Audit Flashcards
Risk and audit procedures
- State account
- State risk
- State assertions
- State procedures (VOVOP) verb object purpose
Balance sheet Assertions
Balance Sheet
• Existence – do the assets, liabilities, and equity exist? When violated results in an overstatement. Send confirmations
• Rights and obligations- Is there legal claim or control to assets. Is there an obligation to liabilities? Inspection of contracts and recalculations
• Completeness- Have all the A&L been recorded? When violated results in an understatement. Examine receipts, test valuations and allocations
• Classification- Have they been recorded to proper accounts? Inspect SL for significant credit balances
• Presentation – have they been appropriately aggerated or disaggregated, disclosures have been made. Examine legal letters, provisions and test
Income Statement Assertions
Income Statement
• Occurrence – Have revenues been recorded? When violated results in an overstatement. – reperformance. Trace from GL to supporting documentation
• Completeness- has all revenue and expenses been recorded? When violated results in an understatement. – inspection. From invoices to GL
• Accuracy- Has it been recorded accurately? – Recalculation and testing to GL
• Cut-off – Have they been recorded on the correct period? – Inspection of documents to verify dates of delivery and test to GL
• Classification – Have they been booked ot the correct accounts? – Inspection of GL and supporting documentation for appropriate classification
• Presentation- – have they been appropriately aggerated or disaggregated, disclosures have been made. – Inspection and reviewing of contracts
Audit procedure examples
- SEND a confirmation
- RECALCULATE the amount
- INSPECT the document
- Vouch a sample of contracts to determine timeframe
- Recalculate agreement and test to GL transactions
- Compare revenue recorded to GL
- Obtain contracts and inspect terms for where risk and responsibility lies
- Inquire of mgmt. as to entities responsibilities
- Inspect lease to understand terms
- Compare prior year estimates with current year
Examples of natural biases
- Inherent bias to understate liabilities
- Inherent bias to overstate revenue
- Inherent bias to overstate receivables
- There is a risk to valuation when the FV is not easily obtained
Audit Planning Memo steps
• First look at the case facts – Are they asking for everything or a partial memo?
Step 1: Risk:
RMM at OFSL level – the risk of material misstatement for the financial statements as a whole. Analyze the likelihood that there may be errors in the statements prior to audit
• Inherent risk factors or benefits
o Fast expansion brings increased transactions and complexity which may result in errors, high volume of new employees brings risk to controls
o Bank covenants – mgmt. bias to overstate certain accounts
o New programs – The success or failure is unknown which creates uncertainty for collectability. New transactions increase risk of errors due to complexity
• Control Risk factors or benefits
• Audit risk factors or benefits
RMM at the assertion level – risks that can be attributable at the account level
• Inherent risk factors or benefits
• Control Risk factors or benefits
• Audit risk factors or benefits
Step 2: Approach:
• Can we rely on controls? Then combined approach
• Cannot rely on controls or not a lot of items to test? Substantive approach
• Specific risk factors that identified above
• Logistics and timing factors
• Reliance on controls
o Effectiveness of controls and efficiency of audit
• CONCLUDE on approach based on case facts
Step 3: Materiality:
• Identify the users of the financial statements
• Identify the users’ objectives
• Determine the base for materiality (Which account type based on user concerns)
• Identify the percentage threshold for materiality
o For-profit entities:
o 3% to 7% of normalized income before tax
o 1% to 3% of revenues or expenses (NPO)
o 1% to 3% of total assets (NPO)
o 3% to 5% of equity
• Determine overall materiality
o Account type value x materiality % = $$ = overall materiality number
• Determine performance materiality. (individual materiality) Typical range is 60-70%-80% of materiality $$. Pick lower % when risk is high. This measurement will determine how much of audit work will be needed to reduce risk to an acceptable level
• Determine specific materiality - Specific materiality (SM) is set if there are balances or classes of transactions where an amount less than overall materiality would influence or change the decision of a known user. Should be less than overall materiality
• Determine specific performance materiality - SPM at the class of transaction or account balance level is set at a lower level than both overall materiality and SM. When setting SPM, the practitioner considers the amount of audit work required to ensure that the identified and potential unidentified misstatements will not exceed SM. SPM is required only when SM has been set for an account or group of accounts.
• Step 4: Procedures – identify specific account risks (assertion)
o Analytical procedures- Horizontal, vertical, ratio, annualizing
o Substantive procedures – testing at the assertion level
Inspection
Observation
Inquiry
External confirmation
Recalculation
Reperformance
Review Engagement Characteristics
Review Engagement
• Independence is required
• Only Analytical procedures such as ratio analysis
• Work involved: discussion, inquiry, and analysis
• Report refers to accounting framework
• limited assurance, primarily by performing inquiry and analytical procedures, about whether the financial statements as a whole are free from material misstatement
• Materiality is determined
• An adverse opinion can be issued
• Procedures at least three specific accounts:
• Discuss with mgmt. about the business and performance
• Inquiry of certain accounting staff
• CASH: Inquire whether a back reconciliation has been performed
• AR: Inquire which customers are behind on payments and any debt over 90 days
• PPE: Inquire whether there has been any significant purchases in the year and what the useful life, residual, and amortization method is
• Inventory: Whether there is any obsolete or damaged inventory
• LT debt: whether there are any covenants associated with the debt and whether they have been met
• Revenue: any significant new contracts, what the terms are and how revenue is being recognized
Audit engagement characteristics
Audit Engagement
• Independence is required
• reasonable assurance about whether the financial statements as a whole are free from material misstatement
• Report refers to accounting framework
• Attending inventory counts is a common procedure
• Materiality is determined
• An engagement letter is obtained
• An adverse opinion can be issued
• An understanding of the relevant internal controls is required
