In July the United States Securities and Exchange Commission (SEC) approved the Public Company Accounting Oversight Board's (PCAOB's) Auditing Standard 5 (AS5), An Audit of Internal Control over Financial Reporting that is Integrated with an Audit of Financial Statements. AS5 replaces Audit Standard 2 (AS2) and is effective for audits of certain publicly held companies for fiscal years ending on or after November 15, 2007.

Although PCAOB only affects public companies, many of the concepts have affected non-public companies through the American Institute of Certified Public Accountants’ adoption of the risk assessment standards. AS5 is designed to focus on matters most important to internal controls, thereby decreasing the amount of time and cost to complete an audit. This is accomplished by:

Implementing a top-down and risk-based approach to ensure that auditors are focusing on risks of material misstatements in financial reporting. This includes understanding the risks related to the entity-level controls and the process-level controls and sufficiently addressing the assessed risk of material misstatement.
Allowing auditors, based on risk assessment, to reduce testing by relying more on the work of others and incorporating knowledge obtained during past audits in determining the nature, timing, and extent of testing necessary, including auditing multi-locations based on risk instead of coverage.
Eliminating auditors’ separate opinions on management’s assessment of internal control over financial reporting to allow auditors to focus on identifying significant deficiencies and material weaknesses, as opposed to evaluating management’s assessment.
Revising definitions of material weakness and significant deficiency.

Although no one knows the effects that AS5 will have on auditing of public companies, it should provide auditors with more flexibility in tailoring testing based on identified risks and using those identified risks to develop an integrated audit plan. This should result in a decrease in the cost and inefficiencies of the financial statement and internal controls audits, allowing for a better cost-benefit relationship in the audit process.

About the Author

Mark Agulnik is a manager in Rachlin’s assurance division.

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