Republic of the Philippines

POLYTECHNIC UNIVERSITY OF THE PHILIPPINES

College of Accountancy and Finance

Cyra Ellaine D. Perez

BSA 3-2
ACCO 30043 Assignment Number 3

Answer the following questions briefly and concisely.

TEST I:

1. What are Financial Statement Assertions?

Financial statement assertions are statements or claims made by businesses about the
fundamental accuracy of the information contained in their financial statements. The balance
sheet, income statement, and cash flow statement are examples of these statements. These
claims, also known as management assertions, can be either implicit or explicit. External
auditors develop a set of audit procedures based on the assertions.

2. Define audit evidence. What are the different sources of evidence?

Auditing evidence is information gathered for a review of a company's financial

transactions, internal control practices, and other items required for an auditor or certified
public accountant to certify financial statements (CPA). The amount and type of auditing
evidence considered varies significantly depending on the type of firm being audited as well
as the audit's required scope. Audit evidence includes all information obtained from audit
procedures or other sources that is used by the auditor in reaching the conclusions that form
the basis of the auditor's opinion. It also includes information that both supports and
corroborates management's assertions about the financial statements or internal control over
financial reporting, as well as information that contradicts such assertions.

3. What is materiality in the audit process?

In terms of auditing, materiality refers to more than just a monetary value; it also
refers to the impact that amount will have in various contexts. During the audit planning
process, the auditor determines the level of materiality, considering the entire set of financial
statements to be audited. Materiality refers to both the content of the financial statements and
the level and type of testing to be performed. The decision is based on assessments of the
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POLYTECHNIC UNIVERSITY OF THE PHILIPPINES
College of Accountancy and Finance

size, nature, and specific circumstances of misstatements (or omissions) that could influence
users of financial reports. Furthermore, the decision is influenced by legislative and
regulatory requirements, as well as public expectations.

4. What is audit risk?

Audit risk is the risk that the auditor will issue an incorrect audit opinion if the
financial statements are materially misstated, i.e., not presented fairly in accordance with the
applicable financial reporting framework. Audit risk is proportional to the risk of material
misstatement and the risk of detection.

5. What are the components of audit risk? Explain each one briefly.

Audit risk has two components, the risk of material misstatement and the detection
risk. The risk of material misstatement talks about the risk that the financial reports are
materially incorrect before the audit is performed. The term "material" in this context refers
to a dollar amount large enough to sway the opinion of a financial statement reader, and the
percentage or dollar amount is subjective. The risk of material misstatement is increased if
insufficient internal controls are suspected, which is also a fraud risk. This type of risk is also
called combined risk assessment. On the other hand, detection risk is defined as the risk that
the auditor’s procedures do not detect a material misstatement. It is commonly known for
being a controllable and dependent risk because its basis of being high or low is dependent on
the assessment of the risk of material misstatement or the non-controllable risks.

6. Can risk be eliminated? Explain your answer.

Risk can never be eliminated; it can only be mitigated, not eliminated. As previously

stated, one aspect of audit risk is uncontrollable: the risk of material misstatement. Inherent

risks are included in this type of audit risk. Inherent risks are those that are unavoidable or

uncontrollable due to human error or fraud which is also a risk that can be found in different

types of situations, not only in auditing. Because this type of risk is uncontrollable, risk is

impossible to be eliminated.
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POLYTECHNIC UNIVERSITY OF THE PHILIPPINES
College of Accountancy and Finance

7. What activities does the auditor perform during the initial phase of the audit

engagement?

The auditor should plan the audit thoroughly. This standard outlines the auditor's
duties in terms of audit planning. Planning the audit entails developing an audit plan, which
includes, in particular, planned risk assessment procedures and responses to material
misstatement risks. Planning is not a discrete phase of an audit; rather, it is a continuous and
iterative process that may begin shortly after (or in conjunction with) the completion of the
previous audit and continue until the completion of the current audit. At the start of the audit,
the auditor should perform the following tasks:

1) Perform procedures regarding the continuance of the client relationship and the specific
audit engagement,
2) Determine compliance with independence and ethics requirements, and
3) Establish an understanding of the terms of the audit engagement with the audit committee
in accordance with Auditing Standard No. 16, Communications with Audit Committees.

8. What are the situations that we do not continue or reject the audit engagement?

If the audit engagement partner believes that any threats to the auditor's objectivity
and independence cannot be reduced to an acceptable level, he or she must decline to accept
or continue the audit engagement. Also, if a new client requests an auditor's services, the
auditor must first assess the client's integrity, determining whether the potential future client
is not committing wrongful acts that violate the law and human moral principles. This testing
of integrity is applicable not only to new clients, but also to existing clients who wish to
continue working with the said auditor and must maintain their integrity. Without integrity,
there will be no audit contract.

9. What is the importance of an engagement letter?

The purpose of an engagement letter is to inform the auditee about the nature of the
engagement and to clarify the roles of the parties involved. It is important in an audit
engagement because it contains lots of information about the whole process of the audit that
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POLYTECHNIC UNIVERSITY OF THE PHILIPPINES
College of Accountancy and Finance

will happen such as the objective of audit of the financial statements, management’s
responsibility for the financial statements, the scope of the audit, and a lot more that the
company will need when presenting an audited financial statement.

10. What is the product of the audit process? Cite instances when it is appropriate to

issue each type of audit report.

According to ISA 580, Written Representations, the auditor must consider the matters
to be included in management's written representation near the end of the audit. This is
something to think about near the end of the audit because ISA 580 requires that the date of
the written representation be as close to, but not later than, the date of the auditor's report.
Because written representations are required audit evidence, the auditor's opinion cannot be
expressed, and the auditor's report cannot be dated before the written representations.
Significant subsequent events may emerge late in the audit, so written representations should
cover the entire subsequent events period, right up to the date the audit report is dated.

TEST II:

For each of the following descriptions, indicate which type of audit (financial statement audit,

audit of internal control, compliance audit, operational audit, or forensic audit) best

characterizes the nature of the audit being conducted. Also indicate which type of auditor

(external auditor, internal auditor, government auditor, or forensic auditor) is likely to

perform the audit engagement.

a. Evaluate the policies and procedures of the Food and Drug Administration in terms of

bringing new drugs to market. – OPERATIONAL AUDIT – Government Auditor

b. Determine the fair presentation of Ajax Chemical’s balance sheet, income statement, and

statement of cash flows. – FINANCIAL STATEMENT AUDIT – External Auditor

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POLYTECHNIC UNIVERSITY OF THE PHILIPPINES
College of Accountancy and Finance

c. Review the payment procedures of the accounts payable department for a large

manufacturer. – COMPLIANCE AUDIT, OPERATIONAL AUDIT, OR AUDIT OF

INTERNAL CONTROL – Internal Auditor or External Auditor

d. Examine the financial records of a division of a corporation to determine if any accounting

irregularities have occurred. – FINANCIAL STATEMENT AUDIT – External Auditor

e. Evaluate the feasibility of forecasted rental income for a planned low-income public

housing project. – OPERATIONAL AUDIT – External, Internal or Forensic Auditor

f. Evaluate a company’s computer services department in terms of the efficient and effective

use of corporate resources. OPERATIONAL AUDIT – Internal or External Auditor

g. Audit the partnership tax return of a real estate development company. COMPLIANCE

AUDIT – Government Auditor

h. Investigate the possibility of payroll fraud in a labor union pension fund. COMPLIANCE

OR FORENSIC AUDIT – Government, External, or Forensic Auditor