midterm material

big picture,

audit

a systematic process of objectively obtaining and evaluating audit evidence to express an opinion if financial stmts are free from material misstatement

purpose of an audit

to enhance the degree of confidence of intended users by expressing an opinion on the financial stmts

reasonable assurance

a high, but not absolute, level of assurance that financial stmts are free from material misstatement, recognizing the inherent limitations of an audit

absolute assurance

a level of assurance that CANNOT be attained in an audit due to inherent limitations such as judgment, sampling, and the nature of audit evidence

material misstatement

a misstatement that could reasonably influence the economic decisions of users of the financial stmts

misstatement

a difference between reported financial info and what should’ve been reported under the applicable financial reporting framework

inherent limitations of an audit

limitations resulting from the use of judgment, sampling, possible management bias, and the nature of audit evidence that prevent auditors from providing absolute assurance

error

an unintentional misstatement in financial stmts resulting from mistakes in data processing, accounting estimates, or application of accounting principles

fraud

an intentional act involving deception that results in a material misstatement in the financial stmts

fraudulent financial reporting

intentional misstatements or omissions designed to deceive financial stmt users

misappropriation of assets

the theft/misuse of an entity’s assets, often involving employees or management

illegal acts

violations of laws/regulations by the entity that may affect the financial stmts

direct-effect illegal acts

illegal acts that have a direct and material effect on financial stmt amounts or disclosures

indirect-effect illegal acts

illegal acts that do not directly affect financial stmt amounts but may require disclosure

audit risk

the risk that the auditor expresses an inappropriate opinion when the financial stmts are materially misstated

risk of material misstatement

the risk that the auditor’s conclusion based on a sample differs from the conclusion that would be reached if the entire population were examined

non-sampling risk

the risk that the auditor reaches an inappropriate conclusion for reasons unrelated to sampling, such as inappropriate procedures, poor judgment, or misinterpretation of evidence

audit evidence

all info used by the auditor to arrive at conclusions on which the audit opinion is based

sufficient appropriate audit evidence

audit evidence that is adequate in quantity (sufficiency) and appropriate in quality (relevance and reliability) to support the audit opinion

analytical evidence

evidence obtained through evaluation of relationships among financial and nonfinancial data to identify unusual/unexpected trends

inquiry evidence

info obtained through oral/written inquiries of management or others; generally requires corroboration

corroborating evidence

audit evidence that supports, confirms, or is consistent with other evidence obtained, increasing overall reliability and persuasiveness

documentary evidence

written or electronic records like contracts, invoices, bank stmts, confirmations, and minutes

external documentary evidence

documents originating outside the entity, generally more reliable than internally generated evidence (think: TPA)

internal documentary evidence

documents generated within the entity, whose reliability depends on the effectiveness of internal control

direct evidence

evidence obtained firsthand by the auditor through physical inspection, observation, or reperformance

indirect evidence

evidence obtained through inquiry or analytical procedures without direct verification

physical examination

inspection of tangible assets, such as inventory or fixed assets

observation

watching processes or procedures being performed by others

reperformance

the auditor’s independent execution of procedures or controls originally performed by the entity (think: walkthroughs )

management

individuals responsible for preparing the financial stmts, maintaining internal control, selecting accounting policies, and providing info to the auditor

those charged with governance

persons responsible for overseeing the strategic direction and financial reporting process of the entity

audit committee

a subcommittee of the board of directors responsible for oversight of financial reporting, auditor independence, and audit quality

external auditor

an independent public accountant engaged to examine financial stmts and express an opinion

internal auditor

an employee or function responsible for evaluating internal controls, risk management, and governance processes

predecessor auditor

the auditor who audited the entity’s financial stmts for the prior period

successor auditor

the auditor accepting an engagement for a client previously audited by another auditor

engagement letter

a written agreement documenting the objective, scope, responsibilities, and limitations of the audit engagement

audit strategy

the auditor’s high-level approach to conducting the audit, including scope, timing, and direction

audit plan

a detailed description of the nature, timing, and extent of planned audit procedures responsive to assessed risks

audit documentation

the written record of audit procedures performed, evidence obtained, and conclusions reached

working papers

documents prepared or obtained by the auditor that support the audit opinion

introductory paragraph (incl in Auditor’s Report)

identifies the financial stmts audited and the respective responsibilities of management and the auditor

management’s responsibility for the financial stmts (incl in Auditor’s Report)

states management’s responsibility for preparing the financial stmts and maintaining internal control

auditor’s responsibility

describes the auditor’s obligation to express an opinion and conduct the audit in accordance with GAAS (generally accepted auditing standards)

scope paragraph (incl in Auditor’s Report)

explains what an audit involves and the nature of audit procedures

basis for opinion (incl in Auditor’s Report)

states that the audit was conducted in accordance with auditing standards and that sufficient appropriate evidence was obtained

audit opinion (incl in Auditor’s Report)

the auditor’s conclusion on whether the financial stmts are presented fairly, in all material respects

umodified opinion (incl in Auditor’s Report)

concludes the financial stmts are presented fairly in accordance with the applicable reporting framework

qualified opinion

issued when misstatements or scope limitations are material but not pervasive

adverse opinion

issued when misstatements are both material and pervasive

disclaimer of opinion

issued when the auditor does not express an opinion due to a pervasive scope limitation or inability to obtain evidence

management representation letter

a written letter from management confirming responsibility for the financial stmts and key representations made during the audit

what are auditor’s responsible for?

having the appropriate competence and capabilities to perform the audit, should comply with ethical requirements, and maintain professional skepticism throughout the audit

what does performance of auditors include?

1. the auditor needs to obtain reasonable assurance as to whether the fin stmts are free from material misstatement

2. obtaining reasonable assurance req the auditor to plan and supervise the work, determine materiality levels, identify risks of material misstatement, and design and implement appropriate audit responses to the assessed risks

3. an audit has inherent limitations such that the auditor is not able to obtain absolute assurance about whether the fin stmts are free from misstatement

How should auditor’s conduct reporting?

the auditor expresses an opinion as to whether the fin stmts are free of material misstatement or states that an opinion cannot be expressed

T/F: an auditor is responsible to give an opinion on a company’s internal controls

false;

management is responsible for their own internal controls, auditor is only responsible for opinion on fin stmts and whether they’ve been misstated or not

If the auditor decides to use a reliance strategy (i.e. assume internal controls can work) to audit accounts payable, s/he is most likely to:

a. decrease emphasis on verbal representation from management

b. increase implementation of audit procedures such as vouching

c. set control risk at maximum level

d. perform tests of controls of purchases and cash disbursements

d.

When an auditor issues an unmodified opinion, it signifies that:

a. no accounting estimates were required

b. the entity operates efficiently and profitably

c. all internal controls were tested and found effective

d. the financial statements are presented fairly in accordance with the applicable framework

d.

one of the primary purposes of an audit plan is to:

a. document the engagement's objectives, scope, and timing

b. document an auditor's understanding of internal control

c. provide for a standardized approach to the audit engagement

d. assess the audit risk accepted by the auditor

a.

an audit plan:

a. records the hours of staff time and expenses incurred on the engagement

b. is the agreement with the client about the scope of the audit

c. demonstrates compliance with GAAS

d. describes risk assessment procedures, including those related to disclosures

d.

According to the PCAOB auditing standards, audit planning most likely includes:

a. determining the opinion to be expressed

b. obtaining a representation letter from the auditee

c. considering appropriate materiality levels

d. selecting a sample of invoices for comparison with shipping reports

c.

The concept of materiality with respect to financial statement auditing:

a. applies only to issuers

b. applies more to qualitative than quantitative factors

c. requires that relatively more effort be directed to those assertions that are more susceptible to misstatement

d. requires the auditor to make judgements as to whether misstatements affect the fairness of the financial statements

d.

Which of the following is a true statement about materiality?

a. materiality requires that relatively more time be directed to those areas that are more susceptible to fraud

b. the risks of material misstatement and detection risk have an inverse relationship

c. materiality has greater application to reporting than to planning

d. materiality is measured according to AICPA standards

b.

In the preparation of an audit plan, which of the following items is not essential?

a. the consideration of significant risks to the entity

b. a review of material from prior audit reports

c. the preparation of a budget identifying the costs of resources needed

d. a review of performance standards set by management

c.

The auditor has determined that management operating and financing decisions in a large entity are dominated by one person. This condition should:

a. heighten the auditor's concern about the risk of material misstatements due to fraud

b. dictate that the auditor rely more heavily on financial controls

c. suggest that the major focus of the audit should be on retained earnings and the other equity accounts

d. provide the auditor assurance that management considers the proper reporting of revenues and expenses to be important

a.

A company hires an independent auditor to conduct a traditional audit in accordance with GAAS. The auditor's primary purpose is to:

a. report on compliance with applicable laws and regulations

b. attest to the presentation of the financial statements

c. report on the effectiveness of an entity's internal control over financial reporting

d. assure management that accounting principles have been applied correctly

b.

When should the auditor most likely prepare the audit plan?

a. when the engagement letter is signed by the client

b. after development of the overall audit strategy

c. upon acceptance of the audit engagement

d. when performing preliminary engagement activities

b.

Documenting the procedures to be performed in testing financial statement assertions is done in the auditor's:

a. audit plan

b. trial balance

c. engagement letter

d. flowcharts

a.

Why do auditors gather evidence?

a. To avoid planning

b. To replace management

c. To reduce paperwork

d. To justify their opinion

d.

Why can auditors not provide absolute assurance?

a. They are not trained

b. Management prevents it

c. Audits are too short

d. There are inherent limitations like judgment and sampling

d.

Why is planning important in an audit?

a. It replaces testing

b. It helps auditors focus on higher-risk areas

c. It eliminates all errors

d. It reduces independence

b.

Why do auditors focus on material items?

a. To save time and focus on what matters

b. Because standards require it always

c. Because small items are illegal

d. Because auditors ignore small errors

a.

What is "professional skepticism"?

a. Maintaining a questioning mindset

b. Avoiding communication

c. Trusting management completely

d. Assuming fraud always exists

a.

Which situation threatens independence?

a. Reviewing documents

b Having a financial interest in the client

c. Asking management questions

d. Using audit software

b.

What is auditor independence?

a. The auditor avoids all communication

b. The auditor works alone

c. The auditor is unbiased and objective

d. The auditor has no clients

c.

Who is responsible for preparing the financial statements?

a. The board of directors

b. The auditor

c. Management

d. The SEC

c.

Which is an example of professional skepticism?

a. Ignoring unusual transactions

b. Accepting explanations without question

c. Asking follow-up questions when something seems unusual

d. Skipping testing

c.

What is audit evidence?

a. Only written documents

b. The final audit opinion

c. Only confirmations

d. Information used by the auditor to support conclusions

d.

An auditor sets materiality lower. What is the likely effect?

a. No change

b. Faster audit

c. More audit work

d. Less audit work

c.

Why is independence both "in fact" and "in appearance" important?

a. It simplifies reporting

b. Only regulators care

c. It reduces audit cost

d. Users must trust both the reality and perception of objectivity

d.

What is the purpose of audit evidence?

a. To prepare financial statements

b. To eliminate all uncertainty

c. To support the auditor's opinion

d. To replace management's records

c.

Which best explains why audits do not guarantee fraud detection?

a. Auditors are not trained

b. Fraud is rare

c. Audits are based on sampling and judgment

d. Fraud is always immaterial

c.

Which concept links materiality and audit effort?

a. Risk

b. Reporting

c. Documentation

d. Independence

a.

Which statement best describes materiality?

a. It is set by management

b. It is the largest balance in the financial statements

c. It depends on what would influence users' decisions

d. It applies only to fraud

c.

Which best describes audit risk?

a. Risk of fraud only

b. Risk of small errors

c. Risk management makes mistakes

d. Risk the auditor gives an incorrect opinion

d.

Which best describes the role of planning in relation to materiality?

a. Materiality is set after the audit

b. Materiality helps determine where to focus during planning

c. Planning eliminates materiality

d. Planning ignores materiality

b.

Which best describes the auditor's overall responsibility?

a. Provide reasonable assurance based on evidence

b. Guarantee no fraud exists

c. Ensure financial statements are perfect

d. Prepare financial statements

a.

Which situation most clearly impairs independence?

a. Auditor owns stock in the client company

b. Auditor performs analytical procedures

c. Auditor asks management for explanations

d. Auditor reviews prior year workpapers

a.

Which of the following best reflects the "big picture" goal of planning?

a. To decide the exact opinion before the audit begins

b. To complete the audit with as little work as possible

c. To develop an effective approach for gathering sufficient appropriate evidence

d. To prove the client is honest

c.

Why is auditor independence important to financial statement users?

a. It helps the audit finish faster

b. It supports confidence that the opinion is unbiased

c. It guarantees the client followed GAAP

d. It reduces the amount of evidence needed

b.

Why does an auditor provide reasonable assurance rather than absolute assurance?

a. Because management decides how much work the auditor performs

b. Because standards prohibit auditors from examining evidence

c. Because auditors are not responsible for financial statements

d. Because every audit is limited by judgment and the practical limits of testing

d.

An auditor identifies several small misstatements in different accounts. Which statement is most accurate?

a. Each small misstatement must be evaluated only by itself

b. Misstatements may matter in combination, not just individually

c. Small misstatements can never become material

d. The auditor may ignore them because they are not fraud

b.

Which of the following is the best example of an issue that should affect audit planning?

a. The client's request that less documentation be prepared

b. A significant change in the company's operations from the prior year

c. The client's hope for a clean opinion

d. The auditor's personal preference for a different work schedule

b.

Which action best demonstrates professional skepticism?

a. Accepting a surprising explanation without support because management seems confident

b. Ignoring an inconsistency because the amount is small

c. Assuming that all differences are fraud

d. Following up on an unusual trend even after receiving an initial explanation

d.

Which statement is most accurate about the auditor's role in detecting fraud?

a. The auditor is not responsible for considering fraud

b. The auditor guarantees all fraud will be found

c. The auditor only looks for fraud if management requests it

d. The auditor considers the possibility of material misstatement, including from fraud

d.

Which statement best distinguishes the responsibilities of management and the auditor?

a. Management provides the opinion; the auditor prepares the statements

b. Both share equal responsibility for the opinion

c. The auditor is responsible for the company's internal decisions

d. Management prepares the financial statements; the auditor evaluates them

d.

Which statement best describes materiality?

a. Materiality is determined entirely by management

b. Materiality depends only on dollar size

c. Materiality refers to any error discovered by the auditor

d Materiality depends on whether an item could influence user decisions

d.

Which of the following best explains why an audit cannot provide certainty?

a. Auditors are not permitted to ask questions of management

b. Auditors are allowed to rely entirely on management

c. Financial reporting involves judgment, and auditors do not test everything

d. Audit standards prohibit the use of evidence from third parties

c.

Which of the following is a true statement about materiality?

a. Materiality has greater application to reporting than to planning.

b. Materiality requires that relatively more time be directed to those areas that are more susceptible to fraud.

c. Materiality is measured according to AICPA standards.

d. The risks of material misstatement and detection risk have an inverse relationship.

d.