Chapter 4
Items that may result in significant risks include ______.
-significant accounting estimates and judgments -the application of new accounting standards -highly complex transactions
The risk that a material account or disclosure assertion will not be prevented, detected or corrected on a timely basis by the entity's internal control is_____ risk
control
At the assertion level, audit risk consists of _____ risk, ______ risk, and _____ risk.
control, detection, inherent
The entity's policies and procedures designed to provide reasonable assurance about the achievement of the entity's objectives is labeled _____ _____.
internal control
Business risk ______.
-is a broader concept than the risk of material misstatement -can adversely affect an entity's ability to execute its strategies
If management chooses not to eliminate an identified material misstatement, appropriate audit opinions include ______.
-modified -qualified -adverse
The formula for the audit risk model is ______.
AR = RMM x DR
The auditor's best estimate of misstatements in populations are called _____ misstatements.
Projected
Which of the following statements is correct?
Those charged with governance of the entity may be useful in providing information to the auditor.
If the results of audit tests indicate a significant risk of fraud, the auditor should ______.
consider withdrawing from the engagement
The risk that the procedures performed by the auditor to reduce audit risk to an acceptably low level will not detect a misstatement that exists exists is known as ______ risk.
detection
Which of the following statements are correct?
-Auditors must consider the reliability of internal performance measures before using them for purposes of the audit. -A deviation in the entity's performance measures may indicate a risk of misstatement in the related financial information. -Internal performance measures provide information about progress towards meeting entity objectives.
Under which of the following circumstances may auditors have a duty to disclose fraud to an outside entity?
-In response to a subpoena. -To comply with legal and regulatory requirements. -To a governmental funding agency.
Identify the three steps involved in the auditor's use of the audit risk model at the assertion level.
-Setting a planned level of audit risk. -Solving the audit risk equation for the appropriate level of detection risk. -Assessing the risk of material misstatement.
Which of the following statements are correct?
-The fraud discussion can be part of the discussion of understanding the entity and its environment. -The engagement partner or manager should communicate the potential for misstatements from fraud to the audit team.
If the achieved level of audit risk is greater than the planned level, auditor options include ______.
-performing additional audit work -modifying the audit opinion
If an auditor has determined that material misstatements were or may have been the result of fraud and is unable to determine if the effect is material, the auditor should ______.
-suggest that the appropriate level of management consult with legal counsel -attempt to obtain evidence in order to determine whether material fraud has occurred and its effect -consider the implications for other aspects of the audit
Examples of misappropriation of assets include ______.
-using an entity's assets for personal use -embezzling cash received -stealing physical assets and intellectual property
The existence of audit risk is recognized by the statement in the auditor's standard report that the:
Auditor obtains reasonable assurance about whether the financial statements are free of material misstatements.
True or false: Professional skepticism is not a way to reduce judgment errors.
False
Which of the following factors is least likely to represent an opportunity to commit fraud?
Operating losses make a hostile takeover imminent.
Auditors assess the risk of material misstatement at the ______ level.
assertion
The risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated is known as ______ risk.
audit
Whenever the auditor finds evidence of fraud that causes a material misstatement of the financial statements, it should be reported directly to the ______.
audit committee
The risk of material misstatement is also referred to as _____ risk because it stems from decisions made by the entity. (Enter only one word per blank.)
client
Misstatements arising from the misappropriation of assets is sometimes referred to as _____.
defalcation
The susceptibility of a material account or disclosure assertion to a misstatement due to fraud or error, before considerations of any related controls is_____
inherent
The susceptibility of an assertion in an account or disclosure to a misstatement due to error or fraud that could be material is known as ______ risk.
inherent
Auditing standards state that audit risk must be reduced to at least a ______ level.
low
The responsibility to identify, control and mitigate business risks that may affect the entity's ability to achieve its objectives rests with the ______.
management
Audit evidence is subject to human error which is referred to as_____ risk
nonsampling
Many public accounting firms find it appropriate to use ______ in the audit risk model.
qualitative terms
The greater the incentive or pressure, the more likely an individual will be able to ______.
rationalize the acceptability of committing fraud
If an entity's response to identified risks is adequate, the risk of material misstatement may be ______.
reduced
If inherent and control risks are high, in order to achieve the planned level of audit risk, the auditor will ______ level of detection risk.
set a lower
An active role in the oversight of the assessment of the risk of fraud should be assumed by the ______.
audit committee
Which of the following conditions are generally present when material misstatements due to fraud occur?
Incentive, Opportunity, Rationalization
Internal performance measures include ______.
both financial and nonfinancial indicators
When an auditor considers management's selection of an accounting policy to be appropriate, a(n) _____ misstatement arises.
judgement
An auditor determines that the percentage of allowance for bad debts set by management is unreasonably low based on past experience. This is an example of a ______ misstatement.
judgmental
Items that may result in significant risks include ______.
-assertions identified with fraud risk factors -industry specific issues -revenue recognition
Steps auditors perform as part of the fraud risk assessment process include ______.
-identification and assessment of fraud risk factors -inquiries of management about their views on the risks of fraud -understanding the entity's period-end closing process
Misstatements due to error or fraud include ______.
-inaccurate data processing -omission of an amount -incorrect accounting estimates
Which of the following represents a factual misstatement?
A misstatement found by the auditor that is due to incorrect pricing on a sales invoice.
If risk of material misstatement is higher than originally anticipated, the auditor may respond by:
Assign more experienced personnel.
Which of the following is not one of the three conditions that are generally present when fraud occurs?
Collusion
True or false: Detection risk has an inverse relationship to inherent and control risk.
True
When an auditor has discovered fraud, ______.
a duty to disclose outside the entity exists in some circumstances
If the auditor assesses the _____level of audit risk as being less than or equal to the _____ level of audit risk, and unqualified report can be issued.
achieved/actual, planned
The audit team is required to hold discussions, referred to as _____ _____, about the entity's financial statements' susceptibility to fraud.
brainstorming sessions
The auditor can manipulate ______ risk by changing the scope of the auditor's test procedures.
detection
The effectiveness of the audit procedures and how well the procedures are applied by the auditor determines the_____ risk.
detection
Misstatements about which there is no doubt are called _____ misstatements.
factual
The auditor should obtain information about the conduct of operations, joint ventures, planned acquisitions, and major subsidiaries as part of learning about the ______.
nature of the entity
Financial statement level risks are _____ risks in that they apply to multiple components of the financial statements.
pervasive
An auditor uses the misstatements identified in an audit sample to estimate the misstatements in the entire population. This is an example of a ______ misstatement.
projected
Which of the following statements are correct?
-Withholding evidence or misrepresenting information may conceal fraud. -Most fraudulent financial reporting involves management override of controls. -An auditor may unknowingly rely on fraudulent audit evidence.
Steps auditors perform as part of the fraud risk assessment process include ______.
-inquiries of the audit committee about their views on the risks of fraud -consideration of unusual or unexpected relationships -team member discussions regarding the risk of material misstatement
The PCAOB states that, as a part of understanding the entity, auditors should consider ______.
-observing earnings calls conducted by management -reading public information about the effectiveness of the company's internal control over financial reporting
The PCAOB states that, as a part of understanding the entity, auditors should consider ______.
-obtaining information about significant unusual developments regarding trading activity in the company's securities -reading relevant public information about the company -obtaining an understanding of compensation arrangements with senior management
Observation and inspection audit procedures include ______.
-tracing transactions through the information system -reading management reports -visits to the entity's premises and plant facilities
The disclosure of fraud to parties other than the entity's senior management and its audit committee ordinarily would be precluded by the auditor's ethical or legal obligations of confidentiality. However, the auditor has a duty to disclose the information to parties outside the entity in all of the following circumstances except:
A Wall Street analyst inquiry regarding future profit projections.
If the auditor determines that a material misstatement may be due to fraud, the auditor should do all of the following except:
Alert the Authorities
The formula auditors use to determine the appropriate level of detection risk is ______.
DR = AR / RMM
True or false: Observation and inspection audit procedures should be limited to current activities performed inside the organization without considering outside sources.
False: Information from outside as well as from previous audits may also be considered.
Who addresses business risks by implementing a risk assessment process?
Management
Which of the following would be classified as an error?
Misinterpretation by management of facts that existed when the financial statements were prepared.
Evaluations of financial information made through the study of plausible relationships among both financial and non-financial data are referred to as _____ _____.
analytical procedures
The risk that a misstatement could occur in an assertion and would not be prevented, or detected and corrected, on a timely basis by the entity's internal control is known as ______ risk.
control
The risk that the auditor will not discover a material misstatement in the financial statements is known as ______ risk.
detection
Standards require extensive _____ of the auditor's risk assessment procedures and audit responses to identified risks.
documentation
Unintentional misstatements of amounts or disclosures in financial statements are referred to as _____.
error
The risk of material misstatement refers to misstatements caused by_____ or _____.
errors, fraud
An auditor tests an invoice for services provided and determines that the amount charged is incorrect. This is an example of a ______ misstatement.
factual
Auditors should ask the ______ about its assessment of the risk of fraud, including whether management has satisfactorily responded to internal audit findings during the year.
internal audit function
If an entity's response to identified risks are inadequate, the auditor's assessment of the risk of _____ _____ may increase.
material misstatement
The combination of inherent risk and control risk is referred to in auditing standards as the risk of _____ _____ .
material misstatement
The combination of inherent risk and control risk is referred to in auditing standards as the risk of_____ _____.
material misstatement
An objective of brainstorming with the audit team is emphasizing the importance of maintaining _____ _____ throughout the audit regarding the potential for material misstatement due to fraud.
professional skepticism
Which of the following areas require documentation related to the auditor's risk assessment and response?
-Evaluation of management's response to identified risk. -Nature, timing and extent of procedures performed to identify risks. -Discussion among the engagement team. -Communication about error and fraud made to management and others.
An employee may be motivated to misappropriate assets due to ______.
-an adverse relationship with the employer -the susceptibility of assets to misappropriation -inadequate internal controls over assets
The use of the audit risk model ______.
-assists the auditor in determining the scope of audit procedures -involves considerable auditor judgment
When auditing a public company, the auditor is generally responsible to disclose fraud to the ______.
-audit committee -senior management
To obtain information about an entity and its environment, auditors may make inquires of ______.
-board of directors -in-house legal counsel -Internal auditors -marketing and sales personnel
To understand the nature of the entity, auditors should obtain information about the entity's: ______.
-business operations -financial reporting -investments -financing and financing activities
Attitudes/rationalizations that may suggest misappropriation of assets include ______.
-changes in behavior of lifestyle -failure to correct known internal control deficiencies -disregard for the need to reduce misappropriation risk
Risk factors relating to opportunities to report fraudulently include ______.
-financial numbers based on subjective judgments or uncertainties -significant related party transactions -complex or unstable organizational structure
Understanding and assessing the effectiveness of an entity's internal control assists the auditor in ______.
-identifying types of potential misstatements -recognizing factors that affect the risks of material misstatements -designing appropriate audit procedures
Misstatements due to error or fraud include ______.
-inaccurate data gathering -omission of a disclosure -selection or application of accounting policies the auditor considers inappropriate
In order to respond to pervasive risks, auditors may ______.
-incorporate an element of unpredictability in the audit procedures -evaluate whether the selection and application of accounting policies by the entity may create a material misstatement -assign more experienced or specialized personnel to assess the risk of material misstatement due to fraud
Risk factors relating to attitudes/rationalizations to report fraudulently include ______.
-ineffective communication and enforcement of ethical values -excessive management interest in increasing entity stock prices -claims against board members alleging fraud
The auditor should ______.
-inquire about management's knowledge of fraud within the entity -make inquiries of the internal audit function to assess their risk of fraud. -make direct inquiries of the audit committee when assessing risk of fraud
One of your clients recently upgraded its accounting system from a medium-scale general ledger package to a complex state-of-the-art enterprise resource planning system. This installation took place over the last nine months of the entity's fiscal year and is nearly 100% complete by the balance sheet date. Which of the following best describes the main affect of this event on the audit risk model for the current year?
It will likely increase the risk of material misstatement.
The risk of material misstatement is also referred to as_____ risk because it stems from decision made by the entity.
client
The risk that an auditor's procedures will lead to a conclusion that a material misstatement in an account balance does not exist when, in fact, a misstatement does exist, is known as:
detection risk
An intentional act involving the use of deception that results in an misstatement in the financial statements is referred to as _____.
fraud
Incentive, opportunity, and rationalization are three conditions that are sometimes referred to as the ____ ____ triangle.
fraud risk
An active and qualified board of directors, proper authorization of transactions and procedures to ensure assets exist are all examples that may be part of an entity's _____ _____.
internal controls
Audit evidence is subject to human error which is referred to as _____ risk.
nonsampling
If the uncorrected total misstatements identified during the audit process do not cause the financial statements to be materially misstated, auditors should issue a(n) ______ opinion.
unqualified
