Deck 13: Auditing Debt Obligations and Stockholders Equity Transactions

Question 1

Existence is the most relevant assertion associated with an inherent risk for treasury stock transactions recorded in the wrong period.

Answer 1

False

Question 2

Completeness is the most relevant assertion associated with an inherent risk for dividends that are recorded and paid before being declared.

Answer 2

False

Question 3

Relevant accounts when auditing stockholders' equity include leasehold improvements.

Answer 3

False

Question 4

Valuation is the most relevant assertion associated with an inherent risk for the cost of treasury stock that is subsequently retired and not properly allocated among the appropriate accounts.

Question 5

An organization typically has many debt transactions during the year, with each individual transaction being material.

Question 6

A potential fraud risk associated with debt obligations is the intentional misclassification of short-term debt as long-term debt.

Question 7

A bond premium/discount amortization spreadsheet can be used to help assure that the bond is appropriately valued and disclosed in the financial statements.

Question 8

If an auditor discovers that a company intentionally applied loan payments to interest rather than principal, this would result in fraudulent overstatement of income.

Question 9

Typically, the most relevant assertion related to debt obligations is existence.

Question 10

The potential dilutive effect of convertible debt or preferred stock, stock options, and warrants should be disclosed in accordance with relevant accounting guidance in computing primary and fully diluted earnings per share.

Question 11

The auditor is primarily concerned with overstatement when auditing bonds.

Question 12

Presentation and disclosure is the most relevant audit assertion associated with the inherent risk of using inaccurate periods of service for stock options.

Question 13

Inherent risks related to debt obligations primarily concern the authorization of debt, receipt of funds, recording debt transactions, and compliance with any debt covenants.

Question 14

Bonds are issued to finance major expansions or to refinance existing debt.

Question 15

Once the auditor has obtained an understanding of the inherent and fraud risks of material misstatement associated with debt obligations and stockholders' equity transactions, the auditor needs to understand the controls that the client has designed and implemented to address those risks.

Question 16

Rights/obligations is the most relevant audit assertion associated with an inherent risk for finding stock options or warrants being granted without being properly approved.

Question 17

As part of brainstorming activities, the auditor might identify possible fraudulent transactions related to stockholders' equity accounts that are the result of charging expenses directly to retained earnings rather than to the appropriate expense accounts.

Question 18

Valuation is a relevant assertion when auditing premiums or discounts on bonds.

Question 19

When an auditor is investigating the inherent risk associated with stock issuances/sales that are recorded in the wrong period, the auditor is most likely assessing the risks of material misstatements associated with the existence assertion.

Question 20

Auditing standards require the auditor to identify and assess the risks of material misstatement due to fraud at the financial statement level only.

Question 21

Using substantive procedures to test debt obligations is most appropriate because there are a relatively large number of transactions involving immaterial dollar amounts.

Question 22

Typically, when determining the appropriate audit procedures to perform for debt accounts, the auditor will usually decide to test debt obligations, including interest, using only substantive procedures.

Question 23

If preliminary analytical procedures do not identify any unexpected relationships related to debt obligations, the auditor would conclude that there is not a heightened risk of material misstatements in these accounts.

Question 24

Trend analyses are typically used as preliminary analytical procedures related to debt obligations.

Question 25

When planning the audit related to stockholders' equity transactions, the auditor is not required to perform preliminary analytical procedures.

Question 26

The transactions in the stockholders' equity accounts are typically tested using a statistical sampling approach.

Question 27

When identifying and assessing control risks of material misstatement associated with debt obligations and stockholders' equity transactions, documentation is only required for integrated audits, not financial statement only audits.

Question 28

Confirmations are not substantive procedure designed to obtain evidence on the completeness of debt obligations.

Question 29

For financial statement audit purposes, when auditing debt obligations and stockholders' equity transactions, the auditor will most likely perform a substantive audit, and therefore will not perform tests of controls for the debt and equity accounts.

Question 30

For integrated audits, a typical test of controls may include an inquiry of personnel performing the control.

Question 31

When obtaining evidence about internal control operating effectiveness, the auditor will select only entity-wide controls for testing.

Question 32

If the auditor identifies control deficiencies, the auditor will not need to judge the severity of the deficiencies but instead would consult management about the need for a fraud audit.

Question 33

When planning the audit related to debt obligations, the auditor should not have expectations as to the nature and magnitude of any account balance changes because they might bias the outcome of the audit.

Question 34

If there were unusual or unexpected relationships, the planned audit procedures (tests of controls, substantive procedures) would be adjusted to address the potential material misstatements.

Question 35

For both debt accounts and stockholders' equity accounts, the boxes of evidence would typically be filled only with evidence obtained through substantive procedures.

Question 36

A substantive approach using only tests of controls is most commonly used to audit equity accounts.

Question 37

When documenting controls, the auditor can provide this documentation in various formats including a control matrix, a control risk assessment questionnaire, and/or a memo.

Question 38

A typical control for stockholders' equity transactions is for the board of directors to approve all stock transactions (including options and warrants).

Question 39

Stockholders' equity accounts will be tested with only substantive analytical procedures.

Question 40

Normally, an auditor can gain an understanding of internal controls by means of a walkthrough of the process, inquiry, observation, and review of the client's documentation.

Question 41

In auditing equity accounts, the auditor primarily focuses on which of the following two assertions?

A) Valuation and completeness.
B) Valuation and existence.
C) Presentation and disclosure and valuation.
D) Presentation and disclosure and completeness.

Question 42

Which assertion is generally the most relevant when auditing the restrictions contained in debt obligations?

A) Completeness.
B) Valuation.
C) Proper presentation and disclosure.
D) Existence.

Question 43

Which of the following is not a common transaction affecting stockholders' equity?

A) The purchase of treasury stock.
B) The declaration and payment of dividends.
C) The exercises and expirations of stock options and warrants.
D) Bond amortization.

Question 44

Which of the following is not a common debt covenant restriction?

A) Maintenance of a minimum level of retained earnings before dividends can be paid.
B) Maintenance of a minimum working-capital ratio.
C) Specification of a maximum debt-equity ratio.
D) Specification of a minimum earnings per share.

Question 45

How are most bonds marketed?

A) Through the board of directors.
B) Through an underwriter.
C) Through auditors.
D) Through employees.

Question 46

When auditing the gains or losses on refinancing debt, the auditor primarily focuses on which assertion?

A) Completeness.
B) Existence.
C) Valuation.
D) Presentation and disclosure.

Question 47

If the auditor identifies a risk of material misstatement due to fraud related to debt obligations or stockholders' equity accounts, the auditor needs to determine the appropriate responses, potentially including changing the nature, timing, and extent of audit procedures.

Question 48

Which of the following results in a situation where an auditor has the least amount of difficulty in determining stock valuation?

A) When stock is issued for land.
B) When stock is exchanged for another business.
C) When stock options are issued and exercises occur.
D) When stock is issued for cash.

Question 49

For additions to debt, the auditor traces the proceeds into the cash receipts records and the bank statement.

Question 50

When performing a substantive analytical procedure related to interest expense, the auditor will likely not test the client's internal controls.

Question 51

Which of the following statements about bonds is false?

A) They may be issued to finance major expansions.
B) They may be issued to refinance existing debt.
C) They account for many of the organization's transactions.
D) They are generally highly material to the financial statements.

Question 52

When auditing debt and equity transactions, the auditor should be skeptical, and therefore alert to the possibility, that management is managing earnings by not appropriately recording expenses, such as charging expenses directly to retained earnings or under-recording interest expense.

Question 53

A starting point for substantive tests of details on debt obligations is to have the client provide a cash flow statement.

Question 54

Which of the following is not typically included in the audit of debt obligations?

A) Interest expense.
B) Interest income.
C) Notes payable.
D) Bonds payable.

Question 55

How would an auditor generally measure the value of a stock option expense?

A) Fair value.
B) Appraised value
C) By computing a weighted average value of all classes of stock authorized.
D) All of these methods can be used.

Question 56

As a starting point for testing capital stock and equity transactions, the auditor should review a copy of the client's articles of incorporation.

Question 57

If interest expense recorded by the client is significantly lower than the auditor's expectation, it may mean that interest payments have not been properly recorded, possibly having been charged to principal.

Question 58

Which of the following is not a relevant account when auditing stockholders' equity?

A) Treasury stock.
B) Dividends.
C) Sinking fund for plant expansion.
D) Retained earnings.

Question 59

To determine whether notes have been paid in full, the auditor would obtain the most appropriate evidence by examining the board of directors meeting minutes.

Question 60

Which of the following is the auditor's primary objective when auditing debt obligations?

A) Understatement of the debt obligation focusing on the completeness assertion.
B) Proper valuation of bond premiums or bond discounts, including amortization valuation.
C) Valuation of gains or losses on refinancing debt.
D) Proper presentation and disclosure, including important restrictions contained in the debt obligations.

Question 61

When auditing the premium or discount on bonds (including amortization), the auditor primarily focuses on which assertion?

A) Existence.
B) Completeness.
C) Presentation and disclosure
D) Valuation.

Question 62

Which of the following does an auditor consider when gaining an overall understanding of the client's internal controls?

A) Entity-wide controls at the account level only.
B) Transaction controls at the account level only.
C) Entity-wide controls at the assertion level only.
D) Both entity-wide controls and transaction controls at the account and assertion levels.

Question 63

Which of the following is not an inherent risk typically associated with recording debt transactions?

A) Interest expense not being properly recorded.
B) Failure to accrue interest expense.
C) Debt not being properly classified.
D) Debt not being properly authorized.

Question 64

Which of the following statements is true regarding the identification and assessment of the risks of material misstatements by the auditor?

A) Auditing standards require the auditor to identify and assess the risks of material misstatement due to fraud at the financial statement level.
B) Auditing standards require the auditor to identify and assess the risks of material misstatement due to fraud at the assertion level.
C) As part of brainstorming activities, the auditor should identify possible frauds that could occur.
D) All of these statements are true.

Question 65

Which of the following is not a potential fraud related to debt obligations?

A) Long-term or short-term debt is misclassified.
B) Entire loan payments are charged to either principal or interest.
C) Dividends are paid in violation of restrictive covenants.
D) Debt obligations are not properly authorized.

Question 66

An auditor determines that there is an inherent risk that all stock repurchased is not recorded as treasury stock. This determination is most likely tied to which of the following management assertions?

A) Completeness.
B) Presentation and disclosure.
C) Valuation.
D) Existence.

Question 67

Which of the following would an auditor not typically perform as part of gaining an understanding of the client's controls related to debt obligations?

A) Review policies related to approval required for new debt.
B) Inquire of management about the process for reviewing compliance with debt covenants.
C) Review the client's documentation of controls.
D) Recalculate interest expense.

Question 68

Which of the following is not a potential fraud related to stockholders' equity accounts?

A) Stock sales or issuances are not authorized.
B) Entire loan payments are charged to either principal or interest.
C) Dividends are paid in violation of restrictive covenants.
D) Stock options are back-dated.

Question 69

Which of the following are entity-wide components of internal control that can mitigate the risk material misstatement related to debt obligations?

A) Risk assessment.
B) Information and communication.
C) Monitoring controls.
D) All of these are entity-wide components of internal control.

Question 70

What type of risk is intentional failure by management to accurately disclose violations of debt covenants?

A) Inherent risk
B) Fraud risk
C) Control risk
D) Detection risk.

Question 71

An auditor determines that there is an inherent risk that stock options exercised or expired remain on the organization's books. This determination is most likely tied to which of the following management assertions?

A) Valuation.
B) Presentation and disclosure.
C) Rights and obligations.
D) Existence.

Question 72

Which of the following would a bond indenture not provide information about?

A) The time period before repayment.
B) Whether the bond is convertible.
C) Whether the bond is callable.
D) The date the bond will be called.

Question 73

In general, which of the following would an auditor not typically perform as part of gaining an understanding of the client's controls?

A) A walkthrough of the process.
B) Inquiry.
C) Observation.
D) All of these are used to gain an understanding of the controls.

Question 74

Which of the following would the auditor consider as part of the control environment related to debt obligations?

A) Inquiry of trustee regarding the registration of current bondholders and distribution of interest payments.
B) Recalculation of the underwriter's commission.
C) Independence of the board of directors with respect to long-term financing.
D) Inspection of documentation to confirm refinancing of debt.

Question 75

Which of the following would not typically be included as part of the balance sheet disclosures related to stockholders' equity?

A) Accumulated other comprehensive income
B) Details on stock repurchases
C) Price/earnings ratios for stock
D) Prior period adjustments to retained earnings

Question 76

Which of the following is not an inherent risk typically associated with the existence of dividends?

A) Dividends are recorded in the wrong period.
B) Dividends are recorded before declared.
C) Dividends are not properly amortized.
D) Dividends have not been approved before being declared.

Question 77

The inherent risk of proceeds from stock sales not being received is most likely related to which of the following management assertions?

A) Completeness.
B) Presentation and disclosure.
C) Valuation.
D) Existence.

Question 78

Which of the following is not an inherent risk typically associated with debt covenant compliance issues?

A) Whether debt covenants are calculated accurately.
B) Whether debt payment transactions are properly initiated.
C) Whether compliance with debt covenants is appropriately disclosed.
D) Whether compliance with debt covenants is appropriately reviewed.

Question 79

An auditor determines that there is an inherent risk that a company has not included both the basic earnings per share and diluted earnings per share amounts in financial statements even though significant dilutive securities are part of the company's complex capital structure. This determination is most likely tied to which of the following management assertions?

A) Valuation.
B) Presentation and disclosure.
C) Rights and obligations.
D) Existence.

Question 80

An auditor determines that there is an inherent risk that dividends may be recorded and paid before being declared. This determination is most likely tied to which of the following management assertions?

A) Completeness.
B) Presentation and disclosure.
C) Valuation.
D) Existence.