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AUD > Planning > Flashcards

Planning Flashcards

1
Q

When should a client preferably appoint an independent auditor?

A

Well before year-end, to give him time to analyze everything

Otherwise, it might cause him to give a lesser opinion

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2
Q

What are some examples of management’s responsibilities as mentioned in an engagement letter?

A
  • financials and accounting policies
  • protection from fraud
  • internal controls
  • making financial info available to auditor
  • correcting material misstatements
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3
Q

As mentioned in the engagement letter, what is one important thing an audit is not designed to do?

A

Search for significant deficiencies in internal control (although the auditor should report any that he finds)

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4
Q

What is optional to be included in an engagement letter?

A

Audit strategies, fees, additional services to be provided, etc.

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5
Q

What planning procedures should be done at the beginning of the engagement?

A
  • procedures for continuing the client relationship and for the particular engagement
  • analyzing the client’s compliance with ethical rules
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6
Q

What are some important things to consider for an overall audit strategy?

A
  • factors that determine scope (e.g. basis of accounting, industry)
  • deadlines
  • factors that determine focus (e.g. areas with higher RMM)
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7
Q

What does the auditor develop after specifying an audit strategy (i.e. auditing objectives)?

A

An audit plan (i.e. audit programs)

Plan and strategy can overlap and can change one another

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8
Q

What is the purpose of an audit plan?

A

To map out audit procedures designed to reduce audit risk

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9
Q

What procedures should be included in an audit plan?

A

Risk assessment procedures (determine RMM)

Further procedures following from these, including tests of controls and substantive procedures

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10
Q

What should the auditor consider regarding involving a specialist?

A

Whether:

  • it is necessary (especially for IT specialists)
  • he will officially be part of the audit team
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11
Q

What is the auditor required to do when supervising assistants?

A

Communicate with them about objectives, questions, MM, etc.

Review their work

Resolve disagreements

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12
Q

When is a misstatement considered material?

A

If it would affect the judgment of a reasonable person relying on the financials

Factors can be quantitative or qualitative

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13
Q

What are the two types of misstatements?

A

Known - actually found during the audit

Likely - based on an extrapolation of audit evidence (but also includes info based on accounting estimates the auditor deems unreasonable)

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14
Q

What are the causes of misstatements?

A

Errors or fraud

Auditor should report fraud even if immaterial

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15
Q

What are two kinds of fraud?

A

Fraudulent financial reporting

Misappropriation of assets (theft)

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16
Q

What are two financial-statement-level considerations an auditor should make in determining audit risk and materiality level?

A

Pervasive risks (not strictly identifiable with particular assertions)

Whether to perform audit procedures at different locations

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17
Q

What is the relationship between audit risk and materiality at the individual account level?

A

Inverse

E.g., risk of large misstatement is generally lower

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18
Q

What would generally be required to reduce audit risk?

A
  • more effective auditing procedure
  • greater extent of procedure
  • perform procedure closer to year-end

These are: nature, extent, and timing

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19
Q

Should auditors have procedures to detect qualitatively material misstatements?

A

No, as it is impractical

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20
Q

What are the two components of RMM?

A

Inherent Risk (IR) and Control Risk (CR)

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21
Q

What is inherent risk?

A

Vulnerability of an assertion to misstatement by its nature, or irrespective of controls

E.g. cash can be stolen, complex calculations and difficult estimates can be wrong

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22
Q

What is control risk?

A

Vulnerability of an assertion to misstatement due to a control not preventing it

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23
Q

What is detection risk (DR)?

A

Risk that the auditor will not detect a material misstatement that exists

Relates to substantive procedures

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24
Q

What are the two components of detection risk (DR)?

A
  • Tests of Details (TD) Risk
  • Analytical Procedures (AP) Risk

These are the risks when doing the two different kinds of substantive tests

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25
Q

What is the “formula” for audit risk (AR)?

A

AR = RMM x DR
or
AR = IR x CR x DR

DR = TD x AP

These are all judgments, not strict mathematical formulas

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26
Q

How is detection risk (DR) related to the RMM?

A

They are inversely related

E.g. if RMM is high, and the auditor wants a given audit risk (AR), then he should decrease DR by planning more auditing

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27
Q

What is the main difference between RMM and DR?

A

RMM is the risk within the company itself, which the auditor analyzes but cannot change

DR is the risk within the audit procedures, so the auditor can control it

28
Q

How does the amount of substantive testing relate to DR?

A

Inversely

E.g. if the auditor decreases the level of acceptable DR, then more substantive testing is required

29
Q

When should an auditor perform substantive procedures for all relevant assertions?

A

Always, regardless of the level of DR desired

30
Q

How are benchmarks used in assessing materiality?

A

Auditor can pick out a measure suitable for the client, and use a % as a reference – though not a strict rule

E.g. net assets for an investment company, or total revenues, or gross profit

31
Q

How might the auditor determine the percentage of a benchmark for materiality?

A
  • prior period numbers
  • period-to-date numbers
  • budgets or forecasts
32
Q

What is a tolerable misstatement?

A

The maximum amount of permissible misstatement for a given account or transaction-group

Usually set lower than the materiality level, in order to prevent an aggregate material misstatement for the whole financials

33
Q

What should the auditor do if discovered misstatements in aggregate are near the materiality level?

A

He should determine the risk that undetected misstatements could cause the aggregate to exceed the materiality level

34
Q

What must an auditor do if he discovers material misstatements?

A

Speak of them to management and TCWG

35
Q

What should an auditor request of management if he discovers a likely misstatement?

A

Depending on the type of likely misstatement, he should request mgmt:

  • to analyze the whole population and make additional corrections
  • to re-analyze assumptions for estimates
  • to determine the amount of a misstatement that is likely to exist
36
Q

What should an auditor look for when analyzing individual misstatements?

A
  • whether misstatements might offset each other

- whether prior-period misstatements might have been immaterial but have a material effect

37
Q

What are some factors involved in the qualitative evaluation of misstatements?

A
  • changing a loss into income
  • effect of misstatement on compensation or bonus
  • effect on loan covenant arrangement
  • legal requirements
  • implications of fraud
  • relevance to user needs
38
Q

What are inquiries?

A

Risk assessment procedures that involve requesting info from management and others

39
Q

What are analytics?

A

A risk assessment procedure that assesses ratios and other relationships

Ratios/relationships should be predicted first, so that deviant numbers are easier to identify

40
Q

What are other risk assessment procedures besides inquiries and analytics?

A

Observation and inspection

Prior period info

Fraud risk

41
Q

What are the different areas about the entity and its environment that the auditor should understand?

A

(1) Industry, regulatory, and external factors
(2) Nature of entity (e.g. governance, structure, financing, subsidiaries)
(3) Strategies and business risks (i.e. how the entity responds to external factors)
(4) Financial performance (esp. pressure on mgmt)
(5) Internal control

42
Q

What should the auditor document regarding the discussion of RMM in the financials?

A
  • how and when the discussion occurred
  • what was discussed
  • who discussed it
  • what was decided in response
  • sources of info
  • procedures performed
43
Q

What is the difference between a user organization and a service organization?

A

If an entity uses another organization to process transactions, the former is the user org. and the latter the service org.

Guidance for auditing these entities is in AU 324

44
Q

How independent should a service auditor be?

A

Should be independent of service organization, but not necessarily of users

45
Q

For a service audit, how are the type of engagement and type of report determined?

A

Determined by the service organization

46
Q

What are the two different kinds of reports that can be prepared by a service auditor?

A

Report on Controls Placed in Operation - determines whether controls are properly designed and implemented as of a given date

Reports on Controls Placed in Operation and Tests of Operating Effectiveness - like the above, but also tests whether controls provide reasonable assurance of effectiveness

47
Q

When are a service organization’s services considered part of the user’s information system?

A

If they affect:

  • how transactions begin or are processed
  • accounting records
  • how financial statements are prepared
48
Q

How should the user auditor utilize the service auditor’s report on the service organization?

A

He should consider the service auditor’s reputation and the report’s quality and request additional procedures if necessary

The user auditor should not reference the service auditor’s report in his own opinion on the user’s financials

49
Q

Do auditors make legal determinations of whether fraud has occurred?

A

No, they are concerned foremost with material misstatement

50
Q

What is a primary area of concern for detecting fraudulent financial reporting?

A

Revenue – can be overstated or understated

51
Q

What is another term for misappropriation of assets (i.e. theft)?

A

Defalcation

52
Q

What are the three conditions conducive to fraud?

A

Incentive (pressure)

Opportunity

Attitude (rationalization)

53
Q

How should an auditor respond to a significant RMM for fraud?

A

Assign skilled personnel

Look closely at accounting principles and estimates selected by mgmt

Have some unpredictability in auditing procedures

54
Q

What are some further audit procedures that address possible fraud through management’s override of controls?

A

Examining journal entries, accounting estimates, and unusual transactions

55
Q

Is the auditor ordinarily allowed to disclose possible fraud to outside parties?

A

No, as client confidentiality forbids it

But there are exceptions (e.g. if legally required, successor auditor, subpoena)

56
Q

How does the RMM affect the timing of audit procedures?

A

Generally, for a higher risk, procedures should be performed nearer to period-end

Unpredictability helps too

57
Q

What does not count as an illegal act for auditing purposes?

A

Illegal activities done by personnel unrelated to the business’s activities

58
Q

What is the auditor’s main responsibility concerning illegal acts?

A

To discover the direct and material effect of illegal acts on the financials (same as for fraud)

Illegal acts with indirect effects are less important

59
Q

How might illegal acts have an indirect effect on financial statements?

A

Usually, if there is some violation of a regulation of the entity’s operations (e.g. OSHA, FDA), then the effect is indirect

Indirect effects are usually contingent liabilities because of some penalty

60
Q

Does a GAAS audit typically include procedures designed to discover illegal acts?

A

No

They do not provide any assurance that illegal acts or their contingent liabilities will be discovered

61
Q

What should the auditor do if he discovers an illegal act with a material effect on the financial statements, but the client has not accounted for it properly?

A

Express either a qualified or adverse opinion

62
Q

What 1995 legislation affects audits?

A

Private Securities Litigation Reform Act of 1995

Requires auditors to plan procedures that:

  • detect illegal acts with a direct and material effect
  • identify related-party transactions with a material effect
  • discern an issuer’s ability to be a going concern
63
Q

What does the Private Securities Litigation Reform Act of 1995 require entities to do if an auditor notifies them of illegal activity?

A

Report it to the SEC within one business day

If not, then the auditor should do so and/or withdraw

64
Q

What 1977 legislation affects audits?

A

Foreign Corrupt Practices Act of 1977 (FCPA)

Forbids U.S. persons and foreign persons operating in the U.S. (and companies) from bribing foreign gov’ts

65
Q

Who is generally included in “those charged with governance” (TCWG)?

A

Board of directors and audit committee

66
Q

What should the auditor communicate to TCWG?

A
  • Opinion
  • Responsibilities of TCWG
  • Issues related to independence
  • Overview of audit
  • Significant discoveries
  • Discussions with management
67
Q

How should the auditor document communications with TCWG?

A

If in writing, he should retain them as such

If orally, he should document them

AUD (20 decks)

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