Procedures to obtain an understanding of internal control generally provide sufficient appropriate evidence that a control is operating effectively.

Risk assessment procedures are performed to assess the risk of material misstatement in the financial statements.

Substantive tests are procedures designed to test for dollar misstatements that directly affect the correctness of financial statement balances.

Tests of controls should be performed after substantive tests of transactions.

Tests of details of balances emphasize the overall reasonableness of transactions and the general ledger balances.

Auditors must perform tests of controls separately from substantive tests of transactions.

One factor that determines the amount of additional evidence required for tests of controls is the planned reduction in control risk.

Tests of controls are performed to support a reduced assessment of detection risk.

Auditors use substantive analytical procedures and tests of details of balances to satisfy planned control risk.

Substantive tests of transactions affect control risk but do not affect planned detection risk.

Collectively, procedures performed to obtain an understanding of the entity and its environment, including internal controls, represent the auditor's risk assessment procedures.

For automated controls, the auditor's procedures to determine whether the automated control has been implemented may also serve as the test of that control.

The amount of additional evidence required for tests of controls depends on two things: the extent of evidence obtained in gaining an understanding of internal controls, and the planned reduction in detection risk.

Assume the beginning balance in cash was audited in the prior year and is considered to be correct. In the current year, the auditor verifies that sales and cash receipts transactions are correctly recorded in the accounting records and posted to the general ledger. Before the auditor can reach a conclusion about the ending balance in the cash account in the current year, cash disbursement transactions will have to be audited.

Substantive tests are procedures designed to test for dollar misstatements that directly affect the correctness of financial statements balances and disclosures. Substantive tests are often called monetary misstatements.

Auditors can perform tests of controls separately from all other tests; therefore, it is inefficient to perform tests of controls, separately, from substantive tests of transactions.

Tests of controls are generally costlier to perform than analytical procedures.

Only tests of details of balances involve physical examination and confirmation.

Analytical procedures are the least costly type of audit test.

In a computerized environment, the auditor can often perform substantive tests of transactions quickly for a large sample of transactions.

The cost of each type of evidence does not vary in different situations.

Because of the high cost of tests of details of balances, auditors do not perform this type of testing unless fraud is suspected.

The auditor's understanding of internal control performed as part of risk assessment procedures provides the basis for the auditor's initial assessment of control risk.

Analytical procedures are the most expensive type of audit test to perform because of the expertise and training required to properly use them.

The results of tests of controls and substantive tests of transactions affect the design of tests of details of balances.

If internal controls are tested and are considered effective, the auditor generally will increase both substantive tests of transactions and tests of details of balances.

Tests of controls provide evidence about the likelihood for misstatements in a client's financial statements.

An exception in a test of control provides only an indication of the likelihood of monetary misstatements in the financial statements because tests of controls do not reveal whether monetary misstatements have actually occurred.

If the auditor's test of controls supports the control risk assessment, planned detection risk in the audit risk model is decreased, and planned substantive tests should therefore be reduced.

Like tests of controls, analytical procedures only indicate the likelihood of misstatements affecting the dollar value of the financial statements.

For accounts with small balances and minimal potential for material misstatements, auditors often limit their tests to substantive analytical procedures if they conclude the accounts are reasonably stated.

The evidence mix includes risk assessment procedures.

The choice of which types of tests to use and how extensively they need to be performed must be the same for all audits.

A medium-sized, nonpublic company has few effective controls and significant inherent risks. The auditor in this situation should emphasize tests of details and balances and substantive tests of transactions; no substantive analytical procedures should be performed in this situation by the auditor.

One of the most challenging parts of auditing is properly applying the factors that affect tests of details of balances.

Auditing standards require a written audit program.

When designing an audit program for tests of details of balances, the auditor should make assumptions about inherent risk and control risk, and predictions concerning the outcome of tests of controls, substantive tests of transactions, and analytical procedures.

Once set during the planning phase, the audit program cannot be revised.

Inherent risk can be extended to individual balance-related audit objectives.

When controls are effective and control risk is assessed as low, auditors put heavy emphasis on tests of balances.

If control risk is assessed at maximum, only substantive tests of transactions will be used by the auditor, assuming the audit is of a smaller public company, a nonpublic company, or other type of entity.

Analytical procedures performed during substantive testing, such as those for the audit of inventories, are typically more focused and more extensive than those done as part of the audit planning.

An example of auditor using disaggregated data to increase the precision of the auditor's expectations using substantive analytical procedures in the audit of inventories would be to calculate gross margin by product line, rather than calculating the total gross margin for total sales in the planning stage of the audit.

The auditor performs tests of controls and substantive procedures to obtain assurance that all audit objectives are achieved for information and amounts included in those disclosures.

If all transaction-related audit objectives are met, the auditor does not need to perform substantive test of balances to meet the realizable value audit objective.

Presentation and disclosure objectives are primarily addressed in the tests of details of balances phase of the audit.

The auditor must communicate significant deficiencies in internal control only after the entire audit is complete to ensure the auditor has a sufficient understanding of the circumstances surrounding the deficiency.

Subsequent events represent events that occasionally occur after the balance sheet date, but before the issuance of the financial statements and the auditor's report, that have an effect on the financial statements.

Substantive tests of balances performed before year-end provide significant assurance and are normally only done when internal controls are ineffective.

It is inappropriate for the auditor to make written suggestions to management to improve business performance upon completion of the audit.

Separate perpetual records are likely to be kept only for raw materials inventory.

In process cost systems, costs are accumulated by individual jobs.

In job cost systems, costs are accumulated by individual jobs.

In some inventory systems, raw materials can be requisitioned by automated computer software when raw materials reach a predetermined level.

The inventory and warehousing cycle is unique because of its close relationship to other transaction cycles.

The inventory and warehousing cycle ends with the sale of goods in the sales and collection cycle.

Inventory items such as jewels, chemicals, and electronic parts are easy for auditors to observe and to value.

It is not allowed under accounting standards to use different inventory valuation methods for different parts of the inventory.

Inventory valuation issues include the estimation of inventory obsolescence and the allocation of manufacturing costs to inventory.

Purchase requisitions are often initiated by stockroom personnel as raw materials are needed.

The receiving department prepares a receiving report which often is electronic notification of the receipt of goods that become part of the document before payment is made to the vendor.

An adequate cost accounting system is an important part of the processing of goods function for all manufacturing companies.

Inventory compilation tests are used to verify that the inventory is recorded at the lower of cost or market.

An approved purchase requisition form authorizes shipment of goods to customers.

The receipt of raw materials is a part of the acquisition and payment cycle.

The physical observation of the inventory and the acquisition of raw materials are part of the inventory and warehousing cycle.

Physical examination is an essential type of evidence used to verify the existence and count of inventory.

Costs used to value inventory must be tested by the auditor only to determine whether the client has followed an inventory method which is in accordance with generally accepted accounting principles.

Audit procedures verifying the costs used to value inventories are called compilation tests.

The pricing and compilation of inventory are audited using substantive analytical procedures and test of details of the balances.

As part of the risk assessment process, the auditor will consider whether any of the identified risks of material misstatement found during the audit of the inventory and warehousing cycle are considered a significant risk.

It is acceptable practice for CPA firms to use drones to evaluate inventories and other assets such as mineral deposits during audits.

Management typically allocates overhead using total raw materials as the basis for the allocation.

When verifying the transfer of inventory from one location to another, the audit objectives with which the auditor is primarily concerned are occurrence of recorded transfers, completeness of recorded transfers, and accuracy of recorded transfers.

Cost accounting systems and controls are the same for all manufacturing companies.

In evaluating management's overhead cost allocations, the auditor must simply consider the reasonableness of the allocation method and determine if the valuation method complies with generally accepted accounting principles.

The extent and timing of an auditor's physical examination of inventory is significantly influenced by the adequacy of the client's perpetual inventory records.

Management may decide to allocate manufacturing overhead based upon machine hours. In this situation, the auditor must test and verify the reasonableness of the use of machine hours to allocate overhead.

Internal controls over cost accounting records are very similar among companies.

Auditors should design appropriate tests of internal controls over cost accounting records based upon their understanding of those records and the extent they will be relied upon for reducing substantive tests.

A comparison of the current year's inventory turnover ratio with previous years' may indicate the presence of obsolete inventory.

Ratios such as the gross margin percentage calculated as part of risk assessment procedures may be performed using aggregate data.

Significant improvements in audit effectiveness and efficiency may be achieved by the use of audit data analytics in the inventory and warehousing cycle.

It is permissible for an auditor to test the entire inventory population for certain types of audit tests in order to eliminate the need for more costly tests involving sampling.

Many of the internal controls over inventory and the details of the entire inventory population can be tested using audit software.

Auditing standards recommend that auditors observe physical inventory counts by the client.

In the audit of inventory, the auditor and client are jointly responsible for making and recording the count of physical inventory, while the auditor is responsible for drawing conclusions about the adequacy of the physical inventory.

A common source of business risk for inventory is the reliance on a few key suppliers.

To test for proper sales cutoff, an auditor would obtain the number of the last bill of lading issued during the period under audit and verify that the item shipped had been excluded from the inventory listing.

When the client's perpetual inventory master files are inadequate, the auditor will probably choose to test the physical inventory prior to the balance sheet date.

When part of the client's inventory is in a public warehouse or in the possession of other outside custodians, the auditor does not need to observe a physical count of the inventory if a written confirmation is obtained directly from the inventory custodians.

The adequacy of internal controls over the physical count of inventory is one of the key determinants of the amount of time needed to test inventory.

Inherent risk is typically assessed at a low level for inventory due to the nature of the asset.

In pricing raw materials in manufactured products, auditors must consider both the unit cost of the raw materials and the number of units required to manufacture a unit of output.

The audit procedure "Perform tests of lower-of-cost-or-market, selling price, and obsolescence" provides assurance mainly for the realizable value objective for inventory pricing and compilation.

When performing price tests for purchased inventory, the auditor would not be concerned with the most recent vendors' invoices if the client uses the FIFO valuation method.

When a client has standard cost records, an efficient and useful method of determining valuation is to review and analyze variances.

Inventory price tests include testing the client's summarization of the inventory counts.

The audit procedure "Foot the inventory listing schedules for raw materials, work-in-process, and finished goods" provides assurance mainly for the accuracy objective for inventory pricing and compilation.

The auditor need not be concerned about inventory being classified and disclosed, properly, into finished goods, work-in-process and raw materials (separately) in the financial statements; this is management's responsibility, only.

When performing inventory valuation tests, the auditor must be concerned that the method is in accordance with accounting standards.

Accounting standards require disclosure of inventory valuation methods.

Cost of goods sold is generally a residual of beginning inventory less acquisitions plus ending inventory.

Cost of goods sold is generally one of the largest accounts on the income statement.

One unique characteristic of the capital acquisition and repayment cycle is that relatively few transactions affect the account balances, but each transaction is often highly material in amount.

Auditors seldom learn about the capital acquisition and repayment cycle when gaining an understanding of the client's business and industry.

When auditing the capital acquisition and repayment cycle, it is common to verify each transaction taking place in the cycle for the entire year as a part of verifying the balance sheet accounts.

There is an indirect relationship between the interest and dividends accounts and debt and equity.

The capital acquisition and repayment cycle includes the payment of interest on debt and dividends to shareholders.

Audit schedules for most of the accounts in the capital acquisition and repayment cycle include the beginning balance, a list of transactions that occurred in the account, and the ending balance.

The dollar amounts of bond issues are normally large, making it difficult for auditors to verify each transaction in this account.

If a legal relationship exists between the client and the holder of bonds, the auditor must determine if the client has met the requirements of the bondholder agreement.

Mergers and acquisitions can make the audit of the debt and the equity cycle more complex, especially when acquisitions are financed through debt.

Notes payable are generally for a period of sixty days or less.

When performing substantive analytical procedures for notes payable, if actual interest expense is materially larger than the auditor's expectation, one possible cause would be interest payments on unrecorded notes payable.

The balance-related audit objective realizable value is not applicable when auditing notes payable.

The three most important balance-related audit objectives for notes payable are existence, realizable value, and accuracy.

The audit procedure "Foot the notes payable list and trace the totals to the general ledger" is performed when verifying the accuracy objective for notes payable.

The audit procedure "Review the notes to determine whether any are related party notes or accounts payable" is performed when verifying the classification objective for notes payable.

If loans require significant restrictions on the activities of the company, they must be disclosed in the footnotes.

Accounts including preferred stock, additional paid-in capital, and treasury stock are not included in the capital acquisition and repayment cycle.

Typically, auditors set inherent risk at a low level for notes payable, as the correct value is usually easy to determine.

Auditors often set performance materiality at a low level for accounts in the capital acquisition and repayment cycle because it is usually possible to completely audit the account balance and each of the transactions in these accounts.

Because the accounts in the capital acquisition and repayment cycle contain few transactions, control risk and the results of substantive transactions are normally more important for designing tests of details of balances in these accounts.

The Securities and Exchange Commission requires companies listed on exchanges to employ stock transfer agents.

Public companies whose stock is listed on a stock exchange must employ an independent registrar.

The shareholders' capital stock master file is used as the basis for the payment of dividends and also acts as a check on the accuracy of the common stock balance in the general ledger.

Independent registrars commonly disburse cash dividends to shareholders.

Few large companies employ stock transfer agents, but small companies commonly do so.

Most closely held corporations have numerous transactions during the year for capital stock accounts.

A shareholders' capital stock master file is a record of the issuance and repurchase of capital stock over the life of the corporation.

The board of directors must authorize the amount of the dividend per share and the dates of record and payment of the dividend.

Financial instruments or securities that combine features of both debt and equity are commonly known as hybrid securities.

Auditing capital stock transactions as part of a merger is challenging because judgment is often involved.

Any restrictions on the payment of dividends must be disclosed in the footnotes to the financial statements.

The accuracy of a dividend declaration can be audited by recalculating the amount on the basis of the dividend per share times the number of shares outstanding.

For most companies, the only transactions involving retained earnings are net earnings for the year and dividends declared.

Examining the minutes of the board of directors' meetings for proper authorization ordinarily tests the existence objective for capital stock transactions.

Examining the minutes of the board of directors' meetings for proper authorization ordinarily tests the occurrence objective for capital stock transactions.

The emphasis in the audit of dividends is on the ending balance rather than the transactions.

Auditors can test whether dividend payments have been made to shareholders by selecting a sample of recorded dividend payments and agreeing payee information to the records produced by the stock transfer agent.

Auditors can test whether dividend payments have been made to shareholders by selecting a sample of recorded dividend payments and agreeing payee information on the cancelled check to the dividend records.

Unpaid dividends to shareholders should be tested by the auditor to ensure they are recorded as current assets on the balance sheet.

If there is an adjustment to retained earnings resulting from a change in accounting principle, the auditor should test the prior period effects of the change, but not test the entry to adjust prior period balances or retained earnings.

Companies may purchase marketable securities as a way to temporarily invest excess cash.

Examples of cash equivalents include time deposits, certificates of deposit, and marketable securities.

Branch bank accounts are useful for building banking relations in local communities.

Cash is the only account included in every cycle except inventory and warehousing.

The evidence accumulated for cash balances depends heavily on the results of tests performed in the other major transaction cycles.

Cash is important because of its susceptibility to theft, and cash can be significantly misstated as illustrated in the China Media Express case.

Financial instruments, which include investments in debt and equity securities as well as derivative instruments, vary in significance across audit clients.

A growing number of organizations, especially larger organizations, use pre-approved V-cards to make miscellaneous purchases instead of maintaining a petty cash fund.

Consistent with financial accounting standards, equity investments are normally recorded at cost until they are disposed of in the future.

Debt instruments can be classified as trading securities, available-for-sale securities, or held-to-maturity securities; auditors should ensure that such debt instruments are classified, properly, in the financial statements consistent with accounting standards.

The general cash account will not be audited if the ending balance is immaterial.

Many of the auditor's audit procedures in the audit of cash center around the client's bank confirmations.

Tracing outstanding checks to subsequent period bank statements tests the cutoff audit objective.

When auditing the year-end cash balance, one of the areas of focus is on the accuracy objective.

The three most important audit objectives for cash are accuracy, existence, and classification.

The starting point for the verification of the balance in the general bank account is to obtain a bank cut-off statement.

When auditing the general cash account, receipt of a standard bank confirmation is the starting point for verifying the company's general cash account balance.

To test the client's list of outstanding checks on the bank reconciliation for completeness, the auditor should trace from the list to the checks included with the cutoff bank statement.

The client may mail the bank confirmation requests if the auditor believes doing so will increase the likelihood that the confirmation will be returned promptly.

Auditors usually design bank confirmations that address the client's specific circumstances.

Ordinarily, all deposits-in-transit listed on the year-end bank reconciliation should appear as deposits on the cutoff bank statement.

Auditors are not always required to obtain bank confirmations.

The auditor is generally concerned about the realizable value and the rights to cash.

A statement near the bottom of the standard bank confirmation form requires the bank to inform auditors of open lines of credit and compensating balance requirements.

The methodology for auditing year-end cash is generally the same as the auditing for all other balance sheet accounts.

A monthly bank reconciliation of the general bank account on a timely basis by someone involved in either the handling or the recording of cash receipts and disbursements is an essential control over the ending cash balance.

Positive pay reduces potential check fraud by matching account number, check number, and dollar amounts of each check presented for payment against the electronic records of checks provided by the company.

The presentation of cash in the financial statements is normal straight-forward unless restrictions on cash or compensating balance agreements with a bank exist.

A common test of details the auditor should perform with regards to determining if cash is appropriately described and presented in the financial statements is to review the Board of Director minutes and loan agreements for any restrictions on cash.

A proof of cash involves a combination of substantive tests of transactions and tests of details of balances.

A proof of cash includes a reconciliation of cash receipts deposited in the bank with the cash disbursements records for a given period.

The transfer of money from one bank account to another and improperly recording the transfer so that the amount is recorded as an asset in both banks is referred to as kiting.

Tests for kiting are performed using only a schedule of intrabank transfers.

A proof of cash helps the auditor determine whether all recorded cash receipts were deposited in the bank and whether all recorded cash disbursements were paid by the bank.

A proof of cash receipts is not useful for uncovering the theft of cash receipts or the recording and deposit of an improper amount of cash.

A proof of cash disbursements is not effective for discovering checks written for an improper amount, fraudulent checks, or misstatements in which the dollar amount appearing in the cash disbursements records is incorrect.

The auditor must extend the audit procedures in the audit of year-end cash when there are inadequate internal controls.

Only tests of details of cash balances are useful when auditors are specifically testing for fraud.

The majority of financial instruments are valued at the lower of cost or market.

Business risks associated with financial instruments are the same for all companies.

The starting point for testing the ending balance of financial instruments accounts is to obtain a gain or loss schedule for the year.

The auditor needs to have an understanding of the client's internal controls over determining fair value estimates.

A factor that increases inherent risk for financial instruments is the complexity of the relevant accounting standards.

Level 1 estimates require more management judgment than level 2 or level 3 estimates.

There is significant potential for misstatements and misclassification of financial instruments.

Assessing internal controls related to financial instruments may be necessary in order to reduce audit risk to an acceptable level.

When auditing financial instruments, interest income and dividends can be recomputed and compared to a public source.

Analytical procedures may be used to assess the year-end balances for financial instruments.

Completeness is an important objective for derivative financial instruments.

The most important objectives for financial instruments are existence and consistency.

Presentation and disclosure objectives are important when auditing financial instruments.

Tests related to realizable value will vary according to the type of security and the associated accounting standard.

Auditing guidance is provided for auditing accounting estimates specifically for fair values estimates as considerable auditor judgment is involved.

Cutoff is more important in testing transactions as a client may want to record a gain or a loss on the sale at the end of the year.

When an auditor is verifying quoted market prices, they are concerned about the balance-related audit objective of accuracy.

Securities and contracts will typically be held by the broker-dealer.

When auditing financial instruments, the most difficult objective to test is existence.

The auditor should test for the proper classification of debt instruments as either trading securities, available-for-sale securities, or held-to-maturity securities in the financial statements.

The proper classification of debt instruments in the financial statements is based solely on the nature of the debt instrument.

The majority of financial instruments are valued using fair value estimates.

When an auditor reviews the financial statements to determine if assets are properly classified between current and noncurrent, he or she is satisfying the audit objective of occurrence and rights and obligations.

Auditors approach obtaining evidence for presentation and disclosure objectives different with how they approach obtaining evidence for transaction-related and balance-related objectives.

Audit tests performed in earlier audit phases often provide sufficient appropriate evidence about contingent liabilities and subsequent events.

The probability threshold for dealing with uncertainty in loss contingencies uses the terms likely and unlikely.

The first stop in the audit of contingencies is to determine the amount of the contingency.

A lawsuit has been filed but not yet resolved against an audit client. This lawsuit does not meet the conditions required for a contingent liability.

Financial statement disclosure is required if the likelihood of occurrence of an event is probable, reasonably possible, or remote.

Auditing standards make it clear that the auditor is responsible for identifying and deciding the appropriate accounting treatment for contingent liabilities due to the complexity of this topic.

In a standard inquiry to the client's attorney letter, the attorney is requested to communicate about contingencies up to the balance sheet date.

The American Bar Association has refused to amend its attorney-client confidentiality rules to permit attorneys to breach confidentiality if a client is committing a crime or fraud.

Subsequent events which require adjustment to the financial statements provide additional information about significant conditions/events which did not exist at the balance sheet date.

The auditor's responsibility for reviewing subsequent events is normally limited to thirty days after the balance sheet date.

When the auditor's name is associated with a registration statement under the Securities Act of 1933, the auditor's responsibility for reviewing subsequent events is limited to the date of auditor's report, not to the date the registration becomes effective.

If the auditor is unable to determine the effect of a subsequent event on the effectiveness of internal control at year-end, the auditor must give an adverse opinion on internal control over financial reporting.

Current professional auditing standards mandate the use of analytical procedures during the testing phase of the audit.

At the completion of the audit, management is typically asked to make a written statement as a part of the engagement letter that it is aware of no undisclosed contingent liabilities.

Auditors are required to obtain a letter of representation that describes management's planned solutions to all internal control weaknesses identified during an audit.

The letter of representation is prepared on the CPA firm's letterhead, addressed to the client's chief executive officer, and signed by the audit engagement partner.

An independent review must be performed of all audits.

If, during the completion phase of the audit, the auditor determines that he or she has not obtained sufficient evidence to draw a conclusion about the fairness of the client's financial statements, there are two choices: accumulate additional evidence or issue either a qualified or an adverse opinion.

Auditors are required to communicate either orally or in writing with the audit committee about internal control weaknesses.

Subsequent discoveries of facts requiring the reissuance of financial statements arise from events occurring after the date of the auditor's report.