Ch. 4

An auditor compares year-to-year account balances in order to perform analytical procedures. This is an example of: a. ratio analysis. b. trend analysis. c. internal control analysis. d. vertical analysis.

B. Trend analysis

During the 1990s the SEC was critical of the accounting profession for not sufficiently examining qualitative factors in making materiality decision. A qualitative factor generally not criticized by the SEC was a. assessing materiality levels too minimally. b. netting material misstatements. c. not applying materiality to "swings" in accounting estimates. d. consistently "passing" on individual adjustments not considered material.

A. Assessing materiality levels too minimally

A stipulation in an agreement between an entity and its creditor that places documented restrictions on the organization is referred to as a. debt covenants. b. representation agreements. c. engagement letters. d. current maturities of long-term obligations.

A. Debt covenants

Which of the following industries is usually considered high risk by audit firms? a. High technology companies such as Internet firms. b. Manufacturing companies such as toy producers. c. Legal services such as attorney firms. d. Non-profit companies such as trade associations.

A. High technology companies such as Internet firms

The risk that financial statements are likely to be misstated materially without regard to the effectiveness of internal control is which type of risk? a. Inherent risk b. Audit risk c. Client risk d. Control risk

A. Inherent risk

The preliminary use of analytical review procedures by the auditor is a. required to identify areas of heightened risk b. optional in accordance with auditor judgment. c. only used when other planning procedures cannot be applied. d. used to assist the auditor in documenting internal control.

A. Required to identify areas of heightened risk

In implementing the audit risk model, which of the following is not a limitation of the model that makes its implementation difficult? a. Inherent risk is difficult to formally assess. b. Audit risk is objectively determined. c. The model treats each risk component as separate and independent. d. Audit technology is not precisely developed in assessing each component.

B. Audit risk is objectively determined

Several general premises have been incorporated into the audit risk model. Which of the following general premises have not been incorporated into the model? a. Complex or unusual transactions are more likely to be recorded in error than are recurring or routine transactions. b. Good internal controls reduce the acceptable level of audit risk. c. The amount and persuasiveness of audit evidence gathered should vary inversely with audit risk. d. The better the organization's internal controls, the lower the likelihood of material misstatements.

B. Good internal controls reduce the acceptable level of audit risk

What analysis best considers the economic relationships among account balances? a. Altman "Z" Analysis b. Ratio analysis. c. Vertical analysis. d. Horizontal analysis.

B. Ratio analysis

What is the primary difference between financial reporting risk and audit risk? a. The application of accounting principles. b. Responsibilities of the respective parties involved. c. Demands of users of financial statements. d. Risks of being sued by third parties.

B. Responsibilities of the respective parties involved

Which of the following factors is not a component of the audit risk model? a. Inherent risk. b. Statistical risk. c. Detection risk. d. Control risk.

B. Statistical Risk

In determining audit risk, the auditor decides how much risk will be taken on by the firm. Which of the following is correct regarding this decision by the auditor? a. The auditor may decide to intentionally render an inappropriate opinion. b. The auditor may decide not to take the audit engagement. c. The auditor may decide to accept audit risk at 100%. d. The auditor may decide that engagement risk is an appropriate measure of audit risk.

B. The auditor may decide to not take the audit engagement

In accepting a client, auditing standards suggest that the auditor focus on four questions. Which of the following is not one of those four required questions of the predecessor? a. Integrity of management. b. The strength of the client's internal control. c. Disagreements with management as to accounting principles, auditing standards, or other similarly significant matters. d. Any communications by the predecessor to the client's management or audit committee concerning fraud, illegal acts by the client, and matters related to internal control.

B. The strength of the client's internal control

Which is a primary limitation of the audit risk model? a. The audit risk model does not adequately consider external forces on the client organization. b. Components of audit risk are treated as independent variables even though many interdependencies exist between them. c. The audit technology achieves approximate precision outside of a mathematical model. d. Control risk must be adjusted at the hands of the auditor, not by an arbitrary estimation.

B. components of the audit risk are treated as independent variables even though many interdependencies exist between them

Audit risk in the audit risk model concerns the risk that the auditor may issue an unqualified opinion on financial statements that are materially misstated. What is the manner in which the auditor assesses audit risk in using the audit risk model to determine the nature, extent and timing of audit evidence to collect in an audit. a. assessed to maintain low level of audit risk given residual risk b. assessed to maintain low level of audit risk given financial statement risk c. assessed to maintain a low level of audit risk given engagement risk d. assessed to maintain a low level of audit risk given enterprise risk

C. Assesssed to maintain a low level of audit risk given engagement risk

Janie Jones, CPA is proposing on a prospective audit engagement for White Mountain Enterprises. After obtaining written permission of White Mountain, Janie is required to perform what procedure prior to accepting it as a new client? a. Provide full disclosure of fees that will be billed to White Mountain. b. Contact the former auditor to ensure all disagreements have been resolved. c. Contact the former auditor about certain matters of interest in Janie's decision to accept White Mountain as a client. d. Contact the former auditor to determine if all fees have been paid, the change in auditors have been approved and integrity issues have been overcome.

C. Contact the former auditor about certain matters of interest in Janie's decision to accept White Mountain as a client

Risk is pervasive to the audit process. An overview of the risk process associated with an audit includes all of the following risks except which one? a. Audit risk. b. Engagement risk. c. Economic risk. d. Business risk.

C. Economic risk

In evaluating the quality of corporate governance, the auditor analyzes several key factors in determining to accept or retain a client. Which of the following factors are not one of those key factors? a. Independence and competency of the audit committee. b. Participation of key stakeholders. c. Existence of measurement risk. d. Quality of management's risk management process and internal controls.

C. Existence of measurement risk

The auditor is required to discuss with the audit committee whether or not the financial statements are fairly presented and appropriately applied in accordance with a. GAAS. b. EITF. c. GAAP. d. PCAOB.

C. GAAP

The risk based approach to auditing is dependent upon the auditor's ability to understand the business sufficient to identify and adjust to the residual risk left in account balances. What is the effect upon the nature, extent and timing of audit evidence if the auditor assessment of internal controls of the client indicates that a higher degree of residual risk remains in account balances? a. Gather less persuasive evidence. b. Smaller sample sizes. c. Gather more data at or after year end. d. All of these effects on the nature, extent and timing of audit evidence are applicable.

C. Gather more data at or after year end

Kool Connections, Inc. requests that Wreath and Greenworth Auditors make a proposal to provide audit services for the company. Which of the following is a correct assumption surrounding the result of the proposal? a. Greenworth is required to accept Kool Connections if selected as its auditors. b. Greenworth should interview the prior audit firm prior to releasing the proposal to Kool Connections. c. Greenworth may decide not to accept Kool Connections based upon the perceived risk of being associated with Kool. d. Greenworth will contact the PCAOB or the AICPA and ask for a review of the proposal prior to acceptance.

C. Greenworth may not decide to accept Kool Connections based upon the perceived risk of being associated with Kool

What is the most relevant use of a knowledge management system for an auditor? a. Professionals may input client data and have procedures performed automatically. b. Auditors are not required to make judgments collectively or individually. c. Professionals may share information related to auditing, accounting standards and risks. d. Auditors may work entirely from the firm location rather than at the client location.

C. Professionals may share information related to auditing, accounting standards and risks

Which of the following is typically not a significant risk factor that an auditor will consider in the client acceptance of Stitch Magee Co.? a. Brad Stitch, the president and 50% owner of Stitch Magee was investigated for securities violations four years earlier. b. Stitch Magee Co. is a public company in the high technology industry. c. Stitch Magee Co. is a manufacturing company that procures much of its raw materials from the Detroit, Michigan area. d. Stitch Magee Co. sells 25% of its inventory to Nani, Inc. which is owned primarily by Nani Magee, the father of Stitch Magee's treasurer, vice president of finance and 50% owner.

C. Stitch Magee Co. is a manufacturing company that procures much of its raw materials from the Detroit, Michigan area

Residual risk is defined as a. susceptibility of a transaction or accounting adjustment to be recorded in error, or for the transaction not to be recorded in the absence of internal controls. b. the risk that the client's internal controls system will fail to prevent or detect a misstatement. c. the risk left in an account balance after application of internal controls. d. risk that the audit procedures will fail to detect a material misstatement.

C. The risk left in an account balance after application of internal controls

Why will the external auditor typically interview the internal audit department as it relates to its risk-based approach? a. To appropriately change internal controls. b. To comment on the deficiency of internal audit control. c. To understand and assess management risk processes. d. To perform effective analytical procedures.

C. To understand and assess management risk processes

What is the most important purpose that is achieved by having an auditor write a formal engagement letter that is signed by the client? a. Documented proof of auditor responsibility for financial statements in accordance with GAAP. b. Multiple degrees of legal separation of the client from the auditor. c. A locking-in of fees and timetable that must be adhered to by the client. d. A communication and clarification of the responsibilities and expectations of the auditor and the client.

D. A communication and clarification of the responsibilities and expectations of the auditor and the client

Under the audit risk approach which of the following is not a method used by the auditor to manage detection and audit risk? a. Adjusting audit staffing to reflect the risk associated with the client. b. Developing direct tests of account balances consistent with the detection risk. c. Anticipating potential misstatements or accounting problems likely to be associated with account balances. d. Adjusting the timing of audit tests to maximize overall audit risk.

D. Adjusting the timing of audit tests to maximize overall audit risk

In implementing the audit risk model, which of the following is not a component step in applying the model? a. Understand management's risk processes. b. Develop expectations. c. Assess quality of control system. d. All are component steps in implementing the audit risk approach.

D. All are component steps in implementing the audit risk approach

Which one of the following is a valid source of information about the client's processes? a. Management inquiry b. Review of the client's budget c. Tour of client's plant and operations d. All are valid sources.

D. All are valid sources

Engagement risk has been defined as the risk of potential losses that are incurred by the auditor in being associated with a particular client. Which of the following factors are not associated with increased engagement risk for the auditor? a. Management with questionable integrity. b. A failed company. c. Materially misstated financial statements. d. All of these factors increase engagement risk.

D. All od these factors increase engagement risk

Which of the following will an auditor most likely discuss with the former auditors of a potential client prior to acceptance? a. Integrity of management. b. Reasons for changing audit firms. c. Disagreements with management regarding accounting principles. d. All of the above must be discussed.

D. All of the above must be discussed

The auditor will utilize many resources to assess management integrity in the client acceptance process. Which of the following will an auditor most likely refrain from using in this search? a. Predecessor auditor. b. Other professionals in the business community. c. Public databases. d. All of the above will typically be used by an auditor in the search.

D. All of the above will typically be used by an auditor in the search

Financial reporting risks are those risks that relate directly to the recording of transactions and the presentation of financial data in an organization's financial statements. Which of the following factors is not one of the key factors affecting financial reporting risk? a. Competence and integrity of management b. Complexity of the company's transactions and financial reporting. c. Quality of the company's internal controls. d. All of these factors affect financial reporting risks.

D. All of these factors affect financial reporting risks

In the audit risk model, which of the risk components can be assessed by the auditor? a. Inherent risk. b. Control risk. c. Detection risk. d. Both A and B.

D. Both A and B

In the audit risk model, its risk components are either determined, assessed, or manipulated. Which of the following risks are controllable by the auditor? a. Audit risk. b. Control risk. c. Detection risk. d. Both A and C.

D. Both A and C

Which one of the following is not a critical component of risks relevant in conducting an audit? a. Business risks b. Audit risks c. Engagement risks d. Decentralize risks

D. Decentralize Risks

Analytical procedures are used in an audit because it is assumed of financial statements that a. management fraud can be discovered using such procedures. b. it is plausible that no relationship among data exists. c. analytical procedures are used as tests of controls. d. plausible relationships among data may reasonably be expected to exist and continue.

D. Plausible relationships among data may reasonably be expected to exist and continue

The auditor commences to understand the client and related risks of the organization for what purpose? a. To determine the audit opinion that will be issued. b. To determine the appropriate understanding of internal controls by management. c. To determine the detection of audit procedures in the period under audit. d. To determine whether the auditor has sufficient knowledge to perform the engagement/audit.

D. To determine whether the auditor has sufficient knowledge to perform the engagement/audit