Free Practice Questions for AGA CGFM Exam

Materiality in Auditing:

Materiality refers to the significance of misstatements or omissions in financial statements that could influence the decisions of users relying on those statements.

During theplanning phaseof a financial audit, the auditor determines the dollar threshold for materiality based on professional judgment, considering the size and nature of the auditee’s operations and the needs of financial statement users.

Why the Auditor Determines Materiality:

Theauditorhas the responsibility to form an independent opinion on the financial statements and must determine materiality thresholds to design audit procedures effectively.

Materiality thresholds guide the extent of testing and ensure the audit focuses on areas most likely to impact decision-making.

Why Other Options Are Incorrect:

B. Auditee:The auditee provides the information, but it does not decide the materiality threshold.

C. Auditor in consultation with the auditee:The auditor may consult with the auditee for context, but the final determination is solely the auditor's responsibility.

D. Audit committee:While the audit committee oversees the audit, it does not set materiality thresholds.

References and Documents:

GAAS (Generally Accepted Auditing Standards):States that materiality is determined by the auditor’s judgment.

AICPA AU-C Section 320:Provides guidance on materiality in planning and performing audits.

Understanding the Scenario:The table compares the costs of four printing jobs performed by an "Internal Print Shop" versus three external vendors (Ace Printing, ABC Printing, and Printing, Inc.). Eachvendor's pricing varies by print job type. The task is to evaluate whether outsourcing (hiring external vendors) is a reasonable alternative to keeping the work in-house.

Key Considerations in Outsourcing:According to governmental accounting principles and budgeting practices outlined by theAssociation of Government Accountants (AGA), the decision to outsource should consider:

Cost-effectiveness: Does outsourcing reduce costs without compromising quality or service delivery?

Operational efficiency: Can outsourcing free up internal resources for other priorities?

Comparative pricing: How do external vendor rates compare to internal costs for identical services?

Analysis of the Print Jobs:Let’s break down the cost comparison for each print job:

Zone Map:Internal cost = $4.23.Cheapest vendor = Printing, Inc., at $4.00.Outsourcing is cheaper for this job.

Agenda Packet:Internal cost = $23.18.Cheapest vendor = Printing, Inc., at $22.00.Outsourcing is cheaper for this job.

Budget Cover:Internal cost = $840.00.Cheapest vendor = ABC Printing, at $624.30.Outsourcing is significantly cheaper for this job.

Employee Benefit Brochure:Internal cost = $6.14.Cheapest vendor = ABC Printing, at $4.90.Outsourcing is cheaper for this job.

Conclusion Based on Analysis:

Across all four print jobs, the lowest-cost external vendor always beats the Internal Print Shop's costs.

From abudgetary perspective, outsourcing is feasible as it offers cost savings across all jobs.

Why Not A, C, or D?:

Option A(Keep printing in-house): Incorrect, as in-house costs are consistently higher than the cheapest external vendor.

Option C(Outsourcing is necessary): Incorrect, as feasibility doesn’t mean necessity; internal printing is still an option if other factors (like quality or control) outweigh costs.

Option D(Award contract to ABC Printing): Incorrect, since the best vendor depends on the job (e.g., Printing, Inc. is cheaper for Zone Map and Agenda Packet).

References:

Association of Government Accountants (AGA),Government Financial Manager Certification Study Guide: Budgeting, Cost Accounting, and Auditing Principles.

Government Finance Officers Association (GFOA),Best Practices in Outsourcing and Procurement.

Federal Accounting Standards Advisory Board (FASAB),Cost Accounting Standards for Governmental Operations.

Performance Audit Objectives:

Performance audits evaluate whether government entities are operating efficiently, effectively, and in compliance with applicable laws.

A critical aspect is assessing whether the entity has implementedcorrective actionsin response to prior audit findings and recommendations, as this demonstrates accountability and progress.

Explanation of Answer Choices:

A. Updated its vision and strategic mission statements: Incorrect. While strategic planning is important, it is not the primary focus of performance audit objectives.

B. Corrective actions to address prior findings and recommendations: Correct. Addressing prior findings is a key objective to ensure identified issues have been resolved.

C. Updated its financial reports’ MD&A: Incorrect. MD&A (Management’s Discussion and Analysis) is related to financial reporting, not performance audits.

D. Internal controls in place: Incorrect. While internal controls are reviewed, the focus here is on corrective actions to past findings.

References:

GAO,Government Auditing Standards (Yellow Book).

GAO,Performance Auditing Guidance.

Importance of Prior Audit Findings:

When planning a local government financial statement audit, auditors should first reviewprevious audit findingsto identify recurring issues, control weaknesses, or non-compliance areas. This helps auditors focus on areas of higher risk and guides the development of an effective audit strategy.

Explanation of Answer Choices:

A. Government-wide financial statements: Important, but these are reviewed after identifying risk areas from prior findings.

B. Fund financial statements: These are part of the audit process but not the starting point for planning.

C. Reconciliations between fund financial statements: These are analyzed during the audit but come later in the process.

D. Previous audit findings: Correct. Reviewing past findings ensures the auditor addresses previously identified risks and compliance issues.

References:

GAO,Government Auditing Standards (Yellow Book).

AICPA,Audit Planning and Risk Assessment Best Practices.

Role of the Independent Auditor in Financial Reporting:

Independent auditors evaluate internal controls as part of their audit procedures to support an opinion on the fair presentation of the financial statements. This includes assessing whether internal controls over financial reporting are designed and operating effectively.

This evaluation helps ensure that financial statements are free of material misstatements, whether due to error or fraud.

Why Management Does Not Do This:

Managementdesigns and implements internal controls but does not evaluate them to support the auditor’s opinion. Management’s responsibility is to certify the accuracy of the financial statements, while the auditor provides an independent opinion.

Why Other Options Are Incorrect:

C. The program office:This entity oversees operations but does not perform evaluations to support an audit opinion.

D. The audit committee:The committee provides oversight of the audit process but does not perform the evaluation itself.

References and Documents:

GAAS (Generally Accepted Auditing Standards):Outlines the responsibilities of independent auditors regarding internal control evaluation.

GAO Yellow Book:Specifies the role of external auditors in evaluating internal controls during financial audits.

Definition of Internal Control Weakness:Internal control weaknesses occur when controls fail to prevent or detect errors, fraud, or conflicts of interest. Allowing project managers to oversee companies in which they have a material interest introduces aconflict of interest, undermining internal controls.

Explanation of Answer Choices:

A. The contract department staff awards contracts and maintains a database for vendor information: While not ideal, this does not automatically signal a critical control weakness.

B. Management policy allows project managers to oversee controls of companies in which they have a material interest: Correct. This represents a serious conflict of interest and lack of independence.

C. The budget department staff is responsible for preparing the budget and for reporting on budget cost variances: This may indicate concentration of duties but is less severe than a direct conflict of interest.

D. The accounting department has one clerk prepare vendor payments and another clerk reconcile bank accounts: This demonstrates good segregation of duties, not a weakness.

References:

COSO,Internal Control - Integrated Framework.

GAO,Standards for Internal Control in the Federal Government (Green Book).

What Are Liquidity Ratios?Liquidity ratios are financial metrics used to measure an organization’s ability to meet its short-term financial obligations as they come due. These ratios assess whether the organization has sufficient liquid assets (like cash, receivables, or short-term investments) to cover its current liabilities (debts or obligations due within a year).

Why Are They Relevant to Creditors?Creditors care deeply about an entity's ability to repay its debts in a timely manner. Liquidity ratios provide a snapshot of the organization's financial health and give insight into its capacity to meet short-term demands. They are essential tools in evaluating whether a government entity (federal, state, or local) or any other organization can pay its creditors without needing to secure additional financing or liquidate long-term assets.

Common Liquidity Ratios:The most commonly used liquidity ratios are:

Current Ratio:This measures the organization’s ability to pay off its current liabilities with current assets.Formula:Current Assets ÷ Current Liabilities

Quick Ratio (Acid-Test Ratio):A stricter version of the current ratio, it excludes less liquid assets (like inventory) to assess the organization’s immediate ability to pay short-term debts.Formula:(Current Assets - Inventory) ÷ Current Liabilities

Cash Ratio:Focuses only on the most liquid assets, such as cash and cash equivalents.Formula:Cash + Cash Equivalents ÷ Current Liabilities

How Do Liquidity Ratios Apply to Governmental Accounting?In governmental accounting, liquidity ratios are crucial for determining whether a governmental entity has the financial flexibility to manage short-term obligations like accounts payable, payroll, and other operating costs. For example:

State and local governments use liquidity ratios to show stakeholders their ability to sustain operations without financial strain.

Government-wide financial statements (under GASB standards) often emphasize liquidity to demonstrate fiscal health to bondholders and credit rating agencies.

Why Not Other Ratios?

A. Budgetary Cushion Ratios:These focus on the organization’s ability to withstand revenue shortfalls and maintain budgetary reserves, not specifically on meeting creditor demands.

C. Debt Burden Ratios:These measure the overall burden of debt on the organization but don’t directly address short-term liquidity or solvency.

D. Turnover Ratios:These evaluate operational efficiency (e.g., how quickly assets like inventory are converted into revenue), which doesn’t directly relate to creditor demands.

References and Documents:

Government Financial Manager (GFM) Competency Framework by the Association of Government Accountants (AGA):Section on “Financial Analysis” emphasizes the importance of liquidity ratios in assessing short-term solvency for government entities.

GASB Concepts Statement No. 1:Discusses the need for governmental financial reporting to provide information on financial condition, including short-term liquidity.

AGA Performance Management Framework Guide (2023):Highlights liquidity ratios as critical tools for demonstrating fiscal responsibility and transparency in public sector financial management.

National Performance Management Advisory Commission Framework:

TheNational Performance Management Advisory Commissiondeveloped a comprehensive framework to integrateperformance measurementinto government operations.

One of its primary goals was to incorporate performance metrics into thebudget processto align resource allocation with program outcomes.

This ensures that budgeting decisions are informed by program performance, improving efficiency and accountability.

Why the Budget Process?

By linking performance to budgeting, governments can prioritize funding for programs that demonstrate effectiveness and reduce funding for underperforming initiatives.

Why Other Options Are Incorrect:

A. Internal control plan:Internal controls focus on risk management, not incorporating performance measurement.

B. Financial statements:Performance metrics are not reported in financial statements, which focus on financial position and results.

C. Audit procedures:Audits verify financial accuracy and compliance but do not incorporate performance measurement.

References and Documents:

National Performance Management Advisory Commission Report (2010):Recommends integrating performance measurement into the budget process.

GAO Guide on Performance Budgeting:Explains how performance metrics inform budget decisions.

Understanding Shared Services:Shared services involve consolidating and centralizing resources, personnel, or processes to achieve efficiency and cost savings. This is common in government organizations looking to optimize operations.

Explanation of Answer Choices:

A. Reduce current staffing levels: While staff reductions may occur as a result, this is not the primary goal.

B. Transfer responsibilities to another entity: This describes outsourcing, not shared services.

C. Efficiently aggregate resources: Correct, as shared services aim to centralize resources for improved efficiency.

D. Provide private business opportunities: This is unrelated to shared services, which focus on internal government operations.

References:

Association of Government Accountants (AGA),Shared Services in Government.

What Is a Lockbox?

Alockboxis a service provided by banks to streamline the collection of payments. Customers send payments directly to a bank-managed P.O. box, where the bank processes and deposits them on behalf of the organization.

Why Does a Lockbox Eliminate Internal Office Processing Delays?

Payments are sent directly to the bank, bypassing the organization’s internal mail and deposit processes. This eliminates delays caused by handling checks internally and ensures quicker access to funds.

Why Other Options Are Incorrect:

B. Mail and check-clearing time:Lockboxes reduce internal processing delays but do not affect the mail delivery time or bank check-clearing processes.

C. Delays in the availability of funds after transaction initiation:Fund availability depends on banking processes, not the lockbox.

D. Writing of checks against insufficient funds:Lockboxes do not prevent the issuance of bad checks.

References and Documents:

Treasury Financial Manual:Describes lockboxes as tools to reduce internal delays in payment processing.

GAO Financial Management Best Practices:Highlights the benefits of lockboxes in expediting deposits.