What you Should Know Flashcards
Why is an audit needed?
Info Hypothesis
Agency Theory
Insurance Hypothesis
Why is the audit needed?
Information Hypothesis
The auditor makes the information more reliable & therefore useful.
So auditors can make sense of what is going on.
Why is audit needed?
Agency Theory
Owners & providers of resources cannot trust management to act in their best interests.
Therefore they need an independent & expert agent (the auditor) to act on their behalf and monitor management and verify their reports.
Agency Theory - Auditors are the agents of the shareholders’
Why is audit needed?
Insurance Hypothesis
Users of audited accounts may be able to sue the auditor if they incur a loss.
(negligence & duty of care must be proven)
Audit Risk
The risk that the auditor expresses an inappropriate opinion when the financial statements are materially misstated.
Audit risk is a function of the risk of materially misstatement and detection risk.
Audit Risk Formula
Audit Risk = Inherent Risk x Control Risk x Detection Risk
What are the ethical principles?
Ethical Principles - Integrity - honest - Objectivity - not bias - Independence - free from conditions and relationships which where your independence could be compromised. Independence of Mind and Appearance
6 threats to ethical principles?
6 threats
- Self-interest threat - you allow your own interests influence your professional judgement
- Self-review threat - Accountants may not appropriately evaluate the results of a previous judgment made or service performed.
- Management Threats
Accountant will not be objective or independent because they have made judgement or taken decisions that are the responsibility of management - Advocacy Threat
Accountant could promote a client’s or employer’s position to the point that their objectivity is compromised - Familiarity Threat
Due to a long or close relationship with client or employer - you become sympathetic and too accepting - Intimidation threat
Management can be intimidating compromising your objectivity
Safeguards to Ethical Principles
Safeguards
- Education, training and experience requirements for entry
- Professional developments
- Corporate Governance Regulations
- Professional Standards
- External Review
What happens at each key stage from Engagement to reporting
Engagement - if you want to accept the client
Planning - Understanding the business - Audit strategy & plans
Interim audit including review of internal controls
Final Audit - When you are able to do your business sheet work
Reporting
Inherent Risk
The susceptibility of an assertion about a class of transactions, account balance, or disclosure to a misstatement that could be material, either individually or aggregated with other misstatements, before consideration of any related controls.
Control Risk
Lack of proper accounting controls
The risk a misstatements could occur in an assertion about a class of transactions, account balance, or disclosure that could be material, either individually or aggregated with other misstatements, will not be prevented, detected and corrected, in a timely basis by the entity’s internal control.
Detection Risk
Failure to detect risk
Business Process
Is a set of activities that helps a company achieve one more more of its objectives.
Business Risk
Is the chance that an event/action/inaction will stop or hinder a company from achieving one or more of its objectives.
Internal Controls
Are systems & procedures put in place by management to minimise risk and to ensure business processes work as intended.
What are the 5 Components of Internal Controls
- The control environment
- Risk Management
- Info Systems
- Control activities
- Monitoring & Responding
Internal Audit
An appraisal or monitoring activity established by management and the directors for the review of accounting and internal control systems as a service to the entity
Control Activities
5 of them
- Authorisation Controls
- Physical Controls
- Info Processing Controls
- Performance Reviews
- Segregation of Duties
Limitations to controls
5 of them
- Human Error
- Management override
- Collusion
- Unusal/infrequent transactions
- Obsolescence
What 5 Key Business Processes?
- Sales
- Purchasing
- Stock
- Payroll
- Fixed Assets
Sales Cycle - 6 phases
- Customer places order
- Ordered fulfilled and dispatched
- Customer invoiced for gods
- Customers pay for goods
- Goods Returned
- Credit note issued/refund given
Purchase Cycle - 6 phases
- Raise purchase order
- Receive goods
- Process purchase invoice
- Pay for goods
- Goods returned
- Credit note received/credit cancelled
Payroll Cycle - 4 Phases
- Engagement/termination
- Work measurement/time recored
- Calculation of payroll liability
- Payment
Stock Cycle - 5 phases
- Receipt stock
- Movement and manufacturing sock
- Holding Stock
- Issuance of Stock
- Valuation of Stock
Fixed Assets 4 phase
- All fixed assets identified
- All fixed assets accurately valued
- All disposals identified and valued
- Stewardship
Compliance Testing
Testing Internal Controls
To see whether the internal control systems are working properly
Compliance Tests Tests of Controls - What do effective controls ensure? - Auditors can rely on controls to reduce what? - When must controls work?
- Effective controls help ensure that accounting data are complete, valid and accurate
- Auditors can rely on controls to reduce audit risk and there tests of details
- Controls must work throughout the accounting period
- You are testing something clients should have done§
Compliance Tests
What do the tests involve
- Enquiry
- Observe of activities
- Inspecting source documents
- Re-performance
Substantive Testing
Test transaction and accounting balance
What does it evaluate?
To evaluate the completeness, accuracy and occurrence of data produced by the accounting system
Substantive Testing
what are the two types
The IAS leaves it up to the auditors. If they want to do both types or only one to reduce risk.
a. Specific Analytical Procedures
b. Testing of Details (test of transaction - income statement, test of balances - SOFP)
Why are substantive test (almost) always performed?
Auditors assessment is a judgement, it may not be sufficiently precise to identify all risk of material misstatement.
Testing of Details (F/S assertions)
Testing of Transactions and events
Orals Cunt Ate Camerons Cock Practically
Occurence
Completeness
Accurary
Cut-off - Accounted for in the correct accounting period
Classification - exist and have been recorded in the proper accounts
Presentation
Testing of Details (F/S assertions)
Testing of Balances
Assets, liabilities and equity interest
Eddie's Cunt Ate Camerons Penis Right
Existence Completeness Accuracy Classification Presentation Rights and obligations - entity holds or controls the rights to assets.
Methods of Obtaining Evidence
Observation - observe stock take
Re-performance - execute procedures for testing internal controls
Inspection - inspect invoices and compare with a purchase order
Inquiry - ask directors questions
External confirmation - obtain written documents from 3rd party
Re-calculation
Analytical procedures - compare last years results to the current period
What is sampling?
The application of audit procedure to less than 100% of items within an account balance or class of transactions to enable auditors to obtain & evaluate audit evidence about some characteristics of the item selected.
Auditors seek to provide a reasonable, not absolute opinion that the F/S’s are free from material misstatement.
What is sampling used for?
For tests of controls and/or substantive tests of transactions through a set of well-defined steps.
Auditors are interested in the occurrence of the following types of expectations in populations of accounting data:
a) deviations from the client’s established controls (compliance testing)
b) Monetary misstatements (substantive testing)
Audit Evidence
ISA 500 requires the auditor to obtain ‘sufficient appropriate audit evidence to be able to draw reasonable conclusions on which to base the audit opinion.’
What are the categories of audit evidence?
- Underlying accounting data
- Books of original entry
- Accounting manuals
- Corroborating Information
- Documents such as cheques, invoices
Appropriateness of audit evidence
What does appropriateness measure?
the quality or reliability of audit evidence and its relevance to a particular assertion.
What is auditor’s judgement on appropriateness of audit evidence influenced by?
Auditor’s judgement on the appropriateness of audit evidence is influenced by
- Risk
- Relevance
- Reliability
Sampling ISA 530
When designing an audit sample, the auditor shall consider the ______ of the _____ _________ and the ___________ of the _________.
The auditor shall determing the sample size __________ to ______ ________ ____ to an acceptably ___ ____.
The auditor shall select items for the sample in such a way that each ________ ___ in the __________ has a ______ of _________.
When designing an audit sample, the auditor shall consider the PURPOSE of the AUDIT PROCEDURE and the CHARACTERISTICS of the POPULATION.
The auditor shall determine the sample size SUFFICIENT to REDUCE SAMPLING RISK to an acceptably LOW RISK.
The auditor shall select items for the sample in such a way that each SAMPLING UNIT in the POPULATION has a CHANCE of SELECTION.
Sampling Risk
Audit draws the wrong conclusion about a population based on the sample.
Non-sampling risk
Human Error
- Wrong audit procedures
- Misinterpretation of results
- Reliance on wrong info
Tolerable Error
The maximum rate of deviation or misstatement in the population that the auditor will accept
Expected error
The expected rate of deviation or misstatement in the population that the auditor expected to find.
Stratified Sample
- The population is divided into what?
- A sample is selected for each ___.
Can be more efficient
- Sub-popultions
- A sample is selected for each one
- Can be more efficient
Sampling
What must you record and do if there is errors.
- Record any errors
- Extrapolate from the sample to the population using probability theory
- If tolerable error rate is breached - investigate!
3 examples of non-statistical sampling methods
- Judgemental sampling
- Haphazard Selection
- Black/cluster selection
What are the 7 points that happen at Audit Completion? Reece Ate Orals Sick Must Report Arthur
- Re-calculate misstatement and asses misstatement
- Assess going concern
- Overall analytical review of financial statements
- Subsequent Events
Management Re-representaion letters - Reports to management
- Audit report
Contingent Liability
- Slight change - no disclosure
- reasonably possible - disclosure in notes
- Probable to occur - Estimate if it can be
if not disclosure in notes`
A potential failure obligation to an outside part for an unknown amount resulting from actives that have already taken place
Commitment
A contractual undertaking
What is a Subsequent event?
An favourable or unfavourable event which occurs after the periodic end (or become known) and before the then of the F/S’s are issued.
