Study and Evaluation of Client’s Internal Control

Mark Anecito R. Perlas, CPA

Practice Questions

16. Which of the following best describe the interrelated components of internal control?
a. Organizational structure, management philosophy, and planning.
b. Control environment, risk assessment, control activities, information and
communication
systems, and monitoring.
c. Risk assessment, backup facilities, responsibility accounting and natural laws.
d. Legal environment of the firm, management philosophy, and organizational structure.

17. In an audit of financial statements, an auditor’s primary consideration regarding a control is

whether it
a. Reflects management’s philosophy and operating style.
b. Affects management’s financial statement assertions.
c. Provides adequate safeguards over access to assets.
d. Enhances management’s decision-making processes.

18. Effective internal control

a. Eliminates risk and potential loss to the organization.
b. Cannot be circumvented by management.
c. Is unaffected by changing circumstances and conditions encountered by the
organization.
d. Reduces the need for management to review exception reports on a day-to-day basis.

19. Which of the following statements about internal control is correct?

a. Properly maintained internal controls reasonably assure that collusion among
employees cannot occur.
b. Establishing and maintaining internal control is the internal auditor’s responsibility.
c. Exceptionally strong control allows the auditor to eliminate substantive tests.
d. The cost-benefit relationship should be considered in designing internal control.

20. The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of
the risk that
a. Tests of controls may fail to identify controls relevant to assertions.
b. Material misstatements may exist in the financial statements.
c. Specified controls requiring segregation of duties may be circumvented by collusion.
d. Entity policies may be overridden by senior management.

21. A proper understanding of the client’s internal control is an integral part of the audit planning
process. The results of the understanding
a. Must be reported to the shareholders and the SEC.
b. Bear no relationship to the extent of substantive testing to be performed.
c. Are not reported to client management.
d. May be used as the basis for withdrawing from an audit engagement.
 Study and Evaluation of Client’s Internal Control
Mark Anecito R. Perlas, CPA

22. An entity should consider the cost of a control in relationship to the risk. Which of the following
controls best reflects this philosophy for a large peso investment in heavy machine tools?
a. Conducting a weekly physical inventory.
b. Placing security guards at every entrance 24 hours a day.
c. Imprinting a controlled identification number on each tool.
d. Having all dispositions approved by the vice president of sales.

23. Audit evidence concerning segregation of duties ordinarily is best obtained by

a. Performing tests of transactions that corroborate management’s financial statement
assertions
b. Observing the employees as they apply specific controls.
c. Obtaining a flowchart of activities performed by available personnel.
d. Developing audit objectives that reduce control risk.

24. Which of the following statements about preliminary assessment of control risks is correct?
a. After obtaining an understanding of the accounting and internal control systems, the
auditor should make a preliminary assessment of control risks, at the assertion level, for
all accounts or transaction classes.
b. The preliminary assessment of control risk can be done only after completing tests of
controls.
c. The preliminary assessment of control risk for a financial assertion is normally low,
unless the auditor is able to identify weaknesses that may indicate ineffectiveness of
accounting and internal control system.
d. The auditor ordinarily assesses control risk at high level for some or all assertions when
it is not cost efficient to do tests of controls.

25. An auditor wishes to perform tests of controls on a client’s cash disbursements procedures. If
the controls leave no audit trail of documentary evidence, the auditor most likely will test the
procedures by
a. Confirmation and observation. c. Analytical procedures and confirmation.
b. Observation and inquiry. d. Inquiry and analytical procedures

26. Which of the following would not be a method used to conduct tests of controls?
a. Inquiry b. Walkthrough c. Confirmation d. Observation

27. The auditor is examining copies of sales invoices only for the initials of the person responsible
for checking the extensions. This is an example of a
a. Test of controls c. Dual purpose test
b. Substantive test d. Test of balances

28. Which of the following is correct statement?

a. The auditor should use professional judgment to assess audit risk and to design audit
procedures to ensure it is eliminated.
b. The auditor is an insurer, and his or her report constitutes a guarantee.
 Study and Evaluation of Client’s Internal Control
Mark Anecito R. Perlas, CPA

c. The subsequent discovery that a material misstatement exists in the financial

statements is evidence of inadequate planning, performance, or judgment on the part of
the auditor.
d. The auditor should obtain an understanding of the accounting and internal control
systems sufficient to plan the audit and develop an effective audit approach.

29. According to PSA 400 – Risk Assessments and Internal Control, audit risk means
a. The susceptibility of an account balance or class of transactions to misstatement that
could be material, individually or when aggregated with misstatements in other balances
or classes, assuming that there were no related internal controls.
b. The risk that a misstatement, that could occur in an account balance or class of
transactions and that could be material, individually or when aggregated with
misstatements in other balances or classes, will not be prevented or detected and
corrected on a timely basis by the accounting and internal control systems.
c. The risk that an auditor’s substantive procedures will not detect a misstatement that
exists in an account balance or class of transactions that could be material, individually or
when aggregated with misstatements in other balances or classes.
d. The risk that the auditor gives an inappropriate audit opinion when the financial
statements are materially misstated.

30. Inherent risk and control risk differ from detection risk in that they
a. Arise from the misapplication of auditing procedures.
b. May be assessed in either quantitative or nonquantitative terms.
c. Exist independently of the financial statement audit.
d. Can be changed at the auditor’s discretion.

31. Inherent risk and control risk differ from detection risk in that inherent risk and control risk are
a. Elements of audit risk while detection risk is not.
b. Changed at the auditor’s discretion while detection risk is not.
c. Considered at the individual account-balance level while detection risk is not.
d. Functions of the client and its environment while detection risk is not.

32. Which of the following is an incorrect statement?

a. Detection risk is a function of the effectiveness of an auditing procedure and its
application.
b. Detection risk arises partly from uncertainties that exists when the auditor does not
examine 100 percent of the population.
c. Detection risk arises partly because of other uncertainties that exist even if the auditor
were to examine 100 percent of the population.
d. Detection risk exists independently of the audit of the financial statements.

33. PSA 315 requires

a. The auditor to obtain an understanding of the entity and its environment, including its
internal control.
b. Discussion among the engagement team about the susceptibility of the entity’s financial
statements to material misstatement.
 Study and Evaluation of Client’s Internal Control
Mark Anecito R. Perlas, CPA

c. The auditor to identify and assess the risks of material misstatement at the financial
statement and assertion levels.
d. All of the above.

33. Which of the following is incorrect regarding PSA 315?

a. The purpose of this PSA is to establish standards and to provide guidance on obtaining
an understanding of the entity and its environment, including its internal control, and on
assessing the risks of material misstatement in a financial statement audit.
b. This PSA requires the auditor to make risk assessments at the financial statement and
assertion levels based on an appropriate understanding of the entity and its environment,
including its internal control.
c. The requirements and guidance of this PSA are to be applied in conjunction with the
requirements and guidance provided in other PSAs.
d. This PSA discusses the auditor’s responsibility to determine overall responses and to
design and perform further audit procedures whose nature, timing, and extent are
responsive to the risk assessments.

Which of the following is required documentation in an audit in accordance with Philippine Auditing
Standards?
a. A flowchart or narrative of the information system describing the recording and
classification of transactions for financial reporting.
b. An audit program setting forth in detail the procedures necessary to accomplish the
engagement’s objectives.
c. A planning memorandum establishing the timing of the audit procedures and
coordinating the assistance of entity personnel.
d. An internal control questionnaire identifying policies and procedures that assure specific
objectives will be achieved.