Ethical Obligations and Decision Making in Accounting Steven Mintz 5e - Test Bank Instant Download - Complete Test Bank With Answers Sample Questions Are Posted Below Ethical Obligations and Decision-Making, 5e (Mintz) Chapter 5 Fraud in Financial Statements and Auditor Responsibilities 1) Which of the following is NOT something external …
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Ethical Obligations and Decision Making in Accounting Steven Mintz 5e – Test Bank
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Sample Questions Are Posted Below
Ethical Obligations and Decision-Making, 5e (Mintz)
Chapter 5 Fraud in Financial Statements and Auditor Responsibilities
1) Which of the following is NOT something external auditors are expected to do in looking for fraud?
Answer: D
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
2) If the financial statements are not materially misstated for a nonpublic company, the auditor should give a(an):
Answer: A
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
3) An example of fraudulent financial statements is:
Answer: A
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
4) Misstatements in the financial statements can result from:
Answer: D
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
5) Misstatements in the financial statements are most likely to occur when there are:
Answer: B
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
6) The auditor’s responsibility with regard to illegal acts is greatest when:
Answer: B
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Analyze
AACSB: Ethics
Accessibility: Keyboard Navigation
7) The first step for an auditor who concludes an illegal act exists is to:
Answer: C
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
8) An auditor concludes that a client has committed an illegal act that has not been properly accounted for or disclosed. The auditor is most likely to withdraw from the engagement when the:
Answer: D
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
9) The Private Securities Litigation Reform Act imposes additional requirements on public companies reporting to the SEC and their auditors when:
Answer: D
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Analyze
AACSB: Ethics
Accessibility: Keyboard Navigation
10) Auditors are responsible to detect and correct errors when they are:
Answer: A
Difficulty: 1 Easy
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
11) Confidential client information can be disclosed outside the entity without violating the AICPA Code of Professional Conduct in each of the following situations except when:
Answer: C
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
12) The purpose of the fraud triangle is to identify:
Answer: B
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
13) Which of the following is not part of the fraud triangle?
Answer: C
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
14) The difference between errors in the financial statements as compared to fraud is:
Answer: B
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
15) Which of the following is NOT a pressure that might lead to fraud?
Answer: D
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
16) All of the following are in a position to commit fraud except:
Answer: C
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
17) All of the following tend to be rationalizations for fraud except:
Answer: C
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
18) The best explanation why the fraud at Tyco was not discovered and acted on is:
Answer: A
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
19) Which of the following elements were NOT part of the fraud at Tyco?
Answer: C
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
20) The Committee of Sponsoring Organizations of the Treadway Committee (COSO) analyzed the financial reporting of public companies during the 1998-2007 periods when business failures due to accounting fraud were high and found that:
Answer: A
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
21) Which of the following is not one of the evaluations of the control environment of an organization?
Answer: D
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
22) What is enterprise risk management (ERM)?
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
23) Which of the following is an element of ERM?
Answer: A
Difficulty: 3 Hard
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
24) The auditors’ responsibility to communicate findings with respect to fraud can best be summarized as:
Answer: B
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
25) Which of the following is NOT one of the communications that should be made by external auditors to the audit committee?
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Analyze
AACSB: Ethics
Accessibility: Keyboard Navigation
26) Section 302 of the Sarbanes-Oxley Act requires:
Answer: D
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
27) The framework of COSO’s Enterprise Risk Management can best be characterized as:
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
28) Which of the following is not an element of COSO Enterprise Risk Management?
Answer: D
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
29) Which of the following is an element of the introductory paragraph of an auditor’s report under AICPA standards?
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
30) Which of the following is NOT an element of the auditor’s responsibility of the AICPA’s auditor’s report for nonpublic companies?
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
31) Typically, when a going concern issue exists the auditor should:
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
32) In which of the following circumstances would a qualified opinion be appropriate?
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
33) Which of the following is the most likely reason for an auditor to issue a modified opinion with a qualification?
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
34) Which of the following is the most likely reason for an auditor to issue an adverse opinion?
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
35) Under which of the following set of circumstances might the auditors disclaim an opinion?
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
36) When would it be appropriate for an auditor to withdraw from an engagement?
Answer: C
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
37) One difference between the AICPA auditor’s report and that of the PCAOB is:
Answer: C
Difficulty: 3 Hard
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Analyze
AACSB: Ethics
Accessibility: Keyboard Navigation
38) The title of the PCAOB auditor’s report is:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
39) Some critics claim the usefulness of the audit report is limited because:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
40) Which of the following is not true of “reasonable assurance”?
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
41) Which of the following is not correct about materiality?
Answer: C
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
42) Which of the following is not a consideration in determining a measure of materiality?
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
43) The SEC is concerned that auditors don’t pay enough attention to qualitative factors affecting materiality because:
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
44) The auditors’ determination of whether the financial statements “present fairly” is based on:
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
45) Which of the following summarizes the essence of general responsibilities of GAAS?
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
46) Which of the following summarizes the essence of field work standards of GAAS?
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
47) Which of the following is not one of the reporting standards of GAAS that guides auditors in formulating the audit opinion?
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
48) Because of the risk of material misstatement due to improper management representations, an audit of financial statements in accordance with GAAS should be performed with:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
49) Gathering and objectively evaluating audit evidence requires the auditor to consider:
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
50) In an audit, the auditor has a requirement to address risk assessment with respect to:
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
51) Audit procedures are different than audit evidence because:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
52) Audit documentation is critical to evidence gathering because:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
53) In gathering audit evidence, the accessibility of information may be a factor thereby influencing which judgment trigger?
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
54) The objective of an engagement quality review is to:
Answer: C
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
55) The PCAOB addresses audit results and require the:
Answer: B
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
56) Auditors are required to communicate with the audit committee for all but which of the following:
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
57) Auditors are required to communicate with the audit committee all but which of the following:
Answer: D
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
58) In the Medicis audit, the auditors failed to complete all of the following except:
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-06 Analyze a case study on auditor obligations when materially misstated financial statements exist.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
59) Which of the following is NOT a common audit deficiency in PCAOB inspections?
Answer: B
Difficulty: 2 Medium
Topic: PCAOB Standards
Learning Objective: 05-05 Explain PCAOB standards to assess ICFR.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
60) All of the following are ICFR-related audit deficiencies in PCAOB inspection reports except:
Answer: C
Difficulty: 2 Medium
Topic: PCAOB Standards
Learning Objective: 05-05 Explain PCAOB standards to assess ICFR.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
61) In the Loyalty and Fraud Reporting case, Ethan Lester pressured his friend Vick Jensen to:
Answer: B
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
62) In the ZZZZ best case, Barry Minkow was charged with:
Answer: A
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-06 Analyze a case study on auditor obligations when materially misstated financial statements exist.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
63) In the Reauditing Financial Statements case, all of the following would be appropriate questions to ask a predecessor auditor except:
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
64) The case which deals with assigning a quality review partner to an audit is:
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
65) The Tax Inversion case deals with:
Answer: A
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
66) The primary issue in the Rooster, Hen, Footer and Burger case is:
Answer: B
Difficulty: 2 Medium
Topic: Fraud in Financial Statements
Learning Objective: 05-01 Distinguish between audit requirements for errors, fraud, and illegal acts.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
67) Which of the following is NOT addressed in the Diamond Foods case?
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
68) The ethical dilemma that faces Ronnie Maloney is best described as:
Answer: D
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
69) The primary accounting issue in the Wetherford International case is:
Answer: C
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-06 Analyze a case study on auditor obligations when materially misstated financial statements exist.
Bloom’s: Apply
AACSB: Ethics
Accessibility: Keyboard Navigation
70) Explain each of the three sides of the fraud triangle with respect to how it contributes toward the possibility that fraud in the financial statements may be present. Are there differences with respect to how each element might influence occupational fraud and fraudulent financial statements? Explain.
Answer: One of the older and more basic concepts in fraud deterrence and detection is the “fraud triangle.” While researching his doctoral thesis in the 1950s, famed criminologist Donald R. Cressey came up with this hypothesis to explain why people commit fraud.
The three key elements in the fraud triangle are opportunity, motivation, and rationalization. Opportunity is the element over which business owners have the most control. Limiting opportunities for fraud is one way a company can reduce it.
The opportunity to commit fraud is possible when employees have access to assets and information that allows them to both commit and conceal fraud typically because of weak internal controls including a lack of segregation of duties or oversight. Top management typically overrides the controls when committing financial statements fraud while employees may use the weaknesses to their advantage in perpetrating fraud.
Motivation is a pressure or a “need” felt by the person who commits fraud. It might be a personal financial or other type of need, such as high medical bills or debts, or as a result of bad personal habits as occurred in ZZZZ Best and Tyco where CEOs misappropriated company resources for personal gain.
Motivators can also be financial oriented that affects business results. Pressures may exist to meet or exceed financial analysts’ earnings estimates or to qualify for high bonuses and/or to inflate share prices and make stock options more valuable.
Lastly, employees may rationalize this behavior by determining that committing fraud is OK for a variety of reasons. For those who are generally dishonest, it’s probably easier to rationalize a fraud. For those with higher moral standards, it’s probably not so easy. They have to convince themselves that fraud is OK with “excuses” for their behavior.
Common rationalizations include making up for being underpaid or replacing a bonus that was deserved but not received. A thief may convince himself that he is just “borrowing” money from the company and will pay it back one day. Some embezzlers tell themselves that the company doesn’t need the money or won’t miss the assets. Others believe that the company “deserves” to have money stolen because of bad acts against employees.
Business owners and executives must take control of fraud by working on the portion of the fraud triangle over which they have the most control: the opportunity to commit fraud. It may be difficult for management to do anything about an employee’s needs or rationalizations, but by limiting opportunities for fraud, the company can reduce it to some extent.
This question provides an opportunity to review the GVV reasons and rationalizations framework.
As you read the case, think about the following series of questions for the protagonist to address after identifying the right thing to do including:
How can they get it done effectively and efficiently?
What do they need to say, to whom, and in what sequence?
What will the objections or push-back be and, then,
What would they say next? What data and examples do they need?
To assist you in the process of analyzing what actions should be taken by the protagonist, here are the most frequent categories of argument or rationalization that we face when we speak out against unethical practice.
Expected or Standard Practice: “Everyone does this, so it’s really standard practice. It’s even expected.”
Materiality: “The impact of this action is not material. It doesn’t really hurt anyone.”
Locus of Responsibility: “This is not my responsibility; I’m just following orders here.”
Locus of Loyalty: “I know this isn’t quite fair to the stakeholders, but I don’t want to hurt my reports/team/boss/company.”
Isolated Incident: “This is a one-time request; you won’t be asked to do it again.”
Difficulty: 2 Medium
Topic: The Fraud Triangle
Learning Objective: 05-02 Explain the components of the Fraud Triangle.
Bloom’s: Apply
AACSB: Ethics
71) Explain the link between the opportunity to commit fraud and corporate governance systems.
Answer: An important factor in whether the opportunity to commit fraud exists is whether the corporate governance system is operating as intended. If not, the opportunity to commit fraud is greater. In cases such as Tyco, the board members were allowed to use company funds for personal purposes to bring them along with the CEO’s similar fraud (Dennis Kozlowski), and presumably to buy their silence.
Prior to SOX, most boards of directors were not independent of management and, in many cases including Tyco, board members were beholden to management for their positions. It was highly unlikely the board served as a check on unethical behavior or fraudulent financial statements. SOX requires an independent audit committee with one member being a financial expert. The New York Stock Exchange requires a majority of board members to be independent of management. These outside directors should meet separately with the internal auditors and external auditors to get candid comments about management’s performance, whether the internal controls are operating as intended, and whether the financial statements are accurate and reliable. PCAOB Standard No. 16 also requires specific communications between the external auditors and the audit committee. Corporate governance has been tightened up in almost all companies thereby making it less likely that, at least in the corporate governance arena, the opportunity will exist to commit fraud.
Another factor that influences opportunity is organizational dissonance. Dissonance creates an unhealthy organizational culture that can lead to fraud because employees so affected feel more justified in committing fraud. When organizational ethics are low and an individual’s ethics are low, fraud is more likely to occur. On the other hand, if organizational ethics are high while an individual’s are low, there must be mechanisms built into the corporate governance system such as a hot line and/or compliance officer to monitor ethical systems. Other employees should be encouraged to speak up when they notice another employee violating ethical standards. The hot line helps in that regard.
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
72) Explain the circumstances under which an auditor should give each of the following opinions:
(a) Unmodified opinion
(b) Unmodified opinion with an emphasis-of-matter paragraph
(c) Qualified opinion
(d) Adverse opinion
Answer: Unmodified Opinion
Unmodified opinions are given when the financial statements present fairly financial position and results of operations in accordance with GAAP and there are no material misstatements that need to be corrected to conform to GAAP.
Unmodified opinion with an emphasis-of-matter paragraph
An emphasis-of-matter issue arises when questions exist about the going concern nature of a client’s operations perhaps because of a declining level of earnings, lack of adequate cash flows to meet operating needs, and/or the inability of the client to raise needed funds. When a going concern issue exists, the auditor should address management’s plans to overcome the problem in the future in the audit report.
An emphasis of matter issue also exists when GAAP have not been consistently applied. For example, if a company changes the way they account for capitalized costs, such as capitalizing them in one year and then expensing them in another, the change should be disclosed as well as its effects of the financial results. Auditors should approve such changes; otherwise, a modified opinion may be necessary.
Qualified opinion
A qualified opinion is generally given when a departure exists from GAAP that has a material effect on the financial statements. The amount must be material but event(s) not pervasive enough to issue an adverse opinion. If, in the previous example, a company was capitalizing costs instead of expensing them in order to improve earnings, then a GAAP deficiency exists and should be disclosed if it has a material effect on the financial statements. GAAP issues are disclosed in the audit report with language “except for the GAAP departure…the financial statements present fairly…”
A qualified opinion also may be necessary when a scope limitation exists that prevents the auditor from evaluating whether a GAAP deficiency exists. In such cases the language would be “except for the scope limitation…the financial statements present fairly…”
Adverse opinion
An adverse opinion means the financial statements do not present fairly financial position and results of operations because material differences exist on GAAP matters that have a pervasive effect on the financial statements. For example, inventory differences over a period of time will affect both the balance sheet and income statements through both the beginning and ending inventories. If two or more differences on GAAP matters exist, then the effects also may be pervasive. When such differences exist, the reasons for the adverse opinion must be given.
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
73) What is the purpose of having required auditor communications between the external auditor and the audit committee?
Answer: The audit committee helps those charged with governance fulfill their oversight responsibilities with respect to the entity’s financial reporting process and the system of internal control. In exercising this oversight responsibility, the audit committee needs information from the external auditors about their experiences assessing internal controls and corporate governance as well as any issues faced during their audit that involve differences with management on financial reporting issues. The audit committee should support the external auditors in their role to ensure the examination of the financial statements proceeds as required under generally accepted auditing and PCAOB standards. The audit committee serves as a check on ethical systems in the organization.
The PCAOB has no jurisdiction over audit committees, so PCAOB Auditing Standard 16, Communications with Audit Committees, has requirements which are aimed strictly at external auditors. The standard requires auditors to:
Establish the understanding of the terms of the audit engagement with the audit committee. The terms of the engagement must be recorded in an engagement letter.
Provide audit committees with an overview of the overall audit strategy, including the timing of the audit, significant risks the auditor identified, and significant changes to the planned audit strategy or risks.
Provide information about others involved in the audit, including internal auditors or other independent public accounting firms.
Give information regarding the company’s accounting policies, practices, estimates, and significant unusual transactions.
Provide an evaluation of the quality of the company’s financial reporting, including conclusions regarding critical accounting estimates and the company’s financial statement presentation; difficult or contentious matters for which the auditor consulted outside the engagement team; the auditor’s evaluation of the company’s ability to continue as a going concern; and difficulties encountered in performing the audit.
Given the importance of an independent audit in detecting fraud in financial statements, the auditor should discuss with the audit committee relationships that create threats to auditor independence and the related safeguards that have been applied to eliminate or reduce those threats to an acceptable level.
Another important area for communication is about accounting estimates. Certain accounting estimates are particularly sensitive because of their significance to the financial statements and because of the possibility that future events affecting them may differ significantly from management’s current judgments. In communicating with those charged with governance about the process used by management in formulating sensitive estimates, including fair value estimates, and about the basis for the auditor’s conclusions regarding the reasonableness of those estimates, the auditor should consider the following:
The nature of significant assumptions
The degree of subjectivity involved in the development of the assumptions, and
The relative materiality of the items being measured to the financial statements as a whole
If the auditor, as a result of the assessment of the risks of material misstatement, has identified such risks due to fraud that have continuing control implications the auditor should consider whether these risks represent significant deficiencies or material weaknesses in the entity’s internal controls that should be communicated to management and those charged with governance. The auditor should also consider whether the absence of or deficiencies in controls to prevent, deter, and detect fraud represent significant deficiencies or material weaknesses that should be communicated to management and those charged with governance.
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
74) Why is materiality one of the most difficult judgments to make in auditing financial statements?
Answer: Materiality underlies financial statement assertions and have a pervasive effect in a financial statement audit. In conducting an audit, the auditor should consider materiality in planning the audit and in evaluating the fair presentation of the financial statements in accordance with an identified financial reporting framework.
The determination of materiality is a matter of professional judgment. In determining the materiality of an item, the auditor considers not only the item’s nature and amount relative to the financial statements, but also the needs of financial statement users.
Materiality has to be considered before a detailed audit program can be prepared. In the initial planning, however, an auditor cannot anticipate all of the factors that will ultimately influence the materiality judgment in the evaluation of audit results at the completion of the audit. Therefore, these factors must be considered as they arise, and materiality must be evaluated throughout the audit.
Materiality has significant implications for audit efficiency. To be efficient, an auditor should not spend time examining balances where there is no chance of a material error. Sometimes, in an audit of a small entity, there is a temptation to audit everything because it does not seem as though it will take much time when individual items are considered. The unnecessary time can, however, add up to a significant amount overall.
Material information means information that matters, is important or essential. In terms of accounting, it pertains to information that is to be recognized, measured or disclosed in accordance with the requirements of generally accepted accounting principles. In measuring or disclosing accounting information, emphasis is on the needs of known or perceived users. In auditing, materiality pertains to the largest number (threshold) of uncorrected errors, misstatements, or erroneous disclosures or omissions that exist in the financial statements and yet are not misleading. The auditor plans and executes an audit with a reasonable expectation of detecting material misstatements. The assessment of what is material is a matter of the auditor’s professional judgement of the needs of the reasonable person relying on the information.
Financial statements are materially misstated when they contain errors or irregularities whose effect, individually or in the aggregate, is important enough to prevent the statements from being presented fairly in accordance with GAAP. In this context, misstatements may result from misapplication of applicable accounting standards, departures from fact, or omissions of necessary information.
In assessing the quantitative importance of a misstatement, it is necessary to relate the monetary amount of the error to the financial statement under examination. For example, an item of revenue may be compared to net income for materiality determinations. In planning the examination, the auditor generally is concerned only with misstatements that are quantitatively material. In evaluating audit evidence, the auditor considers both quantitative and qualitative misstatements.
There is no universally agreed upon guideline on quantitative measures of materiality. Here is an example of making materiality determinations:
The emphasis in planning materiality is on quantitative considerations. Since the errors are not yet known, their qualitative effect can be considered only during the testing phase of the audit as evidence becomes available. Qualitative considerations relate to the causes of misstatements. A misstatement that is quantitatively immaterial may be qualitatively material. This may occur, for instance, when the misstatement is attributable to an irregularity or an illegal act by the client. Discovery of either occurrence might cause the auditor to conclude there is a significant risk of additional similar misstatements. Other examples of qualitative misstatements are found in Staff Accounting Bulletin (SAB 99). In it, the SEC lists some of the qualitative factors that may cause quantitatively small misstatements to become material, including:
It arises from an item capable of precise measurement.
It arises from an estimate and, if so, the degree of imprecision inherent in the estimate.
It masks a change in earnings or other trends.
It hides a failure to meet analysts’ consensus expectations for the enterprise.
It changes a loss into income or vice versa.
It concerns a segment or other portion of the registrant’s business that has been identified as playing a significant role in the registrant’s operations or profitability.
It affects the registrant’s compliance with regulatory requirements.
It affects the registrant’s compliance with loan covenants or other contractual requirements
It has the effect of increasing management’s compensation—for example, by satisfying the requirements for the award of bonuses or other forms of incentive compensation.
It involves concealment of an unlawful transaction.
Auditors should be on the alert for these red flags, which signal that qualitatively material items may not have been recorded and disclosed in accordance with GAAP.
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
75) Differentiate between the auditors’ responsibilities to detect errors, fraud, and illegal acts. How would you assess the ethics of a company that has experienced each event with respect to motivation and the integrity of those who go along with such events?
Answer: An error can occur due to unintentional misstatements or omissions of amounts or disclosures in the financial statements. Errors may involve mistakes in gathering or processing data, unreasonable accounting estimates arising from oversight or misinterpretation of facts, or mistakes in the application of GAAP. Auditors are responsible for detecting errors that have a material effect on the financial statements and reporting their findings to the audit committee. Errors are typically recorded by adjusting the opening balance of retained earnings for the prior period adjustment to net income.
Errors are unintentional. No one makes an error on purpose because it negatively reflects on one’s abilities. As long as the person causing the error admits it, takes responsibility for her actions, and promises to be more careful in the future, the ethics of making an error are not in question.
Fraud is a deliberate act intended to deceive others. Fraud does not happen by accident as might an error. Auditors should be sensitive to red flags that warn fraud is possible, if not likely. Fraud, whether fraudulent financial reporting or misappropriation of assets, involves incentive or pressure to commit fraud, a perceived opportunity to do so, and some rationalization of the act. A fraud occurs when an individual(s) in management, those charged with governance, employees or third parties, use deception in a way that results in a material misstatement in the financial statements. In its most common form, management fraud involves top management’s deceptive manipulation of financial statements.
Fraud is a deceptive act and as such an unethical act. It is based on egoism without regard for the interests of those affected by the fraud such as shareholders and investors. Those who commit fraud are engaging in an illegal act and may be prosecuted for their actions. The internal controls of an organization should be designed to ferret out fraud by looking for the red flags and dealing with ethical pressures within the organization.
Illegal acts are violations of laws or governmental regulations. For example, a violation of the Foreign Corrupt Practices Act (FCPA) that prohibits bribery constitutes an illegal act. Illegal acts include those attributable to the entity whose financial statements are under audit or as acts by management or employees acting on behalf of the entity. The auditor’s responsibility is to determine the proper accounting and financial reporting treatment of a violation once it has been determined that a violation has in fact occurred.
Illegal acts not only violate specific laws but are clear violations of ethical behavior. The auditor’s responsibility is to detect and report misstatements resulting from illegal acts that have a direct and material effect on the determination of financial statement amounts (i.e., they require an accounting entry). The auditors’ responsibility for detecting direct and material effect violations is greater than their responsibility to detect illegal acts arising from laws that only indirectly affect the client’s financial statements. An example of the former would be violations of tax laws that affect accruals and the amount recognized as income tax liability for the period. Tax law would be violated, triggering an adjustment in the current period financial statements if, say, a company, for tax purposes, were to expense an item all in one year that should have been capitalized and written off over three years. Examples of items with an indirect effect on the statements include the potential violation of other laws such as occupational safety and health, environmental protection, and equal employment regulations. The events are due to operational, not financial, matters and their financial statement effect is indirect, such as a possible contingent liability that should be disclosed in the notes to the financial statements.
The auditor’s obligation when she concludes that an illegal act has or is likely to have occurred is first to assess the impact of the actions on the financial statements including materiality considerations. This should be done regardless of any direct or indirect effect on the statements. The auditor should consult with legal counsel and any other specialists in this regard. Illegal acts should be reported to those charged with governance such as the audit committee. The auditor should consider whether the client has taken appropriate remedial action concerning the act. Such remedial action may include taking disciplinary actions, establishing controls to safeguard against recurrence, and, if necessary, reporting the effects of the illegal acts in the financial statements. Ordinarily, if the client does not take the remedial action deemed necessary by the auditor, then the auditor should withdraw from the engagement. This action on the part of the auditor makes clear that she will not be associated in any way with illegal activities.
The auditor should assure herself that the audit committee is informed as soon as practicable and prior to the issuance of the auditor’s report with respect to illegal acts that come to the auditor’s attention. The auditor need not communicate matters that are clearly inconsequential and may reach agreement in advance with the audit committee on the nature of such matters to be communicated. The communication should describe the act, the circumstances of its occurrence, and the effect on the financial statements.
The standards for reporting illegal acts seem to err on the side of protecting the auditor’s position in a legal matter rather than strict honesty because certain items can be ignored even though they violate the law. Honesty requires that we should express the truth as we know it and without deception. As we point out in the text, it is our belief that by leaving out truthful (inconsequential) information in auditor communications, the standards sanction unethical behavior. We believe that it is a slippery slope once distinctions are made as to whether acts that are inherently wrong by their nature are not reported. Moreover, even inconsequential items can become consequential if the pattern of misstatement persists.
The Private Securities Litigation Reform Act (PSLRA) of 1995 places additional requirements upon public companies registered with the SEC and their auditors when (1) the illegal act has a material effect on the financial statements, (2) senior management and the board of directors have not taken appropriate remedial action, and (3) the failure to take remedial action is reasonably expected to warrant departure from a standard (i.e., unmodified audit report) or to warrant resignation.
When the auditor believes that the illegal act has a material effect on the financial statements and the matter has been reported to the client, the board of directors has one business day to inform the SEC. If the board decides not to inform the SEC, the auditor must provide the same report to the SEC within one business day or resign from the engagement within one business day. In either case, the ethical obligation of confidentiality is waived so that the auditor can provide the necessary information and the SEC can live up to its responsibility to protect investor interests. If auditors do not fulfill this legal obligation, the SEC can impose a monetary fine on them.
Notwithstanding the reporting obligations described above, disclosure of an illegal act to parties other than the client’s senior management and its audit committee or board of directors is not ordinarily part of the auditor’s responsibility, and such disclosure would be precluded by the auditor’s ethical or legal obligation of confidentiality, unless the matter affects his opinion on the financial statements.
This is a good time to remind students of Exhibit 5.1 in the text that summarizes auditors’ responsibilities with respect to reporting errors, illegal acts and fraud.
| Exhibit 5.1 | ||||||
| Auditors’ Responsibility to Detect Errors, Illegal Acts, and Fraud | ||||||
| Responsible for Detection | Required to Communicate Findings | |||||
| Material | Immaterial | Material | Immaterial | |||
| Errors | Yes | No | Yes (audit committee) | No | ||
| Illegal acts | Yes (direct effect) | No | Yes (audit committee) | Yes (one level above) | ||
| Fraud | Yes | No | Yes (audit committee) | Yes (by low-level employee, to one level above) (by management-level employee, to audit committee) | ||
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
76) Internal controls, an internal audit function, and an audit committee are all elements of a strong corporate governance system. How should an external auditor evaluate these elements in making a risk assessment? What are the ethical signs that each system is operating as intended?
Answer: The internal audit function should be an independent one with direct links between the internal auditors and audit committee so that top management does not have the opportunity to interfere in the reporting process. The ethical values of due care, responsibility, and accountability support an independent internal audit committee function. Internal controls should provide the foundation for proper accounting and reporting by establishing a control environment that fosters an ethical culture through the tone at the top set by management. Top management should promote honesty and integrity in the financial reporting systems. The corporate governance system establishes how matters of concern will be handled within the organization and with the external auditors. There should be clear communication lines within the organization for the internal auditors. The audit committee should be informed and actively involved in overseeing the financial reporting process. Risk assessment depends on the strength of these systems and whether they are operating as intended.
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
77) Campus Fast is a new audit client. Client Fast uses public WiFi to place and deliver restaurant take out for students at the Up and Coming State University. Campus Fast was founded by three highly ambitious MBA students at the university. The business plan is to find a buyer or place an IPO of the company by graduation in two years. The founders expect to pay off all student loans, take a tour around the world and then start another company. In order for the business plan to work on the timeline for graduation, the business must meet highly ambitious earnings numbers. Additionally, the company is dealing with two situations that the founders would like to keep from the auditors:
1) The company has been using free, unsecured public WiFi to take orders via the Internet. The customer may pay via the Internet. Several students, who all happen to be members of the same student organization on campus, are claiming that using Campus Fast has allowed their identity to be stolen. One student is claiming that she had $12,000 of charges on her credit card to the unsecured Internet site of Campus Fast. Management plans to pay off the complaining students and keep the true liability off the balance sheet. The reason is Campus Fast is concerned that an interested buyer may become concerned about the unsecured site and might get scared by the student complaints.
2) The company guarantees fast delivery. It has offered to pay any speeding or other moving violation tickets to its delivery drivers. Unfortunately, one of the drivers was involved in an accident due to running a red light. The passenger in the other car is in critical condition and the intensive care unit in the hospital. The driver has promised the family of the passenger that the company will make good on any expenses and admitted the company policy on repaying all traffic tickets. Attorneys for the injured party are threatening to sue and publicize the situation. The founders do not have enough cash to take care of this problem but are still trying to keep the situation from the auditors and potential buyer.
Using the internal control framework assess the internal controls at Campus Fast and risk environment.
Answer: The students should discuss the control environment of Campus fast (founders’ intent on making goals) risk assessment (two potential contingent and actual liabilities that the founders are trying to cover up and keep off the balance sheet), control activities, information and communications systems (liability of using unsecured WiFi), and monitoring. Corporate governance issues exist although we do not know whether oversight mechanisms were in place to serve as a check on management behavior.
This is a case where the two students suffered from ethical blindness. They did not consider that their policies and practices had (negative) consequences for the stakeholders and cutting corners to achieve a goal is never a good idea. There appears to be no oversight of the internal controls. The culture of the company seems to be do whatever it takes to grow and become an attractive IPO candidate. The owners are acting out of egoism and practicing dangerous advertising and delivery systems. It could be that the culture filters down to the workers who are careless in making deliveries and, perhaps, with Internet activity.
Difficulty: 2 Medium
Topic: Fraud Considerations and Risk Assessment
Learning Objective: 05-03 Describe fraud risk assessment procedures.
Bloom’s: Apply
AACSB: Ethics
78) Identify the deficiencies in the following audit report of the AICPA. Explain why each item is a deficiency.
Report of the Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders, XYZ Company
We have audited the accompanying consolidated financial statements of XYZ Company and its subsidiaries, which comprise the consolidated balance sheets as of December 31, 2018 and 2017, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for the years then ended, and the related notes to the financial statements. These statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these consolidated financial 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 financial statements that are free from material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards of the Public Company Accounting Oversight Board. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the management’s judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal controls relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by during the audit, as well as evaluating the overall presentation of the consolidated financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of XYZ Company and its subsidiaries as of December 31, 2018, and 2017, and the results of its operations and its cash flows for the years then ended in accordance with auditing standards of the Public Company Accounting Oversight Board.
Optional Paragraph
Report on Other Legal and Regulatory Requirements
[Auditor’s signature]
[Auditor’s city and state]
Answer: Deficiencies
Title should be Independent Auditor’s Report
Introductory Paragraph is not labeled
Responsibilities of management and the auditor are included in the introductory paragraph not in the separate Management’s Responsibility for the Financial Statements paragraph.
Reference in Management’s Responsibility section to PCAOB standards should be replaced with generally accepted in the United States of America.
Auditor’s Responsibility section indicates it is management’s judgments as to which auditing procedures are selected; it should say auditor’s judgment
The statement in the Auditor’s Responsibility section “In making those risk assessments, the auditor considers internal controls relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances” fails to include: but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal controls. This makes it seem the report also opines on internal controls.
Related to the point above, the following statement is omitted after the sentence in the point: “Accordingly, we express no such opinion.”
Reference to “reasonable estimates made” in the last sentence of the Auditor’s Responsibility paragraph indicates those estimates are made by the auditors; it should be management.
The opinion paragraph refers to PCAOB standards not accounting principles generally accepted in the United States of America.
Date of auditor’s report is omitted
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
79) On July 1, 2015, the Public Company Accounting Oversight Board issued a concept release to seek public comment on the content and possible uses of a group of potential “audit quality indicators.” The indicators are a potential portfolio of quantitative measures that may provide new insights about how to evaluate the quality of audits and how high quality audits are achieved. Taken together with qualitative context, the indicators may inform discussions among those concerned with the financial reporting and auditing process, for example among audit committees and audit firms. Enhanced discussions, in turn, may strengthen audit planning, execution, and communication. The Board sought advice on these subjects through the comment process and were to convene a public roundtable about the concept release, on a date to be determined during the fourth quarter of 2015. The proposed indicators are in the exhibit below.
Required:
Comment on the need for audit quality indicators and any limitations of providing such information in the public domain.
The 28 potential indicators are:
| AUDIT PROFESSIONALS | Availability | 1. Staffing Leverage
2. Partner Workload 3. Manager and Staff Workload 4. Technical Accounting and Auditing Resources 5. Persons with Specialized Skill and Knowledge |
| Competence | 6. Experience of Audit Personnel
7. Industry Expertise of Audit Personnel 8. Turnover of Audit Personnel 9. Amount of Audit Work Centralized at Service Centers 10. Training Hours per Audit Professional |
|
| Focus | 11. Audit Hours and Risk Areas
12. Allocation of Audit Hours to Phases of the Audit |
| AUDIT PROCESS | Tone at the Top and Leadership | 13. Results of Independent Survey of Firm Personnel |
| Incentives | 14. Quality Ratings and Compensation
15. Audit Fees, Effort, and Client Risk |
|
| Independence | 16. Compliance with Independence Requirements | |
| Infrastructure | 17. Investment in Infrastructure Supporting Quality Auditing | |
| Monitoring and Remediation | 18. Audit Firms’ Internal Quality Review Results
19. PCAOB Inspection Results 20. Technical Competency Testing |
|
| AUDIT RESULTS | Financial Statements | 21. Frequency and Impact of Financial Statement Restatements for Errors
22. Fraud and other Financial Reporting Misconduct 23. Inferring Audit Quality from Measures of Financial Reporting Quality |
| Internal Control | 24. Timely Reporting of Internal Control Weaknesses | |
| Going Concern | 25. Timely Reporting of Going Concern Issues | |
| Communications between Auditors and Audit Committee | 26. Results of Independent Surveys of Audit Committee Members | |
| Enforcement and Litigation | 27. Trends in PCAOB and SEC Enforcement Proceedings
28. Trends in Private Litigation |
Answer: The following is taken from a response issued by the Center for Audit Quality (CAQ) to the PCAOB proposal.
Due to the dynamic nature, inherent complexity, and variability of public companies and their audits, audit quality indicators (AQIs) alone (whether input or output measures) without context cannot adequately communicate factors relative to the audit of any particular engagement or firm. However, the right AQIs as determined by the audit committee could provide perspective on factors that may contribute to or detract from audit quality. Quantitative AQIs can only inform this perspective when accompanied by appropriate context. The context is best achieved through dialogue between the audit engagement team and the audit committee.
Given this need for context through dialogue, and the audit committee’s important audit oversight role on behalf of investors, the CAQ believe that the right set of AQIs as determined by the audit committee can help promote and enhance the audit committee’s and auditor’s focus on audit quality. The audit committee is best positioned to receive, interpret, and ultimately respond, if necessary, based on the information provided by AQIs.
The CAQ believes that AQIs should be used and reported voluntarily given that the development of AQIs is in the early stages. Furthermore, there is insufficient evidence of the correlation between any one set of AQIs and audit quality outcomes. A voluntary approach would give audit committees the most flexibility and opportunity both to tailor the information to matters that are most relevant to their oversight and to engage in the necessary two-way dialogue that can provide the appropriate context to enable them to interpret the AQIs and ultimately respond if necessary. Moreover, mandating the communication or reporting of specific AQIs could burden audit committees with required communication of AQIs which may not be relevant to the particular facts and circumstances of their audit engagement.
CAQ also believes that mandatory public reporting of AQIs is not appropriate due to the early-stage nature of AQI concepts and the necessity of the contextual discussion to interpreting AQIs. AQIs are a data point or collection of data points that may be directional in nature. Any AQI or set of AQIs needs to be evaluated in their complete context. As a result, CAQ concludes that focusing efforts on providing the audit committee with additional information about the audit is a prudent step with respect to any AQI effort to (1) allow the audit committee to determine what information is relevant to their oversight of the audit, (2) take into account the audit’s particular facts and circumstances and (3) allow for the two-way dialogue that is necessary to put the AQIs into context.
Also, CAQ is concerned that mandatory public reporting may create a perception that an arbitrarily selected measurement, or a range of measurements, could serve as a “benchmark.” For instance, a ratio of audit partners to staff varies from audit engagement to audit engagement. Staffing decisions require context and principally reflect the auditor’s judgment. The engagement team’s dialogue with the audit committee allows the audit committee to consider whether the ratio is appropriate based on the specific facts and circumstances; without this context and dialogue, one might erroneously presume that a particular number is more indicative of audit quality.
Difficulty: 2 Medium
Topic: Audit Report and Auditing Standards
Learning Objective: 05-04 Explain the standards for audit reports and auditor communications.
Bloom’s: Apply
AACSB: Ethics
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Original price was: $30.00.$20.00Current price is: $20.00.
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Original price was: $30.00.$20.00Current price is: $20.00.
Original price was: $30.00.$20.00Current price is: $20.00.
