Financial Accounting 5th Edition Kemp

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 Chapter 6: Overview

The Challenges of Accounting: Standards, Internal Control, Audits,

Fraud, and Ethics

Chapter 6 begins with a discussion of the rules that govern accounting. First presented is US GAAP and
why accounting must be understandable, relevant, and reliable. Next is coverage of IFRS. The roles of
the FASB, SEC, and IASB are explained. A chart (Exhibit 6-1) of some of the most significant topics
compares the differences between US GAAP and IFRS treatment.

The next section of the chapter defines internal control and discusses its elements and objectives. The
elements of an effective internal control system are introduced, with a focus on common control
activities. The discussion of internal control concludes with the limitations of the effectiveness of an
internal control system.

Fraud is defined, and a distinction is made between management fraud and employee embezzlement.
Various corporate frauds in America are outlined. The text explains the three elements of the fraud
triangle (Exhibit 6-2).

The next section provides a definition of a certified public accountant and the associated member
organization, AICPA. Both internal and external audits are defined, along with the four types of opinions
issued in an external audit. The generally accepted auditing standards (GAAS) are defined, and an
organizational chart illustrates the recommended placement of an audit committee and both internal and
external auditing.

The ethical and legal responsibilities of an accountant are covered, including why an accountant must be
held to a higher standard of ethical and moral behavior. The chapter defines whistleblower and provides
the US Department of Labor website address that describes the laws to protect whistleblowers. Next, the
text identifies the major requirements of the Sarbanes-Oxley Act (SOX) and the role of the Public
Company Accounting Oversight Board (PCAOB). The section concludes with a definition of ethics,
the high ethical standards required of accountants, and the Code of Professional Conduct defined by the
AICPA.

The chapter concludes with an explanation of the book value of stockholders’ equity and the market
value or market capitalization. US GAAP, which is conservative, uses the cost principle to report the
book value of stockholders’ equity, while IFRS is less conservative and reports stockholders’ equity at a
value that is closer to market value.

Learning Objectives
After studying Chapter 6, your students should be able to:
1. Understand the importance of US GAAP and how it differs from accounting standards in other
countries (IFRS)
2. Understand the importance and role of internal control

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3. Define fraud, and describe the different types of fraud in business
4. Know what a certified public accountant (CPA) does
5. Know the legal and ethical responsibilities of an accountant, including the requirements of the
Sarbanes-Oxley Act (SOX)
6. Know the difference between the book value and market value of stockholders’ equity

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Chapter 6: Teaching Outline and Student Summary Handout

What Are the Rules That Govern Accounting?

LO1) Understand the importance of US GAAP and how it differs from accounting

standards in other countries (IFRS)

I. Generally Accepted Accounting Principles (GAAP) are the rules, principles, and

concepts established by the accounting profession that govern financial accounting.

II. For accounting information to be useful it must be:

A. Understandable

1. Accounting information should be understandable. Notes to the financial

statements explain both basic accounting rules and specific information

related to the business. Certain notes are required in all financials, while

others are required based on accounting events.

B. Relevant

1. Accounting information should be relevant. Information should be

consistent, comparable, material, and summarized at a level to provide

important information to lenders and stockholders.

C. Reliable

1. Accounting information should be reliable. GAAP was created to report

business transactions that are recognized, measured, and recorded

according to prescribed guidelines.

2. Reliability is attained through the use of accounting systems, certified

public accountants (CPAs), and audits.

a. CPAs perform audits to validate and certify that financial

information is presented in accordance with GAAP.

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 i. An audit is an examination of the validity and

reliability of accounting information.

III. Other organizations and standards are important to accounting.

A. The Financial Accounting Standards Board (FASB) is the organization that

has been designated by the US government to establish Generally Accepted

Accounting Principles (GAAP) in the United States.

1. A challenge faced by the FASB is that the business world is constantly

changing.

a. To provide useful information, the FASB must constantly review

and update accounting standards.

2. US GAAP is very conservative so that values are not overstated.

a. Conservative numbers are mostly accomplished through the use

of historical costs.

b. If the market value drops permanently below historical costs,

then the historical value is changed to the lower market value.

c. Values are not changed due to increasing market values. This

increase is recognized when the asset is sold.

d. US GAAP is conservative, in part, because:

i. People do not like risk.

ii. Accountants want to provide the information that is

the most useful and reliable.

e. Market values often fluctuate temporarily, creating ever-

changing financial statements.

B. The Securities and Exchange Commission (SEC) is a government agency in

the United States that is responsible for regulating US financial markets

1. The SEC enforces GAAP.

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 C. Accounting Standards Codification (ASC) is a system used by the Financial

Accounting Standards Board to organize and code all accounting

pronouncements.

D. The International Accounting Standards Board (IASB) is an international

organization developing and promoting accounting standards to be used

throughout the world. (It formed in 2001.)

1. The generally accepted accounting principles used in a country reflect

the country’s culture and laws, which causes confusion for businesses

that operate in more than one country.

E. International Financial Reporting Standards (IFRS) are accounting

standards developed by the International Accounting Standards Board for use

throughout the world.

1. These standards are more like principles than rules. The IASB wants

countries to use these principles to create their own sets of generally

accepted accounting principles.

2. The Unites States has not adopted IFRS.

IV. The major difference between the FASB and IFRS is the use of current or market

values rather than historical values for assets and liabilities.

A. The FASB is currently working with countries throughout the world and the

IASB to converge the US standards (GAAP) with international standards

(IFRS). At one time, the United States was scheduled to adopt IFRS beginning

in 2014, but that has been delayed many times, and adoption in the near future

is becoming less likely.

B. Exhibit 6-1 summarizes some of the most significant topics that differ between

US GAAP and IFRS.

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What Is Internal Control?

LO2) Understand the importance and role of internal control

I. Besides recording basic accounting transactions through the use of journals, accounts,

and ledgers, accounting systems attempt to prevent fraud, promote efficiency, and help

the business succeed. A critical function of any accounting information system is

internal control.

II. Internal control is a system implemented within an organization to help it safeguard

assets, operate efficiently and effectively, report financial information properly, and

comply with applicable laws and regulations.

III. The objective of an internal control system is to help an organization do the following:

A. Safeguard assets

B. Operate efficiently and effectively

C. Ensure proper financial reporting

D. Ensure compliance with applicable laws and regulations

IV. The complexity and effectiveness of the internal control system depend on five

elements: control environment, risk assessment, control activities, information and

communication, and monitoring.

A. The control environment is the overall attitude, awareness, and actions of

management and staff regarding the internal control system and its importance

to the business.

1. It reflects management and staff attitudes regarding internal control and

sets the tone for the entire organization. Factors include the following:

a. Leadership philosophy and operating style

b. Competency of the employees within an organization

c. Integrity and ethical values of the company personnel

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 d. Organizational structure of the company, namely the delegation

of authority and responsibility

B. Risk assessment is the process of identifying risks and taking steps to mitigate

them.

C. Control activities are the policies and procedures implemented in an internal

control system.

1. Two elements are related to control activities:

a. Policies establishing what should be done

b. Procedures that should be followed to implement the policies

2. Control activities occur at all levels and all functions throughout the

organization and are usually based on the organization’s control

environment, the assessment of risk, the size and structure of the

organization, and the nature of the organization’s operations.

3. Examples of common control activities include the following:

a. Proper training and supervision, which includes written job

descriptions, proper training, and adequate supervision for

employees

b. Separation of duties, where the responsibility for more than one

of the following functions should not be given to any one

employee (to remove the opportunity for fraud):

i. Authorizing transactions

ii. Maintaining custody of assets

iii. Keeping accounting records

c. Mandatory vacations to minimize perceived opportunity for

fraud

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 d. Restricted access to limit the number of employees who have

access to company assets

i. Use cash registers, vaults, locked storage units, and

password-protected accounting records.

ii. Allowing too many people access makes it more

difficult to find the perpetrator.

e. Security measures, such cameras, alarms, and printed receipts

f. Proper authorization for certain activities, such as sales returns,

voiding checks, refunds, etc.

g. Maintenance of adequate documents and records through an

audit trail.

i. An audit trail is a trail of business documents and

records that provides evidence of transactions.

ii. Prenumbered documents, so any gaps draw attention.

D. Information and communication at all levels of the organization about the

control environment, the risk assessment, and the control activities is necessary

to maximize the effectiveness of internal control.

E. Monitoring of the internal control system is a continuous process that can be

accomplished through ongoing activities or separate evaluations.

1. Ongoing activities include regular management and supervisory

activities. They also include assessing the performance of the internal

control system by employees as they perform required duties.

2. The need for separate evaluations depends on the effectiveness of the

ongoing monitoring procedures.

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 IV. Internal Control Limitations

A. No internal control system can provide absolute assurance that no errors will

occur or that fraud can be prevented or detected.

B. The effectiveness of an internal control system is limited due to the following:

1. Employees become tired, careless, and distracted and make mistakes.

They may also use poor judgment and misunderstand policies and

procedures.

2. Controls can be poorly designed.

3. Staff size limitations may hinder efforts to properly segregate duties.

4. There may be collusion (where two or more individuals work together

to commit fraud).

5. Management can override controls.

6. The cost of implementing some internal controls may exceed the benefits

of those controls.

What Is Fraud, and Who Commits It?

LO3) Define fraud, and describe the different types of fraud in business

I. Fraud is deceit or trickery involving intentional actions that cause harm to a business,

its stakeholders, or both. It is either committed by or against a business organization.

II. Management fraud is management’s intentional misstatement of financial statements,

driven by greed or the pressure to show that a business is more profitable than it really

is.

A. The goal of overstating earnings is to help increase a company’s stock price or

to ensure larger year-end bonuses for upper management.

B. Fraudulent reporting is achieved when management does the following:

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 1. Overstates revenues by:

a. Overstating receivables related to revenue that has not yet been

earned

b. Understating unearned revenue by recording as revenue

2. Understates expenses by:

a. Overstating the value of assets such as inventory, equipment, and

buildings or recording assets that do not exist

b. Understating amounts owed to suppliers, employees, or creditors

III. Employee embezzlement (the primary form of fraud committed against a business

organization) is fraud where employees steal from employers by taking assets or

engaging in disbursement schemes to steal cash. Employees can:

A. Steal cash, inventory, tools, supplies, or other assets from the employer.

B. Establish fake companies, have the employer pay these phony companies for

goods or services that are never delivered, and then intercept and fraudulently

cash the checks.

C. Engage in disbursement schemes, which is a form of employee embezzlement

in which an employee tricks a company into giving up cash for an invalid

reason. Examples include the following:

1. Check tampering is a fraud scheme in which an employee writes a

fraudulent check and makes the check payable to himself or herself or

obtains a check intended for an outside party, endorses the check, and

then cashes it.

2. A cash register scheme is a fraud scheme in which an employee steals

cash by processing false refunds or accepts cash from a purchase but

does not record the transaction in the register.

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 3. An expense scheme is a fraud scheme in which an employee

overcharges the company for travel or other business-related expenses,

such as lunches, hotels, parking fees, and cab fares.

D. Employee dishonesty also occurs when an employee takes bribes or kickbacks.

A bribe is the payment of money in order to influence the conduct of a person,

also referred to as a kickback. Examples include employees taking bribes

from:

1. Suppliers in exchange for the employee turning a blind eye to a supplier

charging the employer higher purchase prices

2. Suppliers in exchange for the employee turning a blind eye to the

delivery of inferior goods

3. Suppliers in exchange for the employee authorizing payments to the

supplier for goods not delivered to the employer

4. Customers in exchange for granting the customer a lower sales price

5. Customers in exchange for giving the customer goods or services for

which the employer is never paid

IV. The fraud triangle is the combination of perceived pressure, rationalization, and

perceived opportunity necessary to commit fraud. The connection among the three

factors is illustrated in Exhibit 6-2.

A. Perceived pressure is an element of the fraud triangle in which the employee

feels a need to obtain cash or other assets. Can be caused by:

1. Unexpected financial needs, such as medical bills

2. A drug or alcohol habit

3. Living beyond one’s means

4. A gambling addiction

5. Unanticipated financial losses

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 6. Excessive bills or personal debt

7. Work-related pressure, where the employee is disgruntled or feels

personally responsible for the company’s poor performance

B. Rationalization is an element of the fraud triangle in which the employee

justifies his or her actions and convinces himself or herself that fraud is not

wrong. Rationalization is:

1. Finding good reasons for doing things we know are wrong

2. Justifying actions by rationalizing behavior

C. Perceived opportunity is an element of the fraud triangle in which the

employee believes a chance exists to commit fraud, conceal it, and avoid

punishment.

1. Opportunity is often perceived when there is easy access to assets or

when assets are poorly accounted for by an organization.

V. Of the three elements, a business can have the most influence over perceived

opportunity.

A. An effective way for a business to prevent fraud is to reduce or eliminate the

perceived opportunity for an employee to misappropriate assets or for a

manager to falsify financial information.

B. The perceived opportunity can be reduced through a good system of internal

control.

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What Is a Certified Public Accountant (CPA)?

LO4) Know what a certified public accountant (CPA) does

I. A certified public accountant (CPA) is an accountant, licensed by a state, who serves

the general public by auditing businesses and reporting whether the business’s financial

statements are in accordance with Generally Accepted Accounting Principles (GAAP).

II. The American Institute of Certified Public Accountants (AICPA) is the

professional organization that supports and improves the practice of accounting in the

United States.

III. Testing an organization’s internal controls is one of the major functions of an audit (an

examination of the validity and reliability of accounting information). Audits are

broken down into two categories:

A. An internal audit (or managerial audit) is an audit and assessment of a

company’s compliance with laws and regulations, operating controls, and

policies and procedures. An internal audit is performed by employees of the

company.

B. An external audit is an audit of a company’s financial statements performed

by independent CPAs.

1. The US Securities and Exchange Commission (SEC) requires that all

companies that sell stocks and bonds to the general public in the United

States be audited by independent CPAs.

2. Generally Accepted Auditing Standards (GAAS) are the procedures

used by CPAs to audit non–publicly traded companies. They were

developed by the Auditing Standards Board, which is a division of the

AICPA, to ensure that auditors use good procedures and judgment.

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 3. Exhibit 6-3 illustrates a typical organizational chart of a large business

and how the external auditor relates to management.

IV. An audit opinion is an opinion, issued by the CPA auditing a business, which indicates

whether the financial statements are prepared in accordance with GAAP.

A. An external audit results in one of the following opinions:

1. Unqualified, or “clean,” opinion

2. Qualified, or “except for,” opinion

3. Adverse opinion

4. Disclaimer

B. Exhibit 6-4 shows the types of opinions, the reason each is chosen, and its

impact.

C. Decision makers, such as lenders and stockholders, use the audit opinion to

decide whether they can rely on the financial statements.

What Are the Legal and Ethical Responsibilities of Accountants?

LO5) Know the legal and ethical responsibilities of an accountant, including the

requirements of the Sarbanes-Oxley Act (SOX)

I. Laws specify the responsibilities of accountants and CPAs.

II. Society also expects accountants to act ethically, with conduct that adheres to higher

standards than required by law.

A. Law states how we require people to act.

B. Ethics state how we expect people to act.

III. Accountants are expected to communicate any acts that they suspect to be illegal or

improper. Doing otherwise would be unethical. Often, it is more difficult to do the

“right thing” than to keep quiet. That is, in part, why there are laws that protect

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 whistleblowers. A whistleblower is a person who reports illegal or unethical behavior.

To learn more, there is information on the protection of whistleblowers on the US

Department of Labor’s website (www.whistleblowers.gov).

IV. The Legal Responsibilities of Accountants

A. The Sarbanes-Oxley Act (SOX) is a law passed in 2002 by the US Congress

requiring a business’s management to accept responsibility for providing the

information needed by stakeholders outside the business.

1. SOX applies to publicly traded companies.

2. SOX established the Public Company Accounting Oversight Board

(PCAOB).

a. The Public Company Accounting Oversight Board (PCAOB)

is a private, nonprofit corporation that oversees the auditors of

publicly traded companies. The PCAOB reports to the US

Securities and Exchange Commission (SEC).

3. SOX requires that external auditors report to an audit committee rather

than to an organization’s management.

4. SOX requires that a company’s chief executive officer (CEO) and chief

financial officer (CFO) certify all annual or quarterly reports filed by an

organization. By signing, the CEO and CFO certify the following:

a. They have reviewed the report.

b. The report does not contain any materially untrue statements.

c. The financial statements and related information contained in the

report fairly present the financial condition and the results of

operations in all material respects of the organization.

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 d. The signing officers are responsible for internal controls, have

evaluated these internal controls within the previous 90 days, and

have reported on their findings.

e. They have disclosed:

i. A list of all deficiencies in the internal controls and

information on any fraud that involves employees who

are involved with internal activities

ii. Any significant changes in internal controls or related

factors that could have a negative impact on the

internal controls

V. Ethical Responsibilities of Accountants

A. Ethics are the set of moral values an individual or a society holds that specify

how people and organizations should act.

B. Accountants are expected to have very high ethical standards.

C. Accountants should be competent, objective, responsible, and concerned for

the welfare of all stakeholders.

D. Accountants should have integrity.

E. Accountants must make a lot of judgments and be trustworthy.

F. Many states require CPAs to pass exams and participate in continuing

education programs dealing with ethics.

G. The American Institute of Certified Public Accountants (AICPA) addresses the

issues in its Code of Professional Conduct.

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Focus on Decision Making: “How Much Is the Business Worth?”

LO6) Know the difference between the book value and market value of stockholders’

equity

I. Recall the accounting equation to define stockholders’ equity:

Stockholders’ Equity = Assets – Liabilities

II. The book value of stockholders’ equity is the book value of assets minus the book

value of liabilities. It is the value reported on a company’s balance sheet for

stockholders’ equity. Using GAAP, this book value is the result of recording past

transactions at historical costs.

III. Market value or market capitalization is the current market price per share times the

number of shares outstanding.

A. The amount stockholders expect to receive for their stock is based on the

expected profits to be earned in the future.

IV. The IASB uses current or market values for assets and liabilities, resulting in a reported

value for stockholders’ equity that more closely reflects market value.

V. US GAAP is conservative, using the cost principle, which is typically lower than

market value.

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Key Topics

Start by covering the rules of accounting (GAAP) and the required characteristics of accounting
information (understandable, relevant, and reliable). To illustrate, use a company’s annual audited
financial statement report. If possible, use a local business in your area or a popular retail chain. You can
illustrate the definition of understandable by viewing the notes to the financials. One of the first sections
in the notes is the significant accounting policies. These policies include basic accounting terms that
should already be somewhat familiar to the students. You can also point out the notes specific to the
company’s operations, where detailed lists of debt and fixed assets can be found, as well as any potential
litigation. Finally, there may be footnotes in the body of one or more of the financial statements. There is
a wealth of information in this single document that can be used to illustrate many of the topics of
accounting. Consider researching popular companies at https://www.sec.gov/edgar.shtml to provide a
real-world look into accounting topics.

Relevance can be illustrated by viewing the comparative financial data in annual reports. Graphs, charts,
and tables that compare to prior year(s) are readily available, as are comparisons to industry and/or
competitors. Reliability is explained with a brief discussion on GAAP and audits. Near the end of the
chapter, when the responsibilities of the CPA and audit functions are covered, the concept of reliability
will become much clearer to students. In addition, viewing audit opinion letters of select companies will
emphasize the importance of responsible accounting.

After covering the intent and characteristics of accounting rules, explain the roles of FASB and the SEC
so you can make it clear how these rules are made and who approves them. Next, discuss how these rules
are organized and coded with the ASC system. Either viewing the FASB database or the specific ASC
code of an accounting principle will demonstrate the organization of these rules. Further clarification of
US GAAP should focus on conservatism, historical costs, and minimization of risk. The challenges of
financial reporting for companies that have segments in multiple countries will lead to a discussion of
IFRS and the IASB. The major issue facing the accounting profession today centers around FASB, the
IASB, and several countries throughout the world working together to converge the US standards (GAAP)
with the international standards (IFRS). The major difference between the two sets of standards is the use
of current or market value for IFRS versus the use of historical costs for US GAAP. Differences in
standards make comparisons between certain companies difficult or even impossible. While the
accounting profession recognizes a need for worldwide, common, rule-based financial statement
presentation, the timing for an agreed-upon set of rules is uncertain. Discussions among the groups will
continue, but for now, US GAAP is the required presentation for the United States. A summary chart
(Exhibit 6-1) compares how the US GAAP and IFRS treat significant accounting topics.

After explaining the definition of internal control, list the elements of an internal control system. The
common control activities is usually an interesting subject to students, and it is a topic that is easy to
relate. Give examples from your own experience. Or you can usually find examples online of companies
defrauded due to lacking some of these control activities. Smaller companies can be particularly
vulnerable, lacking adequate internal controls, due to cost or size. Segregation of duties, for example, is
not always possible. There may be only one bookkeeper or accountant, and that person will likely have
responsibilities for bank deposits, bank reconciliation, and collecting cash. This same person may be
responsible for all purchases as well. Many of the control measures are either expensive to implement or
not management priorities. However, despite the initial cost and time required to create a good internal
control system, such a system can easily pay for itself over time.

Students usually enjoy the discussion of ethics in business, especially the examples of corporate fraud.
Ask students whether they have ever had to read a code of ethics and sign an acknowledgement as a

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requirement of employment. Do they think it is a good idea? Encourage students to share examples of
times when they have rationalized their own behavior. There are many interesting examples of how fraud
has been committed in America. You can ask your students to find an article describing someone
committing fraud and explain it to the class. The text describes the three elements of the fraud triangle.
Using the examples of fraud provided in class, have the students demonstrate how the three elements
contributed to the fraud they read about. These examples can then lead to a discussion of the types of
controls that might have prevented or led to the detection of the examples provided.

Point out that an internal control system may not be 100% effective. It may not prevent theft, abuse, and
errors, but hopefully it will detect them very quickly, so corrective action can be taken. Employees can
attempt to circumvent the system through collusion.

A discussion of the costs and benefits of an internal control system as well as the requirements for public
companies under the Sarbanes-Oxley Act can help students better understand the importance of a good
internal control system. Be sure to include the differences in the ability to implement an effective internal
control system in a large public company versus in a small privately owned company. The involvement of
the owner when a company’s size limits its ability to adequately separate duties is especially important.

This is a good opportunity to discuss some possible careers in accounting and auditing, as well as various
professional certifications available. Students should be informed that many professional organizations
allow student memberships and are an excellent resource when searching for just the right career in
accounting. Examples of real-world audit opinions, particularly those that deviate from the unqualified
(“clean”) opinion, are always of interest to students.

Discuss the differences between US GAAP and IFRS. Talk about whether all countries should adopt the
same set of accounting standards. Engage students in a lively debate about the pros and cons of IFRS.

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 Assignment Grid
Estimated Level
Learning Time in of
Assignment Topic(s) Objective(s) Minutes Difficulty
Short Exercises
S6-1 Internal controls 3 5-10 Easy
S6-2 Fraud triangle 3 5-10 Easy
S6-3 Internal controls 2 5-10 Easy
S6-4 Internal controls 2 5-10 Easy
S6-5 Internal controls 2 10-15 Easy
S6-6 Fraud triangle 3 5-10 Easy
S6-7 Internal controls 2 5-10 Easy
S6-8 Internal controls 2 5-10 Easy
S6-9 Internal controls 2 5-10 Easy
S6-10 Internal controls 2 5-10 Easy
S6-11 Fraud and internal controls 2, 3 15-20 Easy
S6-12 Accounting terminology 1, 4 5-10 Easy
S6-13 Sarbanes-Oxley Act 5 20-25 Easy
S6-14 IFRS 1 20-25 Easy

Continuing Financial Statement Analysis 2, 5, 6 50-60 Medium

Using Dick’s Sporting Goods (Dick’s) Annual
Report, answer questions regarding the
challenges of accounting: standards, internal
controls, audits, fraud, and ethics.

Ethics in Action (8 cases) 2, 5 45-60 Medium

Financial Analysis 2 40-50 Medium

Industry Analysis 2, 5 20-30 Medium

Small-Business Analysis 2, 3 20-30 Medium

Written Communication 2 20-30 Medium

Assignments Available in Varied Accounting Software Formats:

Excel Templates: None
QuickBooks: None
Peachtree: None
General Ledger: None

Answer Key to Chapter 6 Quiz

1. D 6. D
2. B 7. A
3. A 8. B
4. D 9. C
5. C 10. D

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Name Date Section

CHAPTER 6
TEN-MINUTE QUIZ

Circle the letter of the best response.

1. An effective internal control system is designed to achieve all of the following EXCEPT:
A. ensure compliance with applicable laws and regulations.
B. promote operational efficiency.
C. ensure proper reporting of financial information.
D ensure that management makes good decisions.

2. Fraudulent financial reporting usually refers to:

A. employee embezzlement.
B. management fraud.
C. internal controls.
D. risk assessment.

3. Which of the following is NOT an element of the fraud triangle?

A. Control activities
B. Rationalization
C. Perceived opportunity
D. Perceived pressure

4. Which of the following is a NOT a control activity?

A. Mandatory vacations
B. Proper training and supervision of employees
C. Adequate documents and records
D. Unrestricted access

5. The foundation for all other elements of internal control is:

A. monitoring.
B. risk assessment.
C. the control environment.
D. control activities.

6. Which of the following functions should NOT be given to any one employee?
A. Authorizing transactions
B. Keeping accounting records
C. Maintaining custody of assets
D. All of the above

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7. Limitations on the effectiveness of an internal control system include:
A. collusion.
B. mandatory vacations.
C. separation of duties.
D. monitoring.

8. Staff size in a small company could limit the company’s ability to implement which of the
following internal controls?
A. Competent personnel
B. Adequate separation of duties
C. Security measures
D. Proper authorization

9. The organization responsible for the oversight of the auditors of public companies is the:
A. Financial Accounting Standards Board (FASB).
B. International Accounting Standards Board (IASB).
C. Public Company Accounting Oversight Board (PCAOB).
D. US Congress.

10. International Financial Reporting Standards (IFRS):

A. is a principles-based system.
B. differs in accounting treatment from US GAAP for many items.
C. will never be adopted by the United States.
D. are both A and B.

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