AUD 1.12 - CONSIDERATION OF FRAUD IN F/S AND FRAUD RISK FACTORS Flashcards
1.12 - Consideration of Fraud in the F/S and Fraud Risk Factors
If an auditor discovers fraud that they consider immaterial, to whom should they report this?
A) Not report it to anyone at is is considered immaterial.
B) Report the fraud to management at least one level below those involved in the fraud.
C) Report the fraud to those charged with governance.
D) Report the fraud directly to the PCAOB.
C) Report the fraud to those charged with governance.
There is no materiality threshold in determining when awareness or suspicion of fraud must be communicated by the auditor to management and/or those charged with governance, which in smaller entities could be equivalent.
In any circumstance where fraud is either detected or suspected, the auditor is required to communicate it accordingly.
It is up to those to whom the fraud is communicated to determine what course of action is appropriate based on the auditor’s communication. It is governance who will decide if the fraud should be disclosed to a regulator, such as the PCAOB.
The auditor’s communication should be made to a level of management at least one above those involved, not one level below.
1.12 Consideration of Fraud in the Financial Statements and Fraud Risk Factors:
Which of the following parties should an auditor notify first when discovering an immaterial fraud is committed by an accounting clerk?
A) The client’s legal counsel.
B) The audit committee
C) The client’s internal auditor
D) An appropriate level of management
D) An appropriate level of management
When an auditor becomes aware, or suspicious, of fraud, the auditor should notify management at a level above the level at which the fraud occurred.
Although communication with management about fraud will be communicated to the audit committee, it is not notified first.
1.12 - Consideration of Fraud in the Financial Statements and Fraud Risk Factors:
Which of the following factors most likely would heighten an auditor’s concern about the risk of fraudulent financial reporting?
A) Management’s lack of interest in increasing the entity’s stock trend.
B) Large amounts of liquid assets that are easily convertible into cash.
C) Inability to borrow necessary capital without granting debt covenants.
D) Inability to generate cash flows from operations while reporting substantial earnings growth.
D) Inability to generate cash flows from operations while reporting substantial earnings growth.
Growth in earnings would ordinarily be associated with positive cash flows. Inability to generate cash flows when reporting earnings growth should seem unusual to the auditor and may be an indication of fraudulent financial reporting.
Management’s lack of interest in increasing the entity’s stock trend would reduce the risk of fraudulent financial reporting.
Large amounts of liquid assets may increase the likelihood of asset misappropriation but would not affect the risk of fraudulent financial reporting.
Many debt instruments involve covenants, which do not necessarily increase the risk of fraudulent financial reporting.
1.12 - Consideration of Fraud in the Financial Statements and Fraud Risk Factors:
Choose the correct statement(s), if any, regarding fraud risk factor(s) from the following:
I. Needlessly complex transactions present an opportunity for fraud.
II. Ineffective oversight by those charged with governance provides an incentive for fraud.
III. Stock options that expire soon after the release of financial statements present an opportunity for fraud.
A) I, II, and III
B) I only
C) I and III only
D) None of the above
B) I only
When transactions are complex, many individuals within the entity will not understand the intricacies and, as a result, it becomes easier to deceive others, creating an opportunity to commit fraud.
Ineffective oversight by governance also creates an opportunity for individuals to commit fraud but does not provide an incentive.
When stock options are due to expire shortly after financial statements are issued, that creates an incentive to overstate results in order to increase the value of the options, but it does not provide an opportunity.
