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CA Inter Auditing and Ethics study materials
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CA Inter Auditing and Ethics practice questions

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Question 1Nature, Objective and Scope of Audit

What is the primary objective of an audit of an entity's financial statements?

  1. To prepare the financial statements in accordance with the applicable financial reporting framework
  2. To express an opinion on whether the financial statements give a true and fair view Correct answer.
  3. To detect and prevent all frauds and errors committed by employees
  4. To guarantee that every transaction is accurately recorded in the books of account

Explanation

The primary objective of an audit is to enable the auditor to express an opinion on whether the financial statements give a true and fair view. Management is responsible for preparing the financial statements and for preventing and detecting fraud and error. The auditor provides reasonable assurance, not a guarantee that every transaction is correct.

Question 2Nature, Objective and Scope of Audit

An audit conducted to verify whether cost accounts have been maintained in accordance with the cost accounting principles and standards is known as:

  1. Cost audit Correct answer.
  2. Management audit
  3. Tax audit
  4. Statutory audit

Explanation

A cost audit examines the cost accounting records and cost statements to ascertain whether they comply with the cost accounting principles, standards and applicable rules. A statutory audit covers the financial statements, a management audit evaluates managerial efficiency, and a tax audit reports on tax compliance.

Question 3Nature, Objective and Scope of Audit

Which of the following is an inherent limitation of an audit of financial statements?

  1. The auditor's obligation to comply with auditing standards
  2. Reliance on selective testing of transactions Correct answer.
  3. The auditor's independence from management
  4. The auditor's duty to maintain confidentiality

Explanation

An audit does not involve examining every transaction; the auditor relies on selective testing, so some risk that a material misstatement remains undetected always exists. This is why an audit provides reasonable, not absolute, assurance. Independence, confidentiality and compliance with standards are professional duties, not limitations.

Question 4Nature, Objective and Scope of Audit

During the audit of a trading company, management provides a letter confirming that no obsolete inventory exists. The auditor, however, notices that several items have not moved for more than two years. What is the most appropriate application of professional skepticism by the auditor?

  1. Corroborate the representation with other evidence before concluding Correct answer.
  2. Accept the management representation because it is signed by the finance director
  3. Ignore the inventory ageing report because it is an internal document
  4. Conclude immediately that the inventory is obsolete and qualify the audit report

Explanation

Professional skepticism requires the auditor to question management representations and to seek corroboration when evidence is inconsistent. A signed representation is not a substitute for audit evidence, and the ageing report should be investigated rather than ignored. Concluding that inventory is obsolete without further evidence would be premature.

Question 5Nature, Objective and Scope of Audit

Management of a company refuses to allow the auditor to send confirmations to banks and also does not provide bank statements. The possible effect of this limitation is considered material and pervasive. What opinion should the auditor express?

  1. Adverse opinion
  2. Disclaimer of opinion Correct answer.
  3. Qualified opinion
  4. Unmodified opinion with an Emphasis of Matter paragraph

Explanation

When management imposes a limitation on the auditor's work and the auditor cannot obtain sufficient appropriate audit evidence, the opinion is modified. If the possible effects are material and pervasive, a disclaimer of opinion is appropriate. A qualified opinion is used when the effect is material but not pervasive.

Question 6Nature, Objective and Scope of Audit

Which of the following best distinguishes an investigation from an audit?

  1. An investigation targets a specific allegation; an audit is a general financial statement examination Correct answer.
  2. An investigation is always conducted by a statutory auditor
  3. An investigation provides an opinion on the truth and fairness of financial statements
  4. An audit is conducted only when fraud is suspected, whereas an investigation is carried out routinely

Explanation

An audit is a general examination of financial statements to express an opinion on truth and fairness. An investigation is a special-purpose engagement undertaken to establish a specific fact, allegation or state of affairs, often on a suspected fraud or a specific requirement. It is not routine and is not necessarily conducted by the statutory auditor.

Question 7Nature, Objective and Scope of Audit

Which of the following is most appropriately included in an audit engagement letter?

  1. A detailed listing of all customer balances that the auditor will confirm
  2. A guarantee that the auditor will detect every fraud committed during the year
  3. The audit fee quoted by the previous auditor
  4. The objective, scope and respective responsibilities of the auditor and management Correct answer.

Explanation

An audit engagement letter records the agreed terms of the engagement, including the objective and scope of the audit and the respective responsibilities of the auditor and management. It helps avoid misunderstanding between the parties. It is not an audit programme listing balances or a guarantee against fraud.

Question 8Nature, Objective and Scope of Audit

In the context of an audit of financial statements, 'reasonable assurance' means:

  1. A moderate level of assurance sufficient for tax purposes
  2. A high level of assurance that the financial statements are free from material misstatement Correct answer.
  3. Assurance that the auditor has examined every transaction
  4. An absolute guarantee that the financial statements are free from all misstatements, whether material or not

Explanation

Reasonable assurance is a high, though not absolute, level of assurance that the financial statements are free from material misstatement. The auditor obtains sufficient appropriate audit evidence to reduce audit risk to an acceptably low level, but inherent limitations mean absolute assurance is not possible.

Question 9Nature, Objective and Scope of Audit

Under the Companies Act, 2013, the statutory auditor's report on the financial statements of a company is required to state whether the company has adequate internal financial controls with reference to financial statements. This requirement relates to which aspect of the audit?

  1. Reporting responsibilities forming part of the statutory audit scope Correct answer.
  2. A management representation that the auditor need not verify
  3. An internal audit function conducted by the auditor
  4. A matter to be covered only in a tax audit report

Explanation

Section 143(3)(i) of the Companies Act, 2013 requires the statutory auditor to report on whether the company has adequate internal financial controls with reference to financial statements and their operating effectiveness. This is a statutory audit reporting responsibility, not a tax audit matter, a mere representation, or an internal audit function.

Question 10Nature, Objective and Scope of Audit

Which statement best describes the relationship between auditing and accounting?

  1. Auditing and accounting are identical because both require an opinion on truth and fairness
  2. Accounting is a part of auditing and is performed only after the audit report is signed
  3. Auditing is a branch of accounting that prepares financial statements
  4. Auditing is independent of accounting but uses accounting records and financial statements Correct answer.

Explanation

Accounting records transactions and prepares financial statements, while auditing independently examines those statements and expresses an opinion on them. Auditing uses accounting data but is not a branch of accounting. The auditor does not prepare the financial statements, and accounting is not performed after the audit report.

Question 11Nature, Objective and Scope of Audit

Under the Standards on Auditing, an auditor of a company's financial statements is required to maintain professional scepticism. Which of the following best describes this requirement?

  1. Accepting written management representations as sufficient evidence on all matters
  2. Remaining alert to conditions that may indicate misstatement and critically evaluating evidence Correct answer.
  3. Obtaining absolute assurance that the financial statements contain no misstatement
  4. Assuming management is dishonest until each recorded transaction is verified

Explanation

Professional scepticism is an attitude of questioning and alertness required by SA 200. It means the auditor neither presumes management is dishonest nor accepts its representations unquestioningly, and critically assesses all audit evidence. It does not demand absolute assurance or verification of every transaction.

Question 12Nature, Objective and Scope of Audit

During the statutory audit of a company, its managing director asks the auditor to state in the audit report that the company's inventory management system is operating efficiently. What is the auditor's most appropriate course of action?

  1. Include it if the board of directors formally requests the statement in writing
  2. Include the statement after testing the design and operation of inventory controls
  3. Include it on the strength of a management representation about efficiency
  4. Decline, as reporting on operating efficiency is outside the statutory audit's scope Correct answer.

Explanation

A statutory audit under the Companies Act, 2013 is directed at expressing an opinion on whether the financial statements give a true and fair view, not at judging operational efficiency. Reporting on efficiency would be a separate engagement, such as a performance or management audit, with its own agreed terms and report. The statutory audit report cannot be used to convey such a conclusion.

Question 13Audit Strategy, Audit Planning and Audit Programme

Under SA 300, which of the following best describes the overall audit strategy?

  1. It sets the scope, timing and direction of the audit and guides the audit plan. Correct answer.
  2. It is the report issued by the auditor at the conclusion of the audit engagement.
  3. It is a detailed list of audit procedures to be performed for each account balance and disclosure.
  4. It is the engagement letter signed with the client before accepting the audit engagement.

Explanation

SA 300 describes the overall audit strategy as setting the scope, timing and direction of the audit and guiding the development of the audit plan. It is established before the detailed audit plan and is updated as needed. A detailed list of procedures is part of the audit plan, not the strategy.

Question 14Audit Strategy, Audit Planning and Audit Programme

An audit programme is best described as:

  1. A summary of the client's accounting policies, significant accounting estimates and going concern assessment.
  2. A record of the nature, timing and extent of audit procedures to be performed. Correct answer.
  3. The firm's quality control manual describing the firm's system of quality management and engagement acceptance.
  4. A letter from management confirming its responsibility for the financial statements and internal control.

Explanation

An audit programme is a written schedule that sets out the nature, timing and extent of audit procedures to be performed. It links the audit plan to the work actually carried out by the engagement team. It is not a summary of accounting policies, a quality control manual or a management representation letter.

Question 15Audit Strategy, Audit Planning and Audit Programme

Which of the following is an advantage of using a written audit programme?

  1. It guarantees that no material misstatement will remain undetected in the financial statements.
  2. It provides a clear record of work performed and facilitates supervision and review. Correct answer.
  3. It eliminates the need for professional judgement during the audit and guarantees completeness.
  4. It removes the need to document the auditor's risk assessment and planned response.

Explanation

A written audit programme records the procedures planned and performed, which helps the engagement team coordinate work and enables the manager or partner to supervise and review it. It supports, but does not replace, professional judgement and the auditor's risk assessment. It cannot guarantee that all material misstatements will be detected.

Question 16Audit Strategy, Audit Planning and Audit Programme

While establishing the overall audit strategy, the engagement partner determines materiality for the financial statements as a whole. Which of the following is the most appropriate use of this materiality level?

  1. To determine the sample size for every audit procedure without using further professional judgement.
  2. To set the audit fee for the engagement based on the level of materiality determined.
  3. To decide whether to accept the engagement before performing client due diligence.
  4. To evaluate whether the financial statements as a whole are free from material misstatement. Correct answer.

Explanation

Materiality for the financial statements as a whole is used in planning the audit and in evaluating whether uncorrected misstatements, individually or in aggregate, cause the financial statements to be materially misstated. It is not a fee-setting tool, an engagement acceptance test or a mechanical basis for every sample size.

Question 17Audit Strategy, Audit Planning and Audit Programme

An audit manager assigns a new assistant to test revenue transactions. Which action best reflects direction under SA 220?

  1. Reviewing the assistant's working papers after the testing is complete and signing off the audit file.
  2. Informing the assistant of the work's objectives, the risks identified and the procedures to be performed. Correct answer.
  3. Performing the test personally because the assistant is newly recruited and the area is assessed as high risk.
  4. Allowing the assistant to select any sample without guidance because the assistant is qualified.

Explanation

Direction involves informing the engagement team of their responsibilities, the objectives of the work, the identified risks and the planned procedures. Reviewing working papers after the work is done is supervision and review, not direction. Simply letting an assistant choose a sample without guidance, or taking over the work, does not discharge the direction responsibility.

Question 18Audit Strategy, Audit Planning and Audit Programme

During the audit, the auditor identifies a significant risk not previously identified and modifies the audit plan. What is the most appropriate documentation response under SA 300?

  1. No documentation is needed because the audit plan is an internal working document of the engagement team.
  2. Document the change only after the audit report is issued to avoid premature conclusions.
  3. Document only the original plan and ignore the change to avoid confusing the engagement team.
  4. Document the change, the reasons for it and the resulting modifications to the planned audit procedures. Correct answer.

Explanation

SA 300 requires the auditor to document significant changes to the audit plan, the reasons for those changes and the resulting modifications to the planned audit procedures. The audit plan is not frozen at the start of the engagement; it is revised when new risks or evidence emerge. Documentation cannot be deferred until after the report is issued.

Question 19Audit Strategy, Audit Planning and Audit Programme

Which of the following matters is considered in establishing the overall audit strategy under SA 300?

  1. The precise sample size for each class of trade receivable invoices selected for testing.
  2. Reporting objectives, timing of the audit and nature of communications required. Correct answer.
  3. The engagement partner's personal fee target for the client's audit engagement.
  4. The colour of the client's office furniture and the layout of the meeting room.

Explanation

SA 300 identifies the reporting objectives, the timing of the audit and the nature of communications required as matters relevant to the overall audit strategy. Sample sizes for specific classes of transactions belong to the more detailed audit plan. Fee targets and office furniture are not audit strategy matters.

Question 20Audit Strategy, Audit Planning and Audit Programme

The audit plan is more detailed than the overall audit strategy. Which of the following is most likely to be included in the audit plan rather than in the overall audit strategy?

  1. The results of preliminary engagement activities and knowledge of the entity.
  2. The nature, timing and extent of audit procedures to be performed. Correct answer.
  3. The scope of the audit and the financial reporting framework applied.
  4. The reporting objectives and the timing of communications with those charged with governance.

Explanation

The audit plan is more detailed than the overall audit strategy and includes the nature, timing and extent of audit procedures to be performed. The scope, reporting objectives and preliminary engagement results are matters considered when establishing the overall strategy. The plan then operationalises the strategy.

Question 21Audit Strategy, Audit Planning and Audit Programme

Which statement best explains a limitation of an audit programme?

  1. An audit programme is useful only for large audits and is unnecessary for small owner-managed entities.
  2. An audit programme records planned and completed procedures but does not by itself establish that the audit is complete. Correct answer.
  3. An audit programme is prepared once at the start and cannot be revised when audit evidence changes the assessed risks.
  4. An audit programme replaces the need for the auditor to obtain sufficient appropriate audit evidence.

Explanation

An audit programme is a control and recording tool: it shows planned and completed procedures and helps with supervision and review. It does not by itself prove that the audit is complete or that the evidence obtained is sufficient and appropriate. The programme must be revised when the audit reveals new risks or circumstances.

Question 22Audit Strategy, Audit Planning and Audit Programme

A group engagement partner plans to use the work of a component auditor in a significant component. Which action is most consistent with audit planning and SA 600?

  1. Include in the group audit plan the group team's planned involvement with the component auditor and its work. Correct answer.
  2. Exclude the component from the group audit plan because the component auditor is independent and competent.
  3. Instruct the component auditor to apply the group auditor's procedures without any discussion of risks or findings.
  4. Rely on the component auditor's work without evaluating the component auditor's competence and independence.

Explanation

When a component auditor will work on a significant component, the group engagement team coordinates the work through the group audit plan. The plan should address the nature, timing and extent of the group team's involvement with the component auditor and its work, including evaluation of competence, independence and communication. Blind reliance or exclusion of the component from planning is inconsistent with SA 600.

Question 23Audit Strategy, Audit Planning and Audit Programme

Under SA 300, which of the following activities is carried out before the auditor establishes the overall audit strategy and develops the audit plan?

  1. Obtaining written representations from management on the completeness of related party disclosures.
  2. Designing the nature, timing and extent of substantive procedures for each material class of transactions.
  3. Performing client acceptance procedures and evaluating compliance with ethical requirements, including independence. Correct answer.
  4. Determining the planned level of materiality for the financial statements as a whole and for particular classes of transactions.

Explanation

SA 300 requires preliminary engagement activities before the overall audit strategy is established: procedures on continuance of the client relationship and the engagement, evaluation of compliance with ethical requirements including independence, and understanding the terms of the engagement. Materiality and the design of detailed procedures are dealt with later, when the strategy and plan are developed. Written representations are obtained near the end of the audit.

Question 24Audit Strategy, Audit Planning and Audit Programme

According to SA 300, which of the following factors most directly affects the nature and extent of the auditor's planning activities?

  1. The client's internal deadline for issuing the signed audit report.
  2. The size and complexity of the entity and the auditor's experience with it. Correct answer.
  3. The audit fee quoted by the firm for the engagement.
  4. The total number of audit staff employed by the firm across all offices.

Explanation

SA 300 states that the nature and extent of planning activities depend on the size and complexity of the entity, the auditor's experience with the entity, and changes in circumstances during the engagement. Fee quotation, firm-wide staffing levels and client deadlines may influence resourcing or scheduling, but they are not the factors the standard identifies for planning.

Question 25Audit Strategy, Audit Planning and Audit Programme

An audit partner remarks that "planning ends when the audit programme is signed off." Which statement best corrects this view under SA 300?

  1. Planning ends only after the engagement partner has reviewed every working paper supporting the audit opinion.
  2. Planning is a discrete phase that must be completed before substantive testing begins and does not change thereafter.
  3. Planning is continuous and iterative; the strategy and plan are updated as the auditor's understanding develops and conditions change. Correct answer.
  4. Planning ends once the auditor has obtained an understanding of the entity and its internal control.

Explanation

SA 300 describes planning as a continual and iterative process rather than a discrete phase. It often begins shortly after completion of the previous audit and continues as the auditor obtains new information and circumstances change. The overall audit strategy and audit plan are therefore updated as necessary throughout the engagement.

Question 26Audit Strategy, Audit Planning and Audit Programme

An auditor plans to test controls over sales invoicing at an interim date three months before year-end and to roll forward the conclusions to period-end. Which element of the planned further audit procedures does this decision relate to most directly?

  1. Timing of the procedures. Correct answer.
  2. Extent of the procedures.
  3. Nature of the procedures.
  4. Direction of the engagement team.

Explanation

The elements of planned further audit procedures are nature (the type of procedure), timing (when it is performed) and extent (the quantity). Testing at an interim date and rolling forward conclusions is a decision about when procedures are performed, so it concerns timing. Direction is a supervision concept, not an element of the procedures themselves.

Question 27Audit Strategy, Audit Planning and Audit Programme

While executing the audit programme for trade payables, an assistant finds that a planned analytical procedure is ineffective because the client's records are incomplete. What is the most appropriate action under SA 300?

  1. Revise the programme by designing alternative procedures, documenting the change and the reason for it. Correct answer.
  2. Abandon the payables section and disclose a scope limitation in the auditor's report immediately.
  3. Complete the remaining steps of the original programme unchanged to preserve comparability with the prior year.
  4. Refer the matter to the engagement partner only if the payables balance exceeds performance materiality.

Explanation

SA 300 requires the auditor to update and change the overall audit strategy and audit plan as necessary during the audit. When a planned procedure is ineffective, the auditor designs and performs alternative procedures and documents the significant change and the reason for it. Completing ineffective work, or moving straight to a scope limitation, is not an acceptable response.

Question 28Audit Strategy, Audit Planning and Audit Programme

Under SA 300, which of the following matters relating to the engagement team is specifically required to be included in the audit plan?

  1. The scheduled dates for each team member's annual leave during the audit.
  2. The planned nature, timing and extent of direction, supervision and review of the team's work. Correct answer.
  3. The basis on which individual engagement team members were selected from the firm's available staffing pool.
  4. The fee budget allocated to each member of the engagement team for the client's engagement.

Explanation

SA 300 requires the audit plan to address the nature, timing and extent of direction and supervision of engagement team members and review of their work. This connects audit planning with the firm's quality management arrangements and with the engagement performance requirements of SA 220. Staffing logistics and fee budgets are not matters the standard specifies for the audit plan.

Question 29Risk Assessment and Internal Control

Under the audit risk model, which component of audit risk is controlled by the auditor through the nature, timing and extent of audit procedures?

  1. Business risk
  2. Inherent risk
  3. Control risk
  4. Detection risk Correct answer.

Explanation

The model is expressed as audit risk = inherent risk × control risk × detection risk. Inherent risk and control risk reflect the entity's susceptibility to misstatement and the effectiveness of its controls, and the auditor can only assess them. Detection risk is the risk that the auditor's own procedures fail to detect a material misstatement, so it is reduced by more effective procedures, a shift to year-end timing and a larger sample.

Question 30Risk Assessment and Internal Control

Which of the following best describes the control environment component of an entity's internal control?

  1. The governance attitude and actions that set the entity's tone at the top Correct answer.
  2. The system of capturing and communicating financial information
  3. The process of identifying and responding to business risks
  4. The policies and procedures that ensure management directives are carried out

Explanation

The control environment is the set of governance and management attitudes, awareness and actions that establish the tone at the top and form the foundation for the other components of internal control. It includes integrity and ethical values, commitment to competence, board participation, organisational structure and human resource policies. It does not itself consist of specific processing procedures.

Question 31Risk Assessment and Internal Control

Which of the following is a risk assessment procedure that the auditor uses to obtain an understanding of the entity and its environment?

  1. Reperformance of the authorisation control over purchases
  2. Inquiry of management and others within the entity Correct answer.
  3. Vouching a sample of purchases to goods received notes
  4. External confirmation of trade receivables

Explanation

Risk assessment procedures comprise inquiry, analytical procedures, and observation and inspection, and they are performed in every audit to understand the entity, its environment and its internal control. Inquiry alone is not sufficient, so it is combined with analytical procedures and observation or inspection. External confirmation, reperformance and vouching are further procedures used to test controls or detect misstatement.

Question 32Risk Assessment and Internal Control

Authorisation of transactions, segregation of incompatible duties and regular reconciliation of balances are examples of which component of internal control?

  1. Control activities Correct answer.
  2. The risk assessment process
  3. The control environment
  4. The monitoring of controls

Explanation

Control activities are the policies and procedures that help ensure management directives are carried out and that address the risks identified in the risk assessment process. Typical examples are authorisation, segregation of duties, reconciliations, physical controls and information processing controls. They operate at all levels of the entity and in every significant business process.

Question 33Risk Assessment and Internal Control

Which of the following is an example of an IT general control rather than an application control?

  1. Password controls restricting logical access to the accounting application Correct answer.
  2. Validation that the dispatch date is not later than the invoice date
  3. A credit limit check applied to each sales order before it is accepted
  4. Edit checks that reject a sales invoice where the customer code is missing or invalid

Explanation

IT general controls support the overall functioning of the information system and apply across applications: access security, program change management, IT operations and system development. Application controls, by contrast, relate to the processing of individual transactions and data, such as edit checks, credit limit checks and date validations. Access restrictions therefore sit in the general control layer.

Question 34Risk Assessment and Internal Control

The auditor assesses control risk below the maximum and plans to rely on the operating effectiveness of a control over credit approval. What is the auditor required to do?

  1. Perform only substantive analytical procedures at the year end
  2. Rely on the understanding obtained in the previous audit without further testing
  3. Perform tests of controls to obtain evidence about their operating effectiveness Correct answer.
  4. Set detection risk at a high level to reduce substantive work

Explanation

If the auditor intends to rely on controls and assesses control risk below the maximum, the operating effectiveness of those controls must be tested, ordinarily through inquiry combined with inspection, observation or reperformance. Inquiry alone does not provide sufficient evidence. Irrespective of the control risk assessment, substantive procedures remain necessary for each material class of transactions, account balance and disclosure.

Question 35Risk Assessment and Internal Control

Which of the following risks would most likely be assessed by the auditor as a significant risk?

  1. High-volume, system-generated sales invoices for standard products
  2. A complex business combination requiring fair value estimates Correct answer.
  3. Straight-line depreciation of plant calculated by a fixed formula
  4. Routine processing of recurring monthly utility payments

Explanation

A significant risk is a risk of material misstatement that, in the auditor's judgement, requires special audit consideration. Non-routine or complex transactions, significant management judgement and estimates, related party transactions and fraud risks commonly qualify. Routine, high-volume, system-processed transactions are generally treated as ordinary risks.

Question 36Risk Assessment and Internal Control

During risk assessment, the auditor's analytical procedures reveal that the gross margin has fallen from 32% to 18% although product mix and selling prices are unchanged. What is the most appropriate response?

  1. Accept the ratio because analytical procedures are only preliminary
  2. Reduce the extent of substantive testing on inventory
  3. Treat the fall as a misstatement and modify the audit opinion
  4. Inquire of management and corroborate the explanation obtained Correct answer.

Explanation

An unexpected fluctuation identified through risk assessment analytical procedures requires the auditor to inquire of management and then corroborate the response with other audit evidence. The result may be a misstatement, but it may also reflect changed conditions, so a conclusion cannot be drawn from the ratio alone. The matter typically raises the assessed risk and increases, rather than reduces, the extent of substantive work.

Question 37Risk Assessment and Internal Control

The auditor selects one sales order and follows it through order approval, dispatch, invoicing and recording in the ledger, making inquiries and observing the process. This procedure is best described as:

  1. A substantive test of details over the occurrence assertion for sales
  2. A walkthrough to confirm the understanding of the transaction flow Correct answer.
  3. A test of controls designed to measure the rate of deviation in the population
  4. A test of the entity's monitoring of controls over sales

Explanation

A walkthrough traces one or a few transactions through the entire information system, combining inquiry with observation and inspection, to confirm the auditor's understanding of the flow of transactions and to evaluate the design of controls. Because it covers so few items, it does not provide statistical evidence of the rate of deviation in the population. Those results are obtained from tests of controls on a sample.

Question 38Risk Assessment and Internal Control

The auditor identifies a significant deficiency in internal control that has not caused a material misstatement. What is the correct communication requirement?

  1. In writing to those charged with governance, on a timely basis Correct answer.
  2. Orally to the managing director, and only when the matter is raised by management
  3. Only where the deficiency has already caused a material misstatement
  4. In the auditor's report to shareholders as a key audit matter

Explanation

Significant deficiencies in internal control identified during the audit must be communicated in writing to those charged with governance on a timely basis, whether or not they have resulted in a misstatement. The auditor also considers whether to communicate the matter to management at an appropriate level. Internal control deficiencies are not ordinarily reported in the auditor's report on the financial statements.

Question 39Risk Assessment and Internal Control

Which of the following is an inherent limitation of an entity's system of internal control?

  1. Segregation of the duties of recording cash receipts and preparing the bank reconciliation
  2. Use of pre-numbered despatch notes for all goods sent to customers
  3. Monthly reconciliation of the supplier ledger to suppliers' statements
  4. Collusion between employees to conceal a misappropriation Correct answer.

Explanation

Internal control provides only reasonable assurance because controls can be defeated by human error, collusion between employees, management override or cost-benefit constraints. Collusion deliberately hides a transaction from the control system, so even a well-designed control may fail to prevent or detect the resulting misstatement.

Question 40Risk Assessment and Internal Control

In an audit of a company operating through several branches, which of the following is an example of an entity-level control?

  1. A board-approved code of conduct and a confidential whistle-blower hotline Correct answer.
  2. Sequence check applied to numerical series of despatch notes before dispatch
  3. Three-way matching of purchase order, goods receipt note and supplier invoice before payment
  4. Credit limit check performed by the system at the time a sales order is entered

Explanation

Entity-level controls operate across the whole organisation and set the tone for the transaction-level controls. A board-approved code of conduct and a confidential whistle-blower hotline are pervasive controls that influence behaviour throughout the entity, unlike controls applied to a single transaction stream.

Question 41Risk Assessment and Internal Control

Which of the following controls is designed to detect, rather than prevent, a misstatement?

  1. Restricted physical access to the inventory warehouse
  2. Bank reconciliation prepared monthly by the finance manager Correct answer.
  3. Segregation of the duties of cash handling and cash recording
  4. Dual authorisation of payments above a specified threshold

Explanation

Preventive controls stop a misstatement before or as it occurs, whereas detective controls identify it after the event. A bank reconciliation compares independent records after transactions have been processed, so it detects differences rather than preventing them.

Question 42Risk Assessment and Internal Control

The auditor has obtained an understanding of internal control mainly through inquiry of the finance manager. Why must the auditor perform additional procedures?

  1. Responses to inquiry may be biased or incomplete, so corroboration is needed Correct answer.
  2. Inquiry provides evidence only about the operating effectiveness of controls
  3. The Standards on Auditing prohibit the use of inquiry as a risk assessment procedure
  4. Inquiry is reliable only when the finance manager is a qualified accountant

Explanation

Inquiry is a necessary risk assessment procedure but it is not sufficient on its own. Management and staff may be unaware of, or unwilling to disclose, control weaknesses, so the auditor corroborates responses through observation, inspection or reperformance.

Question 43Risk Assessment and Internal Control

A sales director's annual bonus is calculated as a percentage of reported revenue. In the fraud triangle, this condition is best described as:

  1. An opportunity
  2. An incentive or pressure Correct answer.
  3. A concealment
  4. A rationalisation

Explanation

The fraud triangle describes three conditions that together increase the likelihood of fraud: incentive or pressure, opportunity, and rationalisation. A bonus tied to reported revenue creates pressure on the sales director to achieve a target, which is an incentive.

Question 44Risk Assessment and Internal Control

The auditor assesses the risk of material misstatement for the existence of trade receivables as high. Which of the following is the most appropriate response?

  1. Reduce the sample size of confirmations because the risk has already been assessed
  2. Increase the extent of confirmations and perform them closer to the year end Correct answer.
  3. Defer all substantive procedures until the following year's audit
  4. Rely on the client's monthly receivables ageing without further testing

Explanation

When the risk of material misstatement is assessed as high, the auditor increases the persuasiveness of substantive procedures by changing their nature, timing or extent. Performing more confirmations and obtaining them closer to the period end responds directly to an existence risk at the year end.

Question 45Risk Assessment and Internal Control

Inventory consists of commodities whose market price fluctuates significantly, and the entity values inventory at the lower of cost and net realisable value. Which assertion is most directly affected by this condition?

  1. Classification
  2. Rights and obligations
  3. Existence
  4. Valuation and allocation Correct answer.

Explanation

Valuation and allocation addresses whether assets are recorded at appropriate carrying amounts, including the lower of cost and net realisable value. Volatile commodity prices directly affect the measurement of inventory, whereas existence, rights and classification address different assertions.

Question 46Risk Assessment and Internal Control

When obtaining an understanding of the entity's information system relevant to financial reporting, the auditor is most likely to consider:

  1. Classes of transactions significant to the financial statements Correct answer.
  2. The marketing strategy for launching a new product line
  3. The remuneration policy for senior production staff and directors
  4. Procedures for recruiting temporary warehouse staff

Explanation

The information system relevant to financial reporting includes the classes of transactions that are significant to the financial statements, the procedures by which transactions are initiated, recorded, processed and reported, and the related accounting records. Marketing, remuneration and recruitment policies are business matters that do not directly describe that system.

Question 47Risk Assessment and Internal Control

The auditor identifies a significant risk of material misstatement at the assertion level relating to a complex revenue arrangement. Which of the following is required by the Standards on Auditing?

  1. Rely exclusively on substantive analytical procedures at the planning stage
  2. Obtain written representations from the engagement partner that the risk is insignificant
  3. Understand the controls relevant to the risk and the entity's response to it Correct answer.
  4. Reduce the assessed risk once the entity confirms that its controls are well designed

Explanation

For a significant risk, the auditor is required to obtain an understanding of the entity's controls, including the entity's response to the risk, because the design of those controls affects the audit response. The auditor cannot reduce the assessed risk merely because management asserts that its controls are well designed.

Question 48Risk Assessment and Internal Control

Which statement about the presumed risk of material misstatement due to fraud in revenue recognition is correct?

  1. A fraud risk in revenue recognition is presumed and its revenue types are evaluated Correct answer.
  2. The presumption may be ignored if management provides a written representation
  3. The presumption is rebutted automatically when the entity uses approved accounting software
  4. The presumption applies only when revenue exceeds a materiality threshold set by the auditor

Explanation

Standards on Auditing require the auditor to presume a risk of material misstatement due to fraud in revenue recognition and to evaluate which types of revenue transactions give rise to that risk. The presumption can be rebutted only with documented evidence, not by management representation or software use alone.

Question 49Audit Evidence

In the context of SA 500, which statement best describes the relationship between the sufficiency and appropriateness of audit evidence?

  1. Appropriateness refers only to the quantity needed to reduce audit risk to zero.
  2. Sufficiency relates to quantity; appropriateness relates to quality and relevance. Correct answer.
  3. Sufficiency and appropriateness are identical and are used interchangeably.
  4. Sufficiency relates to quality; appropriateness relates to quantity obtained.

Explanation

SA 500 describes sufficiency as the measure of the quantity of audit evidence and appropriateness as the measure of its quality, that is, relevance and reliability. More evidence of poor quality does not cure a deficiency in appropriateness. The auditor therefore evaluates both dimensions together when concluding whether evidence is sufficient and appropriate.

Question 50Audit Evidence

Which of the following sources of audit evidence is ordinarily the most reliable under SA 500?

  1. A bank confirmation received directly by the auditor from the bank Correct answer.
  2. Oral representations from the entity's marketing manager about sales orders
  3. An internal memorandum describing the entity's credit approval process
  4. Photocopies of invoices prepared by the entity's accounts payable clerk

Explanation

SA 500 ranks evidence obtained directly by the auditor from an independent external source more highly than evidence generated internally by the entity. A bank confirmation is external, documentary and obtained directly by the auditor. Internal memoranda, photocopies and oral representations are generally less reliable.