Aud Theo - 3

TEST I:

1. What are Financial Statement Assertions?

Financial statement assertions are statements or claims made by businesses about the
fundamental accuracy of the information contained in their financial statements. The balance
sheet, income statement, and cash flow statement are examples of these statements. These
claims, also known as management assertions, can be either implicit or explicit. External
auditors develop a set of audit procedures based on the assertions.

2. Define audit evidence. What are the different sources of evidence?
Auditing evidence is information gathered for a review of a company's financial

transactions, internal control practices, and other items required for an auditor or certified
public accountant to certify financial statements (CPA). The amount and type of auditing
evidence considered varies significantly depending on the type of firm being audited as well
as the audit's required scope. Audit evidence includes all information obtained from audit
procedures or other sources that is used by the auditor in reaching the conclusions that form
the basis of the auditor's opinion. It also includes information that both supports and
corroborates management's assertions about the financial statements or internal control over
financial reporting, as well as information that contradicts such assertions.
3. What is materiality in the audit process?
In terms of auditing, materiality refers to more than just a monetary value; it also refers
to the impact that amount will have in various contexts. During the audit planning process, the
auditor determines the level of materiality, considering the entire set of financial statements to
be audited. Materiality refers to both the content of the financial statements and the level and
type of testing to be performed. The decision is based on assessments of the size, nature, and
specific circumstances of misstatements (or omissions) that could influence users of financial
reports. Furthermore, the decision is influenced by legislative and regulatory requirements, as
well as public expectations.
4. What is audit risk?

Audit risk is the risk that the auditor will issue an incorrect audit opinion if the financial
statements are materially misstated, i.e., not presented fairly in accordance with the applicable
financial reporting framework. Audit risk is proportional to the risk of material misstatement
and the risk of detection.
5. What are the components of audit risk? Explain each one briefly.
Audit risk has two components, the risk of material misstatement and the detection risk.
The risk of material misstatement talks about the risk that the financial reports are materially
incorrect before the audit is performed. The term "material" in this context refers to a dollar
amount large enough to sway the opinion of a financial statement reader, and the percentage or
dollar amount is subjective. The risk of material misstatement is increased if insufficient
internal controls are suspected, which is also a fraud risk. This type of risk is also called
combined risk assessment. On the other hand, detection risk is defined as the risk that the
auditor’s procedures do not detect a material misstatement. It is commonly known for being a
controllable and dependent risk because its basis of being high or low is dependent on the
assessment of the risk of material misstatement or the non-controllable risks.
6. Can risk be eliminated? Explain your answer.
Risk can never be eliminated; it can only be mitigated, not eliminated. As previously
stated, one aspect of audit risk is uncontrollable: the risk of material misstatement. Inherent
risks are included in this type of audit risk. Inherent risks are those that are unavoidable or
uncontrollable due to human error or fraud which is also a risk that can be found in different
types of situations, not only in auditing. Because this type of risk is uncontrollable, risk is
impossible to be eliminated.
7. What activities does the auditor perform during the initial phase of the audit
engagement?
The auditor should plan the audit thoroughly. This standard outlines the auditor's duties
in terms of audit planning. Planning the audit entails developing an audit plan, which includes,
in particular, planned risk assessment procedures and responses to material misstatement risks.
Planning is not a discrete phase of an audit; rather, it is a continuous and iterative process that
may begin shortly after (or in conjunction with) the completion of the previous audit and
continue until the completion of the current audit. At the start of the audit, the auditor should
perform the following tasks:
1) Perform procedures regarding the continuance of the client relationship and the specific
audit engagement,
2) Determine compliance with independence and ethics requirements, and
3) Establish an understanding of the terms of the audit engagement with the audit committee
in accordance with Auditing Standard No. 16, Communications with Audit Committees.
8. What are the situations that we do not continue or reject the audit engagement?
If the audit engagement partner believes that any threats to the auditor's objectivity and
independence cannot be reduced to an acceptable level, he or she must decline to accept or
continue the audit engagement. Also, if a new client requests an auditor's services, the auditor
must first assess the client's integrity, determining whether the potential future client is not
committing wrongful acts that violate the law and human moral principles. This testing of
integrity is applicable not only to new clients, but also to existing clients who wish to continue
working with the said auditor and must maintain their integrity. Without integrity, there will
be no audit contract.
9. What is the importance of an engagement letter?
The purpose of an engagement letter is to inform the auditee about the nature of the
engagement and to clarify the roles of the parties involved. It is important in an audit
engagement because it contains lots of information about the whole process of the audit that
will happen such as the objective of audit of the financial statements, management’s
responsibility for the financial statements, the scope of the audit, and a lot more that the
company will need when presenting an audited financial statement.
10. What is the product of the audit process? Cite instances when it is appropriate to
issue each type of audit report.

According to ISA 580, Written Representations, the auditor must consider the matters
to be included in management's written representation near the end of the audit. This is
something to think about near the end of the audit because ISA 580 requires that the date of the
written representation be as close to, but not later than, the date of the auditor's report. Because
written representations are required audit evidence, the auditor's opinion cannot be expressed,
and the auditor's report cannot be dated before the written representations. Significant
subsequent events may emerge late in the audit, so written representations should cover the
entire subsequent events period, right up to the date the audit report is dated.
TEST II:
For each of the following descriptions, indicate which type of audit (financial statement audit,
audit of internal control, compliance audit, operational audit, or forensic audit) best
characterizes the nature of the audit being conducted. Also indicate which type of auditor
(external auditor, internal auditor, government auditor, or forensic auditor) is likely to perform
the audit engagement.
a. Evaluate the policies and procedures of the Food and Drug Administration in terms of
bringing new drugs to market. – OPERATIONAL AUDIT – Government Auditor
b. Determine the fair presentation of Ajax Chemical’s balance sheet, income statement, and
statement of cash flows. – FINANCIAL STATEMENT AUDIT – External Auditor
c. Review the payment procedures of the accounts payable department for a large manufacturer.
– COMPLIANCE AUDIT, OPERATIONAL AUDIT, OR AUDIT OF INTERNAL
CONTROL – Internal Auditor or External Auditor
d. Examine the financial records of a division of a corporation to determine if any accounting
irregularities have occurred. – FINANCIAL STATEMENT AUDIT – External Auditor
e. Evaluate the feasibility of forecasted rental income for a planned low-income public housing
project. – OPERATIONAL AUDIT – External, Internal or Forensic Auditor

f. Evaluate a company’s computer services department in terms of the efficient and effective
use of corporate resources. OPERATIONAL AUDIT – Internal or External Auditor
g. Audit the partnership tax return of a real estate development company. COMPLIANCE
AUDIT – Government Auditor
h. Investigate the possibility of payroll fraud in a labor union pension fund. COMPLIANCE
OR FORENSIC AUDIT – Government, External, or Forensic Auditor

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TEST I:

1. What are Financial Statement Assertions?

2. Define audit evidence. What are the different sources of evidence?

Auditing evidence is information gathered for a review of a company's financial

3. What is materiality in the audit process?

4. What is audit risk?

6. Can risk be eliminated? Explain your answer.

9. What is the importance of an engagement letter?

issue each type of audit report.

the audit engagement.

bringing new drugs to market. – OPERATIONAL AUDIT – Government Auditor

statement of cash ﬂows. – FINANCIAL STATEMENT AUDIT – External Auditor

– COMPLIANCE AUDIT, OPERATIONAL AUDIT, OR AUDIT OF INTERNAL

CONTROL – Internal Auditor or External Auditor

d. Examine the ﬁnancial records of a division of a corporation to determine if any accounting

irregularities have occurred. – FINANCIAL STATEMENT AUDIT – External Auditor

project. – OPERATIONAL AUDIT – External, Internal or Forensic Auditor

use of corporate resources. OPERATIONAL AUDIT – Internal or External Auditor

AUDIT – Government Auditor

OR FORENSIC AUDIT – Government, External, or Forensic Auditor

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