Notes on Assurance and External Audit

Overview

• Topic covered: Assurance and its relationship to external audits.
• Key areas: Definition of assurance, external audit, elements of assurance engagement, levels of assurance.

Definition of Assurance

• Assurance: A practitioner evaluates a subject matter (financial statements) of another party (client management) against a criteria to express a conclusion to a user (shareholders).
• Key Terms:
  • Practitioner: External auditor
  • Subject matter: Financial statements
  • Responsible party: Client management
  • Conclusion: Audit opinion
  • Users: Shareholders and other stakeholders

Elements of Assurance Engagement

1. Parties Involved:
   • Practitioner (auditor)
   • Responsible party (management)
   • User (shareholders)
2. Subject Matter: Financial statements
3. Criteria: Applicable financial reporting framework
4. Evidence: Collected through audit procedures
5. Assurance Report: Audit report detailing findings

Levels of Assurance

• Reasonable Assurance: High level of assurance; requires thorough audit procedures and provides a positive opinion.
• Limited Assurance: Moderate level; provides a negative report or opinion.

The Audit Process

Key Steps

1. Acceptance: Evaluating if the audit should be accepted based on various criteria.
2. Engagement: Formalizing the agreement with an engagement letter.
3. Planning: Identifying risks and developing strategies to address them.
4. Control Assessment: Evaluating internal controls and assessing their effectiveness.
5. Testing: Performing substantive tests to identify potential misstatements.
6. Completion and Review: Reviewing all evidence and finalizing the audit report.

Expectation Gap

• Misconceptions about what auditors do, such as detecting all fraud/errors.
• Auditors are responsible for forming an opinion on financial statements, not for preparing them.

Ethical Considerations in Auditing

• Fundamental Principles: Objectivity, Professional Behavior, Competence and Due Care, Integrity, Confidentiality.
• Threats to objectivity include self-interest, self-review, familiarity, advocacy, and intimidation.

Corporate Governance

• Sets guidelines for organizations to operate in shareholders' interests and protect investments.
• Audit committees play a critical role in overseeing financial reporting and liaising with external auditors.

Audit Report

• The audit report summarizes the auditor's opinion on the financial statements, including any modifications or qualifications.
• Types of opinions: Unmodified (clean), qualified (exceptions noted), adverse (not true and fair).

Conclusion

• Assurance and external audits are crucial for the credibility of financial statements and investor confidence.
• Auditors play a vital role in identifying misstatements and providing independent opinions based on thorough evaluations.