Peforming Specific Procedures to Obtain Evidence -- Analytical Procedures

Question 1

Analytical procedures performed in the overall review stage of an audit suggest that several accounts have unexpected relationships. The results of these procedures most likely would indicate that

A. Fraud exists among the relevant account balances.

B. Internal control activities are not operating effectively.

C. Additional tests of details are required.

D. The communication with the audit committee should be revised.

Answer 1

C.

Unexpected relationships discovered through analytics indicate additional investigation is appropriate. To assume that fraud exists in the relevant accounts or to revise communications with the audit committee without further investigation would be an overreaction. Analytics are a substantive test, not a test of internal control.

Question 2

Analytical procedures are

Answer 2

one of many financial audit processes which help an auditor understand the client’s business and changes in the business, and to identify potential risk areas to plan other audit procedures.

Question 3

Analytical procedures are performed at three stages of audit: at start(required), in middle and at end of audit (required). These three stages are risk assessment procedures, substantive analytical procedures, and final analytical procedures.

Answer 3

• Risk assessment procedures are used to assist the auditor to better understand the business and to plan the nature, timing and extent of audit procedures.
• Substantive analytical procedures are used to obtain evidential matter about particular assertions related to account balances or classes of transactions.
• Final analytical procedures are used as an overall review of the financial information in the final review stage of the audit.

Question 4

Evidence for Analytical procedures include

Answer 4

comparison of financial information (data in financial statement) with prior periods, budgets, forecasts, similar industries and so on. It also includes consideration of predictable relationships, such as gross profit to sales, payroll costs to employees, and financial information and non-financial information, for examples the CEO’s reports and the industry news. Possible sources of information about the client include interim financial information, budgets, management accounts, non-financial information, bank and cash records, VAT returns, board minutes, and discussion or correspondence with the client at the year-end.

Question 5

Which of the following procedures would an auditor most likely use to identify unusual year-end transactions?

A. Obtaining a client representation letter.

B. Obtaining a legal inquiry letter.

C. Performing analytical procedures.

D. Testing arithmetic accuracy of the accounting records.

Answer 5

The correct answer is (C).

Performing analytical procedures is the most likely method to identify unusual year-end transactions. The application of analytical procedures is based on the expectation that relationships among data exist and continue in the absence of known conditions to the contrary. Conditions that can cause variations in these relationships include specific unusual transactions and misstated amounts. Thus, performing analytical procedures would help an auditor identify unusual year-end transactions.

Obtaining a client representation letter will not help identify unusual year-end transactions. The client representation letter attests to the accuracy of the financial statements supplied by the management to the auditor. Neither will a legal inquiry letter as this letter only apprises the auditor of any pending litigation against the client but not relevant for auditor in identifying unusual year-end transactions. Testing arithmetic accuracy of accounting records is done so that errors are detected.

Question 6

Which of the following is an analytical procedure that an auditor most likely would perform during the final review stage of an audit?

A. Comparing each individual expense account balance with the relevant budgeted amounts and investigating any significant variations

B. Testing the effectiveness of internal control procedures that appear to be suitably designed to prevent or detect material misstatements

C. Reading the financial statements and considering whether there are any unusual or unexpected balances that were not previously identified

D. Calculating each individual expense account balance as a percentage of total entity expenses and comparing the results with industry averages

Answer 6

C.

The objective of analytical procedures used in the final review stage of the audit is to assess the conclusions reached and evaluate the overall financial statement presentation. It would generally include read­ing the financial statements and notes and considering the adequacy of the evidence gathered in response to unusual or unexpected balances identified and any unusual or unexpected balances or relationships that were not previously identified. Comparing each individual expense account balance with the relevant budgeted amounts and investigating any significant variations; and calculating each individual expense account balance as a percentage of total entity expenses and comparing the results with industry averages are analytical procedures that would be performed during the course of the audit (used as substantive procedures ),not during the final review stage. Analytical procedures are not applicable to tests of controls.

Question 7

Which of the following factors would least influence an auditor’s consideration of the reliability of data for purposes of substantive analytical procedures?

A. Whether the data was processed in an IT system or in a manual accounting system

B. Whether there were controls over the preparation of the data

C. Whether the data used was comparable

D. Whether the data was obtained from independent sources outside the entity or from sources within the entity

Answer 7

A.

Whether the data was processed in an IT system or in a manual accounting system generally would not influence the auditor’s consideration of the reliability of data for purposes of analytics. The reliability of data is influenced by its source and nature and is dependent on the circumstances under which it is obtained. Accordingly, the following are relevant when determining whether data is reliable for purposes of designing substantive analytical procedures: (1) the source of the information available, e.g., information may be more reliable when it is obtained from independent sources outside the entity; (2) the comparability of the information available, e.g., broad industry data may need to be supplemented to be comparable to that of an entity that produces and sells specialized products; (3) the nature and relevance of the information available, e.g., whether budgets have been established as results to be expected rather than as goals to be achieved; and (4) controls over the preparation of the information that are designed to ensure its completeness, accuracy, and validity.

Question 8

An entity’s income statements were misstated due to the recording of journal entries that involved debits and credits to an unusual combination of expense and revenue accounts. The auditor most likely could have detected this misstatement by

A. Tracing a sample of journal entries to the general ledger

B. Evaluating the effectiveness of internal control policies and procedures

C. Investigating the reconciliations between controlling accounts and subsidiary records

D. Performing analytical procedures designed to disclose differences from expectations

Answer 8

D.

Performing analytical procedures designed to disclose differences from expectations would be the most likely way to detect unusual entries. If the auditor’s projection of revenue and/or expense through analytical procedures differed from what the entity actually recorded, the variance here would likely get identified through the unusual revenue and expense accounts. The other answers are not as likely to detect journal entries with unusual combinations of accounts.

Question 9

Which of the following nonfinancial information would an auditor most likely consider in performing analytical procedures during the planning phase of an audit?

A. Turnover of personnel in the accounting department

B. Objectivity of audit committee members

C. Square footage of selling space

D. Management’s plans to repurchase stock

Answer 9

C.

Analytics are concerned with plausible relationships. The square footage of selling space might be used to compare retail revenues and expenses to industry figures and prior year performance. Personnel turnover and objectivity of audit committee members are considered when evaluating the control environment. Management plans are considered when evaluating the control environment, valuation, and disclosure.

Question 10

The chronological steps to applying audit data analytics are as under:

Answer 10

1. Planning of audit data analytics
2. Access and prepare data
3. Assess the relevance and reliability of data
4. Performing audit data analytics
5. Evaluate and Conclude

Question 11

If analytical procedures identify fluctuations or relationships that are inconsistent with other relevant information, the auditor should investigate such differences by

A. Inquiring of management

B. Inquiring of those charged with governance

C. Inquiring of management and obtaining audit evidence relevant to management’s responses

D. Performing tests of details

Answer 11

C.

If analytical procedures identify fluctuations or relationships that are inconsistent with other relevant information or that differ from expected values by a significant amount, the auditor should investigate such differences by inquiring of management and obtaining appropriate audit evidence relevant to management’s responses. (And performing other audit procedures as necessary in the circumstances.)

Regarding incorrect answer a., although inquiry may provide important audit evidence and may even produce evidence of a misstatement, inquiry alone ordinarily does not provide sufficient audit evidence of the absence of a material misstatement at the assertion level.

Question 12

Which of the following factors would most likely influence an auditor’s consideration of the reliability of data when performing analytical procedures?

A. Whether the data were developed in a computerized or a manual accounting system

B. Whether the data were prepared on the cash basis or in conformity with GAAP

C. Whether the data were developed under a system with adequate controls

D. Whether the data were processed in an online system or a batch entry system

Answer 12

C.

The following factors influence the auditor’s consideration of the reliability of data for purposes of achieving audit objectives: whether the data was obtained from independent sources outside the entity or from sources within the entity; whether sources within the entity were independent of those who are responsible for the amount being audited;whether the data was developed under a reliable system with adequate controls; whether the data was subjected to audit testing in the current or prior year;and whether the expectations were developed using data from a variety of sources. Whether the data was processed in an IT system or in a manual accounting system, whether the data was prepared on the cash basis or in conformity with GAAP, and whether the data was processed in an online system or a batch entry system generally would not influence the auditor’s consideration of the reliability of data for purposes of analytics.

Question 13

Which of the following would not be considered an analytical procedure?

A. Converting dollar amounts of income statement account balances to percentages of net sales for comparison with industry averages

B. Developing the current year’s expected net sales based on the sales trend of similar entities within the same industry

C. Projecting a deviation rate by comparing the results of a statistical sample with the actual population characteristics

D. Estimating the current year’s expected expenses based on the prior year’s expenses and the current year’s budget

Answer 13

C.

Analytical audit procedures consist of evaluations of financial information made by a study of plausible relationships among both financial and nonfinancial data. A basic premise underlying the application of analytical audit procedures is that plausible relationships among data may reasonably be expected to exist and continue in the absence of known conditions to the contrary. They are used to assist the auditor in planning the nature, timing, and extent of other auditing procedures; as a substantive test to obtain audit evidence about particular assertions related to account balances or classes of transactions; and as an overall review of the financial information in the final review stage of the audit. All of the answers describe analytical audit procedures performed for these purposes except for projecting a deviation rate by comparing the results of a statistical sample with the actual population characteristics. This is an audit sampling procedure. Audit sampling is the application of audit procedures to less than 100 percent of the population for the purpose of drawing conclusions about the population based on the results of the sample.

Question 14

An auditor’s analytical procedures most likely would be facilitated if the entity

A. Segregated obsolete inventory before the physical inventory count

B. Uses a standard cost system that produces variance reports

C. Corrects material weaknesses in internal control before the beginning of the audit

D. Develops its data from sources solely within the entity

Answer 14

B.

The use of a standard cost system that produces variance reports allows the auditor an opportunity to compare the output from the standard cost system with the financial information presented by management. Segregating obsolete inventory before the physical inventory count would likely facilitate inventory procedures, but not necessarily the analytical procedures. The auditor should assess the reliability of the data by considering the source of the data and the conditions under which it was gathered. Stronger internal controls and independ­ent sources enhance the reliability of data used in analytics, but B. is the best answer.

Editor’s note: These variance reports are providing differences between what the entity expects costs would be, versus what the actual costs are, thus providing the variances. The analytic is essentially being done for the auditor here.

Question 15

An auditor’s analytical procedures most likely would be facilitated if the entity

A. Segregated obsolete inventory before the physical inventory count

B. Uses a standard cost system that produces variance reports

C. Corrects material weaknesses in internal control before the beginning of the audit

D. Develops its data from sources solely within the entity

Answer 15

B.

The use of a standard cost system that produces variance reports allows the auditor an opportunity to compare the output from the standard cost system with the financial information presented by management. Segregating obsolete inventory before the physical inventory count would likely facilitate inventory procedures, but not necessarily the analytical procedures. The auditor should assess the reliability of the data by considering the source of the data and the conditions under which it was gathered. Stronger internal controls and independ­ent sources enhance the reliability of data used in analytics, but B. is the best answer.

Editor’s note: These variance reports are providing differences between what the entity expects costs would be, versus what the actual costs are, thus providing the variances. The analytic is essentially being done for the auditor here.

Question 16

An auditor who performed analytical procedures that compared current-year financial information to the comparable prior period noted a significant increase in net income. Given this result, which of the following expectations of recorded amounts would be unreasonable?

A. A decrease in costs of goods sold as a percentage of sales.

B. A decrease in accounts payable.

C. A decrease in retained earnings.

D. A decrease in notes payable.

Answer 16

The correct answer is (C).

An auditor performed analytical procedures that compared current-year financial information to a prior-period and realized that there was a significant increase in net income. In this situation, it would be unreasonable to think that there would be a decrease in retained earnings.

Retained earnings would only increase as retained earnings are calculated by adding current year’s net profit to the previous year’s closing retained earnings and subtracting any dividends paid.

The reason for decreased retained earnings could either be a net loss in the current year or payments of heavy dividends. In the current situation, net income has increased, so the second reason could be the payment of dividends more than the current year’s net income, which is highly unlikely. So, if net income is increasing, the retained earnings will also increase.

The decrease in retained earnings is an unreasonable expectation.

Question 17

Analytical procedures used in the planning phase of an audit should focus on

A. Documenting the risk factors relating to the susceptibility of assets to misappropriation

B. Identifying the internal control activities that could reduce the assessed level of control risk

C. Discovering uncorrected misstatements that should be communicated to the audit committee

D. Enhancing the auditor’s understanding of the transactions and events that have occurred since the last audit

Answer 17

D.

Analytical procedures used in the planning phase of an audit should focus on enhancing the auditor’s understanding of the client’s business and the auditor’s understanding of the transactions and events that have occurred since the last audit, and identifying areas that may represent specific risks relevant to the audit. The other answers do not describe activities that would occur during the planning phase of an audit.

Question 18

An auditor may achieve audit objectives related to particular assertions by

A. Performing analytical procedures

B. Adhering to a system of quality control

C. Preparing auditor working papers

D. Increasing the level of detection risk

Answer 18

A.

One of the uses of analytics is as a substantive test to obtain audit evidence about particular assertions. For example, if the auditor wanted to use analytics to satisfy valuation over fixed assets, an analytic over depreciation expense can be such a way to achieve this. In the process of achieving objectives, auditors adhere to a system of quality control, prepare work­ing papers, and may possibly increase the level of detection risk; however, none of these actually cause the auditor to achieve audit objectives.

Question 19

While performing procedures in planning an audit, the auditor’s comparison of expectations with recorded amounts yield unusual and unexpected relationships. The auditor should consider the results of the analytical procedures in which of the following?

A. Determining planning materiality and acceptable error.

B. Identifying the risks of material misstatement due to fraud.

C. Identifying significant accounts.

D. Determining which controls to test.

Answer 19

The correct answer is (B).

Comparison of expectations with recorded amounts is an analytical procedure. Analytical procedures are an important tool used by the auditor during risk assessment, in order to identify any unusual or unexpected relationships understanding client’s business and changes in the business to identify potential areas of risk including risks of material misstatement due to fraud.

Analytical procedures are used to assist in planning the nature, timing, and extent of audit. To accomplish this, the analytical procedures used in planning should

Enhancing the auditor’s understanding of the client’s business and the transactions and events that have occurred since the last audit date

Identifying areas that may represent specific risks relevant to the audit including risks of material misstatement due to fraud.

Question 20

An auditor compares annual revenues and expenses with similar amounts from the prior year and investi­gates all changes exceeding 10%. This procedure most likely could indicate that

A. Fourth quarter payroll taxes were properly accrued and recorded, but were not paid until early in the subsequent year.

B. Unrealized gains from increases in the value of available-for-sale securities were recorded in the income account for trading securities

C. The annual provision for uncollectible accounts expense was inadequate because of worsening economic conditions.

D. Notice of an increase in property tax rates was received by management, but was not recorded until early in the subsequent year.

Answer 20

B.

An auditor compares annual revenues and expenses with similar amounts from the prior year and investi­gates all changes exceeding 10%. This procedure most likely could indicate that

A. Fourth quarter payroll taxes were properly accrued and recorded, but were not paid until early in the subsequent year.

B. Unrealized gains from increases in the value of available-for-sale securities were recorded in the income account for trading securities

C. The annual provision for uncollectible accounts expense was inadequate because of worsening economic conditions.

D. Notice of an increase in property tax rates was received by management, but was not recorded until early in the subsequent year.

Question 21

A primary objective of analytical procedures used in the final review stage 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 evaluating the overall financial statement presentation

Answer 21

D.

The objective of analytical procedures used in the overall review stage of an audit is to assist the auditor in assessing the conclusions reached and in the evaluation of the overall financial statement presentation. GAAS require that analytical procedures be applied to some extent for assisting the auditor in planning the nature, extent, and timing of other auditing procedures and as an overall review of the financial information in the final review stage of the audit. Analytical procedures can be, but are not required to be, used as a substantive test during an audit to gather evidence about particular assertions related to account balances or classes of transactions. Identifying account balances that represent specific risks relevant to the audit or detecting fraud that may cause the statements to be misstated are objectives of analytics during the planning, not the final review, stage of the audit. Gathering evidence from tests of details to corroborate financial statement assertions is an objective of using analytical procedures as a substantive test.

Question 22

Which of the following ratios would an engagement partner most likely consider in the overall review stage of an audit?

A. Total liabilities/net sales

B. Accounts receivable/inventory

C. Cost of goods sold/average inventory

D. Current assets/quick assets

Answer 22

C.

An engagement partner would most likely consider cost of goods sold/average inventory in the over­all review stage of an audit. Known as inventory turnover, it measures the number of times inventory is acquired and sold during a period and is thus used as an indicator of the efficiency of the operations of a company. The other answers are not meaningful financial statement analysis calculations.

Question 23

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

Answer 23

C.

Analytical procedures are most appropriate when testing operating expense (i.e. income statement) transactions. Relation­ships involving income statement accounts tend to be more predictable than relationships involving only balance sheet accounts because income statement accounts represent transactions over a period of time, whereas balance sheet accounts represent amounts as of a point in time.

Question 24

Which of the following analytical procedures most likely would be used during the planning 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

Answer 24

C.

Answer A., comparing current year to prior year sales volumes, is the analytical procedure most likely to be used during the planning stage of the audit.

Incorrect answer C., comparing the current year ratio of aggregate salaries paid to the number of employees to the prior year’s ratio is the next best answer. Analytical procedures used in planning (risk assessment procedures) often use data aggregated at a high level which is true of both of these answers. However, in planning the audit, the auditor should perform analytical procedures relating to revenue with the objective of identifying unusual or unexpected relationships that may indicate a material misstatement due to fraudulent financial reporting. Thus, answer A. (comparing sales volumes) is the more likely of the two procedures. The other two answer alternatives (reading the financial statements and notes and considering the adequacy of evidence; and consideration of the letter of inquiry to the entity’s external legal counsel) do not describe analytical procedures; further, they are usually performed near the end of the audit rather than during the planning stage.

Editor’s note: When you see questions that ask about the planning phase, you should be thinking about analytical procedures (they’re required at the planning and concluding phase of the audit).

Question 25

Which of the following ratios would an engagement partner most likely calculate when reviewing the balance sheet in the overall review stage of an audit?

A. Quick assets/current assets

B. Accounts receivable/inventory

C. Interest payable/interest receivable

D. Total debt/total assets

Answer 25

D.

The overall review of the audit is concerned with the big picture. The other answer options are ana­lytical procedures that likely are performed during earlier stages, or not at all.

Question 26

Which of these detail testing procedures could use audit data analytics most appropriately?

A. Testing Operating effectiveness of an office’s biometric system

B. Examining Minutes of Board Meeting for approval of Purchases

C. Checking approval of Purchase Order

D. Cash receipts to sales invoice matching procedure

Answer 26

The correct answer is (D).

Tests of details are used by auditors to collect evidence that the balances, disclosures, and underlying transactions associated with a client’s financial statements are correct.

The matching of cash receipts to a sales invoice is the collection of evidence to ensure the underlying transaction is not a fraudulent one.

The high volume of transactions makes it appropriate for using Audit Data Analytics.

The other options are procedures for a test of controls.

Question 27

The auditor should consider certain factors in assessing the efficiency and effectiveness of analytical procedures as compared to tests of details. In determining whether and to what extent analytical procedures should be used, which of the following should the auditor consider?

A. Interrelationships of financial information.

B. Non-financial information that may affect financial information.

C. The nature of the assertion tested.

D. Explanations provided by the client.

Answer 27

The correct answer is (C).

There are two categories of substantive tests: Analytical procedures and tests of detail. Analytical procedures consist of the comparison of data from different sources to determine if reported information is correct. Tests of details include tracing figures to supporting documentation to determine if transactions are valid, properly classified, accurate and complete. Management assertions are claims made by members of management regarding certain aspects of a business on the financial statements. The nature of the assertions will help determine the efficiency and effectiveness of analytical procedures. The nature of the assertion will help determine whether and to what extent analytical procedures should be used when assessing the efficiency and effectiveness of analytical procedures as compared to tests of details.

Question 28

An auditor discovered that a client’s accounts receivable turnover is substantially lower for the current year than for the prior year. This may indicate that

A. Fictitious credit sales have been recorded during the year

B. Employees have stolen inventory just before the year-end

C. The client recently tightened its credit-granting policies

D. An employee has been lapping receivables in both years

Answer 28

A.

A/R turnover is the number of times that the A/R balance is collected during the year. Fictitious sales increase A/R, but leave collections the same, so A/R turnover decreases. A/R turnover would be unaffected by current inventory levels. Tightening credit-granting policies would tend to increase A/R turnover. Lapping receivables in two years would result in both years’ receivables being misstated, but unless the volume of lapped amounts changed, turnover would not be affected.

Question 29

An auditor compares current annual revenues and expenses with those of the prior year and investigates all changes exceeding10%. By this procedure the auditor would be most likely to learn that

A. An increase in property tax rates has not been recognized in the client’s accrual.

B. The client changed its capitalization policy for small tools in the current year.

C. Fourth quarter payroll taxes were not paid.

D. The current provision for uncollectible accounts is inadequate because of worsening economic conditions.

Answer 29

B.

A comparison of revenues and expenses with those of the prior year is likely to reveal a change in the capitalization policy for small tools .For instance ,if tools costing less than $ 25 formerly were expensed and the policy is changed to $100,this is likely to show a substantial increase in the amount of tools expensed during the period . Answer c . concerns a liability account (payroll taxes payable), not a revenue or expense account. Fail­ure to recognize the property tax increase would make the account balances comparable and so the auditor would not investigate.

Question 30

An auditor’s decision whether to apply analytical procedures as substantive tests usually is determined by the

A. Availability of documentary evidence that should be verified

B. Extent of accounting estimates used in preparing the financial statements

C. Precision and reliability of the data used to develop expectations

D. Number of transactions recorded just before and just after the year-end

Answer 30

C.

The decision about which procedure to use (analytics or tests of details, or a combination) is based on the auditor’s judgment of their effectiveness and efficiency in identifying potential misstatements in the given situation. The effectiveness and efficiency of analytical procedures is based on the nature of the assertion; the plausibility and predictability of the relationship; the availability and reliability of the data used to develop expec­tations; and the precision of the expectation. The other answers are not relevant considerations.

Question 31

To be effective, analytical procedures in the overall review stage of an audit engagement should be performed by

A. The staff accountant who performed the substantive auditing procedures.

B. The managing partner who has responsibility for all audit engagements at that practice office.

C. A manager or partner who has a comprehensive knowledge of the client’s business and industry.

D. The CPA firm’s quality control manager or partner who has responsibility for the firm’s peer review program.

Answer 31

C.

Understanding financial relationships is essential to evaluating the results of analytics and usually requires knowledge of the client and the industry. The staff accountant may not be objective regarding his or her own work and may have limited industry knowledge. It would not be practicable for the managing partner who has responsibility for all audit engagements at that practice office to perform this procedure for all audits. A firm’s quality control manager is not a member of the engagement team and, thus, may not participate in this manner in the engagement.

Question 32

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.

Answer 32

C.

Increased sales to comparable customers would double accounts receivable (A/R) without a change in the allowance for doubtful accounts as a percentage of A/R. The allowance for doubtful accounts as a percentage should increase if a greater percentage of A/R is overdue this year. Improved internal control over cash receipts would tend to decrease accounts receivable balances. The allowance for doubtful accounts as a percentage should decrease if the client has less customers with poor credit ratings.

Question 33

Substantive analytical procedures are required

A. To be documented only when used as the principal substantive test of a significant financial statement assertion

B. Near the end of the audit to assist the auditor when forming an overall conclusion

C. During the planning phase of an audit as part of the assessment of risk and during the audit as a response to assessed risks

D. To be documented only when they identify fluctuations or relationships that are inconsistent by a significant amount

Answer 33

B.

Substantive analytical procedures are required as risk assessment procedures used to plan the audit and near the end of the audit to assist the auditor when forming an overall conclusion about whether the financial statements are consistent with the auditor’s understanding of the entity.

Substantive analytical procedures should be documented whenever they are performed.

Substantive analytical procedures may be performed during the audit as a response to assessed risks, but they are not a required procedure for that phase of the audit.

Substantive analytical procedures should be documented whenever they are performed not just when they reveal fluctuations or inconsistencies. (Editor note: If analytical procedures identify fluctuations or relationships that are inconsistent with other relevant information or that differ from expected values by a significant amount, the auditor should investigate such differences by (1) inquiring of management and obtaining appropriate audit evidence relevant to management’s responses (corroboration of management’s responses) and (2) performing other audit procedures as necessary in the circumstances.)

Question 34

Analytical procedures performed in the final review stage of an audit generally would include

A. Reassessing the factors that assisted the auditor in deciding on preliminary materiality levels and audit risk

B. Considering the adequacy of the evidence gathered in response to unexpected balances identified in planning

C. Summarizing uncorrected misstatements specifically identified through tests of details of transactions and balances

D. Calculating projected uncorrected misstatements estimated through audit sampling techniques

Answer 34

B.

The final review stage of the audit provides an overall review of financial information in light of the audit opinion expressed. A final consideration of the adequacy of evidence is appropriate for this stage. Factors that determined the preliminary materially and audit risk levels would have been reassessed before arriving at final materially and audit risk levels. Summarizing specified uncorrected misstatements and calculating projected uncorrected misstatements estimated through sampling techniques is done before deciding on an audit opinion.

Editor’s note: The final review stage of the audit is the “beginning of the end” and so it wouldn’t necessarily be the stage where any substantive testing would be done. Therefore, of the answer choices listed, choice (B) would make the most sense here.

Question 35

In auditing long-term bonds payable, an auditor most likely would

A. Perform analytical procedures on the bond premium and discount accounts

B. Examine documentation of assets purchased with bond proceeds for liens

C. Compare interest expense with the bonds payable amount for reasonableness

D. Confirm the existence of individual bondholders at year-end

Answer 35

C.

One of the audit objectives of long-term liabilities is to verify that interest expense is correctly computed and that other contractual obligations are satisfied. The auditor would most likely compare interest expense with the bonds payable amount to see if it is reasonable, and thereby test valuation. This procedure could also aid discovery of undisclosed liabilities.

Question 36

Which of the following results of analytical procedures would most likely indicate possible unrecorded liabilities?

A. Current ratio of 2:1 as compared to 5:1 for the prior period.

B. Ratio of accounts payable to total current liabilities of 0.4:1, compared to 0.6:1 for the prior period.

C. Accounts payable turnover of 5, compared to 10 for the prior period.

D. Accounts payable balance increase greater than 10% over the prior period.

Answer 36

The correct answer is (B).

The ratio of accounts payable to total current liabilities is 0.4:1, compared to a 0.6:1 for the prior period. A decrease in the ratio of accounts payable compared to total current liabilities most likely indicates possible unrecorded liabilities. In the prior year, there were 0.6 accounts payable for every 1 current liability. In the current year, there are 0.4 accounts payable for every current liability. This means that current liabilities have gone down. The best indication is that the decrease in accounts payable may indicate possible unrecorded liabilities.

(A) is incorrect because the current ratio (current assets / current liabilities) decreased from the prior year. In the prior year, there were 5 current assets for every 1 current liability. In the current year, there are 2 current assets for every 1 current liability. In other words, there is a greater proportion of current liabilities for every current asset. This would not be a clear sign of unrecorded liabilities.

(C) incorrect because Accounts Payable Turnover (Purchases / Average Accounts Payable) decreased from the prior year. This means that there is a greater proportion of average accounts payable for every purchase. This is also unlikely to be an indication of possible unrecorded liabilities.

(D) is incorrect because an increase in accounts payable from the prior year most likely would not indicate possible unrecorded liabilities.

Question 37

Which of the following procedures would a CPA most likely perform in the planning phase of a financial statement audit?

A. Make inquiries of the client’s lawyer concerning pending litigation

B. Perform cutoff tests of cash receipts and disbursements

C. Compare financial information with nonfinancial operating data

D. Recalculate the prior year’s accruals and deferrals

Answer 37

C.

During the planning phase of a financial statement audit a CPA would most likely compare financial information with nonfinancial operating data. This is an example of an analytical procedure. Analytical procedures are required during the planning phase. The latest date of the period coved by the lawyer’s response to an auditor’s inquiries should be as close as possible to the date of the auditor’s report, thus, it is not likely these inquiries would be made during the planning phase. Cutoff tests of cash receipts and disbursements as well as the recalculation of the prior year’s accruals and deferrals are procedures performed during the gathering-evidence phase of the audit rather than the planning phase.

Question 38

Which of the following procedures would an auditor most likely perform in auditing the statement of cash flows?

A. Compare the amounts included in the statement of cash flows to similar amounts in the prior year’s statement of cash flows

B. Reconcile the cutoff bank statements to verify the accuracy of the year-end bank balances

C. Vouch all bank transfers for the last week of the year and first week of the subsequent year

D. Reconcile the amounts included in the statement of cash flows to the other financial statements’ balances and amounts

Answer 38

D.

A reconciliation between the amounts included in the cash flow statement and other financial state­ments would be a procedure the auditor would perform because the cash flow statement amounts are a result of the transactions reflected in and the changes in balances on the other financial statements. Relationships between current year and prior year amounts due do not necessarily exist as can be expected on the balance sheet and income statement. This procedure would provide more audit evidence in the overall review stage of the audit for the balance sheet and income statement. Answer b. is a procedure an auditor would perform in auditing the cash balance on the balance sheet. Answer c. is a procedure the auditor would perform in auditing the cash balance on the balance sheet.

Question 39

Extracting useful information from a pool of voluminous data to identify patterns and anomalies to assist in auditing and assurance engagements is known as:

A. SaaS

B. Blockchain

C. Audit data analytics

D. Audit data targeting

Answer 39

The correct answer is (C).

Audit Data Analytics (ADA) is the practice of making use of data analytics tools to make sense out of big data involved in audit and similar assurance engagements through visualizing results in a graphical, convenient and fast manner.

ADA is used to discover trends and patterns in data using advanced software with the sole objective of furthering the audit objectives.

Question 40

Which of the following actions is a part of the first step of application of Audit Data Analytics?

A. Determination of audit data analytics objectives

B. Evaluation of reliability of the selected data

C. Derive conclusions based on evidences obtained

D. Performing data analytics using advanced tools and techniques

Answer 40

The correct answer is (A).

The foremost task while setting out with ADA is to plan the objectives of the data analysis, consider the several data sets available, handpick proper data based on desirable traits and choose the data analytics tools and techniques to employ in the professional engagement.

Question 41

If audit data analytics are used for risk assessment procedures, which of the following statements is true with regard to evidence or findings obtained from the analytics?

A. The evidence/findings cannot be used in substantive procedures

B. The evidence/findings cannot be used in the test of details

C. The evidence/findings cannot be used in the test of controls

D. The evidence/findings can be used in any other audit procedure

Answer 41

The correct answer is (D)

Audit Data Analytics should be looked at as a continuous and iterative process. The evidence derived from ADA can be used to form an auditor’s opinion in the final stages. ADA evidence can also be used in future audits and conversely, they can also provide fresh opinions about earlier audits. An audit finding from one phase can also provide a better understanding of an earlier stage of the same audit.

Evidence and findings obtained from risk assessment procedures can be used in any other audit procedures as well.

Question 42

An auditor’s decision either to apply analytical procedures as substantive tests or to perform tests of transactions and account balances usually is determined by the

A. Availability of data aggregated at a high level

B. Auditor’s familiarity with industry trends

C. Timing of tests performed after the balance sheet date

D. Relative effectiveness and efficiency of the tests

Answer 42

D.

The auditor’s reliance on substantive tests to achieve an audit objective related to a particular assertion may be derived from tests of details, from analytical procedures, or from a combination of both. The decision about which procedure or procedures to use to achieve a particular audit objective is based on the auditor’s judgment on the expected effectiveness and efficiency of the available procedures. An auditor’s decision whether to apply analytics or to perform tests of transactions and account balances is not determined solely by the availability of data aggregated at a high level, the auditor’s familiarity with industry trends, or the timing of tests performed after the balance sheet date.

Question 43

Which of the following would be performed during a review engagement?

A. Examination of board minutes

B. Confirmation of cash and accounts receivable

C. Comparison of current-year to prior-year account balances

D. Recalculation of depreciation expense

Answer 43

C.

Review engagement procedures generally are limited to inquiries and analytics. Comparison of current-year to prior-year account balances is an analytical procedure.

Answers A., B., and D. are audit pro­cedures.

Question 44

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

Answer 44

A.

A lower than expected return on an equity method investment 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. The investee’s decision to reduce cash dividends would increase the expected carrying amount of the investment under the equity method. Marketable securities (available-for-sale or trading securities) are not accounted for using the equity method. A fluctuation in the market price of the investee’s common stock would not affect investments accounted for using the equity method.

Editor’s note: If you have no idea what any of these answers mean, take a look at choices (B) and (D). These choices are outside of both the auditor’s and the entity’s control and as such, can be knocked-off as possible answer choices. You come down to choices (A) and (C) and at this point you’re choosing between two choices, of which (A) is the best answer.

Question 45

An auditor discovered that a client’s accounts receivable turnover is substantially lower for the current year than for the prior year. This may indicate that

A. Obsolete inventory has not yet been reduced to fair market value.

B. There was an improper cutoff of sales at the end of the year.

C. An unusually large receivable was written off near the end of the year.

D. The aging of accounts receivable was improperly performed in both years.

Answer 45

B.

If the client did not properly cutoff sales at the end of the year, then A/R would be overstated as well as sales. A/R turnover equals net credit sales divided by average net accounts receivable. Therefore, if net credit sales is overstated and average net receivables is over stated disproportionately ,the turnover would be lower than expected when compared to the prior year. Answers a. and d. would not affect A/R turnover. A/R turnover would increase if a large receivable were written off near the end of the year.

Question 46

Which one of the following tend to be most predictable for purposes of analytical procedures applied as substantive tests?

A. Data subject to audit testing in the prior year

B. Transactions subject to management discretion

C. Relationships involving income statement accounts

D. Relationships involving balance sheet accounts

Answer 46

C.

As higher levels of assurance are desired from analytical procedures, more predictable relationships are required to develop the expectation. Relationships involving income statement accounts tend to be more predictable than relationships involving only balance sheet accounts because income statement accounts repre­sent transactions over a period of time, whereas balance sheet accounts represent amounts as of a point in time. Relationships involving transactions subject to management discretion are sometimes less predictable.

Editor’s note: Take a look at the examples we’ve been discussing regarding analytical procedures; they’ve revolved around revenue and expense accounts. Such procedures wouldn’t be effective to understand cash or property, plant and equipment (asset) balances, or for notes payable and accounts payable balances (liabilities), since these balances are recorded as a snapshot (i.e. at a point in time).

Question 47

In testing long-term investments, an auditor ordinarily would use analytical procedures to ascertain the reasonableness of the

A. Completeness of recorded investment income

B. Classification between current and non-current portfolios

C. Valuation of marketable equity securities

D. Existence of unrealized gains or losses in the portfolio

Answer 47

A.

Analytical tests as a source of information for developing expectations include analysis of the relationships among elements of financial information within the period. The reasonableness of answers (b), (c), and (d) cannot be analytically determined due to the nature of the assertions.

Question 48

Which of the following most likely would cause an auditor to consider whether a client’s financial state­ments contain material misstatements?

A. Management did not disclose to the auditor that it consulted with other accountants about significant accounting matters

B. The chief financial officer will not sign the representation letter until the last day of the auditor’s fieldwork.

C. Audit trails of computer-generated transactions exist only for a short time.

D. The results of ananalytical procedure disclose unexpected differences.

Answer 48

D.

An auditor would most likely consider the possibility that a client’s financial statements contained material misstatements if the results of an analytical procedure disclosed unexpected differences. An auditor should evaluate significant unexpected differences. If an explanation for the difference cannot be obtained, the auditor should design further audit procedures to determine whether the difference is a likely misstatement. Whenever an auditor becomes aware that management has consulted with other accountants about significant accounting matters (whether or not this was disclosed to the auditor by management) the auditor should discuss with those charged with governance the auditor’s views about those same matters. Whether this would cause the auditor to consider that the financial statements might be materially misstated would depend on the circum­stances. The delivery of the representation letter is an issue that should be explained to the client during the initial stage of the planning stage of the audit and documented in an engagement letter along with other understandings with the client. The representations should be dated as of the date of the auditor’s report. (The reference to completion of fieldwork is based on superseded guidance.) At any rate, the CFO is not refusing to sign and although such representations are part of the audit evidence, they complement, rather than serve as a substitute for, other audit procedures; thus, any issue with them would be less of a concern regarding material misstatements than an unexpected difference disclosed by analytical procedures. Audit trails of computer-generated transactions existing for a short time are not an indication of a material misstatement. The auditor should be aware of the client’s record retention policies and either arrange to test the transactions during their existence or develop alternative auditing procedures.

Question 49

Auditors try to identify predictable relationships when applying analytical procedures. Relationships involv­ing transactions from which of the following accounts most likely would yield the highest level of evidence?

A. Interest expense

B. Allowance for doubtful accounts

C. Accounts receivable

D. Accounts payable

Answer 49

A.

Relationships involving income statement accounts, such as interest expense, tend to be more pre­dictable than relationships involving only balance sheet accounts because income statement accounts represent transactions over a period of time, whereas balance sheet accounts represent amounts as of a point in time

Question 50

Data Analytics can be used in which steps of the audit?

A. Test of controls

B. Test of details

C. Risk assessment procedures

D. Can be used in all steps of an audit

Answer 50

The correct answer is (D).

Data analytics is a technique which helps examine data in a much more critical, controlled and scientific manner to draw out relevant conclusions. As such, its application is not limited to certain areas of an audit and can be used in every phase of the engagement, including:

• Test of controls
• Test of details
• Risk Assessment Procedures
• Final opinion