Chapter 5 - Audit Evidence and Documentation

i. In what section of the audit working papers would a long-term lease agreement be filed?

2. Permanent working paper file.

g. prepare a flowchart of internal control over sales

9. Risk assessment procedures.

g. Which of the following is not a primary approach to auditing an accounting estimate?

3. confirm the amounts

e. Of the following, which is the least reliable type of audit evidence?

3. copies of sales invoices inspected by the auditors

j. confirm accounts receivable

10. Tests of details of account balances, transactions, or disclosures.

k. In using the work of a specialist, the auditors referred to the specialist's findings in their report. This would be an appropriate reporting practice if the:

2. auditors, as a result of the specialists findings, give a qualified opinion on the financial statements

e. In developing an expectation for analytical procedures, the auditors are least likely to consider:

3. Anticipated costs of audit completion

c. What type of analytical procedure would an auditor most likely use in developing relationships among balance sheet accounts?

3. Ratio analysis.

i. determine whether disbursements are properly approved

8. Tests of controls.

f. Absent any other changes, an increase in the risk of material misstatement results in an increase in audit risk.

Correct

d. Detection risk does not exist when no audit is performed.

Correct. Detection risk is a function of the audit and its procedures. If there is no audit there is no measure of detection risk

c. Inherent risk is the possibility of material misstatement before considering the client's internal control.

Incorrect. A decrease in control risk, absent other changes, results in a decrease in the risk of material misstatement

b. cutoff

4. Transactions are recorded in the correct accounting period.

b. Physical evidence.

Reliance upon physical evidence may increase when internal control is weak. For example, if internal control over inventory is weak, the auditors may place more weight upon a complete physical inventory taken at the balance sheet date

a. Performing analytical procedures may help an auditor to:

1. Achieve audit objectives related to a particular assertion.

j. Which of the following is not a function of audit working papers?

1. Assist management in illustrating that the financial statements are in accordance with generally accepted accounting principles.

d. Which of the following statements best describes why auditors investigate related party transactions?

2. The substance of related party transactions may differ from their form.

f. Analytical procedures are most likely to detect:

2. unusual transactions

a. completeness

3. All assets have been recorded.

b. Analytical procedures performed near the end of the audit to assist the auditor in forming an overall conclusion on the financial statements are aimed primarily at:

3. Considering unusual or unexpected account balances that were not previously identified.

a. Which of the following is not a financial statement assertion made by management?

4. effectiveness of internal control

f. valuation

5. Assets are recorded at proper amounts.

b. Inherent risk is the possibility of material misstatement before considering the client's internal control.

Correct

g. Audit risk refers to the possibility that the auditors may unknowingly fail to appropriately modify their opinion on financial statements that are materially or immaterially misstated.

Incorrect. The error is the "or immaterially." Audit risk deals with material misstatements

d. The cost of analytical procedures in terms of time needed to perform, when compared to other tests, is ordinarily considered:

1. Low.

c. existence and occurrence

1. There is such an asset.

e. rights and obligations

2. The company legally owns the assets.

l. A difference of opinion concerning accounting and auditing matters relative to a particular phase of the audit arises between an assistant auditor and the auditor responsible for the engagement. After appropriate consultation, the assistant auditor asks to be disassociated from the resolution of the matter. The working papers would probably:

4. Document the assistant auditor's position and how the difference of opinion was resolved.

f. Letter received by auditors directly from customer acknowledging the correctness of the amount shown as receivable on client's accounting records.

A letter received by the auditors directly from the customer acknowledging the correctness of the amount shown as a receivable on the client's accounting records is excellent evidence. As a further precaution, when the receivable in question is large in relation to the other assets of the client, the auditors may wish to verify the existence and the credit rating of the customer by reference to trade journals and directories and by inquiry of a credit rating agency

d. Shipping documents describing the articles sold.

A shipping document describing the articles sold would be of considerable significance if prepared in the shipping department by persons having nothing to do with accounting records and if the document were serially numbered and properly controlled. This document is still, however, subject to the limitations of all documentary evidence prepared within the client company and circulating only within that company.

b. Copies of sales invoices in amount of the receivable.

Copies of the sales invoices in the amount of the receivable would be dependable only if the internal control was strong, so that the person maintaining the accounts receivable records had no opportunity to obtain or falsify invoices, and the invoices were carefully controlled by serial numbers. Even under these favorable circumstances, not much weight could be attached to copies of sales invoices considered by themselves

a. Computer printout from accounts receivable subsidiary ledger.

Examination of the computer printout for this large account would be merely a preliminary step in the gathering of evidence by the auditors. The reliability of this printout would depend a great deal upon the adequacy of internal controls; specifically, upon such points as whether the person maintaining this subsidiary ledger for accounts receivable had access to cash receipts, whether he or she was also responsible for maintaining the general ledger, and whether he or she played a part in the preparation of monthly statements sent to customers

a. Documents created and used only within the organization.

Limited reliance can be placed on documentary evidence created within the organization and not reviewed by outsiders. Weak internal control often results in documents being prepared by individuals whose duties give them an incentive to create false documentation. For example, an employee with access to cash receipts may also issue credit memoranda which are not subject to supervisory review. If a cash shortage arises for any reason, the employee may be tempted to "solve the problem" by issuing fraudulent credit memoranda. Failure to account for all documents by serial number is also a threat because this practice leaves the auditors with no assurance that a population of documents is complete. Finally, weak internal control provides a setting in which management could, if it chose to do so, use false supporting documents for the dual purpose of supporting misleading financial statements and deceiving the auditors.

d. Analytical procedures.

Reliance upon analytical procedures may be increased. The weakness in internal control could cause large errors in account balances. Consequently, the analytical procedures that call attention to any unusual relationship between amounts in the financial statements take on added importance.

c. Evidence provided by specialists.

Reliance upon evidence provided by specialists may be increased if internal controls over inventory are weak. In addition to emphasizing a complete physical count at the balance sheet date, the auditors may want the assurance of independent experts (specialists) as to the quality and condition of the wine inventory.

c. As part of their audit, auditors obtain a representation letter from their client. Which of the following is not a valid purpose of such a letter?

1. To increase the efficiency of the audit by eliminating the need for other audit procedures

h. A primary purpose of the audit working papers is to:

4. Support the auditors' opinion.

b. Which of the following business characteristics is not indicative of high inherent risk?

4. a large amount of assets

h. Both inherent risk and control risk exist independently of the audit of financial statements.

correct

k. Compare current financial information with comparable prior periods

7. Analytical procedures.

d. presentation and disclosure

6. Assets are properly classified.

h. calculate the ratio of bad debt expense to credit sales

7. Analytical procedures.

e. Letter received by client from customer acknowledging the correctness of the receivable in the amount shown on client's accounting records.

A letter received by the client from the customer acknowledging the receivable is not of much value when it has passed through the client's hands prior to its inspection by the auditors. It is of the same general order of reliability as the purchase order from the customer.

c. Purchase orders received from customer.

A purchase order received from a customer constitutes somewhat stronger documentary evidence than invoices created within the client organization, but could nevertheless be fraudulently created without too much difficulty. The purchase order would be of more significance if the auditors knew the customer company and the nature of its operations.

a. The risk of material misstatement is composed of the three components of audit risk.

Incorrect. The risk of material misstatements is composed of inherent risk and detection risk.

e. Rather than restrict detection risk through the performance of more substantive procedures, auditors assess it.

Incorrect. This is backwards. Auditors restrict detection risk through the performance of more substantive procedures. Auditors assess inherent risk and control risk

e. Accounting records.

Reliance upon accounting records as evidence tends to be reduced when internal controls are weak. The reliability of journals and ledgers is determined by the strength of internal controls in their preparation. For example, if the same person who maintains the general ledger maintains subsidiary ledgers, little assurance of accuracy is provided by agreement between these records. Similarly, if there are no control measures to insure that all retirements of plant and equipment are recorded, the equipment shown in the records may in fact no longer be used in operations.