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Planning
Kaplan Chapter 6
ACCA Paper F8 INT
Audit and Assurance1
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Test
1. What are the fundamental principles of ethics.2. What are the threats to these fundamental
principles
3. What are the general safe guards to the threats4. What are the specific safe guards to these threats
5. If offered audit work what must you first do
6. What does the letter of engagement include
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Test your understanding
During an audit planning meeting with a private cardealership company the following was discussed:
1) They wanted you to prepare the accounts
2) The audit fee was 16% of your firms fees and asmall element unpaid
3) Another partner in your firm holds shares in the
company
4) A relative of the FD is training in your firm
5) The company offered to service your car
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Learning Objectives identify and explain the need for planning an audit
identify and describe the contents of the overall audit strategy andthe audit plan
explain the difference between interim and final audit
discuss the effect of fraud and misstatements on the audit strategyand extent of audit work
explain and describe the relationship between the overall auditstrategy and the audit plan
explain how auditors obtain an initial understanding of the entityand knowledge of its business environment
define and explain the concepts of materiality and tolerable error
compute indicative materiality levels from financial information
develop and document an audit plan
describe and explain the nature and purpose of analyticalprocedures in planning.
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Planning If we fail to plan, we plan to fail !
In preparing for battle I have always found
that plans are useless, but planning is
indispensable Dwight D. Eisenhower (1890 -
1969)
If anything is certain, it is that change is
certain. The world we are planning for today
will not exist in this form tomorrow PhilipCrosby
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ISA 300 Planning and Audit of financial statements
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People
Timing
Focus
Problemareas
Amountof Work
Natureof work
Why do all this?
To assess and reduce
risk
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The benefit of planning Ensuring the right team is selected for the assignment
Ensuring that staff are employed effectively rather thansimply given something to do.
Ensuring the work is properly focused on material areasof risk
Identifying potential problem areas. Ensuring that the nature and quantity of the work done
addresses the risks and problem areas.
Ensuring the work can be fully completed in time for
the review process Enabling deadlines to be met so that there is time for
due consideration of the important issues.
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Its all about risk
It is the assessment of risk which determines: ± the audit strategy
± who should be on the audit team
± the potential impact of fraud
± the nature of the procedures to be carried out
± how much evidence needs to be gathered.
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Before you start the Audit
1. Follow procedures regarding continuance of
client relationship and the specific
engagement
2. ISA 220 Compliance with ethical
requirements
3. ISA 210 Agreeing the terms of the audit
engagement
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The Audit Objective and Evidence
The audit objective is the expression of an expert opinion (for reasonableThe audit objective is the expression of an expert opinion (for reasonable
assurance) on the truth and fairness of financial statements presented.assurance) on the truth and fairness of financial statements presented.
Evidence in support of the audit opinion will be obtained from a range of Evidence in support of the audit opinion will be obtained from a range of
sourcessources..
Will inform theWill inform the
thethe Audit OpinionAudit Opinion
EnvironmentEnvironmentPeoplePeople
SystemsSystems ControlsControls
AUDITAU
DIT
EVIDENCEEVIDENCE
on theon the
Financial StatementsFinancial Statements
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an opinion on whether the FS are prepared, in allan opinion on whether the FS are prepared, in all materialmaterial respects, inrespects, in
accordance with an applicable financial reporting framework.accordance with an applicable financial reporting framework.
ISA 200 - Objectives and general principles governing the audit of FSObjectives and general principles governing the audit of FS
The auditorThe auditor shouldshould Plan and performPlan and perform the audit.the audit.
NOTENOTE: Audit risk, therefore, must be clearly defined in order to achieve: Audit risk, therefore, must be clearly defined in order to achieve
effective audit risk reduction.effective audit risk reduction.
Reduce Audit RiskReduce Audit Risk to anto an Acceptably low levelAcceptably low level
ConsistentConsistent with thewith the Audit Objective.Audit Objective.
ToTo
that isthat is
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ISA 320ISA 320 Audit materialityAudit materiality -- Requires the auditor to consider materiality.Requires the auditor to consider materiality.
Misstatement, including omissions, if they individually or in aggregate could influenceMisstatement, including omissions, if they individually or in aggregate could influencedecisions of users of the FSdecisions of users of the FS
Materiality Planning ISA 320
MaterialityMateriality To be considered:To be considered:
In determining the nature, timing and extent of In determining the nature, timing and extent of
audit proceduresaudit procedures
In evaluating the potential effect / impact of In evaluating the potential effect / impact of
misstatementmisstatement
REMEMBERREMEMBER: Materiality is fundamental to audit and must be considered at the: Materiality is fundamental to audit and must be considered at the
planning stage to determine levels of tolerable error (i.e. before the overall auditplanning stage to determine levels of tolerable error (i.e. before the overall auditopinion is affected)opinion is affected)
ISA 320ISA 320 Materiality is a matter of professional judgementMateriality is a matter of professional judgement, considering:, considering:
Circumstances surrounding the entityCircumstances surrounding the entity
Size and nature of the misstatementsSize and nature of the misstatements
Information needs of the users of the FSInformation needs of the users of the FS
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Materiality Overview
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Materiality levels (tolerable error) using traditional benchmarksMateriality levels (tolerable error) using traditional benchmarks
Values Values
£000£000MaterialityMateriality
SalesSales 12,57512,575 0.5% to 1%0.5% to 1%
Gross profitGross profit 4,5204,520 0.5% to 1%0.5% to 1%
Operating (net) profitOperating (net) profit 2,0002,000 2% to 4%2% to 4%
Net assetsNet assets 7,2007,200 2% to 4%2% to 4%
Materiality Planning
NOTENOTE: Materiality should be carefully considered from both a: Materiality should be carefully considered from both a qualitativequalitative andand
quantitativequantitative viewpointviewpoint
Profit/loss, Directors remuneration, related party transactionsProfit/loss, Directors remuneration, related party transactions
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Materiality PlanningMateriality should be considered from both a qualitative and quantitative viewpoint. This isMateriality should be considered from both a qualitative and quantitative viewpoint. This is
particularly true where values are tested using sampling techniques and / or accountingparticularly true where values are tested using sampling techniques and / or accountingestimates are used.estimates are used.
Professional scepticism:Professional scepticism:
ErrorsErrorsWhereWhere areare DiscoveredDiscovered thethe AuditorAuditor should considershould consider
thethe Effect on MaterialityEffect on Materiality
InIn Aggregation
Aggregation and inand in SummarySummary
on theon the Financial Statements.Financial Statements.
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Performance materiality
The amount set by the auditor at less than
materiality for FS as a whole to reduce to an
appropriately low level the probability that
the aggregate of uncorrected and undetected
misstatements exceeds materiality for the FS
as a whole (ISA 320)
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Tolerable misstatement
A monetary amount set by the auditor inrespect of which the auditor seeks to obtainan appropriate level of assurance that the
monetary amount set by the auditor is notexceeded by the actual misstatement in thepopulation (ISA 530 Audit Sampling)
When sampling it is the tolerable amount of errors an auditor would accept, otherwisethey would test a greater sample
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ISA 520 Analytical Procedures
The evaluation of financial information throughanalysis of plausible relationships among both
financial and non-financial data (ISA 520)
Typically:
Current and prior year figures
To understand changes in business, asset moves
Current and budgeted/forecast figures
To identify peculiar deviations
Client and industry average figures (benchmark)
To understand the business environment
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ISA 520 Analytical Procedures explain
With reference to ISA 520 A
nalytical Proceduresexplain
1. what is meant by the term 'analytical procedures
(2)
2. the different types of analytical procedures
available to the auditor (3)
3. the situations in the audit when analytical
procedures can be used(3)
4. Explain the procedures necessary to obtain a
bank confirmation letter from Tribe Co's bank. (3)19
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Tribe Co sells bathrooms from 15 retail outlets. Sales are made toindividuals, with income being in the form of cash and debit cards.All items purchased are delivered to the customer using Tribe'sown delivery vans most bathrooms are too big for individual's to
transport in their own motor vehicles. The directors of Tribeindicate that the company has had a difficult year, but are pleasedto present some acceptable results to the members.
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Income Statement
31 March 2010 31 March 2009
£000 £000
Revenue 11,223 9,546
Cost of Sales (5,280) (6,380)5,943 3,166
Operating Expenses
Administration (1,853) (1,980)
Selling and distribution (1,472) (1,034)
Interest payable (152) (158)
Investment income 218 0
(3,259) (3,172)
Profit/(Loss) 2,684 (6)
Financial statement extract
Cash and Bank 380 (1,425)
Required:
(b) As part of your risk assessment procedures for Tribe Co, identify
and provide a possible explanation for unusual changes in the
income statement. (9 marks)
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Answer 1 . Explanation of analytical procedures
Analytical procedures are used in obtaining anunderstanding of an entity and itsenvironment and in the overall review at theend of the audit.
'Analytical procedures' actually means theevaluation of financial and other informationand the review of plausible relationships inthat information. The review also includes
identifying fluctuations and relationships thatdo not appear consistent withother relevantinformation or results.
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Ans 2 - Types of analytical procedures
Analytical procedures can be used as:
1. Comparison of comparable information to priorperiods to identify unusual changes or fluctuations inamounts.
2. Comparison of actual or anticipated results of the
entity with budgets and/or forecasts, or theexpectations of the auditor in order to determine thepotential accuracy of those results.
3. Comparison to industry information either for theindustry as a whole or by comparison to entities of
similar size to the client to determine whetherreceivable days, for example, are reasonable
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Ans 3 - Use of analytical procedures Risk assessment procedures
Analytical procedures are used at the beginning of the audit to help theauditor obtain an understanding of the entity and assess the risk of material misstatement. Audit procedures can then be directed to these'risky' areas.
Analytical procedures are substantive procedures.
Analytical procedures can be used as substantive procedures in determiningthe risk of material misstatement at the assertion level during work onthe income statement and statement of financial position (balancesheet).
Analytical procedures in the overall review at the end of the audit.Analytical procedures help the auditor at the end of the audit in forming anoverall conclusion as to whether the financial statements as a whole areconsistent with the auditor's understanding of the entity.
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Obtaining a bank letter
1.Review the need to obtain a bank letter from the
information obtained from the preliminary riskassessment of Tribe.
2. Prepare a standard bank letter in the formatagreed with banks in your jurisdiction.
3. Obtain authorisation on that letter from a director of Tribe for the bank to disclose information to theauditor.
4. Where Tribe has provided their bank with astanding authority to disclose information to the
auditors, refer to this authority in the bank letter.5. The auditor sends the letter directly to Tribe bankwith a request to send the reply directly back tothe auditors
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TribeThe income statements for the last two financial years are shown below:
Income Statement
31 March 2010 31 March 2009
£000 £000
Revenue 11,223 9,546
Cost of Sales (5,280) (6,380)
5,943 3,166
Operating Expenses
Administration (1,853) (1,980)
Selling and distribution (1,472) (1,034)Interest payable (152) (158)
Investment income 218 0
(3,259) (3,172)
Profit/(Loss) 2,684 (6)
Financial statement extract
Cash and Bank 380 (1,425)
Required:
(b) As part of your risk assessment procedures for Tribe Co, identify
and provide a possible explanation for unusual changes in theincome statement. (9 marks)
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ISA 315 - Identifying and Assessing the Risks of
Material Misstatement through Understanding the
Entity and Its Environment
Tools that can be use:
P
EST
EL Political, economic. Social,technological, environmental, legal
SWOT strengths, weaknesses, opportunities,
threats
Porters 5 Forces
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Sources of information
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Info fromyour firm
Info fromyou Info fromclient
Info fromexternalsPartner
Manager
Industry experts
Last years team
Last years audit
Working papers
Industry surveys
Companies house
Internet
Trade press
Credit agencies
Past experience
Discussion
Observation
Website
brochures
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Knowledge of the Business
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ISA 315 - Identifying and Assessing the Risks of Material
Misstatement through Understanding the Entity and ItsEnvironment
Discussion among the engagement teamThe members of the engagement team should
discuss susceptibility of the entitys financial
statements to material misstatements. ISA
315This discussion effectively a planning meeting is
required by ISA 315.
In order to demonstrate that it has taken place and
that the standard has been complied with, there willneed to be evidence, usually in the form of minutes of
the discussion meeting.
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ISA 230ISA 230 Audit documentationAudit documentation requires the auditor to preparerequires the auditor to prepare
(sufficient and appropriate) documentation on a timely basis.(sufficient and appropriate) documentation on a timely basis.
Audit Documentation
The purpose of audit documentation:The purpose of audit documentation:
Documentary evidence recognising ISA, legalDocumentary evidence recognising ISA, legal
and regulatory requirementsand regulatory requirements
Documentary evidence of audit work doneDocumentary evidence of audit work done
to be used as the basis for the audit reportto be used as the basis for the audit report
and opinionand opinion
Most firms will use audit packs preprinted
or computerised documents and checklists to
ensure that the requirements of ISAs havebeen followed.
Appropriate retention periodAppropriate retention period ACCA 7 yearsACCA 7 years
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Working papers are a documentary record of audit proceduresWorking papers are a documentary record of audit proceduresperformed and evidence obtained in support of the audit opinion.performed and evidence obtained in support of the audit opinion.
Working Papers
Planning the performance of audit tasks (and supervision)Planning the performance of audit tasks (and supervision)
Documentation sufficiency and accountabilityDocumentation sufficiency and accountability
Recording matters arising (scope and future audit)Recording matters arising (scope and future audit)
Internal quality control proceduresInternal quality control procedures
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The form and content of working papers will be affected by the findings of the audit planningThe form and content of working papers will be affected by the findings of the audit planning
process.process.
Working Papers
Identified risks of material misstatementIdentified risks of material misstatement
The level of judgement required in audit work and evaluationThe level of judgement required in audit work and evaluation
The nature and significance of audit evidence obtainedThe nature and significance of audit evidence obtained
Reasonable conclusions from evidence obtainedReasonable conclusions from evidence obtained
The audit methodology and required resourcesThe audit methodology and required resources
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The stages of the planThe plan usually consists of nine stages:
1. Gather/confirm knowledge of the business
± Nature of the business ± Management
± Key staff
± Those charged with governance
± Accounting systems
± Internal controls
± KOB discussion2. Preliminary analytical review
3. Risk assessment
± Overall
± By area
± Significant risks4. Materiality calculation
5. Tolerable error calculations for material areas
6. The audit approach to be adopted for all areas
7. Assessment of auditor¶s independence ± See chapter 5 Ethics
8. Budget and staffing
9. Timetable and deadlines 34
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Documentation1. Permanent file a file of information which is
relevant for more than one years audit, e.g. ± Names of management, those charged with
governance, shareholders.
± Systems information
±Background to the industry and the clients business ± Title deeds
± Directors service agreements
± Copies of contract and agreements
2. Current file a file containing thedocumentation and evidence for the currentaudit.
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The audit strategy
Consider competencies, resources, timing andmanagement
Scope, timing and direction
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Knowledge of the
business Analytical reviewAssess risk
Audit strategyScope, timing,
direction
Audit approachDeadlines and
budgetsSelect the team
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Risk
Kaplan Chapter 7
ACCA Paper F8 INT
Audit and Assurance38