Chapter 11: Internal Control and COSO Framework Flashcards
Which of the following is notone of the three primary objectives of effective internal control?
A) reliability of financial reporting
B) efficiency and effectiveness of operations
C) compliance with laws and regulations
D) assurance of elimination of business risk
D) assurance of elimination of business risk
With which of management’s assertions with respect to implementing internal controls is the auditor primarily concerned?
A) efficiency of operations
B) reliability of financial reporting
C) effectiveness of operations
D) compliance with applicable laws and regulations
B) reliability of financial reporting
Internal controls
A) are implemented by and are the responsibility of the auditors.
B) consist of policies and procedures designed to provide reasonable assurance that the company achieves its objectives and goals.
C) guarantee that the company complies with all laws and regulations.
D) only apply to SEC companies.
B) consist of policies and procedures designed to provide reasonable assurance that the company achieves its objectives and goals.
Internal controls are notdesigned to provide reasonable assurance that
A) all frauds will be detected.
B) transactions are executed in accordance with management’s authorization.
C) the company’s resources are used efficiently and effectively.
D) company personnel comply with applicable rules and regulations.
A) all frauds will be detected.
Section 404 of the Sarbanes-Oxley Act requires that both private and public companies issue an internal control report.
TRUE OR FALSE
FALSE
Management has a legal and professional responsibility to be sure that the financial statements are prepared in accordance with reporting requirements of applicable accounting frameworks.
TRUE OR FALSE
TRUE
Who is responsible for establishing a private company’s internal control?
A) senior management
B) internal auditors
C) FASB
D) audit committee
A) senior management
Two key concepts that underlie management’s design and implementation of internal control are
A) costs and materiality.
B) absolute assurance and costs.
C) inherent limitations and reasonable assurance.
D) collusion and materiality.
C) inherent limitations and reasonable assurance.
The PCAOB places responsibility for the reliability of internal controls over the financial reporting process on
A) the company’s board of directors.
B) the audit committee of the board of directors.
C) management.
D) the CFO and the independent auditors.
C) management.
An act of two or more employees to steal assets and cover their theft by misstating the accounting records would be referred to as
A) collusion.
B) a material weakness.
C) a control deficiency.
D) a significant deficiency.
A) collusion.
6) Sarbanes-Oxley requires management to issue an internal control report that includes two specific items. Which of the following is one of these two requirements?
A) a statement that management is responsible for establishing and maintaining an adequate internal control structure and procedures for financial reporting
B) a statement that management and the board of directors are jointly responsible for establishing and maintaining an adequate internal control structure and procedures for financial reporting
C) a statement that management, the board of directors, and the external auditors are jointly responsible for establishing and maintaining an adequate internal control structure and procedures for financial reporting
D) a statement that the external auditors are solely responsible for establishing and maintaining an adequate system of internal control
A) a statement that management is responsible for establishing and maintaining an adequate internal control structure and procedures for financial reporting
When one material weakness is present at the end of the year, management of a public company must conclude that internal control over financial reporting is
A) insufficient.
B) inadequate.
C) ineffective.
D) inefficient.
C) ineffective.
The auditors primary purpose in auditing the client’s system of internal control over financial reporting is
A) to prevent fraudulent financial statements from being issued to the public.
B) to evaluate the effectiveness of the company’s internal controls over all relevant assertions in the financial statements.
C) to report to management that the internal controls are effective in preventing misstatements from appearing on the financial statements.
D) to efficiently conduct the Audit of Financial Statements.
B) to evaluate the effectiveness of the company’s internal controls over all relevant assertions in the financial statements.
The internal control framework used by most U.S. companies is the ________ framework.
A) FASB
B) PCAOB
C) COSO
D) SEC
C) COSO
In performing the audit of internal control over financial reporting, the auditor emphasizes internal control over classes of transactions because
A) the accuracy of accounting system outputs depends heavily on the accuracy of inputs and processing.
B) the class of transaction is where most fraud schemes occur.
C) account balances are less important to the auditor then the changes in the account balances.
D) classes of transactions tests are the most efficient manner to compensate for inherent risk.
A) the accuracy of accounting system outputs depends heavily on the accuracy of inputs and processing.
Internal controls can never be regarded as completely effective. Even if company personnel could design an ideal system, its effectiveness depends on the
A) adequacy of the computer system.
B) proper implementation by management.
C) ability of the internal audit staff to maintain it.
D) competency and dependability of the people using it.
D) competency and dependability of the people using it.
When considering internal controls,
A) auditors can ignore controls affecting internal management information.
B) auditors are concerned with the client’s internal controls over the safeguarding of assets if they affect the financial statements.
C) management is responsible for understanding and testing internal control over financial reporting.
D) companies must use the COSO framework to establish internal controls.
B) auditors are concerned with the client’s internal controls over the safeguarding of assets if they affect the financial statements.
Of the following statements about internal controls, which one is least likely to be correct?
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) Control procedures reasonably ensure that collusion among employees cannot occur.
D) Control procedures reasonably ensure that collusion among employees cannot occur.
The Sarbanes-Oxley Act requires
A) all public companies to issue reports on internal controls.
B) all public companies to define adequate internal controls.
C) the auditor of public companies to design effective internal controls.
D) the auditor of public companies to withdraw from an engagement if internal controls are weak.
A) all public companies to issue reports on internal controls.
Which of the following is an accurate statement regarding the auditor’s responsibility for understanding internal control?
A) Transaction-related audit objectives typically have no impact on the rights and obligations objectives.
B) Transaction-related audit objectives typically have a significant impact on the balance-related audit objective of realizable value.
C) Auditors generally emphasize internal control over account balances rather than classes of transactions.
D) Auditors and management are both equally concerned about controls that affect the efficiency and effectiveness of company operations.
A) Transaction-related audit objectives typically have no impact on the rights and obligations objectives.
The primary emphasis by auditors is on controls over
A) classes of transactions.
B) account balances.
C) both A and B, because they are equally important.
D) both A and B, because they vary from client to client.
A) classes of transactions.
An auditor should consider two key issues when obtaining an understanding of a client’s internal controls. These issues are
A) the effectiveness and efficiency of the controls.
B) the frequency and effectiveness of the controls.
C) the design and operating effectiveness of the controls.
D) the implementation and operating effectiveness of the controls.
C) the design and operating effectiveness of the controls.
Reasonable assurance allows for
A) low likelihood that material misstatements will not be prevented or detected by internal controls.
B) no likelihood that material misstatements will not be prevented or detected by internal control.
C) moderate likelihood that material misstatements will not be prevented or detected by internal control.
D) high likelihood that material misstatements will not be prevented or detected by internal control.
A) low likelihood that material misstatements will not be prevented or detected by internal controls.
Which of the following is most correct regarding the requirements under Section 404 of the Sarbanes-Oxley Act?
A) The audits of internal control and the financial statements provide reasonable assurance as to misstatements.
B) The audit of internal control provides absolute assurance of misstatement.
C) The audit of financial statements provides absolute assurance of misstatement.
D) The audits of internal control and the financial statements provide absolute assurance as to misstatements.
A) The audits of internal control and the financial statements provide reasonable assurance as to misstatements.
Under the Dodd-Frank federal financial reform legislation, all public companies are required to obtain an audit report on internal control over financial reporting.
TRUE OR FALSE
FALSE
When a company designs and implements internal controls, cost of the controls is nota valid consideration.
TRUE OR FALSE
FALSE
Which of the following activities would be least likely to strengthen a company’s internal control?
A) separating accounting from other financial operations
B) maintaining insurance for fire and theft
C) fixing responsibility for the performance of employee duties
D) carefully selecting and training employees
B) maintaining insurance for fire and theft
Which of the following components of the control environment define the existing lines of responsibility and authority?
A) organizational structure
B) management philosophy and operating style
C) human resource policies and practices
D) management integrity and ethical values
A) organizational structure
Which of the following statements is most correct with respect to separation of duties?
A) A person who has temporary or permanent custody of an asset should account for that asset.
B) Employees who authorize transactions should not have custody of related assets.
C) Employees who open cash receipts should record the amounts in the subsidiary ledgers.
D) Employees who authorize transactions should have recording responsibility for these transactions.
B) Employees who authorize transactions should not have custody of related assets.
Authorizations can be either general or specific. Which of the following is notan example of a general authorization?
A) automatic reorder points for raw materials inventory
B) a sales manager’s authorization for a sales return
C) credit limits for various classes of customers
D) a sales price list for merchandise
B) a sales manager’s authorization for a sales return
Which of the following is correct with respect to the design and use of business documents?
A) The documents should be in paper format.
B) Documents should be designed for a single purpose to avoid confusion in their use.
C) Documents should be designed to be understandable only by those who use them.
D) Documents should be prenumbered consecutively to facilitate control over missing documents.
D) Documents should be prenumbered consecutively to facilitate control over missing documents.
Which of the following best describes the purpose of control activities?
A) the actions, policies and procedures that reflect the overall attitudes of management
B) the identification and analysis of risks relevant to the preparation of financial statements
C) the policies and procedures that help ensure that necessary actions are taken to address risks to the achievement of the entity’s objectives
D) activities that deal with the ongoing assessment of the quality of internal control by management
C) the policies and procedures that help ensure that necessary actions are taken to address risks to the achievement of the entity’s objectives
Which of the following deals with ongoing or periodic assessment of the quality of internal control by management?
A) verifying activities
B) monitoring activities
C) oversight activities
D) management activities
B) monitoring activities
Which of the following is a risk assessment principle?
A) accountability
B) use relevant, quality information to support the functioning of internal controls
C) consider the potential for fraud
D) develop general controls over technology
C) consider the potential for fraud
Which of the following is notan underlying principle related to risk assessment?
A) The organization should have clear objectives in order to be able to identify and assess the risks relating to the objectives.
B) The auditors should determine how the company’s risks should be managed.
C) The organization should consider the potential for fraudulent behavior.
D) The organization should monitor changes that could impact internal controls.
B) The auditors should determine how the company’s risks should be managed.
Which of the following is notone of the subcomponents of the control environment?
A) management’s philosophy and operating style
B) organizational structure
C) adequate separation of duties
D) commitment to competence
C) adequate separation of duties
It is important for the CPA to consider the competence of the clients’ personnel because their competence has a direct impact upon the
A) cost/benefit relationship of the system of internal control.
B) achievement of the objectives of internal control.
C) comparison of recorded accountability with assets.
D) timing of the tests to be performed.
B) achievement of the objectives of internal control.
Proper segregation of functional responsibilities calls for separation of
A) authorization, execution, and payment.
B) authorization, recording, and custody.
C) custody, execution, and reporting.
D) authorization, payment, and recording.
B) authorization, recording, and custody.
Without an effective ________, the other components of the COSO framework are unlikely to result in effective internal control, regardless of their quality.
A) risk assessment policy
B) monitoring policy
C) control environment
D) system of control activities
C) control environment
Which of the following is an accurate statement regarding control activities?
A) As the level of complexity of IT systems increases, the separation of duties often becomes blurred.
B) Segregation of duties would be violated if the same person authorizes the payment of a vendor’s invoice and also approves the disbursement of funds to pay the bill.
C) The most important type of protective measure for safeguarding assets and records is the us of physical precautions.
D) all of the above
D) all of the above
If a company has an effective internal audit department,
A) the internal auditors can express an opinion on the fairness of the financial statements.
B) their work cannot be used by the external auditors per PCAOB Standard 5.
C) it can reduce external audit costs by providing direct assistance to the external auditors.
D) the internal auditors must be CPAs in order for the external auditors to rely on their work.
C) it can reduce external audit costs by providing direct assistance to the external auditors.
To promote operational efficiency, the internal audit department would ideally report to
A) line management.
B) the PCAOB.
C) the Chief Accounting Officer.
D) the audit committee.
D) the audit committee.
Hanlon Corp. maintains a large internal audit staff that reports directly to the accounting department. Audit reports prepared by the internal auditors indicate that the system is functioning as it should and that the accounting records are reliable. An independent auditor will probably
A) eliminate tests of controls.
B) increase the depth of the study and evaluation of administrative controls.
C) avoid duplicating the work performed by the internal audit staff.
D) place limited reliance on the work performed by the internal audit staff.
D) place limited reliance on the work performed by the internal audit staff.
External financial statement auditors must obtain evidence regarding what attributes of an internal audit (IA) department if the external auditors intend to rely on IA’s work?
A) integrity
B) objectivity
C) competence
D) all of the above
D) all of the above
To obtain an understanding of an entity’s control environment, an auditor should concentrate on the substance of management’s policies and procedures rather than their form because
A) management may establish appropriate policies and procedures but not act on them.
B) the board of directors may not be aware of management’s attitude toward the control environment.
C) the auditor may believe that the policies and procedures are inappropriate for that particular entity.
D) the policies and procedures may be so weak that no reliance is contemplated by the auditor.
A) management may establish appropriate policies and procedures but not act on them.
The ________ is helpful in preventing classification errors if it accurately describes which type of transaction should be in each account.
A) general ledger
B) general journal
C) trial balance
D) chart of accounts
D) chart of accounts
Control activities help assure that the necessary actions are taken to address risks to the achievement of the company’s objectives. List the five types of control activities.
- adequate separation of duties
- proper authorization of transactions and activities
- adequate documents and records
- physical control over assets and records
- independent checks on performance
Management’s identification and analysis of risk is an ongoing process and is a critical component of effective internal control. An important first step is for management to identify factors that may increase risk. Identify at least five factors, observable by management, which may lead to increased risk in a typical business organization.
- failure to meet prior objectives
- quality of personnel
- geographic dispersion of company operations
- significance and complexity of core business processes
- introduction of new information technologies
- entrance of new competitors
- economic downturns
- rapid technology changes
Separation of duties is essential in preventing errors and intentional misstatements on the financial statements. List below the four general guidelines.
- separation of custody of the assets from accounting
- separation of the authorization of transactions from custody of related assets
- separation of operational responsibility from record keeping responsibility
- separation of IT duties from user departments
List the four underlying principles of risk assessment per the COSO framework.
- have clear objectives in order to identify risks related to those objectives
- determine how risks should be managed
- consider the potential for fraud
- monitor changes
Control activities are a subcomponent of the information and communication component of internal control.
TRUE OR FALSE
FALSE
Adequate documents and records is a subcomponent of the control environment.
TRUE OR FALSE
FALSE
The chart of accounts is helpful in preventing classification errors if it accurately describes which type of transaction should be in each account.
TRUE OR FALSE
TRUE
Auditing standards prohibit reliance on the work of internal auditors due to the lack of independence of the internal auditors.
TRUE OR FALSE
FALSE
If an auditor wishes to rely on the work of internal auditors (IA), the auditor must obtain satisfactory evidence related to the IA’s competence, integrity, and objectivity.
TRUE OR FALSE
TRUE
An example of a specific authorization is management setting a policy authorizing the ordering of inventory when less than a one-week supply is on hand.
TRUE OR FALSE
FALSE
Personnel responsible for performing internal verification procedures must be independent of those originally responsible for preparing the data.
TRUE OR FALSE
TRUE
Old and new systems operating simultaneously in all locations is a test approach known as
A) pilot testing.
B) horizontal testing.
C) integrative testing.
D) parallel testing.
D) parallel testing.
Which of the following is a component of general controls?
A) processing controls
B) output controls
C) back-up and contingency planning
D) input controls
C) back-up and contingency planning
Which of the following statements related to application controls is correct?
A) Application controls relate to various aspects of the IT function including software acquisition and the processing of transactions.
B) Application controls relate to various aspects of the IT function including physical security and the processing of transactions in various cycles.
C) Application controls relate to all aspects of the IT function.
D) Application controls relate to the processing of individual transactions.
D) Application controls relate to the processing of individual transactions.
General controls include all of the following except
A) systems development.
B) online security.
C) processing controls.
D) hardware controls.
C) processing controls.
Which of the following describes the process of implementing a new system in one part of the organization, while other locations continue to use the current system?
A) parallel testing
B) online testing
C) pilot testing
D) control testing
C) pilot testing
A ________ is responsible for controlling the use of computer programs, transaction files and other computer records and documentation and releases them to the operators only when authorized.
A) software engineer
B) chief computer operator
C) librarian
D) data control operator
C) librarian
Security controls should require that users enter a(n) ________ before being allowed access to software and other related data files.
A) echo check
B) parity check
C) self-diagnosis test
D) authorized password
D) authorized password
Typical controls developed for manual systems which are still important in IT systems include
A) management’s authorization of transactions.
B) competent personnel.
C) adequate preparation of input source documents.
D) all of the above.
D) all of the above.
Which of the following controls prevent and detect errors while transaction data are processed?
A) software
B) application
C) processing
D) transaction
C) processing
When purchasing software or developing in-house software,
A) cost should be the only factor.
B) extensive testing of the software is generally not required.
C) a team of both IT and non-IT personnel should be involved in the decision process.
D) the librarian and the IT manager should be the only ones involved in the decision process.
C) a team of both IT and non-IT personnel should be involved in the decision process.
Output controls need to be designed for which of the following data integrity objectives?
A) detecting errors after the processing is completed
B) preventing errors before the processing is completed
C) detecting errors in the general ledger adjustment process
D) preventing errors in separation of duties for IT personnel
A) detecting errors after the processing is completed
A control that relates to all parts of the IT system is called a(n)
A) general control.
B) systems control.
C) universal control.
D) applications control.
A) general control.
Controls that are designed for each software application and are intended to help a company satisfy the transaction-related audit objectives are
A) user controls.
B) general controls.
C) audit controls.
D) application controls.
D) application controls.
Which of the following is notan example of an applications control?
A) Back-up of data is made to a remote site for data security.
B) There is a preprocessing authorization of the sales transactions.
C) There are reasonableness tests for the unit selling price of a sale.
D) After processing, all sales transactions are reviewed by the sales department.
A) Back-up of data is made to a remote site for data security.
Which of the following is nota general control?
A) Computer performed validation tests of input accuracy.
B) Equipment failure causes error messages on monitor.
C) There is a separation of duties between programmer and operators.
D) There are adequate program run instructions for operating the computer.
A) Computer performed validation tests of input accuracy.
Controls which are built in by the manufacturer to detect equipment failure are called
A) input controls.
B) data integrity controls.
C) hardware controls.
D) manufacturer’s controls.
C) hardware controls.
Controls which are designed to assure that the information entered into the computer is authorized, complete, and accurate are called
A) input controls.
B) processing controls.
C) output controls.
D) general controls.
A) input controls.
When dealing with the administration of the IT function and the segregation of IT duties
A) in large organizations, management should assign technology issues to outside consultants.
B) programmers should investigate all security breaches.
C) the board of directors should not get involved in IT decisions since it is a routine function handled by middle management.
D) in complex environments, management may establish IT steering committees.
D) in complex environments, management may establish IT steering committees.
Which of the following tests determines that every field in a record has been completed?
A) validation
B) sequence
C) completeness
D) programming
C) completeness
An example of a physical control is
A) a hash total.
B) a parallel test.
C) the matching of employee fingerprints to a database before access to the system is allowed.
D) the use of backup generators to prevent data loss during power outages.
C) the matching of employee fingerprints to a database before access to the system is allowed.
Controls specific to IT include all of the following exceptfor
A) adequately designed input screens.
B) pull-down menu lists.
C) validation tests of input accuracy.
D) separation of duties.
D) separation of duties.
An internal control deficiency occurs when computer personnel
A) participate in computer software acquisition decisions.
B) design flowcharts and narratives for computerized systems.
C) originate changes in customer master files.
D) provide physical security over program files.
C) originate changes in customer master files.
Which of the following best explains the relationship between general controls and application controls?
A) Application controls are effective even if general controls are extremely weak.
B) Application controls are likely to be effective only when general controls are effective.
C) General controls have no impact on application controls.
D) None of the above
B) Application controls are likely to be effective only when general controls are effective.
A(n) ________ total represents the summary total of codes from all records in a batch that do notrepresent a meaningful total.
A) record
B) hash
C) output
D) financial
B) hash
In an IT system, automated equipment controls or hardware controls are designed to
A) correct errors in the computer programs.
B) monitor and detect errors in source documents.
C) detect and control errors arising from the use of equipment.
D) arrange data in a logical sequential manner for processing purposes.
C) detect and control errors arising from the use of equipment.
If a control total were to be computed on each of the following data items, which would best be identified as a hash total for a payroll IT application?
A) gross wages earned
B) employee numbers
C) total hours worked
D) total debit amounts and total credit amounts
B) employee numbers
Which of the following is notan application control?
A) reprocessing authorization of sales transactions
B) reasonableness test for unit selling price of sale
C) post-processing review of sales transactions by the sales department
D) logging in to the company’s information systems via a password
D) logging in to the company’s information systems via a password
Which of the following is not a general control?
A) separation of IT duties
B) systems development
C) processing controls
D) hardware controls
C) processing controls
________ is the information technology and internal control processes an organization has in place to protect computers, networks, programs, and data from unauthorized access.
A) Encryption
B) A firewall
C) Cybersecurity
D) A processing control
C) Cybersecurity
The most important output control is
A) distribution control, which assures that only authorized personnel receive the reports generated by the system.
B) review of data for reasonableness by someone who knows what the output should look like.
C) control totals, which are used to verify that the computer’s results are correct.
D) logic tests, which verify that no mistakes were made in processing.
B) review of data for reasonableness by someone who knows what the output should look like.
Parallel testing is used when old and new systems are operated simultaneously in all locations.
TRUE OR FALSE
TRUE
Programmers should only be allowed to work with test copies of programs and data.
TRUE OR FALSE
TRUE
In IT systems, if general controls are effective, it increases the auditor’s ability to rely on application controls to reduce control risk.
TRUE OR FALSE
TRUE
Parallel testing can be used in combination with pilot testing to test new systems.
TRUE OR FALSE
TRUE
The effectiveness of automated controls depends solely on the competence of the personnel performing the controls.
TRUE OR FALSE
FALSE
Backup and contingency plans should also identify alternative hardware that can be used to process company data.
TRUE OR FALSE
TRUE
A large portion of errors in IT systems result from data entry errors.
TRUE OR FALSE
TRUE
Output controls focus on preventing errors during processing.
TRUE OR FALSE
FALSE
Processing controls are a category of application controls.
TRUE OR FALSE
TRUE
Controls that relate to a specific use of the IT system, such as the processing of sales or cash receipts, are called application controls.
TRUE OR FALSE
TRUE
IT controls are classified as either input controls or output controls.
TRUE OR FALSE
FALSE
A database management system
A) allows clients to create databases that include information that can be shared across multiple applications.
B) stores data on different files for different purposes, but always knows where they are and how to retrieve them.
C) allows quick retrieval of data, but at a cost of inefficient use of file space.
D) allows quick retrieval of data, but it needs to update files continually.
A) allows clients to create databases that include information that can be shared across multiple applications.
When auditing a client who uses a database management system, the auditor is principally aware of elevated risk due to the fact that
A) multiple users can access and update data files.
B) the accounting information is only in one place.
C) the database administrator may lack appropriate accounting knowledge.
D) multiple users could all access the data simultaneously causing a system shutdown.
A) multiple users can access and update data files.
Firewalls are used to protect from
A) erroneous internal handling of data.
B) insufficient documentation of transactions.
C) illogical programming commands.
D) unauthorized external users.
D) unauthorized external users.
Rather than maintain an internal IT center, many companies outsource their basic IT functions such as payroll to an
A) external general service provider.
B) independent computer service center.
C) internal control service provider.
D) internal auditor.
B) independent computer service center.
When the auditor is obtaining an understanding of the independent computer service center’s internal controls, the auditor should
A) use the same criteria used to evaluate the client’s internal controls.
B) use different criteria because the service center resides outside the company.
C) use the same criteria used to evaluate the client’s internal controls but omit tests of transactions.
D) use different criteria for the service center by including substantive tests of balances.
A) use the same criteria used to evaluate the client’s internal controls.
________ protect(s) the security of electronic communication when information is transmitted and when it is stored.
A) Firewalls
B) Digital signatures
C) Encryption
D) A database
C) Encryption
A(n) ________ is a computer resource deployment and procurement model that enables an organization to obtain IT resources and applications from any location via an Internet connection.
A) application service provider
B) firewall
C) cloud computing environment
D) local area network
C) cloud computing environment
Firewalls can protect company data and software programs.
TRUE OR FALSE
TRUE
LANs link equipment within a single or small cluster of buildings and are used within a company.
TRUE OR FALSE
TRUE
Companies using e-commerce systems to transact business electronically do notneed to be concerned about how their e-commerce partners manage IT systems risks.
TRUE OR FALSE
FALSE
