ACCT 4123 Chapter 6

Your client is in the process of acquiring another company. You have been requested to verify that cash for the company being acquired is properly stated. The audit technique that will yield the most persuasive evidence is:

preparation and review of standard bank confirmation inquiries.

A method to discover unrecorded transactions is a four-column bank reconciliation which is called a(n) _____ of _____.

proof; cash

An attitude that says "I am underpaid and due additional compensation" is an example of fraud _____.

rationalization

Cash analyses need to be _______ to the general ledger.

reconciled

Cash reconciliations can be tested via _____.

reperformance

The Sarbanes-Oxley Act of 2002 ______ an anonymous employee hotline for reporting ethical problems

requires

To provide assurance that each voucher is submitted and paid only once, an auditor most likely would examine a sample of paid vouchers and determine whether each voucher is:

stamped "paid" by the check signer.

If the internal control activities over cash are not operating effectively, auditors may need to expand ______.

substantive audit procedures

In the audit of cash the auditor obtains a bank cutoff statement primarily to:

test the propriety of items appearing on the client's year-end bank reconciliation.

An auditor who discovers that client employees have committed an illegal act that has a material effect on the client's financial statements most likely would withdraw from the engagement if:

the client does not take the remedial action that the auditor considers necessary.

An auditor would least likely initiate a discussion with a client's audit committee concerning:

the maximum dollar amount of misstatements that could exist without causing the financial statements to be materially misstated.

The responsibility for setting the tone at the top rests with ______.

upper management

It is necessary to _____ the client's cutoff of cash transactions.

verify

The auditor selects examples of a transaction and traces them from initial receipt to the recording in the accounting records when performing a(n) _____.

walkthrough

True or false: A walkthrough can be used to provide evidence of whether the client's control activities were operating effectively during the period under audit.

False [Reason: A walkthrough is too limited in scope to provide such evidence.]

Auditors ordinarily send an electronic confirmation request to all banks with which the client has done business during the year under audit, regardless of the year-end balances. A purpose of this procedure is to:

seek information about contingent liabilities and security agreements.

An entity with a large volume of customer remittances by mail could most likely reduce the risk of employee misappropriation of cash by using:

a bank lockbox system.

Cutoff bank statements include activity for the period _____ the period being audited.

after

Substantive procedures over cash will ______.

always be performed

At the end of each day a copy of the check listing, a report of payments recorded in accountants receivable and a copy of the bank deposit slip should be received by ______.

an independent employee

It is usually best to have an anonymous employee hotline responded to by ______.

an outside third-party agency

Detection risk is set based on the level of _____ _____ and risk of material misstatement.

audit risk

When a material misstatement is not prevented or detected by the client's internal controls or auditors' substantive procedures, _____ _____ has been manifested.

audit risk

Cash confirmations need to be mailed under the control of the _____.

auditor

The primary document used to test the cash balance in the financial statements is the company's _____ _____.

bank reconciliation

The primary document used to test the cash balance in the financial statements is the company's ______ ______.

bank reconciliation

If a client maintains a significant amount of cash on hand, a second cash count should ______.

be done on the same day

An entity's auditors, accountants and security personnel must be acquainted with the basics of fraud awareness ______.

because not all fraud schemes can be thwarted or detected

Giving managers and employees the freedom to do business, ______.

can mean giving them freedom that enables committing fraud

Frequent deposits and checks in rounded and the same amounts, short time lags between deposits and withdrawals, and a low average balance compared to high levels of deposits, are all characteristic signs of a(n) _____ _____ scheme.

check kiting

The deliberate floating on funds between two or more bank accounts in order to make it appear that more cash is present than is really the case is called _____ _____.

check kiting

If the amount of a check is altered by an employee after it has cleared the bank, the change can be detected by:

comparing the magnetic imprint of the amount paid to the amount written on the check face.

Auditors observe activities while not being seen when performing _____ _____.

covert surveillance

Having a casino auditor gamble so cash-handling procedures may be observed is an example of ______.

covert surveillance

It is important to verify _____ of both cash receipts and cash disbursements.

cutoff

An unrecorded check issued during the last week of the year would most likely be discovered by the auditor when the:

cutoff bank statement is reconciled.

After auditing cash, it is important to evaluate proper financial statement presentation and _____ of cash.

disclosure

Auditors must gain an understanding of internal controls that are in place to mitigate assessed fraud risk and, at a minimum,______.

document that understanding in the workpapers

The most common motivation in business frauds is ______.

economic benefits

Misappropriation of assets is another term for _____ _____.

employee fraud

Employees are provided an opportunity to furnish information about possible misdeeds when _____ _____ questioning is used.

fraud audit

Incentive/pressure, opportunity and attitude/rationalization are the conditions that make up the _____ _____.

fraud triangle

When an employee embezzles company funds from an electric utility company for the purpose of paying expenses of an anti-nuclear protest organization, the fraudster's motive is said to be:

ideological.

For each relevant assertion identified by the auditor, professional standards require auditors to first gain an understanding of the _____ _____ that have been designed to mitigate the risk of material misstatement.

internal control

Analyzing bank transfers at the end of the period being audited and the beginning of the next period helps detect ____________.

kiting

Because of the nature of cash, auditors ______ need to expand substantive audit procedures to ensure the cash balance is not materially misstated and to identify possible fraudulent activities.

may

In the fraud context, a reason for a person to take a fraudulent action that is believed to be unsharable with other is a(n) _____.

motive

The accountant who record cash receipts and credits to customer accounts should ______.

never handle the cash

An auditor wishes to perform tests of controls on a client's cash disbursements procedures. If the control activities leave no audit trail of documentary evidence, the auditor most likely will test the activities by:

observation and inquiry.

Control activities often take away the ______ for a fraudster to commit a fraud.

opportunity

Failure to count inventory on a regular basis provides ______ to commit fraud.

opportunity

Improper segregation of duties provides ______ to commit fraud.

opportunity

Incentive/pressure, attitude/rationalization and _____ are the conditions that make up the fraud triangle.

opportunity

Auditors are often concerned with the _____ of cash, as this is where most misstatements occur.

overstatement

Fraud rationalizations include ______.

- "A successful image is important." - "I'll pay the money back." - "Nobody will get hurt."

Existence, occurrence, accuracy, cutoff, and rights

- Count cash on hand - Confirm cash balances with financial institutions

Which of the following statements regarding a company's fraud prevention program are true?

- In an electronic payment environment, lack of controls can lead to costly fraud. - It is essential that management establish a strong control environment.

Cutoff, existence, occurrence, rights, and completeness

- Verify the client's cutoff of cash transactions - Analyze bank transfers occurring at year-end

Cash should ______.

- all be counted at the same time - be counted in front of a client's employee - be counted with the auditor's pockets empty

Fraud audit questioning ______.

- allows employees to furnish information about possible misdeeds - addresses fraud possibilities in a direct manner - should be done with support of management

A typical white collar criminal is ______.

- generally acting alone - socially conforming

Fraudsters behaviors often include ______.

- inability to relax - defensiveness - working standing up - drinking too much - irritability - working late

Employee fraud ______.

- is also called misappropriation of assets - generally includes a cover-up - usually involves some type of falsification

A code of conduct for employees ______.

- must be supported by the control environment - is more likely to be supported if the Board chairman follows it - helps send the right message from the top

A proof of cash ______.

- reconciles the bank balance, bank reports of cash deposited and paid general ledger entries - is used to discover unrecorded cash transactions - is an effective procedure to verify cash transactions

A typical white collar criminal has ______.

- some type of religious affiliation - no arrest record - attended college

In many situations an employee initially receives cash and thus has custody. Because this cannot be avoided, good control dictates that ______.

- two people should open the mail - checks should be endorsed immediately - a list should be prepared of the cash receipts as early as possible - the actual cash should be separated from the record-keeping documents - cash should be deposited daily and intact - remittance advices should be sent to the controller's office for recording

Place the general sequence of steps of the audit process (shown below) in the correct order for an audit of cash.

1. Use the understanding of the client and its environment to consider inherent risks related to cash. 2. Obtain an understanding of internal control over cash. 3. Assess the risks of material misstatement and design further audit procedures (tests of controls). 4. Perform further audit procedures -- tests of controls. 5. Perform further audit procedures -- substantive procedures for cash transactions and balances.

Which of the following statements are correct? A. Most audit clients have strong controls over cash. B. Tests of controls over cash often support a reduction in control risk. C. Substantive procedures over cash are only performed if control risk is assessed as high.

A & B

An audit plan of substantive procedures for cash would not include: A. request a cutoff bank statement be mailed to the client. B. request client to prepare bank reconciliations. C. prepare a schedule of interbank transfers for a period of ten business days before and after year-end date. D. obtain a written client representation concerning compensating balance agreements.

A. request a cutoff bank statement be mailed to the client.

Fraud risk factors are events or conditions that indicate which of the following? A. An attitude or rationalization that justifies a fraudulent action. B. All of the choices are correct. C. An opportunity to carry out a fraud. D. An incentive or pressure to perpetrate fraud.

B.

Which of the following is not considered one of the three factors increasing the probability of fraud? A. Opportunity. B. Lack of training. C. Rationalization. D. Motive.

B. Lack of training.

Each of the following is a type of known misstatement, except: A. a difference between the classification of a reported financial statement element and the classification according to generally accepted accounting principles. B. differences between management and the auditor's judgment regarding estimates. C. an inaccuracy in processing data. D. the misapplication of accounting principles.

B. differences between management and the auditor's judgment regarding estimates.

Which of the following statements are correct? A. Trustworthy employees may be the only internal control some entities need. B. Fraud cover-up attempts rarely appear in the accounting records. C. The possibility of detection can be an effective fraud deterrent. D. A control violation may be the audit team's first indication of fraud.

C & D

In preparing for the audit of cash, the auditors perform analytical procedures concerning cash balances. Which of the following would be the best source of information for use in the estimate of cash?

Cash budgets.

Which of the following sets of information does an auditor usually confirm on one form?

Cash in bank and collateral for loans.

A company employs three accounts payable clerks and one treasurer. Their responsibilities are as follows: Clerk 1: Review vendor invoices for proper signature approval. Clerk 2: Enters vendor invoice into the accounting system and verifies payment terms. Clerk 3: Posts entered vendor invoices to accounts payable ledger for payment and mails checks. Treasurer: Review the vendor invoices and signs each check. Which of the following would indicate a weakness in the company's internal controls?

Clerk 3 mails the checks and remittances after they have been signed.

Narbona, CPA, is reviewing controls over cash received through a bank night depository. Which controls would she find most important?

Dual control (joint custody) is established over the contents of the night depository box from the time of removal until initial recording is completed.

True or false: When doing a WCGW analysis, the question the auditor should ask is, "Has the client designed and implemented a control that, if operating perfectly, would mitigate the identified risk of material misstatement?"

False [Reason: Perfection is not an option. The issue is if the control is operating effectively.]

Expenditure analysis is used when fraud has been discovered or strongly suspected and the information to calculate a suspect's income and expenditures can be obtained (e.g., asset and liability records, bank accounts). Expenditure analysis consists of establishing the suspect's known expenditures for all purposes for the relevant period, subtracting all known sources of funds (e.g., wages, gifts, inheritances, bank balances), and identifying the difference as "expenditures financed by unknown sources of income."The law firm of Gleckel and Morris has hired you. The lawyers have been retained by Blade Manufacturing Company in a case involving a suspected kickback by a purchasing employee, E. J. Cunningham. Cunningham is suspected of taking kickbacks from Mason Varner, a salesman for Tanco Metals. Cunningham has denied the charges, but Lanier Gleckel, the lawyer in charge of the case, is convinced the kickbacks have occurred.Gleckel filed a civil action and subpoenaed Cunningham's financial records, including last year's bank statements. The beginning bank balance January 1 was $3,463 and the ending bank balance December 31 was $2,050. Over the intervening 12 months, Cunningham's per month gross salary was $3,600 with a net of $2,950. His house payments were $1,377 per month. In addition, he paid $2,361 per month on a new Mercedes 500 SEL and a total of $9,444 last year toward a new Nissan Maxima (including $5,000 down payment). He also purchased new state-of-the-art audio and video equipment for $18,763 with no down payment and made total payments of $5,532 on the equipment last year. A reasonable estimate of his household expenses during the period is $900 per month ($400 for food, $200 for utilities, and $300 for other items).

Income Sources: Beg balance: $3463 + $2950 x 12 = $35,400 End Balance: ($2050) Total Known Income Sources = $36,813 Expenditures: $1377 x 12 = $16,524 $2361 x 12 = $28,332 $900 x 12 = $10,800 + $9444 + $5532 Total Expenditures = $70,632 $70,632 - $36,813 = $33,819

An auditor has identified the controller's review of the bank reconciliation as a control to test. In connection with this test, the auditor interviews the controller to understand the specific data reviewed on the reconciliation. In addition, the auditor verifies that the bank reconciliation is properly prepared by the accountant and reviewed by the controller as evidenced by their respective sign-offs. Which of the following types of audit procedures do these actions illustrate?

Inquiry and inspection of records.

Presentation and disclosure

Investigate payments to related parties

In order for auditors to be able to recognize potential fraud, they must be aware of the basic characteristics of fraud. Which of the following is not a characteristic of fraud?

Negligence on the part of executive management.

Existence and accuracy

Obtain analyses of cash balances and reconcile them to general ledger

Which of the following should be performed by the persons opening the mail and recording payments?

Restrictive endorsement on all checks.

Which of these arrangements of duties could most likely lead to an embezzlement or theft?

The inventory warehouse manager has responsibility for making the physical inventory observation and reconciling discrepancies to the perpetual inventory records.

True or false: The bank reconciliation is an opportunity for management to monitor the separation of duties between cash receipts and disbursements.

True