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Chapter 10 - Auditing the Revenue Process

Chapter 10 Auditing 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 e converted into cash. !rue "alse

#. Revenue must e realized $or realiza le% and earned to e recognized. !rue "alse

&. Channel stuffing is an improper practice used to oost sales y inducing distri utors to uy more inventory than they can promptly resell. !rue "alse

'. !he return of vendor purchases is a part of the revenue process. !rue "alse

(. !he revenue process affects numerous accounts in the financial statements. !rue "alse

). A remittance advice is used to trac* purchases. !rue "alse

+. ,rder entry is the initial function in the revenue cycle. !rue "alse

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Chapter 10 - Auditing the Revenue Process

-. Credit authorization is used to determine if a customer is a le to pay for goods. !rue "alse

.. A negative confirmation re/uests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. !rue "alse

10. A positive confirmation re/uests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. !rue "alse

Multiple Choice Questions

11. 0n general1 revenue is recognized when A. 2oods are shipped 3. 0t is earned and realized C. 0t is recorded in the sales 4ournal 5. 0t is received in cash

1#. According to the 67C8s 6A3 9o. 1011 which of the following is not necessary for revenue recognition: A. !he seller8s price to the uyer is fixed 3. Collecti ility is reasona ly assured C. !he seller has determined that the uyer will ta*e the discount 5. Persuasive evidence of an arrangement exists

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Chapter 10 - Auditing the Revenue Process

1&. ;hat is channel stuffing: A. A company records revenue efore delivery terms can e arranged 3. A company records revenue on goods that will e shipped overseas C. A company induces distri utors to uy su stantially more inventory than they can promptly resell 5. A company alters the terms and conditions of recorded sales to entice customers to accept delivery of goods

1'. !racing ills of lading to sales invoices provides evidence that A. 6hipments to customers were properly authorized 3. Recorded sales were shipped C. 3illed sales were shipped 5. 6hipments to customers were illed

1(. At which point in an ordinary sales transaction of a wholesaling usiness would a lac* of specific authorization e of least concern to the auditor: A. 2ranting of credit 3. 6hipment of goods C. 5etermination of discounts 5. 6elling of goods for cash

1). !racing copies of sales invoices to shipping documents will provide evidence that all A. 6hipments to customers were recorded as receiva les 3. 3illed sales were shipped C. Accounts receiva le ledger is complete 5. 6hipments to customers were illed

1+. An auditor tests an entity8s policy of o taining credit approval efore shipping goods to customers in support of management8s financial statement assertion of A. <aluation or allocation 3. Completeness C. 7xistence or occurrence 5. Rights and o ligations

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Chapter 10 - Auditing the Revenue Process

1-. ;hich of the following tests of controls most li*ely would help assure an auditor that goods shipped are properly illed: A. 6can the sales 4ournal for se/uential and unusual entries 3. 7xamine shipping documents for matching sales invoices C. Compare the accounts receiva le ledger to daily sales summaries 5. 0nspect unused sales invoices for consecutive prenum ering

1.. !racing shipping documents to prenum ered sales invoices provides evidence that A. 9o duplicate shipments or illings occurred 3. 6hipments to customers were properly illed C. All goods ordered y customers were shipped 5. All prenum ered sales invoices were accounted for

#0. !ests designed to detect credit sales made after the end of the year that have een recorded in the current year provide assurance a out management8s assertion of A. Classification 3. Cutoff C. ,ccurrence 5. Authorization and accuracy

#1. ;hen evaluating internal control of an entity that processes revenue transactions on the 0nternet1 an auditor would e most concerned a out the A. Potential for computer disruptions in recording sales 3. =ac* of sales invoice documents as an audit trail C. "re/uency of archiving and data retention 5. 0na ility to esta lish test data

##. ;hich of the following is not an inherent ris* factor for the revenue process: A. Complexity of revenue recognition issues 3. 5ifficulty of auditing transactions C. 6pecial industry practices 5. !he client does not follow its stated policies for sales order approvals

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Chapter 10 - Auditing the Revenue Process

#&. 5ata Corporation has 4ust computerized its illing and accounts receiva le record *eeping. >ou want to ma*e maximum use of the new computer in your audit of 5ata Corporation. ;hich of the following audit techni/ues could not e performed through a computer program: A. !racing audited cash receipts to accounts receiva le credits 3. 6electing accounts to e confirmed on a random asis C. 7xamining sales invoices for completeness1 consistency etween different items1 valid conditions1 and reasona le amounts 5. Resolving differences reported y customers on confirmation re/uests

#'. 0n auditing accounts receiva le the negative form of confirmation re/uest most li*ely would e used when A. Recipients are li*ely to return positive confirmation re/uests without verifying the accuracy of the information 3. !he com ined assessed level of inherent and control ris* relative to accounts receiva le is low C. A small num er of accounts receiva le are involved ut a relatively large num er of errors are expected 5. !he auditor performs a dual purpose test that assesses control ris* and o tains su stantive evidence

#(. Auditors may use positive and?or negative forms of confirmation re/uests for accounts receiva le. ;hich of the following statements is true regarding the auditor8s use of confirmations: A. !he positive confirmation form must always e used to confirm all alances regardless of size 3. A com ination of the two confirmation types can e used1 with the positive form used for large alances and the negative form used for small alances C. A com ination of the two confirmation types can e used1 with the positive form used for trade receiva les and the negative form for other receiva les 5. !he positive confirmation form should e used when controls related to receiva les are satisfactory and the negative confirmation form should e used when controls related to receiva les are unsatisfactory

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Chapter 10 - Auditing the Revenue Process

#). 0n determining the ade/uacy of the allowance for uncollecti le accounts1 the least reliance should e placed upon which of the following: A. !he credit manager8s opinion 3. An aging schedule of past due accounts C. 6u se/uent year collections of amounts in accounts receiva le at the alance sheet date 5. Ratios calculated showing the past relationship of the valuation allowance to net credit sales

#+. An aged trial alance of accounts receiva le is usually used y the auditor to A. <erify the existence of recorded receiva les 3. 7nsure that all accounts are promptly credited C. 7valuate the results of tests of controls 5. 7valuate the provision for ad de ts

#-. Audit documents often include a client-prepared aged trial alance of accounts receiva le as of the alance sheet date. !his aging is used y the auditor to A. 7valuate internal control over credit sales 3. !est the accuracy of recorded credit sales C. 7valuate the allowance for dou tful accounts 5. <erify the existence of the recorded receiva les

#.. 0n connection with the examination of financial statements y an independent auditor1 the client suggests that mem ers of the internal audit staff e utilized to minimize audit costs. ;hich of the following tas*s could most appropriately e delegated to the internal audit staff: A. 6election of accounts receiva le for confirmation1 ased upon the internal auditor8s 4udgment as to how many accounts and which accounts will provide sufficient coverage 3. Preparation of schedules for negative accounts receiva le responses C. 7valuation of the internal control for accounts receiva le and sales 5. 5etermination of the ade/uacy of the allowance for dou tful accounts

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Chapter 10 - Auditing the Revenue Process

&0. ;hich of the following is the est argument against the use of negative accounts receiva le confirmations: A. !he cost-per-response is excessively high 3. !here is no way of *nowing if the intended recipients received them C. Recipients are li*ely to feel that1 in reality1 the confirmation is a su tle re/uest for payment 5. !he inference drawn from receiving no reply may not e correct

&1. An auditor8s purpose in reviewing credit ratings of customers with delin/uent accounts receiva le most li*ely is to o tain evidence concerning management8s assertions a out A. <aluation and allocation 3. Completeness C. 7xistence 5. Rights and o ligations

&#. ;hich of the following controls most li*ely would e effective in offsetting the tendency of sales personnel to maximize sales volume at the expense of high ad de t write-offs: A. 7mployees responsi le for authorizing sales and ad de t write-offs are denied access to cash 3. 6hipping documents and sales invoices are matched y an employee who does not have authority to write off ad de ts C. 7mployees involved in the credit-granting function are separated from the sales function 5. 6u sidiary accounts receiva le records are reconciled to the control account y an employee independent of the authorization of credit

&&. Alpha Company uses its sales invoices for posting perpetual inventory records. 0nade/uate control activities over the invoicing function allow goods to e shipped that are not invoiced. !he inade/uate control activities could cause an A. @nderstatement of revenues1 receiva les1 and inventory 3. ,verstatement of revenues and receiva les and an understatement of inventory C. @nderstatement of revenues and receiva les and an overstatement of inventory 5. ,verstatement of revenues1 receiva les1 and inventory

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Chapter 10 - Auditing the Revenue Process

&'. Alpha Company uses its sales invoices for posting perpetual inventory records. 0nade/uate control activities over the invoicing function allow goods to e invoiced that are not shipped. !he inade/uate control activities could cause an A. @nderstatement of revenues1 receiva les1 and inventory 3. ,verstatement of revenues and receiva les and an understatement of inventory C. @nderstatement of revenues and receiva les and an overstatement of inventory 5. ,verstatement of revenues1 receiva les1 and inventory

&(. 0mmediately upon receipt of cash1 a responsi le employee should A. Record the amount in the cash receipts 4ournal 3. Prepare a listing of remittances C. @pdate the su sidiary accounts receiva le records 5. Prepare a deposit slip in triplicate

&). "or the most effective internal control1 monthly an* statements should e received directly from the an*s and reviewed y the A. Controller 3. Cash receipts accountant C. Cash dis ursement accountant 5. 0nternal auditor

&+. ;hich one of the following would the auditor consider to e an incompati le operation if the cashier receives remittances from the mailroom: A. !he cashier prepares the daily deposit 3. !he cashier ma*es the daily deposit at a local an* C. !he cashier posts the receipts to the accounts receiva le su sidiary ledger cards 5. !he cashier endorses the chec*s

&-. ;hich is not a *ey segregation of duties for the revenue process: 5ifferent parties should A. Prepare shipping orders and prepare ills of lading 3. Perform the credit and illing functions C. Perform the shipping and illing function 5. Receive cash and ad4ust accounts receiva le

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Chapter 10 - Auditing the Revenue Process

&.. All of the following are important controls over credit memos except A. Proper segregation of duties to ensure that sales discounts ta*en were earned 3. Credit memos should e approved y someone other than whoever initiated it C. Credit memos should e supported y a receiving document for returned goods 5. Proper segregation of duties etween access to customer records and authorizing credit memos

'0. An auditor would consider a cashier8s 4o description to contain compati le duties if the cashier receives remittances from the mailroom and also A. Records the 4ournal entry to recognize the cash receipt 3. Prepares the monthly an* reconciliation C. Prepares the daily deposit slip 5. Approves customer discounts

'1. Auditors are more concerned with the occurrence assertion for revenues than the completeness assertion ecauseA A. Clients are more li*ely to overstate than understate revenues 3. Clients are more li*ely to understate than overstate revenues C. 0t is difficult to determine when services have een performed 5. !he allowance for dou tful accounts often is understated

'#. An auditor selects a sample from the file of shipping documents to determine whether invoices were prepared. !his test is performed to assess the assertion of A. Authorization and accuracy 3. Completeness C. Cutoff 5. ,ccurrence

'&. ;hich of the following control activities may prevent the failure to ill customers for some shipments: A. 7ach shipment should e supported y a prenum ered sales invoice that is accounted for 3. 7ach sales order should e approved y authorized personnel C. 6ales 4ournal entries should e reconciled to daily sales summaries 5. 7ach sales invoice should e supported y a shipping document

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Chapter 10 - Auditing the Revenue Process

''. ;hich of the following internal control activities most li*ely would ensure that all illed sales are correctly posted to the accounts receiva le ledger: A. 5aily sales summaries are compared to daily postings to the accounts receiva le ledger 3. 7ach sales invoice is supported y a prenum ered shipping document C. !he accounts receiva le ledger is reconciled daily to the control account in the general ledger 5. 7ach shipment on credit is supported y a prenum ered sales invoice

'(. A CPA auditing an electric utility wishes to determine whether all customers are eing illed. !he CPA8s est direction of test is from the A. Beter department records to the illing $sales% register 3. 3illing $sales% register to the meter department records C. Accounts receiva le ledger to the illing $sales% register 5. 3illing $sales% register to the accounts receiva le ledger

'). !o determine whether the system of internal control operated effectively to minimize errors of failure to invoice a shipment1 the auditor would select a sample of transactions from the population represented y the A. Customer order file 3. 3ill of lading file C. ,pen invoice file 5. 6ales invoice file

'+. ;hich of the following procedures would ordinarily e expected to est reveal improper cutoff of sales at the alance sheet date: A. Compare shipping documents with sales records 3. Apply gross profit rates to inventory disposed of during the period C. !race payments received su se/uent to the alance sheet date 5. 6end accounts receiva le confirmation re/uests

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Chapter 10 - Auditing the Revenue Process

'-. 0f the o 4ective of a test of details is to detect overstatements of sales1 the auditor should trace transactions from the A. Cash receipts 4ournal to the sales 4ournal 3. 6ales 4ournal to the cash receipts 4ournal C. 6hipping documents to the accounting records 5. Accounting records to the shipping documents

'.. ;hich of the following misstatements is not related to the completeness assertion for revenue: A. 2oods are shipped1 ut revenue is not recorded 3. !his year8s revenue is recorded next year C. 9ext year8s revenue is recorded this year 5. Revenue is not recognized for services that have een performed

(0. ;hich of the following is a test of controls for the transaction assertion of completeness for revenue: A. !est a sample of sales invoices for authorized customer orders 3. Review sales orders for proper credit approval C. !race shipping documents to sales invoices and the sales 4ournal 5. 7xamine reconciliation of su sidiary ledger to general ledger control account

(1. !o achieve good internal control1 which department should perform the activities of matching shipping documents with sales orders and preparing daily sales summaries: A. 3illing 3. 6hipping C. Credit 5. 6ales ,rder

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Chapter 10 - Auditing the Revenue Process

(#. An auditor confirms a representative num er of open accounts receiva le as of 5ecem er &1 and investigates respondents8 exceptions and comments. 3y this procedure1 the auditor would e most li*ely to learn of which of the following: A. ,ne of the cashiers has een covering a personal em ezzlement y lapping 3. ,ne of the sales cler*s has not een preparing charge slips for credit sales to family and friends C. ,ne of the 75P control cler*s has een removing all sales invoices applica le to his account from the data file 5. !he credit manager has misappropriated remittances from customers whose accounts have een written off

(&. An auditor most li*ely would limit su stantive tests of sales transactions when control ris* is assessed as low for the existence or occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting A. ,pening and closing inventory alances 3. Cash receipts and accounts receiva le C. 6hipping and receiving activities 5. Cutoffs of sales and purchases

('. Cooper1 CPA is auditing the financial statements of a small rural municipality. !he receiva le alances represent residents8 delin/uent real estate taxes. 0nternal control at the municipality is wea*. !o determine the existence of the accounts receiva le alances at the alance sheet date1 Cooper would most li*ely A. 6end positive confirmation re/uests 3. 6end negative confirmation re/uests C. 7xamine evidence of su se/uent cash receipts 5. 0nspect the internal records1 such as copies of the tax invoices that were mailed to the residents

((. Auditors sometimes use ratios as audit evidence. "or example1 an unexplained increase in the ratio of gross profit to sales may suggest which of the following possi ilities: A. "ictitious purchases 3. "ictitious sales C. 6elling and general expenses erroneously eing recorded as merchandise purchases 5. @nrecorded sales

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Chapter 10 - Auditing the Revenue Process

(). ;hich of the following might e detected y an auditor8s review of the client8s sales cutoff: A. 7xcessive goods returned for credit 3. @nrecorded sales discounts C. =apping of year-end accounts receiva le 5. 0nflated sales for the year

(+. An auditor reconciles the total of the accounts receiva le su sidiary ledger to the general ledger control account as of ,cto er &1. 3y this procedure1 the auditor would e most li*ely to learn of which of the following: A. An ,cto er invoice was improperly computed 3. An ,cto er chec* from a customer was posted in error to the account of another customer with a similar name C. An opening alance in a su sidiary ledger account was improperly carried forward from the previous accounting period 5. An account alance is past due and should e written off

(-. ,nce a CPA has determined that accounts receiva le have increased ecause of slow collection in a Ctight moneyC environment1 the CPA would e li*ely to A. 0ncrease the alance in the allowance for ad de ts account 3. Review the going concern ramifications C. Re/uire the client to tighten their credit policy 5. 7xpand tests regarding the collecta ility of receiva les

(.. ;hich of the following is not an issue related to the valuation of accounts receiva le: A. !he valuation of revenue that ma*es up the detail of accounts receiva le 3. A proper allowance for dou tful accounts C. !he net realiza le value of accounts receiva le 5. Proper cut-off

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Chapter 10 - Auditing the Revenue Process

)0. 0n the confirmation of accounts receiva le the auditor would most li*ely A. Randomly select a representative sample of accounts for confirmation 3. 6ee* to o tain positive confirmations for at least (0D of the total dollar amount of the receiva les C. Re/uire confirmation of all receiva les from agencies of the federal government 5. Re/uire that confirmation re/uests e sent within one month of the fiscal year-end

)1. Confirmation is most li*ely to e a relevant form of evidence with regard to assertions a out accounts receiva le when the auditor has concerns a out the receiva les8 A. <aluation 3. Classification C. 7xistence 5. Completeness

)#. 0n which of the following circumstances would the use of the negative form of accounts receiva le confirmation most li*ely e 4ustified: A. A su stantial num er of accounts may e in dispute and the accounts receiva le alance arises from sales to a few ma4or customers 3. A su stantial num er of accounts may e in dispute and the accounts receiva le alance arises from sales to many customers with small alances C. A small num er of accounts may e in dispute and the accounts receiva le alance arises from sales to a few ma4or customers 5. A small num er of accounts may e in dispute and the accounts receiva le alance arises from sales to many customers with small alances

)&. !o reduce the ris*s associated with accepting e-mail responses to re/uests for confirmation of accounts receiva le1 an auditor most li*ely would A. Re/uest the senders to mail the original forms to the auditor or the auditor may follow up with a telephone call to verify the response 3. 7xamine su se/uent cash receipts for the accounts in /uestion C. Consider the e-mail responses to the confirmations to e exceptions 5. Bail second re/uests to the e-mail respondents

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Chapter 10 - Auditing the Revenue Process

)'. !he confirmation of customers8 accounts receiva le rarely provides relia le evidence a out the completeness assertion ecause A. Bany customers merely sign and return the confirmation without verifying its details 3. Recipients usually respond only if they disagree with the information on the re/uest C. Customers may not e inclined to report understatement errors in their accounts 5. Auditors typically select many accounts with low recorded alances to e confirmed

)(. ;hich of the following statements would an auditor most li*ely add to the negative form of confirmations of accounts receiva le to encourage timely consideration y the recipient: A. C!his is not a re/uest for paymentE remittances should not e sent to our auditors in the enclosed envelope.C 3. CReport any differences on the enclosed statement directly to our auditorsE no reply is necessary if this amount agrees with your records.C C. C0f you do not report any differences within 1( days1 it will e assumed that this statement is correct.C 5. C!he following invoices have een selected for confirmation and represent amounts that are overdue.C

)). 6ome firms that dispose of only a small part of their total output y consignment shipments fail to ma*e any distinction etween consignment shipments and regular sales. ;hich of the following would suggest that goods have een shipped on consignment: A. 9umerous shipments of small /uantities 3. 9umerous shipments of large /uantities and few returns C. =arge de its to accounts receiva le followed y small periodic credits 5. =arge de its to accounts receiva le followed y large periodic credits

)+. ;hich of the following most li*ely would e the result of ineffective internal control policies and procedures in the revenue process: A. "inal authorization of credit memos y personnel in the 6ales 5epartment could permit an employee defalcation scheme 3. "ictitious transactions could e recorded1 causing an understatement of revenues and an overstatement of receiva les C. 0rregularities in recording transactions in the su sidiary accounts could result in a delay in goods shipped 5. ,mission of shipping documents could go undetected1 causing an understatement of inventory

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Chapter 10 - Auditing the Revenue Process

)-. @pon receipt of customers8 chec*s in the mailroom1 a responsi le employee should prepare a listing of remittances that is forwarded to the cashier. A copy of the listing should e sent to the A. 0nternal auditor to investigate the listing for unusual transactions 3. !reasurer to compare the listing with the monthly an* statement C. Accounts receiva le oo**eeper to update the su sidiary accounts receiva le records 5. 7ntity8s an* to compare the listing with the cashier8s deposit slip

).. Bill Company uses a atch processing method to process its sales transactions. 5ata on Bill8s sales transaction tapes are electronically sorted y customer num er and are su 4ected to programmed edit chec*s in preparing its invoices1 sales 4ournals1 and updated customer account alances. ,ne of the direct outputs of the creation of these tapes most li*ely would e aA A. Report showing exceptions and control totals 3. Printout of the updated inventory records C. Report showing overdue accounts receiva le 5. Printout of the sales price master file

+0. ;hich of the following sets of duties would ordinarily e considered asically incompati le in terms of good internal control: A. Preparation of monthly statements to customers and maintenance of the accounts receiva le su sidiary ledger 3. Posting to the general ledger and approval of additions and terminations relating to the payroll C. Custody of unmailed signed chec*s and maintenance of expense su sidiary ledgers 5. Collection of receipts on account and maintaining accounts receiva le records

+1. 5uring a review of a small usiness entity8s internal control system1 the auditor discovered that the accounts receiva le cler* approves credit memos and has access to cash. ;hich of the following controls would e most effective in offsetting this wea*ness: A. !he owner reviews errors in illings to customers and postings to the su sidiary ledger 3. A controller receives the monthly an* statement directly and reconciles the chec*ing accounts C. !he owner reviews credit memos after they are recorded 5. !he controller reconciles the total of the detailed accounts receiva le accounts to the amount shown in the ledger

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Chapter 10 - Auditing the Revenue Process

+#. ;hich of the following procedures most li*ely would not e an internal control activity designed to reduce the ris* of errors in the illing process: A. Comparing control totals for shipping documents with corresponding totals for sales invoices 3. @sing computer programmed controls on the pricing and mathematical accuracy of sales invoices C. Batching shipping documents with approved sales orders efore invoice preparation 5. Reconciling the control totals for sales invoices with the accounts receiva le su sidiary ledger

+&. 6mith is engaged in the audit of a ca le !< firm that services a rural community. All receiva le alances are small1 customers are illed monthly1 and internal control is effective. !o determine the existence of the accounts receiva le alances at the alance sheet date1 6mith would most li*ely A. 6end positive confirmation re/uests 3. 6end negative confirmation re/uests C. 7xamine evidence of su se/uent cash receipts instead of sending confirmation re/uests 5. @se statistical sampling instead of sending confirmation re/uests

+'. ;hich of the following most li*ely would give the most assurance concerning the valuation assertion for accounts receiva le: A. !racing amounts in the su sidiary ledger to details on shipping documents 3. Comparing receiva le turnover ratios to industry statistics for reasona leness C. 0n/uiring a out receiva les pledged under loan agreements 5. Assessing the allowance for uncollecti le accounts for reasona leness

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Chapter 10 - Auditing the Revenue Process

+(. An auditor is reviewing sales cutoff as of Barch &11 #00.. All sales are shipped ",3 destination and the company records sales three days after shipment. !he auditor notes the following itemsA

0f the client records the re/uired ad4ustments1 the net effect on income in thousands of dollars for the period ended Barch &11 #010 is A. An increase of 1# 3. An increase of C. A decrease of 1# 5. A decrease of -

+). Customers having su stantial year-end past due alances fail to reply after second re/uest forms have een mailed directly to them. ;hich of the following is the most appropriate audit procedure: A. 7xamine shipping documents 3. Review collections during the year eing examined C. 0ntensify the study of the client8s system of internal control with respect to receiva les 5. 0ncrease the alance in the allowance for uncollecti le accounts

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Chapter 10 - Auditing the Revenue Process

++. ;hich of the following strategies most li*ely could improve the response rate of the confirmation of accounts receiva le: A. 0ncluding a monthly statement of the customer8s account 3. Restricting the selection of accounts to e confirmed to those customers with relatively large alances C. Re/uesting customers to respond to the confirmation re/uests directly to the auditor y fax or e-mail 5. 9otifying the recipients that second re/uests will e mailed if they fail to respond in a timely manner

+-. 0n confirming accounts receiva le1 an auditor decided to confirm customers8 account alances rather than individual invoices. ;hich of the following most li*ely would e included with the client8s confirmation letter: A. An auditor-prepared letter explaining that a nonresponse may cause an inference that the account alance is correct 3. A client-prepared letter reminding the customer that a nonresponse will cause a second re/uest to e sent C. An auditor-prepared letter re/uesting the customer to supply missing and incorrect information directly to the auditor 5. A client-prepared statement of account showing the details of the customer8s account alance

+.. ;hen comparing prices and terms on a sample of sales invoices with the authorized price list and terms of trade1 the auditor is testing the FFFFFFFFFFFF assertion. A. Cutoff 3. Authorization C. ,ccurrence 5. Completeness

-0. ;hen a sample of sales transactions recorded in the sales 4ournal is traced ac* to the customer orders and shipping documents1 the auditor is testing the FFFFFFFFFFFF assertion. A. Cutoff 3. Authorization C. Completeness 5. ,ccurrence

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Chapter 10 - Auditing the Revenue Process

-1. ;hen tracing a sample of shipping documents from throughout the year to the details of the sales invoices and to the sales 4ournal and customers8 accounts receiva le su sidiary ledger1 the auditor is testing the FFFFFFFFFFFFF assertion. A. Classification 3. Cutoff C. 7xistence 5. Completeness

-#. ;hen reviewing an* confirmations for any liens on receiva les1 the auditor is testing the FFFFFFFFFFFFFF assertion. A. <aluation and allocation 3. Rights and o ligations C. 7xistence 5. Completeness

Short Answer Questions

-&. 7xplain how revenue recognition is important to the audit of the revenue process.

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Chapter 10 - Auditing the Revenue Process

-'. =isted elow are six assertions regarding the financial presentations made in the revenue process. "or each1 give an example of how an auditor could use one of the types of documents contained in the revenue process to test the assertion. ,ccurrence Completeness Authorization Accuracy Cutoff Classification -

-(. !he G>H Company illing department has decided to assign one employee to each of its customers. !his employee will e responsi le for granting credit to the client and then handling the illing. G>H elieves this will result in etter customer service1 ecause the client will only have to deal with one person and that one person will e very familiar with the credit terms. As an auditor1 would you agree with G>H8s decision:

-). ;hat inherent ris* factors should an auditor consider when auditing the revenue process of a computer manufacturer:

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Chapter 10 - Auditing the Revenue Process

-+. Batch the test of controls descri ed elow to the appropriate assertion it is used to testA Assertions: a% ,ccurrence % Completeness c% Authorization d% Accuracy e% Cutoff f% Classification Test of Controls: 1% Recompute financial information on a sample of sales invoices #% Review of cash receipts 4ournal for unusual items &% , serve the endorsement of chec*s '% !est a sample of sales invoices for the presence of authorized customer order and shipping document (% Compare the dates on the sales invoices with the dates of the relevant shipping documents )% !est a sample of cash receipts transactions for proper cash discounts.

--. Assume an account receiva le confirmation is returned with a note to the auditor descri ing a difference etween your client8s records and the customer8s records. Clearly descri e elow two potential non-misstatement timing differences that could cause a discrepancy etween a client8s receiva le records and his?her customer8s records. !he timing differences you descri e should e such that after investigation you would determine that your client8s receiva le alance is not misstated due to these differences.

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Chapter 10 - Auditing the Revenue Process

-.. >ou are auditing the allowance for dou tful accounts $A5A% and perform the analytical procedures shown elow. Assume that no significant changes have occurred during the year in either the client8s credit policies or customer ase. ;hat concerns1 if any1 a out ad4usting the A5A should the auditor have ased on the information shown elow:

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Chapter 10 - Auditing the Revenue Process

.0. 0dentify whether the following tests are tests of controls1 su stantive analytical procedures1 tests of details of transactions1 or tests of details of account alancesA 1% 6elect a sample of customer receiva les and send positive confirmations to each one #% 7xamine monthly an* reconciliations for the internal auditors8 initials indicating internal verification and review of the reconciliation. &% 6elect a sample of entries in sales 4ournal and trace each to the shipping documents '% Compute receiva le turnover and compare with previous years (% "or a sample of new customers1 determine whether credit approval was properly administered and documented )% Compare the dates on a sample of sales invoices with the dates of shipment and the dates they were recorded in the sales 4ournal

.1. 5escri e the two types of confirmations and indicate which one is more relia le and why.

.#. Assume you are wor*ing on a 1#?&1 year-end audit. 0t is now Barch &1st and the 1#?&1 accounts receiva le aging shows a large receiva le that was outstanding on 1#?&1 for 1#0 days. "urther1 the client8s receiva les are typically collected in less than '(. >ou anticipate that the client8s allowance for dou tful account should e increased and inform the client a out your disposition. !he client disagrees. 0s there an alternative su stantive procedure that you could perform that would provide convincing evidence that this alance is collecti le: 0f so1 explain.

10-#'

Chapter 10 - Auditing the Revenue Process

.&. According to the Certified "raud 7xaminers1 there are eight common methods for committing financial statement fraud. =ist ' of the -.

.'. 0dentify four of the seven primary functions in the revenue cycle and descri e each function.

10-#(

Chapter 10 - Auditing the Revenue Process

Chapter 10 Auditing the Revenue Process Answer Iey

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 e converted into cash. TRU

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#. Revenue must e realized $or realiza le% and earned to e recognized. TRU

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&. Channel stuffing is an improper practice used to oost sales y inducing distri utors to uy more inventory than they can promptly resell. TRU

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10-#)

Chapter 10 - Auditing the Revenue Process

'. !he return of vendor purchases is a part of the revenue process. FA!S

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(. !he revenue process affects numerous accounts in the financial statements. TRU

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). A remittance advice is used to trac* purchases. FA!S

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+. ,rder entry is the initial function in the revenue cycle. TRU

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10-#+

Chapter 10 - Auditing the Revenue Process

-. Credit authorization is used to determine if a customer is a le to pay for goods. TRU

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.. A negative confirmation re/uests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. FA!S

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10. A positive confirmation re/uests that customers respond whether they agree or not with the amount due to the client stated in the confirmation. TRU

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Multiple Choice Questions

10-#-

Chapter 10 - Auditing the Revenue Process

11. 0n general1 revenue is recognized when A. 2oods are shipped "# 0t is earned and realized C. 0t is recorded in the sales 4ournal 5. 0t is received in cash

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1#. According to the 67C8s 6A3 9o. 1011 which of the following is not necessary for revenue recognition: A. !he seller8s price to the uyer is fixed 3. Collecti ility is reasona ly assured C# !he seller has determined that the uyer will ta*e the discount 5. Persuasive evidence of an arrangement exists

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1&. ;hat is channel stuffing: A. A company records revenue efore delivery terms can e arranged 3. A company records revenue on goods that will e shipped overseas C# A company induces distri utors to uy su stantially more inventory than they can promptly resell 5. A company alters the terms and conditions of recorded sales to entice customers to accept delivery of goods

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10-#.

Chapter 10 - Auditing the Revenue Process

1'. !racing ills of lading to sales invoices provides evidence that A. 6hipments to customers were properly authorized 3. Recorded sales were shipped C. 3illed sales were shipped $# 6hipments to customers were illed

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1(. At which point in an ordinary sales transaction of a wholesaling usiness would a lac* of specific authorization e of least concern to the auditor: A. 2ranting of credit 3. 6hipment of goods C. 5etermination of discounts $# 6elling of goods for cash

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1). !racing copies of sales invoices to shipping documents will provide evidence that all A. 6hipments to customers were recorded as receiva les "# 3illed sales were shipped C. Accounts receiva le ledger is complete 5. 6hipments to customers were illed

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10-&0

Chapter 10 - Auditing the Revenue Process

1+. An auditor tests an entity8s policy of o taining credit approval efore shipping goods to customers in support of management8s financial statement assertion of A# <aluation or allocation 3. Completeness C. 7xistence or occurrence 5. Rights and o ligations

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1-. ;hich of the following tests of controls most li*ely would help assure an auditor that goods shipped are properly illed: A. 6can the sales 4ournal for se/uential and unusual entries "# 7xamine shipping documents for matching sales invoices C. Compare the accounts receiva le ledger to daily sales summaries 5. 0nspect unused sales invoices for consecutive prenum ering

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1.. !racing shipping documents to prenum ered sales invoices provides evidence that A. 9o duplicate shipments or illings occurred "# 6hipments to customers were properly illed C. All goods ordered y customers were shipped 5. All prenum ered sales invoices were accounted for

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Chapter 10 - Auditing the Revenue Process

#0. !ests designed to detect credit sales made after the end of the year that have een recorded in the current year provide assurance a out management8s assertion of A. Classification "# Cutoff C. ,ccurrence 5. Authorization and accuracy

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#1. ;hen evaluating internal control of an entity that processes revenue transactions on the 0nternet1 an auditor would e most concerned a out the A# Potential for computer disruptions in recording sales 3. =ac* of sales invoice documents as an audit trail C. "re/uency of archiving and data retention 5. 0na ility to esta lish test data

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##. ;hich of the following is not an inherent ris* factor for the revenue process: A. Complexity of revenue recognition issues 3. 5ifficulty of auditing transactions C. 6pecial industry practices $# !he client does not follow its stated policies for sales order approvals

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10-&#

Chapter 10 - Auditing the Revenue Process

#&. 5ata Corporation has 4ust computerized its illing and accounts receiva le record *eeping. >ou want to ma*e maximum use of the new computer in your audit of 5ata Corporation. ;hich of the following audit techni/ues could not e performed through a computer program: A. !racing audited cash receipts to accounts receiva le credits 3. 6electing accounts to e confirmed on a random asis C. 7xamining sales invoices for completeness1 consistency etween different items1 valid conditions1 and reasona le amounts $# Resolving differences reported y customers on confirmation re/uests

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#'. 0n auditing accounts receiva le the negative form of confirmation re/uest most li*ely would e used when A. Recipients are li*ely to return positive confirmation re/uests without verifying the accuracy of the information "# !he com ined assessed level of inherent and control ris* relative to accounts receiva le is low C. A small num er of accounts receiva le are involved ut a relatively large num er of errors are expected 5. !he auditor performs a dual purpose test that assesses control ris* and o tains su stantive evidence

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10-&&

Chapter 10 - Auditing the Revenue Process

#(. Auditors may use positive and?or negative forms of confirmation re/uests for accounts receiva le. ;hich of the following statements is true regarding the auditor8s use of confirmations: A. !he positive confirmation form must always e used to confirm all alances regardless of size "# A com ination of the two confirmation types can e used1 with the positive form used for large alances and the negative form used for small alances C. A com ination of the two confirmation types can e used1 with the positive form used for trade receiva les and the negative form for other receiva les 5. !he positive confirmation form should e used when controls related to receiva les are satisfactory and the negative confirmation form should e used when controls related to receiva les are unsatisfactory

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#). 0n determining the ade/uacy of the allowance for uncollecti le accounts1 the least reliance should e placed upon which of the following: A# !he credit manager8s opinion 3. An aging schedule of past due accounts C. 6u se/uent year collections of amounts in accounts receiva le at the alance sheet date 5. Ratios calculated showing the past relationship of the valuation allowance to net credit sales

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10-&'

Chapter 10 - Auditing the Revenue Process

#+. An aged trial alance of accounts receiva le is usually used y the auditor to A. <erify the existence of recorded receiva les 3. 7nsure that all accounts are promptly credited C. 7valuate the results of tests of controls $# 7valuate the provision for ad de ts

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#-. Audit documents often include a client-prepared aged trial alance of accounts receiva le as of the alance sheet date. !his aging is used y the auditor to A. 7valuate internal control over credit sales 3. !est the accuracy of recorded credit sales C# 7valuate the allowance for dou tful accounts 5. <erify the existence of the recorded receiva les

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10-&(

Chapter 10 - Auditing the Revenue Process

#.. 0n connection with the examination of financial statements y an independent auditor1 the client suggests that mem ers of the internal audit staff e utilized to minimize audit costs. ;hich of the following tas*s could most appropriately e delegated to the internal audit staff: A. 6election of accounts receiva le for confirmation1 ased upon the internal auditor8s 4udgment as to how many accounts and which accounts will provide sufficient coverage "# Preparation of schedules for negative accounts receiva le responses C. 7valuation of the internal control for accounts receiva le and sales 5. 5etermination of the ade/uacy of the allowance for dou tful accounts

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&0. ;hich of the following is the est argument against the use of negative accounts receiva le confirmations: A. !he cost-per-response is excessively high 3. !here is no way of *nowing if the intended recipients received them C. Recipients are li*ely to feel that1 in reality1 the confirmation is a su tle re/uest for payment $# !he inference drawn from receiving no reply may not e correct

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10-&)

Chapter 10 - Auditing the Revenue Process

&1. An auditor8s purpose in reviewing credit ratings of customers with delin/uent accounts receiva le most li*ely is to o tain evidence concerning management8s assertions a out A# <aluation and allocation 3. Completeness C. 7xistence 5. Rights and o ligations

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&#. ;hich of the following controls most li*ely would e effective in offsetting the tendency of sales personnel to maximize sales volume at the expense of high ad de t write-offs: A. 7mployees responsi le for authorizing sales and ad de t write-offs are denied access to cash 3. 6hipping documents and sales invoices are matched y an employee who does not have authority to write off ad de ts C# 7mployees involved in the credit-granting function are separated from the sales function 5. 6u sidiary accounts receiva le records are reconciled to the control account y an employee independent of the authorization of credit

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10-&+

Chapter 10 - Auditing the Revenue Process

&&. Alpha Company uses its sales invoices for posting perpetual inventory records. 0nade/uate control activities over the invoicing function allow goods to e shipped that are not invoiced. !he inade/uate control activities could cause an A. @nderstatement of revenues1 receiva les1 and inventory 3. ,verstatement of revenues and receiva les and an understatement of inventory C# @nderstatement of revenues and receiva les and an overstatement of inventory 5. ,verstatement of revenues1 receiva les1 and inventory

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&'. Alpha Company uses its sales invoices for posting perpetual inventory records. 0nade/uate control activities over the invoicing function allow goods to e invoiced that are not shipped. !he inade/uate control activities could cause an A. @nderstatement of revenues1 receiva les1 and inventory "# ,verstatement of revenues and receiva les and an understatement of inventory C. @nderstatement of revenues and receiva les and an overstatement of inventory 5. ,verstatement of revenues1 receiva les1 and inventory

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Bloom's: Analysis Di iculty: Moderate Learning "#$ecti%e: * Learning "#$ecti%e: ' Learning "#$ecti%e: (

10-&-

Chapter 10 - Auditing the Revenue Process

&(. 0mmediately upon receipt of cash1 a responsi le employee should A. Record the amount in the cash receipts 4ournal "# Prepare a listing of remittances C. @pdate the su sidiary accounts receiva le records 5. Prepare a deposit slip in triplicate

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&). "or the most effective internal control1 monthly an* statements should e received directly from the an*s and reviewed y the A. Controller 3. Cash receipts accountant C. Cash dis ursement accountant $# 0nternal auditor

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&+. ;hich one of the following would the auditor consider to e an incompati le operation if the cashier receives remittances from the mailroom: A. !he cashier prepares the daily deposit 3. !he cashier ma*es the daily deposit at a local an* C# !he cashier posts the receipts to the accounts receiva le su sidiary ledger cards 5. !he cashier endorses the chec*s

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10-&.

Chapter 10 - Auditing the Revenue Process

&-. ;hich is not a *ey segregation of duties for the revenue process: 5ifferent parties should A# Prepare shipping orders and prepare ills of lading 3. Perform the credit and illing functions C. Perform the shipping and illing function 5. Receive cash and ad4ust accounts receiva le

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&.. All of the following are important controls over credit memos except A# Proper segregation of duties to ensure that sales discounts ta*en were earned 3. Credit memos should e approved y someone other than whoever initiated it C. Credit memos should e supported y a receiving document for returned goods 5. Proper segregation of duties etween access to customer records and authorizing credit memos

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'0. An auditor would consider a cashier8s 4o description to contain compati le duties if the cashier receives remittances from the mailroom and also A. Records the 4ournal entry to recognize the cash receipt 3. Prepares the monthly an* reconciliation C# Prepares the daily deposit slip 5. Approves customer discounts

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10-'0

Chapter 10 - Auditing the Revenue Process

'1. Auditors are more concerned with the occurrence assertion for revenues than the completeness assertion ecauseA A# Clients are more li*ely to overstate than understate revenues 3. Clients are more li*ely to understate than overstate revenues C. 0t is difficult to determine when services have een performed 5. !he allowance for dou tful accounts often is understated

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'#. An auditor selects a sample from the file of shipping documents to determine whether invoices were prepared. !his test is performed to assess the assertion of A. Authorization and accuracy "# Completeness C. Cutoff 5. ,ccurrence

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'&. ;hich of the following control activities may prevent the failure to ill customers for some shipments: A# 7ach shipment should e supported y a prenum ered sales invoice that is accounted for 3. 7ach sales order should e approved y authorized personnel C. 6ales 4ournal entries should e reconciled to daily sales summaries 5. 7ach sales invoice should e supported y a shipping document

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10-'1

Chapter 10 - Auditing the Revenue Process

''. ;hich of the following internal control activities most li*ely would ensure that all illed sales are correctly posted to the accounts receiva le ledger: A# 5aily sales summaries are compared to daily postings to the accounts receiva le ledger 3. 7ach sales invoice is supported y a prenum ered shipping document C. !he accounts receiva le ledger is reconciled daily to the control account in the general ledger 5. 7ach shipment on credit is supported y a prenum ered sales invoice

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'(. A CPA auditing an electric utility wishes to determine whether all customers are eing illed. !he CPA8s est direction of test is from the A# Beter department records to the illing $sales% register 3. 3illing $sales% register to the meter department records C. Accounts receiva le ledger to the illing $sales% register 5. 3illing $sales% register to the accounts receiva le ledger

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10-'#

Chapter 10 - Auditing the Revenue Process

'). !o determine whether the system of internal control operated effectively to minimize errors of failure to invoice a shipment1 the auditor would select a sample of transactions from the population represented y the A. Customer order file "# 3ill of lading file C. ,pen invoice file 5. 6ales invoice file

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'+. ;hich of the following procedures would ordinarily e expected to est reveal improper cutoff of sales at the alance sheet date: A# Compare shipping documents with sales records 3. Apply gross profit rates to inventory disposed of during the period C. !race payments received su se/uent to the alance sheet date 5. 6end accounts receiva le confirmation re/uests

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10-'&

Chapter 10 - Auditing the Revenue Process

'-. 0f the o 4ective of a test of details is to detect overstatements of sales1 the auditor should trace transactions from the A. Cash receipts 4ournal to the sales 4ournal 3. 6ales 4ournal to the cash receipts 4ournal C. 6hipping documents to the accounting records $# Accounting records to the shipping documents

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'.. ;hich of the following misstatements is not related to the completeness assertion for revenue: A. 2oods are shipped1 ut revenue is not recorded 3. !his year8s revenue is recorded next year C# 9ext year8s revenue is recorded this year 5. Revenue is not recognized for services that have een performed

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10-''

Chapter 10 - Auditing the Revenue Process

(0. ;hich of the following is a test of controls for the transaction assertion of completeness for revenue: A. !est a sample of sales invoices for authorized customer orders 3. Review sales orders for proper credit approval C# !race shipping documents to sales invoices and the sales 4ournal 5. 7xamine reconciliation of su sidiary ledger to general ledger control account

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(1. !o achieve good internal control1 which department should perform the activities of matching shipping documents with sales orders and preparing daily sales summaries: A# 3illing 3. 6hipping C. Credit 5. 6ales ,rder

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10-'(

Chapter 10 - Auditing the Revenue Process

(#. An auditor confirms a representative num er of open accounts receiva le as of 5ecem er &1 and investigates respondents8 exceptions and comments. 3y this procedure1 the auditor would e most li*ely to learn of which of the following: A# ,ne of the cashiers has een covering a personal em ezzlement y lapping 3. ,ne of the sales cler*s has not een preparing charge slips for credit sales to family and friends C. ,ne of the 75P control cler*s has een removing all sales invoices applica le to his account from the data file 5. !he credit manager has misappropriated remittances from customers whose accounts have een written off

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(&. An auditor most li*ely would limit su stantive tests of sales transactions when control ris* is assessed as low for the existence or occurrence assertion concerning sales transactions and the auditor has already gathered evidence supporting A. ,pening and closing inventory alances "# Cash receipts and accounts receiva le C. 6hipping and receiving activities 5. Cutoffs of sales and purchases

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10-')

Chapter 10 - Auditing the Revenue Process

('. Cooper1 CPA is auditing the financial statements of a small rural municipality. !he receiva le alances represent residents8 delin/uent real estate taxes. 0nternal control at the municipality is wea*. !o determine the existence of the accounts receiva le alances at the alance sheet date1 Cooper would most li*ely A# 6end positive confirmation re/uests 3. 6end negative confirmation re/uests C. 7xamine evidence of su se/uent cash receipts 5. 0nspect the internal records1 such as copies of the tax invoices that were mailed to the residents

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((. Auditors sometimes use ratios as audit evidence. "or example1 an unexplained increase in the ratio of gross profit to sales may suggest which of the following possi ilities: A. "ictitious purchases "# "ictitious sales C. 6elling and general expenses erroneously eing recorded as merchandise purchases 5. @nrecorded sales

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10-'+

Chapter 10 - Auditing the Revenue Process

(). ;hich of the following might e detected y an auditor8s review of the client8s sales cutoff: A. 7xcessive goods returned for credit 3. @nrecorded sales discounts C. =apping of year-end accounts receiva le $# 0nflated sales for the year

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(+. An auditor reconciles the total of the accounts receiva le su sidiary ledger to the general ledger control account as of ,cto er &1. 3y this procedure1 the auditor would e most li*ely to learn of which of the following: A. An ,cto er invoice was improperly computed 3. An ,cto er chec* from a customer was posted in error to the account of another customer with a similar name C# An opening alance in a su sidiary ledger account was improperly carried forward from the previous accounting period 5. An account alance is past due and should e written off

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10-'-

Chapter 10 - Auditing the Revenue Process

(-. ,nce a CPA has determined that accounts receiva le have increased ecause of slow collection in a Ctight moneyC environment1 the CPA would e li*ely to A. 0ncrease the alance in the allowance for ad de ts account 3. Review the going concern ramifications C. Re/uire the client to tighten their credit policy $# 7xpand tests regarding the collecta ility of receiva les

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(.. ;hich of the following is not an issue related to the valuation of accounts receiva le: A. !he valuation of revenue that ma*es up the detail of accounts receiva le 3. A proper allowance for dou tful accounts C. !he net realiza le value of accounts receiva le $# Proper cut-off

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)0. 0n the confirmation of accounts receiva le the auditor would most li*ely A# Randomly select a representative sample of accounts for confirmation 3. 6ee* to o tain positive confirmations for at least (0D of the total dollar amount of the receiva les C. Re/uire confirmation of all receiva les from agencies of the federal government 5. Re/uire that confirmation re/uests e sent within one month of the fiscal year-end

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Chapter 10 - Auditing the Revenue Process

)1. Confirmation is most li*ely to e a relevant form of evidence with regard to assertions a out accounts receiva le when the auditor has concerns a out the receiva les8 A. <aluation 3. Classification C# 7xistence 5. Completeness

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)#. 0n which of the following circumstances would the use of the negative form of accounts receiva le confirmation most li*ely e 4ustified: A. A su stantial num er of accounts may e in dispute and the accounts receiva le alance arises from sales to a few ma4or customers 3. A su stantial num er of accounts may e in dispute and the accounts receiva le alance arises from sales to many customers with small alances C. A small num er of accounts may e in dispute and the accounts receiva le alance arises from sales to a few ma4or customers $# A small num er of accounts may e in dispute and the accounts receiva le alance arises from sales to many customers with small alances

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Chapter 10 - Auditing the Revenue Process

)&. !o reduce the ris*s associated with accepting e-mail responses to re/uests for confirmation of accounts receiva le1 an auditor most li*ely would A# Re/uest the senders to mail the original forms to the auditor or the auditor may follow up with a telephone call to verify the response 3. 7xamine su se/uent cash receipts for the accounts in /uestion C. Consider the e-mail responses to the confirmations to e exceptions 5. Bail second re/uests to the e-mail respondents

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)'. !he confirmation of customers8 accounts receiva le rarely provides relia le evidence a out the completeness assertion ecause A. Bany customers merely sign and return the confirmation without verifying its details 3. Recipients usually respond only if they disagree with the information on the re/uest C# Customers may not e inclined to report understatement errors in their accounts 5. Auditors typically select many accounts with low recorded alances to e confirmed

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Chapter 10 - Auditing the Revenue Process

)(. ;hich of the following statements would an auditor most li*ely add to the negative form of confirmations of accounts receiva le to encourage timely consideration y the recipient: A. C!his is not a re/uest for paymentE remittances should not e sent to our auditors in the enclosed envelope.C 3. CReport any differences on the enclosed statement directly to our auditorsE no reply is necessary if this amount agrees with your records.C C# C0f you do not report any differences within 1( days1 it will e assumed that this statement is correct.C 5. C!he following invoices have een selected for confirmation and represent amounts that are overdue.C

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)). 6ome firms that dispose of only a small part of their total output y consignment shipments fail to ma*e any distinction etween consignment shipments and regular sales. ;hich of the following would suggest that goods have een shipped on consignment: A. 9umerous shipments of small /uantities 3. 9umerous shipments of large /uantities and few returns C# =arge de its to accounts receiva le followed y small periodic credits 5. =arge de its to accounts receiva le followed y large periodic credits

AACSB: Analytic AICPA BB: Industry AICPA FN: Decision Ma,ing Bloom's: Analysis Di iculty: 4ard Learning "#$ecti%e: & Learning "#$ecti%e: *

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Chapter 10 - Auditing the Revenue Process

)+. ;hich of the following most li*ely would e the result of ineffective internal control policies and procedures in the revenue process: A# "inal authorization of credit memos y personnel in the 6ales 5epartment could permit an employee defalcation scheme 3. "ictitious transactions could e recorded1 causing an understatement of revenues and an overstatement of receiva les C. 0rregularities in recording transactions in the su sidiary accounts could result in a delay in goods shipped 5. ,mission of shipping documents could go undetected1 causing an understatement of inventory

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)-. @pon receipt of customers8 chec*s in the mailroom1 a responsi le employee should prepare a listing of remittances that is forwarded to the cashier. A copy of the listing should e sent to the A. 0nternal auditor to investigate the listing for unusual transactions 3. !reasurer to compare the listing with the monthly an* statement C# Accounts receiva le oo**eeper to update the su sidiary accounts receiva le records 5. 7ntity8s an* to compare the listing with the cashier8s deposit slip

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Chapter 10 - Auditing the Revenue Process

).. Bill Company uses a atch processing method to process its sales transactions. 5ata on Bill8s sales transaction tapes are electronically sorted y customer num er and are su 4ected to programmed edit chec*s in preparing its invoices1 sales 4ournals1 and updated customer account alances. ,ne of the direct outputs of the creation of these tapes most li*ely would e aA A# Report showing exceptions and control totals 3. Printout of the updated inventory records C. Report showing overdue accounts receiva le 5. Printout of the sales price master file

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+0. ;hich of the following sets of duties would ordinarily e considered asically incompati le in terms of good internal control: A. Preparation of monthly statements to customers and maintenance of the accounts receiva le su sidiary ledger 3. Posting to the general ledger and approval of additions and terminations relating to the payroll C. Custody of unmailed signed chec*s and maintenance of expense su sidiary ledgers $# Collection of receipts on account and maintaining accounts receiva le records

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Chapter 10 - Auditing the Revenue Process

+1. 5uring a review of a small usiness entity8s internal control system1 the auditor discovered that the accounts receiva le cler* approves credit memos and has access to cash. ;hich of the following controls would e most effective in offsetting this wea*ness: A. !he owner reviews errors in illings to customers and postings to the su sidiary ledger 3. A controller receives the monthly an* statement directly and reconciles the chec*ing accounts C# !he owner reviews credit memos after they are recorded 5. !he controller reconciles the total of the detailed accounts receiva le accounts to the amount shown in the ledger

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+#. ;hich of the following procedures most li*ely would not e an internal control activity designed to reduce the ris* of errors in the illing process: A. Comparing control totals for shipping documents with corresponding totals for sales invoices 3. @sing computer programmed controls on the pricing and mathematical accuracy of sales invoices C. Batching shipping documents with approved sales orders efore invoice preparation $# Reconciling the control totals for sales invoices with the accounts receiva le su sidiary ledger

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Chapter 10 - Auditing the Revenue Process

+&. 6mith is engaged in the audit of a ca le !< firm that services a rural community. All receiva le alances are small1 customers are illed monthly1 and internal control is effective. !o determine the existence of the accounts receiva le alances at the alance sheet date1 6mith would most li*ely A. 6end positive confirmation re/uests "# 6end negative confirmation re/uests C. 7xamine evidence of su se/uent cash receipts instead of sending confirmation re/uests 5. @se statistical sampling instead of sending confirmation re/uests

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+'. ;hich of the following most li*ely would give the most assurance concerning the valuation assertion for accounts receiva le: A. !racing amounts in the su sidiary ledger to details on shipping documents 3. Comparing receiva le turnover ratios to industry statistics for reasona leness C. 0n/uiring a out receiva les pledged under loan agreements $# Assessing the allowance for uncollecti le accounts for reasona leness

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Chapter 10 - Auditing the Revenue Process

+(. An auditor is reviewing sales cutoff as of Barch &11 #00.. All sales are shipped ",3 destination and the company records sales three days after shipment. !he auditor notes the following itemsA

0f the client records the re/uired ad4ustments1 the net effect on income in thousands of dollars for the period ended Barch &11 #010 is A. An increase of 1# "# An increase of C. A decrease of 1# 5. A decrease of -

AACSB: Analytic AICPA BB: Critical 12in,ing AICPA FN: Measurement Bloom's: Analysis Di iculty: 4ard Learning "#$ecti%e: &* Learning "#$ecti%e: &' Learning "#$ecti%e: &/

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Chapter 10 - Auditing the Revenue Process

+). Customers having su stantial year-end past due alances fail to reply after second re/uest forms have een mailed directly to them. ;hich of the following is the most appropriate audit procedure: A# 7xamine shipping documents 3. Review collections during the year eing examined C. 0ntensify the study of the client8s system of internal control with respect to receiva les 5. 0ncrease the alance in the allowance for uncollecti le accounts

AACSB: Communications AICPA BB: Industry AICPA FN: Decision Ma,ing Bloom's: A..lication Di iculty: 4ard Learning "#$ecti%e: &' Learning "#$ecti%e: &(

++. ;hich of the following strategies most li*ely could improve the response rate of the confirmation of accounts receiva le: A# 0ncluding a monthly statement of the customer8s account 3. Restricting the selection of accounts to e confirmed to those customers with relatively large alances C. Re/uesting customers to respond to the confirmation re/uests directly to the auditor y fax or e-mail 5. 9otifying the recipients that second re/uests will e mailed if they fail to respond in a timely manner

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Chapter 10 - Auditing the Revenue Process

+-. 0n confirming accounts receiva le1 an auditor decided to confirm customers8 account alances rather than individual invoices. ;hich of the following most li*ely would e included with the client8s confirmation letter: A. An auditor-prepared letter explaining that a nonresponse may cause an inference that the account alance is correct 3. A client-prepared letter reminding the customer that a nonresponse will cause a second re/uest to e sent C. An auditor-prepared letter re/uesting the customer to supply missing and incorrect information directly to the auditor $# A client-prepared statement of account showing the details of the customer8s account alance

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+.. ;hen comparing prices and terms on a sample of sales invoices with the authorized price list and terms of trade1 the auditor is testing the FFFFFFFFFFFF assertion. A. Cutoff "# Authorization C. ,ccurrence 5. Completeness

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Chapter 10 - Auditing the Revenue Process

-0. ;hen a sample of sales transactions recorded in the sales 4ournal is traced ac* to the customer orders and shipping documents1 the auditor is testing the FFFFFFFFFFFF assertion. A. Cutoff 3. Authorization C. Completeness $# ,ccurrence

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-1. ;hen tracing a sample of shipping documents from throughout the year to the details of the sales invoices and to the sales 4ournal and customers8 accounts receiva le su sidiary ledger1 the auditor is testing the FFFFFFFFFFFFF assertion. A. Classification 3. Cutoff C. 7xistence $# Completeness

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-#. ;hen reviewing an* confirmations for any liens on receiva les1 the auditor is testing the FFFFFFFFFFFFFF assertion. A. <aluation and allocation "# Rights and o ligations C. 7xistence 5. Completeness

AACSB: Analytic AICPA BB: Industry AICPA FN: Measurement Bloom's: A..lication Di iculty: !asy Learning "#$ecti%e: &*

10-)0

Chapter 10 - Auditing the Revenue Process


Short Answer Questions

-&. 7xplain how revenue recognition is important to the audit of the revenue process. !o determine whether the financial statements are presented fairly and in conformity with 2AAP1 the auditor must *now what is in accordance with 2AAP and what is not. !here are specific guidelines regarding revenue recognition under 2AAP and these guidelines should e reflected in the financial statements. !he understanding of when it is appropriate to recognize revenue is very important in testing the occurrence and completeness assertions. "urther1 the revenue area is su 4ect to high fraud ris* and numerous significant fraudulent financial reporting incidents involved improper revenue recognition schemes. Accordingly1 the auditor must possess *nowledge a out the client8s revenue recognition process and plan the audit accordingly.

AACSB: Communications AICPA BB: Industry AICPA FN: Decision Ma,ing Bloom's: A..lication Di iculty: Moderate Learning "#$ecti%e: &

10-)1

Chapter 10 - Auditing the Revenue Process

-'. =isted elow are six assertions regarding the financial presentations made in the revenue process. "or each1 give an example of how an auditor could use one of the types of documents contained in the revenue process to test the assertion. ,ccurrence Completeness Authorization Accuracy Cutoff Classification Student Answers will var%& 'ut here are so(e e)a(ples* ,ccurrence - !he shipping document provides important evidence regarding the occurrence assertion. 3ecause sales are not recorded until the product has een shipped1 all recorded sales should have a valid shipping document that documents the sale. !he auditor can use these documents to test whether the sales did occur. Completeness - !he auditor can use the client8s sales invoices and sales 4ournal to test for completeness. 0n this case1 the auditor will trace the sales invoice to the sales 4ournal. !his will provide assurance that all shipped items have een recorded as revenue. Authorization - ,ne example of a document used to test authorization is the write-off authorization form. !his form authorized the write-off of an uncollecti le account. !he auditor can determine that all written off uncollecti le accounts have een properly authorized y reviewing these documents. Accuracy - !o ensure that Accounts Receiva le is recorded at its proper net amount1 the auditor will need to consider the Allowance for @ncollecti le Accounts. !he credit approval form can aid in this consideration1 y giving the auditor an idea of the level at which credit is granted to determine the anticipated overall creditworthiness of the client8s customers. Cutoff - !he ,pen-,rder Report can e helpful in testing for cutoff. !he auditor could o tain this report for year-end and test that the orders listed as open have not een recorded as revenue. Classification - !he 6ales Journal is used to test for proper classification through an auditor8s review of the 4ournal. !he 4ournal provides details a out each of the transactions made and to which accounts the transactions were posted.

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10-)#

Chapter 10 - Auditing the Revenue Process

-(. !he G>H Company illing department has decided to assign one employee to each of its customers. !his employee will e responsi le for granting credit to the client and then handling the illing. G>H elieves this will result in etter customer service1 ecause the client will only have to deal with one person and that one person will e very familiar with the credit terms. As an auditor1 would you agree with G>H8s decision: "rom an audit perspective1 the policy is ris*y. 3y not segregating the duties of granting credit and illing1 sales can easily e made to customers who are not credit worthy1 especially if the G>H employee is in any way compensated for the num er of sales made. 7ven if there is no compensation1 the G>H employee may give credit to a friend or family mem er who wouldn8t otherwise /ualify. All this could lead to a misstatement in Accounts Receiva le.

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-). ;hat inherent ris* factors should an auditor consider when auditing the revenue process of a computer manufacturer: !he auditor will want to consider industry-related factors such as the high competition of the industry1 as well as the high rate of technological change. 0f the company is una le to *eep up with the competition1 they may try to cover the poor performance with inflated sales. !he auditor will also want to consider any long-term contracts the manufacturer may e in the process of completing. !he timing of the revenue recognition for a large pro4ect could have a significant impact on the financial statements. Accounts that may e difficult to audit1 such as Allowance for @ncollecti le Accounts and any prior misstatements in the financials may also increase the inherent ris* assessment of the auditor.

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10-)&

Chapter 10 - Auditing the Revenue Process

-+. Batch the test of controls descri ed elow to the appropriate assertion it is used to testA Assertions: a% ,ccurrence % Completeness c% Authorization d% Accuracy e% Cutoff f% Classification Test of Controls: 1% Recompute financial information on a sample of sales invoices #% Review of cash receipts 4ournal for unusual items &% , serve the endorsement of chec*s '% !est a sample of sales invoices for the presence of authorized customer order and shipping document (% Compare the dates on the sales invoices with the dates of the relevant shipping documents )% !est a sample of cash receipts transactions for proper cash discounts. 1% dE #% fE &% E '% aE (% eE )% c

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--. Assume an account receiva le confirmation is returned with a note to the auditor descri ing a difference etween your client8s records and the customer8s records. Clearly descri e elow two potential non-misstatement timing differences that could cause a discrepancy etween a client8s receiva le records and his?her customer8s records. !he timing differences you descri e should e such that after investigation you would determine that your client8s receiva le alance is not misstated due to these differences. 1. Client shipped to customer efore year end ut customer received after year end. #. Customer sent payment to client efore year end ut client received after year end.

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10-)'

Chapter 10 - Auditing the Revenue Process

-.. >ou are auditing the allowance for dou tful accounts $A5A% and perform the analytical procedures shown elow. Assume that no significant changes have occurred during the year in either the client8s credit policies or customer ase. ;hat concerns1 if any1 a out ad4usting the A5A should the auditor have ased on the information shown elow:

0t appears that the industry has remained relatively sta le in oth its A5A?AR and 5ays AR outstanding while the client has significantly increased in the 5ays AR ,utstanding in #011. Assuming no significant changes in customer ase or credit policies1 the client should increase the allowance in #011 since 5ays AR ,utstanding has increased.

AACSB: Analytic AICPA BB: Critical 12in,ing AICPA FN: Decision Ma,ing Bloom's: Analysis Di iculty: Moderate Learning "#$ecti%e: &&

10-)(

Chapter 10 - Auditing the Revenue Process

.0. 0dentify whether the following tests are tests of controls1 su stantive analytical procedures1 tests of details of transactions1 or tests of details of account alancesA 1% 6elect a sample of customer receiva les and send positive confirmations to each one #% 7xamine monthly an* reconciliations for the internal auditors8 initials indicating internal verification and review of the reconciliation. &% 6elect a sample of entries in sales 4ournal and trace each to the shipping documents '% Compute receiva le turnover and compare with previous years (% "or a sample of new customers1 determine whether credit approval was properly administered and documented )% Compare the dates on a sample of sales invoices with the dates of shipment and the dates they were recorded in the sales 4ournal 1% !ests of details of account alances #% !ests of controls &% !ests of details of transactions '% 6u stantive analytical procedures (% !ests of controls )% !ests of details of transactions

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10-))

Chapter 10 - Auditing the Revenue Process

.1. 5escri e the two types of confirmations and indicate which one is more relia le and why. !he two types of confirmations are positive and negative. A positive confirmation re/uests that customers indicate whether they agree with the amount stated in the confirmation. A response is re/uired either way. A negative confirmation only re/uires a response if there is a disagreement. !he positive confirmation is more relia le1 ecause there is always a response. 0f a negative confirmation is not returned to the auditor1 he?she must assume that there is no pro lem with the amount1 which may or may not1 e true. !here is less assurance provided a out the correctness of the amounts from a negative confirmation.

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.#. Assume you are wor*ing on a 1#?&1 year-end audit. 0t is now Barch &1st and the 1#?&1 accounts receiva le aging shows a large receiva le that was outstanding on 1#?&1 for 1#0 days. "urther1 the client8s receiva les are typically collected in less than '(. >ou anticipate that the client8s allowance for dou tful account should e increased and inform the client a out your disposition. !he client disagrees. 0s there an alternative su stantive procedure that you could perform that would provide convincing evidence that this alance is collecti le: 0f so1 explain. 5etermining that the alance was paid after year end would provide convincing evidence that alance was in fact collecti le as of 1#?&1.

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10-)+

Chapter 10 - Auditing the Revenue Process

.&. According to the Certified "raud 7xaminers1 there are eight common methods for committing financial statement fraud. =ist ' of the -. 1. 7arly revenue recognition #. Kolding the oo*s open past the accounting period &. "ictitious sales '. "ailure to record returns (. "raud in the percentage of completion method ). Related party transactions +. ,verstating receiva les and inventory -. =ia ility and expense omissions

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10-)-

Chapter 10 - Auditing the Revenue Process

.'. 0dentify four of the seven primary functions in the revenue cycle and descri e each function. Answer should include +our o+ the +ollowing*

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10-).