AUD Flashcards
Audit Opinions
Audit issues: Disclaimer or Qualified depending on pervasiveness
FS issues: Qualified or Adverse depending on pervasiveness
No issues: Unmodified/Unqualified
On the exam, both adverse and disclaimer is an incorrect answer. They’re looking for only FS side or Audit side extremes.
A departure from GAAP is permissible
When presenting the statements in accordance with GAAP is misleading. A departure from GAAP in this case would lead to an Unmodified opinion
Opinion section of auditor’s report
Indicates the nature of the engagement, the FS covered in the audit, the name of the entity, and the dates covered by the statements
Basis of opinion section of auditor’s report
References GAAS (not GAAP), independence, and statement of whether appropriate audit evidence was obtained to provide an opinion
An issuer
Should reference PCAOB and GAAP
Disclaiming auditor responsibilities
Is never permitted
Non issuer qualified opinion due to inadequate disclosure
“In our opinion, except for the omission of the information described in the basis for qualified opinion section of the report”
Omission of a financial statement from part of the audit
Requires a qualified opinion
The substantive reasons for the financial statements being incorrect or misleading
Are discussed in the Basis for Adverse opinion section, not the opinion section
Inadequate disclosure
Results in a qualified or Adverse opinion
Client imposed scope restrictions always result in
A disclaimer of opinion or Qualified opinion
Refusal of the clients attorney to respond to an inquiry
Is an example of a scope limitation
When an auditor qualifies an opinion because of a scope limitation
The wording in the opinion paragraph should indicate the possible effects on the financial statements
Unmodified opinion with an emphasis of matter paragraph
Does not include unjustified accounting changes or material weaknesses
Emphasis of matter paragraph
Identifies the nature of the change and refers to the financial statement note that discusses the change in detail
Emphasis of matter is required when
A company reports using a special purpose framework
Emphasis of matter is required when
There is a justified change in accounting principle that has a material effect on the entitys FS
Other matter paragraph is used when
Matters other than those presented or disclosed in the FS are relevant to the readers understanding
If the auditor is able to obtain sufficient evidence about consistency
Consistency need not be mentioned in this case or if it’s not material
If prior year comparative financials are changed to conform to GAAP
Opinion must be changed
When a succeeding auditor’s report is not included in the current report, and an Unmodified opinion was determined
It should be indicated in an other-matters paragraph
If comparative financial statements are corrected to be in conformance with GAAP
An Unmodified opinion is used
If the preceding auditor issued a qualified opinion
The successor should indicate the reason for the qualified opinion in the current opinion
The new auditor must obtain letters of representation from
The old Auditor and clients management team
The engagement partner
Need not reference the prior auditor if they have a good reputation and are independent
Dividing responsibility
Does not impact the opinion
Nonrecognized subsequent events
Occur after the date of the FS or arise after the date of the FS. They should be disclosed in the footnotes and should not include any adjustments to the FS
If a sale did not occur until year 2
There shouldn’t be a receivable in year 1
After determining the reliability of subsequent info
The auditor must determine whether there are people relying on the FS who would attach importance to the information
If an auditor cuts ties with a client and then subsequent events occur
The auditor must go back to management and determine if the FS need revised
When other information is included with the clients FS
The auditor includes a section titled “other information” clarifying the auditors responsibility
The presentation of selected financial data
The auditor should only be limited to the data on the FS in the report
When supplementary info is required to be reported
A separate section of the report is included that references the required information (think GASB)
A auditor cannot
Perform a review or express negative assurance on supplementary info
When statements are prepared under an OCBOA
An emphasis of matter paragraph alerting readers about the preparation using the OCBOA is added
A description of how an OCBOA differs from GAAP
Is put in the notes to the financials
The engagement letter
Includes a statement saying that management is responsible for the fair presentation of the financials
Those charged with governance
Do not approve audit scope
The following is included in the engagement letter
“Management is responsible for making all financial records and related information available to us”
Financial statement notes
Are not compiled by the auditor. This violates independence
The management rep letter
Is obtained at the end of the audit
Inquiry of the predecessor auditor
Is a required pre-acceptance procedure. However, consent of the prospective client must be obtained before a CPA can make the inquiry
A change in engagement type
Need not be disclosed if the CPA agrees to it
If the predecessor auditor refuses to give the current auditor access to documentation
The current auditor should review the risk assessment of the opening balances to the financials
AICPA statements on quality control
Includes assigning personnel to engagements
Six interrelated elements of quality control
HR, engagement/client acceptance and continuance, leadership responsibilities, performing the engagement, monitoring, relevant ethical requirements
Audit documentation
Can serve as a reference point for clients
Audit documentation should be prepared in enough detail so that
An experienced auditor who has no previous connection with audit can understand the procedures performed
Under SOX 2002
Public accounting firms must maintain audit work papers and supporting docs for seven years
According to PCAOB standards
The documentation completion date is 45 days following the released report
For NONISSUERS it is 60 days
After the document completion date
An auditor cannot delete any audit documentation. Additional documentation can be included but it must be documented as such
Oral explanations
Do not represent adequate support for the work performed and conclusions reached
Required retention periods:
Non issuer - 5 years
Issuer - 7 years
Three entity objectives
Reliability of financial reporting, the effectiveness and efficiency of operations, and compliance with laws and regulations
Senior management and the board of directors
Have primary responsibility for establishing, implementing, and enforcing internal controls
Control environment
Includes HR functions
The nature, extent, and timing of procedures
Is included in the audit plan, not the audit strategy
When developing an audit strategy
The scope and reporting objectives of the audit are considered
Planning memo
While recommended, is not required under GAAS
An audit plan outlining in detail the procedures necessary to accomplish the entity’s objectives
Is required under GAAS
Income statement accounts
Can be tested before the balance sheet date
A change in the level of tolerable misstatement
Does not impact control risk. It calls for an increase in the extent of procedures and calls for the audit to begin sooner (closer to the balance sheet date)
Performing tests on interim BS balances
Increases risk. The tests do not have to be redone
The work of internal auditors
May affect the nature, timing, and extent of the audit including procedures the auditor performs when obtaining an understanding of an entity’s internal control system, assessing risk, and performing substantive procedures
As the degree of subjectivity increases
The need for the auditor to perform tests of the assertions increases
Testing fixed asset additions
Involves very little subjectivity. Therefore the work performed by the internal auditor may reduce the auditor’s testing in this area
Performing tests of controls with internal auditors
The independent auditor should supervise, review, evaluate, and test the work performed by internal auditors
GAAS defines a specialist as
A person or firm with special skills in a field other than accounting or auditing
The internal auditor
Can perform tests of controls, although not extensive tests
Example of a management specialist
Client use of an actuary to assist in technical matters related to the client’s FS prep
If the auditor references to a specialist in the report
The report must indicate that the reference to the specialist does not reduce the auditor’s responsibility for issuing an opinion
Because the FS are interrelated
Materiality levels are generally considered in terms of the smallest level of misstatement that could be material to any one of the statements
An auditor would most likely use
The PY FS as a preliminary judgment for materiality
An increase in the RMM (combined assessment of inherent and control risk)
Would cause a decrease in allowable detection risk
Derivatives entered into as hedges
Are part of inherent risk due to their complex nature
Control risk
Includes availability of data and complexity of computer operations
As detection risk decreases
The extent of substantive tests should increase
Control risk
Is correlated with substantive testing sample size
Detection risk increases when
Analytics are performed at an interim date
Inadequate organizational structure
Is not a fraud risk factor
Fraud involving an officer making JE’s
Should be reported to those charged with governance
When the auditor obtains evidence that fraud exists
It is important that the matter be brought to the attention to the appropriate level of management. This is true even if the fraud is immaterial
Leading vs. Lagging indicators
Leading indicators predict economic activity. Examples include: Orders for goods, building permits, and unfulfilled orders
Lagging indicators change at approximately the same time as the whole economy. Number of employees on payroll, production and sales are examples
FS disclosures for unusual transactions or unexpected balances
Are performed by managers and partners at the end (review stage) of an audit
The planning process should include
a comparison of recorded financial information with anticipated results from the budget and forecast
Analytical procedures
Involve the comparison of recorded amounts to independent expectations developed by the auditor
Performing tests of controls
Is not recommended by the PCAOB during the planning stage. Instead, it should be performed in conjunction with substantive audit procedures if they are deemed insufficient
The trough of the economic cycle
Is characterized by low profits. Firms often try to reduce the size of their workforce at this point
During the expansionary phase of the economic cycle
Businesses increase their capital investment
Coincident indicators
Occur in correlation to economic activity. Industrial production is an example
Since automated controls are consistent
It is not necessary for the auditor to test a sample. Testing the control once is sufficient
An auditor is not required
to evaluate the operating effectiveness as part of understanding the system of internal control
If business risk is identified
The auditor should analyze the risk in conjunction with other known business risks, rather than just the economic risk
Dual purpose test
Test of controls and test of details
An audit of internal control over financial reporting for an issuer
Does not require substantive procedures to be performed. They are performed during the FS audit
If detection risk cannot be reduced through substantive procedures
A test of controls should be performed to support a lower level of assessed control risk
Evidence concerning proper segregation of duties
Is typically observed
Procedure to be performed concerning litigation, claims, and assessments
Discussion with management concerning controls adopted for evaluating and accounting for litigation, claims, and assessments
If there is substantial doubt considering going concern
The auditor is required to include a separate section in the audit report using the phrases “substantial doubt” and “going concern”
If a client refuses to accept the auditor’s report as modified due to an act of noncompliance
The auditor should withdraw from the engagement. The auditor should also notify TCWG
A retrospective review of estimates in the FS
Is performed by the auditor to check whether a bias by management existed
Emphasis of matter vs. other matter paragraphs
Emphasis: Emphasizes a matter that is appropriately presented or disclosed in the FS
Other: Used to refer to matters other than those presented or disclosed in the FS
Actions to mitigate going concern issues
Increase equity ownership, borrow money, restructure debt, sell assets, and reduce or delay expenditures
The auditor should rely on evidence that is considered
Persuasive. Persuasiveness is a subjective concept, and is unique to each audit.
Sales invoices
Would not be considered corroborating evidence. They are considered to be underlying accounting records
The auditor’s risk assessment
Affects the nature, extent, and timing of audit procedures
Relationships found during analytical procedures
Are most easily found for IS accounts because they represent transactions over a period of time
To determine if transactions have been recorded properly
The auditor should trace back to the source document
When to use test of details vs. analytics
Lots of activity - analytics
Minimal activity - test of details
Tracing from supporting docs to accounting records
Tests the completeness assertion
Tracing from accounting records to supporting documentation
Tests the existence assertion
Final analytics
Generally include a determination of the adequacy of evidence gathered in response to unexpected balances identified during planning
To further improve the reliability of electronic confirms received
The auditor should contact the person who filled out the confirm directly
an auditor most likely would stratify a population into meaningful groups if
The population has highly variable recorded amounts.
Calculating projected mistatement
Step 1: Recorded amount - audited amount
Step 2: Value from step 1 / audited amount
Step 3: Percentage from step 2 / sampling interval
Ratio estimation sampling is most effective over other sampling techniques when
The calculated audit amounts approximate the client’s book amounts
Stratified mean per unit (MPU) is more efficient than unstratified MPU usually
it produces the desired level of precision with a smaller sample size
Stratification
involves the grouping of transactions sharing some characteristic (such as recorded amounts). The goal of stratification is to ensure selection of items for which potential misstatements may individually equal or exceed tolerable misstatement
When using probability proportional to size (PPS) sampling, also known as dollar unit sampling
the auditor controls the risk of incorrect acceptance by specifying the risk level for the sampling plan. The inputs for PPS are tolerable misstatement, risk of incorrect acceptance (reliability factor), and the recorded amount of the population being sampled. The primary objective of this method is to identify overstatement errors
No comparison should be made
Between the true deviation rate and the risk of assessing control risk too low. If the actual deviation rate in the population exceed the maximum deviation rate based on the sample, control risk is understated because the control will be less effective than sample results would indicate
Advantage of statistical vs. non statistical sampling
The auditor can quantify sampling risk to assist in lowering it. Statistical sampling does not remove auditor judgment. The tolerable and likely rate of deviation is chosen by the auditor
Incorrect acceptance
A population originally thought to be free of MM actually contains MM’s. The risk of incorrect acceptance is established when designing the audit procedure
If control risk is assessed too low
The deviation rate in the sample is less than the tolerable rate, but the deviation in the population exceeds the tolerable rate. The other way around results in an increase in control risk
If the deviation rate of the sample and the population both exceed or are below the tolerable rate
Control risk is at the appropriate level
The risk of incorrect acceptance and assessing control risk too low
Relates to the effectiveness of the audit
Nonsampling risk examples
Inappropriate audit procedures, inappropriate audit evidence, and failure by the auditor to recognize misstatements
If an auditor cannot test a control nor perform alternative procedures
The item is treated as a control deviation
Population size
Does NOT determine sample size
As tolerable deviation increases
The sample size decreases
If the upper deviation rate (which is the sample rate of deviation plus the allowance for sampling risk) exceeds the tolerable rate
The auditor should reduce the planned reliance on the prescribed control
Sample deviation rate + allowance for sampling risk (aka the upper deviation rate)
Should be below the tolerable rate. If not, the planned assessed level of control risk needs to be readdressed
Steps in determining sample size – test of controls
- Determine the expected error rate – this is based on the difficulty of the task and how well the employees understood their role.
a. If errors are expected, the sample size must be increased. - Determine the tolerable deviation rate – this sets the highest error rate that the auditor would be comfortable with based on their professional judgment.
a. The importance of the activity as well as the presence of other controls will both influence the auditor’s tolerable deviation. AS TOLERABLE DEVIATION RISES, THE SAMPLE SIZE DECREASES because you tolerate more errors. - Determine sampling risk – There is always a chance that the population does not represent the population as a whole.
a. Auditor sets their confidence level. This is known as the ALLOWABLE LEVEL OF SAMPLING RISK. As the allowable level of sampling risk decreases, sample size increases.
Scatter plots
Are used to display the information gathered from analytics because they are used for relationship type data
Analytics
Provide enhanced fraud detection
Analytic types
Descriptive - describe what happened with data
Diagnostic - explain why something happened
Predictive - predicts outcome based on historical data
Prescriptive - provides a recommendation to achieve goals
Accuracy and Occurrence
Can only be tested using substantive procedures
The control to ensure all credit sales are recorded
The billing department supervisor matches pre numbered shipping docs with entries in the sales journal
The two documents generated during the revenue cycle
Credit memos and Sales invoices
Shipping documents
Provide proof that a transaction occurred. Therefore selecting from a population of shipping docs allows the auditor to test whether a corresponding invoices exists
Preparing invoices and recording the related receivable
Is okay because they are both record keeping functions. Handling cash and recording is not allowed
Examining cash receipts and AR
Addresses the completeness and Occurrence of sales
Upon receipt of cash
A remittance listing should be prepared
Reconciling control totals for sales invoices with the AR subledger
Wouldn’t catch improper invoice creation
The pre list of individual checks
Is prepared by a clerk opening the mail
The remittance advice
Is prepared by the customer and is mailed with the check
The cashier
Receives remittances and prepares the daily deposit slip
To detect an understatement of sales
An auditor compares the shipping docs to the invoices. This relates to the completeness assertion and provides evidence that shipments to customers were properly invoiced
If an auditor is worried that the client is overstating revenue
They can vouch sales invoices to shipping docs since no related shipment would have occurred
Sending confirms
Supports the existence assertion
PO number
Is unlikely to be used for an analytic related to the revenue cycle. It is more likely to be used for an expenditure cycle analytic
The term “trace”
May be used when testing the existence or completeness assertion
Emailed responses confirming AR
Are less reliable than mailed responses because anything digital can be altered
Confirms of AR don’t satisfy the completeness assertion because
Customers may not be inclined to report understatement errors in their accounts
Negative AR confirm requests are used when
The combined assessed level of inherent and control risk is low. This is because the auditor has no reason to believe the confirms will be ignored
Positive AR confirms are better than negative because
Those responding to negative confirms may not have checked their account information
To test completeness
The auditor would be looking for unrecorded receivables
Negative confirms are used when
Control risk is low, there are many small balances, and the consideration by the recipient is likely
Negative confirms
Only request a response if the amount stated is incorrect
To improve the response rate of AR confirms
The auditor should include information along with the confirm that constitute the balance. Typically a PBC schedule showing the account details that make up the balance
Blank confirms should be used if
Recipients are likely to sign confirms without careful consideration
Population for AR confirms
AR detail listing as of YE
When using positive confirms
The auditor should have the client reach out to the selected individuals if they’re not received
Purchase orders
Should be issued by the purchasing department, not the AP department
Vouchers payable department
Is responsible for approving vouchers for payment, indicating the expense account to be debited, and reconciling the vendor invoice with the related receiving report
Internal control is enhanced when
The treasury department handles cash
Mailing disbursement checks and remittance advices
Should be done by the employee who signs the check last. Usually a treasury department employee
The authority to accept incoming goods in receiving should be based on
An approved PO
Expenditure cycle jobs
Purchasing department - responsible for preparing the PO
AP department - responsible for matching documents
Treasury - responsible for making payments
The person who signs the check
Should be the person mailing the check
By stamping the voucher as “paid”
The check signer cancels the voucher so it is not double counted
Reconciling the AP ledger
Is an independent function and can’t be performed by the same employee who matches documents
The AP department
Matches invoices with receiving reports and can recompute the calculations on the invoice a separate employee must post to the AP records since a single employee can not record and authorize
The AP department should compare the info on each invoice with the
Receiving report and PO
A debit memo
Is used when nonconforming goods are returned to the vendor. This reduces AP
Employees who approve POs
Should also Negotiate terms with vendors
AP shouldn’t be confirmed because
The documents to support AP balances already come from external sources
Receiving reports
Are used to test the completeness assertion for AP
When using confirms to test the completeness assertion for AP
The appropriate population is vendors with whom the entity has previously done business with. This is because they should be properly included in AP
Upon receiving the clients bank cutoff statement
The auditor would trace the PY checks listed in the cutoff statement to the YE outstanding checklist
Deposits in transit
Are not included on a bank statement. They’re included in a bank rec
Check kiting
Occurs when a check drawn from one bank is deposited in another bank and no record is made of the disbursement in the balance of the first bank
Check lapping
Occurs when an employee uses the current remittances to conceal remittances that have been stolen previously. To uncover check lapping, the auditor would compare the dates checks are deposited per the bank statement with the date remittance credits are recorded because a lag exists in check clearings
Control to deter lapping
Segregation of duties between receiving cash posting to the ledger
The bank confirmation
Primarily is used to corroborate information regarding deposits and loan balances. It can also be used to seek information on contingent liabilities and security agreements in addition to information related to balances
To gain assurance that all inventory items in a client’s inventory listing schedule are valid (exist)
The auditor traces Items listed in the inventory listings to inventory tags and the auditor’s count sheets. This satisfies the existence assertion.
The word “valid”
Is used to test existence: records to source
The control objective of verification of the existence of inventory is achieved when
The physical inventory count is performed
The physical inventory count
Provides evidence to support BOTH the existence and completeness assertions
If the assessed level of control risk is high
The auditor would request that the client schedules the inventory observation at the end of the year. This is because the assessment of control risk affects the nature, timing, and extent of substantive audit procedures
To obtain assurance that slow-moving and obsolete items included in inventories are properly identified
The auditor would examine an analysis of inventory turnover. An auditor would least likely test the computation of OH rates
Interim testing for inventory
Is permitted when the risk of material misstatement is low. Interim testing is generally not appropriate when an entity maintains periodic inventory records because periodic inventory records are only updated on the date when a physical inventory is taken and the books are adjusted to actual.
Testing the completeness assertion for inventory
Is achieved by performing cutoff procedures, as this test provides assurance that goods in transit are appropriately included or excluded from inventory. The completeness assertion is focused on unrecorded transactions
If an insignificant portion of a client’s inventory is in public warehouses
Auditors can most efficiently test this inventory through confirmations. Since it is insignificant, no observation has to take place
rights and obligations related to inventories
Is tested by inspecting agreements to determine if any inventory is pledged as collateral or subject to liens
procedure that best addresses the adequacy of presentation and disclosure for inventory
Obtaining confirmation of inventories that are pledged under loan agreements provides evidence of proper disclosure
The auditor is not required to disclose
A balance breakdown between petty cash and short term investments
When good external evidence is available to support AP
Confirms are not required
An auditor tests the reasonableness of dividend income
By computing amounts received by referring to dividend record books produced by investment advisory services such as “Moody’s Dividend Record”
