Chapter 10 Auditing Terms/HW

1. Finance and Investment Cycle

The purpose is to ensure that the entity has enough cash to operate the business. Entities can fund capital needs through their operations, but additional needs must be fulfilled by financing activities. -Starts with cash flow forecast by the CFO. -forecast informs the board of directors and mgmt of the business plans, the prospects for cash inflows, and the total needs for cash outflows.

joint custody

The safeguarding of assets by placing them in a secured area that requires two people to access (e.g., a cabinet with two locks to which no individual has both keys).

In order to improve the bottom line, managers are motivated to classify securities as ______ when the market is doing well. -trading -held to maturity -available for sale

Trading

Select all that apply Complex transactions that can be used as vehicles to hide fraud include ______. Multiple select question. a. instruments with both debt and equity characteristics b. mergers and acquisitions c. recording of long-term capital lease obligations d. long-term discounted notes payable

a, b

Select all that apply Existence/occurrence, completeness, valuation and presentation and disclosure are all relevant assertions for ______. Multiple select question. a. investments b. long-term debt c. capital stock d. retained earnings

a, b

Select all that apply Difficult-to-value assets include ______. Multiple select question. a. financial instruments b. investments in unique assets c. goodwill d. most loans and receivables

a, b, c

Select all that apply Off-balance sheet transactions ______. Multiple select question. a. often cause financial reporting and disclosure problems b. have been reduced by new accounting standards c. include fixed price commitments d. include capital leases but exclude operating leases

a, b, c

Select all that apply When auditing employee share option plans, auditors must ______. Multiple select question. a. follow standards for auditing fair value estimates b. ensure Board of Director approval of the plan c. follow standards for auditing accounting estimates d. ensure valuation is based on market value

a, b, c

Select all that apply Problems in the finance and investment cycle can occur because ______. Multiple select question. a. complex transactions make accounting difficult b. of intentional errors in management estimates c. transactions are infrequent d. auditors fail to properly perform tests of controls

a, b, c,

Select all that apply Transactions in the finance and investment cycle ______. Multiple select question. a. have been a leading cause of financial statement restatements b. can be inherently risky for the auditor c. must be understood by the client's accountants d. have resulted in many auditing standards being revoked

a, b, c,

Select all that apply Difficult-to-value assets include Blank______. Multiple select question. a. debt and equity securities b. intangible assets c. pension assets and liabilities d. derivatives e. assets acquired in exchange for services

a, b, c, d

Select all that apply Difficult-to-value assets include Blank______. Multiple select question. a. derivatives b. intangible assets c. assets acquired in exchange for services d. pension assets and liabilities e. debt and equity securities

a, b, c, e

Select all that apply Loan covenant violations ______. Multiple select question. a. may cause managers to misstate other accounts b. may lead to an audit report modification c. cannot force a borrower into bankruptcy d. allow the lender to call the debt

a, b, d

Select all that apply Off-balance-sheet information includes ______. Multiple select question. a. loan agreements b. endorsements c. PP&E schedules d. insurance policies

a, b, d

Select all that apply The auditor's primary relevant assertion concerns surrounding typical marketable securities are _blank_. Multiple select question. a. existence and b. completeness c. valuation d. presentation and disclosure

a, c

Select all that apply "Calculated liabilities and credits" ______. Multiple select question. a. are accounting transactions calculated using basic company data b. transactions require lengthy auditor discussion c. often involve significant management estimates d. do not require company accounts to follow generally accepted accounting principles

a, c, b

Select all that apply A securities count ______. Multiple select question. a. may be part of interim testing b. should only be done with client personnel present c. is similar to a physical inventory count d. should be performed by company personnel on an annual basis

a, c, b

Select all that apply Off-balance sheet transactions include ______. Multiple select question. a. endorsements on discounted notes b. all company stock options c. repurchase agreements d. letters of credit

a, c, d

Select all that apply Record keeping for many types of investments and intangibles ______. Multiple select question. a. require management estimates b. are ripe areas for overstatement of liabilities c. are ripe areas for understatement of expenses d. involve complex accounting standards

a, c, d

Select all that apply "Calculated liabilities and credits" include ______. Multiple select question. a. foreign currency translation gains b. current retirement benefits c. lease obligations d. deferred income taxes

a, c, d,

Select all that apply Transactions in the finance and investment cycle ______. Multiple select question. a. may require third parties to control management b. are more frequent than in other cycles c. are often large and complex d. include transactions that are difficult to value

a, c, d,

An approximation of a financial statement element, item or account is called a(n) _____ _____.

accounting estimate

Salvage values, security valuations, goodwill impairment and imputed interest rates are all examples of _____ ____.

accounting estimates

Auditors must ensure that a sale made to related parties is the equivalent of a(n) _____-_____ transaction.

arm's length

The classification of a security as trading or _____ _____ _____ affects whether changes in value influence net income.

available for sale

Select all that apply Investment policy approval ______. Multiple select question. a. is fairly uniform across companies b. must be understood and tested by auditors c. should rest with those charged with governance

b, c

Select all that apply Material misstatements can incur when Blank______. Multiple select question. a. companies have taken a "big bath" in a bad year b. impairment write-offs have been delayed c. assets are overstated due to impairment

b, c

Select all that apply New leasing standards ______. Multiple select question. a. increase the ability of management to structure lease transactions b. require all leases greater than 12 months to be capitalized c. require all leases to be accounted for using imputed present value estimates d. decrease audit risk for lease transactions

b, c

Common problems in the finance and investment cycle are often the result of failure to ______. Multiple select question. a. properly amortize goodwill b. record and disclosure transactions c. appropriately adjust asset valuations as needed d. record operating leases as assets

b, c,

Select all that apply ASC 718 requires that employee stock-based compensation plans be ______. Multiple select question. a. recorded based on fair value accounting as defined in ASC 820 b. credited to paid-in-capital c. expensed over the compensation period d. recorded when the award is granted

b, c, d

Select all that apply Transactions in the financing and investment cycle ______. Multiple select question. a. are recorded in a journal designed for those transactions b. occur infrequently c. are for large dollar amounts d. vary greatly in type

b, c, d

Select all that apply When considering controls over those who do record keeping in the finance and investment cycle ______. Multiple select question. a. auditors should ensure that upper management is responsible for the reconciliation function b. hiring practices may be considered c. evidence from prior audits can indicate employee competence levels d. employee turnover is a significant risk factor

b, c, d

Select all that apply Which of the following statements are correct? Multiple select question. a. Auditors normally examine samples of significant finance and investment transactions for tests of controls. b. Tests of controls in the finance and investment cycle for nonpublic clients may be limited to entity level. c. A lack of controls in the finance and investment cycle can lead to significant extended procedures. d. Reliance on controls does not normally reduce the extent of substantive procedures on finance and investment cycle accounts.

b, c, d

When auditing fair value measurements, the auditor must determine if the valuation principles used are ______. Multiple select question. a. one of the specific methods allowed under GAAP b. supported by documentation c. properly disclosed d. consistently applied

b, c, d,

Select all that apply Auditors' tests of controls over the estimation process include ______. Multiple select question. a. reperformance b. making inquiries c. recalculation d. observations

b, d,

New leasing standards ______. Multiple select question. a. require all leases less than 24 months to be capitalized b. reduce the risk of off-balance sheet transactions c. increase disclosure requirements d. increase risk for lease auditing

c, b, d

Select all that apply Which of the following statements are true? Multiple select question. a. Government debentures are relatively complex to audit. b. The majority of companies in the U.S. are entirely equity financed. c. Investment type can have a huge influence on the effort required by the auditor. d. There is not a "typical" finance and investment cycle that applies to all companies.

c, d

Financial planning starts with the ______. Multiple choice question. -cash flow forecast -capital budget -board of directors

cash flow forecast

When auditing long-term liabilities and related accounting, the most important balance sheet assertions are _____ along with _____ and _____.

completeness, presentation, disclosure

To obtain responses on a class of items termed off-balance-sheet information, auditors may use _____ and _____ procedures.

confirmation, inquiry

An instrument that takes its value from another asset or index is a(n) _____.

derivative

Inquiries should be made regarding the nature of investments and the reasons for holding them, especially _____ securities used for hedging activities.

derivative

Interest rate swaps, options and futures contracts are all examples of _____.

derivatives

Auditors need to obtain audited financial statements of the investee company when the _____ method of accounting is used for investments.

equity

Auditing fair value measurements is similar to auditing accounting _____.

estimates

Regarding the finance and investment cycle, most relevant assertions and the amount of work to be done is _______. Multiple choice question. -hugely impacted by the type of investment -fairly consistent across companies and industries

hugely impacted by the type of investment

The amount and terms of bonds payable, mortgages payable, and other formal debt instruments can be verified by reading the bond _____.

indenture

When it is not possible for one person to access a safe, cabinet or drawer, a strict form of dual control, known as _______ ________ has been implemented.

joint custody

According to KPMG, "the process of reaching a decision or drawing a conclusion where there are a number of possible alternative solutions" is ______. Multiple choice question. -skepticism -judgment -expertise -uncertainty

judgment

Clauses in borrowing agreements intended to keep the borrower's financial position at a level that will ensure repayment are called _____ _____.

loan covenants

With the exception of stock-based compensation plans, audits of stockholders' equity are considered to be ______ risk. -high -low -moderate

low

Record keeping complications for many types of investments and intangibles arise from ______. Multiple choice question. -the original recording of transactions -maintenance of the accounts over time -both the original recording and maintenance over time

maintenance of the accounts over time

Auditors typically approach audits of ______ transactions with a substantive approach. Multiple choice question. -routine -nonroutine -both routine and nonroutine

nonroutine

Certificate records are kept by a(n) ____________, who updates the records based on information from the transfer agent.

registrar

One that can exert significant influence over another is a(n) _____ party.

related

Off-book arrangements that are supposedly used to create joint ventures for new businesses but may be fraudulent are called _______ - _______ entities

special purpose

Audits of accounting estimates generally take a(n _______ approach.

substantive

Company stocks and bonds are normally handled by an intermediary called a(n) _______ _________.

transfer agent

True or false: Authorization is a critical issue for most of the transactions in the financing and investing cycle.

true

Auditors considering the design of internal controls in the finance and investment cycle typically perform a(n) _____ which involves starting with an inquiry of management about how processes are completed.

walkthrough

When the market is down, managers are motivated to classify securities as ______ to remove the losses from net income. -long-term investments -available for sale -trading

-available for sale

All investment policies should be approved by the ______. Multiple choice question. -company treasurer or chief financial officer -chief executive officer -board of directors or investment committee

-board of directors or investment committee

The authorization for the purchase of large assets will likely reside in the Blank______. Multiple choice question. -capital budget -finance committee meeting minutes -board of director meeting minutes

-capital budget

Completeness and presentation and disclosure are the only relevant assertions for ______. Multiple choice question. -investments -capital stock -long-term debt -retained earnings

-capital stock

An activity used because a specific standard control activity is not in place is called a(n) Blank______ control. (Enter only one word per blank.) Multiple choice question. -alternative -oversight -compensating -risk reduction

-compensating

Complex transactions are ______ the balance sheet. Multiple choice question. -only difficult to audit if they are kept off -difficult to audit even if they reach

-difficult to audit even if they reach

Marketable debt security investment classified as ______ are not subject to mark-to-market accounting on the face of financial statements. Multiple choice question. -held-to-maturity -trading securities -derivative instruments -available for sale

-held-to-maturity

Auditors typically approach audits of ______ transactions with a reliance approach. Multiple choice question. -nonroutine -both routine and nonroutine -routine

-routine

GAAP requires that impairments to asset values should normally be ______. Multiple choice question. -footnoted but not recorded -taken as losses when they occur -recorded directly to stockholders' equity

-taken as losses when they occur

Control risk for relevant assertions in the finance and investment cycle may be reduced if ______ is heavily involved in risk assessment and process evaluation. Multiple choice question. -the external auditor -the internal auditor -the audit committee -upper management

-the audit committee

transfer agent

A bank or other company employed by a corporation to maintain shareholder records, including purchases, sales, and account balances.

Stock Certificate books

A book (similar to a checkbook) with prenumbered stock certificates. These certificates are issued to investors with the custodian of the book recording the number of shares, the owner's name, the date of issue, and other identification information; basically used only by small companies that are not traded publicly.

Compensating Control

A control activity instituted by a company to offset the risk imposed by a weakness in another activity.

registrar

A financial institution appointed to record issue and ownership of company securities.

Derivative Instruments

A financial instrument whose value is based on an index or value of another financial instrument.

Capital Budget

A listing of the proposed expenditures for property, plant, and equipment or other capital items for a period of time (usually annually). The capital budget is submitted to senior management with corporate governance responsibilities for approval; is often a part of the annual budget.

Accounting Estimate

A measurement or recognition in the financial statements of (or a decision to not recognize) an account, disclosure, transaction, or event that generally involves subjective assumptions and measurement uncertainty.

special purpose entity (SPE)

A partnership formed by a company to pursue particular lines of business, often used to keep risky enterprises off the company's books. QSPE (qualified special purpose entity) is the newer term used by the FASB.

Loan Covenants

A provision in a loan agreement that requires the borrower to undertake or refrain from specified actions and to maintain specified financial levels and ratios. -May restrict payment of dividends, additional borrowings, or use of assets for collateral on other debt. -often require the borrower to maintain certain ratio levels (current ratio of no less than 2:1).

related party

A relationship between two businesses that have a personal or other association that might destroy the self-interest of one of the parties to an extent that one of them might be prevented from fully pursuing its own separate interests.

trustee

Agent of a bond issuer who handles the administrative aspects of a loan and ensures that the borrower complies with the terms of the bond indenture.

Hedging Instruments

An investment made to reduce the risk of adverse price movements in a security or future transaction by taking an offsetting position in a related security such as an option or a short sale.

Plans for asset purchases and business acquisitions are detailed in a(n) ________ budget.

Capital

Only high-ranking officers should have access to negotiable certificates and two people should be required to access the documents which is known as _____ _____ or in its strictest form, joint custody.

Dual control

True or false: A securities count should never be done as part of interim testing.

False

True or false: Special-purpose entities are off-book arrangements that may be used to enrich company officers and hide debt under the guise of creating joint ventures.

False Reason: Enron used hundreds to these to hide over $1 billion in debt.

"The process of reaching a decision or drawing a conclusion where there are a number of possible alternative solutions" is KPMG's definition of _________

Judgement

dual control

Required the present of two individuals to perform a task