ADDIS ABABA UNIVERSTY COLLAGE OF BUSINESS AND ECONOMICS

DEPARTMENT OF ACCOUNTING AND FINANCE

Audit principle and practice 2nd test

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Instructor :Abat A Tewodros A

Answer sheet

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2 10
3 11
4 12
5 13
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Instruction 1:MULTIPLE CHOICE

1 As the acceptable level of detection risk decreases, an auditor may

a. Reduce substantive testing by relying on the assessments of inherent risk and control
risk.
b. Postpone the planned timing of substantive tests from interim dates to the year-end.
c. Eliminate the assessed level of inherent risk from consideration as a planning factor.
d. Lower the assessed level of control risk from the maximum level to below the
maximum.
2 The risk that an auditor will conclude, based on substantive tests, that a material
misstatement does not exist in an account balance when, in fact, such misstatement does
exist is referred to as
a. Sampling risk.
b. Detection risk.
c. Nonsampling risk.
d. Inherent risk.
3 As the acceptable level of detection risk decreases, the assurance directly provided from
a. Substantive tests should increase.
b. Substantive tests should decrease.
c. Tests of controls should increase.
d. Tests of controls should decrease.
4 . Inherent risk and control risk differ from detection risk in that they
a. Arise from the misapplication of auditing procedures.
b. May be assessed in either quantitative or no quantitative terms.
c. Exist independently of the financial statement audit.
d. Can be changed at the auditor’s discretion.
5 . On the basis of the audit evidence gathered and evaluated, an auditor decides to increase
the assessed level of control risk from that originally planned. To achieve an overall audit
risk level that is substantially the same as the planned audit risk level, the auditor would
a. Decrease substantive testing.
b. Decrease detection risk.
c. Increase inherent risk.
d. Increase materiality levels.
6 Relationship between control risk and detection risk is ordinarily
a. Parallel.
b. Inverse.
c. Direct.
d. Equal.
7 Which of the following would an auditor most likely use in determining the auditor’s
preliminary judgment about materiality?
a. The anticipated sample size of the planned substantive tests.
b. The entity’s annualized interim financial statements.
c. The results of the internal control questionnaire.
d. The contents of the management representation letter.
8 Which of the following statements is not correct about materiality?
a. The concept of materiality recognizes that some matters are important for fair
presentation of financial statements in conformity with GAAP, while other matters are
not important.
b. An auditor considers materiality for planning purposes in terms of the largest aggregate
level of misstatements that could be material to any one of the financial statements.
c. Materiality judgments are made in light of surrounding circumstances and necessarily
involve both quantitative and qualitative judgments.
d. An auditor’s consideration of materiality is influenced by the auditor’s perception of
the needs of a reasonable person who will rely on the financial statements.
9 Which of the following elements underlies the application of generally accepted auditing
standards, particularly the standards of fieldwork and reporting?
a. Internal control.
b. Corroborating evidence.
c. Quality control.
d. Materiality and relative risk.
10 11. In considering materiality for planning purposes, an auditor believes that
misstatements aggregating $10,000 would have a material effect on an entity’s income
statement, but that misstatements would have to aggregate $20,000 to materially affect
the balance sheet. Ordinarily, it would be appropriate to design auditing procedures that
would be expected to detect misstatements that aggregate
a. $10,000
b. $15,000
c. $20,000
d. $30,000
11 Which of the following would an auditor most likely use in determining the auditor’s
preliminary judgment about materiality?
a. The results of the initial assessment of control risk.
b. The anticipated sample size for planned substantive tests.
c. The entity’s financial statements of the prior year.
d. The assertions that are embodied in the financial statements.
12 Holding other planning considerations equal, a decrease in the amount of misstatement in
a class of transactions that an auditor could tolerate most likely would cause the auditor
to
a. Apply the planned substantive tests prior to the balance sheet date.
b. Perform the planned auditing procedures closer to the balance sheet date.
c. Increase the assessed level of control risk for relevant financial statement assertions.
d. Decrease the extent of auditing procedures to be applied to the class of transactions.
13 When issuing an unqualified opinion, the auditor who evaluates the audit findings should
be satisfied that the
a. Amount of known misstatement is documented in the management representation
letter.
b. Estimate of the total likely misstatement is less than a material amount.
c. Amount of known misstatement is acknowledged and recorded by the client.
d. Estimate of the total likely misstatement includes the adjusting entries already recorded
by the client.
14 Instruction 2: Using the audit risk model, state the effect on control risk, inherent risk,
acceptable audit risk, and planned evidence for each of the following independent events. In
each of the events a to j, circle one letter for each of the three independent variables and
planned evidence: I = Increase, D = decrease, N = no effect, and C = cannot determine from
the information provided.

a. Client management materially increased long-term debt.

Control risk I D N C Acceptable audit risk I D N C

Inherent risk I D N C Planned evidence I D N C

 b. Company changed from privately held to publicly held.

Control risk I D N C Acceptable audit risk I D N C

Inherent risk I D N C Planned evidence I D N C

c. Auditor decided that controls were less effective than planned.

Control risk I D N C Acceptable audit risk I D N C

Inherent risk I D N C Planned evidence I D N C

d. Account balance increased materially from prior year without apparent reason.

Control risk I D N C Acceptable audit risk I D N C

Inherent risk I D N C Planned evidence I D N C

e. Indicators of financial condition improved from the prior year.

Control risk I D N C Acceptable audit risk I D N C

Inherent risk I D N C Planned evidence I D N C

f. There has been a change in several key management personnel. You believe that
management is lacking in integrity compared to previous management.
Control risk I D N C Acceptable audit risk I D N C
Inherent risk I D N C Planned evidence I D N C

g. Client began selling through its Web page. The online sales system is not integrated with the
accounting system.
Control risk I D N C Acceptable audit risk I D N C
Inherent risk I D N C Planned evidence I D N C

h. This is the second year of the audit; there were several errors found in the prior year. The
auditor also decided to increase reliance on internal control due to changes implemented by the
client.
Control risk I D N C Acceptable audit risk I D N C
Inherent risk I D N C Planned evidence I D N C

i. You find that controls over inventory are significantly worsened compared to the prior year.
You observe that due to technological changes, the client's inventory may be somewhat
obsolete.
Control risk I D N C Acceptable audit risk I D N C
Inherent risk I D N C Planned evidence I D N C
 j. Management is planning to sell the business. Several key personnel have quit. Gross margin
has increased significantly compared with the preceding year.
Control risk I D N C Acceptable audit risk I D N C
Inherent risk I D N C Planned evidence I D N C