PHINMA - UNIVERSITY OF PANGASINAN

PSY 002 - AUDITING THEORY (ADVANCE TOPICS)

QUIZ 2

Name: Score:
Section: Date:

1.. Which of the following is not a financial statement assertion relating to account balances?
a. Completeness. b. Existence. c. Rights and obligations. d. Valuation and competence.

2. As the acceptable level of detection risk decreases, an auditor may

a. Reduce substantive testing by relying on the assessments of inherent risk and control risk.
b. Postpone the planned timing of substantive tests from interim dates to the year-end.
c. Eliminate the assessed level of inherent risk from consideration as a planning factor.
d. Lower the assessed level of control risk from the maximum level to below the maximum.

Rationalization: (b) The requirement is to determine a likely auditor

reaction to a decreased acceptable level of detection risk.
Answer (b) is correct because postponement of interim
substantive tests to year-end decreases detection risk by
reducing the risk for the period subsequent to the performance
of those tests; other approaches to decreasing detection risk
include changing to more effective substantive tests and
increasing their extent. Answer (a) is incorrect because increased,
not reduced, substantive testing is required. Answer
(c) is incorrect because inherent risk must be considered in
planning, either by itself or in combination with control risk.
Answer (d) is incorrect because tests of controls must be
performed to reduce the assessed level of control risk.

3. The risk that an auditor will conclude, based on substantive tests, that a material misstatement does not exist in an account
balance when, in fact, such misstatement does exist is referred to as
a. Sampling risk. b. Detection risk. c. Non-sampling risk. d. Inherent risk.

4. As the acceptable level of detection risk decreases, the assurance directly provided from
a. Substantive tests should increase. b. Substantive tests should decrease. c. Tests of controls should increase. d. Tests of controls
should decrease.

5. Inherent risk and control risk differ from detection risk in that they
a. Arise from the misapplication of auditing procedures. b. May be assessed in either quantitative or non-quantitative terms.
c. Exist independently of the financial statement audit. d. Can be changed at the auditor’s discretion.

6. On the basis of the audit evidence gathered and evaluated, an auditor decides to increase the assessed level of control risk from
that originally planned. To achieve an overall audit risk level that is substantially the same as the planned audit risk level, the
auditor would
a. Decrease substantive testing. b. Decrease detection risk. c. Increase inherent risk. d. Increase materiality levels.

7. Relationship between control risk and detection risk is ordinarily

a. Parallel. b. Inverse. c. Direct. d. Equal.

8. Which of the following would an auditor most likely use in determining the auditor’s preliminary judgment about materiality?
a. The anticipated sample size of the planned substantive tests. b. The entity’s annualized interim financial statements.
c. The results of the internal control questionnaire. d. The contents of the management representation letter.

9. Which of the following statements is not correct about materiality?

a. The concept of materiality recognizes that some matters are important for fair presentation of financial statements in
conformity with GAAP, while other matters are not important.
b. An auditor considers materiality for planning purposes in terms of the largest aggregate level of misstatements that could be
material to any one of the financial statements.
c. Materiality judgments are made in light of surrounding circumstances and necessarily involve both quantitative and qualitative
judgments.
d. An auditor’s consideration of materiality is influenced by the auditor’s perception of the needs of a reasonable person who will
rely on the financial statements.

Rationalization: (b) The requirement is to identify the statement that is

not correct concerning materiality. Answer (b) is the proper
reply because the auditor considers materiality for planning
purposes in terms of the smallest, not the largest, aggregate
amount of misstatement that could be material to any one of
the fi nancial statements. Answers (a), (c), and (d) all represent
correct statements about materiality.

10. Which of the following is a function of the risks of material misstatement and detection risk?
a. Internal control. b. Corroborating evidence.c. Quality control. d. Audit risk.

11. Which of the following is correct concerning performance materiality on an audit?

a. It will ordinarily be less than financial statement materiality.
b. It should be established at the beginning of an audit and not be revised thereafter.
c. It should be established at separate amounts for the various financial statements.
d. It need not be documented in the working papers.

Rationalization: (a) The requirement is to determine the correct statement

with respect to performance materiality on an audit. Answer
(a) is correct because performance materiality is largely
established to help provide assurance that several immaterial
misstatements do not combine to a material undetected amount
of misstatement; accordingly, it ordinarily is established at a
level lower than that of materiality for the fi nancial statements

12. Which of the following would an auditor most likely use in determining the auditor’s preliminary judgment about
materiality? a. The results of the initial assessment of control risk. b. The anticipated sample size for planned substantive tests. c.
The entity’s financial statements of the prior year. d. The assertions that are embodied in the financial statements.

13. Holding other planning considerations equal, a decrease in the amount of misstatement in a class of transactions that an
auditor could tolerate most likely would cause the auditor to
a. Apply the planned substantive tests prior to the balance sheet date.
b. Perform the planned auditing procedures closer to the balance sheet date.
c. Increase the assessed level of control risk for relevant financial statement assertions.
d. Decrease the extent of auditing procedures to be applied to the class of transactions.

Rationalization: (b) The requirement is to identify the most likely

effect of a decrease in the tolerable amount of misstatement
(tolerable misstatement) in a class of transactions. Answer (b)
is correct because auditing standards state that decreasing the
tolerable amount of misstatement will require the auditor to do
one or more of the following: (1) perform auditing procedures
closer to the balance sheet date (answer [b]); (2) select a more
effective auditing procedure; or (3) increase the extent of a
particular auditing procedure. Answer (a) is incorrect because
in such a circumstance substantive tests are more likely to be
performed at or after the balance sheet date than prior to the
balance sheet date. Answer (c) is incorrect because decreasing
the tolerable amount of misstatement will not necessarily lead
to an increase in the assessed level of control risk. Answer (d)
is incorrect because the extent of auditing procedures will be
increased, not decreased.

14. When issuing an unmodified opinion, the auditor who evaluates the audit findings should be satisfied that the
a. Amount of known misstatement is documented in the management representation letter.
b. Estimate of the total likely misstatement is less than a material amount.
c. Amount of known misstatement is acknowledged and recorded by the client.
d. Estimate of the total likely misstatement includes the adjusting entries already recorded by the client

Rationalization: (b) The requirement is to identify the necessary

condition for an auditor to be able to issue an unmodifi ed
opinion. Answer (b) is correct because if the estimate of likely
misstatement is equal to or greater than a material amount
a material departure from generally accepted accounting
principles exists and thus AU-C 705 requires either a qualifi ed
or adverse opinion in such circumstances. Answer (a) is
incorrect because the amount of known misstatement (if any)
need not be documented in the management representation
letter. Answer (c) is incorrect because it ordinarily is not
necessary for the client to acknowledge and record immaterial
known misstatements. Answer (d) is incorrect because the
total likely misstatement need not include the adjusting entries
already recorded by the client.

15. 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 have been observed in circumstances where frauds have occurred.
c. Factors whose presence requires modification of planned audit procedures.
d. Material weaknesses identified during an audit.

Rationalization: (b) The requirement is to identify the best description

of what is meant by a “fraud risk factor.” Answer (b)
is correct because AU-C 240 suggests that while fraud risk
factors do not necessarily indicate the existence of fraud,
they often have been observed in circumstances where frauds
have occurred. Answer (a) is incorrect because the risk of
fraud may or may not be high when a risk factor is present.
Answer (c) is incorrect because the current audit plan may in
many circumstances appropriately address a fraud risk factor.
Answer (d) is incorrect because a fraud risk factor may or may
not represent a material weakness.

16. Which of the following is correct concerning requirements about auditor communications about fraud?
a. Fraud that involves senior management should be reported directly to the audit committee regardless of the amount involved.
b. Fraud with a material effect on the financial statements should be reported directly by the auditor to the Securities and
Exchange Commission.
c. Fraud with a material effect on the financial statements should ordinarily be disclosed by the auditor through use of an
“emphasis of a matter” paragraph added to the audit report.
d. The auditor has no responsibility to disclose fraud outside the entity under any circumstances.

Rationalization: (a) The requirement is to identify the reply which

represents an auditor communication responsibility relating
to fraud. Answer (a) is correct because all fraud involving
senior management should be reported directly to the audit
committee. Answer (b) is incorrect because auditors are
only required to report fraud to the Securities and Exchange
Commission under particular circumstances. Answer (c) is
incorrect because auditors do not ordinarily disclose fraud
through use of an “emphasis of a matter” paragraph added
to their report. Answer (d) is incorrect because under certain
circumstances auditors must disclose fraud outside the entity.

17. When performing a financial statement audit, auditors are required to explicitly assess the risk of material misstatement due
to
a. Errors. b. Fraud. c. Illegal acts. d. Business risk.

18. An auditor is unable to obtain absolute assurance that misstatements due to fraud will be detected for all of the following
except
a. Employee collusion. b. Falsified documentation.
c. Need to apply professional judgment in evaluating fraud risk factors. d. Professional skepticism.

19. An attitude that includes a questioning mind and a critical assessment of audit evidence is referred to as
a. Due professional care. b. Professional skepticism. c. Reasonable assurance. d. Supervision.

20. Professional skepticism requires that an auditor assume that management is

a. Honest, in the absence of fraud risk factors. b. Dishonest until completion of audit tests.
c. Neither honest or dishonest. d. Offering reasonable assurance of honesty.

Rationalization: (c) The requirement is to determine what presumption

concerning management’s honesty that professional skepticism
requires. Answer (c) is correct because professional skepticism
requires that an auditor neither assume dishonesty nor
unquestioned honesty. Answers (a) and (b) are incorrect
because neither honesty in the absence of fraud risk factor
nor dishonesty are assumed. Answer (d) is incorrect because
the concept of reasonable assurance is not directed towards
management’s honesty.

21. 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 receivables.

22. 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 significant deficiency on a timely basis.
b. Non financial management’s preoccupation with the selection of accounting principles.
c. Significant portion of management’s compensation is represented by bonuses based upon achieving unduly aggressive
operating results.
d. Use of unusually conservative accounting practices.
Rationalization: (d) The requirement is to identify the least likely
indicator of a risk of possible misstatement due to fraud.
Answer (d) is correct because one would expect unusually
aggressive, rather than unusually conservative accounting
practices to indicate a risk of misstatement due to fraud.
Answers (a), (b), and (c) are all incorrect because they
represent risk factors explicitly included in AU-C 240, which
provides guidance on fraud.

23. 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.

24. Which of the following is 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 counted prior to 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.

Rationalization: (a) The requirement is to identify the most likely

response to the auditor’s assessment that the risk of material
misstatement due to fraud for the existence of inventory is
high. Answer (a) is correct because observing test counts of
inventory on an unannounced basis will provide evidence as
to whether record inventory exists. Answer (b) is incorrect
because replacing test counts with analytical procedures is
not likely to be particularly effective. Answers (c) and (d) are
incorrect because the inventories might well be counted at
year-end, all on the same date, rather than prior to year-end
and at differing dates.

25. Which of the following is most likely to be an example of fraud?

a. Defalcations occurring due to invalid electronic approvals.
b. Mistakes in the application of accounting principles.
c. Mistakes in processing data.
d. Unreasonable accounting estimates arising from oversight.

26. 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.

27. Which of the following statements reflects an auditor’s responsibility for detecting misstatements due to errors and fraud?
a. An auditor is responsible for detecting employee errors and simple fraud, but not for discovering fraud involving employee
collusion or management override.
b. An auditor should plan the audit to detect misstatements due to errors and fraud that are caused by departures from GAAP.
c. An auditor is not responsible for detecting misstatements due to errors and fraud unless the application of GAAS would result
in such detection.
d. An auditor should design the audit to provide reasonable assurance of detecting misstatements due to errors and fraud that are
material to the financial statements.

Rationalization: (d) The requirement is to identify an auditor’s responsibility

for detecting errors and fraud. Answer (d) is
correct because AU-C 200 requires that an auditor design
the audit to provide reasonable assurance of detecting
misstatements due to errors and fraud that are material to the
fi nancial statements. Answer (a) is incorrect because audits
provide reasonable assurance of detecting material errors
and fraud. Answer (b) is incorrect because it doesn’t restrict
the responsibility to material errors and fraud. Answer (c)
is incorrect because it is less precise than answer (d), which
includes the AU-C 200 responsibility on errors and fraud.

28. Under Statements on Auditing Standards, which of the following would be classified as an error?
a. Misappropriation of assets for the benefit of management.
b. Misinterpretation by management of facts that existed when the financial statements were prepared.
c. Preparation of records by employees to cover a fraudulent scheme.
d. Intentional omission of the recording of a transaction to benefit third party

29. Which of the following most accurately summarizes what is meant by the term “material misstatement?”
a. Fraud and direct-effect illegal acts. b. Fraud involving senior management and material fraud. c. Material error, material fraud,
and certain illegal acts. d. Material error and material illegal acts.

30. Which of the following statements best describes the auditor’s responsibility to detect conditions relating to financial stress of
employees or adverse relationships between a company and its employees?
a. The auditor is required to plan the audit to detect these conditions on all audits.
b. These conditions relate to fraudulent financial reporting, and an auditor is required to plan the audit to detect these conditions
when the client is exposed to a risk of misappropriation of assets.
c. The auditor is required to plan the audit to detect these conditions whenever they may result in misstatements.
d. The auditor is not required to plan the audit to discover these conditions, but should consider them if he or she becomes aware
of them during the audit.

31. When the auditor believes a misstatement is or may be the result of fraud but that the effect of the misstatement 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.

32. Which of the following statements is correct relating to the auditor’s consideration of fraud?
a. The auditor’s interest in fraud consideration relates to fraudulent acts that cause a material misstatement of financial
statements.
b. A primary factor that distinguishes fraud from error is that fraud is always intentional, while errors are generally, but not
always, intentional.
c. Fraud always involves a pressure or incentive to commit fraud, and a misappropriation of assets.
d. While an auditor should be aware of the possibility of fraud, management, and not the auditor, is responsible for detecting
fraud.

33. Which of the following factors or conditions is an auditor least likely to plan an audit to discover?
a. Financial pressures affecting employees. b. High turnover of senior management.
c. Inadequate monitoring of significant controls. d. Inability to generate positive cash flows from operations
 34. 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. External policies established by parties outside the entity affect its accounting practices.
b. Management is dominated by one individual who is also a shareholder.
c. Internal auditors have direct access to the board of directors and the entity’s management.
d. The audit committee is active in overseeing the entity’s financial reporting policies.

35. Which of the following is least likely to be required on an audit?

a. Test appropriateness of journal entries and adjustment.
b. Review accounting estimates for biases.
c. Evaluate the business rationale for significant unusual transactions.
d. Make a legal determination of whether fraud has occurred.

36. Which of the following is most likely to be an overall response to fraud risks identified in an audit?
a. Supervise members of the audit team less closely and rely more upon judgment.
b. Use less predictable audit procedures.
c. Only use certified public accountants on the engagement.
d. Place increased emphasis on the audit of objective transactions rather than subjective transactions.

37. Which of the following is least likely to be included in an auditor’s inquiry of management while obtaining information to
identify the risks of material misstatement due to fraud?
a. Are financial reporting operations controlled by and limited to one location?
b. Does it have knowledge of fraud or suspect fraud?
c. Does it have programs to mitigate fraud risks?
d. Has it reported to the audit committee the nature of the company’s internal control?

38. What is an auditor’s responsibility who discovers management involved in what is financially immaterial fraud?
a. Report the fraud to the audit committee.
b. Report the fraud to the Public Company Oversight Board.
c. Report the fraud to a level of management at least one below those involved in the fraud.
d. Determine that the amounts involved are immaterial, and if so, there is no reporting responsibility.

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

Rationalization: (c) The requirement is to identify the most likely risk

factor relating to fraudulent fi nancial reporting. Answer (c)
is correct because negative cash fl ows from operations may
result in pressure upon management to overstate the results
of operations. Answer (a) is incorrect because one would
expect a company’s top executives to dominate management—
domination by one or a few might be considered a risk factor.
Answers (b) and (d) are incorrect because large amounts of
cash being processed and small high-dollar inventory items
are more directly related to the misappropriation of assets than
they are to fraudulent fi nancial reporting.

40. 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.
41. An auditor who discovers that a client’s employees paid small bribes to municipal officials most likely would withdraw from
the engagement if
a. The payments violated the client’s policies regarding the prevention of illegal acts.
b. The client receives financial assistance from a federal government agency.
c. Documentation that is necessary to prove that the bribes were paid does not exist.
d. Management fails to take the appropriate remedial action.

42. Which of the following factors most likely would cause a CPA to not accept a new audit engagement?
a. The prospective client has already completed its physical inventory count.
b. The CPA lacks an understanding of the prospective client’s operation and industry.
c. The CPA is unable to review the predecessor auditor’s working papers.
d. The prospective client is unwilling to make all financial records available to the CPA.

43. Which of the following factors would most likely heighten an auditor’s concern about the risk of fraudulent financial
reporting?
a. Large amounts of liquid assets that are easily convertible into cash.
b. Low growth and profitability as compared to other entities in the same industry.
c. Financial management’s participation in the initial selection of accounting principles.
d. An overly complex organizational structure involving unusual lines of authority.

44. Which of the following statements about assurance services is the most accurate?
A. Professional services designed to express an opinion on the fairness of financial statements based on audit findings.B.
Professional services that involve the preparation of financial statements or the collection, classification, and summarization of
other financial information.
C. Professional services aimed at improving the entity operations and resulting in better outcomes. D.
Independent professional services aimed at enhancing the credibility of information to suit the needs of an intended user.

45. Which of the following statements is/are true about assurance services?
A. It is an engagement/service in which a practitioner expresses a conclusion designed to enhance the degree of confidence of the
intended users other than the responsible party about the outcome of the evaluation or measurement of a subject, matter against
criteria.
B. These engagements performed by professional accountants are intended to enhance the credibility of information about the
outcome of the evaluation or measurement of a subject matter against criteria, thereby improving the likelihood that the
information will meet the needs of an intended user .C. Independence is required whenever a professional accountant performs
assurance engagements/services. D. All of these are true about assurance services.

46. The attest function

A. is an essential part of every engagement performed by a CPA.
B. requires a complete review of all transactions during the period under examination.
C. requires a review of a sample of transactions during the period under examination.
D. includes the preparation of a written report about the CPA's conclusion.

47. Which one of the following is not a part of the attest process?
A. gathering evidence about assertions
B. proving the accuracy of the books and records
C. evaluation evidence against objective criteria
D. communicating the conclusions reached

48. Which of the following criteria is unique to the auditor's attest function?
A. Competence
B. Due professional care
C. Independence
D. Familiarity with the particular industry of which the auditor's client is part of.

49: Assurance services differ from consulting services in that they

A. Focus on providing advice to another party.
B. Involve monitoring of one party by another.
C. Both A and B.
D. Neither A nor B.

50. Unlike consulting services, assurance services:

A. report on the quality of information.
B. make recommendations to management.
C. report on how to use information.
D. are two-part contracts.

51. These types of engagements do not result in the practitioner's expression of a conclusion that provides any level of assurance.
A. Assurance engagements. C. Audit engagements.
B. Non-assurance engagements. D. Review engagements.

52. In an engagement to perform agreed-upon procedures, an auditor is engaged to

A. Provide a high, but not absolute, level, of assurance that the information is free of material misstatement.
B. Provide a moderate level of assurance that the information is free of material misstatement.
C.. Carry out those procedures of an audit nature to which the auditor and the entity and any appropriate third parties have agreed
and to report on factual findings.
D. Apply accounting and financial reporting expertise to assist management in the preparation and presentation of financial
information of an entity in accordance with an applicable financial reporting framework.

Rationalization: A and B are incorrect because agreed-upon procedures provide no assurance.

D is incorrect because it describes a compilation service.

53. All of the following are characteristics of agreed-upon procedures except

A. The distribution of the conclusion report is restricted to those parties that have agreed to the procedures to be performed since
others who are unaware of the reasons for the procedures may misinterpret the results.
B. No assurance is expressed in the report.
С. The report on an agreed-upon procedures engagement is not required to describe the purpose and the agreed-upon procedures
of the engagement since the conclusion report is restricted only to those parties that have agreed to the procedures to be
performed.
D. None of the foregoing. All of these are characteristics of agreed-upon procedures.

Rationalization: C is incorrect because the practitioner is required to provide information on the purpose and
procedures that is being requested. This will culminate into a final report that will describe the factual results of said
procedures and will be limited to those who requested the service.

54. A summary of finding rather than assurance is most likely to be issued on which engagement?
A. Examination C. Agreed-upon procedures
B. Review D. Compilation

55. What assurance is provided by the auditor in an agreed-upon procedures engagement?

A. Reasonable C. Moderate
B. Absolute D. No assurance

56. Reports on agreed-upon procedures are intended to be distributed

A. To only the involved parties, who are aware of the reasons for the procedures.
B. Only to the stockholders of the entity.
C. To any party to whom the client wishes.
D. Only to the entity's management.

57. Which of the following professional services is not an assurance service?

A. Audit of historical financial statements.
В. Review of financial statements.
C. Examination of prospective financial information.
D. Compilation of financial information.

58. In a compilation engagement, the practitioner applies accounting and financial reporting expertise to assist management in the
preparation and presentation of financial information of an entity in accordance with an acceptable financial reporting framework.
What type of assurance is provided by the practitioner when he/she performs this engagement?
A. Positive assurance C. No assurance
B. Negative assurance D. Limited assurance

59. Which of the following engagements does not require compliance with independence requirements?
A. Compilation of financial information
B. Review of financial statements
C. Examination of prospective financial information
D. Audit of financial statements

60. Which of the following describes how the objective of a review of financial statements differs from the objective of a
compilation engagement?
A. more reliable
B. less reliable
C. In a review engagement, accountants provide limited assurance, but a compilation expresses no assurance.
D. In a review engagement, accountants provide reasonable or positive assurance that the financial statements are fairly
presented, but a compilation provides limited assurance.

61. Which of the following AASC engagement standards are to be applied in the audit of historical financial statements?
A. Philippine Standards on Auditing (PSA)
B. Philippine Standards on Review Engagements (PSRE)
C. Philippine Standards on Assurance Engagements (PSAE)
D. Philippine Standards on Related Services (PSRS)

62. Which of the following AASC engagement standards are to be applied to compilation engagements, engagements to apply
agreed-upon procedures to information, and other related services engagements as specified by the AASC?
A. Philippine Standards on Auditing (PSA)
B. Philippine Standards on Review Engagements (PSRE)
C. Philippine Standards on Assurance Engagements (PSAE)
D. Philippine Standards on Related Services (PSRS)

63. The Philippine Standard on Review Engagements (PSRE) are to be applied in

A. The audit of historical financial statements.
B. Assurance engagements dealing with subject matters other than historical financial information.
C. The review of historical financial information.
D. The review of both historical and prospective financial information.

64. The Philippine Standards on Assurance Engagements (PSAEs) are to be applied in

A. The audit or review of historical financial information.
B. Assurance engagements dealing with historical financial information.
C. Assurance engagements dealing with subject matters other than historical financial information.
D. Compilation engagements and agreements to apply agreed-upon procedures to information.
65. The Philippine Standards on Quality Control (PSQCs) are to be applied to
A. assurance engagements only.
B. review engagements only.
C. compilation and review engagements only.
D. all services that fall under the AASC's engagement standards.

66. Which of the following is the broadest and most inclusive concept?
A. Audits of financial statements. C. Assurance services.
B. Review services. D. Compilation services.

67. Which of the following is incorrect regarding the general principles of an audit?
A. The auditor should comply with the "Code of Ethics for Professional Ethics for Certified Public Accountants" promulgated by
the Philippine Professional Regulation Commission.
B. The auditor should conduct an audit in accordance with PSAs.
C. The auditor should plan and perform an audit with an attitude of professional skepticism recognizing that
circumstances may exist that cause the financial statements to be materially misstated.
D. The auditor would ordinarily expect to find evidence to support management representations and assume
they are necessarily correct.

Rationalization:
 Auditors must maintain professional skepticism, meaning they do not assume management's representations
are automatically correct. They need to verify the evidence independently.
 The other choices correctly reflect audit principles, such as compliance with ethics, auditing standards, and
maintaining professional skepticism.

68. Which is not a theoretical postulate framing an audit?

A. Financial data can be subjected to verification.
B. Long-term conflict between the auditor and client may exist.
C. An audit benefits the public.
D. The auditor is independent of the client.

Rationalization:

 B is incorrect because the auditor-client relationship should be professional and cooperative, with auditors
remaining independent.
 The other options are foundational to auditing: financial data is verifiable, audits benefit the public, and auditors
must maintain independence from clients.

69. A financial statement audit:

A. Confirms that financial statement assertions are accurate.
B. Lends credibility to the financial statements
C. Guarantees that financial statements are presented fairly.
D. Assures that fraud has been detected.

Rationalization:

 The core purpose of an audit is to lend credibility to the financial statements, making them more reliable
for users.
 A, C, and D are incorrect because an audit does not guarantee accuracy, fairness, or fraud detection.

70. If a short-term note payable is included in the accounts payable balance on the financial statement, there is a violation of the:
A. completeness assertion. C. existence assertion.
B. cutoff assertion. D. classification assertion.

Rationalization: The classification assertion requires that amounts in the financial statements are properly classified.
A short-term note payable should not be included in accounts payable if it's classified differently.

71. Auditing is what?

A. Reporting the financial information
B. Examination of financial statements
C. Preparation financial statements
D. maintaining the ledger records

72. The current file of the auditor’s working papers, generally, should include?
A. A flowchart of the internal controls
B. Organisation charts
C. A copy of financial statements
D. Copies of bond and debentures

73. Which of the following factors would least likely affect the quantity and content of an auditor’s working papers?
A. The assessed level of control risk
B. The possibility of peer review
C. The nature of auditor’s report
D. The content of management representation letter

74. Which of the following is not a financial statement assertion relating to account balances?
a. Completeness. b. Existence. c. Rights and obligations. d. Valuation and competence.

75. As the acceptable level of detection risk decreases, an auditor may

a. Reduce substantive testing by relying on the assessments of inherent risk and control risk.
b. Postpone the planned timing of substantive tests from interim dates to the year-end.
c. Eliminate the assessed level of inherent risk from consideration as a planning factor.
d. Lower the assessed level of control risk from the maximum level to below the maximum.

Rationalization: (b) The requirement is to identify the functions that

should be segregated for effective internal control. Answer (b)
is correct because authorizing transactions, recording
transactions, and maintaining custody of assets should be
segregated.

76. The risk that an auditor will conclude, based on substantive tests, that a material misstatement does not exist in an account
balance when, in fact, such misstatement does exist is referred to as
a. Sampling risk. b. Detection risk. c. Nonsampling risk. d. Inherent risk.

Rationalization: (b) The requirement is to identify the most likely type

of ongoing monitoring activity. Answer (b) is correct because
ongoing monitoring involves assessing the design and
operation of controls on a timely basis and taking necessary corrective actions and such an approach may be followed in
reviewing the purchasing function. Answer (a) is incorrect
because periodic audits are not ordinarily performed by the
audit committee, a subcommittee of the Board of Directors.
Answer (c) is incorrect because the audit of the annual
fi nancial statements is not ordinarily considered monitoring as
presented in the professional standards. Answer (d) is incorrect
because the meaning of the reply, control risk assessment in
conjunction with quarterly reviews, is uncertain.
77. As the acceptable level of detection risk decreases, the assurance directly provided from
a. Substantive tests should increase. b. Substantive tests should decrease.
c. Tests of controls should increase. d. Tests of controls should decrease

Rationalization: (a) The requirement is to identify an effect of a decrease

in the acceptable level of detection risk. Answer (a) is correct
because as the acceptable level of detection risk decreases,
the assurance provided from substantive tests should increase.
To gain this increased assurance the auditors may (1) change
the nature of substantive tests to more effective procedures
(e.g., use independent parties outside the entity rather than
those within the entity), (2) change the timing of substantive
tests (e.g., perform them at year-end rather than at an interim
date), and (3) change the extent of substantive tests (e.g., take
a larger sample). Answer (b) is incorrect because the assurance
provided from substantive tests increases, it does not decrease.
Answers (c) and (d) are incorrect because the acceptable
level of detection risk is based largely on the assessed levels
of control risk and in-herent risk. Accordingly, any tests of
controls will already have been performed.

78. Inherent risk and control risk differ from detection risk in that they
a. Arise from the misapplication of auditing procedures.
b. May be assessed in either quantitative or nonquantitative terms.
c. Exist independently of the financial statement audit.
d. Can be changed at the auditor’s discretion.

Rationalization: (c) The requirement is to determine a manner in which

inherent risk and control risk differ from detection risk.
Answer (c) is correct because inherent risk and control risk
exist independently of the audit of the fi nancial statements as
functions of the client and its environment, whereas detection
risk relates to the auditor’s procedures and can be changed
at his or her discretion. Answer (a) is incorrect because
inherent risk and control risk are functions of the client and its
environment and do not arise from misapplication of auditing
procedures. Answer (b) is incorrect because inherent risk,
control risk and detection risk may each be assessed in either
quantitative or nonquantitative terms. Answer (d) is incorrect
because inherent risk and control risk are functions of the
client and its environment, they cannot be changed at the
auditor’s discretion. However, the assessed levels of inherent
and control risk (not addressed in this question) may be affected by auditor decisions relating to the cost of gathering
evidence to substantiate assessed levels below the maximum.

79. On the basis of the audit evidence gathered and evaluated, an auditor decides to increase the assessed level of control risk
from that originally planned. To achieve an overall audit risk level that is substantially the same as the planned audit risk level,
the auditor would
a. Decrease substantive testing. b. Decrease detection risk. c. Increase inherent risk. d. Increase materiality levels.

Rationalization: (b) The requirement is to determine the best way for

an auditor to achieve an overall audit risk level when the
audit evidence relating to control risk indicates the need to
increase its assessed level. Answer (b) is correct because a
decrease in detection risk will allow the auditor achieve an
overall audit risk level substantially the same as planned.
Answer (a) is incorrect because a decrease in substantive
testing will increase, not decrease, detection risk and thereby
increase audit risk. Answer (c) is incorrect because an increase
in inherent risk will also increase audit risk. Answer (d) is
incorrect because there appears to be no justifi cation for
increasing materiality levels beyond those used in planning the
audit.

80. Relationship between control risk and detection risk is ordinarily

a. Parallel. b. Inverse. c. Direct. d. Equal

81. Which of the following would an auditor most likely use in determining the auditor’s preliminary judgment about
materiality?
a. The anticipated sample size of the planned substantive tests.
b. The entity’s annualized interim financial statements.
c. The results of the internal control questionnaire.
d. The contents of the management representation letter.

Rationalization: (b) The requirement is to identify the information that

an auditor would most likely use in determining a preliminary
judgment about materiality. Answer (b) is correct because
many materiality measures relate to an annual fi gure (e.g., net
income, sales). Answer (a) is incorrect because the preliminary
judgment about materiality is a factor used in determining the
anticipated sample size, not the reverse as suggested by the
reply. Answers (c) and (d) are incorrect because materiality
will not normally be affected by the results of the internal
control questionnaire or the contents of the management
representation letters.

82. Which of the following statements is not correct about materiality?

a. The concept of materiality recognizes that some matters are important for fair presentation of financial statements in
conformity with GAAP, while other matters are not important.
b. An auditor considers materiality for planning purposes in terms of the largest aggregate level of misstatements that could be
material to any one of the financial statements.
c. Materiality judgments are made in light of surrounding circumstances and necessarily involve both quantitative and qualitative
judgments.
d. An auditor’s consideration of materiality is influenced by the auditor’s perception of the needs of a reasonable person who will
rely on the financial statements.

Rationalization: (b) The requirement is to identify the statement that is

not correct concerning materiality. Answer (b) is the proper
reply because the auditor considers materiality for planning
purposes in terms of the smallest, not the largest, aggregate
amount of misstatement that could be material to any one of
the fi nancial statements. Answers (a), (c), and (d) all represent
correct statements about materiality.

83. Which of the following is a function of the risks of material misstatement and detection risk?
a. Internal control. b. Corroborating evidence c. Quality control. d. Audit risk.
84. Which of the following is correct concerning performance materiality on an audit?
a. It will ordinarily be less than financial statement materiality.
b. It should be established at the beginning of an audit and not be revised thereafter.
c. It should be established at separate amounts for the various financial statements.
d. It need not be documented in the working papers.

Rationalization: (a) The requirement is to determine the correct statement

with respect to performance materiality on an audit. Answer
(a) is correct because performance materiality is largely
established to help provide assurance that several immaterial
misstatements do not combine to a material undetected amount
of misstatement; accordingly, it ordinarily is established at a
level lower than that of materiality for the fi nancial [Link] (b) is incorrect because performance materiality
may be revised throughout the audit, particularly when
circumstances depart from those which had been expected
while planning the audit. Answer (c) is incorrect because
performance materiality is ordinarily established for the
fi nancial statements as a whole, and if applicable, materiality
levels for particular classes of transactions, account balances,
or disclosures. Answer (d) is incorrect because performance
materiality must be documented in the working papers.

85. Which of the following would an auditor most likely use in determining the auditor’s preliminary judgment about
materiality?
a. The results of the initial assessment of control risk.
b. The anticipated sample size for planned substantive tests.
c. The entity’s financial statements of the prior year.
d. The assertions that are embodied in the financial statements.

Rationalization: (c) The requirement is to identify the information that an

auditor would be most likely to use in making a preliminary
judgment about materiality. Answer (c) is correct because
auditors often choose to use a measure relating to the prior
year’s fi nancial statements (e.g., a percentage of total assets,
net income, or revenue) to arrive at a preliminary judgment
about materiality. Answer (a) is incorrect because materiality
is based on the magnitude of an omission or misstatement
and not on the initial assessment of control risk. Answer (b)
is incorrect because while an auditor’s materiality judgment
will affect the anticipated sample size for planned substantive
tests, sample size does not affect the materiality judgment.
Answer (d) is incorrect because the assertions embodied in
the fi nancial statements remain the same from one audit to
another.

86. Holding other planning considerations equal, a decrease in the amount of misstatement in a class of transactions that an
auditor could tolerate most likely would cause the auditor to
a. Apply the planned substantive tests prior to the balance sheet date.
b. Perform the planned auditing procedures closer to the balance sheet date.
c. Increase the assessed level of control risk for relevant financial statement assertions.
d. Decrease the extent of auditing procedures to be applied to the class of transactions.

Rationalization: (b) The requirement is to identify the most likely

effect of a decrease in the tolerable amount of misstatement
(tolerable misstatement) in a class of transactions. Answer (b)
is correct because auditing standards state that decreasing the
tolerable amount of misstatement will require the auditor to do
one or more of the following: (1) perform auditing procedures
closer to the balance sheet date (answer [b]); (2) select a more
effective auditing procedure; or (3) increase the extent of a
particular auditing procedure. Answer (a) is incorrect because
in such a circumstance substantive tests are more likely to be
performed at or after the balance sheet date than prior to the
balance sheet date. Answer (c) is incorrect because decreasing
the tolerable amount of misstatement will not necessarily lead
to an increase in the assessed level of control risk. Answer (d)
is incorrect because the extent of auditing procedures will be
increased, not decreased.

87. When issuing an unmodified opinion, the auditor who evaluates the audit findings should be satisfied that the
a. Amount of known misstatement is documented in the management representation letter.
b. Estimate of the total likely misstatement is less than a material amount.
c. Amount of known misstatement is acknowledged and recorded by the client.
d. Estimate of the total likely misstatement includes the adjusting entries already recorded by the client.

Rationalization: (b) The requirement is to identify the necessary

condition for an auditor to be able to issue an unmodifi ed
opinion. Answer (b) is correct because if the estimate of likely
misstatement is equal to or greater than a material amount
a material departure from generally accepted accounting
principles exists and thus AU-C 705 requires either a qualifi ed
or adverse opinion in such circumstances. Answer (a) is
incorrect because the amount of known misstatement (if any)
need not be documented in the management representation
letter. Answer (c) is incorrect because it ordinarily is not
necessary for the client to acknowledge and record immaterial
known misstatements. Answer (d) is incorrect because the
total likely misstatement need not include the adjusting entries
already recorded by the client.

88. Which of the following is not one of the limitations of an audit

A. The use of testing
B. Human error
C. Limitations imposed by client
D. Nature of evidence that the auditor obtains

89. The auditor communicates the results of his or her work through the medium of the
A. Engagement letter C. Management letter
B. Audit report D. Financial statements

90. Which of the following types of services is generally provided only by CPA firms?
A. Tax audits C. Financial statement audits
B. Compliance audits D. Operational audits

91. Operational auditing is primarily oriented toward

A. Future operational improvements to accomplish the goals of management
B. The accuracy of data reflected in management's financial records
C. The verification that a company's financial statements are fairly presented
D. Past protection provided by existing internal control

92. A typical objective of an operational audit is for the auditor to

A. Determine whether the financial statements fairly present the entity's operations
B. Evaluate the feasibility of attaining the entity's operational objectives
C. Make recommendations for improving performance
D. Report on the entity's relative success in attaining profit maximization

93. Governmental auditing often extends beyond examinations leading to the expression of opinion on the fairness of financial
presentation and includes audits of efficiency, economy, effectiveness, and also
A. Accuracy C. Evaluation
B. Compliance D. Internal control

94. A measure of the auditor’s assessment of the likelihood that there are material misstatements in an account before considering
the effectiveness of the client’s internal control is called
A. Audit risk C. Detection risk
B. Inherent risk D. Control risk

95. It is the process designed and effected by those charged with governance, management, and other personnel to provide
reasonable assurance about the achievement of the entity’s objectives.
A. Internal auditing C. Internal control
B. Business strategy D. Accounting process

96. All else being equal, as the level of materiality decreases, the amount of evidence required will
A. Remain the same
B. Decrease
C. Change in an unpredictable fashion
D. Increase

97. The primary responsibility for the adequacy of disclosure in the financial statements of a publicly held company is with
whom?
A. Partner assigned to the audit engagement.
B. Management and Those Charged with Governance.
C. Auditor in charge of the fieldwork.
D. Securities and Exchange Commission.

98. An audit performed in accordance with generally accepted auditing standards generally should:
A. Be expected to provide absolute assurance that illegal acts will be detected where internal control is effective.
B. Be relied upon to disclose violations of truth in lending laws.
C. Encompass a plan to actively search for all illegalities which relate to operating aspects.
D. Not be relied upon to provide absolute assurance that all illegal acts will be detected.

99. Situation: You’re assigned to determine if operational resources are being used effectively. What audit are you conducting?
A. Compliance
B. Financial
C. Operational
D. Forensic

Rationalization: Answer: C
Rationale: Operational audit focuses on efficiency and effectiveness.

100. ABC Tech Solutions, a privately held software development company, seeks to obtain a short-term loan from a local bank.
The bank does not require an audit of the financial statements but requests a level of assurance that the statements are free from
material misstatement. ABC engages a CPA to perform a service that will involve limited procedures—primarily inquiries and
analytical procedures—to provide moderate assurance without performing substantive testing.

Which professional standard should govern the engagement performed by the CPA?
A. Philippine Standard on Auditing (PSA)
B. Philippine Standard on Assurance Engagements (PSAE)
C. Philippine Standard on Review Engagements (PSRE)
D. Philippine Standard on Related Services (PSRS)

Rationalization: Answer: C
The CPA is engaged to provide limited (moderate) assurance on historical financial statements through inquiry and analytical
procedures, which clearly aligns with the scope of PSRE.