Chapter 8 & 9- Practice (HW, Quiz Assignments)

Question 1

An advantage of statistical sampling over nonstatistical sampling is that statistical sampling helps an auditor to
a) Eliminate the risk of nonsampling errors.
b) Reduce audit risk and materiality to a relatively low level.
c) Measure the sufficiency of the evidential matter obtained.
d) Minimize the failure to detect errors and fraud.

Answer 1

c) Measure the sufficiency of the evidential matter obtained.

Question 2

Samples to test internal controls are intended to provide a basis for an auditor to conclude
whether:
a) The controls are operating effectively.
b) The financial statements are materially misstated.
c) The risk of incorrect acceptance is too high.
d) Materiality for planning purposes is at a sufficiently low level.

Answer 2

a) The controls are operating effectively.

Question 3

When assessing the tolerable deviation rate, the auditor should consider that, while deviations from control procedures increase the risk of material misstatements, such deviations do not necessarily result in misstatements. This explains why:
a) A recorded disbursement that does not show evidence of required approval may nevertheless be a transaction that is properly authorized and recorded.
b) Deviations would result in errors in the accounting records only if the deviations and the misstatements occurred on different transactions.
c) Deviations from pertinent control procedures at a given rate ordinarily would be expected to result in misstatements at a higher rate.
d) A recorded disbursement that is properly authorized may nevertheless be a transaction that contains a material misstatement.

Answer 3

a) A recorded disbursement that does not show evidence of required approval may nevertheless be a transaction that is properly authorized and recorded.

Question 4

Which of the following combinations results in the greatest decrease in sample size in an attribute sample for a test of controls?
a) Desired Confidence Level- Decrease, Tolerable Deviation- Decrease, Expected Population Deviation Rate- Increase
b) Desired Confidence Level- Increase, Tolerable Deviation- Increase, Expected Population Deviation Rate- Decrease
c) Desired Confidence Level- Decrease, Tolerable Deviation- Increase, Expected Population Deviation Rate- Decrease
d) Desired Confidence Level- Decrease, Tolerable Deviation- Increase, Expected Population Deviation Rate- Increase

Answer 4

c) Desired Confidence Level- Decrease, Tolerable Deviation- Increase, Expected Population Deviation Rate- Decrease

Question 5

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 percent risk of assessing control risk too low for the assertion that not more than 7 percent of the sales invoices lacked approval. The auditor estimated from previous experience that about 2½ percent 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 computed upper deviation rate to be 8 percent.

In the evaluation of this sample, the auditor decided to increase the level of the preliminary assessment of control risk because the:
a) Tolerable deviation rate (7 percent) was less than the computed upper deviation rate (8 percent).
b) Expected population deviation rate (7 percent) was more than the percentage of errors in the sample (3½ percent).
c) Computed upper deviation rate (8 percent) was more than the percentage of errors in the sample (3½ percent).
d) Expected population deviation rate (2½ percent) was less than the tolerable deviation rate (7 percent).

Answer 5

a) Tolerable deviation rate (7 percent) was less than the computed upper deviation rate (8 percent).

Question 6

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 percent risk of assessing control risk too low for the assertion that not more than 7 percent of the sales invoices lacked approval. The auditor estimated from previous experience that about 2½ percent 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 computed upper deviation rate to be 8 percent.

Based on the information above, the planned allowance for sampling risk was
a) 5½ percent.
b) 4½ percent.
c) 3½ percent.
d) 1 percent.

Answer 6

b) 4½ percent.

Question 7

Suppose as a result of sample testing of controls, an auditor assesses control risk higher than necessary given the actual (but unknown) population deviation rate and thereby increases substantive testing. This is illustrated by which of the four possible outcome conditions?

a) Auditor’s Estimate Based on Sample Results:
Computed upper deviation rate is less than tolerable deviation rate. -> Actual Population Deviation Rate Is Less Than Tolerable Deviation Rate.
b) Auditor’s Estimate Based on Sample Results: Computed upper deviation rate exceeds tolerable deviation rate. -> Actual Population Deviation Rate Is Less Than Tolerable Deviation Rate.
c) Auditor’s Estimate Based on Sample Results:
Computed upper deviation rate is less than tolerable deviation rate. -> Actual Population Deviation Rate Exceeds Tolerable Deviation Rate
d) Auditor’s Estimate Based on Sample Results: Computed upper deviation rate exceeds tolerable deviation rate. -> Actual Population Deviation Rate
Exceeds Tolerable Deviation Rate

Answer 7

b) Auditor’s Estimate Based on Sample Results: Computed upper deviation rate exceeds tolerable deviation rate. -> Actual Population Deviation Rate Is Less Than Tolerable Deviation Rate.

Question 8

Which of the following statements is correct concerning statistical sampling in tests of controls?
a) Deviations from controls at a given rate usually result in misstatements at a higher rate.
b) As the population size doubles, the sample size should also double.
c) The qualitative aspects of deviations are not considered by the auditor.
d) There is an inverse relationship between the sample size and the tolerable deviation rate.

Answer 8

d) There is an inverse relationship between the sample size and the tolerable deviation rate.

Question 9

Assume an auditor is evaluating a statistical attribute sample of 50 items that resulted in three deviations. What should the auditor conclude if the tolerable deviation rate is 7 percent, the expected population deviation rate is 5 percent, and the allowance for sampling risk is 2 percent?
a) The planned assessed level of control risk should be modified because the tolerable deviation rate plus the allowance for sampling risk exceeds the expected population deviation rate.
b) The sample results should be accepted as support for the planned assessed level of control risk because the sample deviation rate plus the allowance for sampling risk exceeds the tolerable deviation rate.
c) The sample results should be accepted as support for the planned assessed level of control risk because the tolerable deviation rate less the allowance for sampling risk equals the expected population deviation rate.
d) The planned assessed level of control risk should be modified because the sample deviation rate plus the allowance for sampling risk exceeds the tolerable deviation rate.

Answer 9

d) The planned assessed level of control risk should be modified because the sample deviation rate plus the allowance for sampling risk exceeds the tolerable deviation rate.

Question 10

As a result of sampling procedures applied as tests of controls, an auditor incorrectly assesses control risk lower than appropriate. The most likely explanation for this situation is that:
a) The deviation rates of both the auditor’s sample and the population exceed the tolerable deviation rate.
b) The deviation rates of both the auditor’s sample and the population are less than the tolerable deviation rate.
c) The deviation rate in the auditor’s sample is less than the tolerable deviation rate, but the deviation rate in the population exceeds the tolerable deviation rate.
d) The deviation rate in the auditor’s sample exceeds the tolerable deviation rate, but the deviation rate in the population is less than the tolerable deviation rate.

Answer 10

c) The deviation rate in the auditor’s sample is less than the tolerable deviation rate, but the deviation rate in the population exceeds the tolerable deviation rate.

Question 11

Define audit sampling. Why do auditors sample instead of examining every transaction?

Answer 11

Audit sampling is the application of audit procedures to less than 100 percent of the items in a population of audit relevance selected in such a way that the auditor expects the sample to be representative of the population and thus likely to provide a reasonable basis for conclusions about the population.

When the number of items or transactions in these populations is large and the items cannot be tested via computer assisted audit techniques or audit data analytics (e.g., physical examination, confirmations), it is not economical for auditors to test 100 percent for the population; instead they use sampling to gather sufficient audit evidence.

The justification for accepting some uncertainty from sampling is due to the trade-off between the cost to examine all of the data and the cost of making an incorrect decision based on a sample of the data.

Question 12

Distinguish between Type I and Type II errors. What terms are used to describe these errors when the auditor is conducting tests of controls and substantive tests? What costs are potentially incurred by auditors when such decision errors occur?

Answer 12

Risk of incorrect rejection (Type I): the risk that the assessed level of control risk based on the sample is greater than the true operating effectiveness of the control. Also commonly referred to as the risk of assessing control risk too high or the risk of underreliance.

Risk of incorrect acceptance (Type II): the risk that the assessed level of control risk based on the sample is less than the true operating effectiveness of the control. Also commonly referred as the risk of assessing control risk too low or the risk of overreliance.

In reference to substantive tests, Type I and Type II errors are as follows:
Risk of incorrect rejection (Type I): the risk that the sample supports the conclusion that the recorded account balance is materially misstated when it is not materially misstated.

Risk of incorrect acceptance (Type II): the risk that the sample supports the conclusion that the recorded account balance is not materially misstated when it is materially misstated.

The risk of incorrect rejection (Type I) relates to the efficiency of the audit because such errors can result in the auditor’s conducting more audit work than necessary in order to reach the correct conclusion.

The risk of incorrect acceptance (Type II) relates to the effectiveness of the audit because such errors can result in the auditor failing to detect a material misstatement in the financial statements. This can lead to litigation against the auditor by parties who relied on the financial statements.

Question 13

List audit evidence types that do not involve sampling and provide an example of a situation where an auditor would not use audit sampling

Answer 13

Audit evidence types that do not involve audit sampling include:
1) Analytical procedures
2) Scanning
3) Inquiry
4) Observation

Examples of situations where audit sampling would not be used include:
1) Procedures applied to every item in the account or population (typically due to a small number of large items)
2) Classes of transactions or account balances not tested
3) Tests of automated information technology controls

Question 14

Distinguish between nonstatistical and statistical sampling.

Answer 14

Nonstatistical sampling is an approach in which the auditor uses a haphazard selection technique or uses judgment in any or all of the following steps:*
1) Determining the sample size
2) Selecting the sample
3) Calculating the computed upper deviation rate

Nonstatistical sampling doesn’t require the use of statistical theory to determine sample size or in the evaluation of sampling risk, although auditing standards require the extent of testing to be comparable for both types of sampling. Statistical sampling uses the laws of probability to determine sample size, randomly select sampling units, and to evaluate the results of an audit sample. The use of statistical theory permits the auditor to quantify the sampling risk for the purpose of reaching a conclusion about the population.

Question 15

List 3 advantages and 3 disadvantages of statistical sampling:

Answer 15

The major advantages of a statistical sampling application are that it helps the auditor:
(1) design an efficient sample
(2) measure the sufficiency of evidence obtained
(3) quantify sampling risk.

The disadvantages of statistical sampling include the additional costs of:
(1) training auditors in the proper use of sampling technique
(2) added complexity in designing and conducting the sampling application
(3) lack of consistent application across audit teams due to the complexity of the underlying concepts.

Question 16

Define attribute sampling. Why is this sampling technique appropriate for tests of controls?

Answer 16

Attribute sampling is used to estimate the proportion of a population that possesses a specified characteristic.

For tests of controls, the auditor wants to measure the proportion of a population that possesses a specified characteristic (i.e., a deviation from the control process) to determine whether the control procedure can be relied upon to properly process accounting transactions and therefore support the auditor’s assessed level of control risk.

Question 17

How does the timing of controls testing (i.e., testing at interim vs. at year-end affect the population definition?

Answer 17

The timing of testing often will determine the period to be covered by the test. For example, interim testing may involve testing transactions from the first nine months of the year. After the population has been defined, (1) the auditor must determine that the physical representation of the population is complete, and (2) if the testing was conducted at an interim date, whether to conduct additional tests in the remaining period.

Question 18

List the four factors that enter into the sample size decision. What is the relationship between sample size and each of these factors?

Answer 18

1) Desired confidence level = Direct
2) Tolerable deviation rate = Inverse
3) Expected population deviation rate= Direct
4) Population size = Decreases sample size only when population size is small (<1,000 items)

Question 19

In performing certain audit procedures, the auditor may encounter voided documents, inapplicable documents, or missing documents, or the auditor may stop testing before examining all the items selected for the sample. How should each of these situations be handled within the attribute-sampling application?

Answer 19

1) Voided documents: If the transaction has been properly voided, it does not represent a deviation. The item should be replaced with a new sample item.

2) Unused or inapplicable documents: Sometimes a selected item is not appropriate for the definition of the control. In such a case, the item is not a deviation and the auditor would simply replace the item with another purchase transaction.

3) Missing documents: If the auditor is unable to examine a document or use an alternative procedure to test whether the control was adequately performed, the sample item is a deviation for purposes of evaluating the sample results.

4) Stopping the test before completion: If a large number of deviations are detected early in the tests of controls, the auditor should consider stopping the test as soon as it is clear that the results of the test will not support the planned assessed level of control risk. The client should be informed and the exceptions would be considered a control deficiency unless remediation and retesting are successful.

Question 20

The auditor should evaluate the qualitative aspects of deviations found in a sampling application. What are the purposes of evaluating the qualitative aspects of deviations?

Answer 20

The auditor’s purposes in evaluating the qualitative aspects of deviations when performing error analysis involves considering (1) the nature of the deviations and their causes and (2) how these deviations may impact the other phases of the audit.

Question 21

How should the results of a nonstatistical test of controls sample be evaluated in terms of considering sampling risk?

Answer 21

An auditor using nonstatistical sampling uses judgment to consider the allowance for sampling risk. For example, when the rate of deviation from the prescribed control exceeds the expected rate used to plan the sample, the auditor usually concludes that there is unacceptably high sampling risk and he or she would typically increase the assessed level of control risk or consider further whether to rely at all on the control.

Question 22

A number of factors influence the sample size for a substantive test of details of an account balance. All other factors being equal, which of the following would lead to a larger sample size?
a) Greater reliance on internal controls.
b) Greater reliance on analytical procedures.
c) Smaller expected frequency of misstatements.
d) Smaller amount of tolerable misstatement.

Answer 22

d) Smaller amount of tolerable misstatement.

Question 23

Considering each independently, a change in which of the following sample planning factors would influence the sample size for a substantive test of details for a specific account?
a) Expected Misstatement = No, Tolerable Misstatement = No
b) Expected Misstatement = Yes, Tolerable Misstatement = Yes
c) Expected Misstatement = No, Tolerable Misstatement = Yes
d) Expected Misstatement = Yes, Tolerable Misstatement = No

Answer 23

b) Expected Misstatement = Yes, Tolerable Misstatement = Yes

Question 24

The risk of incorrect acceptance relates to the
a) Effectiveness of the audit.
b) Efficiency of the audit.
c) Planning materiality.
d) Allowable risk of tolerable misstatement.

Answer 24

a) Effectiveness of the audit.

Question 25

How would increases in tolerable misstatement and assessed level of control risk affect the sample size in a substantive test of details?
a) Increase in TM = Decrease in SS, Increased in Level of CR = Decrease in SS
b) Increase in TM = Decrease in SS, Increased in Level of CR = Increase in SS
c) Increase in TM = Increase in SS, Increased in Level of CR = Decrease in SS
d) Increase in TM = Increase in SS, Increased in Level of CR = Increase in SS

Answer 25

b) Increase in TM = Decrease in SS, Increased in Level of CR = Increase in SS

Question 26

List the steps in a statistical sampling application for substantive testing.

Answer 26

Planning:
1) Determine the test objectives.
2) Define the population characteristics:
(Define the population, Define the sampling unit, Define a misstatement)
3) Determine sample size, using the following inputs:
(Desired confidence level or risk of incorrect acceptance, Tolerable misstatement, Expected misstatement.o Population size)

Performance:
4) Select sample items.
5) Perform the audit procedures:
(Understand and analyze any misstatements observed)

Evaluation:
6) Calculate the projected misstatement and the upper limit on misstatement.
7) Draw final conclusions.

Question 27

Identify the advantages and disadvantages of monetary-unit sampling.

Answer 27

Advantages:
1) When the auditor expects no misstatements, MUS will normally result in a smaller sample size than classical variables sampling.
2) The calculation of sample size and the evaluation of the sample results are not based on the variation
3) MUS, when applied using a probability-proportional-to-size sample selection procedure as outlined in
the text, automatically results in a stratified sample because sampled items are selected in proportion to their monetary amount.

Disadvantages:
1) Selection of a zero or negative balance generally requires special design consideration.
2) When more than one or two misstatements are detected using a MUS approach, the sample results
calculations may overstate the allowance for sampling risk.

Question 28

How do the desired confidence level, risk of material misstatement, and tolerable and expected misstatements affect the sample size in a nonstatistical sampling application?

Answer 28

1) Desired confidence level: Direct-as the desired confidence level increases, the required sample size increases.

2) Risk of material misstatement: Direct-as the risk of material misstatement increases, the required sample size increases.

3) Tolerable misstatement: Inverse-as tolerable misstatement increases, sample size decreases.

4) Expected misstatement: Direct-an increase in expected misstatement results in an increase in sample size.

Question 29

Describe the two methods suggested for projecting a nonstatistical sample result. How does an auditor determine which method should be used?

Answer 29

The AICPA’s audit guide describes two acceptable methods of projecting the amount of misstatement found in a nonstatistical sample, ratio projection and difference projection.

Ratio projection applies the misstatement ratio observed in the sample to the population.
Difference projection determines the average misstatement per item found in the sample and projects that using the number of items in the population.

These two methods of projecting misstatements give identical results if the sample includes the same proportion of items in the population as the proportion of the population’s recorded amount included in the sample.

If the proportions are different, the auditor chooses between the two methods on the basis of his or her understanding of the magnitude and distribution of misstatements in the population.
If the auditor expects that the amount of misstatement relates closely to the size of the item, ratio projection should be used.

If the auditor expects the misstatements to be relatively constant for all items in the population, difference projection should be used.

Question 30

Attribute Sampling =

Answer 30

Used to estimate the proportion of a population that possesses a certain characteristic

Question 31

Desired Confidence Level =

Answer 31

The probability that the true but unknown measure of the characteristic of interest is within specified limits

Question 32

Allowance for Sampling Risk =

Answer 32

The difference between the expected and the tolerable deviation rate

Question 33

Sampling Risk =

Answer 33

The possibility that the sample drawn is not representative of the population and leads to an incorrect conclusion

Question 34

Sampling Population =

Answer 34

All or a subset of the items that constitute the class of transactions

Question 35

Nonstatistical sampling =

Answer 35

Relies on the auditor’s judgment to determine sample size, select the sample, or evaluate the results

Question 36

Tolerable Deviation Rate =

Answer 36

The maximum deviation rate from a prescribed control that an auditor is willing to accept

Question 37

Jenny Jacobs, CPA, is planning to use attribute sampling in order to determine the degree of reliance to be placed on an entity’s system of internal control over sales. Jacobs has begun to develop an outline of the main steps in the sampling plan as follows:
1. State the test objectives (for example, to test the reliability of internal controls over sales).
2. Define the population (the period covered by the test, the sampling unit, the completeness of the population).
3. Define the sampling unit (for example, sales invoices).

What are the remaining steps in the outline that Jacobs should include in the statistical test of sales invoices?

Answer 37

The remaining steps of attribute sampling are as follows:
1. Define remaining population characteristics—define the control deviation conditions.
2. Determine sample size, using the following inputs.
- Determine the desired confidence level.
- Determine the tolerable deviation rate.
- Determine the expected population deviation rate.
3. Select sample items.
4. Perform the audit procedures—understand and analyze any deviations observed.
5. Calculate the sample deviation and computed upper deviation rates.
6. Draw final conclusions.

Question 38

Jenny Jacobs, CPA, is planning to use attribute sampling in order to determine the degree of reliance to be placed on an entity’s system of internal control over sales. Jacobs has begun to develop an outline of the main steps in the sampling plan as follows:
1. State the test objectives (for example, to test the reliability of internal controls over sales).
2. Define the population (the period covered by the test, the sampling unit, the completeness of the population).
3. Define the sampling unit (for example, sales invoices).

What are the advantages of using statistical audit sampling?

Answer 38

(1) design an efficient sample
(2) measure the sufficiency of the evidence obtained
(3) quantify sampling risk.

By using a statistical sampling methodology, the auditor can limit sampling risk to an acceptable level.

Question 39

When operate more frequently (weekly vs monthly) the sample size will get ____

Answer 39

larger