Exam 9: Audit Risk, Including the Risk of Fraud

The susceptibility of an assertion to a material misstatement, assuming that there are no controls, is:

The preliminary audit strategy for each assertion:

Which of the following is a fraud mitigation procedure recently instituted in many companies?

The auditor might choose an approach that places emphasis on inherent risk and analytical procedures when inherent risk is below the maximum and he or she can develop reliable expectations regarding the account balance.

Complete the risk components matrix below, including the explanation for the asterisk.

The auditor might choose a response to lower inherent risk for audit assertions where the auditor has developed an analytical model by examining the relationship between nonfinancial measures of the volume of business activity such as gross payroll or accrued payroll taxes, and these items are consistent with expectations.

For each one of the following risk factors relating to misstatements arising from the misappropriation of assets, identify the appropriate category. 1.Lack of appropriate management oversight 2.Large amounts of cash on hand or processed 3.Inventory characteristics, such as small size, high value, or high demand 4.Poor physical safeguards over cash, investments, inventory, or fixed assets 5.Easily convertible assets, such as bearer bonds, diamonds, or computer chips 6.Lack of mandatory vacations for employees performing key control functions

When the preliminary audit strategy calls for the primarily substantive approach, the planned acceptable level of detection risk should be set at moderate or high.

Which of the following is not an example of a significant inherent risk?

There is an inverse relationship between audit risk and the amount of evidence needed.

Following are the three possible audit strategies discussed in the text. A.A Primarily Substantive Approach B.A Lower Assessed Level of Control Risk Approach C.A Response to Lower Inherent Risk Approach REQUIRED: Using the corresponding letters from the list above, match the audit strategy with the audit strategy components listed below. (Items may be used more than once.) 1.Plan few, if any, tests of controls. 2.Plan to obtain a minimum understanding of relevant portions of internal controls. 3.Obtain extensive knowledge of the client's business processes relevant to the assertion. 4.Use a planned assessed level of control risk of moderate or low.

In practice, many auditors do not attempt to quantify each of the components in the audit risk model.

Detection risk is a function of the effectiveness of the controls put into place and their application by client personnel.

The revised control risk is used in finalizing the design of substantive tests of transactions or tests of balances.

If inherent risk is assessed at the maximum, control risk as moderate and analytical procedures risk at moderate, the acceptable level of detection risk for tests of details is low.

Following are a number of items that may have an impact on one of the components of audit risk. REQUIRED: For each of the following, indicate the risk component that is directly affected. More than one selection may be correct. Use the following code:I:Inherent Risk C:Control Risk A:Analytical Procedures Risk D:Tests of Details Risk 1.Fixed assets consist primarily of capitalized leasehold items. 2.Policies and procedures in the cash collection area appear ineffective. 3.Evidence from external sources will be obtained in testing the sales cycle. 4.The CPA firm has a sound system of quality controls. 5.In the prior year, numerous errors were detected in the account in question. 6.Limited procedures to obtain an understanding are planned. 7.The auditor has decided to consult a specialist. 8.An internal audit function exists and answers directly to the president. 9.Physical security over blank documents and accounting records is weak. 10.Extensive tests of details of balances are planned. 11.The client is in the savings and loan industry. 12.Working capital levels have declined over the past year. 13.A highly experienced audit staff has been assigned to the engagement. 14.The auditor is planning extensive compliance testing. 15.Management turnovers have been considerable this year.

The assessment of inherent risk requires consideration of matters that have a pervasive effect on assertions for all or many accounts and matters that may pertain only to assertions for specific accounts. Which of the following is an example of a "pervasive effects" matter?

The concept of audit risk is the inverse of the concept of reasonable assurance.

A primarily substantive approach would usually be chosen when the auditor concludes that the costs of performing additional procedures to obtain a more extensive understanding of internal controls and tests of controls to support a lower assessed level of control risk would exceed the cost of performing more extensive substantive tests.