NAGA COLLEGE FOUNDATION, INC.

M.T. Villanueva Avenue, Naga City

College of Accountancy and Finance
AUDITING AND ASSURANCE PRINCIPLES

Quizzer
RISK ASSESSMENT - PHASE II
UNDERSTANDING THE ENTITY AND ITS ENVIRONMENT

Name: _________________________________ Section: __________

Multiple Choice Questions:

1. Which of the following is not among the risk assessment procedures that the auditor should
perform in obtaining an understanding of the entity and its environment, including its
internal control?
a. Inquiries of management and others within the entity.
b. Analytical procedures.
c. Observation and inspection.
d. Confirmation.

2. In determining others within the entity to whom inquiries may be directed and the extent
of those inquiries, the auditor considers what information may be obtained that would help
him/her in identifying risks of material misstatement. The term “others” does not include
the
a. Controller
b. Internal auditor.
c. In-house legal counsel.
d. Major supplier of raw materials.

3. The audit procedure that may be helpful in identifying the existence of unusual transactions
or events, and amounts, ratios and trends that may indicate matters that have financial
statement and audit implications is
a. Inquiries of management.
b. Observation and inspection.
c. Confirmation.
d. Analytical procedures.

4. Observation and inspection procedures that may support inquiries of management and
others and also provide information about the entity and its environment will involve the
following except
a. Visits to entity's premises and plant facilities.
b. Walk-throughs.
c. Reading minutes of board of directors' meetings.
d. Confirmation of account balances.

5. The auditor's understanding of the entity and its environment consists of an understanding
of the following aspects except
a. Industry, regulatory, and other external factors, including the applicable financial
reporting framework.
b. Nature of the entity, including the entity's selection and application of accounting
policies.
c. Measurement and review of the entity's financial performance.
d. Entity's selection and screening process of marketing and production personnel.

6. PSA 315(Clarified) requires that the auditor should obtain an understanding of relevant
industry, regulatory and other external factors including the applicable financial reporting
 framework. Which of the following is not an example of matters relating to regulatory
environment that the auditor would usually consider?
a. Regulatory framework for a regulated industry.
b. Legislation and regulation significantly affecting the entity's operation
c. Taxation.
d. Product technology relating to the entity's product.

7. PSA 315 (Clarified) requires that the auditor should obtain an understanding of relevant
industry, regulatory and other external factors including the applicable financial reporting
framework. Which of the following is not among the items that relate to industry conditions?
a. Energy, supply and cost
b. Cyclical or seasonal activity
c. Market and competition
d. Inflation and currency revaluation

8. PSA 315 (Clarified) requires that the auditor should obtain an understanding of the entity's
selection and application of accounting policies and consider whether they are appropriate
for its business and consistent with the applicable financial reporting framework and
accounting polices used in the relevant industry. The understanding does not encompass
a. The methods the entity uses to account for significant and unusual transactions.
b. The effect of significant accounting policies in contractual or emerging areas for which
there is lack of authoritative guidance or consensus.
c. Changes in the entity's accounting policies.
d. Criteria in the selection of the company's chief accounting executive.

9. PSA requires that the auditor should obtain an understanding of the entity's objectives and
strategies, and the related business risks that may result in material misstatement of the
financial statements. Which of the following is not an example of business risks that may
have financial consequences and may affect the financial statements?
a. A contracting customer base due to industry consolidation that may increase the risk of
misstatement associated with the valuation of receivables.
b. Use of new IT.
c. New accounting requirements.
d. Contracting economy.

10. The risk of material financial statement misstatement may be greater when the following
conditions exist except
a. When there is greater management intervention to specify the accounting treatment.
b. When there is greater manual intervention for data collection and processing
c. Complex calculations or accounting principles is involved.
d. When there is sufficient personnel with appropriate accounting and financial reporting
skills.

Case Analysis

In every audit engagement the auditors must identify fraud risks that may require an audit
response. Described below are four circumstances Factors that may create an increased risk of
material misstatement of the financial statements due to fraud.

a. The compensation of management of a subsidiary of the client is heavily dependent on the

net income of the subsidiary and controls over subsidiary management are weak.

b. The compensation of management of a telecommunications firm is significantly tied to

revenue and analytical procedures indicate that revenue may be overstated. The company
engages in complex sales agreements. the bed in April and repaid in une interest

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c. Futures traders in an energy company are compensated based on the performance of their
purchases and sales of energy futures contracts. The markets for these contracts have few
participants resulting in the need to value contracts on hand at year-end based on complex
valuation models applied by the traders.

d. A chain of discount markets has inconsistent profit margins across stores as indicated by
analytical procedures.

Requirements:
1. For each of the four circumstances indicate the fraud risk that the auditors should
consider.
2. For each of the four circumstances indicate a possible appropriate response by the
auditors.

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