ACCY 360 Exam 2 Short Answer

List and describe each of the PCAOB's management assertions.

-Existence or occurrence —Assets or liabilities of the company exist at a given date, and recorded transactions have occurred during a given period. -Completeness —All transactions and accounts that should be presented in the financial statements are so included. -Valuation or allocation —Asset, liability, equity, revenue, and expense components have been included in the financial statements at appropriate amounts. -Rights and obligations —The company holds or controls rights to the assets, and liabilities are obligations of the company at a given date. -Presentation and disclosure —The components of the financial statements are properly classified, described, and disclosed.

Completeness

All transactions and accounts that should be presented in the financial statements are so included.

Valuation and Allowance

Asset, liability, equity, revenue, and expense components have been included in the financial statements at appropriate amounts.

Existence and occurence

Assets or liabilities of the company exist at a given date, and recorded transactions have occurred during a given period.

Identify the three components of the fraud triangle and one risk factor related to each.

Incentive or pressure- pressure from management to reach a certain profit goal Opportunity- poor quality of internal controls Attitude or Rationalization- top management does not exemplify ethical decision and behavior

Define/explain the AICPA's occurrence and cutoff assertions. Explain how they differ.

Occurrence is transactions and events that have been recorded have actually occurred and pertain to the entity. Cutoff is the transactions and have have been recorded in the correct accounting period.

Sarah is auditing the sales of a new client. In one procedure Sarah performs, she begins with the original sales documents and then searches the accounting records to find the corresponding entry. What test is Sarah performing and what management assertion is she testing?

Sarah is tracing, which refers to first selecting an accounting transaction (a source document) and then following it into the journal or ledger. The management assertion being tested is completeness. Testing in this direction ensures that transactions that occurred are recorded in the accounting records.

Rights and obligations

The company holds or controls rights to the assets, and liabilities are obligations of the company at a given date.

Presentation and disclosure

The components of the financial statements are properly classified, described, and disclosed.

The SEC's rules with respect to services provided by auditors are predicated on three basic principles of auditor objectivity and independence. What are the three basic principles?

The three basic principles are: (1) an auditor should not audit his or her own work, (2) an auditor should not function in the role of management, and (3) an auditor should not serve in an advocacy role for his or her client

Why is appropriateness important for audit evidence? What qualities must evidence have to be considered appropriate? How are appropriateness and sufficiency of evidence interrelated?

• Appropriateness is a measure of the quality of audit evidence. • Relevance- is it relevant to what we are trying to test? • Reliability o Independent source outside the entity o Effectiveness of internal control o Auditor's direct personal knowledge o Documentary evidence o Original documents You must have both sufficient and appropriate audit evidence. If you have a higher appropriateness you need less sufficiency and vice versa.

Define fraudulent activity arising from fraudulent financial reporting and fraudulent activity arising from misappropriation of assets in one sentence each.

• Financial reporting fraudulent activity: Fraudulent financial reporting is a deliberate misstatement or omission of financial accounting information intended to deceive the investors. • Financial reporting misappropriation of assets: Misappropriation of assets is fraud that involves theft of an entity's assets.

Ms. Lembke is a partner for DTS, a CPA firm. She is the lead partner for the firm's largest client, The Grey Elephant. Ms. Zadina, who works in the same office as Ms. Lembke, has a sister who is the controller for The Grey Elephant. Because of potential independence issues, Ms. Zadina does no work for The Grey Elephant. Ms. Zadina is being considered for promotion to partner. What independence issues should Ms. Lembke consider before promoting Ms. Zadina? What options are available to Ms. Lembke and Ms. Zadina?

• Interpretation 101-1 of the AICPA Rules of Conduct states that all partners of a firm must be independent of any attestation clients of the firm. Therefore, if Ms. Zadina is promoted to partner, DTS would no longer be able to provide attestation services for The Grey Elephant. If Ms. Zadina is promoted, she will have to move to another office or DTS will have to give up their largest client

Explain the occurrence and completeness assertions. How does failure to meet each assertion affect the financial statements? (Hint: think about understatements and overstatements of accounts)

• Occurrence- transactions and event that have been recorded have occurred and pertain to the entity • Completeness- all transactions and events that should have been recorded have been recorded • If assets, liabilities, or equity are not complete balances may be understated or overstated

You are teaching a class of new hires at your international accounting firm. Explain the audit risk model (show the audit risk formula in your answer) and define each term.

• The audit risk model is AR=IR x CR x DR. Audit risk is the risk of unknowingly failing to modify opinion on misstated financial statements. Inherent risk is the risk of misstatement in account, assuming no controls. Control risk is risk that material misstatement will not be prevented or detected and corrected by controls. These are both assessed risks and the audit team has no control over it. Detection risk is risk that audit procedures do not detect material misstatement. It is a function of what the auditor does. It is auditor-determined. It can be used to measure qualitative and quantitative measures.

Several factors may influence the reliability of evidence. Identify and describe three of these factors.

• The form of the confirmation. • Prior experience with the entity • The nature of the information being confirmed

When can a CPA disclose confidential information without the client's consent? (List three of the five instances.)

• To meet GAAP or GAAS disclosure requirements • To comply with a valid subpoena • As required by an authorized peer review body (PCAOB/AICPA) • As part of an investigate or disciplinary proceeding • In connection with a purchase, sale, or merger of the practice