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Audit of Liabilities
Audit of Liabilities
Audit of Liabilities
In connection with the audit of the PAKYO COMPANY for the year ended December 31, 2010 you are
called upon to verify the accounts payable transactions. You find that the company does not make use of a
voucher register but enters all merchandise purchases in a Purchases Journal, from which posting are
made to a subsidiary accounts payable ledger. The subsidiary ledger balance of P1,500,000 as of
December 31, 2010 agrees with the accounts payable balance in the company’s general ledger. An analysis
of the account disclosed the following:
Your next step is to check the invoices in both the paid and the unpaid invoice files against ledger accounts.
In this connection, you discover an invoice from Atlas Co. of P45,000 dated December 12, 2010 marked
“Duplicate”, which was entered in the Purchase Journal in January 2011. Upon inquiry, you discover that
the merchandise covered by this invoice was received and sold, but the original invoice apparently has not
been received.
In the bank reconciliation working papers, there is a notation that five checks totaling P 63,000 were
prepared and entered in the Cash Disbursements Journal of December, but these checks were not issued
until January 10, 2011.
The inventory analysis summary discloses good in transit of P 6,000 at December 31, 2010, not taken up by
the company under audit during the year 2010. These goods are included in your adjusted inventory.
A. P 1,471,000 B. P 1,614,000
C. P 1,214,000 D. P 1,477,000
3. The entry to adjust the Accounts payable account for those accounts with debit balances should include a
debit to
A. P 18,000 B. P 23,000
C. P 35,000 D. P 39,000
4. The entry to adjust the Accounts payable account for those accounts with debit balances should include a
debit to
5. Auditor confirmation of accounts payable balances at the end of the reporting period may be necessary
because
Problem 2
You were able to obtain the following from the accountant for Maverics Corp. Related to the companys
liability as of December 31, 2010.
Problem no. 3
In conjunction with your firm’s examination of the financial statements of PISTONS COMPANY as of
December 31, 2010, you obtained from the voucher register the information shown in the working paper
below.
REQUIRED:
Prepare adjusting entries as of December 31, 2010 based on your review of the data given above.
PROBLEM NO 4
FEEL NA FEEL, INC. has been producing quality reusable adult diapers for more than two decades. The
company’s fiscal year runs from April 1 to March 31. The following information relates to the obligations of
Feel Na Feel as of March 31, 2010.
BONDS PAYABLE
Feel Na Feel issued P10,000,000 of 10% bonds on July 1, 2008. The prevailing market rate of interest for
these bonds was 12% on the date issue. The bonds will mature on July 1, 2018. Interest is paid
semiannually on July 1 and January 1. Feel Na Feel uses the effective interest rate method to amortize
bond premium or discount
NOTES PAYABLE
Feel Na Feel has signed several long-term notes with financial institutions. The maturities of these notes
are given in the schedule below. The total unpaid interest for all of these notes amounts to P600,000 on
March 31, 2010
P 7,000,000
ESTIMATED WARRANTIES
Feel Na Feel has a one-year product warranty on some selected items in its product line. The estimated
warranty liability on sales made during the 2008-2009 fiscal year and still outstanding as of March 31, 2009
amounted to P180,000. The warranty cost on sales made from April 1 2009, through March 31,2010, are
estimated as P520,000. The actual warranty cost incurred during the current 2009-2010 fiscal tear are as
follows:
Warranty claims honored on 2008-2009 sales P 180,000
Warranty claims honored on 2009-2010 sales 178,000
Total warranty claims honored P 358,000
OTHER INFORMATION
1. TRADE PAYABLES
Accounts payable for supplies, goods and services purchased on open account amount to
P740,000 as March 31, 2010
3. MISCELLANEOUS ACCRUALS
Other accruals not separately classified amount to P150,000 as of March 31, 2010
4. DIVIDENDS
On march 15, 2010, Feel Na Feel’s board of directors declared a cash dividend of
P0.20 per common share and a 10% common stock dividend. Both dividends were to be
distributed on April 12, 2010, to the common stockholders of record at the close of business on
march 31, 2010. Data regarding Feel Na Feel common stock are as follows:
Per Value P
5.00 per share
Number of shares issued and outstanding 6,000,000
shares
1. How much was received by Feel Na Feel from the bonds issued on July 1, 2008?
a. P8,852,960 b. 10,000,000 c. 10,500,000 d.
10,647,040
2. On March 31, 2010, Feel Na Feel’s statements of financial position would report total current
liabilities of
a. P5,286,000 b. 4,386,000 c. 5,336,000 d.
5,642,000
3. On March 31, 201, Feel Na Feel’s statement of financial position would report total
noncurrent liabilities of
a. P14,389.350 b. 14,352,217 c. 14,370,783 d.
14,252,960
PROBLEM NO. 5
On January 1, 2009, WIZARDS CORPORATION issued 2,000 of its 5-year, P1,000 face value 11% bonds
date January 1 at an effective annual interest rate (yield) of 9%. Interest is payable each December 31.
Wizards uses the effective interest method of amortization. On December 31, 2010. The 2,000 bonds were
extinguished early through acquisition on the Open Market by Wizard for P1,980,000 plus accrued interest.
On July 1, 2009, Wizards issued 5,000 of its P1,000 face value, 10% convertible bonds at pat. Interest is
payable every June 30 and December 31. On the date of issue, the prevailing market interest rate for
similar debt without the conversion option is 12%. On July 1, 2010, an investor in Wizards convertible
bonds tendered 1,500 bonds for conversion into 15,000 shares of Wizards common stock, which had a fair
value of P105 and a par value of P1 at the date of conversion.
Based on the above and the result of your audit, determine the following: (Round off present
value factors to four decimal places.)
1. The issue price on the 2,000 5-year, P1,000 face value bonds in January 1, 2009 is
a. P2,155.500 b. P2,000,000 c. 1,844,400
d. 2,147,800
2. The carrying value of the 2,000 5-year, P1,000 face value bonds on December 31, 2009 is
a. 1,898,400 b. 2,129,500 c. 2,000,000 d.
2,121,100
3. The gain on early retirement of bonds on December 31, 2010 is
a. P20,000 b. 112,000 c. 121,200 D. 0
4. The carrying value of the 5,000 6 year, P1,000 face value bonds on December 31, 2009 is
a. P4,605,800 b. 5,000,000 c. 4,732.875
d. 4,615,400
5. The conversion of the 1,500 6-years, P1,000 face value bonds on July 1, 2010 will increase APIC
by
a. P1,485,000 b. 1,374,000 c. 1,415.054
d. P1,377,697
PROBLEM NO. 6
The following data were obtained from the initial audit of BIBI COMPANY:
PROBLEM 7
NUGGETS CORPORATION manufactures and sells food products and food processing machinery. Its
reporting date is December 31. Relevant extracts from its financial statements at December 31, 2009 are as
follows:
Current liabilities
Provision
Provision for warranties P270,000
Noncurrent liabilities
Provision
Provision for warranties P180,000
The provision for warranties at December 31, 2009 was calculated using the following assumptions: There
was no balance carried forward from the prior year.
Estimated cost of repairs – Products with minor defects P 1,000,000
Estimated cost of repairs – Products with minor defects P 6,000,000
Expected % of products sold during 2008 having no defects in 2010 80%
Expected & of products sold during 2008 having minor defects in 2010 15 %
Expected & of products sold during 2008 having Major defects in 2010 5%
-those with minor defects all in
2010
Expected timing of settlement of warranty payments
-those with major defects 40%
in 2010
60% in 2010
During the year ended December 31, 2010, the following occurred:
1. In a relation to the warranty provision of P450,000 at December 31, 2009, P200,000 was
paid out of the provision. Of the amount paid, P150,000 was for products with minor defects
and P50,000 was for products with major defects, all of which related to amounts that had
been expected to be paid in 2010/
2. In calculating its warranty provision for December 31, 2010, NUGGETS made the following
adjustment to the assumptions used for the prior year:
Estimated cost of repairs-products with minor defects no change
Estimated cost if repairs – products with major defects P 5,000,000
Expected % of products sold during 209 having no defects in 2011 85%
Expected % of products sold during 2009 having minor defects in 2011 13%
Expected % of products sold during 2009 having major defects in 2011 2%
-those with minor defects all in
one 2011
Expected timing of settlement of warranty payments 20% in 2011
-those with major defects 80%
in 2012
3. NUGGETS determined that part of its plant and equipment needed an overhaul – the
conveyor belt on one of it s machines would need to be replaced ion about December 2011
at an estimated cost of P250,000. The carrying amount of the conveyor belt at December
31, 2009 was P140,000. Its original cost was P200,000
4. NUGGETS was unsuccessful in its defense of the peanut allergy case and was ordered to
pay P1,5000,000 to the plaintiffs. As at December 31, 2010, NUGGETS had paid P800,000
5. NUGGETS commenced litigation against one of its adviser for negligent advice given on the
original installation of the conveyor belt referred to in (3) above, in October 2010, the court
found in favor of NUGGETS. The hearing for damages had not been scheduled as at the
date the financial statement for 2010 were authorized for issue. NUGGETS estimated that it
would receive about P425,000.
6. NUGGETS signed an agreement with Choko Bank to the effect that NUGGETS would
guarantee a loan made by Choko Bank to NUGGETS’ subsiadiary, ChapaChocks Ltd.
ChapaChocs’ loan with Choko Bank was P3,200,000 as at December 31, 2010.
ChapaChocs was in a strong financial position at 31 December 2010
Based on the above and the result of your audit, answer the following:
PROBLEM NO 8
1. In Auditing accounts payable, an auditor procedures most likely will focus primarily
on managements assertion of.
a. Existence c.
Completeness
b. Presentation and disclosure d. Valuation and allocation
2. An auditor performs a test to determine whether all merchandise for which the
client was billed was received. The population for this test consist of all
a. Merchandiser received c. Canceled checks
b. Vendor’s invoices d. receiving
reports
3. The primary audit test to determine if accounts payable are valued properly is
a. Confirmation of accounts payable
b. Vouching accounts payable to supporting documentation
c. An analytical procedure
d. Verification that accounts payable was reported as a current liability in
the balance sheet.
4. Which of the following procedures is least likely to be performed before the
balance sheet date?
a. Observation of inventory count.
b. Testing of internal control over cash.
c. Search for unrecorded liabilities.
d. Confirmation of receivables.
5. An audit assistant found a purchase order for a regular supplier in the amount P
5,500 the purchase order was date after receipt of goods. The purchasing agent
had forgotten to issue the purchase order. Also, a disbursement of P450 for
materials did not have receiving report. The assistant wanted to select additional
purchase orders for investigation but was unconcerned about lack of receiving
report. The audit director should.
a. Agree with the assistant because the amount of the purchase order
exception was considerably larger than the receiving report exception
b. Agree with the assistant because the cash disbursement clerk had been
assured by the receiving clerk that the failure to fill out a report didn’t
happen very often.
c. Disagree with the assistant because two problems have an equal risk of
loss associated with them
d. Disagree with the assistant because the lack of a receiving report has a
greater risk of loss associated with it.
6. When using confirmation to provide evidence about completeness assertion for
account payable, the appropriate population most likely is
a. Vendors with whom the entity has previously done business
b. Amounts recorded in the accounts payable subsidiary ledger
c. Payees of checks drawn in the month after the year end.
d. Invoices filed in the entity’s open invoice file.
7. Which of the following is a substantive test than an auditor is most likely to
perform to verify the existence and valuation of recorded accounts payable?
a. Investigating the open purchase order file to ascertain that pre-
numbered purchase orders are used and accounted for.
b. Receiving the client’s mail, unopened, for a reasonable period of time
after year end to search for unrecorded vendor’s invoices
c. Vouching selected entries in the accounts payable subsidiary ledger to
purchase orders and receiving reports.
d. Confirming accounts payable balances with know suppliers who have
zero balances.
8. Only one of the following four statements which compare confirmation of accounts
payable with suppliers and confirmation of accounts receiving with debtors is
false. The false statements is that
a. Confirmation of accounts receiving with debtors is a more widely
accepted auditing procedure than us confirmation of accounts payable
with suppliers
b. Statistical sampling techniques are more widely accepted in the
confirmation of accounts payable than in the confirmation of accounts
receivable ]
c. As compared with the confirmation of accounts receivable, the
confirmation of accounts payable will tend to emphasize accounts with
zero balances at the balance sheet date.
d. It is less likely that the confirmation request sent to the supplier will
show the amount owed than that request sent to the debtor will show
the amount date.
9. When title to merchandise in transit has passed to the audit client the auditor
engaged in the performance of a purchase cut-off will encounter the greatest
difficulty in gaining assurance with respect to the
a. Quantity C. Price
b. Quality d. Terms
10. Which of the following audit procedures is least likely to detect an unrecorded
liability?
a. Analysis and recomputation of interest expense
b. Analysis and recomputation of depreciation expense.
c. Mailing of standard bank confirmation forms.
d. Reading of the minutes of meetings of the board of directors
11. Unrecorded liabilities are most likely to be found during the review of which of the
following documents?
a. Unpaid bills c. bills of lading
b. Shipping records d. Unmatched sales invoice
12. Which of the following audit procedures is best for identifying unrecorded trade
accounts payable?
a. Reviewing cash disbursement recorded subsequent to the balance
sheet date to determine whether the related payables apply to the prior
period.
b. Investigating payables recorded just prior to and just subsequent to the
balance sheet date to determine whether they are supported by
receiving reports.
c. Examining unusual relationships between monthly accounts payable
balances and recorded cash payments.
d. Reconciling vendors statement to the file of receiving reports to identify
items received just prior to the balance sheet date,
13. In verifying debits to perpetual inventory records of nonmanufacturing firm, the
auditor is most interested in examining the purchase
a. Journal c. Order
b. Requisitions d. Invoices.
14. Which of the following procedures relating to the examination of accounts payable
could the auditor delegate entirely to the clients employees
a. Test footings in the accounts payable ledger
b. Reconcile unpaid invoices to vendors statements
c. Prepare a schedule of accounts payable
d. Mail confirmation for selected account balances
15. An auditors purpose in reviewing the renewal of a note payable shortly after the
balance sheet date most likely is to obtain evidence concerning managements
assertions about
a. Existence c. Completeness
b. Presentation and disclosure d. Valuation
16. An auditors program to audit long-term debt should include steps that require
a. Examining bond trust indentures
b. Inspecting the accounts payable subsidiary ledger
c. Investigating credits to the bond interest income account
d. Verifying the existence of the bondholders.
17. In an audit of bonds payable, an auditor expects the trust indenture to include the
a. Auditee’s debt-to-equity ratio at the same time of issuance
b. Effective yield of the bonds issued
c. Subscription list
d. Description on the collateral
18. In auditing long-term bonds payable, an auditor most likely will
a. Perform analytical procedures on the bond premium and discount
accounts
b. Examine documentation of assets purchased with the bond proceeds or
liens
c. Com[pare interest with the bond payable amount for reasonableness
d. Confirm the existence of individual bondholders at year-end
19. The audit procedures used to verify accrued liabilities differ from those employed
for the verification of accounts payable because
a. Accrued liabilities usually pertain to services of a continuing nature
while account payable are the result of completed transaction
b. Accrued liability balances are less material than account payable
balances.
c. Evidence supporting accrued liabilities is nonexistent while evidence
supporting account payable is readily available
d. Accrued liabilities at year end will become account payable during the
following year
20. The auditor is most likely to verify accrued commissions payable in conjunction
with the
a. Sales cutoff test.
b. Verification of contingent liabilities.
c. Review of post-balance sheet date disbursements.
d. Examination of trade accounts payable
KEY ANS:
Suggested Answers
Problem 1 Problem 8
1. D 1. C
2. C 2. B
3. A 3. C
4. B 4. C
5. A 5. D
Problem 2 6. A
1. B 7. C
2. A 8. B
3. C 9. B
4. D 10. B
Problem 3 11. A
Adjusting entries 12. A
13. D
Problem 4 14. C
1. A 15. D
2. A 16. A
3. C 17. D
18. C
Problem 5 19. A
1. A 20. A
2. B
3. C
4. A
5. B
Problem 6
1. D
2. B
3. C
4. C
5. D
6. A
7. C
Problem 7
1. C
2. D
3.
4. A
5. B