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Statistical Sampling for Substantive Testing

MULTIPLE CHOICE:

1. In applying variables sampling, an auditor attempts to


a. Estimate a qualitative characteristic of interest.
b. Determine various rates of occurrence for specified
attributes.
c. Discover at least one instance of a critical error.
d. Predict a monetary population value within a range of
precision.

ANSWER: D

2. The measure of variability of a statistical sample that


serves as an estimate of the population variability is the
a. Basic precision.
b. Range.
c. Standard deviation.
d. Interval.

ANSWER: C

3. An auditor selects a statistical sample from a large


inventory of replacement parts. Which of the following
audit objectives would be most appropriate if the sampling
method used is probability proportional to size (PPS)?
a. The auditor plans to estimate the total dollar value
of the inventory when a recorded book value does not
exist.
b. The auditor plans to make a statement concerning the
total dollar amount of error in the population from
the recorded book value.
c. The auditor wishes to accept or reject the hypothesis
that the proportion of defective parts in the
population is less than 5%.
d. The auditor wishes to estimate the proportion of
defective parts in the population.

ANSWER: B

4. Precision is defined as the range (plus or minus) within


which the true answer most likely falls. Reliability, also
referred to as the confidence level, is the likelihood that
the sample range contains the true value. Of the following
statements concerning precision and reliability, which one
is not true?

160
Chapter 10 Statistical Sampling for Substantive Testing 161

a. Precision is set by the auditor and is a function of


materiality and risk.
b. The narrower the range of precision, the smaller the
sample size.
c. An increase in control risk, other parameters
remaining unchanged, causes a narrowing of the
precision range.
d. Overall audit risk is the complement of reliability.

ANSWER: B

5. In an application of mean per unit sampling, the following


information has been obtained:
Reported book value $600,000
Point estimate (estimated total value) 591,000
Allowance for sampling risk (precision) +- 22,000
Tolerable error +- 45,000
The appropriate conclusion would be that the reported book
value is
a. Acceptable only if the risk of incorrect rejection is
at least twice the risk of incorrect acceptance.
b. Acceptable.
c. Not acceptable.
d. Acceptable only if the risk of incorrect acceptance is
at least twice the risk of incorrect rejection.

ANSWER: B

6. Sampling risk refers to the possibility that:


a. The auditor may use a less than optimal statistical
method for the circumstances, e.g. difference
estimation instead of ratio estimation.
b. The auditor may fail to recognize an error that is
included in the sample.
c. Even though a sample is properly chosen, it may not be
representative of the population.
d. The confidence level and/or precision established by
the auditor are not appropriate.

ANSWER: C

7. The primary reason for an auditor to use statistical


sampling is to
a. Obtain a smaller sample than would be required by
non-statistical sampling techniques.
b. Obtain a sample more representative of the population
than would be obtained by non-statistical sampling
162 Chapter 10 Statistical Sampling for Substantive Testing

techniques.
c. Allow the auditor to quantify, and therefore control,
the risk of making an incorrect decision based on
sample evidence.
d. Meet requirements of Statements on Auditing
Standards.

ANSWER: C

8. The variability of a population, as measured by the


standard deviation, is the
a. Extent to which the individual values of the items in
the population are spread about the mean.
b. Degree of asymmetry of a distribution.
c. Tendency of the means of large samples (at least 30
items) to be normally distributed.
d. Measure of the closeness of a sample estimate to a
corresponding population characteristic.

ANSWER: A

9. Management has asked the internal auditing staff to


evaluate the efficiency of the accounts payable system,
particularly whether it would be economically feasible to
reduce the number of discounts lost through slow
payment. The audit staff decides that it needs to
determine the amount currently being lost and can
do so by taking a sample from payments made in the last six
months, examining each, and recording the amount, if any,
of the discount lost. This information can be used to
project the total amount of discounts lost for the period.
This proposed plan is an example of
a. Attribute sampling.
b. Acceptance sampling.
c. Variables sampling.
d. Discovery sampling.

ANSWER: C

10. During an audit involving testing of accounts receivable


balances, an auditor decides to specify a precision
interval of $100,000 instead of the $200,000 precision interval
that was called for in the sampling plan contained in the
audit program. Which of the following would be a
result of the auditor's decision to narrow the precision
interval?
Chapter 10 Statistical Sampling for Substantive Testing 163

a. An increase in the required sample size.


b. A decrease in the required sample size.
c. An increase in the population standard deviation.
d. A decrease in the population standard deviation.

ANSWER: A

11. To determine the number of items to be selected in a sample


for a particular substantive test of details, the auditor
should consider all of the following except
a. Tolerable error.
b. Expected error.
c. Allowable risk of incorrect acceptance.
d. Characteristics of the population.

ANSWER: D

12. Sample size


a. Increases with the use of higher confidence levels.
b. Decreases with the use of higher confidence levels.
c. Remains unchanged with changes in confidence levels.
d. Increases with the use of lower confidence levels.

ANSWER: A

13. In sampling for variables, which of the following must be


known in order to estimate the appropriate sample size
required to meet the auditor's needs in a given situation?
a. The total amount of the population.
b. The desired standard deviation.
c. The desired confidence level.
d. The estimated rate of error in the population.

ANSWER: C

14. In a variables sampling application, which of the following


will result when the confidence level is changed from 90%
to 95%?
a. Standard error of the mean will not be affected.
b. Non-sampling error will decrease.
c. Sample size will increase.
d. Point estimate of the arithmetic mean will increase.

ANSWER: C

15. An auditor wishes to estimate inventory shrinkage by


weighing a sample of inventory items. From past
164 Chapter 10 Statistical Sampling for Substantive Testing

experience, the auditor knows that a few specific items are


subject to unusually large amounts of shrinkage. In using
statistical sampling, the auditor's best course of action
is to
a. Eliminate any of the items known to be subject to
unusually large amounts of shrinkage.
b. Increase the sample size to lessen the effect of the
items subject to unusually large amounts of shrinkage.
c. Stratify the inventory population so that items
subject to unusually large amounts of shrinkage are
reviewed separately.
d. Continue to draw new samples until a sample is drawn
which includes none of the items known to be subject
to large amounts of shrinkage.

ANSWER: C

16. In conducting a substantive test of an account balance, an


auditor hypothesizes that no material error exists. The
risk that sample results will support the hypothesis when a
material error actually does exist is the risk of
a. Incorrect rejection.
b. Alpha error.
c. Incorrect acceptance.
d. Type I error.

ANSWER: C

17. Which of the following best illustrates the concept of


sampling risk?
a. A randomly chosen sample may not be representative of
the population as a whole on the characteristic of
interest.
b. An auditor may select audit procedures that are not
appropriate to achieve the specific objective.
c. An auditor may fail to recognize errors in the
documents examined for the chosen sample.
d. The documents related to the chosen sample may not be
available for inspection.

ANSWER: A

18. Using the following results from a variables sample,


compute the achieved precision:
Chapter 10 Statistical Sampling for Substantive Testing 165

Population size = 10,000


Sample size = 144
Sample standard deviation = $24.00
Confidence level = 90% (Z = 1.65)
Mean = $84.00
a. $5,702
b. $33,000
c. $20,000
d. $16,500

ANSWER: B

19. Which of the following sampling plans would be designed to


estimate a numerical measurement of a population, such as a
dollar value?
a. Discovery sampling.
b. Numerical sampling.
c. Sampling for variables.
d. Sampling for attributes.

ANSWER: C

20. An auditor is using the mean-per-unit method of variables


sampling to estimate the correct total value of a group of
inventory items. Based on the sample, the auditor
estimates with precision of +-4% and confidence of 90% that
the correct total is $800,000. This means that:
a. There is a 4% chance that the actual correct total is
less than $720,000 or more than $880,000.
b. There is a 10% chance that the actual correct total is
less than $768,000 or more than $832,000.
c. The probability that the inventory is not
significantly overstated is between 6% and 14%.
d. The inventory is not likely to be overstated by more
than 4.4% ($35,200) nor understated by more than
3.6%($28,800).

ANSWER: B

21. Which of the following statements is correct concerning the


auditor's use of statistical sampling?
a. An auditor needs to estimate the dollar amount of the
standard deviation of the population to use classical
variables sampling.
b. An assumption of PPS sampling is that the underlying
accounting population is normally distributed.
c. A classical variables sample needs to be designed with
166 Chapter 10 Statistical Sampling for Substantive Testing

special considerations to include negative balances


in the sample.
d. The selection of zero balances usually does not
require special sample design considerations when using
PPS sampling.

ANSWER: A

22. Which of the following statements concerning alpha and beta


risk is true?
a. As alpha risk increases, beta risk decreases.
b. As inherent risk and/or control risk increase, beta
risk should also increase.
c. As inherent risk and/or control risk increase, beta
risk should decrease.
d. As a "rule of thumb," the auditor generally sets beta
risk equal to or less than 10%, inasmuch as it is the
basis for the audit opinion.

ANSWER: C

23. Statistical samples as compared to non-statistical samples


permit the auditor to
a. Quantify and control sampling risk.
b. Eliminate non-sampling errors of every type.
c. Obtain smaller sample sizes in all cases.
d. Use less complex formulas than those required to
evaluate non-statistical samples.

ANSWER: A

24. Probability-proportional-to-size (PPS) sampling is less


efficient if
a. Computerized account balances are being audited.
b. Statistical inferences are to be made.
c. The audit objective is oriented to understatements.
d. The account contains a large number of transactions.

ANSWER: C

25. A number of factors influences the sample size for a


substantive test of details of an account balance. All
other factors being equal, which of the following would
lead to a larger sample size?
a. Lowering of assessed level of control risk.
b. Lowering of assessed inherent risk through use of
analytical review procedures.
Chapter 10 Statistical Sampling for Substantive Testing 167

c. Smaller expected frequency of errors.


d. Smaller measure of tolerable error.

ANSWER: D

26. For variables sampling purposes, changes in certain


parameters affect sample size positively while changes in
others have a negative effect. In this regard, which of
the following statements is true?
a. An increase in beta risk reduces sample size.
b. Population size affects sample size inversely, i.e.,
as population size increases, sample size decreases.
c. An increase in alpha risk increases sample size.
d. As materiality (M) increases, sample size increases.

ANSWER: A

27. A population that is physically separated into two or more


groups based on the sample variation being less than that
for the entire population is called a
a. Systematic sample.
b. Judgment sample.
c. Simple random sample.
d. Stratified sample.

ANSWER: D

28. The standard deviation of a sample will usually decrease


with
a. A decrease in sample size.
b. The use of stratification.
c. An increase in desired precision.
d. An increase in confidence level.

ANSWER: B

29. An auditor is primarily concerned with substantial


overstatements of accounts receivable balances and expects
few, if any, errors. In an effort to concentrate on the
large dollar values, the auditor would logically employ
a. Ratio estimation.
b. Probability proportional to size sampling
c. Discovery sampling.
d. Mean per unit sampling.

ANSWER: B
168 Chapter 10 Statistical Sampling for Substantive Testing

30. Consider the following sampling plan: An auditor took a


sample of 30 receiving reports completed in the last 12
months. The receiving reports were filed along with their
corresponding requisitions and purchase orders by the date
on which the goods were moved from the receiving department
to their storage area in the warehouse. Sampling from a
five-place random digit table, the first two digits were
used to determine the month (from 1 to 12) and the next two
digits to determine the day of the month (from 1 to 31).
The auditor discarded random numbers for which
corresponding dates did not exist or on which the warehouse was
closed. For each selected date the auditor then took as
the sample item the second report in the file for that day.
Can the auditor rely on the statistical inference of this
test?
a. Yes, because the plan eliminated any possible
deliberate or unconscious bias in the auditor's
selection of the sample items.
b. Yes, because a random number table was used to make
the selection.
c. No, because the auditor sampled without replacement.
d. No, because all items do not have an equal chance of
being selected.

ANSWER: D

31. In testing accounts receivable, an auditor sends out


positive confirmation requests to 100 randomly selected
customers. A customer returns the confirmation indicating
that the balance is correct when, in fact, the balance is
overstated. This is an example of
a. Tainting.
b. Sampling error.
c. Standard error.
d. Non-sampling error.

ANSWER: D

32. An auditor wishes to use stratified sampling to estimate


the book value of a large accounts receivable file. The
auditor has a complete listing of the file in account number
order. The listing is several pages long and includes the
account balance of each customer. Several customers have
very large account balances while most balances are small.
Which of the following would be the most appropriate
means of classifying members of this population into
strata?
Chapter 10 Statistical Sampling for Substantive Testing 169

a. Account balance.
b. Account number.
c. Alphabetically by name.
d. Numerically by pages of the listing.

ANSWER: A

33. Auditors who prefer statistical to non-statistical sampling


believe that the principal advantage of statistical
sampling flows from its unique ability to
a. Define the precision required to provide adequate
satisfaction.
b. Provide a mathematical measurement of risk.
c. Establish conclusive audit evidence with decreased
audit effort.
d. Promote a more legally defensible procedural approach.

ANSWER: B

34. In a probability-proportional-to-size sample with a


sampling interval of $10,000, an auditor discovered that a
selected account receivable with a recorded amount of
$5,000 had an audit amount of $2,000. The projected error
of this sample was
a. $3,000
b. $4,000
c. $6,000
d. $8,000

ANSWER: C

35. An auditor selects a preliminary sample of 100 items out of


a population of 1,000 items. The sample statistics
generate an arithmetic mean of $60, a standard deviation
of $6, and a standard error of the mean of $.60. If
the sample was adequate for the auditor's purposes and
the auditor's desired precision was plus or minus $1,000,
the minimum acceptable dollar value of the population would
be
a. $61,000.
b. $60,000.
c. $59,000.
d. $58,800.

ANSWER: C
170 Chapter 10 Statistical Sampling for Substantive Testing

36. During the audit of inventories an external auditor


specified a precision of five percent instead of the four
percent contained in the preliminary audit program. What
would be the impact of the change in precision?
a. A decrease in population standard deviation.
b. An increase in population standard deviation.
c. A decrease in required sample size.
d. An increase in required sample size.

ANSWER: C

37. The inventory of a subsidiary consists of 12,980 items


valued at $19,625,000. The inventory data are not
available in computer readable form, but are contained in
217 pages of printout with 60 lines per page. Each page has a
page total. Based on the last audit, the auditor
expects there to be a few errors of overstatement. The most
efficient
sampling technique to test the reasonableness of the
stated value is
a. Stratified mean-per-unit estimation.
b. Probability proportional to size sampling (PPS)
c. Difference estimation.
d. Ratio estimation.

ANSWER: B

38. Statistical sampling would be appropriate to estimate the


value of an auto dealer's 3,000 line-item inventory because
statistical sampling is:
a. Reliable and objective.
b. Thorough and complete.
c. Thorough and accurate.
d. Complete and precise.

ANSWER: A

39. In a variables estimation application involving a book


value of $550,000, with a tolerable error of specified
precision limits of plus or minus $50,000, the auditor
has calculated a point estimate of the population value to
be $490,000. At the 95% reliability level, sample results
indicate an achieved precision of plus or minus
$50,000. Based on these data, the auditor would
a. Conclude that the book value is acceptable at the 95%
reliability level.
b. Reject the book value and extend control testing.
Chapter 10 Statistical Sampling for Substantive Testing 171

c. Conclude that the book value is acceptable at a level


of reliability higher than 95%.
d. Extend substantive testing.

ANSWER: D

40. What effect does an increase in the standard deviation have


on the required sample size of mean-per-unit estimation and
probability proportional to size sampling? Assume no
change in any of the other characteristics of the
population and no change in desired precision and
confidence.
Mean-per-unit Estimation PPS

a. Decrease in sample size No change in sample size


b. No change in sample size Decrease in sample size
c. Increase in sample size No change in sample size
d. No change in sample size Increase in sample size

ANSWER: C

41. Use of the difference estimation sampling technique to


estimate dollar amounts is inappropriate when
a. The total book value is known and corresponds to the
sum of all the individual book values.
b. A book value for each sample item is unknown.
c. There are some observed differences between audited
values and book values.
d. The audited values are nearly proportional to the book
value.

ANSWER: B

42. Select the description which illustrates sampling risk.


a. Applying audit procedures which are inappropriate for
the audit objectives.
b. Failing to recognize errors or deviations in the
documents examined.
c. Arriving at incorrect statistical conclusions due to
computational errors.
d. Choosing a sample which has proportionately more
errors than the population.

ANSWER: D
172 Chapter 10 Statistical Sampling for Substantive Testing

43. A bank auditor is interested in estimating the average


account balance of its depositors based on a sample. This
substantive test is an example of
a. Attribute sampling.
b. Discovery sampling.
c. Acceptance sampling.
d. Variables sampling.

ANSWER: D

COMPLETION:

44. Of the two variations of classical variables sampling,


often results in smaller sample sizes
and is therefore more cost-effective under those
circumstances.

ANSWER: DIFFERENCE ESTIMATION

45. Detection risk, defined as the risk that material errors or


fraud that are not prevented or detected by the client's
system of internal control, will not be discovered by the
auditor, is referred to as by
statisticians.

ANSWER: BETA RISK

46. Rejecting a book value that is stated fairly is referred to


as risk.

ANSWER: ALPHA

47. Standard deviation is defined as the degree of variation of


individual values about the population mean. The more
narrowly dispersed the values in the population, the
(larger or smaller) the standard deviation.

ANSWER: SMALLER

48. In applying probability proportional to size sampling, the


auditor rejects a book value as being materially overstated
when upper error limit is (greater or less)
than the tolerable error.
Chapter 10 Statistical Sampling for Substantive Testing 173

ANSWER: GREATER

49. For PPS sampling purposes, the allowance for sampling risk
is the sum of basic precision plus the .

ANSWER: INCREMENTAL ALLOWANCE

50. The incremental allowance for precision need be calculated


only when errors are found in logical units that are
(larger or smaller) than the _______________
.

ANSWER: SMALLER, SAMPLING INTERVAL

51. As contrasted with classical variables sampling,


probability proportional to size sampling has the advantage
of automatically the population such that
logical units equal to or greater than the _____________
_________ have a 100% chance of being included in the
sample.

ANSWER: STRATIFYING, SAMPLING INTERVAL

52. Probability proportional to size sampling has its greatest


applicability to situations in which the auditor suspects a
few material errors of .

ANSWER: OVERSTATEMENT

53. In evaluating sampling results for mean per unit sampling


purposes, achieved precision (A') must be equal to or
______ (greater or less) than desired
precision (A). Otherwise, the actual beta risk is higher
than specified in the sampling plan, and further sampling
would be necessary to reduce the risk to an acceptable
level.

ANSWER: LESS

MATCHING:

54. Match the following terms with their definitions:

A. Projected error
B. Achieved precision
C. Basic precision
D. Desired precision
174 Chapter 10 Statistical Sampling for Substantive Testing

E. Finite correction factor


F. Range of acceptability
H. Sampling risk
I. Standard deviation
J. Upper error limit
K. Reliability
L. Sampling interval
M. Precision
N. Logical sampling unit

____1. The risk that the auditor’s conclusions regarding a


population are incorrect.

____2. A measure of population variability.

____3. The range within which the true answer most likely falls.

____4. The likelihood that the sample range contains the true
value.

____5. Required for mean per unit and difference estimation


sampling applications when the preliminary sample size
equals or exceeds 5% of the population size.

____6. The calculated range within which the true answer most
likely falls.

____7. The range of possible values considered acceptable to


the
auditor.

____8. The item to which a randomly selected dollar attaches.

____9. The distance between two consecutive sample items.

____10. Auditor’s best estimate of overstatement error.

SOLUTION:

1. H
2. I
3. M
4. K
5. E
6. B
7. F
8. N
Chapter 10 Statistical Sampling for Substantive Testing 175

9. L
10. A

PROBLEM/ESSAY:

55. An auditor wishes to randomly select a sample of customers'


accounts receivable for confirmation purposes. The population
consists of 4,000 accounts with a book value of $6,000,000. The
preliminary estimate of standard deviation (computer calculated
from book value) is $25. The auditor considers $40,000 to be a
material misstatement of accounts receivable. The auditor has
assessed inherent risk at 60% and control risk at 70%, and has
set alpha risk and overall audit risk at 10%.

a. Assuming the following Z values, calculate the


sample size:

ALPHA/2
OR BETA Z VALUE

1.00% 2.33
2.00 2.06
2.50 1.96
5.00 1.65
10.00 1.29
20.0 .85
24.0 .71

b. An examination of the sample items produces a sample


mean of $1,200 and a standard deviation of the sample
items equal to $22. What is the estimated population
value?
c. What is the achieved precision?
d. What is the minimum audit adjustment based on these
findings?

SOLUTION:

a. 35
b. $4,800,000
c. $24,539
d. Downward adjustment of $1,184,4539
176 Chapter 10 Statistical Sampling for Substantive Testing

56. An auditor suspects that the client's ending merchandise


inventory is materially overstated and wishes to apply
probability proportional to size sampling to estimate the extent
of overstatement. The inventory consists of 10,000 line items
on computer printouts with a total book value of $14,000,000.
The auditor has set the risk of incorrect acceptance at 5%, the
tolerable error at $180,000, and the anticipated error at
$70,000.

a. Given the following reliability and expansion factors


at a 5% risk of incorrect acceptance, calculate sample
size:

OVERSTATEMENT
ERRORS RELIABILITY FACTOR EXPANSION FACTOR

0 3.00 1.60
1 4.75
2 6.30
3 7.76

b. What is the sampling interval?


c. In auditing the sample, the auditor discovered the
following errors:

Item Book Value Audited Value

A $20,000 0
E $800,000 $400,000
S $220,000 0

Calculate the projected error.


d. Determine the allowance for sampling risk and the
upper
error limit.

SOLUTION:

a. 618
b. $22,653
c. $642,653
d. Allowance for sampling risk = $84,949 ($67,959 + $16,990)
Upper error limit = $727,602 ($642,653 + $84,949)