Shannon Solomon, CPA, is auditing the accounts receivable of Warner Company and is using mean- per- unit estimation. Accounts receivable were recorded at $ 2,000,000 and comprised 1,250 individual customer accounts. Solomon established the following parameters for the audit of accounts receivable:

• Using firm policy, tolerable misstatement for accounts receivable is established at 6 per-cent of the recorded account balance.

• Based on prior audits of Warner’s accounts receivable, the standard deviation of audited balances is estimated to be $ 100.

• Based on prior audits of Warner’s accounts receivable, Solomon estimates that accounts receivable will be misstated by 4 percent of the recorded account balance. Solomon is now establishing the acceptable levels of the risk of incorrect acceptance and the risk of incorrect rejection for the audit of Warner Company’s accounts receivable.

Required:

a. What factors should Solomon consider in establishing acceptable levels of the risk of incorrect acceptance and the risk of incorrect rejection?

b. What are the advantages and disadvantages of Solomon’s establishing lower levels of the risk of incorrect acceptance and the risk of incorrect rejection?

c. If Solomon establishes levels of the risk of incorrect acceptance and the risk of incorrect rejection of 5 percent, what is the resultant sample size?

d. Determine the sample size for each of the following combinations of risk of incorrect acceptance and risk of incorrect rejection:

1. Risk of incorrect acceptance of 5 percent, risk of incorrect rejection of 10 percent.

2. Risk of incorrect acceptance of 10 percent, risk of incorrect rejection of 5 percent.

3. Risk of incorrect acceptance of 10 percent, risk of incorrect rejection of 10 percent.

e. Based on the sample sizes you calculated in (c) and (d), determine how the levels of sampling risks affect sample size?