Week 5 Quiz

Question 1

Which of the following will create a temporary difference between accounting and taxable incomes for which future income tax debits or credits must be recorded for a company that has elected to use the future income tax method of accounting for income taxes under ASPE?

a) Dividends received on Canadian investments
b) Political contributions
c) Membership dues to a country club at which clients are entertained
d) Provision for warranty repairs

Answer 1

Answer D is correct because provisions for warranty repairs are not deductible for tax purposes. Only costs actually incurred for warranty repairs during the year are deductible. Therefore, a provision for future repair costs will create a timing difference whereby non-deductible expenses in one year will be deductible in a future year when the actual expenditure is incurred.

Question 2

Which of the following items is NOT considered a financing activity for cash flow under ASPE?

a) Issuance of share capital
b) Sale of trade goods to a related company
c) Advances from related party
d) Repayments to shareholder

Answer 2

Answer B is correct because trade sales of goods are operating activities.

Question 3

Arts & Crafts Ltd. currently has current assets of $45,000, total assets of $75,000, current liabilities of $31,500, and total liabilities of $66,000. Management is looking to reduce its investment working capital. Which one of the following strategies would reduce the working capital?

a) Change the inventory turnover ratio from 4 times to 3 times.
b) Decrease the payables turnover from 15 times to 10 times.
c) Decrease the days in payables from 36.5 days to 24.3 days.
d) Decrease the receivables turnover from 20 times to 15 times.

Answer 3

Answer B is correct because decreasing the payables turnover will result in a longer days in payable, which would reduce the required investment in working capital.

Question 4

Academy Vending Machines (AVM), along with several other parties, is being sued for $500,000 by a man who got a bad burn when he spilled a cup of hot chocolate on himself at a skating rink. AVM sold the hot chocolate machine to the rink during the year. As of the year-end, AVM’s lawyer and AVM management has not been able to determine whether or not AVM will lose the lawsuit. If AVM reports in accordance with ASPE, what is the appropriate treatment regarding this situation in AVM’s financial statements?

a) Accrue the $500,000 but disclose that the result of the lawsuit is not determinable.
b) Disclose the $500,000 and disclose that the occurrence of the future event is unlikely.
c) Accrue only a proportion of the amount, based on management’s best estimate.
d) Disclose the $500,000 and indicate that the result of the lawsuit is not determinable.

Answer 4

Answer D is correct because the outcome is not determinable at this time and the amount of the loss is not estimable.

Question 5

Kevin, an audit associate at your firm is reviewing changes in ASPE accounting policies and wonders which of the following statements is incorrect:

a) If a client decided to change the amortization period of some kitchen equipment to five years instead of three years because the equipment is lasting longer than originally intended this should be accounted for retrospectively.
b) If a client changes any of its accounting policies they should include a note to the financial statements indicating the effect of the change on the current period as well as a description of the change.
c) A client can account for changes in accounting policies prospectively if the change is required by a primary source of GAAP that permits or requires prospective application.
d) A client can account for a change in its revenue recognition policy prospectively if the financial data needed to determine the impact on previous periods is not readily available.

Answer 5

Answer A is correct because the amortization period is an estimate of the life of the asset. Changes in estimates are applied prospectively, not retrospectively.

Question 6

Items that should be included in a company’s Management Discussion and Analysis (MD&A) are:

a) A description of the company’s accounting policies
b) Explanations of uncertainties and contingencies in accordance with the requirements of IAS 37
c) Industry and economic factors affecting your business.
d) The auditor’s view on future performance

Answer 6

Answer C is correct because industry and economic factors that affect an entity’s business should be identified to users as they help an entity portray the overall performance for the company.

Question 7

Which of the following is not an objective at the physical inventory count?

a)
Inventory is accurately counted.

b)
All inventory is included in the count.

c)
Damaged or obsolete inventory is identified.

d)
All inventory is priced correctly.

Answer 7

Answer D is correct because pricing of the inventory determines it valuation, and this activity is independent of the objectives of auditor when attending the inventory count.

Question 8

Before commencing the audit of accounts receivable, one of the first steps is to agree the balance in the sub-ledger to the balance in the control account. This step addresses which of the following assertions?

a) Rights and obligations
b) Occurrence
c) Accuracy and cut-off
d) Completeness

Answer 8

Answer D is correct because all sales transactions and cash receipts should be reflected in both the sub-ledger and the control account. The completeness assertion will not be met if the balances do not agree.

Question 9

During the past few weeks, you have been working as an audit junior on the accounts payable section of a file. Assume that you are working on a large file, and all necessary procedures have been completed and documented. You have noted that there is an unrecorded liability for $300,000, and the client will not make an adjustment for this error. What should you do?

a) Issue a qualified opinion
b) Suggest the firm resign because they don’t want to be associated with the client
c) Bring the error to the Summary of Unadjusted Items
d) Issue an adverse opinion

Answer 9

Answer C is correct because a conclusion on material misstatement cannot be reached until the total extent of uncorrected misstatements is known and compared to performance materiality for the financial statements as a whole, and if applicable, for particular classes of transaction, account balances or disclosures.

Question 10

You are performing the inventory observation of Toyco Ltd. Toyco ships and receives toys at its warehouse. In order to gain assurance over inventory cut-off, which of the following documents would you inspect?

a) Purchase orders and sales orders
b) Sales orders and purchase invoices
c) Shipping documents and receiving slips
d) Sales invoices and purchase orders

Answer 10

Answer C is correct because shipping documents reflect what should have been removed from the inventory records and receiving reports show what should be included in the current year and the subsequent year.

Question 11

Which of the following circumstances requires prospective treatment?

a) Your client amortizes computer hardware over four years and computer software over two years. While preparing the current year financial statements, it is discovered that all computer hardware and software was amortized over two years in the prior year.
b) Your client purchased some new equipment last year and determined it should be amortized over five years. This year a new model was announced for this equipment, so they now plan to replace it next year. They revised the amortization period to the two remaining years, effective this year.
c) In the current period, your client decided to switch from a straight-line method to a declining-balance method of amortization for a building they own because they found out that a competitor uses the declining-balance method for buildings.
d) In reviewing the amortization schedule for last year, an adding error was found, which means that the prior amortization expense was overstated by $10,000.

Answer 11

Answer B is correct because this is a change in estimate. The original estimated life was too long. Changes in estimates are applied prospectively.

Question 12

XOM Inc.’s year-end long-term debt and shareholders’ equity at December 31, Year 5, consisted of:

· Common shares: 10,000,000 issued $50,000,000
· Preferred shares: 5.75% cumulative; 500,000 issued; no dividend in arrears $20,000,000
· Retained earnings $5,500,000
· Convertible bonds: 6.5% interest; issued at par January 1, Year 2; maturing January 1, Year 12 (each $1,000 bond is convertible into 200 common shares) $18,000,000

In Year 5, XOM Inc. reported net income after taxes of $8,000,000 (assume a 40% tax rate). At the end of Year 5, a common dividend of $0.12 per share was declared and paid. What are XOM Inc.’s basic earnings per share for Year 5 (rounded to the nearest cent)?

a) $0.73
b) $0.69
c) $0.80
d) $0.59

Answer 12

Answer B is correct because net income available for common shareholders must deduct the dividend on the preferred shares = $8,000,000 - (5.75% x $20,000,000) = $6,850,000. Basic EPS = Net income available for common shareholder ÷ Weighted average common shares outstanding = $6,850,000 / 10,000,000 = $0.685 (rounded to $0.69)

Question 13

Catherine, your audit manager has asked you to explain to your client the difference between the cash flow statement prepared using the indirect method and the cash flow statement prepared using the direct method. Which of the following would provide the best explanation?

a) The cash flow from operations section is different under each method in terms of both presentation and amount of net cash flow, but the cash flow from investing and financing sections of the statement remain the same.
b) The cash flow from operations and investing sections are different under each method in terms of both presentation and the amount of net cash flow, but the cash flow from financing section remains the same.
c) The only difference between the two methods pertains to how cash generated from working capital is presented.
d) The cash flow from operations section is different in terms of presentation under each method, but the cash flow from investing and financing are the same under each method.

Answer 13

Answer D is correct because the amount of cash flow reporting in each section is based on the activities undertaken in the period, regardless of the method used to report them.

Question 14

Assume ABC Company has a December 31 year-end and prepares interim financial reports on a quarterly basis. Which one of the following is correct regarding interim financial reports for fiscal 2011?

a) The interim financial reports would include a statement of comprehensive income for the quarter ended September 30, 2011 as well as for the nine months ended September 30, 2011.
b) The interim financial reports would include a statement of financial position as at September 30, 2011 and September 30, 2010.
c) The interim financial reports would include a cash flow statement for the quarters ended March 31, 2011, June 30, 2011, and September 30, 2011.
d) The interim financial reports should generally include the same note disclosure as used for the December 31, 2010 financial statements.

Answer 14

Answer A is correct as this is in accordance with IAS 34.

Question 15

A company with a debt-to-equity ratio above 1 recently paid down their long-term debt with cash from the issuance of common stock. This transaction will impact the company’s debt-to-equity ratio and return on equity as follows:

a) There will be no impact on the debt-to-equity ratio or return on equity.
b) The debt-to-equity ratio will increase and the return on equity will decrease.
c) The debt-to-equity ratio will decrease and the return on equity will increase.
d) Both the debt-to-equity ratio and return on equity will decrease.

Answer 15

Answer D is correct because both the debt-to-equity ratio and return on equity will decrease.

For example, assume the following:
Debt – $100; Equity – $50; Net income – $10
The debt-to-equity ratio would be 2:1 and the ROE 20%.

A transaction that repays $50 of debt through the issuance of equity will result in the following:
Debt – $50; Equity – $100; Net income – $10
The resulting ratio will be 0.5:1, and the return on equity will be 10%. Therefore, the debt-to-equity ratio will decrease and the return on equity will decrease.

Question 16

Which of the following is part of the definition of an asset?

a) The transaction or event giving rise to the entity’s right to the benefit is going to occur very soon or has already occurred.
b) The entity intends to have control over the asset and the benefits derived from it.
c) The asset must help the entity to contribute either directly or indirectly to the cash flows of the organization.
d) The entity must have the legal rights of ownership to the future benefits of the asset.

Answer 16

Answer ‘C’ is correct because an asset is an economic benefit controlled by an entity as results of past transactions or events and from which future economic benefits may be obtained. The future benefit, in profit-oriented enterprises would contribute directly or indirectly to future net cash flows.

Question 17

Floral Experts Ltd. has long-term debt outstanding as at the year-end date of December 31, 20X0, of $510,000. During 20X0, the company made principal repayments of $10,000 and $60,000 on April 1 and November 30 respectively. The loan bears interest at 8%. Interest is payable on December 31. Upon review of the loan balance, it was noted that the interest payment was debited to the loan balance. What is the entry to correct the interest paid on the loan in 20X0?

a) 	
DR Interest expense
45,400
CR Long-term debt
45,400

b) 	
DR Interest expense
45,400
CR Cash
45,400

c) 	
DR Interest expense
40,800
CR Long-term debt
40,800

d) 	
DR Interest expense
46,400
CR Cash
46,400

Answer 17

Answer ‘A’ is correct because (580,000 x 8% x 3/12) + (570,000 x 8% x 8/12) + (510,000 x 8% x 1/12) = 45,400 and since the interest portion was recorded against the loan, we have to adjust interest and the loan account.

Question 18

Which of the following statements is true with respect to accounting for income taxes?

a) Under IFRS, companies may choose to use either the deferred method or the future income tax method.
b) Under ASPE, companies must use the taxes payable method.
c) Under IFRS, deferred income tax asset and deferred income tax liability accounts are classified as current or noncurrent, according to the type of asset or liability that created them.
d) Under ASPE, companies choosing to use the future income tax method are not allowed to discount future income tax assets and liabilities.

Answer 18

Answer D is correct because, under ASPE, discounting of future income tax assets and liabilities is not allowed. [HB 3465.52]

Question 19

A future income-tax liability is an amount of income tax arising from:

a) Deductible temporary differences
b) The carryforward of unused tax losses
c) Taxable temporary differences
d) The carryforward of unused income-tax reductions

Answer 19

Answer C is correct - these will result in taxable amounts in determining taxable income of future periods.

Question 20

For which of the following assertions is a confirmation of an accounts receivable balance least effective?

a) Existence
b) Valuation and allocation
c) Accuracy
d) Completeness

Answer 20

Answer B is correct because the confirming customer may agree that the amount is receivable by your client, but it does not ensure that the customer intends to pay it. Valuation should be tested on the allowance for uncollectible accounts.

Question 21

The audit manager in charge of the audit for Sterling Steel Inc., a local steel manufacturer, has assigned you to the liability section of the audit file. He told you that you were to search for unrecorded liabilities at the balance sheet date. He indicated that you would most likely find these unrecorded liabilities during your inspection of which one of the following documents?

a) Sales orders
b) Subsequent payments
c) Receiving reports
d) Cancelled cheques

Answer 21

Answer B is correct because payments made in the early part of the following fiscal year may relate to unpaid bills that were outstanding as of the balance sheet date. These liabilities will be detected by comparing payments made in the early part of the next year to the dates of the invoice.

Question 22

You are working on the accounts payable section of Kami’s Kitchens Ltd. Which of the following procedures provides the best evidence for determining the completeness of liabilities?

a) Examine confirmation requests returned by creditors whose accounts are listed on the accounts payable sub-ledger.
b) Examine unusual relationships between monthly accounts payable balances and recorded purchases.
c) Examine a sample of invoices a few days prior to and subsequent to year-end to ascertain whether they have been properly recorded.
d) Examine a sample of cash disbursements in the period subsequent to year-end and trace them to invoices and the general ledger.

Answer 22

Answer D is correct because the supporting documentation for payments made in the subsequent accounting period is examined to determine the appropriate period. If the client does not pay its bills on a timely basis, the subsequent period examined could be several weeks.