Auditing Multiple Choice - Mid-term #2

1. In assessing whether to accept a client for an audit engagement, a CPA should consider Client Business Risk Acceptable Audit Risk

Yes, Yes

Yes, No

No, Yes

No, No

LO #8-2

Explanation

LO #8-2

2. Which of the following will most likely indicate the existence of related parties?

Writing down obsolete inventory prior to year end.

Failing to correct weaknesses in the client’s internal control.

An unexplained increase in gross margin.

Borrowing money at a rate significantly below the market rate.

LO 8-1, 8-3

Explanation

LO 8-1, 8-3

3. In considering materiality for planning purposes, an auditor believes that misstatements aggregating $10,000 will have material effect on an entity’s income statement, but that misstatements will have to aggregate $20,000 to materially effect the balance sheet. Ordinarily, it is appropriate to design audit procedures that are expected to detect misstatements that aggregate

$ 10,000

$ 15,000

$ 20,000

$ 25,000

LO #9-1, 9-2

Explanation

LO #9-1, 9-2

4. Which of the following documents best illustrates the concept of sampling risk?

The documents related to the chosen sample may not be available to the auditor for inspection.

An auditor may fail to recognize errors in the documents from the sample.

A randomly chosen sample may not be representative of the population as a whole for the characteristic of interest.

An auditor may select audit procedures that are not appropriate to achieve the specific objective.

LO #15-1, 15-2

Explanation

LO #15-1, 15-2

5. Which of the following is an effective audit planning procedure that helps prevent misunderstandings and inefficient use of audit personnel?

Arrange to make copies, for inclusion in the audit files, of those client supporting documents examined by the auditor.

Arrange to provide the client with copies of the audit programs to be used during the audit.

Arrange a preliminary conference with the client to discuss audit objectives, fees, timing, and other information.

Arrange to have the auditor prepare and post any necessary adjusting or reclassification entries prior to final closing.

LO 8-1, 8-3

Explanation

LO 8-1, 8-3

6. 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?

Tests of details of balances

Substantive tests of transactions

Tests of controls

Tests of trends and ratios

LO #13-1

Explanation

LO #13-1

7. For all audits of financial statements made in accordance with generally accepted auditing standards, the use of analytical procedures is required to some extent In the Planning Stage As a Substantive Test In the Completion Stage

Yes, No, Yes

No, Yes, No

No, Yes, Yes

Yes, No, No

LO #8-5, 8-6, 8-7, 8-8

Explanation

LO #8-5, 8-6, 8-7, 8-8

8. The primary objective of performing tests of controls is to obtain

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

Sufficient, appropriate audit evidence to afford a reasonable basis for the auditor’s opinion, without the need for additional evidence.

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

Knowledge and understanding of the client’s prescribed procedures and methods.

LO #13-1

Explanation

LO #13-1

9. When approached to perform an audit for the first time, the CPA should make inquiries of the predecessor auditor. This is a necessary procedure because the predecessor may be able to provide the successor with information that will assist the successor in determining whether

The predecessor’s work should be used.

The company follows the policy of rotating its auditors.

In the predecessor’s opinion internal control of the company has been satisfactory.

The engagement should be accepted.

LO #8-2

Explanation

LO #8-2

10. Which one of the following statements is correct concerning the concept of materiality?

Materiality is determined by reference to guidelines established by the AICPA.

Materiality depends only on the dollar amount of an item relative to other items in the financial statements.

Materiality depends on the nature of an item rather than the dollar amount.

Materiality is a matter of professional judgment.

LO #9-1, 9-2

Explanation

LO #9-1, 9-2

11. The concept of materiality will be least important to the CPA in determining the

Scope of the audit for specific accounts.

Specific transactions that should be reviewed.

Effects of audit exceptions upon the opinion.

Effects of the CPA’s direct financial interest in a client upon the CPA’s independence.

LO #9-1, 9-2

Explanation

LO #9-1, 9-2

12. Edison Corporation has a few large accounts receivable that total $1,400,000. Victor Corporation has a great number of small accounts receivable that also total $1,400,000. The importance of a misstatement in any one account is therefore greater for Edison than for Victor. This is an example of the auditor’s concept of

Materiality.

Comparative analysis.

Reasonable assurance.

Relative risk.

LO #9-1, 9-6, 9-8

Explanation

LO #9-1, 9-6, 9-8

13. Based on evidence gathered and evaluated, an auditor decides to increase the assessed level of control risk from that originally planned. To achieve an overall audit risk control level that is substantially the same as the planned audit control risk, the auditor could

Decrease detection risk.

Increase materiality levels.

Decrease substantive testing.

Increase inherent risk.

LO #9-1 9-2, 9-5, 9-6, 9-8

Explanation

LO #9-1 9-2, 9-5, 9-6, 9-8

14. A successor would most likely make specific inquiries of the predecessor auditor regarding

Specialized accounting principles of the client’s industry.

The competency of the client’s internal audit staff.

The uncertainty inherent in applying sampling procedures.

Disagreements with management as to auditing procedures.

LO #8-2

Explanation

LO #8-2

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

Arise from the misapplication of auditing procedures.

May be assessed in either quantitative or nonquantitative terms.

Exist independently of the financial statement audit.

Can be changed at the auditor’s discretion.

LO #9-1 9-2, 9-5, 9-6, 9-8

Explanation

LO #9-1 9-2, 9-5, 9-6, 9-8

16. What is the independent auditor’s principal purpose for obtaining an understanding of internal control and assessing control risk in a financial statement audit?

To comply with generally accepted accounting principles.

To obtain a measure of assurance of management’s efficiency.

To maintain a state of independence in mental attitude during the audit.

To determine the nature, timing, and extent of subsequent audit work.

LO #10-1, 10-2, 10-7

Explanation

LO #10-1, 10-2, 10-7

17. Which of the following is ordinarily considered a test of control audit procedures?

Sending confirmation letters to banks.

Counting and listing cash on hand.

Examining signatures on checks.

Preparing reconciliations of bank accounts as of the balance sheet date.

LO #13-1

Explanation

LO #13-1

18. Company personnel account for the sequence of shipping documents and verify that an entry for each shipment is included in the sales journal. This control relates most directly to the sales transaction-related audit objective of

Occurrence.

Accuracy.

Completeness.

Timing.

LO #14-3, 14-4, 14-5, 14-6

Explanation

LO #14-3, 14-4, 14-5, 14-6

19. Which audit procedure is most effective in testing credit sales for overstatement?

Trace a sample of postings from the sales journal to the sales account in the general ledger.

Vouch a sample of recorded sales from the sales journal to shipping documents.

Prepare an aging of accounts receivable.

Trace a sample of initial sales orders to sales recorded in the sales journal.

LO #14-1, 14-3

Explanation

LO #14-1, 14-3

20. An advantage of statistical sampling over nonstatistical sampling is that statistical sampling helps an auditor

Minimize the failure to detect errors and fraud.

Eliminate the risk of nonsampling errors.

Design more effective audit procedures.

Measure the sufficiency of the audit evidence by quantifying sampling risk.

LO #15-1, 15-2

Explanation

LO #15-1, 15-2

21. Which of the following most accurately describe the auditor’s responsibilities for reporting on internal control required by PCAOB standards? The auditor tested

Controls solely related to the reliability of financial reporting objective.

Controls related to the compliance with laws and regulations objective.

LO #10-1, 10-2, 10-7

Explanation

LO #10-1, 10-2, 10-7

22. 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

Substantive tests.

Test of controls.

Internal control.

Statistical analysis.

LO #13-1, 13-5, 13-7

Explanation

LO #13-1, 13-5, 13-7

23. From a random sample of items listed from a client’s inventory count, an auditor estimates with a 90% confidence level that the CUER is between 4% and 6%. The auditor’s major concern is that there is one chance in twenty that the true exception rate in the population is

More than 6%.

Less than 6%.

More than 4%.

Less than 4%.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

24. Which of the following statements about tests of controls is most accurate?

Auditing procedures cannot concurrently provide both evidence of the effectiveness of internal control procedures and evidence required for substantive tests.

Tests of controls include observations of the proper segregation of duties.

Tests of controls provide direct evidence about monetary misstatements in transactions.

LO #13-1

Explanation

LO #13-1

25. Analytical procedures may be classified as being primarily

Tests of controls.

Substantive tests.

Tests of ratios.

Tests of details of balances.

LO #13-1, 13-5, 13-7

Explanation

LO #13-1, 13-5, 13-7

26. 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 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?

I, II, III, and IV

I, III, IV, and II

III, IV, I, and II

IV, I, III, and II

LO #13-1, 13-5, 13-7

Explanation

LO #13-1, 13-5, 13-7

27. Which of the following is least likely to be comparable between similar corporations in the same industry line of business?

Accounts Receivable turnover

Earnings per Share

Gross Profit percent

Return on Assets before interest and taxes

LO #8-5, 8-6, 8-7, 8-8

Explanation

LO #8-5, 8-6, 8-7, 8-8

28. In general, an internal control deficiency may be defined as a condition under which misstatements would ordinarily not be detected within a timely period by

An auditor during the typical obtaining of an understanding of internal control and assessment of control risk.

A controller when reconciling accounts in the general ledger.

Employees in the normal course of performing their assigned functions.

The chief financial officer when reviewing interim financial statements.

LO #10-5, 10-7

Explanation

LO #10-5, 10-7

29. 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 us substantially the same as the planned audit risk level (AAR), the auditor will

Increase inherent risk.

Increase materiality levels.

Decrease substantive testing.

Decrease planned detection risk.

LO #10-5, 10-6, 10-8

Explanation

LO #10-5, 10-6, 10-8

30. In planning a statistical sample for tests of controls, an auditor increases the expected population exception rate from the prior year’s rate because of the results of the prior year’s tests of controls. As a result, the auditor will most likely increase the planned

Tolerable exception rate.

Allowance for sampling risk.

Acceptable risk of assessing control risk too low.

Sample size.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

31. When auditing related party transactions, an auditor places primary emphasis on

Confirming the existence of the related parties.

Verifying the valuation of related party transactions.

Evaluating the disclosure of the related party transactions.

Ascertaining the rights and obligations of the related parties.

LO 8-1, 8-3

Explanation

LO 8-1, 8-3

32. Which of the following elements ultimately determines the specific auditing procedures that are necessary in the circumstances to afford a reasonable basis for an opinion?

Auditor judgment

Materiality

Inherent risk

Reasonable assurance

LO #9-1, 9-6, 9-8

Explanation

LO #9-1, 9-6, 9-8

33. A material weakness in internal control represents a control deficiency that

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

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

Exists because a necessary control is missing or not properly defined.

Reduces the efficiency and effectiveness of the entity’s operations.

LO #10-5, 10-7

Explanation

LO #10-5, 10-7

34. An auditor is performing substantive test of transactions for sales. One step is to trace a sample of debit entries from the accounts receivable master file back to the supporting duplicate sales invoices. What will the auditor intend to establish by this step?

Sales invoices represent existing sales.

All sales have been recorded.

All sales invoices have been correctly posted to customer accounts.

Debit entries in the accounts receivable master file are correctly supported by sales invoices.

LO #14-1, 14-3

Explanation

LO #14-1, 14-3

35. When an auditor issues an unqualified opinion about internal control over financial reporting for a public company, the auditor has obtained reasonable assurance that

The likelihood of fraud is minimal.

There are no control deficiencies.

Internal control over financial reporting is operating effectively.

The financial statements are fairly presented in all material aspects.

LO #10-1, 10-2, 10-7

Explanation

LO #10-1, 10-2, 10-7

36. When a nonpublic company auditor’s tests of controls identify deficiencies in internal control over financial reporting, the auditor

Must communicate to management all deficiencies identified.

Must communicate both significant deficiencies and material weaknesses to those charged with governance.

May communicate orally or in writing to the board all significant deficiencies and material weaknesses identified.

Must issue an adverse opinion on the financial statements.

LO #10-5, 10-7

Explanation

LO #10-5, 10-7

37. When a customer fails to include a remittance advice with a payment, it is common for the person opening the mail to prepare one. Consequently, mail should be opened by which of the four company employees?

Credit manager

Sales manager

Accounts receivable clerk

Receptionist

LO #14-3, 14-4, 14-5, 14-6

Explanation

LO #14-3, 14-4, 14-5, 14-6

38. Which of the following controls most likely will be effective in offsetting the tendency of sales personnel to maximize sales volume at the expense of high bad debt write-offs?

Employees responsible for authorizing sales and bad debt write-offs are denied access to cash.

Employees involved in the credit-granting function are separated from the sales function.

Subsidiary accounts receivable records are reconciled to the control account by an employee independent of the authorization of credit.

LO #14-3, 14-4

Explanation

LO #14-3, 14-4

39. When using the work of a specialist, the auditor may identify and refer to the specialist in the auditor’s report if the

Auditor expresses a qualified opinion as a result of the specialist’s findings.

Specialist is not independent of the client.

Auditor wishes to indicate a division of responsibility.

Specialist’s work provides the auditor greater assurance of reliability.

LO 8-1, 8-3

Explanation

LO 8-1, 8-3

40. Analytical procedures used in planning an audit should focus on identifying

Material weaknesses of internal control.

The predictability of financial data from individual transactions.

The various assertions that are embodied in the financial statements.

Areas that may represent specific risks relevant to the audit.

LO #8-5, 8-6, 8-7, 8-8

Explanation

LO #8-5, 8-6, 8-7, 8-8

41. A manufacturing company received a substantial sales return in the last month of the year, but the credit memorandum for the return was not prepared until after the auditors had completed their testing. The returned merchandise was included in the physical inventory. Select the control that should have prevented the misstatement.

Aged trial balance of accounts receivable is prepared.

Credit memoranda are prenumbered and all numbers are accounted for.

A reconciliation of the trial balance of customers’ accounts with the general ledger control is prepared periodically.

Receiving reports are prepared for all materials received and such reports are account for on a regular basis.

LO #14-3, 14-4

Explanation

LO #14-3, 14-4

42. The auditor looks for an indication on duplicate sales invoices to see whether the invoices have been verified. This is an example of a. b. c. d.

A test of details of balances.

A test of control.

A substantive test of transactions.

Both a test of control and a substantive test of transactions.

LO #13-1, 13-5, 13-7

Explanation

LO #13-1, 13-5, 13-7

43. If all other factors specified in a sampling plan remain constant, changing the ARACR from 10% to 50% will cause the required sample size to

Increase.

Remain the same.

Decrease.

Become indeterminate.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

44. An auditor who uses statistical sampling for attributes in testing internal controls should reduce the planned reliance on a prescribed control when the

Sample exception rate plus the allowance for sampling risk equals the tolerable rate.

Sample exception rate is less than the expected rate of exception used in planning the sample.

Tolerable rate less the allowance for sampling risk exceeds the sample exception rate.

Sample exception rate plus the allowance for sampling risk exceeds the tolerable rate.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

45. When considering internal control, an auditor must be aware of the concept of reasonable assurance, which recognizes that the

Employment of competent personnel provides assurance that management’s control objectives will be achieved.

Establishment and maintenance of internal control is an important responsibility of management and not of the auditor.

Cost of internal control should not exceed the benefits expected to be derived therefrom.

Separation of incompatible functions is necessary to ascertain that the internal control is effective.

LO #10-1, 10-2, 10-7

Explanation

LO #10-1, 10-2, 10-7

46. If all other factors specified in a sampling plan remain constant, changing the TER from 8% to 12% will cause the required sample size to a. increase. b. remain the same. c. decrease. d. become indeterminate.

Increase.

Remain the same.

Decrease.

Become indetermnate.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

47. For which of the following tests would an auditor most likely use attribute sampling? a. b. c.

Selecting accounts receivable for confirmation of account balances.

Inspecting employee time cards for proper approval by supervisors.

Making an independent estimate of the amount of a LIFO inventory.

Examining invoices in support of the valuation of fixed asset additions.

LO #15-1, 15-2

Explanation

LO #15-1, 15-2

48. Copies of sales invoices show different unit prices for apparently identical items. Select the control that should have prevented the misstatement.

All sales invoices are checked as to all details after their preparation.

Differences reported by customers are satisfactorily investigated.

Statistical sales data are compiled and reconciled with recorded sales.

All sales invoices are compared with the customers’ purchase orders.

LO #14-3, 14-4

Explanation

LO #14-3, 14-4

49. A key internal control in the sales and collection cycle is the separation of duties between cash handling and record keeping. The objective most directly associated with this control is to verify that

Cash receipts recorded in the cash receipts journal are reasonable.

Cash receipts are correctly classified.

Recorded cash receipts result from legitimate transactions.

Existing cash receipts are recorded.

LO #14-3, 14-4, 14-5, 14-6

Explanation

LO #14-3, 14-4, 14-5, 14-6

50. A sales invoice for $5,200 was computed correctly, but, by mistake, was key-entered as $2,500 to the sales journal and to the accounts receivable master file. The customer remitted only $2,500, the amount on his monthly statement. Select the control that should have prevented the misstatement.

Prelistings and predetermined totals are used to control postings.

Sales invoice numbers, prices, discounts, extensions, and footings are independently checked.

The customers’ monthly statements are verified and mailed by a responsible person other than the bookkeeper who prepared them.

LO #14-3, 14-4

Explanation

LO #14-3, 14-4

51. If, from a random sample, an auditor can state with a 5% ARACR that the exception rate in the population does not exceed 20%, the auditor can state that the exception rate does not exceed 25% with

5% risk.

Risk greater than 5%.

Risk less than 5%.

This cannot be determined from the information provided.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

52. If an auditor wishes to select a random sample that must have a 10% ARACR and a TER of 10%, the size of the sample selected will decrease as the estimate of the

Population exception rate increases.

Population exception rate decreases.

Population size increases.

ARACR increases.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7

53. An auditor of a public company identifies a material weakness in internal control. The auditor

Will be unable to issue an unqualified opinion on the financial statements.

Must issue a qualified or disclaimer of opinion on internal control over financial reporting.

May stil be able to issue an unqualified opinion on internal control over financial reporting.

Must issue an adverse opinion on internal control over financial reporting.

LO #10-5, 10-7

Explanation

LO #10-5, 10-7

54. Which of the following statements about test of controls is incorrect? Tests of controls

Must be done in every audit of a public company’s financial statements.

Provide persuasive evidence that a material misstatement exists when the auditor determines that the control is not being consistently applied.

LO #10-5, 10-6, 10-8

Explanation

LO #10-5, 10-6, 10-8

55. Which of the following situations has the best chance of being detected when a CPA compares 2009 revenues and expenses with the prior year and investigates all changes exceeding a fixed percent?

An increase in property tax rates has not been recognized in the company’s 2009 accrual.

The cashier began lapping accounts receivable in 2009.

Because of worsening economic conditions, the 2009 provision for uncollectible accounts was inadequate.

The company changed its capitalization policy for small tools in 2009.

LO #8-5, 8-6, 8-7, 8-8

Explanation

LO #8-5, 8-6, 8-7, 8-8

56. Which of the following best describes the element of inherent risk that underlies the application of generally accepted auditing standards, specifically the standards of fieldwork and reporting?

Cash audit work may have to be carried out in a more conclusive manner than inventory audit work.

Intercompany transactions are usually subject to less detailed scrutiny than arm’s-length transactions with outside parties.

LO #9-1, 9-6, 9-8

Explanation

LO #9-1, 9-6, 9-8

57. Which of the following statements is not correct about materiality?

Materiality judgments are made in light of surrounding circumstances and necessarily involve both quantitative and qualitative judgments.

LO #9-1 9-2, 9-5, 9-6, 9-8

Explanation

LO #9-1 9-2, 9-5, 9-6, 9-8

58. The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the

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

Operating effectiveness of internal controls.

Risk that material misstatements exist in the financial statements.

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

LO #10-5, 10-6, 10-8

Explanation

LO #10-5, 10-6, 10-8

59. An auditor uses assessed control risk to

Evaluate the effectiveness of the entity’s internal controls.

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

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

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

LO #10-5, 10-6, 10-8

Explanation

LO #10-5, 10-6, 10-8

60. To verify that all sales transactions have been recorded, a substantive test of transactions should be complete on a representative sample drawn from

Entries in the sales journal.

The billing clerk’s file of sales orders.

A file of duplicate copies of sales invoices for which all prenumbered forms in the series have been accounted.

The shipping clerk’s file of duplicate bills of lading.

LO #14-1, 14-3

Explanation

LO #14-1, 14-3

61. As a result of test of controls, an auditor assessed control risk too low and decreased substantive testing. This assessment occurred because the true deviation rate in the population was

Less than the risk of assessing control risk too low, based on the auditor’s sample.

Less than the deviation rate in the auditor’s sample.

More than the risk of assessing control risk too low, based on the auditor’s sample.

More than the deviation rate in the auditor’s sample.

LO #15-5, 15-7

Explanation

LO #15-5, 15-7