Test bank auditing and assurance principles ch02 defining professional responsibility quality standards and ethics

Chapter Defining Professional Responsibility Defining Professional Responsibility: Quality Standards and Ethics MULTIPLE CHOICE: Which of the following did not result at least partially due to the alleged audit failures of the 1980s and 1990s? a b c d The Treadway Report An SAS further defining the auditor’s responsibility for fraud detection Formation of the AICPA Fraud Commission Formation of the Independence Standards Board ANSWER: Competence as a certified public accountant includes all of the following except a Having the technical qualifications to perform an engagement b Possessing the ability to supervise and evaluate the quality of staff work c Warranting the infallibility of the work performed d Consulting others if additional technical information is needed ANSWER: C Which of the following is mandatory if the auditor is to comply with generally accepted auditing standards? a Possession by the auditor of adequate technical training b Use of analytical review on audit engagements c Use of statistical sampling whenever feasible on an audit engagement d Confirmation by the auditor of material accounts receivable balances ANSWER: C A As a guidance for measuring the quality of the performance of an auditor, the auditor should refer to a Statements of the Financial Accounting Standards Board b Generally Accepted Auditing Standards c Interpretations of the Statements on Auditing Standards d Statements on Quality Control Standards 10 Chapter Defining Professional Responsibility ANSWER: In addition to auditing, CPAs perform other services for their clients Standards governing the quality of these services are covered in the attestation standards generally, and performance requirements are more explicitly defined in sets of statements relating to each type of service Which of the following is not such a set? a Statements on Standards for Consulting Services b Statements on Responsibilities in University Audits c Statements on Standards for Accounting and Review Services d Statements on Responsibilities in Tax Practice ANSWER: B Which of the following is a violation of Rule 301 (Confidential Client Information) of the Code of Professional Conduct? a The CPA, in response to a court subpoena, submits auditor-prepared workpapers as evidence of possible illegal acts perpetrated by the client b The CPA discloses to the board of directors a scheme concocted by top management to intentionally inflate earnings c The CPA warns Client B as to the inadvisability of acquiring Client A The CPA bases this warning on knowledge of Client A's financial condition and a belief that the management of Client A lacks integrity This knowledge was obtained by the CPA as a result of auditing Client A during the past several years d The CPA, when questioned in court, admits to knowledge of certain illegal acts perpetrated by the client ANSWER: B C Which of the following statements best describes why the CPA profession has deemed it essential to promulgate ethical standards and to establish means for ensuring their observance? a A requirement for a profession is the establishment of ethical standards that stress primarily a responsibility to clients and colleagues b A requirement of most state laws calls for the profession to establish a code of ethics c An essential means of self-protection for the Chapter Defining Professional Responsibility d profession is the establishment of flexible ethical standards by the profession A distinguishing mark of a profession is its acceptance of responsibility to the public ANSWER: 11 D Which of the following best describes what is meant by generally accepted auditing standards? a Audit objectives generally determined on audit engagements b Acts to be performed by the auditor c Measures of the quality of the auditor's performance d Procedures to be used to gather evidence to support financial statements ANSWER: C Which of the following best describes what is meant by generally accepted auditing standards? a Pronouncements issued by the Auditing Standards Board b Procedures to be used to gather evidence to support financial statements c Rules acknowledged by the accounting profession because of their universal compliance d Measures of the quality of the auditor's performance ANSWER: 10 D Under which of the following circumstances may a CPA agree with a departure from an accounting principle promulgated by that body designated by AICPA Council to formulate such principles? a When the principle was one formulated by the Accounting Principles Board inasmuch as the APB is no longer the body so designated by Council b When the CPA can demonstrate that application of the principle in question would make the financial statements materially misleading c When the disputed principle is contrary to industry practice d When adoption of the principle would cause the financial statements to be inconsistent with prior years ANSWER: B 12 Chapter Defining Professional Responsibility 11 Pursuant to the AICPA rules of conduct, the auditor's responsibility to the profession is defined by a The AICPA Code of Professional Conduct b Federal laws governing licensed professionals who are involved in interstate commerce c Statements on Auditing Standards d The Bylaws of the AICPA ANSWER: 12 An auditor who accepts an audit engagement and does not possess the industry expertise of the business entity, should a Engage financial experts familiar with the nature of the business entity b Obtain a knowledge of matters that relate to the nature of the entity's business c Refer a substantial portion of the audit to another CPA who will act as the principal auditor d First inform management that an unqualified opinion cannot be issued ANSWER: 13 B Which of the following factors is most important concerning an auditor's responsibility to detect errors and fraud? a The susceptibility of the accounting records to intentional manipulations, alterations, and the misapplication of accounting principles b The probability that unreasonable accounting estimates result from unintentional bias or intentional attempts to misstate the financial statements c The possibility that management fraud, defalcations, and misappropriation of assets may indicate the existence of illegal acts d The risk that mistakes, falsifications, and omissions may cause the financial statements to contain material misstatements ANSWER: 14 A D The standard of due audit care requires the auditor to a Apply judgment in a conscientious manner, carefully weighing the relevant factors before reaching a decision Chapter Defining Professional Responsibility b c d Ensure that the financial statements are free from error Make perfect judgment decisions in all cases Possess skills clearly above the average for the profession ANSWER: 15 A The exercise of due professional care requires that an auditor a Examine all available corroborating evidence b Critically review the judgment exercised at every level of supervision c Reduce control risk below the maximum d Attain the proper balance of professional experience and formal education ANSWER: 16 13 B A CPA who has never audited a commercial bank a May not accept such an engagement b May accept the engagement only if the accounting firm specializes in the audit of commercial banks c May accept the engagement after attaining a suitable level of understanding of the transactions and accounting practices unique to commercial banking d May accept the engagement because training as a CPA transcends unique industry characteristics ANSWER: C 17 The first general standard requires that a person or persons have adequate technical training and proficiency as an auditor This standard is met by a An understanding of the field of business and finance b Education and experience in the field of auditing c Continuing professional education d A thorough knowledge of the Statements on Auditing Standards ANSWER: B 18 The first general standard recognizes that regardless of how capable an individual may be in other fields, the individual cannot meet the requirements of the auditing standards without the proper a Business and finance courses 14 Chapter Defining Professional Responsibility b c d Quality control and peer review Education and experience in auditing Supervision and review skills ANSWER: 19 C In determining estimates of fees, an auditor may take into account each of the following, except the a Value of the service to the client b Degree of responsibility assumed by undertaking the engagement c Skills required to perform the service d Attainment of specific findings ANSWER: D 20 A CPA, while performing an audit, strives to achieve independence in appearance in order to a Reduce risk and liability b Comply with the generally accepted standards of field work c Become independent in fact d Maintain public confidence in the profession ANSWER: D 21 Which of the following best describes why publicly traded corporations follow the practice of having the outside auditor appointed by the board of directors or elected by the stockholders? a To comply with the regulations of the Financial Accounting Standards Board b To emphasize auditor independence from the management of the corporation c To encourage a policy of rotation of the independent auditors d To provide the corporate owners with an opportunity to voice their opinion concerning the quality of the auditing firm selected by the directors ANSWER: B 22 Which of the following is not required by the generally accepted auditing standard that states that due professional care is to be exercised in the performance of the examination? Chapter Defining Professional Responsibility a b c d Observance of the standards of field work and reporting Critical review of the audit work performed at every level of supervision Degree of skill commonly possessed by others in the profession Responsibility for losses because of errors of judgment ANSWER: 23 15 D The third general standard states that due care is to be exercised in the performance of the examination This standard means that a CPA who undertakes an engagement assumes a duty to perform each audit a As a professional possessing the degree of skill commonly possessed by others in the field b In conformity with generally accepted accounting principles c With reasonable diligence and without fault or error d To the satisfaction of governmental agencies and investors who rely upon the audit ANSWER: A COMPLETION: 24 Client “outsourcing” of certain accounting functions, such as internal auditing, to the national accounting firms may cause financial statement users to question _ _ ANSWER: AUDITOR INDEPENDENCE (OR INDEPENDENCE OF THE AUDITOR) 25 Through the , the AICPA has provided a framework for defining the acceptable quality of independent audits and other services rendered by CPAs ANSWER: 26 CODE OF PROFESSIONAL CONDUCT Proper study and evaluation of internal accounting control is needed because virtually all independent audits are ANSWER: TEST BASED 16 27 Chapter Defining Professional Responsibility The generally accepted auditing standards, as promulgated by the American Institute of Certified Public Accountants, define the of independent auditing ANSWER: 28 QUALITY The general standards relate to the of the auditor ANSWER: and CHARACTER, COMPETENCE 29 The field work standards are concerned with the process ANSWER: 30 AUDIT The reporting standards relate to the ANSWER: function ATTEST MATCHING: 31 Match each of the following actions with the Code of Conduct rule violated by the action No rule is used more than once Briefly explain why the action is a violation of the rule cited a b c d e f g h i j k Rule Rule Rule Rule Rule Rule Rule Rule Rule Rule Rule 101: 102: 201: 202: 203: 301: 302: 501: 502: 503: 505: Independence Integrity and objectivity General standards Compliance with standards Accounting principles Confidential client information Contingent fees Acts discreditable Advertising and other forms of solicitation Commissions and referral fees Form of practice and name Juanita Garcia, CPA, refused to be associated with a client’s financial statements after the client declined to correct a material misstatement Garcia later contacted James Jordan, CPA, retained by the client to replace Garcia, and informed Jordan of the misstatement Brianna Lopez, CPA, agreed to review loan Chapter Defining Professional Responsibility 17 applications for First Charter Bank, an audit client The bank granted or denied the loans on the basis of Lopez’ recommendations In defense of a lawsuit alleging negligence, Melissa Franklin, CPA, explained that she was not an expert in commodities trading and therefore did not detect the accounting fraud perpetrated by her client, a commodities broker Rudy Boesch, CPA, accepted an audit engagement for a fixed fee of $27,000 plus 1% of audited net assets In reviewing the corporate tax return for Eager Turnstiles, Inc., Abba Shah, CPA, discovered that Eager’s controller had incorrectly reported a $500,000 purchase of painting equipment as repairs expense When Shah informed the controller of the tax code violation, she refused to correct the return Shah signed the return as preparer Ben Williams, CPA, issued an unqualified opinion on a set of financial statements, even though he felt uncomfortable about an accounting practice applied by the client Although the practice in question was in accordance with GAAP, it increased net income significantly above a level that Williams considered reasonable Jones Transfer Company wishes to defer charging certain research and development expenditures to current income on the basis that the expenditures are virtually certain to benefit future operations For this reason, Jack Risher, CPA and Jones’ auditor, agrees with the proposed accounting treatment SOLUTION: f: This is a violation of client confidence Had Garcia been contacted by Jordan, with her former client’s permission, she could have informed Jordan of the disagreement a: The independence rule prohibits a member from being associated with an audit client in any capacity equivalent to that of a member of management 18 Chapter Defining Professional Responsibility c: g: d: b: e: Making loan recommendations casts Lopez in that capacity Rule 201 (A) Permits a member to undertake only those engagements that the member or the member’s firm can complete with professional competence Before accepting this engagement, therefore, Franklin should have received training in commodities trading and related accounting practices A member is not permitted to perform an attest engagement on a contingent fee basis In this case, the higher the audited net income, the higher will be the audited net assets, and the higher will be the audit fee Such arrangements impair auditor objectivity Rule 202 requires members to comply with all of the standards governing the practice of public accounting as set by those AICPA bodies responsible for promulgating them One of these sets of standards is the Statements on Responsibilities in Tax Practice, which prohibits members from being associated with tax returns known to contain material errors Rule 102 states that a member shall not knowingly misrepresent facts or subordinate his or her judgment to others In this case, Williams, in agreeing to the questionable practice, subordinated his judgment to that of management, thereby failing to adequately represent the interests of the stockholders A member may not agree to a departure from an accounting principle promulgated by the body designated by Council to establish such principles unless the departure is necessary in order not to make the financial statements materially misleading In the present case, inasmuch as the R & D expenditures are not directly reimbursable, they must be charged to expense in the current period; and, therefore, Risher is wrong in agreeing to the departure from GAAP Problem/Essay 33 John Block, CPA, has been approached by a prospective new audit client, Snappy Enterprises, Inc Snappy had previously been audited by another CPA Before accepting the engagement, Chapter Defining Professional Responsibility 19 Block discussed several matters with Snappy’s controller and (with Snappy’s permission) the other CPA As a result of these discussions, the following information was obtained Incorporated in 1992, Snappy’s primary business is buying, developing, selling, and leasing commercial real estate Apartment complexes, shopping malls, and industrial parks make up the major portion of the company’s business Starting out in Albuquerque, New Mexico and the surrounding area, Snappy gradually expanded its operations to include most of southwestern United States, including the Phoenix Scottsdale Mesa area of Arizona After two years of losses, the company reported its first earnings in 1994 From 1995 to 2000, revenues and earnings increased dramatically Earnings for 2001 and 2002, however declined from earlier levels For the current year, 2003, unaudited net income has rebounded to the 2000 level Block has learned from discussions with Snappy’s controller that, as of 12/31/03, the end of the current year, the company was in the process of completing a major mall project The company currently owns several apartment complexes and leases its completed shopping malls to numerous retail establishments After having been developed, industrial properties are sold either to municipalities or to companies locating in the complexes In discussing past audits with the CPA formerly engaged by Snappy, Block learned that several disagreements had arisen over the years, many of which had not been resolved to the satisfaction of the former auditors The disagreements related to accounting matters as well as to the substance of certain transactions with lessees Required: a In deciding whether to accept this engagement, what factors should Block consider? b If he decides to accept the engagement, in what areas should he concentrate his audit resources? SOLUTION: a Factors Block should consider are the following: Seriousness of disagreements with the prior auditor and their potential impact on the financial statements Whether the disagreements demonstrate lack of management integrity 20 Chapter Defining Professional Responsibility Competence of Block to satisfactorily perform the audit b The increase in unaudited earnings suggests possible overstatement of revenues or understatement of expenses For this reason, Block should focus on the following areas: Cost allocations to the uncompleted mall project Operating expenses may have been inappropriately allocated to the project and reflected as assets Adequacy of provisions for uncollectible lease rentals Whether financing leases have been incorrectly treated as “sales type leases” Whether revenues or gains have been improperly recognized as a result of transactions with lessees (related parties) ... the auditing standards without the proper a Business and finance courses 14 Chapter Defining Professional Responsibility b c d Quality control and peer review Education and experience in auditing. .. Chapter Defining Professional Responsibility ANSWER: In addition to auditing, CPAs perform other services for their clients Standards governing the quality of these services are covered in the attestation... Education and experience in the field of auditing c Continuing professional education d A thorough knowledge of the Statements on Auditing Standards ANSWER: B 18 The first general standard recognizes