Chapter 5

Trend analysis

Review of changes in an account balance over time.

Horizontal analysis

Review of client financial statement amount over time.

A primary measure of the effectiveness of an analytical procedure is its _______ which can be improved by performing a more detailed analysis.

precision

Audit risk is the risk that financial statements will contain a material departure from GAAP and the auditor will issue:

an unmodified opinion

Calculating days sales in ending accounts receivable and comparing it to the prior year would be an example of:

analytical procedure

To increase the reliability of evidence, completed confirmations are sent directly to the

auditor ****not a client; less reliable

The type of audit procedures performed by auditors to obtain audit evidence include:

- Test of controls - Substantive procedures - Risk assessment procedures

________ ratios typically include the inventory turnover and accounts receivable turnover ratios.

Activity

Reasonable test

An explicit expectation, not based on a formal statistical model, is computed for the financial statement amount using financial or nonfinancial data.

Inspections of tangible assets provides high-quality evidence as to the _________ assertion.

existence

The representation letter includes several specific items. A good example of this is that the management of a company typically will state that all known liabilities are accurately reflected in the ___________________

financial statement

Documentary evidence is obtained through ____________ of records and documents and can be in paper or electronic form.

inspection

The audit risk model can be used to assess the risk of material misstatement and restrict detection risk to achieve a _____ level of risk that the financial statements are materially misstated.

low

Accounting estimates such as the allowance for obsolete inventory are affected by estimates made by

management

The quantity of audit evidence needed is affected by the risk of misstatement and the _________ of audit evidence.

quality

Individuals or entities that may have dealings with the client in which one party is significantly influenced by the other such that it may not pursue its separate interests is known as a __________ party.

related

At the end of the audit, auditors are required to obtain a ____________ letter from management that summarizes important oral representations made by management during the audit.

representation

An individual or company that has a certain expertise in a field of knowledge other than accounting and auditing is a

specialist

_____________ assertions are those that have a reasonable possibility of containing a misstatement, without regard to the effect of controls, that could cause financial statements to be materially misstated.

Relevant

T/F: Adjusting journal entries are ordinarily recorded by the client, while reclassifying journal entries need not be recorded

True

T/F: in performing analytical procedures, the auditors may use dollar amounts, physical quantities, or percentages.

True

For related party transactions, auditors should be most concerned about obtaining evidence regarding which assertion:

presentation and disclosure

Which of the following choices are categories of traditional financial ratios?

- Activity ratio - Leverage ratio

Rank the pieces of documentary evidence from most reliable to least reliable

1. Cutoff bank statement—prepared externally and sent directly to auditors—high reliability 2. Vendor's invoice—prepared externally and held by the client 3. Paid check—prepared internally but reviewed by outsiders (the bank) 4. Client copy of sales invoice—prepared internally and held by client

Rank the inputs management use to apply fair value techniques based on reliability of audit evidence from most reliable to least reliable:

1. Observable quoted prices in active markets for identical assets or liabilities. 2. Other observable quoted prices, generally for similar assets or liabilities in active markets. 3. Unobservable inputs for the asset or liability.

Match the type of transaction with its example: Nonroutine

Calculating Depreciation Expense

Cross-sectional analysis

Comparison with similar firms (ex. industry) at a point in time.

Ratio analysis

Comparisons of relationships between two or more financial accounts or account balance to nonfinancial data.

Match the test of details type with the example: Test of Account Balance

Confirmation of accounts receivable balance

For the audit risk model, auditors must restrict this risk through the performance of substantive procedures:

Detection

Match the type of transaction with its example: Estimation

Estimating the allowance for uncollectible accounts

Management makes assertions for financial statements regarding all of the following except:

Fairness of the audit opinion

T/F: The auditors should propose an adjusting journal entry for all material related-party transactions

False

T/F: The most reliable form of documentary evidence generally is considered to be documents created by the client

False

T/F: The primary purpose of a letter of representations is to obtain additional evidence about specific accounts

False

T/F: The professional standards consider calculating depreciation expense a "routine" transaction

False

T/F: The use of lead schedules is designed to increase the detail of the working trial balance

False

T/F: Working papers of continuing audit interest usually are filed with the administrative working papers

False

Match the type of transaction with its example: Routine

Sales Transactions

In regards to audit evidence, ________ is a measure of the quantity of audit evidence that should be obtained.

Sufficiency

Match the test of details type with the example: Test of Disclosure

Test of property, plant, and equipment footnote

Match the test of details type with the example: Test of class of transaction

Tests of inventory purchases to determine if properly accounted for

T/F: A vendor's invoice is an example of documentary evidence created by a third party and held by the client

True

Vertical analysis

Use of common-size financial statements in which all accounts are expressed as a percentage of a base number in the statement.

Regression analysis

Use of statistical models to quantify the auditors' expectation about a financial statement amount or ratio.

Auditors should investigate any significant differences between their prior expectations and the actual amounts on the client's financial statements. Which of the following are proper methods of investigation in this case?

- Reconsidering the factors and methods originally used in making the expectations - Inquiry of management

Which of the following choices below are categories of representations that can be found in a representation letter:

- The financial statements are complete and were prepared with the use of generally accepted accounting principles - All items requiring any disclosure are sufficiently disclosed

T/F: When the risk of material misstatement for an account is high, the auditors may perform additional substantive procedures to restrict detection risk to a lower level

True