AUDIT CH 1
Define audit quality and identify drivers of audit quality as spec- ified by the Financial Reporting Council's Audit Quality Framework.
Audit quality involves performing an audit in accordance with generally accepted auditing standards (GAAS) to provide reasonable assurance that the audited financial statements and related disclosures are presented in accordance with generally accepted accounting principles (GAAP) and demonstrate assurance that those financial statements are not materially misstated whether due to errors or fraud.The five elements of the FRC's Audit Quality Framework include: (1) audit firm culture, (2) skills and qualities of the audit partner and the engagement team, (3 effectiveness of the audit process, (4) factors outside the control of auditors, and (5) reliability and usefulness of audit reporting, including auditor communication of key issues.
What factors create a demand for an independent external audit?
Audit services are demanded because there is Potential bias in providing information. Remoteness between a user and the organization or trading partner. Such complexity in the transaction, information, or processing systems that it is difficult to determine their proper presentation without a review by an independent expert. Need to limit negative consequences that arise from relying on inaccurate information.
Describe why maintaining auditor independence can help achieve audit quality.
Auditor independence requirements help to avoid situations in which auditor independence may be impaired, including situations in which the auditor has a relationship that: Creates a mutual or conflicting interest between the accountant and the audit client Places the accountant in the position of auditing his or her own work Results in the accountant acting as management or an employee of the audit client Places the accountant in a position of being an advocate for the audit client
Which of the following factors does not create a demand for external audit services? a. Potential bias by management in providing information. b. Requirements of the state boards of accountancy. c. Complexity of the accounting processing systems. d. Remoteness between a user and the organization
B
With regard to client acceptance/continuance decisions, which of the following is false? a. Client acceptance/continuance decisions are one part of the audit firm's overall portfolio management activities. b. The primary driver of the client acceptance/continu- ance decision is the level of audit fees that the audit firm can charge the client. c. One can view an individual audit client as analogous to an individual stock in an investment portfolio. d. Audit firms are not required to provide audit services for all organizations requesting an audit
B
Which of the following factors is not a driver of audit qual- ity as discussed by the FRC? a. Audit firm culture. b. Skills and personal qualities of client management. c. Reliability and usefulness of audit reporting. d. Factors outside the control of auditors
B The FRC's Audit Quality Framework states that there are five primary drivers of audit quality, including (1) audit firm culture, (2) the skills and personal qualities of audit partners and staff, (3) the effectiveness of the audit process, (4) the reliability and usefulness of audit reporting, and (5) factors outside the control of auditors that affect audit quality.
Utilitarianism does not require which of the following actions when a person considers how to resolve an ethical dilemma? a. Identification of the potential problem and courses of action. b. Identification of the potential direct or indirect impact of actions on each affected party who has an interest in the outcome. c. Identification of the motivation of the person facing the ethical dilemma. d. Assessment of the desirability of each action for each affected party.
C
Which of the following statements is false? a. An auditor in public practice shall be independent in the performance of professional services. b. In performing audit services, the auditor shall main- tain objectivity and integrity, be free of conflicts of interest, and not knowingly misrepresent facts or subordinate his or her judgment to others. c. In performing audit services, the auditor may accept only contingent fees for publicly traded audit clients. d. An auditor in public practice shall not seek to obtain clients by advertising or other forms of solicitation in a manner that is false, misleading, or deceptive.
C
Which of the following are the responsibilities of the external auditor in auditing financial statements? a. Maintaining internal controls and preparing financial reports. b. Providing internal assurance on internal control and financial reports. c. Providing internal oversight of the reporting process. d. Providing independent assurance on the financial statements.
D
Which of the following factors is not an example of a risk relevant to the client continuance decision? a. Client entity characteristics. b. Independence risk factors. c. Third-party/due diligence risk factors. d. Advocacy threat.
D
Which of the following statements related to rights theory is false? a. The highest order rights include the rights to life, autonomy, and human dignity. b. Second-order rights include rights granted by the government, such as civil rights and legal rights. c. Third-order rights include social rights, such as the right to higher education, to good health care, and to earning a living. d. Fourth-order rights include one's essential interests or personal tastes.
D
Which of the following is not a threat to auditor independence? a. Self-review threat. b. Advocacy threat. c. Adverse interest threat. d. Regulatory interest threat.
D Threats to auditor independence include:- Self-review threat- Advocacy threat- Adverse interest threat- Familiarity threat- Undue influence threat- Financial self-interest threat- Management participation threa
Distinguish between the roles of the PCAOB and the AICPA in: (a) setting audit standards and (b) setting accounting standards.
PCAOB AICPAa) Sets auditing standards for audits of public companiesDoes not set auditing standards for the audits of public firms anymore. It does set standards for audits of non-public companies.b) Does not set accounting standards; this responsibility is delegated to the FASB and the SEC.Does not set accounting standards; this responsibility is delegated to the FASB and the SEC.
Refer to Exhibit 1.4 and identify the primary parties involved in preparing and auditing financial statements, and briefly describe their roles.
Refer to Exhibit 1.4.
Refer to Exhibit 1.6. Describe the AICPA's six principles of pro- fessional conduct.
Refer to Exhibit 1.6.
Refer to the various Who Are They? features throughout the chapter and describe the roles of the following organizations that affect the external auditing process, and the nature of those effects. a. Public Company Accounting Oversight Board (PCAOB) b. Securities and Exchange Commission (SEC) c. American Institute of Certified Public Accountants (AICPA) d. Center for Audit Quality (CAQ) e. International Auditing and Assurance Standards Board (IAASB) f. Financial Reporting Council (FRC)
Refer to the various Who Are They? features throughout the chapter.
Audit firms may discontinue serving a client because the client does not fit the profile or growth strategy of the audit firm. (T/F)
T
Audit quality is achieved when the audit is performed in accordance with GAAS and when it provides reasonable assurance that the financial statements have been pre- sented in accordance with GAAP and are not materially misstated due to errors or fraud. (T/F)
T
Existing clients for which the audit firm provided services in the preceding period are evaluated by the audit firm and by the individual engagement partner at the comple- tion of the audit to determine whether the audit firm should continue to provide services again in the next period. The process by which this evaluation occurs is called the client continuance decision. (T/F
T
The AICPA's principles of professional conduct articulate auditors' responsibilities and their requirements to act in the public interest, to act with integrity and objectivity, to be objective and independent, to exercise due care, and to perform an appropriate scope of services. (T/F)
T
When the auditor has no reservations about management's financial statements or internal controls, the auditor will issue an unqualified audit opinion. (T/F)
T
Describe the various ways in which the AICPA's Code is enforced.
The Code is enforced by voluntary cooperation, public opinion and associated legal action, reinforcement by peers, and disciplinary proceedings of the Joint Ethics Enforcement Program sponsored by the AICPA, state boards of accountancy, and state CPA societies. Members in violation of the Code may, for example, lose their membership in the AICPA, be required to take additional hours of continuing professional education, and/or lose their CPA license.
What is the objective of external auditing? Describe the role of external auditing in meeting demands for unbiased financial statement and internal control information.
The objective of external auditing is to provide opinions on the reliability of the financial statements and, as part of an integrated audit, provide opinions on internal control effectiveness. The value of the external auditing profession is affirmed when the public has confidence in its objectivity and the accuracy of its opinions. The capital markets depend on accurate, reliable, and objective (neutral) data that portray the economic nature of an entity's business and in turn provide a base to judge current progress toward long-term objectives. If the market does not receive reliable data, investors lose confidence in the system, make poor decisions, and may lose a great deal of money; ultimately, the system may fail. By providing an independent audit opinion, the capital markets have assurance that the financial data that they are basing their decisions upon are accurate.
Refer to the Who Are They? feature that describes the PCAOB. Why is there a requirement that no more than two of the board mem- bers are CPAs?
The requirement that no more than two of the PCAOB board members may be CPAs was put into place to ensure that the board is not unduly dominated by members of the external audit profession, thereby helping to assure users of financial statements that this important regulator is representing the broad interests of users, not just serving the preferences of the external audit profession.
Would a CPA violate the AICPA's Code by serving as an auditor and legal counsel to the same client? Explain your answer
Yes. Such a relationship creates a conflict of interest. See Exhibit 1.8. The auditor is a judge of the fairness of financial statements. Legal counsel is an advocate for the client. A CPA cannot be both a judge and advocate for the same client without impairing independence.
Refer to Exhibit 1.8. Read the description of the rule related to Contingent Fees. a. What is a contingent fee? b. Why are external auditors not allowed to accept contingent fees?
a. A contingent fee is a fee established for the performance of any service in which a fee will not be collected unless a specified finding or result is attained, or in which the amount of the fee depends on the findings or results of such services. In the case of external audit services, a contingent fee means that the audit fee would only be paid if the auditor gives an unqualified audit opinion. b. Contingent fees are not allowed because they would violate the principle of auditor independence.
Auditors must be independent because audited financial state- ments must serve the needs of a wide variety of users. If the auditor were to favor one group, such as existing shareholders, there might be a bias against another group, such as prospective investors. a. What steps has the external auditing profession taken to minimize potential bias toward important users and thereby encourage auditor independence? b. Refer to Exhibit 1.1 and describe the users of audited financial statements and the decisions that they need to make based on reli- able information.
a. An organization's financial statements should reflect a true and fair view of the organization's financial results. The statements should not favor one user over another. However, the interests of the various users can conflict. By having rules that encourage auditor independence (e.g., not owning stock in the client company, not performing consulting services for a publicly traded audit client), the profession encourages auditor independence. b. Refer to Exhibit 1.1.
McIver's Swimwear Distributors is a relatively small, privately held swimwear distribution company that operates in the Midwest and handles several product lines, including footwear, clothing, and swim team supplies. It sells directly to swimwear shops and does not sell to the big retailers. It has approximately $8 million in sales and wants to grow at about 20% per year for the next five years. It is also consider- ing a takeover or a merger with another swimwear distributorship that operates in the same region. a. Explain why management might want an independent audit of its financial statements. b. What are the factors that McIver's might consider in decid- ing whether to seek an audit from a large national audit firm, a regional audit firm, or a local firm? c. What types of users might be interested in McIver's financial results?
a. Management may want an independent audit because: An independent assessment of the fairness of presentation enhances the perceived reliability of the financial report and assists the company in obtaining loans or newcapital because the investing and lending public will have confidence in the financial figures. The auditor's expertise in related areas may help the client in:(a) Tax planning.(b) Preparing tax returns.(c) Selecting and implementing accounting information systems.(d) Identifying sources of capital or loans.(e) Preparing financial forecasts or analyses that may assist the company in obtaining loans or new capital.(f) Determining the efficiency of existing accounting operations.(g) Observing areas in which efficiency and effectiveness of operations might be improved. The auditor's testing and evaluations of controls may provide insights into areas in which improvements could be made. The threat, as well as the performance, of an audit may act to deter potential fraud on the part of employees. The auditor's expertise may lead to improved financial presentations because of the application of accounting principles or improved financial statement disclosure.b. Some of the points that might be discussed by management in determining the nature of the audit firm to engage to conduct the audit: The audit fees for conducting the audit. The reputation of the auditor in the community and potential impact of auditor reputation in securing loans or capital. The ability of the auditor to assist the firm in expanding the scope of its operations beyond the immediate geographic area. The industry-specific knowledge of the potential auditors. The individual personnel servicing the company; that is, the involvement of a partner versus other personnel on the engagement. Perceived audit expertise in ancillary areas such as tax, financial projections and analysis, mergers and acquisitions, and systems. The outcome of any recent peer review performed on the audit firm. The satisfaction of other clients with the level of service obtained from the audit firm. The ability of the audit firm to use state-of-the-art technology on the engagement and to introduce that technology to the client. c. Several users might be interested in McIver's financial results, including: management itself, existing or potential creditors, and potential takeover or merger distributorship partners.
Audit quality involves which of the following? a. Performing an audit in accordance with GAAS to pro- vide reasonable assurance that the audited financial statements and related disclosures are presented in accordance with GAAP and providing assurance that those financial statements are not materially misstated whether due to errors or fraud. b. Performing an audit in accordance with GAAP to pro- vide reasonable assurance that the audited financial statements and related disclosures are presented in accordance with GAAS and providing assurance that those financial statements are not materially misstated whether due to errors or fraud. c. Performing an audit in accordance with GAAS to provide absolute assurance that the audited financial statements and related disclosures are presented in accordance with GAAP and providing assurance that those financial statements are not materially misstated whether due to errors or fraud. d. Performing an audit in accordance with GAAS to pro- vide reasonable assurance that the audited financial statements and related disclosures are presented in accordance with GAAP and providing assurance that those financial statements contain no misstatements due to errors or fraud
A A definition published by the GAO (2003) states that a quality audit is one performed"in accordance with generally accepted auditing standards (GAAS) to provide reasonable assurance that the audited financial statements and related disclosures are (1) presented in accordance with GAAP and (2) are not materially misstated whether due to errors or fraud."
In rights theory, the highest order rights are those granted by the government, such as civil rights, legal rights, rights to own property, and license privileges. (T/F)
F
Per the AICPA's Code, independence would be impaired if his or her immediate family member were employed by the audit client in any capacity or personnel level. (T/F)
F
Utilitarian theory holds that what is ethical is the action that achieves the greatest good for the most important people. (T/F)
F
The sole responsibility of management with regard to financial reporting involves preparing and presenting financial statements in accordance with the applicable financial reporting framework. (T/F)
F Management has responsibilities for (a) preparing and presenting financial statements in accordance with the applicable financial reporting framework; (b) designing, implementing, and maintaining internal control over financial reporting; and (c) providing the auditors with information relevant to the financial statements and internal controls.
One of the key drivers of audit quality is the gross margin achieved by the audit firm and the ability of the engage- ment partner to maintain those margins over the duration of the audit engagement. (T/F)
False. The FRC's Audit Quality Framework states that there are five primary drivers of audit quality, including (1) audit firm culture, (2) the skills and personal qualities of audit partners and staff, (3) the effectiveness of the audit process, (4) the reliability and usefulness of audit reporting, and (5) factors outside the control of auditors that affect audit quality.
Codes of conduct followed by auditors emphasize the impor- tance of independence to achieving audit quality. Explain why indepen- dence is considered the cornerstone of the auditing profession
Independence is vitally important to the auditing profession. Audits exist to create confidence in the public that financial statements are free from material misstatement. When auditors are not independent, the public cannot necessarily trust that the statements are free from material misstatement, because the public would believe that auditors could have incentives to allow misstatements.
Why is it important that users perceive auditors to be indepen- dent? What is the difference between being independent in fact and being independent in appearance?
Independence means objectivity and freedom from bias. The auditor can favor neither the client nor the third party in evaluating the fairness of the financial statements. The auditor must be independent in fact and in appearance. Independence in fact means the auditor is unbiased and objective. An auditor could be independent in fact if he or she owned a few shares of common stock in an audit client, but might not appear independent to a third party. Independence in appearance means that a third party with knowledge of the auditor's relationship with the client would consider the auditor to be independent. If users don't perceive auditors to be independent, then the value of the audit is lacking.
Summarize the five fundamental principles of ethics as articu- lated by the International Ethics Standards Board for Accountants (IESBA).
Integrity—A professional accountant should be straightforward and honest in performing professional services.• Objectivity—A professional accountant should not allow bias, conflict of interest, or undue influence of others to override professional or business judgments.• Professional Competence and Due Care—A professional accountant has a continuing duty to maintain professional knowledge and skill at the level required to assure that a client or employer receives competent professional service based on current developments. A professional accountant should act diligently and in accordance with applicable technical and professional standards when providing professional services. • Confidentiality—A professional accountant should respect the confidentiality of information acquired as a result of professional and business relationships and should not disclose any such information to third parties without proper and specific authority unless there is a legal or professional right or duty to disclose. Confidential information acquired as a result of professional and business relationships should not be used for the personal advantage of the professional accountant or third parties.• Professional Behavior—A professional accountant should comply with relevant laws and regulations and should avoid any action that discredits the profession.
How does an audit enhance the quality of financial statements and management's reports on internal control? Does an audit guaran- tee a fair presentation of a company's financial statements?
The audit enhances the quality of financial statements because the user has assurance that an independent, qualified professional has examined the financial statements and has rendered an opinion on their fairness. The independence and expertise of the auditor serve as a quality control function to overcome the potential bias of management in presenting the financial statements in a manner that most flatters an assessment of their performance. The audit is designed to add credibility to the financial statements. An audit does not necessarily guarantee a fair presentation of a company's financial statements, although it does increase the likelihood that there are no material misstatements in the company's financial statements. The audit provides reasonable, but not absolute, assurance about the accuracy of the financial statements. The caveats about fairness exist for two reasons: Fairness is judged within the applicable financial reporting framework. Some question whether GAAP or IFRS results in the fairest possible presentations in all situations.Although designed to detect material fraud, it might be possible that a well-executed audit may still fail to detect fraud.
What types of skills and knowledge do professionals entering the external auditing profession need to be successful?
The requirements of those entering the auditing profession are demanding. Audits are performed in teams where each auditor is expected to complete tasks requiring considerable technical knowledge and expertise. Auditors also need well-developed skills in leadership, teamwork, communication, decision making, and other professional areas. In terms of technical knowledge and expertise, auditors must understand accounting and auditing authoritative literature, develop industry and client-specific knowledge, develop and apply computer skills, evaluate internal controls, and assess and respond to fraud risk. Furthermore, a strong ethical foundation is critical for each auditor.In terms of professional skills, auditors make presentations to management and audit committee members, exercise logical reasoning, communicate decisions to users, manage and supervise others by providing meaningful feedback, act with integrity and ethics, interact in a team environment, collaborate with others, and maintain a professional presence.
Describe the seven threats to independence articulated in the AICPA's independence conceptual framework, and provide examples of each.
The seven threats to independence are: 1. Self-review threat - occurs when the audit firm also provides non-audit work for the client, such as preparing source documents used to generate the client's financial statements. Independence is threatened because it may appear that the auditor is reviewing his or her own work.2. Advocacy threat - occurs when the auditor acts to promote the client's interests, such as representing the client in tax court. Independence is threatened because it may appear that the auditor cares more about the client than about external users of the financial statements. 3. Adverse interest threat - occurs when the auditor and the client are in opposition to one another, such as when either party has initiated litigation against the other. Independence is threatened because the auditor may take actions that are intended to weaken the client's chances in the litigation, and may appear to care more about the audit firm and its interests rather than those of the company or external users of the financial statements. 4. Familiarity threat - occurs when the auditor has some longstanding relationship with an important person associated with the client. Examples include: The audit partner's close relative is employed in a key position at the client. The audit partner has been assigned to the client for a long period of time and has developed very close personal relationships with top management. A member of the audit team has a close personal friend who is employed in a key position at the client. A member of the audit team was recently a director or officer at the client.In each of these examples, independence is threatened because the auditor may act in a way that favors the client or individual employed at the client rather than external users of the financial statements.5. Undue influence threat - occurs when client management attempts to coerce or provide excessive influence over the auditor. Examples include: Top management threatens to replace the auditor or the audit firm because of a disagreement over an accounting issue. Top management pressures the auditor to reduce the amount of work done on the audit in order to achieve lower audit fees. An employee of the client gives the auditor a gift that is clearly significant or economically important to the auditor. In each of these examples, independence is threatened because the auditor may act in a way that favors the client or individual employed at the client rather than external users of the financial statements.6. Self-interest threat - occurs when the auditor has a direct financial relationship with the client, such as owning stock in the client company, owing money to the client company, or when the audit client makes up the vast majority of the audit firm's total revenue. Independence is threatened because the auditor's judgment may be unduly influenced by his or her own financial interests rather than acting in the best interests of external users of the financial statements. 7. Management participation threat - occurs when the auditor takes on the role of management or completes functions that management should reasonably complete, such as establishing internal controls or hiring/firing client employees. Independence is threatened because the auditor is acting as management, and so would in essence be reviewing his or her own work.
What is the special function that auditors perform? Whom does the external auditing profession serve in performing this special function?
The special function performed by the external auditing profession is the attestation to the fairness of the financial statements of clients. The special function helps ensure the reliability and integrity of the financial reporting system. The auditing profession exists to serve the users of an organization's financial statements. These include lenders, investors, management, government, and (indirectly) all individuals who are ultimately affected by the integrity of the financial reporting process. Auditors need to remember that they are serving the public interest and not necessarily the interests of client management.
List the various types of audit service providers. What types of audit firms are best suited for auditing large multinational companies versus small, regional companies that are not publicly traded?
There exist various types of audit service providers, and they are each suited to auditing different types of clients: Large, multi-national audit firms are best suited to auditing large multi-national companies, both publicly traded and privately held. Regional audit firms are best suited to auditing relatively small publicly traded companies or medium-sized privately held companies. Small audit firms are best suited to auditing small privately held companies.
Refer to Exhibit 1.8. Read the description of the rule related to Integrity and Objectivity. What does this rule require?
This rule requires that the AICPA member shall maintain objectivity and integrity, shall be free of conflicts of interest, and shall not knowingly misrepresent facts or subordinate his or her judgment to others.
Refer to Exhibit 1.5. a. How does positive audit firm culture, along with expert skills and qualities of both the audit partner and the engagement team, affect audit quality? b. What factors outside the control of the external auditor affect audit quality? c. Why do users care about audit quality? Are there certain users who might care more about audit quality than others? Explain.
a. Audit firm culture affects audit quality because when it is positive it:- Creates an environment where achieving quality is valued, invested in, and rewarded.- Emphasizes the importance of 'doing the right thing' in the public interest and the effect of doing so on the reputation of both the firm and individual auditors.- Ensures partners and staff have sufficient time and resources to deal with difficult issues as they arise.- Ensures financial considerations do not drive actions and decisions having a negative effect on audit quality.- Promotes the merits of consultation on difficult issues and supports partners in the exercise of their personal judgment.- Ensures robust systems for client acceptance and continuation.- Fosters appraisal and reward systems for partners and staff that promote the personal characteristics essential to quality auditing.- Ensures audit quality is monitored within firms and across international networks and appropriate consequential action is taken.Expert skills and qualities of the audit partner and engagement team affect audit quality because they: - Affect whether partners and staff understand their clients' business and adhere to the principles underlying auditing and ethical standards.- Affect the ability of partners and staff to exercise professional skepticism in their work and to ensure that they are robust in dealing with issues identified during the audit.- Affect whether staff members performing audit work have sufficient experience and are appropriately supervised by partners and managers.- Affect whether partners and managers provide junior staff with appropriate 'mentoring' and 'on the job' training.-Affect whether sufficient training is given to audit personnel in audit, accounting, and industry specialist issues.In turn, these factors affect the effectiveness of the audit process itself, which then has further effects on audit quality. b. Factors outside the control of the external auditor include forces such as organizational corporate governance and the regulatory environment. c. Users care about audit quality, because if audit quality is lacking then the reliability of the audited financial statements is questionable. Users that might care more about audit quality are those with a significant financial stake in the company (e.g., shareholders) or those with significant money to lose if the company's financial statements are inaccurate (e.g., bankers or other lenders).
Refer to Exhibit 1.8. Read the description of the rule related to Confidential Client Information. a. What is confidential information? b. Normally, the external auditor must keep client information confi- dential. Identify those circumstances in which this does not apply.
a. Confidential information is information obtained during the conduct of an audit related to the client's business or business plans; the auditor is prohibited from communicating confidential information except in very specific instances defined by the Code of Professional Conduct or with the client's specific authorization. Note that students may get this term confused with privileged communication. Privileged communication includes information about a client that cannot be subpoenaed by a court of law to be used against a client; it allows no exceptions to confidentiality. Most states do not allow privileged communication for auditors.b. External auditors do not have to keep client information confidential in the following situations: • To assure the adequacy of accounting disclosures required by GAAP• To comply with a validly issued and enforceable subpoena or summons or to comply with applicable laws and government regulations• To provide relevant information for an outside quality review of the firm's practice under the PCAOB, AICPA, or state board of accountancy authorization• To initiate a complaint with, or respond to an inquiry made by the AICPA's professional ethics division or trial board or investigative or disciplinary body of a state CPA society or board of accountancy
The PCAOB has the authority to set auditing standards for audits of public companies registered in the U.S. The AICPA continues to set auditing standards for nonpublic companies through its Auditing Standards Board (ASB). a. What are the pros and cons of having potentially different audit- ing standards for both public and nonpublic companies? b. In what ways might you expect auditing standards for audits of nonpublic companies to differ from the standards for public companies?
a. On the "pro" side, having different standards makes audits more tailored to the nature of the company (e.g., the nature of auditing for a large, public company may be very different from auditing for a small, private company). On the "con" side, this dual structure can create various difficulties, including: (1) the same audit firm and its auditor employees have to learn and apply different auditing standards, thereby affecting training costs, (2) there is greater cost to society because multiple standard setters are operating independently, and (3) users may be confused by the different standards of the two companies.b. Potential differences could include: (1) public companies might have auditing standards that are more applicable to larger and more complex entities, (2) non-public companies might have auditing standards that adjust for weaker internal controls (e.g., lack of segregation of duties), and (3) public companies might have audit standards that are geared toward more remote and less-informed users (e.g., shareholders) rather than less remote and better-informed users (e.g., bankers).
Refer to the Why It Matters feature "Does Owning Stock in an Audit Client Affect Auditor Independence?" a. Describe the unethical actions of Susan Birkert. b. Compare and contrast the ideas of independence in fact and independence in appearance in the context of this case. c. Do you think that Susan's punishments were appropriate? Explain your answer.
a. Susan Birkert had a friend purchase $5,000 of stock in the company that she was auditing. She lied to KPMG when responding to the firm's yearly written requirements to comply with the firm's independence policies. b. Independence in fact means that while Susan might have actually not behaved in a biased manner on the engagement because of the stock she owned, external users may perceive an independence conflict, thus causing the auditor to not be independent in appearance.c. The answer to this question will vary by student.
The issue of independence is important to the profession. a. Are auditors of publicly traded clients required to be independent? b. Are auditors of privately held clients required to be independent? c. The AICPA's Rules applies only to covered members. What does it mean to be a covered member? d. What is the difference between a direct financial interest and an indirect financial interest? e. What services does the Sarbanes-Oxley Act of 2002 prohibit audi- tors from performing for their publicly traded clients?
a. Yes. b. Yes.c. A covered member is: • An individual on the audit engagement team• An individual in a position to influence the audit engagement• A partner in the office in which the lead attest audit partner primarily practices in connection with the auditor engagementd. A direct financial interest is a financial interest owned directly by, or under the control of, an individual or entity, or beneficially owned through an investment vehicle, estate, or trust when the beneficiary controls the intermediary or has the authority to supervise or participate in the intermediary's investment decisions. An indirect financial interest occurs when the beneficiary neither controls the intermediary nor has the authority to supervise or participate in the intermediary's investment decisions.e. The following services are prohibited for publicly traded audit clients: Bookkeeping services Financial information systems design and implementation Appraisal or valuation services Actuarial services Internal audit outsourcing services Management functions or human resources Broker or dealer, investment adviser, or investment banking services Legal services and expert services unrelated to the audit Any other service that the Board determines, by regulation, is impermissible
