E-AUD Flashcards
The primary role of the auditor:
To provide an impartial assessment of the reliability of management’s financial statements.
PCAOB Still uses 10 Generally Acceptable Auditing Standards (GAAS)
AICPA replaced 10 GAAS standards with 7 Principles. The principles are not requirement and have NO autoritative status (intended to be helpful as a framework)
PCAOB Still uses 10 Generally Acceptable Auditing Standards (GAAS): TID-PIE-GCDO
General: personal - relate to qualities of an auditor 1 Training 2 Independence 3 Due Care Fieldwork Standards: evidence-gathering activities 1 Planning and Supervision 2 Internal Control 3 Evidence Reporting Standards: language required in audit report 1 GAAP 2 Consistency 3 Disclosure 4 Opinion
PCAOB Still uses 10 Generally Acceptable Auditing Standards (GAAS): General Standards TID
TID General: personal - relate to qualities of an auditor
1 Training- adequate technical training and proficiency
2 Independence-in mental attitude
3 Due Care-due professional care in performance of audit and preparation of the report
PCAOB Still uses 10 Generally Acceptable Auditing Standards (GAAS): Fieldwork Standards PIE
PIE Fieldwork Standards: evidence-gathering activities
1 Planning and Supervision-adequately plan, properly supervise
2 Internal Control-sufficient understanding of the entity, its environment, and internal controls
3 Evidence-sufficient appropriate evidence to afford a reasonable basis for an opinion
PCAOB Still uses 10 Generally Acceptable Auditing Standards (GAAS): Reporting Standards GCDO
GCDO Reporting Standards: language required in audit report
1 GAAP - must state explicitly whether the financial statements are presented in accordance with generally acceptable accounting principles
2 Consistency - must identify circumstances where principles were not consistently observed in the current period in relation to the preceding period
3 Disclosure - if informative disclosures not adequate, must state so in the report
4 Opinion - must express an regarding FS as a whole, OR state the an opinion cannot be expressed. If an overall opinion cannot be expressed, state the reasons why.
AICPA replaced 10 GAAS standards with 7 Principles. The principles are not requirement and have NO authoritative status (intended to be helpful as a framework) 4 Primary themes:
PR-PR 1 Purpose/Premise 2 Responsibility 3 Performance 4 Reporting
AICPA 7 Principles. 1 Purpose/Premise
Purpose/Premise - management and those charged with governance are responsible for:
1 Preparation and fair presentation of FS
2 Providing auditor with relevant information
AICPA 7 Principles. 2 Responsibility
Responsibility –> previous General Standard: characteristics of the auditor
1 Appropriate competence and capabilities; comply with relevant ethical reqs; maintain professional skepticism and exercise professional judgement
AICPA 7 Principles. 3 Performance
Performance –> previous Fieldwork Standard: evidence-gathering activities:
1 Obtain reasonable assurance that FS as a whole are free from material misstatements (either fraud or error)
2 Plan and properly supervise; determine apply appropriate materiality levels; identify and asses risk of material misstatements based on understanding of firms environment and internal controls; obtain sufficient appropriate evidence
3 Unable to obtain ABSOLUTE assurance that FC are free form material misstatements because of Inherent limitations: nature of financial reporting; nature of audit procedure; balance between benefit and cost (must complete audit in reasonable period of time)
AICPA 7 Principles. 4 Reporting
Reporting:
1 Express, in for of a written report, an opinion in accordance w/auditor’s findings; OR state that an opinion cannot be expressed. The opinion states whether the FS are presented fairly, in all material respects, in accordance with the applicable financial reporting framework.
The AICPA principle dealing with responsibilities includes the characteristics formerly associated with
the General Standards of GAAS.
The 7 principles adopted by the AICPA (to provide a framework for understanding an audit) are organized around 4 main themes:
PR-PR purpose/premise; responsibilities; performance; and reporting.
The AICPA principle dealing with performance includes those matters formerly associated with
the Fieldwork Standards of GAAS.
The AICPA principle on reporting requires the auditor’s report to explicitly refer to “accounting principles generally accepted in the United States of America.” T/F
F Applicable financial reporting fremework
AICPA professional standards identify 2 categories of professional requirements:
(1) unconditional requirements; and (2) presumptively mandatory requirements.
Unconditional requirements” are identified in AICPA professional standards with the word “should. T/F
F
A firm’s system of quality control need not apply to “compilation” engagements, since no assurance is given on such financial statements. T/F
F
Statements on Quality Control Standards are issued by
the AICPA’s Auditing Standards Board.
GAAS apply to each audit engagement individually, whereas the quality control standards apply to .
the collective portfolio of accounting and auditing services
The auditor’s “substantive procedures” consist of
(1) tests of details and
(2) analytical procedures.
“Tests of details” consist of
(1) tests of ending balances and
(2) tests of transactions.
A test of control is not a substantive auditing procedure. T/F
T
The “Auditor’s Responsibility” section of the auditor’s report consists of
3 separate paragraphs.
The auditor should identify the applicable financial reporting framework in
the opinion paragraph of the standard audit report.
A compilation conveys no assurance about the financial statements T/F
T
SSARSs apply when
the CPA has been engaged to review or compile the financial statements of a nonissuer.
SSAEs apply when
a CPA provides assurance on written representations or subject matter other than financial statements.
Before accepting an audit engagement, a successor auditor should make specific inquiries of the predecessor auditor regarding
(1) disagreements with management as to auditing procedures and accounting principles
(2) facts that might bear on the integrity of management (3) the predecessor’s understanding as to the reasons for the change of auditors.
The predecessor auditor has a professional obligation to allow an entity’s new auditor to review the predecessor’s audit documentation T/F
F
The engagement letter would typically refer to: 7
1 the objective of the audit; 2 management's responsibilities for the financial statements, for internal control over financial reporting, and for compliance with laws and regulations; 3 availability of financial records; 4 representation letter; 5 auditor's responsibilities; 6 components of an audit; and 7 correction of misstatements.
Engagement letter
is the contract between the auditor and the client. It sets forth the nature of the engagement, timing, anticipated completion dates, and client assistance to be rendered.
An auditor is required to establish an understanding with a client regarding the services to be performed for each engagement. This understanding generally includes:
1 the objective of the audit;
2 management’s responsibilities with regard to the financial statements, internal control, compliance with laws and regulations, availability of records, and the management representation letter;
3 the auditor’s responsibilities for GAAS and reportable conditions;
4 a description of an audit; and
5 management’s responsibilities regarding correction of material misstatements and evaluation of immaterial adjustments.
The terms overall audit strategy and audit plan mean the same thing and can be used interchangeably T/F
F
The engagement partner need not personally participate in the planning activities of an audit engagement T/F
F
Performance materiality
Performance materiality is largely established to help provide assurance that several immaterial misstatements do not combine to a material undetected amount of misstatement; accordingly, it ordinarily is established at a level lower than that of materiality for the financial statements.
Relationship between control risk and detection risk is ordinarily
Inverse
Audit risk is
the risk that auditor expresses an inappropriate audit opinion when the financial statements are misstated, and it is a function of the risks of material misstatement and detection risk.
The acceptable level of detection risk decreases, the assurance provided from substantive tests should
increase.
The acceptable level of detection risk decreases, the assurance provided from substantive tests should increase. To gain this increased assurance the auditors may:
(1) change the nature of substantive tests to more effective procedures (e.g., use independent parties outside the entity rather than those within the entity),
(2) change the timing of substantive tests (e.g., perform them at year-end rather than at an interim date), and
(3) change the extent of substantive tests (e.g., take a larger sample).
Detection risk is:
the risk that the auditor will not detect a material misstatement that exists in an assertion. Detection risk may be viewed in terms of two components
(1) the risk that analytical procedures and other relevant substantive tests would fail to detect misstatements equal to tolerable misstatement, and
(2) the allowable risk of incorrect acceptance for the substantive tests of details.
While assessing the risks of material misstatement auditors:
1 identify risks,
2 relate risk to what could go wrong,
3 consider the magnitude of risks and
4 Consider the likelihood that the risks could result in material misstatements
An objective of analytical procedures is
identification of unusual transactions and events, and amounts, ratios and trends that might indicate misstatements.
For all audits of financial statements made in accordance with generally accepted auditing standards, the use of analytical procedures is required to some extent for:
both the risk assessment and near completion of the audit, but not as a substantive procedure.
“Defalcation”
is another term for misstatements arising from misappropriation of assets, a major type of fraud.
What are two major types of fraud with which an audit is relevant.
Fraudulent financial reporting and
misappropriation of assets
AU-C 240 indicates that overall responses to the risk of material misstatements due to fraud include:
(1) assigning personnel with particular skills relating to the area and considering the necessary extent of supervision to the audit,
(2) increasing the consideration of management’s selection and application of accounting principles, and
(3) making audit procedures less predictable.
If specific information comes to an auditor’s attention that implies noncompliance with laws that could result in a material, but indirect effect on the financial statements, the auditor should next
apply audit procedures specifically designed to determine whether an illegal act has occurred
When the auditor detects a company’s illegal acts having a material effect on its financial statements, the auditor must first inform those charged with governance and then inform the applicable law enforcement authorities. T/F
F
An auditor may refer to a specialist when:
The report is being modified due to the specialist’s findings.
The auditor should establish performance materiality at less OR higher than materiality for the financial statements as a whole to allow for the possibility of uncorrected and undetected misstatements?
Less
performance materiality
Tolerable misstatement should be established at an amount that exceeds performance materiality?
NO Tolerable misstatement
All things being equal, increasing the sample sizes applicable to the auditor’s substantive procedures will decrease control risk T/F
F
All things being equal, increasing the auditor’s emphasis on substantive tests of details will increase the auditor’s detection risk. T/F
F
When control risk is perceived as relatively high, the auditor should compensate by lowering the level of inherent risk T/F
F
The “risk of material misstatement” refers to the combined risk that the auditor’s tests of details and substantive analytical procedures will fail to detect a material misstatement that exists T/F
F
The usefulness of analytical procedures depends primarily on:
1 the predictability of the relationship,
2 the precision of the expectation, and
3 the reliability of the underlying data used.
Substantive Audit Procedures:
Evidence-gathering procedures whose purpose is to detect material misstatements (substantiate=verify) verify FS elements
Substantive Audit Procedures: 2 types
1 Analytical Procedures: Evidence-gathering procedures that suggest reasonableness based on comparison to expectations of benchmarks (comparison, ratios)
2 Test of details: Evidence-gathering procedures of 2 types:
a) Test of ending balances (where the final bal is assessed by test individual cust. bal. that make up General Ledger AR control acct bal.)
b) Test of transactions (where the final bal is assessed by examining those DRs and CRs that make end bal. change from last audited statement)
Standard Unqulified Audit report: 3 sections; 9 sentences
A Introductory Paragraph - 3 sentences
B Scope Paragraph - 5 sentences
C Opinion Paragraph - 1 long sentence
Standard Unqulified Audit report: 3 sections; 9 sentences
A Introductory Paragraph - 3 sentences:
1. Identify the entity’s FS
2. Identify the Mngmt’s responsibilities
3. Identify the Auditor’s responsibilities
B Scope Paragraph - 5 sentences:
1. Audit conducted in accordance to GAAS
2. Audit provides reasonable assurance
3. Audit examines evidence on test basis
4. Audit includes assessing acct. principles used and significant estimates made
5. Audit provides a reasonable basis for opinion
C Opinion Paragraph - 1 long sentence
1. Express an opinion that the FS are fairly stated in conformity with GAAP (or other applicable Acct. framework)
Auditor’s report under AICPA’s Clarified Standards: 4 sections (term unqualified replaced with unmodified)
- (No label)identifies the nature of the engagement and FS involved - 1 sentence
- Management’s Responsibility for the FS - 1 sentence
- Auditor’s Responsibility - 3 separate paragraphs
- Opinion - 1 sentence
Auditor’s report under AICPA’s Clarified Standards: 4 sections (term unqualified replaced with unmodified)
- (No label)identifies the nature of the engagement and FS involved - 1 sentence
- Management’s Responsibility for the FS - 1 sentence
states the Mngmt is responsible for the fair presentation of the FS and the implementation of internal control - Auditor’s Responsibility - 3 separate paragraphs
- Opinion - 1 sentence: expresses the auditor’s opinion (same wording as that previous AICPA standard)
Third section Auditor’s Responsibility - 3 separate paragraphs
First - 3 sentences:
1. Responsibility to express an opinion
2. Conduct the audit in accordance with GAAS
3. Plan and perform the audit to provide reasonable assurance
Second- 5 sentences:
1. Perform procedures to obtain audit evidence about the amount and disclosures
2.The procedures depend on the auditor’s judgement, including assessment of risk of material misstatements, whether due to fraud or error
3. In making those risk assessments, the auditor considers internal control
4. The auditor expresses no such opinion (on internal control, when not engaged to report on internal control in an integrated audit)
5. An audit includes evaluating the appropriateness of Acct. policies used and the reasonableness of significant Acct. estimates
Third- 1 sentences:
1. expressing the auditor’s belief that the audit evidence is sufficient and appropriate to provide a basis for the opinion
According to AICPA professional standards, when material fraud is discovered, the auditor should withdraw from the engagement. T/F
F
To obtain information needed to identify the risks of material fraud, the auditor must perform tests of controls to evaluate the operating effectiveness of relevant internal controls. T/F
F
When a specialist is engaged to assist the auditor with technical measurement or valuation issues, the auditor should modify the unmodified audit report to describe the specialist’s participation T/F
F
AU-C 315 states that the auditor should obtain sufficient knowledge of the information (including accounting) system to:
understand the financial reporting process used to prepare the entity’s financial statements, including significant accounting estimates and disclosures. It also states that this knowledge is obtained to help the auditor to understand (1) the entity’s classes of transactions, (2) how transactions are initiated, (3) the accounting records and support, and (4) the accounting processing involved from initiation of a transaction to its inclusion in the financial statements
An auditor may document his/her understanding of the structure and his/her conclusions about the design of that structure in the form of:
1 answers to a questionnaire, 2 narrative memorandums, 3 flowcharts, 4 decision tables, or any other form that the auditor considers appropriate in the circumstances.
walk-through
A procedure that involves tracing a transaction from its origination through the company’s information systems until it is reflected in the company’s financial report
Tests of controls (for nonpublic company - nonissuer) are only required when:
the auditor relies on the controls or
substantive tests alone are not sufficient to audit particular assertions.
In a highly automated information processing system tests of control May be required in some circumstances. Why?
In some such circumstances substantive tests alone will not be sufficient to restrict detection risk to an acceptable level.
In obtaining an understanding of an entity’s internal control, an auditor is required to obtain knowledge about the
Operating effectiveness
of controls Design of
controls
No Yes
In obtaining an understanding of internal control, the auditor should perform procedures to provide sufficient knowledge of the design of the relevant controls and whether they have been implemented. Information on operating effectiveness need not be obtained unless control risk is to be assessed at a level below the maximum.
Tests of controls will be performed when:
they are expected to result in a cost effective reduction in planned substantive tests.
Control risk should be assessed in terms of
AU-C 315 requires that control risk be assessed in terms of financial statement assertions.
To obtain audit evidence about control risk, an auditor selects tests from a variety of techniques including:
Auditors test controls to provide evidence for their assessment of control risk through:
1 inquiries of appropriate personnel,
2 inspection of documents and records,
3 observation of the application of controls, and
4 reperformance of the application of the policy or procedure.
Which of the following is least likely to be considered a risk assessment procedure?
A. Analytical procedures.
B. Confirmation of ending accounts receivable.
C. Inspection of documents.
D. Observation of the performance of certain accounting procedures.
B Confirmation is a substantive test, rather than a risk assessment procedure.
An auditor may compensate for a weakness in internal control by increasing the
A. Level of detection risk.
B. Extent of tests of controls.
C. Preliminary judgment about audit risk.
D. Extent of analytical procedures.
D Increasing analytical procedures decreases detection risk in a manner which may counterbalance the condition in internal control. In effect, the weakness in internal control is compensated for by increased substantive testing. See the outline of AU-C 200 for the relationships among audit risk and its component risks—inherent risk, control risk, and detection risk.
A control deficiency is a condition in which:
the operation of a control does not allow management, or employees, in the normal course of performing their functions to prevent or detect misstatements on a timely basis—it does not explicitly consider likelihood of loss.
A compensating control is:
a control that lessens the severity of a deficiency (AU-C 265).
A material weakness is determined by:
whether there is more than a remote likelihood of a material loss occurring due to the control deficiency; the actual loss identified need not be material.
Which of the following is an accurate statement about internal control weaknesses?
A. Material weaknesses are also control deficiencies.
All material weaknesses are control deficiencies. BUT
Significant deficiencies are NOT also material weaknesses.
Control deficiencies are NOT also material weaknesses.
A control deficiency that is more than a significant deficiency is most likely to result in what form of audit opinion relating to internal control?
A. Adverse.
B. Qualified.
C. Unqualified.
D. Unqualified with explanatory language.
A) A control deficiency that is more than a significant deficiency is a material weakness, and because a material weakness leads to an adverse opinion on internal control.
AU-C 610 requires that judgments must always be those of the independent auditor for:
1 Assessments of inherent risk
2 Assessments of control risk
3 judgments about the materiality of misstatements,
4 the sufficiency of tests performed,
5 the valuation of significant accounting estimates, and
6 other matters affecting the auditor’s report
Proper segregation of functional responsibilities calls for separation of the functions of
Authorization, recording, and custody.
An auditor most likely would limit substantive audit tests of sales transactions when control risk is assessed as low for the occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting
A. Opening and closing inventory balances.
B. Cash receipts and accounts receivable.
C. Shipping and receiving activities.
D. Cutoffs of sales and purchases.
B. Cash receipts and accounts receivable.
An auditor may analyze the completeness of sales using cash receipts and accounts receivable (for example, an auditor may add year-end receivables to cash receipts and subtract beginning receivables to obtain an estimate of sales).
The completeness assertion deals with:.
whether all transactions have been included in the proper period.
An auditor usually examines receiving reports to support entries in the
A. Voucher register and sales returns journal.
B. Sales journal and sales returns journal.
C. Voucher register and sales journal.
D. Check register and sales journal.
A. Voucher register and sales returns journal.
Receiving reports will be prepared when
1 goods are received through purchase (as recorded in the voucher register) and when
2 goods are received through sales returns (as recorded in the sales returns journal).
These custody functions should not be performed by the payroll department which is a recordkeeping function. Under proper internal control recordkeeping, custody, and authorization of transactions should be segregated.
These custody functions should not be performed by the payroll department which is a recordkeeping function. Under proper internal control recordkeeping, custody, and authorization of transactions should be segregated.
Alpha Company uses its sales invoices for posting perpetual inventory records. Inadequate controls over the invoicing function allow goods to be shipped that are not invoiced. The inadequate controls could cause an
A. Understatement of revenues, receivables, and inventory.
B. Overstatement of revenues and receivables, and an understatement of inventory.
C. Understatement of revenues and receivables, and an overstatement of inventory.
D. Overstatement of revenues, receivables, and inventory.
C. Understatement of revenues and receivables, Items shipped without invoicing will result in a situation in which the accounting department is unaware of the sale. Therefore, debits to accounts receivable and credits to sales will not be recorded, resulting in an understatement of both revenues and receivables. Similarly, because accounting is unaware of the sale, no entry to reduce inventory will be made, resulting in an overstatement of inventory.
Substantive procedures are defined as:
tests of transactions,
direct tests of financial balances, or
analytical procedures.
To determine whether transactions have been recorded the auditor will test from:
the original source documents to the recorded entries.
In creating lead schedules for an audit engagement, a CPA often uses automated workpaper software. What client information is needed to begin this process?
Lead schedules include information such as account numbers, prior year account balances, and current year unadjusted information.
AU-C 230 states that the degree of documentation for a particular audit area should be affected by:
(1) the risk of material misstatement,
(2) extent of judgment,
(3) nature of the auditing procedures,
(4) significance of the evidence obtained,
(5) nature and extent of the exceptions identified, and
(6) the need to document a conclusion that is not obvious from the documentation of the work.
An advantage of preparing flow charts of transaction cycles relative to using internal control questionnaires is that
the flow charts are tailored to client-specific circumstances
A disadvantage of preparing written memoranda relative to using flow charts to document the auditor’s understanding of internal control is that such memoranda may be more difficult for supervisors to review. T/F
F
Detection risk is effectively set by the auditor when
decisions about the nature, timing, and extent of substantive audit procedures are made.
3 objectives in the definition of internal control
- reliability of financial reporting,
- the effectiveness and efficiency of operations, and
- the compliance with applicable laws and regulations
