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ACC-423: Auditing > Test 2 > Flashcards

Test 2 Flashcards

1
Q

PROBLEM I: What are the two Purposes of Internal Controls?

A
  1. Assess risk of material misstatement in financial statements
  2. Design nature, extent, and timing (NET) of audit procedures
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2
Q

PROBLEM I: What are the Limitations of Internal Controls? (LIST 4)

A

COCOC
1. Competence (unintentional; human error; misunderstanding of instructions; mistakes of judgment; fatigue)

  1. Obsolescence (error; change in operating environment)
  2. Collusion (fraud; failure to use segregation of duties that causes two or more people to collude)
  3. Override by Management (fraud; e.g. bonus tied to performance, “cook the books” to get results)
  4. Cost vs Benefit Constraints (e.g. small company)
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3
Q

PROBLEM II: List and Describe the COSO Internal Control Components (“C”)

A

CRIME
1. Control Environment (“Tone at the Top;” auditor obtains a detailed understanding of Co’s internal controls; CHOPPER)

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4
Q

PROBLEM II: List and Describe the COSO Internal Control Components (“R”)

A

CRIME
2. Risk Assessment (affected by internal and external circumstances; e.g. changes in personnel, rapid growth of organization, corporate restructuring; expansion/acquisition of foreign operations)

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5
Q

PROBLEM II: List and Describe the COSO Internal Control Components (“I”)

A

CRIME
3. Information and Communication System (relating to AIS)

e.g. identify and record all valid transactions, ensure proper recording of transactions in appropriate time period, measure proper monetary value of transactions

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6
Q

PROBLEM II: List and Describe the COSO Internal Control Components (“M”)

A

CRIME
4. Monitoring (assess the quality of internal controls performance over time)

-Ongoing Monitoring (regularly performed supervisory and management activities)
-Separate Evaluations (non-routine basis)

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7
Q

PROBLEM II: List and Describe the COSO Internal Control Components (“E”)

A

CRIME
5. Existing Control Activities (policies and procedures; PIPS/ARCC)

-performance reviews, information processing (IT), physical controls, segregation of duties
-authorization of transactions, recording of transactions, custody and security

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8
Q

What is the difference between Attribute and Variable sampling?

A

Attribute = used to estimate the extent to which a characteristic exists within a population
-used in the auditor’s testing of INTERNAL CONTROLS)

Variable = used to estimate the amount (or value) of some characteristic of a population
-used in the auditor’s SUBSTANTIVE PROCEDURES

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9
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Auditors conclude that internal controls are functioning effectively when they are actually not (incorrect decision)

A

Attribute (Risk of Overreliance)

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10
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Audit risk is not reduced to sufficient level

A

Attribute (Risk of Overreliance)

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11
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Effectiveness loss

A

Attribute (Risk of Overreliance)

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12
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Auditors conclude that internal controls are not functioning effectively when they actually are (incorrect decision)

A

Attribute (Risk of Underreliance)

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13
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Perform more effective substantive procedures than necessary (efficiency loss)

A

Attribute (Risk of Underreliance)

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14
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Auditors concluded that the account is not materially misstated when it actually is

A

Variable (Risk of Incorrect Acceptance)

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15
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Issue incorrect opinion on misstated financial statements (effectiveness loss)

A

Variable (Risk of Incorrect Acceptance)

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16
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Auditors concluded that the account is misstated when it actually is not

A

Variable (Risk of Incorrect Rejection)

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17
Q

PROBLEM III (MATCHING): Is the following Attribute or Variable Sampling?

Perform more effective substantive procedures than necessary (efficiency loss)

A

Variable (Risk of Incorrect Rejection)

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18
Q

What is the audit risk formula?

A

AR = IR x CR x DR

Inherent and Control Risk x Detection Risk

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19
Q

In pre-engagement planning, what is a requirement of an auditor before communicating with predecessor auditors to accept the engagement?

A

Must get company management approval to be able to “attempt” to communicate with previous auditors

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20
Q

What is an Engagement Letter?

A

contract with the client to ensure a clear understanding of the services that the CPA provides

-objectives
-responsibilities of management
-inherent limitations of an audit
-applicable financial reporting framework
-expected form and content of reports issued
-the timing of procedures
-arrangements of fees and billing

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21
Q

What is the Audit Plan/Program?

A

REQUIRED comprehensive list of the specific audit procedures that the audit team needs to perform to gather sufficient appropriate evidence on which to BASE THEIR OPINION on the financial statements

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22
Q

What is Materiality?

A

amount at which judgment or decisions based on financial statements may be altered

-use professional judgment
-Quantitative ($ amount) - 3-5% of net income
-Qualitative

23
Q

What is Materiality used in?

A

-planning the audit (used as a guide)
-evaluating audit evidence (used as a guide)
-making decisions about the audit report (used as a guide)

24
Q

What is the purpose of Audit Procedures?

A
  1. gain an understanding of the client and risks associated with them
  2. test the OPERATING EFFECTIVENESS of client’s internal controls
  3. produce evidence about management’s assertions
25
Q

What are Tests of Controls and when are they used?

A

test the operating effectiveness of controls in preventing or detecting material misstatement

used at interim date = before/close to year-end)

26
Q

What are Substantive Procedures and when are they used?

A

designed to detect material misstatements of relevant assertions

used after year-end

27
Q

What are examples of Substantive Procedures?

A

-Inquiry
-Inspection of records or document (audit trail)
-Inspection of tangible assets
-Observation
-External conformation
-Recalculation
-Reperformance
-Analytical procedures

28
Q

What is Tracing?

A

from source document to G/L

tests COMPLETENESS

29
Q

What is Vouching?

A

from G/L to source document

tests EXISTENCE

30
Q

What is the primary purpose of Audit documentation?

A

represent that audit was performed in accordance with GAAS and expresses the auditors’ opinion

31
Q

How should the audit documentation be treated?

A

Confidential (NOT privileged)

32
Q

Who has ownership of the audit working papers?

A

the auditors (not the client)

33
Q

What is the audit documentation retention period for public companies? Private?

A

Public (issuers) = 7 years
Private (non-issuers) = 5 years

34
Q

When must audit documentation be completed for both public and nonpublic companies?

A

Public = 45 days
Private = 60 days

35
Q

What is Audit Risk?

A

the risk that the auditors may UNKNOWINGLY fail to appropriately modify their opinion on financial statements that are materially misstated

36
Q

What is Inherent Risk?

A

risk of material misstatement of an assertion BEFORE considering client’s internal controls

37
Q

Which transactions have higher inherent risk? Lower?

A

Routine = lower
Non-routine = higher
Estimation = higher

38
Q

What is Control Risk?

A

risk of material misstatement of a relevant assertion that is not prevented or detected by client’s internal controls

39
Q

What is Detection Risk?

A

risk that the auditors will fail to detect a material misstatement of a relevant financial statement assertion

40
Q

How is audit risk reduced?

A

Increasing scope of audit procedures by:
-selecting a more effective procedure
-performing procedures closer to balance sheet date
-increasing extent of tests

41
Q

What is the relationship between audit risk and audit tests?

A

Higher audit risk = increased substantive procedures
Lower audit risk = decreased substantive procedures

42
Q

What is Fraud Risk?

A

intentional distortions of financial statements by company’s management

43
Q

What can be done to determine Inherent Risk?

A

-nature of industry
-business structure
-development of technology
-plant tour
-major contracts
-code of conduct

44
Q

When is it required that analytical procedures be performed?

A

planning phase and also during substantive phase

45
Q

TRUE OR FALSE: Must management disclose any material weakness

A

TRUE

46
Q

What does SOX require auditors to report of a public company?

A

effectiveness of internal controls, which is conducted along with financial statement audit (INTEGRATED AUDIT)

47
Q

What are the objectives of COSO (“ACE”)

A

Accurate and reliable GAAP F/S
Compliance with laws and regulations
Effectiveness and efficiency of operations

48
Q

How are the client’s internal controls documented and understood? (“FIN”)

A

Flowcharts
Internal control questionnaires
Narrative

49
Q

If I/C is high, what about CR and DR, and what must happen regarding testing?

A

CR = low
DR = high

less substantive testing

50
Q

If I/C is low, what about CR and DR, and what must happen regarding testing?

A

CR = high
DR = low

more substantive testing

51
Q

What is a Management Letter?

A

provides input to client management for suggestions on internal controls, operational efficiencies, etc.

52
Q

What is Sampling?

A

process of making a statement about a population of interest by examining a subset of that population

53
Q

What causes sampling risk?

A

selecting a nonrepresentative sample

54
Q

What type of sampling do auditors use their judgment in determining sample size

A

nonstatistical sampling

ACC-423: Auditing (6 decks)

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