1666 K Street, N.W. Washingtn, DC 20006 Telephne: (202) 207-9100 Facsimile: (202) 862-8433 www.pcabus.rg Reprt n 2013 (Headquartered in Chicag, Illinis) Issued by the Public Cmpany Accunting Oversight Bard THIS IS A PUBLIC VERSION OF A PCAOB INSPECTION REPORT PORTIONS OF THE COMPLETE REPORT ARE OMITTED FROM THIS DOCUMENT IN ORDER TO COMPLY WITH SECTIONS 104(g)(2) AND 105(b)(5)(A) OF THE SARBANES-OXLEY ACT OF 2002 PCAOB RELEASE NO. 104-2015-052
2013 INSPECTION OF GRANT THORNTON LLP Preface In 2013, the Public Cmpany Accunting Oversight Bard ("PCAOB" r "the Bard") cnducted an inspectin f the registered public accunting firm Grant Thrntn LLP ("the Firm") pursuant t the Sarbanes-Oxley Act f 2002 ("the Act"). Inspectins are designed and perfrmed t prvide a basis fr assessing the degree f cmpliance by a firm with applicable requirements related t auditing issuers. Fr a descriptin f the prcedures the Bard's inspectrs may perfrm t fulfill this respnsibility, see Part I.C f this reprt (which als cntains additinal infrmatin cncerning the PCAOB inspectins generally). Overall, the inspectin prcess included reviews f prtins f selected issuer audits cmpleted by the Firm. These reviews were intended t identify whether deficiencies existed in thse prtins f the inspected audits, and whether such deficiencies indicated defects r ptential defects in the Firm's system f quality cntrl ver audits. In additin, the inspectin included reviews f plicies and prcedures related t certain quality cntrl prcesses f the Firm that culd be expected t affect audit quality. The Bard is issuing this reprt in accrdance with the requirements f the Act. The Bard is releasing t the public Part I f the reprt, prtins f Appendix C, and Appendix D. Appendix C includes the Firm's cmments, if any, n a draft f the reprt. If the nnpublic prtins f the reprt discuss criticisms f r ptential defects in the Firm's system f quality cntrl, thse discussins als culd eventually be made public, but nly t the extent the Firm fails t address the criticisms t the Bard's satisfactin within 12 mnths f the issuance f the reprt.
Page 2 PART I INSPECTION PROCEDURES AND CERTAIN OBSERVATIONS Members f the Bard's staff ("the inspectin team") cnducted primary prcedures 1/ fr the inspectin frm August 2013 thrugh April 2014. The inspectin team perfrmed field wrk at the Firm's Natinal Office and at 17 f its apprximately 54 U.S. practice ffices. A. Review f Audit Engagements The 2013 inspectin f the Firm included reviews f prtins f 36 audits perfrmed by the Firm. The inspectin team identified matters that it cnsidered t be deficiencies in the perfrmance f the wrk it reviewed. One f the deficiencies relates t auditing aspects f an issuer's financial statements that the issuer restated after the primary inspectin prcedures. 2/ The descriptins f the deficiencies in Part I.A f this reprt include, at the end f the descriptin f each deficiency, references t specific paragraphs f the auditing standards that relate t thse deficiencies. The text f thse paragraphs is set frth in Appendix D t this reprt. The references in this sub-part include nly standards that primarily relate t the deficiencies; they d nt present a cmprehensive list f every auditing standard that applies t the deficiencies. Further, certain bradly applicable aspects f the auditing standards that may be relevant t a deficiency, such as prvisins requiring due prfessinal care, including the exercise f prfessinal skepticism; the accumulatin f sufficient apprpriate audit evidence; and the perfrmance f prcedures that address risks, are nt included in the references t the 1/ Fr this purpse, the time span fr "primary prcedures" includes field wrk, ther review f audit wrk papers, and the evaluatin f the Firm's quality cntrl plicies and prcedures thrugh review f dcumentatin and interviews f Firm persnnel. The time span des nt include inspectin planning, which may cmmence mnths befre the primary prcedures, and inspectin fllw-up prcedures, wrap-up, analysis f results, and the preparatin f the inspectin reprt, which generally extend beynd the primary prcedures. 2/ The Bard's inspectin prcess did nt include review f any additinal audit wrk related t the restatement.
Page 3 auditing standards in this sub-part, unless the lack f cmpliance with these standards is the primary reasn fr the deficiency. These bradly applicable prvisins are described in Part I.B f this reprt. Certain f the deficiencies identified were f such significance that it appeared t the inspectin team that the Firm, at the time it issued its audit reprt, had nt btained sufficient apprpriate audit evidence t supprt its pinin that the financial statements were presented fairly, in all material respects, in accrdance with applicable financial reprting framewrk and/r its pinin abut whether the issuer had maintained, in all material respects, effective internal cntrl ver financial reprting ("ICFR"). In ther wrds, in these audits, the auditr issued an pinin withut satisfying its fundamental bligatin t btain reasnable assurance abut whether the financial statements were free f material misstatement and/r the issuer maintained effective ICFR. The fact that ne r mre deficiencies in an audit reach this level f significance des nt necessarily indicate that the financial statements are misstated r that there are undisclsed material weaknesses in ICFR. It is ften nt pssible fr the inspectin team, based nly n the infrmatin available frm the auditr, t reach a cnclusin n thse pints. Whether r nt assciated with a disclsed financial reprting misstatement, an auditr's failure t btain the reasnable assurance that the auditr is required t btain is a serius matter. It is a failure t accmplish the essential purpse f the audit, and it means that, based n the audit wrk perfrmed, the audit pinin shuld nt have been issued. 3/ 3/ Inclusin in an inspectin reprt des nt mean that the deficiency remained unaddressed after the inspectin team brught it t the firm's attentin. Depending upn the circumstances, cmpliance with PCAOB standards may require the firm t perfrm additinal audit prcedures, r t infrm a client f the need fr changes t its financial statements r reprting n internal cntrl, r t take steps t prevent reliance n its previusly expressed audit pinins. The Bard expects that firms will cmply with these standards, and the inspectins staff may include in its prcedures mnitring r assessing a firm's cmpliance.
Page 4 The audit deficiencies that reached this level f significance are described belw. A.1. Issuer A In this audit, the Firm failed t identify a departure frm generally accepted accunting principles ("GAAP") that it shuld have identified and addressed befre issuing its audit pinin. Specifically, the issuer held an investment in a variable interest entity ("VIE") that was nt cnslidated. The issuer met the criteria under Financial Accunting Standards Bard ("FASB") Accunting Standards Cdificatin ("ASC") Tpic 810, Cnslidatin, t be the primary beneficiary f the VIE and was required t cnslidate this investment. (AS N.14, paragraph 30) A.2. Issuer B In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR The Firm's audit apprach invlved testing infrmatin technlgy general cntrls ("ITGCs") ver the issuer's general ledger applicatin, which included the mdule used fr prperty and equipment, and ver certain applicatins used fr revenue, accunts receivable, and inventry. The Firm's prcedures t test ITGCs ver these applicatins, hwever, were nt sufficient, as it failed t sufficiently evaluate the effects f deficiencies that were identified in user-access and change-management cntrls. As a result f these deficiencies in the Firm's testing, which are described further belw, the Firm failed t establish a basis fr reliance n cntrls ver the accuracy and cmpleteness f data and reprts btained frm these applicatins and used (a) in the peratin f certain f the issuer's cntrls that the Firm tested ver revenue, accunts receivable, inventry, and prperty and equipment, and/r (b) in the Firm's substantive r cntrl testing f these areas. (AS N. 5, paragraphs 42 and 47; AS N. 15, paragraph 10) The deficiencies in testing ITGCs are as fllws The Firm failed t perfrm any prcedures t evaluate the effects f the deficiencies in user-access cntrls fr the applicatins nted abve. (AS N. 5, paragraphs 47 and 48)
Page 5 The Firm failed t perfrm any prcedures t evaluate the effects f deficiencies in change-management cntrls fr ne f the applicatins nted abve related t revenue and accunts receivable. (AS N. 5, paragraphs 47 and 48) The Firm identified a mnitring cntrl as an imprtant cmpensating cntrl fr the deficiencies in change-management cntrls fr certain inventry, revenue, and accunts receivable applicatins and the prperty and equipment mdule. The Firm's testing f this cntrl, hwever, was nt sufficient. Specifically The sample size f tw that the Firm used t test the cntrl fr certain f the inventry, revenue, and accunts receivable applicatins was t small t prvide sufficient evidence. (AU 350, paragraphs.37 and.38) The Firm tested the mnitring cntrl fr certain revenue, accunts receivable, and inventry applicatins, and the prperty and equipment mdule, seven mnths prir t year end, but the Firm's prcedures t update the results f this interim testing t year end were limited t inquiry. (AS N. 5, paragraphs 55 and 56) The issuer used data and reprts btained frm ther applicatins in the peratin f certain cntrls ver revenue, accunts receivable, and inventry, and the Firm used certain f the data and reprts in its testing f these cntrls. The Firm chse nt t test ITGCs ver these applicatins and failed therwise t establish a basis fr reliance n the data and reprts frm these applicatins. (AS N. 5, paragraph 39; AS N. 15, paragraph 10) The Firm's prcedures related t inventry were insufficient. Specifically The Firm's prcedures t test cntrls ver the valuatin f inventry were insufficient. Specifically, the Firm failed t perfrm sufficient prcedures t test the ne cntrl it had identified ver the valuatin f inventry that the issuer accunted fr using the retail methd, which represented a significant prtin f ttal inventry, as its prcedures were limited t perfrming a
Page 6 walkthrugh f the prcess, withut evaluating whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42 and 44) The Firm failed t perfrm sufficient substantive prcedures t test the valuatin f the inventry that was calculated using the retail methd f accunting. Specifically, the Firm's prcedures were limited t testing nly ne input used in that calculatin, withut testing ther imprtant inputs r the accuracy f the calculatin. (AS N. 13, paragraph 8) The Firm's prcedures t test the existence f, and cntrls ver the existence f, the issuer's inventry were insufficient. Specifically, there was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had tested whether the issuer's cycle-cunt prcedures addressed that inventry items were cunted in accrdance with the frequency schedule established by management. (AS N. 5, paragraphs 42 and 44; AU 331, paragraph.11) The Firm's prcedures related t vendr incentives, which reduced cst f sales, were insufficient. Specifically The Firm's prcedures t test cntrls ver vendr incentives were insufficient. The Firm tested tw cntrls, which cnsisted f (a) verifying whether vendr incentive agreements existed, determining whether apprvals existed fr certain amunts, and cmparing calculated vendr incentives t the amunts recrded in the general ledger, and (b) apprving inventry price changes. The Firm, hwever, failed t identify and test any cntrls ver the calculatin f the amunt f vendr incentives recrded. (AS N. 5, paragraph 39) The Firm's substantive prcedures t test vendr incentives, which cnsisted f analytical prcedures, were insufficient, as fllws. The Firm perfrmed analytical prcedures in which it cmpared current-perid grss prfit by lcatin t the prirperid crrespnding amunts. These prcedures, hwever, prvided little t n substantive assurance. Specifically
Page 7 The Firm established a threshld fr investigating unexpected differences that was high enugh t allw fr the pssibility that a cmbinatin f uninvestigated misstatements culd aggregate t an unacceptable amunt. (AU 329, paragraph.20) The Firm failed t perfrm prcedures t btain crrbratin f management's explanatins fr differences in excess f its established threshlds. (AU 329, paragraph.21) The Firm als perfrmed ther analytical prcedures regarding vendr incentives; hwever, these prcedures prvided little t n substantive assurance, as they cnsisted f simply cmparing the current-year annual amunts by general ledger accunt t the crrespnding amunts in the prir year and investigating certain changes between the amunts. (AU 329, paragraphs.13,.17, and.20) The Firm designed its substantive prcedures including sample sizes t test revenue and certain accunts receivable based n a level f cntrl reliance that was nt supprted due t the deficiencies in the Firm's testing f cntrls that are discussed abve. As a result, the sample sizes the Firm used t test revenue and certain accunts receivable were t small t prvide sufficient evidence. (AS N. 13, paragraphs 16, 18, and 37; AU 350, paragraphs.19,.23, and.23a) The Firm's prcedures related t prperty and equipment were insufficient. Specifically The Firm selected fr testing a cntrl ver the pssible impairment f prperty and equipment, which invlved management's reviews f an impairment analysis; hwever, the Firm's prcedures t test this cntrl were insufficient. Specifically, the Firm's prcedures were limited t bserving signatures as evidence that a review had ccurred and inquiring f management, withut evaluating whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42 and 44)
Page 8 The Firm failed t perfrm any prcedures t evaluate the reasnableness f the criteria the issuer used t determine which lcatins required evaluatin fr pssible impairment. (AS N. 13, paragraph 8) A.3. Issuer C In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR The issuer had perating facilities in multiple lcatins in bth U.S and nn-u.s. lcatins. Fr a significant number f the issuer's lcatins that, in the aggregate, presented a reasnable pssibility f material misstatement, the Firm failed t perfrm sufficient prcedures t test cntrls ver revenue, accunts receivable, and inventry. The Firm selected fr testing three cntrls ver these accunts at these lcatins, but the Firm's testing f thse cntrls was insufficient in the fllwing respects Fr ne cntrl, which invlved the cmparisn f recrded financial statement amunts and related metrics t budgeted and histrical amunts and the discussin f significant differences, the Firm's testing was insufficient, as its prcedures were limited t (a) inquiring f management, (b) bserving evidence that persnnel invlved in the peratin f the cntrl attended the meetings where the review was perfrmed, (c) bserving signatures as evidence that a review had ccurred fr certain f the issuer's lcatins, and (d) nting, fr ne lcatin, that explanatins fr certain variances were prvided. The Firm, hwever, failed t evaluate whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. Further, the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f certain data used in the peratin f this cntrl. (AS N. 5, paragraphs 39, 42, 44, and B10) The Firm failed t evaluate whether the ther tw cntrls, which invlved a review f the financial statements and related disclsures by management, and a recnciliatin f subsidiary general ledgers t the cnslidated general ledger, culd effectively
Page 9 prevent r detect material misstatements t revenue, accunts receivable, and inventry. (AS N. 5, paragraphs 42, 44, and B10) Fr the lcatins discussed abve, the Firm failed t perfrm any substantive prcedures t test revenue, accunts receivable, and inventry. (AS N. 9, paragraphs 11 and 12) A.4. Issuer D In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its pinins n the financial statements and n the effectiveness f ICFR Fr the tw cntrls ver certain depsit liability accunts that the Firm selected fr testing, the Firm used the results f its substantive prcedures as evidence f perating effectiveness withut perfrming any direct testing f the cntrls. In additin, the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f reprts used in the perfrmance f the cntrls. (AS N. 5, paragraphs 39, 44, and B9) The Firm's prcedures t test cntrls ver investments in available-frsale ("AFS") securities were insufficient. Specifically The Firm failed t identify and test any cntrls ver the existence f investments in AFS securities. (AS N. 5, paragraph 39) The Firm selected fr testing ne cntrl ver the valuatin f AFS securities, which cnsisted f the issuer's cmparisn f the recrded fair value estimates, which it btained frm an external pricing service, t fair value estimates that it btained frm anther external pricing service; the issuer perfrmed this cmparisn fr a small number f securities. The Firm's prcedures t test this cntrl were limited t inquiring f management, reperfrming the cmparisns, tracing the fair value estimates t surce dcuments, and nting that significant variances were investigated. These prcedures did nt include evaluating whether this cntrl's peratin culd effectively prevent r detect material misstatements, including whether the cntrl encmpassed a sufficient number f AFS securities. Further, the Firm failed t
Page 10 identify and test any cntrls ver the cmpleteness f a reprt that the issuer used in the perfrmance f this cntrl. (AS N. 5, paragraphs 39, 42, and 44) The Firm's substantive prcedures t test the valuatin f ne categry f AFS securities cnsisted f btaining values frm a pricing service and cmparing thse values t the issuer's recrded values. The Firm's prcedures t test this categry f securities were nt sufficient because it failed t btain an understanding f the specific assumptins underlying the fair value measurements that it btained frm the pricing service. (AU 328, paragraph.40) The Firm failed t perfrm sufficient prcedures t test the disclsure f the AFS securities described abve as level 2 r level 3 within the hierarchy set frth in FASB ASC Tpic 820 because it failed t btain an understanding f whether the significant inputs used t establish the fair value f the securities were bservable r unbservable. (AU 328, paragraph.43) The Firm failed t perfrm sufficient testing related t a significant cmpnent f revenue. Specifically The Firm failed t identify and test any cntrls ver the cmpleteness, ccurrence, and valuatin f this cmpnent f revenue. (AS N. 5, paragraph 39) The Firm failed t perfrm sufficient substantive testing f this cmpnent f revenue, as fllws The Firm selected a sample f cntracts fr testing, but limited its prcedures n the selected cntracts t tw ut f the 12 mnths f activity related t each cntract. (AU 350, paragraph.24) The Firm failed t test, r t test cntrls ver, the cmpleteness and accuracy f certain imprtant transactin data, btained frm third-party prcessrs, that the issuer imprted int its general ledger and used in its calculatin f this cmpnent f revenue. (AS N. 15, paragraph 10)
Page 11 A.5. Issuer E In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR Fr ne f the issuer's tw divisins, the Firm tested ITGCs t supprt its cnclusins regarding the effectiveness f certain applicatin cntrls ver revenue and inventry. The Firm identified several deficiencies in ITGCs ver user access and prgram change management fr the imprtant applicatins supprting revenue and inventry. The Firm's evaluatin f the deficiencies was nt sufficient. Specifically Althugh the Firm nted that the users with inapprpriate access did nt have financial reprting respnsibilities, it failed t evaluate whether these individuals perfrmed inapprpriate activities related t the financial accunts. (AS N. 5, paragraphs 47 and 48) Althugh the Firm tested cntrls ver change management that it cnsidered t cmpensate fr the deficiencies, the Firm selected its sample f prgram changes fr testing frm a system-generated reprt that included nly the mst recent prgram change fr each applicatin. The Firm failed t determine whether there were additinal prgram changes during the year. (AS N. 5, paragraph 68; AU 350, paragraph.39) Fr the issuer's ther divisin, the Firm tested a cntrl ver revenue that cnsisted f a review f all revenue transactins t assess the apprpriateness f revenue recgnitin. The Firm identified fur instances where the cntrl failed t identify errrs in revenue recgnitin, tw f which invlved the inapprpriate deferral f revenue, and determined that the cntrl was nt perating effectively. T assess the severity f the deficiency, the Firm identified all f the revenue transactins cntaining terms that were the same as thse where the exceptins were identified, and cncluded that the ptential magnitude f the errrs was nt material. The Firm, hwever, failed t perfrm any prcedures t determine whether the ptential prblems were islated t transactins cntaining terms that were the same as thse where the exceptins were identified. (AS N. 5, paragraphs 47 and 48)
Page 12 The Firm's prcedures t test cntrls ver the cmpleteness f revenue were insufficient in the fllwing respects Fr ne divisin, the Firm tested a cntrl that invlved the issuer's review f a reprt listing uninviced shipments. The Firm's prcedures t test this cntrl were insufficient, as the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f that reprt. (AS N. 5, paragraph 39) Fr the ther divisin, the Firm tested a cntrl ver revenue recgnitin that invlved the issuer's mnthly review f a listing f all sales rders t evaluate the apprpriateness f revenue recgnitin. The Firm's prcedures t test this cntrl were insufficient, as its prcedures were limited t inquiring f management, attending ne meeting that cnstituted part f the peratin f the cntrl, bserving evidence that the review had ccurred, and cmparing certain data used in the perfrmance f the cntrl t supprting dcumentatin. The Firm failed t evaluate whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements, in that it failed t evaluate the nature f the review prcedures perfrmed, the criteria used by the cntrl wner t identify items fr investigatin, and whether specific items that were investigated were apprpriately reslved. (AS N. 5, paragraphs 42 and 44) The Firm's substantive prcedures t test revenue fr ne f the divisins were insufficient. Specifically The Firm used an attribute sampling apprach and determined its sample size based n an expectatin that there wuld be n testing exceptins. The Firm, hwever, identified the fur errrs in its sample that are described abve; it then identified all transactins that it believed were susceptible t the identified errrs and perfrmed additinal prcedures with respect t thse transactins. The Firm failed t perfrm any prcedures t determine whether errrs were islated t transactins cntaining terms that were the same as thse where the errrs were identified. (AU 350, paragraph.28)
Page 13 The Firm failed t perfrm sufficient prcedures t test the cmpleteness f revenue. Specifically, the Firm selected its sample fr testing frm the ppulatin f revenue transactins recrded during the year; hwever, that ppulatin was nt apprpriate t address the cmpleteness f revenue. (AU 350, paragraph.17) A.6. Issuer F In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR The Firm failed t sufficiently test cntrls that it had selected ver the pssible impairment f gdwill and ther intangible assets, which cnsisted f management's review f varius aspects f the impairment analyses. Specifically, the Firm's prcedures t test these cntrls were limited t inquiring f management; reading emails; attending certain cnference calls, between management and an external valuatin specialist, that were part f the cntrls' peratin; and perfrming prcedures t test the issuer's impairment analyses. The Firm, hwever, failed t test, thrugh any f its prcedures, whether the cntrls perated at a level f precisin that wuld prevent r detect material misstatements, because it failed t btain an understanding f the review prcedures perfrmed and assess their effectiveness. (AS N. 5, paragraphs 42 and 44) The Firm failed t sufficiently test certain cntrls ver revenue that it had selected, which cnsisted f the review and/r apprval f varius activities r assumptins related t the calculatin f revenue. Specifically, the Firm's prcedures were limited t tracing certain data used in the perfrmance f the cntrls t surce dcuments, btaining evidence that certain apprvals that cnstituted part f the cntrls had ccurred, and, fr ne cntrl, nting that the cntract type and apprved revenue recgnitin methd fr a sample f cntracts were entered accurately int the issuer's system. The Firm, hwever, failed t test, thrugh any f its prcedures, whether the cntrls perated at a level f precisin that wuld prevent r detect material misstatements, because it failed t btain an understanding f the review prcedures perfrmed and assess their effectiveness. (AS N. 5, paragraphs 42 and 44)
Page 14 The Firm failed t perfrm sufficient substantive testing f revenue, as fllws The Firm designed its substantive prcedures including its sample size t test revenue based n a level f cntrl reliance that was nt supprted due t the deficiencies in the Firm's testing f cntrls ver revenue that are discussed abve. As a result, the sample size used t test revenue was t small t prvide sufficient evidence. (AS N. 13, paragraphs 16, 18, and 37; AU 350, paragraphs.19,.23, and.23a) The substantive prcedures the Firm used t test the sample f revenue cntracts were nt sufficient. Specifically, the Firm failed t evaluate (a) the apprpriateness f the revenue recgnitin methd the issuer used and (b) whether deliverables in cntracts that cntained multiple deliverables represented separate units f accunting. (AS N. 14, paragraph 30) A.7. Issuer G In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR The Firm identified a deficiency in the issuer's cntrls related t the valuatin f investment securities and determined that this deficiency was a significant deficiency. In evaluating the severity f this deficiency, the Firm identified and tested tw cntrls that it cnsidered t be cmpensating cntrls, cnsisting f management's reviews f certain data and reprts and its recalculatin f the yields fr certain f the investments. The Firm, hwever, failed t evaluate whether the cntrls addressed the risks intended t be addressed by the deficient cntrls. (AS N. 5, paragraphs 42, 44, and 68) The Firm selected fr testing ne cntrl ver the allwance fr lan lsses ("ALL"), cnsisting f management's review f the ALL methdlgy and the lss factrs used t calculate the ALL; hwever, the Firm failed t sufficiently test this cntrl. Specifically, the Firm's prcedures were limited t btaining and reading dcuments, which were
Page 15 used as part f the peratin f the cntrl, in rder t determine whether certain aspects f the review had ccurred, withut evaluating whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42 and 44) The Firm failed t perfrm sufficient substantive prcedures t test the general reserve cmpnent f the ALL. Specifically The Firm failed t perfrm sufficient prcedures t test the reasnableness f the lan grades that the issuer assigned t individual lans and used when calculating the general reserve cmpnent. Specifically, the issuer used externally prepared appraisals t determine the fair value f the underlying cllateral fr certain lans; these fair values were an imprtant factr in determining lan grade assignments. The Firm's testing f the appraisals was nt sufficient, as it failed t (a) btain an understanding f the assumptins the appraisers used t value the cllateral, (b) test the accuracy and cmpleteness f the data the appraisers used t value the cllateral, and (c) evaluate the qualificatins f the appraisers. In additin, the appraisals had valuatin dates ranging frm three mnths t mre than five years befre the balance sheet date, and the Firm failed t evaluate the effect f the ages f the appraisals n its cnclusin regarding the fair value estimate f the cllateral at the balance sheet date. (AU 336, paragraphs.08 and.12) The Firm failed t perfrm sufficient prcedures t evaluate the reasnableness f imprtant assumptins that the issuer used t calculate the general reserve cmpnent fr each lan grade. Specifically, there was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had evaluated the reasnableness f the qualitative adjustments the issuer made t the histrical data t derive the lss factrs applied t each lan grade, beynd (a) reading issuer-prepared dcumentatin, which cntained nly general descriptins f the reasns fr the adjustments, and (b) cnsidering the trends in the cmpnents f the ALL, withut identifying and evaluating any supprt fr the amunt f the adjustments. (AU 342, paragraph.11)
Page 16 A.8. Issuer H In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its pinins n the financial statements and n the effectiveness f ICFR With respect t ne f the issuer's lcatins, the Firm's testing f certain cntrls ver revenue, which invlved (a) the review and apprval f invices; (b) the preparatin f recnciliatins between the lcatin's revenue applicatin and the general ledger, and the review f these recnciliatins; and (c) peridic meetings t discuss and review revenue recgnitin, was insufficient. Specifically, the Firm's prcedures were limited t bserving evidence that the reviews, recnciliatins, and meetings had ccurred; there was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had evaluated whether the cntrls perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42 and 44) The Firm's substantive prcedures t test revenue frm cntracts accunted fr using the percentage-f-cmpletin methd f accunting were insufficient. Specifically, the Firm's prcedures t evaluate the reasnableness f the estimated csts t cmplete perfrmance under the cntracts, which the issuer used when calculating the amunt f revenue t be recgnized, were limited t inquiring f management and bserving evidence f management's review and apprval f the estimated csts t cmplete. (AU 342, paragraph.11) The Firm failed t identify and test any cntrls ver the mnitring f indicatrs f the pssible impairment f finite-lived intangible assets. (AS N. 5, paragraph 39) A.9. Issuer I In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR
Page 17 The Firm selected fr testing ne cntrl ver the issuer's accunting fr incme taxes, which cnsisted f a review by an external party f the tax calculatins, tax filings, tax psitins, and the tax prvisin. The Firm's prcedures t test that cntrl, hwever, were insufficient. Specifically, the Firm's prcedures were limited t btaining evidence that the review had ccurred, including by bserving meetings between the issuer and the external party and reading dcuments prepared r reviewed by the external party, and inquiring f management and the external party. The Firm als referenced certain f its substantive testing when addressing its evaluatin f the effectiveness f this cntrl. The Firm, hwever, failed t test, thrugh any f its prcedures, whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements, because it failed t btain an understanding f the review prcedures perfrmed and assess their effectiveness. (AS N. 5, paragraphs 42, 44, and B9) During the year, custmers exchanged certain previusly purchased prducts, including sme that had been purchased in prir years, fr new prducts. There was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had btained evidence regarding the nature f the exchanges and evaluated whether the issuer's practice f allwing exchanges shuld have affected its plicy fr revenue recgnitin. (AS N. 14, paragraph 30) The Firm failed t perfrm sufficient substantive prcedures t test ne type f revenue fr ne cmpnent, which ttaled an amunt that was apprximately seven times the Firm's established materiality level, as its prcedures were limited t cnfirming nly tw accunts receivable at year end, scanning the sales jurnal fr ne mnth fr significant r unusual transactins, and perfrming certain analytical prcedures that were nt designed t prvide substantive assurance. (AS N. 13, paragraph 8) A.10. Issuer J In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR
Page 18 The issuer determined the majrity f its revenue using an applicatin that electrnically captured cst data frm external surces and calculated the amunt f revenue t be recgnized based upn (a) the terms f each underlying agreement and (b) the timing f the csts related t the revenue fr each agreement. The Firm decided nt t test the issuer's autmated cntrls fr this applicatin. Instead, the Firm identified and tested (a) cntrls ver the setup f accunts and cntracts and ver cash receipts and revenue-related jurnal entries and (b) a cntrl ver revenue activities reprted by this applicatin. This latter cntrl cnsisted f management's review f a daily trend analysis f revenue aggregated int the tw prduct lines that cnstituted this type f revenue. The Firm failed t evaluate whether this cntrl was designed s that it culd effectively prevent r detect material misstatements. In additin, this cntrl, and certain f the ther cntrls that the Firm tested, relied n the accuracy and cmpleteness f data and/r reprts generated frm the applicatin. The Firm, hwever, failed t identify and test any cntrls ver the accuracy and cmpleteness f thse data and reprts. (AS N. 5, paragraphs 39 and 42) The Firm failed t perfrm sufficient substantive prcedures t test this type f revenue. Specifically, as nted abve, the Firm failed t identify and test any cntrls ver the applicatin-generated data and reprts, and the Firm's substantive prcedures t test the accuracy and cmpleteness f certain reprts it used in its testing f revenue were limited t cmparing summarized cst data included in thse reprts t invices. The Firm, hwever, failed t test whether each agreement fr which csts were incurred was included in the reprts and whether the csts were apprpriately allcated amng the agreements. In additin, the Firm failed t test the accuracy and cmpleteness f certain ther data included in thse reprts that were imprtant t the calculatin f revenue. (AS N. 15, paragraph 10) The Firm failed t sufficiently test the ne cntrl that it selected ver the calculatin f share-based cmpensatin expense, cnsisting f the issuer's review and apprval f the share-based cmpensatin calculatins and the assumptins used in thse calculatins. Specifically, the Firm's prcedures were limited t cmparing the assumptins used in the calculatin t supprting dcumentatin and btaining evidence that a review and apprval f the calculatin had ccurred, withut evaluating
Page 19 whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. In additin, the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f certain data that the issuer used in the peratin f this cntrl. (AS N. 5, paragraphs 39, 42, and 44) A.11. Issuer K In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR The Firm failed t perfrm sufficient prcedures t test a cntrl it selected ver the categry f revenue that represented the majrity f the issuer's revenue. The cntrl cnsisted f the cmpilatin and reslutin f exceptins identified thrugh an autmated recnciliatin f daily sales t bank depsits. Exceptins that reached certain threshlds, and that had nt been reslved within a certain timeframe, were recrded n a manually prepared spreadsheet and distributed t issuer persnnel fr reslutin. The Firm failed t Identify and test any cntrls ver the accuracy and cmpleteness f the underlying sales data used t perfrm the autmated recnciliatin; (AS N. 5, paragraph 39) Identify and test any cntrls ver the accuracy and cmpleteness f the manually prepared spreadsheets, including whether the autmated applicatin crrectly determined variances between sales and bank depsit data; and (AS N. 5, paragraph 39) Test whether the necessary adjustments t revenue identified thrugh the peratin f the cntrl were apprpriately recrded. (AS N. 5, paragraphs 42 and 44) The Firm failed t perfrm sufficient substantive prcedures t test this categry f revenue, as the Firm's prcedures were limited t btaining a sample f the issuer's manually prepared spreadsheets described abve and nting that the variances identified in thse spreadsheets were dcumented as reslved. The Firm, hwever, as nted abve, failed t
Page 20 test whether any required adjustments t revenue were apprpriately recrded. In additin, as nted abve, the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f the spreadsheets, and it did nt, in the alternative, substantively test the accuracy and cmpleteness f the data included in the spreadsheets. (AS N. 13, paragraphs 8 and 13; AS N. 15, paragraph 10) A.12. Issuer L In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR. The issuer licensed the use f its technlgies t be included in prducts manufactured by its custmers. The majrity f these license agreements required the custmer t pay the issuer a per-unit fee based n the number f units the custmer prduced. The issuer calculated the revenue under these license agreements based upn prductin data prvided by its custmers. The Firm, hwever, failed t identify and test any cntrls ver the accuracy and cmpleteness f the prductin data, and failed t test the accuracy and cmpleteness f the prductin data that it used in its substantive testing prcedures t test this revenue. (AS N. 5, paragraph 39; AS N. 15, paragraph 10) A.13. Issuer M In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinin n the effectiveness f ICFR The Firm selected fr testing ne cntrl ver the accunting fr business cmbinatins, which cnsisted f management's review f the purchase accunting wrksheet and the related external valuatin reprts; hwever, the Firm failed t sufficiently test this cntrl. Specifically, the Firm's prcedures were limited t btaining evidence that the reviews had ccurred and cmparing amunts in the issuer's purchase accunting wrksheet t the valuatin reprt, withut evaluating whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42 and 44) The Firm selected fr testing tw cntrls ver the evaluatin f the pssible impairment f prperty and equipment, cnsisting f (a) the review f impairment analyses and (b) the review and apprval f the
Page 21 jurnal entries t recrd impairments. The Firm's prcedures t test these cntrls were insufficient. Fr the first cntrl, the prcedures were limited t cmparing data used in the peratin f the cntrl t supprting dcumentatin, cmparing the calculated impairment amunts t the general ledger, and testing the mathematical accuracy f the issuer's analysis. Fr the secnd cntrl, the Firm's prcedures were limited t btaining evidence that the reviews and apprvals had ccurred and cmparing the calculated impairment t the jurnal entry. In additin, the Firm stated that certain f its substantive tests were dual-purpse in nature and that these tests prvided evidence f the effectiveness f these cntrls. The Firm, hwever, failed t test, thrugh any f its prcedures, whether these cntrls perated at a level f precisin that wuld prevent r detect material misstatements, because it failed t btain an understanding f the review prcedures perfrmed and assess their effectiveness. (AS N. 5, paragraphs 42, 44, and B9) The Firm's prcedures t test cntrls ver the issuer's accunting fr inventry were insufficient. Specifically The cntrls ver the valuatin f inventry that the Firm selected fr testing cnsisted f (a) the review and apprval f price changes entered int the system that was used t generate purchase rders and (b) the cmparisn f the ttal purchase rder amunts t the payments made and the investigatin f any differences. The Firm failed t test any cntrl that wuld address whether the cst f inventry items recrded in the issuer's system agreed t the amunts paid. (AS N. 5, paragraph 39) The Firm failed t evaluate the effects f the differences it identified in its substantive testing f the issuer's physical inventry cunt n its cnclusins abut the effectiveness f the issuer's cntrls ver inventry. (AS N. 5, paragraph B8) A.14. Issuer N In this audit, the Firm failed in the fllwing respects t btain sufficient apprpriate audit evidence t supprt its audit pinins n the financial statements and n the effectiveness f ICFR
Page 22 The Firm failed t sufficiently test certain applicatin cntrls ver revenue and the valuatin f inventry that it selected. Specifically, the scpe f the Firm's testing f these applicatin cntrls was based in part n the Firm's cnclusin that ITGCs were effective, and it cnsisted f testing nly ne instance f the peratin f each cntrl. The Firm's testing f ITGCs, hwever, was nt sufficient t supprt the Firm's cnclusin that they were effective. Specifically The Firm's testing f cntrls ver prgram change management was insufficient. Specifically, the Firm limited its prcedures t testing ne f the varius prcesses that culd have been used t make prgram changes, withut determining that this prcess was the nly prcess by which changes had been made. (AS N. 5, paragraphs 42 and 44) The Firm tested a cntrl that cnsisted f a peridic review and apprval f access rights granted t system users. The Firm's testing f this cntrl was insufficient, hwever, as the Firm failed t test whether the access that was prvided was cnsistent with the access apprved by management. (AS N. 5, paragraph 44) The Firm selected fr testing a cntrl ver the allwance fr dubtful accunts that cnsisted f a review f the aged accunts receivable. The Firm, hwever, failed t sufficiently test this cntrl, as its prcedures were limited t btaining evidence that the review f the aged accunts receivable had ccurred and nting that the resulting jurnal entry was recrded crrectly, withut evaluating whether the cntrl perated at a level f precisin that wuld prevent r detect material misstatements. In additin, the Firm failed t identify and test any cntrls ver the accuracy and cmpleteness f the accunts receivable aging reprt that the issuer used in the perfrmance f the cntrl. (AS N. 5, paragraphs 39, 42, and 44) The Firm's prcedures t test the valuatin f certain past-due accunts receivable that it selected fr substantive testing were insufficient. Specifically, the Firm's testing f the accunts it selected was limited t inquiring f management, withut btaining crrbratin f the explanatins it received. (AS N. 13, paragraph 8)
Page 23 A.15. Issuer O In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinin n the effectiveness f ICFR. During the year, the issuer made tw significant acquisitins. The Firm selected fr testing certain cntrls that cnsisted f the review and apprval f the accunting fr the acquisitins and the preparatin f supprt fr the related disclsures in the financial statements; hwever, it failed t sufficiently test these cntrls. Specifically, the Firm's prcedures were limited t cmparing certain data used in the perfrmance f the cntrls t surce dcuments and bserving evidence that certain reviews that cnstituted part f the cntrls had ccurred. The Firm als referenced certain f its substantive testing when addressing its evaluatin f the effectiveness f these cntrls. The Firm failed t test, hwever, thrugh any f its prcedures, whether the cntrls perated at a level f precisin that wuld prevent r detect material misstatements. (AS N. 5, paragraphs 42, 44, and B9) A.16. Issuer P In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinin n the effectiveness f ICFR, as its prcedures t test cntrls ver the existence f inventry were insufficient. Specifically The Firm selected fr testing a peridic physical inventry cunt cntrl that perated during the first and third quarters. The Firm's prcedures t test this cntrl were insufficient, as they did nt include bserving the issuer's inventry cunt prcedures and were limited t (a) inquiring f management as t hw the inventry cunt prcess was perfrmed, (b) reading the issuer's physical inventry cunt plicies, (c) btaining evidence that the inventry cunts had ccurred and that unreslved differences were reviewed and recrded, and (d) inspecting a listing f the inventry lcatins t be cunted, including the date and assigned cunter. (AS N. 5, paragraphs 42 and 44) The Firm's prcedures t test cntrls ver changes in inventry between the third quarter, when the issuer's peridic physical inventry cunt cntrl last perated, and the balance sheet date were insufficient. Specifically, the Firm tested tw applicatin cntrls, which prevented (a) inventry frm being recrded withut a receiving dcument and (b) manual adjustments f inventry shipping and receiving dates within the system. The Firm, hwever, failed t identify and test any cntrls ver
Page 24 whether the quantities and csts f inventry that was purchased r sld during the perid were accurately recrded. (AS N. 5, paragraph 39) A.17. Issuer Q In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinin n the financial statements. During the year, the issuer acquired a significant business, and it accunted fr the acquisitin as a business cmbinatin. The issuer engaged an external specialist t determine the fair value f the net assets f the acquired business. The specialist's initial valuatin resulted in a net asset value that was significantly higher than the cnsideratin paid. Upn reassessment, the specialist determined that an adjustment t the valuatin f the fixed assets was necessary t accunt fr certain ecnmic bslescence f thse assets. As a result, the value f the fixed assets was adjusted by an amunt such that the net asset value f the acquired business apprximated the cnsideratin paid. The Firm's prcedures t evaluate this adjustment were limited t (a) reading the valuatin analysis prepared by the issuer's specialist, (b) inquiring f the specialist, and (c) perfrming a sensitivity analysis that was limited t evaluating the effect n net depreciatin and amrtizatin expense if the adjustment had been larger and if the resulting additinal decrease in the value f fixed assets had been reallcated t identifiable intangible assets. The Firm's prcedures did nt include evaluating the reasnableness f the assumptins underlying the amunt f adjustment. (AU 328, paragraphs.26,.28, and.39) A.18. Issuer R In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinin n the financial statements, as the Firm failed t perfrm sufficient prcedures t test the underlying quantities and prices used in the valuatin f revenue. Specifically, the Firm's prcedures were limited t (a) perfrming analytical prcedures that prvided little t n substantive assurance and (b) cmparing invices t ther issuer-prepared dcuments that did nt shw quantities r prices. The Firm als cnfirmed the amunts fr a sample f accunts receivable utstanding at year end and tested the timing f revenue recgnitin, but these prcedures prvided little assurance regarding the valuatin f ttal revenue. (AS N. 13, paragraph 8)
Page 25 A.19. Issuer S In this audit, the Firm failed t btain sufficient apprpriate audit evidence t supprt its audit pinin n the financial statements because its prcedures t test inventry were insufficient. Specifically The Firm failed t perfrm sufficient prcedures t test the valuatin f finished gds inventry, as its prcedures were limited t (a) perfrming an analysis f trends in inventry balances and related ratis that prvided little t n substantive assurance and (b) btaining infrmatin abut variances between standard and actual csts and inquiring f management regarding these variances. (AS N. 13, paragraph 8) The Firm failed t perfrm sufficient prcedures t test the valuatin f raw materials inventry. Specifically, the Firm's prcedures cnsisted f selecting a sample f items t test. Fr the majrity f the items selected, there was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had cmpared the recrded amunts t any supprt ther than issuer-generated purchase rders, which did nt cnstitute evidence f the actual price paid fr these items. (AS N. 13, paragraph 8) A.20. Issuer T In this audit, the Firm failed t perfrm sufficient prcedures t test the pssible impairment f intangible assets ther than gdwill. The Firm failed t evaluate the reasnableness f the financial prjectins that the issuer used in its impairment analysis related t a reprting unit, t which a significant prtin f the issuer's intangible assets ther than gdwill was assigned, beynd (a) nting that the prjectins appeared reasnable based n histrical and frecasted results and (b) cmparing the prjectins t thse made in the prir year. There was n evidence in the audit dcumentatin, and n persuasive ther evidence, that the Firm had cnsidered that (a) the issuer included a significant grwth in revenue in its financial prjectins used in the analysis despite a significant decline in revenue fr the mst recent year and (b) in evaluating gdwill, the issuer's external specialist determined that the fair value f these intangible assets was belw their carrying value. (AS N. 14, paragraph 3; AU 342, paragraph.11)