Auditing and Ethic

This document provides an overview of auditing and ethics, including the determination of materiality level, preliminary analytical review, and analysis of cash flows. It also includes a case study on Oil Search Limited. Suitable for students studying auditing and ethics.

Running head: AUDITING AND ETHIC
Auditing and Ethic
Name of the Student
Name of the University
Author’s Note

1AUDITING AND ETHIC
Table of Contents
Introduction................................................................................................................................2
Section 1.....................................................................................................................................2
Section 2.....................................................................................................................................4
Section 3.....................................................................................................................................6
Conclusion..................................................................................................................................8
References..................................................................................................................................9

2AUDITING AND ETHIC
Introduction
Auditing is considered as such a profession where the auditor have the responsibility
of appropriate examination and inspection of the financial reports, accounting books and
others of the audit clients in order to make sure that they are free from material misstatements
(Ojala et al., 2014). This profession puts some obligations on the auditors when conducting
the audit. Determination of the level of materiality is considered as one of those crucial
aspects that the auditors need to undertake in auditing. For ascertaining the risky areas, the
auditors perform preliminary analytical review of the financial statements of the clients. In
addition, they also undertake the analysis of cash flows to ascertain whether there is the going
concern risk or not (Hay, 2015). This report is divided into three sections. The first section
sheds light on the aspects of determination of materiality. The second section undertakes the
analysis of ratios as preliminary analytical review. The third section discusses about going
concern risk from the analysis of cash flows. Oil Search Limited 10 Toea (Oil Search) is
considered for the report.
Section 1
Materiality Level Determination
Determination of the level of materiality is considered as a fundamental aspect in the
audit process that helps the auditors in the determination of the areas of material
misstatements. The auditors have the responsibility to determine the materiality level in the
stage of audit planning (Boiral, Heras-Saizarbitoria & Brotherton, 2019). In case of Oil
Search, it is required to determine the materiality level in the audit planning stage. For the
determination of the materiality level, the auditors should follow two steps. Appropriate
benchmark for materiality needs to be selected in the first step. The auditors are required to
determine a particular level that is a percentage of the prior selected benchmark. In case of

3AUDITING AND ETHIC
both the steps, proper justification should be provided from the auditors’ end (Chong, 2015).
The following discussion shows the materiality level determination of Oil Search.
First Step – It is needed to take into consideration some aspects at the time to determine the
benchmark regarding materiality; these aspects are nature of the firm and the nature of the
firm’s industry. Wide use of benchmarks such as net asset, gross profit, PBT (profit before
tax), total income and total expenses can be seen can be seen by the auditors. In case of Oil
Search, the selected benchmark is PBT. It needs to be mentioned in justification that PBT is
the most used performance indicator in this industry (Kristensen, 2015). The value of PBT in
2018 is US$507,392,000 for Oil Search.
Second Step – This is another crucial part that is solely dependent on the auditor’s
professional judgment. In most of the cases, the auditors select this percentage within a range
of 1% to 5% (Tritschler, 2013). This is a large acceptable base to the auditors all over the
world. For this reason, this materiality threshold for the audit of Oil Search is considered as
5% of the PBT.
Materiality Level – By considering the above-selected benchmark and materiality threshold,
the determined materiality level of Oil Search is shown below:
Overall Materiality Level = PBT × 5% = 25,369,600.
On the basis of the above discussion and calculation, the level of materiality of Oil
Search is $25,000,000 approximately.
Areas that May Have Significance to the Audit
Adoption of New Accounting Standards – It can be seen from Note 1(a) (i) in the annual
report that Oil Search that there has been the adoption of two new accounting standards in the
year 2018 that are IFRS 9 Financial Instruments and IFRS 15 Revenue from Contracts with

4AUDITING AND ETHIC
Customers (oilsearch.com, 2019). This can be considered as significant event for the audit
since the adoption of these standards can change the financial outcome of Oil Search which
can lead to material misstatements. As a part of audit procedure, it is needed to assess the
impact of the adoption of these standards so that the level of material misstatement can be
identified (Byrnes et al., 2018).
Impairment of Assets – As per Note 1(m) of the annual report, the management of Oil
Search reviews carrying amount of all assets except inventory for the determination of
impairment indicator (oilsearch.com, 2019). This process involves significant accounting
estimates and judgments which can be significant for the audit. Assessing and analyzing these
judgments, assumptions and estimates is the correct audit procedure.
Events Occurring after the Reporting Date – According to Note 28 of the annual report,
the directors of Oil Search have declared an un-franked final dividend of US 8.5 cents per
share which is a significant aspect for the audit (oilsearch.com, 2019). The audit procedure is
to assess the impact of this event on the financial outcome of the company to determine the
materiality misstatement (Christensen et al., 2016).
Section 2
In the audit planning stage, preliminary analytical review is conducted for the
identification of the key risk areas in audit and the matters that need to be addressed in the
audit plan. The preliminary analytical review of Oil Search includes the analysis of provided
ratios in the company’s 2018 Annual Report; these ratios are Gearing Ratio, Return on
Average Shareholders’ funds, Basic EPS and Ordinary Dividend per Share. The ratios are
shown below:

5AUDITING AND ETHIC
(Source: oilsearch.com, 2019)
Basic EPS/Diluted EPS before Significant Items – EPS of Oil Search decreases from 2015
to 2016 and an increasing trend can be seen from 2016 to the current year (oilsearch.com,
2019). As per the positive trend of the industry, this fluctuation in EPS can be considered as
the area of audit risk in Oil Search. The audit procedure is to assess the net income of the
company since it is related to the computation of EPS (Jans, Alles & Vasarhelyi, 2014).
Ordinary Dividend per Share – Like EPS, the same trend can be seen in case of the ordinary
dividend per share of Oil Search (oilsearch.com, 2019). The main reason for this fluctuation
in this ratio is the fluctuation in the payment of total dividend. It is required to consider this
aspect as a audit risk areas and the audit procedure is the assessment of the dividend
determination process of the company (Rose et al., 2017).
Gearing – It can be seen from the above table that the gearing ratio of Oil Search has
continuously decreased from 2015 to 2018 and it indicates that there is continuous decrease
in the debts of the company in the capital structure (oilsearch.com, 2019). This continuous
decrease in debt is an audit is an audit risk area which should be addressed in the audit plan.
The involved assertion in this case is valuation. In order to test this assertion, it is needed to
ascertain the fact that whether the company has done the correct valuation of their debts
(Schmidt, 2014).

6AUDITING AND ETHIC
Return on Average Shareholders’ Funds – As per the above table, this ratio has increased
from 2015 to 2018. Both the increase in net profit after tax and shareholder’s equity is
considered as the main reason for this increase (oilsearch.com, 2019). This major increase in
this ratio is a significant matter for the audit which the auditors are needed to address. The
assertions of occurrence, completeness and accuracy are related with this risk. The audit
procedure in this ratio is to check whether the related transactions have occurred, recognized
and recorded accurately in the financial statements (Plumlee, Rixom & Rosman, 2014).
Section 3
Statement of Cash Flows
According to the statement of cash flows of Oil Search, the majority of cash inflows
can be seen in the cash flows from operating activities that is $854,632,000. The greatest
outflow of cash can be seen in the cash flow from investing activities that is $810,997,000
(oilsearch.com, 2019).
The sources of primary cash received in Oil Search are receipts from customers and
third parties that is $1,570,768,000 and interest received that is $14,884,000. The sources of
the primary cash payment in Oil Search are payment to suppliers and employees that is
$360,990,000, payment of borrowing cost that is $205,273,000, income tax payment that is
$84,940,000, payments for exploration and evaluation that is $63,150,000 and payment for
site restoration that is $16,658,000 (oilsearch.com, 2019).
It needs to be mentioned that there was not any non-cash financing and investing
activities in Oil Search (oilsearch.com, 2019).
The above discussion shows the crucial aspect that there is positive cash inflow for
Oil Search from the cash flow from operating activities. However, it can also be seen that the
company has not been able in generating positive cash inflows from investing activities as

7AUDITING AND ETHIC
well as financing activities which is an area of concern for Oil Search. The presence of these
negative cash flows can include some events or conditions that can raise question about the
ability of Oil Search to operate as a going concern in future. This can be considered as an
audit risk area (Feldmann & Read, 2013).
The recommended audit procedure is the assessment of any event or condition that
can affect Oil Search’s ability to operate as a going concern in future. After that, it is required
to consider the going concern assessment of Oil Search’s management for verifying the
aspect that whether their assessment includes any event or condition and the adopted
procedures to diminish them. Lastly, the auditors are needed to look for the indicators of
going concern risk like lack of financial support, major operating cash outflow, unfavourable
financial ratios and others (Bowler, 2016).
Audit Report
It can be seen that Oil Search has received an unqualified audit opinion from the
auditors in the presence of two aspects; first, true and fair view of the financial position and
financial performance of the company can be obtained from their financial statements and
two, the company has maintained proper accounting records while complying with IFRS and
Papua New Guinea Companies Act 1997.
The audit report of Oil Search includes an additional section that includes the key
audit matters identified by the auditors and they are discussed below:
Carrying Value of Exploration and Evaluation Assets – Under this, the assets worth
$2,345 million is considered as a key audit matter by the auditors due to the presence of
uncertainty in the indicators of impairment along with the use of major judgments by the
management of Oil Search (oilsearch.com, 2019).

8AUDITING AND ETHIC
Carrying Value of Producing and Development Assets – The auditors have considered
assets worth $6,241 million as key audit matter due to the presence of complex
management’s judgement related to the indicator of impairment along with the presence of
uncertainty in the estimation of recoverable amounts of the asses (oilsearch.com, 2019).
Accounting Income Tax – The main reason behind the consideration of this aspect as a key
audit matter is the presence of the fact that the tax applicable to hydrocarbon exploration and
production activities in Papua New Guinea is based on a licence-by-licence agreement which
demand the application of judgment from the management of Oil Search (oilsearch.com,
2019).
Carrying Value of Exploration and Evaluation Assets – This asset worth $112 million is a
key audit matte in nature due to the application of significant judgment regarding the
assessment of the carrying value of exploration and evaluation assets (oilsearch.com, 2019).
Carrying Value of Investments in Subsidiaries – The investment worth $2,765 million is
considered as a major key audit matter due to the assessment of the recoverable amount of
investment (oilsearch.com, 2019).
Conclusion
The above discussion shows the required steps that need to be taken to determine the
audit materiality of Oil Search where the percentage threshold needs to be applied on the
selected benchmark. It can be seen from the above that the consideration of ratio analysis
helps in identifying the audit risk areas so that appropriate audit strategies can be developed.
The presence of going concern risk can be seen in Oil Search from the outcome of the cash
flow analysis which needs to be audited in proper manner. Lastly, along with audit opinion,
the audit report of Oil Search includes an additional section in the form of key audit matters
that is a crucial part in the audit procedures.

9AUDITING AND ETHIC
References
Boiral, O., Heras-Saizarbitoria, I., & Brotherton, M. C. (2019). Assessing and improving the
quality of sustainability reports: The auditors’ perspective. Journal of Business
Ethics, 155(3), 703-721.
Bowler, B. (2016). Are going concern opinions associated with lower audit impact?.
Byrnes, P. E., Al-Awadhi, A., Gullvist, B., Brown-Liburd, H., Teeter, R., Warren Jr, J. D., &
Vasarhelyi, M. (2018). Evolution of Auditing: From the Traditional Approach to the
Future Audit 1. In Continuous Auditing: Theory and Application (pp. 285-297).
Emerald Publishing Limited.
Chong, H. G. (2015). A review on the evolution of the definitions of
materiality. International Journal of Economics and Accounting, 6(1), 15-32.
Christensen, B. E., Glover, S. M., Omer, T. C., & Shelley, M. K. (2016). Understanding audit
quality: Insights from audit professionals and investors. Contemporary Accounting
Research, 33(4), 1648-1684.
Feldmann, D., & Read, W. J. (2013). Going-concern audit opinions for bankrupt companies–
impact of credit rating. Managerial Auditing Journal, 28(4), 345-363.
Hay, D. (2015). The frontiers of auditing research. Meditari Accountancy Research, 23(2),
158-174.
Jans, M., Alles, M. G., & Vasarhelyi, M. A. (2014). A field study on the use of process
mining of event logs as an analytical procedure in auditing. The Accounting
Review, 89(5), 1751-1773.
Kristensen, R. H. (2015). Judgment in an auditor's materiality assessments. Danish Journal of
Management and Business, 79(2), 53-65.

10AUDITING AND ETHIC
Oilsearch.com. (2019). ANNUAL REPORT 2018. Retrieved 14 May 2019, from
https://www.oilsearch.com/__data/assets/pdf_file/0012/33114/OSH-2018-Annual-
Report.pdf
Ojala, H., Niskanen, M., Collis, J., & Pajunen, K. (2014). Audit quality and decision-making
in small companies. Managerial Auditing Journal, 29(9), 800-817.
Plumlee, R. D., Rixom, B. A., & Rosman, A. J. (2014). Training auditors to perform
analytical procedures using metacognitive skills. The Accounting Review, 90(1), 351-
369.
Rose, A. M., Rose, J. M., Sanderson, K. A., & Thibodeau, J. C. (2017). When should audit
firms introduce analyses of Big Data into the audit process?. Journal of Information
Systems, 31(3), 81-99.
Schmidt, R. N. (2014). The effects of auditors' accessibility to “tone at the top” knowledge on
audit judgments. Behavioral Research in Accounting, 26(2), 73-96.
Tritschler, J. (2013). Audit Quality: Association between published reporting errors and audit
firm characteristics. Springer Science & Business Media.