CPA REVIEW SCHOOL OF THE PHILIPPINES AT-9303

Manila

AUDITING THEORY CPA Review

AGREEING THE TERMS OF AUDIT ENGAGEMENTS

(PSA 210)

1. The objective of the auditor is to accept or continue an audit engagement only when the basis
upon which it is to be performed has been agreed, through:

a) Establishing whether the preconditions for an audit are present; and

b) Confirming that there is a common understanding between the auditor and management and
where appropriate, those charged with governance of the terms of the audit engagement.

Preconditions for an audit –

a) The use by management of an acceptable financial reporting framework in the preparation of the
financial statements; and
b) The agreement of management and, where appropriate, those charged with governance to the
premise on which an audit is conducted.

2. Audit Engagement Letters

The agreed terms of the audit engagement shall be recorded in an audit engagement letter
or other suitable form of written agreement and shall include:
a) The objective and scope of the audit of the financial statements;
b) The responsibilities of the auditor;
c) The responsibilities of management;

d) Identification of the applicable financial reporting framework for the preparation of the financial
statements; and
e) Reference to the expected form and content of any reports to be issued by the auditor and a
statement that there may be circumstances in which a report may differ from its expected form
and content.

3. Acceptance of a Change in Engagement

1. An auditor who, before the completion of the engagement, is requested to change the
engagement to one which provides a lower level of assurance, should consider the
appropriateness of doing so.
2. A request from the client for the auditor to change the engagement may result from:
A. A change in circumstances affecting the need for the service;
B. A misunderstanding as to the nature of an audit or related service originally requested; or
C. A restriction on the scope of the engagement, whether imposed by management or caused by
circumstances.
3. A change would not be considered reasonable if it appeared that the change relates to
information that is incorrect, incomplete or otherwise unsatisfactory.
4. Before agreeing to change an audit engagement to a related service, an auditor would
also consider any legal or contractual implications of the change.
5. If the auditor concludes that there is reasonable justification to change the engagement
and if the audit work performed complies with the PSAs applicable to the changed
engagement, the report issued would be that appropriate for the revised terms of
engagement.
6. In order to avoid confusing the reader, the report would not include reference to:
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a. The original engagement; or

b. Any procedures that may have been performed in the original engagement, except where the
engagement is changed to undertake agreed-upon procedures.
7. Where the terms of the engagement are changed, the auditor and the client should agree
on the new terms.
8. The auditor should not agree to a change of engagement where there is no reasonable
justification for doing so.
9. If the auditor is unable to agree to a change of the engagement and is not permitted to
continue the original engagement, the auditor should withdraw and consider whether
there is any obligation, contractual or otherwise, to report to other parties, such as the
board of directors or shareholders, the circumstances necessitating the withdrawal.

MULTIPLE CHOICE QUESTIONS

1. The auditor may accept or continue an audit engagement only when the basis upon which it
is to be performed has been agreed, through
I. Establishing whether the preconditions for an audit are present.
II. Confirming that there is a common understanding between the auditor and management
and, where appropriate, those charged with governance of the terms of the audit
engagement.
A. I only
B. II only
C. Both I and II
D. Neither I nor II

2. Before accepting an engagement to audit a new client, a CPA is required to obtain:

A. An understanding of the prospective client's industry and business.
B. The prospective client's signature to the representation letter.
C. A preliminary understanding of the prospective client's control environment.
D. The prospective client's consent to make inquiries of the predecessor auditor, if any.

3. Which of the following is not correct regarding the communications between successor and
predecessor auditors?
A. The burden of initiating the communication rests with the predecessor auditor.
B. The burden of initiating the communication rests with the successor auditor.
C. The predecessor auditor must receive their former client’s permission prior to divulging
information to the successor auditor.
D. The predecessor auditor may choose to provide a limited response to a successor auditor.

4. Before accepting an audit engagement, a successor auditor should make specific inquiries of
the predecessor auditor regarding:
A. The predecessor’s evaluation of matters of continuing accounting significance
B. Disagreement which the predecessor had with the client concerning auditing procedures
and accounting principles
C. The degree of cooperation the predecessor received concerning the inquiry of the client’s
legal counsel
D. The predecessor’s assessment of inherent risk and judgments about materiality

5. Which of the following auditor concerns most likely could be so serious that the auditor
concludes that a financial statement audit cannot be performed?
A. Management fails to modify prescribed internal controls for changes in information
technology.
B. Internal control activities requiring segregation of duties are rarely monitored by
management.
C. Management is dominated by one person who is also the majority stockholder.
D. There is a substantial risk of intentional misapplication of accounting principles.

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6. The scope and nature of an auditor’s contractual obligation to a client is ordinarily set forth in
the
A. Management representation letter.
B. Opinion section of the auditor’s report.
C. Engagement letter.
D. Basis for Opinion section of the auditor’s report.

7. An auditor is required to establish an understanding in writing with a client regarding the

services to be performed for each engagement. This understanding generally includes
A. Management’s responsibility for errors and the illegal activities of employees that may
cause material misstatement.
B. The auditor’s responsibility for ensuring that those charged with governance are aware of
any significant deficiencies or material weaknesses in internal control that come to the
auditor’s attention.
C. Management’s responsibility for providing the auditor with an assessment of the risk of
material misstatement due to fraud.
D. The auditor’s responsibility for determining preliminary judgments about materiality and
audit risk factors.

8. The engagement letter documents and confirms the

A B C D
Auditor’s acceptance of the appointment Yes Yes Yes Yes
Objective and scope of the audit Yes No Yes Yes
Extent of the auditor’s responsibilities to the client No Yes No Yes
Form of any reports Yes No No Yes

9. An engagement letter should ordinarily include information on the objectives of the

engagement and
Auditor’s Management’s Limitation of
Responsibilities Responsibilities Engagement
A. Yes Yes No
B. No No No
C. Yes No Yes
D. Yes Yes Yes

10. Which of the following statements would least likely appear in an auditor’s engagement letter?
A. Fees for our services are based on our regular per diem rates, plus travel and other out-
of-pocket expenses.
B. Management is responsible for making all financial records and related information
available to us.
C. Our engagement is subject to the risk that material errors or fraud, if they exist, will not
be detected.
D. After performing our preliminary analytical procedures, we will discuss with you the other
procedures we consider necessary to complete the engagement.

11. The following are usually included in an auditor’s engagement letter, except
A. List of audit procedures to be used in inventory observation.
B. The financial statements are the responsibility of the company’s management.
C. A reference to PFRS.
D. A reference to PSAs.

12. An auditor’s engagement letter most likely will include

A. A request for permission to contact the client’s lawyer for assistance in identifying
litigation, claims, and assessments.
B. A reminder that management is responsible for illegal acts committed by employees.
C. The auditor’s preliminary assessment of the risk factors relating to misstatements arising
from fraudulent financial reporting.
D. Management’s acknowledgment of its responsibility for such internal control as it
determines is necessary to enable the preparation of financial statements that are free
from material misstatement.

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13. An auditor who, before the completion of the engagement, is requested to change the
engagement to one which provides a lower level of assurance, should
A. Withdraw and consider whether there is any obligation to report to other parties the
circumstances necessitating the withdrawal.
B. Issue a report that includes reference to the original engagement and any procedures that
may have been performed in the original engagement.
C. Not agree to a change of engagement where there is no reasonable justification for doing
so.
D. Consider the change reasonable if it relates to information that is incorrect, incomplete or
otherwise unsatisfactory.

14. Before the completion of the audit engagement, an auditor is requested to change the
engagement to one that provides a lower level of assurance. If the auditor concludes that
there is a reasonable justification for the change in engagement, the report to be issued would
A. Be that appropriate for the revised terms of engagement.
B. Include reference to the original engagement.
C. Include reference to any procedures that may have been performed in the original
engagement.
D. Not include reference to any procedures that may have been performed, particularly when
the new engagement is to undertake agreed-upon procedures.

15. If the auditor is unable to agree to a change of the engagement and is not permitted to
continue the original engagement, the auditor should
A. Insist on continuing the original engagement.
B. Express a qualified opinion.
C. Express an adverse opinion.
D. Withdraw from the engagement.

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