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Chapter 4: Quality and standards of assurance engagements

Chapter 4: Quality and standards of assurance engagements

Review questions

4.11 Discuss why auditors and accountants are engaged in assurance


engagements other than financial statement audits.

Auditors and accountants are sometimes called upon to provide assurance on various
types of financial and non-financial information that are produced for a particular
purpose or for a segment of stakeholders. This is the case because auditors and
accountants possess the expertise and credibility to undertake an independent
engagement and to perform tests and analysis in order to provide a required level of
assurance in relation to these reports. For example, special purpose financial reports
are produced for a particular purpose and involve financial analysis that is not
typically required in a general purpose financial report. In many instances, special
purpose financial reports are required to be audited, e.g., prospectuses.

Other assurance engagements can involve non-historical financial data, a segment of


the financial statement only, reports on compliance of contractual arrangements,
reports on summarised financial reports, interim financial reports, etc. Moreover,
there are reports such as sustainability reports, and investigative reports such as
forensic audit engagements. Most of these reports involve accountants / auditors.

4.12 What is meant by reasonable and limited assurance engagements?


Give an example for each type.

Reasonable assurance engagement: aims at reducing risk to an acceptable low level of


risk as a basis for a positive conclusion (high but not absolute level of assurance). A
limited assurance engagement aims at reducing risks to a level that is acceptable in the
circumstances but the risk is greater than for a reasonable assurance engagement, as
the basis for a negative conclusion.

The assurance engagement can consist of an outcome, a set of criteria and a subject
matter, and include all the assurance engagements where ASAs, ASREs and ASAEs
apply. A financial statement audit is a reasonable assurance engagement. A
sustainability assurance engagement based on a certain set of criteria is an example of
limited assurance engagement.

4.14 What is forensic auditing?

Forensic auditing is an investigation by an assurance provider into specific issues such


as fraud or other irregularities. The purpose of the investigation is to gather evidence
in relation to the activities that have led to the alleged fraud or other irregularities
occurring. The processes involve establishing the facts of the case by gathering and
analysing data. The assurance report will include the evidence and the facts of the
case as they appear to the assurance provider with the possibility that this evidence

© John Wiley & Sons Australia, Ltd 2019 4.2


Solutions manual to accompany Audit and assurance 1e by Leung et al.

will be used to support a legal case. It is also likely than any report will include
recommendations to prevent similar problems arising in the future such as
improvements to internal controls.

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Chapter 4: Quality and standards of assurance engagements

4.16 What are the likely factors that lead to fraud?

For the purpose of identifying the type of fraud, the KPMG global profiles of a
fraudster report in 2016 cited a number of ways in which technology was used to
perpetrate frauds, including:
• creating false or misleading information in the accounting records
• providing false or misleading information via email or other messaging
platform
• abusing permissible access computer systems
• obtaining access to computer systems with permission.

Other factors that lead to fraud include:


• poor security of access devices and passwords
• the ease with which valuable products and funds can be moved around the
world
• the breakdown of traditional internal controls which were replaced by poorly
understood systems controls
• the growing acceptance of a certain level of fraud in doing business
• poor internal control and internal checking procedures
• poor organisational culture e.g. Bottom line incentives
• poor recruitment procedures leading to hiring the wrong type of staff members
• poor governance framework.

4.17 What is meant by the three Es in a performance audit?

The three Es are Economy, Efficiency and Effectiveness:

Economy relates to reducing cost without reducing quality, an organisation should


attempt to reduce the costs of the processes it undertakes.

Efficiency relates to getting the best use out of resources. Using resources more
efficiently can lead to reducing resources used without reducing outputs or increasing
outputs for the same resources input.

Effectiveness is about achieving objectives, this may be about maximising output or


profitability however many organisations have a wide range of objectives to be met
only some of which might be financial.

Improvements in the three Es improve the performance of processes and organisations


should set performance measures to firstly understand how they are currently
performing but also to improve performance.

© John Wiley & Sons Australia, Ltd 2019 4.4


Solutions manual to accompany Audit and assurance 1e by Leung et al.

© John Wiley & Sons Australia, Ltd 2019 4.5


Chapter 4: Quality and standards of assurance engagements

Professional application questions

 BASIC |  MODERATE |  CHALLENGING

4.21 Compilation, review or audit 


You have been approached by a client who is not sure of the requirements with
regard to financial reporting. Your client understands that there are
compilations, reviews and audits but is not aware of the differences between
them.
Required
Prepare notes for a meeting with your client that discuss the
differences between a compilation, a review and an audit. Identify
the different levels of assurance that will be given and what form
that opinion will take. You should also give briefs notes about the
kind of procedures that would be involved in each engagement.

Compilation

Level of assurance: None

Opinion: There may be a report prepared to accompany the compiled statements


which will state that the information has been compiled from information and
explanations provided, that the work performed does not constitute a review or audit
and that no opinion is given.

Procedures: Compilations involve taking information provided by a client and


summarising and formatting the presentation of the information to meet a particular
need. Examples of compilations include the preparation of a financial report from a
trial balance or other books and records for an organisation or the compilation of a tax
return from information provided.

Review

Level of assurance: Limited Assurance

Opinion: The opinion will state that nothing has come to the practitioner’s attention to
suggest that the subject matter does not comply with the criteria. This is negative form
assurance and gives a lower level of comfort to the user than an audit.

Procedures: Evidence gathered is largely restricted to obtaining representations from


the management team, or other responsible party and carrying out analytical
procedures rather than detailed tests of control and substantive procedures. This level
of work will reduce engagement risk to a level that is appropriate to the engagement.

Audit

Level of assurance: Reasonable Assurance

© John Wiley & Sons Australia, Ltd 2019 4.6


Solutions manual to accompany Audit and assurance 1e by Leung et al.

Opinion: The opinion will state that in all material respects the subject matter
complies with the criteria. This is positive form assurance which clearly states to the
users that the subject matter is free from material error.

Procedures: The auditor will plan the nature, timing and extent of procedures to
provide sufficient and appropriate evidence to ensure that engagement risk is reduced
to an acceptably low level. These procedures include: (1) obtaining an understanding
of the engagement, (2) assessing risk, (3) responding to those assessed risk, (4)
performing procedures such as substantive tests and where necessary tests of the
effectiveness of internal controls, and (5) evaluating the evidence.

4.22 Assertion-based or direct reporting 


There are different categories and different types of assurance engagements:
1. Assertion-based engagements and direct reporting engagements.
2. Absolute, reasonable, limited and no assurance engagements.
3. Positive form assurance and negative form assurance.
4. An audit and a review of a financial report.
5. General purpose financial reports and special purpose financial reports.
6. Prospective financial information and historic financial information.
7. Compliance, performance, forensic and continuous auditing.

Required
For each of the above explain in detail the characteristics of each
item and the extent to which they differ from one another.

(1) Assertion-based engagements and direct reporting


engagements

An assertion-based engagement is one in which the practitioner is expressing an


opinion on assertions made about the subject matter rather than on the subject matter
directly. A direct reporting engagement is one in which the practitioner reports
directly on the subject matter. For example, a financial report provides assertions
about the financial position, performance and cash flows of an organisation (the
subject matter), therefore an audit of a financial report is an assertion-based
engagement. Where an auditor is asked to express an opinion on an organisation’s
internal controls, then this would be a direct reporting engagement (if the auditor was
asked to give an opinion on a report, assertions, about the effectiveness of internal
controls that this would be an assertion-based engagement).

(2) Absolute, reasonable, limited and no assurance engagements

Absolute assurance would be a 100% guarantee of the accuracy of information. This


type of opinion would never be provided due to the inherent limitations in the
procedures performed, for example: samples of a population only are checked,
evidence is persuasive rather than conclusive, judgment will be required for some
issues, difficulty in auditing completeness.

Reasonable assurance provides comfort that the subject matter is not materially
misstated. The level of work performed by the auditor will ensure that the risk of

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Chapter 4: Quality and standards of assurance engagements

giving an incorrect opinion (engagement risk) is reduced to an acceptably low level.


The level of work will include detailed substantive testing and testing of internal
controls where they are being relied upon to provide evidence. Audits provide
reasonable assurance.

Limited assurance gives a lower level of comfort than reasonable assurance.


Procedures are generally restricted to obtaining representations and carrying out
analytical procedures, rather than detailed substantive testing. A review of a financial
report is an example of a limited assurance engagement.

No assurance engagements are those where no opinion is provided a statement of


findings may be provided instead. Compilations also do not include any assurance.

(3) Positive form assurance and negative form assurance

Positive form opinion is a clear statement that the subject matter is or is not in
compliance with appropriate criteria.

Negative form opinion states that nothing has come to the attention to suggest that the
subject matter is not in compliance with the criteria.

(4) An audit and a review of a financial report

An audit reduces engagement risk to an acceptably low level to provide reasonable


assurance with a positive form opinion.

A review reduces engagement risk to a level appropriate to the engagement in order to


provide limited assurance with a negative form opinion.

(5) General purpose financial reports and special purpose


financial reports

General purpose financial reports (GPFR) are those prepared to meet the needs of a
wide range of users, normal annual financial reports are (GPFR).

Special purpose financial reports meet the needs of a specific user for a specific
purpose, for example a bank providing finance to a company might request
information to be provided in a particular way to meet their information needs.

(6) Prospective financial information and historic financial


information

Prospective financial information (PFI) relates to expectations of the future. PFI is in


two forms: (1) forecasts which are best estimates based on assumptions that
management expect to occur, and (2) projections which are hypothetical assumptions
(and therefore less certain than forecasts). By its very nature PFI is uncertain and
therefore assurance will be provided on the reasonableness of the assumptions made
and the method of compiling the information rather than on the likelihood of the
projected outcomes being achieved.

© John Wiley & Sons Australia, Ltd 2019 4.8


Solutions manual to accompany Audit and assurance 1e by Leung et al.

Historical financial information relates to reporting events that have already occurred
and therefore evidence should be readily available to give some comfort as to the
veracity of the information.

(7) Compliance, performance, forensic and continuous auditing

Compliance engagements are those which give some comfort that the processes
carried out in an organisation are in compliance with some regulations, such as
legislation, contractual obligations or internal policies.
Performance engagements are designed to give an opinion on the economy, efficiency
and effectiveness of processes. The idea is to ensure that the organisation is achieving
its objectives, reducing waste and getting value for money.

Forensic engagements investigate the causes and effects fraudulent activities or


system failures that may be the consequences of fraud. A forensic audit may be held
in response to a claim against a company as a result of intentional or unintentional
failures of electronic systems for processing transactions.

Continuous audits allow auditors to provide opinions on information provided by


organisations on a short time frame. There is very little time for evidence gathering so
the auditor will rely on systems based procedures which are fully automated and
integrated IT audit tools.

© John Wiley & Sons Australia, Ltd 2019 4.9

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