Describe why accounts involving significant management estimation are generally viewed as inherently risky.
What will be an ideal response?
Auditing Standards (AU-C) Section 540, “Auditing Accounting Estimates, Including Fair Value
Accounting Estimates and Related Disclosures,” and PCAOB AS 2501, "Auditing Accounting
Estimates," both note that accounting estimates are often included in financial statements because
(1) the measurement of some amounts or the valuation of some accounts is uncertain, pending
the outcome of future events, and (2) relevant data concerning events that have already occurred
cannot be accumulated on a timely, cost-effective basis. Thus, accounting estimates are associated
with uncertainty, future events, and the lack of relevant data, which in turn increases risks.
Estimates are based on subjective as well as objective factors, and, as a result, judgment is required
to estimate an amount at the date of the financial statements. Management’s judgment is normally
based on its knowledge and experience about past and current events and its assumptions about
conditions it expects to exist and courses of action it expects to take. Even when management’s
estimation process involves competent personnel using relevant and reliable data, there is potential
for bias in the subjective factors. The risk of material misstatement of accounting estimates
normally varies with the complexity and subjectivity associated with the process, the availability
and reliability of relevant data, the number and significance of assumptions that are made, and
the degree of uncertainty associated with the assumptions. All these characteristics inherently
associated with accounting estimates increase the risks of material misstatements.
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Indicate whether the statement is true or false
Answer the following statement(s) true (T) or false (F)
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Law created by the legislative branch of government is called
A) common law B) by-law C) statute law D) judicial law E) equitable law
Interest costs for short-term debt are generally lower than interest costs for long-term debt because
A) the term structure of interest rates generally reflects an upward sloping yield curve. B) short-term debt is more flexible, allowing a match of short-term needs with short-term financing. C) investors demand higher returns on short-term debt due to liquidity concerns. D) both A and B.