Auditing Chapter 2: Professional Standards

1. Three Sets of Auditing Standards

a. AICPA (Auditing Standards Board) for nonpublic companies in US.
b. PCAOB for public companies in US
c. International Auditing Standards with differing levels of authority
in the various countries
2. Authority of Organizations
a. Public Company Accounting Oversight Board
i. Auditing, Attestation, Quality Control, Independence, Ethical
Standards for audits of public companies
ii. Registers and regulates auditors of public companies
b. American Institute of Certified Public Accountants
i. Auditing, Attestation, Quality Control, Independence, Ethical,
Accounting and Review Standards for engagements involving
nonpublic companies
ii. Coordinates peer review programs for firms nonpublic attest
practice
c. State Boards of Accountancy
i. License CPAs and CPA firms to practice in their jurisdictions
3. Principles Underling a GAAS Audit
a. Purpose of an audit
b. Premise of an audit
c. Personal responsibilities of the auditor
d. Auditor actions in performing the audit
e. Reporting the results of an audit

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4. Purpose of an audit—Provide an opinion that financial statements are in
accordance with the applicable financial reporting framework.
a. In the U.S. the framework is ordinarily GAAP.
b. The applicable framework corresponds to the “suitable criteria” of an
attest engagement.
5. Premise of an audit—Management (and those charged with governance)
have responsibility to:
a. Prepare financial statements in accordance with applicable financial
reporting framework.
b. Provide auditors with needed information and unrestricted access to
those in the entity.
6. Personal responsibility 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.
a. Professional skepticism—A questioning mind and a critical
assessment of audit evidence.
7. Auditor actions in performing the audit
a. Obtain reasonable assurance about whether financial statements are
free from material error or fraud.
b. The auditor is unable to provide absolute assurance due to:
i. Nature of financial reporting.
ii. Nature of audit procedures.
iii. Need to conduct audit within a reasonable period of time.
8. Reporting the results of an audit—Express in a written report an opinion
on findings (or statement that opinion cannot be expressed).

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 a. The opinion is on whether the financial statements are in accordance,
in all material respects, with the applicable financial reporting
framework.
9. Auditor Responsibility for the Detection of Errors and Fraud (1/2)
a. Obtain information to assess inherent risks and fraud risks
i. Information about the company and its environment
ii. Discussion among audit team members
iii. Inquiries of management and others
iv. Risk assessment analytical procedures, including those
involving revenue
b. Assess the risk of errors and fraud that may cause the financial
statements to contain a material misstatement.
10. Auditor Responsibility for the Detection of Errors and Fraud (2/2)
a. Based on that assessment, plan and perform the audit to obtain
reasonable assurance that material misstatements, whether caused by
errors or fraud, will be detected.
b. Exercise due care in planning, performing and evaluating the results
of audit procedures, and the proper degree of professional skepticism
to achieve reasonable assurance that material misstatements due to
error or fraud will be detected.
11. Auditor Responsibility for Identifying Noncompliance with Laws and
Regulations
a. Noncompliance with laws and regulations 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 and regulations.

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 b. Other Laws and regulations (no direct effect on financial statement
amounts):
i. Specific procedures:
1. Inquire of management as to compliance
2. Inspect correspondence with licensing or regulatory
authorities
ii. Be aware of possible noncompliance.
iii. If information comes to the auditor’s attention, apply audit
procedures directed at determining whether noncompliance has
occurred. An audit does not provide assurance that
noncompliance with these laws will be detected.
12. Auditors’ Standard Report – Public Clients
a. Includes the words “Registered” and “Independent” in the title.
b. Must be addressed to shareholders and board of directors (additional
parties are allowable).
c. References auditing standards of the PCAOB.
d. Provides a discussion of auditor and management responsibilities.
e. Includes a paragraph indicating that the auditors have also issued a
report on the client’s internal control over financial reporting, or is a
combined report on both the financial statements and internal control.
f. Includes a Critical Audit Matters Section.
g. Includes statement on year audit firm began serving the client.
h. Signed with name of CPA firm not individual partner
i. Includes the City of the office with responsibility for the audit
j. Dated no earlier than the date on which the auditors obtained
sufficient appropriate audit evidence to support their opinion

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13. Auditors’ Standard Report – Nonpublic Clients
a. Title that includes the word independent
b. Ordinarily addressed to the company itself, the shareholders, the audit
committee and/or the board of directors
c. Signed with name of CPA firm not individual partner unless the firm
is a sole practitioner
d. Dated no earlier than the date on which the auditors obtained
sufficient appropriate audit evidence to support their opinion
14. Other Types of Auditors’ Reports
a. Standard unmodified report (unqualified per PCAOB standards)
i. Financial statements follow GAAP and auditor does not add
additional commentary for any issue
b. Other reports
i. Unmodified with emphasis of matter (or other emphasis)
1. Example: A lack of consistency in application of
accounting principles
ii. Qualified opinion
1. Scope limitation or departure from GAAP
iii. Adverse opinion
1. Departure from GAAP so significant that financial
statements as a whole are misleading
iv. Disclaimer of opinion
1. Unable to arrive at an opinion due to a very significant
scope limitation

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15. Elements of Quality Control
a. Leadership responsibilities for quality within the firm (“tone at the
top”)
b. Relevant ethical requirements
c. Acceptance and continuance of clients and engagements
d. Human Resources
e. Engagement performance
f. Monitoring
16. QC Element 1: Leadership responsibilities for quality within the firm
a. Firm’s internal culture recognizes that quality is essential in
performing engagements and recognizes the need to:
i. Perform work that complies with professional standards and
regulatory and legal requirements, and
ii. Issue reports that are appropriate in the circumstances.
b. Firm provides reasonable assurance that those assigned responsibility
for quality control have sufficient and appropriate experience, ability,
and authority.
c. Example: Assign management responsibilities so that commercial
considerations do not override the quality of work performed.
17. QC Element 2: Relevant ethical requirements
a. Firm and its personnel comply with relevant ethical requirements.
b. Example: At least annually, the firm should obtain written
confirmation of compliance with its independence policies and
procedures from all firm personnel who are required to be
independent.

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18. QC Element 3: Acceptance and Continuance
a. Firm will undertake to accept and continue relationships and
engagements only where the firm:
i. Is competent to perform the engagement.
ii. Can comply with legal and ethical requirements.
iii. Has considered client integrity.
b. Example: Background information is gathered on all prospective audit
clients, including the attitude of principal owners, key management,
and those charged with governance on matters such as aggressive
accounting and internal control over financial reporting.
19. QC Element 4: Human Resources
a. Firm has personnel with the capabilities, competence, and
commitment to ethical principles to:
i. Perform engagements in accordance with professional standards
and regulatory and legal requirements.
ii. Enable the firm to issue reports that are appropriate in the
circumstances.
b. Example: Design effective recruitment processes and procedures to
help the firm select individuals meeting minimum academic
requirements established by the firm, and maturity, integrity, and
leadership.
20. QC Element 5: Engagement Performance
a. Firm’s engagements are consistently performed in accordance with
professional standards and regulatory and legal requirements, with
policies and procedures addressing:
i. Engagement performance.
ii. Supervision responsibilities.
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 iii. Review responsibilities.
b. Example: Design policies and procedures that address the tracking of
progress of each engagement.
21. QC Element 6: Monitoring
a. Firm’s policies and procedures established to help ensure that the
policies and procedures for the other elements are suitably designed
and effectively applied.
b. Example: Communicate, at least annually, the results of monitoring to
engagement partners and other appropriate individuals within the
firm.
22. Quality Control Procedures
a. Depend on size of firm, number of offices and nature of firm’s
practices.
b. Every CPA firm should have quality control procedures applicable to
every aspect of its practice.
c. Establish controls to provide assurance that the CPA firm meets its
responsibilities to clients and public.
23. Regulation of the Public Accounting Profession
a. Public Companies
i. Public Company Accounting Oversight Board
1. Registration of public accounting firms that audit public
companies
2. Establish or adopt auditing, quality control, ethics,
independence standards relating to audit reports for
public companies.
3. Conduct inspections of public company practice of
registered public accounting firms
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 b. Nonpublic Companies
i. AICPA & State Boards of Accountancy
1. Peer review for nonpublic practice segments of all CPA
firms
24. PCAOB
a. Composed of 5 members – only two may be CPAs
b. Members appointed by SEC and may serve no more than two five-
year terms
c. All accounting firms that audit SEC registrants must register with
PCAOB
i. Pledge to cooperate with PCAOB inquiries
ii. PCAOB can impose monetary damages, suspend firms, or
make referrals to Justice Department
25. Peer Reviews
a. Members of AICPA
b. Conducted by CPAs or other CPA firms
c. Two types of peer reviews
i. System review
1. Study of CPA firms’ system of quality control
2. Select sample of firms’ engagements and examine related
working paper files
ii. Engagement review
1. Sample of CPA work including reports to evaluate
appropriateness
2. Less in scope than system review
iii. Report: pass, pass with deficiencies, or fail

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26. PCAOB Inspections
a. Conducted by PCAOB staff
b. Focus
i. Primarily evaluating performance of sample of individual audit
and review engagements; a risk-based approach to selection
engagements.
ii. Selected quality control and management issues only. This
differs from a peer review.
c. Report
i. Written report to SEC, part of which is made public
27. International Accounting Standards
a. International Financial Reporting Standards (IFRS)
i. Developed by International Accounting Standards Board
(IASB)
ii. SEC accepts IFRS for foreign companies that issue securities in
US markets
28. International Audit Report
a. Organized similar to the PCAOB audit report
b. May state “present fairly, in all material respects” or “give a true and
fair view”
c. Report may also indicate that the financial statements comply with the
provisions of the country’s relevant statutes or laws
d. Requires disclosure of Key Audit Matters for listed companies; Key
Audit Matters are virtually equivalent to Critical Audit Issues required
in PCAOB audits
e. May be signed using the personal name of the auditor or the audit
firm, or both
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