CHAPTER 17

Multiple-Choice Questions
1. easy B When monetary-unit sampling has been concluded and the population is not considered acceptable, which one of the following courses of action would not be appropriate? a. Increase the sample size to see if this may satisfy the auditors tolerable misstatement requirements. b. Increase the tolerable misstatement amounts so that the error bounds are acceptable. c. Request the client to correct the population. d. Refuse to give an unqualified opinion. Both sampling and nonsampling risks are associated with a. tests of controls. b. substantive tests of transactions. c. tests of details of balances. d. all of the above. Tolerable misstatements for overstatements and understatements a. may be different amounts. b. must be different amounts. c. must be set at the same amount. d. will be determined by the statistical tables. Monetary-unit sampling is most commonly used when a. zero or few exceptions are expected. b. a dollar result is desired. c. the population data are maintained on computer files. d. all of the above. Tests for rates of occurrence are appropriately used in all but which of the following situations? a. Testing of internal controls. b. Substantive testing of transactions. c. Substantive testing of details of balances. d. Tests for rates of occurrence are appropriate for all of the above. Which of the following is not a type of statistical method that provides results in dollar terms? a. Variables sampling. b. Attributes sampling. c. Monetary-unit sampling. d. Sampling with probability proportional to size. When auditors sample for tests of details of balances, the objective is to determine a. whether the account balance being audited is fairly stated. b. whether the transactions being audited are free of misstatements. c. whether the controls being tested are operating effectively. d. whether the transactions and account balances being audited are fairly stated. The auditor must consider the possibility that the true population misstatement is greater than the amount of misstatement that is tolerable when the auditor is performing a. statistical sampling. b. nonstatistical sampling. c. monetary-unit sampling. d. all of the above. What is the purpose of stratification as used in applying stratified sampling to a population?

2. easy d

3. easy a

4. easy d

5. easy c

6. easy b

7. easy a

8. easy d

9.

17-1

easy b

a. b. c. d.

To avoid items that may contain misstatements. To emphasize certain items and deemphasize others. Either a or b. Neither a nor b.

10. medium a

If an auditor desires a greater level of assurance in auditing a balance, the acceptable risk of incorrect acceptance a. is reduced. b. is increased. c. is not changed. d. may be reduced or increased depending upon other circumstances. In selecting the items to include in the sample, the auditor must a. use a method that will guarantee that all items in the population are represented in the sample. b. have reasonable assurance of obtaining a representative sample. c. be assured of the randomness of the population. d. be assured that each item chosen in the sample is a material amount. In estimating the population misstatement, the first step in projecting from the sample to the population is to a. make a point estimate. b. revise the upper error bound. c. calculate the precision interval. d. determine the population mean. The relationship between required sample size and the acceptable risk of incorrect acceptance is a. inverse. b. direct. c. proportional. d. indeterminate. The final step in the evaluation of the audit results is the decision to a. accept the population as fairly stated or to require further action. b. determine sampling error and calculate the estimated total population error. c. project the point estimate. d. determine the error in each sample. The most commonly used method of statistical sampling for tests of details of balances is a. attributes sampling. b. variables sampling. c. discovery sampling. d. monetary-unit sampling. The primary factor affecting the auditors decision about ARIA is a. assessed control risk. b. assessed inherent risk. c. the interaction between control risk and inherent risk. d. sample size. When using monetary-unit sampling, the recorded dollar population is a definition of a. all the items in the population. b. the items in the population which the auditor has included in the sample. c. the items in the population which contain errors. d. the items in the sample which contain errors. If acceptable audit risk is reduced, ARIA should be a. increased.

11. medium b

12. medium a

13. medium a

14. medium a

15. medium d

16. medium a

17. medium a

18. medium

17-2

b. c. d.

reduced. unaffected. modified.

19. medium b

In monetary-unit sampling, the relationship between the tolerable misstatement size and the required sample size is a. direct; that is, larger tolerable misstatement leads to larger sample size. b. inverse; that is, larger leads to smaller. c. varied; that is, sometimes larger = larger, and sometimes larger = smaller. d. indeterminable. The risk the auditor is willing to take of accepting a balance as correct when the true error in the balance is greater than the tolerable misstatement is a. the upper bound. b. the tolerable risk. c. the acceptable risk of incorrect acceptance. d. the lower bound. Which of the following is the auditor least likely to consider when estimating misstatements in the population? a. Prior experience with the client. b. Results of current year tests of controls. c. Results of analytical procedures already performed. d. Acceptable audit risk. An accounts receivable population contains a total of four customers. The accounts, the amounts, and the cumulative total are shown below. Monetary-unit sampling is to be used. Account Recorded Cumulative Name Amount Total Blue $ 357 $ 357 Brown 281 638 Gray 60 698 Green 574 1,272 Based on the information above, the population size is a. 4. b. 574. c. 1,272. d. not relevant. An auditor using nonstatistical sampling cannot formally measure sampling error and therefore must subjectively consider the possibility that the true population misstatement exceeds a tolerable amount. Which of the following factors should not be considered by the auditor in making this assessment? a. The dollar difference between the point estimate and tolerable misstatement. b. The extent to which items in the population have been audited 100 percent. c. The sample size. d. All of the above should be considered. When using systematic selection procedures with monetary-unit sampling of accounts receivable, the interval is determined by a. consulting a random number table. b. dividing the population size by the desired sample size. c. dividing the sample size by the account with the largest dollar value. d. dividing the population size by the account receivable with the largest dollar value. In a probability-proportional-to-size (PPS) sample, all population physical audit units with an amount equal to or greater than the amount of the interval will automatically be included in the sample if the auditor uses

20. medium c

21. medium d

22. medium c

23. medium d

24. medium b

25. medium b

17-3

a. b. c. d. 26. medium b

random selection. systematic selection. block selection. stratified selection.

Which of the following actions would be inappropriate when the auditor concludes that the misstatements in a population may be larger than tolerable misstatement after considering sampling error, the population is not considered acceptable? a. Increase the sample size. b. Conclude that the difference is most likely a consequence of nonsampling risk rather than sampling risk. c. Request the client to adjust the account balance. d. Perform expanded audit tests in the affected audit areas. Monetary unit sampling is also referred to as all of the following except a. attributal sampling. b. dollar unit sampling. c. cumulative monetary amount sampling. d. sampling with probability proportional to size. The appropriate assumption to make regarding the overall percent of error in those population items containing an error is a. determined using random number tables. b. set after a quantitative analysis of clients internal control system. c. based on the auditors personal judgment in the circumstances. d. based on statistical analysis using confidence limits. In the absence of convincing information to the contrary, most auditors believe it is desirable to assume an overall percent of error in those items containing an error of a. 100% for both overstatements and understatements. b. between 5% and 10% for both overstatements and understatements. c. 20% for overstatements and 200% for understatements. d. 10% for both overstatements and understatements. When errors are found, a common assumption in practice is to assume a. a 100% assumption for all errors. b. that the population errors are larger than the sample errors. c. that the population errors are smaller than the sample errors. d. that the actual sample errors are representative of the population errors. The auditor must deal with layers of the computed upper deviation rate from the attributes table because there are different error assumptions for each error. Assume a sample of 100 had found one error, and the computed upper deviation rate is shown in the following table: Number Upper Precision of ErrorsLimit from Table 0 .023 1 .038 The increase in precision limit for the layer with one error is a. 2.3%. b. 3.8% c. 6.1%. d. 1.5%. Assume that an auditor is interested in using monetary unit sampling to audit a clients accounts receivable balance. The balance is composed of 1,502 customers accounts. In addition, there are 73,019 invoices that total $8,276,912. For purposes of applying monetary unit sampling to the clients accounts receivable, the population is

27. medium a

28. medium c

29. medium a

30. medium d

31. medium d

32. medium b

17-4

a. b. c. d. 33. medium b

1,502. 8,276,912. 73,019. There is insufficient information to determine the population size.

Which balance-related audit objective cannot be assessed using monetary unit sampling? a. Accuracy. b. Completeness. c. Existence. d. All of the above can be assessed using monetary unit sampling. The confidence limits in variables sampling are similar to the monetary-unit samplings a. point estimate. b. misstatement bounds. c. standard deviation. d. standard error of the mean. The method used to measure the estimated total error amount in a population when there is both a recorded value and an audited value for each item in the sample is a. difference estimation. b. mean-per-unit estimation. c. ratio estimation. d. monetary-unit sampling. The variables sampling method which generally results in smaller sample sizes than any other method is a. ratio estimation. b. difference estimation. c. monetary-unit sampling. d. mean-per-unit estimation. The auditor is concerned with the audited value rather than the error amount of each item in the sample when using a. difference estimation. b. mean-per-unit estimation. c. ratio estimation. d. monetary-unit sampling. Probability proportional to size samples can be obtained in an efficient manner using all but which of the following? a. Hand selection by the auditor. b. Computer software. c. Random number tables. d. Systematic sampling techniques. The average audited value of items in the sample multiplied times the population size is the a. point estimate. b. recorded book value. c. upper confidence limit. d. computed precision interval.

34. medium b

35. medium a

36. medium b

37. medium b

38. medium a

39. medium a

40. medium a

Which of the following items does not have to be calculated, or estimated, in applying monetary unit sampling? a. A point estimate for misstatements. b. A sample size. c. Acceptable risk of incorrect acceptance.

17-5

d. 41. medium a

All of the above must be calculated.

While performing a substantive test of details during an audit, the auditor determined that the sample results supported the conclusion that the recorded account balance was materially misstated. It was, in fact, not materially misstated. This situation illustrates the risk of a. incorrect rejection. b. incorrect acceptance. c. assessing control risk too low. d. assessing control risk too high. The next five questions apply to an examination by Roberts & Lambert, CPAs, of the financial statements of Rainbow Manufacturing Corporation for the year ending Dec. 31, 2003. Rainbow manufactures two products: Product A and Product B. Product A requires raw materials that have a very low per-item cost, and Product B requires raw materials that have a very high per-item cost. Raw materials for both products are stored in a single warehouse. In 2004, Rainbow established the total value of raw materials stored in the warehouse by physically inventorying an unrestricted random sample of items selected without replacement. Lambert is evaluating the statistical validity of alternative sampling plans Rainbow is considering for 2005. He knows the size of the 2004 sample and that Rainbow did not use stratified sampling in 2004. Assumptions about the population, variability, specified precision (confidence interval), and specified reliability (confidence level) for a possible 2005 sample are given in each of the following five items. You are to indicate in each case the effect upon the size of the 2005 sample as compared to the 2004 sample. Each of the five cases is independent of the other four and is to be considered separately.

42. medium d

Rainbow wants to use stratified sampling in 2005. Compared to 2004, the population size of the raw materials inventory is approximately the same, and the variability of the items in the inventory is approximately the same. Rainbow specified the same precision but desires to change the specified reliability from 90%. Under these assumptions, the required sample size for 2005 should be a. smaller than the 2004 sample size. b. equal to the 2004 sample size. c. larger than the 2004 sample size. d. of a size that is indeterminate based upon the information given to you.

17-6

43. medium d

Rainbow wants to use unrestricted random sampling without replacement in 2005. Compared to 2004, the population size of the raw materials inventory has increased, but the variability of the items in the inventory has decreased. The specified precision and specified reliability are to remain the same. Under these assumptions, the required sample size for 2005 should be a. smaller than the 2004 sample size. b. equal to the 2004 sample size. c. larger than the 2004 sample size. d. of a size that is indeterminate based upon the information given to you. Rainbow wants to use unrestricted random sampling without replacement in 2005. Compared to 2004, the population size of the raw materials inventory is approximately the same and the variability of the items in the inventory is approximately the same. Rainbow specifies the same precision but desires to change the specified reliability from 90% to 95%. Under these assumptions, the required sample size for 2005 should be a. smaller than the 2004 sample size. b. equal to the 2004 sample size. c. larger than the 2004 sample size. d. of a size that is indeterminate based upon the information given to you. Rainbow wants to use unrestricted random sampling without replacement in 2005. Compared to 2004, the population size of the raw materials inventory has increased and the variability of the items in the inventory has increased. The specified precision and specified reliability are to remain the same. Under these assumptions, the required sample size for 2005 should be a. smaller than the 2004 sample size. b. equal to the 2004 sample size. c. larger than the 2004 sample size. d. of a size that is indeterminate based upon the information given to you. An auditor using nonstatistical sampling cannot a. draw a random sample. b. determine a point estimate for the population. c. mathematically measure the precision of the point estimate. d. do any of the three above. In monetary-unit sampling, the values of the estimated likely maximum misstatements are referred to as the a. point estimates. b. precision intervals. c. confidence intervals. d. misstatement bounds. When using monetary-unit sampling, evaluating the likelihood of unrecorded items in the population a. is unnecessary. b. is impossible. c. is possible but difficult. d. is an automatic outcome of the process. What is the most common percent of misstatement assumption used in applying monetary unit sampling? a. 20 percent for overstatements and 100 percent for understatements. b. 200 percent for overstatements and 100 percent for understatements. c. 100 percent for overstatements and 100 percent for understatements. d. 10 percent for overstatements and 10 percent for understatements. The statistical methods used to evaluate monetary-unit samples a. neither exclude nor include units twice.

44. medium c

45. medium c

46. challenging c

47. challenging D

48. challenging B

49. challenging C

50. challenging

17-7

b. c. d.

permit the inclusion of a unit in the sample more than once. do not permit a unit to be included in the sample more than once. ignore the possibility that a unit may be included in a sample more than once.

51. challenging B

Which of the following is not a problem with monetary-unit selection? a. Population items with a zero recorded balance. b. Population items that should have a zero balance but do not. c. Accounts with negative balances. d. Accounts with small recorded balances that are significantly understated. The statistical results when monetary-unit sampling is used are referred to as a. confidence intervals. b. balances. c. computed upper and lower deviation rate. d. misstatement bounds. Because tables are used in the calculation of misstatement bounds, the point estimate and sampling error are not calculated. This is because a. they are extraneous and not needed. b. this method determines the amount of error exactly, and doesnt need to develop a range. c. their calculation is impossible with this method. d. the tables include both the point estimate and the sampling error to derive the upper bound. Monetary-unit sampling, just like attributes sampling, requires that the auditor evaluate the nature and cause of the errors discovered. An important part of error analysis is deciding a. if the error represents sampling risk. b. whether an adjusting entry is needed. c. the type of opinion to express on this engagement. d. whether any modification of the audit risk model is needed. There are many kinds of statistical estimates that an auditor may find useful, but basically every accounting estimate is either of a quantity or of an error rate. The statistical terms that roughly correspond to quantities and error rate, respectively, are a. attributes and variables. b. variables and attributes. c. constants and attributes. d. constants and variables. If the auditor believes that there will be more than just a few exceptions discovered, and desires an accurate estimate of the dollar value of the exceptions, he or she will use a. attributes sampling. b. monetary-unit sampling. c. block sampling. d. variables sampling.

52. challenging D

53. challenging D

54. challenging D

55. challenging b

56. challenging D

17-8

57. challenging D

Stratified sampling is applicable to difference, mean-per-unit, and ratio estimation, but it is most commonly used with a. ratio estimation. b. discovery sampling. c. difference estimation. d. mean-per-unit estimation. An important statistic to consider when using a statistical sampling audit plan is the population variability. The population variability is measured by the a. sample mean. b. standard deviation. c. standard error of the sample mean. d. estimated population total minus the actual population. Using statistical sampling to assist in verifying the year-end accounts payable balance, an auditor has accumulated the following data: Balance Number of Book determined by accounts balance the auditor Population: 4,100 $5,000,000 ? Sample: 200 $ 250,000 $300,000 Using the ratio estimation technique, the auditors estimate of year -end accounts payable balance would be a. $5,050,000. b. $5,125,000. c. $6,000,000. d. $6,150,000.

58. challenging B

59. challenging C

The following information relates to the next five questions: An audit partner is developing an office-training program to familiarize his professional staff with statistical decision models applicable to the audit of dollar-value balances. He wishes to demonstrate the relationship of sample sizes to population size and variability and the auditors specifications as to precision and confidence level. The partner prepared the following table to show comparative population characteristics and audit specifications of two populations. Characteristics of population 1 relative to population 2 Audit specifications of a sample from population 1 relative to a sample from population 2 Specified Specified confidence precision level Equal Higher Tighter Equal Tighter Lower Equal Lower Equal Higher

Case 1 Case 2 Case 3 Case 4 Case 5 60. challenging a

Size Equal Equal Larger Smaller Larger

Variability Equal Larger Equal Smaller Equal

Based on the information presented above, you are to indicate for the specified case from the table the required sample size to be selected from population 1 relative to the sample from population 2. In case 1, a. the required sample from population 1 is larger than the required sample size from population 2. b. the required sample from population 1 is equal to the required sample size from population 2.

17-9

c. d.

the required sample from population 1 is smaller than the required sample size from population 2. the sample from population 1 is indeterminate relative to the required sample size from population 2.

61. challenging a

Based on the information presented above, you are to indicate for the specified case from the table the required sample size to be selected from population 1 relative to the sample from population 2. In case 2, a. the required sample from population 1 is larger than the required sample size from population 2. b. the required sample from population 1 is equal to the required sample size from population 2. c. the required sample from population 1 is smaller than the required sample size from population 2. d. the sample from population 1 is indeterminate relative to the required sample size from population 2. Based on the information presented above, you are to indicate for the specified case from the table the required sample size to be selected from population 1 relative to the sample from population 2. In case 3, a. the required sample from population 1 is larger than the required sample size from population 2. b. the required sample from population 1 is equal to the required sample size from population 2. c. the required sample from population 1 is smaller than the required sample size from population 2. d. the sample from population 1 is indeterminate relative to the required sample size from population 2. Based on the information presented above, you are to indicate for the specified case from the table the required sample size to be selected from population 1 relative to the sample from population 2. In case 4, a. the required sample from population 1 is larger than the required sample size from population 2. b. the required sample from population 1 is equal to the required sample size from population 2. c. the required sample from population 1 is smaller than the required sample size from population 2. d. the sample from population 1 is indeterminate relative to the required sample size from population 2. Based on the information presented above, you are to indicate for the specified case from the table the required sample size to be selected from population 1 relative to the sample from population 2. In case 5, a. the required sample from population 1 is larger than the required sample size from population 2. b. the required sample from population 1 is equal to the required sample size from population 2. c. the required sample from population 1 is smaller than the required sample size from population 2. d. the sample from population 1 is indeterminate relative to the required sample size from population 2. Why do auditors find MUS appealing? a. MUS increases the likelihood of selecting high dollar items. b. MUS is easy to use in the audit environment. c. MUS provides a statistical, rather than a nonstatistical, conclusion.

62. challenging d

63. challenging c

64. challenging a

65. challenging d

17-10

d. 66. challenging D

All of the above.

In the application of statistical techniques to the estimation of dollar amounts, a preliminary sample is usually taken primarily for the purpose of estimating the population a. mode. b. range. c. median. d. variability.

Essay Questions
67. easy Explain the decision rule used in monetary-unit sampling to decide whether the population is acceptable. Answer: The auditor will accept the conclusion that the population (book value) is not misstated by a material amount if both the lower misstatement bound and the upper misstatement bound fall between the understatement and overstatement tolerable misstatement amounts .

68. easy

What are the three primary types of sampling methods used for calculating dollar misstatements in auditing? Answer: Nonstatistical sampling, monetary unit sampling, and variables sampling. There are 14 steps to audit sampling for tests for details of balances, divided into three sections: plan the sample, select the sample and perform the audit procedures, and evaluate the results. Discuss each of the steps included in the evaluate the results section for nonstatistical sampling. Answer: The steps included in the evaluate the results section are: 1. Generalize from the sample to the population. This involves (1) projecting misstatements found in the sample to the population and (2) allowing for sampling risk. 2. Analyze the misstatements. The auditor should evaluate the nature and cause of each misstatement found in the sample. 3. Decide the acceptability of the population. If the projected misstatement (point estimate), combined with the allowance for sampling risk, is less than tolerable misstatement, the auditor will accept the population as fairly stated.

69. medium

70. medium

There are four steps to generalize from the sample to the population using difference estimation sampling. Identify each of these four steps. Answer: The four steps to generalize from the sample to the population using difference estimation sampling are: 1. Compute the point estimate of the total misstatement. 2. Compute an estimate of the population standard deviation. 3. Compute the precision interval. 4. Compute the confidence limits.

17-11

71. medium

The most important difference among tests of controls, substantive tests of transactions, and tests of details of balances is in what the auditor wants to measure. Explain what each type of test attempts to measure. Answer: Tests of controls focus on testing the effectiveness of internal controls. In substantive tests of transactions, the auditor is concerned about both the effectiveness of internal controls and the monetary correctness of transactions in the accounting system. In tests of details of balances, the concern is determining whether the dollar amount of an account balance is materially misstated.

72. medium

Discuss the advantages and disadvantages of monetary-unit sampling over other sampling methods. Answer: Advantages of monetary-unit sampling include: It automatically increases the likelihood of selecting high dollar items from the population being audited. It frequently reduces the cost of doing the audit testing because several sample items are tested at once. It is appealing to auditors because of its ease of application. It provides a statistical conclusion rather than a nonstatistical one, which aids auditors in making better and more defensible conclusions. Disadvantages of monetary-unit sampling include: The total misstatement bounds resulting when exceptions are found may be too high to be useful to the auditor. It is cumbersome to select probability-proportional-to-size samples from large populations without computer assistance.

73. medium

Explain the decision rule used with difference estimation sampling to decide whether the population is acceptable. Answer: The auditor will decide to accept the population as fairly stated when the two-sided confidence interval for the misstatements is completely within the plus and minus tolerable misstatements. Otherwise, the auditor will conclude that the book value is misstated by a material amount.

74. challenging

Explain ARIA and ARIR within the context of variables sampling. Answer: After an audit test is performed and statistical results are calculated, the auditor must conclude either that the population is not materially misstated or that it is materially misstated. ARIA is the statistical risk that the auditor has accepted a population that is actually materially misstated. This is a serious concern to auditors because there are potential legal implications in concluding that an account balance is fairly stated when it is misstated by a material amount. ARIR is the statistical risk that the auditor has concluded that a population is materially misstated when it is not. The only time that ARIR affects the auditors actions is when an auditor concludes that a population is not fairly stated. ARIR is important only when there is a high cost to increasing the sample size or performing other tests.

17-12

75. challenging

State the formula used in difference estimation sampling to compute the precision interval for the estimate of the total population misstatement, and define each element of the formula. Answer: CPI =

NZA

SD n

N n N

where: CPI = computed precision interval N = population size ZA = confidence coefficient for ARIA SD = population standard deviation n = sample size

N n = finite correction factor N

76. challenging Identify each of the eight factors that influence sample size for nonstatistical tests of details of balances, and state whether each factor is directly or inversely related to sample size. Answer: Factors that influence sample size for nonstatistical tests are: Control risk. Control risk is directly related to sample size; as control risk increases, sample size also increases. Results of other substantive tests related to the same assertion . Directly related to sample size; unsatisfactory results lead to a larger sample size. Satisfactory results lead to a smaller sample size. Acceptable audit risk. Inversely related to sample size; as AAR increases, sample size decreases. Tolerable misstatement for a specific account. Inversely related; as tolerable misstatement increases, sample size decreases. Inherent risk. Directly related; as inherent risk increases, sample size also increases. Expected size and frequency of misstatements. Directly related; as the size and frequency of expected misstatements increase, sample size also increases. Number of items in the population. Directly related, but has only a minor effect on sample size. Dollar amount of population. Directly related; larger account balance leads to larger sample size

77. challenging

There are 14 steps to audit sampling for tests of details of balances, divided into three sections: plan the sample, select the sample and perform the audit procedures, and evaluate the results. Discuss each of the steps included in the plan the sample section for nonstatist ical sampling. Answer: The steps comprising the plan the sample section are: 1. State the objective of the audit test. For tests of details of balances, the objective is to determine whether the account balance being audited is fairly stated. 2. Decide if audit sampling applies. In certain situations, the auditor may choose to test all large items and no small items. In those situations, the auditor has not sampled. 3. Define misstatement conditions. Misstatement conditions are any conditions that represent a monetary misstatement in a sample item. 4. Define the population. The recorded book value of the account being audited is the population. 5. Define the sampling unit. For nonstatistical sampling in tests of details of balances, the sampling unit is almost always the item making up the account balance.

17-13

6. 7.

8. 9.

Specify tolerable misstatement. This is the amount of materiality allocated to the account under audit. Specify the acceptable risk of incorrect acceptance. This is the risk that the auditor is willing to take of accepting a balance as correct when the true misstatement in the balance is greater than tolerable misstatement. Estimate misstatements in the population. Determine the initial sample size. In nonstatistical sampling, this is determined judgmentally considering the previous eight factors.

78. challenging

When using nonstatistical sampling, the auditor must subjectively consider whether the true population misstatement exceeds a tolerable amount. This is done by considering five factors. One factor is the difference between the point estimate and tolerable misstatement. State the other four factors the auditor must consider. Answer: Other factors the auditor must consider are: The extent to which items in the population have been audited 100%. Whether misstatements tend to be offsetting or in only one direction. The amounts of individual misstatements. Sample size.

79. challenging

Discuss each of the six possible courses of action the auditor can take when he or she has concluded that the population is misstated by more than a tolerable amount. Answer: The six possible courses of action the auditor can take when he or she has concluded that the population is misstated by more than a tolerable amount are: Take no action until tests of other audit areas are completed. If offsetting misstatements are found in other parts of the audit, the auditor may conclude that the population is acceptable. Perform expanded audit tests in specific areas. Increase the sample size. As sample size increases, sampling error is reduced if the rate of misstatements in the expanded sample, their dollar amount, and their direction are similar to those in the original sample. This may result in the population being acceptable. Adjust the account balance. In some circumstances, if the client corrects the misstatements discovered by the auditor, the book value of the account may become acceptable. Request the client to correct the entire population. Refuse to give an unqualified opinion. If none of the prior courses of action result in an acceptable population, the auditor will have to issue either a qualified or an adverse opinion.

80. challenging

There are seven steps to calculate adjusted misstatement bounds when both overstatement and understatement errors are discovered in monetary-unit sampling. Step one is Determine misstatement for each sample item, keeping overstatements and understatements separate. Discuss each of the remaining six steps. Answer: The remaining six steps are: Calculate misstatement per dollar unit in each sample item (misstatement/recorded value). Layer misstatements per dollar unit from highest to lowest.

17-14

Determine upper precision limit from attributes sampling table, and calculate the percent misstatement bound for each misstatement (layer). Calculate initial upper and lower misstatement bounds for each layer and total. Calculate point estimate for overstatements and understatements. Calculate adjusted upper and lower misstatement bounds.

81. challenging

The nine steps in planning the sample are almost identical for nonstatistical sampling and difference estimation. However, there are three important differences. Discuss each of the three differences. Answer: The three differences in the steps in planning the sample for nonstatistical sampling and difference estimation are: When using difference estimation, in addition to acceptable risk of incorrect acceptance, the auditor specifies acceptable risk of incorrect rejection. When using difference estimation, the auditor makes an advance estimate of the population standard deviation. When using difference estimation, the sample size is calculated using a formula.

Other Objective Answer Format Questions

82. medium Match five of the terms (a-l) with the definitions provided below (1-5): a. b. c. d. e. f. g. h. i. j. k. l. I Acceptable risk of incorrect acceptance Acceptable risk of incorrect rejection Difference estimation Misstatement bounds Monetary-unit sampling Mean-per-unit estimation Point estimate Probability-proportional-to-size sample selection Ratio estimation Statistical inferences Stratified sampling Variable sampling 1. A method of variables sampling in which the auditor estimates the population misstatement by multiplying the portion of sample dollars misstated by the total recorded population book value and also calculates sampling risk. A method of projecting from the sample to the population to estimate the population misstatement, commonly by assuming that misstatements in the unaudited population are proportional to the misstatements found in the sample. The risk that the auditor is willing to take of concluding a balance is materially misstated when it is, in fact, fairly stated. A method of sampling in which all the elements in the total population are divided into two or more subpopulations that are independently tested and statistically measured. A method of variables sampling in which the auditor estimates the population misstatement by multiplying the average misstatement in the sample by the total

2.

3.

4.

5.

17-15

number of population items and also calculates sampling risk. The primary factor affecting the auditors acceptable risk of incorrect acceptance is assessed inherent risk. a. True b. False The two primary types of sampling methods used for calculating dollar misstatements are attributal sampling and monetary unit sampling. a. True b. False In monetary-unit sampling, the likelihood of high dollar items from the population being included in the sample is greater than the likelihood for small dollar items. a. True b. False Acceptable risk of incorrect rejection is the statistical risk that the auditor has concluded that a population is materially misstated when it is not. a. True b. False Tolerable misstatement is inversely related to sample size; that is, as tolerable misstatement increases, sample size decreases. a. True b. False Acceptable risk of incorrect acceptance (ARIA) and sample size are inversely related; that is, as ARIA increases, sample size decreases. a. True b. False Estimated misstatement in the population and sample size are inversely related; that is, as estimated misstatement increases, sample size decreases. a. True b. False The purpose of stratification is to permit auditors to emphasize certain aspects of a population and deemphasize others. a. True b. False An auditor using nonstatistical sampling cannot formally measure sampling error. a. True b. False When using nonstatistical sampling, the larger the sample size, the greater the auditors confidence that the point estimate is close to the true population value. a. True b. False Required sample size increases as the auditors tolerable misstatement for an account balance or class of transactions decreases. a. True b. False

83. easy b

84. easy b

85. easy a

86. easy a

87. medium a

88. medium a

89. medium b

90. medium a

91. medium a 92. medium a

93. medium a

17-16

94. medium b

The use of monetary-unit sampling is most appropriate when the auditor expects to find many errors and when a monetary result is desired. a. True b. False Difference estimation frequently results in smaller sample sizes than any other variables sampling method. a. True b. False The sample size is inversely related to the computed precision interval in difference estimation; that is, as sample size increases, the computed precision interval decreases. a. True b. False In difference estimation sampling, the confidence limits are calculated by combining the point estimate of the total misstatements and the computed precision interval at the desired confidence level. a. True b. False The primary factor affecting the auditors decision about ARIA is assessed inherent risk. a. True b. False The purpose of stratified sampling is to achieve a greater confidence level (lower risk of incorrect acceptance) for a given sample size. a. True b. False Acceptable risk of assessing control risk too low (ARACR) and acceptable risk of incorrect acceptance (ARIA) are inversely related; that is, a decrease in ARACR is accompanied by an increase in ARIA. a. True b. False Acceptable audit risk (AAR) and acceptable risk of incorrect acceptance (ARIA) are inversely related; that is, as AAR increases, ARIA decreases. a. True b. False Accounts with zero or negative year-end balances have no chance of being included in a standard probability-proportional-to-size (PPS) sample. a. True b. False The statistical results when MUS is used are called misstatement bounds. a. True b. False

95. medium a

96. medium a

97. medium a

98. medium b 99. challenging b

100. challenging a

101. challenging b

102. challenging a

103. challenging a

17-17

104. challenging a

Acceptable risk of incorrect acceptance (ARIA) is inversely related to the computed precision interval in difference estimation; that is, as ARIA increases, the computed precision interval decreases. a. True b. False The population standard deviation of the misstatements from the sample is inversely related to the computed precision interval in difference estimation; that is, as the standard deviation increases, the computed precision interval decreases. a. True b. False The standard error of a sampling distribution based on a sufficiently large sample size equals the populations standard deviation divided by the square root of the population size. a. True b. False The following information relates to the next two questions: You have been assigned to audit your clients accounts receivable account which has a year -end balance of $800,000. You have decided to use monetary-unit sampling (also known as probability-proportional-to-size sampling). Your tolerable misstatement for both overstatements and understatements is $20,000, and you expect the account to be overstated $2,000. Your average percent of error assumption is 50% for overstatements and 25% for understatements. Your acceptable risk of incorrect acceptance for accounts receivable is 10%.

105. challenging b

106. challenging b

107. medium 77 $11,600 $5,800 accept

Assuming no misstatements are found in the sample, determine each of the following (for parts b through d, assume a sample of size 80 was used). a. b. c. d. Sample size Upper error bound Lower error bound Your decision is to

108. challenging

Now, assume the following three errors were discovered in the sample: Recorded Accounts Receivable Amount $ 5,400 11,500 6,800 Correct Accounts Receivable Amount $ 4,500 11,900 4,800

Customer Number 3045 3119 3482

Assuming a sample of size 80 was used, determine each of the following: $4,608 $348 $30,070 $23,729 $29,722 a. b. c. d. e. Point estimate for overstatements Point estimate for understatements Initial upper misstatement bound Initial lower misstatement bound Adjusted upper misstatement bound

17-18

$19,121 accept

f. g.

Adjusted lower misstatement bound Your decision is to (accept or reject)

17-19