AUD Flashcards
(120 cards)
1
Q
List the 3 attestation engagement types, from least to most assurance.
A
- Compilation
- Review
- Audit
2
Q
What are 2 things the accountant does during a review engagement? What are 2 things NOT done during a review?
A
Review includes: Internal inquiry & analytical procedures
Does NOT include: Assess risk of material misstatement due to fraud & assess deficiencies in design/implementation of internal control
3
Q
What non-audit service can a CPA offer their client contemporaneous with the audit engagement?
A
Tax services.
NOT allowed: Bookeeping, financial information system design, internal audit outsourcing, actuarial services, management or HR, appraisal or valuation services
4
Q
Name 3 requirements that the SEC imposes on public companies to strengthen auditor independence.
A
- Issuers (the company) must report the nature of disagreements with former auditors.
- Issuers must select auditors through audit committees.
- Management (especially CEO & CFO) must acknowledge their responsibility for the fairness of the financial statements, within 90 days prior to auditor’s report.
5
Q
Name 3 acts that the PCAOB says impairs independence of a CPA firm.
A
- Providing service to client for contingent fee or commission.
- Providing marketing, planning, or opining in favor of a confidential transaction
- Providing tax service to a person in a financial reporting oversight role at audit client.
6
Q
Name the 7 types of threats that impair an auditor team member’s independence.
A
- Adverse interest threat
- Advocacy threat
- Familiarity threat
- Management participation threat
- Self-interest threat
- Self-review threat
- Undue influence threat
7
Q
Name the 3 types of safeguards.
A
- Created by the profession or law
- Created by the attest client
- Created by the accounting firm
8
Q
Name the AICPA’s 6 principles of professional conduct.
A
- Responsibilities principle
- Public interest principle
- Integrity principle
- Objectivity and independence principle
- Due care principle
- Scope and nature of services principle
9
Q
What is the auditor’s overall objective when performing an audit?
A
Obtain reasonable assurance that the financial statements are free from material misstatement, and then express an opinion in a report communicating the auditor’s findings.
10
Q
Name 3 pre-conditions an auditor should consider before accepting an engagement.
A
- Management uses acceptable financial reporting framework.
- Management accepts responsibility for fair presentation of financial statements, implementation of internal controls, and providing auditor with access to necessary information.
- Management grants permission to speak with predecessor auditor.
11
Q
What are 3 things an auditor does NOT need to include in their report in the event of change of type of engagement?
A
If there is a change in type of engagement, the auditor report does NOT need to:
- Refer to scope limitation that caused the change.
- Describe the auditing procedures that have already been applied.
- Reference the original engagement at all.
The only item necessary is a paragraph in auditor’s report is a paragraph disclosing the change in engagement scope.
12
Q
Name 5 items that must be included in the audit engagement letter.
A
Engagement letter MUST include:
- Objective and scope of audit of financial statements
- Responsibilities of auditor and management, respectively
- Disclaimer statement about inherent limitations of an audit
- Applicable financial reporting framework used
- Expected form/content of reports issued by auditor
Optional: Request for signature, basis of fees/billing, use of any outside specialists, any arrangements regarding planning/performance of audit, composition of audit team
13
Q
Name 7 examples of audit documentation (NOT to be confused with audit evidence itself).
A
- Audit plans
- Analyses
- Issues memorandums
- Summaries of significant findings or issues
- Letters of confirmation and representation
- Checklists
- Correspondences (including email) concerning significant finds or issues
Note: While financial statements are property of client, audit documentation and workpapers are property of auditor. Audit documentation does not ever have to be shown to client, but auditor needs to have assembled their audit file containing all audit documentation within 45 days after report release date, retained for 7 years.
14
Q
Name 5 items that comprise the overview an auditor should provide to those charged with governance.
A
- Planned scope and timing of audit
- How auditor proposes to address significant RMM
- Auditor’s approach to assess internal control
- Application of materiality in context of the audit
- How auditor may leverage client’s internal audit function
Should NOT disclose: Details of the procedures that auditor intends to apply
15
Q
Name 3 items that should be included when an auditor communicates in writing to those charged with governance.
A
- Definition of the term “material weakness” or “significant deficiency”
- A description of any MW identified and their potential effects
- Any further necessary contextual information or disclaimers
16
Q
Name 3 other matters that MUST be communicated to those charged with governance.
A
- The auditor’s responsibilities with regard to the financial statement audit
- Significant findings or issues from the audit
- Uncorrected misstatements
17
Q
Name 6 elements of a system of quality control.
A
The purpose of quality control is first and foremost to preserve independence, by ensuring that the auditing firm and its personnel comply with professional standards and act appropriately in the circumstances.
Elements of a system of quality control:
1. Leadership responsibilities for quality within the firm (the tone at the top)
2. Relevant ethical requirements
3. Acceptance and continuance of client relationships and specific engagements
4. Human resources
5. Engagement performance
6. Monitoring
18
Q
List the 12 parts of the auditor’s report.
A
- Title
- Address
- Service type
- What auditor worked on
- Date of service
- Responsibilities of parties
- Professional standards followed
- Description of procedures
- Conclusion
- Inherent limitations
- Restrictions on distribution
- Date and signature
19
Q
List the 5 conditions that must be met in order to issue an unmodified/unqualified audit report.
A
- Financial statements are presented fairly in all material respects
- All required financial statements were evaluated
- Auditor acquired sufficient evidence to base their opinion
- Statements in conformity with GAAP, and adequate disclosures included
- No explanatory language is required
20
Q
List the 3 other types of reports aside from unmodified/unqualified opinion.
A
- Qualified: Except where qualification is indicated, the financial statements are presented fairly.
- Disclaimer: Auditor does not express an opinion on financial statements.
- Advserse: Financial statements do not present fairly the financial position
21
Q
Describe the 2 conditions that result in a qualified opinion.
A
Qualified opinion can result from:
- A limitation of scope
- Failure to follow GAAP
An auditor indicates a qualified opinion by using “except for” in the opinion paragraph. It is unacceptable to use “except for” in ANY other type of audit opinion.
22
Q
Describe the 1 condition that will result in a disclaimer of opinion.
A
Disclaimer of opinion can only result from:
- A severe limitation on the scope of the audit
A disclaimer of opinion arises only from a lack of knowledge of the auditor. There is not necessarily proven knowledge that financial statements are materially misstated.
23
Q
Describe the difference between ‘material misstatement’ and ‘pervasive misstatement’.
A
Material risk of misstatement: Amount of misstatements, that individually or in the aggregate, COULD reasonably be expected to influence economic decision making.
Pervasive risk of misstatement: Risk of material misstatement is so great that NO part of the financial statement should be relied upon for economic decision making.
Misstatement: A difference between: (1) The amounts, classification, presentation, or disclosure of a reported financial statement item and (2) the proper information that is required for the item to be presented fairly in accordance with the applicable financial reporting framework. Misstatements can arise from fraud or error.
24
Q
Describe the difference between a ‘matter-of-emphasis’ paragraph and an ‘explanatory’ paragraph (issuer).
A
Matter-of-emphasis paragraph: NEVER required, and added based on auditor’s discretion. May discuss: significant transactions, unusually important subsequent events, accounting matters that affect comparability of financial statements
Explanatory paragraph: MAY be required, given the context. May discuss: substantial doubt about entity’s ability to continue as a going concern, change in accounting principles between periods, basing current opinion on report from prior auditor, correction of a prior material misstatement mentioned in prior auditor’s report
25
Describe the difference between an 'emphasis-of-matter' paragraph and 'other-matter' paragraph (non-issuer).
Emphasis-of-matter paragraph: MAY be required, for matters presented directly in financial statements. May discuss: subsequent events and subsequently discovered facts, consideration of entity's ability to continue as a going concern, consistency of financial statements, special considerations in case of a special purpose framework
Other-matter paragraph: MAY be required, for matters NOT disclosed in financial statements. May discuss: subsequent events and subsequently discovered facts, if predecessor auditor's report was not reissued, identified material inconsistencies, required supplementary information, related aspects of contractual agreements
26
Describe the parts of an issuer's standard unqualified report (single year & comparative years).
1. Title and addressee
2. Opinion paragraph
3. Basis for opinion paragraph
4. Critical audit matters
5. Date and signature
27
Describe the parts of an issuer's qualified report (scope restriction, inadequate disclosure, omitted statement, change in accounting principle without reasonable justification).
1. Title & addressee
2. Qualified opinion paragraph
3. Scope restriction (explanatory paragraph)
4. Basis for opinion paragraph
5. Critical audit matters
6. Date and signature
28
Describe the parts of an issuer's qualified report (GAAP violation).
1. Addressee
2. Qualified opinion paragraph
4. Scope restriction (explanatory paragraph)
4. Qualified opinion restated
5. Basis for opinion paragraph
6. Critical audit matters
7. Date and signature
29
Describe the parts of an issuer's adverse report.
1. Addressee
2. Adverse opinion paragraph
3. Scope restriction (explanatory paragraph)
4. Adverse opinion restated
5. Basis for opinion paragraph
6. Critical audit matters
7. Date and signature
30
Describe the parts of an issuer's disclaimer of opinion.
1. Addressee
2. Disclaimer opinion paragraph
3. Scope restriction (explanatory paragraph)
4. Basis for disclaimer of opinion
5. Date and signature
31
Describe the parts of a non-issuer's unmodified opinion report (single year & comparative).
1. Addressee
2. Report on the financial statements
3. Management's responsibility for the financial statements
4. Auditor's responsibility
5. Opinion
6. Report on other legal and regulatory requirements
7. Date and signature
32
Describe the parts of a non-issuer's qualified opinion (scope restriction, GAAP violation, inadequate disclosure)
1. Addressee
2. Report on the financial statements
3. Management's responsibility for the financial statements
4. Auditor's responsibility
5. Basis for Qualified Opinion
6. Qualified Opinion
7. Report on other legal and regulatory requirements
8. Date and signature
33
Describe the parts of a non-issuer's adverse opinion.
1. Addressee
2. Report on the consolidated financial statements
3. Management's responsibility for the financial statements
4. Auditor's responsibility
5. Basis for adverse opinion
6. Adverse opinion
7. Report on other legal and regulatory requirements
8. Date and signature
34
Describe the parts of a non-issuer's disclaimer of opinion.
1. Addressee
2. Report on the financial statements
3. Management's responsibility for the financial statements
4. Auditor's responsibility
5. Basis for disclaimer of opinion
6. Disclaimer of opinion
7. Report on other legal and regulatory requirements
8. Date and signature
35
Define a combined report.
An auditor's report expressing an opinion on financial statements and an opinion on internal control over financial reporting.
36
Describe the parts of an issuer's combined report.
1. Addressee
2. Opinions on the financial statements and internal control over financial reporting
3. Basis for opinion
4. Definition and limitation of internal control over financial reporting
5. Critical audit matters
6. Date and signature
37
Describe the parts of a non-issuer's combined report.
1. Addressee
2. Report on the financial statements and internal control
3. Management's responsibility for the financial statements and internal control over financial reporting
4. Auditor's responsibility
5. Definition and inherent limitations of internal control over financial reporting
6. Opinion
7. Report on other legal and regulatory requirements
8. Date and signature
38
Define critical audit matters.
Matters that: (1) Relate to accounts or disclosures that are material, and (2) involve especially challenging or subjective information requiring auditor judgment.
39
Explain the difference between an examination attest and a review attest.
Examination attest: Offers high assurance, and conclusion format includes opinion. Scope restriction results in qualified opinion, disclaimer of opinion, or withdrawal. Subject matter restriction results in qualified or adverse opinion.
Review attest: Offers moderate assurance, and conclusion format is negative assurance. Scope restriction results in withdrawal. Subject matter restriction results in modified opinion.
40
Describe the parts of an examination report (on subject matter & assertion).
1. Title that includes the word 'independent'
2. Identification of the subject matter or assertion, and the responsible party
3. Statement that subject matter or assertion is responsibility of responsible party
4. Statement that practitioner's responsibility is to express an opinion
5. Statement that examination was conducted in accordance with attestation standards est. by AICPA
6. Statement that the practitioner believes the examination provides reasonable basis for opinion.
7. Opinion on whether subject matter or assertion meets criteria in all material respects
8. Statement restricting use of the report to specified parties
9. Date and signature
41
Describe the parts of a review report (on subject matter & assertion).
1. Title that includes the word 'independent'
2. Identification of the subject matter or assertion, and the responsible party
3. Statement that subject matter or assertion is responsibility of responsible party
4. Statement that a review is substantially less in scope than an examination, and that no opinion will be expressed.
5. Statement of whether practitioner is aware of any material modifications that should be made to the subject matter or assertion.
6. Statement restricting use of the report ot specified parties
9. Date and signature
42
What procedures are performed as part of a review engagement? (And what procedures are NOT performed?)
Review procedures includes:
1. Understanding the industry
2. Knowledge of the entity
3. Designing and performing review procedures
4. Analytical procedures
5. Investigating results of analytical procedures
6. Inquiries of management
7. Reading the financial statements
8. Using the work of other accountants
9. Reconciling the financial statements to the underlying account records
Does NOT include: Assess risk of material misstatement due to fraud & assess deficiencies in design/implementation of internal control
43
List the parts of a review report.
1. Title that includes the word 'independent'
2. Addressee
3. Introductory paragraph
4. Management's responsibility for financial statements
5. Accountant's responsibility for financial statements (to conduct review in accordance with SSARS of AICPA)
6. Conclusion of whether accountant is aware of any material modifications
7. Date and signature
44
What is the general rule an auditor should follow when addressing a material inconsistency?
If the auditor identifies a material inconsistency, the auditor should determine whether: (1) the audited financial statements or (2) the other information needs to be revised.
45
List the procedures of review of interim financial information.
1. Obtain engagement letter
2. Obtain understanding of entity and internal control
3. Apply analytical procedures
4. Make inquires and other review procedures
5. Inquiry concerning litigation, claims assessments
6. Inquiry concerning going concern
7. Evaluate results
8. Obtain written representations from management (withdraw from engagement if not provided)
9. Communicate results
46
What does audit 'scope' mean?
Scope refers to the type of engagement, the range of time, the financial statements, and any other relevant documentation covered by an audit.
47
Describe the transaction cycle of sales, AR, and cash receipts.
1. Sales order
2. Credit approval
3. Shipping bill of lading
4. Bill/collect cash
5. Records (aging schedule, bad debts, sales returns)
48
Describe the transaction cycle of purchases, AP, and cash disbursements.
1. Requisition
2. Purchase order
3. Receive goods
4. Approve for payment
49
Describe the transaction cycle of personnel and payroll.
1. Authorization
2. Recording (payroll accounting)
3. Custody (paycheck distribution)
50
List the 5 types of IT general controls.
1. Logical access to programs and data controls
2. Program change management
3. Program development and SDLC
4. Computer operations and processing
5. Physical access to programs and data
51
List the 3 types of automated controls.
1. Application access controls
2. Input (validation) controls
3. Processing controls
52
List the 2 types of fraud relevant to the auditor.
1. Fraudulent financial reporting ("management fraud")
2. Misappropriation of assets ("employee fraud")
53
List the 3 procedures to assess risk of management override of controls.
1. Test the appropriateness of journal entries
2. Review accounting estimates for biases ("retrospective review")
3. Evaluate business purpose of unusual transactions
54
Define the purpose of a risk assessment. List the 7 steps of a risk assessment procedure.
Purpose of risk assessment: Procedure during planning phase of audit to identify areas within the financial statements that should be the focus of investigation.
1. Understand entity's environment
2. Understand entity's internal control over financial reporting
3. Understand entity's history
4. Perform analytical procedures
5. Conduct discussion among engagement team members
6. Inquire management, TCWG, and audit committee
7. Observation and inspection
55
List the 2 main criteria for gathering evidence.
Evidence must be sufficient (quantity) and appropriate (quality).
56
Define "substantive procedure."
Substantive procedure: An audit procedure of financial statements designed to detect material misstatements at the assertion level.
Substantive procedures comprise: (a) test of details (sending bank confirmations, reconciling account balances, and searching for unrecorded liabilities); and, (b) substantive analytical procedures
57
List the 5 assertions of transaction class.
1. Occurrence
2. Completeness
3. Accuracy
4. Cutoff
5. Classification
58
List the 5 assertions of account balances.
1. Presentation and disclosure.
2. Existence and occurrence
3. Rights and obligations
4. Completeness and cutoff
5. Valuation, allocation, and accuracy
(Acronym PERCY)
59
Define "test of details." List 3 examples.
Test of details: Collection of evidence that the balances, disclosures, and underlying transactions associated with a client's financial statements are correct.
Examples: Sending bank confirmations, reconciling account balances, and searching for unrecorded liabilities
60
Define "analytical procedure." List 3 examples.
Analytical procedure: Audit procedure that identifies relationships between financial and non-financial data. Includes comparing elements of financial information, whether within same financial statement or varying across multiple financial statements.
Examples: Ratio analysis, trend analysis, reasonableness testing
61
List the 3 methods for selecting items for testing.
1. 100% examination
2. Selecting specific items
3. Audit sampling
62
Define the Audit Risk Model formula.
AR = RMM × DR
-or-
AR = IR × CR × DR
63
Describe the difference between: (1) audit risk, (2) inherent risk, (3) control risk, (4) detection risk
1. Audit risk: Risk that auditor expresses inappropriate audit opinion when financial statements are materially misstated.
2. Inherent risk: Risk that a misstatement could be material, before consideration of any related controls.
3. Control risk: Risk that a misstatement will not be prevented, detected, or corrected on a timely basis by entity's internal control.
4. Detection risk: Risk that procedures performed by auditor will not detect a material misstatement, either individually or in aggregate.
64
Describe the relationship between materiality, performance materiality, and tolerable misstatement.
Materiality ---> Financial statements as a whole
Performance materiality ---> Portion of financial statements
Tolerable misstatement ---> Sampling test applied to a balance
65
What's the difference between a Type 1 Report and a Type 2 Report?
Type 1: Description and design of entity's controls
Type 2: Description and design of entity's controls AND operating effectiveness
66
What are 3 items that an audit plan should address?
1. Nature and extent of planned risk assessment procedures.
2. Nature, timing, and extent of planned further audit procedures at relevant assertion level.
3. Other planned audit procedures required so engagement complies with GAAP.
67
List the 4 aspects that define the nature of an entity.
1. Operations
2. Ownership and governance structure
3. Types of investments owned
4. Financing structure (to understand classes of transactions, account balances, and disclosures)
68
Here are some balance sheet asset accounts. List their linked revenue account.
1. Accounts receivable
2. Notes receivable
3. Investments
4. Plant, property, & equipment
1. Sales
2. Interest income
3. Interest, dividends, gains on sales
4. Rent, gains on sales
69
Here are some balance sheet accounts (both assets and liabilities). List their linked expense account.
1. Accounts receivable
2. Inventories
3. Plant, property, & equipment
4. Accrued liabilities
5. Long-term debt
1. Bad debt expense
2. Purchases, COGS, payroll
3. Depreciation, repairs/maintenance, insurance
4. Commissions, fees, warranty expense, utilities
5. Interest expense
70
List 5 substantive procedures to test each assertion of: Cash.
PD = Review disclosures for compliance with GAAP.
EO = Send confirmation letters to banks.
RO = Review bank statements to verify book balances represent amounts to which client has rights.
CC = Obtain bank cutoff statement.
VAA = Reconcile summary schedules of cash to general ledger.
71
List 5 substantive procedures to test each assertion of: Accounts Receivable.
PD = Review loan agreements for pledging/discounting of receivables to verify appropriate disclosure.
EO = Confirm balances by direct communication with debtors.
RO = Inquire about factoring of receivables to verify that client has rights to accounts.
CC = Trace sales invoice and shipping documents just before year end to customer account transactions. Review cutoff of sales to verify that transactions are recorded in proper period.
VAA = Reconcile subsidiary ledger to general ledger control account. Age AR to test for adequate allowance for doubtful accounts.
72
List 5 substantive procedures to test each assertion of: Inventory.
PD = Review purchase and sales commitments to verify if there is need for disclosure.
EO = Observe management count physical inventory and make test counts to verify existence.
RO = If in custody of third party, request confirmation from third party that inventory indeed belongs to client.
CC = Review cutoffs of sales and returs to verify that transactions affecting inventory are recorded in proper period.
VAA = Examine invoices from suppliers. Test pricing of inventory to verify that it is valued at lower of cost or market and that COGS transactions anre accurately recorded.
73
List 5 substantive procedures to test each assertion of: Investment Securities.
Best practice: Watch for valuations based on an investee’s financial results and whether the applicable framework for determining fair value is being followed.
PD = Review loan agreements for pledging of investment securities and verify
appropriate disclosure.
EO = Inspect and count securities on hand and compare serial numbers with
those shown on the records.
RO = Vouch purchases and sales of securities during the year.
CC = Review the cutoff of cash receipts and disbursements.
VAA = Determine valuations of major investments at year-end to test whether they are properly valued.
74
List 5 substantive procedures to test each assertion of: PP&E.
Best practice: It is common for analysis procedures to uncover overstatement/understatement of PP&E.
PD = Review that loan agreements for liens and restrictions on PP&E are properly disclosed.
EO = Inspect major acquisitions of PP&E to verify their existence. Perform search for unrecorded retirements.
RO = Vouch fixed asset acquisitions to purchase invoices. Review minutes of the board of directors (and shareholders) to verify that additions have been properly approved.
CC = Vouch transactions to discover items that should have been capitalized.
VAA = Reconcile summary PP&E depreciation schedules to the general ledger to verify clerical accuracy.
Another good analytical procedure: Compare of total cost of PP&E divided by COGS
75
List 5 substantive procedures to test each assertion of: Prepaid Assets.
PD = Review the adequacy of insurance coverage (prepaid insurance).
EO = Vouch additions to accounts as a result of insurance policy changes to verify existence.
RO = Confirm deposits and insurance with third party agreement documentation.
CC = Perform analytical procedures to test the reasonableness of prepaid
assets (PY vs CY).
VAA = Recalculate prepaid portions of prepaid assets to verify proper valuation.
76
List 5 substantive procedures to test each assertion of: Accounts Payable.
Best practice: Search for unrecorded liabilities! Confirm accounts payable by direct correspondence with vendors.
PD = Review purchase commitments to determine there is a need to either
accrue a loss and/or provide disclosure.
EO = Inspect copies of notes and note agreements.
RO = Confirm accounts payable by direct correspondence with vendors.
CC = Examine invoices paid subsequent to year end and trace to subsidiary ledger. Perform search for unrecorded payables to determine whether liabilities have been completely recorded. Review the cutoff of purchases and disbursements to verify that transactions are recorded in proper period.
VAA = Recalculate interest expense on any interest-bearing debt. Recalculate year-end accrual for payroll.
77
List 5 substantive procedures to test each assertion of: Long-Term Debt.
Best practice: When debt is owed to banks, confirmation is obtained by standard bank confirmation.
PD = Review debt agreements for details on pledged assets and for events that
may result in default on the loan.
EO = Confirm long-term debt with payees or appropriate third parties. Obtain and inspect copies of debt agreements.
RO = Review minutes of board of directors’ and/or shareholders’ meetings to verify that transactions have been properly authorized.
CC = Review bank confirmations for any indication of unrecorded debt. Perform analytical procedures to verify the overall reasonableness.
VAA = Reconcile summary schedules of long-term debt payment installments to the general ledger to verify clerical accuracy.
78
List 5 substantive procedures to test each assertion of: Equity.
Best practice: Auditors are looking to verify the number of shares authorized, issued, and outstanding of capital stock.
PD = Review Articles of Incorporation, bylaws, and minutes for provisions on stock options and dividends restriction.
EO = Confirm stocks authorized, issued, and outstanding with the independent registrar and stock transfer agent.
RO = Inquire of the client’s legal counsel of any unresolved legal issues.
CC = Inspect treasury stock certificates to verify that transactions have been
completely recorded.
VAA = Agree amounts on financial statements to the general ledger. Vouch dividend payments to verify that amounts have been paid. Vouch all entries affecting retained earnings.
79
Define "materiality" and explain its importance in the planning stage of an audit.
Materiality: The amount of misstatements that individually or in the aggregate, could reasonably be expected to influence the economic decisions users make based on the financial statements. How auditors quantify risk of misstatement.
Importance: Is an amount that allows the auditor to gauge the risk of material misstatement in a client's financial statements, so then auditor can issue an appropriate opinion as to whether financial statements are fairly presented.
80
List the 5 generalizations about audit evidence. "Audit evidence is more reliable when...."
1. Obtained from independent knowledge sources
2. Related internal controls are effective
3. Obtained directly by auditor
4. Exists in written documentary form
5. Provided by original documents (instead of copies)
NOTE: Audit rarely involves authentication of documentation, however.
81
List the 8 procedures auditors use to gather/evaluate evidence.
1. Inspect records/documents
2. Inspect tangible assets
3. Inquiry (internal and external)
4. Observation of procedure being performed by others
5. Confirmation (from third party)
6. Recalculation
7. Re-performance
8. Analytical procedures
Acronym: I. I. I. O. C. R. R. A.
82
Define "audit sampling."
Audit sampling: Selection and evaluation of less than 100% of the population such that the auditor expects the sample to be representative of the population as a whole.
83
Describe the difference between "attribute sampling" and "monetary unit sampling (MUS)".
Attributes sampling: Tests the occurrence of an “attribute,” usually “deviations from a prescribed control procedure.” Used in tests of controls.
Monetary unit sampling: Uses attributes sampling theory to express a conclusion in dollar amounts rather than as a rate of occurrence. Here, definition of 'sampling unit' is an individual dollar, and the population size is the recorded dollar population. Used in substantive test of details.
84
Define the formula for Detection Risk.
DR = AP × TD
AP = Analytical procedures risk; TD = Test of details (risk of incorrect acceptance)
85
Compare "non-sampling risk" and "sampling risk."
Non-sampling risk: All aspects of audit risk not due to sampling. 3 types:
1. The failure to select appropriate audit procedures
2. The failure to recognize misstatements in documents examined
3. Misinterpreting the results of audit tests
Sampling risk: Risk that the auditor’s conclusion based on a sample, does not match that of directly testing the entire population. 2 types:
1. Tests of controls sampling risks (risk of assessing control risk too high vs. too low)
2. Substantive test sampling risks (risk of incorrect rejection vs. incorrect acceptance)
86
What conclusion can an auditor draw from "risk of assessing control risk too high?"
This risk relates to audit efficiency. If risk of assessing control risk is too high, that means the auditor expanded substantive tests beyond necessary level, resulting in audit inefficiency. It indicates under-reliance on internal control.
87
What conclusion can an auditor draw from "risk of assessing control risk too low?"
This risk relates to audit effectiveness. If risk of assessing control risk is too low, that means the auditor did not expand substantive tests to necessary level to ensure effective audit. It indicates overreliance on internal control.
88
What conclusion can an auditor draw from "risk of incorrect rejection?"
Risk of incorrect rejection is also known as alpha risk, type 1 error. It is the risk that the sample supports conclusion that an account balance is materially misstated, when it is in fact NOT materially misstated. This risk relates to audit efficiency. To correct this, performance of additional audit procedures will lead to correct conclusion.
89
What conclusion can an auditor draw from "risk of incorrect acceptance?"
Risk of incorrect acceptance is also known as beta risk, type 2 error. It is the risk that the sample supports conclusion that an account balance is not materially misstated, when in fact it IS materially misstated. This risk relates to audit effectiveness. To correct this, auditor should stop performing additional procedures (and reevaluate the audit plan).
90
Control testing: List the 3 steps of the sampling process, and the 14 sub-steps.
Step 1: Plan the sample
1. Decide objectives of audit test
2. Decide whether audit sampling applies
3. Define attributes and exception conditions
4. Define population.
5. Define sampling unit.
6. Specify the tolerable exception rate.
7. Specify acceptable risk of assessing control risk too low.
8. Estimate population exception rate.
9. Determine initial sample size.
Step 2: Select the sample and perform the audit tests.
10. Select the sample.
11. Perform the audit procedures.
Step 3: Evaluate the results.
12. Generalize from sample to population.
13. Analyze exceptions.
14. Decide acceptability of population.
91
Substantive tests of details: List the 3 steps of the sampling process, and the 14 sub-steps.
Step 1: Plan the sample.
1. State the objectives of the audit test
2. Decide whether audit sampling applies
3. Define a misstatement
4. Define the population
5. Define the sampling unit
6. Specify tolerable misstatement
7. Specify acceptable risk of incorrect acceptance
8. Estimate the misstatements in the population
9. Determine the initial sample size
Step 2: Select the sample and perform the audit tests
10. Select the sample
11. Perform the audit procedures
Step 3: Evaluate the results
12. Generalize from the sample to the population
13. Analyze the misstatements
14. Decide the acceptability of the population
92
In test of controls:
How does an increase in "risk of assessing control risk too low" affect sample size?
How does an increase in "tolerable rate" affect sample size?
Decrease in sample size.
93
In substantive testing:
How does an increase in "expected population deviation rate" affect sample size?
How does an increase in "population" affect sample size?
Increase in sample size.
94
In substantive testing:
How does an increase in "risk of incorrect acceptance" affect sample size?
How does an increase in "risk of incorrect rejection" affect sample size?
How does an increase in "tolerable misstatement" affect sample size?
Decrease in sample size.
95
List the 3 types of random selection techniques.
1. Simple random (random number generator)
2. Systematic random (computes a sample selection interval)
3. Probability weighted, aka PPS (suited to identifying overstatement errors)
96
List the 6 types of classical variables sampling (CVS).
Classical variables sampling: Use normal distribution theory to evaluate characteristics of a population on basis of a sample.
1. Mean-per-unit estimation (projects the sample average to the total population by multiplying the sample average by the number of items in the population)
2. Difference estimation (uses the average difference between audited amounts and individual recorded amounts)
3. Ratio estimation (uses the ratio of audited amounts to recorded amounts in sample)
4. Regression approach
5. Difference and ratio estimation (alternative to mean-per-unit estimation, should be used when applicable because it requires a smaller sample size)
6. Stratification (separating population into homogenous groups)
97
Define the formula for computed upper deviation rate (CUDR). How should CUDR relate to tolerable rate of deviation (TRD)?
CUDR = Sample deviation rate + Allowance for sampling risk
Where:
Sample deviation rate = Number of deviations in the sample ÷ Sample size
Allowance for sampling risk = 1 – Confidence Level
If CUDR < TRD, the sampling results support the planned reduction in control risk.
If CUDR > TRD, the sampling results do not support the planned reduction in control risk and the auditor will need to increase substantive testing.
98
Define formula for projected misstatement when recorded amount is LESS than sampling interval.
Projected misstatement = Taint × Sampling Interval
Where:
Taint = Selected account misstatement ÷ Recorded account balance
99
Define formula for projected misstatement when recorded amount is MORE than sampling interval.
Projected misstatement = Actual misstatement
100
Auditors try to identify predictable relationshps when applying analytical procedures. What's ONE thing to remember when applying analytical procedures to income statement amounts vs balance sheet amounts?
Income statement amounts tend to be MORE PREDICTABLE than balance sheet amounts.
101
Why should an auditor should perform analytical procedures relating especially to REVENUE cycle?
Revenue cycle transactions tend to be the most PERFORMANCE driven indicator of risk of material misstatement. Look for expenses-to-assets ratios like COGS to average inventory to observe how they drive revenue.
102
List 9 financial ratios assessed during analytical procedures. How do you interpret them?
Observe: Does one component increase at a FASTER rate than the other?
Common ratios:
1. Gross profit rate ([revenue - COGS] / revenue)
2. Accounts receivable turnover (net sales / avg AR)
3. Ratio of accounts receivable to credit sales (avg AR / net sales)
4. Ratio of accounts written off to the ending accounts receivable (allowance / ending AR)
5. Ratio of interest revenue to notes receivable (interest revenue / notes receivable)
6. Debt/equity
7. Inventory turnover (net sales / avg inventory)
8. Profit margin (profit / revenue)
9. Return on assets (net sales / avg total assets)
103
When should you use a NEGATIVE confirmation over a positive confirmation?
A negative form asks for recipient to respond only if he or she disagrees with the information stated on the request. It is best used when internal control is already effective.
104
List 3 alternative procedures to examine accounts receivable.
Alternative procedures for AR:
1. Examine subsequent cash receipts (to match receipts with actual items paid)
2. Shipping documents
3. Other client documentation to validate existence assertion
105
List 3 alternative procedures to examine accounts payable.
Alternative procedures for AP:
1. Examination of subsequent cash disbursements
2. Correspondence from third parties
3. Other records to validate completeness assertion
106
What should an auditor do if they conclude there is an omitted procedure that impairs their ability to support a previously expressed opinion?
The auditor should promptly perform the omitted procedure, or alternative procedures, to determine whether there is a satisfactory basis for their opinion.
107
List 2-3 alternative procedures to examine these categories:
1. General ledger
2. Purchase to pay
3. Payroll
4. Travel and entertainment
5. Order to cash
1. General ledger (Unauthorized journal entry, Duplicate or split JEs)
2. Purchase to pay (Stale requisitions and POs, PO date after invoice date, Invoice number sequence)
3. Payroll (Duplicate employees, Hours worked vs. hours paid, Invalid pay rates)
4. Travel and Entertainment/Purchasing Card (Declined and disputed transactions, Potential duplicate reimbursements, Spending limits on transactions)
5. Order to cash (Delivery quantity vs. sales order quantity, Cash receipt vs. invoice amount, Shipment without a sales order)
108
List 3 ways an auditor can evaluate reasonableness of accounting estimates.
Best practice: Look for deviations from historical trends.
1. Review/test process used by management
2. Develop auditor's own independent expectation of estimate
3. Review subsequent events
109
List 3 ways an auditor can evaluate reasonableness of fair value measurements.
Best practice: Evaluate if management uses an appropriate valuation method/framework to determine fair value.
1. Test management's assumptions, valuation model, and underlying data
2. Develop auditor's own independent fair value estimates
3. Review subsequent events
110
List 4 audit procedures an auditor can conduct to identify litigation, claims, and assessments that may result in risk of material misstatement.
1. Inquire management and in-house counsel
2. Obtain from management an eveluation of litigation claims that exist at date of financial statements
3. Review minutes of meetings as proof of management discussion of litigation claims
4. Review legal expense accounts
5. Review invoices from external legal counsel
111
List 4 conditions that indicate substantial doubt of entity's ability to continue as a going concern.
1. Negative trends (Recurring operating losses, working capital deficiencies, adverse key financial ratios)
2. Incidents unfavorable to financial capital (default on loan, dividends in arrears, restructuring of debt, need to dispose of assets quickly)
3. Internal matters (work stoppage, labor shortage/difficulties, frequent need to significantly revise operations)
4. External matters (legal proceedings, loss of principal customer or supplier, uninsured loss)
112
If substantial doubt about the entity’s ability to continue as a going concern for a reasonable period of time remains, how should the auditor reflect this in their auditor's report?
If qualified or adverse opinion: Include an emphasis-of-matter paragraph that includes explicitly "substantial doubt" and "going concern."
If disclaimer of opinion: No emphasis-of-matter paragraph. Instead, describe the substantive reasons for the auditor’s disclaimer of opinion.
113
Define a "known misstatement" vs "likely misstatement."
Known misstatement: A specific type of misstatement that is identified during the audit.
Likely misstatement: Not specifically identified during audit, but arises instead from auditor's judgement/estimate
114
Define "summary of uncorrected errors."
Summary of uncorrected errors: The auditor's evaluation of material uncorrected misstatements whether, individually or in combination with other misstatements, cause financial statements to be misstated.
115
List 2 criteria auditor uses to evaluate severity of a control deficiency.
1. Whether there is a reasonable possibility that the company's controls will fail to prevent or detect a misstatement of an account balance or disclosure
2. The magnitude of the potential misstatement resulting from the deficiency or deficiencies.
116
Materiality limits in management representation usually apply to what type of amounts?
Amounts concerning related party transactions.
117
List 3 major claims that must be present in management's representation letter to auditor.
1. Management's acknowledgment of its responsibility for the fair presentation in the financial statements, and belief that the financial statements are fairly presented.
2. Management has provided availability and completeness of all financial records.
3. Management's acknowledgment of its responsibility for the design and
implementation of programs and controls to prevent and detect fraud.
118
Define "subsequent event" in accounting.
Subsequent event: Events that occur after a company's year-end period but before the release of the financial statements. May need disclosure on to-be issued financial statements if needed to keep them from appear misleading.
119
List 2 types of subsequent events that auditor should evaluate.
Two types of subsequent events require evaluation by the auditor:
1. those that have a direct effect on the financial statements and require adjustment
2. those that have no direct effect on the financial statements but a footnote is advisable
120
What should an auditor do if they become aware of material information that may affect their report opinion?
If an auditor becomes aware of material information that may have affected the report, the auditor would FIRST need to determine who the individuals are that are relying on the information and THEN take appropriate action.
