What are the key requirements of an independent auditor under SA 200?

STANDARDS ON AUDITING

SA 200 - 299 General Principles and

Responsibilities

Contents

 SA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing  SA 210 - Agreeing the Terms of Audit Engagements  SA 220 - Quality Control for an Audit of Financial Statements  SA 230 – Audit Documentation  SA 240 - The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements  SA 250 - Consideration of Laws and Regulations in an Audit of Financial Statements  SA 260 - Communication with Those Charged with Governance  SA 265 - Communicating Deficiencies in Internal Control to Those Charged with Governance and Management  SA 299 – Joint Audit of Financial Statements

SA 200 - Overall Objectives of the Independent Auditor and the

conduct of an Audit in accordance with Standards on Auditing

1. 1 Introduction

Standards on auditing are written in context of an audit of financial statements by an auditor.

Independent auditor is obliged to comply with all the SAs relevant for the audit of financial statements. They are to be adapted if the circumstances addressed in the SAs exists in the audit.

The auditor is required to have an understanding of the complete SA, with respect to its objectives and application.

1. 2 Scope of SA 200

.

• Establishing overall responsibilities of Independent Auditor when conducting an audit of financial statements.
• Explains the nature and scope of an audit.
• Scope, authority & structure of Standards on Auditing

SAs do not impose responsibilities on management or those charged with governance and do not override laws and regulations that govern their responsibilities.

Contents

 Scope of SA  Overall objectives of Independent Auditor & Scope of Audit  Audit of Financial Statements  Requirements of Auditor  Compliance with SAs  Audit Risk  Inherent Limitations of Audit

• To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, due to fraud or error, thereby enabling the auditor to express an opinion on whether the financial statements are prepared, in all material respects, in accordance with an applicable financial reporting framework;
• To report on the financial statements, and communicate as required by the SAs, in accordance with the auditor’s findings.
• Issuing an appropriate audit opinion or withdraw from the engagement, if required and legally permitted.

These support auditor in obtaining reasonable assurance.

1. 1. 3 Audit of Financial Statements

SAs include

Objectives Requirements Application

Other explanatory material

Reasonable assurance is a high level of assurance but is not an absolute level of assurance, because there are inherent limitations of an audit.

Auditor expresses

opinion regarding

financial health of the

organisation

When reasonable assurance cannot be obtained and a qualified opinion in the auditor’s report is insufficient, auditor can disclaim an opinion or withdraw from the engagement, where withdrawal is legally permitted

• Financial statements are prepared by the management of the entity and the auditor carries out an audit on such financials to express an opinion whether such financial statements reflect true and fair view of the financial condition of the entity.

Management’s Responsibility The audit of the financial statements does not relieve management or those charged with governance of their responsibilities. Their main responsibilities are:  Maintain adequate accounting records  Select and apply appropriate accounting policies  Design internal controls in line with size and nature of the entity  Prevent and early detection of fraud and error  Follow fundamental accounting assumptions  Preparation of financial statements in accordance with applicable framework  Safeguard assets

Performed by Auditor for the benefit of members/ intended users

Objective Enhance degree of confidence of intended users in financial statements

Outcome

Opinion expressed whether or not financial statements prepared as per financial reporting framework give true and fair view

Requirements Auditor to ensure audit is conducted as per SAs & other ethical requirements

Audit is an independent examination of financial information of an entity with a view to expressing an opinion there on.

• Auditors’ approach

 Identify and assess risks of material misstatement, whether due

to fraud or error, based on an understanding of o the entity o entity’s environment, o entity’s internal control.  Obtain sufficient appropriate audit evidence about whether material misstatements exist, through designing and implementing appropriate responses to the assessed risks.  Form an opinion on the financial statements based on conclusions drawn from the audit evidence obtained and will depend upon the applicable financial reporting framework and any applicable laws or regulations.

• The auditor may communicate and report to users, management or others as per SAs or applicable laws or regulations.

Identify Risk

Obtain evidence

Form Opinion

1. 1. 4 Scope of audit

 Statute governing the enterprise  Pronouncements of ICAI like AS and SAs  Terms of engagement. However, terms of engagement can’t override the other two

1. 3 Concept of True and Fair The concept of true and fair is a fundamental concept in auditing. The phrase “true and fair” in the auditor’s report signifies that the auditor is required to express his opinion as to whether the state of affairs and the results of the entity as ascertained by him in the course of his audit are truly and fairly represented in the accounts under audit. What constitutes a ‘true and fair’ view is a matter of an auditor’s judgment in the particular circumstances of a case. In more specific terms, to ensure true and fair view, an auditor has to see:  that the assets are neither undervalued nor overvalued, according to the applicable accounting principles,  no material asset is omitted  the charge, if any, on assets are disclosed  material liabilities should not be omitted  the profit and loss account and balance sheet disclose all the matters required to be disclosed  accounting policies have been followed consistently and  all unusual, exceptional or non-recurring items have been disclosed separately.

2. 4 Requirements of an Auditor as per SA 200

SA 200 covers the following major aspects with respect to the requirements an auditor has to fulfil:  Ethical requirements in relation to financial statements.  Carry out audit with professional skepticism  Exercise professional judgement wherever required.  Obtain sufficient and appropriate audit evidence.  Comply with Standards on Auditing.

1. 1. 1 Ethical Requirements of an Auditor

 Professional skepticism doesn’t mean that auditor doubts every bit of information given by the client. Auditor may accept records provided to him as genuine unless he has a reason to believe the contrary. However, he should bear in mind that there is a possibility of its misstatement and follow a cautious approach.

1. 1. 3 Professional Judgement .

 Professional Judgment is necessary for audit procedures in aspects like  Materiality and audit risk.  The nature, timing, and extent of audit procedures used to meet the requirements of the SAs and gather audit evidence.  Evaluating whether sufficient appropriate audit evidence has been obtained, and whether more needs to be done to achieve the objectives of the SAs and thereby, the overall objectives of the auditor.  The evaluation of management’s judgments in applying the entity’s

Auditor’s professional

judgement should be

rational, reasonable and

appropriate to the

circumstances.

Benefits of following professional skepticism – Minimize the risk of overlooking - Unusual circumstances - Using inappropriate assumptions

Auditor should not doubt

everything but always be

alert that there is a

possibility of

misstatement.

Professional judgement is judgement taken by auditor out of his professional experience in an audit situation

applicable financial reporting framework.  The drawing of conclusions based on the audit evidence obtained, for example, assessing the reasonableness of the estimates made by management in preparing the financial statements.

1. 1. 4 Sufficient & Appropriate Audit Evidence

Audit evidence is cumulative in nature and is primarily obtained from audit procedures performed during the course of the audit.

In Audit both quality and quantity are equally important. This concept is elaborated in SA 500.

1. 1. 5 Compliance with SAs

The auditor shall comply with all SAs relevant to the audit. SA is relevant to the audit when the SA is in effect and the circumstances addressed by

Professional Skepticism vs Professional Judgement Professional skepticism is necessary for high-quality professional judgment, but it is only one component of what is necessary for the auditor to exercise sound professional judgment. For example, skepticism without requisite accounting and auditing industry expertise is not sufficient to obtain high-quality judgment.

Sufficient Audit Evidence = Quantity of evidence. (Eg. Testing the 70% of the transactions.) Appropriate Audit Evidence = Quality of evidence. (relevance & reliability in supporting auditor’s conclusion) (Eg. Obtaining 3rd Party confirmations.)

The risk that the procedures performed by the auditor to reduce audit risk to an acceptably low level will not detect a misstatement that exists and that could be material, either individually or when aggregated with other misstatements.

Auditor has to plan his procedures to minimize the audit risk after taking into consideration the three risks.

1. 1. 2 Risk of Material Misstatement

Risk of material misstatement exists at two levels.

Overall financial statement level The overall financial statement level (risks of material misstatement that relate pervasively to the financial statements as a whole and potentially affect many assertions) and

Assertion level

Control Risk is inversely related to Detection Risk.

If the internal controls of an organization are effective it means the control risk is low and auditor will perform lesser audit procedures which results in higher detection risk and vice versa.

Misstatement – A difference between the amount, classification, presentation, or disclosure of a reported financial statement item and the amount, classification, presentation, or disclosure that is required for the item to be in accordance with the applicable financial reporting framework

The assertion level for classes of transactions, account balances, and disclosures.

SA 315 establishes requirements and provides guidance on identifying and assessing the risks of material misstatement at the financial statement and assertion levels.

1. 1. 3 Audit risk & Audit plan Auditor has to plan his procedures to minimize the audit risk after taking into consideration the three risks.

Example: The inherent risk is that it's raining, which is controlled by the nature and has no bearing of the audit. This is compared to the risk that misstatements are likely to occur in Financial Statements. Like how an umbrella can help us from not getting wet, controls of company are designed to avoid misstatements. The risk that we might get wet even after using an umbrella is control risk. Next is the detection risk, where we did not anticipate the rainfall or the size of the umbrella is smaller than required is compared to audit procedures to apply during the audit. All the three risks together make Audit risk.

1. 6 Objective Stated in Individual SAs

To achieve the overall objectives of the auditor, the auditor shall use the objectives stated in relevant SAs in planning and performing the audit, having regard to the interrelationships among the SAs, to  Determine whether any audit procedures in addition to those required by the SAs are necessary in pursuance of the objectives stated in the SAs; and  Evaluate whether sufficient appropriate audit evidence has been obtained.

1. 1. 1 Failure to achieve an objective

Misstatements can arise from error or fraud.

preparation and presentation of the financial statements.  Certain carefully laid frauds might not be unearthed during the normal course of audit.  Generally, test check basis is adopted, not 100% checking. So, some underlying misstatement might remain undetected.  Audit is persuasive, not conclusive.  Limitations on knowledge of client’s business also poses a problem.  Need for the audit to be conducted within a reasonable period of time and at a reasonable cost.

1. 8. 1 Factors affecting inherent limitations

Factors affecting inherent limitations are addressed in other auditing standards. Following are few of the factors:  Fraud, particularly fraud involving senior management or collusion.  The existence and completeness of related party relationships and transactions.  The occurrence of non-compliance with laws and regulations.  Future events or conditions that may cause an entity to cease to continue as a going concern.

1. 8. 2 Inherent limitations and Auditors’ responsibility

Because of the inherent limitations of an audit, there is an unavoidable risk that some material misstatements of the financial statements may not be detected, even though the audit is properly planned and performed in accordance with SAs.

Accordingly, the subsequent discovery of a material misstatement of the financial statements resulting from fraud or error does not by itself indicate a failure to conduct an audit in accordance with SAs.

Whether the auditor has performed an audit in accordance with SAs is determined by the audit procedures performed in the circumstances, the sufficiency and appropriateness of the audit evidence obtained as a result thereof and the suitability of the auditor’s report based on an evaluation of that evidence in light of the overall objectives of the auditor.

The inherent limitations of an audit cannot be a justification for the auditor to be satisfied with less- than-persuasive audit evidence

2. SA 220 Agreeing the Terms of Audit Engagements

1. 1 Introduction An auditor has to ascertain few aspects before accepting or continuing an audit engagement.  Ascertain whether the pre-conditions for an audit are present and  Confirming that there is a common understanding between the auditor and management of the terms of the audit engagement.
2. 1. 1 Terms of Engagement (TOE)

The auditor shall agree the terms of the audit engagement with management or those charged with governance, as appropriate through an

engagement letter.

The following are the broad aspects included in the engagement letter:

Terms of Engagement - The official conditions that someone must agree to before they can start to be employed/ engaged by someone.

Prepared by – Auditor (Chartered Accountant – Proprietor or Partner of the firm) Signed by – Management (Those charged with governance like CEO or MD) & Auditor Prepared at – Start of the audit Contains - Terms of engagement i. the terms agreed by the auditor with management as to how to conduct the audit.

Contents

 Terms of Engagement  Pre-conditions of an Audit  Factors affecting independence of audit  Engagement Letter  Change in terms of engagement

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