Chapter 3 - Audit Planning, Types of Audit Tests, and Materiality Flashcards
Star - What are the 3 phases of Audit Planning?
Client acceptance and continuance
Preliminary engagement activities (Engagement letter)
Planning the audit
What is Necessary for Client Acceptance?
The firm has necessary skills and knowledge of relevant industry or subject matters
The firm must be independent of the entity
Firm must determine the integrity of the client
When should the Auditor evaluate client retention?
Periodically, generally near audit completion or after a significant event.
Steps for Planning the Audit (1-4)
- Assess Business Risks
- Establish Materiality
- Consider Multiple Locations
- Assess the need for Specialists
Steps for Planning the Audit (5-7)
- Identify related parties’ transactions
- Consider additional value-added services
- Document the overall audit strategy, audit plan, and prepare audit programs
What are the Types of Audit Tests?
Risk Assessment Procedures
Test of Controls
Substantive Procedures
What are Tests of Controls?
Create a separation of duties (most important part for internal controls)
Run inquiries of management personnel
Observe the application of specific controls
Walk through the controls
Reperform the application of the control
What are Substantive Procedures?
We test for details here
Test for errors or fraud
Evaluations of financial info through the analysis of plausible relationships among financial and non-financial data
Star - What is Materiality?
Dollar amount of an error in the financial statements that won’t change the decision of the user of the financials.
How do we Apply Materiality?
- Determine overall materiality
- Determine tolerable misstatement at individual account/class level
- Evaluate audit findings
What are some Common Quantitative Benchmarks for Materiality?
Income (or loss) before income taxes
Total Assets
Total Revenue
Net Assets
Total Equity
Qualitative Factors that Help Decide Percentage of Materiality Applied for a Benchmark
Misstatement in prior years
High risk of fraud
Loan covenant violations
High leadership turnover
Volatile business environment
How is Combined Tolerable Misstatement different from Materiality?
Combined tolerable misstatement is generally grater than planning materiality because not all accounts will be misstated by their full allocation.
What happens when errors are identified in auditing accounts?
Additional testing is typically performed in that account and in related accounts.
Preliminary Engagement Activites
Determine Audit Team Requirements
Assess Compliance with Ethical and Independence Requirements
Establish an Understanding with the Entity
Complete Engagement Letter
