SOLUTION MANUAL
Auditing & Assurance Services
TIMOTHY J. LOUWERS, PENELOPE BAGLEY, ALLEN BLAY, JERRY R.
STRAWSER AND JAY C. THIBODEAU
Ninth Edition
,Chapter 01 - Auditing and Assurance Services
CHAPTER 01
Auditing and Assurance Services
LEARNING OBJECTIVES
Review Multiple Exercises,
Checkpoints Choice Problems, and
Simulations
1. Define information risk and explain how 1, 2, 3 29, 31, 38 65*
the financial statement auditing
process helps to reduce this risk,
thereby reducing the cost of capital for
a company.
2. Define and contrast assurance, 4, 5, 6, 7, 8 23, 25, 28, 44, 60, 65*
attestation, 50
and financial statement auditing services.
3. Describe and define the assertions that 9, 10, 11 36, 39, 40, 41, 62, 63, 67, 68, 69
management makes about the 45,
recognition, measurement, 46, 47, 48, 49,
presentation, and disclosure of the 52,
financial statements and explain why 53, 54, 55, 57,
auditors use them as a focal point of the 58,
audit. 59
4. Define professional skepticism and 12 24, 37 61
explain its key characteristics.
5. Describe the organization of public 13, 14 30, 42, 56 72
accounting firms and identify the various
services that they offer.
6. Describe the audits and auditors 15, 16, 17, 18 26, 27, 32, 34, 64, 66
in governmental, internal, and 35
operational auditing.
7. List and explain the requirements for 19, 20, 21, 22 33, 43, 51 70, 71
becoming a certified public accountant
(CPA) and other certifications available
to an accounting professional.
(*) Item relates to multiple learning objectives
,Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR REVIEW CHECKPOINTS
1.1 Business risk is the risk that an entity will fail to meet its business objectives. When
assessing business risk, a professional must consider all possible threats to an entity‘s goals
and objectives. Some illustrative examples include the risk that: 1) its existing customers
will start buying products or services from its primary competitors; 2) its product lines will
become obsolete; 3) its taxes will increase; 4) key government contracts will be lost; 5) key
employees will leave the entity; and many other examples exist.
1.2 To help minimize business risk and take advantage of other opportunities presented in today‘s
competitive business environment, decision makers such as chief executive officers (CEOs)
demand timely, relevant, and reliable information. There are at least four environmental
conditions that increase demand for reliable information. First, complexity which implies that
events and transactions in today‘s global business environment can be complicated. Most
investors do not have the level of expertise needed to properly account for complex
transactions. Second is remoteness which implies that decision makers are often separated
from current and potential business relationships due to distance and time. For example,
investors may not be able to visit distant locations to check up on their investments. Third is
time-sensitivity which implies that in today‘s economic environment, investors and other
users of financial statements need to make decisions more rapidly than ever before. As a
result, the ability to promptly obtain high-quality information is essential. Fourth is a
consequence which implies that decisions may very well involve significant investments. As a
result, the consequences can be severe if information cannot be obtained
1.3 Of all the different risks discussed in the chapter up to this point, information risk is the one
that is most likely to create the demand for independent and objective assurance services is
information risk or the probability that the information circulated by an entity will be false or
misleading. Because the primary source of information for investors and creditors is the
company itself, an incentive exists for that company‘s management to make their business or
service appear to be better than it actually may be, to put their best foot forward. As a result,
preparers and issuers of financial information (directors, managers, accountants, and other
people employed in a business) might benefit by giving false, misleading, or overly optimistic
information. This potential conflict of interest between information providers and users which
provides the underlying basis for the demand for reliable information.
1.4 The four major elements of the broad definition of assurance services are
Independence. CPAs want to preserve their reputation and competitive advantage by always
preserving integrity and objectivity when performing assurance services.
Professional services. Virtually all work performed by CPAs is defined as ―professional
services‖ as long as it involves some element of judgment based on education and
experience.
Improving the quality of information or its context. The emphasis is on ―information,‖ CPAs‘
traditional area of expertise. CPAs can enhance quality by assuring users about the reliability
and relevance of information, and these two features are closely related to the familiar
credibility-lending products of attestation and audit services. ―Context‖ is relevance in a
different light. For assurance services, improving the context of information refers to
improving its usefulness when targeted to particular decision makers in the surroundings of
particular decision problems.
For decision makers. As the ―consumers‖ of assurance services, decision makers are the
beneficiaries of the assurance services. Decision makers may or may not be the ―client‖ that
pays the fee and may or may not be one of the parties to an assertion or other information,
but they personify the consumer focus of new and different professional work.
1.5 An assurance services engagement is any assignment that improves the quality of
information, or its context, for decision makers. Because information (e.g., financial
statements) are prepared by managers of an entity who have authority and responsibility for
financial success or failure, an outsider may be skeptical that the information truly is
objective, free from bias, fully informative, and free from material error, intentional or
inadvertent. The services of an independent auditor helps resolve those doubts because the
, Chapter 01 - Auditing and Assurance Services
auditor‘s success depends upon his or her independent, objective, and competent
assessment of the information (e.g., the conformity of the financial statements with the
appropriate reporting framework). The independent auditor‘s role is to lend credibility to the
information; hence, the outsider will likely seek his or her independent opinion about the
financial statements.
1.6 An attestation engagement is ―an engagement in which a practitioner is engaged to issue
or does issue a written communication that expresses a conclusion about the reliability of a
written assertion that is the responsibility of another party‖ (SSAE 10, AT 101.01). To attest
means to lend credibility or to vouch for the truth or accuracy of the statements that one
party makes to another. The attest function is a term often applied to the activities of
independent CPAs when acting as auditors of financial statements.
1.7 An assurance service engagement is one that improves the quality of information, or its
context, for decision makers. Thus, an attestation service engagement is one type of an
assurance service. Another way of thinking about the issue is to remember that the financial
statement audit engagement is one type of an attestation service. Please see exhibit 1.3 in
the text which depicts the relationship among assurance, attestation, and auditing
engagements.
1.8 According to the American Accounting Association, ―Auditing is a systematic process of
objectively obtaining and evaluating evidence regarding assertions about economic actions
and events to ascertain the degree of correspondence between the assertions and
established criteria and communicating the results to interested users.‖ In effect, auditors
add reliability to the information that is provided to interested users. Of course, this
definition is focused on an external reporting context. Students may also discuss how
governmental and internal auditors operate as well.
In response to ―What do auditors do?‖ students can respond by stating that auditors (1)
obtain and evaluate evidence about assertions made by management about economic actions
and events, (2) ascertain the degree of correspondence between the assertions and the
appropriate reporting framework, and (3) issue an audit report (opinion). Students can also
respond more generally by stating that auditors essentially lend credibility to the financial
statements presented by management.
1.9 Financial accounting refers to the process of recording, classifying, summarizing, and
reporting about a company‘s assets, liabilities, capital, revenues, and expenses in the
financial statements in accordance with the applicable financial reporting framework (e.g.,
GAAP). In so doing, the management team is making several assertions about the financial
statements. The financial accounting process is the responsibility of the management team.
Financial statement auditing refers to the process whereby professional auditors gather
evidence related to the assertions that management makes in the financial statements,
evaluates the evidence and concludes on the fairness of the financial statements in a report.
They differ because accountants produce the financial statements in accordance with the
applicable financial reporting framework. After this is complete, financial statement auditors
then perform procedures to ascertain whether the financial statements have been prepared in
accordance with the applicable financial reporting framework.
1.10 The two major classifications of ASB assertions with several assertions in each
classification are: Assertions About Classes of Transactions and Events, and Related
Disclosures
Occurrence assertion: The objective is to establish with evidence that transactions giving
rise to assets, liabilities, sales, and expenses occurred. Key questions include ―Did the
recorded sales transactions really occur?‖
Completeness assertion: The objective is to establish with evidence that all transactions of the
period that should be are included in the financial statements (including footnotes).
Completeness also refers to proper inclusion in financial statements of all revenue, expense,
and related disclosures. Key questions related to
Auditing & Assurance Services
TIMOTHY J. LOUWERS, PENELOPE BAGLEY, ALLEN BLAY, JERRY R.
STRAWSER AND JAY C. THIBODEAU
Ninth Edition
,Chapter 01 - Auditing and Assurance Services
CHAPTER 01
Auditing and Assurance Services
LEARNING OBJECTIVES
Review Multiple Exercises,
Checkpoints Choice Problems, and
Simulations
1. Define information risk and explain how 1, 2, 3 29, 31, 38 65*
the financial statement auditing
process helps to reduce this risk,
thereby reducing the cost of capital for
a company.
2. Define and contrast assurance, 4, 5, 6, 7, 8 23, 25, 28, 44, 60, 65*
attestation, 50
and financial statement auditing services.
3. Describe and define the assertions that 9, 10, 11 36, 39, 40, 41, 62, 63, 67, 68, 69
management makes about the 45,
recognition, measurement, 46, 47, 48, 49,
presentation, and disclosure of the 52,
financial statements and explain why 53, 54, 55, 57,
auditors use them as a focal point of the 58,
audit. 59
4. Define professional skepticism and 12 24, 37 61
explain its key characteristics.
5. Describe the organization of public 13, 14 30, 42, 56 72
accounting firms and identify the various
services that they offer.
6. Describe the audits and auditors 15, 16, 17, 18 26, 27, 32, 34, 64, 66
in governmental, internal, and 35
operational auditing.
7. List and explain the requirements for 19, 20, 21, 22 33, 43, 51 70, 71
becoming a certified public accountant
(CPA) and other certifications available
to an accounting professional.
(*) Item relates to multiple learning objectives
,Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR REVIEW CHECKPOINTS
1.1 Business risk is the risk that an entity will fail to meet its business objectives. When
assessing business risk, a professional must consider all possible threats to an entity‘s goals
and objectives. Some illustrative examples include the risk that: 1) its existing customers
will start buying products or services from its primary competitors; 2) its product lines will
become obsolete; 3) its taxes will increase; 4) key government contracts will be lost; 5) key
employees will leave the entity; and many other examples exist.
1.2 To help minimize business risk and take advantage of other opportunities presented in today‘s
competitive business environment, decision makers such as chief executive officers (CEOs)
demand timely, relevant, and reliable information. There are at least four environmental
conditions that increase demand for reliable information. First, complexity which implies that
events and transactions in today‘s global business environment can be complicated. Most
investors do not have the level of expertise needed to properly account for complex
transactions. Second is remoteness which implies that decision makers are often separated
from current and potential business relationships due to distance and time. For example,
investors may not be able to visit distant locations to check up on their investments. Third is
time-sensitivity which implies that in today‘s economic environment, investors and other
users of financial statements need to make decisions more rapidly than ever before. As a
result, the ability to promptly obtain high-quality information is essential. Fourth is a
consequence which implies that decisions may very well involve significant investments. As a
result, the consequences can be severe if information cannot be obtained
1.3 Of all the different risks discussed in the chapter up to this point, information risk is the one
that is most likely to create the demand for independent and objective assurance services is
information risk or the probability that the information circulated by an entity will be false or
misleading. Because the primary source of information for investors and creditors is the
company itself, an incentive exists for that company‘s management to make their business or
service appear to be better than it actually may be, to put their best foot forward. As a result,
preparers and issuers of financial information (directors, managers, accountants, and other
people employed in a business) might benefit by giving false, misleading, or overly optimistic
information. This potential conflict of interest between information providers and users which
provides the underlying basis for the demand for reliable information.
1.4 The four major elements of the broad definition of assurance services are
Independence. CPAs want to preserve their reputation and competitive advantage by always
preserving integrity and objectivity when performing assurance services.
Professional services. Virtually all work performed by CPAs is defined as ―professional
services‖ as long as it involves some element of judgment based on education and
experience.
Improving the quality of information or its context. The emphasis is on ―information,‖ CPAs‘
traditional area of expertise. CPAs can enhance quality by assuring users about the reliability
and relevance of information, and these two features are closely related to the familiar
credibility-lending products of attestation and audit services. ―Context‖ is relevance in a
different light. For assurance services, improving the context of information refers to
improving its usefulness when targeted to particular decision makers in the surroundings of
particular decision problems.
For decision makers. As the ―consumers‖ of assurance services, decision makers are the
beneficiaries of the assurance services. Decision makers may or may not be the ―client‖ that
pays the fee and may or may not be one of the parties to an assertion or other information,
but they personify the consumer focus of new and different professional work.
1.5 An assurance services engagement is any assignment that improves the quality of
information, or its context, for decision makers. Because information (e.g., financial
statements) are prepared by managers of an entity who have authority and responsibility for
financial success or failure, an outsider may be skeptical that the information truly is
objective, free from bias, fully informative, and free from material error, intentional or
inadvertent. The services of an independent auditor helps resolve those doubts because the
, Chapter 01 - Auditing and Assurance Services
auditor‘s success depends upon his or her independent, objective, and competent
assessment of the information (e.g., the conformity of the financial statements with the
appropriate reporting framework). The independent auditor‘s role is to lend credibility to the
information; hence, the outsider will likely seek his or her independent opinion about the
financial statements.
1.6 An attestation engagement is ―an engagement in which a practitioner is engaged to issue
or does issue a written communication that expresses a conclusion about the reliability of a
written assertion that is the responsibility of another party‖ (SSAE 10, AT 101.01). To attest
means to lend credibility or to vouch for the truth or accuracy of the statements that one
party makes to another. The attest function is a term often applied to the activities of
independent CPAs when acting as auditors of financial statements.
1.7 An assurance service engagement is one that improves the quality of information, or its
context, for decision makers. Thus, an attestation service engagement is one type of an
assurance service. Another way of thinking about the issue is to remember that the financial
statement audit engagement is one type of an attestation service. Please see exhibit 1.3 in
the text which depicts the relationship among assurance, attestation, and auditing
engagements.
1.8 According to the American Accounting Association, ―Auditing is a systematic process of
objectively obtaining and evaluating evidence regarding assertions about economic actions
and events to ascertain the degree of correspondence between the assertions and
established criteria and communicating the results to interested users.‖ In effect, auditors
add reliability to the information that is provided to interested users. Of course, this
definition is focused on an external reporting context. Students may also discuss how
governmental and internal auditors operate as well.
In response to ―What do auditors do?‖ students can respond by stating that auditors (1)
obtain and evaluate evidence about assertions made by management about economic actions
and events, (2) ascertain the degree of correspondence between the assertions and the
appropriate reporting framework, and (3) issue an audit report (opinion). Students can also
respond more generally by stating that auditors essentially lend credibility to the financial
statements presented by management.
1.9 Financial accounting refers to the process of recording, classifying, summarizing, and
reporting about a company‘s assets, liabilities, capital, revenues, and expenses in the
financial statements in accordance with the applicable financial reporting framework (e.g.,
GAAP). In so doing, the management team is making several assertions about the financial
statements. The financial accounting process is the responsibility of the management team.
Financial statement auditing refers to the process whereby professional auditors gather
evidence related to the assertions that management makes in the financial statements,
evaluates the evidence and concludes on the fairness of the financial statements in a report.
They differ because accountants produce the financial statements in accordance with the
applicable financial reporting framework. After this is complete, financial statement auditors
then perform procedures to ascertain whether the financial statements have been prepared in
accordance with the applicable financial reporting framework.
1.10 The two major classifications of ASB assertions with several assertions in each
classification are: Assertions About Classes of Transactions and Events, and Related
Disclosures
Occurrence assertion: The objective is to establish with evidence that transactions giving
rise to assets, liabilities, sales, and expenses occurred. Key questions include ―Did the
recorded sales transactions really occur?‖
Completeness assertion: The objective is to establish with evidence that all transactions of the
period that should be are included in the financial statements (including footnotes).
Completeness also refers to proper inclusion in financial statements of all revenue, expense,
and related disclosures. Key questions related to
