CHAPTER 1 An Introduction to Assurance Services

MULTIPLE CHOICE

b 1. To become a Certified Public Accountant (CPA), an individual must pass the Uniform CPA
Examination and
a. Demonstrate his or her independence.
b. Comply with state education and experience requirements.
c. Obtain employment with a public accounting firm.
d. Become a member of the AICPA.

b 2. Which of the following statements is an example of an assertion made by management in an

entity's financial statements?
a. The financial statements were prepared in an unbiased manner.
b. Reported inventory balances reflect all related transactions for the period.
c. Reported accounts receivable does not include any uncollectible accounts.
d. The scope of the auditors' investigation was not limited in any way by management.

d 3. Statements on Auditing Standards

a. Relate to the filing requirements and enforcement activities of the SEC.
b. Describe procedures to be applied in specific areas of audit activity to eliminate inconsistencies in
audit practice.
c. Are intended to limit the degree of auditor judgment needed to fulfill the attest function.
d. Interpret standards that provide guidelines or measures of quality for an independent audit.

d 4. The primary purpose of an independent financial statement audit is to

a. Provide a basis for assessing management's performance.
b. Comply with state and federal regulatory requirements.
c. Assure management that the financial statements are unbiased and free from material error.
d. Provide users with an unbiased opinion about the fairness of information reported in the financial
statements.

b 5. Independent auditing can best be described as a

a. Branch of accounting.
b. Discipline that attests to the results of accounting and other operations and data.
c. Professional activity that measures and communicates financial and business data.
d. Regulatory function that prevents the issuance of improper financial information.
(AICPA ADAPTED)

b 6. An independent audit aids in the communication of economic data because the audit
a. Confirms the accuracy of management's financial representations.
b. Lends credibility to the financial statements.
c. Guarantees that financial data are fairly presented.
d. Assures the readers of financial statements that any fraudulent activity has been corrected.
(AICPA
ADAPTED)
c 7. Which of the following types of audits are most similar?
a. Operational audits and compliance audits.
b. Independent financial statement audits and operational audits.
c. Compliance audits and independent financial statement audits.
d. Internal audits and independent financial statement audits.

c 8. The Auditing Standards Board

a. Sets rules and regulations that govern public accounting firms.
b. Is an arm of the Financial Accounting Standard Board.
c. Is a senior technical body of the AICPA designated to issue authoritative auditing
pronouncements.
d. Reports directly to the Securities and Exchange Commission.

c 9. The essence of the attest function is to

a. Detect fraud.
b. Examine individual transactions so that the auditor can certify as to their validity.
c. Determine whether the client's financial statements are fairly stated.
d. Ensure the consistent application of correct accounting procedures.
(AICPA ADAPTED)

d 10. Which of the following criteria is unique to the independent auditor's attest function?
a. General competence.
b. Familiarity with the particular industry of each client.
c. Due professional care.
d. Independence. (AICPA ADAPTED)

c 11. The definition of auditing contained within A Statement of Basic Auditing Concepts recognizes
that auditing includes both a(an)
a. Documentation process and an evaluation process.
b. Evaluation process and a reporting process.
c. Investigative process and a reporting process.
d. Documentation process and a reporting process.

a 12. An operational audit is designed to

a. Assess the efficiency and effectiveness of management's operating procedures.
b. Assess the presentation of management's financial statements in accordance with generally
accepted accounting principles.
c. Determine whether management has complied with applicable laws and regulations.
d. Determine whether the audit committee of the board of directors is effectively discharging its
responsibility to oversee management's operations.

b 13. The market for auditing services is driven by

a. The regulatory authority of the Securities and Exchange Commission.
b. A demand by external users of financial statements.
c. Pronouncements issued by the Auditing Standards Board.
d. Congress at the federal level and elected legislative bodies at the state level.
a 14. The first contemporary audit related legislation was the
a. Securities Act of 1933.
b. Securities Exchange Act of 1934.
c. British Joint Stock Companies Act of 1844.
d. Companies Act of 1947.

a 15. The first authoritative auditing pronouncement in the U.S. was

a. Statement on Auditing Procedures No. 1, "Extensions of Auditing Procedures."
b. Statement on Auditing Standards No. 1, "Codification of SASs."
c. "Uniform Accounting: A Tentative Proposal Submitted by the Federal Reserve Board (1917)."
d. "Examination of Financial Statements by Independent Public Accountants (1936)."

a 16. The first authoritative audit standards-setting body empowered to issue auditing pronouncements
in the U.S. was the
a. The Committee on Auditing Procedure.
b. The Auditing Standards Executive Committee.
c. The Auditing Standards Board.
d. The Accounting and Review Services Committee.

c 17. Which of the following incorrectly matches the authoritative body with its authoritative
pronouncements?
a. Accounting and Review Services Committee: "Statements on Standards for Accounting and
Review Services"
b. Auditing Standards Board: "Statements on Auditing Standards"
c. Auditing Standards Executive Committee: "Statements on Auditing Procedure"
d. Securities and Exchange Commission: "Financial Reporting Releases"

a 18. A license to practice as a certified public accountant is granted by

a. State boards of accountancy.
b. The AICPA.
c. State societies of CPAs.
d. The SEC.

b 19. The purpose of a compliance audit for a governmental entity is to determine whether
a. Financial statements comply with GAAP and whether the entity is operating efficiently.
b. Financial statements comply with GAAP and the entity has complied with applicable laws and
regulations.
c. The entity has complied with applicable laws and regulations.
d. Financial statements comply with GAAP.

a 20. The audit process is

a. A special application of the scientific method of inquiry.
b. Regulated by the AICPA.
c. The only service a CPA is allowed to perform by law.
d. Performed only by CPAs.
d 21. Which of the following has historically had the least influence on the practice of public
accounting?
a. The Governmental Accounting Standards Board.
b. The Institute of Internal Auditors.
c. The Securities and Exchange Commission.
d. The U.S. Congress.

b 22. Independent auditing can best be described as

a. A subset of accounting.
b. A professional activity that attests to the fair presentation of financial statements.
c. A professional activity that measures and communicates financial accounting data.
d. A regulatory activity that prevents the issuance of improper financial information.
(AICPA ADAPTED)

c 23. An independent audit is important to readers of financial statements because it

a. Provides a measure of management's stewardship function.
b. Measures and communicates the financial data included in financial statements.
c. Objectively examines and reports on management's financial statements.
d. Reports on the accuracy of information in the financial statements.
(AICPA ADAPTED)

a 24. The reason an independent auditor gathers evidence is to

a. Form an opinion on the financial statements.
b. Detect fraud.
c. Evaluate management.
d. Evaluate internal controls. (AICPA ADAPTED)
 CHAPTER 2 Standards, Materiality, and Risk

MULTIPLE CHOICE

a. 1. Due professional care requires

a. A critical review of the work done at every level of supervision.
b. The examination of all corroborating evidence available.
c. The exercise of error-free judgment.
d. A consideration of internal control structure that includes tests of controls.
(AICPA ADAPTED)

c 2. The first general standard requires that the audit of financial statements be performed by a person
or persons having adequate technical training and
a. Independence with respect to the financial statements and supplementary disclosures.
b. Exercising professional care as judged by peer reviewers.
c. Proficiency as an auditor, which likely has been acquired from previous experience.
d. Objectivity as an auditor, as verified by proper supervision. (AICPA ADAPTED)

d 3. An auditor, while performing an audit, strives to achieve the appearance of independence in order
to
a. Reduce risk and liability.
b. Comply with the generally accepted standards of fieldwork.
c. Become independent in fact.
d. Maintain public confidence in the profession. (AICPA ADAPTED)

d 4. Adequate technical training and proficiency as an auditor encompasses an ability to understand a

computer system sufficiently to identify and evaluate
a. The processing and imparting of information.
b. Essential accounting control features.
c. All control procedures.
d. The degree to which programming conforms to the application of generally accepted accounting
principles. (AICPA ADAPTED)

c 5. Competence as a certified public accountant includes all of the following except

a. Having the technical qualifications to perform an engagement.
b. Possessing the ability to supervise and evaluate the quality of staff work.
c. Warranting the infallibility of the work performed.
d. Consulting others if additional technical information is needed. (AICPA ADAPTED)

a 6. Ultimately, the decision about whether or not an auditor is independent must be made by the
a. Auditor.
b. Client.
c. Audit committee.
d. Public. (AICPA ADAPTED)
c 7. Madison Corporation has a few large accounts receivable that total $1,000,000. Nassau
Corporation has a great number of small accounts receivable that also total $1,000,000. The importance
of an error in any one account is, therefore, greater for Madison than for Nassau. This is an example of
the auditor's concept of
a. Account bias.
b. Audit risk.
c. Materiality.
d. Reasonable assurance. (AICPA ADAPTED)

b 8. Which of the following best describes what is meant by generally accepted auditing standards?
a. Acts to be performed by the auditor.
b. Measures of the quality of an auditor's performance.
c. Procedures used to gather evidence to support financial statements.
d. Audit objectives generally determined on audit engagements. (AICPA ADAPTED)

b 9. There is an inverse relationship between the effectiveness of an entity's internal control structure
and the
a. Reliability of financial statements.
b. Extent of detailed audit tests required.
c. Degree of staff supervision required in the performance of an audit.
d. Fairness of management assertions in the financial statements.

a 10. Which of the following best describes the character of the three generally accepted auditing
standards classified as general standards?
a. Criteria for competence, independence, and professional care of individuals performing the audit.
b. Criteria for the content of the financial statements and related footnote disclosures.
c. Criteria for the content of the auditor's report.
d. The requirements for planning and supervision. (AICPA ADAPTED)

c 11. The generally accepted standards of fieldwork relate to

a. The competence, independence, and professional care of persons performing the audit.
b. Criteria for the content of the auditor's report on financial statements.
c. Audit planning and evidence gathering.
d. The need to maintain independence in mental attitude. (AICPA ADAPTED)

d 12. Which of the following statements is correct concerning the concept of materiality?
a. Materiality is determined by reference to AICPA guidelines.
b. Materiality depends only on the dollar amount involved.
c. Materiality depends on the nature of an item rather than on the dollar amount.
d. Materiality is a matter of professional judgment. (AICPA ADAPTED)

a 13. The generally accepted standards of reporting encompass all of the following except
a. Consideration of an entity's internal control structure.
b. Consistent application of accounting principles.
c. Informative disclosures.
d. Conformity of financial statements with GAAP.
c 14. An objective of the fourth generally accepted standard of reporting, relating to the expression of
an opinion, is to
a. Prohibit the auditor from issuing a report that does not include an opinion on the financial
statements taken as a whole.
b. Inform users that the financial statements and related notes are the joint responsibility of the
auditor and management.
c. Prevent users of financial statements from misinterpreting the degree of responsibility assumed
by the auditor.
d. Ensure adequate informative disclosures in the financial statements.

d 15. The least important evidence of a public accounting firm's evaluation of its system of quality
controls would concern the firm's policies and procedures with respect to
a. Employment (hiring).
b. Confidentiality of audit engagements.
c. Assigning personnel to audit engagements.
d. Determination of audit fees. (AICPA ADAPTED)

a 16. Which of the following is not an element of quality control?

a. Documentation.
b. Inspection.
c. Supervision.
d. Consultation. (AICPA ADAPTED)

d 17. Williams & Co., a large international public accounting firm, is due to have a peer review. The
peer review will most likely be performed by
a. Employees and partners of Williams & Co. who are not associated with the particular audit being
reviewed.
b. Audit review staff of the Securities and Exchange Commission.
c. Audit review staff of the AICPA.
d. Employees and partners of another firm. (AICPA ADAPTED)

b 18. In a financial statement audit, audit risk represents the probability that
a. Internal control fails and the failure is not detected by the auditor's procedures.
b. The auditor unknowingly fails to modify an opinion on materially misstated financial statements.
c. Inherent and control risk cause errors that could be material to the financial statements.
d. The auditor is not retained to conduct a financial statement audit in the succeeding year.

a 19. In a financial statement audit, inherent risk represents

a. The susceptibility of an account balance to error that could be material.
b. The risk that error could occur and not be prevented or detected by the internal control structure.
c. The risk that error could occur and not be detected by the auditor's procedures.
d. The risk that the auditor fails to modify materially misstated financial statements.

d 20. What is the magnitude of audit risk if inherent risk is .50, control risk .40, and detection risk .10?
a. .20.
b. .10.
c. .04.
d. Not determinable from the facts given.
c 21. The "hallmark" of auditing is
a. Available audit technology.
b. Generally accepted auditing standards.
c. Professional judgment.
d. Materiality and audit risk.

d 22. An auditor is most likely to refer to one or more of the three general auditing standards in
determining
a. The nature of a report qualification.
b. The scope of auditing procedures.
c. Requirements for the consideration of internal control.
d. Whether the auditor should undertake an audit engagement. (AICPA ADAPTED)

a 23. Which of the following is mandatory if the auditor is to comply with the general standards of the
AICPA’s generally accepted auditing standards?
a. Adequate technical training
b. Use analytical procedures.
c. Use statistical sampling when feasible on an audit engagement.
d. Confirmation of material accounts receivable balances. (AICPA ADAPTED)

b 24. The first general standard requires that a person or persons have adequate technical training and
proficiency as an auditor. This standard is met by
a. Understanding business and finance.
b. Education and experience in auditing.
c. Continuing professional education.
d. Knowledge of Statements of Auditing Standards. (AICPA ADAPTED)

a 25. What is the meaning of the generally accepted auditing standard that requires that the auditor be
independent?
a. The auditor must be without bias with respect to the client audited.
b. The auditor must adopt a critical attitude during the audit.
c. The auditor's sole obligation is to third parties.
d. The auditor may have a direct ownership interest in the client's business if it is not material.
(AICPA
ADAPTED)

d 26. The third general standard states that due care is to be exercised in the performance of an audit,
and should be interpreted to mean that an auditor who undertakes an engagement assumes a duty
to perform
a. With reasonable diligence and without fault or error.
b. As a professional who will assume responsibility for losses consequent upon error of judgment.
c. To the satisfaction of the client and third parties.
d. As a professional possessing the degree of skill commonly possessed by others in the field.
(AICPA
ADAPTED)
a 27. The first standard of fieldwork, which states that the work is to be adequately planned, and
assistants, if any, are to be properly supervised, recognizes that
a. Early appointment of the auditor is advantageous both to the auditor and to the client.
b. Acceptance of an audit engagement after the close of the client's fiscal year is generally not
permissible.
c. Appointment of the auditor subsequent to the physical count of inventories requires a disclaimer
of opinion.
d. Performance of substantial parts of the engagement is necessary at interim dates.
(AICPA ADAPTED)

b 28. In connection with the third generally accepted auditing standard of fieldwork, an auditor
examines corroborating evidential matter that includes all of the following except
a. Client accounting manuals.
b. Written client representations.
c. Vendor invoices.
d. Minutes of board meetings. (AICPA ADAPTED)

a 29. Which of the following underlies the application of generally accepted auditing standards,
particularly the standards of fieldwork and reporting?
a. The elements of materiality and risk.
b. The element of internal control.
c. The element of corroborating evidence.
d. The element of reasonable assurance. (AICPA ADAPTED)

c 30. The fourth generally accepted auditing standard of reporting requires an auditor to render a report
whenever an auditor's name is associated with financial statements. The overall purpose of the
fourth standard of reporting is to require that reports
a. Assure that the auditor is independent with respect to the financial statements audited.
b. State that the audit has been conducted in accordance with generally accepted auditing standards.
c. Indicate the character of the engagement and the degree of responsibility assumed by the auditor.
d. Express whether the accounting principles used in preparing the financial statements have been
applied consistently in the period audited. (AICPA ADAPTED)

d 31. The auditor's judgment concerning the overall fairness of the presentation of financial positions,
results of operations, and cash flows is applied within the framework of
a. Quality control.
b. Generally accepted auditing standards that include the concept of materiality.
c. The auditor's evaluation of the audited company's internal controls.
d. Generally accepted accounting principles. (AICPA ADAPTED)

d 32. The concept of materiality would be least important to an auditor in determining

a. Transactions that should be reviewed.
b. The need for disclosing a particular transaction or event.
c. The extent of audit work planned for particular accounts.
d. The effects of an auditor's direct financial interest in a client. (AICPA ADAPTED)
b 33. The objective of quality control mandates that a public accounting firm should establish policies
and procedures for professional development that provide reasonable assurance that all
entry-level personnel
a. Prepare working papers that are standardized in form and content.
b. Have the knowledge required to enable them to fulfill responsibilities assigned.
c. Will advance within the organization.
d. Develop specialties in specific areas of public accounting. (AICPA ADAPTED)

b 34. In pursuing its quality control objectives with respect to assigning personnel to engagements, a
public accounting firm may use policies and procedures such as
a. Rotating employees from assignment to assignment on a random basis to aid in the staff training
effort.
b. Requiring timely identification of the staffing requirements of specific engagements so that
enough qualified personnel can be made available.
c. Allowing staff to select the assignments of their choice to promote better client relationships.
d. Assigning a number of employees to each engagement in excess of the number required so as not
to overburden the staff and interfere with the quality of the audit work performed.
(AICPA
ADAPTED)

d 35. A public accounting firm studies its personnel advancement experience to determine whether
individuals meeting stated criteria are assigned increased degrees of responsibility. This is
evidence of the firm's adherence to
a. Generally accepted auditing standards.
b. Attestation standards.
c. Supervision and review.
d. Quality control standards. (AICPA ADAPTED)

d 36. Which of the following statements best describes the primary purpose of Statements on Auditing
Standards?
a. Guides intended to set forth auditing procedures that are applicable to a variety of situations.
b. Outlines intended to narrow the areas of inconsistency and divergence of auditor opinion.
c. Authoritative statements, enforced through the code of professional conduct, and intended to limit
the degree of auditor judgment.
d. Interpretations intended to clarify the meaning of generally accepted auditing standards.
(AICPA ADAPTED)
 CHAPTER 3 Reports

MULTIPLE CHOICE

c 1. An auditor's report contains the following sentences:

We did not audit the financial statements of B Company, a consolidated subsidiary, which
statements reflect total assets and revenues constituting 20 percent and 22 percent, respectively,
of the related consolidated totals. These statements were audited by other auditors, whose report
has been furnished to us, and our opinion, insofar as it relates to the amounts included for B
Company, is based solely upon the report of the other auditors.

These sentences
a. Disclaim an opinion.
b. Qualify the opinion.
c. Divide responsibility.
d. Should not be part of the audit report. (AICPA ADAPTED)

c 2. In which of the following situations would the auditor appropriately issue a standard unqualified
report with no explanatory paragraph concerning consistency?
a. A change in the method of accounting for specific subsidiaries that comprise the group of
companies for which consolidated statements are presented.
b. A change from an accounting principle that is not generally accepted to one that is generally
accepted.
c. A change in the percentage used to calculate the provision for warranty expense.
d. Correction of a mistake in the application of a generally accepted accounting principle.
(AICPA ADAPTED)

b 3. When financial statements are presented that are not in conformity with generally accepted
accounting principles, an auditor may issue a(n)

Qualified Adverse
opinion opinion
a. Yes No
b. Yes Yes
c. No Yes
d. No No (AICPA ADAPTED)

a 4. The management of a client company believes that the statement of cash flow is not a useful
document and refuses to include one in the annual report to stockholders. As a result, the
auditor's opinion should be
a. Qualified due to inadequate disclosure.
b. Qualified due to a scope limitation.
c. Adverse.
d. Unqualified. (AICPA ADAPTED)
d 5. An auditor would issue an adverse opinion if
a. The audit was begun by other independent auditors who withdrew from the engagement.
b. A qualified opinion cannot be given because the auditor lacks independence.
c. The restriction on the scope of the audit was significant.
d. The statements taken as a whole do not fairly present the financial position, results of operations,
and cash flows of the company. (AICPA ADAPTED)

d 6. The fourth reporting standard requires that the auditor's report contain either an expression of
opinion regarding the financial statements taken as a whole or an assertion that an opinion cannot
be expressed. The objective of the fourth standard is to prevent
a. An auditor from reporting on one basic financial statement and not the others.
b. An auditor from expressing different opinions on each of the basic financial statements.
c. Management from reducing its responsibility for the basic financial statements.
d. Misinterpretations about the degree of responsibility the auditor assumes.
(AICPA ADAPTED)

d 7. An auditor's opinion reads as follows: "In our opinion, except for the above-mentioned limitation
on the scope of our audit...” This is an example of a(n)
a. Review opinion.
b. Emphasis on a matter.
c. Qualified opinion.
d. Unacceptable reporting practice. (AICPA ADAPTED)

c 8. An auditor's report includes a statement that "the financial statements do not present fairly the
financial position in conformity with generally accepted accounting principles." This auditor's
report was probably issued in connection with financial statements that were
a. Prepared on a comprehensive basis for accounting other than GAAP.
b. Restricted for use by management.
c. Misleading.
d. Condensed. (AICPA ADAPTED)

c 9. If the auditor believes there is minimal likelihood that resolution of an uncertainty will have a
material effect on the financial statements, the auditor would issue a(n)
a. Qualified opinion.
b. Adverse opinion.
c. Unqualified opinion.
d. Disclaimer of opinion. (AICPA ADAPTED)

b 10. If an accounting change has no material effect on the financial statements in the current year but
the change is reasonably certain to have a material effect in later years, the change should be
a. Treated as a consistency modification in the auditor's report for the current year.
b. Disclosed in the notes to the financial statements of the current year.
c. Disclosed in the notes to the financial statements and referred to in the auditor's report for the
current year.
d. Treated as a subsequent event. (AICPA ADAPTED)
c 11. When comparative financial statements are presented, the fourth reporting standard, which refers
to financial statements "taken as a whole," should be considered to apply to the financial
statement of the
a. Periods presented plus one preceding period.
b. Current period only.
c. Current period and those of the other periods presented.
d. Current and immediately preceding period only. (AICPA ADAPTED)

b 12. An auditor's standard report expresses an unqualified opinion and includes an explanatory
paragraph that emphasizes a matter included in the notes to the financial statements. The
auditor's report would be deficient if the explanatory paragraph states that the entity
a. Is a component of a larger business enterprise.
b. Has changed from the completed contract method to the percentage of completion method to
account for long-term construction contracts.
c. Has had a significant subsequent event.
d. Has accounting reclassifications that enhance the comparability between years.
(AICPA ADAPTED)

d 13. Raider, Inc., uses the last-in, first-out method to value half of its inventory and the first-in, first-
out method to value the other half. Assuming the auditor is satisfied in all other respects, under
these circumstances the auditor will issue a(n)
a. Opinion modified due to inconsistency.
b. Unqualified opinion with an explanatory middle paragraph.
c. Qualified or adverse opinion, depending on materiality.
d. Unqualified opinion. (AICPA ADAPTED)

d 14. Under which of the following sets of circumstances might an auditor disclaim an opinion?
a. The financial statements contain a departure from GAAP, the effect of which is material.
b. The principal auditor decides to make reference to the report of another auditor who audited a
subsidiary.
c. There has been a material change between periods in the method of the application of accounting
principles.
d. There were significant limitations on the scope of the audit.

a 15. An auditor includes an explanatory paragraph in an otherwise unqualified report in order to

emphasize that the entity being reported on is a subsidiary of another business enterprise. The
inclusion of this paragraph
a. Is appropriate and would not negate the unqualified opinion.
b. Is a qualification.
c. Is a violation of generally accepted reporting standards if this information is disclosed in
footnotes to the financial statements.
d. Necessitates a revision of the opinion paragraph to include the phrase "with the foregoing
explanation."
c 16.In which of the following circumstances would an adverse opinion be appropriate?
a. The auditor is not independent with respect to the enterprise being audited.
b. An uncertainty prevents the issuance of an unqualified report.
c. The statements are not in conformity with authoritative statements regarding accounting for
pension plans.
d. A client-imposed scope limitation prevents the auditor from complying with generally accepted
auditing standards.

b 17. An audit report should be dated as of

a. the date the report is delivered to the entity audited.
b. the date of the last day of fieldwork.
c. the balance sheet date of the latest period reported on.
d. the date a letter of audit inquiry is received from the entity's attorney of record.

d 18. An auditor completed fieldwork on February 10, 2005 for a December 31, 2004 year-end client.
A significant subsequent event occurred on February 22, 2005. In this case, which of the
following report dates would not be appropriate?
a. February 10, 2005.
b. February 10, except Note 1, February 22, 2005.
c. February 22, 2005.
d. December 31, 2004.

d 19. Which of the following statements indicates a qualified opinion?

a. The financial statements do not present fairly in all material respects the financial position, results
of operations, and cash flows in conformity with GAAP.
b. The auditor does not express an opinion on the financial statements.
c. The financial statements present fairly in all material respects the financial position, results of
operations, and cash flows in conformity with GAAP.
d. Except for the effects of a matter, the financial statements present fairly in all material respects
the financial position, results of operations, and cash flows in conformity with GAAP.

b 20. Under Statement on Auditing Standards No. 59, "The Auditor's Consideration of an Entity's
Ability to Continue as a Going Concern," an independent auditor is responsible to
a. Predict whether the entity will be in business one year from the balance sheet date.
b. Evaluate whether there is substantial doubt about the entity's ability to continue as a going
concern.
c. Weigh mitigating factors against contrary information about the entity's ability to continue as a
going concern.
d. Report the entity's ability to continue as a going concern to senior management and to the board
of directors.

c 21. Does an auditor make the following representations explicitly or implicitly in a standard audit
report on comparative financial statements?

Consistent application Examination of

of accounting principles evidence on a test basis
a. Explicitly Explicitly
b. Implicitly Implicitly
c. Implicitly Explicitly
d. Explicitly Implicitly (AICPA ADAPTED)
a 22. An auditor is unable to determine the amounts associated with illegal acts committed by a client.
The auditor would most likely
a. Issue either a qualified opinion or a disclaimer of opinion.
b. Issue an adverse opinion.
c. Issue either a qualified opinion or an adverse opinion.
d. Issue a disclaimer of opinion. (AICPA ADAPTED)

b 23. A principal auditor is satisfied both with the independence and professional reputation of another
auditor who audited a subsidiary, but wants to share responsibility with the other auditor in the
audit report. The principal auditor should
a. Modify the scope and opinion paragraphs of the report.
b. Modify the introductory and opinion paragraphs of the report.
c. Not modify the report except for including an explanatory paragraph.
d. Modify the opinion paragraph of the report. (AICPA ADAPTED)

a 24. An auditor may issue a qualified opinion for

Inadequate Scope
Disclosure Limitation
a. Yes Yes
b. Yes No
c. No Yes
d. No No (AICPA ADAPTED)

a 25. An explanatory paragraph following an opinion paragraph describes an uncertainty as follows:

As discussed in Note X to the financial statements, the company is a defendant in a lawsuit

alleging infringement of certain patent rights and claiming damages. Discovery proceedings
are in progress. The ultimate outcome of the litigation cannot presently be determined.
Accordingly, no provision for any liability that may result upon adjudication has been made in
the accompanying financial statements.

What type of opinion should the auditor express in this circumstance?

a. Unqualified.
b. Qualified.
c. Disclaimer.
d. Adverse. (AICPA ADAPTED)

d 26. An auditor's report that refers to a departure from generally accepted accounting principles
includes the language, “In our opinion, with the foregoing explanation, the financial statements
referred to above present fairly ...” This is a/an
a. Adverse opinion.
b. Qualified opinion.
c. Unqualified opinion with an explanatory paragraph.
d. Example of inappropriate reporting. (AICPA ADAPTED)
b 27. When management prepares financial statements on the basis of a going concern and the auditor
believes the company may not continue as a going concern, the auditor should issue
a. A qualified opinion.
b. An unqualified opinion with an explanatory paragraph.
c. A disclaimer of opinion.
d. An adverse opinion. (AICPA ADAPTED)

b 28. An auditor concludes that there is substantial doubt about an entity's ability to continue as a going
concern. If the entity's disclosures about continued existence are adequate, the audit report may
include

A disclaimer of opinion A qualified opinion

a. Yes Yes
b. No No
c. No Yes
d. Yes No (AICPA ADAPTED)

a 29. Keller, CPA, was about to issue an unqualified opinion on the financial statements of Lupton
Television Broadcasting Company when a letter was received from Lupton's independent
counsel. The letter stated that the Federal Communications Commission has notified Lupton that
its broadcasting license will not be renewed because of alleged irregularities in its broadcasting
practices. Lupton cannot continue to operate without the license. Keller has also learned that
Lupton and its independent counsel plan to take all necessary legal action to retain the license.
The letter from independent counsel, however, states that a favorable outcome of any legal action
is highly uncertain. On the basis of this information, what action should Keller take?
a. Issue an unqualified opinion, with an explanatory paragraph that describes the matter--giving rise
to the uncertainty.
b. Issue an unqualified opinion if full disclosure is made of the matter in a note to the financial
statements.
c. Issue an adverse opinion and disclose all reasons why.
d. Issue a piecemeal opinion with full disclosure made of the license dispute in a note to the
financial statements. (AICPA ADAPTED)

d 30. If the auditor believes that required disclosures are omitted from the financial statements, the
auditor should decide between issuing
a. A qualified opinion or an adverse opinion.
b. A disclaimer of opinion or a qualified opinion.
c. An adverse opinion or a disclaimer of opinion.
d. An unqualified opinion or a qualified opinion. (AICPA ADAPTED)

b 31. An auditor's report on comparative financial statements should be dated as of the date the
a. Report is issued.
b. Auditor's fieldwork is completed.
c. Fiscal year ends.
d. Last subsequent event occurred. (AICPA ADAPTED)
b 32. An auditor is confronted with an exception sufficiently material to warrant departing from the
standard wording of an unqualified report. If the exception relates to a departure from generally
accepted accounting principles, the auditor must decide between
a. An adverse opinion and an unqualified opinion.
b. An adverse opinion and a qualified opinion.
c. An adverse opinion and a disclaimer of opinion.
d. A disclaimer of opinion and a qualified opinion. (AICPA ADAPTED)

a 33. An auditor had expressed a qualified opinion on the financial statements of a prior period because
the client's financial statements departed from generally accepted accounting principles. The prior
period statements are restated in the current period to conform with generally accepted
accounting principles. The auditor's updated report on the prior period statements should
a. Express an unqualified opinion about the restated financial statements.
b. Be accompanied by the auditor's original report on the prior period.
c. Bear the same date as the auditor's original report on the prior period.
d. Qualify the opinion concerning the restated financial statements because of a change in
accounting principles. (AICPA ADAPTED)
 CHAPTER 4 Evidence

MULTIPLE CHOICE

c 1. Of the following, which is the least persuasive type of audit evidence?

a. Documents mailed by outsiders to the auditor.
b. Correspondence between auditor and vendors.
c. Copies of sales invoices inspected by the auditor.
d. Computations made by the auditor. (AICPA ADAPTED)

c 2. Analytical procedures are

a. Substantive tests designed to evaluate a system of internal control.
b. Tests of controls designed to evaluate the validity of management's representation letter.
c. Substantive tests designed to evaluate the reasonableness of financial information.
d. Tests of controls designed to evaluate the reasonableness of financial information.
(AICPA ADAPTED)

c 3. Which of the following best describes the primary purpose of audit procedures?
a. To detect errors or irregularities.
b. To comply with generally accepted accounting principles.
c. To gather corroborative evidence.
d. To verify the accuracy of account balances. (AICPA ADAPTED)

d 4. The procedures specifically outlined in an audit program are primarily designed to

a. Protect the auditor in the event of litigation.
b. Detect errors or irregularities.
c. Test internal control structure.
d. Gather evidence. (AICPA ADAPTED)

b 5. Which of the following is ordinarily designed to detect possible material dollar errors on the
financial statements?
a. Tests of controls.
b. Analytical procedures.
c. Computer controls.
d. Post audit working paper review. (AICPA ADAPTED)

d 6. Which of the following statements relating to the competence of evidential matter is always true?
a. Evidential matter gathered by an auditor from outside an enterprise is reliable.
b. Accounting data developed under satisfactory conditions of internal control are more relevant
than data developed under unsatisfactory conditions.
c. Oral representations made by management are not valid.
d. Evidence gathered by auditors must be both valid and relevant to be considered competent.
(AICPA ADAPTED)

c 7. In the context of an audit of financial statements, substantive tests are audit procedures that
a. May be eliminated under certain conditions.
b. Are designed to discover significant subsequent events.
c. May be either tests of transactions, direct tests of financial balances, or analytical tests.
d. Will increase proportionately with the auditor's assessment of control risk.
(AICPA ADAPTED)
a 8. Which of the following elements ultimately determines the specific auditing procedures that are
necessary in the circumstances to afford a reasonable basis for an opinion?
a. Auditor judgment.
b. Materiality.
c. Relative risk.
d. Reasonable assurance.
(AICPA ADAPTED)

d 9. Which of the following factors will least affect the independent auditor's judgment as to the
quantity, type, and content of the working papers desirable for a particular engagement?
a. Nature of the auditor's report.
b. Nature of the financial statements, schedules, or other information upon which the auditor is
reporting.
c. Need for supervision and review.
d. Number of personnel assigned to the audit. (AICPA ADAPTED)

a 10. An auditor's working papers will generally be least likely to include documentation showing how
the
a. Client's schedules were prepared.
b. Engagement had been planned.
c. Client's internal control structure had been reviewed and evaluated.
d. Unusual matters were resolved. (AICPA ADAPTED)

c 11. Which of the following is not a primary purpose of audit working papers?
a. To coordinate the examination.
b. To assist in preparation of the audit report.
c. To support the financial statements.
d. To provide evidence of the audit work performed. (AICPA ADAPTED)

b 12. The understanding between the client and the auditor as to the degree of responsibility to be
assumed by each is normally set forth in a(n)
a. Representation letter.
b. Engagement letter.
c. Management letter.
d. Comfort letter. (AICPA ADAPTED)

b 13. Audit evidence takes different forms and varies in persuasiveness. Which of the following is the
least persuasive type of evidence?
a. Vendor's invoice.
b. Bank statement obtained from the client.
c. Computations made by the auditor.
d. Canceled checks. (AICPA ADAPTED)

b 14. The following statements were made in a discussion of audit evidence by two independent
auditors. Which statement is untrue?
a. “I am seldom convinced beyond all doubt about all aspects of the financial statements being
audited.”
b. “I would not undertake that procedure because, at best, the results would only be persuasive and
I'm looking for convincing evidence.”
c. “I evaluate the degree of risk involved in deciding the kind of evidence I will gather.”
d. “I evaluate the usefulness of the evidence I can obtain against the cost to obtain it.”
 (AICPA ADAPTED)
b 15. As the acceptable level of detection risk decreases, an auditor may change the
a. Timing of substantive tests by performing them at an interim date rather than at year-end.
b. Nature of substantive tests from a less effective to a more effective procedure.
c. Timing of tests of controls by performing them at several dates rather than at one time.
d. Assessed level of inherent risk to a higher amount. (AICPA ADAPTED)

d 16. When an independent auditor is approached to perform an audit for the first time, he or she
should make inquiries of the predecessor auditor. Inquiries are necessary because the predecessor
may be able to provide the successor with information that will assist the successor in
determining whether
a. The predecessor's work should be used.
b. The company rotates auditors.
c. Control risk is low, in the predecessor’s opinion.
d. The engagement should be accepted. (AICPA ADAPTED)

b 17. The purpose of tests of controls is to provide reasonable assurance that

a. The extent of substantive testing is minimized.
b. Evidence will be obtained to determine an assessed level of control risk.
c. Errors and irregularities are prevented or detected in a timely manner.
d. The auditor has an understanding of the control environment. (AICPA ADAPTED)

c 18. An auditor's working papers should

a. Not be permitted to serve as a reference source for the client.
b. Not contain comments critical of management.
c. Show that the accounting records agree or reconcile with the financial statements.
d. Be considered the primary support for the financial statements being audited.

(AICPA ADAPTED)

c 19. Which of the following is not a factor affecting the independent auditor's judgment about the
quantity, type, and content of audit working papers?
a. The needs for supervision and review of the work performed by assistants.
b. The nature and condition of the client's records and internal controls.
c. The expertise of client personnel and their participation in preparing schedules.
d. The type of the financial statements, schedules, or other information on which the auditor is
reporting. (AICPA ADAPTED)

c 20. During an audit engagement, data are compiled and included in the audit working papers. The
working papers are
a. A client-owned record of conclusions reached by the auditors who performed the engagement.
b. Evidence supporting financial statements.
c. Support for the auditor's compliance with generally accepted auditing standards.
d. A record to be used as a basis for the following year's engagement. (AICPA ADAPTED)

c 21. The current file of the auditor's working papers generally should include
a. A flowchart of the internal controls.
b. Organization charts.
c. A copy of the financial statements.
d. Copies of bond and note indentures. (AICPA ADAPTED)
b 22. Using laptop computers in auditing may affect the methods used to review the work of staff
assistants because
a. Supervisory personnel may not have an understanding of the capabilities and limitations of
computers.
b. Working paper documentation may not contain readily observable details of calculations.
c. The audit field work standards for supervision may differ.
d. Documenting the supervisory review may require assistance of management services personnel.
(AICPA ADAPTED)

c 23. Which of the following persons is not a specialist upon whose work an auditor may rely?
a. Actuary.
b. Appraiser.
c. Internal auditor.
d. Engineer. (AICPA ADAPTED)

b 24. In which of the following instances would an auditor be least likely to require the assistance of a
specialist?
a. Assessing the value of inventories of works of art.
b. Determining the quantities of materials stored in piles.
c. Determining the value of unlisted securities.
d. Determining the assessed value of fixed assets. (AICPA ADAPTED)
 CHAPTER 5 The Audit and Assurance Service Process

MULTIPLE CHOICE

c 1. Client strategy templates provide a means for an auditor to

a. Acquire, evaluate, and document evidence.
b. Focus on transactions likely to affect audit risk.
c. Compile the strategies and characteristics of an entity.
d. Distinguish between engagement risk and audit risk.

a 2. The U.S. market for health care services has experienced a number of cost-containment
initiatives, including
a. Generic substitution.
b. Exclusivity periods.
c. Backorders.
d. Patent abatement.

b 3. Balanced scorecards provide a means for an auditor to

a. Evaluate an entity’s profitability, liquidity, and solvency.
b. Compile data about an entity’s financial, customer, business, and learning perspectives.
c. Identify financial ratios most relevant to an entity.
d. Establish trends.

b 4. The internal business perspective of a balanced scorecard measures all of the following except
a. Product development.
b. Productivity.
c. Core competencies.
d. Quality.

d 5. Prior to the acceptance of an audit engagement with a client who has terminated the services of
the predecessor auditor, the CPA should
a. Contact the predecessor auditor without advising the prospective client and request a complete
report of the circumstance leading to the termination with the understanding that all information
disclosed will be kept confidential.
b. Accept the engagement without contacting the predecessor auditor since the CPA can include
audit procedures to verify the reason given by the client for the termination.
c. Not communicate with the predecessor auditor because this would in effect be asking the auditor
to violate the confidential relationship between auditor and client.
d. Advise the client of the intention to contact the predecessor auditor and request permission for the
contact. (AICPA ADAPTED)

a 6. Early appointment of the auditor enables preliminary work to be performed by the auditor, which
benefits the client in that it permits the examination to be performed in
a. A more efficient manner.
b. A more thorough manner.
c. Accordance with quality control standards.
d. Accordance with generally accepted auditing standards. (AICPA ADAPTED)
d 7. Which of the following should an auditor obtain from the predecessor auditor prior to accepting
an audit engagement?
a. Analysis of balance sheet accounts.
b. Analysis of income statement accounts.
c. All matters of continuing accounting significance.
d. Facts that might bear on the integrity of management. (AICPA ADAPTED)

d 8. A difference of opinion over accounting and auditing matters relative to a particular phase of the
audit arises between an assistant auditor and the auditor responsible for the engagement. After
appropriate consultation, the assistant auditor asks to be disassociated from the resolution of the
matter. The working papers would probably be
a. Silent on the matter since it is an internal matter of the firm.
b. Expanded to note that the assistant auditor is completely disassociated from responsibility for the
auditor's opinion.
c. Expanded to document the additional work required since all disagreements of this type will
require expanded substantive testing.
d. Expanded to document the assistant auditor's position and how the difference of opinion was
resolved. (AICPA ADAPTED)

d 9. Which of the following situations would most likely require special audit planning by the
auditor?
a. Some items of factory and office equipment do not bear identification numbers.
b. Depreciation methods used on the client's tax return differ from those used on the books.
c. Assets costing less than $500 are expensed even though the expected life exceeds one year.
d. Inventory comprises precious stones. (AICPA ADAPTED)

b 10. What is the responsibility of a successor auditor to communicate with the predecessor auditor in
connection with a prospective new client?
a. The successor auditor has no responsibility to contact the predecessor auditor.
b. The successor auditor should obtain permission from the prospective client to contact the
predecessor auditor.
c. The successor auditor should contact the predecessor auditor if the client authorizes contact.
d. The successor auditor need not contact the predecessor if the successor is aware of all available
relevant facts. (AICPA ADAPTED)

d 11. The auditor will not ordinarily initiate discussion with the audit committee concerning the
a. Extent to which the work of internal auditors will influence the scope of the examination.
b. Extent to which change in the company's organization will influence the scope of the
examination.
c. Details of potential problems the auditor believes might cause a qualified opinion.
d. Details of the procedures the auditor intends to apply. (AICPA ADAPTED)

d 12. With respect to the auditor's planning of a year-end examination, which of the following
statements is always true?
a. An engagement should not be accepted after the fiscal year-end.
b. An inventory count must be observed at the balance sheet date.
c. The client's audit committee should not be told of the specific audit procedures that will be
performed.
d. It is an acceptable practice to carry out substantial parts of the examination at interim dates.
 (AICPA ADAPTED)

d 13. In planning an audit engagement, which of the following affects the independent auditor's
judgment as to the quantity, type, and content of working papers?
a. The estimated occurrence rate of attributes.
b. The preliminary evaluations based on substantive testing.
c. The content of the client's representation letter.
d. The anticipated nature of the auditor's report. (AICPA ADAPTED)

d 14. In pursuing its quality control objectives with respect to acceptance of a client, a CPA firm is not
likely to
a. Make inquiries of the proposed client's legal counsel.
b. Review financial statements of the proposed client.
c. Make inquiries of previous auditors.
d. Review the personnel practices of the proposed client. (AICPA ADAPTED)

a 15. The independent auditor's plan for an audit in accordance with generally accepted auditing
standards is influenced by the possibility of material errors. The auditor will therefore conduct
the examination with an attitude of
a. Professional skepticism.
b. Subjective mistrust.
c. Objective indifference.
d. Professional responsiveness. (AICPA ADAPTED)

d 16. In using the work of a specialist, an understanding should exist among the auditor, the client, and
the specialist as to the nature of the work to be performed by the specialist. Preferably, the
understanding should be documented and would include all of the following except
a. The objectives and scope of the specialist's work.
b. The specialist's representations as to her or his relationship, if any, to the client.
c. The specialist's understanding of the auditor's corroborative use of the specialist's findings in
relation to the representations in the financial statements.
d. A statement that the methods or assumptions to be used are not inconsistent with those used by
the client. (AICPA ADAPTED)
 CHAPTER 6 Internal Control and Information Technology

MULTIPLE CHOICE

b 1. In general, a material weakness in internal control may be defined as a condition in which

material errors or irregularities may occur and not be detected within a timely period by
a. An independent auditor during tests of controls.
b. Employees in the normal course of performing their assigned functions.
c. Management when reviewing interim financial statements and reconciling account balances.
d. Outside consultants who issue a special-purpose report on internal control structure.
(AICPA ADAPTED)

b 2. Internal control procedures are not designed to provide reasonable assurance that
a. Transactions are executed in accordance with management's authorization.
b. Irregularities will be eliminated.
c. Access to assets is permitted only in accordance with management's authorization.
d. The recorded accountability for assets is compared with the existing assets at reasonable
intervals.
(AICPA ADAPTED)

c 3. Which of the following is the correct order for performing the auditing procedures A through C
below?
A = Tests of controls
B = Preparation of a flowchart depicting the client's internal control structure
C = Substantive tests
a. ABC.
b. ACB.
c. BAC.
d. BCA. (AICPA ADAPTED)

a 4. A secondary purpose of the auditor's consideration of internal control is to provide

a. A basis for constructive suggestions about improvements in internal control structure.
b. A basis for assessing control risk.
c. An assurance that the records and documents have been maintained in accordance with existing
company policies and procedures.
d. A basis for the determination of the resultant extent of the tests to which auditing procedures are
to be restricted. (AICPA ADAPTED)

c 5. When considering internal control, an auditor must be aware of the concept of reasonable
assurance, which recognizes that
a. Employment of competent personnel provides assurance that the objectives of internal control
will be achieved.
b. Establishment and maintenance of internal control is an important responsibility of the
management and not of the auditor.
c. Cost of internal control procedures should not exceed the benefits expected to be derived from the
control.
 d. Segregation of incompatible functions is necessary to ascertain that the control procedures are
effective. (AICPA ADAPTED)
b 6. After considering a client's internal control, an auditor has concluded that the system is well
designed and is functioning as anticipated. Under these circumstances, the auditor would most
likely
a. Cease to perform further substantive tests.
b. Not increase the extent of planned substantive tests.
c. Increase the extent of anticipated analytical procedures.
d. Perform all tests of controls to the extent outlined in the preplanned audit program.
(AICPA ADAPTED)

c 7. The primary purpose of the auditor's consideration of internal control is to provide a basis for
a. Determining whether procedures and records that are concerned with the safeguarding of assets
are reliable.
b. Constructive suggestions to clients concerning deficiencies in internal control.
c. Determining the nature, timing, and extent of audit tests to be applied.
d. The expression of an opinion. (AICPA ADAPTED)

b 8. The purpose of tests of controls is to provide reasonable assurance that the

a. Accounting treatment of transactions and balances is valid and proper.
b. Control procedures are functioning as intended.
c. Entity has complied with disclosure requirements of GAAP.
d. Entity has complied with requirements of quality control. (AICPA ADAPTED)

b 9. The auditor's review of the client's internal control is documented in order to substantiate
a. Conformity of the accounting records with GAAP.
b. Compliance with generally accepted auditing standards.
c. Adherence to requirements of management.
d. The fairness of the financial statement presentation. (AICPA ADAPTED)

d 10.After consideration of a client's internal control, an auditor might decide to

a. Increase the extent of substantive testing in areas where the control structure is strong.
b. Reduce the extent of tests of controls in areas where the controls are strong.
c. Reduce the extent of both substantive tests and tests of controls in areas where the controls are
strong.
d. Increase the extent of substantive testing in areas where the controls are weak.
(AICPA
ADAPTED)

a 11. After documenting internal control in an audit engagement, the auditor may perform tests on
a. Those controls that the auditor plans to rely on.
b. Those controls in which deficiencies were identified.
c. Those controls that have a material effect on the financial statement balances.
d. A random sample of the controls that were reviewed. (AICPA ADAPTED)

a 12. The auditor is examining copies of sales invoices only for the initials of the person responsible
for checking the extensions. This is an example of a
a. Test of controls.
b. Substantive test.
c. Dual-purpose test.
d. Test of balances. (AICPA ADAPTED)
b 13. In an auditor's consideration of internal control, the completion of a questionnaire is most closely
associated with which of the following?
a. Separation of duties.
b. Understanding the system.
c. Flowchart accuracy.
d. Tests of controls. (AICPA ADAPTED)

b 14. The reliance placed on substantive tests in relation to control risk varies in a relationship that is
ordinarily
a. Parallel.
b. Inverse.
c. Direct.
d. Equal. (AICPA ADAPTED)

c 15. The auditor observes client employees in order to

a. Prepare a flowchart.
b. Update information contained in the organization and procedure manuals.
c. Corroborate the information obtained during the initial review of the system.
d. Determine the extent of compliance with quality control standards. (AICPA ADAPTED)

c 16. A consideration of internal control made during an audit is usually not sufficient to express an
opinion on an entity's controls because
a. Weaknesses in the system may go unnoticed during the audit engagement.
b. A consideration of internal control is not necessarily made during an audit engagement.
c. Only those controls on which an auditor intends to rely are reviewed, tested, and evaluated.
d. Controls can change each year. (AICPA ADAPTED)

a 17. An auditor's report on internal control of a publicly held company would ordinarily be of least
use to
a. Shareholders.
b. Officers.
c. Directors.
d. Regulatory agencies. (AICPA ADAPTED)

a 18.The accountant's report expressing an opinion on an entity's internal controls should state that the
a. Establishment and maintenance of internal control is the responsibility of management.
b. Objectives of the client's internal controls are being met.
c. Consideration of the internal controls was conducted in accordance with generally accepted
auditing standards.
d. Inherent limitations of the client's internal controls were examined. (AICPA ADAPTED)

d 19. The accountant's report expressing an opinion on an entity's internal controls would not include a
a. Description of the scope of the engagement.
b. Specific date that the report covers rather than a period of time.
c. Brief explanation of the broad objectives and inherent limitations of internal control.
d. Statement that the entity's internal controls are consistent with that of the prior year after giving
effect to subsequent changes. (AICPA ADAPTED)
a 20. A CPA's consideration of internal control in an audit
a. Is generally more limited than that made in connection with an engagement to express an opinion
on internal control.
b. Is generally more extensive than that made in connection with an engagement to express an
opinion on internal control.
c. Will generally be identical to that made in connection with an engagement to express an opinion
on internal control.
d. Will generally result in the CPA expressing an opinion on the internal control.
(AICPA ADAPTED)

c 21. The auditor who becomes aware of reportable conditions is required to communicate this to the
a. Audit committee and client's legal counsel.
b. Board of directors and internal auditors.
c. Senior management and board of directors.
d. Internal auditors and senior management. (AICPA ADAPTED)

d 22. Which of the following is not a purpose of an auditor's attempt to understand internal control
when a client processes accounting information by computer?
a. Determine the extent to which the computer is used in significant accounting applications.
b. Understand the flow of transactions in the system.
c. Comprehend the basic structure of accounting control.
d. Identify the controls that can be relied on when designing substantive tests of details.
(AICPA ADAPTED)

d 23. Which of the following is likely to be of least importance to an auditor when assessing control
risk in a company that processes data by computer?
a. The segregation of duties within the computer department.
b. The control over source documents.
c. The documentation maintained for accounting applications.
d. The cost-benefit ratio of data processing operations. (AICPA ADAPTED)

b 24. In considering a client's internal control structure in a computer environment, the auditor will
encounter general controls and application controls. Which of the following is an application
control?
a. Organization charts.
b. Hash total.
c. Systems flowcharts.
d. Control over program changes. (AICPA ADAPTED)

a 25. Auditing by testing the input and output of a computer system--i.e., auditing "around" the
computer--instead of the computer software itself will
a. Not detect program errors that do not appear in the output sampled.
b. Detect all program errors, regardless of the nature of the output.
c. Provide the auditor with the same type of evidence.
d. Not provide the auditor with confidence in the results of the auditing procedures.
(AICPA ADAPTED)
b 26. Smith Corporation has numerous customers. A customer file is kept on disk. Each customer file
contains the name, address, credit limit, and account balance. The auditor wishes to test this file
to determine whether credit limits are being exceeded. The best procedure for the auditor to
follow would be to
a. Develop test data that would cause some account balances to exceed the credit limit and
determine if the system properly detects such situations.
b. Develop a program to compare credit limits with account balances and print out the details of any
account with a balance exceeding its credit limit.
c. Request a printout of all account balances so they can be manually checked against the credit
limits.
d. Request a printout of a sample of account balances so they can be individually checked against
the credit limits. (AICPA ADAPTED)

a 27. Which of the following methods of testing application controls utilizes software prepared by the
auditors and applied to the client's data?
a. Parallel simulation.
b. Integrated test facility.
c. Test data.
d. Exception report tests. (AICPA ADAPTED)

c 28. The test–data method is used by auditors to test the

a. Accuracy of input data.
b. Validity of the output.
c. Procedures contained within the program.
d. Normalcy of distribution of test data. (AICPA ADAPTED)

c 29.Which of the following is true of generalized audit software?

a. They can be used only in auditing on-line computer systems.
b. They can be used on any computer without modification.
c. They each have their own characteristics, which the auditor must carefully consider before using
in a given audit situation.
d. They enable the auditor to perform all manual compliance test procedures less expensively.
(AICPA ADAPTED)

d 30. Assume that an auditor estimated that 10,000 checks were issued during the accounting period. If
an application control that performs a limit check for each check request is to be subjected to the
auditor's test–data approach, the sample should include:
a. Approximately 1,000 test items.
b. A number of test items determined by the auditor to be sufficient under the circumstances.
c. A number of test items determined by the auditor's reference to the appropriate sampling tables.
d. One transaction. (AICPA ADAPTED)

d 31. PC DOS, MS DOS, and AppleDOS are examples of

a. Application software.
b. Generalized audit software.
c. Database management systems.
d. Operating software.
c 32. Which of the following is not an example of a computer-assisted audit technique?
a. Integrated test data.
b. Audit modules.
c. Disk operating systems.
d. Audit hooks.

c 33. Which of the following statements most likely represents a disadvantage for an entity that
maintains computer data files rather than manual files?
a. It's usually more difficult to detect transposition errors.
b. Transactions are usually authorized before they are executed and recorded.
c. It's usually easier for unauthorized persons to access and alter the files.
d. Random error is more common when similar transactions are processed in different ways.

b 34. Transaction authorization within an organization may be either specific or general. An example of
specific transaction authorization is the
a. Setting of automatic reorder points.
b. Approval of a construction budget for a new warehouse.
c. Establishment of a customer's credit limits.
d. Establishment of sales prices. (AICPA ADAPTED)

a 35. Proper segregation of functional responsibilities calls for separation of the functions of
a. Authorization, execution, and recording.
b. Authorization, execution, and payment.
c. Custody, execution, and reporting.
d. Authorization, payment, and recording. (AICPA ADAPTED)

b 36. An auditor should consider the competence of a client's employees because their competence
bears directly and importantly on the
a. Cost-benefit relationship of internal control.
b. Achievement of the objectives of internal control.
c. Comparison of recorded accountability with assets on hand.
d. Timing of the tests to be performed. (AICPA ADAPTED)

a 37. Which of the following elements is not a part of an entity's internal controls?
a. Control risk.
b. Control activities.
c. The accounting system.
d. The control environment. (AICPA ADAPTED)

d 38. Which of the following statements about internal control is correct?

a. Properly maintained internal controls reasonably assure that collusion among employees cannot
occur.
b. Establishing and maintaining internal control is the internal auditor's responsibility.
c. Exceptionally strong control allows the auditor to eliminate substantive tests of details.
d. The cost-benefit relationship should be considered in designing internal controls.
(AICPA ADAPTED)
b 39. Which of the following is not done by an auditor when obtaining an understanding of an entity's
internal controls?
a. Identify the types of potential misstatements that can occur.
b. Consider the operating effectiveness of the internal controls.
c. Design substantive tests.
d. Consider factors that affect the risk of material misstatements. (AICPA ADAPTED)

c 40. Which of the following audit tests would be a test of controls?

a. Tests of the specific items making up the balance in a financial statement account.
b. Comparing inventory prices to vendors' invoices.
c. Comparing signatures on canceled checks to board of directors' authorizations.
d. Tests of the additions to property, plant, and equipment by physical inspections.
(AICPA ADAPTED)

c 41. The sequence of steps in gathering evidence as the basis of the auditor's opinion is:
a. Substantive tests, documentation of control structure, and tests of controls.
b. Documentation of control structure, substantive tests, and tests of controls.
c. Documentation of control structure, tests of controls, and substantive tests.
d. Tests of controls, documentation of control structure, and substantive tests.
(AICPA ADAPTED)

c 42. Which of the following procedures is essential to determining whether necessary control
activities were prescribed and are being followed?
a. Developing questionnaires and checklists.
b. Evaluating the entity's procedures for risk assessment.
c. Documenting and testing controls.
d. Observing employees and making inquiries. (AICPA ADAPTED)

b 43. Evidence about segregation of duties is best obtained by

a. Inspecting documents that contain the initials of who performed control activities.
b. Direct personal observation of employees who perform control activities.
c. Preparing a flowchart of who performs the duties.
d. Making inquiries of coworkers about the employee who performs the duties.
(AICPA ADAPTED)

a 44. An auditor's flowchart of a client's internal controls is a diagram depicting the auditor's
a. Understanding of the internal controls.
b. Program for tests of controls.
c. Documentation of having considered the internal controls.
d. Understanding of the types of irregularities that are probable. (AICPA ADAPTED)

a 45. An auditor is required to communicate significant deficiencies in internal control to

a. Audit committee of the board of directors.
b. Creditors and board of directors.
c. Board of directors and internal auditors.
d. Internal auditors and senior management. (AICPA ADAPTED)
b 46. An auditor has concluded that a client's internal controls are well designed and functioning as
expected. Under these circumstances the auditor would most likely
a. Cease to perform further substantive tests.
b. Not increase the extent of planned substantive tests.
c. Increase the extent of planned analytical procedures.
d. Perform all tests of controls to the extent outlined in the audit program. (AICPA ADAPTED)

b 47. Reportable conditions are matters that come to an auditor's attention and that should be
communicated to an entity's audit committee because they represent
a. Material irregularities or illegal acts perpetrated by management.
b. Significant deficiencies in the design or operation of internal control.
c. Flagrant violations of the entity's documented conflict-of-interest policies.
d. Intentional attempts by client personnel to limit the scope of the auditor's work.
(AICPA ADAPTED)

d 48. Which of the following statements best describes a weakness often associated with computers?
a. Computer equipment is more subject to systems error than manual processing is subject to human
error.
b. Computer equipment processes and records similar transactions in a similar manner.
c. Control activities for detecting invalid and unusual transactions are less effective than manual
control activities.
d. Functions that would normally be separated in a manual system are combined in a computer
system. (AICPA ADAPTED)

b 49. Accounting functions that are normally considered incompatible in a manual system are often
combined by computer software. This necessitates an application control that prevents
unapproved
a. Access to the computer library.
b. Revisions to existing software.
c. Usage of software.
d. Testing of modified software. (AICPA ADAPTED)

b 50. When software or files can be accessed from on-line servers, users should be required to enter
a. A parity check.
b. A personal identification code.
c. A self-diagnosis test.
d. An echo check.

b 51. An auditor's consideration of a company's computer control activities has disclosed the following
four circumstances. Indicate which circumstance constitutes a significant deficiency in internal
control.
a. Computer operators do not have access to the complete software support documentation.
b. Computer operators are closely supervised by programmers.
c. Programmers are not authorized to operate computers.
d. Only one generation of backup files is stored in an off-premises location. (AICPA ADAPTED)
a 52. A control feature requires the computer to send signals to the printer to activate the print
mechanism for each character. The print mechanism, just prior to printing, sends a signal back to
the computer verifying that the proper print position has been activated. This type of hardware
control is referred to as a/an
a. Echo check.
b. Validity check.
c. Signal check.
d. Check digit. (AICPA ADAPTED)

d 53. In a computer system, hardware controls are designed to

a. Arrange data in a logical sequence for processing.
b. Correct errors in software.
c. Monitor and detect errors in source documents.
d. Detect and control errors arising from use of equipment. (AICPA ADAPTED)

b 54. The primary objective of procedures performed to obtain an understanding of internal control is
to provide an auditor with
a. Evidential matter to use in reducing detection risk.
b. Knowledge necessary to plan the audit.
c. A basis from which to modify tests of controls.
d. Information necessary to prepare flowcharts. (AICPA ADAPTED)
 CHAPTER 7 Sampling in Tests of Controls

MULTIPLE CHOICE

b 1. The application of statistical sampling techniques is least related to which of the following
generally accepted auditing standards?
a. The work is to be adequately planned, and assistants, if any, are to be properly supervised.
b. In all matters relating to the assignment, independence in mental attitude is to be maintained by
the auditor or auditors.
c. A sufficient understanding of internal control is to be obtained to plan the audit and to determine
the nature, timing, and extent of tests to be performed.
d. Sufficient competent evidential matter is to be obtained through inspection, observation,
inquiries, and confirmations to afford a reasonable basis for an opinion about the financial
statements under audit.

b 2. An auditor plans to test a sample of 20 checks for counter signatures as prescribed by the client's
control procedures. One of the checks in the chosen sample of 20 cannot be found. The auditor
should consider the reasons for this limitation and
a. Evaluate the results as if the sample size had been 19.
b. Treat the missing check as a deviation for the purpose of evaluating the sample.
c. Treat the missing check in the same manner as the majority of the other 19 checks, i.e.,
countersigned or not.
d. Choose another check to replace the missing check in the sample. (AICPA ADAPTED)

b 3. The tolerable rate of deviation for tests of controls necessary to justify a control risk assessment
depends primarily on which of the following?
a. The cause of errors.
b. The extent of reliance to be placed on the procedures.
c. The amount of any substantive errors.
d. The limit used in audits of similar clients. (AICPA ADAPTED)

b 4. Which of the following sampling methods is most useful to auditors when performing tests of
controls?
a. Discovery sampling.
b. Attribute estimation.
c. Variable sampling.
d. Unrestricted random sampling with replacement. (AICPA ADAPTED)

c 5. An underlying feature of random sampling is that each

a. Stratum of the accounting population be given equal representation in the sample.
b. Item in the accounting population be randomly ordered.
c. Item in the accounting population should have an opportunity to be selected.
d. Item must be systematically selected using replacement. (AICPA ADAPTED)

c 6. Given random sampling, the same sample size, and the same tolerable error for the testing of two
unequal populations, the risk of assessing control risk too low on the smaller population is
a. The same as the risk of assessing control risk too low on the larger population.
b. Higher than the risk of assessing control risk too low on the larger population.
c. Lower than the risk of assessing control risk too low on the larger population.
d. Indeterminable relative to the risk of assessing control risk too low on the larger population.
(AICPA ADAPTED)
a 7. At times, a sample may indicate that the auditor's assessed level of control risk for a given control
is reasonable when, in fact, the true compliance rate does not justify the assessed level. This
situation illustrates the risk of
a. Assessing control risk too low.
b. Assessing control risk too high.
c. Incorrect precision.
d. Incorrect rejection. (AICPA ADAPTED)

b 8. Which of the following is an element of sampling risk?

a. Choosing an audit procedure that is inconsistent with the audit objective.
b. Choosing a sample size that is too small to achieve the sampling objective.
c. Failing to detect an error on a document that has been inspected by the auditor.
d. Failing to perform audit procedures that are required by the sampling plan.
(AICPA ADAPTED)

b 9. An auditor examining inventory may appropriately apply sampling for attributes in order to
estimate the
a. Average price of inventory items.
b. Percentage of slow-moving inventory items.
c. Dollar value of inventory.
d. Physical quantity of inventory items. (AICPA ADAPTED)

b 10. The tolerable rate of deviations for a test of controls is generally

a. Lower than the expected rate of errors in the related accounting population.
b. Higher than the expected rate of errors in the related accounting records.
c. Identical to the expected rate of errors in the related accounting records.
d. Unrelated to the expected rate of errors in the related accounting records. (AICPA ADAPTED)

a 11. If the auditor is concerned that a population may contain exceptions, the determination of a
sample size sufficient to include at least one such exception is a characteristic of
a. Discovery sampling.
b. Variables sampling.
c. Random sampling.
d. Probability-proportional-to-size sampling. (AICPA ADAPTED)

a 12. Which of the following best illustrates the concept of sampling risk?
a. A randomly chosen sample may not be representative of the population as a whole on the
characteristic of interest.
b. An auditor may select audit procedures that are not appropriate to achieve the specific objective.
c. An auditor may fail to recognize errors in the documents examined for the chosen sample.
d. The documents related to the chosen sample may not be available for inspection.
(AICPA ADAPTED)

a 13. In attributes estimation, a 10 percent change in which of the following factors normally will have
the least effect on the size of the statistical sample?
a. Population size.
b. Precision interval.
c. Reliability.
d. Standard deviation. (AICPA ADAPTED)
c 14. If the size of the sample to be used in a particular test of attributes has not been determined by
utilizing statistical concepts but the sample has been chosen in accordance with random selection
procedures,
a. No inferences can be drawn from the sample.
b. The auditor has committed a nonsampling error.
c. The auditor may or may not achieve desired allowance for sampling risk at the desired level of
confidence.
d. The auditor will have to evaluate the results by reference to the principles of discovery sampling.
(AICPA
ADAPTED)

d 15. In examining cash disbursements, an auditor plans to choose a sample using systematic selection
with a random start. The primary advantage of such a systematic selection is that population
items
a. That include irregularities will not be overlooked when the auditor exercises compatible
reciprocal options.
b. May occur in a systematic pattern, thus making the sample more representative.
c. May occur more than once in a sample.
d. Do not have to be prenumbered in order for the auditor to use the technique.
(AICPA ADAPTED)

d 16. In attributes estimation, which of the following must be known in order to appraise the results of
the auditor's sample?
a. Estimated dollar value of the population.
b. Standard deviation of the values in the population.
c. Actual occurrence rate of the attribute in the population.
d. Sample size. (AICPA ADAPTED)

a 17. If all other factors specified in a sampling plan remain constant, changing the expected population
deviation rate from 1 percent to 2 percent would cause the required sample size to
a. Increase.
b. Remain the same.
c. Decrease.
d. Become indeterminate. (AICPA ADAPTED)

b 18. If a selected random number matches the number of a voided voucher, the voucher ordinarily
should be replaced by another voucher in the sample if the voucher
a. Constitutes a deviation.
b. Has been properly voided.
c. Cannot be located.
d. Represents an immaterial dollar amount. (AICPA ADAPTED)

c 19. Discovery sampling should be used to estimate whether a population contains

a. Errors of any kind.
b. Noncritical errors.
c. Critical deviations.
d. No errors. (AICPA ADAPTED)
a 20. Which of the following factors is generally not considered in determining the sample size for a
test of controls?
a. Population size.
b. Tolerable rate.
c. Risk of assessing control risk too low.
d. Expected population deviation rate. (AICPA ADAPTED)

b 21. Assuming the tolerable deviation rate is 5 percent, the expected population rate is 3 percent, and
the allowance for sampling risk is 2 percent, what should an auditor conclude if tests of 100
randomly selected documents reveals 4 deviations?
a. Accept the sample results as support for assessing control risk below the maximum because the
tolerable rate less the allowance for sampling risk equals the expected population deviation rate.
b. Assess control risk at the maximum because the sample deviation rate plus the allowance for
sampling risk exceeds the tolerable rate.
c. Assess control risk at the maximum because the tolerable rate plus the allowance for sampling
risk exceeds the expected population deviation rate.
d. Accept the sample results as support for assessing control risk below the maximum because the
sample deviation rate plus the allowance for sampling risk exceeds the tolerable rate.
(AICPA ADAPTED)
 CHAPTER 8 Sampling in Substantive Tests

MULTIPLE CHOICE

a 1. In assessing sampling risk, the risk of incorrect rejection and the risk of assessing control risk too
high relate to the
a. Efficiency of the audit.
b. Effectiveness of the audit.
c. Selection of the sample.
d. Audit quality controls. (AICPA ADAPTED)

a 2. If the achieved allowance for sampling risk of a statistical sample at a given reliability level is
greater than the desired range, this is an indication that the
a. Standard deviation was larger than expected.
b. Standard deviation was less than expected.
c. Population was larger than expected.
d. Population was smaller than expected. (AICPA ADAPTED)

c 3. An auditor initially planned to use unrestricted random sampling with replacement when testing
accounts receivable. Later, the auditor decided to use unrestricted random sampling without
replacement. As a result only of this decision, the sample size should
a. Increase.
b. Remain the same.
c. Decrease.
d. Be recalculated using a binomial distribution. (AICPA ADAPTED)

b 4. In which of the following cases would the auditor be most likely to conclude that all of the items
in an account under consideration should be examined rather than tested on a sample basis?

The measure of Error frequency is

tolerable error is expected to be

a. Large Low
b. Small High
c. Large High
d. Small Low (AICPA ADAPTED)

a 5. An advantage of using statistical sampling is that such techniques

a. Mathematically measure risk.
b. Eliminate the need for judgmental decision.
c. Define the value of reliability necessary to provide audit assurance.
d. Have been established in the courts to be superior to nonstatistical sampling.
(AICPA ADAPTED)
c 6. In comparison with probability-proportional-to-size (PPS) sampling, which of the following is an
advantage of classical variables sampling in auditing?
a. If no errors are expected, classical variables sampling usually results in a smaller sample size than
PPS sampling.
b. A classical variables sample can be designed more easily and sample selection can begin before
the complete population is available.
c. If there are many individual differences between recorded and audited amounts in the population,
classical variables sampling may result in a smaller sample size.
d. Classical variables sampling automatically results in a stratified sample because items are
selected in proportion to their dollar amounts.

d 7. In a variables sampling plan, an auditor must generally consider each of the following except
a. Variation within the population.
b. Acceptable risk of incorrect acceptance.
c. Tolerable error.
d. Population size.

c 8. In assessing the risk of incorrect acceptance, an auditor should consider each of the following
except
a. Audit risk.
b. The risk that internal control structure fails to detect material errors that occur.
c. Tolerable error.
d. The risk that analytical procedures and other tests fail to detect material errors that occur and that
are not detected by internal control.

a 9. An auditor is evaluating the results of a variables sampling plan. Which of the following is not
relevant to the auditor's judgment about the sample?
a. Management's explanations for why errors in the sample occurred.
b. Projecting the sample error to the population.
c. Considering the effects of sampling risk.
d. Qualitative information that lends insight into errors found.

b 10. Several conditions must be met before an auditor applies either difference or ratio estimation.
Which of the following is not one of these conditions?
a. Each population item must have a recorded book value.
b. The auditor must not expect understatement errors.
c. Total population book value must be known and must correspond to the sum of all individual
population items.
d. Expected differences between audited and recorded book values must not be too rare.

a 11. An auditor is applying a difference estimation sampling plan. Assuming the risk of incorrect
rejection is .10, and the risk of incorrect acceptance is .05, what is the ratio of desired allowance
for sampling risk to tolerable error?
a. .500.
b. .605.
c. .561.
d. Not determinable from the facts given.
b 12. An auditor is applying a difference estimation sampling plan. Assuming a .10 acceptable risk of
incorrect rejection, .05 acceptable risk of incorrect acceptance, and $100,000 tolerable error, what
is the auditor's desired allowance for sampling risk?
a. $ 25,000.
b. $ 50,000.
c. $100,000.
d. Not determinable from the facts given.

b 13. An auditor is applying a difference estimation sampling plan. Recorded book value is $1,000,000,
and the auditor estimates a $75,000 understatement difference. In this case, the auditor's
estimated population value is
a. $925,000.
b. $1,075,000.
c. $1,000,000.
d. Not determinable from the facts given.

a 14. An auditor is applying mean-per-unit estimation. Assuming estimated audited value is $950,000,
the achieved allowance for sampling risk is $75,000, and recorded book value is $925,000, what
is the auditor's conclusion?
a. Recorded book value is not likely misstated by a material amount.
b. Recorded book value is misstated by a material amount.
c. Recorded book value is not likely misstated by a material amount, assuming the client records an
adjusting journal entry equal to the allowance for sampling risk.
d. There is insufficient evidence to reach a conclusion.

a 15. In comparison with classical variables sampling, which of the following is an advantage of
probability-proportional-to-size (PPS) sampling?
a. PPS sampling automatically results in a stratified sample.
b. PPS sampling results in a smaller sample size if many differences are expected between audited
and recorded amounts.
c. PPS sampling is particularly appropriate when understatement errors are expected.
d. PPS sampling is less likely to overstate the allowance for sampling risk when errors are found in
the sample.

b 16. An auditor is applying probability-proportional-to-size (PPS) sampling. If the population consists

of 200 items and is represented by $1,000,000 what is the probability the auditor will select for
testing an account recorded at $100,000?
a. .005.
b. .100.
c. .025.
d. Not determinable from the facts given.

b 17. An auditor is applying probability-proportional-to-size (PPS) sampling. In determining sample

size, which of the following is not necessary?
a. A reliability factor for overstatement errors.
b. A reliability factor for understatement errors.
c. Tolerable error.
d. Anticipated error.
c 18. Probability-proportional-to-size (PPS) sampling is most appropriate when
a. The auditor anticipates understatement errors.
b. The auditor anticipates overstatement errors.
c. The auditor expects no errors.
d. The auditor has assessed control risk at the maximum.

a 19. An auditor is applying probability-proportional-to-size (PPS) sampling. Assuming the risk of

incorrect acceptance is .10, what is the reliability factor for overstatement differences?
a. 2.31.
b. 3.00.
c. 3.89.
d. Not determinable from the facts given.

c 20. An auditor is evaluating the results of a probability-proportional-to-size (PPS) sampling plan.

Assuming the incremental allowance is $10,500 and the allowance for sampling risk is $45,000,
what is basic precision for the sampling plan?
a. $34,500.
b. $45,000.
c. $55,500.
d. Not determinable from the facts given.

a 21. Which of the following sampling methods could be designed to estimate the dollar value of an
audit population?
a. Sampling for variables.
b. Sampling for attributes.
c. Discovery sampling.
d. Probability-proportional-to-size sampling. (AICPA ADAPTED)

a 22. Which of the following statements is correct about statistical sampling?

a. An auditor needs to estimate the population standard deviation to use classical variables
sampling.
b. An assumption of probability-proportional-to-size sampling is that the underlying accounting
population be distributed normally.
c. A classical variables sample needs to include negative balances in the sample.
d. The selection of zero balances usually does not require special sample design considerations
when using probability-proportional-to-size sampling. (AICPA ADAPTED)

a 23. If all other factors specified in a variables sampling plan remain constant, increasing the
acceptable risk of incorrect acceptance would cause the required sample size to
a. Decrease.
b. Remain the same.
c. Increase.
d. Become indeterminate. (AICPA ADAPTED)
d 24. An accounts receivable aging schedule was prepared on 300 pages with each page containing the
aging data for 50 accounts. The pages were numbered from 1 to 300 and the accounts listed on
each were numbered from 1 to 50. An auditor selected accounts receivable for confirmation using
a table of numbers as illustrated:

Select Column from Table of Numbers Separate 5 Digits: First 3 Digits, Last 2 Digits
02011 020 - 11 x
85393 853 - 93 *
97265 972 - 65 *
61680 616 - 80 *
16656 166 - 56 *
42751 427 - 51 *
69994 699 - 94 *
07942 079 - 42 y
10231 102 - 31 z
53988 539 - 88 *

x Mailed confirmation to account 11 listed on page 20

y Mailed confirmation to account 42 listed on page 79
z Mailed confirmation to account 31 listed on page 102
* Rejected

This is an example of which of the following sampling methods?

a. Block sampling.
b. Systematic sampling.
c. Haphazard sampling.
d. Random-number sampling. (AICPA ADAPTED)

c 25. In which sampling method is the probability of selecting an item proportional to the size of the
value of the item (i.e., a $1,000 item is 10 times more likely to be selected than a $100 item)?
a. Difference estimation.
b. Mean-per-unit estimation.
c. Probability-proportional-to-size sampling.
d. Nonstatistical sampling for variables. (AICPA ADAPTED)

c 26. Assume you are auditing a retail department store and want to estimate the dollar amount
of errors on sales invoices using probability-proportional-to-size sampling. Which of the
following is true?
a. The risks of incorrect acceptance and incorrect rejection are greater than for a classical
variables sampling plan.
b. Tolerable error is ignored.
c. An invoice with a large balance has a greater chance of being selected than one with a smaller
balance.
d. The estimate will be unreliable if the error rate is small.
 CHAPTER 9 Tests of Controls in the Revenue/Receipt Cycle: Sales
and Cash Receipts Transactions

MULTIPLE CHOICE

c 1. After the auditor has prepared a flowchart of internal control for sales and cash receipts
transactions and evaluated the design of the system, the auditor would perform tests of controls
on all control procedures
a. Documented in the flowchart.
b. Considered to be deficiencies that might allow errors to enter the accounting system.
c. Considered to be strengths that the auditor plans to rely on in assessing control risk.
d. That would aid in preventing irregularities. (AICPA ADAPTED)

b 2. To determine whether internal control effectively minimized errors of failure to bill a customer
for a shipment, the auditor would select a sample of transactions from the population represented
by the
a. Customer order file.
b. Shipping records file.
c. Subsidiary customer accounts ledger.
d. Sales invoice. (AICPA ADAPTED)

a 3. Which of the following would the auditor consider to be an incompatible operation if the cashier
receives remittances from the mailroom?
a. The cashier posts the receipts to the accounts receivable subsidiary ledger.
b. The cashier makes the daily deposit at a local bank.
c. The cashier prepares the daily deposit.
d. The cashier endorses the checks. (AICPA ADAPTED)

c 4. The least crucial element of control over cash is

a. Separation of cash record keeping from custody of cash.
b. Preparation of the monthly bank reconciliation.
c. Batch processing of checks.
d. Separation of cash receipts from cash disbursements. (AICPA ADAPTED)

b 5. Which of the following is not a universal rule for achieving control over cash?
a. Separate the cash-handling and record-keeping functions.
b. Decentralize the receiving of cash as much as possible.
c. Deposit each day's cash receipts by the end of the day.
d. Have bank reconciliations performed by employees who do not handle cash.
(AICPA ADAPTED)

d 6. At which point in an ordinary sales transaction of a wholesaling business is a lack of specific

authorization of least concern to the auditor in the conduct of an audit?
a. Granting of credit.
b. Shipment of goods.
c. Determination of discounts.
d. Selling of goods for cash. (AICPA ADAPTED)
d 7. To verify that all sales transactions have been recorded, a test of transactions should be completed
on a representative sample drawn from
a. Entries in the sales journal.
b. The billing clerk's file of sales orders.
c. A file of duplicate copies of sales invoices for which all prenumbered forms in the series have
been accounted.
d. The shipping clerk's file of duplicate copies of shipping documents. (AICPA ADAPTED)

d 8. The negative form of accounts receivable confirmation request is particularly useful except when
a. Control procedures surrounding accounts receivable are considered to be effective.
b. A large number of small balances are involved.
c. The auditor has reason to believe the persons receiving the requests are likely to give them
consideration.
d. Individual account balances are relatively large. (AICPA ADAPTED)

d 9. Which of the following is not a primary objective of the auditor in tests of accounts receivable?
a. Determine the approximate realizable value.
b. Determine the adequacy of internal controls.
c. Establish the validity of the receivables.
d. Determine the approximate time of collectibility of the receivables. (AICPA ADAPTED)

b 10. Tracing copies of sales invoices to shipping documents will provide evidence that all
a. Shipments to customers were recorded as receivables.
b. Billed sales were shipped.
c. Debits to the subsidiary accounts receivable ledger are for sales shipped.
d. Shipments to customers were billed. (AICPA ADAPTED)

a 11. To gather audit evidence about the proper credit approval of sales, the auditor would select a
sample of documents from the population represented by the
a. Customer order file.
b. Bill of lading file.
c. Subsidiary customers' accounts ledger.
d. Sales invoice file. (AICPA ADAPTED)

b 12. Which of the following functions is common to the revenue/receipt cycle?

a. Resources are acquired from vendors and employees in exchange for obligations to pay.
b. Resources are sold to customers in exchange for promises for future payments.
c. Resources are acquired from employees in exchange for obligations to pay.
d. Capital funds are received from investors and creditors.

c 13. Which of the following is not a common activity of the revenue/receipt cycle?
a. Order entry.
b. Inventory control.
c. Receiving.
d. Cash collection.
a 14. To achieve control when there is no Billing Department, the billing function should be performed
by the
a. Accounting Department.
b. Sales Department.
c. Shipping Department.
d. Credit and Collection Department. (AICPA ADAPTED)

b 15. The person who opens the mail commonly prepares a remittance advice when a customer fails to
return one with a payment. Consequently, mail should be opened by the:
a. Credit manager.
b. Receptionist.
c. Sales manager.
d. Accounts receivable clerk. (AICPA ADAPTED)

a 16. Which of the following control procedures will likely prevent the concealment of a cash shortage
that was perpetrated by improperly writing off a trade account receivable?
a. Write-offs must be approved by a responsible officer after reviewing Credit Department
recommendations and supporting evidence.
b. Write-offs must be supported by an aging schedule showing that only receivables months
overdue have been written off.
c. Write-offs must be approved by the cashier.
d. Write-offs must be authorized by field sales representatives. (AICPA ADAPTED)

c 17. Which of the following would best protect a company that wishes to prevent lapping?
a. Segregate duties so that accounting has no access to incoming mail.
b. Segregate duties so that no employee has access both to checks from customers and to currency
from daily cash receipts.
c. Have customers send payments directly to the company's bank.
d. Request that customers checks be made payable to the company and be addressed to the treasurer.
(AICPA
ADAPTED)

c 18. During the review of a small owner-managed company's internal controls, the auditor discovers
that the accounts receivable clerk approves credit memos and has access to cash. Which of the
following controls would offset this deficiency?
a. The owner reviews errors in billings to customers and postings to subsidiary records.
b. The controller receives the monthly bank statement directly and reconciles the checking accounts.
c. The owner reviews credit memos after they are recorded.
d. The controller reconciles the detailed receivables records to the general ledger.
(AICPA ADAPTED)

d 19. Defective merchandise returned by customers should be presented to

a. Inventory control personnel.
b. Sales personnel.
c. Purchasing personnel.
d. Receiving personnel. (AICPA ADAPTED)
c 20. A sales cutoff test complements tests of
a. Sales returns.
b. Cash.
c. Accounts receivable.
d. Sales allowances. (AICPA ADAPTED)

b 21. In considering internal control within the revenue/receipt cycle, what is the purpose of a
transaction walk-through?
a. To assure that employees are performing assigned functions accurately.
b. To confirm the auditor's understanding of the internal control structure.
c. To select documents for detailed tests of controls.
d. To verify the results of the auditor's sampling plan.

c 22. Following are four steps an auditor undertakes in assessing control risk:
A. Determine what control procedures are used by the entity.
B. Identify the system's control objectives.
C. Design tests of controls.
D. Consider the potential errors or irregularities that could result.

In what order would an auditor perform these steps?

a. DBAC.
b. BCDA.
c. BDAC.
d. DCAB.

b 23. The purpose of tests of controls over shipping is to

a. Determine whether billed goods have been shipped.
b. Determine whether shipments are billed.
c. Determine whether shipping department personnel are competent.
d. Determine whether credit is approved before goods are shipped.

a 24. The purpose of tests of controls over billing is to

a. Determine whether billed goods have been shipped.
b. Determine whether shipments are billed.
c. Determine whether billing department personnel are competent.
d. Determine whether credit is approved before goods are billed.
 CHAPTER 10 Substantive Tests in the Revenue/Receipt Cycle: Sales,
Receivables, Cash, and Management Discretion in Revenue
Recognition
MULTIPLE CHOICE

c 1. A sales cutoff test of billings complements tests of

a. Sales returns.
b. Cash.
c. Accounts receivable.
d. Sales allowances. (AICPA ADAPTED)

a 2. An auditor should perform alternative procedures to substantiate the existence of accounts

receivable when
a. No reply to a positive confirmation request is received.
b. No reply to a negative confirmation request is received.
c. Collectibility of the receivables is in doubt.
d. Pledging of the receivables is probable. (AICPA ADAPTED)

a 3. In the confirmation of accounts receivable, the auditor would most likely

a. Confirm a sample of the inactive accounts.
b. Seek to obtain positive confirmations for at least 50 percent of the total dollar amount of the
receivables.
c. Confirm all receivables from agencies of the federal government.
d. Send confirmation requests within one month of the fiscal year-end.
(AICPA
ADAPTED)
b 4. Auditors may use positive and/or negative forms of confirmation requests for accounts
receivable. An auditor most likely will use
a. The positive form to confirm all balances, regardless of size.
b. A combination of the two forms, with the positive form used for large balances and the negative
form for small balances.
c. A combination of the two forms, with the positive form used for trade receivables and the
negative form for other receivables.
d. The positive form when the control structure related to receivables are satisfactory, and the
negative form when controls are unsatisfactory. (AICPA ADAPTED)

c 5. An auditor reconciles the total of the accounts receivable subsidiary ledger to the general ledger
control account, as of October 31, 2005. By this procedure, the auditor would be most likely to
learn which of the following?
a. An October invoice was improperly computed.
b. An October check from a customer was posted in error to the account of another customer with a
similar name.
c. An opening balance in a subsidiary ledger account was improperly carried forward from the
previous accounting period.
d. An account balance is past due and should be written off. (AICPA ADAPTED)

d 6. Which of the following is the best argument against the use of negative accounts receivable
confirmations?
a. The cost-per-response is excessively high.
b. There is no way of knowing if the intended recipients received them.
c. Recipients are likely to feel that in reality the confirmation is a subtle request for payment.
 d. The inference drawn from receiving no reply may not be correct. (AICPA ADAPTED)
d 7. If accounts receivable turned over 7.1 times in 2005, as compared to only 5.6 times in 2004, it is
possible that there were
a. Unrecorded credit sales in 2005.
b. Unrecorded cash receipts in 2005.
c. More thorough credit investigations made by the company in late 2005.
d. Fictitious sales in 2005. (AICPA ADAPTED)

a 8. Which of the following would most likely be detected by an auditor's review of a client's sales
cutoff?
a. Unrecorded sales for the year.
b. Lapping of year-end accounts receivable.
c. Excessive sales discounts.
d. Unauthorized goods returned for credit. (AICPA ADAPTED)

a 9. The auditor should ordinarily mail confirmation requests to all banks with which the client has
conducted any business during the year, regardless of the year-end balance, since
a. The confirmation form also seeks information about indebtedness to the bank.
b. This procedure will detect kiting activities, which would otherwise not be detected.
c. The mailing of confirmation forms to all such banks is required by generally accepted auditing
standards.
d. This procedure relieves the auditor of any responsibility with respect to non-detection of forged
checks. (AICPA ADAPTED)

d 10. Once an auditor has determined that accounts receivable have increased due to slow collections in
a "tight money" environment, the auditor would be likely to
a. Increase the balance in the allowance for bad debts account.
b. Review the going-concern ramifications.
c. Review the credit and collection policy.
d. Expand tests of collectibility. (AICPA ADAPTED)

d 11. To gather evidence about the balance per bank in a bank reconciliation, an auditor would examine
all of the following except the
a. Cutoff bank statement.
b. Year-end bank statement.
c. Bank confirmation.
d. General ledger. (AICPA ADAPTED)

b 12. Two months before year-end, the bookkeeper erroneously recorded the receipt of a long-term
bank loan by a debit to cash and a credit to sales. Which of the following is the most effective
procedure for detecting this type of error?
a. Analyze the notes payable journal.
b. Analyze bank confirmation information.
c. Prepare year-end bank reconciliation.
d. Prepare a year-end bank transfer schedule. (AICPA ADAPTED)

b 13. An auditor would be least likely to use confirmations in connection with the examination of
a. Inventories.
b. Refundable income taxes.
c. Long-term debt.
d. Stockholders' equity. (AICPA ADAPTED)
c 14. As one of the year-end audit procedures, the auditor instructed the client's personnel to prepare a
standard bank confirmation request for a bank account that had been closed during the year.
After the client's treasurer had signed the request, it was mailed by the assistant treasurer. What
is the major flaw in this audit procedure?
a. The confirmation request was signed by the treasurer.
b. Sending the request was meaningless because the account was closed before the year-end.
c. The request was mailed by the assistant treasurer.
d. The CPA did not sign the confirmation request before it was mailed. (AICPA ADAPTED)

b 15. An unrecorded check issued during the last week of the year would most likely be discovered by
the auditor when the
a. Check register for the last month is reviewed.
b. Cutoff bank statement is reconciled.
c. Bank confirmation is reviewed.
d. Search for unrecorded liabilities is performed. (AICPA ADAPTED)

d 16. An auditor compares information on canceled checks with information contained in the cash
disbursement journal. The objective of this test is to determine that
a. Recorded cash disbursement transactions are properly authorized.
b. Proper cash purchase discounts have been recorded.
c. Cash disbursements are for goods and services actually received.
d. No discrepancies exist between the data on the checks and the data in the journal.
(AICPA ADAPTED)

b 17. Which of the following is one of the better auditing techniques that might be used by an auditor
to detect kiting?
a. Review composition of authenticated deposit slips.
b. Review subsequent bank statements and canceled checks received directly from the banks.
c. Prepare a schedule of bank transfers from the client's books.
d. Prepare year-end bank reconciliations. (AICPA ADAPTED)

b 18. An auditor who is engaged to examine the financial statements of a business enterprise will
request a cutoff bank statement primarily in order to
a. Verify the cash balance reported on the bank confirmation.
b. Verify reconciling items on the client's bank reconciliation.
c. Detect lapping.
d. Detect kiting. (AICPA ADAPTED)

a 19. Which of the following audit procedures would be most appropriate to address the existence
assertion for sales?
a. Confirm receivables balances.
b. Perform analytical procedures.
c. Review collectibility.
d. Confirm cash deposits in banks.

b 20. Which of the following financial statement assertions is not addressed by the confirmation of
accounts receivable?
a. Existence.
b. Presentation and disclosure.
c. Rights.
 d. Valuation.
c 21. Audit working papers often include a client-prepared, aged trial balance of accounts receivable as
of the balance sheet date. An aging is best used by the auditor to
a. Evaluate controls over credit sales.
b. Test the accuracy of recorded charge sales.
c. Estimate credit losses.
d. Verify the validity of the recorded receivables. (AICPA ADAPTED)

a 22. An entity's financial statements were misstated over a period of years due to large amounts of
revenue having been recorded in journal entries that involved debits and credits to an illogical
combination of accounts. The auditor could most likely have been alerted to this irregularity by
a. Scanning the general journal for unusual entries.
b. Performing cutoff tests at year-end.
c. Tracing a sample of journal entries to the general ledger.
d. Examining documents supporting sales returns and allowances recorded after year-end.
(AICPA ADAPTED)

a 23. When auditing the allowance for uncollectible accounts, the least reliance should be placed on
which of the following?
a. The credit manager's opinion.
b. An aging of past due accounts.
c. Collection experience of the client's collection agency.
d. Ratios that show the past relationship of the allowance to net credit sales.
(AICPA ADAPTED)

d 24. In determining the existence of accounts receivable, which of the following would the auditor
consider most reliable?
a. Documents that supports the accounts receivable balance.
b. Credits to accounts receivable from the cash receipts book after the close of business at year-end.
c. Direct telephone communication between auditor and debtor.
d. Confirmation replies received directly from customers. (AICPA ADAPTED)

a 25. An auditor confirms a representative number of open accounts receivable as of December 31 and
investigates respondents' exceptions and comments. By this procedure, the auditor would most
likely to learn of which of the following?
a. One of the cashiers has been covering embezzlement by lapping.
b. One of the sales clerks has not been preparing charge slips for credit sales to family and friends.
c. One of the computer control clerks has been removing from the data file all sales invoices
applicable to his own account.
d. The credit manager has misappropriated remittances from customers whose accounts have been
written off. (AICPA ADAPTED)

a 26. Customers with substantial due balances have failed to reply after second requests had been
mailed to them directly. Which of the following audit procedures is most appropriate?
a. Examine shipping documents.
b.Review cash collections during the year being audited.
c. Intensify the study of internal controls for receivables.
d.Increase the balance in the accounts receivable allowance account. (AICPA ADAPTED)
d 27. The negative form of accounts receivable confirmation is not useful when
a. Internal control is considered to be effective.
b.A large number of small balances are involved.
c. The auditor has reason to believe that persons receiving the requests are likely to consider
them.
d.Individual account balances are relatively large. (AICPA ADAPTED)

c 28. Negative confirmation of accounts receivable is less effective than positive confirmation of
accounts receivable because
a. A majority of recipients are usually unwilling to respond objectively.
b.Some recipients may report incorrect balances that require extensive follow-up.
c. The auditor cannot infer that all nonrespondents have verified the account information.
d.Negative confirmations do not produce evidence that is statistically quantifiable.

(AICPA ADAPTED)

a 29. You are auditing the financial statements of a small rural municipality. The receivable balances
represent residents' delinquent real estate taxes. Control risk is at the maximum. To determine the
existence of the accounts receivable balances at the balance sheet date, you would most likely
a. Send positive confirmation requests.
b.Send negative confirmation requests.
c. Examine evidence of subsequent cash receipts.
d.Inspect internal records such as copies of tax invoices that had been mailed to the residents.
(AICPA ADAPTED)
 CHAPTER 11 Tests of Controls in the Expenditure/Disbursement Cycle:
Purchases and Cash Disbursements Transactions
MULTIPLE CHOICE

b 1. A client erroneously recorded a large purchase twice. Which of the following control procedures
would be most likely to detect this error in a timely and efficient manner?
a. Footing the purchases journal.
b. Reconciling vendors' monthly statements with subsidiary payable ledger accounts.
c. Tracing totals from the purchases journal to the ledger accounts.
d. Sending written quarterly confirmations to all vendors. (AICPA ADAPTED)

d 2. An internal control questionnaire indicates that an approved receiving report must accompany
every check request for payment of merchandise. Which of the following procedures provides
the greatest assurance that this control is operating effectively?
a. Select and examine receiving reports and ascertain that the related canceled checks are dated no
earlier than the receiving reports.
b. Select and examine receiving reports and ascertain that the related canceled checks are dated no
later than the receiving reports.
c. Select and examine canceled checks and ascertain that the related receiving reports are dated no
earlier than the checks.
d. Select and examine canceled checks and ascertain that the related receiving reports are dated no
later than the checks. (AICPA ADAPTED)

c 3. The accounts payable department receives the purchase order form to accomplish all of the
following except
a. Compare invoice price to purchase order price.
b. Ensure that the purchase had been properly authorized.
c. Ensure that the party requesting the goods had received the goods.
d. Compare quantity ordered to quantity purchased. (AICPA ADAPTED)

b 4. For effective internal control purposes, which of the following individuals should be responsible
for mailing signed checks?
a. Receptionist.
b. Treasurer.
c. Accounts payable clerk.
d. Payroll clerk. (AICPA ADAPTED)

a 5. A client's expenditure/disbursement cycle begins with requisitions from user departments and
ends with the receipt of materials and the recognition of a liability. An auditor's primary
objective in reviewing this cycle is to
a. Evaluate the reliability of information generated by the cycle.
b. Investigate the physical handling and recording of unusual acquisitions of materials.
c. Consider the need to be on hand for the annual physical inventory count if this system is not
functioning properly.
d. Ascertain that materials said to be ordered, received, and paid for are on hand.
(AICPA ADAPTED)
b 6. Which of the following is a primary function of the purchasing department?
a. Authorizing the acquisition of goods.
b. Ensuring the acquisition of goods of a specified quality.
c. Verifying the propriety of goods of a specified quality.
d. Reducing expenditures for goods acquired. (AICPA ADAPTED)

d 7. An auditor is planning the consideration of internal control over the expenditure/disbursement

cycle. The auditor will be least influenced by
a. The availability of a company procedures manual describing purchasing and cash disbursement
procedures.
b. The scope and results of work performed by the company's internal auditors.
c. The existence within the purchasing department of control procedures that offset deficiencies.
d. The strength or deficiency of control procedures in other areas, e.g., sales and accounts
receivable. (AICPA ADAPTED)

a 8. Omitting quantities from copies of purchase orders sent to the receiving department is a control
procedure intended mainly to
a. Ensure that goods received are physically counted by receiving department personnel.
b. Identify and return damaged goods as soon as they are received.
c. Provide a crosscheck for verifying the accuracy of perpetual inventory records.
d. Prevent theft of goods by receiving department personnel.

d 9. Which of the following is not an appropriate activity for the treasurer's department?
a. Prepare checks.
b. Forward checks to vendors.
c. Cancel vouchers.
d. Prepare vouchers.

a 10. An effective internal control procedure that protects against the preparation of improper or
inaccurate disbursements is to require that all checks be
a. Signed by an official after necessary supporting evidence has been examined.
b. Reviewed by the treasurer before mailing.
c. Sequentially numbered and accounted for by internal auditors.
d. Perforated or otherwise effectively canceled when they are returned with the bank statement.
(AICPA ADAPTED)

a 11. As an in-charge auditor, you are reviewing a write-up of internal control in cash receipt and
disbursement procedures. Which of the following deficiencies alone should cause you the least
concern?
a. Checks are signed by only one person.
b. Signed checks are distributed by the controller to approved payees.
c. The treasurer fails to establish bona fide names and addresses of check payees.
d. Cash disbursements are made directly out of cash receipts. (AICPA ADAPTED)

c 12. Matching the supplier's invoice, the purchase, and the receiving report normally should be the
responsibility of the
a. Receiving department.
b. Purchasing department.
c. Accounting function.
d. Treasury function. (AICPA ADAPTED)
a 13. To avoid potential errors and irregularities, well-designed controls in the accounts payable area
should include a separation of which of the following functions?
a. Cash disbursements and vendor invoice verification.
b. Vendor invoice verification and merchandise ordering.
c. Physical handling of merchandise received and preparation of receiving reports.
d. Check signing and cancellation of payment documentation. (AICPA ADAPTED)

b 14. Which of the following is a necessary control procedure for cash disbursements?
a. Checks should be signed by the controller and at least one other employee of the company.
b. Checks should be sequentially numbered, and the numerical sequence should be accounted for by
the person preparing the bank reconciliation.
c. Checks and supporting documents should be marked "Paid" immediately after the check is
returned with the bank statement.
d. Checks should be sent directly to the payee by the employee who prepares documents that
authorize check preparation. (AICPA ADAPTED)

b 15. Which of the following is not a common activity of the expenditure/disbursement cycle?
a. Purchasing.
b. Fixed asset additions.
c. Receiving.
d. Recording.

b 16. Which of the following functions is not appropriate for the accounts payable department?
a. Compare purchase requisitions, purchase orders, receiving reports, and vendors' invoices.
b. Prepare purchase orders.
c. Prepare voucher and daily summary.
d. File voucher package by due date.

d 17.The accounts payable department generally should

a. Cancel supporting documentation after a cash payment is mailed.
b. Approve the price and quantity of each purchase requisition.
c. Assure that the quantity ordered is omitted from the receiving department's copy of the purchase
order.
d. Agree the vendor's invoice with the receiving report and purchase order. (AICPA ADAPTED)

d 18. Based on observations made during an audit, an independent auditor should discuss with
management the effectiveness of procedures that control against the purchase of
a. Supplies purchased from a vendor who offers no trade or cash discounts.
b. Inventory acquired just-in-time.
c. Equipment that is needed but does not qualify for investment tax credit.
d. Supplies ordered without considering potential volume discounts. (AICPA ADAPTED)

b 19. Internal control is improved when the quantity of merchandise ordered is omitted from the copy
of the purchase order sent to the
a. Department that initiated the requisition.
b. Receiving department.
c. Purchasing agent.
d. Accounts payable department. (AICPA ADAPTED)
c 20. When goods are received, the receiving clerk should match the goods with the
a. Purchase order and requisition.
b. Vendor's invoice and the receiving report.
c. Vendor's shipping document and the purchase order.
d. Receiving report and the vendor's shipping document. (AICPA ADAPTED)

a 21. The accounts payable department should compare the information on each vendor's invoice with
the
a. Receiving report and the purchase order.
b. Receiving report and the voucher.
c. Vendor's packing slip and the purchase order.
d. Vendor's packing slip and the voucher. (AICPA ADAPTED)

c 22. Effective internal control over the purchase of raw materials should usually include all of the
following procedures except
a. Reporting product changes that will affect raw materials needs.
b. Determining the need for raw materials prior to preparing a purchase order.
c. Obtaining third-party written quality and quantity reports prior to paying for the raw materials.
d. Obtaining approval prior to making a purchase commitment. (AICPA ADAPTED)

a 23. To improve control over merchandise purchases, a company's receiving department should
a. Accept merchandise only if an approved purchase order is on hand.
b. Accept and count all merchandise received from known vendors.
c. Rely on shipping documents to prepare receiving reports.
d. Be responsible for handling merchandise but not for preparing receiving reports.
(AICPA ADAPTED)

b 24. To assure that disbursements are neither improper nor inaccurate, an entity could require that all
checks be
a. Signed by an officer after supporting documentation has been examined.
b. Reviewed by the treasurer before mailing.
c. Numbered sequentially and accounted for by internal auditors.
d. Canceled when they are returned with the bank statement. (AICPA ADAPTED)

a 25. The mailing of disbursement checks and remittance advices should be controlled by the employee
who
a. Signed the checks last.
b. Approved the vouchers for payment.
c. Matched the receiving reports, purchase orders, and vendor invoices.
d. Verified the mathematical accuracy of the vouchers and remittance advices.
(AICPA ADAPTED)

b 26. An auditor plans to examine a sample of 20 checks for countersignatures as prescribed by the
client's internal control procedures. One of the checks in the sample cannot be found. The auditor
should
a. Evaluate the results as if sample size had been 19.
b. Treat the missing check as a deviation.
c. Treat the missing check in the same manner as the majority of the other 19 checks, i.e.,
countersigned or not.
d. Choose another check to replace the missing check in the sample. (AICPA ADAPTED)
c 27. Which of the following procedures relating to the audit of accounts payable could the auditor
delegate entirely to the client's employees?
a. Test footings in the accounts payable ledger.
b.Reconcile unpaid invoices to vendors' statements.
c. Prepare a schedule of accounts payable.
d.Mail confirmations for selected account balances. (AICPA ADAPTED)

a 28. In order to establish accounts payable cutoff, an auditor will most likely
a. Coordinate cutoff tests with the physical inventory observation.
b.Compare cutoff reports with purchase orders.
c. Compare vendors' invoices with vendors' statements.
d.Coordinate the mailing of confirmations with cutoff tests.(AICPA ADAPTED)

b 29. An audit of accounts payable is ordinarily not designed to

a. Detect substantially past due accounts.
b.Verify that accounts payable were properly authorized.
c. Determine the reasonableness of recorded liabilities.
d.Determine that all existing liabilities at the balance sheet date have been recorded.
(AICPA
ADAPTED)

c 30. When an auditor selects a sample of items from the vouchers payable register for the last month
of the period under audit and traces them to underlying documents, the auditor is gathering
evidence primarily to support the assertion that
a. Recorded obligations were paid.
b.Incurred obligations were recorded in the correct period.
c. Recorded obligations were valid.
d.Cash disbursements were recorded as incurred obligations. (AICPA ADAPTED)

b 31. Which of the following audit procedures is the most efficient at detecting unrecorded liabilities at
the balance sheet date?
a. Confirm large accounts payable balances at the balance sheet date.
b. Compare cash disbursements in the subsequent period with the accounts payable trial
balance at year-end.
c. Examine purchase orders issued for several days prior to the close of the year.
d. Obtain a letter from the client's attorney. (AICPA ADAPTED)

b 32. Which of the following audit procedures is least likely to detect an unrecorded liability?
a. Analysis and recomputation of interest expense.
b.Analysis and recomputation of depreciation expense.
c. Mailing a standard bank confirmation form.
d.Reading the minutes of board of directors' meetings. (AICPA ADAPTED)

c 33. A company sells a product only in the last month of its fiscal year. The company uses
commission agents and pays them 6 percent of their net sales 30 days after the sales are made.
The agents' sales were $10,000,000. Experience indicates that 10 percent of the sales are usually
not collected and 2 percent are returned in the first month of the new year. The auditor would
expect the year-end balance in the accrued commissions account to be
a. $528,000.
b.$540,000.
c. $588,000.
 d.$600,000. (AICPA ADAPTED)
CHAPTER 12 Substantive Tests in the Expenditure/Disbursement Cycle:
Payables, Prepaids, Accrued Liabilities, and Management
Discretion in Accounting for Environmental Liabilities
MULTIPLE CHOICE

c 1. When an auditor selects a sample of items from the vouchers payable register for the last month
of the period audited and traces the items to underlying documents, the auditor is gathering
evidence primarily in support of the assertion that
a. Recorded obligations were paid.
b. Incurred obligations were recorded in the correct period.
c. Recorded obligations were valid.
d. Cash disbursements were recorded as incurred obligations. (AICPA ADAPTED)

a 2. An auditor usually examines receiving reports to support entries in the

a. Voucher register and sales returns journal.
b. Sales journal and sales returns journal.
c. Voucher register and sales journal.
d. Check register and sales journal. (AICPA ADAPTED)

a 3. Unrecorded liabilities are most likely to be found during the review of which of the following
documents?
a. Unpaid bills.
b. Shipping records.
c. Bills of lading.
d. Unmatched sales invoices. (AICPA ADAPTED)

b 4. An examination of the balance in the accounts payable account is ordinarily not designed to
a. Detect accounts payable that are substantially past due.
b. Verify that accounts payable were properly authorized.
c. Ascertain the reasonableness of recorded liabilities.
d. Determine that all existing liabilities at the balance sheet date have been recorded.
(AICPA ADAPTED)

c 5. Confirmation of accounts payable balances

a. Is usually performed at interim dates rather than at year-end.
b. Is not effective in testing for unrecorded liabilities.
c. Is particularly useful when the auditor suspects liabilities may be materially understated.
d. Is required by generally accepted auditing standards.

a 6. In order to efficiently establish the correctness of the accounts payable cutoff, the auditor will be
most likely to
a. Coordinate cutoff tests with physical inventory observation.
b. Compare cutoff reports with purchase orders.
c. Compare vendors' invoices with vendors' statements.
d. Coordinate mailing of confirmations with cutoff tests. (AICPA ADAPTED)
a 7. A client's purchasing system ends with the assumption of a liability and the eventual payment of
the liability. Which of the following best describes the auditor's primary concern with respect to
liabilities resulting from the purchasing system?
a. Accounts payable are not materially understated.
b. Authority to incur liabilities is restricted to one designated person.
c. Acquisition of materials is not made from one vendor or one group of vendors.
d. Commitments for all purchases are made only after established competitive bidding procedures
are followed. (AICPA ADAPTED)

d 8. Auditor confirmation of accounts payable balances at the balance sheet date may be unnecessary
because
a. There is a duplication of cutoff tests.
b. Accounts payable balances at the balance sheet date may not be paid before the audit is
completed.
c. Correspondence with the audit client's attorney will reveal all legal action by vendors for
nonpayment.
d. There is likely to be other reliable external evidence available to support the balances.
(AICPA ADAPTED)

d 9. Only one of the following four statements, which compare confirmation of accounts payable with
suppliers and confirmation of accounts receivable with debtors, is true. The true statement is that
a. Confirmation of accounts payable with suppliers is a more widely accepted auditing procedure
than is confirmation of accounts receivable with debtors.
b. As compared to the confirmation of accounts payable, the confirmation of accounts receivable
will tend to emphasize accounts with zero balances at the balance sheet date.
c. Statistical sampling techniques are more widely accepted in the confirmation accounts payable
than in the confirmation of accounts receivable.
d. It is less likely that the confirmation request sent to the supplier will show the amount owed than
that the request sent to the debtor will show the amount due. (AICPA ADAPTED)

c 10. In connection with a review of the prepaid insurance account, which of the following procedures
does the auditor generally not perform?
a. Recompute the portion of the premium that expired during the year.
b. Prepare excerpts of insurance policies for audit working papers.
c. Confirm premium rates with an independent insurance broker.
d. Examine support for premium payments. (AICPA ADAPTED)

b 11. An auditor reviews the 2005 prepaid insurance ledger and balances the total to the general ledger
account. Which bad practice/error will most likely be detected by this procedure?
a. The client's excess liability coverage, which expired December 31, 2004, was not renewed in
2005.
b. A premium refund for a three-year policy expiring in 2003 was credited to the account and not
amortized.
c. The client has not recognized the probable loss associated with a damage suit that is only partially
covered by insurance.
d. An insurer improperly computed the amount of a premium paid by the client.
(AICPA ADAPTED)
a 12. The audit procedures used to verify accrued liabilities differ from those used to verify accounts
payable because
a. Accrued liabilities usually pertain to services of a continuing nature, while accounts payable are
the result of completed transactions.
b. Accrued liability balances are less material than accounts payable balances.
c. Evidence supporting accrued liabilities is nonexistent, while evidence supporting accounts
payable is readily available.
d. Accrued liabilities at year-end will become accounts payable during the following year.
(AICPA ADAPTED)

a 13. In substantive tests of purchases and accounts payable, which of the following audit procedures is
most appropriate for addressing the assertions of existence or occurrence?
a. Test cutoff.
b. Verify accounts payable trial balance.
c. Test for unrecorded liabilities.
d. Perform analytical procedures.

d 14. Which of the following audit procedures is not appropriate for addressing the assertion of
valuation?
a. Verify accounts payable trial balance.
b. Confirm with creditors.
c. Test for unrecorded liabilities.
d. Perform analytical procedures.

c 15.Which of the following is true about the audit procedure of confirming accounts payable?
a. Payables confirmation are most appropriate when the auditor expects understatement errors.
b. It is not productive to mail second requests.
c. The auditor is not required by current professional pronouncements to justify his or her opinion
on financial statements when payables are not confirmed.
d. Payables are usually confirmed as of an interim date.

c 16. Which of the following would not likely be included in an accounts payable confirmation?
a. An itemized statement of amounts owed.
b. An itemized statement of merchandise consigned.
c. An itemized statement of cash paid near the balance sheet date.
d. An itemized list of any notes or other obligations.

a 17. Which of the following is not used to test overstatements and understatements of accounts
payable?
a. Cash receipts records.
b. Cash disbursement records.
c. Canceled voucher packages.
d. Unmatched receiving reports.

c 18. In testing prepaid insurance, controls over which of the following are not of concern to the
auditor?
a. The acquisition of new insurance policies.
b. The disbursement of cash for premiums.
c. The physical custody of the assets insured.
d. The recording of expense and premium disbursements.
c 19. Companies may be held liable for all of the following except:
a. Noncompliance with environmental laws and regulations.
b. Remedial cleanup of hazardous waste sites.
c. Owners and operators before hazardous waste was disposed.
d. Personal injury or damage caused by hazardous waste.
 CHAPTER 13 Tests of Controls and Substantive Tests of Personnel and
Payroll, and Management Discretion in Accounting for Postretirement Health Care

MULTIPLE CHOICE

c 1. An auditor will ordinarily determine whether payroll checks are properly endorsed during the
testing of
a. Time cards.
b. The voucher system.
c. Cash in bank.
d. Accrued payroll. (AICPA ADAPTED)

a 2. Which of the following control procedures could best prevent direct labor from being charged to
manufacturing overhead?
a. Comparison of daily journal entries with factory labor summary.
b. Examination of routing tickets from finished goods on delivery.
c. Reconciliation of work-in-process inventory with cost records.
d. Recomputation of direct labor based on inspection of time cards. (AICPA ADAPTED)

b 3. For appropriate segregation of duties, journalizing and posting summary payroll transactions
should be assigned to
a. The treasurer's department.
b. General accounting.
c. Payroll accounting.
d. The timekeeping department. (AICPA ADAPTED)

d 4. The proper use of prenumbered termination notice forms by the payroll department should
provide assurance that all
a. Uncashed payroll checks were issued to employees who have not been terminated.
b. Personnel files are kept up to date.
c. Employees who have not been terminated receive their payroll checks.
d. Terminated employees are removed from the payroll. (AICPA ADAPTED)

c 5. Hitech, Inc., has changed from a conventional to a computerized payroll clock card system.
Factory employees now record time in and out with magnetic cards, and the computer system
automatically updates all payroll records. Because of this change,
a. The auditor must audit through the computer.
b. Internal control has improved.
c. Part of the audit trail has been lost.
d. The potential for payroll-related fraud has been diminished. (AICPA ADAPTED)

a 6. In the weekly computer run to prepare payroll checks, a check was printed for an employee who
had been terminated the previous week. Which of the following control procedures, if properly
utilized, would have been most effective in preventing the error or assuring prompt detection?
a. A control total for hours worked, prepared from time cards collected by the timekeeping
department.
b. Requiring the treasurer's office to account for the numbers of the prenumbered checks issued to
the computer department for the processing of the payroll.
c. Use of a check digit for employee numbers.
d. Use of a header label for the payroll input sheet. (AICPA ADAPTED)
c 7. To minimize the opportunities for fraud, unclaimed cash payroll should be
a. Deposited in a safe deposit box.
b. Held by the payroll custodian.
c. Deposited in a special bank account.
d. Held by the controller. (AICPA ADAPTED)

d 8. A large retail enterprise has established a policy that requires that the paymaster deliver all
unclaimed payroll checks to the internal auditing department at the end of each payroll
distribution day. This policy was most likely adopted in order to
a. Assure that employees who were absent on a payroll distribution day are not paid for that day.
b. Prevent the paymaster from cashing checks that are unclaimed for several weeks.
c. Prevent a bona fide employee's check from being claimed by another employee.
d. Detect any fictitious employee who may have been placed on the payroll.
(AICPA ADAPTED)

a 9. In the audit of the following types of profit-oriented enterprises, which one would the auditor be
most likely to place special emphasis on testing the internal controls over proper classification of
payroll transactions?
a. A manufacturing organization.
b. A retailing organization.
c. A wholesaling organization.
d. A service organization. (AICPA ADAPTED)

d 10. A common audit procedure in the audit of payroll transactions involves tracing selected items
from the payroll journal to employee time cards that have been approved by supervisory
personnel. This procedure is designed to provide evidence in support of the audit proposition that
a. Only bona fide employees worked, and their pay was properly computed.
b. Jobs on which employees worked were charged with the appropriate labor cost.
c. Internal controls relating to payroll disbursements are operating effectively.
d. All employees worked the number of hours for which their pay was computed.
(AICPA ADAPTED)

a 11. Which of the following procedures is most effective in providing reasonable assurance that
payroll checks are distributed only to bona fide employees?
a. An employee independent of payroll preparation compares endorsements on canceled payroll
checks with employee signatures in personnel records.
b. All changes in pay rates and deductions are reviewed and approved by a responsible official
independent of payroll preparation and distribution.
c. All unclaimed paychecks are returned to an employee independent of payroll preparation and
distribution.
d. All personnel and payroll records and documents are prenumbered and physically protected from
unauthorized access.

d 12. Personnel department responsibilities should be separated from payroll preparation to

a. Separate the custody of assets from the recording function.
b. Establish clear lines of authority and accountability.
c. Separate the authorization of transactions from the recording function.
d. Separate the authorization of transactions from the execution of transactions.
d 13. For internal control purposes, which of the following individuals should preferably be responsible
for the distribution of payroll checks?
a. Bookkeeper.
b. Payroll clerk.
c. Cashier.
d. Receptionist. (AICPA ADAPTED)

b 14. A factory foreman discharged an hourly worker but did not notify the payroll department. The
foreman then forged the worker's signature on time cards, and, when giving out the checks,
diverted the payroll checks drawn for the discharged worker to his own use. The most effective
procedure for preventing this activity is to
a. Require written authorization for all employees added to or removed from the payroll.
b. Have a "paymaster" who has no other payroll responsibility distribute the payroll checks.
c. Have someone other than persons who prepare or distribute payroll obtain custody of unclaimed
checks.
d. From time to time, rotate persons distributing the payroll. (AICPA ADAPTED)

a 15. Which of the following is not a common activity within personnel and payroll?
a. Initiate terminations.
b. Prepare and update personnel records.
c. Prepare and record payroll.
d. Distribute paychecks to employees.

b 16. Which of the following control procedures is inappropriate to prevent errors or irregularities
resulting form hiring unqualified employees?
a. Establish clear statements of hiring policies and procedures.
b. Maintain updated listings of authorized pay rates and deductions.
c. Maintain updated personnel records for all employees.
d. Verify employment applications.

a 17. What control objective is served by management's establishing and documenting account
distribution procedures?
a. Amounts due to employees should be recorded at the proper amounts, be recorded in the proper
period, and be properly classified.
b. All payroll cash disbursements should be based upon a recognized liability.
c. Payroll and personnel procedures should be established in accordance with management's
authorization.
d. Employees should be hired according to criteria authorized by management.

b 18. Which of the following control procedures is most likely to prevent errors or irregularities related
to access to assets?
a. Reconcile appropriate ledgers and journals.
b. Prenumber and control forms and documents.
c. Establish personnel and payroll procedures manuals.
d. Verify employment applications.
b 19. Of the financial statement accounts listed below, which is not likely affected by the accuracy of
payroll and account distribution?
a. Cost of sales.
b. Accrued taxes.
c. Cash.
d. Finished goods inventory.

b 20. In auditing postretirement healthcare benefits, auditors face what's called the attribution period,
which is the period from the date the employee:
a. Was hired to the date the employee terminated employment.
b. Was hired to the date the employee is eligible to receive benefits.
c. Was terminated to the date the employee is eligible to receive benefits.
d. Was terminated to the date the employee receives benefits.

d 21. Effective controls over payroll would include which of the following controls?
a. Total time recorded on time cards should be reconciled with job reports by employees responsible
for those specific jobs.
b. Payroll department employees should be supervised by the management of the personnel
department.
c. Payroll department employees should be responsible for maintaining employee personnel records.
d. Total time spent on jobs should be compared with total time indicated on time records.

(AICPA ADAPTED)

b 22. One of the auditor's objectives in observing the actual distribution of payroll checks is to
determine that every name on the payroll is that of a bona fide employee. The payroll observation is
an auditing procedure that is generally performed for which of the following reasons?
a. The professional standards that are generally accepted require the auditor to perform the payroll observation.
b. The various phases of payroll work are not sufficiently segregated to afford effective control.
c. The independent auditor uses personal judgment and decides to observe the payroll distribution
on a particular audit.
d. The standards that are generally accepted by the profession are interpreted to mean that payroll
observation is expected on an audit unless circumstances dictate otherwise.
(AICPA ADAPTED)
 CHAPTER 14 Tests of Controls and Substantive Tests in the Conversion
Cycle: Inventory, Fixed Assets, and Management Discretion in Accounting for Impaired Assets
MULTIPLE CHOICE

b 1. To strengthen control procedures over the custody of heavy mobile equipment, the client would
most likely institute a policy requiring a periodic
a. Increase in insurance coverage.
b. Inspection of equipment and reconciliation with accounting records.
c. Verification of liens, pledges, and collateralizations.
d. Accounting for work orders. (AICPA ADAPTED)

c 2. To improve accountability for fixed asset retirements, management most likely would implement
an internal control structure that includes
a. Continuous analysis of the repairs and maintenance account.
b. Periodic inquiry of plant executives by internal auditors as to whether any plant assets have been
retired.
c. Continuous utilization of serially numbered retirement work orders.
d. Periodic inspection of insurance policies by internal auditors. (AICPA ADAPTED)

b 3. From the auditor's point of view, inventory counts are more acceptable prior to the year-end,
when
a. Internal control is deficient.
b. Accurate perpetual inventory records are maintained.
c. Inventory is slow moving.
d. Significant amounts of inventory are held on consignment. (AICPA ADAPTED)

c 4. Apex Manufacturing Corporation mass produces eight different products. The controller who is
interested in strengthening control procedures over the accounting for materials used in
production would be most likely to implement
a. An economic order quantity (EOQ) system.
b. A job order cost accounting system.
c. A perpetual inventory system.
d. A separation of duties among production personnel. (AICPA ADAPTED)

a 5. For several years, a client's physical inventory count has been lower than what was shown on the
books at the time of the count so that downward adjustments to the inventory account were
required. Contributing to the inventory problem could be deficiencies in internal control that led
to the failure to record some
a. Purchases returned to vendors.
b. Sales returns received.
c. Sales discounts allowed.
d. Cash purchases. (AICPA ADAPTED)

a 6. When perpetual inventory records are maintained in quantities and in dollars, and internal control
procedures over inventory are deficient, the auditor would probably
a. Want the client to schedule the physical inventory count at the end of the year.
b. Insist that the client perform physical counts of inventory items several times during the year.
c. Increase the extent of tests for unrecorded liabilities at the end of the year.
d. Have to disclaim an opinion on the income statement that year. (AICPA ADAPTED)
a 7. Purchase cutoff procedures should be designed to test whether or not all inventory
a. Purchased and received before the year-end was recorded.
b. Was carried at the lower of cost or market on the year-end balance sheet.
c. Was paid for by the company on the year-end balance sheet.
d. Owned by the company is in the possession of the company. (AICPA ADAPTED)

c 8. In tests of property, plant, and equipment, the auditor tries to determine all of the following
except the
a. Adequacy of the internal control.
b. Extent of property abandoned during the year.
c. Adequacy of replacement funds.
d. Reasonableness of depreciation. (AICPA ADAPTED)

b 9. An auditor has accounted for a sequence of inventory tags and is now going to trace information
on a representative number of tags to the physical inventory sheets. The purpose of this
procedure is to obtain assurance that
a. The final inventory is valued at cost.
b. All inventory represented by an inventory tag is listed on the inventory sheets.
c. All inventory represented by an inventory tag is bona fide.
d. Inventory sheets do not include untagged inventory items. (AICPA ADAPTED)

b 10. The physical count of inventory of a retailer was higher than shown by the perpetual records.
Which of the following could explain the difference?
a. Inventory items had been counted, but the tags placed on the items had not been taken off the
items and added to the inventory accumulation sheets.
b. Credit memos for several items returned by customers had not been recorded.
c. No journal entry had been made on the retailer's books for several items returned to its suppliers.
d. An item purchased "FOB shipping point" had not arrived at the date of the inventory count and
had not been reflected in the perpetual records. (AICPA ADAPTED)

c 11. A client's physical count of inventories was higher than the inventory quantities per the perpetual
records. This situation could be the result of the failure to record
a. Sales.
b. Sales discounts.
c. Purchases.
d. Purchase returns. (AICPA ADAPTED)

d 12. The controller of Excello Manufacturing, Inc., wants to use ratio analysis to identify the possible
existence of idle equipment or the possibility that equipment has been disposed of without having
been written off. Which of the following ratios would best accomplish this objective?
a. Depreciation expense divided by book value of manufacturing equipment.
b. Accumulated depreciation divided by book value of manufacturing equipment.
c. Repairs and maintenance cost divided by direct labor costs.
d. Gross manufacturing equipment cost divided by units produced. (AICPA ADAPTED)
b 13. The accuracy of perpetual inventory records may be established, in part, by comparing inventory
records with
a. Purchase requisitions.
b. Receiving reports.
c. Purchase orders.
d. Vendor payments. (AICPA ADAPTED)

d 14. The audit procedure of analyzing the repairs and maintenance accounts is primarily designed to
provide evidence in support of the audit proposition that all
a. Expenditures for plant assets have been recorded in the proper period.
b. Capital expenditures have been properly authorized.
c. Noncapitalizable expenditures have been properly expensed.
d. Expenditures for plant assets have been capitalized. (AICPA ADAPTED)

a 15. Which of the following explanations might satisfy an auditor who discovers significant debits to
an accumulated depreciation account?
a. Extraordinary repairs have lengthened the life of an asset.
b. Prior years' depreciation charges were erroneously understated.
c. A reserve for possible loss on retirement has been recorded.
d. An asset has been recorded at its fair value. (AICPA ADAPTED)

c 16. Which of the following activities is not common to the conversion cycle?
a. Maintaining perpetual inventory records.
b. Accounting for fixed asset disposals and retirements.
c. Implementing a just-in-time order entry system.
d. Recording depreciation allocations.

d 17. When an outside specialist has assumed full responsibility for taking the client's physical
inventory, reliance on the specialist's report is acceptable if
a. The auditor is satisfied about the specialist's reputation and competence.
b. Circumstances make it impracticable or impossible for the auditor either to do the work
personally or to observe the specialist's work.
c. The auditor performs the same tests and procedures as would have been applicable if the client's
employees took the physical inventory.
d. The auditor's report assumes full responsibility. (AICPA ADAPTED)

d 18. An auditor's tests of a client's cost accounting system are designed primarily to determine that
a. Quantities on hand have been computed based on acceptable methods that reasonably
approximate actual quantities on hand.
b. Physical inventories substantially agree with book inventories.
c. The system complies with generally accepted accounting principles and functions as planned.
d. Costs have been assigned properly to finished goods, work in process, and cost of goods sold.
(AICPA
ADAPTED)
d 19. Sanbor Corporation's parts inventory consists of thousands of different items that are small in
value individually, but quite significant in total. Sanbor could establish effective control over the
parts by requiring
a. An officer's approval of requisitions for inventory parts.
b. Maintaining inventory records for all parts included in the inventory.
c. Physical counts on a cycle basis rather than at year-end.
d. Separation of the storekeeping function from the production and inventory record-keeping
functions. (AICPA ADAPTED)

c 20. When verifying debits to a manufacturing company's perpetual inventory records, an auditor
would be most interested in testing a sample of purchase
a. Approvals.
b. Requisitions.
c. Invoices.
d. Orders. (AICPA ADAPTED)

c 21. Assets may suffer an impairment in value for a variety of reasons, but not likely as a result of:
a. A corporate restructuring.
b. Slumping demand for uncompetitive products.
c. Significant increases in market share.
d. Obsolescence.

a 22. Which of the following is not likely a motive for management to manipulate the timing and
amount of impaired asset writedowns?
a. Steady increases in earnings per share over the past 5 years.
b. Income smoothing.
c. A "big bath."
d. An abnormally unprofitable year.

c 23. The audit of year-end physical inventories should include steps to verify that the client's
purchases and sales cutoffs were adequate. The audit steps should be designed to detect whether
merchandise included in the physical count at year-end was not recorded as a
a. Sale in the subsequent period.
b. Purchase in the current period.
c. Sale in the current period.
d. Purchase return in the subsequent period. (AICPA ADAPTED)

d 24. An auditor would be most likely to learn of slow-moving inventory through

a. Inquiry of sales personnel.
b. Inquiry of stores personnel.
c. Physical observation of inventory.
d. Review of perpetual inventory records. (AICPA ADAPTED)

b 25. Which of the following internal control efficiencies relates to factory equipment?
a. Checks issued in payment of purchases of equipment are not signed by the controller.
b. All purchases of factory equipment are required to be made by the department that needs the
equipment.
c. Factory equipment replacements are generally made when estimated useful lives have expired.
d. Proceeds from sales of fully depreciated equipment are credited to other income.
(AICPA ADAPTED)
c 26. When auditing fixed assets, an auditor attempts to determine all of the following except
a. Control risk.
b. Property abandoned during the year.
c. Adequacy of replacement funds.
d. Reasonableness of depreciation. (AICPA ADAPTED)

c 27. Which of the following is the best evidence that an entity owns real estate at the balance sheet
date?
a. Title insurance policy.
b. Original deed.
c. Paid real estate tax bills.
d. Closing statement. (AICPA ADAPTED)

b 28. Which of the following procedures would least likely lead the auditor to detect unrecorded fixed
asset disposals?
a. Examine insurance policies.
b. Review repairs and maintenance expense.
c. Review property tax files.
d. Scan invoices for fixed asset additions. (AICPA ADAPTED)

c 29. The auditor may conclude that depreciation charges are insufficient by noting
a. Insured values greatly in excess of book values.
b. Large amounts of fully depreciated assets.
c. Continuous trade-ins of relatively new assets.
d. Excessive recurring losses on assets retired. (AICPA ADAPTED)

d 30. In violation of company policy, Lowell Company erroneously capitalized the cost of painting its
warehouse. An auditor would most likely detect this when
a. Discussing capitalization policies with Lowell's controller.
b. Examining maintenance expense accounts.
c. Observing that the warehouse had been painted.
d. Examining construction work orders that support items capitalized during the year.
(AICPA
ADAPTED)
 CHAPTER 15 Tests of Controls and Substantive Tests in the Financing Cycle:
Investments, Debt, Equity, and Management Discretion in Accounting for Financial Instruments

MULTIPLE CHOICE

d 1. A company holds bearer bonds as a short-term investment. Responsibility for custody of these
bonds and submission of coupons for periodic interest collections probably should be delegated to
the
a. Chief accountant.
b.Internal auditor.
c. Cashier.
d.Treasurer. (AICPA ADAPTED)

b 2. Of the following, which is the most efficient audit procedure for testing accrued interest earned
on bond investments?
a. Tracing interest declarations to an independent record book.
b.Recomputing interest earned.
c. Confirming interest rate with the issuer of the bonds.
d.Vouching the receipt and deposit of interest checks. (AICPA ADAPTED)

d 3. During the audit of a publicly held company, the auditor could obtain written confirmation
regarding long-term bond transactions from the
a. Bond holders.
b. Client's attorney.
c. Internal auditors.
d. Trustee. (AICPA ADAPTED)

b 4. The auditor's program for examining long-term debt should include

a. Verification of the existence of the bondholders.
b. Examination of any bond trust agreement.
c. Inspection of the accounts payable subsidiary ledger.
d.Investigation of credits to the bond interest income account. (AICPA ADAPTED)

d 5. Jones was engaged to audit the financial statements of Gamma Corporation, a June 30 year-end
client. Having completed testing of the investment securities, which of the following is the best
method of verifying the accuracy of recorded dividend income?
a. Tracing recorded dividend income to cash receipts records and validated deposit slips.
b. Utilizing analytical review techniques and statistical sampling.
c. Comparing recorded dividends with amounts appearing on Federal Information Form 1099.
d. Comparing recorded dividends with a standard financial reporting service's record of dividends.
(AICPA ADAPTED)

a 6. A company has temporarily excess funds to invest. The board of directors decided to purchase
marketable securities and assigned the future purchase and sale decisions to a responsible
financial executive. The best person(s) to make periodic reviews of the investment activity would
be
a. The investment committee of the board of directors.
b. The treasurer.
c. The corporate controller.
d. The chief operating officer of the company. (AICPA ADAPTED)
a 7. Which of the following is a responsibility that should not be assigned to only one employee?
a. Access to securities in the company's safe deposit box.
b. Custodianship of the cash working fund.
c. Reconciliation of bank statements.
d. Custodianship of tools and small equipment. (AICPA ADAPTED)

a 8. When no independent stock transfer agents are employed and the corporation issues its own
stocks and maintains stock records, canceled stock certificates should
a. Be defaced to prevent reissuance and attached to their corresponding stubs.
b. Not be defaced but segregated from other stock certificates and retained in a canceled certificates
file.
c. Be destroyed to prevent fraudulent reissuance.
d. Be defaced and sent to the secretary of state. (AICPA ADAPTED)

a 9. Which of the following is not one of the auditor's concerns in an examination of marketable
securities?
a. To determine whether securities are authentic.
b. To determine whether securities are the property of the client.
c. To determine whether securities actually exist.
d. To determine whether securities are properly classified on the balance sheet.
(AICPA ADAPTED)

c 10. When negotiable securities are of considerable volume, planning by the auditor is necessary to
guard against
a. Unauthorized negotiation of the securities before they are counted.
b. Unrecorded sales of securities after they are counted.
c. Substitution of securities already counted for other securities which should be on hand but are not.
d.Substitution of authentic securities with counterfeit securities. (AICPA ADAPTED)

b 11. During its fiscal year, a company issued, at a discount, a substantial amount of first-mortgage
bonds. When performing audit work, the independent auditor
a. Confirms the existence of the bondholders.
b. Reviews the minutes for authorization.
c. Traces the net cash received from the issuance to the bonds payable account.
d.Inspects the records maintained by the bond trustee. (AICPA ADAPTED)

d 12. In the audit of a medium-sized manufacturing concern, which of the following areas would be
expected to require the least amount of audit time?
a. Revenue.
b. Assets.
c. Liabilities.
d.Owner's equity. (AICPA ADAPTED)

a 13. All corporate capital stock transactions should ultimately be traced to the
a. Minutes of the board of directors.
b. Cash receipts journal.
c. Cash disbursements journal.
d. Numbered stock certificates. (AICPA ADAPTED)

c 14. If a company employs a capital stock registrar and/or a transfer agent, the registrar or agent
should be requested to confirm directly to the auditor the number of shares of each class of stock
 a. Surrendered and canceled during the year.
b. Authorized at the balance sheet date.
c. Issued and outstanding at the balance sheet date.
d. Authorized, issued, and outstanding during the year. (AICPA ADAPTED)

b 15. The auditor's program for testing long-term debt should include steps that require
a. Verifying the existence of the bondholders.
b. Examining any bond trust indenture.
c. Inspecting the accounts payable subsidiary ledger.
d. Investigating credits to bond interest income. (AICPA ADAPTED)

b 16. During the year under audit, a company has completed a private placement of a substantial
amount of bonds. Which of the following steps is the most important in the auditor's tests of
existence?
a. Confirm the amount issued with the bond trustee.
b. Trace cash received from the issue to the accounting records.
c. Examine bond records maintained by the transfer agent.
d. Recompute annual interest cost and the effective yield. (AICPA ADAPTED)

a 17. During the course of an audit, an auditor observes that the recorded interest expense seems
excessive in relation to the balance in long-term debt. This observation could lead the auditor to
suspect that
a. Long-term debt is understated.
b. Discount on bonds payable is overstated.
c. Long-term debt is overstated.
d. Premium on bonds payable is understated. (AICPA ADAPTED)

d 18. Which of the following information is most important when auditing shareholders’ equity?
a. Changes in the capital stock account are verified by an independent stock transfer agent.
b. Stock dividends and/or stock splits during the year were approved by the shareholders.
c. Stock dividends are capitalized at par or stated value on the dividend declaration date.
d. Entries in the capital stock account can be traced to a resolution in the minutes of the board of
directors' meetings. (AICPA ADAPTED)

CHAPTER 16 Completing an Engagement

MULTIPLE CHOICE

c 1. An auditor accepted an engagement to audit the 2005 financial statements of EFG Corporation and
began the fieldwork on September 30. EFG gave the auditor the 2005 financial statements on January 17,
2006. The auditor completed the fieldwork on February 10, 2006, and delivered the report on February 16,
2006. The client's representation letter normally would be dated
a. December 31, 2005.
b. January 17, 2006.
c. February 10, 2006.
d. February 16, 2006. (AICPA ADAPTED)

b 2. The audit inquiry letter to the client's legal counsel should be mailed only by the
a. Client after the auditor has reviewed it for appropriate content.
b. Auditor after preparation by the client and review by the auditor.
c. Auditor's attorney after preparation by the client and review by the auditor.
d. Client after review by the auditor's attorney. (AICPA ADAPTED)

a 3. A written representation letter from a client's management that, among other matters,
acknowledges responsibility for the fair presentation of financial statements, should normally be signed by
the
a. Chief executive officer and the chief financial officer.
b. Chief financial officer and the chairman of the board of directors.
c. Chairman of the audit committee of the board of directors.
d. Chief executive officer, the chairman of the board of directors, and the client's lawyer.
(AICPA ADAPTED)

b 4. If a lawyer refuses to furnish corroborating information regarding litigation, claims, and

assessments, the auditor should
a. Honor the confidentiality of the client–lawyer relationship.
b. Consider the refusal to be tantamount to a scope limitation.
c. Seek to obtain the corroborating information from management.
d. Disclose the fact in a footnote to the financial statements. (AICPA ADAPTED)

b 5. An auditor should obtain written representations from management concerning litigation claims
and assessments. These representations may be limited to matters that are considered either individually or
collectively material, provided an understanding on the limits of materiality for this purpose has been
reached by
a. The auditor and the client's lawyer.
b. Management and the auditor.
c. Management, the client's lawyer, and the auditor.
d. The auditor independently of management. (AICPA ADAPTED)

c 6. Which of the following auditing procedures is ordinarily performed last?

a. Reading of the minutes of the director's meetings.
b. Confirming accounts payable.
c. Obtaining a management representation letter.
d. Testing of the purchasing function. (AICPA ADAPTED)

d 7. When auditing contingent liabilities, which of the following procedures would be least effective?
a. Reading the minutes of the board of directors.
 b. Reviewing the bank confirmation letter.
c. Examining invoices for professional services.
d. Examining customer confirmation replies. (AICPA ADAPTED)

d 8. Management's refusal to furnish a written representation on a matter, which the auditor considers
essential, constitutes
a. Prima facie evidence that the financial statements are not presented fairly.
b. A violation of the Foreign Corrupt Practices Act.
c. An uncertainty sufficient to preclude an unqualified opinion.
d. A scope limitation sufficient to preclude an unqualified opinion. (AICPA ADAPTED)

c 9. A representation letter issued by a client

a. Is essential for the preparation of the audit program.
b. Is a substitute for testing.
c. Does not reduce the auditor's responsibility.
d. Reduces the auditor's responsibility only to the extent it is relied upon. (AICPA ADAPTED)

d 10. Which of the following subsequent events will be least likely to result in an adjustment to the
financial statements?
a. Culmination of events affecting the realization of accounts receivable owned as of the balance
sheet date.
b. Culmination of events affecting the realization of inventories owned as of the balance sheet date.
c. Material changes in the settlement of liabilities, which were estimated as of the balance sheet date.
d. Material changes in the quoted market prices of listed investment securities since the balance sheet
date. (AICPA ADAPTED)

b 11. Which of the following material events occurring subsequent to the December 31, 2004, balance
sheet would not ordinarily result in an adjustment to the financial statements before they are issued on
March 2, 2005?
a. Write-off of a receivable from a debtor who had suffered from a deteriorating financial condition
for the past six years. The debtor filed for bankruptcy on January 23, 2005.
b. Acquisition of a subsidiary on January 23, 2005. Acquisition had begun in December 2004.
c. Settlement of extended litigation on January 23, 2005, in excess of the recorded year-end balance.
d. A 3-for-5 reverse stock split effective on January 23, 2005. (AICPA ADAPTED)

c 12. "Subsequent events" for reporting purposes are defined as events which occur subsequent to the
a. Balance sheet date.
b. Date of the auditor's report.
c. Balance sheet date but prior to the date of the auditor's report.
d. Date of the auditor's report and concern contingencies that are not reflected in the financial
statements. (AICPA ADAPTED)

c 13. Which of the following is not a subsequent events procedure?

a. Review available interim financial information.

 b. Read available minutes of meetings of stockholders and directors.
c. Make inquiries with respect to the financial statements covered by the auditor's previously issued
report if new information has become available during the current examination that might affect
that report.
d. Discuss with officers the current status of items in the financial statements that were accounted
for on the basis of tentative, preliminary, or inconclusive data. (AICPA ADAPTED)

a 14. After an auditor has issued an audit report on a nonpublic entity, there is no obligation to make
any further audit tests or inquiries with respect to the audited financial statements covered by that
report unless
a. New information comes to the auditor's attention concerning an event that occurred prior to the
date of the auditor's report that may have affected the auditor's report.
b. Material adverse events occur after the date of the report.
c. Final determination or resolution was made on matters that had resulted in a qualification in the
auditor's report.
d. Final determination or resolution was made of a contingency that had been disclosed.
(AICPA ADAPTED)

CHAPTER 17 Assurance and Attestation Services

MULTIPLE CHOICE
d 1. Which of the following is generally more important in a review than in a compilation?
a. Determining the accounting basis on which the financial statements are to be presented.
b. Gaining familiarity with industry accounting principles and practices.
c. Obtaining a signed engagement letter.
d. Obtaining a signed representation letter. (AICPA ADAPTED)

d 2. Which of the following procedures is not included in a review engagement on a nonpublic entity?
a. Inquiries of management.
b. Inquiries regarding events subsequent to the balance sheet date.
c. Any procedures designed to identify relationships among data that appear to be unusual.
d. A study and evaluation of internal control structure. (AICPA ADAPTED)

c 3. When auditing a public entity's financial statements that include segment information, the auditor
should
a. Make certain the segment information is labeled "unaudited" and determine that the information
is consistent with audited information.
b. Make certain the segment information is labeled "unaudited" and perform only analytical review
procedures on the segment information.
c. Audit the segment information and, if the information is adequate and in conformity with GAAP,
do not make reference to the segment information in the auditor's report.
d. Audit the segment information and, if the information is adequate and in conformity with GAAP,
refer to the segment information in the auditor's report. (AICPA ADAPTED)

a 4. If management chooses to place supplementary information required by the FASB in footnotes

attached to the financial statements, this information should be clearly marked as
a. Unaudited.
b. Supplementary information required by the FASB.
c. Disclosures required by the FASB.
d. Audited financial data required by GAAP. (AICPA ADAPTED)

b 5. Which of the following best describes the auditor's responsibility for "other information" included
in the annual report to stockholders, which contains financial statements and the auditor's report?
a. The auditor has no obligation to read the "other information."
b. The auditor has no obligation to corroborate the "other information" but should read the "other
information" to determine whether it is materially inconsistent with the financial statements.
c. The auditor should extend the examination to the extent necessary to verify the "other
information."
d. The auditor must modify the auditor's report to state that the "other information is unaudited" or
"not covered by the auditor's report." (AICPA ADAPTED)

d 6. When an independent audit report is incorporated by reference in a SEC registration statement, a

prospectus that includes a statement about the independent accountant's involvement should refer
to the independent accountant as
a. Auditor of the financial reports.
b. Management's designate before the SEC.
c. Certified preparer of the report.
d. Expert in auditing and accounting. (AICPA ADAPTED)
c 7. If information accompanying the basic financial statements in an auditor-submitted document has
 been subjected to auditing procedures, the auditor may express an opinion which states that the
accompanying information is fairly stated in
a. Conformity with generally accepted accounting principles.
b. Terms of negative assurance.
c. All material respects in relation to the basic financial statements taken as a whole.
d. Conformity with principles for presenting accompanying information. (AICPA ADAPTED)

b 8. The auditor's inquiries of management regarding supplementary information on the effects of

price level changes should be directed to the judgments made concerning
a. Relevance and validity.
b. Measurement and presentation.
c. Accuracy and objectivity.
d. Rights and obligations. (AICPA ADAPTED)

a 9. Comfort letters are ordinarily signed by the

a. Independent auditor.
b. Client.
c. Client's lawyer.
d. Internal auditor. (AICPA ADAPTED)

c 10. When an auditor submits a document containing audited financial statements to a client, the
auditor has the responsibility to report on
a. Only the basic financial statements included in the document.
b. The basic financial statements and only that additional information required to be presented in
accordance with provisions of the FASB.
c. All of the information included in the document.
d. Only that portion of the document which was audited. (AICPA ADAPTED)

b 11. An accountant's compilation report should be dated as of the date of

a. Completion of fieldwork.
b. Completion of the engagement.
c. Transmittal of the compilation report.
d. The latest subsequent event referred to in the notes to the financial statements.
(AICPA ADAPTED)
b 12. A CPA has been engaged to compile financial statements for a nonpublic client. Which of the
following statements best describes this engagement?
a. The CPA must perform the basic accepted auditing procedures necessary to determine that the
statements are in conformity with GAAP.
b. The CPA is performing an accounting service rather than an examination of financial statements.
c. The financial statements are representations of both management and the CPA.
d. The CPA may prepare the statements from the books but may not assist in adjusting and closing
the books. (AICPA ADAPTED)
a 13. Which of the following would not be included in an accountant's review report on the financial
statements of a nonpublic entity?
a. A statement that the review was made in accordance with generally accepted auditing standards.
b. A statement that all information included in the financial statements is the representation of
management.
c. A statement describing the principal procedures performed.
d. A statement describing the auditor's conclusions based on the results of the review.
(AICPA ADAPTED)

a 14. An accountant who is not independent may issue a

a. Compilation report.
b. Review report.
c. Comfort letter.
d. Qualified opinion. (AICPA ADAPTED)

c 15. The objective of a review of the interim financial information of a public company is to
a. Provide the accountant with a basis for expressing of an opinion.
b. Estimate the accuracy of financial statements from limited tests of accounting records.
c. Provide the accountant with a basis for reporting to the board of directors or shareholders.
d. Obtain corroborating evidence through inspection, observation, and confirmation.
(AICPA ADAPTED)

b 16. An auditor's report would be designated as a special report when it is issued in connection with
which of the following financial statements?
a. Financial statements for an interim period that are subjected to a limited review.
b. Financial statements that are prepared in accordance with a comprehensive basis of accounting
other than GAAP.
c. Financial statements that purport to be in accordance with GAAP but do not include a statement
of cash flows.
d. Financial statements that are unaudited and are prepared from a client's accounting records.
(AICPA ADAPTED)

a 17. An auditor has been engaged to audit financial statements that were prepared on a cash basis. The
auditor
a. Must ascertain that there is proper disclosure of the fact that the cash basis has been used, the
general nature of material items omitted, and the net effect of the omissions.
b. May not be associated with statements that are not in accordance with GAAP.
c. Must render a qualified report explaining the departure from GAAP in the opinion paragraph.
d. Must restate the financial statements on an accrual basis and then issue the standard report.
(AICPA ADAPTED)

d 18. When issuing a comfort letter to underwriters, the accountant should

a. File a copy with the SEC.
b. Disclaim an opinion.
c. Avoid any reference to the accountant's independence.
d. Express negative assurance. (AICPA ADAPTED)
a 19. An auditor should not issue a report on
a. The achievability of forecasts.
b. Internal control.
c. Management performance.
d. Quarterly financial information. (AICPA ADAPTED)

b 20. Under which of the following circumstances may audited financial statements contain a note
disclosing a subsequent event that is labeled unaudited?
a. When the subsequent event does not require adjustment of the financial statements.
b. When the event occurs after completion of fieldwork and before issuance of the auditor's report.
c. When audit procedures with respect to the subsequent event were not performed by the auditor.
d. When the event occurs between the date of the auditor's original report and the date of the
reissuance of the report. (AICPA ADAPTED)

d 21. Auditors often request that the audit client send a letter of inquiry to those attorneys who have
been consulted with respect to litigation, claims, or assessments. The primary reason for this
request is to provide the auditor with
a. An estimate of the dollar amount of the probable loss.
b. An opinion about whether the loss is possible, probable, or remote.
c. Information concerning the progress of cases to date.
d. Corroborative evidential matter. (AICPA ADAPTED)

a 22. A lawyer's response to an auditor's request for information concerning litigation, claims, and
assessments will ordinarily contain which of the following information?
a. An explanation for limitations on the scope of the response.
b. A statement of concurrence with the client's determination of which unasserted possible claims
warrant specification.
c. Confidential information that would be prejudicial to the client's defense if publicized.
d. An assertion that the list of possible unasserted claims identified by the client represents all
claims of which the lawyer may be aware. (AICPA ADAPTED)

c 23. A lawyer's response to a letter of audit inquiry may be limited to matters that are considered
individually or collectively material to the financial statements if
a. The auditor has instructed the lawyer about the limits of materiality in financial statements.
b. The client and the auditor have agreed on the limits of materiality and the lawyer has been
notified.
c. The lawyer and auditor have reached an understanding about the limits of materiality.
d. The lawyer's response to the inquiry explains the legal meaning of materiality limits and
establishes quantitative parameters. (AICPA ADAPTED)

b 24. An attorney is responding to an independent auditor as a result of the audit client's letter of
inquiry. The attorney may appropriately limit the response to
a. Asserted claims and litigation.
b. Matters to which the attorney has given substantive attention in the form of legal consultation or
representation.
c. Asserted, overtly threatened, or pending claims and litigation.
d. Items that have an extremely high probability of being resolved to the client's detriment.
(AICPA ADAPTED)
 CHAPTER 18 Compliance and Internal Auditing

MULTIPLE CHOICE

d 1. In addition to assessing the fairness of the entity's financial statements, a governmental financial
statement audit is concerned with evaluating
a. Internal control.
b. Efficiency.
c. Accuracy.
d. Compliance.

b 2. Statement on Auditing Standards No. 74, "Compliance Auditing Applicable to Governmental

Entities and to Other Recipients of Governmental Financial Assistance," describes an
independent auditor's responsibilities for all but which of the following?
a. Laws and regulations under generally accepted auditing standards.
b. Laws and regulations in conjunction with a regulatory agency's criteria.
c. The GAO's government auditing standards.
d. The Single Audit Act.

a 3. Under generally accepted auditing standards, an auditor's responsibility to detect and report
violations of laws and regulations is to
a. Assess the risk that violations of laws and regulations may cause materially misstated financial
statements and to design the audit accordingly.
b. Report all violations of laws and regulations to the U.S. GAO.
c. Detect all violations of laws and regulations, including those that are neither direct nor material.
d. Coordinate the search for violations of laws and regulations with all agencies from which the
entity has received financial assistance.

c 4. In assessing whether management has overlooked relevant laws and regulations, the auditor
would perform all of the following except
a. Obtain written representations from management.
b. Review relevant portions of grant and loan agreements.
c. Confirm grant arrangements with granting agencies.
d. Discuss laws and regulations with the entity's chief financial officer and legal counsel.

a 5. Program audits performed for governmental entities include

a. Determining the extent to which the desired results or benefits established by the legislature are
being achieved.
b. Determining whether the entity is acquiring resources economically and efficiently.
c. Determining whether the financial statements are presented fairly.
d. Determining whether the entity has adhered with specific financial compliance requirements.
d 6. In a governmental financial audit, the auditor is required to test an entity's compliance with
applicable laws and regulations and to prepare a written report that provides all of the following
except
a. Positive assurance on items tested.
b. Negative assurance on items not tested.
c. A description of material instances of noncompliance for items tested.
d. A description of the entity's performance on major financial assistance programs.

c 7. Under government auditing standards issued by the U.S. GAO, a report on internal control should
address all of the following except
a. The entity's internal control categories.
b. The scope of the work performed in obtaining an understanding of the entity's internal controls.
c. The auditor's opinion on the appropriateness of the internal control in complying with future
grants.
 d. Deficiencies in internal control not significant enough to be considered reportable conditions
under SAS No. 60, "Communication of Internal Control Structure Related Matters Noted in an
Audit."

a 8. In which of the following circumstances would a governmental entity have the option of not
complying with the Single Audit Act?
a. Governmental entities receiving less than $25,000 per year.
b. Governmental entities receiving over $1,000,000 per year.
c. Governmental entities receiving over $500,000 per year.
d. Governmental entities receiving over $100,000 per year.

c 9. In an audit of a governmental entity under the Single Audit Act, which of the following
questions are not appropriate?
a. Are the costs reasonable and necessary?
b. Do the costs conform to applicable grant requirements?
c. Are the costs the result of purchases made by competitive bid?
d. Are the costs net of applicable credits such as purchase discounts?

c 10. To provide for the greatest degree of independence in performing internal auditing functions, an
internal auditor most likely should report to the
a. Financial vice-president.
b. Corporate controller.
c. Board of directors.
d. Corporate stockholders.

b 11. An independent auditor might consider the procedures performed by the internal auditors
because
a. They are employees whose work must be reviewed during substantive testing.
b. They are employees of the client, but their work might be relied on.
c. Their work impacts upon the cost-benefit tradeoff in evaluating inherent limitations.
d. Their degree of independence may be inferred by the nature of their work.
(AICPA ADAPTED)

d 12. Taylor Sales Corp. maintains a large full-time internal audit staff, which reports directly to the
chief accountant. Audit reports prepared by the internal auditors indicate that the system is
functioning as it should and that control risk is low. The independent auditor will probably
a. Eliminate compliance testing.
b. Increase tests of controls.
c. Avoid duplicating the work performed by the internal audit staff.
d. Place limited reliance on the work performed by the internal audit staff. (AICPA ADAPTED)

a 13. When an independent auditor decides that the work performed by internal auditors may have a
bearing on the nature, timing, and extent of contemplated audit procedures, the independent
auditor should plan to evaluate the objectivity of the internal auditors. Relative to objectivity,
the
independent auditor should
a. Consider the organization level to which internal auditors report the results of their work.
b. Review the quality control program in effect for the internal audit staff.
c. Examine the quality of the internal audit reports.
d. Consider the qualifications of the internal audit staff. (AICPA ADAPTED)
b 14. In connection with the audit of financial statements by an independent auditor, the client
suggests that members of the internal audit staff be utilized to minimize audit costs. Which of
the following tasks could most appropriately be delegated to the internal audit staff?
a. Selection of accounts receivable for confirmation, based on the internal auditor's judgment as to
how many accounts and which accounts will provide sufficient coverage.
b. Preparation of schedules for negative accounts receivable responses.
c. Evaluation of the internal control for accounts receivable and sales.
d. Determination of the adequacy of the allowance for doubtful accounts. (AICPA ADAPTED)

c 15. Which of the following activities is typically associated with operational auditing?
a. Determining whether the financial statements are an accurate representation of the entity's
operations.
b. Evaluating the feasibility of attaining the entity's operational objectives.
c. Making recommendations for improving performance.
d. Reporting on the entity's relative success in meeting profitability goals.

b 16. The overall objective of internal auditing is to

a. Design and implement an effective internal control structure.
b. Assist the independent auditors in gathering evidence needed to form an opinion on the fairness
of the financial statements.
c. Ensure that assets are properly accounted for and protected from loss or misuse.
d. Provide information about any phase of business activity to assist members of management in
discharging their responsibilities.

d 17. Usually, an operational audit is performed

a. By independent external auditors.
b. By a team consisting of an equal number of external and internal auditors.
c. Only when an operating division is experiencing declines in productivity or profitability.
d. By internal auditors at the request of top management or the board of directors.

b 18. For an internal auditor to render impartial and unbiased judgments, he or she must be independent
of the entity's
a. Stockholders.
b. Personnel and operating activities.
c. Independent (external) auditors.
d. Board of directors.

c 19. In a financial statement audit, the independent auditor would not rely on the work of an internal
auditor in
a. Obtaining an understanding of the internal control structure.
b. Assessing risk.
c. Determining a preliminary estimate of materiality.
d. Performing substantive tests.
 CHAPTER 19 Professional Ethics
MULTIPLE CHOICE

c 1. A client company has not paid its 2004 audit fees. According to the AICPA Code of
Professional
Conduct, for the auditor to be considered independent with respect to the 2005 audit, the 2004
audit fees must be paid before the
a. 2004 report is issued.
b. 2005 fieldwork is started.
c. 2005 report is issued.
d. 2006 fieldwork is started. (AICPA ADAPTED)

d 2. Inclusion of which of the following in a promotional brochure published by a public accounting

firm would be most likely to result in a violation of the AICPA rules of conduct?
a. Reprints of newspaper articles that praise the firm's expertise.
b. Services offered and fees for such services, including hourly rates and fixed fees.
c. Educational and professional attainments of partners.
d. Testimonials and endorsements. (AICPA ADAPTED)

a 3. According to the AICPA Code of Professional Conduct, a member who has a financial interest
in a partnership that invests in a potential client is considered to have
a. An indirect financial interest in the client.
b. A direct financial interest in the client.
c. No financial interest in the client.
 d. A partial financial interest in the client. (AICPA ADAPTED)

a 4. The AICPA Rules of Conduct will ordinarily be considered to have been violated when the
member represents that specific consulting services will be performed for a stated fee and it is
apparent at the time of the representation that the
a. Actual fee would be substantially higher.
b. Actual fee would be substantially lower than the fees charged by other members for comparable
services.
c. Fee was a competitive bid.
d. Member would not be independent. (AICPA ADAPTED)

d 5. In which of the following instances would the independence of the CPA not be considered to be
impaired? The CPA has been retained as the auditor of a brokerage firm
a. Which owes the CPA audit fees for more than one year.
b. In which the CPA has a large active margin account.
c. In which the CPA's brother is the controller.
d. Which owes the CPA audit fees for services in the current year and has just filed a petition for
bankruptcy. (AICPA ADAPTED)

a 6. Pursuant to the AICPA rules of conduct, the auditor's responsibility to the profession is defined
by
a. The AICPA Code of Professional Conduct.
b. Federal laws governing licensed professionals who are involved in interstate commerce.
c. Statements on Auditing Standards.
d. The Bylaws of the AICPA. (AICPA ADAPTED)

a 7. In performing an audit, Jackson, CPA, discovers that the professional competence necessary for
the engagement is lacking. Jackson informs management of the situation and recommends
another local firm, and management engages this other firm. Under these circumstances
a. Jackson may request compensation from the other firm for any professional services rendered to
it in connection with the engagement.
b. Jackson may accept a referral fee from the other firm.
c. Jackson has violated the AICPA Code of Professional Conduct because of nonfulfillment of the
duty of performance.
d. Jackson's lack of competence should be construed to be a violation of generally accepted
auditing standards. (AICPA ADAPTED)

c 8. In which of the following instances would the independence of the CPA not be considered to be
impaired? The CPA has been retained as the auditor of a
a. Charitable organization in which an employee of the CPA serves as treasurer.
b. Municipality in which the CPA owns $25,000 of the $2,500,000 indebtedness of the
municipality.
c. Cooperative apartment house in which the CPA owns an apartment and is not part of the
management.
d. Company in which the CPA's investment club owns a one-tenth interest. (AICPA ADAPTED)

d 9. The AICPA Code of Professional Conduct recognizes that the reliance of the public, the
government, and the financial community on sound financial reporting imposes particular
obligations on CPAs. The Code derives its authority from
a. Public laws enacted over the years.
b. General acceptance of the Code by the financial community.
 c. Requirements of governmental regulatory agencies, such as the SEC.
d. Bylaws of the AICPA. (AICPA ADAPTED)

c 10. Which of the following most completely describes how independence has been defined by the
profession?
a. Performing an audit from the viewpoint of the public.
b. Avoiding the appearance of significant interests in the affairs of an audit client.
c. Possessing the ability to act with integrity and objectivity.
d. Accepting responsibility to act professionally and in accordance with a professional code of
ethics. (AICPA ADAPTED)

c 11. The appearance of independence of a CPA, or that CPA's firm, could be impaired if the CPA
a. Owns a unit in a cooperative apartment house where each unit has a vote in the cooperative, and
the CPA, who does not participate in the management, has been retained as the auditor for the
cooperative.
b. Joins a trade association that is a client and serves in a nonmanagement capacity.
c. Accepts a gift from a client.
d. None of the above. (AICPA ADAPTED)
c 12. An audit independence issue might be raised by the auditor's participation in management
advisory services engagements. Which of the following statements is most consistent with the
profession's attitude toward this issue?
a. Information obtained as a result of a consulting engagement is confidential to that engagement
and should not influence performance of the attest function.
b. The decision as to loss of independence must be made by the client based on the facts of the
particular case.
c. The auditor should not make management decisions for an audit client.
d. The auditor who is asked to review management decisions is also competent to make these
decisions and can do so without loss of independence. (AICPA ADAPTED)

a 13. The AICPA Code of Professional Conduct states, in part, that a CPA should maintain integrity
and objectivity. Objectivity in the Code refers to a CPA's ability
a. To maintain an impartial attitude on all matters that come under the CPA's review.
b. To independently distinguish between accounting practices that are acceptable and those that are
not.
c. To be unyielding in all matters dealing with auditing procedures.
d. To independently choose between alternate accounting principles and auditing standards.
(AICPA ADAPTED)

c 14. The AICPA Code of Professional Conduct states that a CPA shall not disclose any confidential
information obtained in the course of a professional engagement except with the consent of his
or her client. In which of the situations that follow would disclosure by a CPA be in violation of
the Code?
a. Disclosing confidential information to properly discharge the CPA's responsibilities in
accordance with the profession's standards.
b. Disclosing confidential information in compliance with a subpoena issued by a court.
c. Disclosing confidential information to another accountant interested in purchasing the CPA's
practice.
d. Disclosing confidential information in a review of the CPA's professional practice by a peer
review team. (AICPA ADAPTED)

a 15. Which of the following fee arrangements is in violation of the AICPA Code of Professional
Conduct?
a. A fee based on whether the CPA's report on the client's financial statements results in the
approval of a bank loan.
b. A fee based on the outcome of a bankruptcy proceeding.
c. A fee based on the nature of the service rendered and the CPA's particular expertise instead of
the actual time spent on the engagement.
d. A fee based on the fee charged by the prior auditor. (AICPA ADAPTED)

a 16. Which of the following is prohibited by the AICPA Code of Professional Conduct?
a. Use of a firm name that indicates specialization.
b. Practice of public accounting in the form of a professional corporation.
c. Use of the partnership name for a limited period by one of the partners in a public accounting
firm after the death or withdrawal of all other partners.
d. Holding 10 of 1,000 outstanding shares as an investment in a commercial corporation that
performs bookkeeping services. (AICPA ADAPTED)
b 17. Which organizations operate to enforce ethical conduct among certified public accountants?
a. The SEC and state boards of accountancy.
b. The AICPA, state societies of CPAs, and state boards of accountancy.
 c. The AICPA, state societies of CPAs, and the SEC.
d. The National Association of State Boards of Accountancy.

a 18. Cases involving ethical misconduct reach the Joint Trial Board if
a. Both the AICPA or state society of CPAs concur on their findings, but do not issue a joint
administrative reprimand.
b. The AICPA refers the case owing to its own backlog of ethics cases.
c. The state board of accountancy disagrees with a ruling by either the AICPA or the state society
of CPAs.
d. The case has national implications.

d 19. The Principles of the AICPA's Code of Professional Conduct

a. Are enforceable on AICPA members.
b. Derive their authority from state boards of accountancy.
c. Include the Code's Rules of Conduct.
d. Express each member's responsibilities to the public, to clients, and to colleagues in the
profession.

d 20. Which of the following describes most completely how the profession defines independence?
a. Performing an audit from the public's point of view.
b. Avoiding the appearance of a significant interest in an audit client's interests.
c. Resisting a client’s reluctance to reveal evidence.
d. Accepting responsibility to act professionally and in accordance with a professional Code of
Conduct.

b 21. Which of the following publications does not qualify as a statement of generally accepted
accounting principles under the Code of Professional Conduct?
a. Accounting interpretations issued by the FASB.
b. Accounting interpretations issued by the AICPA.
c. AICPA Accounting Research Bulletins.
d. Statements of Financial Accounting Standards issued by the FASB.

c 22. Which of the following is required for a firm's letterhead to include “Member of the American
Institute of Certified Public Accountants?”
a. At least one of the partners must be a member.
b. The partners whose names appear in the firm name must be members.
c. All partners must be members.
d. The firm must be a dues paying member.

b 23. In which of the following circumstances would a CPA be bound to refrain from disclosing
confidential information obtained during a professional engagement?
a. The CPA is issued a summons enforceable by a court order that orders the CPA to present
confidential information.
b. A major stockholder of a client company seeks accounting information from the CPA after
management declined to disclose the information.
c. Confidential client information is made available as part of a quality review of the CPA's
practice by a review team authorized by the AICPA.
d. An inquiry by a disciplinary body of a state CPA society requests confidential client
information.
b 24. Richard, CPA, performs accounting services for Norton Corporation. Norton wishes to offer
shares to the public and asks Richard to audit the financial statements. Richard refers Norton to
 Cruz, CPA, who is more competent in the area of registration statements. Cruz performs the
audit of Norton's financial statements and subsequently thanks Richard for the referral by giving
Richard a portion of the audit fee. Richard accepts the fee. Who, if anyone, has violated
professional ethics?
a. Only Richard.
b. Both Richard and Cruz.
c. Only Cruz.
d. Neither Richard nor Cruz.

d 25. The AICPA Code of Professional Conduct would be violated if a member accepted a fee for
services and the fee was
a. Fixed by a public authority.
b. Based on a price quotation submitted in competitive bidding.
c. Based on the result of judicial proceedings.
d. Payable after a specified finding was attained.

d 26. Inclusion of which of the following statements in a CPA's advertisement is not acceptable under
the AICPA Code of Professional Conduct?
a. Paul Fall
Certified Public Accountant
Fluency in Spanish and French
b. Paul Fall
Certified Public Accountant
Tax Specialist
c. Paul Fall
Certified Public Accountant
Free Consultation
d. Paul Fall
Certified Public Accountant
Endorsed by the AICPA

a 27. Which of the following is prohibited by the AICPA Code of Professional Conduct?
a. A firm that designates itself “Members of the AICPA” when one partner has been expelled from
the AICPA.
b. Practice of public accounting in the form of a professional corporation.
c. Use of the partnership name for a limited period by one of the partners in a public accounting
firm after the death or withdrawal of all other partners.
d. Holding as an investment 10 of 1,000 outstanding shares in a commercial corporation that
performs bookkeeping services.
 CHAPTER 20 Legal Liability

MULTIPLE CHOICE

c 1. Which of the following best describes a trend in litigation involving CPAs?

a. A CPA cannot render an opinion on a company unless the CPA has audited all affiliates of that
company.
b. A CPA may successfully assert as a defense that the CPA had no motive to be part of a fraud.
c. A CPA may be exposed to criminal as well as civil liability.
d. A CPA is primarily responsible for a client's footnotes in an annual report filed with the SEC.
(AICPA ADAPTED)

c 2. As a consequence of failure to adhere to generally accepted auditing standards in the course of

an audit of the Lamp Corp., Harrison, CPA, did not detect the embezzlement of a material
amount of funds by the company's controller. As a matter of common law, to what extent would
Harrison be liable to the Lamp Corp. for losses attributable to the theft?
a. No liability since the ordinary examination cannot be relied on to detect defalcations.
b. No liability because privity of contract is lacking.
c. Liable for losses attributable to her or his negligence.
d. Liable only if it could be proved that he or she was grossly negligent. (AICPA ADAPTED)

b 3. The Apex Surety Company wrote a general fidelity bond covering defalcations by the employees
of Watson, Inc. Thereafter, Grand, an employee of Watson, embezzled $18,999 of company
funds. When his activities were discovered, Apex paid Watson the full amount in accordance
with the terms of the fidelity bond and then sought recovery against Watson's auditors, Kane &
Dobbs, CPAs. Which of the following would be Kane & Dobbs' best defense?
a. Apex is not in privity of contract.
b. The shortages were the result of clever forgeries and collusive fraud that would not be detected
by an examination made in accordance with generally accepted auditing standards.
c. Kane & Dobbs were not guilty of either gross negligence or fraud.
d. Kane & Dobbs were not aware of the Apex-Watson surety relationship. (AICPA ADAPTED)

b 4. Martin Corporation orally engaged Humm & Dawson to audit its year-end financial statements.
The engagement was to be completed within two months after the close of Martin's fiscal year
for a fixed fee of $2,500. Under these circumstances, what obligation is assumed by Humm &
Dawson?
a. None. The contract is unenforceable since it is not in writing.
b. An implied promise to exercise reasonable standards of competence and care.
c. An implied obligation to take extraordinary steps to discover all defalcations.
d. The obligation of an insurer of its work, which is liable without fault. (AICPA ADAPTED)

a 5. One of the most significant aspects of the Continental Vending case was that it
a. Created a more general awareness of the auditor's exposure to criminal prosecution.
b. Extended the auditor's responsibility for financial statements of subsidiaries.
c. Extended the auditor's responsibility for events after the end of the audit period.
d. Defined the auditor's common-law responsibilities to third parties. (AICPA ADAPTED)
b 6. The 1136 Tenants case was chiefly important because of its emphasis on the legal liability of the
CPA when
a. Performing a review of financial statements.
b. An engagement letter is not obtained.
c. An audit results in a disclaimer of opinion.
d. Preparing letters for underwriters. (AICPA ADAPTED)

d 7. In which of the following statements about a public accounting firm's action is scienter or its
equivalent absent?
a. Reckless disregard for the truth.
b. Actual knowledge of fraud.
c. Intent to gain monetarily by concealing fraud.
d. Performance of substandard auditing procedures. (AICPA ADAPTED)

c 8. Doe and Co., CPAs, issued an unqualified opinion on the 2005 financial statements of Marx
Corp. These financial statements were included in Marx's annual report and form 10K filed with
the SEC. Doe did not detect material misstatements in the financial statements as a result of
negligence in the performance of the audit. Based on the financial statements, Fitch purchased
stock in Marx. Shortly thereafter, Marx became insolvent, causing the price of the stock to
decline drastically. Fitch has commenced legal action against Doe for damages based on Section
10(b) and Rule 10b-5 of the Securities Exchange Act of 1934. Doe's best defense to such an
action would be that
a. Fitch lacks privity to sue.
b. The engagement letter specifically disclaimed all liability to third parties.
c. There is no proof of scienter.
d. There has been no subsequent sale for which a loss can be computed. (AICPA ADAPTED)

b 9. Hall purchased bonds for Eon Corp. in a public offering subject to the Securities Act of 1933.
Kosson and Co., CPAs, rendered an unqualified opinion on Eon's financial statements, which
were included in Eon's registration statement. Kosson is being sued by Hall based on
misstatements contained in the financial statements. In order to be successful, Hall must prove
materiality of Kosson's

Damages Misstatement Scienter

a. Yes Yes Yes
b. Yes Yes No
c. Yes No No
d. No Yes Yes (AICPA ADAPTED)

b 10. Lewis & Clark, CPAs, rendered an unqualified opinion on the financial statements of a company
that sold common stock in a public offering subject to the Securities Act of 1933. Based on a
false statement in the financial statements, Lewis & Clark are being sued by an investor who
purchased shares of this public offering. Which of the following represents a viable defense?
a. The investor has not met the burden of proving fraud or negligence by Lewis & Clark.
b. The investor did not actually rely on the false statement.
c. Detection of the false statement by Lewis & Clark occurred after their examination date.
d. The false statement is immaterial in the overall context of the financial statements.
(AICPA ADAPTED)
c 11. Gibson is suing Simpson & Sloan, CPAs, to recover losses incurred in connection with Gibson's
transactions in Zebra Corporation securities. Zebra's Annual Form 10-K Report contained
material false and misleading statements in the financial statements audited by Simpson &
Sloan. To recover under the Securities and Exchange Act of 1934, Gibson must, among other
things, establish that
a. All of his past transactions in Zebra securities, both before and after the auditors' report date,
resulted in net losses.
b. The transaction in Zebra securities that resulted in a loss occurred within 90 days of the auditors'
report date.
c. He relied on the financial statements in his decision to purchase or sell Zebra securities.
d. The market price of the stock dropped significantly after Zebra issued corrected financial
statements. (AICPA ADAPTED)

b 12. Humm & Dawson had been engaged to audit the Martin Corporation's financial statements.
Although an engagement letter was not prepared, Martin agreed orally to a fixed fee of $2,500.
Which of the following best describes the obligation assumed by Humm & Dawson?
a. None; the agreement is not in writing.
b. An implied promise to exercise due care.
c. An implied obligation to detect all fraud.
d. An implied obligation to detect all illegal acts. (AICPA ADAPTED)

d 13. Winslow Manufacturing, Inc. sought a $200,000 loan from National Lending Corporation.
National Lending insisted that audited financial statements be submitted before granting credit.
Winslow agreed. An audit was performed by an independent auditor who submitted an audit
report to Winslow that was to be used solely for the purpose of negotiating a loan from National.
National, upon reading the audited financial statements, decided in good faith not to extend the
credit desired. Certain ratios, used routinely by National in reaching credit decisions, were
judged insufficient. Winslow used copies of the audited financial statements to obtain credit
elsewhere. Despite complying with generally accepted auditing standards, the independent
auditor failed to discover a sophisticated embezzlement scheme perpetrated by Winslow's chief
financial officer. The auditor is liable to
a. Third parties who relied on the audited financial statements to extend credit.
b. Winslow to repay the audit fee because National did not extend credit.
c. Winslow for any losses Winslow suffered as a result of failing to discover the embezzlement.
d. None of the parties. (AICPA ADAPTED)

b 14. Which of the following ultimately determines the specific audit procedures necessary to provide
an independent auditor with a reasonable basis for the expression of an opinion?
a. The audit program.
b. The auditor's judgment.
c. Generally accepted auditing standards.
d. The auditor's working papers. (AICPA ADAPTED)

b 15. An auditor who believes that a material irregularity may exist should initially
a. Discuss the matter with those believed to be involved in the perpetration of the material
irregularity.
b. Discuss the matter with a higher level of management.
c. Withdraw from the engagement.
d. Consult legal counsel. (AICPA ADAPTED)
c 16. Which of the following, if material, would be an irregularity?
a. Mistakes in the application of accounting principles.
b. Clerical mistakes in the accounting data underlying the financial statements.
c. Misappropriation of an asset or groups of assets.
d. Misinterpretations of facts that existed when the financial statements were prepared.
(AICPA ADAPTED)

d 17. When unable to determine the amounts associated with certain illegal acts committed by a client,
the auditor would most likely issue
a. A review opinion with a separate explanatory paragraph.
b. Only an adverse opinion.
c. Either a qualified opinion or an adverse opinion.
d. Either a qualified opinion or a disclaimer of opinion. (AICPA ADAPTED)

c 18.The auditor is most likely to presume that a high risk of irregularities exists if
a. The client is a multinational company that does business in numerous foreign countries.
b. The client does business with several related parties.
c. Inadequate segregation of duties places an employee in a position to perpetrate and conceal
thefts.
d. Inadequate employee training results in lengthy EDP exception reports each month.

(AICPA ADAPTED)

a 19. An auditor who finds that the client has committed an illegal act would be most likely to
withdraw from the engagement when the
a. Illegal act affects the auditor's ability to rely on management representations.
b. Illegal act has material financial statement implications.
c. Illegal act has received widespread publicity.
d. Auditor cannot reasonably estimate the effect of the illegal act on the financial statements.
(AICPA ADAPTED)

c 20. The Foreign Corrupt Practices Act requires that

a. Auditors engaged to examine the financial statements of publicly held companies report all
illegal payments to the SEC.
b. Privately held companies devise and maintain an adequate internal control structure.
c. Publicly held companies devise and maintain an adequate internal control structure.
d. U.S. firms doing business abroad report sizable payments to non-U.S. citizens to the Justice
Department. (AICPA ADAPTED)

a 21. Donalds & Company, CPAs, audited the financial statements included in the annual report
submitted by Markum Industries, Inc. to the Securities and Exchange Commission. The audit
was deficient in several respects. Markum is now insolvent and unable to satisfy shareholders'
claims. The shareholders have taken legal action against Donalds under Section 10b and Rule
10b-5 of the Securities Exchange Act of 1934. Which of the following is Donalds' best defense?
a. Donalds did not intend to deceive, manipulate, or defraud Markum's shareholders.
b. Section 10b does not apply.
c. Donalds was not in privity to the shareholders.
d. The engagement letter specifically disclaimed liability to any third party. (AICPA ADAPTED)
a 22. A third party sues a public accounting firm for negligence under common law on the basis of
materially false financial statements. Which of the following is the firm's defense?
a. Lack of privity.
b. Lack of reliance.
c. Lack of intent.
d. Contributory negligence. (AICPA ADAPTED)

c 23. Purchasers of securities have brought suit against an independent auditor under the Securities
Act of 1933. The firm will prevail in the suit, even though the firm issued an unqualified opinion
on materially misstated financial statements, if
a. The firm was unaware of the material misstatements.
b. The purchasers had no direct dealings with the auditor.
c. The firm can show that the purchasers did not rely on the financial statements.
d. The firm can show that there was no intent to deceive or manipulate the purchasers.
(AICPA ADAPTED)

a 24. When seeking to recover stock market losses from a public accounting firm on the basis of an
unqualified opinion that accompanied a registration statement, an investor must establish that
a. The audited financial statements were materially misstated.
b. He or she relied on the financial statements.
c. The firm did not act in good faith.
d. If the firm had exercised due care, the material misstatement would have been discovered.
(AICPA ADAPTED)

c 25. An auditor is subject to criminal liability if he or she

a. Refuses to return a client's working papers.
b. Performs an audit negligently.
c. Willfully omits a material fact required to be stated in a registration statement.
d. Willfully breaches a contract with a client. (AICPA ADAPTED)

a 26. If an independent auditor believes that material errors or fraud exist, he or she should
a. Consider the implications and discuss the matter with appropriate levels of management.
b. Make the investigation necessary to determine whether the errors or fraud have, in fact,
occurred.
c. Request that management investigate whether the errors or fraud have, in fact, occurred.
d. Consider whether the errors or fraud were the result of a failure by employees to comply with
existing internal controls. (AICPA ADAPTED)

d 27. With respect to errors and fraud, which of the following should be part of an auditor's planning
of the audit engagement?
a. Plan to search for errors or fraud that would have a material or immaterial effect on the financial
statements.
b. Plan to discover errors or fraud that are either material or immaterial.
c. Plan to discover errors or fraud that are material.
d. Plan to consider factors affecting the risk of material misstatement both at the financial
statement and the account balance level. (AICPA ADAPTED)
d 28. An audit conducted in accordance with generally accepted auditing standards generally should
a. Be expected to provide assurance that illegal acts will be detected when internal control is
effective.
b. Be relied on to disclose violations of truth in lending laws.
c. Include a plan to actively search for illegal acts.
d. Not be relied on to provide assurance that illegal acts will be detected. (AICPA ADAPTED)

c 29. If an auditor believes a client may have committed illegal acts, which of the following actions
should the auditor take?
a. Consult with the client's counsel and the auditor's counsel to determine how the suspected illegal
acts will be communicated to stockholders.
b. Extend auditing procedures to determine whether the suspected illegal acts have a material effect
on the financial statements.
c. Make inquiries of the client's management and obtain an understanding of the circumstances
underlying the acts and of other evidence to determine the effects of the acts on the financial
statements.
d. Notify each member of the audit committee of the board of directors about nature of the acts and
request that they advise an approach to be taken by the auditor. (AICPA ADAPTED)

d 30. If an illegal act is discovered during the audit of a publicly held company, the auditor should
a. Notify the regulatory authorities.
b. Determine who was responsible for the act.
c. Modify the extent of auditing procedures.
d. Report the act to high-level personnel within the client's organization. (AICPA ADAPTED)

d 31. An audit client's board of directors and audit committee refused to take action about an
immaterial illegal act that was brought to their attention by the auditor. Because of their failure
to act, the auditor withdrew from the engagement. The auditor's decision to withdraw was
primarily due to doubts concerning
a. Inadequate financial statement disclosures.
b. Compliance with the Foreign Corrupt Practices Act.
c. Scope limitations resulting from the inaction.
d. Reliance on management's representations. (AICPA ADAPTED)

b 32. Which of the following statements correctly describes the unlawful influence provision of the
Foreign Corrupt Practices Act? The Act applies
a. Only to multinational corporations.
b. To all domestic corporations engaged in interstate commerce.
c. To corporations whose securities are registered under the Securities Exchange Act of 1934.
d. To corporations engaged in foreign commerce. (AICPA ADAPTED)