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:
Answer(s): B
Choice "b" is correct. When management is dominated by one individual who is also a shareholder, there may be an opportunity for management to override control procedures. Choice "a" is incorrect. Influence of external parties serves an oversight role that strengthens the control environment and minimizes the effect of management's attitude. Choice "c" is incorrect. Existence of internal auditors with direct access to the board of directors strengthens the control environment and lessens the effect of management's attitude. Choice "d" is incorrect. Active participation of those charged with governance serves an oversight role that strengthens the control environment and lessens the effect of management's attitude.
Which of the following characteristics most likely would heighten an auditor's concern about the risk of material misstatements in an entity's financial statements?
Answer(s): A
Choice "a" is correct. In assessing the risk related to material misstatements in an entity's financial statements, the auditor would consider situations that threaten financial stability or profitability, since such situations might provide an incentive to fraudulently misstate the financial statements. Included as one of these characteristics is declining customer demand. Choice "b" is incorrect. Even though the bonding of employees who handle cash is recommended, it is not a significant characteristic in assessing the risk related to material misstatement in an entity's financial statements.Choice "c" is incorrect. Bank reconciliations with in-transit deposits are not unusual and would not heighten the auditor's concern about the risk of material misstatement. In-transit deposits can be verified with the bank at a later date.Choice "d" is incorrect. Since depreciation does not adjust an asset to market value, the sale of equipment at a loss before being fully depreciated is not unusual and would not heighten an auditor's concern.
Which of the following characteristics most likely would heighten an auditor's concern about the risk of intentional manipulation of financial statements?
Answer(s): C
Choice "c" is correct. Excessive pressure on management to meet financial targets is a fraud risk factor that would heighten an auditor's concern about the risk of intentional manipulation of financial statements.Choice "a" is incorrect. Low turnover would reduce the auditor's concern about intentional manipulation of the financial statements.Choice "b" is incorrect. Insider purchases of company stock would not be a factor that would cause any particular concerns about intentional manipulation of financial statements. Choice "d" is incorrect. A slow rate of change in the entity's industry would reduce the auditor's concern about the risk of intentional manipulation of the financial statements.
Which of the following statements reflects an auditor's responsibility for detecting errors and fraud?
Answer(s): D
Choice "d" is correct. The auditor should assess the risk that errors and fraud may cause the financial statements to contain a material misstatement. Based on that assessment, the auditor should design the audit to provide reasonable assurance of detecting material errors and fraud. Choice "a" is incorrect. An auditor is responsible for designing the audit to provide reasonable assurance of detecting material misstatement. This responsibility is the same regardless of the cause of the misstatement. The presence of employee collusion or management override does not change the auditor's responsibility, although it might explain why a properly planned and executed audit did not result in the discovery of material fraud.Choice "b" is incorrect. The audit should be designed to detect material errors and fraud, regardless of the cause.Choice "c" is incorrect. The auditor is not "responsible for detecting errors and fraud," but is responsible for designing the audit to provide reasonable assurance of detecting material misstatement, whether due to errors or fraud. Note that the auditor's responsibility relates to the design and execution of the audit, and that even an audit performed in accordance with GAAS may miss a material misstatement.
During the annual audit of Ajax Corp., a publicly held company, Jones, CPA, a continuing auditor, determined that illegal political contributions had been made during each of the past seven years,including the year under audit. Jones notified the board of directors about the illegal contributions, but they refused to take any action because the amounts involved were immaterial to the financial statements.Jones should reconsider the intended degree of reliance to be placed on the:
Choice "c" is correct. The auditor should consider the implications of an illegal act in relation to other aspects of the audit, particularly the reliability of representations of management. Choice "a" is incorrect. The integrity of the client's attorney would not necessarily be affected by illegal acts performed by the client.Choice "b" is incorrect. The prior year audit plan would not be affected by the discovery of illegal acts in past years.Choice "d" is incorrect. The auditor should consider the quantitative and qualitative materiality of the illegal act. However, this does not change the preliminary judgment about materiality levels.
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