Auditing An International Approach 7th Edition – Test Bank

Required:

A) Describe the broad purposes of analytical procedures.
B) Identify the sources of information from which an auditor develops expectations. 
 

Required:

Describe three of the five general forms of analytical procedures. For each form, describe a typical source of the information for the form. For each source, include any questions or concerns an auditor would have about the reliability or relevancy of the source. 
 

Required:

For each of the items below, identify the account(s) that need(s) to be audited carefully and the reason; for example, “potential overstatement or understatement of _______.”

A) Current year accounts receivable is larger than last year but the allowance for doubtful accounts is the same.
B) Current year inventory is larger than last year but the current year gross margin (profit) is larger.
C) Current year long-term liabilities are larger than last year but the interest expense is the same.
D) Current-year fixed assets total is larger than last year but current amortization expense is the same as last year. 
 

Required:

A) Define or describe the independent auditor’s concept of “planning materiality.”
B) Name (but do not describe or explain) three common relationships or considerations used by the auditor quantifying materiality. 
 

Required:

A) Describe the broad purposes of analytical procedures.
B) Identify the sources of information from which an auditor develops expectations. 
 

A) Analytical procedures are used for these broad purposes:

i. To assist the auditor in planning the nature, timing, and extent of other auditing procedures.
ii. As a substantive test to obtain evidence about particular assertions related to account balances or classes of transactions.
iii. As an overall review of the financial information in the final review stage of the audit.

B) An auditor’s expectations are developed from the following sources of information:

i. Financial information for comparable prior periods giving consideration to known changes.
ii. Anticipated results-for example, budgets, forecasts, and extrapolations.
iii. Relationships among elements of financial information within the period.
iv. Information regarding the industry in which the client operates.
v. Relationships of financial information with relevant nonfinancial information.

Required:

Describe three of the five general forms of analytical procedures. For each form, describe a typical source of the information for the form. For each source, include any questions or concerns an auditor would have about the reliability or relevancy of the source. 
 

A) The five general forms of analytical procedures are:

i. Comparison of current-year account balances to one or more prior periods.
ii. Comparison of the current-year account balances to budgets and forecasts prepared by the company.
iii. Evaluation of the relationships of current-year account balances to other current-year balances to determine if they conform to expectations based on the company’s historical experience.
iv. Comparison of current-year account balances and financial ratios with similar information for the industry in which the company operates.
v. Study of the relationships of current-year account balances with relevant non-financial information (e.g., physical production statistics).

B) The five sources of information for analytical procedures are:

i. Financial account information for prior period(s). Company budgets and forecasts.
ii. Financial relationships among accounts in the current period.
iii. Industry statistics.
iv. Nonfinancial information, such as physical production statistics.

C) Concerns about relevance and reliability of the sources of information are:

i. Has the financial information from prior period(s) been audited?
ii. Are company budgets or forecasts generally accurate? What processes does the client go through to develop these?
iii. Are the industry statistics from a reliable source? Are the industry statistics specific enough to the client or the particular segment or division of the client being examined?
iv. Has the nonfinancial information been audited? Have the controls over the production of the nonfinancial information been tested?

Horizontal analysis refers to changes in financial statement amounts and ratios across two or more years. An example would be the increase in revenues from one year to the next. Vertical analysis refers to the relationship among financial statement amounts in the same year. An example would be the ratio of cost of goods sold to product sales revenue.

Required:

For each of the items below, identify the account(s) that need(s) to be audited carefully and the reason; for example, “potential overstatement or understatement of _______.”

A) Current year accounts receivable is larger than last year but the allowance for doubtful accounts is the same.
B) Current year inventory is larger than last year but the current year gross margin (profit) is larger.
C) Current year long-term liabilities are larger than last year but the interest expense is the same.
D) Current-year fixed assets total is larger than last year but current amortization expense is the same as last year. 
 

A) The collectability of accounts receivable is of concern. The allowance for doubtful accounts may be understated. The bad debt expense may be understated. Accounts receivable may be overstated.
B) The existence assertion related to the inventory account is of concern. Inventory may be overstated. Cost of goods sold may be understated.
C) The amount of accrued interest and interest expense is of concern. Interest expense may be understated. It is less likely, but long-term liabilities could be overstated.
D) Amortization expense and accumulated amortization may be understated. It is also possible that fixed assets are overstated.

Materiality is the aggregate amount of errors that may occur in the financial statements before the decision making of users of the financial statement is affected by these errors. In order to assess materiality, the auditor must understand who the users of the financial statements are and for what purpose the financial statements will be used.

Required:

A) Define or describe the independent auditor’s concept of “planning materiality.”
B) Name (but do not describe or explain) three common relationships or considerations used by the auditor quantifying materiality. 
 

A) Planning materiality is the largest amount of uncorrected dollar misstatements the auditor believes could exist in audited financial statements without causing them to be considered misleading.
B) Absolute size, relative size, nature of the item or issue, circumstances, uncertainty, cumulative effects.

The nature of audit procedures refers to evidence techniques they will use, such as examination or recalculation. Timing refers to when the these procedures will be performed, whether before (interim date), at, or after the auditee’s year end. Timing may have other aspects such as surprise procedures (unannounced to auditee personnel) or the need observe periodic auditee procedures, such as rotating inventory counts during the year. The extent usually refers to the sample sizes of data examined, such as the number of customer accounts receivable to confirm, or the number of inventory categories, products, or locations to count.
The nature, timing, and extent of the audit procedures for each component of the audit are documented in the detailed audit plan.