Chapter 3 Flashcards
What in auditing is the application of relevant knowledge and experience, within the context provided by auditing and accounting standards and Rules of Professional Conduct, in reaching decisions where a choice must be made between possible alternative courses of action?
professional judgment
In applying professional judgment, the auditor must be able to justify a decision on the basis that it
is carried out with truthfulness and forthrightness.
What are the elements of an effective professional judgment process?
(1) Identify and Define the Issue; (2) Gather the Facts and Information and Identify the Relevant Literature; (3) Perform the Analysis and Evaluate Alternatives; (4) Reach Conclusions; and (5) Review and Complete the Documentation and Rationale for the Conclusion.
Consulting with others can enhance ________ (a) and ________ (b) judgment traps because it brings in ________ (c) and a different way of framing the problem. This can reduce the effects of ________ (d) and help the decision maker see the wider implications of the problem at hand. Also, consultation can help overcome the effects of past experience with the client and, therefore, ________ (e).
a. objectivity
b. avoid
c. different perspectives
d. ethical blind spots
e. improve objectivity
Chen Li worked on the audit of Diagnostic Imaging Services (DSI), which provides diagnostic imaging services to hospitals in Ontario. Chen was assigned responsibility to audit the allowance for hospital receivables. For the past several years, DSI’s accounting policy required that the recorded allowance for hospital receivables be set to equal the total amount of receivables over 180 days past due. Prior audit testing of the allowance in previous years has found that the subsequent write-offs of hospital receivables has closely approximated the amount included in the allowance. During the current year audit, Chen examined the amount recorded in the general ledger allowance account and reconciled that amount to the amount shown in DSI’s consolidated aged trial balance in the 180 days past-due amount. Given that the dollar amounts agreed, Chen concluded that the allowance was in accordance with DSI accounting policy and fairly stated. While media reports and other industry publications suggested that recent regulatory changes in hospital funding were affecting hospitals’ ability to pay, Chen concluded that DSI’s allowance was fairly stated given the amounts complied with DSI’s policy.
Anchoring
Sherry Zipersky was assigned responsibility for evaluating the goodwill impairment testing process at Yukon Metals Inc. Because Yukon Metals’ growth strategy was based mostly on acquisitions, the company had experience in performing annual impairment tests of goodwill. The client provided Sherry extensive information along with detailed schedules that documented management’s testing approaches, and it provided her support for key assumptions made by management. Sherry reviewed the schedules in detail and tested the key calculations. While Sherry’s firm has a number of valuation specialists as part of its staff, Sherry decided not to request their assistance in making an independent assessment of goodwill impairment given that the client’s documentation was extensive and it would take too much time to have the firm’s valuation specialists complete an independent assessment.
Availability
Jason Jackson was responsible for auditing the occurrence of sales transactions in the audit of Asheville Manufacturing. As part of his testing, he reviewed the contracts signed between Asheville Manufacturing and its customers to determine that the transaction terms justified the recording of sales for the year under audit. In addition, he examined documentation related to the sales transactions, including the customers’ purchase orders, shipping documents, and invoices generated by Asheville. The evidence examined supported the correct recording of sales in the current year. However, Jason also noticed in the customer files copies of email exchanges between Asheville Manufacturing sales agents and the customers suggesting that some of the terms of the sales agreements could be waived at the customers’ discretion. Jason decided to rely on the contracts and sales transactions documentation to conclude that the sales were properly stated, given that the other information was only included in emails.
Confirmation
Allison Garrett works on a number of audits of technology equipment manufacturers and has developed extensive knowledge and experience in the industry. On the recent audit engagement of financial statements for Zurich Technologies, Allison was responsible for auditing the valuation of inventories, including the reserve for obsolescence. Given her familiarity with the industry, Allison decided to conduct a quick substantive analytical procedure regarding the days in inventory and determined that the reserve was fairly stated, given that it was in line with reserves established by some of her other clients. She determined that additional evidence was not necessary to be obtained because of her experience with other clients.
Overconfidence
The requirement for an attitude of skepticism means that the auditor should
not be blind to evidence suggesting that the documents, books, or records have been altered or are incorrect.
Society has attached a special meaning to the term professional. A professional is
a person who is expected to conduct himself or herself at a higher level than the requirements of society’s laws or regulations.
The underlying reason for a high level of professional conduct, such as exemplified in a code of conduct, for any profession is
the need for public confidence in the quality of service of the profession.
A code of professional conduct typically includes principles, rules of conduct, and interpretations or examples. What is the purpose of the principles?
to provide ideal standards of ethical conduct aimed to serve the public interest
CPAs do not allow their professional or business judgment to be compromised by bias or the undue influence of others. Under the ethical principles of the relevant provincial CPA Code of Professional Conduct,
this is an example of
objectivity.
CPAs are required to maintain professional competence. Which of the following is a description of maintaining professional competence?
A CPA maintaining keeping abreast of developments in the professional standards.
Ethical dilemmas occur when
a choice must be taken about appropriate behaviour.
A public accountant would be facing an ethical dilemma when deciding whether or not to
overlook a material overstatement of revenues to maintain a good client relationship.
An auditor for Grover & Oscar Studios Ltd. identifies an ethical dilemma. Which of the following is relevant to resolving the ethical issue?
Would the issue affect the public interest?
Which portions of the code of professional conduct are enforceable?
the rules of conduct
Generally, all of the rules of professional conduct for CPAs apply to
all members and firms.
As a member of a professional accounting association, when considering the applicability of the rules of professional conduct, a PA would be responsible for compliance by
themselves, their employees, and partners.
“Independence” in auditing means
impartiality in performing professional services
When public accountants are able to maintain an independent attitude in fulfilling their responsibility, it is referred to as independence in
fact.
When the users of financial statements have confidence in the independence of the public accountant, it is referred to as independence in
appearance.
Financial statement users cannot be expected to evaluate audit performance because they will not have the time or the competence to do so. In such a situation, public confidence in the quality of professional services is enhanced when there are
high standards of performance and conduct on the part of all practitioners.
The confidential relationship will be violated if, without the client’s permission, the public accountant provides working papers about a client to
another public accounting firm that has just purchased the public accountant’s entire practice.
What should a PA do if approached by a client where he and his firm lack or do not have access to the technical knowledge required to complete the audit?
decline the new audit engagement
Which one of the following situations is a violation of the professional rules of conduct?
PA looked the other way when he noticed that one of his firm’s accounting staff accepted money from client management.
PA has been asked to accept the audit engagement of BarneyBlues Corporation. PA sent a letter to the predecessor auditor asking whether there was any reason why he should not accept the engagement. Assuming that the prior-year audit went smoothly, what would be an appropriate response by the predecessor auditor?
Provide a brief statement that there is no reason of which he or she is aware that would prevent accepting the engagement.
The Rules of Professional Conduct require a successor auditor to communicate with the previous auditor. The primary concern in this communication is to
acquire information that will help the successor auditor determine whether the client management has integrity.
Which of the following reasons is an insufficient reason for an auditor resigning from an engagement that is underway?
The auditor discovers that the time and scope of work required exceeds the auditor’s planning estimates.
Independence is assessed in the eyes of external users and regulators. Which of the following is a tool that helps the auditor identify whether the auditor is independent for a particular audit engagement?
an independence threat analysis
Joe Blue, an audit partner, is an ardent dog lover. He is a volunteer and one of the most regular commentators on Canine’s First, a non-profit that operates one of the top three blogs globally for all matters related to dogs. Canine’s First is a CSR venture of Chow Down Corp., a dog food manufacturer. The CFO of Chow Down has been impressed by Joe’s volunteerism and has asked if Joe is willing to accept Chow Down Corp. as an audit client. What threat to independence, if any, might Joe be faced with?
advocacy
The CEO of Kleen Ventures Ltd. informs the auditor that Kleen will not be paying the invoice because the auditor issued a qualified opinion. What threat to independence is the auditor faced with?
intimidation
According to the profession’s ethical standards, an auditor would be considered independent in which of the following instances?
The auditor’s chequing account, which is fully insured by CDIC, is held at a client financial institution.
Which of the following situations best describes a familiarity threat?
PA has been working with this client for ten years, first as a manager, now as a partner.
A familiarity threat at an audit engagement occurs when
it is difficult to behave with professional skepticism.
Which of the following is the best example of an intimidation threat?
Management threatens to change auditors if you do not let them overstate accounts receivable by $100,000 (the bad debt allowance is too low).
An intimidation threat occurs when
a client threatens the firm or its staff with respect to the content of the financial statements or with respect to the conduct of the audit.
To ensure that employees remain independent, an audit firm should
ask employees to sign a form confirming that they do not have an investment in a company that they are auditing.
For listed clients, the audit committee should approve both the appointment of the auditor and
all services that the PA firm provides to the client.
PAs are members of a professional association that can impose sanctions for violations of the professional code of conduct. What is an example of a severe penalty that a professional association can impose?
expulsion from the professional association
Members conduct themselves at all times in a manner that maintains the good reputation of the profession and its ability to serve the public interest.
Professional behaviour
Members are expected to be straightforward, honest, and fair dealing in all professional relationships. They are also expected to act diligently and in accordance with applicable technical and professional standards when providing professional services.
Integrity and due care
The public expects the accounting profession to maintain a high level of competence. This underscores the need for maintaining individual professional skill and competence by keeping abreast of and complying with developments in the professional standards.
Professional competence
Members have a duty of confidentiality in respect of information acquired as a result of professional, employment, and business relationships, and they will not disclose to any third party, without proper cause and specific authority, any information, nor will they exploit such information to their personal advantage or the advantage of a third party.
Confidentiality
Members do not allow their professional or business judgment to be compromised by bias, conflict of interest, or the undue influence of others.
Objectivity
How can those principles aid in analyzing an ethical dilemma?
At times personal values may collide with professional; however, the CPA must take into account the public interest and maintain the integrity of the profession.
These principles help guide CPAs when attempting to solve an ethical dilemma and determining which values should take precedent.
A number of CPA firms have willingly chosen to settle lawsuits out of court ________ (a). This has ________ (b) effect on the profession as it ________ (c). This, in essence, ________ (d) the auditor’s liability because ________ (e).
a. in an attempt to minimize legal costs and avoid adverse publicity.
b. a negative
c. encourages others to sue CPA firms that otherwise would not.
d. increases
e. many firms will pay even though they do not believe they are liable.
John Brown is a PA, but not a partner, with three years of professional experience with Lyle and Lyle, Public Accountants, a one-office public accounting firm. He owns 25 shares of stock in an audit client of the firm, but he does not take part in the audit of the client, and the amount of stock is not material in relation to his total wealth.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Likely not a violation. Ownership by staff members (other than partners) not involved in the audit is acceptable.
In preparing the corporate tax returns for a client, Phyllis Allen, PA, observed that the deductions for contributions and interest were unusually large. When she asked the client for backup information to support the deductions, she was told, “Ask me no questions, and I will tell you no lies.” Phyllis completed the return on the basis of the information acquired from the client.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Violation. PA is associating themselves with information that they believe to be false or at least questionable.
A private entity audit client requested assistance of Kim Tanabe, PA, in the installation of a computer system for maintaining production records. Kim had no experience in this type of work and no knowledge of the client’s production records, so she obtained assistance from a computer consultant. The consultant is not in the practice of public accounting, but Kim is confident in her professional skills. Because of the highly technical nature of the work, Kim is not able to review the consultant’s work.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Violation. Acceptance of engagement implies PA has the competence to do the work, which is not the case here.
Five small Moncton public accounting firms have become involved with an information project by taking part in an inter-firm working paper review program. Under the program, each firm designates two partners to review the working papers, including the tax returns and the financial statements, of another public accounting firm taking part in the program. At the end of each review, the auditors who prepared the working papers and the reviewers have a conference to discuss the strengths and weaknesses of the audit. They do not obtain the authorization from the audit client before the review takes place.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Violation. PA firm did not obtain consent from client and did not notify them of work being done.
Bill Wendal, PA, set up a casualty and fire insurance agency to complement his auditing and tax services. He does not use his own name on anything pertaining to the insurance agency and has a highly competent manager, Renate Jones, who runs it. Bill frequently requests Renate to review, with the management of an audit client, the adequacy of the client’s insurance and if it seems underinsured. He feels that he provides a valuable service to clients by informing them when they are underinsured.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Violation. Appearance of independence impaired by PA’s financial dealing and involvement in a business that impairs objectivity.
Michelle Rankin, PA, provides tax services, management advisory services, and bookkeeping services, and conducts audits for the same private company client. She requires management to approve, in writing, transactions and journal entries. Because her firm is small, the same person frequently provides all the services.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
No violation of any rule as long as PA requires management approval and doesn’t initiate transactions on their own.
Gemi Tanjung, is a CPA student, enrolled in the CPA Professional Education Program (PEP). She is helping one of the senior managers at her firm to update the system of quality management. Part of the update involves developing standard templates, checklists, and forms. Gemi had worked at another firm and she had saved several of her former employer’s standard Excel and Word templates, checklists, and forms. She used those and provided nearly identical versions for her senior manager.
Determine if this scenario is a violation of the rules of conduct and provide an explanation for your answer.
Violation. Duty of confidentiality is being violated since consent was not obtained before using the documents.
Toni Kowalsky, partner: Toni and Zaspa’s CEO, Roger, run a local summer tennis camp together. Toni and Roger became friends when they both worked at Zaspa. Toni left her role as finance VP at Zaspa 18 months ago.
Familiarity
Yes; staff member may not be as objective as should be since due to friendship.
Staff member should not be involved with the Zaspa audit.
Patrick Sholer, senior manager: Patrick is a big tennis enthusiast and bought Zaspa tennis racquets for himself and his family.
Self-interest
No; purchase of client’s products do not appear to have a significant impact on independence.
Chris Washolc, manager: Chris worked in Zaspa’s internal audit department on review of payroll system controls, but left Zaspa two years ago.
Familiarity
No; did not hold a senior role at company and was not involved in controls over financial reporting.
Sam Rivers, audit senior. Sam owns 1000 shares in Zaspa, inherited from his father’s estate.
Self-interest
Yes; material investment in client could impact independence since staff could misstate financials.
Staff member should not be involved with the Zaspa audit.
Yolanda Ladna, audit senior. Yolanda plays on a semi-competitive volleyball team with four of Zaspa employees.
Familiarity
No; relationship does not appear to be any overt familiarity.
Anna Madras, audit junior. Anne’s father is a finance VP at Zaspa’s parent company, which is listed on the TSX.
Familiarity
Yes; but level of staff member shouldn’t threaten firm’s independence with safeguards in place.
