Chapter 16 Operational and Governmental Compliance Auditing 14 Operational and Governmental Compliance Auditing MULTIPLE CHOICE: In a broad sense, society benefits from internal auditing because the internal auditor a Encourages corporate compliance with standards of public policy b Promotes the efficient and effective use of resources c Evaluates financial data against professional standards d Ensures that operations respond to the demands of the marketplace ANSWER: Which of the following factors are essential to an effective internal auditing organization? I II III IV Operating responsibility Organizational status Objectivity Authority over operations a b c d I and II II and III III and IV I and IV ANSWER: B B The primary difference between operational auditing and financial auditing is that in operational auditing a The auditor is not concerned with whether the audited activity is generating information in compliance with financial accounting standards b The auditor is seeking to help management use resources in the most effective manner possible c The auditor starts with the financial statements of an activity being audited and works backward to the basic processes involved in producing them d The auditor can use analytical skills and tools that are not necessary in financial auditing ANSWER: B 15 Chapter 16 Operational and Governmental Compliance Auditing The internal audit staff has been asked to conduct an audit of the purchasing department Top management feels that there have been some production bottlenecks recently because of out-of-stock situations What is the primary objective of the auditors in this assignment? a b c d ANSWER: D Which of the following would be the most appropriate role for the internal auditor in the cash budgeting process? a b c d ANSWER: To appraise the economy with which resources are employed To review the reliability and integrity of financial and operating information To review the means of safeguarding assets and verifying the existence of such assets To ascertain whether results are consistent with established objectives and whether operations are being carried out as planned Reviewing budget policies and the design and functioning of the budget process Working with the controller to prepare the budget Approving the budget before its implementation Analyzing monthly budget reports A An internal auditor is performing an audit of the receiving department to determine if only authorized purchases are being accepted Which of the following documents should the auditor examine? a b c d A bill of lading A “blind” (no quantities shown) copy of the purchase order received directly from the purchasing department An invoice A note documenting a telephone conversation with a purchasing agent ANSWER: B An auditor is attempting to determine whether or not inventory is excessive The inventory turnover rate was 4.7 this year as compared to 6.0 the prior year The average Chapter 16 Operational and Governmental Compliance Auditing 16 rate for the industry over the past three years was 6.2 From these facts, the auditor should conclude a b c d ANSWER: b c d ANSWER: Vouch payments made on the investment to the controller’s approval Review minutes of board of directors’ meetings for investment approval Compliance test the functioning of the internal controls over expenditures Confirm details of the purchase with the vendor B Which of the following is not usually a part of the preliminary survey phase of an audit? a b c d ANSWER: 10 A Which of the following would be the most appropriate test to determine if a major investment in a fixed asset was properly authorized? a An inventory turnover rate this much lower than “normal” suggests the possibility of excess inventory There is definitely an excess inventory problem because the turnover rate is 1.5 times less than the industry average The turnover rate differences are immaterial and thus not indicate a problem The possibility of excess inventory is not apparent from these figures Touring operations Conducting audit inquiries Performing analytical review Developing the audit program D An auditor decides to test the effectiveness and efficiency of the short-term strategy being employed to market product X Which of the following would be the most appropriate audit procedure? a Discuss the effectiveness and the strategy with the director of marketing 17 Chapter 16 Operational and Governmental Compliance Auditing b c d ANSWER: 11 b c d ANSWER: Determine the dates of unpaid accounts payable invoices Compare dates of selected purchase orders with those of purchase requisitions Select a block of used purchase order numbers and account for all numbers in the block Discuss processing procedures with operating personnel and observe actual processing of purchases B In an audit of the transportation function, which of the following tests is most appropriate to determine if there is favoritism to individual carriers? a b c d ANSWER: 13 D Which of the following would be the most appropriate test to determine whether purchase orders are being processed on a timely basis? a 12 Discuss the effectiveness of the strategy with sales supervisors and individual salespersons Compare sales of product X prior to and after implementation of the short-term marketing strategy Evaluate performance goals incorporated into the shortterm strategy, and whether those goals are being met Investigate selected demurrage charges to determine if they were appropriate Determine if the selection of carriers is reviewed and approved by a higher-ranking member of the traffic department Determine whether freight bills have received a postaudit by the transportation department or an outside specialized freight auditor Determine that the amount of freight billed to the customer on the sales invoice is equal to the amount actually charged your company by the carrier B In the performance of an audit, audit risk is best defined as the risk that an internal auditor a Might not select documents that are in error as part of the examination Chapter 16 Operational and Governmental Compliance Auditing b c d ANSWER: 14 May not be able to properly evaluate an organization because of its poor internal accounting controls May unknowingly fail to recognize appropriately a material error or weakness in an examined organization May not have the expertise to adequately audit a specific entity C The role of the internal auditor with respect to a purchasing department audit is to a b c d ANSWER: 15 18 Evaluate the adequacy of purchasing policies and procedures and determine the extent of compliance Review and appraise the adequacy of controls over the creation of all types of company obligations Review and appraise the conditions by which notes payable come into existence and the control exercised over them Establish that the purchasing department is independent of receiving, inspection, stores, and accounts payable activities A In examining whether or not an auditee is conforming with the company’s affirmative action policy, the internal auditor has found that: 1) 2) Five percent of the employees are from minority groups No one from a minority group has been hired this year The most appropriate conclusion the internal auditor should draw is a b c d ANSWER: 16 Insufficient evidence exists of compliance with the affirmative action policy The auditee is violating the company’s policy The company’s policy is unauditable and hence unenforceable The auditee is complying with the affirmative action policy A Which of the following is the most important purpose of a closing conference? 19 Chapter 16 Operational and Governmental Compliance Auditing a b c d ANSWER: 17 A The primary audience for the written report issued by the internal auditor at the completion of an audit should be a b c d ANSWER: 18 To provide a final quality control review of the accuracy of findings and reasonableness of conclusions included in the report To inform the board of directors and top management concerning major problems encountered To give auditee managers an advance start on solving the problems outlined in the report To provide the auditor an opportunity to “sell” auditee management on the benefits of implementing recommendations The external auditors when they intend to rely on the internal auditor’s work Managers outside the area of audit so as to inform them of what is going on in other areas of the organization The audit committee who needs to be kept informed on the risks to which the organization is exposed The management inside or outside the audited area who can take corrective action D An internal auditor determines that actual procedures differ from prescribed control procedures The auditor should Require operating personnel to conform to prescribed procedures Document the discrepancies and make any appropriate recommendations to management Expand all aspects of the audit to determine other differences from prescribed procedures Modify the audit plan as warranted by the differences noted a b c d 2 ANSWER: D and and and and 3 4 Chapter 16 Operational and Governmental Compliance Auditing 19 One of the elements of a standard audit finding is “criteria.” Which of the following best describes this element of an audit finding? a b c d ANSWER: 20 What the auditor found, the status, or condition The effect that implementing a recommendation is expected to achieve The standard of performance, or what should be The cause or reason why the reported condition occurred C Follow-up activities by the internal auditor may be terminated, even though corrective action has not been taken, when the a b c d ANSWER: 21 20 Recommendations concern activities not included in the scope of the original audit program Board of directors or management has assumed the risk of not taking corrective action Auditor has not convinced operating personnel of the soundness of the audit recommendations Auditor has no authority or responsibility to prescribe or direct the corrective action B An internal auditor is preparing a final audit report to management There is, however, disagreement between the auditor and the auditee on one finding which details the auditee’s violation of corporate purchasing policy The auditee believes the purchasing policy is open to interpretation and that there was no violation The auditor believes that the policy is clearly stated and that the auditee’s actions were a violation In this circumstance, the auditor should a b c d Delete the finding from the audit report Present only those facts, which support the audit finding and ignore those which detract from it Present both the auditor’s and auditee’s positions in the report Not issue the audit report until the auditor and auditee agree on all audit findings and recommendations 21 Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 22 C A governmental audit may extend beyond an examination leading to the expression of an opinion on the fairness of financial presentation to include Program results Yes Yes No Yes a b c d ANSWER: 23 Compliance Yes Yes Yes No Economy & efficiency No Yes Yes Yes B Chevez is auditing an entity’s compliance with requirements governing a major federal financial assistance program in accordance with the Single Audit Act Chevez detected noncompliance with requirements that have a material effect on that program Chevez’ report on compliance should express a(an) a b c d ANSWER: Unqualified opinion with a separate explanatory paragraph Qualified opinion or an adverse opinion Adverse opinion or a disclaimer or opinion Limited assurance on the items tested B 24 A company’s new president meets the director of internal audit for the first time, and asks the director to briefly describe his department’s overall responsibility The director states that internal audit’s overall responsibility is to: a b c d Act as an independent appraisal function to review operations as a service to management by measuring and evaluating the effectiveness of controls Review the means of safeguarding assets and, as appropriate, verify the existence of such assets Ensure compliance with policies, plans, procedures, laws, and regulations, which could have a significant impact on operations and reports Review the reliability and integrity of financial and operating information and the means used to identify, measure, classify, and report such information Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 25 To determine if corrective action was taken and is achieving the desired results Unless management rejected the recommendation in their initial response Unless the audit schedule does not allow time for follow-up Unless management has accepted the recommendation b c d ANSWER: A Internal auditing has been a dynamic profession Which of the following best describes the scope of internal auditing as it has developed to date? a b c d ANSWER: 27 A According to the Standards, the internal audit director should ensure follow-up of prior audit findings and recommendations: a 26 22 Internal auditing involves appraising the economy and efficiency with which resources are employed Internal auditing involves evaluating compliance with policies, plans, procedures, laws, and regulations Internal auditing has evolved to verifying the existence of assets and reviewing the means of safeguarding assets Internal auditing has evolved to more of an operational orientation from a strictly financial orientation D You have been selected to develop an internal auditing department for your company Your approach would most likely be to hire: a b c d Internal auditors each of whom possesses all the skills required to handle all audit assignments Inexperienced personnel and train them the way the company wants them trained Degreed accountants since most audit work is accounting related Internal auditors who collectively have the knowledge and skills needed to complete all internal audit assignments 23 Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 28 Which of the following is the most appropriate method of reporting disagreement between the auditor and the auditee concerning audit findings and recommendations? a b c d ANSWER: 29 State the auditor’s position because the report is designed to provide the auditor’s independent view State the auditee’s position because management is ultimately responsible for the activities reported State both positions and identify the reasons for the disagreement State neither position If the disagreement is ultimately resolved, there will be no reason to report the previous disagreement If the disagreement is never resolved, the disagreement should not be reported, because there is no mechanism to resolve it C A charter is being drafted for a newly formed internal auditing department Which of the following best describes the appropriate organizational status that should be incorporated into the charter? a b c d ANSWER: 30 D The director of internal auditing should report to the chief executive officer but have access to the board of directors The director of internal auditing should be a member of the audit committee of the board of directors The director of internal auditing should be a staff officer reporting to the chief financial officer The director of internal auditing should report to an administrative vice president A A primary concern of an operational audit of the family welfare department of a governmental unit would be a b c d Determining that proper measures of performance are used Generating an adequate return on investment Adhering to Generally Accepted Accounting Principles Ensuring that persons with direct client contact have at least a bachelor’s degree Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 31 b c d ANSWER: The director reports directly to an independent audit committee of the board of directors The director of internal auditing is not assigned any operational responsibilities A director of internal auditing may not be appointed or approved without concurrence of the board of directors The director’s annual bonuses are based on dollar recoveries or recommended future savings as a result of audits D The president wants to know whether the purchasing function is properly meeting its charge to: “purchase the right material at the right time in the right quantities.” Which of the following types of audits addresses the president’s request? a b c d ANSWER: 33 A Which of the following could be an organization factor that might adversely affect the ethical behavior of the director of internal auditing? a 32 24 A financial audit of the purchasing department An operational audit of the purchasing department A compliance audit of the purchasing function A full-scope audit of the manufacturing operation B Which of the following audit techniques would be most persuasive in determining that significant inventory values on the books of a comp[any being acquired are correctly stated? a b c d Obtain a management representation letter stating that inventory values are correctly stated Flowchart the inventory and warehousing cycle and form an opinion based on the quality of internal controls Conduct a physical inventory and bring in an independent expert if necessary to value inventory items Interview purchasing and materials control personnel to ascertain the quality of internal controls over inventory 25 Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 34 After an audit report with adverse findings has been communicated to appropriate auditee personnel, proper action is to: a b c d ANSWER: 35 c d ANSWER: A Has no role; follow-up is management’s responsibility Should be charged with responsibility for implementing audit recommendations Should follow up to ascertain that appropriate action is taken on audit recommendations Should request that independent auditors follow up on audit recommendations C The purpose of governmental effectiveness or program results auditing is to determine if the desired results of a program are being achieved The first step in conducting such an audit should be to: a b c d ANSWER: 37 Schedule a follow-up review Implement corrective action indicated by the findings Examine further the data supporting the findings Assemble new data to support the findings Recommendations in audit reports may, or may not, Actually be implemented Which of the following best describes internal auditing’s role in follow-up on audit recommendations? Internal auditing: a b 36 C Evaluate the system used to measure results Determine the time frame to be audited Collect quantifiable data on the program’s success or failure Identify the legislative intent of the program being audited D An operational audit resulted in a finding regarding efficiency of operations Select the best approach to gain the auditee’s cooperation in this situation Chapter 16 Operational and Governmental Compliance Auditing a b c d ANSWER: 38 Allow the auditee to participate in development of recommendations for improvement Emphasize the personal responsibility of the auditee management Document the adverse finding with a complete list of all operational deficiencies Submit a draft copy of the final report to higher-level management A A major difference between operational auditing and financial auditing is a b c d ANSWER: 39 26 Operational auditing focuses on activities rather than financial statement assertions Operational auditing extends beyond the entity to analysis of industry and economic data Unlike financial auditing, operational auditing does not generally culminate in a formal audit report Operational auditing is narrower than financial auditing in its breadth of coverage A In conducting an operational audit, the following steps are generally recommended: A B C D Develop the audit program Perform the audit Identify audit objectives Evaluate the findings and develop conclusions and recommendations E Establish evaluation criteria F Report findings and recommendations G Conduct a preliminary survey of the activity H Appraise the efficiency and effectiveness of the activity The proper sequence for applying the above steps is: a b c d ANSWER: D,H,B,F,E,G,A,C C,E,G,A,H,B,D,F E,C,A,G,D,H,B,F C,E,G,A,B,H,D,F D 27 40 Chapter 16 Operational and Governmental Compliance Auditing A major part of an operational audit involves appraising the efficiency and effectiveness of the activity or unit being audited Efficiency and effectiveness appraisal include all but the following steps: a b c d ANSWER: 41 C The primary difference between an operational audit report and an independent financial audit report is a b c d ANSWER: 42 Assessing the goal setting process Determining the extent to which goals are being achieved and the degree of coal congruence Assessing the financial stability of the unit Appraising the effectiveness of resource utilization within the unit or activity The operational audit report makes no mention of internal control The operational audit report is not constrained to a single standard reporting format The operational audit report stresses consistency among accounting periods Unlike the independent auditor, the internal auditor generally does not discuss the audit findings and the nature of the audit report with the auditee B Which of the following is not a source of responsibility for an independent auditor conducting a governmental compliance audit? a b c d ANSWER: Governmental auditing standards as set forth in the General Accounting Office’s “yellow book.” Standards for the Professional Practice of Internal Auditing Generally Accepted Auditing Standards as promulgated by the Auditing Standards Board of the AICPA Federal Single Audit Act of 1984 (as amended in 1996) B COMPLETION: 43 Management auditing concentrates more on than efficiency Chapter 16 Operational and Governmental Compliance Auditing ANSWER: 44 CAUSE EFFECT When auditing state and local governmental entities that are recipients of federal financial assistance, auditors must, in addition to generally accepted auditing standards, comply with governmental auditing standards, as defined in the GAO’s _ _ ANSWER: 50 AUDIT PROGRAM In drafting an operational audit report, the difference between actual and expected conditions should be presented as to _ and _ ANSWER: 49 EVALUATION CRITERIA The consists of those procedures necessary to satisfy the audit objectives and produce sufficient and competent evidence to corroborate or refute the auditor’s preliminary findings ANSWER: 48 RISK-BASED In conducting an operational audit, identification of _ is necessary if the auditor is to ultimately determine the cause of discovered inefficiencies ANSWER: 47 INPUT OUTPUT Until recently, operational auditing performed recurring efficiency and effectiveness audits on different functions or units in a company The emphasis has now begun to shift away from recurring audits to focus more on management’s special problems This latter approach is referred to as - operational auditing ANSWER: 46 EFFECTIVENESS Efficiency is oriented, whereas effectiveness is oriented ANSWER: 45 28 YELLOW BOOK In addition to GAAS and “yellow book” standards, an auditee 29 Chapter 16 Operational and Governmental Compliance Auditing that receives $300,000 or more in federal financial assistance in a single fiscal year, must be audited in accordance with the _ ANSWER: SINGLE AUDIT ACT OF 1984 MATCHING: 51 A B C D E F G H I J K L M Select the term that best fits the listed definition Circular A-133 Effectiveness Efficiency Evaluation criteria Yellow book Risk-based operational auditing Percentage-of-coverage rule Operational auditing Management auditing General Accounting Office Foreign Corrupt Practices Act of 1977 Single Audit Act of 1984 (as amended in 1996) Governmental compliance auditing A subset of internal auditing that reviews an entity’s activities for efficiency and effectiveness A subset of operational auditing that attempts to measure the effectiveness with which an organizational unit is administered May be viewed as an input measure May be viewed as an output measure Requires companies to develop and implement internal controls that permit preparation of financial statements in accordance with GAAP and to maintain accountability over assets An audit approach that focuses on management’s special problems and means for solving them Define the process or activity being audited Chapter 16 Operational and Governmental Compliance Auditing 30 Auditing that concentrates on testing and reporting on conformity with laws and regulations relating to recipients of federal financial assistance A GAO document that sets forth governmental auditing standards 10 A federal law that establishes audit requirements for state and local governmental bodies and other not-forprofit entities receiving federal financial assistance 11 Requires that at least 50% of federal expenditures be encompassed by the independent audit 12 The document that interprets and explains the major provisions of the Single Audit Act of 1984 (as amended in 1996) SOLUTION: 10 11 12 H I C B K F D M E L G A 31 Chapter 16 Operational and Governmental Compliance Auditing ... the differences noted a b c d 2 ANSWER: D and and and and 3 4 Chapter 16 Operational and Governmental Compliance Auditing 19 One of the elements of a standard audit finding is “criteria.” Which... problems and means for solving them Define the process or activity being audited Chapter 16 Operational and Governmental Compliance Auditing 30 Auditing that concentrates on testing and reporting... 16 Operational and Governmental Compliance Auditing A major part of an operational audit involves appraising the efficiency and effectiveness of the activity or unit being audited Efficiency and