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Auditing

Multiple Choice
Identify the choice that best completes the statement or answers the question.

____ 1.
Auditors have difficulty applying the concept of materiality in practice because they
often do not know who the users of the financial statements are or what decisions will
be made.
The results of tests of controls and tests of details of balances affect the design of
substantive tests of transactions.

a. True, True
b. False, False
c. True, False
d. False, True

An examination of the accounting records of Ben Inc. for the year ended December 31, 2013 indicates that
several errors were made. The following errors were discovered:

The footings and extensions showed that the inventory on December 31, 2012 was
understated by 380,000
300,000 worth of inventories were received on January 2, 2014. Upon investigation you
discovered that these goods were shipped by the supplier on December 30, 2013 FOB
Shipping point. Further investigation revealed that liability on item were recorded when
the goods were shipped.
Salary accruals on December 31, were consistently omitted:

2010 190,000
2011 220,000
2012 200,000
2013 280,000

Unused supplies were consistently omitted at the end of each year

2010 150,000
2011 200,000
2012 230,000
2013 240,000

A 4-year fire insurance amounting to 300,000 was paid and fully expense on June 15,
2011. The insurance covers the fiscal year July 1 to June 30.
Interest receivable were not recorded on December 31 of the following years:
2011 40,000
2012 50,000
2013 60,000

On January 1, 2013 an equipment costing 800,000 was sold for 440,000. At the end of
the sale the equipment had accumulated depreciation of 480,000. The cash received
was recorded by the company as miscellaneous income.
You also discovered that on July 1, 2011, the company completed the construction of
the left wing of its factory building incurring a total cost of 1,400,000, which it had
charged to repairs expense. The said building has been used in operations for 5 years
as of july 1, 6,000,000 had a carrying value of 2,250,000 as of December 31, 2013.
The income statements of Ben Inc. indicate the following net income:

2011 3,000,000
2012 3,500,000
2013 4,000,000

____ 2. What is the effect of the errors to the 2013 retained earnings?
a. 712,500 over
b. 742,500 over
c. 742,500 under
d. 712,500 under

____ 3. What is the correct net income in 2013?


a. 2,500,000
b. 3,165,000
c. 2,665,000
d. 2,965,000

____ 4. Which of the following is mandatory if the auditor is to comply with generally accepted auditing standards?
a. Use of analytical review on audit engagements
b. Confirmation by the auditor of material accounts receivable balances
c. Possession by the auditor of adequate technical training
d. Use of statistical sampling whenever feasible on an audit engagement

You are conducting an audit of the MART CORPORATION for the year ended December 31, 2013. The
internal control procedures surrounding cash transactions were not adequate. Jane Quipit, the bookkeeper-
cashier handles cash receipts, maintains accounting records and prepares the monthly reconciliations of the
bank account. She prepared the following reconciliation at the end of the year:

Balance per bank statement 315,000


Add Deposit in transit 157,725
Note collected by bank 13,500 171,225
Balance 486,225
Less Outstanding checks 222,075
Balance per general ledger 264,150

In the process of your audit, you gathered the following:

At December 31, 2013, the bank statement and the general ledger showed balances of
P315,000 and P264,150 respectively.
The cut off bank statement showed a bank charge on January 02, 2014 for P35,250
representing a correction of an erroneous bank credit.
Included in the list of outstanding checks were the following:
1. A check payable to a supplier, dated December 29, 2013, in the amount of P13,275,
released on January 05, 2014.
2. A check representing advance payment to a supplier in the amount of P33,489, the
date of which is January 04, 2014, and released in December 2013.
On December 31, 2013, the company received and recorded customers postdated
check amounting to P45,000.

____ 5. Compute the adjusted deposit in transit as of December 31, 2013.


a. 112,725
b. 202,725
c. 157,725
d. 112,500

____ 6. Which of the following statistical selection techniques is least desirable for use by an auditor?
a. Stratified selection
b. Systematic selection
c. Sequential selection
d. Block selection

____ 7. With a limited work force and a desire to maintain strong internal control, which combination of duties
performed by a single individual presents the least risk exposure?
a. recording the inventory journal voucher in the general ledger and maintaining custody of
inventory
b. preparing the accounts payable journal voucher and recording it in the general ledger
c. maintaining the cash disbursements journal and recording direct labor costs applied to
specific jobs
d. maintaining the inventory ledger and recording the inventory journal voucher in the
general ledger

____ 8. An auditor believes that there is substantial doubt about an entitys ability to continue as a going concern for a
reasonable period of time. In evaluating the entitys plans for dealing with the adverse effects of future
conditions and events, the auditor most likely would consider, as a mitigating factor, the entitys plans to:
a. Operate at increased levels of production.
b. Accelerate expenditures for research and development projects.
c. Extend the due dates of existing loans.
d. Issue stock options to key executives.
At the beginning of year 1, Entity A grants share options to each of its 100 employees working in the sales
department. The share options will vest at the end of year 3, provided that the employees will remain in the
entitys employ, and provided that the volume of sales of a particular product increases by at least an average
of 5% per year. If the volume of sales of the product increases by an average of between 5% and 10% per
year, each employee will receive 100 share options. If the volume of sales increases by an average of between
11% and 15% each year, each employee will receive 200 share options. If the volume of sales increases by an
average of 16% or more, each employee will receive 300 share options.

On grant date, Entity A estimates that the share options have a fair value of P20 per option. Entity A also
estimates that the volume of sales of the product will increase by an average of bet 11% and 15% per year,
and therefore expects that, for each employee who remains in service until the end of year 3, 200 share
options will vest. The entity also estimates, on the basis of a weighted average probability, that 20% of
employees will leave before the end of year 3.

By the end of year 1, seven employees have left and the entity still expects that a total of 20 employees will
leave by the end of year 3. Hence, the entity expects that 80 employees will remain in service for the three-
year period. Product sales have increased by 12% and the entity expects this rate of increase to continue over
the next 2 years.

By the end of year 2, a further 5 employees have left, bringing the total to 12 to date. The entity now expects
only 3 more employees will leave during year 3, and therefore expects a total of 85% employees will remain
at the end of year 3. Product sales have increased by 20%, resulting in an average of 16% over the 2 years to
date. The entity now expects that sales will average 16 percent or more over the three-year period, and hence
expects each sales employee to receive 300 share options at the end of year 3.

By the end of year 3, a further two employees have left. Hence, 14 employees left during the three-year
period, and 86 employees remain. The entitys sales have increased by an average of 16 % over the three
years.

____ 9. What is the compensation expense for year 1?


a. 172,000
b. 106,667
c. 53,333
d. 160,000

____ 10. An important characteristic of IT is uniformity of processing. Therefore, a risk exists that:
a. Erroneous processing can result in the accumulation of a great number of misstatements in
a short period of time
b. Auditors will not be able to determine if data is processed consistently
c. Auditors will not be able to access data quickly
d. All of the above

____ 11. A CPA establishes quality control policies and procedures for deciding whether to accept a new client or
continue to perform services for a current client. The primary purpose for establishing such policies and
procedures is
a. To enable the auditor to attest to the integrity or reliability of a client
b. To comply with the quality control standards established by regulatory bodies
c. To lessen the exposure to litigation resulting from failure to detect irregularities in client
financial statements
d. To minimize the likelihood of association with clients whose management lacks integrity

____ 12. When auditing inventories of raw materials, purchased parts and/or merchandise inventory, the auditors most
effective means for evaluating the valuation assertion is to:
a. scan inventory listings for large extended amounts, and trace related quantities to auditors
copy of the inventory tag or listing.
b. examine recent invoices from vendors, along with freight bills and compare with clients
unit costs as adjusted for freight and discount.
c. trace quantities from tags or count sheets to final inventory listings.
d. compare purchases with prior year and with industry averages and account for significant
fluctuations.

____ 13. One of the ways to control non- sampling risk is through:
a. Proper supervision and instruction of the audit team.
b. Control which ensure the sample drawn is random and representative.
c. Proper supervision and instruction of the clients employees.
d. The use of attributes sampling rather than variables sampling.

In the audit of the Willy Corporations financial statements at December 31, 2013, the chief accountant of the
said corporation provided the following information:

Notes payable:
Arising from purchase of goods 304,000
Arising from 5 year-bank loans, on which marketable securities 500,000
valued at P600,000 have been pledged as security, P400,000 due on June
30, 2014; P100,000 due on Dec. 31, 2014
Arising from advances by officers, due June 30, 2014 50,000
Reserve for general contingencies 400,000
Employees income tax withheld 20,000
Advances received from customers on purchase orders 64,000
Containers deposit 50,000
Accounts payable arising from purchase of goods, net of debit balances of 170,000
P30,000
Accounts receivable, net of credit balances P40,000 360,000
Cash dividends payable 80,000
Stock dividends payable 100,000
Dividends in arrears on preferred stock, not yet declared 200,000
Convertible bonds, due January 31, 2015 1,000,000
First mortgage serial bonds, payable in semi-annual installments of 2,000,000
P50,000, due April 1 and October 1 of each year
Overdraft with Allied Bank 90,000
Cash in bank balance with PNB 390,000
Estimated damages to be paid as a result of unsatisfactory performance on a 160,000
contract
Estimated expenses on meeting guarantee for service requirements on 120,000
merchandise sold
Estimated premiums payable 75,000
Deferred revenue 87,000
Accrued interest on bonds payable 360,000
Common stock warrants outstanding 120,000
Common stock options outstanding 210,000
Unused letters of credit 400,000
Deficiency VAT assessment being contested 500,000
Notes receivable discounted 200,000

On March 1, 2014, the P400,000 note payable was replaced by an 18-month note for the same amount. Willy
is considering similar action on the P100,000 note payable due on December 31, 2014. The 2013 financial
statements were issued on March 31, 2014.

On December 1, 2013, a former employee filed a lawsuit seeking P200,000 for unlawful dismissal. Willy
attorneys believe that the suit is without merit. No court date has been set.

On January 15, 2014, the BIR assessed Willy an additional income tax of P300,000 for the 2003 tax year.
Willy attorneys and tax accountants have stated that it is likely that the BIR will agree to a P200,000
settlement.

____ 14. Total current liabilities


a. 2,500,000
b. 2,400,000
c. 2,300,000
d. 2,100,000

The ALVARO INC. has requested you to audit its financial statements for the year 2013. During your audit,
ALVARO presented to you its balance sheet as of December 31, 2012 which had the following Shareholders
equity section:

Preference shares, 10 par; 90,000 shares authorized and issued, of 900,000


which 9,000 are in the treasury costing 135,000 and shown as an asset
ordinary shares, 4 par value; 900,000 shares authorized, of which 2,700,000
675,000 shares are issued and outstanding
Share premium (5 per share on preference shares issued in 2007) 450,000
Allowance for doubtful accounts receivable 180,000
Reserve for depreciation 1,260,000
Reserve for fire insurance 297,000
Accumulated profits 3,375,000
Total shareholders equity 9,000,000

Audit notes:
Of the preference shares, 4,500 shares were sold for 18 per share on August 30, 2013.
ALVARO credited the proceeds to the Preference share account. The treasury shares as of
December 31, 2012 were acquired in one purchase in 2012.
The preference shares carry an annual dividend of 1 per share. The dividend is cumulative. As
of December 31, 2012, unpaid cumulative dividends amounted to 5 per share. The entire
accumulation was liquidated in June 2013, by issuing to the preference shareholders 81,000
ordinary shares.
A cash dividend of 1 per share was declared on December 1, 2013 to preference shareholders
14.
At December 31, 2013, the Allowance for Doubtful Accounts Receivable and Reserve for
Depreciation had balances of 37,500 and 1,575,000, respectively.
On March 1, 2013, the Reserve for Fire Insurance was increased by 90,000; Accumulated
profits was debited.
On December 31, 2013, the Reserve for fire insurance was decreased by 45,000 which
represents the carrying value of a machine destroyed by fire on that date. Fire cleanup costs
9,000 does not appear in the records.
The December 31, 2012 Accumulated profits consists of the following:

Donated land from a stockholder 675,000


Gains from treasury stock transactions 76,500
Earnings retained in the business 2,623,500
3,375,000

Unadjusted net income for the year ended December 31, 2013 was 1,946,250 per companys books.

____ 15. What is the total shareholders equity as of December 31, 2013?
a. 9,479,250
b. 5,550,750
c. 9,474,750
d. 8,718,750

____ 16. Which of the following is the most effective control procedure to detect vouchers that were prepared for the
payment of goods that were not received?
a. Verify vouchers for accuracy and approval in internal audit department
b. Compare goods received with goods requisitioned in receiving department
c. Match purchase order, receiving report, and vendor's invoice for each voucher in accounts
payable department
d. Count goods upon receipt in storeroom

____ 17. For which of the following accounts is cutoff least important?
a. Sales
b. Inventory
c. Sales returns and allowances
d. Cash collections

____ 18. When control risk is assessed as low for assertions related to payroll, substantive tests of payroll balances
most likely would be limited to applying analytical procedures and
a. Recalculating payroll accruals
b. Footing and crossfooting the payroll register
c. Observing the distribution of paychecks
d. Inspecting payroll tax returns

____ 19. Which of the following is not one of the three primary objectives of effective internal control?
a. Compliance with laws and regulations
b. Assurance of elimination of business risk
c. Efficiency and effectiveness of operations
d. Reliability of financial reporting

JP COMPANY was formed on July 1, 2010. It was authorized to issue 600,000 shares of P10 par value
common stock and 200,000 shares of 8 percent P25 par value, cumulative and nonparticipating preferred
stock. JP COMPANY has a July 1- June 30 fiscal year.

The ff information relates to the shareholders equity accounts of JP COMPANY:

COMMON STOCK

Prior to the 2012-2013 fiscal year, JP COMPANY had 220,000 shares of outstanding common stock issued as
follows:

190,000 shares were issued for cash on July 1, 2010, at P31 per share.
On July 24, 2010, 10,000 shares were exchanged for a plot of land which cost the seller
P140,000 in 2004 and had an estimated market value of P440,000 on July 24, 2010.
20,000 shares were issued on March 1, 2012; the shares had been subscribed for P42
per share on October 31, 2011.

During the 2012-2013 fiscal year, the ff transactions regarding common stock took place:

2012
Oct. 1 Subscriptions were received for 4,000 shares at P46per share. Cash of P184,000 was
received in full payment for 4,000shares and stock certificates were issued.
Nov. 30 JP purchased 4,000 shares of its own stock on the open market at P39 per share
Dec. 15 JP declared a 5% stock dividend for stockholders of record on January 15,2013, to be issued
on January 31,2013. JP was having a liquidity problem and could not afford a cash dividend
at the time. JPs common stock was selling at P52 per share on December 15,2012.
2013
June 20 JP sold 1,000 shares of its own common stock that it had purchased on November 30,2012,
for P42,000

PREFERRED STOCK
JP issued 100,000 shares of preferred stock at P44 per share on July 1,2011.

CASH DIVIDENDS
JP has followed a schedule of declaring cash dividends in December and June with payment being made to
shareholders of record in the following month. The cash dividends which have been declared since inception
of the company through June 30, 2013, are shown below:
Declaration date Common stock Preferred stock
12/15/09 P0.30 per share P1 per share
6/15/10 P0.30 per share P1 per share
12/5/10 - P1 per share

No cash dividends were declared during June 2013 due to the companys liquidity problems.

RETAINED EARNINGS
As of June 30, 2012, JPs retained earnings account had a balance of P1,380,000. For the fiscal year ending
June 30, 2013, JP reported net income of P80,000.
In March 2012, JP received a term loan from Bandying National Bank. The bank requires JP to establish a
sinking fund and restrict retained earnings for an amount equal to the sinking fund deposit. The annual
sinking fund payment of P100,000 is due on April 30 each year; the first payment was made on schedule on
April 30,2013.

____ 20. Preferred stock on June 30, 2013 is


a. 2,500,000
b. 0
c. 3,400,000
d. 4,400,000

____ 21. Many companies do not maintain an accounts payable master file by vendor. These companies pay on the
basis of:
a. Vendors monthly statements
b. Individual vendors invoices
c. Dunning letters
d. The accounts payable account in the general ledger

____ 22. In general, a material internal control weakness may be defined as a condition in which material errors or
fraud would ordinarily not be detected within a timely period by
a. An auditor during the normal study and evaluation of the system of internal control
b. Employees in the normal course of performing their assigned functions
c. A controller when reconciling accounts in the general ledger
d. The chief financial officer when reviewing interim financial statements

The following information has been taken from the Accumulated Profits ledger account of Mellow Corp:

Total net income since incorporation 3,200,000


Total cash dividends paid 150,000
Carrying value of the companys equipment declared as property 600,000
dividend
Proceeds from sale of donated stocks 150,500
Total value of stock dividends distributed 250,000
Gain on treasury share transaction 375,000
Unamortized premium on bonds payable 413,200
Appropriated for plant expansion 700,000
Loss on treasury share reissue 515,000
Share premium in excess of par from issued shares 215,000
Share issuance expense 45,000
Appropriated for remaining treasury shares at cost P50/share 1,000,000

Additional notes:
The equipment declared as dividends had a recoverable value of 450,000 as of the
date of declaration.
The stock dividend distributed was based on a 10% share dividend declared on
100,000, 25 par value shares issued. The market value of shares on the date of
declaration was at 42 per share.
The only transactions affecting the treasury shares were those described above

____ 23. How much should be the correct debit to retained earnings for the property dividends?
a. 600,000
b. 550,000
c. 500,000
d. 450,000

____ 24. For audit purposes, a corporation's articles of incorporation are normally:
a. Ignored since they are not normally considered to be related to the internal control
structure
b. Copied and placed on the owners' equity lead schedule
c. Confirmed with the transfer agent
d. Copied and placed in the permanent file

____ 25. Which of the following accounts is not included in the acquisitions class of transactions?
a. Inventory
b. Purchase discounts
c. Prepaid expenses
d. Accounts payable

____ 26. The major balance sheet account in the acquisition and payment cycle is:
a. Accruals payable
b. Accrued liabilities
c. Notes payable
d. Accounts payable

____ 27. Which of the following would be the most relevant form of evidence to evaluate the reasonableness of
account balances?
a. Physical
b. Hearsay
c. Documentary
d. Analytical

____ 28. The most important aspect of evaluating the clients method of obtaining a reliable cutoff is to:
a. Confirm transaction with customers
b. Perform extensive detailed testing of cutoff
c. Evaluate the clients control procedures around cutoff
d. Confirm a sample of transactions near period end with customers

____ 29. During an audit of a publicly-held company, the auditors should obtain written confirmation regarding
debenture transactions from the:
a. Debenture holders
b. Trustee
c. Internal auditors
d. Client's attorney

____ 30. Output controls are not designed to assure that data generated by the computer are:
a. Used appropriately by employees in making decisions
b. Accurate
c. Distributed only to authorized people
d. Complete

____ 31. Which of the following concepts is most useful in assessing the scope of an auditor's program relating to
various accounts?
a. The reliability of information
b. Management fraud
c. Materiality
d. Attribute sampling

____ 32. According to PSA 530, selecting specific items may include selecting the following, except
a. All items over a certain amount
b. Items to test control activities
c. Low value or non-key items
d. Items to obtain information

____ 33. The positive (as opposed to the negative) form of receivables confirmation is preferred when:
a. Internal control surrounding accounts receivable is considered to be effective
b. There is reason to believe that a substantial number of accounts may be in dispute
c. A large number of small balances are involved
d. There is reason to believe a significant portion of the requests will be made

____ 34. The auditor interviews the plant manager. The auditor is most likely to rely upon this interview as primary
support for an audit conclusion on:
a. Capitalization vs. expensing policy.
b. The adequacy of the depreciation expense.
c. The necessity to record a provision for deferred maintenance costs.
d. Allocation of fixed and variable costs.

____ 35. Quality control policies and procedures that are established to decide whether to accept a new client should
provide the CPA firm with reasonable assurance that:
a. The CPA firms duty to the public concerning the acceptance of new clients is satisfied.
b. The likelihood of associating with clients whose management lacks integrity is minimized.
c. Sufficient corroborating evidence to support the financial statement assertions is available.
d. Client-prepared schedules that are necessary for the engagement are completed on a timely
basis.

____ 36. A sample in which the characteristics in the sample are the same as those of the population is
a. A random sample
b. A representative sample
c. A variable sample
d. An attributes sample

The following data were compiled prior to preparing the balance sheet of the Garry Corporation as of
December 31, 2013:

Authorized common stock, P100 par value 4,000,000


Cash dividends payable 160,000
Donated capital 800,000
Gain on sale of treasury stock 80,000
Net unrealized loss on available for sale securities 96,000
Premium on capital stock 320,000
Premium on bonds payable 240,000
Reserve for bond sinking fund 400,000
Reserve for depreciation 600,000
Revaluation increment on property 800,000
Retained earnings, unappropriated 720,000
Subscribe capital stock 480,000
Stock subscriptions receivables 120,000
Stock warrants outstanding 200,000
Treasury stock, at cost 144,000
Unissued common stock 800,000

____ 37. Common stock issued


a. 4,000,000
b. 3,056,000
c. 3,680,000
d. 3,200,000

____ 38. In applying analytical procedures, the auditor discovered that gross profit as a percent of sales declined
sharply during the current year. A possible cause might be
a. The client has significant amounts of obsolete inventory carried at full cost
b. A significant quantity of finished goods located in a distant warehouse was inadvertently
omitted from the ending inventory
c. Depreciation of office equipment was overstated
d. Recorded sales included goods that were shipped the following year

____ 39. Corporate directors, management, external auditors and internal auditors all play important roles in creating a
proper control environment. Top management is primarily responsible for
a. Implementing and monitoring controls designed by the board of directors
b. Establishing a proper environment and specifying an overall internal control structure
c. Designing and operating a control system that provides reasonable assurance that
established objectives will be met
d. Ensuring that external and internal auditors adequately monitor the control environment

____ 40. Which is correct?


a. cash is more susceptible to theft than an inventory because it has a greater inherent risk.
b. the existing levels of inherent risk, control risk and detection risk can be changed at the
discretion of the auditor.
c. the risk that material misstatements will not be prevented or detected on a timely basis by
internal control can be reduced to zero by effective controls.
d. detection risk is a function of the efficiency of an auditing procedure.

A recently passed accounting graduate processed the following business transaction.

An unsecured loan for P3.2 million was granted to Diane Gregorio, the chief executive officer of Tea House,
Inc., at the beginning of 2014. On December 31, 2014, the company drew a check for P3.2 million on Bank A
for deposit in Bank B. The transaction was recorded by a debit to cash in Bank B and a credit to loans
receivable-officers. The check was not listed as outstanding on Bank A. It did appear as a credit on the
December 31 bank statement received from Bank B. On January 2, 2015, the company made a journal entry
debiting loans receivable-officers and crediting cash in Bank A for P3.2 million. The loan accounted for
35% of the entitys total assets.

____ 41. Is there a fraud?


a. This set of journal entries is an example of fraudulent misrepresentation in the form of
kiting.
b. There is no fraud but a misstatement because the accountant is a fresh graduate.
c. There might be fraud in this case but the data is incomplete.
d. There is no fraud and possible misstatement in this situation.

____ 42. A person identified as an audit committee financial expert of an issuer generally must have acquired the
attributes of a financial expert through any of the following experiences, except:
a. As a principal financial officer, principal accounting officer, controller, public accountant,
or auditor.
b. Serving on at least one other issuer's audit committee or disclosure committee of the board
of directors.
c. Actively supervising a principal financial officer or principal accounting officer.
d. Assessing the performance of public accountants with respect to preparation, auditing, or
evaluation of financial statements.

____ 43. Which of the following statements about general controls is not correct?
a. Disaster recovery plans should identify alternative hardware to process company data
b. Successful IT development efforts require the involvement of IT and non-IT personnel
c. Programmers should have access to computer operations to aid users in resolving
problems
d. The chief information officer should report to senior management and the board

____ 44. The risk of fraudulent financial reporting increases in the presence of
a. Frequent changes in suppliers
b. Substantial increases in sales
c. Improved control systems
d. Incentive systems based on operating income
You are auditing the financial statements of More Luck Co. the companys accountant provided you with the
following comparative statements of income and accumulated profits for the years 2012 and 2013.

2013 2012
Sales 4,500,000 6,000,000
Cost of goods sold (2,800,000) (2,400,000)
Gross income 3,200,000 2,100,000
Operating expenses (1,500,000) (1,800,000)
Net profit 1,700,000 300,000
Accumulated profits, beg 1,150,000 1,000,000
Net profit 1,700,000 300,000
Dividends paid (500,000) (150,000)
Accumulated profits, end 2,350,000 1,150,000

Audit notes:

The ending inventory for 2012 was understated by 100,000.


The company decided to change its method of depreciation from the double-declining
balance method to the straight-line. The depreciable assets had a 10 year useful life
and is 50% depreciated as at the end of 2012. The salvage value of the said assets was
estimated to be 50,000. Expenses in the income statements included a 350,000
depreciation expense computed based on double-declining balance method.
On August 31, 2012, the company started the construction of a building it plans to use
as a second factory. As of the current balance sheet, the construction is yet to be
finished. Total accumulated costs incurred on the construction and recorded in its
construction-in-progress account, amounted to 1,250,000, which included a 25,000
capitalized borrowing cost in 2012, since the company opted to apply the alternative
approach of accounting for finance cost in accordance with PAS 23. During the
current year, the company decided to change the method of accounting for borrowing
cost to follow the benchmark treatment. Actual borrowing cost in 2013 amounted to
75,000 it charged to current operations.

____ 45. What is the adjusted accumulated profits at the end of 2013?
a. 2,335,000
b. 2,885,000
c. 2,385,000
d. 2,835,000

____ 46. The essence of an effectively controlled organization lies in the:


a. Attitude of its employees
b. Effectiveness of its independent auditor
c. Attitude of its management
d. Effectiveness of its internal auditor

____ 47. Controls that enhance the reliability of the financial statements may be classified as prevention controls and
detection controls. Which of the following is primarily a detection control?
a. The human resources department authorizes the hiring of only those persons for
accounting positions that meet the written job requirements specified by the corporate
controller
b. Separation of duties between recording cash receipts and depositing cash
c. Bank accounts are reconciled monthly by persons independent of cash recording and cash
custody
d. An accounting manual, accompanied by a detailed chart of accounts, carefully and clearly
describes each type of transaction affecting the entity

____ 48. The following statements relate to the auditors responsibilities regarding related parties and transactions with
such parties. Which is incorrect?
a. The auditor is responsible for the identification and disclosure of related parties and
transactions with such parties.
b. The auditor should have a sufficient understanding of the entity and its environment to
identify events, transactions and practices that may result in a risk of material
misstatement regarding related parties and transactions with such parties.
c. A financial statement audit cannot be expected to detect all related party transactions.
d. Management is required to implement adequate internal control to ensure that transactions
with related parties are appropriately identified in the information system and disclosed in
the financial statements.

____ 49. Which of the following audit tests would be regarded as a test of controls?
a. Comparison of the inventory pricing to vendors invoices
b. Tests of the additions to property, plant, and equipment by physical inspections
c. Tests of the signatures on canceled checks to board of directors authorizations
d. Review of the specific items making up the balance in a given general ledger account

____ 50. Internal controls can never be regarded as completely effective. Even if company personnel could design an
ideal system, its effectiveness depends on the:
a. Ability of the internal audit staff to maintain it
b. Competency and dependability of the people using it
c. Proper implementation by management
d. Adequacy of the computer system
Auditing
Answer Section

MULTIPLE CHOICE

1. ANS: C DIF: 3
2. ANS: D DIF: 3
3. ANS: D DIF: 3
4. ANS: C DIF: 2
5. ANS: A DIF: 3
6. ANS: D DIF: 2
7. ANS: C DIF: 2
8. ANS: C
SOL:
Plans to delay expenditures, such as extending the due dates of existing loans, would be considered a
mitigating factor.

Operate at increased levels of production is incorrect. Plans to reduce expenditures would be considered a
mitigating factor, but operating at increased levels of production would likely increase expenditures, not
reduce them.

Accelerate expenditures for research and development projects is incorrect. Plans to delay expenditures would
be considered a mitigating factor. Accelerating expenditures would not be a mitigating factor, as it would tend
to reduce cash flow even further.

Issue stock options to key executives is incorrect. Issuance of stock options does not provide an inflow of
cash, and would not be a mitigating factor. (Remember that options would only provide an inflow of cash if
they were exercised.)

DIF: 2
9. ANS: B DIF: 3
10. ANS: A DIF: 2
11. ANS: D DIF: 2
12. ANS: B DIF: 3
13. ANS: A DIF: 3
14. ANS: A DIF: 3
15. ANS: C DIF: 3
16. ANS: C DIF: 2
17. ANS: D DIF: 2
18. ANS: A DIF: 2
19. ANS: B DIF: 2
20. ANS: A DIF: 3
21. ANS: B DIF: 2
22. ANS: B DIF: 2
23. ANS: D DIF: 3
24. ANS: D DIF: 2
25. ANS: B DIF: 2
26. ANS: D DIF: 2
27. ANS: D DIF: 2
28. ANS: C DIF: 2
29. ANS: B DIF: 2
30. ANS: A DIF: 2
31. ANS: C

DIF: 2
32. ANS: C DIF: 2
33. ANS: B DIF: 2
34. ANS: C DIF: 3
35. ANS: B
SOL:
Quality control policies and procedures that are established to decide whether to accept a new client should
provide the CPA firm with reasonable assurance that the likelihood of associating with clients whose
management lacks integrity is minimized.

The CPA firms duty to the public concerning the acceptance of new clients is satisfied is incorrect. A CPA
firm does have a duty to the public with respect to performance of an audit, but this applies more generally to
the ethical responsibilities of CPAs and to the exercise of due care in performing the audit, not specifically to
the decision regarding whether to accept a new client.

Client-prepared schedules that are necessary for the engagement are completed on a timely basis is incorrect.
Whether or not client-prepared schedules are completed on a timely basis is not generally a consideration in
accepting a new client.

Sufficient corroborating evidence to support the financial statement assertions is available is incorrect. While
it is true that an expected lack of evidence may cause the auditor to decline an engagement, ensuring that
sufficient corroborating evidence will be available is not the purpose of establishing quality control policies
and procedures. Even if sufficient corroborating evidence is expected to be available, an appropriate quality
control system should still prevent the acceptance of a new client whose management lacks integrity.

DIF: 3
36. ANS: B DIF: 2
37. ANS: D DIF: 3
38. ANS: B
DIF: 2
39. ANS: B DIF: 2
40. ANS: A DIF: 3
41. ANS: A DIF: 3
42. ANS: B
SOL:
Serving on at least one other issuer's audit committee or disclosure committee of the board of directors is
correct.

Experience on an audit committee or disclosure committee of a board of directors would not enable one to
acquire the attributes of a financial expert. Such experience must be acquired through involvement as a
principal financial officer, principal accounting officer, controller, public accountant, auditor, or one who
actively supervises or assess the performance of one of these financial jobs. Serving on at least one other
issuer's audit committee or disclosure committee is not required.

DIF: 3
43. ANS: C DIF: 2
44. ANS: D

DIF: 2
45. ANS: A DIF: 3
46. ANS: C DIF: 2
47. ANS: C DIF: 3
48. ANS: A DIF: 3
49. ANS: C DIF: 2
50. ANS: B DIF: 2