ACC701Sem – Auditing

Semester 2 2020

Mid Exam Revision

Question 1

In addition to integrity, ethics and independence, auditors must possess an inherent ability to
understand the client. This pertains not only to the manner in which the company operates, but the
industry in which the client participates. The auditor must be able to use sound professional
judgment and skepticism to perceive issues and propose solutions. An auditor must understand the
environment in which a client does business.

The surrounding economic, cultural and political aspects of a company are all vital to the auditor's
understanding of risks.

An auditor must be able to interpret a complex body of knowledge, apply audit procedures and
measure assertions against the criteria of generally accepted accounting principles. Risks must be
adequately considered for the audit and the client so that the audit firm may reduce exposure in
the marketplace.

Information technology used by clients must also be understood by the auditor so that internal
control, prevention and detection of misstatements and the audit trail might be assessed. Similarly,
the auditor must use software to perform an audit efficiently and adequately.

Question 2

Audit firms have taken criticism for failing to discover material frauds. Auditors have a greater
responsibility to plan the audit to consider and detect fraud. This is accomplished partially by
the auditor's use of professional skepticism. Professional skepticism is not necessarily being
cynical; rather, it is performing an audit with a questioning mind. It means that the auditors will
obtain persuasive evidence to corroborate management responses to inquiries and to increase
the sufficiency of substantive audit evidence. Professional skepticism is exhibited in the auditor's
assumption that honesty in people is not a given. Auditors must not only go beyond the evidence
in front of them, they must have the mindset of the possibility of fraud in all financial statement
engagements.
It must also be mentioned that John’s perspective will likely not be acceptable to the audit firm
because his attitude toward fraud is not rigorous enough for the profession.
 John must realize that, quite often, fraud in organizations usually takes place in one of three
areas:
Asset misappropriation such as theft and misuse of assets.
Fraudulent financial reporting such as the overstatement of certain assets and revenues and the
understatement of certain liabilities and expenses.

Question 3

The factors that an auditor should consider when reviewing the control environment would
include:

• management's philosophy and operating style.

• the entity's organization structure.
• the functioning of the board of directors and its committees.
• methods of assigning authority and responsibility.
management's control methods for monitoring and following up on performance, including
•
internal auditing.
• personnel policies and practices.
external influences such as bank regulatory agencies.
•
The auditor would examine his or her findings relating to each of the listed factors in determining
whether control risk was high, medium or low. For example, if the philosophy of management
placed little priority on internal controls the auditor would be concerned about control risk.
Question 4

Following is a list of audit procedures performed. For each procedure, identify the assertion(s)
being tested.

Auditing procedures performed

a. Calculate the ratio of Cost of Goods Sold to Sales as a test of overall reasonableness of the
balance for Cost of Goods Sold. Valuation, Accuracy
b. Trace a sales transaction from the origination of an incoming sales order to the shipment
of merchandise to an invoice and to the proper recording in the sales journal. Existence,
completeness, valuation
c. Test the accuracy of the sales invoice by multiplying the number of items shipped by the
authorized price list to determine extended cost. Foot the total and reconcile it with the
total invoiced. Accuracy, Valuation
d. Select recorded sales invoices and trace the corresponding shipping documents to verify
the existence of goods shipped. Existence, Valuation
e. Examine cancelled cheques returned with the client’s January bank statement as support of
outstanding cheques listed on the client’s December year-end bank reconciliation.
Existence, Accuracy and Valuation
f. Perform test counts of the client’s marketable securities held in a safe deposit box.
Valuation, Existence
g. Tour the plant to determine that a major equipment acquisition was received and is in
working condition. Existence, Valuation, Rights
h. Review a lease contract to determine the items it covers and its major provisions.
Existence, Valuation, Completeness
i. Request a statement from a major customer as to its agreement or disagreement with a year-
end receivable balance shown to be due to the audit client. Existence, Valuation
j. Develop a spreadsheet to calculate an independent estimate of the client’s warranty liability
(reserve) based on production data and current warranty repair expenditures. Accuracy,
Valuation
k. Develop a spreadsheet to independently test the calculations made by the client in
computing a warranty liability (reserve). Accuracy, Valuation
l. Meet with the client’s internal legal department to determine its assessment of the potential
outcome of pending litigation regarding a patent infringement suit against the company.
Completeness, Disclosure and Valuation
m. Review all major past-due accounts receivable with the credit manager to determine
whether the client’s allowance for doubtful debts is adequate. Disclosure and Valuation
n. Make test counts of inventory items and record the items in the audit documentation for
subsequent tests. Existence, Completeness and Valuation
o. Obtain information about the client’s processing system and associated controls by asking
the client’s personnel to fill out a questionnaire. N/A as the client is trying to gain
understanding of internal controls rather than testing
p. Examine board of directors’ minutes for the approval of a major bond issued during the
year. Completeness, Existence and Valuation
q. Have the client’s outside law firm send a letter directly to the auditor providing a
description of any differences between the lawyer’s assessment of litigation and that of the
client. Completeness, Disclosure and Valuation