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108 Cards in this Set
- Front
- Back
What are the objectives of the ordinary audit of Financial statements? As stated in SAS 1
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To express an opinion on the fairness with which they present fairly, in all material respects
1. the financial position 2. results of operations 3. cash flows in conformity with GAAP. |
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What was required by section 404 of Sarbanes Oaxley?
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For Public Companies, the auditors have to issue a report on the internal controls of the company.
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If the auditor believes that the statements are not fairly presented or is unable to reach a conclusion
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the auditor has to notify users through the auditors report.
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what are managements responsibility?
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To adopt sound accounting policies, maintaining adequate internal controls ad making fair representations in the financial statements.
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What if management decides on a financial statement disclosure that the auditor finds unnacceptable?
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The Auditor can either issue an adverse or qualified opinion or withdraw from the audit engagement.
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Material missstatements
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misstatements that would have likely have changed or influenced the decisions of a reasonable person.
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Why do auditors not care about Immaterial misstatements?
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because it would be too costly to audit them. It would cost too much.
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Reasonable Assurance
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High assurance, but not absolute assurance. an audit that is conducted in accordance with auditing standards may fail to detect a material misstatements.
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Why is the Auditor Responsible for reasonable and not Absolute assurance?
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1. most audit evidence results from testing a sample of a population.
2. Accounting presentations contain evidence, which involve uncertainty and can be affected by future events. As a result, the auditor has to rely on evidence that is persuasive but not convincing. 3. Fraudulently prepared financial statements are difficult, if not impossible for the auditor to detect. |
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Errors vs Fraud
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Error is an unintentional Misstatement. Fraud is a intentional.
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Misappropriation of Assets
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Defalcation or employee fraud. An example : A clerk taking cash at the time a sale is made and not entering the sale in the cash register.
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Fraudulent financial reporting
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Management Fraud..An example is the manager reporting an intentional overstatement of sales near the balance sheet date to increase earnings.
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Professional Skepticism
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the auditor must have an attitude that includes a questioning mind and a critical assessment of audit evidence. The possibility of management dishonesty must be considered.
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Fraud Resulting from fraudulent financial reporting.
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harms users by providing them incorrect financial satement information for decision making.
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Fraud Resulting from Missappropriation of Assets
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Shockholders, creditors and others are harmed because assets are no longer available to their rightful owners.
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Illegal Acts
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violations of laws or government regulations other than fraud. Two examples are a violation of federal tax laws and violations of environmental protection laws.
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Direct Effect Illegal Acts
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Actions that have a direct financial effect on account balances in the financial statements.
Ex: violation of federal tax laws directly affects income tax expense. |
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The Auditors responsibility in a direct Effect Illegal Act
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It is the same as errors and fraud. For each audit, therefore, the auditor normally evaluates whether or not there is evidence available to indicate material violations of laws.
Ex: The auditor might examin reports issued by the irs after an examination of the tax return. |
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Indirect- Effect Ilegal acts
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When an illegal act afffects the financial statements indirectly.
Example : Environmental protection laws will only affect the financial statements if there is a fine which means they have to disclose a liability. |
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Auditors responsibility for Indirect Effect Illegal Acts
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Auditor provides no assurance that indirect effect illegal acts.. Its because auditors lack legal expertise.
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When an Auditor believes that an illegal act may have occurred, what are 3 actions necessary to determine weather that activity still exists?
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1. The Auditor should first quire management a level above those involved.
2. The auditor should consult with the clients legal counsel or other specialist who is knowledgeable about the potential illegal act. 3. The auditor should consider accumilating additional evidence to see if the act was really illegal |
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Whats the first course of action when an illegal act has been identified?
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Consider the effects on the financial statements, including the adequacy of disclosures.
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Why do auditors segment the audit?
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to make the audit more manageable and aids in giving different assignments to different members of an audit team.
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Cycle Approach
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keeping closely related types (or classes) of transactions and ccount balances in the same segment.
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Generally, what is the most efficient and effective way to conduct audits
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To obtain some combination of assurance for each class of transactions and for the ending balance in the related accounts.
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transaction related audit objectives
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For any given class of transactions, several audit objectives meust be met before the auditor can conclude that the transactions are properly recorded.
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Balance-related audit objectives
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Several audit objectives must be met for each account balance.
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Presentation and disclosure related audit objectives
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Relates to the presentation and disclosure. Fore example, there are specific presentation disclosure related audit objectives for accounts receivable and notes payable.
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Management assertions
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implied or expressed representations by management about classes of transactions and the related accounts and disclosures in the financial statements.
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How are management assertions related to GAAP
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They are part of the criteria that management uses to record and disclose accounting information systems.
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3 categories of assertions
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1. assertions about classes of transactions and events for the period
2. assertions about account balances at period ened 3. Assertions about presentation and disclosure. |
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The Assertions about classes of transactions and events
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Occurrence, completeness, accuracy, classification, cutoff.
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Assertions about account balances
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existence, Completeness, Valuation and allocation, Rights and obligations
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Assertions about presentation and disclosure
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Occurrence and right and obligations, completeness, Accuracy and valuation, Classification and understandibility
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The Assertions about classes of transactions and events- OCCURANCE
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Transactions and events that have been recorded have occurred and pertain to the entity
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The Assertions about classes of transactions and events- Completeness
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all transactions and events that should have been recorded have been recorded.
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The Assertions about classes of transactions and events - Accuracy
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Amounts and other data relating to recorded transactions and events have been recorded appropriately
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The Assertions about classes of transactions and events- Classification
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Transactions and events have been recorded in proper accounts
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The Assertions about classes of transactions and events- Cutoff
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Transactions and events have been recorded in the correct accounting period.
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Assertions about account balances (4)
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Existence, Completeness, Valuation and Allocation, Rights and Obligations.
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Assertions about account balances- Existence
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That assets liablities and equity that is listed in the balance sheet actually are available and exist in real life.
Example: Merchandise inventory that is on the balance sheet exists and is available for sale. its concerned with the possibiity of including items that shouldnt be included. Violations of existence relate to overstatements. |
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Assertions about account balances-Completeness
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The assertion that all the accounts that should be presented in the financial statements are in fact included. it addresses matters opposite of the Existence assertion. its concerned with the possibiity of omitting items that should be included.
Violations relate to understatements. |
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Assertions about account balances- Valuation and Allocation
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It deals with assets liabilities and equity interest have been included in the financial statements at appropriate amounts.
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Assertions about account balances- rights and obligations
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whether assets are the rights of the entity and whether the liabilities are the obligations of the entity at a given date.
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Assertions about Presentation and Disclosure
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Occurence and rights and obligations, completeness, Accuracy and Valuation, and Classification and understandability.
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Assertions about Presentation and Disclosure Occurrence and Rights and Obligations
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Weather disclosed events have occurred and are the rights and obligations of the entity.
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Assertions about Presentation and Disclosure- Completness
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Whether all required disclosures have been included in the financial statements.
Example management asserts that all material transactions with related parties have been disclosed |
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Assertions about Presentation and Disclosure- Classification and Understandability
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whether amounts are appropriately classified in the financial statements and footnotes. and whether the balance descriptions and related disclosures are understandable.
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Relevent Assertions
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consider the relevance of each assertion for each significant class of transactions, account balance, and presentation and disclosure.
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Transaction related audit objectives
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to provide a framework to help the auditor accumulate sufficien appropriate evidence required. and decide the proper evidence to accumulate for classes of transactions given the circumstances of the engagement.
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Transaction related audit objectives-Occurance
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Whether recorded transactions have acutally occured.
Violation: Inclusion of a sale in the slaes |
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Transaction related audit objectives-Completeness
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Whether all transactions that should be included in the journals have actually been included.
Violation: Exclusion of a sale in the sales journal and general ledger when the sale occured |
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Transaction related audit objective-Accuracy
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assesses the accuracy of information for accounting transactions.
Violation: when a sale was recorded ok but the amount was calculated incorrectly. |
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Transaction related audit objective- Posting and Summarization
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The accuracy of the transfer of information from recorded transactions in journals to subsidiary records and the general ledger.
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Transaction related audit objective- Classification
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Whether transactions are included in the appropriate accounts, and is the auditor's counterpart to management's classification assertion for classes of transactions.
Violation: including cash sales as credit sales, recording a slae of fixed assets as revenue. |
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Transaction related audit objectives-Timing
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If a transaction is not recorded on the day it took place.
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What are Balance Related Audit Objectives?
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applied account balances such as accounts receivable and inventory rather than classes of transactions.
They are almost always applied to the ending balance in balance sheet accounts. |
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Balance Related Audit Objectives (8)
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Existence
Completeness accuracy Classification Cutoff Detail Tie-in Realizable Value Rights and Obligations |
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Balance Related Audit Objectives-Existence
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amounts in the financial statements should actually be included.
Violation: including an accounts recievable from a customer in the trial balance when there was no recievable |
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Balance Related Audit Objectives-Completeness
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Whether all amounts that should be included have actually been included.
Violation: Failure to include a receivable on the trial balance when a receivable exists. |
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Balance Related Audit Objectives-Accuracy
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Amounts being included at the correct arithmetic amounts.
Violation: the number of units could be mistated |
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Balance Related Audit Objectives-Classification
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Whether items included on a client's listing are included in the correct general ledger accounts.
Example: receivables must be separated into short and long term. |
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Balance Related Audit Objectives-Cutoff
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whether transactions are recorded and included in account balances in the proper period.
Likely to misstated by those transactions late in the accounting period. |
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Balance Related Audit Objectives-Detail Tie In
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Account balances on the financial statements are supported by details in masterfiles and scheduals prepared by clients.
Details agree with the general ledger. |
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Balance Related Audit Objectives Realizable Value
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Whether an account balance has been reduced for declines from historical cost to net realizable value.
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Balance Related Audit Objectives Rights and Obligations
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most assets must be owned before it si accpetable to include on the financial statements..
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Audit Procedure
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detailed instruction that explains the audit evidence to be obtained during the audit. You have to make the rules clear so the auditor knows what to do
Example: comparing the cash disbursements journal to checks given out. |
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Sample size
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Sample size is important because auditors need to collect sufficient evidence. The decsion of how many items to test is made by the auditor for each audit procedure.
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Items to select
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after determining the sample size, the auditor must decide which items to test. Weather it is the first 50, the last 50 or a random 50 it must stick to a sample size.
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Timing
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usually covers a period such as a year. When the audit takes place is different depending on the company. Most companies want to go 1-3 months after completion. The SEC requires public companies to file within 60-90 days
• However, auditor will collect evidence when they are most effective and when audit staff is available |
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What are the 2 determinants of Persuasiveness of evidence?
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Appropriateness and sufficiency.
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Appropriateness
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the measure of the quality of evidence, meaning its relevance and reliability in meeting audit objectives for classes of transactions, account balances and related disclosures.
If evidence is highy appropriate, then it will persuade the auditor to say financial statements are fairly stated. |
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Relevance
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Evidence must pertain to or be relevant to the audit objective that the auditor is testing before it can be appropriate. to find out if an item that shipped but not paid. you start with all the shipping documents and trace them to duplicate sales invoices.
If you go from duplicate sales invoices to the shipping documents you will waste alot of time because you wont find what your looking for and you will find alot of things you dont need, |
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What are the six characteristics of reliability of evidence?
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Independence of provider
Effectiveness of client's internal controls Auditor's direct knowledge Qualifications of individuals providing the information Degree of objectivity Timeliness |
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Reliability of Evidence- Independence of provider
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Evidence obtained from a source outside the entity is more reliable than obtained from within.
Banks, attorneys, or customers testimonies are more reliable than asking the company what they think of themselves. |
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Reliability of Evidence- Effectiveness of client's internal controls
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When a clients internal controls are effective, evidence obtained is more reliable than when they are weak.
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Reliability of Evidence- Qualifications of the individual providing the information
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The evidence you get is not reliable if the individual is not qualified to provide the evidence.
Its not a question of being independent. Its saying that you shouldnt ask anybody except a bank about bank information. |
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Reliability of Evidence- Degree of Objectivity
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Objective evidence is more reliable Than subjective evidence that requires judgment to determine if it correct.
Objective: Bank statement Physical Counts of securities and cash. Subjective: a letter written by a clients attorney discussing the likely outcome of outstanding lawsuits against the client. Men Lie, Women Lie, Numbers Dont. |
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Reliability of Evidence- Timeliness
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when it is accumulated or to the period covered by the audit.
Balance sheets: EvidencenCloser to Dec 31st= more reliable. income statements: it is better to sample from an entire period rather than sample randomly. |
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Sufficiency
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The quantity of evidence is it sufficient?
A sample of 100 is more sufficient than a sample of 50. Example: if your auditing a store with a lot of obsolete inventory, you have to raise the sample size to get a sufficient audit. |
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what is the most sufficient itmes to sample?
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• samples containing large dollar value items, items with high likelihood of misstatement, and items that are representative of the population are usually more sufficient.
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Combined Effect
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•We consider both the appropriateness of evidence and sufficiency of evidence together.
You can have a large sample size that is very representative, but if it is not objective it doesn't matter. |
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What are the 8 types of evidence?
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physical examination
confirmation documentation analytical procedures inquiries of the client recalculation reproformance observation |
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Physical examination
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the inspection or count by the auditor of a tangible asset. This is most often associated with inventories or cash.
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What is a signed check?
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An asset
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What is an unsigned Check?
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A document.
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What is a cancelled check?
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A document.
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Confirmation
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receipt of a written or oral response from an independent third party verifying the accuracy of information that was requested by the auditor.
Auditor requests Client CLient requests third party Third party responds to auditor. confirmations are seldom used in fixed assets or individual transactions, unless it is extraordinarly large close to year end. |
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How do auditors know when to use a confirmation?
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depending on the reliability needs of the situation as well as the alternative evidence available.
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Positive confirmations
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asks the reipient to respond in all circumstances. and if thy dont respond, they send out more requests and even requests the clients to contact the independent third party. if it fails then the auditor performs alternative procedures to test the receivable balance.
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Negative confirmation
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the recipient is asked to respond only when the information is incorrect
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Documentation
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the auditors inspection of the clients documents and records to substantiate the information that is, or should be, included in the financial statements.
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Why are documents usually available?
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transactions in organizations are normally supported by at least one document.
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Internal document
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prepared and used within the clients organization and is retained without ever going to an outside party.
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Examples of an internal document
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duplicate sales invoices, employees time reports and inventory receiving reports.
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External document
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handled by someone outside the clients organization who is a party to the transaction being documented.
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Examples of external documents
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vendors invoices, canceled notes payable, insurance policies.
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What is the primary determinant of the auditors willingness to accept a document as reliable evidence?
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whether the document is internal or external and if internal, the conditions of the internal controls.
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Vouching
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when auditors use documentation to support recorded transactions or amounts.
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Analytical procedures
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use comparisons and relationships to assess whether account balances or other data appear reasonable compared to the auditors expectations.
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What do they compare in analytical procedures
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Data in years compared to prior years.
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Analytical procedures include
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Understanding the Clients Industry and Business,
Assess the Entity's Ability to Continue as a Going Concern, Indicate the Presence of Possible Misstatements in the Financial Statements, Reduce Detailed Audit Tests. |
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Understanding the Clients industry
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As a part of planning the audit .they must conduct analytical procedures in which the current year's unaudited information is compared with last years audited information. Changes and trends are noted.
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Assess the Entity's Ability as a going concern
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Analytical procedures are often a useful indicator to know if the company is having financial problems.
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Indicate the Presence of possible misstatements in the financial statements
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Significant unexpected differences between the current years unaudited financial data and other data used in comparisons.
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Unusual Fluctuations
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when significant differences are not expected but do exist, or when significant differences are expected but do not exist.
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Reduce detail audit tests
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When analytical procedure reveals no unusual fluctuations
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When analytical procedure reveals no unusual fluctuations..
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... It implies the possibility of a material misstatement is minimized.
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