Solution Manual For Auditing and Assurance Services 9th Edition by Timothy Louwers, Penelope Bagley Verified Chapter's 1 - 12 Complete.docx
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Solution Manual For Auditing and Assurance Services 9th Edition by Timothy Louwers, Penelope Bagley Verified Chapter's 1 - 12 Complete.docx
Solution Manual For Auditing and Assurance Services 9th Edition by Timothy Louwers, Penelope Bagley Verified Chapter's 1 - 12 Complete.docx
Solution Man...
Slide Content
Chapter 01 - Auditing and Assurance Services
Solution Manual For Auditing & Assurance
Services 9th Edition by Timothy Louwers,
Penelope Bagley
Solution Manual For Auditing & Assurance
Services 9th Edition by Timothy Louwers,
Penelope Bagley
Chapter 01 - Auditing and Assurance Services
CHAPTER 01
Auditing and Assurance Services
LEARNING OBJECTIVES
Review
Checkpoints
Multiple
Choice
Exercises,
Problems, and
Simulations
1. Define information risk and explain how
the financial statement auditing process
helps to reduce this risk, thereby
reducing the cost of capital for a
company.
1, 2, 3 29, 31, 38 65*
2. Define and contrast assurance,
attestation,
and financial statement auditing services.
4, 5, 6, 7, 8 23, 25, 28, 44,
50
60, 65*
3. Describe and define the assertions that
management makes about the
recognition, measurement, presentation,
and disclosure of the financial statements
and explain why auditors use them as a
focal point of the audit.
9, 10, 11 36, 39, 40, 41,
45,
46, 47, 48, 49,
52,
53, 54, 55, 57,
58,
59
62, 63, 67, 68, 69
4. Define professional skepticism and
explain its key characteristics.
12 24, 37 61
5. Describe the organization of public
accounting firms and identify the various
services that they offer.
13, 14 30, 42, 56 72
6. Describe the audits and auditors in
governmental, internal, and
operational auditing.
15, 16, 17, 18 26, 27, 32, 34, 35 64, 66
7. List and explain the requirements for
becoming a certified public accountant
(CPA) and other certifications available
to an accounting professional.
19, 20, 21, 22 33, 43, 51 70, 71
(*) Item relates to multiple learning objectives
CHAPTER 01
Auditing and Assurance Services
LEARNING OBJECTIVES
Review
Checkpoints
Multiple
Choice
Exercises,
Problems, and
Simulations
1. Define information risk and explain how
the financial statement auditing process
helps to reduce this risk, thereby
reducing the cost of capital for a
company.
1, 2, 3 29, 31, 38 65*
2. Define and contrast assurance,
attestation,
and financial statement auditing services.
4, 5, 6, 7, 8 23, 25, 28, 44,
50
60, 65*
3. Describe and define the assertions that
management makes about the
recognition, measurement, presentation,
and disclosure of the financial statements
and explain why auditors use them as a
focal point of the audit.
9, 10, 11 36, 39, 40, 41,
45,
46, 47, 48, 49,
52,
53, 54, 55, 57,
58,
59
62, 63, 67, 68, 69
4. Define professional skepticism and
explain its key characteristics.
12 24, 37 61
5. Describe the organization of public
accounting firms and identify the various
services that they offer.
13, 14 30, 42, 56 72
6. Describe the audits and auditors in
governmental, internal, and
operational auditing.
15, 16, 17, 18 26, 27, 32, 34, 35 64, 66
7. List and explain the requirements for
becoming a certified public accountant
(CPA) and other certifications available
to an accounting professional.
19, 20, 21, 22 33, 43, 51 70, 71
(*) Item relates to multiple learning objectives
Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR REVIEW CHECKPOINTS
1.1 Business risk is the risk that an entity will fail to meet its business objectives. When
assessing business risk, a professional must consider all possible threats to an entity‘s goals
and objectives. Some illustrative examples include the risk that: 1) its existing customers will
start buying products or services from its primary competitors; 2) its product lines will become
obsolete; 3) its taxes will increase; 4) key government contracts will be lost; 5) key employees
will leave the entity; and many other examples exist.
1.2 To help minimize business risk and take advantage of other opportunities presented in today‘s
competitive business environment, decision makers such as chief executive officers (CEOs)
demand timely, relevant, and reliable information. There are at least four environmental
conditions that increase demand for reliable information. First, complexity which implies that
events and transactions in today‘s global business environment can be complicated. Most
investors do not have the level of expertise needed to properly account for complex transactions.
Second is remoteness which implies that decision makers are often separated from current and
potential business relationships due to distance and time. For example, investors may not be able
to visit distant locations to check up on their investments. Third is time-sensitivity which implies
that in today‘s economic environment, investors and other users of financial statements need to
make decisions more rapidly than ever before. As a result, the ability to promptly obtain high-
quality information is essential. Fourth is a consequence which implies that decisions may very
well involve significant investments. As a result, the consequences can be severe if information
cannot be obtained
1.3 Of all the different risks discussed in the chapter up to this point, information risk is the one that
is most likely to create the demand for independent and objective assurance services is
information risk or the probability that the information circulated by an entity will be false or
misleading. Because the primary source of information for investors and creditors is the
company itself, an incentive exists for that company‘s management to make their business or
service appear to be better than it actually may be, to put their best foot forward. As a result,
preparers and issuers of financial information (directors, managers, accountants, and other
people employed in a business) might benefit by giving false, misleading, or overly optimistic
information. This potential conflict of interest between information providers and users which
provides the underlying basis for the demand for reliable information.
1.4 The four major elements of the broad definition of assurance services are
Independence. CPAs want to preserve their reputation and competitive advantage by always
preserving integrity and objectivity when performing assurance services.
Professional services. Virtually all work performed by CPAs is defined as ―professional services‖
as long as it involves some element of judgment based on education and experience.
Improving the quality of information or its context. The emphasis is on ―information,‖ CPAs‘
traditional area of expertise. CPAs can enhance quality by assuring users about the reliability
and relevance of information, and these two features are closely related to the familiar credibility-
lending products of attestation and audit services. ―Context‖ is relevance in a different light. For
assurance services, improving the context of information refers to improving its usefulness when
targeted to particular decision makers in the surroundings of particular decision problems.
For decision makers. As the ―consumers‖ of assurance services, decision makers are the
beneficiaries of the assurance services. Decision makers may or may not be the ―client‖ that
pays the fee and may or may not be one of the parties to an assertion or other information, but
they personify the consumer focus of new and different professional work.
1.5 An assurance services engagement is any assignment that improves the quality of information,
or its context, for decision makers. Because information (e.g., financial statements) are prepared
by managers of an entity who have authority and responsibility for financial success or failure, an
outsider may be skeptical that the information truly is objective, free from bias, fully informative,
and free from material error, intentional or inadvertent. The services of an independent auditor
helps resolve those doubts because the
SOLUTIONS FOR REVIEW CHECKPOINTS
1.1 Business risk is the risk that an entity will fail to meet its business objectives. When
assessing business risk, a professional must consider all possible threats to an entity‘s goals
and objectives. Some illustrative examples include the risk that: 1) its existing customers will
start buying products or services from its primary competitors; 2) its product lines will become
obsolete; 3) its taxes will increase; 4) key government contracts will be lost; 5) key employees
will leave the entity; and many other examples exist.
1.2 To help minimize business risk and take advantage of other opportunities presented in today‘s
competitive business environment, decision makers such as chief executive officers (CEOs)
demand timely, relevant, and reliable information. There are at least four environmental
conditions that increase demand for reliable information. First, complexity which implies that
events and transactions in today‘s global business environment can be complicated. Most
investors do not have the level of expertise needed to properly account for complex transactions.
Second is remoteness which implies that decision makers are often separated from current and
potential business relationships due to distance and time. For example, investors may not be able
to visit distant locations to check up on their investments. Third is time-sensitivity which implies
that in today‘s economic environment, investors and other users of financial statements need to
make decisions more rapidly than ever before. As a result, the ability to promptly obtain high-
quality information is essential. Fourth is a consequence which implies that decisions may very
well involve significant investments. As a result, the consequences can be severe if information
cannot be obtained
1.3 Of all the different risks discussed in the chapter up to this point, information risk is the one that
is most likely to create the demand for independent and objective assurance services is
information risk or the probability that the information circulated by an entity will be false or
misleading. Because the primary source of information for investors and creditors is the
company itself, an incentive exists for that company‘s management to make their business or
service appear to be better than it actually may be, to put their best foot forward. As a result,
preparers and issuers of financial information (directors, managers, accountants, and other
people employed in a business) might benefit by giving false, misleading, or overly optimistic
information. This potential conflict of interest between information providers and users which
provides the underlying basis for the demand for reliable information.
1.4 The four major elements of the broad definition of assurance services are
Independence. CPAs want to preserve their reputation and competitive advantage by always
preserving integrity and objectivity when performing assurance services.
Professional services. Virtually all work performed by CPAs is defined as ―professional services‖
as long as it involves some element of judgment based on education and experience.
Improving the quality of information or its context. The emphasis is on ―information,‖ CPAs‘
traditional area of expertise. CPAs can enhance quality by assuring users about the reliability
and relevance of information, and these two features are closely related to the familiar credibility-
lending products of attestation and audit services. ―Context‖ is relevance in a different light. For
assurance services, improving the context of information refers to improving its usefulness when
targeted to particular decision makers in the surroundings of particular decision problems.
For decision makers. As the ―consumers‖ of assurance services, decision makers are the
beneficiaries of the assurance services. Decision makers may or may not be the ―client‖ that
pays the fee and may or may not be one of the parties to an assertion or other information, but
they personify the consumer focus of new and different professional work.
1.5 An assurance services engagement is any assignment that improves the quality of information,
or its context, for decision makers. Because information (e.g., financial statements) are prepared
by managers of an entity who have authority and responsibility for financial success or failure, an
outsider may be skeptical that the information truly is objective, free from bias, fully informative,
and free from material error, intentional or inadvertent. The services of an independent auditor
helps resolve those doubts because the
Chapter 01 - Auditing and Assurance Services
auditor‘s success depends upon his or her independent, objective, and competent assessment
of the information (e.g., the conformity of the financial statements with the appropriate reporting
framework). The independent auditor‘s role is to lend credibility to the information; hence, the
outsider will likely seek his or her independent opinion about the financial statements.
1.6 An attestation engagement is ―an engagement in which a practitioner is engaged to issue or
does issue a written communication that expresses a conclusion about the reliability of a
written assertion that is the responsibility of another party‖ (SSAE 10, AT 101.01). To attest
means to lend credibility or to vouch for the truth or accuracy of the statements that one party
makes to another. The attest function is a term often applied to the activities of independent
CPAs when acting as auditors of financial statements.
1.7 An assurance service engagement is one that improves the quality of information, or its context,
for decision makers. Thus, an attestation service engagement is one type of an assurance
service. Another way of thinking about the issue is to remember that the financial statement audit
engagement is one type of an attestation service. Please see exhibit 1.3 in the text which depicts
the relationship among assurance, attestation, and auditing engagements.
1.8 According to the American Accounting Association, ―Auditing is a systematic process of
objectively obtaining and evaluating evidence regarding assertions about economic actions and
events to ascertain the degree of correspondence between the assertions and established
criteria and communicating the results to interested users.‖ In effect, auditors add reliability to
the information that is provided to interested users. Of course, this definition is focused on an
external reporting context. Students may also discuss how governmental and internal auditors
operate as well.
In response to ―What do auditors do?‖ students can respond by stating that auditors (1) obtain
and evaluate evidence about assertions made by management about economic actions and
events, (2) ascertain the degree of correspondence between the assertions and the appropriate
reporting framework, and (3) issue an audit report (opinion). Students can also respond more
generally by stating that auditors essentially lend credibility to the financial statements presented
by management.
1.9 Financial accounting refers to the process of recording, classifying, summarizing, and reporting
about a company‘s assets, liabilities, capital, revenues, and expenses in the financial statements
in accordance with the applicable financial reporting framework (e.g., GAAP). In so doing, the
management team is making several assertions about the financial statements. The financial
accounting process is the responsibility of the management team.
Financial statement auditing refers to the process whereby professional auditors gather
evidence related to the assertions that management makes in the financial statements,
evaluates the evidence and concludes on the fairness of the financial statements in a report.
They differ because accountants produce the financial statements in accordance with the
applicable financial reporting framework. After this is complete, financial statement auditors then
perform procedures to ascertain whether the financial statements have been prepared in
accordance with the applicable financial reporting framework.
1.10 The two major classifications of ASB assertions with several assertions in each
classification are: Assertions About Classes of Transactions and Events, and Related
Disclosures
Occurrence assertion: The objective is to establish with evidence that transactions giving rise to
assets, liabilities, sales, and expenses occurred. Key questions include ―Did the recorded sales
transactions really occur?‖
Completeness assertion: The objective is to establish with evidence that all transactions of the
period that should be are included in the financial statements (including footnotes).
Completeness also refers to proper inclusion in financial statements of all revenue, expense, and
auditor‘s success depends upon his or her independent, objective, and competent assessment
of the information (e.g., the conformity of the financial statements with the appropriate reporting
framework). The independent auditor‘s role is to lend credibility to the information; hence, the
outsider will likely seek his or her independent opinion about the financial statements.
1.6 An attestation engagement is ―an engagement in which a practitioner is engaged to issue or
does issue a written communication that expresses a conclusion about the reliability of a
written assertion that is the responsibility of another party‖ (SSAE 10, AT 101.01). To attest
means to lend credibility or to vouch for the truth or accuracy of the statements that one party
makes to another. The attest function is a term often applied to the activities of independent
CPAs when acting as auditors of financial statements.
1.7 An assurance service engagement is one that improves the quality of information, or its context,
for decision makers. Thus, an attestation service engagement is one type of an assurance
service. Another way of thinking about the issue is to remember that the financial statement audit
engagement is one type of an attestation service. Please see exhibit 1.3 in the text which depicts
the relationship among assurance, attestation, and auditing engagements.
1.8 According to the American Accounting Association, ―Auditing is a systematic process of
objectively obtaining and evaluating evidence regarding assertions about economic actions and
events to ascertain the degree of correspondence between the assertions and established
criteria and communicating the results to interested users.‖ In effect, auditors add reliability to
the information that is provided to interested users. Of course, this definition is focused on an
external reporting context. Students may also discuss how governmental and internal auditors
operate as well.
In response to ―What do auditors do?‖ students can respond by stating that auditors (1) obtain
and evaluate evidence about assertions made by management about economic actions and
events, (2) ascertain the degree of correspondence between the assertions and the appropriate
reporting framework, and (3) issue an audit report (opinion). Students can also respond more
generally by stating that auditors essentially lend credibility to the financial statements presented
by management.
1.9 Financial accounting refers to the process of recording, classifying, summarizing, and reporting
about a company‘s assets, liabilities, capital, revenues, and expenses in the financial statements
in accordance with the applicable financial reporting framework (e.g., GAAP). In so doing, the
management team is making several assertions about the financial statements. The financial
accounting process is the responsibility of the management team.
Financial statement auditing refers to the process whereby professional auditors gather
evidence related to the assertions that management makes in the financial statements,
evaluates the evidence and concludes on the fairness of the financial statements in a report.
They differ because accountants produce the financial statements in accordance with the
applicable financial reporting framework. After this is complete, financial statement auditors then
perform procedures to ascertain whether the financial statements have been prepared in
accordance with the applicable financial reporting framework.
1.10 The two major classifications of ASB assertions with several assertions in each
classification are: Assertions About Classes of Transactions and Events, and Related
Disclosures
Occurrence assertion: The objective is to establish with evidence that transactions giving rise to
assets, liabilities, sales, and expenses occurred. Key questions include ―Did the recorded sales
transactions really occur?‖
Completeness assertion: The objective is to establish with evidence that all transactions of the
period that should be are included in the financial statements (including footnotes).
Completeness also refers to proper inclusion in financial statements of all revenue, expense, and
Chapter 01 - Auditing and Assurance Services
related disclosures. Key questions related to
related disclosures. Key questions related to
Chapter 01 - Auditing and Assurance Services
completeness include ―Are the revenue and expense account balances complete?‖ and ―Were
all the transactions that should be included reflected properly in the footnote disclosures?‖
Cutoff assertion: The objective is to establish with evidence that all transactions that properly
belong in the preceding or following accounting periods are excluded. And, that only those
transactions that should be included in the financial statements are included. A key question
related to the cutoff assertion includes
―Were all the transactions recorded in the right period?‖
Accuracy assertion: The objective is to establish with evidence that transactions have been
recorded at the correct amount. Key questions include ―Were the expenses recorded at the
proper dollar amount?‖
Classification assertion: The objective is to establish with evidence that transactions were
posted to the correct accounts. Key questions include ―Was this expense recorded in the
appropriate account?‖
Presentation assertion: The objective is to establish with evidence that the information has been
properly presented and described, and that the disclosures are clearly expressed. Key
questions include ―Was the information in the disclosure properly presented and disclosed?‖
Assertions about Account Balances and Related Disclosures
Existence assertion: The objective is to establish with evidence that the balance represents
assets, liabilities, sales, and expenses that are real and in existence at the balance sheet date.
Key questions include ―Does this number truly represent assets that existed at the balance
sheet date?‖
Completeness assertion: The objective is to establish with evidence that all balances of the period
are in the financial statements. Key questions related to completeness include ―Are the asset
and liability accounts in the financial statements complete?‖
Rights and obligations assertion: The objectives related to rights and obligations are to establish
with evidence that assets are owned (or rights such as capitalized leases are shown) and
liabilities are owed. Key questions related to this assertion include ―Does the company really own
the assets? And ―Are related legal responsibilities identified?‖
Accuracy, Valuation and Allocation assertions: The objective is to establish with evidence that
balances have been valued correctly. Key questions include ―Are the account balances
accurate?‖ ―Are the accounts valued correctly?‖ and ―Are expenses allocated to the period(s)
benefited?‖
Presentation assertion: The objective is to establish with evidence that the balance sheet
amounts, and related footnote disclosures are complete, properly presented and are
understandable to the financial statement users. Key questions relate to ―Is the account
properly presented in the correct financial statement category‖ And, ―are the footnote
disclosures complete and presented to promote an understanding of the nature of the
account?‖
1.11 In general, management‘s financial statement assertions are important to auditors because they
are used when assessing risks by determining the different types of misstatements that could
occur for each assertion related to each significant account and disclosure. Next, auditors use
the assertions to develop audit procedures that are appropriate to mitigate the risk of material
misstatement for each assertion. In essence, the key questions that must be answered about
each of the relevant assertions become the focal points for audit procedures. Audit procedures
are the means to answer the key questions posed by management‘s financial statement
assertions. In fact, the procedures are completed to provide the evidence necessary to persuade
the auditor that there is no material misstatement related to each of the relevant assertions
identified for an engagement.
The ASB assertions differ from the PCAOB assertions in that they provide greater detail and
completeness include ―Are the revenue and expense account balances complete?‖ and ―Were
all the transactions that should be included reflected properly in the footnote disclosures?‖
Cutoff assertion: The objective is to establish with evidence that all transactions that properly
belong in the preceding or following accounting periods are excluded. And, that only those
transactions that should be included in the financial statements are included. A key question
related to the cutoff assertion includes
―Were all the transactions recorded in the right period?‖
Accuracy assertion: The objective is to establish with evidence that transactions have been
recorded at the correct amount. Key questions include ―Were the expenses recorded at the
proper dollar amount?‖
Classification assertion: The objective is to establish with evidence that transactions were
posted to the correct accounts. Key questions include ―Was this expense recorded in the
appropriate account?‖
Presentation assertion: The objective is to establish with evidence that the information has been
properly presented and described, and that the disclosures are clearly expressed. Key
questions include ―Was the information in the disclosure properly presented and disclosed?‖
Assertions about Account Balances and Related Disclosures
Existence assertion: The objective is to establish with evidence that the balance represents
assets, liabilities, sales, and expenses that are real and in existence at the balance sheet date.
Key questions include ―Does this number truly represent assets that existed at the balance
sheet date?‖
Completeness assertion: The objective is to establish with evidence that all balances of the period
are in the financial statements. Key questions related to completeness include ―Are the asset
and liability accounts in the financial statements complete?‖
Rights and obligations assertion: The objectives related to rights and obligations are to establish
with evidence that assets are owned (or rights such as capitalized leases are shown) and
liabilities are owed. Key questions related to this assertion include ―Does the company really own
the assets? And ―Are related legal responsibilities identified?‖
Accuracy, Valuation and Allocation assertions: The objective is to establish with evidence that
balances have been valued correctly. Key questions include ―Are the account balances
accurate?‖ ―Are the accounts valued correctly?‖ and ―Are expenses allocated to the period(s)
benefited?‖
Presentation assertion: The objective is to establish with evidence that the balance sheet
amounts, and related footnote disclosures are complete, properly presented and are
understandable to the financial statement users. Key questions relate to ―Is the account
properly presented in the correct financial statement category‖ And, ―are the footnote
disclosures complete and presented to promote an understanding of the nature of the
account?‖
1.11 In general, management‘s financial statement assertions are important to auditors because they
are used when assessing risks by determining the different types of misstatements that could
occur for each assertion related to each significant account and disclosure. Next, auditors use
the assertions to develop audit procedures that are appropriate to mitigate the risk of material
misstatement for each assertion. In essence, the key questions that must be answered about
each of the relevant assertions become the focal points for audit procedures. Audit procedures
are the means to answer the key questions posed by management‘s financial statement
assertions. In fact, the procedures are completed to provide the evidence necessary to persuade
the auditor that there is no material misstatement related to each of the relevant assertions
identified for an engagement.
The ASB assertions differ from the PCAOB assertions in that they provide greater detail and
Chapter 01 - Auditing and Assurance Services
clarity for auditors to conceptualize the type of misstatements that may exist in the financial
statements. Thus, the PCAOB assertions are more general than the ASB assertions.
Importantly, the PCAOB recognizes that
clarity for auditors to conceptualize the type of misstatements that may exist in the financial
statements. Thus, the PCAOB assertions are more general than the ASB assertions.
Importantly, the PCAOB recognizes that
Chapter 01 - Auditing and Assurance Services
their assertions are more general and do allow auditors to use the more granular and specific
ASB assertions when completing the audit. As a result, largely each of the firms auditing public
companies with international operations feature the ASB assertions to guide their auditing
processes. Importantly, a student of auditing will note that the ASB assertions are in direct
alignment with the PCAOB assertions. This is illustrated in the text in Exhibit 1.4
1.12 By having a belief that a potential conflict of interest always exists between the auditor and the
management team, auditors will be skeptical when completing the audit. Indeed, even though
the vast majority of audits do not contain fraud, auditors have no choice but to consider the
possibility of fraud on every audit. Stated simply, errors and financial reporting frauds have
happened in the past, and users of financial statements and audit reports expect auditors to
detect material misstatements if they exist.
Indeed, auditing firms have long recognized the importance of exercising professional skepticism
when making professional judgments. As a student of auditing, you can expect to encounter
difficult economic transactions as an auditor. When a difficult transaction is encountered, auditors
must take the time to fully understand the economic substance of that transaction and then
critically evaluate, with skepticism, the evidence provided by the client to justify its accounting
treatment. There are no shortcuts allowed. Rather, auditors must always hold a belief that a
potential conflict of interest exist between the auditor and management, and they must be
unbiased and objective when making their professional judgments.
1.13 Generally speaking, assurance services involve the lending of credibility to information, whether
financial or nonfinancial. CPAs have assured vote counts (e.g., Baseball Hall of Fame), dollar
amounts of prizes that sweepstakes have claimed to award, accuracy of advertisements,
investment performance statistics, and characteristics claimed for computer software programs.
Some specific examples of assurance service engagements performed on nonfinancial
information include
eXtensible Business Reporting Language (XBRL) reporting.
Enterprise risk management assessment.
Information risk assessment and assurance.
Third-party reimbursement maximization.
Rental property operations review.
Customer satisfaction surveys.
Evaluation of investment management policies.
Fraud and illegal acts prevention and deterrence.
Internal audit outsourcing.
1.14 There are three major areas of public accounting services
Financial Statement Audit and other types of Assurance services.
Tax services.
Consulting and Advisory services.
1.15 Operational auditing is the study of business operations for the purpose of making
recommendations about the economic and efficient use of resources, effective achievement of
business objectives, and compliance with company policies. The AICPA views operational
auditing as a type of consulting or advisory service offered by public accounting firms.
their assertions are more general and do allow auditors to use the more granular and specific
ASB assertions when completing the audit. As a result, largely each of the firms auditing public
companies with international operations feature the ASB assertions to guide their auditing
processes. Importantly, a student of auditing will note that the ASB assertions are in direct
alignment with the PCAOB assertions. This is illustrated in the text in Exhibit 1.4
1.12 By having a belief that a potential conflict of interest always exists between the auditor and the
management team, auditors will be skeptical when completing the audit. Indeed, even though
the vast majority of audits do not contain fraud, auditors have no choice but to consider the
possibility of fraud on every audit. Stated simply, errors and financial reporting frauds have
happened in the past, and users of financial statements and audit reports expect auditors to
detect material misstatements if they exist.
Indeed, auditing firms have long recognized the importance of exercising professional skepticism
when making professional judgments. As a student of auditing, you can expect to encounter
difficult economic transactions as an auditor. When a difficult transaction is encountered, auditors
must take the time to fully understand the economic substance of that transaction and then
critically evaluate, with skepticism, the evidence provided by the client to justify its accounting
treatment. There are no shortcuts allowed. Rather, auditors must always hold a belief that a
potential conflict of interest exist between the auditor and management, and they must be
unbiased and objective when making their professional judgments.
1.13 Generally speaking, assurance services involve the lending of credibility to information, whether
financial or nonfinancial. CPAs have assured vote counts (e.g., Baseball Hall of Fame), dollar
amounts of prizes that sweepstakes have claimed to award, accuracy of advertisements,
investment performance statistics, and characteristics claimed for computer software programs.
Some specific examples of assurance service engagements performed on nonfinancial
information include
eXtensible Business Reporting Language (XBRL) reporting.
Enterprise risk management assessment.
Information risk assessment and assurance.
Third-party reimbursement maximization.
Rental property operations review.
Customer satisfaction surveys.
Evaluation of investment management policies.
Fraud and illegal acts prevention and deterrence.
Internal audit outsourcing.
1.14 There are three major areas of public accounting services
Financial Statement Audit and other types of Assurance services.
Tax services.
Consulting and Advisory services.
1.15 Operational auditing is the study of business operations for the purpose of making
recommendations about the economic and efficient use of resources, effective achievement of
business objectives, and compliance with company policies. The AICPA views operational
auditing as a type of consulting or advisory service offered by public accounting firms.
Chapter 01 - Auditing and Assurance Services
1.16 The GAGAS issued by the GAO is very clear on this point. Specifically, the elements of
expanded-scope auditing include (1) financial and compliance audits, (2) economy and
efficiency audits, and (3) program results audits.
1.17 Compliance auditing involves a study of an organization‘s policies, procedures, and, ultimately,
its performance in following applicable laws, rules, and regulations. An example would be a
school district‘s policies and procedures related to a meal program for its students. In these
types of situations, there would be a demand for a compliance audit which would be designed to
ensure that the school district complies with the stated policies and procedures of the program.
1.18 Other kinds of auditors include Internal Revenue Service auditors who are required to audit the
taxable income and deductions taken by taxpayers in tax returns and determine their
correspondence with the standards found in the Internal Revenue Code. They also might have
to audit for fraud and tax evasion. Other examples include state and federal bank examiners
who are responsible for auditing banks, savings and loan associations, and other financial
institutions for evidence of solvency and compliance with banking and other related laws and
regulations.
1.19 The purpose of the continuing education requirement is to ensure that CPAs in practice
maintain their expertise at a sufficiently high level in light of evolving business conditions and
new regulations. For CPAs in public practice, 120 hours of continuing education is required
every three years with no less than 20 hours in any one year. For CPAs not in public practice,
the general requirement is 120 or fewer (90 in some states) every three years.
1.20 Not everything can be learned in the classroom, and some on-the-job experience is helpful
before a person is able to be held out to the public as a licensed professional. Also, the
experience requirement tends to
―weed out‖ those individuals who are just looking to become certified without ever being involved
in actual accounting work.
1.21 State boards administer the state accountancy laws and are responsible for ensuring that
candidates have passed the CPA examination and satisfied the state requirements for education
and experience before being awarded a CPA certificate. At the same time, new CPAs must pay a
fee to obtain a state license to practice. Thereafter, state boards of accountancy regulate the
behavior of CPAs under their jurisdiction (enforcing state rules of conduct) and supervise the
continuing education requirements. As a result, the state boards play an important role in the
CPA certification and licensure process.
1.22 After becoming a CPA licensed in one state, a person can obtain a CPA certificate and license
in another state. The process is known as reciprocity. CPAs can file the proper application with
another state board of accountancy, meet the state‘s requirements, and obtain another CPA
certificate. Many CPAs hold certificates and licenses in several states. From a global
perspective, individuals must be licensed in each country. Similar to CPAs in the United States,
chartered accountants (CAs) practice in Australia, Canada, Great Britain, and India.
1.16 The GAGAS issued by the GAO is very clear on this point. Specifically, the elements of
expanded-scope auditing include (1) financial and compliance audits, (2) economy and
efficiency audits, and (3) program results audits.
1.17 Compliance auditing involves a study of an organization‘s policies, procedures, and, ultimately,
its performance in following applicable laws, rules, and regulations. An example would be a
school district‘s policies and procedures related to a meal program for its students. In these
types of situations, there would be a demand for a compliance audit which would be designed to
ensure that the school district complies with the stated policies and procedures of the program.
1.18 Other kinds of auditors include Internal Revenue Service auditors who are required to audit the
taxable income and deductions taken by taxpayers in tax returns and determine their
correspondence with the standards found in the Internal Revenue Code. They also might have
to audit for fraud and tax evasion. Other examples include state and federal bank examiners
who are responsible for auditing banks, savings and loan associations, and other financial
institutions for evidence of solvency and compliance with banking and other related laws and
regulations.
1.19 The purpose of the continuing education requirement is to ensure that CPAs in practice
maintain their expertise at a sufficiently high level in light of evolving business conditions and
new regulations. For CPAs in public practice, 120 hours of continuing education is required
every three years with no less than 20 hours in any one year. For CPAs not in public practice,
the general requirement is 120 or fewer (90 in some states) every three years.
1.20 Not everything can be learned in the classroom, and some on-the-job experience is helpful
before a person is able to be held out to the public as a licensed professional. Also, the
experience requirement tends to
―weed out‖ those individuals who are just looking to become certified without ever being involved
in actual accounting work.
1.21 State boards administer the state accountancy laws and are responsible for ensuring that
candidates have passed the CPA examination and satisfied the state requirements for education
and experience before being awarded a CPA certificate. At the same time, new CPAs must pay a
fee to obtain a state license to practice. Thereafter, state boards of accountancy regulate the
behavior of CPAs under their jurisdiction (enforcing state rules of conduct) and supervise the
continuing education requirements. As a result, the state boards play an important role in the
CPA certification and licensure process.
1.22 After becoming a CPA licensed in one state, a person can obtain a CPA certificate and license
in another state. The process is known as reciprocity. CPAs can file the proper application with
another state board of accountancy, meet the state‘s requirements, and obtain another CPA
certificate. Many CPAs hold certificates and licenses in several states. From a global
perspective, individuals must be licensed in each country. Similar to CPAs in the United States,
chartered accountants (CAs) practice in Australia, Canada, Great Britain, and India.
Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR MULTIPLE CHOICE-QUESTIONS
1.23 a. Incorrect This is an attestation to the prize promoter‘s claims. Because attestation and
audit engagements are subsets of assurance engagements, this is an
example of an assurance engagement. However, each response is an
example of an assurance engagement; thus, the answer is (e).
b. Incorrect This is an audit engagement to give an opinion on financial statements.
Because attestation and audit engagements are subsets of assurance
engagements, this is an example of an assurance engagement.
However, each response is an example of an assurance engagement;
thus, the answer is (e).
c. Incorrect This is an assurance engagement on a newspaper‘s circulation data.
Because attestation and audit engagements are subsets of assurance
engagements, all are assurance engagements. Thus, the answer is
(e).
d. Incorrect This is an assurance engagement on the performance of golf balls.
Because attestation and audit engagements are subsets of assurance
engagements, all are assurance engagements. Thus, the answer is
(e).
e. Correct Because attestation and audit engagements are subsets of
assurance engagements, all of the responses are examples of
assurance engagements.
1.24 a. Correct The management team is generally trying to put its ―best foot forward‖ when
reporting their financial statement information. The auditor must make
sure that the management team does not violate the accounting rules
when doing so. IN essence, this statement characterizes why
professional skepticism is required to be exercised by auditors.
b. Incorrect ―Exclusively in the capacity of an auditor‖ is not an idea that
relates to an attitude of professional skepticism.
c. Incorrect Professional obligations are not related to an attitude of professional skepticism.
d. Incorrect While it is true that financial statement and financial data are
verifiable, this does not related to the reasons why an auditor needs to
begin an audit with an attitude of professional skepticism.
1.25 a. Incorrect While work on a forecast would potentially be covered by the attestation
standards, the auditors must provide assurance about some type of
management assertion in an attestation engagement.
b. Correct This is the basic definition of an attestation service, as articulated in
the book and the professional standards.
c. Incorrect Since there is no assurance about any management assertion when
preparing a tax return with information that has not been reviewed or
audited, this type of tax work is not considered an attestation service.
d. Incorrect Since there is no assurance about any management assertion when
giving expert testimony about particular facts in an income tax case, this
type of work is not considered an attestation service.
1.26 a. Incorrect The objective of environmental auditing is to help achieve and maintain
compliance with environmental laws and regulations and to help
identify and correct unregulated environmental hazards. This answer is
therefore incorrect.
b. Incorrect The objective of financial auditing is to obtain assurance on the
conformity of financial statements with generally accepted accounting
principles. This answer is therefore incorrect.
c. Incorrect The objective of compliance auditing is the entity‘s compliance with
laws and regulations. This answer is therefore incorrect.
d. Correct Operational auditing refers to the study of business operations for the
purpose of making recommendations about the economic and efficient
use of resources, effective achievement of business objectives, and
compliance with company policies.
SOLUTIONS FOR MULTIPLE CHOICE-QUESTIONS
1.23 a. Incorrect This is an attestation to the prize promoter‘s claims. Because attestation and
audit engagements are subsets of assurance engagements, this is an
example of an assurance engagement. However, each response is an
example of an assurance engagement; thus, the answer is (e).
b. Incorrect This is an audit engagement to give an opinion on financial statements.
Because attestation and audit engagements are subsets of assurance
engagements, this is an example of an assurance engagement.
However, each response is an example of an assurance engagement;
thus, the answer is (e).
c. Incorrect This is an assurance engagement on a newspaper‘s circulation data.
Because attestation and audit engagements are subsets of assurance
engagements, all are assurance engagements. Thus, the answer is
(e).
d. Incorrect This is an assurance engagement on the performance of golf balls.
Because attestation and audit engagements are subsets of assurance
engagements, all are assurance engagements. Thus, the answer is
(e).
e. Correct Because attestation and audit engagements are subsets of
assurance engagements, all of the responses are examples of
assurance engagements.
1.24 a. Correct The management team is generally trying to put its ―best foot forward‖ when
reporting their financial statement information. The auditor must make
sure that the management team does not violate the accounting rules
when doing so. IN essence, this statement characterizes why
professional skepticism is required to be exercised by auditors.
b. Incorrect ―Exclusively in the capacity of an auditor‖ is not an idea that
relates to an attitude of professional skepticism.
c. Incorrect Professional obligations are not related to an attitude of professional skepticism.
d. Incorrect While it is true that financial statement and financial data are
verifiable, this does not related to the reasons why an auditor needs to
begin an audit with an attitude of professional skepticism.
1.25 a. Incorrect While work on a forecast would potentially be covered by the attestation
standards, the auditors must provide assurance about some type of
management assertion in an attestation engagement.
b. Correct This is the basic definition of an attestation service, as articulated in
the book and the professional standards.
c. Incorrect Since there is no assurance about any management assertion when
preparing a tax return with information that has not been reviewed or
audited, this type of tax work is not considered an attestation service.
d. Incorrect Since there is no assurance about any management assertion when
giving expert testimony about particular facts in an income tax case, this
type of work is not considered an attestation service.
1.26 a. Incorrect The objective of environmental auditing is to help achieve and maintain
compliance with environmental laws and regulations and to help
identify and correct unregulated environmental hazards. This answer is
therefore incorrect.
b. Incorrect The objective of financial auditing is to obtain assurance on the
conformity of financial statements with generally accepted accounting
principles. This answer is therefore incorrect.
c. Incorrect The objective of compliance auditing is the entity‘s compliance with
laws and regulations. This answer is therefore incorrect.
d. Correct Operational auditing refers to the study of business operations for the
purpose of making recommendations about the economic and efficient
use of resources, effective achievement of business objectives, and
compliance with company policies.
Chapter 01 - Auditing and Assurance Services
1.27 a. Incorrect This is not the primary objective of an operational audit. However, while
completing an operational audit, a professionally skeptical auditor should
still be concerned about compliance with financial accounting standards.
b. Correct This statement exactly characterizes the goal of an operational
audit. In addition, the statement is part of the basic definition of
operational auditing.
c. Incorrect An operational audit does not focus on the financial statements of an entity.
d. Incorrect While analytical tools and skills may be used during an operational
audit, they are also a very important aspect of financial auditing.
1.28 a. Correct According to the AICPA definition found in AU 200 (paragraph 11) and in your
book, ―the purpose of an audit is to enhance the degree of confidence
that intended users can place in the financial statements. This is
achieved by the expression of an opinion by the auditor on whether the
financial statements are prepared, in all material respects, in
accordance with an applicable financial reporting framework. As a
result, this is the correct response.
b. Incorrect The AICPA definition is not limited to the FASB for the appropriate
reporting framework that is used as the benchmark when completing
an audit. The definition is general enough to include other financial
reporting frameworks as well, such as IFRS.
c. Incorrect The AICPA definition does not focus on the SEC as an appropriate
reporting framework to be used as a benchmark when completing an
audit. The definition is focused on the ―applicable‖ financial reporting
framework, such as GAAP or IFRS. The reference to the SEC is wrong.
d. Incorrect This phrase is not referenced in the AICPA definition found in the
auditing standards. This phrase is found in the AAA definition of the
audit found in this book.
1.29 a. Incorrect While complexity is an important condition that increases the demand for
reliable information, the potential conflict of interest between
management and the bank is far and away the biggest factor driving the
demand for audited financial statements.
b. Incorrect While remoteness is an important condition that increases the demand
for reliable information, the potential conflict of interest between
management and the bank is far and away the biggest factor driving
the demand for audited financial statements.
c. Incorrect While the consequences of making a bad decision are an important
condition that increases the demand for reliable information, the
potential conflict of interest between management and the bank is far
and away the biggest factor driving the demand for audited financial
statements.
d. Correct The potential conflict of interest between management and the bank is
far and away the biggest factor driving the demand for audited financial
statements. Consider for example a company that was desperate for
cash in order to survive. Would it be possible that the management team
would present unreliable financial statements to the bank in order to get
a desperation loan? Because of this possibility, a financial statement
audit is needed to add credibility to the financial statements.
1.30 a. Incorrect According to Section 201 of the Sarbanes-Oxley Act, bookkeeping services are
prohibited.
b. Incorrect According to Section 201 of the Sarbanes-Oxley Act, internal audit
services are prohibited.
c. Incorrect According to Section 201 of the Sarbanes-Oxley Act, valuation
services are prohibited.
d. Correct Sarbanes-Oxley prohibits the provision of all of the services listed in
answers a, b, and c; therefore, d (all of the above) is the best response.
1.27 a. Incorrect This is not the primary objective of an operational audit. However, while
completing an operational audit, a professionally skeptical auditor should
still be concerned about compliance with financial accounting standards.
b. Correct This statement exactly characterizes the goal of an operational
audit. In addition, the statement is part of the basic definition of
operational auditing.
c. Incorrect An operational audit does not focus on the financial statements of an entity.
d. Incorrect While analytical tools and skills may be used during an operational
audit, they are also a very important aspect of financial auditing.
1.28 a. Correct According to the AICPA definition found in AU 200 (paragraph 11) and in your
book, ―the purpose of an audit is to enhance the degree of confidence
that intended users can place in the financial statements. This is
achieved by the expression of an opinion by the auditor on whether the
financial statements are prepared, in all material respects, in
accordance with an applicable financial reporting framework. As a
result, this is the correct response.
b. Incorrect The AICPA definition is not limited to the FASB for the appropriate
reporting framework that is used as the benchmark when completing
an audit. The definition is general enough to include other financial
reporting frameworks as well, such as IFRS.
c. Incorrect The AICPA definition does not focus on the SEC as an appropriate
reporting framework to be used as a benchmark when completing an
audit. The definition is focused on the ―applicable‖ financial reporting
framework, such as GAAP or IFRS. The reference to the SEC is wrong.
d. Incorrect This phrase is not referenced in the AICPA definition found in the
auditing standards. This phrase is found in the AAA definition of the
audit found in this book.
1.29 a. Incorrect While complexity is an important condition that increases the demand for
reliable information, the potential conflict of interest between
management and the bank is far and away the biggest factor driving the
demand for audited financial statements.
b. Incorrect While remoteness is an important condition that increases the demand
for reliable information, the potential conflict of interest between
management and the bank is far and away the biggest factor driving
the demand for audited financial statements.
c. Incorrect While the consequences of making a bad decision are an important
condition that increases the demand for reliable information, the
potential conflict of interest between management and the bank is far
and away the biggest factor driving the demand for audited financial
statements.
d. Correct The potential conflict of interest between management and the bank is
far and away the biggest factor driving the demand for audited financial
statements. Consider for example a company that was desperate for
cash in order to survive. Would it be possible that the management team
would present unreliable financial statements to the bank in order to get
a desperation loan? Because of this possibility, a financial statement
audit is needed to add credibility to the financial statements.
1.30 a. Incorrect According to Section 201 of the Sarbanes-Oxley Act, bookkeeping services are
prohibited.
b. Incorrect According to Section 201 of the Sarbanes-Oxley Act, internal audit
services are prohibited.
c. Incorrect According to Section 201 of the Sarbanes-Oxley Act, valuation
services are prohibited.
d. Correct Sarbanes-Oxley prohibits the provision of all of the services listed in
answers a, b, and c; therefore, d (all of the above) is the best response.
Chapter 01 - Auditing and Assurance Services
1.31 a. Incorrect Financial statement auditors do not reduce business risk.
b. Correct After completing a financial statement audit, information risk has been
reduced for investors.
c. Incorrect Complexity creates demand for accounting services but is not an
objective of the financial statement audit.
d. Incorrect Auditors do not directly control the timeliness of financial
statements. Management must first provide the information to
be audited.
1.32 a. Incorrect A financial statement opinion is the objective of a financial statement audit, not
a compliance audit.
b. Incorrect A basis for a report on internal control is the objective of an internal
control audit under Section 404 of the Sarbanes-Oxley Act, not a
compliance audit.
c. Incorrect A study of effective and efficient resources is the objective of an
operational audit, not a compliance audit.
d. Correct A compliance audit refers to procedures that are designed to ascertain
that the company‘s personnel are following laws, rules, regulations,
and policies.
1.33 a. Incorrect While successful completion of the Uniform CPA is necessary to be licensed as
a CPA, a candidate also requires the proper experience and proper
education. Thus, letter (d.) is correct.
b. Incorrect While proper experience is necessary to be licensed as a CPA, a
candidate also requires the successful completion of the Uniform CPA
and proper education. Thus, letter (d.) is correct.
c. Incorrect While proper education is necessary to be licensed as a CPA, a
candidate also requires the successful completion of the Uniform CPA
and proper experience. Thus, letter (d.) is correct.
d. Correct A candidate requires the successful completion of the Uniform CPA,
proper experience and proper education to be licensed as a CPA.
1.34 a. Incorrect The GIAA is not responsible for monitoring the use of public funds by public
officials. This is the responsibility of the GAO.
b. Incorrect The CIA is not responsible for monitoring the use of public funds by
public officials. This is the responsibility of the GAO.
c. Incorrect The SEC is not responsible for monitoring the use of public funds by
public officials. This is the responsibility of the GAO.
d. Correct The mission of the U.S. Government Accountability Office is to ensure
that public officials are using public funds efficiently, effectively, and
economically.
1.35 a. Incorrect A financial audit is typically not included as part of a performance audit.
b. (&d) Correct The two categories of performance audits are economy and efficiency
audits and program audits.
c. Incorrect A compliance audit is typically not included as part of a performance audit.
d. (&b) Correct The two categories of performance audits are economy and efficiency
audits and program audits.
1.36 a. Incorrect A review of credit ratings of customers would not provide evidence about the
completeness of accounts receivable. Because GAAP requires the
accounts receivable balance to be valued at the amount expected to
be collected from customers, the review of credit ratings relates to
valuation.
b. Incorrect A review of credit ratings of customers would not provide evidence
about the existence of accounts receivable. Because GAAP requires
the accounts receivable balance to be valued at the amount expected
to be collected from customers, the review of credit ratings relates to
valuation.
c. Correct A review of credit ratings of customers‘ gives indirect evidence of
the collectability of accounts receivable. Because GAAP requires
1.31 a. Incorrect Financial statement auditors do not reduce business risk.
b. Correct After completing a financial statement audit, information risk has been
reduced for investors.
c. Incorrect Complexity creates demand for accounting services but is not an
objective of the financial statement audit.
d. Incorrect Auditors do not directly control the timeliness of financial
statements. Management must first provide the information to
be audited.
1.32 a. Incorrect A financial statement opinion is the objective of a financial statement audit, not
a compliance audit.
b. Incorrect A basis for a report on internal control is the objective of an internal
control audit under Section 404 of the Sarbanes-Oxley Act, not a
compliance audit.
c. Incorrect A study of effective and efficient resources is the objective of an
operational audit, not a compliance audit.
d. Correct A compliance audit refers to procedures that are designed to ascertain
that the company‘s personnel are following laws, rules, regulations,
and policies.
1.33 a. Incorrect While successful completion of the Uniform CPA is necessary to be licensed as
a CPA, a candidate also requires the proper experience and proper
education. Thus, letter (d.) is correct.
b. Incorrect While proper experience is necessary to be licensed as a CPA, a
candidate also requires the successful completion of the Uniform CPA
and proper education. Thus, letter (d.) is correct.
c. Incorrect While proper education is necessary to be licensed as a CPA, a
candidate also requires the successful completion of the Uniform CPA
and proper experience. Thus, letter (d.) is correct.
d. Correct A candidate requires the successful completion of the Uniform CPA,
proper experience and proper education to be licensed as a CPA.
1.34 a. Incorrect The GIAA is not responsible for monitoring the use of public funds by public
officials. This is the responsibility of the GAO.
b. Incorrect The CIA is not responsible for monitoring the use of public funds by
public officials. This is the responsibility of the GAO.
c. Incorrect The SEC is not responsible for monitoring the use of public funds by
public officials. This is the responsibility of the GAO.
d. Correct The mission of the U.S. Government Accountability Office is to ensure
that public officials are using public funds efficiently, effectively, and
economically.
1.35 a. Incorrect A financial audit is typically not included as part of a performance audit.
b. (&d) Correct The two categories of performance audits are economy and efficiency
audits and program audits.
c. Incorrect A compliance audit is typically not included as part of a performance audit.
d. (&b) Correct The two categories of performance audits are economy and efficiency
audits and program audits.
1.36 a. Incorrect A review of credit ratings of customers would not provide evidence about the
completeness of accounts receivable. Because GAAP requires the
accounts receivable balance to be valued at the amount expected to
be collected from customers, the review of credit ratings relates to
valuation.
b. Incorrect A review of credit ratings of customers would not provide evidence
about the existence of accounts receivable. Because GAAP requires
the accounts receivable balance to be valued at the amount expected
to be collected from customers, the review of credit ratings relates to
valuation.
c. Correct A review of credit ratings of customers‘ gives indirect evidence of
the collectability of accounts receivable. Because GAAP requires
Chapter 01 - Auditing and Assurance Services
the accounts
the accounts
Chapter 01 - Auditing and Assurance Services
receivable balance to be valued at the amount expected to be collected
from customers, the review of credit ratings relates to valuation.
d. Incorrect A review of credit ratings of customers would not provide evidence
about the rights of accounts receivable. Because GAAP requires the
accounts receivable balance to be valued at the amount expected to be
collected from customers, the review of credit ratings relates to
valuation.
e. Incorrect A review of credit ratings of customers would not provide evidence
about the occurrence of accounts receivable. Because GAAP
requires the accounts receivable balance to be valued at the amount
expected to be collected from customers, the review of credit ratings
relates to valuation.
1.37 a. Incorrect Rhonda‘s representations are not sufficient evidence to support assertions made
in the financial statements.
b. Incorrect Despite Rhonda‘s representations, Jones must gather additional
evidence to corroborate Rhonda‘s assertions.
c. Incorrect Rhonda‘s representations are a form of evidence (albeit weak) that
should neither be disregarded nor blindly regarded without
professional skepticism.
d. Correct Rhonda‘s assertions are nice. However, to be considered as sufficient to
conclude that all expenses have been recorded, they will need
corroboration with documentary evidence. Thus, this is the correct
response.
1.38 a. Incorrect Although there is a high level of risk associated with client acceptance, this
phrase was created by the authors.
b. Correct By definition, information risk is the probability that the information
circulated by a company will be false or misleading.
c. Incorrect Moral hazard is the risk that the existence of a contract will change the
behavior of one or both parties to the contract.
d. Incorrect Business risk is the probability an entity will fail to meet its strategic objectives.
1.39 a. Correct This is clearly a test of the completeness as the assertion always includes any
issues of transaction cutoff, which means that the recording of all
revenue, expense, and other transactions must be included in the
proper period in accordance with GAAP.
b. Incorrect This is not an existence test. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
c. Incorrect This is not a test of valuation. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
d. Incorrect This is not a test of rights and obligations. This is clearly a test of the
completeness as the assertion always includes any issues of
transaction cutoff, which means that the recording of all revenue,
expense, and other transactions must be included in the proper period
in accordance with GAAP.
e. Incorrect This is not an occurrence test. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
1.40 a. Incorrect This is not a completeness test. This is clearly a test related to rights and
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the
receivable balance to be valued at the amount expected to be collected
from customers, the review of credit ratings relates to valuation.
d. Incorrect A review of credit ratings of customers would not provide evidence
about the rights of accounts receivable. Because GAAP requires the
accounts receivable balance to be valued at the amount expected to be
collected from customers, the review of credit ratings relates to
valuation.
e. Incorrect A review of credit ratings of customers would not provide evidence
about the occurrence of accounts receivable. Because GAAP
requires the accounts receivable balance to be valued at the amount
expected to be collected from customers, the review of credit ratings
relates to valuation.
1.37 a. Incorrect Rhonda‘s representations are not sufficient evidence to support assertions made
in the financial statements.
b. Incorrect Despite Rhonda‘s representations, Jones must gather additional
evidence to corroborate Rhonda‘s assertions.
c. Incorrect Rhonda‘s representations are a form of evidence (albeit weak) that
should neither be disregarded nor blindly regarded without
professional skepticism.
d. Correct Rhonda‘s assertions are nice. However, to be considered as sufficient to
conclude that all expenses have been recorded, they will need
corroboration with documentary evidence. Thus, this is the correct
response.
1.38 a. Incorrect Although there is a high level of risk associated with client acceptance, this
phrase was created by the authors.
b. Correct By definition, information risk is the probability that the information
circulated by a company will be false or misleading.
c. Incorrect Moral hazard is the risk that the existence of a contract will change the
behavior of one or both parties to the contract.
d. Incorrect Business risk is the probability an entity will fail to meet its strategic objectives.
1.39 a. Correct This is clearly a test of the completeness as the assertion always includes any
issues of transaction cutoff, which means that the recording of all
revenue, expense, and other transactions must be included in the
proper period in accordance with GAAP.
b. Incorrect This is not an existence test. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
c. Incorrect This is not a test of valuation. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
d. Incorrect This is not a test of rights and obligations. This is clearly a test of the
completeness as the assertion always includes any issues of
transaction cutoff, which means that the recording of all revenue,
expense, and other transactions must be included in the proper period
in accordance with GAAP.
e. Incorrect This is not an occurrence test. This is clearly a test of the completeness
as the assertion always includes any issues of transaction cutoff, which
means that the recording of all revenue, expense, and other transactions
must be included in the proper period in accordance with GAAP.
1.40 a. Incorrect This is not a completeness test. This is clearly a test related to rights and
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the
Chapter 01 - Auditing and Assurance Services
b.
Incorrect
company. Thus, there is a risk that the company is recording assets that
they do not own on their balance sheet.
This is not an existence test. This is clearly a test related to rights and
c.
Incorrect
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
This is not a test of valuation. This is clearly a test related to rights and
d.
Correct
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
This is clearly a test related to rights and obligations as the question that
must be
e.
Incorrect
answered with evidence is to establish that amounts reported as assets
of the company represent true assets that it really does own and that
the amounts reported as liabilities truly represent its obligations. Goods
on consignment, by definition, are not owned by the company. Thus,
there is a risk that the company is recording assets that they do not own
on their balance sheet.
This is not an occurrence test. This is clearly a test related to rights and
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
1.41 a.
b.
Incorrect
Correct
This is not a test of completeness. This is a test of existence which is
completed by auditors to answer the question as to whether the
transactions recorded as an asset really represent assets that exist and
did add value to the company‘s equipment as compared to routine
repair and maintenance expenses under GAAP. Management‘s
existence assertion states that the reported assets actually exist. If an
addition to the equipment account cannot be located or identified as
adding value to the equipment balance, it is possible that the amount
should have been classified as repair and maintenance expenses under
GAAP.
This is a test of existence. This test is completed by auditors to answer
the
c.
Incorrect
question as to whether the transactions recorded as an asset really
represent assets that exist and did add value to the company‘s
equipment as compared to routine repair and maintenance expenses
under GAAP. Management‘s existence assertion states that the
reported assets actually exist. If an addition to the equipment account
cannot be located or identified as adding value to the equipment
balance, it is possible that the amount should have been classified as
repair and maintenance expenses under GAAP.
This is not a test of valuation. This is a test of existence which is
completed by
auditors to answer the question as to whether the transactions recorded
as an asset really represent assets that exist and did add value to the
company‘s equipment as compared to routine repair and maintenance
expenses under GAAP. Management‘s existence assertion states that
the reported assets actually exist. If an addition to the equipment
account cannot be located or identified as adding value to the
equipment balance, it is possible that the
amount should have been classified as repair and maintenance expenses
b.
Incorrect
company. Thus, there is a risk that the company is recording assets that
they do not own on their balance sheet.
This is not an existence test. This is clearly a test related to rights and
c.
Incorrect
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
This is not a test of valuation. This is clearly a test related to rights and
d.
Correct
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
This is clearly a test related to rights and obligations as the question that
must be
e.
Incorrect
answered with evidence is to establish that amounts reported as assets
of the company represent true assets that it really does own and that
the amounts reported as liabilities truly represent its obligations. Goods
on consignment, by definition, are not owned by the company. Thus,
there is a risk that the company is recording assets that they do not own
on their balance sheet.
This is not an occurrence test. This is clearly a test related to rights and
obligations as the question that must be answered with evidence is to
establish that amounts reported as assets of the company represent true
assets that it really does own and that the amounts reported as liabilities
truly represent its obligations. Goods on consignment, by definition, are
not owned by the company. Thus, there is a risk that the company is
recording assets that they do not own on their balance sheet.
1.41 a.
b.
Incorrect
Correct
This is not a test of completeness. This is a test of existence which is
completed by auditors to answer the question as to whether the
transactions recorded as an asset really represent assets that exist and
did add value to the company‘s equipment as compared to routine
repair and maintenance expenses under GAAP. Management‘s
existence assertion states that the reported assets actually exist. If an
addition to the equipment account cannot be located or identified as
adding value to the equipment balance, it is possible that the amount
should have been classified as repair and maintenance expenses under
GAAP.
This is a test of existence. This test is completed by auditors to answer
the
c.
Incorrect
question as to whether the transactions recorded as an asset really
represent assets that exist and did add value to the company‘s
equipment as compared to routine repair and maintenance expenses
under GAAP. Management‘s existence assertion states that the
reported assets actually exist. If an addition to the equipment account
cannot be located or identified as adding value to the equipment
balance, it is possible that the amount should have been classified as
repair and maintenance expenses under GAAP.
This is not a test of valuation. This is a test of existence which is
completed by
auditors to answer the question as to whether the transactions recorded
as an asset really represent assets that exist and did add value to the
company‘s equipment as compared to routine repair and maintenance
expenses under GAAP. Management‘s existence assertion states that
the reported assets actually exist. If an addition to the equipment
account cannot be located or identified as adding value to the
equipment balance, it is possible that the
amount should have been classified as repair and maintenance expenses
Chapter 01 - Auditing and Assurance Services
under GAAP.
under GAAP.
Chapter 01 - Auditing and Assurance Services
d. Incorrect This is not a test of rights and obligations. This is a test of existence
which is completed by auditors to answer the question as to whether
the transactions recorded as an asset really represent assets that exist
and did add value to the company‘s equipment as compared to routine
repair and maintenance expenses under GAAP. Management‘s
existence assertion states that the reported assets actually exist. If an
addition to the equipment account cannot be located or identified as
adding value to the equipment balance, it is possible that the amount
should have been classified as repair and maintenance expenses
under GAAP.
e. Incorrect This is not a test of occurrence. This is a test of existence which is
completed by auditors to answer the question as to whether the
transactions recorded as an asset really represent assets that exist and
did add value to the company‘s equipment as compared to routine repair
and maintenance expenses under GAAP. Management‘s existence
assertion states that the reported assets actually exist. If an addition to
the equipment account cannot be located or identified as adding value to
the equipment balance, it is possible that the amount should have been
classified as repair and maintenance expenses under GAAP.
1.42 a. Incorrect Under Sarbanes-Oxley, public accounting firms are prevented from acting in a
managerial decision-making role for an audit client.
b. Incorrect Under Sarbanes-Oxley, public accounting firms are prevented from
auditing the firm‘s own work on an audit client.
c. Incorrect Under Sarbanes-Oxley, public accounting firms may only provide tax
consulting services to an audit client with the audit committee‘s approval.
d. Correct Sarbanes-Oxley prevents public accounting firms from serving an audit
client in any of the preceding listed roles. As a result, each of the
responses a, b, and c is incorrect and letter d is the correct response.
1.43 a. Incorrect Substantial equivalency does not refer to the financial statement auditing
process. The term relates to the practice of public accountancy in states
other than a CPA‘s state of licensure.
b. Incorrect Substantial equivalency does not refer to consulting services. The term
relates to the practice of public accountancy in states other than a CPA‘s
state of licensure.
c. Incorrect Substantial equivalency does not refer to other professional
organizations. The term relates to the practice of public accountancy in
states other than a CPA‘s state of licensure.
d. Correct Substantial equivalency relates to the practice of public accountancy in
states other than a CPA‘s state of licensure. Under the concept of
substantial equivalency, as long as the licensing (home) state requires
(1) 150 hours of education, (2) successful completion of the CPA exam,
and (3) one year of experience, a CPA can practice (either in person or
electronically) in another substantial equivalency state without having to
obtain a license in that state.
1.44 a. Correct Auditing is a subset of attestation engagements that focuses on the certification
of financial statements. The subject matter is the set of financial
statements from management and the criteria is GAAP in the United
States.
b. Incorrect That is not true. Auditing is one example of an attest engagement. The
level of assurance provided is not lower for an attestation engagement.
c. Incorrect That is not true. The auditor is not allowed to provide management
support for its audit clients. Rather, consulting engagements can focus
on providing clients with advice and decision support.
d. Incorrect The definition provided is the one for assurance engagements, which
is quite broad and includes all engagements that are designed to
improve the quality of information, or its context, for decision makers.
d. Incorrect This is not a test of rights and obligations. This is a test of existence
which is completed by auditors to answer the question as to whether
the transactions recorded as an asset really represent assets that exist
and did add value to the company‘s equipment as compared to routine
repair and maintenance expenses under GAAP. Management‘s
existence assertion states that the reported assets actually exist. If an
addition to the equipment account cannot be located or identified as
adding value to the equipment balance, it is possible that the amount
should have been classified as repair and maintenance expenses
under GAAP.
e. Incorrect This is not a test of occurrence. This is a test of existence which is
completed by auditors to answer the question as to whether the
transactions recorded as an asset really represent assets that exist and
did add value to the company‘s equipment as compared to routine repair
and maintenance expenses under GAAP. Management‘s existence
assertion states that the reported assets actually exist. If an addition to
the equipment account cannot be located or identified as adding value to
the equipment balance, it is possible that the amount should have been
classified as repair and maintenance expenses under GAAP.
1.42 a. Incorrect Under Sarbanes-Oxley, public accounting firms are prevented from acting in a
managerial decision-making role for an audit client.
b. Incorrect Under Sarbanes-Oxley, public accounting firms are prevented from
auditing the firm‘s own work on an audit client.
c. Incorrect Under Sarbanes-Oxley, public accounting firms may only provide tax
consulting services to an audit client with the audit committee‘s approval.
d. Correct Sarbanes-Oxley prevents public accounting firms from serving an audit
client in any of the preceding listed roles. As a result, each of the
responses a, b, and c is incorrect and letter d is the correct response.
1.43 a. Incorrect Substantial equivalency does not refer to the financial statement auditing
process. The term relates to the practice of public accountancy in states
other than a CPA‘s state of licensure.
b. Incorrect Substantial equivalency does not refer to consulting services. The term
relates to the practice of public accountancy in states other than a CPA‘s
state of licensure.
c. Incorrect Substantial equivalency does not refer to other professional
organizations. The term relates to the practice of public accountancy in
states other than a CPA‘s state of licensure.
d. Correct Substantial equivalency relates to the practice of public accountancy in
states other than a CPA‘s state of licensure. Under the concept of
substantial equivalency, as long as the licensing (home) state requires
(1) 150 hours of education, (2) successful completion of the CPA exam,
and (3) one year of experience, a CPA can practice (either in person or
electronically) in another substantial equivalency state without having to
obtain a license in that state.
1.44 a. Correct Auditing is a subset of attestation engagements that focuses on the certification
of financial statements. The subject matter is the set of financial
statements from management and the criteria is GAAP in the United
States.
b. Incorrect That is not true. Auditing is one example of an attest engagement. The
level of assurance provided is not lower for an attestation engagement.
c. Incorrect That is not true. The auditor is not allowed to provide management
support for its audit clients. Rather, consulting engagements can focus
on providing clients with advice and decision support.
d. Incorrect The definition provided is the one for assurance engagements, which
is quite broad and includes all engagements that are designed to
improve the quality of information, or its context, for decision makers.
Chapter 01 - Auditing and Assurance Services
1.45 a. Correct Management is more likely to overstate assets and understate liabilities. As a
result, when auditing an asset balance, the most relevant assertions are
likely to be either existence or valuation. In this situation, because of the
nature of cash and the fact that is no foreign currency translation
calculation, the existence assertion is clearly the most important
assertion.
b. Incorrect Although rights and obligations is an important assertion, it is not the
most relevant assertion for the cash balance. Since management is
more likely to overstate assets, when auditing an asset balance, the
most relevant assertions are likely to be either existence or valuation. In
this situation, because of the nature of cash and the fact that is no
foreign currency translation calculation, the existence assertion is
clearly the most important assertion.
c. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion for the cash balance. In this situation, because of the nature of
cash and the fact that is no foreign currency translation calculation, the
existence assertion is clearly the most important assertion. If however,
there was a foreign currency translation adjustment, valuation of cash
would also be relevant.
d. Incorrect Although occurrence is an important assertion, it is not the most relevant
assertion for any balance sheet account. Rather, the occurrence
assertion is more closely related to income statement accounts because
the question that needs to be answered with evidence is whether the
transaction really did occur in accordance with GAAP. In this situation,
because of the nature of cash and the fact that is no foreign currency
translation calculation, the existence assertion is clearly the most
important assertion.
1.46 a. Incorrect This evidence would provide evidence about management‘s assertion about
rights and obligations and perhaps existence. However, this evidence
would not help to value the investment in accordance with GAAP.
b. Incorrect While this evidence would potentially be helpful to value an
investment in another company, it is not the best answer. If a quote
was available from an independent source, this would be a better
form of evidence for valuation.
c. Incorrect This evidence would provide evidence about management‘s assertion
about existence and perhaps rights and obligations. However, this
evidence would not help to value the investment in accordance with
GAAP.
d. Correct Always remember that management is more likely to overstate assets.
As a result, when auditing an asset balance like investments, a
relevant assertion is likely to be valuation. In this situation, to answer
the question of what the investment should be valued at in the balance
sheet, an auditor would first seek to obtain a market quotation from an
independent source like the Wall Street Journal.
1.47 a. Incorrect This test is not related to presentation and disclosure. A cutoff test is clearly a
test of the completeness assertion as the test is designed to insure
that all transactions that should have been included in accordance with
GAAP have been recorded.
b. Correct A cutoff test is clearly a test of the completeness assertion as the test is
designed to insure that all transactions that should have been included
in accordance with GAAP have been recorded.
c. Incorrect This test is not related to rights and obligations. A cutoff test is clearly a
test of the completeness assertion as the test is designed to insure that
all transactions that should have been included in accordance with
GAAP have been recorded.
d. Incorrect This test is not related to existence. A cutoff test is clearly a test of the
completeness assertion as the test is designed to insure that all
transactions that should have been included in accordance with GAAP
1.45 a. Correct Management is more likely to overstate assets and understate liabilities. As a
result, when auditing an asset balance, the most relevant assertions are
likely to be either existence or valuation. In this situation, because of the
nature of cash and the fact that is no foreign currency translation
calculation, the existence assertion is clearly the most important
assertion.
b. Incorrect Although rights and obligations is an important assertion, it is not the
most relevant assertion for the cash balance. Since management is
more likely to overstate assets, when auditing an asset balance, the
most relevant assertions are likely to be either existence or valuation. In
this situation, because of the nature of cash and the fact that is no
foreign currency translation calculation, the existence assertion is
clearly the most important assertion.
c. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion for the cash balance. In this situation, because of the nature of
cash and the fact that is no foreign currency translation calculation, the
existence assertion is clearly the most important assertion. If however,
there was a foreign currency translation adjustment, valuation of cash
would also be relevant.
d. Incorrect Although occurrence is an important assertion, it is not the most relevant
assertion for any balance sheet account. Rather, the occurrence
assertion is more closely related to income statement accounts because
the question that needs to be answered with evidence is whether the
transaction really did occur in accordance with GAAP. In this situation,
because of the nature of cash and the fact that is no foreign currency
translation calculation, the existence assertion is clearly the most
important assertion.
1.46 a. Incorrect This evidence would provide evidence about management‘s assertion about
rights and obligations and perhaps existence. However, this evidence
would not help to value the investment in accordance with GAAP.
b. Incorrect While this evidence would potentially be helpful to value an
investment in another company, it is not the best answer. If a quote
was available from an independent source, this would be a better
form of evidence for valuation.
c. Incorrect This evidence would provide evidence about management‘s assertion
about existence and perhaps rights and obligations. However, this
evidence would not help to value the investment in accordance with
GAAP.
d. Correct Always remember that management is more likely to overstate assets.
As a result, when auditing an asset balance like investments, a
relevant assertion is likely to be valuation. In this situation, to answer
the question of what the investment should be valued at in the balance
sheet, an auditor would first seek to obtain a market quotation from an
independent source like the Wall Street Journal.
1.47 a. Incorrect This test is not related to presentation and disclosure. A cutoff test is clearly a
test of the completeness assertion as the test is designed to insure
that all transactions that should have been included in accordance with
GAAP have been recorded.
b. Correct A cutoff test is clearly a test of the completeness assertion as the test is
designed to insure that all transactions that should have been included
in accordance with GAAP have been recorded.
c. Incorrect This test is not related to rights and obligations. A cutoff test is clearly a
test of the completeness assertion as the test is designed to insure that
all transactions that should have been included in accordance with
GAAP have been recorded.
d. Incorrect This test is not related to existence. A cutoff test is clearly a test of the
completeness assertion as the test is designed to insure that all
transactions that should have been included in accordance with GAAP
Chapter 01 - Auditing and Assurance Services
have been recorded.
have been recorded.
Chapter 01 - Auditing and Assurance Services
1.48 a. Incorrect This test is designed to test the completeness assertion for the inventory account.
It does not provide any evidence related to the rights and obligations assertion.
b. Correct This is clearly a test related to rights and obligations as the question that
must be answered with evidence is to establish that the inventory
reported as assets really is owned by the company. Goods on
consignment, by definition, are not owned by the company. Thus, there
is a risk that the company is recording assets that they do not own on
their balance sheet.
c. Incorrect This test is designed to test the completeness assertion for sales
revenue. It does not provide evidence related to the rights and
obligations assertion for inventory.
d. Incorrect This test is designed to test the presentation and disclosure
assertion for inventory purchase commitments. It does not provide
evidence related to the rights and obligations assertion for inventory.
1.49 a. Incorrect Management is far more likely to understate liabilities than to overstate them.
As a result, when auditing the accrued liabilities account, existence or
occurrence is not as likely to be violated. Rather, the most relevant
assertion is likely to be completeness.
b. Correct Management is more likely to understate liabilities. As a result, when
auditing the accrued liabilities account, the most relevant assertion is
likely to be completeness.
c. Incorrect Management is far more likely to understate liabilities. As a result, when
auditing the accrued liabilities account, the most relevant assertion is
likely to be completeness. Presentation and disclosure may be relevant.
However, it is not as likely to contain a material misstatement as
completeness.
d. Incorrect Management is far more likely to understate liabilities than to overstate
them. As a result, when auditing the accrued liabilities account, the most
relevant assertion is likely to be completeness. Valuation may be
relevant. However, it is not as likely to contain a material misstatement
as completeness.
1.50 a. Incorrect This is not correct as an auditing engagement refers to an examination of the
financial statements to determine whether the information has been
presented in accordance with GAAP. Also, a consulting engagement is
one where the professional provides advice and decision support.
b. Incorrect This is not correct as a consulting engagement is one where the
professional provides advice and decision support. Also, an
assurance engagement can include many more types of information
than just the financial statements.
c. Incorrect This is not correct as an auditing engagement refers to an examination
of the financial statements to determine whether the information has
been presented in accordance with GAAP. Also, a consulting
engagement is one where the professional provides advice and
decision support.
d. Correct This is correct as an auditing engagement refers to an examination of
the financial statements to determine whether the information has been
presented in accordance with GAAP and an attestation engagement can
include a financial statement audit. In addition, An assurance
engagement can apply to all types of information and a consulting
engagement is one where the professional provides advice and decision
support.
1.51 a. Incorrect Credibility is a reason to become certified. Because all three responses are
reasons, (d) is correct.
b. Incorrect Advancement and promotion are reasons to become certified. Because
all three responses are reasons, (d) is correct.
c. Incorrect Monetary reward is a reason to become certified. Because all three
responses are reasons, (d) is correct.
d. Correct Credibility, advancement, and monetary rewards are all reasons to
1.48 a. Incorrect This test is designed to test the completeness assertion for the inventory account.
It does not provide any evidence related to the rights and obligations assertion.
b. Correct This is clearly a test related to rights and obligations as the question that
must be answered with evidence is to establish that the inventory
reported as assets really is owned by the company. Goods on
consignment, by definition, are not owned by the company. Thus, there
is a risk that the company is recording assets that they do not own on
their balance sheet.
c. Incorrect This test is designed to test the completeness assertion for sales
revenue. It does not provide evidence related to the rights and
obligations assertion for inventory.
d. Incorrect This test is designed to test the presentation and disclosure
assertion for inventory purchase commitments. It does not provide
evidence related to the rights and obligations assertion for inventory.
1.49 a. Incorrect Management is far more likely to understate liabilities than to overstate them.
As a result, when auditing the accrued liabilities account, existence or
occurrence is not as likely to be violated. Rather, the most relevant
assertion is likely to be completeness.
b. Correct Management is more likely to understate liabilities. As a result, when
auditing the accrued liabilities account, the most relevant assertion is
likely to be completeness.
c. Incorrect Management is far more likely to understate liabilities. As a result, when
auditing the accrued liabilities account, the most relevant assertion is
likely to be completeness. Presentation and disclosure may be relevant.
However, it is not as likely to contain a material misstatement as
completeness.
d. Incorrect Management is far more likely to understate liabilities than to overstate
them. As a result, when auditing the accrued liabilities account, the most
relevant assertion is likely to be completeness. Valuation may be
relevant. However, it is not as likely to contain a material misstatement
as completeness.
1.50 a. Incorrect This is not correct as an auditing engagement refers to an examination of the
financial statements to determine whether the information has been
presented in accordance with GAAP. Also, a consulting engagement is
one where the professional provides advice and decision support.
b. Incorrect This is not correct as a consulting engagement is one where the
professional provides advice and decision support. Also, an
assurance engagement can include many more types of information
than just the financial statements.
c. Incorrect This is not correct as an auditing engagement refers to an examination
of the financial statements to determine whether the information has
been presented in accordance with GAAP. Also, a consulting
engagement is one where the professional provides advice and
decision support.
d. Correct This is correct as an auditing engagement refers to an examination of
the financial statements to determine whether the information has been
presented in accordance with GAAP and an attestation engagement can
include a financial statement audit. In addition, An assurance
engagement can apply to all types of information and a consulting
engagement is one where the professional provides advice and decision
support.
1.51 a. Incorrect Credibility is a reason to become certified. Because all three responses are
reasons, (d) is correct.
b. Incorrect Advancement and promotion are reasons to become certified. Because
all three responses are reasons, (d) is correct.
c. Incorrect Monetary reward is a reason to become certified. Because all three
responses are reasons, (d) is correct.
d. Correct Credibility, advancement, and monetary rewards are all reasons to
Chapter 01 - Auditing and Assurance Services
become certified.
become certified.
Chapter 01 - Auditing and Assurance Services
1.52 a. Incorrect Although existence or occurrence is an important assertion, it is not the most
relevant assertion for retained earnings. Restrictions on retained
earnings from loans, agreements or state law would need to be disclosed
in the footnotes to the financial statements. As a result, presentation and
disclosure is clearly the most important assertion.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for retained earnings. Restrictions on retained
earnings from loans, agreements or state law would need to be
disclosed in the footnotes to the financial statements. As a result,
presentation and disclosure is clearly the most important assertion.
c. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion for retained earnings. Restrictions on retained earnings from
loans, agreements or state law would need to be disclosed in the
footnotes to the financial statements. As a result, presentation and
disclosure is clearly the most important assertion.
d. Correct Restrictions on retained earnings from loans, agreements or state
law would need to be disclosed in the footnotes to the financial
statements. As a result, presentation and disclosure is clearly the
most important assertion.
1.53 a. Correct Management is more likely to overstate assets and understate liabilities. As a
result, when auditing an asset balance, the most relevant assertions are
likely to be either existence or valuation. In this situation, because of the
nature of accounts receivable and the fact that valuation is not an option,
the existence assertion is clearly the most important assertion.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate liabilities.
As a result, when auditing an asset balance, the most relevant
assertions are likely to be either existence or valuation. In this situation,
because of the nature of accounts receivable and the fact that valuation
is not an option, the existence assertion is clearly the most important
assertion.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate liabilities.
As a result, when auditing an asset balance, the most relevant
assertions are likely to be either existence or valuation. In this situation,
because of the nature of accounts receivable and the fact that valuation
is not an option, the existence assertion is clearly the most important
assertion.
d. Incorrect Although rights and obligations is an important assertion, it is not the
most relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate
liabilities. As a result, when auditing an asset balance, the most
relevant assertions are likely to be either existence or valuation. In this
situation, because of the nature of accounts receivable and the fact
that valuation is not an option, the existence assertion is clearly the
most important assertion.
1.54 a. Incorrect Although rights and obligations is an important assertion, it is not the assertion
being tested in this situation. Most importantly, the auditor did not select
items for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
1.52 a. Incorrect Although existence or occurrence is an important assertion, it is not the most
relevant assertion for retained earnings. Restrictions on retained
earnings from loans, agreements or state law would need to be disclosed
in the footnotes to the financial statements. As a result, presentation and
disclosure is clearly the most important assertion.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for retained earnings. Restrictions on retained
earnings from loans, agreements or state law would need to be
disclosed in the footnotes to the financial statements. As a result,
presentation and disclosure is clearly the most important assertion.
c. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion for retained earnings. Restrictions on retained earnings from
loans, agreements or state law would need to be disclosed in the
footnotes to the financial statements. As a result, presentation and
disclosure is clearly the most important assertion.
d. Correct Restrictions on retained earnings from loans, agreements or state
law would need to be disclosed in the footnotes to the financial
statements. As a result, presentation and disclosure is clearly the
most important assertion.
1.53 a. Correct Management is more likely to overstate assets and understate liabilities. As a
result, when auditing an asset balance, the most relevant assertions are
likely to be either existence or valuation. In this situation, because of the
nature of accounts receivable and the fact that valuation is not an option,
the existence assertion is clearly the most important assertion.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate liabilities.
As a result, when auditing an asset balance, the most relevant
assertions are likely to be either existence or valuation. In this situation,
because of the nature of accounts receivable and the fact that valuation
is not an option, the existence assertion is clearly the most important
assertion.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate liabilities.
As a result, when auditing an asset balance, the most relevant
assertions are likely to be either existence or valuation. In this situation,
because of the nature of accounts receivable and the fact that valuation
is not an option, the existence assertion is clearly the most important
assertion.
d. Incorrect Although rights and obligations is an important assertion, it is not the
most relevant assertion for the accounts receivable balance. Since
management is more likely to overstate assets and understate
liabilities. As a result, when auditing an asset balance, the most
relevant assertions are likely to be either existence or valuation. In this
situation, because of the nature of accounts receivable and the fact
that valuation is not an option, the existence assertion is clearly the
most important assertion.
1.54 a. Incorrect Although rights and obligations is an important assertion, it is not the assertion
being tested in this situation. Most importantly, the auditor did not select
items for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
Chapter 01 - Auditing and Assurance Services
b. Correct Most importantly, the auditor did not select items for testing from any
financial statement records. Rather, the auditor selected items to be
tested from the warehouse, without considering the financial statement
records. As a result, this is a test that is designed specifically to test
whether all items that should be recorded on the financial statements
actually are included on the financial statements. Thus, the assertion
being tested is the completeness assertion. The absolute key to
understanding this question is to focus on how the items were selected
for testing.
c. Incorrect Although existence is an important assertion, it is not the assertion being
tested in this situation. Most importantly, the auditor did not select items
for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
d. Incorrect Although valuation is an important assertion, it is not the assertion being
tested in this situation. Most importantly, the auditor did not select items
for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
1.55 a. Incorrect Although rights and obligations is an important assertion, it is not the most
relevant assertion when testing the pension footnote. The question
specifically relates to testing the information contained in the pension
footnote. When testing the footnote disclosures, the presentation and
disclosure is likely to be the most important assertion being tested.
b. Incorrect Although existence is an important assertion, it is not the most relevant
assertion when testing the pension footnote. The question specifically
relates to testing the information contained in the pension footnote.
When testing the footnote disclosures, the presentation and disclosure is
likely to be the most important assertion being tested.
c. Correct The question specifically relates to testing the information contained
in the pension footnote. When testing the footnote disclosures, the
presentation and disclosure is likely to be the most important
assertion being tested.
d. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion when testing the pension footnote. The question specifically
relates to testing the information contained in the pension footnote.
When testing the footnote disclosures, the presentation and disclosure is
likely to be the most important assertion being tested.
1.56 a. Incorrect Since there is no assurance about any management assertion provided when
completing an engagement to implement an ERP system, this is not
considered an attestation service. This is a consulting service.
b. Incorrect Since there is no assurance about any management assertion
provided when completing an engagement to develop a more efficient
payroll process, this is not considered an attestation service. This is a
consulting service.
c. Correct This is an attestation service. In order to assess the effectiveness of an
internal control system, the assurance provider would have to attest to
management‘s assertion that the internal control was effective in
accordance with the COSO framework, as this is the most common
b. Correct Most importantly, the auditor did not select items for testing from any
financial statement records. Rather, the auditor selected items to be
tested from the warehouse, without considering the financial statement
records. As a result, this is a test that is designed specifically to test
whether all items that should be recorded on the financial statements
actually are included on the financial statements. Thus, the assertion
being tested is the completeness assertion. The absolute key to
understanding this question is to focus on how the items were selected
for testing.
c. Incorrect Although existence is an important assertion, it is not the assertion being
tested in this situation. Most importantly, the auditor did not select items
for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
d. Incorrect Although valuation is an important assertion, it is not the assertion being
tested in this situation. Most importantly, the auditor did not select items
for testing from any financial statement records. Rather, the auditor
selected items to be tested from the warehouse, without considering the
financial statement records. As a result, this is a test that is designed
specifically to test whether all items that should be recorded on the
financial statements actually are included on the financial statements.
Thus, the assertion being tested is the completeness assertion. The
absolute key to understanding this question is to focus on how the items
were selected for testing.
1.55 a. Incorrect Although rights and obligations is an important assertion, it is not the most
relevant assertion when testing the pension footnote. The question
specifically relates to testing the information contained in the pension
footnote. When testing the footnote disclosures, the presentation and
disclosure is likely to be the most important assertion being tested.
b. Incorrect Although existence is an important assertion, it is not the most relevant
assertion when testing the pension footnote. The question specifically
relates to testing the information contained in the pension footnote.
When testing the footnote disclosures, the presentation and disclosure is
likely to be the most important assertion being tested.
c. Correct The question specifically relates to testing the information contained
in the pension footnote. When testing the footnote disclosures, the
presentation and disclosure is likely to be the most important
assertion being tested.
d. Incorrect Although valuation is an important assertion, it is not the most relevant
assertion when testing the pension footnote. The question specifically
relates to testing the information contained in the pension footnote.
When testing the footnote disclosures, the presentation and disclosure is
likely to be the most important assertion being tested.
1.56 a. Incorrect Since there is no assurance about any management assertion provided when
completing an engagement to implement an ERP system, this is not
considered an attestation service. This is a consulting service.
b. Incorrect Since there is no assurance about any management assertion
provided when completing an engagement to develop a more efficient
payroll process, this is not considered an attestation service. This is a
consulting service.
c. Correct This is an attestation service. In order to assess the effectiveness of an
internal control system, the assurance provider would have to attest to
management‘s assertion that the internal control was effective in
accordance with the COSO framework, as this is the most common
Chapter 01 - Auditing and Assurance Services
way of expressing the effectiveness of
way of expressing the effectiveness of
Chapter 01 - Auditing and Assurance Services
an internal control system. As a result, this is the definition of an
attestation service, as articulated in the book and the professional
standards.
d. Incorrect Since there is no assurance about any management assertion when
assisting the client in an IRS audit, this type of work is not considered
an attestation service.
1.57 a. Incorrect Although rights and obligations is an important assertion, it is not the most
relevant assertion for the revenue account. Management is more likely
to overstate revenue to improve profitability. As a result, when auditing
the revenue account, the most relevant assertions are likely to be
either existence/occurrence or valuation. In this situation, because of
the nature of revenue and the fact that accuracy is more closely related
to valuation, the valuation assertion is clearly the most important
assertion. In addition, the existence/occurrence option is not an
available option.
b. Correct Valuation and allocation is the PCAOB assertion that is most likely to be
tested. In general, management is more likely to overstate revenue to
improve profitability. As a result, when auditing the revenue account, the
most relevant assertions are likely to be either existence/occurrence or
valuation. In this situation, because of the nature of revenue and the fact
that accuracy is more closely related to valuation, the valuation assertion
is clearly the most important assertion. In addition, the
existence/occurrence option is not an available option.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for the revenue account. Management is
more likely to overstate revenue to improve profitability. As a result,
when auditing the revenue account, the most relevant assertions are
likely to be either existence/occurrence or valuation. In this situation,
because of the nature of revenue and the fact that accuracy is more
closely related to valuation, the valuation assertion is clearly the most
important assertion. In addition, the existence/occurrence option is not
an available option.
d. Incorrect Although completion is an important assertion, it is not the most relevant
assertion for the revenue account. Management is more likely to
overstate revenue to improve profitability. As a result, when auditing the
revenue account, the most relevant assertions are likely to be either
existence/occurrence or valuation. In this situation, because of the
nature of revenue and the fact that accuracy is more closely related to
valuation, the valuation assertion is clearly the most important assertion.
In addition, the existence/occurrence option is not an available option.
1.58 a. Incorrect Although existence is an important assertion, it is not the most relevant assertion
for goodwill account in this situation. By definition, impairment of
goodwill is an accounting charge that companies record when the
goodwill
account's carrying value on the balance sheet exceeds its fair value. As
a result, when auditing the goodwill account to determine whether it is
impaired or not, the most relevant assertion is clearly valuation.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for goodwill account in this situation. By definition,
impairment of goodwill is an accounting charge that companies record
when the goodwill account's carrying value on the balance sheet
exceeds its fair value. As a result, when auditing the goodwill account
to determine whether it is impaired or not, the most relevant assertion
is clearly valuation.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for goodwill account in this situation. By
definition, impairment of goodwill is an accounting charge that
companies record when the goodwill account's carrying value on the
balance sheet exceeds its fair value. As a result, when auditing the
an internal control system. As a result, this is the definition of an
attestation service, as articulated in the book and the professional
standards.
d. Incorrect Since there is no assurance about any management assertion when
assisting the client in an IRS audit, this type of work is not considered
an attestation service.
1.57 a. Incorrect Although rights and obligations is an important assertion, it is not the most
relevant assertion for the revenue account. Management is more likely
to overstate revenue to improve profitability. As a result, when auditing
the revenue account, the most relevant assertions are likely to be
either existence/occurrence or valuation. In this situation, because of
the nature of revenue and the fact that accuracy is more closely related
to valuation, the valuation assertion is clearly the most important
assertion. In addition, the existence/occurrence option is not an
available option.
b. Correct Valuation and allocation is the PCAOB assertion that is most likely to be
tested. In general, management is more likely to overstate revenue to
improve profitability. As a result, when auditing the revenue account, the
most relevant assertions are likely to be either existence/occurrence or
valuation. In this situation, because of the nature of revenue and the fact
that accuracy is more closely related to valuation, the valuation assertion
is clearly the most important assertion. In addition, the
existence/occurrence option is not an available option.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for the revenue account. Management is
more likely to overstate revenue to improve profitability. As a result,
when auditing the revenue account, the most relevant assertions are
likely to be either existence/occurrence or valuation. In this situation,
because of the nature of revenue and the fact that accuracy is more
closely related to valuation, the valuation assertion is clearly the most
important assertion. In addition, the existence/occurrence option is not
an available option.
d. Incorrect Although completion is an important assertion, it is not the most relevant
assertion for the revenue account. Management is more likely to
overstate revenue to improve profitability. As a result, when auditing the
revenue account, the most relevant assertions are likely to be either
existence/occurrence or valuation. In this situation, because of the
nature of revenue and the fact that accuracy is more closely related to
valuation, the valuation assertion is clearly the most important assertion.
In addition, the existence/occurrence option is not an available option.
1.58 a. Incorrect Although existence is an important assertion, it is not the most relevant assertion
for goodwill account in this situation. By definition, impairment of
goodwill is an accounting charge that companies record when the
goodwill
account's carrying value on the balance sheet exceeds its fair value. As
a result, when auditing the goodwill account to determine whether it is
impaired or not, the most relevant assertion is clearly valuation.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for goodwill account in this situation. By definition,
impairment of goodwill is an accounting charge that companies record
when the goodwill account's carrying value on the balance sheet
exceeds its fair value. As a result, when auditing the goodwill account
to determine whether it is impaired or not, the most relevant assertion
is clearly valuation.
c. Incorrect Although presentation and disclosure is an important assertion, it is not
the most relevant assertion for goodwill account in this situation. By
definition, impairment of goodwill is an accounting charge that
companies record when the goodwill account's carrying value on the
balance sheet exceeds its fair value. As a result, when auditing the
Chapter 01 - Auditing and Assurance Services
goodwill account to determine whether it is impaired or not, the most
relevant assertion is clearly valuation.
goodwill account to determine whether it is impaired or not, the most
relevant assertion is clearly valuation.
Chapter 01 - Auditing and Assurance Services
d. Correct Valuation is the correct answer. By definition, impairment of goodwill is
an accounting charge that companies record when the goodwill
account's carrying value on the balance sheet exceeds its fair value. As
a result, when auditing the goodwill account to determine whether it is
impaired or not, the most relevant assertion is clearly valuation.
1.59 a. Correct Rights and obligations is the correct answer. By definition, consignment
inventory is a business model where a product is sold by a retail store
but the title/ownership of the product is retained by a third party until the
product is actually sold by the retailer. As a result, when auditing the
inventory account of an audit client that sells consigned inventory, the
rights and obligations assertion is the most relevant assertion to be
audited since ownership of the inventory is in question.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
c. Incorrect Although existence or occurrence is an important assertion, it is not the
most relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
d. Incorrect Although valuation or allocation is an important assertion, it is not the
most relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
SOLUTIONS FOR EXERCISES AND PROBLEMS
1.60 Audit, Attestation, and Assurance Services
Students may encounter some difficulty with this matching question because the Special
Committee on Assurance Services (SCAS) listed many things that heretofore have been
considered ―attestation services‖ (long before assurance services were invented). As a result,
we believe that this question is a good vehicle for discussing the considerable overlap that exists
between attestation and assurance services.
Real estate demand studies: Assurance service
Ballot for awards show: Assurance service
Utility rates applications: Assurance service
Newspaper circulation audits: Assurance service
d. Correct Valuation is the correct answer. By definition, impairment of goodwill is
an accounting charge that companies record when the goodwill
account's carrying value on the balance sheet exceeds its fair value. As
a result, when auditing the goodwill account to determine whether it is
impaired or not, the most relevant assertion is clearly valuation.
1.59 a. Correct Rights and obligations is the correct answer. By definition, consignment
inventory is a business model where a product is sold by a retail store
but the title/ownership of the product is retained by a third party until the
product is actually sold by the retailer. As a result, when auditing the
inventory account of an audit client that sells consigned inventory, the
rights and obligations assertion is the most relevant assertion to be
audited since ownership of the inventory is in question.
b. Incorrect Although completeness is an important assertion, it is not the most
relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
c. Incorrect Although existence or occurrence is an important assertion, it is not the
most relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
d. Incorrect Although valuation or allocation is an important assertion, it is not the
most relevant assertion for the inventory account in this situation. By
definition, consignment inventory is a business model where a product is
sold by a retail store but the title/ownership of the product is retained by
a third party until the product is actually sold by the retailer. As a result,
when auditing the inventory account of an audit client that sells
consigned inventory, the rights and obligations assertion is the most
relevant assertion to be audited since ownership of the inventory is in
question.
SOLUTIONS FOR EXERCISES AND PROBLEMS
1.60 Audit, Attestation, and Assurance Services
Students may encounter some difficulty with this matching question because the Special
Committee on Assurance Services (SCAS) listed many things that heretofore have been
considered ―attestation services‖ (long before assurance services were invented). As a result,
we believe that this question is a good vehicle for discussing the considerable overlap that exists
between attestation and assurance services.
Real estate demand studies: Assurance service
Ballot for awards show: Assurance service
Utility rates applications: Assurance service
Newspaper circulation audits: Assurance service
Chapter 01 - Auditing and Assurance Services
Third-party reimbursement maximization: Assurance service
Annual financial report to stockholders: Audit service
Rental property operations review: Assurance service
Examination of financial forecasts and projections: Attestation service
Customer satisfaction surveys: Assurance service
Compliance with contractual requirements: Attestation service
Benchmarking/best practices: Assurance service
Evaluation of investment management policies: Assurance service
Information systems security reviews: Assurance service
Productivity statistics: Assurance service
Internal audit strategic review: Assurance service
Financial statements submitted to a bank loan officer: Audit service
1.61 Professional Skepticism
In general, students should note that they always need to maintain their level of professional
skepticism on the financial statement audit. There may be times when skepticism should
increase. However, even when it might seem that you can reduce your skepticism, auditors
should always maintain their professional skepticism.
a) The chair of the board of your audit client proposed that the company hire its sales manager as
their new financial controller.
Increase
b) The financial controller at your client mentions that she has just been on maternity leave for
three months and no bank reconciliations were completed during the time she was out of the
office.
Increase
c) While auditing the Accounts Receivable account for your audit client, you notice that there
is a large amount that is well past due on the aged accounts receivable schedule.
Increase
d) While auditing the year-end investment balances, you find that your client‘s investment
balance exactly agrees to the statement from the investment custodian. The custodian is a
large bank.
Stay the same
e) The new chair of the board of Adams Corporation decided to fire the entire internal audit
department. The chair believed that the work completed by the annual auditor was enough
auditing and that they were already paying enough to the external auditors.
Increase
Third-party reimbursement maximization: Assurance service
Annual financial report to stockholders: Audit service
Rental property operations review: Assurance service
Examination of financial forecasts and projections: Attestation service
Customer satisfaction surveys: Assurance service
Compliance with contractual requirements: Attestation service
Benchmarking/best practices: Assurance service
Evaluation of investment management policies: Assurance service
Information systems security reviews: Assurance service
Productivity statistics: Assurance service
Internal audit strategic review: Assurance service
Financial statements submitted to a bank loan officer: Audit service
1.61 Professional Skepticism
In general, students should note that they always need to maintain their level of professional
skepticism on the financial statement audit. There may be times when skepticism should
increase. However, even when it might seem that you can reduce your skepticism, auditors
should always maintain their professional skepticism.
a) The chair of the board of your audit client proposed that the company hire its sales manager as
their new financial controller.
Increase
b) The financial controller at your client mentions that she has just been on maternity leave for
three months and no bank reconciliations were completed during the time she was out of the
office.
Increase
c) While auditing the Accounts Receivable account for your audit client, you notice that there
is a large amount that is well past due on the aged accounts receivable schedule.
Increase
d) While auditing the year-end investment balances, you find that your client‘s investment
balance exactly agrees to the statement from the investment custodian. The custodian is a
large bank.
Stay the same
e) The new chair of the board of Adams Corporation decided to fire the entire internal audit
department. The chair believed that the work completed by the annual auditor was enough
auditing and that they were already paying enough to the external auditors.
Increase
Chapter 01 - Auditing and Assurance Services
f) While auditing the inventory balance at your audit client, you visited the client‘s warehouse
during their inventory count. You observed the count and found that the client made no
mistakes during your procedures.
Stay the same
g) The sales manager in charge of the Northeast region retired. She was replaced in the region by
the assistant sales manager in the same region.
Stay the same
h) While auditing the Interest Expense account, you notice that there was no increase in the amount
during the current year. However, you noticed that the long-term debt amount doubled during
the current year.
Increase
i) While auditing the inventory balance at your audit client, you perform test counts at their
warehouse. While you are counting, you notice a storage bin of inventory that is covered in
dust with damaged products. These items are stored near the garbage dumpsters.
Increase
j) You are auditing cash and during your review of the bank statements you notice unusual
cash transfers between two bank accounts which are inconsistent with the client‘s business.
Increase
k) While auditing accounts payable, the accounts payable clerk told you that the audit client
implemented three new internal control procedures. You tested each new control and found
that no exceptions in your testing concluding that the controls are operating effectively.
Stay the same
l) The chair of the board of your audit client decided to double the staff of the internal audit
department from 10 professionals to 20 professionals. The chair wanted to have the largest
internal audit department in the industry and the increase will let the department complete more
internal control audits throughout the year.
Stay the same
f) While auditing the inventory balance at your audit client, you visited the client‘s warehouse
during their inventory count. You observed the count and found that the client made no
mistakes during your procedures.
Stay the same
g) The sales manager in charge of the Northeast region retired. She was replaced in the region by
the assistant sales manager in the same region.
Stay the same
h) While auditing the Interest Expense account, you notice that there was no increase in the amount
during the current year. However, you noticed that the long-term debt amount doubled during
the current year.
Increase
i) While auditing the inventory balance at your audit client, you perform test counts at their
warehouse. While you are counting, you notice a storage bin of inventory that is covered in
dust with damaged products. These items are stored near the garbage dumpsters.
Increase
j) You are auditing cash and during your review of the bank statements you notice unusual
cash transfers between two bank accounts which are inconsistent with the client‘s business.
Increase
k) While auditing accounts payable, the accounts payable clerk told you that the audit client
implemented three new internal control procedures. You tested each new control and found
that no exceptions in your testing concluding that the controls are operating effectively.
Stay the same
l) The chair of the board of your audit client decided to double the staff of the internal audit
department from 10 professionals to 20 professionals. The chair wanted to have the largest
internal audit department in the industry and the increase will let the department complete more
internal control audits throughout the year.
Stay the same
Chapter 01 - Auditing and Assurance Services
1.62 Management Assertions
PCAOB Assertion Corresponding ASB
assertion
Nature of assertion
Existence or Occurrence Existence Balance
Occurrenc
e Cutoff
Transactions
Transactions
Rights and Obligations Rights and Obligations Balances
Completeness Completeness Transactions
Balances
Cutoff Transactions
Valuation and Allocation Accuracy Transactions
Balances
Valuation and Allocation Balances
Presentation and
Disclosure
Presentation Transactions
Balances
Classification Transactio
ns
Balances
1.63 Management Assertions
Existence or Occurrence - Assertions about existence or occurrence address whether assets or
liabilities of the entity exist at a given date and whether recorded transactions have occurred during a
given period. For example, management asserts that Accounts Receivable on the balance sheet
represent valid amounts actually owed to the company at year end that are due in exchange for
goods or services from the company.
Completeness - Assertions about completeness address whether all transactions and accounts that
should be presented in the financial statements are so included. For example, management asserts that
all amounts that should be recorded and included in the financial statements as accounts receivable
actually have been recorded (i.e. no accounts are omitted).
Valuation or Allocation - Assertions about valuation or allocation address whether asset, liability, equity,
revenue, and expense components have been included in the financial statements at appropriate
amounts. For example, management asserts that Accounts Receivable are stated at net realizable value
and the allowance for uncollectible accounts is adequate.
Rights and Obligations - Assertions about rights and obligations address whether assets are the rights
of the entity and liabilities are the obligations of the entity at a given date. For example, management
asserts that the Accounts
1.62 Management Assertions
PCAOB Assertion Corresponding ASB
assertion
Nature of assertion
Existence or Occurrence Existence Balance
Occurrenc
e Cutoff
Transactions
Transactions
Rights and Obligations Rights and Obligations Balances
Completeness Completeness Transactions
Balances
Cutoff Transactions
Valuation and Allocation Accuracy Transactions
Balances
Valuation and Allocation Balances
Presentation and
Disclosure
Presentation Transactions
Balances
Classification Transactio
ns
Balances
1.63 Management Assertions
Existence or Occurrence - Assertions about existence or occurrence address whether assets or
liabilities of the entity exist at a given date and whether recorded transactions have occurred during a
given period. For example, management asserts that Accounts Receivable on the balance sheet
represent valid amounts actually owed to the company at year end that are due in exchange for
goods or services from the company.
Completeness - Assertions about completeness address whether all transactions and accounts that
should be presented in the financial statements are so included. For example, management asserts that
all amounts that should be recorded and included in the financial statements as accounts receivable
actually have been recorded (i.e. no accounts are omitted).
Valuation or Allocation - Assertions about valuation or allocation address whether asset, liability, equity,
revenue, and expense components have been included in the financial statements at appropriate
amounts. For example, management asserts that Accounts Receivable are stated at net realizable value
and the allowance for uncollectible accounts is adequate.
Rights and Obligations - Assertions about rights and obligations address whether assets are the rights
of the entity and liabilities are the obligations of the entity at a given date. For example, management
asserts that the Accounts
Chapter 01 - Auditing and Assurance Services
Receivable on the balance sheet really are owned by the company. As a result, they have not factored
(i.e., sold) any of the balances that are listed on the balance sheet.
Presentation and Disclosure - Assertions about presentation and disclosure address whether particular
components of the financial statements are properly classified, described, and disclosed. For example,
management asserts that the presentation of accounts receivable and the related allowance for doubtful
accounts have been presented and are disclosed in accordance with GAAP.
1.64 Other Types of Auditing
For each of the following scenarios, please indicate whether it would be most appropriate to use an
internal auditor, a governmental auditor, or a regulatory auditor:
a) The Department of Defense for the United States plans to audit the cost accounting report for a
contract signed with a key supplier.
Governmental
b) Bigdeal Corporation manufactures paper and paper products and is trying to decide whether to
purchase Smalltek Company. Bigdeal wants to obtain a report on the operational efficiency and
effectiveness of the Smalltek sales, production, and research and development departments.
Internal
c) The FDIC plans to audit the collectability of loans at a bank that they insure.
Regulatory
d) The board of directors would like an efficiency audit completed of its manufacturing plant operations.
Internal
e) The city of New York would like an audit done of a major construction project to make sure that the
taxpayer‘s funds were used in an efficient manner.
Governmental
f) A federal bank examiner decides to audit a bank to determine whether it will remain solvent in the upcoming year.
Regulatory
g) The CEO of Franklin Corporation wants to hire an auditor to take responsibility for auditing the
company‘s compliance with environmental laws and regulations.
Internal
h) The IRS would like to audit the tax returns of a popular restaurant chain.
Regulatory
i) The state of Ohio decided to audit the use of educational grants awarded to cities and towns in the
state to make sure the funds were spent in accordance with the grant program.
Receivable on the balance sheet really are owned by the company. As a result, they have not factored
(i.e., sold) any of the balances that are listed on the balance sheet.
Presentation and Disclosure - Assertions about presentation and disclosure address whether particular
components of the financial statements are properly classified, described, and disclosed. For example,
management asserts that the presentation of accounts receivable and the related allowance for doubtful
accounts have been presented and are disclosed in accordance with GAAP.
1.64 Other Types of Auditing
For each of the following scenarios, please indicate whether it would be most appropriate to use an
internal auditor, a governmental auditor, or a regulatory auditor:
a) The Department of Defense for the United States plans to audit the cost accounting report for a
contract signed with a key supplier.
Governmental
b) Bigdeal Corporation manufactures paper and paper products and is trying to decide whether to
purchase Smalltek Company. Bigdeal wants to obtain a report on the operational efficiency and
effectiveness of the Smalltek sales, production, and research and development departments.
Internal
c) The FDIC plans to audit the collectability of loans at a bank that they insure.
Regulatory
d) The board of directors would like an efficiency audit completed of its manufacturing plant operations.
Internal
e) The city of New York would like an audit done of a major construction project to make sure that the
taxpayer‘s funds were used in an efficient manner.
Governmental
f) A federal bank examiner decides to audit a bank to determine whether it will remain solvent in the upcoming year.
Regulatory
g) The CEO of Franklin Corporation wants to hire an auditor to take responsibility for auditing the
company‘s compliance with environmental laws and regulations.
Internal
h) The IRS would like to audit the tax returns of a popular restaurant chain.
Regulatory
i) The state of Ohio decided to audit the use of educational grants awarded to cities and towns in the
state to make sure the funds were spent in accordance with the grant program.
Chapter 01 - Auditing and Assurance Services
Governmental
j) The Department of the Interior for the United States plans to audit the use of funds spent by all National Parks.
Governmental
1.65 Auditor as Guarantor. Loot Starkin appears to be uninformed on the following key points:
The auditors did not prepare the Dodge
Corporation financial statement.
Inform your neighbor that Dodge
management is primarily responsible for
preparing the financial statements and
deciding upon the appropriate accounting
principles.
An unqualified opinion does not mean that an
investment is safe. Rather, it merely means that
the financial statements are free of material
misstatement.
Tell your neighbor that the financial
statements are a historical record of the
business‘ performance. The value of Loot‘s
investment depends on future events,
including the many factors that affect market
prices. Thus, the financial statements are
just one piece of information that should be
analyzed. Tell Loot that the unqualified
opinion means only that the statements
conform to the appropriate reporting
framework (e.g., GAAP) and that the
financial
statements are free of material misstatement.
Governmental
j) The Department of the Interior for the United States plans to audit the use of funds spent by all National Parks.
Governmental
1.65 Auditor as Guarantor. Loot Starkin appears to be uninformed on the following key points:
The auditors did not prepare the Dodge
Corporation financial statement.
Inform your neighbor that Dodge
management is primarily responsible for
preparing the financial statements and
deciding upon the appropriate accounting
principles.
An unqualified opinion does not mean that an
investment is safe. Rather, it merely means that
the financial statements are free of material
misstatement.
Tell your neighbor that the financial
statements are a historical record of the
business‘ performance. The value of Loot‘s
investment depends on future events,
including the many factors that affect market
prices. Thus, the financial statements are
just one piece of information that should be
analyzed. Tell Loot that the unqualified
opinion means only that the statements
conform to the appropriate reporting
framework (e.g., GAAP) and that the
financial
statements are free of material misstatement.
Chapter 01 - Auditing and Assurance Services
1.66 Identification of Audits and Auditors
The responses to this matching type of question are ambiguous. The engagement examples are
real examples of external, internal, and governmental audit situations. You might point out to
students that the distinctions among compliance, economy and efficiency, and program results
audits are not always clear. The ―solution‖ is shown in the following matrix form, showing some
engagement numbers in two or three cells. The required schedule follows.
Type of Audit Engagement
Financial Economy and Program
Auditor Statement Compliance Efficiency Results
Independent CPA 2, 10
Internal auditor 6, 8 4, 8
Governmental (GAO) 1, 3 1, 3, 9
auditor
IRS auditor 5
Bank examiner 7
Type of Audit Type of Auditor
1. Proprietary school‘s
training expenses
Economy and efficiency or
program results
Governmental
(GAO) auditors
2. Advertising agency
financial statements
Financial statement Independent CPAs
3. Dept. of Defense
launch vehicle
Economy and efficiency or
program results
Governmental
(GAO) auditors
4. Municipal services Economy and efficiency Internal auditors
5. Tax shelters Compliance IRS auditors
6. Test pilot reporting Compliance Internal auditors
7. Bank solvency Compliance Bank examiners
8. Materials inspection
by manufacturer
Compliance or Economy and
Efficiency
Internal auditors
9. States‘ reporting
chemical use data
Program goal Governmental
(GAO) auditors
10. Sports complex forecast Financial statement Independent CPAs
1.66 Identification of Audits and Auditors
The responses to this matching type of question are ambiguous. The engagement examples are
real examples of external, internal, and governmental audit situations. You might point out to
students that the distinctions among compliance, economy and efficiency, and program results
audits are not always clear. The ―solution‖ is shown in the following matrix form, showing some
engagement numbers in two or three cells. The required schedule follows.
Type of Audit Engagement
Financial Economy and Program
Auditor Statement Compliance Efficiency Results
Independent CPA 2, 10
Internal auditor 6, 8 4, 8
Governmental (GAO) 1, 3 1, 3, 9
auditor
IRS auditor 5
Bank examiner 7
Type of Audit Type of Auditor
1. Proprietary school‘s
training expenses
Economy and efficiency or
program results
Governmental
(GAO) auditors
2. Advertising agency
financial statements
Financial statement Independent CPAs
3. Dept. of Defense
launch vehicle
Economy and efficiency or
program results
Governmental
(GAO) auditors
4. Municipal services Economy and efficiency Internal auditors
5. Tax shelters Compliance IRS auditors
6. Test pilot reporting Compliance Internal auditors
7. Bank solvency Compliance Bank examiners
8. Materials inspection
by manufacturer
Compliance or Economy and
Efficiency
Internal auditors
9. States‘ reporting
chemical use data
Program goal Governmental
(GAO) auditors
10. Sports complex forecast Financial statement Independent CPAs
Chapter 01 - Auditing and Assurance Services
1.67 Financial Assertions and Audit Objectives
By definition, management financial statement assertions give rise to questions that can be
answered with evidence. The objectives for the audit of Spillane‘s securities investments at
December 31 are to obtain evidence about the assertions implicit in the financial presentation,
specifically:
1. Existence. Obtain evidence that the securities are bona fide and held by Spillane or a
responsible custodian.
Occurrence. Obtain evidence that the loan transaction and securities purchase
transactions actually took place during the year under audit.
2. Completeness. Obtain evidence that all the securities purchase transactions were recorded.
3. Rights. Obtain evidence that Spillane owned the securities.
Obligation. Obtain evidence that $500,000 is the amount actually owed on the loan.
4. Valuation. Obtain evidence of the cost and market value of the securities held at
December 31. Decide whether any write-downs to market are required by the
appropriate reporting framework.
5. Presentation and disclosure. Obtain evidence of the committed nature of the assets,
which should mean they should be in a noncurrent classification like the loan. Obtain
evidence that restrictions on the use of the assets are disclosed fully and agree with the
loan documents.
1.68 Financial Statement Assertions and Possible Misstatements
Possible Misstatement/Risk
Relevant
Assertio
ns
a) Revenue is overstated because the
controller made up fraudulent invoices and
recorded them.
Occurrence
b) Revenue is understated because the
accountant closed the sales cycle a week
early to go on vacation.
Completeness
c) Accounts Receivable is overstated
because the accounts receivable clerk
forgot to apply available discounts.
Valuation or Allocation
d) Accounts Receivable is overstated
because sales are falsified.
Existence
e) Travel expense is overstated because
the sales force charged personal expenses
on their corporate credit card.
Occurrence
f) Accounts Payable is understated
because the office manager lost an
invoice for supplies received so it was
never recorded.
Completeness
g) The cash balance is understated
because
funds held in Japan were converted to
$USD at the wrong rate.
Valuation or Allocation
1.67 Financial Assertions and Audit Objectives
By definition, management financial statement assertions give rise to questions that can be
answered with evidence. The objectives for the audit of Spillane‘s securities investments at
December 31 are to obtain evidence about the assertions implicit in the financial presentation,
specifically:
1. Existence. Obtain evidence that the securities are bona fide and held by Spillane or a
responsible custodian.
Occurrence. Obtain evidence that the loan transaction and securities purchase
transactions actually took place during the year under audit.
2. Completeness. Obtain evidence that all the securities purchase transactions were recorded.
3. Rights. Obtain evidence that Spillane owned the securities.
Obligation. Obtain evidence that $500,000 is the amount actually owed on the loan.
4. Valuation. Obtain evidence of the cost and market value of the securities held at
December 31. Decide whether any write-downs to market are required by the
appropriate reporting framework.
5. Presentation and disclosure. Obtain evidence of the committed nature of the assets,
which should mean they should be in a noncurrent classification like the loan. Obtain
evidence that restrictions on the use of the assets are disclosed fully and agree with the
loan documents.
1.68 Financial Statement Assertions and Possible Misstatements
Possible Misstatement/Risk
Relevant
Assertio
ns
a) Revenue is overstated because the
controller made up fraudulent invoices and
recorded them.
Occurrence
b) Revenue is understated because the
accountant closed the sales cycle a week
early to go on vacation.
Completeness
c) Accounts Receivable is overstated
because the accounts receivable clerk
forgot to apply available discounts.
Valuation or Allocation
d) Accounts Receivable is overstated
because sales are falsified.
Existence
e) Travel expense is overstated because
the sales force charged personal expenses
on their corporate credit card.
Occurrence
f) Accounts Payable is understated
because the office manager lost an
invoice for supplies received so it was
never recorded.
Completeness
g) The cash balance is understated
because
funds held in Japan were converted to
$USD at the wrong rate.
Valuation or Allocation
Chapter 01 - Auditing and Assurance Services
h) The cash balance recorded on the
financial statements is overstated because
the treasurer
is stealing from the company.
Existence
i) Inventory is overstated because it is held
on
consignment but included in the inventory
balance.
Rights and Obligations
j) The cost of goods sold is overstated
because time sheets have not been
submitted for each job.
Valuation or Allocation
k) Long Term Debt is overstated due to
misclassification by management.
Presentation and Disclosure
1.69 Financial Statement Assertions and Audit Procedures
Audit Procedure
Relevant
Assertio
ns
Significant Account
a) The auditor sends a letter
to the bank confirming the
amount of cash in the bank
account.
Existence
Cash
b) The auditor takes a
shipping document and
traces it to the sales invoice
and sales journal
Completeness
Revenue
c) The auditor selects items
from the company's inventory
list and
observes those items in the
warehouse
Existence
Inventory
d) The auditor compares
prices on a vendor invoice to
an
approved price list from the
vendor.
Valuation or allocation
Accounts Payable
e) The auditor reviews
recorded expenses with
vendor invoices.
Valuation or allocation
Expenses
f) The auditor determines
whether inventory has been
pledged as collateral for a loan.
Presentation or Disclosure
Inventory
g) The auditor reads the Board
of Directors minutes for
approval of stock options.
Presentation or Disclosure
Common Stock
h) The auditor reviews lease
agreements to evaluate
whether
they have been recorded
properly.
Completeness
Capitalized Leases
i) The auditor selects inventory
items at a retail store to
determine whether any are
held on consignment.
Rights and obligations
Inventory
h) The cash balance recorded on the
financial statements is overstated because
the treasurer
is stealing from the company.
Existence
i) Inventory is overstated because it is held
on
consignment but included in the inventory
balance.
Rights and Obligations
j) The cost of goods sold is overstated
because time sheets have not been
submitted for each job.
Valuation or Allocation
k) Long Term Debt is overstated due to
misclassification by management.
Presentation and Disclosure
1.69 Financial Statement Assertions and Audit Procedures
Audit Procedure
Relevant
Assertio
ns
Significant Account
a) The auditor sends a letter
to the bank confirming the
amount of cash in the bank
account.
Existence
Cash
b) The auditor takes a
shipping document and
traces it to the sales invoice
and sales journal
Completeness
Revenue
c) The auditor selects items
from the company's inventory
list and
observes those items in the
warehouse
Existence
Inventory
d) The auditor compares
prices on a vendor invoice to
an
approved price list from the
vendor.
Valuation or allocation
Accounts Payable
e) The auditor reviews
recorded expenses with
vendor invoices.
Valuation or allocation
Expenses
f) The auditor determines
whether inventory has been
pledged as collateral for a loan.
Presentation or Disclosure
Inventory
g) The auditor reads the Board
of Directors minutes for
approval of stock options.
Presentation or Disclosure
Common Stock
h) The auditor reviews lease
agreements to evaluate
whether
they have been recorded
properly.
Completeness
Capitalized Leases
i) The auditor selects inventory
items at a retail store to
determine whether any are
held on consignment.
Rights and obligations
Inventory
Chapter 01 - Auditing and Assurance Services
j) The auditor sends letters to
customers to confirm
amounts owed to the
company
Existence
Accounts Receivable
j) The auditor sends letters to
customers to confirm
amounts owed to the
company
Existence
Accounts Receivable
Chapter 01 - Auditing and Assurance Services
1.70 Internet Exercise: Professional Certification
These answers will depend on the student‘s state of residence. Many states have recently
reduced the experience requirements by either (1) reducing or eliminating an audit experience
requirement and/or (2) reducing the experience requirement in lieu of additional education. For a
quick link to each state, visit the National Association of State Boards of Accountancy
(www.nasba.org).
1.71 Internet Exercise: Professional Certification
The Institute of Internal Auditors does a good job explaining the benefits of becoming a certified
internal auditor. The exam consists of four parts: the Internal Audit Activity‘s Role in Governance,
Risk, and Control; Conducting the Internal Audit Engagement; Business Analysis and Information
Technology; and Business Management Skills. You must have at least a bachelor‘s degree to sit
for this exam.
The Institute of Management Accountants also does a good job of explaining the benefits of the
certification. The parts of the exam include Business Analysis, Management Accounting and
Reporting, Strategic Management, and Business Applications. You must have at least a
bachelor‘s degree to sit for this exam.
The Association of Certified Fraud Examiners also does a good job of explaining the benefits of
the certification. The areas of study tested on the exam include criminology and ethics, financial
transactions, fraud investigation, and legal elements of fraud. You must have at least a
bachelor‘s degree to sit for this exam.
The Information Systems Audit and Control Association website explains the benefits of
becoming certified. You must have at least an associates‘ degree to sit for this exam.
1.72 Internet Exercise: Services Offered by the Big Four Public Accounting Firms
These answers will depend on the specific service picked by each student. Each of the firms
now offers a multitude of different services. Thus, these answers are likely to differ
substantially. The goal of the question is to expose students to the wide range of services. So,
as long as the student lists two services that are in alignment with the instructor‘s experience,
credit should be awarded.
Apollo Shoes Questions
1) List three relevant facts about Apollo Shoes that you think might have an impact on
the financial statement audit.
This question is designed to get the students to examine the Apollo Shoes Form 10K with a
critical mindset. There are a number of allowable responses to this question. Three prominent
responses would be:
a. Accounts Receivable increased significantly from the prior year.
b. Inventory increased significantly from the prior year.
c. The line of credit balance increased significantly from the prior year.
2) Define what is meant by a significant account or disclosure.
A financial statement account or footnote disclosure is considered significant if there is a
chance that the account or footnote disclosure could contain a material misstatement. As a
result, an auditor will have to conduct some procedures on each significant account or
disclosure.
1.70 Internet Exercise: Professional Certification
These answers will depend on the student‘s state of residence. Many states have recently
reduced the experience requirements by either (1) reducing or eliminating an audit experience
requirement and/or (2) reducing the experience requirement in lieu of additional education. For a
quick link to each state, visit the National Association of State Boards of Accountancy
(www.nasba.org).
1.71 Internet Exercise: Professional Certification
The Institute of Internal Auditors does a good job explaining the benefits of becoming a certified
internal auditor. The exam consists of four parts: the Internal Audit Activity‘s Role in Governance,
Risk, and Control; Conducting the Internal Audit Engagement; Business Analysis and Information
Technology; and Business Management Skills. You must have at least a bachelor‘s degree to sit
for this exam.
The Institute of Management Accountants also does a good job of explaining the benefits of the
certification. The parts of the exam include Business Analysis, Management Accounting and
Reporting, Strategic Management, and Business Applications. You must have at least a
bachelor‘s degree to sit for this exam.
The Association of Certified Fraud Examiners also does a good job of explaining the benefits of
the certification. The areas of study tested on the exam include criminology and ethics, financial
transactions, fraud investigation, and legal elements of fraud. You must have at least a
bachelor‘s degree to sit for this exam.
The Information Systems Audit and Control Association website explains the benefits of
becoming certified. You must have at least an associates‘ degree to sit for this exam.
1.72 Internet Exercise: Services Offered by the Big Four Public Accounting Firms
These answers will depend on the specific service picked by each student. Each of the firms
now offers a multitude of different services. Thus, these answers are likely to differ
substantially. The goal of the question is to expose students to the wide range of services. So,
as long as the student lists two services that are in alignment with the instructor‘s experience,
credit should be awarded.
Apollo Shoes Questions
1) List three relevant facts about Apollo Shoes that you think might have an impact on
the financial statement audit.
This question is designed to get the students to examine the Apollo Shoes Form 10K with a
critical mindset. There are a number of allowable responses to this question. Three prominent
responses would be:
a. Accounts Receivable increased significantly from the prior year.
b. Inventory increased significantly from the prior year.
c. The line of credit balance increased significantly from the prior year.
2) Define what is meant by a significant account or disclosure.
A financial statement account or footnote disclosure is considered significant if there is a
chance that the account or footnote disclosure could contain a material misstatement. As a
result, an auditor will have to conduct some procedures on each significant account or
disclosure.
Chapter 01 - Auditing and Assurance Services
3) Identify at least two significant accounts or disclosures from the financial
statements of Apollo Shoes. What makes each item significant?
This question is designed to get the students to examine the Apollo Shoes Trial Balance with a
critical mindset. There are a number of allowable responses to this question. Two prominent
responses would be:
a. Accounts Receivable is significant because of the magnitude of the account in
relation to total assets for Apollo Shoes.
b. Inventory is significant because of the magnitude of the account in relation to total
assets for Apollo Shoes.
4) Define what is meant by a relevant assertion.
A relevant assertion is "a management assertion is relevant if there is a reasonable possibility that
a material misstatement exists related to that assertion for the significant account or footnote
disclosure being audited.‖
5) Identify at least one relevant assertion for each of the significant accounts or
disclosures previously identified from the financial statements of Apollo Shoes. What
makes each assertion relevant?
Once again, there are a number of allowable responses to this question. Two responses that
related back to the suggested solution for question #3 would be:
a. Valuation of Accounts Receivable is relevant because of the significant increase in
receivables compared to last year. Importantly, this increase occurred without a
significant increase in sales. What happened? Why are they unable to collect their
receivables this year as compared to last year? Should the allowance for doubtful
accounts be increased? As a result of these questions, the risk of material
misstatement for this assertion is high.
b. Existence of Inventory is relevant because the inventory balance is a material
amount and the auditor must make sure that the inventory does really exist. The
inventory balance increased significantly compared to last year. Why? The
professional standards require that we conduct a physical inventory observation to
validate the existence of inventory. As a result of these considerations, the risk of
material misstatement for this assertion is high.
CHAPTER 2
Professional Standards
LEARNING OBJECTIVES
Review
Checkpoints
Multiple
Choice
Exercises and
Problems
1. Understand the development and
source of generally accepted
auditing standards.
1, 2, 3, 4 47, 48 52 (*), 53
2. Describe the fundamental principle
of
responsibilities and how this principle
5, 6, 7 27, 29, 35, 39, 40 54, 55, 56, 57, 62 (*),
3) Identify at least two significant accounts or disclosures from the financial
statements of Apollo Shoes. What makes each item significant?
This question is designed to get the students to examine the Apollo Shoes Trial Balance with a
critical mindset. There are a number of allowable responses to this question. Two prominent
responses would be:
a. Accounts Receivable is significant because of the magnitude of the account in
relation to total assets for Apollo Shoes.
b. Inventory is significant because of the magnitude of the account in relation to total
assets for Apollo Shoes.
4) Define what is meant by a relevant assertion.
A relevant assertion is "a management assertion is relevant if there is a reasonable possibility that
a material misstatement exists related to that assertion for the significant account or footnote
disclosure being audited.‖
5) Identify at least one relevant assertion for each of the significant accounts or
disclosures previously identified from the financial statements of Apollo Shoes. What
makes each assertion relevant?
Once again, there are a number of allowable responses to this question. Two responses that
related back to the suggested solution for question #3 would be:
a. Valuation of Accounts Receivable is relevant because of the significant increase in
receivables compared to last year. Importantly, this increase occurred without a
significant increase in sales. What happened? Why are they unable to collect their
receivables this year as compared to last year? Should the allowance for doubtful
accounts be increased? As a result of these questions, the risk of material
misstatement for this assertion is high.
b. Existence of Inventory is relevant because the inventory balance is a material
amount and the auditor must make sure that the inventory does really exist. The
inventory balance increased significantly compared to last year. Why? The
professional standards require that we conduct a physical inventory observation to
validate the existence of inventory. As a result of these considerations, the risk of
material misstatement for this assertion is high.
CHAPTER 2
Professional Standards
LEARNING OBJECTIVES
Review
Checkpoints
Multiple
Choice
Exercises and
Problems
1. Understand the development and
source of generally accepted
auditing standards.
1, 2, 3, 4 47, 48 52 (*), 53
2. Describe the fundamental principle
of
responsibilities and how this principle
5, 6, 7 27, 29, 35, 39, 40 54, 55, 56, 57, 62 (*),
Chapter 01 - Auditing and Assurance Services
relates to the characteristics and
qualifications of auditors.
64 (*), 65 (*), 66 (*),
67 (*), 68 (*)
3. Describe the fundamental
principle of performance and
identify major activities performed
in an audit.
8, 9, 10, 11, 12, 13,
14, 15, 16, 17, 18
26, 30, 31, 32, 33,
34, 36, 37, 42, 43,
44, 45
58, 59, 60, 61, 62 (*),
64 (*), 65 (*), 66 (*),
67 (*), 68 (*)
4. Understand the fundamental
principle of reporting and identify
the basic contents of the auditors‘
report.
19, 20 41, 49, 50, 51 63, 64 (*), 65 (*),
66 (*), 67 (*), 68 (*)
5. Understand the role of a system of
quality control and monitoring
efforts in enabling public
accounting firms to meet
appropriate levels of professional
quality.
21, 22, 23, 24, 25 28, 38, 46 52 (*), 69, 70, 71
(*) indicates that an item corresponds to multiple learning objectives
relates to the characteristics and
qualifications of auditors.
64 (*), 65 (*), 66 (*),
67 (*), 68 (*)
3. Describe the fundamental
principle of performance and
identify major activities performed
in an audit.
8, 9, 10, 11, 12, 13,
14, 15, 16, 17, 18
26, 30, 31, 32, 33,
34, 36, 37, 42, 43,
44, 45
58, 59, 60, 61, 62 (*),
64 (*), 65 (*), 66 (*),
67 (*), 68 (*)
4. Understand the fundamental
principle of reporting and identify
the basic contents of the auditors‘
report.
19, 20 41, 49, 50, 51 63, 64 (*), 65 (*),
66 (*), 67 (*), 68 (*)
5. Understand the role of a system of
quality control and monitoring
efforts in enabling public
accounting firms to meet
appropriate levels of professional
quality.
21, 22, 23, 24, 25 28, 38, 46 52 (*), 69, 70, 71
(*) indicates that an item corresponds to multiple learning objectives
Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR REVIEW CHECKPOINTS
2.1 Generally accepted auditing standards are auditing standards that identify necessary
qualifications and characteristics of auditors and guide the conduct of the audit examination.
The purpose of generally accepted auditing standards is to meet the following objectives of an
audit examination:
To obtain reasonable assurance about whether the financial statements as a whole
are free of material misstatement, whether due to error or fraud.
To issue a report on the financial statements
2.2 Currently, the PCAOB is responsible for developing standards for the audits of issuers, while the
AICPA is responsible for developing standards for the audits of nonissuers.
2.3 The AICPA (through the Auditing Standards Board) has responsibility for setting standards for
the audits of nonissuers. This is done through the issuance of Statements on Auditing
Standards.
The PCAOB has responsibility for setting standards for the audits of issuers. This is done
through the PCAOB‘s issuance of Auditing Standards.
While the SEC does not have responsibility for setting auditing standards per se, all PCAOB
standards must be approved by the SEC.
2.4 The three fundamental principles are:
1. Responsibilities, which involves having appropriate competence and capabilities,
complying with relevant ethical requirements, maintaining professional skepticism and
exercising professional judgment.
2. Performance, which requires auditors to obtain reasonable assurance about whether
the financial statements as a whole are free of material misstatement by: (1) planning
the work and properly supervising assistants; (2) determining and applying appropriate
material levels; (3) identifying and assessing the risk of material misstatement; and, (4)
obtaining sufficient appropriate audit evidence.
3. Reporting, which requires the auditor to express an opinion (or state that an opinion
cannot be expressed) as to whether the financial statements are presented fairly in
accordance with the applicable financial reporting framework.
2.5 Independence in fact represents auditors‘ mental attitudes (do auditors truly act in an
unbiased and impartial fashion with respect to the client and fairness of its financial
statements?). Independence in appearance relates to financial statement users‘
perceptions of auditors‘ independence.
Auditors can be independent in fact but not perceived to be independent. For example, ownership
of a small interest in a public client would probably not influence auditors‘ behavior with respect to
the client.
However, it is likely that third-party users would not perceive auditors to be independent.
2.6 Due care reflects a level of performance that would be exercised by reasonable auditors in
similar circumstances. Auditors are expected to have the skills and knowledge of others in their
profession (known as that of a prudent auditor) and are not expected to be infallible.
SOLUTIONS FOR REVIEW CHECKPOINTS
2.1 Generally accepted auditing standards are auditing standards that identify necessary
qualifications and characteristics of auditors and guide the conduct of the audit examination.
The purpose of generally accepted auditing standards is to meet the following objectives of an
audit examination:
To obtain reasonable assurance about whether the financial statements as a whole
are free of material misstatement, whether due to error or fraud.
To issue a report on the financial statements
2.2 Currently, the PCAOB is responsible for developing standards for the audits of issuers, while the
AICPA is responsible for developing standards for the audits of nonissuers.
2.3 The AICPA (through the Auditing Standards Board) has responsibility for setting standards for
the audits of nonissuers. This is done through the issuance of Statements on Auditing
Standards.
The PCAOB has responsibility for setting standards for the audits of issuers. This is done
through the PCAOB‘s issuance of Auditing Standards.
While the SEC does not have responsibility for setting auditing standards per se, all PCAOB
standards must be approved by the SEC.
2.4 The three fundamental principles are:
1. Responsibilities, which involves having appropriate competence and capabilities,
complying with relevant ethical requirements, maintaining professional skepticism and
exercising professional judgment.
2. Performance, which requires auditors to obtain reasonable assurance about whether
the financial statements as a whole are free of material misstatement by: (1) planning
the work and properly supervising assistants; (2) determining and applying appropriate
material levels; (3) identifying and assessing the risk of material misstatement; and, (4)
obtaining sufficient appropriate audit evidence.
3. Reporting, which requires the auditor to express an opinion (or state that an opinion
cannot be expressed) as to whether the financial statements are presented fairly in
accordance with the applicable financial reporting framework.
2.5 Independence in fact represents auditors‘ mental attitudes (do auditors truly act in an
unbiased and impartial fashion with respect to the client and fairness of its financial
statements?). Independence in appearance relates to financial statement users‘
perceptions of auditors‘ independence.
Auditors can be independent in fact but not perceived to be independent. For example, ownership
of a small interest in a public client would probably not influence auditors‘ behavior with respect to
the client.
However, it is likely that third-party users would not perceive auditors to be independent.
2.6 Due care reflects a level of performance that would be exercised by reasonable auditors in
similar circumstances. Auditors are expected to have the skills and knowledge of others in their
profession (known as that of a prudent auditor) and are not expected to be infallible.
Chapter 01 - Auditing and Assurance Services
2.7 Professional skepticism is a state of mind that is characterized by appropriate questioning
and a critical assessment of audit evidence.
Professional judgment is the auditors‘ application of relevant training, knowledge, and
experience in making informed decisions about appropriate courses of action during the audit
engagement.
Auditors are required to demonstrate professional skepticism and professional judgment
throughout the entire audit process.
2.8 Reasonable assurance recognizes that a GAAS audit may not detect all material
misstatements and auditors are not ―insurers‖ or ―guarantors‖ regarding the fairness of
the entity‘s financial statements.
The audit team provides reasonable assurance by considering various risks relating to the
likelihood of material misstatements and performing audit procedures to control this risk to an
acceptably low level.
2.9 An audit plan is a list of audit procedures that are performed to gather sufficient appropriate
evidence on which auditors base their opinion on the financial statements.
Audit plans are prepared during the planning stages of the audit.
2.10 An interim date is a date between the beginning of the year and the year-end. Performing audit
procedures prior to the interim date allows the audit team to spread work over a longer period of
time and focus efforts on the time period between the interim date and year-end, to allow the
audit to be completed on a more timely basis.
2.11 Materiality is the dollar amount that would influence the lending or investing decisions of
users; this concept recognizes that auditors should focus on matters that are important to
financial statement users. Materiality should be considered in planning the audit, performing
the audit, and evaluating the effect of misstatements on the entity‘s financial statements.
2.12 Auditors obtain an understanding of a client, including its internal control, as a part of the
control risk assessment process primarily in order to plan the nature, timing and extent of
further audit procedures. A secondary purpose is because of auditors‘ responsibilities for
reporting on client‘s internal controls.
2.13 As the client‘s internal control is more effective (a lower level of control risk), auditors may use
less effective substantive procedures (a higher level of detection risk). Conversely, when the
client‘s internal control is less effective (a higher level of control risk), auditors must use more
effective substantive procedures (a lower level of detection risk).
2.14 Audit evidence is defined as the information used by auditors in arriving at the conclusion on
which the audit opinion is based.
2.15 External documentary evidence is audit evidence obtained from another party to an arm‘s-length
transaction or from outside independent agencies. External evidence is received directly by
auditors and is not processed through the client‘s information processing system.
External-internal documentary evidence is documentary material that originates outside the
bounds of the client‘s information processing system but which has been received and
processed by the client.
Internal documentary evidence consists of documentary material that is produced, circulates, and
is finally stored within the client‘s information processing system. Such evidence is either not
circulated to outside parties at all or is several steps removed from third-party attention.
2.7 Professional skepticism is a state of mind that is characterized by appropriate questioning
and a critical assessment of audit evidence.
Professional judgment is the auditors‘ application of relevant training, knowledge, and
experience in making informed decisions about appropriate courses of action during the audit
engagement.
Auditors are required to demonstrate professional skepticism and professional judgment
throughout the entire audit process.
2.8 Reasonable assurance recognizes that a GAAS audit may not detect all material
misstatements and auditors are not ―insurers‖ or ―guarantors‖ regarding the fairness of
the entity‘s financial statements.
The audit team provides reasonable assurance by considering various risks relating to the
likelihood of material misstatements and performing audit procedures to control this risk to an
acceptably low level.
2.9 An audit plan is a list of audit procedures that are performed to gather sufficient appropriate
evidence on which auditors base their opinion on the financial statements.
Audit plans are prepared during the planning stages of the audit.
2.10 An interim date is a date between the beginning of the year and the year-end. Performing audit
procedures prior to the interim date allows the audit team to spread work over a longer period of
time and focus efforts on the time period between the interim date and year-end, to allow the
audit to be completed on a more timely basis.
2.11 Materiality is the dollar amount that would influence the lending or investing decisions of
users; this concept recognizes that auditors should focus on matters that are important to
financial statement users. Materiality should be considered in planning the audit, performing
the audit, and evaluating the effect of misstatements on the entity‘s financial statements.
2.12 Auditors obtain an understanding of a client, including its internal control, as a part of the
control risk assessment process primarily in order to plan the nature, timing and extent of
further audit procedures. A secondary purpose is because of auditors‘ responsibilities for
reporting on client‘s internal controls.
2.13 As the client‘s internal control is more effective (a lower level of control risk), auditors may use
less effective substantive procedures (a higher level of detection risk). Conversely, when the
client‘s internal control is less effective (a higher level of control risk), auditors must use more
effective substantive procedures (a lower level of detection risk).
2.14 Audit evidence is defined as the information used by auditors in arriving at the conclusion on
which the audit opinion is based.
2.15 External documentary evidence is audit evidence obtained from another party to an arm‘s-length
transaction or from outside independent agencies. External evidence is received directly by
auditors and is not processed through the client‘s information processing system.
External-internal documentary evidence is documentary material that originates outside the
bounds of the client‘s information processing system but which has been received and
processed by the client.
Internal documentary evidence consists of documentary material that is produced, circulates, and
is finally stored within the client‘s information processing system. Such evidence is either not
circulated to outside parties at all or is several steps removed from third-party attention.
Chapter 01 - Auditing and Assurance Services
2.16 Relevance refers to the nature of information provided by the audit evidence; that is, what
assertion(s) related to the account balance or class of transactions does the evidence support?
Reliability refers to the extent of trust that auditors can place in evidence and is primarily
influenced by the source of the evidence.
The appropriateness of audit evidence is related to both relevance and reliability; that is, as
evidence is more relevant and reliable, it is considered to have a higher level of
appropriateness.
2.17 The source of evidence affects its reliability as follows (from most to least reliable): (1) evidence
directly obtained by auditors, (2) evidence obtained from external sources, and (3) evidence
obtained from internal sources.
2.18 As auditors need to achieve lower levels of detection risk, more appropriate evidence needs to
be obtained. Thus, auditors should gather higher quality evidence (more reliable evidence). For
example, auditors may choose to obtain evidence from external sources rather than internal
sources.
In addition, for lower levels of detection risk, auditors need to gather more sufficient evidence.
Because sufficiency relates to the quantity of evidence, more transactions or components of an
account balance should be examined.
2.19 A financial reporting framework is a set of criteria used to determine the measurement,
recognition, presentation, and disclosure of material items in the financial statements. The
financial reporting framework is related to auditors‘ reporting responsibilities because this
framework serves as the basis against which the financial statements are evaluated and the
auditors‘ opinion on the financial statements is expressed.
2.20 Four types of opinions and their conclusions:
Type Conclusion
Unmodified opinion Financial statements are presented in conformity with
GAAP.
Adverse opinion Financial statements are not presented in conformity with
GAAP.
Qualified opinion Financial statements are presented in conformity with
GAAP, except for one or more departures or issues of
concern.
Disclaimer of opinion An opinion cannot be issued on the financial statements.
2.21 A system of quality control provides firms with reasonable assurance that the firm and its
personnel (1) comply with professional standards and applicable regulatory and legal
requirements and (2) issue reports that are appropriate in the circumstances.
The six elements of a system of quality control are:
1. Leadership responsibilities for quality within the firm (―tone at the top‖)
2. Relevant ethical requirements
3. Acceptance and continuance of client relationships and specific engagements
4. Human resources
5. Engagement performance
6. Monitoring
2.16 Relevance refers to the nature of information provided by the audit evidence; that is, what
assertion(s) related to the account balance or class of transactions does the evidence support?
Reliability refers to the extent of trust that auditors can place in evidence and is primarily
influenced by the source of the evidence.
The appropriateness of audit evidence is related to both relevance and reliability; that is, as
evidence is more relevant and reliable, it is considered to have a higher level of
appropriateness.
2.17 The source of evidence affects its reliability as follows (from most to least reliable): (1) evidence
directly obtained by auditors, (2) evidence obtained from external sources, and (3) evidence
obtained from internal sources.
2.18 As auditors need to achieve lower levels of detection risk, more appropriate evidence needs to
be obtained. Thus, auditors should gather higher quality evidence (more reliable evidence). For
example, auditors may choose to obtain evidence from external sources rather than internal
sources.
In addition, for lower levels of detection risk, auditors need to gather more sufficient evidence.
Because sufficiency relates to the quantity of evidence, more transactions or components of an
account balance should be examined.
2.19 A financial reporting framework is a set of criteria used to determine the measurement,
recognition, presentation, and disclosure of material items in the financial statements. The
financial reporting framework is related to auditors‘ reporting responsibilities because this
framework serves as the basis against which the financial statements are evaluated and the
auditors‘ opinion on the financial statements is expressed.
2.20 Four types of opinions and their conclusions:
Type Conclusion
Unmodified opinion Financial statements are presented in conformity with
GAAP.
Adverse opinion Financial statements are not presented in conformity with
GAAP.
Qualified opinion Financial statements are presented in conformity with
GAAP, except for one or more departures or issues of
concern.
Disclaimer of opinion An opinion cannot be issued on the financial statements.
2.21 A system of quality control provides firms with reasonable assurance that the firm and its
personnel (1) comply with professional standards and applicable regulatory and legal
requirements and (2) issue reports that are appropriate in the circumstances.
The six elements of a system of quality control are:
1. Leadership responsibilities for quality within the firm (―tone at the top‖)
2. Relevant ethical requirements
3. Acceptance and continuance of client relationships and specific engagements
4. Human resources
5. Engagement performance
6. Monitoring
Chapter 01 - Auditing and Assurance Services
2.22 In deciding whether to accept or continue an engagement with a client, firms should consider:
The integrity of the client and the identity and business reputation of its owners, key
management, related parties, and those charged with governance.
Whether the firm possesses the competency, capability, and resources to perform the engagement.
Whether the firm can comply with the necessary legal and ethical requirements.
If firms decide to withdraw from an engagement, the firm should document significant issues,
consultations, conclusions, and the basis for any conclusions related to the decision to
withdraw.
2.23 Procedures used by firms to monitor their quality control standards include:
Reviews of selected administrative and personnel records.
Reviews of engagement documentation, reports, and the client‘s financial statements.
Discussions with firm personnel
Assessments of the (1) appropriateness of the firm‘s guidance materials and
professional aids, (2) compliance with policies and procedures on independence, (3)
effectiveness of continuing professional education, and (4) decisions regarding the
acceptance and continuance of client relationships and specific engagements.
2.24 The PCAOB‘s monitoring role for firms providing auditing services to issuers includes
registering public accounting firms and conducting inspections of registered public accounting
firms.
2.25 The frequency of PCAOB inspections depends upon the number of audits conducted by member
firms. For firms performing audits for more than 100 issuers, inspections are required on an
annual basis. For those performing audits for 100 or fewer issuers, inspections are conducted
every three years.
SOLUTIONS FOR MULTIPLE-CHOICE QUESTIONS
2.26 a. Correct Gathering audit evidence is a component of the performance principle.
b. Incorrect While reasonable assurance is related to gathering audit evidence, this is
not one of the categories of principles
c. Incorrect The reporting principle relates to the contents of the auditors‘ report
d. Incorrect The responsibilities principle relates to the personal integrity and
professional qualifications of auditors.
2.27 NOTE TO INSTRUCTOR: Since this question asks students to identify the concept that is not
related to the ethical requirements of auditors, the response labeled ―correct‖ is not related to
the ethical requirement of auditors and those labeled ―incorrect‖ are related to the ethical
requirements of auditors.
a. Incorrect Due care is related to the ethical requirements of auditors.
b. Incorrect Both independence in fact and independence in appearance are
related to the ethical requirements of auditors.
c. Incorrect Both independence in fact and independence in appearance are
related to the ethical requirements of auditors.
d. Correct While professional judgment is part of the responsibilities principle, it
is not related to the ethical requirements of auditors.
2.22 In deciding whether to accept or continue an engagement with a client, firms should consider:
The integrity of the client and the identity and business reputation of its owners, key
management, related parties, and those charged with governance.
Whether the firm possesses the competency, capability, and resources to perform the engagement.
Whether the firm can comply with the necessary legal and ethical requirements.
If firms decide to withdraw from an engagement, the firm should document significant issues,
consultations, conclusions, and the basis for any conclusions related to the decision to
withdraw.
2.23 Procedures used by firms to monitor their quality control standards include:
Reviews of selected administrative and personnel records.
Reviews of engagement documentation, reports, and the client‘s financial statements.
Discussions with firm personnel
Assessments of the (1) appropriateness of the firm‘s guidance materials and
professional aids, (2) compliance with policies and procedures on independence, (3)
effectiveness of continuing professional education, and (4) decisions regarding the
acceptance and continuance of client relationships and specific engagements.
2.24 The PCAOB‘s monitoring role for firms providing auditing services to issuers includes
registering public accounting firms and conducting inspections of registered public accounting
firms.
2.25 The frequency of PCAOB inspections depends upon the number of audits conducted by member
firms. For firms performing audits for more than 100 issuers, inspections are required on an
annual basis. For those performing audits for 100 or fewer issuers, inspections are conducted
every three years.
SOLUTIONS FOR MULTIPLE-CHOICE QUESTIONS
2.26 a. Correct Gathering audit evidence is a component of the performance principle.
b. Incorrect While reasonable assurance is related to gathering audit evidence, this is
not one of the categories of principles
c. Incorrect The reporting principle relates to the contents of the auditors‘ report
d. Incorrect The responsibilities principle relates to the personal integrity and
professional qualifications of auditors.
2.27 NOTE TO INSTRUCTOR: Since this question asks students to identify the concept that is not
related to the ethical requirements of auditors, the response labeled ―correct‖ is not related to
the ethical requirement of auditors and those labeled ―incorrect‖ are related to the ethical
requirements of auditors.
a. Incorrect Due care is related to the ethical requirements of auditors.
b. Incorrect Both independence in fact and independence in appearance are
related to the ethical requirements of auditors.
c. Incorrect Both independence in fact and independence in appearance are
related to the ethical requirements of auditors.
d. Correct While professional judgment is part of the responsibilities principle, it
is not related to the ethical requirements of auditors.
Chapter 01 - Auditing and Assurance Services
2.28 a. Incorrect GAAS relates to the conduct of audit engagements and not overall professional
services.
b. Correct Standards within a system of quality control are firm- (rather than
auditor-) related.
c. Incorrect Generally accepted accounting principles are not an element
related to professional services.
d. Incorrect International auditing standards govern the conduct of audits
conducted across international borders.
2.29 a. Incorrect Relying more extensively on external evidence is related to the appropriateness
(or quality) of evidence.
b. Incorrect Focusing on items with more significant financial effects on the
financial statements is related to materiality.
c. Correct Professional skepticism is characterized by appropriate questioning and
a critical assessment of audit evidence.
d. Incorrect Financial interests are most closely related to auditors‘ independence.
2.30 a. Correct Auditors study internal control to determine the nature, timing, and extent of
further audit procedures.
b. Incorrect Consulting suggestions are secondary objectives in an audit.
c. Incorrect Information about the entity‘s internal control is, at best, indirect evidence
about assertions in the financial statements.
d. Incorrect Information about the entity‘s internal control provides auditors with
little opportunity to learn about changes in accounting principles.
2.31 a. Incorrect External evidence is considered to be more reliable than the inquiry of
management in choice (b).
b. Correct Inquiry of management is a form of internal evidence, which is the least
reliable form of evidence.
c. Incorrect Auditor-prepared evidence is considered to be the most reliable
form of evidence.
d. Incorrect Because the entity‘s legal counsel is an external party, this form of
evidence is more reliable than the inquiry of management in choice
(b).
2.32 a. Incorrect Inquiry of management is the least reliable form of evidence.
b. Incorrect Although external evidence is considered to be highly reliable,
auditors‘ personal knowledge (choice d) provides the most reliable
form of evidence
c. Incorrect While auditor evaluation of client procedures is a reliable form of
evidence, this would not be relevant to verifying the existence of newly-
acquired equipment.
d. Correct Auditors‘ personal knowledge through physical observation provides
the most reliable form of evidence; in addition, unlike evaluation of
client procedures (choice c), this relates directly to verifying the
existence of newly-acquired equipment.
2.33 a. Incorrect Inquiry of client personnel is internal evidence, which is the least reliable form
of evidence.
b. Incorrect Prenumbered client purchase orders are an internal form of evidence,
which is the least reliable form of evidence
c. Incorrect While sales invoices are documents created by external parties, the
fact that these documents were received from client personnel
reduces their reliability.
d. Correct Because the statements were received directly from outside parties, this
is a more reliable form of evidence than internal forms of evidence
(choices a and b) or external evidence received indirectly by the auditor
(choice c).
2.28 a. Incorrect GAAS relates to the conduct of audit engagements and not overall professional
services.
b. Correct Standards within a system of quality control are firm- (rather than
auditor-) related.
c. Incorrect Generally accepted accounting principles are not an element
related to professional services.
d. Incorrect International auditing standards govern the conduct of audits
conducted across international borders.
2.29 a. Incorrect Relying more extensively on external evidence is related to the appropriateness
(or quality) of evidence.
b. Incorrect Focusing on items with more significant financial effects on the
financial statements is related to materiality.
c. Correct Professional skepticism is characterized by appropriate questioning and
a critical assessment of audit evidence.
d. Incorrect Financial interests are most closely related to auditors‘ independence.
2.30 a. Correct Auditors study internal control to determine the nature, timing, and extent of
further audit procedures.
b. Incorrect Consulting suggestions are secondary objectives in an audit.
c. Incorrect Information about the entity‘s internal control is, at best, indirect evidence
about assertions in the financial statements.
d. Incorrect Information about the entity‘s internal control provides auditors with
little opportunity to learn about changes in accounting principles.
2.31 a. Incorrect External evidence is considered to be more reliable than the inquiry of
management in choice (b).
b. Correct Inquiry of management is a form of internal evidence, which is the least
reliable form of evidence.
c. Incorrect Auditor-prepared evidence is considered to be the most reliable
form of evidence.
d. Incorrect Because the entity‘s legal counsel is an external party, this form of
evidence is more reliable than the inquiry of management in choice
(b).
2.32 a. Incorrect Inquiry of management is the least reliable form of evidence.
b. Incorrect Although external evidence is considered to be highly reliable,
auditors‘ personal knowledge (choice d) provides the most reliable
form of evidence
c. Incorrect While auditor evaluation of client procedures is a reliable form of
evidence, this would not be relevant to verifying the existence of newly-
acquired equipment.
d. Correct Auditors‘ personal knowledge through physical observation provides
the most reliable form of evidence; in addition, unlike evaluation of
client procedures (choice c), this relates directly to verifying the
existence of newly-acquired equipment.
2.33 a. Incorrect Inquiry of client personnel is internal evidence, which is the least reliable form
of evidence.
b. Incorrect Prenumbered client purchase orders are an internal form of evidence,
which is the least reliable form of evidence
c. Incorrect While sales invoices are documents created by external parties, the
fact that these documents were received from client personnel
reduces their reliability.
d. Correct Because the statements were received directly from outside parties, this
is a more reliable form of evidence than internal forms of evidence
(choices a and b) or external evidence received indirectly by the auditor
(choice c).
Chapter 01 - Auditing and Assurance Services
2.34 a. Incorrect Documentation of this nature would not be related to independence.
b. Incorrect While the quality of the documentation and the conclusions included
in the documentation might provide information about competence
and capabilities, choice (c) is more closely related to planning and
supervision.
c. Correct Initials of the preparer and reviewer provide evidence that the
documentation was reviewed, which relates to planning and
supervision.
d. Incorrect While the quality of the documentation and the conclusions included in
the documentation might provide information about sufficient appropriate
evidence, choice (c) is more closely related to planning and supervision
2.35 NOTE TO INSTRUCTOR: Since this question asks students to identify the concept that is least
related to due care, the response labeled ―correct‖ is least related to due care and those
labeled ―incorrect‖ are more related to due care.
a. Incorrect Due care requires the level of skills and knowledge of others in the
auditors‘ profession, which would include independence in fact.
b. Incorrect Due care requires the skills and knowledge of others in the auditors‘
profession, which would include professional skepticism.
c. Incorrect Due care refers to the performance of a ―prudent‖ auditor.
d. Correct Reasonable assurance is related to the auditors‘ responsibility for
detecting misstatements and procedures performed during the
examination, not the concept of due care.
2.36 a. Incorrect Internal documents are a relatively low quality of evidence.
b. Incorrect Because these representations were received from an internal
source (the president of the entity), they are a relatively low
quality of evidence.
c. Incorrect While external evidence is of reasonable quality, it is of lower quality than
direct personal knowledge of the auditor (choice d).
d. Correct Direct, personal knowledge of auditors is the most appropriate form of evidence.
2.37 a. Incorrect While it may increase auditors‘ knowledge about the client, obtaining an
understanding of a client‘s internal control does not directly influence
auditors‘ competence and capabilities.
b. Incorrect Obtaining an understanding of a client‘s internal control does not
directly influence auditors‘ independence.
c. Incorrect Obtaining an understanding of a client‘s internal control does not
directly help satisfy the quality control standard about audit staff
professional development.
d. Correct The primary purpose of obtaining an understanding of a client‘s internal
control is to plan the nature, timing, and extent of further audit
procedures on an engagement.
2.38 a. Incorrect While receiving independence confirmations with respect to clients would be
important in deciding to accept or continue clients, this element is more
closely related to relevant ethical requirements (choice d).
b. Incorrect Receiving independence confirmations is not related to
engagement performance.
c. Incorrect Receiving independence confirmations is not related to monitoring.
d. Correct Independence confirmations would ensure that all firm personnel are
independent with respect to that firm‘s clients, which is related to the
―Relevant Ethical Requirements‖ element of a system of quality control.
It would not relate to acceptance and continuance of client relationships
and specific engagements (a), engagement performance (b), or
monitoring (c).
2.34 a. Incorrect Documentation of this nature would not be related to independence.
b. Incorrect While the quality of the documentation and the conclusions included
in the documentation might provide information about competence
and capabilities, choice (c) is more closely related to planning and
supervision.
c. Correct Initials of the preparer and reviewer provide evidence that the
documentation was reviewed, which relates to planning and
supervision.
d. Incorrect While the quality of the documentation and the conclusions included in
the documentation might provide information about sufficient appropriate
evidence, choice (c) is more closely related to planning and supervision
2.35 NOTE TO INSTRUCTOR: Since this question asks students to identify the concept that is least
related to due care, the response labeled ―correct‖ is least related to due care and those
labeled ―incorrect‖ are more related to due care.
a. Incorrect Due care requires the level of skills and knowledge of others in the
auditors‘ profession, which would include independence in fact.
b. Incorrect Due care requires the skills and knowledge of others in the auditors‘
profession, which would include professional skepticism.
c. Incorrect Due care refers to the performance of a ―prudent‖ auditor.
d. Correct Reasonable assurance is related to the auditors‘ responsibility for
detecting misstatements and procedures performed during the
examination, not the concept of due care.
2.36 a. Incorrect Internal documents are a relatively low quality of evidence.
b. Incorrect Because these representations were received from an internal
source (the president of the entity), they are a relatively low
quality of evidence.
c. Incorrect While external evidence is of reasonable quality, it is of lower quality than
direct personal knowledge of the auditor (choice d).
d. Correct Direct, personal knowledge of auditors is the most appropriate form of evidence.
2.37 a. Incorrect While it may increase auditors‘ knowledge about the client, obtaining an
understanding of a client‘s internal control does not directly influence
auditors‘ competence and capabilities.
b. Incorrect Obtaining an understanding of a client‘s internal control does not
directly influence auditors‘ independence.
c. Incorrect Obtaining an understanding of a client‘s internal control does not
directly help satisfy the quality control standard about audit staff
professional development.
d. Correct The primary purpose of obtaining an understanding of a client‘s internal
control is to plan the nature, timing, and extent of further audit
procedures on an engagement.
2.38 a. Incorrect While receiving independence confirmations with respect to clients would be
important in deciding to accept or continue clients, this element is more
closely related to relevant ethical requirements (choice d).
b. Incorrect Receiving independence confirmations is not related to
engagement performance.
c. Incorrect Receiving independence confirmations is not related to monitoring.
d. Correct Independence confirmations would ensure that all firm personnel are
independent with respect to that firm‘s clients, which is related to the
―Relevant Ethical Requirements‖ element of a system of quality control.
It would not relate to acceptance and continuance of client relationships
and specific engagements (a), engagement performance (b), or
monitoring (c).
Chapter 01 - Auditing and Assurance Services
2.39 a. Incorrect The responsibility to issue a report is related to the reporting principle.
b. Incorrect The requirement to gather sufficient, appropriate evidence is
related to the performance principle.
c. Correct The auditors‘ compliance with independence and due care is
related to the responsibilities principle.
d. Incorrect The responsibility to plan an audit and properly supervise assistants is
related to the performance principle.
2.40 a. Correct Consultation with an appraiser demonstrates due care if auditors do not have
expertise in the area in question.
b. Incorrect Auditors are experts in financial matters, not areas of art (and other
collectibles) valuation.
c. Incorrect GAAS applies to all audit engagements, including audit engagements
for not- for-profit organizations.
d. Incorrect Because consulting an appraiser is consistent with exercising due care (choice
a) , this cannot be correct.
2.41 NOTE TO INSTRUCTOR: Since this question asks students to identify the topic that is not been
addressed in the auditors’ report, the response labeled ―correct‖ is not addressed in the
auditors’ report and those labeled ―incorrect‖ are addressed in the auditors’ report.
a. Incorrect The responsibilities of the auditor and management are provided in
the first paragraph of the Basis for Opinion section.
b. Correct Auditors provide reasonable (but not absolute) assurance in an audit
engagement (this is noted in the second paragraph of the Basis for
Opinion section of the auditors‘ report).
c. Incorrect A description of the audit engagement is provided in the second
paragraph of the Basis for Opinion section of the auditors‘ report.
d. Incorrect The auditors‘ opinion on internal control over financial reporting is
provided in the second paragraph of the Opinion section of the
auditors‘ report.
2.42 a. Incorrect The concept of absolute assurance requires auditors to identify and detect all
material misstatements.
b. Incorrect Professional judgment relates to the application of training,
knowledge, and experience in making informed decisions. It does
not specifically relate to detecting material misstatements.
c. Incorrect The reliability of audit evidence relates to the sufficiency and
appropriateness of evidence. While more reliable evidence will reduce
the likelihood that material misstatements will not be detected, it does
not, in itself, ensure that a GAAS audit will detect all material
misstatements.
d. Correct Reasonable assurance recognizes that an audit conducted under GAAS
may fail to detect all material misstatements.
2.43 a. Incorrect The fact that the source of the evidence is internal would result in evidence
being less reliable than external evidence (choice c).
b. Incorrect The fact that the source of the evidence is internal and evidence is
developed under less effective internal control would result in evidence
being less reliable than external evidence and environments with more
effective internal control (choice c).
c. Correct Evidence is most reliable when the source of the evidence is external
and when the evidence is developed under more effective internal
control.
d. Incorrect The fact that the evidence is developed under less effective internal
control would result in evidence being less reliable than when
developed under more effective internal controls (choice c).
2.39 a. Incorrect The responsibility to issue a report is related to the reporting principle.
b. Incorrect The requirement to gather sufficient, appropriate evidence is
related to the performance principle.
c. Correct The auditors‘ compliance with independence and due care is
related to the responsibilities principle.
d. Incorrect The responsibility to plan an audit and properly supervise assistants is
related to the performance principle.
2.40 a. Correct Consultation with an appraiser demonstrates due care if auditors do not have
expertise in the area in question.
b. Incorrect Auditors are experts in financial matters, not areas of art (and other
collectibles) valuation.
c. Incorrect GAAS applies to all audit engagements, including audit engagements
for not- for-profit organizations.
d. Incorrect Because consulting an appraiser is consistent with exercising due care (choice
a) , this cannot be correct.
2.41 NOTE TO INSTRUCTOR: Since this question asks students to identify the topic that is not been
addressed in the auditors’ report, the response labeled ―correct‖ is not addressed in the
auditors’ report and those labeled ―incorrect‖ are addressed in the auditors’ report.
a. Incorrect The responsibilities of the auditor and management are provided in
the first paragraph of the Basis for Opinion section.
b. Correct Auditors provide reasonable (but not absolute) assurance in an audit
engagement (this is noted in the second paragraph of the Basis for
Opinion section of the auditors‘ report).
c. Incorrect A description of the audit engagement is provided in the second
paragraph of the Basis for Opinion section of the auditors‘ report.
d. Incorrect The auditors‘ opinion on internal control over financial reporting is
provided in the second paragraph of the Opinion section of the
auditors‘ report.
2.42 a. Incorrect The concept of absolute assurance requires auditors to identify and detect all
material misstatements.
b. Incorrect Professional judgment relates to the application of training,
knowledge, and experience in making informed decisions. It does
not specifically relate to detecting material misstatements.
c. Incorrect The reliability of audit evidence relates to the sufficiency and
appropriateness of evidence. While more reliable evidence will reduce
the likelihood that material misstatements will not be detected, it does
not, in itself, ensure that a GAAS audit will detect all material
misstatements.
d. Correct Reasonable assurance recognizes that an audit conducted under GAAS
may fail to detect all material misstatements.
2.43 a. Incorrect The fact that the source of the evidence is internal would result in evidence
being less reliable than external evidence (choice c).
b. Incorrect The fact that the source of the evidence is internal and evidence is
developed under less effective internal control would result in evidence
being less reliable than external evidence and environments with more
effective internal control (choice c).
c. Correct Evidence is most reliable when the source of the evidence is external
and when the evidence is developed under more effective internal
control.
d. Incorrect The fact that the evidence is developed under less effective internal
control would result in evidence being less reliable than when
developed under more effective internal controls (choice c).
Chapter 01 - Auditing and Assurance Services
2.44 a. Incorrect The decision to physically inspect investment securities rather than obtain an
external confirmation relates to the source of evidence, which affects
the reliability of evidence.
b. Correct The aging of accounts receivable will evaluate valuation, which is not
directly evaluated through confirmation. Therefore, aging provides
relevant evidence with respect to the valuation assertion.
c. Incorrect The number of accounts confirmed by the auditor is related to the
sufficiency of evidence, not the appropriateness of evidence (or
relevance and reliability).
d. Incorrect The decision to confirm a larger number of accounts following year-end
relates to the timing of audit procedures, not the appropriateness of
evidence (or relevance and reliability).
2.45 NOTE TO INSTRUCTOR: Since this question asks students to identify the statement that is not
true with respect to the performance principle, the response labeled ―correct‖ is not true and
those labeled
―incorrect‖ are true.
a. Correct Written audit plans are required in both initial and continuing audits.
b. Incorrect Materiality should be considered in planning the audit, performing the
audit, and evaluating the effects of misstatements on the entity‘s
financial statements.
c. Incorrect The effectiveness of the entity‘s internal control is an important
consideration in the audit team‘s assessment of the risk of material
misstatement.
d. Incorrect In order to be appropriate, evidence must be both relevant and reliable.
2.46 a. Incorrect Annual inspections are only required for audit firms that audit more than 100
issuers.
b. Correct In a PCAOB inspection, a sample of audits as well as the firm‘s
system of quality control are reviewed by the inspection team.
c. Incorrect While the deficiencies noted in sampled audit engagements are publicly
disclosed, information regarding deficiencies in the firm‘s quality control
are not publicly disclosed unless the firm fails to address those
deficiencies within one year.
d. Incorrect All firms auditing issuers must have a PCAOB inspection. If a firm
audits 100 or fewer issuers, it has an inspection every three years
rather than every year.
2.47 a. Correct Audit procedures are particular and specialized actions that auditors take to
obtain evidence during a specific engagement.
b. Incorrect Auditing standards do not apply to specific engagements, but are quality
guides that apply to all audits.
c. Incorrect Interpretive publications provide guidance to auditors on the
application of generally accepted auditing standards in specific
situation.
d. Incorrect Statements on Auditing Standards are pronouncements issued by the
Auditing Standards Board that apply to all audits of nonissuers.
2.48 a. Incorrect The PCAOB does develop Auditing Standards, but these relate to the audit of
issuers.
b. Correct The PCAOB develops Auditing Standards for the audit of issuers.
c. Incorrect The Auditing Standards Board develops Statements on Auditing Standards.
d. Incorrect The Auditing Standards Board develops Statements on Auditing Standards.
2.44 a. Incorrect The decision to physically inspect investment securities rather than obtain an
external confirmation relates to the source of evidence, which affects
the reliability of evidence.
b. Correct The aging of accounts receivable will evaluate valuation, which is not
directly evaluated through confirmation. Therefore, aging provides
relevant evidence with respect to the valuation assertion.
c. Incorrect The number of accounts confirmed by the auditor is related to the
sufficiency of evidence, not the appropriateness of evidence (or
relevance and reliability).
d. Incorrect The decision to confirm a larger number of accounts following year-end
relates to the timing of audit procedures, not the appropriateness of
evidence (or relevance and reliability).
2.45 NOTE TO INSTRUCTOR: Since this question asks students to identify the statement that is not
true with respect to the performance principle, the response labeled ―correct‖ is not true and
those labeled
―incorrect‖ are true.
a. Correct Written audit plans are required in both initial and continuing audits.
b. Incorrect Materiality should be considered in planning the audit, performing the
audit, and evaluating the effects of misstatements on the entity‘s
financial statements.
c. Incorrect The effectiveness of the entity‘s internal control is an important
consideration in the audit team‘s assessment of the risk of material
misstatement.
d. Incorrect In order to be appropriate, evidence must be both relevant and reliable.
2.46 a. Incorrect Annual inspections are only required for audit firms that audit more than 100
issuers.
b. Correct In a PCAOB inspection, a sample of audits as well as the firm‘s
system of quality control are reviewed by the inspection team.
c. Incorrect While the deficiencies noted in sampled audit engagements are publicly
disclosed, information regarding deficiencies in the firm‘s quality control
are not publicly disclosed unless the firm fails to address those
deficiencies within one year.
d. Incorrect All firms auditing issuers must have a PCAOB inspection. If a firm
audits 100 or fewer issuers, it has an inspection every three years
rather than every year.
2.47 a. Correct Audit procedures are particular and specialized actions that auditors take to
obtain evidence during a specific engagement.
b. Incorrect Auditing standards do not apply to specific engagements, but are quality
guides that apply to all audits.
c. Incorrect Interpretive publications provide guidance to auditors on the
application of generally accepted auditing standards in specific
situation.
d. Incorrect Statements on Auditing Standards are pronouncements issued by the
Auditing Standards Board that apply to all audits of nonissuers.
2.48 a. Incorrect The PCAOB does develop Auditing Standards, but these relate to the audit of
issuers.
b. Correct The PCAOB develops Auditing Standards for the audit of issuers.
c. Incorrect The Auditing Standards Board develops Statements on Auditing Standards.
d. Incorrect The Auditing Standards Board develops Statements on Auditing Standards.
Chapter 01 - Auditing and Assurance Services
2.49 a. Incorrect The description of the audit examination (including a reference to PCAOB
standards) is included in the second paragraph of the Basis for Opinion section.
b. Incorrect The auditors‘ conclusion with respect to the financial statements is
included in the first paragraph of the Opinion section.
c. Correct The responsibility of auditors and management in the financial reporting
process is included in the first paragraph of the Basis for Opinion
section.
d. Incorrect The auditors‘ conclusion with respect to internal control is included
in the second paragraph of the Opinion section.
2.50 a. Correct An adverse opinion is issued for material and pervasive departures from GAAP.
b. Incorrect A disclaimer of opinion would be issued only when auditors felt they
were unable to reach a conclusion with respect to the fairness of the
entity‘s financial statements.
c. Incorrect A qualified opinion concludes that, with the exception of a specific
matter, the entity‘s financial statements are presented according to
GAAP.
d. Incorrect An unmodified opinion concludes that the entity‘s financial
statements are presented according to GAAP.
2.51 a. Incorrect The communication principle is not one of the fundamental principles.
b. Incorrect The performance principle relates to the conduct of the audit examination.
c. Correct The reporting principle is related to the contents of the auditors‘ report,
which expresses an opinion on the entity‘s financial statements (or
indicates that an opinion cannot be expressed).
d. Incorrect The responsibilities principle relates to the characteristics and
qualifications of the auditors.
2.49 a. Incorrect The description of the audit examination (including a reference to PCAOB
standards) is included in the second paragraph of the Basis for Opinion section.
b. Incorrect The auditors‘ conclusion with respect to the financial statements is
included in the first paragraph of the Opinion section.
c. Correct The responsibility of auditors and management in the financial reporting
process is included in the first paragraph of the Basis for Opinion
section.
d. Incorrect The auditors‘ conclusion with respect to internal control is included
in the second paragraph of the Opinion section.
2.50 a. Correct An adverse opinion is issued for material and pervasive departures from GAAP.
b. Incorrect A disclaimer of opinion would be issued only when auditors felt they
were unable to reach a conclusion with respect to the fairness of the
entity‘s financial statements.
c. Incorrect A qualified opinion concludes that, with the exception of a specific
matter, the entity‘s financial statements are presented according to
GAAP.
d. Incorrect An unmodified opinion concludes that the entity‘s financial
statements are presented according to GAAP.
2.51 a. Incorrect The communication principle is not one of the fundamental principles.
b. Incorrect The performance principle relates to the conduct of the audit examination.
c. Correct The reporting principle is related to the contents of the auditors‘ report,
which expresses an opinion on the entity‘s financial statements (or
indicates that an opinion cannot be expressed).
d. Incorrect The responsibilities principle relates to the characteristics and
qualifications of the auditors.
Chapter 01 - Auditing and Assurance Services
SOLUTIONS FOR EXERCISES AND PROBLEMS
2.52 AICPA and PCAOB Responsibilities
a. The AICPA (through the Auditing Standards Board) has responsibility for setting
standards for the audits of nonissuers. This is done through the issuance of Statements
on Auditing Standards.
b. The PCAOB has responsibility for setting standards for the audits of issuers. This is
done through the PCAOB‘s issuance of Auditing Standards.
c. While the SEC does not have responsibility for setting auditing standards per se, all
PCAOB standards must be approved by the SEC.
d. The audits of issuers are governed by Auditing Standards issued by the PCAOB that
have been approved by the SEC.
e. The audits of nonissuers are governed by Statements on Auditing Standards issued by the AICPA.
f. The AICPA (for nonissuers) and PCAOB (for issuers) examine documentation related to
previous audit engagements and evaluate the audit firms‘ systems of quality control.
These evaluations are referred to as peer reviews (AICPA) and inspections (PCAOB)
2.53 Professional Guidance
a. SAS
b. AS
c. N
d. SAS
e. B
f. AS
g. B
h. AS
SOLUTIONS FOR EXERCISES AND PROBLEMS
2.52 AICPA and PCAOB Responsibilities
a. The AICPA (through the Auditing Standards Board) has responsibility for setting
standards for the audits of nonissuers. This is done through the issuance of Statements
on Auditing Standards.
b. The PCAOB has responsibility for setting standards for the audits of issuers. This is
done through the PCAOB‘s issuance of Auditing Standards.
c. While the SEC does not have responsibility for setting auditing standards per se, all
PCAOB standards must be approved by the SEC.
d. The audits of issuers are governed by Auditing Standards issued by the PCAOB that
have been approved by the SEC.
e. The audits of nonissuers are governed by Statements on Auditing Standards issued by the AICPA.
f. The AICPA (for nonissuers) and PCAOB (for issuers) examine documentation related to
previous audit engagements and evaluate the audit firms‘ systems of quality control.
These evaluations are referred to as peer reviews (AICPA) and inspections (PCAOB)
2.53 Professional Guidance
a. SAS
b. AS
c. N
d. SAS
e. B
f. AS
g. B
h. AS
Chapter 01 - Auditing and Assurance Services
2.54 Independence
a. Auditors should not follow clients‘ suggestions about the conduct of an audit unless the
suggestions clearly do not conflict with their professional competence, judgment,
honesty, independence, or ethical standards. Where there is no disagreement about the
results to be accomplished and the client‘s suggestions represent good ideas, auditors
can consider these suggestions. Within professional bounds, mutual agreement with the
client is acceptable. Auditors must never agree to any arrangement that violates
generally accepted auditing standards or the AICPA‘s Code of Professional Conduct.
b. The reasons that would not support dividing the assignment of audit work solely
according to assets, liabilities and income and expenses include the following:
1. Work should be assigned to staff members by considering the degree of
difficulty in relation to the technical competence and experience of
individual staff members.
2. Sequence of work performed on an examination should be in accordance with
an overall audit plan.
3. It is impossible to segregate work areas by major captions because often a
close relationship exists among a number of accounts in more than one
category. For example, interest and dividend income are normally based on an
asset (investments) and interest expense is normally based on a liability (long-
term debt).
4. Often a single form of audit documentation is desirable to provide evidence with
respect to balances in accounts of various types, such as an insurance analysis
supporting premium disbursements, the insurance expense portion, and the
prepaid insurance balance.
5. Duplication of staff effort would be more likely to occur if assignments were
made on such a basis.
6. Frequently, the scope of work regarding a single account requires
simultaneous participation by the staff, such as in the observation of
inventories.
Many audit operations are not susceptible to division by category, as for example
studying and evaluating internal control, testing transactions, and preparing the report.
c. The audit staff member whose uncle owns the advertising agency should not be
assigned to examine the client‘s advertising account. The firm is responsible for avoiding
relationships which might suggest a conflict of interest. Regardless of whether this staff
member could be independent and unbiased in such a situation (independence in fact),
external parties will likely be influenced in their thinking by the fact that the uncle is the
owner of the advertising agency (the staff member would not have independence in
appearance). Even if a problem of ethics were not involved, it would be unwise for the
firm to assign this staff member because the client‘s attitude could change significantly
and the firm‘s position would be jeopardized if difficulties later arose in connection with
the contract. Any situation in which bias exists or might arise should be avoided.
2.54 Independence
a. Auditors should not follow clients‘ suggestions about the conduct of an audit unless the
suggestions clearly do not conflict with their professional competence, judgment,
honesty, independence, or ethical standards. Where there is no disagreement about the
results to be accomplished and the client‘s suggestions represent good ideas, auditors
can consider these suggestions. Within professional bounds, mutual agreement with the
client is acceptable. Auditors must never agree to any arrangement that violates
generally accepted auditing standards or the AICPA‘s Code of Professional Conduct.
b. The reasons that would not support dividing the assignment of audit work solely
according to assets, liabilities and income and expenses include the following:
1. Work should be assigned to staff members by considering the degree of
difficulty in relation to the technical competence and experience of
individual staff members.
2. Sequence of work performed on an examination should be in accordance with
an overall audit plan.
3. It is impossible to segregate work areas by major captions because often a
close relationship exists among a number of accounts in more than one
category. For example, interest and dividend income are normally based on an
asset (investments) and interest expense is normally based on a liability (long-
term debt).
4. Often a single form of audit documentation is desirable to provide evidence with
respect to balances in accounts of various types, such as an insurance analysis
supporting premium disbursements, the insurance expense portion, and the
prepaid insurance balance.
5. Duplication of staff effort would be more likely to occur if assignments were
made on such a basis.
6. Frequently, the scope of work regarding a single account requires
simultaneous participation by the staff, such as in the observation of
inventories.
Many audit operations are not susceptible to division by category, as for example
studying and evaluating internal control, testing transactions, and preparing the report.
c. The audit staff member whose uncle owns the advertising agency should not be
assigned to examine the client‘s advertising account. The firm is responsible for avoiding
relationships which might suggest a conflict of interest. Regardless of whether this staff
member could be independent and unbiased in such a situation (independence in fact),
external parties will likely be influenced in their thinking by the fact that the uncle is the
owner of the advertising agency (the staff member would not have independence in
appearance). Even if a problem of ethics were not involved, it would be unwise for the
firm to assign this staff member because the client‘s attitude could change significantly
and the firm‘s position would be jeopardized if difficulties later arose in connection with
the contract. Any situation in which bias exists or might arise should be avoided.
Chapter 01 - Auditing and Assurance Services
2.55 Independence
a. Independence in fact relates to the auditors‘ ―state of mind‖ and reflects an
unbiased and impartial perspective with respect to the financial statements and other
information they audit. Independence in appearance relates to others‘ (particularly
financial statement users‘) perceptions of the auditors‘ independence.
b. The two general types of relationships that compromise auditors‘ independence are
financial relationships (owning shares of stock or having an outstanding loan to or from
a client) and managerial relationships (acting in a decision-making capacity on behalf
of a client or providing advice on systems or information that will be audited).
c. 1. While auditors might still be independent in fact with respect to the audit of the
client, the large revenues resulting from these services create a financial interest
that many users would find to be troubling. For example, consider the possibility
that clients might use the revenues from these services as a bargaining tool with
auditors if an issue arises during the audit engagement.
2. This would clearly pose a compromise to auditors‘ independence and would not
be permitted under current guidelines. The issues in this case are (1) the fact
that the auditor is directly involved with the engagement and (2) the executive-
level position occupied by his or her spouse with a client.
3. This introduces a similar issue to (2), but would be less likely to compromise the
auditors‘ independence. The major differences in this scenario are (1) the
auditor is not directly involved with the engagement, (2) the level of position held
by the auditor‘s relative is not at the executive level, and (3) the relationship
between the auditor and other individual is not as close. Professional standards
would likely not conclude that this situation would compromise the auditor‘s
independence.
4. This represents a direct financial interest in a client. The issue is whether the fact
that the staff member is not a part of the engagement team compromises his or
her independence. While professional guidelines would not conclude that this
situation compromises the independence of the staff member, many firms have
adopted the practice of not permitting any of their professional staff to hold
financial interests in their audit clients.
2.55 Independence
a. Independence in fact relates to the auditors‘ ―state of mind‖ and reflects an
unbiased and impartial perspective with respect to the financial statements and other
information they audit. Independence in appearance relates to others‘ (particularly
financial statement users‘) perceptions of the auditors‘ independence.
b. The two general types of relationships that compromise auditors‘ independence are
financial relationships (owning shares of stock or having an outstanding loan to or from
a client) and managerial relationships (acting in a decision-making capacity on behalf
of a client or providing advice on systems or information that will be audited).
c. 1. While auditors might still be independent in fact with respect to the audit of the
client, the large revenues resulting from these services create a financial interest
that many users would find to be troubling. For example, consider the possibility
that clients might use the revenues from these services as a bargaining tool with
auditors if an issue arises during the audit engagement.
2. This would clearly pose a compromise to auditors‘ independence and would not
be permitted under current guidelines. The issues in this case are (1) the fact
that the auditor is directly involved with the engagement and (2) the executive-
level position occupied by his or her spouse with a client.
3. This introduces a similar issue to (2), but would be less likely to compromise the
auditors‘ independence. The major differences in this scenario are (1) the
auditor is not directly involved with the engagement, (2) the level of position held
by the auditor‘s relative is not at the executive level, and (3) the relationship
between the auditor and other individual is not as close. Professional standards
would likely not conclude that this situation would compromise the auditor‘s
independence.
4. This represents a direct financial interest in a client. The issue is whether the fact
that the staff member is not a part of the engagement team compromises his or
her independence. While professional guidelines would not conclude that this
situation compromises the independence of the staff member, many firms have
adopted the practice of not permitting any of their professional staff to hold
financial interests in their audit clients.
Chapter 01 - Auditing and Assurance Services
2.56 Professional Skepticism
a. Professional skepticism refers to a state of mind that is characterized by appropriate
questioning and a critical assessment of audit evidence.
b. Auditors are required to maintain professional skepticism throughout the audit,
including during the following stages: (1) engagement planning, (2) risk assessment,
(3) audit evidence, and (4) reporting.
c. 1. The strong relationships and friendships that have developed between the firm
personnel and client‘s officers may lead to an increased level of trust that would
reduce the likelihood of questioning and critically assessing audit evidence.
2. The time pressure resulting from other workload demands and deadlines related
to other engagements may result in a desire to complete the audit more
promptly and reduce the extent to which the firm personnel question and
critically assess audit evidence.
3. The client‘s wishes to reduce or limit the audit fee may make firm personnel less
likely to question and critically assess audit evidence, since doing so would
increase the costs incurred during the audit without a corresponding increase in
revenues.
2.57 Responsibilities Principle
a. Ethical requirements. Martin should consider any potential impacts of the family
relationship of one of its staff accountants with the Chief Financial Officer on its ability to
maintain independence in fact and independence in appearance. The important role that
the Chief Financial Officer plays in the financial reporting process makes potential
relationships with this individual particularly sensitive.
b. Competence and capabilities. The fact that Phillip, Inc. is in an industry in which Martin
does not have significant experience (manufacturing) and is larger in size than most of
Martin‘s clients raises potential concerns with respect to Martin‘s ability to appropriately
conduct the audit of Phillip.
c. Professional skepticism and professional judgement. Martin appears to exhibit
appropriate professional judgment and skepticism by verifying the reason for the
change in auditors by contacting Phillip‘s former auditors, rather than just accepting
Phillip‘s response to Martin‘s inquiries about the reason for the change.
d. Competence and capabilities. Martin‘s concerns about its inability to conduct an
appropriate observation of Phillip‘s inventories (which are highly material to the
financial statements) raises additional issues related to Martin‘s competence and
capabilities beyond the industry and size of Phillip.
e. Professional skepticism and professional judgment. If Martin‘s proposal is accepted and
Martin accepts the engagement, it should not rely on Phillip‘s representation that no
transfers of inventory have occurred between locations without some form of verification
and additional testing. Appropriate professional skepticism would suggest that other
means of addressing this issue should be considered.
2.56 Professional Skepticism
a. Professional skepticism refers to a state of mind that is characterized by appropriate
questioning and a critical assessment of audit evidence.
b. Auditors are required to maintain professional skepticism throughout the audit,
including during the following stages: (1) engagement planning, (2) risk assessment,
(3) audit evidence, and (4) reporting.
c. 1. The strong relationships and friendships that have developed between the firm
personnel and client‘s officers may lead to an increased level of trust that would
reduce the likelihood of questioning and critically assessing audit evidence.
2. The time pressure resulting from other workload demands and deadlines related
to other engagements may result in a desire to complete the audit more
promptly and reduce the extent to which the firm personnel question and
critically assess audit evidence.
3. The client‘s wishes to reduce or limit the audit fee may make firm personnel less
likely to question and critically assess audit evidence, since doing so would
increase the costs incurred during the audit without a corresponding increase in
revenues.
2.57 Responsibilities Principle
a. Ethical requirements. Martin should consider any potential impacts of the family
relationship of one of its staff accountants with the Chief Financial Officer on its ability to
maintain independence in fact and independence in appearance. The important role that
the Chief Financial Officer plays in the financial reporting process makes potential
relationships with this individual particularly sensitive.
b. Competence and capabilities. The fact that Phillip, Inc. is in an industry in which Martin
does not have significant experience (manufacturing) and is larger in size than most of
Martin‘s clients raises potential concerns with respect to Martin‘s ability to appropriately
conduct the audit of Phillip.
c. Professional skepticism and professional judgement. Martin appears to exhibit
appropriate professional judgment and skepticism by verifying the reason for the
change in auditors by contacting Phillip‘s former auditors, rather than just accepting
Phillip‘s response to Martin‘s inquiries about the reason for the change.
d. Competence and capabilities. Martin‘s concerns about its inability to conduct an
appropriate observation of Phillip‘s inventories (which are highly material to the
financial statements) raises additional issues related to Martin‘s competence and
capabilities beyond the industry and size of Phillip.
e. Professional skepticism and professional judgment. If Martin‘s proposal is accepted and
Martin accepts the engagement, it should not rely on Phillip‘s representation that no
transfers of inventory have occurred between locations without some form of verification
and additional testing. Appropriate professional skepticism would suggest that other
means of addressing this issue should be considered.
Chapter 01 - Auditing and Assurance Services
f. Ethical requirements. While ensuring that firm personnel are independent in fact and in
appearance with respect to Phillip, Martin should consider this issue prior to submitting a
proposal rather than after doing so (assuming that the proposal is accepted).
2.58 Responsibilities Principle: Planning
One initial issue that is raised in this scenario is the fact that the firm is very small (one person
with two assistants) and does not appear to do a meaningful amount of audit work (the problem
description identifies the firm as primarily ―compiling clients‘ monthly statements and preparing
income tax returns‖). In addition, the scenario notes that it would be considered a challenge to
accept new audit clients. As a result, one possible response might question this firm‘s ability to
conduct the proposed audit, regardless of some of the timing issues that are present in the
President‘s request.
From a theoretical viewpoint (and, in fact, from a practical viewpoint as well) such short notice of a
request for an audit causes difficulties with planning the audit work, establishing staffing
requirements, and reviewing the work; all of these features are important elements in the
exercise of due care. The December 26 - January 20 period is a serious time constraint for an
initial audit engagement. The greatest difficulties involve due care as well as the ability to
appropriately perform the engagement (planning and supervision, determining materiality levels,
identifying and assessing risks of material misstatement, and obtaining sufficient appropriate
evidence). In view of the short notice and the time constraint, there may be some question as to
whether an audit could be adequately completed by January 20.
f. Ethical requirements. While ensuring that firm personnel are independent in fact and in
appearance with respect to Phillip, Martin should consider this issue prior to submitting a
proposal rather than after doing so (assuming that the proposal is accepted).
2.58 Responsibilities Principle: Planning
One initial issue that is raised in this scenario is the fact that the firm is very small (one person
with two assistants) and does not appear to do a meaningful amount of audit work (the problem
description identifies the firm as primarily ―compiling clients‘ monthly statements and preparing
income tax returns‖). In addition, the scenario notes that it would be considered a challenge to
accept new audit clients. As a result, one possible response might question this firm‘s ability to
conduct the proposed audit, regardless of some of the timing issues that are present in the
President‘s request.
From a theoretical viewpoint (and, in fact, from a practical viewpoint as well) such short notice of a
request for an audit causes difficulties with planning the audit work, establishing staffing
requirements, and reviewing the work; all of these features are important elements in the
exercise of due care. The December 26 - January 20 period is a serious time constraint for an
initial audit engagement. The greatest difficulties involve due care as well as the ability to
appropriately perform the engagement (planning and supervision, determining materiality levels,
identifying and assessing risks of material misstatement, and obtaining sufficient appropriate
evidence). In view of the short notice and the time constraint, there may be some question as to
whether an audit could be adequately completed by January 20.
Chapter 01 - Auditing and Assurance Services
2.59 Performance Principle: Evidence
a. Sufficiency refers to the quantity of evidence, which is the number of transactions or
components of an account balance of class of transactions examined by the audit team.
As it relates to evidence, the term appropriate refers to the quality of evidence.
Appropriateness is affected by the information the evidence provides to the audit team
(relevance) as well as the extent to which the audit team can trust the evidence
(reliability).
b. Relevance refers to the nature of information provided by the audit evidence (the
assertion or assertions supported by the evidence). Reliability refers to the extent of
trust the audit team can place in the evidence.
Relevance and reliability both affect the appropriateness of audit evidence; as the
relevance and reliability of evidence increases, the appropriateness of evidence
increases.
c. The source of evidence has in important effect on its reliability. The three sources of
evidence (from most to least reliable) are:
1. Evidence directly obtained by the auditor.
2. Evidence obtained from external sources.
3. Evidence obtained from internal sources.
d. As the entity‘s internal control is more effective, auditors would assess lower levels of
the risk of material misstatement. This would allow them to permit a higher level of
detection risk, which means that they could gather less sufficient and less appropriate
evidence.
In contrast, as the entity‘s internal control is less effective, auditors would assess higher
levels of the risk of material misstatement. This would require auditors to control
detection risk to lower levels, which means that they would be required to gather more
sufficient and more appropriate evidence.
2.59 Performance Principle: Evidence
a. Sufficiency refers to the quantity of evidence, which is the number of transactions or
components of an account balance of class of transactions examined by the audit team.
As it relates to evidence, the term appropriate refers to the quality of evidence.
Appropriateness is affected by the information the evidence provides to the audit team
(relevance) as well as the extent to which the audit team can trust the evidence
(reliability).
b. Relevance refers to the nature of information provided by the audit evidence (the
assertion or assertions supported by the evidence). Reliability refers to the extent of
trust the audit team can place in the evidence.
Relevance and reliability both affect the appropriateness of audit evidence; as the
relevance and reliability of evidence increases, the appropriateness of evidence
increases.
c. The source of evidence has in important effect on its reliability. The three sources of
evidence (from most to least reliable) are:
1. Evidence directly obtained by the auditor.
2. Evidence obtained from external sources.
3. Evidence obtained from internal sources.
d. As the entity‘s internal control is more effective, auditors would assess lower levels of
the risk of material misstatement. This would allow them to permit a higher level of
detection risk, which means that they could gather less sufficient and less appropriate
evidence.
In contrast, as the entity‘s internal control is less effective, auditors would assess higher
levels of the risk of material misstatement. This would require auditors to control
detection risk to lower levels, which means that they would be required to gather more
sufficient and more appropriate evidence.
Chapter 01 - Auditing and Assurance Services
2.60 Performance Principle
The important elements of the performance principle and their relation to the C. Reis Company audit are:
1. Auditors must plan the work and appropriately supervise any assistants. Fulfilling this
element would include the preparation of an audit plan for accounts receivable and
reviewing it with the assistant prior to beginning the examination. These tasks were not
done. Also, the completed audit documentation should have been reviewed to determine
whether an adequate examination was performed. The illustration states that this
procedure was followed.
2. Auditors must determine and apply appropriate materiality levels throughout the
audit. This scenario did not address the process through which materiality levels
were determined, so potential strengths and weaknesses related to materiality
cannot be assessed.
3. Auditors must identify and assess risks of material misstatement. This element requires
auditors to obtain a sufficient understanding of the entity and its environment, including its
internal control, to assess the risk of material misstatement of the financial statements
whether due to error or fraud, and to design the nature, timing, and extent of further audit
procedures. The case presented did not reference any work on the internal control.
Complete reliance upon prior-year audit documentation in lieu of an evaluation of the
existing internal control is improper, because changes may have been implemented to
the system and controls by the client.
4. Auditors must obtain sufficient appropriate audit evidence. The assistant‘s preparation of
audit documentation, confirmation requests, and other procedures seem to fulfill the
requirements of this standard if the audit work is properly performed and is of sufficient
scope.
2.60 Performance Principle
The important elements of the performance principle and their relation to the C. Reis Company audit are:
1. Auditors must plan the work and appropriately supervise any assistants. Fulfilling this
element would include the preparation of an audit plan for accounts receivable and
reviewing it with the assistant prior to beginning the examination. These tasks were not
done. Also, the completed audit documentation should have been reviewed to determine
whether an adequate examination was performed. The illustration states that this
procedure was followed.
2. Auditors must determine and apply appropriate materiality levels throughout the
audit. This scenario did not address the process through which materiality levels
were determined, so potential strengths and weaknesses related to materiality
cannot be assessed.
3. Auditors must identify and assess risks of material misstatement. This element requires
auditors to obtain a sufficient understanding of the entity and its environment, including its
internal control, to assess the risk of material misstatement of the financial statements
whether due to error or fraud, and to design the nature, timing, and extent of further audit
procedures. The case presented did not reference any work on the internal control.
Complete reliance upon prior-year audit documentation in lieu of an evaluation of the
existing internal control is improper, because changes may have been implemented to
the system and controls by the client.
4. Auditors must obtain sufficient appropriate audit evidence. The assistant‘s preparation of
audit documentation, confirmation requests, and other procedures seem to fulfill the
requirements of this standard if the audit work is properly performed and is of sufficient
scope.
Chapter 01 - Auditing and Assurance Services
2.61 Performance Principle
a. Risk assessment (Evaluating the effectiveness of the client‘s internal control is used to
assess control risk. Control risk, along with the inherent risk, forms the basis for the
auditors‘ assessment of the risk of material misstatement).
b. Planning and supervision (Obtaining an understanding of the client‘s industry is
performed in the planning stages of the audit examination).
c. The concept of reasonable assurance acknowledges that auditors cannot reduce the risk
of failing to detect a material misstatement to zero. In addition, the concept of
reasonable assurance is also related to the risk of material misstatement and audit
evidence, since the risk of material misstatement and audit evidence will be used to limit
the failure to detect a material misstatement to an appropriate (low) level. However,
these processes cannot be relied upon to reduce this risk to zero.
d. Audit evidence (Obtaining confirmations from the client‘s customers is an
example of a substantive procedure that provides external evidence, which is a
highly reliable form of evidence).
e. Planning and supervision (Preparing a written audit plan is done in the planning stages of
the audit examination).
f. This statement may relate to the audit evidence element, as it affects the type of audit
evidence that is obtained during the examination. In addition, because auditors are
required to design substantive procedures to provide reasonable assurance (but not
absolute assurance), this statement is also related to reasonable assurance. Finally, the
fact that auditors are concerned with misstatements that have a significant effect on
financial statement users‘ decisions indicates that this statement is related to the
materiality element.
g. This statement considers the significance of a misstatement, or materiality. In
addition, the likelihood that the account balance contains a material misstatement is
inherent risk, which is evaluated during the risk assessment stage of the audit.
h. The concept of reasonable assurance acknowledges that auditors cannot provide
absolute assurance because of mistakes and misinterpretations in evaluating
evidence.
2.61 Performance Principle
a. Risk assessment (Evaluating the effectiveness of the client‘s internal control is used to
assess control risk. Control risk, along with the inherent risk, forms the basis for the
auditors‘ assessment of the risk of material misstatement).
b. Planning and supervision (Obtaining an understanding of the client‘s industry is
performed in the planning stages of the audit examination).
c. The concept of reasonable assurance acknowledges that auditors cannot reduce the risk
of failing to detect a material misstatement to zero. In addition, the concept of
reasonable assurance is also related to the risk of material misstatement and audit
evidence, since the risk of material misstatement and audit evidence will be used to limit
the failure to detect a material misstatement to an appropriate (low) level. However,
these processes cannot be relied upon to reduce this risk to zero.
d. Audit evidence (Obtaining confirmations from the client‘s customers is an
example of a substantive procedure that provides external evidence, which is a
highly reliable form of evidence).
e. Planning and supervision (Preparing a written audit plan is done in the planning stages of
the audit examination).
f. This statement may relate to the audit evidence element, as it affects the type of audit
evidence that is obtained during the examination. In addition, because auditors are
required to design substantive procedures to provide reasonable assurance (but not
absolute assurance), this statement is also related to reasonable assurance. Finally, the
fact that auditors are concerned with misstatements that have a significant effect on
financial statement users‘ decisions indicates that this statement is related to the
materiality element.
g. This statement considers the significance of a misstatement, or materiality. In
addition, the likelihood that the account balance contains a material misstatement is
inherent risk, which is evaluated during the risk assessment stage of the audit.
h. The concept of reasonable assurance acknowledges that auditors cannot provide
absolute assurance because of mistakes and misinterpretations in evaluating
evidence.
Chapter 01 - Auditing and Assurance Services
2.62 Responsibilities and Performance Principles
a. While auditors typically cannot influence the susceptibility of accounts to misstatements
or the effectiveness of the entity‘s internal control (both of which comprise the risk of
material misstatement), this risk needs to be considered in order to determine the nature,
timing, and extent of further audit procedures.
b. This statement is correct; if internal control is less effective, auditors are required to
gather more sufficient and more appropriate evidence. However, in addition to the
number of transactions and reliability of evidence, auditors should also consider the
relevance of the evidence they gather and the extent to which that evidence supports
the assertions of interest.
c. Auditors are not required to provide absolute assurance as to the fairness of the
financial statements, which is what is being suggested in this statement. While it is true
that a great deal of time and effort is necessary in an audit engagement, auditors are
only required to provide reasonable assurance with respect to the ability to detect
material misstatements.
d. This statement relates to the concept of materiality and is appropriate. However, it is
important to note that the consideration of materiality in an audit is highly complex and
requires an extremely high level of professional judgment.
e. While physical inspection of the stock certificates will provide more reliable evidence than
confirming the certificates held with the custodian, it may not be necessary for auditors to
conduct such an inspection. In many cases, a less reliable, but still effective procedure
such as confirmation with the custodian would be appropriate.
2.63 Reporting Principle
a. The purpose of the auditors‘ opinion and report is to express an opinion (or indicate
that an opinion cannot be expressed) as to whether the financial statements are
presented fairly, in all material respects, in accordance with the applicable financial
reporting framework.
b. NOTE TO INSTRUCTOR: The following response assumes that no additional reporting
language is necessary (i.e., auditors issue the standard report) and that the auditors
issue a separate report on the entity’s internal control over financial reporting rather than
a combined report.
The major sections in the auditors‘ report for an issuer, as well as the major contents of
these paragraphs, are:
1. Opinion on the Financial Statements Section:
Identifies the financial statements and years examined examined by
the audit team
Expresses an opinion on the fairness of the financial statements
Identifies the auditors‘ opinion and references the auditors‘ report on
internal control over financial reporting
2. Basis for Opinion Section:
Summarizes management‘s and the audit team‘s responsibility for the
financial statements
Indicates an audit was performed in accordance with PCAOB standards
Provides a brief overview of an audit examination.
Indicates that the audit provides a reasonable basis for the opinion.
2.62 Responsibilities and Performance Principles
a. While auditors typically cannot influence the susceptibility of accounts to misstatements
or the effectiveness of the entity‘s internal control (both of which comprise the risk of
material misstatement), this risk needs to be considered in order to determine the nature,
timing, and extent of further audit procedures.
b. This statement is correct; if internal control is less effective, auditors are required to
gather more sufficient and more appropriate evidence. However, in addition to the
number of transactions and reliability of evidence, auditors should also consider the
relevance of the evidence they gather and the extent to which that evidence supports
the assertions of interest.
c. Auditors are not required to provide absolute assurance as to the fairness of the
financial statements, which is what is being suggested in this statement. While it is true
that a great deal of time and effort is necessary in an audit engagement, auditors are
only required to provide reasonable assurance with respect to the ability to detect
material misstatements.
d. This statement relates to the concept of materiality and is appropriate. However, it is
important to note that the consideration of materiality in an audit is highly complex and
requires an extremely high level of professional judgment.
e. While physical inspection of the stock certificates will provide more reliable evidence than
confirming the certificates held with the custodian, it may not be necessary for auditors to
conduct such an inspection. In many cases, a less reliable, but still effective procedure
such as confirmation with the custodian would be appropriate.
2.63 Reporting Principle
a. The purpose of the auditors‘ opinion and report is to express an opinion (or indicate
that an opinion cannot be expressed) as to whether the financial statements are
presented fairly, in all material respects, in accordance with the applicable financial
reporting framework.
b. NOTE TO INSTRUCTOR: The following response assumes that no additional reporting
language is necessary (i.e., auditors issue the standard report) and that the auditors
issue a separate report on the entity’s internal control over financial reporting rather than
a combined report.
The major sections in the auditors‘ report for an issuer, as well as the major contents of
these paragraphs, are:
1. Opinion on the Financial Statements Section:
Identifies the financial statements and years examined examined by
the audit team
Expresses an opinion on the fairness of the financial statements
Identifies the auditors‘ opinion and references the auditors‘ report on
internal control over financial reporting
2. Basis for Opinion Section:
Summarizes management‘s and the audit team‘s responsibility for the
financial statements
Indicates an audit was performed in accordance with PCAOB standards
Provides a brief overview of an audit examination.
Indicates that the audit provides a reasonable basis for the opinion.
Chapter 01 - Auditing and Assurance Services
3. Critical Audit Matter Section:
Identifies matters that relate to material accounts and disclosures that
involved challenging, subjective, or complex judgments.
Indicates that the identified matters do not affect the opinion on the
financial statements.
c An unmodified opinion indicates that the financial statements are presented in
conformity with GAAP.
A qualified opinion indicates that that except for a relatively isolated (usually limited)
matter, the entity‘s financial statements are presented in conformity with GAAP.
An adverse opinion concludes that the entity‘s financial statements are not presented in
conformity with GAAP.
A disclaimer of opinion indicates that an opinion cannot be expressed on the entity‘s
financial statements.
d. In the opinion paragraph of the auditors‘ report, the phrase ―in all material respects‖
indicates that materiality has been considered by the auditors in evaluating the
conformity of the financial statements with GAAP.
2.64 Fundamental Principles
a. Responsibilities
b. Performance
c. Responsibilities
d. Reporting
e. Performance
f. Performance
g. Responsibilities
h. Reporting
i. Performance
j. Responsibilities
3. Critical Audit Matter Section:
Identifies matters that relate to material accounts and disclosures that
involved challenging, subjective, or complex judgments.
Indicates that the identified matters do not affect the opinion on the
financial statements.
c An unmodified opinion indicates that the financial statements are presented in
conformity with GAAP.
A qualified opinion indicates that that except for a relatively isolated (usually limited)
matter, the entity‘s financial statements are presented in conformity with GAAP.
An adverse opinion concludes that the entity‘s financial statements are not presented in
conformity with GAAP.
A disclaimer of opinion indicates that an opinion cannot be expressed on the entity‘s
financial statements.
d. In the opinion paragraph of the auditors‘ report, the phrase ―in all material respects‖
indicates that materiality has been considered by the auditors in evaluating the
conformity of the financial statements with GAAP.
2.64 Fundamental Principles
a. Responsibilities
b. Performance
c. Responsibilities
d. Reporting
e. Performance
f. Performance
g. Responsibilities
h. Reporting
i. Performance
j. Responsibilities
Chapter 01 - Auditing and Assurance Services
IF YOU WANT THIS TEST BANK OR SOLUTION
MANUAL EMAIL ME [email protected] TO
RECEIVE ALL CHAPTERS IN PDF FORMAT
k.
IF YOU WANT THIS TEST BANK OR SOLUTION
MANUAL EMAIL ME [email protected] TO
RECEIVE ALL CHAPTERS IN PDF FORMAT
k.
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