Deck 7: Planning the Audit: Identifying and Responding to the Risks of Material Misstatement

Question 1

If detection risk is low,the auditor is more willing to take a higher risk of the substantive audit procedures not detecting a material misstatement.

Answer 1

False

Question 2

One potential limitation to using industry data in preliminary analytical procedures is that the data from the client may not be directly comparable to the data of the industry.

Answer 2

True

Question 3

Materiality relates to the significance or importance of an item.

Answer 3

True

Question 4

Clearly trivial and not material are terms that can be used interchangeably.

Question 5

Touring a company's plant offers much insight into potential audit issues.

Question 6

It is never efficient to rely on the internal controls of an organization.

Question 7

When business risk is low,the auditor does not have a high concern that about the ability of the organization to operate efficiently.

Question 8

Brainstorming sessions should be led by the engagement team.

Question 9

The usual length of a brainstorming session is about four hours.

Question 10

News media and web searches can provide useful information related to client management's integrity and the risk of material misstatement in the financial statements.

Question 11

There are guidelines that can be followed in brainstorming sessions to promote productivity and creativity.

Question 12

Detection risk is measured on a scale of 0% to 5%.

Question 13

Auditors need to choose materiality amounts carefully because once a materiality judgment has been made,it cannot be revised.

Question 14

When a successor auditor contacts a company's previous auditor,successor auditor might obtain information related to client management's integrity.

Question 15

A risk of material misstatement of 100% indicates that material misstatement is highly likely.

Question 16

Trend analysis deals with the relationship between two or more accounts.

Question 17

Only public companies have to be concerned with business risk.

Question 18

LEXIS is a public database where the existence of legal proceedings against a company or key members of the company can be found.

Question 19

Auditors and management should agree on what is considered material.

Question 20

The purpose of the auditor's consideration of the effectiveness of internal controls is to determine the nature,extent and timing of substantive testing.

Question 21

Net income before tax is common base used to determine materiality in a non-for-profit company.

Question 22

The lower the dollar amount of the performance materiality the more audit evidence is required.

Question 23

The existence of one or more risk factors means that there is a material misstatement present.

Question 24

Inherent and control risks are risk controlled by the client.

Question 25

All audit procedures must be completed before year end.

Question 26

Internal controls that the auditor expects to rely on to reduce substantive testing must be tested.

Question 27

An auditor may rely on a specialist when assessing the value of a company's inventory.

Question 28

Audit procedures have to be announced or be completed at predictable times.

Question 29

If tolerable misstatement for accounts payable is $1,000,the auditor would need to obtain more audit evidence for that account than if tolerable misstatement were $100,000.

Question 30

Ineffective internal controls result in higher risk of material misstatement in the financial statements than effective internal controls.

Question 31

Tolerable misstatement is always less than or equal to performance materiality.

Question 32

A company's website can contain useful information that can help an auditor understand the products and strategies of the company.

Question 33

Tolerable misstatement is the amount of misstatement in an account balance that the auditor could tolerate and still not judge the underlying account balance to be materially misstated.

Question 34

Auditors are only concerned with materiality for the financial statements as a whole.

Question 35

Heightened risk of material misstatement causes the auditor to perform audit procedures closer to year end.

Question 36

Performance materiality is used for assessing the risks of material misstatement and determining the nature,timing,and extent of audit procedures to perform during the audit opinion formulation process.

Question 37

A risk factor indicating a heightened risk of fraud would be considered a significant risk.

Question 38

As a guideline,1% of total assets or revenue (whichever is larger)can be used to set materiality.

Question 39

When the risk of material misstatement is heightened,the auditor increases the extent of audit procedures and demands more evidence.

Question 40

Appropriate evidence about inventory existence can be obtain through inspection.

Question 41

Which of the following are two frequently used preliminary analytical procedures?

A)Reasonableness tests and economic analyses.
B)Trend analyses and reasonableness tests.
C)Ratio analyses and economic analyses.
D)Ratio analyses and trend analyses.

Question 42

Which of the following are common brainstorming session guidelines?

A)Freedom of expression.
B)Respectful communication.
C)Suspension of criticism.
D)All of the above.

Question 43

What is the nature of the relationship between risk of material misstatement and audit risk?

A)Direct.
B)None.
C)Correlational.
D)Inverse.

Question 44

If $15,000 is considered to be material to the income statement,but $25,000 is material to the balance sheet,the auditor should set overall materiality at which of the following dollar amounts?

A)$20,000
B)$25,000
C)$40,000
D)$15,000

Question 45

If materiality judgments change during the audit opinion formulation process,what happens to previous evidence collection decisions that were based on the initial judgments?

A)They need to be reassessed.
B)They need to be noted in the footnotes.
C)No action is required.
D)None of the above.

Question 46

If it is probable that the judgment of a reasonable person will be changed or influenced by the omission or misstatement of information,then that information,which of the following (based on the definition of FASB Statement No.2)best describes that information?

A)Insignificant.
B)Relevant.
C)Significant.
D)Material.

Question 47

Which of the following is a reason a predecessor auditor can decline to reply to a firm's current auditor?

A)Data is under court order.
B)They must always respond.
C)The client does not approve of confidential information being shared.
D)Both A and C are correct.

Question 48

Detection risk is controllable by the client.

Question 49

Insistence from the CEO that she must be present at all meetings between the audit committee and internal/external auditors would cause auditors to assess inherent risk at a higher level.

Question 50

To learn more about a company and its inherent risks,auditors can use which of the following resources?

A)Management inquiries.
B)Economic statistics.
C)Online searches.
D)Any of the above could be used.

Question 51

Detection risk is affected by which aspects of substantive audit procedures?

A)Nature.
B)Timing.
C)Extent.
D)All of the above.

Question 52

Which of the following ratios provide information about liquidity?

A)Net profit margin.
B)Current ratio.
C)Inventory turnover.
D)Sales to assets.

Question 53

The quick ratio is useful for analyzing inventory accounts.

Question 54

Which of the following best describes the amount of misstatement an auditor is willing to accept and still will not say the account balance is materially misstated?

A)Tolerable misstatement.
B)Performance materiality.
C)A clearly trivial amount.
D)Significant risk.

Question 55

The purpose of tests of control is to provide reasonable assurance that internal controls are operating effectively.

Question 56

Which of the following factors would lead an auditor to assess inherent risk at a higher level?

A)The account balance is easily determined without estimation.
B)The account balance represents an easily embezzled asset.
C)The account balance is composed of simple transactions.
D)All of the above would lead the auditor to assess a higher level of inherent risk.

Question 57

In what way does the risk of material misstatement differ from detection risk?

A)Risk of material misstatement arises because audit procedures have been misapplied.
B)Risk of material misstatement can be controlled and changed by the auditor.
C)Risk of material misstatement can be assessed in quantitative and non-quantitative terms.
D)Risk of material misstatement is controllable by the client.

Question 58

Which of the following would be a reason that industry and client data were not directly comparable?

A)Broad industry.
B)Use of different accounting principles.
C)Neither of the above.
D)Both A & B are correct.

Question 59

Which of the following best describes year-to-year comparisons of account balances?

A)Time analyses.
B)Reasonableness tests.
C)Ratio analyses.
D)Trend analyses.

Question 60

Which of the following factors will result in control risk being assessed at a higher level?

A)Controls are well designed.
B)There is a lack of supervision of accounting personnel.
C)Accounting staff are well trained and educated.
D)The control environment is operating effectively.

Question 61

What is the auditor trying to accomplish by varying the timing of audit procedures from the prior year?

A)Introduce unpredictability.
B)Confuse the client.
C)Gather information during different times of the year.
D)Finish the audit sooner.

Question 62

Which of the following terms best describes the types and appropriateness of audit procedures used?

A)Nature of detection risk.
B)Material misstatement risk.
C)Nature of auditing procedures.
D)Nature of risk response.

Question 63

An increase in the risk of material misstatement would lead to which of the following responses?

A)Increase in the extent of auditing procedures.
B)Decrease in the extent of auditing procedures.
C)No change in the extent of auditing procedures.
D)No change in the extent of audit procedures.

Question 64

As inherent risk increases,what happens to the audit work?

A)Increases.
B)Decreases.
C)Stays the same.
D)Becomes less reliable.

Question 65

Which of the following statements best describes what is meant by a 1% level of detection risk?

A)High detection risk and low audit risk.
B)High detection risk and high audit risk.
C)Low detection risk and high audit risk.
D)Low detection risk and low audit risk.

Question 66

Which of the following risk factors suggests a heightened level of risk of material misstatement?

A)Having a stable product.
B)The departure of key personnel of a company.
C)Few immaterial related-party transactions.
D)Declining a merger with another company.

Question 67

Which of the following statements best describes what is meant by setting control risk at100%?

A)Controls are effective.
B)Controls are relevant.
C)Controls are ineffective.
D)Cannot be determined from the information given.

Question 68

Which of the following best describes what is meant by the timing of risk response?

A)Where procedures are conducted.
B)When procedures are conducted.
C)How procedures are conducted.
D)Who conducts the procedures.

Question 69

Appropriateness addresses which aspect of audit procedures?

A)Relevance.
B)Reasoning.
C)Reliability.
D)Both A & C.

Question 70

Which of the following terms best describes the numerical depiction of the relationship between control risk,inherent risk,detection risk,and audit risk?

A)Audit risk model.
B)Risk of misstatement model.
C)Significance model.
D)Materiality equation.

Question 71

What is the typical scale for audit risk?

A)1% - 10%
B)1% - 5%
C)0% - 5%
D)0% - 10%

Question 72

What is the main reason to establish guidelines for brainstorming sessions?

A)To not hurt feelings.
B)It is required by the SEC.
C)To encourage interactive and constructive group dialogue and idea exchange.
D)To pass information up to top-level management efficiently.

Question 73

What is the typical scale for the risks of material misstatement?

A)0% - 100%
B)0% - 10%
C)0% - 5%
D)1% - 100%

Question 74

What procedure has to be completed at or after the end of the period?

A)Assessment of control risk.
B)Engagement letter.
C)Evaluation of adjusting journal entries.
D)All procedures must be completed prior to period end.

Question 75

Which of the following terms best describes the risk that audit evidence will fail to detect misstatements exceeding tolerable misstatement?

A)Audit risk.
B)Control risk.
C)Detection risk.
D)Inherent risk.

Question 76

What type of relationship exists between audit risk and detection risk?

A)Direct.
B)Inverse.
C)Indirect.
D)No relationship.

Question 77

When an auditor chooses not to rely on a client's internal controls because the control design is ineffective,which of the following tests is eliminated?

A)Substantive testing.
B)Test of controls.
C)Test of details of balances.
D)Substantive analytical procedures.

Question 78

As the risk of material misstatement increases,what happens with detection risk?

A)Medium increase.
B)Stay the same.
C)Decrease.
D)Severely increase.

Question 79

Which of the following approaches can be used to introduce unpredictability into the audit?

A)Assessing high risk accounts.
B)Performing procedures on an unannounced basis.
C)Performing the audit in the same location each year.
D)Selecting items that would normally be tested.

Question 80

If the auditor's assessment of audit risk is low (e.g.,1% rather than 5%),what is the effect on the amount of direct testing performed by the auditor?

A)Increase in direct testing.
B)Decrease in direct testing
C)No change in direct testing.
D)Direct testing is not needed.