ACC 455 - Chapter 6 - Audit Responsibilities and Objectives
What assurance does the auditor provide that errors and fraud that are material to the financial statements will be detected?
Errors: Reasonable Fraud: Reasonable
Fraud
an intentional misstatement of the financial statements
Error
an unintentional misstatement of the financial statements.
Relevant assertions
assertions that have a meaningful bearing on whether an account is fairly stated and used to assess the risk of material misstatement and the design and performance of audit procedures.
Substantive test of transactions
audit procedures testing and monetary misstatements to determine whether the six transaction-related audit objectives have been satisfied for each class of transactions
Test of details of balances
audit procedures testing for monetary misstatements to determine whether the eight balance-related audit objectives have been satisfied for each significant account balance.
Test of controls
audit procedures to test the effectiveness of controls in support of a reduced assessed control risk
Balance-related audit objectives
eight audit objectives that must be met before the auditor can conclude that any given account balance is fairly stated; the general balance is fairly stated; the general balance-related audit objectives are existence, completeness accuracy, classification, cutoff, detail tie-in, realizable value, and rights and obligations
Analytical procedures
evaluations of financial information through analysis of plausible relationships amount financial and nonfinancial data
Noncompliance with laws and regulations
failure to comply with applicable laws and regulations; often referred to as illegal acts.
the major reason an independent auditor gathers audit evidence is to
form an opinion on the financial statements.
Presentation and disclosure-related audit objectives
four audit objectives that must be met before the auditor can concluded that presentation and disclosures are fairly stated; the four presentation and disclosure-related audit objectives are occurrences and rights and obligations, completeness, accuracy and valuation, and classification and understandability.
Management assertions
implied or expressed representations by management about classes or transactions, related to account balances, and presentation and disclosures in the financial statements.
Fraudulent financial reporting
intentional misstatement or missions of amounts or disclosures in financial statements to deceive users; often called management fraud
Four phases of a financial Statement Audit
1. Plan and design an audit approach based on risk assessment procedures 2. Perform test of controls and substantive test of transactions 3. Perform analytical procedures and test of details of balances 4. Complete the audit and issue an audit report
Steps to Develop Audit Objectives
1. Understand objectives and responsibilities for the audit 2. Divide financial statements into cycles 3. Know management assertions about financial statements 4. Know general audit objectives for classes of transactions, accounts, and disclosures 5. Know specific audit objectives for classes of transactions, accounts, and disclosures
Distinguish between the terms errors and fraud. What is the auditor's responsibility for finding each?
An error is an unintentional misstatement of the financial statements. Fraud represents an intentional misstatement. The auditor is responsible for obtaining reasonable assurance that material misstatements in the financial statements are detected, whether those misstatements are due to fraud or error. An audit must be designed to provide reasonable assurance of detecting material misstatements in the financial statements. Further, the audit must be planned and performed with an attitude of professional skepticism in all aspects of the engagement. Because there is an attempt at concealment of fraud, material misstatements due to fraud are usually more difficult to uncover than errors. The auditor's best defense when material misstatements (either errors or fraud) are not uncovered in the audit is that the audit was conducted in accordance with auditing standards.
Which of the following statements describes why a properly designed and executed audit may not detect a material misstatement in the financial statements resulting from fraud?
Audit procedures that are effective for detecting unintentional misstatements may be ineffective for an intentional misstatement that is concealed through collusion.
An auditor will most likely review an entity's periodic accounting for the numerical sequence of shipping documents are included to support management's assertion about classes of transactions of ______________
Completeness
In the audit of accounts payable, an auditor's procedures will most likely focus primarily on management's assertion about account balances of _____________
Completeness
Which of the following best describes the reason why an independent auditor reports on financial statements?
Different interests may exist between the company preparing the statements and the person using the statements.
Management Assertions and Balance-Related Audit Objectives Applied to Inventory
Existence-Existence-All recorded exists at the balance sheet date. Completeness-Completeness-All existing inventory has been counted and included in the inventory summary. Valuation and allocation-Accuracy-Inventory quantities on the client's perpetual records agree with items physically on had. Prices used to value inventories are materially correct. Extensions of prices times quantity are correct and details are correctly added. Valuation and allocation-Classification-Inventory itms are properly classified as to raw materials, work in process, and finished goods. Valuation and allocation-Cutoff-Purchase cutoff at year-end is proper. Valuation and allocation-Detail tie-in- total of inventory items agrees with general ledger Valuation and allocation-Inventories have been written down where net realizable value is impaired Rights and obligations++-rights and obligations-The company has title to all inventory items listed,. Inventories are not pledged as collateral.
Identify the management assertion and general balance-related audit objective for the specific balance-related audit objective: All recorded fixed assets exist at the balance sheet date.
For the specific balance-related audit objective, all recorded fixed assets exist at the balance sheet date, the management assertion and the general balance-related audit objective are both "existence."
Identify the management assertion and presentation and disclosure-related audit objectives for the specific presentation and disclosure-related audit objective. Read the fixed asset footnote disclosure to determine that the types of fixed assets, depreciation methods, and useful lives are clearly disclosed
For the specific presentation and disclosure-related audit objective: "read the fixed asset footnote disclosure to determine that the types of fixed assets, depreciation methods, and useful lives are clearly disclosed," the management assertion and the general presentation and disclosure-related audit objective are both "classification and understandability."
Management Assertions and Transaction-Related Audit Objectives Applied to Sales Transactions
General Transactions-Related Audit Objectives Occurence-Occurrence - recorded sales are for shipments made to non fictitious customers. Completeness-Completeness-Existing sales transactions are recorded Accuracy-Accuracy-Recorded sales are for the amount of good shipped and are correctly billed and recorded. Accuracy-Posting and summarization-Sales transactions are properly included in the master file and are correctly summarized. Classification -Classification-Sales transaction are properly classified Cutoff- Timing-Sales transactions are recorded on the correct dates.
Distinguish between the general audit objectives and management assertions. Why are the general audit objectives more useful to auditors?
General audit objectives follow from and are closely related to management assertions. General audit objectives, however, are intended to provide a framework to help the auditor accumulate sufficient appropriate audit evidence. Audit objectives are more useful to auditors than assertions because they are more detailed and more closely related to helping the auditor accumulate sufficient appropriate evidence.
What is the auditor's responsibility when noncompliance with laws or regulations is identified or suspected?
If the auditor becomes aware of information concerning an instance of noncompliance or suspected noncompliance with laws and regulations, the auditor should obtain an understanding of the nature and circumstances of the act. Additional information should be obtained to evaluate the possible effects on the financial statements. The auditor should also discuss the matter with management at a level above those involved with the suspected noncompliance and, when appropriate, those charged with governance. If management or those charged with governance are unable to provide sufficient information that supports that the entity is in compliance with the laws and regulations, and the auditor believes the effect of the noncompliance may be material to the financial statements, the auditor should consider the need to obtain legal advice. The auditor should also evaluate the effects of the noncompliance on other aspects of the audit, including the auditor's risk assessment and the reliability of other representations from management.
Distinguish between management's and the auditor's responsibility for the financial statements being audited.
It is management's responsibility to adopt sound accounting policies, maintain adequate internal control, and make fair representations in the financial statements. The auditor's responsibility is to conduct an audit of the financial statements in accordance with auditing standards and report the findings of the audit in the auditor's report.
Explain how management assertions, general balance-related audit objectives, ans specific balance-related audit objectives are developed for an account balance such as accounts receivable.
Management assertions and general balance-related audit objectives are consistent for all asset accounts for every audit. One or more specific balance-related audit objectives are developed for each general balance-related audit objective in an audit area such as accounts receivable to allow the auditor to satisfy the balance-related audit objectives and test management's assertions about account balances. For any given account, a CPA firm may decide on a consistent set of specific balance-related audit objectives for accounts receivable, or it may decide to use different objectives for different audits.
Define what is meant by a management assertion about financial statements. Identify the three broad categories of management assertions.
Management assertions are implied or expressed representations by management about classes of transactions and the related accounts and disclosures in the financial statements. These assertions are part of the criteria management uses to record and disclose accounting information in financial statements. AICPA auditing standards classify assertions into three categories: 1. Assertions about classes of transactions and events for the period under audit 2. Assertions about account balances at period end 3. Assertions about presentation and disclosure
An independent auditor has the responsibility to design the audit to provide reasonable assurance of detecting errors and fraud that might have a material effect on the financial statements. Which of the following, if material, is a fraud as defined in auditing standards?
Misappropriation of an asset or groups of assets.
Distinguish between fraudulent financial report and misappropriation of assets. Discuss the likely difference between these two types of fraud on the fair presentation of financial statements.
Misappropriation of assets represents the theft of assets by employees. Fraudulent financial reporting is the intentional misstatement of financial information by management or a theft of assets by management, which is covered up by misstating financial statements. Misappropriation of assets ordinarily occurs either because of inadequate internal controls or a violation of existing controls. The best way to prevent theft of assets is through adequate internal controls that function effectively. Many times theft of assets is relatively small in dollar amounts and will have no effect on the fair presentation of financial statements, although there are some cases of material theft of assets. Fraudulent financial reporting is inherently difficult to uncover because it is possible for one or more members of management to override internal controls. In many cases the amounts are extremely large and may affect the fair presentation of financial statements.
Management Assertions and Presentation and Disclosure-Related Audit Objectives Applied to Notes Payable
Occurrence and rights and obligations-Occurrence and rights and obligations -Notes payable as described in the footnotes exist and are obligations of the company. Completeness-Completeness-All required disclosures related to notes payable are included in the financial statement footnotes. Accuracy and valuation-Accuracy and valuation-Footnote disclosures related to notes payable are accurate. Classification and understandability-Classification and understandability-Notes payable are appropriately classified as to short-term and long-term obligations, and related financial statement disclosures are understandable
An acquisition of a fixed-asset repair by construction company is recorded on the wrong date. Which transactions-related audit objective has been violated? Which transactions-related audit objective has been violated in the acquisition had been capitalized as a fixed asset rather than expensed?
RECORDING MISSTATEMENT Fixed asset repair is recorded on the wrong date. Repair is capitalized as a fixed asset instead of an expense. TRANSACTION-RELATED AUDIT OBJECTIVE VIOLATED Timing Classification
What are specific audit objectives? Explain their relationship to the general audit objectives.
Specific audit objectives are the application of the general audit objectives to a given class of transactions, account balance, or presentation and disclosure. There must be at least one specific audit objective for each general audit objective and in many cases there should be more. Specific audit objectives for a class of transactions, account balance, or presentation and disclosure should be designed such that, once they have been satisfied, the related general audit objective should also have been satisfied for that class of transactions, account, or presentation and disclosure.
Distinguish between the existence and completeness balance-related audit objectives. State the effect on the financial statements (overstatement or understatement) of a violation of each in the audit of accounts receivable.
The existence objective deals with whether amounts included in the financial statements should actually be included. Completeness is the opposite of existence. The completeness objective deals with whether all amounts that should be included have actually been included. In the audit of accounts receivable, a nonexistent account receivable will lead to overstatement of the accounts receivable balance. Failure to include a customer's account receivable balance, which is a violation of completeness, will lead to understatement of the accounts receivable balance.
Identify the four phases of the audit. What is the relationship of the four phases to the objective of the audit of financial statements.?
The four phases of the audit are: 1. Plan and design an audit approach. 2. Perform tests of controls and substantive tests of transactions. 3. Perform analytical procedures and tests of details of balances. 4. Complete the audit and issue an audit report. The auditor uses these four phases to meet the overall objective of the audit, which is to express an opinion on whether the financial statements present fairly, in all material respects, the financial position, results of operations, and cash flows in conformity with applicable accounting standards. By accumulating sufficient appropriate evidence for each audit objective throughout the four phases of the audit, the overall objective is met.
State the objective of the audit of financial statements. In general terms, how do auditors meet the objective?
The objective of the audit of financial statements by the independent auditor is the expression of an opinion on the fairness with which the financial statements present financial position, results of operations, and cash flows in conformity with applicable accounting standards. The auditor meets that objective by accumulating sufficient appropriate evidence to determine whether management's assertions regarding the financial statements are fairly stated.
An auditor review aged accounts receivable to assess likelihood of collections to support management's assertion about account balances of _______________
Valuation and allocation
Misappropriation of assets
a fraud involving the theft of an entity's assets; often called defalcation
Cycle approach
a method of dividing an audit by keeping closely related types of transactions and account balances in the same segment.
Because of the risk of material misstatement, an audit should be planned and performed with an attitude of ______
professional skepticism.
Transaction-related audit objectives
six audit objectives that must be met before the auditor can conclude that the total for any given class of transaction is fairly stated; the general transactions-related audit objectives are occurrence, completeness, accuracy, classification, timing, and posting and summarizations
Phases of the audit process
the four aspects of a complete audit; (1) plan and design an audit approach, (2) perform tests of controls and substantive test of transactions, (3) perform analytical procedures and test of details of balances, and (4) complete the audit and issue an audit report