Flashcards
Auditing Revision
Cards in this deck (49)
- 1Why do auditors need to have knowledge of accounting to be effective auditors?Accounting is the recording, classifying, and summarizing of economic events to provide relevant information used in decision-making. The rules of accounting are the criteria used by the auditor for evaluating the presentation of economic events for financial statements and the auditor must, therefore, have an understanding of accounting standards, as well as auditing standards.
- 2Explain how the increased use of fair value accounting might increase information risk.Information risk is the risk that information upon which a business decision is made is inaccurate. Fair accounting often is based on estimates and requires judgment. The fair value might be estimated using multiple methods with some estimates being more subjective than others. Fair value estimates are made at a point in time, but can also change rapidly, depending on market conditions. All of these factors increase information risk.
- 3What is meant by determining the degree of correspondence between information and established criteria?To do an audit, there must be information in a verifiable form and some standards (criteria) by which the auditor can evaluate the information. Determining the degree of correspondence between information and established criteria is determining whether a given set of information is in accordance with the established criteria
- 4What are the criteria for an audit of a company's financial statements?For an audit of a company's financial statements, the criteria are U.S. generally accepted accounting principles or IFRS.
- 5What are the three different ways to reduce information risk?1. User verifies information
2. User shares information risk with management
3. Audited financial statements are provided - 6What are the advantages and disadvantages of user verifying the information?Advantages: 1) User obtains information desired 2) User can be more confident of the qualifications and activities of the person getting the information. Disadvantages: 1) High cost of obtaining information 2) Inconvenience to the person providing the information because a large number of users would be on premises.
- 7What are the advantages and disadvantages of user sharing the information risk with management?Advantages: No audit cost incurred Disadvantages: User may not be able to collect on losses
- 8What are the advantages and disadvantages of audited financial statements being provided?Advantages: 1) Multiple users obtain the information 2) Information risk can be reduced sufficiently to satisfy users at reasonable cost 3) Minimal inconvenience to management by having only one auditor. Disadvantages: 1) May not meet the needs of certain users 2) Cost may be higher than the benefits in some situations, such as for a small company.
- 9Discuss changes in accounting and business operations over the last decade that have increased the need for independent audits.An independent audit is a means of satisfying the need for reliable information on the part of decision makers. Recent changes in accounting and business operations include: Increased global activities of many businesses: Multiple product lines and transaction location, Foreign exchange affects transaction. Complex accounting and exchange transactions Increasing use of derivatives and hedging activities: Increasingly complex accounting standards in areas such as revenue recognition. More complex information systems: Possibly millions of transactions processed daily through online and traditional sales channels. Voluminous data requires interpretation.
- 10Evidence is paramount to audit and attestation engagements. List the four basic types of audit evidence.1. Electronic and documentary data about transactions
2. Written and electronic communication with outsiders
3. Observation by the auditor
4. Oral testimony of the auditee - 11What is the role of an accountant?The role of accountants is to record, classify, and summarize economic events in a logical manner for the purpose of providing financial information for decision making. To provide relevant information, accountants must have a thorough understanding of the principles and rules that provide the basis for preparing the accounting information. In addition, accountants must develop a system to ensure that the entity's economic events are properly recorded on a timely basis and at a reasonable cost.
- 12What is the role of an auditor?The role of auditors is to determine whether the recorded information prepared by accountants properly reflects the economic events that occurred during the accounting period. Because US or international standards provide the criteria for evaluating whether financial information is properly recorded, auditors must thoroughly understand those accounting standards. In addition to understanding accounting, the auditor must possess expertise in the accumulation and interpretation of audit evidence. It is this expertise that distinguishes auditors from accountants. Determining the proper audit procedures, deciding the number and types of items to test, and evaluating the results are unique to the auditor.
- 13Two types of attestation services provided by CPA firms are audits and reviews. Discuss the similarities and differences between these two types of attestation services. Which type provides the least assurance?In both the review and audit of the historical financial statements, management asserts that the statements are fairly stated in accordance with accounting standards. The CPA provides a lower level of assurance for reviews of financial statements compared to the high level for audits, therefore less evidence is needed. A review is often adequate to meet financial statement users' needs. It can be provided by a CPA firm at a much lower fee than an audit because less evidence is needed.
An audit is the most common assurance service provided by CPA firms. Publicly traded companies in the US are required to have audits under the federal securities acts. Many nonpublic companies have a review to limit auditor fees. - 14What are the four categories of attestation services?1) Audit of historical financial statements
2) Audit of internal control over financial reporting
3) Review of historical financial statements
4) Attestation services on information technology
5)Other attestation services that may be applied to a broad range of subject matter. - 15Discuss the similarities and differences between financial statement audits, operational audits, and compliance audits.Financial statement audits, operational audits, and compliance audits are similar in that each type of audit involves accumulating and evaluating evidence about information to ascertain and report on the degree of correspondence between the information and established criteria and/or procedures, rules, or regulations. The differences between each type of audit are the information being examined and the criteria used to evaluate the information.
- 16To perform an audit, it is necessary for the information to be in a verifiable form and there must be some criteria by which the auditor can evaluate the information. Detail the information and criteria that would be used when (A) an independent CPA firm audits a company's historical financial statements. (B) an Internal Revenue Service auditor audits that same company's tax return. (C) an internal auditor performs an operational audit to evaluate whether the company's computerized payroll processing system is operating efficiently and effectively.(A) The information used by a CPA firm in a financial statement audit is the financial information in the company's financial statements. The most commonly used criteria are accounting principles generally accepted in the United States.
(B) The information used by an IRS auditor is the financial information in the company's federal tax return. The criteria are the internal revenue code and interpretations.
(C) The information used by an internal auditor when performing an operational audit of the payroll system could include various items such as the number of errors made, costs incurred by the payroll department, and the number of payroll records processed each month. The criteria would consist of company standards for departmental efficiency and effectiveness. - 17Match the engagement described to the (A) type of audit and (B) auditor that would most likely perform the engagement. Each engagement will have an answer from List-A and List-B. An answer can be used once, more than once, or not at all. List A: Type of Audit: a)Financial Statement, b)Compliance, c)Operational List B: Type of Auditor: d)Internal, e)External, f)Government, g)IRS Engagement: 1. Evaluate a company's payroll processing for economy. 2. Evaluate/determine if bank covenants are being met. 3. Evaluate financial statements that are to be submitted to a bank. 4. Evaluate the promptness of materials inspection in a manufacturer's receiving department. 5. Determine if Medicare reimbursements are in accordance with the Healthcare Financing Administration (HCFA) 6. Determine if the tax return of a multinational corporation is in accordance with the tax code. 7. Determine if a public school is properly applying their reimbursement for the payment-in-kind program. 8. Determine the effectiveness of a Department of Defense project.1. c, d
2. b, d
3. a, e
4. c, d
5. b, f
6. b, g
7. b, e
8. c, f - 18Discuss the similarities and differences between the roles of independent auditors, GAO auditors, internal revenue agents, and internal auditors.The roles of all four types of auditors are similar in that they involve the accumulation and evaluation of evidence about information to ascertain and report on the degree of correspondence between the information and established criteria. The differences in their roles centre around the information audited and the criteria used to evaluate that information. Independent auditors primarily audit companies' financial statements. GAO auditors' primary responsibility is to perform the audit function for Congress. IRS auditors are responsible for the enforcement of federal tax laws. Internal auditors primarily perform operational and compliance audits for their employing company.
- 19List and discuss the three primary requirements to become a CPA.The three primary requirements for becoming a CPA are:
• Educational requirement. Normally, an undergraduate degree or a graduate degree with a major in accounting, including a minimum number of accounting credits is required. Most states now require 150 semester hours for licensure. Some states require fewer credits before taking the examination, but require 150-semester credits before receiving the CPA certificate.
• Uniform CPA examination requirement. This is a four-part, computer-based examination with components on auditing and attestation, financial accounting and reporting, regulation, and business environment and concepts. Some states also require a separate ethics requirement.
• Experience requirement. The experience requirement varies from state to state with some states requiring no experience, while other states require up to two years of audit experience. - 20Distinguish between a qualified opinion, an adverse opinion, and a disclaimer of opinion, and explain the circumstances under which each is appropriate.A qualified opinion states that there has been either a limitation on the scope of the audit of material accounts, transactions, or disclosures or a material departure from GAAP in the financial statements, but that the auditor believes that the overall financial statements are fairly presented. This type of opinion may not be used if the auditor believes the exceptions being reported upon are extremely material, in which case a disclaimer or adverse opinion would be used.
An adverse opinion states that the auditor believes the overall financial statements are so materially misstated or misleading that they do not present fairly in accordance with GAAP the financial position, results of operations, or cash flows.
A disclaimer of opinion states that the auditor has been unable to satisfy himself or herself as to whether or not the overall financial statements are fairly presented because of a significant limitation of the scope of the audit, or a non- independent relationship under the AICPA Code of Professional Conduct between the auditor and the client. - 21What four circumstances are required for a standard unmodified opinion audit report to be issued?1. All statements - balance sheet, income statement, statement of changes in stockholders' equity, and statement of cash flows - are included in the financial statements
2. Sufficient appropriate evidence has been accumulated, and the auditor has conducted engagement in a manner to conclude that the audit was performed in accordance with auditing standards
3. Financial statements are presented in accordance with accounting standards- IFRS for the US, GAAP for most others
4. No circumstances requiring the addition of an emphasis-of-matter paragraph or modification of the wording of auditor's opinion in the report. - 22Why would the management of a company feel alarmed if the auditors decided to publish an adverse audit report?An "adverse" opinion means the auditor finds one or both of the following:
- Statements do not fairly represent the entity's account. / The audited statements do not comply with accounting standards GAAP or local accounting rules. An adverse opinion has severe consequences for the reporting entity. At a minimum, the conclusion ensures that investors, regulators, lenders, and governments will reject the reports and the company would find it difficult to file the FSs with the Registrar of Company and other authorities without serious queries. Also, if the audit reveals illegalities, corporate officers may be held personally accountable - 23Explain why auditors' reports are important to users of financial statements and why it is desirable to have standard wording.Auditors' reports are important to users of financial statements because they inform users of the auditor's opinion as to whether or not the financial statements are fairly stated or whether no conclusion can be made with regard to the fairness of their presentation. Users especially look for any deviation from the wording of the standard unmodified report and the reasons and implications of such deviations. Having standard wording improves communications for the benefit of users of the auditor's report. When there are departures from the standard wording, users are more likely to recognize and consider situations requiring modification or qualification to the auditor's report or opinion.
- 24What are the purposes of the opinion paragraph in the auditor's report? Identify the most important information included in the opinion paragraph.The purpose of the opinion paragraph is to state auditor's conclusions based on the results of the audit. The most important information included in the opinion paragraph is as follows:
1) The phrase "In our opinion", which indicates conclusions are based on professional judgment and there might be some potential information risk associated with financial statements.
2) A statement about whether the financial statements are presented fairly and in accordance with generally accepted accounting principles along with the identification of the fiscal year(s) associated with those FSs. - 25Define materiality as it is used in audit reporting. What conditions will affect the auditor's determination of materiality?The common definition of materiality as it applies to accounting and therefore, to audit reporting is: A misstatement in the FSs can be considered material if knowledge of the misstatement would affect a decision of a reasonable user of the statements. Conditions that affect the auditor's determination of materiality include: Potential users of the financial statements Dollar amounts of the following items: net income before taxes, total assets, current assets, current liabilities, and owners' equity Nature of the potential misstatements-certain misstatements, such as fraud, are likely to be more important to users of the financial statements than other misstatements.
- 26Discuss the differences between errors, frauds, and illegal acts. Give an example of each.The primary difference between errors and fraud is that errors are unintentional misstatements of the financial statements, whereas fraud is intentional misstatements. Illegal acts are violations of laws or government regulations, other than frauds. An example of an error is a mathematical mistake when footing the columns in the sales journal. An example of fraud is the creation of fictitious accounts receivable. An example of an illegal act is the dumping of toxic waste in violation of the federal environmental protection laws
- 27Discuss the actions an auditor should take when an illegal act is identified or suspected.1. Consider the effects of the illegal act on the financial statements
2. Communicate with those charged with governance matters involving noncompliance with laws and regulations that came to the auditors attention
3. Identify whether responsibility exists to report the identified or suspected noncompliance to parties outside the entity
4. If the noncompliance has a material effect and has not been adequately reflected in the financial statements, the auditor should issue a qualified or adverse opinion - 28Discuss the differences in the auditor's responsibilities for discovering 1) material errors, 2) material fraud 3) illegal acts having a direct effect on the financial statements, and 4) illegal acts that do not have a direct effect on the financial statements.Auditing standards make no distinction between the auditor's responsibilities for searching for errors and fraud. In either case, the auditor must obtain reasonable assurance about whether the statements are free of material misstatement. The standards also recognize that fraud is usually more difficult to detect because management or the employees perpetrating the fraud attempt to conceal it. Still, the difficulty of detection does not change the auditor's responsibility to properly plan and perform the audit to detect material misstatements, whether caused by error or fraud. The auditor's responsibility for uncovering illegal actions that have a direct effect on the FSs is the same as for errors and fraud. However, the auditor is not required to search for illegal acts that do not have a direct effect on the FSs unless there is a reason to believe they exist.
- 29Recent academic research on the topic of professional scepticism suggests that there are six characteristics to scepticism. List and briefly describe each of these characteristics.The six characteristics of scepticism are:
1) Questioning mindset- a disposition to inquiry scepticism some sense of doubt
2) Suspension of judgment- withholding judgment until appropriate evidence is obtained
3) Search for knowledge is a desire to investigate beyond the obvious, with a desire to corroborate. 4) Interpersonal understanding- recognition that people's motivations and perceptions can lead them to provide biased or misleading information 5) Autonomy- self-direction, moral independence, and conviction to decide for oneself, rather than accepting the claims of others
6) Self-esteem- the self-confidence to resist persuasion and to challenge assumption or conclusions. - 30Auditors should be alert for potential judgment tendencies, traps, and biases that may impact their decision-making process. Identify and define four of these judgment tendencies. Then, for each judgment tendency, suggest a way to avoid or mitigate the tendency.1- Confirmation: It is the tendency to put more weight on information that is consistent with initial beliefs or preferences. The strategy to avoid is to consider potentially disconfirming or conflicting information
2- Overconfidence: The tendency to overestimate one's own abilities to perform tasks or to make accurate assessments of risks or other judgments and decisions. To avoid it, the auditor needs to challenge opinions and experts and underlying assumptions.
3- Anchoring: The tendency to make assessments by starting from an initial value and then adjusting insufficiently away from that initial value. To avoid it, the Auditor needs to solicit input from others and consider management bias, including the potential for fraud and material misstatements.
4- Availability: The tendency to consider information that is easily retrievable or what's easily accessible as being more likely or more relevant. To avoid it, the auditor should consider why something comes to mind, obtain and consider objective data and consult with others and make the opposing case. - 31What are the four major decisions the auditor must make regarding what evidence to gather and how much to accumulate?1. Which audit procedures to use?
2. What sample size to select for a given procedure?
3. Which items to select from the population?
4. When to perform the procedures? An audit program includes all of the above information for a given audit.
Nevertheless, each audit has a unique audit program based on the circumstances of the client. The audit program details what procedures are to be conducted, the samples sizes, and the timing of the procedures. As the procedures are completed, the auditor ''signs off'' on the procedure in the audit program by initialling - 32Discuss the following characteristics of relevant evidence. 1) Independence of provider 2) Effectiveness of the client's internal controls 3) Auditor's direct knowledge1. Independence of provider- Evidence obtained from a source outside the entity is more reliable and persuasive than that obtained from within.
2. Effectiveness of the client's internal controls- When a client's internal controls are effective, evidence obtained is more reliable than when the controls are not effective
3. Auditor's direct knowledge- Evidence obtained directly by the auditor through physical examination, observation, computation and inspection is more reliable than information obtained indirectly. - 33Discuss the following characteristics of relevant evidence: qualification of individuals providing the information, degree of objectivity, timeliness1. Qualifications of individuals providing the information- although the source of information is independent, the evidence with not be reliable unless the individual providing it is qualified to do so. Communications from attorneys and bank confirmations are typically more highly regarded than accounts receivable confirmation from persons not familiar with the business world. Also, evidence obtained directly be the auditor may not be reliable if the auditor lacks the qualifications to evaluate evidence.
2. Degree of objectivity- objective evidence is more reliable than evidence that requires considerable judgment to determine whether it is correct.
3. Timeliness- timeliness of audit evidence can refer either to when it is accumulated or to the period covered by the audit. Evidence is usually more reliable for balance sheet accounts when it is obtained as close to the balance sheet date as possible - 34Identify the eight major steps in planning audits.(1) Accept client and perform initial audit planning, (2)Understand the client business and industry,
(3) Perform preliminary analytical procedure, (4)Set preliminary judgement of materiality and performance materiality,
(5) Identify significant risk due to fraud or error,
(6) Asses inherit risk,
(7) Understand internal control and assess control risk,
(8) Finalize overall audit strategy and audit plan - 35Explain why it is important to read the client's minutes of the board of directors meetings early in the engagement.It is important to read the minutes early in the engagement to identify items that need to be followed up on as a part of conducting the audit. For instance, if a long-term loan is authorized in the minutes, the auditor will want to make certain that the loan is recorded as part of long-term liabilities.
- 36Define client business risk and describe several sources of client business risk. What is the auditor's primary concern when evaluating client business risk?Business risks relate exclusively to the company and its stakeholders. The risks include any factors that could lead to business failure. Auditors need to understand the client's business and industry because the nature of the business and industry affect business risk and the risk of material misstatements in the financial statements. Auditors use the knowledge of these risks to determine the appropriate extent of further audit procedures.
- 37Describe the purpose of corporate codes of conduct and identify three examples of items addressed in a typical code of conduct.The corporate code of conduct establishes the "tone at the top" of the
importance of honesty and integrity and can also provide more specific guidance
about permitted and prohibited behaviour. Examples of items typically addressed
in a code of conduct include:
-expectations of general employee conduct,
-restrictions on conflicts of interest,
-limitations on relationships with clients
and suppliers. - 38What sources are used by the auditor to gather information to assess fraud risks?Auditors use several sources to gather information about fraud risks, including:
-Information obtained from communications among audit team members about their knowledge of the company and its industry, including how and where the company might be susceptible to material misstatements due to fraud.
-Responses to auditor inquiries of management about their views of the risks of fraud and about existing programs and controls to address specific identified fraud risks
-Specific risk factors for fraudulent financial reporting and misappropriation of assets.
-Analytical procedures results obtained during planning that indicate possible implausible or unexpected analytical relationships
-Knowledge obtained through other procedures such as client acceptance and retention decisions, an interim review of financial statements, and consideration of inherent or control risks. - 39What should the audit team consider in its planning discussion about fraud risks?1. How and where they believe the entity's fs might be susceptible to material misstatement due to fraud. This should include consideration of known external and internal factors affecting the entity that might
a) create an incentive or pressure for management to commit fraud
b) provide the opportunity for fraud to be perpetrated
c) indicates a culture or environment that enables management to rationalize fraudulent acts
2. How management could perpetrate and conceal fraudulent financial reporting.
3. How assets of the entity could be misappropriated
4. How the auditor might respond to the susceptibility of material misstatements due to fraud - 40Auditors are required to make inquiries of individuals in the company when gathering information to assess fraud risk. Identify those with whom the auditor must make inquiries.Auditors must inquire whether management has knowledge of any fraud or suspected fraud within the company.
Auditing standards also require auditors to inquire of the audit committee about its views of the risks of fraud and whether the audit committee has knowledge of any fraud or suspected fraud.
If the entity has an internal audit function, the auditor should inquire about internal audit's views of fraud risks and whether they have performed any procedures to identify or detect fraud during the year.
Auditing standards further require the auditor to make inquiries of others within the entity whose duties lie outside the normal financial repoting lines of responsibility about the existence or suspicion of fraud - 41What are the three categories of auditor responses to fraud risks?1)Change the overall conduct of the audit to respond to identified fraud risks
2)Design and perform audit procedures to address identified risks
3) Perform procedures to address the risk of management override of controls - 42Describe the nature of the following documents and records and explain their use in the sales and collection cycle: customer order, sales invoice, pre-listing of cash receipts, and monthly statement to customers.a. The customer order is a request from the customer indicating the
quantity and the description of the merchandise ordered.
b. A sales invoice is a document indicating the description and
quantity of goods sold, the price including freight, insurance,
terms, and other relevant data. It is the method of indicating to the
customer the amount owed for the sale and the due date of the
payments. The original is sent to the customer and one or more
copies are retained. The sales invoice is the document for recording
sales in the accounting records.
c. A prelisting of cash receipts is a list prepared when cash is
received by someone who has no responsibility for recording
sales, accounts receivable, or cash and who has no access to
accounting records. It is used to verify whether cash received was
recorded and deposited at the correct amounts and on a timely
basis.
d. The monthly statement to customers is the document prepared
monthly and sent to each customer indicating the beginning balance
of that customer's accounts receivable, the amount and date of - 43Describe the bill of lading and explain its use in the sales and collection cycle:The bill of lading is a document prepared at the time of shipment of
goods to a customer indicating the description of the merchandise,
the quantity shipped, and other data. Formally, it is a written
contract of the shipment and receipt of goods between the seller
and carrier. It is also used as a signal to bill the client. The original
is sent to the customer and one or more copies are retained. - 44Describe the credit memo and explain its use in the sales and collection cycle:The credit memo is a document indicating a reduction in the
amount due from a customer because of returned goods or an
allowance granted. It often takes the same general form as a
sales invoice, but it reduces the customer's accounts receivable
balance rather than increasing it. - 45Describe the remittance advice and explain its use in the sales and collection cycle:Remittance advice is a document mailed to the customer and
typically returned to the seller with the customer's payment. It
indicates the customer name, the sales invoice number, and the
amount of the invoice. Remittance advice is used as a record of
the payment received to permit the immediate deposit of checks received and to improve control over the custody of assets. - 46Describe the accounts receivable and explain its use in the sales and collection cycle:The accounts receivable trial balance is a report from the accounts receivable master file that shows the amount receivable from each customer at a point in time. An aged trial balance includes the total balance outstanding and the number of days the receivable has been outstanding, grouped by category of days (such as less than 30 days, 31 to 60 days, and so on).
- 47Explain the importance of proper credit approval for sales. What effect do adequate controls in the credit function have on the auditor's evidence accumulation?Proper credit approval for sales helps minimize the number of bad debts
and the collection effort for accounts receivable by requiring that each sale be
evaluated for collection potential.
Adequate controls in the credit function enable the auditor to place
more reliance on the client's estimate of uncollectible accounts.
Without these
controls, the auditor would have to make his or her own credit checks on the
customers in order to be convinced that the allowance for uncollectible accounts
is reasonable - 48Distinguish between the sales journal and the accounts receivable master file. What type of info is recorded in each and how do these accounting records relate?The sales journal contains the record of each sales transaction that
includes the customer name, date, amount, and the account classification for each transaction.it accumulates transactions for a period of time. The accounts receivable master file is used to record individual sales, cash receipts, and sales returns and allowances for each customer and to maintain customer account balances. The master file is updated using data from the sales journal, sales return journal, and cash receipts journal. The total in the accounts receivable master file equals the total in the accounts receivable general ledger account - 49BestSellers.com sells fiction and nonfiction books and e-books to customers through the company's Web site. Customers place orders for books via the Web site by providing their name, address, credit card number, and expiration date. What internal controls could they implement to ensure that shipments of books occur only for customers who have the ability to pay for those books? At what point will they be able to record the sale as revenue?BestSellers.com could integrate its online ordering system with its
inventory system so that a book shipment is made only after the customer's
credit card company approves the customer's purchase. Because credit card
issuers often transfer funds electronically almost immediately after a sale,
BestSellers.com could also set up their system to ship books only after
payment has been received by the credit card issuer. Finally,
BestSellers.com could arrange with an online credit service bureau to run
credit checks on customers purchasing over a preset minimum amount.
Although BestSellers.com sells its goods through the Internet, the company
should still record sales revenue when the books are shipped to customers.
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