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AFM201 Study Guide - Audit Risk, Financial Statement, Audit Evidence

Accounting & Financial Management
Course Code
Clark Hampton

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Chapter 1
- Audit Societies: Societies in which there is extensive monitoring of economic (and other
politically important) activities to help assure that capital markets are efficient
- Auditing: A systematic process of objectively obtaining and evaluating evidence regarding the
assertions about economic actions and events to ascertain the degree of correspondence
between the assertions and established criteria and communicating the results to interested
- Information Risk: Failure of the financial statements to appropriately reflect the economic
substance of business activities, including business risks and uncertainties. In particular,
information risk from the auditor’s perspective is the risk (probability) that the financial
statements of the company will be materially false and misleading
- Three-party Accountability: The relationship between the first party, investor, second party,
seller and the third party, the auditor
- Underlying conditions that affect demand by users for accounting information:
o Complexity
o Remoteness
o Consequences
- The goal of GAAP is to yield financial statements that represent as faithfully as possible the
economic conditions and performance of a company
- The “lending of credibility” is also known as providing assurance, and external auditing of
financial statements is described as an assurance engagement
- Purpose of the audit of financial statements is to express an opinion whether the financial
statement present clearly, in all material respects, the financial position, results of operation
and cash flows in accordance with generally accepted accounting principals
- A materiality misstatement is one that would affect user decision making
- Following SOX, self-regulating of the audit profession was no longer an option. SOX basically
brings more external monitoring and control of the profession
- Internal Control Statements: Statements about the reliability of the system of process that
creates the financial statements

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Chapter 4
- Six fundamental statements of accepted conduct:
o The member should act to maintain the profession’s reputation
o The member should use due care and maintain his or her professional competence
o The member should maintain independence and in the appearance as well as the fact of
independent of his or her professional judgment
o The member should preserve client confidentiality
o The member should base his or her reputation on professional excellence - in particular,
advertising should inform, not solicit
o The member should show professional courtesy to other members at all times
- Independence is the term given to objectivity in the special case of assurance engagements,
independence is a way of achieving objectivity
- Five threats to independence:
o Self-review threat, which occurs when a PA provides assurance on his or her own work
o Self-interest threat, which occurs, for example, when a PA could benefit from a financial
interest in a client
o Advocacy threat, which occurs when a PA promotes a client’s position or opinion
o Familiarity threat, which occurs when a PA becomes too sympathetic to a client’s
position or opinion
o Intimidation threat, which occurs when a PA is deterred from acting objectively by
actual or perceived threats from the client
- Auditors are permitted to carry home mortgages, immaterial loans and secured loans to be
made under the client’s normal lending procedures, terms and requirements, if the client is a
bank or other financial institution. Independence is also not considered impaired by a member
obtaining there kinds of personal loans from assurance service clients:
o Auto loans and leases collateralized by the automobile
o Insurance policy loans based on policy and surrender value
o Loans collateralized by cash deposits at the same financial institution
o Credit card balances and cash advances equivalent to other customers of the client in
the normal course of business
- Loans should be under the same terms as granted to other customers of the institution in the
normal course of business
- Ordinarily, independence is impaired if a PA serves on an organization’s board of directors.
However, members can be honorary directors of such organizations as charity hospitals, fund
drives, symphony orchestra societies and other nonprofit organizations as long as:

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o The position is purely honorary
o The PA is identified as an honorary director on letterheads and other literature
o The only form of participating is the use of the PA’s name
o The PA does not vote with the board or participate in management functions
- (Retired Partners)
- (Accounting and Other Services)
- CPAB and SOX require rotation of the lead audit partner and/or concurring review partner every
five years
- If the auditee company threatens litigation against the auditor or vice-versa then independence
is compromised
- (Investor or Investee Relationship)
- (Family Relationships)
- For a fee to be considered a contingency fee (illegal fee arrangement based on its outcome),
two characteristics need to be met:
o Its terms must be contracted before any services are performed
o The amount paid for the performance must be directly affected by the results obtained
- In regards to advertisement and solicitation:
o Advertising may not create false or unjustified expectations of favorable results
o Advertising may not imply the ability to influence any court, tribunal, regulatory agency
or similar body or official
o Advertising may not contain a fee estimate when the PA knows it is likely to be
substantially increased, unless the client is notified
o Advertising may not contain any representation that is likely to cause a reasonable
person to misunderstand or be deceived, or that contravenes professional good taste
- Successor auditors are required to make certain enquiries of predecessor auditors when a new
client is obtained. First, the successor should ask the new client to notify the predecessor
(incumbent) PA of the proposed change by the client. The successor should ask if there are any
circumstances that should be taken into account which might affect the successor’s decision to
accept the audit. The successor must obtain the client’s permission to for the predecessor to
disclose any confidential information
Chapter 2
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