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Flashcards in 11.5 Deck (17):
1

Which of the following most likely would give the most assurance concerning the valuation assertion about accounts receivable?

Assessing the allowance for uncollectible accounts for reasonableness.

Assertions about valuation concern whether balance sheet components have been included at appropriate amounts. One such assertion is that trade accounts receivable are stated at net realizable value (gross accounts receivable minus allowance for uncollectible accounts). Hence, assessing the allowance provides assurance about the valuation of the account.

2

On the last day of the fiscal year, the cash disbursements clerk drew a company check on bank A and deposited the check in the company account bank B to cover a previous theft of cash. The disbursement has not been recorded. The auditor will best detect this form of kiting by

Examining paid checks returned with the bank statement of the next accounting period after year end.

Because the check used to make the bank transfer is not recorded in the current period, the check is not listed as outstanding on the reconciliation of the bank account on which it was drawn. The auditor detects kiting by comparing paid checks, returned in the next period and dated prior to year end, with the checks listed as outstanding on the related bank reconciliation. In other words, the auditor searches for checks that should have been listed as outstanding but were not.

3

When counting cash on hand, the auditor must exercise control over all cash and other negotiable assets to prevent

Substitution.

Simultaneous verification of cash and cash equivalents, such as negotiable securities, is common practice to avoid the possibility of conversion of negotiable assets to cash to conceal a cash shortage. The auditor should control and verify all liquid assets at one time.

4

Auditors are often concerned with the possibility of overstatement of sales and receivables. However, management may also have reasons for understating these balances. Which of the following would explain understatement of sales and receivables?

To avoid paying taxes.

State sales taxes and federal and state income taxes are based upon sales or profits, respectively. Management may attempt to reduce or avoid tax liability by not recording and reporting all sales and receivables.

5

Assuming a low assessed risk of material misstatement, which of the following audit procedures would be least likely to be performed?

Search for unrecorded cash receipts.

GAAS do not specifically require a search for unrecorded cash receipts. Given a low assessed RMM, the auditor might decide to reduce the audit effort devoted to substantive tests of assertions about cash and omit the procedure.

6

Tracing copies of computer-prepared sales invoices to copies of the corresponding computer-prepared shipping documents provides evidence that

Sales billed to customers were actually shipped.

Sales invoices are billing documents sent to customers. Tracing sales invoices to shipping documents tests for failure to ship.

7

Tracing shipping documents to prenumbered sales invoices provides evidence that

Shipments to customers were properly invoiced.

The direction of testing to determine that shipments to customers were properly invoiced is from the shipping documents to the sales invoices.

8

Which of the following procedures would an auditor most likely perform to identify unusual sales transactions?

Performing a trend analysis of quarterly sales.

Trend analysis considers ratios or accounts over time. Quarterly sales analysis compared with last year’s amounts or budgets will identify unusual sales transactions and raise questions that the auditor may want to address. Trend analysis is based on the assumption that performance will continue in line with previous performance or industry trends unless unusual transactions exist.

9

An auditor is determining whether internal control relative to the revenue cycle of a wholesaling entity is operating effectively in minimizing the failure to prepare sales invoices. The auditor most likely would select a sample of transactions from the population represented by the

Shipping document file.

Matching shipping documents to sales invoices will indicate whether the shipping documents generated the preparation of a sales invoice.

10

The usefulness of the standard bank confirmation request may be limited because the bank employee who completes the form may

Be unaware of all the financial relationships that the bank has with the client.

The standard form is designed to substantiate only the information that is stated on the confirmation request. Thus, the auditor should be aware that the standard form is not intended to elicit evidence about the completeness assertion. The individual completing the form may not be aware of all the financial relationships that the bank has with the client.

11

Customers having substantial year-end past due balances fail to reply after second request forms have been mailed directly to them. Which of the following is the most appropriate alternative audit procedure?

Examine shipping documents.

When customers fail to answer a second request for a positive confirmation, the accounts may be in dispute, uncollectible, or fictitious. The auditor should then apply alternative procedures (examination of subsequent cash receipts, shipping documents, and other client documentation of existence) to obtain evidence about the validity and accuracy of significant nonresponding accounts. Thus, the auditor might verify the underlying transactions by examining supporting documents such as contracts, sales invoices, customer orders, shipping advices, and subsequent collections, and seek evidence of the existence, address, and financial standing of the debtor.

12

Analytical procedures performed during an audit indicate that accounts receivable doubled since the end of the prior year. However, the allowance for doubtful accounts as a percentage of accounts receivable remained about the same. Which of the following client explanations would satisfy the auditor?

The client opened a second retail outlet during the current year, and its credit sales approximately equaled the older outlet.

Opening a second outlet with about the same credit sales as the first explains the receivables effects. Given no change in credit policy, the characteristics of the customers served, or economic conditions, the ratio of doubtful accounts should not change.

13

Which of the following audit procedures would an auditor most likely perform to test controls relating to management’s assertion concerning the completeness of sales transactions?

Inspect the entity’s reports of prenumbered shipping documents that have not been recorded in the sales journal.

The completeness assertion relates to whether all transactions that should have been recorded in the accounting records were included. Thus, unrecorded shipping documents would indicate that not all transactions are being properly recorded.

14

An auditor’s analytical procedures performed during the overall review stage indicated that the client’s accounts receivable had doubled since the end of the prior year. However, the allowance for doubtful accounts as a percentage of accounts receivable remained about the same. Which of the following client explanations most likely would satisfy the auditor?

The client opened a second retail outlet in the current year, and its credit sales approximately equaled those of the older, established outlet.

Typically, an increase in accounts receivable usually indicates that a company is either increasing sales or making its credit terms less stringent. If a company is making its credit terms less stringent, then it should have a corresponding increase in the allowance for doubtful accounts because it is more likely that customers will default on payments. Because the allowance for doubtful account percentage remained the same, a reasonable explanation is that sales increased.

15

During a recent audit of the revenue cycle, a CPA found the client had $1 million in accounts receivable recorded for fictitious customers. Which of the following tests most likely facilitated identification of the fraud?

Sending positive confirmations to all of the client’s customers with balances on December 31.

An external confirmation request is audit evidence obtained as a direct, written response from a third party (the confirming party). External confirmation of accounts receivable ordinarily is required. External confirmations are frequently relevant to assertions about account balances, especially (1) existence and (2) rights and obligations. Assertions about existence address whether assets, liabilities, or equity interests of the entity exist. Assertions about rights and obligations address whether (1) the entity holds or controls the rights to assets and (2) liabilities are the obligations of the entity. A positive confirmation request asks for a reply in all cases. It results in audit evidence only if a response is received. Thus, positive external confirmation requests provide relevant evidence that receivables exist (or do not exist) and that the client has the right of collection.

16

Once a CPA has determined that accounts receivable have increased because of slow collections in a tight money environment, the CPA is likely to

Expand the tests of collectability.

Whenever collections of receivables have slowed, the auditor should determine the effects on the allowance for doubtful accounts. (S)he should therefore expand tests of collectibility, e.g., with a review of collections subsequent to the balance sheet date and investigation of credit ratings. The verification of the allowance for doubtful accounts ensures that receivables are fairly presented at their net realizable value in the balance sheet and that bad debt expense is fairly stated in the income statement.

17

The auditing standards define external confirmation as “a direct written response to the auditor from a third party (the confirming party), either in paper form or by electronic or other medium.” The assertions for which confirmation of accounts receivable balances provides primary evidence are

Rights & obligations & existence.

Confirmation by means of direct (independent) communication with debtors is the generally accepted auditing procedure for accounts receivable. Properly designed requests may address any assertion in the financial statements, but they are most likely to be effective for the existence and rights and obligations assertions. Thus, confirmation provides evidence that (1) receivables are valid, (2) the client has ownership of the accounts and the right of collection, and (3) the debtor has the obligation to pay.