4.3 Flashcards
For which of the following judgments may an independent auditor share responsibility with an entity’s internal auditor who is assessed to be both competent and objective?
Materiality of misstatements:
Evaluation of Significant accounting estimates:
No
No
The responsibility to report on financial statements is solely the auditor’s. It cannot be shared with internal auditors. Because the auditor has the ultimate responsibility to express an opinion on the financial statements, judgments about (1) assessments of RMMs, (2) materiality of misstatements, (3) sufficiency of tests performed, (4) evaluation of significant accounting estimates, and (5) other matters affecting the auditor’s report always should be those of the auditor.
Which of the following events most likely would indicate the existence of related party transactions?
Selling real estate at a price that differs significantly from its appraised value.
Related party transactions may not be conducted in accordance with customary business practices. For example, in an arm’s-length transaction, real estate with an appraised value usually is sold at approximately that value. A material disparity in the consideration exchanged may indicate that the parties are related.
A management’s specialist most likely is useful to
Assist the client in preparing the financial statements.
A management’s specialist is an individual or organization possessing expertise in a field other than accounting or auditing. The work in that field is used by the entity to assist in preparing the financial statements.
An internal auditor’s work would most likely affect the nature, timing, and extent of an independent auditor’s auditing procedures when the internal auditor’s work relates to assertions about the
Existence of fixed asset additions.
Assertions may relate to material financial statement amounts for which the risks of material misstatement or the degree of subjectivity involved in the evaluation of the audit evidence is high. In these cases, reliance on the internal auditor is less effective. However, certain assertions may relate to less material financial statement amounts for which the risks of material misstatement or the degree of subjectivity involved is low. For example, the auditor may be able to rely on the internal auditor’s work regarding assertions about the existence of cash, prepaid assets, and fixed asset additions.
During the audit of fair value estimates and disclosures, the auditor most likely should
Use the understanding of the audited entity’s process for determining fair value estimates to assess the risks of material misstatement.
To meet its responsibility to make the fair value estimates included in the financial statements, management must adopt financial reporting processes that include (1) adequate internal control, (2) selecting appropriate accounting policies, (3) prescribing estimation processes (e.g., valuation methods, including models), (4) determining data and assumptions, (5) reviewing the circumstances requiring estimation, and (6) making necessary reestimates. The auditor should obtain an understanding of these processes and the relevant controls. It should be sufficient for an effective audit of fair value estimates. The understanding is used to assess the risks of material misstatement. Assessing these risks includes evaluating (1) estimation uncertainty (inherent lack of measurement precision) and (2) determining whether the risks are significant.
In which of the following circumstances is an auditor most likely to rely on work done by internal auditors?
For financial statement amounts judged by the auditor to require little or no subjectively evaluated audit evidence.
The auditor should make all significant judgments. Thus, (s)he should use less of the internal auditors’ work and perform more work directly in the following circumstances: (1) the more judgment is involved in planning and performing audit procedures or evaluating evidence, (2) the higher the assessed risk of material misstatement at the assertion level, (3) the less the internal auditors’ organizational status and relevant policies and procedures support their objectivity, and (4) the lower their competence. Accordingly, the auditor is most likely to rely on the work of the internal audit function when little or no judgment is required to evaluate audit evidence.
Transactions indicative of the existence of related parties include all of the following except
Selling real estate at a price significantly different from the carrying amount.
Real estate’s fair value is normally significantly higher than its carrying amount. The longer that real estate is held, the more likely that its fair value differs from its carrying amount. A difference between the carrying amount and fair value does not indicate the existence of related parties. It is an occurrence in the normal course of business.
Which of the following auditing procedures most likely would assist an auditor in identifying related party transactions?
Reviewing accounting records for nonrecurring transactions recognized near the balance sheet date.
Related party transactions may involve window dressing at the end of the period. For example, a shareholder may repay a loan just before the balance sheet date, and the entity may then lend the same amount to the same party after the beginning of the next period (AU-C 550).
An internal auditor would least likely provide direct assistance to the auditor in
Evaluating accounting estimates.
The auditor has the ultimate responsibility to express an opinion on the financial statements. Judgments about (1) assessments of the risks of material misstatement, (2) materiality of misstatements, (3) sufficiency of tests performed, (4) evaluation of significant accounting estimates, and (5) other matters affecting the auditor’s report always should be those of the auditor.
In assessing the competence of an internal auditor, an independent CPA most likely would obtain information about the
Quality of the internal auditor’s documentation.
In assessing the competence of an internal auditor, the auditor should consider such factors as (1) educational level and professional experience; (2) professional certification and continuing education; (3) audit policies, programs, and procedures; (4) supervision and review of the internal auditor’s activities; (5) practices regarding assignments; (6) quality of documentation, reports, and recommendations; and (7) evaluation of the internal auditor’s performance.
After identifying a significant related party transaction outside the entity’s normal course of business, an auditor should
Evaluate the business purpose of the transaction.
The auditor should inspect any contracts or agreements to evaluate whether (1) the business purpose (or lack of a business purpose) implies that the transaction’s intent was fraudulent, (2) the terms are consistent with management’s explanations, and (3) the accounting and disclosure are appropriate. The auditor also should obtain evidence of appropriate authorization and approval.
For which of the following judgments may an independent auditor share responsibility with an entity’s internal auditor who is assessed to be both competent and objective?
Assessment of inherent risk:
Assessment of control risk:
No
No
The auditor may use the internal auditor to provide direct assistance in the audit as long as the auditor supervises, reviews, evaluates, and tests the work of the internal auditor. However, an internal auditor, regardless of his or her competence and objectivity, should never make judgments about the audit work being conducted. All judgments, including assessments of the risks of material misstatement (inherent and control risk), should be made by the auditor.
Which of the following factors would the independent auditor most likely consider in assessing the objectivity of an internal auditor?
The audit committee reviews employment decisions related to the director of internal auditing.
Objectivity is impartiality, intellectual honesty, and freedom from conflicts of interest. Factors that the independent auditor most likely considers in assessing the objectivity of an internal auditor include whether those charged with governance (e.g., the audit committee) oversee employment decisions related to internal auditing. Examples are hiring and compensation of the director of the internal audit function.
Which of the following audit procedures is an auditor most likely not to perform related to newly identified related party transactions outside the normal course of business?
Understand the controls over authorization and approval of such transactions.
Significant transactions outside the normal course of business most likely have a high assessed risk of material misstatement because normal controls do not typically apply. Thus, the focus should be on substantive testing of the transactions.
An auditor searching for related party transactions should obtain an understanding of each subsidiary’s relationship to the total entity because
The business structure may be deliberately designed to obscure related party transactions.
The nature of related party relationships and transactions may result in greater risks of material misstatement than transactions with unrelated parties. Thus, related parties may operate through a complex set of relationships and structures, with increased complexity of related party transactions. For example, a transaction may involve multiple related parties in a consolidated group. Accordingly, in an audit of group statements, the group engagement team should request each component auditor to communicate with related parties not previously identified by group management or the group engagement team.
