Professional
Standards
“All my growth and development led me to believe that if
you really do the right thing, and if you play by the rules,
and if you’ve got good enough, solid judgment and
common sense, that you’re going to be able to do
whatever you want to do with your life….”
– Barbara Jordan, first African-American woman from the South
ever elected to the U.S. House of Representatives
Chapter 2
2-1
Authority of Organizations
Public Company Accounting Oversight Board
Auditing, Attestation, Quality Control, Independence, Ethical
Standards for audits of Public Companies
American Institute of Certified Public Accountants
Auditing, Attestation, Quality Control, Independence Ethical,
Accounting and Review Standards for engagements involving
Nonpublic Companies
State Boards of Accountancy
License CPAs and CPA firms to practice in jurisdictions
2-2
Auditing Practice Standards
Client
Public
Companies
Private
Companies
Governmental
Entities
Foreign
Companies
U.S. Government
Accountability
Office (GAO)
IFAC
International
Auditing and
Assurance
Standards
Board (IAASB)
Rulemaking
body
Public Company
Accounting
Oversight Board
(PCAOB)
AICPA Auditing
Standards
Board (ASB)
Standards
Auditing Standards
(SAS)
Statements on
Government
Auditing
Auditing
Standards (SAS) Standards (The
“Yellow Book”)
International
Standards on
Auditing (ISAs)
Web site
www.pcaobus.org
www.aicpa.org
www.ifac.org
www.gao.gov
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LO# 8, 9
Statements on Auditing Standards
(SAS)—Interpretations of GAAS
SAS are classified by two numbering categories
SAS number applies to the order in which the
standards are issued and are thus
chronological
AU number applies to the topical content in the
statement.
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LO# 8, 9
Statements on Auditing Standards
(SAS)—Interpretations of GAAS
For example, SAS No. 39, “Audit Sampling,” is
found under AU 350 because the AU 300s
relate to the standards of field work or
evidence collection and evaluation.
AU Section
100s
200s
300s
400s
500s
600s
700s
800s
900s
Topical Content
Introduction
The General Standards
The Standards of Field Work
The First, Second, and Third Standards of Reporting
The Fourth Standard of Reporting
Other Types of Reports
Special Topics
Compliance Auditing
Special Reports of the Committee on Auditing Procedures
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LO# 6, 7
Auditing Standards
Auditing standards serve as
guidelines for and measures of
the quality of the auditor’s
performance.
PCAOB
Auditing
Standards
Board
Public
Companies
Nonpublic
Companies
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Principles Underling GAAS
AICPA
Purpose of an audit
Premise of an audit
Personal responsibilities of the
auditor
Auditor actions in performing the
audit
Reporting results of an audit
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Purpose of the Audit
Provide an opinion on financial
statements whether they are in
accordance with the
applicable Financial Reporting
Framework.
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Premise of an Audit
Management (and those charged
with governance) have
responsibility to:
Prepare financial statements in accordance with
applicable financial reporting framework.
Provide auditor with needed information and
unrestricted access to those in the entity.
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Personal Responsibilities of
the Auditor
Appropriate competence and capabilities
to perform audit in accordance with
standards, including maintaining
professional skepticism and exercising
professional judgment throughout the
audit.
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Professional Skepticism
A questioning mind and a critical
assessment of audit evidence.
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Auditor Actions in Performing the
Audit
Obtain reasonable assurance about whether
financial statements are free from error or
fraud.
The auditor is unable to obtain absolute
assurance due to:
Nature of financial reporting.
Nature of audit procedures.
Need to conduct audit within a reasonable
period of time.
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Reporting on Results of an Audit
Express in a written report, an opinion
on findings (or a statement that an
opinion cannot be expressed).
The opinion is on whether the financial statements
are in accordance, in all material respects, with
the applicable financial reporting framework.
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SAS Format (AICPA)
Introduction, including scope
Objective(s)
Definitions of Important Terms
Requirements
Applications and other explantory
material
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Terminology in Auditing Standards
Responsibility
Level
Meaning
Words Used to
Indicate
Responsibility
“Must”
“Is required”
“Shall” (PCAOB only)
Unconditional
Responsibility
Auditor must fulfill responsibilities
Presumptively
Mandatory
Auditor must comply with
“Should”
requirements unless auditor
demonstrates and documents that
alternative actions were sufficient to
achieve the objectives of the
standards
Responsibility
to Consider
Auditor should consider; whether
the auditor complies with the
requirements depends on the
exercise of professional judgment
in the circumstances
“Might”
“Could”
Other phrases
indicating a
responsibilities to
consider
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The House
of GAAP
Least
Authoritative
AICPA Accounting
Interpretations
FASB Implementation
Guides (Q&A), FSP
FASB Emerging Issues Task Force
FASB
Technical Bulletins
Most
Authoritative
FASB
Statements and
Interpretations
Widely recognized and
prevalent industry
practices
AICPA AcSEC Practice Bulletins
AICPA
Industry Audit and
Accounting Guides
AICPA
Statements of
Position
AICPA
APB
Opinions
Accounting
Research
Bulletins
Relationship Between GAAS and
PCAOB Auditing Standards
The term Generally Accepted Auditing Standards
(GAAS)is no longer used for public company audits
The term GAAS continues to be used for audits
of private companies.
Public company audits refer to PCAOB
Auditing Standards.
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Generally Accepted Auditing
Standards
General Standards --- provide guidance
in hiring and training of auditors
Fieldwork Standards --- help auditors
plan and perform the audit
Reporting Standards --- help ensure
clear communication between auditor and
statement users
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Engagement Overview and
GAAS
OBTAIN
(OR RETAIN)
CLIENT
ENGAGEMENT
PLANNING
INTERNAL
CONTROL
EVALUATION
EVIDENCE
GATHERING
REPORTING
General Standards
Standards of Fieldwork
Reporting
Standards
2 - 19
Generally Accepted Auditing
Standards--General Standards
Adequate technical training and
proficiency
Independence in mental attitude is
to be maintained
Due professional care is to be
exercised
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Generally Accepted Auditing
Standards--Standards of Field Work
Adequately plan and properly supervise work
Obtain a sufficient understanding of entity, and its
environment, including internal control to
assess risk of material misstatement and to
design further audit procedures
Obtain sufficient appropriate audit evidence to
afford a reasonable basis for the opinion
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Generally Accepted Auditing
Standards--Standards of Reporting
State whether the financial statements are presented in
accordance with GAAP
Identify circumstances in which such principles have
not been consistently applied
Informative disclosures are adequate unless otherwise
stated in the report
Report should clearly state the degree of responsibility
being assumed by the auditors by expressing an
opinion or stating that one cannot be expressed, and
the reason therefor
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Errors and Illegal Acts
Errors: unintentional misstatements or omissions of
amounts or disclosures in financial statements
Direct-effect illegal acts: violations of laws or
government regulations by the company or its
management or employees that produce direct and
material effects on dollar amounts in financial
statements.
Far Removed Illegal acts: violations of laws and
regulations that are far removed from financial
statement effects (for example, violations relating to
insider securities trading, occupational health and
safety, food and drug administration, environmental
protection, and equal employment opportunity).
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Defining Fraud
Four Elements:
Material False Statement
Knowledge the Statement was
False
Reliance on the Statement by
Victim
Damages
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Types of Fraud
Fraudulent Financial
Statements
Employee Fraud
Vendor Fraud
Customer Fraud
Investment Scams
Bankruptcy Frauds
Miscellaneous
Frauds
The common
element is deceit
or trickery!
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Fraud & Auditor Responsibilities
"The detection of material fraud is a
reasonable expectation of users of
audited financial statements. Society
needs and expects assurance that
financial information has not been
materially misstated because of fraud.
Unless an independent audit can provide
this assurance, it has little if any value to
society”
Public Companies Accounting Oversight Board
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Auditing Standards on Fraud
SAS 99, "Fraud Detection in a
Financial Statement Audit" issued in
2002
Requires auditors to search for risk
factors related to fraud
If these risk factors are present,
auditor needs to modify audit to
Actively search for fraud
Require more substantive audit evidence
In some cases, assign forensic (fraud) auditors to the
engagement
Emphasizes professional skepticism
2 - 27
Considering the Risk of Fraud (SAS 99)
Staff discussion
Obtain information
needed to identify risks
Identify and
assess risks
Respond to
risk assessment
Evaluate audit
evidence
Communicate and
document
Gather information
to identify risks.
Identify risks.
Assess risks taking
into account
entity’s programs
and controls.
Respond to results
of assessment.
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Auditor Responsibility for Client
Identifying Noncompliance with Laws
Noncompliance with laws that could have a
direct and material effect on financial
statement amounts and disclosures-same as for errors and fraud. An audit
obtains reasonable assurance of
detecting noncompliance with these laws.
Other Laws (no direct effect on financial
statement amounts):
Specific procedures:
Inquire of management as to compliance
Inspect correspondence with licensing or regulatory authorities
Be aware of possible occurrence.
If information comes to the auditor’s attention, apply audit
procedures directed at determining whether noncompliance with
a law has occurred. An audit does not provide assurance that
noncompliance with these laws will be detected.
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Standard Auditors’ Report for
Nonpublic Companies
Title
Addressee
Content Sections (paragraphs)
Introductory (“We have audited”)
Management’s Responsibility
Auditor’s Responsibility
Opinion Paragraph
Signature (Firm Name)
City and State of office issuing audit
report
Date
2 - 30
AICPA Standard Auditors’ Report-Introductory Paragraph
We have audited the accompanying
consolidated balance sheets of ABC
Company and its subsidiaries, as of
December 31, 20X1 and 20X0, and the
related consolidated statements of
income, retained earnings, and cash
flows for the years then ended.
2 - 31
AICPA Standard Auditors’ Report—Management’s
Responsibility Paragraph
Management is responsible for the
preparation and fair presentation of these
consolidated financial statements in
accordance with accounting principles
generally accepted in the United States of
America; this includes the design,
implementation, and maintenance of internal
control relevant to the preparation and fair
presentation of consolidated financial
statements that are free from material
misstatement, whether due to fraud or error.
2 - 32
AICPA Standard Auditors’ Report:
Auditors’ Responsibility Paragraphs
Our responsibility is to express an opinion on these consolidated financial statements based on
our audits. We conducted our audits in accordance with auditing standards generally accepted in
the United States of America. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the consolidated financial statements are free of
material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and
disclosures in the consolidated financial statements. The procedures selected depend on the
auditor's judgment, including the assessment of the risks of material misstatement of the
consolidated financial statements, whether due to fraud or error. In making those risk
assessments, the auditor considers internal control relevant to the entity's preparation and fair
presentation of the consolidated financial statements in order to design audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the entity's internal control An audit also includes evaluating the
appropriateness of accounting policies used and the reasonableness of significant accounting
estimates made by management, as well as evaluating the overall presentation of the
consolidated financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a
basis for our audit opinion.
2 - 33
AICPA Standard Auditors’ Report-Opinion Paragraph
In our opinion, the consolidated financial
statements referred to above present fairly,
in all material respects, the financial
position of ABC Company and its
subsidiaries as of December 31, 20X1 and
20X0, and the results of their operations
and their cash flows for the years then
ended in accordance with accounting
principles generally accepted in the United
States of America.
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Types of Auditors’ Reports --- Non Public
Standard Unqualified Report --- Financial statements
follow GAAP and auditor does not add explanatory language for any
issue
Unqualified with Explanatory Language
Example: A lack of consistency in application of accounting principle
Qualified Opinion
Examples: Scope limitation or departure from GAAP
Adverse Opinion
Examples: Departure from GAAP so significant that financial
statements as a whole are misleading
Disclaimer of Opinion
Example: Unable to determine an opinion due to a very significant
scope limitation
2 - 35
Public Company Audit Report
Title: “Report of Registered
Independent Public Accounting
Firm.”
Refers to standards of the PCAOB
rather than GAAS.
Includes a paragraph that refers to
report on internal control.
Briefer than the nonpublic company
report.
2 - 36
Report Title
Report of Independent Registered Public Accounting Firm
Report Address
To the Board of Directors and Shareholders
APOLLO SHOES, INC.
Introductory
Paragraph
We have audited the accompanying balance sheets of APOLLO SHOES, INC. as of
December 31, 2010 and 2009, and the related statements of comprehensive
income, shareholders’ equity, and cash flows for each of the years in the threeyear period ended December 31, 2010. These financial statements are the
responsibility of the APOLLO SHOES, INC.’s management. Our responsibility is
to express an opinion on these financial statements based on our audits.
Scope
Paragraph
Opinion
Paragraph
Internal Control
Paragraph (AS 5)
Signature
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of APOLLO SHOES, INC. as of December
31, 2010 and 2009, and the results of its operations and its cash flows for each of
the years in the three-year period ended December 31, 2010 in conformity with
accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), APOLLO SHOES INC.’S' internal
control over financial reporting as of December 31, 2010, based on criteria
established in Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO), and our report
dated January 29, 2011 expressed an unqualified opinion on the effective
operation of internal control over financial reporting.
Smith & Smith, CPAs
January 29, 2011
Report Date
2 - 37
Sarbanes-Oxley Act --- Internal
Control Report
Combined Report on Financial Statements and
Internal Control Over Financial Reporting
1. Introductory Paragraph
2. Scope Paragraph
3. Definition Paragraph
4. Inherent Limitations Paragraph
5. Opinion Paragraph
2 - 38
Other Types of Auditors’ Reports
Public Firms
Standard Unmodified Report (Unqualified per
PCAOB standards)
Financial statements follow GAAP and auditor does not add additional
commentary for any issue
Other Reports
Unmodified with emphasis of matter (or other emphasis)
A lack of consistency in application of accounting principles
Qualified opinion
Scope limitation or departure from GAAP
Adverse opinion
Departure from GAAP so significant that financial statements as a whole
are misleading
Disclaimer of opinion
Unable to arrive at an opinion due to a very significant scope limitation
2 - 39
GAAP
FASB issues GAAP for nongovernmental
entities
Authoritative: FASB Codification and Accounting Standards
Updates
Nonauthoritative Pronouncements:
Widely recognized practices
FASB concepts Statements
AICPA Issues Papers
International Financial Reporting Standards
Various others
Other sources of GAAP
GASB--State and Local Governments
FASAB--Federal Government
2 - 40
Attestation Standards
Provides guidance on attest
engagements other than audits:
“An engagement in which a practitioner is engaged to issue or does
issue a report on subject matter or an assertion about the subject
matter that is the responsibility of another party.”
Same basic set of rules as GAAS,
except more general.
“Attest function” vs. “audit”
“Practitioner” vs. “auditor”
“Engagement” vs. “audit”
2 - 41
Applicability of SSAEs
2 - 42
Elements of Quality Control
Independence, Integrity, and Objectivity
Personnel Management
Acceptance and Continuation of Clients
and Engagements
Engagement Performance
Monitoring
2 - 43
PCAOB
Composed of 5 members – only two may
be CPAs
Members appointed by SEC and may serve
no more than two five-year terms
All accounting firms that audit SEC
registrants must register with PCAOB
Pledge to cooperate with PCAOB inquiries
PCAOB can impose monetary damages, suspend firms or
make referrals to Justice Department
2 - 44
Public Company Accounting
Oversight Board (PCAOB)
Monitors accounting firms through
inspections
Firms auditing > 100 public entities: annual
Firms auditing < 100 public entities: every 3 years
Inspection reports list deficiencies in
audits conducted by registered firms
(http://www.pcaob.org/Inspections/Public
_Reports/index.aspx
2 - 45
Public Company Accounting
Oversight Board (PCAOB)
Establishes standards (Auditing Standards)
Auditors’ reports (AS 1)
Audit documentation (AS 3)
Material weaknesses in internal control (AS 4)
Audits of internal control over financial reporting (AS 5)
Standards must be approved by SEC
ASB and AICPA standards prior to April 16,
2003 are Interim Auditing Standards
May be modified or amended by Auditing Standards
2 - 46
Peer Reviews
Members of AICPA
Conducted by CPAs or other CPA firms
Two types of peer reviews
System review
Study of CPA firms’ system of quality control
Select sample of firms’ engagements and examine related
working paper files
Engagement review
Sample of CPA work including reports to evaluate
appropriateness
Less in scope than system review
Report: Pass, Pass with Deficiencies, or Fail
2 - 47
PCAOB
Inspections
Conducted
by PCAOB
Staff
Focus
Primarily evaluating performance of sample of
individual audit and review engagements; a
risk based approach to selection and
inspection is used.
Selected quality control and management
issues only. This differs from a peer review.
Report
Written report to SEC, part of which is made
public
2 - 48
Relationships
Quality Control
Standards
Generally Accepted
Auditing Standards
Division of
CPA Firms
Peer
Review
2 - 49
International Accounting
Standards
International Financial Reporting
Standards (IFRS)
Developed by International Accounting Standards
Board (IASB)
SEC accepts IFRS for foreign companies that
issue securities in US markets
2 - 50
International Audit Report
Contains expanded description of management’s
responsibility
Contains an enhanced explanation of the audit process
May state “present fairly, in all material respects” or
“give a true and fair view”
Report may indicate that the financial statements
comply with the provisions of the country’s relevant
statutes or laws
Must include city of the auditors’ office
May be signed using the personal name of the auditor
or the audit firm or both
2 - 51
End of Chapter 2
2 - 52