Deck 9: Auditing the Revenue Cycle

Question 1

A consistent pattern of earnings growth would eliminate the auditor's concern for fraud in revenue recognition.

Answer 1

False

Question 2

Ratio analysis performed by the audit team may include the comparison of gross profit percentage to industry averages.

Answer 2

True

Question 3

Formal procedures for approving acceptance of returns that are beyond the warranty period are an appropriate control procedure for identifying and recording returned goods.

Answer 3

True

Question 4

A tendency for fraud may exist when the granting of stock options is dependent on reaching an earnings goal.

Question 5

An attitude of professional skepticism by the auditor is not needed when internal controls over revenue have been tested and found to be effective.

Question 6

The auditor should be alert to the risk of material misstatements when cash flows from operations are negative and net income (rather than loss) is reported.

Question 7

A company that ships a large quantity of its products from its manufacturing plant to a warehouse that it leases until the customer is ready for the product should record the delivery as revenue.

Question 8

The shipping department confirms the shipment of goods by completing the packing slip and returning it to the purchasing department.

Question 9

A comprehensive chart of accounts and a review of complex or unusual transactions by supervisory personnel are control procedures necessary for proper classification of accounts.

Question 10

The revenue cycle involves the procedures in generating a sales order, shipping the products, recording the transaction and collecting the receivable.

Question 11

The use of prenumbered sales invoices is the primary control procedure to satisfy the objective of authorization.

Question 12

The intentional loading of sales at the end of a period to customers that do not need the goods at that time should not be recorded as revenues.

Question 13

An appropriate mix of evidence for a low risk client could include 20% tests of details, 40% analytics, and 40% tests of controls; an appropriate mix of evidence for a high risk client could include 60% tests of details, 20% analytics, and 20% tests of controls.

Question 14

Invoices are processed, including their mailing to customers, only subsequent to proof of valid delivery to customers.

Question 15

The audit team is required by auditing standards to make an ordinary presumption of the risk of fraud due to revenue misstatements on every engagement.

Question 16

One of the benefits of establishing a formal credit policy for granting credit is that management is freed from the burden of monitoring accounts receivable.

Question 17

The basic concept for revenue recognition is the realization of cash.

Question 18

Monthly statements provide a detailed list of the customer's activity for the previous month and a statement of all open items.

Question 19

The revenue cycle considered by auditors includes the sales process but not collections.

Question 20

For many clients, the valuation assertion is the most significant assertion in testing revenue.

Question 21

Confirmations of bank accounts may help the auditor to determine if material amounts of accounts receivable have been sold to the bank on a recourse basis.

Question 22

The auditor's determination that day's sales in accounts receivable increased from 44 days to 100 days would usually be found through the use of ratio analysis.

Question 23

If control risk is assessed high, the auditor may send significantly fewer confirmations for a sample of accounts receivable than if the control risk is assessed low.

Question 24

The auditor has determined that the control risk for the existence assertion is low; therefore the auditor may reduce the number of items tested on a substantive basis.

Question 25

An auditor would test control over the objective of the occurrence of sales transactions by sampling recorded revenues and tracing them back to invoices and shipping documents.

Question 26

Use of reasonableness tests by Bono Mullins, PC will include relationships between financial but not non-financial datA.

Question 27

Positive accounts receivable confirmations should be used on all accounts which represent small immaterial balances.

Question 28

Lapping of accounts receivable is least likely to occur when there is an inadequate segregation of duties.

Question 29

The auditor would examine a sample of sales transactions throughout the entire period to determine if sales were recorded in the proper period when performing a sales cutoff test.

Question 30

Alternative procedures to the confirmation of receivables include review of subsequent collections and examination of supporting evidence.

Question 31

A method of testing for the completeness of sales is to test the sequence of sales invoices used during the period under audit.

Question 32

In planning an audit for the revenue cycle, the auditor must realize the integrated relationship of evidence found between the accounts receivable and the notes payable accounts.

Question 33

An example of a control over the sales cycle is the authorization of price lists by the appropriate sales and marketing manager.

Question 34

When the client has a large number of relatively small accounts receivable and the assessed level of control risk for receivables and related revenue transactions is high, the auditor is more likely to use negative confirmations.

Question 35

Current auditing standards do not require the confirmation of receivables if accounts receivable are not material.

Question 36

Material debit balances in accounts payable for amounts due from vendors should be reclassified as accounts receivable.

Question 37

When the auditor seeks evidence concerning the allowance for doubtful accounts he or she would most likely use an aged trial balance to help identify past due balances.

Question 38

Accounts receivable confirmation letters should be prepared on the auditing firm's letterhead.

Question 39

Edge and Gregg, LLP would most likely discover a client's first-time use of channel stuffing through the use of trend analysis.

Question 40

The use of audit software makes the audit of the revenue cycle more effective, but not more efficient.

Question 41

A timing difference type of exception in the confirmation process may include a misunderstanding by the reader as to the date being confirmed.

Question 42

An auditor's primary concern with identifying related party sales and receivables rests with the presentation and disclosure assertion.

Question 43

Credit approval policies are implemented by organizations primarily to accomplish which of the following objectives?

A) To determine revenue recognition policies.
B) To ensure customer satisfaction.
C) To prevent lapping by the accounts receivable department.
D) To ensure the realization of receivables.

Question 44

The audit team typically reviews journal entries in the receivables ledger for unusual entries that may be indicators of fraudulent activity.

Question 45

An aging of accounts receivable is useful in estimating the reasonableness of the allowance for doubtful accounts.

Question 46

Negative confirmations are considered to be more persuasive than positive confirmations.

Question 47

Which of the following is the best example of the control objective in the revenue cycle that all transactions are recorded accurately?

A) Sales are recorded at the invoice price expected to be collected from customers.
B) Sales orders have sequential numbering.
C) Recorded sales transactions are evidenced by valid invoices and shipping documents.
D) Credits to customer accounts are classified as liabilities.

Question 48

Valid evidence obtained in an audit for testing the cutoff of gross sales includes receiving reports for returned merchandise.

Question 49

Exceptions found in the confirmations of accounts receivable balances need not be projected as errors to the population as they are typically isolated errors.

Question 50

Estimation of the allowance for doubtful accounts is a simple management decision as it is determined as a percentage of sales.

Question 51

Customer complaints noted in returned accounts receivable confirmations may be an indicator of fraud.

Question 52

Which of the following processes are included in the revenue cycle?

A) Shipping products to customers.
B) Sending disbursements to suppliers.
C) Issuance of capital stock.
D) Preparation of a time card.

Question 53

The auditor will come up with an independent estimation of the allowance for doubtful accounts based on a thorough understanding of the client and the client's business that is compared to the recorded allowance.

Question 54

The purpose of summarizing confirmation results is to list the extent of sales tested in relation to the response rate.

Question 55

Which of the following is a formal document that conveys responsibility for shipped merchandise to the shipper?

A) Sales invoice
B) Receiving report
C) Bill of Lading
D) Purchase order

Question 56

It is beneficial in the testing of notes receivable to confirm not only the balance of the notes, but also their terms.

Question 57

Testing cutoff involves procedures applied to sales transactions selected from those recorded immediately prior to period end and immediately following period end.

Question 58

The most important control to ensure completeness of sales and shipping is pre-numbered shipping and billing documents.

Question 59

Negative confirmations are more expensive to administer than positive confirmations because of the added costs of investigating non-responses.

Question 60

An example of a test for completeness in the revenue cycle includes the sampling of shipping documents and tracing them to the sales journal and general ledger.

Question 61

A cross-sectional analysis of revenue recorded across multiple sales location is a form of what type of testing?

A) Trend analysis
B) Common size analysis
C) Ratio analysis
D) Regression analysis

Question 62

A control that may be implemented to ensure all sales that occur are recorded in the general ledger includes which of the following?

A) Use of prenumbered shipping, invoice and sales documents.
B) Use of prenumbered statements, inventory lists and credit memos.
C) Reconciliation of invoices with customer statements.
D) Use of pre-authorized price lists.

Question 63

Auditors will examine significant sales returns immediately subsequent to the period under audit in order to do which of the following?

A) Substantiate cutoff and the occurrence of net sales transactions.
B) Test the sufficiency of cash balances to cover refunds.
C) Monitor customer satisfaction for disclosure.
D) Assess the nature of procedures that will be performed for the next period's audit.

Question 64

The major risk associated with receivables is related to which of the following?

A) They may be sold to a bank with recourse.
B) They may be recorded as long-term when in fact they will be realized in the current period.
C) They will not be realized for the entire amount due.
D) They are pledged as collateral as disclosed in the footnotes to financial statements.

Question 65

The auditor of the revenue cycle of ABC Company computes an estimate of ABC's allowance for doubtful accounts and compares it to the estimate provided by ABC's management. The purpose for this procedure is to substantiate which assertion?

A) Existence of receivables.
B) Cutoff of receivables.
C) Valuation of receivables.
D) Rights to receivables.

Question 66

In an audit of financial statements, the risk of the high rate of return of products sold includes relates to which of the following?

A) Sales that are recorded improperly.
B) An estimate of accrued returns that reduces net income.
C) A reduction of net sales for an increase to the sales returns and allowance account.
D) Consignment goods that are returned and forwarded to third parties.

Question 67

Which of the following evidences delivery of product to customers sufficient for company recording as revenues?

A) A check received from the customer.
B) An agreement to purchase product signed by the customer.
C) A pick ticket in the warehouse.
D) A bill of lading and tracking number with the shipper.

Question 68

The risk of material misstatement due to fraud relating to revenue recognition should be

A) approached in a manner that is identical to control risk assessment.
B) given lower priority to the risk of embezzlement.
C) ordinarily presumed by the auditor.
D) assumed to have been considered by the FASB.

Question 69

Sales transactions should be documented at initiation in order to accomplish which of the following objectives?

A) To provide the customer a copy of the transaction.
B) To provide evidence of authorization and recording.
C) To offer credit to customers.
D) To generate back orders.

Question 70

Which of the following must exist prior to the recognition of revenue by a company from the sale of a product?

A) The cash is realized on the sale of the product.
B) A price is discussed based upon the customer's resale of the product.
C) The customer is given the option to return the product at any time.
D) The product is adequately delivered to the customer.

Question 71

What evidence is utilized by the auditor for analytical purposes in substantiating the completeness of the allowance for bad debt estimate?

A) Accounts receivable aging schedule.
B) Copies of checks received from customers.
C) Confirmations returned without exception.
D) Stock prices of customer companies.

Question 72

Lithgow and Harris, CPAs are performing the audit of WildFlower Grocery Stores. Lithgow and Harris relates annual revenue by sales per square feet and sales per customer. What type of analysis is Lithgow and Harris most likely performing?

A) Ratio analysis.
B) Critical analysis.
C) Reasonableness tests.
D) Non-statistical analysis.

Question 73

Fraud related to revenue recognition will most likely be identified by the auditor through which of the following independent situations?

A) Sales have increased 5% in the current period over the previous period and is consistent with the results of competitors.
B) Gross margin is equivalent in the current period to previous periods and is below that of the industry.
C) Sales are higher in the month preceding each quarter end.
D) The sales of a revolutionary new product are increasing beyond that of the competition in the periods immediately following its introduction.

Question 74

The internal audit department at Monument Company receives electronic exceptions reports for all sales transactions entered over $10,000 in total. This process is performed for which purpose?

A) Drafting financial statements.
B) Monitoring revenue transactions.
C) Providing management reports to the controller.
D) Providing suggestions for operational improvement.

Question 75

A method used by companies to fraudulently inflate revenues includes which of the following?

A) Use of hidden "side letters" giving the customer an irrevocable right to return the product.
B) Recording of fictitious sales.
C) Shipment of product not ordered by customers.
D) All of the above.

Question 76

The significance of the bill of lading is to provide which of the following?

A) The warehouse personnel with the product that must be shipped to customers.
B) Invoices to customers for proper collection.
C) A credit application for customer approval.
D) Evidence of title transfer of goods to customers.

Question 77

Which of the following is a proper control for the detection of unusual sales transactions recorded in the general ledger?

A) Electronic authorization prior to posting.
B) Use of sequentially numbered sales documents.
C) Random statements to customers.
D) Review of transactions by upper management or the board.

Question 78

Much of the understanding of revenue transactions for compliance with GAAP can be performed by accomplishing which of the following tasks?

A) Examining sales contracts and inquiry of management.
B) Confirming sales with customers.
C) Discussing the transactions with qualified members of the Financial Accounting Standards Board.
D) Comparing shipping documents with invoices.

Question 79

The auditor traces recorded sales to invoices, sales orders and shipping documents in order to substantiate which assertion?

A) Cutoff.
B) Completeness.
C) Legality.
D) Occurrence.

Question 80

Calculating the turnover of receivables is often used in testing the sales cycle by auditors when performing which of the following?

A) Trend analysis.
B) Ratio analysis.
C) Reasonableness testing.
D) Non-statistical sampling.