According to the standards of the profession, which of the following circumstances will prevent a CPAperforming audit engagements from being independent?
a. Litigation with a client relating to billing for consulting services for which the amount is immaterial.
b. Employment of the CPA's spouse as a client's internal auditor.
c. Acting as an honorary trustee for a not-for-profit organization client.
d. Obtaining a collateralized automobile loan from a financial institution client.
Choice "b" is correct. Independence of a member is impaired if the CPA's spouse is employed by the client in a position which is audit-sensitive.
Examples of positions that are audit-sensitive include cashier, internal auditor, accounting supervisor, purchasing agent, or inventory warehouse supervisor.
Choice "d" is incorrect. The following types of loans do not impair independence:
1. Automobile loans,
2. Loans of the surrender value under terms of an insurance policy,
3. Borrowings fully collateralized by cash deposits at the same financial institution, and
4. Credit cards and cash advances on checking accounts with an aggregate unpaid balance of $10,000 or less.
Choice "a" is incorrect. Litigation not related to the engagement for an immaterial amount does not impair independence.
Choice "c" is incorrect. Acting as an honorary trustee for a not-for-profit company does not impair independence.
Management philosophy and operating style most likely would have a significant influence on an entity's control environment when:
a. Management is dominated by one individual.
b. The internal auditor reports directly to management.
c. Accurate management job descriptions delineate specific duties.
d. Those charged with governance actively oversee the financial reporting process.
Choice "a" is correct. Management philosophy and operating style encompass a broad range of characteristics. Such characteristics may include the following: management's approach to taking and monitoring business risks, management's attitudes and actions toward financial reporting, and management's attitudes toward information processing and accounting functions and personnel. These characteristics are more likely to have a significant influence on the control environment when management is dominated by one individual, since there will be few alternative viewpoints presented.
Choice "b" is incorrect. The internal audit function is part of the monitoring component of internal control, not part of the control environment. If the internal auditor reports directly to management, this would reduce his or her objectivity and perhaps make the monitoring function less effective, but it would have minimal impact on the control environment.
Choice "c" is incorrect. Accurate management job descriptions would not change the influence that management philosophy and operating style have on the entity's control environment.
Choice "d" is incorrect. The involvement of those charged with governance in the reporting process would tend to moderate or offset the influence that management philosophy and operating style have on the entity's control environment.
The discount rate is determined in advance for which of the following capital budgeting techniques?
a. Net present value.
b. Internal rate of return.
c. Accounting rate of return.
Choice "a" is correct. The discount or hurdle rate is determined in advance for computations of net present value. Project cash flows are discounted based upon a predetermined rate and compared to the investment in the project to arrive at a positive or negative net present value. Advance determination of management's required return is integral to the development and evaluation of net present value.
Choice "d" is incorrect. The payback method computes the period of time required to recover the cost of an investment and does not require a predetermined discount rate.
Choice "c" is incorrect. The accounting rate of return computes a percentage return based upon accrual basis data and does not require a predetermined discount rate.
Choice "b" is incorrect. The internal rate of return computes a rate of return that produces a net present value of zero and does not require a predetermined rate. The computed internal rate of return is evaluated in relation to management's required hurdle rate after the computation is done.