CPA Exam — AUDPerforming Further Procedures and Obtaining EvidenceMedium
A client's management has identified several related party transactions during the year. Which of the following is the auditor's primary concern regarding these transactions?
- AThat the transactions were not conducted at arm's length.
- BThat the transactions were not adequately disclosed in the financial statements.
- CThat the transactions were not approved by the board of directors.
- DThat the transactions will lead to future solvency issues for the client.
Show answer & explanationAnswer & explanation
Correct answer: A. That the transactions were not conducted at arm's length.
The primary concern with related party transactions is that they may not be conducted at arm's length, meaning the terms and conditions might not be the same as those between unrelated parties. This can lead to material misstatements in the financial statements, even if properly disclosed or approved.
Why the other options are wrong
- B. Adequate disclosure is crucial, but the underlying issue of non-arm's length terms is paramount, as it affects the fair presentation of the financial statements.
- C. While approval is important, the fundamental concern is the substance of the transaction, not just the approval process.
- D. Solvency issues are a potential consequence but not the direct primary concern from an audit evidence perspective on the transaction itself.
Related Party Transactions
Transactions between parties that are related through common ownership, management, or control, where one party has the ability to influence the other.
- Primary audit concern is that they may not be at arm's length.
- Require special attention due to the potential for fraud or misstatement.
- Adequate disclosure in the financial statements is critical.
Memory trick: Related Parties: Not Arm's Length, Not Right!