Universidad De Manila

Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

PROFESSIONAL PRACTICE OF ACCOUNTANCY

Role of the Professional Accountant in the Economy

A free market economy can exist only if there is sharing of accurate, reliable information among
parties that have a vested interest in the financial performance and future prospects of an organization.
The market is further strengthened if the data are transparent and neutral – the date do not favor one party
over the other.

A prospective investor deciding whether to buy or sell securities, the banker making a decision to
approve a loan, the government obtaining revenue based on income tax returns – all are relying upon
information provided by others.

The professional accountant in both commerce and industry and public accounting sectors must
understand how organization are governed and the key information that boards utilize to ensure that
organizations are managed properly. – there is a need for professional accountants, individuals of
professional competence and integrity who can tell us whether the information that we use presents a fair
picture of what is really going on in a business enterprise.

Accountancy as a profession

In our society, professions are generally recognized as elite occupational classifications.

The CPA is a member of a time honored profession and the status of the profession and the
responsibilities that accompany this status affect his behavior in society. Accounting has developed a
professional culture as evidenced by such factors as the formal norms of the code of ethics, the informal
rules that guide relationships among practitioners and the traditions and myths that have arisen
concerning the CPA examination.

The Revised Code of Ethics for Certified Public Accountants in the Philippines made effective on
June 30, 2008 states:

“A profession is distinguished by certain characteristics including:

 Mastery of a particular intellectual skill, acquired by training and education

 Adherence by its members to a common code of values and conduct established by its
administering body, including maintaining an outlook which is essentially objective; and
 Acceptance of a duty of society as a whole (usually in return for restrictions in use of a
title or in granting of a qualification:”

Who is a professional accountant?

A professional accountant is an individual who holds a valid certificate issued by the Board of
Accountancy, whether he/she be in public practice, industry, commerce, the public sector or education.
Sectors:

 Professional accountant in public practice. – audit, tax or consulting in a firm that provides
professional services.
 Professional accountant in business – professional accountant employed or engaged in an
executive or non-executive capacity in areas as commerce, industry, service, the public sector,
education, not-for-profit sector, regulatory bodies or professional bodies, or a professional
accountant contracted by such entities. Sub-sector: commerce and industry, education,
government

Scope of Practice

The Philippine Accountancy Act of 2004 (R.A. 9298) Art. I Sec 4, p (a) to (d) spell out the scope
of the practice of accountancy as follows:
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

a. Practice of Public Accountancy. This shall constitute in a person, be it in his/her individual

capacity, or as a partner or as a staff member in an accounting or auditing firm, holding out
himself/herself as one skilled in the knowledge, science, and practice of accounting, and as a
qualified person to render professional services as a certified public accountant; or offering or
rendering, or both, to more than one client on a fee basis or otherwise, services such as audit
or verification of financial transaction and accounting records; or the preparation, signing, or
certification for clients of reports of audit, statement of financial position, and other financial,
accounting and related schedules, exhibits, statements or reports which are to be used for
publication or for credit purposes, or to be filed with a court or government agency, to be
used for any other purposes; or the design, installation, and revision of accounting system; or
the preparation of income tax returns when related to accounting procedures; or when he/she
represents clients before government agencies on tax and other matters related to accounting
or renders professional assistance in matters relating to accounting procedures and the
recording and presentation of financial facts or data.

b. Practice in Commerce and Industry – This shall constitute in a person involved in decision
making requiring professional knowledge in the science of accounting, or when such
employment or position requires that the holder thereof must be a certified public accountant.

c. Practice in Education / Academe – This shall constitute in a person in an educational

institution which involves teaching of accounting, auditing, management advisory services,
finance, business law, taxation, and other technically related subject.

d. Practice in the Government – This shall constitute in a person who holds, or is appointed to, a
position in the accounting professional group in government or in a government-owned
and/or controlled corporation, including those performing proprietary functions, where
decision-making requires professional knowledge in the science of accounting, or where a
civil service eligibility as a certified public accountant is a prerequisite.

Requirements to enter the Accountancy Profession

To be able to enter the professional accountancy profession in the Philippines, an individual

should be able to satisfy all of the following requisites:

a. Be a holder of a degree of Bachelor of Science in Accountancy (BSA) conferred by a school,

college or institute duly recognized and/or accredited by the Commission on Higher Education
(CHED) or other authorized government office.
b. Qualify as a professional accountant by passing the CPA licensure Board Examination
administered by the Professional Regulatory Board of Accountancy, and
c. Satisfy all other legal and regulatory requirements before the individual takes on the role of a
professional accountant.

Developing Capabilities and Competence after Admission to the Profession

To acquire capabilities and competence required of professional accountants, individuals may

need further education and development beyond that needed to qualify as professional accountants.

The professional skills for professional accountants in general include:

a. Intellectual skills
b. Technical and functional skills
c. Personal skills
d. Interpersonal and communication skills
e. Organizational and business management skills

The five areas that the professional accountant’s mindset needs to embrace include:
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

a. Professionalism and ethical behavior – this involves upholding high ethical standards in
accordance with the Code of Ethics for Professional Accountant which places emphasis on
ethical behavior as well as internalization of principles of integrity
b. Professional judgment – This requires quick and intuitive decision making with a need for
evidence-based decisions. This will also include performance of business functions applying
professional judgment and integrity which often requires reconciling conflicting commercial,
financial and sustainability interests; be able to influence decision makers to ensure that the
organization is managed in the long-term interest of stakeholders and delivers sustainable
value creation.
c. Organizational and environmental awareness – expected to perform as integrators,
aligning economy, environmental, and social performance and various business functions and
processes; supporting the needs of government bodies and management,
d. An investor and wider stakeholder focus – lead in managing relationships with investors
and other funders, and in some industries, with regulators
e. Change, uncertainty and complexity – able to adapt to changing circumstances and apply
professional skills and judgment to often ambiguous and imperfect information. They need
to be prepared to manage uncertainty, complexity, and strategic decision making within an
overall context of heightened focus on effective governance, risk management and control.

Core Values and Competencies

Core Values – essential and enduring beliefs that it upholds over time; to enable CPAs to retain their
unique character and value as they embrace the changing dynamics of the global economy
 Integrity – conduct themselves with integrity and honesty
 Competence – demonstrate superior technical proficiency by performing with high level of
expertise and knowledge
 Lifelong learning – value education beyond certification and continually pursue new and broad
skills and knowledge
 Objectivity – maintain impartiality and intellectual honesty by remaining free of personal bias
and conflicts of interest
 Commitment to excellence – continually deliver exemplary, high-quality services
 Relevance in the global marketplace – enhance their value by meeting the ever-changing needs of
the world around them

Core competencies – unique combination of human skills, knowledge and technology that provides
value and results to the user
 Communication skills –able to effectively exchange reliable and meaningful information, using
appropriate context and interpersonal skills
 Leadership skills – adept at influencing, inspiring and motivating others to facilitate change and
achieve excellence.
 Critical thinking and problem solving skills – skillful in evaluating facts, challenging assumptions
and applying judgment to develop relevant solutions
 Anticipating and serving evolving needs – adept in identifying strategic directions and
opportunities to meet the evolving needs of those they serve.
 Synthesizing intelligence to insight – expert in connecting data, performing analysis and using
business acumen to provide astute guidance for better business decision making
 Integration and collaboration – effective in building strategic alliances and working
collaboratively to provide multidisciplinary solutions to complex problems.

CHAPTER 2 PRACTICE OF PUBLIC ACCOUNTANCY

Practice of Public accountancy defined

Section 4 of the Philippine Accountancy Act of 2004 described the scope of the practice of public
accountancy as follows:

“Practice of Public Accountancy shall constitute in a person, be it in his/her individual capacity,

or as a partner or as a staff member in an accounting or auditing firm, holding out himself/herself as one
skilled in the knowledge, science and practice of accounting, and as a qualified person to render
professional services as a certified public accountant; or offering or rendering, or both, to more than one
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

client on a fee basis or otherwise, services such as the audit or verification of financial transaction and
accounting records; or the preparation, signing, or certification for clients or reports of audit, balance
sheet, and other financial, accounting and related schedules, exhibits, statements or reports which are to
be used for publication or for credit purposes, or to be filed with a court or government agency, or to be
used for any other purpose; or the design, installation, and revision of accounting system; or the
preparation of income tax returns when related to accounting procedures; or when he/she represents
clients before government agencies on tax and other matters related to accounting or renders professional
assistance in matters relating to accounting procedures and the recording and presentation of financial
facts or data”

Art. IV, Sec. 26 of he same law provides:

“No person shall practice accountancy in this country, or use the title “Certified Public
Accountant”, or use the abbreviated title “CPA” or display or use any title, sign, card, advertisement, or
other device to indicate that such person practices or offers to practice accountancy, or is a certified
public accountant, unless such person shall have received from the Board a certificate of registration /
professional license and be issued a professional identification card or a valid temporary / special permit
duly issued to him / her by the Board and the Commission.”

Certified Public Accountant

A certified public accountant “CPA” is a person who, after obtaining the required education
passes an extensive examination and is licensed by the country to practice as a professional accountant.

Types of Services of a Professional Accountant in Public Practice

A. Assurance Services
1. Independent financial statement audit
2. Reviews
3. Other assurance services (business performance management services)

B. Non Assurance Services

1. Agreed-upon procedures
2. Compilation
3. Tax
4. Management consultancy / advisory services
5. Accounting and data processing
6. Other non-assurance services – information technology system services

Assurance Engagements

Nature of assurance engagements

Assurance in the context of Philippine Framework for Assurance Engagements (2006) refers to the
auditor’s satisfaction as to the reliability of an assertion being made by one party for use by another party.
To provide such assurance, the auditor assesses the evidence collected as a result of procedures conducted
and expresses a conclusion.

Assurance engagement – means an engagement in which a practitioner expresses a conclusion designed

to enhance the degree of confidence that intended users can have about the evaluation or measurement of
a subject matter that is the responsibility of a party, other than the intended users or the practitioner,
against criteria. For example:

 The recognition, measurement, presentation and disclosure represented in the financial

statements (outcome) result from applying a financial reporting framework for recognition,
measurement, presentation and disclosure, such as Phil Financial Reporting Standards, (criteria)
to an entity’s financial position, financial performance and cash flows
 An assertion about the effectiveness of internal control results from applying a framework for
evaluating the effectiveness of internal control.
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

Objective of an Assurance Engagement

The objective of an assurance engagement is for a professional accountant to evaluate or measure

a subject matter that is the responsibility of another party against identified suitable criteria, and to
express a conclusion that provides the intended user with a level of assurance about that subject matter.

Assurance engagement performed by a professional accountant is intended to enhance the

credibility of information about a subject matter by evaluating whether the subject matter conforms in all
material respects with suitable criteria, thereby improving the likelihood that the information will meet
the needs of an intended user.

In this respect, the level of assurance provided by the professional accountant’s conclusion
conveys the degree of confidence that the intended user may place in the credibility of the subject matter.

Types of Assurance Engagement

Under the Phil. Framework for Assurance Engagements there are two types of assurance
engagements that a practitioner is permitted to perform.

 Reasonable Assurance Engagement – aims to reduce the assurance engagement risk to an

acceptably low level in the circumstances of the engagement as the basis for a positive form of
expression of the practitioner’s conclusion. Ex. Independent financial statement audit, review of
prospective financial statements
 Limited Assurance Engagement – aims to reduce the assurance engagement risk to a level that
is acceptable in the circumstance of the engagement but where that risk is greater than for a
reasonable assurance engagement as a basis for a negative form of expression of the practitioner’s
conclusion. Ex. Review of non-financial performance indicators such as capacity of a facility
and review of human resource practices, internal control, IT systems, corporate governance,
compliance with regulation

Brief Description of the Assurance Services

 Independent financial statements audit or external audit

An independent financial statements audit engagement is an assurance engagement to provide a high level
of assurance that the financial statements are free of material misstatement.

The objective of an audit of financial statements is to enable the auditor to express an opinion whether the
financial statements are prepared, in all material respects, in accordance with an identified financial
reporting framework.

In forming the audit opinion, the auditor obtains sufficient appropriate audit evidence to be able to draw
conclusions on which to base that opinion. The auditor’s opinion enhances the credibility of financial
statements by providing a high, but not absolute, level of assurance. Absolute assurance in auditing is not
attainable as a result of such factors as the need for judgment, the use of testing, the inherent limitations
of any accounting and internal control systems and the fact that most of the evidence available to the
auditor is persuasive, rather than conclusive, in nature.

 Review of Financial Statements

Review involves limited investigation of much narrower scope than an audit and undertaken for the
purpose of providing limited (negative) assurance that the statements are presented in accordance with
identified Financial Reporting Standards. (Negative Assurance) – The objective of the review is to enable
an auditor to state whether on the basis of procedures which do not provide all the evidence required in an
audit, nothing has come to the auditor’s attention that causes the auditor to believe that the financial
statements are not prepared, in all material respects, in accordance with an identified financial reporting
framework.

 Other review engagements

Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

A number of assurance services are natural extensions of the audit of historical financial statements as
users seek independent assurance about other types of information. CPAs may also provide assurance
about the effectiveness of a client’s internal controls over financial reporting.

Elements of an Assurance Engagement

An assurance engagement should exhibit the following elements:

a. Three-party relationship involving:

i. A practitioner
ii. A responsible party, and
iii. Intended users
b. An appropriate subject matter
c. Suitable criteria
d. Sufficient appropriate evidence
e. A written assurance report in the form appropriate to a reasonable assurance engagement or a
limited assurance engagement

Non Assurance Engagements

1. Agreed upon procedures

2. Compilation of financial or other information
3. Preparation of tax returns where no conclusion is expressed, and tax consulting
4. Management consulting
5. Other advisory services

The Accounting Profession’s Credibility Crisis

To address the current issues on the expectation gap of the CPA’s performance, public regulations and
regulations within the firm have been adopted to include the following:

1. Setting requirements to ensure that only qualified people are admitted to the accounting practice
2. Establishing international standards for accounting, reporting and auditing services
3. Adopting the Revised Code of Ethics for Professional Accountants
4. Developing a program for quality control of public accounting practice
5. Requiring practicing accountants to comply with continuing professional development programs
6. Requiring regular, periodic reviews of auditor’s compliance with professional standards
7. Penalizing those found guilty of unacceptable practices
8. Monitoring adequate competition among CPAs

Chapter 3 OVERVIEW OF AUDITING

Philosophy of an Audit

Auditing is a form of attestation. Attestation, in a general sense, refers to an “expert’s” communication

about the reliability of someone else’s assertion. Attestation, in a narrower sense is a written
communication that expresses a conclusion about the reliability of a written assertion that is the
responsibility of another party.

An independent auditor’s opinion contained in the audit report provides both internal and external users
with input to making logical and informed decisions about financial position, managerial performance
and economic vulnerability.

Auditing defined

Auditing is a systematic process by which a competent, independent person objectively obtains and
evaluates evidence regarding assertions about economic actions and events to ascertain the degree of
correspondence between those assertions and established criteria and communicating the results to
interested users.
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

Auditing is a:

 Systematic process
 Competent independent person
 Objectively obtains and evaluates evidence
 Assertions about economic actions and events
 Degree of correspondence
 Established criteria
 Communicating the results
 Interested users

Auditing (as defined by IFAC Education Committee

Auditing is a structured process that:

 Involves the application of analytical skills, professional judgment, and professional skepticism;
 Is usually performed by a team of professionals, directed with managerial skills
 Uses appropriate forms of technology and adheres to a methodology
 Complies with all relevant technical standards, such as International Standards on Auditing
(ISA), International Standards on Quality Control (ISQC), International Reporting Standards
(IFRS), International Public Sector Accounting Standards, and any applicable international,
national or local equivalents as appropriate; and
 Complies with required standards or professional ethics

Objective of Auditing

The objective of an audit of financial statements is to enable the auditor to express an opinion
whether the financial statements are prepared, in all material respects, in accordance with an identified
financial reporting framework. The phrase used to express the auditor’s opinion is “present fairly, in all
material respects.” A similar objective applies to the audit of financial or other information prepared in
accordance with appropriate criteria.

The auditor’s opinion helps establish the credibility of the financial statements. The user,
however, should not assume that the auditor’s opinion is an assurance as to the future viability of the
entity nor an opinion as to the efficiency or effectiveness with which management has conducted the
affairs of the entity.

Why independent auditing is necessary?

Auditing services are used extensively by business, government, and other not-for-profit
organizations. As society becomes more complex, there is an increased likelihood that unreliable
information will be provided to decision makers. This is referred to as “information risk”. Some of the
factors that contribute to information risk are:
 Remoteness of information users from information providers
 Potential bias and motives of information providers
 Voluminous data
 Complex exchange transactions

How information risk may be reduced

 Allow users to verify information

 Users share information risk with management
 Have the financial statements audited

Philippine Standards on Auditing (preface, December 2006)

Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

“pronouncements on generally accepted auditing standards, interpretations, and opinions issued

by the AASC apply whener an independent examination of financial statements of any entity, whether
profit-oriented or not, and irrespective of size or legal form, when such examination is conducted for the
purpose of expressing an opinion thereon. They may also have application, as appropriate, to other
related activities of auditors”

General Types of audit

1. Independent financial statement audit

2. Internal Audit
3. Government audit
4. Special Audits: other audits or limited assurance engagements

Types of auditors

1. Public accounting firm

2. Internal auditors
3. Government auditors – COA auditors, BIR auditors, regulatory auditors

Auditing and Accounting distinguished

Accounting is the process of recording, classifying and summarizing economic events in a logical manner
for the purpose of providing financial information for decision making. To be able to provide relevant
quantitative and financial information that different users need, accountants must have a thorough
understanding of the principles and rules to make sure that the entity’s economic events are properly
recorded on a timely basis and at a reasonable cost.

Auditing is concerned with the determination of whether the recorded accounting information for the
entity properly reflects the economic events that occurred during the accounting period. An auditor must
possess not only an understanding of the accounting rules but also an expertise in the accumulation and
interpretation of audit evidence. This skill is the major characteristic that distinguishes auditors from
accountants.

Independent Financial Statement Audit

Nature

Independent audit consists of methodical review and objective examination of financial statements
prepared by an enterprise (auditee) to determine if such statements have been prepared in conformity with
financial reporting practices that are appropriate for the auditee.

Over-all objective of the auditor

 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; and
 To report on the financial statements, and communicate as required by the PSAs, in accordance
with the auditor’s findings

Scope of independent audit

- Refers to the audit procedures deemed necessary in the circumstances to achieve the objective of
the audit. The procedures required to conduct an audit in accordance with PSAs should be
determined by the auditor having regard to the requirements of PSAs, relevant professional
bodies, legislation, regulation and, where appropriate, the terms of the audit engagement and
reporting requirement.

Overview of an independent financial audit engagement

1. Pre-engagement activities
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

2. Planning acitivities
3. Internal control risk assessment activities
4. Account balance audit activities
5. Reporting activities

General principles of an audit

Ethical requirements
Ethical principles (Revised Code of Ethics for Professional Accounting in the Philippines, Board
of Accountancy, approved by the Prof. Regulation Commission)
- Independence
- Integrity
- Objectivity
- Professional competence and due care
- Confidentiality
- Professional behavior; and
- Technical standards

Reasonable assurance
An audit is designed to provide reasonable assurance that the financial statements taken as a
whole are free from material misstatement. Reasonable assurance is a concept relating to the
accumulation of the audit evidence necessary for the auditor to conclude that there are no material
misstatements in the financial statements taken as a whole.

Inherent limitations in an audit

- The use of testing
- The inherent limitations of any accounting and internal control system
- The fact that most audit evidence is persuasive rather than conclusive

Responsibility for the financial statement

The responsibility for preparing and presenting the financial statements is that of the management
of the entity. The audit of the financial statements does not relieve management of its responsibilities.

Requirements for an effective financial statement audit

Certain attributes are required of the auditor:
- The auditor must have a thorough understanding of the entity being audited and the industry of
which it is a part.
- The auditor must have a comprehensive knowledge of Financial Reporting Standards in order to
audit effectively.
- The auditor must have a solid grasp of the concepts of internal control and competence in
reviewing and evaluating the client’s underlying system of internal control
- The auditor must also be knowledgeable in the area of evidence gathering and evaluation. The
auditor has the opportunity of choosing among alternative forms of evidence and alternative
modes of gathering evidence.

Internal Audit

Internal auditing is an independent, objective assurance and consulting activity designed to add value and
improve an organization’s operations. It helps an organization accomplish its objectives by bringing a
systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control,
and government processes.

Objective and scope of internal audit

The objective of internal auditing is to assist all members of management in the effective discharge of
their responsibilities, by furnishing them with analysis, appraisals, recommendations, and pertinent
comments concerning the activities reviewed. The attainment of this overall objective involves such
activities as:
- Reviewing and appraising soundness, adequacy, and application of accounting, financial, and
other operational controls, and promoting effective control at reasonable cost
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

- Ascertaining the extent of compliance with established policies, plans and procedures
- Ascertaining the extent to which company assets are accounted for and safeguarded from losses
of all kinds
- Ascertaining the reliability of management data developed within the organization
- Appraising the quality of performance is carrying out assigned responsibilities
- Recommending operating improvements

Responsibility of internal auditor

- To inform and advise management and to discharge this responsibility in a manner that is
consistent with the Code of Ethics of the Internal Auditors
- To coordinate activities with others so as to best achieve audit objectives and the objectives of the
organization

Internal auditing approach and techniques

Types of internal auditing
1. Operational audit
2. Management audit
3. Financial audit

Government Audit

Nature
Government auditing involves the determination of whether government funds are being handled
properly and in compliance with existing laws and whether the programs are being conducted efficiently
and economically.

Scope
Financial and compliance audit
Economy and efficiency audit
Program results

State audit has been classified into three main divisions

1. Compliance audit
2. Financial audit
3. Performance audit

Theoretical framework of Auditing

Below are selected postulates, assumptions or ideas that support many auditing concepts and standards:

1. Audit function operates on the assumption that all financial data are verifiable. All balances
reported in the financial statements must have supporting documents or evidence to prove their
validity. If no evidence exists in relation to the financial statements on which an auditor is to
express an opinion, then there can be no audit to perform.
2. The auditor should always maintain independence with respect to the financial statements under
audit. The report of the auditor will be of little or no value to the readers of the financial
statements if the readers are aware that the auditor is not independent with respect to the client.
3. There should be no long-term conflict between the auditor and the client management. Short
term conflicts may exist regarding the application of auditing procedures and accounting
principles, but in the end, both the auditor and the management must be interested in the fair
presentation of the financial statements.
4. Effective internal control system reduces the possibility of errors and fraud affecting the financial
statements. The stronger the internal control is, the more assurance it provides about the
reliability of the accounting data and financial statements.
5. Consistent application of generally accepted accounting principles (GAAP) or Philippine
Financial Reporting Standards (PFRS) results in presentation of financial statements.
6. What was held true in the past will continue to hold true in the future in the absence of known
conditions to the contrary. Experience and knowledge accumulated from auditing a client in
prior years can be used to determine the appropriate audit procedures that need to be performed.
7. An audit benefits the public. Financial statements are ordinarily prepared and presented in order
to meet the common information needs of a wide range of users. These users who rely on the
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

financial statements as their major source of information are the primary beneficiary of the
financial statement audit.

AUDIT, AN OVERVIEW

The primary function of an independent audit is to lend credibility to the financial statements prepared by
an entity. The auditor’s opinion enhances the value and usefulness of the financial statements. By
attaching a report to the financial statements, the auditor provides increased assurance to users that the
financial statements are reliable.

Auditing, Defined

The Philippine Standards on Auditing (PSA) defines auditing by stating the objective of a financial
statement audit, that is, to enable the auditor to express an opinion whether the financial statements are
prepared, in all material respects, in accordance with an identified financial reporting framework.

A more comprehensive definition of auditing is given by the American Accounting Association:

“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 to interested users.”

The definition conveys the following thoughts:

1. Auditing is a systematic process
Auditing proceeds by means of an ordered and structured series of steps.
2. An audit involves obtaining and evaluating evidence about assertions regarding economic
actions and events
Assertions are representations made by an auditee about economic actions and events. The
auditors’ objective is to determine whether these assertions are valid.
3. An audit is conducted objectively
The auditor should conduct the audit without bias. Impartial attitude must be maintained by the
auditor when evaluating evidence and formulating his conclusion.
4. Auditors ascertain the degree of correspondence between assertions and established criteria
Established criteria are needed to judge the validity of the assertions. When auditing financial
statements, the auditor judges the fair presentation of the financial statements (assertions) by
comparing the statements with an identified financial reporting framework (criteria).
5. Auditors communicate the audit results to various interested users
The communication of audit findings is the ultimate objective of any audit. For the audit to be
useful, the results must be communicated to interested users on a timely basis.

Types of audits

1. Financial statement audit

This is an audit conducted to determine whether the financial statements of an entity are fairly
presented in accordance with an identified financial reporting framework.
2. Compliance audit
Compliance audit involves a review of an organization’s procedures to determine whether the
organization has adhered to specific procedures, rules or regulations. The performance of
compliance audit is dependent upon the existence of verifiable data and recognized criteria
established by an authoritative body. A common example of this type of audit is the examination
conducted by BIR examiners to determine whether entities comply with tax rules and regulations.

3. Operational audit
An operational audit is a study of a specific unit of an organization for the purpose of measuring
its performance. The main objective of this type of audit is to assess entity’s performance,
identify areas for improvements and make recommendations to improve performance.

General characteristics of audit:

Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

1. Systematic examination and evaluation of evidence which are undertaken to ascertain whether
assertions comply with established criteria, and
2. Communication of the results of the examination, usually in a written report, to the party by
whom, or on whose behalf, the auditor was appointed.

Types of Auditors

1. External Auditors
These are independent CPAs who offer their professional services to different clients on a
contractual basis. External auditors are the one who generally perform financial statement audits.
2. Internal Auditors
Internal auditors are entity’s own employees who investigate and appraise the effectiveness and
efficiency of operations and internal controls. The main function of internal auditors is to assist
the members of the organization in the effective discharge of their responsibilities. Internal
auditors usually perform operational audit.
3. Government Auditors
These are government employees whose main concern is to determine whether persons or entities
comply with government laws and regulations. Government auditors usually conduct compliance
audits.

INDEPENDENT FINANCIAL STATEMENT AUDIT

The objective of an audit of financial statements is to enable the auditor to express an opinion whether the
financial statements are prepared, in all material respects, in accordance with an identified financial
reporting framework or acceptable financial reporting standards.

 Responsibility for the statements

The organization is responsible for preparing and presenting the financial statements in
accordance with the financial reporting framework. It is management’s responsibility to adopt
and implement adequate accounting and internal control systems that will help ensure the
preparation of reliable financial statements.

 Assurance provided by the auditor

The auditor’s opinion on the financial statements is not a guarantee that the financial statements
are dependable. An audit conducted in accordance with Philippine Standards on Auditing is
designed to provide only reasonable assurance (not absolute assurance) that the financial
statements taken as a whole are free from material misstatements.
In every audit, there are always inherent limitations that affect the auditor’s ability to detect
material misstatements. These limitations result from such factors as:
1. The use of testing / sampling risk
For practical reasons, auditors do not examine all evidence available. Many audit
conclusions are made by examining only sample of evidence. Whenever a sample is taken,
there is always a possibility that the auditor’s conclusion, based on the sample, may be
different from the conclusion that would have been reached if the auditor examines the entire
population.

2. Error in application of judgment / non-sampling risk

The work undertaken by the auditor to form an opinion is permeated by judgement. Human
weakness can cause auditors to commit mistakes in the application of audit procedures and
evaluation of evidence.

3. Reliance on management’s representation

Some evidence supporting the financial statements must be obtained by obtaining oral or
written representations from management. If the management lacks integrity, management
may provide the auditor with false representations causing the auditor to rely on unreliable
evidence.

4. Inherent limitations of the client’s accounting and internal control system

Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

Although the auditor performs procedures to detect material misstatements when auditing
financial statements, such procedure may not be effective in detecting misstatements resulting
from collusion among employees or management’s circumvention of internal control.

5. Nature of evidence
Evidence obtained by the auditor does not consist of “hard facts” which prove or disprove the
accuracy of the finance statements. Instead, it comprises of pieces of information and
impressions which are gradually accumulated during the course of an audit and which, when
taken together, persuade the auditor about the fairness of the financial statements. Thus, audit
evidence is generally persuasive rather than conclusive in nature.

 General principles governing the audit of financial statements

The procedures required to conduct an audit in accordance with PSAs should be determined by
the auditor having regard to the requirements of PSAs, relevant professional bodies, legislations,
regulations, and where appropriate, the terms of the engagement and the reporting requirements.

PSA provides the following guidelines when auditing financial statements:

1. The auditor should comply with the Code of Professional Ethics for Certified Public
Accountants promulgated by the Board of Accountancy.
2. The auditor should conduct an audit in accordance with Philippine Standards on Auditing.
3. The auditor should plan and perform the audit with an attitude of professional skepticism
recognizing that circumstances may exist which may cause the financial statements to be
materially misstated. An attitude of professional skepticism means that the auditor makes a
critical assessment, with a questioning mind, of the validity of audit evidence obtained and is
alert to audit evidence that contradicts or bring into questions the reliability of documents or
management representations.

 Need for an independent financial statement audit

The need for an independent financial audit of financial statements stems from the following
interrelated sources:
1. Conflict of interest between management and users of financial statements
Outside parties want unbiased, realistic financial statements. Users of financial statements
have become skeptical of unaudited financial statements.
2. Expertise
The complexity of accounting and auditing requires expertise in verifying the quality of the
financial information. A qualified person is hired by users to verify the reliability of the
financial statements on their behalf.

3. Remoteness
Most of the users do not have access to the entity’s records to personally verify the quality of
the financial information. Consequently, an independent auditor is needed to assist them in
verifying the reliability of the financial information.
4. Financial consequences
Misleading financial information could have substantial economic consequences for a
decision maker. It is therefore important that financial statements be audited first before they
are used for making important decisions.

 Theoretical framework of auditing

The audit function operates within a theoretical framework. Below are selected postulates,
assumptions or ideas that support many auditing concepts and standards:
1. Audit function operates on the assumption that all financial data are verifiable.
2. The auditor should always maintain independence with respect to the financial statements
under audit.
3. There should be no long term conflict between the auditor and the client management.
4. Effective internal control system reduces the possibility of errors and fraud affecting the
financial statements.
5. Consistent application of generally accepted accounting principles (GAAP) or Philippine
Financial Reporting Standards (PFRS) results in fair presentation of financial statements.
6. What was held true in the past will continue to hold true in the future in the absence of known
conditions to the contrary.
7. An audit benefits the public.
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

THE PROFESSIONAL STANDARDS

When auditing financial statements, an auditor assumes certain professional responsibilities. Auditor’s
opinion must be based on an examination conducted in accordance with professional standards. Failure
to comply with these standards exposes the auditor to risks such as loss of public respect or even
assessment of legal damages.

Standards are established to measure the quality of performance of individuals and organizations. The
Board of Accountancy promulgated 10 generally accepted auditing standards (GAAS) that establish
required level of quality for performing financial statement audits. These standards must be followed by
CPAs when auditing financial statements.

Philippine Standards on Auditing (PSAs) are issued to clarify the meaning of these 10 GAAS. Auditing
procedures are the means used by the auditors in attaining the quality required by the standards.

GENERALLY ACCEPTED AUDITING STANDARDS

GAAS represent measures of the quality of the auditor’s performance. These standards should be looked
at as the minimum standard of performance that auditors should follow. These 10 GAAS are grouped
into general, fieldwork and reporting standards.

GENERALLY ACCEPTED AUDITING STANDARD

General Standards Standards of Fieldwork Standards of Reporting

Technical training Planning GAAP

& proficiency Internal control Inconsistency
Independence consideration Disclosure
Professional care Evidential matter Opinion

General Standards
1. The examination is to be performed by person or persons having adequate technical training and
proficiency as an auditor.
2. In all matters relating to an engagement, an independence in mental attitude is to be maintained
by the auditor.
3. Due professional care is to be exercised in the performance of the audit and in the preparation of
the report.

Standard of Fieldwork
4. The work is to be adequately planned and assistants, if any, are to be properly supervised.
5. There is to be a proper study, and evaluation of existing internal control as a bsis for reliance
thereon and for the determination of the resultant extent of the tests to which auditing procedures
are to be restricted.
6. Sufficient competent evidential matter is to be obtained through inspection, observation, inquiries
and confirmations to afford a reasonable basis for an opinion regarding the financial statements
under examination.

Standards of Reporting
7. The report shall state whether the financial statements are presented in accordance with generally
accepted accounting principles.
8. The report shall identify those circumstances in which principles have not been consistently
observed in the current period in relation to the preceding period.
9. Informative disclosure are to be regarded as reasonably adequate unless otherwise stated in the
report.
10. The report shall either contain an expression of opinion regarding the financial statements, taken
as a whole, or an assertion to the effect that an opinion cannot be expressed. When an overall
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

opinion cannot be expressed, the reasons therefore should be stated. In all cases, where an
auditor’s name is associated with the financial statements, the report should contain a clear cut
indication of the character of he auditor’s examination, if any, and the degree of responsibility he
is taking.

PHILIPPINE STANDARDS ON AUDITING (PSA)

The Auditing and Assurance Standards Council (AASC) has been given the task to formulate auditing
standards, practices and procedures which shall be generally accepted by the accounting profession in the
Philippines.

Adoption of International Standards

To facilitate the preparation by the AASC of its pronouncements and to attain uniformity of those
pronouncements with international auditing standards, the AASC, Inc. has approved the adoption of the
International Standards on Auditing (ISAs), International Standards on Assurance Engagements,
International Standards on Review Engagement, and International Standards on Related Services issued
by the International Auditing and Assurance Board created by the International Federation of
Accountants.

In addition to these standards, Practices Statements are also issued to provide practical assistance to
auditors in implementing the standards and to promote good practice in the accountancy profession.

SYSTEM OF QUALITY CONTROL

Quality controls are policies and procedures adopted by CPAs to provide reasonable assurance of
conforming with professional standards in performing audit and related services.

Under Philippine Standards on Quality Control 1, a firm has an obligation to establish a system of quality
control designed to provide it with reasonable assurance that the firm and its personnel comply with
professional standards and regulatory and legal requirements, and that the report issued by the firm are
appropriate in the circumstance. In this regard, engagement teams:

1. Implement quality control procedures that are applicable to audit engagement;

2. Provide the firm with relevant information to enabling the functioning of that part of the firm’s
system of quality control relating to independence; and
3. Are entitled to rely on the firm’s system unless information provided by the firm or other parties
suggest otherwise.

Elements of a system of quality control

PSA 220 states that the audit firm should implement policies and procedures designed to ensure that all
audits are conducted in accordance with PSAs. The quality control policies and procedures adopted by
audit firms vary depending on the firm’s size and nature of its practice, cost benefit considerations and
other factors. PSA 220 has identified the following quality control policies that may serve as a guide to
audit firms in establishing their own system of quality control:

LEADERSHIP RESPONSIBILITIES FOR QUALITY ON AUDITS

The firm should establish policies and procedures designed to promote an internal culture based on
recognition that quality is essential in the performance of the engagements.

The engagement partner should take responsibility for the overall quality on each audit engagement to
which the partner is assigned. The engagement partner should set example regarding the quality of audit
by emphasizing through actions and messages the importance of performing work that complies with
professional standards, complying with the firm’s quality control policies and procedures, and issuing
appropriate audit reports.

ETHICAL REQUIREMENTS
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

The firm should establish policies and procedures designed to provide it with reasonable assurance that
the firm and its personnel comply with ethical requirements, which include:
1. Integrity
2. Objectivity
3. Professional competence and due care
4. Confidentiality; and
5. Professional behavior

The engagement partner should consider whether members of the engagement team have complied with
these ethical principles.

INDEPENDENCE

The engagement partner should form a conclusion on compliance with independence requirements that
apply to the audit engagement. The engagement partner should:

1. Obtain relevant information to identify circumstances and relationships that create threats to
independence.
2. Evaluate information on identified breaches of the firm’s independence policies and procedures to
determine whether they create a threat to independence.
3. Take appropriate safeguards to eliminate such threats or reduce them to an acceptable level; and
4. Document conclusions on independence and the basis for such conclusion.

ACCEPTANCE AND CONTINUANCE OF CLIENT RELATIONSHIPS

The firm should establish policies and procedures for the acceptance and continuance of client
relationships and specific engagements, designed to provide it with reasonable assurance that it will only
undertake or continue relationships and engagement where it:
1. Has considered the integrity of the client
2. Is competent to perform the engagement and has the capabilities, time and resources to do so; and
3. Can comply with ethical requirements

HUMAN RESOURCES AND ASSIGNMENT

The firm should establish policies and procedures designed to provide it with reasonable assurance that it
has sufficient personnel with the capabilities, competence, and commitment to ethical principles
necessary to perform the engagement. Such policies and procedures should address issues concerning
personnel:
 Recruitment
 Performance evaluation, compensation and promotion
 Capabilities and competence
 Career development; and
 Assignment of engagement teams

ENGAGEMENT PERFORMANCE

The firm should establish policies and procedures designed to provide it with reasonable assurance
 That engagements are performed in accordance with professional standards and other regulatory
and legal requirements; and
 That the audit report issued is appropriate in the circumstances
The engagement partner should take responsibility for the direction, supervision, review, and overall
performance of the audit engagement.
 Direction
Assistants should be informed of their responsibilities , the nature of the entity’s business,
potential problems that may arise and the detailed approach to the performance of the
engagement.
 Supervision
Universidad De Manila
Auditing Theory and Assurance Services Atty. Maria Milagros R. Lisaca, CPA
Source: Public Accountancy Profession by Ma. EB Cabrera
Auditing Theory, Salosagcol, et.al.

This involves monitoring the progress of the audit, resolving accounting and audit issues, and
considering the level of consultation appropriate for the engagement.
 Review
Work performed by assistants should be reviewed to consider whether the audit procedures,
evidence and documentation are appropriate e to support the conclusion reached.
 Consultation
The firm should establish policies and procedures that encourage firm personnel to seek
assistance fro authoritative sources either within or outside the firm.
 Engagement quality control review
The firm should establish policies and procedures requiring an engagement quality control review
that provides an objective evaluation of the significant judgement made and conclusions reached
in formulating the auditor’s report.
 Differences of opinion
The engagement team should follow the firm’s policies and procedures for dealing with and
resolving differences of opinion that arise within the engagement team, with those consulted and,
where applicable, between the engagement partner and the engagement quality control reviewer.

MONITORING

The continued adequacy and operational effectiveness of quality control policies and procedures is to be
monitored. Policies and procedures must be adopted to provide reasonable assurance that the systems of
quality control and relevant, adequate and operating effectively.

QUALITY CONTROL REVIEW

Recognizing the importance of professional accountant’s services to the society, the government has also
taken steps to ensure that CPA work to the highest standards which can reasonably be expected from
them. The government thru the Professional Regulatory Board of Accountancy has required all CPA
firms and individual CPAs in public practice to obtain a certificate of accreditation to practice public
accountancy.