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HomeMy WebLinkAboutAgenda Packet - EVWD Board of Directors - 07/31/2003 EAST VALLEY WATER DISTRICT PRE JUNE 30, 2003 AUDIT MEETING JULY 31, 2003 A) AUDITING BASICS 1) Audit a) Systematic examination of the assertions or actions of a third party to evaluate conformance to some norm or benchmark. b) Audits conducted in accordance with certain nationally recognized standards. 2) Types of audits a) Financial statement audits - designed to provide users of financial reports with assurance concerning their reliability. b) Attestation engagements - designed to provide assurance on matters other than financial reports. c) Performance audits - designed to determine whether government programs and activities are meeting stated goals and objectives, and to determine if governments are performing duties in the most economic and efficient manner possible. 3) Auditors a) External auditors - must be independent. b) Internal auditors - employees of the entity they audit and report to management. 4) Standards used to guide the auditors a) Financial statements audits are conducted in accordance with generally accepted auditing standards (GAAS). These standards historically have been established by the Auditing Standards Board of the American Institute of Certified Public Accountants (AICPA). b) Supplemented by additional standards set forth in the U.S. General Accounting Office's (GAO) publication Government Auditing Standards (Yellow Book) c) Combination of GAAS and the Yellow Book standards are referred to as "generally accepted government auditing standards or "GAGAS". 5) Auditors Independence a) External auditors must be free from both personal and external impairments that could lead reasonable third parties to question their independence. b) Auditors may not perform management functions or make management decisions. c) Auditors may not audit their own work or provide nonaudit services in situations where the amounts or services are significant or material to the subject matter of the audit. -1- d) Auditors can provide advice on establishing internal controls and implementing audit recommendations without jeopardizing their independence. e) Auditors can answer clients' technical questions and offer training to their clients. B) Financial Statement Audits 1) Goal of financial statement audit a) The goal of the annual financial statement audit is to assure users of a government's financial statements that those statements are fairly presented. b) Fairness of the presentation of a set of financial statements is determined using a set of criteria known as Generally Accepted Accounting Principles (GAAP). c) The most important source of GAAP for state and local governments is the Government Accounting Standards Board (GASB). 2) Auditor's responsibility for the financial statements differ from that of management a) Financial statements represent management's assertions concerning the government's finances. b) The auditor's role is strictly limited to providing users of the financial statements with an independent basis for relying upon managemenrs assertions. 3) Methods used by auditors to obtain evidence needed to determine whether a government's financial statements are fairly presented. a) Inspect relevant documentation. b) Observe employee performance c) Inquire concerning policies, procedures, transactions and events. d) Confirm balances and transactions with outside parties. e) Perform analytical procedures to determine the reasonableness of transactions and balances. 4) Degree of assurance a) The goal of the auditor is to obtain reasonable assurance, not absolute certainty, that the financial statements are fairly presented. Auditors do not attempt to ensure that all of the data contained in financial statements are 100 percent accurate, but rather that the financial statements are free from material misstatements. b) A potential error is considered to be material to the financial statements if it could have the effect of changing a reader's impression of the government's financial statements. c) Auditors do not attempt to examine individually every transaction or event affecting the financial statements. Instead, auditors perform their work on a "test basis". -2- 5) Internal controls a) Internal controls are the practical means that management uses to protect the assets of the government and to ensure the integrity and comprehensiveness of the data collected by the accounting system. b) Internal control must do all of the following: 1) Produce a favorable control environment 2) Ensure the ongoing assessment of risk 3) Establish and maintain control-related policies and procedures 4) Facilitate communication 5) Provide for monitoring the effectiveness of control-related policies and procedures as well as the resolution of potential problems identified by control-related procedures. c) Effective control-related policies and procedures must ensure the following: 1) The proper authorization of transactions 2) The proper design of records 3) The maintenance of secudty over assets and records 4) The periodic reconciliation of accounting records 5) The segregation of incompatible duties 6) The periodic verification of the underlying facts reflected in accounting records (e.g., the physical inventory of capital assets) 7) The regular analytical review of accounting data (i.e., comparison of accounting data to other data, both accounting and non-accounting, to assess their reasonableness). 6) Reportable condition a) Auditors perform extensive tests of controls as part of their effort to obtain the evidence needed to support an opinion on the fair presentation of the financial statements. In the course of performing these tests, auditors may become aware of significant deficiencies in internal controls. GAAS refer to such deficiencies as reportable conditions and require that auditors ensure that management is aware of them. b) Some reportable conditions are more serious than others. Some reportable conditions are of such magnitude that they could potentially result in a material misstatement of the financial statements. Reportable conditions of this type are known as material weaknesses. An example of a potential material weakness would be the failure to reconcile the monthly bank statements to the cash balances reported in the accounting records. c) By definition, all material weaknesses are reportable conditions. Not all reportable conditions, however, are material weaknesses. Auditors generally distinguish reportable conditions that are material weaknesses from those that are not. -3- 7) Management representation letter a) Management is ultimately responsible for the financial statements, regardless of the degree of auditor involvement in their preparation. As a result, auditors are required by GAAS to obtain direct written acknowledgement from management of this responsibility. b) Auditors also need to obtain written assurances from management that the financial statements are, in fact, complete. c) The management representation letter also addresses a number of specific events and situations that could have an effect upon the auditor's evaluation of the fair presentation of the financial statements. For example, is management aware of any possible violations of laws or regulations. Are there any restrictions on cash balances. Are there any lines of credit or similar arrangements. C) Yellow Book Audits 1) Yellow book audit a) The standards used for private sector auditing (GAAS) often are supplemented in the public sector by additional standards set forth in the GAO'S publication Government Auditing Standards. These type of engagements are commonly referred to as Yellow Book audits. b) Yellow Book standards always apply to federally mandated audits. 2) Yellow Book audits differ from regular financial statement audits a) Financial statements audits performed solely in conformity with GAAS is the auditor's expanded reporting responsibility in a Yellow Book audits. b) Under GAAS, the auditor prepares only one auditor's report, which expresses an opinion on the fair presentation of the financial statements. c) Under the Yellow Book standards, this auditor's report on the fair presentation of the financial statements is supplemented by an additional report on compliance and internal controls over financial reporting. D) Single Audits 1) Single audit a) State and local governments frequently receive substantial federal awards (Grants). Often, these awards are provided by several different grantor agencies. In the past, state and local governments were subject to the separate audit requirements of each individual grantor. The federal response to remedy this situation was the Single Audit Act of 1984, which was amended in 1996 and now has since been revised in 2003. b) The Single Audit Act of 1984, as amended, applies to all governments . that expended $300,000 or more per fiscal year in federal awards. The 2003 revision has raised the expended amount to $500,000 effective for years beginning after January 1, 2004. -4- c) Single Audits, like all federal audits, must be performed in accordance with the GAO's Government Auditing Standards (Yellow Book). In addition, Single Audits are subject to the requirements of OMB Circular A-133, Audits of State and Local Governments and Non-Profit Organizations. 2) Single Audits differ from regular financial statement audits a) Single audits place special testing and reporting responsibilities upon auditors in regard to federal awards. First in Single Audit, the auditor must determine and report whether the legally required schedule of expenditures of Federal Awards prepared by the government is fairly presented in relation to the government's basic financial statements. b) Second, the auditor must test and report on compliance and internal controls over compliance for federal awards programs. To meet this requirement, the auditor must gain an understanding of internal controls over compliance and then test those controls for each major federal program. c) The resulting auditor's report must provide an opinion on whether the government complied with laws, regulations, and provisions of contracts or grant agreements that could have a direct and material effect on each major federal program. E) Auditor's Reports 1) In the public sector, there are three commonly encountered auditor' reports. a) The independent auditor's report on the fair presentation of the financial statements (required for all financial statement audits). b) The independent auditor's report on compliance and internal controls over financial reporting based on an audit of the financial statements (required for all Yellow Book audits including Single Audits) c) The independent auditor's report on compliance and internal controls over compliance applicable to each major federal award program (required for Single Audits). d) Auditors performing Single Audits are required to report on the fair presentation of the Schedule of Expenditures of Federal Awards. F) Audit Committee 1) An audit committee is a group of individuals appointed by the legislative body and given responsibility for overseeing audit procurement and monitoring from the selection of the independent auditor to the resolution of audit findings. -5- 11-2 EXHIBIT 11-1 REPORTS REQUIRED BY GAAS, GOVERNMENT AUDITING STANDARDS, AND SINGLE AUDITa Auditors ,,~ GAAS Report on "Regular Audit" · ~ Financial Government Statementsb Auditing StandarUs (Yellow Eiook) Single Audi~-- Auditor's Repo~ on Entiys OMB Circul~ Compliance and on Internal A-133 Control over Financial Reposing Auditor's Report on Schedule of Expenditures of Federal Awards, internal Control over Major Federal Award Programs, and Maior Program Compliance with Laws, Regulations. Contracts, and Grant Agreementsb Notes: a SOP 98-3, Audits of States, Local Governments, and Net-for-Profit Organizations Receiving Federal Awards, includes illustrated auditor's reports that comply with the revised single audit guidance. The reporting guid- ance and examples in sections 1103 through 1106 and Appendix 11 are based on the AICPA's report examples included in Chapter 10 and Appendix D of SOP 98-3. Conforming changes to reflect subsequent changes in auditing and Yellow Book standards are included in the copy of SOP 98-3 that is reprinted in the AICPA audit and accounting guides Audits of State and Local Governmental Units (Appendix M) and Not-for-Profit Organiza- tions (Appendix D). The content of this Guide has been updated to reflect the most recent reporting guidance. The illustrative auditor's reports in SOP 98-3 combine the report on the schedule of expenditures of federal awards with the report on the financial statements. If the schedule is not presented with the financial state- ments, the illustrative reports combine the report on the schedule with the report on compliance and on internal control required by OMB Circular A-133. 1100.5