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Thefollowingitems,CopyrightbytheAmericanInstituteofCertifiedPublicAccountants,Inc.

,arereprintedwith
permission:
1.

MaterialfromUniformCPAExaminationQuestionsandAnswers,1978through2001.

2.

InformationforUniformCPAExaminationCandidates,BoardofExaminers,2000.

3.

MaterialfromtheCertifiedInternalAuditorExamination,Copyright 1994through1997bytheInstituteofIn
ternalAuditors,Inc.,arereprintedand/oradaptedwithpermission.
4.

MaterialfromtheCertifiedManagementAccountantExaminations,Copyright 1993through1997bytheIn
stituteofCertifiedManagementAccountants,arereprintedand/oradaptedwithpermission.

FromadeclarationofprinciplesjointlyadoptedbyaCommitteeoftheAmericanBarAssociationandaCommitteeof
Publishers.
Thisbookisprintedonacidfreepaper.

Copyright2011byJohnWiley&Sons,Inc.Allrightsreserved.
PublishedbyJohnWiley&Sons,Inc.,Hoboken,NewJersey
PublishedsimultaneouslyinCanada.
Nopartofthispublicationmaybereproduced,storedinaretrievalsystem,ortransmittedinanyformorbyanymeans,
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LimitofLiability/DisclaimerofWarranty:Whilethepublisherandauthorhaveusedtheirbesteffortsinpreparingthis
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Forgeneralinformationonourotherproductsandservicesorfortechnicalsupport,pleasecontactourCustomerCare
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ISBN:9780470923849(Volume2paperback);9781118107140(ebk);9781118107157(ebk);
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ISBN:9780470932414(Set)
PrintedintheUnitedStatesofAmerica.
10987654321

PREFACE
PassingtheCPAexamuponyourfirstattemptispossible!TheWileyCPAExaminationReviewpreparationma
terialsprovideyouwiththenecessarymaterials(visitourWebsiteatwww.wiley.com/cpaformoreinformation).Itsup
toyoutoaddthehardworkandcommitment.Togetherwecanbeatthefirsttimepassrateoflessthan50%.AllWiley
CPAproductsarecontinuouslyupdatedtoprovideyouwiththemostcomprehensiveandcompleteknowledgebase.
ChooseyourproductsfromtheWileypreparationmaterialsandyoucanproceedconfidently.Youcanselectsupport
materialsthatareexambasedanduserfriendly.Youcanselectproductsthatwillhelpyoupass!
ThefirstpurposeofVolume2istoprovideCPAcandidateswithsampleexaminationproblems/questionsorganized
bytopic(e.g.,internalcontrol,consolidations,etc.).Thistextincludesover2,600multiplechoicequestions.These
questionsprovideaneffectivemeansofstudyingthematerialtestedonpastexams;however,itisalsonecessarytowork
withtaskbasedsimulationstodevelopthesolutionsapproach(theabilitytosolveCPAquestionsandproblems
efficiently).
ThesecondobjectiveofthisvolumeistoexplaintheAICPAunofficialanswersandauthorquestionanswerstothe
examinationproblems/questionsincludedinthistext.TheAICPApublishedallCPAexaminationsandunofficialan
swersthroughtheNovember1995examandselectedquestionsandanswerssincethen.Noexplanationismade,how
ever,oftheproceduresthatshouldhavebeenappliedtotheexaminationproblemtoobtaintheunofficialanswers.Relat
edly,theunofficialanswerstomultiplechoicequestionsprovidenojustificationand/orexplanation.Thistextprovides
explanationsofbothhowtoworkproblemsandtheunofficialanswerstomultiplechoicequestions.
ThistextisdesignedtobeusedinconjunctionwithVolume1,OutlinesandStudyGuides,butmaybeusedwithor
withoutanyotherstudysource.Bothvolumesareorganizedinto47manageablestudyunits(modules)toassistcandi
datesinorganizingtheirstudyprograms.Themultiplechoicequestionsinthisvolumearegroupedintotopicalcatego
ries(submodules)thatcorrespondtothesequencingofmaterialasitappearsinVolume1.
NewauthorconstructedquestionshavebeenaddedtothisThirtyEighthEdition.Asnewquestionsandproblems
areadded,olderonesaredeleted.Newproblemshavebeenaddedtoaddressthenewcontentoftheexamthatwas
adoptedJanuary1,2011.
ASampleExaminationforeachofthefourpartsoftheexamisincludedintheAppendixattheendofthisvolume.
TheCPAexamisoneofthetoughestexamsyouwillevertake.Itwillnotbeeasy.Butifyoufollowourguidelines
andfocusonyourgoal,youwillbethrilledwithwhatyoucanaccomplish.
RayWhittington
April2011

DontforgettovisitourWebsiteatwww.wiley.com/cpa
forsupplementsandupdates.

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1HOWTOUSETHISBOOK
2

CONTENTS

AUDITINGANDATTESTATION

7
*

ProfessionalResponsibilities
EngagementPlanning,ObtaininganUnderstanding
oftheClientandAssessingRisks
UnderstandingInternalControlandAssessing
ControlRisk
RespondingtoRiskAssessment:Evidence
AccumulationandEvaluation
Reporting
AccountingandReviewServices
AuditSampling
AuditingwithTechnology

Module
Abbreviations
Numbers
RESP
1
ENPL

24

IC

67

EVID
REPT
AARS
AUDS
ATEC

4
5
6
7
8

113
163
202
214
230

3FINANCIALACCOUNTINGANDREPORTING

239

BasicTheoryandFinancialReporting

TREP

241

Inventory
FixedAssets
MonetaryCurrentAssetsandCurrentLiabilities
PresentValue

INVY
FA
CACL
PV

10
11
12
13

333
361
392
426

DeferredTaxes
StockholdersEquity
Investments
StatementofCashFlows
BusinessCombinationsandConsolidations
DerivativeInstrumentsandHedgingActivities
Miscellaneous

DETX
STK
IVES
SCF
BCC
DIHA
MISC

14
15
16
17
18
19
20

494
513
546
573
592
617
634

Governmental(StateandLocal)Accounting
NotforProfitAccounting

GOV
NFP

21
22

670
695

A.BasicConcepts
B.ErrorCorrection
C.AccountingChanges
D.FinancialStatements

A.Fundamentals
B.Bonds
C.DebtRestructure
D.Pensions
E.Leases

A.PersonalFinancialStatements
B.InterimReporting
C.SegmentReporting
D.PartnershipAccounting
E.ForeignCurrencyTranslation

4 REGULATION

241
268
280
295

426
437
456
460
473

634
638
642
649
661

711

AsexplainedinChapter1,thisvolumeisorganizedinto47modules(manageablestudyunits).Volume1isorganizedinaparallel
fashion.

PROFESSIONALRESPONSIBILITIESANDBUSINESSLAW

ProfessionalandLegalResponsibilities
FederalSecuritiesActs
BusinessStructure
Contracts
Sales
CommercialPaper
SecuredTransactions
Bankruptcy
DebtorCreditorRelationships
Agency
RegulationofEmploymentandEnvironment
Property

713

Module
Abbreviations
Numbers
PLR
23
FEDE
24
BSTR
25
CONT
26
SALE
27
CPAP
28
SECU
29
BANK
30
DBCR
31
AGEN
32
EMEN
33
PROP
34

6FEDERALTAXATION
IndividualTaxation
TransactionsinProperty
PartnershipsTaxation
CorporateTaxation
GiftandEstateTaxation

861
ITAX
TPRO
PTAX
CTAX
GETX

35
36
37
38
39

7BUSINESSENVIRONMENTANDCONCEPTS
CorporateGovernance,InternalControl,and
EnterpriseRiskManagement
InformationTechnology
Economics,Strategy,andGlobalization
FinancialRiskManagementandCapitalBudgeting
FinancialManagement
PerformanceMeasures
CostMeasurement
Planning,Control,andAnalysis

714
730
742
761
778
793
810
818
829
837
845
856

862
931
948
974
1031
1055

CGIC
IFTC
ECON
RMCB
FINM
PERM
COST
PLAN

40
41
42
43
44
45
46
47

1056
1066
1093
1114
1132
1158
1171
1186

APPENDIXA:SAMPLEEXAMINATIONS

1207

APPENDIXB:SAMPLETESTLETSRELEASEDFROMTHEAICPA

1299

APPENDIXC:2011RELEASEDAICPAQUESTIONS

1323

ABOUTTHEAUTHORS
RayWhittington,PhD,CPA,CMA,CIA,isthedeanoftheCollegeofCommerceatDePaulUniversity.Prior
tojoiningthefacultyatDePaul,ProfessorWhittingtonwastheDirectorofAccountancyatSanDiegoStateUniversity.
From1989through1991,hewastheDirectorofAuditingResearchfortheAmericanInstituteofCertifiedPublicAc
countants(AICPA),andhepreviouslywasontheauditstaffofKPMG.HepreviouslyservedasamemberoftheAudit
ingStandardsBoardoftheAICPAandasamemberoftheAccountingandReviewServicesCommitteeandtheBoardof
RegentsoftheInstituteofInternalAuditors.ProfessorWhittingtonhaspublishednumeroustextbooks,articles,mono
graphs,andcontinuingeducationcourses.
PatrickR.Delaney,deceased,wasthededicatedauthorandeditoroftheWileyCPAExamReviewbooksfor
twentyyears.HewastheArthurAndersenLLPAlumniProfessorofAccountancyandDepartmentChairatNorthern
IllinoisUniversity.HereceivedhisPhDinAccountancyfromtheUniversityofIllinois.Hehadpublicaccounting
experiencewithArthurAndersenLLPandwascoauthorofGAAP:InterpretationandApplication,alsopublishedby
JohnWiley&Sons,Inc.HeservedasVicePresidentandamemberoftheIllinoisCPASocietysBoardofDirectors,and
wasChairmanofitsAccountingPrinciplesCommittee;wasapastpresidentoftheRockfordChapter,Instituteof
ManagementAccountants;andhadservedonnumerousotherprofessionalcommittees.Hewasamemberofthe
AmericanAccountingAssociation,AmericanInstituteofCertifiedPublicAccountants,andInstituteofManagement
Accountants.ProfessorDelaneywaspublishedinTheAccountingReviewandwasarecipientoftheIllinoisCPA
SocietysOutstandingEducatorAward,NIUsExcellenceinTeachingAward,andLewisUniversitysDistinguished
AlumnusAward.HewasinvolvedinNIUsCPAReviewCourseasdirectorandinstructor.

ABOUTTHECONTRIBUTORS
AnitaL.Feller,PhD,CPA,isaLecturerinAccountancyattheUniversityofIllinoisatUrbanaChampaign.She
istherecipientoftheCommerceCouncilExcellenceinTeachingAward.Formerlyastaffaccountantinthetax
departmentatKPMGPeatMarwick,sheteachescoursesinfinancialaccountingandappliedprofessionalresearch.
ProfessorFelleralsoteachesfinancialandmanagerialtopicsintheUniversityofIllinoisCPAReviewCourse.Sheis
alsotheauthorof
MasteringAccountingResearchfortheCPAExamandWileyCPAExamReviewImpactAudios(bothpublished
byWiley).
EdwardC.Foth,PhD,CPA,istheAdministratoroftheMasterofScienceinTaxationProgramatDePaulUniver
sity.HeisamemberoftheAmericanAccountingAssociation,theAmericanInstituteofCertifiedPublicAccountants,
theIllinoisCPASociety,andtheAmericanTaxationAssociation.HehasbeenarecipientoftheLedger&QuillFaculty
ExcellenceAward,andistheauthorofCCHIncorporatedsFederalTaxStudyManual,FederalTaxation
RefresherCourse,andiscoauthoroftheirSCorporationsGuide.HepreparedChapter6.
MarkL.Frigo,PhD,CPA,CMA,isDirectorofTheCenterforStrategy,ExecutionandValuationin
KellstadtGraduateSchoolofBusinessandEichenbaumFoundationDistinguishedProfessorofStrategyand
LeadershipintheSchoolofAccountancyatDePaulUniversity.ProfessorFrigoauthoredthePerformanceMeasures
modulefortheBusinessEnvironmentandConceptssectionofthismanual.
KurtPany,PhD,CPA,isaProfessorofAccountingatArizonaStateUniversity.Priortoenteringacademe,
heworked as a staff auditor for Deloitte and Touche LLP. He is a former member of the AICPAs Auditing
StandardsBoardandhastaughtintheArizonaStateUniversityCPAReviewCourse.
PatriciaL.Smith,MBA,CPA,isaninstructorintheSchoolofAccountancyatDePaulUniversity.Shehas
abackgroundinauditingandfinancialaccounting.ShehasauditexperiencewithKPMG.Shecontributedtotheauditing
modules.

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HOWTOUSETHISBOOK
ThisvolumeisacollectionofCPAquestions,taskbasedsimulationsandsolutions.Thetextisdesigned
andorganizedtobeusedinconjunctionwithVolume1,CPAExaminationReview:OutlinesandStudyGuides,
butmaybeusedwithorwithoutanyotherstudysource.Eachmoduleinthisvolumecorrespondstoamodule
inVolume1.Inthisvolume,amoduleconsistsof
1.
2.
3.
4.
5.

Multiplechoicequestions
Taskbasedsimulations
Writtencommunicationtasks
Unofficialanswersforthemultiplechoicequestionswiththeauthorsexplanations
Answersfortaskbasedsimulations
Thesourcesofthequestionsandtaskbasedsimulationsmaterialineachmoduleare,ofcourse,thefour
sectionsoftheCPAExam.Themodulesaregroupedtogetherintochapters,whichcorrespondwiththefour
sectionsoftheexam.ThefollowingtableshowshowthemodulesareorganizedinVolume2.
ThismanualhasbeenupdatedforthemajorchangesthatoccurredintheCPAexameffectiveJanuary1,
2011.
CPAEXAMSECTIONANDCORRESPONDINGMODULES
AuditingandAttestation
FinancialAccountingandReporting
Regulation
BusinessEnvironmentandConcepts

CH2
CH3
CH5&6
CH7

Modules16
Modules720
Modules2137
Modules3845

ThematerialinVolume2allowscandidatestoworkCPAexamquestions,someofwhichhaveappearedon
previousexaminations.Thisprovidescandidateswithaneffectivemethodofstudyingthematerialtestedonthe
exam.However,candidatesshouldalsorealizethattheCPAhasnewmaterial.Therefore,candidatesshoulduse
thestudyguidesandoutlinesincludedinVolume1asameansofbridgingthisgap.
Alsoincludedattheendofthisvolumearesampleexamsforallfoursections.Theyareincludedtoen
ablecandidatestogainexperienceintakingarealisticexam.Whileworkingthroughthemodules,thecan
didatecanbecomeaccustomedtoconcentratingonafairlynarrowrangeoftopics.Bytakingthesampleex
aminationsneartheendoftheirstudyprogram,candidateswillbebetterpreparedfortakingtheactual
examination.
BeforeyoubeginworkingtheCPAquestionsinthisvolume,perusethetableofcontentsandscanthrough
thebook,notingthemannerinwhichthechaptersandmodulesareorganized.Thescheduleatthebeginning
ofeachchapterprovidesanindextothequestionsappearingineachmodule.Somequestionshavebeen
modifiedtoreflectrecentchangesinlaworpractice.Foracompleteanalysisofrecentexaminationsandthe
AICPAUniformCPAExaminationContentSpecificationOutlinesoffutureexaminations,seethebeginning
ofeachchapterstartingwithChapter5inVolume1,OutlinesandStudyGuides.

MultipleChoiceQuestions
Themultiplechoicequestionsandanswerexplanationscanbeusedinmanyways.First,theymaybe
usedasadiagnosticevaluationofyourknowledge.Forexample,beforebeginningtoreviewauditsampling
youmaywishtoanswereveryfourthmultiplechoicequestiontodetermineyourabilitytoanswerCPAex
aminationquestionsonauditsampling.Theapparentdifficultyofthequestionsandthecorrectnessofyour
answerswillallowyoutodeterminethenecessarybreadthanddepthofyourreview.Additionally,exposure
toexaminationquestionspriortoreviewandstudyofthematerialshouldprovidemotivation.Youwillde
velopafeelforyourlevelofproficiencyandanunderstandingofthescopeanddifficultyofpastexamination
questions.
Second,themultiplechoicequestionscanbeusedasapoststudyorpostreviewevaluation.Youshould
attempttounderstandallconceptsmentioned(eveninincorrectanswers)asyouanswerthequestions.Refer
totheexplanationoftheanswerfordiscussionofthealternativeseventhoughyouselectedthecorrectre

CH1HOWTOUSETHISBOOK

sponse.Thus,youshouldreadtheexplanationoftheunofficialanswerunlessyoucompletelyunderstandthe
questionandallofthealternativeanswers.
Third,youmaywishtousethemultiplechoicequestionsasaprimarystudyvehicle.Thisisprobablythe
quickest,butleastthorough,approach.Makeasincereefforttounderstandthequestionandtoselectthecor
rectreplybeforereferringtotheanswerandexplanation.Inmanycasestheexplanationswillappearinade
quatebecauseofyourunfamiliaritywiththetopic.
ThemultiplechoicequestionsinVolume2aregroupedintostudysets.Thestudysetsincludeasmaller
amountofrelatedmaterialthanthestudymodules,whichprovidesgreaterflexibilityintheindividualcandi
datesstudystrategy.TheanswerexplanationsforthemultiplechoicequestionsinVolume2alsoinclude
headingswhichprovidecrossreferencestothetextmaterialinVolume1.Forexample,inModule11,Fixed
Assets,theheadingF.Depreciationappearsabovetheanswerstothosequestionsdealingwithdepreciation.
ThetopicalcoverageofdepreciationinVolume1canthenbefoundbyreferringtothecorresponding
headingwithinModule11.
Oneofthebenefitsofworkingthroughmultiplechoicequestionsisthatithelpsyoutoidentifyyour
weakareas.Onceyouhavegradedyouranswers,yourstrongareasandweakareasshouldbeclearlyevident.
Yet,theimportantpointhereisthatyoushouldnotstopatasimplepercentageevaluation.Thepercentage
onlyprovidesgeneralfeedbackaboutyourknowledgeofthematerialcontainedwithinthatparticularmodule.
Thepercentagedoesnotgiveyouanyspecificfeedbackregardingtheconceptswhichweretested.Inorderto
getthisfeedback,youshouldlookatthequestionsmissedonanindividualbasisbecausethiswillhelpyou
gainabetterunderstandingofwhyyoumissedthequestion.Thisfeedbackprocesshasbeenfacilitatedbythe
factthatwithineachmodulewherethemultiplechoiceanswerkeyappears,twoblanklineshavebeen
insertednexttothemultiplechoiceanswers.Asyougradethemultiplechoicequestions,markthose
questionswhichyouhavemissed.However,insteadofjustmarkingthequestionsrightandwrong,you
shouldnowfocusonmarkingthequestionsinamannerwhichidentifieswhyyoumissedthequestion.Asan
example,acandidatecouldmarkthequestionsinthefollowingmanner:formathmistakes,xforconceptual
mistakes,and?forareaswhichthecandidatewasunfamiliarwith.Thecandidateshouldthencorrectthese
mistakesbyreworkingthroughthemarkedquestions.Theobjectiveofthismarkingtechniqueistohelpyou
identifyyourweakareasandthus,theconceptswhichyoushouldbefocusingon.Whileitisstillimportant
foryoutogetbetween75%and80%correctwhenworkingmultiplechoicequestions,itismoreimportant
foryoutounderstandtheconcepts.Thisunderstandingappliestoboththequestionsansweredcorrectlyand
thoseansweredincorrectly.Remember,mostofthequestionsontheCPAexamwillbedifferentfromthe
questionsinthebook;however,theconceptswillbethesame.Therefore,yourpreparationshouldfocuson
understandingconcepts,notjustgettingthecorrectanswer.
Themultiplechoicequestionssubstantiallyoutnumberthetaskbasedsimulationsinthisbook.Thisis
similartowhatcanbeexpectedontheCPAexam.Themultiplechoicequestionsmakeupaboutbetween
60%and85%(dependingonthesection)ofthetotalexamination.
Onedifficultywithsomanymultiplechoicequestionsisthatyoumayoveremphasizethem.Candidates
generallyprefertoworkmultiplechoicequestionsbecausetheyareshorterandlesstimeconsumingand
solvablewithlesseffort.
Anotherdifficultywiththelargenumberofmultiplechoicequestionsisthatyoumaytendtobecome
overlyfamiliarwiththequestions.Theresultmaybethatyoumaybeginreadingthefactsandassumptionsof
previouslystudiedquestionsintothequestionsonyourexamination.Guardagainstthispotentialproblemby
readingeachmultiplechoicequestionwithextracare.
Althoughnotascriticalasfortaskbasedsimulations,thesolutionsapproach(asystematicproblem
solvingmethodology)isrelevanttomultiplechoicequestions.
MultipleChoiceScreenLayout
Thefollowingisacomputerscreenshotthatillustratesthemannerinwhichmultiplechoicequestionswill
bepresented:
CH1HOWTOUSETHISBOOK

Asindicatedpreviously,multiplechoicequestionswillbepresentedinthreeindividualtestletsof24to
30questionseach.Characteristicsofthecomputerizedtestletsofmultiplechoicequestionsincludethe
following:

3.
4.
6.

1. Youmaymovefreelywithinaparticulartestletfromonequestiontothenextorbacktoprevious
questionsuntilyouclicktheExitbutton.Onceyouhaveindicatedthatyouhavefinishedthe
testletbyclickingontheExitbuttonandreconfirmed,youcanneverreturntothatsetof
questions.
2. Abuttononthescreenwillallowyoutoflagaquestionforreviewifyouwishtocomebackto
itlater.
Afourfunctioncomputercalculatorwithanelectronictapeisavailableasatool.
Thetimeremainingfortheentireexamsectionisshownonthescreen.
5. Thequestionswillbeshownatthebottomofthescreen.Youmaynavigatebetweenquestions
bysimplyclickingonthequestionnumber.
TheHelpbuttonwillprovideyouwithhelpinnavigatingandcompletingthetestlet.
ThescreenshotabovewasobtainedfromtheAICPAssampleexamatwww.cpaexam.org.Candidates
are urged to complete the tutorial and other example questions on the AICPAs Web site to obtain
additionalexperiencewiththecomputerbasedtesting.

1.

MultipleChoiceQuestionsSolutionsApproach
Workindividualquestionsinorder.
a. Ifaquestionappearslengthyordifficult,skipituntilyoucandeterminethatextratimeis
available.Markitforreviewtoremindyoutoreturntoitlater.

2.

Readthestemofthequestionwithoutlookingattheanswers.
a. The answers are sometimes misleading and may cause you to misread or misinterpret the
question.

3.

Readeachquestioncarefullytodeterminethetopicalarea.
a. Studytherequirementsfirstsoyouknowwhichdataareimportant
b. Notekeywordsandimportantdata
c. Identifypertinentinformation
d. Beespeciallycarefultonotewhentherequirementisan exception (e.g.,Whichofthe
followingisnotaneffectivedisclaimeroftheimpliedwarrantyofmerchantability?).
e. Ifasetofdataisthebasisfortwoormorequestions,readtherequirementsofeachofthe
questionsbeforebeginningtoworkthefirstquestion(sometimesitismoreefficientto

workthequestionsoutoforder)

CH1HOWTOUSETHISBOOK

f.

Bealerttoreadquestionsastheyare,notasyouwouldlikethemtobe.Youmayencountera
familiar looking item; dont jump to the conclusion that you know what the answer is
withoutreadingthequestioncompletely.

Anticipatetheanswerbeforelookingatthealternativeanswers.

4.

a. Recalltheapplicableprinciple(e.g.,offerandacceptance,requisitesofnegotiability,etc.)
andtherespectiveapplicationsthereof.
b. Ifaquestiondealswithacomplexarea,itmaybeveryusefultosetupatimelineordiagram
usingabbreviations.
Readtheanswersandselectthebestalternative.
Clickonthecorrectanswer(oryoureducatedguess).
7. AftercompletingallofthequestionsincludingtheonesmarkedforreviewclickontheDone
buttontocloseoutthetestlet.Rememberonceyouhaveclosedoutthetestletyoucanneverre
turntoit.

5.
6.

Currently,allmultiplechoicequestionsarescoredbasedonthenumbercorrect,weightedbyadifficulty
rating(i.e.,thereisnopenaltyforguessing).Therationaleisthatagoodguessindicatesknowledge.Thus,
youshouldanswerallmultiplechoicequestions.
TaskBasedSimulations
Simulationsarecasebasedproblemsdesignedto

Testintegratedknowledge
Morecloselyreplicaterealworldproblems
Assessresearchandotherskills
Anyofthefollowingtypesofresponsesmightberequiredontaskbasedsimulations:

Dropdownselection
Numericandmonetaryinputs
Formulaanswers
Checkboxresponse
Enterspreadsheetformulas
Researchresults
Tocompletethesimulations,candidatesareprovidedwithanumberoftools,including

Afourfunctioncomputercalculatorwithanelectronictape
Scratchspreadsheet
Theabilitytosplitwindowshorizontallyorverticallytoshowtwotabsonthescreen(e.g.,youcan
examinethesituationtabinonewindowandarequirementtabinasecondwindow)
Accesstoprofessionalliteraturedatabasestoanswerresearchrequirements
Copyandpastefunctions
Inaddition,theresourcetabprovidesotherresourcesthatmaybeneededtocompletethesimulation.For
example,aresourcetabmightcontainapresentvaluetableforuseinansweringaleaseproblem.Awindow
onthescreenshowsthetimeremainingfortheentireexam,andtheHelpbuttonprovidesinstructionsfor
navigatingthesimulationandcompletingtherequirements.
TaskBasedSimulationsSolutionsApproach
Thefollowingsolutionsapproachissuggestedforansweringsimulations:
1.

Reviewtheentirebackgroundandproblem.Getafeelforthetopicalareaandrelatedconcepts
thatarebeingtested.Eventhoughtheformatofthequestionmayvary,theexamcontinuestotestyour
understandingofapplicableprinciplesorconcepts.Relax,takeadeepbreath,anddetermineyourstrategyfor
conqueringthesimulation.
2. Identifytherequirementsofthesimulation. Thisstepwillhelpyoufocusinmorequicklyon
thesolution(s)withoutwastingtimereadingirrelevantmaterial.
3. Studytheitemstobeanswered.Asyoudothisandbecomefamiliarwiththetopicalarea

beingtested,youshouldreviewtheconceptsofthatarea.Thiswillhelpyouorganizeyourthoughts
sothatyoucanrelatelogicallytherequirementsofthesimulationwiththeapplicableconcepts.
CH1HOWTOUSETHISBOOK

4. Usethescratchpaper(whichwillbeprovided)andthespreadsheetandcalculatortoolsto
assistyouinansweringthesimulation.
YouareurgedtocompletethetutorialandothersampleteststhatareontheAICPAsWebsite
(www.cpaexam.org)toobtainadditionalexperiencewiththeinterfaceandcomputerbasedtesting.
TaskBasedResearchSimulations
OneresearchsimulationwillbeincludedontheAuditingandAttestation,FinancialAccountingand
Reporting,andRegulationsectionsoftheexam.Researchsimulationsrequirecandidatestosearchthe
professionalliteratureandincometaxcodeinelectronicformatandinterprettheresults.Thetablebelow
describestheresearchmaterialthatwillbeavailableforeachsectionoftheexamthatincludesresearch
simulations.
AuditingandAttestation

Section

Potentialresearchresources
AICPAStatementsonAuditingStandardsand
Interpretations(AU)
PCAOBAuditingStandardsandInterpretations
(PCAOB)
AICPAStatementsonAttestationStandardsand
Interpretations(AT)
AICPAStatementsonStandardsforAccountingand
ReviewServicesandInterpretations(AR)
AICPACodeofProfessionalConduct(ET)
AICPABylaws(BL)
AICPAStatementsonStandardsforValuationServices
(VS)
AICPAStatementonStandardsforConsultingServices
(CS)
AICPAStatementsonStandardsforQualityControl
(QC)
AICPAPeerReviewStandards(PR)
AICPAStatementonStandardsforTaxServices(TS)
AICPAStatementonResponsibilitiesinPersonal
FinancialPlanningPractice(PFP)
AICPAStatementonStandardsforContinuing
ProfessionalEducationPrograms(CPE)

FinancialAccountingandReporting

FASBAccountingStandardsCodification

Regulation

InternalRevenueCode

Theresearchmaterialmaybesearchedusingthetableofcontentsorakeywordsearch.Therefore,
knowingimportantcodesections,FASBcodificationsections,auditingstandardssectionnumbers,etc.
mayspeedupyoursearch.
Ifpossible,itisimportanttogetexperienceusinganelectronicversionoftheresearchdatabasesto
sharpenyourskills.Ifthatisnotavailable,youshouldusetheprintedcopyoftheprofessionalstandardsand
theIRScodeandregulationstoanswerthesimulationsinthemanual.Remember,theAICPAoffersan
electronicversionofprofessionalstandardstoregisteredcandidates.RefertotheAICPAWebsiteat
www.cpaexam.org.
WrittenCommunicationTasks
TheBusinessEnvironmentandConceptssectionoftheexamwillrequirethecompletionofthree
writtencommunicationquestions.Communicationquestionswillinvolvesomerealworldwriting
assignmentthataCPAmighthavetoperform,suchasamemorandumtoaclientexplainingamanagement
technique.ThesubjectofthecommunicationwillbeaBusinessEnvironmentandConceptstopic.
Itisessentialforthecommunicationtobeinyourownwords.Inaddition,thecommunicationwillnotbe
gradedfortechnicalaccuracy.Ifitisonpoint,itwillonlybegradedforusefulnesstotheintendeduserand
writingskills.Thefollowingscreenshotillustratesataskrequiringthecompositionofamemorandumtoa
companypresident.

CH1HOWTOUSETHISBOOK

DiagnoseYourWeaknessespriortotheExam
Thisvolumeofquestions,taskbasedsimulationsandsolutionsprovidesyouwithanopportunityto
diagnoseandcorrectanyexamtakingweaknessespriortoyourtakingtheexamination.Continuouslyanalyze
thecontributingfactorstoincompleteorincorrectsolutionstoCPAquestionspreparedduringyourstudy
program.Generalcategoriesofcandidatesweaknessesinclude
1.
2.
3.
5.
6.
7.
8.

Failuretounderstandtheexamquestionrequirements
Misunderstandingthesupportingtextofthequestion
Lackofknowledgeofmaterialtested,especiallyrecentlyissuedpronouncements
4. Failuretodevelopproficiencywithpracticetoolssuchaselectronicresearchdatabasesandspread
sheets
Inabilitytoapplythesolutionsapproach
Lackofanexamstrategy(e.g.,allocationoftime)
Sloppinessandcomputationalerrors
Failuretoproofreadandedit
TimeManagement
EachsectionoftheCPAexamwillcontainanumberofmultiplechoicetestlets,andallofthesectionsex
ceptBusinessEnvironmentandConceptswillcontaintwosimulations.Asyoucompleteeachtestletkeep
trackofhowyouperformedinrelationtotheAICPAsuggestedtimes.Afteryoufinishthemultiplechoice
testlets,budgetyourtimeforthesimulationsbasedonyourremainingtimeandtheAICPAsuggestedtimes.
Forexample,ifyouhavetwohoursremainingtocompletetwosimulationsthateachhavethesameAICPA
suggestedtime,budgetonehourforeachsimulation.Rememberthatyoualonecontrolwatchingyourprog
resstowardssuccessfullycompletingthisexam.
AdditionalStudyAids
Amorecompletediscussionofthesolutionsapproach,includingillustrationsthereof,appearsinChapter3
ofVolume1,OutlinesandStudyGuides.Additionally,useofnotecardsasanintegralpartofyourstudy
programisdiscussedandillustratedinChapter1ofVolume1.Chapter4ofVolume1includesadetailed
checklisttoassistcandidateswiththeirlastminutepreparationandtoprovideguidanceconcerningtheactual
takingoftheexam.
NOWISTHETIME
TOMAKEACOMMITMENT

AUDITINGANDATTESTATION
TheAuditingandAttestationExamisscheduledforfourandonehalfhours.Basedoninformationreleasedbythe
AICPA,candidatesshouldexpectthreemultiplechoicetestletsofapproximatelythirtyquestionseach,andtwo

simulations.TheUniformCPAExaminationContentSpecificationsappearinVolume1,OutlinesandStudy
Guides.
Module1/ProfessionalResponsibilities(RESP)
39MultipleChoice
7TaskBasedSimulations

8
12

17
21

Module2/EngagementPlanning,ObtaininganUnderstandingoftheClientand
AssessingRisks(ENPL)
113 MultipleChoice
14 TaskBasedSimulations

24
34

47
59

Module3/UnderstandingInternalControlandAssessingControlRisk(IC)
166 MultipleChoice
9 TaskBasedSimulations

67
82

91
109

Module4/RespondingtoRiskAssessment:EvidenceAccumulationandEvaluation
(EVID)
169 MultipleChoice
13 TaskBasedSimulations

113
128

137
156

163
179

183
200

202
207

208
213

214
220

222
229

Module5/Reporting(REPT)
164 MultipleChoice
4 TaskBasedSimulations

Module6/AccountingandReviewServices(AARS)
49 MultipleChoice
1 TaskBasedSimulations

Module7/AuditSampling(AUDS)
58 MultipleChoice
3 TaskBasedSimulations

Module8/AuditingwithTechnology(ATEC)
32 MultipleChoice
1 TaskBasedSimulation

230
233

234
238

AuditingandAttestationSampleExamination

1207

AuditingandAttestationRegulationAICPASampleTestlets

1299

AuditingandAttestation2011ReleasedAICPAQuestions

1323

MODULE1PROFESSIONALRESPONSIBILITIES

PROFESSIONALRESPONSIBILITIES
MULTIPLECHOICEQUESTIONS(139)

1.

d.

2.

Which of the following best


describes what is meant by the
termgenerallyacceptedauditing
standards?
a. Rules acknowledged
by the accounting
profession because of
their

universal
application.
b. Pronouncementsissued
by the Auditing
StandardsBoard.
c. Measures of the
quality of the
auditors perfor
mance.
Procedures to be used to gather
evidence to support financial
statements.

d.
4.

Whichofthefollowingisa
self review threat to
memberindependence?
a. An
engagemen
t team
member
has a
spousethat
serves as
CFOofthe
attest
client.
b. A second
partner
review is
requiredon
all attest
engagemen
ts.
c. An
engagement
team
member
prepares
invoicesfor
the attest
client.
d. An
engagement
team member
has a direct
financial
interest in the
attestclient.

5.

Accordingtothestandardsofthe
profession, which of the
following circumstances will
preventaCPAperformingaudit
engagements from being
independent?
a. Obtaining a
collateralized
automobile
loan from a
financial
institution
client.
b. Litigation
with a client
relating to
billing for
consulting
services for
which the
amount is
immaterial.
c. Employment

Forwhichofthefollowingcana
memberoftheAICPAreceivean
automatic expulsion from the
AICPA?

I.Memberisconvictedofafelony.
II.Memberfileshisownfraudulenttax
return.
BI. Member

files
fraudulent tax return
for a client knowing
thatitisfraudulent.

a.
b.
c.
d.

Ionly.
IandIIonly.
IandIIIonly.
I,II,andIII.

3.

Whichofthefollowingisan
example of a safeguard
implementedbytheclientthat
might mitigate a threat to
independence?
a. Requir
ed
contin
uing
educati
on for
all
attest
engage
ment
team
membe
rs.
An effective corporate
governancestructure.
c. Requir
ed
second
partner
review
of an

b.

attest
engage
ment.
ManagementselectionoftheCPA
firm.

d.

6.

a.

oftheCPAs
spouse as a
clients di
rector of
internal
audit.
Actingasan
honorary
trusteefora
notfor
profit
organization
client.

b.

c.
d.
7.

Actual fee would be


substantially lower
thanthefeescharged
by other CPAs for
comparableservices.
CPAwouldnotbeindependent.
Feewasacompetitivebid.
According to the ethical
standards of the profession,
which of the following acts is
generallyprohibited?

a.

Theprofessionsethical
standardsmostlikelywouldbe
consideredtohavebeenviolated
whenaCPArepresentsthat
specificconsultingserviceswill
beperformedforastatedfeeand
itisapparentatthetimeofthe
representationthatthe
Actualfeewouldbesubstantially
higher.

b.

c.

d.

8.

a.
b.
c.
d.

9.

a.
b.

Issuing a modified
report explaining a
failure to follow a
governmental
regulatory agencys
standards when
conducting an attest
serviceforaclient.
Revealing confidential
client information
duringaqualityreview
of a professional
practicebyateamfrom
thestateCPAsociety.
Acceptingacontingent
feeforrepresentinga
clientinanexamination
oftheclientsfederal
taxreturnbyanIRS
agent.
Retainingclientrecords
afteranengagementis
terminatedpriorto
completionandthe
clienthasdemanded
theirreturn.

Accordingtotheprofessions
ethicalstandards,whichofthe
followingeventsmayjustifya
departurefromaStatementof
theGovernmentalAccounting
StandardsBoard?
New
legislation
No
Yes
Yes
No

Evolutionofanewform
ofbusinesstransaction
Yes
No
Yes
No

MayaCPAhirefortheCPAs
publicaccountingfirmanon
CPAsystemsanalystwho
specializesindeveloping
computersystems?
Yes, provided the CPA is
qualified to perform each of the
specialiststasks.

Yes, provided the CPA is able to


supervise the specialist and
evaluate the specialists end
product.

c.

No,becausenonCPA
professionals are not
permitted to be
associated with CPA
firms in public

d.

practice.
No,because
developingcomputer
systemsisnot
recognizedasa
serviceperformedby
publicaccountants.

10. StephanieSealsisaCPAwhoisworking
asacontrollerforBrentwoodCorporation.
Sheisnotinpublicpractice.Which
statementistrue?
a. ShemayusetheCPA
designationonher
businesscardsifshe
alsoputsher
employmenttitleon
them.
b. ShemayusetheCPA
designation on her
businesscardsaslong
as she does not
mention Brentwood
Corporationorhertitle
ascontroller.
c.

She may use the


CPA designation on
companytransmittals
but not on her
businesscards.

d.

She may not use the


CPA designation
because she is not in
publicpractice.

11. Accordingtothestandardsof
theprofession,whichofthe
followingactivitieswouldmost
likelynotimpairaCPAs
independence?
a. Providingadvisoryservicesfora
client.

MODULE1PROFESSIONALRESPONSIBILITIES
b.

Contracting with a
clienttosupervisethe
clients

office
personnel.
Signing a clients checks in
emergencysituations.
Acceptingaluxuriousgiftfroma
client.

c.

12. Whichofthefollowingreports
may be issued only by an
accountantwhoisindependent
ofaclient?
a. Standardreportonan
examination of a
financialforecast.
b. Reportonconsultingservices.
c. Compilation report
on

historical
financial state
ments.
d. Compilationreportonafinancial
projection.

d.

c.
d.

13. Accordingtothestandardsof
theprofession,whichofthe
followingactivitiesmaybe
requiredinexercisingduecare?
a.
b.
c.
d.

Consulting
withexperts
Yes
Yes
No
No

Obtaining
specialtyaccreditation
Yes
No
Yes
No

14.LarrySampsonisaCPAandis
servingasanexpertwitnessinatrial
concerningacorporationsfinancialstate
ments.Whichofthefollowingis(are)
true?
I. Sampsonsstatusasanexpertwitness
isbaseduponhisspecialized
knowledge,experience,andtraining.
AI. Sampson is required by
AICPArulingtopresenthis
positionobjectively.
BI. Sampsonmayregardhimselfasacting
asanadvocate.

a.
b.
c.
d.

Ionly.
IandIIonly.
IandIIIonly.
IIIonly.

15. According to the ethical


standards of the profession,
which of the following acts is
generallyprohibited?

a.

Purchasing a product from a


thirdpartyandresellingittoa
client.
b. Writing a
financial
managemen
t newsletter
promoted
andsoldby

apublishing
company.
Accepting
a
commissi
on for
recommen
ding a
productto
an audit
client.
Accepting
engagements
obtained
through the
efforts of
thirdparties.

16. To exercise due professional care an


auditorshould
a. Critically
review the
judgment
exercised by
thoseassisting
intheaudit.
b. Examine all
available
corroborating
evidence sup
porting
managements
assertions.
c. Design the
audit to
detect all
instances of
illegalacts.
d. Attain the
proper
balance of
professional
experience
and formal
education.
17. Kar, CPA, is a staff auditor
participating in the audit
engagementofFort,Inc.Which
ofthefollowingcircumstances
impairsKarsindependence?
a. Duringthe
periodofthe
professional
engagement,
FortgivesKar
ticketstoa
footballgame
worth$75.
b. Kar owns
stock in a
corporation
that Forts
401(k) plan
alsoinvestsin.

c.

d.

Kars
friend,
an
employe
e of
another
local ac
counting
firm,
prepares
Forts
tax
returns.
Kars sibling is director of
internalauditatFort.

18. OnJune1,2008,aCPA
obtaineda$100,000personal
loanfromafinancialinstitution
clientforwhomtheCPA
providedcompilationservices.
Theloanwasfullysecuredand
consideredmaterialtothe
CPAsnetworth.TheCPApaid
theloaninfullonDecember31,
2009.OnApril3,2009,the
clientaskedtheCPAtoaudit
theclientsfinancialstatements
fortheyearendedDecember31,
2009.IstheCPAconsidered
independentwithrespecttothe
auditoftheclientsDecember
31,2009financialstatements?
a. Yes,becausetheloanwasfully
secured.
b. Yes, because
the CPA was
not required
to be inde
pendentatthe
time the loan
wasgranted.
c.

No,
becausethe
CPAhada
loan with
the client
during the
periodofa
professiona
l
engagemen
t.

d.

No,
because
the CPA
had a loan
with the
client
during the
period
coveredby
the
financial
state
ments.

19. Whichofthefollowing
statementsis(are)correctre
gardingaCPAemployeeofa
CPAfirmtakingcopiesof
informationcontainedinclient
fileswhentheCPAleavesthe
firm?
I.

ACPAleavingafirm
maytakecopiesof
informationcontained
inclientfilestoassist
anotherfirminserving

thatclient.
AI. ACPAleavingafirm
maytakecopiesof
informationcontained
inclientfilesasa
methodofgaining
technicalexpertise.

a.
b.
c.
d.

Ionly.
IIonly.
BothIandII.
NeitherInorII.

20. Which of the following


statements is correct regarding
an accountants working
papers?
a.

b.

Theaccountant
owns the
workingpapers
and generally
may disclose
them as the
accountantsees
fit.

Theclientownstheworking
papersbuttheaccountanthas
custodyofthemuntilthe
accountantsbillispaidinfull.
c. The
accountant
owns the
working
papers but
generally
may
not
disclosethem
without the
clients
consent or a
courtorder.
d. Theclient
ownsthe
working
papersbut,in
theabsence
ofthe
accountants
consent,may
notdisclose
themwithout
acourtorder.

21. Whichofthefollowingis
an authoritative body
designated to promulgate

attestationstandards?

a.
b.
c.
d.

AuditingStandardsBoard.
Governmental Accounting
StandardsBoard.
Financial Accounting Standards
Board.
GeneralAccountingOffice.

22. Accordingtotheprofessions
standards, which of the
followingwouldbeconsidered
consultingservices?

a.
b.
c.
d.

Advisory
services
Yes
Yes
Yes
No

Implementation
services
Yes
Yes
No
Yes

Product
services
Yes
No
Yes
Yes

MODULE1PROFESSIONALRESPONSIBILITIES

10

23.Accordingtothestandardsofthe
profession,whichofthefollowingevents
wouldrequireaCPAperforminga
consultingservicesengagementfora
nonauditclienttowithdrawfromthe
engagement?
I.

TheCPAhasaconflictof
interestthatisdisclosedtothe
clientandtheclientconsentsto
theCPAcontinuingthe
engagement.
AI. TheCPAfailstoobtain
awrittenunderstanding
from the client
concerningthescopeof
theengagement.

a.
b.
c.
d.

Ionly.
IIonly.
BothIandII.
NeitherInorII.

24. Whichofthefollowingservices
mayaCPAperformincarrying
out a consulting service for a
client?
I.

Analysis of the clients accounting


system.
AI. Reviewoftheclientspreparedbusiness
plan.
III.Preparationofinformationforobtaining
financing.

a.
b.
c.
d.

IandIIonly.
IandIIIonly.
IIandIIIonly.
I,II,andIII.

25. UndertheStatementsonStandardsfor
ConsultingServices,whichofthe
followingstatementsbestreflectsaCPAs
responsibilitywhenundertakinga
consultingservicesengagement?TheCPA
must
a. N
ot
se
ek
to
m
od
if
y
an
y
ag
re
e
m
en
t
m
ad
e
wi
th
th

b.

e
cli
en
t.
Notperformanyattestservicesfor
theclient.
c. I
n
f
o
r
m
t
h
e
cl
ie
n
t
o
f
si
g
n
if
ic
a
n
t
r
e
s
e
r
v
at
i
o
n
s
c
o
n

c
e
r
n
i
n
g
t
h
e
b
e
n
e
fi
ts
o
f
t
h
e
e
n
g

d.

a
g
e
m
e
nt
.

Obta
in a
writt
en
unde
rstan
ding
with
the
clien
t
con
cerni
ng
the
time
for
com
pleti
on
of
the
enga
gem
ent.

26. Whichofthefollowing
servicesisaCPAgenerally
requiredtoperformwhen
conductingapersonal
financialplanning
engagement?
a. Assi
sting
the
clien
t to
ident
ify
tasks
that
are
esse
ntial
in
order
to
act
on
plan
ning
decis
ions.
b. Assis
ting
the
client
to
take
actio
n on

c.

plann
ing
deci
sions.
Monitoringprogressinachieving
goals.
d. Upd
atin
g
reco
mm
end
atio
ns
and
revi
sing
plan
ning
deci
sion
s.

27. InrelationtotheAICPACodeof
Professional Conduct, the IFAC
Code of Ethics for Professional
Accountants
a. Hasmoreoutrightprohibitions.
b. Hasfeweroutrightprohibitions.
c. Hasnooutrightprohibitions.
d.
Applies
onl
y
to
pro
fes
sio
nal
acc
ou
nta
nts
in
bus
ine
ss.
28. BasedontheIFACCodeof
Ethicsfor
ProfessionalAccountants,
threatstoindependencearise
fromallofthefollowing
except:
a. Selfinterest.
b. Advocacy.
c. Theauditrelationship.
d. Intimidation.
29. Ifanauditfirmdiscoversthreats
toindependencewithrespectto
anauditengagement,theIFAC
CodeofEthicsforProfessional
Accountantsindicatesthatthe
firmshould

a.
b.
c.

Immediately resign from the


engagement.
Notifytheappropriateregulatory
body.
Documenttheissue.
d. Evaluatethe
significanceofthe
threatsandapply
appropriatesafeguards
toreducethemtoan
acceptablelevel.

30. Withrespecttotheacceptanceof
contingentfeesforprofessional
services,theIFACCodeofEthics
forProfessionalAccountants
indicatesthattheaccountingfirm

a.

Shouldnotacceptcontingentfees.
b. Should

establish
appropriate safeguards
aroundacceptanceofa
contingentfee.
c.

Should

accept
contingentfeesonlyfor
assurance services
other than audits of
financialstatements.

d.

Should

accept
contingentfeesifitis
customary in the
country.

31. Withregardtomarketing
professionalservices,theIFAC
CodeofEthicsforProfessional
Accountantsindicatesthat
a. Directmarketingisprohibited.
b. Marketingisallowediflawful.
c. Marketing should be honest and
truthful.
d. Marketing of audit services is
prohibited.
32. What body establishes international
auditingstandards?
a.

The Public Company Accounting


OversightBoard.

b.

The International Federation of


Accountants.
TheWorldBank.
The International Assurance
Body.

c.
d.

33. Whichofthefollowingisnot
true about international
auditingstandards?

a.

b.

c.

d.

International auditing
standards do not
require an audit of
internalcontrol.
Internationalauditing
standardsdonotallow
referencetodivisionof
responsibilitiesinthe
auditreport.
International auditing
standards require
obtaining

an
attorneysletter.
International auditing
standardsarebasedona
risk

assessment
approach.

34. Whichofthefollowingisnot
true about international
auditingstandards?
a. Audit report modification for
consistencyintheapplicationof
accountingprinciplesisrequired.
b. Confirmation of
accounts
receivable is not
required.
c. The location in which
the auditor practices
mustbedisclosedinthe
auditreport.
d. International auditing
standards do not
require an audit of
internalcontrol.
35. Independencestandardsofthe
GAOforauditsinaccordance
withgenerallyaccepted
governmentauditingstandards
describethreetypesof
impairmentsofindependence.
Whichofthefollowingisnot
oneofthesetypesof
impairments?
a. Personal.
b. Organizational.
c. External.
d. Unusual.
36. Inaccordancewiththe
independencestandardsofthe
GAOforperformingauditsin
accordancewithgenerally
acceptedgovernmentauditing
standards,whichofthefol

MODULE1PROFESSIONALRESPONSIBILITIES
lowingisnotan
exampleofan
externalimpairment
ofindependence?
a. Redu
cing
the
exten
t of
audit
work
due
to
press
ure
from
mana
geme
nt to
reduc
e
audit
fees.
b. Sel
ecti
ng
aud
it
ite
ms
bas
ed
on
the
wis
hes
of
an
em
plo
yee
of
the
org
ani
zati
on
bei
ng
aud
ite
d.
c. Bias
in
the
item
sthe
audit
ors
deci
deto
selec
t for
testi
ng.
d.

11

Influenc
e
by
ma
nag
eme
nt
on
the
pers
onn
el
assi
gne
dto
the
aud
it.
37. Underthe
independence
standardsofthe
GAOforper
formingaudits
inaccordance
withgenerally
acceptedgov
ernment
auditing
standards,
whichofthe
followingare
overreaching
principlesfor
determining
whethera
nonaudit
serviceimpairs
independence?
I.
Audi

t
o
r
s

m
u
s
t

n
o
t

p
e
r
f
o
r
m

n
o
n
a
u
d
i

s
e
r
v
i
c
e
s

t
h
a
t

i
n

v
o
l
v
e

p
e
r
f
o
r
m
i
n
g

m
a
n
a
g
e
m
e
n
t

f
u
n
c
t
i
o
n
s

o
r

m
a
k
i
n
g

m
a
n
a
g

AI.
Audit
o
r
s
m
u
s
t
n
o
t
a
u
d
it
t
h
e
i
r
o
w
n
w
o
r
k
o
r
p
r
o
v
i
d
e
n
o
n
a
u
d
it
s
e
r
v
i
c
e
s
i

e
m
e
n
t

d
e
c
i
s
i
o
n
s
.

n
s
it
u
a
ti
o
n
s
i
n
w
h
i
c
h
t
h
e
n
o
n
a
u
d
it
s
e
r
v
i
c
e
s
a
r
e
s
i
g
n
i
f
i
c
a
n
t
o
r
m
a
t
e
r
i
a
l
t
o
t
h
e
s
u
b
j
e
c
t

matteroftheaudit.
BI.
Audi
t
o
r
s

m
u
s
t

n
o
t

p
e
r
f
o
r
m

n
o
n
a
u
d
i
t

s
e
r
v
i
c
e
s

w
h
i
c
h

r
e
q
u
i
r
e

i
n
d
e
p
e
n
d
e
n
c
e
.

a.
b.
c.
d.

Ionly.
IandIIonly.
I,IIandIII.
IIandIIIonly.

38. Whichofthe
following
bodies
enforce the
audit re
quirements
of the
Employee
Retirement
Security Act
of 1974
(ERISA)
with respect
to employee
benefit
plans?

a.
b.
c.
d.

TheDepartmentofLabor.
TheDepartmentofPensionManagement.
TheSecuritiesandExchangeCommission.
ThePublicCompanyAccountingOversightBoard.

39. Therequirement
for
independenceby
theauditorre
gardingauditsof
employee
benefitplans
applytotheplan
aswellas
a. In
ve
st
m
en
t
co
m
pa
ni
es
do
in
g
bu
si
ne
ss
wi
th
th
e
pl
an
.
b. Membersoftheplan.
c. Theplansponsor.
d. Theactuaryfirmdoingservicesfortheplan.

MODULE1PROFESSIONALRESPONSIBILITIES

12
SIMULATIONS

TaskBasedSimulation1
Independence
Issues

Authoritative

Literature

Help

Assumethatyouareanalyzingrelationshipsforyourfirmtoidentifysituationsinwhichanauditorsindependencemay
beimpaired.Foreachofthefollowingnumberedsituations,determinewhethertheauditor(acoveredmemberinthesituation)
isconsideredtobeindependent.IftheauditorsindependencewouldnotbeimpairedselectNo.Iftheauditorsindependence
wouldbeimpairedselectYes.
1.

2.

3.

4.
5.

T
h
T

6.

7.

8.

T
I
n
V
a
L
i

ThedirectoroftheauditcommitteeofHanmeiCorp.,anonissuer(nonpublic)company,hasindicatedthatthecompany
maybeinterestedinengagingyourfirmtoperformvariousprofessionalservices.Considereachofthefollowingpotential
servicesbyitself,anddeterminewhetheraCPAfirmmayprovidesuchaservice.IfaCPAfirmmayprovidetheservice,fillin
thecircleunderthefirstorsecondcolumnofrepliesbaseduponwhetherindependenceisrequired.Iftheservicemaynotbe
provided,fillinthecircleunderMayNotProvide.Foreachserviceyoushouldhaveonlyonereply.

1.
2.

Service
Provideanopiniononwhetherfinancialstatementsare
preparedfollowingthecashbasisofaccounting.

Compileaforecastforthecomingyear.
3.

Compile the financial statements for the past year and


issueapubliclyavailablereport.

4.

Applycertainagreeduponprocedurestoaccountsreceivable
forpurposesofobtainingaloan,andexpressasummaryof
findingsrelatingtothoseprocedures.

5.

Reviewquarterlyinformationandissueareportthatincludes
limitedassurance.
6.

Performanauditofthefinancialstatementsonwhether
they are prepared following generally accepted
accountingprinciples.

7.

Performareviewofaforecastthecompanyhasprepared
forthecomingyear.

Mayprovide,
independence
isrequired

Mayprovide,
independenceis
notrequired

May
notprovide

Service
8.

Compilethefinancialstatementsforthepastyear,butnotissue
areportsincethefinancialstatementsareonlyforthe
companysuse.

MODULE1PROFESSIONALRESPONSIBILITIES

13

Mayprovide,
independence
isrequired

Mayprovide,
independenceis
notrequired

May
notprovide

9.Calculatetheclientstaxesandfillouttheappropriatetax
forms.
10.DesignanewpayrollsystemforHanmeiandbasebillingson
Hanmeisactualsavingsforthenextthreeyears.
TaskBasedSimulation3
Research
Authoritative
Literature

Help

3.

Regardlessofwhatyoufind,hewouldlikeyoutodeterminewhetheracoveredmember
mayhavesuchanimmaterialfinancialinvestmentinanauditclient.Whattitle,
section,andparagraphaddressesthisissue?

TaskBasedSimulation4
ProvidingVarious
Services

Authoritative

Literature

Help

ThefirmofWillinghamandWhiting,CPAs,hashadrequestsfromanumberofclientsandprospectiveclientsasto
providingvarioustypesofservices.Pleasereplyastowhethertheappropriateindependencerules(AICPAand/orPCAOB)
allowthefollowingengagementswith
AAllowable,giventhesefacts.N
Notallowable,giventhesefacts.

14

(IfbothAICPAandPCAOBrulesapplyandoneofthemdoesnotallowtheservicesanswerN.)

MODULE1PROFESSIONALRESPONSIBILITIES

Case

Publicor
nonpublic
client

Request

1.

Provideinternalauditoutsourcingaswellasperformtheaudit.

Public

2.

Preparethecorporatetaxreturnaswellasperformtheaudit.

Public

3.

Preparethecorporatetaxreturnaswellasperformtheaudit.

Nonpublic

4.

Providebookkeepingservicesaswellasperformtheaudit;WWwillnot
determinejournalentries,authorizetransactions,prepareormodifysource
documents.

Nonpublic

5.

Providefinancialinformationsystemsdesignandimplementationassistance;
WWprovidesnoattestservicesforthatcompany.

Public

6.

Serveontheboardofdirectorsofthecompany;WWprovidesnoattest
servicesforthatcompany.

Public

7.

Implementanofftheshelfaccountingpackageaswellasperformtheaudit.

Nonpublic

8.

Provideactuarialservicesrelatedtocertainliabilitiesaswellasperformthe
audit;thesubjectivelydeterminedliabilitiesrelatetoamaterialportionofthe
financialstatements.

Nonpublic

9.

Provideactuarialservicesrelatedtocertainliabilitiesaswellasperformthe
audit;thesubjectivelydeterminedliabilitiesrelatetomaterialportionofthe
financialstatements.

Public

CorporateexecutivesofanauditclientwanttohaveWWprovidetaxplanning
forthemselves(notthecompany).

Public

10.

Allowable(A)
ornot
allowable
(NA)?

TaskBasedSimulation5
Research
Authoritative
Literature

Help

PayrollSystemEngagement
MichaelEdlingerispresidentofEdlingerCorporation,anonpublicmanufacturerofkitchencabinets.Hehasbeen
approachedbyMarlaWong,apartnerwithWongandCo.,CPAs,whosuggeststhatherfirmcandesignapayrollsystemfor
Edlingerthatwilleithersavehiscorporationmoneyorbefree.Morespecifically,Ms.Wongproposestodesignapayroll
systemforEdlingeronacontingentfeebasis.Shesuggeststhatherfirmsfeewillbe25%ofthesavingsinpayrollforeach
ofthenextfouryears.AfterfouryearsEdlingerwillbeabletokeepallfuturesavings.EdlingerCorporationspayrollsystem
costscurrentlyareapproximately$200,000annually,andthecorporationhasnotpreviouslybeenaclientofWong.Edlinger
CorporationisauditedbyanotherCPAfirmandWong&Co.providesnootherservicestoEdlingerCorporation.Selectone
ofthefollowingtopicstoanswerquestion1.
Selections
A. AU
B. PCAOB
C. AT

D.
AR
E.

ET
F. BL
G. CS
H. QC
1.

WhichtopicoftheProfessionalStandardsaddressesthisissueandwillbehelpful
indeterminingwhetherWong&Co.mayperformthisengagementunderthese
termswithoutviolatingprofessionalrequirements?

(A)(B)(C)(D)(E)(F)(G)(H)
2.

Providetheappropriateparagraphcitationthataddressesthisissue.

MODULE1PROFESSIONALRESPONSIBILITIES
3.

15

Interpretyourfindingsinparts1.and2.andconcludeonwhetherWong&Co.mayperformthisservicewithout
violatingprofessionalstandards.
___Yes,thisservicemaybeperformedwithoutviolatingprofessionalstandards.
___No,thisservicemaynotbeperformedwithoutviolatingprofessionalstandards.

TaskBasedSimulation6
Research
Authoritative
Literature

Help

ProfessionalStandards
YouhaveworkedwithJames&Co.CPAsforapproximately4months.JenJefferson,whohasjuststartedwithJames
&Co.,hasaskedyoutoexplainthenatureofvariousprofessionalstandardstoher.Morespecifically,shewouldliketo
haveabetterunderstandingofwhichstandardstoaddress,inwhichcircumstances.
Selecttheappropriatetitleofstandardsfor1.through10.below.Standardsmaybeselectedonce,morethanonce,ornot
at
all.
TitleofStandards
A. AICPABylaws(BL)
B. CodeofProfessionalConduct(ET)
C. PCAOBAuditingStandards
D. StandardsforPerformingandReportingonPeerReviews(PR)
E. StatementsonAuditingStandards(AU)
F. StatementsonQualityControlStandards(SQCS)
G. StatementsonStandardsforAccountingandReviewServices(SSARS)
H. StatementsonStandardsforAttestationEngagements(SSAE)
I. StatementsonStandardsforConsultingServices(CS)
J. StatementsonStandardsforTaxServices(TS)
8. For reporting on client pro forma
Standardsthatprovideguidance
financialinformation.
1.

2.

Onwhetheracontingentfeemaybebilledtoaclient.
3.

4.

RelatedtofirmrequirementsofCPAfirms
that are enrolled in an AICPAapproved
practicemonitoringsystem.

Foranexaminationofaclientsfinancialforecast.
5.

6.

For performance of a review of a


nonpublic companys annual financial
statements.

Relating to overall requirements when


providing services for an advisory
servicesengagement.

Fortheauditofapubliccompany.
7.

Fortheperformanceofaninterimreviewof
the quarterly financial statements of a
nonpublicauditclient.

9.

On whether an investment of a CPA


impairsherindependencewithrespect
toaclient.
10. Onperformingacompilationofa
nonpublic companys quarterly
statements.

(A)(B)(C)(D)(E)(F)(G)(H)(I)

(J)

MODULE1PROFESSIONALRESPONSIBILITIES

16
TaskBasedSimulation7
Research

Authoritative
Literature

Help

CodeofProfessionalConduct
AssumethatyouareemployedbyDFW,CPAs.Oneofthepartnershasaskedyoutoresearchtheprofessionalstandards
forthesectionthatidentifiestherequirementsregardingtheacceptanceofcontingentfeesforengagements.
Titlechoices
A. AU
B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
(A)(B)(C)(D)(E)(F)(G)(H)
1.

WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtothepartner?

2.

Entertheexactsectionandparagraphswithhelpfulinformation.

MODULE1

PROFESSIONALRESPONSIBILITIES

MULTIPLECHOICEANSWERS

1.
2.
3.
4.
5.
6.
7.
8.
9.

C
D
B
C
C
A
D
C
B

__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__

10.
11.
12.
13.
14.
15.
16.
17.
18.

a
a
a
b
b
c
a
d
b

__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__

19.
20.
21.
22.
23.
24.
25.
26.
27.

d
c
a
a
d
d
c
a
b

__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__

17

28. c
29. d
30. b
31. c
32. b
33. c
34. a
35. d
36. c

__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__

37. b
38. a
39. c

1st:
2nd:

__ __
__ __
__ __

__/39=__%
__/39=__%

MULTIPLECHOICEANSWEREXPLANATIONS

A.1.3.CodeofProfessionalConduct
1.(c)Therequirementistoidentifythestatementthatbest
describesthemeaningofgenerallyacceptedauditing
standards.Answer(c)iscorrectbecausegenerally
acceptedauditingstandardsdealwithmeasuresofthe
qualityoftheperformanceofauditprocedures(AU150).
Answer(d)isincorrectbecauseproceduresrelatetoactsto
beperformed,notdirectlytothestandards.Answer(b)is
incorrectbecausegenerallyacceptedauditingstandards
havebeenissuedbypredecessorgroups,aswellasbythe
AuditingStandardsBoard.Answer(a)isincorrectbecause
theremayormaynotbeuniversalcompliancewiththe
standards.
2.

(d)Allofthesecanresultintheautomaticexpulsionof
thememberfromtheAICPA.Answer(a)isincorrect

becausealthoughtheconvictionofafelonycanresultin
automaticexpulsion,likewisecantheothertwo.An
swers(b)and(c)areincorrectbecauseallthreecanresult
inautomaticexpulsionfromtheAICPA.
3.

(b)Answer(b)iscorrectbecauseaneffective
corporategovernancestructureisacontrolthat
canbeimplementedbyaclientthatincreases
independenceoftheattestteam.Answer(a)is
incorrectbecauseitisasafeguardthatis
implementedbyregulationortheCPAfirm.
Answer
(c)isincorrectbecauseitisasafeguardthatisrequiredby
regulationortheCPAfirm.Answer(d)isincorrect
becauseitrepresentsathreatratherthanasafeguard.
4.

(c)Answer(c)iscorrectbecausetheteam
memberwouldbereviewinghisorherown

work.Answer(a)isincorrectbecausethisisan
exampleofafamiliaritythreat.Answer(b)is
incorrectbecausethisisanexampleofa
safeguardtothreatstoindependence.Answer
(d)isincorrectbecausethisrepresentsa
financialselfinterestthreattoindependence.
5.

(c)AccordingtotheCodeofProfessional
Conduct,Rule101regardingindependence,a
spousemaybeemployedbyaclientifs/hedoes
notexertsignificantinfluenceoverthecontents
oftheclientsfinancialstatements.Thisisakey
positionasdefinedbytheInterpretationofRule
101.

6.

(a)AccordingtoRule102oftheCodeofProfes
sionalConduct,inperforminganyprofessional
service,amembershallmaintainobjectivityand
integrity,avoidconflictsofinterest,andnot
knowinglymisrepresentfacts.Answer(a)is
correctasthiswouldbeknowinglymisrepre
sentingthefacts.Answers(b)and(d)are
incorrectasthese

arenotintentionalmisstatements.Answer(c)isincorrect
becausewhileonemustremainobjectivewhile
performingconsultingservices,independenceisnot
requiredunlesstheCPAalsoperformsattestservicesfor
thatclient.
7.

(d)Therequirementistodeterminewhichactisgenerally
prohibited.Answer(d)iscorrectbecauseIfan
engagementisterminatedpriortocompletion,themember
isrequiredtoreturnonlyclientrecords(ET501).Answer
(a)isincorrectbecauseissuingamodifiedreport
explainingafailuretofollowagovernmentalregulatory
agencysstandardswhenconductinganattestserviceis
notprohibited.Answer(c)isincorrectbecauseacceptinga
contingentfeeisallowablewhenrepresentingaclientin
anexaminationbyarevenueagentoftheclientsfederal
orstateincometaxreturn(ET302).Answer(b)is
incorrectbecauserevealingconfidentialclientinformation
duringaqualityreviewofaprofessionalpracticebya
teamfromthestateCPAsocietyisnotprohibited(ET
301).
8.

(c)AccordingtoRule203oftheCodeof
ProfessionalConduct,CPAsareallowedto
departfromaGASBStatementonlywhen
resultsoftheStandardwouldbemisleading.
Examplesofpossiblecircumstancesjustifying
departurearenewlegislationandanewformof
businesstransaction.

9.

(b)Therequirementistodeterminewhethera
CPAmayhireanonCPAsystemsanalystand,
ifso,underwhatconditions.Answer(b)is
correctbecauseET291allowssuchasituation
whentheCPAisqualifiedtosuperviseand
evaluatetheworkofthespecialist.Answer(a)is
incorrectbecausetheCPAneednotbequalified
toperformthespecialiststasks.Answer(c)is
incorrectbecausenonCPAprofessionalsare
permittedtobeassociatedwithCPAfirmsin
publicpractice.Answer(d)isincorrectbecause
nonprofessionalsmaybehired,andbecause
developingcomputersystemsisrecognizedasa
serviceperformedbypublicaccountants.

10. (a)ShemayusetheCPAdesignationonher
businesscardswhenshedoesnotimply
independencebutshowshertitleandher
employer.Therefore,answer(b)isincorrect.
Answer(c)isincorrectbecauseshemayusethe
CPAdesignationonherbusinesscardsor
companytransmittalsifshedoesnotimply
independence.Answer(d)isincorrectbecause
undertheabovesituations,shecanusetheCPA
designation.
11. (a)Therequirementistodeterminetheactivity
that would most likely not impair a CPAs
independence.Ac
*

Explanationofhowtousethisperformancerecordappearsonpage2.

18

MODULE1PROFESSIONALRESPONSIBILITIES

countingandconsultingservicesdonot
normallyimpairindependencebecause
themembersroleisadvisoryinnature
(ET191).Answers(b)and(c)are
incorrectbecausemanagementfunctions
arebeingperformed(ET191).Answer
(d)isincorrectbecauseacceptinga
luxuriousgiftimpairsaCPAs
independence(ET191).

specializedknowledge,
training,andexperience.

15. (c)Therequirementistodeterminewhich
actisgenerallyprohibited.Answer(c)is
correctbecauseamemberinpublic
practiceshallnotforacommissionrec
ommendorrefertoaclientanyproductor
service,orforacommissionrecommendor
referanyproductorservicetobesupplied
byaclient,orreceiveacommissionwhen
thememberorthemembersfirmperform
forthatclient:(1)anauditofafinancial
statement;or(2)acompilationofafi
nancialstatementwhenthemember
expectsthatathirdpartywillusethe
financialstatementandthemembers
compilationreportdoesnotdisclosealack
ofindependence;or(3)anexaminationof
prospectivefinancialinformation.Answer
(a)isincorrectbecauseamembermay
purchaseaproductandresellittoaclient.
Anyprofitonsalewouldnotconstitutea
commission(ET591).

12. (a)Therequirementistoidentifythetype
ofreportthatmaybeissuedonlybyan
independentaccountant.Answer(a)is
correctbecauseAT101requiresan
accountantbeindependentforall
attestationengagements.Anattestation
engagementisoneinwhichtheaccountant
expressesaconclusionaboutthereliability
ofassertionswhicharetheresponsibilityof
anotherparty.Astandardreportonan
examinationofafinancialforecastrequires
theauditortoexpressanopinion,which
requiresanaccountanttobeindependent.
16. (a)Theprincipleofduecarerequiresthe
Answer(b)isincorrectbecauseCS100
membertoobservetheprofessions
indicatesthatconsultingservicesare
technicalandethicalstandards,strive
fundamentallydifferentfromtheattestation
continuallytoimprovecompetenceandthe
function,andthereforedonotrequire
qualityofservices,anddischarge
independenceoftheaccountant.Answers
responsibilitytothebestofthemembers
(c)and(d)areincorrectbecauseAR100
ability.Answer(b)isincorrectasthe
indicatesthatanaccountantwhoisnot
auditorisnotrequiredtoexamineall
independentisnotprecludedfromissuinga
reportonacompilationoffinancial
corroboratingevidencesupporting
statements.
managementsassertions,butratherto
examineevidence
13. (b)PerET56,duecarerequires
amembertodischarge
professionalresponsibilitieswith
competenceanddiligence.
Competencerepresentsthe
attainmentandmaintenanceofa
levelofunderstandingand
knowledgethatenablesa
membertorenderserviceswith
facilityandacumen.Italso
establishesthelimitationsofa
memberscapabilitiesby
dictatingthatconsultationor
referralmayberequiredwhena
professionalengagementexceeds
thepersonalcompetenceofa
memberoramembersfirm.
Accordingly,answer(b)is
correctasitmayberequiredto
consultwithexpertsin
exercisingduecare.Duecare
doesnotrequireobtaining
specialtyaccreditation.
14. (b)Underruling101underRule
ofConduct102,whenaCPAis
actingasanexpertwitness,s/he
shouldnotactasanadvocate
butshouldgivehis/herposition
basedonobjectivity.Theexpert
witnessdoesthisbasedon

onascopebasisbasedonhis/her
considerationofmaterialityandlevelof
riskassessed.Answer(c)isincorrectasthe
auditorshouldbeawareofthepossibility
ofillegalacts,butanauditprovidesno
assurancethatalloranyillegalactswillbe
detected.Answer(d)isnotthebestanswer
becausecompetenceisderivedfromboth
educationandexperience.Theprincipleof
duecarerequiresthemembertostriveto
improvecompetence,however,attaining
theproperbalanceofprofessional
experienceandformaleducationisnota
criterionforexercisingduecare.
17. (d)Thefactthatacloserelative
ofKarworksforFortimpairs
Karsindependence.Answer(a)
isincorrectbecausethegiftisofa
tokenamountwhichdoesnot
impairKarsindependence.
Answer(b)isincorrectbecausea
jointfinancialinvestmentmustbe
materialtoimpairindependence,
andthiswouldgenerallynot
occurwithrespecttoaretirement
plan.Answer(c)isincorrect
becausepreparationoftheclients
taxreturnisnotaservicethat
impairsindependence.

incorrectbecausestatementII
alsoisincorrect.Answer(c)is
incorrectbecausestatementsI
andIIarebothincorrect.
20. (c)InformationintheCPAs
workingpapersisconfidential
andmaynotbedisclosedexcept
withtheclientsconsentorby
courtorder.Answer(a)is
incorrectbecausedisclosureof
theinformationwouldgenerally
violateRule301onconfidential
clientinformation.Answers(b)
and(d)areincorrectbecausethe
CPAownstheworkingpapers.
21. (a)Therequirementistoidentify
thelistedauthoritativebody
designatedtopromulgate
attestationstandards.Answer(a)
iscorrectbecauseonlythe
AuditingstandardsBoard,the
AccountingandReviewServices
Committee,andtheManagement
AdvisoryServicesExecutive
Committeehavebeenauthorized
topromulgateattestation
standards.
A.4.ResponsibilitiesinConsulting
Services

18. (b)Independencewasnotrequiredatthe
22. (a) Types of consulting
timetheloanwasobtained,andbecauseit
servicesincludeconsultations,
isfullysecureditisgrandfatheredby101
advisory

services,
5.Answer(a)isincorrectbecauseifthe
implementation services,
CPAisrequiredtobeindependent,a
transactionservices,staffand
mortgageloanwouldnotbepermittedeven
other support services, and
ifitwasfullysecured.Answer(c)is
productservices.
incorrectbecausetheCPAwasnotrequired
tobeindependentoftheclient.Answer(d) 23. (d)AccordingtotheStatementsonStandards
isincorrectbecausetheCPAwasnot
forConsultingServices,independenceisnot
requiredtobeindependentoftheclient.
requiredforperformanceofconsulting
19. (d)Bothofthestatementsare
incorrect;eitherwouldviolate
Rule301onconfidentialclient
information.Answer(a)is
incorrectbecausestatementIalso
isincorrect.Answer(b)is

servicesunlesstheCPAalsoperformsattest
servicesforthatclient.However,theCPA
mustremainobjectiveinperformingthe
consultingservices.Furthermore,the
understandingwiththeclientforperforming
theservicescanbeestablishedeitherin
writingororally.

MODULE1PROFESSIONALRESPONSIBILITIES
24. (d)CS100indicatesthatthe
natureandscopeofconsulting
servicesisdeterminedsolelyby
thepractitionerandtheclient,
typicallyinwhichthe
practitionerdevelopsfindings,
conclusions,and
recommendationsfortheclient.
Allthreeserviceslistedwould
fallunderthedefinitionof
consultingservices.

identifythecharacteristicthat
differsbetweenthetwosetsof
ethicalstandards.Answer(b)
iscorrectbecausetheIFAC
Codehasfeweroutright
prohibitionsthantheAICPA
Code.Answers(a)and(c)are
incorrectbecausetheIFAC
Codehasfeweroutright
prohibitions.Answer(d)is
incorrectbecausetheIFAC
Codeappliestoallprofessional
accountants.

19

28. (c) The requirement is to


25. (c)TheAICPAStatementon
identify the item that is nota
StandardsforConsulting
threatto independence. Answer
Services,Section100,describes
(c) is correct because the audit
generalstandardsforall
relationship, in itself, is not a
consultingservices,inadditionto
threattoindependence.
thoseestablishedunderthe
AICPACodeofProfessional
Answers (a), (b), and (d) are
incorrect because they all represent
Conduct.Section100addresses
typesofthreatstoindependence.
theareasofclientinterest,
understandingwiththeclient,and
29. (d)Therequirementistoidentifythe
communicationwiththeclient.
appropriatecourseofactionwhenthreatsto
Specifically,thissectionstates
independencearediscovered.Answer(d)
thattheaccountantshouldinform
iscorrectbecausethefirmshouldevaluate
theclientofsignificant
thesignificanceofthethreatsandapply
reservationsconcerningthescope
safeguards,ifnecessary,toreducethemto
orbenefitsoftheengagement.
anacceptablelevel.Answer(a)isincorrect
becausethefirmwouldonlyresignif
A.5.ResponsibilitiesinPersonal
appropriatesafeguardscouldnotreducethe
FinancialPlanning
threatstoanacceptablelevel,oritis
26.(a)Personalfinancialplanning
requiredbasedonaprohibition.Answer(b)
engagementsareonlythosethatinvolve
isincorrectbecausethefirmwouldnot
developingstrategiesandmaking
notifyaregulatorybodyatthispoint.
recommendationstoassistaclientin
Answer(c)isincorrectbecausethefirm
definingandachievingpersonalfinancial
woulddocumenttheissue,butonlyafterit
goals.Personalfinancialengagements
isresolved.
involveallofthefollowing:
20.

Definingengagementobjectives
21. Planning specific procedures
appropriatetoengagement
22.
Developing basis for
recommendations
23.
Communicatingrecommendations
toclient
24. Identifying tasks for taking
actiononplanningdecisions.
Otherengagementsmayalsoinclude,but
generallyarenotrequiredtoperform,
thefollowing:
1.

2.

Assisting client to
take action on
planningdecisions
Monitoring clients progress in
achievinggoals
3. Updating
recommendations and
helping client revise
planningdecisions.

D. InternationalStandardsEthical
27. (b)Therequirementisto

54. (b) The requirement is to identify


whattheIFAC
CodeofEthicsforProfessional
Accountantsprovideswithrespectto
contingentfees.Answer(b)iscorrect
becausetheIFACCodeindicatesthatifthe
contingentfeepresentsathreattoapply
fundamentalprinciples,thefirmshould
establishappropriatesafeguards.Answer
(a)isincorrectbecauseacontingentfee
maybeacceptedifthreatscanbereduced
toanacceptablelevel.Answers(c)and(d)
areincorrectbecausetheIFACCodedoes
notcontaintheseprovisions.
55. (c)Therequirementisto
identifytheIFAC
Codeprovisionregarding
marketing.Answer(c)is
correctbecausetheIFACCode
indicatesthemarketingmust
behonestandtruthful.
Answers(a)and(d)are
incorrectbecausenoparticular
formofmarketingis
prohibited.Answer(b)is
incorrectbecausemarketing
mustbehonestandtruthfulas
wellaslegal.
E. International

Auditing/Assurance

Standards

32. (b)Therequirementistoidentifythebody
thatestablishesinternationalauditing
standards.Answer(b)iscorrectbecause
theInternationalAuditingandAssurance
StandardsBoardoftheInternational
FederationofAccountantsestablishes
internationalauditingstandards.Answer
(a)isincorrectbecausethePublic
CompanyAccountingOversightBoard
establishesstandardsfortheauditofpublic
companiesintheUS.Answers(c)and(d)
areincorrectbecausethesebodiesdonot
establishauditingstandards.
33. (c)Therequirementistoidentify
theitemthatisnottrueabout
internationalauditingstandards.
Answer(c)iscorrectbecause
internationalauditingstandards
requireobtaininganattorneys
letteronlyiftheauditorsassessa

riskofmaterialmisstatement.
Answers(a),(b)and(d)are
incorrectbecausetheyareall
trueaboutinternationalauditing
standards.
34. (a)Therequirementistoidentify
theitemthatisnottrueabout
internationalauditingstandards.
Answer(a)iscorrectbecause
internationalauditingstandards
donotrequireamodificationof
theauditreportforconsistency
intheapplicationofaccounting
principles.Answers(b),(c),and
(d)areincorrectbecausetheyare
trueaboutinternationalauditing
standards.
F.2.GovernmentAccountabilityOffice
(GAO)
35. (d)Therequirementistoidentify
theimpairmentthatisnotoneof
thethreetypesofimpairments
describedintheGAOstandards.
Answer(d)iscorrectbecausean
unusualimpairmentisnotoneof
thetypesofimpairments
describedintheGAOstandards.
Answers(a),(b)and(c)are
incorrectbecausetheyarethe
threetypesofimpairments
describedintheGAOstandards.
36. (c)Therequirementistoidentify
theexamplethatdoesnot
representanexternalimpairment
ofindependence.Answer(c)is
correctbecausethisitemisan
exampleofapersonal
impairmentofindependence.
Answers(a),(b)and
(d) are incorrect because they are all
examples of external impairments of
independence.
37. (b)Therequirementistoidentify
theoverreachingprinciplesfor
identifyingwhethernonaudit
servicesimpairindependence.
Answer(b)iscorrectbecauseI
andIIarethetwoprinciples.
Answer(a)isincorrectbecauseII
isalsoan

MODULE1PROFESSIONALRESPONSIBILITIES

20

overreachingprinciple.Answer(c)isincorrectbecauseIIIisnotanoverreachingprinciple.
Answer(d)isincorrectbecauseIisanoverreachingprincipleandIIIisnot.
F.3.DepartmentofLabor(DOL)
38. (a)TherequirementistoidentifythebodythatenforcestheauditrequirementsofERISA.
Answer(a)iscorrectbecausetheDepartmentofLaborisresponsibleforenforcingtheaudit
requirements.Answer(b)isincorrectbecausetheDepartmentofPensionManagementdoes
notexist.Answers(c)and(d)areincorrectbecausetheSECandthePCAOBdealwith
auditingrequirementsforentitieswithpubliclytradedsecurities(issuers).
39. (c)Therequirementistoidentifythepartythatindependencestandardsalsoapply
towhenperforminganauditofanemployeebenefitplan.Answer(c)iscorrect
becausetheDepartmentofLaborrulesalsoapplytoindependencefromtheplanand
theplansponsor.Answers(a),(b)and(d)areincorrectbecausetheindependence
standardsdonotapplytotheseparties.

MODULE1PROFESSIONALRESPONSIBILITIES

21

SOLUTIONSTOSIMULATIONS

TaskBasedSimulation1
Independence
Issues

Authoritative
Literature

Help

Yes
1.

Theauditorisacosignerofaclientschecks.

2.

Theauditorisamemberofacountryclubwhichisaclient.

3.

Theauditorownsalargeblockofstockinaclientbuthasplaceditinablindtrust.

4.

Theauditorplacedhercheckingaccountinabankwhichisherclient.Theaccountisfully
insuredbyafederalagency.

5.

Theclienthasnotpaidtheauditorforservicesforthepasttwoyears.

6.

Theauditorisleasingpartofhisbuildingtoaclient.

7.

Theauditorjoins,asanordinarymember,atradeassociationwhichisalsoaclient.

8.

Theauditorhasanimmaterial,indirectfinancialinterestintheclient.

Explanationofsolutions
1.

2.

(Y)Sincetheauditorisacosigneronaclientscheck,theauditorcouldbecome
liable if the client defaults. This relationship impairs the auditors
independence.

(N)Independenceisnotimpairedbecausemembershipinthecountryclubisessentially
asocialmatter.
3.

(Y)Anauditormaynotholdadirectfinancialinterestinaclient.Puttingitina
blindtrustdoesnotsolvetheimpairmentofindependence.

4.

(N)Iftheauditorplaceshis/heraccountinaclientbank,thisdoesnotimpair
independenceiftheaccountsarestateorfederallyinsured.Iftheaccountsare
notinsured,independenceisnotimpairediftheamountsareimmaterial.

5.

(Y)Theauditorsindependenceisimpairedwhenprioryearsfeesforprofessional
servicesremainunpaidformorethanoneyear.

6.

(Y) Theauditorsindependenceisimpairedwhens/heleasesspaceoutofabuilding
s/heownstoaclient.

7.

(N)Whentheauditordoesnotserveinmanagement,s/hemayjoinatradeassociation

No

whoisaclient.
8.

(N)Independenceisimpairedfordirectfinancialinterestsandmaterial,indirect
financialinterestsbutnotforimmaterial,indirectfinancialinterests.

TaskBasedSimulation2
Independenceand
VariousServices

Authoritative

Literature
Help

1.

2.

Service
Provide an opinion on whether
financial statements are prepared
followingthecashbasisofaccounting

Compileaforecastforthecomingyear.
3.

Compilethefinancialstatementsforthe
pastyearandissueapubliclyavailable
report.

4.

Applycertainagreeduponproceduresto
accountsreceivableforpurposesof
obtainingaloan,andexpressasummaryof
findingsrelatingtothoseprocedures.

5.

Review quarterly information and issue a


reportthatincludeslimitedassurance.

Mayprovide,
independence
isrequired

Mayprovide,
independenceis
notrequired

May
notprovide

MODULE1PROFESSIONALRESPONSIBILITIES

22

6.

7.

8.

Service
Perform an audit of the financial
statements on whether they are
preparedfollowinggenerallyaccepted
accountingprinciples.
Perform a review of a forecast the
companyhaspreparedforthecoming
year.

Compilethefinancialstatementsforthepast
year,butnotissueareportsincethe
financialstatementsareonlyforthe
companysuse.

Mayprovide,
independence
isrequired

Mayprovide,
independenceis
notrequired

May
notprovide

9.Calculatetheclientstaxesandfillouttheappropriatetax
forms.
10. DesignanewpayrollsystemforHanmeiandbasebillingson
Hanmeisactualsavingsforthenextthreeyears.

TaskBasedSimulation3
Research
Authoritative
Literature

Help

(A) (B) (C) (D) (E) (F) (G)(H)

1.

Hethinksthatherecallstheissuerelatestowhetheryouareorarenota
coveredmember.Hewouldlikeyoutofindthedefinitionofacovered
memberintheprofessionalstandards.WhichtitleoftheProfessionalStan
dardsaddressesthisissueandwillbehelpfulinrespondingtothesenior?

2.

Entertheexactsectionandparagraphswithhelpfulinformation.

92

06

3.

Regardlessofwhatyoufind,hewouldlikeyoutodeterminewhetheracoveredmember
mayhavesuchanimmaterialfinancialinvestmentinanauditclient.Whattitle,section,
andparagraphaddressesthisissue?

ET

101

02

TaskBasedSimulation4
ProvidingVarious
Services
Authoritative
Literature

Help

1.

Notallowable(PCAOBrequirementsprohibit)

2.

Allowable

3.

Allowable

4.

Allowable

5.

Allowable(Becausenoattestservicesareprovided,thePCAOPallowsthis)

6.

Notallowable

7.

Allowable

8.

Notallowable(AICPArulesprohibitthiswhenamountsaresubjectivelydetermined
andmaterial)

9.

Not allowable (Both AICPA nor PCAOB rules prohibit this when amounts are
subjectivelydeterminedandmaterial)

10. Notallowable

MODULE1PROFESSIONALRESPONSIBILITIES

23

TaskBasedSimulation5
Research
Authoritative
Literature

Help

(A) (B) (C) (D) (E) (F) (G)(H)

1. WhichtopicoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulindeterminingwhetherWong&Co.mayperformthisengagement
underthesetermswithoutviolatingprofessionalrequirements?
2. Providetheappropriateparagraphcitationthataddressesthisissue.
3.

302

01

Interpretyourfindingsinparts1and2andconcludeonwhetherWong&Co.
mayperformthisservicewithoutviolatingprofessionalstandards.
_x_Yes,thisservicemaybeperformedwithoutviolatingprofessionalstandards.
___ No,thisservicemaynotbeperformedwithoutviolatingprofessional
standards.

TaskBasedSimulation6
Research
Authoritative
Literature

Help

Standardsthatprovideguidance

(A) (B) (C) (D) (E) (F) (G)(H) (I) (J)

1. Forperformanceofareviewofanonpubliccompanysannualfinancial
statements.
2. Onwhetheracontingentfeemaybebilledtoaclient.
3. RelatedtofirmrequirementsofCPAfirmsthatareenrolledinan
AICPAapprovedpracticemonitoringsystem.
4. Foranexaminationofaclientsfinancialforecast.
5. Relatingtooverallrequirementswhenprovidingservicesforan
advisoryservicesengagement.
6. Fortheauditofapubliccompany.
7. Fortheperformanceofaninterimreviewofthequarterlyfinancial
statementsofanonpublicauditclient.
8. Forreportingonclientproformafinancialinformation.
9. OnwhetheraninvestmentofaCPAimpairsherindependencewith
respecttoaclient.
10. Onperformingacompilationofanonpubliccompanysquarterly
statements.
TaskBasedSimulation7
Research
Authoritative
Literature

Help

1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtothepartner?
2. Entertheexactsectionandparagraphswithhelpfulinformation.

(A)(B)(C)(D)(E)(F)(G)(H)

302

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

24

ENGAGEMENTPLANNING,OBTAININGANUNDERSTANDING
OFTHECLIENTANDASSESSINGRISKS

6.Financialstatementassertionsare
establishedforaccountbalances,

MULTIPLECHOICEQUESTIONS(1113)

d.

1. Which of the following is a conceptual


differencebetweentheattestationstandards
andgenerallyacceptedauditingstandards?
a. Theattestationstandardsdonotapply
to audits of historical financial
statements, while the generally
acceptedauditingstandardsdo.
b. Therequirementthatthepractitioner
beindependentinmentalattitudeis
omitted from the attestation
standards.
c. The attestation standards do not
permit an attestengagement to be
partofabusinessacquisitionstudy
orafeasibilitystudy.
Noneofthestandardsoffieldworkin
generallyacceptedauditingstandardsare
includedintheattestationstandards.
2.

Which of the following is not an


attestationstandard?
a. Sufficientevidenceshallbe
obtainedtoprovidea
reasonablebasisforthe
conclusionthatisex
pressedinthereport.
b. Thereportshallidentifythe
subject matter on the
assertionbeingreportedon
and state the character of
theengagement.
c. The work shall be
adequately planned and
assistants,ifany,shallbe
properlysupervised.
d. A sufficient understanding
of internal control shall be
obtained to plan the
engagement.
3.

a.
b.
c.
d.
4.

Whichofthefollowingismostlikely
tobeuniquetotheauditworkof
CPAsascomparedtowork
performedbypractitionersofother
professions?
Dueprofessionalcare.
Competence.
Independence.
Complexbodyofknowledge.
The third general standard states
that duecare is to be exercised in
the performance of an audit. This
standardisordinarilyinterpretedto
require
a. Thorough review of the
existing safeguards over
access to assets and
records.
b. Limited review of the

a.
b.
c.
d.

7.

Classesoftransactions
Yes
Yes
No
No

Disclosures
Yes
No
Yes
No

Which of the following is not a financial


statement assertion relating to account
balances?

a.

Completeness.

8.

Astheacceptablelevelofdetection
riskdecreases,anauditormay

b.
c.
d.

Existence.
Rightsandobligations.
Valuationandcompetence.

c.

d.

5.

d.

indicationsofemployee
fraudandillegalacts.
Objective review of the
adequacy of the technical
trainingandproficiencyof
firmpersonnel.
Critical review of the
judgment exercised at
everylevelofsupervision.

Afterfieldworkauditproceduresare
completed,apartneroftheCPA
firmwhohasnotbeeninvolvedin
theauditperformsasecondorwrap
upworkingpaperreview.This
secondreviewusuallyfocuseson
a. Thefairpresentationofthe
financial statements in
conformitywithGAAP.
b. Fraud involving the
clients management and
itsemployees.
c. The materiality of the
adjustingentriesproposed
bytheauditstaff.
The communication of internal
control weaknesses to the clients
auditcommittee.

a.

Reduce substantive testing by


relying on the assessments of
inherentriskandcontrolrisk.
b.

c.

d.

9.

a.
b.
c.
d.

Postpone the planned


timingofsubstantivetests
from interim dates to the
yearend.
Eliminatetheassessedlevel
of inherent risk from
considerationasaplanning
factor.
Lowertheassessedlevelof
control risk from the
maximum level to below
themaximum.

Theriskthatanauditorwillconclude,
basedonsubstantivetests,thata
materialmisstatementdoesnotexist
inanaccountbalancewhen,infact,
suchmisstatementdoesexistis
referredtoas
Samplingrisk.
Detectionrisk.
Nonsamplingrisk.
Inherentrisk.

10. Astheacceptablelevelofdetection
riskdecreases,theassurancedirectly
providedfrom
a. Substantivetestsshouldincrease.
b. Substantivetestsshoulddecrease.
c. Testsofcontrolsshouldincrease.
d. Testsofcontrolsshoulddecrease.
11. Which of the following audit risk
components may be assessed in
nonquantitativeterms?
a.
b.
c.
d.

Controlrisk
Yes
Yes
Yes
No

Detectionrisk
Yes
No
Yes
Yes

Inherentrisk
No
Yes
Yes
Yes

12. Inherent risk and control risk differ


fromdetectionriskinthatthey
a. Arise from the
misapplication of auditing
procedures.
b. May be assessed in
either quantitative or
nonquantitativeterms.
c. Exist independently of the
financialstatementaudit.
d. Can be changed at the auditors
discretion.
13. Onthebasisoftheauditevidence
gatheredandevaluated,anauditor
decidestoincreasetheassessedlevelof
controlriskfromthatoriginally
planned.Toachievean

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
overallauditrisklevelthatissubstantially
thesameastheplannedauditrisklevel,the
auditorwould
a. Decreasesubstantivetesting.
b. Decreasedetectionrisk.
c. Increaseinherentrisk.
d. Increasematerialitylevels.
14. Relationship between control risk
anddetectionriskisordinarily
a. Parallel.
b. Inverse.
c. Direct.
d. Equal.
15. Whichofthefollowingwouldan
auditormostlikelyuseindetermining
theauditorspreliminaryjudgment
aboutmateriality?
a. The anticipated sample size of the
plannedsubstantivetests.
b. The entitys annualized
interim financial state
ments.
c. The results of the internal control
questionnaire.
d. The contents of the
management representation
letter.
16. Whichofthefollowingstatementsis
notcorrectaboutmateriality?
a. Theconceptofmateriality
recognizesthatsomematters
areimportantforfair
presentationoffinancial
statementsinconformity
withGAAP,whileother
mattersarenotimportant.
b. Anauditorconsiders
materialityforplanning
purposesintermsofthe
largestaggregatelevelof
misstatementsthatcouldbe
materialtoanyoneofthe
financialstatements.
c.

Materialityjudgmentsare
madeinlightofsur
roundingcircumstances
andnecessarilyinvolve
bothquantitativeand
qualitativejudgments.

d.

Anauditorsconsideration
ofmaterialityisinfluenced
bytheauditorsperception
oftheneedsofareasonable
personwhowillrelyonthe
financialstatements.

17. Whichofthefollowingelements
underliestheapplicationof
generallyacceptedauditing
standards,particularlythestandards
offieldworkandreporting?
a. Internalcontrol.

b.
c.
d.

Corroboratingevidence.
Qualitycontrol.
Materialityandrelativerisk.

25

18. Inconsideringmaterialityfor
planningpurposes,anauditor
believesthatmisstatements
aggregating$10,000wouldhavea
materialeffectonanentitysincome
statement,butthatmisstatements
wouldhavetoaggregate$20,000to
materiallyaffectthebalancesheet.
Ordinarily,itwouldbeappropriateto
designauditingproceduresthat
wouldbeexpectedtodetect
misstatementsthataggregate
a. $10,000
b. $15,000
c. $20,000
d. $30,000
19. Whichofthefollowingwouldan
auditormostlikelyusein
determiningtheauditorspreliminary
judgmentaboutmateriality?
a. Theresultsoftheinitialassessmentof
controlrisk.

b.

c.

The anticipated sample


size for planned substan
tivetests.
The entitys financial statements of
theprioryear.
d. The assertions that are
embodiedinthefinancial
statements.

20. Holdingotherplanningconsiderationsequal,a
decreaseintheamountofmisstatementina
classoftransactionsthatanauditorcould
toleratemostlikelywouldcausetheauditorto
a. Apply the planned
substantivetestspriorto
thebalancesheetdate.
b. Perform the planned
auditing procedures closer
tothebalancesheetdate.
c. Increase the assessed level
ofcontrolriskforrelevant
financial

statement
assertions.
d. Decrease the extent of
auditingprocedurestobe
applied to the class of
transactions.
21. Whenissuinganunqualifiedopinion,
the auditor who evaluates the audit
findingsshouldbesatisfiedthatthe

a.

b.

c.

d.

Amount of known
misstatement

is
documented in the
management representation
letter.
Estimate of the total
likely misstatement is
less than a material
amount.
Amount of known
misstatement

is
acknowledged

and
recordedbytheclient.

c.
d.

23. Professionalskepticism requiresthat


anauditorassumethatmanagementis
a. Honest, in the absence of fraud risk
factors.
b. Dishonest until completion of audit
tests.
c. Neitherhonestnordishonest.
d. Offering reasonable assurance of
honesty.
24. Which of the following is an
example of fraudulent financial
reporting?
a. Company management
changes inventory count
tagsandoverstatesending
inventory, while un
derstating cost of goods
sold.
b. Thetreasurerdiverts
customerpaymentstohis
personaldue,concealinghis
actionsbydebitingan
expenseaccount,thus
overstatingexpenses.
c. An employee steals
inventory and the
shrinkage is recorded in
costofgoodssold.
d. An employee steals small
toolsfromthecompanyand
neglectstoreturnthem;the
cost is reported as a
miscellaneous operating
expense.
25. Whichofthefollowingbestdescribes
whatismeantbythetermfraudrisk
factor?
a. Factors whose presence
indicates that the risk of
fraudishigh.
b.

Estimateofthetotallikelymisstatement
includestheadjustingentriesalready
recordedbytheclient.

22. An attitude that includes a


questioning mind and a critical
assessment of audit evidence is
referredtoas
a. Dueprofessionalcare.
b. Professionalskepticism.

Reasonableassurance.
Supervision.

c.

d.

Factors whose presence


oftenhavebeenobservedin
circumstances where frauds
haveoccurred.

Factors whose presence


requires modification of
plannedauditprocedures.
Materialweaknessesidentifiedduring
anaudit.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

26

26. Which of the following is correct


concerning requirements about
auditor communications about
fraud?
a. Fraudthatinvolvessenior
managementshouldbereported
directlytotheauditcommittee
regardlessoftheamountinvolved.
b. Fraudwithamaterialeffect
onthefinancialstatements
should be reported directly
by the auditor to the
Securities and Exchange
Commission.
c. Fraudwithamaterialeffectonthe
financialstatementsshouldordinarily
bedisclosedbytheauditorthrough
useofanemphasisofamatter
paragraphaddedtotheauditreport.
d. The auditor has no
responsibility to disclose
fraud outside the entity
underanycircumstances.
27. Whenperformingafinancial
statementaudit,auditorsare
requiredtoexplicitlyassesstherisk
ofmaterialmisstatementdueto
a. Errors.
b. Fraud.
c. Illegalacts.
d. Businessrisk.
28. Auditsoffinancialstatementsare
designed to obtain assurance of
detectingmisstatementdueto
a.
b.
c.
d.

Errors
Yes
Yes
Yes
No

Fraudulent
financialreporting
Yes
Yes
No
Yes

Misappropriation
ofassets
Yes
No
Yes
No

29.Anauditorisunabletoobtainabsolute
assurancethatmisstatementsduetofraudwill
bedetectedforallofthefollowingexcept
a. Employeecollusion.
b. Falsifieddocumentation.
c. Need to apply professional
judgment in evaluating
fraudriskfactors.
d. Professionalskepticism.
30. The most difficult type of
misstatement to detect is fraud
basedon
a. Theoverrecordingoftransactions.
b. Thenonrecordingoftransactions.
c. Recordedtransactionsinsubsidiaries.
d. Relatedpartyreceivables.
31. Whenconsideringfraudrisk
factorsrelatingtomanagements
characteristics,whichofthe
followingisleastlikelytoindicate
ariskofpossiblemisstatementdue

a.

c.

tofraud?
Failure to correct known reportable
conditionsonatimelybasis.
b. Nonfinancial
managements
preoccupation with the
selection of accounting
principles.
Significantportionofmanagements
compensationrepresentedbybonuses
baseduponachievingunduly
aggressiveoperatingresults.
d. Use of unusually
conservative accounting
practices.

32. Which of the following conditions


identified during fieldwork of an
audit is most likely to affect the
auditors assessment of the risk of
misstatementduetofraud?

a.

Checks for significant


amountsoutstandingat
yearend.

b.
c.
d.

Computergenerateddocuments.
Missingdocuments.
Yearendadjustingjournalentries.

33. Whichofthefollowingismost
likelytobearesponsetothe
auditorsassessmentthattheriskof
materialmisstatementduetofraud
fortheexistenceofinventoryis
high?
a. Observe test counts of
inventoryatcertainloca
tionsonanunannounced
basis.
b. Perform
analytical
procedures rather than
takingtestcounts.
c. Requestthatinventoriesbe
countedpriortoyearend.
d.

Request that inventory


counts at the various loca
tionsbecountedondifferent
datessoastoallowthesame
auditor to be present at
everycount.

34. Whichofthefollowingismostlikely
tobeanexampleoffraud?
a. Defalcations occurring
duetoinvalidelectronic
approvals.
b. Mistakes in the
applicationofaccounting
principles.
c. Mistakesinprocessingdata.
d. Unreasonable accounting
estimates arising from
oversight.

d.

personnelislow.
b. Insiders recently purchased
additional shares of the
entitysstock.
c. Management places
substantial emphasis
on meeting earnings
projections.
The rate of change in the entitys
industryisslow.

36. Which of the following statements


reflectsanauditorsresponsibilityfor
detectingmisstatementsduetoerrors
andfraud?
a. Anauditorisresponsible
fordetectingemployee
errorsandsimplefraud,
butnotfordiscovering
fraudinvolvingemployee
collusionormanagement
override.
b. Anauditorshouldplanthe
audittodetectmis
statementsduetoerrors
andfraudthatarecaused
bydeparturesfromGAAP.
c.

Anauditorisnotresponsible
fordetectingmisstatements
duetoerrorsandfraud
unlesstheapplicationof
GAASwouldresultinsuch
detection.

d.

Anauditorshoulddesign
theaudittoproviderea
sonableassuranceof
detectingmisstatementsdue
toerrorsandfraudthatare
materialtothefinancial
statements.

35. Whichofthefollowing
characteristicsmostlikelywould
37. Disclosureoffraudtopartiesotherthana
heightenanauditorsconcern
clientsseniormanagementanditsaudit
abouttheriskofintentional
committeeorboardofdirectorsordinarilyis
manipulationoffinancial
notpartofanauditorsresponsibility.
statements?
However,towhichofthefollowingoutside
a. Turnover of senior accounting
partiesmayadutytodisclosefraudexist?

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

27

conditionsrelatingtofinancialstressof
employeesoradverserelationshipsbetweena
companyanditsemployees?
Toagovernment
a. Theauditorisrequiredto
TotheSEC
Toasuccessor
fundingagency
plan the audit to detect
whenthe
auditorwhenthe fromwhichthe
these conditions on all
clientreports successormakes
clientreceives
anauditor
appropriate
financial
audits.
change
inquiries
assistance
b. Theseconditionsrelateto
a.
Yes
Yes
No
fraudulentfinancialre
b.
Yes
No
Yes
porting,andanauditoris
c.
No
Yes
Yes
requiredtoplantheauditto
d.
Yes
Yes
Yes
detecttheseconditions
whentheclientisexposed
38. Under Statements on Auditing
toariskofmisappropriation
Standards, which of the following
ofassets.
wouldbeclassifiedasanerror?
c.
Theauditorisrequiredto
a. Misappropriation of assets
plantheaudittodetect
for the benefit of man
theseconditionswhenever
agement.
theymayresultinmis
b. Misinterpretation

by
statements.
management of facts that
d.
The auditor is not required
existed whenthe financial
toplantheaudittodiscover
statementswereprepared.
theseconditions,butshould
c. Preparation of records
consider them if he or she
byemployeestocovera
becomes aware of them
fraudulentscheme.
duringtheaudit.
d. Intentionalomissionofthe
recording of a transaction
tobenefitathirdparty.
39. What assurance does the auditor
provide that misstatements due to
errors,fraud,anddirecteffectillegal
actsthatarematerialtothefinancial
statementswillbedetected?
a.
b.
c.
d.

Errors
Limited
Limited
Reasonable
Reasonable

Fraud
Negative
Limited
Limited
Reasonable

Directeffect
illegalacts
Limited
Reasonable
Limited
Reasonable

40. Becauseoftheriskofmaterial
misstatement,anauditoffinancial
statementsinaccordancewith
generallyacceptedauditing
standardsshouldbeplannedand
performedwithanattitudeof
a. Objectivejudgment.
b. Independentintegrity.
c. Professionalskepticism.
d. Impartialconservatism.
41. Which of the following most
accurately summarizes what is
meant by the term material
misstatement?
a. Fraudanddirecteffectillegalacts.
b. Fraud involving senior
management and material
fraud.
c. Material error, material
fraud, and certain illegal
acts.
d. Material error and material illegal
acts.
42. Whichofthefollowingstatementsbest
describestheauditorsresponsibilitytodetect

43. Whentheauditorbelievesa
misstatementisormaybetheresult
offraudbutthattheeffectofthe
misstatementisnotmaterialtothe
financialstatements,whichofthe
followingstepsisrequired?
a. Consider the implications
for other aspects of the
audit.
b. Resignfromtheaudit.
c. Commenceafraudexamination.
d. Contactregulatoryauthorities.
44. Whichofthefollowingstatementsis
correct relating to the auditors
considerationoffraud?
a. Theauditorsinterestinfraud
considerationrelatestofraudulentacts
thatcauseamaterialmisstatementof
financialstatements.
b. A primary factor that
distinguishesfraudfromer
ror is that fraud is always
intentional,whileerrorsare
generally, but not always,
intentional.
c.

d.

Fraud always involves a


pressure or incentive to
commit fraud, and a
misappropriationofassets.

Whileanauditorshouldbeawareof
thepossibilityoffraud,management,
andnottheauditor,isresponsiblefor
detectingfraud.

45. Whichofthefollowingfactors
orconditionsisanauditorleast
likely to plan an audit to
discover?
a. Financial pressures affecting
employees.
b. Highturnoverofseniormanagement.
c. Inadequate monitoring of significant
controls.
d. Inability to generate
positive cash flows from
operations.

46. At which stage(s) of the audit may


fraudriskfactorsbeidentified?
a.
b.
c.
d.

Planning
Yes
Yes
Yes
No

Obtaining
Understanding
Yes
Yes
No
Yes

Conducting
fieldwork
Yes
No
No
Yes

47. Managementsattitudetoward
aggressivefinancialreportingandits
emphasisonmeetingprojectedprofit
goalsmostlikelywouldsignificantly
influenceanentityscontrol
environmentwhen
a. Externalpoliciesestablished
bypartiesoutsidetheentity
affect its accounting
practices.
b. Management is dominated
by one individual who is
alsoashareholder.
c. Internalauditorshavedirect
access to the board of
directors and the entitys
management.
d. The audit committee is active in
overseeing the entitys financial
reportingpolicies.
48. Whichofthefollowingisleastlikely
toberequiredonanaudit?
a. Test appropriateness of
journal entries and adjust
ment.
b. Review accounting estimates for
biases.
c. Evaluate the business
rationaleforsignificantun
usualtransactions.
d. Make a legal
determination of whether
fraudhasoccurred.
49. Which of the following is most
likelytobeanoverallresponseto
fraudrisksidentifiedinanaudit?

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

28

d.

a.

b.

Supervisemembersofthe
auditteamlesscloselyand
relymoreuponjudgment.
Uselesspredictableauditprocedures.
c. Onlyusecertifiedpublic
accountants on the en
gagement.
d.

Placeincreasedemphasison
the audit of objective
transactions rather than
subjectivetransactions.

50. Whichofthefollowingisleast
likelytobeincludedinanauditors
inquiryofmanagementwhile
obtaininginformationtoidentifythe
risksofmaterialmisstatementdueto
fraud?
a. Are financial reporting
operations controlled by
and limited to one
location?
b. Does it have knowledge of fraud or
suspectfraud?
c. Does it have programs to mitigate
fraudrisks?
d. Hasitreportedtotheaudit
committeethenatureofthe
companysinternalcontrol?
51. Individualswhocommitfraudare
ordinarily able to rationalize the
actandalsohavean
a.
b.
c.
d.

Incentive
Yes
Yes
No
No

Opportunity
Yes
No
Yes
No

52. What is an auditors responsibility


who discovers management
involved in what is financially
immaterialfraud?
a. Report the fraud to the audit
committee.
b. Report the fraud to the
Public Company Oversight
Board.
c. Reportthefraudtoalevel
ofmanagementatleastone
belowthoseinvolvedinthe
fraud.
d. Determine that the
amounts involved are
immaterial, and if so,
there is no reporting
responsibility.
53. Which of the following is most likely to be
considered a risk factor relating to fraudulent
financialreporting?
a. Domination of management by top
executives.
b. Largeamountsofcashprocessed.
c. Negativecashflowsfromoperations.

Smallhighdollarinventoryitems.

54. Whichofthefollowingismostlikely
tobepresumedtorepresentfraudrisk
onanaudit?
a. Capitalization of repairs
and maintenance into the
property, plant, and
equipmentassetaccount.
b. Improperrevenuerecognition.
c. Improperinterestexpenseaccrual.
d. Introduction of significant new
products.
55. Anauditorwhodiscoversthata
clientsemployeespaidsmall
bribestomunicipalofficialsmost
likelywouldwithdrawfromthe
engagementif
a. The payments violated the
clients policies regarding
the prevention of illegal
acts.
b. Theclientreceivesfinancial
assistance from a federal
governmentagency.
c. Documentation that is
necessarytoprovethatthe
bribeswerepaiddoes not
exist.
d. Management fails to take
the appropriate remedial
action.
56. Whichofthefollowingfactorsmost
likely would cause a CPA to not
acceptanewauditengagement?

a.
b.

c.
d.

The prospective client


hasalreadycompletedits
physicalinventorycount.
The CPA lacks an
understanding of the
prospective

clients
operationandindustry.
The CPA is unable to
review the predecessor
auditorsworkingpapers.
The prospective client is
unwilling to make all fi
nancial records available
totheCPA.

c.
d.

Violationsofantitrustlaws.
Pricefixing.

60. Whichofthefollowingrelatively
smallmisstatementsmostlikelycould
haveamaterialeffectonanentitys
financialstatements?
a. An illegal payment to a
foreign official that was
notrecorded.
b. Apieceofobsoleteoffice
equipment that was not
retired.
c. A petty cash fund
disbursement that was not
properlyauthorized.
d. An uncollectible account
receivable that was not
writtenoff.

57. Whichofthefollowingfactors
wouldmostlikelyheightenan
auditorsconcernabouttheriskof
fraudulentfinancialreporting?
a. Large amounts of liquid
61. DuringtheannualauditofAjaxCorp.,a
assets that are easily con
publiclyheldcompany,Jones,CPA,a
vertibleintocash.
continuingauditor,determinedthatillegal
b. Low growth and
politicalcontributionshadbeenmadeduring
profitabilityascomparedto
eachofthepastsevenyears,includingtheyear
other entities in the same
underaudit.Jonesnotifiedtheboardof
industry.
directorsabouttheillegalcontributions,but
c. Financial managements
theyrefusedtotakeanyactionbecausethe
participation in the initial
amountsinvolvedwereimmaterialtothe
selection of accounting
financialstatements.Jonesshouldreconsider
principles.
theintendeddegreeofreliancetobeplacedon
d. An overly complex
the
organizational structure
a. Letterofauditinquirytotheclients
involving unusual lines of
attorney.
authority.
b. Prioryearsauditprograms.
58. Anauditorwhodiscoversthata
clientsemployeeshavepaidsmall
bribestopublicofficialsmostlikely
wouldwithdrawfromthe
engagementifthe
a. Client receives financial
assistance from a federal
governmentagency.
b. Evidence thatisnecessary
toprovethattheillegalacts
were committed does not
exist.
c. Employeesactionsaffect
the auditors ability to
rely on managements
representations.
d. Notes to the financial
statements fail to disclose
theemployeesactions.
59. Whichofthefollowingillegalacts
should an audit be designed to
obtain reasonable assurance of
detecting?
a.

Securities purchased by
relatives of management
based on knowledge of
insideinformation.

b.

Accrual and billing of an


improper amount of reve
nue under government
contracts.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
c.
d.

Managementrepresentationletter.
Preliminary judgment about
materialitylevels.

62. Themostlikelyexplanationwhythe
auditorsexaminationcannot
reasonablybeexpectedtobringall
illegalactsbytheclienttothe
auditorsattentionisthat
a. Illegalactsareperpetrated
by management override
ofinternalcontrol.
b. Illegalactsbyclientsoften
relatetooperatingaspects
rather than accounting
aspects.
c. Theclientsinternalcontrol
maybesostrongthatthe
auditorperformsonly
minimalsubstantive
testing.
d. Illegal acts may be
perpetrated by the only
person in the clients
organizationwithaccessto
both assets and the
accountingrecords.
63. Ifspecificinformationcomestoan
auditorsattentionthatimpliesthe
existenceofpossibleillegalactsthat
couldhaveamaterial,butindirect
effectonthefinancialstatements,
theauditorshouldnext
a. Apply audit procedures
specifically directed to as
certaining whether an
illegalacthasoccurred.
b. Seek the advice of an
informedexpertqualifiedto
practice law astopossible
contingentliabilities.
c.

Report the matter to an


appropriate level of man
agement at least one level
abovethoseinvolved.

d.

Discuss the evidence with


the clients audit com
mittee, or others with
equivalent authority and
responsibility.

64. Anauditorwhodiscoversthat
clientemployeeshavecommitted
anillegalactthathasamaterial
effectontheclientsfinancial
statementsmostlikelywould
withdrawfromtheengagementif
a. The illegal act is a
violation of generally
accepted accounting
principles.
b. The client does not take
the remedial action that
the auditor considers

c.
d.

29

necessary.
The illegal act was
committed during a prior
yearthatwasnotaudited.
The auditor has already
assessed control risk at the
maximumlevel.

65. UnderthePrivateSecurities
LitigationReformActof1995,
Baker,CPA,reportedcertain
uncorrectedillegalactsto
Supermartsboardofdirectors.Baker
believedthatfailuretotakeremedial
actionwouldwarrantaqualified
auditopinionbecausetheillegalacts
hadamaterialeffectonSupermarts
financialstatements.Supermartfailed
totakeappropriateremedialaction
andtheboardofdirectorsrefusedto
informtheSECthatithadreceived
suchnotificationfromBaker.Under
thesecircumstances,Bakerisre
quiredto
a. Resign from the audit
engagementwithintenbusi
nessdays.
b. Deliver a report
concerningtheillegalacts
to the SEC within one
businessday.
c. Notify the stockholders
that the financial state
ments are materially
misstated.
d. Withholdanauditopinion
until Supermart takes
appropriate remedial
action.
66. Whichofthefollowingwouldbeleastlikelyto
beconsideredanauditplanningprocedure?

a.
b.
c.
d.

Useanengagementletter.
Developtheoverallauditstrategy.
Performriskassessment.
Developtheauditplan.

67. Whichofthefollowingfactorswould
mostlikelycauseaCPAtodecidenot
toacceptanewauditengagement?

a.

b.

c.

d.

The CPAs lack of


understanding of the
prospective clients
internal

auditors
computerassisted audit
techniques.

Managementsdisregardof
itsresponsibilitytomaintain
anadequateinternalcontrol
environment.

TheCPAsinabilityto
determinewhetherrelated
partytransactionswere
consummatedonterms
equivalenttoarmslength
transactions.
Managementsrefusalto
permit the CPA to per
form substantive tests
beforetheyearend.

68. Before accepting an engagement to


auditanewclient,aCPAisrequired
toobtain
a. An understanding of the
prospective clients indus
tryandbusiness.
b. The prospective clients
signature to the engage
mentletter.
c. A preliminary understanding of the
prospective clients control
environment.
d. The prospective clients
consent to make inquiries
ofthepredecessorauditor,
ifany.
69. Beforeacceptinganaudit
engagement,asuccessorauditor
shouldmakespecificinquiriesof
thepredecessorauditorregarding
a. Disagreementsthe

b.
c.

predecessorhadwiththe
clientconcerningauditing
proceduresandaccounting
principles.
The predecessors evaluation of
matters of continuing accounting
significance.

The degree of cooperation the


predecessor received concerning the
inquiryoftheclientslawyer.

d.

The

predecessors
assessmentsofinherentrisk
and judgments about
materiality.

70. Beforeacceptinganaudit
engagement,asuccessorauditor
shouldmakespecificinquiriesof
thepredecessorauditorregarding
thepredecessors
a. Opinionofanysubsequent
events occurring since the
predecessors audit report
wasissued.
b. Understanding as to the
reasons for the change of
auditors.
c. Awareness of the
consistency in the
application of GAAP
betweenperiods.
d. Evaluationofallmattersof
continuing accounting
significance.
71. Anauditorisrequiredtoestablishan
understandingwithaclientregarding
theservicestobeperformedforeach
engagement.Thisunderstanding
generallyincludes
a. Managements
responsibilityforerrorsand
the illegal activities of
employees that may cause
materialmisstatement.
b. The

auditors
responsibilityforensuring
thattheauditcommitteeis
aware of any significant
deficiencies in internal
control that come to the
auditorsattention.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

30
c.

d.

Managements
responsibilityfor
providingtheauditorwith
anassessmentoftherisk
ofmaterialmisstatement
duetofraud.
Theauditorsresponsibilityfor
determiningpreliminaryjudgments
aboutmaterialityandauditrisk
factors.

72. Which of the following matters is


generally included in an auditors
engagementletter?
a. Managements
responsibility for the
entitys compliance with
lawsandregulations.
b. Thefactorstobeconsidered
in setting preliminary
judgments

about
materiality.
c. Managements vicarious
liability for illegal acts
committed by its
employees.
d. The

auditors
responsibilitytosearchfor
significant internal
controldeficiencies.
73. During the initial planning phase
of an audit, a CPA most likely
would
a. Identify specific internal
control activities that are
likelytopreventfraud.
b. Evaluate

the
reasonableness of the
clients accounting
estimates.
c. Discuss the timing of the
audit procedures with the
clientsmanagement.
d. Inquire of the clients
attorneyastowhetherany
unrecorded claims are
probableofassertion.
74. Whichofthefollowingstatements
would least likely appear in an
auditorsengagementletter?
a. Fees for our services are
based on our regular per
diem rates, plus travel and
other outofpocket ex
penses.
b. Duringthecourseofour
auditwemayobserveop
portunitiesforeconomyin,
orimprovedcontrolsover,
youroperations.
c. Ourengagementissubject
totheriskthatmaterial
misstatementsorfraud,if

d.

theyexist,willnotbe
detected.
Afterperformingour
preliminaryanalytical
procedureswewilldiscuss
withyoutheotherproce
duresweconsidernecessary
tocompletetheen
gagement.

75. Which of the following


documentationisnotrequiredforan
audit in accordance with generally
acceptedauditingstandards?
a. A written audit plan
setting forth the
procedures necessary to
accomplish the audits
objectives.
b. An indication that the
accountingrecordsagreeor
reconcilewiththefinancial
statements.
c. Aclientengagement
letterthatsummarizesthe
timinganddetailsofthe
auditorsplannedfield
work.
d. The assessment of the
risksofmaterialmisstate
ment.
76. An engagement letter should
ordinarily include information on
the objectives of the engagement
and
a.
b.
c.
d.

CPA
responsibilities
Yes
Yes
Yes
No

Client
responsibilities
Yes
No
No
No

Limitationof
engagement
Yes
Yes
No
No

factoryequipment.
77. Arrangementsconcerningwhichof
81. ACPAwishestodeterminehowvarious
thefollowingare least likelytobe
publiclyheldcompanieshavecompliedwith
includedinengagementletter?
thedisclosurerequirementsofanewfinancial
a. Apredecessorauditor.
accountingstandard.Whichofthefollowing
b. Feesandbilling.
informationsourceswouldtheCPAmostlikely
c. CPAinvestmentinclientsecurities.
consultforinformation?
d. Other services to be provided in
a. AICPA Codification of
additiontotheaudit.
Statements on Auditing
Standards.
78. Theauditorshoulddocumentthe
b. AICPA Accounting Trends and
understandingestablishedwitha
Techniques.
clientthrougha(n)
c.
SECQualityControlReview.
a. Oralcommunicationwiththeclient.
b.
c.
d.

Written communication with the


client.
Written or oral communication with
theclient.
Completelydetailedauditplan.

79. Whichofthefollowingfactorsmost
likelywouldinfluenceanauditors
determination of the auditability of
anentitysfinancialstatements?
a. The complexity of the accounting
system.
b. The existence of relatedparty
transactions.
c. The adequacy of the accounting
records.
d. Theoperatingeffectivenessofcontrol
procedures.
80. Whichofthefollowingismostlikely
to require special planning
considerations related to asset
valuation?
a. Inventory is comprised of diamond
rings.
b. The client has recently
purchased an expensive
copymachine.
c. Assets costing less than
$250 are expensed even
when the expected life
exceedsoneyear.
d. Accelerateddepreciationmethodsare
used for amortizing the costs of

d.

SECStatement10KGuide.

82. Anauditorshoulddesignthewrittenaudit
programso
that
a. All material transactions
will be selected for sub
stantivetesting.
b. Substantivetestspriorto
the balance sheet date
willbeminimized.
c. The audit procedures selected will
achievespecificauditobjectives.
d. Eachaccountbalancewill
be tested under either
testsofcontrolsortestsof
transactions.
83. The audit program usually cannot be
finalizeduntilthe

a.
b.
c.

d.

Consideration of the
entitys internal control
hasbeencompleted.
Engagement letter has
beensignedbytheauditor
andtheclient.
Reportable conditions have
been communicated to the
audit committee of the
boardofdirectors.
Search for unrecorded
liabilitieshasbeenper
formed

and
documented.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
c.

84. Auditprogramsshouldbedesignedsothat
a. Most of the required
procedures can be
performedasinterimwork.
b. Inherent risk is assessed at a
sufficientlylowlevel.
c. The auditor can make
constructivesuggestionsto
management.
d. Theauditevidencegathered
supports the auditors
conclusions.
85. Indesigningwrittenauditprograms,
anauditorshouldestablishspecific
auditobjectivesthatrelateprimarily
tothe
a. Timingofauditprocedures.
b. Costbenefitofgatheringevidence.
c. Selectedaudittechniques.
d. Financialstatementassertions.
86. With respect to planning an audit,
whichofthefollowingstatementsis
alwaystrue?
a. Itisacceptabletoperforma
portion of the audit of a
continuing audit client at
interimdates.
b. An engagement should
notbeacceptedafterthe
clientsyearend.
c. Aninventorycountmustbeobserved
atyearend.
d. Finalstaffingdecisions
mustbe made prior to
completion of the
planningstage.
87. Theelementoftheauditplanningprocessmost
likelytobeagreeduponwiththeclientbefore
implementationoftheauditstrategyisthe
determinationofthe
a. Evidencetobegatheredto
provide a sufficient basis
fortheauditorsopinion.
b. Procedures to be
undertaken to discover
litigation, claims, and
assessments.
c. Pendinglegalmatterstobe
included in the inquiry of
theclientsattorney.
d. Timing of inventory
observation procedures to
beperformed.
88. Toobtainanunderstandingofa
continuing clients business, an
auditormostlikelywould
a. Perform tests of details
of transactions and bal
ances.
b. Reviewprioryearworking
papersandthepermanent
filefortheclient.

d.

Readcurrentissues
of specialized
industryjournals.
Reevaluate the clients
internal control environ
ment.

31

89. Onanauditengagementperformed
byaCPAfirmwithoneoffice,atthe
minimum,knowledgeoftherelevant
professionalaccountingandauditing
standardsshouldbeheldby
a. The auditor with final responsibility
fortheaudit.
b. All professionals working upon the
audit.
c. Allprofessionalsworking
upon the audit and the
partner in charge of the
CPAfirm.
d. All professionals working in the
office.
90. An auditor obtains knowledge
aboutanewclientsbusinessand
itsindustryto
a. Make constructive
suggestions concerning
improvements to the
clientsinternalcontrol.

c.

d.

Understandtheeventsand
transactionsthatmayhavean
effectontheclients
financialstatements.

91. Whichofthefollowingprocedures
wouldanauditorleastlikely
performwhileobtainingan
understandingofaclientina
financialstatementaudit?
a. Coordinatingtheassistance
ofentitypersonnelindata
preparation.
b. Discussingmattersthatmay
affecttheauditwithfirm
personnelresponsiblefor
nonauditservicestothe
entity.
c. Selecting a sample of
vendorsinvoicesforcom
parison to receiving
reports.
d. Reading thecurrentyears
interim financial state
ments.
92. Ordinarily,thepredecessorauditorpermitsthe
successorauditortoreviewthepredecessors
workingpaperanalysesrelatingto
a.
b.
c.
d.

thatStarsprioryearsfinancial
statements,whichwereauditedby
Tell,requiresubstantialrevisions.
Underthesecircumstances,Land
should
a. NotifyStarsaudit
committeeandstockholders
thattheprioryears
financialstatementscannot
bereliedon.

Evaluatewhetherthe
aggregationofknownmis
statementscausesthe
financialstatementstakenas
awholetobematerially
misstated.

Contingencies
Yes
Yes
No
No

b.

c.

d.

Request Star to arrange a


meeting among the three
partiestoresolvethematter.

94. Asuccessorauditorshouldrequest
the new client to authorize the
predecessor auditor to allow a
reviewofthepredecessors
a.
b.
c.
d.

Engagementletter
Yes
Yes
No
No

Workingpapers
Yes
No
Yes
No

95.Whichofthefollowingprocedureswouldan
auditormostlikelyperforminplanninga
financialstatementaudit?

Balancesheetaccounts
Yes
No
Yes
No

93. Inauditingthefinancialstatementsof
StarCorp.,Landdiscovered
informationleadingLandtobelieve

RequestStartoreissuethe
prior years financial
statements with the
appropriaterevisions.
Notify Tell about the information and
make inquiries about the integrity of
Starsmanagement.

a.
b.
c.

d.

Inquiring of the clients legal


counsel concerning pending
litigation.
Comparing the financial statements
toanticipatedresults.
Examining computer generated
exception reports to verify the
effectivenessofinternalcontrol.

Searching for unauthorized


transactions that may aid in
detectingunrecordedliabilities.
b. Developanattitudeofprofessionalskepticismcon96.Analyticalproceduresusedinplanningan
auditshould
focuson
cerningmanagementsfinancialstatement
assertions.
a.
Reducingthescopeoftestsofcontrols
andsubstantivetests.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

32
b.

d.

Providing assurance that


potential material mis
statements will be
identified.
c. Enhancing the auditors
understanding of the cli
entsbusiness.
Assessing the adequacy of the
availableevidence.

46. The objective of performing


analytical procedures in planning
anauditistoidentifytheexistence
of
a. Unusualtransactionsandevents.
b. Illegal acts that went
undetected because of
internal

control
weaknesses.
c. Relatedpartytransactions.
d. Recordedtransactionsthat
were not properly au
thorized.
47. Whichofthefollowingnonfinancial
informationwouldanauditormost
likelyconsiderinperforming
analyticalproceduresduringthe
planningphaseofanaudit?
a. Turnoverofpersonnelin
the accounting depart
ment.
b. Objectivity of audit committee
members.
c. Squarefootageofsellingspace.
d. Managements plans to repurchase
stock.
48. The incharge auditor most likely
would have a supervisory
responsibilitytoexplaintothestaff
assistants
a. That immaterial fraud is
not to be reported to the
clientsauditcommittee.
b. How the results of various auditing
procedures performed by the
assistantsshouldbeevaluated.
c. What benefits may be
attainedbytheassistants
adherence to established
timebudgets.
d. Whycertaindocumentsare
being transferred from the
current file to the
permanentfile.
49. The audit work performed by each
assistant should be reviewed to
determinewhetheritwasadequately
performed and to evaluate whether
the
a. Auditorssystemofquality
control has been main
tainedatahighlevel.
b. Results are consistent

c.

d.

withtheconclusionstobe
presentedintheauditors
report.
Audit

procedures
performed are approved
in the professional
standards.
Audithasbeenperformed
bypersonshavingade
quatetechnicaltraining
andproficiencyasaudi
tors.

50. Whileassessingtherisksof
materialmisstatementauditors
identifyrisks,relaterisktowhat
couldgowrong,considerthe
magnitudeofrisksand
a. Assesstheriskofmisstatementsdue
toillegalacts.
b. Considerthecomplexity
of the transactions in
volved.
c. Consider the likelihood
thattheriskscouldresult
inmaterialmisstatements.
d. Determinematerialitylevels.
51. Whichofthefollowingare
consideredfurtherauditprocedures
thatmaybedesignedafterassessing
therisksofmaterialmisstatement?
a.
b.
c.
d.

Substantive
testsofdetails
Yes
Yes
No
No

Riskassessment
procedures
Yes
No
Yes
No

103. Whichofthefollowingisleastlikely
to be considered a risk assessment
procedure?
a. Analyticalprocedures.
b. Confirmation of ending accounts
receivable.
c. Inspectionofdocuments.
d. Observation of the
performance of certain
accountingprocedures.
104. In an audit of a nonissuer
(nonpublic)company,theauditors
identify significant risks. These
risksoften
a. Involve routine, highvolume
transactions.
b. Donotrequirespecialauditattention.
c. Involve items with lower levels of
inherentrisk.
d. Involvejudgmentalmatters.
105. Theauditorwithfinalresponsibility
foranengagementandoneofthe
assistantshaveadifferenceof
opinionabouttheresultsofan
auditingprocedure.Iftheassistant
believesitisnecessarytobe
disassociatedfromthematters
resolution,theCPAfirms
proceduresshouldenablethe
assistantto
a. Refer the disagreement
to the AICPAs Quality
ReviewCommittee.
b. Documentthedetailsofthe
disagreement with the
conclusionreached.
c. Discuss the disagreement with the
entitys management or its audit
committee.
d. Report the disagreement
to an impartial peer re
viewmonitoringteam.
106. An examination of a financial
forecastisaprofessionalservice
thatinvolves
a. Compiling or assembling a financial
forecast that is based on
managementsassumptions.
b. Limiting the distribution of
the accountants report to
management and the board
ofdirectors.
c. Assuming responsibility to
updatemanagementonkey
eventsforoneyearafterthe
reportsdate.
d. Evaluatingthepreparation
ofafinancialforecastand
thesupportunderlying
managementsassump
tions.
107. The nature and extent of a CPA
firms quality control policies and
proceduresdependon

a.
b.
c.
d.

TheCPA
firmssize
Yes
Yes
Yes
No

Thenature
oftheCPA
firmspractice
Yes
Yes
No
Yes

Costbenefit
considerations
Yes
No
Yes
Yes

108.ACPAfirmmaycommunicateitsquality
controlpoliciesandprocedurestoitspersonnelin
whichmanner(s):
a.
b.
c.
d.

Orally
No
No
Yes
Yes

Written
No
Yes
No
Yes

109.Whichofthefollowingisnotan
elementofqualitycontrol?
a. Acceptanceandcontinuanceofclient
relationships and specific
engagements.
b. Humanresources.
c. Internalcontrol.
d. Monitoring.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
110. Quality control for a
CPAfirm,asreferredto
in Statements on
Quality

Control
Standards,appliesto
a. Auditingservicesonly.
b. Auditingandmanagementadvisoryservices.
c. Auditingandtaxservices.
d. Auditingandaccountingandreviewservices.
111. OneofaCPAfirms
basicobjectivesisto
provideprofessional
servicesthatconform
withprofessionalstan
dards.Reasonable
assuranceofachieving
thisbasicobjectiveis
providedthrough
a. Asystemofqualitycontrol.
b. Asystemofpeerreview.
c. Continuingprofessionaleducation.
d. Complianc
e with
generally
accepted
reporting
standards.
112. Whichofthefollowing
is correct concerning
PCAOB guidance that
usesthetermshould?
a. Theauditormustfulfilltheresponsibilities.
b.

Theauditor
mustcomply
with
requirements
unlesss/he
demonstrates
thatalternative
actionswere
sufficientto
achievethe
objectivesof
thestandard.

c.

Theauditor
should
consider
performing
the
procedure;
whetherthe
auditor
performs
dependson
theexercise
of
professional
judgmentin
the
circumstance
s.
The auditor
has complete

d.

33

discretion as
to whether to
perform the
procedure.
113. Whichofthefollowing
setsofstandardsdoesthe
PublicCompany
AccountingOversight
Boardnothavetheau
thoritytoestablishfor
auditsofpublic
companies?
a. Auditingstandards.
b. Qualitycontrolstandards.
c. Accountingstandards.
d. Independencestandards.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

34
SIMULATIONS

TaskBasedSimulation1
AuditRisk
Application

Authoritative

Literature

Help

Green,CPA,isconsideringauditrisk,includingfraudrisk,atthefinancialstatementlevelinplanningtheauditofNational
FederalBank(NFB)CompanysfinancialstatementsfortheyearendedDecember31,2005.Auditriskatthefinancialstate
mentlevelisinfluencedbytheriskofmaterialmisstatements,whichmaybeindicatedbyacombinationoffactorsrelatedto
management,theindustry,andtheentity.InassessingsuchfactorsGreenhasgatheredthefollowinginformationconcerning
NFBsenvironment.
Companyprofile
NFBisafederallyinsuredbankthathasbeenconsistentlymoreprofitablethantheindustryaveragebymarketingmort
gagesonpropertiesinaprosperousruralarea,whichhasexperiencedconsiderablegrowthinrecentyears.NFBpackagesits
mortgagesandsellsthemtolargemortgageinvestmenttrusts.Despiterecentvolatilityofinterestrates,NFBhasbeenableto
continuesellingitsmortgagesasasourceofnewlendablefunds.
NFBsboardofdirectorsiscontrolledbySmith,themajoritystockholder,whoalsoactsasthechiefexecutiveofficer.
ManagementatthebanksbranchofficeshasauthorityfordirectingandcontrollingNFBsoperationsandiscompensatedbased
onbranchprofitability.TheinternalauditorreportsdirectlytoHarris,aminorityshareholder,whoalsoactsaschairmanofthe
boardsauditcommittee.
TheaccountingdepartmenthasexperiencedlittleturnoverinpersonnelduringthefiveyearsGreenhasauditedNFB.
NFBsformulaconsistentlyunderestimatestheallowanceforloanlosses,butitscontrollerhasalwaysbeenreceptiveto
Greenssuggestionstoincreasetheallowanceduringeachengagement.
Recentdevelopments
During2005,NFBopenedabranchofficeinasuburbantownthirtymilesfromitsprincipalplaceofbusiness.Although
thisbranchisnotyetprofitableduetocompetitionfromseveralwellestablishedregionalbanks,managementbelievesthatthe
branchwillbeprofitableby2007.Also,during2005,NFBincreasedtheefficiencyofitsaccountingoperationsbyinstallinga
new,sophisticatedcomputersystem.
Basedonlyontheinformationabove,indicatebymarkingtheappropriatebuttonwhetherthefollowingfactorsindicatean
increasedordecreasedauditrisk.Also,indicatewhetherthefactorisafraudriskfactor.
Factor
1. Branchmanagementauthority

Increasedauditrisk

Decreasedauditrisk

Fraudriskfactor

2. Governmentregulation
3. Companyprofitability
4. Demandforproduct
5. Interestrates
6. Availabilityofmortgagefunds
7. Involvementofprincipalshareholderin
Management
8. Branchmanagercompensation
9. Internalauditreportingrelationship
10. Accountingdepartmentturnover
11. Continuingauditrelationship
12.Internalcontrolsoveraccountingestimates
13.Responsetoproposedaccounting
Adjustments
14. Newunprofitablebranch
15. Newcomputersystem

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

35

TaskBasedSimulation2
RiskofMaterial

Authoritative

Misstatement

Literature

Help

Green,CPA,isconsideringauditrisk,includingfraudrisk,atthefinancialstatementlevelinplanningtheauditofNational
FederalBank(NFB)CompanysfinancialstatementsfortheyearendedDecember31,2005.Auditriskatthefinancialstate
mentlevelisinfluencedbytheriskofmaterialmisstatements,whichmaybeindicatedbyacombinationoffactorsrelatedto
management,theindustry,andtheentity.InassessingsuchfactorsGreenhasgatheredthefollowinginformationconcerning
NFBsenvironment.
Companyprofile
NFBisafederallyinsuredbankthathasbeenconsistentlymoreprofitablethantheindustryaveragebymarketingmort
gagesonpropertiesinaprosperousruralarea,whichhasexperiencedconsiderablegrowthinrecentyears.NFBpackagesits
mortgagesandsellsthemtolargemortgageinvestmenttrusts.Despiterecentvolatilityofinterestrates,NFBhasbeenableto
continuesellingitsmortgagesasasourceofnewlendablefunds.
NFBsboardofdirectorsiscontrolledbySmith,themajoritystockholder,whoalsoactsasthechiefexecutiveofficer.
ManagementatthebanksbranchofficeshasauthorityfordirectingandcontrollingNFBsoperationsandiscompensatedbased
onbranchprofitability.TheinternalauditorreportsdirectlytoHarris,aminorityshareholder,whoalsoactsaschairmanofthe
boardsauditcommittee.
TheaccountingdepartmenthasexperiencedlittleturnoverinpersonnelduringthefiveyearsGreenhasauditedNFB.
NFBsformulaconsistentlyunderestimatestheallowanceforloanlosses,butitscontrollerhasalwaysbeenreceptiveto
Greenssuggestionstoincreasetheallowanceduringeachengagement.
Recentdevelopments
During2005,NFBopenedabranchofficeinasuburbantownthirtymilesfromitsprincipalplaceofbusiness.Although
thisbranchisnotyetprofitableduetocompetitionfromseveralwellestablishedregionalbanks,managementbelievesthatthe
branchwillbeprofitableby2007.Also,during2005,NFBincreasedtheefficiencyofitsaccountingoperationsbyinstallinga
new,sophisticatedcomputersystem.
Assumeyouarepreparingfortheauditpersonneldiscussionofpotentialrisksofmaterialmisstatementduetofraudfor
theNFBaudit.Whileanymattersbelowmightbediscussed,indicatebymarkingtheappropriatefourhighestrisksbasedon
theinformationcontainedinthesimulationdescriptionandrequirementsofprofessionalstandards.
Risk

Highriskitem

1. Computerfraudrisk
2. Riskrelatedtomanagementoverrideofinternalcontrol
3. Fraudbybranchmanagement
4. Fraudbyaccountingpersonnel
5. Misstatementofaccountingestimates
6. Fraudbyloanprocessingclerks
7. Fraudbyinternalauditors
8. Theriskoffraudulentmisstatementofrevenues
TaskBasedSimulation3
Research
Topics

Authoritative

Literature

Help

AssumethatyouhavebeenhiredtoperformtheauditofHanmeisfinancialstatements.Whenplanningsuchanaudit,you
oftenmayneedtorefertovariousoftheprofessionsauditingstandards.ForeachofthefollowingcircumstancesinColumnA,
selectthetopicfromtheProfessionalStandardsthatislikelytoprovidethemostguidanceintheplanningoftheaudit.Atopic
maybeselectedonce,morethanonce,ornotatall.
A.
B.
C.
D.
E.

Topic
AnalyticalProcedures
AuditRiskandMateriality
CommunicationsbetweenPredecessorandSuccessor
Auditors
ConsiderationofFraudinaFinancialStatementAudit
UnderstandingtheEntityandItsEnvironmentand

F. IllegalActsbyClients
G. ManagementRepresentations
H. PartoftheAuditPerformedbyOtherIndependent
Auditors
I. RelatedParties

AssessingtheRisksofMaterialMisstatement

36

1.
2.
3.
4.
5.
6.
7.
8.
9.

T
r
P
T
h
H
C
o
A
u
R
e
A
u
T
h
D

10. T
h

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

TaskBasedSimulation4
Risk
Analysis

Authoritative
Literature

Help

DietWebInc.(hereafterDietWeb)wasincorporatedandbeganbusinessinMarchof20X1,
sevenyearsago.Youareworkingonthe20X8audityourCPAfirmsfifthauditofDietWeb.
Thecompanysmissionistoprovidesolutionsthathelpindividualstorealizetheirfullpotential
throughbettereatinghabitsandlifestyles.Muchof20X1and20X2wasspentindevelopingaunique
softwareplatformthatfacilitatestheproductionofindividualizedmealplansandshoppinglistsusing
aspecificmathematicalalgorithm,whichconsiderstheusersphysicalcondition,proclivityto
exercise,foodpreferences,cookingpreferences,desiretouseprepackagedmealsordineout,among
others.DietWebsolditsfirstonlinedietprogramin20X2andhascontinuedtomarketmemberships
throughincreasingonlineadvertisingarrangementsthroughtheyears.Thecompanyhascontinuedto
developthisprogramthroughouttheyearsandfinallybecameprofitablein20X6.
DietWebisexecutingastrategytobealeadingonlineproviderofservices,informationand
productsrelatedtonutrition,fitnessandmotivation.In20X8,thecompanyderivedapproximately86%
ofitstotalrevenuesfromthesaleofapproximately203,000personalizedsubscriptionbasedonline
nutritionplansrelatedtoweightmanagement,todietaryregimenssuchasvegetarianismandto
specificmedicalconditionssuchasType2diabetes.Giventhepersonalnatureofdieting,DietWeb
assurescustomersofcompleteprivacyoftheinformationtheyprovide.TothispointDietWebs
managementisproudofitssuccessinassuringtheprivacyofinformationsuppliedbyitscustomers
thisisaconstantbattlegiventhevarietyofintrusionattemptsbyvariousInternethackers.
DietWebnutritionplansarepaidinadvancebycustomersandofferedinincrementsofthirteen
weekswiththecustomershavingtheabilitytocancelandreceivearefundoftheunusedportionofthe
subscriptionthis results in a significant level of deferred revenue each period. Although some
DietWebmembersarebilledthroughuseofthepostalsystem,mostDietWebmemberscurrentlypurchase
programsandproductsusingcreditcards,withrenewalsbilledautomatically,untilcancellation.

OneweekofabasicDietWebmembershipcostslessthanonehalfthecostofaweeklyvisittothe
leadingclassroombaseddietprogram.Thepresident,Mr.WilliamReadings,suggeststhatinaddition
toitssuperiorcosteffectiveness,theDietWebonlinedietprogramissuccessfulrelativetoclassroom
basedprogramsduetoitscustomization,easeofuse,expertsupport,privacy,constantavailability,and
breadthofchoice.ThebasicDietWebmembershipincludes
Customized meal plans and workout schedules and related tools such as shopping lists,
journals,andweightandexercisetracking.
Interactiveonlinesupportandeducationincludingapproximately100messageboardson
varioustopicsofinteresttomembersandalibraryofdozensofmultimediaeducational
segmentspresentedbyexpertsincludingpsychologists,mentalhealthcounselors,
dietitians,fitnesstrainers,aspiritualadvisorandaphysician.
24/7/365 telephone support from a staff of approximately 30 customer service
representatives,nutritionistsandfitnesspersonnel.
Throughoutitsnineyearhistory,Mr.WilliamReadingshasservedaschiefexecutiveofficer.The
otherthreefoundersofthecompanyarealsoofficers.Afifthindividual,WillingsleyWilliamson,also
afounder,servedasChiefFinancialOfficeruntilmid20X8whenheleftthecompanyduetoa
differenceofopinionwithMr.Readings.ThefourfounderspurchasedMr.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

Williamsonsstockandinvestedanadditionalapproximately$1.2millionincommonstockduring
20X8soastolimittheuseoflongtermdebt.
Thecompanysboardofdirectorsiscurrentlycomposedofthefourindividualswhoremain
activeinthecompany;thesefourindividualsalsoserveasthecompanysauditcommittee;Mr.
Readingschairsboththeboardandtheauditcommittee.Previously,Mr.Readingshadalsoserved

37

ontheboardandtheauditcommittee.WithMr.Williamsonsdeparture,Ms.JaneJennings,
anotherofthefounders,becamethecompanysCFO.
Thenutritionanddietindustryinmanywaysthrivesbecauseindividualsarebecomingmore
awareofthenegativehealthandfinancialconsequencesofbeingoverweight,andconsiderimportant
bothweightlossandhealthyweightmaintenance.Astudybytworespectedresearchersconcluded
thatobesitywaslinkedtohigherratesofchronicillnessthanlivinginpoverty,thansmoking,orthan
drinking.Inaddition,theAmericanCancerSocietyreportedthatasmanyas14%ofcancerdeathsin
menand20%ofcancerdeathsinwomencouldberelatedtobeingoverweight.
Thefinancialcostsofexcessweightarealsohigh.A20X8studybasedondatafromamajor
automobilemanufacturershealthcareplanshowedthatanoverweightadulthasannualhealthcare
coststhatare7.3%higherthanapersoninahealthyweightrange,whileobeseindividualshave
annualhealthcarecoststhatare69%higherthanapersonofahealthyweight.Withhealthcarecost
inflationrunninginthedoubledigitsintheUnitedStatessince20X4,supportersoftheindustry
believethattheimplementationofeffectiveweightmanagementtoolswillattractmoreattentionfrom
insurers,employers,consumers,andthegovernment.AsofJanuary20X9fivenutritionorfitness
relatedbillswerebeingconsideredinCongress,andseveralstateshadenactedorwereconsidering
enactinglegislationrelatingtothesaleofjunkfoodinpublicschools.Inaddition,theUSFoodand
DrugAdministration,DepartmentofHealthandHumanServices,andFederalTradeCommissionare
contemplatingnewlabelingrequirementsforpackagedfoodandrestaurantfood,neweducationaland
motivationalprogramsrelatedtohealthyeatingandexercise,andincreasedregulationofadvertising
claimsforfood.
Inresponsetoconsumersgrowingdemandformorehealthfuleatingoptions,quickservice
andfullservicerestaurantshaveintroducednewofferingsincludingsalads,sandwiches,burgers,
andotherfooditemsdesignedfortheweightconsciousperson.Attheretaillevel,salesofnatural
andorganicfoodshavebeengrowingmorerapidlythantheoverallfoodandoverthecounterdrug
marketforthelastseveralyears.NutritionalsupplementsalesintheUS,forinstance,areestimated
tohavegrown34%between20X4and20X8,whilenaturalandorganicfoodsareestimatedtobe
growingatarateofapproximately15%annually.Also,theindustryhasatendencytochange
quicklyasdietingfadsregularlyareintroduced;someremainpopularforyears,someforonly
months.
Approximately60%oftheUSadultpopulation,or120millionadults,areoverweightand,of
those,theCalorieControlCouncilestimatesonlyabout50millionaredietinginagivenyear.
About15%ofthesedietersareusingacommercialweightlosscenter,generatingrevenuesof
approximately$1.5billionannually.DietWebtargetsdieterswhoareonline,whichrepresents
abouttwothirdsofthetotaluniverseatcurrentInternetpenetrationrates,or34millionadults,about
5millionofwhomarespendingapproximately$1billionatweightlosscenters.
Atthesametime,theonlinedietingsegmentofthemarketisgrowingrapidly.Theonlinediet
industryintheUSgeneratedinexcessof$100millionin20X8,comparedtorevenuesof
approximately$75millionin20X2.Theindustryincludesotheronlinenutritionanddietoriented
Websites.
AnothergroupofcompetitorstoDietWebarecommercialweightlosscenters,anindustrythat
hasshownmarkeddeclineinthelastdecade.AccordingtoMarketAnalysisEnterprises,thenumber
ofcommercialweightlosscentersintheUSdeclinedapproximately50%between20X2and20X8,
fromover8,600toapproximately4,400.DietWebcompetesagainstthissegmentonthebasisof
lowerprice,superiorvalue,convenience,availability,theabilitytopersonalizeamealplanonan
ongoingbasis,itsextensivesupportcapabilities,andthebreadthofitsmealplanoptions.
R
1.
A.
B.
C.
D.
2.
A.
B.
C.
D.

O
f
M
a
M
Ia
In
n
W
I
In
n
E
nM
i

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

38

3.

WhichofthefollowingismostaccurateconcerningDietWebs
auditcommittee?

(A)(B)(C)
(D)

A. Itshouldbeconsideredveryindependentinthatthecompanysfoundersserveonit.
B. Mr.Readingschairmanshipoftheauditcommitteecreatesasituationinwhichtheaudit
committeeservesastrongindependentroleduetohisclosenesstocompanyoperations.
C. Because all committee members are members of management, the audit committee lacks
independence.
D. Theauditcommitteedoesnothaveenoughmembersinthatthesizeoftheboardofdirectors
shouldbelessthanthatoftheauditcommittee.
(A) (
B
)
(
C
)
(
D
)
4.

Which of the following indicates an increased risk of


misstatementduetofraud?
A.
B.
C.
D.

ResignationofMr.Williamson.
Dominationofmanagementbycompanyfounders.
Issuanceofdebtduring20X8.
CompetitionwithnonInternetweightlossorganizations.

(A)(B)(C)
(D)
5.WhichofthefollowingisthemostsignificantriskfacingDietWebthatmightcauseittonotbe
abletocontinueincreasingsales?
A.
B.
C.
D.

AdecreasingmarketintheUnitedStatesfordietaryproducts.
DietWebmustrespondtodietingfadsonatimelybasis.
TheconstantlydecreasingnumberofindividualsintheUnitedStates.
ObsolescenceoftheInternet.

TaskBasedSimulation5
FinancialStatement
Analysis

Authoritative

Literature

Help

DietWebInc.(hereafterDietWeb)wasincorporatedandbeganbusinessinMarchof20X1,seven
yearsago.Youareworkingonthe20X8audityourCPAfirmsfifthauditofDietWeb.Analyzethe
followingfinancialstatementsandreplytoeachofthequestionsthatfollow.
DietWeb,Inc.
BALANCESHEET
December31,20X8and20X7
(inthousands)

20X8

20X7

$3,032
485
59
175
3,751

$1,072
450
609
230
2,361

3,321

3,926

Totalassets

$7,072

$6,287

Liabilitiesandshareholdersequity
Currentliabilities
Accountspayable
Currentmaturitiesofnotespayable
Deferredrevenue
Othercurrentliabilities
Totalcurrentliabilities

$1,070
42
1,973
171
3,256

$909
316
1,396
12
2,633

Assets
Currentassets
Cashandcashequivalents
Tradereceivables
Prepaidadvertisingexpenses
Prepaidexpensesandothercurrentassets
Totalcurrentassets
Fixedassets,net

Longtermdebt,lesscurrentmaturity
Accruedliabilities
Deferredtaxliability
Totalliabilities
Shareholdersequity
Commonstock
Retainedearnings
Totalshareholdersequity

34
792
15
4,097

176
690
145
3,644

6,040
(3,065)
2,975

4,854
(2,211)
2,643

Totalliabilitiesplusshareholdersequity

$7,072

$6,287

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

Revenue

DietWeb,Inc.
INCOMESTATEMENT
TwoYearsEndedDecember31,20X8and20X7
(inthousands)
20X8
$19,166

20X7
$14,814

39

Costsandexpenses
Costofrevenue
Productdevelopment
Salesandmarketing
Generalandadministrative
Depreciationandamortization
Impairmentofintangibleassets
Totalcostsandexpenses

2,326
725
13,903
2,531
629
35
20,149

1,528
653
8,710
2,575
661

14,127

(983)

687

Netincomebeforetaxes
Incometaxbenefit
Netincome(loss)

129

125

$(854)

$812

DietWeb,Inc.
STATEMENTOFCASHFLOWS
YearEndedDecember31,20X8
20X8
Cashflowsfromoperations
Netincome(loss)
Adjustmentstonetincome
Depreciation
Increaseinreceivables
Decrease(Increase)inprepaidadvertising
Decreaseinothercurrentassets
Increase(Decrease)inaccountspayable
Increaseinaccruedliabilities
Increase(Decrease)indeferredrevenue
Increaseincommonstockissued
Increaseinothercurrentliabilities
Netcashprovided(used)byoperations

20X7

$(854)

812

629
(35)
550
55
161
102
432
1,186
159
2,385

660
(47)
(650)
74
(540)
43
(665)

43
(270)

Cashflowsfrominvestingactivities
Purchaseofpropertyandequipment

(320)

2,016

Cashflowsfromfinancingactivities
Newdebt
Debtpayments
Netcashprovided(used)byfinancingactivities

613
(718)
(105)

40
(918)
(878)

Netincreaseincashandcashequivalents

$1,960

Cashandequivalentsatbeginningofyear

$1,072

868
204

Cashandequivalentsatendofyear

$3,032

1,072

Required
(A) (B) (C) (D)
1.Themostlikelymisstatementinthefinancialstatementsis
A.
B.
C.

Theincreaseincashin20X8.
Treatmentofimpairedintangibleassetsasanexpensein20X8.
Treatmentofcommonstockissuedasanadjustmenttonetincome(loss)undercashflow
fromoperations.
D.
Anincometaxbenefitontheincomestatementascontrastedtoincometaxexpense.
(A) (B
)
(C
)
(D
)
2.Whichofthefollowingisthemostunexpectedchangeonthebalancesheet,ifoneassumesthe
revenueincreasein20X8iscorrect?
A. Decreaseinprepaidadvertisingexpenses.
B. Increaseinaccountspayable.
C. Decreaseindeferredrevenues.
D. Increaseincommonstock.

4
0

C. I
D. nM
r
4. W
A.
B.
C.
D.
5.
A.
B.
C.
D.

C
l
C
lA
R

e
W
T
h
T
hA
n
A
n

TaskBasedSimulation6
RiskofMaterial
MisstatementAnalysis

Authoritative

Literature

Help

YouareworkingwithWilliamBond,CPA,andyouareconsideringtheriskofmaterial
misstatementinplanningtheauditofToxicWasteDisposal(TWD)Companysfinancialstatements
fortheyearendedDecember31,20X0.TWDisaprivatelyownedentitythatcontractswithmunicipal
governmentstoremoveenvironmentalwaste.Basedonlyontheinformationbelow,indicatewhether
eachofthefollowingfactorswouldmostlikelyincrease(I),decrease(D),orhavenoeffectontherisk
ofmaterialmisstatement(N).
3. The
internal
1. Becausemunicipalitieshavereceivedincreasedfederalandstatefunding
auditor
for environmental purposes, TWD returned to profitability for the first
reports
yearfollowingthreeyearswithlosses.
to the
controll
2. TWDsBoardofDirectorsiscontrolledbyMead,themajoritystockholder,
er and
whoalsoactsasthechiefexecutiveofficer.
the

controllerreportstoMead.
4.

The accounting department has experienced a high rate of turnover of key


personnel.

5.

TWDsbankhasaloanofficerwhomeetsregularlywithTWDsCEOand
controllertomonitorTWDsfinancialperformance.

6.

TWDsemployeesarepaidbiweekly.
7.

TWDhassuchastrongfinancialpresenceinitshistorysoastoallow
it often to dictate the terms or conditions of transactions with its
suppliers.

8.

During20X1,TWDchangeditsmethodofpreparingitsfinancialstatements
fromthecashbasistogenerallyacceptedaccountingprinciples.

9.

During 20X1, TWD sold onehalf of its controlling interest in United


EquipmentLeasing(UEL)Co.TWDretainedsignificantinfluenceoverUEL.
10. During20X1,litigationfiledagainstTWDfromanactiontenyearsagothat
allegedthatTWDdischargedpollutantsintostatewaterwayswasdroppedby
thestate.Losscontingencydisclo

suresthatTWDincludedinprioryearsfinancialstatementsarebeing
removedfromthe20X1financialstatements.
11. DuringDecember20X1,TWDsignedacontracttoleasedisposal
equipmentfromanentityownedbyMeadsparents.Thisrelatedparty
transactionisnotdisclosedinTWDsnotestothe20X1financial
statements.

(I)

(D)

(N)

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

41
(I)

(D)

(N)

12. DuringDecember20X1,TWDcompletedabartertransactionwitha
municipality.TWDremovedwastefromthemunicipallyownedsite
andacquiredtitletoanothercontaminatedsiteatbelowmarketprice.
TWDintendstoservicethisnewsitein20X2.
13. DuringDecember20X1,TWDincreaseditscasualtyinsurancecoverageonseveralpiecesof
sophisticatedmachineryfromhistoricalcosttoreplacementcost.
14. InquiriesaboutthesubstantialincreaseinrevenueTWDrecordedinthefourthquarterof20X1
disclosedanewpolicy.TWDguaranteedtoseveralmunicipalitiesthatitwouldrefundthe
federalandstatefundingpaidtoTWDifanymunicipalityfailsafederalorstatesitecleanup
inspectionin20X2.
15. AninitialpublicofferingofTWDsstockisplannedforlate20X2.
TaskBasedSimulation7
Identifying
Risks

Authoritative

Literature

Help

Planning
Youarebeginningthe20X8auditofToastco,anonpubliccompanythatmanufacturesvarious
kitchenproducts.ThisisyourfirmssixthannualauditofToastco.
Toastcosmostprofitableproductisadeluxetoasterthatisdesignedforthosewhowantatruly
outstandingtoaster.ThetoasterwasfirstmarketedthroughSkyMallMagazine,whichoffers
specialtytypeproductstoairplanepassengers.Demandhasgrownsothatatthispointthecompany
advertisestheproductmuchmorebroadlythroughavarietyofmedia.Saleshavebeenoutstanding
fromthestartandcontinuetoincrease.Therecordedlevelofsalesfor20X8indicatesthatthe
companynowcontrolsapproximately5%ofthetoastermarket,whichrepresents55%ofcompany
sales.Inadditiontothetoaster,thecompanymanufacturesotherproducts,includingtoasterovens,
coffeemakers,foodblenders,andelectriccanopeners.Mostofthemanufacturingprocessis
performedinseveralplantsinAsia.
ThehighlysuccessfultoasteristheproductofBillWilliams,whobecameToastcoschief
executiveofficerin20X3.Billandseveralotherofficersinvestedheavilyinthecompanyatthattime
withtheintentofultimatelysellingcommonstocktothepublic.Hisandthoseindividualslivesare

centeredaboutthefirmandmakingitasuccess.Consistently,Toastcoisofcriticalimportanceto
eachoftheseindividualsfinancially.
RecentlyyoudiscussedthecomingauditwithBill.Youquicklyfoundthathewaselatedthatthe
companyhadearned$1.21pershare,onecentmorethanhehadassuredthebankthathadprovided
Toastcowithextensivefinancingduring20X8.HesuggestedthatsomehadfearedthatToastco
wouldntmakeitaftersomewhatweaksecondandthirdquarters,butthatheknewallalongthata
strongfourthquarterwasaheadandthatitwouldbringusthrough.Healsopointedoutthatsalesare
upabout38%comparedtothepreviousyearandincomeby54%.Furthermore,heindicatedthatan
initialpublicofferingofsecuritieswasplannedforapproximatelyeighteenmonthsfromnow.
Toastcosoutstandingperformanceforthepastseveralyearsisinlargepartduetothehighly
profitabletoaster,withotherproductsgainingsalesatapproximatelytheindustrysgrowthrate.In
fact,Billindicatedthatthetoasterhasbecomeevenmoreprofitablethisyearduetoreengineeringof
itsproductionprocessandcomponents,whichbroughtcostsofproductiondownanddecreasedsales
returnsandallowances.
Billalsosuggestedtoyouthatthe$42,216,000bankloanreceivedduringtheyearhasbeen
primarilyusedtoincreaseinventoriesandfixedassetstosupporttherapidlyrisingdemandforthe
toaster,aswellasToastcosotherproducts.Hepointedoutthatthecompanycouldneverhave
achieveditsprojectedearningspersharegoalwithoutthebankssupport.Thisbanksupporthasalso
allowedToastcotoworkondevelopingwhatBillreferstoasournextsuperproductan
improvedcanopenerthatworkswellwithallsizesofcansanddoesntleaveamess.
Finally,Billsaidthattherewassomesadnews.TheChairmanoftheBoardofDirectors,John
Whing,anindependentdirector,hadbeenforcedtostepdownforhealthreasons.Billhadreplaced
Mr.WhingasChairmanoftheBoard,andToastcoVicePresidentSamAdamsonfilledtheemptyseat
ontheboardofdirectors.ThesevenmemberboardisnowcomposedofBill(whowillbeginserving
asChairman),SamAdamson,twoothersfrommanagement,andthethreeindependentdirectors.The
auditcommitteehasnotbeenaffectedbythechange,asthethreeindependentdirectorscontinueto
serveinthatrole.
IndustryInformation
IntheportionsofthekitchenproductindustryinwhichToastcooperates,demandisinfluenced
byeconomictrendssuchasincreasesordecreasesinconsumerdisposableincome,availabilityof
credit,andhousingconstruction.Competitionisveryactiveinallproductsandcomesfromanumber
ofprincipalmanufacturersandsuppliers.Animportantfactoristhedegreeofproductdifferentiation
achievedthroughinnovationandnewproductfeatures.Othersignificantfactorsincludeproduct
qualityandcost,brandrecognition,customerresponsiveness,andapplianceservicecapability.
Overall,fortheindustry,saleshavebeenandareexpectedtoremainrelativelystablewithaslight
increaseincreaseshaveapproximated3%industrywideperyearduringthepastfiveyears,andare
expectedtocontinueatthatrateofincreaseforthe

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

42

nextfiveyears.MuchofthemanufacturingoftheseproductstakesplaceinAsia,andtoalesserextentinSouthAmerica.In
creasingly,Asiancompaniesarebecomingdirectlyinvolvedinmarketingtheirownhouseholdproducts.
Required
(A)(B)(C)(D)
1.

Whichofthefollowingidentifiesanaspectofthecompanysbusinessmodel,strategies,and/or
businessenvironmentthatismostlikelytoincreaseToastcosinherentrisk?
A.
B.
C.
D.

ManufacturinginAsia.
Anexpectedindustrygrowthrateinsalesofapproximately3%.
Productobsolescenceorlossofproductdifferentiationadvantages.
Overstatedaccountsreceivableduetointernalcontroldeficiencies.

(A)(B)(C)(D)
2.Whichofthefollowingidentifiesasituationmostlikelytoincreasetheriskofmisstatementarising
fromfraudulentfinancialreporting?
A.
B.
C.
D.
3.

Thehouseholdproductsindustryseemsstable,andisnotrapidlygrowing.
Toastcoreportedastrongfourthquarterthatbroughtituptoexpectationsforearningspershare.
Toastcocontrolsapproximately5%ofthemarketfortoasters.
Toastcohasonerelativelyprofitableproduct,andanumberofproductsthatarenotasprofitable.

(A)(B)(C)(D)

Whichofthefollowingidentifiesanaspectofthecompanysbusinessmodel,strategies,and/or
businessenvironmentthatismostlikelytoincreasetheriskofmisstatementarisingfromfraudulent
financialreporting?
A.
B.
C.
D.

Toastcosellsmorethanonetypeofproduct.
ThepresidentswealthisbasedonthesuccessofToastco.
Theauditcommitteeiscomposedentirelyofindependentdirectors.
Toastcocontinuestohireyourfirmforitsfifthyear.

RatioAnalysis
BelowaretwosetsofratiosthatwereidentifiedassignificantinthecurrentandprioryearsauditsofToastco.Foreach
pair,comparethevaluesofeachratio.Thenselectanauditfindingthatisconsistentwiththesemetrics.Eachoftheaudit
findingsmaybeusedonce,morethanonce,ornotatall.Ratiosusingbalancesheetnumbersarebasedonendofyear
balances.
Ratio
Grossmarginpercentage
Currentratio

A.
B.
C.
D.
E.
F.
G.

20X8
0.154
2.619

20X7
0.166
3.688

Substantiveprocedure
Increasesincostsofpurchaseswerenotcompletelypassedontocustomersthroughhighersellingprices.
Increasesintradereceivables.
Ownersequityincreasedduetoretentionofprofits.
Alargerpercentageofsalesoccurredduringthelastmonthof20X8,ascomparedto20X7.
Interestexpensedecreasedduring20X8.
Thepercentagetaxincludedintheprovisionforincometaxesfor20X8waslessthanthepercentagein20X7.
Asignificantamountoflongtermdebtbecamecurrent.
(A)(B)(C)(D)(E)

(F)(G)

1. Anauditfindingmostconsistentwiththechangeinthegrossmarginpercentage
2. Anauditfindingmostconsistentwiththechangeinthecurrentratio
Ratio
Inventoryturnover
Returnonequity

H.
I.
J.
K.
L.
M.

20X8
10.52
0.40

20X7
7.95
0.67

Auditfindings
Increasesincostsofpurchaseswerenotcompletelypassedontocustomersthroughhighersellingprices.
Increasesintradereceivables.
Ownersequityincreasedduetoretentionofprofits.
Alargerpercentageofsalesoccurredduringthelastmonthof20X8,ascomparedto20X7.
Interestexpensedecreasedduring20X8.
Thepercentagetaxincludedintheprovisionforincometaxesfor20X8waslessthanthepercentagein20X7.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

(H) (I) (J)


3. AnauditfindingconsistentwiththechangeininventoryturnoverforToastco
4. Anauditfindingconsistentwiththechangeinthereturnonequity
TaskBasedSimulation8

(K)(L)(M)

43

ObservedRatio
Changes

Authoritative
Literature

Help

Items1through6representanauditorsobservedchangesincertainfinancialstatementratiosoramountsfromthe
prioryearsratiosoramounts.Foreachobservedchange,selectthemostlikelyexplanationorexplanationsfromListB.
Selectonlythenumberofexplanationsasindicated.Answersonthelistmaybeselectedonce,morethanonce,ornotatall.
ListB
Itemsshippedonconsignmentduringthelastmonthoftheyearwererecordedassales.
Asignificantnumberofcreditmemosforreturnedmerchandisethatwereissuedduringthelastmonthoftheyear
werenotrecorded.
C. Yearendpurchasesofinventorywereoverstatedbyincorrectlyincludingitemsreceivedinthefirstmonthof
thesubsequentyear.
D.
Yearendpurchasesofinventorywereunderstatedbyincorrectlyexcludingitemsreceivedbeforetheyearend.
E.
Alargerpercentageofsalesoccurredduringthelastmonthoftheyear,ascomparedtotheprioryear.
F.
Asmallerpercentageofsalesoccurredduringthelastmonthoftheyear,ascomparedtotheprioryear.
G.
Thesamepercentageofsalesoccurredduringthelastmonthoftheyear,ascomparedtotheprioryear.
H.
Salesincreasedatthesamepercentageascostofgoodssold,ascomparedtotheprioryear.
I.
Salesincreasedatagreaterpercentagethancostofgoodssoldincreased,ascomparedtotheprioryear.
J.
Salesincreasedatalowerpercentagethancostofgoodssoldincreased,ascomparedtotheprioryear.
K.
Interestexpensedecreased,ascomparedtotheprioryear.
L.
Theeffectiveincometaxrateincreased,ascomparedtotheprioryear.
M.
Theeffectiveincometaxratedecreased,ascomparedtotheprioryear.
N.
Shorttermborrowingwasrefinancedonalongtermbasisatthesameinterestrate.
O.
Shorttermborrowingwasrefinancedonalongtermbasisatlowerinterestrates.
P.
Shorttermborrowingwasrefinancedonalongtermbasisathigherinterestrates.
A.
B.

Auditorsobservedchanges
1. Inventoryturnoverincreasedsubstantiallyfrom
theprioryear.(Select3explanations)
2. Accountsreceivableturnoverdecreasedsubstan
tiallyfromtheprioryear.(Select3explanations)
3. Allowancefordoubtfulaccountsincreasedfrom
theprioryear,butallowancefordoubtfulaccounts
asapercentageofaccountsreceivabledecreased
fromtheprioryear.(Select3explanations)
4. Longtermdebtincreasedfromtheprioryear,but
interestexpenseincreasedalargerthan
proportionateamountthanlongtermdebt.(Select
oneexplanation)
5. Operatingincomeincreasedfromtheprioryear
althoughtheentitywaslessprofitablethaninthe
prioryear.(Selecttwoexplanations)
6. Grossmarginpercentagewasunchangedfromthe
prioryearalthoughgrossmarginincreasedfrom
theprioryear.(Selectoneexplanation)

(A)(B)(C)(D)(E)(F)(G)(H)(I)(J)(K)(L)(M)(N)(O)(P)

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

44

TaskBasedSimulation9
Assertionsand
AuditProcedures

Authoritative
Literature

Help

YouareastaffauditorwithWilliamsandCo.CPAs.BillJones,anewhire,hascometoyouwith
questionsconcerningassertionsandauditprocedures.For1.through6.matcheachassertionwith
thestatementthatmostcloselyapproximatesitsmeaning.Eachstatementmaybeusedonlyonce.
A.
B.
C.
D.
E.
F.

Statement
Thereissuchanasset
Thecompanylegallyownstheassets
Allassetshavebeenrecorded
Transactionsarerecordedinthecorrectaccountingperiod
Assetsarerecordedatproperamounts
Assetsareproperlyclassified
(A)(B)(C)(D)(E)(F)

Assertion
1. Completeness
2. Cutoff
3. Existenceandoccurrence
4. Presentationanddisclosure
5. Rightsandobligations
6. Valuation

Auditorsperformauditprocedurestoobtainauditevidencethatwillallowthemtodraw
reasonableconclusionsastowhethertheclientsfinancialstatementsfollowgenerallyaccepted
accountingprinciples.Matcheachauditprocedurewithitstype.Eachtypeofauditprocedureisused,
oneofthemtwice.
A.
B.
C.
D.

Typeofauditprocedure
Analyticalprocedures
Testsofcontrols
Riskassessmentprocedures(otherthananalyticalprocedures)
Testofdetailsofaccountbalances,transactions,ordisclosures

Auditprocedures
1. Prepareaflowchartofinternalcontroloversales.

(A) (B) (C) (D)

2. Calculatetheratioofbaddebtexpensetocreditsales.
3. Determinewhetherdisbursementsareproperlyapproved.
4. Confirmaccountsreceivable.
5. Comparecurrentfinancialinformationwithcomparablepriorperiods.
TaskBasedSimulation10
AuditRiskand
ItsComponentsAuthoritative

Literature

Help

YourecentlygraduatedfromcollegeandjoinedaCPAfirmasajuniorassistant.Youhavebeen
assignedtoauditWiglo,Inc.AtlunchoneofWiglosaccountantssaidtoyouthatheishavingsome
troublewithbasicauditconcepts,andthisbothershimsincehethinkshemaywanttotaketheCPA
examatsomepointinthefuture.Hehasthefollowingquestionsforyoutowhichyoushouldreply
withayesifitiscorrect,andanoifitisincorrect.

Yes
No

1.

AmIrightthattheriskofmaterialmisstatementiscomposedofthethreecomponentsof
auditrisk?

2.
3.

4.

5.

6.

A
m
D
o
D

7.
8.

Isinherentriskthepossibilityofmaterialmisstatementbeforeconsideringtheclients
internalcontrol?

InourcompanyIthinkourcontrolriskislowerthisyearthanitwaslastyear;doesthatmeanthat
thereisanincreaseintheriskofmaterialmisstatement?

Research:
Supervision

Authoritative

Literature

Help

YougraduatedfromcollegerecentlyandjoinedaCPAfirmasanassistant.Youhavebeen
assignedtotheauditofPJWholesale,Inc.TheCEOofthenonpubliccompanycannotunderstandwhy
asupervisorfromyourfirmneedstoreviewyourauditwork,giventhatyouhaveaformalaccounting
educationandtookauditingcoursesincollege.
Titlechoices
A. AU
B.
PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
1.

WhichtitleoftheProfessionalStandardsaddressesthisissueand
willbehelpfulinrespondingtotheCEO?

2.

Entertheexactsectionandparagraphwithhelpfulinformation.

(A)(B)(C)(D)(E)(F)(G)
(H)

TaskBasedSimulation12
Research:Tone

attheTop

Authoritative
Literature

Help

BillJensen,CPA,hasjustbecomepartnerofWigg&Co.CPAs.Heisconcernedthatthetoneat
thetopofthefirmcouldusesomeimprovementinthemessagesitsendstoemployeesconcerningthe
firmsculture.HehasaskedyoutofindanyprofessionalstandardsthataddresstheneedforaCPA
firmtohaveapropertoneatthetop.
Titlechoices
A. AU
B.
PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
1.

WhichtitleoftheProfessionalStandardsaddressesthisissueand
willbehelpfulinrespondingtothepartner?

2.

Entertheexactsectionandparagraphswithhelpfulinformation.

(A)(B)(C)(D)(E)(F)(G)
(H)

46

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

TaskBasedSimulation13
EffectsonAuditRiskComponents

Authoritative
Literature

Help

BestwoodFurniture,Inc.,aprivatecompanythatproduceswoodfurniture,isundergoingayear2
audit.ThesituationsinthetablebelowdescribechangesBestwoodmadeduringyear2thatmayor
maynotcontributetoauditrisk.Foreachsituation,selectfromthelistprovidedtheimpact,ifany,that
thesituationhasonaspecificcomponentofauditriskfortheyear2audit.Aselectionmaybeused
once,morethanonce,ornotatall.
I
m
A
.B
.C
.D
.E
.F
.G
.
S
i
1.

D
u

2.

I
n
E
a

3.

TaskBasedSimulation14
Research
Authoritative
Literature

Help

QualityControlStandards
AssumethatyouareemployedbyWilson&WilsonCPAs.Oneofthepartnershasaskedyouto
researchtheprofessionalstandardsforthereferencethatidentifiestherequirementsfordocumentation
ofafirmsqualitycontrolpoliciesandprocedures.
Titlechoices
A. AU
B.
PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
1.

WhichtitleoftheProfessionalStandardsaddressesthisissueand
willbehelpfulinrespondingtothepartner?

2.

Entertheexactsectionandparagraphswithhelpfulinformation.

(A)(B)(C)(D)(E)(F)(G)
(H)

MODULE2 ENGAGEMENTPLANNINGANDASSESSINGRISKS

47

MULTIPLECHOICEANSWERS

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.

a
d
c
d
a
a
d
b
b
a
c
c
b
b
b
b
d
a
c
b

__
__
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__
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__

21.
22.
23.
24.
25.
26.
27.
28.
29.
30.
31.
32.
33.
34.
35.
36.
37.
38.
39.
40.

b
b
c
a
b
a
b
a
d
b
d
c
a
a
c
d
d
b
d
c

__
__
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__
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__

41.
42.
43.
44.
45.
46.
47.
48.
49.
50.
51.
52.
53.
54.
55.
56.
57.
58.
59.
60.

c
d
a
a
a
a
b
d
b
a
a
a
c
b
d
d
d
c
b
a

__
__
__
__
__
__
__
__
__
__
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__
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__
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__

__
__
__
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__
__
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__
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__

61.
62.
63.
64.
65.
66.
67.
68.
69.
70.
71.
72.
73.
74.
75.
76.
77.
78.
79.
80.

c
b
a
b
b
c
b
d
a
b
b
a
c
d
c
a
c
b
c
a

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

__
__
__
__
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__
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__
__
__
__
__
__
__
__
__
__
__

81.
82.
83.
84.
85.
86.
87.
88.
89.
90.
91.
92.
93.
94.
95.
96.
97.
98.
99.
100.

b
c
a
d
d
a
d
b
a
d
c
a
d
c
b
c
a
c
b
b

__
__
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__
__
__
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__ 101. c
__ __
__ 102. b
__ __
__ 103. b
__ __
__ 104. d
__ __
__ 105. b
__ __
__ 106. d
__ __
__ 107. a
__ __
__ 108. d
__ __
__ 109. c
__ __
__ 110. d
__ __
__ 111. a
__ __
__ 112. b
__ __
__ 113. c
__ __
__
__
__
__
__
__ 1st:__/113=__%
__ 2nd:__/113=__%

MULTIPLECHOICEANSWEREXPLANATIONS

A. Overview
1.

(a)Therequirementistoidentifya
conceptualdifferencebetweenthe
attestationstandardsandgenerally
acceptedauditingstandards.Answer
(a)iscorrectbecauseAT101states
thattheattestationstandardsdonot
applytoauditsofhistoricalfinancial
statements.Answer(b)isincorrect
becauseanindependentmental
attitudeisrequiredforattestation
engagements.Answer(c)isincorrect 4.
becauseanattestengagementmaybe
relatedtoabusinessacquisition
studyorafeasibilitystudy.Answer
(d)isincorrectbecausewhilethereis
nointernalcontrolfieldworkstandard
undertheattestationstandards,botha
planningandanevidencestandardof
fieldworkareincluded.

2.

(d)Therequirementistoidentifythe
replywhichisnotanattestation
standard.Answer(d)iscorrect
becausetheattestationstandardsdo
notincludearequirementthata
sufficientunderstandingofinternal
controlbeobtainedtoplanthe
engagement.Thereisnointernal
controlstandardbecausetheconcept
ofinternalcontrolmaynotbe
relevanttocertainassertionson
whichaCPAmaybeengagedto
report(e.g.,aspectsofinformation
aboutcomputersoftware).Answers
(a),(b),and(c)areallincorrect
becausestandardsexistforevidence,
reportingontheassertionorsubject
matter,andproperplanning.

3.

(c)Therequirementistoidentifythe
characteristicthatismostlikelytobe
uniquetotheauditworkofCPAsas

comparedtoworkperformedby
practitionersofotherprofessions.
Answer(c)iscorrectbecause
independenceisabsolutelyrequired
fortheperformanceofaudits;other
professionsdonotingeneralrequire
suchindependence.Answers(a),(b),
and(d)areincorrectbecausethe
variousprofessionsrequiredue
professionalcareandcompetence
andhaveacomplexbodyof
knowledge.

(d)Therequirementistodeterminewhatis
meantbythethirdgeneralstandards
requirementofduecareintheperformanceof
anaudit.Answer(d)iscorrectbecauseduecare
requirescriticalreviewateverylevelof
supervisionoftheworkdoneandthejudgment
exercisedbythoseassisting

intheaudit.Answer(a)isincorrectbecausethe
duecarestandarddoesnotdirectlyaddress
safeguardsoveraccesstoassetsandrecords.
Answer(b)isincorrectbecauseduecaredoes
notrelatetoalimitedreviewofemployeefraud
andillegalacts.Answer(c)isincorrectbecause
thefirstgeneralstandardaddressestechnical
trainingandproficiencyasanauditor.
5.(a)Therequirementistoidentifythefocus
ofafinalwrapupreviewperformedbyasecond
partnerwhohasnotbeeninvolvedintheaudit.
Answer(a)iscorrectbecausethissecondor
coldreviewaimsatdeterminingwhetherthe
financialstatementsresultinfairpresentationin
conformitywithGAAPandwithwhether
sufficientappropriateevidencehasbeen
obtained.Answer(b)isincorrectbecausemost
frequentlyfraudinvolvingtheclientsman
agementanditsemployeeshavenotbeen
discoveredand,eveniftheyhavebeen,the
focusofthereviewisstillonthefairnessof
presentationofthefinancialstatements.An
swers(c)and(d)areincorrectbecause
decisionsonmaterialityandcommunications
withtheauditcommitteeareonlytwoofthe

manymattersthereviewmayaddressinan
efforttoaddressfairnessofpresentationofthe
financialstatements.
A.1.
6.

FinancialStatementAssertions

(a)Therequirementistoidentifythecategories
offinancialstatementassertions.Answer(a)is
correctbecausetheprofessionalstandards
establishfinancialstatementassertionsfor
accountbalances,classesoftransactionsand
disclosures.Answer(b)isincorrectbecause
financialstatementassertionsareestablished
fordisclosures.Answer(c)isincorrect
becausefinancialstatementassertionsare
establishedforclassesoftransactions.Answer
(d)isincorrectbecausefinancialstatement
assertionsareestablishedforbothclassesof
transactionsanddisclosures.
7.

(d)Therequirementistoidentifythe
item thatis not a financialstatement
assertionrelatingtoaccountbalances.
Answer (d) is correct because
valuationandallocationisanaccount
balance assertion, not valuation and
com

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

48

petence.Answer(a)isincorrectbecause
completenessisanassertionrelatingtoaccount
balances.Answer(b)isincorrectbecause
existenceisanassertionrelatingtoaccount
balances.Answer(c)isincorrectbecauserights
andobligationsisanassertionrelatingto
accountbalances.
A.2.

AuditRisk
8.

(b)Therequirementistodeterminea
likelyauditorreactiontoadecreased
acceptablelevelofdetectionrisk.
Answer(b)iscorrectbecause
postponementofinterimsubstantive
teststoyearenddecreasesdetection
riskbyreducingtheriskforthe
periodsubsequenttothe
performanceofthosetests;other
approachestodecreasingdetection
riskincludechangingtomore
effectivesubstantivetestsand
increasingtheirextent.Answer(a)is
incorrectbecauseincreased,not
reduced,substantivetestingis
required.Answer(c)isincorrect
becauseinherentriskmustbe
consideredinplanning,eitherby
itselforincombinationwithcontrol
risk.Answer(d)isincorrectbecause
testsofcontrolsmustbeperformed
toreducetheassessedlevelofcon
trolrisk.

9.

(b)Therequirementistoidentifythe
riskthatanauditorwillconclude,
basedonsubstantivetests,thatama

terialerrordoesnotexistinanaccountbalance
when,infact,sucherrordoesexist.Answer(b)
iscorrectbecausedetectionriskistheriskthat
theauditorwillnotdetectamaterial
misstatementthatexistsinanassertion.
Detectionriskmaybeviewedintermsoftwo
components(1)theriskthatanalytical
proceduresandotherrelevantsubstantivetests
wouldfailtodetectmisstatementsequalto
tolerablemisstatement,and(2)theallowable
riskofincorrectacceptanceforthesubstantive
testsofdetails.Answer(a)isincorrect
becausesamplingriskarisesfromthe
possibilitythat,whenatestofcontrolsora
substantivetestisrestrictedtoasample,the
auditorsconclusionsmaybedifferentfromthe
conclusionsheorshewouldreachifthetests
wereappliedinthesamewaytoallitemsin
theaccountbalanceorclassoftransactions.
Whenrelatedtosubstantivetestssampling
riskisonlyapartoftheriskthattheauditors
substantivetestswillnotdetectamaterial
misstatement.An
swer(c)isincorrectbecausenonsamplingrisk
includesonlythoseaspects ofauditriskthat
are not due to sampling. Answer (d) is
incorrect because inherent risk is the
susceptibility of an assertion to a material

misstatement, assuming that there are no


relatedcontrols.
10.(a)Therequirementistoidentifyaneffect
ofadecreaseintheacceptablelevelof
detectionrisk.Answer(a)iscorrectbecauseas
theacceptablelevelofdetectionriskdecreases,
theassuranceprovidedfromsubstantivetests
shouldincrease.Togainthisincreased
assurancetheauditorsmay(1)changethe
natureofsubstantiveteststomoreeffective
procedures(e.g.,useindependentparties
outsidetheentityratherthanthosewithinthe
entity),(2)changethetimingofsubstantive
tests(e.g.,performthematyearendratherthan
ataninterimdate),and(3)changetheextentof
substantivetests(e.g.,takealargersample).
Answer(b)isincorrectbecausetheassurance
providedfromsubstantivetestsincreases,it
doesnotdecrease.Answers(c)and(d)are
incorrectbecausetheacceptablelevelof
detectionriskisbasedlargelyontheassessed
levelsofcontrolriskandinherentrisk.
Accordingly,anytestsofcontrolswillalready
havebeenperformed.

11. (c)Therequirementistodetermine
whetherinherentrisk,controlrisk,
anddetectionriskmaybeassessed
innonquantitativeterms.Answer(c)
iscorrectbecausealloftheserisks
maybeassessedineither
quantitativetermssuchas
percentages,ornonquantitative
termssuchasarangefroma
minimumtoamaximum.
12. (c)Therequirementistodetermineamanner
inwhichinherentriskandcontrolriskdiffer
fromdetectionrisk.Answer(c)iscorrect
becauseinherentriskandcontrolriskexist
independentlyoftheauditofthefinancial
statementsasfunctionsoftheclientandits
environment,whereasdetectionriskrelatesto
theauditorsproceduresandcanbechangedat
hisorherdiscretion.Answer(a)isincorrect
becauseinherentriskandcontrolriskare
functionsoftheclientanditsenvironmentand
donotarisefrommisapplicationofauditing
procedures.Answer(b)isincorrectbecause
inherentrisk,controlriskanddetectionrisk
mayeachbeassessedineitherquantitativeor
nonquantitativeterms.Answer(d)isincorrect
becauseinherentriskandcontrolriskare
functionsoftheclientanditsenvironment,
theycannotbechangedattheauditors
discretion.However,theassessedlevelsof
inherentandcontrolrisk(notaddressedinthis
question)maybeaffectedbyauditordecisions
relatingtothecostofgatheringevidenceto
substantiateassessedlevelsbelowthe
maximum.
13. (b)Therequirementistodetermine
thebestwayforanauditortoachieve
anoverallauditrisklevelwhenthe
auditevidencerelatingtocontrolrisk
indicatestheneedtoincreaseits
assessedlevel.Answer(b)iscorrect
becauseadecreaseindetectionrisk
willallowtheauditorachievean
overallauditrisklevelsubstantially
thesameasplanned.Answer(a)is
incorrectbecauseadecreasein
substantivetestingwillincrease,not
decrease,detectionriskandthereby
increaseauditrisk.Answer(c)is
incorrectbecauseanincreasein
inherentriskwillalsoincreaseaudit
risk.Answer(d)isincorrectbecause
thereappearstobenojustification
forincreasingmaterialitylevels
beyondthoseusedinplanningthe
audit.

14. (b)Therequirementistodetermine
therelationshipbetweencontrolrisk
anddetectionrisk.Inverseiscorrect
becauseascontrolriskincreases
(decreases)detectionriskmust
decrease(increase).
A.3.

Materiality
15. (b)Therequirementistoidentifythe
informationthatanauditorwould
mostlikelyuseindeterminingapre
liminaryjudgmentaboutmateriality.
Answer(b)iscorrectbecausemany
materialitymeasuresrelatetoan
annualfigure(e.g.,netincome,sales).
Answer(a)isincorrectbecausethe
preliminaryjudgmentabout
materialityisafactorusedin
determiningtheanticipatedsample
size,notthereverseassuggestedby
thereply.Answers(c)and(d)are
incorrectbecausematerialitywillnot
normallybeaffectedbytheresultsof
theinternalcontrolquestionnaireor
thecontentsofthemanagement
representationletters.

16. (b)Therequirementistoidentifythe
statementthatisnotcorrect
concerningmateriality.Answer(b)is
theproperreplybecausetheauditor
considersmaterialityforplanning
purposesintermsofthesmallest,not
thelargest,aggregateamountof
misstatementthatcouldbematerial
toanyoneofthefinancial
statements.Answers(a),(c),
and (d) all represent correct statements about
materiality.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
17. (d)Therequirementistoidentifythe
elementswhichunderliethe
applicationofgenerallyaccepted
auditingstandards,particularlythe
standardsoffieldworkandreporting.
Answer(d)iscorrectbecauseAU
150statesthatmaterialityand
relativeriskunderlietheapplication
ofallthestandards.Answer(a)is
incorrectbecauseaconsiderationof
internalcontrolisoneofthefield
standards,notanelementunderlying
thestandards.Answer(b)isincorrect
becausethesecondfieldwork
standard,onevidence,relatesmost
directlytocorroboratingevidence.
Answer(c)isincorrectbecause
whileitisaccuratethatquality
controlstandardsencompassthe
firmspoliciesandprocedurestopro
videreasonableassuranceof
conformingwithprofessional
standards,thestandardsarenot
relatedmoredirectlytothefieldwork
andreportingstandardsthantothe
generalgroupofgenerallyaccepted
auditingstandards.
18. (a)Therequirementistodetermine
theappropriatelevelofmaterialityfor
planningpurposeswhen$10,000
wouldhaveamaterialeffectonan
entitysincomestatement,but
$20,000wouldmateriallyaffectthe
balancesheet.AU312statesthatthe
auditshouldbedesignedtoobtain
reasonableassuranceaboutwhether
thefinancialstatementsarefreeof
materialmisstatement.Becauseitwill
ordinarilybedifficulttoanticipate
duringtheplanningstageofanaudit
whetherallmisstatementswillaffect
onlyonefinancialstatement,the
auditorisgenerallyrequiredtouse
thelowerfinancialstatementfigure
formostportionsofplanning.
Therefore,answer(a),$10,000,is
correct.Answers(b),(c),and(d)are
allincorrectbecausetheyaredollar
amountswhichexceedthelowest
levelofmateriality.
19. (c)Therequirementistoidentifythe
informationthatanauditorwouldbemost
likelytouseinmakingapreliminaryjudgment
aboutmateriality.Answer(c)iscorrectbecause
auditorsoftenchoosetouseameasurerelating
totheprioryearsfinancialstatements(e.g.,a
percentageoftotalassets,netincome,or
revenue)toarriveatapreliminaryjudgment
aboutmateriality.Answer(a)isincorrect
becausematerialityisbasedonthemagnitude
ofanomissionormisstatementandnotonthe
initialassessmentofcontrolrisk.Answer(b)is
incorrectbecausewhileanauditorsmateriality

49

judgmentwillaffecttheanticipatedsamplesize
forplannedsubstantivetests,samplesizedoes
notaffectthematerialityjudgment.Answer(d)
isincorrectbecausetheassertionsembodiedin
thefinancialstatementsremainthesamefrom
oneaudittoanother.
20. (b)Therequirementistoidentifythe
mostlikelyeffectofadecreaseinthe
tolerableamountofmisstatement
(tolerablemisstatement)inaclassof
transactions.Answer(b)iscorrect
becauseauditingstandardsstatethat
decreasingthetolerableamountof
misstatementwillrequiretheauditor
todooneormoreofthefollowing:
(1)performauditingprocedures
closertothebalancesheetdate
(answer[b]);(2)selectamore
effectiveauditingprocedure;or(3)
increasetheextentofaparticular
auditingprocedure.Answer(a)is
incorrectbecauseinsucha
circumstancesubstantivetestsare
morelikelytobeperformedator
afterthebalancesheetdatethanprior
tothebalancesheetdate.Answer(c)
isincorrectbecausedecreasingthe
tolerableamountofmisstatementwill
notnecessarilyleadtoanincreasein
theassessedlevelofcontrolrisk.
Answer(d)isincorrectbecausethe
extentofauditingprocedureswillbe
increased,notdecreased.

21. (b)Therequirementistoidentifythe
necessaryconditionforanauditorto
beabletoissueanunqualifiedopin
ion.Answer(b)iscorrectbecauseif
theestimateoflikelymisstatementis
equaltoorgreaterthanamaterial
amountamaterialdeparturefrom
generallyacceptedaccountingprin
ciplesexistsandthusAU508requires
eitheraqualifiedoradverseopinion
insuchcircumstances.Answer(a)is
incorrectbecausetheamountof
knownmisstatement(ifany)neednot
bedocumentedinthemanagement
representationletter.Answer(c)is
incorrectbecauseitordinarilyisnot
necessaryfortheclientto
acknowledgeandrecordimmaterial
knownmisstatements.Answer(d)is
incorrectbecausethetotallikely
misstatementneednotincludethe
adjustingentriesalreadyrecordedby
theclient.
22. (b)Therequirementistodetermine
whichconceptrequiresanattitude
thatincludesaquestioningmindanda
criticalassessmentofauditevidence.
Answer(b)iscorrectbecauseAU230
statesthatprofessionalskepticism
includesthesequalities.Answer(a)is
incorrectbecausedueprofessional
careisabroaderconceptthat
concernswhattheindependent
auditordoesandhowwellheorshe
doesit.Answer(c)isincorrect
becausereasonableassuranceisbased
ontheconceptthatanauditorisnot
aninsurerandhisorherreportdoes
notprovideabsoluteassurance.
Answer(d)isincorrectbecause
supervisioninvolvesthedirectingof
theeffortsofassistantswhoare
involvedinaccomplishingthe
objectivesoftheauditand
determiningwhetherthoseobjectives
wereaccomplished.
23. (c)Therequirementistodetermine

whatpresumptionconcerning
managementshonestythat
professionalskepticismrequires.
Answer(c)iscorrectbecauseprofes
sionalskepticismrequiresthatan
auditorneitherassumedishonestynor
unquestionedhonesty.Answers(a)
and(b)areincorrectbecauseneither
honestyintheabsenceoffraudrisk
factornordishonestyareassumed.
Answer(d)isincorrectbecausethe
conceptofreasonableassuranceisnot
directedtowardsmanagements
honesty.
A.4.

ErrorsandFraud

24. (a)Therequirementistoidentifytheexample
offraudulentfinancialreporting.Answer(a)is
correctbecausefraudulentfinancialreporting
involvesintentionalmisstatementsor
omissionsofamountsordisclosuresinfinancial
statementstodeceivefinancialstatementusers
andchangingtheinventorycounttagsresultsin
suchamisstatement.Answers(b),(c),and(d)
areallincorrectbecausetheyrepresentthe
misappropriationofassets.SeeAU316which
dividesfraudulentactivitiesintomisstatement
arisingfromfraudulentfinancialreportingand
misstatementsarisingfrommisappropriationof
assets(sometimesreferredtoasdefalcation).
25. (b)Therequirementistoidentifythe
bestdescriptionofwhatismeantby
afraudriskfactor.Answer(b)is
correctbecauseAU316suggeststhat
whilefraudriskfactorsdonot
necessarilyindicatetheexistenceof
fraud,theyoftenhavebeenobserved
incircumstanceswherefraudshave
occurred.Answer(a)isincorrect
becausetheriskoffraudmayormay
notbehighwhenariskfactoris
present.Answer(c)isincorrect
becausethecurrentauditprogram
mayinmanycircumstances
appropriatelyaddressafraudrisk
factor.Answer(d)isincorrect
becauseafraudriskfactormayor
maynotrepresentamaterial
weakness.

50

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
incorrectbecausetheyrepresentfactors
consideredintheprofessionalliteraturefor
providingreasonable,andnotabsoluteassur
ance.

26. (a)Therequirementistoidentifythe
replywhichrepresentsanauditor
communicationresponsibilityrelating
30. (b)Therequirementistoidentifythetypeof
tofraud.Answer(a)iscorrect
fraudulentmisstatementthatismostdifficultto
becauseallfraudinvolvingsenior
detect.Answer(b)iscorrectbecause
managementshouldbereported
transactionsthathavenotbeenrecordedare
directlytotheauditcommittee.
generallyconsideredmostdifficultbecause
Answer(b)isincorrectbecause
thereisnogeneralstartingpointfortheauditor
auditorsareonlyrequiredtoreport
intheconsiderationofthetransaction.Answers
fraudtotheSecuritiesandExchange
(a),(c),and(d)allrepresentrecorded
Commissionunderparticular
transactionswhich,whenaudited,areingeneral
circumstances.Answer(c)isincorrect
easiertodetect.
becauseauditorsdonotordinarily
disclosefraudthroughuseofan
31. (d)Therequirementistoidentifytheleast
emphasisofamatterparagraph
likelyindicatorofariskofpossible
addedtotheirreport.Answer(d)is
misstatementduetofraud.Answer(d)iscorrect
incorrectbecauseundercertain
becauseonewouldexpectunusuallyaggressive,
circumstancesauditorsmustdisclose
ratherthanunusuallyconservativeaccounting
fraudoutsidetheentity.
practicestoindicateariskofmisstatementdue
tofraud.Answers(a),(b),and(c)areall
27. (b)Therequirementistoidentifytherisk
incorrectbecausetheyrepresentriskfactors
relatingtomaterialmisstatementthatauditors
explicitlyincludedinAU316,whichprovides
arerequiredtoassess.Answer(b)iscorrect
guidanceonfraud.
becauseSAS109andAU316requireauditors
tospecificallyassesstheriskofmaterial
misstatementsduetofraudandconsiderthat
assessmentindesigningtheauditproceduresto
beperformed.Answer(a)isincorrectbecause
whileSAS109alsorequiresanassessmentof
theoverallriskofmaterialmisstatement
(whethercausedbyerrororfraud)thereisno
requirementtoexplicitlyassesstheriskof
materialmisstatementduetoerrors.Answer(c)
isincorrectbecausetheauditorneednot
explicitlyassesstheriskofmisstatementdueto
illegalacts(seeAU317forinformationon
illegalacts).Answer(d)isincorrectbecauseno
assessmentofbusinessriskisrequired.
28. (a)Therequirementistodetermine
whetherauditsaredesignedto
providereasonableassuranceof
detectingmisstatementsdueto
errors,fraudulentfinancial
reporting,and/ormisappropriation
ofassets.Answer(a)iscorrect
becauseAU110andAU316
requirethatanauditobtain
reasonableassurancethatmaterial
misstatements,whethercausedby
errororfraud,bedetected.
Fraudulentfinancialreportingand
themisappropriationofassetsare
thetwomajortypesoffraudwith
whichanauditisrelevant.
29. (d)Therequirementistoidentifythereply
whichisnotareasonwhyauditorsareunableto
obtainabsoluteassurancethatmisstatements
duetofraudwillbedetected.Answer(d)is
correctbecausewhileanauditormustexercise
professionalskepticismwhenperformingan
audititdoesnotrepresentalimitationthat
makesisimpossibletoobtainabsolute
assurance.Answers(a),(b),and(c)areall

(d)areallincorrectbecausemistakes
intheapplicationofaccounting
principlesorinprocessingdata,and
unreasonableaccountingestimates
arisingfromoversightareexamples
ofmisstatementsratherthanfraud.

32. (c)Therequirementistodetermine
thereplywhichrepresents
informationmostlikelytoaffectthe
auditorsassessmentoftheriskof
misstatementduetofraud.Answer
(c)iscorrectbecauseAU316states
thatmissingdocumentsmaybe
indicativeoffraud.Answer(a)is
incorrectbecausechecksfor
significantamountsarenormally
expectedtobeoutstandingatyear
end.Answer(b)isincorrectbecause
almostallauditsinvolvecomputer
generateddocumentsandtheir
existenceisnotconsidereda
conditionindicatingpossiblefraud.
Answer(d)isincorrectbecausewhile
lastminuteadjustmentsthat
significantlyaffectfinancialresults
maybeconsideredindicativeof
possiblefraud,yearendadjusting
journalentriesalonearetobe
expected.

35. (c)Therequirementistoidentifythe
characteristicmostlikelytoheightenan
auditorsconcernabouttheriskofintentional
manipulationoffinancialstatements.Answer
(c)iscorrectbecausetheplacementof
substantialemphasisonmeetingearnings
projectionsisconsideredariskfactor.Answer
(a)isincorrectbecausehighturnover,notlow
turnover,isconsideredariskfactor.Answer
(b)isincorrectbecauseinsiderpurchasesof
additionalsharesofstockarelesslikelytobe
indicativeofintentionalmanipulationofthe
financialstatementsthanisundueemphasison
meetingearningsprojections.Answer(d)is
incorrectbecausearapidrateofchangeinan
industry,notaslowrate,isconsideredarisk
factor.

33. (a)Therequirementistoidentifythe
mostlikelyresponsetotheauditors
assessmentthattheriskofmaterial
misstatementduetofraudforthe
existenceofinventoryishigh.
Answer(a)iscorrectbecause
observingtestcountsofinventoryon
anunannouncedbasiswillprovide
evidenceastowhetherrecord
inventoryexists.Answer(b)is
incorrectbecausereplacingtest
countswithanalyticalproceduresis
notlikelytobeparticularlyeffective.
Answers(c)and(d)areincorrect
becausetheinventoriesmightwellbe
countedatyearend,allonthesame
date,ratherthanpriortoyearendand
atdifferingdates.

36. (d)Therequirementistoidentifyan
auditorsresponsibilityfordetecting
errorsandfraud.Answer(d)is
correctbecauseAU110requiresthat
anauditordesigntheaudittoprovide
reasonableassuranceofdetecting
misstatementsduetoerrorsand
fraudthatarematerialtothefinan
cialstatements.Answer(a)is
incorrectbecauseauditsprovide
reasonableassuranceofdetecting
materialerrorsandfraud.Answer(b)
isincorrectbecauseitdoesntrestrict
theresponsibilitytomaterialerrors
andfraud.Answer(c)isincorrect
becauseitislessprecisethananswer
(d),whichincludestheAU110
responsibilityonerrorsandfraud.

34. (a)Therequirementistoidentifythe
replythatismostlikelytobean
exampleoffraud.Answer(a)ismost
likely,sincedefalcationisanother
termformisstatementsarisingfrom
misappropriationofassets,amajor
typeoffraud.Answers(b),(c),and

37. (d)Therequirementistoidentifythe
circumstancesinwhichanauditor
mayhavearesponsibilitytodisclose
fraudtopartiesotherthanaclients
seniormanagementanditsaudit
committeeorboardofdirectors.
Answer(d)iscor

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
rectbecauseAU316statesthatsucha
responsibilitymayexisttotheSECwhenthere
hasbeenanauditorchangetoasuccessor
auditorortocomplywithSEC1995Private
SecuritiesReformActcommunication
requirement,whenthesuccessorauditormakes
inquiries,andtoagovernmentagencyfrom
whichtheclientreceivesfinancialassistance.
Inaddition,thatsectionstatesthatanauditor
mayhavesuchadisclosureresponsibilityin
responsetoasubpoena,acircumstancenot
consideredinthisquestion.
38. (b)Errorsrefertounintentional
mistakesinfinancialstatements
suchasmisinterpretationoffacts.
Answers(a),(c),and(d)all
representfraudwhicharedefinedas
intentionaldistortionsoffinancial
statements.
39. (d)Therequirementistoidentifythe
levelofassuranceanauditor
provideswithrespecttodetectionof
materialerrors,fraud,anddirect
effectillegalacts.Answer(d)is
correctbecauseAU110requiresthe
auditortodesigntheaudittoprovide
reasonableassuranceofdetecting
materialerrors,fraudanddirecteffect
illegalacts.(Adirecteffectillegal
actisonethatwouldhaveaneffect
onthedeterminationoffinancial
statementamounts.)
40. (c)Therequirementistoidentifytheproper
attitudeofanauditorwhoisperformingan
auditinaccordancewithgenerallyaccepted
auditingstandards.Answer(c)iscorrect
becausetheauditorshouldplanandperformthe
auditwithanattitudeofprofessional
skepticism,recognizingthattheapplicationof
theauditingproceduresmayproduceevidence
indicatingthepossibilityofmisstatementsdue
toerrorsorfraud.Answer(a)isincorrect
becausewhiletheCPAmustexhibitobjective
judgment,professionalskepticismmore
accuratelysummarizestheproperattitude
duringanaudit.Answer(b)isincorrectbecause
whileaCPAmustbeindependentandhave
integrity,thisisnottheattitudeusedtoplan
andperformtheaudit.Answer(d)isincorrect
becausetheauditisnotplannedandperformed
withimpartialconservatism.
41. (c)Therequirementistoidentifythemeaning
ofthetermmaterialmisstatementwhenused
intheprofessionalstandards.Answer(c)is
correctbecauseSAS107and
AU316statethatamaterialmisstatementmay
occurduetoerrors,fraud,andillegalactswith
adirecteffectonfinancialstatementamounts.
42. (d)Therequirementistoidentifyan
auditorsresponsibilityfordetecting
financialstressofemployeesor

51

adverserelationshipsbetweena
companyanditsemployees.Answer
(d)iscorrectbecauseAU316states
that,whiletheauditorisnotrequired
toplantheaudittodiscoverinforma
tionthatisindicativeoffinancial
stressofemployeesoradverse
relationshipsbetweenthecompany
anditsemployees,suchconditions
mustbeconsideredwhenanauditor
becomesawareofthem.Answers(a),
(b),and(c)areallincorrectbecause
theauditordoesnotplantheauditto
detecttheseconditions.

43. (a)Therequirementistoidentifyan
auditorsresponsibilitywhenheor
shebelievesthatamisstatementisor
maybetheresultoffraud,butthat
theeffectofthemisstatementsis
immaterialtothefinancial
statements.Answer(a)iscorrect
becauseAU316statesthatinsuch
circumstancestheauditorshould
evaluatetheimplicationsofthefraud,
especiallythosedealingwiththe
organizationalpositionofthe
person(s)involved.

44. (a)Therequirementistoidentifythe
correctstatementsrelatingtothe
auditorsconsiderationoffraud.An
swer(a)iscorrectbecauseAU316
statesthattheauditorsinterest
relatestofraudulentactsthatcausea
materialmisstatementoffinancial
statements.Answer(b)isincorrect
becauseerrorsareunintentional.
Answer(c)isincorrectbecause
frauddoesnotnecessarilyinvolve
themisappropriationofassets(it
mayinvolvefraudulentfinancialre
porting).Answer(d)isincorrect
becauseanauditormustdesignan
audittoobtainreasonableassurance
ofdetectingmisstatements,
regardlessofwhethertheyare
causedbyerrorsorfraud.
45. (a)Therequirementistoidentifythefactoror
conditionthatanauditisleastlikelytobe
plannedtodiscover.Answer(a)iscorrect
becauseitrepresentsafinancialstress,and
auditorsarenotrequiredtoplanauditstodis
coverinformationthatisindicativeoffinancial
stressofemployeesoradverserelationships
betweentheentityanditsemployees.Answers
(b),(c),and(d)areallincorrectbecausethey
representexamplesofriskfactorsthatshould
beconsideredinanauditandareincludedin
AU316.
46. (a)Therequirementistodetermine
whenauditriskfactorsmaybe
identified.Answer(a)iscorrect
becauseAU316statesthatfraudrisk
factorsmaybeidentifiedduring
planning,obtaininganunderstanding,
orwhileconductingfieldwork;in
addition,theymaybeidentifiedwhile
consideringacceptanceor
continuanceofclientsand
engagements.
47. (b)Therequirementistoidentifythe
circumstanceinwhichitismost

likelythatmanagementsattitude
towardaggressivefinancialreporting
andtowardmeetingprojectedprofit
goalswouldmostlikelysignificantly
influenceanentityscontrol
environment.Answer(b)iscorrect
becausewhenmanagementis
dominatedbyoneindividual,thatin
dividualmaybeabletofollowoverly
aggressiveaccountingprinciples.
48. (d)Therequirementistoidentifythe
procedureleastlikelytoberequired
onanaudit.Answer(d)is
correctbecausefraudisabroadlegal
conceptandauditorsdonotmake
legaldeterminationsofwhetherfraud
hasoccurred.Answers(a),(b),and
(c)areincorrectbecauseconsidering
journalentries,estimates,andunusual
transactionsareordinarilyrequired
auditprocedurestoaddresstheriskof
managementoverrideofcontrols.
SeeAU316forinformationonthe
auditorsresponsibilityforthe
considerationoffraudinafinancial
statementaudit.
49. (b)Therequirementistoidentifythemost
likelyresponsewhenariskoffraudhasbeen
identifiedonanaudit.Answer(b)iscorrect
becauseAU316indicatesthatoverall
responsestotheriskofmaterialmisstatements
duetofraudinclude(1)assigningpersonnel
withparticularskillsrelatingtotheareaand
consideringthenecessaryextentofsupervision
totheaudit,(2)increasingtheconsiderationof
managementsselectionandapplicationof
accountingprinciples,and(3)makingaudit
procedureslesspredictable.Answer(a)is
incorrectbecauseclosersupervision,notless
closesupervision,ismorelikelytobe
appropriate.Answer(c)isincorrectbecause
individualswithspecializedskillsmaybe
neededwhoarenotCPAs.Answer(d)is
incorrectbecausesubjectivetransactions(e.g.,
accountingestimates)oftenprovidemorerisk
thanobjectivetransactions.

52

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
fraudulentfinancialreporting.

50. (a)Therequirementistoidentify
theleastlikelyinquiryof
managementrelatingtoidentifying
theriskofmaterialmisstatement
duetofraud.Answer(a)iscorrect
becausefinancialoperationsof
manycompaniesarenotordinarily
controlledbyandlimitedtoone
location.Answers(b),(c),and(d)
areallincorrectbecausetheyarein
cludedinAU316asinquiriesthat
shouldbemadeofmanagement.
51. (a)Therequirementistoidentifythe
attributesordinarilypresentwhen
individualscommitfraud.Answer(a)
iscorrectbecauseAU316suggests
thatthethreeconditionsgenerally
presentwhenfraudoccursarethat
individualshavean(1)incentiveor
pressure,(2)opportunity,and(3)
abilitytorationalize.Answers(b),(c),
and(d)areallincorrectbecausethey
suggestthatoneofthethreeelements
isnotordinarilypresent.
52. (a)Therequirementistodetermine
anauditorsreportingresponsibility
whenheorshehasdiscoveredthat
managementisinvolvedina
financiallyimmaterialfraud.Answer
(a)iscorrectbecauseAU316
requiresthatallmanagementfraud,
regardlessofmateriality,bereported
totheauditcommittee.Answer(b)is
incorrectbecausefraudisnotdirectly
reportedtothePublicCompany
AccountingOversightBoard.Answer
(c)isincorrectbecauseifanything,in
additiontotheauditcommittee,the
fraudisreportedtoalevelof
managementatleastonelevelabove
thoseinvolvedinafraud.Answer(d)
isincorrectbecausethereisa
reportingresponsibilityfor
financiallyimmaterialmanagement
fraud.
53. (c)Therequirementistoidentifythe
mostlikelyriskfactorrelatingto
fraudulentfinancialreporting.An
swer(c)iscorrectbecausenegative
cashflowsfromoperationsmay
resultinpressureuponmanagement
tooverstatetheresultsofoperations.
Answer(a)isincorrectbecauseone
wouldexpectacompanystop
executivestodominatemanagement
dominationbyoneorafewmight
beconsideredariskfactor.Answers
(b)and(d)areincorrectbecauselarge
amountsofcashbeingprocessedand
smallhighdollarinventoryitemsare
moredirectlyrelatedtothemisappro
priationofassetsthantheyareto

54. (b)Therequirementistoidentifythe
mostlikelyfraudriskfactoronan
audit.Answer(b)iscorrectbecause
thepossibilityofimproperrevenue
recognitionisordinarilypresumedon
audits.Answers(a),(c),and(d)all
representpotentialrisks,butrisks
thatarenotordinarilypresumedon
anaudit.SeeAU316forinformation
ontheauditorsresponsibilityfor
theconsiderationoffraudina
financialstatementaudit.
55. (d)Therequirementistoidentifythe
circumstancesrelatingtothediscoveryofthe
paymentofsmallbribestomunicipalofficials
thatismostlikelytocauseanauditorto
withdrawfromanengagement.Answer(d)is
correctbecauseAU317statesthat
managementfailuretotaketheappropriate
remedialactionisparticularlyproblematical
sinceitmayaffecttheauditorsabilitytorely
onmanagementrepresentationandmay
thereforeleadtowithdrawal.Answers(a),(b),
and(c)allrepresentcircumstanceswhichthe
auditorwillconsider,butarenotordinarily
consideredasseriousasfailuretotakethe
appropriateremedialaction.

56. (d)Therequirementistoidentifythefactormost
likelytocauseaCPAnottoacceptanewaudit
engagement.Answer(d)iscorrectbecauseapart
oftheunderstandinganauditormustobtainwitha
clientisthatmanagementisresponsiblefor
makingallfinancialrecordsandrelatedinfor
mationavailable(seeSAS108).Accordingly,if
theclientrefusestomakesuchinformation
availabletheauditorisunlikelytoaccepttheaudit
client.Answer(a)isincorrectbecausea
circumstanceimposedscopelimitationssuchas
completionofthephysicalinventorycountresults
inasituationinwhichtheauditormayconsider
usingalternativeprocedures(includingmaking
sometestcounts)todeterminewhetherinventory
countsareproper.Answer(b)isincorrectbecause
anauditormayobtainanunderstandingofthe
clientsoperationsandindustrywhileperforming
theaudit.Answer(c)isincorrectbecausewhilea
reviewofthepredecessorauditorsworking
papersisordinarilydesirable,itisnotrequired.

57. (d)Therequirementistoidentifythefactor
mostlikelytoheightenanauditorsconcern
abouttheriskoffraudulentfinancialreporting.
Answer(d)iscorrectbecauseAU316,which
presentsavarietyofriskfactors,suggeststhat
anoverlycomplexorganizationalstructureis
suchariskfactor.Answer(a)isincorrect
becauselargeamountsofliquidassetsthatare
easilyconvertibleintocashrepresentmoreofa
riskrelatingtomisappropriationofassetsrather
thantofraudulentfinancialreporting.Answer
(b)isincorrectbecausehighgrowth,rather
thanlowgrowth,isconsideredariskfactor.
Answer(c)isincorrectbecauseonewould
expectfinancialmanagementsparticipationin
theinitialselectionofaccountingprinciples.
A.5.

IllegalActs
58. (c)Therequirementistoidentifythe
situationinwhichanauditorwouldbe
mostlikelytowithdrawfroman
engagementwhenheorshehas

discoveredthataclientsemployees
havepaidsmallbribestopublic
officials.Answer(c)iscorrect
becauseAU317statesthat
resignationshouldbeconsidered
whenanillegalactdoesnotreceive
properremedialaction,becausesuch
inactionmayaffecttheauditors
abilitytorelyonmanagement
representationsandtheeffectsof
continuedassociationwiththeclient.
Answer(a)isincorrectbecausethe
receiptoffederalfundsinsucha
situationisnotaslikelytoresultin
auditorwithdrawalasisanswer(c).
Answer(b)isincorrectbecauseit
seemsinconsistentwiththepremise
ofthequestioninthat,ifnoevidence
exists,theauditorisunlikelytoknow
thatbribeshavebeenpaid.Answer
(d)isincorrectbecausesuchsmall
bribeswillnotordinarilyneedtobe
disclosed.Alternatively,iftheauditor
believesthatthereissuchaneed,the
lackofsuchdisclosurerepresentsa
departurefromgenerallyaccepted
accountingprinciplesandeithera
qualifiedoradverseopinionis
appropriate.
59. (b)Therequirementistoidentifythe
illegalactthatanauditshouldbe
designedtoobtainreasonableassurance
ofdetecting.Answer(b)iscorrect
becausetheaccrualandbillingofan
improperamountofrevenueunder
governmentcontractsisanillegalact
withadirecteffectonthedetermi
nationoffinancialstatementamounts,
andauditsaredesignedtodetectsuch
illegalacts.Answers(a),(c),and(d)
areallincorrectbecausetheyrepresent
illegalactswithanindirectfinancial
statementeffectandanauditprovides
noassurancethatsuchactswillbe
detectedorthatanycontin

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
gentliabilitiesthatmayresultwillbedisclosed.
See
AU317fordetailedguidanceonauditor
responsibilitywithrespecttodirectand
indirectillegalacts.
60. (a)Therequirementistoidentifythe
smallmisstatementthatismostlikely
tohaveamaterialeffectonan
entitysfinancialstatements.Answer
(a)iscorrectbecauseanillegal
paymentofanotherwiseimmaterial
amountmaybematerialifthereisa
reasonablepossibilitythatitmaylead
toamaterialcontingentliabilityora
materiallossofrevenue.
61. (c)Therequirementistodeterminewhatan
auditormightreconsiderwhenaclientsboard
ofdirectorshasrefusedtotakeanyaction
relatingtoanauditorsdisclosurethatthe
companyhasmadeimmaterialillegal
contributions.Answer(c)iscorrectbecausein
suchacircumstancethefailuretotakeremedial
actionmaycauseanauditortodecrease
relianceonmanagementrepresentations.
Answer(a)isincorrectbecausethereplybythe
attorneyislikelytodiscloseanyclaims,
litigationorassessmentsthattheclienthas
improperlyomittedfromtheletterofaudit
inquiry.Answer(b)isincorrectbecausethe
prioryearsauditprogramsarenotbeingrelied
uponforthisyearsaudit.Answer(d)is
incorrectbecausethepreliminaryjudgment
aboutmaterialitylevelswouldnotbeexpected
tochange.
62. (b)Therequirementistoidentifya
reasonwhyauditscannotreasonably
beexpectedtobringallillegalactsto
theauditorsattention.Answer(b)is
correctbecauseillegalactsrelatingto
theoperatingaspectsofanentityare
oftenhighlyspecializedandcomplex
andoftenarefarremovedfromthe
eventsandtransactionsreflectedin
financialstatements.Answer(a)is
partiallycorrectsincemanagement
overriderepresentsalimitationofthe
effectivenessofinternalcontrol.Yet,
auditorsaremorelikelytoidentify
suchtransactionsbecausetheyrelate
toeventsandtransactionsreflectedin
thefinancialstatements.Answer(c)
isincorrectbecausemanyillegalacts
arenotsubjecttotheclientsinternal
control.Answer(d)isincorrect
becauseillegalactsmaybe
perpetratedwithoutaccesstoboth
assetsandaccountingrecords.
63. (a)Therequirementistodetermine
anauditorsresponsibilitywhen
informationcomestohis/her
attentionthatimpliestheexistence
ofpossibleillegalactswithama

53

terial,butindirecteffectonthe
financialstatements.Answer(a)is
correctbecauseAU317requiresthe
auditortoapplyauditprocedures
specificallydesignedtodetermine
whetheranillegalacthasoccurred
whensuchinformationcomesto
his/herattention.Answers(b),(c),
and(d)areallincorrectbecausethey
representprocedurestheauditor
wouldperformafterinitial
procedureshadconfirmedthe
existenceofthepossibleillegal
act(s).

64. (b)Therequirementistodetermine
thecircumstanceinwhichitismost
likelythataCPAwouldwithdraw
fromanauditengagementafter
havingdiscoveredthatclient
employeeshavecommittedanillegal
act.Answer(b)iscorrectbecausethe
auditormayconcludethatwithdrawal
isnecessarywhentheclientdoesnot
taketheremedialaction,evenwhen
theillegalactisnotmaterialtothe
financialstatements.Answers(a)and
(c)areincorrectbecausewhether
generallyacceptedaccounting
principleshavebeenviolatedand
whethertheillegalactoccurred
duringaprioryearthatwasnot
auditedmayormaynothaveaneffect
on

thedecisiontowithdrawfromtheengagement.
Answer(d)isincorrectbecausetheassessed
levelofcontrolriskwillnothaveadirect
relationshiponthedecisiontowithdrawfrom
theengagement.
65.(b)TherequirementistoidentifyaCPAs
responsibilityundertheSecuritiesLitigation
ReformActof1995foruncorrectedillegalacts
whichhavebeencommunicatedtotheboardof
directorswhichrefusestoinformtheSECof
theirexistence.Answer(b)iscorrectbecause
CPAsarerequiredunderthelawtodelivera
reportonthoseillegalactstotheSECwithin
onebusinessdayinsuchcircumstances.
Answer(a)inincorrectbecausethereisnore
quirementtoresign,althoughtheauditormay
decidetodoso.Answer(c)isincorrectbecause
theActsetsupreportingtotheSEC,nottothe
stockholders.Answer(d)isincorrectbecause
withholdingoftheauditopinionisnot
suggestedintheAct.
B. AuditPlanning

reporting,andmanagementsdisregardinthis
areamayleadtheCPAtorejectthe
engagement.Answer(a)isincorrectbothbe
causeaCPAmaynotneedanunderstandingof
theprospectiveclientsinternalauditors
computerassistedaudittechniquetoforman
opiniononthefinancialstatements,and
becauseifsuchunderstandingisnecessary,it
canbeobtainedsubsequenttoengagement
acceptance.Answer(c)isincorrectbecauseAU
334indicatesthataCPAoftenwillbeunableto
determinewhetherrelatedpartytransactions
wereconsummatedontermsequivalentto
armslengthtransactions.Answer(d)is
incorrectbecausewhilemanagementsrefusal
topermittheperformanceofsubstantivetests
beforetheyearendmaypresentaproblem,the
auditormaybeabletoeffectivelyperformsuch
testsafteryearend.
B.1.CommunicatewithPredecessor
Auditors(PriortoEngagement
Acceptance)
68. (d)Therequirementistoidentifya
requirementpriortoacceptingan
engagementtoauditanewclient.
Answer(d)iscorrectbecauseAU
315requiresthatanauditorattempt
toobtainclientpermissiontocontact
thepredecessorpriortoacceptinga
newengagement.Answers(a),(b),
and(c)areincorrectbecausethey
mayallbeobtainedsubsequentto
acceptinganengagement.

66. (c)Therequirementistoidentifytheprocedure
leastlikelytobeconsideredanauditplanning
procedure.Answer(c)iscorrectbecause
performingtheriskassessmentoccurs
subsequenttoauditplanning.Answer(a)is
incorrectbecauseanengagementletterisused
toestablishanunderstandingwiththeclient,
andthisisaplanningprocedure.Answer(b)is
incorrectbecauseauditorsdeveloptheoverall
auditstrategyduringauditplanning.Answer(d)
isincorrectbecausetheauditplanisdeveloped 69. (a)Therequirementistodeterminethenature
duringplanning.
oftheinquiriesthatasuccessorauditorshould
makeofthepredecessorauditorpriorto
67. (b)Therequirementistoidentifythefactor
acceptinganauditengagement.Answer(a)is
mostlikelytocauseaCPAtodecidenotto
correctbecausetheinquiriesshouldinclude
acceptanewauditengagement.Answer(b)is
specificquestionstomanagementon(1)
correctbecauseacertainlevelofinternal
disagreementswith
controlisessentialforfinancialstatement

54

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

managementastoauditingproceduresand
accountingprinciples(reply[a]),(2)factsthat
mightbearontheintegrityofmanagementand
(3)thepredecessorsunderstandingastothe
reasonsforthechangeofauditors.Answers
(b),(c),and(d)areincorrectbecause,ifmade
atall,theywillbeaftertheengagementhas
beenaccepted.
70.(b)Therequirementistoidentifythe
correctstatementregardingasuccessor
auditorsinquiriesofthepredecessorauditor.
Answer(b)iscorrectbecausethesuccessor
shouldrequestinformationsuchas(1)facts
thatmightbearontheintegrityof
management,(2)disagreementswith
managementastoaccountingprinciples,
auditingprocedures,orothersignificant
matters,and(3)thepredecessors
understandingofthereasonsforthechangeof
auditors.Answers(a),(c),and(d)allrelateto
mattersnotrequiredtobediscussedpriorto
acceptinganauditengagement.

B.2.EstablishinganUnderstandingwith
theClient(EngagementLetters)
71. (b)Therequirementistoidentifytheitem
ordinarilyincludedwhenanauditorestablishes
anunderstandingwithaclientregardingthe
servicestobeperformed.Answer(b)iscorrect
becauseauditingstandardsrequirethatan
auditorensurethattheauditcommitteeisaware
ofanysignificantdeficiencieswhichcometo
theCPAsattention.Answer(a)isincorrect
becausewhileanunderstandingwillincludea
statementthatmanagementisresponsiblefor
theentitysfinancialstatements,anexplicit
statementabouterrorsandillegalactivitiesof
employeesisnotordinarilyincluded.Answer
(c)inincorrectbecausemanagementdoesnot
providetheauditorwithanassessmentofthe
riskofmaterialmisstatementduetofraud.
Answer(d)isincorrectbecausenosuch
statementaboutanauditorsresponsibilityfor
determiningpreliminaryjudgmentsabout
materialityandauditriskfactorsisordinarily
includedinestablishinganunderstanding.See
SAS108forinformationonestablishingan
understandingwithaclient.
72. (a)Therequirementistoidentifythe
mattergenerallyincludedinan
auditorsengagementletter.Answer
(a)iscorrectbecauseAU310,which
outlinesrequirementsforengagement
letters,indicatesthatanengagement
lettershouldincludeanindicationthat
managementisresponsiblefor
identifyingandensuringthatthe
companycomplieswiththelawsand
regulationsapplicabletoitsactivities.
Answer(b)isincorrectbecausesuch
detailedinformationonmaterialityis
notgenerallyincludedinan
engagementletter.Answer(c)is

incorrectbecausemanagement
liability(ifany)forillegalacts
committedbyemployeesisnotgener
allyincludedinanengagementletter.
Answer(d)isincorrectbecause
whileanauditorisrequiredtoobtain
anunderstandingofinternalcontrol,
heorsheisnotrequiredtosearchfor
significantinternalcontrol
deficiencies.

73. (c)Therequirementistoidentifythe
mostlikelyprocedureduringthe
initialplanningphaseofanaudit.An
swer(c)iscorrectbecauseduring
initialplanningthetimingof
procedureswillbediscusseddueto
theneedforclientassistancewith
manyoftheseprocedures.Answer
(a)isincorrectbecausethetimingof
auditprocedureswilloccur
subsequenttotheinitialplanning
stageofanaudit.Answer(b)is
incorrectbecausetheevaluationof
reasonablenessoftheclients
accountingestimateswilloccurafter
planning(seeAU342).Answer(d)is
incorrectbecausetheinquiryofa
clientsattorneywilloccur

swer(c)iscorrectbecauseAU311,
whichprovidesinformationon
obtaininganunderstandingwiththe
client,doesnotsuggestany
arrangementconcerningCPA
investmentinclientsecurities;indeed
suchinvestmentsareprohibitedby
theCodeofProfessionalConduct.
Answers(a),(b),and(d)allrepresent
arrangementswhichAU311suggests
maybeincludedinanengagement
letter(orotherformofunderstanding
withaclient).

subsequentlytoinitialplanning(seeAU337).
SeeSAS108forinformationonplanning.
74.(d)Therequirementistoidentifythe
statementthatisleastlikelytoappearinan
auditorsengagementletter.Answer(d)is
correctbecauseauditorsordinarilywillnot
discusswithmanagementthedetailsof
proceduresthatarenecessarytoperformthe
audit.Answers(a),(b),and(c)areincorrect
becauseengagementletterswillincludeastate
mentontheriskofnotdetectingmaterial
errorsandfraud,andmayincludeinformation
onfeesandobservedopportunitiesfor
economy.

B.3.

PreliminaryEngagementActivities

78. (b)Therequirementistoidentifyform(s)of
documentationoftheunderstandingobtained
75. (c)Therequirementistoidentifytheitemfor
withaclient.Answer(b)iscorrectbecausethe
whichthegenerallyacceptedauditingstandards
professionalstandardsrequirethatanauditor
donotrequiredocumentation.Answer(c)is
documenttheunderstandingthroughawritten
correctbecausewhileaCPAfirmwillinclude
communicationwiththeclient.Answer(a)is
anengagementletterintheworkingpapers,it
incorrectbecauseanoralcommunicationisnot
willnotdetailtheauditorsplannedfieldwork.
sufficient.Answer(c)isincorrectbecausethe
Answer(a)isincorrectbecauseSAS108
communicationshouldbeinwriting.Answer
requiresawrittenauditplan.Answer(b)is
(d)isincorrectbecausetheunderstandingisnot
incorrectbecauseSAS103requiresthatthe
documentedinacompletelydetailedauditplan
workingpapersdocumenttheagreementor
atermofquestionablemeaning.
reconciliationoftheaccountingrecordswith
thefinancialstatements.Answer(d)isincorrect
79. (c)Therequirementistoidentifythe
becauseSAS109requirestheauditorto
factorthatmostlikelywould
documenttheassessmentoftherisksof
influenceanauditorsdetermination
materialmisstatement.
oftheauditabilityofanentitys
76. (a)Therequirementistodetermine
whattypesofitemsareordinarily
includedinanengagementletterin
additiontotheobjectivesofthe
engagement.Answer(a)iscorrect
becauseSAS108alsorequires
inclusionofinformationonCPA
responsibilities,client
responsibilities,andlimitationsofthe
engagement.
77. (c)Therequirementistodetermine
thereplywhichisleastlikelytobe
includedinanengagementletter.An

financialstatements.Answer(c)is
correctbecauseinadequate
accountingrecordsmaycausean
auditortoconcludethatitisunlikely
thatsufficientappropriateevidence
willbeavailabletosupportan
opiniononthefinancialstatements;
accordingly,anauditormay
determinethatthefinancial
statementsarenotauditable.Answer
(a)isincorrectbecauseanauditor
shouldbeabletoobtainthe
knowledgenecessarytoaudita
complex

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
B.5.

accountingsystem.Answer(b)isincorrect
becausewhilerelatedpartytransactionsmay
raisetransactionvaluationissuesduetothe
lackofanarmslengthtransaction,the
problemisnormallynotsosevereastomake
theentitynotauditable.Answer(d)is
incorrectbecausealackofoperating
effectivenessofcontrolsmayoftenbe
overcomethroughanincreaseinthescopeof
substantivetests.
B.4.

DevelopinganOverallStrategy
80. (a)Therequirementistoidentifythe
areathatismostlikelytorequire
specialauditplanningconsiderations.
Answer(a)iscorrectbecausean
inventorycomprisedofdiamond
ringsislikelytorequirethatthe
auditorplanaheadtoinvolvea
specialisttoassistinvaluationissues.
Answer(b)isincorrectbecause
valuationofanassetsuchasanew
copymachineisnotordinarily
expectedtoprovidevaluation
difficulties.Answer(c)isincorrect
becausetheexpensingpurchasesof
suchsmallassetsisordinarilyac
ceptableduetotheimmaterialityof
thetransactions.Answer(d)is
incorrectbecauseaccelerated
depreciationmethodsareordinarily
acceptable.
81. (b)Therequirementistoidentifythe
informationsourcethataCPAwould
mostlikelyconsultforinformationon
howvariouspubliclyheldcompanies
havecompliedwiththedisclosure
requirementsofanewfinancial
accountingstandard.Answer(b)is
correctbecauseAICPA
AccountingTrendsandTechniques,
whichisissuedannually,summarizes
suchdisclosuresof600industrialand
merchandisingcorporations.Answer(a)
isincorrectbecausetheAICPA
CodificationofStatementsonAuditing
Standardscodifiesthevarious
StatementsonAuditingStandardsand
doesnotincludeinformationon
individualcompanycompliancewith
disclosurerequirements.Answer(c)is
incorrectbecauseQualityControl
Reviewstandardsareestablishedbythe
AICPAandbecausetheydonotinclude
informationonindividualcompany
compliancewithdisclosure
requirements.Answer(d)isincorrect
becauseForm10Kitselfprovides
informationonpreparingForm10Kand
thisformdoesnotincludeinformation
onindividualcompanycompliancewith
disclosurerequirements.

TheAuditPlan

55

82. (c)Therequirementistodeterminewhyan
auditorshoulddesignawrittenauditprogram.
Answer(c)iscorrectbecauseanauditprogram
setsforthindetailtheauditproceduresthatare
necessarytoaccomplishtheobjectivesofthe
audit.Answer(a)isincorrectbecauseaudit
programsaddresstopicsbeyondselecting
materialtransactionsandthisisnottheirprimary
focus.Answer(b)isincorrectbecauseaprogram
mayincludenumeroussubstantiveteststobeper
formedpriortothebalancesheetdate.Answer(d)
isincorrectbecauseimmaterialaccountsoftenare
nottestedandbecausetestsoftransactions,tests
ofbalances,andanalyticalproceduresareusedto
testaccountbalances;accountbalancesarenot
directlytestedthroughtestsofcontrols.

83. (a)Therequirementistodeterminea
pointatwhichanauditprogrammay
befinalized.Answer(a)iscorrect
becausetheconsiderationofinternal
controlhelpstheauditortoassess
controlriskandtoplantheaudit:
accordingly,theauditprogramisnot
generallyfinalizedpriortothecon
siderationofinternalcontrol.Answer
(b)isincorrectbecause,while
generallydesirable,engagement
lettersarenotrequiredonaudits.
Answer(c)isincorrectbecause
report

ableconditionsmaybecommunicatedatvarious
timessubsequenttofinalizationoftheaudit
program.Answer(d)isincorrectbecauseaudit
programsareoftenfinalizedpriortothe
performanceofthesearchforunrecorded
liabilities.

acceptableforacontinuingclient.
Also,whenanewclienthasengaged
anauditorpriortoyearend,aportion
oftheauditmaybeconductedpriorto
yearend.Answer(b)isincorrect
becauseanengagementmaybe
acceptedaftertheclientsyearend.
Answer(c)isincorrectbecause
alternativeproceduresmaybe
possiblewhenaninventorycountwas
notobservedatyearend.Answer(d)
isincorrectbecausefinalstaffing
decisionsneednotbemadepriorto
completionoftheplanningstageof
audits.

84. (d)Therequirementistodeterminethemanner
inwhichauditprogramsshouldbedesigned.
Answer(d)iscorrectbecauseanauditprogram
shouldbedesignedsothattheauditevidence
gatheredissufficienttosupporttheauditors
conclusions.Answer(a)isincorrectbecause,
often,mostauditprocedureswillnotbe
performedasinterimwork.Answer(b)is
87. (d)Therequirementistoidentifytheelement
incorrectbecauseinherentriskneednotbe
oftheauditplanningprocessmostlikelytobe
assessedatalowlevel.Answer(c)isincorrect
agreeduponwiththeclientbefore
becausewhileprovidingconstructive
implementationoftheauditstrategy.Answer
suggestionstomanagementisdesirable,the
(d)iscorrectbecausetheauditorwillordinarily
auditprogramisnotbasedondevelopingcon
observethecountingofinventoryandthiswill
structivesuggestions.
requireadegreeofcoordinationbetweenthe
85. (d)Therequirementistodetermine
performanceofauditproceduresandclient
whatspecificauditobjectivesare
countprocedures.Answer(a)isincorrect
addressedwhendesigninganaudit
becausetheclientwillnotdeterminethe
program.Answer(d)iscorrect
evidencetobegatheredtoprovideasufficient
becauseinobtainingevidencein
basisfortheauditorsopinion.Answers(b)
supportoffinancialstatement
and(c)areincorrectbecausetheseprocedures
assertions,theauditordevelops
willbedeterminedsubsequentto
specificauditobjectivesinthelightof
implementationoftheauditstrategy.
thoseassertions.Answers(a),(b),
C. Obtain an Understanding of
and(c)areallincorrectbecausethese
the Entity and Its
repliesdonotrelatespecificallytothe
Environment
auditobjectivesasdothefinancial
statementassertions.
88.(b)Therequirementistodeterminethe
mannerinwhichanauditorplansanauditofa
B.7. TimingofAuditProcedures
continuingclient.Answer(b)iscorrect
86. (a)Therequirementistoidentifythe
becauseareviewofprioryearworkingpapers
statementthatisalwaystruewith
andthepermanentfilemayprovideuseful
respecttoplanninganaudit.Answer
informationaboutthenatureofthebusiness,
(a)iscorrectbecauseitisacceptable
organizationalstructure,operating
foranauditortoperformacertain
characteristics,andtransactionsthatmay
portionoftheauditataninterimdate;
requirespecialattention.Answer(a)is
forexample,performingaportionof
incorrectbecausetestsofdetailsoftransactions
planningpriortoyearendisalways
andbalancesoccursubsequent

56

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

toplanning.Answer(c)isincorrectbecause
whilereadingspecializedindustryjournalswill
helptheauditortoobtainabetter
understandingoftheclientsindustry,itis
likelytobelesshelpfulthanreviewingthe
workingpapers.Answer(d)isincorrect
becauseareevaluationoftheclientsinternal
controlenvironmentoccurssubsequenttothe
ordinalplanningoftheaudit.
89. (a)Therequirementistodeterminewho,ata
minimum,musthaveknowledgeofthe
relevantprofessionalaccountingandauditing
standardswhenanauditisbeingperformed.
Answer(a)iscorrectbecauseAU230requires
that,ataminimum,theauditorwithfinal
responsibilityhavesuchknowledge.Answers
(b),(c),and(d)areallincorrectbecausethey
suggestahigherminimumrequirement.
90. (d)Therequirementistodetermine
whyanauditorobtainsknowledge
aboutanewclientsbusinessandits
industry.Answer(d)iscorrect
becauseobtainingalevelof
knowledgeoftheclientsbusiness
andindustryenablestheCPAto
obtainanunderstandingoftheevents,
transactions,andpracticesthat,inthe
CPAsjudgment,mayhaveasig
nificanteffectonthefinancial
statements.Answer(a)isincorrect
becauseprovidingconstructive
suggestionsisasecondary,andnot
theprimary,reasonforobtaining
knowledgeaboutaclientsbusiness
andindustry.Answer(b)isincorrect
becausewhileaCPAmustdevelop
anattitudeofprofessionalskepticism
concerningaclient,thisattitudeisnot
obtainedbyobtainingknowledge
abouttheclientsbusinessand
industry.Answer(c)isincorrect
becauseinformationonthebusiness
andindustryofaclientwillprovide
onlylimitedinformationin
determiningwhetherfinancial
statementsaremateriallymisstated,
andnumerousotherfactorsare
consideredinevaluatingaudit
findings.
91. (c)Therequirementistoidentifythe
leastlikelyproceduretobe
performedinplanningafinancial
statementaudit.Answer(c)iscorrect
becauseselectingasampleof
vendorsinvoicesforcomparisonto
receivingreportswilloccurnormally
asapartoftheevidence
accumulationprocess,notasapart
oftheplanningofanaudit.Answer
(a)isincorrectbecausecoordination
oftheassistanceofentitypersonnel
indatapreparationoccursduring
planning.Answer(b)isincorrect

becausewhileplanningtheaudit,
CPAsmaydiscussmattersthataffect
theauditwithfirmpersonnel
responsibleforprovidingnonaudit
servicestotheentity.Answer(d)is
incorrectbecauseanyavailable
currentyearinterimfinancial
statementswillbereadduringthe
planningstage.

C.1.CommunicatewithPredecessor
Auditors(Subsequentto
EngagementAcceptance)

92. (a)Therequirementistoidentify
whetherapredecessorauditorshould
permitasuccessorauditortoreview
workingpaperanalysesrelatingto
contingencies,balancesheet
accounts,orboth.Answer(a)is
correctbecauseAU315statesthata
predecessorauditorshouldordi
narilypermitthesuccessortoreview
workingpapers,including
documentationofplanning,internal
control,auditresults,andother
mattersofcontinuingaccountingand
auditingsignificance,suchasthe
workingpaperanalysisofbalance
sheetaccountsandthoserelatingto
contingencies.
93. (d)Therequirementistodetermineasuccessor
auditorsresponsibilitywhenfinancialstatements
auditedbyapredecessorauditorarefoundto
requiresubstantialrevi

sions.Answer(d)iscorrectbecausewhena
successorauditorbecomesawareof
informationthatindicatesthatfinancial
statementsreportedonbythepredecessormay
requirerevision,thesuccessorshouldrequest
thattheclientarrangeameetingamongthe
threepartiestodiscussandattempttoresolve
thematter.Answer(a)isincorrectbecausethe
successorisnotrequiredtonotifytheaudit
committeeandstockholders.Answer(b)is
incorrectbecausetheclientshouldfirst
communicatewiththepredecessorbefore
revisingthefinancialstatements.Answer(c)is
incorrectbecauseameetingofthethreeparties
isarrangedbytheclientandbecausethe
situationmayormaynothaveanythingtodo
withtheintegrityofmanagement.
94.(c)Therequirementistodetermine
whetherasuccessorauditorshouldrequesta
newclienttoauthorizethepredecessorauditor
toallowareviewofthepredecessors
engagementletter,workingpapers,orboth.
An

swer(c)iscorrectbecauseAU315statesthat
itisadvisablethatasuccessorauditorrequest
tobeallowedtoreviewthepredecessors
workingpapers.
C.2.PerformAnalyticalProcedures
95. (b)Therequirementistoidentify
theauditprocedurethatanauditor
willmostlikelyperformin
planningafinancialstatement
audit.Answer(b)iscorrect
becauseAU329requiresthatan
auditorperformanalyticalproce
duressuchascomparingthe
financialstatementstoanticipated
resultsduringtheplanningstageof
anaudit.Answers(a),(c),and(d)
areallincorrectbecausethese
procedureswillalloccur
subsequenttoplanning.

96. (c)Therequirementistodeterminetheproper
focusofanalyticalproceduresusedinplanningan
audit.Answer(c)iscorrectbecauseanalytical
proceduresusedinplanningshouldfocuson(1)
enhancingtheauditorsunderstandingofthe
clientsbusinessandthetransactionsandevents
thathaveoccurredsincethelastauditdate,and(2)
identifyingareasthatmayrepresentspecificrisks
relevanttotheaudit.Answer(a)isincorrect
becausewhileanalyticalproceduresperformedas
substantivetestsmayaffectthescopeofother
substantivetestsandoftestsofcontrols,analytical
proceduresusedinplanninggenerallydonot.
Answer(b)isincorrectbecausethegeneralnature
ofanalyticalproceduresusedinplanningprovide
onlyverylimitedassurancethatpotential
misstatementswillbeidentified;analytical
proceduresusedassubstantivetestsprovidea
levelofassurancethatpotentialmisstatements
willbeidentified.Answer(d)isincorrectbecause
analyticalproceduresperformedatthereview
stageofauditsmoredirectlyrelatetoassessingthe
adequacyoftheavailableevidence.
97. (a)Therequirementistoidentifythe
objectiveofperforminganalytical
proceduresinplanninganaudit.An
swer(a)iscorrectbecauseAU329
statesthattheobjectiveofsuch
proceduresduringplanningistoidentify
suchthingsastheexistenceofunusual
transactionsandevents,amounts,ratios
andtrendsthatmightindicatematters
thathavefinancialstatementandaudit
planningramifications.An

swers(b),(c),and(d)areallincorrect
becausewhileanalyticalproceduresmay
leadtothediscoveryofillegalacts,related
partytransactions,andunauthorized
transactions,thisisnottheprimaryobjective.
98. (c) The requirement is to identify the
type of nonfinancial information an
auditorwouldmostlikelyconsiderin

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

57

101. (c)Therequirementistoidentifythenextstep
inassessingtherisksofmaterialmisstatement
performinganalyticalproceduresduringthe
afterauditorsidentifyrisks,relateriskstowhat
planningphaseofanaudit.Answer(c)is
couldgowrong,andconsiderthemagnitudeof
correctbecausethesquarefootageofselling
risks.Answer(c)iscorrectbecausethe
spacemaybeusedinconsideringtheoverall
professionalstandardssuggestthatauditors
reasonablenessofsales.Answer(a)isincorrect
shouldthenconsiderthelikelihoodthatrisks
becausewhiletheturnoverofpersonnelinthe
involvedcouldresultinmaterialmisstatements.
accountingdepartmentmayprovideameasure
Answer(a)isincorrectbecausetheassessment
ofriskrelatingtotheaccountingfunction,itis
isnotlimitedtoillegalacts.Answer(b)is
notordinarilyusedinperforminganalytical
incorrectbecausethecomplexityof
procedures.Similarly,answer(b)isincorrect
transactionsisnotnexttobeconsidered.
becausewhiletheobjectivityofaudit
Answer(d)isincorrectbecausedetermining
committeemembersisanimportantconsid
materialitylevelsoccurspriortothisstageof
eration,itisnotordinarilyusedinperforming
theaudit.
analyticalprocedures.Answer(d)isalso
incorrectbecausemanagementsplansto
102. (b)Therequirementistoidentify
repurchasestockisnotdirectlyrelatedto
whethersubstantivetestsofdetails
analyticalprocedures.SeeAU329for
and/orriskassessmentprocedures
informationonanalyticalprocedures.
areconsideredfurtheraudit
proceduresthatmaybedesigned
C.4.SupervisionRequirements
afterassessingtherisksofmaterial
misstatement.Furtheraudit
99. (b)Therequirementistoidentifythe
proceduresarecomposedof
informationthatismostlikelytobe
substantiveprocedures
communicatedbyasupervisortostaff
assistants.Answer(b)iscorrect
becausestaffassistantsmustbe
awareofhowtheirproceduresshould
beevaluatedinordertoperformthese
procedureseffectively.Answer(a)is
incorrectbecausesomeimmaterial
fraudmaybereportedtotheclients
auditcommittee.Answer(c)is
incorrectbecausetheemphasisinan
auditmustbeonperformingthe
auditeffectivelyandnotmerelyon
adheringtotimebudgets.Answer(d)
isincorrectbecausedecisions
regardingtransferringdocuments
fromthecurrentfiletothepermanent
filearegenerallyoflessimportance
thantheproceduresuggestedby
answer(b).
100. (b)Therequirementistodeterminewhythe
workofeachassistantshouldbereviewed.
Answer(b)iscorrectbecauseAU311suggests
thattheworkperformedbyeachassistant
shouldbereviewedtodeterminewhetheritwas
adequatelyperformedandtoevaluatewhether
theresultsareconsistentwiththeconclusionsto
bepresentedintheauditorsreport.Answer(a)
isincorrectbecauseCPAfirms,notindividual
auditorswithinthefirms,havesystemsof
qualitycontrol.Answer(c)isincorrectbecause
theprofessionalstandardsdonotingeneral
approvespecificauditprocedures.Answer(d)
isincorrectbecausewhiledeterminingthatthe
audithasbeenperformedbypersonshaving
adequatetechnicaltrainingandproficiencyas
auditorsisimportant,itshouldbeaddressed
priortothecommencementoffieldwork.
D. Assess the Risks of Material
Misstatement and Design
FurtherAuditProcedures

(testsofdetailsandanalyticalprocedures)and
testsofcontrols.Answer(b)iscorrect
becausewhilesubstantivetestsofdetailsare
furtherauditprocedures,riskassessmentpro
ceduresarenot.Answer(a)isincorrect
becauseriskassessmentproceduresarenot
furtherauditprocedures.Answer(c)is
incorrectbecausesubstantivetestsofdetails
arefurtherauditproceduresandbecauserisk
assessmentproceduresarenot.Answer(d)is
incorrectbecausesubstantivetestsofdetails
arefurtherauditprocedures.
103. (b)Therequirementistoidentifythe
procedurethatisleastlikelytobe
consideredariskassessment
procedure.Answer(b)iscorrect
becauseconfirmationisasubstantive
test,ratherthanariskassessment
procedure.Answers(a),(b),and(c)
areallriskassessmentprocedures,as
arecertaininquiriesofothersoutside
theentity.
104. (d)Answer(d)iscorrectbecause
significantrisksofteninvolve
accountingestimatesorcomplex
accountingthatinvolvessignificant
judgments.Answer(a)isincorrect
becauseroutine,highvolume
transactionstypicallyhavelower
risk.Answer(b)isincorrectbecause
significantrisksdorequirespecial
auditattention.Answer(c)is
incorrectbecausesignificantrisks
involveitemswithhighlevelsof
inherentrisk.
E. QualityControl
105.(b)Therequirementistodeterminethe
propermethodforhandlingadifferenceof
opinionbetweenauditorsconcerning
interpretationoftheresultsofanauditing
procedure.Answer(b)iscorrectbecausethe

qualitycontrolstandardsrequire
documentationoftheconsiderationsinvolved
intheresolutionofdifferencesofopinion.An
swer(a)isincorrectbecausetheAICPAdoes
not,ingeneral,ruleondisagreementsofthis
nature.Answer(c)isincorrectbecausethe
disagreementrelatestoanauditingprocedure
andthereforeinmostsuchcircumstancesthe
entitysmanagementoritsauditcommittee
willhavenoparticularexpertise.Answer(d)is
incorrectbecausethedisagreementneednot
necessarilybereportedtoapeerreview
monitoringteam.

E.4.ProspectiveFinancialStatements
106.(d)Therequirementistoidentifywhatis
includedintheexaminationofafinancial
forecast.Answer(d)iscorrectbecausean
examinationofaforecastincludesan
evaluationofitspreparationandthesupport
underlyingmanagementsassumptions.As
discussedinAT301,anexaminationalso
includesevaluatingtherepresentationofthe
prospectivefinancialstatementsforconformity
withAICPApresentationguidelinesandthe
issuanceofanexaminationreport.Answer(a)
isincorrectbecausetheserviceneednot
includethecompilingorassemblingofthe
financialforecast.Answer(b)isincorrect
becausedistributionoffinancialforecasts
neednotbelimited.Answer(c)isincorrect
becausetheCPAassumesnoresponsibilityto
updatemanagementonkeyevents.SeeAT
301forinformationonprospectivefinancial
information.
E.5.QualityControl
107.(a)Therequirementistodeterminethe
factorsthataffectthenatureandextentofaCPA
firmsqualitycontrolpoliciesandprocedures.
Answer(a)iscorrectbecausethenatureand
extentofafirmsqualitycontrolpoliciesand
proceduresdependonanumberoffactors,
includingitssize,

58

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS
professionalstandards.

thedegreeofoperatingautonomyallowedto
itspersonnelandpracticeoffices,thenature
of its practice, its organization, and
appropriatecostbenefitconsiderations.
108. (d)Therequirementistoidentifythe
mannersinwhichaCPAfirmmay
communicateitsqualitycontrol
policiesandprocedurestoits
personnel.Answer(d)iscorrect
becausetherequirementsrelatingto
qualitycontrolstandard
documentationstatethateitherorally
orwrittenareacceptable.Answers
(a),(b)and(c)allincludeoneor
moreinappropriatenoreplies.
109. (c)Therequirementistoidentifythe
replythatisnotoneoftheelements
ofqualitycontrol.Answer(c)
iscorrectbecausethereisnoquality
controlelementoninternalcontrol.
Acceptanceofclientrelationships
andspecificengagements(a),human
resources(b),andmonitoring(d)are
allelementsofqualitycontrol.In
addition,thefollowingalsoare
elementsofqualitycontrol:
leadershipresponsibilitiesfor
engagementperformance,quality
withinthefirm,andrelevantethical
requirements.
110. (d)Therequirementistodeterminethetypesof
servicestowhichStatementsonQuality
ControlStandardsapply.Answer(d)iscorrect
becausethestandardsexplicitlylimit
applicationtoauditingandaccountingand
reviewservices.Althoughthequalitycontrol
standardsmaybeappliedtoothersegmentsofa
firmspractice(e.g.,managementadvisory
servicesandtax),thestandardsdonotrequire
it.
111. (a)TherequirementistodeterminehowaCPA
firmobtainsreasonableassuranceofproviding
professionalservicesthatconformwith
professionalstandards.Answer(a)iscorrect
becauseasystemofqualitycontrolisdesigned
toprovideaCPAfirmwithreasonable
assuranceofmeetingitsresponsibilityto
provideprofessionalservicesthatconformwith
professionalstandards.Answer(b)isincorrect
becauseapeerreviewprovidesinformationon
whetheraCPAfirmisfollowinganappropriate
systemofqualitycontrol.Answer(c)is
incorrectbecauseitislesscompletethanan
swer(a)sincecontinuingprofessional
educationhelpsachievethespecificquality
controlelementofprofessionaldevelopment.
Answer(d)isincorrectbecausecomplyingwith
generallyacceptedreportingstandardsisonly
onepartofthebasicobjectiveofproviding
professionalservicesthatconformwith

E.6.PublicCompanyAccounting
OversightBoard
Requirements
112.(b)Therequirementistoidentifythe
correctstatementconcerningPCAOB
guidancethatusesthetermshould.Answer
(a)iscorrectbecausethetermshouldmeans
thattheauditormustcomplywiththe
requirementsunlessheorshecandemonstrate
thatalternativeactionsweresufficientto
achievetheobjectivesofthestandards.
Answer(a)isincorrectbecausetermssuchas
must,shall,andisrequiredtoareused
toindicatethattheauditormustfulfillthe
responsibilities.Answer(c)isincorrect
becausetermssuchasmay,might,and
couldareusedwhentheauditorshould
considerperformingtheauditprocedure.
Answer(d)isincorrectbecausenoparticular
termsareusedforthesituationinwhichthe
auditorhascompletediscretionwhetherto
performtheprocedure.

113.(c)Therequirementistodeterminetheset
ofstandardsthatthePCAOBdoesnothave
authoritytoestablish.Answer(c)iscorrect
becausetheFASBestablishesaccounting
standardsforbothpublicandnonpublic

companies.Answer(a)isincorrectbecausethe
PCAOBhasauthoritytoissueauditing
standards.Answer(b)isincorrectbecausethe
PCAOBhastheauthoritytoissuequality
controlstandards.Answer(d)isincorrect
becausethePCAOBhastheauthoritytoissue
independencestandards.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

59

SOLUTIONTOSIMULATIONS

TaskBasedSimulation1
AuditRisk
Application

Authoritative
Literature

Help

Factor
1. Branchmanagementauthority

IncreasedauditriskDecreasedauditrisk

2. Governmentregulation
3. Companyprofitability
4. Demandforproduct
5. Interestrates
6. Availabilityofmortgagefunds
7. Involvementofprincipalshareholderin
management
8. Branchmanagercompensation
9. Internalauditreportingrelationship
10. Accountingdepartmentturnover
11. Continuingauditrelationship
12. Internalcontrolsoveraccountingestimates
13. Responsetoproposedaccountingadjustments
14. Newunprofitablebranch
15. Newcomputersystem
TaskBasedSimulation2
RiskofMaterial
Misstatement

Authoritative
Literature

Help

Risk
1. Computerfraudrisk
2. Riskrelatedtomanagementoverrideofinternalcontrol
3. Fraudbybranchmanagement
4. Fraudbyaccountingpersonnel
5. Misstatementofaccountingestimates
6. Fraudbyloanprocessingclerks
7. Fraudbyinternalauditors
8. Theriskoffraudulentmisstatementofrevenues
TaskBasedSimulation3
Research
Topics

1.
2.

T
r
P
T
h

Authoritative
Literature

Help

Highriskitem

Fraudriskfactor

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

60

Transactions
4. Comparingaclientsunauditedresultsfortheyearwithlastyearsauditedresults.

(A)(B)(C)(D)(E)(F)(G)(H)(I)

5. Auditingandreportingguidanceonthepossibleneedtoreauditpreviousyear
resultsduetothedisbandingofthefirmthatperformedlastyearsaudit.
6. Requirementsrelatingtoidentifyingviolationsofoccupationalsafetyandhealth
regulations.
7. Auditreportconsiderationswhenauditofasubsidiaryoftheclientwillbe
performedbyWilliams&Co.,CPAs.
8. Theneedtobrainstormamongauditteammembersabouthowaccountscould
beintentionallymisstated.
9. Detailsonconsideringdesigneffectivenessofcontrols.
10. Theimportanceofconsideringthepossibilityofoverstatedrevenues(forexample,
throughprematurerevenuerecognition).
TaskBasedSimulation4
RiskAnalysis
Authoritative
Literature

Help

(A
)
(B
)
(C
)
(D
)
1.

Ofthefollowing,whichislikelytobeoneofDietWebsmajorrisksofdoingbusinesson
theInternetinthefuture?

2.

WhichofthefollowingislikelytobethemostsignificantbusinessriskforDietWeb?

3.

WhichofthefollowingismostaccurateconcerningDietWebsauditcommittee?

4.

Whichofthefollowingindicatesanincreasedriskofmisstatementduetofraud?

5.

WhichofthefollowingisthemostsignificantriskfacingDietWebthatmightcauseittonotbe
abletocontinueincreasingsales?

Explanationofsolutions
1.

(A)TherequirementistoidentifyDietWebsmajorlistedriskofdoingbusinessonthe
Internet.Answer(A)iscorrectbecauseDietWebmustcarefullymaintaintheprivacyof
theircustomersinformationbothduetolawandduetoDietWebsassuranceprovidedto
itscustomers.Answer(B)isincorrectbecausetherearenomajorFederalCommunications
CommissionInternetusefees.Answer(C)isincorrectbecausethecaseindicatesno
particularprobleminproviding24/7/365support.Answer(D)isincorrectbecausethe
InternetisabletoreachcustomersbeyondtheUnitedStates.

2.

(C)TherequirementistoidentifythemostsignificantbusinessrisklistedforDietWeb.
Answer(C)iscorrectbecausebarrierstoentranceontheInternetareordinarilynothigh.
Anotherorganizationmightdevelopsimilar(ormoreaccepted)software,and/orcharge
lowerpricesthanthosechargedbyDietWeb.Answer(A)isincorrectbecauseinternal
controllimitationsneednotnecessarilybeamajorproblem,andbecauseinternalcontrol
relatestocontrolriskmoredirectlythantothecompanysbusinessrisk.Answer(B)is
incorrectbecausewhileInternetinstabilitymaycausedifficulties,fewwouldconsideritas
significantaproblemasnewcompetitors.Answer(D)isincorrectbecausedetermining
appropriateyearendcutoffsisnotlikelytocreatemajordifficulties.

3.

4.

(C)TherequirementistoidentifythemostaccuratestatementconcerningDietWebsaudit
committee.Answer(C)iscorrectbecausetheauditcommitteehasnomemberswhoare
independentofmanagement.Answer(A)isincorrectbecausetheauditcommitteehasno
memberswhoareindependentofmanagement.Answer(A)isincorrectbecausethe
companyfoundersarenotindependent.Answer(B)isincorrectbecauseMr.Readings
chairmanshipoftheauditcommitteeislikelytoresultinaweak,notastrongaudit
committee.Answer(D)isincorrectbecausethesizeoftheboardofdirectorsvirtually
alwaysexceedsthatoftheauditcommitteeisnotequaltoorlessthaninsize.

(A)Therequirementistoidentifyafactorthatindicatesanincreasedriskofmisstatementduetofraud.
Answer(A)iscorrectbecausethesimulationprovidesnoexplanationofthenatureofthedisagreement
thatledtoMr.Williamsonsresignationfromanapparentlyverydesirablejob.Answer(B)isincorrect
becausemanysmallcompaniesaredominatedbycompanyfoundersandthosecompaniesdonot
generallymisstateearningsduetofraud.Answer(C)isincorrectbecausetheissuanceofdebtneednot
indicatefraud.Answer(D)isincorrectbecausecompetitionitselfneednotleadtoanincreasedriskof
misstatementduetofraud.
5.

(B)TherequirementistoidentifythemostsignificantriskfacingDietWebthatmight
causeitnottobeabletocontinueincreasingsales.Answer(B)iscorrectbecausethe
industryinformationmakesclearthatthemarketchangesrapidlyonly

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

companiesthatcanrespondinatimelybasisarelikelytobeabletomaintainandimprovesales.
Answers(A)and(C)areincorrectbecausethereisnoindicationthattheUnitedStateswillfacea
decreasingmarketfordietaryproductsorthatthepopulationisdecreasing.Answer(D)is
incorrectbecauseatthispointthereisnoindicationofobsolescenceoftheInternet.
T
F
iA
n

L
i

1.

2.

4.

W
h
W
h
W

5.

3.

61

5.

1.

(C)Therequirementistoidentifyalikelymisstatementinthefinancialstatements.Answer
(C)iscorrectbecausecommonstockissuedshouldbetreatedunderfinancingratherthan
operations.Answer(A)isincorrectbecauseanincreaseincashmaywelloccureven
duringayearinwhichthecompanyencountersaloss.Answer(B)isincorrectbecausethere
isnoindicationthattheimpairmentexpenseisinappropriate.Answer(D)isincorrect
becausepreviousyearspatternofincomeandlossesmaycreateasituationinwhichanet
incometaxbenefitoccurs.

2.

(A)Therequirementistoidentify,ofthebalancesheetchangeslisted,themostunexpected
one.Answer(A)isunexpectedinthatprepaidadvertisingexpensesdecreasedbymorethan
ninetypercentatatimewhenthecompanyincreaseditssalesandmarketingexpensesso
significantly.Answer(B)isincorrectbecausetherelativelysmallincreaseinaccounts
payablemaybeexpectedgiventheincreaseinrevenues.Answer(C)isincorrectbecauseone
wouldexpectsuchanincreaseindeferredrevenuesasrevenuesincrease.Answer(D)is
incorrectsincethecompanysimplyissuedmorestockasindicatedinthecompanyprofile.

3.

(A)Therequirementistoidentifythefactorthatmightleadtheauditorstoquestion
whetherDietWebhastheabilitytocontinueasagoingconcern.Answer(A)iscorrect
becausethecurrentnetlossmayraiseaquestionastofutureprofitability.Answer(B)is
incorrectbecausetherewasanincreaseincash,notadecrease.Answer(C)isincorrect
becausefixedassetsdecreasedratherthanincreasedduring20X8.Answer(D)isincorrect
becauseMr.ReadingsservingasCEOindicatesnoparticularproblem.

4.

(B)Therequirementistoidentifyanincorrectclassificationinthefinancialstatements.
Answer(B)iscorrectbecauseaccruedliabilitiesareingeneralcurrent,notnoncurrent,
liabilities.Answer(A)isincorrectbecauseprepaidexpensesareordinarilyassets.Answer
(C)isincorrectbecauseonewouldexpectthedeferredtaxliabilitytohaveapositive
balance.AnswerDisincorrectbecausetheretainedearningsnegativebalancemaybe
explainedbyearlyyearlosses.

(A)Therequirementistoidentifythemostunexpectedchange.Answer(A)ismostunexpectedbecause
theexpandedscaleofoperationswouldleadonetoexpectanincreaseinfixedassets,notadecrease.
Answer(B)isincorrectbecausesmallchangesinprepaidexpenseandothercurrentassetsareexpected.
Answer(C)isincorrectbecauseitisnotsurprisingthatcashmayincreasewhenthereisanetloss
particularlyinayearwhencommonstockhasbeenissued.Answer(C)isincorrectbecauseanincrease
inaccruedliabilitiesisconsistentwithanincreaseinthescaleofoperationsasindicatedbyalarge
increaseinsales.
TaskBasedSimulation6
RiskofMaterial

MisstatementAnalysis

Authoritative
Literature

Help

AU110,312,and316allrequirethatauditorsconsiderfactorsinfluencingtheriskofmaterial
misstatementandthattheriskofmaterialmisstatementbeconsideredduringtheplanningphaseof
anauditengagement.
1.

(D)SinceTWDreturnedtoprofitableoperation,itshealthierfinancialconditionleadstoadecreasein
theriskofmaterialmisstatement.
2.

(I)Theriskofmaterialmisstatementincreaseswhenmanagementisdominatedbyasingle
person.SinceMeadcontrolstheBoardofDirectors,isamajoritystockholder,andisthe
CEO,itwouldappearthatMeaddominatesmanagement.

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

62
3.

(I)Theriskofmaterialmisstatementincreaseswhentheinternalauditorreportstotopmanagementratherthantothe
auditcommitteebecauseitislesslikelythattheinternalauditorwillbeabletoobjectivelyperformthefunction.

4.

(I)Theriskofmaterialmisstatementincreaseswhenthekeymanagementpositions(particularlysenioraccounting
personnel)encounterturnover.

5.

(D)TheloanofficerscontinualmonitoringofTWDdecreasestheriskofmaterialmisstatement.

6.

(N)Timingofpayrollcycleswouldnormallyhavenoimpactontheriskofmaterialmisstatement.
7.

8.

(I)Astrongfinancialpresenceorabilitytodominateacertainindustrysectorthatallowsacompanytodictate
termsorconditionstosuppliersorcustomersmayresultininappropriateornonarmslengthtransactions.

(I)Achangetogenerallyacceptedaccountingprincipleswillincreasetheriskofmaterialmisstatementbecausethechangein
basisrequiresmanagementtoprepareanumberofentriesthathavenotbeenmadeinthepast;theseentriesmaybemade
improperly.Also,difficultiesindeterminingbeginningaccrualbasisbalancesincreasestheriskofmisstatement.
9.

(I)ThesaleofonehalfofthecompanyscontrollinginterestinUnitedEquipmentLeasingisanentrythatisout
oftheordinarycourseofbusiness,andaccordingly,increasestheriskofmaterialmisstatement.

10. (D)Litigationresultsincontentiousanddifficultaccountingvaluationissuesbecauseanaccountantmustattempt
todeterminethelikelihoodoflossandtheamount.
11. (I)Theriskofmaterialmisstatementincreaseswhensignificantrelatedpartytransactionsoccurandmanagement
hasanaggressiveattitudetowardsreportingofthetransactions.
12. (I)Theriskofmaterialmisstatementincreasesinsituationswherethereareunusualanddifficultaccountingissuespresent.It
wouldappearthatthebartertransactionwithabelowmarketpurchasewouldbeconsideredanunusualtransaction.
13. (N)Theamountofinsurancecoveragewouldhavelittleimpactontheriskofmaterialmisstatement.
14. (I)Theriskofmaterialmisstatementincreasesasitappearsthatmanagementhastakenanaggressiveattitude
towardreportingthistransaction.Inaddition,thisappearstobeanunusualanddifficultaccountingissueinvolving
revenuerecognition.
15. (I)Experiencehasshownthatanumberofentitieshaveintentionallymisstatedreportedfinancialconditionand
operatingresultsinsituationsinwhichapublic(orprivate)placementofsecuritiesisplanned.Accordingly,aninitial
publicofferingofstockincreasestheriskofmaterialmisstatement.
TaskBasedSimulation7
I
R
d
i

L
i

1.

W
h
2. W
h
3. W
h
E

1.

(C)TherequirementistoidentifythefactorthatismostlikelytoincreaseToastcosinherentrisk.Answer(C)iscorrectbecause
Toastcoreliessignificantlyuponthetoaster,andsinceobsolescenceofthatproductcouldcauseverymajordifficultiesforthe
company.Answer(A)isincorrectbecausethemanufacturingcontinuestobeinAsiaandthereisnoindicationofarelated
problem.Answer(B)isincorrectbecausethegrowthof3%,whilehigh,doesnotincreaseinherentrisk.Answer(D)isincorrect
becauseoverstatedaccountsreceivableduetointernalcontroldeficienciesrelatestocontrolrisk,notinherentrisk.
2.

(B)TherequirementistodeterminetheaspectofToastcothatismostlikelytoincreasetheriskofmisstatement
arisingfromfraudulentfinancialreporting.Answer(B)iscorrectbecausethepresident,BillWilliams,feltpressureto
meettheearningspersharenumberhehadpromisedthebankduetoweaksecondandthirdquarters.Thereforethe
highearningsinthefourthquarterrepresentarisk.Answer(A)isincorrectbecausethestabilityoftheindustry
presentsnoparticularrisk.Answer(C)isincorrectbecauseToastcosmarketsharebyitselfdoesnotseemtoposea
riskofmisstatement.Answer(D)isincorrectbecausewhileToastcowouldcertainlybeinasaferpositionwithmore
profitableproducts,thisisnotassignificantafraudriskasisthepressuretoachievetheearningspersharetarget.

3.

(B)Therequirementistodetermineanaspectofacompanythatismostlikelytoincreasetheriskofmisstatement
arising from fraudulent financial reporting. Answer (B) is correct because the presidents investmentin Toastco
createsasituationin

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

whichlossesinvalueofthecompanywillprofoundlyaffecthimparticularlygivenhisdesiretotakethecompanypublic.
Answer(A)isincorrectbecausesellingmorethanonetypeofproductmayormaynotaffecttheriskofmisstatement.An
swer(C)isincorrectbecauseitisdesirabletohavetheauditcommitteecomposedentirelyofindependentdirectors.Answer
(D)isincorrectbecausethefactthatthisisacontinuingengagementhasnodirecttietotheriskofmisstatement.
RatioAnalysis
(A)(B)(C)(D)(E)(F)(G)
1. Anauditfindingmostconsistentwiththechangeinthegrossmarginpercentage
2. Anauditfindingmostconsistentwiththechangeinthecurrentratio
Explanationofsolutions
1.

(A)Therequirementistoidentifyanauditfindingmostconsistentwithadecreaseinthegrossmarginpercentage
grossmargin/sales.Answer(A)iscorrectbecausetheinabilitytopassonincreasesincostswilldecreasethegross
marginbecausecostofgoodssoldasapercentageofsaleswillincrease.

2.

(G)Therequirementistoidentifyanauditfindingthatisconsistentwithadecreaseinthecurrentratiocurrent
assets/currentliabilities.Answer(G)iscorrectbecausethelongtermdebtbecomingcurrentincreasesthe
denominatorofthecurrentratio,whichdecreasestheratio.
(H) (I) (J) (K) (L)(M)

3. AnauditfindingconsistentwiththechangeininventoryturnoverforToastco
4. Anauditfindingconsistentwiththechangeinthereturnonequity
Explanationofsolutions
3.

(K)Therequirementistoidentifythefindingthatisconsistentwithanincreaseintheinventoryturnoverratio
costofgoodssold/inventory.Answer(D)iscorrectbecausealargerpercentageofsalesinthelastmonthislikelyto
resultinalowerendinginventory,thusincreasingtheinventoryturnoverratiosincethedenominatorofthefraction
becomessmaller.

4.

(J)Therequirementistoidentifythereplythatisconsistentwithadecreaseinthereturnonequityrationet
income/shareholdersequity.Answer(C)iscorrectbecauseretentionofprofitsincreasestheshareholdersequity,
therebydecreasingtheratio.

TaskBasedSimulation8
ObservedRatio
Changes

1.
2.

A
u
I
n
A
c

3.

A
l

4.

L
o

Authoritative
Literature

Help

63

6.Grossmarginpercentagewasunchangedfromthe
prioryearalthoughgrossmarginincreasedfrom
theprioryear.(Selectoneexplanation)
Explanationofsolutions
1.(A,B,D)Therequirementistoidentifythreeexplanationsforanincreaseintheinventoryturnoverwhencomparedto
theprioryear.Theinventoryturnoveriscalculatedbydividingthecostofgoodssoldbytheinventory.Anincreasemayoccur

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

64

eitherthrough(1)anoverstatementofthecostofgoodssold(thenumerator),(2)anunderstatementofinventory(thedenomi
nator),or(3)acombinationofchanges.Answer(A)iscorrectbecausetherecordingoftheconsignmentshipmentasasalewill
overstatecostofgoodssoldandunderstatetheendinginventory.Answer(B)iscorrectbecausenotrecordingthecreditmemos
willresultinunderstatementofinventory.Answer(D)iscorrectbecausetheunderstatementofpurchasesofinventorywill
understatetheendinginventory.
Answer(C)isincorrectbecauseoverstatingtheyearendpurchaseswillresultinoverstatementofinventory,andthereby
decreasetheinventoryturnover.Answers(E)through(J)areallincorrectbecausesuchchangesinsaleswillnotaffectthein
ventoryturnoverratio.Answers(K)through(P)areallincorrectbecausetheinterestexpense,incometaxrate,andtheshort
termborrowingdonotaffecttheinventoryturnover.Notethatthisquestionreliesuponanunstatedassumptionthattheyear
endinventoryisnotadjustedtoayearendphysicalcount.
2.

(A,B,E)Therequirementistoidentifythreeexplanationsforadecreaseintheaccountsreceivableturnoverwhencom
paredtotheprioryear.Theaccountsreceivableturnoveriscalculatedbydividingsalesbyaccountsreceivable.Adecrease
mayoccurthrough(1)anunderstatementofsales(thenumerator),(2)anoverstatementofaccountsreceivable(the
denominator),or(3)acombinationofmisstatementsofsalesandaccountsreceivablethatdecreasetheratio.Answer(A)
iscorrectbecauserecordingtheconsignmentassalesoverstatesbothsalesandaccountsreceivablebyanidenticalamount,
thusdecreasingtheratio;thedecreaseisduetotheentrydebitingaccountsreceivableandcreditingsalesforthesame
amount.Answer(B)iscorrectbecausenotrecordingthecreditmemooverstatesbothsalesandaccountsreceivablebyan
identicalamount,thusdecreasingtheratio;thisidenticalamountofdecreaseisduetothelackofadebittosalesreturns
andallowancesandacredittoaccountsreceivable.Notethatanswers(A)and(B)arecorrectinanysituationinwhichthe
ratioisgreaterthan1.0;whentheratioislessthan1.0theyresultinanincreaseintheratio.Answer(E)iscorrectbecause
whilethesalesfortheyearremainattheexpectedlevel,accountsreceivableatyearendwillbeatahigherthanaverage
levelduetotheyearendsales.

Answers(C)and(D)areincorrectbecausethelevelofinventorydoesnotaffecttheratio.Answers(F)and(G)areincor
rectbecausealarger,notasmallerorthesame,percentageofsalesnearyearenddecreasestheratio.Answers(H),(I)and(J)
areincorrectbecauseonewouldexpectaccountsreceivabletoincreaseatthesamerateastheincreaseinsales.Answers(K)
through(P)areallincorrectbecauseinterestexpense,incometaxrate,andtheshorttermborrowingdonotaffecttheaccounts
receivableturnover.
3.

(A,B,E)Therequirementistoidentifythreeexplanationsforanincreaseintheallowancefordoubtfulaccounts,but
adecreaseintheallowancefordoubtfulaccountsasapercentageofaccountsreceivable.Theallowancefordoubtful
accountsasapercentageofaccountsreceivableiscalculatedbydividingtheallowancefordoubtfulaccountsby
accountsreceivable.Thepercentagemaydecreasedueto(1)adecreaseintheallowancefordoubtfulaccounts,(2)an
increaseintheaccountsreceivable,or(3)acombinationofmisstatementsthatdecreasetheratio;here,however,we
aretoldthatreason(1),adecreaseintheallowance,hasnotoccurred.Answer(A)iscorrectbecauserecordingthe
consignmentasasaleresultsinanincreaseinaccountsreceivablewhichdecreasestheratio.Answer(B)iscorrect
becausenotrecordingthecreditmemosoverstatesaccountsreceivable,therebydecreasingtheratio.Answer(E)is
correctbecausethelargerpercentageofsalesoccurringduringthelastmonthoftheyearresultsinaccountsreceivable
atyearendthatwillbeatahigherthanaveragelevelduetotheyearendsales.

Answers(C)and(D)areincorrectbecausethelevelofinventorydoesnotaffecttheratio.Answers(F)and(G)areincor
rectbecausealarger,notasmallerorthesame,percentageofsalesnearyearenddecreasestheratio.Answers(H),(I),and(J)
areincorrectbecauseonewouldexpectaccountsreceivableandtheallowancefordoubtfulaccountstoincreaseatapproxi
matelythesamerateastheincreaseinsales.Answers(K)through(P)areallincorrectbecauseinterestexpense,incometax
rate,andtheshorttermborrowingdonotaffecttheaccountsreceivableturnover.
4. (P)Therequirementistoidentifyareasonwhylongtermdebtincreased,butinterestexpenseincreasedalarger
thanproportionateamountthanlongtermdebt.Answer(P)iscorrectbecausethehigherinterestratesonlongterm
debtwillresultinhigherinterestexpense.Answers(A)through(M)areallincorrectbecausetheyrelateneitherto
longtermdebtnorinterestexpense.Answers(N)and(O)areincorrectbecauserefinancingatthesameoralower
interestratewillresultinsmallerthanproportionateamountsofinterestexpense.
5.

(L,P)Therequirementistoidentifytworeasonswhyoperatingincomemightincrease,yetthecompanywouldbe
lessprofitable.Sinceoperatingincomeincreasedandnetincomedecreased,theexplanationmustbeitemsthatare
listedontheincomestatementbetweenoperatingincomeandnetincomeinterestexpenseandfederalincometaxes.
Thenetofthesetwoexpensesmusthaveincreasedtoresultinasituationinwhichtheentitywaslessprofitable.
Answer(L)iscorrectbecauseanincreaseintheeffectiveincometaxratecoulddecreasetheprofitwhencomparedto
theprioryear.Answer(P)iscorrectbecausehigherinterestratesdecreaseprofits.Answers(A)through(J)areall
incorrectbecausetheypertaintodetailsofoperatingincome.Answers(K)and(M)areincorrectbecauseadecrease
ininterestexpenseortheincometaxratewouldincreasenetincome.Answer(N)isincorrectbecauserefinancingat
thesameratewillnotaffectnetincome.Answer(O)isincorrectbecauserefinancingatalowerinterestratewill
increaseprofits.

6.

(H)Therequirementistoidentifyonereasonwhythegrossmarginpercentagemayremainunchanged,despitean
increase in gross margin from the prior year. Answer (H) is correct because when sales increase at the same
percentageascostofgoodssold,thegrossmarginpercentageremainsunchanged,andyettheincreasedsaleswill

resultinanincreaseinthegrossmargin.
Answers(A)through(D)areallincorrectbecausetheywillresultinachangeinthegrossmarginpercentage.Answers(E),(F),
and(G)areallincorrectbecausenoincreaseinsalesisindicatedandnoinformationonthegrossmarginisprovided.Answers
(I)and(J)areincorrectbecausetheysuggestadecreaseandanincreaseinthegrossmargin,respectively.Answers(K)through
(P)areallincorrectbecauseinterestexpense,incometaxrate,anddebtdonotaffectgrossmargin.

MODULE2 ENGAGEMENTPLANNINGANDASSESSINGRISKS

65

TaskBasedSimulation9
Assertionsand
AuditProcedures

Authoritative
Literature

Assertion
1. Completeness

Help

(A)(B)(C)(D)(E)(F)

2. Cutoff
3. Existenceandoccurrence
4. Presentationanddisclosure
5. Rightsandobligations
6. Valuation
Auditprocedures
1. Prepareaflowchartofinternalcontroloversales

(A) (B) (C) (D)

2. Calculatetheratioofbaddebtexpensetocreditsales.
3. Determinewhetherdisbursementsareproperlyapproved.
4. Confirmaccountsreceivable.
5. Comparecurrentfinancialinformationwithcomparablepriorperiods.
TaskBasedSimulation10
AuditRiskand
ItsComponentsAuthoritative

Literature

Help

1.

(No)Theriskofmaterialmisstatementiscomposedofinherentriskanddetectionrisk.

2.

(Yes)

3.

(No)Adecreaseincontrolrisk,absentotherchanges,resultsinadecreaseintheriskofmaterialmisstatement.

4.

(Yes)Detectionriskisafunctionoftheauditanditsprocedures.Ifthereisnoauditthereisnomeasureofdetectionrisk.
5.

(No)Thisisbackwards.Auditorsrestrictdetectionriskthroughtheperformanceofmoresubstantiveprocedures.
Auditorsassessinherentriskandcontrolrisk.

6.

(Yes)

7.

(No)Theerroristheorimmaterially.Auditriskdealswithmaterialmisstatements.

8.

(Yes)
2.

TaskBasedSimulation11
Research:
Supervision

Authoritative

Literature

1.

Help

WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbehelpfulin
respondingtotheCEO?

Enter the exact section and


paragraph with helpful
information

(A)(B)(C)(D)(E)(F)(G)(H)

210

03

MODULE2ENGAGEMENTPLANNINGANDASSESSINGRISKS

66

TaskBasedSimulation12
Research:Tone
attheTop

Authoritative
Literature

Help

1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbehelpful
inrespondingtothepartner?
2. Entertheexactsectionandparagraphswithhelpfulinformation.
TaskBasedSimulation13
EffectsonAudit
RiskComponents

S
i
1.

D
u

2.

I
n
E
a

3.

Authoritative

Literature

Help

(A)(B)(C)(D)(E)(F)(G)(H)

10

1518

TaskBasedSimulation14

(A)(B)(C)(D)(E)(F)(G)(H)

Research
Authoritative
Literature

Help

1.

WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbehelpfulin
respondingtothepartner?

2.

Entertheexactsectionandparagraphswithhelpfulinformation.

10

12

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
UNDERSTANDINGINTERNALCONTROL
ANDASSESSINGCONTROLRISK
MULTIPLECHOICEQUESTIONS(1166)

1.

a.
b.
c.
d.
2.

Whenconsideringinternalcontrol,anauditor
shouldbeawareoftheconceptofreasonable
assurance,whichrecognizesthat
a. Internalcontrolmaybeineffectivedue
to mistakes in judgment and personal
carelessness.
b. Adequatesafeguardsoveraccessto
assetsandrecordsshouldpermitan
entitytomaintainproperaccountability.
c. Establishing and maintaining internal
controlisanimportantresponsibilityof
management.
d. Thecostofanentitysinternalcontrol
shouldnotexceedthebenefitsexpected
tobederived.

3.

Propersegregationoffunctionalresponsibilities
callsforseparationofthefunctionsof
Authorization,execution,andpayment.
Authorization,recording,andcustody.
Custody,execution,andreporting.
Authorization,payment,andrecording.

a.
b.
c.
d.
4.

Anentitysongoingmonitoringactivitiesofteninclude
a. Periodicauditsbytheauditcommittee.
b. Reviewingthepurchasingfunction.
c. Theauditoftheannualfinancialstatements.
d. Controlriskassessmentinconjunction
withquarterlyreviews.
5.
a.
b.
c.
d.

6.

Whichofthefollowingmostlikelywouldnotbe
considered an inherent limitation of the
potential effectiveness of an entitys internal
control?
Incompatibleduties.
Managementoverride.
Mistakesinjudgment.
Collusionamongemployees.

Theoverallattitudeandawarenessofanentitys
boardofdirectorsconcerningtheimportanceof
internalcontrolusuallyisreflectedinits
Computerbasedcontrols.
Systemofsegregationofduties.
Controlenvironment.
Safeguardsoveraccesstoassets.

Managementphilosophyandoperatingstylemostlikely
wouldhaveasignificantinfluenceonanentityscontrol
environmentwhen
a. The internal auditor reports directly
tomanagement.
b. Managementisdominatedbyoneindividual.
c. Accuratemanagementjobdescriptions
delineatespecificduties.
d. Theauditcommitteeactivelyoverseesthefinancial
reportingprocess.
7.

Whichofthefollowingfactorsareincludedin
anentityscontrolenvironment?

a.
b.
c.
d.

Audit
committee
Yes
Yes
No
Yes

Integrityand
ethicalvalues
Yes
No
Yes
Yes

67

Organizational
No
Yes
Yes
Yes

8.
a.
b.
c.
d.
9.

Whichofthefollowingis not acomponentof


anentitysinternalcontrol?
Controlrisk.
Controlactivities.
Monitoring.
Controlenvironment.
Whichofthefollowingisaprovisionofthe
ForeignCorruptPracticesAct?
a. Itisacriminaloffenseforanauditorto
failtodetectandreportabribepaidby
an American business entity to a
foreign official for the purpose of
obtainingbusiness.
b. Theauditorsdetectionofillegalacts
committedbyofficialsoftheauditors
publiclyheldclientinconjunctionwith
foreignofficialsshouldbereportedto
theEnforcementDivisionoftheSecuri
tiesandExchangeCommission.
c. Iftheauditorofapubliclyheld
companyconcludesthattheeffectson
thefinancialstatementsofabribegiven
toaforeignofficialarenotsusceptible
ofreasonableestimation,theauditors
reportshouldbemodified.
d. Everypubliclyheldcompanymust
devise,document,andmaintaininternal
controlsufficienttoprovidereasonable
assurancesthatinternalcontrol
objectivesaremet.

10. Anauditorsuspectsthatcertainclientemployeesare
orderingmerchandiseforthemselvesovertheInternetwith

outrecordingthepurchaseorreceiptofthemerchandise.
Whenvendorsinvoicesarrive,oneoftheemployeesap
provestheinvoicesforpayment.Aftertheinvoicesarepaid,
theemployeedestroystheinvoicesandtherelatedvouchers.
Ingatheringevidenceregardingthefraud,theauditormost
likelywouldselectitemsfortestingfromthefileofall
a. Cashdisbursements.
b. Approvedvouchers.
c. Receivingreports.
d. Vendorsinvoices.
11. Whichofthefollowingproceduresmostlikely
wouldprovideanauditorwithevidenceabout
whetheranentitysinternalcontrolactivitiesare
suitablydesignedtopreventordetectmaterial
misstatements?
a. Reperforming the activities for a sample of
transactions.
b. Performing analytical procedures using
dataaggregatedatahighlevel.
c. Vouching a sample of transactions
directlyrelatedtotheactivities.
d. Observing the entitys personnel
applyingtheactivities.
12. Which statement is correct concerning the
relevance of various types of controls to a
financialaudit?
a. An auditor may ordinarily ignore a
consideration of controls when a
substantiveauditapproachistaken.
b. Controlsoverthereliabilityoffinancialreporting
areordinarilymostdirectlyrelevanttoanaudit,
butothercontrolsmayalsoberelevant.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

68

c.

d.

Controlsoversafeguardingof
assetsandliabilitiesareofprimary
importance,whilecontrolsover
thereliabilityoffinancialreporting
mayalsoberelevant.
All controls are ordinarily relevant to an
audit.

13. Inanauditoffinancialstatementsin
accordancewithgenerallyacceptedauditing
standards,anauditorisrequiredto
a. Document the auditors
understanding of the entitys
internalcontrol.
b. Searchforsignificantdeficiencies
intheoperationofinternalcontrol.
c. Perform tests of controls to
evaluate theeffectivenessof the
entitysinternalcontrol.
d. Determine whether controls are
suitably designed to prevent or
detectmaterialmisstatements.
14. Inobtaininganunderstandingofan
entitysinternalcontrolrelevanttoaudit
planning,anauditorisrequiredtoobtain
knowledgeaboutthe
a. Designofthecontrolspertainingtointernal
controlcomponents.
b. Effectiveness of controls that
havebeenimplemented.
c. Consistency with which controls
arecurrentlybeingapplied.
d. Controls related to each principal
transaction class and account
balance.
15. An auditor should obtain sufficient
knowledge of an entitys information
systemtounderstandthe
a. Safeguardsusedtolimitaccessto
computerfacilities.
b. Processusedtopreparesignificant
accountingestimates.
c. Controlsusedtoassureproper
authorizationoftransactions.
d. Controls used to detect the concealment of
fraud.
16. Whenobtaininganunderstandingofan
entitysinternalcontrol,anauditorshould
concentrateonthesubstanceofcontrols
ratherthantheirformbecause
a. The controls may be operating
effectively but may not be
documented.
b. Management may establish
appropriate controls but not
enforcecompliancewiththem.
c. The controls may be so
inappropriate that no relianceis
contemplatedbytheauditor.
d. Management may implement
controlswhosecostsexceedtheir
benefits.

17. Decision tables differ from program


flowcharts in that decision tables
emphasize
a. Easeofmanageabilityforcomplexprograms.
b. Logical relationships among
conditionsandactions.
c. Costbenefitfactorsjustifyingtheprogram.
d. The sequence in which operations are
performed.
18. Duringtheconsiderationofinternalcontrol
inafinancialstatementaudit,anauditoris
notobligatedto
a. Searchforsignificantdeficiencies
in the operation of the internal
control.
b. Understand the internal control and the
informationsystem.

c.

Determine whether the control activities


relevant to audit planning have been
implemented.
d. Perform procedures to understand
thedesignofinternalcontrol.

19. A primary objective of procedures


performed to obtain an understanding of
internalcontrolistoprovideanauditorwith
a. Knowledge necessary to
assesstherisksofmaterial
misstatements.
b. Evidencetouseinassessinginherentrisk.
c. Abasisformodifyingtestsofcontrols.
d. An evaluation of the consistency
of application of managements
policies.

22. Which of the following may not be


required on a particular audit of a
nonissuer(nonpublic)company?

a.
b.
c.
d.

Riskassessmentprocedures.
Testsofcontrols.
Substantiveprocedures.
Analyticalprocedures.

23. Controlriskshouldbeassessedintermsof
a. Specificcontrols.
b. Typesofpotentialfraud.
c. Financialstatementassertions.
d. Controlenvironmentfactors.

24. Afterassessingcontrolrisk,anauditordesirestoseek
afurtherreductionintheassessedlevelofcontrolrisk.
Atthistime,theauditorwouldconsiderwhether
a. Itwouldbeefficienttoobtainan
understanding of the entitys
20. Which of the following statements
informationsystem.
regarding auditor documentation of the
b. Theentityscontrolshavebeenimplemented.
clientsinternalcontroliscorrect?
c. Theentityscontrolspertaintoany
a. Documentationmustincludeflowcharts.
financialstatementassertions.
b. Documentation must include procedural
d. Additional audit evidence
writeups.
sufficient to support a further
c. No documentation is necessary
reduction is likely to be
althoughitisdesirable.
available.
d.

No one particular form of


documentationisnecessary,andthe
extentofdocumentationmayvary.

21. Inobtaininganunderstandingofanentitys
internalcontrol,anauditorisrequiredtoobtain
knowledgeaboutthe

a.
b.
c.
d.

Operatingeffectiveness
ofcontrols
Yes
No
Yes
No

Design
ofcontrols
Yes
Yes
No
No

25. Assessingcontrolriskatalowlevelmost
likelywouldinvolve
a. Performing more extensive
substantive tests with larger
sample sizes than originally
planned.
b.

Reducinginherentriskformostof
the assertions relevant to
significantaccountbalances.

c.

Changingthetimingofsubstantive
testsbyomittinginterimdate
testingandperformingthetestsat
yearend.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
a.

Identifying specific controls relevant to


specificassertions.

26. Anauditorassessescontrolriskbecauseit
a. Is relevant to the auditors
understanding of the control
environment.
b. Provides assurance that the
auditors materiality levels are
appropriate.
c. Indicates to the auditor where
inherentriskmaybethegreatest.
d. Affectsthelevelofdetectionrisk
thattheauditormayaccept.
27. Whenanauditorincreasestheassessedlevel
of control risk because certain control
activitiesweredeterminedtobeineffective,
theauditorwouldmostlikelyincreasethe
a. Extentoftestsofcontrols.
b. Levelofdetectionrisk.
c. Extentoftestsofdetails.
d. Levelofinherentrisk.
28. Anauditorusestheknowledgeprovidedby
theunderstandingofinternalcontroland
theassessedleveloftheriskofmaterial
misstatementprimarilyto
a. Determine whether procedures
and records concerning the
safeguarding of assets are
reliable.
b. Ascertainwhetherthe
opportunitiestoallowanyperson
tobothperpetrateandconceal
fraudareminimized.
c. Modify the initial assessments of
inherent risk and preliminary
judgmentsaboutmaterialitylevels.
d. Determine the nature, timing,
and extent of substantive tests
for financial statement
assertions.
29. Anauditormaycompensateforaweakness
ininternalcontrolbyincreasingthe
a. Levelofdetectionrisk.
b. Extentoftestsofcontrols.
c. Preliminaryjudgmentaboutauditrisk.
d. Extentofanalyticalprocedures.
30. Which of the following statements is correct
concerninganauditorsassessmentofcontrolrisk?
a. Assessingcontrolriskmaybe
performedconcurrentlyduring
anauditwithobtaininganunder
standingoftheentitysinternal
control.
b. Evidence about the operation of
internalcontrolinpriorauditsmay
notbeconsideredduringthecur
rent years assessment of control
risk.
c. Thebasisforanauditorsconclusionsabout
theassessedlevelofcontrolriskneednotbe

69

documentedunlesscontrolriskisassessed
atthemaximumlevel.
d. Thelowertheassessedlevelof
controlrisk,thelessassurance
theevidencemustprovidethat
thecontrolproceduresare
operatingeffectively.

31. Regardless of the assessed level of control risk, an


auditorwouldperformsome
a. Testsofcontrolstodeterminethe
effectiveness of internal control
policies.
b. Analyticalprocedurestoverifythe
designofinternalcontrol.
c. Substantive tests to restrict
detection risk for significant
transactionclasses.

d.

Dualpurposeteststoevaluate
boththeriskofmonetary
misstatementandpreliminary
controlrisk.

32. Howfrequentlymustanauditortestoperating
effectivenessofcontrolsthatappeartofunctionas
theyhaveinpastyearsandonwhichtheauditor
wishestorelyinthecurrentyear?
a. Monthly.
b. Eachaudit.
c. Atleasteverysecondaudit.
d. Atleasteverythirdaudit.
33. Beforeassessingcontrolriskatalevellower
thanthemaximum,theauditorobtains
reasonableassurancethatcontrolsareinuse
andoperatingeffectively.Thisassuranceis
mostlikelyobtainedinpartby
a. Preparingflowcharts.
b. Performingsubstantivetests.
c. Analyzingtestsoftrendsandratios.
d. Inspectionofdocuments.
34. An auditor generally tests the segregation
ofdutiesrelatedtoinventoryby
a. Personalinquiryandobservation.
b. Testcountsandcutoffprocedures.
c. Analytical procedures and invoice
recomputation.
d. Documentinspectionandreconciliation.
35. The objective of tests of details of
transactions performed as tests of
controlsisto
a.

b.

Monitor the design and use of


entity documents such as
prenumberedshippingforms.

Determine whether
controls have been

implemented.
Detect material misstatements in
the account balances of the
financialstatements.
Evaluate whether controls operated
effectively.
c.

d.

36. Afterobtaininganunderstandingofinternalcontrol
andassessingtheriskofmaterialmisstatement,an
auditordecidedtoperformtestsofcontrols.The
auditormostlikelydecidedthat
a. Itwouldbeefficienttoperform
tests of controls that would
resultinareductioninplanned
substantivetests.
b. Additionalevidencetosupporta
furtherreductionintheriskof
materialmisstatementisnot
available.
c. Anincreaseintheassessed
leveloftheriskofmaterial
misstatementisjustifiedfor
certainfinancialstatement
assertions.
d. Thereweremanyinternalcontrol
weaknesses that could allow
misstatements to enter the
accountingsystem.
37. In assessing control risk, an auditor
ordinarily selects from a variety of
techniques,including
a. Inquiryandanalyticalprocedures.
b. Reperformanceandobservation.
c. Comparisonandconfirmation.
d. Inspectionandverification.
38. Whichofthefollowingtypesofevidence
wouldanauditormostlikelyexamineto
determinewhethercontrolsareoperating
asdesigned?

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

70

a.

c.

Confirmations of receivables
verifyingaccountbalances.
b. Letters of representations
corroboratinginventorypricing.
Attorneys responses to the auditors
inquiries.
d. Client records documenting the
useofcomputerprograms.

39. Whichofthefollowingis not astepin


anauditorsassessmentofcontrolrisk?
a. Evaluate the effectiveness of
internal control with tests of
controls.
b. Obtain an understanding of the entitys
informationsystemandcontrolenvironment.
c. Performtestsofdetailsof
transactionstodetectmaterial
misstatementsinthefinancial
statements.
d. Considerwhethercontrolscanhave
a pervasive effect on financial
statementassertions.
40. Toobtainauditevidenceaboutcontrolrisk,
an auditor selects tests from a variety of
techniquesincluding
a. Inquiry.
b. Analyticalprocedures.
c. Calculation.
d. Confirmation.
41. Whichofthefollowingisleastlikelytobeevidence
theauditorexaminestodeterminewhethercontrolsare
operatingeffectively?
a. Records documenting usage
ofcomputerprograms.
b. Canceledsupportingdocuments.
c. Confirmationsofaccountsreceivable.
d. Signaturesonauthorizationforms.
42. Whichofthefollowingprocedures
concerningaccountsreceivablewouldan
auditormostlikelyperformtoobtain
evidenceinsupportofanassessedlevelof
controlriskbelowthemaximum?
a. Observing an entitys employee
prepare the schedule of past due
accountsreceivable.
b. Sendingconfirmationrequeststoanentitys
principalcustomerstoverifytheexistence
ofaccountsreceivable.
c. Inspectinganentitysanalysis of
accounts receivable for unusual
balances.
d.

Comparinganentitysuncollectible
accounts expense to actual
uncollectibleaccountsreceivable.

43. Theinternalcontrolprovisionsofthe
SarbanesOxleyActof2002applytowhich
companiesintheUnitedStates?

a.
b.

Allcompanies.
SECregistrants.
c. Allissuer(public)
companiesandnonissuer

d.

(nonpublic)companieswith
morethan$100,000,000of
networth.
Allnonissuercompanies.

44. Theframeworkmostlikelytobeusedby
management in its internal control
assessment under requirements of the
SarbanesOxleyActof2002isthe
a. COSOinternalframework.
b. COSO enterprise risk management
framework.
c. FASB 37 internal control definitional
framework.
d. AICPAinternalcontrolanalysismanager.

a. Remote.
b. Morethanremote.
45. Which of the following is correct
c. Probable.
concerning the level of assistance auditors
d. Notexplicitlyconsidered.
mayprovideinassistingmanagementwith
itsassessmentofinternalcontrol?
a. Noassistanceofanytypemaybeprovided. 51. Assumethatacompanyhasacontroldeficiency
regardingtheprocessingofcashreceipts.
b. Nolimitationsonassistanceexist.
Reconciliationofcashaccountsbyacompetent
c. Only very limited assistance may be
individualotherwiseindependentofthecashfunction
provided.
mightmakethelikelihoodofasignificant
d. As less risk is assumed by the
misstatementduetothecontroldeficiencyremote.In
auditors, a higher level of
thissituation,reconciliationmaybereferredtoaswhat
assistanceisappropriate.
typeofcontrol?
a. Compensating.
46. Whichofthefollowingneednotbeincluded
b. Preventive.
inmanagementsreportoninternalcontrol
underSection404aoftheSarbanesOxley
Actof2002?
a.

A statement that the companys


auditor has issued an attestation
reportonmanagementsassertion.

b.

Identification of the
framework for evaluating
internalcontrol.
Managementsassessmentofthe
effectivenessofinternalcontrol.
Managementsstatementof
responsibilitytoestablishand
maintaininternalcontrolthathas
nosignificantdeficiencies.

c.
d.

47. Which of the following is an accurate


statement about internal control
weaknesses?
a. Material weaknesses are also control
deficiencies.
b. Significant deficiencies
are also material
weaknesses.
c. Control deficiencies are also material
weaknesses.
d. All control deficiencies must be
communicated to the audit
committee.
48. Inanintegratedaudit,whichofthefollowing
isdefinedasaweaknessininternalcontrol
thatislessseverethanamaterialweakness
butimportantenoughtowarrantattentionby
thoseresponsibleforoversightofthe
financialreportingfunction?
a. Controldeficiency.
b. Unusualweakness.
c. Unusualdeficiency.
d. Significantdeficiency.
49. Amaterialweaknessisasignificant
deficiency(orcombinationofsignificant
deficiencies)thatresultsinareasonable
possibilitythatamisstatementofatleast
whatamountwillnotbepreventedor
detected?
a. Anamountgreaterthanzero.
b. Anamountgreaterthanzero,but
atleastinconsequential.
c. Anamountgreaterthaninconsequential.
d. Amaterialamount.
50. Theminimumlikelihoodoflossinvolvedin
theconsiderationofacontroldeficiencyis

MODULE3 UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
c.
d.

Adjustive.
Nonroutine.

c.
d.

52. AccordingtoPublicCompanyAccounting
OversightBoardStandard5,whattypeof
transactioninvolvesestablishingaloan
lossreserve?
a. Substantivetransaction.
b. Routinetransaction.
c. Nonroutinetransaction.
d. Estimationtransaction.
53. Aprocedurethatinvolvestracingatransactionfrom
its origination through the companys information
systemsuntilitisreflectedinthecompanysfinancial
reportisreferredtoasa(n)
a. Analyticalanalysis.
b. Substantiveprocedure.
c. Testofacontrol.
d. Walkthrough.
54. Forpurposesofanauditofinternalcontrol
performed under Public Company
Accounting Oversight Board standards,
theasofdateisordinarily
a. Thefirstdayoftheyear.
b. Thelastdayofthefiscalperiod.
c. Thelastdayoftheauditorsfieldwork.
d. Theaveragedatefortheentirefiscalperiod.
55. Consider an issuer (public) company
whose purchases are made through the
Internet and by telephone. Which of the
followingiscorrect?
a. These types of purchases
represent control objectives for
theauditofinternalcontrol.
b. These purchases are the
assertions related to the
purchaseclassoftransactions.
c. Thesetypesofpurchases
representtwomajorclassesof
transactionswithinthe
purchasesprocess.
d. Thesetwotypesoftransactions
representroutinetransactions
thatmustalwaysbeinvestigated
inextremedetail.
56. Foranissuer(public)companyauditofinternalcontrol,
walkthroughsprovidetheauditorwith primaryevidence
to

a.
b.
c.
d.

Evaluatethe
effectivenessofthe
designofcontrols
Yes
Yes
No
No

Confirmwhether
controlshavebeen
placedinoperation
Yes
No
Yes
No

57. Whichismostlikelytobeaquestion
askedofemployeepersonnelduringa
walkthroughinanauditoftheinternal
controlofanissuer(public)company?
a. Have you ever been asked to override the
process?

b.

d.

No
No

Yes
No

Doyoubelievethatyouareunderpaid?
c. Whatdoyoudowhenyou
find a fraudulent
transaction?
Whotrainedyouforthisjob?

58. Howlargemusttheactuallossidentifiedby
the auditor be for a control deficiency to
possiblybeconsideredamaterialweakness?
a.
b.

Immaterial
Yes
Yes

Material
Yes
No

71

59. Forpurposesofanauditofinternalcontrol
performedunderPublicCompany
AccountingOversightBoardrequirements,
anaccountissignificantifthereismorethan
a

a.
b.

c.
d.

Reasonably possible likelihood


thatitcouldcontainimmaterial
ormaterialmisstatements.
Reasonably

possible
likelihood that it could
contain

material
misstatements.
Remotelikelihoodthatitcould
containmaterialmisstatements.
Remote likelihood that it could
containmorethaninconsequential
misstatements.

60. Acontroldeficiencythatismorethanasignificant
deficiencyismostlikelytoresultinwhatformof
auditopinionrelatingtointernalcontrol?
a. Adverse.
b. Qualified.
c. Unqualified.
d. Unqualifiedwithexplanatorylanguage.
61. Whichofthefollowingismostlikelytobeconsidered
amaterialweaknessininternalcontrolforpurposesof
aninternalcontrolauditofanissuer(public)
company?
a. An ineffective oversight of
financial reporting by the audit
committee.
b.

Restatement of previously issued


financial statements due to a
changeinaccountingprinciples.

c.

d.

Inadequate segregation of
recordkeepingfromaccounting.
Weaknessesincontrolactivities.

62. Inabilitytoevaluateinternalcontroldueto

a.
b.
c.
d.

acircumstancecausedscopelimitation
relatingtoasignificantaccountina
SarbanesOxley404internalcontrolaudit
ismostlikelytoresultina(n)
Adverseopinion.
Qualifiedopinion.
Unqualified opinion with explanatory
language.
Alloftheaboveareequallylikely.

63. Which of the following is most likely to


indicateasignificantdeficiencyrelatingtoa
clientsantifraudprograms?

a.

Abroadscopeofinternalauditactivities.
b. A whistleblower program
that encourages anonymous
submissions.
c. Audit committee passivity when
conductingoversightfunctions.
d.

Lack of performance of
criminal

background
investigations for likely
customers.

64. Anauditoridentifiedamaterialweaknessin
December.Theclientwasinformedandcorrectedit
shortlyaftertheasofdate(December31);the
auditoragreesthatthecorrectioneliminatesthe
materialweaknessasofJanuary31.Theappropriate
reportunderaPCAOBStandard5auditofinternal
controlis
a. Adverse.
b. Unqualified.
c. Unqualified with explanatory
language relating to the material
weakness.
d. Qualified.
65. In an integrated audit, which of the
followinglead(s)toanadverseopinionon
internalcontrol?

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

72

a.
b.
c.
d.

Material
weaknesses
Yes
Yes
No
No

Significant
deficiencies
Yes
No
Yes
No

66.Inanintegratedaudit,whatmusttheauditor
communicatetotheauditcommittee?
a.
b.
c.
d.

Knownmaterial
weaknesses
Yes
Yes
No
No

Allcontrol
deficiencies
Yes
No
Yes
No

67. Inwhichmanneraresignificantdeficiencies
communicatedbytheauditorstotheaudit
committeeunderPublicCompany
AccountingOversightBoardStandard5?
a. Thecommunicationmayeitherbeorallyorin
writtenform.
b. Thecommunicationmustbeoral,
andnotinwrittenform.
c. Thecommunicationmustbeinwrittenform.
d. No such communication is
required as only material
weaknesses must be
communicated.
68. Whichiscorrectconcerningtheexternal
auditorsuseoftheworkofothersinan
auditofinternalcontrolperformedfora
publiccompany?
a. Itisnotallowed.
b. Theworkofinternalauditorsmay
beused,butonlywhenthose
internalauditorsreportdirectlyto
theauditcommittee.
c. Ordinarily the work of internal
auditors and others is used
primarilyinlowriskareas.
d. Thereisnolimitationandislikely
to reduce auditor liability since
the auditors will then share legal
responsibilitywiththosewhohave
performedtheservice.
69. Inanintegratedaudit,whichmust
theauditorcommunicateinwriting
tomanagement?
a. Onlymaterialweaknesses.
b. Material weaknesses and significant
deficiencies.
c. Material weaknesses, significant
deficiencies and other control
deficiencies.
d. Materialweaknesses,significantdeficiencies,
othercontroldeficiencies, andallsuspected
andpossibleemployeelawviolations.
70. Whichofthefollowingiscorrectwhen
applyingatopdownapproachtoidentify
controlstotestinanintegratedaudit?
a. Forcertainassertions,strong
entitylevelcontrolsmayallow
theauditortoomitadditional

b.

c.

d.

testingbeyondthosecontrols.
Starting at the topcontrols
over specific assertionsthe
auditor should link to major
accountsandreportingitems.
Thegoalistofocusondetailsof
accountingcontrols,while
avoidingconsiderationofoverall
entitylevelcontrols.
Thegoalistofocusonallcontrols
relatedtoassertions,omitting
considerationofcontrolsrelatedto
thefinancialstatements.

wereaccountedfor.
71. Whichofthefollowingisnotincludedina
standard unqualified opinion on internal
controloverfinancialreportingperformed
underPCAOBrequirements?

a.

b.

Becauseofinherentlimitations,
internalcontroloverfinancial
reportingmaynotpreventordetect
misstatements.
Inouropinion,[companyname]maintained,
in all material respects, effective internal
controloverfinancialreporting.
c. Our audit included obtaining an
understanding of internal control
overfinancialreporting.
d.

The[companyname]management
andauditcommitteeisresponsible
formaintainingeffectiveinternal
controloverfinancialreporting.

72. Walkthroughsordinarilyprovideevidence
thathelpstheauditorto

a.
b.
c.
d.

Evaluatedesign
effectivenessof
controls
Yes
Yes
No
No

Confirmwhether
controlshavebeen
placedin
Operation
Yes
No
Yes
No

73. Whichofthefollowingprocedureswouldan
auditormostlikelyperformtotestcontrols
relatingtomanagementsassertionaboutthe
completenessofcashreceiptsforcashsales
ataretailoutlet?
a. Observe the consistency of the
employees use of cash registers
andtapes.
b. Inquireaboutemployees access
torecordedbutundepositedcash.
c. Trace deposits in the cash
receipts journal to the cash
balanceinthegeneralledger.
d. Comparethecashbalanceinthe
general ledger with the bank
confirmationrequest.
74. Soundinternalcontroldictatesthat
immediatelyuponreceivingchecksfrom
customersbymail,aresponsibleemployee
should
a. Addthecheckstothedailycashsummary.
b. Verify that each check is
supportedbyaprenumberedsales
invoice.
c. Prepareaduplicatelistingofchecksreceived.
d. Record the checks in the cash receipts
journal.
75. Tracing shipping documents to
prenumbered sales invoices provides
evidencethat
a. Noduplicateshipmentsorbillingsoccurred.
b. Shipments to customers were properly
invoiced.
c. All goods ordered by customers were
shipped.
d. All prenumbered sales invoices

76. Whichofthefollowingcontrolsmostlikelywouldre
ducetheriskofdiversionofcustomerreceiptsbyan
entitysemployees?
a. Abanklockboxsystem.
b. Prenumberedremittanceadvices.
c. Monthlybankreconciliations.
d. Dailydepositofcashreceipts.
77. Anauditorsuspectsthataclientscashieris
misappropriating cash receipts for personal
use by lapping customer checks received in
themail.Inattemptingtouncoverthis

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
embezzlementscheme,theauditormostlikelywould
comparethe
a. Dateschecksaredepositedper
bank statements with the dates
remittancecreditsarerecorded.
b. Dailycashsummarieswiththesumsofthe
cashreceiptsjournalentries.
c. Individual bank deposit slips with
the details of the monthly bank
statements.
d. Datesuncollectibleaccountsareauthorizedto
bewrittenoffwiththedatesthewriteoffsare
actuallyrecorded.
78. Uponreceiptofcustomerschecksinthe
mailroom,aresponsibleemployeeshould
preparearemittancelistingthatisforwarded
tothecashier.Acopyofthelistingshouldbe
senttothe
a. Internal auditor to investigate
the listing for unusual
transactions.
b. Treasurer to compare the listing
withthemonthlybankstatement.
c. Accountsreceivablebookkeeperto
update the subsidiary accounts
receivablerecords.
d. Entitys bank to compare the
listing with the cashiers deposit
slip.
79. Whichofthefollowingproceduresmost
likelywouldnotbeacontroldesignedto
reducetheriskofmisstatementsinthebilling
process?
a.

Comparing control totals for


shipping documents with
corresponding totals for sales
invoices.

b.

Using computer programmed


controls on the pricing and
mathematical accuracy of sales
invoices.
Matchingshippingdocumentswith
approved sales orders before
invoicepreparation.
Reconciling the control totals
for sales invoices with the
accounts receivable subsidiary
ledger.

c.
d.

80. Whichofthefollowingauditprocedureswouldan
auditormostlikelyperformtotestcontrolsrelatingto
managementsassertionconcerningthecompleteness
ofsalestransactions?
a. Verifythatextensionsand
footingsontheentityssales
invoicesandmonthlycustomer
statementshavebeenrecomputed.
b. Inspecttheentitysreportsof
prenumberedshippingdocuments
thathavenotbeenrecordedinthe
salesjournal.
c. Compare the invoiced prices on
prenumbered sales invoices to the

d.

entitysauthorizedpricelist.
Inquireaboutthe entitys credit
granting policies and the
consistent application of credit
checks.

73

81. Whichofthefollowingcontrolsmostlikely
would assure that all billed sales are
correctlypostedtotheaccountsreceivable
ledger?
a. Daily sales summaries are
comparedtodailypostingstothe
accountsreceivableledger.
b. Eachsalesinvoiceissupportedby
a prenumbered shipping
document.
c. Theaccountsreceivableledgeris
reconciled daily to the control
accountinthegeneralledger.
d. Each shipment on credit is
supportedbyaprenumberedsales
invoice.

82. An auditor tests an entitys policy of


obtaining credit approval before shipping
goods to customers in support of
managements financial statement
assertionof
a. Valuationorallocation.
b. Completeness.
c. Existenceoroccurrence.
d. Rightsandobligations.
83. Whichofthefollowingcontrolsmostlikely
wouldhelpensurethatallcreditsales
transactionsofanentityarerecorded?
a. Thebillingdepartmentsupervisor
sends copies of approved sales
orderstothecreditdepartmentfor
comparison to authorized credit
limits and current customer
accountbalances.
b. Theaccountingdepartment
supervisorindependently
reconcilestheaccountsreceivable
subsidiaryledgertotheaccounts
receivablecontrolaccount
monthly.
c.

Theaccountingdepartmentsupervisorcontrols
themailingofmonthlystatementstocustomers
andinvestigatesanydifferencesreportedby
customers.

d.

Thebillingdepartmentsupervisor
matchesprenumberedshipping
documentswithentriesinthe
salesjournal.

84. Whichofthefollowingcontrolsmostlikely
wouldbeeffectiveinoffsettingthe
tendencyofsalespersonneltomaximize
salesvolumeattheexpenseofhighbad
debtwriteoffs?
a.

Employees responsible for


authorizing sales and bad debt
writeoffs are denied access to
cash.

b.

Shippingdocumentsandsales

c.

invoicesarematchedbyan
employeewhodoesnothaveau
thoritytowriteoffbaddebts.
Employees involved in the creditgranting
function are separated from the sales
function.
d.

Subsidiary accounts receivable


records are reconciled to the
control account by an employee
independentoftheauthorizationof
credit.

85. Properauthorizationofwriteoffsof
uncollectibleaccountsshouldbe
approvedinwhichofthefollowingde
partments?
a. Accountsreceivable.
b. Credit.
c. Accountspayable.
d. Treasurer.
86. Employers bond employees who handle
cashreceiptsbecausefidelitybondsreduce
the possibility of employing dishonest
individualsand
a. Protect employees who make
unintentional misstatements
frompossiblemonetarydamages
resulting from their
misstatements.
b. Deterdishonestybymaking
employeesawarethatinsurance
companiesmayinvestigateand
prosecutedishonestacts.
c. Facilitate an independent
monitoring of the receiving and
depositingofcashreceipts.
d.

Force employees in positions of


trusttotakeperiodicvacationsand
rotatetheirassignedduties.

87. Duringtheconsiderationofasmallbusiness
clientsinternalcontrol,theauditor
discoveredthattheaccountsreceivableclerk
approvescreditmemosandhasaccessto

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

74

andreceivingreports.

cash.Whichofthefollowingcontrolswouldbemost
effectiveinoffsettingthisweakness?
a. The owner reviews errors in
billingstocustomersandpostings
tothesubsidiaryledger.
b.

The controller receives the monthly bank


statementdirectlyandreconcilesthechecking
accounts.

c.
d.

Theownerreviews creditmemos
aftertheyarerecorded.
Thecontrollerreconcilesthetotal
of the detail accounts receivable
accounts to the amount shown in
theledger.

88. Whenacustomerfailstoincludearemittanceadvice
withapayment,itiscommonpracticefortheperson
openingthemailtoprepareone.Consequently,mail
shouldbeopenedbywhichofthefollowingfour
companyemployees?

a.
b.
c.
d.

Creditmanager.
Receptionist.
Salesmanager.
Accountsreceivableclerk.

89. Toprovideassurancethateachvoucheris
submittedandpaidonlyonce,anauditor
mostlikelywouldexamineasampleofpaid
vouchersanddeterminewhethereach
voucheris
a. Supportedbyavendorsinvoice.
b. Stampedpaidbythechecksigner.
c. Prenumberedandaccountedfor.
d. Approvedforauthorizedpurchases.
90. Intestingcontrolsovercashdisbursements,
anauditormostlikelywoulddeterminethat
thepersonwhosignschecksalso
a. Reviewsthemonthlybankreconciliation.
b. Returnsthecheckstoaccountspayable.
c. Is denied access to the supporting
documents.
d. Isresponsibleformailingthechecks.
91. Inassessingcontrolriskforpurchases,an
auditorvouchesasampleofentriesinthe
voucherregistertothesupporting
documents.Whichassertionwouldthis
testofcontrolsmostlikelysupport?
a. Completeness.
b. Existenceoroccurrence.
c. Valuationorallocation.
d. Rightsandobligations.
92. Whichofthefollowingcontrolsis not
usually performed in the vouchers
payabledepartment?
a. Matching the vendors invoice
withtherelatedreceivingreport.
b. Approving vouchers for payment
byhavinganauthorizedemployee
signthevouchers.
c. Indicating the asset and
expenseaccountstobedebited.
d. Accounting for unused
prenumbered purchase orders

93. Withproperlydesignedinternalcontrol,the
sameemployeemostlikelywouldmatch
vendors invoices with receiving reports
andalso
a. Postthedetailedaccountspayablerecords.
b. Recompute the calculations on vendors
invoices.
c. Reconciletheaccountspayableledger.
d. Cancelvendorsinvoicesafterpayment.
94. Anentitysinternalcontrolrequiresfor
everycheckrequestthattherebean
approvedvoucher,supportedbya

prenumberedpurchaseorderandaprenumbered
receivingreport.Todeterminewhetherchecksare
beingissuedforunauthorizedexpenditures,anauditor
mostlikelywouldselectitemsfortestingfromthe
populationofall

a.
b.
c.
d.

Purchaseorders.
Canceledchecks.
Receivingreports.
Approvedvouchers.

95. Which of the following questions would


most likely be included in an internal
control questionnaire concerning the
completenessassertionforpurchases?
a. Isanauthorizedpurchaseorder
requiredbeforethereceiving
departmentcanacceptashipment
orthevoucherspayable
departmentcanrecordavoucher?
b. Are purchase requisitions
prenumberedandindependently
matchedwithvendorinvoices?
c.

d.

Is the unpaid voucher file


periodically reconciled with
inventoryrecordsbyanemployee
who does not have access to
purchaserequisitions?
Are purchase orders, receiving
reports,andvouchersprenumbered
andperiodicallyaccountedfor?

96. Foreffectiveinternalcontrol,theaccounts
payabledepartmentgenerallyshould
a.

Stamp, perforate, or otherwise


cancel supporting documentation
afterpaymentismailed.

b.

Ascertainthateachrequisitionis
approved as to price, quantity,
and quality by an authorized
employee.
Obliteratethequantityorderedon
thereceivingdepartmentcopyof
thepurchaseorder.

c.
d.

Establish the agreement of the


vendors invoice with the
receiving report and purchase
order.

97. Internalcontrolisstrengthenedwhenthe
quantity of merchandise ordered is
omittedfromthecopyofthepurchase
ordersenttothe
a. Departmentthatinitiatedtherequisition.
b. Receivingdepartment.
c. Purchasingagent.
d. Accountspayabledepartment.
98. Aclienterroneouslyrecordedalarge
purchasetwice.Whichofthefollowing
internalcontrolmeasureswouldbemost
likelytodetectthiserrorinatimelyand
efficientmanner?
a. Footingthepurchasesjournal.
b. Reconciling vendors monthly statements
withsubsidiarypayableledgeraccounts.
c. Tracing totals from the
purchasesjournaltotheledger

d.

accounts.
Sending written quarterly
confirmationstoallvendors.

99. Withwelldesignedinternalcontrol,
employeesinthesamedepartmentmost
likelywouldapprovepurchaseorders,
andalso
a. Reconciletheopeninvoicefile.
b. Inspectgoodsuponreceipt.
c. Authorizerequisitionsofgoods.
d. Negotiatetermswithvendors.
100. Inobtaininganunderstandingofa
manufacturingentitysinternalcontrol
overinventorybalances,anauditormost
likelywould

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
a.

b.
c.
d.

Purchasingclerk.
Receivingclerk.
Inventorycontrolclerk.

75

Analyzetheliquidityandturnover
ratiosoftheinventory.
b. Perform analytical procedures 105. AlphaCompanyusesitssalesinvoicesforpostingper
petualinventoryrecords.Inadequatecontrolsoverthe
designedtoidentifycostvariances.
invoicingfunctionallowgoodstobeshippedthatare
c. Reviewtheentitysdescriptionsof
notinvoiced.Theinadequatecontrolscouldcausean
inventory policies and
a. Understatement of revenues,
procedures.
receivables,andinventory.
d. Perform test counts of inventory
b. Overstatement of revenues and
duringtheentitysphysicalcount.
receivables,andanunderstatement
101. Whichofthefollowingcontrolsmostlikely
ofinventory.
would be used to maintain accurate
c. Understatement ofrevenues and
inventoryrecords?
receivables,andanoverstatement
a. Perpetual inventory records are
ofinventory.
periodically compared with the
d. Overstatement of revenues,
current cost of individual
receivables,andinventory.
inventoryitems.
b. A justintime inventory ordering
systemkeepsinventorylevelstoa
desiredminimum.
c. Requisitions,receivingreports,
andpurchaseordersare
independentlymatchedbefore
paymentisapproved.
d. Periodic inventory counts are
used to adjust the perpetual
inventoryrecords.
102. A client maintains perpetual inventory
recordsinbothquantitiesanddollars.Ifthe
assessed level of control risk is high, an
auditorwouldprobably
a. Insist that the client perform
physical counts of inventory
items several times during the
year.
b. Applygrossprofitteststoascertain
thereasonablenessofthephysical
counts.
c. Increase the extent of tests of
controlsoftheinventorycycle.
d. Requesttheclienttoschedulethe
physical inventory count at the
endoftheyear.
103. Whichofthefollowingcontrolsmostlikely
addresses the completeness assertion for
inventory?
a. Work in process account is
periodically reconciled with
subsidiaryrecords.
b. Employees responsible for
custody of finished goods do
not perform the receiving
function.
c. Receiving reports are
prenumbered and periodically
reconciled.
d. There is a separation of duties
between payroll department and
inventoryaccountingpersonnel.
104. Soundinternalcontroldictatesthatdefective
merchandisereturnedbycustomersshould
bepresentedinitiallytothe
a. Salesclerk.

106. Whichofthefollowingisaquestionthat
the auditor would expect to find on the
production cycle section of an internal
controlquestionnaire?
a. Arevendorsinvoicesforraw
materialsapprovedforpaymentby
anemployeewhoisindependentof
thecashdisbursementsfunction?
b. Aresignedchecksforthe
purchaseofrawmaterialsmailed
directlyaftersigningwithout
beingreturnedtothepersonwho
authorizedtheinvoice
processing?
c. Areallreleasesbystorekeepers
ofrawmaterialsfromstorage
basedonapprovedrequisition
documents?
d. Aredetailsofindividual
disbursementsforrawmaterials
balancedwiththetotaltobeposted
totheappropriategeneralledger
account?
107. Theobjectivesofinternalcontrolfora
productioncyclearetoprovideassurance
thattransactionsareproperlyexecutedand
recorded,andthat
a. Production orders are prenumbered and
signedbyasupervisor.
b. Custodyof workinprocessand
of finished goods is properly
maintained.
c. Independentinternalverificationof
activityreportsisestablished.
d. Transferstofinishedgoodsare
documentedbyacompleted
productionreportandaquality
controlreport.
108. An auditor vouched data for a sample of
employeesinapayrollregistertoapproved
clockcarddatatoprovideassurancethat
a. Payments to employees are

b.
c.
d.

computedatauthorizedrates.
Employeesworkthenumberof
hoursforwhichtheyarepaid.
Segregationofdutiesexistbetween
thepreparationanddistributionof
thepayroll.
Controls relating to unclaimed
payroll checks are operating
effectively.

109. Whichofthefollowingisacontrolthat
mostlikelycouldhelppreventemployee
payrollfraud?
a. Thepersonneldepartment
promptlysendsemployee
terminationnoticestothepayroll
supervisor.
b. Employeeswhodistributepayroll
checksforwardunclaimedpayroll
checkstotheabsentemployees
supervisors.
c. Salary rates resulting from new
hiresareapprovedbythepayroll
supervisor.
d. Totalhoursusedfordetermination
ofgrosspayarecalculatedbythe
payrollsupervisor.
110. Indeterminingtheeffectivenessofanentitys
controlsrelatingtotheexistenceoroccurrence
assertionforpayrolltransactions,anauditor
mostlikelywouldinquireaboutand
a. Observe the segregation of duties
concerning

personnel
responsibilities and payroll
disbursement.

b.
c.
d.

Inspect evidence of accounting


forprenumberedpayrollchecks.
Recompute the payroll
deductionsforemployee fringe
benefits.
Verify the preparation of the
monthly payroll account bank
reconciliation.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

76

111. Anauditormostlikelywouldassesscontrol
riskatahighlevelifthepayrolldepartment
supervisorisresponsiblefor
a. Examining authorization forms for new
employees.
b. Comparing payroll registers
with original batch transmittal
data.
c. Authorizing payroll rate changes for all
employees.
d. Hiring all subordinate payroll
departmentemployees.
112. Whichofthefollowingcontrolsmost
likelywouldpreventdirectlaborhours
frombeingchargedtomanufacturing
overhead?
a. Periodic independent counts of
workinprocessforcomparisonto
recordedamounts.
b. Comparison of daily journal
entries with approved production
orders.
c. Use of time tickets to record
actual labor worked on
productionorders.
d. Reconciliationofworkinprocess
inventory with periodic cost
budgets.
113. In meeting the control objective of
safeguarding of assets, which department
shouldberesponsiblefor
a.
b.
c.
d.

Distribution
ofpaychecks
Treasurer
Payroll
Treasurer
Payroll

Custodyof
unclaimedpaychecks
Treasurer
Treasurer
Payroll
Payroll

114. Proper internal control over the cash


payrollfunctionwouldmandatewhichof
thefollowing?
a. Thepayrollclerkshouldfillthe
envelopes with cash and a
computationofthenetwages.
b. Unclaimedpayenvelopesshouldberetained
bythepaymaster.
c. Each employee should be asked to sign a
receipt.
d. A separate checking account for
payrollbemaintained.
115. The purpose of segregating the duties of
hiring personnel and distributing payroll
checksistoseparatethe
a. Authorization of transactions
fromthecustodyofrelatedassets.
b. Operational responsibility from
therecordkeepingresponsibility.
c. Human resources function from
thecontrollershipfunction.
d. Administrative controls from the
internalaccountingcontrols.
116. Tominimizetheopportunitiesforfraud,

a.
b.
c.
d.

unclaimedcashpayrollshouldbe
Depositedinasafedepositbox.
Heldbythepayrollcustodian.
Depositedinaspecialbankaccount.
Heldbythecontroller.

117. Theauditormayobservethedistributionof
paycheckstoascertainwhether
a. Payrateauthorizationisproperly
separated from the operating
function.
b. Deductions from gross pay are
calculated correctly and are
properlyauthorized.
c. Employees of record actually
existandareemployedbythe
client.

d.

Paychecksagreewiththepayroll
registerandthetimecards.

118. Whichofthefollowingdepartmentsmostlikelywould
approve changes in pay rates and deductions from
employeesalaries?
a. Personnel.
b. Treasurer.
c. Controller.
d. Payroll.

d.

121. Wherenoindependentstocktransferagents
areemployedandthecorporationissuesits
ownstocksandmaintainsstockrecords,
canceledstockcertificatesshould

a.

119. Whichofthefollowingquestionswouldan
auditormostlikelyincludeonaninternal
controlquestionnairefornotespayable?
a.

Are assets that collateralize notes


payable critically needed for the
entityscontinuedexistence?

b.

Are two or more authorized


signaturesrequiredonchecksthat
repaynotespayable?
Are the proceeds from notes
payableusedforthepurchaseof
noncurrentassets?
Are direct borrowings on notes
payableauthorizedbytheboardof
directors?

c.
d.

120. Theprimaryresponsibilityofabankactingasregistrar
ofcapitalstockisto
a. Ascertainthatdividendsdeclared
do not exceed the statutory
amountallowableinthestateof
incorporation.
b. Account for stock certificates by
comparing the total shares
outstanding to the total in the
shareholderssubsidiaryledger.
c. Actasanindependentthirdparty
betweentheboardofdirectorsand
outsideinvestorsconcerning

mergers,acquisitions,andthesale
oftreasurystock.
Verifythatstockisissuedin
accordancewiththeauthorization
oftheboardofdirectorsandthe
articlesofincorporation.

c.
d.

Bedefacedtopreventreissuance
and attached to their
correspondingstubs.
b. Notbedefacedbutsegregated
fromotherstockcertificatesand
retainedinacanceledcertificates
file.
Be destroyed to prevent fraudulent
reissuance.
Bedefacedandsenttothesecretaryofstate.

122. Which of the following is not a


control that is designed to protect
investmentsecurities?
a. Custodyoversecuritiesshouldbe
limitedtoindividualswhohave
recordkeepingresponsibilityover
thesecurities.
b. Securities should be properly
controlled physically in order to
preventunauthorizedusage.
c. Access to securities should be
vestedinmorethanoneindividual.
d. Securitiesshouldberegisteredin
thenameoftheowner.
123. Whichofthefollowingcontrolswoulda
companymostlikelyusetosafeguard
marketablesecuritieswhenanindependent
trustagentisnotemployed?

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
a.

Theinvestmentcommitteeoftheboardofdirectors128.Whichofthefollowingcontrolswouldanentitymost
periodicallyreviewstheinvestment
investments are executed on the
decisionsdelegatedtothetreasurer.
specificauthorizationoftheboard
ofdirectors.
b. Twocompanyofficialshavejoint
controlofmarketablesecurities,
d. The recorded balances in the
whicharekeptinabanksafe
investment subsidiary ledger are
depositbox.
periodically compared with the
contentsofthesafedepositboxby
c. Theinternalauditorandthecontroller
independentpersonnel.
independentlytraceallpurchasesandsales
ofmarketablesecuritiesfromthesubsidiary
127. Acompanyholdsbearerbondsasashort
ledgerstothegeneralledger.
terminvestment.Responsibilityforcustody
d. Thechairmanoftheboardverifies
ofthesebondsandsubmissionofcoupons
themarketablesecurities,whichare
forperiodicinterestcollectionsprobably
keptinabanksafedepositbox,
shouldbedelegatedtothe
eachyearonthebalancesheetdate.
a. ChiefAccountant.
b. InternalAuditor.
124. A weakness in internal control over
c. Cashier.
recording retirements of equipment may
d. Treasurer.
causeanauditorto
a. Inspectcertainitemsofequipment
intheplantandtracethoseitemsto
theaccountingrecords.
b. Review the subsidiary ledger to
ascertainwhetherdepreciationwas
takenoneachitemofequipment
duringtheyear.
c. Trace additions to the other
assets account to search for
equipmentthatis stillon hand
butnolongerbeingused.
d. Select certain items of
equipment from the ac
counting records and locate
themintheplant.
125. Whichofthefollowingquestionswouldan
auditorleastlikelyincludeonaninternal
controlquestionnaireconcerningthe
initiationandexecutionofequipment
transactions?
a.

Are requests for major repairs


approved at a higher level than the
departmentinitiatingtherequest?

b.

Areprenumberedpurchaseorders
used for equipment and
periodicallyaccountedfor?
Are requests for purchases of
equipment reviewed for
consideration of soliciting
competitivebids?
Are procedures in place to
monitor and properly restrict
accesstoequipment?

c.

d.

126. Whichofthefollowingcontrolswouldbe
mosteffectiveinassuringthattheproper
custodyofassetsintheinvestingcycleis
maintained?
a. Directaccesstosecuritiesinthesafedeposit
boxislimitedtoonlyonecorporateofficer.
b. Personnel who post investment
transactionstothegeneralledger
arenotpermittedtoupdatethein
vestmentsubsidiaryledger.
c. The purchase and sale of

77

likelyusetoassistinsatisfyingthecompleteness
assertionrelatedtolongterminvestments?
a. Seniormanagementverifiesthat
securitiesinthebanksafedeposit
boxareregisteredintheentitys
name.
b.

The internal auditor compares the


securities in the bank safedeposit
boxwithrecordedinvestments.

c.

Thetreasurervouchesthe
acquisitionofsecuritiesby
comparingbrokersadviceswith
canceledchecks.
The controller compares the
currentmarketpricesofrecorded
investments with the brokers
advicesonfile.

d.

129. Whichofthefollowingcontrolswouldan
entitymostlikelyuseinsafeguarding
againstthelossofmarketablesecurities?
a.

Anindependenttrustcompanythathasno
directcontactwiththeemployeeswhohave
recordkeepingresponsibilitieshaspossession
ofthesecurities.

b.

c.

d.

Theinternalauditorverifiesthe
marketablesecuritiesinthe
entityssafeeachyearonthe
balancesheetdate.
Theindependentauditortracesall
purchasesandsalesofmarketable
securitiesthroughthesubsidiary
ledgerstothegeneralledger.
Adesignatedmemberoftheboard
ofdirectorscontrolsthesecurities
inabanksafedepositbox.

130. Whentherearenumerouspropertyand
equipmenttransactionsduringtheyear,an
auditorwhoplanstoassesscontrolriskata
lowlevelusuallyperforms
a.

Tests of controls and extensive

tests of property and equipment


balancesattheendoftheyear.

b.

Analytical procedures for current year


propertyandequipmenttransactions.
c. Testsofcontrolsandlimitedtests
of current year property and
equipmenttransactions.
d. Analyticalproceduresforproperty
andequipmentbalancesattheend
oftheyear.

131. In general, material fraud perpetrated by


whichofthefollowingaremostdifficultto
detect?
a. Cashier.
b. Keypunchoperator.
c. Internalauditor.
d. Controller.
132. Whichofthefollowingisnotanaccurate
statementaboutcommunicationofinternal
controlrelatedmatterstomanagementon
anonissuer(nonpublic)company?
a.

b.

Theauditormustcommunicate
both material weaknesses and
significantdeficiencies.

Theauditormustcommunicateinwriting.
c.

d.

Previously

communicated
weaknesses that have not been
corrected need not be
recommunicated.
Acommunicationindicatingthat
nosignificantdeficiencieswere
identifiedshouldnotbeissued.

133. Whichofthefollowingmatterswouldan
auditormostlikelyconsidertobeamaterial
weaknesstobecommunicatedtothose
chargedwithgovernanceofanauditclient?

a.

Managements failure to
renegotiate unfavorable long
termpurchasecommitments.

78
b.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
Recurringoperatinglossesthatmayindicategoing138.Whichofthefollowingrepresentationsshouldnotbe
concernproblems.
a. Significant deficiencies are material weaknesses
in the design or operation of specific internal
c. Ineffective oversight of financial
controlcomponents.
reporting by those charged with
governance.
b. Theauditorisobligatedtosearchfor
significantdeficienciesthatcould
d. Managementscurrentplanstoreduce
adverselyaffecttheentitysabilityto
itsownershipequityintheentity.
recordandreportfinancialdata.
134. Which of the following statements is correct
c. Significantdeficienciesneednotbe
concerningsignificantdeficienciesinanaudit?
recommunicatedeachyearif
a. Anauditorisrequiredtosearchfor
managementhasacknowledgedits
significant deficiencies during an
understandingofsuchdeficiencies.
audit.
d. The auditor should separately
b. All significant deficiencies are also
communicate those significant
consideredtobematerialweaknesses.
deficiencies considered to be material
c. Anauditormaycommunicate
weaknesses.
significantdeficienciesduringan
auditoraftertheaudits
completion.
d.

Anauditormayreportthat no
significant deficiencies were
notedduringanaudit.

135. Anauditorsletterissuedonsignificant
deficienciesrelatingtoanentitysinternal
controlobservedduringafinancialstatement
auditshould
a. Includeabriefdescriptionofthetests
ofcontrolsperformedinsearchingfor
significantdeficienciesandmaterial
weaknesses.
b. Indicatethatthesignificantdeficiencies
shouldbedisclosedintheannualreport
totheentitysshareholders.
c. Includeaparagraphdescribing
managementsassertionconcerning
theeffectivenessofinternalcontrol.
d. Indicatethattheauditspurposewas
toreportonthefinancialstatements
andnottoexpressanopinionon
internalcontrol.
136. Whichofthefollowingstatementsiscorrect
concerninganauditorsrequired
communicationofsignificantdeficiencies?
a. Asignificantdeficiencypreviously
communicatedduringtheprioryears
auditthatremainsuncorrectedcausesa
scopelimitation.
b. Anauditorshouldperformtestsof
controlsonsignificantdeficiencies
beforecommunicatingthemtothe
client.
c. Anauditorsreportonsignificant
deficienciesshouldincludea
restrictiononthedistributionofthe
report.
d. Anauditorshouldcommunicate
significantdeficienciesaftertests
ofcontrols,butbefore
commencingsubstantivetests.
137. Which of the following statements is correct
concerningsignificantdeficienciesnotedinan
audit?

includedinareportoninternalcontrolrelatedmatters
notedinanaudit?
a. Significant deficiencies related to
internalcontrolexist.
b. There are no significant deficiencies
inthedesignoroperationofinternal
control.
c. Correctivefollowupactionis
recommendedduetotherelative
significanceofmaterialweaknesses
discoveredduringtheaudit.
d. Theauditorsconsiderationof
internalcontrolwouldnot
necessarilydiscloseallsignificant
deficienciesthatexist.
139. Which of the following statements concerning material
weaknessesandsignificantdeficienciesiscorrect?
a. An auditor should not identify and
communicate material weaknesses
separately from significant
deficiencies.
b. Compensating controls may limit the
severity of a material weakness or
significantdeficiency.
c.

Upondiscoveryanauditorshould
immediatelyreportallmaterial
weaknessesandsignificant
deficienciesidentifiedduringan
audit.

d.

All significant deficiencies are


materialweaknesses.

140. Duringtheaudittheindependentauditor
identifiedtheexistenceofaweaknessinthe
clientsinternalcontrolandcommunicatedthis
findinginwritingtotheclientssenior
managementandthosechargedwithgovernance.
Theauditorshould

a.

b.

d.

Consider the weakness a scope


limitation and therefore disclaim
anopinion.
Considertheeffectsoftheconditionontheaudit.
c. Suspend all audit activities pending
directions from the clients audit
committee.
Withdrawfromtheengagement.

141. Inidentifyingmattersforcommunicationwith
thosechargedwithgovernanceofanaudit
client,anauditormostlikelywouldask
managementwhether
a. The turnover in the accounting
departmentwasunusuallyhigh.
b. It consulted with another CPA firm
aboutaccountingmatters.
c. Therewereanysubsequenteventsof
whichtheauditorwasunaware.
d. It agreed with the auditors assessed
levelofcontrolrisk.
142. Which of the following statements is correct
concerninganauditorsrequiredcommunication
withthosechargedwithgovernanceofanaudit
client?
a. Thiscommunicationisrequiredtooccur
beforetheauditorsreportonthe
financialstatementsisissued.
b. Thiscommunicationshouldinclude
discussionofanysignificant
disagreementswithmanagement
concerningthefinancialstatements.
c. Anysignificantmattercommunicated
totheauditcommitteealsoshouldbe
communicatedtomanagement.
d. Significantauditadjustmentsproposed
bytheauditorandrecordedby
managementneednotbecommunicated
tothosechargedwithgovernance.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
143. An auditor would least likely initiate a discussion with
those charged with governance of an audit client b.
concerning
a. The methods used to account for
d.
significantunusualtransactions.
b. Themaximumdollaramountof
misstatementsthatcouldexistwithout
causingthefinancialstatementstobe
materiallymisstated.
c. Indicationsoffraudandillegalacts
committedbyacorporateofficerthat
werediscoveredbytheauditor.
d. Disagreementswithmanagementasto
accountingprinciplesthatwere
resolvedduringthecurrentyearsaudit.
144. Which of the following statements is correct
aboutanauditorsrequiredcommunicationwith
those charged with governance of an audit
client?
a. Anymatterscommunicatedtotheentitysaudit
committeealsoarerequiredtobecommunicated
totheentitysmanagement.
b. Theauditorisrequiredtoinform
thosechargedwithgovernanceabout
significantmisstatementsdiscovered
bytheauditorandsubsequentlycor
rectedbymanagement.
c. Disagreementswithmanagementabout
theapplicationofaccounting
principlesarerequiredtobe
communicatedinwritingtothose
chargedwithgovernance.
d. Weaknessesininternalcontrol
previouslyreportedtothosecharged
withgovernanceneednotbere
communicated.
145. Which of the following matters is an auditor
required to communicate to an entitys audit
committee?
I.

Disagreementswithmanagementaboutmatters
significanttotheentitysfinancialstatementsthat
havebeensatisfactorilyresolved.
AI. Initial selection of significant accounting
policies in emerging areas that lack
authoritativeguidance.
a.
b.
c.
d.

Ionly.
IIonly.
BothIandII.
NeitherInorII.

146. Should an auditor communicate the following


mattersto those charged with governance of an audit
client?

a.
b.
c.
d.

Significantaudit
adjustmentsrecorded
bytheentity
Yes
Yes
No
No

Managementsconsulta
tionwithotheraccoun
tantsaboutsignificant
accountingmatters
Yes
No
Yes
No

147.Inreportingonanentitysinternalcontroloverfinan
cial reporting, a practitioner should include a paragraph

79

thatdescribesthe
a. Documentary evidence regarding the control
environmentfactors.
Changesininternalcontrolsincethepriorreport.
c. Potential benefits from the practitioners
suggestedimprovements.
Inherentlimitationsofanyinternalcontrol.

audit?
148. WhichofthefollowingbestdescribesaCPAs
engagementtoreportonanentitysinternal
controloverfinancialreporting?
a. Anattestationengagementtoforman
opinion on the effectiveness of its
internalcontrol.
b. An audit engagement to provide
negative assurance on the entitys
internalcontrol.
c.

d.

Aprospectiveengagementtoproject,for
aperiodoftimenottoexceedoneyear,
and report on the expected benefits of
theentitysinternalcontrol.
A consulting engagement to provide
constructive adviceto theentity onits
internalcontrol.

149. An engagement to examine internal control will


gener
ally
a. Requireproceduresthatduplicatethosealready
appliedinassessingcontrolriskduringa
financialstatementaudit.
b. Increasethereliabilityofthefinancial
statements that have already been
audited.
c. Be more extensive in scope than the
assessmentofcontrolriskmadeduring
afinancialstatementaudit.
d. Bemorelimitedinscopethanthe
assessmentofcontrolriskmadeduring
afinancialstatementaudit.
150. Howdothescope,procedures,andpurposeofan
examinationofinternalcontrolcompareto
thoseforobtaininganunderstandingofinternal
controlandassessingcontrolriskaspartofan

a.
b.
c.
d.

Scope
Similar
Different
Different
Different

Procedures
Different
Similar
Different
Similar

Purpose
Similar
Similar
Different
Different

151. Whenanindependentauditorreportsoninternal
control based on criteria established by
governmentalagencies,thereportshould
a. Notincludetheagencysnameinthereport.
b.

Indicatematterscoveredbythestudyand
whethertheauditorsstudyincludedtests
of controls with the procedures covered
bythestudy.

c.

Not express a conclusion based on


theagencyscriteria.

d.

Assumeresponsibilityforthe
comprehensivenessofthecriteria
establishedbytheagencyandinclude
recommendationsforcorrectiveaction.

152. Whenanexaminationhasbeenperformedonthe
effectivenessofentitysinternalcontrolover
financialreportingandamaterialweaknesshas
beennoted,thepractitionersreportshould
expressanopinionon
a. Theassertion.
b. Thesubjectmattertowhichtheassertionrelates.
c. Neitheroftheabove.
d. Bothoftheabove.
153. Inassessingthecompetenceofaninternal
auditor,anindependentCPAmostlikelywould
obtaininformationaboutthe
a. Quality of the internal auditors
workingpaperdocumentation.
b. Organizationscommitmenttointegrity
andethicalvalues.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

80
c.

Influenceofmanagementonthescopeoftheinter160.Iftheindependentauditorsdecidethattheworkper
formedbytheinternalauditormayhaveabearingontheir
nalauditorsduties.
ownprocedures,theyshouldconsidertheinternalauditors
d. Organizational level to which the
internalauditorreports.
a.
Competenceandobjectivity.
b.
Efficiencyandexperience.
154. Forwhichofthefollowingjudgmentsmayanindependent
c.
Independenceandreviewskills.
auditorshareresponsibilitywithanentitysinternalauditor
d.
Trainingandsupervisoryskills.
whoisassessedtobebothcompetentandobjective?
obtainedfrom
Assessmentof
Assessmentof
a. Discussionswithmanagementpersonnel.
inherentrisk
controlrisk
b. External quality reviews of the
a.
Yes
Yes
internalauditorsactivities.
b.
Yes
No
c.
No
Yes
c. Previousexperiencewiththeinternalauditor.
d.
No
No
d. Theresultsofanalyticalprocedures.
155.Theworkofinternalauditorsmayaffectthe
independentauditors
I.

Procedures performed in obtaining an


understandingofinternalcontrol.
AI. Proceduresperformedinassessingtheriskof
materialmisstatement.
BI. Substantive procedures performed in
gatheringdirectevidence.

a.
b.
c.
d.

IandIIonly.
IandIIIonly.
IIandIIIonly.
I,II,andIII.

156. Aninternalauditorsworkwouldmostlikely
affectthenature,timing,andextentofan
independentCPAsauditingprocedureswhen
theinternalauditorsworkrelatestoassertions
aboutthe
a. Existenceofcontingencies.
b. Valuationofintangibleassets.
c. Existenceoffixedassetadditions.
d. Valuationofrelatedpartytransactions.
157. Duringanauditaninternalauditormayprovide
directassistancetoanindependentCPAin

a.
b.
c.
d.

Obtainingan
understandingof
internalcontrol
No
Yes
Yes
Yes

Performing
testsof
controls
No
No
Yes
Yes

Performing
substantive
tests
No
No
No
Yes

158. When assessing the internal auditors


competence,theindependentCPAshouldobtain
informationaboutthe
a. Organizational level to which the
internalauditorsreport.
b. Educational background and
professional certification of the
internalauditors.
c. Policies prohibiting the internal
auditors from auditing areas where
relativesareemployed.
d. Internal auditors access to records and
informationthatisconsideredsensitive.
159. Inassessingthecompetenceandobjectivityof
anentitysinternalauditor,anindependent
auditorwouldleastlikelyconsiderinformation

161. In assessing the objectivity of internal


auditors,anindependentauditorshould
a. Evaluatethequalitycontrolprogram
ineffectfortheinternalauditors.
b. Examine documentary evidence of
theworkperformedbytheinternal
auditors.
c. Testasampleofthetransactionsand
balances that the internal auditors
examined.
d. Determine the organizational level to
whichtheinternalauditorsreport.
162. Dunn,CPA,isauditingthefinancialstatementsofTaftCo.
TaftusesQuickServiceCenter(QSC)toprocessits
payroll.Price,CPA,isexpressinganopiniononadescrip
tionofthecontrolsimplementedatQSCregardingthe
processingofitscustomerspayrolltransactions.Dunnex
pectstoconsidertheeffectsofPricesreportontheTaft
engagement.Pricesreportshouldcontaina(n)
a. Descriptionofthescopeandnatureof
Pricesprocedures.
b. StatementthatDunnmayassesscontrol
riskbasedonPricesreport.
c. AssertionthatPriceassumesno
responsibilitytodeterminewhether
QSCscontrolsaresuitablydesigned.
d. Opinion on the operating
effectiveness of QSCs internal
controls.
163. PayrollDataCo.(PDC)processespayrolltransactionsfora

retailer.Cook,CPA,isengagedtoexpressanopinionona
descriptionofPDCsinternalcontrolsimplementedasofa
specificdate.Thesecontrolsarerelevanttotheretailers
internalcontrol,soCooksreportmaybeusefulinproviding
theretailersindependentauditorwithinformationnecessary
toplanafinancialstatementaudit.Cooksreportshould

a.
b.
c.
d.

Contain a disclaimer of opinion on


theoperatingeffectivenessofPDCs
controls.
StatewhetherPDCscontrolswere
suitably designed to achieve the
retailersobjectives.
Identify PDCs controls relevant to
specificfinancialstatementassertions.
Disclose Cooks assessed level of
controlriskforPDC.

164. The auditor who audits the processing of


transactionsbyaserviceorganizationmayissuea
reportoncontrols
a.
b.
c.
d.

Implemented
Yes
Yes
No
No

Operatingeffectiveness
Yes
No
Yes
No

165.ComputerServicesCompany(CSC)processes
payrolltransactionsforschools.Drake,CPA,isengagedto
reportonCSCspoliciesandproceduresimplementedasofa
specificdate.Thesepoliciesandproceduresarerelevantto
theschoolsinternalcontrol,soDrakesreportwillbeuseful
inprovidingtheschoolsindependentauditorswithinfor

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
mationnecessarytoplantheiraudits.Drakesreport
expressinganopiniononCSCspoliciesand
proceduresimplementedasofaspecificdateshould
containa(n)
a. Descriptionofthescopeandnatureof
Drakesprocedures.
b.

StatementthatCSCsmanagementhas
disclosed to Drake all design
deficienciesofwhichitisaware.

c.

Opinion on the operating


effectivenessofCSCspoliciesand
procedures.
Paragraph indicating the basis for
Drakesassessmentofcontrolrisk.

d.

166. Lake,CPA,isauditingthefinancialstatements
ofGillCo.GillusestheEDPServiceCenter,
Inc.toprocessitspayrolltransactions.EDPs
financialstatementsareauditedbyCope,CPA,
whorecentlyissuedareportonEDPsinternal
control.LakeisconsideringCopesreporton
EDPsinternalcontrolinassessingcontrolrisk
ontheGillengagement.WhatisLakes
responsibilityconcerningmakingreferenceto
Copeasabasis,inpart,forLakesownopin
ion?
a. LakemayrefertoCopeonlyifLake
issatisfiedastoCopesprofessional
reputationandindependence.
b. LakemayrefertoCopeonlyif
LakereliesonCopesreportin
restrictingtheextentofsubstantive
tests.
c. Lake may refer to Cope only if
Lakesreportindicatesthedivision
ofresponsibility.
d. Lake may not refer to Cope
underthecircumstancesabove.

81

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

82

SIMULATIONS

TaskBasedSimulation1
CashReceipts

andBilling

Authoritative
Literature

Help

AnauditorsworkingpapersincludethenarrativedescriptionofthecashreceiptsandbillingportionsofSouthwest
MedicalCentersinternalcontrol.Evaluatetheinformationinthesituationasbeingeither(1)astrength,(2)aweakness,(3)not
astrengthoraweakness.
Southwestisahealthcareproviderthatisownedbyapartnershipoffivephysicians.Itemployselevenphysicians,in
cludingthefiveowners,twentynurses,fivelaboratoryandXraytechnicians,andfourclericalworkers.Theclericalworkers
performsuchtasksasreception,correspondence,cashreceipts,billing,accountsreceivable,bankdeposits,andappointment
scheduling.Theseclericalworkersarereferredtointhesituationasofficemanager,clerk#1,clerk#2,andclerk#3.Assume
thatthenarrativeisacompletedescriptionofthesystem.
AbouttwothirdsofSouthwestspatientsreceivemedicalservicesonlyafterinsurancecoverageisverifiedbytheoffice
managerandcommunicatedtotheclerks.Mostoftheotherpatientspayforservicesbycashorcheckwhenservicesare
rendered,althoughtheofficemangerextendscreditonacasebycasebasistoabout5%ofthepatients.
Whenservicesarerendered,theattendingphysicianpreparesaprenumberedserviceslipforeachpatientandgivesthe
sliptoclerk#1forpricing.Clerk#1completestheslipandgivesthecompletedsliptoclerk#2andacopytothepatient.
Usingtheinformationonthecompletedslip,clerk#2performsoneofthefollowingthreeproceduresforeachpatient:
Clerk#2filesaninsuranceclaimandrecordsareceivablefromtheinsurancecompanyiftheofficemanagerhas
verifiedthepatientscoverage,or

Clerk#2postsareceivablefromthepatientonclerk#2sPCiftheofficemanagerhasapprovedthepatientscredit,or
Clerk#2receivescashoracheckfromthepatientasthepatientleavesthemedicalcenter,andclerk#2recordsthe
cashreceipt.
Attheendofeachday,clerk#2preparesarevenuesummary.
Clerk#1performscorrespondencefunctionsandopenstheincomingmail.Clerk#1giveschecksfrominsurancecompa
niesandpatientstoclerk#2fordeposit.Clerk#2poststhereceiptofpatientschecksonclerk#2sPCpatientreceivablerec
ordsandinsurancecompaniescheckstothereceivablesfromtheapplicableinsurancecompanies.Clerk#1givesmailre
quiringcorrespondencetoclerk#3.
Clerk#2stampsallchecksfordepositonlyandeachdaypreparesalistofchecksandcashtobedepositedinthebank.
(Thislistalsoincludesthecashandcheckspersonallygiventoclerk#2bypatients.)Clerk#2keepsacopyofthedepositlist
andgivestheoriginaltoclerk#3.
Clerk#3personallymakesthedailybankdepositandmaintainsafileofthedailybankdeposits.Clerk#3alsoperforms
appointmentschedulingforallofthedoctorsandvariouscorrespondencefunctions.Clerk#3alsomaintainsalistofpatients
whoseinsurancecoveragetheofficemanagerhasverified.
Wheninsuranceclaimsorpatientreceivablesarenotsettledwithinsixtydays,clerk#2notifiestheofficemanager.Theof
ficemanagerpersonallyinspectsthedetailsofeachinstanceofnonpayment.Theofficemangerconvertsinsuranceclaimsthat
havebeenrejectedbyinsurancecompaniesintopatientreceivables.Clerk#2recordsthesepatientreceivablesonclerk#2sPC
anddeletesthesereceivablesfromtheapplicableinsurancecompanies.Clerk#2deletesthepatientreceivablesthatappeartobe
uncollectiblefromclerk#2sPCwhenauthorizedbytheofficemanager.Clerk#2preparesalistofpatientswithuncollectible
balancesandgivesacopyofthelisttoclerk#3,whowillnotallowthesepatientstomakeappointmentsforfutureservices.
Onceamonthanoutsideaccountantpostsclerk#2sdailyrevenuesummariestothegeneralledger,preparesamonthly
trialbalanceandmonthlyfinancialstatements,accountsforprenumberedserviceslips,filespayrollformsandtaxreturns,and
reconcilesthemonthlybankstatementstothegeneralledger.Thisaccountantreportsdirectlytothephysicianwhoistheman
agingpartner.
AllfourclericalemployeesperformtheirtasksonPCsthatareconnectedthroughalocalareanetwork.EachPCisacces
siblewithapasswordthatisknownonlytotheindividualemployeeandthemanagingpartner.Southwestusesastandardsoft
warepackagethatwasacquiredfromasoftwarecompanyandthatcannotbemodifiedbySouthwestsemployees.Noneofthe
clericalemployeeshaveaccesstoSouthwestscheckwritingabilities.
Foreachofthefollowingconditionsindicatewhetheritisastrength,weakness,orneither.
(checks) from patients
Condition
and records the cash
1. Southwest is involved only in medical services and has not
receipt.
diversifieditsoperations.
2.
3.

Insurancecoverageforpatientsisverifiedandcommunicatedtothe
clerksbytheofficemanagerbeforemedicalservicesarerendered.

Thephysicianwhorendersthemedicalservicesdocumentstheservicesona
prenumberedslipthatisusedforrecordingrevenueandasareceiptforthe
patient.
4.

Cash collection is centralized in that Clerk #2receives the cash

Strength

Weakness

Neither

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
Condition
5.

8.

Southwestextendscreditratherthanrequiringcashorinsuranceinallcases.

6.

Theofficemanagerextendscreditonacasebycasebasisratherthan
usingaformalcreditsearchandestablishedcreditlimits.

7.

Theofficemanagerapprovestheextensionofcredittopatientsand
alsoapprovesthewriteoffsofuncollectiblepatientreceivables.

Clerk#2receivescashandchecksandpreparesthedailybankdeposit.
9.

Clerk#2maintainstheaccountsreceivablerecordsandcanaddor
deleteinformationonthePC.

10. Prenumberedserviceslipsareaccountedforonamonthlybasisby
theoutsideaccountantwhoisindependentoftherevenue
generatingandrevenuerecordingfunctions.

83

Strength

Weakness

Neither

11. Thebankreconciliationispreparedmonthlybytheoutsideaccountantwhois
independentoftherevenuegeneratingandrevenuerecordingfunctions.
12. Computerpasswordsareonlyknowntotheindividualemployeesandthe
managingpartnerwhohasnodutiesintherevenuerecordingfunctions.

13. ComputersoftwarecannotbemodifiedbySouthwestsemployees.
14. Noneoftheemployeeswhoperformdutiesintherevenuegenerating
andrevenuerecordingareabletowritechecks.

TaskBasedSimulation2
Purchasesand
Disbursements

Authoritative
Literature

Help

Thefollowingflowchartdepictspartofaclientspurchasesandcashdisbursementscycle.Someoftheflowchartsymbols
arelabeledtoindicateoperations,controls,andrecords.Foreachsymbolnumbered1through12,selectoneresponsefromthe
answerlistsbelow.Eachresponseinthelistsmaybeselectedonceornotatall.
Connectors,documents,departments,andfiles
Operationsandcontrols
J.Accountspayable
O.PurchaseorderNo.5
A. Approvereceivingreport
K.Canceledvoucher
P.ReceivingreportNo.1
B. Prepareandapprovevoucher
package
Q.Stores
C. Preparepurchaseorder
L.Frompurchasing
R.Tovendor
D. Preparepurchaserequisition
M.Fromreceiving
S.Treasurer
E. Preparepurchasesjournal
N.Fromvouchers
T.Unpaidvoucherfile,
F. Preparereceivingreport
payable
filedbyduedate
G. Preparesalesjournal
H. Preparevoucher
I.

Signchecksandcancelvoucherpackagedocuments

PURCHASING

RECEIV
ING
From
Purch.

From
Stores

Pur. Order
Approved
Requisition

4
4

Requisition

6
Receive
Goods
Match with
Pur. Order

Requisition
1
Pur. Order
5
Pur. Order
4
Pur. Order

VOUCHERS
PAYABLE

From
Vendor

Invoice

By
File Pending
Arrival of all
Documents

10

Name

Match

From
Vouchers
Payable

Voucher Package
Requisition
Pur. Order
Rec. Report
1
Invoice
Approved
1
Voucher

Review

1
5

Pur. Order
Purchase
Order

2
1

To
Stores

By
Number

1.
2.

3.
4.
5.
6.

To
Receiving
To
Vouchers
Payable

7.
8.
9.
10.
11.
12.
Pur. Order
Rec. Report
Rec. Report
Rec. Report
2
Receiving
1
Report

4
4
3

To Vouchers
Payable

For Receipts and


Returns

To
Stores
By
Number

Docu-

ments

8
Vouc
her
R
e
q
ui
si
ti
o
n
Pur.
Ord
er
R
e
c.
R
e
p
o
rt
In
voi
ce

1
5

A
pp
ro
ve
d 1
Vouche
r
General
Accoun
By
9

To Trea-

On Due

surer

Date

ing

Documents,
Prepare Check &
Remittance Advice

11

Check Copy
Remittance
Signed Check
Remittance
1
Advice

12

By
Number

Cancelled
Voucher
Package File

To
Vendor

To
General
Accounting

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

85

TaskBasedSimulation3
Research
Authoritative
Literature

Help

InternalControlLimitations
InadiscussionwiththecontrollerofGemcon,thetopicoflimitationsofinternalcontrolarose.Relatedly,theProfessional
Standardsacknowledgethatinternalcontrolhascertainlimitationsthataffectfinancialstatementaudits.Searchthe
ProfessionalStandardstofindthelocationatwhichanumberoflimitationsarediscussedtogether.
Selections
A. AU
B. PCAOB
C. AT
D. AR

E.
F.
G.
H.

ET
BL
CS
QC
(A)(B)(C)(D)(E)(F)(G)(H)

1.

WhichtitleoftheProfessionalStandardsaddressesthisissue?

2.

Entertheexactsectionandparagraphnumbersthatdescribethelimitations.

TaskBasedSimulation4
Sales/Shipping
Process

Authoritative

Literature

Help

YouareworkingforSmith&Co.CPAs.ThefollowingpartiallycompletedflowchartdepictspartofWelcoreInc.,your
clientsrevenuecycle.Someoftheflowchartsymbolsarelabeledtoindicatecontrolsandrecords.Foreachsymbolnumbered
1though13,selectoneresponsefromalltheanswerlistsbelow.Eachresponseinthelistsmaybeselectedonceornotatall.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

86

SALESDEPT.
From
Custome
r
Cust.
Credit
File

WAREHOUSE
&
SHIPPING
DEPARTMENT

COMPUTER
PROCESSING
DEPARTMENT

COMPUTERIZEDORDER
PROGRAM:

1andperformeditchecks
andpreparesalesorder

From
Computer

COMPUTERIZEDSHIPPING
PROGRAM:
RetrieveOpenOrders;
AddShippingData;
TransfertoShippingFile;and
PrepareShippingDocuments

Processing

Dept.

SalesOrder

Customer
Purchase
Order

3
SalesOrder
SalesOrder
SalesOrder

Transmit
Customer
Datato
Computer

Customer
Purchase
Order

CustomerP.O.
SalesOrder
SalesOrder

2
1

To
Customer

2
1

To
Warehouse
andShipping
Dept.

ShippingDoc.
Shipping
Document

2
1

Accounts
Rec.
Master
File

Trans
action

10

File

File

File

COMPUTERIZEDBILLING
PROGRAM;
RetrieveShippingData;
EnterPriceData;
PrepareSales
TransactionFile;and

Sales
Inventory
Master

Shipping

COMPUTERIZEDUPDATE

PROGRAM;

Updatemasterfiles;
PrepareG/LTransaction
Summary,PrepareAccounts
ReceivableLedger,Prepare
AgedT/B,and11

To
Customer

2
1

TransmitShipping
Information
toComputer

SalesOrder
ShippingDoc.
General
Ledger
Transaction
Summary

Shipping
Accounts
Receivable
Ledger

12

To

To

Accounting

Accounting

To
Accounts
Receivable

1.

8.

2.

9.

3.

10.

4.

11.

5.

12.

6.

13.

13

To
Customer
Credit

Document

To
Customer
with
Goods

7.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

L.
M.
N.
O.

A.
B.
C.
D.
E.
F.
G.
H.
I.
J.
K.

Operationsandcontrols
Entershippingdata
Verifyagreementofsalesorderandshippingdocument
Writeoffaccountsreceivable
Towarehouseandshippingdepartment
Authorizeaccountreceivablewriteoff
Prepareagedtrialbalance
Tosalesdepartment
Releasegoodsforshipment
Toaccountsreceivabledepartment
Enterpricedata
Determinethatcustomerexists
Matchcustomerpurchaseorderwithsalesorder
Performcustomercreditcheck
Preparesalesjournal
Preparesalesinvoice

TaskBasedSimulation5
Research

Documents,journals,ledgers,andfiles
P. Shippingdocument
Q. Generalledgermasterfile
R. Generaljournal
S. Masterpricefile
T. Salesjournal
U. Salesinvoice
V. Cashreceiptsjournal
W. Uncollectibleaccountsfile
X. Shippingfile
Y. Agedtrialbalance
Z. Openorderfile

87

Authoritative
Literature

Help

InternalControlReporting
ThepresidentofWelcoreInc.,anonpublicauditclientofyourfirm,hasindicatedtoyouthathebelievesthat
hemaytakethecompanypublicinayearortwo.Heaskedyouwhether,inadditiontoyourreportonthe
financialstaments,yourfirmcanissueareportoninternalcontrolthathecouldmakeavailabletoanyindividualor
organizationhesodesired.Heindicatedthathewouldliketohavetworeportsasdopubliccompaniesoneon
thefinancialstatementsandoneonthecompanysinternalcontrol.
Selections
A. AU
B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
(A)(B)(C)(D)(E)(F)(G)(H)
1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtohim?
2. Entertheexactsectionnumberthatprovidestheappropriateguidance.
TaskBasedSimulation6
PurchasingReceiving,
andAccountsPayable

Authoritative

Literature

Help

Thefollowingflowchartdepictstheactivitiesrelatingtothepurchasing,receiving,andaccountspayable
departmentsofModelCompany,Inc.AssumethatyouareasupervisingassistantassignedtotheModel
Companyaudit.

88

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
PURCHASIN
G

RECEIVIN
G

ACCOUNTSPAYABLE

From

From

Dept.

From

Head

Purchasing

Fro
m

From
Purchasing

Vendor

Receiving

PurchaseOrder
withQuantity
BlackedOut

Approved
Requisition
Formin

P.O.3

Requisition

Rec.Report

Invoice

Duplicate
GoodsRec'd
AssuresBest
Priceis

&Counted
Independently

ByVendor
Pending

Obtained&
Requestis

inSecure
Facility

Invoice

Matches4
Doc
&
Recomputes
Math
Accuracy
of
Invoices

Receipt

withinBudget
Limits
Prepares

VerifiesAdequacy

Approves&
Prepares3
Copy

4Copy

ofVendor'sPast

Receiving

Record&

Voucher
(Prenumbered)

Report

Prepares5
CopyPurchase
Order

ComparesInvoice
Quantity
&
Priceto
P.O.
&Rec.
Report
Quantity

Rec.
Requisition

Report

P.O.

P.O.5

Rec.Report

P.
O.
P.O.3

Requisition

P.O.

Rec.Report
Receiving
1

Vo
uch
er

Rec.Report

Vouche
r

Requisition

P.O.

Invoice

Report

Vou
cher

(Prenumbered)

PurchaseOrder1

(Prenumbered)

ByP.O.#
To
Accounts
Payable

To
Vendor
To
Accounts
Payable

To
Receiving
Dept.

ToDept.
Headfor
Count&
Quality

Check

To

Purchasing

To
General
Acctg.

RecordedinVoucher
Register&
Independently
ReconciledMonthly
toControlAccounts

ByP.O.#
By
Voucher#

To
Dept.
Head

JoeWerell,abeginningassistant,analyzedtheflowchartandhassupplementedtheflowchartbymakingcertaininquiries
ofthecontroller.Hehasconcludedthattheinternalcontroloverpurchasing,receiving,andaccountspayableisstrongandhas
providedthefollowinglistofwhathereferstoasinternalcontrolstrengths.Reviewhislistandforeachinternalcontrol
strengthindicatewhetheryouagreeordisagreethateachrepresentsastrength.
I
nP
r
P
1.
2.
3.
4.
5.

T
h
P
r
P
P
u
T
R

6.

7.

R
e
A

8.
9.

T
h
10. R

A
g

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

13. A
l
14. A
l
15. T

89

TaskBasedSimulation7
Research
Authoritative
Literature

Help

InternalControlCommunications
OntheAdamsaudityourfirmdiscoveredcertainimmaterialauditjudgmentsthattheclientsmanagementchose
nottorecord.Managementhasnowaskedyounottocommunicateanythingregardingtheseomittedentriestotheaudit
committeeafterall,theyareimmaterial.
Selections
A. AU
B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC

(A)(B)(C)(D)(E)(F)(G)(H)
1.

WhichtitleoftheProfessionalStandardsaddressesthisissue?

2.

Entertheexactsectionnumberandparagraphsthataddresscommunication
oftheseuncorrectedmisstatementstotheauditcommittee.

TaskBasedSimulation8
InternalControlRelated
MattersCommunication

Authoritative

Literature

Help

Youhavebeenaskedtotheauditpartnertodraftalettertotheclientoninternalcontrolrelatedmatters.Youwere
informedthatthewrittencommunicationregardingsignificantdeficienciesandmaterialweaknessesindentifiedduringan
auditoffinancialstatementsshouldincludecertainstatements.
Foreachofthesignificantdeficienciesandmaterialweaknessesreflectedinthetablebelow,doubleclickoneachof
theassociatedshadedcellsandselectfromthelistprovidedtheappropriatedispositionofeachstatementinregardtothe
lettertotheclientoninternalcontrolrelatedmatters.Eachselectionmaybeusedonce,morethanonce,ornotatall.
SelectionList

Included
Excluded
Included,butonlywithclientmanagementsapproval
Communicatedorallywithnoneedtodocumentthecommunication

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

90

Internalcontrols
Statethatthepurposeoftheauditwastoexpressan
opiniononthefinancialstatements,andtoexpressan
opinionontheeffectivenessoftheentitysinternal
controloverfinancialreporting.

Relatedmatters

Identify,ifapplicable,itemsthatareconsideredtobe
materialweaknesses.
Statethattheauthorisnotexpressinganopiniononthe
effectivenessofinternalcontrol.
Includethedefinitionofthetermsignificantdeficiency.
Includethedefinitionofthetermmaterialweakness,
whererelevant.
Statethattheauthorisexpressinganunqualifiedopinion
ontheeffectivenessofinternalcontrol.
Statethatthecommunicationisintendedsolelyfor
managementandexternalparties.
Identifythemattersthatareconsideredtobesignificant
deficiencies.

TaskBasedSimulation9
Research
Authoritative
Literature

Help

Integratedaudits
AssumethatyouareassignedtotheauditofRegisCorporation,anissuercompany.Yourfirmisperformingitsfirst
integratedauditforthecompany,andthepartnerontheengagementhasaskedyoutoresearchprofessionalstandardsto
identifythecontrolsthataddresstheriskoffraud.
Selections
A. AU
B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
(A)(B)(C)(D)(E)(F)(G)(H)
1.

WhichtitleoftheProfessionalStandardsaddressesthisissue?

2.

Entertheexactsectionandparagraphwithhelpfulinformation.

MODULE3

UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

91

MULTIPLECHOICEANSWERS

1.
2.
3.
4.
5.

a
d
b
b
c

__
__
__
__
__

__
__
__
__
__

35.
36.
37.
38.
39.

d
a
b
d
c

__
__
__
__
__

__
__
__
__
__

69.
70.
71.
72.
73.

c
a
d
a
a

__
__
__
__
__

__
__
__
__
__

103.
104.
105.
106.
107.

c
c
c
c
b

__
__
__
__
__

__
__
__
__
__

137.
138.
139.
140.
141.

d
b
b
b
b

__
__
__
__
__

__
__
__
__
__

6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
22.
23.
24.
25.
26.
27.
28.
29.
30.
31.
32.
33.
34.

b
d
a
d
a
d
b
a
a
b
b
b
a
a
d
b
b
c
d
d
d
c
d
d
a
c
d
d
a

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

40.
41.
42.
43.
44.
45.
46.
47.
48.
49.
50.
51.
52.
53.
54.
55.
56.
57.
58.
59.
60.
61.
62.
63.
64.
65.
66.
67.
68.

a
c
a
b
a
c
d
a
d
d
d
a
d
d
b
c
a
a
a
c
a
a
b
c
a
b
b
c
c

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

74.
75.
76.
77.
78.
79.
80.
81.
82.
83.
84.
85.
86.
87.
88.
89.
90.
91.
92.
93.
94.
95.
96.
97.
98.
99.
100.
101.
102.

c
b
a
a
c
d
b
a
a
d
c
d
b
c
b
b
d
b
d
b
b
d
d
b
b
d
c
d
d

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

108.
109.
110.
111.
112.
113.
114.
115.
116.
117.
118.
119.
120.
121.
122.
123.
124.
125.
126.
127.
128.
129.
130.
131.
132.
133.
134.
135.
136.

b
a
a
c
c
a
c
a
c
c
a
d
d
a
a
b
d
d
d
d
b
a
c
d
c
c
c
d
c

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__
__

142.
143.
144.
145.
146.
147.
148.
149.
150.
151.
152.
153.
154.
155.
156.
157.
158.
159.
160.
161.
162.
163.
164.
165.
166.

b
b
b
a
a
d
a
c
d
b
b
a
d
d
c
d
b
d
a
d
a
a
a
a
d

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MULTIPLECHOICEANSWEREXPLANATIONS

A.1.DefinitionofInternalControl
1.

(a)Therequirementistoidentifythereplythatmostlikely
wouldnotbeconsideredaninherentlimitationofthe
potentialeffectivenessofanentitysinternalcontrol.An
swer(a)iscorrectbecauseincompatibledutiesmaygener
allybedividedamongindividualsinsuchamannerasto
controltheproblem.Answers(b),(c),and(d)areallincor
rectbecausemanagementoverride,mistakesofjudgment,
andcollusionamongemployeesareallinherentlimitations
ofinternalcontrol.

2.

(d)Therequirementistoidentifythemeaningofthe
conceptofreasonableassurance.Answer(d)iscorrectbe
causereasonableassurancerecognizesthatthecostofinter
nalcontrolshouldnotexceedthebenefitsexpectedtobe
derived.
3.

(b)Therequirementistoidentifythefunctions
thatshouldbesegregatedforeffectiveinternal
control.Answer(b)iscorrectbecause
authorizingtransactions,recordingtransactions,
andmaintainingcustodyofassetsshouldbe
segregated.

A.2.MajorComponentsofInternalControl
4.(b)Therequirementistoidentifythemostlikelytype
ofongoingmonitoringactivity.Answer(b)iscorrect

becauseongoingmonitoringinvolvesassessingthedesign
andoperationofcontrolsonatimelybasisandtaking
necessarycorrectiveactionsandsuchanapproachmaybe
followedinreviewingthepurchasingfunction.Answer(a)
isincorrectbecauseperiodicauditsarenotordinarilyper
formedbytheauditcommittee,asubcommitteeofthe
BoardofDirectors.Answer(c)isincorrectbecausethe
auditoftheannualfinancialstatementsisnotordinarily
consideredmonitoringaspresentedintheprofessional
standards.Answer(d)isincorrectbecausethemeaningof
thereply,controlriskassessmentinconjunctionwith
quarterlyreviews,isuncertain.
5.

(c)Therequirementistoidentifywherethe
overallattitudeandawarenessofanentitysboard
ofdirectorsconcerningtheimportanceofinternal
controlisnormallyreflected.Answer(c)is
correctbecausethecontrolenvironmentreflects
theoverallattitude,awareness,andactionsofthe
boardofdirectors,management,owners,and
othersconcerningtheimportanceofcontroland
itsemphasisintheentity.

6.

(b)Therequirementistoidentifythe
circumstanceinwhichmanagementphilosophy
andoperatingstylewouldhaveasignificant
influenceonanentityscontrolenvironment.
Answer(b)iscorrectbecausemanagement
philosophyandoperatingstyle,whilealways
important,isparticu

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

92

larlysowhenmanagementisdominatedbyoneora
fewindividualsbecauseitmayimpactnumerous
otherfactors.Answer(a)isincorrectbecausethe
impactoftheinternalauditorreportingdirectlyto
managementislikelytobelessthanthatofanswer
(a).Answer(c)isincorrectbecausewhileaccurate
managementjobdescriptionsaredesirable,theydo
nothaveassignificantofaneffectonmanagement
philosophyandoperatingstyleasdoesdominationby
anindividual.Answer(d)isincorrectbecausean
activeauditcommitteemighttemperratherthanlead
toamoresignificantinfluenceofmanagement
philosophyandoperatingstyle.
7.

(d)Therequirementistodeterminewhichofthe
factorslistedareincludedinanentityscontrol
environment.Answer(d)iscorrectbecausetheaudit
committee,integrityandethicalvalues,and
organizationstructureareallincluded.
8.

(a)Therequirementistoidentifythereply
thatisnotacomponentofanentitys
internalcontrol.Answer(a)iscorrect
becausewhileauditorsassesscontrolriskas
apartoftheirconsiderationofinternal
control,itisnotacomponentofanentitys
internalcontrol.Answers(b),(c),and(d)are
incorrectbecausethecontrolenvironment,
riskassessment,controlactivities,
informationandcommunication,and
monitoringarethefivecomponentsofan
entitysinternalcontrol(SAS109).

A.3.RelatedTopics
9.(d)TheForeignCorruptPracticesActmakespay
mentofbribestoforeignofficialsillegalandrequires
publiclyheldcompaniestomaintainsystemsof
internalcontrolsufficienttoprovidereasonable
assurancesthatinternalcontrolobjectivesaremet.
B.1.ObtainUnderstandingoftheClientandIts
InternalControl
10. (a)Therequirementistodeterminethemost
likelypopulationfromwhichanauditorwould
samplewhenvendorsinvoicesandrelated
vouchersrelatingtopurchasesmadeby
employeeshavebeendestroyed.Answer(a)is
correctbecausethedisbursementwillbe
recordedandtheauditormaythussamplefrom
thatpopulation.Answers(b)and(d)are
incorrectbecausetherelatedvouchersandven
dorsinvoicesaredestroyed.Answer(c)is
incorrectbecausethereisnorecordingofthe
receiptofthemerchandise.

11. (d)Therequirementistoidentifythe
procedureanauditorwouldperformto
provideevidenceaboutwhetheranentitys
internalcontrolactivitiesaresuitably
designedtopreventordetectmaterial
misstatements.Answer(d)iscorrectbecause
SAS109indicatesanauditorwillobserve
theentityspersonnelapplyingthe
procedurestodeterminewhethercontrols

havebeenimplemented.Answer(a)is
incorrectbecausereperformingtheactivities
isatestofcontroltohelpassessthe
operatingeffectivenessofacontrol.Answer
(b)isincorrectbecauseanalyticalprocedures
arenotperformedtodeterminewhether
controlsaresuitablydesigned.Answer(c)is
incorrectbecausevouchingasampleof
transactionsisasubstantivetestnotdirectly
aimedatdeterminingwhethercontrolsare
suitablydesigned.SeeSAS109fora
discussionofanauditorsresponsibilityfor
determiningwhethercontrolshavebeen
implementedvs.theiroperating
effectiveness.

(b)Therequirementistoidentifythecorrectstate
mentrelatingtotherelevanceofvarioustypesof
controlstoafinancialstatementaudit.Answer(b)is
correctbecause,generally,controlsthatarerelevantto
anauditpertaintotheentitysobjectiveofpreparing
financialstatementsforexternalpurposes.Answer(a)
isincorrectbecauseSAS109makesclearthatan
auditormaynotignoreconsiderationofcontrolsunder
anyauditapproach.Answer(c)isincorrectbecause
controloverfinancialreportingareofprimaryim
portance.Answer(d)isincorrectbecausemany
operationalandcompliancerelatedcontrolsarenot
ordinarilyrelevanttoanaudit.
(a)Therequirementistoidentifythestatement
thatrepresentsarequirementwhenanaudit
offinancialstatementsinaccordancewith
generallyacceptedaccountingprinciplesis
performed.Answer(a)iscorrectbecause
SAS109requiresthattheauditordocument
theunderstandingoftheentitysinternal
control.Answer(b)isincorrectbecause
whileanauditormightfindsignificant
deficienciesintheoperationofinternal
control,nosuchsearchisre
quired.Answer(c)isincorrectbecauseanauditor
mightuseasubstantiveapproachinperformingan
auditandtherebyperformfew(ifany)testsof
controls.Answer(d)isincorrectbecausewhile
auditorsmustobtainknowledgeofinternalcontrol
sufficientlytoidentifytypesofpotentialmis
statements,theyarenotrequiredtoobtainthedetailed
knowledgeofinternalcontrolsuggestedbythisreply.
(a)Therequirementistoidentifytheknowledge
thatanauditormustobtainwhenobtainingan
understandingofanentitysinternalcontrol
sufficientforauditplanning.Answer(a)is
correctbecauseanauditormustobtainanun
derstandingthatincludesknowledgeaboutthe
designofrelevantcontrolsandrecordsand

whethertheclienthasplacedthosecontrolsin
operation.Answers(b)and(c)areincorrect
becauseauditorsmaychoosenottoobtain
informationonoperatingeffectivenessof
controlsandtheirconsistencyofapplication.
Answer(d)isincorrectbecausethereisno
suchexplicitrequirementrelatingtocontrols;
seeSAS109forthenecessaryunderstandingof
internalcontrol.

(b)SAS109statesthattheauditorshould
obtainsufficientknowledgeofthe
information(includingaccounting)system
tounderstandthefinancialreportingprocess
usedtopreparetheentitysfinancial
statements,includingsignificantaccounting
estimatesanddisclosures.Italsostatesthat
thisknowledgeisobtainedtohelpthe
auditortounderstand(1)theentitysclasses
oftransactions,(2)howtransactionsare
initiated,(3)theaccountingrecordsand
support,and(4)theaccountingprocessing
involvedfrominitiationofatransactionto
itsinclusioninthefinancialstatements.
(b)Therequirementistodeterminewhyan
auditorshouldconcentrateonthesubstanceof
proceduresratherthantheirformwhen
obtaininganunderstandingofanentitys
controls.Answer(b)iscorrectbecause
managementmayestablishappropriate
controlsbutnotactonthem,thuscreatinga
situationinwhichtheformdiffersfromthe
substance.Answer(a)isincorrectbecause
documentationisnotdirectlyrelatedtothe
issueofsubstanceoverform.Answer(c)is
incorrectbecauseinappropriatecontrolsis
onlyapartofanauditorconcern;forexample,
acontrolmaybeappropriate,butitmaynotbe
operatingeffectively.Answer(d)isincorrect
becausewhileanauditormightsuggest

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
to management that the cost of certain controls
seemstoexceedtheirlikelybenefit,thisisnotthe
primary reason auditors are concerned with the
substanceofcontrols.
17. (b)Decisiontablesincludevarious
combinationsofconditionsthatarematchedto
oneofseveralactions.Inaninternalcontrol
setting,thevariousimportantcontrolsare
reviewedand,basedonthecombinationof
answersreceived,anactionsuchasadecision
onwhethertoperformtestsofcontrolsis
determined.Programflowchartssimply
summarizethestepsinvolvedinaprogram.
Answer(a)isincorrectbecausedecisiontables
donotemphasizetheeaseofmanageabilityfor
complexprograms.Answer(c)isincorrect
becausewhiledecisiontablesmaybedesigned
usingvariouscostbenefitfactorsrelatingtothe
variousconditionsandactions,theydonot
justifytheprogram.Answer(d)isincorrect
becauseprogramflowcharts,notdecision
tables,emphasizethesequenceinwhich
operationsareperformed.

18. (a)Therequirementistoidentifytheprocedurethatis
notrequiredtobeincludedinanauditors
considerationofinternalcontrol.Answer(a)iscorrect
becausetheauditorneednotobtainevidencerelating
tooperatingeffectivenesswhencontrolriskistobe
assessedatthemaximumlevel.Answer(b)isincorrect
becauseanauditormustobtainanunderstandingofthe
internalcontrolenvironmentandtheinformation
system.Answers(c)and(d)areincorrectbecausean
auditorisobligatedtoobtaininformationonthedesign
ofinternalcontrolandonwhethercontrolactivities
havebeenimplemented.
19. (a)Therequirementistoidentifytheprimary
objectiveofproceduresperformedtoobtain
anunderstandingofinternalcontrol.Answer
(a)iscorrectbecausetheauditorobtainsa
sufficientunderstandingofinternalcontrolto
assesstherisksofmaterialmisstatementand
todesignthenature,timing,andextentof
furtherauditprocedures.Answer(b)
addressesinherentrisk,thesusceptibilityof
anassertiontomaterialmisstatement,
assumingthattherearenorelatedcontrols.
Answer(b)isincorrectsincetheconceptof
inherentriskassumesnointernalcontroland
isthereforenottheprimaryobjective.
Answer(c)isincorrectbecauseanswer(a)is
morecompleteandbecausedecisionson
modifyingtestsofcontrolsareoftenmadeat
alaterpointintheaudit.Answer(d)is
incorrectbecausetheconsistencyof
applicationofmanagementspoliciesrelates
moredirectlytotestsofcontrolsthanto
obtaininganunderstandingofinternal
control.
20. (d)Therequirementistodeterminethe
correctstatementwithrespecttothe
auditorsrequireddocumentationofthe

93

clientsinternalcontrol.Anauditormay
documenthis/herunderstandingofthe
structureandhis/herconclusionsaboutthe
designofthatstructureintheformof
answerstoaquestionnaire,narrative
memorandums,flowcharts,decisiontables,
oranyotherformthattheauditorconsiders
appropriateinthecircumstances.Answers
(a)and(b)are,thus,incorrectbecausethey
suggestrestrictionswhichdonotexistin
practice.Answer(c)isincorrectsinceata
minimumalistofreasonsfornonreliance
mustbeprovided.

21. (b)Inobtaininganunderstandingofinternal
control,theauditorshouldperform
procedurestoprovidesufficientknowledge
ofthedesignoftherelevantcontrolsand
whethertheyhavebeenimplemented.
Informationon

operatingeffectivenessneednotbeobtainedunless
controlriskistobeassessedatalevelbelowthe
maximum.

B.2. AssesstheRiskofMaterial
MisstatementandDesignFurtherAudit
Procedures
22. (b) Answer (b) is correct because tests of
controlsareonlyrequiredwhentheauditor
relies on the controls or substantive tests
alone are not sufficient to audit particular
assertions. Answers (a), (c), and (d) are
incorrect because these procedures are
requiredoneveryaudit.

23. (c)Therequirementistoidentifythetermsinwhich
controlriskshouldbeassessed.Answer(c)iscorrect
becauseSAS109requiresthatcontrolriskbe
assessedintermsoffinancialstatementassertions.
24. (d)Therequirementistoidentifyasituation
inwhichanauditormaydesiretoseeka
furtherreductionintheassessedlevelof
controlrisk.Answer(d)iscorrectbecause
suchareductionisonlypossiblewhen
additionalevidence,evaluatedby
performingadditionaltestsofcontrols,is
available.Answer(a)isincorrectbecause
auditorsatthispointwillordinarilyalready
haveobtainedtheunderstandingofthe
informationsystemtoplantheaudit.
Furthermore,anunderstandingofinternal
controlisneededonallaudits.Answer(b)is
incorrectbecauseauditorsmustdetermine
thatcontrolshavebeenimplementedinall
audits.Answer(c)isincorrectbecausea
significantnumberofcontrolsalways
pertaintofinancialstatementassertions.
25. (d) Assessing control risk at a low level
involves

(1)identifyingspecificcontrolsrelevanttospecific
assertions that are likely to prevent or detect
materialmisstatementsinthoseassertions,and(2)
performing tests of controls to evaluate the
effectivenessofsuchcontrols.
Answer(a)isincorrectbecauseassessingcontrolrisk
atalowlevelmayleadtolessextensive,notmore
extensivesubstantivetests.Answer(b)isincorrect
becausetheactuallevelofinherentriskisnot
affectedbythelevelofcontrolrisk.Also,onewould
notexpectachangeintheassessedlevelofcontrol
risktoresultinachangeintheassessedlevelof
inherentrisk.Answer(c)isincorrectbecauseas
sessingcontrolriskatalowlevelmayleadtointerim
datesubstantivetestingratherthanyearendtesting.
26. (d)Therequirementistodeterminewhyan
auditorassessescontrolrisk.Answer(d)is
correctbecausetheassessedlevelsof
controlriskandinherentriskareusedto
determinetheacceptablelevelofdetection
riskforfinancialstatementassertions.
27. (c)Increasesintheassessedleveloftherisk
ofmaterialmisstatementleadtodecreasesin
theacceptablelevelofdetectionrisk.
Accordingly,theauditorwillneedto
increasetheextentofsubstantivetestssuch
astestsofdetails.Answer(a)isincorrect
becausetestsofcontrolsareperformedto
reducetheassessedlevelofcontrolriskonly
whencontrolsarebelievedtobeeffective.
Answer(b)isincorrectbecausethelevelof
detectionriskmustbedecreased,not
increased.Answer(d)isincorrectbecause
thelevelofinherentriskpertainstothe
susceptibilityofanaccounttomaterial
misstatementindependentofrelated
controls.
28. (d)Therequirementistodeterminethe
primarypurposeforwhichanauditoruses
theknowledgeprovidedbytheunderstanding
ofinternalcontrolandtheassessed

94

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

leveloftheriskofmaterialmisstatement.Answer(d)
iscorrectbecausetheauditorusessuchknowledgein
determiningthenature,timing,andextentof
substantivetestsforfinancialstatementassertions.
Answer(a)isincorrectbecauseitisincomplete.For
example,whileauditorsareconcernedwiththe
safeguardingofassets,theyalsoneedtodetermine
whetherthefinancialstatementinformationis
accurate.Answer(b)isincorrectforreasonssimilar
to(a)inthatdeterminingwhetheropportunitiesare
availableforcommittingandconcealingfraudis
incompletesincethisknowledgeisalsousedto
ascertainwhetherthechanceoferrorsisminimized.
Answer(c)isincorrectbecauseknowledgeprovided
bytheunderstandingofinternalcontrolandthe
assessedlevelofcontrolriskisnotusedtomodify
initialassessmentsofinherentriskandpreliminary
judgmentsaboutmaterialitylevels.Thisknowledgeis
unrelatedtothoseprocesses.
29. (d)Therequirementistoidentifyawaythatanauditor
maycompensateforaweaknessininternalcontrol.
Answer(d)iscorrectbecauseincreasinganalytical
proceduresdecreasesdetectionriskinamanner
whichmaycounterbalancetheconditionininternal
control.Ineffect,theweaknessininternalcontrolis
compensatedforbyincreasedsubstantivetesting.See
theoutlineofSAS107fortherelationshipsamong
auditriskanditscomponentrisksinherentrisk,
controlrisk,anddetectionrisk.Answer(a)isincorrect
becauseincreasingbothcontrolrisk(througha
weaknessininternalcontrol)anddetectionrisk
increasesauditrisks.Inaddition,controlriskand
detectionriskdonotcompensateforoneanother.
Answer(b)isincorrectbecauseincreasingtheextent
oftestsofcontrolsisunlikelytobeeffectivesincethe
conditionisknowntoexist.Answer(c)isincorrect
becauseitisnotgenerallyappropriatetoincreasethe
judgmentastoauditriskbasedontheresultsobtained.
30. (a)Therequirementistoidentifythecorrectstatement
concerninganauditorsassessmentofcontrolrisk.
Answer(a)iscorrectbecauseSAS109indicatesthat
assessingcontrolriskmaybeperformedconcurrently
duringanauditwithobtaininganunderstandingof
internalcontrol.Answer(b)isincorrectbecause
evidenceabouttheoperationofinternalcontrol
obtainedinpriorauditsmaybeconsideredduringthe
currentyearsassessmentofcontrolrisk.Answer(c)is
incorrectbecausethebasisforanauditorsconclusions
abouttheassessedlevelofcontrolriskneedstobe
documentedwhencontrolriskisassessedat
levelsotherthanthemaximumlevel.Answer(d)is
incorrectbecausealowerlevelofcontrolrisk
requiresmoreassurancethatthecontrolprocedures
areoperatingeffectively.
31.(c)Therequirementistodeterminethe
correctstatementconcerningtheassessedlevelof
controlrisk.Answer(c)iscorrectbecauseordinarily
theassessedlevelofcontrolriskcannotbe
sufficientlylowtoeliminatetheneedtoperformany
substantiveteststorestrictdetectionriskfor
significanttransactionclasses.Answer(a)isincorrect
becausetestsofcontrolsareunnecessarywhen

controlriskisassessedatthemaximumlevel.Answer
(b)isincorrectbecauseanalyticalproceduresarenot
designedtoverifythedesignofinternalcontrol.
Answer(d)isincorrectbecausedualpurposetests
(i.e.,thosethatserveasbothsubstantivetestsandtests
ofcontrols)arenotrequiredtobeperformed,and
becausethetermpreliminarycontrolriskisunclear.

B.3.PerformFurtherAuditProceduresTestsof
Controls
32. (d)Therequirementistoidentifyhow
frequentlycontrolsthattheauditorwishesto
relyuponmustbetested.Answer(d)is
correctbecausetheprofessionalstandards
requireauditorstotestcontrolsatleastevery
thirdyear.Answer(a)isincorrectbecause
controlsneednotbetestedmonthly.Answer
(b)isincorrectbecauseordinarilycontrols
neednotbetestedwitheachaudit.Answer
(c)isincorrectbecauseauditorsmaytest
suchcontrolseverythirdyear,notevery
secondyear.
33. (d)Therequirementistoidentifythetypeof
audittestmostlikelytoprovideassurance
thatcontrolsareinuseandoperating
effectively.Answer(d)iscorrectbecause
inspectionofdocumentsisaformofatestof
controls,andsuchtestsareusedtoobtain
reasonableassurancethatcontrolsareinuse
andoperatingeffectively.Answer(a)isin
correctbecauseauditorsprepareflowcharts
todocumentacompanysinternalcontrol,
nottoobtainassurancethatcontrolsarein
useandoperatingeffectively.Answer(b)is
incorrectbecausesubstantivetestsrelateto
theaccuracyofaccountsandassertions
ratherthantestingcontrolsdirectly.Answer
(c)isincorrectbecauseanalyzingtestsof
trendsandratiosisananalyticalprocedure
thatdoesnotdirectlytestcontrols.
34. (a)Therequirementistoidentifythe
appropriateproceduresfortestingthe
segregationofdutiesrelatedtoinventory.
Answer(a)iscorrectbecauseSAS109
suggeststhatwhennoaudittrailexists(as
isoftenthecaseforthesegregationof

duties)anauditorshouldusethe
observationandinquirytechniques.
35. (d)Therequirementistoidentifytheobjectiveoftests
ofdetailsoftransactionsperformedastestsof
controls.Answer(d)iscorrectbecausethepurposeof
testsofcontrolsistoevaluatewhetherinternalcontrol
operateseffectively.Answer(a)isincorrectbecause
whilemonitoringthedesignanduseofentity
documentsmaybeviewedasatestofcontrols,itis
nottheobjective.Answer(b)isincorrectbecause
determiningwhetherinternalcontrolisimplementedis
notdirectlyrelatedtotestsofcontrols;seeSAS109
forthedistinctionbetweenimplementedand
operatingeffectiveness.Answer(c)isincorrect
becausesubstantivetests,nottestsofcontrols,are
focusedondetectionofmaterialmisstatementsinthe
accountbalancesofthefinancialstatements.
36. (a)Therequirementistoidentifya
circumstanceinwhichanauditormay
decidetoperformtestsofcontrols.Answer
(a)iscorrectbecausetestsofcontrolswill
beperformedwhentheyareexpectedto
resultinacosteffectivereductioninplanned
substantivetests.Answer(b)isincorrect
becausetestsofcontrolsareonlyperformed
whentheyarelikelytosupportafurther
reductionintheassessedleveloftheriskof
materialmisstatement.Answer(c)is
incorrectbecausetestsofcontrolsare
designedtodecreasetheassessedlevelof
theriskofmaterialmisstatement,not
increaseit.Answer(d)isincorrectbecause
internalcontrolweaknessesnormallyresult
inmoresubstantivetestingandlesstestsof
controls.
37. (b)Therequirementistoidentifythemost
appropriateproceduresforassessingcontrol
risk.Auditorsperformtestsofcontrolsto
obtainevidenceontheoperatingeffec

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
tivenessofcontrolstoassesscontrolrisk.Answer(b)
iscorrectbecausetestsofcontrolsincludeinquiriesof
appropriateentitypersonnel,inspectionofdocuments
andreports,observationoftheapplicationofthe
policyorprocedure,andreperformanceofthe
applicationofthepolicyorprocedure.
38. (d)Therequirementistoidentifythetypeofevidence
anauditormostlikelywouldexaminetodetermine
whethercontrolsareoperatingasdesigned.Answer(d)
iscorrectbecauseinspectionofclientrecords
documentingtheuseofcomputerprogramswill
provideevidencetohelptheauditorevaluatethe
effectivenessofthedesignandoperationofinternal
control;theclientscontroloveruseofitscomputer
programsinthiscaseisdocumentationoftheuseof
theprograms.Inordertotestthiscontrol,theauditor
willinspectthedocumentationrecords.SeeSAS110
forinformationonthenatureoftestsofcontrols.
Answer(a)isincorrectbecausetheconfirmation
processismostfrequentlyconsideredasubstantive
test,notatestofacontrol.Answer(b)isincorrect
becauselettersofrepresentationsprovide
corroboratinginformationonvariousmanagementrep
resentationsobtainedthroughouttheauditand
thereforeonlyprovideslimitedevidenceoninternal
control.Answer(c)isincorrectbecauseattorneys
responsestoauditorinquiriesmostfrequentlypertain
tolitigation,claims,andassessments.
39. (c)Therequirementistoidentifythe
procedurethatisnotastepinanauditors
assessmentofcontrolrisk.Answer(c)is
correctbecauseperformingtestsofdetailsof
transactionstodetectmaterialmisstatements
pertainsmoredirectlytodetectionriskrather
thaninherentorcontrolrisk.Answer(a)is
incorrectbecauseauditorsevaluatetheeffec
tivenessofinternalcontrolwithtestsof
controls.An
swer(b)isincorrectbecauseobtainingan
understandingoftheentitysinformationsystemand
controlenvironmentisapreliminarystepfor
consideringcontrolrisk.Answer(d)isincorrect
becauseauditorswillconsidertheeffectofinternal
controlonthevariousfinancialstatementassertions.
40. (a)Therequirementistoidentifyan
approachthatauditorsusetoobtainaudit
evidenceaboutcontrolrisk.Answer(a)is
correctbecauseauditorstestcontrolstopro
videevidencefortheirassessmentofcontrol
riskthroughinquiriesofappropriate
personnel,inspectionofdocumentsand
records,observationoftheapplicationof
controls,andreperformanceofthe
applicationofthepolicyorprocedure.
Answers(b),(c),and(d)areincorrect
becauseanalyticalprocedures,calculation,
andconfirmationrelatemoredirectlyto
substantivetestingandarenotprimary
methodstotestcontrolsforpurposesof
assessingcontrolrisk.
41. (c)Therequirementistoidentifytheleast
likelytypeofevidencetheauditorwill
examinetodeterminewhethercontrolsare

95

operatingeffectively.Answer(c)iscorrect
becauseconfirmationofaccountsreceivable
isasubstantivetest,notatestofacontrol.
Answer(a)isincorrectbecauserecords
documentingtheusageofcomputer
programsmaybetestedtodetermine
whetheraccessisappropriatelycontrolled.
Answer(b)isincorrectbecauseexamining
canceledsupportingdocumentsmayhelp
theauditortodeterminethatthestructure
willnotallowduplicatebillingtoresultin
multiplepayments.Answer(d)isincorrect
becausepropersignatureswillhelpthe
auditortodeterminewhetherthe
authorizationcontrolsarefunctioning
adequately.

42.(a)Therequirementistoidentifytheaccountsre
ceivableauditingprocedurethatanauditorwouldmost
likelyperformtoobtainsupportforanassessedlevel
ofcontrolriskbelowthemaximum.Sinceanauditor
usestheresultsoftestsofcontrolstosupportan
assessedlevelofcontrolriskbelowthemaximum,we
areattemptingtoidentifyatestofacontrol.Answer
(a)iscorrectbecauseobservinganentitysemployee
preparethescheduleofpastdueaccountsreceivableis
atestofacontroltoevaluatetheeffectivenessthe
processofpreparinganaccuratescheduleofpastdue
accounts;iftheprocessisfoundtobeeffectiveitmay
leadtoareductionintheassessedlevelofcontrolrisk.
Answer(b)isincorrectbecausetheconfirmationof
accountsreceivableisasubstantivetest,notatestofa
control.Answer(c)isincorrectbecausetheinspection
ofaccountsreceivableforunusualbalancesand
comparinguncollectibleaccountsexpensetoactual
accountsexpenseisordinarilyananalyticalprocedure
performedasasubstantivetest.Answer(d)is
incorrectbecausecomparinguncollectibleaccounts
expensetoactualuncollectibleaccountsisordinarilya
substantivetest.
C.1.ManagementsResponsibility
43. (b)Therequirementistoidentifythetypeof
companiestowhichtheinternalcontrolprovisionsof
theSarbanesOxleyActof2002apply.Answer(b)is
correctbecausetheprovisionsapplytopublic
companiesthatareregisteredwiththeSecuritiesand
ExchangeCommission.Answer(a)isincorrect
becausenonissuercompaniesarenotdirectlyaffected
bythecontrolprovisions.Answer(c)isincorrect;
thereisno$100,000,000requirement.Answer(d)is
incorrectbecausenonissuercompaniesarenotdirectly
affectedbytheinternalcontrolprovisionsoftheAct.
44. (a)Therequirementistoidentifythemost
likelyframeworktobeusedbymanagementin

itsinternalcontrolassessment.Answer(a)is
correctastheCOSOinternalcontrol
frameworkisbyfarthemostfrequentlyused
one.Answer(b)isincorrectbecausewhilea
COSOenterpriseriskmanagementframework
doesexist,itisnotordinarilyusedby
managementinitsinternalcontrolassessment.
Answers(c)and(d)areincorrectbecause
thereisnosuchthingasaFASB37internal
controldefinitionalframeworkoranAICPA
internalcontrolanalysismanager.

C.2.ManagementsAssessment
45. (c)Therequirementistoidentifythecorrect
statementconcerningthelevelofassistance
thatauditorsmayprovideinassisting
managementwithitsassessmentofinternal
control.Answer(c)iscorrectsinceonly
limitedassistancemaybeprovidedsoas
nottocreateasituationinwhichthe
auditorsareauditingtheirownwork.
Answer(a)isincorrectsincesome
assistancemaybeprovided.Answer(b)is
incorrectbecausetherearelimitationson
thelevelofassistance.Answer(d)is
incorrectbecausethetiebetweenriskand
assistanceseemsinappropriateandinthe
wrongdirection;also,thistypeoftradeoff
betweenriskandassistanceisnotincluded
inPCAOBStandard5.
46. (d)Therequirementistoidentifywhichof
thefollowingneednotbeincludedin
managementsreportoninternalcontrol
underSection404aoftheSarbanesOxley
Actof2002.Answer(d)iscorrectbecause,
whilethereportmustindicatethatitis
managementsresponsibilitytoestablish
andmaintainadequateinternalcontrol,it
neednot

96

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

alsoindicatethatsuchcontrolhasnosignificant
deficiencies.Answers(a),(b),and(c)areallincorrect
becausetheyincludeinformationthatmustbe
containedinmanagementsreport.
C.3.ControlDefinitions
47. (a)Answer(a)iscorrectbecauseallmaterial
weaknessesarecontroldeficiencies.Answer
(b)isincorrectbecauseasignificant
deficiencymayormaynotbeamaterial
weakness.Answer(c)isincorrectbecause
notallcontroldeficienciesarematerial
weaknesses.Answer(d)isincorrectbecause
onlysignificantdeficienciesandmaterial
weaknessesmustbecommunicated.
48. (d)Therequirementistoidentifytheterm
thatisdefinedasaweaknessininternal
controlthatislessseverethanamaterial
weaknessbutimportantenoughtowarrant
attentionbythoseresponsibleforoversight
ofthefinancialreportingfunction.Answer
(d)iscorrectbecausethisisthedefinitionof
asignificantdeficiency.Answer(a)isincor
rectbecauseacontroldeficiencyexists
whenthedesignoroperationofacontrol
doesnotallowmanagement,oremployees,
inthenormalcourseofperformingtheir
functionstopreventordetectmisstatements
onatimelybasis.Answer(b)isincorrect
becauseanunusualweaknessisnotusedin
thestandardsforintegratedaudits.Answer
(c)isincorrectbecausethetermunusual
deficiencyisnotusedinthestandardsfor
integratedaudits.
49. (d)Therequirementistoidentifythe
amountinvolvedwithamaterialweakness.
Answer(d)iscorrectbecauseamaterial
amountisinvolved.Answers(a),(b),and
(c) are all incorrect because they suggest smaller
amounts.
50. (d)Therequirementistoidentifytheminimum
likelihoodoflossinvolvedintheconsiderationofa
controldeficiency.Answer(d)iscorrectbecausea
controldeficiencyisaconditioninwhichthe
operationofacontroldoesnotallowmanagement,or
employees,inthenormalcourseofperformingtheir
functionstopreventordetectmisstatementsona
timelybasisitdoesnotexplicitlyconsiderlikelihood
ofloss.Answer(a)isincorrectbecausetheminimum
likelihoodoflossisnotconsidered.Answer(b)is
incorrectbecausethecontroldeficiencyoccurrenceof
lossneednotbemorethanremote.Answer(c)is
incorrectbecausewhethertheminimumlikelihoodof
lossisprobableisnotconsidered.
C.4.EvaluatingInternalControl
51. (a)Therequirementistoidentifythetypeofcontrol
thatreconciliationofcashaccountsrepresents.Answer
(a)iscorrectinthatitisacompensatingcontrolwhich
supplementsabasicunderlyingcontrol,inthiscase
basicinformationprocessingcontrolsrelatedtocash.
Answer(b)isincorrectbecauseapreventivecontrol

preventserrorsorfraudfromoccurring.Answer(c)is
incorrectbecausethetermadjustivecontrolisnot
ordinarilyused.Answer(d)isincorrectbecause
nonroutineisordinarilyconsideredatypeof
transaction(e.g.,theyearendcloseprocess),nota
typeofcontrol.
52. (d)Therequirementistoidentifythetype
oftransactionthatestablishingloanloss
reservesis.Answer(d)iscorrectbecause
estimationtransactionsareactivities
involvingmanagementsjudgmentsor
assumptions,suchasdeterminingthe
allowancefordoubtfulaccounts,

establishingwarrantyreserves,andassessingassets
forimpairment.Answer(a)isincorrectbecausethe
termsubstantivetransactionisnotusedinPCAOB
standards.Answer(b)isincorrectbecauseroutine
transactionsarethoseforrecurringactivities,suchas
sales,purchases,cashreceiptsanddisbursements,and
payroll.Answer(c)isincorrectbecausenonroutine
transactionsoccuronlyperiodically,suchasthetaking
ofphysicalinventory,calculatingdepreciation
expense,oradjustingforforeigncurrencies;non
routinetransactionsgenerallyarenotapartofthe
routineflowoftransactions.
C.5.TheAuditofInternalControl
53. (d)Therequirementistoidentifythe
procedurethatinvolvestracingatransaction
fromoriginationthroughthecompanys
informationsystemsuntilitisreflectedinthe
companysfinancialreport.Answer(d)is
correctbecausethisistheapproachfollowed
inawalkthrough.Answer(a)isincorrect
becauseanalyticalanalysisisageneralterm
thatsimplysuggestsageneralanalysis.
Answer(b)isincorrectbecauseasubstantive
procedureaddressesthecorrectnessofa
particularfinancialstatementamountor
disclosure.Answer(c)isincorrectbecausea
testofacontroladdressestheoperating
effectivenessofacontrol.
54. (b)Therequirementistoidentifytheasof
dateforpurposesofanauditofinternal
controlperformedunderPCAOBstandards.
Answer(b)iscorrectbecausetheasof
dateisthelastdayofthefiscalperiod;itis
thisdateonwhichtheauditorconcludesas
totheeffectivenessofinternalcontrol.
Answers(a)and(c)areincorrectbecause
neitherthefirstdayoftheyearnorthelast
dayoftheauditorsfieldworkisthe

appropriatedateonwhichtoevaluateinter
nalcontrol.Answer(d)isincorrectbecause
theasofdateisaparticulardate,notan
average.
55. (c)Therequirementistoidentifythecorrectstate
mentconcerningacompanythatmakespurchases
boththroughtheInternetandbytelephone.Answer(c)
iscorrectbecausebothtypesofpurchasesareapartof
thepurchasesprocessandrepresentmajorclassesof
transactions,asperPCAOBStandard5.Answer(a)is
incorrectbecausethepurchasetypesthemselvesare
notcontrolobjectivesforinternalcontrol(control
objectivesaddressissuessuchasthecompletenessof
therecordingofsales).Answer(b)isincorrect
becausepurchasesarenotassertions.Answer(d)is
incorrectbecausepurchasetransactionsmayormay
notbeinvestigatedinextremedetail.
56. (a)Therequirementistoidentifythecircum
stance(s)inwhichwalkthroughsprovidethe
auditorwithprimaryevidence.Awalk
throughinvolvesliterallytracinga
transactionfromitsoriginationthroughthe
companysinformationsystemsuntilitis
reflectedinthefinancialreports.Answer(a)
iscorrectbecauseawalkthroughprovides
evidenceto(1)confirmtheauditors
understandingoftheflowoftransactionsand
thedesignofcontrols,(2)evaluatethe
effectivenessofthedesignofcontrols,and
(3)toconfirmwhethercontrolshavebeen
placedinoperation.Answer(b)isincorrect
becausewalkthroughsprovidetheauditors
withprimaryevidencetoconfirmwhether
controlshavebeenplacedinoperation.
Answer(c)isincorrectbecausewalk
throughsprovideprimaryevidenceto
evaluatetheeffectivenessofdesignin
internalcontrol.Answer(d)isincorrectboth
becausewalkthroughsprovideprimaryevi
denceto(1)evaluatetheeffectivenessofthe
designofcon

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
trolsand(2)confirmwhetherthecontrolshavebeen
placedinoperation.
57. (a)Therequirementistoidentifythemostlikely
questiontobeaskedofemployeepersonnelduringa
walkthrough.Answer(a)iscorrectbecauseaquestion
onwhetheranemployeehaseverbeenaskedto
overridetheprocessisincludedintheexample
questionstobeaskedbytheauditor.Answer(b)is
incorrectbecauseauditorsdonotingeneralask
whethertheemployeebelievesheorsheisunderpaid.
Answer(c)isincorrectbecauseadirectquestionon
fraudulenttransactionslikethis,whilepossible,
ordinarilyisnotsuggested.Answer(d)isincorrect
becausetheauditorwillnotusuallyaskwhotrained
theperson.Notethatallfourquestionsmightbeasked,
butonlyoneisamongthoserecommendedinStandard
5.
58. (a)Therequirementistoidentifyhowlarge
theactuallossidentifiedmustbefora
controldeficiencytopossiblybeconsidered
amaterialweakness.Answer(a)iscorrect
becauseamaterialweaknessisdetermined
bywhetherthereismorethanaremote
likelihoodofamateriallossoccurringdue
tothecontroldeficiency;theactualloss
identifiedneednotbematerial.Answer(b)
isincorrectbecauseitsuggeststhata
materialamountidentifiedwillnotbecon
sideredamaterialweakness.Answer(c)is
incorrectbecauseitstatesthatwhenthe
identifiedamountisimmaterialitisnevera
materialweakness.Answer(d)isincorrect
becauseitsuggeststhatwhenanimmaterial
ormaterialactuallossisdiscovered,the
situationwouldnotbeassessedasapossible
materialweakness.
59. (c)Therequirementistoidentifythe
circumstancethatmakesanaccount
significantforpurposesofaPCAOBauditof
internalcontrol.Answer(c)iscorrect
becauseStandard5requiresonlymorethana
remotelikelihoodofmaterialmisstatement.
Answer(a)isincorrectbecausethestandard
requiresonlyaremotelikelihoodand
becauseitislimitedtomaterial
misstatements.Answer(b)isincorrect
becausethestandardrequiresmorethana
remotelikelihood,notmorethana
reasonablypossiblelikelihood.Answer(d)is
incorrectbecausematerialmisstatementsare
involved,notmisstatementsthataremore
thaninconsequential.
60. (a)Therequirementistoidentifytheappropriate
reportwhenacontroldeficiencythatismorethana
significantdeficiencyisidentified.Answer(a)is
correctbecauseacontroldeficiencythatismorethana
significantdeficiencyisamaterialweakness,and
becauseamaterialweaknessleadstoanadverse
opiniononinternalcontrol.Answer(b)isincorrect
becausequalifiedopinionsarenotissuedwhena
materialweaknessexists.Answer(c)isincorrect
becauseanunqualifiedopinionisnotissuedwhena

97

materialweaknessexists.Answer(d)isincorrect
becauseexplanatorylanguageaddedtoanunqualified
reportisnotappropriatewhenamaterialweakness
exists.
61. (a)Therequirementistoidentifythe
deficiencythatismostlikelytobe
consideredamaterialweaknessininternal
controlforpurposesofaninternalcontrol
auditofapubliccompany.Answer(a)is
correctbecauseineffectiveoversightof
financialreportingbytheauditcommitteeis
amongthelistofcircumstancesthatPCAOB
Standard5suggestsarestrongindicatorsof
theexistenceofamaterialweakness.
Restatementofpreviouslyissuedfinancial
statementsasaresultofachangein
accountingprinciplesis

ordinarilynotconsideredevenasignificantdeficiency.
Answer(c)isincorrectbecausethereplyinadequate
segregationofrecordkeepingfromaccountingmakes
norealsensebecauseaccountingisinvolvedwith
recordkeeping.Answer(d)isincorrectbecausecontrol
activityweaknessesoftendonotrepresentmaterial
weaknesses.

end,butbeforetheauditreportisissued.
Answer(a)iscorrectbecausePCAOB
Standard5requiresanadverseauditreport
whenamaterialweaknessexistsatyear
end,theasofdate.Answer(b)isincorrect
becauseanunqualifiedopinionisnot
appropriate.Answer(c)isincorrectbecause
anunqualifiedopinionwithexplanatory
languageisnotadequate.Answer(d)is
incorrectbecauseaqualifiedopinionisnot
appropriatewhenamaterialweakness
existsatyearend.

62. (b)Therequirementistoidentifythemostappropri
atereportwhenacircumstancecausedscope
limitationresultsininabilitytoevaluateinternal
controlforasignificantaccountinvolvedintheaudit.
65. (b)Therequirementistospecifywhethermaterial
Answer(b)iscorrectbecausePCAOBStandard5
weaknessesand/orsignificantdeficienciesleadtoan
indicatesthateitheraqualifiedopinionoradisclaimer
adverseopiniononinternalcontrolinanintegratedaudit.
isappropriate,andbecausethedisclaimerisnotlisted
An
asanoption.Answer(a)isincorrectbecausean
adverseopinionisnotappropriate.Answer(c)is
swer(b)iscorrectbecauseonlymaterialweaknesses
leadtoanadverseopinion.Answer(a)isincorrect
incorrectbecauseanunqualifiedopinionwith
becausesignificantdeficienciesdonotresultinan
explanatorylanguageisnotappropriatewhenthe
adverseopinion.Answer(c)isincorrectbecause
auditorisunabletoevaluateinternalcontrolfora
materialweaknessesdoresultinadverseopinionsbut
significantaccount.Answer(d)isincorrectbecause
significantdeficienciesdonot.Answer(d)isincorrect
answers(a)and(c)arenotappropriate.
becausematerialweaknessesdoresultinadverse
63. (c)Therequirementistoidentifythemost
opinions.
likelysignificantdeficiencyrelatingtoa
66. (b)Therequirementistospecifywhattypes
clientsantifraudprograms.Answer(c)is
ofdeficienciesmustbecommunicatedby
correctbecauseanactiveauditcommittee,
theauditortotheauditcommittee.Answer
notapassiveauditcommitteeisneeded.
(b)iscorrectbecausetheauditormust
Answer(a)isincorrectbecauseabroad
communicatematerialweaknessesandother
scopeofinternalauditactivitiesisordinarily
significantdeficiencies,butnotallcontrol
astrength,notadeficiency.Answer(b)isin
deficiencies.Answer(a)isincorrectbecause
correctbecauseawhistleblowerprogram
controldeficienciesthatarenotsignificant
thatencouragesanonymoussubmissionsis
neednotbecommunicatedtotheaudit
required.Answer(d)isincorrectbecauseitis
committee(unlesstheauditorhasmadean
notordinarilynecessarytoperformcriminal
agreementtocommunicatethem).Answers
backgroundinvestigationsforlikely
(c)and(d)areincorrectbecauseknown
customers.
materialweaknessesmustbecommunicated
64. (a)Therequirementistoidentifythe
totheauditcommitteeandcontrol
appropriateauditreportwhenamaterial
deficienciesthatarenotsignificant
weaknessiscorrectedsubsequenttoyear
deficienciesneednotbecommunicated.

98

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

67. (c)Therequirementistodeterminethemannerin
whichsignificantdeficienciesarecommunicatedby
theauditortotheauditcommitteeunderPCAOB
Standard5.Answer(c)iscorrectbecausetheStandard
requiresawrittencommunication.Answer(a)is
incorrectbecauseawrittencommunicationisrequired.
Answer(b)isincorrectbecausethecommunication
mustbeinawrittenform,notinanoralform.Answer
(d)isincorrectbecausebothmaterialweaknessesand
significantdeficienciesmustbecommunicated.
68. (c)Therequirementistoidentifythecorrect
statementconcerningtheexternalauditors
useoftheworkofotherswhenperforming
anauditofinternalcontrolofapublic
company.Answer(c)iscorrectbecause,
afterassuringthemselvesastothe
competenceandobjectivityoftheinternal
auditorsandothers,theexternalauditors
mayusetheirworkparticularlyinlowrisk
areasandwhenthatworkissupervised
and/orreviewed.Answer(a)isincorrect
becauseusingtheworkofinternalauditors
andothersisallowed.Answer(b)is
incorrectbecausethereisnosuch
requirementofreportingtotheaudit
committee,althoughthisisoneindicationof
internalauditorobjective.Answer(d)is
incorrectbecausetherearelimitations,and
becauseitisuncertainwhetherliabilitywill
beshared.
69. (c)Therequirementistoidentifythe
informationthatmustbecommunicatedin
writingtomanagement.Answer(c)is
correctbecauseinanintegratedauditall
materialweaknesses,significant
deficiencies,andothercontroldeficiencies
mustbereportedtomanagement.Answers
(a)and
(b)areincorrectbecausetheyareincomplete.Answer
(d) is incorrect because all suspected and possible
employeelawviolationsneednotbecommunicated.
70. (a)Therequirementistoidentifyacorrectstatement
aboutapplyingatopdownapproachtoidentifycon
trolstotestinanintegratedaudit.Answer(a)iscorrect
becausecertaineffectiveentitylevelcontrolsmay
allowtheauditortoomitadditionaltestingbeyond
thosecontrols.Answer(b)isincorrectbecausestarting
withassertionsdoesnotrepresentstartingatthetop
(startingatthetopincludesconsiderationofthe
financialstatementsandentitylevelcontrolsfirst).
Answer(c)isincorrectbecauseconsiderationof
entitylevelcontrolscannotbeavoided.Answer(d)is
incorrectbecausenotallcontrolsrelatedtoassertions
needtobefocusedupon,andbecauseonemaynot
omitcontrolsrelatedtothefinancialstatements.
71. (d)Therequirementistoidentifythe
statementnotincludedinastandard
unqualifiedopiniononinternalcontrol
performedunderPCAOBrequirements.
Answer(d)iscorrectbecausethereport
indicatesthatmanagementisresponsible
formaintainingeffectiveinternalcontrol

overfinancialreporting,notmanagement
andtheauditcommittee.Answers(a),(b)
and(c)areallincorrectbecausethey
representstatementsincludedintheaudit
report.

72. (a)Therequirementistoidentifythecorrect
statementrelatingtowalkthroughs.
Answer(a)iscorrectbecausewalk
throughsliterallytracingtransactionsfrom
theiroriginationthroughthecompanys
informationsystemuntiltheyarereflected
inthecompanysfinancialreportsare
ofteneffectiveproceduresforevaluating
boththedesigneffectivenessofcontrolsand
whetherthosecontrolshavebeenplacedin
operation.Answer(b)isincorrectbecause
walkthroughshelpauditorstoconfirm
whethercontrolshavebeenplacedin
operation.Answer(c)isincorrect

becausewalkthroughshelpauditorstoevaluatethe
designeffectivenessofcontrols.Answer(d)is
incorrectbecausewalkthroughshelpauditors
evaluatethedesigneffectivenessofcontrolsandto
confirmwhethercontrolshavebeenplacedin
operation.
D.1.Sales,Receivables,andCashReceipts
73. (a)Therequirementistoidentifytheprocedurean
auditormostlikelywouldperformtotestcontrolsrelating
tomanagementsassertionaboutthecompletenessof
cashreceiptsforcashsalesataretailoutlet.Answer(a)is
correctbecausetheuseofcashregistersandtapeshelps
assurethatallsuchsalesarerecorded.Answer(b)is
incorrectbecausethecashhasalreadybeenrecorded.
Answer(c)isincorrectbecausetheprocedureonlydeals
withrecordeddeposits,andthereforethecompleteness
assertionisnotaddressedasdirectlyasinanswer(a).
Answer(d)isincorrectbecauseonewouldnotexpectthe
cashbalanceinthegeneralledgertoagreewiththebank
confirmationrequestamountduetoitemsintransitand
outstandingatthepointofreconciliation.
74. (c)Therequirementistoidentifytheproper
proceduretobeperformedimmediatelyupon
receiptofchecksbymail.Soundinternal
controlrequirestheuseofadequate
documentationtoensurethatalltransactions
areproperlyrecorded.Thishelpsthecompany
attainthefinancialstatementassertionof
completeness.Answer(c)iscorrectbecause
thepreparationofaduplicatelistingofchecks
receivedprovidesthecompanywithasource
documentofallthechecksreceivedthatday.
Onelististhenforwardedtotheemployee
responsiblefordepositingthechecksattheend
ofthedayandtheotherlistissenttothe
accountingdepartmentsothattheycanpostthe
amounttothecashreceiptsjournal.Answer

(a)isincorrectbecausethedailycashsummary
willordinarilybepreparedattheendoftheday
whenallcheckshavebeenreceived.Answer
(b)isincorrectbecausechecksneednotbe
comparedtoasalesinvoice.Answer(d)is
incorrectbecausetheemployeeopeningthe
mailshouldnotalsoperformtherecordkeeping
functionofrecordingthechecksinthecash
receiptsjournal.

75. (b)Therequirementistodeterminethetypeofevi
denceobtainedwhentracingshippingdocumentsto
prenumberedsalesinvoices.Answer(b)iscorrect
becausetheshippingdocumentsrelatetoshipmentsto
customers,andtracingthemtosalesinvoiceswill
provideevidenceonwhethersalesinvoiceswere
prepared.Answer(a)isincorrectbecauseduplicate
shipmentsorbillingswillnotingeneralbedetected
bytracingindividualshippingdocumentsto
prenumberedsalesinvoices.Answer(c)isincorrect
becauseanauditorwilltracefromcustomerordersto
shippingdocumentstodeterminewhetherallgoods
orderedwereshipped.Answer(d)isincorrectbecause
anauditorwillaccountforthesequenceofsales
invoicestodeterminewhetherallsaleinvoiceswere
accountedfor.
76. (a)Therequirementistoidentifythecontrol
mostlikelytoreducetheriskofdiversionof
customerreceiptsbyanentitysemployees.
Answer(a)iscorrectbecauseabanklockbox
systemeliminatesemployeecontactwith
cashreceipts,andtherebygreatlyreduces
theriskofdiversionbyemployees.Answer
(b)isincorrectbecauseremittanceadvices
areordinarilyprenumberedusingthe
numberingschemesofthevariouscustomers
andnotoftheclient;also,evenifa
prenumberingsystemisinstituted,
difficultiesremaininassuringthatall
receiptsarerecorded.Answer(c)is

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
incorrectbecauseamonthlybankreconciliationis
onlylikelytobeeffectivewhenreceiptsaredeposited
andthenabstracted.Answer(d)isincorrectbecause
whilethedailydepositofcashreceiptsmayreduce
theriskofemployeediversionofreceipts,the
procedureisnotaseffectiveasthebanklockbox
system,whicheliminatesemployeecontactwiththe
receipts.
77. (a)Therequirementistoidentifythebestlisted
procedurefordetectingthelappingofcashreceiptsby
theclientscashierthroughuseofcustomerchecks
receivedinthemail.Answer(a)iscorrectbecause
lappingwillresultinadelayintherecordingof
specificremittancecreditsonthefinancialrecords,but
thecheckswillbedepositedinthebankastheyare
received.Answer(b)isincorrectbecausethedaily
cashsummarieswillincludethesamesumsasthecash
receiptsjournalentries.Answer(c)isincorrectbe
causethebankdepositslipswillbeidenticaltoany
detailsincludedinthemonthlybankstatements.
Answer(d)isincorrectbecausewhilethewriteoffof
areceivablemayhelptheindividualinvolvedinthe
lappingtoavoidrepayment,nolagistobeexpected
betweenauthorizationofthewriteoffandthedateitis
actuallyrecorded.
78. (c)Therequirementistodeterminethe
individualororganizationtowhichalistof
remittancesshouldbeforwardedtoin
additiontothecashier.Answer(c)is
correctbecausetheaccountsreceivable
bookkeeperwillusethelistingtoupdatethe
subsidiaryaccountsreceivablerecords.
Answer(a)isincorrectbecauseinternal
auditorswillnotnormallyinvestigateeach
dayslistingofremittancesforunusual
transactions.Answer(b)isincorrect
becausethetreasurerwillnotingeneral
comparedailylistingstothemonthlybank
statement.Answer(d)isincorrectbecause
thelistwillnotbesenttothebank.
79. (d)Therequirementistoidentifytheprocedurethat
mostlikelywouldnotbeacontroldesignedtoreduce
theriskoferrorsinthebillingprocess.Answer(d)is
correctbecausethereconciliationofthecontroltotals
forsalesinvoiceswiththeaccountsreceivable
subsidiaryledgerwillfollowbilling;thusbillingerrors
willhavealreadyoccurred.Answer(a)isincorrect
becauseidentificationofdifferencesinshipping
documentsandsalesinvoiceswillallowfora
correctionofanyerrorsandproperbilling.Answer(b)
isincorrectbecausecomputerprogrammedcontrols
willassuretheaccuracyofthesalesinvoice.Answer
(c)isincorrectbecausethematchingofshipping
documentswiththeapprovedsalesorderswillallow
thepreparationofacorrectinvoice.
80. (b)Therequirementistoidentifytheaudit
procedureanauditormostlikelywould
performtotestcontrolsrelatingto
managementsassertionconcerningthe
completenessofsalestransactions.
Answer(b)iscorrectbe
causeinspectionofshippingdocumentsthathave

notbeenrecordedinthesalesjournalwillpossibly
revealitemsthathavebeensold(asevidencedbya
shippingdocument)butforsomereasonhavenot
beenrecordedassales.Answers(a),(c),and(d)are
allincorrectbecauseverificationofextensionand
footings,comparinginvoicedprices,andinquiring
aboutcreditgrantingpoliciesallrelatemoredi
rectlytothevaluationassertionthantothe
completenessassertion.

99

81. (a)Therequirementistoidentifythecontrol
thatmostlikelywouldassurethatallbilled
salesarecorrectlypostedtotheaccounts
receivableledger.Answer(a)iscorrect
becausethedailysalessummarywillinclude
allbilledsalesforaparticularday.
Comparingthissummarytothepostingsto
theaccountsreceivableledgerwillprovide
evidenceonwhetherbilledsalesare
correctlyposted.Answer(b)isincorrect
becausecomparingsalesinvoicestoshipping
documentsprovidesevidenceonwhether
invoicedsaleshavebeenshipped.Answer(c)
isincorrectbecausereconcilingtheaccounts
receivableledgertothecontrolaccountwill
notprovideassurancethatallbilledsales
werepostedinthatboththereceivableledger
andthecontrolaccountmayhaveomitted
thesales.Answer(d)isincorrectbecause
comparingshipmentswithsalesinvoices
providesevidenceonwhetherallshipments
havebeeninvoiced,notonwhetherallbilled
salesarecorrectlyposted.
82. (a)Therequirementistodeterminethe
financialstatementassertionbeingmost
directlytestedwhenanauditortestsan
entityspolicyofobtainingcreditapproval
beforeshippinggoodstocustomers.Answer
(a)iscorrectbecausetestingcreditapproval
helpsassurethatgoodsareshippedto
customerswhoarelikelytobeabletopay;
accordinglythevaluationassertionfor
receivablesisbeingdirectlytested.Answer
(b)isincorrectbecausecompletenessdeals
withwhetheralltransactionsandaccounts
arerecorded.Answer(c)isincorrect
becauseexistencedealswithwhetherassets
existatagivendateandwhetherrecorded
transactionshaveoccurredduringagiven
period.Answer(d)isincorrectbecause
rightsandobligationsdealwithwhether
assetsaretherightsoftheentityand

liabilitiesaretheobligationsoftheentityat
agivendate.
83. (d)Therequirementistoidentifythecontrol
thatmostlikelywouldhelpensurethatall
creditsalestransactionsarerecorded.
Answer(d)iscorrectbecausethematching
ofshippingdocumentswithentriesinthe
salesjournalwillprovideassurancethatall
shippeditems(sales)havebeencompletely
recorded.Answer(a)isincorrectbecause
comparisonofapprovedsalesordersto
authorizedcreditlimitsandbalanceswill
helpensurethatcustomercreditlimitsare
notexceeded,ratherthanthecompletere
cordingofcreditsales.Answer(b)is
incorrectbecausereconciliationofthe
accountsreceivablesubsidiaryledgertothe
accountsreceivablecontrolaccountwill
provideonlyalimitedamountofcontrol
overthecompleterecordingofsales.The
controlisincompletesince,forexample,a
salethathasnotbeenrecordedineitherthe
subsidiaryorcontrolaccountswillnotbe
detected.Answer(c)isincorrectbecause
monthlystatementsgenerallywillnotbe
senttocustomerstowhomnosaleshave
beenrecorded.
84. (c)Therequirementistoidentifythecontrolthatwillbe
mosteffectiveinoffsettingthetendencyofsales
personneltomaximizesalesvolumeattheexpenseof
highbaddebtwriteoffs.Answer(c)iscorrectbecause
segregationoftheauthorizationofcreditfromthesales
functionwillallowanindependentreviewofthe
creditworthinessofcustomers.Answer(a)isincorrect
becausewhiledenyingaccesstocashbyemployees
responsibleforsalesandbaddebtwriteoffsmaydeter
embezzlements,theproblemofhighbaddebtwriteoffs
islikelytoremain.Answer(b)isincorrectbecausewhile
sosegregatingthematchingofshippingdocumentsand
salesinvoicesmayhelpassurethatitemsareshipped
properlyandsubsequentlyrecorded,itwill

100

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

notsignificantlyaffectbaddebts.Answer(d)is
incorrectbecausewhileindependentreconciliation
ofcontrolandsubsidiaryaccountsreceivable
recordsmaydeferembezzlements,baddebtwrite
offswillnotbeaffected.

reconciliationofcheckingaccountswiththemonthly
bankstatementwillnotreflectcashthathasbeen
improperlydivertedbytheaccountsreceivableclerk.
Answer(d)isincorrectbecausetheaccounts
receivableclerkshouldbeabletomaintainthedetail
andledgeramountinbalanceandtherebyavoid
detection.

85. (d)Therequirementistodeterminethe
88. (b)Therequirementistodeterminewhoshould
departmentthatshouldapprovebaddebt
preparearemittanceadvicewhenthecustomerfailsto
writeoffs.Thedepartmentresponsiblefor
includeonewitharemittance.Remittancesshouldbe
baddebtwriteoffsshouldbeindependentof
openedbyanindividualsuchasareceptionistwhois
thesales,credit,andtherecordkeepingfor
independentofthesalesfunction.Thatindividualwill
thatfunction,andshouldhaveknowledge
prepareanyneededremittanceadvices.Thecredit
relatingtotheaccounts.Answer(d)is
manager[answer(a)],andthesalesmanager[answer
correctbecause,inadditiontobeing
(c)],areincorrectbecausethey
independentofthevariousfunctions,the
treasurersdepartmentislikelytohave
knowledgetohelpmakeproperdecisionsof
thisnature.Answers(a)and(b),accounts
receivableandthecreditdepartment,are
incorrectbecauseneitherdepartmentisin
dependentofthisfunction.Answer(c)is
incorrectbecausewhileaccountspayableis
independentofthefunction,itspersonnelare
lesslikelythanthoseofthetreasurersde
partmenttohavethenecessaryinformation
relatingtotheaccountsthatshouldbe
writtenoff.
86. (b)Therequirementistoidentifyareason
thatemployersbondemployeeswho
handlecashreceipts.Answer(b)iscorrect
becauseemployeeknowledgethatbonding
companiesoftenprosecutethoseaccusedof
dishonestactsmaydeteremployees
dishonestacts.Answer(a)isincorrect
becausebondingprotectstheemployer
fromdishonestacts,nottheemployeefrom
unintentionalerrors.Answer(c)isincorrect
becausethebondingcompanydoesnot
servetheroleofindependentmonitoringof
cash.Answer(d)isincorrectbecausewhile
rotationofpositionsandforcingemployees
totakeperiodicvacationsareeffective
controlsforpreventingfraud,theyarenot
accomplishedthroughbonding.
87. (c)Therequirementistoidentifythecontrolwhich
wouldoffsetaweaknessthatallowedtheaccounts
receivableclerktoapprovecreditmemosandtohave
accesstocash.Notethatsuchaweaknessmayleadto
afraudinwhichtheaccountsreceivableclerkreceives
andkeepscashpaymentswhileissuingafraudulent
creditmemoasthebasisforacredittothecustomers
account.Answer(c)iscorrectbecausetheowners
reviewofcreditmemoscouldhelpestablishthat
fraudulentmemoshadnotbeenissuedforreceivables
whichhadinactualitybeencollectedbytheclerk;for
example,whenreviewingcreditmemostheowner
wouldexpecttoseeareceivingreportforsalesreturns
forwhichcreditmemoshavebeengenerated.Answer
(a)isincorrectbecausethebookkeepermaybeableto
maintaintherecordsinsuchamannerastoavoid
billingerrorsrelatedtothefraud,andthereforea
reviewofbillingsandpostingsmaynotrevealsuch
fraud.Answer(b)isincorrectbecausemonthend

performanauthorizationfunctionrelatedtosales.
Answer(d)isincorrectbecausetheaccounts
receivableclerkperformsarecordkeepingfunction
forsales.
D.2.Purchases,Payables,andCashDisbursements
89. (b)Therequirementistoidentifytheaudit
procedurerelatingtopaidvouchersthat
willprovideassurancethateachvoucheris
submittedandpaidonlyonce.Answer(b)
iscorrectbecausewhenthechecksigner
stampsvoucherspaiditisunlikelytobe
paidasecondtimesincethatindividualwill
noticethestamponthevoucherthesecond
timeitissubmittedforpayment.

mentsmostdirectlyaddresses.Answer(b)is
correctbecausetheexistenceoroccurrence
assertionaddresseswhetherrecordedentries
arevalidandthedirectionofthistestisfrom
therecordedentryinthevoucherregisterto
thesupportingdocuments.Answer(a)is
incorrectbecausecompletenessaddresses
whetheralltransactionsandaccountsare
includedandwouldinvolveteststracing
fromsupportforpurchasestotherecorded
entry.Answers(c)and(d)areincorrect
becausevouchingtheentriesprovidesonly
limitedevidenceonvaluationandrights.
92. (d)Therequirementistodeterminethe
controlthatisnotusuallyperformedinthe
voucherspayabledepartment.Answer(d)
iscorrectbecausethevoucherspayable
departmentwillnotingeneralhaveaccess
tounusedprenumberedpurchaseorders
andreceivingreports.An
swer(a)isincorrectbecausethevoucherspayable
departmentwillmatchthevendorsinvoicewith
therelatedreceivingreporttodeterminethatthe
itemforwhichthecompanyhasbeenbilledhas
beenreceived.Answer(b)isincorrectbecausethe
voucherspayabledepartmentwillapprovevouchers
forpaymentwhenalldocumentationisproperand
present.Answer(c)isincorrectbecausethe
voucherspayabledepartmentwillcodethevoucher
withaccountstobedebited.

90. (d)Therequirementistodeterminethe
appropriateresponsibilityforthepersonwho
signschecks.Answer(d)iscorrectbecause
theindividualwhosignschecksshouldbe
responsibleformailingthemsoastoavoida
varietyoffraudinwhichthechecksare
improperlyconvertedintocashbycompany
employees.Answer(a)isincorrectbecause
theindividualwhoreconcilesthebank
accountsshouldhavenoother
responsibilitieswithrespecttocash.Answer
(b)isincorrectbecauseaccountspayable
doesnotneedthechecksand,iftheyreceive
them,thosechecksmaybeconvertedinto
cashwhichisthenstolen.Answer(c)is
93. (b)Therequirementistoidentifythefunctionthatis
incorrectbecausethepersonwhosignsthe
consistentwithmatchingvendorsinvoiceswith
checksshoulddeterminethatproper
receivingreports.Answer(b)iscorrectbecausewhile
supportingdocumentsexistandshould
matchinginvoicesandreceivingreports,the
cancelthatdocumentationafterthepayment
employeemighteffectivelyrecomputethecalculations
ismade.
onthevendorsinvoicestodeterminethatthe
amountsareproper.Answers(a)and(c)areincorrect.
91. (b)Therequirementistodeterminethe
Theindividualwhomatchestheinvoicesandreceiving
financialstatementassertionthatatestof
reportswilloftenalsoapprovethemforpayment.
controlsofvouchingasampleofentriesin
Therefore,thisindividualshouldnotalsopost
thevoucherregistertothesupportingdocu
accountspay

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
ablerecordsorreconciletheaccountspayableledger.
Answer(d)isincorrectbecausetheindividualwho
controlsthesigningofthechecksshouldcancelthe
invoicesafterpayment.
94. (b)Therequirementistoidentifythe
populationfromwhichitemsshouldbe
selectedtodeterminewhetherchecksare
beingissuedforunauthorizedexpenditures.
Answer(b)iscorrectbecauseasampleof
canceledchecksshouldbeselectedand
comparedwiththeapprovedvouchers,a
prenumberedpurchaseorderand
prenumberedreceivingreports.Acanceled
checkthatdoesnothavesuchsupportmay
havebeenunauthorized.Answers(a),(c),
and(d)areallincorrectbecauseselecting
itemsfrompurchaseorders,receiving
reports,orapprovedvoucherswillnot
revealcircumstancesinwhichacheckwas
issuedwith
outthatsupportingdocument.Forexample,when
selectingasamplefrompurchaseorders,onewould
notdiscoverasituationinwhichacheckhadbeen
issuedwithoutapurchaseorder.
95. (d)Therequirementistodeterminewhichquestion
wouldmostlikelybeincludedinaninternalcontrol
questionnaireconcerningthecompletenessassertion
forpurchases.Answer(d)iscorrectbecause
prenumberingandaccountingforpurchaseorders,
receivingreports,andvoucherswillallowacompany
todeterminethatpurchasesarecompletelyrecorded.
Forexample,inexaminingareceivingreportthe
clientmightdiscoverthatthepurchasewasnot
recorded.Answer(a)isincorrectbecauserequiringa
purchaseorderbeforeashipmentisacceptedwill
addresswhetherornottheshipmenthasbeenordered.
Answer(b)isincorrectbecausematchingpurchase
requisitionswithvendorinvoicesdoesnotdirectly
addresswhetherthepurchaseisrecorded.Answer(c)
isincorrectbecausetheunpaidvoucherfilerepresents
itemsthathavealreadybeenrecorded,andthuswill
notdirectlyaddressthecompletenessoftherecording
ofpurchases.
96. (d)Therequirementistoidentifythepropercontrol
pertainingtotheaccountspayabledepartment.Answer
(d)iscorrectbecausetheaccountspayabledepartment
shouldestablishtheagreementofthevendorsinvoice
withthepurchaseorderandreceivingreporttoprovide
assurancethattheitemwasbothorderedandreceived.
Answer(a)isincorrectbecausetheindividualsigning
thecheck(e.g.,thetreasurer),nottheaccountspayable
department,shouldstamp,perforate,orotherwise
cancelsupportingdocumentationafteracheckis
signed.Answer(b)isincorrectbecausepurchase
requisitionswillnotnormallyincludedetailedprice
information.Answer(c)isincorrectbecausethe
quantityorderedonthereceivingdepartmentcopyof
thepurchaseorderwillalreadybeobliteratedwhenthe
purchaseorderiscompletedbythepurchasing
department.
97. (b)Therequirementistodeterminewhichcopyofthe
purchaseordershouldomitindicationofthequantity

101

ofmerchandiseordered.Answer(b)iscorrectbecause
ifthereceivingdepartmentpersonnelareunawareof
thequantitiesordered,theywillprovidean
independentcountofquantitiesreceived.Answer(a)is
incorrectbecausethedepartmentthatinitiatedthe
requisitionneedsthemerchandise,andtherefore,
shouldknowwhathasbeenordered.Answer(c)is
incorrectbecausethepurchasingagentisinvolved
withpurchasingtheitemsandthereforemustbeaware
ofthequantityinvolved.Answer(d)isincorrect
becausetheac

counts payable department must reconcile the


quantity received and the quantity billed to the
quantitythatwasauthorizedtobepurchasedper
thepurchaseorder.
98. (b)Therequirementistoidentifytheaudit
procedurewhichwouldmostlikelydetecta
clienterrorinrecordingalargepurchase.
Answer(b)iscorrectbecausereconciling
thevendorsmonthlystatementswiththe
subsidiaryledgerforpayablesshould
discloseadifferenceinthemonthfollowing
theerror.Answer(a),footingthepurchases
journal,isunlikelytodetecttheerrorsince
thejournalstotalswillhavebeen
mathematicallyaccumulatedproperly.
Answer(c)isincorrectbecausetheincorrect
totalwillbereflectedinboththepurchases
journalandintheledgeraccounts.Answer
(d)isincorrectbecausesuchconfirmations
willonlydetecttheerrorquarterlywhichis
neithertimelynorefficient.
99. (d)Therequirementistoidentifyafunction
thatiscompatiblewiththeapprovalof
purchaseorders.Answer(d)iscorrect
becausethepurchasesdepartmentwill
normallyapprovepurchaseorders(generated
fromuserdepartmentsorstores)and
negotiatetermsofpurchasewithvendors.
Answer(a)isincorrectbecausewhilethepur
chasesdepartmentmayreconciletheopen
invoicefile,thisisprimarilyarecordkeeping
functionthatwilloftenbeperformedbythe
accountingdepartment.Answer(b)isincor
rectbecausemostfrequentlythereceiving
departmentwill

inspectgoodsuponreceipt.Answer(c)isincorrect
becauseusergroupsorstoreswillauthorize
requisitionsofgoods.Keepinmindtheprincipleof
segregationoffunctions.Recordkeeping,

authorization,andcustodialfunctionsshouldallbe
segregated.
D.3.InventoriesandProduction
100. (c)Therequirementistoidentifythemost
likelyprocedureanauditorwouldperform
inobtaininganunderstandingofa
manufacturingentitysinternalcontrolfor
inventorybalances.Answer(c)iscorrect
becauseareviewoftheentitysdescriptions
ofinventorypoliciesandprocedureswill
helptheauditortoobtainthenecessary
understandingaboutthedesignofrelevant
policies,procedures,andrecords,and
whethertheyhavebeenimplementedbythe
entity.Answers(a)and(b)areincorrect
becauseanalysesofliquidityandturnover
ratiosareanalyticalproceduresdesignedto
identifycostvariancesthatwillhelpthe
auditorprimarilytodeterminethenature,
timingandextentofauditingproceduresthat
willbeusedtoobtainevidenceforspecific
accountbalancesorclassesoftransactions.
Answer(d)isincorrectbecausetestcounts
ofinventoryaregenerallyobtainedasa
substantiveprocedure.
101. (d)Therequirementistoidentifythecontrolthatmost
likelywouldbeusedtomaintainaccurateinventory
records.Answer(d)iscorrectbecauseperiodic
inventorycountswillassurethatperpetualinventory
recordsareaccurateand,becauseemployeeswill
knowthatinventorydifferencesareinvestigated,they
willbelesslikelytostealanyinventory.Answer(a)is
incorrectbecausecomparingtheperpetualinventory
recordswithcurrentcostsofitemswillreveal
situationsinwhichcostshavechanged,butisunlikely
tohelpinthemaintenanceofaccurateinventory
records.Answer(b)isincorrectbecausewhileajust
intimeinventoryorderingsystemmayhelpassure
thatinventoryrecordsareaccurate(aswellaskeptat
lowlevels),suchasystem

102

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

generallyalsorequiresperiodicinventorycountsto
maintainaccurateinventoryrecords.Answer(c)is
incorrectbecausematchingrequisitions,receiving
reports,andpurchaseordersonlyhelpsassurethatitems
receivedarepaidfor;thematchingprocessdoesnot
assureaccurateinventoryrecords.

102. (d)Therequirementistodeterminealikelyeffecton
theauditofinventoryiftheassessedlevelofcontrol
riskishigh.Answer(d)iscorrectbecauseahigh
assessedlevelofcontrolriskmayresultinchanging
thetimingofsubstantiveteststoyearendratherthan
ataninterimdate.Iftheassessedlevelofcontrolrisk
islow,theauditorcouldperforminterimsubstantive
testsandrelyuponinternalcontroltoprovidevalid
yearendrecords.However,becausetheassessedlevel
ofcontrolriskishigh,thecontrolscannotberelied
upon.Also,thenatureofsubstantivetestsmaychange
fromlesseffectivetomoreeffectiveprocedures(e.g.,
useofindependentpartiesoutsidetheentityrather
thaninternal)andanincreaseintheextentof
procedures(e.g.,largersamplesizes).Answer(a)is
incorrectbecause,asindicated,anauditorwill
generallyseekayearendcountofinventory.Answer
(b)isincorrectbecausegrossprofittestswillnotin
generalhavetherequiredprecisionwhencontrolrisk
ishigh.Answer(c)isincorrectbecausetestsof
controlsarelikelytosubstantiateanauditorsview
thatcontrolriskishigh,anditisthereforeunlikelythat
theirperformancewillbecosteffective.
103. (c)Therequirementistoidentifythecontrol
whichismostlikelytoaddressthe
completenessassertionforinventory.
Answer(c)iscorrectbecauseby
prenumberingreceivingreportsandby
reconcilingthemwithinventoryrecords,one
isabletotestcompletenessbydetermining
whetherallreceiptshavebeenrecorded.
Answer(a)isincorrectbecausereconciling
thesubsidiaryrecordswiththeworkin
processwillonlyidentifydiscrepancies
betweentherecords,itwillnotidentify
whetheralltransactionsthatshouldbeinthe
inventoryrecordsarerepresentedinthe
records.Answer(b)isincorrectbecause
whilethesegregationofreceivingfrom
custodyoffinishedgoodsisimportant,it
lessdirectlyaddressescompletenessthan
doesanswer(a).Answer(d)isincorrect
becauseseparatingthedutiesbetweenthe
payrolldepartmentandinventoryac
countingpersonneldoesnotdirectlyaddress
completenessofinventory.
104. (c)Therequirementistodeterminetheproperinter
nalcontrolforhandlingcustomerreturnsofdefective
merchandise.Answer(c)iscorrectbecausethe
receivingdepartmentcancountthegoods,andlist
themonasalesreturnnoticetodeterminethatallsuch
returnsareproperlyrecorded.Thisservesasacontrol
becausethenormalproceduresofthereceiving
functionincludeestablishingtheoriginal
accountabilityandrecordkeepingforitemsreceived.
Answers(a),(b),and(d)allrepresentfunctionsnot

typicallyinvolvedinthereceivingfunctionandthus
involveahigherriskrelatingtoestablishing
accountability.

105. (c)Therequirementistoidentifytheeffect
onrevenues,receivables,andinventoryof
inadequatecontrolsovertheinvoicing
functionthatallowsgoodstobeshipped
withoutbeinginvoiced.Itemsshipped
withoutinvoicingwillresultinasituationin
whichtheaccountingdepartmentisunaware
ofthesale.Therefore,debitstoaccounts
receivableandcreditstosaleswillnotbe
recorded,resultinginanunderstatementof
bothrevenuesandreceivables.Similarly,

becauseaccountingisunawareofthesale,noentry
toreduceinventorywillbemade,resultinginan
overstatementofinventory.
106. (c)Therequirementistoidentifythe
questionthatanauditorwouldexpecttofind
ontheproductioncyclesectionofan
internalcontrolquestionnaire.Answer(c)is
correctbecauseapprovedrequisitionswill
helpmaintaincontroloverrawmaterials
releasedtobeusedintheproductioncycle.
Answers(a),(b),and(d)areallincorrectbe
causeapprovalofvendorsinvoicesfor
payment,mailingofchecksaftersigning,
andcomparingindividualdisbursementsto
totalsallpertainmoredirectlytothe
disbursementcycle.
107. (b)Therequirementistodeterminean
objectiveofinternalcontrolforaproduction
cycleinadditiontoprovidingassurancethat
transactionsareproperlyexecutedand
recorded.Answer(b)iscorrectbecause,in
additiontoprovidingassuranceastoproper
executionandrecording,anobjectiveforthe
productioncycle(aswellasothercycles)is
thesafeguardingofassets,hereworkin
processandfinishedgoods.Answers(a),(c),
and(d)areincorrectbecausetheyrepresent
detailedcontrolsestablishedtohelpachieve
theoverallobjectives.Theyareallmuch
morespecificthantheoverallobjectives.
D.4.PersonnelandPayroll
108. (b)Therequirementistoidentifyapurposeofvouching
dataforasampleofemployeesinapayrollregisterto
approvedclockcarddata.Answer(b)iscorrectbecause
theclockcarddataprovidestheauditorwithevidenceon
whetheremployeesworkedthenumberofhoursfor
whichthepayrollregisterindicatestheywerepaid.An

swer(a)isincorrectbecauseclockcarddataoftendoes
notincludeauthorizedpayrates.Answer(c)isincorrect
becausetheproceduredoesnotdirectlyaddressthe
segregationofdutiessincenoinformationisprovided
concerningthedistributionofthepayroll.Answer(d)is
incorrectbecauseunclaimedpayrollchecksarenotbeing
analyzed.
109. (a)Therequirementistoidentifythecontrol
thatmostlikelycouldhelppreventemployee
payrollfraud.Answer(a)iscorrectbecause
promptnotificationofthepayrollsupervisor
concerningterminationswillleadtotimelyre
movalofterminatedemployeesfromthe
payroll.Accordingly,nopayrollcheckswillbe
preparedforsuchterminatedemployees.
Answer(b)isincorrectbecauseunclaimedpay
rollchecksshouldnotbereturnedtothe
supervisorswhomightinappropriatelycash
them.Answer(c)isincorrectbecausesincethe
payrolldepartmentisinvolvedinrecord
keeping,itshouldnotapprovesalaryrates.
Answer(d)isincorrectbecausecalculationof
totalhoursbythepayrollsupervisorisunlikely
topreventemployeepayrollfraud.

110. (a)Therequirementistodeterminethebest
procedurefordeterminingtheeffectiveness
ofanentityscontrolsrelatingtothe
existenceoroccurrenceassertionforpayroll
transactions.Answer(a)iscorrectbecause
propersegregationofdutiesbetween
personnelandpayrolldisbursement
eliminatesmanyfraudsinwhichphantom
employeesarebeingpaid.Answer(b)is
incorrectbecauseaccountingforthe
prenumberedpayrollchecksaddresses
completenessmoredirectlythanitdoes
existenceoroccurrence.Answer(c)is
incorrectbecauserecomputingpayroll
deductionsforemployeefringebenefits,
withoutadditionalanalysis,

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
providesonlyaverylimitedtestofexistenceor
occurrence.Answer(d)isincorrectbecauseverifying
thepreparationofthemonthlypayrollaccountbank
reconciliationisunlikelytoprovideevidenceonthe
existenceoroccurrenceassertion,althoughsome
possibilitydoesexistifsignaturesonchecksare
analyzedindetail.
111. (c)Therequirementistoidentifythe
situationinwhichitismostlikelythatan
auditorwouldassesscontrolriskforpayroll
atahighlevel.Answer(c)iscorrectbe
causethepayrolldepartment,whichis
essentiallyarecordkeepingfunction,
shouldnotalsoauthorizepayrollrate
changes.Understronginternalcontrol
recordkeeping,authorization,andcustody
overassetsshouldbesegregated.Answer
(a)isincorrectbecauseexamining
authorizationformsfornewemployeesis
consistentwiththepayrolldepartments
recordkeepingfunction.Answer(b)is
incorrectbecausecomparingpayroll
registerswithoriginalbatchtransmittaldata
isacontrolrelatingtorecordkeeping.An
swer(d)isincorrectbecausewhilethe
actualhiringofemployeesisnormally
doneinthepersonneldepartment,allowing
thepayrolldepartmentsupervisortohire
subordinates,withproperapproval,isnotas
inconsistentwithpayrollsrecordkeeping
functionasisauthorizingratechangesfor
allemployees.
112. (c)Therequirementistoidentifythecontrolmost
likelytopreventdirectlaborhoursfrombeingcharged
tomanufacturingoverhead.Answer(c)iscorrect
becausetimeticketsmaybecodedastowhetherdirect
laboronvariousprojectswasinvolved.Accordingly,
usingtimeticketswillhelpidentifydirectlaborcosts.
Answer(a)isincorrectbecausewhileperiodiccounts
ofworkinprocessmayprovideacontroloverphysical
unitsofproduction,thecountswillnotingeneral
provideassurancethatdirectlaborhoursareproperly
chargedtotheproductratherthantomanufacturing
overhead.Answer(b)isincorrectbecausecomparing
dailyjournalentrieswithproductionorderswillnotin
generalidentifycoststhathavebeenomittedfrom
directlaborduetothelevelofaggregationofthe
entries.Answer(d)isincorrectbecausethe
reconciliationofworkinprocessinventorywith
budgetswillprovideonlyverylimiteddetectionability
relatingtothechargingofdirectlaborto
manufacturingoverhead.
113. (a)Therequirementistodeterminetheindividual(s)
whoshoulddistributepaychecksandhavecustodyof
unclaimedpaychecks.Answer(a)iscorrectbecause
thesecustodyfunctionsshouldnotbeperformedby
thepayrolldepartmentwhichisarecordkeeping
function.Underproperinternalcontrolrecordkeeping,
custody,andauthorizationoftransactionsshouldbe
segregated.
114. (c)Ifpaymentofwagesweretobeincash,
eachemployeereceivingpaymentshouldbe

103

requiredtosignareceiptfortheamountof
payreceived.Thus,therewouldbecontrol
overthetotalamountdisbursedaswellas
amountsdisbursedtoeachindividual
employee.Answer(a)isincorrectbecauseif
asignedreceiptisnotreceivedfromeach
employeepaid,therewouldbenoproofof
payment.Eventhoughthepayenvelopes
includebothcashandacomputationofnet
wages,theemployeesshouldhavethe
opportunitytocountthecashreceivedbefore
signingapayrollreceipt.Answer(b)is
incorrectbecauseunclaimedpayenvelopes
shouldnotberetainedbythepaymaster,but
ratherdepositedinabankaccountbythe
cashier.An

swer(d)isincorrectbecausethewagepaymentwillbe
madeincashandnotbycheck.Accordingly,areceipt
mustbeobtainedforeachcashpayment.
115. (a)Therequirementistoidentifythepurpose
ofsegregatingthedutiesofhiringpersonnel
andofdistributingpayrollchecks.Answer(a)
iscorrectbecausethehiringofpersonnelisan
authorizationfunctionwhilethedistributionof
checksisacustodyfunction.Thus,inorderto
properlysegregateauthorizationfromcustody,
thesedutiesshouldnotbeperformedbythe
sameindividual.Thecombinationofthesetwo
functionsinthesamepositionwouldcreatethe
possibilityoftheadditionofafictitious
employeetothepayrollandsubsequent
misappropriationofpaychecks.Answer(b)is
incorrectbecausethefunctionsinvolvedare
notprimarilyoperationalorrecordkeeping.
Answer(c)isincorrectbecausethetreasury
function,andnotthecontrollershipfunction,
willnormallyberesponsiblefordistributing
payrollchecks.Answer(d)isincorrectbecause
segregationofdutiesdoesnotdirectlyaddress
administrativecontrolsvs.internalaccounting
controls.

116. (c)Therequirementistodeterminethebest
method to minimize the opportunities for
fraudforunclaimedcash
inacashpayrollsystem.Foracashpayrollthebest
controlistogettheunclaimedcashoutofthefirms
physicalcontrolandintothebank.Answer(a)is
incorrectbecausemaintainingtheaccountabilityfor
cashwhichisinasafedepositboxisdifficult.
Answers(b)and(d)areincorrectbecausethecash
neednotbekeptbythefirm.
117. (c)Therequirementistoidentifyareasonwhyan

auditormayobservethedistributionofpaychecks.An
swer(c)iscorrectbecauseanemployeespresenceto
collectthepaycheckprovidesevidencethatthe
employeeactuallyexistsandiscurrentlyemployedby
theclient.Answer(a)isincorrectbecausethe
distributionsofpayrollcheckswouldnotreveal
whetherpayrateauthorizationisproperlyseparated
fromtheoperatingfunction.Answer(b)isincorrect
becausethepaycheckdistributiondoesnotprovide
informationonwhetherdeductionsfromgrosspay
havebeencalculatedproperly.Answer(d)isincorrect
becauseobservationofthepaycheckdistribution
processdoesnotofitselfprovideassurancethatthe
paychecksagreewiththerelatedpayrollregisterand
timecards.
118. (a)Therequirementistodeterminethe
departmentmostlikelytoapprovechangein
payratesanddeductionsfromemployee
salaries.Answer(a)iscorrectbecausethe
personneldepartment,whichhastheprimary
objectiveofplanning,controllingand
coordinatingemployees,willdeterminethat
proposedsalaryincreases(often
recommendedbysupervisorsofemployees)
areconsistentwiththecompanyssalary
guidelinesandwillapprovechangesin
deductions.Answers(b)and(c)are
incorrectbecausethetreasurerand
controllerwillingeneralinitiatethepayrate
changeprocessforonlythoseemployees
withintheirdepartmentsandwillnot
generallyapprovechangesforemployees
outsidetheirdepartments.Answer(d)is
incorrectbecausethepayrollfunctionsisa
recordkeepingfunctionwhichwillmodify
employeepayratesbasedonapproved
changesfrompersonnel.Payrollshouldnot
haveauthorityregardingpayratesand
deductions.

104

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

D.5.Financing
119. (d)Therequirementistodeterminethemostlikely
questionthatwouldbeincludedonaninternalcontrol
questionnairefornotespayable.Answer(d)iscorrect
becausecompaniesfrequentlyrequirethatdirect
borrowingsonnotespayablebeauthorizedbythe
boardofdirectors;accordingly,auditorswill
determinewhetherproperpolicyhasbeenfollowed.
Answer(a)isincorrectbecauseinternalcontrol
questionnairesdonotingeneralincludequestionson
whetherassetsthatcollateralizenotespayableare
criticallyneeded.Answer(b)isincorrectbecausethe
internalcontrolquestionnairefordisbursementsis
morelikelytoaddresstherequiredauthorized
signaturesonchecksthanwilltheinternalcontrol
questionnairefornotespayable.Answer(c)is
incorrectbecausewhileitisoftengoodbusiness
practicetouseproceedsfromlongtermnotesto
purchasenoncurrentassets,thisisnotrequiredandis
notincludedonaninternalcontrolquestionnaire.
120. (d)Therequirementistoidentifythe
primaryresponsibilityofabankactingas
registrarforcapitalstock.Answer(d)is
correctbecausetheprimaryresponsibilityof
thestockregistraristopreventany
overissuanceofstock,andtherebyverify
thatthestockisissuedproperly.Answer(a)
isincorrectbecauseregistrarwillnotin
generaldeterminethatthedividendamounts
areproper.Answer(b)isincorrectbecause
thetransferagentwillmaintainrecordsof
totalsharesoutstandingaswellasdetailed
stockholderrecords,andcarryouttransfers
ofstockownership.Answer(c)isincorrect
becauseregistrarsdonotperformtherole
describedrelatingtomergers,acquisitions,
andthesaleoftreasurystock.
121. (a)Canceledstockcertificatesshouldbedefacedand
attachedtocorrespondingstubsasisdonewithvoided
checks.Theobjectiveofthecontrolistoprevent
reissuance.Answer(b)isincorrectbecausefailureto
defacepermitsreissuance.Answer(c)isincorrect
becausedestructionofthecertificateswouldpreclude
theircontrol(i.e.,theirexistenceafterdefacing
providesassurancethattheycannotbereissued).Ifthe
certificatesweredestroyed,oneormoremightbe
reissuedwithoutanyproofthatsuchoccurred.Answer
(d)isincorrectbecausetheSecretaryofStatehasno
interestinreceivingdefacedandcanceledstock
certificates.
D.6.Investing
122. (a)Therequirementistoidentifythereply
whichisnotacontrolthatisdesignedto
protectinvestmentsecurities.Answer(a)is
notacontrolsincethecustodyofsecurities
shouldbeassignedtoindividualswhodo
nothaveaccountingresponsibilityfor
securities;aswithotherassets,
authorization,recordkeeping,andcustody
shouldbeseparated.Answer(b)isincorrect
becausesecuritiesshouldbeproperly

controlledphysicallyinordertoprevent
unauthorizedusage.Answer(c)isincorrect
becauseaccesstosecuritiesshould
ordinarilybevestedintwoindividualssoas
toassuretheirsafekeeping.Answer(d)is
incorrectbecausesecuritiesshouldbe
registeredinthenameoftheowner.

123. (b)Therequirementistoidentifythebest
controlforsafeguardingmarketable
securitieswhenanindependenttrustagentis
notemployed.Answer(b)iscorrectbecause
requiringjointcontroloversecurities
maintainedinasafedepositboxassures
that,absentcollusion,assetsaresafe
guarded.Answer(a)isincorrectbecausea
reviewofin

vestmentdecisionsbytheinvestmentcommitteewill
haveaverylimitedeffectonsafeguarding
marketablesecurities.Answer(c)isincorrectbecause
thesimpletracingofmarketablesecuritiesfromthe
subsidiaryledgerstothegeneralledgerdoesnot
directlysafeguardmarketablesecuritiessince,for
example,unrecordedtransactionsmayoccur.Answer
(d)isincorrectbecause,evenifthechairmanofthe
boarddidverifymarketablesecuritiesonthebalance
sheetdate,thecontrolwillonlybeeffectiveatthat
pointintime.
124. (d)Therequirementistoidentifythebest
auditprocedurewhenaweaknessininternal
controloverreportingofretirementsexists.
Answer(d)iscorrectbecauseselecting
certainitemsofequipmentfromthe
accountingrecordsandattemptingtolocate
themwillrevealsituationsinwhichthe
accountingrecordsstillhavethemrecorded
subsequenttotheirretirement.Answer(a)is
incorrectbecauseinspectingitemsthatstill
existisnotlikelytoleadtodiscoveryofun
recordedretirements.Answer(b)isincorrect
becausedepreciationmaycontinuetobe
takenonequipmentthathasbeenretired,but
notrecorded.Answer(c)isincorrectbe
causeitisdoubtfulthatsuchretirements
havebeenreclassifiedasotherassets.
125. (d)Therequirementistoidentifythe
questionthatisleastlikelytobeincludedon
aninternalcontrolquestionnaireconcerning
theinitiationandexecutionofequipment
transactions.Answer(d)iscorrectbecause
procedurestomonitorandproperlyrestrict
accesstoequipmentdonotrelatedirectlyto
theinitiationandexecutionofequipment
transactions.Answer(a)isincorrectbecause
requestsformajorrepairsrelatetoinitiation
ofatransactionwhichshouldbecontrolled.

Answer(b)isincorrectbecausepre
numberedpurchaseordersmaybeusedto
controlallpurchases,includingpurchasesof
equipment.Answer(c)isincorrectbecause
thesignificantamountsofmoneyinvolved
withpurchasesofequipmentsuggestthe
needforthesolicitationofcompetitivebids.
126. (d)Therequirementistoidentifythecontrolthat
wouldbemosteffectiveinassuringthattheproper
custodyofassetsintheinvestingcycleismaintained.
Answer(d)iscorrectbecausecomparingrecorded
balancesintheinvestmentsubsidiaryledgerwith
physicalcountswillhelpassurethatrecordedassets
arethoseoverwhichthecompanyhascustody.Thisis
anexampleofthecontrolactivityofcomparisonof
assetswithrecordedaccountability.Answer(a)is
incorrectbecauseinternalcontrolisimprovedwhen
twoindividuals,notone,mustbepresentforentryto
thesafedepositbox.Answer(b)isincorrectbecause
whilethesegregationofdutieswithinthe
recordkeepingmayincertaincircumstancesbe
desirable,itdoesnotdirectlyaddresscustodyover
assets.Answer(c)isincorrectbecauseonlyextremely
majorinvestmentsgenerallyneedbeauthorizedbythe
boardofdirectors.
127. (d)Therequirementistodeterminewho
shouldhaveresponsibilityforcustodyof
shorttermbearerbondinvestmentsandthe
submissionofcouponsforperiodic
collectionsofinterest.Thetreasurer
authorizessuchtransactions.Answer(a)is
incorrectbecausethechiefaccountant,who
isinchargeoftherecordkeepingfunction,
shouldnotalsomaintaincustodyofthe
bonds.Answer(b)isincorrectbecausethe
internalauditorshouldnotbedirectlyin
volvedassuchinvolvementwouldmakean
independentreviewofthesystem
impossible.Answer(c)isincorrect

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
because the cashier function is more directly
involvedwithdetailssuchasendorsing,depositing,
andmaintainingrecordsofcashreceipts.
128. (b)Therequirementistoidentifythecontrolthat
wouldbemostlikelytoassistanentityinsatisfying
thecompletenessassertionrelatedtolongterm
investments.Answer(b)iscorrectbecause
completenessdealswithwhetheralltransactionsare
recorded,andthecomparisonofsecuritiesinthebank
safedepositboxwithrecordedinvestmentsmay
revealsecuritieswhichareinthesafedepositboxbut
arenotrecorded.Answer(a)isincorrectbecause
verificationofsecurityregistrationhelpsestablishthe
rightsassertionnotthecompletenessassertion.Answer
(c)isincorrectbecausevouchingtheacquisitionof
securitiesbycomparingbrokersadviceswith
canceledcheckshelpstoestablishtheexistence
assertionnotthecompletenessassertion.Answer(d)
isincorrectbecauseacomparisonofthecurrent
marketpricesofrecordedinvestmentswithbrokers
advicesaddressesthevaluationassertionnotthe
completenessassertion.
129. (a)Therequirementistoidentifythebestcontrolfor
safeguardingmarketablesecuritiesagainstloss.An
swer(a)iscorrectbecauseuseofanindependenttrust
companyallowstheeffectiveseparationofcustody
andrecordkeepingforthesecurities.Answer(b)is
incorrectbecauseaverificationofmarketable
securitiesatthebalancesheetdatemayhaveonlya
limitedeffectonsafeguardingthesecurities
throughouttheyear.Answer(c)isincorrectbecause
tracingallpurchasesandsalesofmarketablesecurities
willnotaffectsecuritiesthathavedisappearedfor
whichnoentrieshavebeenmade.Also,itisunlikely
thatanentitywillrelyupontheindependentauditorin
thismanner.Answer(d)isincorrectbecause
maintenanceofcontrolovercustodybyamemberof
theboardofdirectorsmayprovidelesscomplete
controlthantheuseofanindependenttrustcompany.
130. (c)Therequirementistodeterminethe
appropriatecombinationofaudittestswhen
therearenumerouspropertyandequipment
transactionsduringtheyearandtheauditor
planstoassesscontrolriskatalowlevel.
Answer(c)iscorrectbecause,tojustifyan
assessmentofcontrolriskatalowlevel,tests
ofcontrolswillberequired.Thiswillallow
auditorstoperformonlylimitedtestsof
currentyearpropertyandequipment
transactions.Answer(a)isincorrectbecause
testsofcontrolswillbeperformedtoallow
theauditortoperformlimited,notextensive,
testsofpropertyandequipmentbalancesat
theendoftheyear.Answers(b)and(d)are
incorrectbecauseanalyticalprocedureson
eitheryearendbalancesortransactionswill
notjustifyalowassessedlevelofcontrol
risk.
D.7.OverallInternalControlQuestionnaires
(Check
lists)

105

131.(d)Therequirementistodeterminethetype
offraudwhichismostdifficulttodetect.Answer(d),
afraudcommittedbythecontroller,ismostdifficult
todetectbecausethecontrollerisincontrolofthe
recordkeepingfunctionandthusmaybeableto
commitafraudandthenmanipulatetheaccounting
recordssoastomakeitsdiscoveryunlikely.Answer
(a)isincorrectbecausewhileacashiermaybeable
toembezzlefunds,s/hewillnothaveaccesstothe
accountingrecordsandthusdiscoveryofthe
embezzlementwillbelikely.Answer(b)isincorrect
becauseakey

punchoperatorwillnotingeneralhaveaccessto
assets.Answer(c)isincorrectbecauseaninternal
auditorwillnotgenerallybeabletomanipulatethe
accountingrecordsandgenerallyhaslimitedaccess
toassets.
E.1.a.CommunicationofInternalControlRelated
Matters

135. (d)Therequirementistoidentifythe
statementthatshouldbeincludedinan
auditorsletteronsignificantdeficiencies.
Answer(d)iscorrectbecauseAU325
indicatesthatsuchalettertotheaudit
committeeshould(1)indicatethatthe
auditspurposewastoreportonthe
financialstatementsandnottoexpressan
opiniononinternalcontrol,
(2)includethedefinitionofasignificantdeficiency,
and
(3)restrictdistributionofthereport.

132. (c)Answer(c)iscorrectbecauseweaknessesthatwere
communicatedinthepastandnotcorrectedmustbe
recommunicatedtomanagementandthosecharged
withgovernance.Answers(a),(b),and(d)areall
136. (c)Therequirementistoidentifythecorrectstatement
accuratestatementsaboutauditrequirements.
133. (c)Therequirementistoidentifythematteranauditor
wouldmostlikelyconsidertobeamaterialweakness
tobecommunicatedtothosechargedwithgovern
ance.Answer(c)iscorrectbecauseineffective
oversightoffinancialreportingbythosechargedwith
governanceisanindicatorofamaterialweakness(AU
325).Answers(a),(b),and(d)areallincorrect
becauseafailuretorenegotiateunfavorablelongterm
purchasecommitments,recurringoperatinglosses,and
planstoreduceownershipequitydonotfallwithinthe
definitionofamaterialweakness.
134. (c)Therequirementistoidentifythecorrectstate
mentconcerningsignificantdeficienciesidentifiedin
anaudit.Answer(c)iscorrectbecauseanauditormay
communicatesignificantdeficiencieseitherduringan
auditoraftertheauditscompletion.Answer(a)is
incorrectbecauseanauditorneednotsearchfor
significantdeficiencies.Answer(b)isincorrect
becauseallsignificantdeficienciesarenotalso
materialweaknesses.Answer(d)isincorrectbecause
anauditormaynotissueawrittenreportthatnosig
nificantdeficiencieswerenotedduringanaudit.

concerninganauditorsrequiredcommunicationof
significantdeficiencies.Answer(c)iscorrectbecause
distributionofanauditorsreportonsignificant
deficienciesshouldberestrictedtomanagementandthe
auditcommittee.Answer(a)isincorrectbecauselackof
correctionofasignificantdeficiencydoesnot
necessarilyresultinascopelimitation.Answer(b)is
incorrectbecausetestsofcontrolsneednotbeperformed
relatingtosignificantdeficiencies.Answer(d)is
incorrectbecausealthoughtimelycommunicationof
significantdeficienciesmaybeimportant,depending
uponthenatureofthesignificantdeficiencyidentified,
theauditormaychoosetocommunicateiteitherafterthe
auditisconcludedorduringthecourseoftheaudit.
137. (d)Therequirementistoidentifythecorrect
statementaboutsignificantdeficienciesnoted
inanaudit.Answer(d)iscorrectbecausethe
auditorshouldseparatelyidentifyand
communicatematerialweaknessesand
significantdeficiencies(AU325).Answer(a)
isincorrectbecausesignificantdeficienciesare
lessseverethanmaterialweaknesses.Answer
(b)isincorrectbecausetheauditoris

106

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

notobligatedtosearchforsignificantdeficiencies.
Answer(c)isincorrectbecausesuchdeficiencies
shouldberecommunicated.
138. (b)Therequirementistodeterminethe
representationthatshouldnotbeincluded
inareportoninternalcontrolrelated
mattersnotedinanaudit.Answer(b)is
correctbecausetheauditorsshouldnotissue
areportoninternalcontrolstatingthatno
significantdeficiencieswereidentified
duringtheaudit.Answer(a)isincorrect
becausesignificantdeficienciesshouldbe
disclosed.Answer(c)isincorrectbecausean
auditormayrecommendcorrectivefollow
upaction.Answer(d)isincorrectbecausean
auditormaydisclosethefactthatthe
considerationofinternalcontrolwouldnot
necessarilydiscloseallsignificant
deficienciesthatexist.
139. (b)Therequirementistoidentifythe
correctstatementregardingmaterial
weaknessesandsignificantdeficiencies.
Answer(b)iscorrectbecausea
compensatingcontrolisacontrolthat
lessenstheseverityofadeficiency(AU
325).Answer(a)isincorrectbecause
materialweaknessesshouldbereported
separatelyfromsignificantdeficiencies.
Answer(c)isincorrectbecausewhilethe
auditormaychoosetocommunicate
materialweaknessandsignificant
deficienciesimmediately,the
communicationmayoccuratothertimes.
Answer(d)isincorrectbecausesignificant
deficienciesarelessseverethanmaterial
weaknesses.
140. (b)Therequirementistodeterminean
auditorsresponsibilityafters/hehas
discoveredandorallycommunicated
informationonaweaknessininternalcontrol
totheclientsseniormanagementandthose
chargedwithcorporategovernance.Answer
(b)iscorrectbecausetheauditor,asoutlined
throughoutAU318,considersand
documentshis/herunderstandingofinternal
controltoassistinplanninganddetermining
thepropernature,timing,andextentof
substantivetests.Answer(a)isincorrect
becausenoscopelimitationisindicated
althoughaninternalcontrolconditiondoes
exist.Similarly,answers(c)and(d)are
incorrectbecauseauditactivitiesneednot
besuspendedandtheauditorneednot
withdrawfromtheengagement.
E.1.b TheAuditorsCommunicationwith
ThoseChargedwithGovernance
141. (b)Therequirementistodeterminethematterthatan
auditorwouldcommunicatetothosechargedwith
governance.Answer(b)iscorrectbecauseAU380
requiresthatwhentheauditorisawareofsuch
consultationwithanotherCPA,s/heshoulddiscuss

withtheauditcommitteehis/herviewsabout
significantmattersthatwerethesubjectofsuch
consultation;accordingly,suchadiscussionwith
managementistobeexpected.Whiletheinformation
suggestedinanswers(a),(c),and(d)mayallbe
communicatedtotheauditcommittee,theyarenot
includedasrequireddisclosuresunderAU380.See
AU380forthevariousmattersthatmustbe
communicatedtothosechargedwithgovernance.
142. (b)Therequirementistoidentifythe
correctstatementconcerninganauditors
requiredcommunicationwiththosecharged
withgovernance.Answer(b)iscorrectbe
causethecommunicationshouldinclude
suchinformationondisagreements.SeeAU
380forthisandotherrequired
communicationswiththosechargedwith
governance.An

swer(a)isincorrectbecausethecommunicationmay
occurbeforeorafterissuanceoftheauditorsreport.
Answer(c)isincorrectbecausenotallmattersneedbe
communicatedtomanagement.Answer(d)is
incorrectbecausesignificantadjustmentsneedtobe
communicatedtothosechargedwithgovernance.
143. (b)Therequirementistoidentifythe
discussionthatitisleastlikelythatan
auditorwillinitiatewiththosechargedwith
governance.Answer(b)iscorrectbecause
auditorsdonotgenerallyinitiateadiscussion
onmateriality,althoughtheydooccasionally
respondtosuchquestions.SeeAU380for
auditorcommunicationswiththosecharged
withgovernance.
144. (b)Therequirementistoidentifythecorrect
statementaboutanauditorsrequired
communicationwiththosechargedwith
governance.Answer(b)iscorrectbecause
thecommunicationmustincludesignificant
misstatementsdiscovered,evenifcorrected
bymanagement.Answer(a)isincorrect
becausewhilesuchcommunicationsmaybe
communicatedtomanagement,thereisno
suchrequirement.Answer(c)isincorrect
becausedisagreementswithmanagement,
aswellastheotherrequireddisclosures,
maybecommunicatedeitherorallyorin
writing.Answer(d)isincorrectbecausean
auditormustrecommunicatesuch
weaknessesininternalcontrol.Also,seeAU
380forthematterscommunicatedtothose
chargedwithgovernance.
145. (a)Therequirementistodeterminewhetherdis
agreementswithmanagementandinitialselectionof
significantaccountingpoliciesneedtobe
communicatedtothosechargedwithcorporate
governance.Answer(a)iscorrectbecause
disagreementsshouldbecommunicateddirectlyto
thosechargedwithcorporategovernance.Answer(b)

isincorrectbecausedirectcommunicationbythe
auditorisnotrequiredforselectionofaccounting
principles.Managementmayengageinthis
communicationwiththosechargedwithcorporate
governance.Answer(c)isincorrectbecausethe
auditoronlyneedstomakesurethatmanagementhas
communicatedwiththecommitteeconcerninginitial
selectionofsignificantaccountingpoliciesin
emergingareasthatlackauthoritativeguidance.
Answer(d)isincorrectbecausedisagreementsshould
becommunicateddirectlytothosechargedwith
corporategovernance.
146. (a)Therequirementistodeterminethe
informationthatanauditorshould
communicatetothosechargedwithcorporate
governance.Answer(a)iscorrectbecauseboth
significantauditadjustmentsand
managementsconsultationwithother
accountantsaboutsignificantaccounting
mattersshouldbecommunicatedtoanaudit
committee.See

AU380fortheseandothermattersthatshouldbe
socommunicated.
E.2.ReportingonInternalControl
147. (d)Therequirementistoidentifythe
statementthatshouldbeincludedina
CPAsreportonaclientsinternalcontrol
overfinancialreporting.Answer(d)is
correctbecauseAT501requiresthatthe
reportincludeacommentontheinherent
limitationsofanyinternalcontrol.
148. (a)Therequirementistoidentifythe
statementthatbestdescribesaCPAs
engagementtoreportonanentitysinternal
controloverfinancialreporting.Answer(a)
iscorrectbecausetheobjectiveofan
attestationengagementistoformanopinion
ontheeffectivenessofinternalcontrol.
Answer(b)isincorrectbecausenosuch
negativeassurance

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
isprovidedbasedonanauditoftheentitys
internalcontrol.Answer(c)isincorrectbecausesuch
engagementsdonotprojectexpectedbenefitsofthe
entitysinternalcontrol.Answer(d)isincorrect
becausesuchengagementsareattestation
engagements,notconsultingengagements.
149. (c)Therequirementistodeterminethecorrectstatement
regardinganengagementtoexamineinternalcontrol.
Answer(c)iscorrectbecausetheproceduresrelatingto
internalcontrolwillbemoreextensivewhenreportingon
internalcontrolascomparedtoproceduresperformedfor
afinancialstatementaudit.Thisdifferenceoccurs
becauseduringfinancialstatementauditstheauditormay
decidenottoperformtestsofcontrolsandmaysimply
assesscontrolriskatthemaximumlevel.Conversely,in
anengagementtoreportoninternalcontrolanauditor
mustperformadditionaltestsofcontrols.Answer(a)is
incorrectbecausesuchduplicationofproceduresmay
notbenecessary.Answer(b)isincorrectbecauseareport
oninternalcontrolwillnotingeneralincreasethe
reliabilityofthefinancialstatements.Answer(d)is
incorrectbecause,asindicated,thescopeofprocedures
relatingtointernalcontrolismoreextensive,notmore
limited,thantheassessmentofcontrolriskmadeduring
afinancialstatementaudit.

150. (d)Therequirementistoidentifythe
relationshipbetweenanexaminationof
internalcontrolandobtainingan
understandingofinternalcontroland
assessingcontrolriskaspartofanaudit.
Answer(d)iscorrectbecause,whilethe
scopeandpurposedifferbetweenthetwo
typesofengagements,theprocedures
followedaresimilar.SeeAT501(or
PCAOBStandard5)forinformationon
reportingonanauditofinternalcontrol.
151. (b)Therequirementistodescribethe
contentsofareportonthestudyofinternal
controlthatisbasedoncriteriaestablished
bygovernmentalagencies.Answer(b)is
correctbecausethereportshouldindicate
matterscoveredbytheconsiderationand
whethertheauditorsconsiderationincluded
testsofcontrolswiththeprocedurescovered
byhis/herconsideration.Additionally,the
reportshoulddescribetheobjectivesand
limitationsofinternalcontrolandthe
accountantsevaluationthereof;statethe
accountantsconclusion,basedonthe
agencyscriteria;anddescribethepurposeof
thereportandstatethatitshouldnotbeused
foranyotherpurpose.Answer(a)is
incorrectbecausetheagencysnameshould
beincluded.Answer(c)isincorrectbecause
aconclusionmaybemaderelativetothe
agencyscriteria.Answer(d)isincorrect
becausetheaccountantshouldnotassume
responsibilityforthecomprehensivenessof
thecriteria.
152. (b)AT501statesthatwhenadeviationfrom
thecontrolcriteriabeingreportedupon

107

exists(hereamaterialweaknessininternal
control)theCPAshouldreportdirectlyupon
thesubjectmatterandnotuponthe
assertion.

E.3.EffectsofanInternalAuditFunction
153.(a)Therequirementistoidentifythemost
likelyinformationaCPAwouldobtaininassessingthe
competenceofaninternalauditor.Answer(a)is
correctbecauseinassessingcompetence,aninternal
auditorwillconsiderthequalityofworkingpaper
documentationaswellasavarietyofotherfactors
outlinedinAU322.Answer(b)isincorrectbecause
anorganizationscommitmenttointegrityandethical
values,whileimportant,doesnotbearasdirectlyupon

internalauditorcompetence.Answers(c)and(d)are
incorrectbecausetheinfluenceofmanagementand
theorganizationalleveltowhichtheinternalauditor
reportsarefactorsusedtoassessinternalauditor
objectivity.AU322providesoverallguidanceonthe
useofinternalauditors.
154. (d)Therequirementistodeterminewhether
theindependentauditormayshare
responsibilitywithanentitysinternal
auditorforassessinginherentriskand
controlrisk.AU322requiresthat
judgmentsaboutinherentandcontrolrisk
alwaysbethoseoftheindependentauditor.
Italsorequiresthatjudgmentsaboutthe
materialityofmisstatements,the
sufficiencyoftestsperformed,thevaluation
ofsignificantaccountingestimates,and
othermattersaffectingtheauditorsreport
shouldalwaysbethoseoftheindependent
auditor.SeeAU322forinformationonthe
externalauditorsconsiderationofthe
internalauditfunction.
155. (d)Theworkofinternalauditorsmayaffect
thenature,timingandextentoftheaudit,
including(1)procedurestheauditor
performswhenobtaininganunderstanding
oftheentitysinternalcontrol,(2)
procedurestheauditorperformswhen
assessingrisk,and(3)substantiveproce
durestheauditorperforms.
156. (c)Therequirementistoidentifythe
circumstanceinwhichaninternalauditors
workwouldmostlikelyaffectthenature,
timing,andextentofaCPAsauditing
procedures.Whenconsideringtheeffectof
theinternalauditorswork,theCPA
considers(1)thematerialityoffinancial
statementamounts,(2)theriskofmaterial
misstatementoftheassertions,and(3)the

degreeofsubjectivityinvolvedinthe
evaluationoftheauditevidence.Answer(c)
iscorrectbecausetheexistenceoffixed
assetadditionsinvolveslittlesubjectivity.
Answers(a)and(b)areincorrectbecause
theexistenceofcontingenciesandthe
valuationofintangibleassetsaresubjective
andtheriskofmisstatementmaybehigh.
Answer(d)isincorrectbecausethe
valuationofrelatedpartytransactionsmay
beverysubjectiveduetothelackofan
armslengthtransaction.
157. (d)AU322statesthatinternalauditorsmayassistthe
CPAinobtaininganunderstandingofinternalcontrol,
inperformingtestsofcontrols,andinperforming
substantivetests.
158. (b)Therequirementistoidentifythetype
ofinformationusedbyaCPAtoassessthe
competenceofinternalauditors.Answer(b)
iscorrectbecause,alongwithvariousother
factors,AU322indicatesthattheCPA
shouldobtainevidenceontheeducational
backgroundandprofessionalcertificationof
theinternalauditorswhenconsideringcom
petence.Answers(a)and(c)areincorrect
becauseanalysisoforganizationallevelto
whichtheinternalauditorsreportand
policiesonrelativesareconsideredwhen
assessinginternalauditorobjectivity.
Answer(d)isincorrectbecauseaccessto
sensitiverecordswillnotprovideaCPA
withinformationoncompetence.
159. (d)Therequirementistoidentifytheleast
likelysourceofinformationtotheCPAon
anentitysinternalauditorscompetenceand
objectivity.Answer(d)iscorrectbecause
analyticalproceduresdonotordinarily
provideinformationontheinternalauditor.
SeeAU329forinformationonanalytical
procedures.

108

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
160. (a)Therequirementistoidentifythe
characteristicsofaninternalauditorwhich
mustbeconsideredbyanindependent
auditorwhodecidesthattheinternalauditors
workmighthaveabearingonhis/her
procedures.Answer(a)iscorrectbecause
independentauditorsmustconsiderinternal
auditorcompetence,objectivity,andwork
performance.Answer(b)isincorrectbecause
anindependentauditorislessconcerned
aboutinternalauditorefficiency,although
internalauditorexperiencewillbeconsidered
intheassessmentofcompetence.Answers
(c)and(d),whilepartiallycorrect,areless
completethananswer(a).
161. (d)Therequirementistodeterminehowa
CPAshouldassesstheobjectivityofan
internalauditor.Answer(d)iscorrect
becausewhenassessingtheobjectivityofan
internalauditortheCPAshouldconsider
organizationalstatusandpoliciesfor
maintainingobjectivity.Answers(a),(b),and
(c)areallincorrectbecauseevaluatingthe
qualitycontrolprogram,andexaminingand
testinganinternalauditorsworkallrelate
moredirectlytoassessinginternalauditor
competenceratherthantoobjectivity.See
AU322fortheseandotherfactors
consideredwhenassessinginternalauditor
competence.

E.4.ReportsontheProcessingofTransactionsby
ServiceOrganizations
162. (a)Therequirementistoidentifythe
informationprovidedinaserviceauditors
reportwhichincludesanopinionona
descriptionofcontrolsimplemented.An
swer(a)iscorrectsincesuchareport
includesadescriptionofthescopeand
natureoftheCPAsprocedures.Answers
(b),(c),and(d)areallincorrectbecausethey
suggestinformationnotincludedinsucha
report.SeeAU324forinformationonthe
auditofserviceorganizations.
163. (a)TherequirementistoidentifyaCPAs
reportingresponsibilitywhenreportingon
internalcontrolimplementedforaservice
organizationthatprocessespayroll
transactions.Answer(a)iscorrectbecause
sincetheCPAisonlyexpressinganopinion
onwhethercontrolshavebeenimplemented,
adisclaimershouldbeprovidedonoperating
effectiveness.Answer(b)isincorrectbecause
nospecificstatementismadewithrespectto
earlierobjectives.Answer
(c)isincorrectbecausecontrolsrelevanttofinancial
statementassertionsarenotsoidentified.Answer(d)
isincorrectbecausetheassessedlevelofcontrolriskis
notdisclosed.SeeAU324forinformationon
processingoftransactionsbyserviceorganizations.
164. (a)Therequirementistodetermine

whetheranauditorwhoauditsthe
processingoftransactionsbyaservice
organizationmayissueareportoneither,
orboth,ofwhethercontrolshavebeen
implementedandcontroloperating
effectiveness.Answer(a)iscorrect
becauseAU324indicatesthatsuch
serviceauditorsmayissueeitherofthe
twotypesofreports.

165. (a)Therequirementistoidentifythe
properinformationtobeincludedina
serviceauditorsreportonwhethera
clientscontrolshavebeenimplemented.
Answer(a)iscorrectbecausesuchareport
shouldincludeadescriptionofthescope
andnatureoftheclientsprocedures.
166. (d) The requirement is to determine the
propriety of a computer user auditor
(Lake)makingreferencetoaser

viceauditors(Cope)report.Answer(d)iscorrect
becausetheuserauditorshouldnotmakereferenceto

thereportoftheserviceauditor.SeeAU324for
reportsontheprocessingoftransactionsbyservice
organizations.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK
SOLUTIONSTOSIMULATIONS

TaskBasedSimulation1
CashReceipts

andBilling

Authoritative
Literature

Help

1.

5.

8.

Condition
Southwestisinvolvedonlyinmedicalservicesandhasnot
diversifieditsoperations.

2.

Insurancecoverageforpatientsisverifiedandcommunicatedto
the clerks by the office manager before medical services are
rendered.

3.

Thephysicianwhorendersthemedicalservicesdocumentsthe
servicesonaprenumberedslipthatisusedforrecordingrevenue
andasareceiptforthepatient.

4.

CashcollectioniscentralizedinthatClerk#2receivesthecash
(checks)frompatientsandrecordsthecashreceipt.

Southwestextendscreditratherthanrequiringcashorinsuranceinall
cases.
6.

Theofficemanagerextendscreditonacasebycasebasisrather
thanusingaformalcreditsearchandestablishedcreditlimits.

7.

Theofficemanagerapprovestheextensionofcredittopatients
and also approves the writeoffs of uncollectible patient
receivables.

Clerk#2receivescashandchecksandpreparesthedailybankdeposit.
9.

Clerk#2maintainstheaccountsreceivablerecordsandcan
addordeleteinformationonthePC.

10. Prenumberedserviceslipsareaccountedforonamonthlybasisbythe
outsideaccountantwhoisindependentoftherevenuegeneratingand
revenuerecordingfunctions.
11. The bank reconciliation is prepared monthly by the outside
accountant who is independent of the revenue generating and
revenuerecordingfunctions.
12. Computerpasswordsareonlyknowntotheindividualemployees
and the managing partner who has no duties in the revenue
recordingfunctions.

13. ComputersoftwarecannotbemodifiedbySouthwestsemployees.
14. Noneoftheemployeeswhoperformduties intherevenue
generatingandrevenuerecordingareabletowritechecks.

109

Strength

Weakness

Neither

TaskBasedSimulation2
Purchasesand
Disbursements

1.
2.

5.

Authoritative
Literature

Help

(C)PreparepurchaseorderAtrapezoidrepresentsamanualoperation.Here,apurchaseorderenters
theflowchartafterthisstep;accordingly,apurchaseorderisbeingprepared.

(R) TovendorAcirclerepresentsaconnector,asymbolindicatingthatadocumentisenteringorleavingthat
portionoftheflowchart.Hereacopyofthepurchaseorderissenttothevendortoorderthegoods.Thismustbethe
case,becauseotherwisethevendorwouldnotbeinformedoftheorder.
3.

(F)PreparereceivingreportAtrapezoidrepresentsamanualoperation.Here,areceivingreportenters
theflowchartafterthisstep;accordingly,areceivingreportisbeingprepared.Also,noteabovethisstep
thatgoodsarereceived,thepointatwhichonewouldexpectpreparationofareceivingreport.

4.

(L)FrompurchasingAcirclerepresentsaconnector,asymbolindicatingthatadocumentisenteringor
leavingthatportionoftheflowchart.Thedocumenthereisfrompurchasingbecausebelowtheconnector
isrequisitionNo.1,whichpurchasinghassentwiththepurchaseorderNo.5tovoucherspayable,as
evidencedbytheconnectorinthebottomfarrightunderpurchasing.

(M)FromreceivingAcirclerepresentsaconnector,asymbolindicatingthatadocumentisenteringorleavingthat
portionoftheflowchart.Thedocumenthereisfromreceivingbecauseunderthereceivingportionoftheflowchart,
approximately

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

110

3/4ofthewaydown,weseeaconnectorindicatingthatreceivingreportNo.1isbeingsenttovoucherspayable.Also,toward
thebottomunderthevoucherspayableportionoftheflowchart,weseethatreceivingreportNo.1isindeedinthesystem.
6.

(O)PurchaseorderNo.5Weknowfromitem4thatthisdocumentwassentfrompurchasing,andweknowthat
purchasinghassenttovoucherspayablerequisitionNo.1andpurchaseorderNo.5.SincerequisitionNo.1is
labeledontheflowchart,thismustbepurchaseorderNo.5.

7.

(P)ReceivingreportNo.1Weknowfromitem5thatthisdocumentwassentfromreceiving,andsinceweknow
thatreceivinghassentreceivingreportNo.1tovoucherspayablethismustbethatdocument.

8.

(B)PrepareandapprovevoucherAtrapezoidrepresentsamanualoperation.Here,anapprovedvoucherenters
theflowchartafterthisstep;accordingly,avoucherisbeingpreparedandapprovedinthisstep.

9.

(T)Unpaidvoucherfile,filedbyduedateThetrianglesymbolrepresentsafile.Enteringthisfilearetheapproved
butunpaidvoucherswiththesupportoftheirinvoices,receivingreports,purchaseordersandpurchaserequisitions.
Becausethesevouchersaresenttothetreasurerinorderofduedate(thebottom,rightsymbolundervouchers
payable)thisfileistheunpaidvoucherfile,filedbyduedate.

10. (S) TreasurerBecausethe unpaid vouchers(the voucher package)was sent from vouchers payable to the
treasurer,thisisthetreasurer.
11. (I)SignchecksandcancelvoucherpackagedocumentsAtrapezoidrepresentsamanualoperation.Here,the
operationpriorto11involvesareviewofdocumentsandpreparationofacheckandaremittanceadvice.Afterthis
operationthedocumentschangedareacanceledvoucherpackagefileandasignedcheck;accordingly,checks
arebeingsignedandthevoucherpackageisbeingcanceled.
12. (K)CanceledvoucherpackageAfterstep11,thecheckcopy,remittanceadviceNo.1,thesignedcheck,andremittance
adviceNo.2exitonthefarright.Accordingly,item12isthevoucherpackage,nowcanceledasevidencedbythedescription
belowthetriangularfilesymbol.
TaskBasedSimulation3
Research
Authoritative
Literature

Help

(A)(B)(C)(D)(E)(F)(G)(H)
1. WhichtitleoftheProfessionalStandardsaddressesthisissue?
2. Entertheexactsectionandparagraphnumbersthatdescribethelimitations.

319

6466

TaskBasedSimulation4
Sales/Shipping
Process

1.

Help

(M)PerformcustomercreditcheckThecustomercreditfileisbeingaccessed,makingitlikelythatacreditcheckisoccurring.
2.

6.

Authoritative
Literature

(Z)OpenorderfileTheprocessingtotherightof#2beginswithopenorders,makingthisanopenorderfile.
3.

(L)MatchcustomerpurchaseorderwithsalesorderTwocopiesofthesalesorderarebeingcombinedwiththe
customerpurchaseorderthroughamanualoperation(thetrapezoid).

4.

(B)VerifyagreementofsalesorderandshippingdocumentThismanualoperation(trapezoid)includestwocopies
oftheshippingdocumentbeingcombinedwiththesalesorder.

5.

(H) Release goods for shipmentThe department is the warehouse and shipping department, and out of this
operationisshippinginformation;accordinglygoodsarebeingreleasedforshipment.

(S) MasterpricefileTheoperationbelow#6includesenteringpricedata;sincethefirsttwofilesbeingaccessedarethe
accountsreceivablemasterfileandtheshippingfile,thisthirdfilemustincludeprices.
7.
8.

(O)PreparesalesinvoiceSinceadocumentisbeingpreparedthroughthiscomputerizedbillingprogram,itisthe
salesinvoice.

(U)SalesinvoiceAsalesinvoiceisnormallysenttothecustomer.
9.

(I)ToaccountsreceivabledepartmentThiscopyofthesalesinvoiceinformsaccountsreceivablethatthesalehas

beenbothprocessedandshipped.

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

111

10. (Q)GeneralledgermasterfileBecausetheprocessingstepbelowincludesupdatingofmasterfiles,thisisthe
generalledgermasterfile.
11. (N)PreparesalesjournalSalestransactionsarebeingprocessed;accordinglyasalesjournalisprepared.
12. (T)SalesjournalFromabove,asalesjournalwasprepared;theaccountingdepartmentwillreceivethesalesjournal.
13. (Y)AgedtrialbalanceIntheprocessingstepabove,anagedtrialbalanceofaccountsreceivableisprepared;the
creditdepartmentwillreceivesuchareport.
TaskBasedSimulation5
Research
Authoritative
Literature

Help

(A) (B) (C) (D) (E) (F) (G)(H)


1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtohim?
2. Entertheexactsectionnumberthatprovidestheappropriateguidance.

501

TaskBasedSimulation6
PurchasingReceiving,
andAccountsPayable

Authoritative

Literature

Help

1.

Disagree.Someoneindependentofrequisitioningshouldselectthesupplier.

2.

Agree.

3.

Disagree.Often,factorsinadditiontocostareconsidered(e.g.,quality,dependability).

4.

Agree.

5.

Agree.

6.

Agree.
7.

Disagree. A comparison of quantities is not possible because quantity is blacked out on the purchase order
providedtoreceiving.

8.

Noreceivingreportisordinarilynecessaryforpurchasesofservices.

9.

Agree.

10. Agree.
11. Agree.
12. Disagree.Thereconciliationshouldbeperformedbyanindependentparty.
13. Disagree.Documentationshouldbemarkedpaidbytheindividualmakingthepayment.
14. Agree.
15. Agree.
T
R
e
A
u
L
i

MODULE3UNDERSTANDINGINTERNALCONTROLANDASSESSINGCONTROLRISK

112

TaskBasedSimulation8
MattersCommunication

InternalControlRelated

Authoritative
Literature

Help

AU325.25includesthemattersrequiredtobeincludedinthewrittencommunicationregardingsignificant
deficienciesandmaterialweaknessesindentifiedduringanauditas

Statethatthepurposeoftheauditwastoexpressanopiniononthefinancialstatements,butnottoexpress
anopinionontheeffectivenessoftheentitysinternalcontroloverfinancialreporting.
Statethattheauditorisnotexpressinganopinionontheeffectivenessofinternalcontrol.
Includethedefinitionofthetermssignificantdeficiencyand,whererelevant,materialweakness.
Identifythemattersthatareconsideredtobesignificantdeficienciesand,ifapplicable,thosethatare
consideredtobematerialweaknesses.
Statethatthecommunicationisintendedsolelyfortheinformationanduseofmanagement,those
chargedwithgovernance,andotherswithintheorganizationandisnotintendedtobeandshouldnot
beusedbyanyoneotherthanthosespecifiedparties.Ifanentityisrequiredtofurnishsuchauditor
communicationstoagovernmentalauthority,specificreferencetosuchgovernmentalauthoritiesmay
bemade.

Internalcontrols
Statethatthepurposeoftheauditwastoexpress
anopiniononthefinancialstatements,andto
expressanopinionontheeffectivenessofthe
entitysinternalcontroloverfinancialreporting.

Relatedmatters
Excluded

Comment
Thelatterpartofthesentenceis
incorrectsincenoopinionon
internalcontroleffectivenessis
issued.

Identify,ifapplicable,itemsthatareconsideredto
bematerialweaknesses.

Included

Required

Statethattheauthorisnotexpressinganopinion
ontheeffectivenessofinternalcontrol.

Included

Required

Includethedefinitionofthetermsignificant
deficiency.

Included

Required

Includethedefinitionofthetermmaterial
weakness,whererelevant.

Included

Required

Statethattheauthorisexpressinganunqualified
opinionontheeffectivenessofinternalcontrol.

Excluded

Theauditorexpressesnoopinion
oninternalcontrol.

Statethatthecommunicationisintendedsolelyfor
managementandexternalparties.

Excluded

Thecommunicationisnot
intendedforexternalparties.

Included

Required

Identifythemattersthatareconsideredtobe
significantdeficiencies.

TaskBasedSimulation9
Research
Authoritative
Literature

Help

(A)(B)(C)(D)(E)(F)(G)(H)
1.WhichtitleoftheProfessionalStandardsaddressesthisissue?
2.Entertheexactsectionandparagraphwithhelpfulinformation.

MODULE4RESPONDINGTORISKASSESSMENT
RESPONDINGTORISKASSESSMENT:

5
113

14

EVIDENCEACCUMULATIONANDEVALUATION
MULTIPLECHOICEQUESTIONS(1169)

1.

Which of the following best describes


what is meant by the term generally
acceptedauditingstandards?
a. Procedures to be used to
gather evidence to support
financialstatements.
b. Measures of the quality of the
auditorsperformance.
c. Pronouncements issued by the Auditing
StandardsBoard.
d. Rules acknowledged by the
accounting profession because of
theiruniversalapplication.

2.
a.
b.
c.
d.
3.

Whichofthefollowingisnotanassertion
relatingtoclassesoftransactions?
Accuracy.
Consistency.
Cutoff.
Occurrence.
Which of the following is a general
principlerelatingtothereliabilityofaudit
evidence?
a. Auditevidenceobtainedfrom
indirectsourcesratherthandirectly
ismorereliablethanevidence
obtaineddirectlybytheauditor.
b.

Audit evidence provided by


copies is more reliable than
thatprovidedbyfacsimiles.

c.

Auditevidenceobtainedfrom
knowledgeableindependentsources
outsidetheclientcompanyismore
reliablethanauditevidence
obtainedfromnonindependent
sources.
Auditevidenceprovidedby
originaldocumentsismorereliable
thanauditevidencegenerated
throughasystemofeffective
controls.

d.

4.
a.
b.
c.
d.
5.

Which of the following types of audit


evidenceisthemostpersuasive?
Prenumberedclientpurchaseorderforms.
Client work sheets supporting cost
allocations.
Bankstatementsobtainedfromtheclient.
Clientrepresentationletter.
Which of the following presumptions is
correct about the reliability of audit
evidence?
a. Information

obtained
indirectly from outside
sources is the most reliable
auditevidence.
b. Tobereliable,auditevidence
should be convincing rather
thanpersuasive.
c. Reliabilityofauditevidencerefers

d.

6.

to the amount of corroborative


evidenceobtained.
Effective internal control provides more
assurance about the reliability of audit
evidence.
Whichofthefollowingstatementsrelating
totheappropriatenessofauditevidenceis
alwaystrue?
a. Audit evidence gathered by an
auditor from outside an
enterpriseisreliable.
b. Accountingdatadevelopedunder
satisfactoryconditionsofinternal
controlaremorerelevantthandata
developedunderunsatisfactory
internalcontrolconditions.
c. Oral representations made by
management are not valid
evidence.

d.

Evidence gathered by auditors


mustbebothvalidandrelevantto
beconsideredappropriate.

c.

7.

Which of the following types of audit


evidenceistheleastpersuasive?
a. Prenumberedpurchaseorderforms.
b. Bankstatementsobtainedfromtheclient.
c. Test counts of inventory
performedbytheauditor.
d. Correspondencefromtheclients
attorneyaboutlitigation.

8.

a.
b.
c.
d.
9.
a.
b.
c.
d.

Inevaluatingthereasonablenessofan
entitysaccountingestimates,anauditor
normallywouldbeconcernedabout
assumptionsthatare
Susceptibletobias.
Consistentwithpriorperiods.
Insensitivetovariations.
Similartoindustryguidelines.
Which of the following is not a basic
procedureusedinanaudit?
Riskassessmentprocedures.
Substantiveprocedures.
Testsofcontrols.
Testsofdirectevidence.

10. Whichofthefollowingprocedureswould
anauditorordinarilyperformfirstin
evaluatingmanagementsaccounting
estimatesforreasonableness?
a. Develop

independent
expectations of managements
estimates.
b. Considertheappropriatenessofthe

d.

keyfactorsorassumptionsusedin
preparingtheestimates.
Test the calculations used by
management in developing the
estimates.
Obtain an understanding of how
management developed its
estimates.

11. Inevaluatingthereasonablenessofan
accountingestimate,anauditormostlikely
wouldconcentrateonkeyfactorsand
assumptionsthatare
a. Consistentwithpriorperiods.
b. Similartoindustryguidelines.
c. Objectiveandnotsusceptibletobias.
d. Deviationsfromhistoricalpatterns.
12. Inevaluatinganentitysaccounting
estimates,oneofanauditorsobjectivesisto
determinewhethertheestimatesare
a. Notsubjecttobias.
b. Consistentwithindustryguidelines.
c. Basedonobjectiveassumptions.
d. Reasonableinthecircumstances.
13. In testing the existence assertion for an
asset,anauditorordinarilyworksfromthe
a. Financial statements to the
potentiallyunrecordeditems.
b. Potentiallyunrecordeditemstothefinancial
statements.
c. Accounting records to the supporting
evidence.
d. Supporting evidence to the accounting
records.

MODULE4RESPONDINGTORISKASSESSMENT

114

b.

14. Aclientusesasuspenseaccount
forunresolvedquestionswhose
finalaccountinghasnotbeen
determined.Ifabalanceremains
inthesuspenseaccountatyear
end,theauditorwouldbemost
concernedabout
a. Suspense debits that
managementbelieves
will benefit future
operations.
b. Suspensedebitsthatthe
auditor verifies will
haverealizablevalueto
theclient.
c. Suspense credits that
management believes should be
classifiedasCurrentliability.
d. Suspense credits that
the auditor determines
tobecustomerdeposits.
15. Whichofthefollowingwould
notbeconsideredananalytical
procedure?
a. Estimatingpayroll
expensebymultiplying
thenumberof
employeesbythe
averagehourlywage
rateandthetotalhours
worked.
b. Projectinganerrorrate
by comparing the
results of a statistical
samplewiththeactual
population
characteristics.
c.

Computing accounts receivable


turnover by dividing credit sales
bytheaveragenetreceivables.

d.

Developing

the
expected current year
salesbasedonthesales
trend of the prior five
years.

16. Whattypeofanalytical
procedurewouldanauditormost
likelyuseindeveloping
relationshipsamongbalance
sheetaccountswhenreviewing
thefinancialstatementsofa
nonpublicentity?
a. Trendanalysis.
b. Regressionanalysis.
c. Ratioanalysis.
d. Riskanalysis.
17. Anauditormayachieveaudit
objectives related to
particularassertionsby
a. Performing

analytical
procedures.

c.
d.

Adheringtoasystemofquality
control.
Preparing auditor working
papers.
Increasingthelevelofdetection
risk.

18. Anentitysincomestatements
weremisstatedduetothe
recordingofjournalentriesthat
involveddebitsandcreditsto
anunusualcombinationof
expenseandrevenueaccounts.
Theauditormostlikelycould
havedetectedthisfraudulent
financialreportingby
a. Tracing a sample of
journal entries to the
generalledger.
b. Evaluating the effectiveness of
internalcontrol.
c. Investigating

the
reconciliations between
controlling accounts
andsubsidiaryrecords.
d. Performing analytical
procedures designed to
disclose differences
fromexpectations.
19. Auditorstrytoidentify
predictablerelationshipswhen
usinganalyticalprocedures.
Relationshipsinvolvingtrans
actionsfromwhichofthe
followingaccountsmostlikely
wouldyieldthehighestlevelof
evidence?
a. Accountsreceivable.
b. Interestexpense.
c. Accountspayable.
d. Travel and entertainment
expense.
20. Analyticalproceduresusedinthe
overallreviewstageofanaudit
generallyinclude

a.

b.

c.

d.

Gathering evidence
concerning account
balances that have not
changedfromtheprior
year.
Retesting control
procedures

that
appeared to be
ineffective during the
assessment of control
risk.
Considering unusual
orunexpectedaccount
balances that were
not
previously
identified.
Performing tests of
transactions

to
corroborate
managements
financial statement
assertions.

21. Whichofthefollowingtendsto
bemostpredictableforpurposes
ofanalyticalproceduresapplied
assubstantivetests?
a. Relationships involving balance
sheetaccounts.
b. Transactions subject to
managementdiscretion.
c. Relationships
involving income
statementaccounts.
d. Data subject to audit testing in
theprioryear.
22. A basic premise underlying the
application of analytical
proceduresisthat
a. Thestudyoffinancial
ratiosisanacceptable
alternative to the
investigation of
unusualfluctuations.
b. Statistical tests of
financial information
may lead to the
discovery of material
misstatements in the
financialstatements.
c. Plausible relationships
among data may
reasonably

be
expected to exist and
continue in the ab

d.

sence of known
conditions to the
contrary.
Theseprocedurescannotreplace
tests of balances and
transactions.

23. Forallauditsoffinancial
statementsmadeinaccordance
withgenerallyacceptedauditing
standards,theuseofanalytical
proceduresisrequiredtosome
extent
a.
b.
c.
d.

Inthe
planningstage
Yes
No
No
Yes

Asa
substantivetest
No
Yes
Yes
No

24. An auditors analytical


proceduresmostlikelywouldbe
facilitatediftheentity
a. Segregates obsolete
inventory before the
physical inventory
count.
b. Uses a standard cost
system that produces
variancereports.
c. Corrects material
weaknessesininternal
control before the
beginningoftheaudit.
d. Developsitsdatafrom
sources solely within
theentity.
25. Analyticalproceduresperformed
intheoverallreviewstageofan
auditsuggestthatseveral
accountshaveunexpected
relationships.Theresultsofthese
proceduresmostlikelywould
indicatethat
a. Irregularities exist
among the relevant
accountbalances.
b. Internal

control
activities are
not
operatingeffectively.
c. Additional tests of details are
required.
d. The communication
with the audit
committee should
berevised.

Inthe
reviewstage
Yes
No
Yes
No

MODULE4RESPONDINGTORISKASSESSMENT

to

26. Whichofthefollowing
comparisonswouldanauditor
mostlikelymakeinevaluatingan
entityscostsandexpenses?
a. The current years
accounts receivable
with the prior years
accountsreceivable.
b. The current years
payroll expense with
theprioryearspayroll
expense.
c. The budgeted current
years sales with the
prioryearssales.
d.

Thebudgetedcurrent
years warranty
expense with the
current

years
contingentliabilities.

27. Tobeeffective,analyticalproceduresinthe
overallreviewstageofanauditengagement
shouldbeperformedby
a. The staff accountant
who performed the
substantive auditing
procedures.
b. The managing partner
who has responsibility
for all audit
engagements at that
practiceoffice.
c. A manager or partner
who has a
comprehensive
knowledge of the
clients business and
industry.
d. TheCPAfirmsquality
controlmanageror
partnerwhohas
responsibilityforthe
firmspeerreview
program.
28. Which of the following is the
bestexampleofasubstantive
test?
a.

b.

d.

Examining a sample of
cashdisbursementstotest
whether expenses have
beenproperlyapproved.

Confirmation of balances of
accountsreceivable.
c. Comparison of
signatures on checks
toalistofauthorized
signers.
Flowchartingoftheclientscash
receiptssystem.

29. The objective of tests of


details of transactions per
formedassubstantivetestsis

115
a.
b.

c.
d.

Comply

with
generally accepted
auditingstandards.
Attain assurance
about the reliability
of the accounting
system.
Detect material
misstatementsinthe
financialstatements.
Evaluate

whether
managements policies
and

procedures
operatedeffectively.

30. In the context of an audit of


financialstatements,substantive
testsareauditproceduresthat
a. Maybeeliminatedundercertain
conditions.
b. Are designed to
discover significant
subsequentevents.
c. May be either tests of
transactions, direct
tests of financial
balances, or analytical
tests.
d. Will

increase
proportionately with
the auditors reliance
oninternalcontrol.
31. The auditor will most likely
perform extensive tests for
possibleunderstatementof
a. Revenues.
b. Assets.
c. Liabilities.
d. Capital.
32. Whichofthefollowing
procedureswouldanauditormost
likelyperforminauditingthe
statementofcashflows?
a. Comparetheamountsincluded
inthestatementofcashflowsto
similaramountsintheprior
yearsstatementofcashflows.

b.

c.

d.

Reconcile the cutoff


bank statements to
verify the accuracy of
the yearend bank
balances.
Vouch all bank
transfers for the last
week of the year and
first week of the
subsequentyear.
Reconciletheamounts
includedinthe
statementofcash
flowstotheother
financialstatements
balancesandamounts.

33. Indeterminingwhether
transactionshavebeenrecorded,
thedirectionoftheaudittesting
shouldbefromthe

a.
b.
c.
d.

Generalledgerbalances.
Adjustedtrialbalance.
Originalsourcedocuments.
Generaljournalentries.

34. Which statement is correct


concerningthedeletionofaudit
documentation?
a. Supersededauditdocumentation
should always be deleted from
theauditfile.
b. Aftertheaudit
filehasbeen
completed,the
auditorshould
notdeleteor
discardaudit
documentation.
c. Auditorsshoulduse
professionalskepticism
indeterminingwhich
auditdocumentation
shouldbedeleted.
d. Audit
documentation
should never be
deleted from the
auditfile.
35. Ignoringanyparticular
legalorregulatory
requirement,audit
documentationshouldbe
retained

a.

Aminimumoffiveyears.
b. As long as lead
schedules have

d.

relevance to
forthcoming
audits.
c. Until3yearsafter
the client selects
anotherauditor.
Working papers must be
maintainedindefinitely.

36. Whichofthefollowingpairsof
accountswouldanauditormost
likely analyze on the same
workingpaper?

a.

c.
d.

Notes receivable and interest


income.
b. Accrued interest
receivable

and
accrued interest
payable.
Notes payable and notes
receivable.
Interest income and interest
expense.

37. An auditors working papers serve


mainlyto
a. Provide the principal
support for the
auditorsreport.
b. Satisfy the auditors
responsibilities
concerning the Code
of Professional
Conduct.
c. Monitor

the
effectiveness of the
CPA firms quality
controlprocedures.
d. Documentthelevelof
independence
maintained by the
auditor.
38. The permanent file of an
auditors working papers
generallywouldnotinclude
a. Bondindentureagreements.
b. Leaseagreements.
c. Workingtrialbalance.
d. Flowchartofinternalcontrol.
39. Anauditorordinarilyusesa
workingtrialbalance
resemblingthefinancial
statementswithoutfootnotes,
butcontainingcolumnsfor
a. Cash flow increases and
decreases.
b. Auditobjectivesandassertions.

MODULE4RESPONDINGTORISKASSESSMENT

116
c.
d.

42. Whichofthefollowingfactors
mostlikelywouldaffectan
auditorsjudgmentaboutthe
quantity,type,andcontentof
theauditorsworkingpapers?
a. The assessed level of control
risk.
b. The likelihood of a
review by a
concurring (second)
partner.
c. The number of personnel
assignedtotheaudit.
d. Thecontentofthemanagement
representationletter.

Reclassifications

and
adjustments.
Reconciliationsandtickmarks.

40. Which of the following is least


likely to be a factor in the
auditors decision about the
extentofthedocumentationofa
particularauditarea?
a. The risk of material
misstatement.
b. The extent of the
judgment involved in
performing

the
procedures.
c. The nature and extent of
exceptionsidentified.
d. Whether or not the
client has an
internal audit
function.

43. The audit working paper that


reflects the major components
of an amount reported in the
financialstatementsisthe
a. Interbanktransferschedule.
b. Carryforwardschedule.
c. Supportingschedule.
d. Leadschedule.

41. Whichofthefollowingis
requireddocumentationinan
auditinaccordancewith
generallyacceptedauditing
standards?
a.

b.

c.

Aflowchartornarrative
oftheaccountingsystem
describingtherecording
andclassificationof
transactionsforfinancial
reporting.

44. Whichofthefollowing
documentationisrequiredforan
auditinaccordancewithgenerally
acceptedauditingstandards?

a.
b.
c.

Anauditprogram
settingforthindetailthe
proceduresnecessaryto
accomplishthe
engagements
objectives.
Aplanning
memorandum
establishingthetiming
oftheauditprocedures
andcoordinatingtheas
sistanceofentity
personnel.

Aflowchartoraninternalcontrolquestionnaire
thatevaluatestheeffectivenessoftheentitys
controls.
Aclientengagementletterthatsummarizesthe
timinganddetailsoftheauditorsplannedfield
work.
Anindicationintheworkingpapersthattheac
countingrecordsagreeorreconcilewiththefi
nancialstatements.
The basis for the auditors conclusions when the
assessed level of control risk is at the maximum
levelforallfinancialstatementassertions.

d.

Aninternalcontrol
questionnaire
identifyingcontrolsthat
assurespecific
objectiveswillbe
achieved.

45. No deletionsofaudit documentation


areallowedafter
the
a. Clientsyearend.
b. Documentationcompletiondate.
c. Last date of significant
fieldwork.
d. Reportreleasedate.
46. UndertherequirementsofthePCAOB,
auditdocumentationmustcontainsufficient
informationtoallowwhattypeofauditorto
understandthenature,timing,extent,and
resultsofproceduresperformed?
a. An experienced audit team
member.
b. An experienced
auditor having no
previous
connection with
theengagement.
c. Anycertifiedpublicaccountant.
d. An auditor qualified as a peer
reviewspecialist.
47. Auditdocumentationforaudits
performedunderthe
requirementsofthePublic
CompanyAccountingOversight
Boardshouldberetainedfor
a. The shorter of five
years, or the period
requiredbylaw.
b. Sevenyears.
c. The longer of seven
years, or the period
requiredbylaw.
d. Indefinitely.
48. Whichofthefollowingsetsof
information does an auditor
usuallyconfirmononeform?
a. Accounts payable and purchase
commitments.

b.

Cash in bank and collateral for


loans.
c. Inventory

on
consignment and
contingentliabilities.
d. Accounts receivable
and accrued interest
receivable.

49. The usefulness of the standard


bank confirmation request may
be limited because the bank
employee who completes the
formmay
a. Not believe that the
bank is obligated to
verify confidential
informationtoathird
party.
b.

Sign and return the


form

without
inspectingtheaccuracy
of the clients bank
reconciliation.

c.

Nothaveaccesstothe
clients cutoff bank
statement.
Be unaware of all the
financial relationships
thatthebankhaswith
theclient.

d.

50. Anauditormostlikelywould
limitsubstantiveaudittestsof
salestransactionswhencontrol
riskisassessedaslowforthe
occurrenceassertionconcerning
salestransactionsandthe
auditorhasalreadygathered
evidencesupporting
a. Opening and closing inventory
balances.
b. Cash receipts and accounts
receivable.
c. Shippingandreceivingactivities.
d. Cutoffsofsalesandpurchases.

d.

Items51and52arebasedonthefollowing:
Theinformationbelowwastakenfromthebanktransferschedulepreparedduringtheauditof
FoxCo.sfinancialstatementsfortheyearendedDecember31,2005.Assumeallchecksare
datedandissuedonDecember30,2005.

MODULE4

Check
no.
101
202
303
404

Bankaccounts
From
National
County
Federal
State

To
Federal
State
American
Republic

51. Whichofthefollowingchecksmight

RESPONDINGTORISKASSESSMENT

Disbursementdate
Receiptdate
Per
Per
Per
Per
books
bank
books
bank
Dec.30
Jan.4
Dec.30
Jan.3
Jan.3
Jan.2
Dec.30
Dec.31
Dec.31
Jan.3
Jan.2
Jan.2
Jan.2
Jan.2
Jan.2
Dec.31
indicatekiting?
a. #101and#303.

117

b.
c.
d.

#202and#404.
#101and#404.
#202and#303.

52.Whichofthefollowingchecks
illustratedeposits/transfersintransitat
December31,2005?
a. #101and#202.
b. #101and#303.
c. #202and#404.
d. #303and#404.

56. Acashshortagemaybeconcealed
53. An auditor should trace bank
bytransportingfundsfromone
transfers for thelastpartof the
locationtoanotherorby
auditperiodandfirstpartofthe
convertingnegotiableassetsto
subsequent period to detect
cash.Becauseofthis,whichof
whether
thefollowingisvital?
a. The cash receipts
a. Simultaneousconfirmations.
journal was held open
b. Simultaneous

bank
forafewdaysafterthe
reconciliations.
yearend.
c. Simultaneousverification.
b. Thelastchecksrecordedbefore
d. Simultaneous surprise cash
the yearend were actually
count.
mailedbytheyearend.
c. Cash balances were overstated 57. Theprimarypurposeofsendingastandard
confirmationrequesttofinancial
becauseofkiting.
institutionswithwhichtheclienthasdone
d. Any unusual payments
businessduringtheyearisto
to or receipts from
a. Detect kiting activities
relatedpartiesoccurred.
thatmayotherwise not
54. Togatherevidenceregardingthe
bediscovered.
balanceperbankinabank
b. Corroborate
reconciliation,anauditorwould
information
examineallofthefollowing
regardingdepositand
except
loanbalances.
a. Cutoffbankstatement.
c. Provide the data
b. Yearendbankstatement.
necessarytopreparea
c. Bankconfirmation.
proofofcash.
d. Generalledger.
d. Request information
about contingent
55. Which of the following cash
liabilitiesandsecured
transfers results in a mis
transactions.
statement of cash at December
31,2005?
58. Anauditorobservesthemailingofmonthly
statementstoaclientscustomersand
BankTransferSchedule
Disbursement
Receipt reviewsevidenceoffollowuponerrors
reportedbythecustomers.Thistestof
controlsmostlikelyisperformedtosupport
Recorded Paidby
Recorded
Transfer
inbooks
bank
inbooks
managementsfinancialstatement
a.
12/31/05 1/4/06
12/31/05 assertion(s)of
b.
c.
d.

1/4/06 1/5/06
12/31/05 1/5/06
1/4/06 1/11/06

12/31/05
12/31/05
1/4/06

a.
b.
c.
d.

Presentation
anddisclosure
Yes
Yes
No
No

Existence
occurrence
Yes
No
Yes
No

Items59and60arebasedonthefollowing:

Check
no.
2020
2021
3217
0659

MilesCompany
BANKTRANSFERSCHEDULE
December31,2005
Bankaccounts
Datedisbursedper
From
To
Amount
Books
Bank
1stNatl.
Suburban
$32,000
12/31
1/5
1stNatl.
Capital
21,000
12/31
1/4
2ndState
Suburban
6,700
1/3
1/5
Midtown
Suburban
5,500
12/30
1/5

Datedepositedper
Books
Bank
12/31
1/3
12/31
1/3
1/3
1/6
12/30
1/3

MODULE4RESPONDINGTORISKASSESSMENT

118

59.Thetickmarkmostlikelyindicatesthat
theamountwastracedtothe
a. December cash disbursements
journal.
b. Outstanding check list of the
applicablebankreconciliation.
c. January cash disbursements
journal.
d. Yearendbankconfirmations.

61. Which of the following


statementsiscorrectconcerning
theuseofnegativeconfirmation
requests?
a. Unreturned negative
confirmation requests
rarely

provide
significant explicit
evidence.
b. Negative confirmation requests
areeffectivewhendetectionrisk
islow.
c.

d.

Unreturned negative
confirmation requests
indicatethatalternative
procedures

are
necessary.

Negativeconfirmationrequests
areeffectivewhen
understatementsofaccount
balancesaresuspected.

62. Whenanauditordoesnotreceive
repliestopositiverequestsfor
yearendaccountsreceivable
confirmations,theauditormost
likelywould
a.

Inspect the allowance


account to verify
whether the accounts
were subsequently
writtenoff.

b.

Increasetheassessed
levelofdetectionrisk
forthevaluationand
completeness
assertions.
Ask the client to
contact the customers
to request that the
confirmations be
returned.
Increase the assessed
levelofinherentriskfor
therevenuecycle.

c.

d.

63. Inconfirmingaclientsaccounts
receivableinprioryears,an
auditorfoundthattherewere
manydifferencesbetweenthe
recordedaccountbalancesandthe
confirmationreplies.These
differences,whichwerenot

60.Thetickmarkmostlikelyindicatesthat
theamountwastracedtothe
a. Deposits in transit of the
applicablebankreconciliation.
b. Decembercashreceiptsjournal.
c. Januarycashreceiptsjournal.
d. Yearendbankconfirmations.

a.
b.
c.
d.

misstatements,required
substantialtimetoresolve.In
definingthesamplingunitforthe
currentyearsaudit,theauditor
mostlikelywouldchoose
Individualoverduebalances.
Individualinvoices.
Smallaccountbalances.
Largeaccountbalances.

64. Confirmationismostlikelytobe
arelevantformofevidencewith
regardtoassertionsabout
accountsreceivablewhenthe
auditorhasconcernsaboutthe
receivables
a. Valuation.
b. Classification.
c. Existence.
d. Completeness.
65. An auditor should perform
alternative procedures to
substantiate the existence of
accountsreceivablewhen
a. No reply to a positive
confirmationrequestis
received.
b. Noreply to a negative
confirmation request is
received.
c. Collectibility of the receivables
isindoubt.
d. Pledging of the receivables is
probable.
66. Whichofthefollowing
procedureswouldanauditormost
likelyperformforyearend
accountsreceivablecon
firmationswhentheauditordid
notreceiverepliestosecond
requests?

a.

b.

c.

d.

Review the cash


receipts journal for
the month prior to
theyearend.
Intensify the study of
internal

control
concerningtherevenue
cycle.
Increasetheassessed
levelofdetectionrisk
for the existence
assertion.
Inspecttheshipping
records
documenting the
merchandisesoldto
thedebtors.

67. Inwhichofthefollowing
circumstanceswouldtheuseof
thenegativeformofaccounts
receivableconfirmationmost
likelybejustified?
a. Asubstantialnumber
ofaccountsmaybein
disputeandthe
accountsreceivable
balancearisesfrom
salestoafewmajor
customers.
b. Asubstantialnumber
ofaccountsmaybein
disputeandthe
accountsreceivable
balancearisesfrom
salestomany
customerswithsmall
balances.
c. Asmallnumberof
accountsmaybein
disputeandthe
accountsreceivable
balancearisesfrom
salestoafewmajor
customers.
d. Asmallnumberof
accountsmaybein
disputeandthe
accountsreceivable
balancearisesfrom
salestomany
customerswithsmall
balances.
68. To reduce the risks associated
withacceptingemailresponses
torequestsforconfirmationof
accountsreceivable,anauditor
mostlikelywould
a. Requestthesendersto
mailtheoriginalforms
totheauditor.
b. Examine
subsequent cash
receipts fortheac
countsinquestion.
c. Consider the email
responses to the

d.

confirmations to be
exceptions.
Mail second requests to the e
mailrespondents.

69. Toreducetherisksassociatedwith
acceptingfaxresponsestorequestsfor
confirmationsofaccountsreceivable,an
auditormostlikelywould
a. Examinetheshippingdocuments
that provide evidence for the
existenceassertion.
b. Verify the sources
and contents of the
faxes in telephone
callstothesenders.
c. Considerthefaxestobe
nonresponses and
evaluate them as
unadjusteddifferences.
d. Inspectthefaxesfor
forgeriesoralterations
andconsiderthemtobe
acceptableifnoneare
noted.
70. Inauditingaccountsreceivable,
the negative form of
confirmation request most
likelywouldbeusedwhen
a. Thetotalrecordedamountof
accountsreceivableisimmaterial
tothefinancialstatementstaken
asawhole.
b.

Response rates in prior


years to properly
designed

positive
confirmation requests
wereinadequate.

MODULE4RESPONDINGTORISKASSESSMENT
c.

Recipientsarelikelytoreturnpositiveconfirma75.Anauditormostlikelywouldmake
inquiriesofpro
tionrequestswithoutverifying
ductionandsalespersonnelconcerning
theaccuracyoftheinformation.
possibleobsoleteorslowmoving
d. The combined assessed
inventorytosupportmanagements
financialstatementassertionof
levelofinherentriskand
a. Valuation.
control risk relative to
b. Rights.
accounts receivable is
c. Existence.
low.
d. Presentation.
71. Underwhichofthefollowingcircumstances
wouldtheuseoftheblankformof
confirmationsofaccountsreceivablemost
likelybepreferabletopositive
confirmations?
a. Therecipientsarelikelytosigntheconfirmations76.Whileobservingaclientsannual
physicalinventory,
withoutdevotingproper
receivabletoencouragetimely
attentiontothem.
considerationbytherecipients?
b. Subsequent

cash
a. Thisisnotarequest
receipts are unusually
forpayment;
difficulttoverify.
remittancesshouldnot
c. Analytical
besenttoourauditors
procedures indicate
intheenclosed
that few exceptions
envelope.
areexpected.
b. Reportanydifferences
d. Thecombinedassessed
ontheenclosed
level of inherent risk
statementdirectlytoour
andcontrolriskislow.
auditors;noreplyis
necessaryifthisamount
72. In confirming accounts
agreeswithyour
receivable,anauditordecidedto
records.
confirm customers account
balances rather than individual
c. Ifyoudonotreport
invoices.Whichofthefollowing
anydifferenceswithin
most likely would be included
fifteendays,itwillbe
with the clients confirmation
assumedthatthis
letter?
statementiscorrect.
a. An auditorprepared
d. Thefollowinginvoices
letter explaining thata
havebeenselectedfor
nonresponse may
confirmationand
causeaninferencethat
representamountsthat
the account balance is
areoverdue.
correct.
74. Which of the following
b. Aclientpreparedletter
strategies most likely could
remindingthecustomer
improve the response rate of
thatanonresponsewill
the confirmation of accounts
causeasecondrequest
receivable?
tobesent.
a. Includingalistofitems
c. Anauditorprepared
or invoices that
letterrequestingthecus
constitute the account
tomertosupplymissing
balance.
andincorrect
b. Restricting the
informationdirectlyto
selection ofaccounts
theauditor.
to be confirmed to
d. A clientprepared
thosecustomerswith
statement of account
relatively large
showing the details of
balances.
the customers account
c.
Requestingcustomersto
balance.
respondtotheconfirma
73. Whichofthefollowingstatementswould
tionrequestsdirectlyto
theauditorbyfaxore
anauditormostlikelyaddtothenegative
mail.
formofconfirmationsofaccounts

119

d.

Notifyingtherecipients
that second requests
will be mailed if they
fail to respond in a
timelymanner.

anauditorrecordedtestcountsforseveral
itemsandnoticedthatcertaintestcounts
werehigherthantherecordedquantities
intheclientsperpetualrecords.This
situationcouldbetheresultoftheclients
failuretorecord
a. Purchasediscounts.
b. Purchasereturns.
c. Sales.
d. Salesreturns.
77. Togainassurancethatall
inventoryitemsinaclients
inventorylistingscheduleare
valid,anauditormostlikely
wouldtrace
a. Inventorytagsnoted
duringtheauditors
observationtoitems
listedintheinventory
listingschedule.
b. Inventorytagsnoted
duringtheauditors
observationtoitems
listedinreceiving
reportsandvendors
invoices.
c. Itemslistedinthe
inventorylisting
scheduletoinventory
tagsandtheauditors
recordedcountsheets.
d. Items listed in
receiving reports and
vendors invoices to
the inventory listing
schedule.
78. Tomeasurehoweffectivelyan
entityemploysitsresources,an
auditorcalculatesinventory
turnoverbydividingaverage
inventoryinto
a. Netsales.
b. Costofgoodssold.
c. Operatingincome.
d. Grosssales.
79. Whichofthefollowing
auditingproceduresmostlikely
wouldprovideassuranceabout
amanufacturingentitys
inventoryvaluation?
a. Testing the entitys
computationofstandard
overheadrates.
b. Obtaining confirmation of
inventories pledged under loan
agreements.
c. Reviewing shipping
and receiving cutoff
procedures for
inventories.
d. Tracingtestcounts to
the entitys inventory
listing.
80. A client maintains perpetual

inventory records in both


quantities and dollars. If the
assessed level of control risk is
high,anauditorwouldprobably
a. Increasetheextentof
testsofcontrolsofthe
inventorycycle.
b. Request the client to
schedule the physical
inventory count atthe
endoftheyear.

c.

Insist that the client


perform physical
counts of inventory
items several times
duringtheyear.

d.

Applygrossprofit
tests to ascertain
the

rea
sonablenessofthe
physicalcounts.

120

MODULE4RESPONDINGTORISKASSESSMENT
81. Anauditorconcludedthatno
excessivecostsforidleplant
werechargedtoinventory.This
conclusionmostlikelyrelatedto
theauditorsobjectivetoobtain
evidenceaboutthefinancial
statementassertionsregarding
inventory,includingpresentation
anddisclosureand
a. Valuation.
b. Completeness.
c. Existence.
d. Rights.

82. Anauditorselecteditemsfortestcounts
whileobservingaclientsphysical
inventory.Theauditorthentracedthetest
countstotheclientsinventorylisting.This
proceduremostlikelyobtainedevidence
concerningmanagementsassertionof
a. Rights.
b. Completeness.
c. Existence.
d. Valuation.
83. An auditor most likely would
analyze inventory turnover
rates to obtain evidence
concerning managements as
sertionsabout
a. Existence.
b. Rights.
c. Presentation.
d. Valuation.
84. An auditor usually examines
receiving reports to support
entriesinthe
a. Voucher register and sales
returnsjournal.
b. Sales journal and sales returns
journal.
c. Voucher register and sales
journal.
d. Checkregisterandsalesjournal.
85. When auditing inventories,
anauditorwould leastlikely
verifythat
a. The

financial
statement presentation
of inventories is
appropriate.
b. Damagedgoodsand
obsolete items have
been properly
accountedfor.
c. All inventory owned
by the client is on
hand at the time of
thecount.
d. The client has used proper
inventorypricing.
86. An auditor who physically

examinessecuritiesshouldinsist
that a client representative be
presentinorderto
a. Detectfraudulentsecurities.
b. Lend authority to the auditors
directives.
c. Acknowledge the receipt of
securitiesreturned.
d. Coordinate the return
of securities to the
properlocations.

87. Inestablishingtheexistenceand
ownershipofalongterm
investmentintheformof
publiclytradedstock,anauditor
shouldinspectthesecuritiesor
a. Correspond with the
investee company to
verify the number of
sharesowned.
b. Inspect the audited
financial statements of
theinvesteecompany.
c. Confirm the number of shares
owned that are held by an
independentcustodian.
d. Determine that the
investmentiscarried
at the lower of cost
ormarket.
88. Whenanauditorisunableto
inspectandcountaclients
investmentsecuritiesuntilafterthe
balancesheetdate,

thebankwherethesecuritiesareheldin
asafedepositboxshouldbeaskedto
a. Verifyanydifferences
betweenthecontentsof
theboxandthebalances
intheclientssubsidiary
ledger.
b. Providealistof
securitiesaddedand
removedfromthebox
betweenthebalance
sheetdateandthe
securitycountdate.
c. Confirmthattherehas
been no accesstothe
box between the
balancesheetdateand
the securitycount
date.
d. Countthesecuritiesin
the boxso the auditor
will have an
independent direct
verification.
89. Intestinglongterminvestments,
an auditor ordinarily would use
analyticalprocedurestoascertain
thereasonablenessofthe
a. Completeness of recorded
investmentincome.
b. Classification
betweencurrentand
noncurrent
portfolios.
c. Valuation of marketable equity
securities.
d. Existence of unrealized
gains or losses in the
portfolio.
90. Analysisofwhichaccountis
least likely to reveal
evidencerelatingtorecorded
retirementofequipment?
a. Accumulateddepreciation.
b. Insuranceexpense.
c. Property,plant,andequipment.
d. Purchasereturnsandallowances.
91. Whichofthefollowing
explanationsmostlikelywould
satisfyanauditorwhoquestions
managementaboutsignificant
debitstotheaccumulated
depreciationaccounts?

a.

b.

d.

The

estimated
remaining useful lives
of plant assets were
revisedupward.
Plant assets were retired during
theyear.
c. The prior years
depreciation expense
was

erroneously
understated.
Overhead allocations were
revisedatyearend.

92. In testing for unrecorded


retirements of equipment, an
auditormostlikelywould
a. Selectitemsofequipmentfrom
theaccountingrecordsandthen
locatethemduringtheplanttour.
b. Comparedepreciation
journalentrieswith
similarprioryear
entriesinsearchoffully
depreciatedequipment.
c. Inspect items of
equipment observed
during the plant tour
andthentracethemto
the

equipment
subsidiaryledger.
d. Scanthegeneral
journalforunusual
equipmentadditions
andexcessivedebits
torepairsand
maintenanceexpense.
93. An auditor analyzes repairs and
maintenance accounts primarily
toobtainevidenceinsupportof
theauditassertionthatall
a. Noncapitalizable
expendituresforrepairs
andmaintenancehave
beenrecordedinthe
properperiod.
b. Expenditures for
property

and
equipmenthavebeen
recorded in the
properperiod.
c. Noncapitalizable
expendituresfor
repairsand
maintenancehave
beenproperly
chargedtoexpense.

MODULE4RESPONDINGTORISKASSESSMENT
d.

Expenditures
property

equipment have
been charged
expense.

for
and
not
to

94. The auditor is most likely to seek


information from the plant manager with
respecttothe
a. Adequacy of the
provision

for
uncollectible ac
counts.
b. Appropriateness of
physical inventory
observation
procedures.
c. Existenceofobsoletemachinery.
d. Deferral

of
procurementofcertain
necessary insurance
coverage.
95. TreetopCorporationacquireda
buildingandarrangedmortgage
financingduringtheyear.
Verificationoftherelated
mortgageacquisitioncostswould
beleastlikelytoincludean
examinationoftherelated
a. Deed.
b. Canceledchecks.
c. Closingstatement.
d. Interestexpense.
96. Intestingplantandequipmentbalances,an
auditormayinspectnewadditionslistedon
theanalysisofplantandequipment.This
procedureisdesignedtoobtainevidence
concerningmanagementsassertionsof
a.
b.
c.
d.

Existenceor
occurrence
Yes
Yes
No
No

Presentationand
disclosure
Yes
No
Yes
No

97. Inauditingintangibleassets,an
auditormostlikelywould
revieworrecompute
amortizationanddetermine
whethertheamortizationperiod
isreasonableinsupportof
managementsfinancial
statementassertionof
a. Valuationorallocation.
b. Existenceoroccurrence.
c. Completeness.
d. Rightsandobligations.
98. Whenauditingprepaidinsurance,
anauditordiscoversthatthe
originalinsurancepolicyonplant
equipmentisnotavailablefor
inspection.Thepolicysabsence
mostlikelyindicatesthe

a.
b.
c.
d.

121

possibilityofa(n)
Insurance premium due but not
recorded.
Deficiency in the coinsurance
provision.
Lienontheplantequipment.
Understatement of insurance
expense.

99. Which of the following


procedures would an auditor
mostlikelyperforminsearching
forunrecordedliabilities?
a. Traceasampleof
accountspayable
entriesrecordedjust
beforeyearendtothe
unmatchedreceiving
reportfile.
b. Compareasampleof
purchaseordersissued
justafteryearendwith
theyearendaccounts
payabletrialbalance.
c. Vouchasampleofcash
disbursementsrecordedjustafter
yearendtoreceivingreportsand
vendorinvoices.

100. When using confirmations to


provide evidence about the
completeness assertion for
accounts payable, the appro
priate population most likely
wouldbe
a. Vendors with
whomtheentityhas
previously done
business.
b. Amounts recorded in
the accounts payable
subsidiaryledger.
c. Payees of checks
drawninthemonth
aftertheyearend.
d. Invoices filed in the entitys
openinvoicefile.
101. Auditor confirmation of
accountspayablebalancesatthe
balance sheet date may be
unnecessarybecause
a. This is a duplication of cutoff
tests.
b. Accountspayable
balancesatthe
balancesheetdate
maynotbepaid
beforetheauditis
completed.
c. Correspondencewith
theauditclients
attorneywillreveal
alllegalactionby
vendorsfornon
payment.
d. Thereis likelyto be
otherreliableexternal
evidence to support
thebalances.

b.

c.

prenumberedpurchaseordersare
usedandaccountedfor.
Receivingtheclientsmail,
unopened,forareasonable
periodoftimeaftertheyearend
tosearchforunrecorded
vendorsinvoices.
Vouchingselectedentriesinthe
accounts payable subsidiary
ledger to purchase orders and
receivingreports.
d.

Confirming
accounts payable
balances with
known suppliers
who have zero
balances.

103. Inauditingaccountspayable,an
auditorsproceduresmostlikely
would focus primarily on
managementsassertionof
a. Existence.
b. Presentationanddisclosure.
c. Completeness.
d. Valuation.
104. WhenaCPAobservesthatthe
recordedinterestexpenseseems
tobeexcessiveinrelationtothe
balanceinthebondspayable
account,theCPAmightsuspect
that
a. Discount on bonds payable is
understated.
b. Bondspayableareunderstated.
c. Bondspayableareoverstated.
d. Premium on bonds payable is
overstated.
105. Anauditormostlikelywould
inspectloanagreementsunder
whichanentitysinventoriesare
pledgedtosupport
managementsfinancial
statementassertionof
a. Presentationanddisclosure.
b. Valuationorallocation.
c. Existenceoroccurrence.
d. Completeness.

102. Which of the following is a


substantivetestthatanauditor
mostlikelywouldperformto
verify the existence and
valuationofrecordedaccounts
payable?
a. Investigatingtheopenpurchase
orderfiletoascertainthat
d. Scan the cash disbursements entries recorded just 106. In auditing longterm bonds
payable,anauditormost
likelywould
beforeyearendforindicationsof
a. Performanalyticalproceduresonthe
unusualtransactions.
bond premium and discount
accounts.

MODULE4RESPONDINGTORISKASSESSMENT

122
b.

c.

d.

Examine
documentationofassets
purchased with bond
proceedsforliens.
Compare interest
expensewiththebond
payable amount for
reasonableness.
Confirm the existence
of individual bond
holdersatyearend.

107. Theauditorcanbestverifya
clients bond sinking fund
transactions and yearend
balanceby
a. Confirmation with
individual holders of
retiredbonds.
b. Confirmation with the bond
trustee.
c. Recomputationof
interestexpense,
interestpayable,and
amortizationofbond
discountorpremium.
d. Examination and count of the
bondsretiredduringtheyear.
108. An auditor usually obtains
evidence of stockholders
equity transactions by
reviewingtheentitys
a. Minutes of board of directors
meetings.
b. Transferagentsrecords.
c. Canceledstockcertificates.
d. Treasurystockcertificatebook.
109. Whencontrolriskisassessedas
lowforassertionsrelatedto
payroll,substantivetestsof
payrollbalancesmostlikely
wouldbelimitedtoapplying
analyticalproceduresand
a. Observing the distribution of
paychecks.
b. Footing and crossfooting the
payrollregister.
c. Inspectingpayrolltaxreturns.
d. Recalculatingpayrollaccruals.
110. Whichofthefollowing
circumstancesmostlikelywould
causeanauditortosuspectan
employeepayrollfraudscheme?
a. There are significant
unexplainedvariances
between standard
andactuallaborcost.
b. Payroll checks are
disbursed by the
same employee
eachpayday.
c. Employee time cards

d.

are approved by
individual
departmental
supervisors.
Aseparatepayrollbank
account is maintained
onanimprestbasis.

111. In auditing payroll, an auditor most


likelywould
a. Verify that checks
representing unclaimed
wagesaremailed.
b. Trace individual
employee deductions
to entity journal
entries.
c. Observe entity
employees during a
payrolldistribution.
d. Compare payroll
costs with entity
standardsorbudgets.
112. Inperformingtestsconcerning
the granting of stock options,
anauditorshould
a. Confirm

the
transactionwiththe
Secretary of State
in the state of
incorporation.
b. Verify the existence
of option holders in
the entitys payroll
records or stock
ledgers.
c. Determine

that
sufficient treasury
stock is available to
cover any new stock
issued.
d. Trace

the
authorizationforthe
transactiontoavote
of the board of
directors.

a.
113. Duringanauditofanentitys
stockholdersequityaccounts,
theauditordetermineswhether
therearerestrictionsonretained
earningsresultingfromloans,
agreements,orstatelaw.This
auditproceduremostlikelyis
intendedtoverifymanagements
assertionof
a. Existenceoroccurrence.
b. Completeness.
c. Valuationorallocation.
d. Presentationanddisclosure.
114. Whenaclientcompanydoesnot
maintainitsownstockrecords,the
auditorshouldobtainwritten
confirmationfromthetransferagent
andregistrarconcerning

a.
b.
c.

Restrictions on the payment of


dividends.
Thenumberofsharesissuedand
outstanding.
Guarantees of preferred stock
liquidationvalue.
d. The number of shares
subjecttoagreementsto
repurchase.

115. An audit program for the


examination of the retained
earningsaccountshouldinclude
astepthatrequiresverification
ofthe
a. Market value used to
charge

retained
earningstoaccountfor
a twoforone stock
split.
b. Approval of the
adjustment to the
beginningbalanceasa
result of a writedown
of an account re
ceivable.
c. Authorizationforbothcashand
stockdividends.
d. Gain or loss resulting
from disposition of
treasuryshares.
116. An auditor most likely would perform
substantive tests of details on payroll
transactionsandbalanceswhen

b.

c.

d.

Cutofftestsindicatea
substantial amount of
accrued payroll
expense.
The assessed level of
control risk relative to
payroll transactions is
low.
Analyticalprocedures
indicate unusual
fluctuations in
recurring payroll
entries.
Accruedpayrollexpense
consistsprimarilyofun
paidcommissions.

117. Anauditorusuallyteststhereasonableness
ofdividendincomefrominvestmentsin
publiclyheldcompaniesbycomputingthe
amountsthatshouldhavebeenreceivedby
referringto
a. Dividend record
books produced by
investment advisory
services.
b. Stock indentures
publishedbycorporate
transferagents.
c. Stock

ledgers
maintained

by
independent regis
trars.
d. Annual

audited
financial statements
issued by the investee
companies.
118. The most likely risk
involvedwithabillandhold
transaction at yearend is
a(n)
a. Accruedliabilitymay
be overstated as of
yearend.
b. Buyer may have made
an absolute purchase
commitment.
c. Sale

may
inappropriately have
been recorded as of
yearend.
d. Buyer may have
assumed the risk and
reward of the
purchasedproduct.

MODULE4RESPONDINGTORISKASSESSMENT
119. Whichofthefollowing
accountsisthepracticeof
channelstuffingforsales
mostlikelytomostdirectlyaf
fect,andtherebyresultin
additionalauditprocedures?
a. Accruedliabilities.
b. Allowanceforsalesreturns.
c. Cash.
d. Marketableinvestments.
120. Recordedentriesinwhichof
thefollowingaccountsare
mostlikelytorelatetothe
property,plant,andequipment
completenessassertion?
a. Allowancefordoubtfulaccounts.
b. Marketablesecurities.
c. Property,plant,andequipment.
d. Repairs and maintenance
expense.
121. For which of the following
mattersshouldanauditorobtain
written

management
representations?
a. Managements cost
benefit justifications
for not correcting
internal

control
weaknesses.
b. Managements
knowledgeoffuture
plans that may
affect the price of
theentitysstock.
c. Managements
compliancewith
contractual
agreementsthatmay
affectthefinancial
statements.
d. Managements
acknowledgment of
itsresponsibilityfor
employees
violationsoflaws.
122. Towhichofthefollowing
matterswouldmaterialitylimits
notapplyinobtainingwritten
managementrepresentations?
a. The availability of
minutes

of
stockholders and
directorsmeetings.
b. Lossesfrompurchase
commitments at
prices in excess of
marketvalue.
c. The disclosure of
compensating balance
arrangements
involving related
parties.

d.

123

Reductions of obsolete
inventory to net
realizablevalue.

123. Thedateofthemanagement
representation letter should
coincidewiththedateofthe
a. Balancesheet.
b. Latest interim financial
information.
c. Auditorsreport.
d. Latestrelatedpartytransaction.
124. Which of the following matters
would an auditor most likely
include in a management
representationletter?
a. Communications with
the audit committee
concerning
weaknessesininternal
control.
b. Thecompletenessand
availabilityofminutes
of stockholders and
directorsmeetings.
c. Plans to acquire or merge with
other entities in the subsequent
year.
d. Managements
acknowledgment of
itsresponsibilityfor
the detection of
employeefraud.
125. Thecurrentchiefexecutiveand
financialofficershaveonlybeen
employedbyABCCompanyfor
thepastfivemonthsofyear2.
ABCCompanyispresenting
comparativefinancialstatements
onYears1and2,bothofwhich
wereauditedbyWilliamJones,
CPA.Forwhichyear(s)should
Jonesobtainwritten
representationsfromthesetwo
individuals?

128. Awrittenrepresentationfromaclients
managementwhich,amongothermatters,
a.
acknowledgesresponsibilityforthefair
b.
presentationoffinancialstatements,should
c.
normallybesignedbythe
d.
a. Chief executive officer
and the chief financial
126. Whichofthefollowing
officer.
statementsordinarilyisincluded
b. Chief financial
amongthewrittenclient
officer and the
representationsobtainedbythe
chairman of the
auditor?
boardofdirectors.
a. Compensatingbalances
c.
Chairman of the audit
andotherarrangements
committeeoftheboard
involvingrestrictionson
ofdirectors.
cashbalanceshavebeen
d.
Chief executive officer,
disclosed.
the chairman of the
b. Management acknowledges
board of directors, and
responsibilityforillegalactions
theclientslawyer.
committedbyemployees.
c. Sufficientauditevidence
129. Alimitationonthescopeofthe
hasbeenmadeavailable
auditorsexaminationsufficient
topermittheissuanceof
toprecludeanunqualified
anunqualifiedopinion.
opinionwillalwaysresultwhen
Year1
No
No
Yes
Yes

d.

Year2
No
Yes
No
Yes

Management
acknowledges that
therearenomaterial
weaknesses in the
internalcontrol.

127. Whenconsideringtheuseof
managementswritten
representationsasauditevidence
aboutthecompletenessassertion,
anauditorshouldunderstandthat
suchrepresentations
a. Complement,butdonot
replace,substantivetests
designed to support the
assertion.
b. Constitutesufficient
evidencetosupportthe
assertionwhen
consideredin
combinationwithreli
anceoninternalcontrol.
c. Are not part of the
audit

evidence
considered to support
theassertion.
d. Replace reliance on internal
control as evidence to support
theassertion.

management
a. Prevents the auditor
from reviewing the
working papers of the
predecessorauditor.
b. Engages the auditor after the
yearend physical inventory
countiscompleted.
c. Failstocorrecta
significantdeficiencyof
internalcontrolthathad
beenidentifiedduring
theprioryearsaudit.
d. Refuses to furnish a
management
representationletterto
theauditor.

130. A purpose of a management


representationletteristoreduce
a. Audit risk to an
aggregate level of
misstatement that
could be considered
material.
b. Anauditors
responsibilitytodetect
materialmisstatements
onlytotheextentthat
theletterisreliedon.

MODULE4RESPONDINGTORISKASSESSMENT

124
c.

d.

Thepossibilityofa
misunderstanding
concerning
managements
responsibilityforthe
financialstatements.

The scope of an
auditors procedures
concerning relatedparty
transactions

and
subsequentevents.

131. There have been no


communications from regulatory
agencies

concerning
noncompliance with, or
deficienciesin,financialreporting
practices that could have a
material effect on the financial
statements. The foregoing
passageismostlikelyfroma
a. Reportoninternalcontrol.
b. Specialreport.
c. Management representation
letter.
d. Letterforunderwriters.
132. Which of the following
statementsiscorrectconcerning
anauditorsuseoftheworkofa
specialist?
a. Theworkofa
specialistwhois
relatedtotheclient
maybeacceptable
undercertaincircum
stances.
b. If an auditor
believes that the
determinations
made by a
specialist are
unreasonable, only
a qualified opinion
maybeissued.
c. Ifthereisamaterial
differencebetweena
specialistsfindings
andtheassertionsinthe
financialstatements,
onlyanadverseopinion
maybeissued.
d. Anauditormaynotuse
aspecialistinthedeter
minationofphysical
characteristicsrelating
toinventories.
133. Inusingtheworkofaspecialist,
anauditormayrefertothe
specialistintheauditorsreport
if,asaresultofthespecialists
findings,theauditor
a. Becomesawareof
conditionscausing
substantialdoubtabout

b.

theentitysabilityto
continueasagoing
concern.

Desirestodisclosethespecialists
findings,whichimplythatamore
thoroughauditwasperformed.

c.

d.

Is able to corroborate
another specialists
earlier findings that
were consistent with
managements
representations.
Discovers significant
deficiencies in the
design of the entitys
internal control that
management does not
correct.

134. Which of the following


statements is correct about the
auditors use of the work of a
specialist?
a. The specialist should
not
have an
understanding of the
auditorscorroborative
useofthespecialists
findings.
b. Theauditorisrequired
toperformsubstantive
procedurestoverify
thespecialists
assumptionsand
findings.
c. Theclientshouldnot
havean
understandingofthe
natureoftheworkto
beperformedbythe
specialist.
d.

Theauditorshouldobtain
an understanding of the
methodsandassumptions
usedbythespecialist.

135. Inusingtheworkofaspecialist,
anauditorreferredtothe
specialistsfindingsinthe
auditorsreport.Thiswouldbean
appropriatereportingpracticeif
the
a. Clientisnotfamiliar
withtheprofessional
certification,personal
reputation,orparticular
competenceofthe
specialist.

b.

c.

d.

Auditor,asaresultof
thespecialists
findings,addsan
explanatoryparagraph
emphasizingamatter
regardingthe
financialstatements.

Client understands the


auditors corroborative
use of the specialists
findings in relation to
the representations in
thefinancialstatements.
Auditor,asaresultof
thespecialistsfindings,
decidestoindicatea
divisionof
responsibilitywiththe
specialist.

136. Inusingtheworkofaspecialist,
anunderstandingshouldexist
amongtheauditor,theclient,and
thespecialistastothenatureof
thespecialistswork.The
documentationofthis
understandingshouldcover
a. Astatementthatthe
specialistassumesno
responsibilitytoupdate
thespecialistsreportfor
futureeventsor
circumstances.
b. The conditions under
which a division of
responsibility may be
necessary.
c. The specialists
understandingofthe
auditors
corroborativeuseof
the specialists
findings.
d. Theauditorsdisclaimerasto
whetherthespecialistsfindings
corroboratetherepresentationsin
thefinancialstatements.
137. Whichofthefollowingis not a
specialist upon whose work an
auditormayrely?
a. Actuary.
b. Appraiser.
c. Internalauditor.
d. Engineer.
138. Alawyersresponsetoan
auditorsinquiryconcerning
litigation,claims,andassessments
maybelimitedtomattersthatare
consideredindividuallyor

a.
b.
c.
d.

collectivelymaterialtothe
clientsfinancialstatements.
Whichpartiesshouldreachan
understandingonthelimitsof
materialityforthispurpose?
The auditor and the clients
management.
Theclientsauditcommitteeand
thelawyer.
Theclientsmanagementandthe
lawyer.
Thelawyerandtheauditor.

139. Therefusalofaclientsattorney
toprovideinformationrequested
in an inquiry letter generally is
considered

a.
b.
c.
d.

Groundsforanadverseopinion.
Alimitationonthescopeofthe
audit.
Reason to withdraw from the
engagement.
Equivalent to a significant
deficiency.

140. Whichofthefollowingisan
auditprocedurethatanauditor
mostlikelywouldperform
concerninglitigation,claims,
andassessments?
a. Requesttheclients
lawyertoevaluate
whethertheclients
pendinglitigation,
claims,andas
sessmentsindicatea
goingconcern
problem.
b. Examinethelegal
documentsintheclients
lawyerspossession
concerninglitigation,
claims,andassessments
towhichthelawyerhas
devotedsubstantive
attention.
c. Discuss

with
management

its
policies and proce
dures adopted for
evaluating

and
accounting

for
litigation, claims, and
assessments.
d.

Confirm directly with


the clients lawyer that
all litigation, claims,
and assessments have
been recorded or
disclosed in the
financialstatements.

MODULE4RESPONDINGTORISKASSESSMENT
141. Theprimaryreasonanauditor
requestslettersofinquirybe
senttoaclientsattorneysisto
providetheauditorwith
a. The probable
outcomeofasserted
claims andpending
or threatened
litigation.
b. Corroborationofthe
informationfurnished
bymanagementabout
litigation,claims,and
assessments.
c.

Theattorneysopinions
oftheclientshistorical
experiences in recent
similarlitigation.

d.

Adescriptionand
evaluationoflitigation,
claims,andassessments
thatexistedatthe
balancesheetdate.

142. Whichofthefollowingisnotan
auditprocedurethatthe
independentauditorwould
performconcerninglitigation,
claims,andassessments?
a. Obtainassurancefrom
managementthatithasdisclosed
allunassertedclaimsthatthe
lawyerhasadvisedareprobable
ofassertionandmustbedis
closed.
b. Confirm directly with
theclientslawyerthat
all claims have been
recorded in the
financialstatements.
c. Inquireofanddiscuss
withmanagementthe
policiesandprocedures
adoptedforidentifying,
evaluating,and
accountingfor
litigation,claims,and
assessments.
d. Obtainfrom
managementa
descriptionand
evaluationof
litigation,claims,and
assessmentsexisting
atthebalancesheet
date.
143. The scope of an audit is not
restricted when an attorneys
responsetoanauditorasaresult
of a clients letter of audit
inquirylimitstheresponseto
a. Matters to which the
attorney has given
substantive attention
in the form of legal

b.

c.

d.

representation.

125

An evaluation of the
likelihood of an
unfavorable outcome of
the matters disclosed by
theentity.

The

attorneys
opinionoftheentitys
historical experience
in recent similar
litigation.
The probable
outcomeofasserted
claims andpending
or threatened
litigation.

144. ACPAhasreceivedan
attorneysletterinwhichno
significantdisagreementswith
theclientsassessmentsof
contingentliabilitieswerenoted.
Theresignationoftheclients
lawyershortlyafterreceiptofthe
lettershouldalerttheauditorthat
a. Undisclosed unasserted claims
mayhavearisen.
b. Theattorneywas
unabletoforma
conclusionwith
respecttothe
significanceof
litigation,claims,
andassessments.
c. The auditor must
begin a completely
new examination
of contingent
liabilities.
d. An adverse opinion will be
necessary.
145. Whichofthefollowing
statementsextractedfroma
clientslawyersletter
concerninglitigation,claims,
andassessmentsmostlikely
wouldcausetheauditorto
requestclarification?
a. I believe that the
possible liability to
the company is
nominalinamount.
b. I believe that the
action can be settled
for less than the
damagesclaimed.

6. Ibelievethattheplaintiffscase
againstthecompanyiswithout
merit.
7. Ibelievethatthecompanywill
be able to defend this action
successfully.
146.Whenauditingthefairvalueofan
assetorliability,valuationissues
ordinarilyariseatthepointof
a.
b.
c.
d.

Initial
recording
Yes
Yes
No
No

Subsequentto
initialrecording
Yes
No
Yes
No

147. Whichofthefollowingisleast
likelytobeanapproach
followedwhenauditingthefair
valuesofassetsandliabilities?
a. Review and test
managements process
ofvaluation.
b. Confirm valuations
with audit committee
members.
c. Independently develop
anestimateofthevalue
oftheaccount.
d. Review subsequent events
relatingtotheaccount.
148. Whichofthefollowing
auditingproceduresmost
likelywouldassistanauditor
inidentifyingrelatedparty
transactions?
a. Inspecting
correspondence with
lawyers for evidence
of

unreported
contingentliabilities.
b.

Vouching accounting
records for recurring
transactions recorded
just after the balance
sheetdate.

c.

Reviewing
confirmations of loans
receivableandpayable
for indications of
guarantees.
Performing analytical
procedures

for

d.

indications of possible
financialdifficulties.
149. Afterdeterminingthatarelated
party transaction has, in fact,
occurred,anauditorshould
a. Addaseparateparagraphtothe
auditors standard report to
explainthetransaction.
b. Performanalytical
procedurestoverify
whethersimilar
transactionsoccurred,
butwerenotre
corded.
c. Obtain

an
understanding of the
businesspurposeofthe
transaction.
d. Substantiatethatthe
transaction was
consummated on
terms equivalent to
an armslength
transaction.
150. When auditing relatedparty
transactions, an auditor places
primaryemphasison
a. Ascertainingtherights
and obligations of the
relatedparties.
b. Confirmingtheexistenceofthe
relatedparties.
c. Verifying the valuation
of the relatedparty
transactions.
d. Evaluating the
disclosure of the
relatedparty
transactions.
151. Which of the following
statementsiscorrectconcerning
relatedpartytransactions?
a. Intheabsenceofevidencetothe
contrary,relatedparty
transactionsshouldbeassumed
tobeoutsidetheordinarycourse
ofbusiness.
b. An auditor should
determine whether a
particular transaction
would have occurred if
thepartieshadnotbeen
related.

MODULE4RESPONDINGTORISKASSESSMENT

126

d.

a.

b.

Anauditorshould
substantiatethat
relatedparty
transactionswere
consummatedonterms
equivalenttothosethat
prevailinarmslength
transactions.
The audit procedures
directed

toward
identifying relatedparty
transactions should
include considering
whethertransactionsare
occurring, but are not
being given proper
accountingrecognition.

152. Anauditormostlikelywouldmodifyan
unqualifiedopinioniftheentitysfinancial
statementsincludeafootnoteonrelated
partytransactions
a. Disclosing loans to
relatedpartiesatinterest
ratessignificantlybelow
prevailingmarketrates.
b. Describing

an
exchangeofrealestate
forsimilarpropertyin
anonmonetaryrelated
partytransaction.
c.

d.

Stating that a particular


relatedparty transaction
occurred on terms
equivalent to those that
wouldhaveprevailedin
an

armslength
transaction.
Presentingthedollar
volumeofrelatedparty
transactionsandthe
effectsofanychangein
themethodof
establishingtermsfrom
priorperiods.

153. Whichofthefollowing
procedureswouldanauditor
mostlikelyperforminobtaining
evidenceaboutsubsequent
events?
a. Determine thatchanges
in employee pay rates
after yearend were
properlyauthorized.
b. Recompute
depreciation charges
for plant assets sold
afteryearend.
c.

Inquire about payroll


checks that were
recorded before year
end but cashed after
yearend.

Investigatechangesin
longterm

debt
occurring after year
end.

154. Whichofthefollowingeventsoccurring
aftertheissuanceofanauditorsreport
mostlikelywouldcausetheauditortomake
furtherinquiriesaboutthepreviouslyissued
financialstatements?
a. Anuninsurednaturaldisaster
occursthatmayaffectthe
entitysabilitytocontinueasa
goingconcern.
b. A contingency is
resolved that had been
disclosedinthe audited
financialstatements.
c.

New information is
discovered concerning
undisclosed

lease
transactions of the
auditedperiod.

d.

A subsidiary is sold
that accounts for 25%
of the entitys
consolidated net
income.

155. ZeroCorp.sufferedalossthatwouldhave
amaterialeffectonitsfinancialstatements
onanuncollectibletradeaccountreceivable
duetoacustomersbankruptcy.This
occurredsuddenlyduetoanaturaldisaster
tendaysafterZerosbalancesheetdate,but
onemonthbeforetheissuanceofthe
financialstatementsandtheauditors
report.Underthesecircumstances,

a.
b.
c.
d.

The
financial
statements
shouldbe
adjusted
Yes
Yes
No
No

Theevent
requiresfinancial
statement
disclosure,but
noadjustment
No
No
Yes
Yes

Theauditors
reportshould
bemodified
foralackof
consistency
No
Yes
Yes
No

156. Afteranauditreportcontainingan
unqualifiedopiniononanonissuer
(nonpublic)clientsfinancialstatements
wasissued,theclientdecidedtosellthe
sharesofasubsidiarythataccountsfor
30%ofitsrevenueand25%ofitsnet
income.Theauditorshould
a. Determinewhetherthe
informationisreliable
and,ifdeterminedto
bereliable,request
thatrevisedfinancial
statementsbeissued.
b. Notifytheentitythatthe
auditorsreportmaynolonger
beassociatedwiththefinancial
statements.
c. Describetheeffectsof
thissubsequently
discovered
informationina
communicationwith
personsknowntobe
relyingonthefinancial
statements.
d. Take no actionbecause
the auditor has no
obligationtomakeany
furtherinquiries.
157. A client acquired 25% of its
outstanding capital stock after
yearendandpriortocompletion
of theauditorsfieldwork.The
auditorshould
a. Advise management to
adjustthebalancesheet
to reflect the
acquisition.
b.

Issueproformafinancial
statements giving effect
totheacquisitionasifit
hadoccurredatyearend.

c.

Advise management to
disclose the acquisition
in the notes to the
financialstatements.
Disclose

the
acquisition in the
opinion paragraph of
theauditorsreport.

d.

158. Whichofthefollowing
procedureswouldanauditor
mostlikelyperformtoobtain
evidenceabouttheoccurrenceof
subsequentevents?
a. Confirmingasampleof
material accounts
receivable established

b.

c.

d.

afteryearend.
Comparing the
financialstatements
being reported on
with those of the
priorperiod.
Investigating personnel
changes in the
accounting department
occurringafteryearend.
Inquiringastowhether
any

unusual
adjustments were
madeafteryearend.

159. Which of the following


procedures should an auditor
generally perform regarding
subsequentevents?
a. Comparethelatest
availableinterim
financialstatements
withthefinancial
statementsbeingau
dited.
b. Sendsecondrequests
totheclients
customerswhofailed
torespondtoinitial
accountsreceivable
confirmationrequests.
c.

Communicate
material weaknesses
ininternalcontrolto
the clients audit
committee.

d.

Review the cutoff


bank statements for
severalmonthsafter
theyearend.

160. OnFebruary25,aCPAissuedan
auditorsreportexpressingan
unqualifiedopiniononfinancial
statementsfortheyearended
January31.OnMarch2,theCPA
learnedthatonFebruary11,the
entityincurredamateriallosson
anuncollectibletradereceivable
asaresultofthedeteriorating
financialconditionoftheentitys
principalcustomerthatledtothe
customer'sbankruptcy.
Managementthenrefusedto
adjustthefinancialstatementsfor
thissubsequentevent.TheCPA
determinedthattheinformationis
reliableandthatthereare
creditorscurrentlyrelyingonthe
financialstatements.TheCPAs
nextcourseofactionmostlikely
wouldbeto

MODULE4RESPONDINGTORISKASSESSMENT
a.

b.

Notifytheentitys
creditorsthatthe
financialstatementsand
therelatedauditors
reportshouldnolonger
bereliedon.
Notifyeachmemberofthe
entitysboardofdirectorsabout
managementsrefusaltoadjust
thefinancialstatements.
c. Issue revised financial
statements

and
distributethemtoeach
creditor known to be
relyingonthefinancial
statements.
d. Issuearevisedauditors
report and distribute it
to each creditor known
to be relying on the
financialstatements.

127

161. Anauditorisconsideringwhether
theomissionofasubstantive
procedureconsiderednecessary
atthetimeofanauditmayimpair
theauditorspresentabilityto
supportthepreviouslyexpressed
opinion.Theauditorneednot
applytheomittedprocedureifthe
a. Financialstatementsand
auditorsreportwerenot
distributedbeyond
managementandthe
boardofdirectors.
b. Auditors previously expressed
opinion was qualified because
ofadeparturefromGAAP.
c. Results of other
procedures that were
applied tend to
compensate for the
procedureomitted.
d.

Omission is due to
unreasonable delays by
client personnel in
providing data on a
timelybasis.

162. OnMarch15,2002,Kent,CPA,
issuedanunqualifiedopinionon
aclientsauditedfinancial
statementsfortheyearended
December31,2001.OnMay4,
2002,Kentsinternalinspection
programdisclosedthat
engagementpersonnelfailedto
observetheclientsphysical
inventory.Omissionofthis
procedureimpairsKentspresent
abilitytosupporttheunqualified
opinion.Ifthestockholdersare
currentlyrelyingontheopinion,
Kentshouldfirst
a. Advise management to

b.

c.

d.

disclose to the
stockholders that
Kents unqualified
opinion should not be
reliedon.
Undertaketoapply
alternativeprocedures
thatwouldprovidea
satisfactorybasisforthe
unqualifiedopinion.
Reissuetheauditors
reportandaddan
explanatoryparagraph
describingthedeparture
fromgenerally
acceptedauditing
standards.
Compensateforthe
omittedprocedureby
performingtestsof
controlstoreduceaudit
risktoasufficiently
lowlevel.

163. Sixmonthsafterissuingan
unqualifiedopiniononaudited
financialstatements,anauditor
discoveredthattheengagement
personnelfailedtoconfirm
severaloftheclientsmaterial
accountsreceivablebalances.
Theauditorshouldfirst
a.

Request the permission


oftheclienttoundertake
the confirmation of
accountsreceivable.

b.

Perform alternative
procedurestoprovidea
satisfactory basis for
theunqualifiedopinion.
Assess the importance
of the omitted
procedures to the
auditors ability to
support the previously
expressedopinion.

c.

d.

Inquire whether there


are persons currently
relying, or likely to
rely,ontheunqualified
opinion.

164. Which of the following


procedures is least likely to be
performed before the balance
sheetdate?

a.
b.
c.
d.

Testing of internal control over


cash.
Confirmationofreceivables.
Searchforunrecordedliabilities.
Observationofinventory.

165. Which of the following most


likely would be detected by an
auditors review of a clients
salescutoff?
a. Shipments lacking
sales invoices and
shippingdocuments.
b. Excessivewriteoffsofaccounts
receivable.
c. Unrecordedsalesatyearend.
d. Lapping of yearend accounts
receivable.
166. Cutofftestsdesignedtodetectcreditsales
madebeforetheendoftheyearthathave
been recorded in the subsequent year
provide assurance about managements
assertionof
a. Presentation.
b. Completeness.
c. Rights.
d. Existence.
167. Whichofthefollowing
procedureswouldanauditor
mostlikelyperformduringan
auditengagementsoverall
reviewstageinformulatingan
opiniononanentitysfinancial
statements?
a. Obtainassurance
fromtheentitys
attorneythatall
materiallitigationhas
beendisclosedinthe
financialstatements.
b. Verify the clerical
accuracy of the
entitys proof of cash
and its bank cutoff
statement.

c.

d.

Determine whether
inadequate provisions
forthesafeguardingof
assets have been
corrected.
Consider whether the
results of audit
procedures affect the
assessmentofthe risk
of material mis
statementduetofraud.

168. Operational auditing is primarily


orientedtoward
a. Future improvements
to accomplish the
goalsofmanagement.
b. The accuracy of data
reflected

in
managements
financialrecords.
c. The verification that a
companys financial
statements are fairly
presented.
d. Past

protection
provided by existing
internalcontrol.
169. A typical objective of an
operational audit is to deter
minewhetheranentitys
a. Internal control is
adequately
operating as de
signed.
b. Operational
informationisin
accordancewith
generallyaccepted
governmental
auditingstandards.
c. Financial statements
present fairly the
resultsofoperations.
d. Specific operating units are
functioning efficiently and
effectively.

MODULE4RESPONDINGTORISKASSESSMENT

128
SIMULATIONS

TaskBasedSimulation1
AuditInvestmentsand
AccountsReceivable

Authoritative

Literature

Help

Items1through7representauditobjectivesfortheinvestmentsandaccountsreceivable.Totherightofeachsetof
auditobjectivesisalistingofpossibleauditproceduresforthataccount.Foreachauditobjective,selecttheauditprocedure
thatwouldprimarilyrespondtotheobjective.Selectonlyoneprocedureforeachauditobjective.Aproceduremaybeselected
onlyonce,ornotatall.
Auditproceduresforinvestments
A. Traceopeningbalancesinthesubsidiaryledgertoprioryearsauditworkingpapers.
B. Determinethatemployeeswhoareauthorizedtosellinvestmentsdonothaveaccesstocash.
C. Examinesupportingdocumentsforasampleofinvestmenttransactionstoverifythatprenumbereddocuments
areused.
D. Determinethatanyimpairmentsinthepriceofinvestmentshavebeenproperlyrecorded.
E. Verifythattransfersfromthecurrenttothenoncurrentinvestmentportfoliohavebeenproperlyrecorded.
F. Obtainpositiveconfirmationsasofthebalancesheetdateofinvestmentsheldbyindependentcustodians.
G. TraceinvestmenttransactionstominutesoftheBoardofDirectorsmeetingstodeterminethattransactions
wereproperlyauthorized.
A
u
1.

2.

3.

T
A
u

A.

Analyzetherelationshipofaccountsreceivableandsalesandcompareitwithrelationshipsforprecedingperiods.

B. Performsalescutoffteststoobtainassurancethatsalestransactionsandcorrespondingentriesforinventoriesand
costofgoodssoldarerecordedinthesameandproperperiod.
C. Reviewtheagedtrialbalanceforsignificantpastdueaccounts.
D. Obtainanunderstandingofthebusinesspurposeoftransactionsthatresultedinaccountsreceivablebalances.
E. Reviewloanagreementsforindicationsofwhetheraccountsreceivablehavebeenfactoredorpledged.
F. Reviewtheaccountsreceivabletrialbalanceforamountsduefromofficersandemployees.
G. Analyzeunusualrelationshipsbetweenmonthlyaccountsreceivablebalancesandmonthlyaccountspayable
balances.

4.

A
u
A

5.

6.

7.

TaskBasedSimulation2
Research
Authoritative
Literature

Help

ConfirmationofAccountsReceivable
BillSmith,thepresidentofAlexInc.,anonpublicauditclient,hassuggestedtoyouthathispreviousauditordidnot
confirmaccountsreceivableandheseesnoreasonwhyyoushoulddoso.

MODULE4RESPONDINGTORISKASSESSMENT
Selections
A. AU

129

B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
(A)(B)(C)(D)(E)(F)(G)(H)
1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtohim?
2. Entertheexactsectionandparagraphwithhelpfulinformation.
TaskBasedSimulation3
IllegalActsandRelated
PartyTransactions

Authoritative
Literature

Help

In applying audit procedures and evaluating the results of those procedures, auditors may encounter specific
informationthatmayraise a questionconcerningtheexistenceofillegalacts andrelatedpartytransactions.Indicate
whethereachofthefollowingismorelikelyrelatedtoanillegalact(IA)orarelatedpartytransaction(RP).

3.

S
t
A

T
h
U

4.

5.

L
a

1.
2.

TaskBasedSimulation4
AccountsReceivable
Confirmations

Authoritative

Literature

Help

Anauditormayuseconfirmationsofaccountsreceivable.Replyastowhetherthefollowingstatementsarecorrectorin
correctwithrespecttotheconfirmationprocesswhenappliedtoaccountsreceivable.

4.

S
t
T
h
A

S
e
C

5.

6.

A
b
A
u
A
u

1.
2.
3.

7.
8.

130
S
t
9.

T
h
10. A
c

MODULE4RESPONDINGTORISKASSESSMENT

TaskBasedSimulation5
Auditing
Inventory

Authoritative

Literature

Help

Auditorsoftenobservethecountingoftheirclientsinventories.Replyastowhetherthe
followingstatementsarecorrect

orincorrectwithrespecttotheinventoryobservation.

Statement
1. Withstronginternalcontrol,theinventorycountmaybeattheendoftheyearoratother
times.
2. Whenaclienthasmanyinventorylocations,auditorsordinarilyneednotbepresentat
eachlocation.
3. Allauditortestcountsmustbedocumentedintheworkingpapers.
4. Auditorsobservationofthecountingoftheirclientsinventoriesaddressestheexistence
ofinventory,andnotthecompletenessofthecount.
5. Whentheclientmanufacturesaproduct,directlaborandoverheadordinarilybecomea
partofinventoryitemcosts.
6. Inventoryisordinarilyvaluedatthelowerofstandardcostormarket.
7. Inventoryitemspresentasconsignedinshouldnotbeincludedintheclientsinventory
value.
8. Auditorrecordingoftestcountsordinarilyreplacestheneedforclienttaggingofin
ventory.
9. Ordinarily,anauditorneednotcountallitemsintheinventory.
10. Atthecompletionofthecount,anauditorwillordinarilyprovidetheclientwithcopiesof
hisorherinventorytestcountstohelpassureinventoryaccuracy.
TaskBasedSimulation6
Research
Authoritative
Literature

Help

AuditingDerivatives
Thepartnerinchargeoftheaudityouarecurrentlyworkingonisconcernedabout
overallriskinvolvedwithcertainfinancialderivativetransactionstheclientisinvolved
with.Morespecifically,shehasaskedyoutofindguidanceintheProfessionalStandards
ondeterminingthatalloftheclientsderivativesareproperlyreported.
Selections
A. AU
B. PCAOB
C. AT
D. AR
E. ET
F. BL
G. CS
H. QC
(A)
(B)
(C)
(D)
(E)
(F)
(G)

Correct

Incorrect

(H)
1.

WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtoher?

2.

Entertheexactsectionandparagraphwithhelpfulinformation.

MODULE4RESPONDINGTORISKASSESSMENT

131

TaskBasedSimulation7
Bank
Reconciliation

Authoritative
Literature

Help

Items1through6representtheitemsthatanauditorordinarilywouldfindonaclient
preparedbankreconciliation.TheaccompanyingListofAuditingProceduresrepresents
substantiveauditingprocedures.Foreachitem,selectoneormoreprocedures,asindicated,
thattheauditormostlikelywouldperformtogatherevidenceinsupportofthatitem.The
proceduresontheListmaybeselectedonce,morethanonce,ornotatall.
Assume

Theclientpreparedthebankreconciliationon10/2/05.
Thebankreconciliationismathematicallyaccurate.
Theauditorreceivedacutoffbankstatementdated10/7/05directlyfromthebankon
10/11/05.
The9/30/05depositintransit,outstandingchecks#1281,#1285,#1289,and#1292,
andthecorrectionoftheerrorregardingcheck#1282appearedonthecutoffbank
statement.

Theauditorassessedcontrolriskconcerningthefinancialstatementassertionsrelated
tocashatthemaximum.
ListofAuditingProcedures
F. Inspectbankdebitmemo.
G. Ascertainreasonforunusualdelay.
H. Inspect supporting documents for reconciling
itemnotappearingoncutoffstatement.
I. Traceitemsonthebankreconciliationtocutoff
statement.
J. Trace items on the cutoff statement to bank
reconciliation.

A. Trace to cash receipts


journal.
B.

Tracetocashdisbursements
journal.

C. Compareto9/30/01general
ledger.
D. Confirmdirectlywithbank.
E. Inspectbankcreditmemo.

GeneralCompany
BANKRECONCILIATION
1STNATIONALBANKOFUSBANKACCOUNT
September30,2005
1.

Select2Procedures

2.

Select5ProceduresDepositsintransit
9/29/05
9/30/05

Balanceperbank

28,375

3. Select5Procedures

4. Select1Procedure
5. Select2Procedures

6. Select1Procedure

Outstandingchecks
#988
8/31/05
#1281
9/26/05
#1285
9/27/05
#1289
9/29/05
#1292
9/30/05
Customernotecollectedbybank
Error:Check#1282,writtenon9/26/05
for$270waserroneouslychargedbybank
as$720;bankwasnotifiedon10/2/05
Balanceperbooks

TaskBasedSimulation8
Audit
Procedures

Authoritative

$4,500
1,525

2,200
675
850
2,500
7,225

6,025
34,400

(13,450)
20,950
(3,000)
450
$18,400

Literature

Help

Items1through12representpossibleerrorsandfraudthatyoususpectmaybepresentat
GeneralCompany.TheaccompanyingListofAuditingProceduresrepresentsproceduresthat
theauditorwouldconsiderperformingtogatherevidenceconcerningpossibleerrorsand
fraud.Foreachitem,selectoneortwoprocedures,asindicated,thattheauditormostlikely
wouldperformtogatherevidenceinsupportofthatitem.Theproceduresonthelistmaybe
selectedonce,morethanonce,ornotatall.

MODULE4RESPONDINGTORISKASSESSMENT

132

A.

Comparethedetailsofthecash
receiptsjournalentrieswiththe
detailsofthecorrespondingdaily
depositslips.

B.

Scanthedebitstothefixedasset
accountsandvouchselectedamounts
tovendorsinvoicesand
managementsauthorization.

C.

D.
E.
F.

Perform analytical procedures that


compare documented authorized pay
rates to the entitys budget and
forecast.

N.

Obtain the cutoff bank statement and


comparetheclearedcheckstotheyearend P.
bankreconciliation.
Prepareabanktransferschedule.
Inspecttheentitysdeedstoitsrealestate.
G. Make inquiries of the entitys
attorneyconcerningthedetailsof
realestatetransactions.
H. Confirm the terms of borrowing
arrangementswiththelender.
I.

Examine selected equipment repair


ordersandsupportingdocumentationto
determinetheproprietyofthecharges.

J.

Sendrequeststoconfirmtheentitys
accounts receivable on a surprise
basisataninterimdate.

K.

Send a second request for


confirmationofthereceivabletothe
customer and make inquiries of a
reputable credit agency concerning
thecustomerscreditworthiness.

ListofAuditingProcedures
L. Examinetheentitysshipping
documentstoverifythatthe
merchandisethatproducedthe
receivablewasactuallysenttothe
customer.
M. Inspecttheentityscorrespondence
filesforindicationsofcustomer
disputesforevidencethatcertain
shipmentswereonconsignment.
Performeditchecksofdataonthepayroll
transactiontapes.
O. Inspect payroll check
endorsements for similar
handwriting.
Observe payroll check distribution on a
surprisebasis.
Q. Vouchdatainthepayrollregisterto
documentedauthorizedpayratesin
thehumanresourcesdepartments
files.
R. Reconcilethepayrollchecking
accountanddetermineiftherewere
unusualtimelagsbetweenthe
issuanceandpaymentofpayroll
checks.
S. Inspectthefileofprenumbered
vouchersforconsecutivenumbering
andproperapprovalbyan
appropriateemployee.
T. Determine that the details of
selected

prenumbered
vouchers match the related
vendorsinvoices.
U. Examinethesupportingpurchase
orders and receiving reports for
selectedpaidvouchers.

Possiblemisstatementsduetoerrorsandfraud
1.

The auditor suspects that a kiting scheme exists because an accounting


departmentemployeewhocanissueandrecordchecksseemstobeleadingan
unusuallyluxuriouslifestyle.(Selectonly1procedure)

2.

Anauditorsuspectsthatthecontrollerwroteseveralchecksandrecordedthecash
disbursementsjustbeforeyearendbutdidnotmailthechecksuntilafterthefirst
weekofthesubsequentyear.(Selectonly1procedure)

3.

Theentityborrowedfundsfromafinancialinstitution.Althoughthetransaction
wasproperlyrecorded,theauditorsuspectsthattheloancreatedalienonthe
entitysrealestatethatisnotdisclosedinitsfinancialstatements.(Selectonly
1procedure)

4.

Theauditordiscoveredanunusuallylargereceivablefromoneoftheentitysnew
customers.Theauditorsuspectsthatthereceivablemaybefictitiousbecausethe
auditorhasneverheardofthecustomerandbecausetheauditorsinitialattemptto
confirm the receivable has been ignored by the customer. (Select only 2
procedures)

5.

Theauditorsuspectsthatfictitiousemployeeshavebeenplacedonthepayrollby
the entitys payroll supervisor, who has access to payroll records and to the
paychecks.(Selectonly1procedure)

6.

Theauditor suspectsthatselectedemployees ofthe entityreceivedunauthorized


raisesfromtheentityspayrollsupervisor,whohasaccesstopayrollrecords.(Select

only1procedure)
7.

Theentityscashreceiptsofthefirstfewdaysofthesubsequentyearwereproperly
depositedinitsgeneraloperatingaccountaftertheyearend.However,theauditor
suspectsthattheentityrecordedthecashreceiptsinitsbooksduringthelastweekofthe
yearunderaudit.(Selectonly1procedure)
8.

Theauditorsuspectsthatvoucherswerepreparedandprocessedbyanaccounting
departmentemployeeformerchandisethatwasneitherorderednorreceivedby
theentity.(Selectonly1procedure)

9.

Thedetailsofinvoicesforequipmentrepairswerenotclearlyidentifiedorexplainedto
the accounting department employees. The auditor suspects that the bookkeeper
incorrectlyrecordedtherepairsasfixedassets.(Selectonly1procedure)

10. Theauditorsuspectsthatalappingschemeexistsbecauseanaccounting
departmentemployeewhohasaccesstocashreceiptsalsomaintainstheaccounts
receivableledgerandrefusestotakeanyvacationorsickdays.(Selectonly2
procedures)
11. Theauditorsuspectsthattheentityisinappropriatelyincreasingthecashreported
onitsbalancesheetbydrawingacheckononeaccountandnotrecordingitasan
outstandingcheckonthataccountandsimultaneouslyrecordingitasadepositina
secondaccount.(Selectonly1procedure)
12. Theauditorsuspectsthattheentityscontrollerhasoverstatedsalesandaccounts
receivablebyrecordingfictitioussalestoregularcustomersintheentitysbooks.
(Selectonly2procedures)

MODULE4RESPONDINGTORISKASSESSMENT

133

TaskBasedSimulation9
SubstantiveProceduresforProperty,Plantand
Equipment

Authoritative
Literature

Help

DietWebInc.(hereafterDietWeb)wasincorporatedandbeganbusinessinMarchof
20X1,sevenyearsago.Youareworkingonthe20X8audityourCPAfirmsfifthauditof
DietWeb.Foreachauditobjective,selectasubstantiveprocedurethatwouldhelptoachieve
thatobjective.Eachoftheproceduresmaybeusedonce,morethanonce,ornotatall.
Substantiveprocedure
Traceopeningbalancesinthesummaryschedulestotheprioryearsauditworking

A.

papers.
B. Reviewtheprovisionfordeprecationexpenseanddeterminethatdepreciablelives
andmethodsusedinthecurrentyearareconsistentwiththoseusedintheprior
year.
C. Determinethatresponsibilityformaintainingthepropertyandequipmentrecordsis
segregatedfromtheresponsibilityforcustodyofpropertyandequipment.
D.
Examinedeedsandtitleinsurancecertificates.
E.
Performcutofftesttoverifythatpropertyandequipmentadditionsarerecordedin
theproperperiod.
F.
Determinethatpropertyandequipmentisadequatelyinsured.
G.
Physicallyexamineallrecordedmajorpropertyandequipmentadditions.
H.
Analyzerepairsandmaintenanceexpense.
AuditObjective
(A)(B)(C)
(D)(E)(F)
(G)(H)
1.

DietWebhaslegalrightstopropertyandequipmentacquiredduringtheyear.

2.

DietWebrecordedpropertyandequipmentacquiredduringtheyearthatdidnot
actuallyexistatthebalancesheetdate.

3.

6.

DietWebspropertyandequipmentwasproperlyvaluedatthebalancesheetdate.
4.

DietWeb recorded allpropertyandequipmentassets that were purchased


nearyearend.

5.

DietWebrecordedallpropertyretirementsthatoccurredduringtheyear.

DietWebcapitalizedallacquisitionsthatoccurredduringtheperiod.

TaskBasedSimulation10
RiskAnalysis
Authoritative
Literature

Help

YouareworkingwithWilliamBond,CPA,andyouareconsideringtheriskofmaterial
misstatementinplanningtheauditofToxicWasteDisposal(TWD)Companysfinancial
statementsfortheyearendedDecember31,20X0.
Assumethatyouhaveidentifiedthefollowingrisksattheaccountlevelrelatingto
TWDspropertyandequipment.Identifythemostcloselyrelatedfinancialstatement
assertionandtheauditprocedurethatmightbeplannedtomostlikelyaddresstherisk.
Financialstatementassertionsandauditproceduresmaybeusedonce,morethanonce,ornot
usedatall.
Relatedfinancialstatementassertion
A.Existenceoroccurrence
B.Completeness
C.Rightsandobligations
D.Valuationorallocation
E.Presentationanddisclosure

Auditprocedures
F. Traceopeningbalancesinthesummaryschedulestotheprioryears
auditworkingpapers.
G. Reviewtheprovisionfordepreciationexpenseanddeterminethatde
preciablelivesandmethodsusedinthecurrentyearareconsistentwith
thoseusedintheprioryear.
H.Determinethattheresponsibilityformaintainingthepropertyand
equipmentrecordsissegregatedfromtheresponsibilityforcustodyof
propertyandequipment.
I. Examinedeedsandtitleinsurancecertificates.
J. Performcutoffsteststoverifythatpropertyandequipmentadditions
arerecordedintheproperperiod.
K. Determinethatpropertyandequipmentareadequatelyinsured.
L. Physicallyexamineallmajorpropertyandequipmentadditions.

MODULE4RESPONDINGTORISKASSESSMENT

134
Riskidentified
1.

2.

TWD may not have legal


titletocertainpropertyand
equipment recorded as
acquiredduringtheyear.

Recorded property and


equipment acquisitions may
includenonexistentassets.
3.

Recordednetpropertyand
equipment are for proper
amounts.

Relatedfinancialstatementassertion
(A)(B)(C)(D)(E)

Auditprocedures
(F)(G)(H)(I)(J)(K)(L)

TaskBasedSimulation11
AuditObjectives

andProcedures

Authoritative
Literature

Help

Foreachauditobjectivelistedbelowselectthemostappropriateauditprocedurefor
rawmaterialsinventory(Items13)andforAccountsReceivable(Items46).Audit
proceduresmaybeusedonce,morethanonce,ornotatall.
Listofauditproceduresforrawmaterialsinventory
A.
B.

Comparestandardcostsofinventorieswithstandardizedmarketvalues.
Determinethatalldirectlaborandoverheadhasbeenexpensedandnotincludedin
inventoryvaluation.
C.
Examinevendorsinvoices.
D.
Performanalyticalprocedurescomparinginventorytovariousindustryaverages.
E.
Reviewdraftsoffinancialstatementnotedisclosures.
F.
Selectasampleofitemsduringthephysicalcountanddeterminethattheclienthas
includeditemsoninventorycountsheets.
G.
Selectasampleofrecordeditemsoncountsheetsanddeterminethattheitemsareon
hand.
1.

2.

3.

D
L
i

A. Analyzerelationshipsbetweenaccountsreceivablebalancesandchangesinthecurrent
portionoflongtermdebt.
B. Compare accounts receivable on the accounts receivable lead schedule with those on
supportingauditschedules.
C. Comparetotal20X8annualsaleswiththoseof20X7.
D. ExamineDecember20X8salesjournalanddeterminethatsalesareproperlyrecordedin
December.
E. ExamineJanuary20X9salesjournalanddeterminethatsalesareproperlyrecordedin
January.
F. Inquireofcreditmanageraboutthecollectabilityofvariousreceivables.
G. Review disclosure checklist for recommended and required accounts receivable
disclosures.
4.

5.

D
e

6.

TaskBasedSimulation12
InventoryAuditObjectives
andProcedures

Authoritative

Literature

Help

Theauditordeterminesthateachofthefollowingobjectiveswillbepartoftheauditof
EnrightCorporation.Foreachauditobjective,selectasubstantiveprocedurethatwouldhelp
toachievetheauditobjectives.Eachoftheproceduresmaybeusedonce,morethanonce,or
notatall.

MODULE4RESPONDINGTORISKASSESSMENT
Substantiveprocedure

A. Review minutes of board of directors meetings and contracts, and make inquiries of
management.
B. Testinventorytransactionsbetweenapreliminaryphysicalinventorydateandthebalance
sheetdate.

135

C. Obtainconfirmationofinventoriespledgedunderloanagreement.
D. Review perpetual inventory records, production records, and purchasing records for
indicationofcurrentactivity.
E. Reconcile physical counts to perpetual records and general ledger balances and
investigatesignificantfluctuation.
F. Examinesalesafteryearendandopenpurchaseordercommitments.
G. Examinepaidvendorsinvoices,consignmentagreements,andcontracts.
H. Analyticallyreviewandcompare therelationshipofinventory balance torecent
purchasing,production,andsalesactivity.
1.

2.

3.

4.

D
e
D

5.

TaskBasedSimulation13
Spreadsheet
Completion

Authoritative
Literature

Help

Analyticalproceduresareevaluationsoffinancialinformationmadebyastudyof
plausiblerelationshipsamongfinancialandnonfinancialdata.Understandingandevaluating
suchrelationshipsareessentialtotheauditprocess.
ThefollowingspreadsheetwiththefinancialstatementswerepreparedbyHoliday
ManufacturingCo.fortheyearendedDecember31,20X1.Alsopresentedarevarious
financialstatementratiosforHolidayascalculatedfromtheprioryearsfinancialstatements.
Salesrepresentnetcreditsales.Thetotalassetsandthereceivablesandinventorybalancesat
December31,20X1,werethesameasatDecember31,20X0.
1
2
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136

30
31
32
33
34
35
36
37
38
39
40
41
42
43
44

A
Holiday Manufacturing Co.
Balance Sheet
December 31, 20X1

Cash
Receivables
Inventory
Total current assets

$240,000
400,000
600,000
$1,240,000

Plant and equipmentnet

Accounts Payable
Notes payable
Other current liabilities
Total current liabilities

760,000

Total assets

$160,000
100,000
140,000
400,000

Long-term debt
Common stock
Retained earnings
Total liabilities and capital

$2,000,000

350,000
750,000
500,000
$2,000,000

Income Statement
Year ended December 31, 20X1
Sales
Cost of goods sold
Materials
Labor
Overhead
Gross margin
Selling expenses
General and admin. exp.
Operating income
Less: interest expense

$3,000,000
800,000
700,000
300,000

1,800,000
1,200,000

240,000
300,000

MODULE4

A
Income before taxes
Less: federal income taxes
Net income

Ratios
Current ratio
Quick ratio
Accounts receivable turnover
Inventory turnover
Total asset turnover
Gross margin %
Net operating margin %
Times interest earned

540,000
660,000
40,000

RESPONDINGTORISKASSESSMENT
C

F
620,000
220,000
$400,000

12/31/X1
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)

12/31/X0
2.5
1.3
5.5
2.5
1.2
35%
25%
10.3

45 Total debt to equity %

(9)

50%

Insertspreadsheetformulasintotheworksheettoallowthedirectioncalculationof
eachratio(1through9).Usecelllocationratherthanamounts.

MODULE4RESPONDINGTORISKASSESSMENT

137

MULTIPLECHOICEANSWERS

1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
19.
20.
21.
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25.
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27.
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29.
30.

b
b
c
c
d
d
a
a
d
d
d
d
c
a
b
c
a
d
b
c
c
c
a
b
c
b
c
b
c
c

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31.
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60.

c
d
c
b
a
a
a
c
c
d
b
a
d
c
b
b
c
b
d
b
b
b
c
d
b
c
b
c
b
a

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61.
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81.
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89.
90.

a
c
b
c
a
d
d
a
b
d
a
d
c
a
a
d
c
b
a
b
a
b
d
a
c
c
c
c
a
d

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91.
92.
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106.
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120.

b
a
d
c
a
b
a
c
c
a
d
c
c
b
a
c
b
a
d
a
d
d
d
b
c
c
a
c
b
d

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121.
122.
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149.
150.

c
a
c
b
d
a
a
a
d
c
c
a
a
d
b
c
c
d
b
c
b
b
a
a
b
a
b
c
c
d

MULTIPLECHOICEANSWEREXPLANATIONS

transactions.Answer(a),(c),
and(d)areallincorrectbecause
accuracy,cutoffandoccurrence
areclassoftransaction
assertions.

A.1.SufficientAppropriateAudit
Evidence
1.(b)Therequirementistoidentifythe
statementthatbestdescribesthemeaningof
generallyacceptedauditingstandards.
Answer(b)iscorrectbecausegenerally
acceptedauditingstandardsdealwith
measuresofthequalityoftheperformance
ofauditprocedures.Answer(a)isincorrect
becauseproceduresrelatetoactstobe
performed,notdirectlytothestandards.
Answer(c)isincorrectbecausegenerally
acceptedauditingstandardshavebeen
issuedbypredecessorgroups,aswellasby
theAuditingStandardsBoard.Answer(d)
isincorrectbecausetheremayormaynot
beuniversalcompliancewiththe
standards.
2.

(b)Therequirementisto
identifythereplythatisnotan
assertionforclassesof
transactions.Theassertionsfor
classesoftransactionsare
occurrence,completeness,
accuracy,cutoffand
classification.Answer(b)is
correctsinceconsistencyisnot
anassertionforclassesof

3.

(c)Therequirementistoidentifythetype
ofevidencethatisgenerallymostreliable.
Answer(c)iscorrectbecauseaudit
evidenceobtainedfromknowledgeable
independentsourcesoutsidetheclient
companyismorereliablethanaudit
evidenceobtainedfromnonindependent
sources(e.g.,companysourceswhomaybe
biased).Answer(a)isincorrectbecause
auditevidenceobtainedfromdirectsources
ismorereliable.Answer(b)is

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151.
152.
153.
154.
155.
156.
157.
158.
159.
160.
161.
162.
163.
164.
165.
166.
167.
168.
169.

d
c
d
c
d
d
c
d
a
b
c
b
c
c
c
b
d
a
d

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1st:__/169=__%
2nd:__/169=__%

incorrectbecauseitisnotclearasto
whethercopiesorfacsimilecopiesare
morereliable.Answer(d)isincorrect
becauseitisunclearwhetheraudit
evidenceprovidedbyoriginaldocuments
ismorereliablethanthatprovidedthrough
asystemofeffectivecontrolsindeed,
theymaybeoneandthesame.
4.

(c)Therequirementistoidentify
themostpersuasivetypeof
evidence.Answer(c)iscorrect
becauseabankstatement
representsevidenceprepared
outsideoftheentityandis
consideredanauditevidence
sourcewhichprovidestheauditor
withahighlevelofassurance.
Answers(a),(b),and(d)are
incorrectbecauseprenumbered
clientpurchaseorderforms,
clientworksheetsanda

representationletterallrepresent
internallygenerateddocuments,
generallyconsideredless
persuasivethanexternally
generateddocuments.SeeSAS
106forinformationonthe
persuasivenessofauditevidence.
5.

(d)Therequirementistoidentifyacorrect
presumptionaboutthereliabilityofaudit
evidence.Answer(d)iscorrectbecause
SAS106indicatesthateffectiveinternal
controlprovidesmoreassuranceaboutthe
reliabilityofauditevidencethanineffective
control.Answer(a)isincorrectbecause
informationobtaineddirectlyisconsidered
morereliablethanthatobtainedindirectly.
Answer(b)isincorrectbecauseaudit
evidenceisnormallypersuasiveratherthan
convincing.Answer(c)isincorrectbecause
reliabilityofauditevidencerelatestothe
appropriatenessofauditevidence.

MODULE4RESPONDINGTORISKASSESSMENT

138
6.

7.

8.

(d)Therequirementisto
determinethecorrectstatement
withrespecttothe
appropriatenessofauditevi
dence.Tobeappropriate,
evidencemustbebothreliable
andrelevant.Answer(a)is
incorrectbecausewhileexter
nallygeneratedevidenceis
generallyconsideredtoprovide
greaterassuranceofreliability,
thereareimportantexceptions,
(e.g.,theconfirmationis
erroneouslyreturnedwithno
exceptionwhenoneactually
exists).Answer(b)isincorrect
becausewhileevidenceso
gatheredistypicallyconsideredto
providegreaterassurance
concerningreliability,nosimilar
generalizationcanbemadeabout
itsrelevance.Answer(c)is
incorrectbecauseoral
representationsfromman
agement,whencorroboratedby
otherformsofevidence,are
consideredvalidevidence.
(a)Therequirementistoidentify
theleastpersuasivetypeof
evidence.Answer(a)iscorrect
becauseevidencesecuredsolely
fromwithintheentity,here
prenumberedpurchaseorder
forms,isconsideredless
persuasivethanevidence
obtainedfromindependent
sources.Answer(b)isincorrect
becauseabankstatement(even
thoughreceivedfromtheclient)
isexternallycreatedand
thereforemorepersuasivethan
auditevidencesecuredsolely
fromwithintheentity.Answer
(c)isincorrectbecauseevidence
obtaineddirectlybytheauditor
throughobservationiscon
sideredrelativelypersuasive.
Answer(d)isincorrectbecause
correspondencefromtheclients
attorneyaboutlitigationis
obtaineddirectlyfrom
independentsourcesandis
thereforemorepersuasivethan
auditevidencesecuredfrom
withintheentity.

(a)Therequirementistoidentifyanareaof
concerntoauditorswhenevaluatingthe
reasonablenessofanentitysaccounting
estimates.Answer(a)iscorrectbecause
AU342statesthatinevaluatingthe
reasonablenessofestimatesauditors
normallyconcentrateonassumptionsthat

aresubjectiveandsusceptibletobias.
Answer(b)isincorrectbecauseallthings
beingequal,anauditorwouldexpectas
sumptionsthatareconsistentwithprior
periods.Answer(c)isincorrectbecause
assumptionsthatareinsensitiveto
variationsinunderlyingdatahavelittle
predictiveability.Answer(d)isincorrect
because,often,onewouldexpect
assumptionssimilartoindustryguidelines.
A.2.TypesofEvidence
9.

(d)Therequirementistoidentify
thereplythatisnotabasic
procedureusedinanaudit.
Answer(d)iscorrectbecausethe
termtestofdirectevidenceis
notusedintheprofessional
standards.Answer(a)isincorrect
becauseriskassessment
proceduresareusedwhile
obtaininganunderstandingofthe
client.Answer(b)isincorrect
becausesubstantiveprocedures
testaccountbalances.Answer(c)
isincorrectbecausetestsof
controlstesttheoperatingeffec
tivenessofcontrols.

10. (d)Therequirementistoidentify
theprocedureanauditorwould
performfirstinevaluating
managementsaccountingestimates
forreasonableness.Answer(d)is
correctbecauseinevaluating
reasonableness,theauditorshould
firstobtainanunderstandingofhow
managementdevelopedthe
estimate.Answers(a),(b),and(c)
areallincorrectbecause
developingindependent
expectations,considering
appropriatenessofkeyfactorsor
assumptions,andtesting
calculationsoccurafterobtaining
theunderstanding.SeeAU342for
informationonauditingaccounting
estimates.

11. (d)Therequirementistoidentifyafactor
thatanauditorwouldconcentrateupon
whenevaluatingthereasonablenessofan
accountingestimate.Answer(d)iscorrect
becauseAU342statesthattheauditor
normallyconcentratesonkeyfactorsand
assumptionsthataredeviationsfrom
historicalpatterns,aswellasthosethatare
significanttotheaccountingestimate,
sensitivetovariations,andsubjectiveand
susceptibletomisstatementandbias.
Answer(a)isincorrectbecausedeviations
fromhistoricalpatterns,notconsistent
patterns,areconcentratedupon.Answer(b)
isincorrectbecausefactorsand
assumptionsthataresimilartoindustry
guidelinesareoftenreasonable.Answer(c)
isincorrectbecausesubjectivefactorsand
assumptionsthataresusceptibletobiasare
concentratedupon,notobjectiveonesthat
arenotsusceptibletobias.SeeAU342for
informationonthemannerinwhich
auditorsconsideraccountingestimates.
12. (d)Therequirementisto
identifyoneofanauditors
objectiveswhenevaluatingan
entitysaccountingestimates.
Answer(d)iscorrectbecause
whenevaluatingaccounting
estimatesanauditorsobjectives
aretoobtainsufficient
appropriateauditevidencethat
(1)allmaterialaccounting
estimateshavebeendeveloped,
(2)thoseaccountingestimates
arereasonable,and(3)those
accountingestimatesarein
conformitywithGAAP.
13. (c)Therequirementisto
determinethepropertestforthe
existenceassertionofanasset.
Answer(c)iscorrectbecause
testingfromaccountingrecords
tothesupportingevidence
discloseswhetherrecorded
transactionsoccurredand
whethertheassetexists.Answer
(a)isincorrectbecausetesting
forthecompletenessassertion
addresseswhetherthereare
unrecordeditems.Also,the

aggregatednatureofthefinancial
statementsmakestheuseof
potentiallyunrecordeditems
unlikelyasamethodof
identifyingunrecordeditems.
Answer(b)isincorrectbecause
testingpotentiallyunrecorded
itemstothefinancialstatements
addressesthecompleteness
assertion.Answer(d)isincorrect
becausetestingfromthe
supportingevidencetotheac
countingrecordsaddressesthe
completenessassertion.Seethe
outlineofSAS106for
informationonthefinancial
statementassertions.
14. (a)Therequirementisto
determinewhichbalance
remaininginasuspense
accountwouldbeofmostcon
cerntoanauditor.Answer(a)is
correctbecausesuspensedebits
thatmanagementbelieveswill
benefitfutureoperationsmustbe
auditedcarefullytodetermine
whethertheyhavevalueand
shouldbeclassifiedasanasset.
Answer(b)isincorrectbecause
whenanauditorhasalready
determinedthatasuspensedebit
hasvalueitbecomesarelatively
straightforwardissueofthe
itemsproperclassification.
Answer(c)isincorrectbecause
theconservativeapproachtaken
inauditsislikelytocausethe
auditortohavesomewhatmore
concernaboutsuspensepurported
tobeassets[i.e.,answer(a)],
thanforthoseclassifiedas
currentliabilities.Answer(d)is
incorrectbecausewhenthe
auditordeterminesthatthe
suspensecreditsrepresent
customerdeposits,establishinga
properaccountingwillordinarily
berelativelysimple.
B.1.a.

AnalyticalProcedures

15.(b)Therequirementistoidentifythe
procedurethatwouldnotbeconsideredan
analyticalprocedure.Analyti

MODULE4RESPONDINGTORISKASSESSMENT
calproceduresconsistofevaluationsof
financialinformationmadebyastudyof
plausiblerelationshipsamongboth
financialandnonfinancialdata.Answer(b)
iscorrectbecauseprojectinganerrorrate
fromastatisticalsampletoanactual
populationisnotacomparisonofa
plausiblerelationship.Answers(a),(c),
and(d)areallincorrectbecausetheyall
includeastudyofplausiblerelationships.
16. (c)Therequirementistoidentifythetype
ofanalyticalprocedureanauditorwould
mostlikelyuseindevelopingrelationships
amongbalancesheetaccountswhen
reviewingthefinancialstatementsofa
nonpublicentity.Answer(c)iscorrect
becausebalancesheetaccountsmaybe
analyzedthroughanumberofratios(e.g.,
currentratio).Answer(a)isincorrect
becausetrendanalysisisoftenmore
appropriateforincomestatementanalysis.
Answer(b)isincorrectbecauseregression
analysis,whileusedinpractice,isnotused
asfrequentlyasisratioanalysis.Answer
(d)isincorrectbecauseriskanalysisinand
ofitselfisnotatypeofanalytical
procedure.SeeAR100forinformationon
reviewsofnonissuer(nonpublic)entities.
17. (a)Therequirementistoidentify
howanauditormayachieveaudit
objectivesrelatedtoparticular
assertions.Answer(a)iscorrect
becauseanauditormayperform
analyticalprocedurestoachieve
anauditobjectiverelatedtoa
particularassertion.Answer(b)is
incorrectbecauseasystemof
qualitycontrolprovidestheCPA
firmwithreasonableassurance
ofconformingwithprofessional
standards.Answer(c)isincorrect
becausewhileworkingpapers
providesupportfortheaudit
reportandaidintheconductand
supervisionoftheaudit,theydo
notinandofthemselvesachieve
auditobjectives(seeSAS103for
informationonauditworking
papers).Answer(d)isincorrect
becauseincreasingthelevelof
detectionriskdoesnotinandof
itselfachieveauditobjectives.
18. (d)Therequirementistoidentify
theproceduremostlikelyto
detectafraudinvolving
misstatementofincome
statementsduetotherecording
ofjournalentrieswithunusual
combinationsofdebitsand
creditstoexpenseandrevenue
accounts.Answer(d)iscorrect
becauseanobjectiveof

139

analyticalproceduresis
identificationofunusual
transactionsandevents,and
amounts,ratiosandtrendsthat
mightindicatemisstatements.
Answer(a)isincorrectbecause
thelimitednumberofjournal
entriestracedtothegeneral
ledgerinasampleisunlikelyto
includetheerroneousjournal
entries.Answer(b)isincorrect
becausewhileanevaluationof
theeffectivenessofinternal
controlmighthelpdetectsuch
misstatements,itissomewhat
doubtfulduetothefactthatitis
likelythatfewjournalentriesare
involved.Answer(c)isincorrect
becausethereisnoindication
thatthefraudinvolves
differencesbetweencontrolling
accountsandsubsidiaryrecords.

19. (b)Therequirementisto
identifytheaccountthatwould
yieldthehighestlevelof
evidencethroughtheper
formanceofanalytical
procedures.Ashigherlevelsof
assurancearedesiredfrom
analyticalprocedures,morepre
dictablerelationshipsare
requiredtodeveloptheauditors
expectation.Relationships
involvingincomestatementac
countstendtobemore
predictablethanrelationshipsin
volvingonlybalancesheet
accounts,andrelationshipsin
volvingtransactionsnotsubject
tomanagementdiscretionare
generallymorepredictable.
Answer(b)iscorrectbecause
interestexpenserelatestothe
incomestatement,and

areoftenlesspredictable.

becauseinterestexpenseissubjectto
onlylimitedmanagementdiscretion,
giventheexistenceoftherelateddebt.
Answers(a)and(c)areincorrectbecause
accountsreceivableandaccounts
payablearebalancesheetaccounts.An
swer(d)isincorrectbecausetraveland
entertainmentexpenseisnormally
subjecttomanagementdiscretion.See
AU329formoreinformationontheuse
ofanalyticalprocedures.
20. (c)Therequirementistodeterminewhatis
includedwhenanalyticalproceduresare
usedintheoverallreviewstageofanaudit.
Answer(c)iscorrectbecausetheoverall
reviewstageincludesreadingthefinancial
statementsandnotesandconsideringthe
adequacyofevidencegatheredinresponse
tounusualorunexpectedbalances.Answer
(a)isincorrectbecauseanalytical
proceduresarenotparticularlyaimedat
gatheringevidenceonaccountbalances
thathavenotchanged.Answer(b)is
incorrectbecauseanalyticalproceduresdo
notdirectlytestcontrolprocedures.Answer
(d)isincorrectbecausetestsoftransac
tionstocorroboratemanagements
financialstatementassertionsare
performedwhenconsideringinternal
controlandforsubstantivetestsof
transactions.SeeAU329forinformation
onanalyticalprocedures.
21. (c)Therequirementistodetermine
themostpredictablerelationship
forpurposesofanalytical
proceduresappliedassubstantive
tests.Answer(c)iscorrectbecause
AU329indicatesthatrelationships
involvingincomestatement
accountstendtobemore
predictablethanrelationships
involvingonlybalancesheet
accounts.Answer(a)isincorrect
because,asindicated,relationships
involvingincomestatementsare
consideredmorepredictable.
Answer(b)isincorrectbecause
relationshipsinvolvingtransactions
subjecttomanagementdiscretion

Forexample,managementmightincur
maintenanceexpenseratherthanreplace
plantandequipment,ortheymaydelay
advertisingexpenditures.Answer(d)is
incorrectbecauseprioryeardatais
sometimesnotareliablepredictorofsub
sequentyearsdata.
22. (c)Therequirementistoidentifya
basicpremiseunderlyingthe
applicationofanalytical
procedures.Answer(c)iscorrect
because,asindicatedinAU329,a
basicpremiseunderlyingthe
applicationofanalyticalprocedures
isthatplausiblerelationships
amongdatamayreasonablybe
expectedtoexistandcontinuein
theabsenceofknownconditionsto
thecontrary.Answer(a)isincorrect
becausethestudyoffinancialratios
isanapproachtoidentifyingun
usualfluctuations,notanacceptable
alternativetoinvestigatingthem.
Answer(b)isincorrectbecause
analyticalproceduresmaybeeither
statisticalornonstatistical.Answer
(d)isincorrectbecauseanalytical
proceduresmaybeusedas
substantivetests,andmayresultin
modificationofthescopeoftestsof
balancesandtransactions.

23. (a)Therequirementistoidentify
thestagesofanauditforwhich
theuseofanalyticalprocedures
isrequired.AU329requiresthe
useofanalyticalproceduresat
boththeplanningandoverall
reviewstagesoftheaudit,butnot
asasubstantivetest.
24. (b)Therequirementisto
determinethereplythatwould
facilitateanauditorsanalytical
procedures.Answer(b)is
correctbecauseuseofastandard
costsystem(aformofbudgeting)
producesvariancereportsthat
willallow

140

MODULE4RESPONDINGTORISKASSESSMENT

theauditortocomparethefinancial
informationwiththestandardcostsystem
datatoidentifyunusualfluctuations.See
AU329fortheapproachused.Answer(a)
isincorrectbecausesegregatingobsolete
inventorybeforetheinventorycountis
relatedtotheauditorsphysicalinventory
observationandwillnotnecessarilyaffect
analyticalprocedures.Answer(c)is
incorrectbecausecorrectingamaterial
weaknessininternalcontrolbeforethe
beginningoftheauditgenerallywillhave
minimal,ifany,effectonthehistorical
informationusedforanalyticalprocedures.
Answer(d)isincorrectbecausedatafrom
independentsourcesoutsidetheentityis
morelikelytobereliablethanpurely
internalsources.
25. (c)Therequirementistoidentify
themostlikelyeffectonanauditof
havingperformedanalytical
proceduresintheoverallreview
stageofanauditwhichsuggestthat
severalaccountshaveunexpected
relationships.Answer(c)iscorrect
becausewhenunexpected
relationshipsexist,additionaltests
ofdetailsaregenerallyrequiredto
determinewhethermisstatements
exist.Answer(a)isincorrectbe
causeirregularities(fraud)mayor
maynotexist.An

swer(b)isincorrectbecauseinternal
controlactivitiesmayormaynotbe
operatingeffectively.Answer(d)is
incorrectbecauseordinarilythesituation
neednotbecommunicatedtotheaudit
committee.
26. (b)Therequirementistoidentify
thecomparisonanauditormost
likelywouldmakeinevaluating
anentityscostsandexpenses.
Answer(b)iscorrectbecause
payrollexpenseisanincome
statementexpenseandbecauseit
maybeexpectedtohavea
relationshipwiththatoftheprior
year.Answer(a)isincorrect
becausetheaccountsreceivable
accountisnotacostorexpense.
Answer(c)isincorrectbecause
comparingbudgetedsaleswith
actualsalesofthecurrentyearis
morelikelytobeperformedthan
comparingbudgetedsaleswith
thoseofprioryears.Answer(d)is
incorrectbecausecomparingthe
budgetedcurrentyearswarranty
expensewiththecurrentyears
contingentliabilitiesislessdirect
thanthatinanswer(b),and
becauseonewouldbemorelikely
tocomparecurrentyearbudgeted

warrantyexpensewithactual
warrantyexpense.

27. (c)Therequirementistoidentifythebest
individualtoperformanalyticalprocedures
intheoverallreviewstageofanaudit.At
thisstageofanaudittheobjectiveof
analyticalproceduresistoassistthe
auditorinassessingtheconclusions
reachedandintheevaluationoftheoverall
financialstatementpresentation.Answer
(c)iscorrectbecauseanexperienced
individualwithbusinessandindustry
knowledgeislikelytobeabletofulfillthis
function.Answer(a)isincorrectbecausea
staffaccountantwhohasperformedthe
substantiveauditingproceduresmaynotbe
abletoobjectivelyperformtheanalytical
procedureandmaynothavethenecessary
experiencetoperformthefunction.Answer
(b)isincorrectbecausethemanaging
partneroftheofficemaynotbeclose
enoughtotheaudittoperformthefunction
effectively.Answer(d)isincorrect
becausetheindividualinchargeofquality
controlandthepeerreviewprogramshould
beasindependentaspossibleoftheaudits
heorsheisconsidering.SeeAU329for
guidanceonanalyticalprocedures.
B.1.b.TestsofDetailsofTransactions
andBalances
28.(b)Therequirementistoidentifythe
bestexampleofasubstantivetest.Answer
(b)iscorrectbecauseconfir

mationofbalancesofaccountsreceivable
willprovideatestoftheendingaccount
balanceandisthereforeadetailedtestofa
balance,atypeofsubstantivetest.Answers
(a)and(c)areincorrectbecauseexamining
approvalofcashdisbursementsand
comparisonofsignaturesoncheckstoalist
ofauthorizedchecksignersaretestsof
controls.Answer(d)isincorrectbecause
flowchartingaclientscashreceiptssystemis
amethodusedtodocumenttheauditors
understandingofinternalcontrol.

29. (c)Therequirementistoidentifythe
objectiveoftestsofdetailsoftransactions
performedassubstantivetests.Answer(c)
iscorrectbecauseSAS110statesthatthe
objectiveoftestsofdetailsoftransactions
performedassubstantivetestsistodetect
materialmisstatementsinthefinancial
statements.Answer(a)isincorrectbecause
whileperformingtestsofdetailsof
transactionsassubstantivetestscomplies
withgenerallyacceptedauditingstandards,
thisisnottheirobjective.Answers(b)and
(d)areincorrectbecauseneitherattaining
assuranceaboutthereliabilityoftheac
countingsystemnortheevaluationofthe
operatingeffectivenessofmanagements
policiesandproceduresaretheobjectiveof
testsofdetailsoftransactionsperformedas
substantivetests.
30. (c) The requirement is to find
the statement which describes
substantiveaudittests. Answer
(c) is correct because
substantivetestsaredefinedas
testsoftransactions,directtests
of financial balances, or
analyticalprocedures.
Answer(a)isincorrectbecausesubstantive
testsmaynotbeeliminatedduetothe
limitationsofinternalcontrol.Answer(b)
isincorrectsincesubstantivetests
primarilydirectlytestendingfinancial
statementbalances,notsubsequent
events.Answer(d)isincorrectbecause
substantive
testsdecreasewithincreasedrelianceon
internalcontrol.
31.(c)Therequirementistodeterminethe
accountforwhichtheauditorismostlikelyto
performextensivetestsforpossible
understatement.Ananalysisofpastaudits,in
whichexistingfinancialstatementerrorswere
notdiscoveredpriortotheissuanceofthe
financialstatements,revealsthatthegreat
majorityoftheerrorsresultedinoverstated
profits.Therefore,therisktoaCPAisthatthe
clientisoverstatingprofits.Answer(c)is
correctbecauseitistheonlyitemwhose
understatementresultsinoverstatedprofits.
Answers(a),(b),and(d)areincorrectbecause
understatementoftheseitemswouldresultin
understatedprofits.

B.2.PreparingSubstantiveTestAudit
Programs
32. (d)Therequirementisto
determinethemostlikely
approachforauditingthe
statementofcashflows.Answer
(d)iscorrectbecausethe
statementofcashflowsincludes
accountsconsideredduringthe
auditofthebalancesheetand
incomestatementsand,
accordingly,themostfrequent
approachistoreconcileamounts.
Answers(a),(b),and(c)areall
incorrectbecausetheysuggest
approachesnottypicallyfollowed
whenauditingthestatementof
cashflows.
33. (c)Therequirementistodetermine
thedirectionofaudittestingto
determinewhethertransactions
havebeenrecorded.Answer(c)is
correctbecausetodetermine
whethertransactionshavebeen
recordedtheauditorwilltestfrom
theoriginalsourcedocumentsto
therecordedentries.Answers(a),
(b),and(d)areincorrectbecause
whentestingfromthegeneral
ledger,theadjustedtrialbalance,or
from

MODULE4RESPONDINGTORISKASSESSMENT
generaljournalentriestheauditoris
dealingwiththeentriesthathavebeen
recorded,notwhetheralltransactionshave
beenrecorded.
B.3.Documentation
34. (b)Therequirementistoidentify
thecorrectstatementconcerning
thedeletionofaudit
documentation.Answer(b)is
correctbecauseaftertheauditfile
hasbeencompleted(ordinarily60
daysorlessaftertheissuanceof
theauditreport),noportionsof
auditdocumentationshouldbe
deleted.Answer(a)isincorrect
becauseaftercompletionofthe
auditfilenodocumentation
shouldbedeletedordiscarded.
Answer(c)isincorrectbecause
professionalskepticismisnotthe
basisfordeterminingdeletions.
Answer(d)isincorrectbecause
priortothefilecompletiondate
mostsupersededdocumentation
maybedeleted(anexceptionis
thatinformationthatreflectsa
disparatepointofviewshouldbe
retained).
35. (a)Therequirementisto
determinehowlongaudit
documentationmustberetained.
Answer(a)iscorrectbecause
SAS103requiresthattheybe
maintainedaminimumoffive
years.Answers(b),(c)and(d)
allpresentother,incorrecttime
periods.
36. (a)Therequirementistoidentify
themostlikelypairofaccountsto
beanalyzedonthesameworking
paper.Answer(a)iscorrect
becauseanauditorwilloften
considerinterestincomewith
notesreceivablebecausethe
interestisearnedonthosenotes
andthereforecloselyrelated.An
swer(b)isincorrectbecause
interestreceivablerelatestoan
assetaccount(notesreceivable)
whileaccruedinterestpayable
relatestoaliabilityaccount
(notespayable)andaccordingly
onewouldexpectseparate
workingpapers.Answer(c)is
incorrectbecausenotespayable
andreceivableareentirely
separateaccounts.Answer(d)is
incorrectbecauseinterest
incomerelatestointerestbearing
securitieswhileinterestexpense
relatestodebtaccounts.

141

37. (a)Therequirementistoidentify
aprimarypurposeofanauditors
workingpapers.SAS103states
thatworkingpapersservemainly
toprovidetheprincipalsupport
fortheauditorsreportandtoaid
theauditorintheconductand
supervisionoftheaudit.

38. (c)Therequirementistoidentifytheleast
likelyitemtobeincludedinthepermanent
fileofanauditorsworkingpapers.Answer
(c)iscorrectbecausepermanentfiles
includeinformationaffectinganumberof
yearsaudits,andtheworkingtrialbalance
relatesmostdirectlytothecurrentand,toa
limitedextent,thesubsequentyearsaudit.
Answers(a),(b),and(d)areallincorrect
becausebondindentureagreements,lease
agreements,andaflowchartofinternal
controlaffectmoreyearsauditsthandoes
aspecificyearsworkingtrialbalance.
39. (c)Therequirementisto
determineadifferencebetween
anauditorsworkingtrialbalance
andfinancialstatementswithout
footnotes.Answer(c)iscorrect
becauseaworkingtrialbalance
includescolumnsfor
reclassificationandadjustments.
Answers(a),(b),and(d)areall
incorrectbecausewhilethey
suggestinformationthatmightbe
includedonaworkingtrial
balance,theywillnotbeincluded
intheformofadditional
columns.
40. (d)SAS103statesthatthedegree
ofdocumentationforaparticular
audit area should be affected by
(1)therisk

of material misstatement, (2) extent of


judgment, (3) nature of the auditing
procedures, (4) significance of the
evidence obtained,(5) nature and extent
of the exceptions identified, and (6) the
needtodocumentaconclusionthatisnot
obvious from the documentation of the
work.

incorrectbecauseaninterbank
transferschedulesummarizes
transfersbetweenbanksamong
accounts.Answer(b)isincorrect
becausethetermcarryforward
scheduleisnotfrequentlyused.
Answer(c)isincorrectbecause
supportingschedulespresentthe
detailssupportingtheinformation
onaleadschedule.Forexample,
adetailedbankreconciliationfor
acashaccountmightserveasa
supportingscheduleforan
accountonthecashleadschedule.

41. (b)Therequirementistoidentify
therequireddocumentationinan
audit. Answer (b) is correct
because
SAS108requiresawrittenauditprogram
settingforthindetailtheprocedure
44. (c)Therequirementistoidentifythe
necessarytoaccomplishtheengagements
documentationthatisrequiredforanaudit
objectives.Answer(a)isincorrectbecause
inaccordancewithgenerallyaccepted
whileflowchartsandnarrativesare
auditingstandards.Answer(c)iscorrect
acceptablemethodsofdocumentingan
becauseSAS103requiresthattheworking
auditorsunderstandingofinternalcontrol,
papersshowthattheaccountingrecords
theyarenotrequired.Answer(c)is
agreeorreconcilewiththefinancial
incorrectbecauseaplanningmemorandum
statements.Answer(a)isincorrectbecause
isnotrequired.Answer(d)isincorrectbe
neitheraflowchartnoraninternalcontrol
causecompletionofaninternalcontrol
questionnaireisrequired.Answer(b)is
questionnaireisnotrequired.
incorrectbecausetheProfessional
Standardsdonotrequiretheuseofan
42. (a)Therequirementistoidentify
engagementletter.Answer(d)isincorrect
afactorthatwouldmostlikely
becausewhencontrolriskisassessedatthe
affecttheauditorsjudgment
maximumlevel,theauditors
aboutthequantity,type,and
understandingofinternalcontrolneedsto
contentoftheworkingpapers.
bedocumented,butthebasisforthe
Answer(a)iscorrectbecausethe
conclusionthatitisatthemaximumlevel
ProfessionalStandardsstate
neednotbedocumented.
thattheassessedlevelofcontrolriskwill
affectthequantity,typeandcontentof
45. (b)Therequirementistoidentify
workingpapers.SAS103providesalisting
thepointatwhichnodeletionsof
ofthisandotherfactors.Forexample,the
auditdocumentationareallowed.
quantity,typeandcontentofworking
Answer
paperswillbeaffectedbywhethertestsof
(b)iscorrectbecausetheprofessional
controlshavebeenperformed.
standardsindicatethatauditdocumentation
43. (d)Therequirementistoidentify
thetypeofauditworkingpaper
thatreflectsthemajorcomponents
ofanamountreportedinthe
financialstatements.Answer(d)
iscorrectbecauseleadschedules
aggregatethemajorcomponents
tobereportedinthefinancial
statements.Answer(a)is

maynotbedeletedafterthedocumentation
completiondate.Answer(a)isincorrect
becausedocumentationmaybedeleted
betweentheclientsyearenddateandthe
documentationcompletiondate.Answer(c)is
incorrectbecausethelastdateofsignificant
fieldworkispriortothedocumentation
completiondate.Answer(d)isincorrect
becausethereportreleasedateisupto60
days

MODULE4RESPONDINGTORISKASSESSMENT

142

priortothedocumentationcompletion
date;45daysforissuer(public)
companyaudits.
46. (b)Therequirementistodeterminethetype
ofauditorthatshouldbeabletounderstand
auditdocumentationofthenature,timing,
extent,andresultsofauditprocedures
performed.Answer(b)iscorrectbecause
PCAOBStandard3requiresthataudit
documentationbeunderstandabletoan
experiencedauditorhavingnoprior
connectionwiththeengagement.Answer
(a)isincorrectbecausetherequirementis
notlimitedtoauditteammembers.Answer
(c)isincorrectbecausetherequirementis
morelimitedthantoanycertifiedpublic
accountant.Answer(d)isincorrectboth
becausethereisnocertificationofapeer
reviewspecialistandbecausethisisnota
requirement.
47. (c)Therequirementistoidentify
theperiodforwhichaudit
documentationshouldberetained
forissuer(public)company
audits.Answer(c)iscorrect
becausePCAOBStandard3
requiresthatauditdocumentation
beretainedforthelongerof
sevenyearsortheperiodrequired
bylaw.Answer(a)isincorrect
bothbecauseofthesevenyear
requirement,andbecauseitisthe
longerofsevenyearsorthe
periodrequiredbylaw.Answer
(b)isincorrectbecausewhile
sevenyearsisthegeneral
requirement,alongerperiodmay
berequiredbylaw.Answer(d)is
incorrectbecauseaudit
documentationneednotbe
retainedindefinitely.
C.1.EvidenceCash
48. (b)Therequirementistoidentify
theinformationthatanauditor
usuallyconfirmsononeform.
Answer(b)iscorrectbecausethe
standardformtoconfirmaccount
balanceinformationwith
financialinstitutionrequests
informationonboththecashin
bankandcollateralforloans.An
swers(a),(c),and(d)areall
incorrectbecausetheysuggest
pairsofinformationthatarenot
usuallyconfirmedononeform.
49. (d)Therequirementistodeterminea
reasonthattheusefulnessofthestandard
bankconfirmationrequestmaybelimited.
Answer(d)iscorrectbecausethebank
employeewhocompletestheformoften
willnothaveaccesstoallthefinancial

relationshipsthatthebankhaswiththe
client.Answer(a)isincorrectbecausebank
employeeswhocompletetheformrealize
thattheymayverifyconfidentialin
formationwiththeauditor.Answer(b)is
incorrectbecausewhileitiscorrectthatthe
employeewhocompletestheconfirmation
formwillnotgenerallyinspecttheaccuracy
ofthebankreconciliation,thisdoesnot
limittheconfirmationsusefulness.Answer
(c)isincorrectbecausetheemployeewho
completestheformdoesnotneedtohave
accesstotheclientscutoffbankstatement
tocompletetheconfirmation.
50. (b)Therequirementisto
determinethetypeofevidence
thatislikelytoresultinan
auditorlimitingsubstantive
audittestsofsalestransactions
whencontrolriskisassessedas
lowfortheoccurrenceassertion
forsales.Answer(b)iscorrect
becauseanauditormayanalyze
thecompletenessofsalesusing
cashreceiptsandaccounts
receivable(forexample,an
auditormayaddyearendre
ceivablestocashreceiptsandsubtract
beginningreceivablestoobtainanestimate
ofsales).Answer(a)isincorrectbecause
theopeningandclosinginventorybalances
willonlyprovideindirectevidenceonsales
throughcalculationofthecostofgoods
sold.Answer(c)isincorrectbecausewhile
shippingasofyearendwillhelpassurean
accuratecutoffof

sales,thereceivingactivityhasnonecessary
relationshiptothesalesfigure.Answer(d)is
incorrectbecausewhilethecutoffofsales
willprovideevidenceonthecompletenessof
sales,thepurchasesportionofthereplyisnot
appropriate.

representdepositsintransitat
December31,2001.Depositsin
transitarethosethathavebeen
senttothebankpriortoyearend,
buthavenotbeenreceivedbythe
bankasofyearend.Answer(b)
iscorrectbecausebothcheck
#101andcheck#303havebeen
disbursedperbooksasofyear
end,buthavenotyetbeen
receivedbythebankasofDe
cember31.Checks#202and
#404havebeenreceivedbythe
bankasofyearendand
accordinglyarenotintransit.
Answer(a)isincorrectbecause
check#202hasbeenreceived
beforeyearend.Answer(c)is
incorrectbecausebothchecks
#202and#404havebeen
receivedbeforeyearend.Answer
(d)isincorrectbecausecheck
#404hasbeenreceivedbefore
yearend.

51. (b)Therequirementistodeterminethetwo
checksthatmightindicatekiting,aformof
fraudthatoverstatescashbysimultaneously
includingitintwoormorebankaccounts.
Answer(b)iscorrectbecausechecks#202
and#404includecashintwoaccountsat
yearend.Thecashrepresentedbycheck
#202isincludedinbothStateBankand
CountyBankcashasofDecember31.This
isbecauseitsreceiptisrecordedpriorto
yearend,butitsdisbursementisrecorded
afteryearend.(Forthecashreceipts
journaltoremaininbalancepriortoyear
end,someaccountmusthavebeencredited
onDecember30tooffsetthedebittocash.)
Check#404alsorepresentsasituationin
whichthecashisincludedintwoaccounts
53. (c)Therequirementistoidentifywhy
asofyearend;thecheckmayrepresenta
auditorstracebanktransfersforthelast
situationinwhichashortageintheaccount
partoftheauditperiodandthefirstpartof
isconcealedthroughdepositofthecheck
thesubsequentperiod.Answer(c)is
thatisnotrecordedonthebooksatyear
correctbecauseauditorsuseabanktransfer
end.Check#101doesnotresultina
scheduletoanalyzetransferssoastodetect
misstatementofcashsincethebooks
kitingthatoverstatescashbalances.
recordedboththedebitandcreditportions
Answers(a)and(b)areincorrectbecause
oftheentrybeforeyearend,whileboth
theprocessofanalyzingtransfersisnotan
banksrecordedthemafteryearend.Check
efficientwaytodeterminewhetherthecash
#303representsasituationinwhichfunds
receiptsjournalwasheldopenorwhenthe
aredisbursedontheFederalaccountasof
yearsfinalchecksweremailed.Auditors
yearend,butnotreceivedintothe
useabankcutoffstatementratherthana
Americanaccount(perbankorperbooks)
banktransferscheduletohelpdetectthese
untilafteryearend;check#303
situations.Answer(d)isincorrectbecause
accordinglyunderstatescashandthenature
theprocessofanalyzingtransfersis
ofthedebitfortheentryonDecember31is
unlikelytoidentifyanyunusualpayments
unknown.Answer(a)isincorrectbecause
orreceiptsfromrelatedparties.
neithercheck#101nor#303overstates
cash.Answer(c)isincorrectbecausecheck
54. (d)Therequirementistodetermine
#101doesnotoverstatecash.Answer(d)is
thesourceofevidencewhichdoes
incorrectbecausecheck#303understates
notcontaininformationonthe
cash.
52. (b)Therequirementisto
determinethecheckswhich

balanceperbankinabank
reconciliation.Answer(d)iscorrect

MODULE4RESPONDINGTORISKASSESSMENT
becausethegeneralledgercontainsonly
theclientscashbalance,notthebalance
perbank.Answer(a)isincorrectbecause
thebeginningbalanceonacutoffstatement
representstheyearendbankbalance.
Answer(b)isincorrectbecausetheprimary
purposeofayearendbankstatementisto
presentinformationonthebalanceper
bank.Answer(c)isincorrectbecausethe
firstquestiononastandardbank
confirmationformrequestsinformationon
theyearendbalanceperbank.

143

notrequest,norexpect,the
financialinstitutiontoconducta
comprehensive,detailed,search
ofitsrecordsforotheraccounts.
Answer(a)isincorrectbecausea
standardconfirmationrequest
willnotdetectkiting,a
manipulationcausinganamount
ofcashtobeincluded
simultaneouslyinthebalanceof
twoormorebankaccounts.
Answer(c)isincorrectbecause
bankstatementsavailablefrom
theclientallowtheCPAto
prepareaproofofcash.Answer
(d)isincorrectbecausethe
standardformdoesnotrequest
informationaboutcontingent
liabilitiesandsecured
transactions.

55. (b)Therequirementistoidentifythecash
transferwhichwillresultinamisstatement
ofyearendcash.Answer(b)iscorrect
becausethereceiptisrecordedonthebooks
priortoyearend,whilethedisbursementis
recordedsubsequenttoyearend.Therefore,
thecashonthebooksisoverstated.
58. (c)Therequirementistodeterminethe
Answers(a),(c),and(d)areincorrect
assertion(orassertions)beingtestedbya
becausetheydonotrevealacutofferror.
testofacontrolinwhichanauditor
Answer(a)isincorrectbecauseboththe
observesthemailingofmonthlystatements
disbursementandreceiptarerecordedon
toaclientscustomersandreviews
thebookspriortoyearend;notethatone
evidenceoffollowuponerrorsreportedby
wouldexpecttoseeanoutstandingcheck
thecustomers.Answer(c)iscorrect
onthedisbursingbankreconciliationasof
becauseobservingthemailingofmonthly
yearend.Answer(c)isincorrectbecause
statementsandfollowupoferrorswill
boththedisbursementandreceiptare
provideevidencetotheauditorasto
recordedonthebookspriortoyearend;
whether
onewouldexpectthedisbursingbank
thereceivablesexistatagivendate;thetests
reconciliationtoshowanoutstanding
donotdirectlyaddressthepresentationand
checkandthereceivingbanktoshowa
disclosureassertionsincelittleevidenceis
depositintransitasofyearend.Answer(d)
obtainedaboutwhetherfinancialstatement
isincorrectbecausetheentiretransaction
componentsareproperlyclassified,
isrecordedafteryearend.
56. (c)Therequirementisto
determineanapproachfor
detectingtheconcealingofacash
shortagebytransportingfunds
fromonelocationtoanotheror
byconvertingnegotiableassets
tocash.Answer(c)iscorrect
becausethetimingofthe
performanceofauditing
proceduresinvolvestheproper
synchronizingoftheirapplication
andthuscomprehendsthe
possibleneedforsimultaneous
examinationof,forexample,cash
onhandandinbanks,securities
owned,bankloans,andother
relateditems.
57. (b)Therequirementistoidentify
theprimarypurposeofsendinga
standardconfirmationrequestto
financialinstitutionswithwhich
theclienthasdonebusiness
duringtheyear.Answer(b)is
correctbecauseCPAsgenerally
providetheaccountinformation
ontheformandaskforbalance
corroboration.Theform
explicitlystatesthattheCPAsdo

described,anddisclosed.

SeeSAS106foradiscussionofthe
variousfinancialstatementassertions.
Answer(a)isincorrectbecausethe
presentationanddisclosureassertionis
notaddressed.Answer(b)isincorrect
becausethepresentationanddisclosure
assertionisnotaddressedandbecausethe
existenceoroccurrenceassertionis
addressed.Answer(d)isincorrectbecause
theexistenceoroccurrenceassertionis
addressed.
59. (b)Therequirementistodeterminethe
mostlikelyauditstepsummarizedbythe
tickmarkplacedunderdatedisbursedper
bank.Answer(b)iscorrectbecausethe
checkswerewritteninDecemberbut
clearedinJanuaryandshouldthereforebe
listedasoutstandingontheyearend
outstandingchecklistoftheapplicable
bankreconciliation.Answer(a)isincorrect
becausethetickmarksarebesidethedate
perbank,andnotperbooks.Answer(c)is
incorrectbecausetheDecembercash
disbursementsjournal,andnottheJanuary
cashdisbursementsjournal,willinclude
thesedisbursements.Answer(d)is
incorrectbecausetheyearendbank
confirmationsdonotincludeinformation
onoutstandingchecks.
60. (a)Therequirementisto
determinethemostlikelyaudit
stepsummarizedbythetickmark
placedunderdatedepositedper
bank.Answer(a)iscorrect
becausedepositsrecordedonthe
booksasof12/31shouldbe
includedasdepositsintransiton
theapplicablebank
reconciliation.Answer(b)is
incorrectbecausethetickmarkis
placedbesidethebank
column,andnotthebooks
column.Answer(c)isincorrect
becausetheDecembercash
receiptsjournal,andnotthe
Januarycashreceiptsjournal
shouldincludethedeposit.
Answer(d)isincorrectbecause

theyearendbankconfirmations
willnotincludedepositsin
transit.
C.2.EvidenceReceivables
61. (a)Therequirementistoidentifythe
correctstatementconcerningtheuseof
negativeconfirmationrequests.Answer(a)
iscorrectbecauseAU330statesthat
unreturnednegativeconfirmationrequests
rarelyprovidesignificantevidence
concerningfinancialstatementsassertions
otherthancertainaspectsoftheexistence
assertion.Answer(b)isincorrectbecause
positive,notnegative,confirmation
requestsarenormallyusedwhenalow
levelofdetectionriskistobeachieved.
Answer(c)isincorrectbecausealternative
proceduresarenotgenerallyperformedon
unreturnednegativeconfirmationrequests
sinceitisassumedthattherespondentdid
notreplybecauseofagreementwiththe
balanceontheconfirmationrequest.
Answer(d)isincorrectbecause
respondentsmaynotreplywhen
misstatementsareintheirfavor.
62. (c)Therequirementistoidentify
themostlikelyactiontakenbyan
auditorwhennoreplyisreceived
topositiveconfirmationrequests.
Answer(c)iscorrectbecause
askingtheclienttocontact
customerstoaskthatconfirmation
requestsbereturnedmayincrease
responserates.Answer(a)is
incorrectbecausethelackofa
replytoaconfirmationrequest
doesnotnecessarilyindicatethat
theaccountneedstobewritten
off.Answer(b)isincorrectbe
causeaccountsreceivable
confirmationsdealmoredirectly
withexistencethanwithvaluation
orcompletenessandbecause
alternativeproceduresmayprovide
theauditorwiththedesired
assurancewithrespecttothe
nonrespondents.

144

MODULE4RESPONDINGTORISKASSESSMENT

Answer (d) is incorrect because the


assessed level of inherent risk will not
normallybemodifiedduetoconfirmation
results.
63. (b)Therequirementisto
determinethebestsamplingunit
forconfirmationofaccounts
receivablewhenmany
differencesbetweentherecorded
accountbalancesandthe
confirmationreplieshave
occurredinthepast.Answer(b)
iscorrectbecausethe
misstatementsmayhaveoc
curredbecauserespondentsare
notreadilyabletoconfirm
accountbalances.AU330
suggeststhatinsuchcircum
stancescertainrespondents
accountingsystemsmayfacili
tatetheconfirmationofsingle
transactions(individualin
voices)ratherthanofentire
accountbalances.
64. (c)Therequirementistoidentify
theassertionmostdirectly
addressedbyaccountsreceivable
confirmations.SAS106presents
informationonfinancialstatement
assertions.Answer(c)iscorrect
becauseaconfirmationaddresses
whethertheentityreplyingtothe
confirmationbelievesthatadebt
exists.Answer(a)isincorrect
becausewhileconfirmations
providelimitedinformationon
valuation,theydonotdirectly
addresswhethertheentityreplying
willpaythedebt(orwhetherthe
accounthasbeenfactored).Answer
(b)isincorrectbecauselimited
classificationinformationis
receivedviaconfirmations.Answer
(d)isincorrectbecause
confirmationsaregenerallysentto
recordedreceivables,andareof
limitedassistanceinthedetermina
tionofwhetherallaccountsare
recorded(completeness).

65. (a)Therequirementistodeterminewhen
alternativeproceduresshouldbe
performedinordertosubstantiatethe
existenceofaccountsreceivable.Answer
(a)iscorrectbecausetheauditorshould
employalternativeproceduresfor
nonresponsestopositiveconfirmationsto
satisfyhimself/herselfastotheexistenceof
accountsreceivable.Thoseproceduresmay
includeexaminationofevidenceof
subsequentcashreceipts,cashremittance
advices,salesandshippingdocuments,and
otherrecords.Answer(b)isincorrect
becausewithnegativeconfirmationsthe

debtorisaskedtorespondonlyifs/he
disagreeswiththeinformationonthe
confirmation;thus,noreplyisassumedto
indicateagreement.Answers(c)and(d)
areincorrectbecausewhileadditional
proceduresmayberequiredwhen
collectibilityisquestionable,alternative
proceduresarethoseusedinlieuof
confirmation.

66. (d)Therequirementistoidentify
themostlikelyalternate
procedurewhenreplieshavenot
beenreceivedtoeitherfirstor
secondaccountsreceivable
confirmationrequests.Answer
(d)iscorrectbecausethe
inspectionofshippingrecords
willprovideevidencethatthe
merchandisewasactuallyshipped
tothedebtor.Answer(a)is
incorrectbecause,areviewofthe
cashreceiptsjournalpriorto
yearendisunlikelytoprovide
evidenceonaccountrecordedas
unpaidasofyearend.Also,the
procedurewouldonlydetectone
specifictypeofmisstatement,
thatinwhichpaymentswere
recordedinthecashreceipts
journal,butnotcreditedtothe
customersaccounts.Answer(b)
isincorrectbecausethelackofa
replytotheconfirmationprovides
noparticularevidencethatthe
scopeofproceduresrelatedto
internalcontrolshouldbe
modified.Answer(c)isincorrect
becausethelackofareplyneed
notnecessarilyleadtoa
presumptionthattheaccountis
misstated.SeeAU330for
procedurestypicallyperformed
foryearendaccountsreceivable
confirmationrequestsforwhich
noreplyisreceived.

67. (d)Therequirementistoidentifythe
circumstancesinwhichuseofthenegative
formofaccountsreceivableconfirmation
mostlikelywouldbejustified.Negative
confirmationsareusedwhen(1)the
combinedassessedlevelofinherentand
controlriskislow,(2)alargenumberof
smallbalancesisinvolved,and(3)the
auditorhasnoreasontobelievethatthe
recipientsoftherequestsareunlikelyto
givethemconsideration.Positive
confirmationsareusedwhenthose
conditionsarenotmetaswellasinother
circumstancesinwhichitseemsdesirable
torequestapositiveresponse,suchas
whenaccountsareindispute.Answer(d)is
bestbecausesmallbalancesareinvolved
andfewaccountsareindispute.Answer(a)
isincorrectbecauseitreferstoasubstantial
numberofaccountsindisputeandsalesare
toafewmajorcustomers.Answer(b)is
incorrectbecauseitreferstoasubstantial
numberofaccountsindispute.Answer(c)
isincorrectbecauseitreferstosalestoa
fewmajorcustomers.
68. (a)Therequirementistoidentify
amethodtoreducetherisk
associatedwithacceptingemail
responsestoaccountsreceivable
confirmationrequests.Answer
(a)iscorrectbecausearesponse
bymailwillconfirmtheemail
response.Answer(b)isincorrect
becausewhilesuchsubsequent
cashreceiptswillordinarilybe
examined,thisrepresentsan
alternative,complementary
approachtoconfirmation.
Answer(c)isincorrectbecause
theauditorneednotconsidere
mailresponsestobe
confirmationswithexception.
Answer(d)isincorrectbecausea
secondrequestismorelikelyto
eliciteithernoresponseor
anotheremailresponse.
69. (b)Therequirementisto
determinethemostlikely
proceduretoreducetherisks
associatedwithacceptingfax
responsestorequestsfor
confirmationsofaccountsreceiv
able.Answer(b)iscorrect

becauseverificationofthe
sourcesandcontentsthrough
telephonecallswilladdress
whethertheinformationonthe
fax(whichmayhavebeensent
fromalmostanywhere)iscorrect.
Answer(a)isincorrectbecause
anexaminationoftheshipping
documentsislesscompletethan
isverificationoftheentire
balance.Answer(c)isincorrect
becausesuchfaxesneednotbe
treatedasnonresponses.Answer
(d)isincorrectbecauseinspection
ofthefaxesisunlikelytoreveal
forgeriesoralterations,even
whensuchcircumstanceshave
occurred.
70. (d)Therequirementisto
identifythecircumstancein
whichthenegativeformof
confirmationrequestmostlikely
wouldbeused.Answer(d)is
correctbecauseAU
330 statesthatnegativeconfirmations
maybeusedwhen(1)the
combinedassessedlevelof
inherentandcontrolriskislow
[answer(d)],(2)alargenumber
ofsmallbalancesisinvolved,and
(3)theauditorhasnoreasonto
believethattherecipientsofthe
requestsareunlikelytogivethem
consideration.Answer(a)is
incorrectbecausewhentheac
countsreceivableareimmaterial,
adecisionmaybemadetosend
noconfirmations.Answer(b)is
incorrectbecauseaninadequate
rateisnotanacceptablereasonto
sendnegativeconfirmations.
Answer(c)isincorrectbecause
negativeconfirmationsareonly
ofvaluewhentheauditorhasno
reasontobelievethatthe
recipientsoftherequestsare
unlikelytogivethem
consideration.
71. (a) The requirement is to
identify the circumstance in
whichanauditorwouldusethe
blank form of confirmations
(onewhichincludesnoamount
andaskstherespon

MODULE4RESPONDINGTORISKASSESSMENT
denttosupplytheamountdue)ratherthan
positiveconfirmations.Answer(a)is
correctbecauseifarecipientsimplysignsa
blankconfirmationandreturnsitthe
confirmationwillhavenoamountonitand
theauditorwillknowthatadditional
proceduresarenecessary.Answers(b)and
(c)areincorrectbecausethereisno
necessaryrelationshipbetweentheuseof
blankconfirmationsandsubsequentcash
receiptverificationdifficultyandanalytical
proceduresresults.Answer(d)isincorrect
becausewhenthecombinedassessedlevel
ofinherentriskandcontrolriskislowitis
unlikelytoleadtotheblankformof
confirmation.Infact,whenthatriskislow,
andwhenadequateothersubstantivetests
ofdetails,noconfirmationmaybe
necessary.SeeAU330forinformationon
theconfirmationprocess.
72. (d)Therequirementistoidentifythemost
likelyinformationthatwouldbeincludedina
clientsconfirmationletterthatisbeingused
toconfirmaccountsreceivablebalances
ratherthanindividualinvoices.Answer(d)is
correctsinceincludingdetailsoftheaccount
islikelytomakeiteasierforthecustomerto
respondinameaningfulmanner.Answer(a)
isincorrectbecausenosuchauditorprepared
letterwillbeincludedandbecauseonlyinthe
caseofthenegativeformofconfirmationdoes
anonresponseleadtoaninferencethatthe
accountbalanceiscorrect.Answer(b)is
incorrectbecauseconfirmationrequestsdonot
ordinarilyincludealettersuggestingthata
secondrequestwillbesent.Answer(c)is
incorrectbecausetheauditordoesnotenclose
aletterrequestingthattheinformationbe
supplied.SeeAU

330 for information on the confirmation


process.
73. (c)Therequirementistoidentifya
statementthatanauditorwouldbemost
likelytoaddtothenegativeformof
confirmationofaccountsreceivableto
encourageatimelyconsiderationbythe
recipient.Answer(c)iscorrectbecause
providingsuchinformationmightincrease
timelyconsiderationinthattherecipient
mayrealizetheimportanceofareplywhen
theinformationisincorrect.Answers(a)
and(b)areincorrectbecausewhilea
confirmationrequestmayincludethese
statements,thestatementsareunlikelyto
encouragetimelyconsiderationofthe
request.Answer(d)isincorrectbecause
manyaccountsthatarenotoverdueare
sampled,andbecauseevenforthose
overduesuchastatementisnotordinarily
includedwiththeconfirmationrequest.
74. (a)Therequirementistoidentify
thestrategymostlikelyto
improvetheresponseratefor

145

confirmationofaccounts
receivable.Answer(a)iscorrect
becauseincludingalistofitems
orinvoicesthatconstitutethe
accountbalancemakesiteasier
forthepotentialrespondentto
reply.Answer(b)isincorrect
becausecustomerswithrelatively
largebalancesmayormaynotbe
morelikelytoreply.Answers(c)
and(d)areincorrectbecause
thereisnoresearchavailable
indicatingthatrequestingafaxor
emailreply,orthreateninga
secondrequestislikelyto
improveresponserate.

C.3.EvidenceInventory
75.(a)Therequirementistodeterminethe
financialstatementmostdirectlyrelatedto
theprocedureofmakinginquiries
concerningpossibleobsoleteorslow
movinginventory.Answer(a)iscorrect
becauseinquiriesconcerningpossible
obsoleteorslowmovinginventorydeal
withwhethertheinventoryisbeingcarried
atthepropervalue

andthisismostdirectlyrelatedtothe
valuationassertion.Theotherassertions
arelessdirectlyrelated.Answer(b)is
incorrectbecausetherightsassertiondeals
withwhetherassetsaretherightsofthe
entityandliabilitiesaretheobligationsof
theentityatagivendate.Answer(c)is
incorrectbecausetheexistenceassertion
dealswithwhetherassetsexistatagiven
date.Answer(d)isincorrectbecausethe
presentationassertiondealswithwhether
particularcomponentsofthefinancial
statementsareproperlyclassified.SeeSAS
106forinformationonthefinancial
statementassertions.
76. (d)Therequirementistoidentify
thetypeofomittedjournalentry
thatwouldresultininventorytest
countsthatarehigherthanthe
recordedquantitiesintheclients
perpetualrecords.Answer(d)is
correctbecauseafailuretorecord
salesreturnsresultsinasituation
inwhichtheitemisreturnedbya
customerandincludedinthe
inventorycount,butnotrecorded
intheperpetualrecords;
accordinglythetestcountsare
higherthantherecorded
quantities.Answer(a)is
incorrectbecausepurchase
discountsdonotaffectquantities
ininventory.Answers(b)and(c)
areincorrectbecauseafailureto
recordpurchasereturnsorsales
resultinasituationinwhichless
inventorywillbecounted(since
theitemsarenolongerphysically
ininventory)thanisrecordedon
theperpetualrecords.
77. (c)Therequirementistoidentifya
procedurethatwillprovideassurancethat
allinventoryitemsinaclientsinventory
listingschedulearevalid.Answer(c)is
correctbecausetracingfromtheinventory
listingscheduletoinventorytagsandto

theauditorsrecordedcountsheetswill
provideassurancethatthelisteditems
actuallyexist.Answer(a)isincorrect
becausetracingfrominventorytagsto
itemsintheinventorylistingscheduletests
thecompletenessoftheinventorylisting
sheet,notwhetheralloftheitemsitlists
arevalid.Answer(b)isincorrectbecauseit
doesnotdirectlytesttheclientsinventory
listingschedule.Answer(d)isincorrect
becausetracingitemslistedinreceiving
reportsandvendorsinvoicestothe
inventorylistingschedulewillprovide
assuranceonthecompletenessofthe
inventorylistingsheet;itwillalsobea
difficultproceduretoaccomplishduetothe
factthatanumberoftheseitemswillnotbe
ininventoryduetosales.SeeSAS106for
informationonthetestingofthevarious
financialstatementassertions.
78. (b)Therequirementistoidentify
thefactorthataverageinventory
isdividedintotocalculate
inventoryturnover.Answer(b)is
correctbecausetheaverage
inventoryisdividedintothecost
ofgoodssoldtocalculatethe
inventoryturnover.
79. (a)Therequirementistoidentifythe
auditingprocedurethatmostlikelywould
provideassuranceaboutamanufacturing
entitysinventoryvaluation.Answer(a)is
correctbecausetestingtheoverhead
computationwillprovideevidenceon
whetherinventoryhasbeenincludedinthe
financialstatementsattheappropriate
amount.Answer(b)isincorrectbecause
obtainingconfirmationofinventories
pledgedunderloanagreementsrelatesmore
directlytothepresentationassertion.
Answers(c)and(d)areincorrectbecause
reviewingshippingandreceivingcutoff
proceduresforinventoriesandtracingtest
countstotheinventorylistingrelatemore
directlytotheexistenceandcompleteness
assertions.

146

MODULE4RESPONDINGTORISKASSESSMENT
80. (b)Therequirementistoidentify
anactionthatanauditormighttake
whentheassessedlevelofcontrol
riskishighforinventory.Answer
(b)iscorrectbecauseahighlevel
ofcontrolriskwillgenerallyresult
inalowacceptablelevelof
detectionrisk,whichmaybe
achievedbychangingthetimingof
substantiveteststoyearend,
changingthenatureofsubstantive
teststomoreeffectiveprocedures,
and/orbychangingtheextentof
substantivetests.Answer(a)is
incorrectbecausecontrolriskhas
beenassessedandtestsofcontrols,
ifany,willalreadyhavebeencom
pleted.Answer(c)isincorrect
becauseayearendcountof
inventoryismoreappropriatewhen
controlriskishigh.Answer(d)is
incorrectbecausegrossprofittests
willgenerallyprovideless
assurancethanisrequiredin
circumstancessuchasthiswhen
controlriskisassessedatahigh
level.

81. (a)Therequirementistoidentifythe
financialstatementassertion(otherthan
presentationanddisclosure)mostdirectly
relatedtoanauditorsconclusionthatno
excessivecostsforidleplantwerecharged
toinventory.Answer(a)iscorrectbecause
theassertiondealswithwhethertheinven
toryhasbeenincludedinthefinancial
statementsattheappropriateamount,and
thereforethatnoexcessivecostswere
chargedtoinventory.Answer(b)is
incorrectbecausethecompleteness
assertiondealswithwhetherallinventory
itemsthatshouldbepresentedareso
included.Answer(c)isincorrectbecause
existencedealswithwhethertheinventory
actuallyexitsatthegivendate.Answer(d)
isincorrectbecauserightsdealwith
whethertheinventoryisownedbythe
client.Formoreinformationon
managementsfinancialstatement
assertions,seeSAS106.
82. (b)Therequirementistoidentifythe
financialstatementassertionmostdirectly
relatedtoanauditorstracingofinventory
testcountstotheclientsinventorylisting.
Answer(b)iscorrectbecausethe
completenessassertiondealswithwhether
alltransactionsareincluded.Tracingfrom
theinventoryitemsobservedtothe
inventorylistingwillhelpdetermine
whetherallthetransactionsareincluded
andtheinventorylistingiscomplete.
Answer(a)isincorrectbecausetherights
assertiondealswithwhetherassetsarethe

rightsoftheentityandthisisnotbeing
testedwhenanauditortracestestcountsto
aninventorylisting.Answer(c)is
incorrectbecauseexistencedealswith
whethertheinventoryexistedatthedateof
thecount.Totestexistencetheauditor
wouldsamplefromtheinventorylisting
andcomparequantitiestothetestcounts.
Answer(d)isincorrectbecausevaluation
dealswithwhethertheinventoryisproperly
includedinthebalancesheetatthe
appropriatedollaramountandthisisnot
beingtestedhere.SeeSAS
106 for more information on
managements financial state
mentassertions.

83. (d)Therequirementistodeterminethe
assertionmostdirectlyrelatedtoan
auditorsanalysisofinventoryturnover
rates.Answer(d)iscorrectbecausean
analysisofinventoryturnoverrateswill
providetheauditorwithevidenceonslow
moving,excess,defective,andobsolete
itemsincludedininventories.Theseitems
maybeimproperlyvalued.
84. (a) The requirement is to
determinewhichtypesofentries
will be supported when the
auditor examines receiving
reports. Answer (a) is correct
becausereceivingreportswillbe
prepared when goods are
received through purchase (as
recordedinthevoucherregister)
andwhengoodsare

receivedthroughsalesreturns(as
recordedinthesalesreturnsjournal).
Answers(b),(c),and(d)areincorrectbe
causeentriesinsalesjournalsresultin
itemsbeingshipped,notreceived.Note,
however,thatanswers(b),(c),and(d)are
partiallycorrectbecausethesalesreturns
journal,voucherregister,andcheck
registerallresultfromtransactions
relatedtothereceiptofgoods.
85.(c)Therequirementistoidentifythe
responsewhichdoesnotrepresentoneof
theindependentauditorsobjectives
regardingtheexaminationofinventory.
Answer(c)iscorrectbecauseverifying
thatallinventoryownedbytheclientison
handatthetimeofthecountisnotan
objective.Forexample,purchaseditemsin
transitatyearend,forwhichtitlehas
passed,shouldbeincludedininventory.
Similarly,inventoryoutonconsignment
shouldalsobeincludedininventory.
Answer(a)isincorrectbecauseproper
presentationofinventorypertainstothe
presentationanddisclosureassertionand
thereforewouldbesubjecttoauditor
verification.Answers(b)and(d)arein
correctbecauseproperaccountingfor
damagedandobsoleteitemsandproper
inventorypricingpertaintothevaluation
assertionandthereforewouldbesubjectto
auditorverification.SeeSAS106for
detailsonfinancialstatementassertions.
C.4.EvidenceInvestmentSecurities
86. (c)Therequirementisto
determinewhyanauditorshould
insistthataclientrepresentative
bepresentwhenheorshe
physicallyexaminessecurities.
Answer(c)iscorrectbecause
requiringthataclient
representativeacknowledgethe
receiptofthesecuritieswill
eliminateanyquestioncon
cerningtheCPAsresponsibility

foranysubsequentmis
placementormisappropriationof
thesecurities.Answer(a)is
incorrectbecausetheclients
representativewillnotingeneral
helptheCPAtodetectfraudulent
securities.Answers(b)and(d)
areincorrectbecausewhilethe
clientsrepresentativewillhelp
theCPAtogainaccesstothe
securitiesandmaycoordinate
theirreturn,thesearenotthe
auditorsprimarypurpose.
87. (c)Therequirementistoidentifythebest
procedureotherthaninspectiontoestablish
theexistenceandownershipofalongterm
investmentinapubliclytradedstock.
Answer(c)iscorrectbecauseconfirmation
ofthenumberofsharesownedthatareheld
byanindependentcustodianiseffectiveat
testingexistence.Answer(a)isincorrect
becauseauditorsdonotingeneral
correspondwiththeinvesteecompanyand
becausethatcompanymayormaynothave
detailedinformationontheidentityof
shareholdersatanypointintime.Answer
(b)isincorrectbecausewhileinspectionof
theauditedfinancialstatementsofthe
investeecompanymayprovidelimited
informationonvaluationoftheinvestment,
itdoesnotdirectlyaddressexistence;note
thatthisprocedureisoflimitedusehere
sincethestockispubliclytradedand
obtainingitsvaluethroughstockpricequo
tationsshouldnotbedifficult.Answer(d)
isincorrectbecausethisprocedure
addressesthevaluationofthesecurities.In
addition,underSFAS115,investmentsare
nolongercarriedatthelowerofcostor
market.SeeSAS106formoreinformation
onmanagementsfinancialstatement
assertions.
88. (c)Therequirementistodetermine
the best procedure when an
auditorhasbeenunabletoinspect
andcounta

MODULE4RESPONDINGTORISKASSESSMENT

147

accumulateddepreciationexpense.Answer
(b)iscorrectbecausedebitstoaccumulated
depreciationareproperlyrecordedupon
retirementofaplantasset.Answer(a)is
incorrectbecausechangingtheusefullives
ofplantassetsdoesnotaffectaccumulated
depreciation.Answer(c)isincorrect
becauseunderstatementoftheprioryears
depreciationexpensedoesnotresultinan
adjustmenttoaccumulateddepreciation.
Answer(d)isincorrectbecauseoverhead
allocationsdonotordinarilyaffectaccumu
lateddepreciation.

clientsinvestmentsecurities(heldina
safedepositbox)untilafterthebalance
sheetdate.Answer(c)iscorrectbecause
banksmaintainrecordsonaccesstosafe
depositboxes.Thus,theconfirmationofno
accessduringtheperiodwillprovidethe
auditorwithevidencethatthesecuritiesin
thesafedepositboxatthetimeofthe
countwerethoseavailableatyearend.
Answers(a)and(b)areincorrectbecause
thebankwillnotgenerallybeableto
providealistofsecuritiesaddedand
92. (a)Therequirementistoidentifythebest
removedfromthebox(typically,only
recordsonaccessaremaintainedbythe
procedurefortestingunrecorded
bank).Therefore,thebankwillhaveno
retirementsofequipment.Answer(a)is
informationonreconcilingitemsbetween
correctbecauseselectingitemsfromthe
thesubsidiaryledgerandthesecuritieson
accountingrecordsandattemptingto
hand.Answer(d)isincorrectbecauseitis
locatethemwillrevealunrecorded
theresponsibilityoftheauditorandthe
retirementswhentheitemcannotbe
client,notthebank,tocountthesecurities
located.Answer(b)isincorrectbecause
maintainedinasafedepositbox.
depreciationentrieswillcontinuewhen
retirementshavenotbeenrecorded.Answer
89.(a)Therequirementistodeterminethe
(c)isincorrect
mostlikelyuseofanalyticalprocedures
whentestinglongterminvestments.
Answer(a)iscorrectbecausethe
predictablerelationshipbetweenlongterm
investmentsandinvestmentincomecreates
asituationinwhichanalyticalprocedures
mayprovidesubstantialauditassurance.
Answer(b)isincorrectbecausethe
classificationbetweencurrentandnon
currentportfoliosmaybeexpectedto
fluctuateinanunpredictablemanneras
investmentgoalsandtheenvironment
change.Answers(c)and(d)areincorrect
becausethevaluationofmarketableequity
securitiesatthelowerofcostormarketand
unrealizedgainsorlossesdonotresultina
predictablerelationshiponwhichanalytical
proceduresmayprovideeffectiveresults.
C.5.EvidenceProperty,Plant,and
Equipment
90. (d)Therequirementistoidentifythe
accountwhoseanalysisisleastlikelyto
revealevidencerelatingtorecorded
retirementsofequipment.Answer(d)is
correctbecausethepurchasereturnsand
allowancesaccountdealswithreturnsand
allowancesforpurchasesofmerchandise,
notequipment.Answer(a)isincorrect
becauseanalysisofaccumulated
depreciationwillrevealtheretirement
throughchargesmadetotheaccumulated
depreciationaccount.Answer(b)is
incorrectbecausecompanieswillordinarily
modifyinsurancecoveragewhenassetsare
retired.Answer(c)isincorrectbecausethe
property,plant,andequipmentaccount
willreflecttheretirement.
91. (b)Therequirementistoidentifyalikely
explanationforasituationinwhich
significantdebitshavebeenpostedtothe

becausethedirectionofthetestis
incorrectsincebeginningwiththeitemis
unlikelytorevealasituationinwhichan
unrecordedretirementhasoccurred.
Answer(d)isincorrectbecausescanning
thegeneraljournalforrecordedentriesis
unlikelytorevealunrecordedretirements
ofequipment.
93. (d)Therequirementisto
determinewhyanauditor
analyzesrepairsandmaintenance
accounts.Answer(d)iscorrect
becauseclientsoftenerroneously
chargeexpendituresforproperty
andequipmentacquisitionsas
expensesratherthancapitalize
themasassets.Ananalysisof
repairsandmaintenanceaccounts
willrevealsucherrors.Answer
(a)isincorrectbecausewhile
auditorswillwanttodetermine
thatnoncapitalizableexpenses
forrepairsandmaintenancehave
beenrecordedintheproper
period,analyzingonlythe
recordedentriesisanincomplete
testsinceentriesoccurringafter
yearendwillalsoneedtobe
examined.Answer(b)is
incorrectbecauseprocedures
relatingtothepropertyand
equipmentaccountwillbe
performedtodeterminewhether
suchentrieshavebeenrecorded
inthe
properperiod.Answer(c)isincorrect
becauseanalyzingtherepairsand
maintenanceaccountsonlyconsiders
recordedentriesandnotwhetherall
noncapitalizableexpendituresforrepairs
andmaintenancehavebeenproperly
chargedtoexpense.
94. (c)Therequirementisto
determinetheinformationan
auditorismostlikelytoseek
fromtheplantmanager.The
plantmanagercomesintodayto
daycontactwiththemachinery
whenproducingaproduct;that
contactislikelytoprovide
informationonitsconditionand
usefulness.Answers(a)and(d)
areincorrectbecausetheplant
managerwillgenerallynothave

detailedknowledgeastotheade
quacyoftheprovisionfor
uncollectibleaccountsorthe
amountofinsurancewhichis
desirable.Answer(b)isin
correctbecausetheplantmanager
willhavelimitedknowledge
concerningphysicalinventory
observationproceduresandtheir
appropriateness.
95. (a)Therequirementistoidentify
thedocumentleastlikelyto
provideevidenceregarding
mortgageacquisitioncosts.
Deedsgenerallyconsistofalegal
conveyanceofrightstousereal
property.Frequentlythesales
priceisnotevenspecifiedandthe
relatedmortgageacquisitioncosts
aremuchlesslikelytobestatedin
adeed.Answer(b)isincorrect
becausecancelledcheckswould
provideverificationofmortgage
acquisitioncosts.Answer(c)is
incorrectbecausetheclosing
statementwouldprovidea
detailedlistingofthecostsof
acquiringtherealproperty,
includingpossiblemortgage
acquisitioncosts.Answer(d)is
incorrectbecauseexaminationof
interestexpensewouldalsorelate
tothemortgageacquisitioncosts.
96. (b)Therequirementistodetermine
theassertion(s)involvedwhenan
auditorisinspectingnewadditions
onalistofproperty,plant,and
equipment.Answer(b)iscorrect
becauseanauditorwhoinspects
newadditionsrelatingtoproperty
andequipmentbalancesaddresses
existenceoroccurrence,butnot
presentationanddisclosure;
presentationanddisclosurerelates
moredirectlytoproper
classificationandnotedisclosures
ratherthanaccountbalances.

C.6.EvidencePrepaidAssets
97.(a)Therequirementistodeterminethe
financialstatementassertionmostdirectly
relatedtotheprocedureofreviewingor
recomputingamortizationofintangible
assets.

148

MODULE4RESPONDINGTORISKASSESSMENT

Answer(a)iscorrectbecausethe
amortizationofintangibleassetsdealswith
whethertheaccountsareproperlyvalued,
thevaluationassertion.Theotherassertions
arelessdirectlyrelated.Answer(b)is
incorrectbecausetheexistenceor
occurrenceassertiondealswithwhether
assetsorliabilitiesexistatagivendateand
whetherrecordedtransactionshave
occurredduringagivenperiod.Answer(c)
isincorrectbecausethecompleteness
assertiondealswithwhetherall
transactionsandaccountsthatshouldbe
presentedinthefinancialstatementsareso
included.Answer(d)isincorrectbecause
therightsandobligationsassertiondeals
withwhetherassetsaretherightsofthe
entityandliabilitiesaretheobligationsof
theentityatagivendate.SeeSAS106for
informationonthefinancialstatement
assertions.
98.(c)Therequirementistodeterminethe
mostlikelyreasonfortheabsenceofthe
originalinsurancepolicyonplant
equipment.Answer(c)iscorrectbecause
theholderofthelienmayalsoincertain
circumstancesmaintaintheoriginal
insurancepolicy.Answer(a)isincorrect
becauseaninsurancepremiumwhichis
duebutnotrecordedisunlikelytoaccount
forthelackoftheoriginalinsurance
policy.Answer(b)isincorrectbecause
whilecoinsuranceprovisionsareoutlined
inthepolicy,theyareunlikelytobea
reasonthatthepolicyisnotavailablefor
inspection.Answer(d)isincorrect
becausethereisnoobviousrelationship
betweentheunderstatementofinsurance
expenseandthepresenceorabsenceofan
insurancepolicy.
C.7.EvidencePayables(Current)
99. (c)Therequirementistoidentifythebest
auditproceduresforidentifying
unrecordedliabilities.Answer(c)iscorrect
becauseunrecordedliabilitieseventually
becomedueandmustbepaid.Accordingly,
areviewofcashdisbursementsafterthe
balancesheetdateisaneffectiveprocedure
fordetectingunrecordedpayables.Answer
(a)isincorrectbecausetracingasampleof
accountspayablethathavebeenrecordedis
notlikelytoresultinidentificationof
unrecordedliabilities.Answer(b)is
incorrectbecausepurchaseordersissued
afteryearendwillnotresultinliabilitiesas
ofyearend.Answer(d)isincorrect
becausedisbursemententriesrecorded
beforeyearendgenerallyrelatetoaccounts
payablethathavebeenpaidbeforeyear
end.
100. (a)Therequirementistoidentify

theappropriatepopulationwhen
usingaccountspayable
confirmationsdirectedtowards
obtainingevidenceonthe
completenessassertion.Answer(a)
iscorrectbecausetoaddress
completenesstheauditorattempts
todeterminethatallaccountspay
ablearereflected,andacompany
potentiallymaybeliabletoanyof
itsvendors.Answer(b)isincorrect
becauseconfirmingbasedon
recordedamountsaddresses
existencemoredirectlythan
completeness.Answer(c)is
incorrectbecausebasingthesample
onpayeesafteryearendonlydeals
withthosepayablesthathavebeen
paidasofthatpoint.Answer(d)is
incorrectbecauseopeninvoicesare
alesscompletepopulationthanare
vendors.SeeAU330for
informationontheconfirmation
process,andSAS106for
informationonmanagements
financialstatementassertions.

101. (d)Therequirementisto
determinewhyconfirmationof
accountspayableisunnecessary.
Accountspayableareusuallynot
confirmedbecausethereisbetter
evidenceavailabletotheauditor,
(i.e.,examinationofcash
paymentssubsequenttothe
balancesheetdate).Iftheauditor
reviews

allcashpaymentsforasufficienttime
afterthebalancesheetdateforitems
pertainingtotheperiodunderauditand
findsnosuchpaymentswhichwerenot
recordedasliabilitiesatyearend,the
auditorisreasonablyassuredthatac
countspayablewerenotunderstated.
Answer(a)isanonsenseanswer.Answer
(b)isincorrectbecauseAPbalancescould
bepaidduringyearendauditworkafter
thebalancesheetdate.Answer(c)is
incorrectbecausewhetherornotlegal
actionhasbeentakenagainsttheclientis
irrelevanttotheconfirmationprocedure.
102. (c)Therequirementistoidentify
thesubstantivetesttobe
performedtoverifytheexistence
andvaluationofrecorded
accountspayable.Answer(c)is
correctbecausethevouchingof
variouspayableaccountsto
purchaseordersandreceiving
reportswillprovideevidencethat
thedebtwasincurredandthe
relatedgoodsreceived,thereby
providingevidenceonthe
existenceofthedebtandits
amount,orvaluation.Answer(a)
isincorrectbecausedetermining
whetherprenumberedpurchase
ordersareusedandaccounted
forrelatesmoredirectlytothe
completenesswithwhich
purchasesandaccountspayable
wererecorded.Answers(b)and
(d)areincorrectbecausethe
questionaddressestheexistence
andvaluationofrecorded
accountspayable,notunrecorded
payablesorpayableswithazero
balance.
103. (c)Therequirementistodetermine
managementsaccountspayableassertionthat
anauditorwillprimarilyfocuson.Experience
hasindicatedthatoverstatedincomeismore
ofariskthanisunderstatedincome.Answer
(c)iscorrectbecausethecompleteness
assertionfocusesuponwhetherpayableshave
beenomitted,therebyoverstatingincome.

Answer(a)isincorrectbecausetheexistence
assertiondealswithwhetherrecorded
accountspayableareoverstated,thereby
understatingincome.Answer(b)isincorrect
becausepayablesoftenrequirenoparticularly
troublesomepresentationsanddisclosures.
Answer(d)isincorrectbecausepayablesare
mostfrequentlysimplyvaluedatthecostof
therelatedacquisition.SeeSAS106formore
informationonmanagementsfinancial
statementassertions.

C.8.EvidenceLongTermDebt
104. (b)Therequirementistoidentify
alikelyreasonforarecorded
interestexpensethatseems
excessiveinrelationtothe
balanceinthebondspayable
account.Answer(b)iscorrect
becauseunderstatedbonds
payablewillresultinalower
accountbalancethanisproper
andtherebycreateasituationin
whichtheinterestexpense
appearsexcessive.Answers(a)
and(d)areincorrectbecausean
understateddiscountoran
overstatedpremiumonbonds
payableresultinsituationsin
whichtherecordedinterest
expenseseemslowerthan
expectedsincethenetbonds
payableareoverstated.Answer
(c)isincorrectbecause
understatements,not
overstatements,ofbondspayable
willresultinwhatappearstobe
anexcessiverateofinterest
expense.
105. (a)Therequirementistodeterminethe
financialstatementassertionmostdirectly
relatedtoanauditorsinspectionofloan
agreementsunderwhichanentitysin
ventoriesarepledged.Answer(a)iscorrect
becausethepresentationanddisclosure
assertiondealswithwhetherparticular
componentsofthefinancialstatementssuch
asloanagreementcovenantsareproperly
classified,described,anddisclosed.Theother
assertionsarelessdirectlyrelated.

MODULE4RESPONDINGTORISKASSESSMENT
Answer(b)isincorrectbecausethe
valuationorallocationassertiondealswith
whetherasset,liabilities,revenue,and
expensecomponentshavebeenincludedin
thefinancialstatementsattheappropriate
amounts.Answer(c)isincorrectbecause
theexistenceoroccurrenceassertiondeals
withwhetherassetsorliabilitiesexistata
givendateandwhetherrecorded
transactionshaveoccurredduringagiven
period.Answer(d)isincorrectbecausethe
completenessassertiondealswithwhether
alltransactionsandaccountsthatshouldbe
presentedinthefinancialstatementsareso
included.SeeSAS106forinformationon
thefinancialstatementassertions.
106. (c)Therequirementistoidentifya
procedureanauditorwouldperformin
auditinglongtermbondspayable.Answer
(c)iscorrectbecausecomparinginterest
expensewiththebondpayableamountwill
provideevidenceastoreasonableness.Such
aproceduremayrevealeitherinterestnot
expensedordebtnotproperlyrecorded.
Answer(a)isincorrectbecauseanalytical
procedureswillnotingeneralbeperformed
onbondpremiumsanddiscountssince
theseaccountsmayeasilybeverifiedby
examiningdetailsoftheentryrecordingthe
debtissuanceandanysubsequentamor
tization.Answer(b)isincorrectbecausean
examinationofthedocumentationofassets
purchasedwithbondproceedsisonly
necessarywhensuchauseofthefundsisa
requirementofthedebtissuance.Answer
(d)isincorrectbecauseconfirmationof
bondsoutstandingwilloftenbewiththe
trusteeratherthanwithindividual
bondholders.
107. (b)Therequirementisto
determinehowanauditorcanbest
verifyaclientsbondsinkingfund
transactionsandyearendbalance.
Answer(b)iscorrectbecause
confirmationwiththebond
trusteerepresentsexternally
generatedevidencereceived
directlybytheauditor.Such
evidenceisconsideredvery
reliable.Answer(a)isincorrect
becauseindividualholdersof
retiredbondswillhaveno
informationonactualbond
sinkingfundtransactionsoryear
endbalances.Answer(c)is
incorrectbecause,while
recomputinginterestexpense,
interestpayable,andamortization
ofbonddiscountorpremiumsare
desirableprocedures,theydonot
directlyaddressbondsinkingfund
transactionsandyearend
balances.Answer(d)issimilarto

149

answer(c)inthatitisdesirable
butdoesnotaddresstheactual
bondsinkingfundtransactions
andyearendbalance.

C.9.EvidenceOwnersEquity
108. (a)Therequirementisto
determinehowanauditor
ordinarilyobtainsevidenceof
stockholdersequitytransac
tions.Answer(a)iscorrect
becausetheboardofdirectors
will,ingeneral,authorize
changesinstockholdersequity.
Answer(b)islesscompletein
thatforsmallclientstheremay
benotransferagent,andbecause
thetransferagentdealsmost
directlywithtransfersof
outstandingstock.Answer(c)is
incorrectbecausecanceledstock
certificatesareordinarily
availableonlyforsmallclients.
Answer(d)isincorrectbecause
companiesdonotordinarily
haveatreasurystock
certificatebook.
109. (d)Therequirementistoidentify
themostlikelyauditprocedure,
inadditiontoanalytical
procedures,whencontrolriskfor
payrollisassessedaslow.
Answer(d)iscorrectbecause
accrualofpayrollatyearendis
notanentrymadefrequently
throughouttheyearand
accordinglyrecordingofthe
entryisoftennotcontrolledby
thepayroll

portion of the internal control structure.


Answers (a), (b), and (c) are incorrect
because observing the distribution of
paychecks,thefootingandcrossfootingof
the payroll register, and inspection of
payroll tax returns are recurring op
erations that will have been considered
whenassessingcontrolriskatalowlevel.
110. (a)Therequirementistoidentify
thecircumstancethatmostlikely
wouldcauseanauditortosuspect
anemployeepayrollfraud
scheme.Answer(a)iscorrect
becausesignificantunexplained
variancesbetweenstandardand
actuallaborcostmayleadan
auditortosuspectfraud.Answer
(b)isincorrectbecauseonewould
expectpayrollcheckstobe
distributedbythesameemployees
eachpayday.Answer(c)is
incorrectbecausetimecardsare
ordinarilyapprovedbyindividual
departmentalsupervisors.An
swer(d)isincorrectbecausethe
maintenanceofaseparatepayroll
bankaccountisconsidereda
control,notanindicationof
fraud.
111. (d)Therequirementistoidentifythe
procedurethatanauditormostlikelywould
performwhenauditingpayroll.Answer(d)
iscorrectbecauseacomparisonofpayroll
costswithentitystandardsorbudgetswill
generallybeincludedintheauditprogram
asatestofoverallpayrollreasonableness.
Answer(a)isincorrectbecauseunclaimed
wageswillnotbemailedunlessan
employeesorequestsandthisoftenwillnot
betestedbyanauditor.Answer(b)is
incorrectbecausetotalemployeedeductions
willbetracedtojournalentries.Answer(c)
isincorrectbecauseobservingentity
employeesduringapayrolldistributionis
generallyonlyincludedinanauditprogram
wheninternalcontrolisweak;accordingly,
itismorelikelythatacomparisonof
payrollcostswithentitystandardsor
budgets[answer(d)]willbeincluded.

112. (d)Therequirementistoidentify
theprocedurethatismostlikely
whenanauditorisperformingtests
concerningthegrantingofstock
options.Answer(d)iscorrectbe
causeauthorizingtheissuanceof
stockoptionsisordinarilya
decisionmadebytheboardof
directors.Answer(a)isincorrect
becausetheSecretaryofStateof
thestateofincorporationwillnot
havethisinformationonstock
options.Answer(b)isincorrect
becausetheexistenceoftheoption
holdersisnotordinarilya
significantquestion.Answer(c)is
incorrectbecausestocktobeissued
relatingtooptionsmaybeeither
fromtreasurystockornew
issuances;accordingly,sufficient
treasurystockneednotbe
available.
113. (d)Therequirementistoidentify
theassertiontowhichdetermining
whethertherearerestrictionson
retainedearningsrelatesmost
directly.Answer(d)iscorrectbe
causesuchrestrictionswillresultin
disclosuresandthusthe
presentationanddisclosure
assertionismostdirectlybeing
verified.Answer(a)isincorrect
becausetheexistenceoroccurrence
assertionaddresseswhetherassets
orliabilitiesoftheentityexistata
givendateandwhetherrecorded
transactionshaveoccurredduringa
givenperiod.An

swer(b)isincorrectbecausethe
completenessassertionaddresseswhether
alltransactionsandaccountsthatshould
bepresentedinthefinancialstatements
aresoincluded.Answer(c)isincorrect
becausethevaluationorallocation
assertionaddresseswhetherasset,
liability,revenue,andexpense
componentshavebeenincludedinthe
financialstatementsatappropriate
amounts.SeeSAS106foradiscussion
offinancialstatementassertions.

150

MODULE4RESPONDINGTORISKASSESSMENT
114. (b)Therequirementistoidentify
theinformationanauditorshould
confirmwithaclientstransfer
agentandregistrar.Answer(b)is
correctbecausewhenaclientem
ploysatransferagentand
registrar,therewillbenostock
certificatebooktoexamine,and
accordingly,informationon
sharesissuedandoutstanding
shouldbeconfirmed.Answers
(a),(c),and(d)areincorrect
becausethetransferagentand
registraroftenwillnothave
informationondividend
restrictions,guaranteesof
preferredstockliquidationvalues,
andthenumberofsharessubject
toagreementstorepurchase.
115. (c)Therequirementisto
determinealikelystepinthe
auditprogramforretained
earnings.Thelegalityofa
dividenddependsinparton
whetherithasbeenproperly
authorized(statelawsdifferon
specificrequirements).Thus,the
auditormustdeterminethat
properauthorizationexists,as
bothcashandstockdividends
affectretainedearnings.Answer
(a)isincorrectsinceonlyamemo
entryisrequiredforastocksplit.
Answer(b)isincorrectbecause
thewritedownofanaccount
receivablewillnot,ingeneral,be
recordedinretainedearnings.
Answer(d)isincorrectbecause
gainsfromthedispositionof
treasurysharesarerecordedin
paidincapitalaccounts.
116. (c)Therequirementisto
determinewhenanauditorwould
bemostlikelytoperform
substantivetestsofdetailson
payrolltransactionsandbalances.
Answer(c)iscorrectbecause
analyticalproceduresresultin
furtherinvestigationwhen
unexpecteddifferencesoccur.
Thisinvestigationwillgenerally
involvesubstantivetestsofdetails
oftransactionsandbalances.AU
329providesdetailedinformation
onanalyticalprocedures.Answer
(a)isincorrectbecausea
substantialamountofaccrued
payrollexpenseasindicatedbya
cutofftestwillnotnecessarily
resultinadditionalsubstantive
tests.Answer(b)isincorrect
becausealowassessedlevelof
controlriskislikelytoresultin

lesssubstantivetesting.Answer
(d)isincorrectbecausethenature
ofaccruedpayrollexpensebeing
unpaidcommissionsneednot
necessarilyresultinmore
substantivetesting.

117. (a)Therequirementistodeterminea
sourceanauditorusestotestthe
reasonablenessofdividendincomefrom
investmentsinpubliclyheldcompanies.
Answer(a)iscorrectbecausedividend
recordbooksproducedbyinvestment
advisoryservicesprovidesummariesof
dividendspaidforvarioussecurities,andan
auditorisabletocomparethe
reasonablenessofaclientsrecorded
dividendincomefrominvestmentswiththis
information.Answers(b)and(c)are
incorrectbecauseauditorsdonot,in
general,determinethereasonablenessof
dividendincomebyexaminingstockin
denturesorstockledgers.Answer(d)is
incorrectbecausewhileannualfinancial
statementsofinvesteecompaniesmay
includesuchinformation,examiningsuch
financialstatementsisnotgenerallyan
efficientapproachfortestingthe
reasonablenessofdividendincome.Also,
thecurrentyearfinancialstatementsofthe
investeesoftenarenotavailablewhenthe
auditorisperformingthecurrentaudit.
C.10.Revenue
118.(c)Therequirementistoidentifythe
mostlikelyriskinvolvedwithabilland
holdtransactionatyearend.Answer(c)is
correctbecauseabillandholdtransaction
resultsintherecordingofasalepriorto
deliveryofthegoodsaccordingly,sales
maybeinappropriatelyrecorded.

Answer(a)isincorrectbecauseaccrued
liabilitiesarenotordinarilyaffectedby
billandholdtransactions.An
swers(b)and(d)areincorrectbecausean
absolutepurchasecommitmentandthe
assumingofriskandrewardrelatingtothe
productrepresentconditionswhich
increasethelikelihoodthatrecordingofa
saleforsuchatransactionisappropriate.
119.(b)Therequirementistoidentifythe
mostlikelylistedeffectofchannel
stuffing.Answer(b)iscorrectbecause
channelstuffingisamarketingpracticethat
supplierssometimesusetoboostsalesby
inducingdistributorstobuysubstantially
moreinventorythantheycanpromptly
resell;accordingly,increasedsalesreturns
inthefuturearelikely.Answers(a),(c)and
(d)areincorrectbecauseaccrued
liabilities,cash,andmarketable
investmentsarelesslikelytobeaffectedby
channelstuffing,whichresultsinentries
increasingaccountsreceivable,costof
goodsold,andsales,whiledecreasing
inventory.
C.11.Expenses
120.(d)Therequirementistoidentifythe
accountinwhicharecordedentryismost
likelytorelatetotheproperty,plant,and
equipmentcompletenessassertion.The
completenessassertionaddresseswhether
alltransactionshavebeenrecordedinan
account(here,property,plant,and
equipment).Answer(d)iscorrectbecause
thepurchaseofproperty,plant,and
equipmentmayinappropriatelyhavebeen
recordedintherepairsandmaintenance
accountratherthaninproperty,plant,and
equipment;thisisafrequentbookkeeping
errorsincetheindividualrecordingthe
entrymayfrequentlyseesimilarinvoices
whichdorepresentrepairsand
maintenanceexpense.Answers(a),(b),
and(c)areallincorrectbecausethe
allowancefordoubtfulaccounts,
marketablesecurities,andsaleshasno
apparentrelationshiptothecompleteness
ofrecordingofproperty,plant,and

equipment.
C.12.ClientRepresentationLetters
121. (c)Therequirementistoidentify
thematteronwhichanauditor
shouldobtainwritten
managementrepresentations.
Answer(c)iscorrectbecause
writtenrepresentationsare
ordinarilyobtainedon
noncompliancewithaspectsof
contractualagreementsthatmay
affectthefinancialstatements.
Answer(a)isincorrectbecause
auditorsdonotordinarilyobtain
acostbenefitjustificationfrom
managementrelatedtointernal
controlweaknesses.Answer(b)
isincorrectbecausewritten
representationsarenotordinarily
obtainedonsuchfutureplans.
Answer(d)isincorrectbecause
managementmayormaynotbe
responsibleforemployee
violationsoflaws,andbecause
sucharepresentationisnot
ordinarilyobtained.SeeAU333
forinformationonclient
representations.
122. (a)Therequirementistodetermine
amattertowhichmaterialitylimits
donotapplyinobtainingwritten
managementrepresentations.
Answer(a)iscorrectbecause
materialityconsiderationsdonot
applytomanagements
acknowledgmentofits
responsibilityforfairpresentation
offinancialstatements,the
availabilityofallfinancialrecords,
thecompletenessandavailability
ofallminutesandmeetingsof
stockholders,directors,and
committeesofdirectors,and
communicationfromregulatory
agencies.Answers(b),(c),and(d)
areallincorrectbecause
materialityconsiderationsrelateto
lossesfrompurchase
commitments,compen

MODULE4RESPONDINGTORISKASSESSMENT
satingbalances,andobsoleteinventory.
AU333discussesclientrepresentations.
123. (c)Therequirementisto
determinetheproperdatefora
clientsrepresentationletter.AU
333statesthattherepresentation
lettershouldbedatedasofthe
dateoftheauditorsreport.
124. (b)Therequirementistoidentifythe
matterthatanauditormostlikelywould
includeinamanagementrepresentation
letter.Auditorswillgenerallyrequest
assuranceastothecompletenessand
availabilityofminutesofstockholders
anddirectorsmeetings.SeeAU333for
writtenrepresentationsordinarilyobtained
bytheauditor.
125. (d)Therequirementisto
determinetheyear(s)onwhicha
CPAmustobtainwritten
representationsfromman
agement,whencomparative
financialstatementsarebeing
issued,butcurrentmanagement
hasonlybeenemployedfora
portionofoneofthoseyears.AU
333statesthatifcurrent
managementwasnotpresent
duringallperiodsreportedupon,
theauditorshouldnevertheless
obtainwrittenrepresentations
fromcurrentmanagementonall
suchperiods.
126. (a)Therequirementistoidentify
theinformationordinarilyincluded
amongthewrittenclient
representationsobtainedbythe
auditor.Answer(a)iscorrect
because

AU333includesinformationon
compensatingbalancesinthelistof
representationsnormallyobtained.Answer
(b)isincorrectbecausemanagementneed
notacknowledgearesponsibilityfor
employeeillegalactions.Answer(c)isin
correctbecausetheauditor,nottheclient,
determineswhethersufficientaudit
evidencehasbeenmadeavailable.Answer
(d)isincorrectbecause,forpurposesofa
financialstatementaudit,management
neednotattempttodeterminewhether
materialweaknessesininternalcontrol
exist.
127. (a)Therequirementisto
determinethecorrectstatement
withrespecttotheuseofa
managementrepresentation
letterasauditevidenceaboutthe
completenessassertion.Answer
(a)iscorrectbecausesuch
writtenrepresentationsare

151

meanttocomplement,butnot
replace,substantivetests.
Answer(b)isincorrectbecause
thecomple

mentarynatureofsuchrepresentationsisnot
consideredsufficient,evenwhencombined
withrelianceuponinternalcontrol.The
inherentlimitationsofinternalcontroldonot
permittheauditortoreplacesubstantivetests
withcompleterelianceoninternalcontrol.
Answer(c)isincorrectbecausethewritten
representationsareconsideredcomplementary
evidenceinsupportofvariousassertions.
Answer(d)isincorrectbecausesuchwritten
representationsarenotconsideredtobe
replacementsforrelianceuponinternal
control.

128. (a)Therequirementisto
determinewhoshouldsigna
letterofrepresentation.AU333
statesthat,normally,thechief
executiveofficerandthechief
financialofficersshouldsignthe
letterofrepresentation.
129. (d)Therequirementistoidentify
thescopelimitationwhichinall
casesissufficienttoprecludean
unqualifiedopinion.Answer(d)
iscorrectbecausetheprofessional
standardsstatethatmanagement
refusaltofurnishwritten
representationsconstitutesa
limitationonthescopeofthe
auditorsexaminationsufficient
toprecludeanunqualified
opinion.Answer(a)isincorrect
becausemanagementsrefusalto
allowtheauditortoreviewthe
predecessorsworkmaynot
necessarilyresultinreport
modification.An

swer(b)isincorrectbecausealternate
proceduresmaybeavailablethatwillmake
reportmodificationunnecessarywhenthe
auditorhasbeenengagedaftercompletion
oftheyearendphysicalcount.Answer(c)
isincorrectbecausemanagementmay
choosenottocorrectasignificant
deficienciesininternalcontrolwithouta
resultinglimitationonthescopeofthe
audit.
130. (c)Therequirementistoidentifyapurpose
ofamanagementrepresentationletter.
Answer(c)iscorrectbecausea
managementrepresentationletterismeant
toreducethepossibilityofa
misunderstandingconcerning
managementsresponsibilityforthe
financialstatements.Answer(a)is
incorrectbecausereducingauditrisktoan
aggregatelevelofmisstatementthatcould
beconsideredmaterialisnotalogically
soundstatement.Answer(b)isincorrect
becausethemanagementrepresentation
letterdoesnotmodifyanauditors
responsibilitytodetectmaterialmis
statements.Answer(d)isincorrectbecause
managementrepresentationlettersarenota
substituteforotherprocedures.
131. (c)Therequirementistoidentify
themostlikelysourceofa
statementsuggestingthatthere
havebeennocommunications
fromregulatoryagencies.
Answer(c)iscorrectbecause
informationsuchasthisis
ordinarilyincludedina
managementrepresentation
letter.Answers(a),(b),and(d)
areincorrectbecausesucha
disclosureisnotordinarily
includedinareportoninternal
control,aspecialreport,ora
letterforanunderwriter.SeeAU
333forguidanceon
representationletters.
C.13.UsingtheWorkofaSpecialist
132. (a)Therequirementistoidentifythe

correctstatementconcerninganauditors
useoftheworkofaspecialist.Answer(a)
iscorrectbecausetheworkofaspecialist
whoisrelatedtotheclientmaybe
acceptableundercertaincircumstances.
Answer(b)isincorrectbecauseifthe
auditorbelievesthatthefindingsofthe
specialistareunreasonable,itisgenerally
appropriatetoobtainthefindingsof
anotherspecialist.Answer(c)isincorrect
becauseamaterialdifferencebetweena
specialistsfindingsandthoseincludedin
thefinancialstatementsmayresultinthe
needforanexplanatoryparagraph,a
qualifiedopinion,adisclaimer,oran
adverseopinion.Answer(d)isincorrect
becauseanauditormayuseaspecialistin
thedeterminationofvariousphysical
characteristicsofassets.
133. (a)Therequirementistoidentify
acircumstanceinwhichan
auditormayrefertothefindings
ofaspecialistintheauditors
report.Answer(a)iscorrect
becausetheauditormayreferto
thespecialistwhenthe
specialistsfindingsresultin
inclusionofanexplanatory
paragraphtoanauditreport,in
thiscaseongoingconcernstatus.
Answers(b),(c),and(d)areall
incorrectbecauseaspecialistis
onlyreferredtoinanauditreport
whenthatspecialistsfindings
identifyacircumstancerequiring
modificationoftheauditreport.
Auditorsdonotmodifyaudit
reportstosimplyinformtheuser
thataspecialistwasinvolved.
134. (d)Therequirementistoidentify
thestatementthatiscorrectabout
theauditorsuseoftheworkofa
specialist.Answer(d)iscorrect
becausetheauditorshouldobtain
anunderstandingofthenatureof
theworkperformedbythe
specialist.Answer(a)isincorrect
becauseordinarilyaspecialist
willhaveabasicunderstanding
oftheauditorscor

152

MODULE4RESPONDINGTORISKASSESSMENT
report.

roborativeuseofthefindings.Answer(b)is
incorrectbecausetheauditorneednot
performsubstantiveprocedurestoverifythe
specialistsassumptionsandfindings.Answer
(c)isincorrectbecausetheclientmayhavean
understandingofthenatureofthework
performedbythespecialist.See

AU336(revisedin1994bySAS73)for
informationontheauditorsuseofthe
workofaspecialist.
135. (b)Therequirementisto
identifythecircumstancein
whichanauditormay
appropriatelyrefertothe
findingsofaspecialist.Answer
(b)iscorrectbecauseanauditor
mayrefertoaspecialistwhen
thereportisbeingmodifieddue
tothespecialistsfindings.
Answers(a)and(c)are
incorrectbecauseaclients
familiaritywithaspecialistor
understandingoftheauditors
useofthefindingsofaspe
cialistdoesnotresultin
modificationoftheauditreport.
Answer(d)isincorrectbecause
anauditordoesnotdivide
responsibilitywithaspecialist.
136. (c)Therequirementistoidentify
thestatementthatanauditormust
documentwhenusingthework
ofaspecialist.Answer(c)is
correctbecausethespecialists
understandingoftheauditors
corroborativeuseofhisorher
findingsmustbedocumented.
SeeAU336forthisandother
documentationrequirements.
Answer(a)isincorrectbecause
nostatementconcerningan
updateofthespecialistsreport
isrequiredtobedocumented.
Answer(b)isincorrectbecausea
divisionofresponsibilityrelates
tocircumstancesinwhichother
auditors,notspecialists,arein
volved.Answer(d)isincorrect
becauseanauditorwillnot
normallyissueadisclaimer
relatedtowhetherthespecial
istsfindingscorroboratethe
representationsinthefinancial
statements.Thespecialists
reportisonlyreferredtowhen
thereisamaterialdifference
betweenthespecialistsfindings
andtherepresentationsinthe
financialstatements.SeeAU336
forinformationontheeffectofa
specialistsworkonanauditors

137. (c)Therequirementisto
determinewhichindividualis
notconsideredaspecialistupon
whoseworkanindependent
auditormayrely.The
professionalstandardsrelatingto
usingtheworkofaspecialistdo
notapplytousingtheworkofan
internalauditor.Answers(a),(b),
and(d),actuary,appraiser,and
engineer,respectively,areall
examplesofspecialistsperthe
professionalstandards.Notehere
thatthequestionanditsreplydo
notimplythataCPAcannotuse
theworkofaninternalauditor.
Whatisbeingsuggestedisthat
aninternalauditorisnot
consideredaspecialistunderthe
professionalstandards.
C.14.InquiryofaClientsLawyer
138.(d)Therequirementistoidentify
whichpartiesshouldreachanunderstanding
onthelimitsofmaterialityforpurposesofa
lawyersresponsetoanauditorsinquiry
concerninglitigation,claims,and
assessments.Answer(d)iscorrectbecause
AU337statesthatalawyersresponseto
aninquirymaybelimitedtomaterialitems,
providedthelawyerandtheauditorhave
reachedanunderstandingonthelimitsof
materialityforthispurpose.Answer(a)is
incorrectbecauseitincludestheclients
management.An
swer(b)isincorrectbecauseitincludes
the clients audit committee and omits
the auditor. Answer (c) is incorrect
because it includes the clients
managementandomitstheauditor.

139. (b)Therequirementistoidentify
thecorrectstatementconcerning
therefusalofaclientsattorneyto
provideinformationrequestedin
aninquiryletter.Answer(b)is
correctbecauseAU337indicates
thatthisisalimitationonthe
scopeoftheaudit.Answer(a)is
incorrectbecausethelackof
informationisunlikelytoleadto
anadverseopinionsinceno
informationhasbeenprovided
indicatingthatthefinancial
statementsaremisstated.Answer
(c)isincorrectbecausewithdrawal
isnotgenerallynecessarydueto
theclientsattorneysfailureto
provideinformation.An

swer (d) is incorrect because significant


deficiencies pertain to weaknesses in
internalcontrol.
140. (c)Therequirementistoidentifytheaudit
procedurethatanauditormostlikely
wouldperformconcerninglitigation,
claims,andassessments.Answer(c)is
correctbecauseauditorsmustdiscusswith
managementitspoliciesandproceduresfor
evaluatingandaccountingforlitigation,
claimsandassessments.SeeAU337for
thisandotherrequirements.Answer(a)is
incorrectbecausetheclientslawyerisnot
ordinarilyaskedtomakeanassessment
aboutwhethertheclienthasagoing
concernproblem(seeAU341for
informationonanauditorsconsideration
ofaclientsabilitytocontinueasagoing
concern).Answer(b)isincorrectbecause
anauditorwillnotordinarilyexaminelegal
documentsintheclientslawyers
possession.Answer(d)isincorrectbecause
anauditorwillnotordinarilyconfirmwith
theclientslawyerthatalllitigation,
claims,andassessmenthavebeenrecorded.
141. (b)Therequirementistoidentify
theprimaryreasonthatan
auditorshouldrequestaclientto
sendaletterofinquirytoits
attorneys.Answer(b)iscorrect
becausealetterofauditinquiryto

theclientsattorneyisthe
auditorsprimarymeansof
obtainingcorroborationofthe
informationfurnishedby
managementconcerning
litigation,claims,and
assessments.Answer(a)is
incorrectbecauseitwilloftenbe
impossibletodeterminethe
probableoutcomeofasserted
claimsandpendingorthreatened
litigation.Answer(c)isincorrect
becausenosuchopinionson
historicalexperiencesare
generallyavailable.Answer(d)is
incorrectbecausethedescription
oflitigation,claims,and
assessmentsisgenerallyprepared
bytheclient.
142. (b)Therequirementistoidentify
theprocedurethatisnotperformed
regardinglitigation,claims,and
assessments.Answer(b)iscorrect
becausetheCPAdoesnotconfirm
directlywiththeclientslawyer
thatallclaimshavebeenrecorded
inthefinancialstatements.
Answers(a),(c),and(d)areall
incorrectbecausetheyrepresent
informationobtainedfrom
managementregardinglitigation,
claims,andassessmentsas
summarizedinAU337.
143. (a)Therequirementistoidentify
theappropriatelimitationforan
attorneysresponsetoaclients
letterofauditinquiry.Answer(a)is
correctbecauseAU337statesthat
anattorneymayappropriatelylimit
hisresponsetomatterstowhich
s/hehasgivensubstantiveattention
intheformoflegalconsultationor
representation.Answers(b),(c),
and(d)areincorrectbecauseAU
337presentsavarietyofother
requestsinadditiontoinformation
onthelikelihoodofanunfavorable
outcomeofthemattersdisclosedby
theentity,similarlitigation,and
probableoutcomes.

MODULE4RESPONDINGTORISKASSESSMENT
1.

2.

(a)Ifaclientslawyerresigned
shortlyafterthereceiptofan
attorneysletterwhichindicated
nosignificantdisagreementswith
theclientsassessmentof
contingentliabilities,theauditor
shouldinquirewhytheattorney
resigned.Theauditorsconcern
iswhetheranyundisclosed
unassertedclaimshavearisen.Per
AU337,alawyermaybe
requiredtoresignifhisadvice
concerningreportingfor
litigation,claims,and
assessmentsisdisregardedbythe
client.Accordingly,the
resignationshortlyafterissuance
ofanattorneyslettermay
indicateaproblem.Answer(b)is
incorrectbecausetheattorney
issuedaletterindicatingno
significantdisagreementwiththe
clientsassessmentofcontingent
liabilities.Answers(c)and(d)are
incorrectbecauseAU337only
suggeststhattheauditorshould
considertheneedforinquiries
(i.e.,AU337doesnotrequirea
completenewexamof
contingentliabilitiesoran
adverseopinion).
(b)Therequirementistoidentify
thelawyerslettercommentthat
ismostlikelytocausetheauditor
torequestclarification.Answer
(b)iscorrectbecauseastatement
thattheactioncanbesettledfor
lessthanthedamagesclaimedis
unclearastothedetailsofthe
attorneysbelief.An

swers(a),(c),and(d)areallincorrectbecause
theyrepresentresponsesthatmaybeclearly
interpretedbytheauditor.SeeAU337,
interpretation7,forinformationonassessing
lawyersevaluationsofthelikelyoutcomeof
litigation.

C.15.FairValues
146. (a)Therequirementisto
determinewhethervaluation
issuesariseatinitialrecording,
subsequenttoinitialrecording,or
atbothtimeswhenconsidering
fairvalueofanassetorliability.
Answer(a)iscorrectbecauseAU
328makesclearthatvaluation
issuesariseatbothtimes.An
swers(b),(c),and(d)areall
incorrectbecausetheysuggest
thattherearenovaluationissues
atoneorbothofthesetime
periods.

153

147. (b)Therequirementistoidentifytheleast
likelyapproachforauditingthefairvalues
ofassetsandliabilities.Answer(b)is
correctbecauseitisdoubtfulthataudit
committeememberswillhaveinformation
onthevaluation.Answers(a),(c),and(d)
areallincorrectbecausetheyrepresentthe
threeapproachespresentedforauditingfair
values(aswellasotherestimates).
C.16.RelatedPartyTransactions

148. (c)Therequirementistoidentifythe
auditingprocedurethatwouldmostlikely
assistanauditorinidentifyingrelatedparty
transactions.Answer(c)iscorrectbecause
reviewingconfirmationsofloansreceivable
andpayableforindicationsofguarantees
mayrevealunusualtransactionsthat
involverelatedparties.SeeAU334for
proceduresrelatedtoidentifying
transactionswithrelatedparties.Answer
(a)isincorrectbecauseinspectingthe
correspondencewithlawyersforevidence
ofunreportedcontingentliabilitiesdoes
notgenerallyrelatedirectlytorelatedparty
transactions.Answer(b)isincorrect
becausenonrecurringtransactionsaremore
indicativeofrelatedpartytransactions.
Answer(d)isincorrectbecauseanalytical
proceduresperformedtoidentifypossible
financialdifficultiesdonotrelatedirectlyto
relatedpartytransactions.
149. (c)Therequirementistodeterminean
auditorsresponsibilityafterhaving
determinedthatarelatedpartytransaction
hasoccurred.Answer(c)iscorrectbecause
after

identifyingtheexistenceofsuchanact,the
auditorshouldobtainanunderstandingofthe
businesspurposeofthetransaction.SeeAU
334forthisandotherresponsibilities.An
swer(a)isincorrectbecausethemere
existenceofarelatedpartytransactionmayor
maynotleadtoauditreportmodification.
Answer(b)isincorrectbecausetheperfor
manceofanalyticalproceduresisnot
required.Answer(d)isincorrectbecause
exceptforroutinetransactions,itwill
generallynotbepossibletodetermine
whetherthetransactionwouldhavetaken
place,orwhetheritwasconsummatedon
termsequivalenttoanarmslength
transaction.

150. (d)Therequirementisto
identifythecorrectstatement
concerningrelatedparty
transactions.Answer(d)is
correctbecauseAU334requires
thattheauditorshouldplace
primaryemphasisonthe
adequacyofdisclosure.Answer
(a)isincorrectbecause
ascertainingrightsandobliga
tionsisonlypartoftheauditors
totalresponsibilityandnotthe
primaryemphasis.Answer(b)is
incorrectbecausewhileauditors
attempttodeterminethe
existenceofrelatedparties,this
isnottheprimaryemphasis.
Answer(c)isincorrectbecause
verifyingthevaluationof
relatedpartytransactionswill
oftennotbepossible.
151. (d)Therequirementistoidentify
thecorrectstatementconcerning
relatedpartytransactions.
Answer(d)iscorrectbecauseAU
334requiresthatprocedures
directedtowardidentifying
relatedpartytransactionsshould
beperformed,eveniftheauditor
hasnoreasontosuspecttheir
existence.Answer(a)isincorrect
because,intheabsenceof
evidencetothecontrary,related
partytransactionsneednotbe
assumedtobeoutsidethe
ordinarycourseofbusiness.

Answer(b)isincorrectbecause
theauditorwillnotingeneralbe
abletodeterminewhethera
particulartransactionwouldhave
occurredifthepartieshadnot
beenrelated.Answer(c)is
incorrectbecause,ifproper
disclosuresaremade,therelated
partytransactionsarenotrequired
toberecordedonterms
equivalenttoarmslength
transactions.
152. (c)Therequirementistoidentify
thecircumstanceinwhichan
auditormostlikelywouldmodify
anunqualifiedopinionifthe
entitysfinancialstatements
includeafootnoteonrelated
partytransactions.Answer(c)is
correctbecauseitgenerallywill
notbepossibletodetermine
whetheraparticulartransaction
wasconsummatedonterms
equivalenttothosewithunrelated
parties.Therefore,theauditor
mayberequiredtoexpressa
qualifiedoranadverseopinion
whensuchanunsubstantiated
disclosureisincluded.Answers
(a),(b),and(d)areallincorrect
becausetheyrepresentsituations
thatmaybedisclosedinrelated
partytransactiondisclosures.
C.17.SubsequentEvents
153.(d)Therequirementistoidentifythe
mostlikelyproceduretobeperformedin
obtainingevidenceaboutsubsequent
events.Answer(d)iscorrectbecause
changesinlongtermdebtoccurringafter
yearendmayrequirenotedisclosure.
Answers(a)and(b)areincorrectbecause
auditorswillnotgenerallytestchangesin
employeepayratesafteryearendor
recomputedepreciationexpenseforplant
assetssold.Answer(c)isincorrect
becausepayrollchecksissuednearyear
endmayfrequentlybecashedafteryear
endandtheirinvestigationwillnotin
generalbedirectlyrelatedtoobtaining
evidenceaboutsubsequentevents.See
AU560fortheresponsibilitiesofauditors
withrespecttosubsequentevents.

154

MODULE4RESPONDINGTORISKASSESSMENT

completionoftheauditorsfieldwork.
Answer(c)iscorrectbecausethe
transactiondescribedisatype2subsequent
event(sincetheacquisitionprovided
evidenceofaconditionwhichcameinto
existenceafteryearend)andthereforethe
properaccountingapproachwouldbenote
disclosureratherthanadjustment.Answer
(a)isincorrectbecauseadjustmentsare
onlyappropriatefortype1subsequent
events(eventswhichprovideevidencethat
theconditionwasinexistenceatyearend).
Answer(b)isincorrectbecausetheauditor
doesnotissuefinancialstatementsforthe
client.Answer(d)isincorrectbecausethe
opinionparagraphofthereportneednotbe
modified;ifanyreportmodificationwere
considerednecessary,itwouldbean
explanatoryparagraphemphasizingthe
matter.

154. (c)Therequirementistoidentifytheevent
occurringaftertheissuanceofanauditors
reportthatwouldmostlikelycausethe
auditortomakefurtherinquiriesaboutthe
previouslyissuedfinancialstatements.
Answer(c)iscorrectbecausewhenan
auditorbecomesawareofinformation
whichrelatestothefinancialstatements
previouslyreportedupon,butwhichwas
notknownatthedateofthereport,heor
sheshouldundertaketodeterminewhether
theinformationisreliableandwhetherthe
factsexistedatthedateoftheauditreport;
inthiscircumstanceitseemsthatthelease
transactionsexistedasofthedateofthe
auditreport.Answer(a)isincorrect
becausethenaturaldisasteroccurred
subsequenttotheissuanceoftheaudit
report.Answer(b)isincorrectbecausethe
contingencyhadbeenproperlydisclosed. 158. (d)Therequirementistoidentifya
procedurethatanauditorwouldperformto
Answer(d)isincorrectbecausethesaleof
obtainevidenceabouttheoccurrenceof
thesubsidiaryoccurredsubsequenttothe
subsequentevents.Answer(d)iscorrect
issuanceoftheauditreport.
becauseanauditorwillinquireofofficers
andotherexecutiveshavingresponsibility
155. (d)Therequirementisto
forfinancialandaccountingmatters
determineproperaccountingand
whetheranyunusualadjustmentshavebeen
auditingtreatmentof
madeduringtheperiodfromthebalance
uncollectibilityofanaccount
sheetdatetothedateofinquiry.SeeAU
receivableresultingfroma
560forauditingproceduresperformedto
customersbankruptcyduetoa
identifysubsequentevents.
naturaldisasteroccurringaftera
clientsbalancesheetdate.
Answer(d)iscorrectbecausea
customersmajorcasualtyloss
afteryearendwillresultina
financialstatementnote
disclosurewithnoadjustmentand
noauditreportmodificationdue
toconsistency.
156. (d)Therequirementisto
determineanauditors
responsibilitywhensubsequentto
issuanceofanauditreporta
clientsellsthesharesofamajor
subsidiary.Answer(d)iscorrect
becausenoactionneedbetaken
sincetheeventaroseafterthe
issuanceoftheauditorsreport.
Answers(a),(b),and(c)areall
incorrectbecausetheyoutline
responsibilitieswhicharenot
appropriateinthiscircumstance.
SeeAU561foradiscussionof
auditorresponsibilitywhen
subsequenttotheissuanceofthe
auditorsreporttheauditor
becomesawareofafactthat
existedatthedateofthe
auditorsreport.
157. (c)Therequirementistodeterminethe
auditorsresponsibilitywithrespecttoa
clientacquisitionof25%ofitsoutstanding
capitalstockafteryearendandpriortothe

159.(a)Therequirementistodeterminea
procedurethatanauditorshouldgenerally
performregardingsubsequentevents.
Answer(a)iscorrectbecausethe
ProfessionalStandardsstatethattheauditor
generallyshouldcomparethelatest
availableinterimfinancialstatementswith
thefinancialstatementsbeingaudited.See
AU560forthisandotherrequirements.
Answer(b)isincorrectbecausesecond
accountsreceivableconfirmationrequests
willbesentwellbeforetheauditors
reviewofsubsequentevents.An
swer(c)isincorrectbecausethe
communicationofmaterialweaknessesisnot
asubsequenteventprocedure.See
AU325fortherequiredcommunication
of significantdeficiencies. Answer (d)
is incorrect because auditorsgenerally
only receive cutoff statements for the
periodimmediatelyafteryearend,not
formultiplemonths.

C.18.OmittedProceduresDiscovered
AftertheReport
Date
160. (b)Therequirementistoidentify
anauditorsresponsibilitywhena
clientrefusestoadjustrecently
issuedfinancialstatementsfora
subsequenteventrelatedtothe
bankruptcyoftheentitysprincipal
customer.Answer(b)iscorrect
becauseiftheclientrefusestomake
disclosures,AU

561 requirestheauditortonotifyeach
memberoftheboardofdirectors
ofsuchrefusalandthatheorshe
willtakestepstopreventfuture
relianceupontheauditreport.
Ordinarilytheauditorwillthen
notifytheclientsandregulatory
agenciesthatthereportshould
nolongerbeassociatedwiththe
financialstatements,andwhen
possible,notifypersonsknownto
berelyinguponthefinancial
statements.Answer(a)is
incorrectbecauseitislesslikely
thatallofthecreditorswillbe

informed.Answer(c)isincorrect
becausethefinancialstatements
aretheresponsibilityofmanage
ment,andtheauditorwillnot
reviseordistributethem.Answer
(d)isincorrectbecauseno
revisedreportwillbeissued.
161. (c)Therequirementistoidentifythe
circumstanceinwhichanauditorwhofinds
thatheorshehasomittedasubstantive
procedureatthetimeofanauditmay
decidenottoapplythatprocedure.Answer
(c)iscorrectbecausewhenresultsofother
procedurestendtocompensateforthepro
cedureitmaybeomitted.Answer(a)is
incorrectbecause,evenwhendistribution
ofthefinancialstatementhasbeenlimited
tomanagementandtheboardofdirectors,
itmaybenecessarytoperformthe
procedure.Answer(b)isincorrectbecause
thetypeofreportissueddoesnotaffectthe
needtoperformtheprocedure.Answer(d)
isincorrectbecausedelaysbytheclientin
providingdataarenotanacceptablereason
nottoperformthatprocedure.
162. (b)Therequirementisto
determineprofessional
responsibilitywhen,subsequent
toissuanceofanauditreport,an
auditorhasdeterminedthata
necessaryauditprocedurehas
beenomitted.Answer(b)is
correctbecauseanauditormust
applyproceduresthatwould
provideasatisfactorybasisfor
theopinionissued.Answer(a)is
incorrectbecausestockholders
neednotbeinformedatthispoint
thattheauditreportshouldnotbe
reliedupon.Answer(c)is
incorrectbecausetheauditors
reportwillnotbereissuedunless
thefinancialstatementsare
restated.Answer(d)isincorrect
becausetestsofcontrolswillnot
compensatefortheomitted
procedure.SeeAU390for
overallproceduresrelatingto
consideringomittedprocedures
afteranauditreporthasbeen
issued.

MODULE4RESPONDINGTORISKASSESSMENT
163.(c)Therequirementistoidentifyan
auditorsfirstresponsibilityupon
discoveringsixmonthsaftercompletionof
anauditthatengagementpersonnelfailed
toconfirmseveraloftheclientsmaterial
accountsreceivablebalances.Answer(c)is
correctbecausetheauditormustfirst
assesstheimportanceoftheomitted
procedurestotheauditorsabilityto
supportthepreviouslyexpressedopinion.
Answers(a)and(b)areincorrectbecause
priortoattemptinganysuchconfirmation
orperformingalternativeprocedures,an
assessmentofwhethertheproceduresare
neededistobeperformed.Answer(d)is
incorrectbecauseaconsiderationof
whetheranyoneisrelyingon,orislikelyto
relyon,theunqualifiedopinionismade
afterassessingtheimportanceofthe
omittedprocedure.
D. CompletingtheAudit
164. (c)Therequirementisto
determinetheprocedureleast
likelytobeperformedbeforethe
balancesheetdate.Answer(c)is
correctbecausethesearchfor
unrecordedliabilitiesrelies
uponareviewofdocuments
unrecordedatyearend,aswell
asinspectionofpurchasesand
disbursementsrecordedafter
yearend,todeterminewhethera
propercutoffoftransactions
betweenperiodshasoccurred.
Answer(a)isincorrectbecause
auditorsareabletotestinternal
controlovercashpriortoyear
end.Answers(b)and(d)are
incorrectbecauseincasesof
goodinternalcontrol,
receivablesmaybeconfirmed
andinventoryobservedpriorto
yearend.
165. (c)Therequirementisto
determinethemostlikelytypeof
transactionthatwouldbe
detectedbyanauditorsreview
ofaclientssalescutoff.Answer
(c)iscorrectbecausethe
auditorsreviewwillincludea
studyofsalesrecordedlatein
DecemberandearlyinJanuary.
Thiswillbeaccomplishedby
reviewingtheperiodwhenthe
revenuewasearnedbyshipment
ofgoodsorperformanceofser
vices,ascomparedtotheperiod
inwhichtherevenuewas
recorded.Accordingly,the
reviewofsalesrecordedin
Januarymayrevealunrecorded
salesfortheprecedingyear.

155

Answer(a)isincorrectbecause
shipmentslackingsalesinvoices
andshippingdocumentswillbe
verydifficulttoidentify;also,
thisreplyismorelimitedthan
answer(c).Answer(b)is
incorrectbecauseexcessive
writeoffsofaccountsreceivable
willnotusuallybedetectedwhen
testingthesalescutoff.Answer
(d)isincorrectbecauseitis
unlikelythatlappinginthe
applicationofcashreceiptswill
bedetectedbysalescutoff
testing.Morefrequently,proce
duressuchasconfirmations,
analyticalprocedures,andan
analysisofdepositticketsreveal
lapping.

166. (b)Therequirementistoidentifythe
assertionbeingtestedbycutofftests
designedtodetectcreditsalesmadebefore
theendoftheyearthathaveimproperly
beenrecordedinthesubsequentyear.
Answer(b)iscorrectbecausethe
completenessassertiondealswithwhether
alltransactionshavebeenincludedinthe
properperiod.Answer(a)isincorrect
becausethepresentationordisclosure
assertiondealswithwhetherparticular
componentsofthefinancialstatementsare
properlyclassified,described,and
disclosed.Answer(c)isincorrectbecause
therightsandobligationsassertiondeals
withwhetherassetsaretherightsofthe
entityandliabilitiesaretheobligationsof
theentityatagivendate.Answer(d)is
incorrectbecausetheexistenceor
occurrenceassertiondealswithwhether
assetsorliabilitiesoftheentityexistata
givendateandwhetherrecorded

transactionshaveoccurredduringa
givenperiod.Inthisquestion,the
existenceassertionwouldbetestedif
theauditorsampledfromsalesrecorded
priortoyearendtodeterminewhether
thesaleoccurredbeforeorafteryear
end.
D.1.ProceduresCompletednearthe
EndoftheAudit
167.(d)Therequirementistoidentifythe
procedureanauditorwouldmostlikely
performduringtheoverallreviewstageof
formulatinganopiniononanentitys
financialstatements.Answer(d)iscorrect
becauseaconsiderationofresultsrelating
totheassessmentoftheriskofmaterial
misstatementduetofraudmayrevealthat
theaudithasinadequatelyaddressedthat
risk;insuchacaseadditionalprocedures
wouldberequired.Answer(a)isincorrect
becausesuchassurancefromtheentitys
attorneyisordinarilyobtainedpriortothe
overallreviewstageofanaudit.Answer
(b)isincorrectbecausetheverificationof
theaccuracyoftheproofofcashis
ordinarilyperformedpriortotheoverall
reviewandbecauselittleverificationofthe
bankcutoffstatementisusuallynecessary
sinceitisordinarilyreceiveddirectlyby
theauditorfromthebank.Answer(c)is
incorrectbecausesuchprovisionsforthe
safeguardingofassetsmaybecorrected

wellaftertheconclusionoftheaudit.
F.OperationalAuditing
168. (a)Therequirementistoidentifythe
correctstatementwithrespecttothe
primaryorientationofoperationalauditing.
Answer(a)iscorrectbecauseoperational
auditsdealprimarilywithevaluatingthe
efficiencyandeffectivenesswithwhich
operationsfunction,oftenwiththe
intentionofmakingimprovementsto
accomplishthegoalsofmanagement.
Answers(b)and(c)areincorrectbecause
financialstatementauditsareoriented
towardsuchdeterminations,not
operationalaudits.Answer(d)isincorrect
becauseexaminationsofinternalcontrol
arenotperformedonoperationalaudits.
169. (d)Therequirementistoidentifyatypical
objectiveofanoperationalaudit.Answer
(d)iscorrectbecauseoperationalaudits
typicallyaddressefficiencyandeffective
ness.Answer(a)isincorrectbecausewhile
theadequacyofinternalcontroldesignmay
beaddressedduringanoperationalaudit,
thisislesscompletethananswer(d).An
swer(b)isincorrectbecauseoperational
auditsmayormaynotberelatedto
compliancewithgenerallyacceptedgov
ernmentalauditingstandards.Answer(c)
isincorrectbecausefinancialstatement
audits,notoperationalaudits,address
whetherresultsofoperationsarefairly
presented.

156

MODULE4

RESPONDINGTORISKASSESSMENT

Authoritative
Literature

Help

SOLUTIONSTOSIMULATIONS

TaskBasedSimulation1
AuditInvestmentsand
AccountsReceivable

1.

A
u
I

2.

3.

T
E

1.

(E)Theverificationoftransfersfromthecurrenttothenoncurrentinvestmentportfoliowill
provideassurancethattheinvestmentsareproperlyclassifiedinthefinancialstatements.

4.

A
u
A

5.

6.

7.

A
E

2.

(F)Positiveconfirmationrepliesasofthebalancesheetdateforinvestmentsheldby
independentcustodianswillprovideassurancethattherecordedinvestmentsarein
factownedbytheauditclient.

3.

(D) Because trading investments should be valued at fair market value,


determining whether any impairments in the price of investments have been
recordedwillprovideassurancethatinvestmentsareproperlyvalued.

7.

4.

(B) Performance of sales cutoff tests will provide assurance that sales
transactionsandtherelatedreceivablesarerecordedintheproperperiod.Thus,
salescutofftestswillprovideassurancethatallamountsowedtotheentityatthe
balancesheetdatearerecordedinthatperiod.

5.

(E)Areviewofloanagreements,payingspecialattentiontoaccountsreceivable
thathavebeenfactored,willprovideassuranceastowhethertheentityhasalegal
righttoallaccountsreceivableatthebalancesheetdate.

6.

(C) An analysis of the aged trial balance for significant past due accounts will
provideevidencewithrespecttoaccountsthatmaybeuncollectible.Accordingly,
theprocedurewilladdressthenetrealizablevalueofaccountsreceivable.

(F)Becausematerialamountsduefromofficersandemployeesshouldbesegregatedfromother
receivables,areviewofthetrialbalanceforamountsduefromofficersandemployeeswill
provideassurancethataccountsreceivableareproperlydescribedandpresentedinthefinancial
statements.
T
R
e
A
u
L
i

1.
2.

W
h
E

MODULE4RESPONDINGTORISKASSESSMENT
TaskBased
Simulation3
IllegalActsand
Related
Party
Transactions

Authoritati
ve
Literature
Help

157

IA
RP

Statement
1.

Anotepayablehasaninterestratewellbelowthemarketrateatthetimeatwhichthe
loanwasobtained.

2.

Thecompanyhasaproperlydocumentedloanbuttheloanhasnoscheduledrepayment
terms.

3.

Unexplainedpaymentshavebeenmadetogovernmentofficials.

4.

Thecompanyexchangedcertainrealestatepropertyforsimilarrealestateproperty.

5.

Largecashreceiptsnearyearendhavebeenreceivedbasedoncashsalesforwhich
thereisnodocumentation.

TaskBasedSimulation4
AccountsReceivable
Confirmations

4.

S
t
T
h
A

S
e
C

5.

6.

A
b
A
u
A

1.
2.
3.

7.
8.
9.

T
h
10. A
c
T
A
Iu
n

L
i

Authoritative

Literature

Help

S
t
1.

W
i

2.

W
h
A

3.
4.

A
u

158

5.
6.

S
t
W
h
I

7.

I
n

8.

9.

10. A
t

MODULE4RESPONDINGTORISKASSESSMENT

TaskBasedSimulation6
Research
Authoritative
Literature

Help

(A) (B) (C) (D) (E) (F) (G)(H)


1. WhichtitleoftheProfessionalStandardsaddressesthisissueandwillbe
helpfulinrespondingtoher?
2. Entertheexactsectionandparagraphwithhelpfulinformation.
TaskBasedSimulation7
Bank
Reconciliation

1.

Authoritative
Literature

Help

(D, I) The balance per bank may be traced to a standard form used to confirm
accountbalanceinformationwithfinancialinstitutionsandtothecutoffstatement
(onwhichwillappearthebeginningbalance).

2.

(A, G, H, I, J) One of the deposits in transit does not appear onthe cutoff bank
statement(the9/29/05depositfor
$4,500).Accordingly,thatdepositshouldbetracedtothecashreceiptsjournal(procedureA),
thereasonforthedelayshouldbeinvestigated(procedureG),andsupportingdocuments
shouldbeinspected(procedureH).Bothdepositsshouldbetracedtoandfromthebank
reconciliationandthecutoffstatement(proceduresIandJ).
3.

4.

(E)Thecreditmemofromthebankforthenotecollectedshouldbeinvestigated.
5.

6.

(B,G,H,I,J)Oneofthechecksdoesnotappearonthecutoffstatement(check
#988dated8/31/05for$2,200).Accordingly,thatcheckshouldbetracedtothe
cashdisbursementsjournal(procedureB),thereasonforthedelayshouldbein
vestigated(procedureG),andsupportingdocumentsshouldbeinspected
(procedureH).Allchecksshouldbetracedtoandfromthebankreconciliation
andcutoffstatement(proceduresIandJ).
(E,I)Thecreditforthecheckthat was charged bythebankforanincorrect
amountshouldbeinvestigatedonboththebankcreditmemoandonthecutoff
statement.

(C)Theonlysourceofthebalanceperbooksisthecashgeneralledgeraccountasof
9/30/05.

TaskBasedSimulation8
Audit
Procedures

Authoritative
Literature

Help

1.

(E)Kitinginvolvesmanipulationscausinganamountofcashtobeincludedsimultaneouslyin
thebalanceoftwoormorebankaccounts.Kitingschemesarebasedonthefloatperiodthe
timenecessaryforacheckdepositedinonebanktoclearthebankonwhichitwasdrawn.To
detectkiting,abanktransferscheduleispreparedtodeterminewhethercashisimproperly
includedintwoaccounts.

2.

(D)Acomparisonoftheclearedcheckstotheyearendbankreconciliationwillidentifychecks

332

22

thatwerenotmaileduntilafterthefirstweekofthesubsequentyearbecausemostofthose
checkswillnotbereturnedwiththecutoffstatementandwillappeartoremainoutstandingan
abnormallylongperiodoftime.
3.

(H)Amongthetermsconfirmedforsuchaborrowingarrangementwillbeinformation
onliens.

MODULE4RESPONDINGTORISKASSESSMENT

4.

(K,L)Areplytothesecondrequest,orinformationfromthecreditagency,may
confirm the existence of the new customer. Also, examination of shipping
documentswillrevealwherethegoodswereshipped,andordinarilytowhich
party.

5.

(P)Observingthepayrollcheckdistributiononasurprisebasiswillassistin
detectionsincetheauditorwillexaminedetailsrelatedtoanypaychecksnot
pickedupbyemployees.

6.

(Q)Vouchingdatainthepayrollregistertodocumentauthorizedpayrateswill
revealsituationsinwhichanemployeeisearningincomeataratethatdiffersfrom
theauthorizedrate.

7.

(A)Acomparisonofthedetailsofthecashreceiptsjournaltothedetailsonthe
dailydepositslipswillrevealacircumstancesincethedetailswillhavebeen
postedtoaccountsduringthelastweekoftheyearunderaudit.

8.

(U)Whenvouchersareprocessedformerchandisenotorderedorreceived,there
willbenosupportingpurchaseordersandreceivingreportsandthiswillalertthe
auditortotheproblem.

9.

(B)Scanningthedebitstothefixedassetaccountsandvouchingselectedamounts
willrevealrepairsthathaveimproperlybeencapitalized.

10. (A,J)Lappinginvolvesconcealingacashshortagebydelayingtherecordingof
journalentriesforcashreceipts.Sincelappingincludesdifferencesbetweenthe
detailsofpostingstothecashreceiptsjournalandcorrespondingdepositslips,com
paringtheserecordswillrevealit.Also,confirmationrequestsmayidentifylapping
whenpaymentsofreceivables(asindicatedbyconfirmationreplies)appeartohave
takentoomuchtimetobeprocessed.
11. (E)Increasingcashbydrawingacheckinthismannerisaformofkiting(see
answer 1). Preparation of a bank transfer schedule will assist the auditor in
identifyingsuchtransactions.
12. (J,L)Confirmationswillidentifyoverstatedaccountsreceivablewhencustomers
disagreewiththerecordedbalancedue.Also,therelatedoverstatedsaleswillnot
haveshippingdocumentsindicatingthatashipmenthasoccurred.
TaskBasedSimulation9
SubstantiveProceduresfor
Property,PlantandEquipment

1.

2.

5.

D
i
D
i
D
i
D

6.

3.
4.

Authoritative

Literature

Help

159

1.

(D)TherequirementistoidentifythebestsubstantiveproceduretodeterminethatDietWebhas
legalrightstothepropertyandequipmentacquiredduringtheyear.Answer(D)iscorrect
becausethedeedsandtitleinsurancecertificateswillprovideevidencethatthecompanyowns
thepropertyandequipment.
2.

(G)Therequirementistoidentifythebestsubstantiveproceduretodeterminethat
DietWebrecordedpropertyandequipmentactuallyexists.Answer(G)iscorrect
becausephysicallyexaminingtheitemswillprovidethisevidence.

3.

(B)Therequirementistoidentifyasubstantiveproceduretotestwhether
DietWebsnetpropertyandequipmentwasproperlyvaluedatthebalancesheet
date.Answer(B)iscorrectbecausereviewingdepreciationexpense(andthe
relatedallowancefordoubtfulaccounts)willindicatewhetherthenetvalueis
proper.

4.

(E)TherequirementistoidentifyhowanauditormaytestwhetherDietWeb
recordedallpropertyandequipmentassetsthatwerepurchasedduringtheyear.
Answer(E)iscorrectbecauseperformanceofacutofftestwillindicatewhether
additionsmadeduringtheyearwereproperlyrecorded.

5.

(G)TherequirementistoidentifyasubstantiveproceduretotestwhetherDietWeb
recordedallpropertyretirementsthatoccurredduringtheyear.Answer(G)is
correctbecauseexaminingthemajorrecordedpropertyandequipmentitemsmay
identifysituationsinwhichanitemhasbeenretired(oftenduetoitsreplacement)
andisnolongeravailableforphysicalexamination.

MODULE4RESPONDINGTORISKASSESSMENT

160

6.(H)TherequirementistoidentifyasubstantiveproceduretotestwhetherDietWebcapitalizedacquisitions.Answer(H)
iscorrectbecauseananalysisofrepairsandmaintenanceaccountswillrevealasituationinwhichsuchanacquisitionhas
inappropriatelybeenrecordedasanexpenseandnotcapitalized.
TaskBasedSimulation10
RiskAnalysis
Authoritative
Literature

Help

Riskidentified
1.

2.

TWDmaynothavelegaltitletocertain
property and equipment recorded as
acquiredduringtheyear.

Recordedpropertyandequipmentacquisitions
mayincludenonexistentassets.
3.

Recordednetpropertyandequipmentare
forproperamounts.

Explanationofsolutions

Relatedfinancialstatementassertion
(A)(B)(C)(D)(E)

1.

Auditprocedures
(F)(G)(H)(I)(J)(K)(L)

(C,I)Legaltitlesrelatesmostdirectlytotheclienthavingrightsovertheassets;anexaminationofdeedsandtitle
insurancecertificateswillprovideassurancethattheclienthasalegalrighttothepropertyandequipmentacquired
duringtheyear.

1.

2.

3.

D
E

1.
2.

(C)Becauseownershipinformationisincludedoninvoices,examiningvendorsinvoiceswillprovideevidencethat
thecompanylegallyownsinventoryrawmaterialitems.

(F)Selectingasampleofitemsandagreeingtothephysicalcountsheetwillestablishthatthoseitemshavebeenincludedinthe
count,andthiswilladdresscompletenessofinventories.
3.

4.

5.

6.

N
E

(C)Examiningvendorsinvoiceswillprovideevidenceastothecostoftheinventoryitems.

4.(E)WhenexaminingtheJanuary20X9salesjournaltheauditormayidentifysalesthatshouldhavebeenrecorded
inDecemberof20X8.

MODULE4RESPONDINGTORISKASSESSMENT

5.

(F)Auditorswillgenerallyinquireofthecreditmanagerastohisorherbeliefsconcerningthecollectabilityof
cariousreceivables,andtherebyobtainevidenceonthenetrealizablevalueofaccountsreceivable.Oftenonewould
expectananswersuchasanalyzeagingofreceivables.Sincethatwasnotpresenthere,(F)isthebestreply.

6.

(G) Adisclosurechecklistisusedtodeterminethatthedisclosurerequirementsofgenerallyacceptedaccounting
principleshavebeenmet.

TaskBasedSimulation12
InventoryAuditObjectives
andProcedures

1.

2.

3.

4.

D
e
D

5.

161

Authoritative

Literature

Help

1.

(A)Therequirementistoidentifyaprocedureforidentifyinginventorytransactionsinvolvingrelatedparties.Thebest
procedurelistedisreviewminutesofBoardofDirectorsmeetingandcontracts,andtomakeinquiriesofmanagement;these
areallproceduresusedtoidentifyrelatedpartytransactions.
2.

(E)Therequirementsistoidentifyaprocedurefordeterminingthatitemscountedareincludedinthecountsheet.
Thebestprocedureistoreconcilephysicalcountstoperpetualrecordsandgeneralledgerbalancesandinvestigate
significantfluctuations.Thiswillallowtheauditortoidentifyitemsnotincluded.

3.

(F)Therequirementistodeterminethatapropercutoffofpurchaseshasoccurredatyearend.Thebestprocedure
listedistoreviewsalesafteryearendandopenpurchaseordercommitmentsthiswillhelpdeterminewhether
transactionsrecordedafteryearendshouldhavebeenrecordedpriortoyearend.Anotherprocedure,notlisted,isto
performtheprocedureontransactionsrecordedrightbeforeyearend.

4.

(C) Therequirementistodeterminethatthefinancialstatementsincludeproperdisclosuresrelatingtoinventory.
AnswerCiscorrectbecauseinventoriespledgedunderloanagreementshouldbedisclosed.

5.

(G)Therequirementistodeterminethatrecordedinventoryisowned.Examininginvoicesisbestbecauseinvoice
willpresentinformationonthepurchase.

TaskBasedSimulation13
Spreadsheet
Completion

Authoritative

Literature

1
2
3
4
5
6
7
8
9
10
11
12
13
14
15

A
Holiday Manufacturing Co.
Balance Sheet
December 31, 20X1

Cash
Receivables
Inventory
Total current assets

A
Income Statement
Year ended December 31, 20X1

Selling expenses
General and admin. exp.
Operating income
Less: interest expense

$160,000
100,000
140,000
400,000

Long-term debt
Common stock
Retained earnings
Total liabilities and capital

$2,000,000

MODULE
4

Accounts Payable
Notes payable
Other current liabilities
Total current liabilities

760,000

Total assets

Sales
Cost of goods sold
Materials
Labor
Overhead
Gross margin

$240,000
400,000
600,000
$1,240,000

Plant and equipmentnet

162

16
17
18
19
20
21
22
23
24
25
26
27
28
29

Help

350,000
750,000
500,000
$2,000,000

RESPONDINGTORISKASSESSMENT
C

$3,000,000
800,000
700,000
300,000

240,000
300,000

1,800,000
1,200,000

540,000
660,000
40,000

30
31
32
33
34
35
36
37
38
39
40
41
42
43
44
45

Income before taxes


Less: federal income taxes
Net income

620,000
220,000
$400,000

Ratios
Current ratio
Quick ratio
Accounts receivable turnover
Inventory turnover
Total asset turnover
Gross margin %
Net operating margin %
Times interest earned
Total debt to equity %

12/31/X1
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)

Ratio
1.

(H)

2.

(E)

5.

(D)

6.

(T)

Grossmargin
percentage=

7.

(P)

Netoperating
margin%=

8.

(N)

Currentratio=

SpreadsheetFormula

Currentassets
Currentliabilities

Quickassets*
Currentliabilities
*
Cash+Accountsreceivable.Alsomarketable
securitieswouldbeincludedifthecompanyowned
any.
Sales
3.
(K)Accountsreceivable
Accountsreceivable
turnover=
Costofgoodssold
4. (G)
Inventory
Inventoryturnover=
Quickratio=

Totalassetturnover=

Timesinterestearned=

12/31/X0
2.5
1.3
5.5
2.5
1.2
35%
25%
10.3
50%

Sales
Totalassets
Grossmargin
Sales
Operatingincome
Sales
Operatingincome
Interestexpense

=C8/G8
=(C5+C6)/G8

Calculation
$1,240,000
$400,000
$240,000+$400,000
=
$400,000

=3.1

$1,240,000
$400,000

=3.1

9. (U)

=E19/C6

$3,000,000
$400,000

=7.5

=E23/C7

$1,800,000
$600,000

=3.0

=E19/C13

$3,000,000
$2,000,000

=1.5

=E24/E19

$1,200,000
$3,000,000

=40%

=E28/E19

$660,000
$3,000,000

=22%

=E28/E29

$660,000
$40,000

=16.5

Totaldebttoequity
percentage=

Totaldebt*
Ownersequity**

*Totalcurrentliabilities+Longtermdebt.
**Commonstock+Retainedearnings

=(G8+G10)/(G11+G12)

$400,000+$350,000
$750,000+$500,000

$750,000

=60%

$1,250,000

MODULE5REPORTING

163

REPORTING

thattheclientnotduplicatetherestricteduse
reportforanypurposes.
d. An auditor is not responsible for
controlling the distribution of such
reports.

MULTIPLECHOICEQUESTIONS(1164)

1.

a.
b.
c.
d.

Theobjectiveofanaccountantscompilationof
thefinancialstatementsofanonissuer
(nonpubliccompany)istoprovidewhattypeof
assurance?
Absoluteassurance.
Limitedassurance.
Noassurance.
Reasonableassurance.

2.

Theexistenceofauditriskisrecognizedbythe
statementintheauditorsstandardreportthat
theauditor
a. Obtainsreasonableassuranceabout
whetherthefinancialstatementsarefree
ofmaterialmisstatement.
b. Assessestheaccountingprinciplesused
andalsoevaluatestheoverallfinancial
statementpresentation.
c. Realizessomematters,either
individuallyorintheaggregate,are
importantwhileothermattersarenot
important.
d. Isresponsibleforexpressinganopinion
onthefinancialstatements,whichare
theresponsibilityofmanagement.

3.

Whenanaccountantperformsmorethanonelevel
ofservice(forexample,acompilationanda
review,oracompilationandanaudit)
concerningthefinancialstatementsofanonissuer
(nonpublic)entity,theaccountantgenerally
shouldissuethereportthatisappropriatefor
Thelowestlevelofservicerendered.
Thehighestlevelofservicerendered.
Acompilationengagement.
Areviewengagement.

a.
b.
c.
d.
4.

Which of the following is least likely to be a


restrictedusereport?
a. A report on internal control significant
deficienciesnotedinanaudit.
b. A required communication with the
auditcommittee.
c. Areportonfinancialstatementsprepared
followingacomprehensivebasisof
accountingotherthangenerallyaccepted
accountingprinciples.
d. Areportoncompliancewithaspectsof
contractualagreements.

5.

Whichofthefollowingstatementsiscorrect
concerninganauditorsresponsibilityfor
controllingthedistributionbytheclientofa
restrictedusereport?
a. Anauditormustinformtheclientthata
restrictedusereportisnotintendedfor
distributiontononspecifiedparties.
b. Whenanauditorisawarethataclient
hasdistributedarestrictedusereportto
inappropriatethirdparties,theauditor
shouldimmediatelyinformtheclientto
ceaseanddesist.
Anauditorcontrolsdistributionthroughinsisting

c.

6.

Which of the following statements is a basic


elementoftheauditorsstandardreport?

a.

b.

7.

a.
b.
c.

8.

a.
b.
c.
d.

9.

Thedisclosuresprovidereasonable
assurancethatthefinancialstatements
arefreeofmaterialmisstatement.
Theauditorevaluatedtheoverallinternalcontrol.
c. Anauditincludesassessingsignificant
estimatesmadebymanagement.
d. Thefinancialstatementsareconsistent
withthoseofthepriorperiod.
InMay2009,anauditorreissuestheauditors
reportonthe2007financialstatementsata
continuingclientsrequest.The2007financial
statementsarenotrestatedandtheauditordoes
notrevisethewordingofthereport.Theauditor
should
Dualdatethereissuedreport.
Usethereleasedateofthereissuedreport.
Usetheoriginalreportdateonthereissuedreport.
d. Usethecurrentperiodauditorsreport
dateonthereissuedreport.
Whichparagraphsofanauditorsstandardreport
onfinancialstatementsshouldrefertogenerally
acceptedauditingstandards(GAAS)and
generallyacceptedaccountingprinciples
(GAAP)?
GAAS
Opening
Scope
Scope
Opening

GAAP
Scope
Scope
Opinion
Opinion

Anauditorexpressedaqualifiedopiniononthe
prioryearsfinancialstatementsbecauseofalack
ofadequatedisclosure.Thesefinancialstatements
areproperlyrestatedinthecurrentyearand
presentedincomparativeformwiththecurrent
yearsfinancialstatements.Theauditorsup
datedreportontheprioryearsfinancial
statementsshould
a. Beaccompaniedbytheauditorsoriginal
report on the prior years financial
statements.
b. Continue to express a qualified
opinionontheprioryearsfinancial
statements.
c.

Makenoreferencetothetypeof
opinionexpressedontheprioryears
financialstatements.

d.

Expressanunqualifiedopiniononthe
restated financial statements of the
prioryear.

10. Anauditorsresponsibilitytoexpressanopinion
onthefinancialstatementsis
a. Implicitly represented in the auditors
standardreport.
b. Explicitly represented in the opening
paragraph of the auditors standard
report.
c. Explicitly represented in the scope paragraph of
theauditorsstandardreport.
d. Explicitly represented in the opinion
paragraph of the auditors standard
report.
11. Whichofthefollowingphrasesshouldbe
includedintheopinionparagraphwhenanauditor
expressesaqualifiedopinion?

a.
b.

Whenreadin
conjunctionwith
NoteX
Yes
No

Withtheforegoing
Explanation
No
Yes

MODULE5REPORTING

164

a.

c.
d.

Yes
No

12. Howdoes anauditormake


the following representations
when issuing the standard
auditorsreportoncomparative
financialstatements?

a.
b.
c.
d.

Examinationof
evidenceona
testbasis
Explicitly
Implicitly
Implicitly
Explicitly

Consistent
applicationof
accountingprinciples

13. The fourth standard of


reporting requires the
auditors report to
contain either an
expression of opinion
regarding the financial
statements taken as a
wholeoranassertionto
theeffectthatanopinion
cannot be expressed.
The objective of the
fourth standard is to
prevent
a. An auditor
from
expressing
different
opinions on
each of the
basic financial
statements.
b. Restrictionson
thescopeofthe
audit,whether
imposedbythe
clientorbythe
inabilityto
obtainevidence.
c. Misinterpretatio
nsregardingthe
degree of
responsibility
the auditor is
assuming.
d. An auditor
fromreporting
on one basic
financial
statement and
nottheothers.
14. Whichofthefollowing
bestdescribesthe
referencetothe
expressiontakenasa
wholeinthefourth
generallyaccepted
auditingstandardof
reporting?

b.

c.

d.

Itapplies
equallytoa
completeset
offinancial
statements
andtoeach
individual
financial
statement.
It applies only
to a complete
set of financial
statements.
It applies
equally to
each item in
each
financial
statement.
It applies
equallytoeach
material item
in each fi
nancial
statement.

15. Wilson,CPA,completedthe
fieldworkoftheauditofAbcos
December31,2009financial
statementsonMarch6,2010.A
subsequenteventrequiring
adjustmenttothe2009financial
statementsoccurredonApril10,
2010,andcametoWilsons
attentiononApril24,2010.Ifthe
adjustmentismadewithout
disclosureoftheevent,Wilsons
reportordinarilyshouldbedated
a. March6,2010.
b. April10,2010.
c. April24,2010.
d. Usingdualdating.
16. Anauditorissuedanauditreport
thatwasdualdatedforasubsequent
eventoccurringafterthecompletion
offieldworkbutbeforeissuanceof
theauditorsreport.Theauditors
responsibilityforeventsoccurring
subsequenttothecompletionof
fieldworkwas
a. Extended to
subsequent
events
occurring
through the
date

of
issuanceofthe
report.
b. Extended to
include all
events
occurringsince
the completion
offieldwork.
c. Limited to the specific
eventreferenced.

d.

Limited to
include only
events
occurring up to
the date of the
last subsequent
event
referenced.

17. Afinancialstatement
auditreportissuedforthe
auditofanissuer(public)
companyconcludesthat
thefinancialstatements
follow
a. Generally

accepted
accountingprinciples.
b. Public
Company
Accounting
Oversight
Board
standards.
c. Generally

accepted
auditingstandards.
d. International accounting
standards.
18. Whichofthe
followingisnot
correctconcerning
information
includedinanaudit
reportoffinancial
statementsissued
underthe
requirementsofthe
PublicCompany
Accounting
OversightBoard?
a.

Thereport
shouldinclude
thetitleReport
ofIndependent
Registered
Public
Accounting
Firm.

b.

The report
shouldrefer
to the
standards
of the
PCAOB.
Thereport
shouldinclude
aparagraph
referringtothe
auditorsreport
oncompliance
withlawsand
regulations.
The report
should
contain the
city and
state or
country of
the office
that issued
thereport.

c.

d.

19. Aprincipalauditor
decidesnottorefertothe
auditofanotherCPAwho
auditedasubsidiaryofthe

principalauditorsclient.
Aftermakinginquiries
abouttheotherCPAs
professionalreputation
andindependence,the
principalauditormost
likelywould
a. Addan
explanatory
paragraphto
theauditors
report
indicatingthat
thesubsidiarys
financial
statementsare
notmaterialto
the
consolidatedfi
nancial
statements.
b. Documentinthe
engagement
letter that the
principal
auditor assumes
no
responsibility
for the other
CPAsworkand
opinion.
c.

Obtainwritten
permissionfrom
theotherCPAto
omitthe
referenceinthe
principal
auditorsreport.

d.

Contact the
other CPA
andreviewthe
audit pro
grams and
working
papers
pertaining to
the sub
sidiary.

20. The

introductory
paragraphofanauditors
report contains the
followingsentences:
Wedidnotauditthefinancial
statementsofEZInc.,a
whollyownedsubsidiary,
whichstatementsreflecttotal
assetsandrevenues
constituting27%and29%,
respectively,oftherelated
consolidatedtotals.Those
statementswereauditedby
otherauditorswhosereport
hasbeenfurnishedtous,and
ouropinion,insofarasit
relatestotheamounts
includedforEZInc.,isbased
solelyonthereportofthe
otherauditors.

Thesesentences
a. Indicate a division of
responsibility.
b. Assume responsibility for
theotherauditor.
c. Require a departure from
anunqualifiedopinion.
d. Are an improper form of
reporting.
21. Inwhichofthe
followingsituations
wouldanauditor
ordinarilyissuean
unqualifiedauditopinion
withoutanexplanatory
paragraph?
a. The auditor wishes to
emphasize that the entity
had significant related
partytransactions.
b. Theauditor
decidestomake
referencetothe
reportofanother
auditorasa
basis,inpart,for
theauditors
opinion.

MODULE5REPORTING
c.

d.

165

Theentity
issuesfinancial
statementsthat
presentfinancial
positionand
resultsof
operations,but
omitsthe
statementof
cashflows.

Theauditorhassubstantial
doubtabouttheentitys
abilitytocontinueasa
goingconcern,butthecir
cumstancesarefully
disclosedinthefinancial
statements.

22. An auditor may issue the


standardauditreportwhenthe
a. Auditor refers to the
findingsofaspecialist.
b. Financialstatementsare
derivedandcondensed
fromcompleteaudited
financialstatementsthat
arefiledwitharegulatory
agency.
c. Financial
statements are
prepared on
the cash re
ceipts and
disbursements
basis of
accounting.
d. Principal
auditor
assumes
responsibilit
y for the
work of
another
auditor.
23. Intheauditorsreport,the
principalauditordecides
nottomakereferenceto
anotherCPAwhoaudited
aclientssubsidiary.The
principalauditorcould
justifythisdecisionif,
amongother
requirements,the
principalauditor
a. Issues an
unqualified
opinion on the
consolidated
financial
statements.
b. Learns that
theotherCPA
issued an
unqualified

c.

d.

opiniononthe
subsidiarys
financial
statements.
Is unable to
review the
auditprograms
and working
papers of the
otherCPA.
Issatisfiedasto
the
independence
and professional
reputationofthe
otherCPA.

24. Whenfinancial
statementsofacompany
thatfollowsGASB
standardswouldbe
misleadingdueto
unusualcircumstances
departfromthose
standards,theauditor
shouldexplainthe
unusualcircumstancesin
aseparateparagraphand
expressanopinionthatis
a. Unqualified.
b. Qualified.
c. Adverse.
d. Qualified or adverse,
dependingonmateriality.
25. Anauditorconcludesthat
thereissubstantialdoubt
aboutanentitysability
tocontinueasagoing
concernforareasonable
periodoftime.Ifthe
entitysfinancialstate
mentsadequatelydisclose
itsfinancialdifficulties,
theauditorsreportis
requiredtoincludean
explanatoryparagraph
thatspecificallyusesthe
phrase(s)

a.
b.
c.
d.

Reasonableperiodof
time,notto
exceed1year
Yes
Yes
No
No

26.Mead,CPA,hadsubstantial
doubtaboutTechCo.sabilityto
continue as a going concern
when reporting on Techs
auditedfinancialstatementsfor
theyearended
June30,2009.Thatdoubthasbeen
removedin2010.WhatisMeads
reportingresponsibilityifTechis
presentingitsfinancialstatements
fortheyearendedJune30,2010,on

Goingconcern
Yes
No
Yes
No

acomparativebasiswiththoseof
2010?
a. The

explanatory
paragraph included in
the 2010 auditors
report should not be
repeated.
b.

Theexplanatory
paragraphincludedinthe
2010auditorsreport
shouldberepeatedinits
entirety.

c.

d.

Adifferent
explanatory
paragraph
describing
Meadsreasons
fortheremoval
ofdoubtshould
beincluded.
Adifferent
explanatory
paragraph
describing
Techsplans
forfinancial
recovery
shouldbein
cluded.

27. Whenanauditor
concludesthereis
substantialdoubtabouta
continuingauditclients
abilitytocontinueasa
goingconcernfora
reasonableperiodof
time,theauditors
responsibilityisto
a. Issueaqualified
oradverse
opinion,
dependingupon
materiality,due
tothepossible
effectsonthe
financial
statements.
b. Consider the
adequacy of
disclosureabout
the clients
possible
inability to
continue as a
goingconcern.
c. Report to the
clients audit
committee
that man
agements
accounting
estimatesmay
need to be
adjusted.
d. Reissuetheprioryears
auditorsreportandadd
anexplanatoryparagraph
thatspecificallyrefersto
substantialdoubtand
goingconcern.
28. Green,CPA,concludes
thatthereissubstantial
doubtaboutJKLCo.s
abilitytocontinueasa
goingconcern.IfJKLs
financialstatements
adequatelydiscloseits

financialdifficulties,
Greensauditorsreport
should

a.
b.
c.
d.

Includean
explanatory
paragraph
followingthe
opinion
paragraph
Yes
Yes
Yes
No

Specifically
usethe
wordsgoing
concern
Yes
Yes
No
Yes

29. In which of the following


circumstanceswouldanauditormost
likely add an explanatory paragraph
to the standard report while not
affecting the auditors unqualified
opinion?
a. The auditor is
askedtoreporton
thebalancesheet,
but not on the
other basic
financial
statements.

b.

c.

d.

managements
records
retention
policy.

There

is
substantialdoubt
about

the
entitysabilityto
continue as a
goingconcern.
Management
sestimatesof
the effects of
future events
are
unreasonable.
Certain
transactions
cannot
be
tested because
of

30. Afterconsideringan
entitysnegativetrends
andfinancial
difficulties,anauditor
hassubstantialdoubt
abouttheentitysability
tocontinueasagoing
concern.Theauditors
considerationsrelatingto
managementsplansfor
dealingwiththeadverse
effectsofthese
conditionsmostlikely
wouldinclude
managementsplansto
a. Increase current dividend
distributions.
b. Reduce existing lines of
credit.
c. Increaseownershipequity.
d. Purchase assets formerly
leased.

31. Whichofthefollowingconditions
oreventsmostlikelywouldcause
anauditortohavesubstantialdoubt
aboutanentitysabilitytocontinue
asagoingconcern?
a. Signi
fican
t
relate
d
party
trans
actio
ns
are
perva
sive.

MODULE5REPORTING

166
b.
c.

Usual trade credit from


suppliersisdenied.
Arrearages in preferred
stockdividendsarepaid.
d. Restrictions on
the disposal of
principal assets
arepresent.

47. Cooper,CPA,believesthereis
substantialdoubtabouttheability
ofZeroCorp.tocontinueasagoing
concernforareasonableperiodof
time.InevaluatingZerosplansfor
dealingwiththeadverseeffectsof
futureconditionsandevents,
Coopermostlikelywouldconsider,
asamitigatingfactor,Zerosplans
to
a. Discusswith
lenders the
terms of all
debt and
loan
agreements.
b. Strengthen controls over
cashdisbursements.
c. Purchase
production
facilities
currently
being leased
from a
related
party.
d. Postpone
expenditures
for research
and develop
mentprojects.
48. Whichofthefollowingconditions
oreventsmostlikelywouldcause
anauditortohavesubstantialdoubt
aboutanentitysabilitytocontinue
asagoingconcern?
a. Cash flows from
operating activities are
negative.
b. Research
and
developmen
t projects
are post
poned.
c. Significant
relatedparty
transactions
arepervasive.
d. Stock dividends replace
annualcashdividends.
49. Whichofthefollowing
auditingproceduresmost
likelywouldassistan
auditorinidentifying

conditionsandeventsthat
mayindicatesubstantial
doubtaboutanentitys
abilitytocontinueasa
goingconcern?
a. Inspecting title
documents to
verify whether
any assets are
pledged as
collateral.
b. Confirming
with third
parties the
details of ar
rangements
to maintain
financial
support.
c.

Reconcilingthe
cashbalanceper
bookswiththe
cutoffbank
statementandthe
bank
confirmation.

d.

Comparingthe
entitys
depreciation
andasset
capitalization
policiesto
otherentities
inthein
dustry.

50. Whichofthefollowing
auditprocedureswould
mostlikelyassistan
auditorinidentifying
conditionsandevents
thatmayindicatethere
couldbesubstantial
doubtaboutanentitys
abilitytocontinueasa
goingconcern?
a. Review
compliancewith
the terms of
debt agree
ments.
b. Confirmation of
accounts
receivable from
principal
customers.
c. Reconciliation
of interest
expense with
debt out
standing.
d. Confirmation of bank
balances.
51. Davis,CPA,believes
thereissubstantial
doubtabouttheability
ofHillCo.tocontinue

asagoingconcernfora
reasonableperiodof
time.Inevaluating
Hillsplansfordealing
withtheadverseeffects
offutureconditionsand
events,Davismost
likelywouldconsider,
asamitigatingfactor,
Hillsplansto
a. Accelerate
research and
development
projects related
to

future
products.
b. Accumulate
treasury stock
at prices
favorable to
Hills historic
pricerange.

c.

d.

Purcha
se
equipm
entand
produc
tion
faciliti
es cur
rently
being
leased.
Negot
iate
reduct
ions
in
requir
ed
divide
nds
being
paid
on
prefer
red
stock.

37. Theadverseeffectsof
eventscausinganauditor
tobelievethereis
substantialdoubtabout
anentitysabilityto
continueasagoing
concernwouldmost
likelybemitigatedby
evidencerelatingtothe
a. Abi
lity
to
exp
and
ope
rati
ons
into
ne
w
pro
duc
t
line
sin
the
fut
ure.
b. Feasib
ilityof
plans
to
purcha
se
leased
equip
ment
at less
than
market
value.

c.

d.

Marke
tabilit
y of
assets
that
manag
ement
plans
tosell.
Co
m
mit
ted
arr
an
ge
me
nts
to
co
nv
ert
pre
fer
red
sto
ck
to
lon
g
ter
m
de
bt.

38. For which of the


following events
wouldanauditorissue
areportthatomitsany
reference

to
consistency?

a.

d.

Achangeinthe
method of
accounting for
inventories.
b. Achangefrom
anaccounting
principlethatis
notgenerally
acceptedtoone
thatis
generallyac
cepted.
c. A change in
the useful
life used to
calculate the
provisionfor
depreciation
expense.
Managements lack of
reasonablejustificationfor
a change in accounting
principle.

39. Anauditorwouldexpress
an unqualified opinion
with an explanatory
paragraph added to the

auditorsreportfor

a.
b.
c.
d.

Anunjustified
accountingchange
Yes
Yes
No
No

Amaterialweakness
intheinternalcontrol
Yes
No
Yes
No

40. Under which of the


following
circumstances would a
disclaimer of opinion
notbeappropriate?
a. The auditor is
unable

to
determine the
amounts as
sociatedwithan
employee fraud
scheme.
b. Management does not
provide

reasonable
justificationforachange
inaccountingprinciples.
c. Theclient
refusesto
permitthe
auditorto
confirmcertain
accounts
receivableor
apply
alternative
proceduresto
verifytheir
balances.
d. The chief
executive
officer

is
unwilling to
sign

the
management
representation
letter.
41. DigitCo.usestheFIFO
methodofcostingforits
internationalsubsidiarys
inventoryandLIFOforits
domesticinventory.Under
thesecircumstances,the
auditorsreportonDigits
financialstatementsshould
expressan

a.
b.

d.

Unqualifiedopinion.
Opinionqualifiedbecause
ofalackofconsistency.
c. Opinion
qualified
because of
a departure
from
GAAP.
Adverseopinion.

42. Inthefirstauditofanew
client,anauditorwas
abletoextendauditing

procedurestogather
sufficientevidenceabout
consistency.Underthese
circumstances,the
auditorshould

a.
b.

Notreportontheclients
incomestatement.
Notrefertoconsistencyin
theauditorsreport.

MODULE5REPORTING
c.

State that the consistency


standarddoesnotapply.
d. State that the
accounting
principles have
been applied
consistently.

43. Whenmanagementdoesnot
providereasonablejustification
thatachangeinaccounting
principleispreferableandit
presentscomparativefinancial
statements,theauditorshould
expressaqualifiedopinion
a. Only in
the year
of the
accountin
g
principle
change.
b. Each year that
the financial
statements
initially re
flecting the
change are
presented.
c. Each year
until
management
changes back
to

the
accounting
principle
formerlyused.
d. Only if the
change is to
an
accounting
principlethat
is
not
generally
accepted.
44. Whenanentitychanges
itsmethodofaccounting
forincometaxes,which
hasamaterialeffecton
comparability,the
auditorshouldreferto
thechangeinan
explanatoryparagraph
addedtotheauditors
report.Thisparagraph
shouldidentifythenature
ofthechangeand
a. Explainwhythechangeis
justified under generally
accepted accounting
principles.
b. Describe the cumulative
effectofthechangeonthe
audited

financial
statements.

c.

d.

167

State

the
auditorsexplicit
concurrence
with or op
position to the
change.
Refer to the
financial
statement note
that discusses
the change in
detail.

45. Anentitychangedfrom
thestraightlinemethod
tothedecliningbalance
methodofdepreciation
forallnewlyacquired
assets.Thischangehasno
materialeffectonthe
currentyearsfinancial
statements,butis
reasonablycertaintohave
asubstantialeffectin
lateryears.Ifthechange
isdisclosedinthenotesto
thefinancialstatements,
theauditorshouldissuea
reportwitha(n)
a. Except for qualified
opinion.
b. Explanatoryparagraph.
c. Unqualifiedopinion.
d. Consistencymodification.
46. Whenreportingon
comparativefinancial
statements,anauditor
ordinarilyshouldchange
thepreviouslyissued
opinionontheprioryears
financialstatementsifthe
a. Prioryears
financial
statementsare
restatedto
conformwith
generally
accepted
accounting
principles.
b. Auditorisa
predecessor
auditorwhohas
beenrequested
byaformer
clienttoreissue
thepreviously
issuedreport.
c.

Prioryears
opinionwas
unqualifiedand
theopinionon
thecurrent
yearsfinancial
statementsis
modifieddueto
alackof

consistency.

d.

Prior years
financial
statements are
restated fol
lowing a
pooling of
interestsinthe
currentyear.

47. Jewel,CPA,audited
InfiniteCo.sprioryear
financialstatements.
Thesestatementsare
presentedwiththoseof
thecurrentyearfor
comparativepurposes
withoutJewelsauditors
report,whichexpresseda
qualifiedopinion.In
draftingthecurrentyears
auditorsreport,Crain,
CPA,thesuccessor
auditor,should
I.NotnameJewelasthe
predecessorauditor.
II.Indicatethetypeofreportissued
byJewel.

BI. Indicate the substantive reasons


forJewelsqualification.
a.
b.
c.
d.

Ionly.
IandIIonly.
IIandIIIonly.
I,II,andIII.

48. Beforereissuingtheprior
yearsauditorsreporton
thefinancialstatements
ofaformerclient,the
predecessorauditor
shouldobtainaletterof
representationsfromthe
a.
b.
c.
d.

Formerclientsmanagement
Yes
Yes
No
No

49. Whensingleyear
financialstatementsare
presented,anauditor
ordinarilywouldexpress
anunqualifiedopinionin
anunmodifiedreportif
the
a. Audit
or is
unable
to
obtain
audite
d
financ
ial
state
ments
suppor
ting
the
entity
s
invest
ment
in a
for
eign
affiliat
e.
b. Entity
decline
s to
present
a
stateme
nt of
cash
flows
with its
balance
sheet
and
related
stateme
nts of
in
come

Successorauditor
Yes
No
Yes
No

c.

d.

and
retaine
d
earning
s.
Audito
r
wishes
to
empha
sizean
accoun
ting
matter
affecti
ngthe
compa
rability
ofthe
financi
al
state
ments
with
those
ofthe
prior
year.
Prior
year
s
finan
cial
state
ment
s
were
audit
edby
anoth
er
CPA
whos
e
repor
t,
whic
h
expre
ssed
an
unqu
alifie
d
opini
on,is
not
prese
nted.

50. Aclientispresenting
comparative(twoyear)
financialstatements.
Whichofthefollowingis
correctconcerning
reportingresponsibilities
ofacontinuingauditor?

a.

The

b.

c.

d.

auditor
should
issue
one
audit
report
that is
on
both
present
ed
years.
The
audito
r
should
issue
two
audit
report
s, one
on
each
year.
The
auditor
should
issue
one
audit
report,
but
only
on the
most
recent
year.
The
audit
or
may
issue
either
one
audit
report
on
both
prese
nted
years,
or
two
audit
report
s,one
on
each
year.

51. Thepredecessorauditor,
whoissatisfiedafter
properlycommunicating
withthesuccessorauditor,
hasreissuedareport
becausetheauditclient
desirescomparative
financialstatements.The
predecessorauditors

reportshouldmake

a.

b.

c.

Ref
ere
nce
to
the
rep
ort
of
the
suc
ces
sor
aud
itor
onl
yin
the
sco
pe
par
agr
aph
.
Refer
ence
tothe
work
ofthe
succe
ssor
audit
or in
the
scope
and
opini
on
parag
raphs
.
Refe
renc
e to
both
the
wor
k
and
the
repo
rt of
the

succ
esso
r
audit
or
only
in
the
opin
ion
para
grap
h.

d.

No
refer
ence
tothe
repor
t or
the
work
ofthe
suc
cesso
r
audit
or.

52. Unauditedfinancialstatementsfor
theprioryearpresentedin
comparativeformwithaudited
financialstatementsforthecurrent
yearshouldbeclearlymarkedto
indicatetheirstatusand
I.

Thereport
on the
prior
period
should be
reissuedto
accompan
y the
current
period
report.

19. Thereportonthe
currentperiodshould
includeasaseparate
paragraphadescription
oftheresponsibility
assumedfortheprior
periodsfinancial
statements.

MODULE5REPORTING

168
a.
b.
c.
d.

Ionly.
IIonly.
BothIandII.
EitherIorII.

53. Inanauditofanonissuer
company,

which
statement is correct
concerning required
supplementary
information by a
designated accounting
standardssetter?
a. The auditor has
no
responsibility
for required
supplementary
information as
long as it is
outside the
basic financial
statements.
b. Theauditors
only
responsibility
forrequired
supplementary
informationis
todetermine
thatsuch
informationhas
notbeen
omitted.
c. Theauditor
shouldapply
certainlimited
proceduresto
therequired
supplementary
information,and
report
deficienciesin,
oromissionsof,
suchin
formation.
d. Theauditor
shouldapply
testsofdetailsof
transactionsand
balancestothe
required
supplementary
information,and
reportany
material
misstatementsin
such
information.
54. Ifmanagementdeclinesto
present supplementary
information required by
the

Governmental
Accounting Standards

a.
b.
c.

Board (GASB), the


auditorshouldissuea(n)
Adverseopinion.
Qualified opinion with an
explanatoryparagraph.
Unqualifiedopinion.
d. Unqualified
opinion with an
additional
explanatory
paragraph.

55. Ifanauditorisaskedto
provideanopinion
relatingtoinformation
accompanyingthe
financialstatementsina
document,theopinion
willordinarilybeupon
whethertheinformation
isfairlystatedin
a. Accordance
with US
generally
accepted
auditing
standards.
b. Conformity with US
generally

accepted
accountingprinciples.
c. All material
respects in
relation to the
basic financial
statements
taken as a
whole.
d. Accordancewith
attestation
standards
expressing a
conclusionabout
managements
assertions.
56. Anauditorconcludes
thatthereisamaterial
inconsistencyinthe
otherinformationinan
annualreporttoshare
holderscontaining
auditedfinancial
statements.Ifthe
auditorconcludesthat
thefinancialstatements
donotrequirerevision,
buttheclientrefusesto
reviseoreliminatethe
materialinconsistency,
theauditormay
a. Revisetheauditorsreport
to include a separate ex
planatory paragraph
describing the material
inconsistency.
b. Issueanexcept
forqualified

c.

d.

opinionafter
discussingthe
matterwiththe
clientsboardof
directors.
Consider the
matter closed
since the other
information is
not
in the
audited financial
statements.
Disclaim an
opinion on the
financial
statements after
explaining the
material
inconsistency in
a separate
explanatory
paragraph.

57. Whenauditedfinancial
statementsarepresented
inaclientsdocument
containingother
information,theauditor
should

a.

Perform inquiry
and analytical
procedures to
ascertainwhether
the

other
information is
reasonable.

b.

c.

Add

an
explanatory
paragraph to
theauditorsre
port without
changing the
opinion on the
financial
statements.
Perform the appropriate
substantiveauditingproce
dures to corroborate the
otherinformation.
d.

Read the other


information to
determine that
it is consistent
with

the
audited
financial
statements.

58. Anauditorincludesa
separateparagraphinan
otherwiseunmodified
reporttoemphasizethat
theentitybeingreported
onhadsignificant
transactionswithrelated
parties.Theinclusionof
thisseparateparagraph
a. Is considered
an except
for
qualification
oftheopinion.
b. Violates
generally
accepted
auditing
standardsifthis
informationis
already
disclosedin
footnotestothe
financial
statements.
c. Necessitatesa
revisionofthe
opinion
paragraphto
includethe
phrasewiththe
foregoing
explanation.
d. Is appropriate
andwouldnot
negate the
unqualified

opinion.
59. Anauditorconcludesthat
aclientsillegalact,
whichhasamaterial
effectonthefinancial
statements,hasnotbeen
properlyaccountedforor
disclosed.Dependingon
thematerialityofthe
effectonthefinancial
statements,theauditor
shouldexpresseithera(n)
a. Adverse opinion or a
disclaimerofopinion.
b. Qualified opinion or an
adverseopinion.
c. Disclaimerof
opinionoran
unqualified
opinion with
a separate
explanatory
paragraph.
d. Unqualified
opinion with
a separate
explanatory
paragraph or
a qualified
opinion.

d.

discussedin
the
preceding
paragraph.
Does not presentfairlyin
allmaterialrespects.

61. Inwhichofthefollowing
circumstances would an
auditorbemostlikelyto
express an adverse
opinion?
a.

b.

c.

60. Whichofthefollowing
phraseswouldanauditor
mostlikelyincludein
theauditorsreportwhen
expressingaqualified
opinionbecauseof
inadequatedisclosure?
a.

Subjecttothe
departurefrom
USgenerally
accepted
accounting
principles,as
described
above.

b.

With the
foregoing
explanation
of these
omitted
disclosures.
Except for
theomission
of the
information

c.

d.

The chief
executive
officer refuses
the auditor ac
cess to minutes
of board of
directors
meetings.
Tests of
controlsshow
that the
entitys
internal
control is so
poor that it
cannot
be
reliedupon.

Thefinancial
statementsare
notin
conformity
withtheFASB
Statements
regardingthe
capitalization
ofleases.
Information
comestothe
auditors
attentionthat
raises
substantial
doubtaboutthe
entitysability
tocontinueasa
goingconcern.

62. Whenanauditorqualifies
anopinionbecauseof
inadequatedisclosure,the
auditorshoulddescribe
thenatureoftheomission
inaseparateexplanatory
paragraphandmodifythe

MODULE5REPORTING

a.
b.
c.
d.

Introductory
paragraph
Yes
Yes
No
No

Scope
paragraph
No
Yes
Yes
No

63. Ifapubliclyheld
companyissuesfinancial
statementsthatpurportto
presentitsfinancial
positionandresultsof
operationsbutomitsthe
statementofcashflows,
theauditorordinarilywill
expressa(n)
a. Disclaimerofopinion.
b. Qualifiedopinion.
c. Reviewreport.
d. Unqualified
opinion with
a separate
explanatory
paragraph.
64. Inwhichofthefollowing
situationswouldan
auditorordinarilychoose
betweenexpressingan
exceptforqualified
opinionoranadverse
opinion?
a. The auditor
did

not
observe the
entitys
physical
inventory and
is unable to
become
satisfied as to
its balance by
other auditing
procedures.
b. Thefinancial
statementsfail
todisclose
information
thatisrequired
bygenerally
acceptedac
counting
principles.
c. The auditor is
askedtoreport
only on the
entitys
balance sheet
and noton the
other basic
financial
statements.
d. Events
disclosedinthe
financial
statements

169

cause the
auditor to have
substantial
doubtaboutthe
entitys ability
tocontinueasa
goingconcern.

65. Inwhichofthefollowing
situationswouldan
auditorordinarilychoose
betweenexpressinga
qualifiedopinionoran
adverseopinion?
a. Theauditordid
not observe
the entitys
physical
inventory and
is unable to
become
satisfied about
its balance by
other auditing
procedures.
b. Conditions that
cause

the
auditor to have
substantial
doubt about the
entitys ability
tocontinueasa
going concern
areinadequately
disclosed.
c.

d.

Therehasbeen
a change in
accounting
principles that
has a material
effect on the
comparability
of the entitys
financial
statements.
Theauditoris
unabletoapply
necessary
procedures
concerningan
investorsshare
ofaninves
teesearnings
recognizedon
theequity
method.

66. Inthefirstauditofaclient,an
auditorwasnotabletogather
sufficientevidenceaboutthe
consistentapplicationofaccounting
principlesbetweenthecurrentand
theprioryear,aswellasthe
amountsofassetsorliabilitiesatthe
beginningofthecurrentyear.This
wasduetotheclientsrecordre

tentionpolicies.Iftheamountsin
questioncouldmateriallyaffect
currentoperatingresults,theauditor
would
a. Beunableto
express an
opinion on
the current
years
results of
operations
and cash
flows.
b. Expressa
qualified
opiniononthe
financialstate
mentsbecause
ofaclient
imposedscope
limitation.
c. Withdraw
from the
engagement
and refuse to
be associated
with the
financial
statements.
d. Specifically
state that the
financial
statements are
not
comparable to
the prior year
due to an
uncertainty.

67. In which of the following


circumstances would an auditor
notexpressanunqualifiedopinion?
a. There has been
a material
change between
periods in
accounting
principles.
b. Quarterly
financial data
required by
the SEC has
beenomitted.
c. The auditor
wishes to
emphasize an
unusually im
portant
subsequent
event.
d. Theauditoris
unable to
obtainaudited
financial
statements of
aconsolidated
investee.
68. Duetoascopelimitation,
anauditordisclaimedan
opiniononthefinancial
statementstakenasa
whole,buttheauditors
reportincludeda
statementthatthecurrent
assetportionofthe
entitysbalancesheetwas
fairlystated.The
inclusionofthisstatement
is
a.

Not
appropriate
because it
may tend
to over
shadowthe
auditors
disclaimer
ofopinion.

b.

Not
appropriate
because the
auditor is
prohibited
from reporting
on only one
basic financial
statement.

c.

Appropriate
providedthe
auditorsscope
paragraph
adequately
describesthe
scope

limitation.

d.

Appropriate
providedthe
statementisina
separate
paragraph
precedingthe
disclaimerof
opinion
paragraph.

69. Park,CPA,wasengaged
toauditthefinancialstate
mentsofTechCo.,anew
client,fortheyearended
December31,2009.Park
obtainedsufficientaudit
evidenceforallofTechs
financialstatementitems
exceptTechsopening
inventory.Dueto
inadequatefinancial
records,Parkcouldnot
verifyTechsJanuary1,
2009inventorybalances.
ParksopiniononTechs
2009financialstatements
mostlikelywillbe
a.
b.
c.
d.

Balancesheet
Disclaimer
Unqualified
Disclaimer
Unqualified

70. An auditor who qualifies an


opinion because of an in

sufficiency of evidential matter


shoulddescribethelimitationsin
an explanatory paragraph. The
auditor should also refer to the
limitationinthe
a.
b.
c.
d.

Scope
paragraph
Yes
No
Yes
Yes

Opinion
paragraph
No
Yes
Yes
Yes

71.Harris,CPA,hasbeenasked
toauditandreportonthebalance
sheetofFoxCo.butnotonthe
statementsofincome,retained
earnings,orcashflows.Harris
willhaveaccesstoallinformation
underlyingthebasicfinancial
statements.Underthese
circumstances,Harrismay
a. Not accept the
engagement because it
would constitute a
violation of the
professionsethicalstan
dards.

b.
Incomestatement
Disclaimer
Disclaimer
Adverse
Adverse
c.

Not accept the


engagement because it
wouldbetantamountto
rendering a piecemeal
opinion.
Accept the engagement
because such engagements
merely involve limited
reportingobjectives.

Notestothe
financialstatements
Yes
No
No
Yes

MODULE5REPORTING

170
d.

Acceptthe
engagementbut
shoulddisclaim
anopinion
becauseofan
inabilityto
applytheproce
dures
considered
necessary.

72. Whendisclaimingan
opinionduetoaclient
imposedscopelimitation,
anauditorshouldindicate
inaseparateparagraph
whytheauditdidnot
complywithgenerally
acceptedauditing
standards.Theauditor
shouldalsoomitthe
a.
b.
c.
d.

Scope
paragraph
No
Yes
No
Yes

Opinion
paragraph
Yes
Yes
No
No

73. Anauditordecidestoissuea
qualifiedopiniononanentitys
financialstatementsbecausea
majorinadequacyinits
computerizedaccountingrecords
preventstheauditorfromapplying
necessaryprocedures.Theopinion
paragraphoftheauditorsreport
shouldstatethatthequalification
pertainsto
a. A clientimposed scope
limitation.
b. A departure
from generally
accepted
auditing stan
dards.
c. Thepossibleeffectsonthe
financialstatements.
d. Inadequate disclosure of
necessaryinformation.
74. A scope limitation
sufficient to preclude an
unqualified opinion
always will result when
management
a. Prevents the
auditor from
reviewing the
working
papers of the
predecessor
auditor.
b. Engages the
auditorafterthe
yearend
physical in

c.

d.

ventory is
completed.
Requests that
certain material
accounts
receivable not
beconfirmed.
Refusesto
acknowledgeits
responsibility
forthefair
presentationof
thefinancial
statementsin
conformitywith
GAAP.

75. An auditor may not issue a


qualifiedopinionwhen
a. An accounting
principle at
variance with
GAAPisused.
b. The auditor
lacks
independence
with respect to
the audited
entity.
c. A

scope
limitation
prevents the
auditor from
completing an
important audit
procedure.
d. The auditors
report refers to
the work of a
specialist.
76. Anauditormayexpress
anopiniononanentitys
accountsreceivable
balanceevenifthe
auditorhasdisclaimedan
opiniononthefinancial
statementstakenasa
wholeprovidedthe
a. Reportonthe
accounts
receivable
disclosesthe
reasonforthe
disclaimerof
opiniononthe
financial
statements.
b. Distributionof
the report on
the accounts
receivable is
restricted to
internal use
only.
c. Auditor also
reports on the
current asset

d.

portion of the
entitys balance
sheet.
Reportonthe
accounts
receivableis
presented
separatelyfrom
thedisclaimerof
opiniononthe
financial
statements.

77. March, CPA, is engaged


by Monday Corp., a
client, to audit the
financial statements of
Wall Corp., a company
thatisnotMarchsclient.
Monday expects to
presentWalls

auditedfinancialstatementswith
Marchsauditorsreportto1st
FederalBanktoobtainfinancingin
Mondaysattempttopurchase
Wall.Inthesecircumstances,
Marchsauditorsreportwould
usuallybeaddressedto
a. Monday Corp., the client
thatengagedMarch.
b. Wall Corp., the entity
auditedbyMarch.
c. 1stFederalBank.
d. Both Monday Corp. and
1stFederalBank.
78. When an auditor
expressesanadverse
opinion, the opinion
paragraph should
include
a. The principal
effects of the
departure from
generally
accepted
accounting
principles.
b. A

direct
reference to a
separate
paragraph
disclosing the
basis for the
opinion.
c. The
substantive
reasons for
thefinancial
statements
being
misleading.
d. A description of
the uncertainty
or

scope
limitation that
prevents an
unqualified
opinion.
79. An auditor should
disclose the substantive
reasonsforexpressingan
adverse opinion in an
explanatoryparagraph

a.
b.
c.
d.

Preceding the scope


paragraph.
Preceding the opinion
paragraph.
Following the opinion
paragraph.
Within the notes to the
financialstatements.

80. When an independent


CPAassistsinpreparing
the financial statements
ofapubliclyheldentity,
but has not audited or

reviewedthem,theCPA
shouldissueadisclaimer
of opinion. In such
situations, the CPA has
no responsibility to
apply any procedures
beyond
a. Documenting
that internal
control is not
being relied
on.
b. Reading the
financial
statements for
obvious mate
rial
misstatements.
c. Ascertaining
whether the
financial
statements are
in conformity
withGAAP.
d. Determining
whether
management
has elected to
omit
substantially
all required
disclosures.
81. Whenanindependent
CPAisassociatedwith
thefinancialstatements
ofapubliclyheldentity
buthasnotauditedor
reviewedsuch
statements,the
appropriateformof
reporttobeissuedmust
includea(n)
a. Regulation

SX
exemption.
b. Report on pro forma
financialstatements.
c. Unaudited association
report.
d. Disclaimerofopinion.
82. Green,CPA,isawarethatGreens
nameistobeincludedinthe
interimreportofNational
Company,apubliclyheldentity.
Nationalsquarterlyfinancial
statementsarecontainedinthe
interimreport.Greenhasnot
auditedorreviewedtheseinterim
financialstatements.Greenshould
requestthat
I.Greensnamenotbeincludedin
thecommunication.
AI. Thefinancialstatements
bemarkedasunaudited
with a notation that no
opinionisexpressedon
them.

a.
b.
c.
d.

Ionly.
IIonly.
BothIandII.
EitherIorII.

MODULE5REPORTING
83. Theobjectiveofareview
ofinterimfinancial
informationofapublic
entity(issuer)isto
provideanaccountant
withabasisforreporting
whether
a.

b.

c.

Material
modifications
should be made
to conform with
generally
accepted
accounting
principles.

Areasonablebasisexists
forexpressinganupdated
opinionregardingthe
financialstatementsthat
werepreviouslyaudited.
Condensedfinancial
statementsorproforma
financialinformation
shouldbeincludedina
registrationstatement.
d. The financial
statements are
presented fairly
in accordance
with generally
accepted
accountingprin
ciples.

84. Anindependent
accountantsreportis
basedonareviewof
interimfinancial
information.Ifthis
reportispresentedina
registrationstatement,a
prospectusshouldin
cludeastatement
clarifyingthatthe
a. Accountants
review report is
not apartofthe
registration
statement within
the meaning of
the Securities
Actof1933.
b. Accountant
assumesno
responsibility
toupdatethe
reportfor
eventsand
circumstances
occurringafter
thedateofthe
report.
c. Accountants
reviewwas
performedin

171

d.

accordancewith
standards
establishedby
theSecurities
andExchange
Commission.

Accountant
obtained
corroborating
evidence to de
termine whether
material
modificationsare
needed for such
information to
conform with
GAAP.

85. Amodificationofthe
CPAsreportonareview
oftheinterimfinancial
statementsofapublicly
heldcompanywouldbe
necessitatedbywhichof
thefollowing?
a. Anuncertainty.
b. Lackofconsistency.
c. Reference to another
accountant.
d. Inadequatedisclosure.
86. Whichofthefollowing
proceduresordinarily
shouldbeappliedwhen
anindependent
accountantconductsa
reviewofinterim
financialinformationof
apubliclyheldentity?
a. Verify changes in key
accountbalances.
b. Read the
minutes ofthe
board of
directors
meetings.
c. Inspecttheopenpurchase
orderfile.
d. Perform
cutoff tests
for cash
receiptsand
dis
bursements.
87. Whichofthefollowingis
leastlikelytobeaproce
dureincludedinan
accountantsreviewof
interimfinancial
informationofapublic
entity?
a. Compare