Question 1

The employee in charge of authorizing credit to the company's customers does not fully understand the concept of credit risk.This lack of knowledge would constitute:
A)a deficiency in operation of internal controls.
B)a deficiency in design of internal controls.
C)a deficiency of management.
D)not constitute a deficiency.

Accepted Answer

A deficiency in operation of internal controls occurs when a control is not being performed as intended. In this case, the employee in charge of authorizing credit does not fully understand the concept of credit risk, which means that they are not performing the control as intended.

Question 2

Once auditors determine that entity level controls are designed and placed in the operation they:
A)make a preliminary assessment for each transaction-related audit objective for each major type of transaction.
B)make a preliminary assessment of control risk.
C)obtain an understanding of the design and implementation of internal control.
D)prepare audit documentation in order to opine on the company's internal control system.

Accepted Answer

The answer of Once auditors determine that entity level controls...

Question 3

For most uses, flowcharts are superior to narratives as a method of communicating the characteristics of internal control.

Accepted Answer

Flowcharts are visual representations that provide a clear and concise way of illustrating the steps and decision points in a process, making them a more effective method of communicating the characteristics of internal control than narratives, which can be verbose and difficult to follow. Flowcharts can help identify potential weaknesses in controls and aid in the design of improved controls.

Question 4

When the auditor attempts to understand the operation of the accounting system by tracing a few transactions through the accounting system, the auditor is said to be:
A)tracing.
B)vouching.
C)performing a walk-through.
D)testing controls.

Accepted Answer

When the auditor attempts to understand the operation of the accounting system by tracing a few transactions through the accounting system, it is called performing a walk-through. This helps the auditor understand the flow of transactions and identify any potential weaknesses in the system. Tracing and vouching are more specific audit procedures that involve following transactions from the financial statements to their source documents (vouching) or from source documents to the financial statements (tracing). Testing controls is a broader category that includes assessing the effectiveness of the company's internal controls over financial reporting.

Question 5

The chart of accounts is helpful in preventing classification errors if it accurately describes which type of transaction should be in each account.

Accepted Answer

The chart of accounts serves as a guide for proper classification of transactions into appropriate accounts, reducing the chances of errors in financial reporting.

Question 6

When documenting their understanding of a client's internal controls, auditors are required to use narratives.

Accepted Answer

Auditors can use various methods to document their understanding of a client's internal controls, including narratives, flowcharts, questionnaires, or a combination of these methods.

Question 7

Which of the following is the correct definition of "control deficiency"?
A)A control deficiency exists if the design or operation of controls does not permit company personnel to prevent or detect misstatements on a timely basis.
B)A control deficiency exists if one or more deficiencies exist that adversely affect a company's ability to prepare external financial statements reliably.
C)A control deficiency exists if the design or operation of controls results in a more than remote likelihood that controls will not prevent or detect misstatements.
D)A control deficiency exists if the design or operation of controls results in a more than probable likelihood that controls will prevent or detect misstatements.

Accepted Answer

A control deficiency is defined as a situation where the design or operation of controls does not allow company personnel to prevent or detect misstatements in a timely manner. This encompasses both the failure in the design of the control (it is not adequate to catch errors or fraud) and the failure in operation (the control might be well designed but is not being applied effectively).

Question 8

The purpose of phase 3 in the "process for understanding internal control and assessing control risk" is to:
A)design, perform and evaluate tests of controls.
B)obtain and document an understanding of internal control design an operation.
C)assess control risk.
D)decide planned detection risk and substantive tests.

Accepted Answer

Phase 3 involves designing, performing, and evaluating tests of controls to determine their effectiveness in preventing or detecting material misstatements in the financial statements. Other phases in the process involve obtaining an understanding of internal control design and operation, assessing control risk, and deciding planned detection risk and substantive tests.

Question 9

Which of the following deficiency exists if a necessary control is missing or not properly formulated?
A)Control
B)Significant
C)Design
D)Operating

Accepted Answer

If a necessary control is missing or not properly formulated, it indicates a deficiency in the design of the control system.

Question 10

If an auditor wishes to rely on the work of internal auditors (IA), the auditor must obtain satisfactory evidence related to the IA's competence, integrity, and objectivity.

Accepted Answer

According to ISA 610 (Using the Work of Internal Auditors), if an auditor wishes to rely on the work of internal auditors, the auditor must obtain satisfactory evidence related to the IA's competence, integrity, and objectivity.

Question 11

You are performing the audit of internal control for Clifton Company.Which of the following would represent a material weakness in internal control?
A)The company's audit committee has experienced unusual turnover of members.
B)The company's CFO was indicted for embezzling from the company.
C)Bank reconciliations are done monthly.
D)The CEO retired after twenty years of service to the company.

Accepted Answer

The indictment of the CFO for embezzlement represents a material weakness in internal control as it indicates a breakdown in the system of checks and balances that should be in place to prevent fraud and ensure financial integrity. The other options do not necessarily imply a material weakness in internal control. A high turnover rate on the audit committee could indicate a problem with oversight, but it does not impact the internal controls themselves. Monthly bank reconciliations are a common practice and do not necessarily indicate a weakness. The retirement of the CEO may have implications for management of the company, but does not directly relate to internal control.

Question 12

When dealing with the documentation of internal control:
A)in a narrative, most questions simply require a "yes" or "no" response.
B)questionnaires offer useful checklists to remind the auditor of the many different types of internal controls that should exist.
C)questionnaires and flowcharts should not be used together.
D)flowcharts fail to show the segregation of duties in the company.

Accepted Answer

Questionnaires provide a comprehensive checklist for auditors to ensure all necessary internal controls are considered and evaluated during the documentation process. Narratives may require more detailed responses than just "yes" or "no." Flowcharts can be used in conjunction with questionnaires to provide a visual representation of internal control processes, but they may not always show the segregation of duties.

Question 13

Audit evidence regarding the separation of duties is normally best obtained by:
A)preparing flowcharts of operational processes.
B)preparing narratives of operational processes.
C)observation of employees applying control activities.
D)inquiries of employees applying control activities.

Accepted Answer

Observation of employees applying control activities provides the most direct and reliable audit evidence regarding the separation of duties. Flowcharts and narratives can be helpful in understanding the process, but they do not necessarily confirm whether a proper separation of duties is being applied. Inquiries can also provide information, but they may not always be reliable as employees may not be willing to disclose any weaknesses or deficiencies in the control environment.

Question 14

Walkthroughs combine observation, inspection, and inquiry to assure that the controls designed by management have been implemented.

Accepted Answer

Walkthroughs do indeed combine observation, inspection, and inquiry to verify the implementation of management's controls.

Question 15

To determine if significant internal control deficiencies are material weaknesses, they must be evaluated on their:
A) 
B) 
C) 
D)

Accepted Answer

The answer of To determine if significant internal control deficiencies...

Question 16

The person responsible for reconciling sales invoices to customer orders does not access to the company's master price list in order to correctly compute sales.This is an example of a(n):
A)operating deficiency.
B)design deficiency.
C)training deficiency.
D)management deficiency.

Accepted Answer

The issue described is a design deficiency because the system is not designed to allow the necessary access for the person responsible for reconciling sales invoices to customer orders. The other options are not applicable - operating deficiencies result from inadequate execution of existing procedures, training deficiencies result from inadequate education or training, and management deficiencies result from inadequate direction or oversight by leadership.

Question 17

A narrative should describe the disposition of every document and record in the system.

Accepted Answer

A comprehensive narrative should describe the disposition (e.g. retention, destruction, transfer, etc.) of every document and record in the system. This is important for ensuring proper management of records and compliance with legal and regulatory requirements.

Question 18

Narratives, flowcharts, and internal control questionnaires are three common methods of:
A)testing the internal controls.
B)documenting the auditor's understanding of internal controls.
C)designing the audit manual and procedures.
D)documenting the auditor's understanding of a client's organizational structure.

Accepted Answer

Narratives, flowcharts, and internal control questionnaires are all methods used by auditors to document their understanding of a client's internal controls. These methods are not used to test internal controls, design audit manuals and procedures, or document organizational structure. Therefore, the best choice is B, documenting the auditor's understanding of internal controls.

Question 19

Auditing standards prohibit reliance on the work of internal auditors due to the lack of independence of the internal auditors.

Accepted Answer

This statement is false. Auditing standards acknowledge the possibility of using the work of internal auditors but place restrictions on the extent of reliance that can be placed on their work due to issues related to independence and objectivity. Corrective actions may need to be taken to ensure that internal auditors are independent and objective before their work can be relied upon.

Question 20

When assessing whether the financial statements are auditable, the auditor must consider:
A)that the integrity of management and the adequacy of accounting records are the two primary factors determining auditability.
B)that the integrity of management and the adequacy of risk management are the two primary factors determining auditability.
C)that if all of the transaction information is available only in electronic form without a visible audit trail, the company cannot be audited.
D)the control risk before determining if the entity is auditable.

Accepted Answer

The integrity of management and the adequacy of accounting records are two crucial factors for the auditors to consider while assessing the auditability of financial statements. The auditor needs to ensure that the financial information is reliable, and the accounting records are accurate and complete. Control risk is determined during the audit process and doesn't affect the auditability assessment. The availability of transaction information in electronic form without a visible audit trail may pose a challenge during the audit process, but it does not necessarily make the company unauditable.

Quiz 10: Internal Control, Control Risk, and Section 404 Audits

The employee in charge of authorizing credit to the company's customers does not fully understand the concept of credit risk.This lack of knowledge would constitute:

Once auditors determine that entity level controls are designed and placed in the operation they:

For most uses, flowcharts are superior to narratives as a method of communicating the characteristics of internal control.

When the auditor attempts to understand the operation of the accounting system by tracing a few transactions through the accounting system, the auditor is said to be:

The chart of accounts is helpful in preventing classification errors if it accurately describes which type of transaction should be in each account.

When documenting their understanding of a client's internal controls, auditors are required to use narratives.

Which of the following is the correct definition of "control deficiency"?

The purpose of phase 3 in the "process for understanding internal control and assessing control risk" is to:

Which of the following deficiency exists if a necessary control is missing or not properly formulated?

If an auditor wishes to rely on the work of internal auditors (IA), the auditor must obtain satisfactory evidence related to the IA's competence, integrity, and objectivity.

You are performing the audit of internal control for Clifton Company.Which of the following would represent a material weakness in internal control?

When dealing with the documentation of internal control:

Audit evidence regarding the separation of duties is normally best obtained by:

Walkthroughs combine observation, inspection, and inquiry to assure that the controls designed by management have been implemented.

To determine if significant internal control deficiencies are material weaknesses, they must be evaluated on their:

The person responsible for reconciling sales invoices to customer orders does not access to the company's master price list in order to correctly compute sales.This is an example of a(n) :

A narrative should describe the disposition of every document and record in the system.

Narratives, flowcharts, and internal control questionnaires are three common methods of:

Auditing standards prohibit reliance on the work of internal auditors due to the lack of independence of the internal auditors.

When assessing whether the financial statements are auditable, the auditor must consider: