Chapter 1

Introduction and overview of

audit assurance
 Learning objectives

After studying this presentation you should be able

to:
1.1 describe an assurance engagement
1.2 discriminate between different types of
assurance services
1.3 discriminate between different levels of
assurance
1.4 categorise different audit opinions
 Learning objectives

1.5 discriminate between the different role of the

preparer and the auditor, and discuss the
different firms that provide assurance services
1.6 justify the demand for audit and assurance
services
1.7 compare the different regulators and regulations
surrounding the assurance process
1.8 categorise the audit expectation gap.
 Auditing and assurance defined

• An assurance engagement (or service) is defined as

‘an engagement in which an assurance practitioner
aims to obtain sufficient appropriate evidence in
order to express a conclusion designed to enhance
the degree of confidence of the intended users other
than the responsible party about the outcome of the
measurement or evaluation of an underlying subject
matter against criteria.’
 Auditing and assurance defined

• Intended users: the people for whom the assurance

provider prepares their report.
Example: shareholders, creditors, employees.
• Responsible party: the person or organisation
responsible for the preparation of the subject matter.
Example: company management.
 Different assurance services

• The most common assurance services are:

1. Financial report audits:
an engagement designed to express an opinion
about whether the report is prepared in all
material respects in accordance with a financial
reporting framework (ASA 200, para. 11; ISA 200,
para 11.
 Different assurance services

• Limitations of an audit:
– There is no guarantee that the financial report is
free from error or fraud.
– The nature of audit procedures and processes are
required to be performed within a reasonable
period and at a reasonable cost (ASA 200, ISA
200).
– Judgement is required in the process of
preparation of the financial statements.
 Different assurance services

2. Compliance audit:
– Involves gathering evidence to ascertain whether
rules, policies, procedures, laws and regulations
have been followed.
• A tax audit is an example of a compliance
audit.
 Different assurance services

3. Performance audit:
– Refers to the economy, efficiency and
effectiveness of an organisation’s activities.
• Usually done by internal auditors or can be
outsourced to external auditors.
 Different assurance services

4. Comprehensive audit:
– Combines elements of financial report audit,
compliance audit and performance audit.
• Often occur in the public sector.
 Different assurance services

5. Internal audit:
– Provides assurance about various aspects of an
organisation’s activities.
• Often contain elements of performance
audits, compliance audits, internal control
assessments and reviews.
 Different assurance services

6. Corporate social responsibility (CSR) assurance:

– Includes voluntary reporting about
environmental, employee and social subject
matter.
– Incorporates both financial and non-financial
information.
– Auditor must consider environmental issues on
their clients’ financial reports (AGS 1036) even if
reports do not include any disclosures.
 Different levels of audit assurance

• Auditors may provide varying levels of assurance

when conducting assurance engagements.
1. Reasonable assurance.
2. Limited assurance.
3. No assurance.
 Different levels of audit assurance

LEVEL OF ASSURANCE EXAMPLE THE ASSURANCE

EXPRESSION

REASONABLE Financial The auditor has conducted sufficient tests Positive

Highest level of Statement Audit and obtained appropriate and sufficient
assurance but not evidence to conclude positively that the
absolute assurance on information that is assured is (or is not)
the reliability of the reliable
subject matter
LIMITED Review of a Auditor has done adequate work to Negative
Moderate assurance on company’s half- report whether or not anything came to
the reliability of the year financial their attention that would lead them to
subject matter report believe that the information that is
assured is not true and fair.
NO ASSURANCE Agreed-upon The auditor does not report an opinion – No Assurance given
procedures merely report on the findings and the
engagement facts of their findings. The client
determines the nature, timing and extent
of evidence gathered and then draws
their own conclusions about these
findings
 Different audit opinions

• Unmodified:
– Also known as an UNQUALIFIED OPINION or clean
opinion – as in a ‘clean bill of health’.
– Financial report is true and fair, presents fairly the
financial position of the company, information
complies with AAS and Corp Act.
 Different audit opinions

• Modified:
– Modifications that do not affect the auditor’s
opinion:
• Emphasis of matter.
– Modifications that affect the auditor’s opinion:
• Qualified Opinion
• Adverse opinion
• Disclaimer of Opinion.
Different audit opinions
 Different audit opinions

• Other modified reports are qualified (ASA 705). A

qualified opinion is given when there are
reservations about the ‘truth and fairness’ of the
financial statements.
• Can include a qualified or ‘except for’ opinion. This is
when issue(s) are material but not pervasive.
• Adverse opinion would arise when financial report is
misstated and is material and pervasive.
• Disclaimer of opinion would arise when there is an
inability to obtain sufficient appropriate audit
evidence and is material and pervasive.
 Preparers and auditors

1. Preparer responsibility
– It is the responsibility of those charged with
governance to prepare the financial statements.
– The information should include the following
attributes:
• Relevant: has an impact on the decisions made
by users regarding the performance of the
entity.
• Reliable: Information is free from material
misstatements (errors or fraud.)
 Preparers and auditors

1. Preparer responsibility
– The information should include the following
attributes:
• Comparable: information needs to be
comparable through time. Comparable against
the same entity over time and against other
entities.
• Understandable: Users need to be able to
interpret the information presented in order to
make decisions.
 Preparers and auditors

1. Preparer responsibility
– The information should include the following
attributes:
• True and fair: requires the consistent and
faithful application of an applicable framework
when preparing report.
 Preparers and auditors

2. Auditor responsibility
– Auditor also has responsibilities relating to the audit.
• Professional scepticism: maintaining independent
of the entity and having a questioning mind to
thoroughly investigate all evidence presented.
• Professional judgement: use of judgement based
on level of expertise, knowledge and training
obtained by the auditor.
• Due care: being diligent, applying standards and
documenting each stage of the audit process.
 Preparers and auditors

3. Assurance providers
• Assurance services are provided by accounting and
consulting firms.
• There are three tiers of assurance providers in Australia.
– First tier comprises of the ‘Big 4’, which includes
Deloitte, EY, KPMG and PWC
– Mid tier comprises of firms with significant
presence and most have international affiliations.
 Preparers and auditors

3. Assurance providers
• There are three tiers of assurance providers in Australia.
– Next tier made up of regional and local accounting
firms.
Demand for audit and assurance services

1. Financial report users:

– The users of the financial statements are not
limited to the shareholders or owners of the
business.
– Other users can include:
• Investors: can include current or potential
investors. Decisions include to buy, hold or sell
stake in the organisation.
Demand for audit and assurance services

1. Financial report users:

– Other users can include:
• Suppliers: may want to assess whether the
entity can pay them back for goods supplied.
• Customers: may look into going concern if it is
to rely on the entity for goods.
Demand for audit and assurance services

1. Financial report users:

– Other users can include:
• Lenders: to assess whether loan repayments
can be made as and when they fall due.
• Employees: to assess whether they can pay
entitlements, and stability may be assessed for
job security.
Demand for audit and assurance services

1. Financial report users:

– Other users can include:
• Governments: whether the entity is complying
with regulations and paying appropriate taxes.
• General public: whether they should associate
with the entity (future employee, customer or
supplier,) what it does and plans to do in
future.
Demand for audit and assurance services

2. Sources of demand for audit and assurance services:

– Reasons why users demand financial reports include:
• Remoteness: users do not have access to
information themselves.
• Complexity: users do not have knowledge to be
able to make disclosure choices.
Demand for audit and assurance services

2. Sources of demand for audit and assurance services:

– Reasons why users demand financial reports include:
• Competing incentives: users may find it difficult to
identify when the incentives of management have
been over-represented.
• Reliability: as decisions are being made based on
information presented, it is important that it be
reliable.
Demand for audit and assurance services

3. Theoretical frameworks:
– The demand for audit can be explained by the
following three theories:
• Agency theory: Due to the remoteness of the
owners from the entity, the owners have an
incentive to hire an auditor to assess
information provided by management.
Demand for audit and assurance services

3. Theoretical frameworks:
– The demand for audit can be explained by the
following three theories:
• Information hypothesis: Due to the need for
reliable information, users will demand that
information be audited to aid in decision
making.
• Insurance hypothesis: Investors demand
audited financial statements to insure against
potential losses.
Demand for audit and assurance services

4. Demand in a voluntary setting:

• It is becoming more common to voluntarily
disclose CSR information in various forms.
• This is as stakeholders are demanding
information regarding the entity’s impact on
the environment and actions taken to reduce
their impact.
Demand for audit and assurance services

4. Demand in a voluntary setting:

• Entities are not required to have CSR
disclosures assured.
• These services are provided to meet user
demands for high-quality, reliable information
and to demonstrate a high level of corporate
social responsibility.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Financial reporting council (FRC):
– Oversees the process used for setting
accounting and auditing standards.
– Also monitors and reports on auditor
independence.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Auditing and assurance standards board
(AUASB):
– Responsible for the formulation of auditing
standards.
– AUASB redesigned auditing standards to
bring in line with international standards.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Auditing and assurance standards board
(AUASB):
– Responsible for issuing ASRE, ASAE and GS
standards and statements.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• International auditing and assurance
standards board:
– Develop and issue International Standards
on Auditing (ISAs).
– Operates under the auspices of
International Federation of Accountants
(IFAC).
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Accounting professional and ethical standards
board (APSEB):
– Established as an independent body by CPA
Australia and CAANZ to issue professional
and ethical standards.
– APES standards are mandatory for all
members of CPA Australia, CAANZ and NIA.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Australian securities and investments
commission (ASIC):
– Government body that administers the ASIC
Act and much of Corporations Act.
– Plays a role in overseeing of the audit
function.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Australian securities exchange (ASX):
– Formed in 1987 after merging of six state
based exchanges.
– Provide additional obligations for entities
wishing to list on the exchange.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Companies auditors and liquidators
disciplinary board (CALDB):
– Responds to ASIC and APRA regarding
breaches of Corporations Act or ASIC Act.
– Board may cancel or suspend auditor, may
give warning or ask for undertaking to
improve conduct.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Professional bodies (including CPA Australia
and Chartered Accountants Australia and New
Zealand):
– Include professionals in public practice,
industry, academia and government.
 The role of regulators and regulations

1. Regulators:
– There are a number of regulators that impact the
audit process. They include:
• Professional bodies (including CPA Australia
and Chartered Accountants Australia and New
Zealand)
– Requires further post-graduate study and
minimum work experience periods to join
as members.
 The role of regulators and regulations

2. Regulation:
– Corporations act:
• Provides guidance on conducting audit of financial
reports.
• This includes that certain accounts need to be
audited (s. 301,) the audit report stating whether
it is true and fair & in accordance with accounting
standards (s. 307,) standards must be applied (s.
307A,) retention of audit working papers (s.
307B,) and independence declaration (s. 307C.)
 The role of regulators and regulations

2. Regulation:
– CLERP 9:
• Significant changes brought about from 1 July
2004 including auditing standards having ‘force of
law.’
• Other changes include:
–Disclosure of non-audit services provided by
auditor.
 The role of regulators and regulations

2. Regulation:
– CLERP 9:
• Other changes include:
–Enhanced independence and employment
requirements.
–Auditor rotation based on not exceeding being
auditor for more than five out of the last seven
years.
Audit expectation gap
 Audit expectation gap

• Is the if difference between the expectations of

assurance providers and financial reports or other
users.
• Can be caused by unrealistic expectations including:
– The auditor providing a complete assurance.
– The auditor guaranteeing future viability of entity.
– An unqualified opinion denotes complete accuracy.
– The auditor will find all frauds.
• We know these cannot be met by the auditor.
 Audit expectation gap

• The expectation gap can be reduced by:

– Auditors performing their duties appropriately
– Undertaking peer reviews of work performed
– Reviewing and updating auditing standards.
– Educating the public.
– Enhanced reporting explaining audit processes
and levels of opinion auditors provide to the
entity.
– Greater attention to the risk of material fraud
occurring.
 Summary

• An assurance engagement involves an assurance

provider arriving at an opinion about some
information being provided by their client to a third
party.
• Assurance services include financial report audits,
compliance audits, performance audits,
comprehensive audits, internal audits, and assurance
on corporate social responsibility (CSR) disclosures.
 Summary

• The different levels of assurance include reasonable

assurance, which is the highest level of assurance,
limited assurance or no assurance.
• An auditor can issue an unmodified report.
• It is the responsibility of a company’s governing body
to ensure that their financial report is relevant,
reliable, comparable, understandable, and true and
fair.
 Summary

• Financial report users include investors

(shareholders), suppliers, customers, lenders,
employees, governments and the general public.
• Regulators of the assurance process.
• The audit expectation gap occurs when there is a
difference between the expectations of assurance
providers and financial report or other users.