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AAA – BY KASHIF KAMRAN

LECTURE 9- BLOCK 1
Topic 9: Audit committee & 10: Outsourcing

Topic 9- Audit committee (AC)

Student note: You should be aware of the role the AC plays in context of external audit. You should know the
following:
1. The general principles of corporate governance – relating to the role of AC in context of external audit
2. The involvement of AC in the annual audit cycle
3. Provision of non-audit services – whether the external auditor can provide non-audit services to an
audit client or not?

General principles – AC versus the external auditor

1. Recommend - appointment , re-appointment and removal
2. Approve – fees for audit and non-audit services (NAS)
3. Agree – terms of engagement ( engagement letter)
4. Review –
a. Threat to independence
b. Safeguard in place
Annual audit cycle- the role of audit committee.
Planning stage- the engagement partner (EP) have a meeting with AC in which the following are discussed:
1. The audit strategy and the audit plan
2. Materiality levels
3. Resources to be used ( audit team)- competence/ callibre / size
Review stage (finalization stage)- after the completion of the fieldwork (i.e. after the performance of test of
controls and substantive procedures), the audit manager or the audit partner should meet the AC again to
discuss:
1. The findings from the audit (i.e. the misstatements, or the weaknesses in the IC system, or any issues
pertaining to management behaviour or limitations in the audit etc.)
2. The management response to the findings ( whether management agree to resolve or dis-agree)
3. The un-adjusted misstatements (errors) – i.e. the misstatements on which the management disagree.
End of audit – at the end of audit , the engagement partner should have an audit clearance meeting with the
audit committee in which the audit committee will ensure that:
1. The audit was carried out as per plan ( if there are any deviation – this will be discussed and justified by
the engagement partner)
2. The robustness of communication between the audit team and the audit committee
3. The effectiveness of the management letter communicated by the auditor to the management in which
issues identified during audit was discussed
4. The feedback the AC got from management involved with external auditor (e.g. finance director)
5. The overall feedback about external auditor is shared with board of director.
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Non- audit services

Student note: You should be familiar that in the case of listed company the code of conduct and corporate
governance is very alert to the types of non-audit services which are permissible to listed companies and the
ones which are prohibited to listed company.
The AC is the custodian of external audit independence and should develop a policy of prohibited and
permissible services in light of the code of conduct.
If a service is permissible to be offered by the auditor, the AC will look into:
1. Competence of the audit firm against the service to be offered
2. Safeguard put in place by the audit firm
3. The level of fees to be concluded.

Past paper – understanding and assignment

Dec 16 Q5 (A)- 10 MARKS
Required:
In relation to the information provided for Gull Co, comment on:

(i) The ethical and professional matters in relation to the recruitment requests made by Gull Co; (5)

(ii) The implications the governance structure and proposed listing may have on the audit process. (5)

Note: The total marks will be split equally between each part. (10 marks)

Brainstorming

(i)- You will read the recruitment request from the Gull Company in the case and identify ethical and professional matters
with respect to the request. 1 mark per ethical/ professional matter and 1 mark per action. 5 marks answer means in total
5 points.

(ii)- Implication (impact) – the governance structure and the proposed listing will have on audit process ?

 Due to proposed listing – the AC will become part of governance structure of Gull company- so you need to think,
what will be the impact of AC on the audit process – 1 mark per implication you write.
 The proposed listed- you need to think what impact the proposed listing will have on audit- for e.g. the following
(1 mark per implication you write.)
o The auditor needs to adhere with more applicable laws
o The audit risk will increase (e.g. the risk of management bias will go up)
o The need to exercise due care or to be skeptical will increase

Email the assignment at aaamock@gmail.com

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Topic 10: Outsourcing and its impact on audit

Student note- If an audit client has outsourced a function to a service organization, how will the
auditor conduct an audit in this situation considering the outsource function is material to the
financial statements?
The guidance on the conduct of audit comes from the following standards:
 ISA-402
 ISAE-3402
ISA-402 – guides the auditor of the client who has outsourced a function to a service organization to
perform extra audit procedures as follow:
1. Visit the service organization
2. Gather information from service organization
3. Perform test of control at the service organization pertaining to the function outsource
4. Perform substantive procedures based on the outcome of test of control ( if control are
ineffective more substantive procedures or less substantive if control are effective)
Visit- the service organization – should the auditor of the client plan the visit carefully in terms of:
1. Timing of visit- when to visit
2. How long the visit should be ( number of days)
3. Resources required for visit
ISAE-3402- What if the service organization to whom a function was outsource by the audit client
has an auditor?

Suppose you are PWC, an audit firm responsible for the audit of ALPHA company. Alpha company has
outsourced, its payroll function to GAMA Company. Payroll is material to the FS. Gama Company is
audited by Deloitte. How will PWC plan the audit of ALPHA Company?

The auditor of Alpha company, i.e. PWC should directly interact with Gama auditor i.e. Deloitte, and ask
Deloitte to provide an assurance on the controls at Gama company and whether control are effective or
not. PWC can request a TYPE 1 report or a TYPE 2 report from Deloitte on control effectiveness.
Type 1 report is about design of system (i.e. the policies and procedures are good)
Type 2 report is about design and operation of the system (i.e. the polices and there adherence)
Note: Deciding factor between type 1 and 2 is – dependable on the repute, market image and standing
of service organization.
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Exam papers
Jun14-Q4b
I worked on the interim audit of Crow Co, a manufacturing company which outsources its payroll function. I know
that for Crow Co payroll is material. How does the outsourcing of payroll affect our audit planning? (4 marks)

Brainstorming
 How does the outsourcing of payroll affect our audit planning?
Answer: (every point is worth 1 mark)
 The auditor need to identify at the planning stage whether the service organization has an auditor or not.
 If there is an auditor for the service organization, the auditor should plan to seek assurance on controls
from the service organization auditor
 If the service organization does not have an auditor, the auditor should plan, performing additional audit
procedures during the conduct of the final audit.
 The audit firm should plan the visit to the service organization and plan the resources required to visit
the organization for performing audit procedures

Dec 16 – Q2c
The payroll function is outsourced to Jackson Co, a service organisation which processes all of Thurman Co’s
salary expenses. The payroll expenses recognised in the financial statements have been traced back to year-
end reports issued by Jackson Co. The audit team has had no direct contact with Jackson Co as the year-end
reports were sent to Thurman Co’s finance director who then passed them to the audit team.

Recommend further audit procedures

1. Visit Jackson company
2. Gather information from Jackson company about payroll
3. Perform test of control at Jackson company pertaining to the payroll function
4. Perform substantive procedures based on the outcome of test of control at Jackson company (if control
are ineffective more substantive procedures or less substantive if control are effective)
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Assignment from Lecture 9- Block 1

 Dec 16 Q5 (A)- 10 MARKS – topic 9

 Read one article- corporate governance and its impact on audit.