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CPAR Auditing Theory Reviewer
Auditing and Assurance: Specialized Industries (Pontifical and Royal University of Santo
Tomas, The Catholic University of the Philippines)
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
Overview of Auditing
Related PSAs : PSA 100, 120, 200 and 610
1.
Certain fundamental beliefs called "postulates" underlie auditing theory. Which of the
following is not a postulate of auditing?
a. No long-term conflict exists between the auditor and the management of the enterprise
under audit.
b. Economic assertions can be verified.
c. The auditor acts exclusively as an auditor.
d. An audit has a benefit only to the owners.
2.
In all cases, audit reports must
a. Be signed by the individual who performed the audit procedures.
b. Certify the accuracy of the quantitative information which was audited.
c. Communicate the auditor’s finding to the general public.
d. Inform readers of the degree of correspondence between the quantifiable information and
the established criteria.
3.
The auditor communicates the results of his or her work through the medium of the
a. Engagement letter
c. Management letter.
b. Audit report
d. Financial statements.
4.
As used in auditing, which of the following statements best describes "assertions"?
a. Assertions are the representations of management as to the reliability of the information
system.
b. Assertions are the auditor's findings to be communicated in the audit report.
c. Assertions are the representations of management as to the fairness of the financial
statements.
d. Assertions are found only in the footnotes to the financial statements.
5.
The expertise that distinguishes auditors from accountants is in the
a. Ability to interpret generally accepted accounting principles.
b. Requirement to possess education beyond the Bachelor’s degree.
c. Accumulation and interpretation of evidence.
d. Ability to interpret ASC Statements.
6.
The framework for auditing and related services as addressed by PSA excludes
a. Review
c. Compilation
d. Agreed upon procedure
b. Tax services
7.
It refers to the level of auditor’s satisfaction as to the reliability of an assertion being made by
one party for use by another party.
a. Confidence level
c. Assurance level
b. Reasonableness level
d. Tolerable level
8.
Indicate the level of assurance provided by audit and related services.
a
b
c
High
High
Negative
• Audit
Moderate
None
Moderate
• Review
None
None
None
• Agreed-upon procedures
None
None
None
• Compilation
9.
d
Absolute
High
Limited
None
Which of the following is true of the report based on agreed-upon-procedures?
a. The report is restricted to those parties who have agreed to the procedures to be
performed.
b. The CPA provides the recipients of the report limited assurance as to reasonableness of
the assertion(s) presented in the financial information.
c. The report states that the auditor has not recognized any basis that requires revision of
financial statements.
d. The report should state that the procedures performed are limited to analytical procedures
and inquiry.
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10.
Which of the following is an objective of a review engagement?
a. Expressing a positive opinion that the financial information is presented in conformity with
generally accepted accounting principles.
b. Expressing a limited assurance to users who have agreed as to procedures that will be
performed by the CPA.
c. Reporting whether material modifications should be made to such financial statements to
make them conform with generally accepted accounting principles.
d. Reporting that the financial statements, in all materials respects, fairly present the
financial position and operating results of the client.
11.
According to Philippine Standard on Auditing, the procedures employed in doing compilation
are:
a. Designed to enable the accountant to express a limited assurance.
b. Designed to enable the accountant to express a negative assurance.
c. Not designed to enable the accountant to express any form of assurance.
d. Less extensive than review procedures but more extensive than agreed-upon procedures.
12.
Any services in which the CPA firm issues a written communication that express a conclusion
with respect to the reliability of a written assertion that is the responsibility of another party is
a (n)
a. Accounting and bookkeeping service
c. Attestation service
b. Management advisory service
d. Tax service
13.
The three types of attestation services are:
a. Audits, review, and compilations
b. Audits, compilations, and other attestation services
c. Reviews, compilations, and other attestation services
d. Audits, reviews, and other attestation services
14.
Which of the following is not primary category of attestation report?
a. Compilation report
b. Review report
c. Audit report
d. Special audit report based on a basis of accounting other than generally accepted
accounting principles.
15.
The primary goal of the CPA in performing the attest function is to
a. Detect fraud
b. Examine individual transactions so that the auditor may certify as to their validity
c. Determine whether the client's assertions are fairly stated
d. Assure the consistent application of correct accounting procedures
16.
Which of the following criteria is unique to the independent auditor’s attest function?
a. General competence
b. Familiarity with the particular industry of each client
c. Due professional care
d. Independence
17.
Assurance engagement
a. Is an engagement in which a practitioner is engaged to issue, or does issue, a written
communication that expresses a conclusion about the reliability of a written assertion that
is the responsibility of another party.
b. Is a systematic process of objectively obtaining and evaluating evidence regarding
assertions about economic actions and events to ascertain the degree of correspondence
between those assertions and established criteria and communicating the results to
interested users.
c. Is an engagement in which the auditor provides a moderate level of assurance that the
information subject to the engagement is free of material misstatement.
d. Is an engagement intended to enhance the credibility of information about a subject
matter by evaluating whether the subject matter conforms in all material respects with
suitable criteria, thereby improving the likelihood that the information will meet the needs
of an intended user.
18.
The single feature that most clearly distinguishes auditing, attestation, and assurance is
a. Type of service.
c. Scope of services.
b. Training required to perform the service
d. CPA’s approach to the service
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19.
Identify the following as financial audit (FA), compliance audit (CA), and operational audit
(OA).
• A supervisor is not carrying out his assigned responsibilities.
• A company’s tax return does not conform to income tax laws and regulations.
• A municipality’s financial statements correctly show actual cash receipts and
disbursements.
• A company’s receiving department is inefficient.
c. OA, CA, FA, OA
a. CA, CA, FA, OA
b. OA, CA, CA, OA
d.
CA, CA, FA, CA
20.
The criteria for evaluating quantitative information vary. For example, in the audit of historical
financial statements by CPA firms, the criteria are usually
a. Generally accepted auditing standards.
b. Generally accepted accounting principles.
c. Regulations of the Internal Revenue Service.
d. Regulations of the Securities and Exchange Commission.
21.
Which of the following types of audit uses as its criteria laws and regulations?
a. Operational audit
c. Financial statement audit
b. Compliance audit
d. Financial audit
22.
An operational audit is designed to
a. Assess the efficiency and effectiveness of management’s operating procedures
b. Assess the presentation of management’s financial statements in accordance with
generally accepted accounting principles
c. Determine whether management has complied with applicable laws and regulations
d. Determine whether the audit committee of the board of directors is effectively discharging
its responsibility to oversee management’s operations
23.
A review of any part of an organization’s procedures and methods for the purpose of
evaluating efficiency and effectiveness is classified as a (n)
a. Audit of financial statements
c. Operational audit
b. Compliance audit
d. Production audit
24.
Which one of the following is more difficult to evaluate objectively?
a. Efficiency and effectiveness of operations.
b. Compliance with government regulations.
c. Presentation of financial statements in accordance with generally accepted accounting
principles.
d. All three of the above are equally difficult..
25.
Independent auditing can best be described as a
a. Branch of accounting
b. Discipline that attests to the results of accounting and other operations and data
c. Professional activity that measures and communicates financial and business data
d. Regulatory function that prevents the issuance of improper financial information
26.
A financial statement audit:
a. Confirms that financial statement assertion are accurate.
b. Lends credibility to the financial statements.
c. Guarantees that financial statements are presented fairly.
d. Assures that fraud had been detected.
27.
Which of the following best describes the objective of an audit of financial statements?
a. To express an opinion whether the financial statements are prepared in accordance with
prescribed criteria.
b. To express an assurance as to the future viability of the entity whose financial statements
are being audited.
c. To express an assurance about the management’s efficiency or effectiveness in
conducting the operations of entity.
d. To express an opinion whether the financial statements are prepared, in all material
respect, in accordance with an identified financial reporting framework.
28.
Because an external auditor is paid a fee by a client company, he or she
a. Is absolutely independent and may conduct an audit
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b. May be sufficiently independent to conduct an audit
c. Is never considered to be independent
d. Must receive approval of the Securities and Exchange Commission before conducting an
audit
29.
Which of the following is responsible for an entity’s financial statements?
c. The entity’s audit committee
a. The entity’s management
b. The entity’s internal auditors
d. The entity’s board of directors
30.
The best statement of the responsibility of the auditor with respect to audited financial
statement is:
a. The audit of the financial statements relieves management of its responsibilities
b. The auditor’s responsibility is confined to his expression of opinion about the audited
financial statements.
c. The responsibility over the financial statements rests with the management and the
auditor assumes responsibility with respect to the notes of financial statements.
d. The auditor is responsible only to his unqualified opinion but not for any other type of
opinion.
31.
Which of the following least likely limits the auditors ability to detect material misstatement?
a. Most audit evidences are conclusive rather than being persuasive.
b. The inherent limitations of any accounting and internal control system.
c. Audit is based on testing
d. Audit procedures that are effective in detecting ordinary misstatements are ineffective in
detecting intentional misstatements.
32.
Because an examination in accordance with generally accepted auditing standards is
influenced by the possibility of material errors, the auditor should conduct the examination
with an attitude of
a. Professional responsiveness
c. Objective judgment
d. Professional skepticism
b. Conservative advocacy
33.
Which of the following best describes why an independent auditor reports on financial
statements?
a. Independent auditors are likely to detect fraud
b. Competing interests may exist between management and the users of the statements
c. Misstated account balances are generally corrected by an independent audit.
d. Ineffective internal controls may exist.
34.
An audit can have a significant effect on
a. Information Risk
b. The risk-free interest rate
c. Business Risk
d. All of these
35.
The main way(s) to reduce information risk is to have
a. The user verify the information
b. The user share the information risk with management
c. Audited financial statements provided
d. All of the above
36.
Which of the following is an appraisal activity established within an entity as a service to the
entity?
a. External auditing
c. Financial auditing
d. Compliance auditing
b. Internal auditing
37.
The scope and objectives of internal auditing vary widely and depend on the size and
structure of the entity and the requirements of its management. Ordinarily, internal auditing
activities include one or more of the following:
a
b
c
d
• Review of the accounting and internal control
Yes
Yes
Yes
Yes
systems
• Examination of financial and operating
Yes
Yes
Yes
No
information
• Review of the economy, efficiency and
Yes
Yes
No
No
effectiveness of operations
• Review of compliance with laws, regulations
Yes
No
No
No
and other external requirements
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38.
To operate effectively, an internal auditor must be independent of
a. The line functions of the organizations
b. The entity
c. The employer-employee relationship which exists for other employees in the organization
d. All of the above
39.
Internal auditors cannot be independent
a. Since they do not possess the CPA license.
b. Because they don’t audit financial statements.
c. Unless their immediate supervisor is a CPA.
d. As long as an employer-employee relationship exists.
40.
To provide for the greatest degree of independence in performing internal auditing functions,
an internal auditor most likely should report to
a. Board of Directors.
c. Corporate Controller.
b. Vice-President for Finance.
d. Corporate Stockholders.
41.
Which statement is correct regarding the relationship between internal auditing and the
external auditor?
a. Some judgments relating to the audit of the financial statements are those of the internal
auditor.
b. The external audit function's objectives vary according to management's requirements.
c. Certain aspects of internal auditing may be useful in determining the nature, timing and
extent of external audit procedures.
d. The external auditor is responsible for the audit opinion expressed, however that
responsibility may be reduced by any use made of internal auditing.
42.
Which of the following statements is not a distinction between independent auditing and
internal auditing?
a. Independent auditors represent third party users external to the auditee entity, whereas
internal auditors report directly to management.
b. Although independent auditors strive for both validity and relevance of evidence, internal
auditors are concerned almost exclusively with validity.
c. Internal auditors are employees of the auditee, whereas independent auditors are
independent contractors.
d. The internal auditor's span of coverage goes beyond financial auditing to encompass
operational and performance auditing.
43.
Which of the following is a correct qualification of the Chairman and Two Commissioners of
the Commission on Audit?
a. A citizen of the Philippines.
b. At least 40 years of age upon appointment.
c. CPA’s with no less than 5 years of auditing experience or members of Philippine bar who
have been engaged in law practice for at least 5 years.
d. Must not have been candidates for any elective position preceding appointment.
44.
The 1986 Constitution provides that the Chairman and Commissioners of the Commission on
Audit shall be
a. All Certified Public Accountants
b. All lawyers
c. One or two lawyers and one or two CPAs for a total of three
d. Two lawyers and one CPA
45.
Which of the following is not one of the duties of the Commission on Audit
a. Define the scope of its audit and examination
b. Assume fiscal responsibility for the government and its instrumentalities
c. Keep the general accounts of the government
d. Promulgate accounting rules and regulations
46.
A governmental audit may extend beyond an examination leading to the expression of an
opinion on the fairness of financial presentation to include
Program results
Compliance
Economy and efficiency
a.
Yes
Yes
No
b.
Yes
Yes
Yes
c.
No
Yes
Yes
d.
No
No
Yes
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47.
An audit designed to determine the extent to which the desired results of an activity
established by the legislative or other authorizing body are being achieved is a (an)
a. Economy audit
c. Program audit
b. Efficiency audit
d. Financial related audit
48.
A government auditor evaluates a disbursement to determine if it is necessary, excessive or
extravagant in accordance with existing rules and regulations. What kind of audit is he
conducting?
Economy audit
Compliance audit
a.
Yes
No
b.
No
Yes
c.
Yes
Yes
d.
No
No
QUIZZERS
1.
Which of the following is an incorrect phrase?
a. Auditing is a systematic process.
b. Auditing subjectively obtains and evaluates evidence.
c. Auditing evaluates evidence regarding assertions.
d. Auditing communicates results to interested users.
2.
Which of the following is a correct statement relating to the theoretical framework of auditing?
a. The financial data to be audited can be verified.
b. Short-term conflicts do not exist between managers who prepare data and auditors who
examine data.
c. Auditors do not necessarily need independence.
d. An audit has a benefit only to the owners.
3.
The essence of the attest function is to
a. Detect fraud
b. Examine individual transactions so that the auditor can certify as to their validity
c. Determine whether the client’s financial statements are fairly stated
d. Ensure the consistent application of correct accounting procedures
4.
In “auditing” accounting data, the concern is with
a. Determining whether recorded information properly reflects the economic events that
occurred during the accounting period.
b. Determining if fraud has occurred.
c. Determining if taxable income has been calculated correctly.
d. Analyzing the financial information to be sure that it complies with government
requirements.
5.
Users of financial statements demand independent audit because
a. Users demand assurance that fraud does not exist
b. Management may not be objective in reporting.
c. Users expect auditors to correct management errors.
d. Management relies on the auditor to improve internal control.
6.
Which of the following types of audits is performed to determine whether an entity’s financial
statements are fairly stated in conformity with generally accepted accounting principles?
c. Financial statement audit
a. Operational audit
b. Compliance audit
d. Performance audit
7.
Which of the following types of auditing is performed most commonly by CPAs on a
contractual basis?
a. Internal auditing
c. Government auditing
d. External auditing
b. BIR auditing
PSA 100 – Assurance engagements
8.
Which of the following is incorrect regarding the Philippine Standards on Assurance
Engagements (PSAE)?
a. It provides an overall framework for assurance engagements intended to provide either a
high or moderate level of assurance.
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b. It provides basic principles and essential procedures for engagements intended to provide
a moderate level of assurance.
c. When a professional accountant is engaged to perform an assurance engagement for
which specific standards exist, those standards apply.
d. If no specific standards exist for an assurance engagement, PSAE apply.
9.
An assurance engagement should exhibit the following elements except
a. A three party relationship
c. Appropriate professional fee
b. A conclusion
d. A subject matter
10.
Which of the following is incorrect regarding the “three-party relationship” element of
assurance engagements?
a. Professional accountants as those persons who are members of an IFAC member body,
which should be in public practice.
b. The responsible party and the intended user will often be from separate organizations but
need not be.
c. The responsible party is the person or persons, either as individuals or representatives of
an entity, responsible for the subject matter.
d. The intended user is the person or class of persons for whom the professional accountant
prepares the report for a specific use or purpose.
11.
The following are assurance engagements except
a. Financial statements audit
c. Review of financial statements
b. Information system reliability services
d. Tax consulting
12.
Engagements frequently performed by professional accountants that are not assurance
engagements include the following except
a. Agreed-upon procedures.
c. Compilation
b. Compliance audit
d. Management consulting.
13.
The subject matter of an assurance engagement may take many forms, including
d. All of these
a. Data
b. Systems and processes
c. Behavior
14.
The decision as to whether the criteria are suitable involves considering whether the subject
matter is capable of reasonably consistent evaluation against or measurement using such
criteria. The characteristics for determining whether criteria are suitable include the following,
except
d. Sufficiency
a. Relevance
b. Reliability:
c. Understandability:
15.
When the professional accountant has obtained sufficient appropriate evidence to conclude
that the subject matter conforms in all material respects with identified suitable criteria, he or
she can provide what level of assurance?
b. High
c. Moderate
d. Absolute
a. None
16.
Absolute assurance is generally not attainable as a result of such factors as:
a
b
c
Yes
Yes
Yes
• the use of selective testing,
Yes
Yes
Yes
• the inherent limitations of control systems
• the fact that much of the evidence available to
the professional accountant is persuasive
Yes
Yes
No
rather than conclusive
• the use of judgment in gathering evidence and
Yes
No
No
drawing conclusions based on that evidence
d
No
Yes
Yes
No
PSA 120 – Framework of PSA
17.
18.
19.
The Framework of PSA applies to
a. Taxation
b. Consultancy
c. Accounting advice
Agreed-upon procedures provides what level of assurance?
a. None
b. High
c. Moderate
d. Compilation
d. Absolute
Which of the following procedures ordinarily performed during an audit are also performed in
review?
a. Assessment of accounting and internal control systems
b. Test of controls
c. Tests of records and of responses to inquiries
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d. Inquiry and analytical procedures
20.
The objective of a review of financial statements
a. Is to enable the auditor to express an opinion whether the financial statements are
prepared, in all material respects, in accordance with an identified financial reporting
framework.
b. Is to enable an auditor to state whether, on the basis of procedures which do not provide
all the evidence that would be required in an audit, anything has come to the auditor’s
attention that causes the auditor to believe that the financial statements are not prepared,
in all material respects, in accordance with an identified financial reporting framework.
c. Is to carry out those procedures of an audit nature to which the auditor and the entity and
any appropriate third parties have agreed and to report on factual findings.
d. Is to use accounting expertise as opposed to auditing expertise to collect, classify and
summarize financial information.
21.
An auditor is associated with financial information when
•
the auditor attaches a report to that
information
consents to the use of the auditor’s name in a
professional connection
•
a
b
c
d
Yes
No
Yes
No
Yes
Yes
No
No
PSA 200 – Objective and general principles governing an audit of FS
22.
The auditor’s opinion
a. Enhances the credibility of the financial statements.
b. Is an assurance as to the future viability of the entity.
c. Is an assurance as to the efficiency with which management has conducted the affairs of
the entity, but not effectiveness.
d. Certifies the correctness of the financial statements.
23.
Which of the following is incorrect regarding the general principles of an audit?
a. The auditor should comply with the “Code of Ethics for Professional Ethics for Certified
Public Accountants” promulgated by the Philippine Professional Regulation Commission.
b. The auditor should conduct an audit in accordance with PSAs.
c. The auditor should plan and perform an audit with an attitude of professional skepticism
recognizing that circumstances may exist that cause the financial statements to be
materially misstated.
d. The auditor would ordinarily expect to find evidence to support management
representations and assume they are necessarily correct.
24.
It refers to the audit procedures deemed necessary in the circumstances to achieve the
objective of the audit.
a. Scope of an audit
c. Objective of an audit
b. Audit program
d. Reasonable assurance
25.
Which of the following are sources of procedures to be considered by the auditor to conduct
an audit in accordance with PSAs?
a.
b.
c.
d.
PSA
Yes
No
No
Yes
Legislation
No
No
Yes
Yes
Terms of Audit Engagement
No
Yes
Yes
Yes
Type of Opinion
No
Yes
No
No
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
Professional Accounting Practice
Related PSA : Preface to PSA and Related Services
1.
The following statements relate to the accounting profession:
I.
To merit public trust and confidence, the professional person must convince the public that
he will place public service ahead of personal reward.
II. A CPA certificate is evidence of basic competence in the discipline of accounting at the time
the certificate is granted.
III. A code of professional conduct is one of the most important distinguishing characteristics of
a profession.
State whether the foregoing statements are true or false.
c. Only two of the statements are true.
a. All of the statements are true.
b. Only one of the statements is true.
d. All of the statements are false.
2.
Which of the following is not normally a service rendered by public accountants?
a.
Management consultation service
c. Internal auditing
b.
Attest function
d. Taxation
3.
A CPA firm offers management advisory services to clients. Its primary purpose is to
a. Furnish professional advice and assistance which will enable the client to improve
operations.
b. Keep the CPA firm competitive with other firms.
c. Establish the firm as a consultant, thus ensuring its future expansion and growth.
d. Permit the firm’s staff members to acquire expertise in other areas of practice.
4.
The government agency tasked by law of implementing and enforcing the regulatory policies
of the national government with respect to the regulation and licensing of the various
professions and occupations under its jurisdiction is
a. PRC
b. BOA
c. COA
d. SEC
5.
Which of the following mostly describes the function of ASPC?
a. To monitor full compliance by auditors to PSAs.
b. To promulgate auditing standards, practices and procedures that shall be generally
accepted by the accounting profession in the Philippines.
c. To assist the Board of Accountancy in conducting administrative proceedings on erring
CPAs in audit practice.
d. To undertake continuing research on both auditing and financial accounting in order to
make them responsive to the needs of the public.
6.
In the absence of pronouncements issued by the ASPC and the PICPA, published
statements and guidelines issued by other authoritative bodies like AICPA, IAASB and AFA
are the bases of determining generally accepted auditing standards (GAAS). What effect do
these pronouncements provide in determining the GAAS?
b. Persuasive
c. Parallel
d. Alternative
a. Authoritative
7.
Which statement is incorrect regarding the pronouncements of ASPC?
a. The PSAs and Interpretations may also have application, as appropriate, to other related
activities of auditors.
b. PSAs contain basic principles and essential procedures (identified in bold type black
lettering) together with related guidance in the form of explanatory and other material.
c. PSAs need only be applied to material matters.
d. The Interpretations have the same authority as the PAPSs.
8.
The Philippine Standards on Auditing issued by ASPC
a. Apply to independent examination of financial statements of any entity when such an
examination is conducted for the purpose of expressing an opinion thereon.
b. Must not apply to other related activities of auditors
c. Need to be applied on all audit related matters.
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d. Require that in no circumstances would an auditor may judge it necessary to depart from
a PSA, even though such a departure may result to more effective achievement of the
objective of an audit
9.
These statements are issued to provide practical assistance to auditors in implementing the
PSAs
a. Interpretations
b. SASP
c. PAPS
d. SPA
10.
A body that is created through the Philippine Accountancy Act of 2004 and is intended to
replace the ASPC.
a. Auditing and Assurance Standards Council (AASC)
b. Financial Reporting Standards Council (FRSC)
c. Education Technical Council (ETC)
d. Philippine Institute of Certified Public Accountants (PICPA)
11.
Which of the following government agencies is represented both to the Auditing Standards
and Practices Council and the Auditing and Assurance Standards Council?
a. Bangko Sentral ng Pilipinas
c. Securities and Exchange Commission
b. Bureau of Internal Revenue
d. Commission on Higher Education
12.
Are the following government agencies represented both to Auditing Standards and Practices
Council (ASPC) and the new Auditing and Assurance Standards Council (AASC)?
a
b
c
d
Yes
Yes
Yes
Yes
• Board of Accountancy
Yes
Yes
No
No
• Securities and Exchange Commission
Yes
Yes
Yes
Yes
• Commission on Audit
Yes
No
Yes
No
• Bangko Sentral ng Pilipinas
13.
Which statement is correct regarding AASC?
a. The AASC shall be composed of 15 members plus a Chairman.
b. The chairman and members of the AASC shall be appointed by the President of the
Philippines upon the recommendation of PRC.
c. The chairman and members of the AASC shall have a non-renewable term of 3 years.
d. The chairman should have been or presently a senior practitioner in public accountancy.
14.
The following sectors represented by the PICPA to the membership of AASC have one
representative, except
a. Government
c. Commerce and industry
d. Academe
b. Public practice
15.
Statements on financial accounting standards constituting GAAP are issued by the
a. Philippine Institute of CPAs.
c. Audit Standards and Practices Council.
b. Securities and Exchange Commission.
d. Accounting Standards Council.
16.
Indicate whether the following functions would be performed by:
P – Partner
S – Senior
M – Manager
AS – Audit Assistant
(1) Supervises two or more concurrent audit engagements
(2)
Performs detailed audit procedures
(3)
Overall responsibility for audit
(4)
Signs audit report
(1)
(2)
(3)
(4)
a.
P
AS
S
M
b.
M
S
M
P
c.
M
AS
P
P
d.
P
AS
S
M
17.
The amount of audit fees depend largely on the
a. Size and capitalization of the company under audit.
b. Amount of profit for the year.
c. Availability of cash.
d. Volume of audit work and degree of competence and responsibilities involved.
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18.
In determining audit fees, an auditor may take into account each of the following except
a. Volume and intricacy of work involved.
c. Number and cost of manhours needed.
b. Degree of responsibility assumed.
d. Size and amount of capital of client.
19.
Under this method of billing a client, the external auditors charges on the basis of time spent
by principals/partners, supervisors, seniors and juniors at predetermined rates agreed upon
with the client
a.
Maximum fee basis
c. Flat sum basis
d. Per diem basis
b.
Retainer basis
RA No. 9298 – Philippine Accountancy Act of 2004 and its IRR
1.
Which of the following is not one of the specified objectives of the Accountancy Act of 2004?
a. Examination for registration of CPAs.
b. Supervision, control, and regulation of accounting practice.
c. Standardization and regulation of accounting education.
d. Promulgation of accounting and auditing standards.
2.
In all of the following situations except one, a person is deemed to be engaged in
professional accounting practice. Which of them is the exception?
a. Performing audits or verification of financial transactions and records for more than one
client.
b. Employed as the department chairman that supervises the BSA program of an
educational institution.
c. Employment as controller of a private business enterprise and such employment requires
that the holder thereof should be a CPA.
d. Appointment in the government where first grade civil service eligibility is a prerequisite.
3.
A person is not deemed to be engaged in professional accounting practice if
a. Her merely holds himself out as skilled in the science and practice of accounting and
qualified to render services as a CPA.
b. He merely offers to render services as a CPA to the public, but does not actually render
such services.
c. He offers or renders bookkeeping services to more than one client.
d. He installs and revises accounting systems for more than one client.
4.
Practice in Public Accountancy shall constitute in a person
a. Involved in decision making requiring professional knowledge in the science of
accounting, or when such employment or position requires that the holder thereof must be
a certified public accountant.
b. In an educational institution which involve teaching of accounting, auditing, management
advisory services, finance, business law, taxation, and other technically related subjects.
c. Who holds, or is appointed to, a position in an accounting professional group in
government or in a government owned and/or controlled corporation, including those
performing proprietary functions, where decision making requires professional knowledge
in the science of accounting,
d. Holding out himself/herself as one skilled in the knowledge, science and practice of
accounting, and as a qualified person to render professional services as a certified public
accountant; or offering or rendering, or both, to more than one client on a fee basis or
otherwise.
5.
Any position in any business or company in the private sector which requires supervising the
recording of financial transactions, preparation of financial statements, coordinating with the
external auditors for the audit of such financial statements and other related functions shall
be occupied only by a duly registered CPA. Provided (choose the incorrect one)
a. That the business or company where the above position exists has a paid-up capital of at
least P5,000,000 and/or an annual revenue of at least P10,000,000.
b. The above provision shall apply only to persons to be employed after the effectivity of the
Implementing Rules and Regulations of RA 9298.
c. The above provision shall not result to deprivation of the employment of incumbents to
the position.
d. None of the above.
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6.
The integrated national professional organization of Certified Public Accountants accredited
by the BOA and the PRC per PRC accreditation No. 15 dated October 2, 1975.
a. Auditing and Assurance Standards Council (AASC)
b. Financial Reporting Standards Council (FRSC)
c. Education Technical Council (ETC)
d. Philippine Institute of Certified Public Accountants (PICPA)
7.
As defined in the IRR of RA 9298, it is an organization engaged in the practice of public
accountancy, consisting of sole proprietor, either alone or with one or more staff members.
a. Firm
b. Individual CPA
c. Partnership
d. Sector
8.
The following statements relate to the Board of Accountancy. Which statement is correct?
a. The Board consists of a Chairman and six members.
b. The chairman and members are appointed by the President of the Philippines upon
recommendation of PICPA.
c. The Professional Regulation Commission may remove from the Board any member
whose certificate to practice has been removed or suspended.
d. Majority of the board members shall as much as possible be in public practice.
9.
The APO shall submit its nominations with complete documentation to the Commission not
later than _____ prior to the expiry of the term of an incumbent chairman or member.
a. 30 days
b. 60 days
c. 90 days
d. 120 days
10.
A member of the BOA shall, at the time of his/her appointment, possess the following
qualifications, except
a. Must be a natural-born citizen and resident of the Philippines.
b. Must be a duly registered CPA with more than ten (10) years of work experience in any
scope of practice of accountancy.
c. Must be of good moral character and must not have been convicted of crimes involving
moral turpitude.
d. Must not be a director or officer of the APO at the time of his/her appointment.
11.
Which statement is incorrect regarding the term of office of the chairman and the members of
the Board of Accountancy (BOA)?
a. The Chairman and members of the Board shall hold office for a term of three years.
b. No person who has served two (2) successive complete terms shall be eligible for
reappointment until the lapse of one (1) year.
c. A person may serve the BOA for not more than twelve years.
d. A member of the BOA may continuously serve office for more than nine years.
12.
The Board shall exercise the following specific powers, functions and responsibilities:
a
b
c
• To supervise the registration, licensure and
Yes
Yes
Yes
practice of accountancy
• To issue, suspend, revoke, or reinstate the
Certificate of Registration for the practice of
Yes
No
Yes
the accountancy profession
• To monitor the conditions affecting the practice
Yes
No
Yes
of accountancy
• To conduct an oversight into the quality of
Yes
No
Yes
audits of financial statements
• To issue a cease or desist order to any
person, association, partnership or corporation
Yes
Yes
No
engaged in violation of any provision of the Act
d
Yes
Yes
Yes
No
Yes
13.
Which of the following is not one of the penalties that can be imposed by the Board of
Accountancy?
a. Fine or imprisonment
c. Reprimand
b. Revocation of CPA certificate
d. Suspension of CPA certificate
14.
The creation of FRSC and AASC is intended to assist the BOA in carrying out its function to
a. To monitor the conditions affecting the practice of accountancy and adopt such
measures, rules and regulations and best practices as may be deemed proper for the
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enhancement and maintenance of high professional, ethical, accounting and auditing
standards.
b. To supervise the registration, licensure and practice of accountancy in the Philippines.
c. To prescribe and adopt the rules and regulations necessary for carrying out the provisions
of RA 9298.
d. To prepare, adopt, issue or amend the syllabi of the subjects for examinations.
15.
A body that is created to assist the BOA in the attainment of the objective of continuously
upgrading the accountancy education in the Philippines to make the Filipino CPAs globally
competitive.
a. Philippine Institute of Certified Public Accountants (PICPA)
b. Education Technical Council (ETC)
c. Financial Reporting Standards Council (FRSC)
d. Associations of CPAs in Education (ACPAE)
16.
Which of the following is are grounds for suspension or removal of members of BOA?
I. Neglect of duty or incompetence.
II. Violation or tolerance of any violation of the CPA’s Code of Ethics.
III. Final judgment of crimes involving moral turpitude.
IV. Rigging of the certified public accountant’s licensure examination results.
a. I, II, III and IV
b. I, II and III
c. III and IV
d. I, III and IV
17.
The following statements relate to CPA examination ratings. Which of the following is
incorrect?
a. To pass the examination, candidates should obtain a general weighted average of 75%
and above, with no rating in any subject less than 65%.
b. Candidates who obtain a rating of 75% and above in at least four subjects shall receive a
conditional credit for the subjects passed.
c. Candidates who failed in four complete examinations shall no longer be allowed to take
the examinations the fifth time.
d. Conditioned candidates shall take an examination in the remaining subjects within two
years from the preceding examination.
18.
The Board, subject to the approval of the Commission, may revise or exclude any of the
subjects and their syllabi, and add new ones as the need arises. Provided that the change
shall not be more often than every
b. 3 years
c. 4 years
d. 5 years
a. 2 years
19.
The BOA shall submit to the PRC the ratings obtained by each candidate within how many
calendar days after the examination?
b. 10 days
c. 15 days
d. 30 days
a. 5 days
20.
A Professional Identification Card bearing the registration number, date of issuance, expiry
date, duly signed by the chairperson of the Commission, shall be issued to every registrant
renewable every
a. Two years
b. Three years
c. Four years
d. Five years
21.
The certified public accountant shall be required to indicate which of the following numbers
on the documents he/she signs, uses or issues in connection with the practice of his/her
profession?
A
b
c
d
Yes
Yes
Yes
No
• His/her Certificate of Registration
Yes
Yes
Yes
Yes
• Professional Identification Card
Yes
Yes
No
Yes
• Professional Tax Receipt
Yes
No
No
No
• Telephone
22.
The BOA shall not refuse the registration of any person who successfully passed the CPA
examinations if
a. Convicted by a court of competent jurisdiction of a criminal offense involving moral
turpitude
b. Convicted for a political offense.
c. Guilty of immoral and dishonorable conduct
d. None of the above.
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23.
Which of the following is not one of the grounds for proceedings against a CPA?
a. Gross negligence or incompetence in the practice of his profession.
b. Engaging in public practice while being employed in a private enterprise.
c. Insanity.
d. Immoral or dishonorable conduct.
24.
A person whose CPA certificate has been revoked
a. Can no longer be reinstated as a CPA
b. Is automatically reinstated as a CPA after two years if the has acted in an exemplary
manner
c. May be reinstated as a CPA by the Board of Accountancy after two years if he has acted
in an exemplary manner
d. May be reinstated by the PRC after two years if he has acted in an exemplary manner
25.
Who is not permitted by law to practice accountancy?
a. A corporation whose stockholders are all CPAs
b. A partnership of CPAs
c. An individual CPA practitioner
d. A partnership of CPAs with some non-CPA staff
26.
A certificate of accreditation shall be issued to certified public accountants in public practice
only upon showing, in accordance with rules and regulations promulgated by the Board and
approved by the Commission, that such registrant has acquired how many years of
meaningful experience in any of the areas of public practice?
c. Three
d. Four
a. One
b. Two
27.
A meaningful experience shall be considered as satisfactory compliance with the
requirements of Section 28 of RA 9298 if it is earned in (Choose the incorrect one)
a. Commerce and industry and shall include significant involvement in general accounting,
budgeting, tax administration, internal auditing, liaison with external auditors, representing
his/her employer before government agencies on tax and matters related to accounting or
any other related functions.
b. Academe/education and shall include teaching for at least three (3) trimesters or two (2)
semesters subjects in either financial accounting, business law and tax, auditing
problems, auditing theory, financial management and management services.
c. Government and shall include significant involvement in general accounting, budgeting,
tax administration, internal auditing, liaison with the Commission on Audit or any other
related functions.
d. Public practice and shall include at least two years as audit assistant and at least one
year as auditor in charge of audit engagement covering full audit functions of significant
clients.
28.
The Accountancy Law provides that all working papers made during an audit shall be the
property of the auditor. These working papers shall include the following, except:
a. Schedules and memoranda made by the CPA and his staff.
b. Working papers prepared and submitted by the client.
c. Excerpts or copies of documents furnished the auditor.
d. Reports submitted by the CPA to the client.
29.
Individual CPAs, Firms or Partnerships of CPAs, including partners and staff members
thereof shall register with the BOA and the PRC. If the application for registration of AB and
Co., CPAs was approved on August 30, 2005, it shall file for renewal on or before
a. September 30, 2007
c. December 31, 2007
b. September 30, 2008
d. August 30, 2008
30.
Which statement is correct regarding CPE requirements for renewal of professional license?
a. The total CPE credit units required for CPAs shall be sixty (60) units for three (3) years,
provided that a minimum of twenty (20) credit units shall be earned in each year.
b. A registered professional shall be permanently exempted from CPE requirements upon
reaching the age of 60 years old.
c. A registered professional who is working abroad shall be temporarily exempted from
compliance with CPE requirement during his/her stay abroad, provided that he/she is has
been out of the country for at least one year immediately prior to the date of renewal.
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d. Those who failed to renew professional licenses for a period of five (5) continuous years
from initial registration, or from last renewal shall be declared delinquent.
31.
Any person who shall violate any of the provisions of RA 9298 or any of its implementing
rules and regulations as promulgated by the Board subject to the approval of the
Commission, shall, upon conviction, be punished by
a. A fine of not less than fifty thousand pesos (P 50,000.00) or by imprisonment for a period
not exceeding two (2) years or both.
b. A fine of not less than one hundred thousand pesos (P 100,000.00) or by imprisonment
for a period not exceeding two (2) years or both.
c. A fine of not less than fifty thousand pesos (P 50,000.00) or by imprisonment for a period
not exceeding three (3) years or both.
d. A fine of not less than one hundred thousand pesos (P 100,000.00) or by imprisonment
for a period not exceeding three (3) years or both.
32.
The primary duty to enforce the provisions of RA 9298 and its IRR rests with
a. The PRC
c. The PRC and BOA
b. The BOA
d. The AASC
33.
The PICPA shall renew its Certificate of Accreditation once every how many years after the
date of the Resolution granting the petition for re-accreditation and the issuance of the said
certificate upon submission of the requirements?
b. 3 years
c. 4 years
d. 6 years
a. 2 years
34.
Below are the names of three CPA firms and pertinent facts relative to each firm. Unless
otherwise indicated, the individuals named are CPAs and partners, and there are no other
partners. Which firm name and related facts indicates a violation of the IRR of RA 9298?
a. Joyce, Ara and Angela, CPAs (Joyce died about 10 years ago, Ara and Angela are
continuing the firm)
b. Lupin and Fujico, CPAs ( the name of Goymon a third active partner is omitted in the firm
name)
c. Hugo and Pugo, CPAs (Hugo died 25 months ago, Pugo is continuing the firm as a sole
proprietor)
d. Bubu and Bibi, CPAs (Bibi died 3 years ago, Bobot was admitted into the partnership 2
months after Bibi’s death.)
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
PROFESSIONAL AND LEGAL RESPONSIBILITIES
Related PSAs : PSA 240rev, 250 and 260
PSA 240(rev) – The Auditor’s Responsibility to Consider Fraud and Error in the Audit of FS
1.
The primary responsibility for the prevention and detection of fraud and error rests with
a. The auditor.
c. The management of an entity.
d. Both b and c.
b. Those charged with governance.
2.
When planning and performing audit procedures and evaluating and reporting the results
thereof, the auditor should
a. Search for errors that would have a material effect and for fraud that would have either
material or immaterial effect on the financial statements.
b. Consider the risk of misstatements in the financial statements resulting from fraud or error.
c. Search for fraud that would have a material effect and for errors that would have either
material or immaterial effect on the financial statements.
d. Consider the risk of material misstatements in the financial statements resulting from fraud
or error.
3.
The following are examples of error, except
a. A mistake in gathering or processing data from which financial statements are prepared.
b. An incorrect accounting estimate arising from oversight or misinterpretation of facts.
c. A mistake in the application of accounting principles relating to measurement, recognition,
classification, presentation, or disclosure.
d. Misrepresentation in the financial statements of events, transactions or other significant
information.
4.
The term “fraud” refers to an intentional act by one or more individuals among management,
those charged with governance, employees, or third parties, involving the use of deception to
obtain an unjust or illegal advantage. Which statement is correct regarding fraud?
a. Auditors make legal determinations of whether fraud has actually occurred.
b. Misstatement of the financial statements may not be the objective of some frauds.
c. Fraud involving one or more members of management or those charged with governance is
referred to as “employee fraud”.
d. Fraud involving only employees of the entity is referred to as “management fraud”.
5.
The types of intentional misstatements that are relevant to the auditor’s consideration of fraud
include
I. Misstatements resulting from fraudulent financial reporting
II. Misstatements resulting from misappropriation of assets
a. I and II
b. I only
c. II only
d. Neither I nor II
6.
Fraudulent financial reporting involves intentional misstatements or omissions of amounts or
disclosures in financial statements to deceive financial statement users. Fraudulent financial
reporting least likely involve
a. Deception such as manipulation, falsification, or alteration of accounting records or
supporting documents from which the financial statements are prepared.
b. Misrepresentation in, or intentional omission from, the financial statements of events,
transactions or other significant information.
c. Intentional misapplication of accounting principles relating to measurement, recognition,
classification, presentation, or disclosure.
d. Embezzling receipts, stealing physical or intangible assets, or causing an entity to pay for
goods and services not received.
7.
Which of the following illustrates a perceived opportunity to commit fraud?
a. Individuals are living beyond their means.
b. Management is under pressure, from sources outside or inside the entity, to achieve an
expected (and perhaps unrealistic) earnings target.
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c. An individual believes internal control could be circumvented because the individual is in a
position of trust or has knowledge of specific weaknesses in the internal control system.
d. All of the above.
8.
Which statement is incorrect regarding the auditor’s responsibility to consider fraud and error in
an audit of financial statements?
a. The auditor is not and cannot be held responsible for the prevention of fraud and error.
b. In planning the audit, the auditor should discuss with other members of the audit team the
susceptibility of the entity to material misstatements in the financial statements resulting from
fraud or error.
c. The auditor should design test of controls to reduce to an acceptably low level the risk that
misstatements resulting from fraud and error that are material to the financial statements
taken as a whole will not be detected.
d. When the auditor encounters circumstances that may indicate that there is a material
misstatement in the financial statements resulting from fraud or error, the auditor should
perform procedures to determine whether the financial statements are materially misstated.
9.
The risk of not detecting a material misstatement resulting from fraud is higher than the risk of
not detecting a material misstatement resulting from error because
a. The effect of fraudulent act is likely omitted in the accounting records.
b. Fraud is ordinarily accompanied by acts specifically designed to conceal its existence.
c. Fraud is always a result of connivance between or among employees.
d. The auditor is responsible to detect errors but not fraud.
10.
Which of the following statements describes why a properly designed and executed audit may
not detect a material fraud?
a. Audit procedures that are effective for detecting an unintentional misstatement may be
ineffective for an intentional misstatement that is concealed through collusion.
b. An audit is designed to provide reasonable assurance of detecting material errors, but there
is no similar responsibility concerning material fraud.
c. The factors considered in assessing control risk indicated an increased risk of intentional
misstatements, but only a low risk of unintentional errors in the financial statements.
d. The auditor did not consider factors influencing audit risk for account balances that have
pervasive effects on the financial statements taken as a whole.
11.
The auditor’s ability to detect a fraud depends on factors such as
I. The skillfulness of the perpetrator.
II. The frequency and extent of manipulation.
III. The degree of collusion involved.
IV. The relative size of individual amounts manipulated.
V. The seniority of those involved.
a. All of the above
b. I, III and V only c. I, II, III and V only
d. III and V only
12.
In comparing management fraud with employee fraud, the auditor’s risk of failing to discover the
fraud is
a. Greater for employee fraud because of the higher crime rate among blue collar workers.
b. Greater for management fraud because of management’s ability to override existing internal
controls.
c. Greater for employee fraud because of the larger number of employees in the organization.
d. Greater for management fraud because managers are inherently smarter than employees.
13.
The subsequent discovery of a material misstatement of the financial statements resulting from
fraud or error, in and of itself, indicates:
a
b
c
d
Yes
Yes
Yes
No
• a failure to obtain reasonable assurance
Yes
No
No
No
• inadequate planning, performance or judgment
• the absence of professional competence and
Yes
Yes
No
No
due care
Yes
No
No
No
• a failure to comply with PSAs
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14.
Whether the auditor has performed an audit in accordance with PSAs is determined by
a. The adequacy of the audit procedures performed in the circumstances and the suitability of
the auditor’s report based on the result of these procedures.
b. The absence of material misstatements.
c. The absence of material errors.
d. The Securities and Exchange Commission.
15.
When planning the audit, which of the following is least likely a purpose of the auditor’s inquiries
of management?
a. To obtain an understanding of management’s assessment of the risk that the financial
statements may be materially misstated as a result of fraud.
b. To obtain knowledge of management’s understanding regarding the accounting and internal
control systems in place to prevent and detect error.
c. To determine whether management has discovered any material errors.
d. To determine extent of authentication of documentation.
16.
Which of the following best describes what is meant by the term “fraud risk factor”?
a. Factors whose presence indicates that the risk of fraud is high.
b. Factors whose presence often has been observed in circumstances where frauds have
occurred.
c. Factors whose presence requires modifications of planned audit procedures.
d. Reportable conditions identified during an audit.
17.
Which of the following is least likely a category of fraud risk factors that relate to misstatements
resulting from fraudulent financial reporting?
a. Management’s characteristics and influence over the control environment.
b. Industry conditions.
c. Operating characteristics and financial stability.
d. Susceptibility of assets to misappropriation.
18.
Fraud risk factors relating to management’s characteristics and influence over the control
environment
a. Pertain to management’s abilities, pressures, style, and attitude relating to internal control
and the financial reporting process.
b. Involve the economic and regulatory environment in which the entity operates.
c. Pertain to the nature and complexity of the entity and its transactions, the entity’s financial
condition, and its profitability.
d. Involve the lack of controls designed to prevent or detect misappropriation of assets.
19.
Which of the following is least likely an example of fraud risk factors relating to management’s
characteristics and influence over the control environment?
a. There is motivation for management to engage in fraudulent financial reporting.
b. There is a failure by management to display and communicate an appropriate attitude
regarding internal control and the financial reporting process.
c. Non-financial management participates excessively in, or is preoccupied with, the selection
of accounting principles or the determination of significant estimates.
d. New accounting, statutory or regulatory requirements that could impair the financial stability
or profitability of the entity.
20.
The following are examples of fraud risk factors relating to industry conditions, except
a. There is a high turnover of management, counsel or board members.
b. A high degree of competition or market saturation, accompanied by declining margins.
c. A declining industry with increasing business failures and significant declines in customer
demand.
d. Rapid changes in the industry, such as high vulnerability to rapidly changing technology or
rapid product obsolescence.
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21.
Which of the following is most likely an example of fraud risk factor relating to management’s
characteristics and influence over the control environment?
a. There is a strained relationship between management and the current or predecessor
auditor.
b. Inability to generate cash flows from operations while reporting earnings and earnings
growth.
c. Significant related party transactions which are not in the ordinary course of business.
d. Significant, unusual or highly complex transactions (especially those close to year-end) that
pose difficult questions concerning substance over form.
22.
Examples of fraud risk factors relating to susceptibility of assets to misappropriation include the
following, except
a. Large amounts of cash on hand or processed.
b. Inventory characteristics, such as small size combined with high value and high demand.
c. Easily convertible assets, such as bearer bonds, diamonds or computer chips.
d. Lack of appropriate management oversight.
23.
Judgments about the risk of material misstatements resulting from fraud may affect the audit in
the following ways, except
a. The application of professional skepticism may include increased sensitivity in the selection
of the nature and extent of documentation to be examined in support of material
transactions.
b. The knowledge, skill and ability of members of the audit team assigned significant audit
responsibilities need to be commensurate with the auditor’s assessment of the level of risk
for the engagement.
c. The auditor may decide to consider further management’s selection and application of
significant accounting policies, particularly those related to revenue recognition, asset
valuation or capitalizing versus expensing.
d. The auditor’s ability to assess control risk at high level may be reduced.
24.
The nature, timing and extent of procedures may need to be modified in the following ways as
possible responses to the auditor’s assessment of the risk of material misstatement resulting
from both fraudulent financial reporting and misappropriation of assets.
a. The nature of audit procedures performed may need to be changed to obtain evidence that
is more reliable or to obtain additional corroborative information.
b. The timing of substantive procedures may need to be altered to be closer to, or at, year-end.
c. The extent of the procedures applied will need to reflect the assessment of the risk of
material misstatement resulting from fraud.
d. All of the above.
25.
The auditor may encounter circumstances that, individually or in combination, indicate the
possibility that the financial statements may contain a material misstatement resulting from fraud
or error. These circumstances include the following, except
a. Unrealistic time deadlines for audit completion imposed by management.
b. Conflicting or unsatisfactory evidence provided by management or employees.
c. Information provided unwillingly or after unreasonable delay.
d. Transactions recorded in accordance with management’s general or specific authorization.
26.
Which of the following circumstances most likely indicate the possibility of fraud or error?
a. Management engages in frank communication with appropriate third parties, such as
regulators and bankers.
b. Evidence of an unduly lavish lifestyle by officers or employees.
c. Conservative application of accounting principles.
d. Minimal differences from expectations disclosed by analytical procedures.
27.
Which of the following should the auditor likely to do when the application of planned audit
procedures indicates the possible existence of fraud or error?
a. The auditor should resign in order to avoid legal responsibility.
b. He should discuss the matter with the person whom he believes is involved with the
irregularities.
c. He should consider the potential effect on the financial statements.
d. He should refer the suspected fraud or error to the internal auditor.
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28.
If the auditor believes an indicated fraud or error could have a material effect on the financial
statements, the nature, timing and extent of the procedures to be performed depends on the
auditor’s judgment as to
a. The type of fraud or error.
b. The likelihood that a particular type of fraud or error could have a material effect on the
financial statements.
c. The likelihood of their occurrence.
d. All of the above.
29.
The auditor should document
a. Fraud risk factors identified as being present during the auditor’s assessment process.
b. The auditor’s response to fraud risk factors identified.
c. Both a and b.
d. Neither a nor b.
30.
The auditor least likely obtains written representations from management that the management:
a. Acknowledges its responsibility for the implementation and operations of accounting and
internal control systems that are designed to prevent and detect fraud and error.
b. Believes the effects of those uncorrected financial statement misstatements aggregated by
the auditor during the audit are material, both individually and in the aggregate, to the
financial statements taken as a whole.
c. Has disclosed to the auditor all significant facts relating to any frauds or suspected frauds
known to management that may have affected the entity.
d. Has disclosed to the auditor the results of its assessment of the risk that the financial
statements may be materially misstated as a result of fraud.
31.
Communication of a misstatement resulting from fraud, or a suspected fraud, or error to the
appropriate level of management on a timely basis is important because it enables management
to take action as necessary. Ordinarily, the appropriate level of management is
a. At least equal to the level of the persons who appear to be involved with the misstatement or
suspected fraud.
b. At least one level above the persons who appear to be involved with the misstatement or
suspected fraud.
c. The audit committee of the board of directors.
d. The head of internal audit department.
32.
The auditor may encounter exceptional circumstances that bring into question the auditor’s
ability to continue performing the audit, including where
a. The entity does not take the remedial action regarding fraud that the auditor considers
necessary in the circumstances, even when the fraud is not material to the financial
statements.
b. The auditor’s consideration of the risk of material misstatement resulting from fraud and the
results of audit tests indicate a significant risk of material and pervasive fraud.
c. The auditor has significant concern about the competence or integrity of management or
those charged with governance.
d. All of the above.
PSA 250 – Consideration of Laws and Regulations in an Audit of Financial Statements
1.
When an auditor becomes aware of a possible illegal act by a client, the auditor should obtain an
understanding of the nature of the act to
a. Increase the assessed level of control risk.
b. Recommend remedial actions to the audit committee.
c. Evaluate the effect on the financial statements.
d. Determine the reliability of management’s representations.
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2.
Mac, CPA, is auditing the financial statements of TL’s Retailing, Inc. What assurance does Mac
provide that direct effect illegal acts that are material to TL’s financial statements, and illegal acts
that have a material, indirect effect on the financial statements will be detected?
Indirect effect illegal acts
Direct effect illegal acts
a.
Reasonable
None
b.
Reasonable
Reasonable
c.
Limited
None
d.
Limited
Reasonable
3.
The most likely explanation why the auditor’s examination cannot reasonably be expected to
bring all illegal acts by the client to the auditor’s attention is that
a. Illegal acts are perpetrated by management override of internal accounting controls.
b. Illegal acts by clients often relate to operating aspects rather than accounting aspects.
c. The client’s system of internal accounting control may be so strong that the auditor performs
only minimal substantive testing.
d. Illegal acts may be perpetrated by the only person in the client’s organization with access to
both assets and the accounting records.
4.
An auditor who finds that the client has committed an illegal act would be most likely to withdraw
from the engagement when the
a. Illegal act affects auditor’s ability to rely on management representations.
b. Illegal act has material financial statement implications.
c. Illegal act has received widespread publicity.
d. Auditor cannot reasonably estimate the effect of the illegal act on the financial statements.
5.
If an auditor believes a client may have committed illegal acts, which of the following actions
should the auditor take?
a. Consult with the client’s counsel and the auditor’s counsel to determine how the suspected
illegal acts will be communicated to stockholders.
b. Extend auditing procedures to determine whether the suspected illegal acts have a material
effect on the financial statements.
c. Make inquiries of the client’s management and obtain an understanding of the
circumstances underlying the acts and of other evidence to determine the effects of the acts
on the financial statements.
d. Notify each member of the audit committee of the board of directors about the nature of the
acts and request that they advise an approach to be taken by the auditor.
6.
An audit client’s board of directors and audit committee refused to take action about an
immaterial illegal act that was brought to their attention by the auditor. Because of their failure
to act, the auditor withdrew from the engagement. The auditor’s decision to withdraw was
primarily due to doubt concerning
a. Inadequate financial statement disclosures.
b. Compliance with the laws.
c. Scope limitations resulting from the inaction.
d. Reliance on management’s representation.
7.
Which of the following is incorrect about the auditor’s responsibility of evaluating noncompliance
by the entity to laws and regulations?
a. An audit cannot be expected to detect noncompliance with all laws and regulations.
b. Noncompliance refers to acts of omission or commission by the entity being audited which
are contrary to prevailing laws or regulations.
c. Noncompliance includes personal misconduct of entity management or employers though
they are unrelated to the entity’s business activities.
d. Detection of noncompliance, regardless of materiality, requires considerations of the
implications for the integrity of management or employees.
8.
What is expected of auditor in determining noncompliance by an entity to existing laws and
regulations?
a. Whether an act constitutes noncompliance is a legal determination that is ordinarily within
the auditor’s professional competence.
b. The auditor’s training, experience and understanding of the entity and its industry cannot
provide a basis for recognition that some acts coming to the auditor’s attention may
constitute noncompliance with laws and regulations.
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c. The determination as to whether a particular act constitutes or is likely to constitute
noncompliance is generally based on the understanding of the auditor but ultimately can only
be determined by an expert who is qualified to practice law.
d. In order to plan the audit, the auditor should obtain a general understanding of the legal and
regulatory framework applicable to the entity and the industry and how the entity is
complying with the framework.
9.
When the auditor becomes aware of information concerning a possible noncompliance to laws
or regulations, the auditor should appropriately:
a. Obtain an understanding of the nature of the act and the circumstances in which it has
occurred, and evaluate the possible effect on the financial statements.
b. Discuss his suspicion with the management.
c. Ask management to determine whether a violation is really committed.
d. Consult with the entity’s legal counsel as to what appropriate action the auditor should do.
10.
If the auditor suspects that members of senior management, including members of the board of
directors, are involved in noncompliance to laws as regulations, and he believes his report may
not be acted upon, he would:
a. Do nothing.
b. Issue a disclaimer of opinion.
c. Consider seeking legal advice.
d. Make special investigation in order to fully determine the extent of client’s noncompliance.
11.
Which of the following circumstances regarding the entity’s noncompliance to laws or regulations
may cause the auditor to resign from an engagement?
a. The auditor is unable to determine whether noncompliance has occurred.
b. If the auditor concludes that the noncompliance has a material effect on the financial
statements and has not been properly reflected in the financial statements.
c. When the entity does not take remedial action that he considers necessary in the
circumstances even when the noncompliance is not material to financial statements.
d. When the disclosure of the effect of noncompliance to legal authority is necessary.
12.
Examples of the type of information that may come to the auditor's attention that may indicate
that noncompliance with laws or regulations has occurred least likely include
a. Investigation by government departments or payment of fines or penalties.
b. Sales commissions or agent's fees that appear reasonable in relation to those ordinarily paid
by the entity or in its industry or to the services actually received.
c. Unusual transactions with companies registered in tax havens.
d. Media comment.
PSA 260 – Communications of Audit Matters with Those Charged with Governance
1.
Which statement is incorrect regarding PSA 260?
a. The purpose of this PSA is to establish standards and provide guidance on communication
of audit matters arising from the audit of financial statements between the auditor and those
charged with governance of an entity.
b. These communications relate to audit matters of governance interest as defined in this PSA.
c. This PSA provides guidance on communications by the auditor to parties outside the entity,
for example, external regulatory or supervisory agencies.
d. All the above statements are correct.
2.
Which statement is incorrect regarding the auditor’s communications of audit matters with those
charged with governance?
a. The auditor should communicate audit matters of governance interest arising from the audit
of financial statements with those charged with governance of an entity.
b. Those charged with governance ordinarily are accountable for ensuring that the entity
achieves its objectives, financial reporting, and reporting to interested parties.
c. “Audit matters of governance interest” are those that arise from the audit of financial
statements and, in the opinion of the auditor, are either important or relevant to those
charged with governance in overseeing the financial reporting and disclosure process.
d. Audit matters of governance interest include only those matters that have come to the
attention of the auditor as a result of the performance of the audit.
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3.
The role of persons entrusted with the supervision, control and direction of an entity
a. Governance
c. Government
b. Board of directors
d. Management
4.
Which statement is correct regarding “audit matters of governance interest”?
a. These are matters that arise from the audit of financial statements and, in the opinion of the
auditor, are either important or relevant to those charged with governance in overseeing the
financial reporting and disclosure process.
b. These include only those matters that have come to the attention of the auditor as a result of
the performance of the audit.
c. The auditor is required, in an audit in accordance with PSAs, to design procedures for the
specific purpose of identifying these matters.
d. The auditor is not required to communicate these matters with those charged with
governance of an entity.
5.
Which statement is incorrect regarding the auditor’s communications of audit matters with those
charged with governance?
a. The auditor should communicate audit matters of governance interest upon completion of
the engagement.
b. The auditor’s communications with those charged with governance may be made orally or in
writing.
c. When audit matters of governance interest are communicated orally, the auditor documents
in the working papers the matters communicated and any responses to those matters.
d. Ordinarily, the auditor initially discusses audit matters of governance interest with
management, except where those matters relate to questions of management competence
or integrity.
Other Professional Responsibilities
1.
An auditor’s overall objective in a financial statement audit is to
a. Determine that all individual accounts and footnotes are fairly presented.
b. Employ the audit risk model.
c. Express an opinion on the fair presentation of the financial statements in accordance with
generally accepted accounting principles.
d. Detect all errors and fraud.
2.
The primary responsibility for the adequacy of disclosure in the financial statements of a publicly
held company rests with the
a. Partner assigned to the audit engagement.
c. Auditor in-charge of field work.
b. Management of the company.
d. Securities and Exchange Commission.
3.
Reasonable assurance means:
a. Gathering of all available corroborating evidence for the auditor to conclude that there are no
material misstatements in the financial statements, taken as a whole.
b. Gathering of the audit evidence necessary for the auditor to conclude that there are no
material misstatements in the financial statements, taken as a whole.
c. Gathering of the audit evidence necessary for the auditor to conclude that the financial
statements, taken as a whole, are free from any misstatements.
d. Gathering of the audit evidence necessary for the auditor to conclude that the financial
statements are free of material unintentional misstatements.
4.
Which of the following ultimately determines the specific audit procedures necessary to provide
an independent auditor with a reasonable basis for the expression of an opinion?
a. the audit program.
c. generally accepted auditing standards.
b. the auditor’s judgment.
d. the auditor’s working papers.
5.
Which of the following best describes a trend in litigation involving CPAs?
a. A CPA cannot render an opinion on a company unless the CPA has audited all affiliates of
that company.
b. A CPA may successfully assert as a defense that the CPA had no motive to be part of a
fraud.
c. A CPA may be exposed to criminal as well as civil liability.
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d. A CPA is primarily responsible for a client’s footnotes in an annual report filed with the SEC.
6.
In performing MAS engagements, CPAs should not take any positions that might
a. Constitute advice and assistance
b. Provide technical assistance in implementation
c. Result in new organizational policies and procedures
d. Impair their objectivity
7.
An audit independence issue might be raised by the auditor’s participation in management
advisory services engagements. Which of the following statements is most consistent with the
profession’s attitude toward this issue?
a. Information obtained as a result of a management advisory services engagement is
confidential to that specific engagement and should not influence performance of the attest
function.
b. The decision as to loss of independence must be made by the client based upon the facts of
the particular case.
c. The auditor should not make management decisions for an audit client.
d. The auditor who is asked to review management decisions is also competent to make these
decisions and can do so without loss of independence.
8.
The form of communication with a client in a management advisory service consultation should
be
a. Either oral or written.
b. Oral with appropriate documentation in the work papers.
c. Written and copies should be sent to both management and the board of directors.
d. Written and a copy should be sent to management alone.
Legal Responsibilities
1.
Which one of the following, if present, would support a finding of constructive fraud on the part of
a CPA?
a. Privity of contract.
c. Intent to deceive.
b. Reckless disregard.
d. Ordinary negligence.
2.
The limitation of auditor liability under contract law is known as
c. Contributory liability.
a. Privity of contract.
b. Statutory liability.
d. Common law liability.
3.
The auditor's defense of contributory negligence is most likely to prevail when
a. Third party injury has been minimal.
b. The auditor fails to detect fraud resulting from management override of the control structure.
c. The client is privately held as contrasted with a public company.
d. Undetected errors have resulted in materially misleading financial statements.
4.
Mix and Associates, CPAs, issued an unqualified opinion on the financial statements of Glass
Corp. for the year ended December 31, 2005. It was determined later that Glass' treasurer had
embezzled P3,000,000 from Glass during 2005. Glass sued Mix because of Mix's failure to
discover the embezzlement. Mix was unaware of the embezzlement. Which of the following is
Mix's best defense?
a. The audit was performed in accordance with GAAS.
b. The treasurer was Glass' agent and, therefore, Glass was responsible for preventing the
embezzlement.
c. The financial statements were presented in conformity with GAAP.
d. Mix had no actual knowledge of the embezzlement.
5.
The factor that distinguishes constructive fraud from actual fraud is
a. Materiality
c. Quality of internal control.
d. Intent.
b. Type of error or irregularity
6.
Working papers prepared by a CPA in connection with an audit engagement are owned by the
CPA, subject to certain limitations. The rationale for this rule is to
a. Protect the working papers from being subpoenaed.
b. Provide the basis for excluding admission of the working papers as evidence because of the
privileged communication rule.
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c. Provide the CPA with evidence and documentation which may be helpful in the event of a
lawsuit.
d. Establish a continuity of relationship with the client whereby indiscriminate replacement of
CPAs is discouraged.
7.
Mead Corp. orally engaged Dex & Co., CPAs, to audit its financial statements. The
management of Mead informed Dex that it suspected that the accounts receivable were
materially overstated. Although the financial statements audited by Dex did, in fact, include a
materially overstated accounts receivable balance, Dex issued an unqualified opinion. Mead
relied on the financial statements in deciding to obtain a loan from City Bank to expand its
operations. City relied on the financial statements in making the loan to Mead. As a result of
the overstated accounts receivable balance, Mead has defaulted on the loan and has incurred a
substantial loss. If Mead sues Dex for negligence in failing to discover the overstatement, Dex's
best defense would be that
a. No engagement letter had been signed by Dex.
b. The audit was performed by Dex in accordance with generally accepted auditing standards.
c. Dex was not in privity of contract with Mead.
d. Dex did not perform the audit recklessly or with an intent to deceive.
8.
As a consequence of failure to adhere to generally accepted auditing standards in the course of
an audit of the Lamp Corp., Harrison, CPA, did not detect the embezzlement of a material
amount of funds by the company's controller. As a matter of common law, to what extent would
Harrison be liable to the Lamp Corp. for losses attributable to the theft?
a. No liability since the ordinary examination cannot be relied on to detect defalcations.
b. No liability because privity of contract is lacking.
c. Liable for losses attributable to her or his negligence.
d. Liable only if it could be proved that he or she was grossly negligent.
9.
Martin Corporation orally engaged Humm & Dawson to audit its year-end financial statements.
The engagement was to be completed within two months after the close of Martin's fiscal year
for a fixed fee of P250,000. Under these circumstances, what obligation is assumed by Humm
& Dawson?
a. None. The contract is unenforceable since it is not in writing.
b. An implied promise to exercise reasonable standards of competence and care.
c. An implied obligation to take extraordinary steps to discover all defalcations.
d. The obligation of an insurer of its work, which is liable without fault.
10.
In which of the following statements about a public accounting firm's action is scienter or its
equivalent absent?
a. Reckless disregard for the truth.
b. Actual knowledge of fraud.
c. Intent to gain monetarily by concealing fraud.
d. Performance of substandard auditing procedures.
11.
The leading precedent-setting auditing case in the third party liability is
a. Escott et al. v. Bar Chris Construction Corp.
b. Hochfelder v. Ernst & Ernst.
c. Ultramares Corporation v. Touche.
d. United States v. Simon.
12.
The leading case of criminal action against CPAs is the
a. 1136 Tenants case.
b. United States v. Simon case, aka Continental Vending.
c. Escott et al. v. Bar Chris case, aka Bar Chris.
d. Ultramares Corporation v. Touche case.
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
AUDIT REPORT
Related PSAs: PSA 700, 710, 720, 560, 570, 600 and 620
1. When an independent auditor expresses an unqualified opinion he asserts that:
(1) He performed the audit in accordance with generally accepted auditing standards.
(2) The company is a profitable and viable entity.
(3) The financial statements examined are in conformity with GAAP.
(4) The financial statements are accurate and free of errors.
a.
b.
c.
d.
All of the above statements are true.
Only statements (1) and (3) are true.
Only statements (2) and (4) are true.
All of the above statements are false.
2. An audit report should be dated as of the
a. date the report is delivered to the entity audited.
b. date the financial statements were approved by the client management.
c. balance sheet date of the latest period reported on.
d. date a letter of audit inquiry is received from the entity’s attorney of record.
3. If a company’s external auditor expresses an unqualified opinion as a result of the audit of the
company’s financial statements, readers of the audit report can assume that
a. The external auditor found no fraud.
b. The company is financial sound and the financial statements are accurate.
c. Internal control is effective.
d. All material disagreements between the company and external auditor about the application
of accounting principles were resolved in the satisfaction of the external auditor.
4. A statement that the auditor’s responsibility is to express an opinion on the financial statements
is contained in the:
a. Opening paragraph
c. Opening and scope paragraph
b. Scope paragraph
d. Opinion paragraph
5. The description of an audit in the scope paragraph of the standard audit report includes all of
the following except:
a. Evaluating the overall financial statement presentation.
b. Assessing control risk.
c. Examining, on a test basis, evidence supporting the amount and disclosures in the financial
statements.
d. Assessing the accounting principles used and significant estimates made by management.
6. The audit report is normally addressed to the:
Board of directors
Stockholders
a.
No
Yes
b.
Yes
Yes
c.
Yes
Yes
d.
Yes
No
Chair of the Audit Committee
No
No
Yes
Yes
7. If comparative financial statements are presented and the present auditor has audited both
years, the auditor should:
a. Reissue the report
c. Redate the report
b. Dual date the report
d. Update the report
8. In which of the following situations would the auditor appropriately issue a standard unqualified
report with no explanatory paragraph concerning consistency?
a. A change in the method of accounting for specific subsidiaries that comprise the group of
companies for which consolidated statements are presented.
b. A change from an accounting principle that is not generally accepted to one that is
generally accepted.
c. A change in the percentage used to calculate the provision for warranty expense.
d. Correction of a mistake in the application of a generally accepted accounting principle.
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9. An auditor’s report contains the following sentences:
We did not audit the financial statements of B Company, a consolidated subsidiary,
whose statements reflect total assets and revenues constituting 20 percent and 22
percent, respectively, of the related consolidated totals. These statements were audited
by other auditors, whose report has been furnished to us, and our opinion, insofar as it
relates to the amounts included for B Company, is based solely upon the report of the
other auditors.
These sentences
a. disclaim an opinion
b. qualify the opinion
c. divide responsibility
d. should not be part of the audit report
10. The management of a client company believes that the statement of cash flow is not a useful
document and refuses to include one in the annual report to stockholders. As a result, the
auditor’s opinion should be
a. qualified due to inadequate disclosure
c. adverse
b. qualified due to a scope limitation
d. unqualified
11. An auditor’s opinion reads as follows: “In our opinion, except for the above-mentioned
limitation on the scope of our audit…” This is an example of a(n)
a. review opinion
c. qualified opinion
d. unacceptable reporting practice
b. emphasis on a matter
12. Eagle Company’s financial statements contain a departure from generally accepted accounting
principles because, due to unusual circumstances, the statements would otherwise be
misleading. The auditor should express an opinion that is
a. Qualified and describe the departure in a separate paragraph.
b. Unqualified but not mention the departure in the auditor’s report.
c. Qualified or adverse, depending on materiality, and describe the departure in a separate
paragraph.
d. Unqualified and describe the departure in a separate paragraph.
13. An auditor is unable to determine the amounts associated with illegal acts committed by a
client. The auditor would most likely issue
a. Either a qualified opinion or a disclaimer of opinion.
b. An adverse opinion.
c. Either a qualified opinion or an adverse opinion.
d. A disclaimer of opinion.
14. The objective of the consistency standard is to provide assurance that
a. There are no variations in the format and presentation of financial statements.
b. Substantially different transactions and events are not accounted for on an identical basis.
c. The auditor is consulted before material changes are made in the application of accounting
principles.
d. The comparability of financial statements between periods is not materially affected by
changes in accounting principles without disclosure.
15. If management fails to provide adequate justification for a change from one generally accepted
accounting principle to another, the auditor should
a. Add an explanatory paragraph and express a qualified or an adverse opinion for lack of
conformity with generally accepted accounting principles.
b. Disclaim an opinion because of uncertainty.
c. Disclose the matter in a separate explanatory paragraph(s) but not modify the opinion
paragraph.
d. Neither modify the opinion nor disclose the matter because both principles are generally
accepted.
16. When an auditor qualifies an opinion because of inadequate disclosure, the auditor should
describe the nature of the omission in a separate explanatory paragraph and modify the
Scope paragraph
Opinion paragraph
Introductory paragraph
a.
Yes
No
No
b.
Yes
Yes
No
c.
No
Yes
Yes
d.
No
No
Yes
17. An auditor may not express a qualified opinion when
a. A scope limitation prevents the auditor from completing an important audit procedure.
b. The auditor’s report refers to the work of a specialist.
c. An accounting principles at variance with generally accepted accounting principles is used.
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d. The auditor lacks independence with respect to the audited entity.
18. An auditor decides to express a qualified opinion on an entity’s financial statements because a
major inadequacy in its computerized accounting records prevents the auditor from applying
necessary procedures. The opinion paragraph of the auditor’s report should state that the
qualification pertains to
a. A client-imposed scope limitation.
b. A departure from generally accepted auditing standards.
c. The possible effects on the financial statements.
d. Inadequate disclosure of necessary information.
19. Totoy, CPA, was engaged to audit the financial statements of Bibo Co., a new client, for the
year ended December 31, 2004. Totoy obtained sufficient audit evidence for all of Bibo’s
financial statement items except Bibo’s opening inventory. Due to inadequate financial
records, Totoy could not verify Bibo’s January 1, 2004 inventory balances. Totoy’s opinion on
Bibo’s 2004 financial statements most likely will be
Income Statement
Balance Sheet
a.
Disclaimer
Disclaimer
b.
Unqualified
Disclaimer
c.
Disclaimer
Adverse
d.
Unqualified
Adverse
20. When management prepares financial statements on the basis of a going concern and the
auditor believes the company may not continue as a going concern, the auditor should issue
a(n)
a. qualified opinion
b. unqualified opinion with an explanatory paragraph
c. disclaimer of opinion
d. adverse opinion
21. A dual dated report contains the dates of a subsequent event and the date the:
c. Subsequent event was resolved
a. Auditor completed work in the client’s office
b. Financial statements were prepared
d. Audit report was delivered
22. If the principal auditor decides to take responsibility for the work of other auditors, the principal
auditor should:
a. Modify the opening paragraph
c. Modify all three paragraphs
d. Issue a standard report
b. Modify the opening and opinion paragraphs
23. An auditor who concludes that an uncertainty is not adequately disclosed in the financial
statements should issue a:
a. Disclaimer of opinion.
c. Special report.
b. Unqualified report with an explanatory paragraph. d. Qualified report.
24. An auditor may wish to emphasize a matter included in the financial statements by adding an
explanatory paragraph to the audit report. In this case the following paragraphs of the audit
report should be modified:
a. Introductory paragraph
c. Opinion paragraph
d. None
b. Scope paragraph
25. In the case of a client imposed scope limitation, the auditor must consider issuing a:
a. Qualified opinion or disclaimer of opinion
c. Disclaimer of opinion or adverse opinion
d. Disclaimer of opinion
b. Qualified opinion or adverse opinion
26. Which of the following modifications of the standard auditor’s report does not require an
explanatory paragraph.
c. Scope limitation
a. Reference to other auditors
b. Inconsistency
d. Adverse opinion
27. Pamela, CPA, was engaged to audit the financial statements of One Co. after its fiscal year
had ended. The timing of Pamela’s appointment as auditor and the start of field work made
confirmation of accounts receivable by direct communication with the debtors ineffective.
However, Pamela applied other procedures and was satisfied as to the reasonableness of the
account balances. Pamela’s auditor’s report most likely contained a(n)
a. Unqualified opinion.
b. Unqualified opinion with an explanatory paragraph.
c. Qualified opinion because of a scope limitation.
d. Qualified opinion because of a departure from GAAS.
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28. A limitation on the scope of an audit sufficient to preclude an unqualified opinion will always
result when management
a. Engages the auditor after the year-end physical inventory count is completed.
b. Fails to correct a material internal control weakness that had been identified during the prior
year’s audit.
c. Refuses to furnish a management representation letter to the auditor.
d. Prevents the auditor from reviewing the working papers of the predecessor auditor.
29. When an auditor expresses an opinion other than unqualified opinion, a clear description of all
substantive reasons for the modification of the opinion should be included in the report. This
explanation should be presented:
a. As a separate paragraph that precedes the opinion paragraph of the audit report.
b. As a separate paragraph, preferably after the opinion paragraph, of the audit report.
c. In the opinion paragraph
d. As a separate paragraph in the notes to financial statements.
30. Where a limitation on the scope of the auditor’s work requires modification of an unqualified
opinion, the auditor’s report should describe the limitation and:
a. Indicate that the auditor is no longer responsible to his opinion.
b. Indicate the possible adjustments to the financial statements that might have been
determined to be necessary had the limitation not existed.
c. Refer the users to the particular note to financial statements that adequately discusses the
limitation
d. Indicate that the auditor is not satisfied of the results of the alternative procedures that he
had performed.
31. What is the purpose of the following paragraph in a particular audit report:
“…We draw attention to note X in the financial statements which discusses that the
company incurred a net loss of P6.4 million during the year ended December 31, 2004
and as of that date, the Company’s liabilities exceeded its total assets by P2,500,000...”
a.
b.
c.
d.
A standard reporting requirement.
Emphasis of matter about the going concern problems of the entity.
Inadequate disclosure qualification.
An inappropriate reporting.
32. An explanatory paragraph following an opinion paragraph that describes an uncertainty follows:
As discussed in Note X to the financial statements, the company is a defendant in a
lawsuit alleging infringement of certain patent rights and claiming damages. Discovery
proceedings are in progress. The ultimate outcome of the litigation cannot presently be
determined. Accordingly, no provision for any liability that may result upon adjudication
has been made in the accompanying financial statements.
What type of opinion should the auditor express in this circumstance?
a. unqualified
b. qualified
c. disclaimer
d. adverse
33. If an amendment to other information in a document containing audited financial statements is
necessary and the entity refuses to make the amendment, the auditor would consider issuing:
c. Unqualified opinion with explanatory paragraph
a. Qualified or adverse opinion
b. Qualified or disclaimer of opinion
d. Unqualified opinion.
34. When management does not amend the financial statements in circumstances where the
auditor believes they need to be amended and the auditor’s report has not been released to the
entity, the auditor should express
a. Qualified or adverse opinion
c. Unqualified opinion with explanatory paragraph
b. Qualified or disclaimer of opinion
d. Unqualified opinion.
35. If subsequent to the issuance of the audited financial statements, the auditor becomes aware of
material misstatements in the financial statements that exist prior to the date of the audit report,
the auditor should
a. Notify the parties who currently relying on the financial statements.
b. Discuss the matter with management, and should take the action appropriate in the
circumstances.
c. Document such information in the audit plan for succeeding audit.
d. Submit revised copies of the financial statements and audit report to the stockholders.
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QUIZZERS
1. Which of the following is not explicitly included in the opening paragraph of an audit report?
a. Identification of the financial statements that have been audited.
b. A statement by the auditor that the audit provides a reasonable basis for the opinion.
c. Statement that the financial statements are the responsibility of the entity’s management.
d. Statement that the responsibility of the auditor is to express an opinion on the financial
statements based on his audit.
2. A measure of uniformity in the form and content of the auditor’s report is desirable because
a. It helps the auditors avoid legal liability.
b. It helps the readers understand the report.
c. It helps the auditor identify the usual circumstances that are expected to occur.
d. It makes the auditors more informed of their responsibilities with respect to audit report.
3. The most common type of audit report contains a(n):
a. Adverse opinion.
c. Disclaimer of opinion.
b. Qualified opinion.
d. Unqualified
4. If an auditor is certain an illegal act has a material effect on financial statements and the clients
agrees to adjust the statements accordingly, the auditor should:
a. Withdraw from the engagement.
b. Disclaim an opinion on the financial statements taken as a whole.
c. Issue a qualified opinion.
d. Issue an unqualified opinion.
5. It exists when other information contradicts information contained in the audited financial
statements.
a. Material misstatement of fact
c. Material inconsistency
b. Material error
d. Material deviation
6. After issuing a report, a auditor has no longer obligation to make continuing inquiries or perform
other procedures concerning the audited financial statements, unless
a. Management of the entity requests the auditor to reissue the auditor’s report.
b. Information about an event that occurred after the end of fieldwork comes to the auditor’s
attention.
c. Information, which existed at the report date and may affect the report, comes to the
auditor’s attention.
d. Final determinations or resolutions are made of contingencies that had been disclosed in
the financial statements.
7. Which of the following events occurring after the issuance of an auditor’s report most likely
would cause the auditor to make further inquiries about the previously issued financial
statements?
a. A technological development that could affect the entity’s future ability to continue as a
going concern.
b. The entity’s sale of a subsidiary that accounts for 30 percent of the entity’s consolidated
sales.
c. The discovery of information regarding a contingency that existed before the financial
statements were issued.
d. The final resolution of a lawsuit explained in a separate paragraph of the auditor’s report
8. An auditor would issue an adverse opinion if
a. The audit was begun by other independent auditors who withdrew from the engagement.
b. The statements taken as a whole do not fairly present the financial condition and results of
operations of the company.
c. A qualified opinion cannot be given because the auditor lacks independence.
d. The restriction on the scope of the audit was significant.
9. An audit report contains the following paragraph:
"Because of the inadequacies in the company's accounting records during the year ended June
30, 2005, it was not practicable to extend our auditing procedures to the extent necessary to
enable us to obtain certain evidential matter as it relates to classification of certain items in the
consolidated statements of operations."
This paragraph most likely describes
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a.
b.
c.
d.
A material departure from GAAP requiring a qualified audit opinion.
An uncertainty that should not lead to a qualified opinion.
A material scope restriction requiring a qualification of the audit opinion.
A matter that the auditor wishes to emphasize and that does not lead to a qualified audit
opinion.
10. The auditor issued a qualified opinion covering the financial statements of Client A for the year
ended December 31, 2004. The reason for the qualification was a departure from GAAP. In
presenting comparative statements for the years ended December 31, 2004 and 2005, the
client revised the 2004 financial statements to correct the previous departure from GAAP. The
auditor's 2005 report on the 12/31/04 and 12/31/05 comparative financial statements will
a. Express unqualified opinions on both the 2004 and 2005 financial statements.
b. Express a qualified opinion on the 2004 financial statements and an unqualified opinion on
the 2005 statements.
c. Retain the qualified opinion covering the 2004 statements, but add an explanatory
paragraph describing the correction of the prior departure from GAAP.
d. Render qualified audit opinions for both 2004 and 2005 financial statements given the 2005
carryover effect of the 2004 error.
11. An auditor may reasonably issue an "except for" qualified opinion for
a.
b.
c.
d.
Inadequate disclosure
Yes
Yes
No
No
Scope limitation
Yes
No
Yes
No
12. Soon after Boyd's audit report was issued, Boyd learned of certain related party transactions
that occurred during the year under audit. These transactions were not disclosed in the notes
to the financial statements. Boyd should
a. Plan to audit the transactions during the next engagement.
b. Recall all copies of the audited financial statements.
c. Ask the client to disclose the transactions in subsequent interim statements.
d. Determine whether the lack of disclosure would affect the auditor's report.
13. An auditor includes an explanatory paragraph in an otherwise unqualified report in order to
emphasize that the entity being reported on is a subsidiary of another business enterprise. The
inclusion of this paragraph
a. Is appropriate and would not negate the unqualified opinion.
b. Is a qualification.
c. Is a violation of generally accepted reporting standards if this information is disclosed in
footnotes to the financial statements.
d. Necessitates a revision of the opinion paragraph to include the phrase "with the foregoing
explanation."
14. Which of the following best describes the auditor's responsibility for "other information" included
in the annual report to stockholders which contains financial statements and the auditor's
report?
a. The auditor has no obligation to read the "other information."
b. The auditor has no obligation to corroborate the "other information," but should read the
"other information" to determine whether it is materially inconsistent with the financial
statements.
c. The auditor should extend the examination to the extent necessary to verify the "other
information."
d. The auditor must modify the auditor's report to state that the "other information is
unaudited" or "not covered by the auditor's report."
15. In which of the following circumstances would an auditor be most likely to express an adverse
opinion?
a. The statements are not in conformity with the ASC Statements regarding the capitalization
of leases.
b. Information comes to the auditor's attention that raises substantial doubt about the entity's
ability to continue in existence.
c. The chief executive officer refuses the auditor access to minutes of board of directors'
meetings.
d. Control tests show that the entity's internal control is so poor that the financial records
cannot be relied upon.
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16. When a principal auditor decides to make reference to another auditor's examination, the
principal auditor's report should always indicate clearly, in the introductory, scope, and opinion
paragraphs, the
a. Magnitude of the portion of the financial statements examined by the other auditor.
b. Division of responsibility.
c. Disclaimer of responsibility concerning the portion of the financial statements examined by
the other auditor.
d. Name of the other auditor.
17. The independent auditor refers to both GAAP and GAAS when writing the standard audit report.
These terms are mentioned as follows:
a
b
c
d
Scope Paragraph
GAAP
GAAS
GAAP
GAAS
Opinion Paragraph
GAAS
GAAP
GAAP
GAAS
18. Which of the following best describes the reference to the expression “taken as a whole” in the
fourth generally accepted auditing standard of reporting?
a. It applies equally to a complete set of financial statements and to an individual financial
statement.
b. It applies only to a complete set of financial statements.
c. It applies equally to each item in each financial statement.
d. It applies equally to each material item in each financial statement.
19. If an accounting change has no material effect on the financial statements in the current year
but the change is reasonably certain to have a material effect in later years, the change should
be
a. Treated as a consistency modification in the auditor’s report for the current year.
b. Disclosed in the notes to the financial statements of the current year.
c. Disclosed in the notes to the financial statements and referred to in the auditor’s report for
the current year.
d. Treated as a subsequent event.
20. An auditor’s standard report expressed an unqualified opinion and includes an explanatory
paragraph that emphasizes a matter included in the notes to the financial statements. The
auditor’s report would be deficient if the explanatory paragraph states that the entity
a. Is a component of a larger business enterprise.
b. Has changed form the completed contract method to the percentage of completion method
to account for long-term construction contracts.
c. Has had a significant subsequent event.
d. Has accounting reclassifications that enhance the comparability between years.
21. In which of the following circumstances would an adverse opinion be appropriate?
a. The auditor is not independent with respect to the enterprise being audited
b. An uncertainty prevents the issuance of an unqualified report
c. The statements are not in conformity with authoritative statements regarding accounting for
pension plans
d. A client-imposed scope limitation prevents the auditor from complying with generally
accepted auditing standards
22. An auditor is confronted with an exception sufficiently material to warrant departing from the
standard wording of an unqualified report. If the exception relates to a departure from the
generally accepted accounting principles, the auditor must decide between a(n)
a. adverse opinion and an unqualified opinion
b. adverse opinion and a qualified opinion
c. adverse opinion and a disclaimer of opinion
d. disclaimer of opinion and a qualified opinion
23. An auditor had expressed a qualified opinion on the financial statements of a prior period
because the client’s financial statements departed from generally accepted accounting
principles. The prior period statements are restated in the current period to conform with
generally accepted accounting principles. The auditor’s updated report on the prior period
statements should
a. express an unqualified opinion about the restated financial statements
b. be accompanied by the auditor’s original report on the prior period
c. bear the same date as the auditor’s original report on the prior period
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d. qualify the opinion concerning the restated financial statements because of a change in
accounting principles
24. A successor auditor should refer to a predecessor auditor’s report in the
a. Opening paragraph
c. Opinion paragraph
b. Scope paragraph
d. Opening and opinion paragraph
25. Because of inadequate records the auditor is uncertain as to whether property and equipment
is stated at cost. The auditor should issue a (n):
c. Adverse opinion
a. Qualified opinion
b. Unqualified opinion
d. Standard opinion
26. The auditor’s report contains a paragraph explaining that the entity changed from the straightline to the declining balance method of depreciation. The auditor expressed an:
a. Adverse opinion
c. Qualified opinion
b. Unqualified opinion
d. Disclaimer of opinion
27. The following circumstances result in a modified, but unqualified report, except:
a. Inconsistent application of accounting principles.
b. Emphasis of a related party transaction that is disclosed in a footnote.
c. Lack of disclosure of a restriction on payment of dividends.
d. Other auditors perform work for which the principal auditor does not assume responsibility.
28. Under which of the following sets of circumstances might an auditor disclaim an opinion?
a. The financial statements contain a departure from GAAP, the effect of which is material.
b. The principal auditor decides to make reference to the report of another auditor who audited
a subsidiary.
c. There has been a material change between periods in the method of the application of
accounting principles.
d. There were significant limitations on the scope of the audit.
29. Which of the following description is not included in the scope paragraph of the auditor’s
report?
a. Examining, on a test basis, evidence to support the financial statement amounts and
disclosures.
b. Determining the accounting principles used in the preparation of the financial statements.
c. Assessing the significant estimates made by management in the preparation of the financial
statement.
d. Evaluating the overall financial statement presentation.
30. Which of the following statements is best described in the scope paragraph of the independent
auditor’s report?
a. The audit was planned and performed to obtain reliable assurance about whether the
financial statements are free of material misstatements.
b. The audit was conducted in accordance with financial reporting framework.
c. The auditor makes the significant estimates in the preparation of the financial statements.
d. A statement by the auditor that the audit provides a reasonable basis for the opinion.
31. When there is an assessed substantial doubt about the ability of the entity to continue as a
going concern and such information is adequately disclosed in the notes to financial
statements, the auditor should express a(n):
a. Standard unqualified opinion.
c. Qualified opinion
d. Adverse opinion
b. Unqualified opinion with explanatory paragraph.
32. If adequate disclosure is not made by the entity regarding substantial doubt about its ability to
continue as a going concern, the auditor should include in his report specific reference to the
substantial doubt as to ability of the company to continue as a going concern and should
express:
a. Unqualified opinion with explanatory paragraph
b. A subject to qualified opinion or adverse opinion.
c. Either an “except for” qualified opinion or an adverse opinion.
d. A disclaimer of opinion.
33. Which of the following factors, by itself, would not cause uncertainty about the ability of a
company to continue as a going concern?
a. A significant net loss.
b. Inability to pay its obligations as they come due.
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c. The occurrence of uninsured catastrophe.
d. Legal proceedings that might jeopardize the entity’s ability to operate.
34. If the auditor concludes that the fraud or error has a material effect on the financial statements
and has not been properly corrected in the financial statements, the auditor should issue a:
a. Unqualified opinion with explanatory paragraph.
c. Qualified or disclaimer of opinion.
b. Qualified or adverse opinion.
d. Adverse or disclaimer of opinion.
35. If the auditor is precluded by the entity from obtaining evidence to evaluate whether fraud or
error that may be material to the financial statements has, or is likely to have, occurred, the
auditor should issue a (n):
a. Unqualified opinion with explanatory paragraph.
b. Qualified or adverse opinion.
c. Qualified or disclaimer of opinion.
d. Adverse or disclaimer of opinion.
36. In which of the following circumstances would an auditor usually choose between expressing a
qualified opinion or disclaiming an opinion?
a. Departure from generally accepted accounting principles
b. Inadequate disclosure of accounting policies
c. Inability to obtain sufficient competent evidential matter
d. Unreasonable justification for a change in accounting principle
PSA 700 – The Auditor’s Report on Financial Statements
37. The element of the auditor’s report that distinguishes it from reports that might be issued by
others is
a. Title
c. Auditor’s signature
b. Addressee
d. Opinion paragraph
38. The financial statements audited by the auditor are identified in the
a. Opening paragraph
c. Opinion paragraph
b. Scope paragraph
d. All of the above.
39. Which of the following statements can be found on the scope paragraph of the standard audit
report?
a. The financial statements are the responsibility of the Company’s management.
b. Our responsibility is to express an opinion on these financial statements based on our audit.
c. We believe that our audit provides a reasonable basis for our opinion.
d. The financial statements ‘present fairly, in all material respects’.
40. Which statement is incorrect regarding the date of the auditor’s report?
a. The auditor should date the report as of the completion date of the audit.
b. The date of the report informs the reader that the auditor has considered the effect on the
financial statements and on the report of events and transactions of which the auditor
became aware and that occurred up to that date.
c. The auditor should not date the report earlier than the date on which the financial
statements are signed or approved by management.
d. The auditor should date the report as of date the report is delivered to the entity audited.
41. The following will usually result in a modified report but will not affect the auditor’s opinion,
except
a. Existence of going concern problem.
b. There is a significant uncertainty (other than a going concern problem), the resolution of
which is dependent upon future events and which may affect the financial statements.
c. Emphasis of a matter.
d. There is a disagreement with management regarding the acceptability of the accounting
policies selected.
42. In extreme cases, such as situations involving multiple uncertainties that are significant to the
financial statements, the auditor may consider it appropriate to express a
a. Qualified or adverse opinion
c. Unqualified opinion with explanatory paragraph
d. Unqualified opinion.
b. Disclaimer of opinion
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PSA 710 – Comparatives
43. Which statement is incorrect regarding comparatives?
a. The auditor is not required to determine whether the comparatives comply in all material
respects with GAAP relevant to the financial statements being audited.
b. There are two broad financial reporting frameworks for comparatives: the corresponding
figures and the comparative financial statements.
c. Under the corresponding figures framework, the corresponding figures for the prior
period(s) are an integral part of the current period financial statements and have to be read
in conjunction with the amounts and other disclosures relating to the current period.
d. Under the comparative financial statements framework, the comparative financial
statements for the prior period(s) are considered separate financial statements.
44. Which statement is incorrect regarding corresponding figures?
a. The corresponding figures are not presented as complete financial statements capable of
standing alone.
b. The level of detail presented in the corresponding amounts and disclosures is dictated
primarily by its relevance to the current period figures.
c. The auditor’s report refers only to the financial statements of the current period.
d. The auditor’s report refers to each period that financial statements are presented.
45. When the comparatives in which the prior audit report is unmodified, the auditor should issue
an audit report in which:
a. The comparatives are specifically identified in the opening paragraph but not referred to in
the opinion paragraph of the auditor’s report.
b. The comparatives are specifically identified in the opening paragraph and are referred to in
the opinion paragraph.
c. The comparatives are not specifically identified in the audit report.
d. The comparatives are described in the emphasis of matter paragraph of the auditor’s report.
46. In case the prior period financial statements were audited by another auditor and the incoming
auditor decides to refer to another auditor, the incoming auditor’s report should indicate:
a. That the financial statements of the prior period were audited by another auditor.
b. The type of report issued by the predecessor auditor and, if the report was modified, the
reasons therefore.
c. The date of that report.
d. All of the above.
47. In relation to comparatives as corresponding figures, which of the following is incorrect?
a. When the prior period financial statements are not audited, the incoming auditor should
state in the auditor’s report that the corresponding figures are unaudited.
b. The incoming auditor must refer to the predecessor auditor’s report on the corresponding
figures in the incoming auditor’s report for the current period.
c. When the financial statements of the prior period were audited by another auditor, the
incoming auditor’s report should state that the prior period was audited by another auditor.
d. In situations were the incoming auditor identified that the corresponding figures are
materially misstated, the auditor should request management to revise the corresponding
figures or if management refuses to do so, appropriately modify the report.
48. When the financial statements of the prior period were not audited, the incoming auditor
should:
a. Insist that an audit of prior year’s financial statements must be made.
b. Not allow the inclusion of the corresponding figures in the financial statements of the
current period.
c. Disclaim his opinion and treat the unaudited corresponding figures as basis of scope
limitation.
d. Obtain sufficient appropriate audit evidence that the corresponding figures meet the
requirements of the relevant financial reporting framework.’
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
AUDIT PLANNING
Related PSAs: PSA 300, 310, 320, 520 and 570
Appointment of the Independent Auditor
Early appointment of the independent auditor has many advantages to both the auditor and his
client. Early appointment enables the auditor to plan his work so that it may be done expeditiously
and to determine the extent to which it can be done before the balance sheet date.
Although early appointment is preferable, an independent auditor may accept an engagement near
or after the close of the fiscal year. In such instances, before accepting the engagement, he
should ascertain whether circumstances are likely to permit an adequate audit and expression of
an unqualified opinion and, if they will not, he should discuss with the client the possible necessity
for a qualified opinion or disclaimer of opinion.
PSA 300 - Planning
The first standard of fieldwork (performance standards) states that:
”The work is to be adequately planned and assistants, if any, are to be properly supervised.”
The auditor should plan the audit work so that the audit will be performed in an effective manner.
“Planning” means developing a general strategy and a detailed approach for the expected nature,
timing and extent of the audit. The auditor plans to perform the audit in an efficient and timely
manner.
Importance of Adequate Planning
Adequate planning of the audit work helps to ensure that:
1) Appropriate attention is devoted to important areas of the audit;
2) Potential problems are identified; and
3) The work is completed expeditiously.
Planning also assists in proper:
1) Assignment of work to assistants; and
2) Coordination of work done by other auditors and experts.
Extent of Planning
The extent of planning will vary according to the following:
1) Size of the entity;
2) Complexity of the audit; and
3) Auditor’s experience with the entity and knowledge of the business.
The Overall Audit Plan
The auditor should develop and document an overall audit plan describing the expected scope
and conduct of the audit.
While the record of the overall audit plan will need to be sufficiently detailed to guide the
development of the audit program, its precise form and content will vary depending on the
following:
1) Size of the entity;
2) Complexity of the audit; and
3) Specific methodology and technology used by the auditor.
Matters to be considered by the auditor in developing the overall audit plan include:
Knowledge of the Business
•
•
General economic factors and industry conditions affecting the entity’s business.
Important characteristics of the entity, its business, its financial performance and its reporting
requirements including changes since the date of the prior audit.
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•
The general level of competence of management.
Understanding the Accounting and Internal Control Systems
•
•
•
The accounting policies adopted by the entity and changes in those policies.
The effect of new accounting or auditing pronouncements.
The auditor’s cumulative knowledge of the accounting and internal control systems and the
relative emphasis expected to be placed on tests of control and substantive procedures.
Risk and Materiality
•
•
•
•
The expected assessments of inherent and control risks and the identification of significant
audit areas.
The setting of materiality levels for audit purposes.
The possibility of material misstatement, including the experience of past periods, or fraud.
The identification of complex accounting areas including those involving accounting estimates.
Nature, Timing and Extent of Procedures
•
•
•
Possible change of emphasis on specific audit areas.
The effect of information technology on the audit.
The work of internal auditing and its expected effect on external audit procedures.
Coordination, Direction, Supervision and Review
•
•
•
•
The involvement of other auditors in the audit of components, for example, subsidiaries,
branches and divisions.
The involvement of experts.
The number of locations.
Staffing requirements.
Other Matters
•
•
•
•
The possibility that the going concern assumption may be subject to question.
Conditions requiring special attention, such as the existence of related parties.
The terms of the engagement and any statutory responsibilities.
The nature and timing of reports or other communication with the entity that are expected under
the engagement.
The Audit Program
The auditor should develop and document an audit program setting out the nature, timing and
extent of planned audit procedures required to implement the overall audit plan.
The audit program serves as a:
1) Set of instructions to assistants involved in the audit; and
2) Means to control and record the proper execution of the work.
The audit program also contains:
1) The audit objectives for each area; and
2) A time budget in which hours are budgeted for the various audit areas or procedures.
In preparing the audit program, the auditor would consider the following:
1) Specific assessments of inherent and control risks and the required level of assurance to be
provided by substantive procedures;
2) Timing of tests of controls and substantive procedures;
3) Coordination of any assistance expected from the entity, the availability of assistants and
the involvement of other auditors or experts; and
4) Other matters considered by the auditor in developing the overall audit plan need to be
considered in more detail during the development of the audit program.
Changes to the Overall Audit Plan and Audit Program
The overall audit plan and the audit program should be revised as necessary during the course of
the audit. Planning is continuous throughout the engagement because of changes in conditions or
unexpected results of audit procedures. The reasons for significant changes would be recorded.
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PSA 310 - Knowledge of Business
In performing an audit of financial statements, the auditor should have or obtain a knowledge of the
business sufficient to enable the auditor to identify and understand the events, transactions and
practices that, in the auditor’s judgment, may have a significant effect on the financial statements
or on the examination or audit report.
Required Level of Knowledge
The auditor’s level of knowledge for an engagement would include:
• a general knowledge of the economy and the industry within which the entity operates, and
• a more particular knowledge of how the entity operates.
The level of knowledge required by the auditor would, however, ordinarily be less than that
possessed by management.
Obtaining the Knowledge
Prior to accepting an engagement, the auditor would obtain:
• a preliminary knowledge of the industry and of the ownership,
• management and operations of the entity to be audited, and
• would consider whether a level of knowledge of the business adequate to perform the audit
can be obtained.
Following acceptance of the engagement, further and more detailed information would be
obtained. To the extent practicable, the auditor would obtain the required knowledge at the start of
the engagement. As the audit progresses, that information would be assessed and updated and
more information would be obtained.
For continuing engagements, the auditor would:
• update and reevaluate information gathered previously, including information in the prior
year’s working papers.
• also perform procedures designed to identify significant changes that have taken place
since the last audit.
The auditor can obtain knowledge of the industry and the entity from a number of sources. For
example:
•
•
•
•
•
•
•
•
•
Previous experience with the entity and its industry.
Discussion with people with the entity (for example, directors and senior operating
personnel).
Discussion with internal audit personnel and review of internal audit reports.
Discussion with other auditors and with legal and other advisors who have provided
services to the entity or within the industry.
Discussion with knowledgeable people outside the entity (for example, industry economists,
industry regulators, customers, suppliers, competitors).
Publications related to the industry (for example, government statistics, surveys, texts, trade
journals, reports prepared by banks and securities dealers, financial newspapers).
Legislation and regulations that significantly affect the entity.
Visits to the entity’s premises and plant facilities.
Documents produced by the entity (for example, minutes of meetings, material sent to
shareholders or filed with regulatory authorities, promotional literature, prior years’ annual
and financial reports, budgets, internal management reports, interim financial reports,
management policy manual, manuals of accounting and internal control systems, chart of
accounts, job descriptions, marketing and sales plans).
Using the Knowledge
A knowledge of the business is a frame of reference within which the auditor exercises
professional judgment. Understanding the business and using this information appropriately
assists the auditor in:
•
•
•
•
Assessing risks and identifying problems.
Planning and performing the audit effectively and efficiently.
Evaluating audit evidence.
Providing better service to the client.
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The auditor makes judgments about many matters throughout the course of the audit where
knowledge of the business is important. For example:
•
•
•
•
•
•
•
•
•
•
•
•
Assessing inherent risk and control risk.
Considering business risks and management’s response thereto.
Developing the overall audit plan and the audit program.
Determining a materiality level and assessing whether the materiality level chosen remains
appropriate.
Assessing audit evidence to establish its appropriateness and the validity of the related
financial statement assertions.
Evaluating accounting estimates and management representations.
Identifying areas where special audit consideration and skills may be necessary.
Identifying related parties and related party transactions.
Recognizing conflicting information (for example, contradictory representations).
Recognizing unusual circumstances (for example, fraud and noncompliance with laws and
regulations, unexpected relationships of statistical operating data with reported financial
results).
Making informed inquiries and assessing the reasonableness of answers.
Considering the appropriateness of accounting policies and financial statement disclosures.
The auditor should ensure that assistants assigned to an audit engagement obtain sufficient
knowledge of the business to enable them to carry out the audit work delegated to them.
To make effective use of knowledge about the business, the auditor should consider how it affects
the financial statements taken as a whole and whether the assertions in the financial statements
are consistent with the auditor’s knowledge of the business.
PSA 320 – Audit Materiality
The auditor should consider materiality and its relationship with audit risk when conducting an
audit.
“Information is material if its omission or misstatement could influence the economic decisions of
users taken on the basis of the financial statements. Materiality depends on the size of the item or
error judged in the particular circumstances of its omission or misstatement. Thus, materiality
provides a threshold or cut-off point rather than being a primary qualitative characteristic which
information must have if it is to be useful.”
The auditor considers materiality at both the overall financial statement level and in relation to
individual account balances, classes of transactions and disclosures.
Materiality should be considered by the auditor when:
(a) determining the nature, timing and extent of audit procedures; and
(b) evaluating the effect of misstatements.
The Relationship Between Materiality and Audit Risk
There is an inverse relationship between materiality and the level of audit risk, that is, the higher
the materiality level, the lower the audit risk and vice versa.
Materiality and Audit Risk in Evaluating Audit Evidence
The auditor's assessment of materiality and audit risk may be different at the time of initially
planning the engagement from at the time of evaluating the results of audit procedures. This could
be because of:
• a change in circumstances; or
• because of a change in the auditor's knowledge as a result of the audit.
Evaluating the Effect of Misstatements
In evaluating the fair presentation of the financial statements the auditor should assess whether the
aggregate of uncorrected misstatements that have been identified during the audit is material.
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The aggregate of uncorrected misstatements comprises:
(a) specific misstatements identified by the auditor including the net effect of uncorrected
misstatements identified during the audit of previous periods; and
(b) the auditor's best estimate of other misstatements which cannot be specifically identified
(i.e., projected errors).
If the auditor concludes that the misstatements may be material the auditor needs to:
• consider reducing audit risk by extending audit procedures; or
• requesting management to adjust the financial statements.
If management refuses to adjust the financial statements and the results of extended audit
procedures do not enable the auditor to conclude that the aggregate of uncorrected misstatements
is not material, the auditor should consider the appropriate modification to the auditor’s report in
accordance with PSA 700 “The Auditor’s Report on Financial Statements.”
MULTIPLE CHOICE QUESTIONS
1. The development of a general strategy and a detailed approach for the expected nature, timing,
and extent of audit refers to :
a. Supervision
b. Audit procedures
c. Directing
d. Planning
2. The auditor should consider the nature, extent, and timing of the work to be performed and
should prepare a written audit program for every audit. Which audit standard is most closely
related to this requirement?
a. The audit is to be performed by a person or persons having adequate technical training and
proficiency as an auditor.
b. In all matters relating to the assignment, an independent mental attitude is to be maintained
by the auditor(s).
c. Due professional care is to be exercised in the planning and performance of the audit and
preparation of the report.
d. The work is to be adequately planned and assistants, if any, are to be properly supervised.
3. Which of the following would a successor auditor normally perform after acceptance of an audit
client?
a. Inquiry of predecessor auditor regarding the client.
b. Review the SEC filings of the client.
c. Inquiry of bankers regarding the client.
d. Review of predecessor auditor working papers.
4. To obtain an understanding of a continuing client’s business in planning an audit, an auditor
most likely would
a. Perform tests of details of transactions and balances.
b. Review prior-year working papers and the permanent file for the client.
c. Read specialized industry journals.
d. Reevaluate client’s internal control environment.
5. Which of the following is required documentation in an audit in accordance with generally
accepted auditing standards?
a. A flowchart or narrative of the information system describing the recording and classification
of transactions for financial reporting.
b. An audit program setting forth in detail the procedures necessary to accomplish the
engagement’s objectives.
c. A planning memorandum establishing the timing of the audit procedures and coordinating
the assistance of entity personnel.
d. An internal control questionnaire identifying policies and procedures that assure specific
objectives will be achieved.
6. Which of the following procedures would an auditor most likely perform in planning a financial
statement audit?
a. Inquiring of the client’s legal counsel concerning pending litigation.
b. Comparing the financial statements to anticipated results.
c. Examining computer generated exception reports to verify the effectiveness of internal
controls.
d. Searching for unauthorized transactions that may aid in detecting unrecorded liabilities.
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7. Analytical procedures used in planning an audit should focus on
a. Reducing the scope of tests of controls and substantive tests.
b. Providing assurance that potential material misstatements will be identified.
c. Enhancing the auditor’s understanding of the client’s business.
d. Assessing the adequacy of the available evidential matter.
8. Analytical procedures, which means the analysis of significant ratios and trends including the
resulting investigation of fluctuations and relationships that are inconsistent with other relevant
information or which deviate from predicted amounts, are not required to be applied
c. As substantive procedures
a. At the planning stage of the audit
b. Overall review stage of the audit
d. None of the above
9. Which of the following statements is correct concerning analytical procedures?
a. Analytical procedures usually involve comparisons of ratios developed from recorded
amounts to assertions developed by management.
b. Analytical procedures used in planning an audit generally use data aggregated at a high
level.
c. Analytical procedures can replace tests of controls in gathering evidence to support the
assessed level of control risk.
d. Analytical procedures are more efficient, but not more effective, than tests of details and
transactions.
10. Which of the following is an effective audit planning and control procedures that helps prevent
misunderstandings and inefficient use of audit personnel?
a. Make copies, for inclusion in the working papers, of those client supporting documents
examined by the auditor.
b. Provide the client with copies of the audit programs to be used during the audit.
c. Arrange a preliminary conference with the client to discuss audit objectives, fees, timing,
and other information.
d. Arrange to have the auditor prepare and post any necessary adjusting or reclassification
entries prior to final closing.
11. Which of the following is an aspect of scheduling and controlling the audit engagement?
a. Including in the audit program a column for estimated and actual time.
b. Performing audit work only after the client’s books of account have been closed for the
period under examination.
c. Writing a conclusion in individual working papers indicating how the results of the audit will
affect the auditor’s report.
d. Including in the engagement letter an estimate of the minimum and maximum audit fee.
12. Which of the following is an engagement attribute for an audit of an entity that processes most
of its financial data in electronic form without any paper documentation?
a. Discrete phases of planning, interim, and year-end field work.
b. Increased effort to search for evidence of management fraud.
c. Performance of audit tests on a continuous basis.
d. Increased emphasis on the completeness assertion.
13. Which of the following statements is not correct about materiality?
a. The concept of materiality recognizes that some matters are important for fair presentation
of financial statements in conformity with GAAP, while other matters are not important.
b. An auditor considers materiality for planning purposes in terms of the largest aggregate
level of misstatements that could be material to any one of the financial statements.
c. Materiality judgments are made in light of surrounding circumstances and necessarily
involve both quantitative and qualitative judgments.
d. An auditor’s consideration of materiality is influenced by the auditor’s perception of the
needs of a reasonable person who will rely on the financial statements.
14. The risk that the assertion contains material misstatements that, when aggregated with
misstatements in other assertions, could make the entire financial statements materially
misstated is:
a. Individual audit risk b. Inherent risk
c. Control risk
d. Detection risk
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15. Incremental risk is the increased risk that errors may not be detected at the balance sheet date
because:
a. Audit procedures were performed at an interim date
b. Inherent risk was assessed too low.
c. Analytical procedures were not performed.
d. Detection risk was set too high a level.
QUIZZERS
PSA 300 - Planning
1. Adequate planning of the audit work helps the auditor of accomplishing the following objectives,
except:
a. Gathering of all corroborating audit evidence.
b. Ensuring that appropriate attention is devoted to important areas of the audit.
c. Identifying the areas that need a service of an expert.
d. The audit work is completed efficiently.
2. The extent of planning will vary according to any of the following, except:
a. Size of the audit client.
b. Auditor’s experience with the entity and knowledge of the business.
c. The nature and complexity of the audit engagement
d. The assessed level of control risk.
3.
Which of the following is least likely considered by the auditor in developing the overall audit
plan?
a. Understanding of the accounting and internal control systems.
b. Relevant risk and materiality.
c. The involvement of other auditors in the audit of major component of financial statements
d. The general level of competence of audit assistants.
4. Which of the following is not considered by the CPA when he makes an overall audit plan?
a. Identification of complex accounting areas including those involving accounting estimates.
b. The information technology used by the client.
c. The content of the representation letters.
d. The nature and timing of reports or other communication with the entity that are expected
under the engagement.
5. Audit plan should
A
Yes
Yes
Yes
A. Precede action
B. Be fixed
C. Be cost beneficial
6.
B
No
No
Yes
C
Yes
No
Yes
D
No
Yes
Yes
Which of the following least likely affect the form and content of the overall audit plan?
a. Complexity of the audit engagement.
b. Methodology and technology used by the auditor.
c. The entity’s form of business organization.
d. The size of the entity.
7. The audit program should contain the following, except:
a. Audit objective
b. Time budget for the various audit areas
c. Set of planned audit procedures
d. The combined assessed level of inherent and control risk
PSA 310 - Knowledge of Business
8. Which of the following will most likely help the auditor to identify and understand the events,
transactions and practices of his audit client?
a. Obtaining a sufficient knowledge of the business of his client.
b. Understanding of accounting and internal control.
c. Testing control policies and procedures.
d. Obtaining a representation letter from the client management.
9. The auditor should have or obtain a knowledge of the client’s business sufficient to:
a. Evaluate whether the financial statements are materially misstated.
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b. Document material weaknesses in accounting and internal control systems.
c. Identify and understand events, transactions and practices that may have effect on financial
statements.
d. Have an overall evaluation of whether financial assertions are fairly presented in the
financial statements.
10. The auditor is not expected to have
a. A particular knowledge of the economy and the industry within which the entity operates.
b. A particular knowledge of how the entity operates.
c. A level of knowledge of business ordinarily less than that possessed by management.
d. A knowledge of business which is used in assessing inherent and control risk.
11. The auditor obtains knowledge of client’s business
A
Prior to acceptance of engagement
No
Planning stage of the audit
Yes
Testing of transactions stage
No
B
No
Yes
Yes
C
Yes
Yes
Yes
D
Yes
No
Yes
12. Understanding the business and using this information appropriately assists the auditor in,
except
a. Deciding whether to do tests of controls.
b. Evaluating audit evidence.
c. Assessing risks and identifying potential problems.
d. Planning and performing the audit effectively and efficiently.
13. Which of the following is the ultimate concern of the knowledge about the business?
a. Consideration of how it affects the financial statements taken as a whole.
b. Assists the auditor in enforcing quality control procedures.
c. To assure that sufficient audit evidence is obtained.
d. It assists in determining the type of audit report to be issued.
14. A knowledge of the business is a frame of reference within which the auditor exercises
professional judgment. This assists the auditor in carrying out the following objectives, except:
a. Assessing risks and identifying problems.
b. Evaluating audit evidence.
c. Determining the audit opinion to be expressed.
d. Planning and performing the audit effectively and efficiently.
15. Throughout the course of the audit, the auditors make judgment about many matters where
knowledge of the business is important. These procedures do not include:
a. Evaluating accounting estimates and management representations.
b. Identifying related parties and related party transactions.
c. Assessing inherent and control risks.
d. Assessing the appropriateness of using statistical sampling instead of judgmental sampling.
PSA 570 – Going Concern
16. Which of the following factors is inappropriately relevant to the management’s assessment of
the going concern assumption?
a. The degree of uncertainty associated with the outcome of an event or condition decreases
significantly the further into the future of judgment being made about the outcome of an
event or condition.
b. Any judgment about the future is based on information available at the time at which the
judgment is made.
c. The size and complexity of the entity, and the nature and conditions of its business affect
the judgment regarding the outcome of events or conditions.
d. Subsequent events can contradict a judgment which was reasonable at the time it was
made.
17. Which of the following may not cast significant doubt about the going concern assumption of
an entity.
a. The entity heavily used equity financing for investment in permanent assets.
b. Non-compliance with capital or other statutory requirements.
c. Pending legal or regulatory proceeding against the entity that may, if successful, result in
claims that are unlikely to be satisfied.
d. Changes in legislation or government policy expected to adversely affect the entity.
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18. When events or conditions have been identified which may cast significant doubt on the entity’s
ability to continue as a going concern, the auditor should:
a. Review management’s plans for future actions based on its going concern assessment.
b. Gather sufficient appropriate audit evidence to confirm or dispel whether or not a material
uncertainty exists through carrying out procedures considered necessary, including
considering the effect of any plans of management and other mitigating factors.
c. Seek written representations from management regarding its plans for future action.
d. All of the above.
19. Which of the following proposed actions may mostly mitigate the going concern problem of an
entity?
a. Rescheduling of loan payments.
b. More vigorous business expansion.
c. Acquiring asset replacement using short-term loans.
d. Increasing the amount of cash dividends to be paid.
20. The following are related to the auditor’s responsibility to assess the ability of the company to
continue as a going concern?
I. The auditor should consider the appropriateness of the management’s use of the going
concern assumption in the preparation of the financial statements.
II. The auditor is to consider whether there are material uncertainties about the entity’s ability
to continue as a going concern that needs to be disclosed in the financial statements.
III. The absence of any reference to going concern uncertainty in the auditor’s report is viewed
as a guarantee as to the entity’s ability to continue as a going concern.
Which of the foregoing inappropriately describe(s) the auditor’s responsibility?
d. III only
a. I only
b. I and II only
c. II only
21. The auditor consider events and condition relating to the going concern assumption during the
planning stage in order to:
a. Help management do action that may mitigate its going concern problems.
b. Identifying the areas of accounting and internal control systems that need tests of control.
c. To have a timely discussion with management and a review of management’s plans and
resolutions of any identified going concern issues.
d. In order to shorten assessment period.
22. If adequate disclosure is not made by the entity regarding substantial doubt about its ability to
continue as a going concern, the auditor should include in his report specific reference to the
substantial doubt as to ability of the company to continue as a going concern and should
express:
a. Unqualified opinion with explanatory paragraph
b. A subject to qualified opinion or adverse opinion.
c. Either an “except for” qualified opinion or an adverse opinion.
d. A disclaimer of opinion.
23. If the auditor believes that the entity will not be able to continue as a going concern and the
financial statements are prepared on a going concern basis, the auditor’s report should include:
a. Unqualified opinion with explanatory paragraph.
c. Adverse opinion.
b. Qualified opinion.
d. Disclaimer of opinion.
24. If the auditor believes that management should extend its assessment but the latter refuses to
do so, the auditor should:
a. Rectify the lack of analysis by management.
b. Extend his audit procedures to obtain sufficiently appropriate evidence regarding the use of
the going concern assumption.
c. Emphasize this matter in the audit report.
d. Consider a modification of the report as a result of the limitation in the scope of the auditor’s
work.
25. The management denied the auditor’s request that the management has to extend its
assessment of its going concern ability. However, the auditor’s other procedures are sufficient
to assess the appropriateness of management use of the going concern assumption in the
preparation of the financial statements. he auditor should issue:
a. Unqualified opinion
c. Adverse opinion
b. Unqualified opinion with explanatory paragraph
d. Disclaimer of opinion
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
PRE-ENGAGEMENT
Related PSAs: PSA 210
PSA 210 - Terms of Audit Engagements
The auditor and the client should agree on the terms of the engagement. The agreed terms would
need to be recorded in an audit engagement letter or other suitable form of contract.
It is in the interest of both client and auditor that the auditor sends an engagement letter, preferably
before the commencement of the engagement, to help in avoiding misunderstandings with respect
to the engagement.
The engagement letter documents and confirms:
1. the auditor’s acceptance of the appointment;
2. the objective and scope of the audit;
3. the extent of the auditor’s responsibilities to the client; and
4. the form of any reports.
Principal Contents
The form and content of audit engagement letters may vary for each client, but they would
generally include reference to:
•
•
•
•
•
•
The objective of the audit of financial statements.
Management’s responsibility for the financial statements.
The scope of the audit, including reference to applicable legislation, regulations, or
pronouncements of professional bodies to which the auditor adheres.
The form of any reports or other communication of results of the engagement.
The fact that because of the test nature and other inherent limitations of an audit, together
with the inherent limitations of any accounting and internal control system, there is an
unavoidable risk that even some material misstatement may remain undiscovered.
Unrestricted access to whatever records, documentation and other information requested
in connection with the audit.
The auditor may also wish to include in the letter:
•
•
•
•
•
Arrangements regarding the planning of the audit.
Expectation of receiving from management written confirmation concerning
representations made in connection with the audit.
Request for the client to confirm the terms of the engagement by acknowledging receipt
of the engagement letter.
Description of any other letters or reports the auditor expects to issue to the client.
Basis on which fees are computed and any billing arrangements.
When relevant, the following points could also be made:
•
•
•
•
•
Arrangements concerning the involvement of other auditors and experts in some aspects
of the audit.
Arrangements concerning the involvement of internal auditors and other client staff.
Arrangements to be made with the predecessor auditor, if any, in the case of an initial
audit.
Any restriction of the auditor’s liability when such possibility exists.
A reference to any further agreements between the auditor and the client.
Audits of Components
When the auditor of a parent entity is also the auditor of its subsidiary, branch or division
(component), the factors that influence the decision whether to send a separate engagement letter
to the component include:
•
•
•
Who appoints the auditor of the component.
Whether a separate audit report is to be issued on the component.
Legal requirements.
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•
•
•
The extent of any work performed by other auditors.
Degree of ownership by parent.
Degree of independence of the component’s management.
Recurring Audits
On recurring audits, the auditor should consider whether circumstances require the terms of the
engagement to be revised and whether there is a need to remind the client of the existing terms of
the engagement.
The auditor may decide not to send a new engagement letter each period. However, the following
factors may make it appropriate to send a new letter:
•
•
•
•
•
Any indication that the client misunderstands the objective and scope of the audit.
Any revised or special terms of the engagement.
A recent change of senior management, board of directors or ownership.
A significant change in nature or size of the client’s business.
Legal requirements.
Acceptance of a Change in Engagement
A request from the client for the auditor to change the engagement may result from:
1. a change in circumstances affecting the need for the service;
2. a misunderstanding as to the nature of an audit or related service originally requested; or
3. a restriction on the scope of the engagement, whether imposed by management or caused
by circumstances.
Items 1 and 2 would ordinarily be considered a reasonable basis for requesting a change in the
engagement. In contrast a change would not be considered reasonable if it appeared that the
change relates to information that is incorrect, incomplete or otherwise unsatisfactory.
If the auditor agreed to a change of the engagement:
•
•
•
the auditor and the client should agree on the new terms;
the report issued would be that appropriate for the revised terms of engagement; and
in order to avoid confusing the reader, the report would not include reference to:
(a) The original engagement; or
(b) Any procedures that may have been performed in the original engagement, except
where the engagement is changed to an engagement to undertake agreed-upon
procedures and thus reference to the procedures performed is a normal part of the
report.
If the auditor is unable to agree to a change of engagement and is not permitted to continue the
original agreement:
•
•
the auditor should withdraw; and
consider whether there is any obligation, either contractual or otherwise, to report to other
parties, such as the board of directors or shareholders, the circumstances necessitating
the withdrawal.
MULTIPLE CHOICE QUESTIONS
1.
Prior to the acceptance of an audit engagement with a client who has terminated the services
of the predecessor auditor, the CPA should
a. Contact the predecessor auditor without advising the prospective client and request a
complete report of the circumstance leading to the termination with the understanding that
all information disclosed will be kept confidential.
b. Accept the engagement without contacting the predecessor auditor since the CPA can
include audit procedures to verify the reason given by the client for the termination.
c. Not communicate with the predecessor auditor because this would in effect be asking the
auditor to violate the confidential relationship between auditor and client.
d. Advise the client of the intention to contact the predecessor auditor and request
permission for the contact.
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2.
Before accepting an audit engagement, a successor auditor should make specific inquiries of
the predecessor auditor regarding the predecessor’s
a. Opinion of any subsequent events occurring since the predecessor’s audit report was
issued.
b. Understanding as to the reasons for the change of auditors.
c. Awareness of the consistency in the application of GAAP between periods.
d. Evaluation of all matters of continuing accounting significance.
3.
A successor auditor most likely would make specific inquiries of the predecessor auditor
regarding
a. Specialized accounting principles of the client’s industry.
b. The competency of the client’s internal audit staff.
c. The uncertainty inherent in applying sampling procedures.
d. Disagreements with management as to auditing procedures.
4.
Which of the following should an auditor obtain from the predecessor auditor prior to
accepting an audit engagement?
a. Analysis of balance sheet accounts
b. Analysis of income statement accounts
c. All matters of continuing accounting significance
d. Facts that might bear on the integrity of management
5.
When an independent auditor is approached to perform an audit for the first time, he or she
should make inquiries of the predecessor auditor. Inquiries are necessary because the
predecessor may be able to provide the successor with information that will assist the
successor in determining whether
a. The predecessor’s work should be used.
b. The company rotates auditors.
c. In the predecessor’s opinion, control risk is low.
d. The engagement should be accepted.
6.
If permission from client to discuss its affairs with the proposed auditor is denied by the client,
the predecessor auditor should:
a. Keep silent of the denial.
b. Disclose the fact that the permission to disclose is denied by the client.
c. Disclose adequately to proposed auditor all noncompliance made by the client.
d. Seek legal advice before responding to the proposed auditor
7.
The objective and scope of the audit and the extent of the auditor’s responsibilities to the
client are best documented in
a. Independent auditor’s report
c. Client’s representation letter
b. Audit engagement letter
d. Audit program
8.
The following are valid reasons why an auditor sends to his client an engagement letter:
A
B
C
D
a. Avoid misunderstanding with respect to
Yes
Yes
No
Yes
engagement
b. Confirms the auditor’s acceptance of the
Yes
Yes
Yes
No
appointment
c. Objective and scope of the audit
Yes
Yes
Yes
Yes
d. Assures CPA’s compliance to GAAS
Yes
No
No
Yes
9.
Which of the following is appropriately included in an audit engagement letter?
I. Because of the test nature and other inherent limitations of an audit, together with the
inherent limitations of any accounting and internal control system, there is an unavoidable
risk that even some material misstatements may remain undiscovered.
II. The audit will be made with the objective of expressing an opinion on the financial
statements.
III. An audit also includes assessing the accounting procedures used and significant
estimates made by management.
a. I and II
c. II and III
b. I and III
d. I, II and III
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10.
Which of the following is least likely included in an audit engagement letter?
a. The objective of financial reporting.
b. Management responsibility for the financial statements.
c. The form of any reports or other communication of the results of the engagement.
d. Arrangement concerning the involvement of other auditors or experts in some aspects of
the audit.
11.
An audit engagement letter least likely includes
a. A reference to the inherent limitation of an audit that some material misstatements may
remain undiscovered.
b. Identification of specific audit procedures that the auditor needs to undertake.
c. Description of any letters or reports that the auditor expects to submit to the client.
d. Arrangements concerning the involvement of internal auditors and other client’s staff.
12.
Which of the following least likely requires the auditor to send a new engagement letter?
a. An indication that the client misunderstands the objective and scope of the audit.
b. Any revised or special terms of the engagement.
c. A recent change in the audit firm’s management.
d. Legal requirements and other government agencies’ pronouncements.
13.
Which of the following least likely influence the auditor’s decision to send a separate
engagement letter to a component of parent entity client?
a. Legal requirements
b. Degree of ownership over a component entity by parent company
c. Location of the principal place of business of the component entity
d. Who appoints the auditor of the component
14.
According to PSA 210, which of the following statements is correct?
a. The auditor and the client need not agree on the terms of the engagement.
b. Where the terms of the engagement are changed, the auditor and the client need not
agree on the new terms if they already agreed on the old terms.
c. The engagement letter assists in the supervision and review of the audit work.
d. The auditor may agree to a change of engagement where there is reasonable justification
for doing so.
15.
Which of the following is a NOT valid reason for a change of the engagement to a lower “level
of assurance”?
a. Change in circumstances affecting the need for the service.
b. Restriction on the scope of the engagement.
c. Misunderstanding as to the nature of the engagement originally requested.
d. The client’s need is satisfied by an engagement that provides lower level of assurance.
16.
When a change in the type of engagement from higher to lower level of assurance is
reasonably justified, the report based on the revised engagement
a. Should contain a separate paragraph that refers to the original engagement.
b. Should always refer to any procedures that may have been performed in the original
engagement.
c. Should qualify the opinion due to scope limitation.
d. Omits reference to the original engagement.
17.
Which of the following actions may be appropriate if the auditor is unable to agree to a
change of the engagement and is not permitted to continue the original engagement
I. Issue a qualified opinion due to a significant scope limitation.
II. Auditor should withdraw from the engagement.
III. Consider whether there is any obligation to report to the board of directors or
shareholders the circumstances necessitating withdrawal
a. I only
c. II and III
b. I and II
d. I, II and III
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
Risk Assessment and Response to Assessed Risks
Related PSAs: PSA 400, 315 and 330
1. Which of the following is correct statement?
a. The auditor should use professional judgment to assess audit risk and to design audit
procedures to ensure it is eliminated.
b. The auditor is an insurer, and his or her report constitutes a guarantee.
c. The subsequent discovery that a material misstatement exists in the financial statements is
evidence of inadequate planning, performance, or judgment on the part of the auditor.
d. The auditor should obtain an understanding of the accounting and internal control systems
sufficient to plan the audit and develop an effective audit approach.
2. According to PSA 400 – Risk Assessments and Internal Control, audit risk means
a. The susceptibility of an account balance or class of transactions to misstatement that could
be material, individually or when aggregated with misstatements in other balances or
classes, assuming that there were no related internal controls.
b. The risk that a misstatement, that could occur in an account balance or class of
transactions and that could be material, individually or when aggregated with misstatements
in other balances or classes, will not be prevented or detected and corrected on a timely
basis by the accounting and internal control systems.
c. The risk that an auditor’s substantive procedures will not detect a misstatement that exists
in an account balance or class of transactions that could be material, individually or when
aggregated with misstatements in other balances or classes.
d. The risk that the auditor gives an inappropriate audit opinion when the financial statements
are materially misstated.
3. Inherent risk and control risk differ from detection risk in that they
a. Arise from the misapplication of auditing procedures.
b. May be assessed in either quantitative or nonquantitative terms.
c. Exist independently of the financial statement audit.
d. Can be changed at the auditor’s discretion.
4. Inherent risk and control risk differ from detection risk in that inherent risk and control risk are
a. Elements of audit risk while detection risk is not.
b. Changed at the auditor’s discretion while detection risk is not.
c. Considered at the individual account-balance level while detection risk is not.
d. Functions of the client and its environment while detection risk is not.
5. Which of the following is an incorrect statement?
a. Detection risk is a function of the effectiveness of an auditing procedure and its application.
b. Detection risk arises partly from uncertainties that exists when the auditor does not examine
100 percent of the population.
c. Detection risk arises partly because of other uncertainties that exist even if the auditor were
to examine 100 percent of the population.
d. Detection risk exists independently of the audit of the financial statements.
6. Which of the following is an incorrect statement?
a. Detection risk cannot be changed at the auditor’s discretion.
b. If individual audit risk remains the same, detection risk bears an inverse relationship to
inherent and control risks.
c. The greater the inherent and control risks the auditor believes exists, the less detection risk
that can be accepted.
d. The auditor might make separate or combined assessments of inherent risk and control
risk.
7. Why would the auditor assess control risk?
a. Because it indicates where inherent risk may be the greatest.
b. Because it determines whether sampling risk is sufficiently low.
c. Because it affects the level of detection risk the auditor may accept.
d. Because it includes the aspects of nonsampling risk that are controllable.
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8. The relationship between acceptable level of detection risk and the combined level of inherent
and control risk is
a. Direct
b. Inverse
c. Parallel
d. Independent
9. The audit risk model consists of: AR = IR x CR x DR
The detection risk is the dependent variable. What is the acceptable level of detection risk if
the assessed level of Inherent risk is High and the Control risk is Low?
b. Medium
c. Lower
d. Higher
a. Highest
10. An auditor decides to increase the assessed level of control risk from that originally planned on
the basis of audit evidence gathered and evaluated. To achieve an overall audit risk level that
is substantially the same as the planned audit risk level, the auditor would
a. Decrease substantive testing.
c. Increase inherent risk.
d. Decrease detection risk.
b. Increase materiality levels.
11. As the acceptable level of detection risk decreases, the assurance directly provided from
c. Substantive tests should decrease.
a. Substantive tests should increase.
b. Tests of controls should increase.
d. Tests of controls should decrease.
12. Which of the following statements is true?
a. If control risk is assessed at maximum, the
changed from more to less effective.
b. If control risk is assessed at maximum, the
changed from less to more effective.
c. If control risk is assessed at maximum, the
changed from year-end to an interim date.
d. If control risk is assessed at maximum, the
changed from a larger to a smaller sample.
nature of related substantive tests should be
nature of related substantive tests should be
timing of related substantive tests should be
extent of related substantive tests should be
13. When the auditor determines that detection risk regarding a financial statement assertion for a
material account balance or class of transactions cannot be reduced to an acceptable level, the
auditor should express
a. Qualified or adverse opinion
c. Unqualified opinion with explanatory paragraph
b. Qualified or disclaimer of opinion
d. Unqualified opinion.
14. Which of the following is not a distinguishing feature of risk-based auditing?
a. Identifying areas posing the highest risk of financial statement errors.
b. Analysis of internal control.
c. Collecting and evaluating evidence.
d. Concentrating audit resources in those areas presenting the highest risk of financial
statement errors.
15. Which of the following factors is not a good indicator of potential financial failure?
a. Client is constantly short of cash and working capital.
b. Client’s retained earnings were reduced by half as a result of a large dividend payout.
c. Client relies heavily on debt financing, especially by financing permanent assets with
short-term loans.
d. Client has had increasing net losses for several years.
PSA 315 – Understanding the Entity and Its Environment and Assessing the Risks of
Material Misstatement
16. PSA 315 requires
a. The auditor to obtain an understanding of the entity and its environment, including its
internal control.
b. Discussion among the engagement team about the susceptibility of the entity’s financial
statements to material misstatement.
c. The auditor to identify and assess the risks of material misstatement at the financial
statement and assertion levels.
d. All of the above.
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17. Which of the following is incorrect regarding PSA 315?
a. The purpose of this PSA is to establish standards and to provide guidance on obtaining an
understanding of the entity and its environment, including its internal control, and on
assessing the risks of material misstatement in a financial statement audit.
b. This PSA requires the auditor to make risk assessments at the financial statement and
assertion levels based on an appropriate understanding of the entity and its environment,
including its internal control.
c. The requirements and guidance of this PSA are to be applied in conjunction with the
requirements and guidance provided in other PSAs.
d. This PSA discusses the auditor’s responsibility to determine overall responses and to
design and perform further audit procedures whose nature, timing, and extent are
responsive to the risk assessments.
18. Which statement is incorrect regarding obtaining an understanding of the entity and its
environment?
a. Obtaining an understanding of the entity and its environment is an essential aspect of
performing an audit in accordance with PSAs.
b. That understanding establishes a frame of reference within which the auditor plans the
audit and exercises professional judgment about assessing risks of material misstatement
of the financial statements and responding to those risks throughout the audit.
c. The auditor’s primary consideration is whether the understanding that has been obtained is
sufficient to assess the risks of material misstatement of the financial statements and to
design and perform further audit procedures.
d. The depth of the overall understanding that is required by the auditor in performing the audit
is equal to that possessed by management in managing the entity.
19. The main purpose of risk assessment procedures is to
a. Obtain an understanding of the entity and its environment, including its internal control, to
assess the risks of material misstatement at the financial statement and assertion levels.
b. Test the operating effectiveness of controls in preventing, or detecting and correcting,
material misstatements at the assertion level.
c. Detect material misstatements at the assertion level.
d. All of the above.
20. The auditor should perform the following risk assessment procedures to obtain an
understanding of the entity and its environment, including its internal control, except:
a. Inquiries of management and others within the entity.
b. Inquiries of the entity’s external legal counsel or of valuation experts that the entity has
used.
c. Analytical procedures.
d. Observation and inspection.
21. Inquiries directed towards those charged with governance may most likely
a. Relate to their activities concerning the design and effectiveness of the entity’s internal
control and whether management has satisfactorily responded to any findings from these
activities.
b. Help the auditor understand the environment in which the financial statements are
prepared.
c. Relate to changes in the entity’s marketing strategies, sales trends, or contractual
arrangements with its customers.
d. Help the auditor in evaluating the appropriateness of the selection and application of certain
accounting policies.
22. Which statement is incorrect regarding analytical procedures?
a. Analytical procedures may be helpful in identifying the existence of unusual transactions or
events, and amounts, ratios, and trends that might indicate matters that have financial
statement and audit implications.
b. In performing analytical procedures as risk assessment procedures, the auditor develops
expectations about plausible relationships that are reasonably expected to exist.
c. When comparison of those expectations with recorded amounts or ratios developed from
recorded amounts yields unusual or unexpected relationships, the auditor considers those
results in identifying risks of material misstatement.
d. When such analytical procedures use data aggregated at a high level (which is often the
situation), the results of those analytical procedures provide a clear-cut indication about
whether a material misstatement may exist.
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23. Which statement is incorrect regarding the discussion among the engagement team about the
susceptibility of the entity’s financial statements to material misstatements?
a. The members of the engagement team should discuss the susceptibility of the entity’s
financial statements to material misstatements.
b. The objective of this discussion is for members of the engagement team to gain a better
understanding of the potential for material misstatements of the financial statements
resulting from fraud or error in the specific areas assigned to them, and to understand how
the results of the audit procedures that they perform may affect other aspects of the audit.
c. The discussion provides an opportunity for more experienced engagement team members,
including the engagement partner, to share their insights based on their knowledge of the
entity, and for the team members to exchange information about the business risks.
d. All the team members should have a comprehensive knowledge of all aspects of the audit.
24. The auditor’s understanding of the entity and its environment consists of an understanding of
the following aspects:
I.
Industry, regulatory, and other external factors, including the applicable financial reporting
framework.
II.
Nature of the entity, including the entity’s selection and application of accounting policies.
III.
Objectives and strategies and the related business risks that may result in a material
misstatement of the financial statements.
IV.
Measurement and review of the entity’s financial performance.
V.
Internal control.
a. All of the above
c. I, II and III
b. I, II, III and IV
d. I, II, III and V
25. Nature of an entity refers to
a. The entity’s operations, its ownership and governance, the types of investments that it is
making and plans to make, the way that the entity is structured and how it is financed.
b. The overall plans for the entity.
c. The operational approaches by which management intends to achieve its objectives.
d. The result of significant conditions, events, circumstances, actions or inactions that could
adversely affect the entity’s ability to achieve its objectives and execute its strategies, or the
setting of inappropriate objectives and strategies.
26. Which statement is correct regarding business risks?
a. The risk of material misstatement of the financial statements is broader than business risk,
though it includes the latter.
b. The auditor should identify or assess all business risks.
c. All business risks give rise to risks of material misstatement.
d. A business risk may have an immediate consequence for the risk of misstatement for
classes of transactions, account balances, and disclosures at the assertion level or the
financial statements as a whole.
27. A potential business risk created by industry developments may most likely include
a. Increased product liability.
b. increased legal exposure
c. The entity does not have the personnel or expertise to deal with the changes in the
industry.
d. Loss of financing due to the entity’s inability to meet financing requirements.
28. The following are examples of conditions and events that may indicate the existence of risks of
material misstatement, except
a. Operations in regions that are economically stable.
b. Pending litigation and contingent liabilities.
c. Application of new accounting pronouncements.
d. Entities or business segments likely to be sold.
29. Which of the following conditions and events may most likely indicate the existence of risks of
material misstatement?
a. Having personnel with appropriate accounting and financial reporting skills.
b. Accounting measurements that involve simple processes.
c. Significant amount of routine or systematic transactions.
d. Constraints on the availability of capital and credit.
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30. Which statement is incorrect regarding significant risks that require special audit consideration?
a. The auditor should determine which of the risks identified are, in the auditor’s judgment,
risks that require special audit consideration.
b. The auditor excludes the effect of identified controls related to the risk to determine whether
the nature of the risk, the likely magnitude of the potential misstatement including the
possibility that the risk may give rise to multiple misstatements, and the likelihood of the risk
occurring are such that they require special audit consideration.
c. Routine, non-complex transactions that are subject to systematic processing are more likely
to give rise to significant risks because they have higher inherent risks.
d. Significant risks are often derived from business risks that may result in a material
misstatement.
31. Examples of situations where the auditor may find it impossible to design effective substantive
procedures that by themselves provide sufficient appropriate audit evidence that certain
assertions are not materially misstated include the following:
I. An entity that conducts its business using IT to initiate orders for the purchase and delivery
of goods based on predetermined rules of what to order and in what quantities and to pay
the related accounts payable based on system-generated decisions initiated upon the
confirmed receipt of goods and terms of payment. No other documentation of orders placed
or goods received is produced or maintained, other than through the IT system.
II. An entity that provides services to customers via electronic media (for example, an Internet
service provider or a telecommunications company) and uses IT to create a log of the
services provided to its customers, initiate and process its billings for the services and
automatically record such amounts in electronic accounting records that are part of the
system used to produce the entity’s financial statements.
a. I and II
b. I only
c. II only
d. Neither I nor II
PSA 330 – The Auditor’s Procedures In Response to Assessed Risks
32. PSA 330 requires the auditor to
a. Determine overall responses to address risks of material misstatement at the financial
statement level.
b. Design and perform further audit procedures, including tests of the operating effectiveness
of controls, when relevant or required, and substantive procedures, whose nature, timing,
and extent are responsive to the assessed risks of material misstatement at the assertion
level.
c. Evaluate whether the risk assessment remain appropriate and to conclude whether
sufficient appropriate audit evidence has been obtained.
d. All of the above.
33. The auditor should determine overall responses to address the risks of material misstatement
at the financial statement level. Such responses least likely include
a. Emphasizing to the audit team the need to maintain professional skepticism in gathering
and evaluating audit evidence.
b. Assigning more experienced staff or those with special skills or using experts.
c. Incorporating additional elements of unpredictability in the selection of further audit
procedures to be performed.
d. Performing substantive procedures at an interim date instead of at period end.
34. The assessment of the risks of material misstatement at the financial statement level is affected
by the auditor’s understanding of the control environment. Weaknesses in the control
environment ordinarily will lead the auditor to
a. Have more confidence in internal control and the reliability of audit evidence generated
internally within the entity.
b. Conduct some audit procedures at an interim date rather than at period end.
c. Modify the nature of audit procedures to obtain more persuasive audit evidence.
d. Decrease the number of locations to be included in the audit scope.
35. The auditor should design and perform further audit procedures whose nature, timing, and
extent are responsive to the assessed risks of material misstatement at the assertion level.
Which of the following is the most important consideration in responding to the assessed risks?
a. The nature of the audit procedures.
c. The timing of the audit procedures.
b. The extent of the audit procedures.
d. All of these are equally important.
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36. The auditor’s assessment of the identified risks at the assertion level provides a basis for
considering the appropriate audit approach for designing and performing further audit
procedures. Which of the following is incorrect?
a. The auditor may determine that only by performing tests of controls may the auditor achieve
an effective response to the assessed risk of material misstatement for a particular
assertion.
b. The auditor may determine that performing only substantive procedures is appropriate for
specific assertions and, therefore, the auditor excludes the effect of controls from the
relevant risk assessment.
c. The auditor needs to be satisfied that performing only substantive procedures for the
relevant assertion would be effective in reducing the risk of material misstatement to an
acceptably low level.
d. The auditor designs and performs substantive procedures for each material class of
transactions, account balance, and disclosure only when the auditor uses the substantive
approach.
37. Which statement is incorrect regarding the nature of further audit procedures?
a. The nature of further audit procedures refers to their purpose and their type.
b. Certain audit procedures may be more appropriate for some assertions than others.
c. The higher the auditor’s assessment of risk, the less reliable and relevant is the audit
evidence sought by the auditor from substantive procedures.
d. The auditor is required to obtain audit evidence about the accuracy and completeness of
information produced by the entity’s information system when that information is used in
performing audit procedures.
38. Which statement is incorrect regarding the timing of further audit procedures?
a. Timing refers to when audit procedures are performed or the period or date to which the
audit evidence applies.
b. The auditor may perform tests of controls or substantive procedures at an interim date or at
period end.
c. If the auditor performs tests of controls or substantive procedures prior to period end, the
auditor considers the additional evidence required for the remaining period.
d. All audit procedures can be performed prior to period end.
39. Which statement is incorrect regarding the extent of further audit procedures?
a. Extent includes the quantity of a specific audit procedure to be performed.
b. The extent of an audit procedure is determined by the judgment of the auditor after
considering the materiality, the assessed risk, and the degree of assurance the auditor
plans to obtain.
c. The auditor ordinarily decreases the extent of audit procedures as the risk of material
misstatement increases.
d. Increasing the extent of an audit procedure is effective only if the audit procedure itself is
relevant to the specific risk.
40. Which statement is incorrect regarding tests of controls?
a. Tests of controls are required under certain circumstances.
b. Tests of controls are required when an entity conducts its business using IT and no
documentation of transactions is produced or maintained, other than through the IT system.
c. Tests of the operating effectiveness of controls are performed only on those controls that
the auditor has determined are suitably designed to prevent, or detect and correct, a
material misstatement in an assertion.
d. Testing the operating effectiveness of controls is the same as obtaining audit evidence that
controls have been implemented.
41. Which statement is incorrect regarding the nature of tests of controls?
a. As the planned level of assurance increases, the auditor seeks more reliable audit
evidence.
b. Those controls subject to testing by performing inquiry combined with inspection or
reperformance ordinarily provide more assurance than those controls for which the audit
evidence consists solely of inquiry and observation.
c. The absence of misstatements detected by a substantive procedure provides audit
evidence that controls related to the assertion being tested are effective.
d. A material misstatement detected by the auditor’s procedures that was not identified by the
entity ordinarily is indicative of the existence of a material weakness in internal control.
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42. Which statement is incorrect regarding the timing of tests of controls?
a. Audit evidence pertaining only to a point in time may be sufficient for the auditor’s purpose,
for example, when testing controls over the entity’s physical inventory counting at the period
end.
b. If the auditor plans to rely on controls that have changed since they were last tested, the
auditor should test the operating effectiveness of such controls in the current audit.
c. If the auditor plans to rely on controls that have not changed since they were last tested, the
auditor should test the operating effectiveness of such controls at least once in every
second audit.
d. When there are a number of controls for which the auditor determines that it is appropriate
to use audit evidence obtained in prior audits, the auditor should test the operating
effectiveness of some controls each audit.
43. Which statement is incorrect regarding the extent of tests of controls?
a. The auditor designs tests of controls to obtain sufficient appropriate audit evidence that the
controls operated effectively throughout the period of reliance.
b. The more the auditor relies on the operating effectiveness of controls in the assessment of
risk, the lesser is the extent of the auditor’s tests of controls.
c. If the rate of expected deviation is expected to be too high, the auditor may determine that
tests of controls for a particular assertion may not be effective.
d. Because of the inherent consistency of IT processing, the auditor may not need to increase
the extent of testing of an automated control.
44. Which statement is incorrect regarding substantive procedures?
a. Substantive procedures are performed in order to detect material misstatements at the
assertion level, and include tests of details of classes of transactions, account balances,
and disclosures and substantive analytical procedures.
b. The auditor always performs substantive procedures for each class of transactions, account
balance, and disclosure.
c. When the auditor has determined that an assessed risk of material misstatement at the
assertion level is a significant risk, the auditor should perform substantive procedures that
are specifically responsive to that risk.
d. In order to obtain sufficient appropriate audit evidence, the substantive procedures related
to significant risks are most often designed to obtain audit evidence with high reliability.
45. The auditor’s substantive procedures should include the following audit procedures related to
the financial statement closing process:
I. Agreeing the financial statements to the underlying accounting records.
II. Examining material journal entries and other adjustments made during the course of
preparing the financial statements.
a. I and II
b. I only
c. II only
d. Neither I nor II
46. Which statement is incorrect regarding the nature, timing and extent of substantive
procedures?
a. Substantive analytical procedures are generally more applicable to large volumes of
transactions that tend to be predictable over time.
b. Tests of details are ordinarily more appropriate to obtain audit evidence regarding certain
assertions about account balances, including existence and valuation.
c. Substantive procedures cannot be performed at an interim date.
d. The greater the risk of material misstatement, the greater the extent of substantive
procedures.
47. Which statement is incorrect regarding evaluation of the sufficiency and appropriateness of
audit evidence obtained?
a. Based on the audit procedures performed and the audit evidence obtained, the auditor
should evaluate whether the assessments of the risks of material misstatement at the
assertion level remain appropriate.
b. As the auditor performs planned audit procedures, the audit evidence obtained may cause
the auditor to modify the nature, timing, or extent of other planned audit procedures.
c. In developing an opinion, the auditor considers only the audit evidence which corroborate
the assertions in the financial statements.
d. If the auditor is unable to obtain sufficient appropriate audit evidence, the auditor should
express a qualified opinion or a disclaimer of opinion.
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CPA REVIEW SCHOOL OF THE PHILIPPINES
Manila
AUDITING THEORY
INTERNAL CONTROL
Related PSAs/PAPSs: PSA 400, 402 and 315
The auditor should obtain an understanding of the accounting and internal control systems sufficient
to plan the audit and develop an effective audit approach.
Accounting system means the series of tasks and records of an entity by which transactions are
processed as a means of maintaining financial records. Such systems identify, assemble, analyze,
calculate, classify, record, summarize and report transactions and other events.
Internal Control System means all the policies and procedures (internal controls) adopted by the
management of an entity to assist in achieving management’s objective of ensuring, as far as
practicable,:
• orderly and efficient conduct of its business, including adherence to management policies;
• safeguarding of assets;
• prevention and detection of fraud and error;
• accuracy and completeness of the accounting records; and
• timely preparation of reliable financial information.
The internal control system extends beyond those matters which relate directly to the functions of the
accounting system.
Internal Control Components (PSA 315)
(a)
(b)
(c)
(d)
(e)
The control environment;
The entity’s risk assessment process;
The information system, including the related business processes, relevant to financial reporting,
and communication;
Control activities; and
Monitoring of controls.
Control environment
The control environment includes the attitudes, awareness, and actions of management and those
charged with governance concerning the entity’s internal control and its importance in the entity. The
control environment also includes the governance and management functions and sets the tone of an
organization, influencing the control consciousness of its people. It is the foundation for effective
internal control, providing discipline and structure.
The control environment encompasses the following elements:
•
•
•
•
•
•
•
Communication and enforcement of integrity and ethical values.
Commitment to competence.
Participation by those charged with governance.
Management’s philosophy and operating style.
Organizational structure.
Assignment of authority and responsibility.
Human resource policies and practices.
Entity’s risk assessment process
An entity’s risk assessment process is its process for identifying and responding to business risks and
the results thereof. For financial reporting purposes, the entity’s risk assessment process includes
how management identifies risks relevant to the preparation of financial statements that are presented
fairly, in all material respects in accordance with the entity’s applicable financial reporting framework,
estimates their significance, assesses the likelihood of their occurrence, and decides upon actions to
manage them.
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Risks can arise or change due to circumstances such as the following:
•
Changes in operating environment. Changes in the regulatory or operating environment can
result in changes in competitive pressures and significantly different risks.
•
New personnel. New personnel may have a different focus on or understanding of internal
control.
•
New or revamped information systems. Significant and rapid changes in information systems can
change the risk relating to internal control.
•
Rapid growth. Significant and rapid expansion of operations can strain controls and increase the
risk of a breakdown in controls.
•
New technology. Incorporating new technologies into production processes or information
systems may change the risk associated with internal control.
•
New business models, products, or activities. Entering into business areas or transactions with
which an entity has little experience may introduce new risks associated with internal control.
•
Corporate restructurings. Restructurings may be accompanied by staff reductions and changes in
supervision and segregation of duties that may change the risk associated with internal control.
•
Expanded foreign operations. The expansion or acquisition of foreign operations carries new and
often unique risks that may affect internal control, for example, additional or changed risks from
foreign currency transactions.
•
New accounting pronouncements. Adoption of new accounting principles or changing accounting
principles may affect risks in preparing financial statements.
Information system, including the related business processes, relevant to financial reporting, and
communication
An information system consists of infrastructure (physical and hardware components), software,
people, procedures, and data. Infrastructure and software will be absent, or have less significance, in
systems that are exclusively or primarily manual.
The information system relevant to financial reporting objectives, which includes the financial reporting
system, consists of the procedures and records established to initiate, record, process, and report
entity transactions (as well as events and conditions) and to maintain accountability for the related
assets, liabilities, and equity.
Accordingly, an information system encompasses methods and records that:
•
•
•
•
•
Identify and record all valid transactions.
Describe on a timely basis the transactions in sufficient detail to permit proper classification of
transactions for financial reporting.
Measure the value of transactions in a manner that permits recording their proper monetary
value in the financial statements.
Determine the time period in which transactions occurred to permit recording of transactions in
the proper accounting period.
Present properly the transactions and related disclosures in the financial statements.
Communication involves providing an understanding of individual roles and responsibilities pertaining
to internal control over financial reporting. It includes the extent to which personnel understand how
their activities in the financial reporting information system relate to the work of others and the means
of reporting exceptions to an appropriate higher level within the entity. Open communication channels
help ensure that exceptions are reported and acted on.
Control activities
Control activities are the policies and procedures that help ensure that management directives are
carried out, for example, that necessary actions are taken to address risks that threaten the
achievement of the entity’s objectives.
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Generally, control activities that may be relevant to an audit may be categorized as policies and
procedures that pertain to the following:
•
•
•
•
Performance reviews.
Information processing.
Physical controls.
Segregation of duties.
Monitoring of controls
Management’s monitoring of controls includes considering whether they are operating as intended
and that they are modified as appropriate for changes in conditions. Monitoring of controls may
include activities such as management’s review of whether bank reconciliations are being prepared on
a timely basis, internal auditors’ evaluation of sales personnel’s compliance with the entity’s policies
on terms of sales contracts, and a legal department’s oversight of compliance with the entity’s ethical
or business practice policies.
Inherent Limitations of Internal Controls
1. Management’s usual requirement that the cost of an internal control does not exceed the expected
benefits to be derived.
2. Most internal controls tend to be directed at routine transactions rather than non-routine
transactions.
3. The potential for human error due to carelessness, distraction, mistakes of judgment and the
misunderstanding of instructions.
4. The possibility of circumvention of internal controls through the collusion of a member of
management or an employee with parties outside or inside the entity.
5. The possibility that a person responsible for exercising an internal control could abuse that
responsibility, for example, a member of management overriding an internal control.
6. The possibility that procedures may become inadequate due to changes in conditions, and
compliance with procedures may deteriorate.
Accounting and Internal Control Assessment
1st
Understanding of accounting and internal control system
Plan the assessed level of control risk
2nd
3rd
Performance of tests of controls (if appropriate)
4th
Reassessment of control risk
th
5
Final assessment of control risk
(1st) Understanding of Accounting and Internal Control Systems
In the audit of financial statements, the auditor is only concerned with those policies and procedures
within the accounting and internal control systems that are relevant to the financial statement
assertions. The understanding of relevant aspects of the accounting and internal control systems,
together with the inherent and control risk assessments and other considerations, will enable the
auditor to:
(a) identify the types of potential material misstatements that could occur in the financial
statements;
(b) consider factors that affect the risk of material misstatements; and
(c) design appropriate audit procedures.
The nature, timing and extent of the procedures performed by the auditor to obtain an understanding
of the accounting and internal control systems will vary with, among other things:
• The size and complexity of the entity and of its computer system.
• Materiality considerations.
• The type of internal controls involved.
• The nature of the entity’s documentation of specific internal controls.
• The auditor’s assessment of inherent risk.
• Experience gained from prior audits.
Procedures in Obtaining Understanding
1. Make inquiries of appropriate company personnel
2. Inspect documents and records
3. Observe the company’s activities and operations
4. Walk-through
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Documentation of Understanding
The auditor should document his understanding of internal control. The extent of documentation is a
matter of the CPA’s judgment and the form of documentation depends upon his preference and skills.
1. Narrative descriptions
3. Flowcharts
2. Internal control questionnaires (ICQ)
4. Checklists
(2nd) Preliminary Assessment of Control Risk
The preliminary assessment of control risk is the process of evaluating the effectiveness of an entity’s
accounting and internal control systems in preventing or detecting and correcting material
misstatements. There will always be some control risk because of the inherent limitations of any
accounting and internal control system.
After obtaining an understanding of the accounting and internal control systems, the auditor should
make a preliminary assessment of control risk, at the assertion level, for each material account
balance or class of transactions.
The auditor ordinarily assesses control risk at a high level for some or all assertions when:
(a) the entity’s accounting and internal control systems are not effective; or
(b) evaluating the effectiveness of the entity’s accounting and internal control systems would not
be efficient.
The preliminary assessment of control risk for a financial statement assertion should be high unless
the auditor:
(a) is able to identify internal controls relevant to the assertion which are likely to prevent or
detect and correct a material misstatement; and
(b) plans to perform tests of control to support the assessment.
(3rd) Test of Controls
If appropriate, tests of control are performed to obtain audit evidence about the effectiveness of the:
(a) design of the accounting and internal control systems, that is, whether they are suitably
designed to prevent or detect and correct material misstatements; and
(b) operation of the internal controls throughout the period.
Procedures for Performing Tests of Controls
1. Inspection
2. Inquiry
3. Observation
4. Reperformance
5. Walk-through
Required Documentation
Understanding of ICS
Tests of Controls
Assessment of Control Risk
Reason for assessment
Assessed Control Risk
High (Maximum)
Less than high (Below Maximum)
Required
Required
Required
Required
Required
Not required
Not required
Required
(4th) Reassessment of control risk
Based on the results of the tests of control, the auditor should evaluate whether the internal controls
are designed and operating as contemplated in the preliminary assessment of control risk. The
evaluation of deviations may result in the auditor concluding that the assessed level of control risk
needs to be revised. In such cases, the auditor would modify the nature, timing and extent of planned
substantive procedures.
(5th) Final Assessment of Control Risk
Before the conclusion of the audit, based on the results of the substantive procedures and other audit
evidence obtained by the auditor, the auditor should consider whether the assessment of control risk
is confirmed.
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Communication of Weaknesses
As a result of obtaining an understanding of the accounting and internal control systems and tests of
control, the auditor may become aware of weaknesses in the systems. The auditor should make
management aware, as soon as practical and at an appropriate level of responsibility, of material
weaknesses in the design or operation of the accounting and internal control systems, which have
come to the auditor’s attention. The communication to management of material weaknesses would
ordinarily be in writing. However, if the auditor judges that oral communication is appropriate, such
communication would be documented in the audit working papers. It is important to indicate in the
communication that only weaknesses which have come to the auditor’s attention as a result of the
audit have been reported and that the examination has not been designed to determine the adequacy
of internal control for management purposes.
MULTIPLE CHOICE QUESTIONS
1. According to PSA 400, which of the following is correct regarding internal control system?
a. Internal control system refers to all the policies and procedures adopted by the auditor to
assist in achieving management’s objective.
b. A strong environment, by itself, ensure the effectiveness of the internal control system.
c. In the audit of financial statements, the auditor is only concerned with those policies and
procedures within the accounting and internal control systems that are relevant to the financial
statements.
d. The internal control system is confined to those matters which relate directly to the functions of
the accounting system.
2. Which of the following is correct about internal control?
a. Accounting and internal control systems provide management with conclusive evidence that
objectives are reached.
b. One of the inherent limitations of accounting and internal control systems is the possibility that
the procedures may become inadequate due to changes in conditions, and compliance with
procedures may deteriorate.
c. Most internal controls tend to be directed at non-routine transactions.
d. Management does not consider costs of the accounting and internal control systems.
3. Corporate directors, management, external auditors, and internal auditors all play important roles
in creating a proper control environment. Top management is primarily responsible for
a. Establishing a proper environment and specifying overall internal control.
b. Reviewing the reliability and integrity of financial information and the means used to collect
and report such information.
c. Ensuring that external and internal auditors adequately monitor the control environment.
d. Implementing and monitoring controls designed by the board of directors.
4. Which of the following best describe the interrelated components of internal control?
a. Organizational structure, management philosophy, and planning.
b. Control environment, risk assessment, control activities, information and communication
systems, and monitoring.
c. Risk assessment, backup facilities, responsibility accounting and natural laws.
d. Legal environment of the firm, management philosophy, and organizational structure.
5. In an audit of financial statements, an auditor’s primary consideration regarding a control is
whether it
a. Reflects management’s philosophy and operating style.
b. Affects management’s financial statement assertions.
c. Provides adequate safeguards over access to assets.
d. Enhances management’s decision-making processes.
6. Effective internal control
a. Eliminates risk and potential loss to the organization.
b. Cannot be circumvented by management.
c. Is unaffected by changing circumstances and conditions encountered by the organization.
d. Reduces the need for management to review exception reports on a day-to-day basis.
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7. Which of the following statements about internal control is correct?
a. Properly maintained internal controls reasonably assure that collusion among employees
cannot occur.
b. Establishing and maintaining internal control is the internal auditor’s responsibility.
c. Exceptionally strong control allows the auditor to eliminate substantive tests.
d. The cost-benefit relationship should be considered in designing internal control.
8. The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the risk
that
a. Tests of controls may fail to identify controls relevant to assertions.
b. Material misstatements may exist in the financial statements.
c. Specified controls requiring segregation of duties may be circumvented by collusion.
d. Entity policies may be overridden by senior management.
9. A proper understanding of the client’s internal control is an integral part of the audit planning
process. The results of the understanding
a. Must be reported to the shareholders and the SEC.
b. Bear no relationship to the extent of substantive testing to be performed.
c. Are not reported to client management.
d. May be used as the basis for withdrawing from an audit engagement.
10. An entity should consider the cost of a control in relationship to the risk. Which of the following
controls best reflects this philosophy for a large peso investment in heavy machine tools?
a. Conducting a weekly physical inventory.
b. Placing security guards at every entrance 24 hours a day.
c. Imprinting a controlled identification number on each tool.
d. Having all dispositions approved by the vice president of sales.
11. Audit evidence concerning segregation of duties ordinarily is best obtained by
a. Performing tests of transactions that corroborate management’s financial statement assertions
b. Observing the employees as they apply specific controls.
c. Obtaining a flowchart of activities performed by available personnel.
d. Developing audit objectives that reduce control risk.
12. Which of the following statements about preliminary assessment of control risks is correct?
a. After obtaining an understanding of the accounting and internal control systems, the auditor
should make a preliminary assessment of control risks, at the assertion level, for all accounts
or transaction classes.
b. The preliminary assessment of control risk can be done only after completing tests of controls.
c. The preliminary assessment of control risk for a financial assertion is normally low, unless the
auditor is able to identify weaknesses that may indicate ineffectiveness of accounting and
internal control system.
d. The auditor ordinarily assesses control risk at high level for some or all assertions when it is
not cost efficient to do tests of controls.
13. Which of the following statements concerning control risk is correct?
a. When control risk is at the maximum level, an auditor is required to document the basis for that
assessment.
b. Control risk may be assessed sufficiently low to eliminate substantive testing for significant
transaction classes.
c. When assessing control risk, an auditor should not consider evidence obtained in prior audits
about the operation of controls.
d. Assessing control risk and obtaining an understanding of an entity’s internal control may be
performed concurrently.
14. Based on a consideration of internal control completed at an interim date, the auditor assessed
control risk at a low level and performed interim substantive tests. The records and procedures
would most likely be tested again at year-end if
a. Tests of controls were not performed by the internal auditor during the remaining period.
b. Internal control provides a basis for limiting the extent of substantive testing.
c. The auditor used nonstatistical sampling during the interim period testing of controls.
d. Inquiries and observations lead the auditor to believe that conditions have changed.
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15. Although substantive tests may support the accuracy of underlying records, these tests frequently
provide no affirmative evidence of segregation of duties because
a. Substantive tests rarely guarantee the accuracy of the records if only a person who performs
incompatible functions.
b. The records may be accurate even though they are maintained by a person who performs
incompatible functions.
c. Substantive tests relate to the entire period under audit, but tests of controls ordinarily are
confined to the period during which the auditor is on the client’s premises.
d. Many computerized procedures leave no audit trail of who performed them, so substantive
tests may necessarily be limited to inquiries and observation of office personnel.
16. After obtaining an understanding of internal control and assessing control risk, an auditor decided
not to perform additional tests of controls. The auditor most likely concluded that the
a. Additional evidence to support a further reduction in control risk was not cost-beneficial to
obtain.
b. Assessed level of inherent risk exceeded the assessed level of control risk.
c. Internal control was properly designed and justifiably may be relied on.
d. Evidence obtainable through tests of controls would not support an increased assessment of
control risk.
17. The objective of tests of details of transactions performed as tests of controls is to
a. Monitor the design and use of entity documents such as prenumbered shipping form
b. Determine whether controls have been placed in operation.
c. Detect material misstatements in the account balances of the financial statements.
d. Evaluate whether controls operated effectively.
18. An auditor wishes to perform tests of controls on a client’s cash disbursements procedures. If the
controls leave no audit trail of documentary evidence, the auditor most likely will test the
procedures by
a. Confirmation and observation.
c. Analytical procedures and confirmation.
b. Observation and inquiry.
d. Inquiry and analytical procedures
19. Which of the following would not be a method used to conduct tests of controls?
a. Inquiry
b. Walkthrough
c. Confirmation
d. Observation
20. The auditor is examining copies of sales invoices only for the initials of the person responsible for
checking the extensions. This is an example of a
a. Test of controls
c. Dual purpose test
b. Substantive test
d. Test of balances
21. Which of the following types of evidence would an auditor most likely examine to determine
whether controls are operating as designed?
a. Confirmations of receivables verifying account balances.
b. Letters of representations corroborating inventory pricing.
c. Attorneys’ responses to the auditor’s inquiries.
d. Client records documenting the use of computer programs.
22. Which of the following procedures concerning accounts receivable is an auditor most likely to
perform to obtain evidential matter in support of an assessed level of control risk below the
maximum level?
a. Sending confirmation requests to an entity’s principal customers to verify the existence of
accounts receivable.
b. Inspecting an entity’s analysis of accounts receivable for unusual balances.
c. Comparing an entity’s uncollectible accounts expense to actual uncollectible accounts
receivable.
d. Observing an entity’s employee prepare the schedule of past due accounts receivable.
23. An auditor is least likely to test controls that provide for
a. Classification of revenue and expense transactions by product line
b. Approval of the purchase and sale of trading securities
c. Segregation of the functions of recording disbursements and reconciling the bank account
d. Comparison of receiving reports and vendors’ invoices with purchase orders
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24. In a small company that doesn't employ an adequate number of employees to permit proper division
of responsibilities, effective internal control can be strengthened by
a. Direct participation by the owner of the business in the record keeping activities of the business.
b. Employment of temporary personnel to aid in the separation of duties.
c. Delegation of full, clear-cut responsibility to each employee for the functions assigned to each.
d. Engaging a CPA to perform monthly "write up" work.
25. Which of the following is true of the communication to management of material weaknesses in
accounting and internal control?
a. Communication must be in writing.
b. Oral communication of material weaknesses, when appropriate, would be documented in the
audit working papers.
c. The communication should indicate that the auditor had extensively examined the accounting
and internal control system of the client.
d. The auditors should indicate in the communication that the examination is primarily designed
to determine whether the accounting and internal control is adequate.
QUIZZERS
1. Transaction authorization within an organization may be either specific or general. An example of
specific transaction authorization is the
a. Approval of a construction budget for a new warehouse
b. Setting of automatic reorder points
c. Establishment of a customer’s credit limits
d. Establishment of sales prices
2. Internal control should provide reasonable (but not necessarily absolute) assurance which means
that:
a. The cost of control activities should not exceed the benefits.
b. Internal control is management’s, not auditor’s, responsibility.
c. An attestation engagement about management’s internal control assertions may not
necessarily detect all reportable conditions.
d. There is always a risk that reportable conditions may result in material misstatements.
3. Which of the following statements is an example of an inherent limitation of internal control.
a. Errors may arise from mistakes in judgments.
b. The effectiveness of control procedures depends on segregation of duties.
c. Procedures are designed to assure that transactions are executed as management authorities.
d. Computers process large numbers of transactions.
4. Proper segregation of functional responsibilities calls for separation of the functions of
a. Authorization, execution, and recording.
c. Custody, execution, and reporting.
b. Authorization, execution, and payment.
d. Authorization, payment, and recording.
5. Which of the following is a responsibility that should not be assigned to only one employee?
a. Access to securities in the company’s safe deposit box.
b. Custodianship of the cash working fund.
c. Reconciliation of bank statement.
d. Custodianship of tools and small equipment.
6. Which of the following activities would be least likely to strengthen a company’s internal control?
a. Maintaining insurance for fire and theft.
b. Separating accounting from other financial operations.
c. Fixing responsibility for the performance of employee duties.
d. Carefully selecting and training employees.
7. As generally conceived, the “audit committee” of a publicly held company should be made up of
a. Members of the board of directors who are not officers or employees.
b. Representatives of the major equity interests (bonds, preferred stock, common stock).
c. The audit partner, the chief financial officer, the legal counsel, and at least one outsider.
d. Representatives from the client’s management, investors, suppliers, and customers.
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8. When considering internal control, the auditor’s primary concern is to determine
a. The reliability of the accounting information system.
b. The possibility of fraud occurring.
c. Compliance with policies, plans, and procedures.
d. The type of an opinion he will issue.
9. Of the following, the best statement of the CPA’s primary objective in considering internal control
is that the review is intended to provide
a. A basis for reliance on the system and determining the scope of other auditing procedures.
b. Reasonable protection against client fraud and defalcations by client employees.
c. A basis for constructive suggestions to the client for improving his internal control system.
d. A method for ensuring that there is reasonable assurance that the financial statements are
reliable.
10. When an auditor assesses control risk below the maximum level, the auditor is required to
document the auditor’s
Basis for concluding that control
Understanding of the entity’s internal
control structure elements
Risk is below the maximum level
a.
Yes
Yes
b.
No
No
c.
Yes
No
d.
No
Yes
11. The sequence of steps in gathering evidence as the basis of the auditor’s opinion is
a. Substantive tests, documentation of control structure, and tests of controls
b. Documentation of control structure, tests of controls, and substantive tests
c. Documentation of control structure, substantive tests, and tests of controls
d. Tests of controls, documentation of control structure, and substantive tests
12. In obtaining an understanding of an entity’s internal control structure, an auditor is required to
obtain knowledge about the
Operating effectiveness of
Design of policies
and procedures
Policies and procedures
a.
Yes
Yes
b.
No
Yes
c.
Yes
No
d.
No
No
13. Which of the following audit techniques most likely would provide an auditor with the most
assurance about the effectiveness of the operation on an internal control procedure?
a. Confirmation with outside parties
c. Recomputation of account balance
d. Inquiry of client personnel
b. Observation of client personnel
14. Which of the following is the correct order for performing the auditing procedures A through C
below
A = Tests of Controls
B = Preparation of a flowchart depicting the client’s internal control structure
C = Substantive tests
b. BAC
c. ACB
d. BCA
a. ABC
15. After considering a client’s internal control, an auditor has concluded that the system is well
designed and is functioning as anticipated. Under these circumstances, the auditor would most
likely
a. Cease to perform further substantive tests
b. Not increase the extent of planned substantive tests
c. Increase the extent of anticipated analytical procedures
d. Perform all tests of controls to the extent outlined in the preplanned audit program
16. After considering internal control, an auditor might decide to
a. Increase the extent of tests of controls and substantive tests in areas where internal control is
strong
b. Increase the extent of substantive tests in areas where internal control is weak
c. Reduce the extent of tests of controls in areas where internal control is strong
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d. Reduce the extent of both substantive tests and tests of controls in areas where internal
control is strong
17. To obtain an understanding of the relevant policies and procedures of internal control, the auditor
performs all of the following except:
a. Make inquiries
c. Make observations
b. Design substantive tests
d. Inspect documents and records
18. In an auditor’s consideration of internal control, the completion of a questionnaire is most closely
associated with which of the following?
a. Separation of duties
c. Flowchart accuracy
b. Understanding the system
d. Tests of controls
19. Before relying on the system of internal control, the auditor obtains a reasonable degree of
assurance that the internal control procedures are in use and operating as planned. The auditor
obtains this assurance by performing planned
a. Substantive tests
c. Transaction tests
b. Tests of controls
d. Tests of trends and ratios
20. After obtaining an understanding of a client’s controls, an auditor may decide to omit tests of the
controls. Which of the following in not appropriate reason to omit tests of controls?
a. The controls duplicate other controls.
b. The controls appear adequate.
c. Reportable conditions preclude assessing control risk below the maximum.
d. The effort to test controls exceeds the effort saved by not performing substantive tests.
21. In general, a material weakness in internal control may be defined as a condition in which material
errors or irregularities may occur and not be detected within a timely period by
a. An independent auditor during tests of controls.
b. Management when reviewing interim financial statements and reconciling account balances.
c. Employees in the normal course of performing their assigned functions.
d. Outside consultants who issue a special-purpose report on internal control structure.
22. Internal control procedures are not designed to provide reasonable assurance that
a. Transactions are executed in accordance with management's authorization.
b. Access to assets is permitted only in accordance with management's authorization.
c. Irregularities will be eliminated.
d. The recorded accountability for assets is compared with the existing assets at reasonable
intervals.
23. A secondary purpose of the auditor's consideration of internal control is to provide
a. A basis for assessing control risk.
b. An assurance that the records and documents have been maintained in accordance with
existing company policies and procedures.
c. A basis for constructive suggestions about improvements in internal control structure.
d. A basis for the determination of the resultant extent of the tests to which auditing procedures
are to be restricted.
24. The auditor's review of the client's internal control is documented in order to substantiate
a. Conformity of the accounting records with GAAP.
b. Adherence to requirements of management.
c. Compliance with generally accepted auditing standards.
d. The fairness of the financial statement presentation.
25. A consideration of internal control made during an audit is usually not sufficient to express an
opinion on an entity's controls because
a. Weaknesses in the system may go unnoticed during the audit engagement.
b. A consideration of internal control is not necessarily made during an audit engagement.
c. Only those controls on which an auditor intends to rely are reviewed, tested, and evaluated.
d. Controls can change each year.
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26. The accountant's report expressing an opinion on an entity's internal controls should state that the
a. Objectives of the client's internal controls are being met.
b. Consideration of the internal controls was conducted in accordance with generally accepted
auditing standards.
c. Establishment and maintenance of internal control is the responsibility of management.
d. Inherent limitations of the client's internal controls were examined.
27. The primary objective of procedures performed to obtain an understanding of internal control is to
provide an auditor with
a. Evidential matter to use in reducing detection risk.
b. A basis from which to modify tests of controls.
c. Knowledge necessary to plan the audit.
d. Information necessary to prepare flowcharts.
PSA 400 – Risk Assessments and Internal Control
28. Which of the following is not part of the control environment?
a. Management philosophy and operating style.
b. Organizational structure and methods of assigning authority and responsibility.
c. Information and communication systems.
d. The function of the board of directors and its committees.
29. When obtaining an understanding of the accounting and internal control system the auditor may
trace a few transactions through the accounting system. This technique is:
a. Reperformance test
c. Walk-through test
b. Test of transactions
d. Validity test
30. Which of the following least likely affects the nature, timing, and extent of the procedures
performed by the auditor to obtain an understanding of the accounting and internal control
systems of an audit client?
a. Materiality considerations
b. The auditor’s assessment of inherent risk
c. The level of acceptable detection risk
d. The size and complexity of the entity and of its computer system
31. The evaluation of deviations that were observed upon completing tests of controls
a. May require the need for doing more extensive understanding of control.
b. May require more extensive tests of controls.
c. Always requires documentation of the basis of assessment of control risk.
d. May require modification of the nature, timing, and extent of planned substantive procedures.
32. The following statements are true about observation when used as tests of control procedures,
except.
a. The auditor may supplement his observations with other tests of control capable of providing
audit evidence.
b. Audit evidence obtained by doing observation pertains only to the point in time at which the
procedure was applied.
c. Observation of who applies a control procedure is useful as a test of control procedures when
evaluating control effectiveness of both computerized and manual system
d. Ordinarily, making inquiries provides more reliable audit evidence than doing observation
when testing segregation of functional responsibilities.
33. Tests of controls may include the following, except:
a. Reperformance of internal control procedures
b. Inquiries about, and observation of, internal controls which leave no audit trail.
c. Inspection of documentary support for transactions evidencing authorization
d. Analytical procedures involving comparison of operating expenses with budgeted amount.
34. Tests of controls are performed to obtain audit evidence about the effectiveness of the
a. Operation of the internal controls at the time the tests are being applied.
b. Operations of the internal controls in eliminating fraud and errors.
c. Design of the internal controls in eliminating fraud and errors.
d. Design of the accounting and internal controls systems.
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35. The auditor should consider whether the assessment of control risk is confirmed
a. Upon completion of understanding of internal control.
b. Upon completion of tests of controls
c. Before the final audit program is completed.
d. Upon the conclusion of the audit, based on the results of substantive procedures and other
audit evidence obtained.
PSA 402 – Audit Considerations Relating to Entities Using Service Organizations
36. Which of the following is least likely considered by the auditor in determining the significance of
service organization activities to the client and the relevance to the audit?
a. Terms of contract and relationship between the client and the service organization.
b. The material financial statement assertions that are affected by the use of the service
organization.
c. Client's internal controls that are applied to the transactions processed by the service
organization.
d. The control policies and procedures of the client of requiring that all payments for goods and
services be supported by receiving reports.
37. When the auditor considers that the service organization activities are significant to the client and
relevant to the audit and he concludes that it would be efficient to obtain audit evidence from tests
of control to support an assessment of control risk at a lower level. Such evidence may be
obtained by, except
a. Performing tests of the client's controls over activities of the service organization.
b. Obtaining a service organization auditor's report that expresses an opinion as to the operating
effectiveness of the service organization's accounting and internal control systems for the
processing applications relevant to the audit.
c. Visiting the service organization and performing tests of control.
d. Review the service contract between the client and the service organization.
38. Which statement is incorrect regarding the client auditor’s use of service organization auditor’s
report?
a. When using a service organization auditor’s report, the client auditor should consider the
nature of and content of that report.
b. The client auditor should consider the scope of work performed by the service organization
auditor and should assess the usefulness and appropriateness of reports issued by the service
organization auditor.
c. When a Type B report is to be used as evidence to support a lower control risk assessment, a
client auditor would consider whether the controls tested by the service organization auditor
are relevant to the client's transactions (significant assertions in the client's financial
statements) and whether the service organization auditor's tests of control and the results are
adequate.
d. Since Type A reports may be useful to a client auditor in gaining the required understanding of
the accounting and internal control systems, an auditor may use such reports as a basis for
reducing the assessment of control risk.
39. Which of the following is the least concern of the client auditor in reviewing the report of service
organization auditor on suitability of internal control design of the service organization?
a. The accuracy of description of the service organization's accounting and internal control
systems, ordinarily prepared by the management of the service organization.
b. The systems' controls have been placed in operation.
c. The accounting and internal control systems are suitably designed to achieve their stated
objectives.
d. The type of documentation of the understanding of the service organization’s control system.
40. Which of the following is least likely entitled to the report of the service organization auditor on the
suitability of the design and operating effectiveness of the service organization?
a. Service organization’s management
c. Client’s auditors
b. Service organization’s customers
d. Service organization’s stockholders
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True or False
1. As part of understanding internal, an auditor is not required obtain knowledge about the operating
effectiveness of internal control.
2. A CPA’s consideration of internal control in a financial statement audit is usually more limited than
that made in connection with an engagement to report on management’s written assertion as to
the effectiveness of internal control.
3. Proper segregation of duties reduces the opportunities for persons to be in positions to perpetrate
and conceal errors or fraud.
4. Management’s aggressive attitude toward financial reporting and its emphasis on meeting
projected profit goals most likely would significantly influence an entity’s control environment when
management is dominated by one individual who is also a shareholder.
5. It is important for the auditor to consider the competence of the audit client’s employees, because
their competence bears directly and importantly upon the achievement of the objectives of internal
control.
6. When obtaining an understanding of an entity’s internal control, an auditor should concentrate on
the substance of controls rather than their form because management may establish appropriate
controls but not act on them.
7. In obtaining an understanding of an entity’s internal control in a financial statement audit, an
auditor is not obligated to search for significant deficiencies in the operation of internal control.
8. An independent auditor might consider the procedures performed by the internal auditors because
they are employees whose work may affect the nature, timing, and extent of audit procedures.
9. Internal control procedures are not designed to provide reasonable assurance that irregularities
will be eliminated.
10. When considering internal control, an auditor must be aware of the concept of reasonable
assurance, which recognizes that cost of internal control procedures should not exceed the
benefits expected to be derived from the control.
11. The auditor’s review of the client’s internal control is documented in order to substantiate
compliance with generally accepted auditing standards.
12. After obtaining an understanding of an entity’s internal controls, an auditor may assess control risk
at the maximum for some assertions because the auditor believes internal control activities are
unlikely to be effective.
13. The primary purpose of the auditor’s consideration of internal control is to provide a basis for
determining the nature, timing, and extent of audit tests to be applied.
14. After consideration of a client’s internal control, an auditor might decide to increase the extent of
substantive testing in areas where the controls are weak.
15. A consideration of internal control made during an audit is usually not sufficient to express an
opinion on an entity’s controls because only those controls on which an auditor intends to rely are
reviewed, tested, and evaluated.
16. Evidence about segregation of duties is best obtained by direct personal observation of
employees who perform control activities.
17. An auditor’s flowchart of a client’s accounting system is a diagrammatic representation that
depicts the auditor’s understanding of the internal control system.
18. The purpose of tests of controls is to provide reasonable assurance that the control procedures
are functioning as intended.
19. After documenting internal control in an audit engagement, the auditor may perform tests on those
controls that the auditor plans to rely on.
20. The auditor observes client employees in order to corroborate the information obtained during the
initial review of the system.
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AT-5910
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