Audit 11.2

Fact Pattern: The following was taken from the bank transfer schedule prepared during the audit of Fox Co.'s financial statements for the year ended December 31, Year 1. Assume all checks are dated and issued on December 30, Year 1. Disbursement Date Receipt Date Check Bank Accounts Per Per Per Per No. From To Books Bank Books Bank 101 National Federal Dec. 30 Jan. 4 Dec. 30 Jan. 3 202 County State Jan. 3 Jan. 2 Dec. 30 Dec. 31 303 Federal American Dec. 31 Jan. 3 Jan. 2 Jan. 2 404 State Republic Jan. 2 Jan. 2 Dec. 31 Jan. 2 Question: 8 Which of the following checks illustrate deposits or transfers in transit at December 31, Year 1?

#101 and #303. bc: A deposit or transfer in transit is one recorded in the entity's books as a receipt by the balance sheet date but not recorded as a deposit by the bank until the next period. Check #101 is a deposit or transfer in transit because the check was recorded in the books before the end of the year but not recorded by either bank until January. Check #303 is also a deposit or transfer in transit because the check was deducted from Federal's balance in December but was not added to American's balance until January.

Fact Pattern: The following was taken from the bank transfer schedule prepared during the audit of Fox Co.'s financial statements for the year ended December 31, Year 1. Assume all checks are dated and issued on December 30, Year 1. Disbursement Date Receipt Date Check Bank Accounts Per Per Per Per No. From To Books Bank Books Bank 101 National Federal Dec. 30 Jan. 4 Dec. 30 Jan. 3 202 County State Jan. 3 Jan. 2 Dec. 30 Dec. 31 303 Federal American Dec. 31 Jan. 3 Jan. 2 Jan. 2 404 State Republic Jan. 2 Jan. 2 Dec. 31 Jan. 2 Question: 7 Which of the following checks might indicate kiting?

#202 and #404. bc: Kiting is the recording of a deposit from an interbank transfer in the current period while failing to record the related disbursement until the next period. It is a fraud that exploits the lag (float period) between the deposit of a check in one account and the time it clears the bank on which it is drawn. Checks #202 and #404 may indicate kiting. They were recorded as receipts on the books in the current period. However, they were recorded as disbursements on the books in the next year.

Fact Pattern: Listed below are four of a client's interbank cash transfers, indicated by the numbers 1, 2, 3, and 4, for late December and early in the following January. Your answer choice for each question should be selected from this list. Bank Account One Bank Account Two Disbursing Date Receiving Date (Month/Day) (Month/Day) Per Per Per Per Bank Books Bank Books 1. 12/31 12/30 12/31 12/30 2. 1/2 12/30 12/31 12/31 3. 1/3 12/31 1/2 1/2 4. 1/3 12/31 1/2 12/31 Question: 14 Which of the cash transfers would not appear as an outstanding check on the December 31 bank reconciliation?

1 bc: An outstanding check is written on the disbursing bank in the current period, but does not clear the bank until the subsequent period. Transfer (1) does not reflect an outstanding check because the disbursement was recorded in the books on 12/30 and by the bank on 12/31.

Which of the following cash transfers results in a misstatement of cash at December 31, Year 1? Bank Transfer Schedule Disbursement Receipt Recorded Paid by Recorded Received in Books Bank in Books by Bank

1/4/Yr 2 1/5/Yr 2 12/31/Yr 1 1/4/Yr 2 bc: An error in cash cutoff occurs if one half of the transaction is recorded in the current period and one half in the subsequent period. Inspection of the Recorded in Books columns indicates the transfer was recorded as a receipt on 12/31/Yr 1 but not as a disbursement until 1/4/Yr 2. This discrepancy is an error in cutoff called a kite, and it overstates the cash balance.

Fact Pattern: Listed below are four of a client's interbank cash transfers, indicated by the numbers 1, 2, 3, and 4, for late December and early in the following January. Your answer choice for each question should be selected from this list. Bank Account One Bank Account Two Disbursing Date Receiving Date (Month/Day) (Month/Day) Per Per Per Per Bank Books Bank Books 1. 12/31 12/30 12/31 12/30 2. 1/2 12/30 12/31 12/31 3. 1/3 12/31 1/2 1/2 4. 1/3 12/31 1/2 12/31 Question: 13 Which of the cash transfers would appear as a deposit in transit on the December 31 bank reconciliation?

4 bc: A deposit in transit is one recorded in the books as a receipt by the balance sheet date, but is not recorded as a deposit by the bank until the next period. Transfer (4) is a deposit in transit because it was recorded as a receipt in the books on 12/31 but not as a deposit by the bank until 1/2.

The best evidence regarding year-end bank balances is documented in the

Bank reconciliations. bc: A bank reconciliation verifies the agreement of the bank statements obtained directly from the institution and the amount of cash reported in the financial statements. These amounts should be equal after adjustment for deposits in transit, outstanding checks, bank charges, etc. Thus, a bank reconciliation documents direct (primary) evidence of the year-end bank balance.

The usefulness of the standard bank confirmation request may be limited because the bank employee who completes the form may

Be unaware of all the financial relationships that the bank has with the client. bc: The standard form is designed to substantiate only the information that is stated on the confirmation request. Thus, the auditor should be aware that the standard form is not intended to elicit evidence about the completeness assertion. The individual completing the form may not be aware of all the financial relationships that the bank has with the client.

An auditor should test bank transfers for the last part of the audit period and first part of the subsequent period to detect whether

Cash balances were overstated because of kiting. bc: Kiting is the recording of a deposit from an interbank transfer in the current period while failing to record the related disbursement until the next period. It is a fraud that exploits the lag (float period) between the deposit of a check in one account and the time it clears the bank on which it is drawn. To detect kiting, the auditor should examine a schedule of bank transfers for a period covering a few days before and after the balance sheet date. For the procedure to be effective, however, the auditor should be assured that all transfers have been identified.

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

Cash in bank and collateral for loans. bc: The AICPA Standard Form to Confirm Account Balance Information with Financial Institutions is used by auditors to confirm the deposit balance held by the bank for a client. In addition, this confirmation requests loan information, such as a description of the collateral securing the loan.

The primary purpose of sending a standard confirmation request to financial institutions with which the client has done business during the year is to

Corroborate information regarding deposit and loan balances. bc: The AICPA Standard Form to Confirm Account Balance Information with Financial Institutions is used to confirm specifically listed deposit and loan balances. The form confirms the account name, account number, interest rate, and balance for deposits.

When auditing a client's statement of cash flows, an auditor will rely primarily upon

Cross-referencing to balances and transactions considered in connection with the audit of the other financial statements. bc: The statement of cash flows represents balances taken from the other statements as well as analysis of changes in those balances. Consequently, this statement is audited in conjunction with the balance sheet and income statement accounts.

Fact Pattern: Miles Company Bank Transfer Schedule December 31 Date Date Disbursed Deposited Accounts Per Per Check Number From To Amount Books Bank Books Bank 2020 1st Natl. Suburban $32,000 12/31 1/5 þ 12/31 1/3Ø 2021 1st Natl. Capital 21,000 12/31 1/4 þ 12/31 1/3Ø 3217 2nd State Suburban 6,700 1/3 1/5 1/3 1/6 0659 Midtown Suburban 5,500 12/30 1/5 þ 12/30 1/3Ø Question: 16 The tick mark Ø most likely indicates that the amount was traced to the

Deposits in transit of the applicable bank reconciliation. bc: The tick marks indicate transfers recorded by the depository banks in January that were recorded in the books in December. Accordingly, these transactions were deposits in transit at December 31 and should have been included in the appropriate bank reconciliations.

On the last day of the fiscal year, the cash disbursements clerk drew a company check on bank A and deposited the check in the company account bank B to cover a previous theft of cash. The disbursement has not been recorded. The auditor will best detect this form of kiting by

Examining paid checks returned with the bank statement of the next accounting period after year end. bc: Because the check used to make the bank transfer is not recorded in the current period, the check is not listed as outstanding on the reconciliation of the bank account on which it was drawn. The auditor detects kiting by comparing paid checks, returned in the next period and dated prior to year end, with the checks listed as outstanding on the related bank reconciliation. In other words, the auditor searches for checks that should have been listed as outstanding but were not.

The standard AICPA form to financial institutions requesting information on direct liabilities on loans asks for the following information The Principal Description of Date through which Amount Paid Collateral Interest is Paid

No Yes Yes bc: The principal amount paid on a direct liability is not listed on the Standard Form to Confirm Account Balance Information with Financial Institutions. The form confirms account number/description, balance, due date, interest rate, date through which interest is paid, and a description of collateral.

Fact Pattern: Miles Company Bank Transfer Schedule December 31 Date Date Disbursed Deposited Accounts Per Per Check Number From To Amount Books Bank Books Bank 2020 1st Natl. Suburban $32,000 12/31 1/5 þ 12/31 1/3Ø 2021 1st Natl. Capital 21,000 12/31 1/4 þ 12/31 1/3Ø 3217 2nd State Suburban 6,700 1/3 1/5 1/3 1/6 0659 Midtown Suburban 5,500 12/30 1/5 þ 12/30 1/3Ø Question: 15 The tick mark þ likely indicates that the amount was traced to the

Outstanding check list of the applicable bank reconciliation. bc: The tick marks indicate the dates amounts were disbursed according to the bank. In each case, the amount was recorded in the books at the end of the preceding period. Because the checks traced had not cleared at December 31, they would not have been included in the December bank statement. Thus, these outstanding checks are reconciling items (differences between the books and the December bank statements for the respective drawee banks).

Which of the following would be a consideration in planning a sample for a test of subsequent cash receipts?

Preliminary judgments about materiality levels. bc: Judgments about materiality will affect the sample sizes in a variables sampling plan. The smaller the levels of materiality, the larger the sample sizes needed to support the auditor's conclusions.

Which of the following procedures would an auditor most likely perform in auditing the statement of cash flows?

Reconcile the amounts included in the statement of cash flows to the other financial statements' amounts. bc: The information presented on a statement of cash flows is taken from the income statement and balance sheet. Indeed, a reconciliation of net income and net operating cash flow is required to be presented. Thus, reconciliation of amounts in the statement of cash flows with other financial statements' balances and amounts is an important procedure in the audit of the statement of cash flows.

To establish illegal "slush funds," corporations may divert cash received in normal business operations. An auditor would encounter the greatest difficulty in detecting the diversion of proceeds from

Scrap sales. bc: Because scrap sales often provide little documentary evidence to corroborate cash receipts, it is difficult to detect abstraction of proceeds from unrecorded sales.

Assuming a low assessed risk of material misstatement, which of the following audit procedures would be least likely to be performed?

Search for unrecorded cash receipts. bc: GAAS do not specifically require a search for unrecorded cash receipts. Given a low assessed RMM, the auditor might decide to reduce the audit effort devoted to substantive tests of assertions about cash and omit the procedure.

An auditor ordinarily sends a standard confirmation request to all banks with which the client has done business during the year under audit, regardless of the year-end balance. A purpose of this procedure is to

Seek information about other deposit and loan amounts that come to the attention of the institution in the process of completing the confirmation. bc: The AICPA Standard Form to Confirm Account Balance Information with Financial Institutions is used to confirm specifically listed deposit and loan balances. Nevertheless, the standard confirmation form contains this language: "Although we do not request or expect you to conduct a comprehensive, detailed search of your records, if, during the process of completing this confirmation, additional information about other deposit and loan accounts we may have with you comes to your attention, please include such information below."

When counting cash on hand, the auditor must exercise control over all cash and other negotiable assets to prevent

Substitution. bc: Simultaneous verification of cash and cash equivalents, such as negotiable securities, is common practice to avoid the possibility of conversion of negotiable assets to cash to conceal a cash shortage. The auditor should control and verify all liquid assets at one time.

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?

The form was mailed by the controller. bc: The AICPA Standard Form to Confirm Account Balance Information with Financial Institutions is used for specific deposits and loans. A confirmation is signed (requested) by the client, but it should be sent by the auditor. Thus, the auditor should control confirmation requests and responses. Control means direct communication between the intended recipient and the auditor to minimize possible bias of the results because of interception and alteration of the requests or responses.

Many of the Granada Corporation's convertible bondholders have converted their bonds into stock during the year under audit. The independent auditor should review the Granada Corporation's statement of cash flows and related disclosures to ascertain that they show

The issuance of the stock and reduction in convertible debt. bc: Information about noncash financing and investing activities must be reported in related disclosures but not on the face of the statement of cash flows. Exclusion of such transactions from the statement avoids complicating it and emphasizes the entity's cash receipts and payments. The issuance of stock and the reduction of convertible debt should therefore be disclosed in a related but separate schedule. All financing (and investing) activities during the period should be reported, including those that do not directly affect cash.

The standard AICPA form directed to financial institutions requests all of the following except

The principal amount paid on a direct liability. bc: The principal amount paid on a direct liability is not listed on the Standard Form to Confirm Account Balance Information with Financial Institutions. The auditor is not concerned with the amount of a liability already paid. The form confirms account number/description, balance, due date, interest rate, date through which interest is paid, and description of collateral.

Which of the following is not a principal objective of the auditor in the audit of revenues?

To verify cash deposited during the year. bc: The verification of cash deposits during the year is not part of the audit of revenues. Verification of cash and marketable securities is undertaken as a separate part of the audit program.

A company issued bonds for cash during the year under audit. To ascertain that this transaction was properly recorded, the auditor's best course of action is to

Trace the cash received from the issuance to the accounting records. bc: The auditor's best course of action is to trace the cash received from the issuance of the bonds into the accounting records to gather evidence that the transaction was recorded in the proper amounts in the appropriate accounts.