Nature, Objective and Scope of Audit - Test 1: answer key

Question 1 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. M/s Sharma & Associates, Chartered Accountants, is the statutory auditor of Alpha Infotech Ltd. for FY 2025-26. Alpha operates in high-volume software licensing and has recorded a large portion of its annual revenue in the last week of March from two new distributors. The CFO asserts that invoices and dispatch documents exist. However, a positive debtor confirmation from one distributor states that the balance outstanding is only 40% of the amount recorded by Alpha. The other confirmation has not been received. Management provides unsigned delivery challans and explains that goods dispatched on 31 March were returned in April; the return has not been recorded. The auditor also finds that the warehouse manager can create sales invoices and modify customer master data without independent approval. Management refuses to give a written representation confirming completeness of related-party transactions, stating that all records have been provided. The company also has a complex related-party transaction with a distributor owned by a relative of the managing director. The auditor has requested the related-party agreement but has not received it; management says the agreement is confidential. CA Anil, the engagement partner, is concerned about professional skepticism and the inherent limitations of audit. The audit team is using sampling for revenue testing because of the large number of transactions, and it has noted that the company's credit policy allows sales to new distributors on extended terms. CA Anil plans alternative procedures but understands that the audit is not an statutory investigation and that absolute assurance cannot be provided.

According to SA 200, what is the primary objective of CA Anil in conducting the audit of Alpha Infotech Ltd.?

1. To guarantee that the financial statements are free from all misstatements, including those caused by fraud.
2. To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, enabling expression of an opinion. (correct answer)
3. To detect every fraud and error in the company's accounting records and report each to the board.
4. To provide absolute assurance that the financial statements are prepared in accordance with the applicable financial reporting framework.

Answer: B — To obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, enabling expression of an opinion.

Explanation. SA 200 para 11 states that the auditor's objective is to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, thereby enabling the auditor to express an opinion. The auditor does not guarantee detection of all frauds or provide absolute assurance. Option b correctly captures the twin elements of reasonable assurance and expression of opinion. Options a and d wrongly elevate reasonable assurance to absolute assurance, while option c imposes a duty to detect every fraud, which is outside the audit objective.

Where it goes wrong. Students often confuse reasonable assurance with absolute assurance or believe the auditor must detect every fraud.

Authority. SA 200

Question 2 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

While evaluating the distributor's confirmation and management's unsigned delivery challans, which action most clearly demonstrates the exercise of professional skepticism by CA Anil?

1. Accept the management explanation because invoices and dispatch documents exist and the matter is not considered material.
2. Rely on the unsigned delivery challans as corroborative evidence since management has provided them.
3. Critically assess the reliability of the evidence, inquire about the April return, and perform alternative procedures such as examining subsequent credit notes and bank receipts. (correct answer)
4. Withdraw from the engagement immediately because one debtor confirmation differed from the recorded balance.

Answer: C — Critically assess the reliability of the evidence, inquire about the April return, and perform alternative procedures such as examining subsequent credit notes and bank receipts.

Explanation. SA 200 para 15 requires the auditor to plan and perform an audit with professional skepticism, recognizing the possibility that a material misstatement may exist. Professional skepticism includes a questioning mind and critical assessment of audit evidence. The auditor should not accept management explanations without corroboration, especially where external confirmation contradicts records. Option c appropriately combines inquiry, critical assessment and alternative procedures. Option a is a trap of over-reliance on management, option b ignores the unreliability of unsigned documents, and option d is an overreaction before performing further procedures.

Where it goes wrong. Students may think external confirmation can be ignored if management provides documents, or may jump to withdrawal before alternative procedures.

Authority. SA 200

Question 3 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

The fact that CA Anil cannot verify all sales transactions because of the large volume and instead tests samples is an inherent limitation arising primarily from:

1. The nature of audit procedures, since there are practical limitations on obtaining audit evidence by testing all transactions. (correct answer)
2. The nature of financial reporting, since management makes accounting estimates.
3. The fact that an audit is not an statutory investigation into alleged wrongdoing.
4. The possibility that future events may affect the entity's ability to continue as a going concern.

Answer: A — The nature of audit procedures, since there are practical limitations on obtaining audit evidence by testing all transactions.

Explanation. SA 200 para A35 recognizes that there are practical and legal limitations on the auditor's ability to obtain audit evidence. For example, an auditor does not test all transactions and balances but forms an opinion by testing samples. This is an inherent limitation arising from the nature of audit procedures. Option b relates to management judgment in financial reporting, option c relates to audit not being an investigation, and option d relates to future events. The sampling limitation is specifically a procedural limitation.

Where it goes wrong. Students often mix up the nature of audit procedures with the nature of financial reporting or future events.

Authority. SA 200

Question 4 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Which of the following statements about absolute assurance is correct in the context of the audit of Alpha Infotech Ltd.?

1. Absolute assurance is a high level of assurance but not a complete guarantee.
2. Absolute assurance is the same as reasonable assurance when internal controls are strong.
3. Absolute assurance can be provided if the auditor performs full testing of all transactions.
4. Absolute assurance is a complete guarantee that the financial statements are free from material misstatement, which an auditor cannot provide. (correct answer)

Answer: D — Absolute assurance is a complete guarantee that the financial statements are free from material misstatement, which an auditor cannot provide.

Explanation. SA 200 explains that reasonable assurance is a high level of assurance but is not absolute assurance. Absolute assurance is a complete guarantee that the financial statements are free from material misstatement. Because of inherent limitations of an audit, the auditor cannot provide absolute assurance. Option a describes reasonable assurance, not absolute assurance. Option b wrongly equates strong controls with absolute assurance, and option c wrongly assumes full testing eliminates all limitations, including management fraud and judgmental issues.

Where it goes wrong. Students may think absolute assurance is merely high assurance or can be achieved by full testing.

Authority. SA 200

Question 5 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. M/s K. Mehta & Co. is the statutory auditor of Zenith Manufacturing Pvt Ltd. for FY 2025-26. Zenith has incurred continuous losses and has a net capital deficiency. Management prepared cash flow projections for the next twelve months assuming renewal of a bank loan. CA Mehta reviewed the projections and considered management's assumptions, including sales growth and collection period. The bank has separately requested the firm to examine prospective financial information for the next three years and issue a report. Zenith also asks the firm to review its half-yearly financial statements to provide limited assurance. CA Mehta is determining materiality for the financial statements as a whole; management wants a high materiality threshold to avoid adjustments for several uncorrected misstatements. The audit team uses professional judgment to assess a complex warranty provision estimate. A specialist reviewed the estimate, and the auditor found indicators of management bias. CA Mehta knows that future events may affect going concern and that the audit cannot guarantee that the projections will be achieved. The company's factory has been operating below 40% capacity, and the bank has not yet confirmed renewal. The auditor's review of subsequent cash receipts shows slow collections. The firm must decide on the appropriate level of assurance and reporting for each engagement.

CA Mehta is determining materiality for the financial statements as a whole. Which statement most accurately reflects the role of professional judgment under SA 200?

1. Materiality should be determined by management because it is a matter of accounting policy.
2. Materiality is a fixed percentage of revenue prescribed by the Companies Act, 2013, leaving no room for judgment.
3. Professional judgment involves applying relevant training, knowledge and experience to make informed decisions about materiality, considering the entity's circumstances, and documenting the rationale. (correct answer)
4. Professional judgment means the auditor may choose any materiality level without documenting the basis, as long as it is disclosed to the audit committee.

Answer: C — Professional judgment involves applying relevant training, knowledge and experience to make informed decisions about materiality, considering the entity's circumstances, and documenting the rationale.

Explanation. SA 200 para 13 describes professional judgment as the application of relevant training, knowledge and experience, within the context provided by auditing, accounting and ethical standards, in making informed decisions about the courses of action appropriate in the circumstances of the audit. Determining materiality is a matter of professional judgment and should consider the entity's circumstances. Option c correctly recognizes judgment, context and documentation. Option a wrongly shifts the decision to management, option b treats materiality as a rigid legal formula, and option d wrongly says no documentation is needed.

Where it goes wrong. Students may think materiality is a fixed formula or that professional judgment is arbitrary and undocumented.

Authority. SA 200

Question 6 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

The separate engagement to review the half-yearly financial statements of Zenith Manufacturing Pvt Ltd will provide which level of assurance?

1. Absolute assurance because the review is performed by a Chartered Accountant.
2. Reasonable assurance because review procedures are similar to audit procedures.
3. No assurance because a review is not an audit.
4. Limited assurance, which is a moderate level of assurance lower than reasonable assurance. (correct answer)

Answer: D — Limited assurance, which is a moderate level of assurance lower than reasonable assurance.

Explanation. A review of historical financial information is a limited assurance engagement. Under SRE 2400 (Revised), the practitioner provides a moderate level of assurance, which is lower than the reasonable assurance provided in an audit. The review involves fewer procedures than an audit. Option d correctly states limited assurance. Option a wrongly suggests absolute assurance, option b confuses review with audit, and option c incorrectly says a review provides no assurance.

Where it goes wrong. Students often think a review provides reasonable assurance or no assurance, rather than limited/moderate assurance.

Authority. SA 200; SQC 1

Question 7 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

For the engagement to examine prospective financial information for the bank, the auditor's report under SAE 3400 generally provides assurance on:

1. Whether the assumptions on which the prospective financial information is based are not unreasonable and whether the information is properly prepared and presented on those assumptions. (correct answer)
2. Whether the forecast results will definitely be achieved in future.
3. Whether the historical financial statements are free from material misstatement.
4. Whether the entity will obtain the bank loan.

Answer: A — Whether the assumptions on which the prospective financial information is based are not unreasonable and whether the information is properly prepared and presented on those assumptions.

Explanation. SAE 3400 deals with examination of prospective financial information. The practitioner obtains sufficient appropriate evidence to conclude whether management's assumptions provide a reasonable basis for the projection and whether the prospective financial information is properly prepared and presented on those assumptions. The practitioner does not express an opinion on whether the future results will be achieved. Option b is an absolute guarantee about future results, option c relates to historical financial statements, and option d relates to a future event outside the assurance scope.

Where it goes wrong. Students may think the auditor guarantees future results or loan approval, whereas the assurance is about assumptions and preparation.

Authority. SA 200; SQC 1

Question 8 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Which inherent limitation is most directly illustrated by the auditor's inability to predict whether Zenith Manufacturing Pvt Ltd will continue as a going concern?

1. The nature of financial reporting, because management uses estimates.
2. Future events or conditions may affect an entity adversely, and the auditor cannot predict such future events. (correct answer)
3. The nature of audit procedures, because the auditor uses sampling.
4. The fact that management may not provide complete information.

Answer: B — Future events or conditions may affect an entity adversely, and the auditor cannot predict such future events.

Explanation. SA 200 para A40 identifies future events as an inherent limitation. Future events or conditions may affect an entity adversely, and adverse events may seriously affect the entity's ability to continue as a going concern. The auditor cannot predict such future events. Option b directly addresses this limitation. Option a relates to management estimates, option c relates to sampling, and option d relates to information limitations. The going concern uncertainty is a forward-looking issue, making option b the most suitable answer.

Where it goes wrong. Students may pick sampling or management estimates instead of recognizing that going concern involves unpredictable future events.

Authority. SA 200

Question 9 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. SA 200 requires the auditor to comply with relevant ethical requirements relating to the audit engagement. Which of the following is most directly emphasized by SA 200 as part of those requirements?

SA 200 requires the auditor to comply with relevant ethical requirements relating to the audit engagement. Which of the following is most directly emphasized by SA 200 as part of those requirements?

1. The auditor must be independent and objective, and comply with the ICAI Code of Ethics. (correct answer)
2. The auditor must guarantee the entity's future profitability.
3. The auditor must accept management's interpretation of complex laws to avoid disputes.
4. The auditor must perform an statutory investigation whenever fraud is suspected.

Answer: A — The auditor must be independent and objective, and comply with the ICAI Code of Ethics.

Explanation. SA 200 para 14 requires the auditor to comply with relevant ethical requirements, including those pertaining to independence, relating to financial statement audit engagements. The ICAI Code of Ethics establishes fundamental principles including integrity, objectivity, professional competence and due care, confidentiality and professional behaviour. Independence and objectivity are central. Option a correctly states this. Options b and c are incompatible with auditor responsibilities, and option d confuses audit with investigation, which is not an ethical requirement under SA 200.

Where it goes wrong. Students may confuse ethical compliance with guaranteeing profits or performing an investigation.

Authority. ICAI Code of Ethics; SA 200

Question 10 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. During an audit, a supplier's confirmation contradicts management's explanation for an outstanding balance. Management provides a plausible but unsupported oral explanation. The auditor should:

During an audit, a supplier's confirmation contradicts management's explanation for an outstanding balance. Management provides a plausible but unsupported oral explanation. The auditor should:

1. Accept the oral explanation because management is responsible for preparing the financial statements.
2. Ignore the confirmation because external confirmations are not reliable evidence.
3. Maintain a questioning mind, critically evaluate the explanation, and seek corroborative audit evidence. (correct answer)
4. Report the matter directly to the police without performing further audit procedures.

Answer: C — Maintain a questioning mind, critically evaluate the explanation, and seek corroborative audit evidence.

Explanation. Professional skepticism requires a questioning mind and critical assessment of audit evidence. When a third-party confirmation contradicts management's oral explanation, the auditor should not accept the explanation without corroboration. The auditor should evaluate the reliability of evidence and perform further procedures, such as examining correspondence, subsequent payments or other supporting records. Option c correctly applies professional skepticism. Option a over-relies on management, option b wrongly rejects external confirmations, and option d bypasses audit procedures.

Where it goes wrong. Students may accept management explanations or ignore external confirmations instead of seeking corroboration.

Authority. SA 200; SQC 1

Question 11 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. Which of the following is outside the scope of an audit of financial statements?

Which of the following is outside the scope of an audit of financial statements?

1. Evaluating the reliability and sufficiency of financial information.
2. Ensuring proper disclosure of financial information in the financial statements.
3. Determining the physical condition and remaining useful life of sophisticated imported machinery. (correct answer)
4. Obtaining an understanding of the entity's internal control relevant to the audit.

Answer: C — Determining the physical condition and remaining useful life of sophisticated imported machinery.

Explanation. The scope of an audit includes coverage of relevant aspects of the entity, reliability and sufficiency of financial information, proper disclosure, and expression of an opinion. However, the auditor is not expected to perform duties outside the auditor's competence. Determining the physical condition and remaining useful life of sophisticated machinery requires technical expertise of engineers, not auditors. Therefore, option c is outside the scope of audit. Options a, b and d are within the scope of an audit of financial statements.

Where it goes wrong. Students may think the auditor must certify technical matters like machinery condition or building suitability.

Authority. SA 200; SQC 1

Question 12 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. Which of the following is NOT an element of an assurance engagement as described in the ICAI Study Material?

Which of the following is NOT an element of an assurance engagement as described in the ICAI Study Material?

1. A three-party relationship involving a practitioner, responsible party and intended users.
2. An appropriate subject matter and suitable criteria.
3. Sufficient appropriate evidence and a written assurance report.
4. An absolute guarantee that the subject matter is free from all misstatements. (correct answer)

Answer: D — An absolute guarantee that the subject matter is free from all misstatements.

Explanation. An assurance engagement has five elements: a three-party relationship, an appropriate subject matter, suitable criteria, sufficient appropriate evidence, and a written assurance report in appropriate form. It does not provide an absolute guarantee. Assurance engagements provide either reasonable or limited assurance, depending on the engagement. Option d is not an element and is inconsistent with the concept of assurance. Options a, b and c are recognized elements under the ICAI Study Material.

Where it goes wrong. Students may treat absolute guarantee as an element of assurance engagements.

Authority. SA 200; SQC 1

Question 13 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. Which statement correctly distinguishes a reasonable assurance engagement from a limited assurance engagement?

Which statement correctly distinguishes a reasonable assurance engagement from a limited assurance engagement?

1. A reasonable assurance engagement provides a high level of assurance, while a limited assurance engagement provides a moderate level of assurance lower than reasonable assurance. (correct answer)
2. A limited assurance engagement provides a higher level of assurance than a reasonable assurance engagement.
3. Both provide absolute assurance, but a limited assurance engagement involves more procedures.
4. A reasonable assurance engagement provides no assurance, while a limited assurance engagement provides reasonable assurance.

Answer: A — A reasonable assurance engagement provides a high level of assurance, while a limited assurance engagement provides a moderate level of assurance lower than reasonable assurance.

Explanation. A reasonable assurance engagement, such as an audit, provides a high level of assurance. A limited assurance engagement, such as a review, provides a lower level of assurance than a reasonable assurance engagement, often described as moderate assurance. Option a correctly states this distinction. Option b reverses the levels, option c wrongly refers to absolute assurance, and option d reverses the nature of assurance. The difference is one of degree and extent of procedures.

Where it goes wrong. Students often reverse the assurance levels or think both types provide absolute assurance.

Authority. SA 200; SQC 1

Question 14 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. Which of the following is NOT an inherent limitation of an audit?

Which of the following is NOT an inherent limitation of an audit?

1. Management may make subjective judgments in preparing financial statements.
2. The auditor may not test all transactions and balances.
3. The auditor is not an expert in authentication of documents.
4. The auditor is required to provide absolute assurance that all frauds are detected. (correct answer)

Answer: D — The auditor is required to provide absolute assurance that all frauds are detected.

Explanation. Inherent limitations of an audit include the nature of financial reporting involving management judgment, the nature of audit procedures including sampling and legal limitations on obtaining evidence, the fact that an audit is not an investigation, timeliness of reporting, and future events. The auditor is not required to provide absolute assurance or guarantee detection of all frauds. Therefore, option d is not an inherent limitation but an incorrect expectation. Options a, b and c are recognized limitations or factors contributing to inherent limitations.

Where it goes wrong. Students may incorrectly believe that absolute assurance and detection of all frauds is a required audit objective.

Authority. SA 200; SQC 1

Question 15 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. As per SA 200, the auditor is not expected to, and cannot, reduce audit risk to zero. which of the following correctly explains this statement?

As per SA 200, the auditor is not expected to, and cannot, reduce audit risk to zero. which of the following correctly explains this statement?

1. Audit risk can be eliminated if the auditor performs full substantive testing.
2. Audit risk is reduced to zero when internal controls are operating effectively.
3. Audit risk is relevant only to limited assurance engagements, not audits.
4. Inherent limitations mean most audit evidence is persuasive rather than conclusive, so only reasonable assurance is possible. (correct answer)

Answer: D — Inherent limitations mean most audit evidence is persuasive rather than conclusive, so only reasonable assurance is possible.

Explanation. SA 200 recognizes that the auditor cannot reduce audit risk to zero because of inherent limitations of an audit. Most audit evidence is persuasive rather than conclusive, and the auditor obtains reasonable, not absolute, assurance. Option d correctly explains this. Option a wrongly assumes full testing eliminates all risk, option b wrongly links zero risk to effective controls, and option c wrongly says audit risk applies only to limited assurance engagements. Audit risk applies to audits and is reduced to an acceptably low level, not zero.

Where it goes wrong. Students may think full testing or strong controls can eliminate audit risk entirely.

Authority. SA 200

Question 16 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. Which of the following Standards issued by ICAI applies to an audit of historical financial information?

Which of the following Standards issued by ICAI applies to an audit of historical financial information?

1. SA 200 (correct answer)
2. SRE 2400 (Revised)
3. SAE 3400
4. SRS 4410 (Revised)

Answer: A — SA 200

Explanation. Standards on Auditing (SAs), such as SA 200, apply to an audit of historical financial information. SRE 2400 (Revised) applies to review engagements on historical financial information. SAE 3400 applies to examination of prospective financial information, which is an assurance engagement other than audit or review of historical financial information. SRS 4410 (Revised) applies to compilation engagements, which are related services. Therefore, option a is the correct standard for audit of historical financial information.

Where it goes wrong. Students may confuse SAs with SREs, SAEs or SRSs and their respective engagement types.

Authority. SA 200

Question 17 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. In the case of a company, to whom is the auditor's report ordinarily addressed and submitted?

In the case of a company, to whom is the auditor's report ordinarily addressed and submitted?

1. To the Board of Directors, because they appoint the auditor.
2. To the shareholders, because they are the appointing authority in the annual general meeting. (correct answer)
3. To the Comptroller and Auditor General of India in all cases.
4. To the management, because management prepares the financial statements.

Answer: B — To the shareholders, because they are the appointing authority in the annual general meeting.

Explanation. In the case of a company, the auditor is appointed by the members (shareholders) in the annual general meeting, and the auditor's report is submitted to the shareholders as the appointing authority. The Board of Directors does not ordinarily appoint the statutory auditor in a company; the members do. The Comptroller and Auditor General of India appoints auditors for government companies, not all companies. Management prepares financial statements but is not the addressee of the auditor's report in the ordinary case. Hence, option b is correct.

Where it goes wrong. Students may think the report is addressed to the board or management because they interact with the auditor.

Authority. SA 200; SQC 1

Question 18 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. Professional judgment in auditing means:

Professional judgment in auditing means:

1. The auditor may choose any audit procedure without documentation.
2. The auditor applies relevant training, knowledge and experience to make informed decisions about audit matters, considering facts and circumstances. (correct answer)
3. The auditor must always follow a rigid checklist, as judgment is not permitted under SAs.
4. The auditor should defer to management's judgment on all accounting estimates.

Answer: B — The auditor applies relevant training, knowledge and experience to make informed decisions about audit matters, considering facts and circumstances.

Explanation. SA 200 describes professional judgment as the application of relevant training, knowledge and experience, within the context provided by auditing, accounting and ethical standards, in making informed decisions about the courses of action appropriate in the circumstances of the audit. It is not arbitrary and must be documented where significant. Option b correctly describes it. Option a wrongly treats judgment as undocumented discretion, option c denies the need for judgment, and option d improperly defers to management.

Where it goes wrong. Students may think professional judgment means arbitrary choice or no documentation.

Authority. SA 200

Question 19 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · medium

Scenario. An audit is distinct from an investigation primarily because:

An audit is distinct from an investigation primarily because:

1. An audit is a critical examination of accounts with a special purpose, while an investigation provides reasonable assurance on financial statements.
2. An audit always involves recording statements of witnesses on oath, while an investigation does not.
3. An audit has a general and broad scope and aims to express an opinion on financial statements, whereas an investigation is a critical examination with a specific purpose and narrower scope. (correct answer)
4. An investigation is conducted only by statutory auditors, while an audit is conducted by management.

Answer: C — An audit has a general and broad scope and aims to express an opinion on financial statements, whereas an investigation is a critical examination with a specific purpose and narrower scope.

Explanation. An audit is a general examination of financial statements with the objective of expressing an opinion and providing reasonable assurance. An investigation is a critical examination of accounts with a special purpose, such as suspected fraud, and has a specific and narrow scope. Option c correctly distinguishes the two. Option a reverses the concepts, option b incorrectly describes audit powers, and option d misstates who conducts audits and investigations.

Where it goes wrong. Students often reverse audit and investigation or think auditors have investigative powers like recording evidence on oath.

Authority. SA 200; SQC 1

Question 20 · 2 marks · Chapter 1: Nature, Objective and Scope of Audit · hard

Scenario. An assurance engagement on prospective financial information typically provides which level of assurance?

An assurance engagement on prospective financial information typically provides which level of assurance?

1. Absolute assurance that the projected results will be achieved.
2. Moderate assurance that the assumptions provide a reasonable basis for the projection. (correct answer)
3. Reasonable assurance that historical financial information is correct.
4. No assurance because future events are uncertain.

Answer: B — Moderate assurance that the assumptions provide a reasonable basis for the projection.

Explanation. An assurance engagement on prospective financial information, such as under SAE 3400, provides moderate assurance. The practitioner obtains evidence that management's assumptions are not unreasonable and that the prospective information is properly prepared and presented on those assumptions. The practitioner cannot guarantee that projected results will be achieved. Option b correctly states moderate assurance. Option a wrongly gives absolute assurance, option c confuses it with historical financial information, and option d incorrectly says no assurance is given.

Where it goes wrong. Students may think future-oriented information cannot be assured at all or that it can be absolutely assured.

Authority. SA 200; SQC 1