ASSURANCE PRINCIPLES

2nd Semester AY 2017-2018

QUIZ 3 – Financial Statements Audit

ANSWER KEY – PART 1 (40)

1. A 11. B 21. A 31. C
2. D 12. A 22. B 32. B
3. D 13. B 23. D 33. C
4. D 14. C 24. D 34. C
5. A 15. D 25. D 35. A
6. D 16. AB 26. D 36. C
7. A 17. C 27. C 37. C
8. C 18. A 28. A 38. B
9. B 19. C 29. C 39. D
10. A 20. A 30. AD 40. D

ANSWER KEY – PART 2 (10 points)

No. Answer BRIEF explanation if the statement is FALSE

1. TRUE Given statement:
Independent audits of today place more emphasis on sampling than did
the audits of the 19th century.

Point/Focus:
The emphasis or focus of today’s audit compared to audit of 19th century.

2. TRUE Given statement:

Since ancient times, audits have been the answer to the call for
transparency and the accountability, to the need for reliable information.

Point/Focus:
Similarity why audit is important since ancient times to present.

3. TRUE Given statement:

Operational audit involves more subjective judgments than a compliance
audit or an audit of financial statements because the criteria of
effectiveness and efficiency of departmental performance are not as
clearly established as are many laws and regulations or generally
accepted accounting principles.

Point/Focus:
Which of the three types of audit according to subject matter involves
more subjective judgment because of the given reason.

4. TRUE Given statement:

An operational audit attempts to measure the effectiveness and efficiency
of a specific unit of an organization.

Point/Focus:
What the operational audit attempts to measure within a specific unit of
organization.

5. FALSE Data or audit evidence may support or contradict management

assertions.

Given Statement:
Audit evidence must support assertions and not contradict assertions.

Point/Focus:
What evidence can do to assertions

1
No. Answer BRIEF explanation if the statement is FALSE
6. FALSE The basis of auditor’s opinion is the sufficient appropriate audit evidence.
Without this, the auditor cannot express his opinion.

Given statement:
A CPA can express an opinion even without supporting evidence to back
up his opinion.

Point/Focus:
The relationship of audit evidence to auditor’s opinion.

7. FALSE The suitable criteria used in the audit of historical financial information
or Financial statement audit is the generally accepted accounting
principles like PFRS and not the generally accepted auditing standards.

Given statement:
In the audit of historical financial statements by public auditing firms, the
criteria used are the generally accepted auditing standards.

Point/Focus:
The suitable criteria in financial statements audit.

8. FALSE Data or audit evidence may be internally or externally generated.

Given statement:
Auditing requires that data should be internally generated.

Point/Focus:
The source of audit data or evidence if internally or externally, or both.

9. FALSE Audit is not designed to detect fraud and errors. It is designed to express
an opinion as to fairness of financial statements if prepared in conformity
with GAAP.

Given statement:
An audit ensures that fraud is prevented.

Point/Focus:
The purpose of audit which is to provide or express an opinion if financial
statements are fairly stated in conformity with generally accepted
accounting principles or financial reporting framework like PFRS.

10. FALSE The Independent Audit Report must state that the audit was conducted in
accordance with generally accepted auditing standards (GAAS) and not
GAAP.

Given statement:
The independent Auditor’s Report must state that the audit was
conducted in accordance with generally accepted accounting principles.

Focus/Point:
The rules or standards that must be included in the Independent Auditor’s
Report during the conduct of his audit.

2
 FAR EASTERN UNIVERSITY
INSTITUTEOF ACCOUNTS, BUSINESS AND FINANCE
Department of Accountancy & Internal Auditing

ASSURANCE PRINCIPLES
Summer Class 2017
LONG QUIZ 2 – Audit of FS

Name Date
(Family Name) (First Name) (Middle Name) Section
Professor Day/Time
Stud. No. Score
Room Rating

PART 1 – MULTIPLE CHOICE

Instructions: Choose the correct answer among the given choices. Write the letter of your choice that corresponds to
your answer on the Answer Sheet for this part of the examination. Use CAPITAL LETTER. Use only BLACK INK. There
will be no credit for not following instructions.

1. What makes auditing a systematic process?

a. It follows a logical sequence of procedures.
b. It follows a chronological sequence of procedures.
c. It follows a professional judgement in selecting steps to be followed during the audit.
d. All of the above

Explanation:
Option A - The most appropriate is that auditing follows a logical sequence procedures because being systematic
means organized and with bases or rules and standards being followed. This is the correct answer because this is
the best answer.

Option B – Chronological sequence means following only step by step procedures but may be lack bases or rules
and standards to be followed. Besides, having a logical sequence of procedures c is deeper in meaning than in
chronological sequence. This is not the best answer.

Option C – Professional judgement is applied during each process but it does not qualify to make auditing a
systematic process. This is not the correct answer.

2. Which is not an element of objectivity in auditing?

a. Impartiality
b. Intellectual honesty
c. Freedom from conflict of interest
d. None of the above

Explanation:
Letters (a) impartiality, (b) intellectual honesty, and (c) freedom from conflict of interest are all elements of
objectivity in auditing. Therefore, the answer is letter (d).

3. Audit evidence may be in the form of

a. Oral representations
b. Written documents
c. Electronic media
d. All of the above

Explanation:
Letters (a) oral representations, (b) written documents, and (c) electronic media are all forms of audit evidence.
Therefore, the answer is letter (d).

4. Assertions are representations by management, explicit or otherwise, that are embodied in

a. Financial statements
b. Records
c. Systems
d. All of the above

Explanation:
Assertions are embodied in (a) financial statements, (b) records, and (c) systems. Therefore, the answer is letter
(d).

3
5. In relation to your answer in number 7, what is the best audit procedure or technique regarding inventory?
a. Count
b. Inspect
c. Confirm
d. Observation

Explanation:
This is a bonus question. The omitted related information here is the inventory of P 400,000 in the financial
statement. The first question is what audit procedure is applicable verify the accuracy of balance (answer is
recalculation). The second question is what assertion is applicable if the management claims that all inventory
are physically present at the end of the accounting period (the answer is existence). Then, this question in number
5 which is the related audit procedure to verify the existence of inventory in which the answer is letter (a) – count.

6. The organization charged with protecting investors and the public by requiring full disclosure of financial information
by companies offering securities to the public is the:
a. Auditing Standards Board.
b. Financial Accounting Standards Board.
c. Government Accounting Standards Boards.
d. Securities and Exchange Commission.

Explanation:
Option A – The Auditing Standards Board (ASB) is the senior technical committee designated by the American
Institute of Certified Public Accountants (AICPA) to issue auditing, attestation, and quality control statements,
standards and guidance to certified public accountants (CPAs) for non-public company audits. It is the counterpart
of IAASB. This is not the correct answer.

Option B – The Financial Accounting Standards Board (FASB) is a private, non-profit organization standard setting
body whose primary purpose is to establish and improve generally accepted accounting principles (GAAP) within
the United States in the public's interest. It is the counterpart of IASB. This is not the correct answer.

Option C – The Government Accounting Standard Board (GASB) is the source of generally accepted accounting
principles (GAAP) used by state and local governments in the United States. This is not the correct answer.

Option D – The Securities and Exchange Commission (SEC) is an organization charged with protecting investors
and the public by requiring full disclosure of financial information by companies offering securities to the public.
This is the correct answer.

7. The risk that information is misstated is referred to as:

a. Information risk.
b. Inherent risk.
c. Relative risk.
d. Business risk.

Explanation:
Option A – Information risk is the probability that the information circulated by a company will be false or
misleading like understated or overstated balances of accounts in the financial statements. This is the correct
answer. (Source - www.jsu.edu/ccba/fea/faculty/zanzig/490/490_1.ppt)

Option B – Inherent risk is the risk posed by an error or omission in a financial statement due to a factor other than
a failure of control. In a financial audit, inherent risk is most likely to occur when transactions are complex, or in
situations that require a high degree of judgment in regards to financial estimates. This is not the correct answer.
(Source - https://www.investopedia.com/terms/i/inherent-risk.asp)

Option C – Relative risk is the potential loss that can result from one action measured against the potential loss that
might result from a different action. This is not the correct answer. (Source -
http://www.businessdictionary.com/definition/relative-risk.html)

Option D – Business risk results from significant conditions, events, circumstances or actions that could adversely
affect the entity's ability to achieve its objectives and execute its strategies, or through the setting of inappropriate
objectives and strategies. This is not the correct answer. (Source - http://www.cpaireland.ie/docs/default-
source/Students/Study-Support/P2-Audit-Practice-Assurance-Services/audit-risk-and-business-risk.pdf?sfvrsn=0)

8. Which of the following attributes most clearly differentiates a CPA who audits management's financial statements
as contrasted to management?
a. Integrity.
b. Competence.
c. Independence.
d. Keeping informed on current professional developments.

4
 Explanation:
Independence (c) in financial statements is an attribute that CPAs has compared to management. Being
independent, integrity is affected. Both management and CPAs have integrity (a) and competence (b). They are also
both need to be updated on current professional developments (d) which is a contributing factor to their
competency.

9. The attest function:

a. Is an essential part of every engagement by the CPA, whether performing auditing, tax work, or other services.
b. Includes the preparation of a report of the CPA's findings.
c. Requires a consideration of internal control.
d. Requires a complete review of all transactions during the period under examination.

Explanation:
Option A – Not every engagement by the CPA is an attest function like management consultancy and tax return
preparation. This is not the correct answer.

Option B – The attest function requires the preparation of a report of the CPA’s findings because attestation involves
an engagement resulting in the issuance of a report on subject matter or an assertion about the subject matter that
is the responsibility of another party. This is the correct answer.

Option C – Not all attest functions require consideration of internal control. Consideration of internal control is
applicable for financial statement audit. This is not the correct answer.

Option D – Attest function like financial statement audit does not require complete review of all transactions
because it is very impossible to do because of many factors like time constraints and cost-benefit relationship. In
financial statement audit, sampling technique is used. This is also the reason why only reasonable assurance is
provided by independent auditor about the client’s financial statements. This is not the correct answer.

10. When compared to an audit performed prior to 1900, an audit today:

a. Is more likely to include tests of compliance with laws and regulations.
b. Is less likely to include consideration of the effectiveness of internal control.
c. Has bank loan officers as the primary financial statement user group.
d. Includes a more detailed examination of all individual transactions.

Explanation:
Option A –This is correct. Test of compliance is part of audit today. This is also related to compliance to policies and
procedures of the client which are part of internal control.

Option B – This is not correct. See related explanation in Option A.

Option C – This is not always correct. Not all entities borrowed money from a bank.

Option D – This is incorrect. The auditor cannot provide absolute assurance from detailed examination of all
individual transactions. Sampling technique is applied by auditors of today due to various reasons or factors.

11. An operational audit differs in many ways from an audit of financial statements. Which of the following is the best
example of one of these differences?
a. The usual audit of financial statements covers the four basic statements, whereas the operational audit is
usually limited to either the balance sheet or the income statement.
b. The boundaries of an operational audit are often drawn from an organization chart and are not limited
to a single accounting period.
c. Operational audits do not ordinarily result in the preparation of a report.
d. The operational audit deals with pre-tax income.

Explanation:
Option A –This is incorrect. Operational audit is not limited to either the balance sheet or the income statement. Its
concern is the organization’s activities or processes as to its effectivity, efficiency and economy to achieve the goals
of the organization.

Option B – This is correct. Operational audit may go beyond with one accounting period depending on the scope
of audit. It is also drawn from an organization chart because its function is to audit the organization’s activities or
processes as to its effectivity, efficiency and economy to achieve the goals of the organization.

Option C – This is incorrect. Operational audit requires audit report that includes recommendation for
improvements of processes or activities to help the top management achieve the goal of the organization.

Option D – This is incorrect. See related explanation above.

5
12. The review of a company's financial statements by a CPA firm:
a. Is substantially less in scope of procedures than an audit.
b. Requires detailed analysis of the major accounts.
c. Is of similar scope as an audit and adds similar credibility to the statements.
d. Culminates in issuance of a report expressing the CPA's opinion as to the fairness of the statements.

Explanation:
Option A – This is correct that review of company’s FS requires lesser audit procedures than financial statement
audit. This is also the reason why it is an example of limited assurance engagement.

Option B - This is incorrect because detailed analysis of account is impossible to perform in the review of financial
statements. See related explanation in Option B.

Option C – This is incorrect. No independent auditor’s report is attached to financial statements during review unlike
financial statements audit that lends credibility to such financial statements.

Option D – See related explanation in Option D.

13. Which of the following types of services is generally provided only by CPA firms?
a. Tax audits.
b. Financial statement audits. (This is because only CPAs can perform financial audit in which the
employees or audit staff of CPA firms are generally CPAs)
c. Compliance audits.
d. Operational audits.

14. Which of the following terms best describes the audit of a taxpayer's tax return by a BIR auditor?
a. Operational audit.
b. Internal audit.
c. Compliance audit.
d. Government audit.

Explanation:
Option C is the answer because the audit intention is adherence to BIR ruling regarding taxes.

15. Inquiries and analytical procedures ordinarily form the basis for which type of engagement?
a. Agreed-upon procedures.
b. Audit.
c. Examination.
d. Review.

16. Which of the following best describes the reason why independent auditors report on financial statements?
a. A management fraud may exist and it is more likely to be detected by independent auditors.
b. Different interests may exist between the company preparing the statements and the persons using
the statements.
c. A misstatement of account balances may exist and is generally corrected as the result of the independent
auditors' work.
d. Poorly designed internal control may be in existence.

Explanation:
Option A – This is incorrect. Independent audit is not performed to detect fraud by management.

Option B – This is correct. Financial statements prepared by management may be bias or only in favor of
management due to manipulation that results to unfavorable effect to some users.

Option C – This is information risk and under consideration by financial statement auditor but this is part of the
explanation of answer in Option B.

Option D – This is incorrect. Poor internal control may lead to misstated balances in financial statements either due
to fraud or error. This is part of the explanation of answer in Option B.

17. 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.
b. Evaluation.
c. Compliance. (This is part of government auditing aside from financial audit and performance audit
Performance audit, on the other hand, includes economy and efficiency audit, and effectiveness audit
which is almost the same as operational audit)
d. Internal control.

18. Operational auditing is primarily oriented toward:

a. Future improvements to accomplish the goals of management.

6
 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.

Explanation:
Option A is the correct answer because processes in relation to operational activities of the business that include
policies and procedures are designed, approved and implemented by top management to achieve its goals.

Options B, C and D are all incorrect because these are all related to financial statements audit.

19. 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.

Explanation:
Option A is incorrect because it is hard to measure fair presentation of entity’s operations. This is not the concern
of operation audit. See related explanation in Option C.

Option B is incorrect because it is not a typical objective of operations audit to evaluate the feasibility of attaining
the entity’s operational objectives.

Option C is the correct answer because the operation auditor must verify the effectiveness, efficiency and economy
of the processes of the business activities. Any deficiencies in relation to these 3Es must be reported to management
with recommendation to help achieve its goal.

Option D is incorrect because this is not a typical objective of operations audit to report the entity’s relative success
in attaining profit maximization.

20. An integrated audit performed under the Sarbanes-Oxley Act requires that auditors report on:
Financial
Statements Internal Control
A. Yes Yes
B. Yes No
C. No Yes
D. No No

21. It is important for the auditor to be independent because

a. The audit conclusions cannot be relied upon if the auditor was biased in accumulating and evaluating
evidence. (This is also the reason why the report by the auditor performing financial statement audit
is independent audit report)
b. The auditor would not charge a fair rate to the client.
c. The auditor might not be as knowledgeable of the subject matter and the criteria.
d. The Philippine Tax Authorities require that the auditor be independent. (This is also true but being an
independent auditor is not only necessary for BIR reporting but also to other intended users).

22. An accountant records information. When conducting an audit, the distinguishing abilities are the
a. Requirement to possess education beyond the bachelor's degree. (This is necessary for both accountant
and financial statement auditor)
b. Accumulation and interpretation of evidence. (This is exclusive to auditor)
c. Capability to interpret generally accepted accounting principles. (This is the function of both accountant
and financial statement auditor)
d. Organize and summarize economic events. (This is the function of accountant)

23. The primary reason for an audit by an independent, external audit firm is to
a. Satisfy government regulatory requirements. (This is not the only purpose of independent audit)
b. Guarantee that there are no misstatements in the financial statements and ensure that any fraud will be
discovered. (Audit does not guarantee that FS are no longer misstated or fraud no longer exists.
Independent audit provides only reasonable assurance and not absolute assurance)
c. Relieve management of responsibility for the financial statements. (Even the financial statements are
audited by independent auditor, the financial statements are still the responsibility of management)
d. Provide increased assurance to users as to the fairness of the financial statements (This is correct.
Once financial statements are audited with attached independent auditor’s report, management and
other intended users’ confidence in financial statements increase.)

24. The independent auditor lends credibility to client’s financial statements by

a. Maintaining a clear-cut distinction between management’s representations and the auditor’s representation.
(Financial statements, whether audited or not, are still management’s representation)
b. Testifying under oath about client’s financial statements. (No such thing for independent auditor to lend
credibility to client’s financial statements)
c. Stating in the auditor’s management letter that the examination was made in accordance with generally
accepted auditing standards. (There is no such thing in the audit)

7
 d. Attaching an auditor’s opinion to the client’s financial statements. (See related explanation in number
23-d)

25. Several types of documentary evidence were received by the auditor, but of these only one is considered most
reliable:
a. Working papers prepared by the Chief Accountant and reviewed personally by the VP-Finance.
b. A check issued by the Treasurer, with the payee’s endorsement, included in the statement mailed by the bank
auditor.
c. A delivery receipt issued by the shipping department, signed by the customer, with an accompanying copy of
the sales invoice.
d. Confirmation of the balance of accounts payable mailed by and returned directly to the auditor.

Explanation:
Options A, B and C are all from internal sources while option D is from external sources which makes it more reliable.

26. The independent auditor lends credibility to client’s financial statements by

a. Maintaining a clear-cut distinction between management’s representations and the auditor’s representation.
b. Testifying under oath about client’s financial statements.
c. Stating in the auditor’s management letter that the examination was made in accordance with generally
accepted auditing standards.
d. Attaching an auditor’s opinion to the client’s financial statements.

Explanation:
See number 24. Same question, same answer, same explanation.

27. One objective of operational audit is 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.

Explanation:
See explanation in number 19.

28. An examination of part of an organization’s procedures and methods for the purpose of evaluating efficiency and
effectiveness is what type of audit?
a. Operational audit.
b. Compliance audit.
c. Financial statement audit.
d. Production audit.

Explanation:
See explanations in other numbers before number 28.

29. Which one of the following is more difficult to evaluate objectively?

a. Presentation of financial statements in accordance with generally accepted accounting principles. (This can be
done objectively by objectively gathering sufficient and appropriate audit evidence)
b. Compliance with government regulations. (Degree of compliance or non-compliance is easier to determine
and evaluate objectively than FS audit and operational audit)
c. Efficiency and effectiveness of operations. (This is somewhat subjective in nature rather than objective
because it is hard to make the evaluation in numeric term.)
d. All three of the above are equally difficult.

30. The trait that distinguishes auditors from accountants is the:

a. Auditor’s ability to interpret accounting principles generally accepted. (Applicable to both accountants and
auditors)
b. Auditor’s education beyond the Bachelor’s degree. (Applicable to both accountants and auditors)
c. Auditor’s ability to interpret Statements. (Applicable to both accountants and auditors)
d. Auditor’s accumulation and interpretation of evidence related to a company’s financial statements. (This
is exclusive to auditors)

31. The rules of accounting are the criteria used by the auditor for evaluating the presentation of economic events for
financial statements and he or she must therefore have an understanding of
a. Generally accepted accounting principles (GAAP)
b. Generally accepted auditing standards (GAAS)
c. Both GAAP and GAAS
d. Neither GAAP nor GAAS

Explanation:
See explanations in other numbers related to this question.

8
32. The purpose of compliance audit is
a. To determine whether the financial statements are presented in accordance with GAAP.
b. To determine whether the client is following specific procedures set by higher authority.
c. To evaluate whether operating procedures are efficient and effective.
d. All of the above

Explanation:
See explanations in other numbers related to this question.

33. The users of audit report of compliance audit are

a. The different groups for different purposes – many outside entities. (This is incorrect. See Letter C below)
b. Management of organization.(This is not specific if top, middle or lower management. See letter C below)
c. Authority setting down procedures, internal or external (This is the top management like senior
management and those charged with governance)
d. All of the above

34. The nature of operational audits is (are)

a. Not standardized, but very specific and usually objective
b. Highly standardized
c. Highly nonstandard; often very subjective
d. Highly nonstandard; often very objective

Explanation:
See explanations in number 29.

35. COA auditors perform compliance or operational audits in order

a. To assure the Congress of the expenditure of public funds in accordance with its directives and the
law.
b. To enforce the tax laws as defined by Congress, interpreted by the courts, and regulated by the BIR law.
c. To assure management or the board of directors that controls and policies are properly and consistently
developed, applied and evaluated.
d. To express an opinion if the financial statements are fairly presented, in all material respect, in accordance
with generally accepted accounting principles.

36. Internal auditors perform compliance or operational audits in order

a. To express an opinion if the financial statements are fairly presented, in all material respect, in accordance
with generally accepted accounting principles.
b. To assure the Congress of the expenditure of public funds in accordance with its directives and the law.
c. To assure management or the board of directors that controls and policies are properly and
consistently developed, applied and evaluated.
d. To enforce the tax laws as defined by Congress, interpreted by the courts, and regulated by the BIR law.

37. An independent audit is a means of satisfying the need for reliable information on the part of decision makers.
Factors of a complex society which contribute to this need are the following, except:
a. Dispersion of the business among numerous geographic locations and complex corporate structures
b. Multiple transaction locations
c. Materiality
d. New and changing business relationships lead to innovative accounting and reporting problems

Explanation:
See related explanations in other numbers.

38. The main ways to reduce information risk are as follows, except:
a. User verifies the information itself.
b. Use of computerized accounting applications (This will not reduce information risk.)
c. The users share the information risk with management.
d. Have audited financial statements provided.

39. To minimize information risk, one way is to have audited financial statements provided. Its disadvantages, on the
contrary, is (are):
a. Information risk can usually be reduced sufficiently to satisfy users at reasonable cost.
b. May not meet needs of certain users.
c. Cost may be higher than the benefits in some situations, such as for a small company.
d. Both b and c

Explanation:
See number 39 above.

40. A report by an independent public accountant concerning the fairness of a company’s financial statements is
commonly required in the following situations:
a. Establishing credit for purchase of merchandise, equipment, or other assets.

9
 b. Reporting operating results, financial position, and cash flows to absentee owners (stockholders or partners).
c. Issuance of securities by a corporation.
d. All of the above

PART 2 – TRUE OR FALSE (20 points)

Instructions: State whether the following statements are TRUE or FALSE. In case the statement is FALSE, explain
briefly what makes the statement false. WRONG EXPLANATION MEANS WRONG ANSWER EVEN IF THE ANSWER
IS FALSE. Write clearly your answer on the Answer Sheet for this part of the quiz. Use only BLACK INK. There will be
no credit for not following instructions.

1. Independent audits of today place more emphasis on sampling than did the audits of the 19th century.

2. Since ancient times, audits have been the answer to the call for transparency and the accountability, to the need
for reliable information.

3. Operational audit involves more subjective judgments than a compliance audit or an audit of financial statements
because the criteria of effectiveness and efficiency of departmental performance are not as clearly established as
are many laws and regulations or generally accepted accounting principles.

4. An operational audit attempts to measure the effectiveness and efficiency of a specific unit of an organization.

5. Audit evidence must support assertions and not contradict assertions.

6. A CPA can express an opinion even without supporting evidence to back up his opinion.

7. In the audit of historical financial statements by public auditing firms, the criteria used are the generally accepted
auditing standards.

8. Auditing requires that data should be internally generated.

9. An audit ensures that fraud is prevented.

10. The independent Auditor’s Report must state that the audit was conducted in accordance with generally accepted
accounting principles.

10