Chapter 4 Flashcards
A well planned and carefully performed audit ______ audit risk.
still has some
Existence is riskier than completeness for _____
Cash
The probability that the client’s internal control activities will fail to prevent or detect material misstatements provided they enter or would have entered the accounting system is _____ risk
Control
The probability that the auditor’s own procedures will fail to detect material misstatements provided that any have entered the accounting system is ____ risk.
Detection
In the audit risk model, the assessment of inherent risk and ____ risk leads to a determination of ____ risk.
Control, Detection
The probability that an audit team will express an inappropriate audit opinion when the financial statements are materially misstated is the definition of _____ _______
Audit Risk
The type of procedure is referred to as the _______
of an audit procedure.
Nature
The probability that, in the absence of internal controls, material errors or frauds could enter the accounting system used to develop financial statements is _____ risk.
Inherent
Question an auditor asks when assessing ______ risk is, “What is the audit client doing when misstatements occur?” and “Are proper systems in place to prevent or detect misstatements?”
Control
Auditors can and do influence the level of ______
detection risk only
Detection Risk is ____
calculated and derived from other risks and is the amount of risk the auditor can allow.
Based on the allowable or planned level of detection risk, auditors modify the ____ , the _____ , and the _____ of further audit procedures.
Nature, Timing, Extent
Fraud Risk ____
must be considered on each audit engagement, and is not specifically mentioned in the audit risk model
Which of the following may cause management to intentionally understate profits?
Management wants to create “cookie jar” reserves for a rainy day.
The company believes its income tax expense is too high.
The company is suffering a large loss and wants to take a “big bath.”
Which of the following is true?
Auditors must specifically consider fraud risk from management override of controls.
Auditors would perform the following steps in which order?
Set audit risk; assess risk of material misstatement; calculate detection risk.
Auditors must set audit risk and assess the risk of material misstatement before solving for detection risk.
Which of the following is not required by AU-C 240, “Consideration of Fraud in a Financial Statement Audit”?
Conduct inquiries of shareholders as to their views about the risks of fraud and their knowledge of any fraud or suspected fraud.
Analytical procedures are performed in the following order:
The correct order is: 1) Develop an expectation; 2) define a significant difference; 3) compare expectation with recorded amount; and 4) investigate significant differences.
The risk that the auditor may unknowingly fail to appropriately modify the opinion on financial statements that are materially misstated is referred to as:
Audit Risk. (e.g., giving an unqualified opinion on financial statements that are misleading because of material misstatements the auditors failed to discover).
If results from the auditor’s tests of controls induce the auditor to change the assessed level of control risk for inventory from low to moderate and audit risk and inherent risk remain constant, what is the effect on the acceptable level of detection risk?
Detection risk would decrease.
If control risk increases, detection risk would decrease.
The auditor has assessed the risk of material misstatement to determine the acceptable level of detection risk for financial statement assertions for inventory account balances. As the acceptable level of detection risk decreases, which of the following adjustments to the accounts receivable audit program would the audit team normally make?
Increase the sample size of the confirmations.
If detection risk decreases, the audit team must be more effective in its audit procedures. Increasing the number (extent) of confirmations sent increases effectiveness.
Which of the following would not cause auditors to increase their assessment of inherent risk?
The client’s controller is an expert in application of accounting standards.
Explanation: Accounting personnel that do not have competence would increase the risk of misstatement.
With respect to management’s accounting estimates, auditors are responsible for:
determining the reasonableness of estimates, determining that estimates are presented in conformity with GAAP, determining that estimates are adequately disclosed in the financial statements.
Auditors would be responsible for designing audit procedures to detect noncompliance with which of the following laws and regulations?
Federal income tax laws. Noncompliance with federal income tax laws would have a direct effect on the financial statements.
The audit strategy should not take into account:
the audit fee agreed to by the audit committee.
Auditors should not take the audit fee agreed to by the audit committee into account when developing their strategy. The strategy should be aimed at providing reasonable assurance regardless of the audit fee.
Auditing standards do not require auditors of financial statements to:
report all errors and frauds found to police authorities.
Auditors are not required to report all finding of errors and frauds to police authorities.
If sales were overstated by recording a false credit sale at the end of the year, where could you find the false “dangling debit”?
Accounts receivable.
In (fictitious) credit sales and (fictitious) receivables.
One of the typical characteristics of management fraud is:
Management fraud is victimization of investors through the use of materially misleading financial statements.
Which of the following circumstances would most likely cause an audit team to perform extended procedures?
The client made several large adjustments at or near year-end.
If the client made several large adjustments at year-end (a red flag), extended procedures would be considered necessary to ensure that fraud was not taking place.
The likelihood that material misstatements may have entered the accounting system and not been detected and corrected by the client’s internal control is referred to as:
risk of material misstatement.
This is the definition of the risk of material misstatement which consists of inherent risk plus control risk.
The risk of material misstatement is composed of which audit risk components?
The risk of material misstatement is composed of inherent risk and control risk.
The risk that the auditors’ own testing procedures will lead to the decision that material misstatements do not exist in the financial statements when in fact such misstatements do exist is:
This is the definition of detection risk.
If tests of controls induce the audit team to change the assessed level of control risk for fixed assets from low to high and audit risk and inherent risk remain constant, the acceptable level of detection risk is most likely to:
change from high to moderate.
If control risk increases, detection risk would decrease. Therefore, a decrease of detection risk from high to moderate would be a correct directional change.
Which of the following is a specific audit procedure that would be completed in response to a particular fraud risk in an account balance or class of transactions?
Performing procedures such as inventory observation and cash counts on a surprise or unannounced basis.
Analytical procedures are generally used to produce evidence from:
relationships among current financial balances and prior balances, forecasts, and nonfinancial data.
Analytical procedures incorporate information from a variety of sources.
Which of the following relationships between types of analytical procedures and sources of information are most logical?
Type of Analytical Procedure: Comparison of current account balances with expected balances. Source of Information: Company’s budgets and forecasts.
When auditors become aware of noncompliance with a law or regulation committed by client personnel, the primary reason that the auditors should obtain a better understanding of the nature of the act is to:
evaluate the effect of the noncompliance on the financial statements.
Under the Private Securities Litigation Reform Act (the act), independent auditors are required to first:
report to the SEC all instances of noncompliance with the Act they believe have a material effect on financial statements if the board of directors does not first report to the SEC.
Analytical procedures used when planning an audit should concentrate on:
accounts and relationships that can represent specific potential problems and risks in the financial statements.
Analytical procedures are generally used to produce evidence from:
relationships among current financial balances and prior balances, forecasts, and nonfinancial data.
Analytical procedures can be used in which of the following ways?
As a means of overall review near the end of the audit
As “attention-directing” methods when planning an audit at the beginning
As substantive audit procedures to obtain evidence during an audit
Analytical procedures used when planning an audit should concentrate on:
accounts and relationships that can represent specific potential problems and risks in the financial statements.
When a company that sells its products with a positive gross profit increases its sales by 15 percent and its cost of goods sold by 7 percent, the cost of goods sold ratio will:
decrease. The numerator (cost of goods sold) increases relatively less than the denominator (sales) increases.
Auditors are not responsible for accounting estimates with respect to:
making the estimates.
Management is responsible for making the estimates in the first place, just as management is primarily responsible for all the financial statement elements.
An audit strategy memorandum contains
Specifications of procedures the auditors believe appropriate for the financial statements under audit.
It is acceptable under generally accepted auditing standards for an audit team to:
assess risk of material misstatement at high and achieve an acceptably low audit risk by performing extensive substantive tests.
The objective is to perform a quality audit and keep audit risk low.
Under the Private Securities Litigation Reform Act (the act), independent auditors are required to first:
report to the SEC all instances of noncompliance with the Act they believe have a material effect on financial statements if the board of directors does not first report to the SEC.
Once informed, the board of directors has the first responsibility to report to the SEC. If the board does not report these items to the SEC, the law then requires the auditors to do so.
When evaluating whether accounting estimates made by management are reasonable, auditors would be most interested in which of the following?
Evidence of a conservative systematic bias
Evidence of a systematic bias, whether aggressive or conservative, would be of most concern to the audit team.
An audit committee is:
An audit committee is composed of members of a company’s board of directors who are not involved in the day-to-day operations of the company.
When auditors become aware of noncompliance with a law or regulation committed by client personnel, the primary reason that the auditors should obtain a better understanding of the nature of the act is to:
evaluate the effect of the noncompliance on the financial statements.
The audit team’s first concern is the effect of the noncompliance on the financial statements.
Which of the following statements best describes auditors’ responsibility for detecting a client’s noncompliance with a law or regulation?
Auditors must design tests to obtain reasonable assurance that all noncompliance with direct material financial statement effects is detected.
The audit team must design their tests to obtain reasonable assurance that all noncompliance with direct material statement effects are detected.
Auditors perform analytical procedures in the planning stage of an audit for the purpose of
identifying unusual conditions that deserve more auditing effort.
This is the “attention‑directing” purpose.
A primary objective of analytical procedures used in the final review stage of an audit is to:
assist the auditor in evaluating the overall financial statement presentation.
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:
an error in recording amortization of the excess of the investor’s cost over the investment’s underlying book value.
Which of the following risk types increase when an auditor performs substantive analytical audit procedures for financial statement accounts at an interim date?
Detection
The decision to perform substantive analytical procedures (as compared to a test of details) at interim (as compared to the balance sheet date) would increase detection risk.
Which of the following matters relating to an entity’s operations would an auditor most likely consider as an inherent risk factor in planning an audit?
The entity enters into significant derivative transactions as hedges.
By their very nature, derivative transactions are designed to be used as hedges for exposure on existing contracts are quite complex. The accounting rules that provide the basis for GAAP in this area are also complex. As a result of this complexity, the inherent risk of material misstatement is higher.
