7-36 a.

The purposes of analytical procedures are:

1. Understanding the client's business and industry.
2. Assessment of the entitys ability to continue as a going concern.
3. Indication of the presence of possible misstatements in the financial statements.
4. Reduction of detailed audit tests.
b. Analytical procedures are required in the planning and completion phases of the audit
because of their importance in planning the audit, and as a final review for potential
misstatements. Auditors use analytical procedures extensively because of their relatively low
cost and effectiveness in identifying potential misstatements.
c. The extent to which the auditor will use the results of analytical procedures to reduce
detailed tests depends on the effectiveness of the analytical procedure and whether it supports
the correctness of the recorded account balance. The effectiveness of the analytical procedure
is a function of the precision of the expectation developed by the auditor and whether it is
based on objective data.
9-29 Acceptable audit risk is a measure of how willing the auditor is to accept that the
financial statements may be materially misstated after the audit is completed and an
unqualified opinion has been issued.
a. True. A CA firm should attempt to use reasonable uniformity from audit to audit when
circumstances are similar. The only reasons for having a different audit risk in these
circumstances are the lack of consistency within the firm, different audit risk preferences for
different auditors, and difficulties of measuring audit risk.
b. True. Users who rely heavily upon the financial statements need more reliable information
than those who do not place heavy reliance on the financial statements. To protect those
users, the auditor needs to be reasonably assured that the financial statements are fairly stated.
That is equivalent to stating that acceptable audit risk is lower. Consistent with that
conclusion, the auditor is also likely to face greatest legal exposure in situations where
external users rely heavily upon the statements. Therefore, the auditor should be more certain
that the financial statements are correctly stated.
c. True. The reasoning for c is essentially the same as for b.
d. True. The audit opinion issued by different auditors conveys the same meaning regardless
of who signs the report. Users cannot be expected to evaluate whether different auditors take
different risk levels. Therefore, for a given set of circumstances, every CA firm should
attempt to obtain approximately the same audit risk.
10-37
a. The size of a company has a significant effect on the nature of the controls likely to exist. A
small company has difficulty establishing adequate separation of duties and justifying an
internal audit staff. However, a major type of control available in a small company is the
knowledge and concern of the top operating person, who is frequently an owner-manager. His
or her ability to understand and the entire operation of the company is potentially a
significant compensating control. The owner-manager's interest in the organization and close
relationship with the personnel enable him or her to evaluate the competence of the
employees and the effectiveness of internal controls.

While some of the five control activities are unavailable in a small company,
especially adequate segregation of duties, it is still possible for a small company to have
proper authorization of transactions and activities, adequate documents and records, physical
controls over assets and records, and, to a limited degree, independent checks on
performance.
b. Phersen and Collier take opposite and extreme views as to the credence to be given internal
control in a small firm. Phersen seems to treat a small firm in the same manner as he would a
large firm, which is inefficient. Because many types of controls are usually lacking in a small
firm, especially one that is a non-public company, assessed control risk should be increased
and more extensive substantive tests must be used. Because assessed control risk is higher,
less emphasis is needed to identify the internal controls.
Collier is not meeting the standards of the profession in that she completely ignores
the possibility of a severe deficiency in the system. She must obtain an understanding of
internal control to determine whether it is possible to conduct an audit at all. Auditing
standards require, at a minimum, an understanding of internal control.
The auditor must understand the control environment and the flow of transactions. It
is not necessary, however, for the auditor to prepare flowcharts or internal control
questionnaires. The auditor of a non-public company is required to provide a written report
about significant deficiencies or material weaknesses to those charged with governance,
which may be common on many small audit clients.
c. Colliers approach is not acceptable when auditing either a public or non-public company.
Collier must obtain an understanding of internal controls over financial reporting in all audits.
When the auditor assesses control risk below the maximum, which is generally the case for
public companies, the auditor must perform tests of controls to determine whether key
controls over financial reporting are operating effectively. Those procedures must provide
Collier a basis to express an opinion about internal controls over financial reporting for
accelerated filer public companies.
d. While Phersons approach includes procedures similar to those that would be performed to
obtain an understanding of internal controls, if Pherson is auditing a public company, he may
need to expand those procedures to ensure that enough information is obtained about the
design and placed in operation status of internal controls over financial reporting.
Furthermore, Pherson must perform tests of key controls over financial reporting to provide a
basis for expressing an opinion on internal controls over financial reporting for accelerated
filer public companies.