chap 9 assessing acceptable audit risk Flashcards
when external users place heavy reliance on the FSs, it is appropriate to increase/decrease AA risk
decrease
the risk that the auditor or audit firm will suffer harm after the audit is finished even though the audit report was correct?
engagement risk
what are indicators of increased probability of financial failure (5)
- liquidity position- if always short of cash and working capital, indicates future problem paying bills. 2. profits (losses) in previous years- when has rapidly declining profits or increasing losses for several years has a solvency problem. also need to consider the changing profits relative to the blance in RE 3. method of financing growth- the more relies on debt to finane, the great risker of financial difficulty if operating success declines 4. nature of clients operations- certain businesses are inherently risker than others 5. competence of management- competent management is alert for potential financial difficulties and modifies operating methods accordingly
auditors first decide engagement risk and then use it to modify what?
AA risk
auditors first decide ____ ____ and then use it to modify AA risk.
engagement risk
what is engagement risk?
the risk that the auditor or audit firm will suffer harm after the audit is finished even though the audit report was correct
what is an example of when engagement risk is high?
if client declares bankruptcy after an audit is complete, there is a rsonable high likelihood of a lawsuite even if the quality of the audit was high
in situations where the auditor believes the chance of financial failure or loss is high and a corresponding increase in engagement risk occurs, AA risk should be ?
reduced
T/F Auditors agree that engagement risk should be considered in planning they audit?
F they disagree
what are some methods used to assess AA risk for the factor of “likeihood of financial difficulties”? (2)
- analyze FSs for financial difficulties using ratios and other analytical procedures 2. examine historical and projected cash flow statements for the nature of cash inflows and outflows
overall assessment of AA risk is highly objective/subjective?
subjective
what is a method used to assess AA risk for the factor of “management integrity”?
follow procedures for client acceptance and continuance
when auditors modify evidence for engagement risk, it is done by control of what?
AA risk
auditors must decide the appropriate AA risk for an audit, preferable during?
audit planning
as the engagement progresses, auditors obtain additional info about the client and AA risk may be ____
modified
what are 3 factors that indicate the degree to which statementws are relied on by external users?
- clients size- the larger a clients operation, the more widely FSs are used. this is measured by total assets or total revenues . Size will have an effect on AA risk 2. distribution of ownership- statements of publicly held corporations are normally relied on my many users, like SEC, financial analysts, and the general public 3. nature and amount of liabilities- when statements have large amount of liabilities, they are more likely to be used by actual and potential creditors than then there are few liabilities
what are some methods used to assess AA risk for the factor of “external users reliance of FSs” (4)
- examine FSs 2. read minutes of board of directors meeting to determine future planes 3. read fiancial analyst reports 4. discuss financing plans with managment
what are 3 factors that affect engagement risk and therefore AA risk?
- the degree to which external user rely on the statements 2. the likelihood that a client will have financial difficulties after the audit report is issued 3. integrity of managment
a low AA risk assessment mean a risk client requiring what (3)
- more extensive evidence 2. assignment of more experienced personnel 3. more extensive review of audit documentation
companies with low integrity often conduct their business affairs in a manner that results in conflicts…these conflicts reflect on the users perceived qualtiy of the audit and can result in lawsuits and other disagreements so you want to lower what because of this
AA risk
