Auditors have come into a department as part of a company-wide audit prior to issuing an audit opinion for the company’s financial reports. In a one- to two-page paper (not including the title and reference pages), explain what the staff should expect the auditors to do. Be sure to include the requirements of the Sarbanes Oxley Act in your explanation.

Your paper must be formatted according to APA style as outlined in the Ashford Writing Center, and it must include citations and references for the text and at least two scholarly sources.

5.4 The Auditor’s Role

Company outsiders need to be sure that the information they see on financial reports
is an accurate reflection of the company’s financial situation. This is accomplished by
hiring an impartial third party to review the company’s operations and financial
statements and to confirm that the reports are materially correct and that proper
internal controls are being used. This process is called an audit and is crucial for
verifying the accuracy of a company’s financial reports.

Every public company that sells stock on one of the public markets must hire an
independent certified public accountant (CPA) to audit its financial statements.
Managers, employees, investors, financial institutions, vendors, suppliers, and
everyone else who depends on knowledge about a company’s financial status
expect these audited statements to be materially correct. The CEO and CFO must
approve the financial statements that are ultimately issued to the public. The
auditors’ only responsibility is to issue an opinion that the financial statements are
materially accurate.

Auditors must abide by the rules set by the Public Company Accounting
Oversight Board (PCAOB), which is a private sector, nonprofit corporation created
by the Sarbanes-Oxley Act to oversee the auditors of public companies. Even
though the PCAOB is a private entity, it has many government-like regulatory
functions in relation to setting rules for auditors and how they do their work, which is
similar to the role of the FASB for setting GAAP rules. The PCAOB is considering
rule changes regarding mandatory firm rotation, which is discussed in further detail
in “New World of Financial Oversight.”

The Sarbanes-Oxley Act also requires that public companies with market
capitalizations of $75 million or more include an attestation report of their
independent auditors on the effectiveness of the company’s internal controls over
financial reporting. This requirement has become part of the audit process.

New World of Financial Report Oversight
Research by Marion McHugh and Paul
Polinski in the CPA Journal (2012)
indicates that there is value to requiring
firms to change their auditors more
regularly. In fact, some findings indicate
that it is important to change not only
the lead auditor but audit firms as well.

5.4 The Auditor’s Role

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Personal relationships can
develop between auditors and
company management that call
into question the independence
of the audit team. To address
this issue, PCAOB is
considering a regulation that
would mandate regular changes
in company auditors.

© Ievgen Chepil/iStock/ThinkstockIn this CPA Journal article, the authors
indicate that the PCAOB is looking for
ways to improve the quality of audits
and whether there is a need for
mandatory audit rotation.

Now that it has been several years
since Sarbanes-Oxley passed, the
PCAOB has noticed that there are
fewer changes in auditors from year to year, which the PCAOB believes
may be due to a reduction in firm scrutiny and independence. The PCAOB
is considering the costs and benefits of additional regulatory measures.

The authors of this CPA Journal article believe that “improved disclosures
would give audit firms a formal opportunity to demonstrate their
independence” (McHugh, 2012, p. 30). They also believe that the necessary
changes could result in the PCAOB requiring mandatory audit firm rotation
to ensure independent audits. If this occurs, managers would need to adapt
to regular changes in auditors, which would mean a reduction in personal
relationships between auditors and company management.

Consider This:

1. Do you think it is important for auditors and company managers to
develop personal long-term relationships? Why or why not?

2. Will the public be better served by frequent changes of auditors? Why
or why not?

Meeting the Qualifications
To become a licensed CPA, candidates must complete extensive training. This
includes completing at least a bachelor’s degree with a major emphasis in
accounting, passing a state administered uniform CPA exam, and completing work
under the supervision of a CPA to satisfy work-experience requirements that vary by
state. To keep a current license, CPAs must take continuing education courses. The
amount of time devoted to continuing education and educational requirements varies
by state.

Each state has a board of accountancy that monitors the activities of its CPAs. The
state boards have the right to revoke or suspend a CPA’s license if he violates the
laws, regulations, or ethics governing CPAs. If a CPA’s license is revoked or
suspended, she can no longer serve clients as an independent CPA unless she can
get her license reinstated.

In order to audit a company’s financial statements, a CPA must be in public practice
and be an employee of a CPA firm. A CPA’s independence from the companies he

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serves is critical to assure an independent report. Major publicly traded corporations
usually use one of the top four CPA firms: PricewaterhouseCoopers, Deloitte, Ernst
& Young, or KPMG.

A good CPA will approach an audit with skepticism. He may need to challenge
management’s assertions if those assertions differ from the evidence collected in the
audit. Sometimes independent auditors will have views different from those held by
management about how to record a particular transaction or disclose accounting
information. When there is a difference of opinion, the auditor must act in the public’s
interest, not the interest of company management.

If differences cannot be resolved, the audit committee of the company’s board of
directors may be asked to step in. In rare circumstances, if the auditor cannot come
to an agreement with the board, she may resign from the audit and inform the SEC
of the issue. In these occasions, the SEC may open an investigation of the company.

Usually when an auditor resigns in the middle of an audit, the company must send
out a notice that its financial reports will be delayed. Discussion of an auditor change
is typically found in the Notes to the Financial Statements, but it may also be
discussed in the Management’s Discussion and Analysis section.

The Audit Process
The audit process includes three key steps: defining the scope of the audit,
performing fieldwork, and writing the audit report. Let’s take a look at each of these
crucial steps.

Defining the Scope
Auditors begin by meeting with top management and an internal committee of the
board of directors (made up of directors appointed to this committee) to discuss the
audit’s scope and objectives. Managers will bring a list of issues that should be
reviewed as part of the audit. An audit may include a complete review of the
company’s operations, or it may focus on just one aspect, such as collections from
customers, which would be a limited scope audit.

The objectives of a full audit are usually to validate the company’s financial
statements. The objectives of a more focused audit usually involve reviewing the
operation’s efficiency or finding possible internal control problems that might put the
company at risk of theft or fraud.

After determining the scope of the audit, the auditors meet with key managers to
gather information about internal accounting processes, to evaluate existing
controls, and to plan how the audit will be conducted inside the company. The
internal accounting manager then sends a letter to the staff involved, announcing the
audit and who has been assigned to conduct it. In the first meeting with accounting
staff, the auditors review the available resources—including personnel, facilities, and

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funds—that are allocated to the audit. During these initial meetings, those involved
identify areas of special concern.

Auditors then meet with the departments being audited, which may include all
departments or just a few that are directly involved in the issues being investigated.
The auditors survey key personnel and review financial reports, files, and other
information. The auditors also review each department’s internal control structure.
This review helps identify any holes in internal control processes and the key areas
that need to be tested when auditing specific stores or other locations that the
company owns.

After the preliminary review, the auditors design the process that will be used to
collect needed information and to meet the objectives set out in the initial meetings
with top executives and the board of directors.

Performing Fieldwork
Auditors perform fieldwork when they visit a company’s individual offices and
locations to determine whether the internal controls discussed at the company’s top
levels are being implemented properly. For example, if a business requires a certain
type of coding when an order is charged to a customer’s account, and that coding is
not being used consistently, some customers may be getting merchandise without
being billed.

In the field, auditors watch a company’s employees carry out certain tasks to be sure
that they are performing them correctly. Additionally, auditors review files to be sure
all the paperwork is in order to back up reports sent to the central corporate offices.
For example, if the company requires a manager’s signature before a customer is
given a refund, the auditor randomly reviews company refund records to be sure that
the signature process is being followed.

Although the top manager at a location likely knows when the auditors will arrive, the
rest of the staff is usually surprised by their arrival. Any findings during the fieldwork
become part of the draft audit report.

After the auditors complete a preliminary review of the specific location, they
randomly review various records to be sure that employees are following internal
control procedures. For example, if an auditor is auditing a bank’s operations, the
auditor will want to know whether employees are following the bank’s procedures for
approving a loan. The auditor will likely check random loan files to be sure all
needed approvals are in place.

The type of fieldwork that is required of auditors depends on the business type and
the audit’s scope. Auditors for a bank will visit offices in the corporate headquarters
as well as bank branches to complete their fieldwork. Auditors for a corporation with
retail stores will do their fieldwork in the corporate headquarters, regional
headquarters, and individual stores. If the scope of the audit is just to review the

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customer order and bill-paying process, the fieldwork may take place only in the
corporate accounts receivable section of the accounting department.

Writing the Report
As the auditors work in the field, they discuss any significant discrepancies with top
management. Managers can comment on the findings before auditors submit a final
report to the operating managers, top executives, and board of directors. Managers
are usually given an opportunity to submit their own comments in areas of
discrepancy.

Auditors often work with management to determine how best to resolve any
problems before they complete their final audit report. If a problem can be easily
resolved, they can do so verbally. If the problems are more serious or complex,
auditors compile written reports and circulate them to managers, corporate
executives, and board members. These reports summarize the auditors’ findings,
identifying problems and making recommendations, before the auditors turn in their
final report.

Most companies work to fix problems internally to avoid being reported to their
outside stakeholders: investors, creditors, employees, vendors, and suppliers. If the
auditor concludes that changes need to be made within the corporation, managers
submit their plans to improve processes based on the auditor’s recommendations. If,
for some reason, managers disagree with the auditor, they have to explain in the
final report why they disagree and what they plan to do to fix the problem.

Top management or members of the audit committee of the board of directors
usually find out about problems long before they are detailed in the business press
or on the front page of the newspaper, as some company scandals are. Audit reports
from fieldwork are not released publicly, so when scandals do make it to the front
pages, it is usually after a whistle-blower comes forward or the SEC announces an
investigation.

The summary of the audit report can be found in the annual report, as discussed in
Chapter 1. The summary is usually one or two pages and does not provide
significant detail about the audit’s findings.

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