Audit Chapter 5

Which of the following is not a financial statement assertion made by management?

Existence of recorded assets and liabilities.

Completeness of recorded assets and liabilities.

Valuation of assets and liabilities.

Effectiveness of internal control.

effectiveness of internal control

Which of the following business characteristics is not indicative of high inherent risk?

Operating results that are highly sensitive to economic factors.

Large likely misstatements detected in prior audits.

Substantial turnover of management.

A large amount of assets.

A large amount of assets.

As part of their audit, auditors obtain a representation letter from their client. Which of the following is not a valid purpose of such a letter?

To increase the efficiency of the audit by eliminating the need for other audit procedures.

To remind the client's management of its primary responsibility for the financial statements.

To document in the audit working papers the client's responses to certain verbal inquiries made by the auditors during the engagement.

To provide evidence in those areas dependent upon management's future intentions.

To increase the efficiency of the audit by eliminating the need for other audit procedures.

Which of the following statements best describes why auditors investigate related party transactions?

Related party transactions generally are illegal acts.

The substance of related party transactions may differ from their form.

All related party transactions must be eliminated as a step in preparing consolidated financial statements.

Related party transactions are a form of management fraud.

The substance of related party transactions may differ from their form.

Of the following, which is the least reliable type of audit evidence?

Confirmations mailed by outsiders to the auditors.

Correspondence between the auditors and suppliers.

Copies of sales invoices inspected by the auditors.

Canceled checks returned in the year-end bank statement directly to the client.

Copies of sales invoices inspected by the auditors.

Analytical procedures are most likely to detect:

Weaknesses of a material nature in internal control.

Unusual transactions.

Noncompliance with prescribed control activities.

Improper separation of accounting and other financial duties.

Unusual transactions.

A primary purpose of the audit working papers is to:

Aid the auditors by providing a list of required procedures.

Provide a point of reference for future audit engagements.

Support the underlying concepts included in the preparation of the basic financial statements.

Support the auditors' opinion.

support the auditors' opinion

In what section of the audit working papers would a long-term lease agreement be filed?

Current working paper file.

Permanent working paper file.

Lead schedule file.

Corroborating documents file.

Permanent working paper files

Which of the following is not a function of audit working papers?

Assist management in illustrating that the financial statements are in accordance with generally accepted accounting principles.

Assist audit team members responsible for supervision in reviewing the work.

Assist auditors in planning future engagements.

Assist peer reviewers and inspectors in performing their roles.

Assist management in illustrating that the financial statements are in accordance with generally accepted accounting principles.

In using the work of a specialist, the auditors referred to the specialist's findings in their report. This would be an appropriate reporting practice if the:

Client is not familiar with the professional certification, personal reputation, or particular competence of the specialist.

Auditors, as a result of the specialist's findings, give a qualified opinion on the financial statements.

Client understands the auditors' corroborative use of the specialist's findings in relation to the representations in the financial statements.

Auditors, as a result of the specialist's findings, decide to indicate a division of responsibility with the specialist.

Auditors, as a result of the specialist's findings, give a qualified opinion on the financial statements.

A difference of opinion concerning accounting and auditing matters relative to a particular phase of the audit arises between an assistant auditor and the auditor responsible for the engagement. After appropriate consultation, the assistant auditor asks to be disassociated from the resolution of the matter. The working papers would probably:

Remain silent on the matter since it is an internal matter of the auditing firm.

Note that the assistant auditor is completely dissociated from responsibility for the auditors' opinion.

Document the additional work required because all disagreements of this type will require expanded substantive procedures.

Document the assistant auditor's position and how the difference of opinion was resolved.

Document the assistant auditor's position and how the difference of opinion was resolved.

Completeness

All assets have been recorded

Cutoff

transactions have been recorded in the correct accounting period

existence and occurrence

there is such an asset

presentation and disclosure

Assets are properly classified.

Rights and Obligations

The company legally owns the assets

valuation

Assets are recorded at proper amounts.

prepare a flowchart of internal control over sales

Risk assessment procedures (other than analytical procedures)

Calculate the ratio of bad debt expense to credit sales

analytical procedures

determine whether disbursements are properly approved

test of controls

confirm accounts receivables

test of details of account balances, transactions, or disclosures

Compare current financial information with comparable prior periods

analytical procedures

The risk of material misstatement is composed of the 3 components of audit risk

False

Risk of Material Misstatement = IR and DR

Inherent risk is the possibility of material misstatement before considering the client's internal control

True

less control risk means an increase in the risk of material misstatement

False

Detection risk does not exist when no audit is performed

True

Rather than restrict detection risk through the performance of more substantive procedures, auditors assess it.

False

Absent any other changes, an increase in the risk of material misstatement results in an increase in audit risk.

True

Audit risk refers to the possibility that the auditors may unknowingly fail to appropriately modify their opinion on financial statements that are materially or immaterially misstated

False

audit risk only refers to material misstatements

both IR and CR exist independently of the audit of FS

True

During financial statement audits, auditors seek to limit which type of risk?

Control risk

Inherent risk

Detection risk

The auditor attempts to restrict all of these risks

Detection Risk

Which of the following is not a substantive procedure?

Test of controls

These of details of transactions

Test of details of balances

Analytical procedures

Test of controls

Which of the following is not a primary approach to auditing an accounting estimate?

Review of management process of development

independent development of an estimate

confirmation of amounts

all of these are primary approaches to auditing an accounting estimate

Confirmation of amounts

The components of the risk of material misstatement are:

IR, CR, and DR

IR and CR

IR and DR

CR and DR

IR and CR

Which of the following statements is generally correct?

to be appropriate, audit evidence must be sufficient

appropriateness of audit evidence refers to the amount of corroborative evidence to be obtained

during FS audits, auditors attempt to reduce control risk

audit documentation in the working papers should be sufficient to allow an experienced auditor to understand the audit work performed

audit documentation in the working papers should be sufficient to allow an experienced auditor to understand the audit work performed

Which of the following is not an assertion relating to classes of transactions?

Valuation/Accuracy

Adequacy

Cutoff

Classification/Presentation ad Disclosure

Adequacy

Analytical procedures are required during what phases of the audit

risk assessment (planning), during the audit (substantive procedures), and competition (overall review)

risk assessment (planning) and during the audit (substantive procedures)

risk assessment (planning) and competition (overall review)

during the audit (substantive procedures) and competition (overall review)

risk assessment (planning) and competition (overall review)

To be effective, analytical procedures performed near the end of the audit should be performed by

The partner performing the quality review of the audit.

A beginning staff accountant who has had no other work related to the engagement.

A manager or partner who has a comprehensive knowledge of the client's business and industry.

The CPA firm's quality control manager.

A manager or partner who has a comprehensive knowledge of the client's business and industry.

The components of the risk of misstatement are:

Inherent Risk

Control Risk

Detection Risk

A. Yes Yes Yes

B. Yes Yes No

C. Yes No No

D No Yes Yes

B

Financial statement assertions are established for classes of transactions:

Account Balances Disclosures

A. Yes Yes

B. Yes Yes

C. Yes No

D. No Yes

A

Further audit procedures include:

Risk assessment procedures

Tests of controls

A. Yes Yes

B. Yes No

C. No Yes

D. No No

C

Assertions that have a meaningful bearing on whether an account balance, transaction class, or disclosure is fairly stated are referred to as:

Appropriate assertions.

Sufficient assertions.

Relevant assertions.

Reliable assertions

Relevant assertion

Which of the following is not an assertion relating to classes of transactions?

Accuracy.

c

Cutoff.

Classification.

Adequacy.

Audit documentation is intended to allow ___________ to understand the audit work performed, the evidence obtained, and the significant conclusions.

a certified public accountant

the general public

an experienced auditor

the controller at the company being audited

an experienced auditor

Which of the following is not considered to be an analytical procedure?

Comparisons of financial statement amounts with source documents.

Comparisons of financial statement amounts with nonfinancial data.

Comparisons of financial statement amounts with budgeted amounts.

Comparisons of financial statement amounts with comparable prior year amounts.

Comparisons of financial statement amounts with source documents.

Applying substantive tests to the details of asset and liability accounts as of an interim date, rather than as of the balance sheet date:

Eliminates the use of certain statistical sampling methods that would otherwise be available.

Presumes that the auditor will reperform the tests as of the balance sheet date.

Should be especially considered when there are rapidly changing economic conditions.

Potentially increases the risk that errors which exist at the balance sheet date will not be detected.

Potentially increases the risk that errors which exist at the balance sheet date will not be detected.

Comparing the current-year gross margin with the prior-year gross margin to determine if cost of sales is reasonable during an audit would be a type of:

Test of transactions.

Analytical procedure.

Test of controls.

Test of details.

Analytical procedure.

The inspection of a vendor's invoice by the auditors is:

Direct evidence about occurrence of a transaction.

Physical evidence about occurrence of a transaction.

Documentary evidence about occurrence of a transaction.

Part of the client's accounting system.

Documentary evidence about occurrence of a transaction.

The auditors of Smith Electronics wish to limit the audit risk of material misstatement in the test of accounts receivable to 5 percent. They believe that inherent risk is 100%, and there is a 40% risk that material misstatement could have bypassed the client's system of internal control. What is the maximum detection risk the auditors should specify in their substantive procedures of details of accounts receivable?

5%.

12.5%.

42.7%.

60%.

12.5%

Analytical procedures are required at the risk assessment stage and as:

Tests of internal control.

Substantive procedures.

Procedures near the end of the audit.

Computer generated procedures.

Procedures near the end of the audit.

During financial statement audits, auditors seek to restrict which type of risk?

Control risk.

Detection risk.

Inherent risk.

Account risk.

Detection Risk

Which of the following groups are not considered a specialist by AICPA Professional Standards?

Appraisers.

Internal auditors.

Engineers.

Geologists.

Internal auditors.

A CPA wishes to use a representation letter as a substitute for performing other audit procedures. Doing so:

Violates professional standards.

Is acceptable, but should only be done when cost justified.

Is acceptable, but only for non-public clients.

Is acceptable and desirable under all conditions.

Violates professional standards.

Which of the following best describes the problem with the use of published industry averages for analytical procedures?

Lack of comparability.

Lack of sufficiency.

Lack of accuracy.

Lack of availability.

Lack of comparability.

In auditing an asset valued at fair value, which of the following potentially provides the auditor with the strongest evidence?

A price for a similar asset obtained from an active market.

An appraisal obtained discounting future cash flows.

Management's judgment of the cost to purchase an equivalent asset.

The historical cost of the asset.

A price for a similar asset obtained from an active market.

An auditor should expect that fair value is the price that would be received to sell an asset in an orderly transaction between the market participants at the:

Acquisition date of the asset.

Audit report date.

Expected replacement date of the asset.

Measurement date (ordinarily the date of the financial statements).

Measurement date (ordinarily the date of the financial statements).

Which of the following best describes the reason that auditors are concerned with the detection of related party transactions?

The financial statements must often be adjusted for the effects of material related party transactions.

Material related party transactions must be disclosed in the notes to the financial statements.

The substance of related party transactions will differ from their form.

In a related party transaction one party has the ability to exercise significant influence over the other party.

Material related party transactions must be disclosed in the notes to the financial statements.

Which of the following is not a basic procedure used in an audit?

Risk assessment procedures.

Substantive procedures.

Tests of controls.

Tests of direct evidence.

Tests of direct evidence.

Which of the following is not a financial statement assertion relating to account balances?

Completeness.

Existence.

Rights and obligations.

Recorded value and discounts.

Recorded value and discounts.

Which of the following is generally true about the sufficiency of audit evidence?

The amount of evidence that is sufficient varies directly with the acceptable risk of material misstatement.

The amount of evidence concerning a particular account varies inversely with the materiality of the account.

The amount of evidence concerning a particular account varies inversely with the inherent risk of the account.

When evidence is appropriate with respect to an account it is also sufficient.

The amount of evidence that is sufficient varies directly with the acceptable risk of material misstatement.

Which of the following is true about analytical procedures?

Performing analytical procedures results in the most reliable form of evidence.

Analytical procedures are tests of controls used to evaluate the quality of a client's internal control.

Analytical procedures are used for planning, but they should not be used to obtain evidence as to the reasonableness of specific account balances.

Analytical procedures are used in risk assessment, as a substantive procedure for specific accounts, and near the completion of the audit of the audited financial statements.

Analytical procedures are used in risk assessment, as a substantive procedure for specific accounts, and near the completion of the audit of the audited financial statements.

Which of the following is a basic approach often used by auditors to evaluate the reasonableness of accounting estimates?

Confirmation.

Observation.

Reviewing subsequent events or transactions.

Analyzing corporate organizational structure.

Reviewing subsequent events or transactions.

An auditor is performing an analytical procedure that involves comparing a client's account balances over time. This technique is referred to as:

Vertical analysis.

Horizontal analysis.

Cross-sectional analysis.

Comparison analysis.

Horizontal analysis.

An auditor is performing an analytical procedure that involves comparing a client's ratios with other companies in the same industry. This technique is referred to as:

Vertical analysis.

Horizontal analysis.

Cross-sectional analysis.

Comparison analysis.

Cross-sectional analysis.

An auditor is performing an analytical procedure that involves developing common-size financial statements. This technique is referred to as:

Vertical analysis.

Horizontal analysis.

Cross-sectional analysis.

Comparison analysis.

Vertical analysis.

Which of the following is not a basic approach often used by auditors to evaluate the reasonableness of accounting estimates?

Observation of procedures.

Review of management's process of development.

Independent development of an estimate.

Review of subsequent events.

Observation of procedures.

The internal control flowchart is an example of:

A supporting schedule.

An administrative working paper.

A lead schedule.

working paper

A schedule set up to combine similar general ledger accounts, the total of which appears on the working trial balance as a single amount, is referred to as a:

Supporting schedule.

Lead schedule.

Corroborating schedule.

Reconciling schedule.

Lead schedule

Which of the following is not a function of working papers?

Provide support for the auditors' report.

Provide support for the accounting records.

Aid partners in planning and conducting future audits.

Document staff compliance with generally accepted auditing standards.

Provide support for the accounting records.

A schedule listing account balances for the current and previous years, and columns for adjusting and reclassifying entries proposed by the auditors to arrive at the final mount that will appear in the financial statement, is referred to as a:

Working trial balance.

Lead schedule.

Summarizing schedule.

Supporting schedule.

Working trial balance

the auditors use analytical procedures during the course of an audit. The most important phase of performing these procedures is the:

Vouching of all data supporting various ratios.

Investigation of significant variations and unusual relationships.

Comparison of client-computed statistics with industry data on a quarterly and full-year basis.

Recalculation of industry date.

Investigation of significant variations and unusual relationships.

Auditors must obtain written client representations that typically should be signed by:

The president and the chairperson of the board.

The treasurer and the internal auditor.

The chief executive officer and the chief financial officer.

The corporate counsel and the audit committee chairperson.

The chief executive officer and the chief financial officer.

What ultimately determines the specific audit procedures necessary to provide independent auditors with a reasonable basis for the expression of an opinion?

The audit time budget.

The auditors' judgment.

Generally accepted accounting quality standards.

The auditors' working papers.

The auditors' judgment.

Auditors can mitigate risk, like the failure to detect material dollar errors in the financial statements, by doing what?

Performing substantive procedures.

Performing tests of controls.

Assessing control risk.

Obtaining a client representation letter.

Performing substantive procedures.

An independent auditor finds that the Simmer Corporation purchased land owned by an officer of the company for an amount in excess of its asking price. This finding indicates the existence of:

Management fraud.

Related party transactions.

Window dressing.

Weak internal control.

Related party transactions.

Which transaction would not necessarily be considered a related party transaction?

Payment of a bonus to the president.

Purchases from another corporation that is controlled by the corporation's chief stockholder.

Loan from the corporation to a major stockholder.

Sale of land to the corporation by the spouse of a director.

Payment of a bonus to the president.

the management representation letter date should coincide with the:

Date of the auditor's report.

Balance sheet date.

Date of the latest subsequent event referred to in the notes to the financial statements.

Date of the engagement agreement.

Date of the auditor's report.

An analytical procedure example is the comparison of:

Financial ratios of the current year to previous years.

Recorded amounts of major disbursements with appropriate invoices.

Results of a statistical sample with the expected characteristics of the actual population.

EDP generated data with similar data generated by a manual accounting system.

Financial ratios of the current year to previous years.

When using management's written representations as audit evidence about the completeness assertion, an auditor should consider that such representations:

Complement, but do not replace, substantive procedures designed to support the assertion.

Constitute sufficient evidence to support the assertion when considered in combination with a moderate assessed level of control risk.

Are generally sufficient audit evidence to support the assertion regardless of the assessed level of control risk.

Replace the assessed level of control risk as evidence to support the assertions.

Complement, but do not replace, substantive procedures designed to support the assertion.

Which of the following is least likely to be included in a client's representation letter?

No events have occurred subsequent to the balance sheet date that require adjustment to, or disclosure in, the financial statements.

The company has complied with all aspects of contractual agreements that would have a material effect on the financial statements in the event of noncompliance.

Management acknowledges responsibility for illegal actions committed by employees.

Management has made available all financial statements, including notes.

Management acknowledges responsibility for illegal actions committed by employees.

which of the following statements regarding audit evidence is generally correct?

The auditor's direct personal knowledge, obtained through observation and inspection, is more persuasive than information obtained indirectly from independent outside sources.

To be appropriate, audit evidence must be sufficient.

Accounting data alone may be considered sufficient appropriate audit evidence to issue an unqualified opinion on financial statements.

Appropriateness of audit evidence refers to the amount of corroborative evidence to be obtained.

The auditor's direct personal knowledge, obtained through observation and inspection, is more persuasive than information obtained indirectly from independent outside sources.

Which of the following is the most accurate statement regarding audit evidence?

Audit evidence gathered by an auditor from outside an enterprise is reliable.

Accounting data developed under satisfactory conditions of internal control are more relevant than data developed under unsatisfactory internal control conditions.

Oral representations made by management are not valid evidence.

The auditor must obtain sufficient appropriate audit evidence.

The auditor must obtain sufficient appropriate audit evidence.

Which procedure is not a typical analytical procedure?

Study of relationships of the financial information with relevant nonfinancial information.

Comparison of the financial information with similar information regarding the industry in which the entity operates.

Comparison of recorded amounts of major disbursements with appropriate invoices.

Comparison of the financial information with budgeted amounts.

Comparison of recorded amounts of major disbursements with appropriate invoices.

Which of the following is not a primary purpose of audit working papers?

To coordinate the examination.

To assist in preparation of the audit report.

To decrease the need for substantive procedures.

To provide evidence of the audit work performed.

To decrease the need for substantive procedures.

Concerning retention of working papers, the Sarbanes-Oxley Act:

Has no provisions.

Requires permanent retention.

Requires retention for at least 7 years.

Requires retention for a period of 4 or less years.

Requires retention for at least 7 years.

During an audit, the working papers are primarily considered to be:

A client-owned record of conclusions reached by the auditors who performed the engagement.

Evidence supporting financial statements.

Support for the auditors' representations as to compliance with generally accepted auditing standards.

A record to be used as a basis for the following year's engagement.

Support for the auditors' representations as to compliance with generally accepted auditing standards.

Even though the quantity, type, and content of working papers will vary, the working papers generally would include:

Copies of those client records examined by the auditor during the course of the engagement.

An evaluation of the efficiency and competence of the audit staff assistants by the partner responsible for the audit.

Auditor's comments concerning the efficiency and competence of client management personnel.

Auditing procedures followed and the testing performed in obtaining audit evidence.

Auditing procedures followed and the testing performed in obtaining audit evidence.

the permanent file section of the working papers that is retained for each audit client most likely contains:

Review notes pertaining to questions and comments regarding the audit work performed.

A schedule of time spent on the engagement by each individual auditor.

Correspondence with the client's legal counsel concerning pending litigation.

Narrative descriptions of the client's accounting procedures and controls.

Narrative descriptions of the client's accounting procedures and controls.

Working papers used by the auditor that record the procedures used to gather evidence should be:

Considered the primary support for the financial statements being examined.

Viewed as the connecting link between the books of account and the financial statements.

Designed to meet the circumstances of the particular engagement.

Destroyed when the audited entity ceases to be a client.

Designed to meet the circumstances of the particular engagement.

In general, which of the following statements is correct with respect to ownership, possession, or access to working papers prepared by a CPA firm in connection with an audit?

The working papers may be obtained by third parties where they appear to be relevant to issues raised in litigation.

The working papers are subject to the privileged communication rule which, in a majority of jurisdictions, prevents third-party access to the working papers.

The working papers are the property of the client after the client pays the fee.

The working papers must be retained by the CPA firm for a period of ten years.

The working papers may be obtained by third parties where they appear to be relevant to issues raised in litigation.

Confirmation would be most effective in addressing the existence assertion for the:

Addition of a milling machine to a machine shop.

Payment of payroll during regular course of business.

Inventory held on consignment.

Granting of a patent for a special process developed by the organization.

Inventory held on consignment.

An auditor performs analytical procedures that involve comparing the gross margins of various divisional operations with those of other divisions and with the individual division's performance in previous years. The auditor notes a significant increase in the gross margin at one division. The auditor does some preliminary investigation and also notes that there were no changes in products, production methods, or divisional management during the year. Based on the above information, the most likely cause of the increase in gross margin would be:

An increase in the number of competitors selling similar products.

A decrease in the number of suppliers of the material used in manufacturing the product.

An overstatement of year-end inventory.

An understatement of year-end accounts receivable.

An overstatement of year-end inventory.

Management has centralized purchasing and uses a model based upon previous year's sales with adjustments for trends in the market place (e.g., the trend to more casual shoes). A staff auditor has suggested that the centralized purchasing may be one of the reasons for the lower level of profitability in the Mid-Central Region. Which of the following would be the best single audit procedure to address the staff auditor's assertion?

Take a sample of receiving documents at stores and trace to purchase orders to determine the length of time between the purchase and delivery of the goods.

Interview store managers in the Mid-Central Region to determine their attitude toward centralized purchasing.

Perform an inventory count at selected stores in the Mid-Central Region and determine if adjustments are needed to the perpetual records.

Perform a product-line analysis of sales and purchases in the Mid-Central Region and compare with other regions.

Perform a product-line analysis of sales and purchases in the Mid-Central Region and compare with other regions.

What type of transactions ordinarily have high inherent risk because they involve management judgments or assumptions in formulating accounting balances?

Estimation.

Nonroutine.

Qualified.

Routine.

Estimation.

Assertions with high inherent risk are least likely to involve:

Complex calculations.

Difficult accounting issues.

Routine transactions.

Significant judgment by management.

Routine transactions.

The date on which no information may be deleted from audit documentation is the

Client's year-end.

Documentation completion date.

Last date of significant fieldwork.

All of these are incorrect in that no information may ever be deleted from audit documentation.

Documentation completion date.

In evaluating an entity's accounting estimates, one of the auditor's objectives is to determine whether the estimates are

Prepared in a satisfactory control environment.

Consistent with industry guidelines.

Based on verifiable objective assumptions.

Reasonable in the circumstances.

Reasonable in the circumstances.

In obtaining sufficient appropriate audit evidence, the work of which type or types of specialists may be relied upon?

Client Engaged Auditor Engaged

A. Yes Yes

B. Yes No

C. No Yes

D. No No

A

Which of the following is most likely to be considered an analytical procedure?

Testing purchases at year-end to determine they were recorded in the proper period.

Comparing inventory balances to recent sales activities.

Selecting a sample of year-end receivables for confirmation.

Reconciling physical counts of inventory to perpetual records.

Comparing inventory balances to recent sales activities.

An unexpected economic downturn is likely to have which effect on inventory turnover.

Increase.

Decrease.

No effect.

Each of these replies is equally likely.

Decrease.