ACC 476/726 – AUDITING Sample Exam #2 Prof. Elder Name Dee Falcation This exam contains 12 pages; please check to make sure you have the entire exam. You will have one hour and twenty-five minutes to complete the exam. Total points available on the exam are as follows: | |Points Possible |Points Earned | |Question | | | |Multiple choice – 20 at 3 pts. ach |60 | | | | | | |Type of test and objective |12 | | |Risk model |7 | | |Materiality |8 | | |Relation of concepts |7 | | |Internal control – sales and cash receipts |6 | | | | | | | Total points |100 | | If you are unsure as to the nature of any question, please ask. Written responses should be as complete as possible to ensure partial credit. Good luck! Multiple Choice — 3 Points Each. Choose the one best response that you believe is most appropriate. Write your response in the margin next to the question. 1. An auditor selects a sample from the file of shipping documents to determine whether invoices were prepared. This test is performed to satisfy the objective of a. Accuracy. b. Occurrence. c. Completeness. d. Control. 2. Inherent risk and control risk differ from detection risk in that they: . Arise from the misapplication of auditing procedures. b. May be assessed in either quantitative or nonquantitative terms. c. Exist independently of the financial statement audit. d. Can be changed at the auditor’s discretion. 3. Which of the following internal control procedures most likely would assure that all billed sales are correctly posted to the accounts receivable ledger? a. Daily sales summaries are compared to daily postings to the accounts receivable ledger. b. Each sales invoice is supported by a prenumbered shipping document. c. The accounts receivable ledger is reconciled daily to the control account in the general ledger. d.
Each shipment on credit is supported by a prenumbered sales invoice. 4. When a customer fails to include a remittance advice with a payment, it is common practice for the person opening the mail to prepare one. Consequently, mail should be opened by which of the following four company employees: a. Credit manager. b. Sales manager. c. Accounts receivable clerk. d. Receptionist. 5. An auditor tests an entity’s policy of obtaining credit approval before shipping goods to customers in support of management’s financial statement assertion of: a. Valuation or allocation. b. Completeness. c. Existence or occurrence. d. Rights and obligations. 6. Tests of controls are most likely to be performed when: a.
An account balance reflects few transactions. b. Control risk is assessed at less than the maximum. c. The understanding of the control structure indicates that controls are not effective. d. The auditor wishes to decrease the acceptable level of detection risk. 7. In deciding whether recorded sales are valid, which of the following items of evidence would be considered most competent? a. A copy of the customer’s purchase order. b. A memorandum from the director of the shipping department stating that another employee verified the personal delivery of the merchandise to the customer. c. Accounts receivable records showing cash collections from the customer. d.
The shipping document, independent bill of lading, and the invoice for the merchandise. 8. One of the axioms of auditing is that the auditor’s reliance on the performance of substantive tests may properly vary with the extent of reliance on control procedures, as measured by the assessed level of control risk. Which of the following statements, if any, represents an improper interpretation of this axiom, when material financial statement dollar amounts are involved? a. Rely 100% on substantive tests, 0% on internal control. b. Rely 0% on substantive tests, 100% on internal control. c. Rely 50% on substantive tests, 50% on internal control. d. None of the above is improper. 9.
Tracing shipping documents to prenumbered sales invoices provides evidence that a. No duplicate shipments or billings occurred. b. Shipments to customers were properly invoiced. c. All goods ordered by customers were shipped. d. All prenumbered sales invoices were accounted for. 10. The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the risk that: a. Tests of controls may fail to identify procedures relevant to assertions. b. Material misstatements may exist in the financial statements. c. Specified controls requiring segregation of duties may by circumvented by collusion. d. Entity policies may be overridden by senior management. 11.
When an auditor increases the planned assessed level of control risk because certain control procedures were determined to be ineffective, the auditor would most likely increase the: a. Extent of tests of details. b. Level of inherent risk. c. Extent of tests of controls. d. Level of detection risk. 12. In testing controls over cash disbursements, an auditor would most likely determine that the person who signs the checks also a. Is denied access to the supporting documents. b. Returns the checks to accounts payable. c. Is responsible for mailing the checks. d. Reviews the monthly bank reconciliation. 13. When considering the internal control structure, an auditor should be aware of the concept of reasonable assurance, which recognizes that a.
Internal control policies and procedures may be ineffective due to mistakes in judgment and personal carelessness. b. Adequate safeguards over access to assets and records should permit an entity to maintain proper accountability. c. Establishing and maintaining the internal control structure is an important responsibility of management. d. The cost of an entity’s internal control structure should not exceed the benefits expected to be derived. 14. Which of the following audit risk components may be assessed in nonquantitative terms? ControlDetectionInherent RiskRiskRisk a. YesYesNo b. YesNoYes c. YesYesYes d. NoNoNo 15. A key internal control is the separation of duties between cash handling and record keeping.
The objective most directly associated with this control is to verify that: a. Cash receipts transactions as recorded in the cash receipts journal are reasonable. b. Cash receipts are properly classified. c. All cash receipts result from legitimate (valid) transactions. d. All cash receipts are recorded. 16. An auditor has the objective of determining that credit sales are recorded in the proper period. The auditor will be most interested in: a. Customer orders. b. Bills of lading. c. Customer billing statements. d. Sales invoices. 17. After obtaining an understanding of the internal control structure and assessing control risk, an auditor decided to perform tests of controls.
The auditor most likely decided that a. It would be efficient to perform tests of controls that would result in a reduction in planned substantive tests. b. Additional evidence to support a further reduction in control risk is not available. c. An increase in the assessed level of control risk is justified for certain financial statement assertions. d. There were many internal control structure weaknesses that could allow errors to enter the accounting system. 18. An entity’s internal control structure requires for every check request that there be an approved voucher, supported by a prenumbered purchase order and a prenumbered receiving report.
To determine whether checks are being issued for unauthorized expenditures, an auditor most likely would select items for testing from the population of all: a. Purchase orders. b. Canceled checks. c. Receiving reports. d. Approved vouchers. 19. For certain controls, such as segregation of duties, documentary evidence may not exist. An auditor would most likely test the procedures by: a. Reperformance and corroboration. b. Observation and inquiry. c. Inspection and vouching. d. Confirmation and recomputation. 20. The actual operation of an internal control system may be most objectively evaluated by a. Substantive tests of account balances based on the auditor’s assessment of internal control strength. b.
Selection of items processed by the system and determination of the presence or absence of errors and compliance deviations. c. Review of the previous year’s audit working papers to update the report of internal control evaluation. d. Completing a questionnaire and flowchart related to the accounting system in the year under audit. Problem 1 – Types of Tests and Objectives (12 points) For each audit procedure, identify the following (use the abbreviations in bold for a. , and the numbers for b). Choose only one response for each item. a. Whether it is a test of control (TOC), a substantive test of transactions (STOT), a test of details of balances (TODB) or an analytical procedure (AP) (1/2 point each). b. The primary audit objective being satisfied.
Answer N/A for analytical procedures. (1 point each). List only one response, even if the test has multiple objectives. Balance-related Audit Transaction-related Audit Objectives Objectives 1. Existence 10. Occurrence 2. Completeness 11. Completeness 3. Accuracy 12. Accuracy 4. Classification 13. Classification 5. Cutoff 14. Timing 6. Detail tie-in 15. Posting and summarization 7. Realizable value 8. Rights and obligations 9. Presentation and Disclosure 1. Account for a sequent of receiving reports and verify that each one has an invoice attached. a. _______________ b. _________________ 2.
Examine dates on sales invoices and shipping documents for a sample of transactions before and after year-end. a. _______________ b. _________________ 3. Trace entries from the cash receipts journal to the accounts receivable master file. a. _______________ b. _________________ 4. Examine voucher packages for cancellation. a. _______________ b. _________________ Problem 1 – Types of Tests and Objectives (cont. ) Balance-related Audit Transaction-related Audit Objectives Objectives 1. Existence 10. Occurrence 2. Completeness 11. Completeness 3. Accuracy 12. Accuracy 4. Classification 13. Classification 5. Cutoff 14. Timing 6. Detail tie-in 15.
Posting and summarization 7. Realizable value 8. Rights and obligations 9. Presentation and Disclosure 5. Examine vendor’s invoices and receiving reports supporting amounts on the listing of accounts payable. a. _______________ b. _________________ 6. Examine duplicate sales invoices for indication that prices were compared to approved price list. a. _______________ b. _________________ 7. Foot the sales journal for one month and trace postings to the general ledger and accounts receivable master file. a. _______________ b. _________________ 8. Examine a sequence of sales invoices noting clerk’s indication that they have been entered in the sales journal. a. ______________ b. _________________ Problem 2 – Risk Model (7 points) a. One form of the risk model is AAR = IR x CR x PDR Where: AAR= Acceptable Audit Risk IR= Inherent Risk CR= Control Risk PDR = Planned Detection Risk Indicate the effect of the following items on the components of the risk model (note you are asked to address planned evidence, not PDR). (4 points) I = IncreaseD = Decrease N = No EffectC = Cannot determine 1. The company is in deteriorating financial condition. As a result, a number of key accounting personnel have left to accept positions with other companies. Control risk I D N CAcceptable audit risk I D N C
Inherent risk I D N CPlanned evidence I D N C 2. You find that controls over inventory are significantly improved compared to the prior year. You observe that due to technological changes, the client’s inventory may be somewhat obsolete. Control risk I D N CAcceptable audit risk I D N C Inherent risk I D N CPlanned evidence I D N C b. The following list identifies various aspects of the audit, such as client characteristics, external factors, and auditor decisions that are related to the risk model. For each factor, identify the most closely related risk model factor (AAR, IR, CR, or PDR): (3 points) 1. __________The client increased the size of its bank loan 2. ___________The client’s accounts reflect many estimates 3. ___________The auditor performed a transaction walk-through 4. ___________The client’s financial condition has deteriorated 5. ___________The auditor identified many related parties 6. ___________Auditor decided to confirm receivables at an interim date Problem 3 – Materiality (8 points) a. The following are selected account balances for Hillsburg Hardware. For each, indicate the letter that corresponds to the level of tolerable misstatement you would provide. Cash is completed to illustrate the concept. Answers can be used once, more than once, or not at all. (3 points) Account |Balance (000) |Tolerable Misstatement | |Cash |$41 |(a) | |Accounts receivable |948 | | |Other current assets |68 | | |Trade accounts payable |236 | | |Notes payable |1415 | | |Accrued payroll |73 | | |Capital stock |425 | | a)Zero or small tolerable misstatement because account can be completely audited at low cost and no misstatements are expected. (b)Large tolerable misstatement because account is large and requires extensive sampling to audit the account. (c)Large tolerable misstatement as a percent of account balance because account can be verified at extremely low cost, probably with analytical procedures, if tolerable misstatement is large. (d)Moderately large tolerable misstatement because a relatively large number of misstatements are expected. b. Assume the following information for a company. | |Account |Tolerable Misstmt. Actual Errors |Projected Errors(1) | | |Balance | | | | |Cash |100,000 | 5,000 |0 |0 | |Accts Receivable |3,000,000 |20,000 |5,000 |20,000 | |Inventory |5,000,000 |50,000 |10,000 |45,000 | |Fixed Assets |1,000,000 |15,000 |5,000 |5,000 | |Total | | | | | 1) Projected errors include the actual errors in the previous column. Assume the materiality is planning materiality is $45,000, and that you have decided the financial statements are not acceptable. Indicate the action(s) you would take. (2 points) Problem 3 – Materiality (continued) c. Assume the following information for a different company (3 points). | |Account |Tolerable Misstatement |Projected Errors | | |Balance | | | |Cash |50,000 |10,000 |0 | |Accounts Receivable 2,000,000 |20,000 | | |Inventory |4,000,000 |40,000 |5,000 | |Fixed Assets |1,000,000 |10,000 |0 | |Total | |80,000 | | Other facts: • Ignore balance sheet accounts other than those listed. • Tolerable misstatement is twice the preliminary estimate of materiality. • The auditor tested accounts receivable amounts totaling $800,000 and detected overstatement errors of $10,000. 1. Why is tolerable misstatement twice the preliminary estimate of planning materiality? 2. Calculate the projection of error for accounts receivable. Ignore sampling risk. 3. Are the overall financial statements fairly stated? Show calculations. Problem 4 – Relation of Concepts (7 points)
For the described change in the first factor, indicate whether the second factor will Increase, Decrease, No Change, or Cannot Determine as a result of the change in the first factor. (7 points). | | | |Change: Increase, Decrease, No | | | | |Change, or Cannot Determine | | |Change in Factor |Potentially affected factor | | |1. |Increase in acceptable audit risk |Planning materiality | | |2. Increase in inherent risk |Sample size for tests of details of balances | | |3. |Decrease in planned detection risk |Sample size for tests of controls | | |4. |Decrease in inherent risk |Acceptable audit risk | | |5. |Decrease in acceptable audit risk |Sample size for tests of details of balances | | |6. |Increase in control risk |Sample size for substantive tests of transactions | | |7. Decrease in reliance on a control for an |Sample size for test of control for the objective | | | |objective | | | Problem 5 – Internal Control – Sales and Cash Receipts (6 points) The following are a list of possible errors or fraud in the sales and cash receipts cycle. For each error or fraud, select one internal control procedure that could most likely assist in preventing or detecting the error or fraud. Each response in the list of internal control procedures may be selected once, more than once, or not at all. List of internal control procedures a.
Shipping clerks compare goods received from warehouse with details on shipping documents. b. Daily sales summaries are compared with control total of invoices. c. Control amounts posted to the accounts receivable ledger are compared with the control totals of invoices. d. The cashier examines each check for proper endorsement. e. Remittance advices are separated from the checks in the mailroom and forwarded to the accounting department. f. Total amounts posted to the accounts receivable subledger from remittance advices are compared with the validated bank deposit slip. g. Monthly statements are mailed to customers with outstanding balances. h. An employee, other than the bookkeeper, periodically prepares a bank reconciliation.
Possible errors or fraud (indicate letter of control procedure) _____ 1. Customer checks are credited to incorrect customer accounts. _____ 2. Invoices for goods sold are posted to incorrect customer accounts. _____ 3. Customer checks are properly credited to customer accounts and are properly deposited, but errors are made in recording receipts in the cash receipts journal. _____ 4. Invoices are sent for shipped goods, but are not recorded in the sales journal. _____ 5. Different customer accounts are each credited for the same cash receipt. _____ 6. Customers’ checks are misappropriated before being forwarded to the cashier for deposit. ———————– 1