Chapter 16 Multiple Choice

The auditors' primary means of obtaining corroboration of management's information concerning litigation is a: a. Letter of audit inquiry to the client's lawyer. b. Letter of corroboration from the auditor's lawyer upon review of the legal documentation. c. Confirmation of claims and assessments from the other parties to the litigation. d. Confirmation of claims and assessments from an officer of the court presiding over the litigation.

a. Letter of audit inquiry to the client's lawyer.

Which of the following is the best reason why the auditors should consider observing a client's distribution of regular payroll checks? a. Separation of payroll duties is less than adequate for effective internal control. b.total payroll costs are a significant part of total operating costs. c. The auditors did not observe the distribution of the entire regular payroll during the audit in the prior year. d. Employee turnover is excessive.

a. Separation of payroll duties is less than adequate for effective internal control.

A refusal by a lawyer to furnish information related to litigation included in the letter of inquiry is likely to result in: a. Confirmation of related lawsuits with the claimants. b. Qualification of the audit report. c. An assessment that loss of the litigation is probable. d. An adverse opinion.

b. Qualification of the audit report.

Which of the following is the best way for the auditors to determine that every name on a company's payroll is that of a bona fide employee presently on the job? a. Examine human resources records for accuracy and completeness. b. Examine employees' names listed on payroll tax returns for agreement with payroll accounting records. c. Make a surprise observation of the company's regular distribution of paychecks on a test basis. d. Visit the working areas and verify that employees exist by examining their badge or identification numbers.

c. Make a surprise observation of the company's regular distribution of paychecks on a test basis.

The date the auditor grants the client permission to use the audit report in connection with the financial statements is the: a. Last day of significant field work. b. Report cutoff date. c. Report release date. d. Representation date.

c. Report release date.

Auditors should perform audit procedures relating to subsequent events? a. Through year-end. b. Through issuance of the audit report. c. Through the date of the audit report. d. For a reasonable period after year-end.

c. Through the date of the audit report.

Which of the following material events occurring subsequent to the balance sheet date would require an adjustment to the financial statements before they could be issued? a. Sale of long-term debt or capital stock. b. Loss of a plant as a result of a flood. c. Major purchase of a business which is expected to double the sales volume. d. Settlement of litigation in excess of the recorded liability.

d. Settlement of litigation in excess of the recorded liability.

Which of the following is least likely to be considered a substantive procedure relating to payroll? a. Investigate fluctuations in salaries, wages, and commissions. b. Test computations of compensation under profit sharing for bonus plans. c. Test commission earnings. d. Test whether employee time reports are approved by supervisors.

d. Test whether employee time reports are approved by supervisors.

With respect to issuance of an audit report which is dual-dated for a subsequent event occurring after the completion of fieldwork but before issuance of the auditors' report, the auditors' responsibility for events occurring subsequent to the date of the audit report is: a. Extended to include all events occurring until the date of the last subsequent event referred to. b. Limited to the specific event referred to. c. Limited to all events occurring through the date of issuance of the report. d. Extended to include all events occurring through the date of submission of the report to the client.

b. Limited to the specific event referred to.

An auditor will ordinarily examine invoices from lawyers primarily in order to: a. Substantiate accruals. b. Assess the legal ramifications of litigation in progress. c. Estimate the dollar amount of contingent liabilities. d.. Identify possible unasserted litigation, claims, and assessments.

d.. Identify possible unasserted litigation, claims, and assessments

A client's previous two years of financial statements understated estimated warranty payable by $30,000 and $50,000 respectively, both immaterial amounts. This year, the auditors estimate that the accrual is understated by an additional $60,000. In this year's audit, $100,000 represents a material amount. Assuming that the entire understatement is to be recorded based on SEC SAB 108, the decrease in this year's income due to these understatements is: $0. $60,000. $110,000. $140,000.

$140,000.

A client's previous two years financial statements understated estimated warranty payable by $30,000 and $50,000 respectively, both immaterial amounts. This year, the auditors estimate that the accrual is understated by an additional $60,000. In this year's audit, $55,000 represents a material amount. Assuming that the entire understatement is to be recorded based on SEC SAB 108, the decrease in this year's income due to these understatements is: $0. $60,000. $110,000. $140,000.

$60,000.

If, after issuing an audit report, the auditors find that they have failed to perform certain significant audit procedures they should first: a. Attempt to determine whether their report is still being relied upon by third parties. b. Notify regulatory agencies. c. Notify legal counsel. d. Wait until the beginning of the next year's audit to determine whether misstatements have occurred.

a. Attempt to determine whether their report is still being relied upon by third parties.

Which of the following is not a procedure that is designed to provide evidence about the existence of loss contingencies? a. Obtaining a lawyers' letter. b. Confirming accounts payable. c. Reviewing the minutes of board of directors' meetings. d. Review correspondence with banks.

b. Confirming accounts payable

Subsequent to the issuance of the auditor's report, the auditor became aware of facts existing at the report date that would have affected the report had the auditor then been aware of such facts. After determining that the information is reliable, the auditor should next: a. Notify the board of directors that the auditor's report must no longer be associated with the financial statements. b. Determine whether there are persons relying or likely to rely on the financial statements who would attach importance to the information. c. Request that management disclose the effects of the newly discovered information by adding a footnote to subsequently issued financial statements. d. Issue revised pro forma financial statements taking into consideration the newly discovered information.

b. Determine whether there are persons relying or likely to rely on the financial statements who would attach importance to the information.

A possible loss, stemming from past events that will be resolved as to existence and amounts, is referred to as a(n): a. Analytical process. b. Loss contingency. c. Probable loss. d. Unasserted claim.

b. Loss contingency.

Which of the following subsequent events might require an adjustment to the client's financial statements? a. A business combination with another company. b. Loss on the sale of a closely-held investment. c. Loss of plant and equipment due to a fire. d. Retirement of bonds payable at a loss.

b. Loss on the sale of a closely-held investment.

Which of the following is most likely to be considered a Type 1 subsequent event? a. A business combination completed after year-end, but for which negotiations began prior to year-end. b. A strike subsequent to year-end due to employee complaints about working conditions which originated two years ago. c. Customer checks deposited prior to year-end, but determined to be uncollectible after year-end. d. Introduction of a new line of products after year-end for which major research had been completed prior to year-end.

c. Customer checks deposited prior to year-end, but determined to be uncollectible after year-end.

The search for unrecorded liabilities for a public company includes procedures usually performed through the: a. Day the audit report is issued. b. End of the client's year. c. Date of the auditors' report. d. Date the report is filed with the SEC.

c. Date of the auditors' report.

The review of audit working papers by the audit partner is normally completed: a. Prior to year-end. b. Immediately as each working paper is completed. c. Near the completion of the audit. d. After issuance of the audit report, but prior to required subsequent event review procedures.

c. Near the completion of the audit.

Which of the following is an analytical procedure that should be applied to the income statement? a. Select sales and expense items and trace amounts to related supporting documents. b. Ascertain that the net income amount in the statement of cash flows agrees with the net income amount in the income statement. c. Obtain from the proper client representatives, the beginning and ending inventory amounts that were used to determine costs of sales. d. Compare the actual revenues and expenses with the corresponding figures of the previous year and investigate significant differences.

d. Compare the actual revenues and expenses with the corresponding figures of the previous year and investigate significant differences.

Which of the following is not a procedure normally performed while completing the audit of a public company? a. Obtain a lawyer's letter. b. Obtain a representations letter. c. Perform an overall review using analytical procedures. d. Confirm directly with shareholders the total capital stock held by each.

d. Confirm directly with shareholders the total capital stock held by each.

Auditors often request that the audit client send a letter of inquiry to those attorneys who have been consulted with respect to litigation, claims, or assessments. The primary reason for this request is to provide the auditors with: a. An estimate of the dollar amount of the probable loss. b. An expert opinion as to whether a loss is possible, probable, or remote. c. Information concerning the progress of cases to date. d. Corroborative audit evidence.

d. Corroborative audit evidence

As a result of analytical procedures, the independent auditors determine that the gross profit percentage has declined from 30 percent in the preceding year to 20 percent in the current year. The auditors should: a. Express an opinion that is qualified due to the inability of the client company to continue as a going concern. b. Evaluate management's performance in causing this decline. c. Require note disclosure. d. Consider the possibility of a misstatement in the financial statements.

d. Consider the possibility of a misstatement in the financial statements.

Which of the following procedures would an auditor most likely perform while evaluating audit findings at the conclusion of an audit? a. Obtain assurance from the entity's attorney that all material litigation has been disclosed in the financial statements. b. Verify the clerical accuracy of the entity's proof of cash and its bank cutoff statement. c. Determine whether reportable conditions have been corrected. d. Develop an estimate of the total likely misstatement in the financial statements.

d. Develop an estimate of the total likely misstatement in the financial statements.

Material loss contingencies should be recorded in the financial statements if available information indicates it is probable that a loss had been sustained prior to the balance sheet date and the amount of such loss can be reasonably estimated. These considerations will affect the audit report as follows: a. If a loss has been recorded in accordance with these criteria, the auditor may issue an unqualified opinion but is required to point out the contingency in an explanatory paragraph of the report. b. If a loss meets these criteria but is disclosed in the financial statement notes rather than being recorded therein, the auditor may issue an unqualified opinion, but is required to point out the contingency in an explanatory paragraph of the report. c. If a loss meets these criteria but is disclosed in the financial statement notes rather than being recorded therein, the auditor may issue an unqualified opinion, but should consider adding an explanatory paragraph as a means of emphasizing the disclosure. d. If a loss is probable but the amount cannot be reasonably estimated and is disclosed in the notes to the financial statements rather than being recorded therein, the auditor may issue an unqualified opinion.

d. If a loss is probable but the amount cannot be reasonably estimated and is disclosed in the notes to the financial statements rather than being recorded therein, the auditor may issue an unqualified opinion.

One reason why the independent auditors perform analytical procedures on the client's operations is to identify: a. Weaknesses of a material nature in internal control. b. Noncompliance with prescribed control procedures. c. Improper separation of accounting and other financial duties. d. Unusual transactions.

d. Unusual transactions

Authorization of which of the following is least likely to be found during a review of the minutes of the board of directors? a. Dividends. b. New debt issuance. c. New bank accounts. d. Write-off of trade accounts receivable.

d. Write-off of trade accounts receivable.

Which of the following procedures is most likely to be included near completion of an audit? a. Obtain an understanding of internal control. b. Confirmation of receivables. c. Observation of inventory. d. Perform analytical procedures.

d. Perform analytical procedures.

Which of the following is not a procedure that auditors typically perform to search for significant events during the period after year-end but prior to the audit report date? a. Review minutes of board of directors' meeting. b. Review the latest available interim financial statements. c. Inquire about any unusual adjustments made subsequent to the balance sheet date. d. Review changes in internal control during the period subsequent to the balance sheet date.

d. Review changes in internal control during the period subsequent to the balance sheet date.

Which of the following types of matters do not generally require disclosure in the financial statements? a. General risk contingencies. b. Commitments. c. Loss contingencies. d. Liabilities to related parties.

a. General risk contingencies.

Auditors must communicate internal control "significant deficiencies" to: a. The audit committee. b. The shareholders. c. The SEC. d. The Federal Trade Commission.

a. The audit committee.

Which of the following statements ordinarily is not included among the written client representations made by the chief executive officer and the chief financial officer? a. "Sufficient audit evidence has been made available to the auditor to permit the issuance of an unqualified opinion." b. "There are no unasserted claims or assessments that our lawyer has advised us are probable of assertion and must be disclosed." c. "We have no plans or intentions that may materially affect the carrying value or classification of assets and liabilities." d. "No events have occurred subsequent to the balance sheet date that would require adjustment to, or disclosure in, the financial statements."

a. "Sufficient audit evidence has been made available to the auditor to permit the issuance of an unqualified opinion."

In auditing the balance sheet, most revenue and expense accounts are also audited. Which accounts are most likely to be audited when auditing Accounts Receivable? a. Sales and Cost of Goods Sold. b. Interest and Bad Debt Expense. c. Sales and Bad Debt Expense. d. Interest and Cost of Goods Sold.

c. Sales and Bad Debt Expense.

The statement that best expresses the auditor's responsibility with respect to events occurring between the balance sheet date and the end of the audit is that: a. The auditor has no responsibility for events occurring in the subsequent period unless these events affect transactions recorded on or before the balance sheet date. b. The auditor's responsibility is to determine that a proper cutoff has been made and that transactions recorded on or before the balance sheet date actually occurred. c. The auditor is fully responsible for events occurring in the subsequent period and should extend all detailed procedures through the last day of field work. d. The auditor is responsible for determining that a proper cutoff has been made and performing a general review of events occurring in the subsequent period.

d. The auditor is responsible for determining that a proper cutoff has been made and performing a general review of events occurring in the subsequent period.