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ACCA Paper F8 Audit and Assurance (International)

First edition June 2007 ISBN 9780 7517 3275 7 British Library Cataloguing-in-Publication Data

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Welcome to BPP Learning Media's new syllabus ACCA Passcards for Paper F8 Audit and Assurance

(International stream)

They focus on your exam and save you time

They incorporate diagrams to kick start your memory

They follow the overall structure of the BPP Learning Media's Study Texts, but BPP Learning Media's ACCA Passcards are not just a condensed book Each card has been separately designed for clear presentation Topics are self-contained and can be grasped visually

ACCA Passcards are still just the right size for pockets, briefcases and bags

ACCA Passcards should be used in conjunction wth the question plan in the front pages of the Kit The

plan identifies key questions for you to try in the Kit

Run through the Passcards as often as you can during your final revision period The day before the exam, try

to go through the Passcards again! You will then be well on your way to passing your exams

Good luck!

Audit and other assurance engagements 1

Statutory audit and regulation

Regulatory environment and corporate

Not-for-profit organisations 125 Auditor review and finaisation 131

1: Audit and other assurance engagements

The purpose of assurance services

The nature of assurance services

Assurance and reports

The chronology of an audit

This chapter provides an introduction into why there is a

need for assurance services, for example, audit and review It is important that you have grasped the key auditing concepts outlined in this chapter because It is the foundation for the rest of your studies

You may not be examined specifically on these issues,

but will need to understand them to answer other questions, later on.

The purpose oÍ The nature of Assurance The chronology

8SSLIa'Ice services assurance services and reports of an audit

There are various people interes‘ed in the financial statements of a company “hey are called stakeholders

Particularly in larger companies, the owners of a Accountability therefore covers a range of issues

company and the management of that company Going concern Profits Financial

~~ 4

Directors are accountable to the shareholders in Communication

The purpose of The nature of Assurance

assurance services |e rte ait and reports

Auditors do not bear any responsibility for the preparation end presentation of the financial statements, which is the responsibility of the directors

There are many misconceptions about the role of the

auditors, which are referred to as ‘the expectations gap’ (the gap between what auditors do and what people think they (should) do)

The ourpose of The nature of

assurance services assurance services

(‘Statutory audits are required by

law for most companies (small

cos are exempt) Various other

bodies recuire an audit under

law, including: building societies,

trade unions, some charities

Non-statutory audits are

performed on various clubs, sole traders and partnerships because the owners want

them, not because it Is legally

Assiane ` The chronology

and reports of an audit

External v internal audit

Larger entries often have

act as a control Their work

can benefit the external

auditors

Advantages of the non-statutory audit

The objective of a review engagement is to = Means of settling accounts

enable an auditor to give an opinon whether

internal audit Internal auditors

The purpose of The nature of Assurance The chronology assurance services assurance services and reports of an audit

An audit can be distinguished

from other engagements in

the following ways:

Audit: Provides high, but not

absolute level of assurance,

expressed in the audit report

given at all (Report on factual

findings / no opinion given)

Page 5

Reasonable assurance Materiality is the expression of the relative

is not a guarantee of significance of importance of a particular

correctness, but an matter in the context of the FS as a whole A

assurance of truth and matter is material if its omission or fairness within a misstatement would reasonably influence reasonable margin of the decisions of the addressee of the error auditors’ report It has both qualitative and

Limitations of an audit

= Not purely objective = Chance of collusion in fraud

= Not all items in FS checked = Time lag (period — reporting)

= Limitations of systems = Limitations of the audit report

1: Audit and other assurance engagements

The nature of assurance services

substantive substantive review of Report to

| | |

2: Statutory audit and regulation

This chapter contains essential background knowledge about the regulation of auditing Auditing is self-regulating

in the UK, the government having devolved this duty to

the RSBs (of which ACCA Is one) This may not

Statutory requirements necessarily be the case in other counties

Rights and duties conjunction with the topics contained in Chapter 4 on

professional ethics and appointment

Statutory Audit Rights requirements regulation and duties

statutory audit There are some exemptions, A small entity is any enterprise in which:

(a) There is concentration of ownership/

management in a small number of people, and

one of which is 'small companies

There has been a debate in the UK whether small (b) Be he, ee :

onetitutes shoul have an audit and what unsophisticated record keeping/limited internal

It is anticipated that in the future, the turnover limit override them

for exemptions could rise in the EC.

The statutory opinion

The auditors give an opinion as = Proper accounting records have been kept and proper returns

to whether the FS are true and adequate for the audit received from branches not visited

fair, or present fairly = The accounts are in agreement with the accounting records

This is generally taken to mean and returns

that accounts: = All information and explanations have been received as the

auditors think necessary and they have had access at all times to

= Are free from bias = Details of directors’ emoluments and other benefits have been

correctly disclosed in the FS

= Particulars of loans and other transactions in favour of directors and others have been correctly disclosed in the FS

= The information given in the directors’ report is consistent with

the accounts

= Reflect the commercial

substance of the business's

UK

Various associations exist, such as ACCA/CIMA,

Stringent entry requirements/codes of ethics

France

There are two distinct organisations (accountants/

auditors), most members of the auditor one are also

members of the more important accountant one

Germany

The main body is the Institut der Wirtschaftprufer

Auditing standards tied closely to legislation

USA

The body is the American Institute of Certified Public

Accountants It is an independent body The

profession effectively regulates itself, as in the UK

Statutory Audit Rights requirements regulation and duties

Eligibility

This is likely to be directed by national law It should ensure that audits are only done by people with suitable qualifications and experience

There should also be supervision and monitoring

of auditors by the national regulatory body Inspection

would depend on various factors, such as the size of firm and the number of audits carried out

The regulatory body should expect to see

commitment to technical excellence and ethics.

In the UK, the Companies Act 1985 provides the auditors with statutory rights, as well:

= A right of access at all times to the books, accounts and voucers of the company

# A right to require from the company’s officers such information and explanations as they think

necessary for the performance of their duties as auditors

=# Aright to attend any general meetings of the company and to receive al notices of and

communications relating to such meetincs which any member of the company is entited to receive

= A right to be heard at general meetings which they attend on any part of the business that concerns

them as auditors

= A right to receive a copy of any written resolution proposed

# A right to give notice in writing requiring that a general meeting be held for the puroose of laying the

accounts and reports before the company (if elective resolution dispensing with laying of accounts in

3: Regulatory environment and corporate governance

This chapter sets out the scope and authonty of International Standards on Auditing

It also discusses the importance of good corporate

International standards on auditing governance within a company and the aims and

objectives of audit committees

Corporate governance

Audit committees

Codes of best practice

Internal control effectiveness

IFAC co-operates with member bodies from

around the world to initiate, co-ordinate and

guide efforts to achieve internationa technical,

ethical and educational pronouncerrents for the

accountancy orofession Members of IFAC

automatically become members of the

international accounting standards kody

IFAC’s International Auditing and Assurance

Standards Board (IAASB) also issues

auditing standards and practice statements

Authority of ISAs

# Contain - Basic principles and essential

procedures (identified in bold type black lettering)

— Explanatory and other material

Basic principles and essential srocedures are

interpreted in the context of the explanatory and

other material

# tis necessary to consider the whole text of the

ISA (not just black bettering)

# In essential circumstances departure from ISAs

may be required to achieve audit objectives

= Need only be applied to materal matters

Page 15

International Auditing Practice Statements

(IAPS) are issued to provide practical assistance to auditors in implementing ISAs or to promote good practice

A list of examinable documents for your sitting

is available on the ACCA’s website

3: Regulatory environment and corporate governance

Internal control effectiveness

Intemational standards Corporate Audit committees Codes of best

The problem of corporate governance

The problem of corporate governance arises because often in

itors

company report to the owners Other people use that report to

draw conclusions about the company

This ‘report’ (the financial statements) is audited by auditors,

who report on ite truth and fairness Financial statements

Other users

= Increased confidence in credibility of reporting

= Frees executive directors to manage "

= Reporting lines for internal audit/impartia link for

Audit

Creates culture opposed to traud

Selecting suitable independent non-executive directors can be difficult

Formaity may dissuade reporting on

judgemental issues

Liaison with external auditors

# Determine scope o’ external

audit

Forum to link directore/auditors

= Deal with auditors’ reservations

Obtain information ‘or auditors

Page 17

| [—— Review of internal audit

——> Review of internal controls

| + Special investigations

3: Regulatory environment and corporate governance

Codes of Best Practice for corporate governance are increasingly common worldwide The F8 exam focuses on

some UK cuidance, the Combined Code This was revised in June 2006

The Combined Code contains clements of the

Cadbury Code as it brings together

recommendations of various committees It has

been adapted by the UK Listing Authority and is

therefore primarily relevant to listed companes

although considered best practice for all companies

It is voluntary although listed companies must

report on non-compliance

Ì¿A0A328:80800i1 oceania

Voluntary codes

Advantages

= Can be applied flexibly

= Smaller entities can pick and choose

= Does not create ‘burden o° requirement’

Some non-execs to be independent =

Rigorous'transparent nomination process

Directors to submit for re-election

the last five years?

Has, or has had, a material business

relationship with the company in the last three

years?

Receives, or has received, additional remuneration from the company (including share options and pensions)?

Has close family ties with directors?

Has significant links with other directors?

Represents a significant shareholder?

Has served on the Board > 9 years?

3: Regulatory environment and corporate governance

Internal controls and risk management are very important

in fulfiling directors’ duties to the shareholders, which are:

To safeguard the assets

# To prevent and detect fraud

wg

Therefore they:

= Setup a system of internal control

= Review its effectiveness

= Consider the need for internal audit

Audit commitees Codes of best Intemal control

= What do the fundamental principles say?

=» What does the detailed guidance say?

= What does my common sense/practical experience fell me?

Remember that ethics could be examined in conjunction

with Chapter 2 The examiner will focus on areas of risk.

Code of Ethlcs Independence Corfidentiality Areas of Appointment Engagement

Code of Ethics and Conduct

This lays cut ACCA's rules stating the ethics and behaviour required by all members and students of the ACCA

Guidance ss in the form of fundamental principles (see below), specific guidance and explanatory nctes

Integrity Members should ke straightforward and honest in all business and professional relationships

Objectivity Members should rot allow bias, conflicts of interest or undue influence cf others to override professional or

busiress judgements

Professional Members have a continuing duty to maintain professional knowledge and skill at a level required to ensure that

competence a client or employer receives conpetent professional service based on current develooments in practice,

and due care legislation and teciniques Members should ect diligently and in accordence with applicable technical and

professional standards when providing professional service

Confidentiality | Memzers should respect the con‘identiality of information acquired as a result of professional and business

relationships and srould not disclose any such information to third parties without proper or specific authority or unless there is a legal or professional right or city to disclose Confidential information acquired as a result of

professional and business relationships should not be used for the persond advantage o’ members or third parties

Professional Members should comply with re evant laws and regulations and should avoid any action that discredits the behaviour profession

Code of Bhics lhdependence Contidentiality Areas of Appointment Engagement `

Integrity, objectivity and independence

A member's objectivity must be beyond question ii he/she is to report as an auditor That can only be

assured if the member is, and is seen to be, independent

Risks

The ACCA provides specific guidance on:

# Undue dependence on an audit client Total = Associate firms: influences outside the practice

recurnng fees allowed as % of gross practice = Family and other close personal relationships

= Beneficial interest in shares or other investments

— «10% for public interest companies = Voting on audit eppoiniment

= Loans to and from clients

Safeguards against loss of objectivity

= Quality control procedures

= (To auditor) Independent liaison between exec

directors and themse

= (To company) Can help give increased contidence in transparency of reporting

The professional duty of confidentiality

Information gained from professional work should

not be disclosed unless:

= There is a public duty to disclose, or

= A legal/professional right/duty to disclose

L A member should not use (or

appear to use) information for his own or some other's benefit

Exceptions to the prohibition on di

Member knows or suspects that client is involved in treason, drug

trafficking or terrorist

offences Under ISA 250 when non-compliance vith laws

and regulations causes

Disclosure is reasonably necessary to protect the member's interests Disclosure is compelled

by process of law (say

in an action where member must give

evidence)

There is a public duty to disclose

Some government bodies have statutory powers to compel disclosure

4: Professional ethics

Code of Ethics Independence Confidentiality

and Conduct Appointment ethics Engagement letters

Areas of controversy include:

= Multiple services

Problems can be overcome by using different teams of staff and ensuring that the engagement letter

identifies other work separately

= Opinion shopping

Where a client seeks a second opinion from other auditors, there is a professional duty for the other auditor

to seek permission to communicate with the first auditors

= Conflict of interest

Can be avoided by using ‘Chinese walls’, making full disclosure or not accepting the appointment

Code of Ethics Independence Confidentiality Areas of Appolntment Engagement

Before acceptance

Consider whether disqualified on legal or ethical grounds

——# Consider available time, staff and technical expertise

Make independent enquiries if directors not personally known

Enquire whether there are reasons/circumstances behind the change which the new auditors ought to know, also courtesy

professonal rules - the

auditors can make own

Prospective auditors

should decline appontment F©— tìo

Give old auditors due

noties than dada an

basis of knowledge

obtained otherwise

Advertising, publicity and obtaining

professional work

= Should not obtain or seek work in an

unprofessional manner

= Can advertise, but should have regard to

relevant advertising codes/standards

= Should not make disparaging references

to/comparisons with the work of others

= Should not quote fees without great care not to

mislead

" Should not offer fees, commission or reward to

third parties for introducing clients

lt can be an independence threat as such a fee is less

than the work is worth However, audit does have a fluctuating market price and firms can reduce fees

Client screening

As part of the tendering process, audit firms should

assess the potential client, to see whether they want

to be engaged by them Some firms will use checklists

of standard questions to come to this conclusion

4: Professional ethics

Code of Ethics Independence Confidentiality Areas of Appointment Engagement

Factors for consideration in client screening

Lack of FD

Significant relatec party/

unusual transactions

Prudent accounting Competent directors

No unusual transactions

= Risk

= Relationships = Poor performances Good prospects

= Ability to perform the work = Lack cf finance Wellfinanced

= Engagement economics = Odd accounting Strorg controls

Sources of information about new clients

Enquiries of other sources (bankers, solicitors)

Review of documents (most recent annual accounts, listing particulars, credit rating)

Previous auditors (previous auditors should disclose fully all relevant information)

Review of rules/standards (consder specific laws/standards that relate to industry)

Code of Ethics Independence Confidentiality Areas of Appointmert Engagement

Guidance on engagement letters is given in ISA 210

Terms of audit engagements It applies to audit

s Define tie extent of auditors’

responsibilities to prevent any misunderstanding

The auditor and the client should agree or the terms of = Provide written evidence of the

« Be sentto the directors prior to the

commencement of the first audit

# Identify any reports the auditor will produce in addition to the audit report

In recurring audits, ‘he auditors should consider whether = Be sentto the board of directors or the

client of the existinc terms of the engagement # Be updated for any changes in the

nature cf the engagement

Internal audit is an important control function in an

organisation and an example of good corporate

governance This chapter looks at the best practice recommendations of the Combined Code in relation to

the intemal audit function, as well as contrasting the

rules of internal and external audit

We also look at the types of assignment carried out by internal audit and the aavantages and disadvantages of ou'sourcing the internal audit function

International codes on corporate governance

The UK Combined Coce, as an example of an internationa code on ccrporate governance, recommends tat the

audit committee of a company should:

= Monitor and review effectiveness of internal audit activities

= = If thera is no internal function, consider annually whether there is 1eed for one

= If there is no internal audit furction, explain this abserce in the arnual report

Distinction between internal and external audit

company Internal | An activity Internal audit's | Internal auditors are | Internal audit | Prevention and detection of

designed to work relates to | often employees of | reports to fraud is management's

add value and | the operations of | the organisation, senior responsibility But internal improve an the organisation | although sometimes | management | auditors should be alert to organisations the internal audit and audit risks and exposures that operations function is committee | could allow fraud as they are

outsourced involved in risk management External | An exercise to | External audit's | External auditors are | Audit report | Prevention and detection of

enable auditors | work relates to |independentofthe | addressed to | fraud is managements

to express an | the financial company and its the responsibility

opinion onthe | statements They | management They | shareholders

financial are concerned _| are appointed by the

statements with the financial | shareholders

Intermal audit Internal audit Outsourcing

assignments

Value for money audit is an assignment which internal audit can undertake on

behalf of management in its monitoring role

It can be carried out on any area of the business at the request of management (eg, service delivery, management process, environment)

Internal audit car monitor best value to ensure that the authority has systems

in plece to achieve best value Internal audit will also be involved in setting up best value because a good understanding of current systems is needed

Information technology audits

Information technology is ar increasingly important area of business Internal

audil can monitor and test controls in the following areas:

Database

- Systam dave opmant

Approaching operational audit assignments

There are two aspects of an operational assignment:

= Ensure policies are adequate

Ensure policies work effectively

Obtain written copies of the policies in the area to be audited

Read them and assess whether they are adequate to meet objectives

Discuss the policies with members of the department to ensure understanding is correct

Examine the effectiveness of controls by observing them in operation and testing them (by similar

methods to those considered in Chapters 9 — 10)

Report to management on adequacy and effectiveness, g ving suggestions for improvement in both areas where required