AUDIT AND ASSURANCE

ACC 3115

YEAR 3 SEMESTER 1
AUDIT FRAMEWORK AND ASSURANCE

The Concept of Audit and other assurance

engagements
• The purpose of external audit engagements
• Accountability, stewardship and agency
• Types of assurance services
• Assurance and reports
 The purpose of external audit engagements
An external audit is defined as: the independent examination of and
expression of opinion on the financial statements of an entity by a duly
appointed auditor in pursuit of that appointment.
The objective of an audit of financial statements is to enable 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. An audit of financial statements is an example of
an assurance engagement.
 Statutory and non-statutory audits
In most countries, audits are required under national statute for many
undertakings, including limited liability companies.
Benefits of statutory audits include:
• Impartial view provided by the auditors;
• Professional accountants reviewing the accounts and system;
• Recommendations being made in relation to accounting and control systems; and
• the possibility that auditors might detect fraud and error.

Non-statutory audits are performed by independent auditors because the

company's owners, proprietors, members, trustees, professional and governing
bodies or other interested parties want them, rather than because the law requires
them.
 Statutory and non-statutory audits
A non-statutory audit can bring other advantages apart from the common
advantages of an audit. For example, the audit of the accounts of a
partnership may have the following advantages.
(a) It can provide a means of settling accounts between the partners.
(b) Where audited accounts are available this may make the accounts more
acceptable to the taxation authorities when it comes to agreeing an
individual partner's liability to tax.
(c) The sale of the business or the negotiation of loan or overdraft facilities
may be facilitated if the firm is able to produce audited accounts.
(d) An audit on behalf of a 'sleeping partner' is useful since generally such a
person will have few other means of checking the accounts of the business or
confirming the share of profits due to them.
Accountability, stewardship and agency

An audit provides assurance to the shareholders and other stakeholders of a

company on the financial statements because it is independent and impartial.
• Accountability is the quality or state of being accountable; that is, being
required or expected to justify actions and decisions. It suggests an
obligation or willingness to accept responsibility for one's actions.
• Stewardship refers to the duties and obligations of a person who manages
another person's property.
• Agents are people employed or used to provide a particular service. In the
case of a company, the people being used to provide the service of managing
the business also have the second role of trying to maximise their personal
wealth in their own right.
Accountability, stewardship and agency
In a limited liability company, directors and
management are accountable to shareholders.
Directors act as stewards of the shareholders'
investments. They are agents of the
shareholders.

The directors are accountable for the

shareholders' investment. The shareholders
have bought shares in that company (they have
invested). They expect a return from their
investment. As the directors manage the
company, they are in a position to affect that
return.
 Assurance provision
An assurance engagement is one in which a practitioner expresses a conclusion designed to enhance
the degree of confidence of the intended users other than the responsible party about the subject
matter information (that is, the outcome of the evaluation or measurement of a subject matter
against criteria).
The International Auditing and Assurance Standards Board (IAASB) International framework for
assurance engagements provides a frame of reference for professional accountants when performing
assurance engagements.
Elements of an assurance engagement
(a) A three party relationship. The three parties are the intended user, the responsible party and the
practitioner.
(b) A subject matter. This is the data to be evaluated that has been prepared by the responsible
party.
(c) Suitable criteria. The subject matter is evaluated or measured against criteria in order to reach
an opinion.
(d) Evidence. Sufficient appropriate evidence needs to be gathered to support the required level of
assurance.
(e) An assurance report. A written report containing the practitioner's opinion is issued to the
intended user, in the form appropriate to a reasonable assurance engagement or a limited
assurance engagement.
Forms of assurance engagements

• Reasonable assurance engagements

• Limited assurance engagements
The objective of a reasonable assurance engagement is a reduction in assurance
engagement risk to an acceptably low level in the circumstances of the
engagement as the basis for the assurance practitioner’s conclusion. The
conclusion would usually be expressed in a positive form.
Limited assurance is a lower level of assurance. For a limited assurance
engagement, the conclusion conveys whether, based on the procedures
performed and evidence obtained, a matter(s) has come to the practitioner’s
attention to cause the practitioner to believe the subject matter information is
materially misstated. This would usually be expressed in a negative form of
words.
 Types of assurance services

If the engagement in question is not about the financial statements, then ISAE 3000
Assurance engagements other than audits or reviews of historical financial information
states that this could be either a reasonable assurance or a limited assurance
engagement, as appropriate in the circumstances.
The objective of a review engagement is to obtain limited assurance about whether
the subject matter information is free from material misstatement.
There are two types of assurance engagements:
• attestation engagements; and
• direct engagements.
The main difference between the two lies in who is measuring, or evaluating, the
underlying subject matter against the criteria.
 Internal audit reviews
The internal audit function performs assurance and consulting activities
designed to evaluate and improve the effectiveness of the entity’s governance,
risk management and internal control processes.

In most companies/organisations, Internal audit is recommended as part of

corporate governance.

The internal audit conduct various reviews with an aim of assessing and
providing assurance on the adequacy and effectiveness of the company's risk
management and internal control systems.

The Internal audit function may be an in house unit or outsourced. This depends
on the size of the organisation/company and management decision on how the
function should be structured.
 Assurance and reports
The auditors' report on company financial statements is expressed in terms of truth
and fairness. This is generally taken to mean that financial statements:
• Are factual
• Are free from bias
• Reflect the commercial substance of the business's transactions
Truth and fairness/ fair presentation
External auditors give an opinion on the fair presentation, or truth and fairness, of
financial statements.

True: Information is factual and conforms with reality. In addition, the information conforms with required
standards and law. The financial statements have been correctly extracted from the books and records.

Fair: Information is free from discrimination and bias and in compliance with expected standards and
rules. The accounts should reflect the commercial substance of the company’s underlying transactions.
 Limitations of audit
External audits give reasonable assurance that the financial statements are free
from material misstatement.
 Materiality
Materiality is an expression of the relative significance or importance of a
particular matter in the context of the financial statements as a whole. A matter
is material if its omission or misstatement would reasonably be expected to
influence the economic decisions of users taken on the basis of the financial
statements. Materiality depends on the size of the item or error judged in the
particular circumstances of its omission or misstatement.
 Levels of assurance
The degree of assurance given by the impartial professional will depend on the
nature of the exercise being carried out.
Assurance-the auditors' satisfaction as to the reliability of the assertion made by
one party for use by another party.
Directors prepare financial statements for the benefit of members. They assert that
the financial statements give a true and fair view. The auditors provide assurance on
that assertion. To provide such assurance, the auditors must:
• Assess risk
• Plan audit procedures
• Conduct audit procedures
 Statutory audit and regulation
Most companies of most jurisdictions are require to have an external audit by
law, but some small companies are exempt. The audit opinion made implies the
following:
• Adequate accounting records have been kept.
• Returns adequate for the audit have been received from branches not visited.
• The accounts agree with the accounting records and returns.
• All information and explanations have been received that the auditor believes
are necessary for the purposes of the audit.
• Details of directors' emoluments and other benefits have been correctly
disclosed in the financial statements. Particulars of loans and other

Small company audit exemption

Most small companies are owner managed there make them
 Statutory audit and regulation
Small company audit exemption
Most small companies are owner managed and mostly exempted from statutory
external audit.
A smaller entity is an entity which typically possesses qualitative characteristics, such
as:
a. Concentration of ownership and management in a small number of individuals
often a single individual); and
b. One or more of the following:
(i)Straightforward or uncomplicated transactions
(ii) Simple record-keeping
(iii) Few lines of business and few products within business lines
(iv) Few internal controls
(v) Few levels of management with responsibility for a broad
 Statutory audit and regulation
Auditor rights and duties- Auditors have rights and duties which gives the auditors
sufficient power in the their job execution.
Auditors are required to report on every statement of financial position (balance
sheet) and statement of profit or loss and comprehensive income (profit and loss
account) laid before the company in general meeting.

The auditors must have certain rights to enable them to carry out their duties
effectively. The principal rights that auditors should have, excepting those dealing
with resignation or removal include:
• Access to records
• Information and explanations
• Attendance at / notices of general meetings
• Right to be heard at general meetings
• Rights in relation to written resolutions
 Appointment, removal and resignation of auditors
Appointment:
The auditors should be appointed by and therefore answerable to the shareholders. The
Companies Act sets out the rules for appointment of auditors. The external Auditors can be
appointed by:
Directors: Can appoint auditor:
(a)Before company's first period for appointing auditors
(b) Following a period during which the company did not have an auditor (as exempt), at any
time before the next period for appointing auditors
(c) To fill a casual vacancy
Members: Can appoint auditor by ordinary resolution:
(a) During a period for appointing auditors
(b) If company should have appointed auditor during a period for appointing auditors but failed
to do so
(c) If directors fail to do so

Remuneration-The remuneration of the auditors, which will include auditors’ expenses, will be
fixed by whoever made the appointment. However the auditors' remuneration is fixed, in many
countries it must be disclosed in the annual financial statements of the company.
 Appointment, removal and resignation of auditors
Resignation and removal-In most jurisdictions removal or resignation of auditors
follow clearly defined procedures and mostly resolutions for removal of auditors
are passed through shareholders general meeting. It is important that auditors
know the procedures, because as part of their client acceptance, they have a duty
to ensure the old auditors were properly removed from office.
Regulation of auditors
• Eligibility, registration and training of auditors are extremely important, as they are
designed to maintain standards in the auditing profession.
• The accounting and auditing profession varies in structure from country to
country. In some countries accountants and auditors are subject to strict legislative
regulation, while in others the profession is allowed to regulate itself.
• International regulation play a major part on regulations set by countries by:
(a) Setting minimum standards and requirements for auditors
(b) Providing guidance for those countries without a well-developed national
regulatory framework
(c) Aiding intra-country recognition of professional accountancy qualifications
 Regulation of auditors
International Federation of Accountants (IFAC) set standards and requirements which
are adopted by countries. Below are key guidance set by IFAC regarding:
Education and work experience: IFAC set some subjects to be covered for someone
to become a qualified accountant/auditor. Accountants should demonstrate that
they have passed an examination of professional competence. This examination
must assess not only the necessary level of theoretical knowledge but also the
ability to apply that knowledge competently in a practical situation.

Eligibility: There may well be statutory rules determining who can act as auditors.
Membership of an appropriate body is likely to be one criterion. Individuals holding
an appropriate qualification, or Firms controlled by qualified persons.

Supervision and monitoring: The regulatory bodies are mandated to conduct

supervision to check the auditors are executing their work in accordance to the set
standards.
 International Standards on Auditing
International Auditing and Assurance Standards Board (IAASB) sets International
Standards on Auditing (ISA).

IAASB's objective is the development of a set of international standards that are

accepted worldwide. The IAASB's pronouncements relate to audit, other
assurance and related services that are conducted in accordance with
international standards.
 CORPORATE GOVERNANCE

Corporate governance is the system by which companies are directed and

controlled.

Internationally there are various codes of corporate governance that have been
put in place to provide guidance on various aspects relating to running of
companies.

OECD Principles of Corporate Governance

The Organisation for Economic Co-operation and Development (OECD)
Principles of Corporate Governance set out the rights of shareholders, the
importance of disclosure and transparency and the responsibilities of the board
of directors.
OECD established a number of Principles of Corporate Governance which
serve as a reference point for countries to develop corporate governance codes.
The global financial crisis prompted the OECD to investigate the shortcomings in
corporate governance highlighted by the crisis.
OECD Principles of Corporate Governance
The main areas of the OECD Principles
I. Ensuring the basis for an effective corporate governance framework
The corporate governance framework should promote transparent and efficient markets, be consistent with the rule of law and clearly
articulate the division of responsibilities among different supervisory, regulatory and enforcement authorities.

II. The rights of shareholders and key ownership functions.

The corporate governance framework should protect and facilitate the exercise of shareholders’ rights.

III. The equitable treatment of shareholders

The corporate governance framework should ensure the equitable treatment of all shareholders, including minority and foreign
shareholders. All shareholders should have the opportunity to obtain effective redress for violation of their rights.

IV. The role of stakeholders in corporate governance

The corporate governance framework should recognise the rights of stakeholders established by law or through mutual agreements and
encourage active co-operation between corporations and stakeholders in creating wealth, jobs, and the sustainability of financially sound
enterprises.

V. Disclosure and transparency

The corporate governance framework should ensure that timely and accurate disclosure is made on all material
matters regarding the corporation, including the financial situation, performance, ownership, and governance of the company.

VI. The responsibilities of the board

The corporate governance framework should ensure the strategic guidance of the company, the effective monitoring of management by
the board, and the board’s accountability to the company and the shareholders.