Audit and Assurance Services:

Chapter 2 Homework
2.26 Which of the following categories of principles is most
closely related to gathering audit evidence?
a. Performance.
b. Reasonable assurance.
c. Reporting.
d. Responsibilities.

2.27 Which of the following is not related to ethical

requirements of auditors?
a. Due care.
b. Independence in appearance.
c. Independence in fact.
d. Professional judgment.

2.28 One of an accounting firm's basic objectives is to provide

professional services that conform to professional standards.
Reasonable assurance of achieving this objective can be obtained
by following
a. Generally accepted auditing standards.
b. Standards within a system of quality control.
c. Generally accepted accounting principles.
d. International auditing standards.

2.29 Which of the following best demonstrates the concept of

professional skepticism?
a. Relying more extensively on external evidence rather than
internal evidence.
b. Focusing on items that have a more significant quantitative
effect on the entity's financial statements.
c. Critically assessing verbal evidence received from the
entity's management.
d. Evaluating potential financial interests held by auditors in
the client.
2.30 The primary purpose for obtaining an understanding of the
entity's environment (including its internal control) in a
financial statement audit is
a. To determine the nature, timing, and extent of substantive
procedures to be performed.
b. To make consulting suggestions to the entity's management.
c. To obtain direct sufficient appropriate audit evidence to
afford a reasonable basis for an opinion on the financial
statements.
d. To determine whether the entity has changed any accounting
principles.

2.31 Ordinarily, what source of evidence should least affect

audit conclusions?
a. External documentary evidence.
b. Inquiry of management.
c. Documentation prepared by the audit team.
d. Inquiry of entity legal counsel.

2.32 The most reliable evidence regarding the existence of newly

acquired computer equipment is
a. Inquiry of management.
b. Documentation prepared externally.
c. Evaluation of the client's procedures.
d. Physical observation.

2.33 Which of the following procedures would provide the most

reliable audit evidence?
a. Inquiries of the client's internal audit staff.
b. Inspection of prenumbered client purchase orders filed in the
vouchers payable department.
c. Inspection of vendor sales invoices received from client
personnel.
d. Inspection of bank statements obtained directly from the
client's financial institution.
2.34 Breaux & Co. CPAs require that all audit documentation
indicate the identity of the preparer and the reviewer. This
procedure provides evidence relating to which of the following?
a. Independence.
b. Adequate competence and capabilities.
c. Adequate planning and supervision.
d. Gathering sufficient appropriate evidence.

2.35 Which of the following concepts is least related to the

standard of due care?
a. Independence in fact.
b. Professional skepticism.
c. Prudent auditor.
d. Reasonable assurance.

2.36 The evidence considered most appropriate by auditors is

best described as
a. Internal documents such as sales invoice copies produced
under conditions of strong internal control.
b. Written representations made by the president of the entity.
c. Documentary evidence obtained directly from independent
external sources.
d. Direct personal knowledge obtained through physical
observation and mathematical recalculation.

2.37 Auditors' understanding of the internal control in an

entity provides information for
a. Determining whether members of the audit team have the
required competence and capabilities to perform the audit.
b. Ascertaining the independence in mental attitude of members
of the audit team.
c. Planning the professional development courses the audit staff
needs to keep up to date with new auditing standards.
d. Planning the nature, timing, and extent of substantive
procedures on an audit.
2.38 Which of the following elements of a system of quality
control is related to firms receiving independence confirmations
from its professionals with respect to clients?
a. Acceptance and continuance of client relationships and
specific engagements.
b. Engagement performance.
c. Monitoring.
d. Relevant ethical requirements.

2.39 Which of the following is most closely related to the

responsibilities principle?
a. The auditors' responsibility to issue a report as a result of
their examination.
b. The requirement that auditors gather sufficient, appropriate
evidence upon which to base an opinion on the financial
statements.
c. The auditors' compliance with relevant ethical requirements
of independence and due care.
d. The auditors' responsibility to plan the audit and properly
supervise assistants.

2.40 Kramer, CPA, consulted an independent appraiser regarding

the valuation of fine art for a not-for-profit museum.
Consultation with the appraiser in this case would
a. Be considered as exercising proper due care.
b. Be considered a failure to follow generally accepted auditing
standards because Kramer should have known how to value fine art
before accepting the engagement.
c. Not be considered a violation of generally accepted auditing
standards because generally accepted auditing standards does not
apply to not-for-profit entities.
d. None of the above.

2.41 Which of the following topics is not addressed in the

auditors' report for a public entity?
a. Responsibilities of the auditor and management in the
financial reporting process.
b. Absolute assurance regarding the fairness of the entity's
financial statements in accordance with GAAP.
c. A description of an audit engagement.
d. A summary of the auditors' opinion on the effectiveness of
the entity's internal control over financial reporting.

2.42 Which of the following recognizes that an audit conducted

under generally accepted auditing standards may not detect all
material misstatements?
a. Absolute assurance.
b. Professional judgment.
c. Reliability of audit evidence.
d. Reasonable assurance.

2.43 Which of the following combinations would provide the

auditor the most reliable evidence?
Source of Evidence Effectiveness of Internal
Control
a. Internal More effective
b. Internal Less Effective
c. External More Effective
d. External Less Effective

2.44 Which of the following is most closely related to the

relevance of audit evidence?
a. Auditors decide to physically inspect investment securities
held by a custodian instead of obtaining confirmations from the
custodian.
b. In addition to confirmations of accounts receivable, auditors
perform an analysis of the aging of accounts receivable to
evaluate the collectability of accounts receivable.
c. In response to less effective internal control, auditors
increase the number of customer accounts receivable
confirmations mailed compared to that in the prior year.
d. Because of a large number of transactions occurring near
year-end, auditors decide to confirm a larger number of
receivables following year-end instead of during the interim
period.
2.45 Which of the following statements is not true with respect
to the performance principle?
a. Auditors are required to prepare a written audit plan during
the planning stages of initial audits but are not required to do
so in continuing audits.
b. Audit teams consider materiality in planning the audit,
performing the audit, and evaluating the effect of misstatements
on the entity's financial statements.
c. In assessing the risk of material misstatements, the audit
team considers the effectiveness of the entity's internal
controls in preventing and detecting misstatements.
d. Auditors are required to consider both the relevance and the
reliability of evidence in evaluating whether the evidence they
have gathered is appropriate.

2.46 Which of the following is true with respect to PCAOB

inspections of accounting firms?
a. All firms performing audits of public companies are required
to have annual inspections conducted by the PCAOB.
b. PCAOB inspections review a sample of audits conducted by
firms as well as the firm's systems of quality control.
c. All results of PCAOB inspections are made available to the
public following the inspection.
d. Firms performing audits of 100 or fewer public entities may
elect to have a peer review conducted through the AICPA in lieu
of a PCAOB inspection.

2.47 The particular and specialized actions that auditors take

to obtain evidence during a specific engagement are known as
a. Audit procedures.
b. Audit standards.
c. Interpretive publications.
d. Statements on Auditing Standards.

2.48 Which of the following combinations of standards and types

of audits are most closely related to the activities of the
Public Company Accounting Oversight Board?
a. Develop Auditing Standards for the audits of nonpublic
entities.
b. Develop Auditing Standards for the audits of public entities.
c. Develop Statements on Auditing Standards for the audits of
nonpublic entities.
d. Develop Statements on Auditing Standards for the audits of
public entities.

2.49 Which of the following best describes the general contents

of the 8introductory paragraph of LO 2-4, LO 2-4 Exercises and
Problems LO 2-1, 2-5, LO 2-1, LO 2-2 in the auditors' report?
a. A description of an audit examination, including the fact
that the audit was conducted under standards established by the
PCAOB.
b. The auditors' conclusion with respect to the fairness of the
entity's financial statements.
c. Statements identifying the responsibility of auditors and
management in the financial reporting process.
d. The auditors' conclusion with respect to the effectiveness of
the entity's internal control over financial reporting.

2.50 Which of the following opinions would be issued if auditors

believed that the entity's financial statements were not
presented in conformity with GAAP?
a. Adverse opinion.
b. Disclaimer of opinion.
c. Qualified opinion.
d. Unmodified opinion.

2.51 Which of the following principles is most closely

associated with the auditors' conclusion as to the fair
presentation of the entity's financial statements?
a. Communication principle.
b. Performance principle.
c. Reporting principle.
d. Responsibilities principle.
2.56 Professional Skepticism. An important principle for
auditors is the need to maintain an appropriate level of
professional skepticism.
Required:
a. Define Professional Skepticism.
- Professional skepticism can be defined in the
professional auditing standards as having an attitude
that includes a questioning mind and a critical
assessment of evidence.

b. During which stages of audit are auditors required to

exhibit professional skepticism?
- Evidence obtained through different procedures that seems
contradictory on its face should be met with professional
skepticism.
- The reliability of some evidence itself should be
represented in the light of professional skepticism.

c. How does each of the following independent issues

potentially relate to the principle of professional
skepticism?
a. The auditors firm has served the client for a long
period of time, and strong friendships have developed
between the firm personnel and the clients officers.
- A conflict of interest exits in that the auditor may not
act objectively because of the will to retain any
relationships that have developed between he, his team,
and the firm being audited.

b. Auditors are anxious to complete the audit shortly

before other workload demands and deadlines related to
other engagements.
- If the auditors are in a rush, a possibility exists that
they are not being as thorough as they possibly could as
in a scenario where no other engagements or deadlines
existed.

c. The client has mentioned on a number of occasions its

desire to reduce (or limit) the audit fee.
- As the client has expressed their interest in a
lower audit fee, the auditing team may be pressed to
cut come corners to minimize their own costs of
 service, thus not being as thorough as they perhaps
need to be.

2.60 Performance Principle. You have accepted the engagement of

auditing the financial statements of the C. Reis Company, a
small firm that has been your client for several years. Because
you were busy writing the report for another engagement, your
sent a staff accountant to begin the audit with the suggestion
that she starts with accounts receivable. Using the prior years
audit documentation as a guide, she prepared a trial balance of
the accounts, aged them, prepared and mailed positive
confirmation requests, examined underlying support for charges
and credits, and performed other work she considered necessary
to obtain evidence about the validity and collectability of the
receivables. At the conclusion of her work, you reviewed the
prior years audit documentation.
Required: The opinion rendered by auditors states that the audit
was made in accordance with generally accepted auditing
standards. Identify the important components of the performance
principle and relate them to the audit of C. Reis Company by
indicating how they were fulfilled or, if appropriate, how they
were not fulfilled.
- The key components of the performance principle are 1)
reasonable assurance, 2) planning and supervision, 3)
materiality, 4) risk assessment, and 5) audit evidence. In
regard to the audit of C. Regis Company, an issue present is the
fact that the prior years financial statements and audit report
were reviewed, but each and every fiscal year of a firm can
differ greatly, and thus new material can be missed. Thus, under
the performance principle, a lack of due care in obtaining all
possible evidence could exist. Furthermore, the staff accountant
was not supervised as thoroughly as may be necessary, as the
auditor who accepted the engagement had not been present during
the audit by the staff accountant. Finally, the investigation
into the firms risks as not been mentioned in the background
information, which should be assessed during the audit.

2.65 Fundamental Principles (Comprehensive). In each of the

following, identify which of the elements of the fundamental
principles is most applicable. In addition, discuss what
action(s) (if any) you believe auditors should take with respect
to these issues.
a. An entity has contacted you about performing its audit
engagement. You have not previously served a client in the
entitys industry, which has many industry-specific accounting
issues that are both technical and complex.
- A lack of understanding in the industry could be attributable
to a deficiency in the auditors performance, so they must make
a judgement call as to whether or not they will be able to train
properly in all of the industry-specific accounting issues
mentioned.
b. An entity has entered into a number of lease agreements.
Based on the requirements of GAAP, you believe that these
obligations meet the criteria for being classified as capital
leases; however, the entity has elected to treat these as
operating leases, providing full and complete disclosure of this
treatment in the footnotes to the financial statements.
- In this case, either an exception in a Qualified, or
conversely, an Adverse opinion would have to be issued. This
could come down to the total materiality of the difference in
each lease treatment.
c. Because of a disagreement with its current auditors, an
entity has contacted you about conducting its current-year
audit. However, because the previous auditors have just recently
resigned from the engagement, you have some question as to
whether an audit can be completed in time to meet the entitys
deadlines for providing audited financial statements to a
lender.
-The issue in this case would be regarding the Responsibilities
Principle. The auditors need to ensure that they do not rush the
audit so that their analysis will be as thorough as it needs to
be, regardless of a time constraint; otherwise, if the auditor
does not feel that they will be able to complete the analysis
on-time and with as much thoroughness required, they should not
accept the engagement.
d. Based on the effectiveness of the entitys internal control,
you have assessed control risk at low levels and decided that a
smaller number of customer accounts need to be confirmed.
- In this case, if the internal controls risk of control has
been assessed at low levels, the auditor may choose to analyze
fewer customer accounts IF these accounts are less risky in
general; for example, if a clients account is at higher risk of
late, missed, or erroneous payments, the auditors should ensure
that they were recorded properly. Furthermore, larger customer
accounts that make up larger portions of the companys accounts
receivable or income should still be checked.
e. An entity has contacted you about performing its engagement
audit. This entity became aware of your firm because the husband
of one of your partners is currently serving as the entitys
chief financial officer.
- The issue in this case regards the Responsibilities
Principles, in that the auditing firm is not independent in
appearance due to the marital relationship outlined above. Thus,
they cannot/should not accept the engagement.
f. One of yours clients is currently a potential defendant in
several cases because of the damage caused by one if its
products. Because this entity does not believe that it is likely
to receive an unfavorable outcome from this litigation, it did
not disclose the potential litigation in the footnotes
accompanying their financial statements.
- In this case, the Reporting Principle should be called into
analysis, as the firm may not be following a GAAP rule in the
recording/representation in the footnotes of the contingent loss
mentioned above. Thus, the auditor should either issue a
Qualified opinion (with exceptions) to mention the lack of
disclosure in the footnotes, or if the contingent loss is
substantial, significant, or most likely to occur, the auditor
may have to issue an adverse opinion.
g. You are performing tests of the clients controls over the
processing of revenue transactions to determine whether these
controls are operation effectively and can be relied upon to
prevent or detect misstatements.
- The Performance, and more specifically, Risk Assessment
aspects/principles are the ones most significant to this case,
in ensuring that internal controls pose the lowest level of risk
possible in relying on their evidence. Otherwise, further
analysis and more evidence from external sources may be
required.
h. One of your supervisors has requested a number of
clarifications based on her review of your work on an audit
engagement. A subsequent meeting with her has resolved these
clarifications, and you both have concluded that your work
supports the opinion on the clients financial statements.
- Performance Principle, Review and Supervision aspects, Are
most relevant to this case, where the due care and follow-up
meeting between the auditors shows no immediate issue.

2.67 Fundamental Principles (Comprehensive). Comment upon each

of the following statements you heard in a conversation between
two newly hired staff auditors.
a. Of course, Im qualified to be assigned to this engagement,
I have an accounting degree from a top university and was an
honors graduate. I know some of the accounting rules have
changed since I graduated, but Ill be able to figure that out
as we go through the audit.
- This attitude shows a lack of understanding in the
complexities of new and modified FASB codification terms, as
well as other code that is changed from year to year. The
auditors degree certified that he/she was once qualified to be
assigned to any specific engagement, but a thorough
understanding of the specific industry the client is engaged in,
and more specifically, the altering Accounting codifications
they must keep track of, are more significant qualifying
factors.
b. It really doesnt matter what others thinkIm completely
independent of ACME industries and should be a member of the
audit team. While I own some stock, its a small amount and Im
holding it for the long term, anyway.
- This auditor is clearly not independent from the firm in both
fact and appearance; they have not divested themselves from any
ownership in the firm and thus cannot be included in the
engagement.
c. You really have to question everything the client tells you.
Thats what professional skepticism is all about. Its a shame
you cant believe a word they say.
- This approach seems overtly disrespectful to the client; yes,
while professional skepticism is encouraged at every stage in
the auditing process, the auditor should still take everything
the client has to say into consideration during their analysis,
while keeping a questioning and routinely analytical mind about
what is being presented to them.
d. The evidence is lower in quality, but we typically use
internal evidence when we audit property, plant, and equipment.
It just takes too much time and costs too much to get more
reliable evidence.
- While P, P, & E are typically fixed assets and thus do not
need evidence that is costly and time-prohibiting to acquire,
if, as in the above example, management is aware of more
reliable evidence that exists, they should exercise all possible
due care in attaining as much reliable evidence as they feasibly
could.
e. On that last job, we really planned the audit well. We were
able to finish everything by November 1st and didnt need to do
any work after year-end.
- While this auditing team may have planned their audit well
from their point of view, a significant issue exists in that
some two full months of activities took place after the date
they had finished on and are therefore blatantly ignoring
several transactions and reporting work, violating the standards
set out by GAAS.
f. Were not too worried about internal control. We always do
the same substantive procedures anyway, so why take the time to
look at the clients controls?
- This quote ignores the fact that not all substantive
procedures an auditor may carry out are relevant to all
industries or all facets of a clients internal control, and
that the industry as well as internal control processes may
change from year to year. While the auditors are not required to
follow or rely on the clients internal control, they are indeed
required to at least understand them.
g. Because the client isnt accounting for its leases properly,
we need to issue either a qualified opinion or a disclaimer of
opinion. Just how large a dollar impact does this have on the
financial statements?
- The auditors need to determine if the difference between the
methods of evaluating their leases is indeed material and would
change the end users perception and usage of the financial
statements. Otherwise, the auditors should issue a Qualified
opinion (with the exception for the lease), or if the difference
is significant and the firm does not follow the guidelines set
out by GAAP, an adverse opinion may be necessary.
h. When we evaluate items for materiality, the only thing we
need to worry about is the absolute dollar amount, There really
isnt anything else we need to consider.
- The issue I would take up with this quote is that in many
cases, several qualitative factors also accompany items that are
being evaluated for materiality. For example, a small fine from
the EPA may come with the demand that the company cease
operations in one of its major plants. Thus, a quantitative
piece of evidence was not sufficient on its own in determining
the materiality of an item.