The American University in Cairo

School of Business Department of Accounting

1st Mid Term Exam 305 Auditing Fall 2014
Dr Mohamed Hegazy
Question 1: The following are parts of a typical audit for a company for
year-end of July 31.
1. Confirm accounts payable.
2. Do tests of controls and substantive tests of transactions for the
acquisition and payment and payroll and personnel cycles.
3. Do other tests of details of balances for accounts payable.
4. Do tests for review of subsequent events.
5. Accept the client.
6. Issue the audit report.
7. Understand internal control and assess control risk.
8. Do analytical procedures for accounts payable.
9. Decide planning materiality and tolerable misstatement for each
account balance.
Required
a. Put parts 1 through 9 of the audit in the sequential order in which
you will expect them to be performed in a typical audit.
b. Identify those parts that will frequently be done before July 31.
Question 2:
Footnotes are important in determining whether the financial statements
give a true and fair value. Following are two sets of statements concerning
footnotes.
1. Auditor A says that the primary responsibility for the adequacy of
disclosure in the financial statements and footnotes rests with the
auditor staff member in charge of the audit. Auditor B says that the
partner in charge of the engagement has the primary responsibility.
Auditor C says that the staff person who drafts the statements and
footnotes has the primary responsibility. Auditor D contends that it is
the client's responsibility. Required: Which auditor is correct?
2. It is important to read the footnotes to financial statements, even
though they are often presented in technical language and are
incomprehensible. The auditors may reduce their exposure to third
party liability by stating something in the footnotes that completely
contradicts what they have presented in the balance sheet or profit
and loss statement.
Required (AICPA adapted):
Evaluate the above statements and indicate:
a. Those you agree with, if any;
b. Those whose reasoning is misconceived, incomplete or misleading, if
any.
Question 3:
Dale Boucher, the owner of a small electronics firm, asked Sally Jones,
Independent auditor, to conduct an audit of the company's records.
Boucher Told Jones that audit was to be completed in time to submit
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audited financial statements to a bank as part of a loan application. Jones

immediately accepted the engagement and agreed to provide an auditor's
report within one month. Boucher agreed to pay Jones her normal audit
fee plus a percentage of the loan if it was granted. Jones hired two recent
accounting graduates to conduct the audit, and spent several hours telling
them exactly what to do. She told the new hires not to spend time
considering the internal control but to concentrate on proving the
mathematical accuracy of the general and subsidiary ledgers and
summarizing the data in the accounting records that supported Boucher's
financial statements. The new hires followed Jones's instructions and after
two weeks gave Jones the financial statements excluding notes. Jones
reviewed the statements and prepared an audit report with an unmodified
opinion. The report did not refer to any auditing Standards, and no audit
procedures were conducted to evaluate the appropriateness of accounting
policies used and the reasonableness of accounting estimates made.
Required: Indicate how the action (s) of Jones resulted in failure to
comply with auditing standards and ethical requirements (AICPA, adapted)
Question 4:
Various types of auditors offer and perform a wide range of assurance
services such as audit of financial statements, review of financial
information, and assurance on compliance with laws and regulations,
assurance on financial forecasts, assurance on the effectiveness of
internal control, forensic audit and operational audits.
Required:For each of the following descriptions, indicate which type of
assurance service best characterizes the nature of the service being
conducted. Also indicate which type of auditor (external auditor, internal
auditor, government auditor, or forensic auditor is likely to perform the
engagement.
a. Evaluate the policies and procedures of the Medical Control Agency
in terms of bringing new drugs to market.
b. Determine the fair presentation of Ajax Chemical's balance sheet,
income statement and statement of cash flows.
c. Review the payment procedures of the Accounts Payable
Department for a large manufacturer.
d. Evaluate if the internal controls of the entity comply with the criteria
of COSO (Committee of Sponsoring Organizations of the Treadway
Commission) framework.
e. Evaluate the feasibility of forecasted rental income for a planned
student housing project.
f. Evaluate a company's computer services department in terms of the
efficient and effective use of corporate resources.
g. Control the partnership tax return of a real estate development
company.
h. Investigate the possibility of payroll fraud in a pension fund.
Question 5:
The following are some of the remarks identified by the auditors Sherif
and karim Hegazy during the audit of a clients financial statements.
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Determine the type of the auditor report and explain reasons behind
choosing such report:
a The companys management has charged an amount of L.E 21,000,000
to machines and equipment account. This amount was capitalized as
deferred revenue expenditures including preopening revenues as an
amount of L.E 78,000,000 taking into consideration that the company
has achieved net profit after taxes of L.E 56,000,0000 its total assets
was equal to L.E 691,000,000
b Auditor Sherif has discovered that the memorandum of the clubs legal
consultant did not include the situation of the legal claims against the
club at 30/6/2002, his technical opinion about the expected results of
these cases and payments expected to be paid by the clubs
management in case of losing these cases
c The auditor Karim Hegazy discovered the clubs management violation
of article no. 96 of the sporting clubs executive regulations which
states that rent period cannot exceed three years, and the clubs
management has signed contracts to utilize the food court and the
kitchen in the social building and the restaurants and buffet of the
swimming compound for a period exceeding three years .
Answers question 1:
A.
5. Accept the client.
9. Set acceptable audit risk and decide preliminary judgment about
materiality and tolerable misstatement.
7. Understand internal control and assess control risk.
2. Do tests of controls and substantive tests of transactions.
1. Confirm accounts payable.
8. Do analytical procedures for accounts payable.
3. Do other tests of details of balances for accounts payable.
4. Do other tests for review of subsequent events.
6. Issue the audit report.
B.
1. Confirm accounts payable.
4. Do other tests for review of subsequent events.
8. Do analytical procedures for accounts payable.
Answers Question 2:
1. I accept Auditor D opinion who contends that it is the client
responsibility for the adequacy of disclosure in the financial statements
& footnotes. Management are responsible for the preparation of the
financial statements and assessing the adequacy of footnotes.
2. Auditors are not permitted to include remarks in the footnotes that
contradict issues presented in the financial statements. As the financial
statement & footnotes are the responsibility of management, auditors
are only required to include their remarks and qualifications in their
prime source of communication with users which is the auditors report.
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Answers question 3:
Sally Jones' Actions Resulting in
Failure
to Comply with GAAS

Brief Description of GAAS

General Standards:
1. The audit is to be performed by
a person or persons having
adequate technical training and
proficiency as an auditor.
2. In all matters relating to the
assignment, independence in
mental attitude is to be
maintained by the auditor or
auditors.
3. Due professional care is to be
exercised in the performance of
the audit and the preparation of
the report.

1. It was inappropriate for Sally Jones to

hire the two students to conduct the
audit. The audit must be conducted by
persons with proper education and
experience in the field of auditing.
Although a junior assistant has not
completed his formal education, he may
help in the conduct of the audit as long
as there is proper supervision and
review.
2. To satisfy the second general standard,
Sally must be without bias with respect
to the client under audit. Sally has an
obligation for fairness to the owners,
management, and creditors who may
rely on the report. Because of the
financial interest in whether the bank
loan is granted to Boucher, Sally is
independent in neither fact nor
appearance with respect to the
assignment undertaken.
3. This standard requires Sally to perform
the audit with due care, which imposes
on Sally Jones and everyone in Sally
organization a responsibility to observe
the standards of field work and
reporting. Exercise of due care requires
critical review at every level of
supervision of the work done and the
judgments exercised by those assisting
in the audit. Sally did not review the
work or the judgments of the assistants
and clearly failed to adhere to this
standard.

Standards of Field Work:

1. The work is to be adequately
planned and assistants, if any,
are to be properly supervised.

1. This standard recognizes that early

appointment of the auditor has
advantages for the auditor and the
client. Sally accepted the engagement
without considering the availability of
competent staff. In addition, Sally failed
to supervise the assistants. The work

2. A sufficient understanding of
internal Control is to be
obtained to plan the audit and
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performed was not adequately planned.

to determine the nature, timing,
and extent of tests to be
performed.
3. Sufficient, competent evidential
matter is to be obtained
through inspection, observation,
inquiries, and confirmations to
afford a reasonable basis for an
opinion regarding the financial
statements under audit.

Standards of Reporting:
1. The report shall state whether
the financial statements are
presented in accordance with
generally accepted accounting
principles.
2. The report shall identify those
circumstances in which such
principles have not been
consistently observed in the
current period in relation to the
preceding period.
3. Informative disclosures in the
financial statements are to be
regarded as reasonably
adequate unless otherwise
stated in the report.
4. The report shall either contain
an expression of opinion
regarding the financial
statements taken as a whole or
an assertion to the effect that
an opinion cannot be
expressed. When an overall
opinion cannot be expressed,
the reasons therefore should be
stated. In all cases where an
auditors name is associated
with financial statements, the
report should contain a clearcut indication of the character
of the auditors work, if any,
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2. Sally did not obtain an understanding of

internal control, nor did the assistants
obtain such an understanding. There
appears to have been no audit at all.
The work performed was more an
accounting service than it was an
auditing service.
3. Sally acquired no evidence that would
support the financial statements. Sally
merely checked the mathematical
accuracy of the records and
summarized the accounts. Standard
audit procedures and techniques were
not performed.
1. Sally report made no reference to
generally accepted accounting
principles or GAAS. Because Sally did
not conduct a proper audit, the report
should state that no opinion can be
expressed as to the fair presentation of
the financial statements in accordance
with generally accepted accounting
principles.
2. Sally improper audit would not enable
her to determine whether generally
accepted accounting principles were
consistently applied her report should
make no reference to the consistent
application of accounting principles.
3. Management is primarily responsible for
adequate disclosures in the financial
statements, but when the statements
do not contain adequate disclosures the
auditor should make disclosures in the
auditors report. In this case both the
statements and the auditor's report lack
adequate disclosures.
4. Although Sally report contains an
expression of opinion, such opinion is
based on the results of a proper audit.
She should disclaim an opinion because
he failed to conduct an audit in
accordance with generally accepted
auditing standards.

and the degree of responsibility

the auditor is taking.
Answers question 4:
a. Assurance on compliance with laws and regulations external
auditor/internal auditor
b. Audit of financial statements external auditor
c. Review of financial information external auditor.
d. Assurance on the effectiveness of internal control external auditor/
internal auditor.
e. Assurance on financial forecasts external auditor
f. Operational audit external auditors/ internal auditors
g. Assurance on compliance with laws external auditors
h. Forensic audit forensic auditors
Answers question 5:
1 Non compliance with GAAP highly Material adverse opinion
2 Scope restriction Material qualified opinion.
3 Non compliance with laws Material Qualified report.