INTRODUCTION TO

AUDIT SERVICES AND

FINANCIAL STATEMENTS
AUDIT
DEFINITION OF AUDIT

• Is a systematic process of objectively obtaining and evaluating evidence

regarding assertions about economic actions and events to ascertain the
degree of correspondence between these assertions and established
criteria and communicating the results thereof.
Management’s assertions

• Existence or occurrence and validity

• Completeness and accuracy
• Rights and obligations
• Proper valuation or allocation
• Proper statement presentation and disclosure
Management’s assertions

• Existence or occurrence and validity: this relates to whether specific assets

and liabilities exist at a given point in time and whether recorded
transactions represent economic events that occurred during the year.
• Completeness and accuracy: this involves determining whether all
transactions that should have been recorded by the client are accurately
included in the accounts.
Management’s assertions

• Rights and obligations: this requires the auditor to obtain evidence that the
client has rights to existing assets and that existing liabilities and owners’
equity claims against the entity are valid.
• Proper valuation or allocation: this involves determining whether financial
statement elements are stated at the proper amount in accordance with
GAAP.
Management’s assertions

• Proper statement presentation and disclosure: this involves determining

whether statement items are properly identified, classified and arranged in
the statements and whether accompanying disclosures are adequate.
BASIC DISTINCTION BETWEEN AUDITING AND
ACCOUNTING
• Auditing involves verification of financial statements and its fairness of presentation while accounting involves
preparation and presentation of financial statements.
• Accounting precedes auditing because without financial statements there could be no financial statements audit.
• Auditing begins when accounting ends.
• The product of the accounting process is a set of financial statements while the end product of the audit process is
an auditor’s report.
• An auditor must be proficient/expert in accounting (since the auditor will use GAAP in evaluating the fairness of the
financial statements) as well as in auditing (specifically in accumulation and interpretation of audit evidence); an
accountant need not be proficient in auditing.
• Auditing is a separate discipline or field of study.
• With different frameworks/foundations: for accounting: framework for financial reporting while auditing: Philippine
Framework for Assurance Engagements and Framework of Philippine Standards on Auditing.
TYPES OF AUDIT

• As to nature of assertion or data

• As to types of the auditor
Types of audit as to nature of assertion or data

• Financial statement (FS) audit

• Operational audit
• Compliance audit
Types of audit as to nature of assertion or data

• Financial statement (FS) audit: a type of audit pertaining to the gathering

of evidence on the assertions embodied in the financial statements of an
entity to determine whether the financial statements are fairly presented in
accordance with generally accepted accounting principles or another
comprehensive and authoritative financial reporting framework. The results
of this type of audit are for the use of external users.
Types of audit as to nature of assertion or data

• Operational audit: a type of audit involving a systematic review of the

organization’s activities in relation to specified objectives for the purpose
of assessing the performance, identifying opportunities for improvement,
and developing recommendations for improvement or further action. Also
known as management audit or performance audit.
• Compliance audit: type of audit involving the review of organizations
procedures to determine whether the organization has adhered to
specific procedures and rules set down by some higher authority.
Types of audit as to types of auditor

• External auditor
• Internal auditor
• Government auditor
Types of audit as to types of auditor

• External auditor: a type of audit engagement performed by independent

or external CPAs on a contractual basis (rendered by CPAs engaged in
public practice). It emphasizes that the auditor must not be a member of
the entity being audited and it can provide financial statements,
operational and compliance audits to private entities.
Types of audit as to types of auditor

• Internal auditor: an independent appraisal function established with an

organization to examine and evaluate its activities as a service to
organizations. Its primary objective is to assist all members of the
organization in the effective discharge of their responsibilities and also it
can perform operational and compliance audits (for internal use) but not
financial statements audit because of independence requirements.
Types of audit as to types of auditor

• Government auditor: the primary objective of this type of audit is to

determine whether government funds are being handled properly and in
compliance with existing laws and whether programs are being
conducted efficiently and effectively. It can provide financial statements,
operational and compliance audits to public entities including
government-owned and controlled corporations (GOCCs).
Comparison of the different types of audit
FS Audit Operational Audit Compliance Audit

Assertion Financial statements are Operations are Activities complied with

s fairly presented. conducted applicable laws, rules,
efficiently and regulations, contracts, or
effectively. management policy.

Suitable GAAP or any other Objective set by Applicable contracts,

Criteria identified financial the management rules, regulations, laws, or
reporting framework management policy.
Comparison of the different types of audit

FS Audit Operational Audit Compliance Audit

Report An opinion on Report on Degree of
whether the efficiency and compliance with
financial effectiveness. This applicable laws,
statements are will also include rules, regulations, or
fairly presented in recommendations management
conformity with an to improve policy.
identified financial operations.
reporting
framework.
Generally External auditors Internal Auditors Government
performed by auditors
FINANCIAL STATEMENTS
AUDIT
Objective of financial statements audit (PSA
200)
• To obtain reasonable assurance about whether the financial statements
as a whole are free from material misstatement, whether 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 PSAs, in accordance with the auditor’s findings.
General principles of a financial statements
audit
• Whenever financial statements audits are conducted, the following
principles must be observed by the auditor:
• Comply with the Code of Ethics for Professional Accountants
• Conduct an audit in accordance with Philippine Standards on Auditing
• Maintain an attitude of professional skepticism
• Exercise professional judgment
• Obtain sufficient and appropriate evidence.
Theoretical framework of a financial statements
audit
• To have a favorable result, the conceptual structure includes conditions that should
exist whether a financial statement audit is conducted. The following are some of the
assumptions, postulates, or concepts included in this conceptual structure:
• All financial data are verifiable through the existence of supporting documents and
records.
• The auditor should always maintain independence
• No long-term conflict between the auditor and the client’s management should exist.
• Audit benefits the public.
• Effective internal control system reduces the possibility of errors and fraud.
Review of elements of a financial statements
audit
• A three-party relationship
• An appropriate subject matter
• Suitable criteria
• Sufficient appropriate evidence
• A written assurance report or conclusion
Review of elements of a financial statements
audit (three party relationship)
Parties Responsibilities

Auditor (represents • Formation and expression of an opinion on the financial

the practitioner) statements.
• Compliance with ethical requirements (independence and
competence)
• Determining the scope of audit in accordance with PSAs and
other applicable regulations of professional bodies.
Management and • Preparation and preparation of the FS in accordance with
those charged with the applicable financial reporting framework.
governance • Prevention and detection of fraud and error.
(represents the • Adoption and implementation of adequate accounting and
responsible party) internal control systems.

Users of FS • Use the audit report which contains the opinion expressed by
(represent the the auditor
intended users)
Review of elements of a financial statements
audit (appropriate subject matter)
• In a financial statement audit, the assertions embodied in the financial
statements represent the subject matter of the engagement. For the
financial statements to be an appropriate subject matter for an audit
engagement, adequate supporting records and documents should be
available. This concept is popularly known as “auditability”.
Review of elements of a financial statements
audit (suitable criteria)
• Criteria used in an audit of financial statements generally include the
PFRS/IFRS, GAAP and other applicable financial reporting framework.
Review of elements of a financial statements
audit (sufficient appropriate evidence)
Review of elements of a financial statements
audit (a written assurance report or conclusion)
• The auditor provides a written report called an “audit report” which
contains the conclusion or opinion conveying the assurance obtained
about the financial statements.

Type Common phrase used

Unmodified or unqualified Presents fairly, in all material
respect
Qualified Except for
Adverse Do not present fairly, in all material
respect
Disclaimer of opinion We do not express a conclusion.
• To warrant the issuance of an unmodified opinion, the auditor shall conclude
that there are no:
• Material limitation on the scope of the auditor’s work (qualified or disclaimer of
opinion). There is a limitation on the scope of the audit when the auditor is
unable to gather sufficient appropriate evidence.
• Material disagreement with management regarding the acceptability of the
accounting policies selected, the method of their application, or the
adequacy of financial statement disclosures (qualified or adverse opinion).
 Circumstance Auditor’s judgment about the pervasiveness of the
effects or possible effects on the financial statements
Material but not pervasive Material and Pervasive
Financial statements are Qualified opinion Adverse opinion
materially misstated
Inability to obtain sufficient Qualified opinion Disclaimer of opinion
appropriate audit
evidence
Business risk

• Any event or activity that will prevent the entity from meeting its business
objectives such as wealth and profit maximization. If an entity is exposed
to significant business risk, such risk may ultimately lead the entity to fail.
Information risk

• Is the risk that the information prepared and presented by the entity
contains misstatements. Information risk is the mathematical complement
of reliability level. This means that as information risk increases, reliability
level decreases.
• information risk factors are the following: voluminous data, complexity of
transactions, remoteness of information and conflict of interest.
To reduce information risk, users do the
following:
• Information is verified
• Financial statements are audited
• Information risk is shared with the management
Regulatory requirements

• Local laws and regulations may also require business entities to submit
audited financial statements.
• General financial reporting requirements (revised securities regulation
code)
• Tax compliance requirements
Regulatory requirements: General Financial
Reporting Requirements
Entity Basis Threshold

Stock corporations Total assets or Total P600,000 or more

Liabilities
Nonstock corporations

Branch Assigned capital P1,000,000 or more

offices/representative
offices of stock foreign
corporations

Branch Total assets

offices/representative
offices of non-stock foreign
corporations

Regional operating Total revenues

headquarters of foreign
corporations
Regulatory requirements: Tax compliance
requirements
• Corporations, companies, partnerships or persons: gross annual sales, earnings, receipts,
or outputs (threshold: greater than P3,000,000)
• For entities that meet the above threshold, there are required to:
• Have their books of accounts audited and examined yearly by independent certified
public accountants and
• Their income tax returns are accompanied by a duly accomplished account
information form (AIF) which shall contain, among others, information lifted from
certified balance sheets, profit and loss statements, schedules listing income-producing
properties, and the corresponding income therefrom, and other relevant statements.