Chapter 10

Question 1

the _______ of substantive testing depends on the risk assessment of the significant account or disclosure in question.

Answer 1

timing

Question 2

The ______ the detection risk for an account, the less work will need to be performed, and the ______ the amount of audit evidence relating to the account that can be obtained through controls testing performed before year end.

Answer 2

higher, greater

Question 3

Timing of substantive procedures

Answer 3

Reviewing events occurring prior to year end
Reviewing activity in the period to date
Performing general audit procedures prior to year end
Reviewing provisions prior to year end
Leverage off internal audit

Question 4

Matters to consider when designing substantive procedures

Answer 4

Ensure that substantive procedures respond to specific risks
Take credit for work already undertaken
Set appropriate testing thresholds

Question 5

Objectives in auditing cash (Answer is Assertion)

All cash on the balance sheet is held by the entity or by others (for example, a bank) for the entity.

Answer 5

Existence (E)

Question 6

Objectives in auditing cash (Answer is Assertion)

All cash owned by the entity at year end is included in the balance sheet.

Answer 6

Completeness (C)

Question 7

Objectives in auditing cash (Answer is Assertion)
The entity owns, or has legal rights to, all the cash on the balance sheet at year end. All cash is free from restrictions on use, liens, or other security interests, or, if it is not free, that such restrictions, liens, or other security interests are identified.

Answer 7

Rights and obligations (R&O)

Question 8

Objectives in auditing cash (Answer is Assertion)

Cash is stated at its realizable value.

Answer 8

Valuation and allocation (V&A)

Question 9

Objectives in auditing cash (Answer is Assertion)
Cash is properly classified, described, and disclosed in the financial statements, including the notes, and disclosures of any of the above-mentioned restrictions on use, etc., are made as required by application of an appropriate accounting framework (for example, International Financial Reporting Standards or Accounting Standards for Private Enterprises).

Answer 9

Classification (Cl), classification and understandability (C&U)

Question 10

Example substantive tests of transactions—cash. Cash Receipts

Perform a proof of cash by reconciling activity per the client records to activity per the bank. Also, correlate these transactions to the activity in the sales and trade receivables ledgers. This procedure is limited to less complex engagements that have a limited number of transactions.

Answer 10

C, A

Question 11

Example substantive tests of transactions—cash. Cash Receipts
Compare remittance advices or lists of cash receipts with entries in the cash receipts journal as to date, remitter, amount, and account classification.

Answer 11

C

Question 12

Example substantive tests of transactions—cash. Cash Receipts
Compare the details of duplicate deposit slips with the entries in the cash receipts journal. Investigate abnormal delays in depositing cash receipts

Answer 12

C

Question 13

Example substantive tests of transactions—cash. Cash Receipts
Compare the total amounts of daily deposits shown on the bank statement with the totals of the daily cash receipts shown in the cash receipts journal. Investigate unusual delays in depositing cash receipts and any splitting of daily cash receipts into separate deposits

Answer 13

C

Question 14

Example substantive tests of transactions—cash. Cash Receipts
Agree invoice amounts to cash received for cash sales transactions. Agree cash collected to the recorded cash balance and supporting documents.

Answer 14

C

Question 15

Example substantive tests of transactions—cash. Cash Receipts
Test the recording of miscellaneous receipts (that is, receipts not usually recorded in trade receivables, such as proceeds on disposal of assets or royalties); consider whether the recorded amounts are reasonable.

Answer 15

A

Question 16

Example substantive tests of transactions—cash. Cash Receipts
Compare entries in the cash receipts journal (for example, date, remitter, amount, and account classification) with the remittance advices, lists of cash receipts, bank deposit slips, and bank statements.

Answer 16

E

Question 17

Example substantive tests of transactions—cash. Cash Receipts
Test the accounting classifications of cash receipts

Answer 17

V&A

Question 18

Example substantive tests of transactions—cash. Cash Receipts
Test the mathematical accuracy of the cash receipts journal

Answer 18

A

Question 19

Example substantive tests of transactions—cash. Cash Receipts
Test the postings (processing) of the totals in the cash receipts journal to the general ledger and other subsidiary ledgers.

Answer 19

C

Question 20

Example substantive tests of transactions—cash. Cash Receipts
Test the authorization of credits, discounts, and allowances in the cash receipts journal

Answer 20

E

Question 21

Example substantive tests of transactions—cash. Cash Receipts
Test the posting of individual cash receipts from the cash receipts journal and supporting documents to the trade receivables sub-ledger

Answer 21

C

Question 22

Example substantive tests of transactions—cash. Cash Payment

Account for the numerical sequence of cheques issued during a specified period

Answer 22

C

Question 23

Example substantive tests of transactions—cash. Cash Payment
Compare paid cheques and supporting documents with the cash disbursement journal as to date, payee, amount, and account classification; determine whether supporting documents indicate the item has been paid

Answer 23

C

Question 24

Example substantive tests of transactions—cash. Cash Payment
Compare entries in the cash disbursement journal with the paid cheques and supporting documents as to date, payee, amount, and account classification; determine whether supporting documents indicate the item has been paid

Answer 24

E

Question 25

Example substantive tests of transactions—cash. Cash Payment

Test the mathematical accuracy of the cash disbursement journal.

Answer 25

V&A

Question 26

Example substantive tests of transactions—cash. Cash Payment

Test the postings of the totals in the cash disbursement journal to the general ledger and subsidiary ledgers.

Answer 26

C

Question 27

Example substantive tests of transactions—cash. Cash Payment

Determine whether the signatures on paid cheques are authorized.

Answer 27

A

Question 28

EXAMPLE TESTS ALWAYS PERFORMED
Confirm cash held by others (for example, bank balances and/or overdrafts) and cash on hand, if significant. (E, R&O)

Answer 28

Examine the client’s bank reconciliations. (C, V&A)

Foot the bank reconciliation to ensure mathematical accuracy.

Trace the book balance to the general ledger.

Agree confirmed balance with the bank balance per the reconciliation.

Obtain cut-off bank statement.

Determine whether outstanding cheques have subsequently cleared and whether deposits in transit have been recorded by the bank.

Verify the appropriateness of reconciling items

Test cut-off of cash receipts, cash payments, and transfers as at year end. (C, V&A)

Question 29

EXAMPLE ANALYTICAL PROCEDURES
Compare the listing of cash accounts with the prior period’s and investigate any unexpected changes (for example, credit balances, unusually large balances, new accounts, closed accounts) or the absence of expected changes. (E, C, V&A, Cl)

Answer 29

Review interest received and/or paid in relation to the average cash balances and/or bank overdrafts (accuracy of interest income in the income statement). (O, A)

Question 30

EXAMPLE OTHER GENERAL PROCEDURES

Review the cash accounts in the general ledger for unusual items. (C, V&A)

Answer 30

Review bank confirmations, minutes of meetings, loan agreements, and other documents for evidence of restrictions on the use of cash or liens on cash. (C&U)

Recalculate any foreign currency–denominated bank accounts using the appropriate foreign exchange rate. (V)

Prepare a schedule of cash transfers between accounts before and after year end, ensuring that transfers are recorded in the correct period. (E, C)

Count cash on hand. (E)

Question 31

What is the impact on the level of substantive audit procedures necessary for the cash receipts process if controls are not tested and found to be effective?

Answer 31

If the auditor has performed controls testing and concluded that the controls in these areas are effective and can be relied on, it is unlikely that any additional tests of controls related to the cash receipts or cash payments processes would be performed. Instead, the auditor would perform substantive tests to audit the cash balance at year end with no additional process-or control-related testing required. This is because the auditor has concluded that the controls are effective in ensuring that the “what could go wrongs” (WCGWs) identified during planning are unlikely to occur.

Question 32

The auditor determines that each of the following objectives will be part of your audit of Farmington Inc

Establish that the client has rights to the recorded inventories.

Answer 32

Select a sample of recorded items and examine supporting vendors’ invoices and contracts

Question 33

The auditor determines that each of the following objectives will be part of your audit of Farmington Inc

Establish the accuracy of cost amounts of inventories.

Answer 33

Select a sample of recorded items and examine supporting vendors’ invoices and contracts

Question 34

The auditor determines that each of the following objectives will be part of your audit of Farmington Inc

Determine that the presentation and disclosure of inventories and cost of goods sold is adequate.

Answer 34

Review drafts of the financial statements.

Question 35

The auditor determines that each of the following objectives will be part of your audit of Farmington Inc

Establish the existence of ending inventory.

Answer 35

Select a sample of recorded items on count sheets during the physical inventory count and determine that items are on hand.

Question 36

The auditor determines that each of the following objectives will be part of your audit of Farmington Inc

Establish the completeness of inventories

Answer 36

Select a sample of items during the physical inventory count and determine that they have been included on count sheets.

Question 37

What is the key assertion at risk for the PPE additions?

Answer 37

Assertions

Exsistence, Classification

Question 38

Objectives in auditing inventory

All inventory owned by the entity at year end is included on the balance sheet.

Answer 38

C

Question 39

Objectives in auditing inventory
Inventory is carried at the lower of cost or net realizable value. Ensure that the cost and net realizable value determinations are appropriate, including adequate provisions for excess, slow-moving, obsolete, and damaged goods, and for losses on purchase and sale commitments.

Answer 39

V&A

Question 40

Objectives in auditing inventory
The entity owns, or has legal right to, all of the inventory on the balance sheet. All inventory is free of liens, pledges, and other security interests or, if not, such liens, pledges, or other security interests are identified.

Answer 40

Rights and obligations (R&O)

Question 41

Objectives in auditing inventory
Inventory is properly classified, described, and disclosed in the financial statements, including the notes, in conformity with prescribed accounting principles (IFRS).

Answer 41

Classification (Cl), classification and understandability (C&U)

Question 42

Objectives in auditing inventory

All inventory on the inventory listing is included in the financial statements.

Answer 42

E

Question 43

Name two assertions that are ordinarily significant for inventory, and describe why they are important.

Answer 43

E, V

Question 44

Objectives in auditing PPE
All PPE on the balance sheet (including assets leased under finance leases) are held by the entity or by others for the entity.

Answer 44

E

Question 45

Objectives in auditing PPE

All PPE owned or leased under finance (capital) leases by the entity at year end are included on the balance sheet.

Answer 45

C

Question 46

Objectives in auditing PPE
PPE are carried at the appropriate amount (taking into account accumulated depreciation, amortization, or impairment). The cost of the plant and equipment is allocated to the appropriate accounting periods in a systematic and rational manner. The written-down value of the PPE is expected to be recoverable through future use. PPE assets held for disposal are carried at the appropriate value.

Answer 46

V&A

Question 47

Objectives in auditing PPE
The entity owns, or has legal right to, all the PPE on the balance sheet at year end. All PPE assets are free from liens, pledges, security interests, and restrictions or, if not, such liens, pledges, security interests, and restrictions are identified and disclosed (if necessary).

Answer 47

Rights and obligations (R&O)

Question 48

Objectives in auditing PPE
PPE and related accounts are properly classified, described, and disclosed in the financial statements, including the notes.

Answer 48

Classification (Cl), classification and understandability (C&U)

Question 49

Example substantive tests of account balances—PPE

EXAMPLE TESTS ALWAYS PERFORMED

Answer 49

Examine invoices, capital expenditure authorizations, and other data supporting additions and disposals to PPE during the period. (E, V&A)
Review and, when appropriate, examine supporting documents for significant charges to repairs, maintenance, and other expense accounts to determine if they should be capitalized as PPE. (V&A, C)
Recalculate depreciation and amortization calculations for accuracy. Also review if acceptable amortization methods and appropriate lives (or other bases for allocating costs) are being used, and if they are consistent with the methods and lives used in the prior period. (V&A)

Question 50

Example substantive tests of account balances—PPE

EXAMPLE ANALYTICAL REVIEW PROCEDURES

Answer 50

Review the summary of PPE by classification and location that indicates acquisitions or disposals during the period; compare with the prior period and approved capital expenditure budgets. (C&U, V&A)
Review reasonableness of depreciation expense with reference to prior year expense and the effects of additions and disposals (accuracy of depreciation expense in the income statement). (V&A, Cl, accuracy of depreciation expense in income statement])

Question 51

Example substantive tests of account balances—PPE

EXAMPLE OTHER GENERAL PROCEDURES

Answer 51

Test calculations of capitalized interest to determine if the appropriate rates, amounts, and capitalization periods have been used. (V&A)
Determine the tax basis of accounting for PPE transactions and verify that any book-tax differences have been accounted for properly. (V&A)
Examine lease agreements to determine whether leases are appropriately classified as finance (capital) or operating; determine whether the proper accounting has been performed; determine whether appropriate disclosures have been made. (Cl, C&U)
Review the PPE and related accounts in the general ledger for unusual items. (E, V&A)

Question 52

What is the key objective in performing substantive procedures?

Answer 52

When performing substantive procedures, the key objective is to determine whether there are material misstatements within the balance being investigated and to quantify the amount of any errors if they exist

Question 53

Explain the relationship between the overall risk assessment for a significant account and the extent and timing of substantive procedures.

Answer 53

The higher the overall risk of error or misstatement, the higher the level of substantive procedures required, assuming that no controls have been tested or that controls cannot be relied on. When controls are effective and the overall risk assessment is therefore lower, limited substantive testing is ordinarily required to be performed. The timing of substantive procedures is affected by the detection risk—the lower the detection risk, the more work will need to be done nearer to year end.

Question 54

Design and understand how to execute substantive procedures to address audit risk related to cash.

Answer 54

The most important audit assertions in the audit of cash are existence, completeness, and classification. The transactions that form the basis of the cash balance are cash receipts and cash payments, and if controls are tested and found to be effective, it is unlikely that significant additional tests related to these transactions would be performed. The auditor would perform the minimum substantive tests for the cash balance at year end.