SOLUTION MANUAL for Auditing & Assurance Services A
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m Systematic Approach m
12th Edition by William Messier Jr, Steven Glover,
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Chapters 1 - 21 / Complete
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1
,• Table of Contents m m
Chapter 1: An Introduction to Assurance and Financial Statement Auditing
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Chapter 2: The Financial Statement Auditing Environment
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Chapter 3: Audit Planning, Types of Audit Tests, and Materiality
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Chapter 4: Risk Assessment
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Chapter 5: Evidence and Documentation
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Chapter 6: Internal Control in a Financial Statement Audit
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Chapter 7: Auditing Internal Control over Financial Reporting
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Chapter 8: Audit Sampling: An Overview and Application to Tests of Controls
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Chapter 9: Audit Sampling: An Application to Substantive Tests of Account Balances
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Chapter 10: Auditing the Revenue Process
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Chapter 11: Auditing the Purchasing Process
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Chapter 12: Auditing the Human Resource Management Process
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Chapter 13: Auditing the Inventory Management Process
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Chapter 14: Auditing the Financing/Investing Process:Prepaid Expenses, Intangible Assets, and Property, Plant, and
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Equipment
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Chapter 15: Auditing the Financing/Investing Process:Long-Term Liabilities, Stockholders’ Equity, and Income
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Statement Accounts
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Chapter 16: Auditing the Financing/Investing Process: Cashand Investments
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Chapter 17: Completing the Audit Engagement
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Chapter 18: Reports on Audited Financial Statements
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Chapter 19: Professional Conduct, Independence, and Quality Management
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Chapter 20: Legal Liability
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Chapter 21: Assurance, Attestation, and Internal Auditing Services
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2
,CHAPTER 1 m
AN INTRODUCTION TO ASSURANCE AND FINANCIAL STATEMENT AUDITING
m m m m m m m
Answers to Review Questions m m m
1-1 The study of auditing is more conceptual in nature compared to other accounting
m m m m m m m m m m m m
courses. Rather than focusing on learning the rules, techniques, and computations required to
m m m m m m m m m m m m m
prepare financial statements, auditing emphasizes learning a framework of analytical and logical
m m m m m m m m m m m m
skills to evaluate the relevance and reliability of the systems and processes responsible for
m m m m m m m m m m m m m m
financial information, as well as the information itself. To be successful, students must learn the
m m m m m m m m m m m m m m m
framework and then learn to use logic and common sense in applying auditing concepts to
m m m m m m m m m m m m m m m
various circumstances and situations.
m m m m
Understanding auditing can improve the decision making ability of consultants, business
m m m m m m m m m m
managers, and accountants by providing a framework for evaluating the usefulness and
m m m m m m m m m m m m
reliability of information.
m m m
1-2 There is a demand for auditing in a free-market economy because the agency
m m m m m m m m m m m m
relationship between an absentee owner and a manager produces a natural conflict of interest
m m m m m m m m m m m m m m
due to the information asymmetry that exists between the owner and manager. As a result, the
m m m m m m m m m m m m m m m m
agent agrees to be monitored as part of his/her employment contract. Auditing appears to be a
m m m m m m m m m m m m m m m m
cost-effective form of monitoring.
m m m m
The empirical evidence suggests auditing was demanded prior to government regulation
m m m m m m m m m m
such as statutory audit requirements. Additionally, many private companies and other entities not
m m m m m m m m m m m m m
subject to government auditing regulations also demand auditing.
m m m m m m m m
1-3 The agency relationship between an owner and manager produces a natural conflict of
m m m m m m m m m m m m
minterest because of differences in the two parties’ goals and because of information asymmetry
m m m m m m m m m m m m m
that exists between them. That is, the manager generally has more information about the ‘true’
m m m m m m m m m m m m m m m
financial position and results of operations of the entity than the absentee owner does. If both
m m m m m m m m m m m m m m m m
mparties seek to maximize their own self-interest, it is likely that the manager will not act in the
m m m m m m m m m m m m m m m m m
mbest interest of the owner and may manipulate the information provided to the owner
m m m m m m m m m m m m m
maccordingly.
1-4 Independence is an important standard for auditors. If an auditor is not independent of m m m m m m m m m m m m m
the client, users may lose confidence in the auditor’s ability to report truthfully on the financial
m m m m m m m m m m m m m m m m
mstatements, and the auditor’s work loses its value. From an agency perspective, if the principal
m m m m m m m m m m m m m m
m(owner) knows that the auditor is not independent, the owner will not trust the auditor’s work.
m m m m m m m m m m m m m m m
Thus, the agent will not hire the auditor because the auditor’s report will not be effective inreducing
m m m m m m m m m m m m m m m m m
minformation risk from the perspective of the owner. m m m m m m m
1-5 Auditing (broadly defined) is a systematic process of objectively obtaining and m m m m m m m m m m
evaluating evidence regarding assertions about economic actions and events to ascertain the
m m m m m m m m m m m m
degree of correspondence between those assertions and established criteria and
m m m m m m m m m m
communicating the results to interested users.
m m m m m m
Assurance is engagement in which a practitioner expresses a conclusion designed to m m m m m m m m m m m
enhance the degree of confidence of the intended users other than the responsible party aboutthe
m m m m m m m m m m m m m m m m
outcome of the evaluation or measurement of a subject matter against criteria.
m m m m m m m m m m m m
Examples of assurance services are assurance (audit) of financial statements, assurance m m m m m m m m m m
of prospective financial information, assurance of reporting on internal control,assurance of
m m m m m m m m m m m m
sustainability reporting, and assurance of electronic commerce.
m m m m m m m
3
, 1-6 The phrase systematic process implies that there should be a well-planned, logical
m m m m m m m m m m m
approach for conducting an audit that involves objectively obtaining and evaluating evidence.
m m m m m m m m m m m m
1-7 Materiality: "Omissions or misstatements of items are material if they could, individuallyor m m m m m m m m m m m m
mcollectively, influence the economic decisions of users taken on the basis of the financial
m m m m m m m m m m m m m
mstatements. Materiality depends on the size and nature of the omission or misstatement judged in
m m m m m m m m m m m m m m
the surrounding circumstances. The size or nature of the item, or a combination of both, couldbe
m m m m m m m m m m m m m m m m m
mthe determining factor." (IASB).
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Audit risk is defined as the risk that the auditor expresses an inappropriate audit opinion
m m m m m m m m m m m m m m
when the financial statements are materially misstated (ISA 200).
m m m m m m m m m
The audit report states that the auditor obtains “reasonable assurance” whether the
m m m m m m m m m m m
mfinancial statements are free from “material” misstatement. The term reasonable assurance
m m m m m m m m m m
minforms the reader that there is some level of risk that the audit did not detect all material
m m m m m m m m m m m m m m m m m
mmisstatements. In addition, the auditor’s opinion commonly uses the wording that the financial
m m m m m m m m m m m m
mstatements present fairly, “in all material respects.” These phrases communicate to third parties
m m m m m m m m m m m m
that the audit report is limited to material information.
m m m m m m m m m
1-8 On most audits, it is not feasible or cost-effective to audit all transactions. For example, in
m m m m m m m m m m m m m m m
a small business, the auditor might be able to examine all transactions that occurred during the
m m m m m m m m m m m m m m m m
period. However, it is unlikely that the owner of the business could afford to pay for such an
m m m m m m m m m m m m m m m m m m
extensive audit. For a large organization, the sheer volume of transactions prevents the auditor
m m m m m m m m m m m m m m
from examining every transaction. Thus, there is a trade-off between the exactness or precisionof
m m m m m m m m m m m m m m m
the audit and its cost.
m m m m m
1-9 The major phases of the audit are:
m m m m m m
• Client acceptance/continuance and establishing engagement terms m m m m m
• Preplanning
• Assess risks and establish materiality m m m m
• Plan the audit m m
• Consider internal control m m
• Audit business processes and related accounts m m m m m
• Complete the audit m m
• Evaluate results and issue audit report m m m m m
1-10 The auditor’s understanding of the entity and its environment includes knowledge
m m m m m m m m m m
about: (1) the nature of the entity, (2) its objectives and strategies, (3) its industry, regulatory,
m m m m m m m m m m m m m m m m
and other external factors, (4) its management, (5) its governance, (6) its measurement and
m m m m m m m m m m m m m m
performance process, and (7) its business processes.
m m m m m m m
1-11 Sometimes auditors will face situations where no standard audit procedure exists, suchas m m m m m m m m m m m m
the example from the text of verifying the inventory of reindeer. Such circumstances require that
m m m m m m m m m m m m m m m
the auditor possess creativity and innovation when planning and administering audit procedures
m m m m m m m m m m m m
where little or no precedent exists. Every client is different, and applying auditing concepts in
m m m m m m m m m m m m m m m
different situations requires logic and common sense, and frequently creativity and innovation.
m m m m m m m m m m m m
Solutions to Problems m m
1-12 The memo should cite the following facts:
m m m m m m
• There is a historical relationship between accounting and auditing.
m m m m m m m m
4
m m m m m m m
m Systematic Approach m
12th Edition by William Messier Jr, Steven Glover,
m m m m m m m
Chapters 1 - 21 / Complete
m m m m m
1
,• Table of Contents m m
Chapter 1: An Introduction to Assurance and Financial Statement Auditing
m m m m m m m m m
Chapter 2: The Financial Statement Auditing Environment
m m m m m m
Chapter 3: Audit Planning, Types of Audit Tests, and Materiality
m m m m m m m m m
Chapter 4: Risk Assessment
m m m
Chapter 5: Evidence and Documentation
m m m m
Chapter 6: Internal Control in a Financial Statement Audit
m m m m m m m m
Chapter 7: Auditing Internal Control over Financial Reporting
m m m m m m m
Chapter 8: Audit Sampling: An Overview and Application to Tests of Controls
m m m m m m m m m m m
Chapter 9: Audit Sampling: An Application to Substantive Tests of Account Balances
m m m m m m m m m m m
Chapter 10: Auditing the Revenue Process
m m m m m
Chapter 11: Auditing the Purchasing Process
m m m m m
Chapter 12: Auditing the Human Resource Management Process
m m m m m m m
Chapter 13: Auditing the Inventory Management Process
m m m m m m
Chapter 14: Auditing the Financing/Investing Process:Prepaid Expenses, Intangible Assets, and Property, Plant, and
m m m m m m m m m m m m
Equipment
m
Chapter 15: Auditing the Financing/Investing Process:Long-Term Liabilities, Stockholders’ Equity, and Income
m m m m m m m m m m
Statement Accounts
m m
Chapter 16: Auditing the Financing/Investing Process: Cashand Investments
m m m m m m m
Chapter 17: Completing the Audit Engagement
m m m m m
Chapter 18: Reports on Audited Financial Statements
m m m m m m
Chapter 19: Professional Conduct, Independence, and Quality Management
m m m m m m m
Chapter 20: Legal Liability
m m m
Chapter 21: Assurance, Attestation, and Internal Auditing Services
m m m m m m m
2
,CHAPTER 1 m
AN INTRODUCTION TO ASSURANCE AND FINANCIAL STATEMENT AUDITING
m m m m m m m
Answers to Review Questions m m m
1-1 The study of auditing is more conceptual in nature compared to other accounting
m m m m m m m m m m m m
courses. Rather than focusing on learning the rules, techniques, and computations required to
m m m m m m m m m m m m m
prepare financial statements, auditing emphasizes learning a framework of analytical and logical
m m m m m m m m m m m m
skills to evaluate the relevance and reliability of the systems and processes responsible for
m m m m m m m m m m m m m m
financial information, as well as the information itself. To be successful, students must learn the
m m m m m m m m m m m m m m m
framework and then learn to use logic and common sense in applying auditing concepts to
m m m m m m m m m m m m m m m
various circumstances and situations.
m m m m
Understanding auditing can improve the decision making ability of consultants, business
m m m m m m m m m m
managers, and accountants by providing a framework for evaluating the usefulness and
m m m m m m m m m m m m
reliability of information.
m m m
1-2 There is a demand for auditing in a free-market economy because the agency
m m m m m m m m m m m m
relationship between an absentee owner and a manager produces a natural conflict of interest
m m m m m m m m m m m m m m
due to the information asymmetry that exists between the owner and manager. As a result, the
m m m m m m m m m m m m m m m m
agent agrees to be monitored as part of his/her employment contract. Auditing appears to be a
m m m m m m m m m m m m m m m m
cost-effective form of monitoring.
m m m m
The empirical evidence suggests auditing was demanded prior to government regulation
m m m m m m m m m m
such as statutory audit requirements. Additionally, many private companies and other entities not
m m m m m m m m m m m m m
subject to government auditing regulations also demand auditing.
m m m m m m m m
1-3 The agency relationship between an owner and manager produces a natural conflict of
m m m m m m m m m m m m
minterest because of differences in the two parties’ goals and because of information asymmetry
m m m m m m m m m m m m m
that exists between them. That is, the manager generally has more information about the ‘true’
m m m m m m m m m m m m m m m
financial position and results of operations of the entity than the absentee owner does. If both
m m m m m m m m m m m m m m m m
mparties seek to maximize their own self-interest, it is likely that the manager will not act in the
m m m m m m m m m m m m m m m m m
mbest interest of the owner and may manipulate the information provided to the owner
m m m m m m m m m m m m m
maccordingly.
1-4 Independence is an important standard for auditors. If an auditor is not independent of m m m m m m m m m m m m m
the client, users may lose confidence in the auditor’s ability to report truthfully on the financial
m m m m m m m m m m m m m m m m
mstatements, and the auditor’s work loses its value. From an agency perspective, if the principal
m m m m m m m m m m m m m m
m(owner) knows that the auditor is not independent, the owner will not trust the auditor’s work.
m m m m m m m m m m m m m m m
Thus, the agent will not hire the auditor because the auditor’s report will not be effective inreducing
m m m m m m m m m m m m m m m m m
minformation risk from the perspective of the owner. m m m m m m m
1-5 Auditing (broadly defined) is a systematic process of objectively obtaining and m m m m m m m m m m
evaluating evidence regarding assertions about economic actions and events to ascertain the
m m m m m m m m m m m m
degree of correspondence between those assertions and established criteria and
m m m m m m m m m m
communicating the results to interested users.
m m m m m m
Assurance is engagement in which a practitioner expresses a conclusion designed to m m m m m m m m m m m
enhance the degree of confidence of the intended users other than the responsible party aboutthe
m m m m m m m m m m m m m m m m
outcome of the evaluation or measurement of a subject matter against criteria.
m m m m m m m m m m m m
Examples of assurance services are assurance (audit) of financial statements, assurance m m m m m m m m m m
of prospective financial information, assurance of reporting on internal control,assurance of
m m m m m m m m m m m m
sustainability reporting, and assurance of electronic commerce.
m m m m m m m
3
, 1-6 The phrase systematic process implies that there should be a well-planned, logical
m m m m m m m m m m m
approach for conducting an audit that involves objectively obtaining and evaluating evidence.
m m m m m m m m m m m m
1-7 Materiality: "Omissions or misstatements of items are material if they could, individuallyor m m m m m m m m m m m m
mcollectively, influence the economic decisions of users taken on the basis of the financial
m m m m m m m m m m m m m
mstatements. Materiality depends on the size and nature of the omission or misstatement judged in
m m m m m m m m m m m m m m
the surrounding circumstances. The size or nature of the item, or a combination of both, couldbe
m m m m m m m m m m m m m m m m m
mthe determining factor." (IASB).
m m m
Audit risk is defined as the risk that the auditor expresses an inappropriate audit opinion
m m m m m m m m m m m m m m
when the financial statements are materially misstated (ISA 200).
m m m m m m m m m
The audit report states that the auditor obtains “reasonable assurance” whether the
m m m m m m m m m m m
mfinancial statements are free from “material” misstatement. The term reasonable assurance
m m m m m m m m m m
minforms the reader that there is some level of risk that the audit did not detect all material
m m m m m m m m m m m m m m m m m
mmisstatements. In addition, the auditor’s opinion commonly uses the wording that the financial
m m m m m m m m m m m m
mstatements present fairly, “in all material respects.” These phrases communicate to third parties
m m m m m m m m m m m m
that the audit report is limited to material information.
m m m m m m m m m
1-8 On most audits, it is not feasible or cost-effective to audit all transactions. For example, in
m m m m m m m m m m m m m m m
a small business, the auditor might be able to examine all transactions that occurred during the
m m m m m m m m m m m m m m m m
period. However, it is unlikely that the owner of the business could afford to pay for such an
m m m m m m m m m m m m m m m m m m
extensive audit. For a large organization, the sheer volume of transactions prevents the auditor
m m m m m m m m m m m m m m
from examining every transaction. Thus, there is a trade-off between the exactness or precisionof
m m m m m m m m m m m m m m m
the audit and its cost.
m m m m m
1-9 The major phases of the audit are:
m m m m m m
• Client acceptance/continuance and establishing engagement terms m m m m m
• Preplanning
• Assess risks and establish materiality m m m m
• Plan the audit m m
• Consider internal control m m
• Audit business processes and related accounts m m m m m
• Complete the audit m m
• Evaluate results and issue audit report m m m m m
1-10 The auditor’s understanding of the entity and its environment includes knowledge
m m m m m m m m m m
about: (1) the nature of the entity, (2) its objectives and strategies, (3) its industry, regulatory,
m m m m m m m m m m m m m m m m
and other external factors, (4) its management, (5) its governance, (6) its measurement and
m m m m m m m m m m m m m m
performance process, and (7) its business processes.
m m m m m m m
1-11 Sometimes auditors will face situations where no standard audit procedure exists, suchas m m m m m m m m m m m m
the example from the text of verifying the inventory of reindeer. Such circumstances require that
m m m m m m m m m m m m m m m
the auditor possess creativity and innovation when planning and administering audit procedures
m m m m m m m m m m m m
where little or no precedent exists. Every client is different, and applying auditing concepts in
m m m m m m m m m m m m m m m
different situations requires logic and common sense, and frequently creativity and innovation.
m m m m m m m m m m m m
Solutions to Problems m m
1-12 The memo should cite the following facts:
m m m m m m
• There is a historical relationship between accounting and auditing.
m m m m m m m m
4
