Chapter 4 - Audit Responsibilities and Objectives Flashcards
What is the objective of conducting and audit of financial statements?
To express an opinion on whether the financial statements are both free from material misstatement, and presented fairly in conformity with an applicable financial reporting framework.
What are the 3 responsibilities of management?
- Adopt sound and appropriate accounting policies
- Implement and maintain adequate internal controls
- Provide fair representations in the financial statements
It is management’s responsibility to provide the auditor with the following 3 things:
- Access to all information that is relevant to the preparation of the financial statements such as records, documentation, and other matters
- Any additional information that the auditor may request
- Unrestricted access to persons within the entity from whom the auditor determines it necessary to obtain audit evidence.
Who would be considered “those charged with governance” in a public company vs. a private company?
Public company: the audit committee
Private company: the board of directors
What are the responsibilities of those charged with governance? (2)
- The oversight of management and the financial statement audit
- Approving the audited financial statements
What are the two main responsibilities of auditors?
- Provide reasonable (not absolute) assurance that financial statements are free from material misstatements
- To report on the financial statements, and communicate as required by the CASs, in accordance with the auditor’s findings.
When are misstatements considered material?
Misstatements are usually considered material if the combined uncorrected errors and fraud in the financial statements would likely have changed or influenced the decisions of a reasonable person using the statements.
What is the difference between errors and fraud?
Errors are UNINTENTIONAL misstatements.
Fraud and other irregularities are INTENTIONAL misstatements.
What are the two types of fraud?
- Misappropriation of assets
2. Fraudulent financial reporting
What is fraudulent financial reporting? How does it harm financial statement users? Who usually commits it? Give an example.
Fraudulent financial reporting is the intentional misstatement or omission of amounts or disclosures in financial statements to deceive users.
Harms users by providing them with incorrect financial statement information for their decision making.
Usually committed by MANAGEMENT.
Example: The intentional overstatement of sales near the balance sheet date to increase reported earnings
What is misappropriation of assets? How does it harm financial statement users? Who usually commits it? Give an example.
Misappropriation of assets (defalcation) is the theft of an entity’s assets.
When assets are misappropriated, stockholders, creditors, and others are harmed because assets are no longer available to their rightful owners.
Usually committed by EMPLOYEES.
Example: A clerk taking cash at the time a sale is made and not entering the sale in the cash register
What is professional skepticism?
A questioning mind and a critical examination of evidence.
The appropriate level of professional skepticism varies depending upon the risks of the particular situation.
What are judgement traps?
Common systematic judgement tendencies and biases that can impede the quality of the professional judgement process
What is confirmation bias and how can you avoid it?
Confirmation Bias – the auditor’s potential to put more weigh on information that is consistent with their initial beliefs or preferences
How to avoid: Consider alternative explanations
What is overconfidence bias and how can you avoid it?
Overconfidence Bias – the potential for the auditor to overestimate his or her own ability to perform tasks or to make accurate risk assessments.
How to avoid: Challenge opinions and experts
What is anchoring and how can you avoid it?
Anchoring – when the auditor is “anchored” by the initial numerical number and not adjusting sufficiently when forming a final judgement.
How to avoid: Solicit input from others
What is the availability judgment trap and how can you avoid it?
Availability – can cause auditors to estimate or forecast the likelihood of an event based on how easily they can recall an example or instance of that event.
E.g., although there is much discussion of fraudulent financial statements, for most auditors this is a rare event – do not have a vivid fraud client experience to draw upon and can potentially miss fraud when they come across it
How to avoid: consult with others, obtain objective data
What is the cycle approach to segmenting an audit?
A method of dividing an audit by keeping closely related types of transactions and account balances in the same segment
What are the 5 basic cycles?
RAPIC
- Revenue and collection
- Acquisitions and payments
- Payroll and human resources
- Inventory and distribution
- Capital acquisition and repayment
What are management assertions?
Management assertions are implied or expressed representations by management about:
(1) classes of transactions
(2) related account balances
(3) classification, presentation, or disclosures in the financial statements
What are transaction-related audit objectives?
Transaction-related audit objectives are audit objectives that must be met before the auditor can conclude that the total for any given class of transactions is fairly stated.
Describe the 6 management assertions about ACCOUNT BALANCES that must be met:
- Existence
- Rights and Obligations
- Completeness
- Accuracy, valuation and allocation
- Classification
- Presentation
(i) Existence — assets, liabilities, and equity interests exist.
(ii) Rights and Obligations — the entity holds or controls the rights to assets, and liabilities are the obligations of the entity.
(iii) Completeness — all assets, liabilities and equity interests that should have been recorded have been recorded, and all related disclosures that should have been included in the financial statements have been included.
(iv) Accuracy, valuation and allocation — assets, liabilities and equity interests have been included in the financial statements at appropriate amounts and any resulting valuation or allocation adjustments have been appropriately recorded, and related disclosures have been appropriately measured and described.
(v) Classification— assets, liabilities and equity interests have been recorded in the proper accounts.
(vi) Presentation — assets, liabilities and equity interests are appropriately aggregated or disaggregated and clearly described, and related disclosures are relevant and understandable in the context of the requirements of the applicable financial reporting framework.
Describe the 6 management assertions about CLASSES OF TRANSACTIONS that must be met:
- Occurrence
- Completeness
- Accuracy
- Cutoff
- Classification
- Presentation
(i) Occurrence — transactions and events that have been recorded or disclosed, have occurred and such transactions and events pertain to the entity.
(ii) Completeness — all transactions and events that should have been recorded have been recorded, and all related disclosures that should have been included in the financial statements have been included.
(iii) Accuracy — amounts and other data relating to recorded transactions and events have been recorded appropriately, and related disclosures, have been appropriately measured and described.
(iv) Cutoff — transactions and events have been recorded in the correct accounting period.
(v) Classification— transactions and events have been recorded in the proper accounts.
(vi) Presentation — transactions and events are appropriately aggregated or disaggregated and clearly described, and related disclosures are relevant and understandable in the context of the requirements of the applicable financial reporting framework.
How do auditors meet the audit objectives?
The auditor must obtain sufficient appropriate audit evidence to support all management assertions in the financial statements by accumulating evidence in support of some appropriate combination of transaction-related and balance-related audit objectives.
