AUD 6

Question 1

In violation of company policy, Lowell Company erroneously capitalized the cost of painting its warehouse. The auditor examining Lowell’s financial statements would most likely detect this when

Discussing capitalization policies with Lowell’s controller.

Examining maintenance expense accounts.

Observing, during the physical inventory observation, that the warehouse had been painted.

Examining the construction work orders supporting items capitalized during the year.

Answer 1

Examining the construction work orders supporting items capitalized during the year.

This answer is correct because the cost which was erroneously capitalized will be included in the population of construction work orders which were capitalized during the year.

Question 2

Which of the following conditions would not normally cause the auditor to question whether material errors or fraud exist?

The client’s information system generates exception reports which periodically include bookkeeping errors.

Differences exist between control accounts and supporting subsidiary records.

Transactions are not supported by proper documentation.

Differences are disclosed by confirmations.

Answer 2

The client’s information system generates exception reports which periodically include bookkeeping errors.

This answer is correct since the client may be expected to correct errors included on a computer-generated exception report.

Question 3

A CPA’s report performing an examination of an entity’s internal control identified several material weaknesses and will be published in the entity’s annual report to shareholders. Management intends to include a statement asserting that the cost of correcting the weaknesses would exceed the benefits of reducing the risk of errors and fraud. The CPA should

Insist that management’s statement not appear in the same document as the CPA’s report.

Investigate whether the cost of correcting the weaknesses would, in fact, exceed the benefits.

Insist that management correct the weaknesses if cost is the only consideration.

Not express any opinion as to management’s statement.

Answer 3

Not express any opinion as to management’s statement.

This answer is correct because the accountant should not express any opinion as to management’s statement. Additionally, the accountant is not precluded from disclaiming an opinion on any such statement.

Question 4

An auditor desired to test credit approval on 10,000 sales invoices processed during the year. The auditor designed a statistical sample that would provide 1% risk of assessing control risk too low (99% confidence) that not more than 7% of the sales invoices lacked approval. The auditor estimated from previous experience that about 2 1/2% of the sales invoices lacked approval. A sample of 200 invoices was examined and 7 of them were lacking approval. The auditor then determined the achieved upper precision limit to be 8%.

The allowance for sampling risk was

5 1/2%
4 1/2%
3 1/2%
1%

Answer 4

4 1/2%

The requirement is to determine the allowance for sampling risk of the presented sample. When considering the allowance for sampling risk, one may consider both the planned allowance for sampling risk or the adjusted allowance based on the sample results. Answer (b) is correct because both the planned and adjusted allowance for sampling risk are 4 1/2% (7% – 2.5% for planning purposes, and 8% – 3.5% [7/200] as adjusted).

Question 5

As guidance for measuring the quality of the performance of an auditor, the auditor should refer to

Statements of the Financial Accounting Standards Board.

Generally accepted auditing standards.

Interpretations of the Statements on Auditing Standards.

Statements on Quality Control Standards.

Answer 5

Generally accepted auditing standards.

This answer is correct because auditors are responsible for compliance with generally accepted auditing standards and comparison of their performance against these standards is appropriate.

Question 6

An auditor was unable to obtain audited financial statements or other evidence supporting an entity’s investment in a foreign subsidiary.

Between which of the following opinions should the entity’s auditor choose?

Adverse and unmodified, with an emphasis-of-matter paragraph added.

Disclaimer and unmodified with an emphasis-of-matter paragraph added.

Qualified and adverse.

Qualified and disclaimer.

Answer 6

Qualified and disclaimer.

The auditor’s inability to obtain audited financial statements or other evidence supporting an entity’s investment in a foreign subsidiary represents a scope limitation. Either a qualified opinion or a disclaimer would be issued.

Question 7

Can Internal auditors assist in obtaining an understanding of controls, performing tests of controls, and/or performing substantive procedures?

Answer 7

Yes to all 3

Question 8

At least how often should the PCAOB inspect a registered public accounting firm that regularly issues audit reports to 50 issuers?

Annually.
Every two years.
Every three years.
As requested by the firm.

Answer 8

Every three years.

Question 9

In reporting under Government Auditing Standards, an auditor most likely would be required to communicate management’s misappropriation of assets directly to a federal inspector general when the fraudulent activities are

Concealed by management by circumventing specific internal controls designed to safeguard those assets.

Reported to the entity’s governing body and the governing body fails to make a required report to the federal inspector general.

Accompanied by fraudulent financial reporting that results in material misstatements of asset balances.

Perpetrated by several levels of management in a scheme that is likely to continue in future years.

Answer 9

Reported to the entity’s governing body and the governing body fails to make a required report to the federal inspector general.

Question 10

Before accepting an engagement to audit a new client, a CPA is required to obtain

An understanding of the prospective client’s industry and business.

The prospective client’s signature to the engagement letter.

A preliminary understanding of the prospective client’s control environment.

The prospective client’s consent to make inquiries of the predecessor auditor, if any.

Answer 10

The prospective client’s consent to make inquiries of the predecessor auditor, if any.

AU-C 210 (AU 315) requires that an auditor attempt to obtain client permission to contact the predecessor prior to accepting a new engagement.

Question 11

When an auditor increases the assessed level of control risk because certain control activities were determined to be ineffective, the auditor would most likely increase the

Extent of tests of controls.
Level of detection risk.
Extent of tests of details.
Level of inherent risk.

Answer 11

Extent of tests of details.

Increases in the assessed level of the risk of material misstatement lead to decreases in the acceptable level of detection risk. Accordingly, the auditor will need to increase the extent of substantive tests such as tests of details.

Question 12

In performing a count of negotiable securities, an auditor records the details of the count on a security count worksheet. What other information is usually included on this worksheet?

An acknowledgment by a client representative that the securities were returned intact.

An analysis of realized gains and losses from the sale of securities during the year.

An evaluation of the client’s internal control concerning physical access to the securities.

A description of the client’s procedures that prevent the negotiation of securities by just one person.

Answer 12

An acknowledgment by a client representative that the securities were returned intact.

This answer is correct because an auditor will obtain acknowledgement by a client representative that the securities were returned so as to eliminate subsequent questions in the event that such securities disappear.

Question 13

For which of the following audit tests would an auditor most likely use attribute sampling?

Inspecting purchase orders for proper approval by supervisors.

Making an independent estimate of recorded payroll expense.

Determining that all payables are recorded at year-end.

Selecting accounts receivable for confirmation of account balances.

Answer 13

Inspecting purchase orders for proper approval by supervisors.

This is correct because attribute sampling deals with whether an attribute either exists or does not exist in a particular circumstance, here the approval of an individual purchase order.

Question 14

If, after discussions with management, an accountant who has prepared financial statements knows that the financial statements include a material departure from GAAP that management will not allow correction of, the accountant should

Disclose the material misstatement on the face of the financial statements or in a note to the financial statements.

Require that management change the financial statements to eliminate the departure from GAAP.

In all circumstances, resign the engagement.

Issue an adverse opinion on the financial statements.

Answer 14

Disclose the material misstatement on the face of the financial statements or in a note to the financial statements.

This answer is correct because the accountant should disclose the material misstatement on the face of the financial statements or in a note to the financial statements.

Question 15

In which of the following situations would an auditor ordinarily issue an unmodified audit opinion without an emphasis-of-matter paragraph?

The auditor wishes to emphasize that the entity had significant related-party transactions.

The auditor decides to make reference to the report of an auditor who audited a component of group financial statements.

The entity issues financial statements that present financial position and results of operations, but omits the statement of cash flows.

The entity has a material change in accounting principle but has accounted properly for the effects of the change in accordance with GAAP.

Answer 15

The auditor decides to make reference to the report of an auditor who audited a component of group financial statements.

When an auditor makes reference to the report of another auditor no emphasis-of-matter paragraph is added to the report.

Question 16

The blank form of accounts receivable confirmations may be less efficient than the positive form because

Shipping documents need to be inspected.
Recipients may sign the forms without proper investigation.
More nonresponses to the requests are likely to occur.
Subsequent cash receipts need to be verified.

Answer 16

More nonresponses to the requests are likely to occur.

This answer is correct because requiring respondents to supply such information may decrease the number of responses obtained and result in the need for additional audit procedures.

Question 17

For audits of financial statements made in accordance with generally accepted auditing standards, the use of analytical procedures is required to some extent

As a substantive test In the final review stage
Yes Yes
Yes No
No Yes
No No

Answer 17

No Yes

Correct! Analytical procedures are required during planning and in the final review stage. They may be, but are not required to be, used as substantive tests.

Question 18

A practitioner is issuing an unmodified examination report for an assertion-based examination engagement under the attestation standards. The CPA’s conclusion may be on

Subject matter Management’s written assertion
Yes Yes
Yes No
No Yes
No No

Answer 18

Yes Yes

When an unmodified examination report is being issued for an assertion-based examination engagement, that report may be on the subject matter or the written assertion.

Question 19

Tracing copies of computer-prepared sales invoices to copies of the corresponding computer-prepared shipping documents provides evidence that

Shipments to customers were properly billed.

Entries in the accounts receivable subsidiary ledger were for sales actually shipped.

Sales billed to customers were actually shipped.

No duplicate shipments to customers were made.

Answer 19

Entries in the accounts receivable subsidiary ledger were for sales actually shipped.

This answer is correct because the procedure provides evidence on whether sales billed (through sales invoices) were shipped (as per the shipping documents).

Question 20

Which of the following is an accurate statement regarding independence requirements?

If Sally is a covered member regarding audit client Cheyenne Social Club and joins the social club for purely social reasons, there is no independence problem.

If Tinto is a covered member regarding the American Corn Growers Trade Association and joins that association, there is no independence problem.

Mongo is a covered member regarding audit client Farmers Insurance Federal Credit Union (FIFCU). Mongo’s father is an executive of Farmers Insurance, and he and his entire family therefore qualify as members of FIFCU. If Mongo joins FIFCU, there will be a major independence violation.

Bingoo is a covered member regarding the River Oaks Homeowners Condominium Association (ROHCA). Bingoo bought a property that was part of the ROHCA. There is no possible way that Bingoo and his firm may now audit ROHCA because of independence considerations.

Answer 20

If Sally is a covered member regarding audit client Cheyenne Social Club and joins the social club for purely social reasons, there is no independence problem.

Correct! If the membership is primarily social, there is no problem here. The AICPA realizes that CPAs must play golf from time to time.

Question 21

The current file of an auditor’s documentation most likely would include a copy of the

Bank reconciliation.
Pension plan contract.
Articles of incorporation.
Flowchart of the internal control procedures.

Answer 21

Bank reconciliation.

The current file of an auditor’s documentation includes items relevant to the current year audit. The bank reconciliation that reflects the support for the cash balance in the current year financial statements would be included in the current file.

(Flowchart would be in the permanent file)

Question 22

Before reissuing a report which was previously issued on the financial statements of a prior period, a predecessor auditor should

Review the successor auditor’s working papers.

Examine significant transactions or events since the date of previous issuance.

Obtain a signed engagement letter from the client.

Obtain a letter of representation from the successor auditor.

Answer 22

Obtain a letter of representation from the successor auditor.

This answer is correct because the professional standards state that a predecessor auditor should obtain a letter of representation from the successor auditor. The predecessor auditor should also read the current financial statements and compare them to the prior period statements.

Question 23

An accountant should follow the financial statement preparation requirements of the Statements on Standards for Accounting and
Review Services when he or she prepares

Financial statements when also engaged to perform a review.

Personal financial statements for inclusion in written personal financial plans prepared by the accountant.

A single financial statement that omits substantially all disclosures required by GAAP.

General ledger transactions in an accounting software system.

Answer 23

A single financial statement that omits substantially all disclosures required by GAAP.

This answer is correct because the SSARS state that when a single financial statement is prepared the financial preparation standards apply, regardless of whether disclosures are presented.

Question 24

Which of the following audit procedures would be most appropriate to test the valuation of the collateral of a delinquent loan receivable?

Sending a positive confirmation letter to the debtor to confirm the loan balance.

Performing a site visit to physically inspect the collateral.

Reviewing the debtor’s purchase records to test the historical value of the collateral.

Obtaining a current value appraisal of the collateral.

Answer 24

Obtaining a current value appraisal of the collateral.

CORRECT! Obtaining a current appraisal of the collateral would be directly relevant to establishing the current value of that collateral.

Question 25

Which of the following is a risk factor relating to the misappropriation of assets?

Large amounts of cash on hand.

High turnover of legal counsel.

Inability to generate positive cash flows from operations.

Overly complex organizational structure involving numerous legal entities.

Answer 25

Large amounts of cash on hand.

This answer is correct because the existence of large amounts of cash on hand may lead to the misappropriation of assets.

Question 26

The group engagement partner decides not to refer to the audit of a component auditor who audited a subsidiary of the group auditor’s client. After making inquiries about the component auditor’s professional reputation and independence, the group engagement partner most likely would

Add an emphasis-of-matter paragraph to the auditor’s report indicating that the subsidiary’s financial statements are not material to the consolidated financial statements.

In the engagement letter that the group auditor assumes no responsibility for the component auditor’s work and opinion.

Obtain written permission from the component auditor to omit the reference in the group engagement partner’s audit report.

Contact the component auditor and review the audit programs and documentation pertaining to the subsidiary.

Answer 26

Contact the component auditor and review the audit programs and documentation pertaining to the subsidiary.

The group engagement partner may decide not to make reference to the audit of a component auditor after obtaining satisfaction as to the professional reputation, independence, and competence of the component auditor and the work performed. Satisfaction with the work performed might be obtained by visiting the component auditor and discussing the procedures performed and the related results, reviewing the audit programs, and/or reviewing the documentation of the component auditor, including the internal control work performed.

Question 27

Two months before the year-end the bookkeeper erroneously recorded the receipt of a long-term bank loan by a debit to cash and a credit to sales. Which of the following is the most effective procedure for detecting this type of error?

Analyze the notes payable journal.
Analyze bank confirmation information.
Prepare a year-end bank reconciliation.
Prepare a year-end bank transfer schedule.

Answer 27

Analyze bank confirmation information.

This answer is correct because the standard bank confirmation form requests information on outstanding bank loans. Evidence of a loan outstanding from the confirmation with no corresponding liability on the client’s books will lead the auditor to question the client’s accounting for the transaction.