AU 311: Planning and Supervision1

AU-C 300: Planning an Audit

AU-C 210: Terms of Engagement

AU EFFECTIVE DATE AND APPLICABILITY

Original Pronouncements Statements on Accounting Standards (SASs) 108 and 114.
Effective Date The standard is currently effective.
Applicability Audits of financial statements in accordance with generally accepted auditing standards (GAAS) (also relevant for engagements involving special reports on specified elements, accounts, and items of financial statements).

AU-C EFFECTIVE DATE AND SUMMARY OF CHANGES

SAS No. 122, Codification of Auditing Standards and Procedures, is effective for audits of financial statements with periods ending on or after December 15, 2012. AU-C 300 does not change extant requirements in any significant respect.

The requirements of AU 311 are clarified in AU-C 300, except for:

  • AU 311.08–.10 on the early appointment of the independent auditor and establishing the terms of the engagement, which are included in AU-C 210, and
  • Requirements on supervision, which are included in AU-C 220

AU DEFINITIONS OF TERMS

Assistants. Firm personnel other than the auditor with final responsibility for the audit.

Auditor. Either the auditor with final responsibility for the audit or the auditor’s assistants.

Audit planning. Developing an overall strategy for the expected conduct and scope of the audit.

Audit program. A reasonably detailed listing of audit procedures the auditor believes are necessary to accomplish the objectives of the audit. (It aids in instructing assistants in the work to be done.)

Supervision. Directing the efforts of assistants who are involved in accomplishing the objectives of the audit and determining whether those objectives were accomplished. It includes:

1. Instructing assistants
2. Keeping informed of significant problems in conducting audits
3. Reviewing assistants’ work
4. Dealing with differences of opinion among firm personnel

OBJECTIVES OF AU SECTION 311

Section 311 provides an outline of the planning for and supervision of an audit. This includes the development of an overall audit strategy, an understanding of many aspects of the entity to be audited, and consideration of the skills and level of supervision needed to conduct the audit. Documentation includes how to establish an understanding with the client about the terms of the engagement, and the contents of the audit program. It also addresses how to handle any disagreements by assistants with audit conclusions.

OBJECTIVES OF AU-C SECTION 300

AU-C 300.04 states that “the objective of the auditor is to plan the audit so that it will be performed in an effective manner.”

FUNDAMENTAL REQUIREMENTS

Planning

Appointment of the Independent Auditor

Early appointment of the independent auditor is preferable. Before accepting an engagement near or after the close of the fiscal year, the auditor should

1. Determine whether circumstances of the engagement are likely to allow for an adequate audit and expression of an unqualified opinion.
2. If they will not, discuss with the client the possible need for a qualified opinion or disclaimer of opinion.
NOTE: This requirement applies specifically to appointment near or after year-end. However, any time the possible necessity of a qualified opinion or disclaimer of opinion becomes apparent, it is prudent for the auditor to discuss the matter with the client.

Establishing an Understanding with the Client

The auditor should establish an understanding with the client about the services to be performed for each audit, review of a public company’s financial statements, or agreed-upon procedures engagement. The understanding should include:

1. The engagement’s objectives
2. Management’s responsibilities
3. Auditor’s responsibilities
4. The engagement’s limitations

The auditor should document the understanding, preferably through a written communication with the client. If the auditor fails to establish an understanding, the auditor should decline the engagement.

NOTE: This does not require an engagement letter, but the best way to meet the requirement is to always use an engagement letter.

The understanding with the client generally includes the following matters:

1. The objective of the audit is the expression of an opinion.
2. Management is responsible for:
a. The financial statements and the selection and application of the accounting policies
b. Establishing and maintaining effective internal control over financial reporting
c. Designing and implementing programs and controls to prevent and detect fraud
d. Compliance with laws and regulations
e. Providing all financial records and related information to the auditor
f. Providing a written representation letter to the auditor at the end of the engagement
g. Adjusting the financial statements to correct material misstatements
h. Affirming in the management representation letter that any uncorrected misstatements are immaterial
3. The auditor is responsible for
a. Conducting the audit in accordance with GAAS (including a summary of the limitations of an audit).
b. Obtaining an understanding of internal control sufficient to plan the audit.
NOTE: All these matters are generally included, but the auditor is not required to include them.

Other matters may be included in the understanding, such as arrangements about:

  • The conduct of the engagement (for example, timing, client assistance)
  • Specialists or internal auditors
  • A predecessor auditor
  • Fees and billing
  • Indemnification arrangements if the client knowingly provides false information to the auditor
NOTE: The AICPA’s Code of Professional Conduct permits indemnification arrangements limited to knowing misrepresentations made by the client, but regulators, such as the Securities and Exchange Commission (SEC), may prohibit or restrict these agreements.
  • Conditions for access to the auditor’s audit documentation
  • Additional services

Preliminary Engagement Activities

The auditor should perform the following activities at the beginning of the current audit engagement:

  • Perform procedures regarding the continuance of the client relationship and the specific audit engagement.
  • Evaluate the auditor’s compliance with ethical requirements, including independence.

The purpose of performing these preliminary engagement activities is to consider any events or circumstances that may either adversely affect the auditor’s ability to plan and perform the audit or may pose an unacceptable level of risk to the auditor.

The Overall Audit Strategy

You should establish and document the overall audit strategy for the audit. The overall audit strategy involves the determination of:

  • The characteristics of the audit that define its scope
  • The reporting objectives of the engagement related to the timing of the audit and the required communications
  • Important factors that determine the focus of the audit team’s efforts

The audit strategy helps the auditor determine the resources necessary to perform the engagement.

The Audit Plan

The audit plan is a more detailed, tactical plan that addresses the various audit matters identified in the audit strategy. You must develop and document an audit plan for every audit.

The audit plan should include a description of:

  • The nature, timing, and extent of planned risk assessment procedures
  • The nature, timing, and extent of planned further audit procedures at the relevant assertion level for each material class of transactions, account balance, and disclosure
  • Other audit procedures to be carried out to comply with GAAS

Determining the Extent of Involvement of Professionals Possessing Specialized Skills

The auditor should consider whether specialized skills are needed in performing the audit. For example, the auditor may need to involve the use of an information technology (IT) specialist to:

  • Determine the effect of IT on the audit
  • Understand the IT controls
  • Design and perform tests of IT controls or substantive procedures

In determining whether an IT professional is needed, the auditor should consider factors such as the following:

  • The complexity of the entity’s systems and IT controls and the manner in which they are used in conducting the entity’s business
  • The significance of changes made to existing systems, or the implementation of new systems
  • The extent to which data is shared among systems
  • The extent of the entity’s participation in electronic commerce
  • The entity’s use of emerging technologies
  • The significance of audit evidence that is available only in electronic form

Communications with Those Charged with Governance and Management

The auditor may discuss elements of planning with those charged with governance and the entity’s management.

Additional Considerations in Initial Audit Engagements

Before starting an initial audit, the auditor should:

  • Perform procedures regarding the acceptance of the client relationship and the specific audit engagement (see Statement on Quality Control Standards [SQCS] 2, System of Quality Control for a CPA Firm’s Accounting and Auditing Practice, as amended).
  • Communicate with the previous auditor, where there has been a change of auditors (see Section 315).

When developing the overall audit strategy and audit plan, the auditor should consider:

  • Arrangements to be made with the previous auditor, for example, to review the previous auditor’s audit documentation
  • Any major issues (including the application of accounting principles or of auditing and reporting standards) discussed with management in connection with the initial selection as auditors, the communication of these matters to those charged with governance, and how these matters affect the overall audit strategy and audit plan
  • The planned audit procedures to obtain sufficient appropriate audit evidence regarding opening balances
  • The assignment of firm personnel with appropriate levels of capabilities and competence to respond to anticipated significant risks
  • Other procedures required by the firm’s system of quality control for initial audit engagements (for example, the firm’s system of quality control may require the involvement of another partner or senior individual to review the overall audit strategy prior to commencing significant audit procedures or to review reports prior to their issuance)

Supervision

Instructing Assistants

The auditor with final responsibility for the audit should inform assistants about:

1. Their responsibilities
2. The objectives of the procedures they are to perform
3. Matters that may affect the scope of the procedures they are to perform, such as:
a. Aspects of the entity’s business relevant to their assignment
b. Possible accounting and auditing problems
4. The need to bring to his or her attention significant accounting and auditing questions raised during the audit

Extent

The extent of supervision necessary depends on such factors as:

1. Complexity of the subject matter
2. Qualifications of the assistants

Reviewing Work

The auditor should review the work of each assistant to:

1. Determine whether it was adequately performed
2. Evaluate whether the results support the conclusions to be expressed in the auditor’s report

Disagreements

If differences of opinion arise among firm personnel about accounting or auditing issues in an audit, there should be:

1. Consultation to attempt resolution
2. Documentation of an assistant’s disagreement, if he or she wants to be disassociated from the final resolution
3. Documentation of the basis for the final resolution

INTERPRETATIONS

Communications Between the Auditor and Firm Personnel Responsible for Nonaudit Services (February 1980 and March 2006)

The auditor should:

1. Consider the nature of nonaudit services that have been performed.
2. Assess whether the services affect the financial statements or performance of the audit.
3. Discuss the nonaudit services with personnel who performed such services, if they have implications for the audit. It may be useful to review the nonaudit engagement workpapers to help determine possible audit implications.

TECHNIQUES FOR APPLICATION

Appointment of the Auditor

A significant factor in planning fieldwork and timing auditing procedures is the timing of the auditor’s appointment.

Early Appointment

Early appointment of the auditor is ideal. It allows him or her to plan the work so that it may be done effectively. An early appointment is helpful in planning the following:

1. Observation of the taking of the physical inventories
2. Confirmation of cash, receivables, and other balances
3. Count of cash and securities

Early appointment also is helpful because it allows the auditor to perform some procedures before the end of the period (interim work) such as obtaining and documenting knowledge of internal control and testing of details of transactions.

By doing interim work, the auditor can complete the audit at an early date after year-end. Early appointment also allows early consideration of difficult accounting and reporting problems and reduction of pressures to meet filing deadlines, such as those of the SEC.

Appointment Near or After Year-End

Appointment near or after the client’s year-end date presents planning and timing problems for the auditor; however, these problems may be resolved. Ordinarily, the problems concern inventory observation, cash and securities counts, and confirmation requests.

Because of the late appointment, the auditor may not be able to observe the physical count of the inventory and the cash and securities at year-end. In this circumstance, the auditor should consider the client’s accounting records. If the client maintains perpetual inventory records, the auditor can observe the physical count on a date after the client’s year-end date and adjust that count back to year-end by using information in the perpetual inventory records. If the client maintains adequate and up-to-date securities records, the auditor can observe the count on a date after the client’s year-end and adjust that count back to year-end by using information in the securities subsidiary ledger. Whenever the auditor observes a count on a date after the client’s year-end date and adjusts that count back to year-end, he or she should examine, on a test basis, relevant transactions that occurred between year-end and the date of the count.

If the appointment is not too late after year-end, the auditor may be able to obtain necessary year-end confirmations, such as cash, receivables, prepayments, deposits, payables, and so on. If, however, the appointment is a month or two after year-end, the auditor may have to confirm account balances as of a date other than year-end and adjust the confirmed balances back to year-end. This procedure requires the examination on a test basis of relevant transactions that occurred between year-end and the confirmation date.

Matters Covered in Engagement Letter

The understanding with the client is specifically required to include

1. The engagement’s objectives,
2. Responsibilities of management,
3. Responsibilities of the auditor, and
4. The engagement’s limitations.

These four subject areas must be covered in the understanding. The manner and precise wording of that coverage is flexible.

Matters that are generally included in the understanding with the client are covered in Planning and Supervision (Section 311), under the section “Establishing an Understanding with the Client.” For example, some auditors, in explaining responsibilities, describe responsibilities for detection of error, fraud, and reportable conditions of internal control, including a statement that matters of that nature that come to the auditor’s attention will be communicated to management and the audit committee. These promises to communicate have sometimes been held to be separate undertakings in litigation that expand the auditor’s legal duty. The auditor may wish to omit them or seek advice of legal counsel before including them.

Forming an Audit Strategy and Plan

Developing an audit strategy and an audit plan is intended to be an iterative process. As information becomes available to you over the course of your audit, you should reconsider your audit strategy and audit plan to determine whether they remain relevant. All changes to your audit strategy and plan should be documented.

Establishing an audit strategy varies according to the size of the entity and the complexity of the audit.

In audits of small entities, a very small audit team may conduct the entire audit. With a smaller team, coordination and communication between team members are easier. Consequently, establishing the overall audit strategy need not be a complex or time-consuming exercise.

Matters to Consider in Developing an Audit Strategy

Appendix to AU 311

Scope of the Audit Engagement

  • The basis of reporting on which the financial information to be audited has been prepared, including any need for reconciliations to another basis of reporting
  • Industry-specific reporting requirements, such as reports mandated by industry regulators
  • The expected audit coverage, including the number and locations to be included
  • The nature of the control relationships between a parent and its subsidiaries that determine how the group is to be consolidated
  • The extent to which locations are audited by other auditors
  • The nature of the subsidiaries or divisions to be audited, including the need for specialized knowledge
  • The reporting currency to be used, including any need for currency translation for the financial information audited
  • The need for statutory or regulatory audit requirements, for example, the Office of Management and Budget (OMB) Circular A-133, Audits of States, Local Governments, and Non-Profit Organizations
  • The availability of the work of internal auditors and the extent of the auditor’s potential reliance on such work
  • The entity’s use of service organizations and how the auditor may obtain evidence concerning the design or operation of controls performed by them
  • The expected use of audit evidence obtained in prior audits, for example, audit evidence related to risk assessment procedures and tests of controls
  • The effect of information technology on the audit procedures, including the availability of data and the expected use of computer-assisted audit techniques
  • The coordination of the expected coverage and timing of the audit work with any reviews of interim financial information and the effect on the audit of the information obtained during such reviews
  • The discussion of matters that may affect the audit with firm personnel responsible for performing other services to the entity
  • The availability of client personnel and data

Reporting Objectives, Timing of the Audit, and Communications Required

  • The entity’s timetable for reporting, including interim periods
  • The organization of meetings with management and those charged with governance to discuss the nature, extent, and timing of the audit work
  • The discussion with management and those charged with governance regarding the expected type and timing of reports to be issued and other communications, both written and oral, including the auditor’s report, management letters, and communications to those charged with governance
  • The discussion with management regarding the expected communications on the status of audit work throughout the engagement and the expected deliverables resulting from the audit procedures
  • Communication with auditors of other locations regarding the expected types and timing of reports to be issued and other communications in connection with the audit of other locations
  • The expected nature and timing of communications among audit team members, including the nature and timing of team meetings and timing of the review of work performed
  • Whether there are any other expected communications with third parties, including any statutory or contractual reporting responsibilities arising from the audit

Scope of the Audit

  • With respect to materiality:
    • Setting materiality for planning purposes
    • Setting and communicating materiality for auditors of other locations
    • Reconsidering materiality as audit procedures are performed during the course of the audit
    • Identifying the material locations and account balances
  • Audit areas where there is a higher risk of material misstatement
  • The effect of the assessed risk of material misstatement at the overall financial statement level on scope, supervision, and review
  • The selection of the audit team (including, where necessary, the engagement quality control reviewer) and the assignment of the audit work to the team members, including the assignment of appropriately experienced team members to areas where there may be higher risks of material misstatement
  • Engagement budgeting, including considering the appropriate amount of time to set aside for areas where there may be higher risks of material misstatement
  • The manner in which the auditor emphasizes to audit team members the need to maintain a questioning mind and to exercise professional skepticism in gathering and evaluating audit evidence
  • Results of previous audits that involved evaluating the operating effectiveness of internal control, including the nature of identified weaknesses and action taken to address them
  • Management’s commitment to the design and operation of internal control
  • Volume of transactions, which may be a factor in determining whether it is more effective for the auditor to rely on internal control
  • Importance attached to internal control throughout the entity to the successful operation of the business
  • Significant business developments affecting the entity, including changes in information technology, and business processes; changes in key management; and acquisitions, mergers, and divestments
  • Significant industry developments, such as changes in industry regulations and new reporting requirements
  • Significant accounting changes, such as changes in GAAP
  • Other significant relevant developments, such as changes in the legal environment affecting the entity

AU-C 300.A25 Appendix—Considerations in Establishing the Overall Audit

The appendix to AU-C 300 provides examples of matters the auditor may consider in establishing the overall audit strategy, and many of these matters also will influence the detailed audit plan. The examples provided cover a broad range of matters applicable to many engagements. Although some of the following matters may be required by other AU-C sections, not all matters are relevant to every audit engagement, and the list is not necessarily complete.

Characteristics of the Engagement

The following are some examples of characteristics of the engagement:

  • The financial reporting framework on which the financial information to be audited has been prepared, including any need for reconciliations to another financial reporting framework
  • Industry-specific reporting requirements, such as reports mandated by industry regulators
  • The expected audit coverage, including the number and locations of components to be included
  • The nature of the control relationships between a parent and its components that determine how the group is to be consolidated
  • The extent to which components are audited by other auditors
  • The nature of the business divisions to be audited, including the need for specialized knowledge
  • The reporting currency to be used, including any need for currency translation for the audited financial information
  • The need for statutory or regulatory audit requirements (for example, the OMB Circular A-133, Audits of States, Local Governments, and Nonprofit Organizations)
  • The availability of the work of internal auditors and the extent of the auditor’s potential use of such work
  • The entity’s use of service organizations and how the auditor may obtain evidence concerning the design or operation of controls performed by them
  • The expected use of audit evidence obtained in previous audits (for example, audit evidence related to risk assessment procedures and tests of controls)
  • The effect of IT on the audit procedures, including the availability of data and the expected use of computer-assisted audit techniques
  • The coordination of the expected coverage and timing of the audit work with any reviews of interim financial information, and the effect on the audit of the information obtained during such reviews
  • The availability of client personnel and data

Reporting Objectives, Timing of the Audit, and Nature of Communications

The following examples illustrate reporting objectives, timing of the audit, and nature of communications:

  • The entity’s timetable for reporting, including interim periods
  • The organization of meetings with management and those charged with governance to discuss the nature, timing, and extent of the audit work
  • The discussion with management and those charged with governance regarding the expected type and timing of reports to be issued and other communications, both written and oral, including the auditor’s report, management letters, and communications to those charged with governance
  • The discussion with management regarding the expected communications on the status of audit work throughout the engagement
  • Communication with auditors of components regarding the expected types and timing of reports to be issued and other communications in connection with the audit of components
  • The expected nature and timing of communications among engagement team members, including the nature and timing of team meetings and timing of the review of work performed
  • Whether there are any other expected communications with third parties, including any statutory or contractual reporting responsibilities arising from the audit

Significant Factors, Preliminary Engagement Activities, and Knowledge Gained on Other Engagements

The following examples illustrate significant factors, preliminary engagement activities, and knowledge gained on other engagements:

  • The determination of materiality, in accordance with AU-C Section 320, Materiality in Planning and Performing an Audit, and, when applicable, the following:
    • The determination of materiality for components and communication thereof to component auditors in accordance with AU-C Section 600, Special Considerations—Audits of Group Financial Statements (Including the Work of Component Auditors)
    • The preliminary identification of significant components and material classes of transactions, account balances, and disclosures
  • Preliminary identification of areas in which there may be a higher risk of material misstatement
  • The effect of the assessed risk of material misstatement at the overall financial statement level on direction, supervision, and review
  • The manner in which the auditor emphasizes to engagement team members the need to maintain a questioning mind and exercise professional skepticism in gathering and evaluating audit evidence
  • Results of previous audits that involved evaluating the operating effectiveness of internal control, including the nature of identified deficiencies and action taken to address them
  • The discussion of matters that may affect the audit with firm personnel responsible for performing other services to the entity
  • Evidence of management’s commitment to the design, implementation, and maintenance of sound internal control, including evidence of appropriate documentation of such internal control
  • Volume of transactions, which may determine whether it is more efficient for the auditor to rely on internal control
  • Importance attached to internal control throughout the entity to the successful operation of the business
  • Significant business developments affecting the entity, including changes in IT and business processes; changes in key management; and acquisitions, mergers, and divestments
  • Significant industry developments, such as changes in industry regulations and new reporting requirements
  • Significant changes in the financial reporting framework, such as changes in accounting standards
  • Other significant relevant developments, such as changes in the legal environment affecting the entity

Nature, Timing, and Extent of Resources

The following examples illustrate the nature, timing, and extent of resources:

  • The selection of the engagement team (including, when necessary, the engagement quality control reviewer [see AU-C Section 220, Quality Control for an Engagement Conducted in Accordance with Generally Accepted Auditing Standards]) and the assignment of audit work to the team members, including the assignment of appropriately experienced team members to areas in which there may be higher risks of material misstatement
  • Engagement budgeting, including considering the appropriate amount of time to set aside for areas in which there may be higher risks of material misstatement

AU ILLUSTRATION

Illustration 1. Illustrative Engagement Letter
Auditor’s Letterhead Smith and Jones
Certified Public Accountants
October 7, 2011
Addressed to Client Brock Warner
Plainsmen, Inc.
2320 Tiger Blvd.
Lancaster, Pennsylvania 19701
To the Board of Directors and Shareholders (and to the Audit Committee if applicable):2
This letter will confirm our understanding of the arrangements covering our audit of the financial statements of Plainsmen, Inc. for the period ending December 31, 2011.
Scope of Engagement
Objective of Engagement and Form of Report		 We will audit the company’s balance sheet as of December 31, 2011, and the related statements of income, retained earnings, and cash flows for the year then ended. Our audit will be made in accordance with auditing standards generally accepted in the United States of America3 and will include obtaining an understanding of your internal controls over financial reporting sufficient to plan the audit and making such tests of the accounting records and such other auditing procedures as we consider necessary in the circumstances. Our audit is not designed to provide any assurance on internal control. The objective of our audit is to express an unqualified opinion on the financial statements, although it is possible that facts or circumstances encountered may require us to express a less than unqualified opinion. If for any reason, we are not able to complete the audit, we will not issue a report.
Client’s Representations Our procedures will include tests of documentary evidence supporting the transactions recorded in the accounts, tests of the physical existence of inventories, and direct confirmation of receivables and certain other assets and liabilities by correspondence with selected customers, creditors, legal counsel, and banks. At the conclusion of our audit, we will require a letter from management that confirms certain representations made about the financial statements and related matters during the audit.
Client’s Responsibilities The fair presentation of financial position and results of operations in conformity with accounting principles generally accepted in the United States of America is management’s responsibility. Management is responsible for the development, implementation, and maintenance of an adequate internal control system, compliance with laws and regulations, and for the accuracy of the financial statements. Management is also responsible for making all financial records and related information available to us. Although we may advise you about appropriate accounting principles and their application, the selection and method of application are responsibilities solely of management.
Audit Adjustments Management is responsible for adjusting the financial statements to correct material misstatements and for confirming to us in the representation letter that the effects of any uncorrected misstatements are immaterial, both individually and in the aggregate, to the financial statements.
Limitations of the Audit We plan and perform our audit to obtain reasonable assurance about whether the financial statements are free of material misstatements. Because of the concept of reasonable assurance and because we do not perform a detailed examination of all transactions, there is a risk that material errors, fraud, or other illegal acts may exist and not be detected by us. However, we will inform you of any material errors that come to our attention and any fraud that comes to our attention. We will also inform you of any other illegal acts that come to our attention, unless clearly inconsequential.
Communications about Internal Control During the course of our audit we may observe opportunities for economy in, or improved controls over, your operations. We will bring such matters to the attention of the appropriate level of management either orally or in writing. However, our audit is not designed and cannot be relied on to detect significant deficiencies in the design or operation of internal controls.
Fees Fees for our services are based on our regular per diem rates plus travel and other out-of-pocket expenses. Invoices will be rendered every two weeks and are payable upon presentation. We estimate that our fee for this audit will be between $25,000 and $30,000. Should any situation arise that would materially increase this estimate we will, of course, advise you.
Use of Client Personnel Whenever possible, we will attempt to use your company’s personnel. This effort could substantially reduce our time requirements and help you hold down audit fees.
Other Work We will also prepare federal and state tax returns for the year ended December 31, 2011. The fee for tax return preparation should be approximately $5,000.
Acknowledgement Please indicate your agreement to these arrangements by signing the attached copy of this letter and returning it to us.
We appreciate your confidence in retaining us as your certified public accountants and look forward to working with you and your staff.
Sincerely,
Smith and Jones
Signed by CPA Smith and Jones
Signed by Client and Returned to CPA Approved
By Brock Warner
Title President
Plainsmen, Inc.
Date 10/7/11

AU-C 210 ILLUSTRATION

Illustration 1. Illustrative Engagement Letter—Example of an Audit Engagement Letter (from AU-C 210.A42)
The following is an example of an audit engagement letter for an audit of general purpose financial statements prepared in accordance with accounting principles generally accepted in the United States of America, as promulgated by the Financial Accounting Standards Board (FASB). This letter is not authoritative but is intended only to be a guide that may be used in conjunction with the considerations outlined in this SAS. The letter will vary according to individual requirements and circumstances and is drafted to refer to the audit of financial statements for a single reporting period. The auditor may seek legal advice about whether a proposed letter is suitable.
To the appropriate representative of those charged with governance of ABC Company:
[The objective and scope of the audit]
You have requested that we audit the financial statements of ABC Company, which comprise the balance sheet as of December 31, 20XX, and the related statements of income, changes in stockholders’ equity, and cash flows for the year then ended, and the related notes to the financial statements. We are pleased to confirm our acceptance and our understanding of this audit engagement by means of this letter. Our audit will be conducted with the objective of our expressing an opinion on the financial statements.
[The responsibilities of the auditor]
We will conduct our audit in accordance with auditing standards generally accepted in the United States of America (GAAS). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
Because of the inherent limitations of an audit, together with the inherent limitations of internal control, an unavoidable risk exists that some material misstatements may not be detected, even though the audit is properly planned and performed in accordance with GAAS.
In making our risk assessments, we consider internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. However, we will communicate to you in writing concerning any significant deficiencies or material weaknesses in internal control relevant to the audit of the financial statements that we have identified during the audit.
[The responsibilities of management and identification of the applicable financial reporting framework]
Our audit will be conducted on the basis that [management and, when appropriate, those charged with governance] acknowledge and understand that they have responsibility:
1. For the preparation and fair presentation of the financial statements in accordance with accounting principles generally accepted in the United States of America;
2. For the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error; and
3. To provide us with:
a. Access to all information of which [management] is aware that is relevant to the preparation and fair presentation of the financial statements such as records, documentation, and other matters;
b. Additional information that we may request from [management] for the purpose of the audit; and
c. Unrestricted access to persons within the entity from whom we determine it necessary to obtain audit evidence.
As part of our audit process, we will request from [management and, when appropriate, those charged with governance], written confirmation concerning representations made to us in connection with the audit.
[Other relevant information]
[Insert other information, such as fee arrangements, billings, and other specific terms, as appropriate.]
[Reporting]
[Insert appropriate reference to the expected form and content of the auditor’s report. Example follows:]
We will issue a written report upon completion of our audit of ABC Company’s financial statements. Our report will be addressed to the board of directors of ABC Company. We cannot provide assurance that an unmodified opinion will be expressed. Circumstances may arise in which it is necessary for us to modify our opinion, add an emphasis-of-matter or other-matter paragraph(s), or withdraw from the engagement.
We also will issue a written report on [insert appropriate reference to other auditor’s reports expected to be issued] upon completion of our audit.
Please sign and return the attached copy of this letter to indicate your acknowledgment of, and agreement with, the arrangements for our audit of the financial statements including our respective responsibilities.
XYZ & Co.
Acknowledged and agreed on behalf of ABC Company by
___________________________
[Signed]
[Name and Title]
[Date]

1 This section is affected by the Public Company Accounting Oversight Board’s (PCAOB) Standard, Conforming Amendments to PCAOB Interim Standards Resulting from the Adoption of PCAOB Auditing Standard No. 5, An Audit of Internal Control over Financial Reporting That Is Integrated with an Audit of Financial Statements.

2 For a public entity that is listed on a stock exchange, the Sarbanes–Oxley Act requires the audit committee to be directly responsible for the appointment, compensation, and oversight of the external auditor.

3 Public companies subject to the standards of the PCAOB should state that the audit will be made in accordance with the standards of the PCAOB. See the discussion of PCAOB Standard 1, References in Auditors’ Report to the Standards of the Public Company Accounting Oversight Board.

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