3-29

(d) MODIFIED WORDING /

(a) (b) (c) ADDITIONAL
MATERIALITY TYPE OF PARAGRAPHS
CONDITION LEVEL REPORT (& OTHER COMMENTS)
1. None Not applicable (1) Unqualified There is no indication
standard questioning the ability of the
wording business to continue
operations. The auditor does
not automatically add an
explanatory paragraph simply
because there is a risky
business.
2. None Immaterial (1) Unqualified The amount is immaterial. The
standard facts are adequately disclosed
wording in the footnote.
3. Failure to Material (4) Qualified The standards require the use
follow opinion only of a qualified opinion for the
GAAP except for failure to include a statement
of cash flows. Third paragraph
must be added stating the
omission.
4. None Not applicable (2) Unqualified U.S. auditing standards now
modified allow an auditor to perform an
wording audit in accordance with both
U.S. GAAS and ISAs. The
auditors scope paragraph is
modified to indicate that audit
was conducted in accordance
with both standards.
5. Scope of Highly material (6) Disclaimer The client has restricted the
the audit scope of the audit and the
has been auditor was not able to satisfy
restricted him or herself by alternative
procedures. Because it was a
client restriction rather than a
condition beyond the clients
control causing the limitation,
and because the limitation is
highly material, a disclaimer is
appropriate. Introductory
paragraph is modified, second
paragraph is added describing
the scope restriction, scope

4-1
 paragraph is omitted, and
opinion paragraph is a
disclaimer of opinion.
6. Report Material (3) Unqualified This is a shared audit report in
involving modified which the auditor will identify
other wording the portion of work done by
auditors the other auditor in the
introductory paragraph and
still issue an unqualified
opinion. The absolute dollar
amounts of assets and
revenues or percentages must
be stated in the introductory
paragraph. Introductory
paragraph, scope paragraph,
and opinion paragraph are all
modified.

4-2
-31

SHOULD
AUDITOR'S
ITEM REPORT BE
NO. TYPE OF CHANGE MODIFIED?

An error correction not involving an accounting

1 No
principle.

An accounting change involving both a change in

accounting principle and a change in accounting
estimate. Although the effect of the change in each
2 Yes
may be inseparable and the accounting for such a
change is the same as that for a change in estimate
only, an accounting principle is involved.

An accounting change involving a change from one

3 generally accepted accounting principle to another Yes
generally accepted accounting principle.

An accounting change involving a change in an

4 No
accounting estimate.

Not an accounting change but rather a change in

5 No
classification.

An accounting change involving a correction of an

6 error in principle, which is accounted for as a Yes
correction of an error.

An accounting change involving a change in the

7 reporting entity, which is a special type of change in Yes
accounting principles.

An accounting change from one generally accepted

8 accounting principle to another generally accepted Yes
accounting principle.

4-21 a. Rule 101 - Independence. No violation. If the services performed

conform to the requirements of Interpretation 101-3, independence
of Emrich would not be considered to be impaired. There would be
a violation of SEC rules if the client were publicly held.
b. Rule 101 - Independence. No violation. Franz Marteens is not a
partner nor is he assigned to the engagement team for the audit client.
c. Rule 201 - General Standards. Violation. Interpretation 201-1 states
that a member who accepts a professional engagement implies that
he or she has the necessary competence to complete the engagement

4-3
 according to professional standards. Wilkenson has violated the rule
since he does not have the expertise to review the work of the
consultant hired by Wilkenson. Wilkenson should have suggested
that the company hire the consultant directly.
d. Rule 102 - Integrity and Objectivity. Violation. This rule states that in
tax practice, a member may resolve doubt in favor of his or her
client as long as there is reasonable support for his or her position.
In the example case, the client has provided no support for the
unusual deductions. Sarah Milsaps has violated Rule 102 by not
requiring reasonable support for the deductions.
e. Rule 203 (Accounting Principles). Violation. This rule designates that
the International Accounting Standards Board (IASB) is the established
body for issuing international financial accounting standards.
Roberta Hernandezs assertion that the financial statements are
based on international financial accounting standards would be in
violation of Rule 203 because she did not use standards issued by
the IASB.
f. Rules 101 (Independence) and 102 (Integrity and Objectivity).
Violation. Appearance of independence has been impaired by
Steve Custers agencys financial dealing with his audit clients
and participation in a business, which impairs his objectivity. It is
also a conflict of duties to recommend his own firm to review the
adequacy of the existing insurance coverage of existing clients
g. Rule 301 - Confidential Client Information. Violation. The client
should have been notified that the review was to take place, and an
attempt should have been made to obtain the client's permission for
such review because the review was not a part of an AICPA, state
CPA society or Board of Accountancy review program. The firms
violated Rule 301 by not obtaining consent from the client for the
review.
h. Rule 501 - Acts Discreditable. No violation. The rule is vague and the
interpretation would be made by the state Board of Accountancy. In
most states this will be a civil action and would not likely be a violation.

4-4
4-25 The Code of Professional Conduct and interpretations are not clear as to what constitutes a violation in these three
situations. A central point is that Marie Janes must maintain independence of mind and in appearance because she is not an
employee of the company and must not give the impression that she is one.
(a)
POTENTIAL THREATS
TO INDEPENDENCE
1. The ability to purchase a car at a
substantial discount due to Maries
long-standing audit service may
cause Marie to be favorably
disposed to the client when
evaluating the clients financial
statements. Also, if users of the
financial statements heard of this
arrangement, some might perceive
that there is a lack of independence.
2. The ability to eat meals on an
ongoing basis may cause Marie to
be favorably disposed to the client
when evaluating the clients financial
statements. Also, if users of the
financial statements heard of this
arrangement, some might perceive
that there is a lack of independence.
(b) (c)
POSSIBLE RULES OF CONDUCT
SAFEGUARDS? VIOLATED?
1. Marie Janes firm could establish 1. Marie Janes has 1. Marie Janes should discuss the
policies regarding services likely not violated
provided by attest clients that the rules; the
require the managing partners discount is available
approval prior to engaging in any to customers on a
transactions with the client. Some widespread basis.
transactions could be explicitly Presumably many
prohibited by the policy, while other of the employees of
may require the managing the CPA firm buy
partners approval. automobiles from
the agency.
2. Marie Janes firm could establish a 2. If Marie Janes were 2. Marie Janes should eat
policy regarding free services or to eat there on an
gifts provided by clients. Perhaps ongoing basis that
the firm policy could establish a would likely be a
minimal dollar threshold of violation of the rules
allowable free services or gifts. of conduct. It would
Those exceeding the threshold not likely be a
may either be prohibited by the violation if she
policy or may require approvals by occasionally eats
a more senior member of with employees she
management of the audit firm. is dealing with at
the audit.
4-5
(d)
APPROPRIATE
ACTION?
discount with the firm's
managing partner if she
intends or wants to buy the
automobile. She should
certainly not feel compelled to
buy the automobile but she
should also not automatically
turn it down. The situation
would be entirely different if the
sale were limited to employees.
In such a case it would likely
be a violation.
elsewhere if it is practical to do
so but if the only practical place
for her to eat is the lunchroom,
she should make
arrangements with her firm to
make certain that the company
is reimbursed for the expenses.
 3. Gifts from clients might be perceived
as a subtle form of bribe, thus may
create a lack of appearance of
independence. Gifts may also cause
Marie to be favorably disposed to
the client when evaluating the
clients financial statements. Also, if
users of the financial statements
heard of this arrangement, some
might perceive that there is a lack of
independence.
3. Marie Janes firm could establish a
policy regarding free services or
gifts provided by clients. Perhaps
the firm policy could establish a
minimal dollar threshold of
allowable free services or gifts.
Those exceeding the threshold
may either be prohibited by the
policy or may require approvals by
a more senior member of
management of the audit firm.
3. Accepting such a 3. Ideally Janes should not accept
gift is likely to be a the gift and state that since she
violation of the rules is not an employee, she would
of conduct. That gift prefer not to take it. If she
is reasonably large believes that it would be
and would be embarrassing to the company,
considered by many she should graciously accept it
employees as and return it with an
equivalent to a explanation of her reasons as
bonus. soon as practical.

6-27 Management assertions are implied or expressed representations by management about the classes of transactions
and related accounts in the financial statements. AU 326 identifies five assertions about classes of transactions
which are stated in the problem. These assertions are the same for every transaction cycle and account. General
transaction-related audit objectives are essentially the same as management assertions, but they are expanded
somewhat to help the auditor decide which audit evidence is necessary to satisfy the management assertions. Accuracy
and posting and summarization are a subset of the accuracy assertion. Specific transaction-related audit objectives
are determined by the auditor for each general transaction-related audit objective. These are done for each
transaction cycle to help the auditor determine the specific amount of evidence needed for that cycle to satisfy the
general transaction-related audit objectives.

b.

and

c. The easiest way to do this problem is to first identify the general transaction-related audit objectives for each specific
transaction-related audit objective. It is then easy to determine the management assertion using Table 6-3 (p. 158 in
text) as a guide.

4-6
6-27 (continued)

b. c.
GENERAL
TRANSACTION-
SPECIFIC TRANSACTION- MANAGEMENT RELATED AUDIT
RELATED AUDIT OBJECTIVE ASSERTION OBJECTIVE

a. Recorded cash disbursement 3. Accuracy 8. Accuracy

transactions are for the amount of
goods or services received and
are correctly recorded.

b. Cash disbursement transactions 3. Accuracy 9. Posting and

are properly included in the summarization
accounts payable master file and
are correctly summarized.

c. Recorded cash disbursements 1. Occurrence 6. Occurrence

are for goods and services
actually received.

d. Cash disbursement transactions 4. Classification 10. Classification

are properly classified.

e. Existing cash disbursement 2. Completeness 7. Completeness

transactions are recorded.

f. Cash disbursement transactions 5. Cutoff 11. Timing

are recorded on the correct dates.

4-7
6-14

6-30

PRESENTATION
BALANCE- TRANSACTION AND
RELATED RELATED DISCLOSURE
AUDIT AUDIT AUDIT
AUDIT PROCEDURE OBJECTIVE OBJECTIVE OBJECTIVE
a. Examine a sample of duplicate sales invoices to determine (9) Occurrence
whether each one has a shipping document attached.
b. Add all customer balances in the accounts receivable trial (6) Detail Tie-In
balance and agree the amount to the general ledger.
c. For a sample of sales transactions selected from the sales
journal, verify that the amount of the transaction has been (14) Posting and
recorded in the correct customer account in the accounts summarization
receivable subledger.
d. Inquire of the client whether any accounts receivable
balances have been pledged as collateral on long-term (15) Occurrence
debt and determine whether all required information is and rights
included in the footnote description for long-term debt.
e. For a sample of shipping documents selected from shipping
records, trace each shipping document to a transaction (10) Completeness
recorded in the sales journal.
f. Discuss with credit department personnel the likelihood of
collection of all accounts as of December 31, 2011 with a (7) Realizable
balance greater than $100,000 and greater than 90 days value
old as of year-end.
g. Examine sales invoices for the last five sales transactions
recorded in the sales journal in 2011 and examine shipping (5) Cutoff
documents to determine they are recorded in the correct
period.

4-8
4-9
6-15

6-30 (continued)

PRESENTATION
BALANCE- TRANSACTION AND
RELATED RELATED DISCLOSURE
AUDIT AUDIT AUDIT
AUDIT PROCEDURE OBJECTIVE OBJECTIVE OBJECTIVE
h. For a sample of customer accounts receivable balances for (1) Existence
December 31, 2011, examine subsequent cash receipts in (7) Realizable
January 2012 to determine whether the customer paid the value
balance due.
i. Determine whether all risks related to accounts receivable (16) Completeness
are adequately disclosed.
j. Foot the sales journal for the month of July and trace (14) Posting and
postings to the general ledger. summarization
k. Send letters to a sample of accounts receivable customers (1) Existence
to verify whether they have an outstanding balance at
December 31, 2011.
l. Determine wither long-term receivables and related party (18) Classification
receivables are reported separately in the financial and
statements. understandability

4-10