Chapter 9

Multiple-Choice Questions
1.
easy
a

If it is probable that the judgment of a reasonable person would have been changed or
influenced by the omission or misstatement of information, then that information is, by
definition of FASB Statement No. 2:
a. material.
b. insignificant.
c. significant.
d. relevant.

2.
easy
b

The preliminary judgment about materiality is the

amount by which the auditor
believes the statements could be misstated and still not affect the decisions of reasonable users.
a. minimum
b. maximum
c. mean average
d. median average

3.
easy
d

Auditors are responsible for determining whether financial statements are materially misstated,
so upon discovering a material misstatement they must bring it to the attention of:
a. regulators.
b. the audit firms managing partner.
c. no one in particular.
d. the clients management.

4.
easy
c

The FASB definition of materiality emphasizes what class of financial statement users?
a. Regulators.
b. Informed investors.
c. Reasonable persons.
d. Potential investors.

5.
easy
d

When auditors allocate the preliminary judgment about materiality to account balances, the
materiality allocated to any given account balance is referred to as:
a. the materiality range.
b. the error range.
c. tolerable materiality.
d. tolerable misstatement.

6.
easy
c

Why do auditors establish a preliminary judgment about materiality?

a. To determine the appropriate level of audit experience required for the work.
b. So that the client can know what records to make available to the auditor.
c. To plan the appropriate audit evidence to accumulate and develop an overall audit
strategy.
d. To finalize the assessment of control risk.

7.
easy
b

Auditors are _____ to decide on the combined amount of misstatements in the financial
statements that they would consider material early in the audit.
a. permitted
b. required
c. not allowed
d. strongly encouraged

8.

If an auditor establishes a relatively high level for materiality, then the auditor will:

Arens/Elder/Beasley

easy
b

a.
b.
c.
d.

9.
easy
d

The preliminary judgment about materiality and the amount of audit evidence accumulated are
_____ related.
a. directly
b. indirectly
c. not
d. inversely

10.
easy
d

After the preliminary judgment about materiality has been established, auditors may:
a. not adjust it.
b. adjust it downward only.
c. adjust it upward only.
d. adjust it either downward or upward.

11.
easy
c

In an audit area that has a lower inherent risk, it would be prudent to:
a. increase the amount of audit evidence gathered.
b. assign more experienced staff to that area.
c. increase the tolerable misstatement for the area.
d. expand planning procedures.

12.
easy
d

Which of the following is least likely to be appropriate as the basis for determining the
preliminary judgment about materiality in the audit of financial statements?
a. Net income before taxes.
b. Current assets.
c. Owners equity.
d. Inventory.

13.
easy
c

Auditing standards _____ that the basis used to determine the preliminary judgment about
materiality be documented in the audit files.
a. permit
b. do not allow
c. require
d. strongly encourage

14.
easy
d

Amounts involving fraud are usually considered _____ important than unintentional errors of
equal dollar amounts.
a. less
b. no less
c. no more
d. more

15.
easy
a

Which of the following qualitative factors may significantly influence whether an item is
deemed to be material?

a.
b.
c.
d.
Arens/Elder/Beasley

accumulate more evidence than if a lower level had been set.

accumulate less evidence than if a lower level had been set.
accumulate approximately the same evidence as would be the case were materiality lower.
accumulate an undetermined amount of evidence.

Misstatements that are otherwise

minor may be material if there are
possible consequences arising from
contractual obligations.
Yes
No
Yes
No

Misstatements that are otherwise immaterial

may be material if they affect a trend in
earnings
Yes
No
No
Yes

16.
easy
a

Auditors generally allocate the preliminary judgment about materiality to the:

a. balance sheet only.
b. income statement only.
c. income statement and balance sheet.
d. statement of cash flows.

17.
easy
c

Which of the following statements regarding inherent risk is correct?

a. The inherent risk assigned in the audit risk model is unaffected by the auditors experience
with clients 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 experience, even when there is inherent risk.
d. The inherent risk assigned in the audit risk model is dependent upon the strengths in
clients internal control system.

18.
easy
a

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 clients agreement on the engagement letter.
b. Obtaining knowledge about the clients business and industry.
c. Touring the clients plant and offices.
d. Identifying related parties.

19.
medium
b

Auditors commonly allocate materiality to balance sheet accounts rather than income statement
accounts because most income statement misstatements have a(n) _____ effect on the balance
sheet.
a. reduced
b. equal
c. undetermined
d. increased

20.
medium
b

Which of the following is not a correct statement regarding the allocation of the preliminary
judgment about materiality to balance sheet accounts?
a. Auditors expect certain accounts to have more misstatements than others.
b. The allocation has virtually no effect on audit costs because the auditor must collect
sufficient appropriate audit evidence.
c. Auditors expect to identify overstatements as well as understatements in the accounts.
d. Relative audit costs affect the allocation.

21.
medium
b

What is the primary means of dealing with risk in planning decisions related to audit evidence?
a. Selection of more effective tests of details of balances.
b. Application of the audit risk model.
c. Establishing a lower preliminary judgment about materiality.
d. Allocating materiality judgment to segments.

22.
medium
d

The phrase in our opinion in the auditors report is intended to inform users that auditors:
a. guarantee fair presentation of the financial statements.
b. act as insurers of the accuracy of the statements.
c. certify the material presented in the statements by management.
d. base their conclusions about the statements on professional judgment.

23.
medium
d

Inherent risk is _______ related to detection risk and _______ related to the amount of audit
evidence.
a. directly, inversely
b. directly, directly

Arens/Elder/Beasley

c.
d.

inversely, inversely
inversely, directly

24.
medium
b

The five steps in applying materiality are listed below in random order.
1. Estimate the combined misstatement.
2. Estimate the total misstatement in the segment.
3. Set preliminary judgment about materiality.
4. Allocate preliminary judgment about materiality to segments.
5. Compare combined estimate with preliminary judgment about materiality.
The correct sequence from start to finish would be:
a. 1 2 5 4 3.
b. 3 4 2 1 5.
c. 4 3 1 5 2.
d. 5 1 3 2 4.

25.
medium
b

Which of the following statements is not correct?

a. Materiality is a relative rather than an absolute concept.
b. The most important base used as the criterion for deciding materiality is total assets.
c. Qualitative factors as well as quantitative factors affect materiality.
d. Given equal dollar amounts, frauds are usually considered more important than errors.

26.
medium
a

Since materiality is relative, it is necessary to have bases for establishing whether misstatements
are material. Normally, the most common base for deciding materiality is:
a. net income before taxes.
b. net working capital.
c. net income after taxes.
d. total assets.

27.
medium
a

Certain types of misstatements are likely to be more important than other types to users, even if
the dollar amounts are the same. Which of the following demonstrates this?

a.
b.
c.
d.

Amounts involving frauds are

considered more important than
errors of equal amount
Yes
No
Yes
No

Misstatements that are otherwise immaterial

may be material if they affect a trend in
earnings.
Yes
No
No
Yes

28.
medium
b

Allocating the preliminary judgment about materiality to financial statements segments is

necessary because:
a. evidence is accumulated for the financial statements as a whole so materiality does not
apply to them.
b. evidence is accumulated by segments rather than for the financial statements as a whole.
c. it is required by the AICPAs Code of Professional Conduct.
d. it is required by the SEC.

29.
medium
c

Which of the following statements is not correct?

a. Either an overstatement of an asset account or an understatement of a liability account
would have the same effect on the income statement.
b. A misclassification in the balance sheet will have no effect on operating income.
c. Either an overstatement of an asset account or an overstatement of a liability account
would have the same effect on the income statement.
d. Either an understatement of an asset account or an overstatement of a liability account
would have the same effect on the income statement.

Arens/Elder/Beasley

30.
medium
d

Regardless of how the preliminary judgment about materiality is allocated, the auditor must be
confident that total combined misstatements in all accounts are:
a. less than the preliminary judgment.
b. equal to the preliminary judgment.
c. more than the preliminary judgment.
d. less than or equal to the preliminary judgment.

31.
medium
c

Auditors frequently refer to the terms audit assurance, overall assurance, and level of assurance
to refer to ________.
a. detection risk
b. audit report risk
c. acceptable audit risk
d. inherent risk

32.
medium
c

_____ misstatements are those where the auditor can determine the amount of the misstatement
in the account.
a. Potential
b. Likely
c. Known
d. Projected
When a different extent of evidence is needed for the various cycles, the difference is caused
by:
a. errors in the clients accounting system.
b. a clients need to achieve an unqualified opinion.
c. an auditors need to follow auditing standards.
d. an auditors expectations of errors and assessment of internal control.

33.
medium
d

34.
medium
a

If planned detection risk is reduced, the amount of evidence the auditor accumulates will:
a. increase.
b. decrease.
c. remain unchanged.
d. be indeterminate.

35.
Medium
a

Likely misstatements can result from:

a.
b.
c.
d.

Computation of the
sampling error for the
cash account
No
Yes
No
Yes

Differences between
managements and an
auditors judgment about
account balances
Yes
Yes
No
No

Projections of
misstatements based on
an auditors tests of a
sample from a
population
Yes
No
Yes
No

36.
medium
b

When discussing control risk (CR) and the audit risk model, which of the following is false?
a.
CR is a measure of the auditors assessment of the likelihood that misstatements will not
be prevented or detected by internal control.
b.
If the auditor concludes that internal control is completely ineffective to prevent or detect
errors, he/she would assign a low value (e.g., 0%) to CR.
c.
The relationship between control risk and detection risk is inverse.
d.
The relationship between control risk and evidence needed to support account balances is
direct.

37.

Which of the following is not a good indicator of the degree to which statements are relied on

Arens/Elder/Beasley

medium
d

by external users?
a. Clients size, as measured by total assets or total revenue.
b. Distribution of ownership among the public.
c. Nature and amount of liabilities.
d. Amount of net income or loss after taxes.

38.
medium
a

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.

39.
medium
a

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.

40.
medium
b

One accounting issue that does not require management to use significant judgments is:
a. the allowance for doubtful accounts.
b. the useful life of equipment for tax purposes.
c. obsolete inventory.
d. the liability for warranty payments.

41.
medium
d

Inherent risk is often low for an account such as:

a. inventory.
b. marketable securities.
c. cash.
d. accounts receivable.

42.
medium
d

The auditor typically does not assess control risk and inherent risk for:
a. each audit objective.
b. each cycle.
c. each account.
d. the overall audit.

43. (Public)
medium
a

To what extent do auditors typically rely on internal controls of their public company clients?
a. Extensively
b. Only very little
c. Infrequently
d. Never

44.
medium
b

Auditors typically rely on internal controls of their private company clients:

a. Only as needed to complete the audit and satisfy Sarbanes-Oxley requirements.
b. Only if the controls are determined to be effective.
c. Only if the client asks an auditor to test controls.
d. Only if the controls are sufficient to increase Control Risk to an acceptable level.

45.
medium
a

Acceptable audit risk is ordinarily set by the auditor during planning and:
a. held constant for each major cycle and account.
b. held constant for each major cycle but varies by account.
c. varies by each major cycle and by each account.
d. varies by each major cycle but is constant by account.

Arens/Elder/Beasley

46.
medium
d

When the auditor is attempting to determine the extent to which external users rely on a clients
financial statements, they may consider several factors except for:
a. client size.
b. concentration of ownership.
c. types and amounts of liabilities.
d. assessment of detection risk.

47.
medium
b

A major difficulty in the application of the audit risk model is:

a. defining the terms of the model.
b. measuring the components of the model.
c. understanding the effect on other factors in the model when one factor is changed.
d. the failure of the Audit Standards Board to accept it and incorporate it into standards.

48.
medium
a

When setting a preliminary judgment about materiality:

a. more evidence is required for a low dollar amount than for a high dollar amount.
b. less evidence is required for a low dollar amount than for a high dollar amount.
c. the same amount of evidence is required for either low or high dollar amounts.
d. there is no relationship between it and the dollar amount of evidence needed.

49.
challenging
b

When allocating materiality, most practitioners choose to allocate to:

a. the income statement accounts because they are more important.
b. the balance sheet accounts because there are fewer.
c. both balance sheet and income statement accounts because there could be errors on either.
d. all of the financial statements because there could be errors on other statements besides the
income statement and balance sheet.

50.
challenging
c

The risk of material misstatement refers to:

a. control risk and acceptable audit risk.
b. inherent risk.
c. the combination of inherent risk and control risk.
d. inherent risk and audit risk.

51.

Auditors may assess inherent risk and control risk:

medium
a
a.
b.
c.
d.

Jointly to determine the risk of

material misstatement
Yes
No
Yes
No

Separately and combine their effects in the

audit risk model
Yes
No
No
Yes

52.
challenging
c

Which one of the following statements about the cycle approach to auditing is not correct?
a. There are differences among cycles in the frequency and size of expected errors.
b. There are differences among cycles in the effectiveness of internal controls.
c. There are differences among cycles on the auditors willingness to accept risk that material
errors exist after the auditing is complete.
d. It is common for auditors to want an equally low likelihood of errors for each cycle after
the auditor is finished.

53.
challenging
a

When the auditor has the same level of willingness to risk that material misstatements will exist
after the audit is finished for all financial statement cycles:
a.
a different extent of evidence will likely be needed for various cycles.
b.
the same amount of evidence will be gathered for each cycle.
c.
the auditor has not followed generally accepted auditing standards.
d.
the level for each cycle must be no more than 2% so that the entire audit does not exceed
10%.

Arens/Elder/Beasley

54.
challenging
b

Which of the following statements is not true?

a. Inherent risk is inversely related to detection risk.
b. Inherent risk is inversely related to evidence.
c. Inherent risk is the susceptibility of the financial statements to material error, assuming no
internal controls.
d. Inherent risk is the auditors assessment of the likelihood that errors exceeding a tolerable
amount exist in a segment before considering the effectiveness of internal controls.

55.
challenging
c

Which of the following is not a primary consideration when assessing inherent risk?
a. Nature of clients business.
b. Existence of related parties.
c. Frequency and intensity of managements review of accounting transactions and records.
d. Susceptibility to defalcation.

56.
challenging
c

Which of the following is an example of the concept of inherent risk?

a. Humans make more errors than computers; therefore, a manual accounting system is
riskier than a computerized system.
b. Accounting systems with vouchers have many more controls built in, so the risk that there
will be errors on the financial statements is reduced.
c. Loans receivable for a finance company are less likely to be collectible than those of a
bank.
d. Audits with larger sample sizes are less risky than those with smaller sample sizes.

57.
challenging
d

Tolerable misstatement as set by the auditor:

a. decreases acceptable audit risk.
b. increases inherent risk and control risk.
c. affects planned detection risk.
d. does not affect any of the four risks.

58.
challenging
a

Which of the following underlies the application of generally accepted auditing standards,
particularly the standards of fieldwork and reporting?
a. The elements of materiality and relative risk.
b. The element of internal control.
c. The element of corroborating evidence.
d. The element of reasonable assurance.

Essay Questions
59.
medium

Discuss the three main factors that affect an auditors preliminary judgment about materiality.
Answer:
The three main factors that affect an auditors judgment about materiality are:
Materiality is a relative rather than an absolute concept. A misstatement of a given
size might be material for a small company, whereas the same dollar misstatement
could be immaterial for a larger one.
Bases are needed for evaluating materiality. Since materiality is relative, it is
necessary to have bases for establishing whether misstatements are material. Net
income before taxes is normally the most commonly used base, but other possible
bases include current assets, total assets, current liabilities, and owners equity.
Qualitative factors also affect materiality. Certain types of misstatements are likely to
be more important to users than others, even if the dollar amounts are the same, such
as misstatements involving frauds.

Arens/Elder/Beasley

Arens/Elder/Beasley

60.
medium

Due to qualitative factors, certain types of misstatements are likely to be more important to
users than others, even if the dollar amounts are the same. Identify two qualitative factors that
might significantly affect an auditors materiality judgment, and give an example of each.
Answer:
Qualitative factors that affect an auditors materiality judgment include:
Amounts involving fraud. Amounts involving fraud are usually considered more
important than unintentional errors of equal dollar amounts because fraud reflects on
the honesty and reliability of the management or other personnel involved. For
example, an intentional misstatement of inventory would be more important to users
than a clerical error in inventory of the same amount.
Misstatements affecting contractual obligations. Misstatements that are otherwise
minor may be material if there are possible consequences arising from contractual
obligations. For example, if a misstatement causes a required minimum account
balance to exceed the minimum, when the correct balance is less than the minimum,
this misstatement likely would be important to users.
Profit vs. loss. Misstatements that cause a loss to be reported as a profit or
misstatements that affect trends in earnings are likely to be important to users.

61.
medium

Explain why it is necessary to allocate the preliminary judgment about materiality to individual
accounts (segments) in the financial statements. Also explain why allocating to balance sheet
accounts is more common than allocating to income statement accounts.
Answer:
Allocating the preliminary judgment about materiality to individual accounts is necessary
because evidence is accumulated for accounts rather than for the financial statements as a
whole. Allocating to accounts establishes a tolerable misstatement amount for each
account, which helps the auditor decide the appropriate audit evidence to accumulate for
each account. Most practitioners allocate materiality to balance sheet accounts rather than
income statement accounts because there are fewer balance sheet than income statement
accounts.

62.
medium

Why do most practitioners allocate the preliminary judgment about materiality to balance sheet
accounts?
Answer:
Most income statement misstatements have an equal effect on the balance sheet because of
the double-entry bookkeeping system. Because there are fewer balance sheet accounts than
income statement accounts in most audits and most audit procedures focus on balance
sheet accounts, allocating materiality to balance sheet accounts is the most appropriate
alternative.

63.
medium

Discuss how auditors use the audit risk model when planning an audit.
Answer:
The audit risk model is used primarily for planning purposes in deciding how much
evidence to accumulate in each cycle. The auditor decides an acceptable level of audit risk,
assesses inherent risk and control risk, and then uses the relationship depicted in the
following model to determine an appropriate level for planned detection risk:
PDR

Arens/Elder/Beasley

AAR
IR x CR

64.
medium

Describe the audit risk model and each of its components.

Answer:
The planning form of the audit risk model is stated as follows:
PDR
where:

=
PDR
AAR
IR
CR

AAR
IR x CR
=
=
=
=

planned detection risk

acceptable audit risk
inherent risk
control risk

Planned detection risk is a measure of the risk that audit evidence for an account will fail
to detect misstatements exceeding a tolerable amount, should such misstatements exist.
Planned detection risk determines the amount of substantive evidence that the auditor
plans to accumulate.
Acceptable audit risk is a measure of how willing the auditor is to accept that the financial
statements may be materially misstated after the audit is completed and an unqualified
opinion has been issued. It is influenced primarily by the degree to which external users
will rely on the statements, the likelihood that a client will have financial difficulties after
the audit report is issued, and the auditors evaluation of managements integrity.
Inherent risk is a measure of the auditors assessment of the likelihood that there are
material misstatements in an account before considering the effectiveness of internal
control.
Control risk is a measure of the auditors assessment of the likelihood that misstatements
exceeding a tolerable amount in an account will not be prevented or detected by the
clients internal controls.
65.
medium

There are several factors that affect an audit firms business risk and, therefore, acceptable audit
risk. Discuss three of these factors.
Answer:
Business risk and acceptable audit risk are affected by:
The degree to which external users will rely on the statements. For large, publicly
held clients, business risk is greater, and acceptable audit risk will be less, than for
small, privately held clients, all things being equal.
The likelihood that a client will have financial difficulties after the audit report is
issued. Business risk is greater, and acceptable audit risk will be lower, when the
client is experiencing financial difficulties.
The auditors evaluation of managements integrity. Business risk is greater and
acceptable audit risk will be lower when the clients management has questionable
integrity.

Arens/Elder/Beasley

66.
challenging

Discuss each of the five steps in applying materiality in an audit, and identify the audit phase(s)
in which each step is performed. List these steps in the order in which they occur.
Answer:
Step 1. Set preliminary judgment about materiality. This is the combined amount of
misstatements in the financial statements that would be considered material. This decision
is made in the planning stage of the audit.
Step 2. Allocate preliminary judgment about materiality to segments. In this step, the
auditor normally allocates the preliminary judgment about materiality to the balance sheet
accounts. The amount of materiality allocated to an account is referred to as that accounts
tolerable misstatement. This allocation is performed in the audit planning stage.
Step 3. Estimate total misstatement in segment. In this step, the auditor projects the sample
results to the population. An allowance for sampling risk is also calculated. This would be
performed after the substantive tests for each account are completed.
Step 4. Estimate the combined misstatement. In this step, the projected errors for each
account are added, along with total sampling error, to calculate the combined
misstatement. This would be performed after all substantive tests have been completed.
Step 5. Compare combined estimated misstatement with preliminary or revised judgment
about materiality. If the combined estimated misstatement is less than or equal to the
judgment about materiality, then the auditor concludes the financial statements are fairly
presented. This would be performed after all substantive tests have been completed, in the
final review stage of the audit.

Other Objective Answer Format Questions

67.
easy

Below are four situations that involve the audit risk model as it is used for planning audit
evidence requirements in the audit of inventory. For each situation, calculate planned detection
risk.
SITUATION
1

1%

10%

10%

5%

Inherent risk

100%

100%

50%

20%

Control risk

100%

100%

40%

30%

Planned detection risk

______

______

______

Acceptable audit risk

Answer: 1. 1%;

Arens/Elder/Beasley

2. 10%;

3. 50%;

4. 83.3%

______

68.
easy

Using your knowledge of the relationships among acceptable audit risk, inherent risk, control
risk, planned detection risk, tolerable misstatement, 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.

decrease

1.

An increase in acceptable audit risk.

increase

2.

An increase in inherent risk.

decrease

3.

A decrease in control risk.

decrease

4.

An increase in planned detection risk.

decrease

5.

An increase in tolerable misstatement.

69.
medium

Match nine of the terms (a-i) with the definitions provided below (1-9):
a.
b.
c.
d.
e.
f.
g.
h.
i.

.
.
.

Business risk
Preliminary judgment about materiality
Inherent risk
Planned detection risk
Audit assurance
Acceptable audit risk
Tolerable misstatement
Control risk
Materiality

1.

A measure of the risk that audit evidence for a segment will fail to detect
misstatements exceeding a tolerable amount, should such misstatements exist.

2.

The risk that the auditor or audit firm will suffer harm because of a client
relationship, even though the audit report rendered for the client was correct.

3.

A measure of the auditors assessment of the likelihood that misstatements

exceeding a tolerable amount in a segment will not be prevented or detected by
the clients internal controls.

4.

A measure of how much risk the auditor is willing to take that the financial
statements may be materially misstated after the audit is completed and an
unqualified audit opinion has been issued.

5.

The materiality allocated to any given account balance.

6.

The maximum amount by which the auditor believes that the statements could
be misstated and still not affect the decisions of reasonable users.

7.

This term is synonymous with acceptable audit risk.

8.

The magnitude of an omission or misstatement of accounting information that

makes it probable that the judgment of a reasonable person would have been
changed.

9.

A measure of the auditors assessment of the likelihood that there are material
misstatements before considering the effectiveness of internal control.

Arens/Elder/Beasley

70.
medium

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.
SITUATION
1

Acceptable audit risk

Low

Low

High

High

Inherent risk

High

Low

Low

Low

Control risk

High

Low

Medium

Low

Planned detection risk

______

______

______

______

Planned evidence

______

______

______

______

Answer: 1.
2.
3.
4.

low, high
medium, medium
medium, medium
high, low

71.
easy
a

The auditors preliminary judgment about materiality is the maximum amount by which the
auditor believes the financial statements could be misstated and still not affect the decisions of
reasonable users.
a. True
b. False

72.
easy
a

There is no precise definition of materiality in the professional literature.

a. True
b. False

73.
easy
b

The FASB definition of materiality focuses on potential users of financial statements.

a. True
b. False

74.
easy
a

Net income before taxes is normally the most important base for deciding materiality.
a. True
b. False

75.
easy
b

Most practitioners allocate the preliminary judgment about materiality to income statement
accounts.
a. True
b. False

76.
easy
a

The primary purpose of allocating the preliminary judgment about materiality to financial
statement accounts is to help the auditor decide the appropriate evidence to accumulate.
a. True
b. False

Arens/Elder/Beasley

77.
easy
b

Auditors cannot use prior year financial statement balances to establish their preliminary
judgment about materiality in planning the current years audit.
a. True
b. False

78.
easy
b

If acceptable audit risk is low, and inherent risk and control risk are both high, then planned
detection risk should be high.
a. True
b. False

79.
easy
a

Inherent risk and planned detection risk are inversely related; i.e., as inherent risk increases,
planned detection risk should decrease, ceteris paribus.
a. True
b. False

80.
easy
b

Acceptable audit risk and planned detection risk are inversely related; i.e., as acceptable audit
risk increases, planned detection risk should decrease, ceteris paribus.
a. True
b. False

81.
easy
b

The most important element of the audit risk model is control risk.
a. True
b. False

82.
easy
b

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.
a. True
b. False

83.
easy
a

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.
a. True
b. False

84.
medium
b

Achieved detection risk can be reduced only by accumulating more audit evidence.
a. True
b. False

85.
medium
a

Auditors have difficulty applying the concept of materiality in practice because they often do
not know who the users of the financial statements are or what decisions will be made.
a. True
b. False

86.
medium
b

The audit risk model that must be used for planning audit procedures and evaluating audit
results is: AcAR = IR x CR x AcDR.
a. True
b. False

Arens/Elder/Beasley

87.
medium
b

Statements on Auditing Standards provide detailed, objective guidance on how auditors are to
establish a preliminary materiality level, thus eliminating the need for subjective auditor
judgment in this task.
a. True
b. False

88.
medium
b

If the preliminary judgment of materiality increases, the amount of audit evidence required will
also increase.
a. True
b. False

89.
medium
b

Insert risk and control risk are normally assessed for the overall audit.
a. True
b. False

90.
medium
b

Tolerable misstatement is the maximum combined total of all misstatements in the financial
statements that the auditor is willing to allow, or tolerate, when issuing a standard unqualified
opinion.
a. True
b. False

91.
medium
a

If an auditor assigns a tolerable misstatement of $1,000 to accounts payable, he or she would

need to obtain more audit evidence for that account than if $100,000 had been assigned.
a. True
b. False

92.
medium
a

To maximize audit efficiency, the auditor should allocate less tolerable misstatement to
accounts that can be verified by using low-cost audit procedures, such as analytical procedures,
than to accounts that are more costly to audit.
a. True
b. False

93.
medium
b

To maximize audit effectiveness, the auditor should establish a high preliminary judgment
about materiality and allocate most of the amount to balance sheet accounts.
a. True
b. False

94.
medium
a

Acceptable audit risk and the amount of substantive evidence required are inversely related.
a. True
b. False

95.
medium
a

As control risk increases, the amount of substantive evidence the auditor plans to accumulate
should increase.
a. True
b. False

96.
medium
b

Inherent risk and control risk are directly related.

a. True
b. False

Arens/Elder/Beasley

97.
medium
a

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.
a. True
b. False

98.
medium
a

Engagement risk is effectively the audit firms business risk.

a. True
b. False

99.
medium
b

Audit assurance is the complement of planned detection risk, that is, one minus planned
detection risk.
a. True
b. False

Arens/Elder/Beasley