Question 1

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

Accepted Answer

Control risk is one of the components of audit risk, which refers to the risk that a material misstatement could occur in an account balance or class of transactions, and the internal controls designed to prevent or detect it will not be effective. As such, control risk affects the nature, timing, and extent of the auditor's testing procedures, which are designed to obtain sufficient and appropriate audit evidence to support the opinion on the financial statements. If control risk is higher, the auditor may need to perform more substantive testing procedures, such as testing account balances directly, to mitigate the risk of not detecting a material misstatement. Conversely, if control risk is lower, the auditor may rely more on the entity's internal controls and perform less substantive testing.

Question 2

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

Accepted Answer

Internal control is designed to help an entity achieve its objectives by providing reasonable assurance that its operations are effective and efficient, its financial reporting is reliable, and it complies with applicable laws and regulations.

Question 3

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

Accepted Answer

Internal control weaknesses increase the risk of material misstatements being undetected by management's processes and controls, therefore the statement is false.

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.

Accepted Answer

This statement is true. Segregation of incompatible duties is an important internal control principle that helps prevent errors or fraud by ensuring that no single employee has too much control over a process or transaction. It involves separating responsibilities so that one person is not able to both commit and cover up possible mistakes or wrongdoing.

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.

Accepted Answer

The purpose of an auditor's management letter is to communicate to the client any weaknesses or deficiencies identified in the client's internal controls, and to provide recommendations for improving those controls in order to enhance the company's operations and financial reporting.

Question 6

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

Accepted Answer

Audit risk is the risk that an auditor may issue an unqualified opinion on financial statements that contain a material misstatement, not specifically related to the entity's internal control system's ability to prevent or detect such 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

Accepted Answer

Changing audit risk parameters is not an inherent limitation of internal control. It is a decision made by the auditor based on their risk assessment and evaluation of internal controls. The other options listed are inherent limitations of internal control that may occur despite the best efforts of management and the control environment.

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.

Accepted Answer

This situation best describes audit risk. Despite performing an audit and issuing an unqualified report, there was still a risk that the financial statements were misstated. Audit risk is the risk that the auditor may issue an incorrect opinion (in this case, an unqualified opinion) when the financial statements are materially misstated. It is a function of three types of risk: inherent risk, control risk, and detection risk. This situation may have been caused by inherent risk (i.e. the risk that misstatements could occur due to the nature of the company's business or industry) or detection risk (i.e. the risk that the auditor did not detect the misstatements despite performing reasonable procedures). It is not necessarily an indication of poor internal controls, human error, or unethical behavior.

Question 9

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

Accepted Answer

Larger entities often have more complex structures and processes, making it harder to implement and enforce effective internal controls. This can be due to factors such as a decentralized organizational structure or lack of resources.

Question 10

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

Accepted Answer

An internal control exception is indeed an observed condition that indicates that the control being tested did not operate as intended. Exceptions can be caused by errors, fraud, or other issues, and they may require remedial action to be taken to strengthen the control environment.

Question 11

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

Accepted Answer

Collusion among employees can allow them to work together to bypass internal controls, which is a limitation of these controls.

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.

Accepted Answer

The answer of Stanley Morgan has learned that it is...

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

Accepted Answer

The answer of As part of her annual review Roma...

Question 14

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

Accepted Answer

Checklists and preformatted questionnaires provide a structured approach to auditing industries that the auditor may not be familiar with, ensuring all necessary areas are covered and reducing the risk of oversight or errors.

Question 15

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

Accepted Answer

Narratives involve the auditor providing a written description of each step of the flow of transactions.

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

Accepted Answer

The answer of Thea Lisowski decided to list several questions...

Question 17

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

Accepted Answer

The internal control objective referred to is 'timeliness', which ensures transactions are recorded in the correct accounting period. 'Valuation' relates to ensuring transactions are recorded at the correct amounts.

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.

Accepted Answer

The internal control objective of 'real' refers to preventing fictitious or duplicate transactions from being included in an organization's books and records. This helps to ensure the accuracy and integrity of the financial information.

Question 19

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

Accepted Answer

Management's philosophy and operating style are a key component of an entity's control environment. This includes the values, beliefs, and attitudes of management towards important business aspects such as integrity, ethical behavior, risk management, and financial reporting. These factors shape the organization's culture and set the tone for how employees behave and make decisions. Therefore, it is important for auditors to assess the management's philosophy and operating style as part of their overall evaluation of the control environment.

Question 20

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

Accepted Answer

Significant professional judgment is often required to determine whether an internal control weakness is significant enough to warrant communication to management. There are no clear-cut rules or guidelines that define the level of significance for a control weakness, so the auditor must use their professional judgment and experience to make this determination.

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