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Unformatted text preview: Chapter 06 - Internal Control In a Financial Statement Audit 6-1 CHAPTER 6 INTERNAL CONTROL IN A FINANCIAL STATEMENT AUDIT Answers to Multiple-Choice Questions 6-12 d 6-19 b 6-13 d 6-20 a 6-14 a 6-21 d 6-15 c 6-22 c 6-16 a 6-23 b 6-17 c 6-24 d 6-18 b Solutions to Problems 6-25 a. The COSO definition is: “Internal control is design and effected by an entity’s board of directors, management, and other personnel that is designed to provide reasonable assurance about the achievement of the entity’s objectives in the following categories: (1) reliability of financial reporting, (2) effectiveness and efficiency of operations, and (3) compliance with applicable laws and regulations.” In Chapter 7, you will find a somewhat similar definition for internal control that is included in the PCAOB’s AS5. b. The auditor should obtain an understanding of each of the five components of internal control in order to plan the audit. This understanding includes knowledge about the design of relevant controls and whether they have been placed in operation by the entity. The auditor uses this knowledge to (1) identify the types of potential misstatements, (2) consider factors that affect the risk of material misstatement, (3) design tests of controls and substantive procedures. c. An auditor should document the understanding of the internal control components obtained to plan the audit. The auditor should also document the assessed level of control risk. 6-26 The control environment factors that establish, enhance, or mitigate the effectiveness of specific controls, and their components, are: Communication and Enforcement of Integrity and Ethical Values The effectiveness of an entity’s controls is influenced by the integrity and ethical values of the individuals who create, administer, and monitor the controls. Integrity and ethical values are essential elements of the control environment, affecting the design, administration, and monitoring of the other components. Integrity and ethical behavior are the product of the entity’s ethical and behavioral standards, how they are communicated, and how they are reinforced in practice. Chapter 06 - Internal Control In a Financial Statement Audit 6-2 A Commitment to Competence Management must specify the competence level for a particular job and translate it into the required level of knowledge and skill. Management must then hire employees who have the appropriate competence for a job. Participation of Board of Directors and Audit Committee The board of directors and audit committee significantly influence the control consciousness of the entity. Factors that affect the effectiveness of the board and audit committee include the following: its independence from management, the experience and stature of its members, the extent of its involvement with and scrutiny of the entity's activities, the appropriateness of its actions, the degree to which difficult questions are raised and pursued with management, and its interaction with the internal and external...
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- Spring '11