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The following statements relate to general principles or terms used in the audit of financial statements. Identify at least two errors from each of the following statements (a)-(e) and explain why these are errors and suggest corrections.
(a) Audit objective (4 marks)
The objective of an audit of financial statements is for auditors to make sure the financial statements give a true and correct view in all respects in accordance with an identified financial reporting framework and to ensure that they detect all fraud that may have taken place.
(b) HKSA (4 marks)
The Hong Kong Standards on Auditing specify exactly the necessary audit procedures that auditors should perform. For all private and listed companies, the Financial Reporting Council is responsible for investigating all deviations from the Hong Kong Standards on Auditing.
(c) Terms of engagement (4 marks)
Auditors and their clients should agree on the terms of the engagement, which can be recorded either in the management representation letter or other suitable form of verbal contract. This letter is required to be reissued before the start of every audit, regardless of whether there are any changes to the terms.
(d) Audit opinion (4 marks)
The auditor was unable to attend and observe the inventory count of the companyâs subsidiary in Bangkok due to the recent riots over the current government. The inventory in Bangkok accounts for 80% of the groupâs total inventory. lnventory is a significant amount within current assets but is not considered significant in respect of total assets. The auditor decided the most appropriate audit opinion is an adverse opinion.
(e) Audit documentation (4 marks)
Since the client paid for the audit, the audit working papers are the property of the audit client and they can be used as substitutes for the company's accounting records in case the companyâs accounting records are destroyed in a fire.
2â30. Multiple Choice Questions Select the best answer for each of the following items and give reasons for your choice. a. Which of the following organizations can revoke the right of an individual to practice as a CPA? (1) The Public Company Accounting Oversight Board. (2) The American Institute of Certifi ed Public Accountants. (3) The Securities and Exchange Commission. (4) The applicable state board of accountancy. b. The AICPA over time has played an important role in standards setting. Which of the following standards are currently established by the AICPA? (1) Accounting standards applicable to nonpublic companies. (2) Auditing standards applicable to audits of nonpublic companies. (3) Quality control standards applicable to audits of public companies. (4) Standards for reviews of the interim fi nancial information issued by public companies. c. Which of the following does the FASB consider a source of nonauthoritative guidance for use when there is no authoritative guidance available? (1) The FASB Codifi cation. (2) FASB Concepts Statements. (3) SEC Rules. (4) SEC Interpretive Releases d. Financial statement audits performed under PCAOB requirements are designed to provide which type(s) of assurance with respect to the detection of material misstatements due to errors or fraud? LO 2-1 LO 2-2 LO 2-2 LO 2-1 Objective Questions Reasonable Absolute (1) Yes Yes (2) Yes No (3) No Yes (4) No No She proposed to give the controller, if appointed, an internal auditing staff to carry on such continuing investigations of accounting data as appeared necessary. Evaluate this proposal. 2â28. Reed, CPA, accepted an engagement to audit the fi nancial statements of Smith Company. Reedâs discussions with Smithâs new management and the predecessor auditor indicated the possibility that Smithâs fi nancial statements may be misstated due to the possible occurrence of errors, fraud, and illegal acts. a. Identify and describe Reedâs responsibilities to detect Smithâs errors and fraud. Do not identify specifi c audit procedures. b. Describe Reedâs responsibilities to detect Smithâs material noncompliance with laws. Do not identify specifi c audit procedures. c. Identify and describe Reedâs responsibilities to report Smithâs noncompliance with laws. (AICPA, adapted) 2â29. While the AICPA administers a peer review program for CPA fi rms, the PCAOB staff performs practice inspections. a. Identify the two basic types of peer review. b. On what part of a fi rmâs practice does the PCAOB staff focus its inspections? c. Describe a PCAOB inspection. d. Describe how the PCAOB staff selects an audit engagement for inspection. LO 2-3 Required: LO 2-7 Required: e. A basic objective of a CPA fi rm is to provide professional services that conform with professional standards. Reasonable assurance of achieving this basic objective is provided through: (1) Compliance with generally accepted reporting standards. (2) A system of quality control. (3) A system of peer review. (4) Continuing professional education.
f. Which of the following is not explicitly included in a standard report for a nonpublic company? (1) The CPAâs opinion that the fi nancial statements comply with generally accepted accounting principles. (2) That generally accepted auditing standards were followed during the audit. (3) That internal control of the client was satisfactory. (4) An identifi cation of the fi nancial statements audited. g. The general group of the 10 PCAOB Auditing Standards requires that: (1) The auditors maintain an independent mental attitude. (2) The audit be conducted in conformity with generally accepted accounting principles. (3) Assistants, if any, be properly supervised. (4) The auditors obtain an understanding of internal control. h. Which AICPA quality control standard would most likely be satisfi ed when a CPA fi rm maintains records indicating which partners or employees of the fi rm were previously employed by the CPA fi rmâs clients? (1) Professional relationship. (2) Engagement performance. (3) Relevant ethical requirements. (4) Monitoring. i. An audit provides reasonable assurance of detecting material:
Fraudulent Financial Misappropriation Reporting of Assets (1) Yes Yes (2) Yes No (3) No Yes (4) No No j. Which of the following is not included in an integrated audit report on the fi nancial statements of a public company? (1) The report states that the audit was performed in accordance with AICPA standards. (2) The report indicates that the fi nancial statements are the responsibility of management. (3) The report indicates that the auditors have also audited the effectiveness of the companyâs internal control. (4) The report is signed in the name of the CPA fi rm. k. Audit fi rms that are subject to inspections by the PCAOB staff include: (1) All audit fi rms. (2) Audit fi rms that are registered with the SEC. (3) Audit fi rms that are registered with the PCAOB. (4) Audit fi rms that are registered with a state board of accountancy. l. Which of the following is not a difference noted when comparing the AICPA audit report to the international audit report? (1) The international audit report may use the phrase âtrue and fair view.â (2) The international audit report may be signed using the personal name of the audit partner, the audit fi rm, or both. (3) The international audit report requires inclusion of the city of the CPA fi rm offi ce that performed the audit. (4) The international audit report includes an opinion on internal control. (AICPA, adapted) 2â31. Simulation Casa Royale, Inc., a nonpublic company, retained Ying and Company CPA to perform an audit of the fi nancial statements for the current year. Howard Smythe, the partner in charge of the audit, drafted the following unmodifi ed report:
To the Management of Casa Royale, Inc.: We have examined the accompanying consolidated balance sheet of Casa Royale, Inc., and its subsidiaries, as of December 31, 20X1, and the related consolidated statements of income, retained earnings, and cash fl ows for the years then ended. Managementâs Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these consolidated fi nancial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated fi nancial statements that are free from material misstatement, whether due to fraud or error. Auditorâs Responsibility Our responsibility is to express an opinion on these fi nancial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated fi nancial statements are free of material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated fi nancial statements. The procedures selected depend on the auditorâs judgment, including the assessment of the risks of material misstatement of the consolidated fi nancial statements, whether due to fraud or illegal acts. In making those risk assessments, the auditor considers internal control relevant to the entityâs preparation and fair presentation of the consolidated fi nancial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entityâs internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of signifi cant accounting estimates made by management, as well as evaluating the overall presentation of the consolidated fi nancial statements. We believe that the audit evidence we have obtained is adequate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated fi nancial statements referred to above present fairly, in all material respects, the fi nancial position of Casa Royale, Inc., and its subsidiaries as of December 31, 20X1, and the results of their operations and their cash fl ows for the years then ended in accordance with auditing standards generally accepted in the United States of America. Howard Smythe , Partner Phoenix, Arizona February 12, 20X2 Reviewerâs Comments Comment Is Correct (yes or no) a. The report should not be addressed to management. b. The report should indicate that we have âaudited,â rather than âexamined,â the fi nancial statements (fi rst paragraph after introduction). c. The report should not indicate anything concerning managementâs responsibility for internal control. d. The report should state that the auditorsâ responsibility is to express âreasonable assurance,â not an opinion (fi rst paragraph under âauditorâsâ responsibility). e. The audit is designed to assess risks of material misstatements due to errors or fraud; the term âillegal actsâ is incorrect (second paragraph under auditorâs responsibility). f. The report should not refer to the auditors âevaluating the appropriateness of accounting policies,â since those are the responsibility of management. g. The evidence should be suffi cient and appropriate rather than âadequateâ (third paragraph under auditorâs responsibility).
Reviewerâs Comments Comment Is Correct (yes or no) h. The opinion should not include âin all material respectsâ since the auditors are providing an opinion on the accuracy of the fi nancial statements (opinion paragraph). i. The opinion should be on âaccounting principles generally accepted in the United States of America,â not on auditing standards (opinion paragraph). j. The signature on the report should be that of the CPA fi rm, not that of the partner.
2â31. Simulation Casa Royale, Inc., a nonpublic company, retained Ying and Company CPA to perform an audit of the fi nancial statements for the current year. Howard Smythe, the partner in charge of the audit, drafted the following unmodifi ed report: