Chapter 6 - Audit Planning, Understanding the Client, Assessing Risks and Reporting

Predecessor auditors

A CPA firm that formerly served as auditor but has resigned from the engagement or has been notified that its services have been terminated.

Audit committee

A committee composed of outside directors (members of the board of directors who are neither officers nor employees) charged with responsibility for appointing, compensating, and overseeing the auditors.

Audit plan

A description of the nature, timing, and extent of the audit procedures to be performed. It is often documented with an audit program.

Audit program

A detailed listing of the specific audit procedures to be performed in the course of an audit engagement. It provides a basis for assigning and scheduling audit work and for determining what work remains to be done. It is specially tailored to the risks and internal controls of each engagement.

Relevant assertion

A financial statement assertion that has a reasonable possibility of containing a misstatement or misstatements that would cause the financial statements to be materially misstated. The determination is based on inherent risk, without regard to the effect of controls

Engagement letter

An agreement between the CPA firm and the client as to the terms of the audit engagement. The terms of this should include: (1) this objectives and scope of the audit, (2) auditor and management responsibilities, (3) inherent limitations of the audit, (4) the applicable financial reporting framework, and (5) the expected form and content of reports to be issued by the auditors

Dual-purpose procedure (test)

An audit procedure that serves as a test of controls and as a substantive test. For example, a test of controls over equipment acquisitions may address authorization (providing evidence on control effectiveness) and whether the transaction tested has been properly recorded in the year's acquisitions (providing substantive evidence on the dollar amounts). As another example, a substantive test may reveal a misstatement and be extended to determine the nature of the control that did not operate effectively, thereby providing evidence on operating effectiveness.

Time budget

An estimate of the time required to perform each step in the audit.

Internet

An international network of independently owned computers that operates as a giant computing network. Data on the Internet are stored on "Web servers," which are computers scattered throughout the world.

Audit risk

At the overall engagement level, this is the risk that the auditors may unknowingly fail to appropriately modify their opinion on financial statements that are materially misstated. At the financial statement assertion level, it is the risk that a particular assertion about an account balance is materially misstated.

Shopping for accounting principles

Conduct by some enterprises that discharge one independent auditing firm after seeking out another firm that will sanction a disputed accounting principle or financial statement presentation.

Significant risks

Identified and assessed risks of material misstatement that, in the auditor's judgment, require special audit consideration

Fraudulent financial reporting (management fraud)

Material misstatement of financial statements by management with the intent to mislead financial statement users.

Assertions

Representations of management that are communicated, explicitly or implicitly, by the financial statements.

Business risks

Risks that threaten management's ability to achieve the organization's objectives.

Further audit procedures

Substantive procedures for all relevant assertions and tests of controls when the auditors' risk assessment includes an expectation that controls are operating effectively, or when substantive procedures alone do not provide sufficient appropriate audit evidence. The auditors perform risk assessment procedures to obtain an understanding of the client and its environment, including internal control. They thn conduct a risk assessment and determine the appropriate further audit procedures.

Tests of controls

Tests directed toward the design or operation of a control to assess its effectiveness in preventing or detecting material misstatements of financial statement assertions.

Substantive procedures

Tests of account balances and transactions designed to detect any material misstatements in the financial statements. The nature, timing, and extent of substantive testing are determined by the auditors' assessment of risks and their consideration of the client's internal control.

Analytical procedures

Tests that involve comparisons of financial data for the current year to that of prior years, budgets, nonfinancial data, or industry averages. From a planning standpoint, this helps the auditors obtain an understanding of the client's business, identify financial statement amounts that appear to be affected by errors or fraud, or identify other potential problems.

Performance materiality

The amount set by the auditors at less than materiality for accounts (or individual financial statements) to reduce to an appropriately low level the probability that the aggregate of uncorrected and undetected misstatements exceeds materiality for the financial statements as a whole

Risk assessment procedures

The audit procedures performed to obtain an understanding of the entity and its environment, including the entity's internal control. They are designed to identify and assess the risks of material misstatement, whether due to fraud or error, at the financial statement and assertion levels. Include (a) inquires of management and others within the entity, (b) analytical procedures; and (c) observation and other procedures, including inquiries of others outside the entity

Successor auditors

The auditors who have accepted an engagement or who have been invited to make a proposal for an engagement to replace the CPA firm that formerly served as auditors.

Engagement risk

The risk of loss or injury to the auditors' reputation by association with a client that goes bankrupt or one whose management lacks integrity.

Inherent risk

The risk of material misstatement of an assertion about an account without considering internal control.

Control risk

The risk that a material misstatement that could occur in an account will not be prevented or detected on a timely basis by internal control.

Transaction cycle

The sequence of procedures applied by the client in processing a particular type of recurring transaction. The term cycle reflects the idea that the same sequence of procedures is applied to each similar transaction. The auditors' consideration of internal control often is organized around the client's major transaction cycles.

Interim period

The time interval from the beginning of audit work to the balance sheet date. Many audit procedures can be performed during this to facilitate early issuance of the audit report.

Misappropriation of assets (defalcations)

Theft of client assets by an employee or officer of the organization.

Overall audit strategy

This strategy involves determining overall characteristics of the engagement that define its scope, determining the engagement's reporting objectives to plan the timing of procedures, and considering important factors that will determine the focus of the audit team's efforts. When established, auditors start the development of a more detailed audit plan to address the various matters identified in the audit strategy.

Opening Balances

Those account balances that exist at the beginning of the period. Based upon the closing balances of the prior period and reflect the effects of transactions and events of prior periods and accounting policies applied in the prior period. Also include matters requiring disclosure that existed at the beginning of the period, such as contingencies and commitments