auditing and assurance services

Chapter 10 - Auditing the Revenue Process

Chapter 10Auditing the Revenue Process

True / False Questions

1. Revenue is realized when a product or service is exchanged for cash or a promise to pay cash or other assets that can be converted into cash. True False

2. Revenue must be realized (or realizable) and earned to be recognized. True False

3. Channel stuffing is an improper practice used to boost sales by inducing distributors to buy more inventory than they can promptly resell. True False

4. The return of vendor purchases is a part of the revenue process. True False

5. The revenue process affects numerous accounts in the financial statements. True False

6. A remittance advice is used to track purchases. True False

7. Order entry is the initial function in the revenue cycle. True False

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8. Credit authorization is used to determine if a customer is able to pay for goods. True False

9. A negative confirmation requests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. True False

10. A positive confirmation requests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. True False

Multiple Choice Questions

11. In general, revenue is recognized when A. Goods are shippedB. It is earned and realizedC. It is recorded in the sales journalD. It is received in cash

12. According to the SEC's SAB No. 101, which of the following is not necessary for revenue recognition? A. The seller's price to the buyer is fixedB. Collectibility is reasonably assuredC. The seller has determined that the buyer will take the discountD. Persuasive evidence of an arrangement exists

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13. What is channel stuffing? A. A company records revenue before delivery terms can be arrangedB. A company records revenue on goods that will be shipped overseasC. A company induces distributors to buy substantially more inventory than they can promptly resellD. A company alters the terms and conditions of recorded sales to entice customers to accept delivery of goods

14. Tracing bills of lading to sales invoices provides evidence that A. Shipments to customers were properly authorizedB. Recorded sales were shippedC. Billed sales were shippedD. Shipments to customers were billed

15. At which point in an ordinary sales transaction of a wholesaling business would a lack of specific authorization be of least concern to the auditor? A. Granting of creditB. Shipment of goodsC. Determination of discountsD. Selling of goods for cash

16. Tracing copies of sales invoices to shipping documents will provide evidence that all A. Shipments to customers were recorded as receivablesB. Billed sales were shippedC. Accounts receivable ledger is completeD. Shipments to customers were billed

17. An auditor tests an entity's policy of obtaining credit approval before shipping goods to customers in support of management's financial statement assertion of A. Valuation or allocationB. CompletenessC. Existence or occurrenceD. Rights and obligations

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18. Which of the following tests of controls most likely would help assure an auditor that goods shipped are properly billed? A. Scan the sales journal for sequential and unusual entriesB. Examine shipping documents for matching sales invoicesC. Compare the accounts receivable ledger to daily sales summariesD. Inspect unused sales invoices for consecutive prenumbering

19. Tracing shipping documents to prenumbered sales invoices provides evidence that A. No duplicate shipments or billings occurredB. Shipments to customers were properly billedC. All goods ordered by customers were shippedD. All prenumbered sales invoices were accounted for

20. Tests designed to detect credit sales made after the end of the year that have been recorded in the current year provide assurance about management's assertion of A. ClassificationB. CutoffC. OccurrenceD. Authorization and accuracy

21. When evaluating internal control of an entity that processes revenue transactions on the Internet, an auditor would be most concerned about the A. Potential for computer disruptions in recording salesB. Lack of sales invoice documents as an audit trailC. Frequency of archiving and data retentionD. Inability to establish test data

22. Which of the following is not an inherent risk factor for the revenue process? A. Complexity of revenue recognition issuesB. Difficulty of auditing transactionsC. Special industry practicesD. The client does not follow its stated policies for sales order approvals

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23. Data Corporation has just computerized its billing and accounts receivable record keeping. You want to make maximum use of the new computer in your audit of Data Corporation. Which of the following audit techniques could not be performed through a computer program? A. Tracing audited cash receipts to accounts receivable creditsB. Selecting accounts to be confirmed on a random basisC. Examining sales invoices for completeness, consistency between different items, valid conditions, and reasonable amountsD. Resolving differences reported by customers on confirmation requests

24. In auditing accounts receivable the negative form of confirmation request most likely would be used when A. Recipients are likely to return positive confirmation requests without verifying the accuracy of the informationB. The combined assessed level of inherent and control risk relative to accounts receivable is lowC. A small number of accounts receivable are involved but a relatively large number of errors are expectedD. The auditor performs a dual purpose test that assesses control risk and obtains substantive evidence

25. Auditors may use positive and/or negative forms of confirmation requests for accounts receivable. Which of the following statements is true regarding the auditor's use of confirmations? A. The positive confirmation form must always be used to confirm all balances regardless of sizeB. A combination of the two confirmation types can be used, with the positive form used for large balances and the negative form used for small balancesC. A combination of the two confirmation types can be used, with the positive form used for trade receivables and the negative form for other receivablesD. The positive confirmation form should be used when controls related to receivables are satisfactory and the negative confirmation form should be used when controls related to receivables are unsatisfactory

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26. In determining the adequacy of the allowance for uncollectible accounts, the least reliance should be placed upon which of the following? A. The credit manager's opinionB. An aging schedule of past due accountsC. Subsequent year collections of amounts in accounts receivable at the balance sheet dateD. Ratios calculated showing the past relationship of the valuation allowance to net credit sales

27. An aged trial balance of accounts receivable is usually used by the auditor to A. Verify the existence of recorded receivablesB. Ensure that all accounts are promptly creditedC. Evaluate the results of tests of controlsD. Evaluate the provision for bad debts

28. Audit documents often include a client-prepared aged trial balance of accounts receivable as of the balance sheet date. This aging is used by the auditor to A. Evaluate internal control over credit salesB. Test the accuracy of recorded credit salesC. Evaluate the allowance for doubtful accountsD. Verify the existence of the recorded receivables

29. In connection with the examination of financial statements by an independent auditor, the client suggests that members of the internal audit staff be utilized to minimize audit costs. Which of the following tasks could most appropriately be delegated to the internal audit staff? A. Selection of accounts receivable for confirmation, based upon the internal auditor's judgment as to how many accounts and which accounts will provide sufficient coverageB. Preparation of schedules for negative accounts receivable responsesC. Evaluation of the internal control for accounts receivable and salesD. Determination of the adequacy of the allowance for doubtful accounts

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30. Which of the following is the best argument against the use of negative accounts receivable confirmations? A. The cost-per-response is excessively highB. There is no way of knowing if the intended recipients received themC. Recipients are likely to feel that, in reality, the confirmation is a subtle request for paymentD. The inference drawn from receiving no reply may not be correct

31. An auditor's purpose in reviewing credit ratings of customers with delinquent accounts receivable most likely is to obtain evidence concerning management's assertions about A. Valuation and allocationB. CompletenessC. ExistenceD. Rights and obligations

32. Which of the following controls most likely would be effective in offsetting the tendency of sales personnel to maximize sales volume at the expense of high bad debt write-offs? A. Employees responsible for authorizing sales and bad debt write-offs are denied access to cashB. Shipping documents and sales invoices are matched by an employee who does not have authority to write off bad debtsC. Employees involved in the credit-granting function are separated from the sales functionD. Subsidiary accounts receivable records are reconciled to the control account by an employee independent of the authorization of credit

33. Alpha Company uses its sales invoices for posting perpetual inventory records. Inadequate control activities over the invoicing function allow goods to be shipped that are not invoiced. The inadequate control activities could cause an A. Understatement of revenues, receivables, and inventoryB. Overstatement of revenues and receivables and an understatement of inventoryC. Understatement of revenues and receivables and an overstatement of inventoryD. Overstatement of revenues, receivables, and inventory

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34. Alpha Company uses its sales invoices for posting perpetual inventory records. Inadequate control activities over the invoicing function allow goods to be invoiced that are not shipped. The inadequate control activities could cause an A. Understatement of revenues, receivables, and inventoryB. Overstatement of revenues and receivables and an understatement of inventoryC. Understatement of revenues and receivables and an overstatement of inventoryD. Overstatement of revenues, receivables, and inventory

35. Immediately upon receipt of cash, a responsible employee should A. Record the amount in the cash receipts journalB. Prepare a listing of remittancesC. Update the subsidiary accounts receivable recordsD. Prepare a deposit slip in triplicate

36. For the most effective internal control, monthly bank statements should be received directly from the banks and reviewed by the A. ControllerB. Cash receipts accountantC. Cash disbursement accountantD. Internal auditor

37. Which one of the following would the auditor consider to be an incompatible operation if the cashier receives remittances from the mailroom? A. The cashier prepares the daily depositB. The cashier makes the daily deposit at a local bankC. The cashier posts the receipts to the accounts receivable subsidiary ledger cardsD. The cashier endorses the checks

38. Which is not a key segregation of duties for the revenue process? Different parties should A. Prepare shipping orders and prepare bills of ladingB. Perform the credit and billing functionsC. Perform the shipping and billing functionD. Receive cash and adjust accounts receivable

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39. All of the following are important controls over credit memos except A. Proper segregation of duties to ensure that sales discounts taken were earnedB. Credit memos should be approved by someone other than whoever initiated itC. Credit memos should be supported by a receiving document for returned goodsD. Proper segregation of duties between access to customer records and authorizing credit memos

40. An auditor would consider a cashier's job description to contain compatible duties if the cashier receives remittances from the mailroom and also A. Records the journal entry to recognize the cash receiptB. Prepares the monthly bank reconciliationC. Prepares the daily deposit slipD. Approves customer discounts

41. Auditors are more concerned with the occurrence assertion for revenues than the completeness assertion because: A. Clients are more likely to overstate than understate revenuesB. Clients are more likely to understate than overstate revenuesC. It is difficult to determine when services have been performedD. The allowance for doubtful accounts often is understated

42. An auditor selects a sample from the file of shipping documents to determine whether invoices were prepared. This test is performed to assess the assertion of A. Authorization and accuracyB. CompletenessC. CutoffD. Occurrence

43. Which of the following control activities may prevent the failure to bill customers for some shipments? A. Each shipment should be supported by a prenumbered sales invoice that is accounted forB. Each sales order should be approved by authorized personnelC. Sales journal entries should be reconciled to daily sales summariesD. Each sales invoice should be supported by a shipping document

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44. Which of the following internal control activities most likely would ensure that all billed sales are correctly posted to the accounts receivable ledger? A. Daily sales summaries are compared to daily postings to the accounts receivable ledgerB. Each sales invoice is supported by a prenumbered shipping documentC. The accounts receivable ledger is reconciled daily to the control account in the general ledgerD. Each shipment on credit is supported by a prenumbered sales invoice

45. A CPA auditing an electric utility wishes to determine whether all customers are being billed. The CPA's best direction of test is from the A. Meter department records to the billing (sales) registerB. Billing (sales) register to the meter department recordsC. Accounts receivable ledger to the billing (sales) registerD. Billing (sales) register to the accounts receivable ledger

46. To determine whether the system of internal control operated effectively to minimize errors of failure to invoice a shipment, the auditor would select a sample of transactions from the population represented by the A. Customer order fileB. Bill of lading fileC. Open invoice fileD. Sales invoice file

47. Which of the following procedures would ordinarily be expected to best reveal improper cutoff of sales at the balance sheet date? A. Compare shipping documents with sales recordsB. Apply gross profit rates to inventory disposed of during the periodC. Trace payments received subsequent to the balance sheet dateD. Send accounts receivable confirmation requests

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48. If the objective of a test of details is to detect overstatements of sales, the auditor should trace transactions from the A. Cash receipts journal to the sales journalB. Sales journal to the cash receipts journalC. Shipping documents to the accounting recordsD. Accounting records to the shipping documents

49. Which of the following misstatements is not related to the completeness assertion for revenue? A. Goods are shipped, but revenue is not recordedB. This year's revenue is recorded next yearC. Next year's revenue is recorded this yearD. Revenue is not recognized for services that have been performed

50. Which of the following is a test of controls for the transaction assertion of completeness for revenue? A. Test a sample of sales invoices for authorized customer ordersB. Review sales orders for proper credit approvalC. Trace shipping documents to sales invoices and the sales journalD. Examine reconciliation of subsidiary ledger to general ledger control account

51. To achieve good internal control, which department should perform the activities of matching shipping documents with sales orders and preparing daily sales summaries? A. BillingB. ShippingC. CreditD. Sales Order

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52. An auditor confirms a representative number of open accounts receivable as of December 31 and investigates respondents' exceptions and comments. By this procedure, the auditor would be most likely to learn of which of the following? A. One of the cashiers has been covering a personal embezzlement by lappingB. One of the sales clerks has not been preparing charge slips for credit sales to family and friendsC. One of the EDP control clerks has been removing all sales invoices applicable to his account from the data fileD. The credit manager has misappropriated remittances from customers whose accounts have been written off

53. An auditor most likely would limit substantive tests of sales transactions when control risk is assessed as low for the existence or occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting A. Opening and closing inventory balancesB. Cash receipts and accounts receivableC. Shipping and receiving activitiesD. Cutoffs of sales and purchases

54. Cooper, CPA is auditing the financial statements of a small rural municipality. The receivable balances represent residents' delinquent real estate taxes. Internal control at the municipality is weak. To determine the existence of the accounts receivable balances at the balance sheet date, Cooper would most likely A. Send positive confirmation requestsB. Send negative confirmation requestsC. Examine evidence of subsequent cash receiptsD. Inspect the internal records, such as copies of the tax invoices that were mailed to the residents

55. Auditors sometimes use ratios as audit evidence. For example, an unexplained increase in the ratio of gross profit to sales may suggest which of the following possibilities? A. Fictitious purchasesB. Fictitious salesC. Selling and general expenses erroneously being recorded as merchandise purchasesD. Unrecorded sales

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56. Which of the following might be detected by an auditor's review of the client's sales cutoff? A. Excessive goods returned for creditB. Unrecorded sales discountsC. Lapping of year-end accounts receivableD. Inflated sales for the year

57. An auditor reconciles the total of the accounts receivable subsidiary ledger to the general ledger control account as of October 31. By this procedure, the auditor would be most likely to learn of which of the following? A. An October invoice was improperly computedB. An October check from a customer was posted in error to the account of another customer with a similar nameC. An opening balance in a subsidiary ledger account was improperly carried forward from the previous accounting periodD. An account balance is past due and should be written off

58. Once a CPA has determined that accounts receivable have increased because of slow collection in a "tight money" environment, the CPA would be likely to A. Increase the balance in the allowance for bad debts accountB. Review the going concern ramificationsC. Require the client to tighten their credit policyD. Expand tests regarding the collectability of receivables

59. Which of the following is not an issue related to the valuation of accounts receivable? A. The valuation of revenue that makes up the detail of accounts receivableB. A proper allowance for doubtful accountsC. The net realizable value of accounts receivableD. Proper cut-off

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60. In the confirmation of accounts receivable the auditor would most likely A. Randomly select a representative sample of accounts for confirmationB. Seek to obtain positive confirmations for at least 50% of the total dollar amount of the receivablesC. Require confirmation of all receivables from agencies of the federal governmentD. Require that confirmation requests be sent within one month of the fiscal year-end

61. Confirmation is most likely to be a relevant form of evidence with regard to assertions about accounts receivable when the auditor has concerns about the receivables' A. ValuationB. ClassificationC. ExistenceD. Completeness

62. In which of the following circumstances would the use of the negative form of accounts receivable confirmation most likely be justified? A. A substantial number of accounts may be in dispute and the accounts receivable balance arises from sales to a few major customersB. A substantial number of accounts may be in dispute and the accounts receivable balance arises from sales to many customers with small balancesC. A small number of accounts may be in dispute and the accounts receivable balance arises from sales to a few major customersD. A small number of accounts may be in dispute and the accounts receivable balance arises from sales to many customers with small balances

63. To reduce the risks associated with accepting e-mail responses to requests for confirmation of accounts receivable, an auditor most likely would A. Request the senders to mail the original forms to the auditor or the auditor may follow up with a telephone call to verify the responseB. Examine subsequent cash receipts for the accounts in questionC. Consider the e-mail responses to the confirmations to be exceptionsD. Mail second requests to the e-mail respondents

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64. The confirmation of customers' accounts receivable rarely provides reliable evidence about the completeness assertion because A. Many customers merely sign and return the confirmation without verifying its detailsB. Recipients usually respond only if they disagree with the information on the requestC. Customers may not be inclined to report understatement errors in their accountsD. Auditors typically select many accounts with low recorded balances to be confirmed

65. Which of the following statements would an auditor most likely add to the negative form of confirmations of accounts receivable to encourage timely consideration by the recipient? A. "This is not a request for payment; remittances should not be sent to our auditors in the enclosed envelope."B. "Report any differences on the enclosed statement directly to our auditors; no reply is necessary if this amount agrees with your records."C. "If you do not report any differences within 15 days, it will be assumed that this statement is correct."D. "The following invoices have been selected for confirmation and represent amounts that are overdue."

66. Some firms that dispose of only a small part of their total output by consignment shipments fail to make any distinction between consignment shipments and regular sales. Which of the following would suggest that goods have been shipped on consignment? A. Numerous shipments of small quantitiesB. Numerous shipments of large quantities and few returnsC. Large debits to accounts receivable followed by small periodic creditsD. Large debits to accounts receivable followed by large periodic credits

67. Which of the following most likely would be the result of ineffective internal control policies and procedures in the revenue process? A. Final authorization of credit memos by personnel in the Sales Department could permit an employee defalcation schemeB. Fictitious transactions could be recorded, causing an understatement of revenues and an overstatement of receivablesC. Irregularities in recording transactions in the subsidiary accounts could result in a delay in goods shippedD. Omission of shipping documents could go undetected, causing an understatement of inventory

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68. Upon receipt of customers' checks in the mailroom, a responsible employee should prepare a listing of remittances that is forwarded to the cashier. A copy of the listing should be sent to the A. Internal auditor to investigate the listing for unusual transactionsB. Treasurer to compare the listing with the monthly bank statementC. Accounts receivable bookkeeper to update the subsidiary accounts receivable recordsD. Entity's bank to compare the listing with the cashier's deposit slip

69. Mill Company uses a batch processing method to process its sales transactions. Data on Mill's sales transaction tapes are electronically sorted by customer number and are subjected to programmed edit checks in preparing its invoices, sales journals, and updated customer account balances. One of the direct outputs of the creation of these tapes most likely would be a: A. Report showing exceptions and control totalsB. Printout of the updated inventory recordsC. Report showing overdue accounts receivableD. Printout of the sales price master file

70. Which of the following sets of duties would ordinarily be considered basically incompatible in terms of good internal control? A. Preparation of monthly statements to customers and maintenance of the accounts receivable subsidiary ledgerB. Posting to the general ledger and approval of additions and terminations relating to the payrollC. Custody of unmailed signed checks and maintenance of expense subsidiary ledgersD. Collection of receipts on account and maintaining accounts receivable records

71. During a review of a small business entity's internal control system, the auditor discovered that the accounts receivable clerk approves credit memos and has access to cash. Which of the following controls would be most effective in offsetting this weakness? A. The owner reviews errors in billings to customers and postings to the subsidiary ledgerB. A controller receives the monthly bank statement directly and reconciles the checking accountsC. The owner reviews credit memos after they are recordedD. The controller reconciles the total of the detailed accounts receivable accounts to the amount shown in the ledger

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72. Which of the following procedures most likely would not be an internal control activity designed to reduce the risk of errors in the billing process? A. Comparing control totals for shipping documents with corresponding totals for sales invoicesB. Using computer programmed controls on the pricing and mathematical accuracy of sales invoicesC. Matching shipping documents with approved sales orders before invoice preparationD. Reconciling the control totals for sales invoices with the accounts receivable subsidiary ledger

73. Smith is engaged in the audit of a cable TV firm that services a rural community. All receivable balances are small, customers are billed monthly, and internal control is effective. To determine the existence of the accounts receivable balances at the balance sheet date, Smith would most likely A. Send positive confirmation requestsB. Send negative confirmation requestsC. Examine evidence of subsequent cash receipts instead of sending confirmation requestsD. Use statistical sampling instead of sending confirmation requests

74. Which of the following most likely would give the most assurance concerning the valuation assertion for accounts receivable? A. Tracing amounts in the subsidiary ledger to details on shipping documentsB. Comparing receivable turnover ratios to industry statistics for reasonablenessC. Inquiring about receivables pledged under loan agreementsD. Assessing the allowance for uncollectible accounts for reasonableness

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75. An auditor is reviewing sales cutoff as of March 31, 2009. All sales are shipped FOB destination and the company records sales three days after shipment. The auditor notes the following items:

If the client records the required adjustments, the net effect on income in thousands of dollars for the period ended March 31, 2010 is A. An increase of 12B. An increase of 8C. A decrease of 12D. A decrease of 8

76. Customers having substantial year-end past due balances fail to reply after second request forms have been mailed directly to them. Which of the following is the most appropriate audit procedure? A. Examine shipping documentsB. Review collections during the year being examinedC. Intensify the study of the client's system of internal control with respect to receivablesD. Increase the balance in the allowance for uncollectible accounts

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77. Which of the following strategies most likely could improve the response rate of the confirmation of accounts receivable? A. Including a monthly statement of the customer's accountB. Restricting the selection of accounts to be confirmed to those customers with relatively large balancesC. Requesting customers to respond to the confirmation requests directly to the auditor by fax or e-mailD. Notifying the recipients that second requests will be mailed if they fail to respond in a timely manner

78. In confirming accounts receivable, an auditor decided to confirm customers' account balances rather than individual invoices. Which of the following most likely would be included with the client's confirmation letter? A. An auditor-prepared letter explaining that a nonresponse may cause an inference that the account balance is correctB. A client-prepared letter reminding the customer that a nonresponse will cause a second request to be sentC. An auditor-prepared letter requesting the customer to supply missing and incorrect information directly to the auditorD. A client-prepared statement of account showing the details of the customer's account balance

79. When comparing prices and terms on a sample of sales invoices with the authorized price list and terms of trade, the auditor is testing the ____________ assertion. A. CutoffB. AuthorizationC. OccurrenceD. Completeness

80. When a sample of sales transactions recorded in the sales journal is traced back to the customer orders and shipping documents, the auditor is testing the ____________ assertion. A. CutoffB. AuthorizationC. CompletenessD. Occurrence

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81. When tracing a sample of shipping documents from throughout the year to the details of the sales invoices and to the sales journal and customers' accounts receivable subsidiary ledger, the auditor is testing the _____________ assertion. A. ClassificationB. CutoffC. ExistenceD. Completeness

82. When reviewing bank confirmations for any liens on receivables, the auditor is testing the ______________ assertion. A. Valuation and allocationB. Rights and obligationsC. ExistenceD. Completeness

Short Answer Questions

83. Explain how revenue recognition is important to the audit of the revenue process.

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84. Listed below are six assertions regarding the financial presentations made in the revenue process. For each, give an example of how an auditor could use one of the types of documents contained in the revenue process to test the assertion. Occurrence -Completeness -Authorization -Accuracy -Cutoff -Classification -

85. The XYZ Company billing department has decided to assign one employee to each of its customers. This employee will be responsible for granting credit to the client and then handling the billing. XYZ believes this will result in better customer service, because the client will only have to deal with one person and that one person will be very familiar with the credit terms. As an auditor, would you agree with XYZ's decision?

86. What inherent risk factors should an auditor consider when auditing the revenue process of a computer manufacturer?

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87. Match the test of controls described below to the appropriate assertion it is used to test: Assertions:a) Occurrenceb) Completenessc) Authorizationd) Accuracye) Cutofff) ClassificationTest of Controls:1) Recompute financial information on a sample of sales invoices2) Review of cash receipts journal for unusual items3) Observe the endorsement of checks4) Test a sample of sales invoices for the presence of authorized customer order and shipping document5) Compare the dates on the sales invoices with the dates of the relevant shipping documents6) Test a sample of cash receipts transactions for proper cash discounts.

88. Assume an account receivable confirmation is returned with a note to the auditor describing a difference between your client's records and the customer's records. Clearly describe below two potential non-misstatement timing differences that could cause a discrepancy between a client's receivable records and his/her customer's records. The timing differences you describe should be such that after investigation you would determine that your client's receivable balance is not misstated due to these differences.

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89. You are auditing the allowance for doubtful accounts (ADA) and perform the analytical procedures shown below. Assume that no significant changes have occurred during the year in either the client's credit policies or customer base. What concerns, if any, about adjusting the ADA should the auditor have based on the information shown below?

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90. Identify whether the following tests are tests of controls, substantive analytical procedures, tests of details of transactions, or tests of details of account balances: 1) Select a sample of customer receivables and send positive confirmations to each one2) Examine monthly bank reconciliations for the internal auditors' initials indicating internal verification and review of the reconciliation.3) Select a sample of entries in sales journal and trace each to the shipping documents4) Compute receivable turnover and compare with previous years5) For a sample of new customers, determine whether credit approval was properly administered and documented6) Compare the dates on a sample of sales invoices with the dates of shipment and the dates they were recorded in the sales journal

91. Describe the two types of confirmations and indicate which one is more reliable and why.

92. Assume you are working on a 12/31 year-end audit. It is now March 31st and the 12/31 accounts receivable aging shows a large receivable that was outstanding on 12/31 for 120 days. Further, the client's receivables are typically collected in less than 45. You anticipate that the client's allowance for doubtful account should be increased and inform the client about your disposition. The client disagrees. Is there an alternative substantive procedure that you could perform that would provide convincing evidence that this balance is collectible? If so, explain.

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93. According to the Certified Fraud Examiners, there are eight common methods for committing financial statement fraud. List 4 of the 8.

94. Identify four of the seven primary functions in the revenue cycle and describe each function.

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Chapter 10 Auditing the Revenue Process Answer Key

True / False Questions

1. Revenue is realized when a product or service is exchanged for cash or a promise to pay cash or other assets that can be converted into cash. TRUE

AACSB: AnalyticAICPA BB: LegalAICPA FN: MeasurementBloom's: KnowledgeDifficulty: EasyLearning Objective: 1

2. Revenue must be realized (or realizable) and earned to be recognized. TRUE


3. Channel stuffing is an improper practice used to boost sales by inducing distributors to buy more inventory than they can promptly resell. TRUE


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4. The return of vendor purchases is a part of the revenue process. FALSE


5. The revenue process affects numerous accounts in the financial statements. TRUE


6. A remittance advice is used to track purchases. FALSE


7. Order entry is the initial function in the revenue cycle. TRUE


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8. Credit authorization is used to determine if a customer is able to pay for goods. TRUE


9. A negative confirmation requests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. FALSE


10. A positive confirmation requests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. TRUE


Multiple Choice Questions

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11. In general, revenue is recognized when A. Goods are shippedB. It is earned and realizedC. It is recorded in the sales journalD. It is received in cash

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: KnowledgeDifficulty: EasyLearning Objective: 1Learning Objective: 2

12. According to the SEC's SAB No. 101, which of the following is not necessary for revenue recognition? A. The seller's price to the buyer is fixedB. Collectibility is reasonably assuredC. The seller has determined that the buyer will take the discountD. Persuasive evidence of an arrangement exists

AACSB: AnalyticAICPA BB: LegalAICPA FN: MeasurementBloom's: KnowledgeDifficulty: EasyLearning Objective: 1Learning Objective: 2

13. What is channel stuffing? A. A company records revenue before delivery terms can be arrangedB. A company records revenue on goods that will be shipped overseasC. A company induces distributors to buy substantially more inventory than they can promptly resellD. A company alters the terms and conditions of recorded sales to entice customers to accept delivery of goods

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: KnowledgeDifficulty: EasyLearning Objective: 1Learning Objective: 2

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14. Tracing bills of lading to sales invoices provides evidence that A. Shipments to customers were properly authorizedB. Recorded sales were shippedC. Billed sales were shippedD. Shipments to customers were billed

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: AnalysisDifficulty: EasyLearning Objective: 2Learning Objective: 4Learning Objective: 9

15. At which point in an ordinary sales transaction of a wholesaling business would a lack of specific authorization be of least concern to the auditor? A. Granting of creditB. Shipment of goodsC. Determination of discountsD. Selling of goods for cash

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: EasyLearning Objective: 2Learning Objective: 5Learning Objective: 9

16. Tracing copies of sales invoices to shipping documents will provide evidence that all A. Shipments to customers were recorded as receivablesB. Billed sales were shippedC. Accounts receivable ledger is completeD. Shipments to customers were billed

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: AnalysisDifficulty: EasyLearning Objective: 2Learning Objective: 4Learning Objective: 9

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17. An auditor tests an entity's policy of obtaining credit approval before shipping goods to customers in support of management's financial statement assertion of A. Valuation or allocationB. CompletenessC. Existence or occurrenceD. Rights and obligations

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: AnalysisDifficulty: EasyLearning Objective: 2Learning Objective: 9

18. Which of the following tests of controls most likely would help assure an auditor that goods shipped are properly billed? A. Scan the sales journal for sequential and unusual entriesB. Examine shipping documents for matching sales invoicesC. Compare the accounts receivable ledger to daily sales summariesD. Inspect unused sales invoices for consecutive prenumbering


19. Tracing shipping documents to prenumbered sales invoices provides evidence that A. No duplicate shipments or billings occurredB. Shipments to customers were properly billedC. All goods ordered by customers were shippedD. All prenumbered sales invoices were accounted for


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20. Tests designed to detect credit sales made after the end of the year that have been recorded in the current year provide assurance about management's assertion of A. ClassificationB. CutoffC. OccurrenceD. Authorization and accuracy

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: ApplicationDifficulty: EasyLearning Objective: 12Learning Objective: 13Learning Objective: 16Learning Objective: 2

21. When evaluating internal control of an entity that processes revenue transactions on the Internet, an auditor would be most concerned about the A. Potential for computer disruptions in recording salesB. Lack of sales invoice documents as an audit trailC. Frequency of archiving and data retentionD. Inability to establish test data

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: EasyLearning Objective: 2Learning Objective: 7

22. Which of the following is not an inherent risk factor for the revenue process? A. Complexity of revenue recognition issuesB. Difficulty of auditing transactionsC. Special industry practicesD. The client does not follow its stated policies for sales order approvals

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: EasyLearning Objective: 7

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23. Data Corporation has just computerized its billing and accounts receivable record keeping. You want to make maximum use of the new computer in your audit of Data Corporation. Which of the following audit techniques could not be performed through a computer program? A. Tracing audited cash receipts to accounts receivable creditsB. Selecting accounts to be confirmed on a random basisC. Examining sales invoices for completeness, consistency between different items, valid conditions, and reasonable amountsD. Resolving differences reported by customers on confirmation requests

AACSB: TechnologyAICPA BB: Leveraging TechnologyAICPA FN: Leveraging TechnologyBloom's: ApplicationDifficulty: EasyLearning Objective: 13Learning Objective: 14Learning Objective: 9

24. In auditing accounts receivable the negative form of confirmation request most likely would be used when A. Recipients are likely to return positive confirmation requests without verifying the accuracy of the informationB. The combined assessed level of inherent and control risk relative to accounts receivable is lowC. A small number of accounts receivable are involved but a relatively large number of errors are expectedD. The auditor performs a dual purpose test that assesses control risk and obtains substantive evidence

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: EasyLearning Objective: 10Learning Objective: 11Learning Objective: 13Learning Objective: 14

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25. Auditors may use positive and/or negative forms of confirmation requests for accounts receivable. Which of the following statements is true regarding the auditor's use of confirmations? A. The positive confirmation form must always be used to confirm all balances regardless of sizeB. A combination of the two confirmation types can be used, with the positive form used for large balances and the negative form used for small balancesC. A combination of the two confirmation types can be used, with the positive form used for trade receivables and the negative form for other receivablesD. The positive confirmation form should be used when controls related to receivables are satisfactory and the negative confirmation form should be used when controls related to receivables are unsatisfactory

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: EasyLearning Objective: 10Learning Objective: 13Learning Objective: 14

26. In determining the adequacy of the allowance for uncollectible accounts, the least reliance should be placed upon which of the following? A. The credit manager's opinionB. An aging schedule of past due accountsC. Subsequent year collections of amounts in accounts receivable at the balance sheet dateD. Ratios calculated showing the past relationship of the valuation allowance to net credit sales

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: EasyLearning Objective: 13

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27. An aged trial balance of accounts receivable is usually used by the auditor to A. Verify the existence of recorded receivablesB. Ensure that all accounts are promptly creditedC. Evaluate the results of tests of controlsD. Evaluate the provision for bad debts

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: EasyLearning Objective: 13

28. Audit documents often include a client-prepared aged trial balance of accounts receivable as of the balance sheet date. This aging is used by the auditor to A. Evaluate internal control over credit salesB. Test the accuracy of recorded credit salesC. Evaluate the allowance for doubtful accountsD. Verify the existence of the recorded receivables

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: EasyLearning Objective: 13

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29. In connection with the examination of financial statements by an independent auditor, the client suggests that members of the internal audit staff be utilized to minimize audit costs. Which of the following tasks could most appropriately be delegated to the internal audit staff? A. Selection of accounts receivable for confirmation, based upon the internal auditor's judgment as to how many accounts and which accounts will provide sufficient coverageB. Preparation of schedules for negative accounts receivable responsesC. Evaluation of the internal control for accounts receivable and salesD. Determination of the adequacy of the allowance for doubtful accounts

AACSB: AnalyticAICPA BB: Resource ManagementAICPA FN: Decision MakingBloom's: AnalysisDifficulty: EasyLearning Objective: 13Learning Objective: 14

30. Which of the following is the best argument against the use of negative accounts receivable confirmations? A. The cost-per-response is excessively highB. There is no way of knowing if the intended recipients received themC. Recipients are likely to feel that, in reality, the confirmation is a subtle request for paymentD. The inference drawn from receiving no reply may not be correct

AACSB: CommunicationsAICPA BB: Critical ThinkingAICPA FN: Decision MakingBloom's: AnalysisDifficulty: EasyLearning Objective: 13Learning Objective: 14

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31. An auditor's purpose in reviewing credit ratings of customers with delinquent accounts receivable most likely is to obtain evidence concerning management's assertions about A. Valuation and allocationB. CompletenessC. ExistenceD. Rights and obligations

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: ApplicationDifficulty: EasyLearning Objective: 13Learning Objective: 16

32. Which of the following controls most likely would be effective in offsetting the tendency of sales personnel to maximize sales volume at the expense of high bad debt write-offs? A. Employees responsible for authorizing sales and bad debt write-offs are denied access to cashB. Shipping documents and sales invoices are matched by an employee who does not have authority to write off bad debtsC. Employees involved in the credit-granting function are separated from the sales functionD. Subsidiary accounts receivable records are reconciled to the control account by an employee independent of the authorization of credit

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: ModerateLearning Objective: 2Learning Objective: 3Learning Objective: 5Learning Objective: 6

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33. Alpha Company uses its sales invoices for posting perpetual inventory records. Inadequate control activities over the invoicing function allow goods to be shipped that are not invoiced. The inadequate control activities could cause an A. Understatement of revenues, receivables, and inventoryB. Overstatement of revenues and receivables and an understatement of inventoryC. Understatement of revenues and receivables and an overstatement of inventoryD. Overstatement of revenues, receivables, and inventory

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: ModerateLearning Objective: 2Learning Objective: 3Learning Objective: 4

34. Alpha Company uses its sales invoices for posting perpetual inventory records. Inadequate control activities over the invoicing function allow goods to be invoiced that are not shipped. The inadequate control activities could cause an A. Understatement of revenues, receivables, and inventoryB. Overstatement of revenues and receivables and an understatement of inventoryC. Understatement of revenues and receivables and an overstatement of inventoryD. Overstatement of revenues, receivables, and inventory


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35. Immediately upon receipt of cash, a responsible employee should A. Record the amount in the cash receipts journalB. Prepare a listing of remittancesC. Update the subsidiary accounts receivable recordsD. Prepare a deposit slip in triplicate

AACSB: CommunicationsAICPA BB: Critical ThinkingAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: ModerateLearning Objective: 2Learning Objective: 4Learning Objective: 5

36. For the most effective internal control, monthly bank statements should be received directly from the banks and reviewed by the A. ControllerB. Cash receipts accountantC. Cash disbursement accountantD. Internal auditor

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: ModerateLearning Objective: 2Learning Objective: 6

37. Which one of the following would the auditor consider to be an incompatible operation if the cashier receives remittances from the mailroom? A. The cashier prepares the daily depositB. The cashier makes the daily deposit at a local bankC. The cashier posts the receipts to the accounts receivable subsidiary ledger cardsD. The cashier endorses the checks


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38. Which is not a key segregation of duties for the revenue process? Different parties should A. Prepare shipping orders and prepare bills of ladingB. Perform the credit and billing functionsC. Perform the shipping and billing functionD. Receive cash and adjust accounts receivable


39. All of the following are important controls over credit memos except A. Proper segregation of duties to ensure that sales discounts taken were earnedB. Credit memos should be approved by someone other than whoever initiated itC. Credit memos should be supported by a receiving document for returned goodsD. Proper segregation of duties between access to customer records and authorizing credit memos


40. An auditor would consider a cashier's job description to contain compatible duties if the cashier receives remittances from the mailroom and also A. Records the journal entry to recognize the cash receiptB. Prepares the monthly bank reconciliationC. Prepares the daily deposit slipD. Approves customer discounts

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: ModerateLearning Objective: 2Learning Objective: 6

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41. Auditors are more concerned with the occurrence assertion for revenues than the completeness assertion because: A. Clients are more likely to overstate than understate revenuesB. Clients are more likely to understate than overstate revenuesC. It is difficult to determine when services have been performedD. The allowance for doubtful accounts often is understated

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ComprehensionDifficulty: ModerateLearning Objective: 2Learning Objective: 9

42. An auditor selects a sample from the file of shipping documents to determine whether invoices were prepared. This test is performed to assess the assertion of A. Authorization and accuracyB. CompletenessC. CutoffD. Occurrence

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: ComprehensionDifficulty: ModerateLearning Objective: 2Learning Objective: 9

43. Which of the following control activities may prevent the failure to bill customers for some shipments? A. Each shipment should be supported by a prenumbered sales invoice that is accounted forB. Each sales order should be approved by authorized personnelC. Sales journal entries should be reconciled to daily sales summariesD. Each sales invoice should be supported by a shipping document


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44. Which of the following internal control activities most likely would ensure that all billed sales are correctly posted to the accounts receivable ledger? A. Daily sales summaries are compared to daily postings to the accounts receivable ledgerB. Each sales invoice is supported by a prenumbered shipping documentC. The accounts receivable ledger is reconciled daily to the control account in the general ledgerD. Each shipment on credit is supported by a prenumbered sales invoice


45. A CPA auditing an electric utility wishes to determine whether all customers are being billed. The CPA's best direction of test is from the A. Meter department records to the billing (sales) registerB. Billing (sales) register to the meter department recordsC. Accounts receivable ledger to the billing (sales) registerD. Billing (sales) register to the accounts receivable ledger


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46. To determine whether the system of internal control operated effectively to minimize errors of failure to invoice a shipment, the auditor would select a sample of transactions from the population represented by the A. Customer order fileB. Bill of lading fileC. Open invoice fileD. Sales invoice file

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: ModerateLearning Objective: 2Learning Objective: 9

47. Which of the following procedures would ordinarily be expected to best reveal improper cutoff of sales at the balance sheet date? A. Compare shipping documents with sales recordsB. Apply gross profit rates to inventory disposed of during the periodC. Trace payments received subsequent to the balance sheet dateD. Send accounts receivable confirmation requests


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48. If the objective of a test of details is to detect overstatements of sales, the auditor should trace transactions from the A. Cash receipts journal to the sales journalB. Sales journal to the cash receipts journalC. Shipping documents to the accounting recordsD. Accounting records to the shipping documents


49. Which of the following misstatements is not related to the completeness assertion for revenue? A. Goods are shipped, but revenue is not recordedB. This year's revenue is recorded next yearC. Next year's revenue is recorded this yearD. Revenue is not recognized for services that have been performed

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: ModerateLearning Objective: 2Learning Objective: 9

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50. Which of the following is a test of controls for the transaction assertion of completeness for revenue? A. Test a sample of sales invoices for authorized customer ordersB. Review sales orders for proper credit approvalC. Trace shipping documents to sales invoices and the sales journalD. Examine reconciliation of subsidiary ledger to general ledger control account


51. To achieve good internal control, which department should perform the activities of matching shipping documents with sales orders and preparing daily sales summaries? A. BillingB. ShippingC. CreditD. Sales Order


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52. An auditor confirms a representative number of open accounts receivable as of December 31 and investigates respondents' exceptions and comments. By this procedure, the auditor would be most likely to learn of which of the following? A. One of the cashiers has been covering a personal embezzlement by lappingB. One of the sales clerks has not been preparing charge slips for credit sales to family and friendsC. One of the EDP control clerks has been removing all sales invoices applicable to his account from the data fileD. The credit manager has misappropriated remittances from customers whose accounts have been written off

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: ModerateLearning Objective: 13Learning Objective: 14Learning Objective: 9

53. An auditor most likely would limit substantive tests of sales transactions when control risk is assessed as low for the existence or occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting A. Opening and closing inventory balancesB. Cash receipts and accounts receivableC. Shipping and receiving activitiesD. Cutoffs of sales and purchases

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: ModerateLearning Objective: 12Learning Objective: 9

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54. Cooper, CPA is auditing the financial statements of a small rural municipality. The receivable balances represent residents' delinquent real estate taxes. Internal control at the municipality is weak. To determine the existence of the accounts receivable balances at the balance sheet date, Cooper would most likely A. Send positive confirmation requestsB. Send negative confirmation requestsC. Examine evidence of subsequent cash receiptsD. Inspect the internal records, such as copies of the tax invoices that were mailed to the residents


55. Auditors sometimes use ratios as audit evidence. For example, an unexplained increase in the ratio of gross profit to sales may suggest which of the following possibilities? A. Fictitious purchasesB. Fictitious salesC. Selling and general expenses erroneously being recorded as merchandise purchasesD. Unrecorded sales

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: ModerateLearning Objective: 11

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56. Which of the following might be detected by an auditor's review of the client's sales cutoff? A. Excessive goods returned for creditB. Unrecorded sales discountsC. Lapping of year-end accounts receivableD. Inflated sales for the year

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: ModerateLearning Objective: 12Learning Objective: 13

57. An auditor reconciles the total of the accounts receivable subsidiary ledger to the general ledger control account as of October 31. By this procedure, the auditor would be most likely to learn of which of the following? A. An October invoice was improperly computedB. An October check from a customer was posted in error to the account of another customer with a similar nameC. An opening balance in a subsidiary ledger account was improperly carried forward from the previous accounting periodD. An account balance is past due and should be written off

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: AnalysisDifficulty: ModerateLearning Objective: 13

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58. Once a CPA has determined that accounts receivable have increased because of slow collection in a "tight money" environment, the CPA would be likely to A. Increase the balance in the allowance for bad debts accountB. Review the going concern ramificationsC. Require the client to tighten their credit policyD. Expand tests regarding the collectability of receivables

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: ModerateLearning Objective: 13

59. Which of the following is not an issue related to the valuation of accounts receivable? A. The valuation of revenue that makes up the detail of accounts receivableB. A proper allowance for doubtful accountsC. The net realizable value of accounts receivableD. Proper cut-off

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: KnowledgeDifficulty: ModerateLearning Objective: 13

60. In the confirmation of accounts receivable the auditor would most likely A. Randomly select a representative sample of accounts for confirmationB. Seek to obtain positive confirmations for at least 50% of the total dollar amount of the receivablesC. Require confirmation of all receivables from agencies of the federal governmentD. Require that confirmation requests be sent within one month of the fiscal year-end


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61. Confirmation is most likely to be a relevant form of evidence with regard to assertions about accounts receivable when the auditor has concerns about the receivables' A. ValuationB. ClassificationC. ExistenceD. Completeness

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: ComprehensionDifficulty: ModerateLearning Objective: 13Learning Objective: 14

62. In which of the following circumstances would the use of the negative form of accounts receivable confirmation most likely be justified? A. A substantial number of accounts may be in dispute and the accounts receivable balance arises from sales to a few major customersB. A substantial number of accounts may be in dispute and the accounts receivable balance arises from sales to many customers with small balancesC. A small number of accounts may be in dispute and the accounts receivable balance arises from sales to a few major customersD. A small number of accounts may be in dispute and the accounts receivable balance arises from sales to many customers with small balances


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63. To reduce the risks associated with accepting e-mail responses to requests for confirmation of accounts receivable, an auditor most likely would A. Request the senders to mail the original forms to the auditor or the auditor may follow up with a telephone call to verify the responseB. Examine subsequent cash receipts for the accounts in questionC. Consider the e-mail responses to the confirmations to be exceptionsD. Mail second requests to the e-mail respondents


64. The confirmation of customers' accounts receivable rarely provides reliable evidence about the completeness assertion because A. Many customers merely sign and return the confirmation without verifying its detailsB. Recipients usually respond only if they disagree with the information on the requestC. Customers may not be inclined to report understatement errors in their accountsD. Auditors typically select many accounts with low recorded balances to be confirmed

AACSB: CommunicationsAICPA BB: Critical ThinkingAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: ModerateLearning Objective: 13Learning Objective: 14

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65. Which of the following statements would an auditor most likely add to the negative form of confirmations of accounts receivable to encourage timely consideration by the recipient? A. "This is not a request for payment; remittances should not be sent to our auditors in the enclosed envelope."B. "Report any differences on the enclosed statement directly to our auditors; no reply is necessary if this amount agrees with your records."C. "If you do not report any differences within 15 days, it will be assumed that this statement is correct."D. "The following invoices have been selected for confirmation and represent amounts that are overdue."


66. Some firms that dispose of only a small part of their total output by consignment shipments fail to make any distinction between consignment shipments and regular sales. Which of the following would suggest that goods have been shipped on consignment? A. Numerous shipments of small quantitiesB. Numerous shipments of large quantities and few returnsC. Large debits to accounts receivable followed by small periodic creditsD. Large debits to accounts receivable followed by large periodic credits

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Decision MakingBloom's: AnalysisDifficulty: HardLearning Objective: 1Learning Objective: 2

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67. Which of the following most likely would be the result of ineffective internal control policies and procedures in the revenue process? A. Final authorization of credit memos by personnel in the Sales Department could permit an employee defalcation schemeB. Fictitious transactions could be recorded, causing an understatement of revenues and an overstatement of receivablesC. Irregularities in recording transactions in the subsidiary accounts could result in a delay in goods shippedD. Omission of shipping documents could go undetected, causing an understatement of inventory

AACSB: AnalyticAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: HardLearning Objective: 2Learning Objective: 3Learning Objective: 9

68. Upon receipt of customers' checks in the mailroom, a responsible employee should prepare a listing of remittances that is forwarded to the cashier. A copy of the listing should be sent to the A. Internal auditor to investigate the listing for unusual transactionsB. Treasurer to compare the listing with the monthly bank statementC. Accounts receivable bookkeeper to update the subsidiary accounts receivable recordsD. Entity's bank to compare the listing with the cashier's deposit slip

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: HardLearning Objective: 2Learning Objective: 4Learning Objective: 5

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69. Mill Company uses a batch processing method to process its sales transactions. Data on Mill's sales transaction tapes are electronically sorted by customer number and are subjected to programmed edit checks in preparing its invoices, sales journals, and updated customer account balances. One of the direct outputs of the creation of these tapes most likely would be a: A. Report showing exceptions and control totalsB. Printout of the updated inventory recordsC. Report showing overdue accounts receivableD. Printout of the sales price master file

AACSB: TechnologyAICPA BB: Leveraging TechnologyAICPA FN: Leveraging TechnologyBloom's: ApplicationDifficulty: HardLearning Objective: 2Learning Objective: 4

70. Which of the following sets of duties would ordinarily be considered basically incompatible in terms of good internal control? A. Preparation of monthly statements to customers and maintenance of the accounts receivable subsidiary ledgerB. Posting to the general ledger and approval of additions and terminations relating to the payrollC. Custody of unmailed signed checks and maintenance of expense subsidiary ledgersD. Collection of receipts on account and maintaining accounts receivable records

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ComprehensionDifficulty: HardLearning Objective: 2Learning Objective: 6

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71. During a review of a small business entity's internal control system, the auditor discovered that the accounts receivable clerk approves credit memos and has access to cash. Which of the following controls would be most effective in offsetting this weakness? A. The owner reviews errors in billings to customers and postings to the subsidiary ledgerB. A controller receives the monthly bank statement directly and reconciles the checking accountsC. The owner reviews credit memos after they are recordedD. The controller reconciles the total of the detailed accounts receivable accounts to the amount shown in the ledger

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: HardLearning Objective: 2Learning Objective: 6Learning Objective: 9

72. Which of the following procedures most likely would not be an internal control activity designed to reduce the risk of errors in the billing process? A. Comparing control totals for shipping documents with corresponding totals for sales invoicesB. Using computer programmed controls on the pricing and mathematical accuracy of sales invoicesC. Matching shipping documents with approved sales orders before invoice preparationD. Reconciling the control totals for sales invoices with the accounts receivable subsidiary ledger

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ApplicationDifficulty: HardLearning Objective: 2Learning Objective: 9

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73. Smith is engaged in the audit of a cable TV firm that services a rural community. All receivable balances are small, customers are billed monthly, and internal control is effective. To determine the existence of the accounts receivable balances at the balance sheet date, Smith would most likely A. Send positive confirmation requestsB. Send negative confirmation requestsC. Examine evidence of subsequent cash receipts instead of sending confirmation requestsD. Use statistical sampling instead of sending confirmation requests

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: HardLearning Objective: 10Learning Objective: 13Learning Objective: 14

74. Which of the following most likely would give the most assurance concerning the valuation assertion for accounts receivable? A. Tracing amounts in the subsidiary ledger to details on shipping documentsB. Comparing receivable turnover ratios to industry statistics for reasonablenessC. Inquiring about receivables pledged under loan agreementsD. Assessing the allowance for uncollectible accounts for reasonableness

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: ApplicationDifficulty: HardLearning Objective: 11Learning Objective: 12Learning Objective: 13

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75. An auditor is reviewing sales cutoff as of March 31, 2009. All sales are shipped FOB destination and the company records sales three days after shipment. The auditor notes the following items:

If the client records the required adjustments, the net effect on income in thousands of dollars for the period ended March 31, 2010 is A. An increase of 12B. An increase of 8C. A decrease of 12D. A decrease of 8

AACSB: AnalyticAICPA BB: Critical ThinkingAICPA FN: MeasurementBloom's: AnalysisDifficulty: HardLearning Objective: 12Learning Objective: 13Learning Objective: 16

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76. Customers having substantial year-end past due balances fail to reply after second request forms have been mailed directly to them. Which of the following is the most appropriate audit procedure? A. Examine shipping documentsB. Review collections during the year being examinedC. Intensify the study of the client's system of internal control with respect to receivablesD. Increase the balance in the allowance for uncollectible accounts

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: HardLearning Objective: 13Learning Objective: 14

77. Which of the following strategies most likely could improve the response rate of the confirmation of accounts receivable? A. Including a monthly statement of the customer's accountB. Restricting the selection of accounts to be confirmed to those customers with relatively large balancesC. Requesting customers to respond to the confirmation requests directly to the auditor by fax or e-mailD. Notifying the recipients that second requests will be mailed if they fail to respond in a timely manner

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: AnalysisDifficulty: HardLearning Objective: 13Learning Objective: 14

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78. In confirming accounts receivable, an auditor decided to confirm customers' account balances rather than individual invoices. Which of the following most likely would be included with the client's confirmation letter? A. An auditor-prepared letter explaining that a nonresponse may cause an inference that the account balance is correctB. A client-prepared letter reminding the customer that a nonresponse will cause a second request to be sentC. An auditor-prepared letter requesting the customer to supply missing and incorrect information directly to the auditorD. A client-prepared statement of account showing the details of the customer's account balance

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: HardLearning Objective: 13Learning Objective: 14

79. When comparing prices and terms on a sample of sales invoices with the authorized price list and terms of trade, the auditor is testing the ____________ assertion. A. CutoffB. AuthorizationC. OccurrenceD. Completeness

AACSB: AnalyticAICPA BB: IndustryAICPA FN: MeasurementBloom's: ApplicationDifficulty: EasyLearning Objective: 12

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80. When a sample of sales transactions recorded in the sales journal is traced back to the customer orders and shipping documents, the auditor is testing the ____________ assertion. A. CutoffB. AuthorizationC. CompletenessD. Occurrence


81. When tracing a sample of shipping documents from throughout the year to the details of the sales invoices and to the sales journal and customers' accounts receivable subsidiary ledger, the auditor is testing the _____________ assertion. A. ClassificationB. CutoffC. ExistenceD. Completeness


82. When reviewing bank confirmations for any liens on receivables, the auditor is testing the ______________ assertion. A. Valuation and allocationB. Rights and obligationsC. ExistenceD. Completeness


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Short Answer Questions

83. Explain how revenue recognition is important to the audit of the revenue process.

To determine whether the financial statements are presented fairly and in conformity with GAAP, the auditor must know what is in accordance with GAAP and what is not. There are specific guidelines regarding revenue recognition under GAAP and these guidelines should be reflected in the financial statements. The understanding of when it is appropriate to recognize revenue is very important in testing the occurrence and completeness assertions. Further, the revenue area is subject to high fraud risk and numerous significant fraudulent financial reporting incidents involved improper revenue recognition schemes. Accordingly, the auditor must possess knowledge about the client's revenue recognition process and plan the audit accordingly.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: ApplicationDifficulty: ModerateLearning Objective: 1

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84. Listed below are six assertions regarding the financial presentations made in the revenue process. For each, give an example of how an auditor could use one of the types of documents contained in the revenue process to test the assertion. Occurrence -Completeness -Authorization -Accuracy -Cutoff -Classification -

Student Answers will vary, but here are some examples:Occurrence - The shipping document provides important evidence regarding the occurrence assertion. Because sales are not recorded until the product has been shipped, all recorded sales should have a valid shipping document that documents the sale. The auditor can use these documents to test whether the sales did occur.Completeness - The auditor can use the client's sales invoices and sales journal to test for completeness. In this case, the auditor will trace the sales invoice to the sales journal. This will provide assurance that all shipped items have been recorded as revenue.Authorization - One example of a document used to test authorization is the write-off authorization form. This form authorized the write-off of an uncollectible account. The auditor can determine that all written off uncollectible accounts have been properly authorized by reviewing these documents.Accuracy - To ensure that Accounts Receivable is recorded at its proper net amount, the auditor will need to consider the Allowance for Uncollectible Accounts. The credit approval form can aid in this consideration, by giving the auditor an idea of the level at which credit is granted to determine the anticipated overall creditworthiness of the client's customers.Cutoff - The Open-Order Report can be helpful in testing for cutoff. The auditor could obtain this report for year-end and test that the orders listed as open have not been recorded as revenue.Classification - The Sales Journal is used to test for proper classification through an auditor's review of the journal. The journal provides details about each of the transactions made and to which accounts the transactions were posted.

AACSB: CommunicationsAICPA BB: Critical ThinkingAICPA FN: MeasurementBloom's: KnowledgeDifficulty: ModerateLearning Objective: 4Learning Objective: 9

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85. The XYZ Company billing department has decided to assign one employee to each of its customers. This employee will be responsible for granting credit to the client and then handling the billing. XYZ believes this will result in better customer service, because the client will only have to deal with one person and that one person will be very familiar with the credit terms. As an auditor, would you agree with XYZ's decision?

From an audit perspective, the policy is risky. By not segregating the duties of granting credit and billing, sales can easily be made to customers who are not credit worthy, especially if the XYZ employee is in any way compensated for the number of sales made. Even if there is no compensation, the XYZ employee may give credit to a friend or family member who wouldn't otherwise qualify. All this could lead to a misstatement in Accounts Receivable.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: AnalysisDifficulty: EasyLearning Objective: 6

86. What inherent risk factors should an auditor consider when auditing the revenue process of a computer manufacturer?

The auditor will want to consider industry-related factors such as the high competition of the industry, as well as the high rate of technological change. If the company is unable to keep up with the competition, they may try to cover the poor performance with inflated sales. The auditor will also want to consider any long-term contracts the manufacturer may be in the process of completing. The timing of the revenue recognition for a large project could have a significant impact on the financial statements. Accounts that may be difficult to audit, such as Allowance for Uncollectible Accounts and any prior misstatements in the financials may also increase the inherent risk assessment of the auditor.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ComprehensionDifficulty: ModerateLearning Objective: 7

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87. Match the test of controls described below to the appropriate assertion it is used to test: Assertions:a) Occurrenceb) Completenessc) Authorizationd) Accuracye) Cutofff) ClassificationTest of Controls:1) Recompute financial information on a sample of sales invoices2) Review of cash receipts journal for unusual items3) Observe the endorsement of checks4) Test a sample of sales invoices for the presence of authorized customer order and shipping document5) Compare the dates on the sales invoices with the dates of the relevant shipping documents6) Test a sample of cash receipts transactions for proper cash discounts.

1) d; 2) f; 3) b; 4) a; 5) e; 6) c

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: ComprehensionDifficulty: EasyLearning Objective: 9

88. Assume an account receivable confirmation is returned with a note to the auditor describing a difference between your client's records and the customer's records. Clearly describe below two potential non-misstatement timing differences that could cause a discrepancy between a client's receivable records and his/her customer's records. The timing differences you describe should be such that after investigation you would determine that your client's receivable balance is not misstated due to these differences.

1. Client shipped to customer before year end but customer received after year end.2. Customer sent payment to client before year end but client received after year end.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: ComprehensionDifficulty: ModerateLearning Objective: 14

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89. You are auditing the allowance for doubtful accounts (ADA) and perform the analytical procedures shown below. Assume that no significant changes have occurred during the year in either the client's credit policies or customer base. What concerns, if any, about adjusting the ADA should the auditor have based on the information shown below?

It appears that the industry has remained relatively stable in both its ADA/AR and Days AR outstanding while the client has significantly increased in the Days AR Outstanding in 2011. Assuming no significant changes in customer base or credit policies, the client should increase the allowance in 2011 since Days AR Outstanding has increased.

AACSB: AnalyticAICPA BB: Critical ThinkingAICPA FN: Decision MakingBloom's: AnalysisDifficulty: ModerateLearning Objective: 11

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90. Identify whether the following tests are tests of controls, substantive analytical procedures, tests of details of transactions, or tests of details of account balances: 1) Select a sample of customer receivables and send positive confirmations to each one2) Examine monthly bank reconciliations for the internal auditors' initials indicating internal verification and review of the reconciliation.3) Select a sample of entries in sales journal and trace each to the shipping documents4) Compute receivable turnover and compare with previous years5) For a sample of new customers, determine whether credit approval was properly administered and documented6) Compare the dates on a sample of sales invoices with the dates of shipment and the dates they were recorded in the sales journal

1) Tests of details of account balances2) Tests of controls3) Tests of details of transactions4) Substantive analytical procedures5) Tests of controls6) Tests of details of transactions

AACSB: CommunicationsAICPA BB: Critical ThinkingAICPA FN: Decision MakingBloom's: ComprehensionDifficulty: HardLearning Objective: 11Learning Objective: 12Learning Objective: 13Learning Objective: 9

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91. Describe the two types of confirmations and indicate which one is more reliable and why.

The two types of confirmations are positive and negative. A positive confirmation requests that customers indicate whether they agree with the amount stated in the confirmation. A response is required either way. A negative confirmation only requires a response if there is a disagreement. The positive confirmation is more reliable, because there is always a response. If a negative confirmation is not returned to the auditor, he/she must assume that there is no problem with the amount, which may or may not, be true. There is less assurance provided about the correctness of the amounts from a negative confirmation.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: KnowledgeDifficulty: EasyLearning Objective: 14

92. Assume you are working on a 12/31 year-end audit. It is now March 31st and the 12/31 accounts receivable aging shows a large receivable that was outstanding on 12/31 for 120 days. Further, the client's receivables are typically collected in less than 45. You anticipate that the client's allowance for doubtful account should be increased and inform the client about your disposition. The client disagrees. Is there an alternative substantive procedure that you could perform that would provide convincing evidence that this balance is collectible? If so, explain.

Determining that the balance was paid after year end would provide convincing evidence that balance was in fact collectible as of 12/31.

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: MeasurementBloom's: ApplicationDifficulty: ModerateLearning Objective: 13

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93. According to the Certified Fraud Examiners, there are eight common methods for committing financial statement fraud. List 4 of the 8.

1. Early revenue recognition2. Holding the books open past the accounting period3. Fictitious sales4. Failure to record returns5. Fraud in the percentage of completion method6. Related party transactions7. Overstating receivables and inventory8. Liability and expense omissions

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Risk AnalysisBloom's: KnowledgeDifficulty: EasyLearning Objective: 1

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94. Identify four of the seven primary functions in the revenue cycle and describe each function.

Answer should include four of the following:

AACSB: CommunicationsAICPA BB: IndustryAICPA FN: Decision MakingBloom's: KnowledgeDifficulty: EasyLearning Objective: 5

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