Summary
Highlights
This session continues the discussion on audit planning, specifically focusing on the initial steps an auditor takes. This includes four key tasks: client acceptance/continuance, understanding the client's reason for the audit, establishing mutual understanding, and formulating an overall audit strategy.
Auditors must carefully decide whether to accept a new client or continue with an existing one. These high-level decisions, made by seasoned auditors, are crucial to prevent reputational damage and unrecoverable costs. First-year audits are often less profitable, making long-term client relationships desirable. Integrity issues and potential risks are major considerations.
A critical initial step is understanding why a client is requesting an audit. This influences subsequent planning, as the audit's purpose (e.g., shareholder review, IPO, bank loan) dictates the audit's scope and risk profile. For publicly traded companies, the auditor also needs to understand why they are seeking a new audit firm.
Auditors must establish a clear, mutual understanding of engagement terms with the client, typically documented in an engagement letter. Additionally, they need to construct an overarching audit strategy, including staffing decisions and identifying the need for specialists (e.g., for software or oil and gas industries) to ensure competency.
Public accounting is competitive, but auditors must be selective about clients, avoiding those with integrity issues, frequent complaints about procedures or fees, or those in high-risk industries. Smaller firms might avoid publicly traded companies due to increased regulatory compliance (PCAOB) and staffing demands. Client risk must be weighed against the firm's risk tolerance, balancing potential gains with acceptable risk levels.
Thorough investigation of new clients is essential, assessing their reputation, management, financial health, and legal history. Communication with a predecessor auditor is mandated by auditing standards and provides crucial insights into the client's integrity, accounting disputes, and audit process issues. Client permission is required for this communication, and any refusal or incomplete response should raise concerns.
Even existing clients must be re-evaluated annually. Issues like disputes over audit scope, delayed information, disagreements on opinions, unpaid fees, or new integrity concerns can lead to ending the association. Auditors may also cease working with a client if heightened risks emerge, such as regulatory investigations or lawsuits, as protecting the CPA firm's reputation outweighs short-term gains.
The acceptable audit risk directly impacts the audit engagement. A low acceptable audit risk means more work and generally higher audit fees, as auditors take fewer chances. If the acceptable audit risk is moderate and the client is acceptable, the firm may proceed, potentially raising fees to compensate for increased effort or perceived risk. Understanding audit risk is crucial for informed decision-making.
A multiple-choice question reinforces the concept of audit risk. It clarifies that audit risk does affect client acceptance, lower acceptable audit risk leads to higher audit fees, and auditors may accept a client with low acceptable audit risk but increase the proposed fee. It also highlights that taking aggressive financial risks, if coupled with management integrity, doesn't automatically mean a client shouldn't be accepted.