CHAPTER 7 Internal Control: Assessment of Control Risk

1. CHAPTER 7Internal Control: Assessment of Control Risk

2. What are the components of internal control? the control environment risk assessment information and communication control activities monitoring

3. Control Examina- tion Overview Obtain an understanding of internal control. HOW?

4. Control Examina- tion Overview Obtain an understanding of internal control. - review prior year workpapers - interview prior year auditors - interview client personnel - study client policies and procedures - study client documents, records, information and communication system

5. How do auditors document their under- standing of internal control? Control Examina- tion Overview - narratives - flowcharts - internal control questionnaires What is an internal control questionnaire?

6. What are the advantages provided by an IC questionnaire? Internal Control Questionnaire - a series of questions about internal controls and their application to groups of accounts and cycles - generally, a “no” answer indicates an internal control weakness

7. What are the advantages provided by an IC questionnaire? Internal Control Questionnaire - can be designed to cover most aspects of internal control - is relatively applicable from one en- gagement to another - when complete, can be quickly re- viewed for weaknesses

8. What are the disadvantages of using an IC questionnaire? Internal Control Questionnaire - concentrates on pieces of internal con- trol rather than the system as a whole - has questionable reliability; oral cli- ent responses should be supported by other evidence - may be too standardized for some clients, especially smaller clients

9. Control Examina- tion Overview Are financial statements auditable? When would the answer be NO? - management lacks integrity - significantly deficient accounting records or internal controls

10. Control Examina- tion Overview Assess control risk, based on understanding.

11. Control Examina- tion Overview Assess the cost/benefit of further enhancing under- standing of internal control.

12. Control Examina- tion Overview Assess control risk. high medium low

13. Control Examina- tion Overview Assess control risk. high medium low - high: poor controls indicate a very risky situation

14. Assess control risk. Control Examina- tion Overview - high: poor controls indicate a very risky situation - medium: mix of effective and in- effective controls indi- cate a moderate level of risk high medium low

15. Assess control risk. Control Examina- tion Overview - medium: mix of effective and in- effective controls indi- cate a moderate level of risk - low: effective controls indi- cate a low level of risk high medium low

16. Control Examina- tion Overview Perform tests of controls.

17. Control Examina- tion Overview Decide whether the initial internal control assessment was appropriate.

18. Control Examina- tion Overview Based on appropriate level of detection risk, perform substantive tests.

19. What are reportable conditions? Reportable conditions are signifi- cant internal control deficiencies which adversely affect financial data (AU 325).

20. Reportable conditions are signifi- cant internal control deficiencies which adversely affect financial data (AU 325). AU 325 requires the auditor to com- municate (oral or written) with the audit committee regarding the reportable conditions.