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Chapter 6

Multiple-Choice Questions
1. easy a The objective of the ordinary audit of financial statements is the expression of an opinion on: a. the fairness of the financial statements. b. the accuracy of the financial statements. c. the accuracy of the annual report. d. the balance sheet and income statement. f the auditor believes that the financial statements are not fairly stated or is unable to reach an conclusion because of insufficient evidence! the auditor: a. should "ithdra" from the en#a#ement. b. should re$uest an increase in audit fees so that more resources can be used to conduct the audit. c. has the responsibility of notifyin# financial statement users throu#h the auditor%s report. d. should notify re#ulators of the circumstances. 'uditors accumulate evidence to: a. defend themselves in the event of a la"suit. b. justify the conclusions they have other"ise reached. c. satisfy the re$uirements of the (ecurities 'cts of 1)&& and 1)&*. d. enable them to reach conclusions about the fairness of the financial statements. The responsibility for adoptin# sound accountin# policies and maintainin# ade$uate internal control rests "ith the: a. board of directors. b. company mana#ement. c. financial statement auditor. d. company%s internal audit department. The auditor%s best defense "hen material misstatements are not uncovered is to have conducted the audit: a. in accordance "ith auditin# standards. b. as effectively as reasonably possible. c. in a timely manner. d. only after an ade$uate investi#ation of the mana#ement team. f mana#ement insists on financial statement disclosures that the auditor finds unacceptable! the auditor can: ssue an adverse audit report ssue a $ualified audit report a. -es -es b. .o .o c. -es .o d. .o -es f mana#ement insists on financial statement disclosures that the auditor finds unacceptable! the auditor can do all but "hich of the follo"in#0 a. ssue an adverse audit report. b. ssue a disclaimer of opinion. c. 1ithdra" from the en#a#ement. d. ssue a $ualified audit report.

2. easy c

&. easy d

*. easy b

+. easy a

,. easy a

/. easy b

Arens/Elder/Beasley

2. easy d

1hich of the follo"in# is not one of the reasons that auditors provide only reasonable assurance on the financial statements0 a. The auditor commonly examines a sample! rather than the entire population of transactions. b. 'ccountin# presentations contain complex estimates "hich involve uncertainty. c. 3raudulently prepared financial statements are often difficult to detect. d. 'uditors believe that reasonable assurance is sufficient in the vast majority of cases. n certifyin# their annual financial statements! the C78 and C38 of a public company certify that the financial statements comply "ith the re$uirements of: a. 9''5. b. the (arbanes-8xley 'ct. c. the (ecurities 7xchan#e 'ct of 1)&*. d. 9''(. 1hich of the follo"in# statements is most correct re#ardin# errors and fraud0 a. 'n error is unintentional! "hereas fraud is intentional. b. 3rauds occur more often than errors in financial statements. c. 7rrors are al"ays fraud and frauds are al"ays errors. d. 'uditors have more responsibility for findin# fraud than errors. 1hich of the follo"in# statements is true of a public company%s financial statements0 a. (arbanes-8xley re$uires the C78 only to certify the financial statements. b. (arbanes-8xley re$uires the C38 only to certify the financial statements. c. (arbanes-8xley re$uires the C78 and C38 to certify the financial statements. d. (arbanes-8xley neither re$uires the C78 nor the C38 to certify the financial statements. 1hich of the follo"in# is not one of the three cate#ories of assertions0 a. 'ssertions about classes of transactions and events for the period under audit b. 'ssertions about financial statements and correspondence to 9''5 c. 'ssertions about account balances at period end d. 'ssertions about presentation and disclosure f a short-term note payable is included in the accounts payable balance on the financial statement! there is a violation of the: a. completeness assertion. b. existence assertion. c. cutoff assertion. d. classification and understandability assertion. 5rofessional s<epticism re$uires auditors to possess a4n6 ====== mind. a. introspective b. $uestionin# c. intelli#ent d. unbelievin# The auditor has no responsibility to plan and perform the audit to obtain reasonable assurance that misstatements! "hether caused by errors or fraud! that are not ======== are detected. a. b. c. d. important to the financial statements statistically si#nificant to the financial statements material to the financial statements identified by the client

). 45ublic6 challen#in# c

1:. easy a

11. 4(8;6 easy c

12. easy b

1&. easy d

1*. easy b

1+. easy c

Arens/Elder/Beasley

1,. easy c

3raudulent financial reportin# is most li<ely to be committed by "hom0 a. >ine employees of the company. b. 8utside members of the company%s board of directors. c. Company mana#ement. d. The company%s auditors. 1hich of the follo"in# "ould most li<ely be deemed a direct-effect ille#al act0 a. ?iolation of federal employment la"s. b. ?iolation of federal environmental re#ulations. c. ?iolation of federal income tax la"s. d. ?iolation of civil ri#hts la"s. The concept of reasonable assurance indicates that the auditor is: a. not an insurer of the correctness of the financial statements. b. not responsible for the fairness of the financial statements. c. responsible only for issuin# an opinion on the financial statements. d. responsible for findin# all misstatements. Tests of details of balances are specific procedures intended to: a. test for monetary errors in the financial statements. b. prove that the accounts "ith material balances are classified correctly. c. prove that the trial balance is in balance. d. identify the details of the internal control system. 1hich of the follo"in# is the auditor least li<ely to do "hen a"are of an ille#al act0 a. @iscuss the matter "ith the client%s le#al counsel. b. 8btain evidence about the potential effect of the ille#al act on the financial statements. c. Contact the local la" enforcement officials re#ardin# potential criminal "ron#doin#. d. Consider the impact of the ille#al act on the relationship "ith the company%s mana#ement. The auditor #ives an audit opinion on the fair presentation of the financial statements and associates his or her name "ith it "hen! on the basis of ade$uate evidence! the auditor concludes that the financial statements are unli<ely to mislead: a. investors. b. mana#ement. c. a prudent user. d. the reader. The responsibility for the preparation of the financial statements and the accompanyin# footnotes belon#s to: a. the auditor. b. mana#ement. c. both mana#ement and the auditor e$ually. d. mana#ement for the statements and the auditor for the notes. 1hen en#a#ed to audit the financial statements! it is acceptable for the auditor to draft: a. b. c. d. The client%s financial statements -es .o -es .o The footnotes to the client%s financial statements -es .o .o -es

1/. easy c

12. easy a

1). easy a

2:. easy c

21. medium c

22. medium b

2&. medium a

2*.

The auditor has considerable responsibility for notifyin# users as to "hether or not the

Arens/Elder/Beasley

medium a

statements are properly stated. This imposes upon the auditor a duty to: a. provide reasonable assurance that material misstatements "ill be detected. b. be a #uarantor of the fairness in the statements. c. be e$ually responsible "ith mana#ement for the preparation of the financial statements. d. be an insurer of the fairness in the statements. AThe auditor should not assume that mana#ement is dishonest! but the possibility of dishonesty must be considered.B This is an example of: a. unprofessional behavior. b. an attitude of professional s<epticism. c. due dili#ence. d. a rule in the ' C5'%s Code of 5rofessional Conduct. f the auditor "ere responsible for ma<in# certain that all of mana#ement%s assertions in the financial statements "ere absolutely correct: a. ban<ruptcies could no lon#er occur. b. ban<ruptcies "ould be reduced to a very small number. c. audits "ould be much easier to complete. d. audits "ould not be economically feasible. The auditor%s best defense "hen existin# material misstatements in the financial statements are not uncovered in the audit is: a. the audit "as conducted in accordance "ith #enerally accepted accountin# principles. b. the financial statements are the client%s responsibility. c. the client is #uilty of contributory ne#li#ence. d. the client is #uilty of fraudulent misrepresentation. 3raudulent financial reportin# is often called: a. mana#ement fraud. b. theft of assets. c. defalcation. d. embeCClement. 1hich of the follo"in# statements is usually true0 a. t is easier for the auditor to uncover fraud than errors. b. t is easier for the auditor to uncover indirect-effect ille#al acts than fraud. c. The auditor%s responsibility for detectin# direct-effect ille#al acts is similar to the responsibility to detect fraud. d. The auditor%s responsibility for detectin# indirect-effect ille#al acts is similar to the responsibility to detect fraud. 'uditin# standards ma<e ===== distinction4s6 bet"een the auditor%s responsibilities for searchin# for errors and fraud. a. little b. a si#nificant c. no d. various n comparin# mana#ement fraud "ith employee fraud! the auditor%s ris< of failin# to discover the fraud is: a. #reater for mana#ement fraud because mana#ers are inherently more deceptive than employees. b. #reater for mana#ement fraud because of mana#ement%s ability to override existin# internal controls. c. #reater for employee fraud because of the hi#her crime rate amon# blue collar "or<ers. d. #reater for employee fraud because of the lar#er number of employees in the or#aniCation.

2+. easy b

2,. medium d

2/. medium d

22. medium a

2). challen#in# c

&:. medium c

&1. medium b

Arens/Elder/Beasley

&2. medium a

1hich of the follo"in# statements is correct "ith respect to the auditor%s responsibilities relative to the detection of indirect-effect ille#al acts0 a. The auditor has no responsibility for searchin# for indirect-effect ille#al acts. b. The auditor has the same responsibility for searchin# for indirect-effect ille#al acts as any other potential misstatement that may occur. c. 'uditors have responsibility for searchin# for any ille#al act! "hether direct-effect or indirect-effect. d. @iscovery of indirect-effect ille#al acts is usually easier than discovery of fraud. 1hen comparin# the auditor%s responsibility for detectin# employee fraud and for detectin# errors! the profession has placed the responsibility: a. more on discoverin# errors than employee fraud. b. more on discoverin# employee fraud than errors. c. e$ually on discoverin# either one. d. on the senior auditor for detectin# errors and on the mana#er for detectin# employee fraud. f several employees collude to falsify documents! the chance a normal audit "ould uncover such acts is: a. very lo". b. very hi#h. c. Cero. d. none of the above. 1hen plannin# the audit! if the auditor has no reason to believe that ille#al acts exist! the auditor should: a. include audit procedures "hich have a stron# probability of detectin# ille#al acts. b. still include some audit procedures desi#ned specifically to uncover ille#alities. c. i#nore the issue. d. ma<e in$uiries of mana#ement re#ardin# their policies for detectin# and preventin# ille#al acts and re#ardin# their <no"led#e of violations! and then rely on normal audit procedures to detect errors! irre#ularities! and ille#alities. 1hen the auditor has reason to believe an ille#al act has occurred! the auditor should: a. in$uire of mana#ement only at one level belo" those li<ely to be involved "ith the ille#ality. b. be#in communication "ith the 3'(D in accordance "ith 5C'8D re#ulations. c. consider accumulatin# additional evidence to determine if there is actually an ille#al act. d. "ithdra" from the en#a#ement. 1hen the auditor <no"s that an ille#al act has occurred! the auditor must: a. report it to the proper #overnmental authorities. b. consider the effects on the financial statements! includin# the ade$uacy of disclosure. c. "ithdra" from the en#a#ement. d. issue an adverse opinion. f an auditor uncovers an ille#al act at a public company! the auditor must notify: a. local la" enforcement officials. b. the 5ublic Company 'ccountin# 8versi#ht Doard. c. the (ecurities and 7xchan#e Commission. d. all of the above. 1hy does the auditor divide the financial statements into smaller se#ments0 a. Esin# the cycle approach ma<es the audit more mana#eable. b. Most accounts have fe" relationships "ith others and so it is more efficient to brea< the financial statements into smaller pieces.

&&. medium c

&*. medium a

&+. medium d

&,. medium c

&/. medium b

&2. 45ublic6 medium c

&). medium a

Arens/Elder/Beasley

c. d. *:. medium b

The cycle approach is used because auditin# standards re$uire it. 'll of the above are correct.

1hy does the auditor divide the financial statements into se#ments around the financial statement cycles0 a. Most auditors are trained to audit cycles as opposed to entire financial statements. b. The approach aids in the assi#nment of tas<s to different members of the audit team. c. The cycle approach is re$uired by auditin# standards. d. The cycle approach allo"s the auditor to detect indirect-effect ille#al acts. The most important #eneral led#er account included in and affectin# several cycles is the: a. cash account. b. inventory account. c. income tax expense and liability accounts. d. retained earnin#s account. Mana#ement assertions are: a. implied or expressed representations about accounts! transactions! and disclosures in the financial statements. b. stated in the footnotes to the financial statements. c. explicitly expressed representations about the financial statements. d. provided to the auditor in the assertions letter! but are not disclosed on the financial statements. 1hich of the follo"in# statements is true0 a. 'udit objectives follo" and are closely related to mana#ement assertions. b. Mana#ement%s assertions follo" and are closely related to the audit objectives. c. The auditor%s primary responsibility is to find and disclose fraudulent mana#ement assertions. d. 'ssertions about presentation and disclosure deal "ith "hether the accounts have been included in the financial statements at appropriate amounts. 1hich of the follo"in# statements is true re#ardin# the distinction bet"een #eneral audit objectives and specific audit objectives for each account balance0 a. The specific audit objectives are applicable to every account balance on the financial statements. b. The #eneral audit objectives are applicable to every account balance on the financial statements. c. The #eneral audit objectives are stated in terms tailored to the en#a#ement. d. 3or any #iven class of transactions! usually only one audit objective must be met to conclude the transactions are properly recorded.. 1hich of the follo"in# statements about the existence and completeness assertions is not true0 a. The existence and completeness assertions emphasiCe different audit concerns. b. 7xistence deals "ith overstatements and completeness deals "ith understatements. c. 7xistence deals "ith understatements and completeness deals "ith overstatements. d. The completeness assertion deals "ith unrecorded transactions. The occurrence assertion applies to =======. a. presentation and disclosure matters b. classes of transactions and events durin# the period c. account balances d. proper classification of income statement accounts 1hich of the follo"in# mana#ement assertions is not associated "ith transaction-related audit objectives0

*1. medium a

*2. medium a

*&. medium a

**. medium b

*+. medium c

*,. medium b

*/. medium

Arens/Elder/Beasley

a. b. c. d.

8ccurrence Classification and understandability 'ccuracy Completeness

*2. medium d

1hich of the follo"in# statements is not true0 a. Dalance-related audit objectives are applied to account balances. b. Transaction-related audit objectives are applied to classes of transactions. c. Dalance-related audit objectives are applied to the endin# balance in balance sheet accounts. d. Dalance-related audit objectives are applied to both be#innin# and endin# balances in balance sheet accounts. n testin# for cutoff! the objective is to determine: a. "hether all of the current period%s transactions are recorded. b. "hether transactions are recorded in the correct accountin# period. c. the proper cutoff bet"een capitaliCin# and expensin# expenditures. d. the proper cutoff bet"een disclosin# items in footnotes or in account balances. The detail tie-in objective is not concerned that the details in the account balance: a. a#ree "ith related subsidiary led#er amounts. b. are properly disclosed in accordance "ith 9''5. c. foot to the total in the account balance. d. a#ree "ith the total in the #eneral led#er. The detail tie-in is part of the======= assertion for account balances. a. classification b. valuation and allocation c. ri#hts and obli#ations d. completeness 1hich of the follo"in# is not a proper match of a transaction-related audit objective and mana#ement assertion0 a. 'ccuracy and cutoff. b. Classification and classification. c. 5ostin# and summariCation "ith accuracy. d. 8ccurrence and occurrence. 1hich of the follo"in# statements is not correct0 a. There are many "ays an auditor can accumulate evidence to meet overall audit objectives. b. (ufficient appropriate evidence must be accumulated to meet the auditor%s professional responsibility. c. t is appropriate to minimiCe the cost of accumulatin# evidence. d. 9atherin# evidence and minimiCin# costs are e$ually important considerations that affect the approach the auditor selects. T"o overridin# considerations affect the many "ays an auditor can accumulate evidence: 1. (ufficient appropriate evidence must be accumulated to meet the auditor%s professional responsibility. 2. Cost of accumulatin# evidence should be minimiCed. n evaluatin# these considerations: a. the first is more important than the second. b. the second is more important than the first. c. they are e$ually important. d. it is impossible to prioritiCe them.

*). medium b

+:. medium b

+1. medium b

+2. medium a

+&. medium d

+*. medium a

Arens/Elder/Beasley

++. medium b

f the auditor has obtained a reasonable level of assurance about the fair presentation of the financial statements throu#h understandin# internal control! assessin# control ris<! testin# controls! and analytical procedures! then the auditor: a. can issue an un$ualified opinion. b. can si#nificantly reduce other substantive tests. c. can "rite the en#a#ement letter. d. needs to perform additional tests of controls so that the assurance level can be increased. 'fter the auditor has completed all audit procedures! it is necessary to combine the information obtained to reach an overall conclusion as to "hether the financial statements are fairly presented. This is a hi#hly subjective process that relies heavily on: a. #enerally accepted auditin# standards. b. the ' C5'%s Code of 5rofessional Conduct. c. #enerally accepted accountin# principles. d. the auditor%s professional jud#ment. 1hich of the follo"in# combinations is correct0 a. 7xistence relates to "hether the amounts in accounts are understated. b. 8ccurrence relates to "hether balances exist. c. 7xistence relates to "hether amounts included exist. d. 8ccurrence relates to "hether the amounts in accounts occurred in the proper year. f an auditor conducted an audit in accordance "ith auditin# standards! "hich of the follo"in# "ould the auditor li<ely detect0 a. Enrecorded transactions. b. ncorrect postin#s of recorded transactions. c. Counterfeit si#natures on paid chec<s. d. 3raud involvin# collusion. 1hich of the follo"in# statements best describes the auditor%s responsibility "ith respect to ille#al acts that do not have a material effect on the client%s financial statements0 a. 9enerally! the auditor is under no obli#ation to notify parties other than personnel "ithin the client%s or#aniCation. b. 9enerally! the auditor is under an obli#ation to inform the 5C'8D. c. 9enerally! the auditor is obli#ated to disclose the relevant facts in the auditor%s report. d. 9enerally! the auditor is expected to compel the client to adhere to re$uirements of the 3orei#n Corrupt 5ractices 'ct. 1hich of the follo"in# statements best describes the auditor%s responsibility re#ardin# the detection of fraud0 a. The auditor is responsible for the failure to detect fraud only "hen such failure clearly results from nonperformance of audit procedures specifically described in the en#a#ement letter. b. The auditor must extend auditin# procedures to actively search for evidence of fraud in all situations. c. The auditor must extend auditin# procedures to actively search for evidence of fraud "here the examination indicates that fraud may exist. d. The auditor is responsible for the failure to detect fraud only "hen an un$ualified opinion is issued. The essence of the attest function is to: a. assure the consistent application of correct accountin# procedures. b. determine "hether the client%s financial statements are fairly stated. c. examine individual transactions so that the auditor may certify as to their validity. d. detect collusion and fraud.

+,. medium d

+/. medium c

+2. medium b

+). medium a

,:. medium c

,1. medium b

Arens/Elder/Beasley

,2. medium a

The primary difference bet"een an audit of the balance sheet and an audit of the income statement is that the audit of the income statement deals "ith the verification of: a. transactions. b. authoriCations. c. costs. d. cutoffs. The auditor%s evaluation of the li<elihood of material employee fraud is normally done initially as a part of: a. tests of controls. b. tests of transactions. c. understandin# the entity%s internal control. d. the assessment of "hether to accept the audit en#a#ement. 1hen usin# the cycle approach to se#mentin# the audit! the reason for treatin# capital ac$uisition and repayment separately from the ac$uisition of #oods and services is that: a. the transactions are related to financin# a company rather than to its operations. b. most capital ac$uisition and repayment cycle accounts involve fe" transactions! but each is often hi#hly material and therefore should be audited extensively. c. both a and b are correct. d. neither a nor b is correct. lle#al acts are defined in ('( +* 4'E21/6 as: a. violations of la"s or #overnment re#ulations. b. violations of la"s or #overnment re#ulations other than errors. c. violations of la"s or #overnment re#ulations other than fraud. d. violations of la" "hich "ould result in the arrest of the perpetrator. Most ille#al acts affect the financial statements: a. directly. b. only indirectly. c. both directly and indirectly. d. materially if directF immaterially if indirect. 1ith respect to the detection of ille#al acts! auditin# standards state that the auditor provides: a. no assurance that they "ill be detected. b. the same reasonable assurance provided for other items. c. assurance that they "ill be detected! if material. d. assurance that they "ill be detected! if hi#hly material. n describin# the cycle approach to se#mentin# an audit! "hich of the follo"in# statements is not true0 a. 'll #eneral led#er accounts and journals are included at least once. b. (ome journals and #eneral led#er accounts are included in more than one cycle. c. The Acapital ac$uisition and repaymentB cycle is closely related to the Aac$uisition of #oods and services and paymentB cycle. d. The Ainventory and "arehousin#B cycle may be audited at any time durin# the en#a#ement since it is unrelated to the other cycles. 1hich of the follo"in# journals "ould be included most often in the various audit cycles0 a. Cash receipts journal. b. Cash disbursements journal. c. 9eneral journal. d. (ales journal. Transaction cycles be#in and end:

,&. challen#in# c

,*. challen#in# c

,+. challen#in# c

,,. challen#in# b

,/. challen#in# a

,2. challen#in# d

,). challen#in# c

/:.

Arens/Elder/Beasley

challen#in# d

a. b. c. d.

at the be#innin# and end of the fiscal period. each start of the annual audit. at Ganuary 1 and @ecember &1. at the ori#in and final disposition of the company.

/1. challen#in# a

'fter #eneral audit objectives are understood! specific audit objectives for each account balance on the financial statements can be developed. 1hich of the follo"in# statements is true0 a. There should be at least one specific objective for each relevant #eneral objective. b. There "ill be only one specific objective for each relevant #eneral objective. c. There "ill be many specific objectives developed for each relevant #eneral objective. d. There must be one specific objective for each #eneral objective. 'n auditor should reco#niCe that the application of auditin# procedures may produce evidence indicatin# the possibility of errors or fraud and therefore should: a. plan and perform the en#a#ement "ith an attitude of professional s<epticism. b. not rely on internal controls that are desi#ned to prevent or detect errors or fraud. c. desi#n audit tests to detect unrecorded transactions. d. extend the "or< to audit most recorded transactions and records of an entity.

/2. challen#in# a

7ssay Questions
/&. easy @iscuss the differences bet"een errors! frauds! and ille#al acts. 9ive an example of each. 'ns"er: The primary difference bet"een errors and frauds is that errors are unintentional misstatements of the financial statements! "hereas frauds are intentional misstatements. lle#al acts are violations of la"s or #overnment re#ulations! other than frauds. 'n example of an error is a mathematical mista<e "hen footin# the columns in the sales journal. 'n example of a fraud is the creation of fictitious accounts receivable. 'n example of an ille#al act is the dumpin# of toxic "aste in violation of the federal environmental protection la"s.

Arens/Elder/Beasley

/*. medium

@iscuss the actions an auditor should ta<e "hen the auditor discovers an ille#al act. 'ns"er: The auditor should first consider the effects of the ille#al act on the financial statements! includin# the ade$uacy of disclosures. f the auditor concludes that disclosures are inade$uate! the audit report should be modified accordin#ly. The auditor should also consider the effect of the ille#al act on its relationship "ith mana#ement! and mana#ement%s trust"orthiness. .ext! the client%s audit committee or others of e$uivalent authority should be informed of the ille#al act. f the client does not deal "ith the ille#al act in a satisfactory manner! the auditor should consider "ithdra"in# from the en#a#ement. 3inally! if the client is publicly held! the auditor may need to report the matter to the (7C.

/+. medium

There are three broad cate#ories of mana#ement assertions. dentify each of these cate#ories. 'ns"er: 'ssertions about classes of transactions and events for the period under audit. 'ssertions about account balances at period end. 'ssertions about presentation and disclosure.


/,. medium

Driefly explain each mana#ement assertion related to classes of transactions and events for the period under audit. 'ns"er:

Occurrence. Transactions and events that have been recorded have occurred and pertain to the entity. Completeness. 'll transactions and events that should have been recorded have been recorded. Accuracy. 'mounts and other data relatin# to recorded transactions and events have been recorded appropriately. Classification. Transactions and events have been recorded in the proper accounts. Cutoff. Transactions and events have been recorded in the correct accountin# period. //. medium Driefly explain each mana#ement assertion related to account balances at period end. 'ns"er:

Existence. 'ssets! liabilities! and e$uity interests exist. Completeness. 'll assets! liabilities! and e$uity interests that should have been recorded have been recorded. Valuation and allocation. 'ssets! liabilities! and e$uity interests are included in the financial statements at appropriate amounts and any resultin# valuation adjustments are appropriately recorded. Rights and obligations. The entity holds or controls the ri#hts to assets! and liabilities are the obli#ation of the entity.

Arens/Elder/Beasley

/2. medium

Driefly explain each mana#ement assertion related to presentation and disclosure. 'ns"er:

Occurrence and rights and obligations. @isclosed events and transactions have occurred and pertain to the entity. Completeness. 'll disclosures that should have been included in the financial statements have been included. Accuracy and valuation. 3inancial and other information are disclosed appropriately and at appropriate amounts. Classification and understandability. 3inancial and other information is appropriately presented and described and disclosures are clearly expressed. /). medium @iscuss three reasons "hy auditors are responsible for AreasonableB but not AabsoluteB assurance. 'ns"er: Most audit evidence results from testin# a sample of a population. (amplin# involves some ris< of not uncoverin# material misstatements. 'ccountin# presentations contain complex estimates! "hich inherently involve uncertainty and can be affected by future events. 's a result! the auditor has to rely on evidence that is persuasive but not convincin#. 3raudulently prepared financial statements are often very difficult for the auditor to detect! especially "hen there is collusion amon# mana#ement. 2:. medium @istin#uish bet"een mana#ement%s responsibility and the auditor%s responsibility for the financial statements under audit. 'ns"er: Mana#ement is responsible for adoptin# appropriate accountin# policies! maintainin# ade$uate internal control! and ma<in# fair representations in the financial statements. The auditor%s responsibility is to perform an audit desi#ned to provide reasonable assurance of detectin# any material misstatements in the financial statements and to express an opinion on those financial statements at the conclusion of the audit. 21. medium n the context of the audit of sales! distin#uish bet"een the existence and completeness transaction-related audit objectives. (tate the effect on the sales account 4overstatement or understatement6 of a violation of each objective. 'ns"er: 1hen testin# the existence objective for sales! the auditor%s focus is on "hether the sales that have been recorded in the sales journal actually occurred. n contrast! tests of the completeness objective are concerned "ith determinin# "hether all sales that actually occurred have been recorded in the sales journal. ?iolations of the existence objective result in overstatements of salesF violations of the completeness objective result in understatements of sales.

Arens/Elder/Beasley

22. challen#in#

@iscuss the differences in the auditor%s responsibilities for discoverin# 416 material errors! 426 material fraud 4&6 direct-effect ille#al acts! and 4*6 indirect-effect ille#al acts. 'ns"er: 'uditin# standards ma<e no distinction bet"een the auditorHs responsibilities for searchin# for errors and fraud. n either case! the auditor must obtain reasonable assurance about "hether the statements are free of material misstatements. The standards also reco#niCe that fraud is often more difficult to detect because mana#ement or the employees perpetratin# the fraud attempt to conceal the fraud. (till! the difficulty of detection does not chan#e the auditorHs responsibility to properly plan and perform the audit to detect material misstatements! "hether caused by error or fraud. The auditor%s responsibility for uncoverin# direct-effect ille#al acts is the same as for errors and fraud. Io"ever! the auditor is not re$uired to search for indirect-effect ille#al acts unless there is reason to believe they exist.

2&. challen#in#

' financial statement audit typically consists of four phases. dentify each of these four phases of an audit and discuss the major activities performed by the auditor in each phase. 'ns"er: Phase I Plan and design an audit approach. n this phase! the auditor obtains an understandin# of the client%s entity and its environment. n addition! the auditor obtains an understandin# of the client%s internal control and assesses the ris< of material misstatement. Phase II Perform tests of controls and substantive tests of transactions. n this phase! the auditor tests those internal controls heJshe believes may be effective at preventin# or detectin# misstatements. n addition! the auditor performs substantive tests of transactions to verify the monetary amounts of transactions. Phase III Perform analytical procedures and tests of details of balances. n this phase! the auditor performs analytical procedures to assess the overall reasonableness of transactions and balances. n addition! tests of details of balances are performed to test for monetary misstatements in the financial statements. Phase IV Complete the audit and issue an audit report . n the last phase of the audit! the information obtained in the previous phases is combined to reach an overall conclusion as to "hether the financial statements are fairly presented. 'n audit report is then issued based on this conclusion.

2*. challen#in#

@iscuss some precautionary actions an auditor should ta<e "hen there is a moderate or hi#h ris< of mana#ement fraud. 'ns"er: (ome precautionary actions an auditor should ta<e "hen there is a moderate or hi#h ris< of mana#ement fraud include: Critically challen#in# the client%s choice of accountin# principles. 'ssi#nin# more experienced personnel to the en#a#ement. @oin# more audit "or< at year-end instead of at interim dates. Closely supervisin# assistants and other inexperienced staff. 5erformin# additional or more effective audit procedures. n extreme situations! the auditor should consider "ithdra"in# from the en#a#ement.

Arens/Elder/Beasley

Arens/Elder/Beasley

8ther 8bjective 'ns"er 3ormat Questions


2+. medium Match seven of the terms 4a-<6 "ith the definitions provided belo" 41-/6: a. b. c. d. e. f. #. h. i. j. <. h e f a Tests of details of balances Tests of controls (ubstantive tests of transactions 'nalytical procedures Transaction-related audit objectives Mana#ement assertions Dalance-related audit objectives 3raud lle#al act 7rror Mana#ement fraud 1. 2. &. *. 'n intentional misstatement of the financial statements. ' set of six audit objectives the auditor must meet! includin# timin#! postin# and summariCation! and accuracy. mplied or expressed representations made by the client about classes of transactions! account balances and disclosures in the financial statements. 'udit procedures testin# for monetary misstatements to determine "hether the balance-related audit objectives have been satisfied for each si#nificant account balance. ' set of nine audit objectives the auditor must meet! includin# completeness! detail tie-in! and ri#hts and obli#ations. 'udit procedures desi#ned to test the effectiveness of control policies and procedures. Ese of comparisons and relationships to assess "hether account balances or other data appears reasonable.

# b d

+. ,. /.

2,. challen#in#

Delo" are five audit procedures! all of "hich are tests of transactions associated "ith the audit of the sales and collection cycle. 'lso belo" are the six #eneral transaction-related audit objectives and the five mana#ement assertions. 3or each audit procedure! indicate 416 its audit objective! and 426 the mana#ement assertion bein# tested. '. D. C. @. 7. 3. 'udit 8bjectives 8ccurrence Completeness 'ccuracy 5ostin# and summariCation Classification Timin# ?. 1. ;. -. K. 'ssertions 8ccurrence Completeness 'ccuracy Classification Cutoff

Arens/Elder/Beasley

1. ' ?

?ouch recorded sales from the sales journal to the file of bills of ladin#. 416 . 426 .

3 K D 1

2. Compare dates on the bill of ladin#! sales invoices! and sales journal to test for delays in recordin# sales transactions. 416 . 426 . &. 'ccount for the se$uence of prenumbered bills of ladin# and sales invoices. 416 . 426 .

D! C 1! ; ' ? 2/. challen#in#

*. Trace from a sample of prelistin#s of cash receipts to the cash receipts journal! testin# for names! amounts! and dates. 416 . 426 . +. 7xamine customer order forms for credit approval by the credit mana#er. 416 . 426 .

Delo" are five audit procedures! all of "hich are tests of transactions associated "ith the audit of the ac$uisition and payment cycle. 'lso belo" are the six #eneral transaction-related audit objectives and the five mana#ement assertions. 3or each audit procedure! indicate 416 its audit objective! and 426 the mana#ement assertion bein# tested. '. D. C. @. 7. 3. 1. 'udit 8bjectives 8ccurrence Completeness 'ccuracy 5ostin# and summariCation Classification Timin# 'ssertions ?. 8ccurrence 1. Completeness ;. 'ccuracy -. Classification K. Cutoff

@ ; 2. C ; &. 3 K *. D 1

3oot the purchases journal and trace the totals to the related #eneral led#er accounts. 416 . 426 . Lecompute the cash discounts ta<en by the client. 416 . 426 . Compare dates on cancelled chec<s "ith the ban< cancellation date. 416 . 426 . Trace from a sample of cancelled chec<s to the cash disbursements journal. 416 . 426 .

Arens/Elder/Beasley

' ? 22. challen#in#

+. 7xamine supportin# documentation for a sample of transactions for authoriCed payee and amount and to determine services or #oods "ere received. 416 . 426 . Delo" are five audit procedures! all of "hich are tests of balances associated "ith the audit of accounts receivable. 'lso belo" are the ei#ht #eneral balance-related audit objectives and the four mana#ement assertions. 3or each audit procedure! indicate 416 its audit objective! and 426 the mana#ement assertion bein# tested. '. D. C. @. 7. 3. 9. I. 'udit 8bjectives 7xistence Completeness 'ccuracy Classification Cutoff @etail tie-in LealiCable value Li#hts and obli#ations 'ssertions ?. 7xistence 1. Completeness ;. ?aluation and allocation -. Li#hts and obli#ations

3 ;

1. 8btain an a#ed listin# of accounts receivable. 3or a sample of individual customers on the listin#! a#ree the customer%s name! amount! and other information "ith the correspondin# information in the accounts receivable master file. 416 . 426 . 2. 7xamine details of sales for five days before and five days after year-end to determine "hether sales have been recorded in the proper period. 416 . 426 . &. 'ssess the reasonableness of the balance in the allo"ance for doubtful accounts. 416 . 426 . n$uire as to "hether any accounts receivable have been factored or sold durin# the period. 416 . 426 . n$uire as to "hether there are any receivables from related parties. 416 . 426 .

7 ; 9 ;

*. I +. @ ; 2). easy b ):. easy b

Lesponsibility for the fair presentation of financial statements rests e$ually "ith mana#ement and the auditor. a. True b. 3alse 7rrors are usually more difficult for an auditor to detect than frauds. a. True b. 3alse

Arens/Elder/Beasley

)1. easy b )2. easy a

'uditors have found that the most efficient "ay to conduct audits is to focus primarily on testin# classes of transactions and performin# minimal or no tests of endin# account balances. a. True b. 3alse 1hen an auditor has reduced assessed control ris< based on tests of controls! he or she may then reduce the extent to "hich the accuracy of the financial statement information directly related to those controls must be supported throu#h the accumulation of evidence usin# substantive tests. a. True b. 3alse Tests of details of balances typically involve the use of comparisons and relationships to assess the overall reasonableness of account balances. a. True b. 3alse 8ther than in$uirin# of mana#ement about policies they have established to prevent ille#al acts and "hether mana#ement <no"s of any la"s or re#ulations that the company has violated! the auditor should not search for indirect-effect ille#al acts unless there is reason to believe they may exist. a. True b. 3alse 1hen an auditor believes that an ille#al act may have occurred! the first step he or she should ta<e is to in$uire of mana#ement at a level above those li<ely to be involved in the potential ille#al act. a. True b. 3alse 'udits are expected to provide a hi#her de#ree of assurance for the detection of material frauds than is provided for an e$ually material error. a. True b. 3alse 'uditors have a hi#her de#ree of responsibility for detectin# direct-effect ille#al acts than indirecteffect ille#al acts. a. True b. 3alse The auditor%s first course of action "hen an ille#al act is uncovered should be to immediately notify the appropriate authorities! includin# but not limited to the police! and for publicly held companies! the (ecurities and 7xchan#e Commission. a. True b. 3alse Ender the cycle approach to se#mentin# an audit! transactions recorded in different journals should never be combined "ith the #eneral led#er balances that result from those transactions. a. True b. 3alse 9eneral transaction-related audit objectives vary from audit to audit! dependin# on the nature and characteristics of the client%s business and industry. a. True b. 3alse

)&. easy b )*. easy a

)+. easy a ),. medium b )/. medium a )2. medium b

)). medium b 1::. medium b

Arens/Elder/Beasley

1:1. medium a 1:2. medium b

The audit objective of postin# and summariCation is associated "ith the mana#ement assertion of accuracy. a. True b. 3alse Dalance-related audit objectives are usually applied to the endin# balance in income statement accountsF transaction-related audit objectives are usually applied to transactions reflected in balance sheet accounts. a. True b. 3alse The transaction-related audit objective of timin# is related to the assertion of cutoff. a. True b. 3alse The effect of a violation of the existence transaction-related audit objective for the sales account "ould be an overstatement of that account. a. True b. 3alse The effect of a violation of the completeness transaction-related audit objective for cash disbursements transactions "ould be an overstatement of cash disbursements. a. True b. 3alse The transaction-related audit objective that deals "ith "hether recorded transactions have actually occurred is the completeness objective. a. True b. 3alse The #eneral balance-related audit objective that deals "ith determinin# that details in the account balance a#ree "ith related master file amounts! foot to the total in the account balance! and a#ree "ith the total in the #eneral led#er is the detail tie-in objective. a. True b. 3alse The cutoff objective! Atransactions near the balance sheet date are recorded in the proper period!B is a balance-related audit objective. a. True b. 3alse 3or a private company audit! tests of controls are normally performed only on those internal controls the auditor believes have not been operatin# effectively durin# the period under audit. a. True b. 3alse 'n audit #enerally provides no assurance that indirect-effect ille#al acts "ill be detected. a. True b. 3alse 1hen an auditor believes there is a moderate or hi#h ris< of mana#ement fraud! the auditor "ill normally do less audit "or< at interim dates instead of at year-end. a. True b. 3alse

1:&. medium a 1:*. medium a 1:+. medium b 1:,. medium b 1:/. medium a

1:2. medium a 1:). medium b 11:. medium a 111. medium a

Arens/Elder/Beasley

Arens/Elder/Beasley

112. challen#in# b 11&. challen#in# b

'n auditor must inform a client%s audit committee of an ille#al act discovered durin# an audit in "ritin#. a. True b. 3alse The objective of the audit of financial statements by an independent auditor is to verify that the financial statements are free of misstatements and accurately represent the company%s financial position and results of operations. a. True b. 3alse The auditor%s responsibility for uncoverin# direct-effect ille#al acts is the same as for fraud. a. True b. 3alse

11*. challen#in# a

Arens/Elder/Beasley