A3 - Risk, evidence, and sampling

Question 1

Audit Process-General Principles

Answer 1

Overall objectives
Documentation
Communication
Quality control-firm

Question 2

Audit Process

Answer 2

Engagement Acceptance
-Ethics & Independence
-Terms of engagement

Assess risk & plan response
-Planning, including audit strategy
-Materiality
-Risk assessment procedures:
—Understand entity & environment
—Understand internal control
-Identify & assess risk
-Respond to risk

Perform procedures & obtain evidence
-Test controls
-Substantive testing

Form conclusions
-Subsequent events
-Management representation
-Evaluate audit results
-Quality control-engagement

Reporting
-Report on audited FS
-Other reporting considerations

Question 3

Inherent Risk Factors

Answer 3

Complexity
Subjectivity
Change
Uncertainty
Management bias or fraud risk
Significance
Volume or lack of uniformity

Question 4

Assertion Level Risks

Answer 4

Risk of material misstatement that relate to specific transactions, account balances, or disclosures.

Assertion definition: claims that need to be tested for financial statement accuracy.

Question 5

Elements of Further Audit Procedures

Answer 5

NET:
Nature
Extent
Timing

Question 6

Going Concern

Answer 6

Ability to continue business operations.

“Reasonable period of time”
FASB - one year after the date of FS are issued.
GASB - one year beyond the date of FS. If information that raises substantial doubt within three months after, info should be considered.

Reporting:
Nonissuers - if substantial doubt, separate section with heading “substantial doubt about the entity’s ability to continue as a going concern.”
-If no substantial doubt, if adequate disclosures have been made, an optional emphasis of matter paragraph.

Issuer - if substantial doubt, either; unqualified opinion and explanatory paragraph (“substantial doubt” or “going concern”) or disclaimer of opinion based on auditor’s judgment.

Question 7

Corroborating Evidence

Answer 7

Meeting minutes

Confirmations

Industry analysis reports

Data about competitors

Evidence obtained through management specialists

Info obtained through observation

Inquiry and inspection

Question 8

Hierarchy of Audit Evidence

Answer 8

Auditor’s direct personal knowledge.
External evidence.
Internal evidence.
Oral evidence.

Question 9

Auditor Bias

Answer 9

Availability bias - place more weight on more recent events.

Confirmation bias - place more weight on info that corroborates rather than contradicts.

Overconfidence bias - overestimating ability to make accurate judgments.

Anchoring bias - using initial info to anchor against subsequent info.

Automation bias - favor info from automated systems regardless of circumstances.

Question 10

Standard Auditing Procedures

Answer 10

Confirmation.
Footing, cross footing, & recalculation.
Inquiry.
Vouching.
Examination/inspection.
Cutoff review.
Analytical procedures.
Reperformance.
Reconciliation.
Observation.
Tracing.
Walkthrough.
Audit related account simultaneously.
Representation letter.
Subsequent events review.

Question 11

Directional Testing

Answer 11

Completeness (understated) - Tracing forward from source documents to journal entries.

Existence (overstated) - Vouching backwards from journal entries to source documents.

Question 12

Sampling Methods

Answer 12

Statistical - specify sampling risk they are willing to accept then calculate sample size that provides degree of reliability. Evaluated quantitatively.

Non-statistical - sample size is not determined mathematically. Determined by auditors judgement.

Question 13

Types of sampling

Answer 13

Attribute sampling - rate of character occurrence - primarily used in testing controls. (Yes or No answer)

Variables sampling & Probability proportional to size (PPS) sampling - typically used in substantive testing of account balances.

Question 14

Audit Risk vs Sampling Risk

Answer 14

Audit Risk - uncertainty due to sampling AND due to factors other than sampling.

Sampling Risk in substantive testing - risk of incorrect acceptance (effectiveness) or rejection (efficiency).

Sampling Risk in tests of controls - risk of assessing control risk too low (effectiveness) or too high (efficiency).

Question 15

Attribute Sampling

Answer 15

Statistical sampling method used to estimate the rate (percentage) of occurrence (exception) of a specific characteristic (attribute).

Upper deviation rate = Sample deviation rate + Allowance for sampling risk.

Question 16

Deviation Rate vs Tolerable Rate

Answer 16

Deviation rate - auditor’s best estimate of the deviation rate in the population selected.

Tolerable rate - maximum rate of deviation tolerated without modifying planned reliance on a control.

Question 17

Sampling Steps

Answer 17

1. Define the objective
2. Identify the population
3. Define the sampling unit
4. Define the attributes of interest
5. Determine the sample size
6. Select the sample
7. Evaluate the sample results
8. Form conclusions about internal control tested.
9. Document the sampling procedure

Question 18

Discovery Sampling vs Stop or Go Sampling

Answer 18

Discovery sampling - looking for critical characteristics (fraud). Zero deviation rate.

Stop or go sampling - sequential sampling designed to avoid oversampling. Few errors are expected.

Question 19

Audit Data Analytics (ADA) Techniques

Answer 19

Descriptive analytics - explain what happened or what is happening.

Diagnostic analytics - understand the underlying cause.

Predictive analytics - uses historical data to make predictions/estimates.

Prescriptive analytics - builds upon predictive analytics and addresses what will happen/how to make something happen. Most advanced/complex.

Question 20

Interpreting Results

Answer 20

Regression analysis - evaluate relationships between variables.

Variance analysis - compare forecasted/budgeted against actual values.

Period over period analysis - compare financial & non-financial values across given periods.

Classification - a predictive analytic that utilizes historic data to make predictions about categories for new data points.

Trend analysis - used to develop expectations of future results.

Question 21

Analytical Procedures

Answer 21

Evaluation of financial info by studying relationships among financial & non-financial data.

During planning, required to perform procedures related to revenue to identify unusual relationships.

Question 22

Sampling - Formula PPS

Answer 22

Sampling intervals = tolerable misstatement/reliability factor(risk of incorrect acceptance)

Sample size = recorded amt of population/sampling interval

Tainting value = difference/BV

Projected error = tainting value X sampling interval

Question 23

Variable Sampling

Answer 23

Means per unit estimation = avg audited value X # of items in population.

Ratio estimation = (audited BV / BV of sample) X total Book Value.

Difference estimation:
-Step 1: Calculate projected error = ((BV of sample - audited value of sample) / # of items audited) X population items.

-Step 2: Calculate point estimate = total BV of population - projected error.