6 6 characteristic audit steps 1 managements

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Unformatted text preview: ol environment. Investigate the past history of the firm and its management. Discuss the possibility of fraudulent financial reporting with previous auditor and company legal counsel after obtaining permission to do so from management. 2. Industry conditions. 3. Operating characteristics and financial stability. Research current status of industry and compare industry financial ratios to the company’s ratios. Investigate any unusual differences. Read AICPA’s Industry Audit Risk Alert for the company’s industry, if available. Consider the impact of specific risks that are identified on the conduct of the audit. Perform analytical procedures to evaluate the possibility of business failure. Investigate whether material transactions occur close to yearend. 6-7 The cycle approach is a method of dividing the audit such that closely related types of transactions and account balances are included in the same cycle. For example, sales, sales returns, and cash receipts transactions and the accounts receivable balance are all a part of the sales and collection cycle. The advantages of dividing the audit into different cycles are to divide the audit into more manageable parts, to assign tasks to different members of the audit team, and to keep closely related parts of the audit together. 6-17 6-8 GENERAL LEDGER ACCOUNT CYCLE Sales Accounts Payable Retained Earnings Accounts Receivable Inventory Repairs & Maintenance Sales & Collection Acquisition & Payment Capital Acquisition & Repayment Sales & Collection Inventory & Warehousing Acquisition & Payment 6-9 There is a close relationship between each of these accounts. Sales, sales returns and allowances, and cash discounts all affect accounts receivable. Allowance for uncollectible accounts is closely tied to accounts receivable and should not be separated. Bad debt expense is closely related to the allowance for uncollectible accounts. To separate these accounts from each other implies that they are not closely related. Including them in the same cycle helps the auditor keep their relationships in mind. 6-10 Management assertions are implied or expressed representations by management about classes of transactions and the related accounts and disclosures in the financial statements. These assertions are part of the criteria management uses to record and disclose accounting information in financial statements. AU 326 classifies assertions into three categories: 1. Assertions about classes of transactions and events for the period under audit 2. Assertions about account balances at period end 3. Assertions about presentation and disclosure 6-11 General audit objectives follow from and are closely related to management assertions. General audit objectives, however, are intended to provide a framework to help the auditor accumulate sufficient appropriate evidence required by the third standard of field work. Audit objectives are more useful to auditors than assertions because they are more detailed and more closely related to helping the auditor accumulate sufficient appropriate evidence. 6-12 TRANSACTION-RELATED AUDIT OBJECTIVE VIOLATED RECORDING MISSTATEMENT Fixed asset repair is recorded on the wrong date. Timing Repair is capitalized as a fixed asset instead of an expense. Classification 6-18 6-13 The existence objective deals with whether amounts included in the financial statements should actually be included. Completeness is the opposite of existence. The completeness objective deals with whether all amounts that should be included have actually been included. In the audit of accounts receivable, a nonexistent account receivable will lead to overstatement of the accounts receivable balance. Failure to include a customer's account receivable balance, which is a violation of completeness, will lead to understatement of the accounts receivable balance. 6-14 Specific audit objectives are the application of the general audit objectives to a given class of transactions, account balance, or presentation and disclosure. There must be at least one specific audit objective for each general audit objective and in many cases there should be more. Specific audit objectives for a class of transactions, account balance, or presentation and disclosure should be designed such that, once they have been satisfied, the related general audit objective should also have been satisfied for that class of transactions, account, or presentation and disclosure. 6-15 For the specific balance-related audit objective, all recorded fixed assets exist at the balance sheet date, the management assertion and the general balance-related audit objective are both "existence." 6-16 Management assertions and general balance-related audit objectives are consistent for all asset accounts for every audit. They were developed by the Auditing Standards Board, practitioners, and academics over a period of time. One or more specific balance-related audit objectives are developed for...
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