Auding Exam 2 Study

Begin by defining the audit risk model. ​(Abbreviation used: PDR​ = Planned detection​ risk; AAR​ = Acceptable audit​ risk; IR​ = Inherent​ risk; CR​ = Control​ risk.)

A) IR= CR/AAR x PDR

B) AAR= PDR/IR x CR

C) CR= PDR/IR x AAR

D) PDR = AAR/IR x CR

PDR= AAR/IR x CR

Explain each term in the audit risk model

A.

Acceptable audit risk is a measure of how the​ auditor's willingness to allow that the financial statements may be materially misstated after the audit is completed and an unqualified opinion has been issued.

B.

Planned detection risk is a measure of the risk that audit evidence for a segment will fail to detect misstatements that could be​ material, should such misstatements exist.

C.

Acceptable audit risk is a measure of how willing the auditor is to accept that the financial statements may be materially misstated after the audit is completed and an unmodified opinion has been issued.

D.

Control risk is a measure of the​ auditor's assessment of the risk that a material misstatement could occur in an assertion and not be prevented or detected and corrected by the​ client's system of internal controls.

E.

Control risk is a measure of the risk that audit evidence for a segment will fail to detect misstatements exceeding a tolerable​ amount, should such misstatements exist.

F.

Inherent risk is a measure of the​ auditor's assessment of the likelihood that misstatements exceeding a tolerable amount in a segment will not be prevented or detected by the​ client's internal controls.

G.

Planned detection risk is a measure of the​ auditor's assessment of the likelihood that there are material misstatements in a segment before considering the effectiveness of internal control.

H.

Inherent risk is a measure of the​ auditor's assessment of the susceptibility of an assertion about a class of​ transactions, account​ balance, or disclosure to material misstatement before considering the effectiveness of internal control.

Planned detection risk is a measure of the risk that audit evidence for a segment will fail to detect misstatements that could be​ material, should such misstatements exist.

Acceptable audit risk is a measure of how willing the auditor is to accept that the financial statements may be materially misstated after the audit is completed and an unmodified opinion has been issued.

Control risk is a measure of the​ auditor's assessment of the risk that a material misstatement could occur in an assertion and not be prevented or detected and corrected by the​ client's system of internal controls.

Inherent risk is a measure of the​ auditor's assessment of the susceptibility of an assertion about a class of​ transactions, account​ balance, or disclosure to material misstatement before considering the effectiveness of internal control.

Why is it important for the auditor to consider the risk of material misstatement at the overall financial statement​ level?

A.

It is important for the auditor to consider risks at the overall financial statement level given those risks may decrease the likelihood of risks of material misstatement across a number of accounts and assertions for those accounts.

B.

It is important for the auditor to consider risks at the overall financial statement level because each of the aspects considered must be explained in the audit report.

C.

It is important for the auditor to consider risks at the overall financial statement level given those risks may increase the likelihood of risks of material misstatement across a number of accounts and assertions for those accounts.

D.

It is important for the auditor to consider risks at the overall financial statement level given those risks may eliminate the need to perform analytical procedures.

It is important for the auditor to consider risks at the overall financial statement level given those risks may increase the likelihood of risks of material misstatement across a number of accounts and assertions for those accounts.

Describe the types of procedures auditors perform as part of their risk assessment procedures. ​(Select all that​ apply.)

A.

Other risk assessment​ procedures: The auditor may perform other procedures to assist in the​ auditor's assessment of the risk of material misstatement.

B.

Discussion among engagement team​ members: Auditing standards require the engagement partner and other key engagement team members to discuss the application of applicable financial reporting framework and the susceptibility of the​ client's financial statements to material misstatement. This includes explicit discussion about the susceptibility of the​ client's financial statements to​ fraud, in addition to their susceptibility of material misstatement due to errors.

C.

Inquiries of management and others within the​ entity: Because management and​ others, including those charged with governance and internal​ audit, have important information to assist the auditor in identifying risks of material​ misstatements, the auditor will make a number of inquiries of these individuals to understand the entity and its environment and the​ entity's system of internal control and understand the​ entity's accounting policies within the applicable financial reporting framework and reasons for any changes to those policies.

D.

Test of​ details: Test that the company has title to all the assets reported on the balance sheet and confirm that non of the assets are pledged as collateral.

E.

Analytical​ procedures: Auditors are required to perform preliminary analytical procedures as part of audit planning to better understand the entity and to assess client business risks.

F.

Observation and​ inspection: Auditors observe the​ entity's operations and inspect​ documents, such as the​ organization's strategic​ plan, business​ model, and its organizational structure to increase the​ auditor's understanding of how the business is structured and how it organizes key business functions and management in the oversight of operations.

Other risk assessment​ procedures: The auditor may perform other procedures to assist in the​ auditor's assessment of the risk of material misstatement.

Discussion among engagement team​ members: Auditing standards require the engagement partner and other key engagement team members to discuss the application of applicable financial reporting framework and the susceptibility of the​ client's financial statements to material misstatement. This includes explicit discussion about the susceptibility of the​ client's financial statements to​ fraud, in addition to their susceptibility of material misstatement due to errors.

Inquiries of management and others within the​ entity: Because management and​ others, including those charged with governance and internal​ audit, have important information to assist the auditor in identifying risks of material​ misstatements, the auditor will make a number of inquiries of these individuals to understand the entity and its environment and the​ entity's system of internal control and understand the​ entity's accounting policies within the applicable financial reporting framework and reasons for any changes to those policies.

Analytical​ procedures: Auditors are required to perform preliminary analytical procedures as part of audit planning to better understand the entity and to assess client business risks.

Observation and​ inspection: Auditors observe the​ entity's operations and inspect​ documents, such as the​ organization's strategic​ plan, business​ model, and its organizational structure to increase the​ auditor's understanding of how the business is structured and how it organizes key business functions and management in the oversight of operations.

Auditing standards require that the engagement team members engage in discussion about the risk of material misstatement. Describe the nature of this required discussion and who should be involved.

Auditing standards require the engagement partner and other key engagement team members to discuss the susceptibility of the​ client's financial statements to material misstatement. Discussion among the engagement partner and other key members of the engagement team provides an opportunity for more experienced team​ members, including the engagement​ partner, to share their insights about the entity and its environment and the entity's system of internal controls, with other members of the team.

What types of inquiries should the auditor make when considering the risk of material misstatement due to​ fraud?

The auditor should ​(Select all that​ apply.)

A.

ask management to describe the frequency of​ management's assessment and the extent of their consideration of risks due to fraud.

B.

ask the board of directors how many years each member of management has been employed at the company.

C.

inquire of management about their assessment of the risk that the financial statements may be materially misstated due to fraud.

D.

inquire of management and others within the entity about their knowledge of any​ actual, suspected, or alleged fraud affecting the client and whether management has communicated any information about fraud risks to those charged with governance.

ask management to describe the frequency of​ management's assessment and the extent of their consideration of risks due to fraud.

inquire of management about their assessment of the risk that the financial statements may be materially misstated due to fraud.

inquire of management and others within the entity about their knowledge of any​ actual, suspected, or alleged fraud affecting the client and whether management has communicated any information about fraud risks to those charged with governance.

Begin by explaining the causes of an increased planned detection risk.

A.

An increase in planned detection risk may be caused by a decrease in acceptable audit risk and an increase in either control risk or industry risk.

B.

An increase in planned detection risk may be caused by the results of previous audits and segments.

C.

An increase in planned detection risk may be caused by an increase in acceptable audit risk or a decrease in either control risk or inherent risk.

D.

An increase in planned detection risk may be caused by a decrease in acceptable audit risk or an increase in either control risk or inherent risk.

An increase in planned detection risk may be caused by an increase in acceptable audit risk or a decrease in either control risk or inherent risk.

Next explain the causes of a decreased planned detection risk.

A.

A decrease in planned detection risk is caused by a decrease in acceptable audit risk or an increase in control risk or inherent risk.

B.

A decrease in planned detection risk is caused by the audit being an initial engagement and an average level​ management's integrity.

C.

A decrease in planned detection risk is caused by an increase in acceptable audit risk or a decrease in control risk or inherent risk.

D.

A decrease in planned detection risk is caused by the accurate prediction of financial failure for the company.

A decrease in planned detection risk is caused by a decrease in acceptable audit risk or an increase in control risk or inherent risk.

Which of the following circumstances most likely would cause the auditor to suspect that there are material misstatements in the​ entity's financial​ statements?

1.

Monthly bank reconciliations ordinarily include several large outstanding checks.

2.

Cash transactions are electronically processed and​ recorded, leaving no paper audit trail.

3.

The​ entity's management places no emphasis on meeting publicized earnings projections.

4.

Significant differences between the physical inventory count and the accounting records are not investigated.

Significant differences between the physical inventory count and the accounting records are not investigated.

Which of the following statements describes why a properly designed and executed audit may not detect a material misstatement in the financial statements resulting from​ fraud?

1.

The factors considered in assessing control risk indicated an increased risk of intentional​ misstatements, but only a low risk of unintentional errors in the financial statements.

2.

The auditor did not consider factors influencing audit risk for account balances that have effects pervasive to the financial statements as a whole.

3.

An audit is designed to provide reasonable assurance of detecting material​ errors, but there is no similar responsibility concerning fraud.

4.

Audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement that is concealed through collusion.

Audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement that is concealed through collusion.

Prior​ to, or in conjunction​ with, the​ information-gathering procedures for an​ audit, audit team members should discuss the potential for material misstatement due to fraud. Which of the following best characterizes the mindset that the audit team should maintain during this​ discussion?

1.

Questioning

2.

Criticizing

3.

Judgmental

4.

Presumptive

Questioning

Some account​ balances, such as those for pensions and​ leases, are the result of complex calculations. The susceptibility to material misstatements in these types of accounts is defined as

1.

audit risk.

2.

detection risk.

3.

inherent risk.

4.

sampling risk.

inherent risk.

The risk that an auditor will​ conclude, based on substantive​ tests, that a material error does not exist in an account balance​ when, in​ fact, such error does exist is referred to as

1.

sampling risk.

2.

inherent risk.

3.

control risk.

4.

detection risk.

detection risk.

Inherent risk and control risk differ from planned detection risk in that they

1.

arise from the misapplication of auditing procedures.

2.

may be assessed in either quantitative or nonquantitative terms.

3.

exist independently of the financial statement audit.

4.

can be changed at the​ auditor's discretion.

exist independently of the financial statement audit.

What are the three ways auditors respond to fraud​ risks? ​(Select the three that​ apply.)

A.

Document all communications among audit team

B.

Design and perform procedures to address management override of controls

C.

Change the overall conduct of the audit to respond to identified fraud risks

D.

Critical evaluation of audit evidence

E.

Design and perform procedures to analyze earnings by management

F.

Design and perform audit procedures to analyze income smoothing

G.

Design and perform audit procedures to address fraud risks

H.

Perform analytical procedures

Design and perform procedures to address management override of controls

Change the overall conduct of the audit to respond to identified fraud risks

Design and perform audit procedures to address fraud risks

Select the examples of risk factors for fraudulent financial reporting for each of the three fraud conditions.

Incentives/pressures

Opportunities

Attitudes/rationalization

Incentives/pressures: The company is under pressure to meet debt covenants or obtain additional financing.

Opportunities: Ineffective board of director or audit committee oversight over financial reporting.

Attitudes/rationalization: Management makes overly aggressive/unrealistic forecasts to analysts, creditors, and third parties.

The two components of professional skepticism are a questioning mind and a critical assessment of the audit evidence. How do these components help an auditor distinguish an unintentional misstatement from an intentional​ (fraudulent) misstatement?

Question content area bottom

Part 1

A.

Professional skepticism suggests the auditor should assume that management is dishonest and an auditor should remain professionally skeptical throughout the entire audit process. A questioning mind will encourage the auditor to gather more persuasive evidence to corroborate management responses which would help the auditor distinguish intentional from unintentional misstatements. Critically assessing the evidence means the auditor evaluates each piece of evidence​ separately, but also evaluates all the evidence gathered as a whole.

B.

Professional skepticism suggests the auditor should neither assume that management is​ dishonest, nor assume unquestioned​ honesty, and an auditor should remain professionally skeptical throughout the entire audit process. Critically assessing the evidence will encourage the auditor to gather more persuasive evidence to corroborate management responses which would help the auditor distinguish intentional from unintentional misstatements. A questioning mind means the auditor evaluates each piece of evidence​ separately, but also evaluates all the evidence gathered as a whole.

C.

Professional skepticism suggests the auditor should neither assume that management is​ dishonest, nor assume unquestioned​ honesty, and an auditor should remain professionally skeptical throughout the entire audit process. A questioning mind will encourage the auditor to gather more persuasive evidence to corroborate management responses which would help the auditor distinguish intentional from unintentional misstatements. Critically assessing the evidence means the auditor evaluates each piece of evidence​ separately, but also evaluates all the evidence gathered as a whole.

D.

Professional skepticism suggests the auditor should assume that management is dishonest and an auditor should remain professionally skeptical throughout the entire audit process. Critically assessing the evidence will encourage the auditor to gather more persuasive evidence to corroborate management responses which would help the auditor distinguish intentional from unintentional misstatements. A questioning mind means the auditor evaluates each piece of evidence​ separately, but also evaluates all the evidence gathered as a whole.

Professional skepticism suggests the auditor should neither assume that management is​ dishonest, nor assume unquestioned​ honesty, and an auditor should remain professionally skeptical throughout the entire audit process. A questioning mind will encourage the auditor to gather more persuasive evidence to corroborate management responses which would help the auditor distinguish intentional from unintentional misstatements. Critically assessing the evidence means the auditor evaluates each piece of evidence​ separately, but also evaluates all the evidence gathered as a whole.

Describe the types of overall responses by auditors to address fraud risk. ​(Select all that​ apply.)

A.

Assign more experienced personnel to the engagement

B.

Design and perform audit procedures to address fraud risks

C.

Discuss the​ auditor's findings about fraud risk with management to obtain​ management's views of the potential for fraud and the existing controls designed to prevent or detect misstatements.

D.

Perform analytical procedures as the only useful indicator of fraud.

E.

Place greater emphasis on​ management's choice of accounting principles with special attention given to those that involve subjective measurements or complex transactions.

F.

Critical evaluation of audit evidence should be discussed with management and then collaborate in developing an audit procedure to eliminate the risk of fraud.

G.

If the risk of material misstatement due to fraud is​ increased, the auditor should increase communications among audit team.

H.

Consider whether antifraud programs and controls mitigate the identified risks of material misstatement due to fraud.

Assign more experienced personnel to the engagement

Design and perform audit procedures to address fraud risks

Discuss the​ auditor's findings about fraud risk with management to obtain​ management's views of the potential for fraud and the existing controls designed to prevent or detect misstatements.

Place greater emphasis on​ management's choice of accounting principles with special attention given to those that involve subjective measurements or complex transactions.

Consider whether antifraud programs and controls mitigate the identified risks of material misstatement due to fraud.

You go through the​ drive-through window of a fast food restaurant and notice a sign that reads​ "Your meal is free if we fail to give you a​ receipt." Why would the restaurant post this​ sign?

A.

The notice is designed to ensure that every customer is given a receipt and all sales are entered into the register to establish accountability for the sale.

B.

The notice ensures customers can go into the restaurant and eat at the tables and use the facilities providing they have a receipt to prove they are customers.

C.

The notice discourages the individuals operating the cash registers from theft because they must account for all sales.

D.

Both A and C are correct.

D. Both A and C are correct.

You have identified a suspected fraud involving the​ company's controller. What must you do in response to this​ discovery?

A.

Auditing standards requires the auditor to discuss the matter and audit approach for further investigation with an appropriate level of management that is at least one level above those​ involved, and with senior management and the audit​ committee, even if the matter might be considered inconsequential.

B.

Auditing standards requires the auditor to obtain additional evidence to determine whether material fraud has​ occurred, and requires the auditor to consider the implications for other aspects of the audit.

C.

Auditing standards requires the auditor to include a footnote disclosure in the financial statements that suspected fraud involving the​ company's controller was uncovered during the audit​ process, and what the outcome was at the end of the​ audit, and name who was at fault.

D.

Both A and B are correct.

D.

Both A and B are correct.

How might this discovery affect your report on internal control when auditing a public​ company?

A.

Public company auditors must communicate any and all control deficiencies to the board of directors. Prior to a public company audit​ completion, the​ auditor, management, and the internal auditors are required to indicate a plan to ensure deficiencies are addressed and no longer a concern for the upcoming audit year.

B.

For public company​ auditors, the discovery of fraud that creates a significant deficiency and may therefore be a material weakness in internal​ control, will make a public auditor withdraw from the audit. A statement should be filed with the SEC stating the auditor feels there are issues with upper management.

C.

For public company​ auditors, the discovery of fraud of any magnitude by senior management is at least a significant deficiency and may be a material weakness in internal control over financial reporting. If the public company auditor decides the fraud is a material​ weakness, the​ auditor's report on internal control over financial reporting will contain an adverse opinion.  

D.

Public company auditors must disclose any possible fraud in the financial​ statements, regardless of the materiality. It is the public​ auditor's responsibility to disclose this information to​ client's senior​ management, its audit​ committee, and third parties.

For public company​ auditors, the discovery of fraud of any magnitude by senior management is at least a significant deficiency and may be a material weakness in internal control over financial reporting. If the public company auditor decides the fraud is a material​ weakness, the​ auditor's report on internal control over financial reporting will contain an adverse opinion.  

Which action regarding fraud is an activity related to performance of risk assessment​ procedures?

1.

Document the results of procedures used to address the risk of fraud.

2.

Discussions among the engagement team members regarding the risks of material misstatement due to fraud.

3.

Consider the characteristics of journal​ entries, particularly those made near year end.

4.

Consider whether estimates prepared and recorded by management could indicate a bias in reporting.

Discussions among the engagement team members regarding the risks of material misstatement due to fraud.

Which of the following circumstances is most likely to cause an auditor to increase the assessment of the risk of material misstatement of the financial statements due to​ fraud?

1.

Property and equipment are usually sold at a loss before being fully depreciated.

2.

Unusual discrepancies exist between the​ entity's records and confirmation replies.

3.

Monthly bank reconciliations usually include several​ in-transit items.

4.

Clerical errors are listed on a​ computer-generated exception report.

Unusual discrepancies exist between the​ entity's records and confirmation replies.

Which of the following statements reflects an​ auditor's responsibility for detecting​ fraud?

1.

An auditor is responsible for detecting employee errors and simple​ fraud, but not for discovering fraudulent acts involving employee collusion or management override.

2.

An auditor should plan the audit to detect fraud caused by departures from GAAP.

3.

An auditor is not responsible for detecting fraud unless the application of auditing standards would result in such detection.

4.

An auditor should design the audit to provide reasonable assurance of detecting errors and fraud that are material to the financial statements.

An auditor should design the audit to provide reasonable assurance of detecting errors and fraud that are material to the financial statements.

When fraud risk factors are identified during an​ audit, the​ auditor's documentation should include

The Risk Factors Identified

The​ Auditor's Response to The Risk Factors Identified

If an independent audit leading to an opinion on financial statements causes the auditor to believe that a material misstatement due to fraud​ exists, the auditor should first

1.

request that management investigate to determine whether fraud has actually occurred.

2.

consider the implications for other aspects of the audit and discuss the matter with the appropriate levels of management.

3.

make the investigation necessary to determine whether fraud has actually occurred.

4.

consider whether fraud was the result of a failure by employees to comply with existing controls.

make the investigation necessary to determine whether fraud has actually occurred.

Which of the following is least likely to suggest to an auditor that the​ client's management may have overridden internal​ control?

1.

There are numerous delays in preparing timely internal financial reports.

2.

Management does not correct internal control weaknesses that it knows about.

3.

Differences are always disclosed on a computer exception report.

4.

There have been two new controllers this year.

Differences are always disclosed on a computer exception report.

Which best describes the relationship among the five components of internal control in the COSO internal control framework.

A.

The five components of internal control all work together to determine if key controls are absent in the design of internal control over financial reporting. The control environment is treated as an umbrella over the other four components. Management monitors key controls and determines any that might be absent in the design of internal control over financial reporting. Auditors obtain the information from management and perform a risk assessment of the controls and activities to ensure all risks are identified.​ Finally, auditors must stay in constant communication with management to obtain information throughout the year of any potential deficiency management finds.

B.

Of the five​ components, the control environment is the broadest and deals primarily with the way management implements its attitude about internal controls. The other four components are closely related to the control environment. Risk assessment is​ management's identification and analysis of risks relevant to the preparation of financial statements. Management implements control activities and creates the accounting information and communication system in response to risks identified as part of its risk assessment.​ Finally, management monitors the quality of internal control performance by determining if controls are operating as intended and that they are modified if needed.

C.

Of the five​ components, risk assessment is the most important component because it determines the scope of the audit. The other four components are closely related to the risk assessment and assists in the​ auditor's decisions. Management creates the control environment within the company that becomes the​ company's attitude for how serious internal controls are. Auditors monitor this activity throughout the year and obtain information and communication reports so it can be incorporated into the audit plan.

D.

Of the five​ components, monitoring activities is the most important component because it determines that controls are operating as intended and that they are modified as appropriate for changes in conditions. The other four components are closely related to the monitoring activities and assists in communicating any identified deficiencies. The information being assessed comes from a variety of​ sources, including studies of existing internal​ controls, internal auditor​ reports, exception reporting on control​ activities, reports by regulators such as bank regulatory​ agencies, feedback from operating​ personnel, and complaints from customers about billing charges.

Of the five​ components, the control environment is the broadest and deals primarily with the way management implements its attitude about internal controls. The other four components are closely related to the control environment. Risk assessment is​ management's identification and analysis of risks relevant to the preparation of financial statements. Management implements control activities and creates the accounting information and communication system in response to risks identified as part of its risk assessment.​ Finally, management monitors the quality of internal control performance by determining if controls are operating as intended and that they are modified if needed.

Distinguish general controls from application controls.

General controls relate to all aspects of the IT function. They have a global impact on all software applications.

Application controls apply to the processing of individual transactions.

Give two examples of general controls.​ (Select the two choices that​ apply.)

Reasonableness tests review​ unit-selling prices used to process a sale.

Testing and approval by users of system changes.

The sales department does postprocessing review of sales transactions.

Use of passwords and user IDs with access limited to authorized users.

Preformatted screens prompt data input personnel for information to be entered.

Testing and approval by users of system changes.

Use of passwords and user IDs with access limited to authorized users.

Give two examples of application controls. ​(Select the two choices that​ apply.)

Programmed control that verifies that all time records submitted are valid employee ID numbers included in the electronically accessible employee database.

Access to hardware is​ restricted, passwords and user IDs limit access to software and data​ files, and encryption and firewalls protect data and programs from external parties.

Control that recomputes net pay from gross pay and deductions.

Responsibilities for​ programming, operations, and data control are separated.

Memory failure or hard drive failure causes error messages on the monitor.

Programmed control that verifies that all time records submitted are valid employee ID numbers included in the electronically accessible employee database.

Control that recomputes net pay from gross pay and deductions.

What two aspects of internal control must the auditor assess when performing procedures to obtain an understanding of internal​ control?

A.

Implementation of internal controls and documentation.

B.

Implementation of internal controls and inquiry of entity personnel.

C.

Design of internal controls and implementation.

D.

Design of internal controls and observation of employees.

Design of internal controls and implementation.

Asset or Record: Computers

Example of Physical Control: kept in an area protected by security and from extreme temperatures.

Asset or Record:Cash received by retail clerks

Example of Physical Control: entered into a cash register to record all cash received.

Asset or Record: Accounts receivable records

Example of Physical Control: stored in a locked, fireproof safe; with adequate backup copies maintained.

Asset or Record: Raw material inventory

Example of Physical Control:retained in a locked storeroom with a reliable, competent employee controlling access.

Asset or Record: Hand tools

Example of Physical Control: stored in a locked storeroom under control of a reliable employee.

Asset or Record: Manufacturing equipment

Example of Physical Control: kept in an area protected by security and fire alarms.

Asset or Record: Marketable securities

Example of Physical Control: stored in a safety deposit vault.

What is the primary focus of the monitoring component of internal​ control?

A.

​Management's identification of​ actions, policies, and procedures that reflect the overall attitude of top​ management, directors, and owners of an entity about internal control and its importance.

B.

​Management's identification and analysis of risks relevant to the preparation of financial statements in accordance with appropriate accounting frameworks such as GAAP or IFRS.

C.

For management to conduct ongoing and periodic assessments of the quality of internal control to determine that controls are operating as intended and they are modified as appropriate for changes in conditions.

D.

To ensure proper enforcement of the policies and procedures that management has established to meet its objectives for financial reporting.

For management to conduct ongoing and periodic assessments of the quality of internal control to determine that controls are operating as intended and they are modified as appropriate for changes in conditions.

Identify the traditionally segregated duties in IT systems.​ (Select all that​ apply.)

A.

Duties related to recordkeeping of​ transactions, custody of​ assets, and separation of IT duties from user departments.

B.

Duties related to authorization of​ transactions, recordkeeping of​ transactions, and separation of IT duties from user departments.

C.

Duties related to authorization of​ transactions, recordkeeping of​ transactions, and custody of assets.

D.

Key IT tasks related to​ programming, operation of hardware and​ software, and data control.

E.

Duties related to independent checks on​ performance, proper authorization of​ transactions, and adequate documents and records.

Duties related to authorization of​ transactions, recordkeeping of​ transactions, and custody of assets.

Key IT tasks related to​ programming, operation of hardware and​ software, and data control.

Which of the following would not be considered an inherent limitation of the potential effectiveness of an​ entity's internal control​ structure?

1.

Incompatible duties

2.

Mistakes in judgment

3.

Collusion among employees

4.

Management override

Incompatible duties

Actions, policies, and procedures that reflect the overall attitude of​ management, directors, and owners of the entity about internal control relate to which of the following internal control​ components?

1.

Monitoring

2.

Information and communication

3.

Risk assessment

4.

Control environment

Control environment

Vendor account reconciliations are performed by three clerks in the accounts payable department on Friday of each week. The accounts payable supervisor reviews the completed reconciliations the following Monday to ensure they have been completed. The work performed by the supervisor is an example of which COSO​ component?

1.

Information and communication

2.

Risk assessment

3.

Monitoring

4.

Control activities

Monitoring

Which of the following is an advantage of a​ computer-based system for transaction processing over a manual​ system? A​ computer-based system

1.

will produce a more accurate set of financial statements.

2.

does not require as stringent a set of internal controls.

3.

eliminates the need to reconcile control accounts and subsidiary ledgers.

4.

will be more efficient in generating financial statements.

will be more efficient in generating financial statements.

Which of the following is generally not considered a category of IT general​ controls?

1.

Controls that restrict systemwide access to programs and data

2.

Controls that oversee the​ day-to-day operation of IT applications

3.

Controls that determine whether a vendor number matches the preapproved vendors in the vendor database

4.

Controls that oversee the acquisition of application software

Controls that determine whether a vendor number matches the preapproved vendors in the vendor database

Which of the following is an example of an application​ control?

1.

The client uses access security software to limit access to each of the accounting applications.

2.

The sales system automatically computes the total sale amount and posts the total to the sales journal file.

3.

Employees are assigned a user ID and password that must be changed every quarter.

4.

Systems programmers are restricted from doing applications programming functions.

The sales system automatically computes the total sale amount and posts the total to the sales journal file.

What four types of procedures are used by auditors to test whether internal controls are operating​ effectively?

​(1) inquiring of appropriate personnel regarding the operation of​ controls; (2) examine documents and records when there is a trail of evidence that the control​ is/is not​ operating; (3) observe​ control-related activities in​ process, preferably at various points throughout the​ year; and​ (4) reperform control activities performed by the client.

Jeanne​ Maier, CPA, believes that it is appropriate to obtain an understanding of the system of internal control about halfway through the​ audit, after she is familiar with the​ client's operations and the way the system actually works. She has found through experience that filling out internal control questionnaires and flowcharts early in the engagement is not beneficial because the system rarely functions the way it is supposed to. Later in the​ engagement, the auditor can prepare flowcharts and questionnaires with relative ease because of the knowledge already obtained on the audit. Evaluate her approach.

Maier is correct in her belief that internal controls frequently do not function in the manner they are supposed to.​ However, regardless of​ this, her approach ignores the value of beginning the understanding of internal control by preparing or reviewing a rough flowchart.

Obtaining an early understanding of the​ client's system of internal control will provide Maier with a basis for a decision about further audit procedures and extent of testing based on assessed control risk. By not obtaining an understanding of the system of internal control until later in the​ engagement, Maier risks performing either too much or too little​ work, or emphasizing the wrong areas during her audit.

Distinguish the​ auditor's responsibility for testing controls in an integrated audit of a public company from the responsibility to test controls in an audit of a nonpublic company.

The extent of controls tested by auditors to express an opinion on internal controls for a public company is significantly greater than that tested solely to express an opinion on the financial statements.

To express an opinion on internal controls for a public​ company, the auditor obtains an understanding of and performs tests of controls for all significant account balances, classes of transactions, and disclosures and related assertions in the financial statements. For a nonpublic​ company, the controls tested by an auditor is dependent on the auditor's assessment of control risk.

How does the auditor use information obtained from the control risk assessment and testing of controls to plan audit​ procedures?

A.

The auditor uses the control risk assessments and the results of tests of controls to determine the most significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits. The auditor links the control risk assessments at the transaction level to the​ balance-related audit objectives for the accounts affected by the transaction​ cycles, and also to the presentation and disclosure audit objectives.

B.

The auditor uses the control risk assessments and the results of tests of controls to determine the appropriate level of detection risk and the nature and extent of substantive tests for the audit engagement. The auditor links the control risk assessments at the transaction level to the​ balance-related audit objectives for the accounts affected by the transaction cycles.

C.

The auditor uses the control risk assessments and the results of tests of controls to determine the appropriate level of detection risk and the nature and extent of substantive tests for the scope limitation. The auditor links the control risk assessments at the transaction level to the​ balance-related audit objectives for the accounts affected by the collection​ cycle, and also to the presentation and disclosure audit objectives.

D.

The auditor uses the control risk assessments and the results of tests of controls to determine whether the​ computer-performed controls correctly process the test data. The auditor links the control risk assessments at the transaction level to the​ balance-related audit objectives for the accounts affected by the transaction cycles.

The auditor uses the control risk assessments and the results of tests of controls to determine the appropriate level of detection risk and the nature and extent of substantive tests for the audit engagement. The auditor links the control risk assessments at the transaction level to the​ balance-related audit objectives for the accounts affected by the transaction cycles.

Explain how control risk assessment differs for an integrated audit versus a financial​ statement-only audit.

A.

The most significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits is that control risk may be assessed at maximum for some or all audit objectives for public companies receiving a financial​ statement-only audit. Public​ companies, even relatively smaller​ ones, are not expected to have effective internal controls for all significant transaction cycles and accounts.​ Thus, it is likely control risk will be set as high for public​ companies, whereas that is not necessarily the expectation for nonpublic companies.

B.

The most significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits is that control risk may be assessed at maximum for some or all audit objectives for nonpublic companies receiving a financial​ statement-only audit. Public​ companies, even relatively smaller​ ones, are expected to have effective internal controls for all significant transaction cycles and accounts.​ Thus, it is likely control risk will be set as low for public​ companies, whereas that is not necessarily the expectation for nonpublic companies.

C.

The most significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits is that control risk may be assessed at maximum for some or all audit objectives for public companies receiving a financial​ statement-only audit. Nonpublic​ companies, even relatively larger​ ones, are expected to have effective internal controls for all significant transaction cycles and accounts.​ Thus, it is likely control risk will be set as low for nonpublic​ companies, whereas that is not necessarily the expectation for public companies.

D.

There is no significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits as control risk may be assessed at minimum for some or all audit objectives for nonpublic companies receiving a financial​ statement-only audit. Nonpublic​ companies, even relatively larger​ ones, are expected to have effective internal controls for all significant transaction cycles and accounts.​ Thus, it is likely control risk will be set as low for nonpublic​ companies, as that is the same expectation for public companies.

The most significant difference in the assessment of control risk for integrated audits versus financial​ statement-only audits is that control risk may be assessed at maximum for some or all audit objectives for nonpublic companies receiving a financial​ statement-only audit. Public​ companies, even relatively smaller​ ones, are expected to have effective internal controls for all significant transaction cycles and accounts.​ Thus, it is likely control risk will be set as low for public​ companies, whereas that is not necessarily the expectation for nonpublic companies.

An internal control deficiency may be defined as a condition in which material misstatements would ordinarily not be timely detected by

1.

auditors in assisting control risk.

2.

employees in normal course of assigned functions.

3.

the controller reconciling the general ledger.

4.

the chief financial officer reviewing interim financial statements.

employees in normal course of assigned functions.

Which of the following is an example of an operation deficiency in internal​ control?

1.

Management does not have a process to identify and assess risks on a recurring basis.

2.

Clerks who conduct monthly reconciliation of intercompany accounts do not understand the nature of misstatements that could occur in those accounts.

3.

The cashier has online ability to post​ write-offs to accounts receivable accounts.

4.

The company does not have a code of conduct for employees to consider.

Clerks who conduct monthly reconciliation of intercompany accounts do not understand the nature of misstatements that could occur in those accounts.

A material weakness in internal control represents a control deficiency that

1.

reduces the efficiency and effectiveness of the​ entity's operations.

2.

more than remotely adversely affects a​ company's ability to​ initiate, authorize,​ record, process, or report external financial statements reliably.

3.

results in a reasonable possibility that internal control will not prevent or detect material financial statement misstatements.

4.

exists because a necessary control is missing or not properly designed.

results in a reasonable possibility that internal control will not prevent or detect material financial statement misstatements.

On the basis of audit evidence gathered and​ evaluated, an auditor decides to increase assessed control risk from that originally planned. To achieve an audit risk level​ (AcAR) that is substantially the same as the planned audit risk level​ (AAR), the auditor will

1.

decrease planned detection risk.

2.

decrease substantive testing.

3.

increase materiality levels.

4.

increase inherent risk.

decrease planned detection risk.

An auditor uses assessed control risk to

1.

indicate whether materiality thresholds for planning and evaluation purposes are sufficiently high.

2.

identify transactions and account balances where inherent risk is at the maximum.

3.

evaluate the effectiveness of the​ entity's internal controls.

4.

determine the acceptable level of detection risk for financial statement assertions.

determine the acceptable level of detection risk for financial statement assertions.

The ultimate purpose of assessing control risk is to contribute to the​ auditor's evaluation of the

1.

factors that raise doubts about the auditability of the financial statements.

2.

possibility that the nature and extent of substantive tests may be reduced.

3.

operating effectiveness of internal control policies and procedures.

4.

risk that material misstatements exist in the financial statements.

risk that material misstatements exist in the financial statements.

As general IT controls​ weaken, the auditor is most likely to

1.

ignore obtaining knowledge about the design of general IT controls and whether they have been implemented.

2.

expand testing of automated application controls used to reduce control risk to cover greater portions of the fiscal year under audit.

3.

reduce testing of automated application controls done by the computer.

4.

increase testing of general IT controls to conclude whether they are operating effectively.

expand testing of automated application controls used to reduce control risk to cover greater portions of the fiscal year under audit.

Before​ processing, the system validates the sequence of items to identify any breaks in sequence of input documents. This automated control is primarily designed to ensure the

1.

restriction of duplicate entries.

2.

authorization of data entry.

3.

accuracy of input.

4.

completeness of input.

completeness of input.

An auditor will use the test data approach to obtain certain assurances with respect to the

1.

machine capacity.

2.

input data.

3.

degree of data entry accuracy.

4.

procedures contained within the program.

procedures contained within the program.

The audit assurance from substantive tests and tests of controls at different levels of internal control effectiveness shows the relationship between substantive tests and control risk assessment. Explain the difference among C Subscript 3​, C Subscript 2​, and C Subscript 1.

C represents the​ auditor's assessment of the effectiveness of

internal control.

C3

represents the idea that it is not​ cost-effective to test internal controls and all assurance must come from substantive testing. Tests of controls at the

C1

level would support a minimum level of control risk. This would require more testing of the controls than would be required at either

C2 or C3.

Testing controls at the

C1

level allows the auditor to obtain assurance from the​ controls, thereby allowing for a reduction in the amount of substantive testing which must be performed to meet the level of acceptable audit assurance.

Explain the circumstances under which it will be a good decision to obtain audit assurance from substantive tests at point C Subscript 1. Do the same for points C Subscript 2 and C Subscript 3.

It would be a good decision to obtain assurance from

test of controls

at point

C1

especially if the cost of substantive testing is considerably greater than tests of controls. At point

C2

​, the auditor performs some tests of controls and is able to reduce control risk below maximum. Point

C2

would be appropriate if it is cost beneficial for the auditor to obtain a proper level of assurance.

What is the purpose of risk assessment procedures and how do they differ from the four other types of audit​ tests? ​(Select all answers that​ apply.)

A.

Risk assessment procedures are performed to emphasize the overall reasonableness of transactions and the general ledger balances. Tests of details of balances emphasize the ending balances in the general ledger.

B.

Risk assessment procedures are performed to evaluate financial information through analysis of plausible relationships among financial and nonfinancial data.

C.

Risk assessment procedures are performed to assess the risk of material misstatement in the financial statements. Auditors use the results of the risk assessment procedures to design and perform further audit procedures. Further audit procedures​ (not risk assessment​ procedures) provide the auditor sufficient appropriate evidence.

D.

Risk assessment procedures are performed to assess the risk of material misstatement in the financial statements. Risk assessment procedures include procedures performed to obtain an understanding of the entity and its​ environment, the applicable financial reporting​ framework, and the sytem of internal control.

Risk assessment procedures are performed to assess the risk of material misstatement in the financial statements. Auditors use the results of the risk assessment procedures to design and perform further audit procedures. Further audit procedures​ (not risk assessment​ procedures) provide the auditor sufficient appropriate evidence.

Risk assessment procedures are performed to assess the risk of material misstatement in the financial statements. Risk assessment procedures include procedures performed to obtain an understanding of the entity and its​ environment, the applicable financial reporting​ framework, and the sytem of internal control.

A considerable portion of the tests of controls and substantive tests of transactions are performed simultaneously as a matter of audit convenience. But the substantive tests of transactions procedures and the extent of​ testing, in​ part, depend on the results of the tests of controls. How can the auditor resolve this apparent​ inconsistency? ​(Select all answers that​ apply.)

A.

The auditor resolves the problem by making assumptions about the results of the tests of controls and performing both the tests of controls and substantive tests of transactions on the basis of these assumptions.

B.

The auditor assumes an effective system of internal control with few or no exceptions planned. If the results of the tests of controls are as good as or better than the assumptions that were originally​ made, the auditor can be satisfied with the planned extent of substantive tests of​ transactions, unless the substantive tests of transactions themselves indicate the existence of misstatements. If the tests of controls results were not as good as the auditor assumed in designing the original​ tests, expanded substantive tests must be performed.

C.

The auditor assumes an effective system of internal control with few or no exceptions planned. If the results of the tests of controls were not as good as the assumptions that were originally​ made, the auditor must only increase analytical procedures. If the tests of controls results were as good as or better than the auditor assumed in designing the original​ tests, decreasing substantive tests is the only procedure that must be performed.

D.

None of the above.

The auditor resolves the problem by making assumptions about the results of the tests of controls and performing both the tests of controls and substantive tests of transactions on the basis of these assumptions.

The auditor assumes an effective system of internal control with few or no exceptions planned. If the results of the tests of controls are as good as or better than the assumptions that were originally​ made, the auditor can be satisfied with the planned extent of substantive tests of​ transactions, unless the substantive tests of transactions themselves indicate the existence of misstatements. If the tests of controls results were not as good as the auditor assumed in designing the original​ tests, expanded substantive tests must be performed.

The auditor of​ Ferguson's, Inc. identified two internal controls in the sales and collection cycle for testing. In the first​ control, the computer program verifies that a planned sale on account will not exceed the​ customer's credit limit entered in the accounts receivable database. In the second​ control, the accounts receivable clerk matches bills of​ lading, sales​ invoices, and customer orders before recording in the sales journal. Describe how the presence of IT general controls over software programs and database changes affects the extent of audit testing of each of these two internal controls.

Control​ #1 -- Computer verification of the​ customer's credit limit.

The presence of effective general controls over software programs and database changes can significantly reduce the​ auditor's testing of automated controls such as control​ #1. Once it is determined that control​ #1 is functioning​ properly, the auditor can focus subsequent tests on assessing whether any changes have occurred that would limit the effectiveness of the control. Such tests might include determining whether any changes have occurred to the program and whether these changes were properly authorized and tested prior to implementation.

The auditor of​ Ferguson's, Inc. identified two internal controls in the sales and collection cycle for testing. In the first​ control, the computer program verifies that a planned sale on account will not exceed the​ customer's credit limit entered in the accounts receivable database. In the second​ control, the accounts receivable clerk matches bills of​ lading, sales​ invoices, and customer orders before recording in the sales journal. Describe how the presence of IT general controls over software programs and database changes affects the extent of audit testing of each of these two internal controls.

Control​ #2 - The accounts receivable clerk matches bills of​ lading, sales​ invoices, and customer orders before recording in the sales journal.

This control is a manual control. General controls over software programs and database changes would have little effect on the​ auditor's testing of control​ #2. If the auditor identifies control​ #2 as a key control in the sales and collection​ cycle, they would examine a sample of the underlying documents for the accounts receivable clerk's initials and reperform the comparisons.

Assume that the​ client's internal controls over the recording and classifying of fixed asset additions are considered deficient because the individual responsible for recording new acquisitions has inadequate technical training and limited experience in accounting. How will this situation affect the evidence you should accumulate in auditing fixed assets as compared with another audit in which the controls are​ excellent? Be as specific as possible. ​(Select all answers that​ apply.)

A.

If the individual responsible for recording new acquisitions is known to have inadequate training and limited experience in​ accounting, the sample size for the audit procedures should be expanded to include a larger sample of the additions for the year. In​ addition, inquiry as to what additions were made during the year may be made by the auditor of plant​ managers, the​ controller, or other operating personnel.

B.

The audit of fixed asset additions normally involves the examination of invoices in support of the additions and possibly the physical examination of the additions. These procedures are normally performed on a test basis with a concentration on the more significant additions.

C.

The auditor should search the financial records to determine that the additions were recorded as fixed assets. Care should also be taken when the repairs and maintenance expense account is analyzed since lack of training may cause some depreciable assets to be expensed at the time of acquisition.

D.

None of the above.

If the individual responsible for recording new acquisitions is known to have inadequate training and limited experience in​ accounting, the sample size for the audit procedures should be expanded to include a larger sample of the additions for the year. In​ addition, inquiry as to what additions were made during the year may be made by the auditor of plant​ managers, the​ controller, or other operating personnel.

The audit of fixed asset additions normally involves the examination of invoices in support of the additions and possibly the physical examination of the additions. These procedures are normally performed on a test basis with a concentration on the more significant additions.

The auditor should search the financial records to determine that the additions were recorded as fixed assets. Care should also be taken when the repairs and maintenance expense account is analyzed since lack of training may cause some depreciable assets to be expensed at the time of acquisition.

An​ auditor's decision either to apply analytical procedures as substantive tests or to perform substantive tests of transactions and account balances usually is determined by the

1.

timing of tests performed after the balance sheet date.

2.

relative effectiveness and efficiency of the tests.

3.

availability of data aggregated at a high level.

4.

​auditor's familiarity with industry trends.

relative effectiveness and efficiency of the tests.

The auditor faces a risk that the audit will not detect material misstatements that occur in the accounting process. To minimize this​ risk, the auditor relies primarily on

1.

substantive tests.

2.

statistical analysis.

3.

internal control.

4.

tests of controls.

substantive tests.

A conceptually logical approach to the​ auditor's evaluation of internal control consists of the following four​ steps:

I.

Determining the internal controls that should prevent or detect and correct errors and fraud.

II.

Identifying control deficiencies to determine their effect on the​ nature, timing, or extent of auditing procedures to be applied and suggestions to be made to the client.

III.

Determining whether the necessary internal control procedures are prescribed and are being followed satisfactorily.

IV.

Considering the types of errors and fraud that can occur.

What should be the order in which these four steps are​ performed?

1.

​IV, I,​ III, and II

2.

​I, III,​ IV, and II

3.

​I, II,​ III, and IV

4.

​III, IV,​ I, and II

IV, I,​ III, and II

To support the​ auditor's initial assessment of control risk below​ maximum, the auditor performs procedures to determine that internal controls are operating effectively. Which of the following audit procedures is the auditor​ performing?

1.

Tests of trends and ratios

2.

Tests of controls

3.

Tests of details of balances

4.

Substantive tests of transactions

Tests of controls

The primary objective of performing tests of controls is to obtain

1.

a reasonable degree of assurance that the​ client's internal controls are operating effectively on a consistent basis throughout the year.

2.

sufficient appropriate audit evidence to afford a reasonable basis for the​ auditor's opinion, without the need for additional evidence.

3.

knowledge and understanding of the​ client's prescribed procedures and methods.

4.

assurances that informative disclosures in the financial statements are reasonably adequate.

a reasonable degree of assurance that the​ client's internal controls are operating effectively on a consistent basis throughout the year.

Tests of controls are most likely to be omitted when

1.

the understanding of internal control indicates that evaluating the effectiveness of control policies and procedures is likely to be inefficient.

2.

the auditor wishes to increase the acceptable level of detection risk.

3.

control risk is assessed at less than the maximum.

4.

an account balance reflects many transactions.

the understanding of internal control indicates that evaluating the effectiveness of control policies and procedures is likely to be inefficient.

Tests of controls are most likely to be omitted when

1.

an account balance reflects many transactions.

2.

control risk is assessed at less than the maximum.

3.

the understanding of internal control indicates that evaluating the effectiveness of control policies and procedures is likely to be inefficient.

4.

the auditor wishes to increase the acceptable level of detection risk.

the understanding of internal control indicates that evaluating the effectiveness of control policies and procedures is likely to be inefficient.

The risk of material misstatement exists at two​ levels:

the overall financial statement level.

the assertion level for classes of transactions, account balances, and presentation and disclosures.

Describe the types of procedures that constitute risk assessment procedures. ​(Select all that​ apply.)

A.

Analytical procedures

B.

Discussion among the client management team members

C.

Inquiries of management and others within the entity

D.

Discussion among engagement team members

E.

Observation and inspection

F.

Perform tests of details of balances

Analytical procedures

Inquiries of management and others within the entity

Discussion among engagement team members

Observation and inspection

Which of the following circumstances most likely would cause the auditor to suspect that there are material misstatements in the​ entity's financial​ statements?

1.

The​ entity's management places no emphasis on meeting publicized earnings projections.

2.

Cash transactions are electronically processed and​ recorded, leaving no paper audit trail.

3.

Monthly bank reconciliations ordinarily include several large outstanding checks.

4.

Significant differences between the physical inventory count and the accounting records are not investigated.

Significant differences between the physical inventory count and the accounting records are not investigated.

Which of the following statements describes why a properly designed and executed audit may not detect a material misstatement in the financial statements resulting from​ fraud?

1.

Audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement that is concealed through collusion.

2.

The auditor did not consider factors influencing audit risk for account balances that have effects pervasive to the financial statements as a whole.

3.

An audit is designed to provide reasonable assurance of detecting material​ errors, but there is no similar responsibility concerning fraud.

4.

The factors considered in assessing control risk indicated an increased risk of intentional​ misstatements, but only a low risk of unintentional errors in the financial statements.

Audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement that is concealed through collusion.

Prior​ to, or in conjunction​ with, the​ information-gathering procedures for an​ audit, audit team members should discuss the potential for material misstatement due to fraud. Which of the following best characterizes the mindset that the audit team should maintain during this​ discussion?

1.

Presumptive

2.

Judgmental

3.

Questioning

4.

Criticizing

Questioning

Some account​ balances, such as those for pensions and​ leases, are the result of complex calculations. The susceptibility to material misstatements in these types of accounts is defined as

1.

audit risk.

2.

sampling risk.

3.

inherent risk.

4.

detection risk.

inherent risk.

The risk that an auditor will​ conclude, based on substantive​ tests, that a material error does not exist in an account balance​ when, in​ fact, such error does exist is referred to as

1.

control risk.

2.

detection risk.

3.

sampling risk.

4.

inherent risk.

detection risk.

Inherent risk and control risk differ from planned detection risk in that they

1.

exist independently of the financial statement audit.

2.

may be assessed in either quantitative or nonquantitative terms.

3.

arise from the misapplication of auditing procedures.

4.

can be changed at the​ auditor's discretion.

exist independently of the financial statement audit.

Which of the following does not increase the need for sufficient appropriate audit​ evidence?  

1.

An increase in the assessed control risk

2.

A lower acceptable level of detection risk

3.

A decrease in the assessed inherent risk

4.

A lower acceptable audit risk

A decrease in the assessed inherent risk

As lower acceptable levels of both audit risk and materiality are​ established, the auditor should plan more work on individual accounts to

1.

increase inherent risk in the accounts.

2.

find smaller misstatements.

3.

find larger misstatements.

4.

increase the performance materiality in the accounts.

find smaller misstatements.

An auditor may compensate for a high assessed level of control risk by increasing​ the:

1.

extent of tests of controls.

2.

level of detection risk.

3.

preliminary judgement of acceptable audit risk.

4.

extent of substantive tests.

extent of substantive tests.

Which of the following procedures would a CPA most likely perform during the planning stage of the​ audit?

1.

Confirm a sample of accounts receivable.

2.

Evaluate the significance of uncorrected misstatements.

3.

Determine areas where there is a higher risk of material misstatement.

4.

Evaluate the reasonableness of​ management's allowance for doubtful accounts.

Determine areas where there is a higher risk of material misstatement.

​Dan, CPA, has been engaged to audit Modern​ Home, a manufacturing company that specializes in furniture. Which of the following matters related to the year under audit would most likely result in an increase of inherent​ risk?

1.

The furniture industry has experienced an overall increase in demand.

2.

Modern Home experienced an increase in working capital.

3.

Modern Home purchased expensive new equipment in the current year.

4.

Modern Home recently engaged in a complex derivative transaction.

Modern Home recently engaged in a complex derivative transaction.

After making a preliminary assessment of the risk of material misstatement during planning and beginning to apply audit​ procedures, an auditor determines that this risk is actually higher than anticipated. Which would be the most likely effect of this finding on the​ auditor's desired level of detection risk and the overall level of audit​ risk, as compared to the levels originally​ planned?

1.

​​Auditor's Desired Level

of Detection Risk/Increase

Overall Level of Audit Risk/Same

2.

​Auditor's Desired Level

of Detection Risk/Decrease

Overall Level of Audit Risk/Lower

3.

​Auditor's Desired Level

of Detection Risk/Decrease

Overall Level of Audit Risk/Same

4.

​Auditor's Desired Level

of Detection Risk/Same

Overall Level of Audit Risk/Higher

​Auditor's Desired Level

of Detection Risk/Decrease

Overall Level of Audit Risk/Same

What sources are used by the auditor to gather information to assess fraud​ risk?

Sources​ include: ​(Select all that​ apply.)

A.

Assessment of​ management's risk factors in the preparation of the financial statements and management identifying and documenting factors to the auditor that they feel must be addressed.

B.

Knowledge obtained through other procedures such as client acceptance and retention​ decisions, interim review of financial​ statements, and consideration of inherent or control risks.

C.

Information obtained from communications among audit team members about their knowledge of the company and its​ industry, including how and where the company might be susceptible to material misstatements due to fraud.

D.

​Auditor's analytical procedures to determine the materiality of misappropriations of assets on the financial statements.

E.

Analytical procedures results obtained during planning that indicate possible implausible or unexpected analytical relationships.

Knowledge obtained through other procedures such as client acceptance and retention​ decisions, interim review of financial​ statements, and consideration of inherent or control risks.

Information obtained from communications among audit team members about their knowledge of the company and its​ industry, including how and where the company might be susceptible to material misstatements due to fraud.

Analytical procedures results obtained during planning that indicate possible implausible or unexpected analytical relationships.

Which action regarding fraud is an activity related to performance of risk assessment​ procedures?

1.

Document the results of procedures used to address the risk of fraud.

2.

Consider whether estimates prepared and recorded by management could indicate a bias in reporting.

3.

Discussions among the engagement team members regarding the risks of material misstatement due to fraud.

4.

Consider the characteristics of journal​ entries, particularly those made near year end.

Discussions among the engagement team members regarding the risks of material misstatement due to fraud.

Which of the following circumstances is most likely to cause an auditor to increase the assessment of the risk of material misstatement of the financial statements due to​ fraud?

1.

Property and equipment are usually sold at a loss before being fully depreciated.

2.

Unusual discrepancies exist between the​ entity's records and confirmation replies.

3.

Clerical errors are listed on a​ computer-generated exception report.

4.

Monthly bank reconciliations usually include several​ in-transit items.

Unusual discrepancies exist between the​ entity's records and confirmation replies.

Which of the following statements reflects an​ auditor's responsibility for detecting​ fraud?

1.

An auditor should plan the audit to detect fraud caused by departures from GAAP.

2.

An auditor should design the audit to provide reasonable assurance of detecting errors and fraud that are material to the financial statements.

3.

An auditor is not responsible for detecting fraud unless the application of auditing standards would result in such detection.

4.

An auditor is responsible for detecting employee errors and simple​ fraud, but not for discovering fraudulent acts involving employee collusion or management override.

An auditor should design the audit to provide reasonable assurance of detecting errors and fraud that are material to the financial statements.

The following questions concern auditor responsibilities related to the identification and assessment of fraud risk. Choose the best response.

While performing a preliminary assessment for a new client​ audit, the auditor determines that the client has had excessive growth over the past several years due to recent acquisitions and internal expansion. Through discussions with​ management, the auditor concludes that the​ company's operational staff is too lean and that internal controls in several operational functions may be currently insufficient to accommodate this rapid growth. About which of the following fraud risk factors related to the client would the auditor have the greatest​ concern?

1.

Opportunity

2.

​Rationalization/attitude

3.

​Incentives/pressures

4.

Inadequate organizational structure

Opportunity

Which one of the following is a true statement about the required fraud risk assessment​ discussion?

1.

The fraud risk assessment discussion should occur during the overall review stage of the audit.

2.

The discussion should include consideration of the risk of management override of controls.

3.

The discussion about the susceptibility of the​ entity's financial statements to material misstatement must be held separately from the discussion about the susceptibility of the​ entity's financial statements to fraud.

4.

The discussion should involve all members who participate on the audit​ team, including the engagement partner.

The discussion should include consideration of the risk of management override of controls.

Which of the following circumstances would most likely cause an auditor to suspect that there are material misstatements in an​ entity's financial​ statements?

1.

The​ entity's management strictly enforces its integrity and ethical values.

2.

Management outsources the internal audit function to another CPA firm.

3.

Monthly bank reconciliations ordinarily include several outstanding checks.

4.

The auditor identifies an inappropriate valuation method that is widely applied by the entity.

The auditor identifies an inappropriate valuation method that is widely applied by the entity.

What are the three ways auditors respond to fraud​ risks? ​(Select the three that​ apply.)

A.

Document all communications among audit team

B.

Design and perform audit procedures to analyze income smoothing

C.

Design and perform procedures to address management override of controls

D.

Change the overall conduct of the audit to respond to identified fraud risks

E.

Design and perform procedures to analyze earnings by management

F.

Perform analytical procedures

G.

Critical evaluation of audit evidence

H.

Design and perform audit procedures to address fraud risks

Design and perform procedures to address management override of controls

Change the overall conduct of the audit to respond to identified fraud risks

Design and perform audit procedures to address fraud risks

Describe the three main techniques used to manipulate revenue.

A.

Three main techniques use to manipulate revenue​ include: (1) ensuring the​ company's inventory is kept in one​ warehouse; (2) premature revenue recognition including techniques such as​ bill-and-hold sales and channel​ stuffing; and​ (3) the company enforcing separation of duties in critical areas.

B.

Three main techniques use to manipulate revenue​ include: (1) recording of fictitious​ revenue; (2) premature revenue recognition including techniques such as​ bill-and-hold sales and channel​ stuffing; and​ (3) manipulation of adjustments to revenue such as sales returns and allowance and other contra accounts.

C.

Three main techniques use to manipulate revenue​ include: (1) using one supplier for all purchases of inventory instead of multiple​ suppliers; (2) not keeping a bad debt account on the​ books; and​ (3) recording of fictitious revenue.

D.

Three main techniques use to manipulate revenue​ include: (1) manipulation of adjustments to revenue such as sales returns and allowance and other contra​ accounts; (2) using one supplier for all purchases of inventory instead of multiple​ suppliers; and​ (3) not keeping a bad debt account on the books.

B. Three main techniques use to manipulate revenue​ include: (1) recording of fictitious​ revenue; (2) premature revenue recognition including techniques such as​ bill-and-hold sales and channel​ stuffing; and​ (3) manipulation of adjustments to revenue such as sales returns and allowance and other contra accounts.

Which of the following internal controls will best detect the theft of valuable items from an inventory that consists of hundreds of different items selling for​ $1 to​ $10 and a few items selling for hundreds of​ dollars?

1.

Have an independent auditing firm examine and report on​ management's assertion about the design and operating effectiveness of the control activities relevant to inventory.

2.

Require an authorized​ officer's signature on all requisitions for the more valuable items.

3.

Have separate warehouse space for the more valuable​ items, with sequentially numbered tags.

4.

Maintain a perpetual inventory of only the more valuable​ items, with frequent periodic verification of the validity of the perpetual inventory records.

Maintain a perpetual inventory of only the more valuable​ items, with frequent periodic verification of the validity of the perpetual inventory records.

Cash receipts from sales on account have been misappropriated. Which of the following acts will conceal this embezzlement and be least likely to be detected by the​ auditor?

1.

Overstating the accounts receivable subsidiary records

2.

Understating the cash receipts journal

3.

Understating the sales journal

4.

Overstating the accounts receivable control account

Understating the sales journal