Chapter 18 - Integrated Audits f Public Cmpanies CHAPTER 18 Integrated Audits f Public Cmpanies Review Questins 18 1 Sectin 404a requires that each annual reprt filed with the Securities and Exchange Cmmissin include an internal cntrl reprt prepared by management in which management acknwledges its respnsibility fr establishing and maintaining adequate internal cntrl and an assessment f internal cntrl effective as f the end f the mst recent fiscal year. Sectin 404b requires that the CPA firm attest t and reprt n the assessment made by management as well as prvide its wn pinin n internal cntrl. 18 2 As peratinalized by the Securities and Exchange Cmmissin, management s fur verall respnsibilities relating t internal cntrl ver financial reprting (hereafter, internal cntrl): Accept respnsibility fr the effectiveness f internal cntrl. Evaluate the effectiveness f internal cntrl using suitable cntrl criteria. Supprt the evaluatin with sufficient evidence. Prvide a reprt n internal cntrl. 18 3 The fllwing infrmatin must be included in management s reprt n internal cntrl ver financial reprting: State that it is management s respnsibility t establish and maintain adequate internal cntrl. Identify management s framewrk fr evaluating internal cntrl. Include management s assessment f the effectiveness f the cmpany s internal cntrl ver financial reprting as f the end f the mst recent fiscal perid, including a statement as t whether internal cntrl ver financial reprting is effective. Include a statement that the cmpany s auditrs have issued an attestatin reprt n management s assessment. 18 4 A material weakness is cnsidered mre serius. A material weakness is a deficiency, r a cmbinatin f deficiencies, in internal cntrl ver financial reprting, such that there is a reasnable pssibility that a material misstatement f the cmpany s annual r interim financial statements will nt be prevented r detected n a timely basis. A significant deficiency is a deficiency, r a cmbinatin f deficiencies, in internal cntrl ver financial reprting that is less severe than a material weakness, yet imprtant enugh t merit attentin by thse respnsible fr versight f the cmpany s financial reprting. 18-1 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies 18 5 While the first part is crrect (bth significant deficiencies and material weaknesses must be cmmunicated t the audit cmmittee), there is an imprtant distinctin between the tw. Material weaknesses result in adverse internal cntrl audit reprts, while significant deficiencies d nt. Cnsidering definitins, a material weakness is a deficiency, r a cmbinatin f deficiencies, in internal cntrl ver financial reprting, such that there is a reasnable pssibility that a material misstatement f the cmpany s annual r interim financial statements will nt be prevented r detected n a timely basis. A significant deficiency is a deficiency, r a cmbinatin f deficiencies, in internal cntrl ver financial reprting that is less severe than a material weakness, yet imprtant enugh t merit attentin by thse respnsible fr versight f the cmpany s financial reprting. 18 6 When reprting n internal cntrl ver financial reprting, the pinin is n whether internal cntrl is effective as f a particular date, rdinarily the last day f the client s fiscal year. This is in cntrast t reprting n the effectiveness f internal cntrl ver the entire year. 18 7 A cmpensating cntrl limits the expsure t misstatements that exists due t deficiencies in ther cntrls. It cmpensates fr the deficiency in ther cntrls, that is, it addresses the bjective that is nt being met by the deficient cntrl. Cmpensating cntrls are rdinarily cntrls perfrmed t detect, rather than prevent, a misstatement frm ccurring. Fr example, a recnciliatin f the bank accunt perfrmed by an individual therwise independent f the cash functin serves t detect a variety f pssible misstatements (bth errrs and fraud) that may have ccurred in the prcessing f cash receipts and disbursements. 18 8 Antifraud prgrams (three required) include effective: Management accuntability. Audit cmmittee. Cde f cnduct/ethics. Whistleblwer prgram. Hiring and prmtin prcedures. Remediatin f significant deficiencies material weaknesses, and fraud. Students may include additinal prgrams and elements. 18 9 A walk-thrugh invlves literally tracing a transactin thugh the entire infrmatin system frm inceptin t financial reprting. Althugh generally an effective apprach, walk-thrughs are nt required during an audit f internal cntrl ver financial reprting. They may be perfrmed by the auditrs r by the client persnnel under prper supervisin f the auditrs. 18 10 Althugh any number f inquiries may be made, inquiries such as the fllwing are suggested (three required): Can yu describe the part f the prcessing f the transactin with which yu are invlved? What d yu d when yu find an errr? What kind f errrs have yu fund? What happened as a result f finding the errrs, and hw were the errrs reslved? Have yu ever been asked t verride the prcess r cntrls? If yes, why did it ccur and what happened? 18-2 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies 18 11 Walk-thrughs prvide the auditrs with evidence t: Verify that they have identified pints at which a significant risk f misstatement t a relevant assertin exists. Verify their understanding f the design f cntrls, including thse related t the preventin r detectin f fraud. Evaluate the effectiveness f the design f cntrls. Cnfirm whether cntrls have been place in peratin (implemented). 18 12 Rutine transactins are fr recurring activities, such as sales, purchases, cash receipts and disbursements, and payrll. Nnrutine transactins ccur nly peridically, such as the taking f physical inventry, calculating depreciatin expense r adjusting fr freign currencies; nnrutine transactins generally are nt a part f the rutine flw f transactins. Estimatin transactins (smetimes referred t as nnsystematic transactins) are activities invlving management s judgments r assumptins, such as determining the allwance fr dubtful accunts, establishing warranty reserves, and assessing assets fr impairment. 18 13 An accunt is significant if there is mre than a remte likelihd that it culd cntain misstatements that individually, r when aggregated with thers, culd have a material effect n the financial statements. Factrs that shuld be cnsidered in deciding whether an accunt is significant include its: Size and cmpsitin. Susceptibility f lss due t errrs r fraud. Vlume f activity, cmplexity and hmgeneity f individual transactins. Nature f the accunt. Accunting and reprting cmplexity. Expsure t lsses. Likelihd f significant cntingent liabilities. Existence f related party transactins. Changes frm the prir perid. 18 14 Whether the auditrs must perfrm tests at each lcatin depends upn the individual imprtance f each lcatin. Tests need nly be perfrmed at lcatins (r business units) that, individually r when aggregated, culd create a material misstatement f the financial statements. 18 15 The statement is incrrect because auditrs must first test design effectiveness, and if the design seems apprpriate, test perating effectiveness t determine whether it is functining prperly. It is nt a chice f ne versus the ther, althugh tests f perating effectiveness will nt rdinarily be perfrmed when the design is ineffective. 18 16 Any number f pssible examples may be given in respnse t the questin. One example is when a cntrl is designed t require tw individuals t pen each day s cash receipts. It may nt perate effectively when the cmpany allws ne persn t perfrm the functin n days in which the secnd persn is needed t perfrm anther functin. Als, such a cntrl may nt perate effectively if the tw individuals simply divide the jb in half and perfrm the functin independently f ne anther. 18 17 The statement is crrect. Standard N. 5 requires that additinal evidence beynd inquiry alne be gathered. Thus, the auditrs shuld substantiate inquiry results t the extent pssible by perfrming ther prcedures such as inspecting reprts r ther dcumentatin relating t the inquiry. 18-3 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies 18 18 The statement is incrrect in that sme cntrls may be tested after the as f date (year-end). Gd examples are cntrls ver the perid-end financial reprting prcess in that they ften functin after year-end when the financial statements are being prepared. 18 19 The auditrs may use the wrk f thers as a part f an audit f internal cntrl. One wuld rdinarily expect that the wrk f thers wuld invlve testing mre lw-risk, rutine transactins rather than pervasive and cntrl envirnment cntrls. In all cases in which the wrk f thers is ging t be used, the auditrs shuld evaluate the cmpetence and bjectivity f thse individuals and test the wrk they have perfrmed. 18 20 When a substantive prcedure identifies a misstatement, this will rdinarily indicate that cntrls have nt perated effectively. Accrdingly, this may lead t a cnsideratin f the circumstances and whether a breakdwn in cntrls indicates the existence f a significant deficiency r a material weakness. Indeed, identificatin f a material misstatement in the current year financial statements that was nt initially identified by the cmpany s internal cntrl is cnsidered at least a significant deficiency and a strng indicatr f a material weakness. 18 21 The perfrmance f substantive tests may be affected by tests f cntrls in circumstances in which a cntrl deficiency is identified. Substantive prcedures may be increased t identify any pssible material misstatement. 18 22 Entity-level cntrls have a pervasive effect n the achievement f verall cntrl bjectives (e.g., tne at the tp) rather than a specific cntrl bjective. 18 23 The fllwing represents transactins that are indicatrs f material weaknesses in internal cntrl (three required): Identificatin f fraud, whether r nt material, n the part f senir management Restatement f previusly issued financial statements t reflect the crrectin f a material misstatement. Identificatin by the auditr f a material misstatement in circumstances that indicate that the misstatement wuld nt have been detected by the cmpany internal cntrl. Ineffective versight f the cmpany s external financial reprting and internal cntrl by the cmpany s audit cmmittee. 18 24 The pinin paragraph cncludes directly n internal cntrl. 18 25 A management impsed scpe limitatin is mst likely t result in a disclaimer f pinin n the cmpany s internal cntrl ver financial reprting, r pssibly withdrawal frm the engagement. 18 26 Yes, althugh a material weakness exists related t internal cntrl, the financial statements may still fllw generally accepted accunting principles and an unqualified audit reprt may be apprpriate. Fr example, a material weakness may have been identified, but ne that the auditrs substantive tests determined did nt lead t a material misstatement during the year under audit. Or, if a material misstatement did ccur during the year under audit and management has crrected it, an unqualified audit reprt n the financial statements wuld als be apprpriate. 18 27 Auditrs must cmmunicate bth significant deficiencies and material weaknesses t the audit cmmittee. 18 28 When the auditrs are engaged t reprt n whether a previusly reprted material weakness cntinues t exist, they plan and perfrm an engagement that fcuses n cntrls that are relevant t 18-4 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies the particular weakness. If they determine that the cntrls are nw effective, the auditrs may issue an unqualified reprt indicating that the material weakness n lnger exists. Questins Requiring Analysis 18 29 Figure 18.7 presents the varius links between identifying significant accunts and the cntrls t be tested. That sequence invlves the fllwing steps: 1. Identify significant accunts and disclsures. Significant accunts and disclsures are thse in which there is mre than a remte likelihd that it culd cntain misstatements that individually, r when aggregated with thers, culd have a material effect n the financial statements. 2. Identify relevant financial statement assertins. The financial statement assertins fr significant accunts are: (1) existence r ccurrence; (2) cmpleteness; (3) valuatin r allcatin; (4) rights and bligatins; (5) presentatin and disclsures. The relevant assertins are thse that have a meaningful bearing n whether the accunt is presented fairly. 3. Identify significant prcesses and majr classes f transactins. The auditrs identify each significant prcess ver each majr class f transactins. Majr classes f transactins are thse grupings f transactins that are significant t the financial statements. Cnsider a cmpany whse sales may be initiated by custmers either thrugh the Internet, r in a retail stre. These types f sales represent tw majr classes f transactins within the sales prcesses. Als, fr a cmpany with a significant amunt f fixed assets, recrding depreciatin is a prcess that creates a majr class f transactins. When auditrs cnsider the majr classes f transactins it is helpful t classify them by what Standard N. 5 refers t as transactin type rutine, nnrutine, r estimatin. Fr each significant prcess, the auditrs shuld: Understand the flw f transactins (initiatin, authrizatin, recrding prcessing, reprting). Identify pints at which a misstatement culd arise. Identify cntrls t address ptential misstatements. Identify cntrls t prevent r timely detect unauthrized acquisitin, use r dispsitin f the cmpany s assets. 4. Identify cntrl bjectives. The cntrl bjectives relate t the specific prcess in questin. Figure 18.9 prvides an illustratin fr accunts receivable. The cntrl bjectives include: Ensure that all gds shipped are accurately billed in the prper perid. Accurately recrd all authrized shipments and nly such shipments. Accurately recrd all authrized sales returns and allwances and nly such returns and allwances. Ensure cntinued cmpleteness and accuracy f accunts receivable. Safeguard accunts receivable recrds. 5. Identify cntrls t test. The auditrs identify the cntrls t be tested by cnsidering the: 18-5 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies Pints at which errrs r fraud culd ccur. Nature f the cntrls implemented by management. Significance f each cntrl in achieving the bjectives f the cntrl criteria. Risk that cntrls might nt be perating effectively. 18 30 a. The bjective f tests f cntrls in an audit f internal cntrl is t btain evidence abut the effectiveness f cntrls t supprt the auditrs pinin n whether management s assessment f the effectiveness f internal cntrl is fairly stated as f a pint in time and taken as a whle. Accrdingly, t express this pinin the auditrs must btain evidence abut the effectiveness f cntrls ver all relevant assertins fr all significant accunts and disclsures in the financial statements. This results in bth testing cntrls nt rdinarily tested fr a financial statement and emphasizing tests that bear n their effectiveness as f a pint in time year-end. b. The bjectives f tests f cntrls fr financial statement audits are t assist the auditrs in planning the audit and t assess cntrl risk. T assess cntrl risk at less than the maximum, the auditrs are required t btain evidence that the relevant cntrls perated effectively during the entire perid upn which the auditrs plan t place reliance n thse cntrls. Hwever, the auditrs are nt required t assess cntrl risk at less than the maximum fr all assertins. c. T recncile these appraches, Standard N. 5, fr purpses f the internal cntrl audit, allws the auditrs t btain evidence abut perating effectiveness at different times thrughut the year prvided that the auditrs update thse tests r btain ther evidence that the cntrls still perated effectively at the end f the year. Thus, althugh the timing fr issuing the internal cntrl reprt wuld ften nt require tests thrughut the year, the integrated nature f the tw audits suggests a degree f testing thrughut the year. 18 31 a. The management f Alexandria must gather sufficient evidence t demnstrate that hiring the cntrller has eliminated the material weakness, dcument the evidence, and prvide a written assertin that the material weakness n lnger exists. b. Webster, Warren & Webb shuld plan and perfrm an engagement that fcuses n whether the new cntrller has sufficient expertise t eliminate the material weakness. If they determine that hiring the cntrller has mitigated the weakness, the auditrs may issue an unqualified reprt indicating that the material weakness n lnger exists. c. If the audit team discvers anther weakness during the curse f the audit, it will nt affect the auditrs reprt. Hwever, they shuld make sure that the audit cmmittee f Alexandria is ntified abut the weakness. Objective Questins 18 32 Multiple Chice Questins a. (1) PCAOB Standard N. 5 requires the auditrs t cmmunicate bth material weaknesses and significant deficiencies t the audit cmmittee. b. (2) An audit reprt n internal cntrl is mdified fr material weaknesses, nt significant deficiencies. 18-6 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies c. (1) Management must cmmunicate bth material weaknesses and significant deficiencies t the audit cmmittee. d. (1) PCAOB Standard N. 5 includes ineffective versight f financial reprting by the audit cmmittee is cnsidered an indicatr f a material weakness in internal cntrl. e. (2) A material weakness invlves a reasnable pssibility f a material misstatement. f. (3) An unqualified pinin with n explanatry language is apprpriate when the material weakness has been eliminated (remediated) prir t the as f date, yearend. g. (4) Management s reprt n internal cntrl under Sectin 404a f the Sarbanes-Oxley Act f 2002 need nt state that it has a respnsibility t establish and maintain internal cntrl that detects all significant deficiencies. h. (2) Management s dcumentatin must include infrmatin n cntrls designed t prevent fraud, but nt n cntrls designed t ensure emplyee persnal integrity. i. (4) A material weakness invlves a material amunt. j. (4) A walk-thrugh invlves tracing a transactin frm riginatin thrugh a cmpany s infrmatin systems until it is reflected in the financial reprting system. k. (3) Auditrs will nt rdinarily ask what was the largest fraudulent transactin an individual ever prcessed. The ther three replies are recmmended questins. l. (1) An audit f internal cntrl ver financial reprting rdinarily assess internal cntrl at an as f date rdinarily the last day f the fiscal perid. 18 33 1. (A) The functin f a credit department is t fllw the cmpany s credit plicies t make decisins n the granting f credit. 2. (B) Sales returns shuld be presented t the receiving clerk (nt a sales department clerk) wh shuld prepare a receiving reprt (nt a shipping reprt). 3. (A) Sending mnthly statements t custmers represents a cntrl strength as errrs and fraud may be discvered. 4. (B) Write-ffs f accunts receivable shuld be apprved by a management fficial independent f the recrdkeeping functin, nt by the cntrller wh is respnsible fr recrdkeeping. Frequently, the treasurer apprves write-ffs. 5. (C) While requiring tw signatures n large checks is a gd cntrl ver expenditures, it relates much mre directly t the purchases/disbursements cycle than t the revenue cycle. 6. (A) Mailed cash receipts shuld be received by an individual with n recrdkeeping respnsibility a secretary with n recrdkeeping respnsibility is apprpriate. That individual shuld pen the mail and prepare a list f the receipts. The cash shuld be frwarded with a cpy f the listed receipts t a cashier (r the individual wh makes depsits) and the remittance advices shuld be frwarded with anther cpy f the listed receipts t the accunting department. 7. (B) As indicated in the answer explanatin t item 6, the cash receipts shuld be pened by an individual with n recrdkeeping respnsibility. The cash shuld be frwarded 18-7 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies with a cpy f the listed receipts t a cashier (r the individual wh makes depsits) and the remittance advices shuld be frwarded with anther cpy f the listed receipts t the accunting department. 8. (B) The cash receipts jurnal shuld be prepared by the department respnsible fr recrdkeeping accunting under the authrity f the cntrller. 9. (B) Cash shuld rdinarily be depsited daily. 10. (C) This cntrl relates t the purchases/disbursements cycle. 11. (A) Bank recnciliatins shuld be prepared by individuals independent f cash receipts (and cash disbursements) recrdkeeping. 18 34 Task-Based Simulatin a. Agree. Vided checks shuld be saved s there is n questin as t whether it is vided r utstanding. b. Disagree. Each bank accunt rdinarily has its wn series. c. Agree. Purchasing, which authrizes purchase, shuld nt als sign checks, which in essence disburse funds related t thse purchases. d. Disagree. This is a cntrl in that it makes it mre difficult fr an inapprpriate persn t cash a check. e. Agree. Authrized check signers disburse funds and effective versight f the disbursement functin requires recnciliatin by anther individual. f. Disagree. Cash receipts shuld be s prelisted t establish cntrl ver ttal receipts. g. Disagree. A plicy f restrictively endrsing receipt (e.g., endrsing them pay nly t Zabling C. ) is a cntrl that makes it mre difficult fr anther individual t cash the checks fr persnal use. h. Disagree. This plicy eliminates the pssibility f the supprt inapprpriately being used t supprt an imprper secnd disbursement using thse dcuments. 18 35 Task-Based Simulatin Situatin a. The client did nt furnish adequate evidence fr the auditrs t evaluate internal cntrl ver inventry. All ther evidence was prvided. b. The auditrs examined the client s internal cntrl ver cash receipts and cncluded that they are perating exactly as designed. Hwever, the design f the cntrls des nt include cntrl prcedures t prevent misstatements and he ptential missin f cash receipts. c. The auditrs cncluded that the ineffectiveness f the design f cntrls ver accunts payable and cash disbursements represents a material weakness in internal cntrl, even thugh the financial statements are nt materially misstated. d. The auditrs cncluded that a significant deficiency in internal cntrl exists in the payrll functin, but n material weakness. Respnse 9. Issue a disclaimer f pinin. 3. Determine if the cntrl deficiency is a material weakness by btaining further evidence. 5. Express an adverse pinin n internal cntrl. 6. Express an unqualified pinin n internal cntrl. 18-8 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies e. The auditr s prir-year reprt n internal cntrl included an adverse pinin. The client has since mdified internal cntrl and n material weaknesses were fund in the current year. 6. Express an unqualified pinin n internal cntrl. 18 36 Definitins a. 4 Material weakness b. 1 Cntrl deficiency c. 9 Significant accunt d. 8 Sectin 404 e. 3 Majr classes f transactins f. 12 Walk-thrugh Prblem 18 37 SOLUTION: Slingsdale Building Supplies, Inc. (Estimated time: 30 minutes) a. The fllwing deficiencies exist in Slingsdale s cash receipts and billing functins: Credit manager: Ability t apprve credit withut external credit check r reference t established credit limits. AR supervisr: Billing withut independent manual r cmputer verificatin. Ability t alter details f charge frms and t use altered details in preparing invices. N check that daily ttals f charge frms equal daily ttals f invices. May write ff accunts because there is n independent verificatin f the AR subsidiary ledger r recnciliatin f it with the cntrl accunt. Lng verdue accunts may remain n bks and additinal credit granted by mitting them frm mnthly reprt. Cashier: Incmpatible duties f receiving cash receipts, depsiting cash, and recrding receipts n remittance advices. N independent verificatin f cash receipts with depsit slips r lists f checks. Recnciling bank statements is incmpatible with receiving and depsiting cash. Bkkeeper: Authrizes write-ffs withut investigating reasns fr them. Established criterin fr write-ffs is t inflexible and des nt prevent granting additinal credit at earlier date. Can indirectly grant additinal credit by nt ntifying credit manager f write-ff. Incmpatible duties f authrizing and recrding write-ffs. 18-9 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies b. Material weaknesses result in an adverse pinin. c. All material weaknesses and significant deficiencies must be reprted bth t management and t the audit cmmittee. In-Class Team Cases 18 38 SOLUTION: Cntrl Deficiencies, Significant Deficiencies, and Material Weaknesses (Estimated time: 30 minutes) Case 1 The auditrs wuld generally determine that this deficiency represents a significant deficiency because while an immaterial amunt is likely t be invlved, it des seem large enugh as t merit infrming thse respnsible fr versight f the cmpany s financial reprting. Case 2 The auditrs are mst likely t determine that the cmbinatin f these significant deficiencies represents a material weakness fr the fllwing reasns: Individually, these deficiencies were evaluated as representing significant deficiencies. Each f these significant deficiencies affects the same set f accunts and taken tgether may represent a mre than remte likelihd that a material misstatement culd ccur and nt be prevented r detected. Therefre, in cmbinatin, these significant deficiencies may represent a material weakness. Case 3 The auditrs are mst likely t determine a significant deficiency fr the fllwing reasns: The magnitude f a financial statement misstatement resulting frm this deficiency wuld reasnably be expected t be less than material, althugh at a level that might merit the attentin f thse respnsible fr versight f the cmpany s financial reprting. The risk f material misstatement is limited t revenue recgnitin errrs related t shipping terms as ppsed t brader surces f errr in revenue recgnitin. Hwever, the cmpensating detective cntrls are nly designed t detect material misstatements. Case 4 Based n nly these facts, the auditrs shuld determine that this deficiency represents a material weakness fr the fllwing reasns: The magnitude f a financial statement misstatement resulting frm this deficiency wuld reasnably be expected t be material, because the frequency f ccurrence allws insignificant amunts t becme material in the aggregate. 18-10 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.
Chapter 18 - Integrated Audits f Public Cmpanies The likelihd f material misstatement f the financial statements resulting frm this internal cntrl deficiency is reasnably pssible (even assuming that the amunts were fully reserved fr in the cmpany's allwance fr uncllectible accunts) due t the likelihd f material misstatement f the grss accunts receivable balance. Therefre, this internal cntrl deficiency meets the definitin f a material weakness. Case 5 A restatement f previusly issued financial statements t reflect the crrectin f a misstatement shuld be regarded as at least a significant deficiency and a strng indicatr that a material weakness in internal cntrl ver financial reprting exists. If the auditrs believe that management nw knws the rules this may be cnsidered nly a significant deficiency assuming the auditrs dn t believe that this lack f accunting knwledge is a general prblem in ther areas. Case 6 The auditr s identificatin f a material misstatement is an indicatr f a material in internal cntrl. Yet, the hiring f the financial accunting expert seems t indicate that the deficiency des nt exist at year-end. It seems clear that a material weakness in internal cntrl des nt exist at year-end. Case 7 The questin here relates t whether the auditr believes that the chief financial fficer s knwledge and ability is sufficient t indicate that neither a material weakness nr a significant deficiency exists at year-end. The auditrs wuld need t determine whether the chief financial fficer is likely t be able t effectively mnitr matters. If nt, a material weakness wuld seem t exist. Case 8 PCAOB Standard N. 5 states that identificatin by the auditr f a material misstatement in financial statements in the current perid that was nt initially identified by the cmpany s internal cntrl ver financial reprting is a strng indicatr f a material weakness. Because the auditrs believe that the cntrller s estimate is nt reasnable, this wuld appear t be a strng indicatr that a material weakness in internal cntrl ver financial reprting exists. 18-11 2014 by McGraw-Hill Educatin. This is prprietary material slely fr authrized instructr use. Nt authrized fr sale r distributin in any manner. This dcument may nt be cpied, scanned, duplicated, frwarded, distributed, r psted n a website, in whle r part.