Question 1

Before expressing an opinion concerning the results of operations, the auditor would most likely proceed with the examination of the income statement by

Accepted Answer

To ensure the accuracy of the income statement, the auditor should examine income statement accounts concurrently with their related balance sheet accounts. This helps to identify any misstatements in the income statement that may be caused by errors in the balance sheet accounts. It also allows the auditor to verify the completeness and accuracy of both financial statements. Options A, B, and C are relevant procedures but would not be the most likely approach to examine the income statement before expressing an opinion.

Question 2

Which of the following is the most important consideration of an auditor when examining the stockholders' equity section of an entity's balance sheet?

Accepted Answer

The most important consideration of an auditor when examining the stockholders' equity section of an entity's balance sheet is to verify that entries in the capital stock account can be traced to a resolution in the minutes of the board of directors' meetings. This confirms that the issuance of stock was approved by the proper authorities. The other options listed are also important considerations for the auditor, but they are not the most important.

Question 3

During the course of an audit, a CPA observes that the recorded interest expense seems to be excessive in relation to the balance in the long-term debt account. This observation could lead the auditor to suspect that

Accepted Answer

If the interest expense is excessive relative to the long-term debt balance, it may indicate that not all long-term debt has been recorded, suggesting that long-term debt is understated.

Question 4

Which of the following transactions is an auditor most likely to examine when auditing the retained earnings account?

Accepted Answer

Retained earnings account represents the accumulated profits of a company that have not been distributed to shareholders. The correction of prior-year errors in depreciation can have a significant impact on the current year's net income and, therefore, affect the balance of retained earnings. Thus, this is the transaction that an auditor is most likely to examine when auditing the retained earnings account. The other transactions listed may affect the current year's net income, but they do not have a direct impact on retained earnings.

Question 5

Which audit procedure is most closely related to management's assertions about the presentation and disclosure of stockholders' equity?

Accepted Answer

Management's presentation and disclosure of stockholders' equity includes assertions about the completeness, existence, rights and obligations, valuation and allocation, and presentation and disclosure of related items. An audit procedure related to this assertion is determining whether any restrictions have been imposed on retained earnings, which involves inspecting legal agreements and board minutes. This helps ensure the completeness and accuracy of the presentation and disclosure of stockholders' equity. Counting treasury stock certificates, inspecting minutes to verify cash dividends, and establishing treasury stock valuation are related to other management assertions about stockholders' equity but are not as directly related to the presentation and disclosure assertion.

Question 6

Two months before year-end, the bookkeeper erroneously recorded the receipt of a long-term bank loan by a debit to cash and a credit to sales. Which of the following is the most effective procedure for detecting this type of error?

Accepted Answer

The answer of Two months before year-end, the bookkeeper erroneously...

Question 7

Give an example of how the audit of income statement accounts could be affected by results of audit work done in other areas of the audit.

Accepted Answer

The answer of Give an example of how the audit...

Question 8

Examining cancelled stock certificates addresses the assertion of

Accepted Answer

Examining cancelled stock certificates is primarily related to the occurrence assertion, which ensures that the recording of transactions reflects actual economic events that occurred and that the company has legal ownership of the assets recorded. Cancelled stock certificates provide evidence that the company has issued and cancelled a certain number of shares, which is an important component of the ownership structure of the company. The other choices, disclosures, valuation, and completeness, are not directly related to examining cancelled stock certificates.

Question 9

Erik Rekdahl, senior-in-charge, is auditing Koonce Katfood, Inc.'s, long-term debt for the year ended December 31. Long-term debt is composed of two bond issues, which are due in 10 and 15 years, respectively. The debt is held by two insurance companies. Rekdahl has examined the bond agreements for each issue. The agreements provide that if Koonce fails to comply with the covenants of the contract, the debt becomes payable immediately. Rekdahl identified the following covenants when reviewing the bond agreements:
"The debtor company shall endeavor to maintain a working capital ratio of 2 to 1 at all times, and in any fiscal year following a failure to maintain said ratio, the company shall restrict compensation of officers to a total of $650,000. Officers include the chairperson of the board and the president."
"The debtor company shall keep all property that is security for these debt agreements insured against loss by fire to the extent of 100 percent of its actual value. Policies of insurance comprising this protection shall be filed with the trustee."
"The company is required to restrict 40 percent of retained earnings from availability for paying dividends."
"A sinking fund shall be established with the First Morgan Bank of Austin, and semiannual payments of $500,000 shall be deposited in the fund. The bank may, at its discretion, purchase bonds from either issue."
a. Provide any audit steps that Rekdahl should conduct to determine if the company is in compliance with the bond indentures.
b. List any reporting requirements that the financial statements or footnotes should include.

Accepted Answer

The answer of Erik Rekdahl, senior-in-charge, is auditing Koonce Katfood,...

Question 10

Identify the three major types of transactions that occur in stockholders' equity.

Accepted Answer

The answer of Identify the three major types of transactions...

Question 11

Overall analysis of income statement accounts may bring to light errors, omissions, and inconsistencies not disclosed in the overall analysis of balance sheet accounts. The income statement analysis can best be accomplished by comparing monthly

Accepted Answer

The best choice for analyzing the income statement is to compare the revenue and expense account totals to the corresponding figures of the preceding years. This will help identify any errors, omissions, or inconsistencies in the income statement. Option A refers to comparing income statement ratios to balance sheet ratios, which may not provide a comprehensive understanding of the income statement. Option B refers to comparing revenue and expense account balances to the monthly reported net income, which may not provide a comparative analysis. Option C refers to comparing income statement ratios to published industry averages which may not be relevant to the company's specific industry or size.

Question 12

You have been assigned the duty of auditing long-term debt and retained earnings for Keys, Inc. Describe the tests you would use to support management's assertions regarding disclosure for these accounts.

Accepted Answer

The answer of You have been assigned the duty of...

Question 13

An audit program for the examination of the retained earnings account should include a step that requires verification of the

Accepted Answer

Verification of the authorization for both cash and stock dividends is essential in an audit program for retained earnings to ensure that dividends are properly declared and approved by the appropriate authority, which directly affects the retained earnings account.

Question 14

For each of the following substantive procedures, first note whether it is a test of details of transactions or a test of details of account balances. Then decide for which assertion the test provides the best evidence.
1. Trace large cash receipts and payments to the source documents and the general ledger.
2. Examine copies of note and bond agreements.
3. Recompute accrued interest payable.
4. Review debt activity for a few days before and after year-end to determine whether transactions are included in the proper period.
5. Examine due dates on notes and bonds for proper classification between current and long term debt.

Accepted Answer

The answer of For each of the following substantive procedures,...

Question 15

Many of Granada Corporation's convertible bond holders have converted their bonds into stock during the year under examination. The independent auditor should review Granada Corporation's statement of cash flows to ascertain that it shows

Accepted Answer

The conversion of bonds into stock is a non-cash transaction and does not affect the cash flow statement directly, so it should not be shown as cash provided or used.

Question 16

In performing tests concerning the granting of stock options, an auditor should

Accepted Answer

In order to ensure the validity and legality of the granting of stock options, an auditor should trace the authorization for the transaction to a vote of the board of directors. This ensures that proper approval was given for the transaction. While the other choices may also be relevant in certain circumstances, they are not as directly related to the granting of stock options as the authorization by the board of directors.

Question 17

Where no independent stock transfer agents are employed and the corporation issues its own stocks and maintains stock records, canceled stock certificates should

Accepted Answer

When the corporation issues its own stocks and maintains stock records, canceled stock certificates should be defaced to prevent reissuance and attached to their corresponding stubs. This ensures that there is no possibility of fraudulent reissuance of canceled stock certificates.

Question 18

Identify the four major assertions made regarding stockholders' equity and describe one control activity for each.

Accepted Answer

The answer of Identify the four major assertions made regarding...

Question 19

Of the following, which is the most important procedure that an auditor should use when making an overall review of the income statement?

Accepted Answer

Comparing actual revenues and expenses with the corresponding figures of the previous year and investigating significant differences is the most important procedure to perform when making an overall review of the income statement. This allows auditors to identify and investigate any potential errors or irregularities that may have occurred in the current year's financial statements. The other options listed are important procedures, but they are not as critical as comparing current year results with prior year results.

Question 20

An audit of stockholders' equity ordinarily should include

Accepted Answer

An audit of stockholders' equity should ensure that dividend declarations comply with debt agreements, as this affects the company's ability to pay dividends and adhere to contractual obligations.

Quiz 15: Auditing the Financing Investing Process: Long-Term Liabilities Stockholders Equity and Income Statement Accounts