Auditing Theory

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AUDITING THEORY

Assurance, Auditing, and Related Services


A. ASSURACE SERVICES

1. Which of the statements best describes assurance services?


A. Independent professional services that are intended to enhance the credibility of
information to meet the needs of an intended user.
B. Services designed to express an opinion on the fairness of historical financial
statements based on the results of an audit.
C. The preparation of financial statements or the collection, classification, and
summarization of other financial information.
D. Services designed for the improvement of operations, resulting in better
outcomes.
Assurance engagement perform by professional accountants are intended to enhance the
credibility of information about a subject matter by evaluating whether the subject matter
Conforms in all material respect with suitable criteria, thereby improving the likelihood
that the information will meet the needs of an intended user.
The level of assurance provided by the professional accountant’s conclusion convey the
of confidence that the intended user may place in the credibility of the subject matter.
2. Which of the following is not an assurance service?
A. Examination of prospective financial information
B. Audit of historical financial statements
C. Review of financial statements
D. Compilation of financial information
Services perform by professional accountants that are not assurance engagement include
the following:
3. Which of the following professional services would be considered an assurance
engagement?
A. A management consulting engagement to provide IT advice to a client.
B. An engagement to report on compliance with statutory requirements
C. An income tax engagement to prepare tax returns.
D. A compilation of financial statements from a client’s accounting records.

4. Which of the following best describes the objective of an assurance engagement?


A. Improve the company’s outcomes.
B. Compare the company’s information and policies with those of other entities.
C. Enhance the credibility of information in order to improve the likelihood that the
information will meet the needs of an intended user.
D. Assist In preparing the company’s financial statements.
The objective of an assurance engagement is for a professional accountant to evaluate or
measure a subject matter that is the responsibility of another party against identified
suitable criteria, and to express a conclusion that provides the intended user with a level
of assurance about the subject matter.

An assurance engagement is intended to enhance the credibility of information about a


subject matter by evaluating whether the subject matter conforms in all materials respects
with suitable criteria, thereby improving the likelihood that the information will meet the
needs of an intended user.

5. Assurance services differ from consulting services in that they


I. Focus on providing advice.
II. Involve monitoring of one party by another.

A. I only C. Both I and II


B. II only D. Neither I nor II
Assurance services differ consulting services in that they:
1. Focus on enhancing the credibility of information rather than providing advice.
2. Typically involved situation in which one party wants to monitor another.
Consulting services are usually two-party arrangements that focus on providing advice on
how to use the information for better outcome.
6. How many separate parties are involved in an assurance engagement?
A. 2 C. 4
B. 3 D. 5
Assurance engagement involves three (3) separate parties:
1. A practitioner,
2. A responsible party, and
3. Intended users,

7. An assurance engagement should have which of the following elements?


Subject matter Criteria
A. Yes No
B. No Yes
C. Yes Yes
D. No No
An assurance engagement should have the following elements:
1. A three-party relationship involving:
a. a professional accountant:
b. a responsible party; and
c. intended user
2. A subject matter
3. Suitable criteria
4. Sufficient appropriate evidence
5. An assurance report

8. The Philippine Framework for Assurance Engagements


A. Contains basic principles, essential procedures, and related guidance for the
performance of assurance engagements.
B. Defines and describes the elements and objectives of an assurance engagement,
and identifies engagement to which PSAs, PSREs, and PSAEs apply.
C. Provides a frame of reference for CPAs in public practice when performing
audits, reviews, and completion of historical financial information.
D. Establishes standards and provides procedural requirements for the performance
of assurance engagement.
The framework defines and describes the elements and objectives of an assurance
engagement and identifies engagement to which Philippine Standards on Auditing
(PSAs), Philippine Standards on Review Engagements (PSAEs) apply.
The Framework does not itself establish standards or provide procedural requirements for
the performance of assurance engagement. PSAs, PSREs, and PSAEs contains basic
principles essential procedure and related guidance, consistent with the concept in the
Framework, for the performance of assurance engagement.
9. CPAs in public practice who perform assurance engagements are governed by the
following, except
A. Philippine framework for assurance engagements
B. Code of ethics for Professional Accountants in the Philippines
C. Philippine Standard on Related Services
D. Philippine Standard on Quality Control
The Philippine Standards on Related Services (PSRs) are to be applied to non-assurance
engagement such as compilation and agreed-upon procedures engagements.
10. In an assurance engagement, the responsible party and the intended users
A. Should be from different entities.
B. Should be from the same entity.
C. May be from the same entity or different entities.
D. Are both responsible for determining the nature, timing and extend of the
procedures to be perform.

11. Republic Act 9298 as the


A. Revised Accountancy law
B. Revised Accountancy Act
C. Philippine Accountancy Act of 2004
D. Philippine Law of 2004

12. Which of the following is not an objective of the Philippine Accountancy Act of 2004?
A. The standardization and regulation of Accounting education.
B. The examination for registration of certified public accountants
C. The supervision, control and regulation of the practice of accountancy in the
Philippines.
D. The development and improvement of accounting standards that will be generally
accepted in the Philippines.
13. The practice of accountancy includes
I. Practice of Public Accountancy
II. Practice in Commerce and industry
III. Practice in Education/Academe
A. I and II only
B. II and III only
C. I and III only
D. I, II, and III

Section 4 of RA 9298 provides that the practice of accountancy shall include, but not
limited to the following:
a) Practice of Public Accountancy
b) Practice in Commerce and Industry
c) Practice in Education/Academe
d) Practice in the Government

14. A CPA is in public accounting practice when he/she


A. Represents his/her employer before government agencies on tax and other
matters related to accounting.
B. Represent his/her clients before government agencies on tax and other matters
related to accounting.
C. Teaches accounting, auditing, management advisory services, accounting aspect
of finance, business law, taxation, and other technically related subjects.
D. Holds, or is appointed to a position in an accounting professional group in
government or in a government owned and/or controlled corporation where
decision making requires professional knowledge in the science of accounting.

15. Section 4 of the Rules and Regulation Implementing RA 9298 (IRR) provides that any
position in any business or company in the private sector which requires supervising the
recording of financial transactions, preparation of financial statements, coordinating with
the external auditors for the audit of such financial statements, and other related functions
should be occupied by a duly registered CPA. It provides further that the business or
company where such position exists has a
A. Paid-up capital of at least P5,000,000 and or an annual revenue of at least
P10,000,000.
B. Paid-up capital of at least P10,000,000 and/or an annual revenue of at least
P5,000,000.
C. Paid-up capital and/or an annual revenue of at least P10,000,000.
D. Paid-up capital and/or an annual revenue of at least P5,000,000.

Section 4 of the IIR state that:


a) The business or company where such position exists has a paid-up capital of at least
P5 million and/or annual revenue of at least P10 million.
b) The provision shall apply only to persons to be employed after the effectivity of the
IRR.
c) The provision shall not result to deprivation of the employment of incumbents to the
position.

16. Which the following statement connecting the practice of accountancy in the
academe/education is incorrect?

A. Member of the Integrated Bar of the Philippines are prohibited from teaching
business law and taxation subject.
B. Member of the Integrated Bar of the Philippines may be allowed to tech business
law and taxation subject.
C. The position of either the Dean of the Department Chairman or its equivalent
that supervises the Bachelor of Science in Accountancy program of an education
institution is deemed to be in practice of accountancy in academe/education.
D. The position of either the Dean or the Department Chairman or its equivalent
that supervises the Bachelor of Science in Accountancy program of an
educational institution must be occupied only by a duly registered CPA.

17. A CPA is in the practice of accountancy in commerce and industry when he/she
A B C D
1. Is involved in decision making required
Professional knowledge in the science
Of accounting Yes No No Yes

2. Represent his/her employer before


Government agencies on tax and other
Matters related to accounting Yes No Yes No

3. Renders professional services as a CPA


To removed more one client on a fee Basis No Yes No Yes

Section 4 (b) of the IRR states that Practice in Commerce and Industry – shall constitute
in a person,
i. Involved in decision making requiring professional knowledge in the science
of accounting, as well as the accounting aspects of finance and taxation, or
ii. When he/she represents his/her employer before government agencies on tax and
other matters related to accounting or
iii. When such employment or position requires that the holder thereof must be a
certified public accountant.

A CPA is in public accountancy when he/she renders his/her professional services as a


CPA to more than one client on a fee basis.

18. Section 5 of the Accountancy Act of 2004 state that the Board of Accountancy shall be
composed of a chairman and
A. 2 members
B. 4 members
C. 6 members
D. 8 members
19. The members of the Board of Accountancy shall be appointed by the
A. Philippine Institute of CPAs (PICPA)
B. Professional Regulation Commission (PRC)
C. President of the Philippines
D. Association of CPAs in Public Practice (ACPAPP)

20. If the PICPA fails to submit to the PRC its own nominees within 60 days prior to the
expiry of the term of an incumbent chairman or member of the Board of Accountancy
(BOA), the PRC in consultation with BOA shall submit to the President a list of how
many nominees for each vacant position?
A. 2
B. 3
C. 4
D. 5

21. BOA Resolution No. 263 Series of 2015 approves the adoption of
_______________(subject to changes of certain provisions) as the Code of Ethics for
Professional Accountant in the Philippines.
A. IFAC 2010 Code of Ethics for Professional Accountants
B. IFAC 2012 Code of Ethics for Professional Accountants
C. IFAC 2013 Code of Ethics for Professional Accountants
D. IFAC 2015 Code of Ethics for Professional Accountants

22. Professional Accountant refers to an individual who holds a valid Certificate of


Registration and current Professional Identification Card issued by the Board of
Accountancy (i.e., CPA) and the Professional Regulation Commission (PRC) if he/she is
in
A. Public practice or education only.
B. Public practice or industry or commerce only
C. Public practice or public sector only
D. Public practice, industry or commerce, public sector or education.

23. The Code of Ethics for Professional Accountant in the Philippines consist of the parts.
Part A
A. Applies to professional accountants in public practice.
B. Establishes the fundamental principles for professional accountants.
C. Applies to professional accounts in business.
D. Provides a conceptual framework for the application of fundamental principles
and illustrate how the framework is to be applied in specific situation.

The of Ethics for Professional Accountants in the Philippines consist of three parts.

Part A establishes the fundamental principles for professional accountants and provides a
conceptual frame work for their application. Parts B and C illustrate how the conceptual
framework is to be applied in specific situations.

Part B applies to professional accountants in public practice.

Part C applies to professional accounts in business.

24. Which part of the Code of Ethics applies to professional accountants in public practice?
A. Part A C. Part C
B. Part B D. Part D

25. Which of the following fundamental ethical principles requires a professional accountant
to be straightforward and honest in all professional and business relationships?
A. Objectivity
B. Professional behavior
C. Professional competence and due care
D. Integrity

Part A of the Code establishes the following fundamental ethical principle:


1. Professional Behavior
- A professional accountant should comply with relevant laws and regulation and
should avoid any action that discredits the profession.
2. Integrity
- A professional accountant should be straightforward and honest in all professional
and business relationships.
3. Confidentiality
- A professional accountant should respect the confidentiality of information acquired
as a result of professional and business relationship. Such information should not be
disclosed to third parties without proper and specific authority unless there is a legal
or professional right or duty to disclose. Also, it should not be used for the personal
advantage of the professional accountant or third parties.
4. Objectivity
- A professional accountant should not allow bias, conflict of interest or undue
influence of others to override professional or business judgment.
5. Professional Competence and Due Care
- A professional accountant has a continuing duty to maintain professional knowledge
and skill at the level required to ensure that a client or employer receives competent
professional service based on current developments in practice, legislation and
techniques. When rendering professional services, a professional accountant should
act diligently and in accordance with applicable technical and professional standards.

Professional accountants should comply with the technical and professional standards of
the following:
 Board of Accountancy (BOA)/ Professional Regulation Commission (PRC)
 Securities and Exchange Commission (SEC)
 Financial Reporting Standards Council (FRSC)
 Auditing and Assurance Standards Council (AASC)
 Relevant legislation

26. The following Statements relate to the fundamental principles of professional ethics:
A B C D
Integrity implies dealing and truthfulness True True False False
The principle of objective imposes an obligation
on all professional accountants to maintain
professional knowledge and skill at the level
required. True False True False
The principle of professional behavior requires all
Professional accountants to act diligently and in
Accordance with applicable technical and
professional services. False False True True

27. Which of the following fundamental ethical principles prohibits association of


professional accountants with reports, returns, communications or other information that
is believed to contain a materially false or misleading statement?
A. Integrity
B. Objectivity
C. Professional competence and due care
D. Confidentiality

Under the principle of integrity, professional accountants required to be straightforward


and honest in professional and business relationships.

A professional accountant shall not knowingly be associated with reports, returns,


communications or other information where the professional accountant believes that the
information:
1. Contains a materially false or misleading statement;
2. Contains statements or information furnished recklessly; or
3. Omits or obscures required information where such omission or obscurity would
be misleading.
There will be no violation of the above provision if a modified report is issued in respect
of a matter described in the foregoing paragraph.

28. The principle of professional competence and due care imposes which of the following
obligation on professional accountants?
A. To maintain professional knowledge and skill at the level required to ensure that
clients or employers receive competent professional service.
B. To refrain from disclosing confidential information obtain as a result of
professional and business relationship without proper and specific authority
unless there is a legal or professional right or duty to disclose.
C. To comply with relevant laws and regulations and avoid any situation that may
bring discredit to the profession.
D. Not to compromise professional or business judgment because of bias, conflict
of interest or undue influence of others.

29. According to the Code of Ethics, professional competence may be divided into two
phases: attainment of professional competence and maintenance of professional
competence. The attainment of professional competence requires the following, except
A. A high standard of general education.
B. Specific education, training, and examination in professionally relevant subject.
C. Whether prescribed or not, a period of work experience.
D. A continuing awareness and an understanding of relevant technical professional
and business developments.

According to the Code, “The maintenance of professional competence requires a


continuing awareness and an understanding of relevant technical, professional and
business developments. Continuing professional development enables a professional
accountant to develop and maintain the capabilities to perform competently within the
professional environment”.

30. The Code of Ethics provides a Conceptual Framework for applying the fundamental
ethical principles. This framework requires a professional accountant to
I. Identify threats to compliance with the fundamental principles.
II. Evaluate the significance of the identified threats.
III. Apply safeguards to eliminate the treats or reduce them to an acceptable level.

A. I and II only C. II and III only


B. I and III only D. I, II, and III

31. In assessing whether to accept a client for a audit engagement, an auditor should consider
the
I. Client’s business risk
II. Auditor’s business risk
A. I only C. Both I and II
B. II only D. Neither I and II

32. Which of the following factors most likely would cause an auditor to define a new audit
engagement?
A. Conducting that the entity’s management probably lacks integrity.
B. An inability to perform preliminary analytical procedures before assessing control
risk.
C. An inadequate understanding of the entity’s internal control.
D. The close proximity to the end of the entity’s reporting period.

PSQC 1 requires a firm (including a sole practitioner) to establish policies and procedures
for the acceptance and continuance of client relationship and specific engagements,
designed to provide reasonable assurance that it will only accept engagement if it:
1) Is competent to perform the engagement;
2) Can comply with relevant ethical requirements; and
3) Has considered the integrity of the client, and does not have information to
conclude that the entity’s management lacks integrity.
33. Before accepting an engagement to audit a new client, an auditor is required to
A. Obtain a copy of the client’s financial statements.
B. Prepare a memorandum setting forth the staffing requirements and documenting
the preliminary audit plan.
C. Make inquiries of the predecessor auditor after obtaining the consent of the
prospective client.
D. Discuss the management representation letter with the client’s audit committee.

PSA 300 (Planning an Audit of Financial Statements) states that the auditor shall
undertake the following activities prior to starting an initial audit:
1. Performing procedure required by PSA 220 (Quality control for an Audit of
financial Statements) regarding the acceptance of the client relationship and
the specific audit engagement; and
2. Communicating with the predecessor auditor, where there has been a change
of auditors, in compliance with relevant ethical requirements.

34. Which of the condition most likely would pose the greatest risk I accepting a new audit
engagement?
A. There will be a client-imposed scope limitation.
B. The client’s financial reporting system has been in place for ten years.
C. The firm will have to hire an expert in one audit area.
D. Staff will need to be rescheduled to cover this new client.

According to PSA 210 (Agreeing the terms of Audit Engagements), the auditor shall not
accept the engagement if management or those charged with governance impose a
limitation on the scope of the auditor’s work in the terms of a proposed audit engagement
such that the auditor believes the limitation will result in the auditor disclaiming an
opinion on the financial statements.

35. Which of the following circumstances would permit an independent auditor to accept an
engagement after the end of the reporting period?
A. Expectation of the operating effectiveness of controls.
B. Issuance of a disclaimer of opinion as a result of inability to conduct certain test
required by PSA due to the timing of the acceptance of the engagement.
C. Remedy the limitations resulting from accepting the engagement after the end of
the reporting period, such as those relating to the existence of physical inventory.
D. Receipt of an assertion from the predecessor audit that the entity will be able to
continue as a going concern.

Prior to accepting a proposed audit engagement subsequent to the end of the entity’s
reporting period, the auditor should determine whether circumstances permit an audit in
accordance with PSAs and expression of an unmodified opinion.

However, in some cases, the auditor may remedy the audit limitation such as by
observing another physical count of inventories.

36. In an audit based on Philippine Standards on Auditing (PSAs), a successor auditor would
normally become satisfied with opening balances by
A. Performing analytic review procedures.
B. Reviewing the predecessor’s working papers.
C. Auditing the previous year’s working papers.
D. Interviewing client personnel.

37. A predecessor withdrew from the engagement after discovering that the client’s financial
statement are materially misstated that it would not revise. If asked by the successor
auditor about the termination of the engagement, the predecessor should
A. Suggest that the successor audited should obtain the client’s consent to discuss the
reasons.
B. Indicate that there was a misunderstanding.
C. State that the audit revealed material misstatement that the client would not
revise.
D. Suggest that the successor auditor ask the client.
38. Which of the following is not correct regarding the communications between
successor/incoming and predecessor previous auditors?
A. The burden of initiating the communication rest with the predecessor auditor.
B. The burden of initiating the communication rest with the successor auditor
C. The predecessor auditor may choose to provide a limited response to a successor
auditor.
D. The predecessor auditor must receive his/her former client’s permission prior to
disclosing client information to the auditor.

39. The auditor may accept or continue an audit engagement only when the basis upon which
it is to be performed has been agreed, through
I. Establishing whether the preconditions for an audit are present.
II. Confirming that there is a common understanding between the auditor and
management and, and where appropriate, those charged with governance of the
terms of the audit engagement.
A. I only
B. II only
C. Both I and II
D. Neither I or II

As defined in PSA 210 (Agreeing the Terms of Audit Engagements), “preconditions for
an audit” refers to:
a) The use by management of an acceptable financial reporting framework in the
preparation of the financial statements; and
b) The agreement of management and, where appropriate those charged with
governance to the premise on which an audit is conducted.

The auditor establishes whether the preconditions for an audit are present by:
1). Determining whether the financial reporting framework to be applied in the
preparation of the financial statements is acceptable; and
2). Obtaining management’s agreement that it acknowledges and understands its
responsibilities that are fundamental to the conduct of an audit in accordance
with PSAs.

40. An audit is conducted on the premise that management and, where appropriate, those
charged with governance, have acknowledge and understand that they have
responsibilities that are fundamental to the conduct of an audit in accordance with PSAs.
Which of the following is not one of those responsibilities?
A. The preparation of financial statements in accordance with relevant
pronouncements issued by the AASC.
B. The establishment and maintenance of an adequate internal control system that is
necessary to enable the preparation of financial statements that are free from
material misstatement, whether due to fraud or error.
C. To provide the auditor with access to all information that is relevant to the
preparation of the financial statements such as records, documentation, and other
matters.
D. To provide the auditor with unrestricted access to persons within the entity from
which the auditor determines it necessary to obtain audit evidence.

41. PSA 315 (Identifying and Assessing the Risk of Material Misstatement through
Understanding the entity and its Environment) requires the auditor to perform risk
assessment procedures at
A. The financial statement level only.
B. The assertion level only.
C. The financial statement level and the assertion level for classes of transaction,
account balances and disclosures.
D. Either the financial statement or assertion level.

Risk assessment procedures are perform to obtain an understanding of the entity and its
environment, including the entity’s internal control, to identify and assess the risks of
material misstatement, whether due to fraud or error, at the financial statement and
assertion levels.

42. The auditor’s risk assessment procedures should always include the following, except
A. Inquires of management and the others within the entity.
B. Analytical procedures.
C. Observation and inspection.
D. Substantive test procedures and test od controls.

The auditor’s risk assessment procedures shall include:

1. Inquires of management and others within the entity who, in auditor’s judgment,
may have information that is likely to assist in identifying risk of material
misstatement due to fraud or error.
2. Analytic procedures.
3. Observation and inspection.

Substantive test procedures are audit procedures designed to detect material


misstatements at assertion level.

Test controls are audit procedures designed to evaluate the effectiveness of controls in
preventing, or detecting and correcting, materials misstatements at the assertion level.

43. The auditor’s risk assessment procedures


A. By themselves, do not provide sufficient appropriate audit evidence on which to
base the audit opinion.
B. Should not consider information obtain from the auditor’s previous experience
with the entity.
C. Are designed to detect material misstatements at the assertion level for classes of
transactions account balances and disclosures.
D. Are designed to test the effectiveness of the entity controls.

44. The auditor should obtain an understanding of the entity’s objectives and strategies, and
those business risk that may result in risk of material misstatement. Which of the
following statements concerning the entity’s business risk is incorrect?

A. Business risk is broader than the risk of material misstatements, through it


includes the latter.
B. An understanding of the business risk facing the entity increases the likelihood of
identifying risk of material statement.
C. The auditor has a responsibility to identify or assess all business risks.
D. Business risk may arise from the development of new products or services that
may fail.

45. The risk that the auditor may give an inappropriate opinion when the financial statements
are materially misstated is called
A. Detection risk
B. Business risk
C. Audit risk
D. Inherent risk

46. Audit risk has three components inherent risk, control risk, and detection risk. Which is
correct?
A. Detection risk is a function of the efficiency of an auditing procedure.
B. Cash is more susceptible to theft than an inventory of coal because it has a greater
inherent risk.
C. The risk that material misstatements will not be prevented or detected on a timely
basis by internal control can be reduced to zero by effective controls.
D. The existing levels of inherent risk, control and detection risk can be changed at
the discretion of the auditor.
The three components of audit risk:

1. “Inherent risk” is the susceptibility oof an account balance or class of transaction to


misstatement that could be material, individually or when aggregated with
misstatement in other balances or classes, assuming that there were no related internal
controls.
2. “Control risk” is the risk that a misstatement that could occur in an account balance
or class of transaction that could be material, individually or when aggregated with
other misstatements in other balance or classes, will not be prevented, or detected and
corrected, on a timely basis, by the accounting and internal control system.
3. “Detection risk” is the risk that an auditor’s substantive procedures will not detect a
misstatement that exist in an account balance or class of transactions that could be
material, individually or when aggregated with misstatements in other balance or
classes

Cash has a greater inherent risk than an inventory of coal.

The acceptable level of detection risk is a function of the desired level of overall audit
risk and the assessed levels of inherent risk and control risk.

Hence, detection risk can be changed at the discretion of the auditor.

However, it should be emphasized that the auditor’s preliminary assessments of inherent


risk and control risk may change as the audit work continues.

47. The risk that an auditor’s substantive procedures will lead to the conclusion that a
material misstatement does not exist in an account balance or transaction class when, in
fact, such misstatement does exist is
A. Control Risk
B. Inherent risk
C. Audit risk
D. Detection risk

48. The existence of audit risk is recognized by the statement in the auditor’s report that the
A. Financial statements are presented fairy, in all material respect, in accordance
with Philippine Financial Reporting Standards.
B. Audit includes examining, on test basis, evidence supporting the amounts and
disclosures in the financial statements.
C. Auditor obtains reasonable assurance about whether the financial statement are
free of material misstatement.
D. Auditor is responsible for expressing an opinion on the financial statements
which are management’s responsibility.

An audit conducted in accordance with PSAs provides only reasonable, not absolute,
assurance that the financial statements are free of material misstatement, whether caused
by error or fraud.

49. Which of the following audit risk components may be assessed in quantitative terms?

Inherent Risk Control Risk Detection Risk


A. Yes No Yes
B. Yes Yes Yes
C. No No No
D. No No Yes

Audit risk and its components may be assessed in quantitative or non-quantitative terms

50. Some account balance, such as those for retirement benefits and finance leases, are the
results of complex calculation. The susceptibility to material misstatement in these types
of accounts is referred to as
A. Audit risk
B. Detection risk
C. Inherent risk
D. Control risk

Inherent risk, which is the susceptibility of an assertion to material misstatement in the


absence of related controls, exists independently of the audit.

Some assertion and related account balances and classes of transaction have greater level
of inherent risk than others.

For example, account balances resulting from complex calculation such as those for
retirement benefits and finance leaves have a higher risk of misstatement.

51. It has several significant effects on a entity. Which of the following would be important
from an auditing perspective?
I. The potential for material misstatement.
II. The visibility of information.
III. Changes in the organization structure.
A. I and II only C. II and III only
B. I and III only D. I, II and III

52. The use of a computer changes the processing, storage, and communication of financial
information. A CIS environment may affect the following, except
A. The accounting and internal control system of the entity.
B. The overall objective and scope of an audit.
C. The auditor’s design and performance of tests of control and substantive
procedures to satisfy the audit objectives.
D. The specific procedures to obtain knowledge of the entity’s accounting and
internal control systems.

53. The following are benefits of using IT-based controls, except


A. Ability to process large volume of transactions.
B. Over-reliance on computer-generated supports.
C. Ability to replace manual control with computer-based controls.
D. Reduction in misstatement due to consistent processing of transaction.

54. Which of the following statements concerning the internet is incorrect?


A. The internet is a shared public network that enables communication with other
entities and individuals around the world.
B. The internet is a private network that only allows access to authorized persons
entities.
C. The internet is interoperable, which means that any computer connected to the
internet can communicate with any other computer connected to the internet.
D. The internet is a worldwide network that allows entities to engage in e-
commerce/e-business activities.

55. In planning the portions of the audit which may be affected by the client’s CIS
environment, the auditor should obtain an understanding of the significance and
complexity of the CIS activities and the availability of data for use in the audit. The
following relate to the complexity of CIS activities except when
A. Transaction are exchanged electronically with other organizations (for
example, in electronic data interchange systems (EDI).
B. Complicated computation of financial information are performed by the
computer and/or material transactions or entries are generated automatically
without independent validation.
C. Material financial statement assertion are affected by the computer processing.
D. The volume of transactions is such that users would find it difficult to identify
correct errors in processing.

56. The auditor shall consider the entity’s CIS environment in designing audit procedures to
reduce risk to an acceptably low level. Which of the following statements is incorrect?
A. The auditor’s specific audit objectives do not change whether financial
information is processed manually or by computer.
B. The methods of applying audit procedures to gather audit evidence are not
influenced by the methods of computer processing.
C. The auditor may use either manual audit procedures, computer-assisted audit
techniques (CAAT’s), or a combination of both to obtain sufficient
appropriate audit evidence.
D. In some CIS environments, it may be difficult or impossible for the auditor to
obtain certain data for inspection, inquiry, or confirmation without the aid of a
computer.

57. Regardless of the nature of an entity’s information system, the auditor must consider
internal control. In a CIS environment, the auditor must, at a minimum, have
A. A background in programming procedures.
B. An expertise in computer system analysis.
C. A sufficient knowledge of the computer’s operating system.
D. A sufficient knowledge of the computer information system.

The auditor should have a sufficient knowledge of CIS to plan, direct, supervise, and
review the work performed.

If specialized CIS skills are needed in the audit, the auditor may seek the assistance of an
auditor’s expert.

58. Who is ultimately responsible for the design and implementation of cost-effective
controls In a CIS environment?
A. The internal audit manager
B. The entity’s management
C. The CIS manager
D. The control group in the CIS department.

59. Are the following risk greater in CIS than in manual system?

An entity’s management is ultimately responsible for the designing and implementing


system that will provide reasonable assurance that the entity’s objectives will be
achieved.
A B C D
Erroneous data conversion Yes Yes Yes Yes
Erroneous source document preparation Yes Yes Yes No
Repetition or errors No No Yes Yes
Concentration of data Yes No Yes Yes

The preparation of source documents either precedes or is not at all in a computer


information system.

Thus, the risk of erroneous source document preparation in a CIS environment may be
equal to or less than the equivalent risk in a manual system.

In a CIS environment, the computer converts data to machine-readable form prior to


processing of transaction. This will increase the risk of input error.

In addition, the computer’s ability to uniformly process like transaction with the same
processing instructions will ordinarily result in all transactions being processed
incorrectly if there are programming errors (or other systematic errors in hardware or
software).

Also, the concentration of data stored on magnetic disk increases the risk of loss of
valuable financial information from damage or theft.

60. Which of the following is not a hardware element in an IT environment?


A. Scanners
B. CD-ROM drive
C. Application programs
D. Modems
61. All the information used by the auditor in arriving at the conclusion on which the audit
opinion is based is called
A. Audit information
B. Audit Evidence
C. Accounting records
D. Corroborating information

According to PSA 500 (Audit Evidence), audit evidence refers to information used by the
auditor in arriving at the conclusions on which the auditor’s opinion is based.

It includes both information contained in the accounting records underlying the financial
statements and other information.

62. An entity’s accounting records generally include the records of initial entries and
supporting records including
A. Confirmation from third parties
B. Information obtained by the auditor from such audit procedures as inquiry,
observation, and inspection.
C. Worksheets and spreadsheets supporting cost allocations.
D. Other information developed by or available to, the auditor to permit him/her to
reach conclusions through valid reasoning.

According to PSA 500, accounting records include the records of initial accounting
entries and supporting records, such as the following:
 Checks and records of electronic fund transfers (EFT)
 Invoices
 Contracts
 The general and subsidiary ledgers journal entries, and other adjustments to the
financial statement that are not reflected in formal journal entries
 Records such as worksheets and spreadsheets supporting cost allocation,
computation, reconciliation, and disclosures

Other information that the auditor may use as audit evidence includes the following
 minutes of meetings
 confirmations received from third parties
 analyst’ reports
 comparable data about competitors (benchmarking)
 controls manuals
 information obtained by the auditor from such audit procedures as inquiry,
observation, and inspection
 other information developed by, or available to the audit to reach conclusions through
valid reasoning

63. Audit evidence comprises


I. Information that supports and corroborates management’s assertion.
II. Any information that contradicts management’s assertions.
A. I only
B. II only
C. Neither I nor II
D. Both I and II

64. As defined in PSA 500, ____________ is an individual or organization possessing the


expertise in a field other than accounting or auditing, whose work in that field is used by
the entity to assist the entity in preparing the financial statements.
A. Auditor’s expert
B. Management’s expert
C. Auditor’s internal expert
D. Auditor’s external expert
65. If a management’s expert’s work is used to prepare the information to use as audit
evidence, the auditor shall
I. Evaluate the competence, capabilities and objectivity of the management’s expert.
II. Obtain an understanding of the work of the management’s expert.
III. Evaluate the appropriateness of the management’s expert’s work as audit
evidence for the relevant assertion.
A. I and II only
B. I and III only
C. II and III only
D. I, II, and III

66. Which of the following statement concerning the management’s expert’s competence,
capabilities, and objectivity is correct?
A. Objectivity relates to the ability of the management’s expert to exercise the
competence in the circumstances.
B. Competence relates to the possible effects that bias, conflict of interest or the
influence of others may have on the professional or business judgment of the
management’s expert.
C. Capability relates to the nature and level of expertise of the management’s expert.
D. The management’s expert’s competence, capabilities, and objectivity are
important factors in relation to the management’s expert.

The standard states that the competence, capabilities, and objectivity of a management’s
expert, and any control within the entity over the expert’s work, are important factors in
relation to the reliability of any information produced by a management’s expert.

Competence relates to the nature and level of expertise of the management’s expert.

Capability relates to the ability of the management’s expert to exercise that competence
the circumstances.

Objectivity relates to the possible effects that bias, conflict of interest or the influence of
others may have on the professional or business judgment of the management’s expert.

67. Audit evidence is information used to draw reasonable conclusions on which to base the
auditor’s opinion. Audit evidence is to obtain by performing
I. Risk assessment procedures
II. Further audit procedures
A. I only
B. II only
C. Either I or II
D. Both I and II

Risk assessment procedures include:


1. Inquiries of management, and of others within the entity who in the auditor’s
judgment may have information that is likely to assist in identifying risk of
material misstatement due to fraud or error:
2. Analytical procedures.
3. Observation and inspection.
Further audit procedures comprise:
1. Test of controls when required by PSAs or when the auditor has chosen to do so;
and
2. Substantive procedures which include test of details and substantive analytical
procedures.

68. Which the following statements concerning audit evidence is Correct?


A. Appropriateness in the measure of the quantity of audit evidence.
B. Sufficiency is the measure of the quality of audit evidence, that its relevant and
reliability.
C. The quantity of audit evidence needed is affected by its quality and the risk of
misstatement.
D. The Sufficiency and appropriateness of audit evidence are not interrelated.
PSA 500 states, “The quantity is of audit evidence needed is affected by the risk of
misstatement (the higher the assessed risk, the more audit evidence is like to be
required) and also by the quality, of such audit evidence (the higher the quality, the less
may be required)”

69. Which of the following statements concerning audit evidence is correct?


A. An audit usually involves the authentication of documentation.
B. A given set of procedures may provide audit evidence that is relevant to certain
assertions, but not others.
C. Audit evidence obtain from an independent external source is always reliable.
D. An entity’s accounting records can be sufficient audit evidence to support the
financial statements.

A given set of audit procedures may provide audit evidence that is relevant to certain
assertions, but not others. For example, Inspection of records and documents related to
the collection of receivables after the period end may provide audit evidence regarding
both existence and valuation, although not necessarily the appropriateness of period-end
cutoffs.

70. Which of the following generalizations does not relate to the reliability of audit?
A. Audit evidence is more reliable when it is obtained from independent sources
outside the entity.
B. Audit evidence obtain directly by the auditor is more reliable than audit evidence
obtained indirectly or by inference.
C. Audit evidence that is generated internally is more reliable when the related
controls imposed by the entity are effective.
D. An auditor’s opinion, to be economically useful, is formed within a reasonable
time and based on audit evidence obtained at a reasonable cost.

Cost – benefit considerations relate to the sufficiency, not the reliability, of audit
evidence.

PSA 500 gives the following generalizations about the reliability of audit evidence:
1. Audit evidence is more reliable when it is obtained from independent sources outside
the entity.
2. Audit evidence that is generated internally is more reliable when the related controls
imposed by the entity are effective.
3. Audit evidence obtained directly by the auditor (for example, observation of the
application of a control) is more reliable than the audit evidence obtained indirectly or
by interference (for example, inquiry, about the application of a control).
4. Audit evidence is more reliable when it exists in documentary form, whether paper,
electronic, or other medium (for example a contemporaneously written record of a
meeting is more reliable than a subsequent oral representation of the matters
discussed).
5. Audit evidence provided by original documents is more reliable than audit evidence
provided by photocopies or facsimiles.

71. In designing audit procedures, the auditor is required to determine appropriate means of
selecting items for testing to gather audit evidence. Which of the following means is/are
available to the auditor?
I. Selecting all items (100% examination).
II. Selecting specific items.
III. Audit sampling
A. I and II only
B. III only
C. I and III only
D. I, II, and III

According to PSA 500 (Audit Evidence), the application of any one or combination of
the above means may be appropriate depending on the particular circumstances, such as:
 The risk of material misstatement related to the assertion being tested; and
 The practically and efficiency of the different means.

72. It will be appropriate to the audit all the items that make up a class of transactions or
balance (100% examination), except
A. When the class of transactions or account balance consists of a large number of
small value items.
B. When the class of transactions or account balance consists of a small number of
large value items.
C. When there is a significant risk of misstatement and other selection methods do
not provide sufficient appropriate audit evidence.
D. When the repetitive nature of a calculation or other process performed
automatically by the client’s computer information system (CIS) makes a 100%
examination cost effective.

According to PSA 500, a 100% examination may be appropriate when:


 The population constitutes a small number of large value items.
 There is a significant risk and other means do not provide sufficient appropriate audit
evidence.
 The repetitive nature of a calculation or other process performed automatically by an
information system makes a 100% examination cost effective, for example through
the use of computer-assisted audit techniques (CAATs).

73. PSA 500 states that the auditor may decide to select specific items from a population
based on such factors as the auditor’s understanding of the entity, the assessed risk of
material misstatement, and the characteristic of the population being tested. Specific
items that may be selected for testing usually include the following, except
A. Items that are of high value.
B. Items that are suspicious, unusual, risk-prone, or have a history of error.
C. All items whose values do not exceed a certain amount.
D. Items that provide information about matters such as the nature of the entity, the
nature of transactions, and internal control.

According to PSA 500, specific items may include:


 High Value or Key items – Items that are of high value or exhibit some other
characteristics like those that are unusual, suspicious, risk-prone, etc.
 All items over a certain amount – Items whose value exceed a certain amount so as
to verify a large proportion of the total amount of a class of transaction or an account
balance.
 Items to obtain information – items that provide specific information like the nature
of the entity, the nature of transaction, and internal control.

74. Audit sampling involves the


A. Selection of items over a certain amount.
B. Application of audit procedures to less than 100% of items within a class of
transactions or an account balance such that all items have a chance of selection.
C. Application of audit procedures to all items that comprise a class of transactions
or an account balance.
D. Application of audit procedures to all items over a certain amount and those that
are unusual or have a history of error.

As defined in PSA 530 (Audit Sampling), audit sampling involves the application of
audit procedures to less than 100% of items within a population of audit relevance such
that all sampling units have a chance of selection in order to provide the auditor with a
reasonable basis on which to draw conclusion about the entire population.

75. Population as defined in PSA 530 (Audit Sampling), means the entire set of data from
which a sample is selected and about which the auditor wishes to draw conclusions. It is
important for the auditor to ensure that the population is
I. Appropriate to the objective of the procedure.
II. Complete.
A. I only
B. II only
C. Both I and II
D. Neither I nor II

The auditor should ensure that the population is appropriate to the objective of the audit
procedure, which includes consideration of the direction of the test to be applied.

For example, the appropriate population to test for overstatement of accounts payable
will be accounts payable listing.

However, if the auditor’s objective is to test for understatement of accounts payable, the
appropriate population is not the accounts payable listing but the subsequent
disbursements, unpaid invoices, vendor’s statement’s or other audit evidence that will
satisfy the objective of the test.

It is also important for the auditor to ensure that the population is complete. For example,
if the sample is to be drawn from the vouchers file, the auditor should be satisfied that all
vouchers have, in fact, been filed.

76. The two general approaches to audit sampling are:


A. Stratification and value-weighted.
B. Random and nonrandom
C. Statistical and nonstatistical
D. Precision and reliability.

The two general approaches to audit sampling are statistical and nonstatistical.

A statistical sampling plan should have the following characteristic:


a) Random selection of sample; and
b) Use of probability theory to evaluate sample results, including measurement of
sampling risk.
A nonstatistical sampling plan is any sampling plan which, according to the standard,
does not have the characteristics of statistical sampling.

Stratification is the process of dividing a population into discrete subpopulations (also


called strata), each of which is a group of sampling units which have similar
characteristics (often monetary value).

Value-weighted is a selection method in which the sampling unit is identified as the


momentary units that make up a transaction class or an account balance.

Random selection gives each sampling unit a chance of being selected. Conversely,
nonrandom selection does not give each sampling unit a chance of being included in the
sample.

Precision is the allowance for sampling risk. Reliability (also called confidence level) is
the degree to which the sample selected is expected to be representative of the
population. It is the mathematical complement of sampling risk.

77. The principal methods of selecting samples are the use of


I. Random number tables or CAATs.
II. Systematic selection.
III. Haphazard selection.
A. I and II only
B. II and III only
C. I and III only
D. I, II, and III

According to PSA 530, the principal methods of selecting samples are as Follows:
a) Use of computerized random number generator (through CAATs) or random number
tables.
b) Systematic selection, in which every nth item from a population of sequentially
ordered items is selected.
c) Haphazard selection, in which the sample is selected without following a structured
or organized approach, but also without conscious bias.

This sample selection method is inappropriate for statistical sampling but may be
useful for nonstatistical sampling plans.

78. An advantage of statistical sampling over nonstatistical sampling is that statistical


sampling helps an auditor to
A. Minimize the failure to detect errors and fraud.
B. Measure the sufficiency of the evidential matter obtained.
C. Eliminate the risk of nonsampling errors.
D. Reduce the level of audit risk and materiality to a relatively low amount.

Statistical sampling involves the application of the laws of probability that enables the
auditor to design an efficient sample (i.e.,a sample that is neither to large nor too small),
to measure the sufficiency of the audit evidence obtained, and to evaluate the sample
result.

These are human errors like the auditor’s use of inappropriate procedures or failure to
recognized an error because of misinterpretation of audit evidence obtained.

In addition, nonsampling errors arise because most audit evidence is persuasive rather
than conclusive.

79. The likelihood of assessing control risk too high is the risk that the sample selected to test
controls
A. Does not support the tolerable error for some or all of the management’s
assertions.
B. Contains proportionately fewer deviations from prescribed internal controls than
exist in the balance or class as a whole.
C. Does not support the auditor’s planned assessed level of control risk when the true
operating effectiveness of internal control justifies such an assessment.
D. Contains misstatements that could be material to the financial statements when
aggregated with misstatements in other account balances or transactions classes.

As defined in the standard, sampling risk arises from the possibility that the auditor’s
conclusion based on a sample may be different from the conclusion reached if the
entire population were subjected to same audit procedure.

It arises from the fact that a sample may not be representative of the population from
which it was drawn.

In performing test of controls, the two aspect of sampling risk are:


1) The risk of assessing control risk too high is the risk that the assessed level
control risk based on the sample is greater than the true operating
effectiveness of the control.
2) The Risk of assessing control risk too low is the opposite of assessing
control risk to high. It is the risk that the auditor may believed that a control is
operating effectively when it is not.

80. While performing a test of details during an audit, the auditor determined that the sample
results supported the conclusion that the recorded account balance was materially
misstated. It was, in fact, not materially misstated. This situation illustrates the risk of
A. Assessing control risk too low
B. Assessing control risk high
C. Incorrect acceptance
D. Incorrect rejection
The two aspect of sampling risk in substantive testing are:
1) The risk of incorrect rejection is the risk that a sample supports the conclusion
that the account balance is materially misstated when, unknown to the auditor’s
the account balance is not materially misstated (i, e., it is fairy stated)
2) The risk of incorrect acceptance is the risk that a sample supports the conclusion
that the account balance is not materially misstated (i, e., it is fairly stated) when,
unknown to the auditor, the account balance is materially misstated.

81. Analytical procedures used in the overall review stage of the audit generally include
A. Retesting controls that appeared to be ineffective during the assessment of control
risk.
B. Considering unusual or unexpected account balances that were not previously
identified.
C. Gathering evidence concerning account balances that have not changed from the
prior year.
D. Performing test of transaction to corroborate management’s financial statement
assertions.

PSA 520 (Analytical Procedures) states, “The auditor shall design and perform analytical
procedures near the end of the audit that assist the auditor when forming an overall
conclusion as to whether the financial statements are consistent with the auditor’s
understanding of the entity”.

Analytical procedures used in the final review stage of the audit are intended to
corroborate the conclusion formed during the audit of individual components or elements
of the financial statements.

They assist in arriving at the overall conclusion as to the reasonableness of the financial
statements. More over analytical procedures may also identify a previously unrecognized
risk of material misstatement.

Analytical procedures applied as an overall review in the completion stage of the audit
typically include reading the financial statements and accompanying notes and
considering:
1) unusual or unexpected account balances or relationship were not previously
identified; and
2) the adequacy of evidence regarding analytical procedures are not test of controls.

82. Analytical procedures performed in the overall review stage of an audit suggest that
several accounts have unexpected relationships. The result of those procedures most
likely indicate that
A. The communication with the audit committee should be revised.
B. Irregularities exist among the relevant account balances.
C. Additional substantive test of details are required.
D. Internal control activities are not operating effectively.

The auditor should perform analytical procedures in the final review stage of the audit in
order to assess the conclusions reached and evaluate the overall financial statement
presentation.

When analytical procedures disclosed significant fluctuations or relationships that are


inconsistent with other relevant information or that deviate from predicted amounts, the
auditor is required to investigate and obtain adequate explanations and appropriate
corroborative evidence. Thus, additional test of details are required to be performed.

The auditor’s investigation of unusual fluctuations begins with inquires of management.


In turn, the auditor will perform the following:
a) Corroboration of management’s responses.
b) If the management is unable to provide an explanation or if the explanation is not
considered adequate, the auditor should considered the need to apply other audit
procedures based on the result of such inquiries.
83. The responsibility for the identification and disclosure of related parties and transactions
with such parties rest with the
A. Auditor
B. Entity’s management
C. Financial Reporting Standards Council (FRSC)
D. Securities and Exchange Commission (SEC)

Management is responsible for the identification and disclosure of related parties and
transactions with such parties.

Management is required to implement adequate internal control to ensure that related


party transactions are appropriately identified in the information system and disclosed in
the financial statements.

84. The auditor should review information provided by those charged with governance and
management identifying
I. The names of all known related parties
II. Related party transactions.
A. I only
B. II only
C. Both I and II
D. Neither I or II

The auditor should review information provided by those charged with governance and
management identifying the names of all known related parties and transaction with such
parties.

85. Which of the following events most likely indicates the existence of related parties?
A. Making a loan without scheduled terms for repayment of the funds.
B. Discussing merger terms with a company that is a major competitor.
C. Selling real estate at a price that differs significantly from its book value.
D. Borrowing a large sum of money at a variable rate of interest.

The following suggest related party transactions:


 Transactions which have abnormal terms of trade, such as unusual prices, interest
rates, guarantees, and repayment terms.
 The transaction which lack an apparent logical business reason for their occurrence.
 Transactions in which substance differ from form.
 Transactions processed in an unusual manner.
 High volume or significant transaction with certain customers or suppliers as
compared with others.
 Unrecorded transactions such as the receipt or provision of management services at
no charge.

86. Which of the following would not necessarily be a related party transaction?
A. A purchase from another corporation that is controlled by the corporation’s chief
shareholder
B. A loan from the corporation to a major shareholder.
C. Sale of land to the corporation by the spouse of a director.
D. A sale to another corporation with a similar name.

According to PAS 24 (Related Party Disclosures), a party is related to an entity if:


a) Directly, or indirectly through one or more intermediaries, the party:
i. Controls is controlled by, or is under common control with, the entity (this
includes parents, subsidiaries, and fellow subsidiaries)
ii. Has an interest in the entity that gives it significant influence over the entity;
or
iii. Has joint control over the entity;

b) The party is an associate of the entity;


c) The party is a joint venture in which the entity is a venturer;
d) The party is a member of the key management personnel of the entity or its parent;
e) The party is close member of the family of any individual referred to in (a) or (d);
f) The party is an entity that is controlled, jointly controlled or significantly influenced
by, or for which significant voting power in such entity resides with, directly or
indirectly, any individual referred to in (d) or (e); or
g) The party is a post – employment benefit plan for the benefit of employees of the
entity, or any entity that is a related party of the entity.

Two corporations having a similar name are not necessarily related.

87. Which of the following procedures should be perform by the auditor to determine the
completeness of information provide by those charge with governance and management
identifying the names of all known related parties?
I. Review prior year’s working papers for names of known related parties.
II. Inquire as to the affiliation of those charge with governance and officers with
other entities.
III. Review minutes of the meetings of shareholders and those charged with
governance
A. I and II only
B. II and III only
C. I and III only
D. I, II, and III

PSA 550 (Related Parties) requires the auditor to review information provided by those
charged with governance and management identifying the names of known related
parties.

Moreover, the auditor is required to perform the following procedures to determine the
completeness of such information:
a) Review prior year’s working papers for names of known related parties.
b) Review the entity’s procedures for identification of related parties.
c) Inquire as to the affiliation of those charged with governance and officers with
other entities.
d) Review shareholder records to determine the names of principal shareholders or,
if appropriate, obtain a listing of principal shareholders from the share register.
e) Review minutes of the meetings of shareholders and those charged with
governance and other relevant statutory records such as the register of directors’
interest.
f) Inquire of other auditors currently involved in the audit, or predecessor auditor’s
as to their knowledge of additional related parties.
g) Review the entity’s income tax returns and other information supplied to
regulatory agencies.

88. Which of the following statements concerning related party transaction is correct?
A. In the absence of evidence to the contrary, related party transaction should be
assumed to be outside the ordinary course of busines
B. The audit procedures directed toward identifying related party transactions should
include considering whether transactions are occurring but are not being given
proper accounting recognition.
C. An auditor should determine whether a particular transaction would have occurred
if the parties had not been related.
D. An auditor should substantiate that related party transactions were consummated
on terms equivalent to those that prevail in arm’s-length transaction.

PSA 550 state that in examining the identified related party transactions, the auditor
should obtain sufficient appropriate audit evidence as to whether these transactions have
been properly recorded and disclosed.

89. An auditor searching for related party transactions should obtain an understanding of
each subsidiary’s relationship to the total entity because
A. This may permit the audit of intercompany account balances to be perform as of
concurrent dates.
B. This may reveal whether particular transactions would have taken place if the
parties had not been related.
C. The business structure may be deliberately designed to obscure related party
transactions.
D. Intercompany transactions may have been consummated on terms equivalent to
arm’s-length transactions.

While the existence of related parties and transactions with such parties are considered
ordinary features of business, the auditor should be aware of them because a related party
transaction may be motivated by other than ordinary business considerations like profit
sharing or even fraud.

Thus the auditor should consider the possibility that the business structure may be
deliberately designed to obscure related party transactions.

90. After determining that a related party transaction has, in fact, occurred an auditor should
A. Obtain an understanding of the business purpose of the transaction.
B. Substantiate that the transaction was consummated on terms equivalent to an
arm’s-length transaction.
C. Add a separate paragraph to the auditor’s report to explain the transaction.
D. Perform analytic procedures to verify whether similar transaction occurred, but
not recorded.

After identifying related party transactions, the auditor should obtain sufficient
appropriate audit evidence to determine whether such transaction have been properly
recorded and disclosed.

The auditor should become satisfied about their purpose, nature, extent and effect.
Therefore, the auditor should obtain an understanding of the business purpose of an
identified related party transaction.

91. Which of the following statements best expresses the objective of the traditional audit of
financial statements?
A. To express an opinion on the fairness with which the statements present financial
position, financial performance, and cash flows in accordance with Philippine
Financial Reporting Standards.
B. To express an opinion on the accuracy with which the statements present financial
position, financial performance, and cash flows in accordance with Philippine
Financial Reporting Standards.
C. To make suggestion as to the form or content of the financial statements or to
draft in whole or in part.
D. To assure adoption of sound accounting policies and the establishment and
maintain of internal control.

The objective of the traditional financial statement audit is for the auditor to express an
opinion (or a disclaimer of opinion) on the fairness, in all material respect, of the
financial statements prepared and presented by the client’s management.

The auditor’s report should clearly state whether the audit was conducted in accordance
with PSASs, and whether, in the opinion of the independent auditor, the financial
statements are presented in accordance with Philippine Financial Reporting Standards.

92. Which of the following best describes why an independent auditor is asked to express an
opinion on the fair presentation of financial statement?
A. It is a customary courtesy that all shareholder receive an independent report on
management’s stewardship in the managing the affairs of the business.
B. The opinion of an independent party is needed because a company may not be
objective with respect to its own financial statements.
C. It is difficult to prepare financial statements that fairly present a company’s
financial position, financial performance, and cash flows without the expertise of
an independent auditor.
D. It is management’s responsibility to seek available independent aid in the
appraisal of the financial information shown in its financial statements.
The independent auditor’s opinion lends credibility to the financial statements prepared
and presented by an entity’s management.

93. A major purpose of the auditor’s report on financial statement is to


A. Assure investor of the complete accuracy of the financial statements.
B. Enhance the degree of confidence of intended users in the financial statements.
C. Deter creditors from extending loans in high-risk situations.
D. Describe the specific auditing procedures undertaken to gather evidence for the
opinion.

PSA 200 (overall objective of the Independent auditor and the conduct of an audit in
Accordance with Philippine Standards on auditing) state that the purpose of an audit is, to
enhance the degree of confidence of intended users in the financial statements.

This 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.

94. What type of opinion is appropriate when the auditor concludes that an audit client’s
financial statements are prepared, in all material respect, in accordance with the
applicable financial reporting framework?
A. Unmodified opinion.
B. Qualified opinion.
C. Adverse opinion.
D. Disclaimer of opinion.

95. Under PSA 700 (Revised), which of the following is a “modified” opinion?
A. Qualified opinion.
B. Adverse opinion.
C. Disclaimer opinion.
D. All of the above.

A modified opinion, as defined in PSA 700 (Revised) (Forming an Opinion and


Reporting on Financial Statement), is a qualified opinion, an adverse opinion, or a
disclaimer of opinion.

96. If a company’s external auditor expresses an unmodified opinion as a result of the audit
of the company’s financial statement, readers of the audit report can assume that
A. The external auditor found no fraud.
B. The company is financially sound and the financial statements are accurate.
C. Internal control is effective.
D. The auditor concludes that the financial statements are prepared, in all material
respect, in accordance with the applicable financial reporting framework.

An UNMODIFIED OPINION is expressed when the auditor concludes that the


financial statements are prepared, in all material respects, in accordance with the
applicable financial reporting framework.

If the auditor concludes that, based on the audit evidence obtain, the financial statements
as a whole are not free from material misstatement or is unable to obtain sufficient
appropriate audit evidence to conclude the financial statement as a whole are free from
material misstatement, the auditor should express a modified opinion (qualified opinion,
adverse opinion or disclaimer of opinion) on the financial statements.

Also, an unmodified opinion provides reasonable assurance that the statements are free
material misstatement, not that they are accurate.

97. When the financial statements contain material but not pervasive misstatements, because
the accounting policies selected are not consistent with the applicable financial reporting
framework, the auditor should
A. Express a qualified opinion and describe the matter giving rise to the modification
in separate section.
B. Express a qualified opinion and describe the matter giving rise to modification
within the opinion section.
C. Disclaim an opinion and describe the matter giving rise to the modification in a
separate section.
D. Disclaim an opinion and describe the matter giving rise to the modification
within the opinion section.

A QUALIFIED OPINION shall be expressed when, based on sufficient and appropriate


audit evidence obtain, the auditor concludes that misstatements, individually or in the
aggregate, are material, but not pervasive, to the financial statements.

When qualified opinion is expressed, the auditor’s report shall include separate section
with the heading “basis for Qualified Opinion” that provide a description of the matter
giving rise to the expression of a qualified opinion. This section should be placed
immediately after the Opinion section.

If the material misstatement relates to specific amounts in the financial statements


(including quantitative disclosures), the “Basis for Qualified Opinion” section shall
include a description and quantification of the financial effects of the misstatement unless
impracticable.

If the financial effects cannot be qualified, the auditor shall so state in this section.

98. What audit opinion is appropriate when, based on sufficient appropriate evidence
gathered, the auditor concludes that the financial statements are materially and
pervasively misstated and according are not prepared in accordance with the applicable
financial reporting framework?
A. Unmodified opinion.
B. Qualified opinion.
C. Adverse opinion.
D. Disclaimer of opinion.

99. Which of the following paragraphs included in an audit report refers to a matter other
than those presented or disclosed in the financial statements that, in the auditor’s
professional judgment is relevant to users’ understanding of the audit, the auditor
responsible or the auditor’s opinion?
A. Emphasis of matter paragraph.
B. Other matter paragraph.
C. Other information paragraph.
D. Corresponding figures paragraph.

100. The Other Information section of the auditor’s report shall include
A. A statement that the auditor is responsible for the other information.
B. An identification of other information, if any, obtain by the auditor prior to the
date of the auditor’s report.
C. An identification of, for an audit of a non-listed entity, other information, if any,
expected to be obtained after the date of the auditor’s report.
D. A statement that the auditor’s opinion covers the other information.

When the auditor’s report is required to include an Other information section, this section
shall include:
(a) A statement that management is responsible for the other information.
(b) An identification:
(i) Other information, if any obtain by the auditor prior to the date of the
auditor’s report and
(ii) For an audit of financial statements of listed entity, other information, if any,
expected to be obtain after date of the auditor’s report.
(c ) A statement that the auditor’s opinion does not cover other information and,
accordingly, that the auditor does not express (or will not express) an audit opinion
or any form of assurance conclusion thereon:
(d) A description of the auditor’s responsibilities relating to reading, considering and
reporting on the other information as required by PSA 720 (Revised); and
(e) When other information has been obtained prior to the date of the auditor’s report,
either:
(i) A statement that the auditor has nothing to report; or
(ii) If the auditor has concluded that there is an uncorrected material misstatement
of the other information, a statement that describes the uncorrected material
misstatement of the other information.

101. Financial statements prepared in accordance with a financial reporting framework


designed to meet the financial information needs of specific users are referred to as
A. Special purpose financial statements
B. Special purpose framework
C. General purpose financial statements
D. Specific purpose financial statements

Special purpose financial statements are financial statements prepared in accordance


with special purpose framework.

Special purpose framework is a financial reporting framework designed to meet


financial information needs of specific users.

102. The following are examples of special purpose frameworks, except


A. A tax basis of accounting for a set of financial statements that accompany an
entity’s tax return.
B. The cash receipts and disbursements basis of accounting for cash flow
information that an entity may be requested to prepare for creditors.
C. Philippine Financial Reporting Standards (PFRS) promulgated by the
Financial Reporting Standards Council (FRSC).
D. The financial reporting provisions of a contract (for example, a financing
agreement).

The following financial reporting frameworks are often identified as the applicable
financial reporting framework in legislative and regulatory requirements governing
the preparation of general purpose financial statements:
o International Financial Reporting Standards (IFRS) promulgated by the
International Accounting Standards Board (IASB).
o International Public Sector Accounting Standards (IPSAs) promulgated by
International Public Sector Accounting Standards Board.
o Philippine Financial Reporting Standards (PFRS) promulgated by the
Financial Reporting Standards Council (FRSC).

103. An auditor’s report on financial statements prepared in accordance with the financial
reporting provisions of a contract (that is a special purpose framework) to comply with
the provisions of that contract should include all of the following, except
A. An opinion as to whether the financial statements are presented fairly, in all
material respect, in accordance with the financial reporting provisions of the
contract.
B. A statement that indicates the basis of accounting used.
C. An opinion as to whether the basis of accounting used is appropriate under the
circumstances.
D. Reference to the note to the financial statements that describes that basis of
presentation.

The auditor’s report on financial statements prepared in accordance with the financial
reporting provisions of a contract should include a statement that indicates the basis
of accounting used or should refer to the note to the financial statement giving that
information.

The opinion should state whether the financial statements are prepared, in all material
respects, in accordance with the identified basis of accounting.
There is no requirement to express an opinion on the propriety of the basis of
accounting used.

The following is an example of an auditor’s report on a complete set of financial


statements prepared in accordance with the financial reporting provisions of a
contract:
(Illustration 1, Appendix, PSA 800)

We have audited the accompanying financial statements of ABC Company, which


comprise the balance sheet as at December 31, 20X1, and the income statement,
statement of change in equity and cash flow statement for the year then ended, and a
summary of significant accounting policies and other explanatory information. The
financial statements have been prepared by management based on the financial
reporting provision of Section Z of the contract dated January 1, 20X1 between ABC
Company and DEF Company (“the contact”).

Management’s Responsibility for the Financial Statements


Management is responsible for the preparation of these financial statements
accordance with the financial reporting provisions of Section Z of the contract, and
for such internal control as management determines is necessary to enable the
preparation of financial statements that are free from material misstatement, whether
due to fraud or error.

Auditor’s Responsibility
Our responsibility is to express an opinion on these financial statement based on our
audit. We conducted our audit in accordance with Philippine Standards on Auditing.
Those standards require that we comply with ethical requirements and plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free from material misstatement.

An audit involves performing procedures to obtain audit evidence about the amounts
and disclosures in the financial statement. The procedures selected depend on the
auditor’s judgment, including the assessment of the risks of material misstatement of
the financial statements, whether due to fraud or error. In making those risk
assessments, the auditor considers internal control relevant to the entity’s preparation
of the financial statements in order to design audit procedures that are appropriate in
the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the entity’s internal control. An audit also includes evaluating the
appropriateness of accounting policies use and the reasonableness of accounting
estimates made by management, as well as evaluating the overall presentation of the
financial statements.

We believe that the auditing evidence we have obtain is sufficient and appropriate to
provide a basis for our audit opinion.

Opinion
In our opinion, the financial statements of ABC company for the year ended
December 31, 20X1 are prepared, in all material respect, in accordance with the
financial reporting provisions of Section Z of the contract.

Basis of Accounting and Restriction on Distribution and Use


Without modifying our opinion, we draw attention to Note X to the financial
statement which describes the basis of accounting. The financial statements are
prepared to assist ABC Company to comply with the financial reporting provision of
the contract referred to above. As a result, the financial statements may not be
suitable for another purpose. Our report is intended solely for ABC company and
DEF Company and should not be distributed to or used parties other than ABC
Company or DEF Company.
104. When an auditor reports on financial statements prepared on an entity’s income tax
basis, the auditor’s report should
A. State the basis of presentation of the financial statements.
B. Disclaim an opinion on whether the statements were examined in accordance
with Philippine Standards on Auditing (PSAs).
C. Not express an opinion on whether the statements are presented in accordance
with the tax basis of accounting used.
D. Include an explanation of how the result of operations differ from the cash
receipts and disbursements basis of accounting.

The auditor’s report should state the basis of accounting used or should refer to the
note to the financial statements giving that information.

105. An auditor is reporting on a statement of cash receipt and disbursement. This statement
is best referred to in the opinion paragraph by which of the following?
A. “Result of operation arising from cash transaction”
B. “Cash receipts and disbursements”
C. “Income statement resulting from cash transactions”
D. “Statement of cash flows”.

The opinion paragraph of a report on a statement of cash receipt and disbursements


states, “In our opinion, the financial statement present fairly, in all material respects, the
cash receipt and disbursements of ABC Company for the year ended December 31, 20X1
in accordance with the cash receipt and disbursements basis of accounting described in
Note X”.

106. In the audit of special purpose financial statements, the auditor shall obtain an
understanding of
I. The purpose for which the financial statement are prepared.
II. The intended users
III. The steps taken by management to determine that the applicable financial
reporting framework is acceptable in the circumstances.
A. I only
B. II and III only
C. I and II only
D. I, II, and III

107. An auditor’s report on financial statements prepared on the cash receipts and
disbursements basis of accounting should include all of the following, except
A. A statement that the audit was conducted in accordance with Philippine
standards on auditing.
B. A reference to the note to the financial statements that describes the cash
receipts and disbursements basis of accounting.
C. A statement that the cash receipts and disbursements basis of accounting is not
comprehensive basis of accounting.
D. An opinion as to whether the financial statements are presented fairly, in all
material respects in accordance with the cash receipts and disbursements basis
of accounting.

108. A CPA is permitted to accept a separate engagement (not in conjunction with an audit
of financial statements) to audit an entity’s.

Schedule of Schedule of
Accounts Receivable Profit Participation
A. Yes No
B. No Yes
C. Yes Yes
D. No No

An audit engagement to express an opinion on one or more components of a financial


statement (for example, accounts receivable, inventory, or a schedule of profit
participation) may be undertaken as a separate engagement or in conjunction with an
audit of the entity’s financial statements.

109. Which of the following statements is correct with respect to an auditor’s report
expressing an opinion on a specific element on a financial statement?
A. The auditor who has expressed an adverse opinion on the financial statements
as a whole can never express an unmodified opinion on a specific element in
these financial statements.
B. The materiality determined for a specific element of a financial statement may
be lower than the materiality determine for the entity’s complete set of
financial statements.
C. Such a rep auditor can only be used if the auditor is also engaged to audit the
entire set of financial statements.
D. The attention devoted to the specific element is usually less than it would be if
the financial statements as a whole were audited.

110. An auditor may express an opinion on an entity’s accounts receivable balance even if
the auditor has disclaimed an opinion on the financial statements taken as a whole
provide the
A. Report on the accounts receivable is presented separately from the disclaimer
of opinion on the financial statements
B. Auditor also reports on the current asset portion of the entity’s statement of
financial position.
C. Use of the report on the accounts receivable is restricted.
D. Report on the accounts receivable discloses the reason for the disclaimer of
opinion on the financial statements.

The standard state that when an adverse opinion or disclaimer of opinion on the entire
financial statement has been expressed, the auditor should report on elements of the
financial statements only if those elements are not so extensive as to constitute a
major portion of the financial statements.

Because an engagement to audit a financial statement element does not result in a


report on the financial statements taken as a whole, a separate report should be
presented containing element the auditor’s opinion on the financial statement element
audited.

111. Prior to, or conjunction with, the information-gathering procedures for an audit, audit
team members should discuss the potential for material misstatement due to fraud.
Which of the following best characterizes the mindset that the audit team should
maintain during this discussion?
A. Presumptive
B. Judgmental
C. Criticizing
D. Questioning

112. If the statement of financial position of a company is dated December 31, 2017, the
audit report is dated February 18, 2018, and both are released on February 25, 2018,
this indicates that the auditor has search for subsequent events that occurred up to:
A. December 31, 2017
B. January 1, 2018
C. February 18, 2019
D. February 25, 2018

Items 3-6 are based on the following information:


Auditors perform audit procedures to obtain audit evidence that will allow them to draw
reasonable conclusion as to whether the client’s financial statements are prepared and
presented in conformity with Philippine Financial Reporting Standards. Match each audit
procedure with its type.
Type of Audit Procedure
A. Analytic review procedures
B. Test of controls
C. Risk assessment procedures (other than analytical procedures)
D. Test of details of account balances, transactions, or disclosures

113. Prepare a flowchart of internal control over purchases.

114. Calculate the ratio of bad debt expense to credit sales.

115. Determine whether disbursements are properly approved.

116. Confirm accounts receivable.

Items 7-10 are based on the following information:


You are a senior auditor with JST and Co. CPAs. Tanya, a new hire, has come to you with
questions concerning “assertions” and “audit procedures” Match each assertion with the
statement that most closely approximates its meaning.

Statement
A. There is such an asset.
B. The company legally owns the asset.
C. All assets have recorded.
D. Assets are recorded at proper amounts.

117. Completeness

118. Existence and occurrence

119. Rights and obligation

120. Valuation

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