Activity 4: Theory

Direction: Provide what is asked. Discuss briefly and concisely.

1. Rowena Roldan, CPA, is engaged in the examination of the financial statement of Pancho Manufacturing Corporation for the
year ended June 30, 2020. Pancho’s inventories at year-end include finished merchandise on consignment with consignees
and finished merchandise stored in public warehouses. The merchandise in public warehouse is pledged as collateral for
outstanding debt.

Required:
Normal inventory and notes payable auditing procedures have been satisfactorily completed. Describe the specific additional
auditing procedures that Roldan should undertake with respect to:
a. Consignments out
b. Finished merchandise in public warehouses pledged as collateral for outstanding debt.

2. The following are audit procedures related to inventory:

i. Observe the client counting inventory
ii. Confirm inventory stored in public warehouses
iii. Foot the inventory listing
iv. Trace test counts to inventory listing
v. Account for inventory tags
vi. Determine whether inventory has been valued at the lower of cost or market.
vii. Tour the inventory area to determine that all inventory items have been tagged.
viii. Obtain receiving report for the last goods received.
ix. Test perpetual records for inventory, using records-to-floor and floor-to-records tests.
x. Review the client’s written inventory procedures.

Required: Identify the assertion that each audit procedures would test.

3. Paul Marcos, CPA, is the auditor of Red Corporation. Marcos is considering the audit work to be performed in the accounts
payable area for the current-year engagement. The prior-year documentation shows that the confirmation requests were
mailed to 100 of Red’s 1,000 suppliers. The selected suppliers were based on Marco’s sample that was designed to select
accounts with large peso balances. Marcos and Red staff spent a substantial number of hours resolving relatively minor
differences between the confirmation replies and Red’s accounting records. Alternative audit procedures were used for those
suppliers who did not respond to the confirmatory requests.

Required:
a. Identify the accounts payable management assertion that Marcos must consider in determining the audit procedures
to be followed.
b. Identify situations in which Marcos should use accounts payable confirmation, and discuss whether he is required to
use them.
c. Discuss why using large peso balances as the basis for selecting accounts payable for confirmation might not be the
most effective approach and indicated what more effective procedures could be followed when selecting accounts
payable for confirmation.

4. A client that has never before invested in securities recently acquired more than a million peso in cash from the sale of real
estate no longer used in operations. The president intends to invest this money in marketable securities until such time as the
opportunity arises for advantageous acquisition of a new plant site. He asks you to enumerate the principal factors you would
recommend to create a strong internal control over marketable securities.

5. A well-financed audit client of CPA firm invests large amounts in marketable securities. As part of its internal control, the
company uses a monthly report of securities transactions. The report is prepared by the controller and presented to the
investment committee of the board of directors. What information should this report contain?

6. How can the auditors determine that all dividends applicable to investment in securities owned by the client have been
received and recorded?