INTERNAL CONTROL

1. Which of the following most likely would not be considered an inherent limitation of the potential effectiveness of an entity’s internal control?a. Incompatible duties.b. Management override.c. Mistakes in judgment.d. Collusion among employees.2. When considering internal control, an auditor should be aware of the concept of reasonable assurance, which recognizes thata. Internal control may be ineffective due to mistakes in judgment and personal carelessness.b. Adequate safeguards over access to assets and records should permit an entity to maintain proper accountability.c. Establishing and maintaining internal control is an important responsibility of management.d. The cost of an entity’s internal control should not exceed the benefits expected to be derived.3. Proper segregation of functional responsibilities calls for separation of the functions ofa. Authorization, execution, and payment.b. Authorization, recording, and custody.c. Custody, execution, and reporting.d. Authorization, payment, and recording.4. The overall attitude and awareness of an entity’s board of directors concerning the importance of internal control usually is reflected in itsa. Computer-based controls.b. System of segregation of duties.c. Control environment.d. Safeguards over access to assets.5. Which of the following is not a component of an entity’s internal control?a. Control risk.b. Control activities.c. Monitoring.d. Control environment.6. An auditor suspects that certain client employees are ordering merchandise for themselves over the Internet without recording the purchase or receipt of the merchandise. When vendors’ invoices arrive, one of the employees approves the invoices for payment. After the invoices are paid, the employee destroys the invoices and the related vouchers. In gathering evidence regarding the fraud, the auditor most likely would select items for testing from the file of alla. Cash disbursements.b. Approved vouchers.c. Receiving reports.d. Vendors’ invoices.7. Which of the following procedures most likely would provide an auditor with evidence about whether an entity’s internal control activities are suitably designed to prevent or detect material misstatements?a. Reperforming the activities for a sample of transactions.b. Performing analytical procedures using data aggregated at a high level.c. Vouching a sample of transactions directly related to the activities.d. Observing the entity’s personnel applying the activities.

8. In an audit of financial statements in accordance with generally accepted auditing standards, an auditor is required toa. Document the auditor’s understanding of the entity’s internal control.b. Search for significant deficiencies in the operation of internal control.c. Perform tests of controls to evaluate the effectiveness of the entity’s internal control.d. Determine whether controls are suitably designed to prevent or detect material misstatements.9. In obtaining an understanding of an entity’s internal control relevant to audit planning, an auditor is required to obtain knowledge about thea. Design of the controls pertaining to internal control components.b. Effectiveness of controls that have been placed in operation.c. Consistency with which controls are currently being applied.d. Controls related to each principal transaction class and account balance.10. An auditor should obtain sufficient knowledge of an entity’s information system to understand thea. Safeguards used to limit access to computer facilities.b. Process used to prepare significant accounting estimates.c. Controls used to assure proper authorization of transactions.d. Controls used to detect the concealment of fraud.11. When obtaining an understanding of an entity’s internal control, an auditor should concentrate on the substance of controls rather than their form becausea. The controls may be operating effectively but may not be documented.b. Management may establish appropriate controls but not enforce compliance with them.c. The controls may be so inappropriate that no reliance is contemplated by the auditor.d. Management may implement controls whose costs exceed their benefits.12. Decision tables differ from program flowcharts in that decision tables emphasizea. Ease of manageability for complex programs.b. Logical relationships among conditions and actions.c. Cost benefit factors justifying the program.d. The sequence in which operations are performed.13. During the consideration of internal control in a financial statement audit, an auditor is not obligated toa. Search for significant deficiencies in the operation of the internal control.b. Understand the internal control and the information system.c. Determine whether the control activities relevant to audit planning have been placed in operation.d. Perform procedures to understand the design of internal control.14. The primary objective of procedures performed to obtain an understanding of internal control is to provide an auditor witha. Knowledge necessary for audit planning.b. Evidential matter to use in assessing inherent risk.c. A basis for modifying tests of controls.d. An evaluation of the consistency of application of management’s policies.15. Which of the following statements regarding auditor documentation of the client’s internal control is correct?a. Documentation must include flowcharts.b. Documentation must include procedural write-ups.c. No documentation is necessary although it is desirable.d. No one particular form of documentation is necessary, and the extent of documentation may vary.

16. In obtaining an understanding of an entity’s internal control, an auditor is required to obtain knowledge about theOperating effectiveness Designof controls of controlsa. Yes Yesb. No Yesc. Yes Nod. No No17. Control risk should be assessed in terms ofa. Specific controls.b. Types of potential fraud.c. Financial statement assertions.d. Control environment factors.18. After assessing control risk at below the maximum level, an auditor desires to seek a further reduction in the assessed level of control risk. At this time, the auditor would consider whethera. It would be efficient to obtain an understanding of the entity’s information system.b. The entity’s controls have been placed in operation.c. The entity’s controls pertain to any financial statement assertions.d. Additional evidential matter sufficient to support a further reduction is likely to be available.19. Assessing control risk at below the maximum level most likely would involvea. Performing more extensive substantive tests with larger sample sizes than originally planned.b. Reducing inherent risk for most of the assertions relevant to significant account balances.c. Changing the timing of substantive tests by omitting interim-date testing and performing the tests at year-end.d. Identifying specific controls relevant to specific assertions.20. An auditor assesses control risk because ita. Is relevant to the auditor’s understanding of the control environment.b. Provides assurance that the auditor’s materiality levels are appropriate.c. Indicates to the auditor where inherent risk may be the greatest.d. Affects the level of detection risk that the auditor may accept.21. An auditor uses the knowledge provided by the understanding of internal control and the assessed level of control risk primarily toa. Determine whether procedures and records concerning the safeguarding of assets are reliable.b. Ascertain whether the opportunities to allow any person to both perpetrate and conceal fraud are minimized.c. Modify the initial assessments of inherent risk and preliminary judgments about materiality levels.d. Determine the nature, timing, and extent of substantive tests for financial statement assertions.22. An auditor may compensate for a weakness in internal control by increasing thea. Level of detection risk.b. Extent of tests of controls.c. Preliminary judgment about audit risk.d. Extent of analytical procedures.23. Regardless of the assessed level of control risk, an auditor would perform somea. Tests of controls to determine the effectiveness of internal control policies.b. Analytical procedures to verify the design of internal control.c. Substantive tests to restrict detection risk for significant transaction classes.d. Dual-purpose tests to evaluate both the risk of monetary misstatement and preliminary control risk.

24. An auditor generally tests the segregation of duties related to inventory bya. Personal inquiry and observation.b. Test counts and cutoff procedures.c. Analytical procedures and invoice recomputation.d. Document inspection and reconciliation.25. The objective of tests of details of transactions performed as tests of controls is toa. Monitor the design and use of entity documents such as prenumbered shipping forms.b. Determine whether controls have been placed in operation.c. Detect material misstatements in the account balances of the financial statements.d. Evaluate whether controls operated effectively.26. After obtaining an understanding of internal control and assessing control risk, an auditor decided to perform tests of controls. The auditor most likely decided thata. It would be efficient to perform tests of controls that would result in a reduction in planned substantive tests.b. Additional evidence to support a further reduction in control risk is not available.c. An increase in the assessed level of control risk is justified for certain financial statement assertions.d. There were many internal control weaknesses that could allow misstatements to enter the accounting system.27. Which of the following types of evidence would an auditor most likely examine to determine whether controls are operating as designed?a. Confirmations of receivables verifying account balances.b. Letters of representations corroborating inventory pricing.c. Attorneys’ responses to the auditor’s inquiries.d. Client records documenting the use of computer programs.28. Which of the following is not a step in an auditor’s decision to assess control risk at below the maximum?a. Evaluate the effectiveness of internal control with tests of controls.b. Obtain an understanding of the entity’s information system and control environment.c. Perform tests of details of transactions to detect material misstatements in the financial statements.d. Consider whether controls can have a pervasive effect on financial statement assertions.29. Which of the following procedures concerning accounts receivable would an auditor most likely perform to obtain evidential matter in support of an assessed level of control risk below the maximum level?a. Observing an entity’s employee prepare the schedule of past due accounts receivable.b. Sending confirmation requests to an entity’s principal customers to verify the existence of accountsreceivable.c. Inspecting an entity’s analysis of accounts receivable for unusual balances.d. Comparing an entity’s uncollectible accounts expense to actual uncollectible accounts receivable.30. Which of the following procedures would an auditor most likely perform to test controls relating to management’s assertion about the completeness of cash receipts for cash sales at a retail outlet?a. Observe the consistency of the employees’ use of cash registers and tapes.b. Inquire about employees’ access to recorded but undeposited cash.c. Trace deposits in the cash receipts journal to the cash balance in the general ledger.d. Compare the cash balance in the general ledger with the bank confirmation request.

31. Tracing shipping documents to prenumbered sales invoices provides evidence thata. No duplicate shipments or billings occurred.b. Shipments to customers were properly invoiced.c. All goods ordered by customers were shipped.d. All prenumbered sales invoices were accounted for.32. Which of the following controls most likely would reduce the risk of diversion of customer receipts by an entity’s employees?a. A bank lockbox system.b. Prenumbered remittance advices.c. Monthly bank reconciliations.d. Daily deposit of cash receipts.33. An auditor suspects that a client’s cashier is misappropriating cash receipts for personal use by lapping customer checks received in the mail. In attempting to uncover this embezzlement scheme, the auditor most likely would compare thea. Dates checks are deposited per bank statements with the dates remittance credits are recorded.b. Daily cash summaries with the sums of the cash receipts journal entries.c. Individual bank deposit slips with the details of the monthly bank statements.d. Dates uncollectible accounts are authorized to be written off with the dates the write-offs are actually recorded.34. Which of the following controls most likely would assure that all billed sales are correctly posted to the accounts receivable ledger?a. Daily sales summaries are compared to daily postings to the accounts receivable ledger.b. Each sales invoice is supported by a prenumbered shipping document.c. The accounts receivable ledger is reconciled daily to the control account in the general ledger.d. Each shipment on credit is supported by a prenumbered sales invoice.35. An auditor tests an entity’s policy of obtaining credit approval before shipping goods to customers in support of management’s financial statement assertion ofa. Valuation or allocation.b. Completeness.c. Existence or occurrence.d. Rights and obligations.36. Which of the following controls most likely would help ensure that all credit sales transactions of an entity are recorded?a. The billing department supervisor sends copies of approved sales orders to the credit department for comparison to authorized credit limits and current customer account balances.b. The accounting department supervisor independently reconciles the accounts receivable subsidiary ledger to the accounts receivable control account monthly.c. The accounting department supervisor controls the mailing of monthly statements to customers and investigates any differences reported by customers.d. The billing department supervisor matches prenumbered shipping documents with entries in the sales journal.37. During the consideration of a small business client’s internal control, the auditor discovered that the accounts receivable clerk approves credit memos and has access to cash. Which of the following controls would be most effective in offsetting this weakness?a. The owner reviews errors in billings to customers and postings to the subsidiary ledger.b. The controller receives the monthly bank statement directly and reconciles the checking accounts.c. The owner reviews credit memos after they are recorded.

d. The controller reconciles the total of the detail accounts receivable accounts to the amount shown in the ledger.38. When a customer fails to include a remittance advice with a payment, it is common practice for the person opening the mail to prepare one. Consequently, mail should be opened by which of the following four company employees?a. Credit manager.b. Receptionist.c. Sales manager.d. Accounts receivable clerk.39. To provide assurance that each voucher is submitted and paid only once, an auditor most likely would examine a sample of paid vouchers and determine whether each voucher isa. Supported by a vendor’s invoice.b. Stamped “paid” by the check signer.c. Prenumbered and accounted for.d. Approved for authorized purchases.40. In testing controls over cash disbursements, an auditor most likely would determine that the person who signs checks alsoa. Reviews the monthly bank reconciliation.b. Returns the checks to accounts payable.c. Is denied access to the supporting documents.d. Is responsible for mailing the checks.41. In assessing control risk for purchases, an auditor vouches a sample of entries in the voucher register to the supporting documents. Which assertion would this test of controls most likely support?a. Completeness.b. Existence or occurrence.c. Valuation or allocation.d. Rights and obligations.42. With properly designed internal control, the same employee most likely would match vendors’ invoices with receiving reports and alsoa. Post the detailed accounts payable records.b. Recompute the calculations on vendors’ invoices.c. Reconcile the accounts payable ledger.d. Cancel vendors’ invoices after payment.43. An entity’s internal control requires for every check request that there be an approved voucher, supported by a prenumbered purchase order and a prenumbered receiving report. To determine whether checks are being issued for unauthorized expenditures, an auditor most likely would select items for testing from the population of alla. Purchase orders.b. Canceled checks.c. Receiving reports.d. Approved vouchers.44. Which of the following questions would most likely be included in an internal control questionnaire concerning the completeness assertion for purchases?a. Is an authorized purchase order required before the receiving department can accept a shipment or the vouchers payable department can record a voucher?b. Are purchase requisitions prenumbered and independently matched with vendor invoices?c. Is the unpaid voucher file periodically reconciled with inventory records by an employee who does not have access to purchase requisitions?

d. Are purchase orders, receiving reports, and vouchers prenumbered and periodically accounted for?45. For effective internal control, the accounts payable department generally shoulda. Stamp, perforate, or otherwise cancel supporting documentation after payment is mailed.b. Ascertain that each requisition is approved as to price, quantity, and quality by an authorized employee.c. Obliterate the quantity ordered on the receiving department copy of the purchase order.d. Establish the agreement of the vendor’s invoice with the receiving report and purchase order.46. Internal control is strengthened when the quantity of merchandise ordered is omitted from the copy of the purchase order sent to thea. Department that initiated the requisition.b. Receiving department.c. Purchasing agent.d. Accounts payable department.47. With well-designed internal control, employees in the same department most likely would approve purchase orders, and alsoa. Reconcile the open invoice file.b. Inspect goods upon receipt.c. Authorize requisitions of goods.d. Negotiate terms with vendors.48. In obtaining an understanding of a manufacturing entity’s internal control over inventory balances, an auditor most likely woulda. Analyze the liquidity and turnover ratios of the inventory.b. Perform analytical procedures designed to identify cost variances.c. Review the entity’s descriptions of inventory policies and procedures.d. Perform test counts of inventory during the entity’s physical count.49. Which of the following controls most likely would be used to maintain accurate inventory records?a. Perpetual inventory records are periodically compared with the current cost of individual inventory items.b. A just-in-time inventory ordering system keeps inventory levels to a desired minimum.c. Requisitions, receiving reports, and purchase orders are independently matched before payment is approved.d. Periodic inventory counts are used to adjust the perpetual inventory records.50. A client maintains perpetual inventory records in both quantities and dollars. If the assessed level of control risk is high, an auditor would probablya. Insist that the client perform physical counts of inventory items several times during the year.b. Apply gross profit tests to ascertain the reasonableness of the physical counts.c. Increase the extent of tests of controls of the inventory cycle.d. Request the client to schedule the physical inventory count at the end of the year.51. Which of the following controls most likely addresses the completeness assertion for inventory?a. Work in process account is periodically reconciled with subsidiary records.b. Employees responsible for custody of finished goods do not perform the receiving function.c. Receiving reports are prenumbered and periodically reconciled.d. There is a separation of duties between payroll department and inventory accounting personnel.

52. Sound internal control dictates that defective merchandise returned by customers should be presented initially to thea. Salesclerk.b. Purchasing clerk.c. Receiving clerk.d. Inventory control clerk.53. The objectives of internal control for a production cycle are to provide assurance that transactions are properly executed and recorded, and thata. Production orders are prenumbered and signed by a supervisor.b. Custody of work in process and of finished goods is properly maintained.c. Independent internal verification of activity reports is established.d. Transfers to finished goods are documented by a completed production report and a quality control report.54. Which of the following is a control that most likely could help prevent employee payroll fraud?a. The personnel department promptly sends employee termination notices to the payroll supervisor.b. Employees who distribute payroll checks forward unclaimed payroll checks to the absent employees’ supervisors.c. Salary rates resulting from new hires are approved by the payroll supervisor.d. Total hours used for determination of gross pay are calculated by the payroll supervisor.55. In determining the effectiveness of an entity’s controls relating to the existence or occurrence assertion for payroll transactions, an auditor most likely would inquire about anda. Observe the segregation of duties concerning personnel responsibilities and payroll disbursement.b. Inspect evidence of accounting for prenumbered payroll checks.c. Recompute the payroll deductions for employee fringe benefits.d. Verify the preparation of the monthly payroll account bank reconciliation.56. An auditor most likely would assess control risk at the maximum if the payroll department supervisor is responsible fora. Examining authorization forms for new employees.b. Comparing payroll registers with original batch transmittal data.c. Authorizing payroll rate changes for all employees.d. Hiring all subordinate payroll department employees.57. In meeting the control objective of safeguarding of assets, which department should be responsible forDistribution Custody ofof paychecks unclaimed paychecksa. Treasurer Treasurerb. Payroll Treasurerc. Treasurer Payrolld. Payroll Payroll58. Proper internal control over the cash payroll function would mandate which of the following?a. The payroll clerk should fill the envelopes with cash and a computation of the net wages.b. Unclaimed pay envelopes should be retained by the paymaster.c. Each employee should be asked to sign a receipt.d. A separate checking account for payroll be maintained.

59. The purpose of segregating the duties of hiring personnel and distributing payroll checks is to separate thea. Authorization of transactions from the custody of related assets.b. Operational responsibility from the recordkeeping responsibility.c. Human resources function from the controllership function.d. Administrative controls from the internal accounting controls.60. To minimize the opportunities for fraud, unclaimed cash payroll should bea. Deposited in a safe-deposit box.b. Held by the payroll custodian.c. Deposited in a special bank account.d. Held by the controller.61. The auditor may observe the distribution of paychecks to ascertain whethera. Pay rate authorization is properly separated from the operating function.b. Deductions from gross pay are calculated correctly and are properly authorized.c. Employees of record actually exist and are employed by the client.d. Paychecks agree with the payroll register and the time cards.62. Which of the following questions would an auditor most likely include on an internal control questionnaire for notes payable?a. Are assets that collateralize notes payable critically needed for the entity’s continued existence?b. Are two or more authorized signatures required on checks that repay notes payable?c. Are the proceeds from notes payable used for the purchase of noncurrent assets?d. Are direct borrowings on notes payable authorized by the board of directors?63. Which of the following is not a control that is designed to protect investment securities?a. Custody over securities should be limited to individuals who have recordkeeping responsibility over the securities.b. Securities should be properly controlled physically in order to prevent unauthorized usage.c. Access to securities should be vested in more than one individual.d. Securities should be registered in the name of the owner.64. Which of the following controls would a company most likely use to safeguard marketable securities when an independent trust agent is not employed?a. The investment committee of the board of directors periodically reviews the investment decisions delegated to the treasurer.b. Two company officials have joint control of marketable securities, which are kept in a bank safedeposit box.c. The internal auditor and the controller independently trace all purchases and sales of marketablesecurities from the subsidiary ledgers to the general ledger.d. The chairman of the board verifies the marketable securities, which are kept in a bank safe-deposit box, each year on the balance sheet date.65. A weakness in internal control over recording retirements of equipment may cause an auditor toa. Inspect certain items of equipment in the plant and trace those items to the accounting records.b. Review the subsidiary ledger to ascertain whether depreciation was taken on each item of equipment during the year.c. Trace additions to the “other assets” account to search for equipment that is still on hand but no longer being used.d. Select certain items of equipment from the accounting records and locate them in the plant.

66. Which of the following questions would an auditor least likely include on an internal control questionnaire concerning the initiation and execution of equipment transactions?a. Are requests for major repairs approved at a higher level than the department initiating the request?b. Are prenumbered purchase orders used for equipment and periodically accounted for?c. Are requests for purchases of equipment reviewed for consideration of soliciting competitive bids?d. Are procedures in place to monitor and properly restrict access to equipment?67. Which of the following controls would be most effective in assuring that the proper custody of assets in the investing cycle is maintained?a. Direct access to securities in the safe-deposit box is limited to only one corporate officer.b. Personnel who post investment transactions to the general ledger are not permitted to update the investment subsidiary ledger.c. The purchase and sale of investments are executed on the specific authorization of the board of directors.d. The recorded balances in the investment subsidiary ledger are periodically compared with the contents of the safe-deposit box by independent personnel.68. Which of the following controls would an entity most likely use in safeguarding against the loss of marketable securities?a. An independent trust company that has no direct contact with the employees who have recordkeeping responsibilities has possession of the securities.b. The internal auditor verifies the marketable securities in the entity’s safe each year on the balance sheet date.c. The independent auditor traces all purchases and sales of marketable securities through the subsidiary ledgers to the general ledger.d. A designated member of the board of directors controls the securities in a bank safe-deposit box.69. When there are numerous property and equipment transactions during the year, an auditor who plans to assess control risk at a low level usually performsa. Tests of controls and extensive tests of property and equipment balances at the end of the year.b. Analytical procedures for current year property and equipment transactions.c. Tests of controls and limited tests of current year property and equipment transactions.d. Analytical procedures for property and equipment balances at the end of the year.70. In general, material fraud perpetrated by which of the following are most difficult to detect?a. Cashier.b. Keypunch operator.c. Internal auditor.d. Controller.71. Which of the following matters would an auditor most likely consider to be a reportable condition to be communicated to the audit committee?a. Management’s failure to renegotiate unfavorable long-term purchase commitments.b. Recurring operating losses that may indicate going concern problems.c. Evidence of a lack of objectivity by those responsible for accounting decisions.d. Management’s current plans to reduce its ownership equity in the entity.72. Which of the following statements is correct concerning reportable conditions in an audit?a. An auditor is required to search for reportable conditions during an audit.b. All reportable conditions are also considered to be material weaknesses.c. An auditor may communicate reportable conditions during an audit or after the audit’s completion.

d. An auditor may report that no reportable conditions were noted during an audit.73. Which of the following statements is correct concerning an auditor’s required communication with an entity’s audit committee?a. This communication is required to occur before the auditor’s report on the financial statements is issued.b. This communication should include discussion of any significant disagreements with management concerning the financial statements.c. Any significant matter communicated to the audit committee also should be communicated to management.d. Significant audit adjustments proposed by the auditor and recorded by management need not be communicated to the audit committee.74. An auditor would least likely initiate a discussion witha client’s audit committee concerninga. The methods used to account for significant unusual transactions.b. The maximum dollar amount of misstatements that could exist without causing the financial statements to be materially misstated.c. Indications of fraud and illegal acts committed by a corporate officer that were discovered by the auditor.d. Disagreements with management as to accounting principles that were resolved during the current year’s audit.

75. Which of the following statements is correct about an auditor’s required communication with an entity’s audit committee?a. Any matters communicated to the entity’s audit committee also are required to be communicated to the entity’s management.b. The auditor is required to inform the entity’s audit committee about significant misstatements discovered by the auditor and subsequently corrected by management.c. Disagreements with management about the application of accounting principles are required tobe communicated in writing to the entity’s audit committee.d. Weaknesses in internal control previously reported to the entity’s audit committee are required to be communicated to the audit committee after each subsequent audit until the weaknesses are corrected.76. Which of the following statements is correct concerning reportable conditions noted in an audit?a. Reportable conditions are material weaknesses in the design or operation of specific internal control components.b. The auditor is obligated to search for reportable conditions that could adversely affect the entity’s ability to record and report financial data.c. Reportable conditions should be recommunicated each year, even if management has acknowledged its understanding of such deficiencies.d. The auditor may separately communicate those reportable conditions considered to be materialweaknesses.77. Which of the following representations should not be included in a report on internal control related matters noted in an audit?a. Reportable conditions related to internal control design exist, but none are deemed to be a material weakness.b. There are no significant deficiencies in the design or operation of internal control.c. Corrective follow-up action is recommended due to the relative significance of material weaknesses discovered during the audit.

d. The auditor’s consideration of internal control would not necessarily disclose all reportable conditions that exist.78. Which of the following matters is an auditor required to communicate to an entity’s audit committee?I. Disagreements with management about matters significant to the entity’s financial statements that have been satisfactorily resolved.II. Initial selection of significant accounting policies in emerging areas that lack authoritative guidance.a. I only.b. II only.c. Both I and II.d. Neither I nor II.79. A previously communicated reportable condition that has not been corrected should ordinarily be communicated again ifa. The deficiency has a material effect on the auditor’s assessment of control risk.b. The entity accepts that degree of risk because of cost-benefit considerations.c. The weakness could adversely affect the entity’s ability to report financial data.d. There has been major turnover in upper-level management and the board of directors.80. Which of the following statements concerning material weaknesses and reportable conditions is correct?a. An auditor should identify and communicate material weaknesses separately from reportable conditions.b. All material weaknesses are reportable conditions.c. An auditor should report immediately material weaknesses and reportable conditions discovered during an audit.d. All reportable conditions are material weaknesses.81. Reportable conditions are matters that come to an auditor’s attention that should be communicated to an entity’s audit committee because they representa. Disclosures of information that significantly contradict the auditor’s going concern assumption.b. Material fraud or illegal acts perpetrated by highlevel management.c. Significant deficiencies in the design or operation of internal control.d. Manipulation or falsification of accounting records or documents from which financial statements are prepared.82. During the audit the independent auditor identified the existence of a weakness in the client’s internal control and orally communicated this finding to the client’s senior management and audit committee. The auditor shoulda. Consider the weakness a scope limitation and therefore disclaim an opinion.b. Document the matter in the working papers and consider the effects of the condition on the audit.c. Suspend all audit activities pending directions from the client’s audit committee.d. Withdraw from the engagement.83. Which of the following best describes a CPA’s engagement to report on an entity’s internal control over financial reporting?a. An attestation engagement to examine and report on the reliability of the effectiveness of its internal control.b. An audit engagement to provide negative assurance on the entity’s internal control.c. A prospective engagement to project, for a period of time not to exceed one year, and report on the expected benefits of the entity’s internal control.

d. A consulting engagement to provide constructive advice to the entity on its internal control.84. An engagement to examine internal control will generallya. Require procedures that duplicate those already applied in assessing control risk during a financial statement audit.b. Increase the reliability of the financial statements that have already been audited.c. Be more extensive in scope than the assessment of control risk made during a financial statement audit.d. Be more limited in scope than the assessment of control risk made during a financial statement audit.85. How do the scope, procedures, and purpose of an examination of internal control compare to those for obtaining an understanding of internal control and assessing control risk as part of an audit?Scope Procedures Purposea. Similar Different Similarb. Different Similar Similarc. Different Different Differentd. Different Similar Different86. When an examination has been performed on the effectiveness of entity’s internal control over financial reporting and a material weakness has been noted, the practitioner’s report should express an opinion ona. The assertion.b. The subject matter to which the assertion relates.c. Neither of the above.d. Both of the above.87. In assessing the competence of an internal auditor, an independent CPA most likely would obtain information about thea. Quality of the internal auditor’s working paper documentation.b. Organization’s commitment to integrity and ethical values.c. Influence of management on the scope of the internal auditor’s duties.d. Organizational level to which the internal auditor reports.88. The work of internal auditors may affect the independent auditor’sI. Procedures performed in obtaining an understanding of internal control.II. Procedures performed in assessing the risk of material misstatement.III. Substantive procedures performed in gathering direct evidence.a. I and II only.b. I and III only.c. II and III only.d. I, II, and III.89. An internal auditor’s work would most likely affect the nature, timing, and extent of an independent CPA’s auditing procedures when the internal auditor’s work relates to assertions about thea. Existence of contingencies.b. Valuation of intangible assets.c. Existence of fixed asset additions.d. Valuation of related-party transactions.

90. When assessing the internal auditor’s competence, the independent CPA should obtain information about the a. Organizational level to which the internal auditors report.b. Educational background and professional certification of the internal auditors.c. Policies prohibiting the internal auditors from auditing areas where relatives are employed.d. Internal auditors’ access to records and information that is considered sensitive.91. In assessing the competence and objectivity of an entity’s internal auditor, an independent auditor would least likely consider information obtained froma. Discussions with management personnel.b. External quality reviews of the internal auditor’s activities.c. Previous experience with the internal auditor.d. The results of analytical procedures.92. If the independent auditors decide that the work performed by the internal auditor may have a bearing on their own procedures, they should consider the internal auditor’sa. Competence and objectivity.b. Efficiency and experience.c. Independence and review skills.d. Training and supervisory skills.93. In assessing the objectivity of internal auditors, an independent auditor shoulda. Evaluate the quality control program in effect for the internal auditors.b. Examine documentary evidence of the work performed by the internal auditors.c. Test a sample of the transactions and balances that the internal auditors examined.d. Determine the organizational level to which the internal auditors report.

AUDITING THEORY

QUALITY CONTROLS AND GENERALLY ACCEPTED AUDITING STANDARDS (GAAS)Related PSA : PSA 220QUALITY CONTROL FOR AUDIT WORKAudit Firm Level: The audit firm should implement quality control policies and proceduresdesigned to ensure that all audits are conducted in accordance with PSAs or relevant nationalstandards or practices.1. Professional requirements: independence, integrity, objectivity, confidentiality andprofessional behavior.2. Skills and competence: The firm is to be staffed by personnel who have attained andmaintained the technical standards and professional competence required to enable themto fulfill their responsibilities with due care.3. Assignment: Audit work is to be assigned to personnel who have the degree of technicaltraining and proficiency required in the circumstances.4. Delegation: There is to be sufficient direction, supervision and review of work at all levels toprovide reasonable assurance that the work performed meets appropriate standards ofquality.5. Consultation: Whenever necessary, consultation within or outside the firm is to occur withthose who have appropriate expertise.6. Acceptance and retention of clients: An evaluation of prospective clients and a review, onan ongoing basis, of existing clients is to be conducted. In making a decision to accept orretain a client, the firm’s independence and ability to serve the client properly and theintegrity of the client’s management are to be considered.7. Monitoring: The continued adequacy and operational effectiveness of quality controlpolicies and procedures is to be monitored.Individual Audit Level: The auditor should implement those quality control procedures which are, in the context of the policies and procedures of the firm, appropriate to the individual audit.1. Direction: Direction involves informing assistants of their responsibilities and the objectivesof the procedures they are to perform. It also involves informing them of matters, such asthe nature of the entity’s business and possible accounting or auditing problems that mayaffect the nature, timing and extent of audit procedures with which they are involved.2. Supervision: Supervision is closely related to both direction and review and may involveelements of both. Personnel carrying out supervisory responsibilities perform the followingfunctions during the audit:a. monitor the progress of the audit to consider whether (1) assistants have the necessary skills and competence to carry out their assigned tasks; (2) assistants understand the audit directions; and (3) the work is being carried out in accordance with the overall audit plan and the audit program.b. become informed of and address significant accounting and auditing questions raised during the auditc. resolve any differences of professional judgment between personnel and consider the level of consultation that is appropriate.3. Review: The work performed by each assistant needs to be reviewed by personnel of leastequal competence.

GENERALLY ACCEPTED AUDITING STANDARDSGeneral standards1. The examination is to be performed by a person or persons having adequate technical training and proficiency as an auditor.2. In all matters relating to the assignment, an independence in mental attitude is to bemaintained by the auditor or auditors.3. Due professional care is to be exercised in the performance of the examination and thepreparation of the report.

Standards of Fieldwork1. The work is to be adequately planned, and assistants, if any, are to be properly supervised.2. There is to be a proper study and evaluation of the existing internal control as a basis forreliance thereon and for the determination of the resultant extent of the tests to which auditingprocedures are to be restricted.3. Sufficient, competent evidential matter is to be obtained through inspection, observation,inquiries, and confirmations to afford a reasonable basis for an opinion regarding the financialstatements under examination.

Standards of Reporting1. The report shall state whether the financial statements are presented in accordance withgenerally accepted principles of accounting.2. The report shall identify those circumstances in which principles have not been consistentlyobserved in the current period in relation to the preceding period.3. Informative disclosures are to be regarded as reasonably adequate unless otherwise stated in the report.4. The report shall either contain an expression of opinion regarding the financial statements,taken as a whole, or an assertion to the effect that an opinion cannot be expressed. When anoverall opinion cannot be expressed, the reasons therefor should be stated. In all cases wherean auditor’s name is associated with financial statements, the report should contain a clear-cutindication of the character of the auditor’s examination, if any, and the degree of responsibilitythe auditor is taking.

MULTIPLE CHOICE QUESTIONS1. A basic objective of a CPA firm is to provide professional services that conform withprofessional standards. Reasonable assurance of achieving this basic objective is providedthrougha. A system of peer review.b. Continuing professional education.c. A system of quality controls.d. Compliance with generally accepted reporting standards.2. The examination by CPAs of a CPA firm’s auditing practices to ascertain compliance with itsquality control systema. Compliance audit c. Peer reviewb. Examination d. Quality control audit3. Quality control policies and procedures are required to be implemented at

A b c d• Audit firm level Yes Yes No No• Individual audit level Yes No Yes No

4. The following factors affect the nature, timing and extent of an audit firm’s quality controlpolicies and procedures, except

a b c d• Size and nature of practice Yes Yes No No• Geographic dispersion Yes Yes Yes No• Organization Yes No Yes No• Appropriate cost/benefit considerations Yes Yes No No

5. The firm is to be staffed by personnel who have attained and maintained the technicalstandards and professional competence required to enable them to fulfill their responsibilitieswith due care is the objective of what quality control policy?a. Professional Requirements c. Assignmentb. Skills and Competence d. Delegation

6. In connection with the element of professional development, a CPA firm’s system of qualitycontrol should ordinarily provide that all personnela. Have the knowledge required to enable them to fulfill responsibilities assigned.b. Possess judgment, motivation, and adequate experience.c. Seek assistance from persons having appropriate levels of knowledge, judgment, and authority.d. Demonstrate compliance with peer review directives.

7. Within the context of quality control, the primary purpose of continuing professional education and training activities, is to enable a CPA firm to provide personnel within the firm with:a. Technical training that assures proficiency as an auditor.b. Professional education that is required in order to perform with due professional care.c. Knowledge required to fulfill assigned responsibilities and to progress within the firm.d. Knowledge required in order to perform a peer review.

8. In pursuing its quality control objectives with respect to assigning personnel to engagements,a public accounting firm may use policies and procedures such asa. Rotating employees from assignment to assignment on a random basis to aid in the stafftraining effort.b. Requiring timely identification of the staffing requirements of specific engagements so thatenough qualified personnel can be made available.c. Allowing staff to select the assignments of their choice to promote better client relationships.d. Assigning a number of employees to each engagement in excess of the number requiredso as not to overburden the staff and interfere with the quality of the audit work performed.

9. A CPA firm’s personnel partner periodically studies the CPA firm’s personnel advancementexperience to ascertain whether individuals meeting stated criteria are assigned increaseddegrees of responsibility. This is evidence of the CPA firm’s adherence to prescribedstandards ofa. Quality control. c. Supervision and review.b. Due professional care. d. Fieldwork.

10. The firm’s evaluation of the performance of its personnel and advising them of their progressis a quality control procedure that relates toa. Promotion c. Monitoringb. Advancement d. Directing

11. Which of the following relate to skills and competence as an objective of quality controlpolicies?a. Advancement c. Professional developmentb. Hiring d. All of these

12. Which of the following practices will promote the objectives of assignment of personnel?A. Evaluates partners periodically by means of senior partner or fellow partner evaluationand counseling as to whether they continue to have the qualifications to fulfill theirresponsibilities.B. Identifies on a timely basis the staffing requirements of specific auditsC. Periodically counsels personnel as to their progress and career opportunitiesD. Prepares time budget for audit to determine manpower requirements and to scheduleaudit work.a. A b. A C c. B D d. All of them

13. Which of the following is not likely a quality control procedure on consultation?a. Identifies areas and specialized situations where consultation is required and encouragepersonnel to consult with or in use authoritative sources on other complex matters.b. Designates individuals as specialists to serve as authoritative sources and define theirauthority in consultative situations.c. Assigns an appropriate person or persons to be responsible for assigning personnel to audits.d. Specifies the extent of documentation to be provided for the result of consultation in thoseareas and specialized situations where consultation is required.

14. Monitoring, as an element of quality control policies of a firm, requires:a. Providing reasonable assurance that the firm’s other quality control policies and procedures are effectively operating.b. Designates individuals as specialists to serve as authoritative sources and define their authority in consultative situations.c. Ensuring that personnel are sufficiently directed, supervised and their work being reviewed adequately.d. Identify the right personnel to be assigned in an audit engagement.

15. Which of the following quality control procedures is a monitoring activity?a. Evaluates the firm’s independence and its ability to serve the prospective clientb. Reviews and tests compliance with the firm’s general quality control policies and procedures.c. Designates individuals as specialists to serve as authoritative sources and define their authority in consultative situations.d. Monitors continuing professional education programs and maintain appropriate records, both on a firm and an individual audit engagement basis.

16. Which of the following objectives are generally a component of a firm’s quality control?A. Professional requirements E. ConsultationB. Skills and competence F. Due professional careC. Assignment G. MonitoringD. Inspection H. Delegationa. A, B, C, D, E, F c. A, B, C, E, G, Hb. A, B, C, F, E, G d. B, C, G, F, H

17. Which of the following is not an element of professional requirements as prescribed byQuality Control Policies for an audit firm?a. Independence c. Confidentialityb. Integrity d. Prudence

18. Which of the following is an element of “directing an audit assistant” objective?a. Identifying in advance the staffing requirements of a particular audit engagement.b. Informing assistants of their responsibilities and the objectives of the procedures they areto perform.c. Resolving any differences in professional judgment between audit personnel.d. Resolution of differences in audit findings.

19. It involves informing assistants of their responsibilities and the objectives of the proceduresthey have to perform:a. Supervision b. Monitoring c. Directing d. Consultation

20. What is the overriding reason why the auditor considers the professional competence ofassistants whom the work will be delegated?a. All the audit assistants assigned to an engagement must be independent in appearance.b. To have reasonable assurance that such work will be performed with due care by the audit assistant.c. To lessen the working paper preparation.d. To eliminate audit risk.

21. Which of the following is(are) quality control policies on an audit firm level?Consultation Assignment Directiona. Yes No Yesb. No No Yesc. Yes No Yesd. yes Yes No

22. Which one of the following relates to delegation objective of quality control?a. The firms creates a group that provides technical training to audit staff.b. There is to be a sufficient direction, supervision, and review of work at all levels to providereasonable assurance that the work performed meets appropriate standards of quality.c. Assignment of work to the more qualified personnel.d. Whenever necessary, consultation within or outside the firm is to occur with those who have appropriate expertise.

23. Which of the following is (are) helpful in communicating audit directions?A b c d

• Audit program Yes Yes Yes No• Overall audit plan Yes Yes No No• Time budgets Yes No No No

24. Generally Accepted Auditing Standards (GAAS) and Philippine Standards on Auditing (PSA) should be looked upon by practitioners as:a. Ideals to work towards, but which are not achievableb. Maximum standards which denote excellent work.c. Minimum standards of performance which must be achieved on each audit engagement.d. Benchmark to be used on all audits, reviews, and compilations.

25. Which of the following best describes what is meant by Generally Accepted AuditingStandards?a. Pronouncements issued by the Auditing Standards and Practices Council.b. Procedure to be used to gather evidence to support financial statements.c. Rules acknowledged by the accounting profession because of their universal compliance.d. Measures of the quality of the auditor’s performance

26. An auditor need not abide by an auditing standard if the auditor believes thata. The amount is immaterialb. The requirement of the standard is impractical to performc. The requirement of the standard is impossible to performd. Any of the three above is correct.

27. A CPA should comply with applicable generally accepted auditing standards on everyengagementa. Without exceptionb. Except in examinations that result in a qualified reportc. Except in engagements where the CPA is associated with unaudited financial statements.d. Except in examinations of interim financial statements.

28. To exercise due professional care the auditor should examine all available corroboratingevidences supporting management’s assertions.The proper attitude of an auditor who is performing an examination in accordance with GAASshould be professional responsiveness.GAAS means rules acknowledged by the accounting profession because of their universalapplication.

a. b. c. d.First statement True False True TrueSecond statement False False True FalseThird statement False False True True

29. A CPA is most likely to refer to one or more of the three general auditing standards indetermininga. The nature of the CPA’s auditing qualification.b. The scope of the CPA’s auditing procedures.c. Requirements for the review of internal control.d. Whether the CPA should undertake an audit engagement.

30. The general standards stress the importance ofa. The personal qualities which the auditor should haveb. Evidence accumulationc. Communicating the auditor’s finding to the readerd. All of the above

31. The Audit Standard which requires “adequate technical training and proficiency” is normallyinterpreted as requiring the auditor to havea. Formal education in auditing and accountingb. Adequate practical experience for the work being performedc. Continuing professional educationd. All of the above

32. Which of the following is not required by the Generally Accepted Auditing Standards thatstates that due professional care is to be exercised in the performance of the audit?a. Observance of the standards of field work and reportingb. Critical review of the audit work performed at every level of supervisionc. Degree of skill commonly possessed by others in the profession.d. Responsibility for losses because of errors of judgment

33. The first general standard requires that the audit of financial statements be performed by aperson or persons having adequate technical training anda. Independence with respect to the financial statements and supplementary disclosures.b. Exercising professional care as judged by peer reviewers.c. Proficiency as an auditor, which likely has been acquired from previous experience.d. Objectivity as an auditor, as verified by proper supervision.

34. Which of the following is mandatory if the auditor is to comply with generally acceptedauditing standards?a. Possession by the auditor of adequate technical training.b. Use of analytical review on audit engagements.c. Use of statistical sampling whenever feasible on an audit engagement.d. Confirmation by the auditor of material accounts receivable balances.

35. Competence as a certified public accountant includes all of the following excepta. Having the technical qualifications to perform an engagement.b. Possessing the ability to supervise and evaluate the quality of staff work.c. Warranting the infallibility of the work performed.d. Consulting others if additional technical information is needed.

36. An auditor who accepts an audit engagement and does not possess the industry expertise of the business entity, shoulda. Engage financial experts familiar with the nature of the business entity.b. Obtain a knowledge of matters that relate to the nature of the entity's business.c. Refer a substantial portion of the audit to another CPA who will act as the principal auditor.d. First inform management that an unqualified opinion cannot be issued.

37. In any case in which the CPA or the CPA’s assistants are not qualified to perform the work, a professional obligation exists toa. Acquire the requisite knowledge and skillsb. Suggest someone else who is qualified to perform the workc. Decline the engagementd. Any of the above

38. A CPA, while performing an audit, strives to achieve independence in appearance in order toa. Reduce risk and liability.b. Comply with the generally accepted standards of field workc. Become independent in fact.d. Maintain public confidence in the profession.

39. The standard of due audit care requires the auditor toa. Apply judgment in a conscientious manner, carefully weighing the relevant factors beforereaching a decision.b. Ensure that the financial statements are free from error.c. Make perfect judgment decisions in all cases.d. Possess skills clearly above the average for the profession.

40. The third general standards states that due care is to be exercised in the performance of theexamination. This standard should be interpreted to mean that a CPA who undertakes anengagement assumes a duty to perform.a. With reasonable diligence and without fault or error.b. As a professional who will assume responsibility for losses consequent upon error ofjudgment.c. To the satisfaction of the client and third parties who may rely upon it.d. As a professional possessing the degree of skill commonly possessed by others in the field.

41. The third general standard states due care is to be exercised in the performance of an audit.This standard is generally interpreted to requirea. Objective review of the adequacy of the technical training and proficiency of firm personnelb. Critical review of work done at every level of supervisionc. Thorough review of the existing internal control structured. Periodic review of a CPA firm’s quality control procedures.

42. The first standard of fieldwork, which states that the work is to be adequately planned, andassistants, if any, are to be properly supervised, recognizes thata. Early appointment of the auditor is advantageous both to the auditor and to the client.b. Acceptance of an audit engagement after the close of the client's fiscal year is generallynot permissible.c. Appointment of the auditor subsequent to the physical count of inventories requires adisclaimer of opinion.d. Performance of substantial parts of the engagement is necessary at interim dates.43. With respect to the auditor’s planning of a year-end audit, which of the following statements is always true?a. An engagement should not be accepted after the fiscal year-end.b. An inventory count must be observed at the balance sheet date.c. The client’s audit committee should not be told of the specific audit procedures that wereperformed.d. It is an acceptable practice to carry out part of the audit at interim dates.

44. Which of the following statements is incorrect?a. The auditor’s report must state whether the financial statements were prepared with GAAP.b. The auditor’s report must state whether GAAP was consistently followed from the priorperiod to the current period.c. The auditor’s report must imply whether the client has provided adequate disclosure on the financial statements and in the accompanying notes.d. The auditor’s report must express an opinion on the financial statements taken as a whole, or explain why there is no opinion provided.

45. The fourth standard of reporting requires the auditor’s report to contain either an expressionof opinion regarding the financial statements taken as a whole or an assertion to the effect that an opinion cannot be expressed. The objective of the fourth standard is to preventa. An auditor from expressing different opinions on each of the basic financial statements.b. Restrictions on the scope of the examination, whether imposed by the client or by the inability to obtain evidence.c. Misinterpretations regarding the degree of responsibility the auditor is assumingd. An auditor from reporting on one basic financial statement and not the others.

PRE-ENGAGEMENTRelated PSAs: PSA 210

PSA 210 - Terms of Audit EngagementsThe auditor and the client should agree on the terms of the engagement. The agreed terms would need to be recorded in an audit engagement letter or other suitable form of contract.It is in the interest of both client and auditor that the auditor sends an engagement letter, preferably before the commencement of the engagement, to help in avoiding misunderstandings with respect to the engagement.The engagement letter documents and confirms:1. the auditor’s acceptance of the appointment;2. the objective and scope of the audit;3. the extent of the auditor’s responsibilities to the client; and4. the form of any reports.

Principal ContentsThe form and content of audit engagement letters may vary for each client, but they wouldgenerally include reference to:• The objective of the audit of financial statements.• Management’s responsibility for the financial statements.• The scope of the audit, including reference to applicable legislation, regulations, or pronouncements of professional bodies to which the auditor adheres.• The form of any reports or other communication of results of the engagement.• The fact that because of the test nature and other inherent limitations of an audit, togetherwith the inherent limitations of any accounting and internal control system, there is anunavoidable risk that even some material misstatement may remain undiscovered.• Unrestricted access to whatever records, documentation and other information requested in connection with the audit.The auditor may also wish to include in the letter:• Arrangements regarding the planning of the audit.• Expectation of receiving from management written confirmation concerningrepresentations made in connection with the audit.• Request for the client to confirm the terms of the engagement by acknowledging receipt of the engagement letter.• Description of any other letters or reports the auditor expects to issue to the client.• Basis on which fees are computed and any billing arrangements.When relevant, the following points could also be made:• Arrangements concerning the involvement of other auditors and experts in some aspectsof the audit.• Arrangements concerning the involvement of internal auditors and other client staff.• Arrangements to be made with the predecessor auditor, if any, in the case of an initial audit.• Any restriction of the auditor’s liability when such possibility exists.• A reference to any further agreements between the auditor and the client.Audits of ComponentsWhen the auditor of a parent entity is also the auditor of its subsidiary, branch or division(component), the factors that influence the decision whether to send a separate engagement letter to the component include:• Who appoints the auditor of the component.• Whether a separate audit report is to be issued on the component.

• Legal requirements.• The extent of any work performed by other auditors.• Degree of ownership by parent.• Degree of independence of the component’s management.Recurring AuditsOn recurring audits, the auditor should consider whether circumstances require the terms of theengagement to be revised and whether there is a need to remind the client of the existing terms of the engagement.The auditor may decide not to send a new engagement letter each period. However, the following factors may make it appropriate to send a new letter:• Any indication that the client misunderstands the objective and scope of the audit.• Any revised or special terms of the engagement.• A recent change of senior management, board of directors or ownership.• A significant change in nature or size of the client’s business.• Legal requirements.Acceptance of a Change in EngagementA request from the client for the auditor to change the engagement may result from:1. a change in circumstances affecting the need for the service;2. a misunderstanding as to the nature of an audit or related service originally requested; or3. a restriction on the scope of the engagement, whether imposed by management or causedby circumstances.Items 1 and 2 would ordinarily be considered a reasonable basis for requesting a change in theengagement. In contrast a change would not be considered reasonable if it appeared that thechange relates to information that is incorrect, incomplete or otherwise unsatisfactory.If the auditor agreed to a change of the engagement:• the auditor and the client should agree on the new terms;• the report issued would be that appropriate for the revised terms of engagement; and• in order to avoid confusing the reader, the report would not include reference to:(a) The original engagement; or(b) Any procedures that may have been performed in the original engagement, exceptwhere the engagement is changed to an engagement to undertake agreed-uponprocedures and thus reference to the procedures performed is a normal part of the report.If the auditor is unable to agree to a change of engagement and is not permitted to continue theoriginal agreement:• the auditor should withdraw; and• consider whether there is any obligation, either contractual or otherwise, to report to otherparties, such as the board of directors or shareholders, the circumstances necessitatingthe withdrawal.

MULTIPLE CHOICE QUESTIONS1. Prior to the acceptance of an audit engagement with a client who has terminated the servicesof the predecessor auditor, the CPA shoulda. Contact the predecessor auditor without advising the prospective client and request acomplete report of the circumstance leading to the termination with the understanding thatall information disclosed will be kept confidential.b. Accept the engagement without contacting the predecessor auditor since the CPA can include audit procedures to verify the reason given by the client for the termination.c. Not communicate with the predecessor auditor because this would in effect be asking the auditor to violate the confidential relationship between auditor and client.d. Advise the client of the intention to contact the predecessor auditor and request permission for the contact.

2. Before accepting an audit engagement, a successor auditor should make specific inquiries ofthe predecessor auditor regarding the predecessor’sa. Opinion of any subsequent events occurring since the predecessor’s audit report was issued.b. Understanding as to the reasons for the change of auditors.c. Awareness of the consistency in the application of GAAP between periods.d. Evaluation of all matters of continuing accounting significance.

3. A successor auditor most likely would make specific inquiries of the predecessor auditorregardinga. Specialized accounting principles of the client’s industry.b. The competency of the client’s internal audit staff.c. The uncertainty inherent in applying sampling procedures.d. Disagreements with management as to auditing procedures.

4. Which of the following should an auditor obtain from the predecessor auditor prior toaccepting an audit engagement?a. Analysis of balance sheet accountsb. Analysis of income statement accountsc. All matters of continuing accounting significanced. Facts that might bear on the integrity of management

5. When an independent auditor is approached to perform an audit for the first time, he or sheshould make inquiries of the predecessor auditor. Inquiries are necessary because the predecessor may be able to provide the successor with information that will assist the successor in determining whethera. The predecessor’s work should be used.b. The company rotates auditors.c. In the predecessor’s opinion, control risk is low.d. The engagement should be accepted.

6. If permission from client to discuss its affairs with the proposed auditor is denied by the client,the predecessor auditor should:a. Keep silent of the denial.b. Disclose the fact that the permission to disclose is denied by the client.c. Disclose adequately to proposed auditor all noncompliance made by the client.d. Seek legal advice before responding to the proposed auditor

7. The objective and scope of the audit and the extent of the auditor’s responsibilities to theclient are best documented ina. Independent auditor’s report c. Client’s representation letterb. Audit engagement letter d. Audit program

8. The following are valid reasons why an auditor sends to his client an engagement letter:A B C D

a. Avoid misunderstanding with respect to engagement Yes Yes No Yesb. Confirms the auditor’s acceptance of the appointment Yes Yes Yes Noc. Objective and scope of the audit Yes Yes Yes Yesd. Assures CPA’s compliance to GAAS Yes No No Yes

9. Which of the following is appropriately included in an audit engagement letter?I. Because of the test nature and other inherent limitations of an audit, together with theinherent limitations of any accounting and internal control system, there is an unavoidablerisk that even some material misstatements may remain undiscovered.II. The audit will be made with the objective of expressing an opinion on the financial statements.III. An audit also includes assessing the accounting procedures used and significant estimates made by management.a. I and II c. II and IIIb. I and III d. I, II and III

10. Which of the following is least likely included in an audit engagement letter?a. The objective of financial reporting.b. Management responsibility for the financial statements.c. The form of any reports or other communication of the results of the engagement.d. Arrangement concerning the involvement of other auditors or experts in some aspects of the audit.

11. An audit engagement letter least likely includesa. A reference to the inherent limitation of an audit that some material misstatements may remain undiscovered.b. Identification of specific audit procedures that the auditor needs to undertake.c. Description of any letters or reports that the auditor expects to submit to the client.d. Arrangements concerning the involvement of internal auditors and other client’s staff.

12. Which of the following least likely requires the auditor to send a new engagement letter?a. An indication that the client misunderstands the objective and scope of the audit.b. Any revised or special terms of the engagement.c. A recent change in the audit firm’s management.d. Legal requirements and other government agencies’ pronouncements.

13. Which of the following least likely influence the auditor’s decision to send a separateengagement letter to a component of parent entity client?a. Legal requirementsb. Degree of ownership over a component entity by parent companyc. Location of the principal place of business of the component entityd. Who appoints the auditor of the component

14. According to PSA 210, which of the following statements is correct?a. The auditor and the client need not agree on the terms of the engagement.b. Where the terms of the engagement are changed, the auditor and the client need not agree on the new terms if they already agreed on the old terms.c. The engagement letter assists in the supervision and review of the audit work.d. The auditor may agree to a change of engagement where there is reasonable justification for doing so.

15. Which of the following is a NOT valid reason for a change of the engagement to a lower “level of assurance”?a. Change in circumstances affecting the need for the service.b. Restriction on the scope of the engagement.c. Misunderstanding as to the nature of the engagement originally requested.d. The client’s need is satisfied by an engagement that provides lower level of assurance.

16. When a change in the type of engagement from higher to lower level of assurance is reasonably justified, the report based on the revised engagementa. Should contain a separate paragraph that refers to the original engagement.b. Should always refer to any procedures that may have been performed in the original engagement.c. Should qualify the opinion due to scope limitation.d. Omits reference to the original engagement.

17. Which of the following actions may be appropriate if the auditor is unable to agree to achange of the engagement and is not permitted to continue the original engagementI. Issue a qualified opinion due to a significant scope limitation.II. Auditor should withdraw from the engagement.III. Consider whether there is any obligation to report to the board of directors orshareholders the circumstances necessitating withdrawala. I only c. II and IIIb. I and II d. I, II and III