ReSA - THE REVIEW SCHOOL OF ACCOUNTANCY

CPA Review Batch 45  May 2023 CPA Licensure Examination AT-03

AUDITING (Auditing Theory) J. IRENEO  E. ARAÑAS  F. TUGAS  C. ALLAUIGAN

FINANCIAL STATEMENTS AUDIT OVERVIEW

PSA 200 - - Overall Objectives of the Independent Auditor and the Conduct of an Audit in
Accordance with the Philippine Standards on Auditing

The purpose of an audit is to enhance the degree of confidence of intended users in the financial statements. This
is achieved by the expression of an opinion by the auditor on whether the financial statements are prepared, in
all material respects, in accordance with an applicable financial reporting framework.

The financial statements subject to audit are those of the entity, prepared and presented by the management
of the entity with oversight from those charged with governance.

The PSAs require that the auditor exercise professional judgment and maintain professional skepticism
throughout the audit and, among other things:

▪ Identify and assess risks of material misstatement, whether due to fraud or error, based on an
understanding of the entity and its environment, including the entity’s internal control.
▪ Obtain sufficient appropriate audit evidence about whether material misstatements exist, through
designing and implementing appropriate responses to the assessed risks.
▪ Form an opinion on the financial statements based on conclusions drawn from the audit evidence
obtained.

Objectives of Independent Auditor in the audit of Financial Statements :

• To obtain reasonable assurance about whether the financial statements as a whole are free from
material misstatements, whether due to fraud or error, and
• To express an opinion on whether the financial statements are prepared, in all material respects, in
accordance with an applicable financial reporting framework

What is Misstatement?
A difference between the amount, classification, presentation, or disclosure of a reported financial statement
item and the amount, classification, presentation, or disclosure that is required for the item to be in accordance
with the applicable financial reporting framework.

Misstatements can arise from error or fraud.

What are the responsibilities of management and those charged with governance?
▪ Preparation and presentation of the financial statements in accordance with the applicable financial
reporting framework.
▪ Design, implementation, and maintenance of internal control relevant to the preparation and presentation
of financial statements.

Principles to Consider in the Conduct of Financial Statements Audit:

▪ Professional Skepticism
▪ Conduct of Audit in Accordance with PSA
▪ Audit Évidence
▪ Management Assertions
▪ Audit Materiality
▪ Audit Risk
▪ Professional Judgement
▪ Inhérent Limitations of Audit

What is Audit Evidence?

▪ Audit evidence is all the information obtained and used by the auditor in arriving at the conclusions on
which the audit opinion is based.
▪ The auditor should obtain sufficient appropriate audit evidence.

What is Management Assertions?

▪ Auditor shall gather audit evidence regarding the assertions (i.e., representations) of management in
their financial statements.
▪ Broadly speaking, assertions include: presentation and disclosure, existence and occurrence,
rights and obligations, completeness and valuation and allocation (ie., p-e-r-c-v)

What is Materiality?
▪ Materiality is a relative concept.
▪ Information is material if its omission or misstatement could influence the economic decisions of users
taken on the basis of the financial statements.
▪ The assessment of what is material is a matter of professional judgment of the auditor.

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
FINANCIAL STATEMENTS AUDIT OVERVIEW AT-03

What is Audit Risk?

▪ The likelihood or possibility that the auditor expresses an inappropriate audit opinion when the financial
statements are materially misstated.
▪ Audit risk may be assessed either in quantitative (e.g., ten percent of total assets) or qualitative terms
(e.g., high, or less than high)

Components of Audit Risk :

▪ Inherent risk - - the susceptibility of an assertion to a misstatement that could be material, assuming
that there were no related internal controls
▪ Control risk - - the likelihood that a misstatement that could occur in an assertion and that could be
material and will not be prevented, detected, or corrected on a timely basis by the entity’s internal control
▪ Detection risk - - the likelihood that the auditor will not detect a misstatement that exists in the financial
statements

Application of Professional judgment in the audit of Financial Statements:

▪ In auditing, professional judgment is the application of relevant knowledge, training, and experience,
within the context provided by auditing, accounting, and ethical standards, in reaching decisions about
the courses of action that are appropriate in the circumstances of the audit engagement
▪ Professional judgment needs to be exercised throughout the audit.
▪ Application and exercise of professional judgment shall be appropriately documented.

Questions:
1. In conducting an audit of financial statements, the overall objective of the auditor is/are:
I. To obtain reasonable assurance about whether the financial statements are free from material
misstatement, whether due to fraud or error, thereby enabling the auditor to express an opinion on
whether the financial statements are prepared, in all material respects, in accordance with an applicable
financial reporting framework
II. To report on the financial statements, and communicate as required by the PSAs, in accordance with the
auditor’s findings
A. I only B. Both I and II C. II only D. Neither I nor II

2. After an audit, the financial statements are the responsibility of:

I. the independent auditor
II. the management of the reporting company
A. I only B. II only C. Both I and II D. Neither I nor II

3. The general principles for conducting financial statement audits include the following, except:
A. Compliance with the Code of Ethics for CPAs.
B. Compliance with Philippine Standards on Auditing.
C. Planning and performing the audit with an attitude of professional skepticism.
D. Reporting on internal control weaknesses noted in the course of performing the audit.

4. Philippine Standards on Auditing (PSAs) should be looked upon practitioners as:

A. Ideals to strive for, but which are not achievable.
B. Maximum standards which denote excellent work.
C. Benchmark to be used on all audits, reviews, and compilations.
D. Minimum standards of performance which must be achieved on each audit engagement.

5. Because an examination in accordance with PSAs is influenced by the possibility of material errors, the auditor
should conduct the examination with an attitude of:
A. Professional responsiveness. C. Objective judgment.
B. Conservative advocacy. D. Professional skepticism.

6. S1 The financial statements subject to audit are those of the entity, prepared and presented by management
of the entity with oversight from those charged with governance.
S2 PSAs do not impose responsibilities on management or those charged with governance and do not
override laws and regulations that govern their responsibilities.
A. True, true B. True, false C. False, true D. False, false

7. S1: Those charged with governance refers to person(s) or organization(s) (e.g., a corporate trustee) with
responsibility for overseeing the strategic direction of the entity and obligations related to the accountability
of the entity. This includes overseeing the financial reporting process.
S2: Management refers to person(s) with executive responsibility for the conduct of the entity’s operations.
A. True, true B. True, false C. False, true D. False, false

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FINANCIAL STATEMENTS AUDIT OVERVIEW AT-03
8. With respect to applicable financial reporting framework, the term “fair presentation framework”:
I. Acknowledge explicitly or implicitly that, to achieve fair presentation of the financial statements, it may
be necessary for management to provide disclosures beyond those specifically required by the framework.
II. Acknowledge explicitly that it may be necessary for management to depart from a requirement of the
framework to achieve fair presentation of the financial statements; such departures are expected to be
necessary only in extremely rare circumstances.
A. I only B. Both I and II C. II only D. Neither I nor II

9. Reports on special purpose frameworks are issued in conjunction with

I. cash basis II. income tax basis III. regulatory basis of accounting
A. I and III only B. I and II only C. II and III only D. I, II, and III

10. Which of the following is correct with regard to an auditor’s report on compliance?
I. An auditor’s report would be designated a report on compliance when it is issued in connection
with compliance with aspects of regulatory requirements related to audited financial
statements.
II. An auditor’s report on compliance does not involve the auditor giving positive assurance
regarding compliance with regulatory requirements.
A. I only B. II only C. Both I and II D. Neither I nor II

11. Reports on special purpose frameworks, also known as special reports, include auditor’s reports on:
I. Compliance with reporting requirements to be filed with a specific regulatory agency
II. Cash basis financial statements
A. I only B. II only C. Both I and II D. Neither I nor II

12. There are three broad categories of management’s assertions. Which one is not?
A. Assertions about classes of transactions and events for the period under audit
B. Assertions about account balances at the period end
C. Assertions about presentation and disclosure
D. Assertion about classes of transactions and events at period end

13. Which of the following is an assertion under the category of classes of transactions?
I. Cutoff II. Completeness III. Occurrence

A. II and III only B. I only C. I and III only D. I, II, and III

14. Accounts receivable affects one or more assertions. Which of the following assertions relate to accounts
receivable?
I. Existence II. Valuation III. Rights and Obligations
A. I, II, and III B. II and III only C. I and II only D. I and III only

15. Accounts receivable affects one or more assertions. Which of the following assertions relates to accounts
receivable, net of allowance for doubtful accounts?
I. Existence II. Valuation
A. I only B. II only C. Both I and II D. Neither I nor II

16. The risk that the client’s financial statements may be materially false and misleading is referred to as the
A. Business risk B. Information risk C. Client risk D. Risk assessment

17. Which of the following best describes the reason why an independent auditor reports on financial statements?
I. A management fraud may exist, and it is more likely to be detected by independent auditors.
II. Different interest may exist between the company preparing the statements and the persons using the
statements.
III. A misstatement of account balances may exist and is generally corrected as the result of the independent
auditor’s work.
IV. A poorly designed internal control system may be in existence.

A. I only B. II and III C. II only D. I, II, III and IV

18. The main way(s) to reduce the information risk is to have

I. The users verify the information
II. The users share the information risk with management
III. Financial statements audited
A.I only B. II and III C. III only D. I, II and III
19. If it is probable that the judgment of a reasonable person would have been changed or influenced by the
omission or misstatement of information, in the context of an audit, such information is considered:
A. Significant B. Insignificant C. Material D. Relevant

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
FINANCIAL STATEMENTS AUDIT OVERVIEW AT-03
20. This term refers to the possibility of harm or loss or danger. It can also refer to a factor, thing, or element or course
involving uncertain danger; or a hazard.
A. Materiality B. Jeopardy C. Damocles concept D. Risk
21. The risk that the auditor gives an inappropriate audit opinion when the financial statements are materially misstated:
A. Audit risk B. Inherent risk C. Control risk D. Detection risk
22. Which of the following statements describes control risk?
A. The risk of a material misstatement occurring in an account, assuming an absence of internal control.
B. The risk that an auditor’s procedures will lead to the conclusion that a material error does not exist in an account
balance when in fact, such an error does exist.
C. The risk that a misstatement that could occur in an account balance or class of transactions and that could be
material individually or in the aggregate will not be prevented or detected and corrected on a timely basis by the
accounting and internal control system.
D. The risk that the auditor gives an inappropriate audit opinion when the financial statements are materially
misstated

23. Identify the concept: “A client’s financial statements may be materially false and/or misleading.”
A. Business risk. B. Information risk. C. Client risk. D. Risk assessment.

24. Which of the following is incorrect regarding the general principles of an audit?
A. The auditor should comply with the "Code of Ethics for Professional Accountants".
B. The auditor should conduct an audit in accordance with PSAs.
C. The auditor should plan and perform an audit with an attitude of professional skepticism, recognizing that
circumstances may exist that cause the financial statements to be materially misstated.
D. The auditor would ordinarily expect to find evidence to support management representations and assume they
are necessarily correct.
25. Auditing is based on the assumption that the financial data are verifiable. Data are verifiable when two or more
qualified individuals:
I. Working independently, each reaches essentially similar conclusions.
II. Working independently, can prove, beyond a reasonable doubt, the truthfulness or accuracy of the data.
A. I only B. Both I and II C. II only D. Neither I nor II
26. What are the sources of procedures to be considered by the auditor to conduct an audit in accordance with PSAs?
PSA Legislation Terms of Audit Engagement Type of Opinion
A. Yes No No No
B. No No Yes Yes
C. Yes Yes Yes Yes
D. Yes Yes Yes No
27. Evaluate the following statements:
I. Philippine Standards on Auditing (PSAs) should be looked upon by practitioners as ideals to strive for, but which
are not achievable.
II. The auditor's opinion enhances the credibility of the financial statements.
A. True, True B. True, False C. False, False D. False, True

28. An audit has inherent limitations that affect the auditor’s ability to detect material misstatements. Which of the
following is among the factors that result to these inherent limitations?
A. Use of testing.
B. Inherent limitations of accounting and internal control system.
C. Evidence that is basically persuasive rather than conclusive.
D. All of the choices properly describe factors that result to inherent limitations of audits.

29. Which of the following best describes audit risk?

A. The risk that a misstatement that could occur in an account balance or class of transactions and that could be
material individually or in the aggregate will not be prevented or detected and corrected on a timely basis by the
company’s internal control.
B. The risk that an auditor’s substantive procedures will not detect a misstatement that exists in an account balance
or class of transactions that could be material, individually or when aggregated with misstatements in other
balances or classes.
C. The risk that the auditor gives an inappropriate audit opinion when the financial statements are materially
misstated.
D. The susceptibility of an account balance or class of transactions to misstatement that could be material,
individually or when aggregated with misstatements in other balances of classes, before consideration of any
related controls.
30. Evaluate the following statements:
I. Inherent risk and control risk collectively are known as the risk of material misstatement, which is a function of
the auditor.
II. Misstatement is defined under PSA 200 as the difference between the amount, classification, presentation, or disclosure
of a reported financial statement item and the amount, classification, presentation, or disclosure that is required for
the item to be in accordance with the applicable financial reporting framework.
A. True, True B. True, False C. False, False D. False, True
31. S1: The primary responsibility for the prevention of fraud and error rests with the company’s management and those
charged with governance if the auditor expresses an unqualified opinion.
S2: The primary responsibility for the detection of fraud and error rests with the company’s management and those
charged with governance regardless of the auditors’ opinion.
A. True, True B. True, False C. False, False D. False, True
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