Deck 13: Auditing the Inventory Management Process

Question 1

The major control procedure for preventing fictitious inventory transactions from being recorded is proper segregation of duties.

Answer 1

True

Question 2

Which of the following best describes the occurrence assertion for inventory?

A) Purchase requisitions initiated by authorized personnel.
B) Recorded inventory transactions actually happened.
C) Inventory properly accumulated from journals and ledgers.
D) All inventory is recorded.

Answer 2

B

Question 3

When the entity's perpetual inventory master files are inadequate,the auditor will probably choose to test the physical inventory prior to the balance sheet date.

Answer 3

False

Question 4

The auditor's observation of inventory is a generally accepted auditing procedure.

Question 5

Inventory should be valued using the lower-of-cost-or-market rule.

Question 6

The audit test of control "Review and test procedures for issuing materials to manufacturing departments" provides assurance mainly for the occurrence assertion for inventory management.

Question 7

Obsolete inventory should be written down to its current market value.

Question 8

A receiving report records the shipment of goods to customers.

Question 9

Inherent risk is typically assessed at a low to moderate level for inventory due to the nature of the asset.

Question 10

A high inventory turnover ratio normally indicates inefficient inventory policies.

Question 11

Sale of finished goods is a part of the inventory management process.

Question 12

The three components that make up the cost of producing a product include materials,direct labor,and indirect labor.

Question 13

The "cradle-to-grave" cycle for inventory begins when goods are purchased and stored and ends when the finished goods are shipped to customers.

Question 14

Production personnel should ordinarily be responsible for maintaining perpetual inventory records.

Question 15

Shipping orders are forwarded from the revenue process to

A) the materials requisitions department.
B) finished goods stores.
C) raw materials stores.
D) inventory management.

Question 16

Which of the following departments typically approves purchase requisitions?

A) Raw materials stores.
B) Cost accounting.
C) Inventory management.
D) IT.

Question 17

A comparison of the current year's inventory turnover ratio with previous years' may indicate the presence of obsolete inventory.

Question 18

Once the controls in the inventory system have been tested,the auditor sets the level of control risk.

Question 19

An approved purchase requisition form authorizes shipment of goods to customers.

Question 20

In the audit of inventory,the entity is responsible for actually making and recording the count of physical inventory; the auditor's responsibility is to evaluate and observe the entity's procedures and draw conclusions about the adequacy of the physical inventory.

Question 21

The safeguarding of inventory most likely includes

A) comparison of the information contained on the purchase requisitions, purchase orders, receiving reports, and vendors' invoices.
B) periodic reconciliation of detailed inventory records with the actual inventory on hand by taking a physical count.
C) analytical procedures for raw materials, goods in process, and finished goods that identify unusual transactions, theft, and obsolescence.
D) application of established overhead rates on the basis of direct labor hours or direct labor costs.

Question 22

The audit of year-end physical inventories should include steps to verify that the entity's purchases and sales cutoffs were adequate.The audit steps should be designed to detect whether merchandise included in the physical count at year-end was not recorded as a

A) sale in the subsequent period.
B) purchase in the current period.
C) sale in the current period.
D) purchase return in the subsequent period.

Question 23

Key segregations of duties in the inventory management process include all of the following except separating:

A) cost accounting from review of variance reports.
B) inventory management from cost accounting.
C) cost accounting from the general ledger function.
D) supervision of physical inventory from inventory management.

Question 24

Which of the following audit procedures would provide the least reliable evidence that the entity has legal title to inventories?

A) Confirmation of inventories at locations outside the entity's facilities.
B) Analytical review of inventory balances compared to purchasing and sales activities.
C) Observation of physical inventory counts.
D) Examination of paid vendors' invoices.

Question 25

An auditor selected items for test counts while observing an entity's physical inventory.The auditor then traced the test counts to the entity's inventory listing.This procedure most likely provided evidence concerning management's assertion of

A) rights and obligations.
B) completeness.
C) existence.
D) valuation.

Question 26

Which of the following auditing procedures most likely would provide assurance about a manufacturing entity's inventory valuation?

A) Vouching the raw materials' costs to vendors' invoices.
B) Obtaining confirmation of inventories pledged under loan agreements.
C) Reviewing shipping and receiving cutoff activities for inventories.
D) Tracing test counts to the entity's inventory listing.

Question 27

While observing an entity's annual physical inventory,an auditor recorded test counts for several items and noticed that certain test counts were higher than the recorded quantities in the entity's perpetual records.This situation could be the result of the entity's failure to record

A) purchase discounts.
B) purchase returns.
C) sales.
D) sales returns.

Question 28

An auditor has accounted for a sequence of inventory tags and is now going to trace information on a representative number of tags to the physical inventory sheets.The purpose of this procedure is to obtain assurance that

A) the final inventory is valued at cost.
B) all inventory represented by an inventory tag is listed on the inventory sheets.
C) all inventory represented by an inventory tag is bona fide.
D) inventory sheets do not include untagged inventory items.

Question 29

Auditors are most likely to ensure that no production activity is scheduled prior to

A) determining standard costs.
B) observing physical inventory.
C) completing the book to physical adjustment.
D) determining the amount of consigned inventory.

Question 30

In a manufacturing company,which one of the following audit procedures would give the least assurance about the valuation of inventory at the audit date?

A) Testing the computation of standard overhead rates.
B) Examining paid vendors' invoices.
C) Reviewing direct labor rates.
D) Obtaining confirmation of inventories pledged under loan agreements.

Question 31

An auditor will usually trace the details of the test counts made during the observation of the physical inventory count to a final inventory schedule.This audit procedure is undertaken to provide evidence that items physically present and observed by the auditor at the time of the physical inventory count are

A) owned by the entity.
B) not obsolete.
C) physically present at the time of the preparation of the final inventory schedule.
D) included in the final inventory schedule.

Question 32

Which of the following is a plausible explanation for a large increase in the number of days outstanding in inventory?

A) Obsolete inventory.
B) New product line where sales exceed production.
C) Manufacturing overhead was not allocated to the production process.
D) Manufacturing salaries were recorded as administrative expenses.

Question 33

An entity's physical count of inventories was lower than the inventory quantities shown in its perpetual records.This situation could be the result of the failure to record

A) sales.
B) sales returns.
C) purchases.
D) purchase discounts.

Question 34

Which of the following is not a misstatement related to the occurrence assertion for inventory?

A) Consigned goods are included as part of inventory.
B) Unauthorized production activity.
C) Fictitious inventory.
D) Recorded inventory is not on hand because of theft.

Question 35

An entity's physical count of inventories was higher than the inventory quantities per the perpetual records.This situation could be the result of the failure to record

A) sales.
B) sales discounts.
C) purchases.
D) purchase returns.

Question 36

An auditor most likely would make inquiries of production and sales personnel concerning possible obsolete or slow-moving inventory to support management's financial statement assertion of

A) valuation.
B) rights and obligations.
C) existence.
D) completeness.

Question 37

Failure to record inventory in the proper period can affect all of the following accounts except:

A) sales.
B) receivables.
C) cost of Goods Sold.
D) prepaid Expenses.

Question 38

For the purpose of determining proper cutoff for inventory,the auditor will select a sample from which of the following for a few days before and after year-end?

A) Materials requisitions.
B) Production schedules.
C) Receiving documents.
D) Purchase orders.

Question 39

If the perpetual inventory records show lower quantities of inventory than the physical count,an explanation of the difference might be unrecorded

A) sales.
B) sales discounts.
C) purchases.
D) purchase discounts.

Question 40

Which of the following is least likely to be a possible cause of book-to-physical differences in inventory quantities?

A) Inventory cutoff errors.
B) Misapplication of LIFO.
C) Unreported scrap or spoilage.
D) Theft.

Question 41

Tracing costs used to price inventory to vendors' invoices test which of the following assertions?

A) Occurrence.
B) Cutoff.
C) Accuracy.
D) Classification.

Question 42

The physical count of inventory of a retailer was higher than shown in its perpetual records.Which of the following could explain the difference?

A) Inventory items had been counted but tags placed on the items had not been taken off the items and added to the inventory accumulation sheets.
B) Credit memos for several items returned by customers had not been prepared.
C) No journal entry had been made on the retailer's books for several items returned to its suppliers.
D) An item purchased "FOB shipping point" had not arrived at the date of the inventory count and had not been reflected in the perpetual records.

Question 43

Observing an entity's inventory held on consignment by others tests the assertion of

A) existence.
B) completeness.
C) valuation.
D) rights and obligations.

Question 44

When perpetual inventory records are maintained in quantities and in dollars and internal control over inventory is weak,the auditor would probably

A) want the entity to schedule the physical inventory count at the end of the year.
B) insist that the entity perform physical counts of inventory items several times during the year.
C) increase the extent of tests for unrecorded liabilities at the end of the year.
D) have to disclaim an opinion on the income statement for that year.

Question 45

In an audit of inventories,an auditor would least likely verify that

A) all inventory owned by the entity is on hand at the time of the count.
B) the entity has used proper inventory pricing.
C) the financial statement presentation of inventories is appropriate.
D) damaged goods and obsolete items have been properly accounted for.

Question 46

Which of the following is not one of the independent auditor's objectives regarding the examination of inventories?

A) Verifying that inventory counted is owned by the entity.
B) Verifying that the entity has used proper inventory pricing.
C) Ascertaining the physical quantities of inventory on hand.
D) Verifying that all inventory owned by the entity is on hand at the time of the count.

Question 47

When an auditor tests an entity's cost accounting system,the auditor's tests are primarily designed to determine that

A) quantities on hand have been computed based on acceptable cost accounting techniques that reasonably approximate actual quantities on hand.
B) physical inventories are in substantial agreement with book inventories.
C) the system is in accordance with generally accepted accounting principles and is functioning as planned.
D) costs have been properly assigned to work in process, finished goods, and cost of goods sold.

Question 48

An inventory turnover analysis is useful to the auditor because it may detect

A) inadequacies in inventory pricing.
B) methods of avoiding cyclical holding costs.
C) the optimum automatic reorder points.
D) the existence of obsolete merchandise.

Question 49

When outside firms of non-accountants specializing in physical inventory counts are used to count,list,price,and subsequently compute the total dollar amount of inventory on hand at the date of the physical count,the auditor will ordinarily

A) consider the report of the outside inventory firm to be an acceptable alternative procedure to the observation of physical inventories.
B) make or observe some physical counts of the inventory, recompute certain inventory calculations, and test certain inventory transactions.
C) increase the extent of work on the physical count of inventory.
D) consider the reduced audit effort with respect to the physical count of inventory as a scope limitation.

Question 50

To gain assurance that all inventory items in an entity's inventory listing schedule are valid,an auditor most likely would trace

A) inventory tags noted during the auditor's observation to items listed in the inventory listing schedule.
B) inventory tags noted during the auditor's observation to items listed in receiving reports and vendors' invoices.
C) items listed in the inventory listing schedule to inventory tags and the count sheets.
D) items listed in receiving reports and vendors' invoices to the inventory listing schedule.

Question 51

Which one of the following procedures would not be appropriate for an auditor in discharging his or her responsibilities concerning the entity's physical inventories?

A) Confirmation of goods in the hands of public warehouses.
B) Supervising the annual physical inventory count.
C) Carrying out physical inventory procedures at an interim date.
D) Obtaining written representation from the entity as to the existence, quality, and dollar amount of the inventory.

Question 52

The element of the audit planning process most likely to be agreed upon with the entity before implementation of the audit strategy is the determination of the

A) evidence to be gathered to provide a sufficient basis for the auditor's opinion.
B) procedures to be undertaken to discover litigation, claims, and assessments.
C) pending legal matters to be included in the inquiry of the entity's attorney.
D) timing of inventory observation procedures to be performed.

Question 53

The auditor tests the quantity of materials charged to work in process by tracing these quantities to

A) cost ledgers.
B) perpetual inventory records.
C) receiving reports.
D) material requisitions.

Question 54

Purchase cutoff activities should be designed to test that merchandise is included in the inventory of the entity company if the company

A) has paid for the merchandise.
B) has physical possession of the merchandise.
C) holds legal title to the merchandise.
D) holds the shipping documents for the merchandise issued in the company's name.

Question 55

Which of the following control activities would most likely be used to maintain accurate perpetual inventory records?

A) Independent storeroom count of goods received.
B) Periodic independent reconciliation of control and subsidiary records.
C) Periodic independent comparison of records with goods on hands.
D) Independent matching of purchase orders, receiving reports, and vendors' invoices.

Question 56

For several years,an entity's physical inventory count has been lower than what was shown on the books at the time of the count so that downward adjustments to the inventory account were required.Contributing to the inventory problem could be weaknesses in internal controls that led to the failure to record some

A) purchases returned to vendors.
B) sales returns received.
C) sales discounts allowed.
D) cash purchases.

Question 57

In obtaining an understanding of a manufacturing entity's internal control concerning inventory balances,an auditor most likely would

A) review the entity's description of inventory policies and procedures.
B) perform test counts of inventory during the entity's physical count.
C) analyze inventory turnover statistics to identify slow-moving and obsolete items.
D) analyze monthly production reports to identify variances and unusual transactions.

Question 58

An entity maintains perpetual inventory records in both quantities and dollars.If the assessed level of control risk is high,an auditor would probably

A) increase the extent of tests of controls for the inventory cycle.
B) request that the entity schedule the physical inventory count at the end of the year.
C) insist that the entity perform physical counts of inventory items several times during the year.
D) apply gross profit tests to ascertain the reasonableness of the physical counts.

Question 59

Which of the following is the best audit procedure for the discovery of damaged merchandise in an entity's ending inventory?

A) Compare the physical quantities of slow-moving items with corresponding quantities of the prior year.
B) Observe the condition of merchandise and raw materials during the entity's physical inventory count.
C) Review the management's inventory representation letter for accuracy.
D) Test overall fairness of inventory values by comparing the company's turnover ratio with the industry average.

Question 60

An auditor generally tests physical security controls over inventory by

A) test counts and cutoff procedures.
B) examination and reconciliation.
C) inspection and recomputation.
D) inquiry and observation.

Question 61

The audit of inventory is often the most involved aspect of an audit.Describe at least three inherent risk factors that affect the audit of inventory.

Question 62

An auditor concluded that no excessive costs for an idle plant were charged to inventory.This conclusion most likely related to the auditor's objective to obtain evidence about the financial statement assertions regarding inventory,including presentation and disclosure,and

A) valuation and allocation.
B) completeness.
C) existence.
D) rights and obligations.

Question 63

State the six functions that make up the inventory management process.For each function,identify the related documents and/or records that would be used by a manufacturing company.

Question 64

We know from cost accounting that there are three components that make up the standard costs for inventory.Explain how an auditor could test each of these components for a company that manufactures pillows.

Question 65

Which assertion for ending inventory is most likely violated if the gross profit percentage is much greater than last year?

A) Existence.
B) Completeness.
C) Rights and obligations.
D) Valuation and allocation.

Question 66

The audit of the inventory management process is affected by the audit results from multiple other processes.Identify the processes,other than the inventory management process,that affect the audit of inventory and explain how each affect the audit of inventory.

Question 67

Explain the importance of observing physical inventory during an audit.

Question 68

Which of the following is a question that the auditor would expect to find on the production process section of an internal control questionnaire?

A) Are vendors' invoices for raw materials approved for payment by an employee who is independent of the cash disbursements function?
B) Are signed checks for the purchase of raw materials mailed directly after signing without being returned to the person who authorized the invoice processing?
C) Are all releases by storekeepers of raw materials from storage based on approved requisition documents?
D) Are details of individual disbursements for raw materials balanced with the total to be posted to the appropriate general ledger account?

Question 69

The accuracy of perpetual inventory records may be established,in part,by comparing perpetual inventory records with

A) purchase requisitions.
B) receiving reports.
C) purchase orders.
D) vendor payments.

Question 70

List five things an auditor should do during the observation of the physical count of inventory.

Question 71

In order to efficiently establish the correctness of the accounts payable cutoff,an auditor will be most likely to

A) coordinate cutoff tests with physical inventory observation.
B) compare cutoff reports with purchase orders.
C) compare vendors' invoices with vendors' statements.
D) coordinate mailing of confirmations with cutoff tests.

Question 72

For each of the following,state whether it is a test of details of account balances or a test of details of disclosures.Then note for which assertion the test provides evidence.
1.Inspect loan agreements under which an entity's inventories are pledged.
2.Review inventory compilation for proper classification among raw materials,work in process,and finished goods.
3.Observe the count of physical inventory.
4.Trace test counts and tag control information to the inventory compilation.
5.Inquire of management about issues related to LIFO liquidations.
6.Review book-to-physical adjustments for possible misstatements.

Question 73

You are auditing SBT,which has a December 31^st year-end.On December 24^th,the person responsible for processing receiving reports and recording the receipt of inventory became very ill and was out of the office for a week.Due to the company's small staff and the holiday season,a number of the receiving reports were not processed on a timely basis.As an auditor,on which assertion would you place a high importance for this entity and how would you test for it?