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©2008 Prentice Hall Business Publishing, ©2008 Prentice Hall Business Publishing, Auditing 12/e,Auditing 12/e, Arens/Beasley/Elder Arens/Beasley/Elder 6 - 1
Audit Responsibilitiesand 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 financialstatements is the expression of an opinion ofthe fairness with which they present fairly, inall respects, financial position, result ofoperations, and its cash flows inconformity with GAAP.
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Steps to Develop Audit Objectives
1. Understand objectives andresponsibilities for the audit.
2. Divide financial statements into cycles.
3. Know management assertions aboutaccounts.
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Steps to Develop Audit Objectives
4. Know general audit objectives forclasses of transactions and accounts.
5. Know specific audit objectives forclasses of transactions and accounts.
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Learning Objective 2
Distinguish management’s
responsibility for the financial
statements and internal control
from the auditor’s responsibility
for verifying the financial
statements and effectiveness
of internal control.
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Management’s Responsibilities
Management is responsible for the financialstatements and for internal control.
The Sarbanes-Oxley Act increases management’sresponsibility for the financial statements.
It requires the CEO and the CFO of publiccompanies to certify the quarterly and annualfinancial statements submitted to the SEC.
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Management’s Responsibilities
The Sarbanes-Oxley Act provides for criminalpenalties for anyone who knowingly falselycertifies the statements.
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Learning Objective 3
Explain the auditor’s
responsibility for discovering
material misstatements.
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Auditor’s Responsibilities
Material versus immaterial misstatements
Reasonable assurance
Errors versus fraud
Professional skepticism
Fraud resulting from fraudulent financialreporting versus misappropriation of assets
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Auditor’s Responsibilities for Discovering Illegal Acts
Direct-effect illegal acts
Indirect-effect illegal acts
Evidence accumulation when there is no reasonto believe indirect-effect illegal act exists
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Auditor’s Responsibilities for Discovering Illegal Acts
Evidence accumulation and other actionswhen there is reason to believe direct- orindirect-effect illegal acts may exist
Actions when the auditor knows of an illegal act
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Learning Objective 4
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 financialstatements into smaller segments or components.
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Transaction Flow ExampleLedgers,
Trial Balance,and FinancialStatements
General ledgerand subsidiary
records
General ledgertrial 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 ledgerand subsidiary
records
General ledgertrial balance
Financialstatements
Transactions
Payrolljournal
Cashdisbursements
journal
Generaljournal
Journals
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Relationships Among Transaction Cycles
Generalcash
Capital acquisitionand repayment cycle
Sales andcollection
cycle
Acquisitionand payment
cycle
Payroll andpersonnel
cycle
Inventory andwarehousing
cycle
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Learning Objective 5
Describe why the auditor obtains
a combination of assurance by
auditing classes of transactions
and ending balances in accounts,
including presentation and
disclosure.
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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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Learning Objective 6
Distinguish among the three
categories of management
assertions about financial
information.
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Management Assertions
1. Assertions about classes of transactions andevents 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 Classes Assertions About Classes of Transactions and Eventsof Transactions and Events
Assertions About Assertions About Account BalancesAccount Balances
Assertions About Assertions About Presentation and DisclosurePresentation and Disclosure
Occurrence Existence Occurrence and rightsand obligations
Completeness Completeness Completeness
Accuracy Valuation andallocation
Accuracy andvaluation
Classification Classification andunderstandability
Cutoff
Rights andobligations
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Learning Objective 7
Link the six general transaction-
related audit objectives to
management assertions
for classes of transaction.
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OccurrenceRecorded transactionsexist
CompletenessExisting transactionsare recorded
AccuracyRecorded transactionsare stated at thecorrect amounts
General Transactions-related Audit Objectives
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ClassificationTransactions are properlyclassified.
TimingTransactions are recordedon the correct dates.
Posting andsummarization
Transactions are includedin the master files andare correctly summarized.
General Transactions-related Audit Objectives
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Management Assertions andTransaction-related Audit Objectives
Management AssertionsManagement AssertionsAbout Classes ofAbout Classes ofTransactions and EventsTransactions and Events
General Transaction-General Transaction-related Auditrelated AuditObjectivesObjectives
Specific Sales Transaction-Specific Sales Transaction-related Audit Objectivesrelated 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:Hillsburg Hardware Company:As Applied to Sales TransactionsAs Applied to Sales Transactions
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Management Assertions andTransaction-related Audit Objectives
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 AssertionsManagement AssertionsAbout Classes ofAbout Classes ofTransactions and EventsTransactions and Events
General Transaction-General Transaction-related Auditrelated AuditObjectivesObjectives
Specific Sales Transaction-Specific Sales Transaction-related Audit Objectivesrelated Audit Objectives
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to Sales TransactionsAs Applied to Sales Transactions
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Learning Objective 8
Link the eight general balance-
related audit objectives to
management assertions
for account balances.
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Existence Amounts included exist
CompletenessExisting amounts areincluded
AccuracyAmounts included arestated at the correctamounts
General Balance-relatedAudit Objectives
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ClassificationAmounts are properlyclassified
CutoffTransactions are recordedin the proper period
Detail tie-inAccount balances agreewith master file amounts,and with the general ledger
General Balance-relatedAudit Objectives
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Realizablevalue
Assets are included atestimated realizable value
Rights andobligations
Assets must be owned
General Balance-relatedAudit Objectives
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Management Assertions andTransaction-related Audit Objectives
Management AssertionsManagement AssertionsAbout Account BalancesAbout Account Balances
General Balance-General Balance-related Auditrelated AuditObjectivesObjectives
Specific Balance-related AuditSpecific Balance-related AuditObjectives Applied to InventoryObjectives Applied to Inventory
Existence Existence All recorded inventory existsat the balance sheet date
Completeness Completeness All existing inventory hasbeen counted and includedin the inventory summary
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to InventoryAs Applied to Inventory
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Management Assertions andTransaction-related Audit Objectives
Management AssertionsManagement AssertionsAbout Account BalancesAbout Account Balances
General Balance-General Balance-related Auditrelated AuditObjectivesObjectives
Valuation andallocation
Accuracy Inventory quantities on the client’s perpetual records agree with items physically on handPrices used to value inventories are materially correctExtensions of price times quantity are correct and details are correctly added
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to InventoryAs Applied to Inventory
Specific Balance-related AuditSpecific Balance-related AuditObjectives Applied to InventoryObjectives Applied to Inventory
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Management Assertions andTransaction-related Audit Objectives
Management AssertionsManagement AssertionsAbout Account BalancesAbout Account Balances
General Balance-General Balance-related Auditrelated AuditObjectivesObjectives
Valuation andallocation
Classification
Cutoff
Inventory items are properly classified as to raw materials, work in process, and finished goodsPurchase cutoff at year end is properSales cutoff at year end is proper
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to InventoryAs Applied to Inventory
Specific Balance-related AuditSpecific Balance-related AuditObjectives Applied to InventoryObjectives Applied to Inventory
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Management Assertions andTransaction-related Audit Objectives
Management AssertionsManagement AssertionsAbout Account BalancesAbout Account Balances
General Balance-General Balance-related Auditrelated AuditObjectivesObjectives
Valuation andallocation
Detail tie-in
Realizablevalue
Total of inventory items agrees with general ledgerInventories have been written down where net realizable value is impaired
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to InventoryAs Applied to Inventory
Specific Balance-related AuditSpecific Balance-related AuditObjectives Applied to InventoryObjectives Applied to Inventory
Rights and obligations Rights andobligations
The company has title to all inventory items listedInventories are not pledged as collateral
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Learning Objective 9
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:Hillsburg Hardware Company:As Applied to Notes PayableAs Applied to Notes Payable
ManagementManagementAssertions AboutAssertions AboutPresentation andPresentation andDisclosureDisclosure
Specific Presentation andSpecific Presentation andDisclosure-related Audit ObjectivesDisclosure-related Audit ObjectivesApplied to Notes PayableApplied to Notes Payable
Occurrenceand rights andobligations
Occurrenceand rights andobligations
Notes payable as described in thefootnotes exist and areobligations of the company
Completeness Completeness All required disclosures relatedto notes payable are included inthe financial statement footnotes
GeneralGeneralPresentation-Presentation-and Disclosure-and Disclosure-related Auditrelated AuditObjectivesObjectives
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Management Assertions and Presentation and Disclosure-related Audit Objectives
Hillsburg Hardware Company:Hillsburg Hardware Company:As Applied to Notes PayableAs Applied to Notes Payable
ManagementManagementAssertions AboutAssertions AboutPresentation andPresentation andDisclosureDisclosure
Specific Presentation andSpecific Presentation andDisclosure-related Audit ObjectivesDisclosure-related Audit ObjectivesApplied to Notes PayableApplied 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
GeneralGeneralPresentation-Presentation-and Disclosure-and Disclosure-related Auditrelated AuditObjectivesObjectives
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Learning Objective 10
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 appropriateaudit evidence to support all managementassertions 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 detailsof balances
Phase IVComplete theaudit and issuean audit report
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End of Chapter 6