Assume that you have been hired by Ming Lin, CPA, as a new staff assistant. He informs you that his approach to audits has always been to assess control risk at the maximum and perform all the substantive procedures he considers necessary. However, he has recently read an article in The Journal of Accountancy that indicates that a more efficient audit may sometimes be achieved by performing some tests of controls and thereby assessing control risk at a lower level. Lin shows you the following table that came from the article:

Lin understands that the table is only for illustrative purposes and that other “in between” levels of the various risks are possible, but he wants you to use the ones in the table to help him understand the trade-offs between tests of controls and substantive procedures. He understands that these risks would be assessed at the assertion level for the various accounts, but he wants to better understand how the various tests performed in an audit “tie together.” To keep things simple, he says to assume that inherent risk is at the maximum level in all cases.
He has roughed out a table that he wants you to complete for the following three cases:
Controls, as described by management, appear strong, and Lin wishes to test them to the extent possible. In this case, he realizes that the results of the tests of controls may reveal that the controls are not operating effectively. Accordingly, Case A has three subcases:
A(1) Controls are found to be strong and operate effectively.
A(2) Controls are found to operate moderately effectively.
A(3) Controls, despite management’s description, are found to be ineffective.
Controls, as described by management, appear strong, but Lin wishes to use his old approach of not testing them.
Controls, as described by management, appear weak.
Fill out the chart using the following reply options.

Transcribed Image Text:

Inherent Risk Low Moderate Maximum Low Highest allowable detection risk (lowest allowable scope of sub- stantive procedures) High detection risk (low scope of substantive procedures) Moderate detection risk (moderate scope of substantive procedures) Assessed Level of Control Risk Moderate High detection risk (low scope of substantive procedures) Moderate detection risk (moderate scope of substantive procedures) Low detection risk (very high scope of substantive procedures) Maximum Moderate detection risk (moderate scope of substantive procedures) Low detection risk (very high scope of substantive procedures) Lowest detection risk (highest scope of substantive procedures)