CONSIDERATION OF INTERNAL CONTROL

1. Internal control is a function of management, and effective control is based upon the concept of charge and
discharge of responsibility and duty. Which of the following is an important feature of effective internal control?
A. Responsibility for accounting and financial duties should be assigned to one responsible officer.
B. Responsibility for the performance of each duty must be fixed.
C. Responsibility for the accounting duties must be borne by the auditing committee of the company.
D. Responsibility for accounting activities and duties must be assigned only to employees who are bonded.

2. The control environment includes which of the following?

A. Control activities
B. Management philosophy and operating style
C. Assessing activity level risks
D. Application level controls

3. Which of the following is not a major emphasis in the design of effective internal accounting control?
A. Assets are properly protected.
B. Duties are segregated.
C. Transactions are authorized.
D. Processes are efficient.

4. A proper understanding of the client’s internal control is an integral part of the audit planning process. The results
of the understanding
A. must be reported to the major stakeholders.
B. always require the auditor in testing the control policies and procedures.
C. are not reported to client management.
D. may be used as the basis for withdrawing from an audit engagement.

5. The auditor who becomes aware of reportable conditions is required to communicate such a weakness to the
A. audit committee and client’s legal counsel.
B. board of directors and internal directors.
C. senior management and board of directors.
D. internal auditors and senior management.

6. As part of understanding internal controls, an auditor is not required to

A. consider factors that affect the risk of material misstatement.
B. ascertain whether internal control policies and procedures have been placed in operation.
C. identify the types of potential misstatements that may occur.
D. obtain knowledge about the operating effectiveness of internal control.

7. The purpose of tests of controls is to provide reasonable assurance that the

A. accounting treatment of transactions and balances is valid and proper.
B. control procedures are functioning as intended.
C. entity has complied with disclosure requirements of PFRS.
D. entity has complied with requirements of quality control.

8. Tests of controls are used to test whether controls are

A. operating effectively.
B. placed in operation (implemented).
C. properly accumulated into balance sheet totals.
D. properly documented by the client.

9. After documenting internal control in an audit engagement, the auditor may perform tests on
A. those controls that the auditor plans to rely on.
B. those controls in which deficiencies were identified.
C. those controls that have a material effect on the financial statement balances.
D. a random sample of the controls that were reviewed.

10. Which of the following audit techniques would most likely provide an auditor with the most assurance about the
effectiveness of the operation of an internal control procedure?
A. Inquiry of client personnel
B. Recomputation of an account balance
C. Observation of client personnel
D. Confirmation of balances or transactions with outside parties

11. After the study and evaluation of a client's internal control policies and procedures has been completed, an auditor
might decide to
A. increase the extent of substantive testing in areas where the internal control policies and procedures are strong.
 B. reduce the extent of control testing in areas where the internal control policies and procedures are strong.
C. reduce the extent of both substantive and control testing in areas where the internal control policies and
procedures are strong.
D. increase the extent of substantive testing in areas where the internal controls are weak.

12. The Philippine Standards on Auditing require the auditor to obtain an understanding of the client's internal controls
A. for every audit.
B. for first-time audits.
C. sufficient to find any frauds which may exist.
D. whenever it would be appropriate.

13. Control testing is performed in order to determine whether or not

A. the assessed level of control risk can be reduced.
B. necessary controls are absent.
C. incompatible functions exist.
D. material peso errors exist.

14. The auditor is studying internal control policies and procedures within the sales, shipping, and billing subset of the
revenue cycle. Which of the following conditions suggests a need for additional testing of controls?
A. Internal control is found to be weak with regard to shipping and billing.
B. Internal control over sales, billing, and shipping appears strong, but 80% of sales revenue is attributable to three
major customers.
C. Internal control over billing and shipping is thought to be strong and the auditor considers additional testing of
selected controls will result in a major reduction in substantive testing.
D. Internal control over the recording of sales is found to be weak and the sales are evenly divided among a large
number of customers.
15. To obtain an understanding of the relevant policies and procedures of internal control, the auditor performs all of
the following except:
A. Make inquiries.
B. Make observations.
C. Inspect documents and records.
D. Design substantive tests.

16. It is most appropriate that tests of controls be applied to transactions and controls
A. at the balance sheet date.
B. at each quarterly interim period.
C. for the entire period under audit.
D. at the beginning of the fiscal period.

17. To obtain evidence about control risk, an auditor ordinarily selects tests from a variety of techniques, including:
A. Analysis
B. Confirmation
C. Reperformance
D. Comparison

18. An auditor wishes to perform tests of controls on a client’s cash disbursements procedures. If the controls leave no
audit trail of documentary evidence, the auditor most likely will test the procedures by
A. confirmation and observation.
B. analytical procedures and confirmation.
C. observation and inquiry.
D. inquiry and analytical procedures.

19. Management’s attitude toward aggressive financial reporting and its emphasis on meeting projected profit goals
most likely would significantly influence an entity’s control environment when
A. the audit committee is active in overseeing the entity’s financial reporting policies.
B. external policies established by parties outside the entity affect its accounting practices.
C. management is dominated by one individual who is also a shareholder.
D. internal auditors have direct access to the board of directors and entity management.

20. Of the following control environment characteristics, identify the one that contributes most to effective internal
control.
A. The audit committee consists of the president, two vice- presidents, and the corporate controller.
B. The company does not have a centralized human resource function.
C. The company has an effective internal audit staff that monitors controls on a continuous basis.
D. The company routinely transacts business with related parties.

21 An advantage of an internal control questionnaire is:

A. Flexibility in design and application.
 B. Its strict adherence to a yes/no format.
C. That it provides sufficient data for the assessment of control risk.
D. Ease of completion.

22. The auditors' understanding of their client's internal control provides a basis for:
Assessing Planning Assessing
Sufficiency Risk the Audit Control Risk
A. Yes Yes Yes
B. Yes Yes No
C. No Yes Yes
D. No Yes No

23. With respect to the client's system of internal control, the auditor is concerned that the existing policies and
procedures provide reasonable assurance that
A. operational efficiency can be achieved in accordance with management plans.
B. errors and fraud can be prevented or detected.
C. fraud cannot be committed through collusion.
D. management cannot override the internal controls.

24. Which of the following best describes the primary reason why an auditor uses flowcharts during an audit
engagement?
A. To comply with the requirements of Philippine Standards on Auditing.
B. To classify the client's documents and transactions by major transaction cycles, e.g., cash receipts, cash
disbursements, etc.
C. To record the auditor's understanding of the client's internal control policies and procedures.
D. To interpret the operational effectiveness of the client's existing organizational structure.

25. Regardless of whether the auditor decides to test or not the controls for operating effectiveness, he/she must fully
document his or her understanding of the internal control policies and procedures obtained through whatever means.
Which of the following does not describe an appropriate means for documenting his/her understanding of the control
system?
A. Internal control flowchart
B. Internal control implementation
C. Internal control memorandum
D. Internal control questionnaire

26. Which of the following questions would an auditor most likely include in an internal control questionnaire for notes
payable?
A. Are assets that collateralize notes payable critically needed for the entity’s continued existence?
B. Are two or more authorized signatures required on checks that repay notes payable?
C. Are the proceeds from notes payable used for the purchase of noncurrent assets?
D. Are direct borrowings on notes payable authorized by the board of directors?

27. In an auditor’s consideration of internal control, the completion of a questionnaire is most closely associated with
which of the following?
A. Separation of duties
B. Flowchart accuracy
C. Understanding the system
D. Tests of controls

28. During the review of the client’s system of internal control, the auditor observes the client employees as they apply
the operating controls in order to
A. prepare a flowchart.
B. update information contained in the organization and procedure manuals.
C. corroborate the information obtained during the initial review of the system.
D. determine the extent of compliance with quality control standards.

29. An auditor’s flowchart of a client’s internal controls is a diagram depicting the auditor’s
A. understanding of the internal controls.
B. program for tests of controls.
C. documentation of consideration of internal controls.
D. understanding of the types of irregularities that are probable.

30. Which of the following statements regarding the auditor’s documentation of the client’s internal control structure is
correct?
A. Documentation must include flow charts.
B. Documentation must include procedural write-ups.
C. No documentation is necessary although it is desirable.
 D. No one particular form of documentation is necessary, and the extent of documentation may vary.

31. The objective of dual-purpose tests is to:

A. Evaluate whether internal controls are operating effectively.
B. Detect material misstatements in the financial statements.
C. Identify unusual trends or patterns in comparative financial statements.
D. Test internal controls as well as transactions and balances using the same test procedures.

32. Which of the following types of evidence will be gathered in order to test internal controls?
A. Confirmations of accounts receivable with customers.
B. Observation of client personnel receiving inventory shipments.
C. Observation of inventory counts.
D. Inquiry of management regarding significant litigation.

33. Tests of controls least likely include:

A. Inquiries of appropriate client vendors.
B. Reperformance of a control.
C. Observation of the application of an accounting procedure.
D. Inspection of documents.

34. A procedure that would most likely be used by an auditor in performing tests of control regarding segregation of
functions on which no audit trail is available:
A. inspection.
B. observation.
C. reprocessing.
D. reconciliation.
35. The primary purpose of performing further control tests is to provide
A. a basis for reducing the assessed level of control risk below the maximum level.
B. a basis for understanding the flow of transactions through the accounting system.
C. assurance that transactions are properly recorded.
D. all accounting control procedures leave visible evidence.

36. Which of the following procedures most likely would be included as part of an auditor's tests of control procedures?
A. Inspection
B. Reconciliation
C. Confirmation
D. Analytical procedures

37. Which of the following audit tests would be a test of controls?

A. Tests of the specific items making up the balance in a financial statement account.
B. Comparing inventory prices to vendors’ invoices.
C. Tracing signatures on canceled checks to board of directors’ authorizations.
D. Tests of the additions to property, plant, and equipment by physical inspections.

38. Which of the following statements is true?

A. Tests of controls are necessary if the auditor plans to use the primarily substantive approach.
B. Tests of controls are necessary if the auditor plans to assess the level of control risk at maximum.
C. The auditor can simultaneously obtain an understanding of internal control and perform tests of controls.
D. After performing tests of controls, the auditor will always assess control risk at maximum.

39. Which of the following statements about tests of controls is not valid?
A. The auditor may perform inquiry and observation and gathering audit evidence about the operating
effectiveness of the control.
B. Ordinarily, making inquiries provides more reliable audit evidence than doing observation when testing
segregation of functional responsibilities.
C. Audit evidence obtained by doing observation pertains only to the point in time at which the procedure was
applied.
D. Observation of who applies a control procedure is useful as a test of control procedures when evaluating control
effectiveness of both computerized and manual system.

40. Which of the following is appropriate about risk assessment?

A. The assessed level of inherent and control risk can be sufficiently low, thus resulting to eliminating the need
for substantive tests.
B. Audit risk may be more effectively determined by assessing inherent and control risk separately.
C. There is an inverse relationship between detection risk and the combined level of inherent and control risk.
D. Detection risk is eliminated if an auditor were to examine 100 percent of the account balance or class of
transactions.