5" FloorCMFFIBuilding 1813 Cor. R. Papa and S. Loyola Sis ‘Sampaloc, Manila 735.9807 / 734-3989 / (0810) 439-1320 I resareview@hotmail com AUDITING THEORY ‘JMI-FDY + MBN > FCT AT-13: FRAUD, ERROR AND NON-COMPLIANCE REQUIRED READINGS + _ PSA .240 (Redrafted): The Auditor's ResponsiiltiesRelating to Fraucin an Aut of Financial Statements 1. Which of the following statements is true? 1 The distinguishing factor between fraud and error is whether the underlying action that results in the misstatement of the financial statements is intentional or unintentional. ii, The primary responsibility for the prevention and detection of fraud rests withboth those charged with governance of the entity and management. A. Lonly C. Both Land It B. Ilonly D. Neither I nor II 2. Which of the following would be classified as an error? A. Misappropriation of assets for the benefit of management. 8. Misinterpretation by management of facts that existed when the financial statements were prepared. C. Preparation of records by employees to cover a fraudulent scheme. D. Intentional omission of the recording of a transaction to benefit a third party. 3. Which of the following statements is incorrect? A. Although fraud is a broad legal concept, the auditor is concerned with fraudulent acts that cause an material misstatement in the financial statements. 8. Misstatement may not be the objective of some frauds. C. Auditors do not make legal clete:minations of whether fraud has actually occurred. D. There are two types of intentional misstatements classified as management fraud which are relevant to the auditor's considerations: misstatements resulting from fraudulent financial reporting and misstatements from misappropriation of assets. 4, Which of the following statements best describes the auditor's responsibility regarding the detection of material errors and irregularities? ‘A... The auditor is responsible for the failure to detect material errors and irregularities only when such failure results from the non-application of Philippine Financial Reporting Standards. B. Extended auditing procedures are required to detect material errors and irregularities if the auditor’s examination indicates that they may exist. C. The auditor is responsible for the failure to detect material errors and irregularities only when the auditor fails to confirm receivables or observe inventories. D. Extended auditor procedures are required to detect unrecorded transactions even if there is no evidence that material errors and irregularities may exist. 5. Which of the following statements describes why a properly designed and executed audit may not detect a material fraud? "A. Audit procedures that are effective for detecting an unintentional misstatement may be ineffective for an intentional misstatement that Is concealed through collusion. 8. An audit is designed to provide reasonable assurance of detecting material errors, but there is no similar responsibility coricerning material fraud. C. The factors considered in assessing control risk indicated an increased risk of intentional misstatements, but only 2 low risk of unintentional errors in the financial statements. D. The auditor did not consider factors influencing audit risk for account balances that, have pervasive effects on the financial statements taken as a whole. 6. Professional skepticism is necessary for the auditor to identify and properly evaluate: A Bo ¢ + Matters that increase the risk of a material misstatement in the financial statements resulting from fraud or error. Yes Yes Yes Yes * Circumstances that make the auditor suspect that the financial ‘statements are materially misstated. Yes Yes No No + Evidence obtained that brings into question the reliability of ‘management representations. No Yes No Yes 7. According to PSA 240, in planning the audit, the auditor should discuss with other members of the audit team the susceptibility of the entity to material misstatements in the financial Statements resulting from fraud or error. Planning discussions would involve considering the following, except ReSA ~ The Review School of Accountancy Page 1 of 3asks The Revi Sl of crane 1. Reh The Rete Se ows AT-13 A. Where errors may be more likely to occur B. How fraud might be perpetrated. CC. Decisions made on which members of the tea procedures. D. Client acceptance and continuance procedures. the auditor should make inquires of management in o' im will conduct certain inquiries or audit 8, When planning the audit, der to (choose the exception): t. Obtain an understanding of management's assessment of the risk that the financial statements may be materially misstated as 2 result of fraud. B. Obtain an understanding of the accounting and internal control systems management has put in place to address fraud risks and to prevent and detect error. C. Determine whether employees are aware of any known fraud that has affected the entity or suspected fraud that the entity is investigating. D. Determine whether management has discovered any material errors. ©. The following statements were lifted from PSA 240 and pertain to fraud risk factors. Which of these statements is incorrect? ‘A. Fraud risk factors confirm the presence of fraud, and they often have been press circumstances where frauds have occurred B. Fraud risk factors cannot easily be ranked in order of imp effective predictive models. C. The auditor exercises professional judgment when cor individually or in combination and whether there are speci risk. D. The size, complexity and ownership charactenstics of the entity have 2 si influence on the consideration of relevant fraud risk factors 10. Which of the following should the auditor likely to do when the application of planned audit procedures indicates the possible existence of fraud or error? ‘A. The auditor should resign in order to avoid legal responsibility. B. He should discuss the matter with the person whom he believes is involved with the irregularities. C. He should consider the potential effect on the financial statements. D. He should refer the suspected fraud or error to the internal auditor. 11.When an identified misstatement may be indicative of fraud, the auditor considers the implications of the misstatement in relation to other aspects of the audit, particularly: ‘A. The reliability of management representations. B, The amount of audit fees documented in the engagement letter. CC. The opinion presented in the financial statements D. The adequacy of financial statement disclosures. ent in jortance or combined into nsidering fraud risk factors ific controls that mitigate the ignificant 12. The auditor should document: 1. Fraud risk factors identified as being present during the auditor’s assessment process. II, The auditor's response to any such factors identified Ill. Fraud risk factors identified during the performance cf the audit that cause the auditor to believe that additional audit procedures are necessary, and the auditor's response to them. A. Land Il. B. and II. ©. Lane ii. D. 1, Hand Il. 13. An auditor has suspicion of occurrence of fraud’ Accordingly the auditor should (select the exception): ‘A. The auditor should consider the implications of fraud in relation to other aspects of the audit, particularly the reliability of management's representations. B. The auditor should communicate to management only those actual findings about fraud that brings material potential effect on financia! statements. C. Unless circumstances clearly indicate that fraud is an isolated occurrence, the auditor o. adjusts the nature, timing and exter:t of substantive procedure. If the auditor believes the indicated fraud could nave a material effect on the financial statements, he should perform appropriate modified procedures 14. Communication of a misstatement resulting rom fraud or a suspected fraud or error to the appropriate level of management on a timciy basis 15 important because ‘A. It isa value-added service which auditors traditionally provide to management. B. It allows the auditor to justify an increase in the audit fee €. It enables management to take action as necessary. D. It gives management an incentive to strengthen internal controls in the future. ReSAM 735-9807 / 734-3989 / (0910) 439-1320 Page 2 of 3ReSA: The Review Schoo! of Accountancy hurting Theory: Fraud, Error and Non-compliance AT-13 15. The auditor may encounter exceptional circurnstances that bring into question the auditor's ability to continue performing the audit. Examples include circumstances where: A B ® The entity does not take the remedial action regarding fraud that the auditor considers necessary in the circumstances, Yes Yes Yes Yes ‘The auditor's consideration of the risk of material misstatement resulting from fraud and the results of audit tests indicate significant risk of material and pervasive fraud. Yes Yes No NO The auditor has significant concern about the competence or integrity of management or those charged with governance. No Yes No Yes 16. The following are the matters to consider when communicating the affairs of a client to 2 proposed successor auditor: (1) whether client’s permission has been obtained (2) relevant professional and legal responsibilities applicable in the Philippines (3) whether the client has already settied its outstanding audit fees with the existing auditor. A. (1) and (2). B. (2) only C. (2) and (3). D. (1) only 17.which of the following is incorrect about. the auditor's responsibility of evaluating noncompliance by the entity to laws and regulations? ‘A. Ar audit cannot be expected to detect noncompliance with all laws and regulations. B. Nowcomplisne refers to acts of omission or commission by the entity being audited which are contrary to prevailing laws or regulations. C. Noncompliance includes personal misconduct of entity management or employers though they are unrelated to the entity's business activities. D. botection of noncompliance, regardless of materiality, requires considerations of the implications for the integrity of management or employee. 18. What is expected of auditor in determining noncompliance by an entity to existing laws and regulations? caer ether an act constitutes noncompliance is a legal determination that is ordinarily within the auditor's professional competence B. The auditor's training, experience and understanding of the entity and its industty cASnot provide 2 basis for recognition that some acts coming to the auditor's attention may constitute noncompliance with laws and regulations. CC. The determination as to whether a particular act constitutes or is likely to constitute soscompliance is generally based on the understanding of the auditor but ultimately Can only be determined by an expert who is qualified to practice law. b. Invorder to plan the audit, the auditor should obtain a general understanding of ‘he lagel and regulatory framework applicable to the entity and the industry and how the ‘entity is complying with the framework. 19.When the auditor becomes aware of information concerning @ possible noncompliance to laws or regulations, the auditor should appropriately: ays tain an understanding of the nature of the act and the circumstances in which it has ‘occurred, and evaluate the possible effect on the financial statements. B. Discuss his suspicion with the management. Baek management to determine whether 2 violation is really committed. SF Cesuit with the entity's legal counsel as to what appropriate action the auditor should do. 20. when the auditor believes there may be noncompliance, the auditor should document the findings and discuss them with the following parties: 1 Client management. II. Client's legal counsel. It. Auditor's own lawyer. A. Land Il. B. Tand III. cc. Land IIL D. 1, Hand 1 D1.1f the auditor suspects that members of senior management, including members of !h¢ Most cf directors, are involved in noncompliance to laws as regulations, and he believes his report may not be acted upon, he would: Do nothing. Issue a disclaimer of opinion. Consider seeking legal advice. Moke special investigation in order to fully determine the extent of client's noncompliance. ooeP send of AT-13 - ReSAR73IS-9807 / 734-3989 / (0910) 439-1320 Page 3 of 3