PART 2 UNIT 8

Question: 1 An auditor is least likely to use computer software to

A. Construct parallel simulations.

B. Access client data files.

C. Prepare spreadsheets.

D. Assess computer control risk.

Answer (D) is correct.

The auditor is required to evaluate the adequacy and effectiveness of the system of internal control and
to assess risk to plan the audit. This assessment is a matter of professional judgment that cannot be
accomplished with a computer alone.

A Parallel simulation involves using an auditor’s program to reproduce the logic of management’s
program.

B Computer software makes accessing company files much faster and easier.

C Many audit spreadsheet programs are available.

Question: 2 When an auditor performs tests on a computerized inventory file containing over
20,000 line items, that auditor can maintain independence and perform most efficiently by

A. Asking the console operator to print every item that costs more than US $100.

B. Using a generalized audit software package.

C. Obtaining a printout of the entire file and then selecting each nth item.

D. Using the systems department’s programmer to write an extraction program.

Answer (B) is correct.

Independence can be preserved when the auditor acquires general audit software (GAS) from an
external source rather than relying on auditee-developed audit software. Also, efficiency is enhanced to
the extent GAS can be used (as compared to manual auditing or writing special audit programs). The
leading GAS packages are currently and IDEA.

A Independence is jeopardized when an operator is involved in the process.

C Printing out the entire file is both unnecessary and inefficient.

D Overreliance on an auditee’s programmer impairs independence.

Question: 3 Which of the following cannot be performed by an auditor using generalized audit
software (GAS)?

A. Identifying missing check numbers.

B. Correcting erroneous data elements, making them suitable for audit testwork.

C. Matching identical product information in separate data files.

D. Aging accounts receivable.

Answer (B) is correct.

GAS can help an auditor identify erroneous data, but correcting them before performing testwork is
inappropriate.

A Identifying gaps is a function of major GAS packages.

C Merging files is a function of GAS packages.

D Aging is a function of GAS packages.

Question: 4 Which of the following is not true about audit use of the Internet?

A. It is a useful research tool for gathering audit-related information.

B. It provides a secure medium to transmit confidential information.

C. Electronic communication is the major use of the Internet by internal auditors.

D. An electronic record of a user’s web browsing activities is created.

Answer (B) is correct.

Users transmitting sensitive information across the Internet must understand the threats that arise that
could compromise the confidentiality of the data. Security measures, such as encryption technology,
need to be taken to ensure that the information is viewed only by those authorized to view it.

A The Internet is a useful audit tool for gathering and disseminating audit-related information.

C The major use of the Internet by internal auditors is electronic communication.

D Web browsing leaves an electronic record of the user’s search path.

Question: 5 A primary advantage of using generalized audit software (GAS) packages in auditing the
financial statements of a client that uses a computer system is that the auditor may

A. Substantiate the accuracy of data through self-checking digits and hash totals.
B. Reduce the level of required tests of controls to a relatively small amount.

C. Access information stored on computer files without a complete understanding of the client’s
hardware and software features.

D. Consider increasing the use of substantive tests of transactions in place of analytical procedures.

Answer (C) is correct.

A detailed knowledge of the client’s system is unnecessary because a generalized audit software
package is designed to process data files from almost any platform. The leading packages are currently
ACL (Audit Command Language) and IDEA (Interactive Data Extraction and Analysis).

A Self-checking digits and hash totals are application controls used by clients.

B GAS may permit far more comprehensive tests of controls than in a manual audit.

C The auditor is required to apply analytical procedures in the planning and overall review phases of the
audit.

Question: 6 Which of the following strategies will an auditor most likely consider in auditing an
entity that processes most of its financial data only in electronic form, such as a paperless system?

A. Continuous monitoring and analysis of transaction processing with an embedded audit module.

B. Increased reliance on internal control activities that emphasize the segregation of duties.

C. Verification of encrypted digital certificates used to monitor the authorization of transactions.

D. Extensive testing of firewall boundaries that restrict the recording of outside network traffic.

Answer (A) is correct.

An audit module embedded in the client’s software routinely selects and abstracts certain transactions.
They may be tagged and traced through the information system. An alternative is recording in an audit
log, that is, in a file accessible only by the auditor.

B The same level of segregation of duties as in a manual system is not feasible in highly sophisticated
computer systems.

C Encrypted digital signatures help ensure the authenticity of the sender of information, but verifying
them is a less pervasive and significant procedure than continuous monitoring of transactions.

D Firewalls exclude unauthorized activity from entering a system. However, such activity would be
independent of the internal processing of financial information.
Question: 7 Which of the following is the primary reason that many auditors hesitate to use
embedded audit modules?

A. Embedded audit modules cannot be protected from computer viruses.

B. Auditors are required to monitor embedded audit modules continuously to obtain valid results.

C. Embedded audit modules can easily be modified through management tampering.

D. Auditors are required to be involved in the system design of the application to be monitored.

Answer (D) is correct.

Continuous monitoring and analysis of transaction processing can be achieved with an embedded audit
module. To be successful, the internal auditor may need to be involved in the design of the application.
Designing the system may impair independence unless the client makes all management decisions.

A Embedded audit modules are no more vulnerable to computer viruses than any other software.

B The advantage of embedded audit modules is that auditors are not required to monitor them
continuously to obtain valid results.

C Embedded audit modules cannot be easily modified through management tampering.

Question: 8 An organization provides credit cards to selected employees for business use. The credit
card company provides a computer file of all transactions by employees of the organization. An auditor
plans to use generalized audit software (GAS) to select relevant transactions for testing. Which of the
following would not be readily identified using GAS?

A. High-monetary-amount transactions.

B. Fraudulent transactions.

C. Transactions for specific cardholders.

D. Suppliers used by each cardholder.

Answer (B) is correct.

It is highly unlikely that the accounts payable system contains sufficient evidence of fraudulent
transactions. GAS can be used to explore indicators of fraud, but it probably would not identify them.

A GAS can be used to search for unusual transactions, such as those exceeding a specific monetary
amount.
C Transaction data can be filtered using GAS.

D Suppliers used by cardholders can be summarized using GAS.

Question: 9 Insurers may receive hospitalization claims directly from hospitals by computer media;
no paper is transmitted from the hospital to the insurer. Which of the following controls is most
effective in detecting fraud in such an environment?

A. Use integrated test facilities to test the correctness of processing in a manner that is transparent
to data processing.

B. Develop monitoring programs to identify unusual types of claims or an unusual number of

claims by demographic classes for investigation by the claims department.

C. Use generalized audit software to match the claimant identification number with a master list of
valid policyholders.

D. Develop batch controls over all items received from a particular hospital and process those
claims in batches.

Answer (B) is correct.

Monitoring assesses the quality of internal control over time. Ongoing monitoring occurs as part of
routine operations. It includes management and supervisory review, comparisons, reconciliations, and
other actions by personnel as part of their regular activities. Thus, monitoring of the number and nature
of claims may serve to detect failures of internal control.

A An integrated test facility is useful in determining the correctness of processing of validly entered
transactions. The issue in this case is the validity of the entered transactions.

C An edit control should be built into the application to test for valid policy numbers.

D Batch controls are designed to ensure that all items submitted are processed, i.e., that they are not
lost or added to. Batch controls serve a control purpose, but the major concern in this situation is the
validity of the input.

Question: 10 Computer-assisted audit techniques are beneficial to the audit process because they
provide for which of the following?

A. Ease of access to systems.

B. Ease of training for auditors.

C. Ability of auditors to deploy software solutions quickly.

D. Ability of auditors to analyze large amounts of data.

Answer (D) is correct.

In contrast with manual audit procedures, CAATs provide automated methods for extracting and
analyzing large amounts of data.

A CAATs do not affect the internal auditor’s access to systems. Access to systems is controlled by the
organization.

B CAATs are used to improve the performance of engagements, not to train internal auditors.

C CAATs give internal auditors the ability to analyze large amounts of data, not the ability to deploy
software solutions quickly.

Question: 11 Which of the following is not a benefit of using IT to solve audit problems?

A. It helps reduce audit risk.

B. It improves the timeliness of the audit engagement.

C. It increases audit opportunities.

D. It improves the auditor’s judgment.

Answer (D) is correct.

Auditor judgment is improved through increased experience and professional development.

A Audit risk is the risk that an auditor expresses an inappropriate opinion on materially misstated
financial statements. An opinion should be supported by sufficient, reliable, relevant, and useful
information. The use of IT improves information gathering by enabling the auditor to better analyze
large amounts of data. The result is stronger support for conclusions and opinions as well as reduced
audit risk.

B The use of IT increases the internal audit activity’s productivity, which improves the timeliness of the
audit engagement.

C The use of IT improves the timeliness of audit engagements, which enables the internal audit activity
to perform more audits during the audit period.

Question: 12 Of the following, which is the most efficient source for an auditor to use to evaluate a
company’s overall control system?

A. Control flowcharts.

B. Copies of standard operating procedures.

C. A narrative describing departmental history, activities, and forms usage.

D. Copies of industry operating standards.

Answer (A) is correct.

Control flowcharting is a graphical means of representing the sequencing of activities and information
flows with related control points. It provides an efficient and comprehensive method of describing
relatively complex activities, especially those involving several departments.

B Copies of procedures and related forms do not provide an efficient overview of processing activities.

C A narrative review covering the history and forms usage of the department is not as efficient or
comprehensive as flowcharting for the purpose of communicating relevant information about controls.

D Industry standards do not provide a picture of existing practice for subsequent audit activity.

Question: 13 Which of the following tools would best give a graphical representation of a sequence of
activities and decisions?

A. Flowchart.

B. Control chart.

C. Histogram.

D. Run chart.

Answer (A) is correct.

Flowcharting is an essential aid in the program development process that involves a sequence of
activities and decisions. A flowchart is a pictorial diagram of the definition, analysis, or solution of a
problem in which symbols are used to represent operations, data flow, equipment, etc.

B A control chart is used to monitor deviations from desired quality measurements during repetitive
operations.

C A histogram is a bar chart showing conformance to a standard bell curve.

D A run chart tracks the frequency or amount of a given variable over time.

Question: 14 The diamond-shaped symbol is commonly used in flowcharting to show or represent a

A. Process or a single step in a procedure or program.

B. Terminal output display.

C. Decision point, conditional testing, or branching.

D. Predefined process.

Answer (C) is correct.

Flowcharts illustrate in pictorial fashion the flow of data, documents, and/or operations in a system.
Flowcharts may summarize a system or present great detail, e.g., as found in program flowcharts. The
diamond-shaped symbol represents a decision point or test of a condition in a program flowchart, that
is, the point at which a determination must be made as to which logic path (branch) to follow.

A The rectangle is the appropriate symbol for a process or a single step in a procedure or program.

B A terminal display is signified by a symbol similar to the shape of a cathode ray tube.

D A predefined processing step is represented by a rectangle with double lines on either side.

Question: 15 An auditor’s flowchart of a client’s accounting system is a diagrammatic representation

that depicts the auditor’s

A. Assessment of the risks of material misstatement.

B. Identification of weaknesses in the system.

C. Assessment of the control environment’s effectiveness.

D. Understanding of the system.

Answer (D) is correct.

The auditor should document (1) the understanding of the entity and its environment and the
components of internal control, (2) the sources of information regarding the understanding, and (3) the
risk assessment procedures performed. The form and extent of this documentation are influenced by
the nature and complexity of the entity’s controls. For example, documentation of the understanding of
internal control of a complex information system in which many transactions are electronically initiated,
authorized, recorded, processed, or reported may include questionnaires, flowcharts, or decision tables.

A The conclusions about the assessments of the RMMs should be documented. These are professional
judgments of the auditor documented in the workpapers.

B The conclusions about the assessments of the RMMs should be documented. These are professional
judgments of the auditor documented in the workpapers.

C The auditor’s judgment is the ultimate basis for concluding that controls are effective.

Question: 16 When documenting internal control, the independent auditor sometimes uses a systems
flowchart, which can best be described as a

A. Pictorial presentation of the flow of instructions in a client’s internal computer system.

B. Diagram that clearly indicates an organization’s internal reporting structure.

C. Graphic illustration of the flow of operations that is used to replace the auditor’s internal
control questionnaire.
D. Symbolic representation of a system or series of sequential processes.

Answer (D) is correct.

A systems flowchart is a symbolic representation of the flow of documents and procedures through a
series of steps in the accounting process of the client’s organization.

A A pictorial presentation of the flow of instructions in a client’s internal computer system is a computer
program flowchart.

B The organizational chart depicts the client’s internal reporting structure.

C A flowchart does not necessarily replace the auditor’s internal control questionnaire. Controls beyond
those depicted on the systems flowchart must also be considered by the auditor, and information
obtained from the questionnaire may be used to develop the flowchart.

Question: 17 The normal sequence of documents and operations on a well-prepared systems

flowchart is

A. Top to bottom and left to right.

B. Bottom to top and left to right.

C. Top to bottom and right to left.

D. Bottom to top and right to left.

Answer (A) is correct.

The direction of flow in the normal sequence of documents and operations on a well-prepared systems
flowchart is from top to bottom and from left to right.

B The normal vertical movement is top to bottom.

C The normal horizontal movement is left to right.

D The normal sequence is top to bottom and left to right.

Question: 18 Which method of evaluating internal controls during the preliminary survey provides the
internal auditor with the best visual grasp of a system and a means for analyzing complex operations?

A. A flowcharting approach.

B. A questionnaire approach.

C. A matrix approach.

D. A detailed narrative approach.

Answer (A) is correct.

Flowcharts are graphical representations of the step-by-step progression of transactions, including

document (information) preparation, authorization, flow, storage, etc. Flowcharting allows the internal
auditor to analyze a system and to identify the strengths and weaknesses of the purported internal
controls and the appropriate areas of audit emphasis.

B A questionnaire approach provides only an agenda for evaluation.

C A matrix approach does not provide the visual grasp of the system that a flowchart does.

D A detailed narrative does not provide the means of evaluating complex operations that a flowchart
does.

Question: 19 Internal auditors often flowchart a control system and reference the flowchart to
narrative descriptions of certain activities. This is an appropriate procedure to

A. Determine whether the system meets established management objectives.

B. Document that the system meets international auditing requirements.

C. Determine whether the system can be relied upon to produce accurate information.

D. Gain the understanding necessary to test the effectiveness of the system.

Answer (D) is correct.

Flowcharting is a pictorial method of analyzing and understanding the processes and procedures
involved in operations, whether manual or computerized. Flowcharting is therefore useful in the
preliminary survey and in obtaining an understanding of internal control. It is also helpful in systems
development.

A To determine whether the system meets established management objectives, the auditor must
perform more extensive procedures. A flowchart is an aid to understanding the system. It does not
provide evidence about the actual operating effectiveness of the system.

B International auditing standards do not require the use of flowcharts.

C To determine whether the system can be relied upon to produce accurate information, the auditor
must perform more extensive procedures. A flowchart is an aid to understanding the system. It does not
provide evidence about the actual operating effectiveness of the system.

Question: 20 An internal auditor develops a flowchart primarily to

A. Detect errors and irregularities.

B. Analyze a system and identify internal controls.

C. Determine functional responsibilities.

D. Reduce the need for interviewing auditee personnel.

Answer (B) is correct.

Flowcharting is a tool commonly used to learn what set of procedures is supposed to be in effect in a
control system. An internal control flowchart is a pictorial diagram of documents and their processing
and disposition within the system. It is a basis for preliminary evaluation and is followed by testing to
see if the prescribed procedures are in effect and are working as intended.

A Flowcharts only show where errors and irregularities might occur.

C Questionnaires are used to determine functional responsibilities.

D Flowchart development usually requires asking questions of the auditee.

Question: 21 The internal auditor wishes to develop a flowchart of (1) the process of receiving sales
order information at headquarters, (2) the transmission of the data to the plants to generate the
shipment, and (3) the plants’ processing of the information for shipment. The internal auditor should

A. Start with management’s decisions to set sales prices. Gather internal documentation on the
approval process for changing sales prices. Complement documentation with a copy of the program
flowchart. Prepare an overview flowchart that links these details.

B. Start with a shipment of goods and trace the transaction back through the origination of the
sales order as received from the sales representative.

C. Start with the receipt of a sales order from a sales representative and “walk through” both the
manual and computerized processing at headquarters and the plant until the goods are shipped and
billed.

D. Obtain a copy of the plants’ systems flowchart for the sales process, interview relevant
personnel to determine if any changes have been made, and then develop an overview flowchart which
will highlight the basic process.

Answer (C) is correct.

The survey during the engagement planning phase helps the internal auditor to become familiar with
activities, risks, and controls and to identify areas for audit emphasis. Flowcharting is a typical survey
procedure, and the walk-through is a means of gathering information to be reflected in the flowchart.

A The issue is the processing of sales orders, not the system for making changes in the sales price data.

B Starting with the completed transaction does not identify processing steps in which documents or
data were diverted and processed separately.
D Processing steps that occur other than at the plant level must also be considered.

Question: 22 An internal auditor reviews and adapts a systems flowchart to understand the flow of
information in the processing of cash receipts. Which of the following statements is true regarding the
use of such flowcharts? The flowcharts

A. Show specific control procedures used, such as edit tests that are implemented and batch
control reconciliations.

B. Are a good guide to potential segregation of duties.

C. Are generally kept up to date for systems changes.

D. Show only computer processing, not manual processing.

Answer (B) is correct.

Systems flowcharts are overall graphic analyses of the flow of data and the processing steps in an
information system. Accordingly, they can be used to show segregation of duties and the transfer of
data between different segments in the organization.

A A program flowchart will identify the specific edit tests implemented.

C The flowcharts are usually not kept up to date for changes. Thus, the auditor will have to interview key
personnel to determine changes in processing since the flowchart was developed.

D A systems flowchart should show both manual and computer processing.

Question: 23 Graphical notations that show the flow and transformation of data within a system or
business area are called

A. Action diagrams.

B. Program structure charts.

C. Conceptual data models.

D. Data flow diagrams.

Answer (D) is correct.

Data flow diagrams show how data flow to, from, and within the system and the processes that
manipulate the data. A data flow diagram can be used to depict lower-level details as well as higher-
level processes. A system can be divided into subsystems, and each subsystem can be further subdivided
at levels of increasing detail. Thus, any process can be expanded as many times as necessary to show the
required level of detail.
A Action diagrams are process logic notations that combine graphics and text to support the definition
of technical rules.

B Program structure charts are graphical depictions of the hierarchy of modules or instructions in a
program.

C Conceptual data modules are independent definitions of the data requirements that are explained in
terms of entities and relationships.

Question: 24 Which of the following is a true statement comparing a horizontal flowchart with a
vertical flowchart?

A. A horizontal flowchart provides more room for written descriptions that parallel the symbols.

B. A horizontal flowchart brings into sharper focus the assignment of duties and independent
checks on performance.

C. A horizontal flowchart is usually longer.

D. A horizontal flowchart does not provide as broad a picture at a glance.

Answer (B) is correct.

A horizontal or systems flowchart depicts the functions or departments involved in a process

successively from left to right. Thus, the steps performed by a function or department are presented in
the same column. A vertical flowchart displays step-by-step processes effectively, but it does not
delineate the system’s components as well. By emphasizing the flow of processing between
departments or people, a horizontal flowchart more clearly shows any inappropriate separation of
duties and lack of independent checks on performance.

A A vertical flowchart is usually designed to provide for written descriptions.

C A horizontal flowchart is usually shorter. Space for written descriptions is not usually provided.

D More of the flow of processing can be depicted on one page than in a vertical flowchart with written
descriptions.

Question: 25 The following is a section of a system flowchart for a payroll application:

Symbol X could represent

A. Erroneous time cards.

B. An error report.

C. Batched time cards.

D. Unclaimed payroll checks.

Answer (B) is correct.

Symbol X is a document, that is, hard copy output of the validation routine shown. The time card data,
the validated data, and the errors are recorded on magnetic disk after the validation process. Thus,
either an error report or the valid time card information is represented by Symbol X.

A Time cards were stored offline before the validation process.

C Time cards were stored offline before the validation process.

D No payroll checks are shown.

Question: 26 An advantage of using systems flowcharts to document information about internal

control instead of using internal control questionnaires is that systems flowcharts

A. Identify internal control deficiencies more prominently.

B. Provide a visual depiction of clients’ activities.

C. Indicate whether controls are operating effectively.

D. Reduce the need to observe clients’ employees performing routine tasks.

Answer (B) is correct.

Systems flowcharts provide a visual representation of a series of sequential processes, that is, of a flow
of documents, data, and operations. In many instances, a flowchart is preferable to a questionnaire
because a picture is usually more easily comprehended.

A A systems flowchart can present the flow of information and documents in a system, but it does not
specifically identify the deficiencies.

C The flowchart does not provide evidence of how effectively controls are actually operating.

D The flowchart is useful in documenting the understanding of internal control, but it does not reduce
the need for observation of employees performing tasks if those tests of controls are deemed necessary.

Question: 27 Which of the following is optimal to provide a summary-level description of a complex

new computer system?

A. A control flowchart.

B. Program code checking and flowchart verification.

C. A system flowchart.

D. A detailed narrative.

Answer (C) is correct.

Flowcharts are graphical representations of the step-by-step progression of information through

preparation, authorization, flow, storage, etc. In particular, a system flowchart depicts areas of
responsibility arranged horizontally across the page in vertical columns. Accordingly, activities, controls,
and document flows that are the responsibility of a given department or function are shown in the same
column.

A A control flowchart is specific to controls and therefore not optimal to provide a summary-level
description of a complex new system.
B Program code checking and flowchart verification are verification procedures, not summary-level
description tools.

D A detailed narrative provides a detail-level description, not a summary-level description.

Question: 28 Accounts payable schedule verification may include the use of analytical information.
Which of the following is analytical information?

A. Comparing the schedule with the accounts payable ledger or unpaid voucher file.

B. Comparing the balance on the schedule with the balances of prior years.

C. Comparing confirmations received from selected creditors with the accounts payable ledger.

D. Examining vendors’ invoices in support of selected items on the schedule.

Answer (B) is correct.

Analytical procedures are used to compare information with expectations. Such procedures include
period-to-period comparisons. Thus, comparing the balance on a schedule with the balances from prior
years creates analytical information.

A Comparing the schedule with the accounts payable ledger or unpaid voucher file is a test of details.

C Comparing confirmations received from selected creditors with the accounts payable ledger is a test of
details.

D Examining vendors’ invoices in support of selected items on the schedule is a test of details.

Question: 29 During an engagement, the internal auditor should consider the following factor(s) in
determining the extent to which analytical procedures should be used during the engagement:

A. Adequacy of the system of internal control.

B. Significance of the area being examined.

C. Precision with which the results of analytical audit procedures can be predicted.

D. All of the answers are correct.

Answer (D) is correct.

When determining the extent to which analytical procedures should be used, the internal auditor
considers (1) the significance of the area being examined, (2) the assessment of risk management in the
audited area, (3) the adequacy of the internal control system, (4) the availability and reliability of
financial and nonfinancial information, (5) the precision with which the results of analytical audit
procedures can be predicted, (6) the availability and comparability of information regarding the industry
in which the organization operates, and (7) the extent to which other procedures provide evidence.
A The adequacy of the system of internal control should be considered.

B The significance of the area being examined should be considered.

C The precision with which the results of analytical procedures can be predicted should be considered.

Question: 30 During an operational audit engagement, an auditor compared the inventory turnover
rate of a subsidiary with established industry standards in order to

A. Evaluate the accuracy of internal financial reports.

B. Test controls designed to safeguard assets.

C. Determine compliance with corporate procedures regarding inventory levels.

D. Assess performance and indicate where additional audit work may be needed.

Answer (D) is correct.

Inventory turnover provides analytical information. It equals cost of sales divided by average inventory.
A low turnover ratio implies that inventory is excessive, for example, because the goods are obsolete or
because the organization has overestimated demand. Accordingly, such an analytical procedure will
provide an indication of the efficiency and effectiveness of the subsidiary’s management of the
inventory.

A Comparison with industry standards will not test the accuracy of internal reporting.

B Comparison with industry standards will not test the controls designed to safeguard the inventory.

C Comparison with industry standards will not test compliance.

Question: 31 Analytical procedures enable the internal auditor to predict the balance or quantity of
an item. Information to develop this estimate can be obtained by all of the following except

A. Tracing transactions through the system to determine whether procedures are being applied as
prescribed.

B. Comparing financial data with data for comparable prior periods, anticipated results (e.g.,
budgets and forecasts), and similar data for the industry in which the entity operates.

C. Studying the relationships of elements of financial data that would be expected to conform to a
predictable pattern based upon the entity’s experience.

D. Studying the relationships of financial data with relevant nonfinancial data.

Answer (A) is correct.

Tracing transactions through the system is a test of controls directed toward the operating effectiveness
of internal control, not an analytical procedure.

B The basic premise of analytical procedures is that plausible relationships among data may be
reasonably expected to exist and continue in the absence of known conditions to the contrary. Well-
drafted budgets and forecasts prepared at the beginning of the year should therefore be compared with
actual results, and engagement client information should be compared with data for the industry in
which the engagement client operates.

C The internal auditor should expect financial ratios and relationships to exist and to remain relatively
stable in the absence of reasons for variation.

D Financial information is related to nonfinancial information; e.g., salary expense should be related to
the number of hours worked.

Question: 32 Analytical procedures in which current financial statements are compared with budgets
or previous statements are primarily intended to determine the

A. Adequacy of financial statement disclosure.

B. Existence of specific errors or omissions.

C. Overall reasonableness of statement contents.

D. Use of an erroneous cutoff date.

Answer (C) is correct.

An analytical procedure in the form of a period-to-period comparison is primarily intended to assess the
reasonableness of current content in relation to previous content.

A An analytical procedure in the form of a period-to-period comparison is not primarily intended to

determine the adequacy of financial statement disclosure.

B An analytical procedure in the form of a period-to-period comparison is not primarily intended to

determine the existence of specific errors or omissions, even though errors or omissions may be
discovered.

D An analytical procedure in the form of a period-to-period comparison is not primarily intended to

determine the use of an erroneous cutoff date.

Question: 33 A rental car organization’s fleet maintenance division uses a different code for each type
of inventory transaction. A daily summary report lists activity by part number and transaction code. The
report is reconciled by the parts room supervisor to the day’s material request forms and is then
forwarded to the fleet manager for approval. The use of transaction codes provides the fleet manager
with information concerning the types of inventory activities. The internal auditor is considering an
analytical review of transaction codes and materials used. The objective of this review is to
A. Provide information about overstocked inventory items.

B. Reveal shortages in perpetual inventory records.

C. Determine whether inventory items are properly valued.

D. Identify possible material lost due to employee theft.

Answer (D) is correct.

Analytical procedures often provide the internal auditor with an efficient and effective means of
obtaining evidence. The assessment results from comparing information with expectations identified or
developed by the internal auditor. Analytical procedures are useful in identifying (1) unexpected
differences, (2) the absence of differences when they are expected, (3) potential errors, (4) potential
fraud or illegal acts, or (5) other unusual or nonrecurring transactions or events. An analysis of materials
used and materials issued may reveal a discrepancy. One possible explanation for excessive issuance of
materials is employee theft.

A The summary report does not include stocking levels.

B The summary report concerns only issued items.

C The summary report does not address the valuation assertion.

Question: 34 The use of an analytical review to verify the correctness of various operating expenses
would not be a preferred approach if

A. An auditor notes strong indicators of a specific fraud involving these accounts.

B. Operations are relatively stable and have not changed much over the past year.

C. An auditor would like to identify large, unusual, or non-recurring transactions during the year.

D. Operating expenses vary in relation to other operating expenses, but not in relation to revenue.

Answer (A) is correct.

Analytical auditing procedures assist internal auditors in identifying conditions that may require
subsequent engagement procedures. Accordingly, if the auditor already suspects fraud involving
operating expenses, a more directed audit approach is appropriate.

B Operational stability suggests that the normal analytical relationships involving operating expenses
continue to exist. This stability helps the auditor to develop expectations that may be used for
comparison with actual results.

C Analytical review is useful in identifying unusual or nonrecurring transactions or events.

D Analytical review is appropriate when plausible relationships among the data allow the auditor to
develop or identify reasonable expectations that may be compared with actual data. For example, such
relationships may include the ways in which operating expenses vary relative to each other. Analytical
review of these expenses does not require that they be related to revenue.

Question: 35 An inexperienced internal auditor notified the senior auditor of a significant variance
from the engagement client’s budget. The senior told the new internal auditor not to worry because the
senior had heard that there had been an unauthorized work stoppage that probably accounted for the
difference. Which of the following statements is most appropriate?

A. The new internal auditor should have investigated the matter fully and not bothered the senior.

B. The senior used proper judgment in curtailing what could have been a wasteful investigation.

C. The senior should have halted the engagement until the variance was fully explained.

D. The senior should have aided the new internal auditor in formulating a plan for accumulating
appropriate information.

Answer (D) is correct.

When analytical audit procedures identify unexpected results or relationships, the internal auditor
evaluates such results or relationships instead of obtaining information to explain the variance. The
senior allowed the identified variance to go unevaluated.

A An inexperienced internal auditor should refer this matter to the senior.

B The facts given do not support the conclusion that accumulating additional information would be
wasteful.

C The variance needs explanation, but the engagement should continue.

Question: 36 A small city managed its own pension fund. According to the city charter, investments
could be made only in bonds, money market funds, or high-quality stocks. The internal auditor has
already verified the existence of the pension fund’s assets. The fund balance was not very large and was
managed by the city’s CFO. The internal auditor decided to estimate income from investments of the
fund by multiplying the average fund balance by a weighted-average rate based on the current portfolio
mix. Upon doing so, the internal auditor found that recorded return was substantially less than was
expected. The internal auditor’s next procedure should be to

A. Inquire of the CFO as to the reason that income appears to be less than expected.

B. Prepare a more detailed estimate of income by consulting a dividend and reporting service that
lists the interest or dividends paid on specific stocks and bonds.

C. Inform management and the board that fraud is suspected and suggest that legal counsel be
called in to complete the investigation.
D. Select a sample of entries to the pension fund income account and trace to the cash journal to
determine if cash was received.

Answer (B) is correct.

When analytical audit procedures identify unexpected results or relationships, for example, when
pension fund assets are suspiciously low, the internal auditor evaluates such results or relationships.
Thus, before inquiring of client management, the auditor should obtain more detailed information
about the unexpected results or relationships.

A The internal auditor should refine the estimate further before discussing the matter with the CFO.
Even if the internal auditor has confidence in the first estimate, the suspicion of potential fraud should
lead the internal auditor to do further work, e.g., tracing the estimated income developed in the first
step to the cash receipts book before confronting the CFO.

C The internal auditor does not have sufficient information to justify the conclusion that fraud has
occurred.

D This procedure would provide information only about recorded income.

Question: 37 While testing the effectiveness of inventory controls, the internal auditor makes a note
in the workpapers that most of the cycle count adjustments for the facility involved transactions of the
machining department. The machining department also had generated an extraordinary number of
cycle count adjustments in comparison with other departments last year. The internal auditor should

A. Interview management and apply other engagement procedures to determine whether

transaction controls and procedures within the machining department are adequate.

B. Do no further work because the concern was not identified by the analytical procedures
included in the engagement work program.

C. Notify internal auditing management that fraud is suspected.

D. Place a note in the workpapers to review this matter in detail during the next engagement.

Answer (A) is correct.

When analytical audit procedures identify unexpected results or relationships, the internal auditor
evaluates such results or relationships. The auditor may ask management about the reasons for the
difference and would corroborate management’s explanation.

B The engagement work program is a guide that does not restrict the auditor from pursuing information
unknown at the time that the program was written.

C The facts do not yet support a conclusion that fraud has occurred.

D The risk of a material misstatement of inventory should be addressed promptly.

Question: 38 An internal auditor was evaluating the effectiveness and efficiency of the operation of
the motor pool. The engagement work program included the use of analytical procedures to observe the
trend of expenses for major overhauls of heavy-wheeled vehicles. This trend showed a substantial
increase in the last year of the ratios of monetary amounts spent in relation to (1) the number of
vehicles being used, (2) the mileage of the vehicles, (3) the age of the equipment, and (4) environmental
conditions. The auditor’s investigation indicated that two new maintenance firms were being used. The
expenditure packages from the maintenance work were complete; however, the billings for the work
had an unusual regularity. The identification of the vehicles being serviced did not correspond to the
vehicle maintenance reports. Possible engagement procedures include

1. Discussing the matter with the superintendent of maintenance and asking for an explanation
2. Preparing a schedule of the types of maintenance being performed and comparing it with
manufacturers’ maintenance guides
3. Analyzing vehicles’ trip tickets to determine if they contain indications of problems needing
attention
4. Reviewing deadline reports to determine that vehicles were not in service on the dates of
maintenance work
5. Reviewing dispatch schedules to determine whether vehicles were dispatched for use on days
the maintenance work was reported as performed
6. Discussing the matter with plant security

Which of the above actions should have the highest priority?

A. 1, 6, and 4.

B. 4, 5, and 6.

C. 6, 5, and 1.

D. 2, 3, and 4.

Answer (B) is correct.

When analytical procedures identify unexpected results or relationships, the internal auditor evaluates
such results or relationships. This evaluation includes determining whether the difference from
expectations could be a result of fraud, error, or a change in conditions. The auditor may ask
management about the reasons for the difference and would corroborate management’s explanation,
for example, by modifying expectations and recalculating the difference or by applying other audit
procedures. Substantial increases in maintenance cost ratios indicate a need for a more extensive
investigation. Items 4 and 5 could provide information regarding the status of vehicles. If discrepancies
are found, the appropriate authorities within the organization should be consulted.

A Discussing the matter with the superintendent could compromise the investigation if (s)he is engaged
in fraudulent activities or tells someone who is.
B Discussing the matter with the superintendent could compromise the investigation, and the days that
the vehicles were in use is irrelevant.

D Items 2 and 3, although potential indicators of fraud, do not provide conclusive information.

Fact Pattern: The internal auditor of a construction enterprise that builds foundations for
bridges and large buildings performed a review of the expense accounts for equipment (augers) used to
drill holes in rocks to set the foundation for the buildings. During the review, the internal auditor noted
that the expenses related to some of the auger accounts had increased dramatically during the year. The
internal auditor inquired of the construction manager who offered the explanation that the augers last 2
to 3 years and are expensed when purchased. Thus, the internal auditor should see a decrease in the
expense accounts for these augers in the next year but would expect an increase in the expenses of
other augers. The internal auditor also found out that the construction manager is responsible for the
inventorying and receiving of the augers and is a part owner of a business that supplies augers to the
organization. The supplier was approved by the president to improve the quality of equipment.

Question: 39 Assume the internal auditor did not find a satisfactory explanation for the results of the
analytical procedures performed and has conducted the appropriate follow-up procedures. The
engagement in this area is otherwise complete. Which of the following would be the most appropriate
action to take?

A. Note the actions and follow-up next year. Defer the reporting to management until a
satisfactory explanation can be obtained.

B. Expand engagement procedures by observing the receipt of all augers during a reasonable
period of time and trace the receipts to the appropriate accounts. Determine causes of any
discrepancies.

C. Report the observations, as they are, to management and recommend an investigation for
possible fraud.

D. Report the observations to the construction manager and insist that appropriate controls such
as independent receiving reports be implemented. Follow up to see if the controls are properly
implemented.

Answer (C) is correct.

When analytical audit procedures identify unexpected results or relationships, the internal auditor
evaluates such results or relationships. Unexplained results or relationships discovered by applying
analytical procedures may be an indication of a significant problem (e.g., a potential error, fraud, or
illegal act). Results or relationships that are not adequately explained may indicate a situation to be
communicated to senior management and the board. Depending on the circumstances, the internal
auditor may recommend appropriate action.
A The auditor has an ethical duty to report material facts that, if not disclosed, may distort the reporting
of activities under review (Rule of Conduct 2.3).

B The results should be reported to management. The suggested procedure is incomplete and not likely
to determine the causes of the problem.

D The results should be reported to other levels of management. The internal auditor has already noted
that the construction manager has a conflict of interest. Furthermore, the internal auditor cannot insist
that controls be implemented; (s)he can only recommend.

Question: 40 An internal auditor performs an analytical review by comparing the gross margins of
various divisional operations with those of other divisions and with the individual division’s performance
in previous years. The internal auditor notes a significant increase in the gross margin at one division.
The internal auditor does some preliminary investigation and also notes that no changes occurred in
products, production methods, or divisional management during the year. The most likely cause of the
increase in gross margin is a(n)

A. Increase in the number of competitors selling similar products.

B. Decrease in the number of suppliers of the material used in manufacturing the product.

C. Overstatement of year-end inventory.

D. Understatement of year-end accounts receivable.

Answer (C) is correct.

An overstatement of year-end inventory results in an increase in the gross margin (sales – cost of sales).
Overstating ending inventory understates cost of sales.

A An increase in the number of competitors most likely results in price competition and a decrease in
sales revenue and gross margin.

B A decrease in the number of suppliers most likely results in less price competition on the supply side,
with a consequent increase in costs and decrease in gross margin.

D An understatement of accounts receivable understates sales and the gross margin.

Question: 41 Which result of an analytical procedure suggests the existence of obsolete

merchandise?

A. Decrease in the inventory turnover rate.

B. Decrease in the ratio of gross profit to sales.

C. Decrease in the ratio of inventory to accounts payable.

D. Decrease in the ratio of inventory to accounts receivable.

Answer (A) is correct.

Inventory turnover is equal to cost of sales divided by average inventory. If inventory is increasing at a
faster rate than sales, the turnover rate decreases and suggests a buildup of unsalable inventory. The
ratios of gross profit to sales, inventory to accounts payable, and inventory to accounts receivable do
not necessarily change when obsolete merchandise is on hand.

B The ratio of gross profit to sales does not necessarily change when obsolete merchandise is on hand.

C The ratio of inventory to accounts payable does not necessarily change when obsolete merchandise is
on hand.

D The ratio of inventory to accounts receivable does not necessarily change when obsolete merchandise
is on hand.

Question: 42 An internal auditor decides to perform an inventory turnover analysis for both raw
materials inventory and finished goods inventory. The analysis would be potentially useful in

A. Identifying products for which management has not been attuned to changes in market
demand.

B. Identifying potential problems in purchasing activities.

C. Identifying obsolete inventory.

D. All of the answers are correct.

Answer (D) is correct.

Inventory turnover provides analytical information. It equals cost of sales divided by average inventory.
A low turnover ratio implies that inventory is excessive, for example, because the goods are obsolete or
because the organization has overestimated demand.

A An inventory turnover analysis may also indicate potential problems in purchasing activities and the
presence of obsolete inventory.

B An inventory turnover analysis may also indicate erroneous demand forecasts and the presence of
obsolete inventory.

C An inventory turnover analysis may also indicate potential problems in purchasing activities and
erroneous demand forecasts.

Question: 43 An internal auditor’s preliminary analysis of accounts receivable turnover revealed the
following rates:

Year 1 Year 2 Year 3

7.3 6.2 4.3

Which of the following is the most likely cause of the decrease in accounts receivable turnover?

A. Increase in the cash discount offered.

B. Liberalization of credit policy.

C. Shortening of due date terms.

D. Increased cash sales.

Answer (B) is correct.

The accounts receivable turnover ratio equals net credit sales divided by average accounts receivable.
Accounts receivable turnover will decrease if net credit sales decrease or average accounts receivable
increase. Liberalization of credit policy will increase receivables.

A An increase in cash sales that reduces credit sales as a result of an increased cash discount has an
indeterminate effect on the turnover ratio. Both the numerator and the denominator are decreased but
not necessarily by the same amount. An increase in cash sales not affecting credit sales has no effect on
the ratio.

C Shortening due dates decreases the average accounts receivable outstanding and increases the ratio if
other factors are held constant.

D Increased cash sales have an indeterminate effect on the turnover ratio.

Fact Pattern: A medium-sized municipality provides 8.5 billion gallons of water per year for
31,000 customers. The water meters are replaced at least every 5 years to ensure accurate billing. The
water department tracks unmetered water to identify water consumption that is not being billed. The
department recently issued the following water activity report:

Activity Month 1 Month 2 Month 3 Actual 1st Quarter 1st Quarter Goal
Meters Replaced 475 400 360 1,235 1,425
Leaks Reported 100 100 85 285
Leaks Repaired 100 100 85 285 100%
Unmetered Water 2% 6% 2% 4% 2%

Question: 44 Based on the activity reported for the meter replacement program, an internal auditor
would conclude that

A. Established operating standards are understood and are being met.

B. Any corrective action needed has probably been taken during the quarter.
C. Deviations from the goal should be analyzed and corrected.

D. Meters should be changed every 3 years.

Answer (C) is correct.

The goal has not been met and corrective action is needed. According to Performance Standard 2100,
internal auditors are involved in evaluating and improving the effectiveness of control processes using a
systematic and disciplined approach. Thus, internal auditors should determine the extent to which
results are consistent with goals. They also should determine the extent to which management has
established adequate criteria. If adequate, auditors should use these criteria in their evaluation.

A The actual number of meters replaced is less than the goal; therefore, the goal is not being met.

B Corrective action has apparently not been taken. Actual replacement did not meet the goal.

D This cannot be determined from the information given.

Fact Pattern: A medium-sized municipality provides 8.5 billion gallons of water per year for
31,000 customers. The water meters are replaced at least every 5 years to ensure accurate billing. The
water department tracks unmetered water to identify water consumption that is not being billed. The
department recently issued the following water activity report:

Activity Month 1 Month 2 Month 3 Actual 1st Quarter 1st Quarter Goal
Meters Replaced 475 400 360 1,235 1,425
Leaks Reported 100 100 85 285
Leaks Repaired 100 100 85 285 100%
Unmetered Water 2% 6% 2% 4% 2%
Question: 45 Based on the activity reported for the unmetered water, an internal auditor would
conclude that

A. Established operating standards are understood and are being met.

B. Further audit investigation of unmetered water is not warranted.

C. The deviation in Month 2 was probably not corrected.

D. The operating standard should be changed.

Answer (B) is correct.

Analytical auditing procedures assist internal auditors in identifying conditions, which may require
subsequent engagement procedures. Month 3 performance met the standard, so the deviation in
Month 2 was probably corrected, and further audit work is not warranted.
A The actual unmetered water percentage was greater than the goal; therefore, the goal was not met.

C The deviation in Month 2 was apparently corrected.

D No evidence indicates that the operating standard is inappropriate.

Question: 46 Assume an internal auditor computes an inventory turnover rate by product line and
identifies a number of product lines with a rate of less than 3.5. Which of the following conclusions can
be justified by these engagement results?

1. The identified product lines contain obsolete inventory.

2. Inventory is valued at more than net realizable value.
3. Inventory costs are too high because the organization is carrying obsolete inventory.

A. 1 and 3 only.

B. 2 only.

C. 1, 2, and 3.

D. None of the answers are correct.

Answer (D) is correct.

The inventory turnover rate equals cost of sales divided by average inventory. An inventory turnover
rate tells the internal auditor how many times the inventory has been sold during the period. However,
the rate cannot be interpreted without additional information. Thus, the internal auditor cannot
determine whether obsolete items are in inventory, inventory valuation is too high, or inventory costs
are too high.

A The inventory turnover rate must be compared with industry averages to determine whether it is
relatively high or low.

B The information provided by the inventory turnover rate is insufficient to conclude that inventory is
valued at more than net realizable value.

C More information is needed before conclusions can be drawn about obsolescence, valuation, or cost.

Question: 47 The following represents accounts receivable information for a corporation for a 3-year
period:

Year 1 Year 2 Year 3

Net accounts receivable as a

percentage of total assets 23.4% 27.3% 30.8%

Accounts receivable turnover ratio 6.98 6.05 5.21

All of the following are plausible explanations for these changes except

A. Fictitious sales may have been recorded.

B. Credit and collection procedures have become ineffective.

C. Allowance for bad debts is understated.

D. Sales returns for credit have been overstated.

Answer (D) is correct.

Overstated sales returns for credit is not a plausible answer. They would understate (not overstate) net
accounts receivable. This understatement would result in lower (not higher) net accounts receivable
balances as a percentage of total assets and higher (not lower) receivables turnover (sales ÷ average
accounts receivable).

A Fictitious sales is a plausible answer. They would generate additional uncollectible accounts receivable
that are not necessarily reflected in the allowance for bad debts. The result would be a lower turnover
ratio and a higher ratio of net receivables to total assets.

B Ineffective credit and collection procedures is a plausible answer. They could contribute to increases in
uncollectible accounts receivable that are not necessarily reflected in the allowance for bad debts. The
result would be a lower turnover ratio and a higher ratio of net receivables to total assets.

C An understated allowance for bad debts is a plausible answer. It would contribute to overstatement of
net accounts receivable as a percentage of total assets and decreases in receivables turnover.

Question: 48 The audit committee has expressed concern that the financial institution has been
taking on higher-risk loans in pursuit of short-term profit goals. Which of the following engagement
procedures provides the least amount of information to address this concern?

A. Perform an analytical review of interest income as a percentage of the investment portfolio in

comparison with a group of peer financial institutions.

B. Take a random sample of loans made during the period and compare the riskiness of the loans
with that of a random sample of loans made 2 years ago.

C. Perform an analytical review that involves developing a chart to compare interest income
plotted over the past 10 years.

D. Develop a multiple-regression time-series analysis of income over the past 5 years including
such factors as interest rate in the economy, size of loan portfolio, and dollar amount of new loans each
year.

Answer (C) is correct.

Plotting the changes in interest income over the past 10 years is the least useful procedure. It does not
consider other important factors, such as size of the portfolio, changes in interest rates, the
development of new financial instruments, the level of inflation, and government regulation.

A Higher-risk loans should generate higher short-term interest income compared with that earned by
comparable institutions. Higher-risk loans have higher yields.

B A historical comparison of loan risk for the institution addresses the engagement objective.

D Multiple regression explains the change in a dependent variable (interest income) attributable to two
or more independent variables. Thus, it allows the internal auditor to estimate how much of the change
might be due to a change in the riskiness of the loans.

Question: 49 The internal auditor wishes to assess the impact of advertising expense on sales of fall
merchandise. Which of the following is the most appropriate procedure?

A. Regression analysis of the advertising budget in relation to sales for the most recent fall quarter.

B. Examination of customer surveys for comments in relation to the new ad campaign.

C. Comparison of same-store sales for the most recent fall quarter and previous fall quarters.

D. Trend analysis of sales for the previous year.

Answer (C) is correct.

A comparison of like time periods would provide the best evidence of the impact of advertising on sales.

A Actual, not budgeted, advertising expenses are relevant in relation to sales figures.

B Customer surveys cannot be related directly to sales figures.

D A trend analysis for a single year would provide no basis for comparison of seasonal items.

Question: 50 Over the past 3 years, A+ auto dealership reported the following:

Year 1 Year 2 Year 3

Total sales US $1 million US $2 million US $3 million

Sales promotions or events 10 15 10

Sales associates 5 10 15

Total vehicles sold 35 50 60

Which of the following is (are) a justified conclusion(s)?

1. The average sale price per vehicle increased each year.

 2. Total sales are closely related to sales promotions or events for the year.
3. The number of sales associates is closely related to total sales for the year.

A. 1 only.

B. 1 and 2 only.

C. 3 only.

D. 1 and 3 only.

Answer (D) is correct.

Analytical procedures provide internal auditors with an efficient and effective means of assessing and
evaluating information collected in an engagement. The assessment results from comparing information
with expectations identified or developed by the internal auditor. Analytical procedures may include,
among other things, (1) comparison of current information with similar prior-period information, (2)
study of relationships of financial information with the appropriate nonfinancial information (for
example, recorded payroll expense compared with changes in average number of employees), or (3)
study of relationships among elements of information (for example, fluctuation in recorded interest
expense compared with changes in related debt balances). Analytical procedures may be performed
using monetary amounts, physical quantities, ratios, or percentages. The average sale price per vehicle
(rounded to US $100) is US $28,600 (US $1 million ÷ 35 vehicles) for Year 1, US $40,000 (US $2 million ÷
50 vehicles) for Year 2, and US $50,000 (US $3 million ÷ 60 vehicles) for Year 3. The number of sales
associates appears to be directly correlated with total annual sales. Each increase of five sales associates
corresponds to an increase of US $1 million in sales. But the sales promotions or events are not directly
correlated with sales according to the data presented.

A The number of sales associated also is closely correlated with total sales for the year.

B Total sales are not closely correlated with sales promotions or events for the year.

C The average sale price per vehicle increased each year.

Fact Pattern:

Jane Jackson had been the regional sales manager Below are selected analytical data from the
for an organization for over 10 years. During this organization that have led staff internal auditors to
time, she had become very close friends with Frank believe that there has been a financial statement
Hansen, an internal audit manager. In addition to fraud. The perpetrator appears to have falsified
being neighbors, Jane and Frank had many of the sales information for the past 2 years. Frank is
same interests and belonged to the same tennis concerned because he recently completed an
club. They trusted each other. Frank had helped engagement in the area and accepted Jane’s
Jane solve some sales problems, and Jane had explanation for differences in the analytical data.
given Frank some information that led to significant Frank is now certain that Jane is involved in the
engagement observations during the past three fraud.
engagements.
Current Last –2 –3 –4

Year Year Year Year Year

Percent increase in sales 10 8 6 4 5

Inventory turnover 5 4 5 3.5 4

Gross margin percentage 54 49 42 39 40

Percent change in sales returns 8 6 3 2.5 3

Question: 51 Which combination of the following analytical data provides the strongest indication of the
possibility of the fraud?

A. Percentage increase in sales and inventory turnover.

B. Gross margin percentage and change in sales returns.

C. Inventory turnover and change in sales returns.

D. Percentage increase in sales and gross margin percentage.

Answer (B) is correct.

Rapid increases in gross margin percentage are expected if sales are fictitious, that is, if sales are
recorded without shipments and a consequent increase in cost of sales. The large increase in returns is
also symptomatic of falsified sales.

A The increase in percentage change in sales is not unreasonable, and given the constant increase, one
might expect increases in inventory that could keep turnover constant.

C The turnover and return figures, when taken together, are not indications of sales overstatements.

D If the increase in sales was due to a market sales price increase, one might expect these results.
Fact Pattern:

Jane Jackson had been the regional sales manager for an Below are selected analytical data from the organization
organization for over 10 years. During this time, she had that have led staff internal auditors to believe that there
become very close friends with Frank Hansen, an internal has been a financial statement fraud. The perpetrator
audit manager. In addition to being neighbors, Jane and appears to have falsified sales information for the past
Frank had many of the same interests and belonged to the 2 years. Frank is concerned because he recently
same tennis club. They trusted each other. Frank had completed an engagement in the area and accepted
helped Jane solve some sales problems, and Jane had Jane’s explanation for differences in the analytical data.
given Frank some information that led to significant Frank is now certain that Jane is involved in the fraud.
engagement observations during the past three
engagements.
Current Last –2 –3 –4

Year Year Year Year Year

Percent increase in sales 10 8 6 4 5

Inventory turnover 5 4 5 3.5 4

Gross margin percentage 54 49 42 39 40

Percent change in sales returns 8 6 3 2.5 3

Question: 52 The current dilemma in which Frank finds himself was least likely caused by

A. Not rotating engagements every year.

B. Accepting an engagement in an area where he was a close personal friend of management.

C. Failing to select the appropriate analytical procedures.

D. Accepting the response of management without additional testing.

Answer (C) is correct.

The information given suggests that Frank applied the proper analytical procedures but accepted
management’s explanation of the findings.

A Failure to rotate engagements seems to have contributed to Frank’s decision to accept management’s
explanation for the analytical findings.

B Frank’s friendship with Jane impaired his objectivity.

D Frank’s acceptance of management’s explanations apparently resulted in his failure to obtain

sufficient information.

Question: 53 An unexpected decrease in which of the following ratios could indicate that fictitious
inventory has been recorded?

A. Average collection period.

B. Total asset turnover.

C. Price-earnings.

D. Current.

Answer (B) is correct.

The total asset turnover ratio equals sales divided by total assets. An increase in reported inventory will
increase total assets and decrease the ratio.

A The average collection period equals average receivables divided by average daily net sales. An
increase in reported inventory does not affect it.

C The price-earnings ratio (price per share ÷ EPS) is not directly affected by fictitious inventory.

D The current ratio (current assets ÷ current liabilities) is increased when fictitious inventory is recorded.

Question: 54 An internal auditor’s workpapers should support the observations, conclusions, and
recommendations to be communicated. One of the purposes of this requirement is to

A. Provide support for the internal audit activity’s financial budget.

B. Facilitate quality assurance reviews.

C. Provide control over workpapers.

D. Permit the audit committee to review observations, conclusions, and recommendations.

Answer (B) is correct.

As a means of developing internal audit staff, supervisory review of workpapers may be a basis for
assessing the internal audit activity’s quality assurance and improvement program. Thus, they facilitate
quality assurance reviews.

A Financial budgets are based on the planned scope of internal audit work.

C Control over workpapers is obtained by other means.

D Audit committees rarely review the full draft of a final engagement communication, much less the
supporting workpapers.

Question: 55 A workpaper is complete when it

A. Complies with the internal audit activity’s format requirements.

B. Contains all of the attributes of an observation.

C. Is clear, concise, and accurate.

D. Satisfies the engagement objective for which it is developed.

Answer (D) is correct.

Engagement workpapers, among other things, document whether engagement objectives were
achieved.

A Format requirements are superficial and indicate only that mechanical requirements have been met.
They do not relate to content.

B A workpaper may relate to only a part of an observation.

C Clarity, concision, and accuracy are desirable characteristics of workpaper content. These qualities
may be present although the workpaper is not complete.

Question: 56 The internal auditor prepares workpapers primarily for the benefit of

A. The external auditor.

B. The internal audit activity.

C. The engagement client.

D. Senior management.

Answer (B) is correct.

Internal auditors must document sufficient, reliable, relevant, and useful information to support the
engagement results and conclusions (Perf. Std. 2330). Thus, internal auditors prepare workpapers
primarily for the benefit of the internal audit activity.

A Benefits to the external auditor are secondary.

C Benefits to the engagement client are secondary.

D Benefits to senior management are secondary.

Question: 57 The primary purpose of an engagement workpaper prepared in connection with payroll
expense is to

A. Record payroll data and analyses to support reported recommendations.

B. Verify the work done by the internal auditor.

C. Record the names of all employees.

D. Provide documentation to support payroll taxes due.

Answer (A) is correct.

Workpapers should be sufficient and relevant to the objectives, observations, conclusions, and
recommendations, making it useful to the organization. Thus, the primary purpose of an engagement
workpaper prepared in connection with payroll expense is to record payroll data and analyses to
support reported recommendations.

B Verification of work done is a secondary purpose.

C A list of employee names is but one part of the information required to support observations,
conclusions, and recommendations.

D Payroll expense, not payroll tax, is the subject of this workpaper.

Question: 58 Standardized workpapers are often used, chiefly because they allow workpapers to be
prepared more

A. Efficiently.

B. Professionally.

C. Neatly.

D. Accurately.

Answer (A) is correct.

Standardized engagement workpapers improve the efficiency and consistency of the engagement
process.

B Standard forms do not necessarily result in greater professionalism.

C Standard forms clearly reduce time spent in workpaper preparation but do not necessarily result in
greater neatness.

D Standard forms do not necessarily result in greater accuracy.

Question: 59 When performing an engagement to evaluate the computerized purchasing activities of

a manufacturing organization, which of the following should be included in the permanent file portion of
the engagement workpapers?

A. Copies of the computer program documentation.

B. Printouts using internal auditor-prepared programs and test data.

C. Prior year’s workpapers revised to reflect changes during the current year.

D. Information concerning administrative controls over the computer operations at each location.

Answer (D) is correct.

The permanent section of the workpapers should contain the information necessary for continuing
engagements. Administrative controls over the computer operations of each location, which are not
likely to change from year to year, are appropriately included in the permanent section of the
workpapers.

A Program documentation is likely to change each year and will require reevaluation during each
engagement.

B Auditor-prepared programs and test data are likely to change each year and will require reevaluation
for each engagement.

C Prior year’s workpapers revised to reflect changes in the current year pertain to the current year’s
engagement. Thus, they should be contained in the current section of the workpapers.

Question: 60 Engagement workpapers are indexed by means of reference numbers. The primary
purpose of indexing is to

A. Permit cross-referencing and simplify supervisory review.

B. Support the final engagement communication.

C. Eliminate the need for follow-up reviews.

D. Determine that workpapers adequately support observations, conclusions, and

recommendations.

Answer (A) is correct.

Indexing permits cross-referencing. It is important because it simplifies supervisory review either during
the engagement or subsequently by creating a trail of related items through the workpapers. It thus
facilitates preparation of final engagement communications, later engagements for the same
engagement client, and internal and external assessments of the internal audit activity.

B The workpapers as a whole should support the final engagement communication.

C Follow-up is necessitated by engagement client conditions, not the state of workpapers.

D The purpose of supervisory review of workpapers is to determine that workpapers adequately support
observations, conclusions, and recommendations.

Question: 61 Which of the following conditions constitutes inappropriate preparation of workpapers?

A. All forms and directives used by the engagement client are included in the workpapers.

B. Flowcharts are included in the workpapers.

C. Engagement observations are cross-referenced to supporting documentation.

D. Tick marks are explained in notes.

Answer (A) is correct.

Performance Standard 2330 states that internal auditors must document sufficient, reliable, relevant,
and useful information to support the engagement results and conclusions. Thus, workpapers should be
confined to information that is material and relevant to the engagement and the observations,
conclusions, and recommendations. Thus, forms and directives used by the engagement client should be
included only to the extent they support the observations, conclusions, and recommendations and are
consistent with engagement objectives.

B A graphic representation of the engagement client’s controls, document flows, and other activities is
often vital for understanding operations and is therefore a necessary part of the documentation.

C Cross-referencing is essential to the orderly arrangement and understanding of workpapers and

reduces duplication.

D Tick marks are verification symbols that should be standard throughout the engagement. They should
be described in a note.

Question: 62 Which type of workpaper summary is typically used to consolidate numerical data
scattered among several schedules?

A. Statistical summaries.

B. Segment summaries.

C. Results summaries.

D. Pyramid summaries.

Answer (A) is correct.

Summarization of facts in the workpapers is a means of emphasizing important information, establishing

perspective, providing an overview, aiding memory, training staff, facilitating supervisory review, and
controlling engagements. By the use of indexing and cross-referencing, summaries may be used to
relate different workpapers that concern a given point. A statistical summary condenses the related
numerical information from engagement work programs.

B A segment summary is a narrative with respect to a particular part of the engagement. It should
appear at the beginning of each section of the workpapers, which should be organized logically
according to the different objectives of the engagement.

C A results summary provides the significant facts about engagement observations.

D The term “pyramid summaries” is not meaningful in this context.

Fact Pattern:
XYZ Legend:
Bank Reconciliation
(a) Confirmed with bank -- see confirmation on W/P A-4.
June 30, Year 1
(b)Verified by tracing to July 15 cutoff statement; traced to cash
(Amounts in currency units)
receipts journal.
Balance per bank (a) 16,482.97
Deposits in transit (b)
(c) Okay.
6/29 2,561.14
6/30 1,572.28 4,133.42
(d)Examined supporting documentation and traced to final disposition.
Subtotal 20,616.39
Outstanding checks (e) Footed total and compared with balance in general ledger.
(c)
248 842.11
952 2,000.00
968 571.00
969 459.82
970 714.25 (4,587.18)
Subtotal 16,029.21
Bank service charge 12.50
NSF check returned 350.00
(d)
Error on check #954 (14.00)
Balance per books (e) To T/B16,377.71

Question: 63 A deficiency in this workpaper is that

A. A standardized cash reconciliation workpaper was not used.

B. All verification symbols were not properly explained.

C. Analytical review procedures were not performed.

D. Cross-referencing of workpapers was not accomplished.

Answer (B) is correct.

Each engagement workpaper should contain a heading, which usually consists of the name of the
client’s organization or function, a title or description of the contents or purpose of the paper, and the
date or period covered. Each workpaper should be signed (initialed) and dated by the internal auditor
and contain an index or reference number. Verification symbols (tick marks) are also likely to appear on
most workpapers and should be adequately explained in a note. In this example, the explanation for tick
mark (c) does not detail the procedures used to review outstanding checks.

A Efficiency can be achieved through standardization; however, not every workpaper can be
standardized. This workpaper may be subject to standardization but is not inadequate in that respect.

C Analytical procedures are usually not as relevant to the examination of cash as to other assets and
liabilities.
D Cross-referencing was accomplished.

Question: 64 Which of the following concepts distinguishes the retention of computerized audit
documentation from the traditional hard copy form?

A. Analyses, conclusions, and recommendations are filed on electronic media and are therefore
subject to computer system controls and security procedures.

B. Evidential support for all findings is copied and provided to local management during the closing
conference and to each person receiving the final report.

C. Computerized data files can be used in computer audit procedures.

D. Audit programs can be standardized to eliminate the need for a preliminary survey at each
location.

Answer (A) is correct.

The only difference between the computerized audit documentation and hard copy form is how the
workpapers are stored. Electronic audit documentation is saved either on disks or hard drive, whereas
hard copy is stored in a file cabinet. Unlike computerized audit documentation, hard copies are not
subject to computer controls and security procedures.

B Evidential support would be retained and provided on the basis of the nature of the finding and not
the media used for storing audit documentation.

C his capability is not an exclusive function of computerized audit documentation.

D Though the nature of the preliminary survey may change in some cases, the requirement for this
phase of the audit is not eliminated by computerized audit documentation.

Question: 65 Which of the following actions constitutes a violation of the confidentiality concept
regarding workpapers? An internal auditor

A. Takes workpapers to his or her hotel room overnight.

B. Shows workpapers on occasion to engagement clients.

C. Allows the external auditor to copy workpapers.

D. Misplaces workpapers occasionally.

Answer (D) is correct.

The internal audit activity controls engagement workpapers and provides access to authorized
personnel only. By misplacing workpapers occasionally, the internal auditor is thus violating the
confidentiality concept.
A Continuous physical control of workpapers during fieldwork may be appropriate.

B Engagement clients may be shown workpapers with the CAE’s approval.

C Internal and external auditors commonly grant access to each others’ work programs and workpapers.

Question: 66 Workpapers contain a record of engagement work performed and much confidential
information. They are the property of the organization and remain under control of the internal audit
activity, which is responsible for their security. Which of the following is the most important control
requirement for workpapers?

A. Allow access to workpapers only to internal audit activity personnel.

B. Provide for the protection of workpapers at all times and to the extent appropriate.

C. Make the administrative section of the internal audit activity responsible for the security of
workpapers.

D. Purge workpapers periodically of materials that are considered confidential.

Answer (B) is correct.

Workpapers should always be properly protected. During the field work, they should be in the internal
auditor’s physical possession or control or otherwise protected against fire, theft, or other disaster. For
example, the internal auditor may use the engagement client’s safe or other security facilities. In the
internal auditing office, they should be kept in locked files and should be formally signed out when
removed from the files. When others (government auditors, the external audit firm, etc.) review the
workpapers, the reviews should take place in the internal auditing office. Secure files should be provided
for long-term storage, and itemized records of their location should be maintained. When electronic
workpapers are placed online, computer system security measures should be similar to those used for
other highly sensitive information of the organization.

A Workpapers may be shown to engagement clients or others if engagement objectives will not be
compromised.

C This arrangement is awkward for workpapers needed at the engagement site.

D Lack of relevance to future needs, not confidentiality, is the criterion for destruction of workpapers.

Question: 67 A fire destroyed a large portion of an organization’s inventory. Management is filing an

insurance claim and needs to use the internal auditors’ workpapers in preparing the claim. Management

A. May not use the workpapers in preparing the claim.

B. May use the workpapers in preparing the claim, but such use should be approved by the chief
audit executive.
C. Should be precluded from preparing the claim, and this function should be performed by the
internal audit activity.

D. May use the workpapers in preparing the claim, but such use should be approved by the
organization’s external auditors.

Answer (B) is correct.

One potential use of engagement workpapers is to provide support in the organization’s pursuit of
insurance claims, fraud cases, and lawsuits. In such cases, management and other members of the
organization may request access to engagement workpapers. This access may be necessary to
substantiate or explain engagement observations and recommendations or to use engagement
documentation for other business purposes. The CAE should approve these requests. Accordingly, the
insurance claim is an “other business purpose,” and management may use the internal auditors’
workpapers in preparing the claim.

A Workpapers may be used for “other business purposes.”

C Management, not the internal audit activity, should prepare the insurance claim.

D The approval of external auditors is not needed.

Question: 68 The internal auditor is most likely to make workpapers available to the engagement
client when

A. Fraud is suspected.

B. The internal auditors have recorded specific damaging comments.

C. The internal auditor considers the content noncontroversial.

D. Engagement client comments are needed to evaluate significance and accuracy.

Answer (D) is correct.

When the engagement objectives will not be compromised, the internal auditor may show all or part of
the workpapers to the auditee (engagement client). For instance, the results of certain engagement
procedures may be shared to encourage corrective action. Thus, workpapers as well as drafts of
engagement communications may be reviewed with auditees to verify their accuracy, completeness,
and significance. But complete disclosure may permit circumvention of the internal auditors’
procedures, and workpapers should never be shared with auditees in fraud investigations.

A Workpapers are never shown to auditees when their involvement in fraud is suspected.
B The workpapers usually should not be shown to auditees when internal auditor-auditee relations
might thereby be damaged or the engagement objectives compromised.

C Access to noncontroversial matter may nevertheless permit circumvention of engagement

procedures.

Question: 69 Workpapers should be disposed of when they are of no further use. Retention policies
must

A. Specify a minimum retention period of 3 years.

B. Be prepared by the audit committee.

C. Be approved by legal counsel.

D. Be approved by the external auditor.

Answer (C) is correct.

The chief audit executive must develop retention requirements for engagement records, regardless of
the medium in which each record is stored. These retention requirements must be consistent with the
organization’s guidelines and any pertinent regulatory or other requirements (Impl. Std. 2330.A2). Thus,
approval by the organization’s legal counsel is appropriate.

A Workpapers should not be retained for an arbitrary period. The duration of retention is a function of
usefulness, including legal considerations.

B The CAE must develop retention policies.

C Retention policies need not be approved by the external auditor.

Question: 70 When current-file workpapers are no longer of use to the internal audit activity, they
should be

A. Destroyed.

B. Placed in the custody of the organizational legal department for safekeeping.

C. Transferred to the permanent file.

D. Transferred to the custody of the engagement client for ease of future records.

Answer (A) is correct.

Workpapers should be destroyed after they have served their purpose. Any parts having continuing
value should be brought forward to current workpapers or to the permanent file.

B If workpapers are useful, they should be controlled by the internal auditors.

C Useless workpapers should be destroyed.

D Engagement clients should not have custody of confidential papers.

Question: 71 The best description of the principal purpose for retaining workpapers is to

A. Help perform the engagement in an orderly fashion.

B. Maintain the engagement work program for reuse in the next engagement.

C. Provide support for the final engagement communication.

D. Provide a basis for supervisory review.

Answer (C) is correct.

Engagement workpapers provide the principal support for the engagement results. They should be
retained after the final engagement communication has been issued for a time that is consistent with
organizational guidelines and any pertinent regulatory or other requirements.

A An important but secondary purpose of workpaper retention is orderly performance of engagements.

B An important but secondary purpose of workpaper retention is the reuse of work programs.

D An important but secondary purpose of workpaper retention is supervisory review.

Question: 72 Engagement workpapers are reviewed to ensure that

A. They are properly cross-referenced to the engagement communications.

B. No issues are open at the conclusion of the field work.

C. They meet or exceed the work standards of the organization’s external auditors.

D. They are properly referenced for easy follow-up within the next year.

Answer (B) is correct.

All engagement workpapers are reviewed to ensure they support engagement communications and
necessary audit procedures are performed.

A Cross-referencing workpapers to the engagement communications is not specifically addressed.

C Whether workpapers meet or exceed the work standards of the external auditors is not specifically
addressed.

D Proper referencing of workpapers for easy follow-up within the next year is not specifically addressed.
Question: 73 During the workpaper review, an internal auditing supervisor finds that the internal
auditor’s observations are not adequately cross-referenced to supporting documentation. The
supervisor will most likely instruct the internal auditor to

A. Prepare a workpaper to indicate that the full scope of the engagement was carried out.

B. Familiarize himself or herself with the sequence of workpapers so that (s)he will be able to
answer questions about the conclusions stated in the final engagement communication.

C. Eliminate any cross-references to other workpapers because the system is unclear.

D. Provide a cross-referencing system that shows the relationship among observations,

conclusions, recommendations, and the related facts.

Answer (D) is correct.

Cross-referencing is important because it simplifies review either during the engagement or

subsequently by creating a trail of related items through the workpapers. It thus facilitates preparation
of the final engagement communication and later engagements for the same engagement client.

A A full set of properly indexed and cross-referenced workpapers, not a separate analysis, is necessary.

B Proper cross-referencing avoids the need to memorize the locations of supporting information.

C Cross-references should be added, not deleted.

Question: 74 Which of the following represents appropriate evidence of supervisory review of

engagement workpapers?

1. A supervisor’s initials on each workpaper.

2. An engagement workpaper review checklist.
3. A memorandum specifying the nature, extent, and results of the supervisory review of
workpapers.
4. Performance appraisals that assess the quality of workpapers prepared by auditors.

A. 2 and 4 only.

B. 1, 2, and 3 only.

C. 1, 3, and 4 only.

D. 1, 2, 3, and 4.

Answer (B) is correct.

A supervisor’s initials, an engagement workpaper review checklist, and a memorandum describing the
review are appropriate. Also, performance appraisals that mention workpaper quality are appropriate in
the evaluation of individual auditors, but they do not represent sufficient evidence of review for
engagement workpapers.

A A supervisor’s initials and a memorandum describing the review are appropriate. Also, performance
appraisals that mention workpaper quality are appropriate in the evaluation of individual auditors, but
they do not represent sufficient evidence of review for engagement workpapers.

C An engagement workpaper review checklist is appropriate. Also, performance appraisals that mention
workpaper quality are appropriate in the evaluation of individual auditors, but they do not represent
sufficient evidence of review for engagement workpapers.

D Performance appraisals that mention workpaper quality are appropriate in the evaluation of
individual auditors, but they do not represent sufficient evidence of review for engagement workpapers.

Question: 75 An internal auditing manager is reviewing the engagement workpapers prepared by the
staff. Which of the following review comments is true?

A. Each workpaper should include the actual and the budgeted times related to such engagement
work.

B. Including copies of all the forms and directives of the engagement client constitutes over-
documentation.

C. Conclusions need not be documented in the workpapers when the engagement objectives are
achieved.

D. Each workpaper should include a statement regarding the engagement client’s cooperation.

Answer (B) is correct.

All engagement workpapers are reviewed to ensure they support engagement communications and
necessary audit procedures are performed. However, adequate support includes only those forms and
directives that are relevant to the engagement or to the observations, conclusions, and
recommendations. Thus, including copies of all the forms and directives of the client constitutes over-
documentation.

A Actual and budgeted times are documented in the budget section of the workpapers and not on each
workpaper.

C Conclusions should be documented in the workpapers whether or not the engagement objectives are
achieved.

D Only noncooperation is likely to be documented.

Question: 76 When reviewing engagement workpapers, the primary responsibility of an engagement
supervisor is to determine that

A. Each worksheet is properly identified with a descriptive heading.

B. Workpapers are properly referenced and kept in logical groupings.

C. Standard internal audit activity procedures are adhered to with regard to workpaper
preparation and technique.

D. Workpapers adequately support the engagement observations, conclusions, and

recommendations.

Answer (D) is correct.

All engagement workpapers are reviewed to ensure they support engagement communications and
necessary audit procedures are performed.

A Descriptive headings are not of primary importance.

B Proper referencing and logical groupings are not of primary importance.

C Adherence to procedures is not of primary importance.

Question: 77 “Except for the missing documentation noted above, the system of internal controls
over petty cash is functioning as intended.” The preceding statement is an example of a(n)

A. Observation.

B. Objective.

C. Conclusion.

D. Finding.

Answer (C) is correct.

A conclusion or opinion is the auditor’s interpretation of the results of the engagement. It allows the
reader to understand the meaning of what the auditor discovered.

A A finding (observation) is a relevant statement of fact about the results of an internal audit without
interpretation or commentary.

B The IIA Glossary defines engagement objectives as broad statements developed by internal auditors
that define intended engagement accomplishments.
D A finding (observation) is an objective statement of fact about the results of an internal audit without
interpretation or commentary.

Question: 78 Which two terms are often used interchangeably?

A. “Conclusion” and “opinion.”

B. “Finding” and “conclusion.”

C. “Finding” and “opinion.”

D. “Opinion” and “observation.”

Answer (A) is correct.

Conclusions or opinions are the internal auditor’s evaluations of the effects of the observations and
recommendations on the activities reviewed. They usually put the observations and recommendations
in perspective based upon their overall implications. To some extent, the terms are interchangeable.

B “Finding” is a synonym for “observation.” “Conclusion” is a synonym for “opinion.”

C “Finding” is a synonym for “observation.” “Opinion” is a synonym for “conclusion.”

D “Opinion” is a synonym for “conclusion.” “Observation” is a synonym for “finding.”

Question: 79 “Three of six petty cash funds examined failed to contain either the correct amount of
funds or sufficient documentation in lieu of funds, a 50% noncompliance rate.” The above statement is
an example of a(n)

A. Observation.

B. Opinion.

C. Conclusion.

D. Recommendation.

Answer (A) is correct.

A finding or observation is a relevant statement of fact about the results of an internal audit without
interpretation or commentary.

B A conclusion or opinion is the auditor’s interpretation of the results of an internal audit.

C A conclusion or opinion is the auditor’s interpretation of the results of an internal audit.

D A recommendation is a description of actions that the auditor believes the auditee should undertake
to remedy the negative observations made in the course of the engagement.
Question: 80 The single most important factor in drawing a useful conclusion or stating a useful
opinion in an engagement report is

A. Use of statistical sampling techniques.

B. Senior management interest in the engagement outcome.

C. Auditee management assurances.

D. Auditor judgment.

Answer (D) is correct.

Auditor judgment is the essential element in moving from a finding/observation to a conclusion or

opinion. No formula can tell an auditor whether a certain exception rate is indicative of a working or
failing control.

A Statistical sampling allows the auditor to state the results of the engagement with a certain level of
confidence, but it is not a substitute for auditor judgment.

B The level of interest of senior management in the engagement must not affect the auditor’s judgment
in drawing conclusions and stating opinions.

C Assurances provided by auditee management are among many factors used by internal auditors as
input into forming findings/observations and the resulting conclusions/opinions.

Question: 81 An internal auditor interviewed client personnel and obtained an understanding of the
auditee department’s operations. The auditor then performed testwork. The auditor’s presentation of
the results of the testwork will usually take the form of a

A. Finding.

B. Conclusion.

C. Recommendation.

D. Meeting with senior management.

Answer (A) is correct.

A finding (observation) is a relevant statement of fact about the results of audit testwork without
interpretation or commentary.

B A conclusion or opinion can only be drawn once the results of the engagement have taken the form of
a finding or observation.

C A recommendation can only be prepared once a finding/observation has been formulated and a
conclusion or opinion has been stated.
D Unless the auditor has found evidence of fraud or a control deficiency that requires immediate
correction, meeting with senior management is not the appropriate next step.

Fact Pattern: A medium-sized municipality provides 8.5 billion gallons of water per year for 31,000
customers. The water meters are replaced at least every 5 years to ensure accurate billing. The water
department tracks unmetered water to identify water consumption that is not being billed. The department
recently issued the following water activity report:

Month Month Month Actual 1st Quarter

Activity 1 2 3 1st Quarter Goal

Meters replaced 475 400 360 1,235 1,425

Leaks reported 100 100 85 285

Leaks repaired 100 100 85 285 100%

Unmetered water 2% 6% 2% 4% 2%

Question: 82 Based on the activity reported for leaks repaired in the first quarter, an internal auditor
would conclude that

A. Established operating standards are understood and are being met.

B. Deviations from the goal should be analyzed and corrective action should be taken.

C. The operating standard should be changed.

D. The leak-repair program is overstaffed.

Answer (A) is correct.

Every leak reported during the quarter was repaired. The auditor can thus conclude that established
operating standards are understood and are being met.

B There were no deviations from the goal. Every leak reported during the quarter was repaired.

C Every leak reported during the quarter was repaired. Current resources are sufficient to achieve the
established goal. Therefore, no change to the operating standard is required.

D Staffing information is not provided.

Question: 83 An internal audit staffer has just completed an assessment of the engagement client’s
operating and financial controls. The auditor’s preliminary conclusion is that controls are adequately
designed to achieve management’s operating and financial objectives. The auditor’s next step is to

A. Present his or her findings to the chief audit executive.

B. Prepare a preliminary report on internal controls for presentation to the board.

C. Report his or her results to the auditor in charge.

D. Prepare a plan for testing internal controls.

Answer (C) is correct.

The auditor in charge of the engagement is responsible for coordinating the results of audit work and
ensuring that work performed supports conclusions and opinions. For this reason, internal audit staff
must report the results of audit work to the auditor in charge.

A The internal audit staffer presents his or her results to the auditor in charge of the engagement, not to
the chief audit executive.

B Preliminary results are not sufficient for the preparation of a report. Also, the internal audit staffer
presents his or her results to the auditor in charge of the engagement, not to the board.

D The auditor in charge must determine whether it is appropriate to proceed with testing controls after
reviewing the internal audit staffer’s results.

Question: 84 During an examination of a time-and-attendance system, an internal auditor

determined that control over the time card system was excellent, all employees recorded their vacation
time on weekly time cards, and each time card was properly reviewed and signed by a plant supervisor.
The auditor also discovered one worker with no vacation time recorded on any time card for the period
audited. Which of the following is reasonable for the auditor to conclude?

A. There was an error in the time cards for the one employee.

B. There were errors in the time cards for other employees.

C. Organizational policy required plant workers to take vacation time each year.

D. The one employee took no time off for vacation during the period audited.

Answer (D) is correct.

After performing procedures, the internal auditor applies experience, logic, and professional skepticism
to analyzing and evaluating the evidence obtained (findings). The internal auditor then draws
conclusions. The evidence is that (1) control over the time card system was excellent, (2) all employees
recorded their vacation time on weekly time cards, and (3) each time card was properly reviewed and
signed by a plant supervisor. Evidence of excellent controls means the controls over the time card
system are effectively managing related risks. Evidence that all employees recorded their vacation time
means any employee who took vacation time recorded it on his or her time card. Evidence that each
time card was properly reviewed and signed by a plant supervisor means the information on each time
card was verified. Based on all the evidence, the reasonable conclusion when one employee does not
record any vacation time during the period audited is that the employee did not take any vacation time
during the period audited.

A An error may have occurred, but the evidence suggests that the one employee took no time off.

B No evidence suggests that any errors occurred.

C Although the organization may have a policy that requires plant workers to take vacation time, no
evidence suggests the existence of a required vacation policy.

Question: 85 Internal auditing is conducting an assurance audit of a regional office. An internal audit
team does not suspect fraud, but it has found the following significant gaps in controls that could create
opportunities for fraud:

 The same individual is allowed to send invoices and receive payments.

 Recordkeeping is lax.
 Some documentation of expenses is missing, but the internal auditor was able to obtain
documentation from vendors.
 Some furniture is missing. It may have been stolen or discarded. The audit team has completed
a report listing the various issues, explaining the potential for loss and fraud that these issues
have created, and citing the organization’s policies and procedures. Management of the office
responds to the report in an e-mail stating that (1) the recommendations are unwarranted, (2)
the report questions the honesty of loyal employees, and (3) implementation of the
recommendations would be an unnecessary waste of time. However, to satisfy concerns about
invoicing and billing, the manager promises to review the paperwork weekly.

Which of the following best characterizes the nature of these findings?

A. The findings do not describe conditions that could result in serious loss but are primarily
procedural.

B. The findings are significant because they are control weaknesses that could indicate further
problems.

C. The findings represent significant violations of the organization’s policy.

D. The findings are not significant because no allegations of fraud are made.

Answer (B) is correct.

The findings are significant because they involve control weaknesses. For example, allowing one
individual to bill customers) and receive payment is a violation of the segregation of the duties of
recording (e.g., preparation of invoices sent to customers) and asset custody (e.g., receipt of payments).
The lack of precision in record keeping also may be creating opportunities for fraud, even though none
may have occurred.

A The findings describe conditions that could result in a serious loss.

C The findings are not necessarily violations of policy.

D Even though no allegations of fraud have been made, the findings are significant.

Question: 86 The consumer products division of a large corporation has recently adopted a training
program for its sales staff. The internal auditor has determined that one-half of the sales force has
received the training. In the 6-month period following introduction of the training program, productivity
increased 4% on a per-salesperson basis for those who had received the training. The soundest
conclusion the auditor can reach based on these findings is that

A. The time spent on training has not been justified by the increase in productivity.

B. The training program is a success so far.

C. More information is needed before the success of the training program can be assessed.

D. The remaining members of the sales force should receive training as soon as feasible.

Answer (C) is correct.

No evidence is given that the auditor has determined the goals of the training program. Without a
standard for measuring progress, the auditor cannot determine whether the program is effective.

A The goals of the training program are not stated. Without this information, the auditor cannot
determine whether the program is effective.

B The goals of the training program are not stated. Whether the program is effective cannot be known
without a standard of achievements.

Before taking further action, the company should evaluate D the training program.

Question: 87 Which of the following activities does not constitute engagement supervision?

A. Preparing a preliminary engagement work program.

B. Providing appropriate instructions to the internal auditors.

C. Reviewing engagement workpapers.

D. Ensuring that engagement communications meet appropriate criteria.

Answer (A) is correct.

Preparing a preliminary engagement work program is part of engagement planning, not an aspect of
engagement supervision.

B Providing appropriate instructions to the internal auditors is an aspect of engagement supervision.

C Reviewing engagement workpapers is an aspect of engagement supervision.

D Ensuring that engagement objectives are achieved is an aspect of engagement supervision.

Question: 88 Supervision of an internal audit engagement should include

A. Determining that engagement workpapers adequately support the engagement observations.

B. Assigning staff members to the particular engagement.

C. Determining the scope of the engagement.

D. Appraising each internal auditor’s performance on at least an annual basis.

Answer (A) is correct.

Among other things, supervision includes ensuring that (1) the approved engagement work program is
completed unless changes are justified and authorized, and (2) workpapers adequately support
engagement observations, conclusions, and recommendations.

B Engagement resource allocation is a planning function, not a supervisory function.

C Determining the engagement scope is a planning function, not a supervisory function.

D Appraising performance on an annual basis is not a supervisory function of a specific engagement but
is part of the management of the human resources of the internal audit activity.

Question: 89 Which of the following best describes engagement supervision?

A. The manager of each engagement has the ultimate responsibility for supervision.

B. Supervision is primarily exercised at the final review stage of an engagement to ensure the
accuracy of the engagement communications.

C. Supervision is most important in the planning phase of the engagement to ensure appropriate
coverage.

D. Supervision is a continuing process beginning with planning and ending with the conclusion of
the engagement.

Answer (D) is correct.

The CAE (or designee) provides appropriate engagement supervision. Supervision is a process that
begins with planning and continues throughout the engagement.

A The CAE has the ultimate responsibility for supervision.

B Supervision begins with planning and continues throughout the engagement.

C Supervision is equally important in all phases of the engagement.

Question: 90 When engagements are performed for the internal audit activity by nonstaff members,
the chief audit executive is responsible for

A. Ensuring that the engagement communications are objective, clear, and timely.

B. Reviewing the engagement work programs for approval.

C. Providing appropriate supervision from the beginning to the conclusion of the engagement.

D. None of the engagement work performed by those outside the department.

Answer (C) is correct.

The CAE has overall responsibility for supervising the engagement, whether performed by or for the
internal audit activity (Inter. Std. 2340). Supervision is a process that begins with planning and continues
throughout the engagement.

A Ensuring the quality of engagement communications is only one facet of supervision for which the CAE
has ultimate, although perhaps not immediate, responsibility.

B Approval of the engagement work program prior to the commencement of work by the CAE or a
designee is only one facet of supervision for which the CAE has ultimate, although perhaps not
immediate, responsibility.

D The CAE is responsible for all work performed by or for the internal audit activity.

Question: 91 Of the many tools available to assist an internal auditing supervisor, which of the
following is of least assistance in the supervision of a specific engagement?

A. Assignment board.

B. Time budget.

C. Weekly status report.

D. Time report.

Answer (A) is correct.

An assignment board is a cork board that uses assignment slips and numbered tack heads to display the
scheduled engagements weekly for up to a year. It provides an overview of which staff members are
working on each project and is therefore of minimal assistance in the actual supervision of a specific
engagement.

B A time budget is a tool for supervising a specific engagement.

C A weekly status report is a tool for supervising a specific engagement.

D A time report is a tool for supervising a specific engagement.

Question: 92 The engagement team leader is least likely to have a primary role in

A. Allocating budgeted engagement hours among assigned staff.

B. Updating the permanent files.

C. Reviewing the workpapers.

D. Preparing the critique sheet for the engagement.

Answer (B) is correct.

The engagement team leader (sometimes called a senior) is responsible for planning the engagement,
coordinating the staff, and supervising the work. Updating the permanent files is a task most likely
performed by the staff.

A Allocating budgeted engagement hours among assigned staff is a planning task.

C Reviewing the workpapers is a supervisory activity.

D Preparing the critique sheet for the engagement is also a supervisory activity performed by the
engagement team leader.

Question: 93 The best control over the work on which internal auditors’ opinions are based is

A. Supervisory review of all engagement work.

B. Preparation of time budgets for internal audit activities.

C. Preparation of engagement workpapers.

D. Staffing of internal audit activities.

Answer (A) is correct.

The engagement must be properly supervised to ensure objectives are achieved, quality is ensured, and
staff is developed (Perf. Std. 2340). Supervision includes (1) ensuring the auditors possess the requisite
knowledge, skills, and other competencies; (2) providing appropriate instructions during planning and
approving the engagement program; (3) ensuring the approved engagement program is complete unless
changes are justified and authorized; (4) determining workpapers adequately support observations,
conclusions, and recommendations; (5) ensuring communications are accurate, objective, clear, concise,
constructive, and timely; (6) ensuring objectives are met; and (7) providing opportunities for developing
internal auditors’ knowledge, skills, and other competencies. Thus, supervision is a control that applies
to all aspects of engagements.

B Although useful, time budgets do not ensure the adequacy of work.

C Workpapers support the conclusions and engagement results, but supervision is necessary to ensure
the adequacy of work.

D Proper staffing is required, but supervision is essential to ensure the adequacy of work.

Question: 94 The chief audit executive is responsible for engagement supervision. The most
important form of supervision during the field work phase of engagements involves

A. Ensuring that the approved engagement work program is completed unless changes are justified
and authorized.

B. Providing suitable instructions to subordinates at the outset of the engagement and approving
the engagement work program.

C. Appraising each internal auditor’s performance at least annually.

D. Making sure that communications are accurate, objective, clear, concise, constructive, and
timely.

Answer (A) is correct.

Supervision includes ensuring the approved engagement program is completed unless changes are
justified and authorized. Execution of the work program requires supervision during field work. The
other supervisory tasks generally are carried out before or after field work.

B “At the outset of the engagement” is not during field work.

C Annual performance appraisal is not specific to a particular engagement.

D Engagement communications are prepared at the conclusion of field work.

Question: 95 The auditor-in-charge of a financial audit for a global organization has assigned specific
tasks to team members and reserved for herself the responsibility of maintaining contact with the
managers of financial departments in eight countries. In reviewing the work papers of one auditor, the
auditor-in-charge notes that some of the work is incomplete. The auditor explains that she is unfamiliar
with the accounting practices and software systems used in this country. How could the auditor-in-
charge have managed this situation in a more efficient, effective manner?
A. Work more closely with the audit client to secure more support for the assigned auditor.

B. Build enough slack into the schedule to deal with delays due to an auditor’s lack of knowledge.

C. Align auditor skills and knowledge with area needs before making assignments.

D. Allow more time in the schedule for the auditor to become more familiar with local practices
and technology.

Answer (C) is correct.

Engagements must be properly supervised to ensure objectives are achieved, quality is assured, and
staff is developed. In this case, the knowledge and skills of audit team members should have been
considered before making assignments. The auditor in question might have been assigned to a different
country or teamed with an auditor more familiar with the country’s practices and technology.

A Working more closely with the audit client to secure more support for the assigned auditor is not an
efficient solution.

B Building enough slack into the schedule to deal with an auditor’s lack of knowledge is not an effective
or efficient solution.

D Allowing more time in the schedule for the auditor to become more familiar with local practices and
technology is not the most efficient solution, especially if other auditors are available who have the
appropriate skills and knowledge.

Question: 96 An internal auditing manager is leading a three-person auditing team assigned to an

assurance engagement at airport rental locations for a car rental company. All team members are
experienced. In planning her own work schedule, the manager believes that it will be necessary to allow
time to supervise the team during the execution phase, the planning process, and the drafting of the
internal audit report. Is the manager taking the correct approach? Why?

A. No. Once planning is completed, the most critical supervisory task is review of workpapers.

B. No. When a team is experienced, supervision throughout the engagement is an unnecessary

expense for the function.

C. Yes. All engagements should be closely supervised in the same manner.

D. Yes. Supervisory decisions must be made during all phases of the internal audit, regardless of
the experience level of the team members.

Answer (D) is correct.

All engagements must be supervised properly to ensure objectives are achieved, quality is assured, and
staff is developed. These responsibilities require attention throughout the engagement. Thus,
supervisory decisions must be made during all phases of the internal audit.
A Supervisory decisions are made during all phases of the internal audit engagement.

B Supervisory decisions are made during all phases of the internal audit engagement, regardless of the
experience of the team members.

C The degree and type of supervision depends on the circumstances of a particular engagement.

Question: 97 Which of the following is(are) true about engagement supervision?

1. Specific activities are prescribed in the Standards.

2. The extent varies depending on the proficiency of the internal auditors.
3. The extent varies depending on the complexity of the engagement.
4. The lead auditor has primary responsibility for supervision.

A. 1 only.

B. 1 and 3 only.

C. 1 and 4 only.

D. 1, 2, and 3 only.

Answer (D) is correct.

The extent of supervision required depends on the proficiency and experience of internal auditors and
the complexity of the engagement. The chief audit executive (CAE) has primary responsibility, but (s)he
may delegate responsibility to appropriately experienced members of the internal audit activity.

A The extent of supervision required also depends on the proficiency of the internal auditors and the
complexity of the engagement.

B The extent of supervision required also depends on the proficiency of the internal auditors.

C The chief audit executive (CAE) has primary responsibility for supervision, although (s)he may delegate
responsibility to experienced members of the internal audit activity.

Question: 98 A new staff auditor was told to perform an audit in an area with which the auditor was
not familiar. Due to time constraints, the audit was not supervised. The auditor was given the
assignment because it represented a good learning experience, but the area was clearly beyond the
auditor’s competence. Nevertheless, the auditor prepared comprehensive workpapers and reported the
results to management. In this situation,

A. The audit department violated the Standards by not providing adequate supervision.

B. The audit department violated the Standards by hiring an auditor without proficiency in the
area.
C. The chief audit executive (CAE) has not violated the Standards because they do not address
supervision.

D. The Standards and the Code of Ethics were followed by the audit department.

Answer (A) is correct.

The extent of supervision required depends on the proficiency and experience of internal auditors and
the complexity of the engagement. Because the auditor lacked adequate proficiency, supervision was
required. Without adequate supervision, the Standards were violated.

B Hiring an auditor without proficiency in a certain area is not a violation of the standards.

C Properly supervising the engagement is directly addressed in the Standards.

D The audit department violated the Standards by not providing proper supervision to the new staff
auditor.

Question: 99 When conducting a performance appraisal of an internal auditor who has been a below-
average performer, an inappropriate procedure is to

A. Notify the internal auditor of the upcoming appraisal several days in advance.

B. Use objective, impartial language.

C. Use generalizations.

D. Document the appraisal.

Answer (C) is correct.

In a performance appraisal of a below-average performer, it is appropriate and advisable to notify the

employee of the upcoming appraisal, use objective language, and document the appraisal. It is not
appropriate to use generalizations when making a performance appraisal of a below-average performer.
Rather, the evaluator must cite specific information and be prepared to support assertions with
evidence.

A This is an appropriate procedure when conducting a performance appraisal.

B This is an appropriate procedure when conducting a performance appraisal.

D This is an appropriate procedure when conducting a performance appraisal.

Question: 100 An internal auditor notices that a particular supervisor’s performance appraisal ratings
for any given subordinate tend to be consistently high, consistently low, or consistently in the middle
across all performance dimensions. Which one of the following is the best conclusion to draw based on
this observation?
A. The way individuals are rated may be systematically biased.

B. The performance appraisal forms probably have too many leading questions.

C. This supervisor is trying too hard to treat everyone the same.

D. This supervisor is too lenient in performance ratings.

Answer (A) is correct.

If an employee’s performance appraisal of any given subordinate tends to be consistently high,

consistently low, or consistently in the middle across the performance dimensions, a halo bias may exist
in the way the subordinate is being rated. The halo effect is a generalization from the perception of one
trait to others.

B Appraisal ratings are not likely to remain consistent if the forms have too many leading questions.

C Because some subordinates are ranked high, low, or in the middle, the supervisor is not treating
everyone the same.

D Some subordinates are ranked low, so the supervisor is probably not being too lenient.