Polytechnic University of the Philippines ACCO 303 Midterm Exam 2024 PDF

Polytechnic University of the Philippines College of Accountancy and Finance ACCO 303: Auditing and Assurance Principles Midterm Departmental Examination (1st Semester AY 2024-2025) Name: _____________...

Polytechnic University of the Philippines College of Accountancy and Finance ACCO 303: Auditing and Assurance Principles Midterm Departmental Examination (1st Semester AY 2024-2025) Name: ____________________________________________ Campus, Year and Section: ___________________ General Instruction: Read each question carefully, select the best answer for each questions presented and shade the corresponding letter on the scannable sheet provided. Cheating is strictly prohibited. Anyone caught in the act of cheating shall be sanction appropriately. Goodluck BSA’s. This examination is good for 2 hours. 1. Primary responsibility for the assertions in financial statements rests with the: a. Staff auditor who drafts the statements c. Client's management b. Audit partner assigned to the engagement d. Senior auditor in charge of field work 2. Which of the following statements refers to the definition of auditing? a. service activity which function is to provide quantitative information primarily financial in nature about economic entities that is intended to be useful in making economic decisions. b. The art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions and events which are in part at least of a financial character and interpreting the results thereof. c. The process of identifying, measuring, and communicating economic information to permit informed judgment and decisions by users of the information. d. A systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the degree of correspondence between these assertions and established criteria and communicating the results thereof. 3. Which of the following is not among the characteristics of auditing? a. systematic process b. It involves objectively obtaining and evaluating evidence about assertions. c. It ascertains the degree of correspondence between assertions and established criteria d. It includes communication of the results to the management 4. Which of the following is not part of the three party relationship in an assurance engagement? a. Responsible party c. Financial statement under review b. Practitioner d. Intended users 5. The word auditing comes from the Latin audire, which means: a. To see b. To test c. To hear d. To detect 6. The trait that distinguishes auditors from accountants is the: a. Auditor's ability to interpret accounting principles generally accepted in the Philippines. b. Auditor's education beyond the Bachelor's degree. c. Auditor's ability to interpret accounting and auditing standards. d. Auditor's accumulation and interpretation of evidence related to a company's financial statements. 7. This type of audit involves a review of an organization's procedures and methods for the purpose of evaluating efficiency and effectiveness of operations, identifying areas for improvement, and making recommendations to improve performance: a. Financial statement audit c. Operational audit b. Compliance audit d. Internal audit 8. Which of the following types of audits uses as its criteria laws and regulations? a. Operational audit c. Financial statement audit b. Compliance audit d. Financial audit 9. Which of the following types of audits is performed to determine whether an entity's financial statements are fairly stated in conformity with generally accepted accounting principles? a. Operational audit c. Compliance audit b. Financial statement audit d. Performance audit 10. An auditor's overall objective in a financial statement audit is to: a. Determine that all individual accounts and footnotes are fairly presented. b. Employ the audit risk model. c. Express an opinion on the fair presentation of financial statements in accordance with generally accepted accounting principles. d. Detect all errors and fraud. Page 1| AAP- Campus 11. Which of the following best describes the operational audit? a. It requires constant review by internal auditors of the administrative controls as they relate to the operations of the company. b. It concentrates on implementing financial and accounting control in a newly organized company. c. It attempts and is designed to verify the fair presentation of a company's results of operations. d. It concentrates on seeking out aspects of operations in which waste would be reduced by the introduction of controls. 12. What is the proper organizational role of internal auditing? a. To serve as an independent, objective assurance and consulting activity that adds value to operations. b. To assist the external auditor in order to reduce external audit fees. c. To perform studies to assist in the attainment of more efficient operations. d. To serve as the investigative arm of the audit committee of the board of directors. 13. The scope and objectives of internal auditing vary widely and depend on the size and structure of the entity and the requirements of its management. Ordinarily, internal auditing activities include one or more of the following: I. Review of the accounting and internal control systems II. Examination of financial and operating information III. Review of the economy, efficiency, and effectiveness of operations IV. Review of compliance with laws, regulations, and other external requirements a. I, II, and III b. II, III, and IV c. I, II, and IV d. I, II, III, and IV 14. Which statement is correct regarding the relationship between internal auditing and the external auditor? a. Some judgments relating to the audit of the financial statements are those of the internal auditor. b. The external audit function's objectives vary according to management's requirements. c. Certain aspects of internal auditing may be useful in determining the nature, timing, and extent of external audit procedures. d. The external auditor is responsible for the audit opinion expressed; however, that responsibility may be reduced by any use made of internal auditing. 15. Third-party users of the audit report expect the auditor to do all of the following except: a. To evaluate measurements and disclosures made by management b. To provide a biased evaluation of the financial statements c. To determine whether financial statements are presented in accordance with GAAP d. To gather sufficient evidence to support their opinion 16. These refers to an assurance engagements in which the evaluation or measurement of the subject matter is performed by the responsible party, and the subject matter information is in the form of an assertion by the responsible party that is made available to the intended users. a. Assertion-based engagement c. Direct reporting engagement b. Indirect reporting engagement d. Reasonable assurance engagement 17. Which of the following actions by an auditor best demonstrates a lack of professional skepticism? a. The auditor questions management about large variances and consults with experts to ensure the reasonableness of the reported figures. b. The auditor gathers independent third-party confirmations for significant account balances, despite being assured by management of their accuracy. c. The auditor relies entirely on management's verbal assurances about a major account balance without verifying the details or reviewing supporting documents. d. The auditor performs additional testing and cross-verification to confirm the accuracy of a highly unusual transaction. 18. Following the generalization on the reliability of evidence: Statement 1: Evidence is more reliable when it is obtained from independent sources outside the entity Statement 2: The reliability of information generated internally by the company is increased when the company's controls over that information are effective. Statement 3: Evidence obtained directly by the practitioner is more reliable than when obtained indirectly. a. Only statements 1 and 2 are correct. c. Only statement 2 is incorrect. b. Only statements 1 and 3 are correct. d. Statements 1, 2, and 3 are correct. 19. Which of the following statements is true? Statement 1: Absolute assurance is attainable owing to the fact that much of the evidence available to the CPA is persuasive rather than conclusive Statement 2: The practitioner expresses a conclusion that provides a level of assurance as to whether the subject matter conforms, in all material respects, with the identified suitable criteria. Statement 3: The CPA’s in performing a reasonable level assurance engagement should also have a reasonable level but not an absolute level of independence. Page 2| AAP- Campus  a. Only statements 2 and 3 are true. c. Only statement 3 is false. b. Only statements 1 and 3 are false. d. Statements 1, 2, and 3 are false. 20. Considering the following statements concerning evidence in an assurance engagement? Statement 1: The reliability of evidence is influenced by its nature and by its source Statement 2: Sufficiency is the measure of the quality of evidence. Statement 3: Appropriateness is the measure of the quality of evidence, that is, its reliability and relevance. a. Only statements 1 and 3 are false. c. Only statement 2 is false. b. Only statements 2 and 3 are true. d. All statements are true. 21. Which of the following criteria is unique to the auditor’s attest function? a. Independence, objectivity and integrity. b. Evaluation of evidence. c. General competence and due professional care d. Familiarity with the particular industry of each client 22. Assurance engagement include which of the following? a. An engagement conducted to provide an absolute level of assurance that the subject matter conforms in all material respects with identified suitable criteria b. An engagement conducted to provide a moderate level of assurance that the subject matter is plausible in the circumstances c. An engagement to prepare a report to collate information in accordance with Philippine Financial Reporting Standards issued by FSRSC as approved by the Board of Accountancy. d. An engagement to determine that a client conforms with certain laws, rules and regulations. 23. Practice of Accountancy shall constitute in a person: Statement 1: A CPA is involved in decision making requiring professional knowledge in the science of accounting, as well as the accounting aspects of finance and taxation or when they represents the employer before government agencies on tax and other matters relating to accounting. Statement 2: A CPA is appointed as a marketing director in a government-owned and controlled corporation, including those performing proprietary functions, where decision-making requires professional knowledge related to appointment. Statement 3: A CPA is involved in teaching of accounting, auditing, management advisory services, accounting aspect of finance, business law, taxation and other technically related subjects. a. Only statements 1 and 3 are true. c. Only statement 3 is false. b. Only statements 2 and 3 are true. d. All statements are true. 24. Who is permitted by law to practice public accountancy? I. A corporation whose shareholders are all CPAs II. A partnership of CPAs III. A solo practitioner IV. A partnership of CPAs, with some non-CPA staff a. I, II and III only b. I,II, IV only c. II, III, and IV only d. I, II, III and IV 25. Statement 1: All registered CPAs whose names appear in the roster of CPAs shall be united and integrated through their membership in a one and only registered and accredited national professional organization of registered and licensed CPAs, which shall be registered with the SEC as a nonprofit corporation and recognized by the Board subject to the approval of the commission. Statement 2: CPAs, firms and partnerships of CPAs engaged in the practice of public accountancy, including partners and staff members thereof, shall register with the Commission and the Board. a. Only statement 1 is true c. Both statements are true b. Only statement 2 is true d. Both statements are false 26. A member of the BOA, at the time of appointment shall possess which of the following? I. Be a natural-born citizen and resident of the Philippines II. Have at least 10 years of work experience in accountancy III. Be a duly registered Certified Public Accountant (CPA) for at least ten years of experience in public practice or commerce and industry. IV. Be of good moral character and not have been convicted of any crimes involving moral turpitude V. Not have any pecuniary interest in any schools, colleges, universities, or institutions that confer academic degrees or offer review classes for the CPA licensure exam. VI. Must be the president or officer of the accredited professional organization of CPA’s. a. I, II, IV and V only c. I, II, III, and IV only b. I,II, IV, and VI only d. I, II, III, IV and V only 27. Statement 1: A meaningful experience shall be considered as satisfactory compliance with the requirements of Section 28 if it is earned in academe/education and shall include teaching for at least three(3) trimesters or two(2) semesters subjects in either financial accounting, business law and tax, auditing problems, auditing theory, financial Page 3| AAP- Campus  management and management services. Provided the accumulated teaching experience on these subjects shall not be less than three (3) school years. Statement 2: A meaningful experience shall be considered as satisfactory compliance with the requirements of Section 28 if it is earned in Public Practice and shall include at least one year as audit assistant and at least two years as auditor in charge of the audit engagement covering full audit functions of significant clients. a. Only statement 1 is true c. Both statements are true b. Only statement 2 is true d. Both statements are false 28. The “CPA Registration Number” shall be engraved in what part of the CPA’s seal? a. Upper portion of the space between the bigger and smaller circle. b. Lower portion of the space between the bigger and smaller circle. c. Left and right portion of the space between the bigger and smaller circle and in the middle of the smaller circle. d. Middle of the smaller circle. 29. The following should be occupied only by a duly registered CPA, except a. Any position in any business or company in the private sector which requires supervising the recording of financial transactions. b. Any position in any business or company in the private sector which requires preparation of financial statements. c. Any position in any business or company in the private sector which requires coordinating with the internal auditors for the audit of financial statements. d. The position of the dean that supervises the BSA program of an educational institution. 30. Are the following CPAs required to comply with the requirements on continuing professional education? a b c d ▪ CPAs in Public Accountancy Yes Yes Yes Yes ▪ CPAs in Commerce and Industry Yes Yes No No ▪ CPAs in Education/Academe Yes Yes Yes No ▪ CPAs in Government Yes No Yes No 31. The following statements relate to RA 9298 and its IRRs Statement 1: According to RA 9298 and its IRRS, a Professional Identification Card bearing the registration number, date of issuance, expiry date, duly signed by the chairperson of the PRC, shall likewise be issued to every registrant renewable every three years. Statement 2: Practice in Education shall constitute in a person when he or she is involved in teaching of accounting, auditing, management advisory services, accounting aspect of finance, business law, taxation and other technically related subjects. a. Only statement 1 is true c. Both statements are true b. Only statement 2 is true d. Both statements are false 32. A CPA whose certificate have been revoked may be reinstated if he has acted in exemplary manner and has not committed any illegal, immoral or dishonorable conduct for a period not less than a. One year c. Five years b. Two years d. The period depends on the seriousness of his offense 33. Which of the following is not one of the specified objectives of the Philippine Accountancy Act of 2004? a. Examination for registration of CPAs b. Promulgation of auditing and accounting standards c. Supervision, control and regulation of accounting practice d. Standardization and regulation of accounting education 34. Which statement is(are) correct regarding CPD requirements? I. CPAs must earn a set number of CPD units over a period of time to maintain their professional status. The required number of units is 120 over three years, with 40 units allocated to specific areas and 80 flexible units. II. CPAs can earn CPD units by attending seminars and lectures to learn about updates in accounting standards, taxation laws, and other technical information. They can also earn CPD units by developing new tools and improving their understanding of professional development and the code of ethics III. To renew a PRC license, CPAs must earn at least 15 CPD units or points through training or learning seminars. The CPD points must be validated by the CPD Accreditation System (CPDAS). IV. A registered professional teaching auditing courses shall be temporarily exempted from CPD requirements upon reaching the age of 65 years old. V. The CPD Council for Accountancy is responsible for delivering seminars and conferences in order to develop and improve the knowledge, skills, and competencies of professional accountants. a. I, II, III and IV only b. I, III and IV only c. I, II and III only d. I, II, III, IV and V 35. The Accountancy Law provided that a CPA certificate may be suspended or revoked on grounds except? a. Immoral or dishonorable conduct. b. Gross negligence or incompetence in the practice of profession. Page 4| AAP- Campus  c. Refusal to accept an audit engagement with a government corporation. d. Conduct discreditable to the accounting profession 36. Below are names of four CPA firms and pertinent facts relating to them. Unless otherwise indicated, the individuals named are CPAs and partners, and there are no other partners. Which firm name and related facts indicate a violation of RA 9298 and its IRR? a. Dee, Lim and Sy, CPAs (Dee died about five years ago; Lim and Sy are continuing the firm). b. Cruz and Reyes, CPAs (The name of V. Valdes, CPA, a third partner, is omitted from the firm name). c. Gomez and Castro, CPAs (Gomez died about three years ago; Castro is continuing the firm as a sole proprietorship). d. P. Reyes and Co., CPAs (The firm has ten other partners who are all CPAs). 37. It is designed, implemented, and operated by a firm to provide reasonable assurance that it complies with the standards and provides an appropriate report in which the public interest is served by the consistent performance of quality engagements. a. continuing professional development. b. compliance with generally accepted reporting standards. c. a system of quality management. d. a system of peer review. 38. Who should take responsibility for the overall quality management on each audit engagement? a. Engagement quality control review c. Engagement partner b. Engagement team d. The (CPA) firm 39. Which of the following is not a quality objective of ISQM 1 in relation to information and communication system? a. The information system identifies, captures, processes and maintains relevant and reliable information that supports the system of quality management, whether from internal or external sources. b. The culture of the firm recognizes and reinforces the responsibility of personnel to exchange information with the firm and with one another. c. It provides evidence of the firm’s commitment to quality and serves as the basis for its compliance with engagement standards, laws, regulations, or relevant ethical requirements. d. Relevant and reliable information is exchanged throughout the firm and with engagement teams. 40. These resources are obtained or developed, implemented, maintained, and used, to enable the operation of the firm’s system of quality management and the performance of engagements. These are typically IT applications, form part of the firm’s IT environment along with supporting IT infrastructure and IT processes and human processes surrounding. a. Technological resources c. Intellectual resources b. Basic resources d. Human resources 41. The objective of quality management mandates that a public accounting firm should establish policies and procedures for professional development that provide reasonable assurance that all entry-level personnel a. Prepare working papers that are standardized in form and content b. Have the knowledge required to enable them to fulfill responsibilities assigned c. Will advance within the organization d. Develop specialties in specific areas of public accounting 42. A process designed to provide an objective evaluation, before the auditor’s report is issued, of the significant judgments the engagement team made and the conclusions they reached in formulating the auditor’s report. a. Peer review b. Management review c. Engagement quality control review d. Concurring review 43. Evaluate the following statements: Statement 1: It may be appropriate for the engagement team, in the context of the firm’s policies or procedures, to consult outside the firm where the firm lacks appropriate internal resources. Statement 2: The engagement team are not allowed to seek for advisory services provided by firms, professional and regulatory bodies or commercial organizations that provide relevant quality control services. a. Only statement 1 is true c. Both statements are true b. Only statement 2 is true d. Both statements are false 44. Information and communication, as a component of ISQM1, pertains to the following, except: a. Obtaining, generating, or using information regarding the system of quality management, and communicating information within the firm and to external parties. b. Information needed to facilitate the appropriate assignment of engagement quality reviewers to engagements. c. Information needed to support the firm’s judgments about the acceptance and continuance of client relationships. Page 5| AAP- Campus  d. Communication of the relevant ethical requirements necessary to ensure that personnel is aware of their responsibilities regarding relevant ethical requirements. 45. The following are the components of ISQM 1, except a. Remediation of Violations and Monitoring b. Relevant ethical requirements c. Governance and Leadership d. Acceptance and Continuance of Client Relationship 46. Not all engagements performed by professional accountants are assurance engagements. Other engagements frequently performed by professional accountants that are not assurance engagements include the following, except a. Agreed-upon procedures. c. Compilation of financial or other information. b. Examination of prospective financial information. d. Management consulting. 47. An audit firm, Amihan & Associates, CPAs is performing an assurance engagement for EcoSolar Inc., a renewable energy company seeking investor funding. EcoSolar asks the firm to endorse its financial projections during investor presentations, aiming to attract more capital. a. Advocacy threat. c. Familiarity threat. b. Self-interest threat. d. Self-review threat. 48. Occurs when, by virtue of a close relationship with an assurance client, its directors, officers or employees, a firm or a member of the assurance team becomes too sympathetic to the client’s interests. a. Advocacy threat. c. Familiarity threat b. Self-interest threat. d. Self-review threat. 49. Examples of circumstances that may create familiarity threat least likely include a. Dealing in, or being a promoter of, share or other securities in an assurance client. b. A member of the assurance team having an immediate family member or close family member who is a director or officer of the assurance client. c. A member of the assurance team having an immediate family member or close family member who, as an employee of the assurance client, is in a position to exert direct and significant influence over the subject matter of the assurance engagement. d. A former partner of the firm being a director, officer of the assurance client or an employee in a position to exert direct and significant influence over the subject matter of the assurance engagement. 50. Intimidation threat a. Occurs when, by virtue of a close relationship with an assurance client, its directors, officers or employees, a firm or a member of the assurance team becomes too sympathetic to the client’s interests. b. Occurs when a member of the assurance team may be deterred from acting objectively and exercising professional skepticism by threats, actual or perceived, from the directors, officers or employees of an assurance client. c. Occurs when a firm, or a member of the assurance team, promotes, or may be perceived to promote, an assurance client’s position or opinion to the point that objectivity may, or may be perceived to be, compromised. d. Is not a threat to independence. 51. Certain corporate finance services may create advocacy or self-review threats; however, safeguards may be available to reduce these threats to an acceptable level. Examples of such services include the following, except a. Providing structuring advice and assisting a client in analyzing the accounting effects of proposed transactions. b. Committing the assurance client to the terms of a transaction or consummating a transaction on behalf of the client. c. Assisting in identifying or introducing a client to possible sources of capital that meet the client specifications or criteria. d. Assisting a client in developing corporate strategies. 52. Which of the following is not likely to create a threat to independence? a. A court or other public authority established fees. b. A firm obtains an assurance engagement at a significantly lower fee level than that charged by the predecessor firm, or quoted by other firms. c. Fees due from an assurance client for professional services remain unpaid for a long time. d. The total fees generated by an assurance client represent a large proportion of a firm’s total fees. 53. A client company has not paid its 2023 audit fees. According to the Code of Professional Conduct, for the auditor to be considered independent with respect to the 2024 audit, the 2023 audit fees must be paid before the a. 2023 field work is started. c. 2023 report is issued. b. 2024 field work is started. d. 2024 report is issued. 54. Fees calculated on a predetermined basis relating to the outcome or result of a transaction or the result of the work performed. a. Retainer fees. c. Per diem fees. Page 6| AAP- Campus  b. Flat sum fees. d. Contingent fees. 55. Which of the following is least likely to create a threat to independence? a. When litigation takes place, or appears likely, between the firm or a member of the assurance team and the assurance client. b. The firm charges a contingent fee to an assurance client. c. The fees generated by the assurance client represent a large proportion of the revenue of an individual partner. d. Accepting gifts or hospitality, the value of which is clearly insignificant, from an assurance client. Antea Bocelli, a Certified Public Accountant (CPA) in the Philippines, is employed by an auditing firm that was engaged to perform an audit of Blue Skies Corporation, a manufacturing company. During her review, Andrea identified multiple unusual entries in the company's revenue, specifically, sales recorded at the end of the fiscal year that lacked supporting documentation. Concerned, Andrea raised the issue with Blue Skies’ CEO, who dismissed her concerns and implied that correcting these entries would negatively impact the company’s financial performance and investor relations. The CEO offered Antea Bocelli a substantial cash bonus if she would overlook these entries and approve the financial statements as they were. Andrea initially hesitated but ultimately chose to comply, approving the statements without adjusting or disclosing the unsupported revenue. By doing so, Andrea knowingly compromised the principles outlined in the Code of Ethics for Professional Accountants in the Philippines, violating her responsibilities to act with integrity, objectivity, and professional behavior. Her actions not only risk legal consequences for herself and her firm but also damage public trust in the accounting profession. 56. Which fundamental ethical principle did Antea Bocelli violate by disregarding the unsupported revenue entries? a. Confidentiality b. Integrity c. Professional Competence and Due Care d. Independence 57. What was the CEO’s incentive for encouraging Antea Bocelli to overlook the unsupported revenue entries? a. To reduce audit costs b. To maintain favorable financial performance c. To comply with regulatory requirements d. To increase Antea’s job satisfaction 58. Which of the following best describes the reason why an independent auditor reports on financial statements? I. A management fraud may exist, and it is more likely to be detected by independent auditors. II. Different interest may exist between the company preparing the statements and the persons using the statements. III. A misstatement of account balances may exist and is generally corrected as the result of the independent auditor’s work. IV. A poorly designed internal control system may be in existence. a. I only b. II only c. II and III only d. I, II and III only e. I, II, III, and IV 59. Which of the following statements describes control risk? a. The risk of a material misstatement occurring in an account, assuming an absence of internal control. b. The risk that an auditor’s procedures will lead to the conclusion that a material error does not exist in an account balance when in fact, such an error does exist. c. The risk that a misstatement that could occur in an account balance or class of transactions and that could be material individually or in the aggregate will not be prevented or detected and corrected on a timely basis by the accounting and internal control system. d. The risk that the auditor gives an inappropriate audit opinion when the financial statements are materially misstated 60. An audit has inherent limitations that affect the auditor’s ability to detect material misstatements. Which of the following is among the factors that result to these inherent limitations? a. Use of testing. b. Inherent limitations of accounting and internal control system. c. Evidence that is basically persuasive rather than conclusive. d. All of the choices properly describe factors that result to inherent limitations of audits. 61. How does the concept of materiality affect the extent of audit procedures? a. Materiality increases the number of transactions the auditor must examine b. Higher materiality levels require more extensive testing c. Lower materiality levels may lead to more detailed testing in specific areas d. Materiality does not impact the extent of audit procedures 62. What is the primary purpose of determining materiality in an audit? Page 7| AAP- Campus  a. To identify errors in financial statements b. To determine the level of audit fees c. To assess the magnitude of misstatements that would affect users’ decisions d. To ensure all financial statement items are 100% accurate CAFamilia Corporation is a large manufacturing company undergoing its annual financial statement audit. As part of planning, the audit team, led by senior auditor Grace, must determine an appropriate level of materiality. The company’s revenue exceeds PHP 1 billion, with assets totaling over PHP 2 billion. Grace considers various factors in setting materiality, such as the financial statement users, the overall risk level, and the industry standards. Grace initially assesses materiality based on a common benchmark, like 5% of profit before tax, which is P50 million. However, she realizes that certain stakeholders, such as investors and creditors, are highly interested in the company’s debt levels, which have recently increased significantly. Due to this concern, she decides to adjust the materiality threshold to focus on areas that would impact the company’s financial stability, such as debt and cash flow accuracy. As the audit progresses, Grace and her team identify a series of misstatements totaling P25 million, below the initial P50 million threshold but significant in relation to the company’s debt. After reviewing these findings, Grace revisits her materiality assessment, ultimately deciding to lower the threshold to capture these items and provide a clearer financial picture. Grace’s approach reflects how setting materiality is not only a quantitative decision but also requires judgment about qualitative factors that could influence financial statement users. 63. Why did Grace decide to adjust the materiality threshold in the audit of CAFamilia Corporation? a. To reduce the amount of work required b. Due to the significance of debt and cash flow information to users c. To align with her previous audits’ materiality levels d. Because no material misstatements were identified 64. What is the primary factor Grace considered when setting initial materiality for CAFamilai Corporation? a. The profitability of the audit firm b. The number of employees in XYZ Corporation c. The relevance of profit before tax as a benchmark d. The management’s recommendations on materiality 65. What does Grace’s decision to lower materiality illustrate about the nature of materiality in auditing? a. Materiality is purely a mathematical calculation b. Materiality should never be adjusted during the audit c. Materiality requires judgment and consideration of qualitative factors d. Materiality is based solely on the company’s net income 66. With respect to errors and fraud, which of the following should be a part of an auditor’s planning in an audit engagement? a. Planning to search for errors or fraud that would have a material effect on the financial statements. b. Planning to discover errors or fraud that are either material or immaterial. c. Planning to discover errors or fraud that have a material effect on the financial statements. d. Planning to consider factors affecting the risk of material misstatements both at the financial statement and the account balance level. 67. Inherent risk is defined as the susceptibility of an account balance or class of transactions to error that could be material assuming that there were no related internal controls. Of the following conditions, which one does not increase inherent risk? a. The client has engaged in a multitude of transactions with related parties throughout the year under audit. b. The internal mechanisms governing the processes of shipping, billing, and the documentation of sales revenue exhibit significant deficiencies. c. The client has lost a major customer accounting for approximately 40% of annual revenue. d. The board of directors sanctioned a significant financial incentive for the president and chief executive officer, in addition to endorsing an attractive share option scheme for their own benefit. 68. After an auditor had been engaged to perform the first audit for a nonpublic entity, the client requested to change the engagement to a review. In which of the following situations would there be a reasonable basis for the auditor to comply with the client’s request? a. The client’s bank required an audit before committing to a loan, but the client subsequently acquired alternative financing. b. The auditor is prohibited by the client from corresponding with the client’s legal counsel. c. Management refuses to sign the client representation letter. d. The audit is substantially complete and the auditor determined that an unqualified opinion is warranted but there is a disagreement concerning the audit fee. 69. An engagement letter is best described as: Page 8| AAP- Campus  a. A letter from company management to the auditors specifying management's expectations for completion of the audit on a timely basis and the fees. b. A letter from the auditors to company management specifying that management is responsible for the financial statements and the auditors will issue an opinion on the financial statements. c. A letter from the auditors to company management that specifies the responsibilities of both the company and the auditors in completing the audit and the timing for its completion. d. A letter from the Board of Directors' audit committee to the auditor that indicates that the auditor has been engaged to perform the audit and the fees to be paid. 70. A conceptual approach to the auditor's evaluation of internal accounting control consists of the following four steps: I. Determine whether the necessary procedures are prescribed and are being followed satisfactorily. II. Evaluate any weakness to determine its effect on the nature, timing, or extent of auditing procedures to be applied and suggestions to be made to the client. III. Consider the types of errors and fraud that could occur. IV. Determine the internal control policies and procedures that should prevent or detect errors and fraud. What should be the logical order in which these four steps are performed? a. III, IV, I, II b. III, I, II, IV c. II, III, I, IV d. II, I, III, IV 71. The development of a general strategy and a detailed approach for the expected nature, timing, and extent of audit refers to : a. Supervision b. Directing c. Audit procedures d. Planning 72. Which of the following would a successor auditor normally perform after acceptance of an audit client? a. Inquiry of predecessor auditor regarding the client. b. Review the SEC filings of the client. c. Inquiry of bankers regarding the client. d. Review of predecessor auditor working papers. Use the information for the next two questions: Badyang Corp., a growing pharmaceutical distributor, is set for its annual audit. The company has expanded into international markets, increased inventory, and made significant investments in R&D. Due to high regulatory scrutiny and complex financial activities, auditors need to carefully plan to identify high-risk areas, assess internal controls, and set materiality thresholds. Additionally, new software was implemented, potentially impacting data accuracy. 73. As part of the understanding of the entity and risk assessment, how should the audit team assess the impact of international operations on Badyanfg Corp.’s financial statements? a. Review only XYZ Corp.’s domestic transactions, as international transactions are immaterial. b. Evaluate foreign currency translation methods, review international tax implications, and ensure compliance with relevant international standards. c. Rely on management’s estimates without further verification, assuming they are accurate. d. Conduct a separate audit for each international subsidiary without integrating results. 74. How should materiality be adjusted given XYZ’s recent growth? a. Keep materiality at the prior year’s level, assuming growth is minimal. b. Increase materiality to reflect higher revenues and assets, considering the growth and expansion. c. Decrease materiality due to increased complexity and regulatory scrutiny, focusing more on potential misstatements. d. Ignore changes in materiality, as growth does not impact audit objectives. 75. Statement 1: Adequate planning of the audit work helps the auditor of accomplishing the following objectives ensuring that appropriate attention is devoted to important areas of the audit, identifying the areas that need a service of an expert and the audit work is completed efficiently. Statement 2: The extent of planning will vary according to any of the following size of the audit client, the nature and complexity of the audit engagement and the assessed level of control risk. Statement 3: A procedure performed by auditor that involves tracing a transaction from its origination through the company's information systems as part of understanding the client environment is referred to as walkthrough. a. Only statement 1 and 2 are correct. c. Only statements 2 and 3 are correct. b. Only 2 statements are correct. d. Only 2 statements are incorrect. ***** end of midterm examination **** “Integrity is doing the right thing, even if no one is watching. An auditors job is to make sure everyone is watching” Page 9| AAP- Campus