AUDITING LABORATORY

Section 9 Case 9.4

“Bud’s Big Blue Manufacturing”

Arranged by:

Syafira Azzahra 165020307141011

INTERNATIONAL UNDERGRADUATE PROGRAM IN ACCOUNTING
FACULTY OF ECONOMICS AND BUSINESS
BRAWIJAYA UNIVERSITY
MALANG
2019
BACKGROUND
Bud’s Big Blue Manufacturing (BBB), based in Kansas City, manufactures standard
flight instruments for small aircraft. BBB’s primary market consists of small aircraft
manufacturers and repair shops.
You are a staff auditor in your second year with a public accounting firm. This week
you have been assigned to work on the BBB audit, which is already nearing
completion. The staff auditor who was working on the BBB audit was just reassigned
to a new out-of-town client and was not able to complete her work on BBB. As you
arrive at the client’s headquarters, you are met by the audit senior assigned to BBB,
Jenna Checketts. Jenna asks you to start by finishing the evaluation of accounts
receivable balances. Confirmations were mailed to selected customers a few weeks
ago. The former staff auditor completed an evaluation of all but seven of the
receivables confirmations before being reassigned. The seven remaining
confirmations either indicated a potential misstatement or were not received before
the staff member left. Jenna also said some of the returned confirmations may require
additional follow-up to determine if differences highlighted by customers represent
actual misstatements or can be explained (e.g., timing differences).
It’s been a while since you have evaluated confirmations, so you decide to review the
relevant requirements in the auditing standards. After refreshing your memory, you
begin your evaluation of the last seven confirmations for BBB’s accounts receivable.

REQUIRED
1. List the four factors auditors should consider when evaluating the results of
confirmation procedures. Also, what are three of the characteristics of a reliable
confirmation?
2. What does it mean to “maintain control” over the confirmation requests and
responses? What could go wrong if the auditor doesn’t maintain control over the
confirmation process?
3. Complete the audit log provided on the next page for each of the seven remaining
confirmations. Consider whether each confirmation provides sufficient,
appropriate audit evidence, whether sufficient alternative procedures have been
performed for non-responses, and whether additional procedures should be
performed before concluding that the confirmation provides evidence supporting
the client’s account balance. Be as precise and concise as possible.
4. What is the difference between a positive and a negative confirmation? What are
the advantages and disadvantages of each type?
5. Search the internet to identify a real-life situation where an auditor apparently did
not maintain sufficient control over the confirmation process. Briefly describe the
situation you found.
6. After completing the confirmations review, your senior asks you to assess the
reasonableness of the allowance for bad debts. Think about the anchoring
tendency discussed in the Professional Judgment Introduction. How could the
anchoring tendency bias your reasonableness assessment? What are some ways

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that you could mitigate the possible effects of the anchoring tendency in assessing
the reasonableness of the allowance?

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ANSWER
1) The auditor should consider the reliability of the confirmations and alternative
procedures; nature and implications of any exceptions; evidence provided by
other procedures; and Whether additional evidence is needed. The factors that
will affecting the reliability of confirmations are to think, the positive or negative
form, the confirmation a blank confirmation, the third-party knowledgeable about
the information being confirmed, the third-party independent, objective, and free
from bias, Does the response provide meaningful and competent evidence.

2) Based on AU-C 505 the auditor should maintain control over external
confirmation requests, including : Determining the information to be confirmed
or requested. Selecting the appropriate confirming party. Designing the
confirmation requests, including determining that requests are properly directed
to the appropriate confirming party and provide for being responded to directly to
the auditor. Sending the requests, including follow-up requests, when applicable,
to the confirming party. Therefore, maintaining control over the confirmation
requests and responses means that the auditor must take precautions to reduce
the opportunity for manipulation of the confirmation. If the client takes
possession of the confirmations at any time, control has been insufficient.
Another example of insufficient control might be a response received in a form
other than the return of the original confirmation letter, such as a fax or email,
which may not provide sufficient audit evidence to achieve the objectives of the
confirmation process (see AU 330, paragraphs .28 and .29). At a minimum, an
auditor would generally verify the source of the fax or email through a telephone
call. The auditor may also request that the customer return the original
confirmation (Based on Interpretation of AU 330, The Confirmation Process). In
the event that the auditor does not maintain sufficient control over the
confirmation requests and responses, bias could be introduced into the
confirmation process. For example, it is possible that the client could alter the
confirmation letters or responses in order to perpetrate a fraud. In another word, if
the auditor does not maintain the direct control, the client may manipulate the
confirmation letter so as to make it consistent with its records.

3) The confirmations do not all currently provide sufficient and appropriate audit
evidence. Upon reviewing the confirmations, the students should conclude that
additional work needs to be done before concluding that they have sufficient and
appropriate audit evidence. The table on the following page will show a summary
of suggested alternative procedures.
a. Confirmation 71 appears to indicate a timing difference. Timing
differences are fairly common occurrences when confirming accounts
receivable and typically do not indicate an audit difference. However, the
auditor should obtain evidence indicating that the client actually received
the payment from Private Planes Plus. Such evidence could easily be
obtained by examining the client’s cash receipts journal and, if desired,
tracing the relevant cash deposit to bank deposit records.

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 b. We should also take a note that Confirmation 72 was faxed. Although
“Properly controlled electronic confirmations may be considered to be
reliable audit evidence (Interpretation of AU 330, paragraph .02)”, it is
difficult to confirm the source of the electronic transmission, and
manipulation of the confirmation is possible. The auditor would normally
call the customer to obtain verbal confirmation and also request that the
customer mail the original (Interpretation of AU 330, paragraph .01).

c. Confirmation 73 raises no audit concerns. The customer has confirmed the

balance without exception.

d. Confirmation 74 raises two issues. First, the original confirmation was not
returned. Rather, the customer emailed the audit senior. As with the faxed
response, electronic confirmations may provide reliable evidence if
proper control is established (Based on Interpretation of AU 330), though
it is more difficult to verify the source and maintain control. A second
concern is that the customer failed to identify the amount of the balance.
The auditor would normally call the customer to obtain verbal
confirmation and also request that the customer mail the original.

e. Confirmation 75 was mailed directly to the client instead of to the auditor,

as evidenced by the stamp on the confirmation letter. Although there is no
difference indicated in the letter, sufficient control has not been
maintained over the confirmation, as the client has had the opportunity to
manipulate the letter. The auditor would normally call the customer to
obtain verbal confirmation and then resend an original and request that the
customer remit the confirmation directly to the auditor.

f. Confirmation 76 does not appear to have been fully completed by the

customer. R ather than checking the appropriate box, the customer simply
said “Seems Reasonable” and signed the letter. This leaves the auditor to
question whether the customer actually compared the balance indicated on
the confirmation with their records. The confirmation should be resent to
the customer, or, at a minimum, the auditor should contact the customer
and gain additional assurance regarding the account balance.

g. Confirmation 77 indicates a likely transposition error. The auditor should

inquire of the client and ask that the client determine the cause of the
difference. If it is determined that the customer is correct, the difference
will be treated as an audit difference and projected to the population for
evaluation purposes.

4)
 Difference :

a. A positive confirmation is a communication addressed to the debtor

requesting the recipient to confirm directly whether the balance as stated
on the confirmation request is correct or incorrect.

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 b. A negative confirmation is also addressed to the debtor but requests a
response only when the debtor disagrees with the stated amount.

 Advantages of Positive Confirmations

A positive confirmation is a more reliable evidence because the auditor can
perform follow-up procedures if a response is not received from the debtor.
With a negative confirmation, failure to reply must be regarded as a correct
response, even though the debtor may have ignored the confirmation request.

 Advantages of Negative Confirmations

Negative confirmations are less expensive to send than positive confirmations,
and thus more can be distributed for the same total cost. Negative
confirmations cost less because there are no second requests and no follow-up
of non responses.

Thus, to sum it up, a positive confirmation requests a response regardless of

whether the customer agrees with the balance being confirmed per the client’s
books. A negative confirmation is only returned if the customer does not agree
with the balance being confirmed. Positive confirmations inherently provide
more reliable evidence, as a negative confirmation may not be returned
because the balance is correct or because the customer disregarded the letter.
However, negative confirmations require less work as the auditor is less
likely to be required to follow-up with second and third requests or by
performing alternative procedures.

 Type of confirmation to use?

Auditing standards state that it is acceptable to use negative confirmations
only when all of the following circumstances are present :
a. The auditor has assessed the risk of material misstatement as low and has
obtained sufficient appropriate evidence regarding the design and
operating effectiveness of controls relevant to the assertion being tested by
the confirmation procedure.
b. The population of items subject to negative confirmation procedures is
made up of a large number of small, homogenous account balances,
transactions, or other items.
c. The auditor expects a low exception rate.

5) The anchoring tendency is the tendency to start at a base amount and make
adjustments away from that amount that are unreasonably low. The anchoring
tendency could bias a reasonable assessment in the same way any tendency could
bias the assessment. Tendencies arise in the same manner as writer’s block. Once
you see things written a certain your brain wants to take that information to be

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accurate and it is often hard to go against what you have already seen. It happens
the ability to make individual decisions in a group. There are the same tendencies
that make it difficult to steer away from what the majority is thinking. It is
important to review the final decision and as well as the rationale behind the
decision. It’s also a good idea to review all pertinent information and decide on
the allowance prior to what has already been provided.