Hong Kong Auditng. Economic Theory and Practice. Ferdinand A. GUL. Second Edition. City University of Hong Kong Press

Transcription

1 Hong Kong Auditng Economic Theory and Practice Second Edition Ferdinand A. GUL City University of Hong Kong Press

2 OettaBDtsdl CDuapteeir C DDt GUt 1. Development of the Auditing Profession 1 1 Early Developments The Hong Kong Institute of Certified Public Accountants 3 2 Influences on the Development of Auditing 4 3 Auditing Defined Relationship between Accounting and Auditing Assurance Services 8 4 Types of Auditors " Independent Auditors Internal Auditors Government Auditors 10 5 The Accountancy Profession Public Service Specialized Body of Knowledge Admission Requirements International Recognition Continuing Professional Development Self Regulation Ethical CoTle 14 6 Organization of Accounting Practice 15 7 Demand for Auditors' Services Regulations External Parties 17 8 Summary, 17 Exercise: Review questions and discussion questions Economic Theory of Auditing and the Development of Standards 23 1 Auditing Theory 24 2 Agency Theory Incomplete Contracts Agency Problem 26 3 Agency Theory in the Context of Auditing Demands for Audits Choice of High Quality Auditors Auditor Specialization 29

3 Hong Kong Auditing 4 Auditing Concepts Evidence Due Audit Care Fair Presentation Independence and Ethical Conduct 32 5 Auditing Standards General Standards Performance or Field Work Standards Reporting Standards 40 6 Auditing Procedures 42 7 Main Elements of Auditing Theory 42 8 Judgement in Auditing, Representativeness Availability Anchoring 44 9 Quality Control Client Acceptance and Continuance Summary 46 Appendix 2: HKSA 220 Quality Control for Audits of Historical Financial Information 49 Exercise: Review questions and discussion questions Rights, Duties and Liabilities of Auditors in Hong Kong 57 1 Statutory Rights, Duties and Obligations of Auditors Statutory Requirements for Appointment, Removal and Resignation of Auditors Statutory Rights and Obligations of Auditors Statutory Duties of Auditors 61 2 Quasi-Legal Duties under the Auditing Standards Detecting Frauds, Errors and Irregularities Disciplinary Action for Failure to Comply with HKSAs 63 3 Audit Contract between Auditor and Client 64 4 Common Law and Equity' 21 ' Duties arising from Contract Law Common Law Duties arising from Tort Law 67 5 Summary 78 Appendix 3: Legal Consideration 84 Exercise: Review questions and discussion questions 93

4 Detailed Chapter Contents 4. Professional Ethics and Auditor Independence 99 1 Professionalism and Ethical Pronouncements Close Relationship between Auditor and Client Independence Ethical Code Tenure and Appointment Management Advisory Services Perceptions of Auditor Independence Auditor Rotation Discipline Practice Promotion Clients' Monies The Economics of Compliance with Ethical Rules Ethics and Moral Development Theory Summary ill Appendix 4: Code of Ethics for Professional Accountants Section 290 Independence - Assurance Engagements 113 Exercise: Review questions and discussion questions Audit Overview and Evidential Matter Overview of the Audit Process Client Acceptance and Continuance Development of the Audit Strategy Detailed Planning Sufficient and Appropriate Evidence Reports Evidential Matter, Nature of Evidence Obtaining Evidence Evaluation of Evidence Working Papers Summary 156 Appendix 5A: Audit Engagement Letter 158 Appendix 5B: HKSA 315 Understanding the Entity and Its Environment and Assessing the Risks of Material Misstatement 161 Exercise: Review questions, discussion questions and case studies Risk Analysis and Materiality.' Materiality Audit Risk Inherent Risk 181

5 Hong Kong Auditing 2.2 Control Risk Detection Risk Relationship between Materiality and Audit Risks Assessing Risks of Material Misstatement Evaluating Audit Results Risk of Material Error ' Inherent and Control Risks Environmental Factors Nature of Account Items Risk-driven Audits Application in Practice Business Risks Systems-based Audits Accrual Accounting Process Operating Cycle Risk Analysis of a Business as a Going Concern Third Party Support Indications of Going Concern and Mitigating Factors Audit Risks and Audit Fee Determination Summary 200 Appendix 6A: HKSA 320 Audit Materiality 202 Appendix 6B: Example of Planning and Evaluating the Substantive Work for Accounts Receivable 204 Appendix 6C: HKSA 570 Going Concern 206 Appendix 6D: Going Concern Problems. 208 Exercise: Review questions, discussion questions and case studies Control Risk Assessment Nature and Importance of Internal Control Objectives of Internal Control The Internal Control Structure Methodology for Study of Internal Control Preliminary Review Gathering Information, Understanding and Preliminary Evaluation of Controls Tests of Controls Final Evaluation of Controls Limitation of Internal Control Communication of Weaknesses in Internal Control Fraud and Errors Risk of Fraud or Error Procedures where Error or Fraud are Suspected 236

6 Detailed Chapter Contents 5 Sarbanes-Oxley Act Summary 237 Appendix 7A: Example of Corporate Governance Report 239 Appendix 7B: Internal Control Questionnaire 247 Exercise: Review questions and discussion questions Audit Sampling and Statistical Tests Statistics as an Audit Tool "Precision" and "Reliability" Advantages of Statistical Sampling Audit Process and Statistical Sampling Population and Sampling Units Risk and Audit Uncertainty Methods of Sample Selection Sample Size Compliance Testing Attribute Estimation Sampling Discovery Sampling Substantive Testing Variable Sampling Mean Per-unit Estimation Probability-proportional-to-size (PPS) Sampling Summary 295 Appendix 8A: Statistical Sample Size for Compliance Testing 297 Appendix 8B: Attribute Sampling Evaluation of Sample Results 298 Appendix 8C: Discovery Sampling for Attributes 303 Exercise: Review questions and discussion questions Internal Control in an IT Environment Impact of IT Systems on Auditors Characteristics of IT Systems Organizational Structure Nature of Processing Design and Procedural Aspects Internal Controls in an IT System General IT Controls Defined Application Controls Defined Batch Processing and On-line Processing Compared Distributed Processing System, Controls for Minicomputers 338

7 Hong Kong Auditing 7 Controls for Microcomputers Physical Controls Local Area Network Micro-to-mainframe Link Controls for a Database Management System Controls in an Electronic Funds Transfer System Controls in Electronic Data Interchange System The Internet and E-commerce E-commerce/E-business Defined Electronic Transactions Ordinance E-audit Security Risk ' Trust Services Certification Authority (CA) Summary 350 Exercise: Review questions, discussion questions and case studies The Study and Evaluation of IT Controls Auditing Standards in an IT Environment Study of IT Controls The Internal Control Structure Preliminary Assessment of Control Risk Compliance Testing ia an IT Environment Reassessment of Control Risk Auditing Controls in Advanced Computer Systems On-line Real-time Systems Distributed Processing Minicomputers and Microcomputers Database Management Electronic Funds Transfer Systems Electronic Data Interchange E-commerce Service Bureaus Summary 391 Exercise: Review questions, discussion questions and case studies Auditing in an IT Environment Using CAATs Audit Tasks Performed by Computer Programs Considerations in the Use of CAATs Common Categories of CAATs. 419

8 Detailed Chapter Contents 3.1 Audit Software Test Data Other CAATs Audit Automation Steps in Applying CAATs Documentation of CAATs Summary 430 Exercise: Review questions, discussion questions and case studies Auditing Transactions and Account Balances Financial Report Assertions Tests of controls ' Control Objectives and Assertions Preliminary Assessment of Control Risk Auditing Techniques in Tests of Controls Review of Preliminary Assessment of Control Risk Substantive Tests/Procedures Auditing Techniques in Substantive Tests 3.2 Risk Assessments and Substantive Testing Timing of Substantive Tests Types of Substantive Tests Relationship between Tests of controls and Substantive Tests Dual Purpose Tests Summary- 467 Exercise: Review questions, discussion questions and case studies 468 r Auditing the Revenue and Receipts Cycle Description of Revenue and Receipts Cycle Understanding the Internal Control Structure Revenue and Receipts Cycle Activities Internal Control Objectives and Control Procedures Preliminary Assessment of Control Risk Tests of Controls Tests of Sales Transaction Tests of Cash Receipts Transactions Review of Preliminary Assessment of Control Risk Substantive Audit Procedures Substantive Tests of Sales Transactions Substantive Tests of Accounts Receivable 498

9 Hong Kong Auditing 7 Auditing the Sales and Cash Receipts System in an IT Environment Overview of the Computer Application System Computer-assisted Tests Summary 509 Exercise: Review questions and discussion questions Auditing the Purchases and Payments Cycle Description of Purchases and Payments Cycle Understanding the Internal Control Structure Purchases and Payments Cycle Activities Internal Control Objectives and Control Procedures Preliminary Assessment of Control Risk Tests of Controls Tests of Purchases Transactions Tests of Cash Payments Transactions Review of Preliminary Assessment of Control Risk Substantive Audit Procedures Substantive Tests of Purchases Transactions Substantive Tests of Accounts Payable Auditing the Purchases and Payments System in an IT Environment Overview of the Computer Application System Computer-assisted Tests Summary 549 Exercise: Review questions, discussion questions and case studies Auditing the Production Cycle Description of Production Cycle Understanding the Internal Control Structure Production Cycle Activities Internal Control Objectives and Control Procedures Preliminary Assessment of Control Risk Tests of Controls for Manufacturing Transactions Occurrence Completeness Accuracy, Cut-off and Classification Review of Preliminary Assessment of Control Risk Substantive Audit Procedures Substantive Tests of Manufacturing Transactions Substantive Tests of Inventory Account Balances 578

10 Detailed Chapter Contents 7 Audit of Beginning Inventory on First Time Engagement Inventories Taken Prior to Balance Sheet Date Audit Steps for Observing Physical Inventory Before Observation During Observation After Observation Audit of Inventory in an IT Environment Summary 588 Appendix 15: HKSA 501 Audit Evidence Additional Considerations for Specific Items 589 Exercise: Review questions, discussion questions and case studies Auditing the Payroll and Personnel Cycle Description of Payroll and Personnel Cycle Understanding the Internal Control Structure Payroll and Personnel Cycle Activities Internal Control Objectives and Control Procedures Preliminary Assessment of Control Risk Tests of Controls for Payroll Transactions Occurrence Completeness Accuracy, Cut-off and Classification Review of Preliminary Assessment of Control Risk Substantive Auclit Procedures Substantive Tests of Payroll Transactions Substantive Tests of Payroll Balances Auditing the Payroll System in an IT Environment Summary 621 Exercise: Review questions, discussion questions and case studies Auditing, Other Assets, Equities and Liabilities Fixed Assets ^ Internal Controls Substantive Tests Computer-assisted Substantive Tests Other Asset Balances Tests of Cash Tests of Prepayments Tests of Investments 650

11 Hong Kong Auditing 3 Owners' Equity Internal Controls Tests of Owners' Equity Dividends Liabilities " Current Liabilities Long-term Liabilities Accounting Estimates Summary 663 Appendix 17: Bank Confirmation Request 664 Exercise: Review questions, discussion questions and case studies Profit and Loss Disclosures and Completing the Audit Profit and Loss Disclosures Information to be Presented Profit and Loss for the Period ' Completing the Audit Subsequent Events Legal Representation Letters Client Representation Letters " Analytical Procedures Overall Assessment of Audit Risk Review of Working Papers Review of Presentation and Disclosures 692 ' 2.8 Review of Statement of Cash Flows Summary 693 Appendix 18A: Example of a Solicitor's Letter 694 Appendix 18B: HKSA 580 Management Representations 695 Appendix 18C: Example of a Management Representation Letter 697 Exercise: Review questions, discussion questions and case studies Audit Reporting Practices Auditor's Reporting Responsibility Applicable Financial Reporting Framework Forming an Opinion on the Financial Statements Circumstances when Applying the Financial Reporting Framework Results in Misleading Financial Statements Unqualified Reports Title of Report and Addressee The Introductory Paragraph Management's Responsibility for the Financial Statements Auditor's Responsibility Auditor's Opinion 726

12 Detailed Chapter Contents I Other Reporting Responsibilities Signature, Date of Audit Report and Auditor's Address Modified Reports Matters that Do Not Affect the Auditor's Opinion Matters that Do Affect the Auditor's Opinion Summary 736 Appendix 19A: XBRL - New Language for Business Reporting 738 Appendix 19B: Standard Unqualified Audit Report 740 Exercise: Review questions and discussion questions Internal and Operational Auditing Internal Auditing Essentials for Effective Internal Auditing Use of Internal Auditing Work Operational Auditing Comparison of Operational and Financial Auditing Conducting the Operational Audit Operational Audits for Specific Areas Operational Auditing as a Management Service Engagement Summary. 768 Exercise: Review questions and discussion questions 769