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Chapter “1”

“The Demand for Audit & Other Assurance”

1]] Auditing: Is the process of accumulating and evaluating audit evidence about financial
information.

1) It should be done by a competent independent person.

2) To do an audit there must be information in a verifiable form and some standards.

Accounting: is the process of analyzing, recording, classifying and summarizing financial

transactions in a logical manner and in the light of generally accepted accounting
principles (GAAP).

1) Done by accountants inside the company starting from journalizing until preparing the
financial statements.

2]] Types of Audits:

1) Operational Audit: is a review of operating procedures & methods to evaluate

efficiency & effectiveness and providing recommendations to management for
improving operations.
2) Compliance Audit: Determining whether the company follows specific rules set by
the government or by higher authorities such as tax law.
3) Financial Statements Audit: To determine whether the financial statements are
prepared in conformity with GAAP.
a) The income statement.
b) The balance sheet.
c) The retained earnings statement.
d) The cash flow statement.

3]] Types of Auditors:

1) External Auditors: working in certified public accounting firms they audit private
sector firms.
2) Internal Auditors: are selected by management to check day by day operations they
follow management and help in decision making.
3) Governmental Auditors: They audit governmental and public sector units and
follow a supreme Audit institution.
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Chapter “2”
1) The organizational hierarchy in a CPA firm includes the following positions:
1) Partners or shareholders 4) supervisors.
2) Managers 5) Seniors
3) Assistants.

2) Generally accepted Auditing standards (GAAS):

Auditing standards are general guidelines to aid auditors in fulfilling their
responsibilities in the audit.
a) General standards: Stress the important personal qualities that auditor should
process:
1) Adequate technical training & proficiency.
2) Independence in mental attitude.
3) Due professional care.
b) Standards of field work: Concern evidence accumulation and other activities
during the actual conduct of the audit:
1) Adequate planning & supervision.
2) Understanding the client’s international control.
3) Sufficient competent evidence.
c) Reporting standards:
1) The audit report is prepared on the financial statement.
2) Including informative disclosures.
3) Stating whether the statements are prepared in accordance with GAAP.
4) Identifying any circumstances in which GAAP have not been applied in
the current year compared with the previous year.
These standards are used for private companies or audits.
3) Quality Control standards and practices:
a) There are elements of quality control that firms should consider in setting up
their own policies.
1) Independence, integrity & objectivity.
2) Personal management.
3) Acceptance and continuation of clients and engagements.
4) Engagement performance.
5) Monitoring.
b) Peer Review: It is done to determine and report whether the CPA firm being
reviewed has developed adequate policies for the 5 elements of quality control
and follows then in practice.
1) The CPA firm must be reviewed at least once every 3 years
2) CPA firm been reviewed benefit more from peer review.
3) They improve their practice, enhance their reputation and effectiveness
and reduce the likelihood of lawsuits.
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4) Activities provided by CPA firm?

CPA firms provide audit services besides additional services as:

1. Attestation services: audits of historical financial statements-reviews-other

attestation services

2. Accounting & bookkeeping services.

3. Tax services.

4. Management consulting services.

Chapter: ‘3’

1) Standard unqualified audit report:

To enable users to understand the language of audit reports, GAAS made uniform wording
for the auditor’s report called “a clean opinion”, its common.
There are 7 parts or elements of the auditor’s standard unqualified audit report:

1) Report title: to tell users that the audit was unbiased in all aspects.
2) Audit report address: it’s addressed to the board of directors & stockholders.
3) Introductory paragraph includes 3 things:
1. The CPA firm has done an audit.
2. Listing the financial statements that were audited.
3. Stating that the statements are the responsibility of management and
auditor’s responsibility is to express an opinion on the statements based on
an audit.
4) Scope paragraph:
1. Statements that the audit is designed to obtain reasonable assurance about
whether the statements are free of material misstatements.
2. About what the auditor did in the audit and that he followed GAAS or
PCAOB.
3. Financial statements are prepared in accordance with GAAP and audited in
accordance with GAAS.
5) Opinion paragraph: It’s just an opinion not a guarantee because there may be
information risk in spite of auditing the statements and the auditor states his
opinion about the financial statements as a whole and whether the company
followed.
6) Name of CPA firm: who is performed the audit & who is responsible for this audit
legally and professionally.
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7) Audit report date:

1. The last date in completing the audit process.
2. It indicates the auditor’s responsibility for reviewing significant events that
occurred between the date of financial statements and the date of report.

2) Five Conditions for standard unqualified report must be considered:

1) All 4 statements are included in the financial statements.
2) The 3 general standards have been followed.
3) The 3 field work standards have been followed especially accumulating sufficient
evidence.
4) The financial statements follow GAAP with adequate disclosure.
5) No circumstances require adding explanatory paragraph or modifying report
wording.
3) Give examples of changes that affect consistency and require an explanatory paragraph
if they are material:
1) Changes in accounting principles such as change from FIFO & LIFO inventory.
2) Changes in reporting entities.
3) Corrections of errors.
4) The 3 levels of materiality:
1) Amounts are immaterial and don’t affect the decisions of reasonable users: Issuing
unqualified opinion because the amounts are small.
2) Amounts are material but don’t overshadow the financial statements as a whole that
affects the user’s decision but the overall statements still fairly stated and useful:
issuing a qualified opinion using: except for…..
3) Amounts are so material that overall fairness the statements is in question users
make incorrect decisions: issuing an adverse or disclaimer opinion.
5) Types of audit reports:

1) Standard unqualified audit report: issued in case of everything is okay. Financial

statements are fairly stated in accordance with GAAP.
2) Unqualified audit report with explanatory paragraph or modified wording: issued
in case of financial statements are fairly presented but the auditor wants to provide
additional information.
3) Qualified opinion: issued in case of financial statements are fairly stated but 2 things
wrong:
a) Limitations on audit scope.
b) Failure to follow GAAP.
4) Adverse opinion: issued when financial statements are so materially misstated or
misleading as a whole. They don’t present fairly the financial position or the result
of operations
5) Disclaimer opinion: Issued in 3 cases:
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a) The auditor is unable to satisfy himself that the overall financial statements
are fairly presented.
b) The auditor isn’t independent. C) Going concern problems.
Chapter ‘5’
1) The major factors creating legal liability for CPAs:

1) The growing awareness of the responsibilities of public accountants by users.

2) The increased consciousness of the society for protecting investor’s interests.
3) Accounting & Auditing are more complex because of the increasing size of business
and globalization.
4) Society accepts lawsuits by injured parties against anyone who might be able to
provide compensation regardless of who was at fault.
5) Large civil court judgments against CPA firms encouraged attorneys to provide
legal services.
6) Many CPA firms are willing to settle their legal problems out of court to avoid
costly legal fees.
7) Courts have difficulties to understand and interpret technical accounting& auditing
matters.

2) Examples of common actions taken by practicing auditors to minimize their liability:

1) Deal only with clients possessing integrity.

2) Hire qualified personal & train and supervise them properly.
3) Follow the standards of the profession.
4) Maintain independence.
5) Understand the client’s business.
6) Perform quality audits.
7) Document the work properly.
8) Obtain an engagement letter and a representation letter.
9) Maintain confidential relations.
10) Carry adequate insurance.
11) Seek legal counsel.
12) Choose a form of organization with limited liability.
13) Exercise professional skepticism.

3) There is expectation gab between auditors and users:

1) Auditors: believe that the conduct of the audit in accordance with auditing
standards is all that can be expected of auditors
2) Users: believe that auditors guarantee the accuracy of financial statements.
3) This expectation gab results in unwarranted lawsuits. So, the profession must
educate statement users about the role of auditors and the different among:
Business failure, Audit failure, Audit risk.
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4) The CPA is responsible for every aspect of his public accounting work including:
1) Auditing.
2) Taxes.
3) Management Advisory Services.
4) Accounting and Book keeping Services.
5) The main sources of auditor’s legal liability:
1) Liability to clients.
2) Liability to third parties.
3) Criminal liability.
4) Constitutional liability.
a) Liability to clients:
1) It is the common source of lawsuits against CPA, for failure to discover fraud.
2) CPA firms and clients sign engagement letters to formalize their agreements
about the services to be provided, fees and timing.
3) The CPA firms uses one or a combination of 4 defenses when there are legal
claims by client, like:
1) The client wants a review service, not an audit.
2) Non negligence performance in an audit.
3) Contributory negligence between auditor and client.
4) Absence of casual connection.
b) Liability to third parties:
1) Such as stockholders, bankers, creditors, employees and customer who make losses
because of misleading financial statements.
 These are two types of users:
The foreseen: A member of a limited class of users whom the auditor is aware will rely on
the financial statements.
The Foreseeable: An unlimited class of users that the auditor should have reasonably been
able to foresee as being likely users of financial statements
There are 3 defenses available to auditors in suits by third parties:
a) The client wanted a review not an audit.
b) Non negligence performance.
c) Absence of casual connection.
Non negligence performance:
1) It is a preferred defense in 3rd party suits.
2) If the auditors conducted the audit in accordance with GAAS, the other defenses are
unnecessary.
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Civil liability:
1) To clients to 3rd parties
2) To compensate those on the losses they suffered because of the auditor’s failure in
his audit.
This liability requires 3 conditions:
a) Auditor’s mistakes.
b) Injury to the users.
c) A relationship between auditor’s mistakes and client injury.

c) Criminal liability:
CPA can be found guilty for criminal actions such as the destruction and alteration of
documents related to its audit.
d) Constitutional liability :
The auditor is responsible to the accounting association as a member of that association for
any illegal actions in the profession to be punished professionally.
6) RULE: Audit risk model:

PDR= AAR / IR * CR

PDR = Planned detection risk

AAR= accept audit risk

IR= inherent risk

CR= control risk

After that you should make the result time hundred and make it as a %.

Chapter 7

1) Define evidence:

Any information used by the auditor to determine whether the information being
audited is stated in accordance with the established criteria evidence.

Evidence is not unique to auditors but it is also used by others such as scientist ,
lawyers and historians.
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2) The auditor’s decision:

*On evidence accumulation can be broken down into the following 4 sub
decisions:
1) Which audit procedures to use?
2) What sample size to select for a given procedure.
3) Which items to select from population?
4) When to perform the procedures.

3) What is audit procedure?

Collection of a type of audit evidence that is to be obtained at sometime during the

audit. For example:

The following is an audit procedure for the verification of cash disbursements:

1) Obtain the cash disbursements journal and compare the payee name, amount,
and date on the cancelled check with the cash disbursements journal.
2) Audit procedures are listed in an audit program which includes sample size,
items to select and the timing of the tests.

4) What are the conditions of audit evidence to support the opinion issued?

Competence of evidence- and – sufficiency of evidence

Competence of evidence:

Means the degree to which evidence can be considered believable or worthy of trust
reliability of evidence.

There are 7 characteristics:

1) Relevance.
2) Independence of provider.
3) Effectiveness of client’s internal controls.
4) Auditor’s direct knowledge.
5) Qualifications of individuals providing the information.
6) Degree of objectivity.
7) Timelines.
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Sufficiency of evidence:

Means the quantity of evidence obtained. It is measured by the sample size selected
by the auditor to factors determine the appropriate sample size.

1) The auditor’s expectation of misstatement

2) The effectiveness of client’s internal control
Sample size also is affected by:
1) Items with large values.
2) Items with likelihood of misstatement.
3) Non representative samples of items.

5) What are the main types of evidence notice?

1) Physical examination: means the inspection or count by the

auditors of tangible assets such as: inventory and cash.
2) Confirmation: means receipts of written or oral response from an
independent third party.
3) Documentation: these are external and internal documents.
4) Analytical procedures: comparisons and relationships to check
data
5) Inquiries: obtaining written or oral information from the client in
response to auditor’s questions. This evidence is not enough and
needs to be supported by other evidence.
6) Re performance: rechecking a sample of the computations and
transfers of information.
7) Observation: using the senses to assess certain activities
including: sight – hearing-smelling – touching – watching
employees.

6) What is means by audit documentation?

It is the principal record of auditing procedures applied, evidence obtained and

conclusions.

The information collected is put in audit files of 2 kinds:

1) Permanent file - 2) current file.

7) What are the major types supporting schedules?

1) Analysis. - 2) Tests of reasonableness. - 3) Informational. – 4) outside

documentation. 5) Reconciliation of amount. - 6) Summary of procedures. – 7) Trial
balance or list. 8) Examination of supporting documents.