24) Using your knowledge of the relationships among acceptable audit risk, inherent risk, control
risk, planned detection risk, performance materiality, and planned evidence, state the effect on
planned evidence (increase or decrease) of changing each of the following factors, while the
other factors remain unchanged.
1. an increase in acceptable audit risk ________
2. an increase in inherent risk ________
3. a decrease in control risk ________
4. an increase in planned detection risk ________
5. an increase in performance materiality ________
25) Describe the audit risk model and each of its components.
26) The most important element of the audit risk model is control risk.
27) The audit risk model that must be used for planning audit procedures and evaluating audit
results is:
= AAR
28) If acceptable audit risk is low, and inherent risk and control risk are both low, then planned
detection risk should be high.
29) If the audit assurance rate is 95%, then the level of acceptable audit risk is 5%.
30) A high detection risk equates to a low amount of audit evidence needed.
31) For a private company client, auditors are required to test any internal controls they believe
have not been operating effectively during the period under audit.
32) There is a direct relationship between acceptable audit risk and planned detection risk.
33) Acceptable audit risk and the amount of substantive evidence required are inversely related.
34) As control risk increases, the amount of substantive evidence the auditor plans to accumulate
should increase.
35) Inherent risk and control risk are directly related.
36) Audit assurance is the complement of planned detection risk, that is, one minus planned
detection risk.
9.6 Learning Objective 9-6
1) If an auditor believes the chance of financial failure is high and there is a corresponding
increase in business risk for the auditor, acceptable audit risk would likely
A) be reduced.
B) be increased.
C) remain the same.
D) be calculated using a computerized statistical package.
2) When management has an adequate level of integrity for the auditor to accept the engagement
but cannot be regarded as completely honest in all dealings, auditors normally
A) reduce acceptable audit risk and increase inherent risk.
B) reduce inherent risk and control risk.
C) increase inherent risk and control risk.
D) increase acceptable audit risk and reduce inherent risk.
3) When the auditor is attempting to determine the extent to which external users rely on a
client’s financial statements, they may consider several factors except for
A) client size.
B) concentration of ownership.
C) nature and amounts of liabilities.
D) assessment of detection risk.
4) ________ is the risk that the auditor or audit firm will suffer harm after the audit is finished,
even though the audit report was correct.
A) Inherent risk
B) Audit risk
C) Engagement risk
D) Control risk
5) There are several factors that affect engagement risk and, therefore, acceptable audit risk.
Discuss three of these factors.
6) If an auditor believes the client will have financial difficulties after the audit report is issued,
and external users will be relying heavily on the financial statements, the auditor will probably
set acceptable audit risk as low.
7) Overall assessment of acceptable audit risk is highly subjective.
8) An acceptable audit risk assessment of low indicates a risky client requiring more extensive
evidence, assignment of more experienced personnel, and/or a more extensive review of audit
files.
9.7 Learning Objective 9-7
1) Which of the following statements regarding inherent risk is correct?
A) Inherent risk is unaffected by the auditor’s experience with client’s organization.
B) Most auditors set a low inherent risk in the first year of an audit and increase it if experience
shows that it was incorrect.
C) Most auditors set a high inherent risk in the first year of an audit and reduce it in subsequent
years as they gain more knowledge about the company.
D) Inherent risk is dependent upon the strengths in client’s internal control system.
2) Auditors begin their assessments of inherent risk during audit planning. Which of the
following would not help in assessing inherent risk during the planning phase?
A) obtaining client’s agreement on the engagement letter
B) obtaining knowledge about the client’s business and industry
C) touring the client’s plant and offices
D) identifying related parties
3) Which of the following is not a primary consideration when assessing inherent risk?
A) nature of client’s business
B) existence of related parties
C) effectiveness of internal controls
D) susceptibility to misappropriation of assets
4) Which of the following is an accurate statement regarding inherent risk?
A) The profession has established guidelines for setting inherent risk.
B) Auditors are generally conservative in setting inherent risk.
C) Factors impacting inherent risk will affect all cycles, balances, and disclosures.
D) Inherent risk has no impact on the amount of evidence gathered.
5) The risk of material misstatement is a combination of two client controlled factors: inherent
risk and control risk. What is inherent risk, why is it important and give examples of inherent
risk factors.
6) The risk of fraud should be assessed for the entire audit as well as by cycle, account, and
objective.
7) The auditing profession has established guidelines for setting inherent risk.
8) Accounts that require considerable judgment have a higher inherent risk.
9.8 Learning Objective 9-8
1) Which of the following is true regarding audit risk for segments?
A) Control risk must be assessed at the same level for all accounts.
B) Factors affecting inherent risk do not differ from account to account.
C) Acceptable audit risk is ordinarily assessed by the auditor during the substantive test of
balances phase and is held constant for each major cycle and account.
D) In some cases, a lower acceptable audit risk may be more appropriate for one account than for
others.
2) Auditors respond to risk primarily by
I. changing the extent of testing.
II. changing the types of audit procedures.
A) I only
B) II only
C) I and II
D) neither I nor II
3) When using the audit risk model,
A) auditors find it relatively easy to measure the components of the model.
B) many auditors use broad and subjective measurement terms.
C) auditors find it easy to measure the amount of evidence implied by a given planned detection
risk.
D) auditors are only concerned with understating accounts.
4) In practice, auditors rarely assign numerical probabilities to inherent risk, control risk, or
acceptable audit risk. It is more common to assess these risks as high, medium, or low. For each
of the four situations below, fill in the blanks for planned detection risk and the amount of
evidence you would plan to gather (“planned evidence”) using the terms high, medium, or low.
Acceptable audit risk
Inherent risk
Control risk
Planned detection risk
Planned evidence
SITUATION
1
Low
High
High
________
________
SITUATION
2
Low
Low
Low
________
________
SITUATION
3
High
Low
Medium
________
________
SITUATION
4
High
Low
Low
________
________
5) Dracule Industries is a privately owned business that sells medical product and devices to
hospitals, clinics and the public. Certain changes have occurred in Dracule Industries during the
year undergoing the audit. Harker needs to evaluate the effect these changes have on audit risk.
Audit risk at the financial statement level is influenced by the risk of material misstatement;
which include factors related to management, the industry and the entity or a combination
thereof. For each of the following changes that have occurred during the year under audit
identify the appropriate audit response for the list of responses. Each response can be used once,
more than once or not at all.
Client changes:
1. An internal audit department has been
established.
2. A new inventory control system has been
installed that reduces the access of
unauthorized parties.
3. Inexperienced accounting personnel were
hired in the accounting department.
4. Excess cash was used to purchase
complex derivatives.
5. Controls over the sales credit approval
process have laxed.
6. New government regulations now apply
to Dracule Industries.
7. Management has become overly
aggressive in reaching target goals.
8. An expert was hired to help determine the
value of the ore content in ending materials
inventory.
Possible effect on the audit:
a. increase the acceptable level of detection
risk.
b. decrease the acceptable level of detection
risk.
c. change has no effect on the acceptable
level of detection risk.
6) In applying the audit risk model, auditors are concerned about overstatements, not
understatements.
7) One major limitation in the application of the audit risk model is the difficulty of measuring
the components of the model.
8) Since the audit risk model is a planning model, it assists the auditor in evaluating results.
9.9 Learning Objective 9-9
1) When taken together, the concepts of risk and materiality in auditing
A) measure the uncertainty of amounts of a given magnitude.
B) measure uncertainty only.
C) measure magnitude only.
D) measure inherent risk.
2) Which of the following is a correct statement?
A) There is no relationship between materiality and risk in auditing.
B) Risk is a measure of magnitude or size.
C) The combination of performance materiality and the audit risk model factors determines
planned audit evidence.
D) Performance materiality is part of the audit risk model.
3) Performance materiality impacts inherent risk and control risk.