CHAPTER 1

OVERVIEW OF AUDIT PROCESS AND PRE- ENGAGEMENT ACTIVITIES

AUDIT- an 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. (American Accounting Association).
AUDIT PROCESS- The audit process is the sequence of different activities involved in an
audit. This process normally includes the following:

PHASE DESCRIPTION
1. PRE-ENGAGEMENT This phase will require a decision from the
auditor whether or not to accept a new client
or continue relationship with an existing one.
This process would require evaluation not
only of the auditor’s qualifications, but also
the integrity and auditability of the client's
financial statements.
Primary objective: To minimize the
likelihood of being associated to a client
whose management lacks integrity.

2. AUDIT PLANNING Audit planning involves the development of

an overall audit strategy, audit plan and audit
program. The auditor usually obtained more
detailed knowledge about the client's
business and industry in order to understand
the transactions and events affecting the
financial statements.
Preliminary assessment of risk and
materiality is also made during this phase.
Primary objective: to assess the different
risk associated with the audit to determine
the nature, timing and extent of further audit
procedures necessary to be performed.
3. CONSIDERATIONS OF INTERNAL Since entity's internal control directly affects
CONTROL the reliability of the financial statement, it is
appropriate to study and evaluate this
controls.
Primary Objective: To establish a basis for
reliance on internal controls, in determining
the nature, timing and extent of audit
procedures to be performed.
4. EVIDENCE GATHERING (SUBSTANTIVE Using the information obtained in audit
TESTING) planning and consideration of internal
controls, the auditor performs substantive test
to determine whether entity's financial
statements are presented fairly in accordance
with financial reporting standards.
Substantive procedures could either be
analytical procedures or test of details of
transactions and balances.
This phase will always be performed by the
auditor.
Primary Objective: To ascertain the degree
of correspondence between the financial
statements prepared by clients management

5. COMPLETING THE AUDIT
6. ISSUANCE OF THE AUDIT REPORT
and the financial reporting framework. With
this the auditor will be able to conclude
whether or not the financial statements are
presented fairly in accordance with financial
reporting standards.
Wrapping up procedures are performed;
conclusions reached are reviewed; and an
overall opinion is formed during this phase.
Primary Objective: To assist the auditor in
assessing conclusions reached is consistent
with evidence gathered.
In this stage, auditor prepares and issues
audit report which describes the scope of the
audit and states the auditor's conclusion
regarding the fairness of the financial
statements.
Primary Objective: To communicate the
conclusions reached by the auditor to various
intended users.

7. POST - AUDIT RESPONSIBILITIES After completion of the audit engagement,

auditing performs procedures that will enable
him/her identify areas improvement in the
current and future engagements.
Primary Procedure: To asses and evaluate
the quality of services delivered by the
engagement team.

PRE-ENGAGEMENT
Acceptance of an engagement
In making a decision whether to accept or to reject an engagement, an auditor should consider
the following:
1. Its competence
2. Its independence
3. Its ability to serve the client properly; and
4. The integrity of the prospective client’s management.
Furthermore, the auditor is expected to perform the following:
1. Obtain a preliminary knowledge of the client’s business and industry to determine
whether the auditor has the degree of competence required by the engagement.
2. Consider whether there are any threats to the firm’s independence and objectivity, and if
so, whether adequate safeguards can be established.
3. Evaluation of the firm’s ability to serve the prospective client.
4. Evaluate auditability.
5. Investigation of the integrity of the client’s management through inquiry to appropriate
parties or communication with the predecessor auditor.
Matters to be discussed with the predecessor auditor include the following: (RID)
a.) The predecessor's understanding as to the Reasons for change in auditors;
b.) Information that might bear on the Integrity of the management; and
c.) Disagreements between the predecessor auditor and management as to accounting
principles, auditing procedures, etc.
Note: Every time communication is made to parties other than the client, the auditor
shall seek permission from the client and document the items discussed.
6. Agree on the terms of the engagement and prepare an engagement letter.
Agreeing the Terms of Audit Engagements
The auditor and the client shall agree on the terms of engagement. The agreed terms would
need to be recorded in an audit engagement letter or other suitable form of contract.
It is in the interest of both client and the auditor that the author sends an engagement letter,
preferably before the commencement of the engagement to help avoid misunderstandings with
respect to the engagement. The engagement letter documents and confirms:
a. Auditor's acceptance of the engagement.
b. Objective and the scope of audit.
c. Extent of auditor's responsibilities to the client.
d. Form of any reports.
Contents of engagement letter (RA FORMS)
a. The presence of audit Risk
b. Unrestricted Access to whatever records
c. The financial reporting Framework used
d. Objective of the audit
e. The form of any Reports or other communication
f. Management's responsibility
g. The Scope of the audit
The auditor may also wish to include in the letter: (FRAP Reports)
a. Basis in which Fees are computed and any billing arrangements
b. Expectation of receiving Representation letter
c. Acknowledgement of management of terms of agreement
d. Arrangements regarding the Planning of the audit
e. Description of any other letters or Reports
When relevant, the following points could also be made:

 Arrangements concerning the involvement of other auditors and experts in some

aspects of the audit.
 Arrangements concerning the involvement of internal auditors and other staff.
 Arrangement to be made with the predecessor auditor, if any, in the case of
initial.
 Any restrictions of the auditor liability when such possibility exists.
 A reference to any further agreements between the auditor and the client.

Audit of Components
When the auditor of a parent entity is also the auditor of its subsidiary branch, or division
(component), the factors that influence the decision whether to send a separate engagement
letter to the component include the following:

 Who appoint the Component auditor:

 Legal requirements in relation to audit appointments:
 Degree of Ownership by parent:
 Whether a Separate auditor’s report is to be issued on the component : and
 Degree of Independence of the component’s management from the parent entity.
 Recurring Audits
On recurring audits, the auditor should consider whether circumstances require the terms of the
engagement to be revised and whether there is a need to remind the client of the existing terms
of the engagement. The auditor may decide not to send a new engagement letter each period.
However, the following factors may make it appropriate to send a new letter:

 Any indication that the client misunderstands the objective and scope of the audit.
 Any revised or special terms of the engagement.
 A recent change of management, board of directors or ownership.
 A significant change in ownership.
 A significant change in nature or size of the client’s business.
 A change in legal or regulatory requirements.
 A change in financial reporting framework adopted in the preparation of the financial
statements.
 A change in other reporting requirements.

Acceptance of a Change in Engagement

a. Stop performing the old agreements

b. Stop referring to the old

engagement, except when the new
YES engagement involves agreed upon
procedures

c. Start performing the new

engagement
Is there a reasonable
justification?

a. Continue the original audit

engagement

b. When prohibited to continue,

NO withdraw from the audit engagement

Note: Every time withdrawal is made,

the auditor should consider the
necessity of communicating the
reasons to appropriate level of
management.
Circumstances that could lead to Change in Engagement

Circumstances Justifiable?

1. Change in circumstances affecting /

the need for the service
2. A misunderstanding as to the /
nature of an audit or related
services originally requested
3. A restriction on the scope of the X
engagement, whether imposed by
management or caused by
circumstances
4. If the change relates to information X
that is incorrect, incomplete or
otherwise unsatisfactory
5. The auditor is unable to obtain x
sufficient appropriate audit
evidence regarding assertions