Continuous Auditing (Portfolio 5405)

Portfolio 5405, Continuous Auditing (Accounting Policy and Practice Series), introduces accountants, auditors, managers and regulators to the field of continuous auditing.

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This Portfolio is part of the Accounting Policy and Practice Series, an essential resource including more than 70 accounting Portfolios and the latest news and developments.


Portfolio 5405, Continuous Auditing (Accounting Policy and Practice Series), introduces accountants, auditors, managers and regulators to the field of continuous auditing. For purposes of this Portfolio, continuous auditing (CA) means two main processes: 1) a process of constantly testing transactions based upon criteria prescribed by the auditor and identifies anomalies (exceptions) on which the auditor can perform additional procedures, and 2) a process of continuous control monitoring. Section I introduces the subject matter.
Section II discusses the environment, the need for new methods of auditing, the impact of the Sarbanes-Oxley legislation, the drivers of continuous audit, and extant research in continuous audit. Section III and Section IV present a basic conceptualization of monitoring and control and continuous reporting and assurance, respectively. Section V focuses on the design of a continuous auditing system using basic elements that are accessible to most organizations. This section focuses in particular on allowing smaller organizations to acquire some basic elements of continuous assurance without acquiring expensive and complex software.
Section VI describes two ongoing pilot research efforts at large U.S. organizations aimed at the monitoring of control settings and at automating the audit of a continuous data flow. These two examples can serve readers in the development of their own ideas of CA in their organizations. Section VII attempts to give guidelines to organizations in the implementation of CA from the perspective of management. Finally, Section VII brings together the Portfolio examining extant issues such as what organizational attributes are conducive to CA implementation, the extent that external auditors can rely on internal auditor's CA work, and other issues.
This Portfolio may be cited as BNA Tax and Accounting Portfolio 5405, Alles, Kogan, Vasarhelyi, and Warren, Continuous Auditing (Accounting Policy and Practice Series).
The Portfolio is a project of the Continuous Assurance and Reporting (CAR-Lab) and the Center for Continuous Auditing (CCA) which are located in Rutgers Business School. The Center for Continuous Auditing compliments the CAR-Lab by promoting advances in the use of technology in the continuous audit of the business and government environments and seeking to establish alliances with other universities to develop a collaborative environment for research and consultation on the issues of continuous auditing.
CAR-Lab's objective is to develop concepts and technologies to improve audit procedures by publishing its findings in research reports and presenting live demonstrations of promising new technologies to business executives, policy-makers and regulators. The CAR-Lab develops experiments that use actual corporate information to test continuous auditing techniques.
The CAR-Lab is the research arm of the CCA.


Michael G. Alles, Ph.D.

Michael G. Alles, Ph.D., Stanford Business School; B.S. (First Class in Honors), The Australian National University. A past member of the Executive Committee of the Management Accounting Section of the American Accounting Association, Dr. Alles has co-chaired its annual research symposium. He is a professor in the Department of Accounting and Information Systems at the Rutgers Business School, and has taught accounting at the University of Texas, Southern Methodist University, and New York University.

Alexander Kogan, Ph.D.

Alexander Kogan, Ph.D., Computer Science, USSR Academy of Sciences; B.S./M.S., Operations Research, Phystech—Moscow Institute of Physics & Technology (Honors). Dr. Kogan received the Research and Service Awards of the American Accounting Association's Artificial Intelligence/Emerging Technologies Section. He is a member of the American Accounting Association's Institute for Operations Research and the Management Sciences. As professor of Accounting and Information Systems at the Rutgers Business School, Dr. Kogan is a frequent presenter at conferences and author and co-author of articles in prestigious journals.

Miklos A. Vasarhelyi, Ph.D.

Miklos A. Vasarhelyi, Ph.D., Management Information Systems, University of California at Los Angeles; MBA, Massachusetts Institute of Technology; B.S., Economics, The State University of Guanabara; B.S., Electrical Engineering, Catholic University of Rio de Janeiro. Dr. Vasarhelyi is the Director of the Continuous Auditing and Reporting Laboratory (CARLAB) at the Rutgers Business School, where he is also the KPMG Professor of Accounting Information Systems. He is a member of many organizations and a frequent author of articles in prestigious journals.

J. Donald Warren, Jr., Ph.D., CPA

J. Donald Warren, Jr., CPA, Ph.D., Texas A&M University; MBA, The George Washington University; BBA, Accounting, Lamar University. Dr. Warren has 31 years of practice experience in auditing and accounting with PricewaterhouseCoopers and the former Coopers & Lybrand. At PricewaterhouseCoopers, he served as a director, national consulting partner, and as the liaison to the Securities and Exchange Commission. Dr. Warren has also served as an audit manager with the U.S. General Accounting Office in Washington, D.C., where he was responsible for conducting operational audits of federal agencies. At Rutgers Business School, he serves as the Director of the Center for Continuous Auditing and Director of the Masters of Accountancy in Financial Accounting.

Table of Contents

Detailed Analysis

I. Scope, Focus, and Purpose of Portfolio

A. Scope and Focus-Auditing Fair Values

B. Purposes of Portfolio

C. Portfolio Content

II. Fair Value Accounting

Introductory Material

A. Evolution of Fair Values and Rationale for the Use of Fair Values

B. Fair Value Defined

C. Fair Values Used in Accounting

1. Recognition

2. Disclosure

3. Business Combinations

D. Fair Value Option Prescribed by FAS 159

III. Fair Value Estimation

Introductory Material

A. Accounting Rules for Estimating Fair Values

1. Fair Value Measurement Under FAS 157

2. Other Measurements Rules Outside the Scope of FAS 157

a. Share-Based Payments

b. Software Revenue Recognition

c. Inventory Pricing

d. Lease Accounting

B. Alternative Approaches to Estimating a Fair Value

1. Cost Approach

2. Market Approach

3. Income Approach

4. Relationships of the Approaches and Auditors' Responsibility

C. International Financial Reporting Standards

IV. Fundamentals of Auditing Fair Values

Introductory Material

A. Objective

B. Level and Quantity of Audit Procedures

C. Major Steps and Procedures

D. Comparisons and Contrasts Under International Auditing Standards

V. Planning

Introductory Material

A. Importance and Objectives

B. Procedures

C. Auditor's Conclusion

D. Auditor's Documentation

VI. Interim Procedures

Introductory Material

A. Importance and Objectives

B. Internal Control Issues and Tests

C. Substantive Test Procedures

D. Auditor's Conclusion

E. Auditor's Documentation

VII. Year-End Procedures

Introductory Material

A. Importance and Objectives

B. Evaluating Fair Value Measurement Requirements

C. Procedures for Auditing Simple Fair Value Measurements

D. Procedures for Auditing Complex Fair Value Measurements

1. Testing Valuation Model, Assumptions, and Underlying Data

a. Understanding, Reviewing, and Evaluating Valuation Methodology

b. Clerically Test Client Valuation

c. Identifying and Evaluating Assumptions

d. Evaluating Underlying Data

e. Performing Sensitivity Analysis of Key Assumptions

2. Independent Valuation

3. Subsequent Events or Transactions

E. Client Uses a Pricing Service to Obtain Fair Value Measurements

F. Management's Representation

G. Auditor's Conclusion

H. Auditor's Documentation

VIII. Sources of Evidence

Introductory Material

A. Major Classifications

B. Level 1 Inputs

C. Level 2 Inputs

D. Level 3 Inputs

IX. Using an Expert in Auditing Fair Value

Introductory Material

A. Why Use an Expert?

B. Who Is an Expert for Auditing Fair Values

C. Auditing Procedures When Using a Valuation Expert

X. Auditing Fair Values Associated With Illiquid Markets

Introductory Material

A. Fair Values and Illiquid Markets

B. Auditing Involving Illiquid Markets

XI. Auditing Sensitive Items Applicable to All Industries

Introductory Material

A. Investments in Equity Securities

B. Investment in Privately-Held Bonds

C. Investment in a Partnership

D. Derivatives

E. Inventory

F. Stock-Based Compensation

1. Black-Scholes Method

2. Lattice (Binomial) Method

G. Impairments

H. Long-Term Debt

I. Asset Retirement Obligation

J. Investments in Collateralized Debt Obligation (Active Markets)

K. Collateralized Debt Obligations (Inactive Markets)

L. Fair Value Disclosures

XII. Industry Specific Issues

Introductory Material

A. Banking

1. Consumer Loans

2. Commercial Loans

3. Loan Commitments

B. Insurance

C. Real Estate

Working Papers

Working Papers


Worksheet 1 Glossary of Significant Terms and Acronyms

Worksheet 2 Sample Check List for Use of Fair Values Under GAAP

Worksheet 3 Sample Audit Workpapers: Investments in Equity Securities

Worksheet 4 Sample Audit Workpapers: Investment in Privately-Held Bonds

Worksheet 5 Sample Audit Workpapers: Investment in a Partnership

Worksheet 6 Sample Audit Workpapers: Derivatives

Worksheet 7 Sample Audit Workpapers: Inventory

Worksheet 8 Sample Audit Workpapers: Stock-Based Compensation

Worksheet 9 Sample Audit Workpapers: Stock-Based Compensation

Worksheet 10 Sample Audit Workpapers: Impairments

Worksheet 11 Sample Audit Workpapers: Long-Term Debt

Worksheet 12 Sample Audit Workpapers: Asset Retirement Obligation

Worksheet 13 Sample Audit Workpapers: Investments in Collateralized Debt Obligations (Active Markets)

Worksheet 14 Sample Audit Workpapers: Investments in Collateralized Debt Obligations (Inactive Markets)

Worksheet 15 Fair Value Disclosure Example: Abbott Laboratories

Worksheet 16 Fair Value Disclosure Example: Devon Energy Corporation

Worksheet 17 Fair Value Disclosure Example: Bank of America Corporation

Worksheet 18 Fair Value Disclosure Example: SunTrust Banks



Securities and Exchange Commission

SEC Releases

SEC Staff Accounting Bulletins

SEC Filings

Accounting Principles Board Opinions

American Institute of Certified Public Accountants

AICPA Statements of Position

AICPA Statements on Auditing Standards

AICPA Accounting Research Bulletins

AICPA Statement on Standards for Valuation Services

AICPA Audit and Accounting Guides

Financial Accounting Standards Board

Emerging Issues Task Force Issues

FASB Concepts Statements

FASB Statements of Financial Accounting Standards

FASB Staff Positions

International Accounting Standards Board (IASB)

International Accounting Standards

International Financial Reporting Standards

International Auditing and Assurances Standards Board (IAASB)

IAASB International Standards of Auditing

IAASB Releases

Public Company Accounting Oversight Board


PCAOB Miscellaneous


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