Auditing and assurance revision question and answer

Auditing and Assurance Revision Questions and Answers

(a) Internal controls over non-current assets are designed to ensure the orderly and efficient running of the business, adherence to management policies, safeguarding of assets, the prevention of fraud and error and the completeness and accuracy of the accounting records.

List the internal controls that a small printing company with office equipment, motor vehicles and plant and machinery should have in place to achieve the objectives described above. (10 marks)

(b) Audit sampling is a technique for drawing conclusions about the characteristics of a population testing a sample drawn there from. Internal and external auditors use it for both tests of controls, and substantive testing.

Describe the following:
(i) Judgement sampling and statistical sampling;
(ii) A representative sample;
(iii) Tolerable error;
(iv) Two different methods of selecting a representative sample;
(v) The extrapolation of errors.
NB: Parts (i) – (v) carry equal marks. (10 marks)
(Total: 20 marks)

(a) Internal controls

(ii) Controls contributing to the orderly and efficient running of the business, safeguarding the assets and adherence to management policies would include the following:

 Physical controls over access to the assets such as the locking of doors and the maintenance of an appropriate fire and flood resistant environment;
 Insurance against disaster and contingency plans;
 The use of passwords for access to computers and plant and equipment;
 The numerical or other tagging of all equipment, referenced to an asset register;
 Performing periodic asset audits;
 Internal regulations requiring staff who take equipment such as laptops and motor vehicles home to ensure that they are secure, and prohibiting staff from using their own software on company equipment;
 The maintenance of firewalls and virus checking software.

(iii) Controls contributing to the prevention of fraud and error, and the completeness and accuracy of the accounting records would include the following;

 The preparation and monitoring of capital expenditure budgets together with authorisation of capital expenditure,
 Disposals and depreciation rates independent persons at an appropriate level within the organisation who do not have day-to-day responsibility for the related records or assets;
 The maintenance of an asset register that is reconciled to the general ledger and the assets themselves;
 The periodic checking and review of asset lives, and fully depreciated assets, to ensure that assets are being depreciated correctly, over an appropriate period of time.

(b) Description

(i) Judgement and statistical sampling

Judgement sampling uses the auditor‘s judgement to select the number of items to be tested, which items to be tested, and to interpret the results. Statistical sampling uses probability theory to do the same. Some judgement is always used in statistical sampling in the assessment of materiality and in the determination of what constitutes tolerable error, for example.

(ii) Representative sample

A representative sample is one whose characteristics are the same as, or similar to, the characteristics of the population as a whole. All sample selection methods attempt to select samples that are representative.
For example, a sample of invoices that have not been properly authorised in 5% of cases will be representative of all invoices if the population as a whole also has around 5% of invoices not authorised.

(iii) Tolerable error

Tolerable error is the maximum error that the auditor is prepared to accept and still conclude that the audit objective has been achieved.

For example, in relation to receivables, the auditor may be prepared to form the conclusion that receivables are not materially misstated if sampling shows that the receivables population has a value that is within plus or minus, say, 5% of the figure in the financial statements.

(iv) Different methods of sample selection

Random selection requires the use of random number tables in order to select a representative sample.
Haphazard selection may be deemed to approximate to random selection provided that no bias is displayed.
Interval (or systematic) selection involves taking every nth item, starting at random. Monetary unit sampling is also a form of systematic selection.
Block selection methods (taking one full part of the population) will probably not result in a representative selection.

Block selection might involve obtaining confirmation of receivables from one region of the country only, for example.

NB: Only two examples are required.

(v) Extrapolation of errors

Errors found in a sample are extrapolated across the population as a whole, in order to enable the auditor to form a conclusion on whether the population is materially misstated. It is important to remember that there is not necessarily a direct, linear relationship between errors in samples and errors in the populations from which they are drawn.

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