agamata chap 13

Multiple Choice Questions

Fraud and Error

1. Material misstatements may emanate from all of the following except
a. fraud
b. limitations of the audit
c. error
d. noncompliance with laws and regulations

2. An intentional act by one or more individuals among management, employees, or third parties which results in misrepresentation of financial statements refers to
a. error c. fraud
b. noncompliance d. illegal acts

3. The responsibility for the detection and prevention of errors, fraud and noncompliance with laws and regulations rests with
a. auditor c. client management
b. client’s legal counsel d. internal auditor

4. The management responsibility to detect and prevent fraud and error is accomplished by
a. Implementing adequate quality control system.
b. Having an annual audit of financial statements.
c. Implementing adequate accounting and internal control system.
d. Issuing a representation letter to the auditor.

5. The auditor’s best defense when material misstatements in the financial statements are not uncovered in the audit is that
a. The audit was conducted in accordance with generally accepted accounting principles.
b. Client is guilty of contributory negligence.
c. The audit was conducted in accordance with PSAs.
d. The financial statements are client’s responsibility.

6. The following statements relate to the auditor’s responsibility for the detection of errors and fraud. Identify the correct statements.
I. Due to the inherent limitations of the audit, there is a possibility that material misstatements in the financial statements may not be detected.
II. The subsequent discovery of material misstatement of the financial information resulting from fraud or error does not, in itself, indicate that the auditor failed to follow the basic principles and essential procedures of an audit.
a. I only c. II only
b. Both statements are true d. Both statements are false

7. The primary factor that distinguish errors from fraud is
a. Whether the underlying cause of misstatement relates to misapplication of accounting principles or to clerical processing.
b. Whether the misstatement is perpetrated by an employee or by a member of management.
c. Whether the misstatement is concealed.
d. Whether the underlying cause of misstatement is intentional or unintentional.

8. The term “error” refers to unintentional misrepresentation of financial information. Examples of errors are when
I. Assets have been misappropriated.
II. Transactions without substance have been recorded.
III. Records and documents have been manipulated and falsified.
IV. The effects of the transactions have been omitted from the records.
a. all of the above statements are true
b. only statements I and III are false
c. all of the above statements are false
d. only statements II and IV are true

9. Which of the following is an example of an error?
a. defalcation
b. suppression or omission of the effects of transactions from the records or documents
c. recording of transactions without substance
d. misapplication of accounting policies

10. Which of the following is an “error” as distinguished from “fraud”?
a. embezzlement of company’s fund
b. window dressing
c. clerical mistakes in the processing of transactions
d. lapping

11. Which of the following could be an example of fraud?
a. Errors in the application of the accounting principles.
b. Clerical errors in accounting data underlying the financial statements.
c. Misinterpretation of facts that existed when financial statements were prepared.
d. Misappropriation of assets or group of assets.

12. Which of the following statements best identifies the two types of fraud?
a. Theft of assets and employee fraud.
b. Misappropriation of asset and defalcation.
c. Management fraud and employee fraud.
d. Fraudulent financial reporting and management fraud.

13. Fraudulent financial reporting is often called
a. management fraud c. defalcation
b. misappropriation of assets d. employee fraud

14. Which of the following is an example of fraudulent financial reporting?
a. Company management changes inventory count tags and overstates ending inventory, while understating cost of goods sold.
b. The treasurer diverts customer payments to his personal due, concealing his actions by debiting an expense account, thus overstating expenses.
c. An employee steals small tools from the company and neglects to return them; the cost is reported as a miscellaneous operating expense.
d. An employee omitted an entry to record a bank transfer to cover a cash shortage.

15. Which one of the following terms relates to the embezzling of receipts?
a. manipulation c. misrepresentation
b. misappropriation d. misapplication

16. Which of the following statements best describes an auditor’s responsibility to detect errors and fraud?
a. An auditor should assess the risk that errors and fraud may cause the financial statements to contain material misstatements and should design the audit to provide reasonable assurance of detecting errors and fraud that are material to the financial statements.
b. An auditor is responsible to detect material errors, but has no responsibility to detect material fraud that is concealed through employee collusion or management override of the internal control structure.
c. An auditor has no responsibility to detect errors and fraud unless analytical procedures or tests of transactions identify conditions causing a reasonably prudent auditor to suspect that the financial statements were materially misstated.
d. An auditor has no responsibility to detect errors and fraud because an auditor is not an insurer and an audit does not constitute a guarantee.

17. “The auditor would ordinarily expect to find evidence to support management representations and not assume that they are necessarily correct”. This is an example of
a. Unprofessional behavior
b. An attitude of professional skepticism
c. Due diligence
d. A rule in the code of Professional Conduct

18. Which of the following statements is true?
a. It is usually easier for the auditor to uncover fraud than errors.
b. It is usually easier for the auditor to uncover errors than fraud.
c. It is usually equally difficult for the auditor to uncover errors or fraud.
d. Usually, the auditor does not design procedures to uncover fraud or errors.

19. The most difficult type of misstatement to detect is fraud based on
a. The over-recording of transactions.
b. The non-recording of transactions.
c. Recorded transactions in subsidiaries.
d. Related party receivable.

20. If an auditor was engaged to discover errors or fraud and the auditor performed extensive detail work, which of the following could the auditor be expected to detect?
a. Misposting of recorded transactions
b. Unrecorded transactions
c. Counterfeit signatures on paid checks
d. Collusive fraud
21. Which of the following statements is incorrect?
a. The responsibility for the prevention and detection of fraud and error rest with management.
b. The auditor is not and cannot be held responsible for the detection of fraud or error.
c. In planning an audit, the auditor should assess the risk that fraud or error may cause the financial statements to contain material misstatements.
d. The risk of not detecting material fraud is higher than the risk of not detecting a material misstatement arising from error.

22. Which of the following statements about fraud or error is incorrect?
a. The auditor is not and cannot be held responsible for the prevention of fraud and error.
b. The responsibility for the prevention and detection of fraud and error rests with management.
c. The auditor should plan and perform the audit with an attitude of professional skepticism, recognizing the conditions or events may be found that fraud or error may exist.
d. The likelihood of detecting fraud is ordinarily higher than that of detecting error.

23. Which of the following is not an assurance that the auditors give to the parties who rely on the financial statements?
a. Auditors know how the amounts and disclosures in the financial statements were produces.
b. Auditors give assurance that the financial statements are accurate.
c. Auditors gathered enough evidence to provide a reasonable basis for forming an opinion.
d. If the evidence allows the auditors to do so, auditors give assurance in the form of opinion, as to whether the financial statements taken as a whole are fairly presented in conformity with GAAP.

24. The risk of not detecting material misstatement resulting from fraud is greater than the risk of not detecting a material misstatement arising from error, because:
a. The auditor designs only procedures to detect material error but no procedures are designed to detect material fraud.
b. Fraud ordinarily involves acts designed to conceal it, such as collusion, forgery, or deliberate failure to record transactions.
c. The professional standards do not require the auditor to discover information that is indicative of fraud.
d. It is the responsibility of the management to detect fraud and the auditor’s responsibility is confined only to the detection of material errors.

25. Which of the following best describes what is meant by the term “fraud risk factor”?
a. Factors whose presence indicates that the risk of fraud is high.
b. Factors whose presence often has been observed in circumstances where frauds have occurred.
c. Factor whose presence requires modifications of planned audit procedures.
d. Factor that indicates internal control weaknesses.

26. Which of the following is a category of risk factors that should be considered when assessing risk of misstatements arising from misappropriation of assets?
a. Condition of internal control c. Management characteristics
b. Financial stability of the entity d. Industry condition

27. When considering fraud risk factors relating to management’s characteristics, which of the following is least likely to indicate a risk of possible misstatement due to fraud?
a. Failure to correct known reportable conditions on timely basis.
b. Nonfinancial management’s preoccupation with the selection of accounting principles.
c. Significant portion of management’s compensation represented by bonuses based upon achieving unduly aggressive operating results.
d. Use of unusually conservative accounting practices.

28. Which of the following most likely to be a response to the auditor’s assessment that the risk of material misstatement due to fraud for the existence of inventory is high?
a. Observe test counts of inventory at certain locations on an unannounced basis.
b. Perform analytical procedures rather than taking test counts.
c. Request that inventories be counter prior year end.
d. Request that inventory counts at the various locations be counted on different dates so as to allow the same auditor to be present at every count.

29. Which of the following characteristics most likely would heighten an auditor’s concern about the risk of intentional manipulation of financial statements?
a. Turnover of senior accounting personnel is low.
b. Insiders recently purchased additional shares of the entity’s stock.
c. Management places substantial emphasis on meeting earnings projections.
d. The rate of change in the entity’s industry is slow.

30. Because of the risk of material misstatement, an audit of financial statements in accordance with PSA should be planned and performed with an attitude of
a. Objective judgment
b. Independent integrity
c. Professional skepticism
d. Impartial conservatism

31. Individuals who commit fraud are ordinarily able to rationalize the act and also have an
Incentive Opportunity
a. Yes Yes
b. Yes No
c. No Yes
d. No No

32. Which of the following most likely to be considered a risk factor relating to fraudulent financial reporting?
a. Domination of management by top executives.
b. Large amount of cash processed.
c. Negative cash flows from operation.
d. Small high-peso inventory items.

33. Which of the following is most likely to be presumed to represent fraud risk on an audit?
a. Capitalization of repairs and maintenance into the property, plant and equipment asset account.
b. Improper revenue recognition.
c. Improper interest expense accrual.
d. Introduction of significant new products.

34. Which of the following conditions or events would least likely increase the risk of fraud and error?
a. Questions with respect to competence or integrity of management.
b. Unusual pressures within the entity.
c. Unusual transactions.
d. Lack of transaction trail.

35. Which of the following conditions identified during fieldwork of an audit is most likely to affect the auditor’s assessment of the risk of misstatement due to fraud?
a. Checks for significant amounts outstanding at year end.
b. Computer generated documents.
c. Missing documents.
d. Year-end adjusting journal entries.

36. Which of the following would be least likely to suggest to an auditor that the client’s financial statements are materially misstated?
a. There are numerous delays in preparing timely internal financial reports.
b. Management does not correct internal control structure weakness that it knows about.
c. Differences are reflected in the customer’s confirmation replies.
d. There have been two new controllers this year.

37. Which of the following circumstances least likely would cause an auditor to consider whether material misstatements exist in an entity’s financial statements?
a. Management is dominated by several individuals.
b. The industry in which the entity operates is declining.
c. There is inadequate working capital due to declining profit.
d. Supporting records that should be readily available are frequently not produced when requested.

38. Which of the following circumstances would least likely cause an auditor to consider whether a material misstatement exists?
a. The turnover of senior accounting personnel is exceptionally low.
b. Management places substantial emphasis on meeting earning projections.
c. There are significant unusual transactions near year-end.
d. Operating and financing decisions are dominated by one person.

39. Which of the following circumstances most likely would cause an auditor to believe that material misstatements exist in an entity’s financial statement?
a. Operating and financing decisions are dominated by top management.
b. Audit trails of computer-generated transactions exist only for a short period of time.
c. The chief financial officer does not sign the management representation letter until the last day of the auditor’s fieldwork.

40. Which of the following conditions would not normally cause the auditor to question whether material errors or possible fraud exists?
a. The accounting department is overstaffed.
b. Differences exist between control accounts and supporting subsidiary records.
c. Transactions are not supported by proper documentation.
d. There are frequent changes of auditors and lawyers.

41. 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?
a. The entity’s industry is experiencing declining customer demand.
b. The rate of change in the entity’s industry is slow,
c. Bank reconciliation statements usually include in-transit deposit.
d. Equipment s often sold at a loss before being fully depreciated.

42. Which of the following conditions or events increases the risk of error or fraud?
a. Management is dominated by several individuals.
b. There are frequent changes of auditors or legal counsel.
c. There is a significantly low turnover of senior accounting personnel.
d. The entity does not correct internal control weakness that it knows about.

43. All of the following conditions are indicators of possible pressures on an entity except
a. The industry in which the entity operates is declining.
b. There is inadequate working capital due to declining profits or too rapid expansion.
c. The client is heavily dependent on one or for a few products or customers.
d. There is significant and prolonged understaffing of the accounting department.

44. During the course of an audit engagement, the CPA discovers specific circumstances that lead him to the belief that employee fraud that has a material effect on the financial statements may have occurred. In such a case the CPA should
a. Tactfully approach the suspected employee and attempt to resolve the matter with him.
b. Ascertain that the client understand that the ordinary examination is not primarily designed to disclose fraud or defalcations.
c. Perform appropriate modified or additional procedures to confirm or dispel the auditor’s suspicion.
d. After advising the client of his findings, suggest that an investigation has to be made to discover whether fraud has in fact occurred.

45. If an auditor believes that material errors or fraud exist, the auditor should
a. Consider the implications and discuss the matter with appropriate levels of management.
b. Make the investigation necessary to determine whether errors or fraud have in fact occurred.
c. Request that management investigate whether errors or fraud have in fact occurred.
d. Consider whether errors or fraud were the result of employee’s failure to comply with specific controls.

46. When the auditor believes a misstatement is or may be the result of fraud but that the effect of the misstatements is not material to the financial statements, which of the following steps is required?
a. Consider the implications for other aspects of the audit.
b. Resign from the audit.
c. Commence a fraud examination.
d. Contact regulatory authorities.

47. Which of the following is an incorrect statement?
a. The auditor cannot assume that fraud or error is an isolated occurrence unless there is evidence to the contrary.
b. If the auditor suspects that error may exist, he should immediately communicate it to the management even if the potential effect on financial statement is immaterial.
c. Fraud or error should be reported to a level of management at least one level above those involved.
d. Normally, the CPA does not have any responsibility to communicate confidential information noted during the audit to the regulatory authorities.

48. If the auditor believes that the fraud or error has a material effect on the financial statement but the client is now willing to correct the misstatement, the auditor would most likely issue
a. Standard audit report
b. Qualified or adverse opinion
c. Qualified or disclaimer of opinion
d. Unqualified opinion with explanatory paragraph

49. If the auditor is precluded by the entity from obtaining evidence to evaluate whether fraud or error that may be material to the financial statements has occurred, the auditor should issue a report that contains
a. Adverse opinion
b. An unqualified opinion
c. Either qualified or adverse opinion
d. Either unqualified opinion or disclaimer of opinion

50. When a user sees that a standard unqualified opinion has been expressed by an external auditor, he or she may correctly infer that:
a. No material errors were found during the engagement.
b. No embezzlements remain undetected.
c. Any system defects encountered during the engagement have been corrected to the auditor’s satisfaction.
d. Any differences between management and the auditor on accounting matters have been resolved to the auditor’s satisfaction.

51. Judgments about the increased risk of misstatement of the financial statements due to fraud may influence the auditor’s professional judgments in the following ways except:
a. The auditor’s ability to assess control risk below the maximum may be reduced and the auditor should be sensitive to the ability of management to override controls.
b. The audit team may be selected in ways that ensure that the knowledge, skill, and ability of personnel assigned significant engagement responsibilities are commensurate with the auditor’s assessment of the level of risk.
c. The auditor should plan and audit to provide a guarantee that the financial statements are free of material misstatements, whether due to fraud or error.
d. The audit team may approach the audit with a heightened level of professional skepticism.

Noncompliance with laws and regulations

52. The term used to refer to acts of omission or commission by the entity being audited, either intentional or unintentional, which are contrary to the prevailing law and regulations is
a. Fraud c. Misappropriate
b. Noncompliance d. Defalcation

53. Generally the decision to notify parties outside the client’s organization regarding an noncompliance with laws and regulations is the responsibility of the
a. Independent auditor c. Client’s legal counsel
b. Management d. Internal auditors

54. Which of the following statements about noncompliance is incorrect?
a. An audit in accordance with PSA cannot be expected to detect noncompliance with all laws and regulations.
b. It is management’s responsibility to ensure that entity’s operations are conducted in accordance with laws and regulations.
c. An auditor cannot be held responsible for preventing noncompliance.
d. The determination as to whether a particular act constitutes noncompliance is ultimately based on the judgment of the auditor.

55. Presented below are circumstances that may indicate the occurrence of noncompliance with laws and regulations. Which is the exception?
a. Payment of fines or penalties.
b. Payment for unspecified services to consultants, related parties, or government employees.
c. Purchasing at prices significantly above or below market price.
d. Payments for goods or services to the country from which the goods or services originated.

56. Which of the following conditions would least likely indicate the occurrence of noncompliance?
a. Investigation by government agencies.
b. Payments without proper documentation.
c. Purchasing a real property for a price that is significantly higher than the seller’s book value.
d. Existence of an accounting system which fails to provide an adequate audit trail or sufficient evidence.

57. Which of the following conditions would most likely indicate a possible noncompliance with laws and regulations?
a. Media comment.
b. Purchasing land for a price significantly different from the seller’s recorded amount.
c. Payment of commission to sales agent.
d. Payment for specified services to consultant.

58. According to PSA 250, the risk of not detecting material misstatement due to noncompliance is high. This can be attributed to all of the following factors, except:
a. There are many laws and regulations, relating principally to the operating aspects of the entity, which typically do not have a material effect on the financial statements.
b. The detection prevention and detection of noncompliance rests with management.
c. The effectiveness of audit procedures may be affected by the limitations of the audit.
d. Noncompliance may involve conduct designed to conceal it.

59. When the auditor becomes aware of information concerning a possible instance of noncompliance, the auditor should
a. Notify the regulatory agencies.
b. Determine who was responsible for the act.
c. Obtain understanding of the nature of the act, and the circumstances in which it has occurred and sufficient other information to evaluate the possible effect on the financial statements.
d. Express an adverse opinion on the client’s financial statements.

60. An auditor who discovers that client has not complied with laws and regulations that has material effect on the financial statements most likely would withdraw from the engagement if
a. The noncompliance was a violation of GAAP.
b. The client does not take remedial action that the auditor considers necessary.
c. The noncompliance was committed last year when financial statements were not audited.
d. The auditor has already assessed control risk at the maximum level.

61. Which of the following does not properly describe a procedure that the auditor performs in connection with noncompliance?
a. The auditor should obtain general understanding of legal and regulatory framework applicable to the entity.
b. The auditor should perform procedures to identify instances of noncompliance with laws and regulations.
c. The auditor should obtain oral representation that management has disclosed to the auditor all known actual or possible noncompliance with laws and regulations.
d. The auditor should obtain sufficient appropriate evidence about compliance with laws and regulations.

62. Which of the following procedures would an auditor be unlikely to perform when obtaining a general understanding about the laws and regulations affecting the client’s business?
a. Inquire of management concerning the entity’s policies and procedures regarding compliance with laws and regulations.
b. Inquire of management as to the laws or regulations that may be expected to have a fundamental effect on the operations of the entity.
c. Discuss with management the policies or procedures adopted for identifying, evaluating and accounting for litigation claims and assessments.
d. Obtain representation letter from the client’s legal counsel.

63. After obtaining sufficient level of understanding about the client’s legal and regulatory framework. The auditor should
a. Develop a code of conduct and ensure that these employees comply with such code.
b. Perform procedures to help identify instances of noncompliance with laws and regulations.
c. Monitor entity’s legal requirements and ensure that operating procedures are designed to meet these requirements.
d. Inquire of management as to the laws or regulations that may be expected to have a fundamental effect on the operations of the entity.

64. Which of the following procedures would assist the auditor in identifying noncompliance with laws and regulations?
a. Inquiring of client’s lawyers.
b. Inspecting correspondence with relevant regulatory agencies.
c. Inquire of management concerning entity’s policies and procedures regarding compliance with laws and regulations.
d. Discuss with the client management the policies or procedures adopted for identifying, evaluating and accounting for litigation, claims and assessments.

65. Of the client refuses to accept an audit report that is qualified due to noncompliance with laws and regulations , the auditor should:
a. Withdraw from the engagement and indicate the reasons to the audit committee in writing.
b. Issue an adverse opinion if management agrees to fully disclose the matter.
c. Withdraw from the management and indicate the reasons to the SEC or other regulatory body in writing.
d. Issue a disclaimer of opinion instead.