Obtaining an understanding of a prospective audit client's business and industry is a critical first step in accepting an audit engagement.  The following project is designed to simulate the information gathering and analysis aspect of this process.  In addressing the guidelines and instructions below you should pretend that your ultimate goal is to submit an overall preliminary client risk assessment memo to the prospective audit engagement partner.  Some items may not be appropriate for a “real” situation, but they are relevant to the objectives of this project.

The objectives of this project are as follows:

- To acquaint you with the annual report and Form 10K of a publicly held company audited by a CPA firm.
- To provide a practical experience relative to certain steps in the audit process, including obtaining an understanding of the business and industry of a potential audit client and using that understanding to develop an overall risk assessment.
- To provide you with the opportunity to develop practical research skills.
- To allow you to experience working on a team, as is done in actual auditing.

NOTE:  Although under normal circumstances auditors have access to confidential data supplied by the client, this project is to be completed using publicly available information.  If your research raises a question that you would ask the client under normal circumstances you should note this in your report, indicating who you would direct the question to (finance, legal, operations, marketing, etc.).  You are not to consult with anyone working with or for the company you have chosen nor any member of the audit team that is working on the company.  You may not select a company that would result in a violation of the AICPA independence rules if you or anyone on your team were to be assigned to the engagement.  You may not select a company that you have used for a project for another class.

Guidelines and Instructions

These guidelines and instructions are intended to assist you in fulfilling the project requirements.  You should feel free to adapt and expand them as your specific “engagement” may require.

1.  Form your audit team and discuss how you will organize (assign responsibilities) to complete this project. Select a publicly held company that you are interested in.  The company's stock should be actively traded on the New York, American or over-the-counter exchange.  Company selection must be completed and reported to me by Monday, September 19.  Two groups may not work on the same company, accordingly, early selection is encouraged.  Obtain and read your company's most recent annual report and Form 10K.  Review and obtain copies of any Form 8K filings that you believe are particularly important relative to the company's operations and the planned audit (these should be reviewed for the period subsequent to the 10K filing and up to one week before the project due date).  Examine the company's web site and read press releases issued in the past year.

2. Background information and overall control environment

At a minimum, obtain answers to the following questions (you may also need to examine the company's proxy statement, Form DEF 14A).
a. Who is the company's present auditor?  Has there been a change in auditors in the past three years?  If so, what was the reason?  What audit and other fees did the company pay its auditors for the most recent fiscal year?
b. What type of opinion did the company receive on its most recent financial statements?
c. What is the company's year-end?
d. What is the company's primary industry?
e. What are its primary products/services?
f. What raw materials does the company use?
g. How large is the company?
    - sales
    - assets
    - employees
h. Where is the company located?
i. What other persons/companies (if any) are closely associated with the company?
j. Who are the CEO and CFO? How long have they been with the company? Learn about, briefly describe and comment on their apparent areas of expertise and background.  Determine if they have been indicted or placed under investigation recently.   Based on what you have learned, describe what you would expect the "tone at the top" to be for your company.
k. Does the company have an audit committee?  Are the members independent?  Are they experienced audit committee members (for example,  have they been on the board for a significant period of time, do they serve on other boards)?  Do some or all of the members have financial expertise?
l.  Based on your examination of the company's annual report and web site, what kind of image do you believe the company is trying to convey?
m. Comment on the transparency of the external communications that the company makes via its web site, press releases and annual report.
n.  Describe the company's positioning/strategy relative to its industry.  Does this positioning/strategy make sense in light of the business environment and competitive landscape?  Do this positioning present additional risk factors?
o.  Has the company restated their financial statements in the last 3 years?  If so, describe the reason for the restatement and discuss its relevance to the audit.
p.  Is a significant portion of management's' compensation represented by bonuses, stock options or other incentives?
q.  What are the company's major assets?
r.   What are the company's major liabilities?
s.  Where there any individually significant events or transactions such as acquisitions, dispositions, or changes in strategy during the year?  Are any planned for the coming year?
t.   Identify the company's key stakeholders - people, groups or entities (such as customers, shareholders, creditors, suppliers, special interest groups, lenders) that are vital to its success or have a close interest in its success - and comment on how their relationship with the company might influence management's actions.

3.  Business and industry conditions

Obtain information about the company and its industry.  Do not limit your research to the information in the company's annual report, web site and SEC filings.  You should look for relevant information on the Internet, in newspapers and the financial press (e.g. The Wall Street Journal, Barron’s, Business Week, Forbes and industry/trade publications).   Please list the sources used in an appendix to your report.  Your work in this area should include the preparation of a PEST analysis for the industry in which your company operates.   Among other things, your analysis should include the answers to the following questions:
a. What are the key economic factors affecting the company (Is the industry sensitive to business cycle, inflation, international competition, international turmoil, obsolescence, etc.)?
b. Who are the company's major competitors and how did you determine this?
c. What notable accounting considerations (e.g., inventory valuation) are there for companies in this industry? (To this end you should examine relevant AICPA industry audit guides, general Audit Risk alerts, FASB pronouncements, Accounting Trends and Techniques, etc.)
d. Is the company/industry regulated by any government agencies?  If yes, briefly describe which one(s). What particular legal or regulatory matters (e.g., EPA overview) are of concern?
e. What social matters (e.g., social responsibility to communities) are of concern?

4.  Preliminary analytical review

Analyze the company's financial health by performing an analytical review (you may wish to refer to pages 195 - 199 in  the text).  At a minimum, this analysis should cover the three most recent fiscal years.  Identify significant trends and compare your results to industry data for the same period, discussing your firm's strengths or weaknesses relative thereto.    If interim financial information (10Qs, press releases, etc.) is available for the period subsequent to the most recently issued 10K, you should also include this information in your analysis.  Summarize your conclusions making sure to consider the following questions:
a. Is this a financially strong company?
b. Which way is it moving?
c. What are its major sources of financing (equity vs. debt) and what impact does this have on the audit?
d. How does the company compare with the rest of its industry?
e. What areas appear to be problematic and are likely to need additional audit attention?

5.  Important accounting matters

Based on your review of the company's financial statements, 10K and other filings,  identify the principle accounting issues affecting the audit (e.g. areas involving significant estimates/judgment, assumptions, or which have a high level of technical complexity).  Your discussion of important accounting matters should, among other things,  specifically discuss the company's revenue recognition policies and any areas of concern related thereto.

6. Prepare a memo documenting your preliminary risk assessment

Incorporating and reflecting upon the impact of the information in items 2 - 5 above, prepare a memo documenting your preliminary risk assessment.  Indicate what areas you would consider particularly high and low risk for the audit and explain why.   Additionally, explain how you will attempt to deal with the high risk areas (e.g. assign more senior audit staff, experts, etc.). You may identify issues that you believe will likely not present risks in the near term but may result in risks in future periods.  If so, note this. There is no page limitation on the memo; however, keep in mind that your reader's time is valuable, so avoid irrelevant material and focus on significant points. To facilitate grading and reviewer comments, your report should have left and right margins of one inch and be double spaced (although standard business practice would be to single space)

When gathering information about the company;  performing analysis; and preparing the summary memo, keep in mind that you are considering this company as a potential audit client.  Accordingly, it is not enough to identify issues and risk areas related to the client, they must also be discussed in the context of their impact on the audit.  Additionally, your evaluation should be factual and objective.  You are not trying to "sell" the company to the audit partner.  You are trying to assess the company as a potential audit client based on your understanding of the company and any risk areas you have identified.

NOTE - Similar to a real life new audit client situation, your preliminary risk assessment should be prepared as if you are considering the engagement for the year subsequent to the period for which you have obtained a Form 10K.  For example, if you obtain an annual report and Form 10K for the year ended 12/31/2004, you are considering the company as an audit client for the year ended 12/31/2005.  This means, at a minimum, you should review the financial press and the company's quarterly and other filings with the SEC to determine if any significant changes (e.g., new debt or equity financing, major acquisitions, new products, litigation, etc.) have occurred since the date of the last audited financial statements.  Any such significant changes should be addressed in your memo.

The project will make-up 30% of your final grade. 70% of the project will be graded based on content and 30% on writing mechanics and style.  Writing mechanics and style include proper grammar and correct spelling.  The assessment of these components is based on the instructor's professional judgment.

Upon completion of the project, each team member will perform a confidential self and peer evaluation.  This evaluation will consist of allocating 300% between the three team members (including yourself)(400% if there are 4 team members). This allocation should be made honestly and objectively based on performance and contribution to the project throughout the term. A brief explanation of the specific reasons behind your allocation will be required.  In determining individual project grades, I will multiply the average percentage received by each member by the overall project grade.  Additionally, I reserve the right to adjust an individual's  project grade based on my own judgment.

Project Due Dates
 

Select a company and inform me of your selection.	9/19
Submit a preliminary draft of your report to the "engagement partner"	11/18
Submit final report to the "engagement partner"	12/7

Additional information regarding audit risk you should consider

Fraud Risk Factor Memory Jogger (pg 3371) and other useful guidance can be  found in the AICPA Audit and Accounting Manual.  This Manual can be "checked out" from Professor Roberson's office.  Although your project does not directly address the question of fraud, consideration of fraud is required for all audit engagements and a risk of fraud would impact overall audit risk.

Useful web sites -

link from library web site to various search engines

www.edgarscan.pwcglobal.com

accountingweb.com

www.money.cnn.com

www.forbes.com

http://finance.yahoo.com