Read Cover%20&%20Table%20of%20Contents%20-%20Auditing%20Cases;%20Instructor%20Resource%20Manual%20(4th%20Edition).pdf text version

Auditing Cases

instructor resource Manual

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Mark S. Beasley Frank A. Buckless Steven M. Glover Douglas F. Prawitt do not coPy or redistribute

Prentice hall

Upper Saddle River, New Jersey

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client acceptance

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S o l u tionS inc lu de d in t h iS Section 1.1

Ocean Manufacturing, Inc.

3

The New Client Acceptance Decision

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Understanding the Client's Business and assessing risk

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13

S o l u tionS inc lu de d in t h iS Section 2.1

Your1040Return.com

Evaluating eBusiness Revenue Recognition, Information Privacy, and Electronic Evidence Issues

. . . . . . . . . . . . . . . . . . . . . . . . . . 25

2.2 2.3 2.4

Dell Computer Corporation

Evaluation of Client Business Risk

Flash Technologies, Inc. Asher Farms Inc.

. . . . . . . . . . . . . . . . . . . . . . . . . . . . 39

Risk Analysis and Resolution of Client Issues

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49

Understanding of Client's Business Environment

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Professional and ethical issues

. . . . . . . . . . . . . . . . . . . . . . . 59

S o l u tionS inc lu de d in t h iS Section 3.1 3.2 3.3 3.4 3.5

A Day in the Life of Brent Dorsey

Staff Auditor Professional Pressures

Nathan Johnson's Rental Car Reimbursement

Solving Ethical Dilemmas­Should He Pocket the Cash? Recognizing It's a Fraud and Evaluating What to Do

. . . . . . . . . . . . . . . . 63

The Anonymous Caller WorldCom

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71

The Story of a Whistleblower

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79

Hollinger International

Realities of Audit-Related Litigation i

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accounting fraud and auditor legal liability

. . . . . . . . . . . . . . . . . . . 89

So l u tio n S i nc lu de d in t hiS Se c tion 4.1 4.2 4.3

Enron Corporation and Andersen, LLP

Analyzing the Fall of Two Giants

Comptronix Corporation Cendant Corporation

. . . . . . . . . . . . . . . . . . . . . . . . . . . . 99

Identifying Inherent Risk and Control Risk Factors

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111

Assessing the Control Environment and Evaluating Risk of Financial Statement Fraud

. . . . . . . . . . . . . . . . . . . . . . . . . . .

4.4 4.5 4.6

Waste Management, Inc. Xerox Corporation Phar-Mor, Inc.

119 127 137

Manipulating Accounting Estimates

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Evaluating Risk of Financial Statement Fraud

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Accounting Fraud, Litigation, and Auditor Liability

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So l u tio n S i nc lu de d in t hiS Se c tion 5.1 5.2 5.3 5.4 5.5 5.6

5

internal control over financial reporting

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Simply Steam, Co. Easy Clean, Co.

155 155 165 169 177 185

Evaluation of Internal Control Environment

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Evaluation of Internal Control Environment

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Red Bluff Inn & Café St. James Clothiers

Establishing Effective Internal Control in a Small Business

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Evaluation of Manual and IT-Based Sales Accounting System Risks

. . . . . . . . . . . . . . . . . . . . . . . . . . .

Collins Harp Enterprises Sarbox Scooter, Inc. Société Générale

Recommending IT Systems Development Controls

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Scoping and Evaluation Judgments in the Audit of Internal Control over Financial Reporting

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

5.7

195

How a Low-Risk Trading Area Caused a $7.2 Billion Loss instructor resource Manual -- do not coPy or redistribute

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table

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6

the impact of information technology

. . . . . . . . . . . . . . . . . . . . . . . . . . . . .

S o l u tionS inc lu de d in t h iS Section 6.1

Harley-Davidson, Inc. Jacksonville Jaguars

207

Identifying eBusiness Risks and Related Assurance Services for the eBusiness Marketplace

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

6.2

215

Evaluating IT Benefits and Risks and Identifying Trust Services Opportunities o t he r c aSe S t h at d iScuSS topicS rel ated to thiS Section 2.1 Your1040Return.com . . . . . . . . . . . . . . . . . . . . . . . .

Evaluating eBusiness Revenue Recognition, Information Privacy, and Electronic Evidence Issues 5.4 5.5 9.2

. . .

13

St. James Clothiers

. . . . . . . . . . . . . . . . . . . . . . . . . . .

169 177 279

Evaluation of Manual and IT-Based Sales Accounting System Risks

Collins Harp Enterprises Henrico Retail, Inc.

. . . . . . . . . . . . . . . . . . . . . . . .

Recommending IT Systems Development Controls

. . . . . . . . . . . . . . . . . . . . . . . . . . .

Understanding the IT Accounting System and Identifying Audit Evidence for Retail Sales

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7

Planning Materiality

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

S o l u tionS inc lu de d in t h iS Section 7.1

Anne Aylor, Inc.

229

Determination of Planning Materiality and Tolerable Misstatement o t he r c aSe S t h at d iScuSS topicS rel ated to thiS Section 5.6 Sarbox Scooter, Inc. . . . . . . . . . . . . . . . . . . . . . . . . .

Scoping and Evaluation Judgments in the Audit of Internal Control over Financial Reporting 12.1 12.2

. .

185

EyeMax Corporation Auto Parts, Inc.

. . . . . . . . . . . . . . . . . . . . . . . . . .

369 379

Evaluation of Audit Differences

. . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Considering Materiality When Evaluating Accounting Policies and Footnote Disclosures

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analytical Procedures

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So l u tio n S i nc lu de d in t hiS Se c tion 8.1 8.2 8.3

Laramie Wire Manufacturing . Northwest Bank .

239 245 251

Using Analytical Procedures in Audit Planning

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Developing Expectations for Analytical Procedures

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Burlingham Bees

Using Analytical Procedures as Substantive Tests o th e r c aSe S t h at diSc uSS topicS rel ated to thiS Section 1.1 Ocean Manufacturing, Inc. . . . . . . . . . . . . . . . . . . . . .

The New Client Acceptance Decision 2.3

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3

Flash Technologies, Inc.

. . . . . . . . . . . . . . . . . . . . . . . . .

39

Risk Analysis and Resolution of Client Issues

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auditing cash and revenues

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So l u tio n S i nc lu de d in t hiS Se c tion 9.1 9.2

Wally's Billboard & Sign Supply

The Audit of Cash

259 279

Henrico Retail, Inc.

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Understanding the IT Accounting System and Identifying Audit Evidence for Retail Sales

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9.3 9.4

Longeta Corporation

285 291

Auditing Revenue Contracts

. . . . . . . . . . . . . . . . . . . . . . . .

Bud's Big Blue Manufacturing

Accounts Receivable Confirmations

o th e r c aSe S t h at diSc uSS topicS rel ated to thiS Section 8.2 Northwest Bank . . . . . . . . . . . . . . . . . . . . . . . . . . .

Developing Expectations for Analytical Procedures 8.3

. .

245 251

Burlingham Bees

. . . . . . . . . . . . . . . . . . . . . . . . . . . .

Using Analytical Procedures as Substantive Tests

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10

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Planning and Performing audit Procedures in the revenue and expenditure cycles

an audit simulation

. . . . . . . . . . . . . .

S o l u tionS inc lu de d in t h iS Section 10.1 Southeast Shoe Distributor, Inc. . . . . . . . . Identification of Tests of Controls for the Revenue Cycle (Sales and Cash Receipts) 10.2 Southeast Shoe Distributor, Inc. . . . . . . . . Identification of Substantive Tests for the Revenue Cycle (Sales and Cash Receipts) 299

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309

10.3 Southeast Shoe Distributor, Inc. . . . . . . . . . . . . . Selection of Audit Tests and Risk Assessment for the Revenue Cycle (Sales and Cash Receipts) 10.4 Southeast Shoe Distributor, Inc. . . . . . . . . . . . Performance of Tests of Transactions for the Expenditure Cycle (Acquisitions and Cash Disbursements) 10.5 Southeast Shoe Distributor, Inc. . . . . . . . . . Performance of Tests of Balances for the Expenditure Cycle (Acquisitions and Cash Disbursements)

. . . . . . . . .

319

. . . . . . . . . . .

333

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347

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11

developing and evaluating audit documentation

. . . . . . . . . . . . . . . . .

S o l u tionS inc lu de d in t h iS Section 11.1 The Runners Shop . . . . . . . . . . . . . . Litigation Support Review of Audit Documentation for Notes Payable 359

o t he r c aSe S t h at d iScuSS topicS rel ated to thiS Section 9.1 Wally's Billboard & Sign Supply . . . . . . . . . . . . . . . . . .

The Audit of Cash 9.2

. .

259 279

Henrico Retail, Inc. Longeta Corporation

. . . . . . . . . . . . . . . . . . . . . . . . . .

Understanding the IT Accounting System and Identifying Audit Evidence for Retail Sales 9.3 9.4 10.1-5

. . . . . . . . . . . . . . . . . . . . . . . . .

285 291 299

Auditing Revenue Contracts

Bud's Big Blue Manufacturing

Accounts Receivable Confirmations

. . . . . . . . . . . . . . . . . . . . .

Southeast Shoe Distributor, Inc.

. . . . . . . . . . . . . . . . . . .

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completing the audit, reporting to Management, and external reporting

. . . . . . . . . . . . . . . . . . . . . . . . . . .

So l u tio n S i nc lu de d in t hiS Se c tion 12.1 EyeMax Corporation . . . Evaluation of Audit Differences 369 379

12.2 Auto Parts, Inc. . . . . . . . . . . . . . . . . . . . . . Considering Materiality When Evaluating Accounting Policies and Footnote Disclosures 12.3 K&K Inc. . . . . . . . . . . . . . . . . . . . . . . . . Leveraging Audit Findings to Provide Value-Added Insights 12.4 Surfer Dude Duds, Inc. . . . . . . . . Considering the Going-Concern Assumption

. . . . . . . . . . . .

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385 391 395

. . . . . . . . . . . . . . . . . . . .

12.5 Murchison Technologies, Inc. . . . . . . . . . . . . Evaluating an Attorney's Response and Identifying the Proper Audit Report

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a l P h a b e t i c

7.1 3.3 2.4 12.2 9.4 8.3 4.3 5.5 4.2 3.1 2.2 5.2 4.1 12.1 2.3 6.1 9.2 3.5 6.2 12.3 8.1 9.3 12.5 3.2 8.2 1.1 4.6 5.3 11.1 5.6 5.1 5.7 10.1 10.2 10.3 10.4 10.5 5.4 12.4 9.1 4.4 3.4 4.5 2.1

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. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Anne Aylor, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Anonymous Caller, The . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Asher Farms Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Auto Parts, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Bud's Big Blue Manufacturing. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Burlingham Bees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cendant Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Collins Harp Enterprises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Comptronix Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Day in the Life of Brent Dorsey, A . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dell Computer Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Easy Clean, Co. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Enron Corporation and Andersen, LLP . . . . . . . . . . . . . . . . . . . . . . . . . . EyeMax Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Flash Technologies, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Harley-Davidson, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Henrico Retail, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Hollinger International . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Jacksonville Jaguars . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . K&K Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Laramie Wire Manufacturing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Longeta Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Murchison Technologies, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Nathan Johnson's Rental Car Reimbursement . . . . . . . . . . . . . . . . . . . . . Northwest Bank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Ocean Manufacturing, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Phar-Mor, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Red Bluff Inn & Café . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Runners Shop, The . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Sarbox Scooter, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Simply Steam, Co. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Société Générale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Southeast Shoe Distributor, Inc.: Tests of Controls for the Revenue Cycle . . . . . . . . . Southeast Shoe Distributor, Inc.: Substantive Tests for the Revenue Cycle . . . . . . . . Southeast Shoe Distributor, Inc.: Audit Tests and Risk Assessment for the Revenue Cycle Southeast Shoe Distributor, Inc.: Tests of Transactions for the Expenditure Cycle . . . . . Southeast Shoe Distributor, Inc.: Tests of Balances for the Expenditure Cycle . . . . . . . St. James Clothiers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Surfer Dude Duds, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Wally's Billboard & Sign Supply . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Waste Management, Inc. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . WorldCom . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Xerox Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Your1040Return.com . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

229 65 . . 49 . 379 . 291 . 251 . 111 . 177 . . 99 . . 59 . . 25 . 155 . . 89 . 369 . . 39 . 207 . 279 . . 79 . 215 . 385 . 239 . 285 . 395 . . 63 . 245 . . 3 . 137 . 165 . 359 . 185 . 155 . 195 . 299 . 309 . 319 . 333 . 347 . 169 . 391 . 259 . 119 . . 71 . 127 . . 13

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P r e fac e

Auditing educators are increasing their emphasis on the development of students' critical thinking, communication, and interpersonal relationship skills. Development of these types of skills requires a shift from passive instruction to active involvement of students in the learning process. Unfortunately, current course materials provided by many publishers are not readily adaptable to this kind of active learning environment, or do not provide materials that address each major part of the audit process. The purpose of this casebook is to give students hands-on exposure to realistic auditing situations focusing specifically on each aspect of the audit process. The casebook contains a collection of 44 auditing cases that allow the instructor to focus and deepen students' understanding in each of the major activities performed during the conduct of an audit, from client acceptance to issuance of an audit report. The cases are designed to engage the student's interest through the use of lively narrative and the introduction of engaging issues. In some cases, supporting material in the instructor notes allows the instructor to create a "surprise" or "aha!" experience for the student, creating vivid and memorable learning experiences. Many of the cases are based on actual companies, some involving financial reporting fraud. Several cases give students hands-on experience with realistic audit evidence and documentation. Each case contains a series of questions requiring student analysis, with numerous questions related to the guidance contained in several new authoritative auditing standards, including the PCAOB's Auditing Standard No. 5, An Audit of Internal Control Over Financial Reporting that is Integrated with an Audit of Financial Statements, the new "risk assessment standards" issued by the AICPA's Auditing Standards Board as SAS Nos. 104 through 111, and SAS No. 112, Communicating Internal Control Related Matters Identified in an Audit, SAS No. 113, Omnibus Statement on Auditing Standards ­ 2006, and SAS No. 114, The Auditor's Communication with Those Charged With Governance. Several cases require students to gain a clearer understanding of the specific requirements contained in the Sarbanes-Oxley Act of 2002. Other cases provide additional exposure to the role information technology in today's assurance environment, including a focus on Trust Services such as SysTrust and WebTrust. Finally, some cases use excerpts from transcripts of financial statement fraud trails to illustrate the importance of following audit principles and procedures. The cases are suitable for both undergraduate and graduate students. At the undergraduate level, the cases provide students with active learning experiences that reinforce key audit concepts addressed by the instructor and textbook. At the graduate level, the cases provide students with active learning experiences that expand the depth of their audit knowledge. Use of the casebook will provide students with opportunities to develop a much richer understanding of the essential underlying issues involved in auditing, while at the same time developing critical thinking, communication, and interpersonal relationship skills. The casebook provides a wide variety of cases to facilitate different learning and teaching styles. For example, several of the cases can be used either as in-class exercises or out-of-class assignments. This manual clearly illustrates the different instructional approaches available for each case (e.g., examples of cooperative/active learning activities and/or out-of-class individual or group assignments) and efficiently prepares the instructor for leading interactive discussions. Please submit any corrections or suggestions to: [email protected]

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f o u r t h

updateS t o prior c aSe S

e d i t i o n

Cases from the prior edition have been updated to reflect changes in professional standards . Cases based on events at real companies have been updated to reflect relevant recent developments. The Anne Aylor case (7.1), has been updated to reflect industry trends, including updated financial information. Dates in the hypothetical cases have been set in calendar year 2009 with audit procedures performed for the 2008 fiscal year and/or interim procedures performed for the 2009 fiscal year.

new t o th e fou rth e d ition

The following cases have been added to the fourth edition to expand coverage of audit topics and provide timely coverage of recent high profile accounting-related events. 2.4

Asher Farms Inc.

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49

Understanding of Client's Business Environment In this case students use the PESTLE analysis tool to assess the client's business environment. Students are encouraged to conduct additional internet research in order to complete the case. Asher Farms, Inc. is a hypothetical company.

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79

3.5

Hollinger International

Realities of Audit-Related Litigation This case contains excerpts of actual trial transcripts in which the auditor of Hollinger International addresses several audit concepts including reasonable assurance, audit committee oversight, and audit documentation.

5.7

Société Générale

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

195

How a Low-Risk Trading Area Caused a $7.2 Billion Loss This case provides phenomenal details about an actual fraud at France's second largest bank. The fraud that led to a $7.2 billion loss was perpetrated by one rogue trader who overrode and eluded internal controls for approximately two years. The content provides valuable insights for both audit and information systems courses.

. . . . . . . . . . . . . . . . . . . . . . . .

9.4

Bud's Big Blue Manufacturing

291

Accounts Receivable Confirmations This case provides students the opportunity to evaluate the appropriateness and sufficiency of evidence obtained through confirmations of accounts receivable balances and to identify any additional procedures that should be performed. Bud's Big Blue Manufacturing is a hypothetical company.

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ac k n o w l e d g e M e n t s

We would like to thank our families for their understanding and support while writing this casebook. We would also like to thank Jonathan Liljegren for his excellent work in the design and layout of this casebook as well as Kierra Kashickey and Judy Leale for their editorial support with this endeavor. We are grateful to the many research assistants both past and present who have helped write, revise, and review the cases in this edition. We especially thank Scott Asay, Daniel Strange, and Devin Williams for their assistance with this latest edition.

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