Chapter 5

LO 5-3 to 5-4

100

The most important component of an entity's internal control is: a) effectiveness and efficiency of operation b) people who operate the control system c) reliability of financial reporting d) compliance with applicable laws and regulation

b) People who operate the control system

200

The primary purpose for obtaining an understanding of nonpublic audit client's internal control is to a) provide a basis for making constructive suggestions in a management letter b) determine the nature, timing, and extent of tests to be performed in the audit c) provide the rational for the inherent risk assessment at the financial statement assertion level d) provide information for a communication of internal control-related matters to management

b) These are the auditor's responsibilities under GAAS

300

Effectiveness of audit procedures would be reduced by a) selecting a larger sample size for the audit b) performing audit procedures at the fiscal year-end date as opposed to interim c) deciding to obtain external instead of internal evidence d) performing procedures during the interim period as opposed to the fiscal year-end date

d) performing procedures during the interim period as opposed to at the fiscal year-end date

400

To test the operating effectiveness of a control, an audit team might use a combination of each of the following tests except for: a) Inquiry of client personnel b) Observation of company operations c) Confirmation of balances d) Inspection of documentation

c) This is a substantive test, not a test of internal controls

500

Which of the following is a preventative control? a) reconciliation of a bank account b) recalculation of a sample of payroll entries by internal auditors c) separation of duties between the payroll and personnel departments d) detailed fluctuation analysis completed by the CFO for revenue

c) Separation of duties between the payroll and personnel departments

LO 5-4

100

In most audits of large entities, control risk assessment contributes to audit efficiency, which means that a) The cost of substantive procedures will exceed that of control evaluation work b) Auditors will be able to reduce the cost of substantive procedures by an amount more than the control evaluation costs c) The cost of control evaluation work will exceed the cost of substantive procedures d) Auditors will be able to reduce the cost of substantive procedures by an amount less than the test of controls

b) Auditors will be able to reduce the cost of substantive procedures by an amount more than the control evaluation costs

200

Which of the following is a device designed to help the audit team obtain evidence about the accounting and control activities of a client? a) a narrative memorandum describing the control system b) an internal control questionnaire c) a flowchart of the documents and procedures used by the company d) all of the above

b) The internal control questionnaire is a device for collecting evidence in the form of answers to control questions.

300

A bridge work paper shows the connection between a) control evaluation findings and subsequent audit procedures b) management objectives and accounting system procedures c) management objectives and entity control activities d) financial statement assertions and tests of controls

a) Control evaluation findings and subsequent audit procedures

400

Tests of controls in a GAAS audit are required for a) obtaining evidence about the financial statement assertions b) accomplishing control over the occurrence of recorded transactions c) applying analytical procedures to financial statement balances d) obtaining evidence about the operating effectiveness of client control activities

d) Tests of controls produce the evidence about actual operation of company control activities.

500

A transaction-level internal control activity is best described as a) an action taken by auditors to obtain evidence b) an action taken by client personnel for the purpose of preventing, detecting, and correcting errors and frauds in transactions to eliminate or mitigate risks identified by the company c) a method for recording, summarizing and reporting financial information d) the functioning of the board of directors in support of its audit committee

b) This is one way to describe the purpose of a transaction-level control activity.

LO 5-5

100

According to the PCAOB, during the audit of internal controls for an issuer, the ultimate objective of testing the design effectiveness of internal controls is to a) Determine whether the company's controls are processing company data effectively b) Determine that the company's controls will satisfy the company's control objectives and can effectively prevent or detect errors or fraud that could result in material misstatements, if they operate as prescribed c) Determine that the company's employees are processing the controls according to the policy and procedure manuals at the company d) all of the above

b) The testing of design effectiveness relates primarily to whether the control has been properly put in place to prevent or detect errors or fraud. In AS5, this is exactly the objective of testing the design effectiveness of a control as per paragraph 42 of the standard.

200

When planning the audit of internal controls for an issuer, the audit team should a) identify significant accounts, locations, and assertions b) Conduct a walkthrough of the internal control process c) make inquiries of employees regarding the existence of control activities d) Re-perform control activities performed by client employees to determine their effectiveness

a) The audit team identifies significant accounts, locations, and assertions in the planning stage of an audit of internal controls.

300

A material weakness is a situation in which a) it is probable that an immaterial financial statement misstatement wouldn't be detected on a timely basis b) there is a remote likelihood that a material misstatement would be detected on a timely basis c) It is reasonably possible that a material misstatement wouldn't be detected on a timely basis d) It is reasonably possible that an immaterial misstatement wouldn't be detected on a timely basis

c) By definition, a material weakness in internal control is defined as a deficiency, or combination of deficiencies that results in a reasonable possibility that a material misstatement would not be prevented or detected on a timely basis.

400

When completing an audit of internal conrols for an issuer, the severity of an internal conrol deficiency depends on a) whether there is a reasonable possibility that the company's controls will fail to prevent or detect a misstatement of an account balance or disclosure b) whether the account has a history of errors c) the magnitude of the potential misstatement resulting from the deficiency or deficiency d) both a and c are correct e all of the above are correct

d) Both (a) and (c) are factors

500

Which of the following is not required by auditors with regards to internal control, for both public and nonpublic entities a) Understanding b) Documenting c) Evaluating control risk d) Test controls

d) Testing controls is required only for audits of public companies under AS 5.

LO 5-5

100

When completing the audit of internal controls for an issuer, the PCAOB requires auditors of public companies to audit internal controls over a) Operations b) Compliance with regulations c) Financial reporting d) all of the above

c) AS 5 applies to financial reporting controls only.

200

When completing the audit of internal controls for an isuer, AS 5 requires auditors of public companies to report on a) An audit of internal control b) Managements report on internal control c) Neither of these d) Both of these

a) AS 5 requires auditors to issue a report on the audit of internal controls.

300

WILD CARD: What Disney film presents a new take on Sherlock Holmes using animals solving a mystery?

The Great Mouse Detective

400

When completing the audit of internal controls for an issuer, AS 5 requires auditors to test a) Operating effectiveness only b) Design effectiveness only c) Both d) Neither

c) AS 5 requires testing for both design effectiveness and operating effectiveness

500

The purpose of separating the duties of hiring personnel and distributing payroll checks is to separate the (LO 5-4) a) Authorization of transactions from the custody of related assets b) Operational responsibility from the record-keeping responsibility c) HR function from controllership function d) Administrative controls from the internal accounting controls

a) In principle, the payroll function should be divided into its authorization, recording, and custody functions. Authorization of hiring, wage rates, and deductions is provided by personnel. Authorization of hours worked (executed by employees) is provided by production. Based on these authorizations, accounting calculates and records the payroll. Based on the calculated amounts, the treasurer prepares and distributes payroll checks.

LO 5-5 to 5-7

100

Which of the following would probably not be considered an indication of a material weakness? a) evidence of a material misstatement b) ineffective oversight by the audit committee c) immaterial fraud committed by senior management d) overproduction by the manufacturing lant

d) This does not directly relate to a material misstatement but is an operational issue.

200

Which report would NOT be appropriate for a public accounting firm to provide on financial reporting controls? a) unqualified -- no material weaknesses found b) disclaimer of opinion--unable to perform all necessary procedures c) disclaimer of opinion--significant deficiencies exist d) adverse--material weaknesses exist

c) A disclaimer is used when the auditor’s scope is limited but not when significant deficiencies exist, so it is not an appropriate report.

300

If the auditors encounter a significant scope limitation in evaluating a public company's internal control over financial reporting, which of the following types of opinion on the effectiveness of the company's internal control over financial reporting would be appropriate. a) unqualified opinion or adverse opinion b) qualified opinion or adverse opinion c) unqualified opinion or disclaimer of opinion d) disclaimer of opinion

d) The reporting option when a scope limitation exists is a disclaimer of opinion.

400

Which of the following statements is not true with respect to the auditors' report on internal control over financial reporting? a) The report will be dated as of the date of the financial statements b) The report will express an opinion on the effectiveness of internal control over financial reporting c) auditor will issue an adverse opinion if one or more material weaknesses exist d) report may be presented with the report on entity's financial statements as a combined report

a) The report would be dated as of the day that enough evidence has been gathered to support the auditors’ opinion on the effectiveness of the entity’s internal control.

500

Which of the following information would be included in teh introductory paragraph of the auditors' report on internal control over financial reporting if the report is presented separately from the auditors' report on teh entity's financial statements? a) The fact that the auditors conducted an audit of the entity's financial statements b) The definition of a material weakness in internal control over financial reporting c) Statements identifying the responsibility of the auditors and management on internal control over financial reporting d) A reference to the auditors' report and opinion on the entity's financial statements

c) Statements identifying the responsibility of the auditor and management for internal control over financial reporting would be included in the introductory paragraph.