Auditing Chapter 4

Which of the following statements best describes auditors' responsibility to detect errors and frauds?

Auditors should design an audit to provide reasonable assurance of detecting errors and frauds that are material to the financial statements. Correct Auditors are responsible to detect material errors, but have no responsibility to detect material frauds that are concealed through employee collusion or management override of the internal control structure. Auditors have no responsibility to detect errors and frauds unless analytical procedures or tests of transactions identify conditions causing a reasonably prudent auditor to suspect that the financial statements were materially misstated. Auditors have no responsibility to detect errors and frauds because an auditor is not an insurer and an audit does not constitute a guarantee.

If control risk increases, and all other risks in the audit risk model stay constant except the one referred to below, which of the following statements is correct?

Detection risk will decrease. Correct Inherent risk will increase. Audit risk will decrease. Detection risk will increase.

What assurance does the auditor provide that errors, frauds, and direct effect noncompliance that are material to the financial statements will be detected?

Errors: Limited; Frauds: Negative; Direct effect noncompliance: Limited. Errors: Limited; Frauds: Limited; Direct effect noncompliance: Reasonable Errors: Reasonable; Frauds: Limited; Direct effect noncompliance: Limited. Errors: Reasonable; Frauds: Reasonable; Direct effect noncompliance: Reasonable. Correct

Inherent risk and control risk differ from detection risk in which of the following ways?

Inherent risk and control risk are calculated by the client. Inherent risk and control risk exist independently of the audit. Correct Inherent risk and control risk are controlled by the auditor. Inherent risk and control risk exist as a result of the auditor's judgment about materiality.

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

Presumptive. Judgmental. Criticizing. Questioning. Correct

Audit risk

The probability that an auditor will give an inappropriate opinion on financial statements.

Detection risk

The probability that audit procedures will fail to produce evidence of material misstatements.

Inherent risk

The probability that material misstatements have occurred in transactions entering the accounting system.

Control risk

The probability that the client's internal control policies and procedures will fail to detect material misstatements if they have entered the accounting system.

Certain conditions and circumstances are often present when management fraud occurs. Which of the following is not such a condition or circumstance?

Unfavorable industry conditions. Lack of working capital. High liquidity. Correct Slow customer collections

The risk of material misstatement differs from detection risk in that it:

arises from the misapplication of audit procedures. may be assessed in either quantitative or non-quantitative terms. exists independently of the financial statement audit. Correct can be changed at the auditor's discretion.

The risk that an auditor's procedures will lead to the conclusion that a material misstatement does not exist in an account balance when, in fact, such misstatement actually exists is:

audit risk. inherent risk. control risk. detection risk. Correct

The probability that an audit team will give an inappropriate opinion on financial statements best describes:

audit risk. Correct inherent risk. control risk. detection risk.

The existence of audit risk is recognized by the statement in the auditor's standard report that the:

auditor is responsible for expressing an opinion on the financial statements, which are the responsibility of management. financial statements are presented fairly, in all material respects, in conformity with applicable financial reporting framework. audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. auditor obtains reasonable assurance about whether the financial statements are free of material misstatement. Correct

Assume that application of analytical procedures revealed significant unexplained differences between recorded amounts and the expectations (estimates) developed by the auditor. If management is unable to provide an acceptable explanation, the auditor should:

consider the matter a scope limitation. perform additional audit procedures to investigate the matter further. Correct intensify the audit with the expectation of detecting management fraud. withdraw from the engagement.

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

decrease substantive testing. decrease detection risk. Correct increase inherent risk. increase materiality levels.

Inherent risk and control risk differ from detection risk in that inherent risk and control risk are:

elements of audit risk whereas detection risk is not. changed at the auditor's discretion whereas detection risk is not. considered at the individual account-balance level whereas detection risk is not. functions of the client and its environment whereas detection risk is not. Correct

The major emphasis in GAAS related to consideration of fraud in a financial statement audit (AU 240) is on:

employee misappropriation of assets. management fraud. Correct client fraud on customers. employee embezzlement.

When an auditor increases the planned assessed level of control risk because certain control activities were determined to be ineffective, the auditor would most likely increase the:

extent of substantive tests of details.Correct level of inherent risk. extent of tests of controls. level of detection risk

External auditors are responsible:

for authenticating documents. for reporting immaterial frauds to a level of management at least one level above the people involved.Correct for finding all intentional misstatements concealed by collusion. for reporting all frauds to outside agencies or parties.

The type of financial analysis that expresses balance sheet accounts as percentages of total assets is known as:

horizontal analysis. vertical analysis.Correct net worth analysis. expenditure analysis.

In the planning stage, analytical procedures are used to:

identify potential problem areas.Correct provide direct evidence about the balances in accounts determine the mathematical correctness of the financial statements. perform all of these.

If fictitious credit sales were recorded, and the fictitious accounts receivable were later directly written off as bad debt expense,

income would be overstated. income would be understated. income would not be misstated.Correct accounts receivable would be understated.

If an auditor encounters significant risks at the client, the auditor should do all of the following except:

inform the SEC.Correct perform extended procedures. include more experienced auditors on the engagement. perform tests closer to year end.

An auditor assesses the risk of material misstatement because it:

is relevant to the auditor's understanding of the control environment. provides assurance that the auditor's overall materiality levels are appropriate. indicates to the auditor where inherent risk may be the greatest. affects the level of detection risk that the auditor may accept. Correct

When determining the inherent risk related to an account balance, an auditor theoretically does not explicitly consider the:

liquidity of the account. degree of management estimation involved in determining the proper account balance. related internal control policies and procedures.Correct complexity of calculations involved.

When fraud risk is significant, and management cooperation is unsatisfactory, the auditors will most likely:

perform extended audit procedures. consult with fraud examiners. report directly to the Securities and Exchange Commission within one day. withdraw from the engagement. Correct

Inherent risk is the:

probability that some accounts are more susceptible to misstatement than others. probability that the client's internal control policies and procedures will fail to detect material misstatements. probability that material misstatements have occurred in transactions entering the accounting system used to develop financial statements. Correct probability that the auditor may not detect material misstatements in the financial statements.

Generally accepted auditing standards states that analytical procedures:

should be applied in the planning and final review stages of the audit and as a substantive test during the audit. should be applied in the planning and final review stages of the audit and can be used as a substantive test during the audit.Correct should be applied in the planning stage and can be applied as a substantive test and in the final review stage. should be applied in the final review stage, and can be applied as a substantive test and in the planning stage.

Managing business risk is the responsibility of:

the auditors. management.Correct the SEC. the PCAOB.

An auditor who discovers that client employees have committed an illegal act that has a material effect on the client's financial statements most likely would withdraw from the engagement if:

the noncompliance is a violation of generally accepted accounting principles. the client does not take the remedial action that the auditor considers necessary.Correct the illegal act was committed during a prior year that was not audited. the auditor has already assessed control risk at the maximum level

In auditing related party transactions, an auditor ordinarily places primary emphasis on:

the probability that related party transactions will recur. confirming the existence of the related parties verifying the valuation of the related party transactions. the adequacy of the disclosure of the related party transactions. Correct

Horizontal analysis refers to:

the trend of income from year to year of persons suspected of fraud. changes of financial statement numbers and ratios across several years.Correct financial statement amounts expressed each year as a proportion of a base amount. the change in a suspect's net worth from the beginning to the end of a period.

The purpose of an audit strategy is

to provide a defense against litigation. to gain an understanding of the client. to comply with securities law. to set the scope, timing, and direction for auditing each relevant assertion. Correct

Management fraud generally refers to:

unintentional mistakes. noncompliance. intentional distortions of financial statements.Correct violations of GAAS.