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Auditing An International Approach 7 Edition By Bewley – Test Bank A+

$35.00
Auditing An International Approach 7 Edition By Bewley – Test Bank A+

Auditing An International Approach 7 Edition By Bewley – Test Bank A+

$35.00
Auditing An International Approach 7 Edition By Bewley – Test Bank A+

Business processes cross boundaries between functional areas of an organization. Business process management systems have been facilitated by _______.

A.management information systems

B.enterprise resource planning systems

C.database management systems

D.Web-based application systems

2.The business process view also highlights the fact that business organizations ________.

A.differ in terms of the technology they use

B.essentially all perform the same activities

C.should simplify their business to follow clear rules

D.work best when run as a hierarchy

3.Quality of earnings refers to ________.

A.the accuracy of the net income calculation

B.a company’s ability to continue earning at its current level

C.how closely earnings per share agree to analyst predictions

D.the percentage of net income to total revenue

4.The audit objective specifying that “all recorded assets, liabilities, and transactions represent real assets, liabilities, revenues, and expenses” is related most closely to which assertion(s)?

A.Existence or occurrence.

B.Rights and obligations.

C.Completeness.

D.Presentation and disclosure.

5.Three key management assertions about items on the balance sheet are ________.

A.occurrence, completeness, and accuracy

B.classification, existence, and cut-off

C.confirmation, presentation, and disclosure

D.existence, completeness, and presentation

6.The valuation assertion includes ________.

A.the measurement assumption used

B.ensuring all inventory is counted

C.making sure that all receivables relate to sales during the year

D.the method of presenting short-term and long-term liabilities

7.What is inherent risk?

A.The probability that some accounts are more susceptible to misstatement than others.

B.The probability that the client’s internal control policies and procedures will fail to detect material misstatements.

C.The probability that material misstatements have occurred in transactions entering the accounting system used to develop financial statements.

D.The probability that the auditor may not detect material misstatements in the financial statements.

8.Theoretically, when assessing the inherent risk related to an account balance, an auditor does not explicitly consider the ________.

A.liquidity of the account

B.management estimates involved in determining the account balance

C.internal control policies and procedures

D.complexity of calculations involved

9.The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the ________.

A.factors that raise doubts about the auditability of the financial statements

B.operating effectiveness of internal control policies and procedures

C.risk that material misstatements exist in the financial statements

D.possibility that the nature and extent of substantive tests may be reduced

10.The risk that an auditor’s procedures will lead to the conclusion that a material misstatement does not exist in an account balance when, in fact, such misstatement actually does exist is ________.

A.audit risk

B.inherent risk

C.control risk

D.detection risk

11.The probability that an auditor will give an inappropriate opinion on the financial statements best describes ________.

A.audit risk

B.inherent risk

C.control risk

D.detection risk

12.The existence of audit risk is recognized by the statement in the auditor’s standard report that the auditor ________.

A.obtains reasonable assurance about whether the financial statements are free of material misstatement

B.assesses the accounting principles used and also evaluates the overall financial statement presentation

C.realizes some matters, either individually or in the aggregate, are important while other matters are not important

D.is responsible for expressing an opinion on the financial statements, which are the responsibility of management

13.If control risk increases and all other risks in the audit risk model stay constant (except the one referred to below), which of the following is correct?

A.Detection risk must increase.

B.Inherent risk will increase.

C.Audit risk will decrease.

D.Detection risk must decrease.

14.The acceptable level of detection risk is inversely related to the ________.

A.assurance provided by substantive tests

B.risk of misapplying auditing procedures

C.preliminary judgment about materiality levels

D.risk of failing to discover material misstatements

15.After obtaining an understanding of the internal control system and assessing control risk, an auditor decided not to perform additional tests of controls. The auditor most likely concluded that ________.

A.the additional evidence to support a further reduction in control risk was not cost-beneficial

B.the assessed level of inherent risk exceeded the assessed level of control risk

C.the internal control system was properly designed and justifiably may be relied on

D.the evidence obtainable through tests of controls would not support an increased level of control risk

16.Inherent risk and control risk differ from detection risk in that they ________.

A.arise from the misapplication of auditing procedures

B.may be assessed in either quantitative or non-quantitative terms

C.exist independently of the financial statement audit

D.can be changed at the auditor’s discretion

17.On the basis of audit evidence gathered and evaluated, an auditor decides to increase the assessed level of control risk from that originally planned. To achieve an overall audit risk level that is substantially the same as the planned audit risk level, the auditor would ________.

A.decrease substantive testing

B.decrease detection risk

C.increase inherent risk

D.increase materiality levels

18.When an auditor increases the planned assessed level of control risk because certain control procedures were determined to be ineffective, the auditor would most likely increase the ________.

A.extent of tests of details

B.level of inherent risk

C.extent of tests of controls

D.level of detection risk

19.What is the definition of business risk?

A.An event or action that will make it more difficult for an organization to achieve its objectives.

B.An event or action that causes an organization to become bankrupt.

C.An event or action that causes an organization’s financial statements to be materially incorrect.

D.Unfortunate events or actions that are common to all businesses in the economy.

20.An auditor begins the identification of business risks by doing what?

A.Preliminary analysis.

B.Financial analysis.

C.Strategic analysis.

D.Horizontal analysis.

21.One way to think of an accounting process is as a cycle. The idea of a cycle reflects that ________.

A.transactions have to undergo a series of procedures before being recorded in the accounts

B.transactions are not complete until they are recorded

C.there is a set of accounts that record transaction information from the same business process

D.every business process results in the start of another process

22.An auditor might suspect that the auditee is in financial difficulty if ________.

A.the auditee offers more generous customer credit terms

B.the auditee takes a large bank loan at market rates

C.sales increase and inventory increases

D.purchases increase and payables increase

23.An auditor considers two factors in understanding business risks. What are they?

A.The likelihood of a risk occurring and the materiality of the risk.

B.The magnitude of the risk and the type of risk.

C.The likelihood of the risk occurring and the type of risk.

D.The likelihood of a risk occurring and the magnitude the risk.

24.There are two parts to business risk analysis: process analysis and industry analysis.

True False

25.Business processes can be thought of as a structured set of activities within an entity.

True False

26.An organization with a very hierarchical structure is typical of companies in complex business environments as this structure reduces the ability of a junior employee to make a wrong decision.

True False

27.The audit objective related to existence is to obtain evidence that the asset, liability or equity exists physically or legally.

True False

28.A completeness error occurs when an account balance is overstated.

True False

29.Auditors do not create or control inherent risk; they can only try to assess its magnitude.

True False

30.Control risk is the probability that audit procedures will fail to detect material misstatements in the financial statements.

True False

31.Detection risk is the probability that audit procedures will produce evidence of material misstatements.

True False

32.Audit risk is the probability that an auditor will give an inappropriate opinion on financial statements.

True False

33.As control risk gets smaller, audit risk gets larger, assuming all other risks stay constant.

True False

34.Generally accepted auditing standards permit auditors to place complete reliance on internal control (zero control risk assessment) to justify the exclusion of substantive audit procedures for a balance sheet or income statement account.

True False

35.Auditors find it easier to audit related accounts instead of attacking each account on its own.

True False

36.Risk should not be tolerated on a cost-benefit basis.

True False

37.Give some examples of cut off errors and explain what management assertions are affected by such errors.

38.Decisions involving the proper application of GAAP primarily involve which management assertion? Give some examples.

39.An auditor examines an organization’s strategy to determine its objectives. After assessing whether the strategy is guiding the whole operation, what steps will the auditor take next? What key management assertion can be affected by any weakness in the strategy?

40.Define control risk.

41.Can an auditor place complete reliance on internal control to the exclusion of other audit procedures? Explain your answer using the audit risk model.

42.Discuss four ways of managing risk in an organization.

c6 Key

1.Business processes cross boundaries between functional areas of an organization. Business process management systems have been facilitated by _______.

A.management information systems

B.enterprise resource planning systems

C.database management systems

D.Web-based application systems

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #1
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

2.The business process view also highlights the fact that business organizations ________.

A.differ in terms of the technology they use

B.essentially all perform the same activities

C.should simplify their business to follow clear rules

D.work best when run as a hierarchy

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #2
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

3.Quality of earnings refers to ________.

A.the accuracy of the net income calculation

B.a company’s ability to continue earning at its current level

C.how closely earnings per share agree to analyst predictions

D.the percentage of net income to total revenue

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #3
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

4.The audit objective specifying that “all recorded assets, liabilities, and transactions represent real assets, liabilities, revenues, and expenses” is related most closely to which assertion(s)?

A.Existence or occurrence.

B.Rights and obligations.

C.Completeness.

D.Presentation and disclosure.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #4
Topic: 06-04 Financial Statement Assertions and Audit Objectives
Topic: 06-05 Assertions in Financial Statements
Topic: 06-06 Existence (Occurrence)

5.Three key management assertions about items on the balance sheet are ________.

A.occurrence, completeness, and accuracy

B.classification, existence, and cut-off

C.confirmation, presentation, and disclosure

D.existence, completeness, and presentation

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #5
Topic: 06-04 Financial Statement Assertions and Audit Objectives
Topic: 06-05 Assertions in Financial Statements

6.The valuation assertion includes ________.

A.the measurement assumption used

B.ensuring all inventory is counted

C.making sure that all receivables relate to sales during the year

D.the method of presenting short-term and long-term liabilities

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #6
Topic: 06-04 Financial Statement Assertions and Audit Objectives
Topic: 06-05 Assertions in Financial Statements
Topic: 06-09 Valuation (Measurement and Allocation)

7.What is inherent risk?

A.The probability that some accounts are more susceptible to misstatement than others.

B.The probability that the client’s internal control policies and procedures will fail to detect material misstatements.

C.The probability that material misstatements have occurred in transactions entering the accounting system used to develop financial statements.

D.The probability that the auditor may not detect material misstatements in the financial statements.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #7
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-18 Combined Inherent and Control Risk: The Risk of Material Misstatement

8.Theoretically, when assessing the inherent risk related to an account balance, an auditor does not explicitly consider the ________.

A.liquidity of the account

B.management estimates involved in determining the account balance

C.internal control policies and procedures

D.complexity of calculations involved

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #8
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-18 Combined Inherent and Control Risk: The Risk of Material Misstatement

9.The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the ________.

A.factors that raise doubts about the auditability of the financial statements

B.operating effectiveness of internal control policies and procedures

C.risk that material misstatements exist in the financial statements

D.possibility that the nature and extent of substantive tests may be reduced

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #9
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-19 Detection Risk

10.The risk that an auditor’s procedures will lead to the conclusion that a material misstatement does not exist in an account balance when, in fact, such misstatement actually does exist is ________.

A.audit risk

B.inherent risk

C.control risk

D.detection risk

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #10
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-19 Detection Risk

11.The probability that an auditor will give an inappropriate opinion on the financial statements best describes ________.

A.audit risk

B.inherent risk

C.control risk

D.detection risk

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #11
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

12.The existence of audit risk is recognized by the statement in the auditor’s standard report that the auditor ________.

A.obtains reasonable assurance about whether the financial statements are free of material misstatement

B.assesses the accounting principles used and also evaluates the overall financial statement presentation

C.realizes some matters, either individually or in the aggregate, are important while other matters are not important

D.is responsible for expressing an opinion on the financial statements, which are the responsibility of management

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Difficult
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #12
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

13.If control risk increases and all other risks in the audit risk model stay constant (except the one referred to below), which of the following is correct?

A.Detection risk must increase.

B.Inherent risk will increase.

C.Audit risk will decrease.

D.Detection risk must decrease.

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #13
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-19 Detection Risk

14.The acceptable level of detection risk is inversely related to the ________.

A.assurance provided by substantive tests

B.risk of misapplying auditing procedures

C.preliminary judgment about materiality levels

D.risk of failing to discover material misstatements

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Difficult
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #14
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model
Topic: 06-19 Detection Risk

15.After obtaining an understanding of the internal control system and assessing control risk, an auditor decided not to perform additional tests of controls. The auditor most likely concluded that ________.

A.the additional evidence to support a further reduction in control risk was not cost-beneficial

B.the assessed level of inherent risk exceeded the assessed level of control risk

C.the internal control system was properly designed and justifiably may be relied on

D.the evidence obtainable through tests of controls would not support an increased level of control risk

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Difficult
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #15
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-17 Control Risk
Topic: 06-18 Combined Inherent and Control Risk: The Risk of Material Misstatement

16.Inherent risk and control risk differ from detection risk in that they ________.

A.arise from the misapplication of auditing procedures

B.may be assessed in either quantitative or non-quantitative terms

C.exist independently of the financial statement audit

D.can be changed at the auditor’s discretion

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #16
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

17.On the basis of audit evidence gathered and evaluated, an auditor decides to increase the assessed level of control risk from that originally planned. To achieve an overall audit risk level that is substantially the same as the planned audit risk level, the auditor would ________.

A.decrease substantive testing

B.decrease detection risk

C.increase inherent risk

D.increase materiality levels

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #17
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

18.When an auditor increases the planned assessed level of control risk because certain control procedures were determined to be ineffective, the auditor would most likely increase the ________.

A.extent of tests of details

B.level of inherent risk

C.extent of tests of controls

D.level of detection risk

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #18
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

19.What is the definition of business risk?

A.An event or action that will make it more difficult for an organization to achieve its objectives.

B.An event or action that causes an organization to become bankrupt.

C.An event or action that causes an organization’s financial statements to be materially incorrect.

D.Unfortunate events or actions that are common to all businesses in the economy.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 06-04 Explain the usefulness and limitations of the audit risk model in conducting the audit.
Smieliauskas – Chapter 06 #19
Topic: 06-20 Working with the Audit Risk Model
Topic: 06-21 How Materiality and Audit Risk Are Related
Topic: 06-22 Business Risk and the Audit Risk Model

20.An auditor begins the identification of business risks by doing what?

A.Preliminary analysis.

B.Financial analysis.

C.Strategic analysis.

D.Horizontal analysis.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-04 Explain the usefulness and limitations of the audit risk model in conducting the audit.
Smieliauskas – Chapter 06 #20
Topic: 06-20 Working with the Audit Risk Model
Topic: 06-21 How Materiality and Audit Risk Are Related
Topic: 06-22 Business Risk and the Audit Risk Model

21.One way to think of an accounting process is as a cycle. The idea of a cycle reflects that ________.

A.transactions have to undergo a series of procedures before being recorded in the accounts

B.transactions are not complete until they are recorded

C.there is a set of accounts that record transaction information from the same business process

D.every business process results in the start of another process

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-05 Outline the relationships among the business processes and accounting processes (or cycles) that constitute an organization’s information system and generate management’s general purpose financial statements.
Smieliauskas – Chapter 06 #21
Topic: 06-23 Accounting Processes and the Financial Statements

22.An auditor might suspect that the auditee is in financial difficulty if ________.

A.the auditee offers more generous customer credit terms

B.the auditee takes a large bank loan at market rates

C.sales increase and inventory increases

D.purchases increase and payables increase

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Difficult
Learning Objective: 06-05 Outline the relationships among the business processes and accounting processes (or cycles) that constitute an organization’s information system and generate management’s general purpose financial statements.
Smieliauskas – Chapter 06 #22
Topic: 06-23 Accounting Processes and the Financial Statements

23.An auditor considers two factors in understanding business risks. What are they?

A.The likelihood of a risk occurring and the materiality of the risk.

B.The magnitude of the risk and the type of risk.

C.The likelihood of the risk occurring and the type of risk.

D.The likelihood of a risk occurring and the magnitude the risk.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-07 (Appendix 6A) Explain how an auditor uses an understanding of the auditee’s business risk and its management risk assessment processes to assess the risk of material misstatement in the assertions of its financial statements.
Smieliauskas – Chapter 06 #23
Topic: 06-23 Accounting Processes and the Financial Statements

24.There are two parts to business risk analysis: process analysis and industry analysis.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #24
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

25.Business processes can be thought of as a structured set of activities within an entity.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #25
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

26.An organization with a very hierarchical structure is typical of companies in complex business environments as this structure reduces the ability of a junior employee to make a wrong decision.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.
Smieliauskas – Chapter 06 #26
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements
Topic: 06-02 Business Processes
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements

27.The audit objective related to existence is to obtain evidence that the asset, liability or equity exists physically or legally.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #27
Topic: 06-05 Assertions in Financial Statements
Topic: 06-06 Existence (Occurrence)

28.A completeness error occurs when an account balance is overstated.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #28
Topic: 06-05 Assertions in Financial Statements
Topic: 06-07 Completeness

29.Auditors do not create or control inherent risk; they can only try to assess its magnitude.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #29
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

30.Control risk is the probability that audit procedures will fail to detect material misstatements in the financial statements.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #30
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

31.Detection risk is the probability that audit procedures will produce evidence of material misstatements.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #31
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

32.Audit risk is the probability that an auditor will give an inappropriate opinion on financial statements.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #32
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

33.As control risk gets smaller, audit risk gets larger, assuming all other risks stay constant.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #33
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

34.Generally accepted auditing standards permit auditors to place complete reliance on internal control (zero control risk assessment) to justify the exclusion of substantive audit procedures for a balance sheet or income statement account.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #34
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-16 Inherent Risk
Topic: 06-17 Control Risk
Topic: 06-19 Detection Risk

35.Auditors find it easier to audit related accounts instead of attacking each account on its own.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-05 Outline the relationships among the business processes and accounting processes (or cycles) that constitute an organization’s information system and generate management’s general purpose financial statements.
Smieliauskas – Chapter 06 #35
Topic: 06-23 Accounting Processes and the Financial Statements

36.Risk should not be tolerated on a cost-benefit basis.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-07 (Appendix 6A) Explain how an auditor uses an understanding of the auditee’s business risk and its management risk assessment processes to assess the risk of material misstatement in the assertions of its financial statements.
Smieliauskas – Chapter 06 #36
Topic: 06-23 Accounting Processes and the Financial Statements

37.Give some examples of cut off errors and explain what management assertions are affected by such errors.

An example of a cutoff error would be if sales that were shipped after year-end were recorded in sales for the year. Another example would be if expenses for which no invoice has been received are not recorded as a liability. The management assertions affected are completeness and existence or occurrence.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #37
Topic: 06-07 Completeness

38.Decisions involving the proper application of GAAP primarily involve which management assertion? Give some examples.

The valuation and allocation assertion often involves decisions about the proper application of GAAP. Examples would be the selection of depreciation method, or valuing inventory at the lower of cost and net realizable value.

Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #38
Topic: 06-09 Valuation (Measurement and Allocation)

39.An auditor examines an organization’s strategy to determine its objectives. After assessing whether the strategy is guiding the whole operation, what steps will the auditor take next? What key management assertion can be affected by any weakness in the strategy?

An auditor must consider whether the strategy has considered all of the risks which might threaten the success of the strategy. The auditor must also enquire as to whether lower levels of management are implementing the strategy or are operating in a way that is contrary to the organization’s strategy.
If senior management has neglected an important area of risk or if management is operating contrary to the strategy, the success of the organization may be in jeopardy. This can affect the valuation assertion on major investments in fixed assets or goodwill. It can even affect the going concern assumption underlying all asset values.

Blooms: Comprehension
Difficulty: Difficult
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.
Smieliauskas – Chapter 06 #39
Topic: 06-09 Valuation (Measurement and Allocation)

40.Define control risk.

Control risk is the risk that the system of internal controls will not prevent fraud or material errors in the financial statements.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #40
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-17 Control Risk

41.Can an auditor place complete reliance on internal control to the exclusion of other audit procedures? Explain your answer using the audit risk model.

An auditor cannot place complete reliance on internal control to the exclusion of other audit procedures. You cannot have a condition where AR = IR × CR(= 0) × DR = 0. Some control risk will always exist because of the inherent limitations of any system of internal control.

Blooms: Application
Difficulty: Moderate
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.
Smieliauskas – Chapter 06 #41
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision
Topic: 06-15 The Audit Risk Model

42.Discuss four ways of managing risk in an organization.

Risks can be managed in any of four ways:

i. Risk can be avoided by not performing those business activities which cause the risk to occur.
ii. Risk can be reduced to an acceptable level by embedding management controls in business processes.
iii. Risk can be tolerated if the costs of reducing it outweigh the benefits of reducing it.
iv. Risk can be transferred to another party by a contract such as an insurance contract or a derivative.

Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 06-07 (Appendix 6A) Explain how an auditor uses an understanding of the auditee’s business risk and its management risk assessment processes to assess the risk of material misstatement in the assertions of its financial statements.
Smieliauskas – Chapter 06 #42
Topic: 06-23 Accounting Processes and the Financial Statements

c6 Summary

Category# of Questions
Accessibility: Keyboard Navigation36
Blooms: Application4
Blooms: Comprehension20
Blooms: Knowledge18
Difficulty: Difficult5
Difficulty: Easy26
Difficulty: Moderate11
Learning Objective: 06-01 Explain how the auditor’s understanding of the business risks is used to assess the risk of material misstatement at the financial statement level.6
Learning Objective: 06-02 Identify the principal assertions in management’s financial statements and the related risks of material misstatement.8
Learning Objective: 06-03 Describe the conceptual audit risk model and its components.20
Learning Objective: 06-04 Explain the usefulness and limitations of the audit risk model in conducting the audit.2
Learning Objective: 06-05 Outline the relationships among the business processes and accounting processes (or cycles) that constitute an organization’s information system and generate management’s general purpose financial statements.3
Learning Objective: 06-07 (Appendix 6A) Explain how an auditor uses an understanding of the auditee’s business risk and its management risk assessment processes to assess the risk of material misstatement in the assertions of its financial statements.3
Smieliauskas – Chapter 0642
Topic: 06-01 Business Risk and the Risk of Material Misstatement of the Financial Statements6
Topic: 06-02 Business Processes6
Topic: 06-03 Applying an Understanding of the Business to a Critical Assessment of Management’s Financial Statements6
Topic: 06-04 Financial Statement Assertions and Audit Objectives3
Topic: 06-05 Assertions in Financial Statements5
Topic: 06-06 Existence (Occurrence)2
Topic: 06-07 Completeness2
Topic: 06-09 Valuation (Measurement and Allocation)3
Topic: 06-13 Audit Risk: An Essential Audit Planning Decision13
Topic: 06-14 Audit Risk: An Essential Audit Planning Decision14
Topic: 06-15 The Audit Risk Model7
Topic: 06-16 Inherent Risk8
Topic: 06-17 Control Risk8
Topic: 06-18 Combined Inherent and Control Risk: The Risk of Material Misstatement3
Topic: 06-19 Detection Risk10
Topic: 06-20 Working with the Audit Risk Model2
Topic: 06-21 How Materiality and Audit Risk Are Related2
Topic: 06-22 Business Risk and the Audit Risk Model2
Topic: 06-23 Accounting Processes and the Financial Statements6

c7

Student: ___________________________________________________________________________

1.An auditor can broadly define controls as ________.

A.those elements of an organization that, taken together, support people in achieving an organization’s objectives

B.those systems, processes, and procedures that prevent fraud

C.key performance indicators employed by management to measure an organization’s success

D.the structure and culture of an organization which helps to eliminate risk

2.Internal control includes ________.

A.control activities and inherent risks

B.information systems and external influences

C.the control environment and risk assessment processes

D.financial reporting and control activities

3.Two broad groupings of controls are ________.

A.internal controls and segregation of duties

B.physical access controls and password controls

C.validity checks and completeness checks

D.general controls and application controls

4.A critical element of control is monitoring. What is likely to happen if management fails to monitor an internal control?

A.Necessary improvements will not be identified.

B.Personnel are likely to stop observing the control.

C.The inherent risk of an error will increase.

D.The auditor is likely to assume the control is working when it might not be.

5.Financial statement fraud is considered when someone knowingly makes material misrepresentations of fact with the intent of making someone believe the falsehood and suffer a loss as a result of acting upon that falsehood. Which of the following would be considered fraud?

A.Increasing the returns allowance as a result of unusually high sales near year end.

B.Transferring non-performing assets at historical values to a non-consolidated subsidiary.

C.Employee theft from petty cash.

D.Purchasing several months’ supply of office supplies in order to qualify for a large volume discount.

6.If an employee or non-employee wrongfully takes money or property entrusted to their care, custody, and control, this is known as ________.

A.white-collar crime

B.embezzlement

C.fraud

D.irregularity

7.Which of the following is not a characteristic of fraud?

A.Intent to deceive.

B.Misrepresentation or intentional omission of significant information.

C.Taking unfair or dishonest advantage of others for personal gain.

D.Negligence on the part of executive management.

8.Defalcation is another name for _______.

A.fraud

B.white-collar crime

C.embezzlement

D.irregularities

9.Unintentional misstatements or omissions of amounts or disclosures in financial statements are known as ________.

A.errors

B.irregularities

C.fraud

D.embezzlement

10.A good reason for involving fraud auditors in the planning of a regular audit of financial statements is _______.

A.when there are many fraud risk factors

B.when the audit committee authorizes further investigation

C.it makes the client aware of how seriously the auditor takes its fraud detection responsibility

D.it improves the documentation standards of the financial statement audit

11.Which of the following is normally considered an accounting estimate?

A.Credit sales.

B.Amortization of capital assets.

C.Repairs and maintenance expense.

D.Audit fees.

12.To whom should immaterial errors should be reported?

A.No one.

B.The audit committee.

C.Senior management.

D.The manager at least one level above the people involved.

13.When an auditor becomes aware of a possible illegal act by a client, the auditor should obtain an understanding of the nature of the act in order to ________.

A.evaluate the effect on the financial statements

B.determine the reliability of management’s representations

C.consider whether other similar acts may have occurred

D.recommend remedial actions to the audit committee

14.The possibility that fraud has resulted in intentional misstatement in the financial statements is known as ________.

A.audit risk

B.control risk

C.detection risk

D.fraud risk

15.An auditor who discovers that client employees have committed an illegal act with material consequences on the financial statements is most likely to seek legal advice and consider withdrawing from the engagement if ________.

A.the illegal act is a violation of generally accepted accounting principles

B.the client does not take appropriate action after being informed about the illegal act

C.the illegal act was committed during a prior year that was not audited

D.the auditor has already assessed control risk at the maximum level

16.The primary responsibility for the prevention and detection of fraud rests with ________.

A.external auditors

B.internal auditors

C.management

D.the Audit Committee

17.Statistics on fraud show that ________.

A.senior executives commit the highest number of frauds and the senior executives cause the highest losses due to fraud

B.employees below the level of senior executives commit the highest number of frauds and cause the highest losses due to fraud

C.senior executives commit the highest number of frauds and employees below the level of the senior executives cause the highest losses due to fraud

D.employees below the level of senior executives commit the highest number of frauds but the senior executives commit the highest-value frauds

18.If a supervisor sets a bad example by taking office supplies home for personal use, this affects which of the following factors that lead to fraud?

A.Fraud incentive.

B.Fraud opportunity.

C.Fraud rationalization.

D.Fraud detection.

19.Which of the following is not considered one of the three factors that increase the probability of fraud?

A.Motive.

B.Lack of training.

C.Opportunity.

D.Lack of integrity.

20.What is the most important factor affecting the risk of management fraud?

A.Lack of integrity.

B.Lack of internal controls

C.Lack of board of director involvement in organization.

D.Lack of audited financial statements.

21.Terrance was a model, longstanding employee who liked his job, but he felt that he was underpaid for what he contributed to the organization. As a result, he decided to start taking office supplies home to “even the score.” This is an example of ________.

A.fraud opportunity

B.fraud incentive

C.fraud rationalization

D.misstatement

22.Riley embezzled a large sum of money from his company and gave it to his friend who recently lost his job and was in danger of losing his home. This is an example of what type of motivation?

A.Psychotic.

B.Egocentric.

C.Ideological.

D.Economic.

23.“Thinking like a crook” is central to ________.

A.embezzlement

B.fraud awareness auditing

C.rationalization

D.defalcation

24.A fraud detection tool that assesses a firm along the five dimensions of accrual quality, financial performance, nonfinancial measures, off-balance sheet activities, and market-based incentives is called the ________.

A.Fraud Detector

B.Embezzlease

C.F-Score

D.Red Flagger

25.Certain conditions are often present when a manager prepares deliberately misstated financial statements. Which of the following is NOT such a condition?

A.Unfavourable industry conditions.

B.Lack of working capital.

C.Low debt.

D.Slow customer collections.

26.A fraud that involves the improper recognition of assets is known as a ________.

A.red flag

B.dangling debit

C.dangling credit

D.profit squeeze

27.Intentionally overstating revenues and assets or understating expenses and liabilities is known as ________.

A.creative accounting

B.dangling

C.employee fraud

D.defalcation

28.The first digit in a social insurance number ________.

A.has no meaning

B.is related to the date of birth of the recipient

C.indicates the province or region where the number was issued

D.is sequentially numbered based on when the card was issued

29.Company-level controls can have a big impact on a company’s financial reporting.

True False

30.Since management is most familiar with an organization, they should sit on the board of directors and advise those charged with governance of the organization.

True False

31.Management’s philosophy and operating style have to do with how the business is operated and are not part of the internal control environment.

True False

32.To assess the risk of material misstatement at the financial statement level, the auditor needs a detailed knowledge of internal control components relevant to financial reporting.

True False

33.Management fraud is an intentional act that injures investors or creditors.

True False

34.Fraudulent financial reporting is an intentional act that results in materially misleading financial statements.

True False

35.Fraudulent financial reporting is a type of fraud perpetrated by management through exploitation of its authority.

True False

36.Errors can be either intentional or unintentional misstatements in financial statements.

True False

37.Auditors have taken on increased responsibility for detecting fraud and other illegal acts in recent years.

True False

38.CAS 240 requires auditors to ignore the traditional assumption of management’s honesty.

True False

39.Auditors are responsible for making reasonable accounting estimates on behalf of management.

True False

40.External auditors are required to report illegal acts to the appropriate governmental agency within 30 days of finding them.

True False

41.All errors and irregularities, including trivial ones, should be reported to the audit committee.

True False

42.A materiality standard does not exist for frauds.

True False

43.Over 90% of frauds are discovered by external or internal auditors.

True False

44.An economic motive for fraud is the need for money.

True False

45.Lack of integrity is the most important factor affecting the risk of management fraud.

True False

46.An organization’s risk control frameworks are not very useful to auditors for assessing risks at the company level and for auditing controls over financial reporting.

True False

47.Most frauds are committed by people below the top executive levels.

True False

48.An F-Score can predict 60% of misstatements in financial statements that eventually come to light as restatements.

True False

49.Misstating financial information in one period to prevent a loan being called for violating debt to equity covenants is okay as long as the violation is reversed in the next period.

True False

50.Knowledge of the characteristics of SIN numbers can be useful to auditors when checking personnel files and the validity of people on the payroll.

True False

51.What are four of the elements of the internal control environment?

52.According to the Criteria of Control Guidance on Control, what are four values and preferences of senior management that can greatly influence an organization?

53.What is the connection between communication and internal control?

54.Define application controls and provide examples.

55.What is employee fraud?

56.For each of the following statements numbered 1 through 5, match the statement to the term (A through D) that it best describes and place the identifying letter in the space provided.

A. Embezzlement or defalcation
B. Management fraud
C. Errors
D. Employee fraud

____ 1. A bookkeeper inadvertently transposed an amount in a journal entry for amortization.
____ 2. An employee in a supermarket takes home bags of fresh fruit every day without paying for them.
____ 3. Embezzlement by pencil or computer.
____ 4. A type of fraud in which employees steal money or property that has been entrusted to their care.
____ 5. The controller changed the journal entry for recording estimated bad debt expense to a smaller amount to hide the poor results from extending credit to high risk customers. This action increased recorded income by a material amount.

57.What is meant by the term “professional skepticism?”

58.How should an auditor handle illegal acts by auditees?

59.In an organization, who are the largest frauds typically committed by?

60.Briefly describe the three factors that increase the probability of fraud.

61.Provide examples of telltale hints that are indications of a cover-up of fraudulent activity in the accounting records.

62.What are the typical conditions or circumstances that often accompany fraudulent financial reporting by management?

c7 Key

1.An auditor can broadly define controls as ________.

A.those elements of an organization that, taken together, support people in achieving an organization’s objectives

B.those systems, processes, and procedures that prevent fraud

C.key performance indicators employed by management to measure an organization’s success

D.the structure and culture of an organization which helps to eliminate risk

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #1
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

2.Internal control includes ________.

A.control activities and inherent risks

B.information systems and external influences

C.the control environment and risk assessment processes

D.financial reporting and control activities

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #2
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

3.Two broad groupings of controls are ________.

A.internal controls and segregation of duties

B.physical access controls and password controls

C.validity checks and completeness checks

D.general controls and application controls

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #3
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

4.A critical element of control is monitoring. What is likely to happen if management fails to monitor an internal control?

A.Necessary improvements will not be identified.

B.Personnel are likely to stop observing the control.

C.The inherent risk of an error will increase.

D.The auditor is likely to assume the control is working when it might not be.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #4
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components
Topic: 07-07 Monitoring Controls

5.Financial statement fraud is considered when someone knowingly makes material misrepresentations of fact with the intent of making someone believe the falsehood and suffer a loss as a result of acting upon that falsehood. Which of the following would be considered fraud?

A.Increasing the returns allowance as a result of unusually high sales near year end.

B.Transferring non-performing assets at historical values to a non-consolidated subsidiary.

C.Employee theft from petty cash.

D.Purchasing several months’ supply of office supplies in order to qualify for a large volume discount.

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Moderate
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #5
Topic: 07-10 Fraud Risk Assessment

6.If an employee or non-employee wrongfully takes money or property entrusted to their care, custody, and control, this is known as ________.

A.white-collar crime

B.embezzlement

C.fraud

D.irregularity

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #6
Topic: 07-10 Fraud Risk Assessment

7.Which of the following is not a characteristic of fraud?

A.Intent to deceive.

B.Misrepresentation or intentional omission of significant information.

C.Taking unfair or dishonest advantage of others for personal gain.

D.Negligence on the part of executive management.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #7
Topic: 07-10 Fraud Risk Assessment

8.Defalcation is another name for _______.

A.fraud

B.white-collar crime

C.embezzlement

D.irregularities

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #8
Topic: 07-10 Fraud Risk Assessment

9.Unintentional misstatements or omissions of amounts or disclosures in financial statements are known as ________.

A.errors

B.irregularities

C.fraud

D.embezzlement

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #9
Topic: 07-10 Fraud Risk Assessment

10.A good reason for involving fraud auditors in the planning of a regular audit of financial statements is _______.

A.when there are many fraud risk factors

B.when the audit committee authorizes further investigation

C.it makes the client aware of how seriously the auditor takes its fraud detection responsibility

D.it improves the documentation standards of the financial statement audit

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #10
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

11.Which of the following is normally considered an accounting estimate?

A.Credit sales.

B.Amortization of capital assets.

C.Repairs and maintenance expense.

D.Audit fees.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #11
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

12.To whom should immaterial errors should be reported?

A.No one.

B.The audit committee.

C.Senior management.

D.The manager at least one level above the people involved.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #12
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

13.When an auditor becomes aware of a possible illegal act by a client, the auditor should obtain an understanding of the nature of the act in order to ________.

A.evaluate the effect on the financial statements

B.determine the reliability of management’s representations

C.consider whether other similar acts may have occurred

D.recommend remedial actions to the audit committee

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #13
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

14.The possibility that fraud has resulted in intentional misstatement in the financial statements is known as ________.

A.audit risk

B.control risk

C.detection risk

D.fraud risk

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #14
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

15.An auditor who discovers that client employees have committed an illegal act with material consequences on the financial statements is most likely to seek legal advice and consider withdrawing from the engagement if ________.

A.the illegal act is a violation of generally accepted accounting principles

B.the client does not take appropriate action after being informed about the illegal act

C.the illegal act was committed during a prior year that was not audited

D.the auditor has already assessed control risk at the maximum level

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #15
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

16.The primary responsibility for the prevention and detection of fraud rests with ________.

A.external auditors

B.internal auditors

C.management

D.the Audit Committee

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #16
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

17.Statistics on fraud show that ________.

A.senior executives commit the highest number of frauds and the senior executives cause the highest losses due to fraud

B.employees below the level of senior executives commit the highest number of frauds and cause the highest losses due to fraud

C.senior executives commit the highest number of frauds and employees below the level of the senior executives cause the highest losses due to fraud

D.employees below the level of senior executives commit the highest number of frauds but the senior executives commit the highest-value frauds

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #17
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

18.If a supervisor sets a bad example by taking office supplies home for personal use, this affects which of the following factors that lead to fraud?

A.Fraud incentive.

B.Fraud opportunity.

C.Fraud rationalization.

D.Fraud detection.

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #18
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

19.Which of the following is not considered one of the three factors that increase the probability of fraud?

A.Motive.

B.Lack of training.

C.Opportunity.

D.Lack of integrity.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #19
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

20.What is the most important factor affecting the risk of management fraud?

A.Lack of integrity.

B.Lack of internal controls

C.Lack of board of director involvement in organization.

D.Lack of audited financial statements.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #20
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

21.Terrance was a model, longstanding employee who liked his job, but he felt that he was underpaid for what he contributed to the organization. As a result, he decided to start taking office supplies home to “even the score.” This is an example of ________.

A.fraud opportunity

B.fraud incentive

C.fraud rationalization

D.misstatement

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Difficult
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #21
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

22.Riley embezzled a large sum of money from his company and gave it to his friend who recently lost his job and was in danger of losing his home. This is an example of what type of motivation?

A.Psychotic.

B.Egocentric.

C.Ideological.

D.Economic.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Difficult
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #22
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

23.“Thinking like a crook” is central to ________.

A.embezzlement

B.fraud awareness auditing

C.rationalization

D.defalcation

Accessibility: Keyboard Navigation
Blooms: Application
Difficulty: Moderate
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #23

24.A fraud detection tool that assesses a firm along the five dimensions of accrual quality, financial performance, nonfinancial measures, off-balance sheet activities, and market-based incentives is called the ________.

A.Fraud Detector

B.Embezzlease

C.F-Score

D.Red Flagger

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #24

25.Certain conditions are often present when a manager prepares deliberately misstated financial statements. Which of the following is NOT such a condition?

A.Unfavourable industry conditions.

B.Lack of working capital.

C.Low debt.

D.Slow customer collections.

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #25

26.A fraud that involves the improper recognition of assets is known as a ________.

A.red flag

B.dangling debit

C.dangling credit

D.profit squeeze

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #26

27.Intentionally overstating revenues and assets or understating expenses and liabilities is known as ________.

A.creative accounting

B.dangling

C.employee fraud

D.defalcation

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #27

28.The first digit in a social insurance number ________.

A.has no meaning

B.is related to the date of birth of the recipient

C.indicates the province or region where the number was issued

D.is sequentially numbered based on when the card was issued

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #28

29.Company-level controls can have a big impact on a company’s financial reporting.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #29
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

30.Since management is most familiar with an organization, they should sit on the board of directors and advise those charged with governance of the organization.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #30
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

31.Management’s philosophy and operating style have to do with how the business is operated and are not part of the internal control environment.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #31
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

32.To assess the risk of material misstatement at the financial statement level, the auditor needs a detailed knowledge of internal control components relevant to financial reporting.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-02 Explain how the auditor’s understanding of an organization’s internal control helps the auditor to assess and respond to the risk that the organization’s financial statements are misstated.
Smieliauskas – Chapter 07 #32
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components

33.Management fraud is an intentional act that injures investors or creditors.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #33
Topic: 07-10 Fraud Risk Assessment

34.Fraudulent financial reporting is an intentional act that results in materially misleading financial statements.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #34
Topic: 07-10 Fraud Risk Assessment

35.Fraudulent financial reporting is a type of fraud perpetrated by management through exploitation of its authority.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #35
Topic: 07-10 Fraud Risk Assessment

36.Errors can be either intentional or unintentional misstatements in financial statements.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #36
Topic: 07-10 Fraud Risk Assessment

37.Auditors have taken on increased responsibility for detecting fraud and other illegal acts in recent years.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #37
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

38.CAS 240 requires auditors to ignore the traditional assumption of management’s honesty.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #38
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

39.Auditors are responsible for making reasonable accounting estimates on behalf of management.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #39
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

40.External auditors are required to report illegal acts to the appropriate governmental agency within 30 days of finding them.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #40
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

41.All errors and irregularities, including trivial ones, should be reported to the audit committee.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #41
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

42.A materiality standard does not exist for frauds.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #42
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

43.Over 90% of frauds are discovered by external or internal auditors.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #43
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

44.An economic motive for fraud is the need for money.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #44
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

45.Lack of integrity is the most important factor affecting the risk of management fraud.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #45
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

46.An organization’s risk control frameworks are not very useful to auditors for assessing risks at the company level and for auditing controls over financial reporting.

FALSE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-06 (Appendix 7A) Describe control frameworks used for risk management in organizations; and how auditors use them for understanding an auditee’s internal control.
Smieliauskas – Chapter 07 #46

47.Most frauds are committed by people below the top executive levels.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #47

48.An F-Score can predict 60% of misstatements in financial statements that eventually come to light as restatements.

TRUE

Accessibility: Keyboard Navigation
Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #48

49.Misstating financial information in one period to prevent a loan being called for violating debt to equity covenants is okay as long as the violation is reversed in the next period.

FALSE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #49

50.Knowledge of the characteristics of SIN numbers can be useful to auditors when checking personnel files and the validity of people on the payroll.

TRUE

Accessibility: Keyboard Navigation
Blooms: Comprehension
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #50

51.What are four of the elements of the internal control environment?

The following are elements of the internal control environment:

i. Management’s philosophy and operating style.
ii. Company organization structure.
iii. Methods of assigning authority and responsibility.
iv. Personnel policies and practices.

Or any combination of the eight listed in the box “Key Elements of the Internal Control Environment” on page 322.

Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #51
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components
Topic: 07-03 Control Environment

52.According to the Criteria of Control Guidance on Control, what are four values and preferences of senior management that can greatly influence an organization?

Values and preferences of senior management address issues such as:

i. Good corporate citizenship.
ii. Commitment to truth and fair dealing.
iii. Commitment to quality and competence.
iv. Fair treatment and respect of individuals.

Or any combination of the eight listed in the box “Tone at the Top” on page 323.

Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #52
Topic: 07-01 Understanding Internal Control
Topic: 07-02 Internal Control Framework and Its Components
Topic: 07-03 Control Environment

53.What is the connection between communication and internal control?

Communication involves providing an understanding of individual roles and responsibilities pertaining to internal control. It includes the extent to which personnel understand how their activities relate to the work of others. Communication takes such forms as policy manuals, accounting and financial reporting manuals, and memoranda. It can be made electronically, orally, or through the actions of management.
Well-trained personnel are less likely to make errors. When there are errors or exceptions, open communication channels help ensure that exceptions are reported and acted on.

Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #53
Topic: 07-05 Information Systems, Related Business Processes, and Communication

54.Define application controls and provide examples.

Application controls are viewed in terms of whether they relate to input, processing, or output of the accounting system. They help ensure that all recorded transactions really occurred, are authorized, and are completely and accurately entered and processed through the system. Examples include authorization checks prior to data input, arithmetic checks of the accuracy of records, and maintenance and review of accounts and trial balances.

Blooms: Comprehension
Difficulty: Difficult
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.
Smieliauskas – Chapter 07 #54
Topic: 07-06 Accounting Control Activities

55.What is employee fraud?

Fraudulently taking money or other property from an employer. It usually involves falsifications of some kind such a lying, exceeding authority, violating an employer’s policies, or falsifying documents.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #55
Topic: 07-10 Fraud Risk Assessment

56.For each of the following statements numbered 1 through 5, match the statement to the term (A through D) that it best describes and place the identifying letter in the space provided.

A. Embezzlement or defalcation
B. Management fraud
C. Errors
D. Employee fraud

____ 1. A bookkeeper inadvertently transposed an amount in a journal entry for amortization.
____ 2. An employee in a supermarket takes home bags of fresh fruit every day without paying for them.
____ 3. Embezzlement by pencil or computer.
____ 4. A type of fraud in which employees steal money or property that has been entrusted to their care.
____ 5. The controller changed the journal entry for recording estimated bad debt expense to a smaller amount to hide the poor results from extending credit to high risk customers. This action increased recorded income by a material amount.

1. C
2. A
3. D
4. A
5. B

Blooms: Knowledge
Difficulty: Moderate
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.
Smieliauskas – Chapter 07 #56
Topic: 07-10 Fraud Risk Assessment

57.What is meant by the term “professional skepticism?”

Ignoring the traditional assumption of management’s honesty, auditors must now presume a risk of fraudulent revenue recognition, a presumption that is “rebuttable” by audit evidence. In other words, if the auditors can convince themselves that the risk is appropriately low, then the presumption is rejected.

Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #57
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

58.How should an auditor handle illegal acts by auditees?

CAS 250 acknowledges that illegal acts may be difficult to detect because of (1) efforts made to conceal them and (2) questions about whether an act is illegal, which are complex and may only be resolved by a court of law.

The auditors’ knowledge of the business and inquiries of management help to identify laws and regulations that if violated and not reported, could result in material misstatements. In addition, auditors should inquire and obtain representations about awareness and disclosure of possibly illegal acts. Material, possibly illegal, acts should be communicated to those charged with governance (audit committee) and appropriate levels of management. An example is the violation of tax laws.

Blooms: Application
Difficulty: Moderate
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #58
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

59.In an organization, who are the largest frauds typically committed by?

People who hold high executive positions, have long tenure with the organization, and are respected and trusted employees.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.
Smieliauskas – Chapter 07 #59
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts
Topic: 07-12 Summary
Topic: 07-13 Materiality and Fraud or Illegal Acts

60.Briefly describe the three factors that increase the probability of fraud.

Motive, opportunity, and lack of integrity (rationalization) are the three factors that increase the probability of fraud. Motive is some kind of pressure, like a need or a desire, which causes a person to act. Economic motives are common in business fraud. Opportunity is a favourable set of circumstances that allows someone with a motive to carry out a fraud. For example, the lapse of a control or group of controls in an organization provides opportunity to a person who has a motive to commit fraud. A lack of integrity is a deficiency in the character of a person. It signifies the lack of a moral or ethical model of appropriate behaviour. People lacking integrity may rationalize their actions to defend themselves. Fraud is most common when these three factors coexist.

Blooms: Comprehension
Difficulty: Moderate
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.
Smieliauskas – Chapter 07 #60
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy
Topic: 07-15 Fraud Incentive
Topic: 07-16 Fraud Opportunity
Topic: 07-17 Fraud Rationalization

61.Provide examples of telltale hints that are indications of a cover-up of fraudulent activity in the accounting records.

Missing documents, cash shortages and overages, excessive voids and credit memos, customer complaints, common names or addresses for refunds, adjustments to receivables and payables, a general ledger that does not balance, increased past due receivables, and inventory shortages.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #61

62.What are the typical conditions or circumstances that often accompany fraudulent financial reporting by management?

High debt, unfavourable industry conditions, excess capacity, profit squeeze, strong foreign competition, lack of working capital, rapid expansion, product obsolescence, slow customer collections, and related-party transactions.

Blooms: Knowledge
Difficulty: Easy
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.
Smieliauskas – Chapter 07 #62

c7 Summary

Category# of Questions
Accessibility: Keyboard Navigation50
Blooms: Application5
Blooms: Comprehension23
Blooms: Knowledge34
Difficulty: Difficult3
Difficulty: Easy24
Difficulty: Moderate35
Learning Objective: 07-01 Describe the five components of the internal control framework: the control environment; management’s risk assessment process; information systems and communication; control activities; and monitoring.11
Learning Objective: 07-02 Explain how the auditor’s understanding of an organization’s internal control helps the auditor to assess and respond to the risk that the organization’s financial statements are misstated.1
Learning Objective: 07-03 Differentiate among errors; frauds; and illegal acts that might occur in an organization.11
Learning Objective: 07-04 Describe auditors’ responsibilities to detect and report frauds; errors; and illegal acts.18
Learning Objective: 07-05 Describe some of the conditions that lead to fraud risks.8
Learning Objective: 07-06 (Appendix 7A) Describe control frameworks used for risk management in organizations; and how auditors use them for understanding an auditee’s internal control.1
Learning Objective: 07-07 (Appendix 7B) Describe fraud risk assessment and auditing procedures; and the company documents auditors can use to detect fraud.12
Smieliauskas – Chapter 0762
Topic: 07-01 Understanding Internal Control10
Topic: 07-02 Internal Control Framework and Its Components10
Topic: 07-03 Control Environment2
Topic: 07-05 Information Systems, Related Business Processes, and Communication1
Topic: 07-06 Accounting Control Activities1
Topic: 07-07 Monitoring Controls1
Topic: 07-10 Fraud Risk Assessment11
Topic: 07-11 Auditors’ Responsibilities for Detecting Frauds, Errors, And Illegal Acts18
Topic: 07-12 Summary18
Topic: 07-13 Materiality and Fraud or Illegal Acts18
Topic: 07-14 Conditions that Make Fraud Possible, Even Easy8
Topic: 07-15 Fraud Incentive8
Topic: 07-16 Fraud Opportunity8
Topic: 07-17 Fraud Rationalization8

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