AAA- Learn Signal Notes PDF

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AAA_Introduction_notes

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AAA_Ethics_part_1_Notes

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AAA_Ethics_part_2_Notes

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AAA_Ethics_part_3_Notes

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AAA_Ethics_part_4_Notes

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AAA_Auditor_Liability

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AAA_Planning_1

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AAA_Planning_2

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AAA_Planning_3

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AAA_Planning_4

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AAA_Planning_5

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AAA_Evidence_part_1

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AAA_Evidence_part_2

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AAA_Evidence_part_3

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AAA_Evidence_part_4

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AAA_accounting_standards_part_1

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AAA_accounting_standards_part_2

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AAA_Completion_Notes

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AAA_Audit_reporting_part_1

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AAA_Audit_reporting_part_2

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AAA_Other_engagements_1

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AAA_Other_engagements_2

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AAA_Current_issues

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Midsummer_Question_UK

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AAA - Introduction Introduction ASSURANCE ENGAGEMENT: There is a three way relationship that will exist for any assurance engagement. In all cases there needs to be: 1) Professional person - responsible for the preparation of the material that will be examined by the assurance provider; 2) Assurance provider - gives an opinion on the information that has been prepared, usually by way of a written report; 3) User - the recipient of the report. The report will always be addressed to the user. In the case of an external audit: 1) Professional person = Limited company; 2) Assurance provider = Audit firm; 3) User = Shareholders of the company. Key assumption: The owners are not involved in the day to day running of the business, they are not directors.

LEVEL OF ASSURANCE AND TYPES OF ASSURANCE ENGAGEMENTS: Assurance is NOT a guarantee of 100 % accuracy - it is an opinion that the professional person has prepared the information in a reasonable way so there will always be a risk attached that the assurance provider could arrive at an inappropriate opinion. A lower level of assurance is sometimes referred to as negative assurance - this does not mean something is wrong, it is a way of showing slightly lower confidence in the documents examined. There are different types of of assurance engagement, for example: 1) External audit - usually considered to be low risk for an external audit firm because they have a lot of experience and skill in this area. It involves examining statements and documents that summarise historic transactions; 2) Assurance report on PFI (Prospective Financial Information) - usually considered to be more risky, because assurance providers have less experience in this area. The documents that are reported on are summarising future events. All assurance engagements involve three stages: 1) Planning; 2) Evidence gathering; 3) Completion.

REGULATIONS THAT CONTROL EXTERNAL AUDIT: -

In order to be an auditor you need to be a member of the ACCA or another recognised professional body;

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Audit regulations are produced by the International Audit and Assurance Standards Board;

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Public Oversight Board has been established to attempt to improve the monitoring process.

AAA – Professional and Ethical Considerations Ethics Part 1 FUNDAMENTAL PRINCIPLES OF ACCA’S CODE: The 5 fundamental principles of the ACCA code are: 1. Integrity: Integrity means an auditor needs to be open and honest in everything that they do not hide anything. 2. Objectivity: Objectivity means freedom from bias. When carrying out an audit an auditor must be independent, they must also be SEEN to be independent by the external environment, there must be no question about anything that they do. 3. Professional competence: Professional competence is all about keeping up to date with their experience, auditors must constantly train and learn and develop their skills. 4. Confidentiality: Auditors must also ensure that they only use confidential information to help them do a better job, this information should never be used for personal gain. For example, an auditor knows that an acquisition of a competitor is planned so they buy shares now before the knowledge becomes public and the share price increases. This is a good example of an unacceptable use of confidential information. 5. Professional behaviour: Professional behaviour means that an auditor should make sure they are aware of the latest legislation relevant to their profession and that they apply it appropriately.

Throughout an audit, various threats will arise that could, if not addressed and managed, mean that the ethical code is being breached. As an auditor, it is up to us to identify those threats and implement relevant safeguards that will either remove the threat or reduce it to an acceptable level.

THREATS TO INDEPENDENCE: There are 5 major threats identified by the code: 1. Familiarity: Familiarity means that an auditor cannot have a close personal or family relationship with an audit client. This includes a relationship that has been established purely by long association-being the auditor for a number of years. 2. Self-review: Self-review threats arise from an auditor giving an opinion on something that they have prepared themselvespreparing the financial statements for a client and then auditing them would be an example of this.

3. Self-interest: Self-interest can arise when personal gain appears to become more important than doing your job. For example, if an auditor holds shares in the company they are auditing they could be more interested in protecting their investment than they are in doing their job, therefore, the quality of the audit may suffer. Even if an auditor claims to be able to continue to be unbiased in their work, the external environment would find this impossible to believe. 4. Advocacy: Advocacy is where an auditor is accused of representing or advocating a client position. This could be an auditor becoming a member of a client board of directors or perhaps giving a client some advice concerning an upcoming court case. Advocacy threat and management threat are sometimes split out and dealt with separately but they are really the same thing.

5. Intimidation: Intimidation is normally where a client is quite domineering in their behaviour and tries to make decisions on behalf of the audit firm by perhaps telling them what to audit and what to ignore. This kind of behaviour should always be treated with the utmost caution as it usually means the client has something to hide.

SAFEGUARDS: General safeguards: There are a number of safeguards that exist in order to manage these threats:

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Auditors should not obtain more than 15% of their recurring fee income from one client, this helps safeguard against self-interest (the percentage is 10% if the client is listed).

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An auditor should not own shares in a client company, this is another safeguard against self-interest.

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There should be regular rotation of staff between audit assignments in order to safeguard against familiarity.

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There is specific guidance that prohibits an auditor from preparing the financial statements and then auditing them if the company involved is listed. This is a safeguard against self-review.

There are also a number of general safeguards such as training and proper allocation of work that are dealt with in more detail in the practice management session.

Example A: Let us consider the following example as a way of applying our knowledge. During the annual audit of a clothes retailer, the audit staff attending the inventory count were invited to purchase any items from inventory at 30% of their normal retail price. This is clearly an objectivity issue arising because of a threat to auditor independence. The offer to buy at effectively a 70% discount is a self-interest threat. The audit team should attend an inventory count to observe the client staff ensuring the count procedures are followed to give an accurate inventory figure. If this offer is made then the audit staff could be distracted from their normal duties. The large discount is probably only designed for client staff so the auditor would apparently be being treated as a member of the client staff if the offer is accepted. However, only an offer has been made, there is no indication of acceptance so we can argue here that the audit staff have not breached any guidance yet.

Generally speaking, the staff attending an inventory count would be a lower level (audit juniors) so the threat offered is less, simply because the staff being offered the discount are not decision makers. The juniors do not decide what gets audited or in how much detail, this is down to audit partners and managers who are not being offered the inducement as they will not be at the inventory count. So we can say here that the threat is lower because it is only an offer (there is no evidence of acceptance) and the offer has only been made to lower level members of staff. However, it is still a threat and safeguards must be considered:

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Firstly, the offer must be recorded and documented. Any attempt to ignore it would demonstrate a lack of integrity, a fundamental ethical principle.

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Secondly, the offer must be refused and the refusal documented as well.

The situation should be discussed with the client so that they are aware that this kind of offer is inappropriate however well-meaning it was in the first place when it was made. Perhaps as well the audit staff should be changed for next year so the expectation of the discount is no longer an issue. Summary: We can see from this example that what might happen is almost more important than what actually does happen. The client might just be being nice to the audit staff, BUT it looks like it may be a bribe to persuade the audit staff to ignore problems with the count. We assume that the audit staff cannot do two things at once (observing the count and deciding what they would like to buy). Even if they are able to multi-task, it still is diverting them away from their reason for being there.

NOTE: Throughout the audit process an auditor must be constantly thinking about potential threats to their position. Any accusation that they may possibly have been unable to do their job must be anticipated, evaluated and managed. Remember, being seen to do things in the right way is almost more important than actually doing things in the right way! Example B: Let us consider another example that shows how this level of study can require us to look at something both in detail and perhaps from more than one angle. A manager has been involved in an interim audit of X and it is now time to consider whether they should be involved in the final year-end audit. Since the interim audit, the manager has told you that they have inherited 10,000 shares in the audit client X and that they do not want to sell them because the share price has recently fallen by 80%. You are assured that the inheritance occurred after the interim audit work was completed. In the last example, we were able to say that the staff were of a lower level so the threat was less. That is not the case here because managers would be higher level and involved in the planning of work and the allocation of staff. This is, therefore potentially a bigger ethical issue than the discount. Owning shares in a client company is a clear self-interest threat because the staff member involved could be more worried about their investment than they are about doing a good job as an auditor.

All of this is true BUT we have to remember here that these shares were not acquired, they were inherited. Massive difference because this means it was not an unethical act of buying shares using inside knowledge, no confidentiality breach. Not only that, but the audit manager has demonstrated integrity by owning up to the inheritance, they could have kept it quiet and how would we ever have found out? This is either an honest or welltrained staff member, either way, we as an audit firm are happy and above criticism. Also, the manager is showing business sense by saying that they do not want to sell the shares because the price is very low. Auditors with commercial awareness will be much better at doing their job so again a great sign for us. The only safeguards would be to make sure a different manager is involved in the final audit, seeing as the selfinterest threat would otherwise be too high. The shares were inherited after the interim work was done but a review of the work done by the manager at the interim audit would be advisable.

NOTE: This example is a great illustration of how it would be easy to jump straight in and to start criticising both the manager and the audit firm for a lack of ethical behaviour when the opposite is actually true. It would appear that all ethical issues have been dealt with in the right way, as long as the staffing stipulation for the final audit is observed.

AAA – Professional and Ethical Considerations Ethics Part 2 CONFIDENTIALITY: This information must not be used by the auditor for personal gain, nor must it be disclosed to third parties in case they use it in the same way. There are, however, specific circumstances where an auditor either can, or must, disclose confidential information:

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When the client has given permission for you to disclose;

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When there is a legal duty to disclose, for example, if an auditor is a witness in a court;

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When disclosure is in the public interest;

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If a client is suspected of drug trafficking, terrorism or money laundering.

MONEY LAUNDERING: Money laundering is the process of hiding the true origin of funds by passing the funds through a series of transactions to make it look as though those funds are from legitimate sources. Money laundering normally involves three steps: 1. Placing: Introducing the funds into a business, probably in small cash amounts so as not to arouse suspicion. 2. Layering: Moving the money around creating a complex chain of transactions making it difficult to follow.

3. Integration: Withdrawing the so called clean money from the business.

Example: For example, if I was going to launder money I would pick a business that has lots of small cash transactions, like a health spa with a restaurant, golf course, snooker tables, indoor tennis and swimming pool. I would make sure my members had to pay monthly subscriptions in cash, allowing me to place by creating fictitious members and paying in some of my illegal cash. I would have to create fictitious identities for these members (which is one area that an external auditor should be looking for). I would then layer by investing in other clubs in other countries and finally, I would integrate by paying myself a nice big salary every month. We have to think about this from an audit point of view, how could they spot this going on? Attending the club premises and checking who is supposed to be on the premises at any given point in time would identify any falsely signed in guests. Procurers: There are procedures that need to be put in place to give audit firms a decent chance of spotting money laundering activities.

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Appoint a Money Laundering Reporting Officer (MLRO), this will normally be a partner in the audit firm and all potential money laundering activity should be reported to them. If someone reports potential illegal activity and it turns out they were wrong, then they are protected by law. This is to encourage people to come forward in the first place.

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Have ‘Know Your Client’ (KYC) procedures, make sure as an auditor that you understand the client activities and that you document their systems.

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Check the identity of all new clients by inspecting passports or driving licenses.

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Train all of your staff in how to spot this type of activity, without tipping off the client. This is essentially telling the client you have found an issue giving them the opportunity to cover up or run. Tipping off is illegal.

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A greater emphasis placed upon analytical procedure at the planning stage of an audit as an efficient way of identifying areas of potential risk and inconsistency in the financial information that may suggest a money laundering issue.

CONFLICT OF INTEREST: These can arise during the course of an audit and need to be identified and managed in the same way as any other ethical threat. Examples of conflicts of interest include acting for two clients involved in the same industry or perhaps being asked to act as an auditor of both a target company and the acquirer in a possible takeover bid. Safeguards: The safeguards will vary according to the specific circumstances but some general ones could include:

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Disclosing the conflict to all involved parties, this is applying the fundamental principle of integrity.

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Allocate different teams of staff to each assignment with no discussion of the issues between the two groups.

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Advising one or more clients to seek independent advice.

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The ultimate safeguard is resignation but that should be avoided if possible on commercial grounds.

CHANGES IN APPOINTMENTS: When an auditor leaves office, ceases to act for a client, and is replaced by a new audit firm the ethical code of conduct applies between audit firms in the same way as it does between an auditor and their client. There are procedures that should be followed:

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Firstly, the new auditor will ask client permission to contact the outgoing firm. Permission is not actually needed but it is always useful to know what the reply is! Any hesitation suggests a problem and will probably result in the new firm refusing the work.

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Secondly, the new firm will write to the old one asking for all relevant information (risk assessments, systems notes and anything else they may need)to help with the upcoming audit.

If there is either delay or non-reply then the outgoing auditor would be in an ethical breach and it would be unlikely that the new audit firm would proceed with the engagement. It is possible to carry out an audit without getting input from the outgoing auditor but more than likely the work will be refused as it is perceived to be a problem client, which it probably is! When approached by a new client, it is essential to assess their integrity as soon as possible and to try and establish if they are likely to be opinion shopping. Opinion shopping is like shopping for anything else. If I was going to buy a car I would not buy the first one I saw. I would look around and try to find one that catered to my specific needs, one that suited me. If a client is doing this, it may be the case that they are looking for an auditor who can be manipulated into giving a certain type of opinion. This is an intimidation threat that makes an audit very difficult so a client who is opinion shopping should be avoided if possible.

EXAMPLE: 1. Your firm has been nominated to act as auditor for a private limited company. You have sent a letter to the outgoing auditor requesting some information from them but have had no reply. An attempt to phone for the information was also unsuccessful as you were told no one was available to help you. 2. You have also been approached by a company listed on the stock exchange to advise them on a takeover bid. The listed company is not an audit client of yours but you discover that the target company is a current...