Deck 7: Sampling and Overview of the Risk Response Phase of the Audit

Question 1

Control risk refers to the risk that the auditor's testing procedures will not be effective in detecting a material misstatement.

Answer 1

True

Question 2

Internal control is intended to provide reasonable assurance about the achievement of an entity's objectives.

Answer 2

True

Question 3

Internal control weaknesses decrease the risk of material misstatements being undetected by management's processes and controls.

Answer 3

True

Question 4

The concept that no one employee should be in a position both to perpetrate and hide errors or fraud in the normal course of their duties is known as segregation of incompatible duties.

Question 5

The purpose of an auditor's management letter is to inform the client of the auditor's recommendations for improving its internal controls.

Question 6

Audit risk is the risk that an entity's internal control system will not prevent or detect material misstatements.

Question 7

Internal controls in large and medium sized entities can only provide an entity with reasonable assurance in achieving its financial reporting objectives. Which of the following is not an inherent limitation of internal control?

A) human error that results in a breakdown in internal control
B) collusion by two or more individuals to circumvent a control
C) a control within a software program being overridden or disabled
D) changing audit risk parameters

Question 8

A partner and his team performed an audit and issued an unqualified audit report. A year later his firm was sued when a shareholder found out the financial statements were misstated. This situation best describes:

A) poor internal controls.
B) human error.
C) unethical behaviour.
D) audit risk.

Question 9

In larger entities, there are often limitations surrounding the entity's ability to put effective internal controls in place.

Question 10

An internal control exception is an observed condition that provides evidence that the control being tested did not operate as intended.

Question 11

The inherent limitations of internal control include the possibility of collusion by two or more individuals to circumvent a control.

Question 12

Stanley Morgan has learned that it is important to be aware of the attitude and actions of management and those charged with governance concerning the entity's internal control and its importance in the entity. This best describes dealing with

A) a key control objective.
B) the control environment.
C) mitigation of audit risk.
D) financial statement assertions.

Question 13

As part of her annual review Roma Lazor reviews her client's draft financial statements for proper disclosures and compliance to accounting standards. This best describes which control objective(s)?

A) posting
B) classification and understandability
C) valuation
D) timeliness

Question 14

Checklists and preformatted questionnaires are particularly helpful in industries that the auditor may not personally be familiar with auditing.

Question 15

Narratives involve the auditor describing in words each step of the flow of transactions from start to finish.

Question 16

Thea Lisowski decided to list several questions for herself about factors that influence management's attitudes towards internal control so as to assure herself that she could have more confidence in management's abilities and integrity. When she was finished, which control environment element did she tick off on her working papers?

A) management's philosophy and operating style
B) communication and enforcement of integrity and ethical values
C) commitment to competence
D) participation by those charged with governance

Question 17

The internal control objective of 'valued' refers to controls in place to ensure that transactions are recorded in the correct accounting period.

Question 18

The internal control objective of 'real' refers to controls in place to ensure that fictitious or duplicate transactions are not included in the books and records of the organization.

Question 19

One of the elements of an entity's control environment is management's philosophy and operating style.

Question 20

Significant professional judgment is never required to decide whether an identified internal control weakness is significant enough to warrant communicating to management.

Question 21

Anwar Maris is considering whether to use a checklist or narrative approach to describing the purchasing system of an environmental engineering company. What part of the audit process is he involved in?

A) documenting internal controls
B) risk assessment of company
C) review of control environment
D) none of the above

Question 22

Mona Kew is reviewing the purchasing and payments process. At which stage would she determine that purchases that are being made are properly authorized?

A) purchase requisition transaction
B) recording purchases and related items transaction
C) invoicing transaction
D) purchasing transaction

Question 23

Harry Karas was involved in getting a big picture of his client's entity controls. He went about finding out whether periodic evaluations of internal control are made and determining the extent to which personnel, in carrying out their regular duties, obtain evidence as to whether the system of internal controls continues to function. These activities are part of:

A) internal control activities.
B) documentation controls.
C) monitoring of controls.
D) none of the above.

Question 24

Which of the following is an element of the control environment?

A) participation by those charged with governance
B) commitment to competence
C) segregation of duties
D) both a and b

Question 25

All of the following are components of internal control, except for:

A) monitoring of controls.
B) the control environment.
C) audit committees.
D) the information system.

Question 26

Maxime Talbot is concerned that his client's control system has a risk of the wrong price being charged on the purchase invoice by the supplier. At which transaction stage would this risk be reviewed?

A) purchase requisition transaction
B) receiving transaction
C) purchasing transaction
D) none of the above

Question 27

When Vanessa Lanthier reviewed the different key activities in the marketing department of a wholesaler of jewellery, she was performing an entity level review of:

A) monitoring controls.
B) the control environment.
C) internal controls.
D) the risk assessment process.

Question 28

When Melissa Lee, a senior auditor, performed an audit of an electronics firm, she reviewed the control environment, performed a risk assessment, and reviewed the key business processes and control activities. These activities are part of:

A) a review of entity-level controls.
B) a review of the internal control system.
C) establishing audit risk.
D) none of the above.

Question 29

Which of the following statements about internal control is incorrect?

A) Internal control is a very broad concept.
B) Internal control eliminates the possibility of fraud and error.
C) Internal control encompasses all of the elements of an organization.
D) Internal control provides reasonable assurance about the achievement of the entity's objectives.

Question 30

When internal controls are effective:

A) there will be an increased reliance on substantive tests of transactions and account balances.
B) control risk will also be high.
C) the organization is more likely to achieve its strategic and operating objectives.
D) the organization is less likely to achieve its strategic and operating objectives.

Question 31

The generally accepted objectives of internal control do not include:

A) efficiency.
B) classified.
C) recorded.
D) timely.

Question 32

As part of her yearly audit plan activities, Krystyne Sliz reviews audit working papers of previous years to determine the risk that a client's system of internal controls will not prevent or detect a material misstatement. This review refers to:

A) audit risk.
B) inherent risk.
C) control risk.
D) detection risk.

Question 33

Claudia Andreou was concerned when she reviewed the operations of her client and noticed that many of the employees had incompatible duties over the recording of transactions and custody of assets. This best refers to which desired control?

A) information processing controls
B) physical controls
C) authorization controls
D) segregation of incompatible duties

Question 34

Internal control encompasses which of the following elements of an organization?

A) processes
B) culture
C) systems
D) all of the above

Question 35

Rina Glickstein is unsure about the best way to evaluate her audit staff. She decides to look at their professional characteristics such as their expertise, experience, knowledge and training. What best describes what she is looking for?

A) their independence
B) their professional judgment
C) their due care
D) none of the above

Question 36

Which of the following is an inherent limitation of internal control?

A) a control within a software program being overridden or disabled
B) human error that results in a breakdown in internal control
C) collusion by two or more individuals to circumvent a control
D) all of the above

Question 37

Marcia Salinger reviewed the following activities in the Sales cycle: She ensured that once the invoice had been created it was posted to the appropriate accounts in the sales journal and the accounts receivable sub ledger in the appropriate accounting period and that the sales journal was reconciled to the general ledger accounts. These activities are part of which of the following sales process activities?

A) invoicing customers
B) cash receipts
C) recording sales and trade receivables
D) none of the above

Question 38

The internal control objective of 'classified' means there are controls in place to ensure that:

A) fictitious or duplicate transactions are not included in the books of an organization.
B) correct amounts are assigned to transactions.
C) transactions are recorded in the correct accounting period.
D) transactions are charged and allocated to the correct general ledger account.

Question 39

If controls are in place to ensure that transactions are recorded in the correct accounting period, this satisfies which internal control objective?

A) timely
B) real
C) valued
D) posted

Question 40

Which assertion is not specifically addressed by internal control objectives?

A) cut-off
B) presentation and disclosure
C) completeness
D) existence

Question 41

An internal control exception is:

A) only expected to exist when internal controls are effective.
B)
B) an observed condition that provides evidence that the control being tested did not operate as indicated.
C) both a and
D) an observed condition that provides evidence that the control being tested did operate as indicated.

Question 42

The control environment does not:

A) set the tone of an entity.
B) set the foundation for all other components of internal control.
C) refer to the policies and procedures that help make sure management's directives are carried out.
D) influence the control consciousness of employees.

Question 43

For purchasing inventory transactions, an example of a risk that arises is:

A) goods that have been sold and invoiced are included in the inventory on hand.
B) the wrong quantities are recorded during the inventory count.
C) the wrong labour costs are added to the cost of individual inventory items.
D) the wrong amount is paid against an invoice.

Question 44

Which of the following is not an example of an internal control for the sales process?

A) credit committee review of credit limits on a quarterly basis
B) approved purchase order is reconciled to invoice
C) application control that only allows orders to be processed against existing approved customers with enough unused credit limit
D) invoices automatically generated from order documents

Question 45

For identified risks, management:

A) assesses the likelihood of their occurrence.
B) decides upon actions to manage them.
C) estimates their significance.
D) all of the above.

Question 46

When gaining an understanding of the client's monitoring processes at the entity level, factors ordinarily considered include:

A) evaluations or observations made by the external auditors.
B)
B) management's approach to correcting known significant deficiencies on a timely basis.
C) both a and
D) none of the above.

Question 47

Which of the following statements relating to control activities is incorrect?

A) They include management's philosophy and operating style.
B) They are policies and procedures that help make sure management's directives are carried out.
C) They help guarantee that necessary actions are taken to address risks impacting the achievement of the organization's objectives.
D) They have various objectives and are applied at various organizational and functional levels.

Question 48

Performance reviews are control activities that include:

A) authorization for access to computer programs.
B) segregating incompatible duties.
C) reviews of actual performance versus budgets.
D) periodic counting and comparison with amounts shown on control records.

Question 49

Checklists and preformatted questionnaires are particularly helpful:

A) in industries that the auditor may not personally be familiar with auditing.
B) when control risk is high.
C)
C) when less experienced auditors find it difficult to identify which are the critical controls.
D) both a and

Question 50

Flowcharts involve:

A) the auditor summarizing in boxes each step of a transaction from start to finish.
B)
B) the auditor describing in words each step of the flow of transactions from start to finish.
C) both a and
D) none of the above.

Question 51

Which of the following statements is correct?

A) Significant professional judgment is not necessary in deciding whether a weakness identified is significant enough to warrant communicating to management.
B) A management letter is prepared by management.
C) Significant professional judgment is necessary in deciding whether a weakness identified is significant enough to warrant communicating to management.
D) All of the above.

Question 52

What are the most common forms of documentation used by auditors to document their understanding of internal controls?

Question 53

Indicate whether you agree or disagree with the following statements and explain your reasoning.
a) During her career as a public accountant, Carolina Doukas has performed audits of large and medium sized clients. When she visited a small business client, a food wholesaler that has had a history of poor controls, she gave a lot of thought to performing her planned audit approach. She decided to use the combined audit approach.
b) Tanya Konczynski was discussing with her audit manager how she could assess whether controls are being monitored. Her audit manager mentioned that the internal audit function is a primary source of assessing and monitoring control activities.
c) The audit senior has been reviewing the key controls in the purchasing and payables process. She has been asked by a junior auditor: "When should the client set up the payable?" She answers: "The company can set up the payable when the goods are received in good order, and then the client can make the payment when the invoice is received."
d) The auditor decided to review transaction-level controls at year-end.

Question 54

What are control activities and explain the major categories of them?

Question 55

The most common ways of auditors documenting their understanding of internal controls include:

A) flowcharts.
B) narratives.
C) preformatted questionnaires.
D) all of the above.

Question 56

Explain the seven generally accepted objectives of internal control activities and identify the relevant assertions.

Question 57

Detection risk refers to:

A) the susceptibility of an assertion to a material misstatement, assuming there are no related controls.
B) the risk that the auditor's testing procedures will not be effective in detecting a material misstatement.
C) the risk that a client's system of internal controls will not prevent or detect a material misstatement.
D) none of the above.

Question 58

Explain the key elements of the control environment.

Question 59

In understanding the client's control activities at the entity level, consideration is given to factors such as:

A) the extent to which performance of control activities relies on IT.
B) the extent to which controls included in the organization's policies are being applied.
C) whether adequate safeguards are in place to prevent unauthorized access to or destruction of documents, records and assets.
D) all of the above.

Question 60

The purpose of the management letter is to inform:

A) the auditor with concerns held by the client's management about the audit fee.
B) the client's management of the auditor's opinion on the company's financial statements.
C) the client's audit committee's disagreements with management.
D) the client of the auditor's recommendations for improving its internal controls.

Question 61

What is a management letter and what are its major purposes?

Question 62

In July 2011, Rupert Murdoch, his son, James, and ex-News International chief executive, Rebekah Brooks faced questions from British MPs over a phone hacking scandal at the former News of the World.
It had originally appeared that the News of the World had only hacked the phones of celebrities, politicians and members of the HYPERLINK "http://en.wikipedia.org/wiki/British_Royal_Family" \o "British Royal Family" British Royal Family. However, revelations in July 2011, that victims included murdered schoolgirl HYPERLINK "http://en.wikipedia.org/wiki/Murder_of_Milly_Dowler" \o "Murder of Milly Dowler" Milly Dowler, relatives of deceased British soldiers, and victims of the HYPERLINK "http://en.wikipedia.org/wiki/7_July_2005_London_bombings" \o "7 July 2005 London bombings" 7/7 London bombings generated widespread public outrage and revulsion. Advertiser boycotts contributed to the closure of the News of the World.
Reacting to the revelation, Prime Minister David Cameron said that the alleged hacking, if true, was "truly dreadful". He added that police ought to pursue a "vigorous" investigation to ascertain what had taken place. Interestingly, the Prime Minister himself came under fire for hiring a former News of the World editor, Andy Coulson. Prime Minister David Cameron called his decision a "catastrophic error of judgment" in hiring the former editor of Rupert Murdoch's News of the World as a spokesman.
Sean Hoare, 47, the journalist who had accused his former News of the World editor, Andy Coulson of complicity in the illegal activity, was found at home dead, days after he had made fresh allegations against executives under whom he had worked.
On 18 July, News Corp announced that its UK management standards committee would be removed from News International. It will now be housed in a separate building, under the chairmanship of Lord Grabiner, and reporting to News Corp director, Joel Klein.
In an analysis of the culture of the Murdoch empire in HYPERLINK "http://en.wikipedia.org/wiki/Newsweek" \o "Newsweek" Newsweek in July 2011, one of Murdoch's former top executives was quoted as saying: "This scandal and all its implications could not have happened anywhere else. Only in Murdoch's orbit. The hacking at News of the World was done on an industrial scale. More than anyone, Murdoch invented and established this culture in the newsroom, where you do whatever it takes to get the story, take no prisoners, destroy the competition, and the end will justify the means." This same executive went on to say, "In the end, what you sow is what you reap. Now Murdoch is a victim of the culture that he created. It is a logical conclusion, and it is his people at the top who encouraged lawbreaking and hacking phones and condoned it."
In 2010, it was also suggested that the journalistic approach of newspapers such as the News of the World had brought into public focus that there had been a shift away from the traditional ethics of journalism, raising serious questions about privacy, freedom of speech, and confidentiality. There were also observations in the North American Press about the ethics employed by the News of the World. HYPERLINK "http://en.wikipedia.org/wiki/NBC_New_York" \o "NBC New York" NBC New York noted that the old journalistic maxim, "Get it first. But, first, get it right," although speaking for accurate reporting does not address the situation where in the case of the News of the World information was allegedly obtained in an unethical way or by illegal means. The approach was also criticized by HYPERLINK "http://en.wikipedia.org/wiki/Stephen_B._Shepard" \o "Stephen B. Shepard" Stephen B. Shepard, dean of the HYPERLINK "http://en.wikipedia.org/wiki/CUNY_Graduate_School_of_Journalism" \o "CUNY Graduate School of Journalism" CUNY Graduate School of Journalism, who commenting on the phone hacking scandal, said: "It's wrong. It's not a gray area. What they did was illegal and, even if it weren't, it's just plain wrong. There's no defense for it. Even the government needs a warrant to get into a house or a computer. You can't break into something like this and get away with it."
Required:
Discuss the underpinnings of a proper control environment and where appropriate, comment on deficiencies at the former News of the World operations, or in Prime Minister Cameron's operations, assuming the press reports are correct.