Chapter510151-
51Auditing51and51Assurance51Services
Solution Manual For Auditing & Assurance Services
9th Edition by Timothy Louwers, Penelope Bagley
,Chapter510151-
51Auditing51and51Assurance51Services
CHAPTER5101
Auditing51and51Assurance51Services
LEARNING51OBJECTIVES
Review51Che Multiple Exercises,51Problems,5
ckpoints 51Choic 1and51Simulations
e
1.51Define51information51risk51and51explain51h 1,512,513 29,5131,5138 65*
ow51the51financial51statement51auditing51pr
ocess51helps51to51reduce51this51risk,51there
by51reducing51the51cost51of51capital51for51
a51company.
2. 4,515,516,517,518 23,5125,5128,5144, 60,5165*
Define51and51contrast51assurance,51attestati 50
on,
and51financial51statement51auditing51services.
3. 9,5110,5111 36,5139,5140,5141,5 62,5163,5167,5168,516
Describe51and51define51the51assertions51t 145, 9
hat51management51makes51about51the51reco 46,5147,5148,5149,5
gnition,51measurement,51presentation,51and5 152,
1disclosure51of51the51financial51statements51 53,5154,5155,5157,5
and51explain51why51auditors51use51them51as 158,
51a51focal51point51of51the51audit. 59
4. 12 24,5137 61
Define51professional51skepticism51and51ex
plain51its51key51characteristics.
5. 13,5114 30,5142,5156 72
Describe51the51organization51of51public51a
ccounting51firms51and51identify51the51variou
s51services51that51they51offer.
6. 15,5116,5117,511 26,5127,5132,5134,5 64,5166
Describe51the51audits51and51audito 8 135
rs51in51governmental,51internal,51and51
operational51auditing.
7. 19,5120,5121,512 33,5143,5151 70,5171
List51and51explain51the51requirements51f 2
or51becoming51a51certified51public51accounta
nt51(CPA)51and51other51certifications51avail
able51to51an51accounting51professional.
(*)51Item51relates51to51multiple51learning51objectives
,Chapter510151-
51Auditing51and51Assurance51Services
SOLUTIONS51FOR51REVIEW51CHECKPOINTS
1.1 Business51risk51is51the51risk51that51an51entity51will51fail51to51meet51its51business51objectives.51
When51assessing51business51risk,51a51professional51must51consider51all51possible51threats51to51an51en
tity‘s51goals51and51objectives.51Some51illustrative51examples51include51the51risk51that:511)51its51existi
ng51customers51will51start51buying51products51or51services51from51its51primary51competitors;512)51its
51product51lines51will51become51obsolete;513)51its51taxes51will51increase;514)51key51government51cont
racts51will51be51lost;515)51key51employees51will51leave51the51entity;51and51many51other51examples51ex
ist.
1.2 To51help51minimize51business51risk51and51take51advantage51of51other51opportunities51presented51in51to
day‘s51competitive51business51environment,51decision51makers51such51as51chief51executive51officers51(
CEOs)51demand51timely,51relevant,51and51reliable51information.51There51are51at51least51four51environm
ental51conditions51that51increase51demand51for51reliable51information.51First,51complexity51which51impl
ies51that51events51and51transactions51in51today‘s51global51business51environment51can51be51complicated
.51Most51investors51do51not51have51the51level51of51expertise51needed51to51properly51account51for51com
plex51transactions.51Second51is51remoteness51which51implies51that51decision51makers51are51often51sepa
rated51from51current51and51potential51business51relationships51due51to51distance51and51time.51For51examp
le,51investors51may51not51be51able51to51visit51distant51locations51to51check51up51on51their51investments.
51Third51is51time-
sensitivity51which51implies51that51in51today‘s51economic51environment,51investors51and51other51users51
of51financial51statements51need51to51make51decisions51more51rapidly51than51ever51before.51As51a51resu
lt,51the51ability51to51promptly51obtain51high-
quality51information51is51essential.51Fourth51is51a51consequence51which51implies51that51decisions51may
51very51well51involve51significant51investments.5 1 As51a51result,51the51consequences51can51be51severe5
1if51information51cannot51be51obtained
1.3 Of51all51the51different51risks51discussed51in51the51chapter51up51to51this51point,51information51risk51is51
the51one51that51is51most51likely51to51create51the51demand51for51independent51and51objective51assuranc
e51services51is51information51risk51or51the51probability51that51the51information51circulated51by51an51ent
ity51will51be51false51or51misleading.51Because51the51primary51source51of51information51for51investors5
1and51creditors51is51the51company51itself,51an51incentive51exists51for51that51company‘s51management51
to51make51their51business51or51service51appear51to51be51better51than51it51actually51may51be,51to51put51th
eir51best51foot51forward.51As51a51result,51preparers51and51issuers51of51financial51information51(director
s,51managers,51accountants,51and51other51people51employed51in51a51business)51might51benefit51by51givi
ng51false,51misleading,51or51overly51optimistic51information.51This51potential51conflict51of51interest51b
etween51information51providers51and51users51which51provides51the51underlying51basis51for51the51dema
nd51for51reliable51information.
1.4 The51four51major51elements51of51the51broad51definition51of51assurance51services51are
Independence.5 1 CPAs51want51to51preserve51their51reputation51and51competitive51advantage51by51alwa
ys51preserving51integrity51and51objectivity51when51performing51assurance51services.
Professional51services.51Virtually51all51work51performed51by51CPAs51is51defined51as51―professional51s
ervices‖51as51long51as51it51involves51some51element51of51judgment51based51on51education51and51exper
ience.
Improving51the51quality51of51information51or51its51context.51The51emphasis51is51on51―information,‖51C
PAs‘51traditional51area51of51expertise.51CPAs51can51enhance51quality51by51assuring51users51about51the5
1reliability51and51relevance51of51information,51and51these51two51features51are51closely51related51to51the
51familiar51credibility-
lending51products51of51attestation51and51audit51services.51―Context‖51is51relevance51in51a51different51ligh
t.51For51assurance51services,51improving51the51context51of51information51refers51to51improving51its51usef
ulness51when51targeted51to51particular51decision51makers51in51the51surroundings51of51particular51decisio
n51problems.
For51decision51makers.51As51the51―consumers‖51of51assurance51services,51decision51makers51are51the51be
neficiaries51of51the51assurance51services.51Decision51makers51may51or51may51not51be51the51―client‖51that5
1pays51the51fee51and51may51or51may51not51be51one51of51the51parties51to51an51assertion51or51other51infor
mation,51but51they51personify51the51consumer51focus51of51new51and51different51professional51work.
, Chapter510151-
51Auditing51and51Assurance51Services
1.5 An51assurance51services51engagement51is51any51assignment51that51improves51the51quality51of51informa
tion,51or51its51context,51for51decision51makers.51Because51information51(e.g.,51financial51statements)51a
re51prepared51by51managers51of51an51entity51who51have51authority51and51responsibility51for51financial51
success51or51failure,51an51outsider51may51be51skeptical51that51the51information51truly51is51objective,51fr
ee51from51bias,51fully51informative,51and51free51from51material51error,51intentional51or51inadvertent.5 1
The51services51of51an51independent51auditor51helps51resolve51those51doubts51because51the
51Auditing51and51Assurance51Services
Solution Manual For Auditing & Assurance Services
9th Edition by Timothy Louwers, Penelope Bagley
,Chapter510151-
51Auditing51and51Assurance51Services
CHAPTER5101
Auditing51and51Assurance51Services
LEARNING51OBJECTIVES
Review51Che Multiple Exercises,51Problems,5
ckpoints 51Choic 1and51Simulations
e
1.51Define51information51risk51and51explain51h 1,512,513 29,5131,5138 65*
ow51the51financial51statement51auditing51pr
ocess51helps51to51reduce51this51risk,51there
by51reducing51the51cost51of51capital51for51
a51company.
2. 4,515,516,517,518 23,5125,5128,5144, 60,5165*
Define51and51contrast51assurance,51attestati 50
on,
and51financial51statement51auditing51services.
3. 9,5110,5111 36,5139,5140,5141,5 62,5163,5167,5168,516
Describe51and51define51the51assertions51t 145, 9
hat51management51makes51about51the51reco 46,5147,5148,5149,5
gnition,51measurement,51presentation,51and5 152,
1disclosure51of51the51financial51statements51 53,5154,5155,5157,5
and51explain51why51auditors51use51them51as 158,
51a51focal51point51of51the51audit. 59
4. 12 24,5137 61
Define51professional51skepticism51and51ex
plain51its51key51characteristics.
5. 13,5114 30,5142,5156 72
Describe51the51organization51of51public51a
ccounting51firms51and51identify51the51variou
s51services51that51they51offer.
6. 15,5116,5117,511 26,5127,5132,5134,5 64,5166
Describe51the51audits51and51audito 8 135
rs51in51governmental,51internal,51and51
operational51auditing.
7. 19,5120,5121,512 33,5143,5151 70,5171
List51and51explain51the51requirements51f 2
or51becoming51a51certified51public51accounta
nt51(CPA)51and51other51certifications51avail
able51to51an51accounting51professional.
(*)51Item51relates51to51multiple51learning51objectives
,Chapter510151-
51Auditing51and51Assurance51Services
SOLUTIONS51FOR51REVIEW51CHECKPOINTS
1.1 Business51risk51is51the51risk51that51an51entity51will51fail51to51meet51its51business51objectives.51
When51assessing51business51risk,51a51professional51must51consider51all51possible51threats51to51an51en
tity‘s51goals51and51objectives.51Some51illustrative51examples51include51the51risk51that:511)51its51existi
ng51customers51will51start51buying51products51or51services51from51its51primary51competitors;512)51its
51product51lines51will51become51obsolete;513)51its51taxes51will51increase;514)51key51government51cont
racts51will51be51lost;515)51key51employees51will51leave51the51entity;51and51many51other51examples51ex
ist.
1.2 To51help51minimize51business51risk51and51take51advantage51of51other51opportunities51presented51in51to
day‘s51competitive51business51environment,51decision51makers51such51as51chief51executive51officers51(
CEOs)51demand51timely,51relevant,51and51reliable51information.51There51are51at51least51four51environm
ental51conditions51that51increase51demand51for51reliable51information.51First,51complexity51which51impl
ies51that51events51and51transactions51in51today‘s51global51business51environment51can51be51complicated
.51Most51investors51do51not51have51the51level51of51expertise51needed51to51properly51account51for51com
plex51transactions.51Second51is51remoteness51which51implies51that51decision51makers51are51often51sepa
rated51from51current51and51potential51business51relationships51due51to51distance51and51time.51For51examp
le,51investors51may51not51be51able51to51visit51distant51locations51to51check51up51on51their51investments.
51Third51is51time-
sensitivity51which51implies51that51in51today‘s51economic51environment,51investors51and51other51users51
of51financial51statements51need51to51make51decisions51more51rapidly51than51ever51before.51As51a51resu
lt,51the51ability51to51promptly51obtain51high-
quality51information51is51essential.51Fourth51is51a51consequence51which51implies51that51decisions51may
51very51well51involve51significant51investments.5 1 As51a51result,51the51consequences51can51be51severe5
1if51information51cannot51be51obtained
1.3 Of51all51the51different51risks51discussed51in51the51chapter51up51to51this51point,51information51risk51is51
the51one51that51is51most51likely51to51create51the51demand51for51independent51and51objective51assuranc
e51services51is51information51risk51or51the51probability51that51the51information51circulated51by51an51ent
ity51will51be51false51or51misleading.51Because51the51primary51source51of51information51for51investors5
1and51creditors51is51the51company51itself,51an51incentive51exists51for51that51company‘s51management51
to51make51their51business51or51service51appear51to51be51better51than51it51actually51may51be,51to51put51th
eir51best51foot51forward.51As51a51result,51preparers51and51issuers51of51financial51information51(director
s,51managers,51accountants,51and51other51people51employed51in51a51business)51might51benefit51by51givi
ng51false,51misleading,51or51overly51optimistic51information.51This51potential51conflict51of51interest51b
etween51information51providers51and51users51which51provides51the51underlying51basis51for51the51dema
nd51for51reliable51information.
1.4 The51four51major51elements51of51the51broad51definition51of51assurance51services51are
Independence.5 1 CPAs51want51to51preserve51their51reputation51and51competitive51advantage51by51alwa
ys51preserving51integrity51and51objectivity51when51performing51assurance51services.
Professional51services.51Virtually51all51work51performed51by51CPAs51is51defined51as51―professional51s
ervices‖51as51long51as51it51involves51some51element51of51judgment51based51on51education51and51exper
ience.
Improving51the51quality51of51information51or51its51context.51The51emphasis51is51on51―information,‖51C
PAs‘51traditional51area51of51expertise.51CPAs51can51enhance51quality51by51assuring51users51about51the5
1reliability51and51relevance51of51information,51and51these51two51features51are51closely51related51to51the
51familiar51credibility-
lending51products51of51attestation51and51audit51services.51―Context‖51is51relevance51in51a51different51ligh
t.51For51assurance51services,51improving51the51context51of51information51refers51to51improving51its51usef
ulness51when51targeted51to51particular51decision51makers51in51the51surroundings51of51particular51decisio
n51problems.
For51decision51makers.51As51the51―consumers‖51of51assurance51services,51decision51makers51are51the51be
neficiaries51of51the51assurance51services.51Decision51makers51may51or51may51not51be51the51―client‖51that5
1pays51the51fee51and51may51or51may51not51be51one51of51the51parties51to51an51assertion51or51other51infor
mation,51but51they51personify51the51consumer51focus51of51new51and51different51professional51work.
, Chapter510151-
51Auditing51and51Assurance51Services
1.5 An51assurance51services51engagement51is51any51assignment51that51improves51the51quality51of51informa
tion,51or51its51context,51for51decision51makers.51Because51information51(e.g.,51financial51statements)51a
re51prepared51by51managers51of51an51entity51who51have51authority51and51responsibility51for51financial51
success51or51failure,51an51outsider51may51be51skeptical51that51the51information51truly51is51objective,51fr
ee51from51bias,51fully51informative,51and51free51from51material51error,51intentional51or51inadvertent.5 1
The51services51of51an51independent51auditor51helps51resolve51those51doubts51because51the
