Which of the following controls would most effectively ensure that recorded purchases are free of material misstatements?

Q: What is free from material misstatement?

The auditors objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement.” That is the opening comment on the Financial Reporting Councils (FRC) description of an auditors responsibility in respect of financial statements.

Performing a walkthrough is an efficient way of:understanding the flow of transactions in the entity, including how the transactions are initiated, authorized, processed, and recorded.verifying that the auditor has identified the points within the entity's processes at which a material misstatement could arise (including misstatements due to fraud).identifying the controls that management has implemented to address potential misstatements.identifying the controls that management has implemented to prevent or timely detect unauthorized acquisition, use, or disposition of company assets that could result in a material misstatement of the financial statements.

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Performing a walkthrough is an efficient way of:understanding the flow of transactions in the entity, including how the transactions are initiated, authorized, processed, and recorded.verifying that the auditor has identified the points within the entity's processes at which a material misstatement could arise (including misstatements due to fraud).identifying the controls that management has implemented to address potential misstatements.identifying the controls that management has implemented to prevent or timely detect unauthorized acquisition, use, or disposition of company assets that could result in a material misstatement of the financial statements.
All of the answer choices are correct. Performing a walkthrough is an efficient way of:understanding the flow of transactions in the entity, including how the transactions are initiated, authorized, processed, and recorded,verifying that the auditor has identified the points within the entity's processes at which a material misstatement could arise (including misstatements due to fraud),identifying the controls that management has implemented to address potential misstatements, andidentifying the controls that management has implemented to prevent or timely detect unauthorized acquisition, use, or disposition of company assets that could result in a material misstatement of the financial statements.
Ineffective general controls by themselves:always cause misstatements.never cause misstatements.could cause misstatements.could allow misstatements.
never cause misstatements.could allow misstatements.Ineffective general controls by themselves do not cause misstatements; however, they can permit application controls to operate improperly and allow misstatements to occur.
When testing journal entries, the auditor should focus on journal entries:made during the end of a reporting period, as fraudulent entries are made during that time.made throughout the reporting period, as material misstatements are made during that timeA. I onlyB. II onlyCorrect C. Both I and IID. Neither I nor II
The auditor must make a determination based on the risk that exists during the audit. Because fraudulent journal entries often are made at the end of a reporting period, the auditor's testing ordinarily should focus on the journal entries and other adjustments made at that time. However, because material misstatements in financial statements due to fraud can occur throughout the period and may involve extensive efforts to conceal how it is accomplished, the auditor should consider whether there also is a need to test journal entries throughout the period under audit.
Which of the following internal control procedures most likely would be used to maintain accurate inventory records?A. Perpetual inventory records are periodically compared with the current cost of individual inventory items.B. A just-in-time inventory ordering system keeps inventory levels to a desired minimum.C. Requisitions, receiving reports, and purchase orders are independently matched before payment is approved.Correct D. Periodic inventory counts are used to adjust the perpetual inventory records.
In this situation, an auditor would be concerned about the valuation and allocation assertion for a specific account balance at a point in time. That assertion states that assets, liabilities, and equity interests are included in the financial statements at appropriate amounts and any resulting valuation or allocation adjustments are appropriately recorded.Comparing perpetual inventory records with the current cost of individual inventory items does not address the value of the inventory when purchased.A just-in-time inventory ordering system does not provide any indication of what is in inventory at a point in time.Matching requisitions, receiving reports, and purchase orders before payment is approved does not provide information as to the inventory items on hand at a certain period of time.The best answer choice is using periodic inventory counts to adjust perpetual inventory records. Periodic counts assure that the proper number of inventory items is included in the financial records and those accounts are then compared to perpetual inventory records, which should have the appropriate cost accounted for such items.
An auditor is evaluating a client's internal controls. Which of the following situations would be the most difficult internal control issue for an auditor to detect?A. The accounting staff neglects the control, due to increased transactions to be processed.B. The technology department writes a program that does not properly implement the control, due to a lack of understanding.Correct C. Two employees, who work in different departments, are circumventing an internal control.D. Someone erroneously disables edit checks in a software program designed to identify control exceptions.
Segregation of duties is a cornerstone of effective internal controls and the deterrence of fraud. Management relies on each individual to be independent and act as a check or balance. Collusion is an agreement to act together, especially for fraudulent or deceitful purposes. Collusion is especially difficult to detect. In collusion, the internal controls are operating effectively, but two employees work together to override the internal controls.In the situation where the accounting staff neglects the control, due to increased transactions to be processed, the increased number of transactions may alert the auditor to the internal control issue. Software problems that cause internal control deficiencies may be detected when the auditor identifies risks and controls within the client's IT system.
Which of the following factors most likely would heighten an auditor's concern about the risk of fraudulent financial reporting?A. Large amounts of liquid assets that are easily convertible into cashIncorrect B. Low growth and profitability as compared to other entity's in the same industryC. Financial management's participation in the initial selection of accounting principlesD. An overly complex organizational structure involving unusual lines of authority
The risk of fraudulent financial reporting increases with the complexity of the organizational structure. Unusual lines of authority may also be a red flag because they may indicate undue influence on an operating unit from the corporate headquarters.Large amounts of liquid assets have a high risk of theft, not a risk of fraudulent financial reporting.Some of the fraud risk factors relating to management's characteristics include the following (AU-C 240.A75):Domination of management by a single person or small group without compensating controlsManagement failure to correct known significant deficiencies or material weaknesses in internal control on a timely basisManagement's excessive interest in maintaining or increasing the entity's stock price or earnings trendNonfinancial management's excessive participation in the selection of accounting principles
Which of the following controls would be most effective in assuring that recorded purchases are free of material errors?A. The receiving department compares the quantity ordered on purchase orders with the quantity received on receiving reports.B. Vendors’ invoices are compared with purchase orders by an employee who is independent of the receiving department.C. Receiving reports require the signature of the individual who authorized the purchase.Correct D. Purchase orders, receiving reports, and vendors’ invoices are independently matched in preparing vouchers.
This question is concerned with the accuracy assertion about a class of transactions. This assertion ensures that amounts and other data relating to recorded transactions and events have been properly recorded.The receiving department comparing the quantity ordered on purchase orders to the quantity received has nothing to do with determining if a purchase is properly recorded. The same could be said of comparing vendors’ invoices with purchase orders by an employer who is independent of the receiving department and receiving reports requiring the signature of the individual who authorized the purchase. Only matching the purchase orders, receiving reports, and vendors' invoices with vouchers can assure that recorded purchases are free of material error.
Tests designed to detect credit sales made before the end of the year that have been recorded in the subsequent year provide assurance about management's assertion of:A. presentation.Correct B. cutoff. C. completeness.D. existence.
Assertions about cutoff deal with recording items in the proper period. Completeness deals with whether all transactions and accounts that should be presented in the financial statements are included.In this case, the sales have been recorded, so the records are complete, but they have been recorded in the incorrect period, which is a cutoff issue.
After determining that a related party transaction has, in fact, occurred, an auditor should:A. add a separate paragraph to the auditor's standard report to explain the transaction.B. perform analytical procedures to verify whether similar transactions occurred but were not recorded.Correct C. obtain an understanding of the business purpose of the transaction.D. substantiate that the transaction was consummated on terms equivalent to an arm's-length transaction.
FASB ASC 850-10 specifies the requirements for related party disclosures. As part of a GAAS audit, the auditor must perform procedures to identify related party transactions and should obtain an understanding of the business purpose, nature, and extent of the transaction and any affect on the financial statements.If related party transactions are significant or extensive, the auditor may want to emphasize this fact by adding a separate, emphasis-of-matter paragraph to the auditor's standard report. However, the auditor is not obligated to add such a paragraph if the disclosure in the financial statements is adequate.It is generally not possible for the auditor to substantiate that the transaction was consummated on terms equivalent to an arm's-length transaction. Accordingly, there should be no representation made that the related party transactions were consummated on terms equivalent to an arm's-length transaction, unless such a representation can be substantiated.Analytical procedures are generally not effective in the identification of related party transactions.
Which of the following is an example of discrepancies in accounting records that could be used to assess the risk of material misstatement due to fraud?Incorrect A. Inconsistent, vague, or implausible responses from management or employees arising from inquiries or analytical proceduresB. Evidence of employees' access to systems and records inconsistent with that necessary to perform their authorized duties (adsbygoogle = window.adsbygoogle || []).push({}); C. Unusual discrepancies between the entity's records and confirmation repliesD. Unavailable or missing electronic evidence, inconsistent with the entity's record retention practices or policies
Examples of discrepancies in accounting records that could be used to assess the risk of material misstatement due to fraud include the following: Transactions that are not recorded in a complete or timely manner or are improperly recorded as to amount, accounting period, classification, or entity policyUnsupported or unauthorized balances or transactionsLast-minute adjustments that significantly affect financial resultsEvidence of employees' access to systems and records inconsistent with that necessary to perform their authorized dutiesTips or complaints to the auditor about alleged fraudThe other answer choices are examples of conflicting or missing evidential matter that could be used to assess the risk of material misstatement due to fraud.
Which of the following analytical procedures most likely would be used during the planning stage of an audit?Correct A. Comparing current-year to prior-year sales volumesB. Reading the financial statements and notes and considering the adequacy of evidenceC. Comparing the current-year ratio of aggregate salaries paid to the number of employees to the prior year's ratioD. Reading the letter from the client's attorney and considering the threat of litigation
Analytical procedures used in planning the audit may be helpful in identifying the existence of unusual transactions or events, and amounts, ratios, and trends that might indicate matters that have financial statement and audit implications. These procedures are usually performed at a high level; for example, comparing current-year to prior-year sales volumes.Comparing the current-year ratio of aggregate salaries paid to the number of employees to the prior year's ratio would be an example of an analytical procedure used as a substantive test (not one used during the planning phase of an audit).Reading the financial statements and considering the adequacy of evidence is not an analytical procedure. Analytical procedures rely on comparisons of recorded amounts, or ratios developed from recorded amounts, to expectations developed by the auditor.Reading the letter from the client's attorney is an important audit procedure, but it is not an analytical procedure.
Which of the following is a management control method that most likely could improve management's ability to supervise company activities effectively?A. Monitoring compliance with internal control requirements imposed by regulatory bodiesB. Limiting direct access to assets by physical segregation and protective devicesCorrect C. Establishing budgets and forecasts to identify variances from expectationsD. Supporting employees with the resources necessary to discharge their responsibiliti
The problem asks which management control method could most likely improve management's ability to supervise company activities effectively. This goal requires a control technique that communicates and monitors management's expectations regarding all of the company's activities.Monitoring compliance with internal controls imposed by regulatory bodies could improve the effectiveness in that particular area but it would not enhance management's ability to supervise the company's activities. Limiting direct access to assets would improve control over assets but this also would not improve management's ability to supervise the company's activities. Supporting employees with necessary resources would certainly aid in the accomplishment of company activities but would do nothing to help management's ability to supervise those activities. Of all the answers provided, using budgets and forecasts and monitoring variances from them is the only management control method that could most likely improve management's ability to supervise company activities effectively.
Which of the following factors is most relevant when an auditor considers the client's organizational structure in the context of control risk?A. Management's attitude toward information processing and accounting departmentsB. The organization's recruiting and hiring practicesC. Physical proximity of the accounting function to upper managementCorrect D. The suitability of the client's lines of reporting
An organizational structure refers to how divisions, departments, and positions link together in authority, responsibility, and communication. Only one answer choice deals with the organizational structure: “The suitability of the client's lines of reporting.” It is important that employees “understand how their activities in the financial reporting information system relate to the work of others and the means of reporting exceptions to an appropriate higher level within the entity” (AU-C 315.A89). Clear lines of authority and responsibility are also very important in an EDP (electronic data processing) environment due to the potential access of data by multiple users. The auditor is looking for information on how the entity's activities for achieving its objectives are planned, executed, controlled, and reviewed.The physical proximity of the accounting function to upper management would not be a consideration for the auditor.Management's attitude toward information processing and accounting departments, as well as the organization's recruiting and hiring practices, are factors that would provide information to the auditor regarding management's philosophy and operating style and human resource policies. The auditor would use this information to understand the overall “tone” of the organization.
As lower acceptable levels of both audit risk and materiality are established, the auditor should plan more work on individual accounts to:Correct A. find smaller errors.B. find larger errors.C. increase the tolerable error in the accounts.D. decrease the risk of overreliance.
If in an audit engagement, the acceptable levels of both audit risk and materiality are lower, the auditor will plan more work on individual accounts in order to find smaller errors.AU-C 300.02 gives us the strategy of establishing an audit:
An auditor obtains sufficient understanding by performing risk assessment procedures to evaluate the design of controls relevant to an audit to:A. identify types of potential misstatements.B. consider factors that affect the risks of material misstatement.C. design tests of controls, when applicable, and substantive procedures.Correct D. All of the answer choices are correct.
The auditor should obtain a sufficient understanding by performing risk assessment procedures to evaluate the design of controls relevant to an audit of financial statements and to determine whether they have been implemented. The auditor should use such knowledge to:identify types of potential misstatements,consider factors that affect the risks of material misstatement, anddesign tests of controls, when applicable, and substantive procedures.
The only way to determine risk within an organization is through:A. observation and inspection.B. inspection and interrogation.Incorrect C. observation, inspection, and interrogation.D. None of the answer choices are correct.
Be careful of the word “only.” Observation and inspection are ways to support inquiries (interrogation) of management, but other empirical evidence may be available.Risk assessment procedures include:inquiries of management and others within the entity,analytical procedures, andobservation and inspection.In addition, the auditor may perform other procedures where the information obtained may be helpful in identifying risks of material misstatement. These procedures may include inquiries of others outside the entity (such as legal counsel), reviewing information from external sources (such as reports by analysts or banks), or reviewing trade journals or regulatory publications.
Management override of controls can occur in unpredictable ways. Due to this fact, the auditor should perform procedures, in addition to the procedures already performed to address identified risks of material misstatements due to fraud, that include which of the following?Examining journal entries and other adjustments for evidence of possible material misstatement due to fraudReviewing accounting estimates for biases that could result in material misstatement due to fraudEvaluating the business rationale for significant unusual transactionsA. I and IIIB. II and IIIC. I and IICorrect D. I, II, and III
Management override of controls can occur in unpredictable ways. Due to this fact, the auditor should perform procedures (in addition to the procedures already performed to address identified risks of material misstatements due to fraud) that include:examining journal entries and other adjustments for evidence of possible material misstatement due to fraud,reviewing accounting estimates for biases that could result in material misstatement due to fraud, andevaluating the business rationale for significant unusual transactions.
Field, CPA, is auditing the financial statements of Miller Mailorder, Inc., (MMI) for the year ended January 31, 20X1. Field has compiled a list of possible errors and fraud that may result in the misstatement of MMI's financial statements, and a corresponding list of internal controls that, if properly designed and implemented, could assist MMI in preventing or detecting the errors and fraud. Select the internal control that most likely could assist MMI in preventing or detecting the sending of an invoice for shipped goods that is not recorded in the sales journal.A. Shipping documents are compared with sales invoices when goods are shipped.B. Approved sales orders are required for goods to be released from the warehouse.C. Shipping clerks compare goods received from the warehouse with approved sales orders.Correct D. Daily sales summaries are compared with control totals of invoices.
Comparing daily sales summaries with control totals of invoices is the best procedure for ensuring that invoices for goods shipped are recorded in the sales journal. Such a comparison would detect differences between the total sales made and recorded. This is an example of an independent check being used as a control. A sale that has not been recorded will result in a sales summary that does not include certain sales invoices.
Analytical procedures are required for which of the following?Correct A. Audit planningB. Tests of balances (adsbygoogle = window.adsbygoogle || []).push({}); C. Client retention decisionD. Internal control evaluation
Analytical procedures are required in two phases in all audits:At the initial planning as part of the risk assessment procedures required in the audit, which also include inquiries of management and others, and observation and inspection. These procedures help the auditor in planning the nature, extent, and timing of audit procedures.As an overall review near the end of the audit to assist the auditor in forming an overall conclusion on whether the financial statements are consistent with the understanding of the entityThe auditor may use analytical procedures as substantive procedures to obtain audit evidence, but it is not required by auditing standards. Tests of balances is such a procedure.
The purpose of audit testsThe purpose of audit tests, or audit procedures, is to allow the auditor to collect sufficient appropriate audit evidence to be able to conclude with reasonable assurance that the financial statements (FS) are free of material misstatement. If sufficient appropriate audit evidence cannot be obtained, or the evidence points to a material misstatement in the FS, the auditor will have to issue a modified audit opinion.Misstatements will find their way into published financial statements only if three events all happen:An error is made in the first place. The risk of that happening is known as ‘inherent risk’, and assessing that is a very big part of audit planning (not the subject of this article).The client’s internal control system does not prevent, identify or correct the error. This is known as ‘control risk’.The auditor does not detect the error during the audit. This is known as ‘detection risk’.There are therefore two lines of defence preventing an error that has occurred from ending up in the published FS: the internal control system and the work auditor carries out.If the client’s internal control system is good, there is a reduced likelihood that there will be an error in the FS and the auditor will reduce the amount of audit work to be carried out. If the internal control system is poor, the auditor will have to perform much more work as the audit is the only defence left against a material misstatement appearing in the published FS.Therefore, the auditor must:Assess the effectiveness of the internal control system. This means investigating both its design and its operation. The operation of the internal controls is assessed by carrying out tests of control.Obtain additional, direct evidence about the amounts shown in the FS. This evidence is obtained using substantive testing.Consider the receivables amount in the SOFP. One way in which this could be misstated would be if it were incorrectly valued, perhaps because a large balance was owed by a customer who was unlikely to pay. The controls that would help to prevent that include:Take up credit references on new customers.Establish a credit limit.Producing aged receivables analyses.The follow up amounts that are not paid on time.The operation of these controls needs to be tested. For example:Look at the client’s files where credit references are kept to ensure that every customer was investigated. The auditor would inspect the references.Look for evidence of new orders being rejected if they would breach the credit limit. This could be tested by inspecting copies of notifications sent to customers. The auditor might also consider using test data to observe if an order exceeding the credit limit is actually rejected.Inspecting notes made by the credit controller of conversations held with slow payers and perhaps enquiring about the follow-up procedures that are carried out.Each of these audit tests are testing a control or control procedure. They are therefore tests of control. These tests are not investigating the receivables balance in the SOFP. I repeat, a test of control tests controls, not amounts in the FS.Tests of control can be grouped into:Enquiry and confirmation. For example, ask the credit controller about the way in which customers are encouraged to pay and ask how these customers are identified and how often they are followed up. This is a relatively weak source of evidence because the credit controller might exaggerate his or her efforts.Inspection. For example, the credit references or notes made by the credit controller of conversations.Observation. For example, observing the credit controller at work.Recalculation and reperformance. For example, ensuring that the aged receivables analysis seems to be accurate.Even when internal control systems are very good, the auditor will always carry out tests on the figures in the FS. The work has to address all the assertions made by each material figure. For example, valuation, completeness, existence etc. These tests are substantive tests and consist of:Analytical procedures andTests of detail.So, staying with receivables, the auditor would calculate the receivables collection period. If this were not too large and broadly in line with previous periods, the auditor would have gained some evidence about valuation (ie most debts not very old).Tests of detail would include:Writing to customers asking them to confirm the amount owed (existence and ownership).Tracing, by inspection, some sales invoices to the Dr side of customers’ accounts (existence and ownership).Observation/inspection of amounts received after year end. This gives evidence about valuation because if a payment is received subsequently the debt was obviously not bad.Recalculation of bad debt provisions.Substantive tests therefore include analytical procedures in addition to the four classes of audit procedures available for testing controls, so giving the well-known mnemonic AEIOU:Analytical proceduresEnquiry and confirmationInspectionObservationRecalcUlation and reperformanceRemember if the tests of control show that controls are not operating correctly, the auditor will have to increase the substantive tests. For example, if the client does little to assess customers’ credit worthiness to ensure, as far as possible, that debts are recoverable, the auditor will have to do much more work on the receivables figure in the SOFP to be satisfied that the amount is valued at a true and fair amount.
Which of the following controls is most effective in assuring that recorded purchases are free of material errors?
Which of the following controls most likely would assist in reducing the risks of material misstatement related to the existence of manufactured products?
What is free from material misstatement?
How do you assess risk of material misstatement?

All of the answer choices are correct. Performing a walkthrough is an efficient way of:understanding the flow of transactions in the entity, including how the transactions are initiated, authorized, processed, and recorded,verifying that the auditor has identified the points within the entity's processes at which a material misstatement could arise (including misstatements due to fraud),identifying the controls that management has implemented to address potential misstatements, andidentifying the controls that management has implemented to prevent or timely detect unauthorized acquisition, use, or disposition of company assets that could result in a material misstatement of the financial statements.

Ineffective general controls by themselves:always cause misstatements.never cause misstatements.could cause misstatements.could allow misstatements.

never cause misstatements.could allow misstatements.Ineffective general controls by themselves do not cause misstatements; however, they can permit application controls to operate improperly and allow misstatements to occur.

When testing journal entries, the auditor should focus on journal entries:made during the end of a reporting period, as fraudulent entries are made during that time.made throughout the reporting period, as material misstatements are made during that timeA. I onlyB. II onlyCorrect C. Both I and IID. Neither I nor II

The auditor must make a determination based on the risk that exists during the audit. Because fraudulent journal entries often are made at the end of a reporting period, the auditor's testing ordinarily should focus on the journal entries and other adjustments made at that time. However, because material misstatements in financial statements due to fraud can occur throughout the period and may involve extensive efforts to conceal how it is accomplished, the auditor should consider whether there also is a need to test journal entries throughout the period under audit.

Which of the following internal control procedures most likely would be used to maintain accurate inventory records?A. Perpetual inventory records are periodically compared with the current cost of individual inventory items.B. A just-in-time inventory ordering system keeps inventory levels to a desired minimum.C. Requisitions, receiving reports, and purchase orders are independently matched before payment is approved.Correct D. Periodic inventory counts are used to adjust the perpetual inventory records.

In this situation, an auditor would be concerned about the valuation and allocation assertion for a specific account balance at a point in time. That assertion states that assets, liabilities, and equity interests are included in the financial statements at appropriate amounts and any resulting valuation or allocation adjustments are appropriately recorded.Comparing perpetual inventory records with the current cost of individual inventory items does not address the value of the inventory when purchased.A just-in-time inventory ordering system does not provide any indication of what is in inventory at a point in time.Matching requisitions, receiving reports, and purchase orders before payment is approved does not provide information as to the inventory items on hand at a certain period of time.The best answer choice is using periodic inventory counts to adjust perpetual inventory records. Periodic counts assure that the proper number of inventory items is included in the financial records and those accounts are then compared to perpetual inventory records, which should have the appropriate cost accounted for such items.

An auditor is evaluating a client's internal controls. Which of the following situations would be the most difficult internal control issue for an auditor to detect?A. The accounting staff neglects the control, due to increased transactions to be processed.B. The technology department writes a program that does not properly implement the control, due to a lack of understanding.Correct C. Two employees, who work in different departments, are circumventing an internal control.D. Someone erroneously disables edit checks in a software program designed to identify control exceptions.

Segregation of duties is a cornerstone of effective internal controls and the deterrence of fraud. Management relies on each individual to be independent and act as a check or balance. Collusion is an agreement to act together, especially for fraudulent or deceitful purposes. Collusion is especially difficult to detect. In collusion, the internal controls are operating effectively, but two employees work together to override the internal controls.In the situation where the accounting staff neglects the control, due to increased transactions to be processed, the increased number of transactions may alert the auditor to the internal control issue. Software problems that cause internal control deficiencies may be detected when the auditor identifies risks and controls within the client's IT system.

Which of the following factors most likely would heighten an auditor's concern about the risk of fraudulent financial reporting?A. Large amounts of liquid assets that are easily convertible into cashIncorrect B. Low growth and profitability as compared to other entity's in the same industryC. Financial management's participation in the initial selection of accounting principlesD. An overly complex organizational structure involving unusual lines of authority

The risk of fraudulent financial reporting increases with the complexity of the organizational structure. Unusual lines of authority may also be a red flag because they may indicate undue influence on an operating unit from the corporate headquarters.Large amounts of liquid assets have a high risk of theft, not a risk of fraudulent financial reporting.Some of the fraud risk factors relating to management's characteristics include the following (AU-C 240.A75):Domination of management by a single person or small group without compensating controlsManagement failure to correct known significant deficiencies or material weaknesses in internal control on a timely basisManagement's excessive interest in maintaining or increasing the entity's stock price or earnings trendNonfinancial management's excessive participation in the selection of accounting principles

Which of the following controls would be most effective in assuring that recorded purchases are free of material errors?A. The receiving department compares the quantity ordered on purchase orders with the quantity received on receiving reports.B. Vendors’ invoices are compared with purchase orders by an employee who is independent of the receiving department.C. Receiving reports require the signature of the individual who authorized the purchase.Correct D. Purchase orders, receiving reports, and vendors’ invoices are independently matched in preparing vouchers.

This question is concerned with the accuracy assertion about a class of transactions. This assertion ensures that amounts and other data relating to recorded transactions and events have been properly recorded.The receiving department comparing the quantity ordered on purchase orders to the quantity received has nothing to do with determining if a purchase is properly recorded. The same could be said of comparing vendors’ invoices with purchase orders by an employer who is independent of the receiving department and receiving reports requiring the signature of the individual who authorized the purchase. Only matching the purchase orders, receiving reports, and vendors' invoices with vouchers can assure that recorded purchases are free of material error.

Tests designed to detect credit sales made before the end of the year that have been recorded in the subsequent year provide assurance about management's assertion of:A. presentation.Correct B. cutoff. C. completeness.D. existence.

Assertions about cutoff deal with recording items in the proper period. Completeness deals with whether all transactions and accounts that should be presented in the financial statements are included.In this case, the sales have been recorded, so the records are complete, but they have been recorded in the incorrect period, which is a cutoff issue.

Which of the following is an example of discrepancies in accounting records that could be used to assess the risk of material misstatement due to fraud?Incorrect A. Inconsistent, vague, or implausible responses from management or employees arising from inquiries or analytical proceduresB. Evidence of employees' access to systems and records inconsistent with that necessary to perform their authorized duties (adsbygoogle = window.adsbygoogle || []).push({}); C. Unusual discrepancies between the entity's records and confirmation repliesD. Unavailable or missing electronic evidence, inconsistent with the entity's record retention practices or policies

Examples of discrepancies in accounting records that could be used to assess the risk of material misstatement due to fraud include the following: Transactions that are not recorded in a complete or timely manner or are improperly recorded as to amount, accounting period, classification, or entity policyUnsupported or unauthorized balances or transactionsLast-minute adjustments that significantly affect financial resultsEvidence of employees' access to systems and records inconsistent with that necessary to perform their authorized dutiesTips or complaints to the auditor about alleged fraudThe other answer choices are examples of conflicting or missing evidential matter that could be used to assess the risk of material misstatement due to fraud.

Which of the following analytical procedures most likely would be used during the planning stage of an audit?Correct A. Comparing current-year to prior-year sales volumesB. Reading the financial statements and notes and considering the adequacy of evidenceC. Comparing the current-year ratio of aggregate salaries paid to the number of employees to the prior year's ratioD. Reading the letter from the client's attorney and considering the threat of litigation

Analytical procedures used in planning the audit may be helpful in identifying the existence of unusual transactions or events, and amounts, ratios, and trends that might indicate matters that have financial statement and audit implications. These procedures are usually performed at a high level; for example, comparing current-year to prior-year sales volumes.Comparing the current-year ratio of aggregate salaries paid to the number of employees to the prior year's ratio would be an example of an analytical procedure used as a substantive test (not one used during the planning phase of an audit).Reading the financial statements and considering the adequacy of evidence is not an analytical procedure. Analytical procedures rely on comparisons of recorded amounts, or ratios developed from recorded amounts, to expectations developed by the auditor.Reading the letter from the client's attorney is an important audit procedure, but it is not an analytical procedure.

Which of the following is a management control method that most likely could improve management's ability to supervise company activities effectively?A. Monitoring compliance with internal control requirements imposed by regulatory bodiesB. Limiting direct access to assets by physical segregation and protective devicesCorrect C. Establishing budgets and forecasts to identify variances from expectationsD. Supporting employees with the resources necessary to discharge their responsibiliti

The problem asks which management control method could most likely improve management's ability to supervise company activities effectively. This goal requires a control technique that communicates and monitors management's expectations regarding all of the company's activities.Monitoring compliance with internal controls imposed by regulatory bodies could improve the effectiveness in that particular area but it would not enhance management's ability to supervise the company's activities. Limiting direct access to assets would improve control over assets but this also would not improve management's ability to supervise the company's activities. Supporting employees with necessary resources would certainly aid in the accomplishment of company activities but would do nothing to help management's ability to supervise those activities. Of all the answers provided, using budgets and forecasts and monitoring variances from them is the only management control method that could most likely improve management's ability to supervise company activities effectively.

Which of the following factors is most relevant when an auditor considers the client's organizational structure in the context of control risk?A. Management's attitude toward information processing and accounting departmentsB. The organization's recruiting and hiring practicesC. Physical proximity of the accounting function to upper managementCorrect D. The suitability of the client's lines of reporting

An organizational structure refers to how divisions, departments, and positions link together in authority, responsibility, and communication. Only one answer choice deals with the organizational structure: “The suitability of the client's lines of reporting.” It is important that employees “understand how their activities in the financial reporting information system relate to the work of others and the means of reporting exceptions to an appropriate higher level within the entity” (AU-C 315.A89). Clear lines of authority and responsibility are also very important in an EDP (electronic data processing) environment due to the potential access of data by multiple users. The auditor is looking for information on how the entity's activities for achieving its objectives are planned, executed, controlled, and reviewed.The physical proximity of the accounting function to upper management would not be a consideration for the auditor.Management's attitude toward information processing and accounting departments, as well as the organization's recruiting and hiring practices, are factors that would provide information to the auditor regarding management's philosophy and operating style and human resource policies. The auditor would use this information to understand the overall “tone” of the organization.

As lower acceptable levels of both audit risk and materiality are established, the auditor should plan more work on individual accounts to:Correct A. find smaller errors.B. find larger errors.C. increase the tolerable error in the accounts.D. decrease the risk of overreliance.

If in an audit engagement, the acceptable levels of both audit risk and materiality are lower, the auditor will plan more work on individual accounts in order to find smaller errors.AU-C 300.02 gives us the strategy of establishing an audit:

An auditor obtains sufficient understanding by performing risk assessment procedures to evaluate the design of controls relevant to an audit to:A. identify types of potential misstatements.B. consider factors that affect the risks of material misstatement.C. design tests of controls, when applicable, and substantive procedures.Correct D. All of the answer choices are correct.

The auditor should obtain a sufficient understanding by performing risk assessment procedures to evaluate the design of controls relevant to an audit of financial statements and to determine whether they have been implemented. The auditor should use such knowledge to:identify types of potential misstatements,consider factors that affect the risks of material misstatement, anddesign tests of controls, when applicable, and substantive procedures.

The only way to determine risk within an organization is through:A. observation and inspection.B. inspection and interrogation.Incorrect C. observation, inspection, and interrogation.D. None of the answer choices are correct.

Be careful of the word “only.” Observation and inspection are ways to support inquiries (interrogation) of management, but other empirical evidence may be available.Risk assessment procedures include:inquiries of management and others within the entity,analytical procedures, andobservation and inspection.In addition, the auditor may perform other procedures where the information obtained may be helpful in identifying risks of material misstatement. These procedures may include inquiries of others outside the entity (such as legal counsel), reviewing information from external sources (such as reports by analysts or banks), or reviewing trade journals or regulatory publications.

Management override of controls can occur in unpredictable ways. Due to this fact, the auditor should perform procedures, in addition to the procedures already performed to address identified risks of material misstatements due to fraud, that include which of the following?Examining journal entries and other adjustments for evidence of possible material misstatement due to fraudReviewing accounting estimates for biases that could result in material misstatement due to fraudEvaluating the business rationale for significant unusual transactionsA. I and IIIB. II and IIIC. I and IICorrect D. I, II, and III

Management override of controls can occur in unpredictable ways. Due to this fact, the auditor should perform procedures (in addition to the procedures already performed to address identified risks of material misstatements due to fraud) that include:examining journal entries and other adjustments for evidence of possible material misstatement due to fraud,reviewing accounting estimates for biases that could result in material misstatement due to fraud, andevaluating the business rationale for significant unusual transactions.

Field, CPA, is auditing the financial statements of Miller Mailorder, Inc., (MMI) for the year ended January 31, 20X1. Field has compiled a list of possible errors and fraud that may result in the misstatement of MMI's financial statements, and a corresponding list of internal controls that, if properly designed and implemented, could assist MMI in preventing or detecting the errors and fraud. Select the internal control that most likely could assist MMI in preventing or detecting the sending of an invoice for shipped goods that is not recorded in the sales journal.A. Shipping documents are compared with sales invoices when goods are shipped.B. Approved sales orders are required for goods to be released from the warehouse.C. Shipping clerks compare goods received from the warehouse with approved sales orders.Correct D. Daily sales summaries are compared with control totals of invoices.

Comparing daily sales summaries with control totals of invoices is the best procedure for ensuring that invoices for goods shipped are recorded in the sales journal. Such a comparison would detect differences between the total sales made and recorded. This is an example of an independent check being used as a control. A sale that has not been recorded will result in a sales summary that does not include certain sales invoices.

Analytical procedures are required for which of the following?Correct A. Audit planningB. Tests of balances (adsbygoogle = window.adsbygoogle || []).push({}); C. Client retention decisionD. Internal control evaluation

Analytical procedures are required in two phases in all audits:At the initial planning as part of the risk assessment procedures required in the audit, which also include inquiries of management and others, and observation and inspection. These procedures help the auditor in planning the nature, extent, and timing of audit procedures.As an overall review near the end of the audit to assist the auditor in forming an overall conclusion on whether the financial statements are consistent with the understanding of the entityThe auditor may use analytical procedures as substantive procedures to obtain audit evidence, but it is not required by auditing standards. Tests of balances is such a procedure.

The purpose of audit testsThe purpose of audit tests, or audit procedures, is to allow the auditor to collect sufficient appropriate audit evidence to be able to conclude with reasonable assurance that the financial statements (FS) are free of material misstatement. If sufficient appropriate audit evidence cannot be obtained, or the evidence points to a material misstatement in the FS, the auditor will have to issue a modified audit opinion.Misstatements will find their way into published financial statements only if three events all happen:An error is made in the first place. The risk of that happening is known as ‘inherent risk’, and assessing that is a very big part of audit planning (not the subject of this article).The client’s internal control system does not prevent, identify or correct the error. This is known as ‘control risk’.The auditor does not detect the error during the audit. This is known as ‘detection risk’.There are therefore two lines of defence preventing an error that has occurred from ending up in the published FS: the internal control system and the work auditor carries out.If the client’s internal control system is good, there is a reduced likelihood that there will be an error in the FS and the auditor will reduce the amount of audit work to be carried out. If the internal control system is poor, the auditor will have to perform much more work as the audit is the only defence left against a material misstatement appearing in the published FS.Therefore, the auditor must:Assess the effectiveness of the internal control system. This means investigating both its design and its operation. The operation of the internal controls is assessed by carrying out tests of control.Obtain additional, direct evidence about the amounts shown in the FS. This evidence is obtained using substantive testing.Consider the receivables amount in the SOFP. One way in which this could be misstated would be if it were incorrectly valued, perhaps because a large balance was owed by a customer who was unlikely to pay. The controls that would help to prevent that include:Take up credit references on new customers.Establish a credit limit.Producing aged receivables analyses.The follow up amounts that are not paid on time.The operation of these controls needs to be tested. For example:Look at the client’s files where credit references are kept to ensure that every customer was investigated. The auditor would inspect the references.Look for evidence of new orders being rejected if they would breach the credit limit. This could be tested by inspecting copies of notifications sent to customers. The auditor might also consider using test data to observe if an order exceeding the credit limit is actually rejected.Inspecting notes made by the credit controller of conversations held with slow payers and perhaps enquiring about the follow-up procedures that are carried out.Each of these audit tests are testing a control or control procedure. They are therefore tests of control. These tests are not investigating the receivables balance in the SOFP. I repeat, a test of control tests controls, not amounts in the FS.Tests of control can be grouped into:Enquiry and confirmation. For example, ask the credit controller about the way in which customers are encouraged to pay and ask how these customers are identified and how often they are followed up. This is a relatively weak source of evidence because the credit controller might exaggerate his or her efforts.Inspection. For example, the credit references or notes made by the credit controller of conversations.Observation. For example, observing the credit controller at work.Recalculation and reperformance. For example, ensuring that the aged receivables analysis seems to be accurate.Even when internal control systems are very good, the auditor will always carry out tests on the figures in the FS. The work has to address all the assertions made by each material figure. For example, valuation, completeness, existence etc. These tests are substantive tests and consist of:Analytical procedures andTests of detail.So, staying with receivables, the auditor would calculate the receivables collection period. If this were not too large and broadly in line with previous periods, the auditor would have gained some evidence about valuation (ie most debts not very old).Tests of detail would include:Writing to customers asking them to confirm the amount owed (existence and ownership).Tracing, by inspection, some sales invoices to the Dr side of customers’ accounts (existence and ownership).Observation/inspection of amounts received after year end. This gives evidence about valuation because if a payment is received subsequently the debt was obviously not bad.Recalculation of bad debt provisions.Substantive tests therefore include analytical procedures in addition to the four classes of audit procedures available for testing controls, so giving the well-known mnemonic AEIOU:Analytical proceduresEnquiry and confirmationInspectionObservationRecalcUlation and reperformanceRemember if the tests of control show that controls are not operating correctly, the auditor will have to increase the substantive tests. For example, if the client does little to assess customers’ credit worthiness to ensure, as far as possible, that debts are recoverable, the auditor will have to do much more work on the receivables figure in the SOFP to be satisfied that the amount is valued at a true and fair amount.

123 Which of the following controls is most effective in assuring that recorded purchases are free of material errors?

Which of the following controls would be most effective in assuring that recorded purchases are free of material errors? Purchase orders, receiving reports, and vendors' invoices are independently matched in preparing vouchers.

Which of the following controls most likely would assist in reducing the risks of material misstatement related to the existence or occurrence of manufacturing transactions? Perpetual inventory records are independently compared with goods on hand. Signs the checks last.

What is free from material misstatement?

“The auditor's objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement.” That is the opening comment on the Financial Reporting Council's (FRC) description of an auditor's responsibility in respect of financial statements.

How do you assess risk of material misstatement?

In identifying and assessing risks of material misstatement, the auditor should: Identify risks of misstatement using information obtained from performing risk assessment procedures (as discussed in paragraphs . 04-. 58) and considering the characteristics of the accounts and disclosures in the financial statements.

Which of the following controls would most effectively ensure that recorded purchases are free of material misstatements?

Ineffective general controls by themselves:always cause misstatements.never cause misstatements.could cause misstatements.could allow misstatements.

never cause misstatements.could allow misstatements.Ineffective general controls by themselves do not cause misstatements; however, they can permit application controls to operate improperly and allow misstatements to occur.

Tests designed to detect credit sales made before the end of the year that have been recorded in the subsequent year provide assurance about management's assertion of:A. presentation.Correct B. cutoff. C. completeness.D. existence.

As lower acceptable levels of both audit risk and materiality are established, the auditor should plan more work on individual accounts to:Correct A. find smaller errors.B. find larger errors.C. increase the tolerable error in the accounts.D. decrease the risk of overreliance.

If in an audit engagement, the acceptable levels of both audit risk and materiality are lower, the auditor will plan more work on individual accounts in order to find smaller errors.AU-C 300.02 gives us the strategy of establishing an audit:

The only way to determine risk within an organization is through:A. observation and inspection.B. inspection and interrogation.Incorrect C. observation, inspection, and interrogation.D. None of the answer choices are correct.

Analytical procedures are required for which of the following?Correct A. Audit planningB. Tests of balances (adsbygoogle = window.adsbygoogle || []).push({}); C. Client retention decisionD. Internal control evaluation

123

Which of the following controls is most effective in assuring that recorded purchases are free of material errors?

Which of the following controls most likely would assist in reducing the risks of material misstatement related to the existence of manufactured products?

What is free from material misstatement?

How do you assess risk of material misstatement?

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