Midterm 2

disadvantages of classical variable sampling

-Does not work well when little or no misstatement is expected in the population. - To determine sample size, the auditor must estimate the standard deviation of the audit differences. - If few misstatements are detected in the sample data, the true variance tends to be underestimated, and the resulting projection of the misstatements and the related confidence limits are not likely to be reliable.

analytical procedures applicable to PP&E

-compare prior periods balances in property, plant, and equipment and depreciation expense with current period balances, taking into account any changes in conditions or asset composition -compute the ratio of depreciation expense to the related PP&E accounts and compare to prior years ratios -compute the ratio of repairs and maintenance expense to the related PP&E accounts and compare to prior years ratios -compute the ratio of insurance expense to the related PP&E accounts and compare to prior years ratios review capital budgets and compare the amounts spent with amounts budgeted

importance of observing physical inventory

-to establish the existence of the inventory -also provides evidence on the accuracy, rights and obligations, and valuation assertions

advantages of classical variable sampling

-when an auditor expects a relatively large number of differences between book and audited values, this method will normally result in a smaller sample size than MUS -the techniques are effective for both overstatements and understatements - the selection of zero balances generally does not require special sample design considerations.

Advantages of MUS

-when the auditor expects little misstatement, MUS usually results in a smaller sample size than classical variables sampling. -when applied using the probability proportional to size procedure, MUS automatically results in a stratified sample. -MUS does not require the user to make assumptions about the distribution of misstatements

Disadvantages of MUS

1. The selection of zero or negative balances generally requires special design consideration. 2. The general approach to MUS assumes that the audited amount of the sample item is not in error by more than 100%. 3. When more than a few misstatements are detected, the sample results calculations may overstate the allowance for sampling risk.

channel stuffing

A marketing practice that suppliers sometimes use to boost sales by inducing customers to buy substantially more inventory than they can promptly resell. without appropriate provision for sales returns is an example of booking tomorrow's revenue today in order to window dress the financial statements.

true

A misstatement is defined as the difference between monetary amounts in the entity's records and amounts supported by audit evidence for MUS

true

All dividends declared and paid will be audited because of concerns of violations of corporate bylaws or debt covenants.

true

Analytical procedures are used as a substantive test to obtain evidential matter about particular assertions related to account balances or classes of transactions. In some cases, analytical procedures can be more effective or efficient than tests of details for achieving particular substantive testing objectives.

true

For MUS, the population is defined as the monetary value of an account balance, such as accounts receivable, investment securities, or inventory.

true

MUS is not particularly effective at detecting understatements. An understated account is less likely to be selected than an overstated account.

true

MUS uses attribute-sampling theory to estimate the percentage of monetary units in a population that might be misstated and then multiplies this percentage by an estimate of how much the dollars are misstated.

true

MUS uses attribute-sampling theory to express a conclusion in dollar amounts rather than as a rate of occurance.It is commonly used by auditors to test accounts such as accounts receivable, loans receivable, investment securities, and inventory

true

Sample sizes typically need to be larger when variability is greater. Stratification can assist in these situations.

inherent risk

The ______________ ______ associated with prepaid expenses is generally assessed as low because the accounts do not involve any complex or contentious accounting issues.

true

The auditor selects a sample for MUS by using a systematic selection approach called probability- proportional-to-size selection. The sampling interval can be determined by dividing the book value of the population by the sample size. Each individual dollar in the population has an equal chance of being selected and items or "logical units" greater than the interval will always be selected.

Analytical procedures

The purpose of applying _________________ _______________ in planning the audit is to assist in planning the nature, timing, and extent of auditing procedures that will be used to obtain evidential matter for specific account balances or classes of transactions.

true

The sampling unit for nonstatistical sampling is normally a customer account, an individual transaction, or a line item on a transaction.

accrued expenses analytical procedures

Vendor's invoices from a few days before and after year-end are examined to determine if the assets are recorded in the proper accounting period

ending inventory and COGS

What accounts could be affected if a company fails to record inventory transactions?

completeness assertion

What techniques could an auditor use to detect unrecorded obligations?

MUS sampling

When faced with this situation, the auditor may: 1. Increase the sample size. 2. Perform other substantive procedures. 3. Request the entity adjust the accounts receivable balance. 4. If management refuses to adjust the account balance, the auditor would consider issuing a qualified or an adverse opinion.

true

When using nonstatistical sampling, the following items must be considered: Identifying individually significant items. Determining the sample size. Selecting sample items. Calculating the sample results.

Classical variables sampling

__________________ ________________ ____________ uses normal distribution theory to evaluate the characteristics of a population based on sample data. Auditors most commonly use classical variables sampling to estimate the size of misstatement.

allowance for doubtful accounts

affected by internal factors such as the entity's credit-granting and cash collection policies and external factors such as the state of the economy, conditions in the entity's industry, and the financial strength of the entity's customers. if the entity establishes strict standards for granting credit, the likelihood of a large number of bad debts is reduced

debt covenant

also called a restriction, is a section of the contract that describes the responses available to the creditor if certain events or conditions occur, such as the debtor's current ratio declining below a certain level. The covenant may allow the creditor to call the debt (demand immediate payment). Covenants also protect the debtor from such actions should the conditions not occur (debtor maintains compliance with the covenant).

true

an individual dollar represents the sampling unit for MUS

Permanent Differences

are fundamental differences in what constitutes revenue or expense for GAAP and tax purposes

temporary differences

are simply timing differences between the recognization of revenue or expense under GAAP and tax and are ultimately expected to reverse

confirmations

audit evidence that is a direct written response from a third party to the auditor, in paper form or by electronic or another medium. -can address more than one assertion. -normally provide different levels of assurance for different assertions auditor should consider these factors when using ______________ to test accounts receivable -the type of __________ request -prior experience with the client or similar engagements -the intended respondent

analytical procedures for long term debt

auditing interest expense because of the direct relationship between long term debt and interest expense

tests of detail

concentrate on the detailed amounts or estimates that make up the ending balance for revenue-related accounts. also concerned with the presentation and disclosures related to accounts receivable and related accounts

Direct

desired confidence level is ______ to sample size

direct

expected misstatement is ____ to sample size

assertions most important to debt obligations

occurance authorization completeness valuation disclosure-classification

direct

population size is _______ to sample size

positive confirmation

positive accounts receivable confirmation requests that customers indicate whether they agree with the amount due to the client stated in the confirmation. thus, a response is required regardless of whether the customer believes the amount is correct or incorrect. usually used when an accounts individual balances are large or if errors are anticipated because the risk of material misstatements has been judged to be high

negative confirmation

requests that customers respond only when they disagree with the amount due to the client

true

substantive analytical procedures before tests of detail

voucher

this document is frequently used by entities to control payment for acquired goods and services. serves as a basis for recording a vendors invoice in the voucher register or purchase journal. in many purchasing systems, the voucher is attached to the purchase requisition, purchase order, receiving report, and vendor invoice to create a voucher packet (containing all the relevant information supporting the purchase transaction)

remittance Advice

this document is usually mailed with the customer's bill and returned with the customers' payment for goods or services. contains information regarding which invoices are being paid by the customer. ​

inversely

tolerable missstatement is ___________ related to sample size

Substantive Analytical Procedures

used to examine plausible relationships among related accounts. this should include disaggregated analytical procedures for revenue. useful audit tests for examining the fairness of revenue related accounts because such tests provide sufficient evidence at low cost.

Why do auditors frequently default to substantive tests of details when auditing debt?

when the auditor is not required to test internal controls, it is more efficient for the auditor to follow a substantive strategy and perform a detailed audit