Chapter 1

Multiple-Choice Questions
1.
easy
Recording, classifying, and summarizing economic events in a logical manner for the purpose
of providing financial information for decision making is commonly called:
c a. finance.
. auditing.
c. accounting.
d. economics.
!.
easy
"n the audit of historical financial statements, #hich of the follo#ing accounting ases is the
most common$
c a. Regulatory accounting principles.
. Cash asis of accounting.
c. %enerally accepted accounting principles.
d. &i'uidation asis of accounting.
(.
easy
)ny service that re'uires a C*) firm to issue a report aout the reliaility of an assertion that is
made y another party is a+n,:
a. accounting and ookkeeping service.
. attestation service.
c. assurance service.
d. ta- service.
.. /hree common types of attestation services are:
easy a. audits, revie#s, and 0other1 attestation services.
a . audits, verifications, and 0other1 attestation services.
c. revie#s, verifications, and 0other1 attestation services.
d. audits, revie#s, and verifications.
2. +345,
easy
/he organization that is responsile for providing oversight for auditors of pulic companies is
called the 66666666.
d a. )uditing 3tandards 7oard.
. )merican "nstitute of Certified *ulic )ccountants.
c. *ulic 4versight 7oard.
d. *ulic Company )ccounting 4versight 7oard.
8. +345, /he 3aranes-4-ley )ct applies to #hich of the follo#ing companies$
easy a. )ll companies.
c . *rivately held companies.
c. *ulic companies.
d. )ll pulic companies and privately held companies #ith assets greater than 92:: million.
;.
medium
*roviding 'uantitative information that management and others can use to make decisions is the
function of:
d a. management information systems.
. auditing.
c. finance.
d. accounting.
Arens/Elder/Beasley
<. )n audit of historical financial statements most commonly includes the:
medium a. alance sheet, the income statement, and the statement of cash flo#s.
d . income statement, the statement of cash flo#s, and the statement of net #orking capital.
c. statement of cash flo#s, the alance sheet, and the retained earnings statement.
d. alance sheet, the income statement, and the statement of cash flo#s.
=.
medium
/he 66666666666 rate may e defined as appro-imately the rate a ank could earn y investing
in >.3. treasury notes for the same length as the length of a usiness loan.
c a. nominal
. stated
c. risk-free
d. prevailing
1:. /he use of the Certified *ulic )ccountant title is regulated y:
medium a. the federal government.
. state la# through a licensing department or agency of each state.
c. the )merican "nstitute of Certified *ulic )ccountants through the licensing departments
of the ta- and auditing committees.
d. the 3ecurities and ?-change Commission.
11. )n operational audit has as one of its o@ectives to:
medium a. determine #hether the financial statements fairly present the entityAs operations.
c . evaluate the feasiility of attaining the entityAs operational o@ectives.
c. make recommendations for improving performance.
d. report on the entityAs relative success in attaining profit ma-imization.
1!. )n audit of historical financial statements is most often performed to determine #hether the:
medium a. organization is operating efficiently and effectively.
d . entity is follo#ing specific procedures or rules set do#n y some higher authority.
c. management team is fulfilling its fiduciary responsiilities to shareholders.
d. none of these choices.
1(.
medium
)n e-amination of part of an organizationAs procedures and methods for the purpose of
evaluating efficiency and effectiveness is #hat type of audit$
a a. 4perational audit.
. Compliance audit.
c. Binancial statement audit.
d. *roduction audit.
1..
medium
)n audit to determine #hether an entity is follo#ing specific procedures or rules set do#n y
some higher authority is classified as a+n,:
a. audit of financial statements.
. compliance audit.
c. operational audit.
d. production audit.
12. Chich of the follo#ing is a type of audit evidence$
medium a. 4ral responses to the auditor from employees of the company under audit.
d . Critten communications from company employees or outsiders.
c. 4servations made y an auditor.
d. ?vidence may take any of the aove forms.
Arens/Elder/Beasley
18. Chich of the follo#ing services provides the lo#est level of assurance on a financial statement$
medium a. ) revie#.
a . )n audit.
c. Deither service provides assurance on financial statements.
d. ?ach service provides the same level of assurance on financial statements.
1;. /he three re'uirements for ecoming a C*) include all ut #hich of the follo#ing$
medium a. >niform C*) e-amination re'uirement.
c . ?ducational re'uirements.
c. Character re'uirements.
d. ?-perience re'uirement.
1<. "n 0auditing1 financial accounting data, the primary concern is #ith:
medium
a
a. determining #hether recorded information properly reflects the economic events that
occurred during the accounting period.
. determining if fraud has occurred.
c. determining if ta-ale income has een calculated correctly.
d. analyzing the financial information to e sure that it complies #ith government
re'uirements.
1=.
medium
Binancial statement users often receive unreliale financial information from companies. Chich
of the follo#ing is not a common reason for this$
d a. Comple- usiness transactions.
. &arge amounts of data.
c. &ack of firsthand kno#ledge aout the usiness.
d. ?ach of these choices is a common reason for unreliale financial information.
!:. Chich of the follo#ing is not a /rust 3ervices principle as defined y the )"C*) or C"C)$
challenging a. 4nline privacy.
d . )vailaility.
c. *rocessing integrity.
d. 4perational integrity.
!1. Chich one of the follo#ing is more difficult to evaluate o@ectively$
challenging
c
a. *resentation of financial statements in accordance #ith generally accepted accounting
principles.
. Compliance #ith government regulations.
c. ?fficiency and effectiveness of operations.
d. )ll three of the aove are e'ually difficult.
!!. +345,
challenging
/he 3aranes-4-ley )ct prohiits a C*) firm that audits a pulic company from providing
#hich of the follo#ing types of services to that company$
c a. Revie#s of 'uarterly financial statements.
. *reparation of corporate ta- returns.
c. Most consulting services.
d. /a- services.
!(. Chich of the follo#ing audits can e regarded as generally eing a compliance audit$
challenging a. "R3 agentsA e-aminations of ta-payer returns.
a . %)4 auditorAs evaluation of the computer operations of governmental units.
c. )n internal auditorAs revie# of a companyAs payroll authorization procedures.
d. ) C*) firmAs audit of the local school district.
!.. Chich of the follo#ing can e significantly affected y an audit$
challenging a. 7usiness risk.
Arens/Elder/Beasley
. "nformation risk.
c. /he risk-free interest rate.
d. "nherent risk.
!2. /he trait that distinguishes auditors from accountants is the:
challenging a. auditorAs aility to interpret accounting principles generally accepted in the >nited 3tates.
d . auditorAs education eyond the 7achelorAs degree.
c. auditorAs aility to interpret B)37 3tatements.
d. auditorAs accumulation and interpretation of evidence related to a companyAs financial
statements.
!8.
challenging
)ttestation services on information technology include Ce/rust services and 3ys/rust
services. Chich of the follo#ing statements most accurately descries 3ys/rust services$
a. 3ys/rust services provide assurance on usiness processes, transaction integrity and
information processes.
. 3ys/rust services provide assurance on system reliaility in critical areas such as security
and data integrity.
c. ys/rust services provide assurance on internal control over financial reporting.
d. 3ys/rust services provide assurance as to #hether accounting personnel are follo#ing
procedures prescried y the company controller.
?ssay Questions
!;.
easy
Eiscuss the three primary re'uirements for ecoming a C*).
)ns#er:
/he three primary re'uirements for ecoming a C*) are:
Educational requirement. )n undergraduate degree #ith a ma@or in accounting is
re'uired. Most states no# re'uire 12: semester hours for licensure and some states
re'uire 12: semester hours efore taking the C*) e-am.
Uniform CPA examination requirement. /his is a four-part e-am #ith components on
auditing and attestation, financial accounting and reporting, regulation, and usiness
environment and concepts.
Experience requirement. /he e-perience re'uirement varies from state to state #ith
some states re'uiring no e-perience, #hile other states re'uire up to t#o years of audit
e-perience.
!<.
easy
/#o types of attestation services provided y C*) firms are audits and revie#s. Eiscuss the
similarities and differences et#een these t#o types of attestation services. Chich type provides
the least assurance$
)ns#er:
/#o primary types of attestation services are: audits of historical financial statements and
revie#s of historical financial statements. Chile oth services involve the accumulation
and evaluation of evidence regarding assertions made y management in the companyAs
financial statements, a revie# involves a less e-tensive e-amination and provides a lo#er
level of assurance aout the clientAs financial statements than an audit.
Arens/Elder/Beasley
!=.
medium
Eiscuss the differences and similarities et#een the roles of accountants and auditors. Chat
additional e-pertise must an auditor possess eyond that of an accountant$
)ns#er:
/he role of accountants is to record, classify, and summarize economic events in a logical
manner for the purpose of providing financial information for decision making. /o do this,
accountants must have a sound understanding of the principles and rules that provide the
asis for preparing the financial information. "n addition, accountants are responsile for
developing systems to ensure that the entityAs economic events are properly recorded on a
timely asis and at a reasonale cost.
/he role of auditors is to determine #hether the financial information prepared y
accountants properly reflects the economic events that occurred. /o do this, the auditor
must not only understand the principles and rules that provide the asis for preparing
financial information, ut must also possess e-pertise in the accumulation and evaluation
of audit evidence. "t is this latter e-pertise that distinguishes auditors from accountants.
(:.
medium
Eiscuss the similarities and differences et#een financial statement audits, operational audits,
and compliance audits. %ive an e-ample of each type.
)ns#er:
Binancial statement audits, operational audits, and compliance audits are similar in that
each type of audit involves accumulating and evaluating evidence aout information to
ascertain and report on the degree of correspondence et#een the information and
estalished criteria. /he differences et#een each type of audit are the information eing
e-amined and the criteria used to evaluate the information. )n e-ample of a financial
statement audit #ould e the annual audit of "7M Corporation, in #hich the e-ternal
auditors e-amine "7MAs financial statements to determine the degree of correspondence
et#een those financial statements and generally accepted accounting principles. )n
e-ample of an operational audit #ould e an internal auditorAs evaluation of #hether the
companyAs computerized payroll-processing system is operating efficiently and effectively.
)n e-ample of a compliance audit #ould e an "R3 auditorAs e-amination of an entityAs
federal ta- return to determine the degree of compliance #ith the "nternal Revenue Code.
(1.
medium
Eiscuss the similarities and differences et#een the roles of independent auditors, %)4
auditors, internal revenue agents, and internal auditors.
)ns#er:
/he roles of all four types of auditors are similar in that they involve the accumulation and
evaluation of evidence aout information to ascertain and report on the degree of
correspondence et#een the information and estalished criteria. /he differences in their
roles center around the information audited and the criteria used to evaluate that
information. "ndependent auditors primarily audit companiesA financial statements. %)4
auditorsA primary responsiility is to perform the audit function for Congress. "R3 auditors
are responsile for the enforcement of federal ta- la#s. "nternal auditors primarily perform
operational and compliance audits for their employing company.
Arens/Elder/Beasley
(!. +345,
medium
Chat is an engagement to attest on internal control over financial reporting$
)ns#er:
3ection .:. of the 3aranes-4-ley )ct re'uires pulic companies to report managementAs
assessment of the effectiveness of internal control over financial reporting. /he )ct further
re'uires auditors to attest to the effectiveness of internal control over financial reporting.
/his evaluation, #hich is integrated #ith the audit of financial statements, provides
for#ard-looking information, ecause effective internal controls reduce the likelihood of
future misstatements in the financial statements.
((.
challenging
/o do an audit, it is necessary for information to e in a verifiale form and some criteria y
#hich the auditor can evaluate the information. +), Chat information and criteria #ould an
independent C*) firm use #hen auditing a companyAs historical financial statements$ +7, Chat
information and criteria #ould an "nternal Revenue 3ervice auditor use #hen auditing that same
companyAs ta- return$ +C, Chat information and criteria #ould an internal auditor use #hen
performing an operational audit to evaluate #hether the companyAs computerized payroll
processing system is operating efficiently and effectively$
)ns#er:
+), /he information used y a C*) firm in a financial statement audit is the financial
information in the companyAs financial statements. /he most commonly used criteria are
accounting principles generally accepted in the >nited 3tates.
+7, /he information used y an "R3 auditor is the financial information in the companyAs
federal ta- return. /he criteria are the internal revenue code and interpretations.
+C, /he information used y an internal auditor #hen performing an operational audit of
the payroll system could include various items such as the numer of errors made, costs
incurred y the payroll department, and numer of payroll records processed each month.
/he criteria #ould consist of company standards for departmental efficiency and
effectiveness.
(..
challenging
?-plain #hat is meant y information risk, and discuss the four causes of this risk.
)ns#er:
"nformation risk is the possiility that information upon #hich a usiness decision is made
is inaccurate. Bour causes of information risk are:
remoteness of information,
iases and motives of the provider,
voluminous data, and
comple- e-change transactions.
(2. )ttestation services fall into five categories. Chat are these categories$
challenging )ns#er:
/he five categories of attestation services include:
audits of historical financial statements,
attestation on internal control over financial reporting,
revie#s of historical financial statements,
attestation services on information technology, and
other attestation services that may e applied to a road range of su@ect matter.
Arens/Elder/Beasley
Arens/Elder/Beasley
(8.
challenging
Eiscuss four factors that are likely to significantly reduce information risk in the ne-t five to ten
years.
)ns#er:
Bour factors that are likely to significantly reduce information risk in the ne-t five to ten
years are:
technological advances,
more companies #ill go on-line, reducing the risk of investors otaining outdated
information,
ne# accounting and auditing standards, and
auditors #ill find more efficient and effective audit techni'ues.
4ther 4@ective )ns#er Bormat Questions
(;.
easy
a
/he criteria y #hich an auditor evaluates the information under audit may vary #ith the
information eing audited.
a. /rue
. Balse
(<.
easy

/he criteria used y an e-ternal auditor to evaluate pulished financial statements are kno#n as
generally accepted auditing standards.
a. /rue
. Balse
(=. +345,
easy

/he 3aranes-4-ley )ct estalishes standards related to the audits of privately held companies.
a. /rue
. Balse
.:. +345,
easy
a
/he 3aranes-4-ley )ct is #idely vie#ed as having ushered in s#eeping changes to auditing
and financial reporting.
a. /rue
. Balse
.1.
easy

4nly companies that file annual statements #ith the 3ecurities and ?-change Commission are
re'uired to have an annual e-ternal audit.
a. /rue
. Balse
.!.
easy

/he financial statements most commonly audited y e-ternal auditors are the alance sheet, the
income statement, and the statement of changes in retained earnings.
a. /rue
. Balse
.(.
medium

/he primary purpose of a compliance audit is to determine #hether the financial statements are
prepared in compliance #ith generally accepted accounting principles.
a. /rue
. Balse
...
medium
a
Results of compliance audits are typically reported to someone #ithin the organizational unit
eing audited rather than to a road spectrum of outside users.
a. /rue
. Balse
Arens/Elder/Beasley
.2.
medium

/he primary role of the >nited 3tates %eneral )ccounting 4ffice is the enforcement of the
federal ta- la#s as defined y Congress and interpreted y the courts.
a. /rue
. Balse
.8.
medium

C*) firms are never allo#ed to provide ookkeeping services for audit clients.
a. /rue
. Balse
.;. +345,
medium
a
3ection .:. of the 3aranes-4-ley )ct re'uires pulic companies to have an e-ternal auditor
attest to their internal control over financial reporting.
a. /rue
. Balse
.<. +345,
challenging

/he 3aranes-4-ley )ct re'uires a companyAs chairman of the oard of directors, C?4, and
CB4 to certify the companyAs financial statements.
a. /rue
. Balse
.=. +345,
challenging

/he criterion that is most likely to e used as a frame#ork in evaluating a companyAs internal
control over financial reporting under 3ection .:. of the 3aranes-4-ley )ct is the Enterprise
Risk Management frame#ork.
a. /rue
. Balse
2:.
challenging
a
Most pulic companiesA audited financial statements are availale on the 3?CAs ?E%)R
dataase.
a. /rue
. Balse
Arens/Elder/Beasley