AUDITING THEORY

October 1989
1.

In performing an audit, a CPA does not warrant that he :

a. Possesses the degree of skill commonly possessed
by others in the profession.
b. Will perform the audit with reasonable diligence and
without fault or error.
c. Will adopt an attitude of professional skepticism.
d. Will adhere to identifiable professional obligations.

2.

Which of the following generally accepted auditing

standards involves the formulation of an ''audit
strategy''?
a. The third general standard.
b. The first standard of field work.
c. The third standard of field work.
d. The fourth standard of reporting.

3.

Which of the following is proper when a change of

auditors has taken place or is in process?
a. The predecessor auditor should advise the client of
his intention to contact the successor auditor and
request permission for the contact.
b. The integrity of management should not be the
subject of communication between the predecessor
and successor auditors.
c. The successor auditor should not seek permission to
make reference to the work of the predecessor
auditor as a basis, in part, of his own opinion.
d. Communication between the predecessor and
successor auditors should take place only after the
successor auditor has accepted the engagement.

4.

Assuming a recurring audit, in which of the following

situations would the auditor be unlikely to send a new
engagement letter to the client?
a. A recent change in partner and/or staff involved in
the audit engagement.

b. A change in the terms of the engagement.

c. A recent change of client management.
d. A significant change in the nature or size of the
client's business.
5.

To be independent, the auditor must be intellectually

honest; to be recognized as independent he must :
a. Guard against the presumption of loss of
independence.
b. Be independent in fact.
c. Maintain the impartiality necessary for the
dependability of his findings.
d. Act with integrity and objectivity.

6.

An
a.
b.
c.
d.

7.

effective system of internal control :

Cannot be circumvented by management.
Can reduce the cost of an external audit.
Can prevent collusion among employees.
Eliminates risk and potential loss
organization.

to

the

Which of the following is a violation of the code of

professional ethics for certified public accountants?
a. A CPA permits his/her name to be used in a client's
advertising as having verified financial data and/or
statistical facts with respect to the client's product.
b. Based on information obtained in an audit, a CPA
reports an illegal act of his client to government
authorities.
c. Three years after a partner has retired, the
remaining partners continue to practice under a firm
name that includes the name of the retired partner.
The retired partner has severed all connections with
the CPA firm.
d. A CPA running for public office uses the professional
designation ''CPA'' after his name on posters
employed in connection with his election campaign.

8.

Liwie, a CPA in public practice, makes an offer of

employment to Manny, an employee of the CPA firm DJ
& Associates. DJ did not know about the offer. Such a
practice is not a violation of the code of professional
ethics if :
a. Manny's acceptance of the offer is subject to the
approval of DJ.
b. Manny is not a CPA.
c. Liwie's offer was made in response to an unsolicited
application letter from Manny.
d. The offer is made on behalf of Liwie's audit client.

9.

X is the partner in charge of the independent audit of

Jona Co. Which of the following separate circumstances
would be least likely to impair X's independence?
a. X who is also an attorney, provides legal service to
Jona Co.
b. Jona Co. leases office space in a building owned by
X.
c. A partner in X's CPA firm has an immaterial stock
investment in Jona Co.
d. Both X and Jona Co. have minor investments in Avon
Co., a publicity held corporation.

10.

In planning an examination, the auditor would consider

all of the following matters, except :
a. Anticipated reliance on internal controls.
b. Preliminary judgment about materiality levels for
audit purposes.
c. Financial statement items likely to require
adjustment.
d. The kind of opinion (unqualified, qualified,
disclaimer, or adverse), likely to be given.

11.

Audit programs may be either predetermined or

progressive. All of the following are advantages of a
predetermined audit program, except :
a. It places responsibility for each audit procedure.
b. It encourages independent, constructive thinking.

c. It results in proper audit routine and saves time.

d. It assures adherence to auditing standards and the
application of generally accepted accounting
principles.
12.

13.

14.

In reviewing and evaluating internal controls over

marketable securities, the auditor would be specially
concerned about :
a. Recording of stock investments by the controller.
b. Approval of stock investment purchases by the
Board of Directors.
c. Access to stock certificates by the corporate
treasurer.
d. Access to stock certificates by the corporate
controller.
he president of JJ Company did not disclose to its board
of directors that he is a principal stockholder of AA
Company. The president compelled JJ Company's
purchasing agent to purchase supplies from AA
Company at prices in excess of typical prices for such
supplies. Which question, if answered ''No'' would have
been most likely to disclose the internal control
weakness that permitted this incident to occur or to
remain undetected?
a. Are formal written purchase orders requested for all
significant purchases?
b. Does the accounting department match vendors'
invoices with purchase orders?
c. Are vendors selected on the basis of competitive
bids?
d. Are purchase requisitions used to originate
purchasing activity?
Of the following statements about an internal control
system, which one is not valid?
a. No one person should be responsible for the
custodial
responsibility
and
the
recording
responsibility for an asset.

b. To prevent duplicate payment, vendors' invoices

should be cancelled by means of a "Paid" stamp or
perforation prior to approval.
c. Because of the cost/benefit relationship, a client
may apply control procedures on a test basis.
d. An employee has incompatible duties if the person
is in a position to perpetuate and conceal errors or
irregularities in the normal course of performing his
or her duties.
15.

Assertions are representations by management that

are embodied in financial statements. Which of the
following is not a management assertion?
a. Obligations classified as long-term liabilities in the
balance sheet will not mature within one year.
b. Properly is recorded at historical cost and such cost
is
systematically
allocated
to
appropriate
accounting period.
c. Finished goods inventory in the balance sheet are
available for sale.
d. Net income reflects the earning power of the
enterprise.

16.

What management assertion is violated if the client's

balance sheet includes equipment that was leased
under an operating lease?
a. Existence or occurrence.
b. Completeness.
c. Rights and obligations.
d. Presentation and disclosure.

17.

The reliability of audit evidence is influenced by all of

the following factors, except :
a. Independence of the source.
b. System of internal control.
c. Objectivity of the evidence.
d. Relevance of the evidence.

18.

Which of the following is the least competent audit

evidence?
a. Minutes of the Board of Directors meeting to
determine value of properly received in a relatedparty transaction.
b. Cost allocation schedule prepared by client's
controller to verify pricing of finished goods
inventory.
c. Duplicate sales invoices to support entries in sales
journal.
d. Legal letter requested by auditor from client's legal
counsel to determine status of pending lawsuit.

19.

Working papers serve mainly to provide the principal

support for the auditor's report and :
a. As a line of defense when audit findings are
questioned.
b. Provide information for the preparation of tax
returns and other requirements of various
government agencies.
c. Aid the auditor in the conduct and supervision of the
examination.
d. As a guide in future engagements for the same
auditee?

20.

Which of the following is not an audit technique?

a. Calculation or recomputation.
b. Valuation or allocation.
c. Comparison.
d. Analysis.

21.

The term ''audit risk'' refers to the risk :

a. Of legal exposure and related costs should the
auditor be charged with negligence in conducting an
audit.
b. That the auditor may unknowingly fail to
appropriately modify his opinion on financial
statements that are materially misstated.

c. That errors or irregularities may cause financial

statements not be fairly presented.
d. That the auditor may fail to anticipate all
circumstances which will influence his judgment in
evaluating the audit findings upon completion of the
audit.
22.

The auditor is least likely to presume that a high risk of

error or irregularity exist if :
a. There are frequent changes of auditors.
b. The entity is heavily dependent on a few products.
c. The accounting department is overstaffed.
d. There are unusual transactions near the year end.

23.

The auditor should be aware of conditions that may

motivate related-party transactions. Which of the
following is not one of these conditions?
a. Lack of sufficient working capital to continue the
business.
b. Inadequate capacity.
c. An overly optimistic earnings forecast.
d. Significant litigation, especially litigation between
stockholders and management.

24.

You are examining a firm's December 31 financial

statements. Which of the following procedures is most
likely to reveal unrecorded liabilities?
a. Comparison of December purchases with December
cash disbursements.
b. Comparison of January cash disbursements with
December 31 accounts payable.
c. Comparison of January purchases with December
cash disbursements.
d. Comparison of December cash disbursement with
December 31 accounts payable.

25.

A ''proof of cash'' is used by an auditor to :

a. Prove the correctness of the cash balance in the
client's year end balance sheet.

b. Prove that the client's bank did not make an error

during the period under examination.
c. Comply with generally accepted standards.
d. Determine if there were any unauthorized
disbursements or unrecorded deposits during the
reconciliation period.
26.

Which of the following is the best procedure for

identifying shortages of specific items in an inventory
of raw materials?
a. Review internal controls for the physical protection
of inventories.
b. Compare the results of a physical inventory of raw
materials with perpetual inventory records.
c. Compare inventory turnover rates with prevailing
rates from previous years.
d. Estimate inventory quantities by using the gross
profit method.

27.

In the audit of inventories, the auditor traced test

counts recorded during the physical inventory
observation to the inventory listing and counted for all
inventory tags and count sheets used in recording the
physical inventory counts. These procedures are
preliminary intended to verify which of the following
management assertions?
a. Existence or occurrence.
b. Completeness.
c. Rights and obligations.
d. Correlation.

28.

A CPA analyses the accrued interest payable account

for the year, recomputes the amounts of payments and
beginning and ending balances and reconciles to the
interest-expense account. Which error or questionable
practice below has the best chance of being detected
by this specific audit procedure?

a. A note payable had not been recorded. Interest of

P300 on the note was properly paid and charged to
the interest-expense account.
b. There was a violation of a term in the client's loan
agreement prohibiting dividends on common stock
unless net income available for interest and
dividends is at least three times interest
requirements.
c. Interest paid on an open account was charged to
the purchases account.
d. Interest revenues of P120 on a note receivable was
credited against miscellaneous expenses.
29.

An essential phase of the audit of the cash balance at

the end of the year is the auditor's review of a cutoff
bank statement. This specific procedure is not useful in
determining if :
a. Lapping has occurred.
b. Kiting has occurred.
c. The cash receipts journal was held open.
d. Disbursements per the bank statement can be
reconciled with total checks written.

30.

The auditor would not expect the client to debit

retained earnings for which of the following
transactions?
a. A 4-for-1 stock split.
b. A 1-for-10 stock dividend.
c. ''Loss'' resulting from disposition of treasury shares.
d. Correction of error affecting prior years' earnings.

31.

Word-of-Joy, Inc. publishes a monthly magazine that

had 9,000 subscribers on January 1, 1989. The number
of subscribers increased uniformly throughout the year
and on December 31, 1989, there were 10,800
subscribers. The annual subscription price was P25 on
January 1,1989. This was increased by P3 for new
members on May 1,1989. An auditor would expect that

the receipts from subscriptions for the year ended

December 31,1989 would be approximately :
a. P237, 600.
b. P295, 400.
c. P291, 600.
d. P295, 650.
32.

Which of the following phrases is found in the standard

audit report prescribed in Statement No. 5 of the
Auditing Standards and Practices Council?
a. In connection therewith, we examined or tested the
accounting records.
b. . . . . . have reviewed the system of internal
control . . .
c. . . . . . . to the extent we deemed appropriate in the
circumstances . . . . .
d. . . . . . . . . . . . . . . . the financial statements referred
to above . .

33.

Under which of the following circumstances would an

auditor not be required to depart from the wording of
the standard audit report form?
a. The client does not want to prepare a statement of
changes in financial position.
b. The client did not allow the CPA to review the
minutes of stockholders' meetings.
c. The client did not allow the confirmation of
receivables; the CPA applied alternative auditing
procedures and was satisfied as to the receivables.
d. The client does not want to disclose damage to
enterprise property caused by fire which took place
after the balance sheet date.

34.

An auditor's report should not be designated as a

''special report'' if it is issued in connection with the
financial statements or reports prepared :
a. To show the effects of contemplated transactions on
the entity's financial position and operating results.

b. For limited purposes, such as a report that relates

only to certain aspects of financial statements.
c. In accordance with requirements of a governmental
regulatory
agency
such
as
the
Insurance
Commission.
d. For a not-for-profit organization which follows
accounting practices differing in some respects from
those followed by enterprises organized for profit.
35.

Which of the changes listed below would cause the

independent auditor's report to be worded as follows :
. . . . . . applied on a basis consistent with that of the
preceding year after giving retroactive effect to the
change with which we concur x x x x as described in
Note X to the financial statements . . . . .
a. Change from accrual to cash basis of accounting.
b. Change
from
accelerated
to
straight-line
depreciation method.
c. Change in the method of accounting contracts.
d. Change in classification of an item current to
concurrent.

36.

The phrase ''present fairly . . . . in conformity with

generally accepted accounting principles'' appears in
the standard audit report. Unless modified, this phrase
implies that all of the following conditions have been
met, except :
a. The accounting principles selected and applied have
all been promulgated by the Accounting Standards
Council.
b. The financial statements are informative on matters
that may affect their use, understanding, and
interpretation.
c. The information presented in financial statements is
classified and summarized in a reasonable manner.
d. Comparability of financial statements between
periods have not been materially affected by
changes in accounting principles.

37.

A Corporation whose securities are not traded in

securities exchanges or over-the-counter markets is not
required under GAAP to disclosed :
a. Unused letters of credit.
b. Guarantees of the indebtedness of stockholders.
c. Commitments to restrict dividends.
d. Earnings per share.

38.

The computer is sometimes blamed for making errors.

In reality, computers make very few mechanical errors.
The most likely source of errors in a fully operational
computer-based system is due to :
a. Systems analysis.
b. Programming.
c. Input.
d. Processing.

39.

Which of the following tasks could not be performed

when using a generalized audit software package?
a. Selecting inventory items for observations.
b. Physical count of inventories.
c. Comparison of inventory test counts with perpetual
records.
d. Summarizing inventory turnover statistics for
obsolescence analysis.

40.

The statistical sample drawn from a population of

invoices indicates a mean value of P150 and sampling
precision of + P30 of at a 95% confidence level. What is
the correct interpretation of this sample data?
a. In repeated sampling, the point estimate of the true
population mean will be P150 about 95% of the
time.
b. In repeated sampling, the true population mean will
fall in the precision range of P120 to P180 about
95% of the time.
c. There is a 95% probability that the true population
mean falls in the range of P135 to P165.

d. There is a 95% probability that the true population

mean is P150.
41.

The auditor expects a very small error rate, but is

looking for evidence of a very critical characteristic that
might indicate more widespread errors. Which of the
following sampling methods should he use?
a. Attribute sampling.
b. Variable sampling.
c. Stop-or go sampling.
d. Discovery sampling.

42.

A government auditor evaluates a disbursement to

determine if it is necessary, excessive or extravagant in
accordance with existing rules and regulations. What
kind of audit is he conducting?

a.
b.
c.
d.
43.

Compliance Audit
Yes
No
Yes
No

Economy Audit
No
Yes
Yes
No

The following statements relate to audit certificates

issued by auditors of government agencies. Which
statement is not true?
a. The certificate is addressed to the head of the
agency, not to the Commission on Audit.
b. The authority on which the audit is based is
described in the scope paragraph.
c. The opinion paragraph contains an assertion that
the auditor was guided by applicable laws, rules,
and regulations in the expression of his opinion.
d. The opinion paragraph contains an assertion that
the auditor was guided by generally accepted state
accounting principles in the expression in his
opinion.

44.

The preliminary reason for establishing an internal

auditing function in an organization is to :
a. Assist members of the organization in the effective
discharge of their responsibilities.
b. Ensure adherence to the policies, plans, and
procedures prescribed by management.
c. Ensure the accuracy, reliability, and timeliness of
financial and operating data used as a basis for
management decision-making.
d. Safeguard assets of the organization and ensure
that they are employed economically and efficiently.

45.

The following statements relate to the Revised

Accountancy Law (PD 492). Which statement is true?
a. The Professional Regulation Commission has the
authority to remove any member of the Board of
Accountancy for negligence, incompetence, or any
other just cause.
b. Insanity is not a ground for proceeding against a
CPA.
c. A person shall be considered to be in the
professional practice of accounting if, as an officer
in a private enterprise, he makes decisions requiring
professional accounting knowledge even if his
position does not require that the holder should be a
CPA.
d. After two years, subject to certain conditions, the
Board of Accountancy may order the reinstatement
of a CPA whose certificate of registration has been
revoked.

46.
47.
48.
49.