AUDITING
Finance Module - Thomas Pichler
Auditing
1
BLOCK I
INTRODUCTION
Auditing
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BLOCK I
COURSE STRUCTURE
BLOCK I - INTRODUCTION
Concept
COURSE STRUCTURE
Auditing
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BLOCK I
• This course is designed to introduce financial auditing. The main objectives of
the course are to develop a general understanding of the auditors’ work
(planning and performing an audit, forming an audit opinion) and the
framework in which the auditor operates in (International Standards - ISA).
• The centerpiece of the course is to apply the knowledge gathered directly
within several group works. The course is split into four blocks. As a starting
point, the course begins with a corporate reporting warm-up interpreting the
financial figures of an annual report followed by an introduction on auditing.
During class, we will walk through a workflow how to conduct an entire audit.
Special emphasis  planning and performing an audit on financial statements
and to impart knowledge on auditing by the key learning points, such as
understanding the audit objectives, the proper usage of applicable terms used
by auditors and the requirements of ISA including their application.
Auditing
3rd Semester
COURSE STRUCTURE
Auditing
Corporate Reporting
Accounting
Auditing
4
BLOCK I
BLOCK I - INTRODUCTION
Concept
COURSE STRUCTURE
Structure
DATE
TOPIC
TYPE
TIME
HOURS
*45MIN
18 OCTOBER
BLOCK I INTRODUCTION
GROUP WORKS PREPARATION & RESULTS
PRESENCIAL IN VIENNA
@ HOFZEILE
08:30 - 13:00
WITH BREAKS
4
23 OCTOBER
GRADED GROUP WORK 3 PRESENTATION (20% FG)
BLOCK II ADJUSTING EVENTS & AUDITING REQUIREMENTS
ONLINE VIRTUAL ROOM
@ ZOOM
9:30 - 12:45
4
27 OCTOBER
BLOCK II AUDITING SETUP (STRATEGY & INHERENT RISK)
ONLINE VIRTUAL ROOM
@ ZOOM
9:30 - 12:45
4
30 OCTOBER
AD-HOC ORAL ASSESSMENT VIRTUAL IN-CLASS B I-II (20% FG)
BLOCK II - AUDIT CONSIDERATIONS (MATERIALITY)
ONLINE VIRTUAL ROOM
@ ZOOM
9:30 - 12:45
4
ONLINE VIRTUAL ROOM
@ ZOOM
9:30 - 12:45
4
ONLINE VIRTUAL ROOM
@ ZOOM
9:30 - 12:45
4
ONLINE VIRTUAL ROOM
@ ZOOM
10:00 - 12:30
n/a
3 NOVEMBER
10 NOVEMBER
14 NOVEMBER
GRADED GROUP PRESENTATION ON MATERIALITY (20% FG)
BLOCK III AUDITING PERFORMANCE (ASSERTIONS)
GROUP WORK AUDITING PERFORMANCE PREPARATION & RESULTS
BLOCK IV INTERNAL CONTROL & COMBINED RISK ASSESSMENT
BLOCK IV AUDIT PROGRAM (PROCEDURES & PLAN)
BLOCK IV FINALISING THE AUDIT (AUDITOR’S OPINION)
ORAL EXAM VIRTUAL INDIVIDUAL B III-IV (40% FG)
24+EXAM
Auditing
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COURSE STRUCTURE
Assessment Overview
Performance
• 23 October - 20%
Graded group presentation on Corporate Reporting Training (20%)
• 30 October - 20%
Ad-hoc oral assessment virtual in-class on blocks I & II (20%)
• 3 November - 20%
Graded group presentation on Materiality (20%)
• 14 November - 40%
Oral exam virtual individual on blocks III & IV (40%)
Auditing
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BLOCK I
INTRODUCTION
Auditing
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BLOCK I
AUDITING BASICS
Auditing
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BLOCK I - INTRODUCTION
Overall objectives
AUDITING BASICS
Auditing
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BLOCK I
• WHY AUDITING
o As the basis for the auditor‘s opinion, International Standards on Auditing (ISA)
require the auditor to obtain reasonable assurance about whether the financial
statements as a whole are free from material misstatement, whether due to
fraud or error. = Accomplished when the auditor has obtained sufficient
appropriate audit evidence to reduce the audit risk (risk of expressing an
inappropriate opinion when FS are materially misstated) to be acceptably low
o A high, but not absolute, level of assurance, because of inherent limitations of
an audit; Inherent limitations arise from:
 the nature of financial reporting
 the nature of audit procedures
 the need for the audit to be conducted within a reasonable period of time
and at a reasonable cost
AUDITING BASICS
• TYPES OF AUDITS
o Financial statements audits
 shall enhance the degree of confidence of intended users in the financial
statements and provide assurance that management has presented a “true
and fair view” of a company’s financial performance and position
o Internal control audits
 express an opinion on the effectiveness of the internal control system
o Operational audits
 study of a specific unit of an organization to measure its performance
o Compliance audits
 review of an organization’s procedures and financial records performed to
determine whether the organization is following specific procedures, rules,
or regulations set out by some higher authority
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
Overall objectives
BLOCK I - INTRODUCTION
What can go wrong…
AUDITING BASICS
• Lehman Brothers was a global financial services firm based out of New York City,
New York. It was one of the largest investment banks in the United States. During
the 2008 financial crisis, it was discovered that the company had hidden over USD
50 billion in loans. These loans had been disguised as sales using accounting
loopholes.
Auditing
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BLOCK I
• According to an SEC investigation, the company had sold toxic assets to banks in the
Cayman Islands on a short-term basis. It was understood that Lehman Brothers
would buy back these assets. This gave the impression that the company had
USD 50 billion more in cash and USD 50 billion less in toxic assets. In the aftermath
of the scandal, Lehman Brothers went bankrupt.
AUDITING BASICS
• Enron Corporation was a US energy, commodities, and services company based out
of Houston, Texas. In 2001, the company had been using accounting loopholes to
hide billions of dollars of bad debt, while simultaneously inflating the company’s
earnings. An SEC investigation revealed that the company’s CEO, Jeff Skillings, and
former CEO, Ken Lay, had kept billions of dollars of debt off the company’s balance
sheet. In addition, they had pressured the company’s auditing firm, Arthur
Andersen, to ignore the issue. The convictions were as controversial as the
company’s collapse had been shocking, as prosecutor Andrew Weissman indicted
not just individuals, but the entire accounting firm of Arthur Andersen, effectively
putting the company out of business. It was little consolation to the 20,000
employees who had lost their jobs when the conviction was later overturned.
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
What can go wrong…
BLOCK I - INTRODUCTION
What can go wrong…
AUDITING BASICS
• Bernie Madoff is a former American stockbroker who orchestrated the biggest Ponzi
scheme in history, and also one of the largest accounting scandals. Madoff ran
Bernard L. Madoff Investment Securities LLC. After the 2008 financial crisis, it was
discovered that Madoff had tricked investors out of over USD 64.8 billion.
Auditing
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BLOCK I
• Madoff, his accountant, David Friehling, and second in command, Frank DiPascalli,
were all convicted of the charges filed against them. The former stockbroker
received a prison sentence of 150 years and was also ordered to pay USD 170 billion
in restitution.
BLOCK I - INTRODUCTION
What can go wrong…
AUDITING BASICS
Auditing
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BLOCK I
• For any meaningfully sized company, two billion dollars missing from the balance
sheet should be pretty noticeable. But WireCard, despite plenty of reports of
accounting irregularities going back years, made headlines in June 2020 when EY
(WireCard’s auditor) said it had been provided false information, could not sign off
on the the company’s 2019 accounts, and could not confirm whether two billions
dollars (¼ of the balance sheet) even existed.
BLOCK I - INTRODUCTION AUDITING BASICS
GROUP WORK & DISCUSSION
• Go to the internet, search for an accounting scandal and perform a presentation
(5-10 minutes) considering the following questions:
What happened?
o
How was the fraud identified?
o How could this accounting fraud have been avoided?
Auditing
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BLOCK I
o
IAASB
International Auditing
and Assurance
Standards Board
AUDITING BASICS
• Global independent standard-setting
body that serves the public interest by
setting high-quality international
standards which are generally accepted
• Robust international standards that
contribute to enhanced engagement
quality and consistency of practice
throughout the world and strengthened
public confidence in the global auditing
and assurance profession.
• Standards in the public interest with
advice from the IAASB Consultative
Advisory Group and under the oversight
of the Public Interest Oversight Board
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
The IAASB
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
Steering
Committee
• Standing committee of the IAASB
IAASB
Consultative
Advisory
Group
International
Federation of
Accountants
• Advises on matters of strategic and
operational importance
• Provides counsel and advises IAASB
Chair and Technical Director
Task Forces
and Working
Groups
Auditing
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BLOCK I
Public
Interest
Oversight
Board
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
Steering
Committee
IAASB
Consultative
Advisory
Group
International
Federation of
Accountants
• Facilitates structures and processes that
support the IAASB’s operations
Task Forces
and Working
Groups
Auditing
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BLOCK I
Public
Interest
Oversight
Board
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
Steering
Committee
IAASB
Consultative
Advisory
Group
International
Federation of
Accountants
• Comprises Board Members, Technical
Advisors and other external experts with
relevant experience
Task Forces
and Working
Groups
Auditing
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BLOCK I
Public
Interest
Oversight
Board
• Responsible for progressing projects and
initiatives
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
Steering
Committee
• Meets semi-annually
IAASB
Consultative
Advisory
Group
International
Federation of
Accountants
• Consults with member organizations to
provide input
• Advises on the IAASB’s agenda and work
plan and provides input on its projects
and initiatives
Task Forces
and Working
Groups
Auditing
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BLOCK I
Public
Interest
Oversight
Board
• 29 member organizations and 3
observers
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
IAASB CAG
• The IAASB CAG is an integral and important part of the IAASB’s due process.
• CAG Representatives provide advice on numerous areas of public interest,
including the IAASB’s strategy, work program and priorities, and other matters of
relevance to the IAASB’s activities. All IAASB standardsetting projects are discussed
with the IAASB CAG at each key stage of development— project inception, during
the development of a proposed standard prior to exposure and prior to finalization
of the standard.
Auditing
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BLOCK I
• The IAASB also formally reports back to the IAASB CAG on how its input has been
considered. The IAASB CAG consists of more than 30 member organizations and
observers representing global regulators, business and international organizations,
and users and preparers of financial statements.
AUDITING BASICS
IAASB CAG – 29 Member Organizations
• Accountancy Europe
• Associação Brasileira de Instituições Financeiras de
Desenvolvimento
• Interamerican Accounting Association
• International Accounting Standards Board
• International Actuarial Association
• International Association of Financial Executives Institutes
• Basel Committee on Banking Supervision
• International Association of Insurance Supervisors
• BUSINESSEUROPE
• International Bar Association
• CFA Institute
• International Corporate Governance Network
• European Commission
• International Organization of Securities Commissions
• European Federation of Accountants and Auditors for SMEs
• International Organization of Supreme Audit Institutions
• Financial Executives Institutes International
• International Valuation Standards Council
• Gulf States Regulatory Authorities
• Islamic Financial Services Board
• Information Systems Audit and Control Association
• Japan Securities Dealers Association
• Institute of Internal Auditors
• National Association of State Boards of Accountancy
•
Organisation for Economic Cooperation and Development
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
The IAASB
BLOCK I - INTRODUCTION
The IAASB
AUDITING BASICS
Steering
Committee
IAASB
Consultative
Advisory
Group
(CAG)
International
Federation of
Accountants
• Provides oversight on: nomination of
IAASB Members; the IAASB’s terms of
reference; the IAASB’s strategy and work
plans; approval of CAG’s terms of
reference and the IAASB’s due process
Task Forces
and Working
Groups
Auditing
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BLOCK I
Public
Interest
Oversight
Board
• Independent oversight body appointed
by the Monitoring Group to oversee the
IAASB’s activities
AUDITING BASICS
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
Acceptance of the ISA
AUDITING BASICS
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
ISA Framework
AUDITING BASICS
• General principles and responsibilities
o ISA 200
Overall objectives of the independent auditor and the conduct of
an audit in accordance with international standards on auditing
o ISA 210
Agreeing the terms of audit engagements
o ISA 220
Quality control for an audit of financial statements
o ISA 230
Audit documentation
o ISA 240
The auditor’s responsibility relating to fraud in an audit of financial
statements
o ISA 250
Consideration of laws and regulations in an audit of financial
statements
o ISA 260
Communication with those charged with governance
o ISA 265
Communicating deficiencies in internal control to those charged
with governance and management
Auditing
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BLOCK I
BLOCK I - INTRODUCTION
ISA Framework
BLOCK I - INTRODUCTION
ISA Framework
AUDITING BASICS
Auditing
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BLOCK I
• Risk assessment and response to assessed risks
o ISA 300
Planning an audit of financial statements
o ISA 315
Identifying and assessing the risk of material misstatement through
understanding the entity and its environment
o ISA 320
Materiality in planning and performing an audit
o ISA 330
The auditor’s response to assessed risks
o ISA 402
Audit considerations relating to an entity using a service
organisation
o ISA 450
Evaluation of misstatements identified during the audit
BLOCK I - INTRODUCTION
ISA Framework
ISA 550
o ISA 560
o ISA 570
o ISA 580
o
Audit evidence (and specific considerations)
External confirmations
Initial audit engagements - opening balances
Analytical procedures
Audit sampling
Auditing accounting estimates, including fair value accounting
estimates, and related disclosures
Related parties
Subsequent events
Going concern
Written representations
Auditing
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BLOCK I
• Audit evidence
o ISA 500/501
o ISA 505
o ISA 510
o ISA 520
o ISA 530
o ISA 540
AUDITING BASICS
BLOCK I - INTRODUCTION
ISA Framework
AUDITING BASICS
• Using the work of others
o ISA 600
Special considerations – audits of group financial statements
o ISA 610
Using the work of internal auditors
o ISA 620
Using the work of an auditor’s expert
Auditing
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BLOCK I
• Audit conclusions and reporting (1)
o ISA 700
Forming an opinion and reporting on financial statements
o ISA 705
Modifications to the opinion in the independent auditor’s report
o ISA 706
Emphasis of matters paragraphs and other matter paragraphs in
the independent auditor’s report
o ISA 710
Comparative information – corresponding figures + comparative FS
o ISA 720
The auditor’s responsibilities relating to other information in
documents containing audited financial statements
BLOCK I - INTRODUCTION
ISA Framework
AUDITING BASICS
• Specialized areas
o ISA 800
Special Considerations-Audits of Financial Statements Prepared in
Accordance with Special Purpose Frameworks
o ISA 805
Special Considerations-Audits of Single Financial Statements and
Specific Elements, Accounts or Items of a Financial Statement
o ISA 810
Engagements to Report on Summary Financial Statements
Auditing
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BLOCK I
• International Standard on Quality Control (ISQC) 1 (Quality Controls for Firms that
Perform Audits and Reviews of Financial Statements, and Other Assurance and
Related Services Engagements)
BLOCK I - INTRODUCTION AUDITING BASICS
GROUP WORK & DISCUSSION
• Each group selects one ISA and explains each one during 10 minutes based on an
annual report under IFRS considering the following questions:
What is the objective of the respective ISA?
o
How would you apply the ISA based on an annual report?
Auditing
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BLOCK I
o
BLOCK I
CORPORATE REPORTING APPLICATION
Auditing
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BLOCK I
CORPORATE REPORTING TRAINING
BLOCK I – CORPORATE REPORTING CORPORATE REPORTING TRAINING
GRADED GROUP WORK – 20%
• Download the annual report of the year 2022 of the bank HYPO NOE
• Discussion about the structure of an annual report – How do you read it?
• Answer the following questions:
What is the net interest income of the year 2022, what are the interest-binding positions in the
balance sheet and which segment contributed most to the net interest income?
o What is net measurement gain based on financial assets mandatorily measured @ FVTPL, what
positions lead to this gain, what is the sensitivity of that positions and which measurement
method(s) were used?
o What is the carrying amount of financial assets measured @ AC, what is the respective difference
to the fair value and how would you explain that difference?
o How much negative fair value of hedges (hedge accounting) does the enterprise face as at
31 December 2022, what is it and which fair value level does the amount refer to?
Auditing
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BLOCK I
o
BLOCK I – CORPORATE REPORTING CORPORATE REPORTING TRAINING
GRADED GROUP WORK – 20%
o
o
o
o
o
o
o
How did the bank account for a negative interest rate provision, what segment considered this
provision and what does it mean?
What is the NPL ratio, how did the bank calculate it and what is your conclusion on it?
Which one-off effects did the bank consider calculating the cost-to-income ratio, what is the
meaning of this ratio and how good or bad is this ratio compared to the banking market?
Based on the 31 December 2022, what is the excess of regulatory equity and what does it mean
to the business of the bank?
What was the recycling result of financial assets – FVOCI and how do you interpret this figure?
What is the investment of highest carrying amount accounted for using the equity method and
how did this investment contribute to the profit before tax of the bank?
What is the amount of expected credit losses within the Stages 1 and 2 and how do you interpret
the changes to the year before?
What was the impairment loss on financial assets – IFRS 9 ECL in 2022 and what does it mean
compared to the previous period?
Auditing
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BLOCK I
o
BLOCK II
ADJUSTING EVENTS
Auditing
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BLOCK II
IAS 8 – CHANGES IN POLICIES, ESTIMATES & ERRORS
Changes in
accounting policies


In case of a new standard or
the change of a standard
retrospective
Exceptions:
 New standard requires
prospective application
 Change to revaluation
method according to IAS
16/IAS 38
 Retrospective application
not possible
IAS 8 CHANGES
Changes in
accounting estimates


In case of doubt: change in
estimate, not an accounting
policy change
prospective
Auditing
Errors

restrospective
Exceptions:
 Immaterial errors
 Retrospective application
not possible
36
BLOCK II
BLOCK II – ADJUSTING EVENTS
Overview
BLOCK II – ADJUSTING EVENTS
Acounting policies changes
IAS 8 CHANGES
Auditing
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BLOCK II
• When an IFRS specifically applies to a transaction, event or condition, the
accounting policy applied to that shall be determined by applying the IFRS.
• In the absence of an IFRS that specifically applies to a transaction, other event
or condition, management shall use its judgement in developing and applying
an accounting policy that results in information that is
• relevant to the economic decision-making needs of users; and
• reliable, in that the financial statements
• represent faithfully the financial position, performance and cash flows
• reflect the economic substance of transactions, other events and
conditions, and not merely the legal form
• are neutral, ie free from bias
• are prudent
• are complete in all material respects
BLOCK II – ADJUSTING EVENTS
Acounting policies changes
IAS 8 CHANGES
Auditing
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BLOCK II
• In making the judgement, management shall refer to, and consider the
applicability of, the following sources in descending order
1. the requirements in IFRSs dealing with similar and related issues
2. the definitions, recognition criteria and measurement concepts for
assets, liabilities, income and expenses in the framework
• Management may also consider the most recent pronouncements of other
standard-setting bodies that use a similar conceptual framework to develop
accounting standards, other accounting literature and industry practice
• An entity shall select and apply its accounting policies consistently for similar
transactions, other events and conditions, unless an IFRS specifically requires
or permits categorisation of items for which different policies may be
appropriate. If an IFRS requires or permits such categorisation, an appropriate
accounting policy shall be selected and applied consistently to each category.
BLOCK II – ADJUSTING EVENTS
Acounting policies changes
IAS 8 CHANGES
• An entity shall change an accounting policy only if the change
• is required by an IFRS; or
• results in the financial statements providing reliable and more relevant
information about the effects of transactions, other events or conditions
on the entity’s financial position, financial performance or cash flows
• Changes need to be accounted for retrospectively
•  Beginning balance and comparative information is to adjust in a way as
if the new accounting policy had always been applied
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BLOCK II
• When it is impracticable to determine the period-specific effects of changing a
policy on comparative information, the entity applies the new policy as at the
beginning of the earliest period for which retrospective application is possible
BLOCK II – ADJUSTING EVENTS
Acounting policies changes
IAS 8 CHANGES
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BLOCK II
• When an entity has not applied a new IFRS that has been issued but is not yet
effective, the entity shall disclose
• this fact; and
• known or reasonably estimable information relevant to assessing the
possible impact that application of the new IFRS will have on the entity’s
financial statements in the period of initial application (or the fact that it is
not possible to estimate it)
BLOCK II – ADJUSTING EVENTS IAS 8 CHANGES
Accounting estimate changes
• The effect of a change in an accounting estimate shall be recognised
prospectively by including it in profit or loss in
• the period of the change, if the change affects that period only; or
• the period of the change and future periods, if the change affects both.
• Examples: Impaired loans, change in the estimation of a useful life, change in
estimate of fair value
Auditing
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BLOCK II
• To the extent that a change in an accounting estimate gives rise to changes in
assets and liabilities, or relates to an item of equity, it shall be recognised by
adjusting the carrying amount of the related asset, liability or equity item in
the period of the change.
BLOCK II – ADJUSTING EVENTS
Errors
IAS 8 CHANGES
• Potential current period errors discovered in that period are corrected before
the financial statements are authorised for issue.
• However, material errors are sometimes not discovered until a subsequent
period, and these prior period errors are corrected in the comparative
information presented in the financial statements for that subsequent period
• Retrospective adjustment
• Adjustment of comparative information as if the error had never occurred
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BLOCK II
• Material omissions or misstatements of items are material if they could,
individually or collectively, influence the economic decisions that users make
on the basis of the FS. Materiality depends on the size and nature of the
omission or misstatement judged in the surrounding circumstances. The size
or nature of the item, or a combination, could be the determining factor.
BLOCK II – ADJUSTING EVENTS
Retrospective restatement
IAS 8 CHANGES
• Retrospective restatement is correcting the recognition, measurement and
disclosure of amounts of elements of financial statements as if a prior period
error had never occurred
• When it is impracticable to determine the period-specific effects of an error
on comparative information, the entity restates the opening balances of
assets, liabilities and equity for the earliest period for which retrospective
restatement is practicable (which may be the current period)
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BLOCK II
• When it is impracticable to determine the cumulative effect, at the beginning
of the current period, of an error on all prior periods, the entity shall restate
the comparative information to correct the error prospectively from the
earliest date practicable.
BLOCK II – ADJUSTING EVENTS
Retrospective restatement
IAS 8 CHANGES
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BLOCK II
Correction of an error - disclosure
• The nature of the prior period error
• For each prior period presented, to the extent practicable, the amount of the
correction
• for each financial statement line item affected; and
• if IAS 33 applies to the entity, for basic and diluted earnings per share
• The amount of the correction at the beginning of the earliest prior period
presented
• If retrospective restatement is impracticable for a particular prior period, the
circumstances that led to the existence of that condition and a description of
how and from when the error has been corrected.
BLOCK II – ADJUSTING EVENTS
Retrospective restatement
IAS 8 CHANGES
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BLOCK II
Change of an accounting policy - disclosure
• Title of the IFRS
• Nature of the change in accounting policy
• Description why the changes lead to more reliable information
• Amount of the adjustment
• for each financial statement line item affected; and
• if IAS 33 Earnings per Share applies to the entity, for basic and diluted
earnings per share
• Amount of the adjustment relating to periods before those presented, to the
extent practicable
• If retrospective application is impracticable for periods before those
presented, the circumstances that led to the existence of that condition
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
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BLOCK II
• When would you correct immaterial errors?
1. In prior periods (retrospective restatement)
2. In the current period
3. In the upcoming period
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
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BLOCK II
• When would you correct immaterial errors?
1. In prior periods (retrospective restatement)
2. In the current period
3. In the upcoming period
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
• Does the following case imply an error, a change in accounting estimate or a
change in account policies? How would you account for according to IAS 8?
Auditing
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BLOCK II
A provision was recognized in the amount of EUR 20 million. The management
has identified in the current period that the correct value should be EUR 28
million. The change is caused by a mistake of a parameter (kilometer was mixed
with miles).
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
• Does the following case imply an error, a change in accounting estimate or a
change in account policies? How would you account for according to IAS 8?
A provision was recognized in the amount of EUR 20 million. The management
has identified in the current period that the correct value should be EUR 28
million. The change is caused by a mistake of a parameter (kilometer was mixed
with miles).
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BLOCK II
 Error, if material: retrospective
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
• Does the following case imply an error, a change in accounting estimate or a
change in account policies? How would you account for according to IAS 8?
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BLOCK II
A warranty provision was recognized in the amount of EUR 10 million. The
management adjusts the provision by additional EUR 8 million because of more
product defects as estimated a year before.
BLOCK II – ADJUSTING EVENTS
Comprehensive questions
IAS 8 CHANGES
• Does the following case imply an error, a change in accounting estimate or a
change in account policies? How would you account for according to IAS 8?
A warranty provision was recognized in the amount of EUR 10 million. The
management adjusts the provision by additional EUR 8 million because of more
product defects as estimated a year before.
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BLOCK II
 Change in accounting estimate: Prospective
BLOCK II
ADJUSTING EVENTS
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BLOCK II
IAS 10 – EVENTS AFTER THE REPORTING PERIOD
BLOCK II - ADJUSTING EVENTS
Definition
IAS 10 EVENTS
Subsequent Events are
• events after the reporting period are those events, favourable and
unfavourable, that occur between the end of the reporting period and the
date when the financial statements are authorised for issue
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BLOCK II
• An entity shall disclose the date when the financial statements were
authorised for issue and who gave that authorisation. If the entity’s owners or
others have the power to amend the financial statements after issue, the
entity shall disclose that fact.
BLOCK II - ADJUSTING EVENTS
Differentiation
IAS 10 EVENTS
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BLOCK II
Differentiation in
• Adjusting events after the reporting period
• Event that led to right/obligation took place at or before the end of
reporting date
• MUST be adjusted
• Non-Adjusting events after the reporting period
• Event that led to right/obligation took place after the end of reporting
date
• MUST NOT be adjusted
• MUST be disclosed within notes
BLOCK II - ADJUSTING EVENTS IAS 10 EVENTS
Adjusting Events (Examples)
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BLOCK II
• Settlement after reporting period of a court case that confirms that the entity
had a present obligation at the end of the reporting period. (Entity does not
merely disclose a contingent liability because the settlement provides
additional evidence that would be considered)
• Receipt of information after the reporting period indicating that an asset was
impaired at the end of the reporting period (e.g. bankruptcy of a customer,
sale of inventories give evidence about their net realisable value,
determination of the cost of assets purchased) or proceeds from assets sold
• Determination after the reporting period of the amount of profit-sharing or
bonus payments, if the entity had a present legal or constructive obligation to
make such payments as a result of events before that date
• Discovery of fraud or errors that show that the FS are incorrect
BLOCK II - ADJUSTING EVENTS IAS 10 EVENTS
Non-Adjusting Events (Examples)
Auditing
56
BLOCK II
• Major business combinations after the reporting period or disposing of a
major subsidiary
• Announcing a plan to discontinue an operation
• The destruction of a major production plant by a fire after reporting period
• Announcing, or commencing the implementation of, a major restructuring
• Major ordinary share transactions and potential ordinary share transactions
after the reporting period
• Abnormally large changes after reporting period in prices or FX rates
• Changes in tax rates or tax laws enacted or announced after the reporting
period that have significant effects on current or deferred tax assets/liabilities
• Entering into significant commitments or contingent liabilities (eg. guarantees)
• Commencing major litigation arising solely out of events that occurred after
the reporting period
BLOCK II - ADJUSTING EVENTS
Non-Adjusting Events
IAS 10 EVENTS
If non-adjusting events after the reporting period are material, nondisclosure could influence the economic decisions that users make on the
basis of the financial statements. Accordingly, an entity shall disclose the
following for each material category of non-adjusting event after the
reporting period
Auditing
57
BLOCK II
• the nature of the event
• an estimate of its financial effect
• or a statement that such an estimate cannot be made
BLOCK II - ADJUSTING EVENTS
Dividends
IAS 10 EVENTS
• The declaration of dividends to holders of equity instruments after the
reporting date shall not be recognized as a liability at the end of the reporting
date [10.12]
Auditing
58
BLOCK II
• If dividends are declared after the reporting period but before the financial
statements are authorised for issue, the dividends are not recognised as a
liability at the end of the reporting period because no obligation exists at that
time. Such dividends are disclosed in the notes in accordance with IAS 1
Presentation of Financial Statements. [10.13]
BLOCK II - ADJUSTING EVENTS
Going Concern
IAS 10 EVENTS
• An entity shall not prepare its financial statements on a going concern
basis if management determines after the reporting period [10.12]
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59
BLOCK II
• either that it intends to liquidate the entity
• or to cease trading
• or that it has no realistic alternative but to do so
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
Auditing
60
BLOCK II
• Non-Adjusting events must not neither to be adjusted in the financial
statements, nor to be disclosed.
1. Right
2. Wrong
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
Auditing
61
BLOCK II
• Non-Adjusting events must not neither to be adjusted in the financial
statements, nor to be disclosed.
1. Right
2. Wrong
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
Auditing
62
BLOCK II
• What is a typical example of a non-adjusting event that requires disclosure?
1. Determined amount of bonus payments
2. Bankruptcy of a customer that owe money
3. Identification of fraud or errors
4. Publication of a plan to discontinue an operation
5. Settlement of a court case
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
Auditing
63
BLOCK II
• What is a typical example of a non-adjusting event that requires disclosure?
1. Determined amount of bonus payments
2. Bankruptcy of a customer that owe money
3. Identification of fraud or errors
4. Publication of a plan to discontinue an operation
5. Settlement of a court case
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
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64
BLOCK II
• Which of the following examples represent an adjusting event?
1. Destruction of a production plant (including inventory) caused by fire
after the reporting date. Since the insurance company does not pay, the
company faces material losses.
2. Final settlement of a court case which is recognized as a contingent
liability as at reporting date.
BLOCK II - ADJUSTING EVENTS
Comprehensive questions
IAS 10 EVENTS
Auditing
65
BLOCK II
• Which of the following examples represent an adjusting event?
1. Destruction of a production plant (including inventory) caused by fire
after the reporting date. Since the insurance company does not pay, the
company faces material losses.
2. Final settlement of a court case which is recognized as a contingent
liability as at reporting date.
BLOCK II
AUDITING REQUIREMENTS
Auditing
66
BLOCK II
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
Small limited liability company
(GmbH) - no board
Other limited liability company
(GmbH) – no board
Limited liability company
(GmbH) with supervisory
board
Public company (AG) with
supervisory board
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
Preparation of FS
Independent 3rd Party
Authorisation of FS
Management
Company General Meeting
Company General Meeting
Management
Auditor
Company General Meeting
Management
Auditor / Supervisory Board
Company General Meeting
Management
(Executive Board)
Auditor / Supervisory Board
Auditing
Supervisory Board
(General Meeting in case of Board
rejection or Board+Management decision)
67
BLOCK II
BLOCK II - AUDITING REQUIREMENTS
Overview
BLOCK II - AUDITING REQUIREMENTS
Overview
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
• Limited Liability Company (GmbH) without Supervisory Board
Auditor
appoint the auditor
audit report to Management
appoint, supervises and
remunerates Management
Management
Owners
Auditing
68
BLOCK II
mananges business in owners
interest and prepares financial
statements
BLOCK II - AUDITING REQUIREMENTS
Overview
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
• Public Company (AG) with Supervisory Board
Supervisory Board
conclusion
of contract
reports
Auditor
Management
Shareholders
Auditing
69
BLOCK II
manages business in shareholders interest
BLOCK II - AUDITING REQUIREMENTS
Requirements
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
Auditing
70
BLOCK II
• Requirements
o Ethical behaviour
 Auditor shall comply with relevant ethical requirements, including those
pertaining to independence, relating to financial statement audit
engagements (ISA 200.14)
o Professional scepticism
 Auditor shall plan and perform an audit with professional skepticism
recognizing that circumstances may exist that cause the FS to be materially
misstated (ISA 200.15)
o Professional judgment
 The auditor shall exercise professional judgment in planning and performing
an audit of FS (ISA 200.16)
BLOCK II - AUDITING REQUIREMENTS
Requirements
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
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• Application of requirements on independence and ethical behaviour
o Fundamental principles of professional ethics relevant to the auditor:
 Integrity
 Objectivity
 Professional competence and due care
 Confidentiality, and
 Professional behaviour
o Independence of mind and in appearance
o No interest in the entity
o No participation in the entity or in the preparation of the financial statements
o Economic independence
BLOCK II - AUDITING REQUIREMENTS
Importance
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
• Why is independence important?
o Unbiased audit opinion
 The auditor has to be able to form an opinion without being affected by
influences that might comprise that opinion
o Independence maintains professional scepticism, and
o Enhances the auditor‘s ability to be objective and to act with integrity
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BLOCK II
• Why is professional scepticism important?
o Being alert to conditions which may indicate possible misstatements due to
fraud or error
o Critical assessment of audit evidence
BLOCK II - AUDITING REQUIREMENTS
Importance
RESPONSIBILITIES, INDEPENDENCE AND ETHICS
• Why is independence regarding professional judgment important?
o Critical evaluation of management‘s judgement
o Assessing the reasonableness of the estimates made by management in
preparing the financial statements
Auditing
73
BLOCK II
• What can go wrong?
o Self-interest threats, self-review threats, etc. that lead to the risk that the
auditor expresses an inappropriate audit opinion
BLOCK II
AUDITING REQUIREMENTS
Auditing
74
BLOCK II
APPOINTMENT, COMMUNICATION AND ACCEPTANCE
BLOCK II - AUDITING REQUIREMENTS
Assurance
APPOINTMENT, COMM AND ACCEPTANCE
• Levels of Assurance
Type of service
Level of assurance
Opinion
Similar services
Audit
Review
Reasonsable
Limited
Positive
Negative
Auditing
Agreed upon
procedures
Compilation of
financial information
No assurance
No opinion
 Facts
No opinion
 Compilation
75
BLOCK II
Audits
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
Auditing
76
BLOCK II
• § 270 UGB (Austrian Commercial Code)
o In case of a Supervisory Board:
 Proposal of appointment by Supervisory Board
 Election by shareholders within the Annual General Meeting
 Conclusion of contract by head of Supervisory Board
o No Supervisory Board:
 Election by owners (or their legal representatives)
 Conclusion of contract by Management
o No auditor appointed by company but required by law  Appointment by court
o Lack of independence  Appointment by court on request of 5% of
shareholders
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
• Requirements from the auditor before appointment:
o Disclosure of register of total income of the auditor from the entity
o Report on participation in quality control
o Disclosure of facts and circumstances that might indicate a lack of independence
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BLOCK II
• Once the auditor has signed the engagement letter the contract can only be
cancelled for good reasons
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
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78
BLOCK II
• Auditor‘s Liability:
o Faithful and unbiased audit
o Discreetness
o 3rd party liability in case of carelessness
o Limited liability (from 2 to 12 Mio EUR depending on company size)
o Unlimited liability in case of intent
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
Auditing
79
BLOCK II
• EU Audit Reform 2016 (EU-RL 2014/56/EU und EU-VO 537/2014; APRÄG 2016)
o Regulation
 Increasing requirements regarding independence, better information within
audit opinions (key audit matters to be included), more competences for
audit regulators and EU wide ISA adoption
o Directive
 External rotation
 Permissibility and fee limitations of non-audit services
 Strengthening the Audit Committee
o Application required for Public Interest Entities (PIE) including all banks and
insurances
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
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80
BLOCK II
• Audit job rotation – Public Interest Entity
o Internal rotation
 Every 5 years
o External rotation
 Public Interest Entity (excl. bank and insurance sector)
• Every 10 years new public invitation
• After public invitation possible  prolongation for further 10 years
(14 years in case of joint audit)
• Four years cooling-off period
 Public Interest Entity bank and insurance sector
• Every 10 years new public invitation
• Four years cooling-off period
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
Auditor
Auditor‘s Report
Supervisory Board
Auditor‘s Report
Auditor‘s Opinion
Management Letter
Special Reporting
Requirements
Public
Special Reporting
Requirements
Auditing
81
BLOCK II
Management
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
• Obligation to confidentiality
o Information only to authorised levels
o Discreetness (no talking in public, no talking at home, only team members)
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BLOCK II
• Why is that important
o Internal information not to go public
o Information flow only to people in charge
BLOCK II - AUDITING REQUIREMENTS
Legal AUDIT requirements
APPOINTMENT, COMM AND ACCEPTANCE
Appointment as Auditor
Meeting with management and, where appropriate, those charged with governance
Client Acceptance Procedure
Engagement Acceptance Procedure
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83
BLOCK II
Signed Engagement Letter
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
What is it about?
• Understand the clients ownership and management structure
• Checkup of relevant information of those charged with governance and
management (e.g. ID-checks)
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84
BLOCK II
• Identify related parties through inquiries of management during the client and
engagement acceptance or continuance process
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
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85
BLOCK II
• Agreeing the terms of audit engagements (ISA 210)
Auditors shall accept or continue an audit engagement only when
o there is a common understanding between the auditor and management and,
where appropriate, those charged with governance of the terms of the audit
engagement
o the following preconditions for an audit are present
 acceptable preparation of financial statements by management in
accordance with applicable financial reporting standards
 management understands and acknowledges its responsibilities
(preparation of financial statements, internal control environment to enable
preparation of FS free from material misstatement, provide the auditor with
all relevant information regarding the audit)
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
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86
BLOCK II
• Engagement Letter
o Agreed terms of the audit engagement shall be recorded in an audit
engagement letter in written form and include:
 The objective and scope of the audit of the financial statements
 The responsibilities of the auditor
 The responsibilities of management
 Identification of the applicable financial reporting framework for the
preparation of the financial statements and
 Reference to the expected form and content of any reports to be issued by
the auditor and a statement that there may be circumstances in which a
report may differ form its expected form and content
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
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87
BLOCK II
• Engagement Letter – Content in Detail
o Scope of the audit, including reference to applicable legislation, regulations, ISAs
and ethical and other pronouncements of professional bodies to which the
auditor adheres
o Form of any other communication of results of the audit engagement
o The fact that there is an unavoidable risk that some material misstatements may
not be detected (inherent limitations of an audit together with inherent
limitations of internal control), even though the audit is properly planned and
performed in accordance with ISAs.
o Arrangements regarding the planning and performance of the audit, including
the composition of the engagement team
o Expectation that management will provide written representations
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
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88
BLOCK II
• Engagement Letter – Content in Detail
o Agreement of management to make available to the auditor draft financial
statements and any accompanying other information in time to allow the
auditor to complete the audit in accordance with the proposed timetable
o Agreement of management to inform the auditor of facts that may affect the
financial statements, of which management may become aware during the
period from the date of the auditor‘s report to the date the financial statements
are issued
o The basis on which fees are computed and any billing arrangements
o A request for management to acknowledge receipt of the audit engagement
letter and to agree to the terms of the engagement outlined therein.
BLOCK II - AUDITING REQUIREMENTS
Engagement Acceptance
APPOINTMENT, COMM AND ACCEPTANCE
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89
BLOCK II
• Engagement Letter – Content in Detail
o The responsibilities of the auditor;
o The responsibilities of management;
o Identification of the applicable financial reporting framework for the
preparation of the financial statements
o Reference to the expected form and content of any reports to be issued by the
auditor and a statement that there may be circumstances in which a report may
differ from its expected form and content
BLOCK II
AUDITING SETUP
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BLOCK II
AUDIT STRATEGY
BLOCK II - AUDITING SETUP
Process
AUDIT STRATEGY
Planning (2)
Preliminary
Engagement
Activities
(2)
Forming an
Opinion (4)
Substantive
Audit
Procedures
(3)
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91
BLOCK II
Test of
Controls
(2)
BLOCK II - AUDITING SETUP
Process
AUDIT STRATEGY
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BLOCK II
• Planning is not a discrete phase of an audit, but continual and iterative process
• Establish an Audit Strategy and develop an Audit Plan
• Update and change the overall audit strategy and the audit plan as necessary during
the course of the audit (documentation of reasons of significant changes required)
• Involvement of key engagement team members during the planning process
• Benefits of adequate planning:
o Appropriate attention to important areas
o Resolve potential problems on a timely basis
o Properly organize and manage the audit
o Selection of engagement team members and the proper assignment of work
o Direction and supervision
o Coordination of auditors of componements and experts
BLOCK II - AUDITING SETUP AUDIT STRATEGY
Content of an audit strategy
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BLOCK II
• Audit Strategy
o Identification of the engagement characteristics to define its scope
o Ascertain the reporting objectives of the engagement to plan the timing of the
audit and the nature of the communications required
o Consider the factors that, in the auditor’s professional judgement, are
significant in directing the engagement team’s efforts (setting priorities)
o Plan the nature, timing and extent of direction and supervision of engagement
team members and the review of their work (supervision)
o Consider the results of preliminary engagement activities and, where
applicable, whether knowledge gained on other engagements performed by
the engagement partner for the entity is relevant
o Ascertain the nature, timing and extent of resources necessary to perform the
engagement (e.g. number of team members required, involvement of experts)
BLOCK II - AUDITING SETUP
Content of an audit plan
AUDIT STRATEGY
• Audit Plan
o Nature, timing and extent of planned risk assessment procedures
o Nature, timing and extent of planned further audit procedures at the assertion
level (Assertion = Representations by management, explicit or otherwise, that
are embodied in the financial statements, as used by the auditor to consider
the different types of potential misstatements that may occur)
o Other planned audit procedures that are required to be carried out so that the
engagement complies with ISAs
o Assigment to team members
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BLOCK II
• Strong interrelationship between Audit Strategy & Audit Plan
BLOCK II - AUDITING SETUP
Interrelations
AUDIT STRATEGY
Audit Strategy
Influencing Factors
Risk Identification
Materiality
Information Technology
Understand the entity
and its environment
Preliminary Analytics
IC Relevance for FS
Internal Controls (IC)
Appropriateness and
implementation of IC
Policy breaches (Fraud)
Risk Assessment
Identification of key
risks and relevant key
controls in conjunction
to the financial
statements based on
likelihood and
magnitude of material
misstatements
Audit Plan
Planned risk assessment
procedures
Further audit
procedures at the
assertion level
Team assignment
Reporting objectives
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95
BLOCK II
Documentation and monitoring of audit procedures and audit findings
BLOCK II - AUDITING SETUP AUDIT STRATEGY
Characteristics of an engagement
Financial reporting framework (incl. reconciliations to another framework)
Industry-specific reporting requirements (e.g. regulators)
Expected audit coverage (number, locations and extent of components)
Nature of business segments (need of specialized knowledge)
Reporting currency (need for currency translation)
Need for a statutory audit of standalone financial statements in addition
Existence of an internal audit function and extent of usage
Use of service organisations and strategy for control reliance
Expected use of audit evidence obtained in previous audits (e.g. test of controls)
Effect of IT on the audit procedures (expected use of computer-assisted techniques)
Auditing
96
BLOCK II
•
•
•
•
•
•
•
•
•
•
BLOCK II - AUDITING SETUP AUDIT STRATEGY
Characteristics of an engagement
Description of the inherent risks
Analytical audit procedures performed as risk assessment procedures
Significant classes of transactions and accounting issues
Material account balances / assertions
Assessment of internal control, important issues regarding internal control
Assessment of going-concern
Related party transactions
Preliminary combined risk assessment
Reporting and documentation of team planning
Auditing
97
BLOCK II
•
•
•
•
•
•
•
•
•
BLOCK II - AUDITING SETUP
Reporting objectives
Timetable at interim and final stages
Organization of meetings with Management and those charged with governance
Type of communication (written/oral, e.g. auditor’s report, Management letter, etc.)
Expected nature and timing of communications among engagement team members
Supervision/Review strategy
Expected communication with third parties
Auditing
98
BLOCK II
•
•
•
•
•
•
AUDIT STRATEGY
BLOCK II - AUDITING SETUP AUDIT STRATEGY
Preliminary activities and other factors
Auditing
99
BLOCK II
• Determination of materiality
• Identification of areas where there may be a higher risk of material misstatement
• Impact of the assessed risk of material misstatement at the overall financial
statement level on direction, supervision and review
• The manner in which the auditor emphasizes professional scepticism to the team
• Evidence of management’s commitment to the design, implementation and
maintenance of sound internal controls
• Transaction volumes (control reliance)
• Significant business developments affecting the entity (e.g. changes in IT, staff, etc.)
• Significant changes in the financial reporting framework or legal environment
• Engagement budgeting and resource planning consider the risk assessment
BLOCK II
AUDITING SETUP
Auditing
100
BLOCK II
UNDERSTANDING THE ENTITY  INHERENT RISK
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Planning stages - at a glance
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
101
BLOCK II
Understanding of the Entity and its Environment
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Planning stages - at a glance
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
102
BLOCK II
Understanding of the Entity and its Environment
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
Auditing
103
BLOCK II
• The auditor shall obtain an understanding of the following:
o Relevant industry factors
 Market and competition, including demand, capacity and price competition
 Cyclical or seasonal activity
 Product technology relating to the entity’s products
 Energy supply and cost
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
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104
BLOCK II
• The auditor shall obtain an understanding of the following:
o Regulatory factors
 Accounting principles and industry-specific practices
 Regulatory framework for a regulated industry
 Legislation and regulation that significantly affect the entity’s operations,
including direct supervisory activities
 Taxation (corporate and other)
 Government policies currently affecting the conduct of the entity’s business,
such as monetary, including foreign exchange controls, fiscal, financial
incentives (e.g. government aid programs) and tariffs or trade restriction
policies
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
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105
BLOCK II
• The auditor shall obtain an understanding of the following:
o The nature of the entity
 Operations (revenue sources, products or services, markets, involvement in
e-commerce such as internet sales and marketing acitivites)
 its ownership and governance structures (especially whether related party
transactions have been identified and accounted for appropriately)
 the way that the entity is structured (complexity!) and how it is financed to
enable the auditor to understand the classes of transactions, account
balances, and disclosures to be expected in the financial statements
(especially whether goodwill, joint ventures, investments, or specialpurpose entities are accounted for appropriately)
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
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106
BLOCK II
• The auditor shall obtain an understanding of the following:
o The nature of the entity
 Conduct of operations (e.g. methods of production, environmental risks)
 Alliances, joint ventures or outsourcing activities
 Geographic dispersion and industry segmentation
 Location of production facilities, warehouses, inventories and offices
 Key customers and important suppoliers of goods and services, employment
arrangements (including the existence of union contracts, pension and other
post-employment benefits, stock options or incentive bonus arragements,
and government regulation related to employment matters)
 Research and development activities
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
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107
BLOCK II
• The auditor shall obtain an understanding of the following:
o The nature of the entity
 Investment activities (planned or recently executed acquisitions or
divestitures, capital investment activities, investments in non-consolidated
entities and investments/dispositions of securities or loans)
 Financing activities (debt structure and related terms, including off-balancesheet financing arrangements and leasing arrangements, use of derivatives)
 Financial reporting (revenue recognition practices, accounting for fair
values, FX assets, liabilities and transactions, unusual or complex
transactions including those in controversial or emerging areas such as
stock-based compensation)
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
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108
BLOCK II
• The auditor shall obtain an understanding of the following:
o The entity’s selection and application of accounting policies, including the
reasons for changes thereto (evaluate whether the entity’s accounting policies
are appropriate for its business and consistent with the applicable financial
reporting framework and accounting policies used in the relevant industry)
o The entity’s objectives and strategies, and those related business risks that may
result in risks of material misstatement
o The measurement and review of the entity’s financial performance
o Internal control relevant to the audit (not all controls that relate to financial
reporting are relevant to the audit  matter of professional judgement)
o Control environment in terms of culture of honesty and ethical behavior
o External factors such as economic conditions, interst rates, inflation, etc.
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Planning stages - at a glance
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
109
BLOCK II
Understanding of the Entity and its Environment
BLOCK II - AUDITING SETUP
Types of risk
UNDERSTAND THE ENTITY  INHERENT RISK
• Business risk
A risk resulting from significant conditions, events, circumstances, actions or
inactions that could adversely affect an entity’s ability to achieve its objectives and
execute its strategies, or from the setting of inappropriate objectives and strategies.
• Inherent Risk
The susceptibility of an assertion about a class of transaction, account balance or
disclosure to a misstatement that could be material, either individually or when
aggregated with other misstatements, before consideration of any related controls.
Auditing
110
BLOCK II
• Significant Risk (= Key Risk)
An identified and assessed risk of material misstatement that, in the auditor’s
judgement, requires special audit consideration. Significant risks often relate to
significant non-routine transactions or judgmental matters such as accounting
estimates for which there is significant measurement uncertainty.
BLOCK II - AUDITING SETUP
Types of risk
UNDERSTAND THE ENTITY  INHERENT RISK
• Audit risk
The risk that the auditor expresses an inappropriate audit opinion when the
financial statements are materially misstated. Audit risk is a function of the risks of
material misstatement and detection risk.
Auditing
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BLOCK II
• Detection risk
The risk that the procedures performed by the auditor to reduce audit risk to an
acceptably low level will not detect a misstatement that exists and that could be
material, either individually or when aggregated with other misstatements.
BLOCK II - AUDITING SETUP
Audit risk
UNDERSTAND THE ENTITY  INHERENT RISK
Audit Risk
Error Risk
(not influenceable by auditor)
Detection Risk
Inherent Risk
Business
Risk
Control Risk
Auditing
112
BLOCK II
Audit Risk = Inherent Risk x Control Risk x Detection Risk
BLOCK II - AUDITING SETUP
Audit risk
UNDERSTAND THE ENTITY  INHERENT RISK
Test of
Controls
Analytical
Audit
Procedures
Test of Details
Test of
Controls
Test of
Controls
Analytical
Audit
Procedures
Analytical
Audit
Procedures
Low
inherent
Risk
Test of
Controls
Analytical
Audit
Procedures
Test of Details
Test of Details
Test of Details
Audit Risk
Audit Risk
Auditing
Audit Risk
113
BLOCK II
Audit Risk
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
Auditing
114
BLOCK II
ISA 315.26 & 27: The auditor shall
o Identify risks throughout the process of obtaining an understanding of the entity
and its environment, including relevant controls that relate to the risks, and by
considering the classes of transactions, account balances, and disclosures in the
financial statements
o Assess the identified risks, and evaluate whether they relate more pervasively to
the financial statements as a whole and potentially affect many assertions.
o Relate the identified risks to what can go wrong at the assertion level, taking
account of relevant controls that the auditor intends to test.
o As part of the risk assessment, the auditor shall determine whether any of the
risks identified are, in the auditor’s judgment, a significant risk. In exercising this
judgement, the auditor shall exclude the effects of identified controls related to
the risk.
BLOCK II - AUDITING SETUP
Requirements
UNDERSTAND THE ENTITY  INHERENT RISK
Auditing
115
BLOCK II
In exercising judgement as to which risks are significant, auditor considers at least:
o Whether the risk is risk of fraud
o Whether the risk is related to recent significant events (economically or
accoutingwise and, therefore, requires specific attention)
o The complexity of transactions
o Whether the risk involves significant transactions with related parties
o The degree of subjectivity in the measurement of financial information related
to the risk, especially those involving a wide range of measurement uncertainty
o Whether the risk involves significant transactions that are outside the normal
course of business for the entity, or that otherwise appear to be unusual
BLOCK II - AUDITING SETUP
Inherent risk
UNDERSTAND THE ENTITY  INHERENT RISK
• Interest of Stakeholders /
Relevance of Financial Statements
o Owners
o Creditors
o Management
o Employees
o Public
• Position of the Entity
o Competitive Situation
o Economic Situation
• Financial Risks
o Liquidity Risk
o Interest Rate Risk
o Market Risk
o Default Risk
• Estimates & Accounting Judgements
• Complexity
o Organisation
o Diversity of Goods and Services
o Market Access
• Related Party Transactions
• Unusual Transaction
Auditing
116
BLOCK II
• Other Business Risks
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Impact on account balances
Understanding
Environment of the Entity
Understanding
Stakeholders
Financial Risks
Assessment
Major Stakeholder
Understanding
Control Environment
Complexity
Impact
Financial Statements
Related Party
Transactions
Judgements
Impact
Account Balances
Unusual Transactions
Auditing
117
BLOCK II
Risk Assessment
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
• The auditor shall perform risk assessment procedures to provide a basis for the
identification and assessment of risks of material misstatement at the financial
statement and assertion levels.
o Inquiries of management, the internal audit function and others
o Analytical procedures
o Observation and inspection
o Prior year audit files
o External sources of information
Auditing
118
BLOCK II
• Risk assessment procedures by themselves, however, do not provide sufficient
appropriate audit evidence on which to base the audit opinion.
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
Auditing
119
BLOCK II
• Inquiries of employees with different levels of authority
o Inquiries directed towards those charged with governance
o Inquiries of employees involved in initiating, processing or recording complex or
unusual transactions may help to evaluate the appropriateness of the selection
and application of certain accounting policies
o Inquiries directed toward in-house legal counsel may provide information about
such matters as litigation, compliance with laws and regulations, knowledge of
fraud or suspected fraud affecting the entity, warranties, post-sales obligations,
arrangements with business partners and the meaning of contract terms
o Inquiries directed towards marketing or sales personnel may provide
information about changes in the entity’s marketing strategies, sales trends, or
contractual arrangements with its customers
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
• Inquiries of the internal audit function
o Inquiries directed to the internal audit function may provide information that is
useful to identify risks (e.g. control deficiencies, matters raised with those
charged with governance, etc.)
o The auditor may consider it appropriate to read related reports of the internal
audit function (e.g. audit strategy, planning, reports, findings, examinations)
Auditing
120
BLOCK II
• Inquiries of employees with different levels of authority
o Inquiries directed to the risk management function may provide information
about operational and regulatory risks that may affect financial reporting
o Inquiries directed to information systems personnel may provide information
about system changes, system or control failures, or other information systemrelated risks
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
• Analytical procedures may include both financial and non-financial information (e.g.
the relationship between sales and square footage of selling space or goods volume)
• Analytical procedures may help identify the existence of unusual transactions or
events, and amounts, ratios, and trends that might indicate matters that have audit
implications (especially risk of material misstatement due to fraud)
Auditing
121
BLOCK II
• Attention: Analytical procedures may use data aggregated at a high level and hence,
the results of those procedures only provide a broad initial indication about whether
a material misstatement may exist or not.
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
Auditing
122
BLOCK II
• Observation and inspection may support inquiries of management and others, and
may also provide information about the entity and its environment, such as
o The entity’s operations
o Documents (e.g. business plans and strategies), records and internal control
manuals
o Reports prepared by management (e.g. quarterly management reports and
interim financial statements) and those charged with governance (such as
minutes of BoD meetings)
o The entity’s premises and plant facilities
BLOCK II - AUDITING SETUP
Sources
UNDERSTAND THE ENTITY  INHERENT RISK
• Past misstatements and whether they were corrected on a timely basis or not
• The nature of the entity and its environment, and the entity’s internal control
(including identified deficiencies in internal control)
Auditing
123
BLOCK II
• Significant changes that the entity or its operations may have undergone since the
prior financial period, which may assist the auditor in gaining a sufficient
understanding of the entity to identify and assess risks of material misstatement
 The auditor is required to determine whether information obtained in prior
periods remains relevant
BLOCK II - AUDITING SETUP
Significant risk
UNDERSTAND THE ENTITY  INHERENT RISK
Significant Risks
Potential Misstatement
X
X
X
X
X
Auditing
124
BLOCK II
X
X
Probability of
Occurrence
X
BLOCK II - AUDITING SETUP
Significant risk
UNDERSTAND THE ENTITY  INHERENT RISK
• Risks of material misstatement may be greater for significant judgmental matters
that require the development of accounting estimates
o Accounting for estimates or revenue recognition may be interpreted differently
o Required judgment may be subjective or complex, or require assumptions about
the effects of future events (e.g. judgement about fair value)
Auditing
125
BLOCK II
• Risks of material misstatement may be greater for significant non-routine
transactions arising from matters such as the following:
o Greater management intervention to specify the account treatment
o Greater manual intervention for data collection and processing
o Complex calculations or accounting principles
o The nature of non-routine transactions, which may make it difficult for the
entity to implement effective controls over the risks
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Relationship to fraud risk
Auditing
126
BLOCK II
Fraud
Diamond
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Relationship to fraud risk
Auditing
127
BLOCK II
• Circumstances that indicate the possibility of fraud (risk factors)
o Monitoring of internal key controls not appropriate
o Low competences within the accounting team
o Unrealistic forecasts
o Significant stock in cash and/or significant cash transactions
o No appropriate separation of functions
o Unreasonable claims to the auditor
o Aggressive incentive programs that are linked to turnover or profit goals
BLOCK II - AUDITING SETUP UNDERSTAND THE ENTITY  INHERENT RISK
Relationship to fraud risk
Auditing
128
BLOCK II
• Circumstances that indicate the possibility of fraud (risk factors)
o Discrepanices in the accounting records
o Conflicting or missing evidence
o Problematic or unusual relationships between the auditor and management
o Unwillingness by management to permit the auditor to meet privately with
those charged with governance
o Accounting policies that appear to be at variance with industry norms
o Frequent changes in accounting estimates that do not appear to result from
changed circumstances
o Tolerance of violations of the entity’s code of conduct
BLOCK II
AUDIT CONSIDERATIONS
Auditing
129
BLOCK II
MATERIALITY
MATERIALITY
Understanding of the Entity and its Environment
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
130
BLOCK II
BLOCK II - AUDIT CONSIDERATIONS
Planning stages - at a glance
BLOCK II - AUDIT CONSIDERATIONS
Requirements
MATERIALITY
Auditing
131
BLOCK II
• Materiality is based on the financial reporting framework
• If the applicable financial reporting framework does not include a discussion of the
concept of materiality:
o Misstatements, including omissions, are considered to be material if they,
individually or in the aggregate, could reasonably be expected to influence the
economic decisions of users taken on the basis of the financial statements;
o Judgments about materiality are affected by the size or nature of a
misstatement
o Consideration of the common financial information needs of users as a group
BLOCK II - AUDIT CONSIDERATIONS
Assumptions
MATERIALITY
Auditing
132
BLOCK II
• Assumptions
o Users have a reasonable knowledge of business and the financial reporting
o Users understand the concept of materiality
o Users understand uncertainties of judgments and estimates
o Users make reasonable decisions on the basis of financial statements
BLOCK II - AUDIT CONSIDERATIONS
Characteristics
MATERIALITY
Economic
environment and
financial condition
Audit strategy
quantitative
qualitative
Materiality
Financial reporting
framework
Auditing
133
BLOCK II
Compliance
BLOCK II - AUDIT CONSIDERATIONS
Characteristics
MATERIALITY
High
 Negative Correlation
Materiality
Low
High
Auditing
134
BLOCK II
Audit risk
BLOCK II - AUDIT CONSIDERATIONS
Stages / Types
MATERIALITY
Auditing
135
BLOCK II
• Overall Materiality
o Amount of deviation which could change the economic decision of users of
financial statements
• Performance Materiality
o the amount or amounts set by the auditor at less than materiality for the
financial statements as a whole to reduce to an appropriately low level the
probability that the aggregate of uncorrected and undetected misstatements
exceeds materiality for the financial statements as a whole
• Clearly Trivial
o A deviation wholly different (smaller) than materiality and clearly
inconsequential, whether taken individually or in aggregate and whether judged
by any criteria of size, nature or circumstances.
BLOCK II - AUDIT CONSIDERATIONS
Requirements
MATERIALITY
Auditing
136
BLOCK II
• When establishing the overall audit strategy, the auditor shall determine materiality
for the financial statements as a whole.
• If, in the specific circumstances of the entity, there is one or more particular classes
of transactions, account balances or disclosures for which misstatements of lesser
amounts than materiality for the financial statements as a whole could reasonably
be expected to influence the economic decisions of users taken on the basis of the
financial statements, the auditor shall also determine the materiality level or levels
to be applied to those particular classes of transactions, account balances or
disclosures.
BLOCK II - AUDIT CONSIDERATIONS
Revision
MATERIALITY
Auditing
137
BLOCK II
• Revision as the Audit Progresses
o in the event of becoming aware of information during the audit that would have
caused the auditor to have determined a different amount (or amounts) initially
o If the auditor concludes that a lower materiality for the financial statements as a
whole than that initially determined is appropriate, the auditor shall determine
whether it is necessary to revise performance materiality
BLOCK II - AUDIT CONSIDERATIONS
Calculation
MATERIALITY
Profit Based
Revenue Based
Capital Based
Earnings before Taxes
Sales Revenue
Total Assets
Normalized Earnings
Operating Expenses
Equity
Operating Income
EBITDA
Earnings before Management
Remuneration
Profit-orientet
Profitable
Break-Even/Loss Making
Established
Start-Up
Auditing
138
BLOCK II
Non-Profit
MATERIALITY
• Factors for Determining Materiality/Performance Materiality:
o Number of Shareholders
o Public Listing
o Probability of Transactions within next 2-3 years
o Economic Condition of the entity
o Changes in the economic environment
o Dependence on external financing
• Lower Materiality
o First-Time Audits
o Higher Probability of misstatements / Misstatements in the past
o Deficencies in internal control
o Changes in Financial Statements Closing Process
Auditing
139
BLOCK II
BLOCK II - AUDIT CONSIDERATIONS
Calculation
BLOCK II - AUDIT CONSIDERATIONS
Calculation
MATERIALITY
• Preliminary Assessment of Materiality
o 5% - 10% Earnings before Taxes
o 0,5% - 2% Total Assets
o 1% - 5% Equity
o 0,5% - 2% Sales Revenue
o Combined Measures
• Performance Materiality
o 50% of materiality
o No expected misstatements: 75% of materiality
• Clearly Trivial
5% of overall materiality
Auditing
140
BLOCK II
o
BLOCK II - AUDIT CONSIDERATIONS
GRADED GROUP WORK – 20%
MATERIALITY
You are the auditor of a retail bank and you receive the following balance sheet:
X-AG 31 December X2 (in MEUR)
200
300
12.500
-500
3.500
500
16.500
Due to banks
Due to customers
Provisions and other liabilities
Issued Capital
Additional Paid-In Capital
Retained Earnings
Total equity and liabilities
Auditing
4.500
10.500
1.000
50
100
350
16.500
141
BLOCK II
Cash and cash equivalents
Loans and advances to banks
Loans and advances to customers
Bad debt allowance
Financial assets
Property, plant and equipment
Total assets
BLOCK II - AUDIT CONSIDERATIONS
GRADED GROUP WORK – 20%
MATERIALITY
In MEUR
Interest income
Interest expense
Commission income
Commission expense
Other income
Other expenses
Operating result
Administrative expenses
Risk provisions for credit business
Net income from financial assets
Profit before taxes
Taxes
Profit after taxes
Auditing
X2
X1
1.050
-200
30
-50
60
-40
850
-200
-150
380
880
-220
660
1.300
-300
30
-20
45
-105
950
-180
0
230
1.000
-250
750
142
BLOCK II
…and the following income statement:
BLOCK II - AUDIT CONSIDERATIONS
GRADED GROUP WORK – 20%
MATERIALITY
There have been occurred the following significant events:
o Loss impairment of two material loans to customers of totally MEUR 150 in X2
o Material suspension of interest payments for five material loans to customers in
the amount of MEUR 50 in X2
o No significant events in X1
Auditing
143
BLOCK II
Task: Please calculate the overall materiality, the performance materiality and the
clearly trivial threshold considering the type of business, the income statement data
and the significant events and describe your assumptions used. Afterwards, present
your results.
BLOCK III
AUDITING PERFORMANCE
Auditing
144
BLOCK III
ACCOUNT BALANCES, ASSERTIONS AND COT
ACCOUNTS, ASSERTIONS & COT
Understanding of the Entity and its Environment
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
145
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Planning stages - at a glance
BLOCK III - AUDITING PERFORMANCE
Scoping
größer
> Performance
Toleranzwesentlichkeit
Materiality
Limited risk
ofwesentlicher
material
Begrenztes
Risiko
Fehldarstellung
misstatement
übrige
other
ACCOUNTS, ASSERTIONS & COT
Kleiner
< Performance
Toleranzwesentlichkeit
Materiality
Risk
of
Risiko
wesentlicher
material
Fehldarstellung
misstatement
übrige
other
• Low inherent risk + positive
control environment
• Low number of transactions +
low transaction volume
• No significant risk
• Not affected by changes in entity
• Not affected by changes in the
financial reporting framework
Significant Accounts
Auditing
Insignificant accounts
146
BLOCK III
Not significant accounts
BLOCK III - AUDITING PERFORMANCE
Scoping
 Identification of relevant
assertions not required,
however considered
 Planning of audit
procedures for the item as
a whole / standard audit
procedures
Significant Accounts
Insignificant accounts
 No identification of
 Identify relevant
relevant assertions
assertions
 Identify relevant classes of  Standard audit procedures
 Analytic audit procedures
transactions
might be sufficient
 Evaluate Internal Control
Auditing
147
BLOCK III
Not significant accounts
ACCOUNTS, ASSERTIONS & COT
BLOCK III - AUDITING PERFORMANCE
Scoping
Significant Accounts
Insignificant accounts
Existence
Rights & Obligations
Completeness
Accuracy
Assertions about
account balances and
related disclosures
Classification
Presentation
Auditing
148
BLOCK III
Not significant accounts
ACCOUNTS, ASSERTIONS & COT
BLOCK III - AUDITING PERFORMANCE
Scoping
ACCOUNTS, ASSERTIONS & COT
Test for Overstatement
EXISTENCE & OCCURENCE
Document
Journal
Test for Understatement
COMPLETENESS
Auditing
149
BLOCK III
General Ledger
BLOCK III - AUDITING PERFORMANCE
Assertions
ACCOUNTS, ASSERTIONS & COT
Auditing
150
BLOCK III
• Assertions about account balances and related disclosures
o Existence
Assets, liabilities and equity interests exist
o Rights & Obligations The entity holds or controls the rights to assets, and
liabilities are the obligations of the entity
o Completeness
All assets, liabilities and equity interests that should have
been recorded have been recorded, and all related
disclosures that should have been included in the
financial statements have been included
ACCOUNTS, ASSERTIONS & COT
• Assertions about account balances and related disclosures
o Accuracy
Valuation and allocation: assets, liabilities and equity
interests have been included in the financial statements
at appropriate amounts and any resulting valuation or
allocation adjustments have been appropriately recorded,
and related disclosures have been appropriate measured
and described.
o Classification
Assets, liabilities and equity interests have been recorded
in the proper accounts
o Presentation
Assets, liabilities and equity interests are appropriately
aggregated or disaggregated and clearly described, and
related disclosures are relevant and understandable in
the context of the requirements of the applicable
financial reporting framework
Auditing
151
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Assertions
BLOCK III - AUDITING PERFORMANCE
Classes of transactions
ACCOUNTS, ASSERTIONS & COT
• Significant class of transaction
o Transactions with material influence of a significant account
o Enable material misstatements
o Are affected by a significant risk
Significant classes of transactions
Significant Processes
Auditing
152
BLOCK III
Significant IT-Applications
BLOCK III - AUDITING PERFORMANCE
Classes of transactions
ACCOUNTS, ASSERTIONS & COT
• A transaction cycle is an interlocking set of business transactions. Most business
transactions can be aggregated into a relatively small number of transaction cycles
related to the sale of goods, payments to suppliers, payments to employees, and
payments to lenders.
Auditing
153
BLOCK III
• Significant transaction cycles in accounting (Examples)
o Sales (revenue, cash receipts, correction of sales)
o Purchasing (purchase, payments)
o Production (work in progress, finished goods)
o Personnel (salaries & wages, wage-related taxes)
o Capital Expenditure (purchase of fixed assets)
o Financing (raising equity, debt financing)
o Cash (processing cash receipts and disbursements)
BLOCK III - AUDITING PERFORMANCE
Classes of transactions
Significant Accounts
Insignificant accounts
Occurrence
Completeness
Accuracy
Cut-Off
Assertions about classes of
transactions and events
and related disclosures
Classification
Presentation
Auditing
154
BLOCK III
Not significant accounts
ACCOUNTS, ASSERTIONS & COT
BLOCK III - AUDITING PERFORMANCE
Classes of transactions
ACCOUNTS, ASSERTIONS & COT
Auditing
155
BLOCK III
• Assertions about classes of transaction, events and related disclosures
o Occurrence
Transactions and events that have been recorded or
disclosed have occurred, and such transactions and
events pertain to the entity
o Cut-Off
Transactions and events have been recorded in the
correct accounting period
o Completeness
see account balances
o Accuracy
see account balances
o Classification
see account balances
o Presentation
see account balances
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle SALES
o Classes of Transactions
 Sales
 Cash receipts
 Correction of sales
o Account Balances
 Accounts receivable
 Allowance for doubtful accounts
 Sales revenue; Sales correction
 Write-off receivables
 Advances received
 Sales related provision (commissions, bonuses)
Auditing
156
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle SALES
o Analytics
 Sales / Production Capacity
 Market Share
 Operating Profit Margin
 Turnover ratio accounts receivable
 Total asset-turnover ration
 Bad debt loss / allowance for doubtfull accounts
o Test of Details
• Confirmation of accounts receivables
• Cut-Off accounts receivable (tracing, vouching), sales corrections
• Audit estimate of bed debt allowance
Auditing
157
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
158
BLOCK III
• Transaction cycle PURCHASES
o Classes of Transactions
 Procurement
 Cash Payments
o Account Balances
 Account Payables
 Cost of Materials, Other Expense
 Advances Paid
 (Raw material; Merchandise)
 Other Payables
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
159
BLOCK III
• Transaction cycle PURCHASES
o Analytics
 Turnover ratio accounts payalbes
 Accounts Payables / Total Assets
 Current Ratio (Current Assets / Current Liabilities)
 Quick Ratio (Current Monetary Assets / Current Monetary Liabilities)
o Test of Details
 Confirmation accounts payables
 Cut-Off accounts payables (tracing, vouching)
• Searching for unrecorded liabilities
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
160
BLOCK III
• Transaction cycle PRODUCTION
o Classes of Transactions
 Production
o Account Balances
 Cost of goods sold
 Cost of materials
 Inventories
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle PRODUCTION
o Analytics
 Turnover ratio inventories; Operating profit margin
 Cost of materials / total expense; Personnel expense / total expense
 Finished goods / Raw material
 Finished goods / Personnel expense; Finished goods / Cost of materials
 Scrap Rate
o Test of Details
 Physical inventory; Confirming external inventory
 Cut-Off Inventory (Vouching, Tracing)
 Vouching purchase prices, cost of inventory (reperforming cost calculation)
 Audit of estimate sales prices; reperforming net reliasable value
Auditing
161
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
162
BLOCK III
• Transaction cycle PERSONNEL
o Classes of Transactions
 Payroll
 Payment of wages, saleries & related taxes
o Account Balances
 Provisions for employee benefits
• Post-employment benefits, other long-term employee benefits
• Holiday entitlement, time offset, bonuses
 Payroll liabilities
 Liabilities for wage-related taxes
 Personnel expense
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle PERSONNEL
o Analytics
o
Expenses / Employee; Sales / Employee
Personnel expense / Total expense
Wage-related taxes / Personnel expense
Wage-related taxes / Liabilities for wage-related taxes
Increase personnel expense; Increase personnel expense / Employee
Provision holiday entitlement / employee
Labor turnover
Test of Details
 Audit of estimate of provisions (plausibility of parameters)
 Recalculation of provisions; recalculation determination base for provisions
 Completeness of headcount (vouching)
Auditing
163
BLOCK III







BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
164
BLOCK III
• Transaction cycle CAPITAL EXPENDITURE
o Classes of Transactions
 Capital expenditure
 Asset disposal
o Account Balances
 Tangible fixed assets, intangible fixed assets
 Maintenance expense
 Lease expense
 Internally produced and capitalised assets
 Gain/loss on asset disposal
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle CAPITAL EXPENDITURE
o Analytics
 Sales / Total assets; Sales / Total fixed assets; Cash flow / Total fixed assets
 Depreciation / Fixed assets at book value
 Depreciation / Fixed assets at gross amount
 Additions to fixed assets / Fixed assets at gross amount
 Maintenance expense / Sales; Maintenance expense / Fixed assets
o Test of Details
 Vouching additions ot fixed assets
 Tracing lease expense
 Tracing maintenance expense
 Tracing «other income», «income insurance benefits»
Auditing
165
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
166
BLOCK III
• Transaction cycle FINANCING
o Classes of Transactions
 Raising debt
 Repayment debt
 Raising equity
o Account Balances
 Financing liabilities
 Share capital, additional paid in capital
 Interest expense
ACCOUNTS, ASSERTIONS & COT
• Transaction cycle FINANCING
o Analytics
 Cash flow statement
 Gearing ratio (Financing liabilities / Equity)
 Equity / Total assets; Total debt / Total assets
 Total debt / Free cashflow; Total cash / Operating cashflow
 Interest expense / Financing liabilities
 Return on net assets, return on equity
 Earnings per share; Dividend payment / income after tax
o Test of Details
 Vouching raising of capital; Confirming bank loans
 Recalculation interest expense; Vouching share capital (company register)
Auditing
167
BLOCK III
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
168
BLOCK III
• Transaction cycle CASH
o Classes of Transactions
 Cash payments
 Financial investments
o Account Balances
 Cash
 Financial instruments
 Interest Income
 Gain/loss financial instruments
BLOCK III - AUDITING PERFORMANCE
Transaction cycles
ACCOUNTS, ASSERTIONS & COT
Auditing
169
BLOCK III
• Transaction cycle CASH
o Analytics
 Cashflow statement
 Interest income / Financial instruments
 Cash / Total assets
o Test of Details
 Confirmation bank accounts, (cash counting)
 Cash Cut-Off
 Recalculation interest income
BLOCK III - AUDITING PERFORMANCE
GROUP WORK & DISCUSSION
ACCOUNTS, ASSERTIONS & COT
Based on the income statement and the materiality calculated group work 4,
list the financial statement line items that you scope for the audit and
o provide an extract of an audit plan that represents the three most important
account balances to audit including the two most relevant assertions for each
account and the rationale for each selected account and assertion using the
following format
o
Rationale
Assertion
Auditing
Rationale
170
BLOCK III
Account Balance
BLOCK IV
INTERNAL CONTROL SYSTEM
Auditing
171
BLOCK IV
INTERNAL CONTROL & COMBINED RISK ASSESSMENT
Understanding of the Entity and its Environment
INTERNAL CONTROL & COMBINED RISK
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
172
BLOCK IV
BLOCK IV - INTERNAL CONTROL SYSTEM
Planning stages - at a glance
BLOCK IV - INTERNAL CONTROL SYSTEM
Definitions
INTERNAL CONTROL & COMBINED RISK
• The process designed, implemented and maintained by those charged with
governance, management and other personnel to provide reasonable assurance
about the achievement of an entity’s objectives with regard to reliability of
financial reporting, effectiveness and efficiency of operations, and compliance with
applicable laws and regulations. The term “controls” refers to any aspects of one or
more of the components (objectives) of internal control:
Reliability of financial reporting
o Compliance with laws & regulations
o Effectiveness & efficiency of operations
o Security of assets
Auditing
173
BLOCK IV
o
BLOCK IV - INTERNAL CONTROL SYSTEM
Relevance
INTERNAL CONTROL & COMBINED RISK
o
Management
 Complexity of entity: not possible to be managed by one alone
 Prevent mistakes
o
Auditor
 Reliance on financial reporting
 100% examination of accounts & transactions is not possible
o
3rd Parties
Auditing
174
BLOCK IV
• Relevant for:
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Control
Environment
Risk
Assessment
Process
Monitoring
of Controls
Information
System
Auditing
175
BLOCK IV
Control
Activities
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
176
BLOCK IV
Control Environment
o Communication and enforcement of integrity and ethical values (elements that
influence the effectiveness of the design, administration and monitoring of
controls)
o Commitment to competence (management’s consideration of the competence
levels for particular jobs)
o Participation by those charged with governance (independence from
management, experience, the extent of their involvement, the information they
receive, the scrutiny of activities and the appropriateness of their actions)
o Management’s philosophy and operating style (how to take and manage
business risks, attitudes and actions toward financial reporting and information
processing, accounting functions and personnel)
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
177
BLOCK IV
Control Environment
o Organizational structure (framework within which an entity’s activities for
achieving its objectives are planned, executed, controlled and reviewed)
o Assignment of authority and responsibility (how authority and responsibility for
operating activities are assigned and how reporting relationships and
authorization hierarchies are established)
o Human resource policies and practices (Policies and practices that relate to
recruitment, orientation, training, evaluation, counselling, promotion,
compensation, remedial actions, etc.)
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
178
BLOCK IV
Entity’s Risk Assessment Process
o Identification of business risks relevant to the preparation of financial
statements
o Estimation of their significance
o Assessment of the likelihood of their occurrence
o Decisions upon actions to respond to and manage them and the results thereof
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
179
BLOCK IV
Entity’s Risk Assessment Process
o Changes in operating environment (e.g. competitive pressures)
o New personnel
o New or revamped information systems
o Rapid growth
o New technology
o New business models
o New products/markets/activities
o Corporate restructurings
o Expanded foreign operations
o New accounting pronouncements
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
180
BLOCK IV
Information System
o Business Processes
o Accounting Processes
o Financial Statements Closing Process
o Planning & Budgeting / Managerial Accounting
o Internal Reporting
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
181
BLOCK IV
Information System
o Understanding the classes of transactions in the entity’s operations and the
procedures within both IT and manual systems, by which those transactions are
initiated, recorded, processes, corrected as necessary, transferred & reported
o Identification of the process how incorrect information is corrected and
recorded
o Check how the information system captures significant events
o Understanding the entire financial reporting process used to prepare the
financial statements including significant accounting estimates and disclosures
o Identification of controls surrounding journal entries, including non-standard
journal entries used to record non-recurring, unusual transactions or
adjustments
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
182
BLOCK IV
Information System
o Identification and recording of all valid transactions
o Description of the transactions in sufficient detail on a timely basis to permit
proper classification of transactions for financial reporting
o Measurement of the value of transactions in a manner that permits recording
their proper monetary value in the financial statements
o Determination of the time period in which transactions occurred to permit
recording of transactions in the proper accounting period
o Proper presentation of the transactions and related disclosures in the financial
statements
INTERNAL CONTROL & COMBINED RISK
Control Activities
o Performance reviews
o Information processing
o Physical controls
 Physical security of assets
 Authorization for access to computer programs & data files
 The periodic counting and comparison with amounts shown on control
records
o Segregation of duties
 Authorizing transactions (ie collection of A/R, granting of discounts)
 Custody of assets (ie authorization of cash accounts)
 Recording transactions (ie accounts receivable accounting)
Auditing
183
BLOCK IV
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
BLOCK IV - INTERNAL CONTROL SYSTEM
Control spheres
INTERNAL CONTROL & COMBINED RISK
Auditing
184
BLOCK IV
Monitoring of Controls
o Understanding the major activities that the entity uses to monitor internal
control relevant to financial reporting (including those relevant to the audit, and
how the entity initiates remedial actions to deficiencies in its controls)
o If an internal audit function exists, get an understanding of the function and the
activites performed or to be performed
o Monitoring activities may include using information from communications from
external parties that may indicate problems or highlight areas in need of
improvement (findings communicated by the regulator, internal auditor,
external auditor, etc.)
BLOCK IV - INTERNAL CONTROL SYSTEM
IT-Systems and Limitations
INTERNAL CONTROL & COMBINED RISK
• Limitations of internal control
o Human judgement in decision making, human error
o Errors in design of controls
o Collusion of two or more people
o Circumvention of control activities by management (management override)
o cost > benefit
Auditing
185
BLOCK IV
• Control activities in the IT-System
o Segregation: IT-development, IT-administration, IT-application
o Control activities & documentation of IT-development
o Control activities for hardware and software
o Control activities on access to IT
o Control activities on data processing and data storage
Understanding of the Entity and its Environment
INTERNAL CONTROL & COMBINED RISK
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
186
BLOCK IV
BLOCK IV - INTERNAL CONTROL SYSTEM
Planning stages - at a glance
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk assessment
INTERNAL CONTROL & COMBINED RISK
• When obtaining an understanding of controls that are relevant to the audit, the
auditor shall evaluate the design of those controls and determine whether they
have been implemented, by performing procedures in addition to inquiry of the
entity’s personnel.
• In respect of some risks, the auditor may judge that it is not possible or practicable
to obtain sufficient appropriate audit evidence only from substantive procedures.
Such risks may relate to the inaccurate or incomplete recording of routine and
significant classes of transactions or account balances, the characteristics of which
often permit highly automated processing with little or no manual intervention. In
such cases, the entity’s controls over such risks are relevant to the audit and the
auditor shall obtain an understanding of them.
Auditing
187
BLOCK IV
• If the auditor has determined that a significant risk exists, the auditor shall obtain an
understanding of the entity’s controls, including control activities, relevant to that
risk.
INTERNAL CONTROL & COMBINED RISK
• Risks arising from IT from the auditors perspective
o Controls over IT systems are effective when they maintain the integrity of
information and the security of the data such systems process, and include
effective general IT controls and application controls.
o General IT Controls (=BASIS!)
 Definition: Policies and procedures that relate to many applications and
support the effective functioning of application controls (apply to
mainframe, miniframe and end-user environments)
 Data center and network operations
 System software acquisition, change and maintenance
 Program change
 Access security
 Application system acquisition, development and maintenance
Auditing
188
BLOCK IV
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk assessment
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk assessment
INTERNAL CONTROL & COMBINED RISK
Auditing
189
BLOCK IV
• Risks arising from IT from the auditors perspective
o Controls over IT systems are effective when they maintain the integrity of
information and the security of the data such systems process, and include
effective general IT controls and application controls.
o Application controls
 Manual vs. automated
 Preventive vs. detective
 Ensure integrity of the accounting records
 Examples: Edit checks of input data, numerical sequence checks with
manual follow-up of exception reports or correction at the point of data
entry
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk assessment
INTERNAL CONTROL & COMBINED RISK
Mandatory evaluation of control risk
o Significant risk
o Substantive procedures only not possible (e.g. IT-generated audit evidence only)
o Substantive procedures only not practicable
In designing and performing tests of controls, the auditor shall obtain more persuasive
audit evidence the bigger the reliance the auditor places on the effectiveness of a
control.
Auditing
190
BLOCK IV
Unusual transactions:
o Appropriate reaction of management
 Control activities
 Documentation of estimation process
 Monitoring of responsible employees
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk assessment
INTERNAL CONTROL & COMBINED RISK
What could go wrong
Understand control activities
Walkthrough
Select controls to test
Execute Test of Controls (ToC)
Auditing
191
BLOCK IV
Inherent Risk
Understand the process
Assessment of Control Risk
Identify Class of Transaction
BLOCK IV - INTERNAL CONTROL SYSTEM
Design test
INTERNAL CONTROL & COMBINED RISK
Auditing
192
BLOCK IV
• Walkthrough
o A walkthrough involves following a transaction from origination through the
entity’s processes, including information systems, until it is reflected in the
entity’s financial records, using the same documents and IT that entity
personnel use.
o Walkthrough procedures include a combination of inquiry, observation,
inspection of relevant documentation and control reperformance
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
Auditing
193
BLOCK IV
• Test of Controls
o Perform other audit procedures in combination with inquiry to obtain audit
evidence about the operating effectiveness of the controls, including
 How the controls were applied at relevant times during the period under
audit
 The consistency with which they were applied
 By whom or by what means they were applied
o Determine whether the controls to be tested depend upon other controls
(indirect controls), and, if so, whether it is necessary to obtain audit evidence
supporting the effective operation of those indirect controls
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
Auditing
194
BLOCK IV
• Test of Controls
o Controls executed as designed
o Controls executed contemporary
o Controls based on reliable information
o Controls comprise all relevant transactions
o Controls are effective  Correction of detected errors
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
• Test of Controls
prevent
detect & correct
Manual controls
Sampling required, no GITC
IT related
Sampling required, GITC required
IT-Controls fully automated
No sampling, but GITC required
Auditing
195
BLOCK IV
• How to discover nature and extent of test of controls required
o Inquiry (alone not sufficient to test the operating effectiveness)
o Observation
o Inspection
o Reperformance
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
Auditing
196
BLOCK IV
• Test of Controls - Sampling influenced by
o the frequency of the performance of the control by the entity during the period
o the length of time during the audit period that the auditor is relying on the
operating effectiveness of the control
o the expected rate of deviation from a control
o the relevance and reliability of the audit evidence to be obtained regarding the
operating effectiveness of the control at the assertion level
o the extent to which audit evidence is obtained from tests of other controls
related to the assertion
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
Auditing
197
BLOCK IV
• Evaluating the operating effectiveness of controls
o Evaluate whether misstatements that have been detected by substantive
procedures indicate that controls are not operating effectively (the absence of
misstatements detected by substantive procedures, however, does not provide
audit evidence that controls related to the assertion being tested are effective)
o If deviations from controls upon which the auditor intends to rely are detected,
the auditor shall make specific inquiries to understand these matters and their
potential consequences, and shall determine whether:
 ToC that have been performed provide appropriate basis for control reliance
 Additional tests of controls are necessary, or
 The potential risks of misstatement need to be addressed using substantive
procedures
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
• Audit evidence obtained during an interim period
o about significant changes to those controls subsequent to the interim period
o Determine additional audit evidence to be obtained for the remaining period
• If the auditor plans to rely on controls over a significant risk, the auditor shall test
those controls in the current period.
Auditing
198
BLOCK IV
• Audit evidence obtained in previous audits
o The effectiveness of other elements of internal control
o Risks arising from the characteristics of the control
o Effectiveness of general IT controls and effectiveness of the control
o Personnel changes that significantly affect the application of the control
o the lack of a change in a particular control
o risks of material misstatement and the extent of reliance on the control
BLOCK IV - INTERNAL CONTROL SYSTEM
Implementation test
INTERNAL CONTROL & COMBINED RISK
Auditing
199
BLOCK IV
• Audit evidence obtained during an interim period  Factors for remaining period
o The significance of the assessed risks of material misstatement at the assertion
level
o The specific controls that were tested during the interim period, and significant
changes to them since they were tested, including changes in the information
system, processes and personnel
o The degree to which audit evidence about the operating effectiveness of those
controls was obtained
o The length of the remaining period
o The extent to which the auditor intends to reduce further substantive
procedures based on the reliance of controls
o The control environment
Understanding of the Entity and its Environment
INTERNAL CONTROL & COMBINED RISK
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan
(per account balance /
assertion)
Auditing
200
BLOCK IV
BLOCK IV - INTERNAL CONTROL SYSTEM
Planning stages - at a glance
BLOCK IV - INTERNAL CONTROL SYSTEM
Requirements
INTERNAL CONTROL & COMBINED RISK
• The auditor shall
o assess the identified risks, and evaluate whether they relate more pervasively
to the financial statements as a whole and potentially affect many assertions,
o relate the identified risks to what can go wrong at the assertion level, taking
account of relevant controls that the auditor intends to test, and
o consider the likelihood of misstatements, including the possibility of multiple
misstatements, and whether the potential misstatement is of a magnitude that
could result in a material misstatement.
Auditing
201
BLOCK IV
• Risk assessment procedures (ISA 315.26)
o The audit procedures performed to obtain an understanding of the entity and its
environment, including the entity‘s internal control, to identify and assess the
risks of material misstatement, whether due to fraud or error, at the financial
statement and assertion levels.
BLOCK IV - INTERNAL CONTROL SYSTEM
Requirements
INTERNAL CONTROL & COMBINED RISK
• Obtain an understanding of whether the entity has a process for
o Identifying business risks relevant to financial reporting objectives
o Estimating the significance of the risks
o Assessing the likelikhood of their occurrence; and
o Deciding about actions to address those risks
Auditing
202
BLOCK IV
• If no (documented) process or additional risks identified by the auditor that
management failed to identify  Evaluate whether there is a significant deficiency
in internal control with regard to the entity’s risk assessment process
BLOCK IV - INTERNAL CONTROL SYSTEM
Risk component matrix
INTERNAL CONTROL & COMBINED RISK
Control Risk
Not rely on controls
low
minimal
moderate
high
low
high
Significant risk
Special audit considerations
Auditing
203
BLOCK IV
Inherent risk
Rely on controls
BLOCK IV - INTERNAL CONTROL SYSTEM INTERNAL CONTROL & COMBINED RISK
Interrelations between risk and procedures
Auditing
204
BLOCK IV
• If the auditor has determined that an assessed risk of material misstatement at the
assertion level is a significant risk, the auditor shall perform substantive procedures
that are specifically responsive to that risk.
• When the approach to a significant risk consists only of substantive procedures,
those procedures shall include tests of details.
BLOCK IV
AUDIT PROGRAM
Auditing
205
BLOCK IV
SUBSTANTIVE AUDIT PROCEDURES & AUDIT PLAN
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Planning stages - at a glance
Internal Control
Materiality
Inherent Risk
Control Risk
Account Balances
Assertions
Classes of Transactions
Combined Risk
Assessment
Audit Plan / Program
(per account balance /
assertion)
Auditing
206
BLOCK IV
Understanding of the Entity and its Environment
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Definition of Substantive Audit Procedures
Auditing
207
BLOCK IV
• Perform audit procedures according to the Audit Plan
o Nature, timing and extent of audit procedures planned define field work that
has to be performed by the engagement team members
o Top-down audit procedures are for instance analytical procedures on financial
statements
o Bottom-up audit procedures refer to for instance audit evidence obtained from
the record of transactions through test of details
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
Analytical
Procedures
Inspection
Observation
Audit Procedures
External
confirmation
Inquiry
Recalculation
Auditing
208
BLOCK IV
Reperformance
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
Auditing
209
BLOCK IV
• Analytical Procedures (ISA 520)
o Consist of evaluations of financial information through analysis of plausible
relationships among both financial and non-financial data
o Encompass necessary investigations such as of identified fluctuations or
relationships that are inconsistent with other relevant information or that differ
from expected values by a significant amount
o The auditor has to perform analytical procedures during planning and near the
end of the audit that assist the auditor when forming an overall conclusion
whether the financial statements are consistent with the auditor‘s
understanding of the entity (Preliminary analytics and final analytics)
o Examples of comparisons: Comparable information for prior periods, anticipated
restults of the entity (such as budgets or forecasts) or similar industry
information (such as comparison of the entity‘s ratio of sales to A/R with others)
• Analytical Procedures - The process (4-Step-Approach)
o 1 Develop an EXPECTATION
 Accuracy with which the expected results of substantive analytical
procedures can be predicted (e.g. the auditor may expect greater
consistency in comparing gross profit margins from one period to another
than in comparing discretionary expenses, such as research or advertising)
 The degree of disaggregation (e.g. more effective when applied to financial
information on individual sections of an operation or to financial statements
of components of a diversified entity, than when applied to the financial
statements of the entity as a whole)
 Information availability both, financial and non-financial (e.g. considering
whether financial information, such as budgets or forecasts, and nonfinancial information, such as the number of units produced or sold, is
available to design substantive analytical procedures)
Auditing
210
BLOCK IV
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
• Analytical Procedures - The process (4-Step-Approach)
o 2 Define a TOLERABLE difference
 The auditor’s determination of the amount of difference from the
expectation that can be accepted without further investigation is influenced
by materiality and the consistency with the desired level of assurance
(taking account of the possibility that misstatement, individually or when
aggregated with other misstatements, may cause the financial statements
to be materially misstated).
 ISA 330 requires the auditor to obtain more persuasive audit evidence the
higher the auditor’s assessment of risk
Auditing
211
BLOCK IV
 The higher the risk assessed, the lower the amount of difference
considered is acceptable without investigation
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
Auditing
212
BLOCK IV
• Analytical Procedures - The process (4-Step-Approach)
o 3 CALCULATE the difference between the expected and the recorded amount
o 4 INVESTIGATE differences greater than the tolerable difference
 Audit evidence relevant to Management’s responses may be obtained by
evaluating those responses taking into account the auditor’s understanding
of the entity and its environment, and with other audit evidence obtained
during the course of the audit
 The need to perform other audit procedures may arise when, for example,
Management is unable to provide an explanation, or the explanation,
together with the audit evidence obtained relevant to Management’s
response, is not considered adequate
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
Auditing
213
BLOCK IV
• Inspection
o Examining records or documents whether internal or external, in paper form,
electronic form or other media, or a physical examination of an asset
o Documents, expert opinions, IT-generated data
o Degree of reliability of audit evidence obtained through inspection depends on
their nature and source
 E.g.: reliability of internal records and documents depend on the
effectiveness of the controls over their production
 E.g.: Inspection of tangible assets may provide reliable audit evidence with
respect to their existence, but not necessarily regarding the entity’s rights
and obligations or the valuation of the assets.
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
• Observation
o Looking at a process or procedure being performed by others
 E.g.: the auditor’s observation of inventory counting by the entity’s
personnel, or of the performance of control activities
o Gives evidence about the performance of a process or procedure but is limited
to the point in time at which the observation takes place
Auditing
214
BLOCK IV
• External Confirmation
o Represents audit evidence obtained by the auditor as a direct written response
to the auditor from a 3rd party
o Frequently relevant when addressing assertions associated with certain account
balances and their elements
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
• Recalculation
o Checking the mathematical accuracy of documents or records either performed
manually or electronically
Auditing
215
BLOCK IV
• Reperformance
o Involves the auditors independent execution of procedures or controls that
were originally performed as part of the entity’s internal control or process
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Nature of Substantive Audit Procedures
Auditing
216
BLOCK IV
• Inquiry
o seeking information of knowledgeable persons, both financial and non-financial,
within or outside the entity
o is used extensively throughout the audit in addition to other audit procedures
o responses to inquiries my provide the auditor with information not previously
possessed or with corroborative audit evidence (eg. Information regarding
management override of controls)
BLOCK IV - AUDIT PROGRAM SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Examples of specific areas
• Inventory
o Attendance at physical inventory counting, unless impracticable (Observation)
o Evaluate management‘s instructions and procedures for recording and
controlling the results of the entity‘s physical inventory counting (Inspection)
o Perform test counts (Reperformance)
Auditing
217
BLOCK IV
• Litigation and claims
o Inquiry of Management and, where applicable, others within the entity,
including in-house legal counsel (Inquiry)
o Reviewing minutes of meetings of those charged with governance and
correspondence between the entity and ist external legal counsel (Inspection)
o Reviewing legal expense accounts (Inspection)
BLOCK IV - AUDIT PROGRAM
Types
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Auditing
218
BLOCK IV
• Types of Substantive Audit Procedures
o Analytical audit procedures in addition to test of controls
o Test of Details
 Transactions: Test for errors or fraud in individual transactions
(e.g. Examination of a large purchase of inventory by testing the the cost of
goods included in the invoice is properly recorded in the inventory and
accounts payable)
 Account Balances: Focus on the items that are containted in the financial
statement account balances and disclosures
(e.g. Examination of a sample of individual invoices that kae up the ending
balance of accounts payable)
 Estimates
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
• Selecting items for testing to obtain audit evidence
o Selecting all items (100%)
 Unlikely in the case of test of controls, more common for test of details
 Appropriate for a small number of large value items, significant risks and
there is no other means to provide sufficient audit evidence or for efficiency
reasons
o Selecting specific items
 Subject to non-sampling risk
 Appropriate for high value or key items (target testing; e.g. suspicious,
unusual or with a history of errors), items over a certain amount to verify a
large proportion of the total amount or items to obtain information (e.g.
matters such as the nature of transactions)
o Audit sampling according to IAS 530
Auditing
219
BLOCK IV
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Auditing
220
BLOCK IV
• Selecting items for testing to obtain audit evidence
o The application of any one or combination of these means may be appropriate
depending on the particular circumstances
o While selective examination of specific items from a class of transactions or
account balance will often be an efficient means of obtaining audit evidence, it
does not consitute audit sampling!
o Selective examination of specific items does not provide audit evidence
concerning to the remainder of the population.
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
100%
Examination
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
<100%
Examination
Selecting
specific items
Statistic
sample
Key items
No conclusion on population
Non statistic
sample
Conclusion on population
Auditing
221
BLOCK IV
Qualitative
criteria
Random
sample
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Auditing
222
BLOCK IV
• Random Sample
o Each sampling unit has the same known probability of being selected.
o Requirements
 Homogenous population
 Homogenous error distribution
o Sampling Risk
 The risk that the auditor’s conclusion based on a sample may be different
from the conclusion if the entire population were subjected to the same
audit procedure.
• Inhomogenous population
• Inhomogenous error distribution
• Anomalies
Selection criteria
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
100% Examination
Selecting Specific Items
Statistic Sample
Non statistic sample
No selection criteria
Selection: Professional
judgement
Random Selection
Random Selection
Haphazard Selection
Sample size
No selection
Sample Size: Professional
Judgement
Sample size based on
statistic formular
Sample size implicitly
based on the same
factors as in statistic
formular
Sampling risk
No Sampling Risk
Calculation of sampling
risk impossible
Calculation of sampling
risk required
Calculation of sampling
risk not practicable
Risk of material
misstatement
Total misstatement
known
No projecting of
misstatements
Statistic projecting of
misstatement
Non-statistic projecting
of misstatement
Auditing
223
BLOCK IV
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
BLOCK IV - AUDIT PROGRAM
Types - Test of Details
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
1 Determine population
2 Determine sample size
3 Selection of items for testing
4 Performing audit procedures
5 Determine nature and cause of
deviations and misstatements
6 Projecting misstatements
Quantitative considerations
Auditing
Qualitative considerations
224
BLOCK IV
7 Evaluating audit sampling results
BLOCK IV - AUDIT PROGRAM
Audit program
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
• Test of Controls
o Mandatory, if risk assessment is based on rely on controls
o Mandatory, if substantive audit procedures only are not sufficient
o In case of significant risk mandatory in the current period
Auditing
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BLOCK IV
• Substantive Audit Procedures
o Mandatory for significant transactions, account balances and disclosures
o Mandatory for entries during financial statements closing process
 Reconciliation of financial statements with general ledger / accounting data
 Inquiring of material journal entrie
o Mandatory in case of significant risk
 If substantive audit procedures only  mandatory test of details
BLOCK IV - AUDIT PROGRAM
Audit program
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Auditing
226
BLOCK IV
• Substantive Audit Procedures – TIMING
o If substantive procedures are performed at an interim date, the auditor shall
cover the remaining period by performing
 substantive procedures, combined with tests of controls for the intervening
period or
 if the auditor determines that it is sufficient, further substantive procedures
only,
• that provide a reasonable basis for extending the audit conclusions from the interim
date to the period end.
• If misstatements (that the auditor did not expect when assessing the risks of
material misstatement) are detected at an interim date, the auditor shall evaluate
whether the related assessment of risk and the planned nature, timing or extent of
substantive procedures covering the remaining period need to be modified.
Trans
Cycle
FSLI /
Transaction
Sales
revenue Product X
Assertion
Accuracy
Risk of material
misstatement
SUBSTANTIVE AUDIT PROC & AUDIT PLAN
Control reliance
Significant
Combined Risk
Substantive audit procedures
Medium
Analytical Procedures
Analysis of material
deviations to the budget,
and internal sales statistics
Test of Details - Sampling
Comparison of revenue
recognised with the
appropriate invoices
High
Sales
(4-eyes principle
in recognising
invoices)
EUR 10m
cash in
for services
8/9/X0 3/4/X1
Cutoff
Significant
Medium
Test of Details - Target Testing
Comparison of revenue
recognised with the
appropriate invoice based
on the service period
Account
Receivables
R&O
Medium
Low
No further audit procedures
to be performed
Account
Receivables
Accuracy
Low
Low
No further audit procedures
to be performed
None
Auditing
227
BLOCK IV
BLOCK IV - AUDIT PROGRAM
Audit program (Example)
BLOCK IV
FINALISING THE AUDIT
Auditing
228
BLOCK IV
AUDITOR’S OPINION
BLOCK IV - FINALISING THE AUDIT
Forming an opinion
AUDITOR’S OPINION
Auditing
229
BLOCK IV
• Forming an opinion - Steps to take:
o Consider final adjustments and events after balance sheet date
o Finalising audit evidence  Representation letter
o Final review of audit documentation
o Evaluation of misstatements identified during the audit and accumulate them!
o Review risk assessment & materiality
o Conclude considering a true and fair view
o Going-concern
o Accordance with the requirements of financial reporting framework
o Communication of results to Management and Supervisory Board
o Wording opinion
BLOCK IV - FINALISING THE AUDIT
Content
AUDITOR’S OPINION
Auditing
230
BLOCK IV
• Content of auditor’s report (1)
o Title (e.g. Independent Auditor‘s Report)
o Recipient specifies to whom the auditor‘s report is to be addressed to
(normally to those for whom the report is prepared, either to shareholders or to
those charged with governance of the entity to be audited)
o Introductory paragraph - Report on the financial statements on the entity to be
audited
o Management‘s responsibility for the financial statements
 Management‘s responsibility for the preparation of financial statements and
their fair representation,
 Responsibility for internal control to enable proper preparation of FS that
are free from material missatement (whether due to fraud or error)
BLOCK IV - FINALISING THE AUDIT
Content
AUDITOR’S OPINION
Auditing
231
BLOCK IV
• Content of auditor’s report (2)
o Auditor‘s responsibility to express an opinion of the financial statements based
on the audit (referring to ISA 200)
o Auditor‘s opinion
o Signature of the auditor (name and signature)
o Date of the auditor‘s report
o Auditor‘s address
BLOCK IV - FINALISING THE AUDIT
Types
AUDITOR’S OPINION
• Types of auditor’s opinion
o Unmodified opinion: unqualified (clean)
o Modified opinion: qualified
Nature of matter giving
rise to the modification
Material but not pervasive
Material and pervasive
Financial statements
are materially misstated
Qualified opinion (I)
Adverse opinion (III)
Inability to obtain
sufficient appropriate
audit evidence
Qualified opinion (II)
Disclaimer of opinion (IV)
Auditing
232
BLOCK IV
Auditor’s judgement about the pervasiveness of the
effects or possible effects on the financial statements
AUDITOR’S OPINION
Auditing
233
BLOCK IV
BLOCK IV - FINALISING THE AUDIT
Qualified Opinion (I)
AUDITOR’S OPINION
Auditing
234
BLOCK IV
BLOCK IV - FINALISING THE AUDIT
Unmodified (CLEAN) Opinion
AUDITOR’S OPINION
Auditing
235
BLOCK IV
BLOCK IV - FINALISING THE AUDIT
Qualified Opinion (II)
AUDITOR’S OPINION
Auditing
236
BLOCK IV
BLOCK IV - FINALISING THE AUDIT
Adverse Opinion (III)
AUDITOR’S OPINION
Auditing
237
BLOCK IV
BLOCK IV - FINALISING THE AUDIT
Disclaimer of opinion (IV)
BLOCK IV - FINALISING THE AUDIT
Date & distribution
AUDITOR’S OPINION
• Date of Auditor‘s Opinion = Date of signed representation letter
• No audit work after date of auditor‘s report, only administrative process of
documentation
• Restriction on distribution of use of the auditor‘s report:
o Auditor‘s report is solely for the intended users and should not be distributed to
or used by other parties by the auditor
o The entity itself may distribute the report to any intended user
Auditing
238
BLOCK IV
• Auditor‘s report distribution private and confidential to:
o each member of management board
o each member of supervisory board
BLOCK IV - FINALISING THE AUDIT
Key Audit Matters
AUDITOR’S OPINION
Auditing
239
BLOCK IV
• ISA 701
o Those matters that, in the auditor’s professional judgment, were of most
significance in the audit of the financial statements of the current period
o Selected from matters communicated with those charged with governance.
o Focus in performing the audit
o A basis to further engage with Management and those charged with governance
about certain matters relating to the entity and the audited financial statements
o Areas identified as significant risks or involving significant auditor judgement
o Areas in which the auditor encountered significant difficulty during the audit
(including with respect to obtaining sufficient appropriate audit evidence)
o Circumstances that required significant modification of planned audit approach
(e.g. as a result of the identification of significant internal control deficiency)
BLOCK IV - FINALISING THE AUDIT
Key Audit Matters
AUDITOR’S OPINION
Auditing
240
BLOCK IV
• Communication Key Audit Matters STATE IN THE AUDITOR’S REPORT THAT
o A Key audit matters are those matters that, in the auditor‘s professional
judgement, were of most significance in the audit of the financial statements (of
the current period)
o B Key audit matters are selected from matters communicated with [those
charged with governance], but are not intended to represent all matters that
were discussed with them;
o C The auditor’s procedures relating to these matters were designed in the
context of the audit of the financial statements as a whole; and
o D The auditor’s opinion on the financial statements is not modified with
respect to any of the key audit matters, and the auditor does not express an
opinion on these individual matters.
BLOCK IV - FINALISING THE AUDIT
Key Audit Matters
AUDITOR’S OPINION
Auditing
241
BLOCK IV
• In case of no key audit matters identified
o Discuss this conclusion with the engagement quality control reviewer (EQCR),
for those engagements where on has been appointed
o Communicate this conclusion with those charged with governance; and
o Explain in the auditor‘s report that this section of the auditor‘s report is
intended to describe the matters communicated with those charged with
governance that the auditor has determined, in the auditor‘s professional
judgement, were of most signifiance in the audit of the financial statements and
the auditor has determined that there are no matters to report.