Chapter 5 Audit Evidence: Auditing, 14e (Arens)

Auditing, 14e (Arens)
Chapter 5 Audit Evidence
5.1 Understand the purpose and types of audit evidence used throughout the audit process
1) Which is the essence of professional skepticism?

A) The auditor has interviewed client management for any changes in the business and industry.
B) The auditor has performed a critical evaluation of audit evidence.
C) The auditor has reviewed prior-year working papers and permanent file documents.
D) The auditor has taken a tour of a client's physical facilities, noting obvious inventory obsolescence or
equipment maintenance issues.
Answer: B
Diff: 2 Type: MC Page Ref: 125
Learning Obj.: 5-1 Understand the purpose and types of audit evidence used throughout the audit
process
2) List the various judgments and conclusions that auditors make with the help of evidence gathered in
all phases of the audit process.
Answer: Judgments and conclusions that auditors make with the help of evidence gathered in all phases
of the audit process are:
- to accept (or continue with) the client.
- to plan the audit.
- to decide where there could be a risk of material misstatement in the financial statements.
- to develop an appropriate risk response.
- to conclude on the type of audit report to be issued.
Diff: 2 Type: SA Page Ref: 125
Learning Obj.: 5-1 Understand the purpose and types of audit evidence used throughout the audit
process
5.2 Explain the three audit evidence decisions to determine what evidence to gather and how much to
accumulate
1) "The detailed instructions for the collection of a particular type of audit evidence" is the definition of
a(n)
A) sampling plan.
B) audit procedure.
C) audit plan.
D) audit program.
Answer: B
Learning Obj.: 5-2 Explain the three audit evidence decisions to determine what evidence to gather and
how much to accumulate
2) How frequently does the auditor make a decision with respect to the sample size to be selected?
A) once for the entire audit
B) for each transaction cycle
C) once for each type of audit procedure
D) for each audit procedure
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Answer: D
Diff: 2 Type: MC Page Ref: 127-128
3) Those procedures specifically outlined in an audit program are primarily designed to

A) prevent litigation.
B) detect errors or irregularities.
C) test internal controls.
D) collect evidence.
Answer: D
4) "The detailed instructions for the entire collection of evidence for an audit area" is the definition of a(n)
A) sampling plan.
B) audit procedure.
C) audit plan.
D) audit program.
Answer: D
5) The Bank of New Haven relies heavily on computers to calculate the settlements of amounts due to
other banks. Given that the process is highly automated, the auditor would not be able to obtain sufficient
evidence with substantive procedures. The auditors of the Bank of New Haven should
A) design and perform tests of controls.
B) qualify the opinion for the section on settlements.
C) hire a specialist to give an opinion on the proper functioning of the system.
D) perform a walkthrough of the system.
Answer: A
6) An audit program is
A) a set of specifications of audit standards relevant to the financial statements being audited.
B) a set of documentation of the assertions under audit, the evidence obtained, and the conclusions
reached.
C) a set of reconciliations of the account balances in the financial statements with the account balances in
the auditee's general ledger
D) a set of detailed instructions for the entire collection of evidence for an audit area.
Answer: D
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7) List the purposes and types of audit procedures used by auditors in all phases of the audit process.
Answer: Purposes of audit procedures used by auditors in all phases of the audit process are:
- to conduct risk assessment.
- to conduct test of controls.
- to conduct substantive procedures.
Types of audit procedures used by auditors in all phases of the audit process are:
- inspection.
- observation.
- inquiry.
- confirmation.
- recalculation.
- reperformance.
- analytical procedures.
8) The auditor's decisions regarding evidence accumulation can be broken into various decisions. One
decision relates to determining the nature of the audit procedure to be used to collect the evidence; i.e.,
"which audit procedures to use." Identify and discuss the remaining audit evidence decisions that the
auditor makes.
Answer: The other audit evidence decisions are:
• Which risks could result in a risk of material misstatement (RMM) at the assertion level? This decision
helps the auditor decide which assertions must be tested.
• What sample size to select for a given procedure. This decision relates to the extent of testing to be
performed. Once the auditor has identified which procedure to perform, he or she needs to decide the
appropriate number of items in the population to test, ranging from one to all items in the population.
• Which items to select from the population. Once the auditor has decided the appropriate number of
items to test, he or she needs to decide which particular items in the population to examine.
• When to perform the procedures. This decision relates to the timing of the testing to be performed.
Audit procedures related to balance sheet accounts that are performed close to the balance sheet date are
generally considered more reliable than procedures performed during the interim period.
Diff: 3 Type: ES Page Ref: 126-127
5.3 Use professional judgment to determine the degree of persuasiveness of audit evidence
1) In determining the quantity and quality of evidence to gather, the auditor will be satisfied when the
evidence is
A) irrefutable.
B) conclusive.
C) highly persuasive.
D) sufficiently convincing.
Answer: C
Learning Obj.: 5-3 Use professional judgment to determine the degree of persuasiveness of audit
evidence
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2) The two most important factors that determine the appropriate sample size in audits are
A) the auditor's expectation of errors and the effectiveness of the client's internal controls.
B) the auditor's expectation of errors and materiality.
C) the effectiveness of the client's internal controls and materiality.
D) materiality and the type of audit procedure to be applied to the population.
Answer: A
evidence
3) To improve the appropriateness of audit evidence, the auditor should

A) be sure to select a larger sample size for the items being tested.
B) add additional population items into the sample to improve sample variety.
C) select audit procedures that improve the reliability of the evidence.
D) select a smaller sample size that is statistically valid.
Answer: C
evidence
4) The auditor is tracing from the duplicate sales invoices to related shipping documents with respect to
the occurrence transaction-related audit objective. This type of evidence is
A) independent.
B) relevant.
C) timely.
D) related to external documentation.
Answer: B
evidence
5) Which of the following audit techniques would the auditor use to test the completeness of sales (i.e.,
test whether shipments have been billed to customers)?
A) trace shipping documents to duplicate sales invoices
B) trace duplicate sales invoices to shipping documents
C) match data file versions of sales invoices to paper records
D) look at subsequent payments after the year end for payments for outstanding invoices
Answer: A
evidence
6) Evidence is generally considered appropriate when

A) it has the qualities of being relevant, objective, and free from known bias.
B) there is enough of it to afford a reasonable basis for an opinion on financial statements.
C) it has been obtained by random selection.
D) it consists of written statements made by managers of the enterprise under audit.
Answer: A
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evidence
7) Which of the following types of evidence is most appropriate in the audit of fixed assets?
A) recalculation of the amortization schedule provided by the client
B) auditor inspection of recently acquired fixed assets
C) reperformance of the posting of depreciation expenses to the general ledger
D) analytical review to assess the reasonableness of depreciation expense
Answer: B
evidence
8) Which of the following types of evidence would be considered most reliable in the audit of accounts
payable?
A) review of internal budgets for the period under audit
B) inquiry of management with respect to recent purchases
C) inspection of client purchase orders
D) inspection of supplier invoices
Answer: D
evidence
9) Last year, the client's internal controls were weak. This year, the internal controls are stronger. This
means that information recorded on internal documentation is
A) more timely.
B) less reliable.
C) more reliable.
D) less timely.
Answer: C
evidence
10) Gina is performing the audit of the payables section of Reno Inc. She wants to confirm the payables
from an independent source. Which of the following actions would achieve this?
A) Confirm an interco payable with the CEO of the US branch of Reno Inc.
B) Confirm the account payable with Clarkson Corp. The CFO of Clarkson is the wife of the controller of
Reno.
C) Confirm the line of credit balance with Citizen Bank. Reno does all its banking with Citizen and it also
has a long-term loan there.
D) Confirm the account payable to Suco Inc. The CEO of Reno owns 30% of the outstanding shares of
Suco.
Answer: C
evidence
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11) Which of the following is the best example of objective evidence?
A) a letter written by a client's lawyer discussing the likely outcome of outstanding lawsuits
B) the physical count of securities and cash by the auditor
C) inquiries of the credit manager about the collectability of noncurrent accounts receivable
D) observation of cobwebs on some inventory bins
Answer: B
evidence
12) Audit evidence is generally considered sufficient when

A) it is appropriate.
B) there is enough of it to afford a reasonable basis for an opinion on financial statements.
C) it has the qualities of being relevant, objective, and free from known bias.
D) it has been obtained by random selection.
Answer: B
evidence
13) The decision of how many items to test must be made by the auditor for each audit procedure. The
sample size for any given procedure
A) will be the same if the same level of assurance is required.
B) must cover the entire period under audit.
C) is focused on high-dollar-value items only.
D) is likely to vary from audit to audit.
Answer: D
evidence
14) Which of the following characteristics of samples would make the sample more sufficient?
A) Samples that contain at least one of each type of transaction that is in the population and have a high
number of sample items.
B) Samples that contain items with a high likelihood of error and have large dollar values as well as being
representative of the population.
C) Samples that contain multiple items from different layers of the population (strata) as well as all items
that are above the materiality threshold.
D) Samples that contain items that have a high likelihood of error as well as being related to the audit
assertions that are being tested.
Answer: B
evidence
15) Evidence is usually more persuasive for balance sheet accounts when it is obtained
A) from various time periods throughout the client's year.
B) only from transactions occurring on the balance sheet date.
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C) as close to the balance sheet date as possible.
D) from the time period when transactions in that account were most numerous during the fiscal period.
Answer: C
evidence
16) For income statement accounts, evidence is more persuasive if there is a sample from
A) the entire period under audit.
B) the period closest to the end of the fiscal period.
C) at least three months of the fiscal year.
D) December, since this would include large holiday sales.
Answer: A
evidence
17) A PA is planning the audit of Lowden's Company. Lowden verbally asserts to the PA that all the
expenses for the year have been recorded in the accounts. Lowden's representation
A) should be disregarded because it is not in writing.
B) can enable the PA to minimize his work during control testing for the completeness of expenses.
C) is sufficient evidence for the PA to conclude that the completeness assertion is supported for the
expenses.
D) is not considered a sufficient basis for the PA to conclude that all expenses have been recorded.
Answer: D
evidence
18) Audit evidence can come in different forms with different degrees of persuasiveness. Which of the
following is the least persuasive type of evidence?
A) bank statement obtained from the client
B) computations made by the auditor
C) prenumbered client sales invoices
D) a vendor's invoice
Answer: C
evidence
19) Which one of the following forms of evidence would be least reliable?
A) monthly bank statement
B) positive confirmation of customer's balance
C) a letter from client's lawyer stating that there are no known lawsuits pending against client
D) client's file copy of a purchase requisition
Answer: D
evidence
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20) Which of the following is an example of subjective evidence?
A) a positive confirmation of an account receivable
B) a bank confirmation
C) inquiries of the credit manager about the collectability of noncurrent accounts receivable
D) the physical count of securities and cash
Answer: C
Learning Obj.: 5-4 Describe the types of audit procedures for gathering audit evidence
21) For each of the following audit procedures, state and describe the type of audit evidence, state the
audit assertion that it applies to, and describe the reliability of the evidence (with reasons).
A) Watch staff scan products and enter cash received.

B) Reconcile daily cash drawer receipts (cash, debit card sales, credit card sales) with daily sales for one
week.
C) Calculate daily gross profit and gross profit by product line.
D) Account for a sequence of sales documents.
Answer: A) Watch staff scan products and enter cash received.
Type of audit evidence (with Applicable audit Reliability of evidence (high,

reason) assertion medium, or low, with reason)
Medium. Although it is being
performed by the auditor, this is
Observation, as the auditor is a point-in-time test and is limited
using a sense (vision) to assess to the actual duration of the
the activity of recording sales Occurrence observation.
B) Reconcile daily cash drawer receipts (cash, debit card sales, credit card sales) with daily sales for one
week.
Type of audit evidence (with Applicable audit Reliability of evidence (high,

reason) assertion medium, or low, with reason)
Reperformance or recalculation,
as the auditor is redoing a
summary that would likely be
completed by the information High, as it is being performed by
systems of the client Accuracy the auditor
C) Calculate daily gross profit and gross profit by product line.
Reliability of evidence
Type of audit evidence (high, medium, or low,
(with reason) Applicable audit assertion with reason)
Analytical procedures, since Accuracy Low, since it is not
it looks at comparisons and considered sufficient
relationships between two evidence on its own. It must
or more figures be combined with tests of
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control or tests of detail.
Useful on its own for
planning or risk assessment.
D) Account for a sequence of sales documents.
Type of audit evidence Reliability of evidence (high,

(with reason) Applicable audit assertion medium, or low, with reason)
Inspection, as the auditor is
examining client
documentation for the
continuity, or
reperformance, as the
auditor is re-doing and
checking the issuance of an High, as it is being performed by
ascending sequence for the auditor and is substantiated
sales documents. Completeness by client documentation.

evidence
22) Identify and explain the three determinants of the persuasiveness of evidence.
Answer: The three determinants of the persuasiveness of evidence are:
• Sufficiency. The sufficiency of evidence is affected primarily by the quantity of evidence obtained.
• Appropriateness. Evidence must be considered believable and have high quality. The appropriateness
of evidence is influenced by six factors: relevance, the auditor's direct knowledge, independence of the
provider, effectiveness of the client's internal control, the qualifications of individuals providing the
information, the degree of the evidence's objectivity, and by having consistent or multiple sources
• Timeliness. The timing of the evidence in relation to the period covered by the audit.
Diff: 3 Type: ES Page Ref: 128
evidence
23) There are six factors that affect the reliability of audit evidence. One factor is the independence of the
provider (i.e., evidence obtained from a source outside the client company is more reliable than that
obtained within). Identify and discuss the remaining five factors that affect the reliability of evidence.
Answer: The remaining five factors that affect the reliability of evidence are:
• Evidence Obtained Directly by Auditor - through observation, reperformance, and inspection is more
appropriate than information obtained indirectly or by inference.
• Independence of Source - evidence obtained from a source outside the entity is more reliable than that
obtained from within, assuming that the external party is at arm's length from the organization.
• Qualifications of Source - although the source of information is independent, the evidence will not be
reliable unless the individual providing it is qualified to do so. Also, evidence obtained directly by the
auditor may not be reliable if he or she lacks the qualifications to evaluate the evidence.
• Consistency from Multiple Sources - with respect to a particular assertion, the auditor could use
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multiple sources of evidence. Evidence consistent with all sources is more reliable than inconsistent
evidence.
• Effectiveness of Client's Internal Controls - when a client's internal controls are effective, evidence
generated by the client is more reliable than when controls are weak. When considering internal controls,
the auditor also considers the likelihood of management override and the pervasive impact of
management integrity.
(6) Degree of Objectivity - objective evidence is more reliable than evidence that
requires considerable judgment to determine whether it is correct. In evaluating the reliability of
subjective evidence, the qualifications of the person providing the evidence are important.
evidence
5.4 Describe the types of audit procedures for gathering audit evidence
1) Evidence can be obtained from others or provided by the auditor who has good knowledge of each
industry but is not an expert. Which of the following types of evidence is considered to be most reliable?
A) examination of diamond inventory by the auditor
B) external confirmations from individual owners of condominium units
C) examination of oil and gas reserves by the auditor
D) external confirmations from financial institutions
Answer: D
2) Inspection of assets is not a sufficient form of evidence when the auditor wants to determine the
A) existence of the asset.
B) quantity and description of the asset.
C) condition or quality of the asset.
D) ownership of the asset.
Answer: D
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3) Observation is an important audit technique where the auditor can use sight, hearing, touch, and smell.
Observation needs to be used together with other audit techniques because
A) employees will often perform their procedures consistently over time.
B) it is a high-cost technique that is rarely used by auditors.
C) it is a point-in-time technique limited to the time of the observation.
D) auditors may not accurately observe and interpret what is happening.
Answer: C
4) Confirmations from outside organizations such as banks and law firms are
A) a highly regarded and often-used type of evidence.
B) expensive and rarely used during the audit.
C) difficult to obtain and infrequently required.
D) internal documents that provide low-quality evidence.
Answer: A
5) Mary is entering a fictitious transaction in the sales data entry system to see if the system will reject the
order for a client that is already exceeding its credit limit. Mary is using
A) observation.
B) analytical procedures.
C) test data.
D) generalized audit software.
Answer: C
6) Reperformance is often conducted using computer-assisted audit techniques. The most effective use of
generalized audit software for reperformance would be to
A) recalculate a whole class of transactions, helping to quantify dollar errors.
B) determine on a test basis whether posting and summarization is performed accurately.
C) confirm whether evidence has been recorded for the entire period under audit.
D) select a sample of transactions for recalculation.
Answer: A
7) Although considerable evidence is obtained from the client through inquiry, it usually cannot be
regarded as conclusive because
A) the client may not have sufficient knowledge to answer the question.
B) it is not from an independent source and may be biased.
C) there is a risk that the auditor will misinterpret what the client said.
D) the client cannot be trusted to provide persuasive information.
Answer: B
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8) Inquiry is a valuable technique during the planning phase of the audit because it
A) involves the rechecking of controls to ensure that they are conducted accurately.
B) is a type of audit evidence that provides a very high level of assurance.
C) is conclusive evidence from an independent source.
D) helps obtain information about how procedures and internal controls operate.
Answer: D
9) An example of an internal document is

A) a cancelled cheque.
B) a bank statement.
C) a bill of lading for purchases.
D) employees' time reports.
Answer: D
10) An example of an external document is

A) a cancelled cheque.
B) employees' time reports.
C) inventory receiving reports.
D) the minutes of the board of directors' meetings.
Answer: A
11) An example of a document that the auditor receives from the client, but which was prepared by
someone outside the client's organization, is a(n)
A) external confirmation.
B) copy of sales invoice.
C) copy of a bank note payable.
D) inventory receiving report.
Answer: C
12) When comparing the reliability of external versus internal documents, the external documents are
generally considered
A) more reliable.
B) less reliable.
C) equally reliable.
D) unreliable.
Answer: A
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13) When the auditor examines the client's documents and records to support recorded transactions or
amounts, it is commonly referred to as
A) inquiry.
B) confirmation.
C) vouching.
D) physical examination.
Answer: C
14) An example of vouching would be to trace from

A) receiving reports to the acquisitions journal.
B) the acquisitions journal to supporting vendor invoices.
C) duplicate bank deposit slips to the cash receipts journal.
D) cancelled cheques to the cash disbursement journal.
Answer: B
15) Which of the following forms of evidence would be least persuasive in forming the auditor's opinion?
A) the auditor's count of marketable securities
B) correspondence with a stockbroker regarding the quantity of the client's investments held in street
name by the broker
C) minutes of the board of directors meeting authorizing the purchase of stock as an investment
D) responses to auditor's questions by the president and controller regarding the investments account
Answer: D
16) Most auditors prefer to replace external confirmation with analytical procedures whenever possible
because the
A) analytical procedures are more reliable.
B) external confirmations are more expensive.
C) analytical procedures are more persuasive.
D) tests of details are more difficult to interpret.
Answer: B
17) "Use of comparisons and relationships to determine whether account balances or other data appear
reasonable" is a definition of
A) auditing.
B) tests of balances.
C) tests of controls.
D) analytical procedures.
Answer: D
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18) An aspect of analytical procedures is referred to as "attention-directing" when it highlights
A) errors.
B) irregularities.
C) areas of improvement.
D) areas that need more detailed procedures.
Answer: D
19) The audit evidence gathering technique of recalculation refers to

A) sending bank confirmation to validate bank balances.
B) rechecking prices as per price list.
C) counting inventory.
D) checking the calculation of amortization expense.
Answer: D
20) To provide reliable evidence, confirmations should be

A) created and sent to the third parties by the client to be returned to the client.
B) created and sent to the third parties by the auditors to be returned to the client.
C) created and sent to the third parties by the client to be returned to the auditor.
D) created and sent to the third parties by the auditors to be returned to the auditor.
Answer: D
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21) Identify and define the seven methods of audit evidence collection. Which two types of evidence are
the most expensive? Which three types of evidence are the least expensive? Which type of evidence
would be most persuasive when testing the existence objective for long-term assets?
Answer: The seven categories of audit evidence are:
• Inspection - Inspection is the inspection or count by the auditor of a tangible asset or inspection of
documents.
• External confirmation - External confirmation involves the receipt of a written or oral response from an
independent third party verifying the accuracy of information that was requested by the auditor.
• Recalculation - Recalculation involves rechecking the computations and mathematical work completed
by the client.
• Observation - Observation involves the use of the senses to assess certain activities and events.
• Reperformance - Reperformance is the auditor's verification, or rechecking, of the transfers of
information made by the client or work completed by the client during the period under audit.
• Inquiry - Inquiry involves written or oral information from the client in response to questions from the
auditor.
• Analytical procedures - Analytical procedures involve the use of comparisons and relationships to
determine whether account balances or other data appear reasonable.
The two most expensive types of evidence are physical inspection and external confirmation.
The three least expensive types of evidence are observation, inquiries, and reperformance.
Physical inspection would be most persuasive when testing the existence of long-term assets.
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22) Below are 12 audit procedures. Classify each procedure according to the following types of audit
evidence: 1) inspection, 2) external confirmation, 3) recalculation, 4) observation, 5) inquiry of the client,
6) reperformance, and 7) analytical procedure.
Type of
Evidence Audit Procedures
1. Watch client employees count inventory to determine whether
company procedures are being followed.
2. Count inventory items and record the amount in the audit working
papers.
3. Stand by the payroll time clock to determine whether any employee
"punches in" more than one time.
4. Calculate the ratio of cost of goods sold to sales as a test of overall
reasonableness of gross margin relative to the preceding year.
5. Obtain information about the client's internal controls by asking
questions of client personnel.
6. Trace totals from the cash disbursements journal to the general ledger.
7. Examine a piece of equipment to make sure a recent purchase of
equipment was actually received and is in operation.
8. Review the total of repairs and maintenance for each month to
determine whether any month's total was unusually large.
9. The auditor computes the debt covenant based on the financial
information to ensure that the client's calculation was performed
correctly.
10. Re-foot entries in the sales journal to determine whether they were
correctly totalled by the client.
11. Make a surprise count of petty cash to verify that the amount of the
petty cash fund is intact.
12. Obtain a written statement from the client's bank stating the client's
year-end balance on deposit.
Answer:
1. Observation 7. Inspection
2. Inspection 8. Analytical procedure
3. Observation 9. Recalculation
4. Analytical procedure 10. Recalculation
5. Inquiry of the client 11. Inspection
6. Reperformance 12. External Confirmation
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23) Following are examples of evidence that could be collected during an audit of financial statements.
1. Duplicate copies of sales invoices
2. Inspection of new $100 000 cutting machine
3. Bank confirmation
4. Remittance advices
5. Vendors' invoices
6. Standard letter from lawyer to auditor
7. Auditor inventory count sheets
8. Shipping documents
9. Payroll cheques
10. Long-term debt agreements review notes
11. Auditor interest expense calculation worksheet
12. Observation by auditor of computer error message (invalid supplier number)
13. Gross margin calculation
14. Interview notes from interview with credit manager
Required:
Classify each type of evidence as to its reliability (1 - high, 2 - moderate, 3 - low). Justify your
classification.
Answer:
1. Moderate - internal documentation if internal control (I/C) is good; otherwise, low if I/C is poor.
2. High - physical inspection - auditor's direct knowledge.
3. High - external confirmation - independence of provider.
4. High - external documentation - document has been circulated to a party outside the entity.
5. High - external documentation - evidence comes from an external party.
6. High - external confirmation - independence of provider.
7. High - physical inspection - auditor's direct knowledge.
8. Moderate - internal documentation if internal control is good; otherwise, low if I/C is poor.
9. High - external documentation - evidence comes from an external party.
10. High - external documentation - evidence comes from an external party
11. Moderate - analytical review - reasonableness test (also valid: High - reperformance)
12. Moderate - observation - client is aware that the auditor will be observing (depends on quality of
internal controls)
13. Moderate - analytical review - reasonableness test (also valid: High - reperformance)
14. Low - enquiry of client - evidence is not from an independent source
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24) An auditor is conducting the audit of the financial statements of a retail department store. The auditor
is aware that he must obtain sufficient appropriate evidence with respect to various audit assertions
associated with management assertions and thus with material financial statement amounts.
The following is a list of specific audit procedures the auditor plans to perform:
1. Send negative external confirmation requests to a large sample of the store's customers who have
balances due on account at year end.
2. Perform test counts of goods on hand during the company's normal physical inventory taking, one
month prior to the year end.
3. Examine receiving reports dated prior to the year end that have not been matched to vendor invoices.
4. Review paid invoices and supporting documents for amounts classified as repair and maintenance
expense for large or unusual items.
5. Examine audited financial statements of several foreign companies in which the client owns shares,
and which are being held as temporary investments.
Required:
For each of the five audit procedures listed, describe only the PRIMARY management assertion being
tested, the PRIMARY audit assertion being tested, and the quality of evidence (high, medium, low)
obtained, explaining WHY the evidence is the quality level you specify.
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Answer:
Management Audit Quality of
Assertion Assertion Evidence Evidence Explanation
- negative confirmations involve third parties
- but treat non-responses as agreement with the
recorded balance.
1. existence, or existence or - negative confirmations provide the best form
occurrence, or accuracy or of evidence when internal controls are
accuracy or cutoff cutoff low considered good.
- personal observation by auditor.
- but it occurs a month prior to the balance sheet
date.
2. existence or medium or - [difference between medium or high] depends
occurrence existence high upon the quality of the internal controls.
- formal client document.
- quality depends on strength of internal
controls surrounding preparation of receiving
3. completeness completeness medium reports.
- third party document (invoice) and
- client documents (receiving report and
purchase order).
- quality depends on strength of internal
controls surrounding preparation of internal
4. classification classification high documents.
valuation (or
realizable - third party document held by client increases
5. valuation value) medium quality.

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25) The following are audit procedures in the sales and collection cycle.
1. Inspect a sample of shipping documents to determine if each has a sales invoice number included on it.
2. Discuss with the sales manager whether any sales allowances have been granted after the balance sheet
date that may apply to the current period.
3. Add the columns on the aged trial balance and compare the total with the general ledger.
4. Observe whether the controller makes an independent comparison of the total in the general ledger
with the trial balance of accounts receivable.
5. For the month of May, count the approximate number of shipping documents filed in the shipping
department and compare the total with the number of sales invoices in the sales journal.
6. Compare the date on a sample of shipping documents throughout the year with related duplicate sales
invoices and the accounts receivable master file.
7. Examine a sample of customer orders and see if each has a credit authorization.
8. Send letters directly to former customers whose accounts have been written off as uncollectible to
determine if any have actually been paid.
9. Examine the master file of accounts receivable to see if each has an indication of "C" for a regular
customer, "N" for interest-bearing receivables, and "R" for related parties.
10. Compare the date on a sample of shipping documents a few days before and after the balance sheet
date with related sales journal transactions.
Required:
For each procedure, identify the type of evidence being used. For each procedure, identify either the
transaction-related audit objective(s) being met or the balance-related audit objective(s) being met.
Answer:
Type of evidence Audit objective(s)
1. reperformance completeness
2. inquiry cutoff
3. recalculation allocation
detail tie in/posting and summarization,
4. observation allocation
5. analytical review
procedures n/a
6. reperformance timing
7. reperformance occurrence
8. external
confirmation existence, accuracy, valuation
9. reperformance classification
10. reperformance cutoff

20
26) A) Distinguish between internal documentation and external documentation as types of audit
evidence. Give two examples of each. Which type is considered more reliable?
B) Below are 10 documents typically examined by auditors. Classify each document as either internal or
external.
Type of
Document Documents
1. Cancelled cheques for payments of accounts payable.
2. Payroll time cards.
3. Duplicate sales invoices.
4. Vendor's invoices.
5. Bank statements.
6. Minutes of the board of directors' meetings.
7. Signed lease agreements.
8. Notes receivable.
9. Subsidiary accounts receivable records.
10. Customer payment remittance advices.
Answer: A) Internal documentation involves the auditor's examination of documents that have been
prepared and used within the client's organization and are retained without ever going to an outside
party. Examples would include duplicate sales invoices, employees' time reports, and inventory receiving
reports.
External documentation involves the auditor's examination of documents that have been in the hands
of someone outside the client's organization. Examples include vendors' invoices, cancelled cheques,
cancelled notes payable, and insurance policies. External documents are regarded as more reliable
evidence than internal documents.
B)
1. External 6. Internal
2. Internal 7. External
3. Internal 8. External
4. External 9. Internal
5. External 10. External
21
5.5 Design analytical procedures for the various phases of the audit process
1) An abnormal fluctuation in gross profit that might suggest the need for extended audit procedures for
sales and inventories would most likely be identified in the planning phase of the audit by the use of
A) tests of details of balances.
B) procedures to obtain an understanding of internal controls.
C) specialized audit programs.
D) analytical procedures.
Answer: D
Learning Obj.: 5-5 Design analytical procedures for the various phases of the audit process
2) When an auditor calculates the gross margin as a percent of sales and compares it with previous
periods, this type of evidence is called
A) physical examination.
B) analytical procedures.
C) observation.
D) enquiries of client.
Answer: B
3) When a higher than normal ratio of long-term debt to net worth is coupled with a lower than average
ratio of profits to total assets, the company
A) is highly successful.
B) is comparable with industry standards.
C) has a high risk of financial failure.
D) has a liquidity problem.
Answer: C
4) An important benefit of industry comparisons is as

A) an aid to understanding the client's performance.
B) an indicator of errors.
C) an indicator of irregularities.
D) a least-cost indicator for audit procedures.
Answer: A
22
5) If most companies in the industry use FIFO inventory valuation and straight-line depreciation, and the
audit client uses weighted-average cost inventory valuation and double-declining balance, comparisons
of client and industry data
A) will be a meaningful highlight of the result of these differences in accounting methods.
B) will enable the auditor to spot errors but not irregularities.
C) will enable the auditor to spot irregularities but not errors.
D) may not be meaningful, affecting the comparability of data.
Answer: D
6) When the current year's unaudited trial balance amounts are compared to the prior year's audited trial
balance amounts,
A) errors are identified.
B) discrepancies are discovered.
C) irregularities become apparent.
D) significant changes in balances are highlighted.
Answer: D
7) For some audit objectives and in some circumstances, analytical procedures may be the most effective
procedure to apply. The objectives that most likely would benefit from the use of analytical review with
respect to the allowance for uncollectible accounts would be
A) validity of sales transactions recorded for individual customer accounts.
B) classification and completeness of transactions, accuracy of judgments and estimates.
C) collectability of individual customer account balances.
D) allocation of transactions to the proper accounting period.
Answer: C
8) A common comparison occurs when the auditor calculates the expected balance and compares it with
the actual balance. The auditor's expected account balance may be determined by
A) using industry standards.
B) using credit bureau reports.
C) relating it to some other balance sheet or income statement account or accounts.
D) inquiring with the client.
Answer: C
23
9) During final review of working papers and financial statements, possible oversights in the audit can be
identified by
A) the partner's knowledge of the client's business combined with effective analytical procedures.
B) conducting a closing interview with management of the client.
C) conducting a meeting with the audit team.
D) reviewing the minutes from the board meetings.
Answer: A
Learning Obj.: 5-9 Understand and apply professional skepticism to evidence and documentation
decisions
10) List and explain the three times during an audit engagement the auditor performs analytical
procedures.
Answer: The three times during an audit engagement the auditor performs analytical procedures are:
• During audit planning phase - preliminary analytical review is required to assist in determining the
nature, extent, and timing of audit procedures. This helps the auditor identify significant matters
requiring special consideration later in the engagement.
• During risk response phase - analytical procedures are often done as a substantive test in support of
account balances. These tests are frequently done in conjunction with other audit procedures.
• During the completion of the audit phase - Such tests serve as a final analytical review for material
misstatements or financial problems and help the auditor take a final "objective look" at the audited
financial statements. Typically, a senior partner with extensive knowledge of the client's business
conducts the analytical procedures during the final review of the audit files and financial statements to
identify possible oversights in an audit.
Diff: 2 Type: SA Page Ref: 140-141
11) List and describe the process of developing substantive analytical procedures as per CAS 520.
Answer: The process of developing substantive analytical procedures are:
• Develop an independent expectation. The auditor develops independent expectations by identifying
plausible relationships based upon his or her own knowledge of the business, industry trends, or other
accounts. It can be based upon either financial or nonfinancial data.
• Define a significant difference. When designing substantive analytical procedures, the auditor must decide
on the amount of difference from the expectation that can be expected without further investigation.
• Compute the difference. In this step, the auditor compares the expected amount to the recorded amount.
• Investigate significant differences. Inquiry does not constitute adequate evidence when investigating
differences that exist. The auditor will need to consider what evidence and further audit procedures are
needed to corroborate management's explanations.
24
12) A) There are four important purposes of analytical procedures. Identify each of these four purposes
and for each purpose give a specific example of an analytical procedure that an auditor might perform.
B) Identify each of the five major types of analytical procedures and give an example of each.
C) One purpose of performing analytical procedures in the planning phase of an audit is to assess the
client's financial condition. Explain how the assessment of a client's financial condition can affect the
auditor's decisions concerning evidence accumulation in later phases of the audit.
Answer:
A) Four important purposes of analytical procedures are:
• to help the auditor understand the client's industry and business—the auditor might analyze recent
trends in the client's gross margin percentages to assess the effects of competition in the industry.
• to aid in the assessment of the client's ability to continue as a going concern—the auditor might analyze
several of the client's key ratios including the ratio of long-term debt to net worth, the ratio of profits to
total assets, and the current ratio.
• to indicate the presence of possible misstatements in the financial statements—the auditor might
compare the current year's unaudited account balances with the previous year's audited balances.
• to reduce the extent of detailed tests—the auditor might perform a simple analytical procedure such as
multiplying the client's monthly rent times 12 as a test of the client's rent expense account; if the product
agrees with the balance in rent expense, no additional testing of the account may be necessary.
B) The five major types of analytical procedures are:

• Compare client and industry data. Compare the client's gross margin percentage with the industry's
average gross margin percentage to compare the client's performance with that of the average company
in the industry.
• Compare client data with similar prior-period data. Compare the client's gross margin percentage for
the current year with that of the previous two years to compare the client's performance in the current
year with that of previous years.
• Compare client data with client-determined expected results. Compare client's current-year raw
material expense with budgeted expense.
• Compare client data with auditor-determined expected results. Calculate an expected value for the
allowance for bad debts account by multiplying the three-year moving average of the client's allowance
as a percentage of gross accounts receivable by the current year's ending balance in gross accounts
receivable, then compare this expected value with the client's actual value.
• Compare client data with expected results using nonfinancial data. Calculate an expected value for the
client's payroll by multiplying total hours worked by the wage rate, then compare the resulting product
with the client's recorded payroll expense.
C) The weaker the client's financial condition, the more assurance the auditor will require that the
financial statements are free of material misstatements. As the auditor requires greater assurance, he or
she can 1) perform detailed testing closer to the balance sheet date, 2) increase the extent of detailed
testing, or 3) perform more reliable procedures. If the auditor believes the entity is not a going concern, he
or she will require proper financial statement disclosure and presentation in order to issue an unmodified
audit opinion.
Diff: 2 Type: ES Page Ref: 135-136 & 141-14
25
5.6 Understand the purposes of audit documentation
1) The new Canadian Auditing Standards require the auditor to complete the audit working papers
within how many days of the audit report date?
A) 45
B) 60
C) 90
D) 183
Answer: B
Learning Obj.: 5-6 Understand the purposes of audit documentation
2) The working papers contain data useful for evaluating the adequacy of the audit scope and the fairness
of the financial statements. These data help the auditor to conclude whether
A) control risks were accurately identified and tested.
B) inherent risks were set as low as possible.
C) an unmodified audit report can be issued.
D) the current files properly contain copies of client contracts and agreements.
Answer: C
3) The audit working papers serve as a record of the evidence accumulated and the results of the audit
tests. This helps to demonstrate that the audit was
A) kept properly confidential; information was held secure.
B) completed using Canadian generally accepted accounting principles.
C) organized effectively with no mistakes in calculations.
D) conducted in accordance with Canadian generally accepted auditing standards.
Answer: D
4) The auditor will obtain a copy of the client's articles of incorporation (if applicable) and retain a copy in
the permanent file. Important information in the articles of incorporation includes
A) the interest rates currently being paid for bonds that have been issued.
B) voting rights of each class of shares issued by the company.
C) which shares have been redeemed by the company in the current year.
D) the interest rates that are being received on long-term notes invested.
Answer: B
26
5) Which of the following would you expect to find in a corporation's bylaws?
A) The kinds and amounts of capital stock authorized.
B) The date of incorporation.
C) The rules and procedures adopted by the shareholders of the corporation.
D) The types of business activities that the corporation is authorized to conduct.
Answer: C
6) The working papers are

A) the property of the client.
B) prepared by the client's internal auditors.
C) the primary means of documenting that an adequate audit was conducted in accordance with GAAS.
D) used primarily as a basis for the partners to review and reward the work of the managers, seniors, and
staff.
Answer: C
7) At the first day of work at a PA firm, staff are given their own laptop computer for use in working with
clients and other data.
Required:
A) What is the typical structure of client working paper files?
B) How is client data protected from unauthorized change?
Answer:
A) Client files are organized into folders, with each folder containing relevant files. Folders are
grouped for the following purposes:
- knowledge of business.
- audit planning.
- supporting schedules by section, separated into current year and multi-year.
B) Data is password-protected so only team members can access the file. Once a document is
marked as "complete," it is locked so no further changes can be made. Documents are archived and access
is logged to track which changes were made by staff, supervisors, managers, or partners.
27
5.7 Prepare organized audit documentation
1) Renaldo compared shipping reports to sales documents, checking to see that the sales invoice dates
matched the shipping dates, and that quantities invoiced matched quantities shipped. On his working
paper, he said that he vouched invoices. What else should his working paper include with respect to the
audit procedure conducted?
A) details of tests conducted, with results
B) results of analytical review procedures on the aging of accounts receivable
C) employee numbers and wage rates of the employees he spoke to
D) a statement that the information will be held confidential
Answer: A
Learning Obj.: 5-7 Prepare organized audit documentation
2) Each working paper should include enough information to fulfill the objectives for which it was
designed. For example, if a working paper is designed to list the detail and show the verification of
support of a balance sheet account such as prepaid insurance, it is essential that the detail on the working
paper
A) reconcile the change in costs from last year to this year.
B) use analytical review to consider the reasonableness of the account.
C) reconcile with the associated general ledger account.
D) use observation to identify controls in place over the transactions.
Answer: C
3) The audit of Simcoe Transports Inc. was completed three months ago, so the PA firm proceeded to the
file archive stage in accordance with Canadian Audit Standards. If the audit firm receives additional
information related to the audit but the information does not affect the audit conclusions, the information
should be
A) disregarded, as the file archive was already done.
B) added to the audit file in the section to which it pertains.
C) separately identified and added at the front of the audit file.
D) added to the audit file with a request that the reviewing partner review the new information.
Answer: C
4) In addition to including on each working paper the name of the client, the period covered, the date of
preparation, and an index code, each working paper should clearly include
A) the name of the preparer and a description of the contents.
B) symbols used and a reconciliation to the general ledger balance.
C) audit working paper steps that were completed.
D) the nature of the transaction-based risk that is being audited.
Answer: A
5) The PA is having a discussion with his client about the outcome of several lawsuits that are presently
28
in progress. The client has requested that the comments during the discussion be removed from the audit
file. The client would like the only documentation in the audit file to be the legal letter from the client and
brief comments regarding the auditor's judgments with respect to the quality of disclosure in the financial
statements. The client is concerned that
A) only high-quality audit working papers be included in the working paper files.
B) auditors may breach confidentiality and disclose information about the client.
C) the auditor's working paper files may be subpoenaed by the courts.
D) the audit firm does not have adequate quality control procedures.
Answer: C
6) With the use of electronic working papers, each team member should have a unique access
identification code and a password to access the working papers. Once a working paper is completed,
what type of access should the staff auditor who prepared the working paper file have?
A) edit capability
B) update for current information
C) read only
D) change based upon review
Answer: C
7) The working papers prepared during the engagement are the property of the
A) auditor, but do not include the working papers prepared by the client for the auditor.
B) auditor, even including working papers prepared by the client for the auditor.
C) client, who will provide copies to the auditor.
D) auditor and client jointly.
Answer: B
8) Ordinarily, the working papers can be provided to someone else only with the express permission of
the client. This is the case even if the papers are
A) subpoenaed by a court.
B) used as a part of a provincial institute practice inspection.
C) requested as evidence in a provincial institute disciplinary hearing.
D) transferred as a result of a public accountant selling his/her practice to another public accounting firm.
Answer: D
29
9) To facilitate the working paper preparation process, defaults can be established to automatically insert
client name, period covered, and preparer. This can best be done using
A) the junior staff assigned to the engagement.
B) an old-fashioned rubber stamp on each printed page.
C) cut and paste tools in word processing or spreadsheet software.
D) automated working paper software.
Answer: D
10) Identify the characteristics that working papers should have. For each characteristic, briefly explain
why it is important.
Answer: - properly identified: to clearly reference what the audit paper pertains to, who it was prepared
by, and date completed (helpful in the process of file review).
- indexed and cross-referenced: helps in organizing and filing, and also indicates where the source or
support for a given item is.
- indicate the audit work performed: serves as evidence and support that work was performed by the
auditor.
- include sufficient information: serves as evidence and support that work was performed by the auditor
and could also be helpful if the procedure had to be re-done as part of a file review.
-conclusions should be plainly stated: states the auditor's conclusion for the given procedure or segment
and serves as support and evidence.
5.8 Explain how technology affects audit evidence and audit documentation
1) A major benefit of computerized analytical procedures is the

A) ease of doing the calculations.
B) ease of updating the calculations.
C) ease of correcting math calculations.
D) ability to push the work down to lower levels of the audit staff to do the analysis.
Answer: B
Learning Obj.: 5-8 Explain how technology affects audit evidence and audit documentation
30
5.9 Understand and apply professional skepticism to evidence and documentation decisions
1) Identify the factors that would potentially lead the auditors to obtain more audit evidence after the
initial appropriate risk assessment procedures?
Answer: The factors that would lead the auditors to obtain more audit evidence are:
• Higher risk and susceptibility of material misstatement.
• Fraud indicators being present.
• Errors have been detected.
• Complex judgment required.
• Audit evidence collected is inconsistent or contrary to the initial risk assessment.
decisions
2) Identify the factors that would potentially lead the auditors to obtain less audit evidence after the
initial appropriate risk assessment procedures?
Answer: The factors that would lead the auditors to obtain less audit evidence are:
• Lower risk and susceptibility of material misstatement.
• No fraud indicators being present.
• No errors have been detected.
• Routine or little judgment required.
• Audit evidence collected is consistent with the initial risk assessment.
decisions
31

Chapter 5 Audit Evidence: Auditing, 14e (Arens)

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Chapter 5 Audit Evidence: Auditing, 14e (Arens)

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Auditing, 14e (Arens)

Chapter 5 Audit Evidence

1) Which is the essence of professional skepticism?

3) Those procedures specifically outlined in an audit program are primarily designed to

3) To improve the appropriateness of audit evidence, the auditor should

6) Evidence is generally considered appropriate when

12) Audit evidence is generally considered sufficient when

A) Watch staff scan products and enter cash received.

Type of audit evidence (with Applicable audit Reliability of evidence (high,

Type of audit evidence (with Applicable audit Reliability of evidence (high,

C) Calculate daily gross profit and gross profit by product line.

D) Account for a sequence of sales documents.

Type of audit evidence Reliability of evidence (high,

Diff: 3 Type: ES Page Ref: 128-129

9) An example of an internal document is

10) An example of an external document is

14) An example of vouching would be to trace from

19) The audit evidence gathering technique of recalculation refers to

20) To provide reliable evidence, confirmations should be

Diff: 3 Type: ES Page Ref: 131-137

Diff: 3 Type: ES Page Ref: 131-137

4) An important benefit of industry comparisons is as

B) The five major types of analytical procedures are:

6) The working papers are

1) A major benefit of computerized analytical procedures is the

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