Audit Evidence - Test 3: answer key

Question 1 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. Prism Medical Devices Ltd manufactures diagnostic equipment and supplies hospitals and pharmaceutical distributors across India. Its trade receivables stand at ₹38.60 crore on 31 March 2027. M/s Sharma & Associates, appointed as statutory auditors for the first time, decides to obtain external confirmations from 32 customers representing approximately 68% of outstanding receivables. The audit team designs positive confirmation requests, but the Finance Director insists that the requests should display the amounts according to the company's ledger and require responses only when customers disagree. The senior identifies a risk that certain customers may sign or acknowledge the requests without independently checking their account records. Accordingly, the team considers sending blank positive confirmations to selected customers, asking them to independently state their outstanding balances. The customer master file also contains recently altered email addresses for six major customers. The credit-control manager has unrestricted rights to amend contact details, and no independent approval is required. Of the 32 requests eventually dispatched through auditor-controlled channels, 19 customers confirm the balances without differences, three report lower balances because of disputed debit notes, and five do not respond despite follow-up requests. One confirmation is returned through an email address that cannot be independently linked to the customer's accounts department. Management proposes accepting all forwarded responses because the aggregate confirmed amount exceeds the audit materiality threshold. It also argues that non-responses should be treated as customer agreement. The engagement partner must determine the appropriate form of confirmation, maintain control over the confirmation process, evaluate differences and assess the significance of non-responses before concluding whether sufficient appropriate evidence has been obtained.

The senior is concerned that customers may acknowledge the amounts shown in the confirmation requests without independently verifying their records. Which confirmation design would most suitable address this concern?

1. Use negative requests showing ledger balances and ask customers to respond only when they identify differences.
2. Use blank positive requests requiring customers to independently provide their balances or the information requested. (correct answer)
3. Use positive requests displaying ledger balances and accept acknowledgements received through management's email.
4. Use oral confirmation requests asking customer representatives to verbally agree with the receivable balances.

Answer: B — Use blank positive requests requiring customers to independently provide their balances or the information requested.

Explanation. SA 505, paragraph 5 and the guidance on positive confirmation requests, recognise that a confirming party may respond without verifying the information provided. A blank positive confirmation requires the recipient to independently furnish the requested information and may reduce this risk, although it can result in lower response rates because additional effort is required. Option c does not address the risk of unverified acknowledgement, while negative confirmations are less persuasive evidence.

Where it goes wrong. Assuming that every positive confirmation response necessarily establishes that the customer independently substantiated the amount stated by the auditor.

Authority. SA 505

Question 2 · 2 marks · Chapter 4: Audit Evidence · hard

Which arrangement would most suitable comply with the auditor's responsibility to maintain control over the external confirmation process?

1. Allow the credit-control manager to select customers, prepare requests and collect responses for later verification.
2. Ask management to send the requests and retain all customer replies in its central finance mailbox.
3. Determine the information, select confirming parties, design and address requests, and send them under auditor control. (correct answer)
4. Delegate the selection and dispatch process to internal audit, provided its department head signs the confirmation register.

Answer: C — Determine the information, select confirming parties, design and address requests, and send them under auditor control.

Explanation. SA 505, paragraph 5, requires the auditor to maintain control over external confirmation requests. This includes determining the information to be confirmed, selecting appropriate confirming parties, designing properly addressed requests with return information directed to the auditor, and sending the requests, including follow-ups where applicable. The management and internal-audit arrangements in options a, b and d compromise the auditor's control over essential stages of the confirmation process.

Where it goes wrong. Mistaking administrative assistance from management or internal audit for permission to delegate control over external confirmations.

Authority. SA 505

Question 3 · 2 marks · Chapter 4: Audit Evidence · medium

Three customers report lower balances than those appearing in the confirmation requests, attributing the differences to disputed debit notes. What should the auditor do?

1. Investigate the differences to determine whether they represent timing differences, disputes or actual misstatements. (correct answer)
2. Record the entire difference as an audit misstatement because the customer response always overrides company records.
3. Accept the differences as normal commercial adjustments because management has not challenged the customers.
4. Ignore the differences because the total value of the balances confirmed without exception exceeds materiality.

Answer: A — Investigate the differences to determine whether they represent timing differences, disputes or actual misstatements.

Explanation. SA 505, paragraph 11, requires the auditor to investigate exceptions to determine whether or not they are indicative of misstatements. Differences may arise from timing matters, disputed transactions, debit notes or actual recording errors, and therefore cannot automatically be treated as misstatements or disregarded. Option b incorrectly assumes that every exception proves a misstatement, while option d ignores the need to evaluate individual exceptions and their possible aggregate effect.

Where it goes wrong. Treating every confirmation exception as an automatic misstatement or disregarding exceptions because most other balances agree.

Authority. SA 505

Question 4 · 2 marks · Chapter 4: Audit Evidence · hard

Five customers have not responded to positive confirmation requests despite follow-up attempts. Which further procedure is most appropriate?

1. Treat the absence of replies as agreement because the requests were properly addressed and dispatched.
2. Obtain management representations covering the five balances and close the confirmation procedure without further work.
3. Exclude the non-responding customers from the audit population because they did not challenge the balances.
4. Perform alternative procedures, including examining subsequent receipts, shipping documentation and period-end sales. (correct answer)

Answer: D — Perform alternative procedures, including examining subsequent receipts, shipping documentation and period-end sales.

Explanation. SA 505, paragraph 8, requires alternative audit procedures for each non-response to a positive confirmation request to obtain relevant and reliable audit evidence. For trade receivables, the study material identifies examination of specific subsequent cash receipts, shipping documentation and sales transactions near period-end as examples. A non-response is not evidence of agreement. Option a incorrectly treats silence as an affirmative confirmation and ignores the explicit requirement for alternative procedures.

Where it goes wrong. Confusing a customer's failure to respond to a positive confirmation with an affirmative acknowledgement of the balance.

Authority. SA 505

Question 5 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. Rudra Electricals Ltd supplies electrical components to approximately 1,400 small retailers and distributors. Its trade receivables balance at 31 March 2027 is ₹12.80 crore. M/s K. Mehta & Co. assesses the risk of material misstatement in this population as low after testing the relevant credit-control and sales-recording controls. The balances are individually small and relatively homogeneous. Based on previous years, the engagement team expects a very low exception rate, and there is no evidence that the recipients are likely to disregard confirmation requests. The auditor proposes negative confirmation requests for this population. The Finance Director agrees, but argues that a customer who does not reply should be considered to have expressly acknowledged the balance. Meanwhile, the auditor identifies a separate receivable of ₹2.40 crore from Apex Distributors Ltd. The CFO refuses permission to send a positive confirmation request, explaining that the customer is involved in a legal dispute over defective components and an out-of-court settlement is being negotiated. Correspondence examined by the auditor supports the existence of the dispute, and the proposed settlement is at an advanced stage. However, the CFO has not provided evidence explaining why a confirmation would jeopardise the negotiations. The engagement team considers examining subsequent cash receipts, delivery documentation, sales invoices and correspondence with Apex Distributors. The CFO nevertheless insists that the auditor should not discuss the refusal with the Audit Committee and threatens not to renew the audit engagement if the matter is escalated. The engagement partner must evaluate whether the negative confirmation procedure is appropriate, understand the consequences of non-responses, assess the reasonableness of management's refusal and determine the reporting implications if alternative procedures fail.

Considering the facts concerning Rudra Electricals Ltd's small retailer balances, under what circumstances may negative confirmations be used as the sole substantive audit procedure?

1. When the balances are individually small, regardless of the assessed risk and effectiveness of internal controls.
2. When management authorises the requests and customers have responded positively to similar requests in previous years.
3. When assessed risk is low, relevant controls are effective, balances are numerous and homogeneous, expected exceptions are very low and recipients are unlikely to disregard requests. (correct answer)
4. When the auditor has sent requests to every customer and has received no replies within the prescribed response period.

Answer: C — When assessed risk is low, relevant controls are effective, balances are numerous and homogeneous, expected exceptions are very low and recipients are unlikely to disregard requests.

Explanation. SA 505, paragraph 12, permits negative confirmations as the sole substantive procedure only when all four conditions are satisfied: low assessed risk and sufficient evidence of relevant control effectiveness; a large population of small, homogeneous items; a very low expected exception rate; and no circumstances likely to cause recipients to disregard requests. The case facts are designed around these criteria. Option a is incorrect because small individual balances alone do not satisfy the cumulative requirements.

Where it goes wrong. Assuming that low individual value or a large number of customers independently justifies relying solely on negative confirmations.

Authority. SA 505

Question 6 · 2 marks · Chapter 4: Audit Evidence · hard

The CFO argues that customers who do not reply to negative confirmation requests have expressly agreed with the amounts stated in the requests. Which evaluation is correct?

1. The argument is correct because negative confirmation requests require an answer only when customers disagree.
2. The argument is incorrect because non-response does not establish receipt of the request or verification of its accuracy. (correct answer)
3. The argument is correct when all confirmation requests are sent to the customer's registered email address.
4. The argument is incorrect only when the auditor has not performed follow-up procedures with non-responding customers.

Answer: B — The argument is incorrect because non-response does not establish receipt of the request or verification of its accuracy.

Explanation. SA 505, paragraph 12, explains that failure to receive a response to a negative confirmation does not explicitly indicate that the intended recipient received the request or substantiated the information contained in it. Consequently, non-response to a negative confirmation provides significantly less persuasive evidence than a response to a positive confirmation. Option a confuses the design of a negative request with affirmative acknowledgement; silence cannot establish agreement with the reported balance.

Where it goes wrong. Interpreting the absence of disagreement as affirmative proof that the recipient has checked and accepted the balance.

Authority. SA 505

Question 7 · 2 marks · Chapter 4: Audit Evidence · medium

Before deciding whether to accept the CFO's refusal to permit confirmation of Apex Distributors' balance, what is the auditor required to do?

1. Accept the refusal immediately because commercial disputes always constitute a valid reason for restricting confirmation.
2. Disregard the refusal because management has no authority to withhold permission for any confirmation procedure.
3. Replace the confirmation request with management representation without considering the customer's dispute.
4. Inquire into management's reasons and obtain evidence supporting their validity and reasonableness. (correct answer)

Answer: D — Inquire into management's reasons and obtain evidence supporting their validity and reasonableness.

Explanation. SA 505, paragraph 6(a), requires the auditor, when management refuses permission to send a confirmation request, to inquire into the reasons and seek audit evidence regarding their validity and reasonableness. A legal dispute or ongoing negotiation can be a legitimate explanation in some circumstances, but it must be supported by evidence. Option a incorrectly treats every commercial dispute as automatically justifying management's refusal without further evaluation.

Where it goes wrong. Assuming that management's stated business or legal justification is automatically reasonable without independently evaluating supporting evidence.

Authority. SA 505

Question 8 · 2 marks · Chapter 4: Audit Evidence · hard

Suppose the auditor concludes that management's refusal is unreasonable and cannot obtain relevant and reliable evidence through alternative procedures. What should the auditor do?

1. Accept the disputed balance if management confirms it in writing and continue with an unmodified opinion.
2. Communicate with those charged with governance under SA 260 and determine the implications for the audit opinion under SA 705. (correct answer)
3. Immediately resign from the engagement without considering alternative audit procedures or communicating the matter.
4. Continue relying on the prior-year confirmation because the receivable was previously acknowledged by the customer.

Answer: B — Communicate with those charged with governance under SA 260 and determine the implications for the audit opinion under SA 705.

Explanation. SA 505, paragraph 7, requires communication with those charged with governance in accordance with SA 260 when management's refusal is unreasonable or alternative procedures fail to produce relevant and reliable evidence. The auditor must also determine the implications for the audit and auditor's opinion under SA 705. Option a is insufficient because management representation cannot automatically replace unavailable external evidence. Option c overlooks the prescribed communication and reporting assessment.

Where it goes wrong. Believing that an unreasonable refusal can be resolved simply by obtaining a management representation or abandoning the audit.

Authority. SA 260; SA 505; SA 705

Question 9 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. Harit Agrochem Ltd appoints M/s V. Raman & LLP as its statutory auditor for the financial year 2026-27. The financial statements for the preceding year were examined under statutory audit by M/s Nair & Bansal, who issued a qualified opinion because sufficient appropriate evidence regarding the valuation of a significant portion of closing inventory could not be obtained. The new engagement therefore constitutes an initial audit engagement under SA 510. At 1 April 2026, the company's opening balances include inventory of ₹16.40 crore, trade receivables of ₹8.20 crore, trade payables of ₹5.70 crore, property, plant and equipment of ₹31 crore and long-term borrowings of ₹14 crore. A pending environmental compensation claim and a major contractual commitment also existed at the beginning of the year, but neither was included in the opening disclosure schedules supplied to the new auditors. Management has carried forward the prior-year closing balances into the current accounting system. However, the opening inventory valuation schedule contains incomplete cost sheets, and several supporting vouchers are unavailable following an earlier server migration. The company also changed its inventory costing method during the year but has not supplied a detailed assessment of the accounting treatment or the related disclosures. Management argues that the preceding year's financial statements were already examined under statutory audit and that the new auditor should not reopen previous-year matters. The audit team proposes examining the predecessor auditor's report and supporting schedules, testing current-year collections and payments relating to opening receivables and payables, obtaining lender confirmations and performing additional procedures over opening inventory. The partner must evaluate the appropriate opening-balance procedures and distinguish an evidence limitation from an identified material misstatement when determining the possible audit reporting consequences.

Which statement correctly explains why the engagement of M/s V. Raman & LLP constitutes an initial audit engagement and what constitutes opening balances?

1. It is an initial audit only when the preceding financial statements were never examined under statutory audit; opening balances exclude matters requiring disclosure.
2. It is an initial audit only when the current auditor has changed the accounting policies; opening balances contain financial figures only.
3. It is an initial audit because a predecessor auditor examined under statutory audit the prior period; opening balances also include existing contingencies and commitments requiring disclosure. (correct answer)
4. It is an initial audit only when the company has changed its statutory auditors due to a dispute; opening balances are limited to current assets and liabilities.

Answer: C — It is an initial audit because a predecessor auditor examined under statutory audit the prior period; opening balances also include existing contingencies and commitments requiring disclosure.

Explanation. SA 510, section 4.2, defines an initial audit engagement as one in which prior-period financial statements were not examined under statutory audit or were examined under statutory audit by a predecessor auditor. Opening balances are balances existing at the beginning of the period and include the effects of earlier transactions and accounting policies. They also include matters requiring disclosure that existed at that date, such as contingencies and commitments. Option a wrongly excludes the predecessor-auditor situation and disclosure matters.

Where it goes wrong. Restricting initial audit engagements to entities that have never been examined under statutory audit and excluding disclosure matters from opening balances.

Authority. SA 510; section 4

Question 10 · 2 marks · Chapter 4: Audit Evidence · hard

Which combination represents the auditor's principal objectives concerning opening balances under SA 510?

1. Determine whether opening balances contain misstatements materially affecting current-period financial statements and whether relevant accounting policies are consistently applied or properly changed and disclosed. (correct answer)
2. Verify that every previous-period transaction was examined under statutory audit afresh and that the previous auditor's opinion is automatically adopted by the current auditor.
3. Confirm that opening balances are identical to the previous year's closing balances without considering accounting adjustments or policy changes.
4. Verify only whether opening asset balances physically exist and whether all previous-period audit differences were approved by management.

Answer: A — Determine whether opening balances contain misstatements materially affecting current-period financial statements and whether relevant accounting policies are consistently applied or properly changed and disclosed.

Explanation. SA 510, section 4.3, establishes two principal objectives: obtaining evidence about opening-balance misstatements that materially affect current-period financial statements, and determining whether accounting policies reflected in opening balances have been consistently applied or changes properly accounted for, presented and disclosed. Option b wrongly makes the preceding auditor's opinion binding on the current auditor. SA 510 requires independent evaluation of the effect of opening balances on the present financial statements.

Where it goes wrong. Treating SA 510 as a complete re-audit of the preceding year rather than an assessment of opening balances and their current-period effects.

Authority. SA 510; section 4

Question 11 · 2 marks · Chapter 4: Audit Evidence · medium

Which combination of procedures is particularly relevant to obtaining evidence regarding Harit Agrochem Ltd's opening inventory balance?

1. Examine current-year sales invoices and assume that the opening stock valuation must therefore have been accurate.
2. Examine subsequent collections from customers and use them as the principal evidence for the opening inventory quantity and valuation.
3. Inspect only the preceding year's signed audit report because current-year closing inventory procedures necessarily validate the opening balance.
4. Observe a current physical count and reconcile it to opening quantities, test opening inventory valuation, and perform gross-profit and cut-off procedures. (correct answer)

Answer: D — Observe a current physical count and reconcile it to opening quantities, test opening inventory valuation, and perform gross-profit and cut-off procedures.

Explanation. SA 510, section 4.5.3, explains that current-period closing inventory audit procedures provide little evidence about inventory held at the beginning of the period. Additional procedures may include observing a current physical count and reconciling it to opening quantities, testing the valuation of opening inventory items, and performing gross-profit and cut-off procedures. Option c is inadequate because the predecessor's audit report does not independently resolve the current auditor's evidence requirements.

Where it goes wrong. Assuming that satisfactory closing inventory evidence or a predecessor's audit report automatically validates opening inventory.

Authority. SA 510; section 4

Question 12 · 2 marks · Chapter 4: Audit Evidence · hard

The auditor cannot obtain sufficient appropriate evidence concerning opening inventory despite performing additional procedures. The possible effect on current-period financial statements may be material and pervasive. What is the appropriate reporting response?

1. Issue an adverse opinion because an evidence limitation is equivalent to establishing that the inventory is materially misstated.
2. Issue an unmodified opinion because the preceding year's inventory balance was examined by another statutory auditor.
3. Issue a disclaimer of opinion in accordance with SA 705 because the possible effects are material and pervasive. (correct answer)
4. Issue a qualified opinion in every case because SA 510 does not permit a disclaimer arising from opening balances.

Answer: C — Issue a disclaimer of opinion in accordance with SA 705 because the possible effects are material and pervasive.

Explanation. SA 510, section 4.7, requires a qualified opinion or disclaimer of opinion, as appropriate under SA 705, when sufficient appropriate evidence regarding opening balances cannot be obtained. Where the possible effects are material and pervasive, a disclaimer is appropriate because the auditor cannot obtain sufficient evidence to form an opinion. An adverse opinion, as suggested in option a, concerns identified material and pervasive misstatements, not merely an inability to obtain evidence.

Where it goes wrong. Confusing an evidence limitation with an established misstatement and selecting an adverse opinion instead of the appropriate scope-limitation opinion.

Authority. SA 510; SA 705; section 4

Question 13 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. A company has substantial receivables from a single overseas distributor. The auditor assesses a high risk of material misstatement and decides to obtain direct confirmation. Which request is most appropriate?

A company has substantial receivables from a single overseas distributor. The auditor assesses a high risk of material misstatement and decides to obtain direct confirmation. Which request is most appropriate?

1. Send a negative confirmation showing the recorded amount because the distributor is an established customer.
2. Ask the distributor to reply only if the recorded balance is incorrect and treat silence as sufficient evidence.
3. Send a positive confirmation requiring the distributor to respond directly, whether agreeing or disagreeing with the stated information. (correct answer)
4. Request the sales manager to verbally confirm the balance and forward a summary to the engagement partner.

Answer: C — Send a positive confirmation requiring the distributor to respond directly, whether agreeing or disagreeing with the stated information.

Explanation. SA 505, paragraph 5 and the guidance in section 3.5.3 of the study material, explain that positive confirmation requests require a direct response in all cases, either indicating agreement or disagreement or providing the information requested. They are ordinarily expected to provide more reliable evidence than negative requests. Option a is inappropriate as negative confirmations provide less persuasive evidence and are subject to restrictive conditions before they may be used as the sole substantive procedure.

Where it goes wrong. Choosing negative confirmations merely for convenience even when the assessed risk requires more persuasive evidence.

Authority. SA 505; section 3

Question 14 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. An auditor sends positive confirmation requests to 18 customers but receives no response from four customers. Which treatment is required under SA 505?

An auditor sends positive confirmation requests to 18 customers but receives no response from four customers. Which treatment is required under SA 505?

1. Perform alternative audit procedures for each non-response to obtain relevant and reliable audit evidence. (correct answer)
2. Treat all four balances as confirmed because the confirmation letters were dispatched to substantiated postal addresses.
3. Send negative confirmation requests and presume agreement if the customers remain silent after the second dispatch.
4. Remove the four balances from the sample because customers are not legally required to respond to audit requests.

Answer: A — Perform alternative audit procedures for each non-response to obtain relevant and reliable audit evidence.

Explanation. SA 505, paragraph 8, requires alternative procedures for each non-response to a positive confirmation request. Such procedures must be designed to obtain relevant and reliable evidence regarding the relevant assertion. For receivables, subsequent receipts, shipping documentation and near-period-end sales records may be appropriate, depending on the circumstances. Option b incorrectly treats dispatch as proof of customer agreement, while a non-response itself provides no affirmative confirmation of the balance.

Where it goes wrong. Confusing proof that a confirmation was sent with evidence that the recipient has agreed to the information.

Authority. SA 505

Question 15 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. A company has significant balances with several banks, but the auditor sends all confirmation requests to the general customer-service email address of each bank. Which improvement would most directly enhance the reliability of responses?

A company has significant balances with several banks, but the auditor sends all confirmation requests to the general customer-service email address of each bank. Which improvement would most directly enhance the reliability of responses?

1. Send requests to the company's treasury personnel and ask them to obtain the relevant bank confirmations.
2. Send identical requests to the bank's public relations department because it can access published financial information.
3. Address confirmation requests to the branch receptionist and accept responses from whichever employee replies.
4. Identify a bank statutory knowledgeable about the relevant accounts and arrangements and direct the request through an authenticated channel. (correct answer)

Answer: D — Identify a bank statutory knowledgeable about the relevant accounts and arrangements and direct the request through an authenticated channel.

Explanation. SA 505, paragraph 5, together with the application guidance in section 3.5(b), emphasises selecting an appropriate confirming party. Responses are more relevant and reliable when sent to a person believed to possess knowledge of the information being confirmed. A financial-institution statutory familiar with the relevant transactions or arrangements is generally more appropriate than an unrelated employee or public-relations contact. Option a improperly places management between the auditor and the confirming party.

Where it goes wrong. Assuming that any employee of an external organisation is equally knowledgeable and suitable to confirm financial information.

Authority. SA 505; section 3

Question 16 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. A customer does not respond to a positive confirmation request. The auditor has independently substantiated the original address. What may the auditor do before concluding that the response is a non-response?

A customer does not respond to a positive confirmation request. The auditor has independently substantiated the original address. What may the auditor do before concluding that the response is a non-response?

1. Treat the original request as conclusive evidence and omit all further communication with the customer.
2. Send an additional or follow-up confirmation request after a reasonable time and perform alternative procedures if non-response continues. (correct answer)
3. Convert the original positive request into a negative confirmation and presume agreement after the response deadline.
4. Obtain a fresh management representation and presume the customer has received the earlier request.

Answer: B — Send an additional or follow-up confirmation request after a reasonable time and perform alternative procedures if non-response continues.

Explanation. SA 505, paragraph 8 and the guidance in section 3.5(d) of the study material, allow the auditor to send an additional confirmation request when a response to an earlier request has not been received within a reasonable time. The original address should be substantiated before follow-up. If non-response continues, alternative procedures are necessary to obtain evidence. Option c is incorrect because converting the request into a negative confirmation does not establish receipt or agreement.

Where it goes wrong. Assuming that one unanswered positive confirmation automatically establishes agreement or removes the need for additional procedures.

Authority. SA 505; section 3

Question 17 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. An auditor receives a confirmation response from a customer. Later, the auditor discovers that the response was generated using information supplied by the auditee's sales executive and was not independently checked by the customer. What should the auditor do?

An auditor receives a confirmation response from a customer. Later, the auditor discovers that the response was generated using information supplied by the auditee's sales executive and was not independently checked by the customer. What should the auditor do?

1. Accept the response because it was received electronically from the customer's domain rather than from management.
2. Ignore the reliability issue because external confirmations are always more persuasive than all other evidence.
3. Evaluate the response's reliability, consider fraud risk implications and determine whether additional audit procedures are necessary. (correct answer)
4. Treat the response as a confirmed balance because a written acknowledgement was received within the audit period.

Answer: C — Evaluate the response's reliability, consider fraud risk implications and determine whether additional audit procedures are necessary.

Explanation. SA 505, paragraph 9, requires the auditor to evaluate the implications when a response to a confirmation request is determined not to be reliable, including implications for the assessment of fraud risks and the nature, timing and extent of audit procedures. External origin alone does not establish reliability in every circumstance. Option a overlooks the fact that the response was influenced by the auditee and not independently authenticated by the confirming party.

Where it goes wrong. Assuming that electronic delivery from an external domain automatically makes a confirmation independent and reliable.

Authority. SA 505

Question 18 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. A CFO refuses to permit a confirmation request to a customer because an ongoing commercial dispute is close to settlement. The auditor independently examines correspondence supporting the dispute and finds no fraud risk indicators. Which conclusion is most appropriate?

A CFO refuses to permit a confirmation request to a customer because an ongoing commercial dispute is close to settlement. The auditor independently examines correspondence supporting the dispute and finds no fraud risk indicators. Which conclusion is most appropriate?

1. The refusal may be reasonable in the circumstances, but the auditor must still evaluate the reason and obtain appropriate alternative evidence. (correct answer)
2. The refusal is automatically unreasonable because management cannot ever restrict a particular confirmation request.
3. The auditor must accept management's refusal without further procedures because the underlying dispute is genuine.
4. The auditor must issue a disclaimer immediately because any refusal to send a confirmation creates a pervasive limitation.

Answer: A — The refusal may be reasonable in the circumstances, but the auditor must still evaluate the reason and obtain appropriate alternative evidence.

Explanation. SA 505, paragraph 6, requires the auditor to investigate management's reasons and obtain evidence regarding their validity and reasonableness. The study material's section 3.6 recognises that a legal dispute or ongoing negotiations may provide a valid reason where an untimely confirmation could affect resolution. However, the auditor must still perform alternative procedures and evaluate the refusal's implications. Option c wrongly treats a genuine commercial dispute as eliminating further audit responsibilities.

Where it goes wrong. Assuming that every management refusal is automatically unreasonable, or that a genuine dispute eliminates the need for alternative procedures.

Authority. SA 505; section 3

Question 19 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. A company refuses confirmation of a material trade payable. Which set of alternative audit procedures would ordinarily be relevant to the auditor's objective?

A company refuses confirmation of a material trade payable. Which set of alternative audit procedures would ordinarily be relevant to the auditor's objective?

1. Examine subsequent customer collections, dispatch documents and sales transactions near the reporting date.
2. Examine only the previous year's audit report and obtain a written statement from the purchase manager.
3. Inspect the company's sales invoices and obtain confirmation from customers regarding the purchase transactions.
4. Examine subsequent cash disbursements, third-party correspondence and goods received notes relating to the unpaid balance. (correct answer)

Answer: D — Examine subsequent cash disbursements, third-party correspondence and goods received notes relating to the unpaid balance.

Explanation. SA 505, paragraph 6(c), requires alternative procedures designed to obtain relevant and reliable evidence when management refuses confirmation. Section 3.6(c) of the study material identifies subsequent cash disbursements, third-party correspondence and other records such as goods received notes as examples for trade payables. Option a contains procedures primarily relevant to receivables, where subsequent cash receipts and shipping documentation are commonly examined.

Where it goes wrong. Applying the standard alternative procedures for receivables to a liability-completeness or payable-verification objective.

Authority. SA 505; Section 3

Question 20 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. An auditor's confirmation procedures produce 22 direct agreements, three responses containing differences, two unreliable responses and five non-responses. Which conclusion is appropriate?

An auditor's confirmation procedures produce 22 direct agreements, three responses containing differences, two unreliable responses and five non-responses. Which conclusion is appropriate?

1. The 22 agreements conclusively establish the entire receivables balance, so the remaining results can be ignored.
2. The auditor should evaluate all categories of results with other audit evidence and determine whether further procedures are necessary. (correct answer)
3. All differences and non-responses should automatically be recorded as misstatements without investigating their underlying causes.
4. The auditor should treat unreliable responses and non-responses as positive confirmations because both were originally dispatched.

Answer: B — The auditor should evaluate all categories of results with other audit evidence and determine whether further procedures are necessary.

Explanation. SA 505, paragraph 13, requires the auditor to evaluate whether confirmation results provide relevant and reliable evidence or whether further procedures are necessary. The study material's section 3.8 classifies results into appropriate responses without exceptions, unreliable responses, non-responses and responses indicating exceptions. Each category requires appropriate evaluation. Option a is incorrect because satisfactory responses from some customers do not automatically resolve evidence gaps concerning the remaining balances.

Where it goes wrong. Treating confirmation results as a simple numerical success rate instead of evaluating the reliability and implications of every response category.

Authority. SA 505; section 3

Question 21 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. A company appoints a new auditor for the current year. The predecessor auditor had examined under statutory audit the previous year's financial statements. Which factor determines whether the new auditor is conducting an initial audit engagement?

A company appoints a new auditor for the current year. The predecessor auditor had examined under statutory audit the previous year's financial statements. Which factor determines whether the new auditor is conducting an initial audit engagement?

1. The current auditor must have performed no audit work for the company during any earlier financial period.
2. The company must have changed its accounting policies immediately before appointing the new auditor.
3. An initial audit engagement arises where prior-period financial statements were unaudited or were examined under statutory audit by a predecessor auditor. (correct answer)
4. An initial audit engagement arises only when the previous auditor has resigned before completing the audit.

Answer: C — An initial audit engagement arises where prior-period financial statements were unaudited or were examined under statutory audit by a predecessor auditor.

Explanation. SA 510, section 4.2, defines an initial audit engagement as an engagement in which either the prior-period financial statements were not examined under statutory audit or those statements were examined under statutory audit by a predecessor auditor. The definition is not dependent on a change in accounting policies or the reason for replacing the previous auditor. Option a is too narrow because the applicable definition focuses on the prior-period financial statements and the predecessor-auditor relationship.

Where it goes wrong. Confusing the definition of an initial audit engagement with the reasons for appointing a new auditor.

Authority. SA 510; section 4

Question 22 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. An auditor performing an initial audit engagement identifies differences between the prior-period closing balances and current-period opening balances. Which procedure is required under SA 510?

An auditor performing an initial audit engagement identifies differences between the prior-period closing balances and current-period opening balances. Which procedure is required under SA 510?

1. Accept the differences if they have been approved by management and are described as normal year-opening adjustments.
2. Verify only the opening balances of assets because opening liabilities are covered by current-period substantive procedures.
3. Determine whether previous closing balances were correctly brought forward and whether appropriate accounting policies are reflected in opening balances. (correct answer)
4. Replace the opening balances with current-year closing balances and treat the resulting difference as a prior-period adjustment.

Answer: C — Determine whether previous closing balances were correctly brought forward and whether appropriate accounting policies are reflected in opening balances.

Explanation. SA 510, section 4.4, requires the auditor to determine whether previous-period closing balances have been correctly brought forward or, where appropriate, whether adjustments have been disclosed as prior-period items. The auditor must also determine whether opening balances reflect appropriate accounting policies. Option a incorrectly assumes that management approval establishes the validity of differences, while option b improperly excludes opening liabilities from the auditor's responsibilities.

Where it goes wrong. Assuming that management-approved opening adjustments need not be examined by the current auditor.

Authority. SA 510; section 4

Question 23 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. The predecessor auditor issued an unmodified opinion on the previous year's financial statements. During the current audit, the new auditor identifies indications that a material opening receivable may have been overstated. How should the new auditor proceed?

The predecessor auditor issued an unmodified opinion on the previous year's financial statements. During the current audit, the new auditor identifies indications that a material opening receivable may have been overstated. How should the new auditor proceed?

1. Accept the opening balance because an unmodified predecessor opinion conclusively establishes its correctness.
2. Obtain sufficient appropriate evidence through current-period procedures or specific opening-balance procedures and investigate the indicated misstatement. (correct answer)
3. Ignore the matter because the current auditor's responsibility begins only with transactions recorded after appointment.
4. Require the predecessor auditor to revise the previous report before performing any procedures on the opening balance.

Answer: B — Obtain sufficient appropriate evidence through current-period procedures or specific opening-balance procedures and investigate the indicated misstatement.

Explanation. SA 510, sections 4.4 and 4.5.2, allow the current auditor to examine prior examined financial statements and supporting documentation when obtaining opening-balance evidence. However, ordinary reliance on prior closing balances is not appropriate when current audit work indicates possible misstatements. The auditor must perform additional procedures and assess the current-period effect. Option a wrongly treats the predecessor's unmodified opinion as a guarantee of opening-balance accuracy.

Where it goes wrong. Treating the predecessor auditor's unmodified opinion as conclusive evidence that opening balances cannot contain material misstatements.

Authority. SA 510

Question 24 · 2 marks · Chapter 4: Audit Evidence · hard

Scenario. An auditor is examining opening trade receivables, trade payables and long-term borrowings. Which combination of current-period procedures is most appropriate for obtaining evidence about these opening balances?

An auditor is examining opening trade receivables, trade payables and long-term borrowings. Which combination of current-period procedures is most appropriate for obtaining evidence about these opening balances?

1. Use closing inventory verification for all three balances because inventory procedures provide evidence about every opening balance.
2. Use current-period sales invoices for receivables, purchase invoices for payables and internal loan schedules for long-term borrowings.
3. Obtain management representations for receivables and payables and examine the preceding year's audit report for borrowings.
4. Examine current-period collections of opening receivables, payments of opening payables and third-party confirmations for long-term borrowings. (correct answer)

Answer: D — Examine current-period collections of opening receivables, payments of opening payables and third-party confirmations for long-term borrowings.

Explanation. SA 510, sections 4.5.3 and 4.5.4, explain that collection of opening receivables and payment of opening payables during the current period may provide evidence regarding their existence, rights and obligations, completeness and valuation at the beginning of the year. For non-current balances such as long-term debt, third-party confirmations may provide relevant evidence. Option c relies excessively on management statements and preceding audit documentation.

Where it goes wrong. Assuming that the same opening-balance procedures are equally suitable for current assets, current liabilities and long-term obligations.

Authority. SA 510

Question 25 · 2 marks · Chapter 4: Audit Evidence · medium

Scenario. During an initial audit engagement, the auditor concludes that an opening-balance accounting policy has not been consistently applied in the current-period financial statements and the resulting material effect has not been adequately disclosed. Which reporting consequence is appropriate?

During an initial audit engagement, the auditor concludes that an opening-balance accounting policy has not been consistently applied in the current-period financial statements and the resulting material effect has not been adequately disclosed. Which reporting consequence is appropriate?

1. Express a qualified opinion or an adverse opinion, as appropriate, in accordance with SA 705. (correct answer)
2. Express a qualified opinion or a disclaimer because every opening-balance issue represents an evidence limitation.
3. Express an unmodified opinion because policy inconsistencies relating to opening balances are exclusively prior-period matters.
4. Issue an adverse opinion in every case because any change in an accounting policy indicates deliberate financial statement manipulation.

Answer: A — Express a qualified opinion or an adverse opinion, as appropriate, in accordance with SA 705.

Explanation. SA 510, section 4.6, requires sufficient appropriate evidence about whether accounting policies reflected in opening balances have been consistently applied and whether changes have been properly accounted for and disclosed. Where the auditor concludes that the policies have not been consistently applied or a change is not properly accounted for or disclosed, a qualified or adverse opinion is required as appropriate under SA 705. Option b confuses an identified misstatement with an inability to obtain evidence, which may instead lead to a qualified opinion or disclaimer.

Where it goes wrong. Confusing an identified accounting-policy misstatement with an evidence limitation, and incorrectly selecting a disclaimer solely because opening balances are involved.

Authority. SA 510; SA 705; section 4