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2Ac PSA 200 210 240

Accountancy (Northeastern College )

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AUDITING AND ASSURANCE PRINCIPLES

Jimmy I. Peru, JD,MBM,MICB,CPA

Module No. 3: PSA 200, 210, 240

PSA 200 – OVERALL OBJECTIVE OF THE INDEPENDENT AUDITOR AND THE CONDUCT OF AN AUDIT IN ACCORDANCE WITH PSA
PSA 210- TERMS OF AUDIT ENGAGEMENTS
PSA 240: THE AUDITOR’S RESPONSIBILITIES RELATING TO FRAUD IN AN AUDIT OF FINANCIAL STATEMENTS

PSA 200 – OVERALL OBJECTIVE OF THE INDEPENDENT

AUDITOR AND THE CONDUCT OF AN AUDIT IN
ACCORDANCE WITH PSA
• Conditions that may indicate possible fraud
An Audit of Financial Statements • Circumstances that suggest the need for audit procedures
• Purpose of audit: To enhance the degree of in addition to those required by the PSAs
confidence of intended users in the financial
statements. This is achieved by the expression of an Professional Judgement
opinion by the auditor whether the financial statements
are prepared, in all materials respects, in accordance Professional Judgement is exercise by an auditor whose
with an applicable financial reporting framework. training, knowledge and experience have assisted in
developing the necessary competencies to achieve
In my opinion, the financial statements present fairly, reasonable judgements.
in all material respects, the financial position of ABC
Company, as of May 31, 2013 and of its financial Sufficient Appropriate Audit Evidence
performance and its cash flows for the year then ended • Audit evidence is necessary to support the auditor’s
in accordance with Philippine Financial Reporting opinion and report.
Standards. • Audit evidence comprises both information that
supports and corroborates management assertions
• The auditor’s opinion does not assure the future • Sufficiency is the measure of quantity of audit
viability of the entity evidence
• The auditor’s opinion does not assure the efficiency or • Obtaining more audit evidence, may not compensate
effectiveness with which management has conducted for its poor quality
the affairs of the entity • Appropriateness is the measure of the quality of audit
• An audit is not intended to and cannot provide a evidence
guarantee or absolute assurance. • Appropriateness means both valid and relevant
• The higher the quality, the lesser quantity is required
Overall Objectives of the Auditor
1. To obtain reasonable assurance about whether the Audit Risk
financial statements as a whole are free from material
misstatement, whether due to fraud or error, thereby Audit risk is the risk that the auditor expresses an
enabling the auditor to express an opinion inappropriate audit opinion when the FS are materially
2. To report on the financial statements and communicate misstated. Audit risk is a function of the risks of material
as required by the PSAs, in accordance with the misstatement and detection risk.
auditor’s findings.
Components
In all cases when reasonable assurance cannot be obtained
and a qualified opinion in the auditor’s report is insufficient, 1. Inherent risk: the susceptibility of the subject matter
the PSAs require that the auditor disclaim an opinion or information to a material misstatement, assuming that
withdraw from the engagement. there are no related controls; and
2. Control risk: the risk that a material misstatement
Preparation of the Financial Statements that could occur will not be prevented, or detected and
corrected, on a timely basis by related internal
An audit by an independent auditor is premised on the fact controls. When control risk is relevant to the subject
that the financial statements subject to audit are those of matter, some control risk will always exist because of
the entity, prepared and presented by management of the inherent limitations of the design and operation of
the entity with oversight from those charged with internal control; and
governance, with the auditor engaged for purposes of 3. Detection risk: the risk that the practitioner will not
forming and expressing an opinion on them. detect a material misstatement that exists.
• The audit of the financial statements does not relieve
management and those charged with governance of Risk of Material Misstatement (RMM)
their responsibilities. Two levels
1. Overall FS level
Professional Skepticism 2. Assertion level (classes of transaction, account balances,
disclosures)
Professional skepticism is an attitude that includes a
questioning mind and a critical assessment of audit Components of RMM at the assertion level
evidence. 1. Inherent risk
2. Control risk
Professional skepticism includes being alert to:
• Audit evidence that contradicts other audit evidence Inherent Limitations of an audit
obtained • The auditor is expected to and cannot reduce audit risk
• Information that brings into question the reliability of to zero
documents and responses to inquiries to be used as audit • The auditor cannot obtain absolute assurance that the
evidence FS are free from material misstatement

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• Fraud may involve sophisticated and carefully • Arrangements regarding the planning and performance
organized schemes designed to conceal it of the audit.
• The auditor is neither trained nor expected to be an • Expectation that management will provide written
expert in the authentication of documents representations
• An audit is not an official investigation into alleged • Availability of draft financial statements given to
wrongdoing auditor
• The subsequent discovery of a material misstatement • Basis on which fees are computed and any billing
of the FS resulting from fraud or error does not by itself arrangements.
indicate a failure to conduct an audit in accordance with • Request for management to acknowledge receipt of the
PSAs audit engagement letter and to agree to the terms of
the engagement outlined therein
Benefit and Cost
• The matter of difficulty, time and cost involved is not in When relevant, the following points could also be made:
itself a valid basis for the auditor to omit an audit
procedure for which there is no alternative or to be • Arrangements concerning the involvement of other
satisfied with audit evidence that is less than auditors and experts in some aspects of the audit.
persuasive • Arrangements concerning the involvement of internal
auditors and other client staff.
PSA 210- TERMS OF AUDIT ENGAGEMENTS • Arrangements to be made with the predecessor auditor,
if any, in the case of an initial audit.
The auditor and the client should agree on the terms of the • Any restriction of the auditor’s liability when such
engagement. The agreed terms would need to be recorded possibility exists.
in an audit engagement letter or other suitable form of • A reference to any further agreements between the
contract. It is the interest of both client and auditor that the auditor and the entity.
auditor sends an engagement letter, preferably before the • Any obligations to provide audit working papers to other
commencement of the engagement, to help in avoiding parties
misunderstandings with respect to the engagement.

The engagement letter documents and confirms: Audits of Components

1. The auditor’s acceptance of the appointment
2. The objective and scope of the audit When the auditor of a parent entity is also the auditor of its
3. The extent of the auditor’s responsibilities to the client subsidiary, branch or division (component), the factors that
4. The form of any reports influence the decision whether to send a separate
engagement letter to the component include:
Preconditions for an Audit • Who appoints the auditor of the component
• Whether a separate audit report is to be issued on the
In order to establish whether the preconditions for an audit component
are present, the auditor shall: • Legal requirements in relation to audit appointment
a) Determine whether the financial reporting framework • Degree of ownership by parent.
to be applied in the preparation of the financial • Degree of independence of the component’s
statements is acceptable management
b) Obtain the agreement of management that it
acknowledges and understands its responsibility Recurring Audits
(i) Financial statements
(ii) Internal control On recurring audits, the auditor should consider whether
(iii) To provide the auditor with circumstances require the terms of the engagement to be
a. Access all information revised and whether there is a need to remind the client of
b. Additional information the existing terms of the engagement.
c. Unrestricted access to persons
The auditor may decide not to send a new engagement
Agreement on Audit Engagement Terms letter each period. However, the following factors may
make it appropriate to send a new letter.
Principal contents • Any indication that the entity misunderstands the
objective and scope of the audit.
The form and content of audit engagement letters may vary • Any revised or special terms of the audit engagement
for each client, but they would generally include: • A recent change of senior management
FORAM • A significant change in ownership
• The Objective and scope of the audit of financial • A significant change in nature of size of the entity’s
statements. business
• Management responsibilities • A change in legal and regulatory requirements.
• Auditor responsibilities • A change in the financial reporting framework adopted
• The Financial reporting framework for the preparation in the preparation the financial statements
the financial statements • A change in other reporting requirements
• The form and content of any Reports to be issued by
the auditor and a statement that there maybe Acceptance of a Change in Engagement
circumstances in which a report may differ from its
expected form and content A request from the client for the auditor to change the
engagement may result from:
The auditor may also wish to include in the letter: 1. A change in circumstances affecting the need for the
service;
• Elaboration of the scope of audit 2. A misunderstanding as to the nature of an audit as
• The form of any other communication of results of the originally requested; or
audit engagement 3. A restriction on the scope of the audit engagement,
• Unavoidable risk that some material misstatements whether imposed by management or caused by
may not be detected due to inherent limitations of audit circumstances.
and internal control
If the auditor concludes that there is reasonable
justification to change the audit engagement to a review
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or a related service, in order to avoid confusing the • Performing substantial analytical procedures using
reader, the report would not include reference to: disaggregated data
a) The original audit engagement; or • Conducting interviews
b) Any procedures that may have been performed in the • Performing CAATs
original audit engagement, except where the • Testing the integrity of computer-produced records
engagement is changed to an engagement to
undertake agree-upon procedures and thus reference Circumstances that Indicate the Possibility of Fraud
to the procedures performed is a normal part of the • Discrepancies in the accounting records
report. o Incomplete recording
o Unsupported or unauthorized transactions
PSA 240: THE AUDITOR’S RESPONSIBILITIES o Last-minute adjustments
RELATING TO FRAUD IN AN AUDIT OF FINANCIAL o Inconsistent access to systems and records
STATEMENTS o Tips or complaints to auditors about alleged fraud
• Conflicting or Missing evidence
Fraud o Missing documents
An intentional act by one or more individuals among o Altered documents
management, those charged with governance, employees o Unavailability of original documents
or third parties, involving the use of deception to obtain o Significant unexplained items in reconciliations
unjust or illegal advantage • Problematic or unusual relationships between the
auditor and management
Two types of Fraud or Misstatements o Denial of access to records
1. Fraudulent financial reporting o Undue time pressure
2. Misappropriation of assets o Complains by management about the conduct of audit
o Unusual delays of requested information
Fraudulent Financial Reporting o Unwillingness to facilitate auditor
• Manipulation, falsification (including forgery) or o Unwillingness to add or revised disclosures
alteration of accounting records or supporting o Unwillingness to address identified weaknesses in
documentation from which the FS are prepared internal control
• Misrepresentation in, or intentional omission from, the
FS of events, transactions or other significant Responsibility for the Prevention and Detection of Fraud
information
• Intentional misapplication of accounting principles The primary responsibility for the prevention and detection
relating to amounts, classification, manner of of fraud rests with both those charged with governance of
presentation, or disclosure the entity and management.

Fraudulent Financial Reporting involves Management Responsibilities of the Auditor

override of controls using the following techniques:
• Recording fictitious journal entries An auditor conducting an audit in accordance with PSAs is
• Inappropriately adjusting assumptions responsible for obtaining reasonable assurance that the
• Omitting, advancing or delaying recognition in the FS financial statements taken as a whole are free from material
of events and transactions misstatement, whether caused by fraud or error.
• Concealing or not disclosing facts
• Engaging in complex transactions structured to • The risk of not detecting a material misstatement
misrepresent resulting from fraud is higher than the risk of not
• Altering records and terms detecting one resulting from error
• The risk of the auditor not detecting a material
Misappropriation of Assets misstatement resulting from management fraud is
• Embezzling receipts greater than for employee fraud
• Stealing physical assets
• Causing an entity to pay for goods not received Auditor Unable to Continue the Engagement
• Using an entity’s assets for personal use
If, as a result of a misstatement resulting from fraud or
Fraud Risk Factors suspected fraud, the auditor encounters exceptional
circumstances that bring into question the auditor’s ability
Events or conditions that indicate an incentive or pressure to continue performing the audit, the auditor shall:
to commit fraud or provide an opportunity to commit fraud a) Determine the professional and legal responsibilities
applicable in the circumstances, including whether
Classifications of Fraud Risk Factors there is a requirement for the auditor to report to the
1. Incentives/pressures person or persons who made the audit appointment or
2. Opportunities in some cases to regulatory authorities
3. Attitudes/rationalizations b) Consider whether it is appropriate to withdraw from the
engagement, where withdrawal from the engagement
Evaluation of Fraud Risk Factors is legally permitted
c) If the auditor withdraws
Fraud risk factors may not necessarily indicate the i. Discuss with the appropriate level of management
existence of fraud, they have often been present in and those charged with governance the auditor’s
circumstances where frauds have occurred and therefore withdrawal from the engagement and the reasons
may indicate risks of material misstatement due to fraud for the withdrawal
ii. Determine if there is a professional or legal
Audit Procedures to Address the Assessed Risks of requirement to report to the person or persons
Material Misstatements Due to Fraud who made the audit appointment or in some cases,
• Visiting locations or performing tests on a surprise to regulatory authorities, the auditor’s withdrawal
basis from the engagement and the reasons for the
• Requesting that inventories be counted at year-end withdraw
• Altering the audit approach in the current year
• Investigating the possibility of related parties Risk Factors Relating to Misstatements Arising from
Fraudulent Financial Reporting

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Incentives/ Financial • High degree of competition or market Pressures financial

Pressures stability or saturation obligations
profitability • High vulnerability to rapid changes Adverse • Known or anticipated future employee
(technology, product obsolescence, relationships layoffs
interest rates) between • Recent or anticipated changes to
• Significant decline in customer demand entity and employee compensation or benefit plans
and increasing business failures employees • Promotions, compensation or other
• Operating losses (bankruptcy, with access reward inconsistent with expectations
foreclosure, hostile takeover) to cash
• Recurring negative cash flows Opportuniti Characteristi • Large amounts of cash on hand
• Rapid growth or unusual profitability es cs of assets • Inventory items that are small in size, of
• New accounting, statutory or regulatory high value, or in high demand
requirements • Easily convertible assets, such as bearer
Excessive • Profitability or trend level expectations bonds, diamonds or computer chips
pressure • Need to obtain additional financing • Fixed assets which are small in size,
exists for • Marginal ability to meet listing marketable or lacking observable
mngment to requirements identification of ownership
meet the • Perceived or real adverse effects of Inadequate • Inadequate segregation of duties
reqts or reporting poor financial results internal • Inadequate management oversight
expectations control • Inadequate job applicant screening
of third • Inadequate record keeping
parties • Inadequate system of authorization and
Opportuniti Nature of the • Significant related party transactions not approval of transactions
es entity in the ordinary course of business not • Inadequate physical safeguard over cash,
audited or audited by another firm investments, inventory or fixed assets
• Strong financial presence or ability to • Lack of complete and timely
dominate a certain industry sector reconciliation of assets
• Assets, liabilities, revenues and expenses • Lack of timely and inappropriate
based on significant estimates documentation of transactions
• Significant, unusual or complex • Lack of mandatory vacations for
transactions employees performing key control
• Significant operations located across functions
international borders • Inadequate management understanding of
• Significant bank accounts in tax-haven IT
jurisdictions • Inadequate access control over automated
Monitoring • Domination of management by a single records
of mngnt is person Attitudes/ • Disregard for the need for monitoring
not effective • Oversight is not effective Rationalizat • Disregard for internal control over
Complex or • Difficulty in determining the organization ions misappropriation of assets
unstable or individuals that have controlling • Behavior indicating displeasure or
organization interest in the entity dissatisfaction with the entity
al structure • Overly complex org’l structure • Changes in behavior or lifestyle
• High turnover of senior management, • Tolerance to petty theft
legal counsel
Internal • Inadequate monitoring of controls
components • High turnover rate or employment of
control are accounting, internal audit or IT staff
deficient • Accounting and information systems are
not effective

Attitudes/ • Communication, implementation, support

Rationalizat or enforcement of the entity’s values or
ions ethical standards are not effective
• Nonfinancial management’s excessive
participation in with the selection of
accounting policies
• Excessive interest by management in
maintaining or increasing the entity’s
stock price or earnings trend
• The practice by management of
committing to analysts, creditors, and
other third parties to achieve aggressive
or unrealistic forecasts
• Management failing to correct known
material weaknesses in internal control
on a timely basis
• Low morale among senior management
• Dispute between shareholders in a closely
held entity
• The relationship between management
and the current or predecessor auditor is
strained

Risk Factors Relating to Misstatements Arising from

Misappropriation of Assets

Incentives/ Personal

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