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ACCT401-001C Final Exam Short-Answer
Terms in this set (28)
List the four important decisions an auditor must make when deciding to use sampling.
-Which population and sampling unit should be tested, and what characteristics should be examined (population)?
-How many items should be selected for audit testing (sample size)?
-Which items should be included in the sample (sample selection)?
-What inferences can be made about the overall population from the sample (sample evaluation)?
Identify the four factors that an auditor would consider when choosing between nonstatistical sampling and statistical sampling.
Discuss what is meant by "sampling risk" and "nonsampling risk".
Sampling Risk: The risk that the auditor's conclusion based on a sample might be different from the conclusion he or she would reach if the test were applied in the same way to the entire population.
Nonsampling Risk: The risk that the auditor reaches an erroneous conclusion for any reason not related to sampling risk.
Before procedures using statistical or nonstatistical sampling methods begin, the auditor must determine how the sample will be selected. Discuss the various types of sample selection, when they are used and, generally, how they are used. Give examples.
Simple random sample: Selecting a random sample by matching random numbers generated by a computer or selected from a random-number table with. Example: Using a computer generated random numbers to select a sample of AR invoices to inspect in substantive testing.
Systematic Sampling: This sampling technique involves dividing the number of physical units in the population by the sample size to determine a uniform interval; a random starting point is selected in the first interval and one item is selected throughout the population at each of the uniform intervals after the starting point. Example: Dividing the population of AR invoices sent in one year by the sample size, then picking the nth invoice of every invoice sample interval to inspect.
Haphazard Sampling: A nonstatistical sample selection method that attempts to approximate a random selection by selecting sampling units without any conscious bias, or special reason for including or omitting certain items from the sample. Example: Physically handpicking the samples "randomly" out of the year's AR invoices
Block Sampling: A sampling technique that involves selecting a sample that consists of contiguous population items, such as selecting transactions by day or week. Example: Selecting AR invoices to inspect by the nth day of the month, or first week of every month
Define the following terms as they relate to sampling for tests of controls: tolerable failure rate and expected failure rate
Tolerable Failure Rate:A rate of deviation set by the auditor in respect of which the auditor seeks to obtain an appropriate level of assurance that the rate of deviation set by the auditor is not exceeded by the actual rate of deviation in the population. Also referred to as the tolerable deviation rate.
Expected Failure Rate: An anticipation of the deviation rate in the entire population. Also referred to as the expected population deviation rate.
White Floyd, Inc., a retail store, is concerned about the lack of control procedures over the recording of sales transactions. The company is concerned that the transactions might not be recorded accurately and valued properly in accordance with GAAP. Recommend control procedures to help ensure that transactions are recorded accurately and valued properly.
-All sales over a Designated Amount must be approved by Senior Sales Manager
-Sales should be reconciled against allowed pricing
-Reconcile sales orders against what is recorded in the journal
What control procedures should be implemented to ensure the completeness objective is met with respect to sales?
-Use of prenumbered shipping documents and sales invoices and the subsequent accounting for all numbers
-Immediate online entry into the computer system and immediate assignment of unique identification number by the computer application
-Reconciliation of shipping records with billing records
-Supervisory review, such as review of transactions at a fast-food franchise
-Reconciliation of inventory with sales, such as the reconciliation of liquor at a bar at the end of the night with recorded sales
In the financial statements, there are many risks associated with an audit that must be considered. Identify and discuss five separate risks that may exist related to accounts receivable
-Receivables are pledged as collateral against specific loans with restricted use (disclosures of such restrictions are required).
-Receivables are incorrectly classified as current when the likelihood of collection during the next year is low.
-Collection of a receivable is contingent on specific events that cannot currently be estimated.
-Payment is not required until the purchaser sells the product to its end customers.
-Accounts receivable are aged incorrectly, and potentially uncollectible amounts are not recognized.
The auditor for Knowles, Inc. is attempting to determine whether the recorded sales and accounts receivable are supported by valid transactions. Identify the assertions being tested and develop the substantive procedures to be used to satisfy the auditor's objectives.
-Existence and Valuation
-Management Review and Authorization of
Large/unusual Transactions (for Existence)
-Distribute Monthly Statements to Customers
-Trace sales invoices to sales journal and
customer's ledger. (Valuation)
-Review adequacy of the allowance for
doubtful accounts. (Valuation)
What is a bank cutoff statement and how is it used by an auditor?
A bank statement for a period of time after yearend (usually seven to ten days); sent directly to the auditor, who uses it to verify reconciling items on the client's year-end bank reconciliation.
Identify the types of controls used to minimize potential misstatements of cash.
Segregation of duties
Restrictive endorsements of customer checks
Independent bank reconciliations by employees who do not handle cash
Computerized control totals and edit checks
Authorization of transactions
Prenumbered documents and turnaround documents
Periodic internal audits
Competent and well-trained employees
What are the procedures available to auditors in auditing accounts payable and what level of assurance is obtained by each? Describe at least three. Which primary assertion is tested through these approaches?
-Perform a cutoff test of purchases and cash disbursements (High Level of assurance)(Existence)
-Perform analytical review of related expense accounts, such as travel and entertainment or legal expenses (Medium level of assurance) (Completeness)
-Review management's financial statement disclosure of AP and expense accounts such as travel and entertainment (High level of assurance) (presentation and disclosure)
Discuss the procedures that the audit team will most likely perform upon arrival at each site right before physical inventory is taken.
-Meet with client personnel, obtain a map of the area and a schedule of inventory counts to be made for each area.
-Obtain a list of sequential tag numbers to be used.
-Observe the procedures the client has implemented to shut down receipt or shipment of goods.
-Observe that the client has shut down production.
-Obtain document numbers for the last shipment and receipt of goods before inventory is taken.
Discuss the procedures the audit team will most likely perform during the physical observation of inventory.
-Note first and last tag number used in section
-Note all tag numbers and the disposition of all tag numbers in the sequence
-Note the product identification, product description, units of measure, and number of items on a count sheet
-Note items that appear to be obsolete or of questionable value
-Note all high dollar value items included in inventory
-Note movement of goods into or out of the company during the process of inventory taking. -Determine if goods are properly counted or excluded from inventory.
The auditor will discuss contingencies with the appropriate executives and management of the company. Identify at least five sources of evidence to corroborate management's representations regarding contingencies.
-Description/evaluation of contingencies that existed at the balance sheet date or that arose prior to the end of the fieldwork and for which matters were referred to legal counsel, including correspondence and invoices from lawyers
-Assurance that the accounting and disclosure requirements concerning contingent liabilities have been met
-Info about major contracts in which contingencies may be present such as the sale of receivables
-Documentation of communication with internal and external legal counsel of the client
-Documentation of contingent liabilities contained in corporate minutes, correspondence from governmental agencies, and bank confirmations
Describe the purpose of the management representation letter.
-Reminding management of its responsibility for the financial statements
-Confirming oral responses obtained by the auditor earlier in the audit and the continuing appropriateness of those responses
-Reducing the possibility of misunderstanding concerning the matters that are the subject of the representations
Provide two examples of a Type I subsequent event and explain how these events would be treated in the financial statements.
-Client settles a lawsuit for a different amount than was occurred, should be adjusted and disclosed
-Sale of inventory below carrying value provides evidence that NRV was less than cost at year end, should adjust and disclose
Provide two examples of a Type II subsequent event and explain how these events would be treated in the financial statements.
-A material change occurs in the value of investment securities (disclose)
-A customer initiates a significant lawsuit relating to an incident that occurred after the balance sheet date (disclose)
What is a management letter and how does it differ from a management representation letter?
Letter from the auditor to the client identifying any problems and suggested solutions that may help management improve its effectiveness or efficiency, it is more constructive criticism and suggestions rather than legal liability
What are the five basic types of financial statement audit reports?
Disclaimer of opinion
Aloe Products is an online retailer of lotions and other beauty supplies. The company records revenues at the time that the customer orders are placed on the website, rather than when goods are shipped. Goods are typically shipped two days after the order is placed. The auditor determines that the amount of orders placed but not shipped as of the balance sheet date is not material. Which type of audit report would you suggest be issued and why?
Unqualified/unmodified because there are no material violations of GAAP
1. The client will not allow the auditor to view the minutes for the entire year under audit and beyond.
Problem: Auditor was not able to perform all of the necessary procedures
2. The auditor finds that the firm is not independent of the client on the last day of fieldwork.
Problem: Auditor is not independent
Opinion:Disclaimer of opinion
3. The client declines to include a statement of cash flow in the financial statements.
Problem: Not conforming to accounting standards
4. The client fails to record an immaterial amount of insurance paid in advance as an asset.
Problem: Material violations of GAAP, and disclosures were not accurate
The client does not record impairment of goodwill and will not depreciate property and equipment. Both are considered very material.
Problem: Material violation of GAAP
There is substantial doubt about the client's ability to continue as a going concern
Problem: The auditor has doubt regarding going concern
Opinion: Adverse Opinion
Confirmation of accounts receivable is required by auditing standards unless certain conditions exist. Identify the three conditions that will be present in an audit that does not confirm accounts receivable.
-Accounts receivable are immaterial to the financial statements.
-The use of confirmations would be ineffective.
-The auditor's combined assessed level of inherent and control risk is low, and the assessed level is sufficient to reduce audit risk to an acceptably low level for the applicable financial statement assertions.
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