TEST 1

Questions and Problems

1-1. Explain why auditor’s reports are important to users of financial statements.

1-2. In addition to an understanding of the business and the industry, what are the requirements for an

effective audit?

1-3. Differentiate between the scope and opinion paragraphs of the standard audit report.

1-4. What is an “engagement letter?” why is it use recommend prior to the rendering of professional

services by CPAs?

1-5. What function is served by the audit program?

1-6. Who participates in the pre-audit conference, and what topic should be covered?

1-7. What distinguishes the intern phase from the final audit phase?

1-8. Why must the auditor test the information system prior to testing transactions and balances?

1-9. What purposes is served by the ten generally accepted auditing standards?

1-10. Define attestations. In what way(s) is auditing a form of attestation?

1-11. Discuss the role of risk in the audit process and how it is existence is communicated to the user

in the audit report.

1-12 Prior to naming Cuz and Company as its auditors, Del Pelayo of Verbatim, Inc., met with Gracie

Cruz and inquired about the auditors who would work on Verbatim’s audit. Pelayo wants cruz to assign

only persons who graduated from his alma matter.

REQUIRED:

How should Gracie Cruz respond?

1-13. Describe the conditions under which an auditor is associated with financial statements.

1-14. What factors should an auditor consider in determining whether financial statements are

presented fairly in conformity with GAAP?

conformity with GAAP?

1-16. Why must the auditor refrain from explaining why she or he is not independent?

TEST 2

2-1. Define the following terms:

a. audit risk b. inherent risk c. control risk d. detection risk

2-2. How does audit planning assist in assessing inherent risk?

2-3. Name three sources of business and industry information.

2-4 a. What is the audit risk model?

b. How can an auditor use the audit risk model?

2-5. Describe the relationship between detection risk and evidence accumulation.

2-6. Analytical procedures consist of evaluations of financial information made by a study of plausible

relationships among both financial and nonfinancial data. They range from simple comparisons to the

use of complex models involving many relationships and elements of data. They involve comparisons

of recorded amounts or ratios developed from recorded amounts, to expectations developed by the

auditors.

REQUIRED:

a. Describe the broad purpose of analytical procedures.

b. Identify the sources of information from which an auditor develops expectations.;

c. Describe the factors that influence an auditor’s consideration of the reliability of data for purposes of

achieving audit objectives.

2-7. The following questions deal with materiality. Choose the best response.

a. Which one of the following statements is correct concerning the concepts of materiality?
(1) Materiality is determined by reference to guidelines established by the AICPA.

(2) Materiality depends only on the peso amount of an item relative to other items in the

financial statements.

(3) Materiality depends on the nature of an item rather than peso amount.

(4) Materiality is a matter of professional judgment.

b. The concepts of materiality will be at least important to the CPA in determining the

(1) scope of his audit of specific accounts.

(2) specific transactions that should be reviewed

(3) effects of audit exceptions upon his opinion

(4) effects of his direct financial interest in a client a upon his independence.

2-8. The following questions concern materiality and risk. Choose the best response.

a. Edison Corporation has a few large accounts receivable that total P1,400,000. Victor Corporation has

a great number of small accounts receivable that also total P1,400,00. The importance of an error in

any one account is, therefore, greater for Edison than for Victor. This is an example of the auditor’s

concept of

(1) materiality.

(2) comparative analysis.

(3) reasonable assurance.

(4) relative risk.

b. Which of the following elements ultimately determines the specific auditing procedures that

are necessary in the circumstances to afford a reasonable basis for an opinion?

(1) Auditor judgment

(2) Materiality

(3) Relative risk

(4) Reasonable assurance

generally accepted auditing standards, particularly the standards of field work and reporting?

(1) Cash audit work may have to be carried out in a more conclusive manner than inventory audit work.

(2) Intercompany transactions are usually subjects to less detailed scrutiny than arm’s-length

transactions with outside parties.

(3) Inventories may require more attention on an engagement for a public utility.

(4) The scope of the examination need to be expanded if errors that arouse suspicion of fraud are of

relatively insignificant amounts.

2-9. The following questions deal with materiality and risk, and their effect on audit reports. Choose

the best response.

a. A major customer of an audit client suffers a fire just prior to completion of year-end field work. The

audit client believes that his event could have a significant direct effect on the financial statements.

The auditor should

(1) advise management to disclose the event in notes to the financial statements.

(2) disclose the event in the auditor’s report until the extent of the direct effect on the

financial statements is known.

(4) advise management to adjust the financial statements.

b. Late in December, Tech Products Company sold its marketable securities that had appreciated in

value and then repurchased them the same day. The sale and purchase transactions resulted in a

large gain. Without the gain the company would have reported a loss for the year. Which of the

following statements with respect to the auditor is correct?

(1) If the sale and repurchase are disclosed, an unqualified opinion should be rendered.

(2) The repurchase transaction is a sham and the auditor should insist upon a reversal or issue an

adverse opinion
(3) The auditor should withdraw from the engagement and refuse to be associated with the company.

(4) A disclaimer of opinion should be issued.

c. A material change in an accounting estimate.

(1) requires a consistency modification in the auditor’s report disclosure in the financial statement.

(2) requires a consistency modification in the auditor’s report but does not require disclosure in

the statement

(3) affects comparability and may require disclosure in a note to the financial statements but does not

require a consistency modification in the auditor’s report.

(4) involves the acceptability of the generally acceptable accounting principles used.

2-10. below are an auditor’s planned audit risk and assessment of inherent risk and control risk for 5

situations.

Situations Planned audit risk Assessed Inherent Risk Assessed Control Risk

1 1% 20% 20%

2 1 100 50

3 4 20 20

4 5 100 50

5 5 100 100

REQUIRED:

a. Determine the detection risk that can be allowed for each situation

b. rank the five situations, base on the amount of audit evidence that will be needed. You may

assume that all other factors that may affect audit evidence accumulation are the same

2-11. Audit risk and materiality should be considered when planning and performing an audit in

accordance with GAAS. Both audit risk and materiality should also be considered in determining
the nature, timing and extent of auditing procedures and evaluating the result of those procedures.

REQUIRED:

a. 1. Define audit risk.

2. Describe is components of inherent risk, control risk, and detection risk.

3. Explain how this components are interrelated.

b. 1. Define materiality.

2. Discuss the factors affecting its determination

2-12. Last year you were assigned to minor parts of the audit of the sale and collections cycle for Patrich

Corporation. This year you have been assigned significant responsibility in the audit of the sa le and

collection cycle. You recall that last year, the credit manager, Josie Tan, treated you as if you were one

the clerks. In fact, you had to call her “miss Tan” when you went to ask her several questions. This year,

she has become very friendly. Josie, as she wants now you to call her, Has just invited you to join her for

dinner at a very exclusive private club in town. You were called away before you could give Josie a reply

but indicate to you that last year she took your predecessor to such a dinner.

REQUIRED:

a. How do you respond to Josie?