Which accounts should be confirmed with outside sources? Briefly describe from whom they should be confirmed and the information that should be confirmed.

ASSIGNMENT

MULTIPLE CHOICE QUESTIONS FROM CPA EXAMINATIONS
7-23 (OBJECTIVES 7-3, 7-4) The following questions concern persuasiveness of evidence.
Choose the best response.
a. Which of the following types of documentary evidence should the auditor consider to be the most reliable?
(1) Confirmation of an account payable balance mailed by and returned directly to the auditor
(2) A sales invoice issued by the client and supported by a delivery receipt from an outside trucker
(3) A check, issued by the company and bearing the payee’s endorsement, that is included with the bank statements mailed directly to the auditor
(4) An audit schedule prepared by the client’s controller and reviewed by the client’s treasurer

b. Audit evidence can come in different forms with different degrees of persuasiveness.
Which of the following is the least persuasive type of evidence?
(1) Vendor’s invoice
(2) Bank statement obtained from the client
(3) Prenumbered sales invoices
(4) Computations made by the auditor

c. Which of the following presumptions is correct about the reliability of audit evidence?
(1) Information obtained indirectly from outside sources is the most reliable audit evidence.
(2) To be reliable, audit evidence should be convincing rather than merely persuasive.
(3) Reliability of audit evidence refers to the amount of corroborative evidence obtained.
(4) Effective internal control provides more assurance about the reliability of audit evidence.

7-24 (OBJECTIVES 7-5, 7-7) The following questions concern the use of analytical procedures during an audit. Select the best response.
a. For all audits of financial statements made in accordance with auditing standards, the use of analytical procedures is required to some extent
In the Planning Stage As a Substantive Test In the Completion Stage
(1) Yes No No
(2) No Yes No
(3) No Yes Yes
(4) Yes No Yes

b. Which of the following situations has the best chance of being detected when a CPA compares 2019 revenues and expenses with the prior year and investigates all changes exceeding a fixed percent?
(1) An increase in property tax rates has not been recognized in the company’s 2019 accrual.
(2) The cashier began lapping accounts receivable in 2019.
(3) Because of worsening economic conditions, the 2019 provision for uncollectible accounts was inadequate.
(4) The company changed its capitalization policy for small tools in 2019.

c. Which of the following would not be considered to be an analytical procedure?
(1) Estimating payroll expense by multiplying the number of employees by the average hourly wage rate and the total hours worked
(2) Projecting the error rate by comparing the results of a statistical sample with the actual population characteristics
(3) Computing accounts receivable turnover by dividing credit sales by the average net receivables
(4) Developing the expected current-year sales based on the sales trend of the prior 5 years

7-25 (OBJECTIVES 7-8, 7-9) The following questions concern audit documentation. Choose the best response.
a. Which of the following is not a primary purpose of audit documentation?
(1) To coordinate the audit
(2) To assist in preparation of the audit report
(3) To support the financial statements
(4) To provide evidence of the audit work performed

b. During an audit engagement, pertinent data are compiled and included in the audit files. The audit files primarily are considered to be
(1) evidence supporting financial statements.
(2) a client-owned record of conclusions reached by the auditors who performed the engagement.
(3) support for the auditor’s representations as to compliance with auditing standards.
(4) a record to be used as a basis for the following year’s engagement.

c. Although the quantity, type, and content of audit documentation will vary with the circumstances, audit documentation generally will include the
(1) copies of those client records examined by the auditor during the course of the engagement.
(2) evaluation of the efficiency and competence of the audit staff assistants by the partner responsible for the audit.
(3) auditor’s comments concerning the efficiency and competence of client management personnel.
(4) auditing procedures followed and the testing performed in obtaining audit evidence

DISCUSSION QUESTIONS AND PROBLEMS
7-27 (OBJECTIVE 7-4) The following are examples of documentation typically obtained by auditors:
1. Duplicate sales invoices
2. Receiving reports
3. Minutes of the board of directors
4. Signed W-4s
5. Subsidiary accounts receivable records
6. Vendors’ invoices
7. General ledgers
8. Title insurance policies for real estate
9. Notes receivable
10. Bank statements
11. Cancelled payroll checks
12. Cancelled notes payable
13. Payroll time cards
14. Purchase requisitions
15. Articles of incorporation
16. Remittance advices
17. Signed lease agreements
18. Duplicate copies of bills of lading
a. Classify each of the preceding items according to type of documentation: (1) internal or (2) external.
b. Explain why external evidence is more reliable than internal evidence.

7-28 (OBJECTIVE 7-4) The following are examples of audit procedures:
1. Watch employees count inventory to determine whether company procedures are being followed.
2. Count a sample of inventory items and record the amount in the audit files.
3. Calculate the ratio of sales commission expense to sales as a test of sales commissions.
4. Review the accounts receivable with the credit manager to evaluate their collectibility.
5. Compare a duplicate sales invoice with the sales journal for customer name and amount.
6. Obtain a written statement from a bank stating that the client has $15,671 on deposit and liabilities of $500,000 on a demand note.
7. Add the sales journal entries to determine whether they were correctly totaled.
8. Obtain a letter from the client’s attorney addressed to the CPA firm stating that the attorney is not aware of any existing lawsuits.
9. Extend the cost of inventory times the quantity on an inventory listing to test whether it is accurate.
10. Obtain a letter from an insurance company to the CPA firm stating the amount of the fire insurance coverage on buildings and equipment.
11. Examine an insurance policy stating the amount of the fire insurance coverage on buildings and equipment.
12. Calculate the ratio of cost of goods sold to sales as a test of overall reasonableness of gross margin relative to the preceding year.
13. Obtain information about internal control by requesting the client to fill out a questionnaire.
14. Trace the total in the cash disbursements journal to the general ledger.
15. Examine a piece of equipment to make sure that a major acquisition was actually received and is in operation.
16. Examine corporate minutes to determine the authorization of the issue of bonds.
17. Obtain a letter from management stating that there are no unrecorded liabilities.
18. Review the total of repairs and maintenance for each month to determine whether any month’s total was unusually large.
Classify each of the preceding items according to the eight types of audit evidence:
(1) physical examination, (2) confirmation, (3) inspection, (4) analytical procedures,
(5) inquiries of the client, (6) recalculation, (7) reperformance, and (8) observation.
Required
Required

7-29 (OBJECTIVE 7-4) As auditor of the Star Manufacturing Company, you have obtained a trial balance taken from the books of Star one month before year end:

Dr. (Cr.) Dr. (Cr.)
Cash in bank $ 87,000 Mortgages payable (400,000)
Trade accounts receivable 345,000 Capital stock (300,000)
Notes receivable 125,000 Retained earnings (510,000)
Inventories 317,000 Sales (3,130,000)
Land 66,000 Cost of sales 2,300,000
Buildings, net 350,000 General and administrative expenses 622,000
Furniture, fixtures, and equipment, net 325,000 Legal and professional fees 3,000
Trade accounts payable (235,000) Interest expense 35,000
There are no inventories consigned either in or out.
All notes receivable are due from outsiders and held by Star.
Which accounts should be confirmed with outside sources? Briefly describe from whom they should be confirmed and the information that should be confirmed.

Organize your answer in the following format:
Account Name
From Whom
Confirmed
Information to Be
Confirmed

7-30 (OBJECTIVE 7-4) The following are various audit procedures performed to satisfy specific transaction-related audit objectives as discussed in Chapter 6. The general transaction-related audit objectives from Chapter 6 are also included.
Audit Procedures
1. Trace from receiving reports to vendors’ invoices and entries in the acquisitions journal.
2. Add the sales journal for the month of July and trace amounts to the general ledger.
3. Examine expense voucher packages and related vendors’ invoices for approval of expense account classification.
4. Observe opening of cash receipts to determine that cash receipts are promptly deposited and recorded.
5. Ask the accounts payable clerk about procedures for verifying prices, quantities, and extensions on vendors’ invoices.
6. Vouch entries in sales journal to sales invoices and related shipping documents.
7. Examine the footnotes about the company’s policies for recording revenue transactions to determine whether the disclosures are understandable.
General Transaction-Related Audit Objectives
Occurrence Posting and Summarization Presentation
Completeness Classification
Accuracy Timing
a. Identify the type of audit evidence used for each audit procedure.
b. Identify the general transaction-related audit objective or objectives satisfied by each audit procedure.

7-31 (OBJECTIVE 7-4) The following audit procedures were performed in the audit of inventory to satisfy specific balance-related audit objectives as discussed in Chapter 6. The audit procedures assume that the auditor has obtained the inventory count sheets that list the client’s inventory. The general balance-related audit objectives from Chapter 6 are also included.
Required
Required
Based on AICPA question paper, American Institute of Certified Public Accountants.

Audit Procedures

1. Select a sample of inventory items in the factory warehouse and trace each item to the inventory count sheets to determine whether it has been included and whether the quantity and description are correct.
2. Trace selected quantities from the inventory list to the physical inventory to make sure that it exists and the quantities are the same.
3. Compare the quantities on hand and unit prices on this year’s inventory count sheets with those in the preceding year as a test for large differences.
4. Read the footnote disclosures related to the company’s accounting policies for valuing inventory to make sure the information provided correctly reflects the method used to value inventory.
5. Test the extension of unit prices times quantity on the inventory list for a sample of
inventory items, test foot the list, and compare the total to the general ledger.
6. Send letters directly to third parties who hold the client’s inventory, and request that they respond directly to the auditors.
7. Examine sales invoices and contracts with customers to determine whether any goods are out on consignment with customers. Similarly, examine vendors’ invoices and contracts with vendors to determine whether any goods on the inventory listing are owned by vendors.
8. Question operating personnel about the possibility of obsolete or slow-moving inventory.
General Balance-Related Audit Objectives
Existence Classification Realizable value
Completeness Cutoff Rights and obligations
Accuracy Detail tie-in Presentation
a. Identify the type of audit evidence used for each audit procedure.
b. Identify the general balance-related audit objective or objectives satisfied by each audit procedure.

7-32 (OBJECTIVES 7-3, 7-4) The following are nine situations, each containing two means of accumulating evidence:
1. Confirm receivables with consumers versus confirming accounts receivable with business organizations.
2. Physically examine 3-inch steel plates versus examining electronic parts.
3. Examine duplicate sales invoices when several competent people are checking each other’s work versus examining documents prepared by a competent person on a one- person staff.
4. Physically examine inventory of parts for the number of units on hand versus examining them for the likelihood of inventory being obsolete.
5. Discuss the likelihood and amount of loss in a lawsuit against the client with client’s in-house legal counsel versus discussion with the CPA firm’s own legal counsel.
6. Confirm the oil and gas reserves with a geologist specializing in oil and gas versus confirming a bank balance.
7. Confirm a bank balance versus examining the client’s bank statements.
8. Physically count the client’s inventory held by an independent party versus confirming the count with an independent party.
9. Obtain a physical inventory count from the company president versus physically counting the client’s inventory.
a. Identify the six factors that determine the reliability of evidence.
b. For each of the nine situations, state whether the first or second type of evidence is more reliable.
c. For each situation, state which of the six factors affected the reliability of the evidence.

7-33 (OBJECTIVE 7-4) Following are 10 audit procedures with words missing and a list of several terms commonly used in audit procedures.
Required
In-class
Discussion
Required

Audit Procedures
1. ______ the unit selling price times quantity on the duplicate sales invoice and compare the total to the amount on the duplicate sales invoice.
2. ______ the long-term debt footnote to determine that all required disclosures are accurately described.
3. ______ whether the accounts receivable bookkeeper is prohibited from handling cash.
4. ______ the ratio of cost of goods sold to sales and compare the ratio to previous years.
5. ______ the sales journal and _______ the total to the general ledger.
6. ______ the sales journal, looking for large and unusual transactions requiring investigation.
7. ______ of management whether all accounting employees are required to take annual vacations.
8. ______ all marketable securities as of the balance sheet date to determine whether they equal the total on the client’s list.
9. ______ the balance in the bank account directly with the East State Bank.
10. ______ a sample of duplicate sales invoices to determine if the controller’s approval is included and ______ each duplicate sales invoice to the sales journal for agreement of name and amount.
Terms
a. Examine
b. Scan
c. Read
d. Compute
e. Recompute
f. Foot
g. Trace
h. Compare
i. Count
j. Observe
k. Inquire
l. Confirm
a. For each of the 12 blanks in procedures 1 through 10, identify the most appropriate term. No term can be used more than once.
b. For each of the procedures 1 through 10, identify the type of evidence that is being used.

7-34 (OBJECTIVES 7-4, 7-5) Analytical procedures are an important part of the audit process and consist of the evaluation of financial information by the study of plausible relation- ships among financial and nonfinancial data. Analytical procedures may be done during planning, as a substantive test, or as a part of the overall review of an audit.

The following are various statements regarding the use of analytical procedures:
1. Should focus on enhancing the auditor’s understanding of the client’s business and the transactions and events that have occurred since the last audit date
2. Should focus on identifying areas that may represent specific risks relevant to the audit
3. Require documentation in the working papers of the auditor’s expectation of the ratio or account balance
4. Generally use data aggregated at a lower level than the other stages
5. Should include reading the financial statements and notes to consider the adequacy of evidence gathered
6. Not required during this stage
7. Involve reconciliation of confirmation replies with recorded book amounts
8. Use the preliminary or unadjusted working trial balance as a source of data
9. Do not result in detection of misstatements
10. Designed to obtain evidential matter about particular assertions related to account balances or classes of transactions
For each of the 10 statements listed above, select the stage of the audit for which the statement is most accurate using the following responses:
a. Planning the audit
b. Substantive testing
c. Overall review
d. Statement is not correct concerning analytical procedures.*
Required
Required
Based on AICPA question paper, American Institute of Certified Public Accountants.

7-35 ACL Problem (OBJECTIVE 7-4) This problem requires the use of ACL software, which can be accessed by following the instructions available on the textbook website. Information about downloading and using ACL and the commands used in this problem can also be found on the textbook website. You should read all of the reference material preceding the instructions about “Quick Sort” before locating the appropriate command to answer parts

a. through f. For this problem, use the file labeled “Payroll_details” in the “Payroll” subfolder in the ACL_Rockwood project. The suggested command or other source of information needed to solve the problem requirement is included at the end of each question.
a. Determine the number of payroll transactions in the file. (Read the bottom of the Payroll_detail file screen.)
b. Determine the largest and smallest payroll transaction (gross pay) for all pay periods combined. (Quick Sort)
c. Determine total gross pay for all pay periods. (Total)
d. Determine and print gross pay by pay period. (Summarize)
e. Recalculate net pay for each payroll transaction for all pay periods and compare it to the amount included in the file. (Filter)
f. Determine whether there are any gaps in the pay period sequence. If you were to identify gaps in the sequence, what would be your concern? (Gaps)
g. For parts a. through f. above, identify the type of audit evidence used for each procedure. How might the auditor use this evidence in testing of payroll expense?

7-36 (OBJECTIVES 7-5, 7-7) Following are the auditor’s calculations of several key ratios for Cragston Star Products. The primary purpose of this information is to understand the client’s business and assess the risk of financial failure, but any other relevant conclusions are also desirable.
Ratio 2019 2018 2017 2016 2015
1. Current ratio 2.08 2.26 2.51 2.43 2.50
2. Quick ratio .97 1.34 1.82 1.76 1.64
3. Times interest earned 3.50 3.20 4.10 5.30 7.10
4. Accounts receivable turnover 4.20 5.50 4.10 5.40 5.60
5. Days to collect receivables 86.90 66.36 89.02 67.59 65.18
6. Inventory turnover 2.03 1.84 2.68 3.34 3.36
7. Days to sell inventory 179.80 198.37 136.19 109.28 108.63
8. Net sales divided by tangible assets .68 .64 .73 .69 .67
9. Profit margin .13 .14 .16 .15 .14
10. Return on assets .09 .09 .12 .10 .09
11. Return on equity .05 .06 .10 .10 .11
12. Earnings per share $4.30 $4.26 $4.49 $4.26 $4.14
a. What major conclusions can be drawn from this information about the company’s future?
b. What additional information would be helpful in your assessment of this company’s financial condition?
c. Based on the preceding ratios, which aspects of the company do you believe should receive special emphasis in the audit?

7-37 (OBJECTIVE 7-5) You are auditing payroll for the Morehead Technologies company for the year ended October 31, 2019. Included next are amounts from the client’s trial balance, along with comparative audited information for the prior year.
Required
Data
Analytics

Required

Audited Balance
10/31/2018
Preliminary Balance
10/31/2019
Sales $ 51,316,234 $ 57,474,182
Executive salaries 546,940 615,970
Factory hourly payroll 10,038,877 11,476,319
Factory supervisors’ salaries 785,825 810,588
Office salaries 1,990,296 2,055,302
Sales commissions 2,018,149 2,367,962
You have obtained the following information to help you perform preliminary analytical procedures for the payroll account balances.

1. There has been a significant increase in the demand for Morehead’s products. The increase in sales was due to both an increase in the average selling price of 4 percent and an increase in units sold that resulted from the increased demand and an increased marketing effort.

2. Even though sales volume increased, there was no addition of executives, factory supervisors, or office personnel.

3. All employees including executives, but excluding commission salespeople, received
a 3 percent salary increase starting November 1, 2018. Commission salespeople receive their increased compensation through the increase in sales.

4. The increased number of factory hourly employees was accomplished by recalling employees that had been laid off. They receive the same wage rate as existing employees. Morehead does not permit overtime.

5. Commission salespeople receive a 5 percent commission on all sales on which a commission is given. Approximately 75 percent of sales earn sales commission. The other 25 percent are “call-ins,” for which no commission is given. Commissions are paid in the month following the month they are earned.
a. Use the final balances for the prior year included above and the information in items
1 through 5 to develop an expected value for each account, except sales.
b. Calculate the difference between your expectation and the client’s recorded amount as a percentage using the formula (expected value – recorded amount)/ expected value.

7-38 (OBJECTIVE 7-5) As the in-charge senior auditor on the audit engagement for JA Tire Manufacturing for the year ended December 31, 2019, you are responsible for performing risk assessment procedures related to the sales cycle. JA Tire has four sales divisions within the U.S. and sells primarily to large tire companies with regional warehouses that subsequently distribute to local retailers. Based on some of the risk assessment procedures already performed, you identified risks related to the fact that salespersons receive a com- mission on sales to distributors and the commission is calculated on a monthly basis. Your manager has asked you to perform analytical procedures as a part of audit planning to review sales information by sales division and by month to identify potential risk areas that might warrant further audit procedures related to sales.

1. Visit the textbook website to download the file “JATireSales.xls” provided to your audit firm by the company. This file contains sales transaction information for the year ended December 31, 2019. If you have not already done so, read the JA Tire
Manufacturing system description provided on the first tab of the Excel file before attempting this assignment to familiarize yourself with the sales process and the relevant worksheets and terminology. Using the “Invoices” and “Sales Order” tabs in the Excel spreadsheet, perform the procedures in requirements 2 through 4 using either Excel, Tableau, or audit software such as ACL or IDEA.
Required
Data
Analytics
Required

2. Summarize sales by month and sales division using a pivot table in Excel (hint: put divisions in columns, months in rows) or using a graph or chart in Tableau. If you are using Excel to summarize, you will first need to add a column to the Excel worksheet and extract the “month” portion of the shipping date in order to summarize by month. If you are using Excel, use the “graph” feature to graph the pivot table data.
Identify any divisions or months that you believe should be examined further, and document your rationale.

3. For any divisions identified in step 2 for follow-up, summarize sales by customer and month using a pivot table in Excel or graph or chart in Tableau.
You can use a “filter” in Excel or Tableau to limit the analysis to one or more divisions. Identify any months that you want to examine further, and document your rationale.

4. Summarize your findings in a brief memo to the manager and include the charts or graphs generated in steps 2 and 3 above as support for your findings. Discuss your recommendations for performing further audit procedures.

7-39 (OBJECTIVE 7-6) Regulators are taking advantage of advances in technology to fulfill their oversight responsibilities. Visit the website of the Securities and Exchange Commission (SEC) (www.sec.gov) to locate the speech given at the OpRisk North America 2017 Conference by Scott W. Bauguess, Acting Director and Acting Chief Economist in the Division of Economic and Risk Analysis. Read the speech to answer the following:
a. What data analysis technique did the SEC use as one of its initial attempts to integrate machine learning into its analysis of public company filings at the SEC?
b. What is latent dirichlet allocation (LDA) and how has it been used by the SEC?
c. Describe the magnitude and scale of data for one day of the Option Reporting Authority (OPRA) and highlight how advanced technologies allow analysis of data sets of that size.
d. To what extent might advanced technologies replace humans in the SEC enforcement process?

7-40 (OBJECTIVES 7-8, 7-9) You are the in-charge auditor on the audit of Vandervoort Company and are to review the audit schedule shown on the next page.
a. List the deficiencies in the audit schedule.
b. For each deficiency, state how the audit schedule could be improved.
c. Prepare an improved audit schedule, using an electronic spreadsheet software program. Include an indication of the audit work done as well as the analysis of the client data (instructor’s option)

Which accounts should be confirmed with outside sources? Briefly describe from whom they should be confirmed and the information that should be confirmed.
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