Group 8 LM3 Harrison, Pruitt, Messina Exercise 4.54 A. Paul should not conclude that inherent risk is zero.

o. Inherent risk is the probability, that in absence of internal controls, material errors or frauds could exist. Every company has some inherent risk associated with innocent error. After reviewing the susceptibility of account, the nature of the clients business and environment, industry/regulatory factors, and application of accounting principles, the audit team may have felt the errors were immaterial and therefore did not require an accounting adjustment. Hill is incorrect in his assumption. Control Risk is a measure of the likelihood of material errors not being detected by a companys internal control systems. While Hill may be correct that Edwards error-checking procedures are effective, Hill should remember that a margin of error could still occur based on management adjustments, software glitches, etc. Therefore, as indicated in Exhibit 4.7, an assumption of low control risk, such as 0.10 would be more realistic. When an audit is conducted auditors should plan procedures so the detection risk (DR) does not exceed 0.11. Fields, CPA used substantive procedures to audit the year-end balances that resulted in detection risk of 0.02, which is less than the allowable 0.11. However, Fields, CPA did not plan the audit effectively due to the laziness and dislike for audits in Philadelphia. The outcome will be an unsuccessful audit even though he was within the scope of the auditing standards. No, Shads conclusion is not appropriate because the risk of material misstatement for this audit is very high, therefore Shad will need to modify the nature, timing, and extent of the audit procedures to be more effective since the client does not have strong internal controls in place. This will increase the amount of time the audit takes and will most likely incur additional costs.

B.

C.

D.

Exercise 5.67 Paragraph 1: The first statement in the introductory paragraph should identify that the audit was for an opinion VanDykes internal control over financial reporting, NOT an audit of VanDyke managements assessment of the internal controls. (AS5 85d.) The statement of managements responsibility should include that they are responsible for maintaining effective internal control over financial reporting in addition to their responsibility to assess the effectiveness. Also, this statement should reference that managements assessment can be found in the accompanying report. The final statement should only state the auditor is responsible for expressing an opinion on internal controls only, not the management assessment report. (AS5 - 85b)

Paragraph 2:

The auditors statement leaves out assessing the risk that a material weakness exists.

(AS5-85h) Paragraph 3: The definition paragraph used by Sorrell is a standard format and does not show any deficiencies. This paragraph should be a statement about inherent limitations and not an explanatory paragraph stating identified material weaknesses. The inherent limitations paragraph was completely left out. (AS5 85J) This paragraph does not give the definition of a material weakness. (AS5-91) This paragraph should include the specific example of material weakness that was previously described in what should have been the inherent limitations statement. (AS5-91) The auditors report states that the material weakness impact on the financial statement audit was considered, but it does not state the auditors opinion if the weakness had an effect on the financial statement report, nor reference the date of the financial statement report. (AS5-92) Paragraph 6: Due to the less significant than a material weakness, this paragraph is inappropriate. If the findings are less than material weakness, then it should not be expressed in the report. (AS 90) The disclaimer of opinion is inappropriate since Sorrells evaluation of the internal control is weighed more than the appropriate financial reporting and the unqualified opinion is deemed appropriate. (AS 2.177) The statement regarding an opinion on managements assessment of internal controls should not be included. (AS 85-K) Paragraph 8: The auditors report does not mention a review of the statement of comprehensive income, nor does it express the date of the financial statement report or their statement of opinion on that audit. The signature does not include the city and state from which the auditors report has been issued. (AS5 85N)

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