Auditing - C240 - CPA Prep Questions

As a lower acceptable level of materiality is established, the auditor should plan more work on individual accounts to a. Find smaller misstatements. b. Find larger misstatements. c. Increase the tolerable misstatement in the accounts. d. Decrease the risk of assessing control risk too low.

Option "a" is correct because a decrease in acceptable levels of materiality requires the auditor to do one or more of the following: (1) select a more effective auditing procedure, (2) perform auditing procedures closer to the balance sheet date, or (3) increase the extent of a particular auditing procedure. By increasing the extent of a procedure concerning an individual account and/or selecting a more effective procedure, the auditor will find the smaller misstatements that in aggregate might exceed his preliminary judgments about materiality. The auditor, therefore, must plan to find smaller misstatements as a lower acceptable level of materiality is established.

"In connection with an audit of our financial statements, management has prepared, and furnished to our auditors a description and evaluation of certain contingencies." The forgoing passage most likely is from a(n) a. Audit inquiry letter to legal counsel. b. Management representation letter. c. Audit committee's communication to the auditor. d. Financial statement footnote disclosure.

Option "a" is correct because an audit inquiry letter to the legal counsel includes such a sentence.

Which of the following analytical procedures most likely would be used during the risk assessment stage of an audit? a. Comparing current year to prior year sales volumes. b. Reading the financial statements and notes and considering the adequacy of evidence. c. Comparing the current year ratio of aggregate salaries paid to the number of employees to the prior year's ratio. d. Reading the letter from the client's attorney and considering the threat of litigation.

Option "a" is correct because comparing current year to prior-year sales volumes is an analytical procedure and because analytical procedures in risk assessment often use such aggregated data.

In considering materiality for planning purposes, an auditor believes that misstatements aggregating $10,000 would have a material effect on an entity's income statement, but that misstatements would have to aggregate $20,000 to materially affect the balance sheet. Ordinarily, it would be appropriate to design auditing procedures that would be expected to detect misstatements that aggregate a. $10,000 b. $15,000 c. $20,000 d. $30,000

Option "a" is correct because it will ordinarily be difficult to anticipate during the planning stage of an audit whether all misstatements will affect only one financial statement. The auditor therefore generally is required to use the lower financial statement figure for most portions of planning.

Which of the following statements is true with respect to the PCAOB and SEC's concept of independence when an auditor both prepares financial statements and audits those financial statements for a client? a. The auditor is not independent. b. The auditor is independent if he or she is able to maintain a level of professional detachment. c. The auditor can audit the financial statements only if the audit process does not culminate in the expression of an opinion on the financial statements. d. The auditor cannot audit the financial statements since a lack of integrity exists.

Option "a" is correct because the CPA who prepares the financial statements is not considered independent by the SEC or PCAOB.

Which of the following types of services is most directly designed to improve the quality of information, or its context, for decision makers? a. Assurance services b. Attestation services c. Audit services d. Consulting services

Option "a" is correct because the Special Committee on Assurance Services (the Elliott Committee), defined assurance services as independent professional services that improve quality of information, or its context, for decision makers. According to standards outlining attest services, the "subject matter" of the service can include many items, including the following (see AT Section 101.07): Historical or prospective performance or condition (for example, historical or prospective financial information, performance measurements, and backlog data) Physical characteristics (for example, narrative descriptions, square footage of facilities) Historical events (for example, the price of a market basket of goods on a certain date) Analyses (for example, break-even analyses) Systems and processes (for example, internal control) Behavior (for example, corporate governance, compliance with laws and regulations, and human resource practices)

A CPA who is not in public practice is obligated to follow which of the following rules of conduct? a. Independence. b. Integrity and objectivity. c. Contingent fees. d. Commissions.

Option "b" is correct because all members must adhere to Rule 102, Integrity and Objectivity.

Detection risk differs from both control risk and inherent risk in that detection risk a. Exists independently of the financial statement audit. b. Can be changed at the auditor's discretion. c. Arises from risk factors relating to fraud. d. Should be assessed in nonquantitative terms.

Option "b" is correct because auditors determine an appropriate level of detection risk based on their assessment of the risk of material misstatement—composed of inherent risk and control risk.

A CPA has received an attorney's letter in which no significant disagreements with the client's assessments of contingent liabilities were noted. The resignation of the client's lawyer shortly after receipt of the letter should alert the auditor that a. Undisclosed unasserted claims may have arisen. b. The attorney was unable to form a conclusion with respect to the significance of litigation, claims, and assessments. c. The auditor must begin a completely new examination of contingent liabilities. d. An adverse opinion will be necessary.

Option "a" is correct because the auditor is concerned with obtaining from the client's lawyer corroborating evidence concerning information furnished by management regarding litigation, claims, and assessments. The resignation of the client's lawyer may indicate the development of a conflict between the client and the lawyer regarding undisclosed unasserted claims. Accordingly, the auditor should inquire as to the nature of the lawyer's resignation.

Under the requirements of the PCAOB, audit documentation should be retained a. For at least seven years. b. Through the documentation completion date. c. Through the report issuance date. d. Through the stated requirements in the audit report.

Option "a" is correct because the auditor must retain the documentation for the longer of seven years or of any legal requirements.

Audit documentation of the audit of a nonpublic company should be retained a. The longer of five years, or the legal requirements. b. As long as it is relevant to the current year audit. c. Until the client selects another auditor. d. For as long as the CPA is involved in public accounting.

Option "a" is correct because the professional standards require auditors to retain working papers the longer of five years, or the legal requirements.

Which of the following statements is generally correct about the reliability of audit evidence? a. The more effective the internal control, the more assurance it provides about the reliability of the accounting data and financial statements. b. Appropriate audit evidence refers to the amount of evidence obtained. c. Information obtained indirectly from independent outside sources is more persuasive than the auditor's direct personal knowledge obtained through observation and inspection. d. Appropriate audit evidence relates only to the audit evidence obtained from outside the entity.

Option "a" is correct because the professional standards state that the more effective an internal control, the more assurance it provides about the reliability of the accounting data and financial statements.

International Auditing and Assurance Standards Board pronouncements govern: a. Audits AND Other assurance engagements b. Audits BUT NOT Other assurance engagements c. Other assurance engagements BUT NOT Audits d. NEITHER Audits NOR Other assurance engagements

Option "a" is correct because the standards apply both to audits and other assurance engagements.

Which of the following is an element of sampling risk? a. Choosing an audit procedure that is inconsistent with the audit objective. b. Choosing a sample size that is too small to achieve the sampling objective. c. Failing to detect an error on a document that has been inspected by the auditor. d. Failing to perform audit procedures that are required by the sampling plan.

Option "a" is correct because the tolerable rate of deviation is an input into determination of sample size (the others include expected deviation rate, the risk of assessing control risk too low, and population size [which has only a very limited effect on sample size]).

Which of the following statements is correct about the sample size in statistical sampling when testing internal controls? a. The auditor should consider the tolerable rate of deviation from the controls being tested in determining sample size. b. As the likely rate of deviation decreases, the auditor should increase the planned sample size. c. The allowable risk of assessing control risk too low has no effect on the planned sample size. d. Of all the factors to be considered, the population size has the greatest effect on the sample size.

Option "a" is correct because the tolerable rate of deviation is an input into determination of sample size (the others include expected deviation rate, the risk of assessing control risk too low, and population size [which has only a very limited effect on sample size]).

An auditor's analytical procedures indicate a lower than expected return on an equity method investment. This situation most likely could have been caused by a. An error in recording amortization of the excess of the investor's cost over the investment's underlying book value. b. The investee's decision to reduce cash dividends declared per share of its common stock. c. An error in recording the unrealized gain from an increase in the fair value of available-for-sale securities in the income account for trading securities. d. A substantial fluctuation in the price of the investee's common stock on a national stock exchange.

Option "a" is correct, because if the amortization is higher than proper, the return to the investment account will be lower than expected.

Quality control policies and procedures that are established to decide whether to accept a new client should provide the CPA firm with reasonable assurance that a. The CPA firm's duty to the public concerning the acceptance of new clients is satisfied. b. The likelihood of associating with clients whose management lacks integrity is minimized. c. Client-prepared schedules that are necessary for the engagement are completed on a timely basis. d. Sufficient corroborating evidence to support the financial statement assertions is available.

Option "b" is correct because CPAs wish to minimize the likelihood of becoming associated with clients whose management lacks integrity.

Which of the following professional services would be considered an attest engagement? a. A management consulting engagement to provide computerized advice to a client. b. An engagement to report on compliance with statutory requirements. c. An income tax engagement to prepare federal and state tax returns. d. An engagement to prepare the tax returns of the company's CEO.

Option "b" is correct because a report on compliance with statutory requirements might be structured as an attest engagement in which the required "written assertion" relates to such compliance. According to standards outlining attest services, the "subject matter" of the service can include many items, including the following (see AT Section 101.07): Historical or prospective performance or condition (for example, historical or prospective financial information, performance measurements, and backlog data) Physical characteristics (for example, narrative descriptions, square footage of facilities) Historical events (for example, the price of a market basket of goods on a certain date) Analyses (for example, break-even analyses) Systems and processes (for example, internal control) Behavior (for example, corporate governance, compliance with laws and regulations, and human resource practices)

In attribute sampling, a 25% change in which of the following factors will have the smallest effect on the size of the sample? a. Tolerable rate of deviation. b. Number of items in the population. c. Degree of assurance desired. d. Planned assessed level of control risk.

Option "b" is correct because changes in population size have a very small effect on the size of an attributes sample.

Which of the following conditions or events most likely would cause an auditor to have substantial doubt about an entity's ability to continue as a going concern? a. Significant related-party transactions are pervasive. b. Usual trade credit from suppliers is denied. c. Arrearages in preferred stock dividends are paid. d. Restrictions on the disposal of principal assets are present.

Option "b" is correct because conditions and events likely to indicate substantial doubt include negative trends (e.g., recurring operating losses), other indications of possible financial difficulties (e.g., denial of credit, as in this answer), internal matters (e.g., work stoppages), and external matters (e.g., legal proceedings).

Which of the following might be detected by an auditor's cutoff review and examination of sales journal entries for several days prior to and subsequent to the balance sheet date? a. Lapping year-end accounts receivable. b. Inflating sales for the year. c. Kiting bank balances. d. Misappropriating merchandise.

Option "b" is correct because holding the sales journal open (i.e., recording sales of the next period in this period) inflates sales in the current period and this should be detected by the auditor's cutoff work.

When applying analytical procedures during an audit, which of the following is the best approach for developing and evaluating expectations? a. Considering unaudited account balances and ratios to calculate what adjusted balances should be. b. Identifying reasonable explanations for unexpected differences before talking to client management. c. Considering the pattern of several unusual changes without trying to explain what caused them. d. Comparing client data with client-determined expected results to reduce detailed test of account balances.

Option "b" is correct because identifying reasonable explanations for unexpected differences before talking to client management will help the auditor to consider why the differences might have occurred and the reasonableness of management's replies.

Within the context of quality control, a primary purpose of the engagement performance element is to help ensure that a. CPA firm personnel have adequate technical training. b. Engagements are adequately supervised. c. The CPA firm undertakes only those engagements it is competent to perform. d. CPA firm personnel comply with relevant ethical requirements.

Option "b" is correct because it is an objective of the engagement performance element of quality control.

A client erroneously recorded a large purchase twice. Which of the following controls would be most likely to detect this error in a timely and efficient manner? a. Footing the purchases journal. b. Reconciling vendors' monthly statements with subsidiary payable ledger accounts. c. Tracing totals from the purchases journal to the ledger accounts. d. Sending written quarterly confirmations to all vendors.

Option "b" is correct because reconciling the vendors' monthly statements with the subsidiary ledger for payables should disclose a difference in the month following the error.

The size of a sample designed for dual-purpose testing should be a. The larger of the samples that would otherwise have been designed for the two separate purposes. b. The smaller of the samples that would otherwise have been designed for the two separate purposes. c. The combined total of the samples that would otherwise have been designed for the two separate purposes. d. More than the larger of the samples that would otherwise have been designated for the two separate purposes, but less than the combined total of the samples that would otherwise have been designed for the two separate purposes.

Option "b" is correct because sampling risk includes the possibility that the sample size selected may be too small to achieve the sampling objective (e.g., sample items selected disclose no errors).

A person identified as an audit committee financial expert of an issuer generally must have acquired the attributes of a financial expert through any of the following experiences, except a. As a principal financial officer, principal accounting officer, controller, public accountant, or auditor. b. Serving on at least one other issuer's audit committee or disclosure committee of the board of directors. c. Actively supervising a principal financial officer or principal accounting officer. d. Assessing the performance of public accountants with respect to preparation, auditing, or evaluation of financial statements.

Option "b" is correct because service on at least one other issuer's audit committee or disclosure committee would not be an experience that would necessarily qualify the individual as a financial expert.

There are many kinds of statistical estimates that an auditor may find useful, but basically every accounting estimate is either of a quantity or of an error rate. The statistical terms that roughly correspond to "quantities" and "error rate," respectively, are a. Attributes and variables. b. Variables and attributes. c. Constants and attributes. d. Constants and variables.

Option "b" is correct because statistical sampling accounting applications are either based on variables sampling or attribute sampling. Variables sampling is measurement of a continuous variable (i.e., a variable such as number of items in inventory or amount of accounts receivable). The variable being estimated can take on a continuum of values (e.g., zero to infinity). Variable sampling is based upon the normal distribution. Attribute sampling is based on the binomial distribution and sample items must be binary in nature (i.e., right or wrong, correct or incorrect, etc.) Attribute sampling is most applicable to tests of compliance and variables sampling is most applicable to substantive tests.

The series of international standards on auditing financial statements issued by the International Auditing and Assurance Standards Board are referred to as: a. Statements on Auditing Standards. b. International Standards on Auditing. c. International Standards on Attestation. d. International Assurance Standards.

Option "b" is correct because such standards are referred to as International Standards on Auditing (ISAs).

A CPA firm must do which of the following before it can participate in the preparation of an audit report of a company registered with the Securities and Exchange Commission (SEC)? a. Join the SEC Practice Section of the AICPA. b. Register with the Public Company Accounting Oversight Board. c. Register with the Financial Accounting Standards Board (FASB). d. Register with the SEC pursuant to the Securities Exchange Act of 1934.

Option "b" is correct because the Sarbanes-Oxley Act requires CPA firms that audit companies that are registered with the Securities and Exchange Commission be registered with the Public Company Accounting Oversight Board.

An auditor believes there is substantial doubt about an entity's ability to continue as a going concern for a reasonable period of time. In evaluating the entity's plans for dealing with the adverse effects of future conditions and events, the auditor most likely would consider, as a mitigating factor, the entity's plans to a. Purchase production facilities currently being leased from a third party. b. Postpone expenditures to upgrade its information technology system. c. Pay cash dividends that are in arrears to the preferred stockholders. d. Increase the useful lives of plant assets for depreciation purposes.

Option "b" is correct because the ability to postpone an expenditure may ease a situation in which cash is severely limited.

Which of the following activities would most likely be considered an attestation engagement? a. Consulting with management representatives of a firm to provide advice. b. Issuing a report about a firm's compliance with laws and regulations. c. Advocating a client's position on tax matters that are being reviewed by the IRS. d. Preparing a client's tax returns

Option "b" is correct because the attest standards provide for issuance of a report about a firm's compliance with laws and regulations. According to standards outlining attest services, the "subject matter" of the service can include many items, including the following (see AT Section 101.07): Historical or prospective performance or condition (for example, historical or prospective financial information, performance measurements, and backlog data) Physical characteristics (for example, narrative descriptions, square footage of facilities) Historical events (for example, the price of a market basket of goods on a certain date) Analyses (for example, break-even analyses) Systems and processes (for example, internal control) Behavior (for example, corporate governance, compliance with laws and regulations, and human resource practices)

When auditing related-party transactions, an auditor places primary emphasis on a. Confirming the existence of the related parties. b. Evaluating the disclosure of the related-party transactions. c. Verifying the valuation of the related-party transactions. d. Ascertaining the rights and obligations of the related parties.

Option "b" is correct because the auditor should view related-party transactions within the framework of existing pronouncements, placing primary emphasis on the adequacy of disclosure.

An auditor considers existing internal control in order to a. Determine the extent of analytical procedures which must be performed. b. Determine the further audit procedures which must be performed. c. Ascertain whether management has committed fraud. d. Ascertain whether any employees have incompatible functions.

Option "b" is correct because the auditor's understanding of internal control allows him/her to determine the nature, timing, and extent of further audit procedures.

Auditors may use positive and/or negative forms of confirmation requests for accounts receivable. An auditor most likely will use a. The positive form to confirm all balances regardless of size. b. A combination of the two forms, with the positive form used for large balances and the negative form for the small balances. c. A combination of the two forms, with the positive form used for trade receivables and the negative form for other receivables. d. The positive form when controls related to receivables are satisfactory, and the negative form when controls related to receivables are unsatisfactory.

Option "b" is correct because the professional standards suggest the use of the positive form for large balances and the negative form for small balances.

Which of the following statements is most accurate regarding sufficient and appropriate documentation? a. Accounting estimates are not considered sufficient and appropriate documentation. b. Sufficient and appropriate documentation should include evidence that the audit working papers have been reviewed. c. If additional evidence is required to document significant findings or issues, the original evidence is not considered sufficient and appropriate and therefore should be deleted from the working papers. d. Audit documentation is the property of the client, and sufficient and appropriate copies should be retained by the auditor for at least five years.

Option "b" is correct because the review of audit working papers (and its documentation) are required.

An auditor discovers that an account balance believed not to be materially misstated based on an audit sample was materially misstated based on the total population of the account balance. This is an example of which of the following sampling types of risks? a. Incorrect rejection. b. Incorrect acceptance. c. Assessing control risk too low. d. Assessing control risk too high.

Option "b" is correct because the risk of incorrect acceptance is the risk of accepting a population as being materially correct when in fact it is materially misstated.

Which of the following circumstances most likely would cause an auditor to suspect that there are material misstatements in an entity's financial statements? a. Senior financial management participates in the selection of accounting principles and the determination of significant estimates. b. Supporting accounting records and files that should be readily available are not produced promptly when requested. c. Related-party transactions take place in the ordinary course of business with an entity that is audited by another CPA firm. d. Senior management has an excessive interest in upgrading the entity's information technology capabilities.

Option "b" is correct because unavailability of records when requested might indicate fraudulent entries lacking proper support.

An auditor examining inventory most likely would use variables sampling rather than attributes sampling to a. Identify whether inventory items are properly priced. b. Estimate whether the dollar amount of inventory is reasonable. c. Discover whether misstatements exist in inventory records. d. Determine whether discounts for inventory are properly recorded.

Option "b" is correct because variables sampling deals with dollar amounts (or quantities), and accordingly, this answer is correct because it involves the dollar amount of inventory. Attributes sampling addresses deviation rates from various controls. Each of the other options is an example of a test where attributes sampling would be appropriate.

Management's emphasis on meeting projected profit goals most likely would significantly influence an entity's control environment when a. Internal auditors have direct access to the entity's board of directors. b. A significant portion of management compensation is represented by stock options. c. External policies established by parties outside the entity affect accounting policies. d. The audit committee is active in overseeing the entity's financial reporting policies.

Option "b" is correct because when a significant portion of management's compensation is represented by stock options, risk may be involved in that management is under great pressure to report earnings that meet projected profit goals; this will ordinarily increase management compensation significantly and, under some circumstances, create a pressure to report overstated earnings to meet those projections.

Which of the following is most accurate relating to the International Auditing and Assurance Standards Board (IAASB) and the International Federation of Accountants (IFAC)? a. The two are entirely independent of one another. b. IFAC is a subcommittee of IAASB. c. IAASB is a Board within IFAC. d. IFAC and IAASB are the international sections of the Public Company Accounting Oversight Board.

Option "c" is correct because IAASB is a Board within the broader organization, IFAC:

International Standards on Auditing are issued by a. The American Institute of Certified Public Accountants. b. The International Organization of Securities Commissions. c. The International Federation of Accountants. d. The International Auditing Society.

Option "c" is correct because International Auditing Standards are issued by the International Auditing and Assurance Standards Board of the International Federation of Accountants.

When making a review of interim financial information the auditor's work consists primarily of a. Studying and evaluating limited amounts of documentation supporting the interim financial information. b. Scanning and reviewing client-prepared, internal financial statements. c. Making inquiries and performing analytical procedures concerning significant accounting matters. d. Confirming and verifying significant account balances at the interim date.

Option "c" is correct because a review of interim financial information consists primarily of inquiries and analytical procedures concerning significant accounting matters relating to the financial data being reported.

Analytical procedures performed during an audit indicate that accounts receivable doubled since the end of the prior year. However, the allowance for doubtful accounts as a percentage of accounts receivable remained about the same. Which of the following client explanations would satisfy the auditor? a. A greater percentage of accounts receivable are listed in the "more than 120 days overdue" category than in the prior year. b. Internal control activities over the recording of cash receipts have been improved since the end of the prior year. c. The client opened a second retail outlet during the current year and its credit sales approximately equaled the older outlet. d. The client tightened its credit policy during the current year and sold considerably less merchandise to customers with poor credit ratings.

Option "c" is correct because a second retail outlet of equivalent size might be expected to result in such increased sales; also, if the customer base is similar, one would expect the percentage of accounts ultimately becoming uncollectible to remain approximately the same. Option "d" is incorrect because a tightening of credit policy is likely to result in a lower percentage of doubtful accounts.

As one of the year-end audit procedures, the auditor instructed the client's personnel to prepare a standard bank confirmation request for a bank account that had been closed during the year. After the client's treasurer had signed the request, it was mailed by the assistant treasurer. What is the major flaw in this audit procedure? a. The confirmation request was signed by the treasurer. b. Sending the request was meaningless because the account was closed before the year-end. c. The request was mailed by the assistant treasurer. d. The CPA did not sign the confirmation request before it was mailed.

Option "c" is correct because allowing the client to mail the confirmation directly violated the requirement that the confirmations remain under the auditor's control. The auditor is unable to ascertain whether the confirmation reached the proper party.

An auditor would be least likely to use confirmations in connection with the examination of a. Inventories. b. Long-term debt. c. Property, plant, and equipment. d. Stockholders' equity.

Option "c" is correct because an effective confirmation should be sent to parties who are likely to be able to respond meaningfully. In the case of property, plant, and equipment, those who supplied the item(s) may not have adequate records on historic sales and, therefore, will not be able to respond to the confirmation meaningfully.

Of the following, which is the least persuasive type of audit evidence? a. Documents mailed by outsiders to the auditor. b. Correspondence between auditor and vendors. c. Copies of sales invoices inspected by the auditor. d. Computations made by the auditor.

Option "c" is correct because copies of sales invoices represent internally generated evidence, which is considered less reliable than externally generated evidence received directly by the auditor.

According to the AICPA Code of Professional Conduct, in which of the following circumstances may a CPA serve on a company's board of directors? a. The CPA audits a bank to which the company has applied for financing, and board approval is required for said financing to occur. b. The CPA is asked by the company to test the internal controls of the company and offers compensation to the CPA for said services. c. The CPA does not audit the company and has no other business connection with the company. d. The CPA performs attestation services for a nonpublic company.

Option "c" is correct because if the CPA does not provide audit or attestation services for the client, there is no requirement for independence.

Which of the following is required documentation in an audit in accordance with generally accepted auditing standards? a. A signed engagement letter formalizing the level of service to be rendered. b. A flowchart depicting the segregation of duties and authorization of transactions. c. A written audit program describing the necessary procedures to be performed. d. A memorandum setting forth the scope of the audit.

Option "c" is correct because in planning the audit the auditor should consider the nature, extent, and timing of work to be performed and should prepare a written audit program.

An auditor would be most likely to identify a contingent liability by obtaining a(n) a. Accounts payable confirmation. b. Transfer agent confirmation. c. Lawyer's letter. d. Related-party transaction confirmation.

Option "c" is correct because lawyers often address contingent liabilities relating to their clients.

A CPA establishes quality control policies and procedures for deciding whether to accept a new client or continue to perform services for a current client. The primary purpose for establishing such policies and procedures is a. To enable the auditor to attest to the integrity or reliability of a client. b. To comply with the quality control standards established by regulatory bodies. c. To minimize the likelihood of association with clients whose management lacks integrity. d. To lessen the exposure to litigation resulting from failure to detect fraud in client financial statements.

Option "c" is correct because policies and procedures should be established for deciding whether to accept or continue a client in order to minimize the likelihood of association with clients whose management lacks integrity.

In auditing contingent liabilities, which of the following procedures would an auditor most likely perform? a. Confirm the details of outstanding purchase orders. b. Apply analytical procedures to accounts payable. c. Read the minutes of the board of directors' meetings. d. Perform tests of controls on the cash disbursement activities.

Option "c" is correct because reading the minutes of board of directors' meetings may reveal contingent liabilities such as litigation facing the firm, or other possible losses.

The blank form of accounts receivable confirmations may be less efficient than the positive form because a. Shipping documents need to be inspected. b. Recipients may sign the forms without proper investigation. c. More nonresponses to the requests are likely to occur. d. Subsequent cash receipts need to be verified.

Option "c" is correct because requiring respondents to supply such information may decrease the number of responses obtained and result in the need for additional audit procedures.

Which of the following is ordinarily considered a test of a control? a. Send confirmation letters to banks. b. Count and list cash on hand. c. Examine signatures on checks. d. Test the clerical accuracy of inventory listings as of the balance sheet date.

Option "c" is correct because tests of controls are directed toward the effectiveness of the design or operation of controls. In this case the control procedure is to determine that only authorized persons sign checks.

Which of the following AICPA standards did the PCAOB not adopt as a part of its interim standards? a. Auditing Standards Board Standards. b. Attestation Standards. c. Accounting and Review Services Standards. d. Quality Control Standards.

Option "c" is correct because the PCAOB did not adopt the AICPA's Accounting and Review Services Standards because they only apply to nonpublic companies ("non-issuers").

Analytical procedures are most appropriate when testing which of the following types of transactions? a. Payroll and benefit liabilities. b. Acquisitions and disposals of fixed assets. c. Operating expense transactions. d. Long-term debt transactions.

Option "c" is correct because the professional standards indicate that analytical procedures are most effective when they are applied to plausible and predictable relationships, often involving income statement accounts.

The profession's ethical standards would most likely be considered to have been violated when a CPA a. Continued an audit engagement after the commencement of litigation against the CPA alleging excessive fees filed in a stockholder's derivative action. b. Represented to a potential client that the CPA's fees were substantially lower than the fees charged by other CPAs for comparable services. c. Issued a report on a financial forecast that omitted a caution regarding achievability. d. Accepted a consulting engagement concerning data processing services for which the CPA lacked independence.

Option "c" is correct because the professional standards on forecasts require the inclusion of a caution statement as to achievability. Omission of such a caution statement would be a violation of the Code of Professional Conduct which requires that CPAs comply with the appropriate professional standards (Ethics Rule 202).

Audit documentation should be prepared so as to enable an individual to understand the procedures performed, audit evidence obtained, and conclusions reached. The individual is a. A reasonable prudent investor. b. All auditors on the engagement team. c. An experienced auditor with no previous connection to the audit. d. The partner on the engagement team.

Option "c" is correct because the professional standards require that audit documentation be understandable to an experienced auditor with no previous connection to the audit.

An auditor most likely would apply analytical procedures near the completion of the audit to a. Enhance the auditor's understanding of subsequent events. b. Identify auditing procedures omitted by the staff accountants. c. Determine whether additional audit evidence may be needed. d. Evaluate the effectiveness of the internal control activities.

Option "c" is correct because these analytical procedures will help the auditor in assessing the conclusions reached and in the evaluation of the overall financial statement presentation; accordingly, results of the overall review may indicate that additional evidence may be needed.

When an auditor decides to confirm accounts receivable balances rather than individual invoices, it most likely would be beneficial to include with the confirmations a. Copies of the client's shipping documents that support the account balances. b. Lists of the customers' recent payments that the client has already recorded. c. Client-prepared statements of account that show the details of the account balances. d. Copies of the customers' purchase orders that support the account balances.

Option "c" is correct because when client-prepared statements of account show details of account balances, it is likely that customers will be able to reply regardless of whether they maintain their payable records by invoice or month-end balance.

Which of the following statements is correct regarding the auditor's consideration of the possibility of illegal acts by clients? a. The auditor has a responsibility to plan and perform the audit to obtain reasonable assurance that no illegal acts have been committed by clients. b. The auditor's training, experience, and understanding of the client should be used to provide a basis for the determination as to whether illegal acts have occurred. c. If specific information concerning an illegal act comes to the auditor's attention, the auditor should apply audit procedures specifically directed to ascertaining whether an illegal act has occurred. d. If an illegal act has occurred, the auditor should express a qualified opinion or an adverse opinion on the financial statements taken as a whole.

Option "c" is correct because when specific information concerning an illegal act comes to the auditor's attention, the auditor must follow up on it.

Which of the following statements is correct concerning probability-proportional-to-size (PPS) sampling, also known as dollar unit sampling? a. The sampling distribution should approximate the normal distribution. b. Overstated units have a lower probability of sample selection than units that are understated. c. The auditor controls the risk of incorrect acceptance by specifying that risk level for the sampling plan. d. The sampling interval is calculated by dividing the number of physical units in the population by the sample size.

Option "c" is correct because when using PPS sampling, the auditor controls the risk of incorrect acceptance by specifying a risk level when planning the sample.

Which of the following is not correct relating to the Sarbanes-Oxley Act? a. It toughens penalties for corporate fraud. b. It restricts the types of consulting CPAs may perform for audit clients. c. It created the Public Company Accounting Oversight Board (PCAOB) as a replacement for the Financial Accounting Standards Board. d. It eliminates a significant portion of the accounting profession's system of self-regulation.

Option "c" is correct because while the Sarbanes-Oxley Act did create the PCAOB, the PCAOB does not replace the Financial Accounting Standards Board.

In performing an attestation engagement, a CPA typically a. Supplies litigation support services. b. Assesses control risk at a low level. c. Expresses a conclusion about the assertion on the subject matter. d. Provides management consulting advice.

Option "c" is correct because, when performing an attest engagement, a CPA expresses a conclusion about the assertion on the subject matter. Auditors may be engaged to attest to a company's compliance with laws, regulations or contracts or forward-looking financial information such as pro-forma financial statements and so forth. Attest services are a form of consulting where a Certified Public Accountant (CPA) provides a written report providing assurance regarding a subject matter that is the responsibility of someone else According to standards outlining attest services, the "subject matter" of the service can include many items, including the following (see AT Section 101.07): Historical or prospective performance or condition (for example, historical or prospective financial information, performance measurements, and backlog data) Physical characteristics (for example, narrative descriptions, square footage of facilities) Historical events (for example, the price of a market basket of goods on a certain date) Analyses (for example, break-even analyses) Systems and processes (for example, internal control) Behavior (for example, corporate governance, compliance with laws and regulations, and human resource practices)

Which of the following are issued by the Securities and Exchange Commission? a. Journal of Accountancy. b. Accounting Trends and Techniques. c. Industry Audit Guides. d. Financial Reporting Releases.

Option "d" is correct because Financial Reporting Releases are issued by the Securities and Exchange Commission.

Which of the following analytical procedures should be applied to the income statement? a. Select sales and expense items and trace amounts to related supporting documents. b. Ascertain that the net income amount in the statement of cash flows agrees with the net income amount in the income statement. c. Obtain from the proper client representatives, the beginning and ending inventory amounts that were used to determine costs of sales. d. Compare the actual revenues and expenses with the corresponding figures of the previous year and investigate significant differences.

Option "d" is correct because analytical procedures are used to gather evidence relative to relationships among various accounting and nonaccounting data. The procedure of comparison of the financial information with information of prior periods is a suggested analytical procedure.

During the process of confirming receivables as of December 31, year 1, a positive confirmation was returned indicating the "balance owed as of December 31 was paid on January 9, year 2." The auditor would most likely a. Determine whether there were any changes in the account between January 1 and January 9, year 2. b. Determine whether a customary trade discount was taken by the customer. c. Reconfirm the zero balance as of January 10, year 2. d. Verify that the amount was received.

Option "d" is correct because auditors trace such information to the accounting records to ensure the amount is recorded and to assist in testing the valuation assertion.

Of the following statements about internal control, which one is not valid? a. No one person should be responsible for the custodial responsibility and the recording responsibility for an asset. b. Transactions must be properly authorized before such transactions are processed. c. Because of the cost/benefit relationship, a client may apply controls on a test basis. d. Controls reasonably ensure that collusion among employees cannot occur.

Option "d" is correct because controls whose effectiveness depends on segregation of duties cannot be relied upon to ensure that collusion among employees will not occur. Segregation of employees may be circumvented by collusion.

An auditor's engagement letter most likely would include a statement that a. Lists potential significant deficiencies discovered during the prior year's audit. b. Explains the analytical procedures that the auditor expects to apply. c. Describes the auditor's responsibility to evaluate going-concern issues. d. Limits the auditor's responsibility to detect errors and fraud.

Option "d" is correct because essential to an engagement letter is identifying the limits on an auditor's responsibility for detecting errors and fraud.

Auditor confirmation of accounts payable balances at the balance sheet date may be unnecessary because a. This is a duplication of cutoff tests. b. Accounts payable balances at the balance sheet date may not be paid before the audit is completed. c. Correspondence with the audit client's attorney will reveal all legal action by vendors for nonpayment. d. There is likely to be other reliable external evidence to support the balances.

Option "d" is correct because generally, external evidence is available to the auditor to support the accounts payable balance. If the auditor reviews all cash payments for a sufficient period after the balance sheet date for items pertaining to the period under audit and finds no such payments unrecorded at year-end, the auditor is reasonably assured that accounts payable are not materially understated.

An auditor will be least likely to use a negative accounts receivable confirmation form when a. Internal control surrounding accounts receivable is effective. b. A large number of small balances are involved. c. The number of requests mailed will be minimal. d. Customers are unlikely to confirm the information.

Option "d" is correct because if the auditor believes that customers are not likely to confirm the information, positive confirmations should be used.

In an accountant's review of interim financial information, the accountant typically performs each of the following, except a. Reading the available minutes of the latest stockholders' meeting. b. Applying financial ratios to the interim financial information. c. Inquiring of the accounting department's management. d. Obtaining corroborating external evidence.

Option "d" is correct because reviews consist largely of inquiries of management and analytical procedures and not corroborating external evidence. Reviews of financial statements are services in which the CPA performs an abbreviated set of procedures to provide "limited assurance that there are no material modifications that should be made to the financial statements in order for the statements to be in conformity with the applicable financial reporting framework" (AR Section 90). The most common basic procedures performed as part of a review include inquiring of management regarding material matters and performing high-level analysis of reported financial information. In a review engagement, the auditor provides limited assurance (described in greater detail in Topic 15) regarding the financial statements because the scope of the work performed does not generate sufficient appropriate evidence required to provide reasonable assurance regarding the fairness of the financial statements.

The organization charged with protecting investors and the public by requiring full disclosure of financial information by companies offering securities to the public is the: a. Auditing Standards Board. b. Financial Accounting Standards Board. c. Government Accounting Standards Board. d. Securities and Exchange Commission.

Option "d" is correct because the Securities and Exchange Commission is the organization charged with protecting investors and the public by requiring full disclosure of financial information by companies offering securities to the public in the United States.

When preparing a record of a client's internal control, the independent auditor sometimes uses a flowchart, which can best be described as a a. Pictorial presentation of the flow of instructions in a client's internal computer system. b. Diagram which clearly indicates an organization's internal reporting structure. c. Graphic illustration of the flow of operations which is used to replace the auditor's internal control questionnaire. d. Symbolic representation of a system or series of sequential processes.

Option "d" is correct because the flowchart prepared during the consideration of internal control is a symbolic representation of a system of sequential processes. It can be used in lieu of the internal control questionnaire which has the same purpose (i.e., to prepare a record of prescribed internal control).

A primary objective of analytical procedures used near completion of an audit is to a. Identify account balances that represent specific risks relevant to the audit. b. Gather evidence from tests of details to corroborate financial statement assertions. c. Detect fraud that may cause the financial statements to be misstated. d. Assist the auditor in forming overall conclusions about whether the financial statements are consistent with the auditor's understanding of the company.

Option "d" is correct because the objective of analytical procedures used near completion of the audit address whether the financial statements are consistent with the auditor's understanding of the company.

An auditor's analytical procedures performed near the end of the audit indicated that the client's accounts receivable had doubled since the end of the prior year. However, the allowance for doubtful accounts as a percentage of accounts receivable remained about the same. Which of the following client explanations most likely would satisfy the auditor? a. The client liberalized its credit standards in the current year and sold much more merchandise to customers with poor credit ratings. b. Twice as many accounts receivable were written off in the prior year than in the current year. c. A greater percentage of accounts receivable were currently listed in the "more than 90 days overdue" category than in the prior year. d. The client opened a second retail outlet in the current year and its credit sales approximately equaled the older, established outlet.

Option "d" is correct because the opening of a second retail outlet with credit sales approximating the older, established outlet, and a consistent credit policy are likely to result in such a situation.

Which of the following procedures would an auditor most likely perform to obtain evidence about an entity's subsequent events? a. Reconcile bank activity for the month after the balance sheet date with cash activity reflected in the accounting records. b. Examine on a test basis the purchase invoices and receiving reports for several days after the inventory date. c. Review the treasurer's monthly reports on temporary investments owned, purchased, and sold. d. Obtain a letter from the entity's attorney describing any pending litigation, unasserted claims, or loss contingencies.

Option "d" is correct because the professional standards require this procedure.

Prior to commencing fieldwork, an auditor usually discusses the general audit strategy with the client's management. Which of the following matters do the auditor and management agree upon at this time? a. The appropriateness of the entity's plans for dealing with adverse economic conditions. b. The determination of the fraud risk factors that exist within the client's operations. c. The control weaknesses to be included in the communication with the audit committee. d. The coordination of the assistance of the client's personnel in data preparation.

Option "d" is correct because very early in the engagement the auditor must determine how much assistance is needed of the client's personnel, and must coordinate that assistance.

In which circumstance is the confirmation of receivables on October 31 most likely for a client with a December 31 year-end? a. Tests of controls have revealed that the disbursements cycle is operating effectively. b. The receivables balance is material. c. Accounts were confirmed as of December 31 for the preceding year's audit. d. Appropriate audit tests indicate that control risk for receivables is low.

Option "d" is correct because when control risk for receivables is low the auditor may be more likely to confirm receivables at an interim date.

When an auditor concludes there is substantial doubt about an entity's ability to continue as a going concern for a reasonable period of time, the auditor's responsibility is to a. Prepare prospective financial information to verify whether management's plans can be effectively implemented. b. Project future conditions and events for a period of time not to exceed 1 year following the date of the financial statements. c. Issue a qualified or adverse opinion, depending upon materiality, due to the possible effects on the financial statements. d. Consider the adequacy of disclosure about the entity's possible inability to continue as a going concern.

Option "d" is correct because when, after considering management's plans, the auditor concludes there is substantial doubt, he or she should consider the possible effects on the financial statements, and the adequacy of the related disclosure. In addition, an emphasis-of-matter paragraph should be added to the audit report.

In a financial statement audit, inherent risk is evaluated to help an auditor assess which of the following? a. The internal audit department's objectivity in reporting a material misstatement of a financial statement assertion it detects to the audit committee. b. The risk that the internal control system will not detect a material misstatement of a financial statement assertion. c. The risk that the audit procedures implemented will not detect a material misstatement of a financial statement assertion. d. The susceptibility of a financial statement assertion to a material misstatement assuming there are no related controls.

Option "d" is correct since it in essence states the definition of inherent risk.

Hawkins requested permission to communicate with the predecessor auditor and review certain portions of the predecessor auditor's working papers. The prospective client's refusal to permit this will bear directly on Hawkins' decision concerning the a. Adequacy of the preplanned audit program. b. Ability to establish consistency in application of accounting principles between years. c. Apparent scope limitation. d. Integrity of management.

Option "d" is correct since obtaining evidence relative to the integrity of management is one of the objectives to be accomplished during such a review.

Which of the following can cause a CPA to receive an automatic expulsion from the AICPA? I. The CPA's CPA certificate is revoked by the relevant state board of accountancy. II. The CPA is convicted of a felony. III. The CPA intentionally did not file his personal tax return as required by federal law. a. I only. b. II only. c. I and II only. d. I, II, and III.

Option "d" is correct. All three of these can result in automatic expulsion of a CPA from the AICPA.

PCAOB standards require that the auditor retain audit documentation for _______years from the report release date, while ASB and IAASB standards require audit documentation to be retained for ______ years from the report release date.

PCAOB - 7 Years ASB - 5 Years IAASB - 5 Years

Following the Professional Standards which of the following is not one of the assertions made by management for account balances? a. Completeness b. Existence c. Valuation and Allociation d. Relevance and Reliability

Relevance and Reliability is not included in the professional standards as an account balance assertion. Each of the other choices (Completeness, Existence ,Valuation and Allocation) are account balance assertions.