Introduction to Assurance and Financial Statement Auditing 1
Chapter 1 An Introduction to Assurance and Financial Statement Auditing 2
Chapter 2 The Financial Statement Auditing Environment 36
PART 2 Audit Planning and Basic Auditing Concepts 67
Chapter 3 Audit Planning, Types of Audit Tests, and Materiality 68
Chapter 4 Risk Assessment 98
Chapter 5 Evidence and Documentation 128
PART 3 Understanding and Auditing Internal Control 177
Chapter 6 Internal Control in a Financial Statement Audit 178
Chapter 7 Auditing Internal Control over Financial Reporting 220
PART 4 Statistical and Nonstatistical Sampling Tools for Auditing 261
Chapter 8 Audit Sampling: An Overview and Application to Tests of Controls 262
Chapter 9 Audit Sampling: An Application to Substantive Tests of Account Balances 300
PART 5 Auditing Business Processes 337
Chapter 10 Auditing the Revenue Process 338
Chapter 11 Auditing the Purchasing Process 386
Chapter 12 Auditing the Human Resource Management Process 422
Chapter 13 Auditing the Inventory Management Process 450
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Chapter 14 Auditing the Financing/Investing Process: Prepaid Expenses, Intangible Assets, and Property, Plant, and Equipment 480
Chapter 15 Auditing the Financing/Investing Process: Long-Term Liabilities, Stockholders’ Equity, and Income Statement Accounts 506
Chapter 16 Auditing the Financing/Investing Process: Cash and Investments 528
PART 6 Completing the Audit and Reporting Responsibilities 561
Chapter 17 Completing the Audit Engagement 562
Chapter 18 Reports on Audited Financial Statements 596
PART 7 Professional Responsibilities 627
Chapter 19 Professional Conduct, Independence, and Quality Control 628
Chapter 20 Legal Liability 672
PART 8 Assurance, Attestation, and Internal Auditing Services 707
Chapter 21 Assurance, Attestation, and Internal Auditing Services 708
Advanced Module: Professonal Judgment Framework—Understanding and Developing Professional Judgment in Auditing 748 (Also visit KPMG’s University Connection website for relevant resources, including videos, mini-cases, instructor notes, and problems, that were created to accompany the AAA Deloitte/ Wildman award-winning KPMG Professional Judgment Framework monograph, on which this module is based.)
Index 757
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Table of Contents
PART 1 Introduction to Assurance and Financial Statement Auditing 1
Chapter 1 An Introduction to Assurance and Financial Statement Auditing 2
Tips for Learning Auditing 4 The Demand for Auditing and Assurance 5
Principals and Agents 5
The Role of Auditing 6
An Assurance Analogy: The Case of the House Inspector 8
Seller Assertions, Information Asymmetry, and
Inspector Characteristics 8
Desired Characteristics of the House Inspection
Service 8
Relating the House Inspection Analogy to
Financial Statement Auditing 9
Management Assertions and Financial
Statements 10
Auditing, Attest, and Assurance Services Defined 12 Auditing 12
Attestation 13
Assurance 13
Fundamental Concepts in Conducting a Financial Statement Audit 14
Materiality 14
Audit Risk 15
Audit Evidence Regarding Management Assertions 16
Sampling: Inferences Based on Limited Observations 16
The Audit Process 17 Overview of the Financial Statement Auditing
Process 17
Major Phases of the Audit 18
The Unqualified/Unmodified Audit Report 21
Other Types of Audit Reports 22
Conclusion 23 Key Terms 24 Review Questions 25 Multiple-Choice Questions 25 Problems 27 Discussion Case 28 Internet Assignment 29 Hands-On Cases 29
Chapter 2 The Financial Statement Auditing Environment 36
Types of Auditors 38 External Auditors 38
Internal Auditors 38
Government Auditors 39
Forensic Auditors 40
Types of Other Audit, Attest, and Assurance Services 40
Other Audit Services 40
Attest Services 41
Assurance Services 41
Other Nonaudit Services 42
Public Accounting Firms 42 Organization and Composition 42
A Decade of Challenge and Change for Financial Statement Auditors 44
Government Regulation 44
Society’s Expectations and the Auditor’s Responsibilities 45
The Context of Financial Statement Auditing 45 The Business Entity as the Primary Context of
Auditing 45
A Model of Business 46 Corporate Governance 46
Objectives, Strategies, Processes, Controls,
Transactions, and Reports 48
A Model of Business Processes: Five
Components 48
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Organizations That Affect the Public Accounting Profession 49
Securities and Exchange Commission (SEC) 51
Public Company Accounting Oversight Board
(PCAOB) 51
American Institute of Certified Public Accountants
(AICPA) 51
International Auditing and Assurance Standards
Board (IAASB) 52
Financial Accounting Standards Board
(FASB) 52
International Accounting Standards Board
(IASB) 52
Auditing Standards 52 Three Sets of Auditing Standards: The Roles of the
ASB, PCAOB, and IAASB 53
The 10 Generally Accepted Auditing Standards 53
Principles Underlying an Audit Conducted in
Accordance with Generally Accepted Auditing
Standards 55
Statements on Auditing Standards and the AU
Codification 55
Ethics, Independence, and the Code of Professional Conduct 57
Conclusion 58 Key Terms 58 Review Questions 59 Multiple-Choice Questions 60 Problems 62 Discussion Cases 64 Internet Assignments 65 Hands-On Cases 66
PART 2 Audit Planning and Basic Auditing Concepts 67
Chapter 3 Audit Planning, Types of Audit Tests, and Materiality 68
Client Acceptance and Continuance 70 Prospective Client Acceptance 70
Client Continuance 71
Preliminary Engagement Activities 71 Determine the Audit Engagement Team
Requirements 71
Assess Compliance with Ethical and Independence
Requirements 72
Establish an Understanding with the Entity 72
Planning the Audit 78 Audit Strategy and Plan 78
Assess Business Risks 78
Establish Materiality 78
Consider Multilocations or Business Units 79
Assess the Need for Specialists 79
Consider Violations of Laws and
Regulations 79
Identify Related Parties 80
Consider Additional Value-Added Services 81
Document the Overall Audit Strategy, Audit Plan,
and Prepare Audit Programs 81
Supervision of the Audit 83 Types of Audit Tests 83
Risk Assessment Procedures 83
Tests of Controls 83
Substantive Procedures 84
Dual-Purpose Tests 84
Materiality 85 Steps in Applying Materiality 86
An Example 88
Key Terms 90 Review Questions 90 Multiple-Choice Questions 91 Problems 92 Discussion Case 95 Internet Assignments 95 Hands-On Cases 96
Chapter 4 Risk Assessment 98
Audit Risk 100 The Audit Risk Model 100
Use of the Audit Risk Model 102
The Auditor’s Risk Assessment Process 104 Management’s Strategies, Objectives, and Business
Risks 104
Auditor’s Risk Assessment Procedures 105
Assessing Business Risks 106
Evaluate the Entity’s Risk Assessment
Process 109
Assessing the Risk of Material Misstatement 109 Causes and Types of Misstatements 110
The Fraud Risk Assessment Process 111
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Examples of Audit Documentation 148
Format of Audit Documentation 150
Organization of Audit Documentation 151
Ownership of Audit Documentation 151
Audit Document Archiving and
Retention 151
Substantive Analytical Procedures 154
Final Analytical Procedures 162
Short-Term Liquidity Ratios 163
Activity Ratios 163
Profitability Ratios 164
Coverage Ratios 165
Key Terms 165 Review Questions 166 Multiple-Choice Questions 167 Problems 169 Discussion Cases 172 Internet Assignment 174 Hands-On Cases 174
PART 3 Understanding and Auditing Internal Control 177
Chapter 6 Internal Control in a Financial Statement Audit 178
Introduction 180 Internal Control—an Overview 180
Definition of Internal Control 180
Controls Relevant to the Audit 180
The Effect of Information Technology on Internal
Control 181
The COSO Framework 181 Components of Internal Control 181
Control Environment 182
The Entity’s Risk Assessment Process 185
Control Activities 186
Information and Communication 188
Monitoring of Controls 189
Planning an Audit Strategy 189 Substantive Strategy 191
Reliance Strategy 192
Obtain an Understanding of Internal Control 193 Overview 193
Understanding the Control Environment 193
The Auditor’s Response to the Results of the Risk Assessments 115
Evaluation of Audit Test Results 117 Documentation of the Auditor’s Risk Assessment and
Response 118 Communications about Fraud to Management, the
Audit Committee, and Others 118 Key Terms 120 Review Questions 121 Multiple-Choice Questions 121 Problems 123 Discussion Case 125 Internet Assignment 126 Hands-On Cases 127
CHAPTER 5 Evidence and Documentation 128
The Relationship of Audit Evidence to the Audit Report 130
Management Assertions 131 Assertions about Classes of Transactions and
Events during the Period 131
Assertions about Account Balances at the Period
End 133
Assertions about Presentation and
Disclosure 134
The Concepts of Audit Evidence 135 The Nature of Audit Evidence 135
The Sufficiency and Appropriateness of Audit
Evidence 135
The Evaluation of Audit Evidence 137
Audit Procedures for Obtaining Audit Evidence 138 Inspection of Records or Documents 138
Inspection of Tangible Assets 139
Observation 140
Inquiry 140
Confirmation 141
Recalculation 141
Reperformance 142
Analytical Procedures 142
Scanning 142
Reliability of the Types of Evidence 142 The Audit Testing Hierarchy 143
An “Assurance Bucket” Analogy 145
Audit Documentation 146 Functions of Audit Documentation 146
Content of Audit Documentation 147
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Control Deficiency 223
Material Weakness 223
Significant Deficiency 223
Likelihood and Magnitude 223
Management’s Assessment Process 225 Identify Financial Reporting Risks and Related
Controls 225
Consider Which Locations to Include in the
Evaluation 226
Evaluate Evidence about the Operating
Effectiveness of ICFR 226
Reporting Considerations 226
Management’s Documentation 227
Performing an Audit of ICFR 228 Plan the Audit of ICFR 229
The Role of Risk Assessment and the Risk of
Fraud 229
Scaling the Audit 230
Using the Work of Others 230
Identify Controls to Test 231 Identify Entity-Level Controls 231
Identifying Significant Accounts and Disclosures
and Their Relevant Assertions 232
Understanding Likely Sources of
Misstatements 232
Select Controls to Test 233
Evaluate the Design and Test the Operating Effectiveness of Controls 234
Evaluating Design Effectiveness of Controls 234
Testing and Evaluating Operating Effectiveness of
Controls 234
Evaluating Identified Control Deficiencies 236 Examples of Control Deficiency Evaluation 237
Remediation of a Material Weakness 239 Written Representations 239 Auditor Documentation Requirements 240 Auditor Reporting on ICFR 240
Elements of the Auditor’s Report 241
Unqualified Report 241
Adverse Report for a Material Weakness 241
Disclaimer for Scope Limitation 242
Other Reporting Issues 244 Management’s Report Incomplete or Improperly
Presented 244
The Auditor Decides to Refer to the Report of
Other Auditors 244
Subsequent Events 245
Understanding the Entity’s Risk Assessment
Process 194
Understanding the Information System and
Communications 195
Understanding Control Activities 195
Understanding Monitoring of Controls 195
Documenting the Understanding of Internal
Control 196
The Effect of Entity Size on Internal Control 196
The Limitations of an Entity’s Internal
Control 197
Assessing Control Risk 199 Identifying Specific Controls That Will Be Relied
Upon 199
Performing Tests of Controls 199
Concluding on the Achieved Level of Control
Risk 200
Documenting the Achieved Level of Control
Risk 200
An Example 200
Substantive Procedures 201 Timing of Audit Procedures 202
Interim Tests of Controls 202
Interim Substantive Procedures 203
Auditing Accounting Applications Processed by Service Organizations 203
Communication of Internal Control–Related Matters 204
General Controls 206
Application Controls 207
Symbols 209
Organization and Flow 210
Key Terms 211 Review Questions 211 Multiple-Choice Questions 212 Problems 214 Discussion Cases 216 Hands-On Cases 218
Chapter 7 Auditing Internal Control over Financial Reporting 220
Management Responsibilities under Section 404 222 Auditor Responsibilities under Section 404 and AS5 222 Internal Control over Financial Reporting
Defined 222 Internal Control Deficiencies Defined 223
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Key Terms 290 Review Questions 291 Multiple-Choice Questions 292 Problems 294 Discussion Case 297 Hands-On Cases 298
Chapter 9 Audit Sampling: An Application to Substantive Tests of Account Balances 300
Sampling for Substantive Tests of Details of Account Balances 302
Monetary-Unit Sampling 303 Advantages 304
Disadvantages 304
Applying Monetary-Unit Sampling 304
Planning 304
Performance 308
Evaluation 310
Nonstatistical Sampling for Tests of Account Balances 318
Identifying Individually Significant Items 318
Determining the Sample Size 318
Selecting Sample Items 319
Calculating the Sample Results 319
An Example of Nonstatistical Sampling 320
Advantages 324
Disadvantages 324
Applying Classical Variables Sampling 324
Key Terms 328 Review Questions 329 Multiple-Choice Questions 330 Problems 331 Discussion Cases 335 Hands-On Cases 336
PART 5 Auditing Business Processes 337
Chapter 10 Auditing the Revenue Process 338
Revenue Recognition 341 Overview of the Revenue Process 342
Types of Transactions and Financial Statement
Accounts Affected 343
Types of Documents and Records 345
Management’s Report Contains Additional
Information 245
Reporting on a Remediated Material Weakness at
an Interim Date 245
Additional Required Communications in an Audit of ICFR 245
Use of Service Organizations 246
Safeguarding of Assets 247
Generalized Audit Software 247
Custom Audit Software 248
Test Data 249
Key Terms 249 Review Questions 250 Multiple-Choice Questions 251 Problems 253 Internet Assignments 259 Hands-On Cases 259
PART 4 Statistical and Nonstatistical Sampling Tools for Auditing 261
Chapter 8 Audit Sampling: An Overview and Application to Tests of Controls 262
Overview of Audit Sampling 264 Definitions and Key Concepts 265
Audit Sampling 265
Sampling Risk 265
Confidence Level 267
Tolerable and Expected Error 267
Audit Evidence Choices That Do and Do Not
Involve Sampling 268
Types of Audit Sampling 269 Nonstatistical versus Statistical Sampling 269
Types of Statistical Sampling Techniques 270
Attribute Sampling Applied to Tests of Controls 271 Planning 271
Performance 279
Evaluation 283
Nonstatistical Sampling for Tests of Controls 287 Determining the Sample Size 287
Selecting the Sample Items 288
Calculating the Computed Upper Deviation
Rate 288
Conclusion 289
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Timing 372
Confirmation Procedures 373
Alternative Procedures 374
Auditing Other Receivables 374 Evaluating the Audit Findings—Revenue-Related
Accounts 375 Key Terms 375 Review Questions 376 Multiple-Choice Questions 377 Problems 379 Discussion Cases 382 Internet Assignments 383 Hands-On Cases 383
Chapter 11 Auditing the Purchasing Process 386
Expense and Liability Recognition 388 Overview of the Purchasing Process 388
Types of Transactions and Financial Statement
Accounts Affected 389
Types of Documents and Records 390
The Major Functions 393
The Key Segregation of Duties 395
Inherent Risk Assessment 396 Industry-Related Factors 396
Misstatements Detected in Prior Audits 396
Control Risk Assessment 396 Understand and Document Internal Control 396
Plan and Perform Tests of Controls 398
Set and Document Control Risk 398
Control Activities and Tests of Controls—Purchase Transactions 398
Occurrence of Purchase Transactions 399
Completeness of Purchase Transactions 399
Authorization of Purchase Transactions 400
Accuracy of Purchase Transactions 401
Cutoff of Purchase Transactions 401
Classification of Purchase Transactions 401
Control Activities and Tests of Controls—Cash Disbursement Transactions 402
Occurrence of Cash Disbursement
Transactions 402
Completeness of Cash Disbursement
Transactions 402
Authorization of Cash Disbursement Transactions 402
Accuracy of Cash Disbursement Transactions 402
Cutoff of Cash Disbursement Transactions 403
The Major Functions 349
Key Segregation of Duties 350
Inherent Risk Assessment 351 Industry-Related Factors 351
The Complexity and Contentiousness of Revenue
Recognition Issues 352
The Difficulty of Auditing Transactions and
Account Balances 352
Misstatements Detected in Prior Audits 352
Control Risk Assessment 353 Understand and Document Internal Control 353
Plan and Perform Tests of Controls 354
Set and Document Control Risk 354
Control Activities and Tests of Controls—Revenue Transactions 355
Occurrence of Revenue Transactions 355
Completeness of Revenue Transactions 357
Authorization of Revenue Transactions 357
Accuracy of Revenue Transactions 357
Cutoff of Revenue Transactions 358
Classification of Revenue Transactions 358
Control Activities and Tests of Controls—Cash Receipts Transactions 358
Occurrence of Cash Receipts Transactions 358
Completeness of Cash Receipts Transactions 359
Authorization of Cash Discounts 360
Accuracy of Cash Receipts Transactions 361
Cutoff of Cash Receipts Transactions 361
Classification of Cash Receipts 361
Control Activities and Tests of Controls—Sales Returns and Allowances Transactions 361
Relating the Assessed Level of Control Risk to Substantive Procedures 362
Auditing Revenue-Related Accounts 362 Substantive Analytical Procedures 363 Tests of Details of Classes of Transactions, Account
Balances, and Disclosures 364 Completeness 364
Cutoff 366
Existence 367
Rights and Obligations 367
Valuation and Allocation 368
Classification 369
Other Presentation and Disclosure
Assertions 369
The Confirmation Process—Accounts Receivable 370 Types of Confirmations 371
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Authorization of Payroll Transactions 433
Accuracy of Payroll Transactions 433
Classification of Payroll Transactions 434
Relating the Assessed Level of Control Risk to Substantive Procedures 434
Auditing Payroll-Related Accounts 434 Substantive Analytical Procedures 434 Tests of Details of Classes of Transactions, Account
Balances, and Disclosures 435 Payroll Expense Accounts 436
Accrued Payroll Liabilities 437
Evaluating the Audit Findings— Payroll-Related Accounts 439
Key Terms 441 Review Questions 442 Multiple-Choice Questions 442 Problems 444 Discussion Cases 446 Internet Assignment 448 Hands-On Cases 448
Chapter 13 Auditing the Inventory Management Process 450
Overview of the Inventory Management Process 452 Types of Documents and Records 453
The Major Functions 455
The Key Segregation of Duties 456
Inherent Risk Assessment 456 Industry-Related Factors 457
Engagement and Operating Characteristics 457
Control Risk Assessment 457 Understand and Document Internal Control 459
Plan and Perform Tests of Controls 459
Set and Document the Control Risk 459
Control Activities and Tests of Controls— Inventory Transactions 459
Occurrence of Inventory Transactions 460
Completeness of Inventory Transactions 461
Authorization of Inventory Transactions 461
Accuracy of Inventory Transactions 461
Cutoff of Inventory Transactions 462
Classification of Inventory Transactions 462
Relating the Assessed Level of Control Risk to Substantive Procedures 462
Auditing Inventory 463 Substantive Analytical Procedures 464
Classification of Cash Disbursement
Transactions 404
Control Activities and Tests of Controls—Purchase Return Transactions 404
Relating the Assessed Level of Control Risk to Substantive Procedures 404
Auditing Accounts Payable and Accrued Expenses 405
Substantive Analytical Procedures 405 Tests of Details of Classes of Transactions, Account
Balances, and Disclosures 406 Completeness 406
Existence 409
Cutoff 409
Rights and Obligations 409
Valuation 409
Classification and Understandability 410
Other Presentation Disclosure Assertions 410
Accounts Payable Confirmations 411 Evaluating the Audit Findings—Accounts Payable and
Related 412 Key Terms 414 Review Questions 415 Multiple-Choice Questions 416 Problems 417 Discussion Case 421 Internet Assignments 421 Hands-On Cases 421
Chapter 12 Auditing the Human Resource Management Process 422
Overview of the Human Resource Management Process 424
Types of Transactions and Financial Statement
Accounts Affected 425
Types of Documents and Records 425
The Major Functions 426
The Key Segregation of Duties 428
Inherent Risk Assessment 429 Control Risk Assessment 430
Understand and Document Internal Control 430
Plan and Perform Tests of Controls 431
Set and Document the Control Risk 431
Control Activities and Tests of Controls—Payroll Transactions 431
Occurrence of Payroll Transactions 433
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Auditing the Property Management Process 488 Types of Transactions 488
Overview of the Property Management
Process 489
Inherent Risk Assessment—Property Management Process 490
Complex Accounting Issues 490
Difficult-to-Audit Transactions 490
Misstatements Detected in Prior Audits 490
Control Risk Assessment—Property Management Process 491
Occurrence and Authorization 491
Completeness 492
Segregation of Duties 492
Substantive Procedures—Property, Plant, and Equipment 493
Substantive Analytical Procedures—Property,
Plant, and Equipment 493
Tests of Details of Transactions, Account Balances,
and Disclosures—Property, Plant, and
Equipment 494
Evaluating the Audit Findings—Property, Plant, and Equipment 497
Key Terms 498 Review Questions 498 Multiple-Choice Questions 499 Problems 501 Discussion Case 503 Internet Assignments 503 Hands-On Cases 504
Chapter 15 Auditing the Financing/Investing Process: Long-Term Liabilities, Stockholders’ Equity, and Income Statement Accounts 506
Auditing Long-Term Debt 508 Inherent Risk Assessment—Long-Term Debt 509 Control Risk Assessment—Long-Term Debt 509
Assertions and Related Control Activities 509
EarthWear Substantive Procedures—Long-Term Debt 511
Auditing Stockholders’ Equity 512 Control Risk Assessment—Stockholders’ Equity 514
Assertions and Related Control Activities 514
Segregation of Duties 515
Auditing Capital-Stock Accounts 515 Occurrence and Completeness 515
Auditing Standard Costs 465 Materials 465
Labor 465
Overhead 465
Observing Physical Inventory 466 Tests of Details of Classes of Transactions, Account
Balances, and Disclosures 467 Accuracy 468
Cutoff 469
Existence 469
Completeness 469
Rights and Obligations 469
Valuation and Allocation 469
Classification and Understandability 470
Other Presentation and Disclosure
Assertions 470
Evaluating the Audit Findings—Inventory 471 Key Terms 471 Review Questions 472 Multiple-Choice Questions 472 Problems 474 Discussion Case 478 Internet Assignment 479 Hands-On Cases 479
Chapter 14 Auditing the Financing/Investing Process: Prepaid Expenses, Intangible Assets, and Property, Plant, and Equipment 480
Auditing Prepaid Expenses 482 Inherent Risk Assessment—Prepaid Expenses 482 Control Risk Assessment—Prepaid Expenses 482 Substantive Procedures—Prepaid Insurance 483
Substantive Analytical Procedures for Prepaid
Insurance 483
Tests of Details of the Prepaid Insurance 484
Existence and Completeness 484
Rights and Obligations 484
Valuation 484
Classification 484
Auditing Intangible Assets 484 Inherent Risk Assessment—Intangible Assets 485 Control Risk Assessment—Intangible Assets 486 Substantive Procedures—Intangible Assets 486
Substantive Analytical Procedures for Intangible
Assets 486
Tests of Details of Intangible Assets 487
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Tests of Details—Investments 546
Understanding How Management Makes Fair
Value Measurements 550
Considering Whether Specialized Skills or
Knowledge Is Required 550
Testing the Entity’s Fair Value
Measurements 550
Evaluating the Reasonableness of the Fair Value
Measurements 551
Key Terms 551 Review Questions 552 Multiple-Choice Questions 553 Problems 555 Internet Assignment 559 Hands-On Case 559
PART 6 Completing the Audit and Reporting Responsibilities 561
Chapter 17 Completing the Audit Engagement 562
Review for Contingent Liabilities 564 Audit Procedures for Identifying Contingent
Liabilities 565
Legal Letters 565
Commitments 567 Review of Subsequent Events for Audit of Financial
Statements 568 Dual Dating 570
Audit Procedures for Subsequent Events 571
Review of Subsequent Events for the Audit of Internal Control over Financial Reporting 571
Final Steps and Evidence Evaluation 572 Final Analytical Procedures 572
Representation Letter 573
Working Paper Review 573
Final Evaluation of Audit Results 576
Evaluating Financial Statement Presentation and
Disclosure 578
Independent Engagement Quality Review 579
Archiving and Retention 579
Going Concern Considerations 579
Communications with Those Charged with Governance and Management 582
Valuation 516
Completeness of Disclosures 516
Auditing Dividends 516 Auditing Retained Earnings 517 Auditing Income Statement Accounts 517 Assessing Control Risk for Business Processes—
Income Statement Accounts 518 Substantive Procedures—Income Statement
Accounts 518 Direct Tests of Balance Sheet Accounts 518
Substantive Analytical Procedures for Income
Statement Accounts 518
Tests of Selected Account Balances 519
Key Terms 520 Review Questions 521 Multiple-Choice Questions 521 Problems 523 Discussion Case 525 Internet Assignment 526 Hands-On Cases 526
Chapter 16 Auditing the Financing/Investing Process: Cash and Investments 528
Auditing Cash 530 Types of Bank Accounts 531
General Cash Account 531
Imprest Cash Accounts 531
Branch Accounts 531
Control Risk Assessment—Cash 532 Substantive Procedures—Cash 532
Substantive Analytical Procedures—Cash 532
Substantive Tests of Details of Transactions and
Balances—Cash 532
Auditing the General Cash Account 533
Fraud-Related Audit Procedures 538
Auditing a Payroll or Branch Imprest
Account 541
Auditing a Petty Cash Fund 541
Disclosure Issues for Cash 542
Auditing Investments 543 Control Risk Assessment—Investments 543
Assertions and Related Control Activities 544
Segregation of Duties 545
Substantive Procedures—Investments 545 Substantive Analytical
Procedures—Investments 545
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Report by a Predecessor Auditor 613
Other Information in Documents Containing Audited Financial Statements 613
Special Reports Relating to Financial Statements 614 Financial Statements Prepared According to a
Special Purpose Framework 614
Specified Elements, Accounts, or Items of a
Financial Statement 615
Compliance Reports Related to Audited Financial
Statements 615
Big Changes Coming to Audit Reporting 616 Key Terms 618 Review Questions 618 Multiple-Choice Questions 619 Problems 621 Discussion Case 625 Hands-On Cases 626
PART 7 Professional Responsibilities 627
Chapter 19 Professional Conduct, Independence, and Quality Control 628
Ethics and Professional Conduct 630 Ethics and Professionalism Defined 630
Theories of Ethical Behavior 631
Example—an Ethical Challenge 632
An Overview of Ethics and Professionalism in Public Accounting 634
A Tale of Two Companies 634
Standards for Auditor Professionalism 635
The Newly Revised AICPA Code of Professional Conduct: A Comprehensive Framework for Auditors 636
Principles of Professional Conduct 638
Rules of Conduct 639
Integrity, Objectivity, and Independence 640 Integrity and Objectivity—Framework, Rule, and
Interpretations 640
Independence 641
Other Sections of the Code of Professional Conduct 653
General Standards and Accounting
Principles 653
Responsibilities to Clients 654
Communications Regarding the Audit of Internal
Control over Financial Reporting 583
Management Letter 584
Subsequent Discovery of Facts Existing at the Date of the Auditor’s Report 584
Key Terms 585 Review Questions 586 Multiple-Choice Questions 586 Problems 588 Discussion Cases 592 Internet Assignments 595 Hands-On Cases 595
Chapter 18 Reports on Audited Financial Statements 596
Reporting on the Financial Statement Audit: The Standard Unqualified/Unmodified Audit Report 598
The Standard Unqualified Audit Report for Public
Companies 598
The Standard Unmodified Audit Report for All
Entities Other Than Public Companies 599
Explanatory Language Added to the Standard Unqualified/Unmodified Financial Statement Audit Report 600
Modified Wording for Opinion Based in Part on
the Report of Another Auditor 600
Circumstances Requiring Explanatory Language
in an Additional Paragraph 601
Departures from an Unqualified/Unmodified Financial Statement Audit Report 604
Conditions for Departure 605
Types of Financial Statement Audit Reports Other
Than Unqualified/Unmodified 605
The Effect of Materiality on Financial Statement
Reporting 606
Discussion of Conditions Requiring Other Types of Financial Statement Audit Reports 607
Scope Limitation 607
Statements Not in Conformity with GAAP 609
Auditor Not Independent 610
Special Reporting Issues 611 Reports on Comparative Financial Statements 611
Different Reports on Comparative Financial
Statements 611
A Change in Report on the Prior-Period Financial
Statements 612
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Discussion Cases 706 Hands-On Cases 706
PART 8 Assurance, Attestation, and Internal Auditing Services 707
Chapter 21 Assurance, Attestation, and Internal Auditing Services 708
Assurance Services 710 Types of Assurance Services 711
Attest Engagements 711 Types of Attest Engagements 712
Attestation Standards 713 General Standards 713
Standards of Fieldwork 715
Standards of Reporting 715
Reporting on an Entity’s Internal Control over Financial Reporting (ICFR) 715
Conditions for Conducting an Engagement
Relating to ICFR 716
Examination Engagement on an Entity’s
ICFR 716
Reporting on Management’s Assertion about
Internal Control 716
Financial Forecasts and Projections 717 Types of Prospective Financial Statements 717
Examination of Prospective Financial
Statements 718
Agreed-Upon Procedures for Prospective Financial
Statements 719
Compilation of Prospective Financial
Statements 720
Accounting and Review Services 722 Compilation of Financial Statements 723
Review of Financial Statements 724
Internal Auditing 726 Internal Auditing Defined 727
The Institute of Internal Auditors 727
IIA Standards 727
Code of Ethics 728
Internal Auditors’ Roles 729
Internal Audit Product Offerings 732
Interactions between Internal and External
Auditors 732
Other Responsibilities and Practices 655
Disciplinary Actions 657
Don’t Lose Sight of the Forest for the Trees 657
Quality Control Standards 658 System of Quality Control 659
Elements of Quality Control 659
PCAOB Inspections of Registered Public
Accounting Firms 661
Key Terms 661 Review Questions 663 Multiple-Choice Questions 663 Problems 666 Discussion Cases 668 Internet Assignment 669 Hands-On Cases 670
Chapter 20 Legal Liability 672
Introduction 674 Historical Perspective 674
Overview of Auditor Legal Liability 675
Common Law—Clients 677 Breach of Contract—Client Claims 677
Negligence—Client Claims 677
Fraud—Client Claims 679
Common Law—Third Parties 680 Ordinary Negligence—Third-Party Claims 680
Fraud and Gross Negligence—Third-Party
Claims 686
Damages under Common Law 687
Statutory Law—Civil Liability 688 Securities Act of 1933 688
Securities Exchange Act of 1934 689
Private Securities Litigation Reform Act of 1995,
the Securities Litigation Uniform Standards Act
of 1998, and the Class Action Fairness Act of
2005 693
Sarbanes-Oxley Act of 2002 695
SEC and PCAOB Sanctions 695
Foreign Corrupt Practices Act 697
Racketeer Influenced and Corrupt
Organizations Act 697
Statutory Law—Criminal Liability 698 Key Terms 699 Review Questions 700 Multiple-Choice Questions 700 Problems 703
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Advanced Module: Professonal Judgment Framework—Understanding and Developing Professional Judgment in Auditing 748 (Also visit KPMG’s University Connection website to access related resources, including videos, mini-cases, instructor notes, and problems, that were created to accompany the Deloitte/Wildman award-winning KPMG Professional Judgment Framework monograph, on which this module is based.)
Index 757
Advanced Module: Examples of Assurance Services— Trust Services and PrimePlus Services 734
Trust Services 734
Trust Services and SOC 2 and SOC 3
Reports 735
CPA WebTrust 735
CPA PrimePlus Services 738
Key Terms 739 Review Questions 739 Multiple-Choice Questions 740 Problems 742 Discussion Case 746 Internet Assignments 746 Hands-On Cases 747
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1
mes32502_ch01_001-034.indd 1 09/30/15 02:33 PM
PART ONE
Introduction to Assurance and Financial Statement Auditing
CHAPTER 1 An Introduction to Assurance and Financial Statement Auditing
CHAPTER 2 The Financial Statement Auditing Environment
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mes32502_ch01_001-034.indd 2 09/30/15 02:33 PM
CHAPTER
1 1-1 Understand why studying auditing can be valuable to you
whether or not you plan to become an auditor, and why it is different from studying accounting.
1-2 Understand the demand for auditing and be able to explain the desired characteristics of auditors and audit services through an analogy to a house inspector and a house inspection service.
1-3 Understand the relationships among auditing, attestation, and assurance services.
1-4 Know the basic definition of a financial statement audit.
1-5 Understand three fundamental concepts that underlie financial statement auditing.
1-6 Be able to explain why on most audit engagements an auditor tests only a sample of transactions that occurred.
1-7 Be able to describe the basic financial statement auditing process and the phases in which an audit is carried out.
1-8 Know what an audit report is and understand the nature of an unqualified report.