Auditing

Question 1

Current cost accounting - SoCI

Answer 1

value transactions at replacement cost at transaction date

Question 2

What is an audit?

Answer 2

‘quality control’ on the financial statements of a firm.

auditors look to obtain REASONABLE ASSURANCE that the statements are free from mistatement and error.

Question 3

Why are audits performed?
2

Answer 3

to protect the owners of the firm who may have no way of checking the validity of the statements (no accounting knowldge e.g.)

Assess credibility of accounts for use in investment decisions

Question 4

Who must be audited?
3

Answer 4

a limited company must have an external audit unless:
- it is small (meets 2/3 criteria of annual turnover < £10.2m, total assets < £5.1m, < 50 employees

subsidiary of a European eonomic area parent whos statements are publically available in the UK

non-profit-making company subject to public sector audit

Question 5

Audit Risk Formula

Answer 5

IR x CR x DR

Inherent Risk: risk of an error/omission occurring in the first place

Control Risk: risk of an error/omission not being detected and corrected by reporting entity’s own controls

Detection Risk: risk of an error/omission not being detected by the auditor

Question 6

Audit Risk Definition

Answer 6

the risk that auditors may give an incorrect audit opinion on the financial statements

Question 7

Explain the assertions made in respect of the elements of
financial statements

How would you go about doing an audit for something e.g. trade payables etc.?

Answer 7

COVED

Completeness - all transactions have been reported

Ownership - an asset or liability belongs to the entity at a given date

Valuation - elements have been measured appropriately

Existence - The transactions actually occurred in the reporting period

Disclosure - the elements have been properly classified and presented in accordance with GAAP

Question 8

How to test the assertions

Answer 8

C - Perform a walkthrough test: select a sample of source documents and trace them back through to the statements

O - Vouch to documents of title

V - Inspect post-year-end sales invoices to agree to valuation report

E - Select a sample of items from the Nominal Code Analysis and agree to source documents

D - Complete a companies Act ensuring that the disclosure requirements have been met

Question 9

Cut-off testing (C & E)

Answer 9

C - Test that transactions occurring just before year end are included in the statements

E - Test that transactions occurring just after year-end have been excluded from the statements

Question 10

Audit Opinions - must know!!!
6

Answer 10

Unqualified - statements give a true and fair view

Adverse opinion - do not give a true and fair view

Qualified (disagreement) - except for this disagreement, they give a true and fair view

Qualified - limitation on scope - give a true and fair view, except for adjustments concerning insiffucient evidence that may have arisen. Didn’t have all the necessary info

Disclaimer - unable to form an opinion due to insufficient info

Emphasis of matter - Where there is a significant uncertainty – one whose
matter: potential impact on the financial statements is unusually great –
an emphasis of matter paragraph should be added

Question 11

How to answer: conduct an Audit question

Answer 11

Conduct a test for each of the aspects of COVED.

Comment on appropriateness of the test at the end of each letters test. e.g. ‘This information is not the most appropriate as info becomes more reliable the further away it is from the company. As all these documents are created by the company it has the ability to be manipulated.

Or if it is a 3rd party document, it is more reliable

Question 12

Example of conducting an audit for trade payables

FULL LENGTH

Answer 12

Completeness: select 10 random purchase invoices and ensure they are in the accounts, repeat for 10 largest and 10 smallest purchases

Appropriateness - not most appropriate as could be manipulated by firm, as in the entities control

Ownership: Select 20 random entries in purchase ledger, find corresponding ownership docs

Appropriateness - goods dispatched notes from seller so 3rd party thus trustworthy

Valuation: 10 random purchase entries and ensure value matches the source. temptation here would be to understate purchase amounts

Appropriateness - invoice is 3rd party doc thus reliable

Existence: From purchase ledger, select 10 random entries and 10 highest and lowest, trace back to source and see that it exists.

Appropriateness - Audit evidence will be appropriate if auditor actually goes and sees the purchased items

Disclsure:

Sufficiency, main point is that not everything has to be checked, only a representative sample. Objective of an audit is to provide reasonable assurance about accuracy of the accounts

Question 13

Audit for PP&E

Shortened, but refer to audit for trade payables card for how this answer’s format should look in its’s entirety

Answer 13

Key docs:
Documents of title
PP&E register

C -
O - Check documents of title
V - Revalue or look for value at purchase (sales invoice)
E - Physically verify,
D -

Question 14

Audit for Trade Receivables

Shortened, but refer to audit for trade payables card for how this answer’s format should look in its’s entirety

Answer 14

Key docs:
Sales ledger, Sales invoices, Goods despatched notes

C - Test that transactions occurring just before year end are included in the statements
O -
V -
E - Test that transactions occurring just after year-end have been excluded from the statements
D -

Question 15

Cash

Answer 15

Cash book;
Bank statements

Question 16

Going Concern

Answer 16

Key Docs:
Cash flow budgets
Forecast financial statements

Review budgets and forecasts for consistency with knowledge of the business

Examples of Factors Indicating Going Concern Problems:
negative cash flows;
* significant losses;
* substantial debts;
* substantial overdraft, close to or exceeding overdraft limit;
* net current liabilities;