Auditing Exam 2 (Chap 4,5,6)

Which of the following concepts are pervasive in the application of auditing standards?

• • control risk

• • expected misstatement

• • internal control

• • materiality and audit risk

The existence of audit risk is recognized by the statement in the auditor’s standard report that the auditor:

• • realizes that some matters, either individually or in the aggregate, are important, while other matters are not important.

• • is responsible for expressing an opinion on the financial statements, which are the responsibility of management.

• • obtains reasonable assurance about whether the financial statements are free of material misstatement.

• • assesses the accounting principles used and evaluates the overall financial statement presentation.

Risk of material misstatement refers to a combination of which two components of the audit risk model?

• • audit risk and control risk

• • audit risk and inherent risk

• • control risk and detection risk

• • inherent risk and control risk

As lower acceptable levels of both audit risk and materiality are established, the auditor should plan more work on individual accounts to:

• • decrease the risk of overreliance.

• • increase the tolerable misstatements in the accounts.

• • find smaller errors.

• • find larger errors.

Which of the following characteristics most likely would heighten an auditor’s concern about the risk of intentional manipulation of financial statements?

• • Turnover of senior accounting personnel is low.

• • The rate of change in the entity’s industry is slow.

• • Insiders recently purchased additional shares of the entity’s stock.

• • Management places substantial emphasis on meeting earnings projections.

Which of the following is a misappropriation of assets?

• • Management estimates bad debt expense as 2 percent of sales when it actually expects bad debts equal to 10 percent of sales.

• • An employee of a consumer electronics store steals 12 CD players.

• • Classifying inventory held for resale as supplies.

• • Investing cash and earning at a 3 percent rate of return as opposed to paying off a loan with an interest rate of 7 percent.

Auditing standards require auditors to make certain inquiries of management regarding fraud. Which of the following inquiries is required?

• • management’s attitude about hiring ethical employees

• • management’s attitudes toward regulatory authorities

• • whether management has ever intentionally violated the securities laws

• • whether management has any knowledge of fraud that has been perpetrated on or within the entity

Which of the following is an example of fraudulent financial reporting?

• • An employee diverts customer payments to his personal use, concealing his actions by debiting an expense account, thus overstating expenses.

• • Company management falsifies the inventory count, thereby overstating ending inventory and understating cost of sales.

• • An employee borrows small tools from the company and neglects to return them; the cost is reported as a miscellaneous operating expense.

• • An employee steals inventory, and the shrinkage is recorded as a cost of goods sold.

When is a duty to disclose fraud to parties other than the entity’s senior management and its audit committee most likely to exist?

• • when the fraud results from misappropriation of assets rather than fraudulent financial reporting

• • when a line manager rather than a lower-level employee commits the fraudulent act

• • in response to inquiries from a successor auditor

• • when the amount is material

Which of the following is correct concerning required auditor communications about fraud?

• • Any requirement to disclose fraud outside the entity is the responsibility of management and not that of the auditor.

• • The professional standards provide no requirements related to the communication of fraud, but the auditor should use professional judgment in determining communication responsibilities.

• • Fraud with a material effect on the financial statements should be reported directly by the auditor to the Securities and Exchange Commission.

• • Fraud that involves senior management should be reported directly by the auditor to the audit committee regardless of the amount involved.