Auditing and Assurance Services, 16e (Arens/Elder/Beasley)
Chapter 10 Fraud Auditing
10.1 Learning Objective 10-1
1) Which of the following best defines fraud in a financial statement auditing context?
A) Fraud is an unintentional misstatement of the financial statements.
B) Fraud is an intentional misstatement of the financial statements.
C) Fraud is either an intentional or unintentional misstatement of the financial statements,
depending on materiality.
D) Fraud is either an intentional or unintentional misstatement of the financial statements,
depending on consistency.
2) Companies may intentionally understate earnings when income is high to create ________
that may be used in future years to increase earnings.
A) income smoothing
B) cookie jar reserves
C) cash
D) sales
3) Which of the following is a category of fraud?
A)
Fraudulent financial reporting
Misappropriation of assets
Yes
Yes
B)
Fraudulent financial reporting
Misappropriation of assets
No
No
C)
Fraudulent financial reporting
Misappropriation of assets
Yes
No
D)
Fraudulent financial reporting
Misappropriation of assets
No
Yes
4) Most cases of fraudulent reporting involve
A) inadequate disclosures.
B) an overstatement of income.
C) an overstatement of liabilities.
D) an overstatement of expenses.
5) ________ is fraud that involves theft of an entity’s assets.
A) Fraudulent financial reporting
B) A “cookie jar” reserve
C) Misappropriation of assets
D) Income smoothing
6) Which of the following is a form of earnings management in which revenues and expenses are
shifted between periods to reduce fluctuations in earnings?
A) fraudulent financial reporting
B) expense smoothing
C) income smoothing
D) Each of the above is correct.
7) Misappropriation of assets is normally perpetrated by
A) members of the board of directors.
B) employees at lower levels of the organization.
C) management of the company.
D) the internal auditors.
8) Fraudulent financial reporting
A) always involves inadequate disclosures.
B) can be intentional or unintentional.
C) can involve understating net income in order to reduce income taxes.
D) all of the above
9) According to the Association of Certified Fraud Examiners, the average company loses
________ percent of its revenues to fraud.
A) one
B) five
C) ten
D) fifteen
10) Which of the following is an accurate statement regarding the misappropriation of assets?
A) In most cases, the amounts involved are material to the financial statements.
B) Misappropriation of assets can easily increase in size over time and can lead to significant
reputational harm.
C) Management should not be concerned about minor misappropriations.
D) Asset misappropriation schemes are less common than fraudulent financial statement
schemes.
11) Define fraud and distinguish between the two main categories of fraud.
12) Fraudulent financial reporting is an intentional misstatement or omission of amounts or
disclosures with the intent to deceive users.
13) The two main categories of fraud are fraudulent financial reporting and misappropriation of
assets.
14) “Cookie jar reserves” are often created by companies whenever their earnings are low to
create reserves for future periods when earnings need to be “boosted” upward.
15) Misappropriation of assets is normally perpetrated at the lowest levels of the organization
hierarchy.
16) Fraudulent financial reporting usually involves manipulation of amounts rather than
disclosures.
17) According to the Association of Certified Fraud Examiners, losses from misappropriation
schemes are higher than losses from financial statement frauds.
10.2 Learning Objective 10-2
1) Which of the following are elements of the fraud triangle?
A)
Attitudes/rationalization
Risk Factors
Opportunities
Yes
No
Yes
B)
Attitudes/rationalization
Risk Factors
Opportunities
No
Yes
Yes
C)
Attitudes/rationalization
Risk Factors
Opportunities
Yes
No
No
D)
Attitudes/rationalization
Risk Factors
Opportunities
No
Yes
No
2) Although the financial statements of all companies are potentially subject to manipulation, the
risk is greater for companies that
A) are heavily regulated.
B) have low amounts of debt.
C) have to make significant judgments for accounting estimates.
D) operate in stable economic environments.
3) Which of the following is not a factor that relates to opportunities to commit fraudulent
financial reporting?
A) lack of controls related to the calculation and approval of accounting estimates
B) ineffective oversight of financial reporting by the board of directors
C) management’s set of ethical values
D) high turnover of accounting, internal audit, and information technology staff
4) Fraud is more prevalent in smaller businesses and not-for-profit organizations because it is
more difficult for them to maintain
A) adequate separation of duties.
B) adequate compensation.
C) adequate financial reporting standards.
D) adequate supervisory boards.
5) Which of the following is a factor that relates to incentives or pressures to commit fraudulent
financial reporting?
A) significant accounting estimates involving subjective judgments
B) excessive pressure for management to meet debt repayment requirements
C) management’s practice of making overly aggressive forecasts
D) high turnover of accounting, internal audit, and information technology staff
6) Which of the following is a factor that relates to attitudes or rationalization to misappropriate
assets?
A) significant accounting estimates involving subjective judgments
B) excessive pressure for management to meet debt repayment requirements
C) a sense of superiority by executives
D) high turnover of accounting, internal audit and information technology staff
7) Which of the following is not a factor that relates to opportunities to misappropriate assets?
A) inadequate internal controls over assets
B) presence of large amounts of cash on hand
C) inappropriate segregation of duties or independent checks on performance
D) adverse relationships between management and employees
8) Which of the following is a factor that relates to incentives/pressures to misappropriate assets?
A) weak internal controls
B) significant personal financial obligations
C) management’s practice of making overly aggressive forecasts
D) anger and fear
9) According to a KPMG survey, most fraud perpetrators
A) are over the age of 65.
B) work on the assembly line.
C) have worked for the company for over ten years.
D) are female.
10) In the fraud triangle, fraudulent financial reporting and misappropriation of assets
A) share little in common.
B) share most of the same risk factors.
C) share the same three conditions of the fraud triangle.
D) share most of the same conditions. of the fraud triangle.
11) Which of the following would the auditor be most concerned about regarding a heightened
risk of intentional misstatement?
A) Senior management emphasizes that it is very important to beat analyst estimates of earnings
every reporting period.
B) Senior management emphasizes that budgeted amounts for expenses are to be achieved for
each reporting period or explained in the variance analysis report.
C) Senior management emphasizes that job rotation is a worthwhile corporate objective.
D) Senior management emphasizes that job evaluations are based on performance.
12) Which of the following is a risk factor related to opportunities and financial statement fraud?
A) ineffective communication of company values
B) promotions inconsistent with expectations
C) significant related-party transactions
D) adverse relationships between management and employees
13) Relating to opportunities, why do most people commit fraud?
A) They need to fund an extravagant lifestyle.
B) They feel a sense of superiority.
C) There are weak internal controls.
D) They need to meet pre-specified business targets.
14) List and briefly describe the three conditions for fraud.
15) List and briefly describe examples of risk factors for each condition of fraud for fraudulent
financial reporting.
16) Incentives and opportunities are two conditions that are generally present when financial
statement fraud occurs.
17) Fraud is more prevalent in large businesses than small businesses and not-for-profit
organizations.
18) Turnover in accounting personnel can create a rationalization for misstatement.
19) A lack of controls over payments to vendors can cause revenue fraud.
20) Ineffective oversight by the board of directors over financial reporting is an example of an
incentives/pressures risk factor.
21) A common incentive for companies to manipulate financial statements is a decline in the
company’s financial prospects.
22) The pressure to do “whatever it takes” to meet goals is one of the main reasons why financial
statement fraud occurs.
23) In the fraud triangle, fraudulent financial reporting and misappropriation of assets share the
same conditions and risk factors.
10.3 Learning Objective 10-3
1) Which of the following is true statement regarding professional skepticism?
A) Auditors reject most potential clients perceived as lacking honesty and integrity.
B) If the auditor has past experience with a client, they can assume the client is honest.
C) Material frauds occur in most of the audits of financial statements.
D) Professional skepticism is required only during the planning phase.
2) Upon discovering information that indicates a material misstatement due to fraud may have
occurred, auditors should
A) acquire additional evidence as needed.
B) thoroughly probe the issues.
C) consult with other team members.
D) all of the above
3) As part of the brainstorming sessions, auditors are directed to emphasize
A)
How management could perpetrate
and conceal fraudulent financial
reporting
The audit team’s response to
potential fraud risks
Yes
Yes
B)
How management could perpetrate
and conceal fraudulent financial
reporting
The audit team’s response to
potential fraud risks
No
No
C)
How management could perpetrate
and conceal fraudulent financial
reporting
The audit team’s response to
potential fraud risks
Yes
No
D)
How management could perpetrate
and conceal fraudulent financial
reporting
The audit team’s response to
potential fraud risks
No
Yes
4) Which of the following questions is the auditor not required to ask company management
when assessing fraud risk?
A) Does management have knowledge of any fraud or suspected fraud within the company?
B) What is the nature of the fraud risks identified by management?
C) Is management using all assets effectively?
D) What internal controls have been implemented to address the fraud risks?
5) When assessing the risk for fraud, the auditor must be cognizant of the fact that
A) the existence of fraud risk factors means fraud exists.
B) analytical procedures must be performed on revenue accounts.
C) horizontal analysis is not useful in helping to determine unusual financial statement
relationships.
D) the auditor cannot make inquiries about fraud to company personnel who have no financial
statement responsibilities.
6) Which of the following is not a likely source of information to assess fraud risks?
A) communications among audit team members
B) inquiries of management
C) analytical procedures
D) consideration of fraud risks discovered during recent audits of other clients
7) When assessing fraud risk,
A) fraud risk is assessed only at the overall financial statement level.
B) the auditor’s assessment of fraud risk should be ongoing throughout the audit.
C) if the auditor concludes that there is a risk of material misstatement due to fraud, auditing
standards require that the risks be treated as pervasive.
D) auditing standards require that the auditor presume there is a risk of fraud in the inventory
account.
8) Discuss the need for maintaining professional skepticism during an audit.
9) Briefly discuss the brainstorming session required by current auditing standards. Be sure to
include a list of ideas that should be addressed in the session.
10) Describe the five sources of information gathered to assess fraud risks.
11) In vertical analysis, the account balance is compared to the previous period, and the
percentage change for the period is calculated.
12) Information and idea exchange sessions by the audit team are required by current auditing
standards.
13) Upon discovering information that indicates a material misstatement due to fraud, the auditor
must assume that the misstatement is an isolated incident.
14) The presence of fraud risk factors increases the likelihood of fraud and may suggest that
fraud is being perpetrated.
15) When the auditor receives inconsistent responses from management and others within the
organization, the auditor should obtain additional audit evidence to resolve the inconsistency.
16) Auditing standards require that the auditor presume that there is a risk of fraud in revenue
recognition.