Discuss role of IFAC (International Federation of Accountants)

International Federation of Accountants (IFAC) was formed 1977. The mission of IFAC is the world wide development and enhancement of an accountancy profession with harmonize standards, able to provide services of consistently high quality in the public interest. It is a nonprofit, non-government,. non-political international organization of accountancy bodies.

Membership in IFAC is open to accountancy bodies recognized by law or general consensus within their countries as substantial national organization of goo I standing within the accountancy profession. The membership of IFAC member bodies comprises more than 2,500,000 accountants in the public and private practice, education and government service.

The Council, which consists of one representative from each member body of IFAC elects the members of the Board, establishes the basis of financial contributions by members and adopts changes to the IFAC Constitution.

The Board consists of the President, The Deputy President and representatives from 15 countries elected by the Council for three-year term. Elections of Board are held annually in such away that one-third of the members of the Board shall retire each year. The Board supervises the general IFAC program, the budget and as appropriate, oversees specific committee projects.

The standing technical committees of IFAC are:

  1. Compliance Committee.
  2. Education Committee.
  3. Ethics Committee.
  4. Financial and management accounting Committee.
  5. Information Technology Committee.
  6. International Auditing Practices Committee Public sector committee.

Discuss the role of practicing accountant in society

Practicing accountants have an important role in society. Investors, creditors, employees and the sectors of business community as well as general public rely on audited financial statements, and competent advice on number of business and taxation matters. The attitude and behavior of practicing accountants in providing such services have an impact on economic well being of their community and country.

Practicing accountants provide the public with above unique services at a level which demonstrates the public confidence. In formulating ethical codes, member bodies consider public service and user expectations of the ethical and professional standards of professional accountants and take their views. In this manner the expectation gap between the standards expected and those prescribed may be narrow down.

Audit plays significant role in serving public interest by increasing acceptability, trust and confidence in financial reporting. Accordingly audit is useful in enhancing economic prosperity. The stock market will be more active as the public will have more confidence in published accounts.

The annual audit of financial statements provides greater protection against provision of false information to the market influencing share
prices.

The auditor may also be asked to review social report of the companies which may include his attention on matters like:

  1. Customer satisfaction.
  2. Staff satisfaction.
  3. Health and safety.
  4. Donations.
  5. Education.
  6. Environmental improvement.
  7. Energy saving.

What do you understand by Government auditing?

Government auditing comprises:

  1. Audit of validity and propriety of administrative decisions.
  2. Attestation of financial acceptability involving examination and evaluation of records and expression of opinion on financial statements.
  3. Compliance of laws and regulations.
  4. Effectiveness of expenditure.
  5. Elimination of waste.
  6. Efficiency in utilization of resources.

Enumerate some arguments whether or not the auditor should be liable for negligence in a claim by third-party, and give your conclusion

1. The auditor should not be liable for claims by third parties
because:

  1. Auditor owns no duty of care to third parties.
  2. Third parties do not have contractual relationship with auditors as they have not paid any fees to auditors.The auditor should be held liable against third parties because:(a) Credibility of financial statements is reduced.(b) If the auditor’s report is inappropriate from view point of the company and shareholders, it is also inappropriate from view point of third parties.(c) Investors will have less confidence in the companies and share prices will be affected.(d) Financial institutions will not feel comfortable to advance loans to the companies.

Conclusion

It will be unreasonable that auditor should be liable against all third parties. However his liability should be extended to certain restricted third parties.

(e.g., banks and lenders) as decided by the law and professional bodies. To compensate for extra work, the audit fee may be increased. This will help in enhancing credibility of audit report and financial statements.

Preparation of financial statements involve certain significant estimates and judgments of management. Give some example of estimates and judgments made by management in the context of inventories.

In the context of inventories following matters require management judgments:

  1. Whether to value inventory at First in first out or weighted average?
  2. Estimate of selling prices at which year – end goods may be sold in a subsequent year.
  3. Estimate of further cost to complete.
  4. Estimate of “normal” capacity for allocation of overhead.
  5. Allocation of overheads to inventories.
  6. Estimates of slow moving and obsolete inventories.
  7. Whether a loss in bringing materials to stores or manufacturing defect is normal loss or abnormal loss (Normal loss is not charged to the cost of inventories).

Compute the two audit strategies. Viz. Extended substantive procedures and restricted substantive procedures.

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Discuss benefits of audit of financial statements

  1. In case of public limited companies

    – Due to separation of those who provide funds (shareholders) and those who manage the funds, the shareholder would like to ensure proper stewardship (looking after the affairs with due care and diligence). The audit of financial statements helps in assessing such responsibility.

– The financial statements are prepared by management. Shareholders would like to ensure that they are not manipulated.

  • In case of partnership

    – Disputes among partners for distribution profits are resolved.

– Audited financial statements are useful at the time of.

– Admission of partners

– Retirement or death of partner

– Merger of two firms

– Conversion of partnership into limited company.

  • In case of a sole proprietor

    – The owner needs comfort that the accountant has not misappropriated funds.

– The owner is assured that the accountant is not incompetent.

  • In case of general public

    – Investors can make a considered decision whether or not to purchase shares.

– Public makes investment because they have high level of assurance that the financial statements give a true fair view.

  • In all cases

    – Credibility of financial statements is enhanced.

– Financial institutions, tax authorities and stock exchange place more reliance on audited accounts.

You have been offered to audit an entity, where management has not made any decision regarding the applicable financial reporting framework. Explain the importance of financial reporting framework at the client’s acceptance level.

The auditor has to state in his opinion whether or not financial statements give a true and fair view. The phrase true and fair includes compliance with IFRS. Accordingly, the auditor, while expressing an opinion on financial statements, should satisfy himself that they do comply with lAS’s. IFRS in all material respects and that in the event of any departure from such Standards, the auditor’s report should contain suitable modification. It should however, be emphasized that lASs/ lFRS do not override the local statutory provisions under the Companies Ordinance, 1984.

Explain your understanding of the following terms in the context of auditing

  1. Accountability.
  2. Stewardship.
  3. Opinion Shopping.
  1. AccountabilityAccountability refers to obligation to justify actions and decisions of a persons.

Directors manage the company and they are acceptable to shareholders for the business decisions. They should accept the responsibility for their actions. An audit helps in establishing accountability.

  • StewardshipStewardship involves management of the property owned by other persons.Shareholders place their funds with the directors for safe custody, reasonable return and capital appreciation. An audit helps in establishing stewardship function.
  • Opinion shippingIf audit report of client is qualified, the management obtains a second opinion from another practioner. This is called opinion shopping. It is the duty of the other auditor to communicate with the existing auditor and obtain permission from client regarding such communication.

Discuss auditor’s duties to directors

The companies Ordinance 1984 does not provide any specific legal duty of the auditor towards the directors.

ISA 315, however requires that the auditor should make those charged with governance or management aware, as soon as practicable, of material weaknesses in the design or implementation of internal control which have come to auditor’s attention.

Discuss how ISA’s are developed and what is their authority

ISAs are developed by International Auditing and Assurance Standards Board (IAASB). IAASB is a committee of International Federation of Accountants (IFAC) lAASB represents professionals who are member of IFAC. ISAs are developed with consultation of IFAC member bodies and also business men and other outsiders. Once a topic is suggested for new standard, and exposure draft is produced to lAASB. If the draft is approved by lAASB if is circulated to the member bodies of IFAC (for example, ICAP, CMA, ACCA) and other interested parties.

The member bodies circular the exposure draft to their individual members for comments. The comments of individual members are studied by the Council member of professional bodies. The Council of professional bodies approve the comments and forward such comments to IAASB. The comments are studied by IAASB and where necessary the exposure draft is amended. The exposure draft is then issued as ISA.

ISAs apply to all auditing assignments. In rare circumstances, if an auditor considers that departure from any requirement of ISA is necessary to attain objective of audit, the auditor has to justify such departure.

IFAC member bodies are encouraged to harmonize their standards with ISAs. Many countries have adopted ISAs in to or with slight amendments.

However ISAs do not override requirements of local laws and regulations.

ISAs also apply to audits of small entities. However, due to lack of segregation of duties and other weaknesses of internal controls, the auditor carries out extended substantive procedures.

In March 1999, lAASB has issued lAPS 1005. The special considerations in the audit of small entities.

What is negative assurance? Under what circumstances such an assurance is given

Negative assurance implies a conclusion as to whether anything has come to the auditor’s attention that causes the auditor to believe that the financial information is not prepared, in all material respects in accordance with accounting standards.

Negative assurance is issued in case of review engagements.

Negative assurance is also issued on prospective financial information because the accuracy of forecast cannot be confirmed. The maximum assurance that the auditor can give is that the forecast appears to be reasonable, but not a high level of assurance.

Enumerate management’s responsibilities In relation to financial statements.

  1. Preparation and fair presentation of financial statements In accordance with IFRS.
  2. Maintaining internal controls necessary to prepare financial statements that are free from material misstatements whether due to fraud or error.
  3. Provide auditors all information and explanations that the management and auditors consider necessary for the purpose of audit.
  4. Making reasonable accounting estimates.
  5. Selecting accounting policies that are appropriate In the circumstances.
  6. The above duties are also referred to as “Premise relating to responsibilities of management on which audit is conducted”.

Enumerate some of the significant responsibilities of auditors  in relation to financial statements.

Significant responsibilities of the auditors in relation to audit of financial statements include:

  1. Comply with ethical requirements including independence.(i) Integrity
    (ii) Objectivity
    (iii) Professional competence and due care
    (iv) Confidentiality
    (v) Professional behavior.
  2. Exercise professional skepticism throughout the audit.
  3. Exercise professional judgment in planning and performing the
    audit.
  4. Identify and assess the risk of material misstatement, whether due to fraud or error, based on understanding of the entity and its environment, including the entity’s internal controls.
  5. Obtain sufficient appropriate audit evidence whether material misstatements exist, through designing and implementing appropriate response to risks (test of controls and substantive procedures).
  6. Verify that the financial statements are in agreement with books of accounts.
  7. Form an opinion on the financial statements based on conclusions drawn from the audit evidence obtained.
  8. Other communication and reporting responsibilities to users, management, those charged with governance, and regulatory authorities.(i) Perform audit in accordance with ISAs.

Explain your understanding of the term “general purpose  financial statements:

General purpose financial statements are based on financial reporting framework which is fair presentation framework. Such financial statements fulfill the common financial information needs of wide range of users, in contrast to “special purpose financial statements” which take care of financial information of specific users.

How does an auditor make judgment about materiality

Judgment regarding materiality is made on the basis of:

  1. Auditor’s perception of the financial information needs of users
    of financial information, and/or;
  2. Size or nature of a misstatement.

State the difference between “applicable financial reporting  framework” and “fair presentation framework”

Applicable financial reporting framework refers to framework used by the management in preparing financial statements, which is acceptable in view of the nature of entity, and the objective of financial statements, or required by law, for example IFRS.

Applicable financial reporting framework may be (a) fair presentation framework, for example, IFRS or (b) compliance framework.

Fair presentation framework means financial reporting framework that requires (a) compliance with the requirements of the framework and (b) acknowledges that to achieve fair presentation o’f financial statements, it may be necessary for management to provide certain disclosures beyond those specifically require by the framework.

Compliance framework is the same as fair presentation framework but does not contain the acknowledgement for fait presentation.

In case of fair presentation framework (as is generally the case) the audit opinion states, one of the following phrases:

  1. The financial statements present fairly, in all material respects … in accordance with IFRS; or
  2. The financial statements give-a true and fair view of … in accordance with IFRS.

In case the accounts are prepared in accordance with a compliance framework, the audit report states that the financial statements are prepared, in all material respects in accordance with applicable financial reporting framework.

Explain following terms:
(a) Audit risk               (b) Inherent risk
(c) Control risk            (d) Detection risk

Refer to paragraph 8 of the text.

State the meanings of the following terms:
(a) Misstatement
(b) Professional judgment
(c) Those charged with governance

  1. Misstatement

    Misstatement is the monetary error due to:

(i) Incorrect amount
(ii) Incorrect classification
(iii) Incorrect presentation or disclosure.

  • Professional judgment refers to application of knowledge and experience in making informed decisions. It is particularly required in making decisions about:
    – Materiality
    – Audit risk
    – Nature, timing and extend of audit procedures In    gathering audit evidence.
    – Evaluation of management judgments in using accounting policies.
    – Assessing reasonableness of management estimates.
  • Those charged with governance, include board of directors and audit committee.

Each ISA contains objective and requirements of the ISA.  Discuss.

Objectives:

  1. Objectives provide a link between the specific objective of the ISA and the overall objective of the audit.
  2. Objective set out the purpose and what needs to be accomplished.
  3. In certain circumstances, the auditor may be required to provide additional audit procedures (in addition to the requirements of (ISAs) to achieve the objective.
  4. The objectives are to be used to evaluate whether sufficient and appropriate evidences have been obtained.
  5. If the audit procedures cannot be applied to achieve objective,
    modifications in audit opinion may be necessary.

Requirements:

  1. All of the requirements may not be applicable in certain circumstances. For example, of the entity does not have components, requirements of ISA 600 are not relevant.
  2. Within a particular ISA, certain requirements may be conditional. For example, if a company has not appointed an expert, the requirements of the evaluation of work of an expert are not relevant.
  3. Certain requirements are conditional to local regulations. For example, requirement to withdraw from an engagement.

The financial statements are required to give a true and fair view. List the principal qualitative characteristics of financial statements that can be termed as giving true and fair view of the financial position and results of operations.

Financial statements give a true and fair view if they are prepared under acceptable financial reporting framework that contains following characteristics.

  1. Relevance
    Information provided should be relevant to the users for making economic decisions, for example, balance sheet, income statement and statement of cash flows, along with a summary of significant accounting policies and other explanatory notes.
  2. Completeness
    There should be no unrecorded transactions, assets, liabilities,
    revenues and expenses.
  3. Reliability
    Information is reliable if it reflects substance over form and in accordance with principle of consistency.
  4. Neutrality
    Information provided should be free from bias.
  5. Understandability
    Information presented should be so clear and concise that it cannot be misinterpreted.\

What are the objectives of having an audit?

The objectives of having an audit are:

  1. To provide the users a reasonable assurance about whether the financial statements are free from material misstatements, as the auditor gives an opinion on whether the financial statements give a true and fair view in accordance with IFRS and the Companies Ordinance, 1984.
  2. To enhance credibility of financial statements. This credibility is enhanced by expression of opinion by an independent auditor on whether the financial statements give a true and fair view. The opinion is formed by conducting an independent audit in accordance with International Standards on Auditing (ISAs).

What is meant by reasonable assurance.

Reasonable assurance implies a high level but not absolute assurance. An audit of financial statements does not provide absolute assurance due to inherent limitations of an audit. Such limitations arise from following:

  1. Management judgment is required in selection of accounting policies.
  2. Management judgment is required in making estimates.
  3. Management may not record complete information.
  4. Collusion to falsify documents which may cause the auditor to believe that documents are valid, although that may be fictitious.
  5. Audit does not involve official investigation and the auditor is not given specific legal powers for example, power of search, which may be required in investigation.
  6. Use of testing.
  7. Audit efforts are directed to areas most expected to contain risks of material misstatements and less efforts are directed to other areas.
  8. Risk of fraud(i) Existence and completeness of related party transactions
    (j) Validity of going concern assumption.

Give some examples where the auditor has to use professional
judgment?

Professional judgment is commonly exercised in the following areas:

  1. Materiality.
  2. Audit risk.
  3. Nature, timing and extent of audit procedures in gathering audit evidence.
  4. Evaluation of management judgments in using accounting  policies.
  5. Assessing reasonableness of management estimates.

Explain the meanings of “true and fair”.

True and fair implies:

  1. Financial statements are free from material misstatements.
  2. Financial statements have been prepared in accordance with IFRS.
  3. Financial statements a re in agreement with books of accounts
  4. Expenditure has been incurred for the purpose of business.
  5. Business conduced, investments made and expenditure incurred are in accordance with the objects of business.

During the audit team planning meeting, a member of the audit team passed a comment that based on past experience with the client, he was confident that the management of the client was honest and there was no issue as regards management integrity or risk of fraud in the Company.The audit manager responded that the auditor should always maintain an attitude of professional skepticism throughout the audit.Explain what is professional skepticism.

In order to express an opinion on financial statements, the auditor has to obtain sufficient and appropriate evidences to form a conclusion. The evidences obtained should be evaluated with a critical attitude regarding validity of evidences. The evidences should also be evaluated to see whether they contradict or make doubtful the reliability of documents and responses to inquiries and other information obtained from management.

The following issues were highlighted in a meeting of the audit
committee of XYZ Limited with regard to financial statements of one of its subsidiaries on which auditors have issued an unmodified report.

(i) The audit procedures were unable to detect a material error in inventory valuation because it occurred under exceptional circumstances and the internal controls established by the management could not prevent and detect the same.

(ii) The provision for bad debts was insufficient and the impact was material. It was also evident from the subsequent events, which came into the knowledge of the auditors before they issued the report. You are one of the independent members of the audit committee and are considered an expert on financial reporting issued. The chairman of the audit committee has asked your comments with regard to the responsibilities of management and auditors of the above mentioned subsidiaries. Give your comments on each of the above matters.

Management is primarily responsible for preparation and fair presentation of financial statements in accordance with IFRS. This responsibility includes:

  1. Designing, implementing and maintaining internal controls to prepare financial statements that are free from material errors whether due to fraud or error.
  2. Selecting appropriate accounting policies.
  3. Making estimates that are reasonable in the circumstances.

As regards auditor’s duties following matters should be considered relating to error in inventory valuation:

  1. Did the auditor obtain adequate understanding of internal controls?
  2. Did the auditor obtain sufficient and appropriate evidence to test the operating effectiveness of controls?
  3. Did the auditor perform adequate substantive procedures for year and inventory valuation?
  4. Did the auditor consider significant risks in inventory valuation and perform adequate procedures to address those risks?
  5. Were there any indications that should have aroused auditor’s suspicion as regards misstatement of inventories?

If the auditor has carried out the above procedures with due care and diligence, subsequent discovery of fraud or error, does not necessarily mean that the audit was not proper~ planned and performed.

Regarding understatement of provision for bad debts, had the auditor considered subsequent events, the error should have been detected.

Discuss following audit approaches:
1. Prescriptive approach
2. Principle based audit approach.

1. Prescriptive approach

The characteristics of prescriptive approach are:

  1. Rigid rules
  2. Precise requirements
  3. Scope of tailoring the requirements to a specific situation is limited.
  4. Auditor’s judgments are minimized.
  5. Provides uniformity in auditing practices.
  6. Unusually starts the requirements with the words “The auditor should”.

2. Principle based auditing

  1. Minimum fixed rules.
  2. Minimum mandatory procedures.
  3. Increased use of professional judgment.
  4. Usually starts the guidance with the words “The auditor should”.

Discuss management’s responsibilities as regards preventions and detection of frauds.

  1. Management is primarily responsible for prevention and detection of fraud.
  2. Management’s responsibilities include designing and implementing control activities and information system to prevent and detect frauds.
  3. Management is also responsible to set up a culture that should provide moral check to prevent frauds.

How a practitioner gives a negative assurance regarding.
(a) Effectiveness of internal controls
(b) Compliance with laws and regulations

  1. Internal controls
    Nothing has come to our attention that causes us to believe that internal control is not effective, based on the criteria set out by the company.
  2. Compliance with laws and regulations
    Nothing has come to our attention that causes us to believe that environment laws have not been complied with.

What is the objective of attestation? Give suggested wordings of social report attestation.

The objective of attestation is to enhance credibility of the report.

Social report attestation.

We have examined the Social Report on page x in accordance with your instructions per your letter dated.

The purpose of attestation is to test assertions and statements made in the Social Report in order to give assurance to the users regarding the information in the social report. Directors are responsible for preparation of report. This responsibility includes the collection and presentation of information included in the report.

At present there are no legal requirements or auditing standards relating to preparation, reporting and attestation of social reports.

The procedures used by us were:

  1. Verification of management assertions to ensure that information as reported is substantiated with evidences.
  2. Review of implementation of social responsibilities through inquiry, observation and inspection of supporting documents.

In our opinion, the information stated is true and fair.

You were the engagement partner on the audit of a commercial bank which has a network of more than 200 branches, across the country. During a recent meeting, a member of the audit committee referred to an instance of irregularity in a branch, whereby the Branch Manager had extended credit to a close relative without following the bank’s credit disbursement procedures. The member criticized the auditors for their failure to highlight such instances.

Required
As an engagement partner, write a letter to the audit committee explaining your point of view in detail with specific references to the International Standards on Auditing, whether applicable.

Views expressed by audit committee are not acceptable because of
following reasons:

  1. The objective of audit of financial statements carried out in accordance with ISA is to obtain reasonable assurance that the financial statements taken as a whole are free from material misstatements.
  2. The auditor considers internal controls relevant to the preparation and fair presentation of financial statements to design audit procedures but not to express an opinion on the effectiveness of entity’s internal controls.
  3. An audit opinion does not comment on the efficiency with which management has conducted the affairs of the entity.
  4. There are inherent limitations of an audit including:

    – use of testing.
    – inherent limitations of internal control.
    – audit evidence is generally persuasive rather than conclusive.

It is possible that the transaction in question may not have been picked up by the auditor. Also, the fact that credit was granted to close relative of branch manager without following normal, lending procedures, may not necessarily result in material misstatement in the financial statements.

Strawberry Pakistan Limited (SPL) was incorporated on March 1,2011. The directors of SPL are in the process of appointing the first statutory auditor of the company. They have requested your firm to submit a proposal for the statutory audit assignment. partner of your form has asked you to draft the proposal after assessing whether the preconditions for the audit exist.

Required

(a) Briefly discuss the term ‘preconditions for an audit’.
(b) What are the steps that you would perform in order to ensure that preconditions for the audit exists?
(c) Discuss whether your firm mayor may not accept the assignment if one of the preconditions for the audit is not present.

  1. Preconditions for an audit are as follows:

    (i) An acceptable financial reporting framework has been used by the management in the preparation of the financial statements; and

    (ii) .The management and, where appropriate, those charged with governance agreed on the premise on which the audit is to be conducted.

  2. In order to establish whether the preconditions for an audit are
    present, we will:

    (i) determine whether the financial reporting framework to be applied in the preparation of financial statements is acceptable;

    (ii) obtain the agreement of management that it acknowledges and understands its responsibility:
    • for the preparation of the financial statements in accordance with the applicable financial reporting framework.
    • for such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error to provide us with:

    ~ access to all information of which management is aware, that may be relevant to the preparation of the financial statements;
    ~ additional information that the auditor may request from management for the purpose of the audit; and
    ~ unrestricted access to persons within the entity from whom the auditor determine it necessary to obtain audit evidence.

  3. If a precondition for an audit is not present, the matter would be discussed with the management. Unless required by law or regulation to do so, we will not accept the proposed audit engagement, if the pre-conditions are not met. However, if the financial reporting framework is prescribed by law or regulation and it would have been unacceptable but for the fact that it is prescribed by law or regulation, the audit engagement will be accepted only if the following conditions are met:

    (i) Management agrees to provide additional disclosures in the
    financial statements to avoid the financial statements being misleading;

    (ii) It is recognized in the terms of the audit engagement that: ,           • Our report on the financial statements will incorporate an Emphasis of Matter paragraph, drawing users’ attention to the additional disclosures.
    • Our opinion on the financial statements will not include such phrases as “present fairly, in all material respect,” or “give a true and fair view” unless it is expressively required to be stated under the law or regulation.

If the above conditions are not present and still we are required by law or regulation to undertake the audit engagement, we shall:

(i) evaluate the effect of the misleading nature of the financial statements on report; and.

(ii) include appropriate reference to this matter in the terms of the audit engagement.

Posted on November 2, 2015 in Overall Objective of the Independent Auditor and the Conduct of an Audit in Accordance with International Standards on Auditing

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