understanding entity

Question 1

Internal Control

Answer 1

An entity’s systems and policies designed to enable management to meet its objectives related to (ACE) Accurate and reliable financial reporting, Compliance with applicable laws and regulations and Efficient and effective operations.

Question 2

5 components of Internal Control (CRIME)

Answer 2

Internal Control Components (CRIME)
Control Activities
Risk Assessment
Information and Communication
Monitoring
Control Environment

Question 3

Control Environment

Answer 3

The “tone at the top.” 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. (CHOPPER)
Commitment to competence
Human resources policies & practices
Organizational structure
Participation of those charged with governance
Philosophy and operating style of management
Ethical values and integrity Responsibility assignment

Question 4

Risk Assessment

Answer 4

An entity’s identification and analysis of the internal and external risks that may interfere with the achievement of management’s objectives, including the requirement for reliable financial reporting and the preparation of fairly presented financial statements.

Question 5

Control Activitie

Answer 5

Specific policies and procedures designed to manage identified risks to help ensure management directives are carried out, including achieving the objective of reliable financial reporting.

Question 6

Information and Communication

Answer 6

The component of internal control that makes certain that management’s instructions are communicated and that there is a flow of information in all directions within the entity to enhance the efficiency and effectiveness of operations and ensure the transparency and fairness of financial reporting.

Question 7

Monitoring

Answer 7

The ongoing evaluation of internal controls to make certain that they are effective, functioning as intended, and that they remain relevant.

Question 8

Steps in “understanding” the internal control structure

Answer 8

Step 1 - Obtain an understanding of the design of internal control (perform risk assessment procedures - CRIME).
Step 2 - Document the understanding of Internal Control.
Step 3 - Assess Risk of Material Misstatement (RMM = IR x CR).
Step 4 - Perform tests of those controls the auditor intends to rely upon.
Step 5 - Reassess RMM based on tests of controls and evaluate results.
Step 6 - Document conclusions and determine the effect on the planned substantive procedures

Question 9

Segregation of Duties

Answer 9

Assigning different people to different responsibilities such that no individual is responsible for any two of the four key components of business transactions, Authorization, Recording, Custody of resources, and Comparison or reconciliation (ARCC)

Question 10

Tests of Controls

Answer 10

Audit procedures in the form of Reperformance, Inspection, Inquiry and Observation (RIIO), designed to determine whether controls are in place, operating as designed, and effective in the prevention or timely detection and correction of misstatements that could be material to the financial statements.

Question 11

Inherent limitations in an internal control environment

Answer 11

Internal control might not be effective because of (COP):
Collusion (employees conspire to circumvent controls)
Override by management
Poor human judgment and errors

Question 12

Reasonable assurance

Answer 12

The costs of the internal control structure should not exceed the benefits.

Question 13

Flow of transactions

Answer 13

A good system of internal control is SACRED.
Start – Some event or circumstance initiates a transaction.
Authorization – Confirm legitimate counter party or event.
Completion or execution – Policies in place to ensure intended execution.
Recording – Ensure all transactions are recorded in F/S.
Evaluate Defenses – Checks and balances to verify appropriate functioning.

Question 14

Revenue Cycle

Answer 14

A set of procedures that are followed by a business entity in generating sales, earning revenues, billing customers, and collecting and depositing cash receipts.

Question 15

Spending Cycle

Answer 15

A business cycle that deals with ordering, receiving, and paying for goods or services including purchases of inventory on account, and cash disbursements.

Question 16

Personnel & Payroll Cycle

Answer 16

A business cycle that deals with the hiring and termination of employees, paying employees, and administering changes in pay rates.

Question 17

Service Organization

Answer 17

An organization that provides services to user entities that are relevant to those user entities’ internal control over financial reporting, such as the use of an outside entity to process payroll.

Question 18

Service Auditor

Answer 18

The auditor of a service organization who issues a report on the internal control of the service organization for the user organization’s auditor to consider in assessing the internal control structure of the user organization.

Question 19

Investing & Financing Cycle

Answer 19

A business cycle that deals with the acquisition and disposal of assets other than inventory, including investments and property, plant, and equipment, as well as transactions with creditors and shareholders.

Question 20

Internal Control Questionnaire (ICQ)

Answer 20

A series of “yes” or “no” questions relating to control activities used to document an auditor’s understanding of internal control, where a “no” answer generally indicates a potential control deficiency. (PRAISE)
Physical controls
Recording
Authorization
Independent checks
Segregation of duties (ARCC)
Evaluate performance

Question 21

Production & Conversion Cycle

Answer 21

A business cycle that deals with manufacturing operations and converting raw materials into finished goods.