Final Exam Free Response

The auditors may decide to confirm accounts payable on an audit engagement. a. Describe two reasons why the confirmation of accounts payable is not a presumptively mandatory auditing procedure. b. Describe the audit circumstances in which the auditors are likely to decide to confirm accounts payable. c. Describe the types of accounts payable the auditors are likely to select for confirmation.

a. Confirmation of accounts payable is not a presumptively mandatory auditing procedure because: 1. The auditors' primary objective with respect to accounts payable is establishing completeness, and confirmation is primarily a test of existence, and 2. There is a large amount of reliable evidence in the client's possession supporting the amount of accounts payable, such as vendors' statements. b. The auditors are likely to decide to confirm accounts payable when the extent of the evidence available in the client's possession is not sufficient. c. The auditors select accounts that are more likely to be in error, such as accounts with a high degree of activity. Accounts with zero balances may also be selected.

William & Plaud are group auditors for the Lowell Corporation. One of the subsidiaries of Lowell Corporation, Wilson Manufacturing Co., is audited by Lyle & Adams. a. If William & Plaud make reference in their report to reliance on the report of the component auditors are they qualifying their opinion? Explain. b. Regardless of whether William & Plaud make reference to reliance on the report of the component auditors, they should perform certain procedures with respect to Lyle and Adams' audit. What are these procedures?

a. No. The auditors are indicating a division of responsibility between them and the component auditors. b. When a component auditor exists, the group auditor should determine whether sufficient appropriate audit evidence can reasonably be expected to be obtained regarding overall group controls, the consolidation process and the financial information on the components. In addition, the group engagement team should obtain an understanding of whether the component auditor is competent and understands and will comply with all ethical requirements, particularly independence. • The extent to which the group engagement team will be involved with the component auditor. • Whether the group engagement team will be able to obtain necessary information on the consolidation process from the component auditor. • Whether the component auditor operates in a regulatory environment that actively oversees auditors. The group auditor should communicate with the component auditor, including informing the component auditor of how its work will be used, ethical requirements, providing a list of related parties, and identifying significant risk of misstatements of the group financial statements.

In the audit of interest-bearing debt auditors identify audit objectives and then determine appropriate audit procedures. a. List the audit objectives for substantive tests of interest-bearing debt. b. List seven substantive tests for interest-bearing debt to help the auditors meet the audit objectives.

a. The audit objectives for substantive tests of interest-bearing debt are: 1. Use the understanding of the client and its environment to consider inherent risks, including fraud risks, related to debt. 2. Obtain an understanding of internal control over owners' equity. 3. Assess the risks of material misstatement and design tests of controls and substantive procedures that a. Substantiate the existence of debt and the occurrence of the related transactions. b. Establish the completeness of recorded debt. c. Verify the cutoff of transactions affecting debt. d. Determine that the client has obligations to pay the recorded debt. e. Establish the proper valuation of interest-bearing debt and the accuracy of transactions affecting debt. f. Determine that the presentation and disclosure of interest-bearing debt are appropriate, including disclosure of the major provisions of loan agreements. b. Substantive tests for interest-bearing debt include (seven required): 1. Obtain analyses of interest-bearing debt and related accounts. 2. Examine copies of notes payable and supporting documents. 3. Confirm interest-bearing debt. 4. Vouch borrowing and repayment transactions. 5. Perform analytical procedures. 6. Test computations of interest expense, interest payable, and amortization of discount and premium. 7. Evaluate whether debt provisions have been met. 8. Verify authority for issuance of debt to corporate minutes. 9. Review notes payable paid or renewed after the balance sheet date. 10. Perform procedures to identify notes payable to related parties. 11. Send confirmation letters about financing arrangements. 12. Evaluate financial statement presentation and disclosure.

A major concern of the auditors is obtaining evidence about the completeness of recorded accounts payable. a. Describe the reason that the auditors are concerned with the completeness of accounts payable. b. Describe three ways in which the auditors establish the completeness of accounts payable.

a. The auditors are concerned about completeness of accounts payable because the company's financial strength is exaggerated by an understatement of liabilities. b. Procedures used to establish the completeness of recorded accounts payable include (only three required): • Confirmation of accounts payable. • Reconciliation of liabilities with vendor statements. • Comparison of cash payments subsequent to the balance sheet date with the accounts payable trial balance. • Investigation of unmatched invoices and unbilled receiving reports. • Investigation of invoices received subsequent to the balance sheet date.

Auditors are concerned with the existence of loss contingencies that may affect the client's financial statements. One way that the auditors obtain evidence about existing loss contingencies is through the lawyer's letter. a. Describe the information that the auditors wish to obtain about the litigation being handled by a lawyer. b. Describe three other procedures that are used by auditors to discover existing loss contingencies.

a. The auditors wish to obtain the following information about litigation: 1. A description of the litigation situation and the accounting period to which it relates, 2. The estimated amount of loss, and 3. The probability of occurrence of the loss. b. Other procedures used by auditors to detect loss contingencies include (only three required): • Review the minutes of directors' meetings. • Review correspondence with financial institutions. • Obtain a representations letter from the client. • Review prior tax returns.

To establish effective internal control over a corporation's stock transactions, the corporation should utilize the services of an independent registrar and transfer agent. a. Describe the functions performed by the stock registrar. b. Describe the functions performed by the transfer agent. c. Describe the information that is typically requested by the auditors in a confirmation sent to the registrar.

a. The stock registrar controls the corporation's issuance of stock to avoid overissuance. b. The stock transfer agent maintains the detail stockholder records and handles the transfer of stock from one shareholder to another. c. The auditors typically confirm the following information with the stock registrar and transfer agent: • The number of shares issued. • The number of shares held in the company name, or the number of shares outstanding.

Auditors must be concerned with events that occur subsequent to the balance sheet date, because the events may need to be reflected in the financial statements. a. Describe the two general types of subsequent events. b. What is the auditors' responsibility with respect to detecting subsequent events? c. List three audit procedures that are used by the auditors to search for subsequent events.

a. The two types of subsequent events are: Type 1--events that provide additional evidence about conditions that existed at the balance sheet date and affect the estimates included in the statements. Type 2--events that provide evidence about conditions that arose subsequent to the balance sheet date and require disclosure in the financial statements. b. Auditors have a responsibility to search for material subsequent events to the date of the auditors' report. c. Procedures that are used to search for subsequent events include (only three required): • Review interim financial statements. • Review minutes of directors' and stockholders' meetings. • Make inquiries of officers. • Obtain a letter from the client's attorney. • Obtain a letter of representations from management.