement
amounts):
 Specific procedures:
 Inquire of management as to compliance
 Inspect correspondence with licensing or regulatory authorities
 Be aware of possible noncompliance.
 If information comes to the auditor’s attention, apply audit
procedures directed at determining whether noncompliance has
occurred. An audit does not provide assurance that
noncompliance with these laws will be detected.
©McGraw-Hill Education 2-22
 Includes the words “Registered” and “Independent” in the title.
 Must be addressed to shareholders and board of directors (additional
parties are allowable).
 References auditing standards of the PCAOB.
 Provides a discussion of auditor and management responsibilities.
 Includes a paragraph indicating that the auditors have also issued a report
on the client’s internal control over financial reporting, or is a combined
report on both the financial statements and internal control.
 Includes a Critical Audit Matters Section.
 Includes statement on year audit firm began serving the client.
 Signed with name of CPA firm not individual partner
 Includes the City of the office with responsibility for the audit
 Dated no earlier than the date on which the auditors obtained sufficient
appropriate audit evidence to support their opinion
©McGraw-Hill Education 2-23
Opinion on the Financial Statements
We have audited the accompanying balance sheets of X Company (the
“Company”) as of December 31, 20X7 and 20X6, the related statements of
income, comprehensive income, stockholders’ equity, and cash flows, for each
of the three years in the period ended December 31, 20X7, and the related notes
[and schedules] (collectively referred to as the “financial statements”). In our
opinion, the financial statements present fairly, in all material respects, the
financial position of the Company as of December 31, 20X7 and 20X6, and the
results of its operations and its cash flows for each of the three years in the
period ended December 31, 20X7, in conformity with accounting principles
generally accepted in the United States of America.
We also have audited, in accordance with standards of the Public Company
Accounting Oversight Board (United States) (“PCAOB”) the Company’s internal
control over financial reporting as of December 31, 20X7, based on Internal
Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO) and our report dated February
9, 20X8 expressed an unqualified opinion.
©McGraw-Hill Education 2-24
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on the Company’s financial statements based on
our audits. We are a public accounting firm registered with the PCAOB and are required to
be independent with respect to the Company in accordance with the U.S. federal
securities laws and the applicable rules and regulations of the Securities and Exchange
Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those
standards require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement, whether due
to error or fraud. Our audits included performing procedures to assess the risks of
material misstatement of the financial statements, whether due to error or fraud, and
performing procedures that respond to those risks. Such procedures included examining,
on a test basis, evidence regarding the amounts and disclosures in the financial
statements. Our audits also included evaluating the accounting principles used and
significant estimates made by management, as well as evaluating the overall presentation
of the financial statements. We believe that our audits provide a reasonable basis for our
opinion.
©McGraw-Hill Education 2-25
 Critical Audit Matters
The critical audit matters communicated below are matters arising from the current
period audit of the financial statements that were communicated or required to be
communicated to the audit committee and that (1) relate to accounts or disclosures
that are material to the financial statements and (2) involved our especially
challenging, subjective, or complex judgments. The communication of critical audit
matters does not alter in any way our opinion on the financial statements, taken as a
whole, and we are not, by communicating the critical audit matters below, providing
separate opinions on the critical audit matters or on the accounts or disclosures to
which they relate.
[Include critical audit matters]
Blue, Gray & Company
Certified Public Accountants
We have served as the Company’s auditor since 20X0.
Los Angeles, California
February 9, 20X8

©McGraw-Hill Education 2-26

 Title
 Addressee
 Content Sections (paragraphs)
 Introductory (“We have audited”)
 Management’s responsibility
 Auditor’s Responsibility
 Opinion Paragraph
 Signature (firm name)
 City and state of office issuing audit report
 Date
2-27
 Title that includes the word independent
 Ordinarily addressed to the company itself, the
shareholders, the audit committee and/or the
board of directors
 Signed with name of CPA firm not individual
partner unless the firm is a sole practitioner
 Dated no earlier than the date on which the
auditors obtained sufficient appropriate audit
evidence to support their opinion
©McGraw-Hill Education 2-28
We have audited the accompanying financial
statements of ABC Company, which comprise the
balance sheets as of December 31, 20X1 and 20X0,
and the related statements of income, changes in
stockholders’ equity, and cash flows for the years
then ended, and the related notes to the financial
statements.

©McGraw-Hill Education 2-29

Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair
presentation of these financial statements in accordance
with accounting principles generally accepted in the
United States of America; this includes the design,
implementation, and maintenance of internal control
relevant to the preparation and fair presentation of
financial statements that are free from material
misstatement, whether due to fraud or error.

©McGraw-Hill Education 2-30

Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statements based on our
audits. We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts
and disclosures in the financial statements. The procedures selected depend on the
auditor’s judgment, including the assessment of the risks of material misstatement of
the financial statements, whether due to fraud or error. In making those risk
assessments, the auditor considers internal control relevant to the entity’s preparation
and fair presentation of the financial statements in order to design audit procedures
that are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the entity’s internal control. An audit also includes
evaluating the appropriateness of accounting policies used and the reasonableness of
significant accounting estimates made by management, as well as evaluating the overall
presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to
provide a basis for our audit opinion.
©McGraw-Hill Education 2-31
Opinion
In our opinion, the financial statements referred
to above present fairly, in all material respects,
the financial position of ABC Company as of
December 31, 20X1 and 20X0, and the results of its
operations and its cash flows for the years then
ended in accordance with accounting principles
generally accepted in the United States of
America.

©McGraw-Hill Education 2-32

 Standard unmodified report (unqualified per PCAOB
standards)
 Financial statements follow GAAP and auditor does not add additional
commentary for any issue
 Other reports
 Unmodified with emphasis of matter (or other emphasis)
 Example: A lack of consistency in application of accounting principles
 Qualified opinion
 Scope limitation or departure from GAAP
 Adverse opinion
 Departure from GAAP so significant that financial statements as a
whole are misleading
 Disclaimer of opinion
 Unable to arrive at an opinion due to a very significant scope
limitation
©McGraw-Hill Education 2-33
©McGraw-Hill Education 2-34
 Leadership responsibilities for quality within
the firm (“tone at the top”)
 Relevant ethical requirements
 Acceptance and continuance of clients and
engagements
 Human Resources
 Engagement performance
 Monitoring
©McGraw-Hill Education 2-35
 Firm’s internal culture recognizes that quality is essential
in performing engagements and recognizes the need to:
 Perform work that complies with professional standards and
regulatory and legal requirements, and
 Issue reports that are appropriate in the circumstances.
 Firm provides reasonable assurance that those assigned
responsibility for quality control have sufficient and
appropriate experience, ability, and authority.
 Example: Assign management responsibilities so that
commercial considerations do not override the quality of
work performed.

©McGraw-Hill Education 2-36

 Firm and its personnel comply with relevant
ethical requirements.
 Example: At least annually, the firm should
obtain written confirmation of compliance
with its independence policies and
procedures from all firm personnel who are
required to be independent.

©McGraw-Hill Education 2-37

 Firm will undertake to accept and continue
relationships and engagements only where the
firm:
1. Is competent to perform the engagement.
2. Can comply with legal and ethical requirements.
3. Has considered client integrity.
 Example: Background information is gathered on all
prospective audit clients, including the attitude of
principal owners, key management, and those charged
with governance on matters such as aggressive
accounting and internal control over financial reporting.

©McGraw-Hill Education 2-38

 Firm has personnel with the capabilities, competence,
and commitment to ethical principles to:
1. Perform engagements in accordance with professional
standards and regulatory and legal requirements.
2. Enable the firm to issue reports that are appropriate in the
circumstances.
 Example: Design effective recruitment processes and
procedures to help the firm select individuals meeting
minimum academic requirements established by the
firm, and maturity, integrity, and leadership.

©McGraw-Hill Education 2-39

 Firm’s engagements are consistently performed in
accordance with professional standards and
regulatory and legal requirements, with policies and
procedures addressing:
1. Engagement performance.
2. Supervision responsibilities.
3. Review responsibilities.

 Example: Design policies and procedures that

address the tracking of progress of each
engagement.
©McGraw-Hill Education 2-40
 Firm’s policies and procedures established to
help ensure that the policies and procedures
for the other elements are suitably designed
and effectively applied.
 Example: Communicate, at least annually, the
results of monitoring to engagement partners
and other appropriate individuals within the
firm.

©McGraw-Hill Education 2-41

 Depend on size of firm, number of offices and
nature of firm’s practices.
 Every CPA firm should have quality control
procedures applicable to every aspect of its
practice.
 Establish controls to provide assurance that
the CPA firm meets its responsibilities to
clients and public.

©McGraw-Hill Education 2-42

 Public Companies
 Public Company Accounting Oversight Board
 Registration of public accounting firms that audit public
companies
 Establish or adopt auditing, quality control, ethics,
independence standards relating to audit reports for public
companies.
 Conduct inspections of public company practice of registered
public accounting firms
 Nonpublic Companies
 AICPA & State Boards of Accountancy
 Peer review for nonpublic practice segments of all CPA firms
©McGraw-Hill Education 2-43
 Composed of 5 members – only two may be
CPAs
 Members appointed by SEC and may serve no
more than two five-year terms
 All accounting firms that audit SEC registrants
must register with PCAOB
 Pledge to cooperate with PCAOB inquiries
 PCAOB can impose monetary damages, suspend
firms, or make referrals to Justice Department

©McGraw-Hill Education 2-44

 Members of AICPA
 Conducted by CPAs or other CPA firms
 Two types of peer reviews
 System review
 Study of CPA firms’ system of quality control
 Select sample of firms’ engagements and examine
related working paper files
 Engagement review
 Sample of CPA work including reports to evaluate
appropriateness
 Less in scope than system review
 Report: pass, pass©McGraw-Hill
with Education
deficiencies, or fail
2-45
 Conducted by PCAOB staff
 Focus
 Primarily evaluating performance of sample of
individual audit and review engagements; a risk
based approach to selection engagements.
 Selected quality control and management issues
only. This differs from a peer review.
 Report
 Written report to SEC, part of which is made public

©McGraw-Hill Education 2-46

 International Financial Reporting Standards
(IFRS)
 Developed by International Accounting Standards
Board (IASB)
 SEC accepts IFRS for foreign companies that issue
securities in US markets

©McGraw-Hill Education 2-47

 Organized similar to the PCAOB audit report
 May state “present fairly, in all material respects” or
“give a true and fair view”
 Report may also indicate that the financial statements
comply with the provisions of the country’s relevant
statutes or laws
 Requires disclosure of Key Audit Matters for listed
companies; Key Audit Matters are virtually equivalent
to Critical Audit Issues required in PCAOB audits
 May be signed using the personal name of the auditor
or the audit firm, or both

©McGraw-Hill Education 2-48