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to determine the effects on after tax net earnings. d. By allocating 75% of the preliminary estimate to accounts receivable,
inventories, and accounts payable, there is far less materiality to be
allocated to all other accounts. Given the total dollar value of those
accounts, that may be a reasonable allocation. The effect of such
an allocation would be that the auditor might be able to accumulate
sufficient competent evidence with less total effort than would be
necessary under part b. Under part b, it would likely be necessary
to audit, on a 100% basis, accounts receivable, inventories, and
accounts payable. On most audits it would be expensive to do that
much testing in those three accounts.
It would likely be necessary to audit accounts such as cash
and temporary investments on a 100% basis. That would not be
costly on most audits because the effort to do so would be small
compared to the cost of auditing receivables, inventories, and accounts
payable. e. It is necessary for you to be satisfied that the actual estimate of
misstatements is less than the preliminary judgment about
materiality for all of the bases. First you would reevaluate the
preliminary judgment for earnings. Assuming no change is considered
appropriate, you would likely require an adjusting entry or an
expansion of certain audit tests. 9-62 9-28 a. The following terms are audit planning decisions requiring
professional judgment: Preliminary judgment about materiality Acceptable audit risk Tolerable misstatement Inherent risk Risk of fraud Control risk Planned detection risk b. The following terms are audit conclusions resulting from application
of audit procedures and requiring professional judgment: Estimate of the combined misstatements Estimated total misstatement in a segment c. It is acceptable to change any of the factors affecting audit planning
decisions at any time in the audit if indicated by changes in
circumstances. The planning process begins before the audit starts
and continues throughout the engagement. 9-29 Acceptable audit risk is a measure of how willing the auditor is to accept
that the financial statements may be materially misstated after the audit is
completed and an unqualified opinion has been issued.
a. True. A CPA firm should attempt to use reasonable uniformity from
audit to audit when circumstances are similar. The only reasons for
having a different audit risk in these circumstances are the lack of
consistency within the firm, different audit risk preferences for
different auditors, and difficulties of measuring audit risk. b. True. Users who rely heavily upon the financial statements need
more reliable information than those who do not place heavy
reliance on the financial statements. To protect those users, the
auditor needs to be reasonably assured that the financial
statements are fairly stated. That is equivalent to stating that
acceptable audit risk is lower. Consistent with that conclusion, the
auditor is also likely to face greatest legal exposure in situations
where external users rely heavily upon the statements. Therefore,
the auditor should be more certain that the financial statements are
correctly stated. c. True. The reasoning for c is essentially the same as for b. d. True. The audit opinion issued by different auditors conveys the
same meaning regardless of who signs the report. Users cannot be
expected to evaluate whether different auditors take different risk
levels. Therefore, for a given set of circumstances, every CPA firm
should attempt to obtain approximately the same audit risk. 9-63 9-30 a. 1. 2. The auditor may set inherent risk at 100% because of lack of
prior year information. If the auditor believes there is a
reasonable chance of a material misstatement, 100% inherent
risk is appropriate. Similarly, because the auditor does not plan
to test internal controls due to the ineffectiveness of internal
controls, a 100% risk is appropriate for control risk.
Acceptable audit risk and planned detection risk will be
identical. Using the formula:
PDR = AAR / (IR x CR), if IR and
CR equal 1, then PDR = AAR. 3. b. If planned detection risk is lower, the auditor must accumulate
more audit evidence than if planned detection risk is higher.
The reason is that the auditor is willing to take only a small
risk that substantive audit tests will fail to uncover existing
misstatements in the financial statements. 1. Using the formula in a., planned detection risk is equal to
20% [PDR = .05 / (.5 x .5) = .2].
Less evidence accumulation is necessary in b-1 than if
planned detection risk were smaller. Comparing b-1 to a-2
for an acceptable audit risk of 5%, considerably less evidence
would be required for b-1 than for a-2. 2. c. 1. 2.
3. The auditor might set acceptable audit risk high because
Redwood City is in relatively good financial condition and
there are few users of financial statements. It is common in
municipal audits for the only major users of the financial
statements to be state agencie...
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This note was uploaded on 02/04/2014 for the course ACCOUNTING 211 taught by Professor Alikapur during the Fall '13 term at American University of Sharjah.
- Fall '13