Generally Accepted Auditing Standards - Essay Example

Requirement The following are the Generally Accepted Auditing Standards (GAAS) along with their specific categories (Generally Accepted Auditing Standards, 2006, pp. 81-82): "General Standards: 1. The audit is to be performed by a person or persons having adequate technical training and proficiency as an auditor. 2. In all matters relating to the assignment, an independence in mental attitude is to be maintained by the auditor or auditors. 3. Due professional care is to be exercised in the performance of the audit and the preparation of the report. Standards of Field Work: 1. The work is to be adequately planned and assistants, if any, are to be properly supervised. 2. A sufficient understanding of internal control is to be obtained to plan the audit and to determine the nature, timing, and extent of tests to be performed. 3. Sufficient competent evidential matter is to be obtained through inspection, observation, inquiries, and confirmations to afford a reasonable basis for an opinion regarding the financial statements under audit. Standards of Reporting: 1. The report shall state whether the financial statements are presented in accordance with generally accepted accounting principles (GAAP). 2. The report shall identify those circumstances in which such principles have not been consistently observed in the current period in relation to the preceding period. 3. Informative disclosures in the financial statements are to be regarded as reasonably adequate unless otherwise stated in the report. 4. The report shall contain either an expression of opinion regarding the financial statements, taken as a whole, or an assertion to the effect that an opinion cannot be expressed. When an overall opinion cannot be expressed, the reasons therefore should be stated. In all cases where an auditor's name is associated with financial statements, the report should contain a clear-cut indication of the character of the auditor's work, if any, and the degree of responsibility the auditor is taking". The above standards validate that some of the listed situations bear the capability to violate the GAAS standards. The situations that might go against the GAAS standards are discussed below: The fact that the external auditors will not be able to physically inspect or examine the audit procedures does not comply with the GAAS (Standards of Field Work, No. 3). This standard explicitly requires the auditor's ability to examine, inspect, observe and confirm the accounting information obtained during the audit procedures. Standard No. 3 of GAAS General Standards requires "mental independence" on the part of the auditor, which might not be fulfilled because the acquiring auditing firm's principal partner is a cousin to TPC's CEO. In this situation, the auditor might not be able to give a free and independent opinion and rather be under significant pressure throughout the process. The last situation is entirely in violation of GAAS Standards of Reporting No. 1. This standard requires that the company's financial statements should be in full compliance with the Generally Accepted Accounting Principles (GAAP). However, according to the aforesaid situation, TPC's accounting records have not been prepared in accordance with the GAAP standards. In order to bring the audit in compliance with the GAAS standards, the first action that should be taken is to provide the auditor complete mental freedom to undertake the audit process and independently obtain the information required to carry out the process. This can be done if the influence of auditor's relative is avoided. Another step which is important to be undertaken is that the auditors should be provided an opportunity to perform physical examination wherever possible. Otherwise the auditor will need to mention his inability to perform physical inspection in the report and reflect this fact in his final opinion to bring the audit in compliance with the GAAS standards. Also any corrections in TPC's accounts and financial recording should be made, where possible, so as to follow the rules and regulations as given by "Generally Accepted Accounting Principles" (GAAP). This happens to be an important element of audit under GAAS standards. If the auditor remains unable to obtain information and disclosure that could serve to be evidences for accounting records, it should be mentioned in the audit report. Because of the fact that physical inspection is not possible due to the time lapse, the auditor should explicate the circumstances that restrained him or her to obtain sufficient evidences to support the accounting information. Reference List Generally Accepted Auditing Standards (June, 2006). AICPA. Retrieved January 18, 2007 from the World Wide Web http://www.aicpa.org/download/members/div/auditstd/AU-00150.PDF Requirement 2: Materiality and risk are very closely interlinked with each other. Materiality implies the nature of significance of an item or information pertaining to its ability to influence the decisions of various users of financial statements as a group (IAASB, 2004). Audit risk, on the other hand, simply involves a "material misstatement" of an item or information that bears the capability to influence the investors' economic decisions (Holder, Schermann & Whittington, 2003, para. 6). This reveals that audit risk arises out of an intentional or unintentional error on the part of the auditor constituting material misstatement. The failure of an auditor to determine materiality arouses the audit risk. Therefore there can be no conceptual understanding of risk without materiality (McKee and Eilifsen, 2000). Materiality and risk have inverse relationship with each other (McKee and Eilifsen, 2000). The nature of risk increases with the amount of materiality. The lower the materiality amount, the higher becomes the risk. If the materiality amount is reduced substantially and the auditor continues to obtain the same level of evidence for audit, there will be greater risk of misstatement. However, if sufficient evidence is obtained corresponding to materiality amount, the risk will remain at the same level as before. Materiality and risk are dependent on each other because poor determination of materiality or improper decisions concerning the materiality criteria will have a significant impact on the level of risk associated with the audit. If decisions concerning materiality amount and determination of material level are sound, the risk can be minimized. Audit risk, on the other hand, rises considerably in case if the auditor chooses a wrong amount of materiality (McKee and Eilifsen, 2000). Materiality and risk are significantly incorporated into the audit process. The SAS No. 47 "Audit Risk and Materiality in Conducting an Audit" delineates the way the concept of materiality should be used for the purpose of audit. It states that auditors are required to give due consideration to materiality during the process of audit planning as well as in the provision of audit opinion in the report. It also requires auditors to determine the possible misstatements and to obtain sufficient evidence to discover the misstatements that fall within the realm of materiality. The auditor should therefore make a point to provide sufficient assurance at all levels in the audit process to detect the possible 'material misstatements' based on the criteria of materiality already established. Hence, an auditor evaluates all the financial information on the basis of materiality and strives to obtain sufficient evidence reduce the risks of material misstatement throughout the audit process (Holder, Schermann & Whittington, 2003). The SAS (Statements on Auditing Standards) No. 39 is an example of statement which uses both materiality and tolerable risk. The standard explicitly states that "auditors should normally set tolerable misstatement for a specific audit procedure at less than financial statement materiality so that when the results of the audit procedures are aggregated, the required overall assurance is attained" (Statement on Auditing Standards, para. 17). Hence the statement clearly requires the auditors to consider "tolerable misstatements" or tolerable risk for different audit accounts at a lower level as compared to the tolerable risk of overall financial statements. Reference List Statement on Auditing Standards No. 111. AICPA. Retrieved January 18, 2007 from the World Wide Web http://www.aicpa.org/download/members/div/auditstd/SAS111.PDF IAASB. Proposed International Standard on Auditing (ISA) 320 (Revised), Materiality in the Identification and Evaluation of Misstatements (Dec., 2004). IFAC. Retrieved January 18, 2007 from the World Wide Web http://www.ifac.org/Guidance/EXD-Details.phpEDID=0038 McKee, T.E. and Eilifsen, A. (July, 2000). Current Materiality Guidance For Auditor. The CPA Journal. Retrieved January 18, 2007 from the World Wide Web http://www.nysscpa.org/cpajournal/2000/0700/00-0701Departments/d75400a.htm Holder, W.W., Schermann, K.R. and Whittington, R. (Nov., 2003). Materiality Considerations. Retrieved January 18, 2007 from the World Wide Web http://www.aicpa.org/pubs/jofa/nov2003/holder.htm Read More