arens solution manual Chapter 6

5/28/2018 arens solution manual Chapter 6

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2008 Prentice Hall Business Publishing,Auditing 12/e,Arens/Beasley/Elder 6 - 1

Audit Responsibilities

and Objectives

Chapter 6


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Learning Objective 1

Explain the objective of

conducting an audit of

financial statements and

an audit of internal controls.


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Objective of Conducting an

Audit of Financial Statements

The objective of the ordinary audit of financial

statements is the expression of an opinion of

the fairness with which they present fairly, inall respects, financial position, result of

operations, and its cash flows in

conformity with GAAP.


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Steps to Develop Audit

Objectives

1. Understand objectives and

responsibilities for the audit.

2. Divide financial statements into cycles.

3. Know management assertions about

accounts.


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Steps to Develop Audit

Objectives

4. Know general audit objectives for

classes of transactions and accounts.

5. Know specific audit objectives for

classes of transactions and accounts.


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Distinguish managements

responsibility for the financial

statements and internal control

from the auditors responsibility

for verifying the financialstatements and effectiveness

of internal control.


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Managements

Responsibilities

Management is responsible for the financial

statements and for internal control.

The Sarbanes-Oxley Act increases managements

responsibility for the financial statements.

It requires the CEO and the CFO of publiccompanies to certify the quarterly and annual

financial statements submitted to the SEC.


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Managements

Responsibilities

The Sarbanes-Oxley Act provides for criminal

penalties for anyone who knowingly falsely

certifies the statements.


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Explain the auditors

responsibility for discovering

material misstatements.


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Auditors Responsibilities

Material versus immaterial misstatements

Reasonable assurance

Errors versus fraud

Professional skepticism

Fraud resulting from fraudulent financial

reporting versus misappropriation of assets


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Auditors Responsibilities for

Discovering Illegal Acts

Direct-effect illegal acts

Indirect-effect illegal acts

Evidence accumulation when there is no reason

to believe indirect-effect illegal act exists


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Auditors Responsibilities for

Discovering Illegal Acts

Evidence accumulation and other actions

when there is reason to believe direct- or

indirect-effect illegal acts may exist

Actions when the auditor knows of an illegal act


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Classify transactions and account

balances into financial statement

cycles and identify benefits of a

cycle approach to segmenting

the audit.


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Financial Statements Cycles

Audits are performed by dividing the financial

statements into smaller segments or components.


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Transaction Flow Example

Ledgers,Trial Balance,and FinancialStatements

General ledger

and subsidiaryrecords

General ledger

trial balance

Financialstatements

Acquisitionof goods

and services

Sales

Cashreceipts

Transactions

Cash receiptsjournal

Salesjournal

Acquisitionsjournal

Journals


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Transaction Flow Example

Allocationand

adjustments

Cashdisbursements

Payrollservices and

disbursements

Ledgers,Trial Balance,and FinancialStatements

General ledger

and subsidiaryrecords

General ledger

trial balance

Financialstatements

Transactions

Payrolljournal

Cashdisbursements

journal

Generaljournal

Journals


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Relationships Among

Transaction CyclesGeneral

cash

Capital acquisitionand repayment cycle

Sales andcollection

cycle

Acquisitionand payment

cycle

Payroll andpersonnel

cycle

Inventory andwarehousing

cycle


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Describe why the auditor obtains

a combination of assurance by

auditing classes of transactions

and ending balances in accounts,

including presentation anddisclosure.


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Balance and Transactions

Affecting Balances Example

Beginning balance

Sales

$ 17,521

$144,328 $137,087 Cash receipts

$ 1,242Sales returnsand allowances

Charge-off ofuncollectibleaccounts

Ending balance $ 20,197

$ 3,323

Accounts Receivable (in thousands)


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Distinguish among the three

categories of management

assertions about financial

information.


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Management Assertions

1. Assertions about classes of transactions and

events for the period under audit

2. Assertions about account balances a period end

3. Assertions about presentation and disclosure


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Management Assertions forEach Category of Assertions

Assertions About Classesof Transactions and Events

Assertions AboutAccount Balances

Assertions AboutPresentation and Disclosure

Occu rrence Existence Occu rrence and r ights

and ob l igat ions

Completeness Completeness Completeness

Ac cu racy Valuat ion and

al locat ion

Accu racy and

valuat ion

Class i f icat ion Classi f ic at ion and

understandabi l i ty

Cutoff

Rights and

obl igat ions


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Link the six general transaction-

related audit objectives to

management assertions

for classes of transaction.


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OccurrenceRecorded transactions

exist

CompletenessExisting transactions

are recorded

AccuracyRecorded transactionsare stated at the

correct amounts

General Transactions-relatedAudit Objectives


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ClassificationTransactions are properly

classified.

TimingTransactions are recorded

on the correct dates.

Posting and

summarization

Transactions are included

in the master files and

are correctly summarized.

General Transactions-relatedAudit Objectives


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Management Assertions andTransaction-related Audit Objectives

Management AssertionsAbout Classes ofTransactions and Events

General Transaction-related AuditObjectives

Specific Sales Transaction-related Audit Objectives

Occurrence Occurrence Recorded sales are forshipments made tononfictitious customers

Completeness Completeness Existing salestransactions are recorded

Accuracy Accuracy Recorded sales are forthe amount of goodsshipped and are correctlybilled and recorded

Hillsburg Hardware Company:As Applied to Sales Transactions


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Accuracy Posting andsummarization

Sales transactions areproperly included in themaster file and arecorrectly summarized

Classification Classification Sales transactions areproperly classified

Cutoff Timing Sales transactions arerecorded on the correctdates.

Management AssertionsAbout Classes ofTransactions and Events

General Transaction-related AuditObjectives

Specific Sales Transaction-related Audit Objectives

Hillsburg Hardware Company:As Applied to Sales Transactions


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Link the eight general balance-

related audit objectives to

management assertions

for account balances.


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Existence Amounts included exist

CompletenessExisting amounts are

included

Accuracy

Amounts included are

stated at the correct

amounts

General Balance-related

Audit Objectives


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ClassificationAmounts are properly

classified

CutoffTransactions are recorded

in the proper period

Detail tie-in

Account balances agree

with master file amounts,

and with the general ledger


Audit Objectives


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Realizable

value

Assets are included at

estimated realizable value

Rights and

obligationsAssets must be owned


Audit Objectives


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Management AssertionsAbout Account Balances

General Balance-related Audit

Objectives

Specific Balance-related AuditObjectives Applied to Inventory

Existence Existence All recorded inventory existsat the balance sheet date

Completeness Completeness All existing inventory hasbeen counted and included

in the inventory summary

Hillsburg Hardware Company:As Applied to Inventory


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ObjectivesValuation andallocation

Accuracy Inventory quantities on theclients perpetual recordsagree with items physicallyon hand

Prices used to valueinventories are materiallycorrect

Extensions of price timesquantity are correct anddetails are correctly added




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Classification

Cutoff

Inventory items are properlyclassified as to rawmaterials, work in process,and finished goods

Purchase cutoff at year endis properSales cutoff at year end is

proper




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Detail tie-in

Realizablevalue

Total of inventory itemsagrees with general ledger

Inventories have been writtendown where net realizable

value is impaired



Rights and obligations Rights andobligations

The company has title to allinventory items listed

Inventories are not pledgedas collateral


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Link the four presentation and

disclosure-related audit objectives

to management assertions for

presentation and disclosure.


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Management Assertions and Presentation

and Disclosure-related Audit Objectives

Hillsburg Hardware Company:As Applied to Notes Payable

ManagementAssertions About

Presentation andDisclosure

Specific Presentation andDisclosure-related Audit Objectives

Applied to Notes Payable

Occurrenceand rights and

obligations

Occurrenceand rights and

obligations

Notes payable as described in thefootnotes exist and are

obligations of the companyCompleteness Completeness All required disclosures related

to notes payable are included inthe financial statement footnotes

GeneralPresentation-

and Disclosure-related AuditObjectives


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Management Assertions and Presentation

and Disclosure-related Audit Objectives

Hillsburg Hardware Company:As Applied to Notes Payable

ManagementAssertions About

Presentation andDisclosure

Specific Presentation andDisclosure-related Audit Objectives

Applied to Notes Payable

Valuation andallocation

Valuation andallocation

Footnote disclosures related tonotes payable are accurate.

Classificationandunderstandability

Classificationandunderstandability

Notes payable are appropriatelyclassified as to short-term andlong-term obligations andrelated financial statementdisclosures are understandable

GeneralPresentation-

and Disclosure-related AuditObjectives


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Explain the relationship between

audit objectives and the

accumulation of audit evidence.


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How Audit Objectives Are Met

The auditor must obtain sufficient appropriate

audit evidence to support all management

assertions in the financial statements.

An audit process has four specific phases


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Four Phases of a Financial

Statement Audit

Phase IPlan and designan audit approach

Phase II

Perform tests ofcontrols andsubstantive testsof transactions

Phase III

Perform analyticalprocedures andtests of details

of balances

Phase IVComplete theaudit and issuean audit report


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End of Chapter 6

arens solution manual Chapter 6

Documents

solution manual chapter

learning objective

objective ofconducting

annualfinancial statements

internal controlfrom

financial position

auditors responsibilityfor

objectives andresponsibilities