CPA Audit Section Flashcards
(134 cards)
1
Q
Risk of Material Misstatement
A
At both the financial statement level and the assertion level
2
Q
The Permanent File
A
Or continuing file - includes copies of important items for the next year’s audits.
3
Q
Allowance for Sampling Risk
A
Is the difference between the precision limit and the sample deviation rate (sample deviation rate = errors/sample size)
4
Q
Attestation Engagements
A
Express a conclusion about an assertion
5
Q
Completeness Assertion
A
Involves determining whether all transactions that should be recorded, are actually recorded.
6
Q
Variables Sampling
A
Or quantitative sampling - is used for substantive testing. Confirming a monetary balance. Testing book value. Questions how much?
7
Q
Attribute Sampling
A
Relates to how much of an item. It relates to whether the attribute is present, i.e. was the approval given.
8
Q
Accounts Receivable Turnover
A
Net credit sales / Avg. accounts receivable (beg AR + end AR / 2)
9
Q
Average Days to Collect
A
Days in year / Accounts receivable turnover
10
Q
GAGAS
A
Generally Accepted Government Auditing Standards often called the “yellow book.”
11
Q
Self-Interest Threat
A
The threat that a financial or other interest will inappropriately influence an auditor’s judgment or behavior.
12
Q
Self-Review Threat
A
The threat that an auditor or audit organization that has provided nonaudit services will not appropriately evaluate the results of previous judgments made or services performed as part of the nonaudit services when forming a judgment significant to an audit.
13
Q
Bias Threat
A
The threat that an auditor will, as a result of political, ideological, social, or other convictions, take a position that is not objective.
14
Q
Familiarity Threat
A
The threat that aspects of a relationship with management or personnel of an audited entity, such as a close or long relationship, or that of an immediate or close family member, will lead an auditor to take a position that is not objective.
15
Q
Undue Influence Threat
A
The threat that external influences or pressures will impact an auditor’s ability to make independent and objective judgments.
16
Q
Management Participation Threat
A
The threat that results from an auditor’s taking on the role of management or otherwise performing management functions on behalf of the entity undergoing an audit.
17
Q
Structural Threat
A
The threat that an audit organization’s placement within a government entity, in combination with the structure of the government entity being audited, will impact the audit organization’s ability to perform work and report results objectively.
18
Q
Subsequent Event
A
A subsequent event is an event occurring after the balance sheet date but prior to the issuance of the auditor’s report, which has a material effect on the financial statements and therefore requires adjustment or disclosure in the statements. (AU-C 560). Two kinds - events that did exist at the balance sheet date and event that did not exist at the balance sheet date.
19
Q
Auditor’s Engagement Letter Includes
A
- The basis of the auditor’s fee,
- The objective of the engagement and additional work to be performed such as management advisory services, and
- The fact that management is responsible for the entity’s financial statements.
20
Q
Attest Engagement
A
To attest is to bear witness or to lend credibility. An attest engagement is to issue a written communication expressing a conclusion (opinion) on subject matter, or an assertion about the subject matter that is the responsibility of another party (AT 101.01)
21
Q
GAAS
A
generally accepted auditing standards
22
Q
SSAEs
A
Statements on Standards for Attestation Engagements
23
Q
SASs
A
Statements on Auditing Standards (SASs) are pronouncements of the Auditing Standards Board (ASB) and are authoritative interpretations of the 10 generally accepted auditing standards, and departures therefrom must be justified (ET 202.01).
24
Q
SSARSs
A
Statements on Standards for Accounting and Review Services - provide standards with respect to compilations and reviews of financial statements. SSARS do not apply to the processing financial data for clients of other CPA firms or to consulting on accounting matters since neither of these would be considered a compilation or a review.
25
SOX Section 404
Sarbanes-Oxley Act of 2002 - requires management to make an assessment of the effectiveness of internal controls over financial reporting.
26
Review Engagement
A review is an engagement undertaken to achieve, through the performance of inquiry and analytical procedures, limited assurance that there are no material modifications that should be made to the statements in order for them to be in conformity with GAAP or, if applicable, with a comprehensive basis of accounting other than generally accepted accounting principles.
Written representations are required from management for all financial statements and periods covered by the accountant's review report. Written representations are not required for a compilation engagement.
27
Comparative Financial Statements
Are financial statements presented together for one or more prior periods as well as the current period. Notes, explanations, and auditor qualifications should be retained to the extent that they continue to be of significance. Any change which affects comparability should be disclosed.
Statements for a series of periods are far more significant than those for a single period. They enhance the usefulness of financial reports and show more clearly the nature and trends of current changes affecting the enterprise.
28
Related Parties (Financial Statements)
The FASB ASC Glossary defines related parties as, among others, management, owners, family members of owners or management, affiliates, or any party which “can significantly influence the management or operating policies” such that the entity might be “prevented from fully pursuing its separate interests.”
Related party transactions must be fully disclosed in the notes to the financial statements, including the nature of the relationship involved, a description of the transaction, the dollar amounts of the transaction, and amounts due to and from related parties.
29
Unmodified Opinion
An unmodified opinion states that the financial statements are presented fairly in accordance with accounting principles generally accepted in the United States of America or an applicable financial reporting framework—the basic premise being that the auditor has tested the financials and they give an accurate representation of the company's condition.
30
Analytical Procedures
Analytical procedures are a set of audit procedures that examine the relationships between financial and nonfinancial data. Analytical procedures encompass such investigation of identified fluctuations or relationships that are inconsistent with other relevant information or that differ from expected values by a significant amount.
These procedures are used in the planning stage, as a substantive test about particular assertions, and as an overall review of the financial information in the final review stage of the audit.
Analytical procedures include ratio analyses (comparison of ratios to prior years and to industry averages) and reasonableness tests (e.g., comparison of aggregate salaries paid with the number of employees).
31
A Compilation
A compilation differs significantly from a review or an audit of financial statements. A compilation does not contemplate performing inquiry, analytical procedures, or other procedures performed in a review. Additionally, a compilation does not contemplate obtaining an understanding of the entity's internal control; assessing fraud risk; testing accounting records by obtaining sufficient appropriate audit evidence through inspection, observation, confirmation, the examination of source documents; or other procedures ordinarily performed in an audit. Therefore, a compilation does not provide a basis for obtaining or providing any assurance regarding the financial statements.
32
A Review
A review is an engagement undertaken to achieve, through the performance of inquiry and analytical procedures, limited assurance that there are no material modifications that should be made to the statements in order for them to be in conformity with GAAP or, if applicable, with a comprehensive basis of accounting other than generally accepted accounting principles.
The accountant on a review engagement must show due professional care and is required to be independent.
Reviews are subject to the AICPA Statements on Standards for Accounting and Review Services (AR 60–600) and Interpretations.
33
Reasonableness Test
A reasonableness test compares a known, recorded amount (number of overtime hours in a week) with an estimated, or expected, amount (the average of weekly overtime during a similar period in a prior year). The auditor looks to see if the actual number is reasonable based on prior historical data. This test is a type of analytical procedure.
34
Tolerable Misstatement
Tolerable misstatement is the maximum monetary misstatement that may exist in an account balance or class of transactions, when combined with misstatements in other accounts, without causing the financial statements to be misstated. It is the threshold of materiality and is based on professional judgment. Tolerable misstatement applies to substantive testing and is an element of total audit risk. It must be considered in both statistical and nonstatistical sampling.
Tolerable misstatement varies inversely with sample size.
Compare to Tolerable Rate.
35
Materiality
Information is material if omitting it or misstating it could influence decisions that users make on the basis of the financial information of a specific reporting entity. In other words, materiality is an entity-specific aspect of relevance based on the nature or magnitude or both of the items to which the information relates in the context of an individual entity's financial report. Consequently, the FASB cannot specify a uniform quantitative threshold for materiality or predetermine what could be material in a particular situation.
36
Independence
To be independent is to be free from conflicts of interest and bias, self-governing, impartial, not subject to control by others, not requiring or relying on something else, not contingent, and acting with integrity and objectivity (i.e., with judgment that is unimpaired and without bias or prejudice).
The CPA must be independent not only in fact but also in appearance. This means both that a true conflict must not exist (the fact of independence) and that the appearance, or impression, of conflict must not exist (the appearance of independence).
A registered public accounting firm and its associated persons must be independent of the firm's audit client throughout the audit and professional engagement period.
37
Acceptance of Client
CPA firms should establish policies and procedures for determining the acceptance of a client to minimize the risk of being associated with a client whose management lacks integrity.
38
Control Activities
Control activities are the policies and procedures that help ensure that management directives are carried out and necessary actions are taken to address risks that threaten the achievement of the entity's objectives. Examples of specific control activities include the following:
a. Authorization
b. Segregation of duties
c. Safeguarding
d. Asset accountability
e. Performance reviews
39
PCAOB
The Public Company Accounting Oversight Board (PCAOB) was established by Congress to oversee public company audits. Congress formed the group to protect the interests of investors and further the public interest in the preparation of audit reports. The PCAOB also oversees the audits of broker-dealers.
40
Sarbanes-Oxley Act
The Sarbanes-Oxley Act of 2002 (SOX), also known as the Public Company Accounting Reform and Investor Protection Act, was enacted to develop new or enhanced standards for all U.S. public company boards, management, and public accounting firms.
41
Scope Limitation
Scope limitation is a restriction on an audit that is caused by the client, issues beyond the control of the client, or other events that do not allow the auditor to complete all aspects of his or her audit procedures.
42
Statistical Sampling
Statistical sampling is a sampling plan in which the laws of probability are used for selecting and evaluating a sample from a population for the purpose of reaching a conclusion about the population. It allows the auditor to design an efficient sample, to measure the sufficiency of the audit evidence obtained, and to evaluate the sample results. It enables the auditor to quantify sampling risk (AU-C Glossary).
Requirements for a sampling plan to be statistical include the following:
Sample must be statistically selected (e.g., using random selection)
Sample results must be mathematically evaluated
43
Risk of Incorrect Acceptance
The risk of incorrect acceptance is an aspect of sampling risk when performing substantive tests of details. It is the risk that the sample supports the conclusion that the recorded account balance is not materially misstated when, in fact, it is materially misstated. It relates to the effectiveness of the audit and is more serious than the risk of incorrect rejection. It exists in both statistical and nonstatistical sampling and depends on professional judgment.
44
Professional Judgment
Professional judgment is "the application of relevant training, knowledge, and experience, within the context provided by auditing, accounting, and ethical standards, in making informed decisions about the courses of action that are appropriate in the circumstances of the audit engagement."
45
Professional Skepticism
Professional skepticism is the attitude an auditor must have when evaluating the reasonableness of management's accounting estimates, assuming that the estimation process involves an inherent potential for bias due to the presence of subjective as well as objective factors.
Professional skepticism is an attitude that includes a questioning mind and a critical assessment of audit evidence (AU-C 200.17 and .A22–.A26). It is important when evaluating the risk of material misstatement due to fraud.
46
Flowchart
A flowchart is a graphic depiction, using uniform symbols to show the control flow, primary actions, and interrelationships of a task or a set of tasks. A flowchart can be created by a computer program, a computer system, the systems staff, or accountants and auditors.
47
Audit Procedure
An audit procedure is a series of specific and specialized steps or actions auditors take to meet audit objectives. Audit procedures may vary for different audit engagements, depending on the complexity of the activity under review, the type of company, and other factors unique to the engagement. Audit procedures are to be tailored to the engagement as compared to audit standards, which do not change. Audit procedures are used for tests of controls and substantive testing.
The seven basic audit procedures are (1) inspection, (2) observation, (3) inquiry, (4) confirmation, (5) recalculation, (6) reperformance, and (7) analytical procedures.
48
Fraud
Fraud is the intentional misrepresentation or failure to disclose a material fact or facts that results in injury or loss to someone relying on it.
49
Elements to Prove Fraud
- A material (significant) misrepresentation or omission of fact
- Knowledge of the falsity (scienter)
- Intent that the misrepresentation be relied on
- Actual reliance by another party
- Resultant damage suffered as a result of reliance
50
IESBA
The International Ethics Standards Board for Accountants is an independent standard-setting organization that serves the public by creating ethical standards for professional accountants. The IESBA also facilitates the convergence of international and national ethical standards through the development of an internationally appropriate code of ethics.
51
Non-Issuer
Nonissuers are all entities except for those defined as issuers.
The term “nonissuer” replaces the term “nonpublic entity.”
52
Internal Control
Internal control is a process, effected by an entity's board of directors, management and other personnel, which is designed to provide reasonable assurance regarding the achievement of objectives in one or more categories:
Effectiveness and efficiency of operations
Reliability of financial information
Compliance with applicable laws and regulation
Internal control consists of five interrelated components. These are derived from the way management runs a business, and are integrated into the management process. The components are:
```
1 Control Environment
2 Risk Assessment
3 Control Activities
4 Information and Communication
5 Monitoring Activities
```
53
Audit Committee
An audit committee is a body formed by a company's board of directors to oversee audit operations and circumstances. It selects and appraises the performance of the auditing firm. In accordance with SEC regulation, the audit committee must be composed of outside directors. The committee may also evaluate internal audit reports.
54
Management Representation Letter
A management representation letter is written representation from management which affirms (AU-C 580):
1 the fair presentation of the financial statements and management's responsibility for them,
2 the completeness of all information provided to the auditor and in the financial statements,
3 representations relating to recognition, measurement, and disclosure (including the absence of knowledge of fraud or suspected fraud), and
4 information concerning subsequent events.
The representation letter should be addressed to the auditor, written on client letterhead, signed by a responsible officer of the client, and dated as of the date of the auditor's report. See AU-C 580 for a sample letter.
The representation letter is one of the required audit procedures. Refusal of management to provide a representation letter is considered a scope limitation and requires qualification of the auditor's opinion.
55
Engagement Letter Attributes
1 the basis of the auditor's fee,
2 the objective of the engagement and additional work to be performed such as management advisory services, and
3 the fact that management is responsible for the entity's financial statements.
56
Quality Control
Quality control refers to the reasonable assurance that policies and procedures are in place during an audit engagement to be in compliance with GAAS (generally accepted auditing standards).
Quality control processes are used in the manufacturing and service industries to assure the highest-quality output possible.
57
Disclaimer of Opinion
A disclaimer of opinion is an expression of no opinion. (AU-C 700.03)
A disclaimer of opinion is warranted when restrictions on the scope of the audit are so severe, whether client imposed or due to other reasons, that the auditors are unable to obtain sufficient appropriate audit evidence to enable them to form an opinion.
58
Auditor's Report for Federal Money Contains
a. Opinion (or disclaimer) on whether the financial statements conform to GAAP
b. Opinion on the Schedule of Federal Expenditures that includes an opinion as to whether the information is presented fairly, in all material respects, in relation to the financial statements presented as a whole
c. Report on internal control related to the financial statements and major programs. The Single Audit Act requires auditors to test internal controls over federal programs to determine whether they are effective.
59
Maximum Tolerable Rate
Tolerable rate is the maximum population rate of deviations from the prescribed internal control that the auditor is willing to accept without altering the planned assessed level of control risk. It is used in tests of controls and depends on professional judgment.
Perfection (i.e., no deviations) is not necessary—the auditor can accept a certain number of deviations. The question asked by the tolerable rate is, “How many deviations can I accept before additional work becomes necessary?” The tolerable rate is usually 2%–5%.
Tolerable rate = Number of acceptable deviations in the population ÷ Population size
Compare to Tolerable Misstatement.
60
Cutoff Date
The cutoff date is the last day of the accounting period (i.e., the last day of each month or December 31, the last day of the fiscal year). This date (especially the fiscal year-end) is used to test the proper period controls, to test the occurrence assertion, and to test for the occurrence of events subsequent to cutoff which might have a material effect on the financial statements under audit.
“Proper cutoff” refers to the appropriate recording of transactions in the proper period, neither delaying some recordings to the next period nor accelerating some next-period transactions into the current-year account balances.
61
Risk of Assessing Control Risk Too Low
The risk of assessing control risk too low is the risk that the assessed level of control risk based on the sample is less than the true operating effectiveness of the control.
62
Risk of Assessing Control Risk Too High
The risk of assessing control risk too high is the risk that the assessed level of control risk based on the sample is greater than the true operating effectiveness of the control.
63
Evaluating Reasonableness
The auditor should obtain an understanding of how management developed the estimate. Based on that understanding, the auditor should use one or a combination of the following approaches:
- Review and test the process used by management to develop the estimate.
- Develop an independent expectation of the estimate to corroborate the reasonableness of management's estimate.
- Review subsequent events or transactions occurring prior to the date of the auditor's report.
64
Engagement
An engagement is a situation wherein the practitioner renders professional services.
65
Standard Auditors Report
The standard auditor's report states that the financial statements present fairly, in all material respects, the entity's financial position, results of operations, and cash flows in accordance with accounting principles generally accepted in the United States of America. This conclusion may be expressed only when the auditor has formed such an opinion on the basis of an audit conducted in accordance with GAAS.
The standard (unmodified) auditor's report consists of the following paragraphs:
Introductory, in which the company and the financial statements audited are identified
Management's Responsibility, in which management is given responsibility of preparing the financial statements fairly
Auditor's Responsibility, in which the auditor discusses GAAS and concepts about the audit
Opinion, in which the auditor's opinion is expressed
66
Service Organization
The AU-C Glossary defines a service organization as “an organization or segment of an organization that provides services to user entities that are relevant to those user entities' internal control over financial reporting.” Examples of service organizations would include a bank that provides a lockbox service (collection of all incoming customer payments) or a company that calculates and processes payroll.
67
User Entity
A user entity is the entity that has engaged a service organization and whose financial statements are being audited.
68
A Review does not include/includes
A review does not contemplate an understanding of the entity's internal control or utilize the concept of materiality. The accountant uses inquiry and analytical procedures when performing a review.
69
Direct Financial Interest
Direct financial interest is ownership in the entity/client, i.e., common stock, preferred stock, or convertible debt. Direct financial interest is prohibited by Interpretation 1 of Rule 101: the independence of an accountant who holds a direct financial interest in a client or in a nonclient investee of a client is deemed to be impaired. There is no exception to this rule (e.g., even securities held in a blind trust are considered to be a direct financial interest). (ET 101.02 and .10)
Materiality is irrelevant; any direct financial interest, even one share, is considered to impair independence.
70
Material Indirect Financial Interest
Material indirect financial interest is involvement, other than direct ownership (i.e., ownership of common or preferred stock or convertible debt), that exceeds 5% of the member's net worth. Independence is deemed to be impaired. The concept of materiality is relevant to the consideration of indirect financial interests. A “member” is considered to include the member, his firm, and family members.
71
Communication
The auditor should obtain sufficient knowledge of the communication component to understand how the entity communicates financial reporting roles and responsibilities and significant matters relating to financial reporting. This component of internal control involves the communication:
a. with personnel regarding their roles and responsibilities in the internal control structure,
b. with personnel about how their activities in the financial reporting system relate to others,
c. with personnel about how and to whom to report financial reporting exceptions,
d. between management and those charged with governance, as well as third parties such as regulatory authorities.
72
Audit Evidence
Audit evidence is all the information used by the auditor in arriving at the conclusions on which the audit opinion is based and includes the information contained in the accounting records underlying the financial statements and other information. Auditors are not expected to examine all information that may exist.
The quantity of audit evidence needed is affected by the risk of misstatement (the greater the risk, the more audit evidence is likely to be required) and also by the quality of such audit evidence (the higher the quality, the less the audit evidence that may be required).
73
Interim Audit Work
Interim audit work is audit work performed prior to year-end. It is an element of the timing of audit work. Interim audit work usually consists of the study and evaluation of the internal control structure and may include substantive testing. The auditor must be aware that at interim testing the entire population (e.g., all credit sales for the year) will not be available for testing.
74
Detection Risk
Detection risk (DR) is the risk that the procedures performed by the auditor to reduce audit risk to an acceptably low level will not detect a misstatement that exists and that could be material, either individually or when aggregated with other misstatements (AU-C Glossary).
Detection risk is a function of the effectiveness of an audit procedure and its application by the auditor. Detection risk consists of two component risks:
The risk that analytical procedures and other relevant substantive tests would fail to detect misstatements (AP)
The allowable risk of incorrect acceptance (TD) for the substantive test of details
DR = AP × TD
Detection risk can never be reduced to 0 because the auditor cannot test 100% of the account balances and transactions.
75
Audit Risk
Audit risk is the risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated. Audit risk is a function of the risks of material misstatement and detection risk (AU-C Glossary).
Assessing audit risk involves the evaluation of the effectiveness of the entity's internal control system. An assessment of audit risk is the primary objective of obtaining an understanding of internal control and must be considered, along with materiality, in determining the nature, timing, and extent of auditing procedures and in evaluating the results of these procedures.
Audit risk (AR) consists of three component risks. They are inherent risk (IR), control risk (CR), and detection risk (DR): AR = IR × CR × DR.
76
Probability Proportional to Size
In probability-proportional-to-size (PPS) sampling, the strategy is to randomly select individual dollars from a population and then audit the balances, transactions, or documents—called logical units—that include the individual dollars selected.
77
Compliance Audit
For governmental entities, a compliance audit is required to fulfill the Single Audit Act, which requires the auditor of the entity to determine whether it has complied with laws and regulations that have a material effect on each major federal assistance program. OMB (Office of Management and Budget) Circular A-133 is the regulation that implements the Single Audit Act.
78
The Single Audit Act Amendment
The Single Audit Act Amendment of 1996, as implemented by OMB Circular A-133, is federal legislation that establishes uniform requirements for the audits of federal financial assistance provided to state and local governments. It requires state and local governments and not-for-profit organizations that expend total federal financial assistance equal to or in excess of $750,000 in a fiscal year to have an audit performed in accordance with the Act (as implemented by OMB Circular A-133).
79
SOX Section 203: Audit Partner Rotation
The lead audit partner who has performed audit services for the issuer must rotate out of that position if they have performed services for that issuer in each of the five previous fiscal years of that issuer in order for the registered public accounting firm to continue to provide audit services to the issuer.
80
SOX Section 105: Investigations and Disciplinary Proceedings
The PCAOB may investigate any act or practice, or omission to act, by a registered public accounting firm, any associated person of such firm, or both, that may violate any provision of the Sarbanes-Oxley Act, the rules of the PCAOB, the provisions of the securities laws relating to the preparation and issuance of audit reports and the obligations and liabilities of accountants with respect thereto, including the rules of the SEC issued under the SOX, or professional standards, regardless of how the act, practice, or omission is brought to the attention of the PCAOB.
81
Control Environment
The control environment sets the tone of an organization, influencing the control consciousness of its people. It is the foundation for all other components of internal control, providing discipline and structure.
82
Confirmation
Confirmation is direct communication with external independent parties to prove that balances (e.g., cash balances, accounts receivable, accounts payable, notes payable) are correct.
Confirmations provide evidence regarding existence, rights and obligations, and cutoff.
Examples of confirmations usually used include the following:
Banks—cash balances, loans, and guarantees
Customers—accounts receivable
Vendors/lenders/lessors—amounts and terms
Trustees/registrar—stock outstanding, investments held
Confirmations can be positive or negative. Positive confirmations require that the auditor receive a response, while negative confirmations are assumed to be correct unless returned to the auditor noting an exception. Responses should be sent directly to the auditor, not to the entity being audited. Negative confirmations should be used sparingly as there is some question as to their validity.
83
Inspection
Inspection is examination of records, documents, and tangible assets. Inspection provides evidence of varying degrees of reliability depending on the nature, source, and effectiveness of controls over the processing of the records and documents. Documentary evidence created and held by third parties is most reliable; created by third parties and held by the auditee is less reliable; created and held by auditee is least reliable. Inspection provides reliable evidence with respect to existence of tangible assets but not necessarily as to ownership or value.
Inspection is one of the seven basic methods of obtaining audit evidence. (The others are observation, inquiry, confirmation, reperformance, computation, and analytical review.)
84
Observation
Observation is looking at a process or procedures being performed by others. Observation is especially useful in the counting of inventory and in testing internal control procedures and computer processing of accounting data and other activities that do not leave an audit trail.
Observation is one of the seven basic methods of obtaining audit evidence (the others are inquiry, confirmation, inspection, reperformance, recalculation, and analytical review.) It may provide new information or corroborative evidence. A limitation on the auditor's ability to observe the taking of the physical inventory count may constitute a limitation of scope.
85
Application Controls
Application controls are designed to achieve specific control objectives related to specific accounting tasks. They pertain to the processing of individual applications.
Accordingly, application controls relate to the use of IT to initiate, authorize, record, process, and report transactions or other financial data.
86
Limit Test
A limit test or limit check is used to edit data during input or processing to validate data. The data is above an amount, below an amount, or between two amounts.
87
Validity Controls
Validity controls are designed to ensure that all recorded transactions are those that should have been recorded (i.e., that the transactions are real and actually occurred and are properly documented).
88
Emphasis of a Matter
An emphasis-of-matter or other-matter paragraph is an additional paragraph(s) added to the standard auditor's report to fulfill the need to add explanatory language to the report. The need for an emphasis-of-matter or other-matter paragraph may or may not affect the unmodified opinion.
89
Substantial Doubt
Substantial doubt is a term applied by an auditor to indicate his opinion, based upon sufficient appropriate audit evidence, that an entity may not be able to continue as a going concern beyond a year from the period being audited.
The absence of reference to substantial doubt in an auditor's report does not provide assurance as to an entity's ability to continue as a going concern, nor is an auditor required to perform audit procedures designed specifically to identify whether or not the entity may be able to continue as a going concern. However, an auditor may express substantial doubt in his audit of an entity if sufficient evidence indicates that the entity may not be able to continue as a going concern beyond a year from the period being audited.
90
Continuity
Under the concept of continuity, in the absence of evidence to the contrary, the entity is assumed to have an indefinite (“ongoing”) life—a life that is sufficiently indefinite and long for the entity to accomplish its objectives and fulfill its legal obligations and that provides the basis for the current/noncurrent balance sheet classification. A business entity that is no longer considered a going concern is assumed to be approaching, or in the process of, dissolution.
91
"Appropriate"
Appropriateness is the measure of the quality of audit evidence, that is, its relevance and its reliability in providing support for the conclusions on which the auditor's opinion is based.
92
Collusion
Collusion is an agreement to act together, especially for fraudulent or deceitful purposes. It may be open and explicit (overt collusion) or secret and implicit (tacit collusion).
Collusion, a microeconomic concept, may occur between two or a few individuals, as when they agree to commit fraud against their employer (a type of noncompliance with laws and regulations that auditors must be alert for), or between two or more firms, as they attempt to “fix” prices.
93
Contingent Fees
Contingent fees are fees dependent upon a specified finding or result. Accountants are forbidden by the Code of Professional Conduct from collecting contingent fees.
94
Negative Assurance
A negative assurance is a statement made by the auditor which says that, as a result of specified procedures, “nothing came to our attention which would indicate that specified matters do not meet a specified standard.” (AU-C Glossary)
As a general rule, auditors cannot use negative assurance when writing an attestation opinion on financial statements; this approach may, however, be used in certain engagements, such as comfort letters, special reports, applying agreed-upon procedures, and certain reports on compliance with laws and regulations and with contractual agreements. Negative assurances should never be used in an audit report.
95
Prospective Financial Information
Prospective financial information consists of financial estimates of future events that may be a forecast (the entity's expected future position and results of operations based on expected conditions and expected courses of action) or a projection (based on hypothetical assumptions).
96
Principal Auditor
The principal auditor is the auditor responsible for the greater portion of financial statements. The principal auditor may assume responsibility for the work of other auditors or divide responsibility with the other auditors.
97
Acid-test ratio
Quick Assets/Current Liabilities
98
Risk Assessment
Risk assessment is a systematic process of evaluating the potential risks that are involved in an audit or attestation engagement.
Risk assessment is one of the five components of internal control and the second level of the COSO pyramid depicting the structure of internal control. It is the identification and analysis of the risks that an entity faces in achieving its objectives and the determination of how those risks will be managed. All entities face risks from both internal and external sources. To be able to perform a risk assessment, the entity must have established its objectives.
99
COSO
“COSO” is the Committee of Sponsoring Organizations of the Treadway Commission, the National Commission on Fraudulent Financial Reporting.
100
Audit Program
An audit program is a written outline of work to be done during an audit. It may include a description of the scope, time to be allotted, personnel assignments, and procedures to be undertaken to serve as a guide for the auditor and the assistants. As the end result of the audit planning stage, this step-by-step plan is designed with the intent to help guide the auditors in gathering the evidence that underlies their conclusions and/or opinion.
101
GAO
Government Accountibility Office (GAO) standards incorporate AICPA GAAS but go further, requiring:
a review for compliance with applicable laws and regulations,
external reporting of instances or indication of fraud, and
reports on the entity's internal control structure.
These standards also contain guidelines for economy, efficiency, and program results audits.
102
Uncorrected Misstatements
Uncorrected misstatements should be documented in a manner that allows the auditor to:
(1) separately consider the effects of known and likely misstatements, including uncorrected misstatements identified in prior periods,
(2) consider the aggregate effect of misstatements on the financial statements, and
(3) consider the qualitative factors that are relevant to the auditor's consideration whether misstatements are material.
103
Materially Misstated
A material misstatement is an untrue statement that misrepresents the facts and which, by its magnitude or nature, influences the decision making of the user. A misstatement or misrepresentation is “material” if it relates to a matter upon which a party could be expected to rely in determining to engage in the conduct in question. The party who relies could be the plaintiff in a lawsuit of an investor or other user of financial data.
104
Misstatements
A misstatement is a reported amount that is over (overstated) or under (understated) the actual amount. It may result from errors (mistakes) or fraud. The objective of the audit is to detect any material misstatements that exist in the financial statements. Individual misstatements are aggregated and analyzed to determine if the aggregate is material to financial statement elements and as a whole. Judgments regarding audit risk depend on the level of misstatement that can be accepted (tolerable misstatement) before the misstatement is considered material.
105
Title III, Section 303, of the Sarbanes-Oxley Act
Title III, Section 303, of the Sarbanes-Oxley Act (SOX) prohibits any officer or director from taking any action to fraudulently influence, coerce, manipulate, or mislead any independent public or certified accountant engaged in the performance of the audit of the financial statements of the issuer.
106
Issuer
“Issuer” means an issuer (as defined in section 3 of the Securities Exchange Act of 1934 (15 USC 78c)), the securities of which are registered under section 12 of that Act (15 USC 781), or that is required to file reports under section 15(d) (15 USC 78o(d)), or that files or has filed a registration statement that has not yet become effective under the Securities Act of 1933 (15 USC 77a et seq.), and that it has not withdrawn. (Sarbanes-Oxley Act of 2002, Section 7201)
In simple terms, the Securities Exchange Act of 1934 defines “issuer” as an entity who issues or proposes to issue any security, with some noted exceptions.
107
Mean-per-unit estimation
A classical variables sampling plan enabling the auditors to estimate the average dollar value (or other variable) of items in a population by determining the average value of items in a sample.
108
AFRF
Applicable financial reporting frameworks (AFRF) are the principal laws and regulations used by management and those charged with governance in the preparation of the financial statements of an entity.
All requirements found in the applicable financial reporting framework are appropriate as long as the financial statements comply with all the requirements found in the applicable financial reporting framework.
109
Significant Deficiency
The standard (AU-C Glossary) defines a significant deficiency as a deficiency, or a combination of deficiencies, in internal control that is less severe than a material weakness, yet important enough to merit attention by those charged with governance.
110
Check Digit
A check digit is a specific type of input control, consisting of a single digit at the end of an identification code that is computed from the other digits in a field. If the identification code is mis-keyed, a formula or algorithm will reveal that the check digit is not correct, and the field will not accept the entry.
111
RSI
The auditor has an obligation to apply limited procedures to and report deficiencies in the required supplementary information (RSI), as the information is considered by the Government Accounting Standards Board (GASB) to be an essential part of the financial reporting package. The CPA should inquire of management and consider if the information is consistent with the audited financials and other information obtained during the audit. The auditor should also consider whether or not the RSI should be covered in the representation letter from management. There is no need to apply substantive tests of transactions to the supplementary information.
112
Financial Reporting other than GAAP
Financial records are maintained and reported according to a basis other than GAAP. A comprehensive basis of accounting other than GAAP is one of the following:
- A basis of accounting that the entity used to comply with the requirements or financial reporting provisions of a governmental regulatory agency to whose jurisdiction the entity is subject (e.g., pursuant to the rules of a state insurance commission)
- A basis of accounting used to file income tax returns for the period covered by the financial statements
- The cash receipts and disbursements basis of accounting, and modifications of the cash basis when such modifications are substantially supported, such as recording depreciation on fixed assets or accruing income taxes
- A definite set of criteria having substantial support that is applied to all items appearing in financial statements, such as the price level basis of accounting
113
Special-Purpose Financial Statements
Special-purpose financial statements are financial reports, such as offering statements, budgets, and reports filed with federal grantor agencies or senior levels of government, issued to satisfy the specific needs of specific users.
These statements are generally used for the following:
1) To meet specific legal or contractual requirements
2) To present financial statements using a basis of accounting that differs from GAAP
3) To present financial information in prescribed formats
4) To report on specified elements, accounts, or items taken from the general purpose financial statements
114
Workpapers
Workpapers document the work done and conclusions reached by the auditor, showing procedures applied, tests performed, information obtained, and pertinent conclusions reached (AU-C 230).
The quantity, form, and content of workpapers will vary depending on the circumstance. They should, however, be sufficient to show that the accounting records agree, or reconcile, with the financial statements. Workpapers should show the following:
- The audit work was adequately planned and supervised.
- A sufficient understanding of the entity and its environment, including its internal control, was obtained.
- The audit evidence obtained provides sufficient appropriate audit evidence to provide a reasonable basis for an opinion.
- Workpapers are the property of the auditor.
115
Existence
Existence is a management assertion that assets and liabilities are real and exist at a specific date
116
Auditability
The determination of the auditability of an entity is one of the first matters the auditor considers in the initial planning for an audit engagement and before accepting it. One of the requisites of auditability is the availability of adequate, i.e., sufficient, reliable accounting records. Without adequate accounting records, auditors may not be able to obtain sufficient appropriate audit evidence to support an opinion on the entity's financial statements.
117
Evidence
Evidence is the requirement of the auditor to obtain sufficient appropriate audit evidence to provide a reasonable basis for an opinion on financial statements. Audit evidence begins with the client's accounting records; however, the client's accounting records alone are not considered sufficient or appropriate enough to support an opinion. The auditor must obtain and analyze evidence from external sources (e.g., confirmations) and through personal observation and inspection (e.g., physical inventory), recalculation, inquiry, reconciliation, and other testing methods to corroborate the accounting records.
Sufficiency of audit evidence is the measure of the quantity of audit evidence. Appropriateness of audit evidence is the measure of the quality of audit evidence
118
Interim Financial Information
Interim financial information is financial information prepared and presented in accordance with an applicable financial reporting framework that comprises either a complete or condensed set of financial statements covering a period or periods less than one full year or covering a 12-month period ending on a date other than the entity's fiscal year-end
119
Test of Controls
Test of controls provides evidence on a sample basis about the presence or absence of a control condition. It is a sampling plan used to estimate the rate of occurrence of a specific quality (attribute) in the population.
120
Perpetual Inventory System
The perpetual inventory system is a method of measuring the physical quantities in inventory under which the units received (manufactured) and issued (sold) are recorded continuously during the accounting period. Costs may also be determined continuously or determined only at the period-end. The current, up-to-the-minute quantity on hand is known at all times. (Contrast to Periodic Inventory System.) Perpetual inventory is analogous to an online, real-time processing system. Physical count is not necessary except as a check on the accounting system. (This check is usually achieved by cycle counts, which are periodic counts of selected items.) Any difference found is charged to an inventory overage/shortage account.
121
SQCS
The elements of a CPA firm's quality control system are identified in Statement on Quality Control Standards (SQCS) 7 as:
- leadership responsibilities for quality within the firm,
- relevant ethical requirements,
- acceptance and continuance of client relationships and - - specific engagements,
- human resources,
- engagement performance, and
- monitoring.
122
Section 102 of SOX Title I, “Registration with the Board”
Section 102 dictates that public accounting firms performing audits on issuers must register with the Public Company Accounting Oversight Board (PCAOB). The registration includes:
- a statement of the firm's quality control policies,
- a list of the names and license numbers of all accountants associated with the firm,
- information regarding criminal, civil, or administrative actions or disciplinary proceedings against the firm (or any person in the firm), and
- consent from the firm to cooperate and comply with any request made by the PCAOB in furtherance of its authority and responsibilities.
Once registered, the firm must submit annual reports along with registration and annual fees to the PCAOB.
123
Consulting Services
Consulting services refer to providing advisory services. An organization or individual that provides consulting services generally provides advice. Consultants generally do not remain to implement their advice. Examples of consulting services include marketing consultants, personnel consultants, attorneys, and accountants.
124
Audit Objective
Another name for the goal of the audit procedures used to obtain evidence about the dollar amounts and disclosures presented in the financial statements is the audit objective. The primary, overriding audit objective is to express an opinion on the fairness, in all material respects, with which the financial statements present the financial position, results of operations, and cash flows in conformity with an applicable financial reporting framework.
Practical or specific audit objectives relate to and are developed in light of the assertions of management embodied in the financial statements. These specific objectives are to obtain and evaluate sufficient appropriate audit evidence regarding the assertions.
125
Operational Audit
An operational audit is the auditor's study of business operations for the purpose of making recommendations about economic and efficient use of resources, effective achievement of business objectives, and compliance with company policies. An operational audit's goal is to help management discharge their responsibilities and improve profitability.
Operational audits are frequently performed by internal auditors. They may also be performed by independent accountants as Management Advisory Services (MAS) engagements. Governmental and not-for-profit entities are often most interested in operational audits.
126
Integrated Test Facility
A company may process most of its business transactions through an electronic data processing (EDP) system. In such case, the controls over the processing must be adequate to safeguard assets and provide reliability in the output produced. One of the methods of testing the controls over the processing is with an integrated test facility.
In an integrated test facility, test data is developed and integrated into the live processing of actual data resulting from business transactions. By assessing the results of the test data at the same time this data is processed with actual data, the auditor can help ensure that the data processed was reliable.
127
Parallel Simulation
In parallel simulation, the auditor runs duplicate processing of the same information, and compares results obtained from the duplicate program with the actual data processed by the client system. It is used to test the processing of information by the client's system.
128
Test Data
Test data is data specifically designed and developed to test the accuracy and completeness of a computer program.
129
Percentage of Coverage Rule
Percentage of coverage: Under the “percentage-of-coverage rule” that is included in the Single Audit Act Amendments of 1996, the auditor must determine the program type (major and low risk) and testing coverage:
(1) Major programs must be audited. These are programs that account for at least 40% of the federal funding spent by that entity.
(2) Low-risk programs allow for a percentage-of-coverage exception: When an entity qualifies as low risk, the scope of audits under the “percentage of coverage” rule in the Single Audit Act Amendments of 1996 can be reduced to as low as 20% of the federal funding spent by the entity.
130
Audit Opinion
An audit opinion is a statement about the correspondence between assertions by others (usually quantifiable information) and established criteria. Specifically, in the case of an audit of historical financial statements, it is a statement that the financial statements examined do (or do not) present a true and fair view (“present fairly”) in accordance with the basis of accounting indicated. An audit opinion is based on results of procedures designed to obtain reasonable assurance as to the reliability of the assertion and adds credibility to the financial information by providing high, but not absolute, assurance.
Opinions may be unmodified or modified (qualified, adverse, disclaimed, or with added emphasis of a matter).
131
LCA
Litigation, Claims, and Assessments
The auditor should perform procedures to identify possible litigation, claims, and assessments (LCA) by:
- discussing with management the policies and procedures that management uses for identifying, evaluating, and accounting for LCA;
- obtaining a list of all LCA from management, along with assurance that all LCA have been disclosed; and
- examining documents in the client's possession that would contain information concerning LCA.
132
Documentation
In computing, documentation is the instructions for operators, descriptions of procedures, and other descriptive material about a program or a system. These instructions can be classified as administrative, systems, or operating.
In systems analysis, documentation is the preparation and production of documents for system analysis, programming, and system operation. Good documentation is essential to system maintenance and modification.
In auditing, documentation is the use of documentary evidence to support or substantiate a claim or opinion. Documentary evidence (in an accounting sense) includes checks, invoices, contracts, and minutes of meetings. Documentary evidence may also include third-party documents such as bank statements or escrow account balances held by banks.
133
SOX Section 206: Conflicts of Interest
Section 206 of SOX Title II amends Section 10A of the Securities Exchange Act of 1934 by preventing a registered public accounting firm from performing an audit of issuer financial statements if a CEO, controller, CFO, CAO, or any equivalent position was employed at the registered public accounting firm and participated in the audit of the entity during the 1-year period preceding the date of the initiation of the audit.
Cooling-off period
134
Deviation
A deviation is a negative response to a confirmation request, such as when a customer disagrees with the account balance as shown on the confirmation request.
Deviation is departure from a prescribed internal control.
