AUDIT - A3 Flashcards
The work of an INTERNAL AUDITOR may aid the external auditor in…
obtaining an understanding of internal control, assessing risk, and performing substantive procedures.
Materiality
Based on professional judgment, both qualitative and quantitative facts must be considered, use the smallest level of misstatement that could be material to any one of the FS.
FIVE Components of Internal Control (COSO framework)
CRIME
- (C)ontrol environment
- (R)isk Assessment by management
- (I)nformation and communication systems
- (M)onitoring
- (E)xisting Control Activities
Audit Risk = RMM X DR
(“AR”) should be low (IR X CR) (controller by auditor)
(assessed by auditor)
Inherent risk is the susceptibility of a relevant assertion to a material misstatement, assuming there are no related controls.
Control risk= risk that a material misstatement could occur in a relevant assertion will not be prevented or detected (and corrected) on a timely basis by the entity’s internal control.
Detection risk= risk that the auditor will not detect a material misstatement that exists in a relevant assertion.
Material misstatement
Defined as an omission or misstatement of accounting information that, in light of surrounding circumstances, makes it probable that the judgment of a reasonable person relying on this information would have changed or influenced by omission or misstatement.
Three types of misstatements
- Factual misstatements - there is no doubt
- Judgmental misstatements-mostly relate to estimates, or application of accounting principles, difference in judgment of management that auditor considers unreasonable.
- Projected misstatements-auditor’s best estimate of misstatements in a population. Projections of misstatements in audit samples to the entire population where sample was drawn upon.
The understanding of the design AND implementation of an entity’s relevant controls is required to complete the assessment of RMM (risk of material misstatements).
- Evaluating the design of a control involves determining whether individually, or in combination, preventing or detecting and correcting material misstatements.
- Implementation - A control has been implemented if it exists and is being used.
During the planning phase of the audit…
During the planning phase of the audit, the auditor obtains an understanding of the internal control system by considering:
•The types of misstatements that may occur.
- The risk that misstatements may occur.
- Factors that influence the design of tests of controls and substantive tests.
- The assessment of inherent risk.
- Judgments about materiality.
- The complexity and sophistication of the entity’s operations and systems.
- The use of manual vs. computerized control procedures.
Such knowledge may be obtained by appropriate inquiry, inspection, or observation. Knowledge may also be obtained based on previous experience with the client and/or an understanding of the industry in which the entity operates.
Assessing risk based on the effective operation of controls
Assessing risk based on the effective operation of controls involves (1) identifying specific internal controls relevant to specific assertions that are likely to prevent or detect material misstatements in those assertions, and (2) performing tests of such controls to evaluate their effectiveness
Levels of Responses
- Overall response to Financial Statement Level Risk
- Responses to Relevant Assertion Level Risks (include classes of transactions, account balances, and disclosures).
Standard costing system
A standard costing system is a tool for planning budgets, managing and controlling costs, and evaluating cost management performance. A standard costing system involves estimating the required costs of a production process.
Account Balances (Balance sheet accounts)
- Completeness (C)
- Valuation, Allocation and Accuracy
- Existence
- Rights and Obligations
Six Assertions
COVERU
- Completeness
- Cutoff
- Valuation, Allocation, and Accuracy
- Existence and Occurrence
- Rights and Obligations
- Understandability and Classification
Transactions and Events
- Completeness
- Cutoff
- Valuation, Allocation, and Accuracy
- Occurrence
- Classification
Presentation and Disclosure
- Completeness
- Valuation, Allocation, and Accuracy
- Occurrence
- Understandability and Classification
PCAOB -relevance of audit evidence
PCAOB standards state that the relevance of audit evidence depends on:
- design of the audit procedure, test the assertion directly and whether it is designed to test for understatement or overstatement; and
- timing of the audit procedure
Check kiting
Kitting occurs when a check drawn on one bank is deposited in another bank and no record is made of the disbursement in the balance of the first bank account.
Lapping
Theft of cash often concealed by failing to account for cash receipts. The unrecorded receipt is covered by applying a subsequent receipt to the previously unrecorded amount.
Evaluating management’s estimate
After first obtaining an understanding of how management developed its estimate, the auditor should use one or a combination of the following approaches:
a) review and test the process used by management to develop the estimate,
b) develop an independent expectation of the estimate to corroborate the reasonableness of management’s estimate, or
c) review subsequent events.
Inventory turnover
= COGS / Average Inventory
Average number of days to sell Inventory
=Average inventory/ (COSGS/365)
OR
=365 days/ Inventory turnover
Accounts receivable turnover
=Net credit sales/ Average net receivable
Accounts receivable turnover in days
=Average net receivables/ (net credit sales/365)
OR
=365 days/ Accounts receivable turnover
Acid-test ratio (aka Quick ratio)=
=Cash + Marketable securities (trading)+Accounts receivable/ Current liabilities
