THE AUDIT PROCESS

1. THE AUDIT PROCESS UNC Charlotte Introduction to Auditing September 11, 2012

2. Preliminary Engagement Activities

3. Preconditions for an Audit Engagement • Determine acceptability of the financial reporting framework • Nature of the entity • Purpose of the financial statements • Nature of the financial statements • Applicable laws or regulations • Agreement of responsibilities of management • Preparation of the financial statement • Internal control • Determine if there are limitations on scope

4. Acceptance and Continuance Decision • Integrity of management and those charged with governance • Engagement team has necessary capabilities, time and resources • Engagement team can comply with ethical requirement • Any significant matters arising in the current or prior years • Background checks

5. Agree the Terms of the Audit Engagement • Objective and scope of the audit of the financial statements • Our responsibilities • Responsibilities of management • Expectation of management representations • Form of our communications • Limitations of an audit • Fee

6. Planning

7. Why Plan? • Organize and manage the engagement • Identify and resolve issues • Devote appropriate attention to important areas – setting scope • Select the right team – right size, right competencies • Facilitate the direction and supervision of the team

8. Understand the Entity and it’s Environment • External factors affecting the entity • Internal factors affecting the entity • The entity’s selection and application of accounting policies • The entity’s objectives and strategies • The entity’s financial performance

9. Understand Internal Control • Understand the control environment • Understand the entity’s risk assessment process • Understand the information system • Understand control activities • Understand monitoring of controls • Identify controls using the top-down approach

10. Determine Materiality • Information is material if its omission or misstatement could influence the economic decisions of users taken on the basis of the financial statements. Materiality depends on the size of the item or error judged in the particular circumstances of its omission or misstatement.

11. Consider Fraud Risks • Fraud is an intentional act that results in a material misstatement in financial statements. • Two types of fraud relevant to auditors are: • Misappropriation of assets • Fraudulent financial reporting • The auditor has a responsibility to plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud. • It is management’s responsibility to design and implement programs and controls to prevent, deter, and detect fraud. Management should set the proper tone; create and maintain a culture of honesty and high ethical standards

12. Fraud Risk Factors • Incentives or Pressures • Opportunity • Rationalization

13. Steps to Consider Fraud • Perform specific fraud inquiries • Management • Internal Audit • Those charged with governance • Hold engagement team discussions • Journal entry testing

14. Consider Antifraud Programs and Controls • Creating and maintaining a culture of honesty and high ethics • Evaluating the risks of fraud and implementing processes, procedures, and controls needed to mitigate the risks and reduce the opportunities for fraud. • May include controls over: • Significant and unusual transactions • Journal entries • Related party transactions • Management estimates

15. Determine Engagement Risk • Engagement risk is the risk that the Firm may be exposed to adverse consequences as a result of its associations with a client (e.g., negative publicity or litigation). • Assessed as: • Normal • Greater than normal • Much greater than normal

16. Factors Affecting Assessment of Engagement Risk • Management Characteristics and Integrity • Organization and Management Structure • Nature of the Business • Business Environment • Nature of the Audit Engagement • Financial Results • Business Relationships and Related Parties • Prior Knowledge and Experience • Likelihood of Intentional Misrepresentation

17. Identify material classes of transactions, account balances, and disclosures • Quantitative Significance • Qualitative Significance • Consider: • Amount • Susceptibility to misstatement • Volume and type of activity • Nature • Complexity

18. Identify and assess the risks of material misstatement, including any that are assessed as significant • What is Risk? • The financial statements as a whole may be subject to material errors or to misunderstanding by users. • Risk may be identified: • At the financial statement level • At the assertion level or account level • To determine significance, consider: • If it is a fraud risk • Complexity of the related transactions and calculations • Involvement of related parties • Degree of subjectivity • If it is outside the normal course of business

19. Evaluate the Going Concern Assumption Steps: • Identify events or conditions • Financial • Operating • Other • Evaluate Significance of identified condition or event • Consider management’s plans • Obtain representation if necessary • Document conclusion

20. Other Planning Steps • Involvement of an information technology specialist • Perform preliminary analytical procedures • analysis of changes in account balances • trend analysis • analysis of ratios • Summarize and communicate the audit plan

21. Execute the Audit

22. Design and implement overall responses to address the assessed risks of material misstatement • Respond to significant risks and to increased engagement risk • Controls testing: • Plan our tests of controls • Design and perform tests of controls • Inspection • Reperformance • Observation • Evaluate the results of our tests of controls

23. Design and implement overall responses to address the assessed risks of material misstatement • Substantive analytical procedures: • Perform substantive analytical procedures • Determine the threshold for substantive analytical procedures • Investigate and evaluate results of analytical procedures • Tests of details: • Perform tests of details • Evaluate the results of the tests of details • Consider going concern

24. Perform concluding analytical procedures • Compare information • Explain significant changes • Evaluate remaining changes • Make inquiries of management • Perform other audit procedures

25. Concluding and Reporting

26. Evaluate misstatements identified during the audit • Overall scope • Effect on the financial statements • Consider: • Quantitatively • Qualitatively

27. Evaluate the Sufficiency and Appropriateness of Audit Evidence • Was sufficient, appropriate audit evidence obtained? • Were our identified risks of material misstatement addressed?

28. Perform subsequent events review • For the period between the date of the financial statements and the date of our report. • To determine whether all subsequent events that may require adjustment of, or disclosure in, the financial statements on which we report have been recognized and properly treated in the financial statements. • Procedures: • Inquire of management • Read minutes • Read interim financial statements

29. Obtain Written Representations • Dated the same date as our report • Signed by members of management who are responsible for and knowledgeable about the matters covered by the representations (CEO, CFO, Controller…) • Should include all periods covered by our report • Must include a summary of misstatements

30. Prepare Audit Summary Memo • Conclusions about specific identified risks • Changes in the client’s business and industry that came to our attention subsequent to completion of the audit planning memorandum and that caused us to change our audit plan • Conclusion regarding the appropriateness of the going concern assumption • Overall conclusion reached in our evaluation of misstatements • Conclusion as to whether the audit work performed and the evidence obtained are appropriate and sufficient to support our audit opinion • The results of our subsequent events review • Discussion of significant issues and the conclusions reached • Conclusions about our assessment of engagement risk, as well as our decisions regarding engagement continuance.

31. Form an Opinion and Report on the Financial Statements OPINION OF THE FINANCIAL STATEMENTS • Public Companies – 10K to be filed with the SEC with 60 days after the entity’s year end (filed by the entity) • Nonpublic Companies – due dates vary, some have bank and other deadlines • Other reports – management letters, etc.

32. Communication • Communicate with management • Communicate with those charged with governance • Communicate deficiencies in internal controls to those charged with governance • Communicate with regulatory or enforcement authorities

33. Post Engagement Activities

34. Post Engagement Activities • Audit file clean-up • Audit file back-up • Assessment of engagement quality

35. Questions?