AFA518 Chapter 4

Audit Responsibilities and Objectives

The Objective of Conducting an Audit of Financial Statements

 CAS 200 of the CPA Canada Handbook explains that the purpose of the financial statement audit is to express an
opinion on the financial statements.
 It is an assessment of whether the financial statements are presented fairly, in the context of materiality, in
conformity with an applicable financial reporting framework as the criteria for the assessment.

Management’s Responsibilities

 Adopting a sound and appropriate financial reporting framework and corresponding accounting policies
 Maintaining adequate internal control
 Making fair representations in the financial statement and disclosures

For public companies, the chief executive officer (CEO) and chief financial officer (CFO) must certify that:

(1) The financial statements fully comply with the requirements of the stock exchange;
(2) The statements do not contain any misrepresentations or material omissions and present fairly the financial
condition of the company; and
(3) Disclosure controls and procedures or internal controls over financial reporting have been designed, evaluated,
and disclosed.

Responsibilities of Those Charged with Governance

Corporate Governance = is a set of relationships/structure between the company’s management, its board, its
shareholders, and other stakeholders. Oversight responsibilities of financial statements.

 Audit Committee
 Risk Committee
 Board of Directors

Auditor’s Responsibilities

CAS 200:

(1) To obtain reasonable assurance about whether the financial statements as a whole are free from material
misstatement, whether due to fraud or error, thereby enabling the auditor to express an opinion on whether
the financial statements are prepared, in all material respects, in accordance with an applicable financial
reporting framework; and
(2) To report on the financial statements, and communicate as required by the CASs, in accordance with the
auditor’s findings.

Materiality = Misstatements are usually considered material if the combined uncorrected errors and fraud in the
financial statements would likely have changed or influenced the decisions of a reasonable person using the statements.
Reasonable Assurance

 Assurance is a measure of the level of certainty that the auditor has obtained at the completion of the audit.
 Reasonable = auditor is not an insurer or guarantor of the correctness of the financial statements. Why?
o Most audit evidence results from testing a sample of a population
o Accounting presentations contain complex estimates, which involve uncertainty
o Fraudulently prepared financial statements are often extremely difficult, if not impossible, for the
auditor to detect

Error vs Fraud

 Error = an unintentional misstatement of the financial statements

 Fraud = an intentional misstatement of the financial statements.
o E.g. misappropriation of assets, fraudulent F/S reporting

CAS 550: Auditor’s Responsibility for Related Party Relationships and Transactions

CAS 250: Auditor’s Responsibility to Consider Laws and Regulations

 Non-compliance with laws and regulations: Acts of omission or commission intentional or unintentional, that
are contrary to prevailing laws or regulations.

CAS 570: Auditors’ Responsibility to Evaluate Going Concern

 Management is responsible for assessing the entity’s ability to continue as a going concern and disclosing

A Framework for Professional Judgment

Professional Judgment = analytical, systematic, and objective judgment carried out with integrity and recognition of
responsibility to those affected by its consequences.

1. Identify and Define the Issue = what we want to solve? Consider different perspective and ask “why”?
2. Gather the Facts and Information = do not overly rely upon information (professional skepticism)
3. Perform Analysis and Evaluate Alternatives = aware of biases and consult with others to avoid it
4. Reach and Document Conclusions = take a “stand back” point of view and consider the issue within the broader
context. Avoid confirmation bias.

Professional Skepticism

An attitude that includes a questioning mind, a critical assessment of audit evidence, and the willingness to challenge
the auditee's assertions.

 Approaches the audit with a “trust but verify” mental outlook

 Critical assessment of the evidence that includes asking probing questions and paying attention to
inconsistencies.

Key Traits of Professional Skepticism

1. Questioning Mind
2. Suspension of Judgement
3. Search of Knowledge
4. Autonomy and Interpersonal Understanding
5. Self-esteem
Potential Judgment Traps and Biases

1. Confirmation Bias = tendency of the auditors to put more weight on information that is consistent with their
initial beliefs or preferences.
2. Overconfidence Bias = auditor to overestimate his/her own ability to perform tasks or to make accurate risk
assessments
3. Anchoring = tendency to be “anchored” by the initial numerical number and not adjusting sufficiently when
forming a final judgment. (e.g. looking at prior year working paper and base it of that)
4. Availability = cause auditors to estimate or forecast the likelihood of an event based on how easily they can
recall an example or instance of that event.

Financial Statement Cycles

Entity-level Controls = controls that are implemented for multiple transaction cycles or for the entire organization.

Management Assertions and Audit Objectives

Management Assertions = implied or expressed representations by management about classes of transactions; related
account balances; and classification, presentation, or disclosures in the financial statements.

CAS 315: Classification of Assertions:

1. Assertions about classes of transactions and events for the period under audit.
 Occurrence: Transactions and events that have been recorded have occurred and pertain to the entity.
 Completeness: All transactions and events that should have been recorded have been recorded.
 Accuracy: Amounts and other data relating to recorded transactions and events have been recorded
appropriately.
 Cutoff: Transactions and events have been recorded in the correct accounting period.
 Classification: Transactions and events have been recorded in the proper accounts.
 2. Assertions about account balances at period end.
 Existence: Assets, liabilities, and equity interests exist.
 Completeness: All assets, liabilities, and equity interests that should have been recorded have been
recorded.
 Valuation and Allocation: Assets, liabilities, and equity interests are included in the financial statements
at appropriate amounts and any resulting valuation adjustments are appropriately recorded
 Rights and Obligations—The entity holds or controls the rights to assets, and liabilities are the
obligation of the entity.

3. Assertions about financial statement presentation and disclosure.

 Occurrence and Rights and Obligations: Disclosed events and transactions have occurred and pertain to
the entity.
 Completeness: All disclosures that should have been included in the financial statements have been
included.
 Accuracy and Valuation: Financial and other information is disclosed appropriately and at appropriate
amounts
 Classification and Understandability: Financial and other information is appropriately presented and
described, and disclosures are clearly expressed.

Relevant Assertions: assertions that have a meaningful bearing on whether an account is fairly stated and are used to
assess the risk of material misstatement and the design and performance of audit procedures. Consider:

 Management bias, incentives, and pressure.

 The complexity or nature of the assertion. (Is it subjective, such as inventory obsolescence?)
 The risk of fraud and error.

Assertions and Transaction-Related Audit Objectives

(5) Five audit objectives that must be met before the auditor can conclude that the total for any given class of
transactions is fairly stated. The transaction-related audit objectives are occurrence, completeness, accuracy, cut-off,
and classification/presentation.

1. Occurrence = all recorded transactions included in the financial statements have actually occurred during the
accounting period. Violation may relate to overstatement.
2. Completeness = all transactions that should be included in the financial statements are in fact included. .
Violation may relate to understatement.
3. Accuracy = all transactions have been recorded at correct amounts. (1) Accuracy of initial data entry, (2)
summarization, and (3) posting.
4. Cut-off = all transactions are recorded in the proper accounting period
5. Classification = all transactions are recorded in the proper accounts. (e.g. expense or capitalize)
6. Presentation = asserts that the descriptions and disclosures of the classes of transactions are relevant and easy
to understand (e.g. related-party transaction).

Assertions and Balance-Related Audit Objectives

(5) Five audit objectives that must be met before the auditor can conclude that any given account balance is fairly
stated. The balance-related audit objectives are existence, rights and obligations, completeness, valuation, and
allocation.
 1. Existence = asserts that all assets, liabilities, and equity interests included in the balance sheet are genuine and
actually existed on the balance sheet date
2. Rights and Obligations = asserts that the entity has proper rights to all assets and proper obligation to pay
liabilities that are the obligations at a given date (e.g. goods on consignment)
3. Completeness = asserts that all accounts and amounts that should be presented in the financial statements are
in fact included.
4. Accuracy and Valuation = asserts that assets, liabilities, and equity interests have been included in the financial
statements at appropriate amounts, and any resulting valuation adjustments reflect the amounts at the
appropriate value, and related disclosures have been appropriately measured and described.
5. Allocation (Timing) = Allocation includes several concepts:
(1) Accuracy of adjustment or recorded amount
(2) Timing of the adjustment
(3) Adjustment to the correct accounts.
6. Classification = asserts that the assets, liabilities and equity interests are appropriately classified in the financial
statements and footnotes, and the balance descriptions

The Audit Process: How Audit Objectives Are Met

Perform Substantive Tests:

Analytical Procedures: evaluations of financial information through analysis of plausible relationships among financial
and nonfinancial data.

Tests of Control (ToC): audit procedures to test the effectiveness of control policies and procedures in support of a
reduced assessed control risk.

Substantive Tests of Details (ToD): audit procedures testing for monetary misstatements (due either to error or to
fraud) in the details of the classes of transactions, balances, and disclosures in order to determine whether the
transaction-related, balance-related, and presentation and disclosure-related audit objectives have been satisfied.