Qualifying Exam for Auditing

1. A CPA Company’s quality control procedures pertaining to the acceptance of a prospective

audit client would most likely include
a. Inquiry of management as to whether disagreements between the predecessor auditor
and the prospective client were resolved satisfactorily.
b. Consideration of whether sufficient competent evidential matter may be obtained to
afford a reasonable basis for opinions.
c. Inquiry of third parties, such as the prospective client’s bankers and attorneys, about
information regarding the prospective client and its management.
d. None of the Above

2. An auditor who has been invited to submit a proposal for an audit engagement is a/an
a. predecessor auditor c. principal auditor
b. successor auditor d. internal auditor

3. The degree of certainty that the practitioner has attained and wishes to convey is called:
a. audit risk
b. assurance
c. materiality
d. CIA

4. The information below was taken from the bank transfer schedule prepared during the audit
of BAY Co.’s financial statements for the year ended December 31, 2011. Assume all
checks are dated and issued on December 30, 2011.
Disbursement Receipt date
date

Check No. From To Per BooksPer Bank Per Books Per Bank

101 National Federal Dec. 30 Jan. 4 Dec. 30 Jan. 3

202 County State Jan. 3 Jan. 2 Dec. 30 Dec. 31

303 Federal American Dec. 31 Jan. 3 Jan. 2 Jan. 2

404 State Republic Jan. 2 Jan. 2 Jan. 2 Dec. 31

Which of the above checks might indicate kiting?

a. #101 and #303.
b. #202 and #404.
c. #101 and #404.
d. None of the above

5. Which of the following is most likely to be effective in detecting kiting?

 a. Bank Confirmation
b. Bank transfer schedule prepared using only the cash receipts and cash disbursements
journals
c. Comparison of bank cutoff statement to the cash receipts and disbursements records
d. Both A & B are correct

6. The work-in process inventory of RHODE ISLAND Constructions Co., was completely
destroyed by fire on April 1, 2014. You were able to establish the physical inventory figures
as follows:

January 1, 2014 April 1, 2014

Raw materials 30,000 60,000

Work in process 100,000 -

Finished goods 140,000 120,000

Sales from January 1 to March 31, were P 300,000. Purchases of raw materials were P 100,000
and freight on purchases, P 10,000. Direct labor during the period was P 80,000. It was
agreed with the insurance adjusters that an average gross profit rate of 32.5% be used and
that manufacturing overhead was 45% of direct labor cost.

The value of goods manufactured and completed as of April 1, 2014:

a. P 70,000 b. P 180,000 c. P 190,000 d. 182,500

7. On December 31, 2009, Alcoa Co. purchased equity securities as trading securities.
Pertinent data are as follows:
Fair value
Cost 12/31/11 12/31/10
P Company P 900,000 P 780,000 P 880,000
Q Company 1,100,000 1,240,000 1,120,000
B Company 2,000,000 1,720,000 1,920,000
Total P4,000,000 P3,740,000 P3,920,000

On December 31, 2011, Alcoa transferred its investment in security B from trading to available-
for-sale because Alcoa intends to retain security B as a long-term investment.

QUESTION:

What total amount of gain or loss on its securities should be included in Alcoa’s 2011 profit or
loss?

a. P 20,000 gain
 b. P 260,500 loss
c. P180,000 loss
d. None of the Above

Suggested Solution:

Total fair value, 12/31/11 P3,740,000

Total fair value, 12/31/10 3,920,000
Unrealized loss on trading P 180,000
securities

Summary of reclassifications of financial assets (based on amended PAS 39 par. 50 to 54):

 An entity:
a) Shall not reclassify a derivative financial instrument into or out of the FVTPL
category while it is held.
b) Shall not reclassify any financial instrument out of the FVTPL category if upon initial
recognition it was designated by the entity as at fair value through profit and loss;
and
c) May, if a financial asset is no longer held for the purpose of selling it in the near term
(notwithstanding that the financial asset may have been acquired principally for the
purpose of selling it in the near term), reclassify that financial asset out of the FVTPL
category only in rare circumstances (arising from a single event that is unusual
and highly unlikely to recur in the near term).
 If an entity reclassifies a financial asset out of the FVTPL category, the financial asset
shall be reclassified at its fair value on the date of reclassification. Any gain or loss
already recognized in profit or loss shall not be reversed. The fair value of the financial
asset on the date of reclassification becomes its new cost.
 An entity shall not reclassify any financial instrument into the FVTPL category after initial
recognition.

Since the reason for the transfer of the investment from trading to available for sale is not a rare
situation, the investment should be accounted for under its original classification.
8. Bridgestone Company bought 20% of Spiratone Corporation’s ordinary shares on January
1, 2011 for P11,400,000. Carrying amount of Spiratone’s net assets at purchase date
totaled P50,000,000. Fair value and carrying amounts were the same for all items except for
plant and inventory, for which fair values exceed their carrying amount by P10,000,000 and
P2,000,000 respectively. The plant has a 5-year life. All inventory was sold during 2011.
During 2011, Spiratone reported profit of P30,000,000 and paid a P10,000,000 cash
dividend.
QUESTIONS:

Based on the above and the result of your audit, answer the following:

What amount should Bridgestone report as net income related to this investment in 2011?

a. P5,200,000
b. P6,200,000
c. P5,400,000
d. None of the Above

Share of profit (P30,000,000 ×20%) P6,000,000

Amortization of excess – Inventory ( 400,000)
Amortization of excess – Plant (P2,000,000/5) ( 400,000)
Income from acquisition (see below) 1,000,000
Net investment income P6,200,000

Acquisition cost P11,400,000

Less carrying amount of net assets acquired
(P50,000,000 × 20%) 10,000,000
Excess 1,400,000
Attributed to :
Undervalued plant asset (P10,000,000 × ( 2,000,000)
20%) ( 400,000)
Undervalued inventory (P2,000,000 ×
20%)
Negative goodwill (income from acquisition) (P1,000,000)

Any excess of the investor’s share of the net fair value of the associate’s identifiable assets,
liabilities and contingent liabilities over the cost of the investment is excluded from the carrying
amount of the investment and is instead included as income in the determination of the
investor’s share of the associate’s profit and loss in the period in which the investment is
acquired. (PAS 28 par. 23)
9. On January 1, 2011, Mazda Motor Corporation created a special building fund by depositing
a single sum of P200,000 with an independent trustee. The purpose of the fund is to provide
resources to build an addition to the older office building during the latter part of 2015. The
company anticipates a total construction cost of P1,000,000 and completion by January 1,
2016. The company plans to make equal annual deposit from December 31, 2011 through
2015, to accumulate the P1,000,000. The independent trustee will increase the fund each
December 31 at an interest rate of 10%. The accounting periods of the company and the
fund end on December 31.
QUESTION:

How much is the annual deposit to the fund? (Round off present value factors to four decimal
places)

a. P163,700
b. P100,950
c. P131,038
d. None of the above

Suggested Solution:

Target amount P1,000,000

Less future value of P200,000 (P200,000 × 322,100
1.6105)
Balance 677,900
Divide by future value of ordinary annuity of P1 to
10% for 5 periods 6.1051
Annual deposit P 111,038

10. Morningstar Company took out a P10,000,000 insurance policy on the life of its president on
January 2, 2009. The company’s accounting period is the calendar year. The annual
premium on the policy is P160,000. Data regarding dividends and cash surrender value are
given below:
2011 2012
Dividend received on December 31 10,000 12,000
Cash surrender value 84,000 ?
Life insurance expense ? 138,000
QUESTIONS:

Based on the above and the result of your audit, answer the following:
The life insurance expense in 2011 is
a. P160,500
b. P122,000
c. P150,700
d. None of the Above
 Annual premium P160,000
Dividend received in 2011 (10,000)
Increase in cash surrender value
pertaining to 2011 (P84,000 × 1/3) (28,000)
Life insurance expense for 2011 P122,000

11. Morningstar Company took out a P10,000,000 insurance policy on the life of its president on
January 2, 2009. The company’s accounting period is the calendar year. The annual
premium on the policy is P160,000. Data regarding dividends and cash surrender value are
given below:
2011 2012
Dividend received on December 31 10,000 12,000
Cash surrender value 84,000 ?
Life insurance expense ? 138,000

The cash surrender value at December 31, 2012 is

a. P206,000
b. P0
c. P 94,000
d. P 94,500
Annual premium P160,000
Dividend received in 2012 (12,000)
Life insurance expense for 2012 (138,000)
Increase in cash surrender value for 10,000
2012
Cash surrender value, 12/31/11 84,000
Cash surrender value, 12/31/12 P94,000

12. Morningstar Company took out a P10,000,000 insurance policy on the life of its president on
January 2, 2009. The company’s accounting period is the calendar year. The annual
premium on the policy is P160,000. Data regarding dividends and cash surrender value are
given below:
2011 2012
Dividend received on December 31 10,000 12,000
Cash surrender value 84,000 ?
Life insurance expense ? 138,000
Assuming the president dies on July 1, 2012 and the face of the policy is collected on
July 31, 2012, the gain on life insurance settlement is
a. P 9,831,000
b. P 0
c. P 9,819,000
d. None of the above

Face amount P10,000,000

Unexpired insurance (P160,000 ×6/12) (80,000)
Cash surrender value, 7/1/12
[P84,000+(P10,000 × 6/12)] (89,000)
Gain on life insurance settlement P 9,831,000
13. The following items relate to the acquisition of a new machine by Spar Corporation in 2011:

Invoice price of machinery P2,000,000

Cash discount not taken 40,000
Freight on new machine 10,000
Cost of removing the old machine 12,000
Loss on disposal of the old machine 150,000
Gratuity paid to operator of the old machine who 70,000
laid off
Installation cost of new machine 60,000
Repair cost of new machine damaged in the
process of 8,000
installation
Testing costs before machine was put into regular
operation 15,000
Salary of engineer for the duration of the trial run 40,000
Operating cost during first month of regular use 250,000
Cash allowance granted because the new
machine 100,000
proved to be inferior quality

QUESTION:

How much should be recognized as cost of the new machine?

a. P1,985,000
b. P1,993,000
c. P0
d. P2,025,000

Suggested Solution:

Invoice price of machinery P2,000,000

Cash discount not taken (40,000)
Freight on new machine 10,000
Installation cost of new machine 60,000
Testing costs 15,000
Salary of engineer for the duration of the trial 40,000
run
Cash allowance (100,0000)
Cost of the new machine P1,985,000
14. In connection with your audit of the Polycom Corporation’s financial statements for the year
2011 you noted the following items relative to the company’s intangible assets.
 A patent was purchased from Polymer Company for P4,000,000 on January 2, 2010.
Polycom estimated that the remaining useful life of the patent to be 10 years. The patent
was carried in Polymer’s accounting records at a carrying value of P4,000,000 when
Polymer sold it to Polycom.

 During 2011, a franchise was purchased from Safeland Company for P960,000. In
addition, 5% of the revenue from the franchise must be paid to Safeland. Revenue from
the franchise for 2011 was P5,000,000. Polycom estimates the useful life of the
franchise to be 10 years and takes full year’s amortization in the year of purchase.

 Polycom incurred research and development costs of P866,000 in 2011. Polycom

estimates that these costs will be recouped by December 31, 2014.

 On January 1, 2011, Polycom, because of the recent events in the industry, estimates
that the remaining life of the patent purchased on January 2, 2010, is only 5 years from
January 1, 2011.

QUESTIONS:

Based on the above and the result of your audit, determine the following:

Amortization of patent for 2011

a. P0
b. P800,000
c. P720,000
d. P400,000

Cost of patent P4,000,000

Less amortization in 2010 (P4,000,000/10) 400,00
0
Carrying amount, 1/1/11 P3,600,000
Divide by revised remaining useful life
5
Patent amortization for 2011 P
720,000
15. On January 2, 2003, Bambino Company spent P480,000 to apply for and obtain a patent on
a newly developed product. The patent had an estimated useful life of 10 years. At the
beginning of 2007, the company spent P144,000 in successfully prosecuting an attempted
patent infringement. At the beginning of 2008, the company purchased for P280,000 a
patent that was expected to prolong the life of its original patent by 5 years. On July 1,2011,
a competitor obtained rights to a patent that made the company’s patent obsolete.
QUESTIONS:

Based on the above and the result of your audit, determine the following:

Carrying amount of patent as of December 31, 2007

a. P0
b. P240,000
c. P369,600
d. P355,200

Question No. 1

Cost of patent P480,000

Less amortization up to 12/31/07 (P480,000× 5/10) 240,000
Carrying amount of patent, 12/31/07 P240,000

16. Perkins Corporation authorized the sale of P2,000,000 of 12%, 10 year debentures on
January 1, 2006. Interest is payable on January 1 and July 1. The entire issue was sold on
April 1, 2006, at 102 plus accrued interest. On April 1, 2011, P1,000,000 of the bond issue
was reacquired and retired at 99 plus accrued interest. On June 30, 2011, the remaining
bonds were reacquired at 97 plus accrued interest and refunded with an issue of
P1,600,000 of 9% bonds which were sold at 100.
QUESTIONS:

Based on the above and the result of your audit, determine the following: (Use straight line
method to amortize premium or discount)

1. Total cash received from the sale of P2 million bonds on April 1, 2006
a. P2,100,000
b. P2,000,000
c. P0
d. P2,120,000

Question No. 1
 Issue price (P2,000,000 × 1.02) P2,040,000
Accrued interest (P2,000,000 × 12% × 60,000
3/12)
Total cash received from sale of bonds P2,100,000

17. Intel Inc., leases equipment to its customers under noncancelable leases. On January 1,
2011, Intel leased equipment costing P4,000,000 to Asus Co., for nine years. The rental
cost was P440,000 payable in advance semiannually (January 1 and July 1), plus P20,000
semiannually for executor costs. The equipment had an estimated life of 15 years and sold
for P5,330,250 with an estimated unguaranteed residual value of P800,000. The implicit
interest rate is 12 percent.
QUESTIONS:

Based on the foregoing and the result of your audit, compute for the following: (Round off
present value factors to four decimal places).

How much is the total interest income from lease that will be earned by Intel, Inc.?

a. P2,869,988
b. P3,389,748
c. P3,675,616
d. P 0
Suggested Solution:

Gross investment in the lease:

Minimum lease payments P7,920,000
(P440,000 × 18)
Unguaranteed residual value 800,000 P8,720,000
Net investment in the lease:
PV of minimum lease payments
(P440,000 × 11.4773) 5,050,012
PV of unguaranteed residual value
(P800,000 × 0.3503) 280,240 P5,330,252
Total unearned interest income P3,389,748
18. At the beginning of 2011, Golem Company grants 100 share options to each of its 200
employees. Each grant is conditional upon the employees working for the entity over the
next three years. The entity estimates that the fair value of each share option is P45.

On the basis weighted average probability, the entity estimated that 25 percent of employees
will leave during the three-year period and therefore forfeit their rights to the share options.

During 2011, 10 employees leave. The entity revises its estimate of total employee departure
over the three-year period from 25 percent to 20 percent. During 2012, a further 8 employees
leave. The entity revises its estimate of total employee departure over the three-year period
from 20 percent to 15 per cent. During 2013, a further 6 employees leave.

Questions:

Based on the above and result of the audit, determine the following:

Compensation expense in 2011

a. P 240,000 c. P 720,000
b. P 225,000 d. P 0

Compensation expense in 2011

(200 employees × 100 options × 80% ×P45 × P240,000
1/3)

19. The income statement of BrightStar Corporation for 2011 included the following items:

Interest income P2,101,000

Salaries expense 1,650,000
Insurance expense 277,200

The following balances have been excerpted from BrightStar Corporation’s statement of
financial position:

12/31/2010 12/31/2011
Accrued interest receivable P 165,000 P 200,200
Accrued salaries payable 92,400 195,800
Prepaid insurance 33,000 24,200

QUESTIONS:

Based on the above and the result of your audit, determine the following:
The cash received for interest during 2011 was
a. P1,900,800 c. P2,065,800
b. P0 d. P2,136,200

Question No. 1
Interest income P2,101,000
Accrued interest receivable, 12/31/10 165,000
Accrued interest receivable, 12/31/11 (200,200)
Cash received for interest during 2011 P2,065,800

20. In your audit of Saga Company’s statement of comprehensive income for the year ended
December 31, 2011, you noted that company reported profit of P10,000,000. You raised
questions about the following amounts that had been included in profit:

Unrealized loss on decline in value of

available P 500,000
for sale securities
Loss on write-off of inventory due to a
government ban net of tax 1,500,000
Adjustment of profit of prior year net-debit 2,000,000
Loss from expropriation of property,
net of tax 3,500,000
Exchange differences gain on translating
foreign 4,500,000
operations
Realized revaluation surplus 1,000,000

The loss from expropriation was unusual in occurrence in Sagas line of business.
QUESTIONS:
Saga Company’s 2011 statement of comprehensive income should report profit at
a. P9,000,000
b. P6,500,000
c. P7,000,000
d. P0
Question No. 1
Reported profit P10,000,000
Unrealized loss on decline in value of available for
sale securities 500,000
Adjustment of profit of prior year net-debit 2,000,000
Exchange differences gain on translating foreign
operation (4,500,000)
Realized revaluation surplus (1,000,000)
Adjusted profit P7,000,000