Certified Public Accountant CPA Questions + Answers Part 35

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Certified Public Accountant CPA Questions + Answers Part 35

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QUESTION 3
Which of the following circumstances most likely would cause an auditor to suspect that material misstatements exist in a client's financial statements?
A. Theassumptionsusedindevelopingtheprioryear'saccountingestimateshavechanged.
B. Differencesbetweenreconciliationsofcontrolaccountsandsubsidiaryrecordsarenotinvestigated. C. Negative confirmation requests yield fewer responses than in the prior year's audit.
D. Management consults with another CPA firm about complex accounting matters.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. If control accounts in the general ledger do not reconcile to the subsidiary ledgers, there may be a problem in the way transactions were recorded and posteD. Failure to investigate such differences implies that, if such a problem exists, it has not been identified and corrected. The auditor would therefore suspect that material misstatements exist in the client's financial statements.
Choice "a" is incorrect. The assumptions used in developing accounting estimates generally do change as new information becomes available or as situations or conditions change. This would not necessarily indicate that a material misstatement exists.
Choice "c" is incorrect. Since responses to negative confirmations are only received when there are discrepancies, a lower response rate likely would be indicative of fewer problems with accounts receivable. This corresponds to a reduced likelihood of material misstatement. Choice "d" is incorrect. Management's consultation with another CPA firm about complex accounting matters indicates proactive steps on the part of management to accurately address those matters. Material misstatements with respect to the complex accounting matters therefore would be less likely to exist.
QUESTION 4
To be effective, analytical procedures in the overall review stage of an audit engagement should be performed by:
A. Thestaffaccountantwhoperformedthesubstantiveauditingprocedures.
B. Themanagingpartnerwhohasresponsibilityforallauditengagementsatthatpracticeoffice.
C. A manager or partner who has a comprehensive knowledge of the client's business and industry.
D. The CPA firm's quality control manager or partner who has responsibility for the firm's peer review program.

Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The manager and partner on a specific job generally bear a great deal of responsibility for the audit and the report. Typically they would perform analytical procedures during the final review stage, to evaluate overall financial statement presentation and to assess the conclusions reached. In order to evaluate the results of the analysis and to perform an effective review, the manager or partner should have a comprehensive knowledge of the client's business and the industry. Choice "a" is incorrect. It is more effective to have a manager or partner perform this review rather than a staff accountant, because the manager or partner is generally more experienced and knowledgeable, and because it provides a double check on the work of the staff accountant. Choices "b" and "d" are incorrect. The managing partner and the quality control manager or partner might not have a comprehensive knowledge of the client's business and industry.
QUESTION 5
Analytical procedures performed in the overall review stage of an audit suggest that several accounts have unexpected relationships. The results of these procedures most likely would indicate that:

A. Irregularitiesexistamongtherelevantaccountbalances.
B. Internalcontrolactivitiesarenotoperatingeffectively.
C. Additional tests of details are required.
D. The communication with those charged with governance should be revised.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. If analytical procedures suggest unexpected relationships, the auditor would perform additional tests of details of the accounts involved.

Choice "a" is incorrect. The identification of unexpected relationships as a result of analytical procedures does not necessarily mean that irregularities exist in the relevant account balances, although this is a possible Explanation: .
Choice "b" is incorrect. The identification of unexpected relationships as a result of analytical procedures does not necessarily mean that internal control activities are not operating effectively, although this is a possible Explanation: .
Choice "d" is incorrect. The identification of unexpected relationships as a result of analytical procedures does not necessarily mean that communication with those charged with governance should be revised, although this is a possible consequence.
QUESTION 6
Which of the following comparisons would an auditor most likely make in evaluating an entity's costs and expenses?
A. Thecurrentyear'saccountsreceivablewiththeprioryear'saccountsreceivable.
B. Thecurrentyear'spayrollexpensewiththeprioryear'spayrollexpense.
C. The budgeted current year's sales with the prior year's sales.
D. The budgeted current year's warranty expense with the current year's contingent liabilities.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. The most likely analytical review procedure involving costs and expenses would be to compare the current year's payroll expense (average amount per employee) to the prior year, taking into consideration an average increase in wage rates. This is a very effective technique in auditing payroll expense. Choice "a" is incorrect. Comparing the current year's accounts receivable balance with the prior year provides little evidence because accounts receivable may fluctuate based on timing of cash payments, which is unpredictable.
Choice "c" is incorrect. Comparing the budgeted current year's sales with the prior year's sales provides evidence regarding the reasonableness of the current year sales budget, but does not provide evidence about costs and expenses.
Choice "d" is incorrect. The current year's budgeted warranty expense would likely be compared to the current year's actual warranty expense, not to all of the contingent liabilities for the year.
QUESTION 7
An auditor may achieve audit objectives related to particular assertions by:
A. Performinganalyticalprocedures.
B. Adheringtoasystemofqualitycontrol. C. Preparing audit documentation.
D. Increasing the level of detection risk.
Correct Answer: A

Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The auditor relies on substantive tests to achieve audit objectives related to particular assertions. Analytical procedures are one type of substantive procedure. Choice "b" is incorrect. CPA firms performing audits are required to adhere to a system of quality control, but adhering to such a system does not directly help the firm achieve specific audit objectives. Choice "c" is incorrect. Audit documentation is used to record the results of audit procedures that have been performed to achieve audit objectives. Mere preparation of audit documentation does not achieve audit objectives.
Choice "d" is incorrect. Increasing the level of detection risk does not enable the auditor to achieve audit objectives related to a particular assertion.
QUESTION 8
An auditor's analytical procedures most likely would be facilitated if the entity:
A. Segregatesobsoleteinventorybeforethephysicalinventorycount.
B. Usesastandardcostsystemthatproducesvariancereports.
C. Corrects material weaknesses in internal control before the beginning of the audit. D. Develops its data from sources solely within the entity.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. An auditor's analytical procedures are facilitated when an entity uses a standard cost system with variance reports because the comparison of actual to budget will already have been performed. In addition, it is likely that management will already be aware of significant variations from budget and will be better able to address any questions the auditor may have. Choice "a" is incorrect. Segregation of obsolete inventory would not be an important factor in determining whether analytical procedures would be effective. Choice "c" is incorrect. Correction of internal control weaknesses prior to the beginning of the audit would not affect analytical procedures.
Choice "d" is incorrect. Analytical procedures using data developed solely within the entity are not as reliable as analytical procedures using data developed externally.
QUESTION 9
An auditor most likely would limit substantive audit tests of sales transactions when control risk is assessed as low for the occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting:
A. Openingandclosinginventorybalances.

B. Cashreceiptsandaccountsreceivable. C. Shipping and receiving activities.
D. Cutoffs of sales and purchases.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Examination of accounts receivable and cash receipts provides the auditor with evidence with respect to both the completeness and the occurrence of sales transactions, thus limiting the need to test sales transactions.
Choice "a" is incorrect. Examination of beginning and ending inventory balances may provide limited evidence of the occurrence of purchases and the cost of goods sold, but not of sales. Choice "c" is incorrect. Examination of shipping and receiving activities would not necessarily reduce the testing of sales transactions. Choice "d" is incorrect. Cutoffs of sales and purchases provides evidence regarding the sales occurring close to year-end, not necessarily all sales for the year.
QUESTION 10
Tracing shipping documents to prenumbered sales invoices provides evidence that:
A. Noduplicateshipmentsorbillingsoccurred.
B. Shipmentstocustomerswereproperlyinvoiced.
C. Allgoodsorderedbycustomerswereshipped.
D. All prenumbered sales invoices were accounted for.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. By tracing from the shipping documents to the invoices, the auditor confirms that goods that were shipped were properly billed.
Choice "a" is incorrect. Tracing shipping documents to prenumbered invoices would not provide assurance that duplicate shipments or billings did not occur. Choice "c" is incorrect. In order to test whether all goods that were ordered were shipped, the auditor would trace customer purchase orders to shipping documents. Choice "d" is incorrect. Determining that all prenumbered sales invoices are accounted for does not require examining shipping documents.
QUESTION 11
In auditing intangible assets, an auditor most likely would review or recompute amortization and determine whether the amortization period is reasonable in support of management's financial statement assertion of:

A. Valuationandallocation. B. Existence.
C. Completeness.
D. Rights and obligations.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Assertions about valuation and allocation deal with whether assets, liabilities, and equity interests have been included in the financial statements at appropriate amounts. Recalculation of the amortization and review of the amortization period would test the valuation and allocation assertion. Choice "b" is incorrect. Assertions about existence deal with whether assets, liabilities, and equity interests exist at a given date. Evaluating amortization does not relate to this assertion. Choice "c" is incorrect. Assertions about completeness deal with whether all assets, liabilities, and equity interests that should be presented in the financial statements are so includeD. Evaluating amortization does not relate to this assertion.
Choice "d" is incorrect. Assertions about rights and obligations deal with whether assets are the rights of the entity and liabilities are the obligations of the entity at a given date. Evaluating amortization does not relate to this assertion.
QUESTION 12
Analytical procedures used in the overall review stage of an audit generally include:
A. Gatheringevidenceconcerningaccountbalancesthathavenotchangedfromtheprioryear.
B. Retestingcontrolactivitiesthatappearedtobeineffectiveduringtheassessmentofcontrolrisk. C. Considering unusual or unexpected account balances that were not previously identified.
D. Performing tests of transactions to corroborate management's financial statement assertions.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The objective of analytical procedures used in the overall review stage of the audit is to assist the auditor in assessing conclusions reached and in the evaluation of the overall financial statement presentation. Analytical procedures applied in the overall review stage are used to consider the adequacy of evidence gathered in response to unusual or unexpected balances identified in planning the audit, and to identify unusual or unexpected balances or relationships that were not previously identified.

Choice "a" is incorrect. If analytical procedures are used to gather evidence about account balances that have not changed from last year, they are functioning as a substantive test rather than as a final review procedure.
Choice "b" is incorrect. Analytical procedures are not used to test controls. Choice "d" is incorrect. If analytical procedures are used as a test of transactions, they are functioning as a substantive test rather than as a final review procedure.
QUESTION 13
Which of the following would not be considered an analytical procedure?
A. Estimatingpayrollexpensebymultiplyingthenumberofemployeesbytheaveragehourlywagerateandthetotalhoursworked. B. Projectinganerrorratebycomparingtheresultsofastatisticalsamplewiththeactualpopulationcharacteristics.
C. Computing accounts receivable turnover by dividing credit sales by the average net receivables.
D. Developing the expected current-year sales based on the sales trend of the prior five years.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Analytical procedures involve comparison of recorded amounts, or ratios developed from recorded amounts, to expectations developed by the auditor. Projecting an error rate from a statistical sample does not involve such a comparison. Choice "a" is incorrect. An analytical procedure involves comparison of an independently developed expectation to a recorded amount. Comparing an estimate of payroll expense (developed by multiplying the number of employees by the average hourly rate and the total hours worked) to the recorded expense is an analytical procedure.
Choice "c" is incorrect. An analytical procedure involves comparison of an independently developed expectation to a recorded amount. Ratio analysis is often performed in order to compare recorded results to industry norms or to past performance, and therefore calculation of accounts receivable turnover is likely to be an analytical procedure.
Choice "d" is incorrect. An analytical procedure involves comparison of an independently developed expectation to a recorded amount. Comparing an estimate of sales (developed based on a trend analysis) to the recorded amount is an analytical procedure.
QUESTION 14
Which of the following procedures would an auditor most likely perform in auditing the statement of cash flows?
A. Comparetheamountsincludedinthestatementofcashflowstosimilaramountsintheprioryear'sstatementofcashflows. B. Reconcilethecutoffbankstatementstoverifytheaccuracyoftheyear-endbankbalances.
C. Vouch all bank transfers for the last week of the year and first week of the subsequent year.
D. Reconcile the amounts included in the statement of cash flows to the other financial statements' balances and amounts.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation

Explanation/Reference:
Explanation:
Choice "d" is correct. To audit the statement of cash flows, the auditor reconciles the amounts on the statement to amounts on other financial statements.
Choice "a" is incorrect. Comparison of amounts on the cash flow statement with those of the previous period is an analytical procedure that is not commonly used to audit the statement of cash flows, since sources and uses of cash in the current year are not necessarily predictable based on sources and uses from the prior year.
Choice "b" is incorrect. Reconciling the cutoff bank statement is a procedure used to audit the cash balance, rather than the statement of cash flows.
Choice "c" is incorrect. Vouching all bank transfers is a procedure used to audit the cash balance, rather than the statement of cash flows.
QUESTION 15
Which of the following procedures would an auditor most likely perform in obtaining evidence about subsequent events?
A. Determinethatchangesinemployeepayratesafteryear-endwereproperlyauthorized.
B. Recomputedepreciationchargesforplantassetssoldafteryear-end.
C. Inquire about payroll checks that were recorded before year-end but cashed after year-end. D. Investigate changes in long-term debt occurring after year-end.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Long-term debt that matures within one year is reported as a current liability on the balance sheet. An auditor reviews changes in long-term debt occurring after year-end to evaluate whether such debt is appropriately classified on the balance sheet. Choice "a" is incorrect. Subsequent changes in employee pay rates are not relevant to the current year's audit report.
Choice "b" is incorrect. Depreciation charges for assets sold in the subsequent period are not relevant to the current year's audit report.
Choice "c" is incorrect. Payroll checks that were recorded close to (but before) year-end often are not cashed until the subsequent period. The auditor would not be particularly concerned about this.
QUESTION 16
Which of the following presumptions is correct about the reliability of audit evidence?
A. Informationobtainedindirectlyfromoutsidesourcesisthemostreliableevidentialmatter.
B. Tobereliable,auditevidenceshouldbeconclusiveratherthanpersuasive.
C. Reliability of audit evidence refers to the amount corroborative evidence obtained.
D. Aneffectiveinternalcontrolstructureprovidesmoreassuranceaboutthereliabilityofauditevidence.

Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Reliability of audit evidence is enhanced by a satisfactory internal control structure.
Choice "a" is incorrect. Information obtained directly from outside sources is more reliable than that obtained indirectly.
Choice "b" is incorrect. In the great majority of cases, the auditor finds it necessary to rely on evidence that is persuasive rather than conclusive. Choice "c" is incorrect. The amount of corroborative evidence obtained refers to the sufficiency of the evidence, not its reliability.
QUESTION 17
For audits of financial statements made in accordance with generally accepted auditing standards, the use of analytical procedures is required to some extent:
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Analytical procedures are required to be applied to some extent in planning and in the final review stage. In addition, although not required, analytical procedures may be used as a substantive test when they are more effective or efficient than tests of details. Choices "a", "b", and "d" are incorrect, per the above Explanation: .

QUESTION 18
Which of the following ratios would an engagement partner most likely calculate when reviewing the balance sheet in the overall review stage of an audit?
A. Quickassets/currentassets.
B. Accountsreceivable/inventory.
C. Interest payable/interest receivable. D. Total debt/total assets.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. During the final review stage of an audit, the auditor focuses on the overall presentation of the financial statements. Total debt/total assets indicates the portion of assets financed by creditors, which is a meaningful ratio to calculate during the final audit review. Choice "a" is incorrect. Quick assets/ current assets simply indicates the percentage of current assets that are also "quick" assets. It is not a particularly meaningful ratio. Choice "b" is incorrect. Accounts receivable/inventory is not a meaningful ratio because it compares a figure based on retail dollars with a cost-based figure. Choice "c" is incorrect. Interest payable/interest receivable is not a meaningful ratio because these two amounts are not related.
QUESTION 19
To measure how effectively an entity employs its resources, an auditor calculates inventory turnover by dividing average inventory into:
A. Netsales.
B. Costofgoodssold. C. Operating income. D. Gross sales.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. The appropriate numerator for calculating inventory turnover is cost of goods sold.
Cost of goods sold is the expense most clearly associated with the sale (turnover) of inventory, which is priced at acquisition cost, not selling price. Choice "a" is incorrect. Net sales is a measure of revenue that reflects the price at which inventory was sold, not its recorded inventoriable value.

Choice "c" is incorrect. Operating income does not tie specifically to the recorded value of inventory sold because it reflects the sales price after all operating expenses. Choice "d" is incorrect. Gross sales is a measure of revenue that reflects the price at which inventory was sold, not its recorded inventoriable value.
QUESTION 20
In analyzing a company's financial statements, which financial statement would a potential investor primarily use to assess the company's liquidity and financial flexibility?
A. Balancesheet.
B. Incomestatement.
C. Statement of retained earnings. D. Statement of cash flows.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Liquidity ratios and coverage ratios focus on balance sheet account balances. Choice "b" is incorrect. Income statement information is primarily used for profitability analysis. Choice "c" is incorrect. The statement of retained earnings is primarily a reconciliation of the retained earnings account. Choice "d" is incorrect. The statement of cash flows assesses cash inflows and cash outflows.
QUESTION 21
At December 31, 20X2, Curry Co. had the following balances in selected asset accounts:
Curry also had current liabilities of $1,000 at December 31, 20X2, and net credit sales of $7,200 for the year then ended.

What is Curry's acid-test ratio at December 31, 20X2?
A. 1.5 B. 1.6 C. 2.0 D. 2.1
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The acid-test ratio is calculated by taking the current assets excluding inventory and prepaid expenses and dividing by current liabilities. In this case, cash and accounts receivable ($300 + $1,200 = $1,500) are divided by current liabilities ($1,000), resulting in a ratio of $1,500/$1,000, or 1.5.
Choice "b" is incorrect. The numerator in the acid-test ratio formula includes only cash and accounts receivable. It would not include prepaid expenses.
Choice "c" is incorrect. The numerator in the acid-test ratio formula includes only cash and accounts receivable. It would not include inventory.
Choice "d" is incorrect. The numerator in the acid-test ratio formula includes only cash and accounts receivable. It would not include inventory and prepaid expenses.
QUESTION 22
At December 31, 20X2, Curry Co. had the following balances in selected asset accounts:
Curry also had current liabilities of $1,000 at December 31, 20X2, and net credit sales of $7,200 for the year then ended. What was the average number of days to collect Curry's accounts receivable during 20X2?
A. 30.4

B. 40.6 C. 50.7 D. 60.8
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The average number of days to collect accounts receivable is calculated by dividing 365 days by the accounts receivable turnover. Accounts receivable turnover is net credit sales divided by the average accounts receivable:
Choice "a" is incorrect. The denominator should be net credit sales ($7,200) divided by average receivables $1,000), or 7.2, not 12.
Choice "b" is incorrect. The average receivable balance is $1,000, not $800. The right-hand column shows the increase over 20X1, so the 20X1 receivable balance was $1,200 - $400, or $800. Since the 20X2 receivable balance was given as $1,200, the average receivable balance is $1,000. Choice "d" is incorrect. Average inventory ($1,000), not ending inventory ($1,200), should be used.
QUESTION 23
An independent auditor asked a client's internal auditor to assist in preparing a standard financial institution confirmation request for a payroll account that had been closed during the year under audit. After the internal auditor prepared the form, the controller signed it and mailed it to the bank. What was the major flaw in this procedure?
A. Theinternalauditordidnotsigntheform.
B. Theformwasmailedbythecontroller.
C. The form was prepared by the internal auditor.
D. The account was closed, so the balance was zero.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation

Explanation/Reference:
Explanation:
Choice "b" is correct. The auditor should control the mailing of independent confirmations. Choice "a" is incorrect. It is appropriate for a member of management, such as the controller, to sign the confirmation request.
Choice "c" is incorrect. It is acceptable for an internal auditor to provide direct assistance to the external auditor, such as by preparing confirmation forms. Choice "d" is incorrect. Confirmations may be sent to accounts that show a zero balance, to test for understatement errors or to obtain information about loans.
QUESTION 24
Which of the following types of audit evidence generally is the most reliable?
A. Inquiriesmadeofmanagement.
B. Confirmationofaccountinformation. C. Analyticalprocedures.
D. Review of prior-year audit procedures.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Confirmations are among the most reliable types of evidence, as they constitute external evidence sent directly to the auditor.
Choice "a" is incorrect. Inquiries provide oral evidence, which is less reliable than confirmations. Choice "c" is incorrect. Analytical procedures provide the auditor with direct personal knowledge, but because these procedures often are based on internal accounting data, the evidence obtained is not as reliable as that obtained from confirmations.
Choice "d" is incorrect. Review of audit procedures from the previous year does not provide appropriate audit evidence regarding the current year's financial statements.
QUESTION 25
An auditor compares annual revenues and expenses with similar amounts from the prior year and investigates all changes exceeding 10%. This procedure most likely could indicate that:
A. Fourthquarterpayrolltaxeswereproperlyaccruedandrecorded,butwerenotpaiduntilearlyinthesubsequentyear.
B. Unrealizedgainsfromincreasesinthevalueofavailable-for-salesecuritieswererecordedintheincomeaccountfortradingsecurities. C. The annual provision for uncollectible accounts expense was inadequate because of worsening economic conditions.
D. Notice of an increase in property tax rates was received by management, but was not recorded until early in the subsequent year.
Correct Answer: B

Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Unrealized gains on available-for-sale securities should properly be recorded in other comprehensive income. If such gains were erroneously recorded in the income account for trading securities, this might be discovered through comparison of the current year and prior year revenues and expenses (assuming the error occurred only in the current year, and not in the prior year). Choice "a" is incorrect. If payroll taxes were properly accrued and recorded, there is unlikely to be a significant change in revenues and expenses for the current year as compared to the prior year. Payables would not be part of the comparison of revenues and expenses. Choice "c" is incorrect. In times of worsening economic conditions, one would expect the annual provision for uncollectible accounts to increase. Since this answer option indicates that the provision was inadequate, it would appear that the client did not increase the provision appropriately. Investigating changes in revenues and expenses would not be likely to identify this error, since failing to increase the provision would likely result in there being little change between the two years. Choice "d" is incorrect. An increase in property tax rates should cause a corresponding increase in accrued property tax expense; however, the question indicates that the appropriate increase was not recorded in the current year. Investigating changes in revenues and expenses would not be likely to identify this error, since failing to increase the expense would likely result in there being little change between the two years.
QUESTION 26
An auditor most likely would apply analytical procedures in the overall review stage of an audit to:
A. Enhancetheauditor'sunderstandingofsubsequentevents. B. Identifyauditingproceduresomittedbythestaffaccountants. C. Determine whether additional audit evidence may be needed. D. Evaluate the effectiveness of the internal control activities.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. In performing analytical procedures as an overall review, the auditor determines whether adequate evidence has been gathered in response to unusual or unexpected balances identified during the audit, and may decide that additional audit procedures are warranted. In addition, the auditor may identify unusual or unexpected balances not already noted during the audit, which would also require the application of further auditing procedures. Choice "a" is incorrect. Analytical procedures applied during the overall review stage of the audit are meant to evaluate the overall financial statement presentation, and to assess the conclusions reached by the auditor. This is a high-level review, and one that focuses on the financial statements. As such, it would not be likely to enhance the auditor's understanding of subsequent events. Choice "b" is incorrect. Analytical procedures applied during the overall review stage of the audit are meant to evaluate the overall financial statement presentation, and to assess the conclusions reached by the auditor. This is a high-level review, and one that focuses on the financial statements. As such, it would not be likely to identify omitted auditing procedures. Choice "d" is incorrect. Analytical procedures applied during the overall review stage of the audit are meant to evaluate the overall financial statement presentation, and to assess the conclusions reached by the auditor. This is a high-

level review, and one that focuses on the financial statements. As such, it would not be useful in evaluating the effectiveness of the client's internal control activities.
QUESTION 27
Analytical procedures performed during an audit indicate that accounts receivable doubled since the end of the prior year. However, the allowance for doubtful accounts as a percentage of accounts receivable remained about the same. Which of the following client Explanation: s would satisfy the auditor?
A. Agreaterpercentageofaccountsreceivablearelistedinthe"morethan120daysoverdue"categorythanintheprioryear.
B. Internalcontrolactivitiesovertherecordingofcashreceiptshavebeenimprovedsincetheendoftheprioryear.
C. The client opened a second retail outlet during the current year and its credit sales approximately equaled the older outlet.
D. The client tightened its credit policy during the current year and sold considerably less merchandise to customers with poor credit ratings.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. If a second, similar retail outlet were opened, one would expect sales and accounts receivable to double. As long as the collection rates for the new outlet's receivables were expected to be similar to those of the original outlet, the allowance for doubtful accounts as a percentage of accounts receivable would remain the same. Choice "a" is incorrect. If more receivables are potentially uncollectible in the current year (as opposed to the prior year), the allowance for doubtful accounts as a percentage of receivables should increase to reflect the greater level of estimated bad debts.
Choice "b" is incorrect. Improved control activities related to the recording of cash receipts might result in a decrease in accounts receivable in the current year as compared to the prior year, not an increase. In addition, improving such controls would not be likely to affect the allowance for doubtful accounts as a percentage of receivables.
Choice "d" is incorrect. If the client sold less merchandise to customers with poor credit ratings, the allowance for doubtful accounts as a percentage of receivables should decrease to reflect the lower level of estimated bad debts.
QUESTION 28
The most reliable procedure for an auditor to use to test the existence of a client's inventory at an outside location would be to:
A. Observephysicalcountsoftheinventoryitems.
B. Tracethetotalontheinventorylistingtothegeneralledgerinventoryaccount.
C. Obtain a confirmation from the client indicating inventory ownership.
D. Analyticallycomparethecurrent-yearinventorybalancetotheprior-yearbalance.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation

Explanation/Reference:
Explanation:
Choice "a" is correct. The auditor's personal observation is generally one of the most reliable forms of evidence. Observing physical inventory counts provides reliable evidence that the inventory actually exists.
Choice "b" is incorrect. Tracing totals from the inventory listing to the general ledger inventory account provides evidence of completeness, not existence.
Choice "c" is incorrect. A confirmation from the client indicating ownership provides some evidence regarding rights and obligations, but does not provide evidence of existence. Choice "d" is incorrect. Analytical comparisons of current year to prior year inventory balances might provide some evidence regarding completeness, existence, and valuation, but this is not as reliable a procedure for verifying existence as is the auditor's direct personal observation.
QUESTION 29
An auditor compared the current-year gross margin with the prior-year gross margin to determine if cost of sales is reasonable. What type of audit procedure was performed?
A. T est of transactions.
B. Analyticalprocedures.
C. Test of controls.
D. Test of details.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Analytical procedures are evaluations of financial information made by a study of plausible relationships among data, and they include comparisons between current year and prior year financial information.
Choice "a" is incorrect. Tests of transactions involve selecting specific transactions and evaluating whether they were properly recorded. Comparing current year and prior year gross margin would not provide information regarding specific transactions.
Choice "c" is incorrect. Tests of controls are performed to evaluate the effectiveness of controls. Comparing current year and prior year gross margin would not provide information regarding controls. Choice "d" is incorrect. Test of details are audit procedures used to gather evidence to support specific account balances. Comparing current year and prior year gross margin does not provide much information regarding specific account balances, although it might identify an account balance worthy of further consideration.
QUESTION 30
Which of the following procedures would yield the most reliable evidence?
A. Ascanningoftrialbalances. B. Aninquiryofclientpersonnel.

C. A comparison of beginning and ending retained earnings. D. A recalculation of bad debt expense.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. The auditor's direct personal knowledge (obtained through observation, examination, inspection, or recalculation) is one of the most reliable forms of evidence. Choice "a" is incorrect. Scanning of trial balances may indicate areas where more attention should be focused (e.g., unusual balances, zero balances, etc.), but would seldom provide reliable evidence in and of itself.
Choice "b" is incorrect. Inquiry of client personnel provides evidence that is not particularly reliable, which is why it often needs to be corroborated by the auditor. Choice "c" is incorrect. A comparison of beginning and ending retained earnings may provide information about certain transactions and events (e.g., dividends, income, etc.), but would not in and of itself provide evidence supporting those items.
QUESTION 31
Which of the following procedures would be most effective in reducing attestation risk?
A. Discussionwithresponsibleindividuals. B. Examinationofevidence.
C. Inquiries of senior management.
D. Analyticalprocedures.
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Evidence obtained directly by the accountant (e.g., through physical examination) provides more persuasive evidence than evidence obtained through inquiry, discussion, or analytical procedures, and therefore reduces attestation risk. Choices "a", "c", and "d" are incorrect, based on the above Explanation: .
QUESTION 32
Which of the following factors would most likely influence an auditor's consideration of the reliability of data when performing analytical procedures? A. Whetherthedataweredevelopedinacomputerizedoramanualaccountingsystem.

B. WhetherthedatawerepreparedonthecashbasisorinconformitywithGAAP. C. Whether the data were developed under a system with adequate controls.
D. Whether the data were processed in an online system or a batch entry system.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. Strong, effective internal controls improve the reliability of data. Choice "a" is incorrect. The type of accounting system used does not affect the reliability of data. Both computerized and manual accounting systems can provide reliable data, as long as there are appropriate controls in place.
Choice "b" is incorrect. The accounting basis used does not affect the reliability of data. Reliable data may be provided regardless of whether the cash basis or accrual basis (GAAP) is used, as long as there are appropriate controls in place.
Choice "d" is incorrect. The type of processing system used does not affect the reliability of data. Both online systems and batch systems can provide reliable data, as long as there are appropriate controls in place.
QUESTION 33
At the conclusion of an audit, an auditor is reviewing the evidence gathered in support of the financial statements. With regard to the valuation of inventory, the auditor concludes that the evidence obtained is not sufficient to support management's representations. Which of the following actions is the auditor most likely to take?
A. Consultwiththeauditcommitteeandissueadisclaimerofopinion.
B. Consultwiththeauditcommitteeandissueaqualifiedopinion.
C. Obtain additional evidence regarding the valuation of inventory.
D. Obtain a statement from management supporting their inventory valuation.
Correct Answer: C
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. If an auditor has doubts about a material assertion (such as the valuation of inventory), he/she should gather sufficient evidence to eliminate the doubt. Choices "a" and "b" are incorrect. The auditor would not consult with the audit committee regarding the sufficiency of audit evidence obtained, as this is determined based on the auditor's own judgment. In addition, if the auditor is able to obtain additional evidence, it might be possible to issue an unqualified opinion. Finally, even if no additional evidence is available, the auditor will still need to decide whether a qualified opinion or a disclaimer of opinion is more appropriate, depending on materiality.

Choice "d" is incorrect. Since management representations are in fact "statements from management," obtaining additional statements from management would not provide additional support.
QUESTION 34
Which of the following procedures would an auditor most likely perform in auditing the statement of cash flows?
A. Reconciletheamountsincludedinthestatementofcashflowstotheotherfinancialstatements'amounts. B. Vouchasampleofcashreceiptsanddisbursementsforthelastfewdaysofthecurrentyear.
C. Reconcile the cutoff bank statement to the proof of cash to verify the accuracy of the year-end cash balance. D. Confirm the amounts included in the statement of cash flows with the entity's financial institution.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. To audit the statement of cash flows, the auditor reconciles the amounts on the statement to amounts on other financial statements.
Choice "b" is incorrect. Vouching a sample of cash receipts and disbursements is a procedure used to audit the cash balance, rather than the statement of cash flows. Choice "c" is incorrect. Reconciling the cutoff bank statement to the proof of cash to verify the accuracy of the year-end cash balance is a procedure used to audit the cash balance, rather than the statement of cash flows.
Choice "d" is incorrect. Confirming cash amounts with the entity's financial institution is a procedure used to audit the cash balance, rather than the statement of cash flows.
Evidential Procedures for Selected Accounts
QUESTION 35
An auditor reviews the reconciliation of payroll tax forms that a client is responsible for filing in order to:
A. Verifythatpayrolltaxesaredeductedfromemployees'grosspay.
B. Determinewhetherinternalcontrolactivitiesareoperatingeffectively.
C. Uncover fictitious employees who are receiving payroll checks.
D. Identify potential liabilities for unpaid payroll taxes.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:

Explanation:
Choice "d" is correct. An auditor reviews the reconciliation of payroll tax forms that a client is responsible for filing in order to identify potential liabilities for unpaid payroll taxes. Choice "a" is incorrect. Payroll deductions are verified by inspecting the payroll register and, for a sample of employees, tracing deductions back to employee authorization forms held in the personnel department.
Choice "b" is incorrect. Review of the reconciliation of payroll tax forms is a substantive test that would not indicate whether internal control activities with respect to payroll are operating effectively. Choice "c" is incorrect. Review of the reconciliation of payroll tax forms would not uncover fictitious employees. The auditor would need to observe payroll distribution (or examine direct deposits) to ensure that all personnel being paid are actually employed by the company.
QUESTION 36
An auditor discovered that a client's accounts receivable turnover is substantially lower for the current year than for the prior year. This may indicate that:
A. Fictitiouscreditsaleshavebeenrecordedduringtheyear. B. Employeeshavestoleninventoryjustbeforetheyear-end. C. The client recently tightened its credit-granting policies.
D. An employee has been lapping receivables in both years.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Recording fictitious sales generally has the same impact on revenues and receivables: both would be overstated by the same dollar amount. However, this will cause the accounts receivable turnover ratio to decrease, because the sales figure for the year is generally much larger than the average receivables amount. Since the numerator (sales) is being increased far less proportionately than is the denominator (receivables), overall the ratio will decline. (Try using actual numbers if you want to see how this works: Assume sales of $2,000,000 and average receivables of $300,000. What will happen to the ratio if you increase both of these numbers by $50,000? It will go from 6.7% to 5.9%--a decline.)
Choice "b" is incorrect. Inventory stolen by employees just before year-end would not affect the accounts receivable turnover ratio, which is calculated as net credit sales divided by average gross receivables.
Choice "c" is incorrect. A substantially lower accounts receivable turnover ratio may indicate collectability issues. This might be the result of the client loosening (not tightening) its credit-granting policies.
Choice "d" is incorrect. If an employee has been lapping receivables in both years, the accounts receivable turnover ratio would not be substantially lower in one year compared to the other.
QUESTION 37
Which of the following strategies most likely could improve the response rate of the confirmation of accounts receivable? A. Includingalistofitemsorinvoicesthatconstitutetheaccountbalance.

B. Restrictingtheselectionofaccountstobeconfirmedtothosecustomerswithrelativelylargebalances. C. Requesting customers to respond to the confirmation requests directly to the auditor by fax or e- mail. D. Notifying the recipients that second requests will be mailed if they fail to respond in a timely manner.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Some accounting systems facilitate the confirmation of single transactions rather than entire balances. In such cases, inclusion of statements of account showing details of the balances being confirmed makes it easier for the customers to confirm the balances, and therefore may improve the overall response rate.
Choice "b" is incorrect. Restricting the selection of accounts to be confirmed to those customers with large balances would not necessarily improve the response rate, as there is no particular relationship between balance size and the likelihood of response.
Choice "c" is incorrect. Requesting customers to respond to the confirmation requests electronically would not necessarily improve the response rate. It also might not be appropriate to request responses in electronic form, since the auditor will still request that the original be mailed back. Choice "d" is incorrect. Notifying the recipients that second requests will be mailed would not necessarily improve the response rate, since the consequence of not responding (receiving a second request) is relatively minor.
QUESTION 38
In performing a count of negotiable securities, an auditor records the details of the count on a security count worksheet. What other information is usually included on this worksheet?
A. Anacknowledgmentbyaclientrepresentativethatthesecuritieswerereturnedintact.
B. Ananalysisofrealizedgainsandlossesfromthesaleofsecuritiesduringtheyear.
C. An evaluation of the client's internal control concerning physical access to the securities.
D. A description of the client's procedures that prevent the negotiation of securities by just one person.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. After performing a count of negotiable securities, the auditor would generally obtain an acknowledgment from the client that the securities were returned intact. This helps maintain accountability for the securities, and reduces the likelihood of employee misappropriation (e.g., if a client employee were to steal a security and blame the auditor). Choice "b" is incorrect. The auditor generally would not include an analysis of realized gains and losses on a security

count worksheet, although this information would be included elsewhere in the audit documentation.
Choice "c" is incorrect. The auditor generally would not include an evaluation of the client's internal control on a security count worksheet, although this information would be included elsewhere in the audit documentation.
Choice "d" is incorrect. The auditor generally would not include a description of the client's control procedures on a security count worksheet, although this information might be included elsewhere in the audit documentation.
QUESTION 39
To reduce the risks associated with accepting e-mail responses to requests for confirmation of accounts receivable, an auditor most likely would:
A. Requestthesenderstomailtheoriginalformstotheauditor.
B. Examinesubsequentcashreceiptsfortheaccountsinquestion.
C. Consider the e-mail responses to the confirmations to be exceptions. D. Mail second requests to the e-mail respondents.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. E-mail responses to requests for confirmations of accounts receivable present a problem to the auditor, since the sender might not be as requested and the content might be altered. To reduce these risks, the auditor should request the senders to mail the original forms to the auditor. Choice "b" is incorrect. Examination of subsequent cash receipts might be an acceptable alternative procedure, but it would not reduce the risks associated with accepting e-mail responses to requests for confirmations of accounts receivable.
Choice "c" is incorrect. Since the e-mail responses may be valid responses, the auditor should not consider them to be exceptions.
Choice "d" is incorrect. Mailing second requests to the e-mail respondents would not be necessary, since the sender did receive and respond to the first request. Requesting that the original confirmation be returned is a more likely response.
QUESTION 40
In testing plant and equipment balances, an auditor may inspect new additions listed on the analysis of plant and equipment. This procedure is designed to obtain evidence concerning management's assertions of:

A. Option A B. OptionB C. Option C D. Option D
Correct Answer: B
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. Inspection of plant and equipment by the auditor provides evidence concerning the existence of the equipment; if the auditor can see it, it exists. However, physical inspection does not provide any evidence concerning whether the amounts paid for plant and equipment are properly presented, described, and disclosed. Only reviewing drafts of the financial statements will provide evidence regarding understandability and classification. Choice "a" is incorrect. Physical inspection does not provide any evidence concerning whether the amounts paid for plant and equipment are properly presented, described, and disclosed. Choice "c" is incorrect. Physical inspection of equipment does not provide any evidence concerning whether the amounts paid for the equipment are properly presented, described, and disclosed. Only reviewing drafts of the financial statements provides evidence regarding understandability and classification. However, inspection of plant and equipment by the auditor does provide evidence concerning the existence of the equipment; if the auditor can see it, it exists. Choice "d" is incorrect. Inspection of plant and equipment by the auditor does provide evidence concerning the existence of the equipment: if the auditor can see it, it exists.
QUESTION 41
In auditing accounts receivable, the negative form of confirmation request most likely would be used when:
A. Thetotalrecordedamountofaccountsreceivableisimmaterialtothefinancialstatementstakenasawhole. B. Responseratesinprioryearstoproperlydesignedpositiveconfirmationrequestswereinadequate.
C. Recipients are likely to return positive confirmation requests without verifying the accuracy of the information. D. The combined assessed level of inherent risk and control risk relative to accounts receivable is low.
Correct Answer: D
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Negative confirmations are most likely to be used when the assessed level of audit risk, including inherent and control risk, is low. Choice "a" is incorrect. If the total amount of accounts receivable is immaterial, the auditor is not likely to send any confirmations.

Choice "b" is incorrect. If prior year response rates were low, negative confirmations would not be used since the auditor would be concerned that the negative confirmations would not receive adequate attention from the recipients.
Choice "c" is incorrect. An auditor would need to feel comfortable that the confirmations would receive adequate attention from the recipients before deciding to send negative confirmations.
QUESTION 42
An auditor usually tests the reasonableness of dividend income from investments in publicly-held companies by computing the amounts that should have been received by referring to:
A. Dividendrecordbooksproducedbyinvestmentadvisoryservices.
B. Stockindenturespublishedbycorporatetransferagents.
C. Stock ledgers maintained by independent registrars.
D. Annualauditedfinancialstatementsissuedbytheinvesteecompanies.
Correct Answer: A
Section: Auditing and Attestation (II) (Volume D) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Dividend income from investments is tested by referring to the dividend record books produced by investment advisory services, such as "Moody's Dividend Record." These books state the dividend that was declared and paid by the investee. Choice "b" is incorrect. Stock indentures (initial stock agreements) published by corporate transfer agents discuss intent with respect to dividend declaration, but actual dividend declarations may vary. In addition, it is more efficient to use a single source (such as "Moody's") than to obtain and review stock indentures for each individual investment.
Choice "c" is incorrect. Stock ledgers maintained by independent registrars indicate how many shares of stock are issued and outstanding, and identify the shareholders of record, but they do not contain information concerning dividends.
Choice "d" is incorrect. Annual audited financial statements of the investee companies give the total dividends paid, but there may not be enough information to determine exactly how much went to each type of stock and hence to each stockholder. In addition, it is more efficient to use a single source (such as "Moody's") than to obtain and review the financial statements of each investee.
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