Deck 14: The Finance and Investment Process

Question 1

Which of the following is a substantive procedure in the audit of estimates made by auditor?

A) Observing whether estimates are prepared by qualified personnel.
B) Recalculating the mathematical estimate.
C) Scanning for evidence of review by senior management.
D) Ensuring estimates are recorded in the right accounts.

Answer 1

B

Question 2

Which of the following management assertions for long-term liabilities is related to completeness?

A) All material long-term liabilities are recorded.
B) Assumption of new long-term liabilities and repayment of debt are properly authorized.
C) Terms, conditions, and restrictions relating to long-term debt are adequately disclosed.
D) Disclosure of five-year repayment schedule and debt maturity dates is accurate and adequate.

Answer 2

A

Question 3

Accounting estimates include which of the following?

A) Trade payable balances.
B) Cash balances.
C) Capital assets at cost.
D) Amortization expense.

Answer 3

D

Question 4

In the finance and investment cycle, which of the following controls would be most effective in ensuring that proper custody of assets has been maintained?

A) Direct access to securities in the safety deposit box is limited to only one corporate officer.
B) Personnel who post investment transactions to the general ledger are not permitted to update the investment subsidiary ledger.
C) The purchase and sale of investments are executed on the specific authorization of the board of directors.
D) The recorded balances in the investment subsidiary ledger are periodically compared with the contents of the safety deposit box by independent personnel.

Question 5

Off-the-balance-sheet means that ________.

A) obligations and commitments are recorded only in the income statement accounts
B) obligations and commitments are recorded only in the statement of cash flows
C) capital budgets are properly authorized and approved
D) obligations and commitments are not recorded in the accounts of the company

Question 6

Which of the following is not an example of management's policies and procedures over the preparation of accounting estimates?

A) Accumulation of relevant, sufficient, and reliable data.
B) Preparation of estimates by qualified personnel.
C) Review by the independent auditor.
D) Consideration by management of whether the accounting estimates are consistent with the company's operational plans.

Question 7

This internal control questionnaire item-"Are interest payments and accruals monitored for due dates?"-relates to the control objective of ________.

A) validity
B) completeness
C) accounting
D) proper period recording

Question 8

Transactions in debt and shareholder equity are typically handled by ________.

A) payroll
B) accounting staff
C) accounting supervisors
D) upper management

Question 9

Selecting a sample of paid notes and tracing interest costs to the general ledger expense account is a test of the control objective of ________.

A) accounting
B) accuracy
C) completeness
D) validity

Question 10

If an auditor decided to confirm share capital, the auditor would obtain the confirmation from ________.

A) management
B) the board of directors
C) shareholders
D) an independent registrar

Question 11

Who is responsible for making accounting estimates?

A) Auditors.
B) Management.
C) Boards of directors.
D) Shareholders.

Question 12

The purchase of fixed assets is part of the finance and investment cycle.

Question 13

A typical activity performed in the finance and investment cycle would be ________.

A) analysis of excess cash funds
B) reconciliation of cash balances
C) authorization of cash disbursements
D) preparation of the cash flow statement

Question 14

Debt covenant violations have a significant impact on a company since they can affect ________.

A) the ability of the entity to function as a going concern
B) overall liability relationships in the financial statements
C) the nature of disclosures required in the audit report
D) how loan agreements should be structured

Question 15

The inherent risk associated with the finance and investment cycle is less than that associated with other cycles, especially given the low number of transactions typically involved.

Question 16

Which of the following questions is an auditor most likely to include on an internal control questionnaire?

A) Are the assets that secure notes payable critically needed for the entity's continued existence?
B) Are two or more authorized signatures required on cheques that repay notes payable?
C) Are the proceeds from notes payable used for the purchase of non-current assets?
D) Are direct borrowings on notes payable authorized by the board of directors?

Question 17

In the audit casette "14.3 Off-Balance-Sheet Inventory Financing, " Verity Distillery Company used the product repurchase ploy to ________.

A) overstate assets and understate liabilities by borrowing money and not recording the liability
B) increase owners' equity by recording the sale of inventory without recording any cost of goods sold
C) understate assets and understate liabilities by borrowing money through an undisclosed related party transaction and disguising it as a sale
D) understate assets and understate liabilities by loaning money to its officers

Question 18

The decision of a company to have a transfer agent handle the exchange of shares is related primarily to which functional responsibility?

A) Authorization.
B) Custody.
C) Record-keeping.
D) Periodic reconciliation.

Question 19

What is the most appropriate control to prevent improper use of share or bond instruments?

A) Authorization to purchase shares by a senior financial officer.
B) Use of a registered broker to purchase and sell all shares.
C) Proper custodial control of securities.
D) Registration of bond instruments with the exchange authorities.

Question 20

Which management assertion is of most importance to auditors in examining long-term debt?

A) Existence.
B) Completeness.
C) Rights and obligations.
D) Presentation and disclosure.

Question 21

If the auditor suspects that the financial statements are intentionally misstated, he or she should perform procedures to confirm or dispel that suspicion.

Question 22

The auditor's primary concern in the verification of long-term liabilities is that all liabilities are recorded and that the interest expense is properly paid or accrued.

Question 23

Red Corporation had a temporary cash squeeze near its balance sheet date. It needed cash badly to cover a seasonal dip in sales. However, if any additional money were borrowed, the company would violate a loan covenant requiring that a defined debt/equity ratio be maintained. To get around this requirement, the top two officers Red Corporation set up another corporation called Pink, Inc. Red made a large sale of inventory to Pink at cost. Pink used the inventory as collateral for a three-month loan from a local bank. The money from the loan was used to pay Red for the inventory transaction. At the end of the three-month period, Red intended to repurchase the inventory from Pink at a price that would allow Pink repay the loan plus interest.
Required:

A) How would this transaction enable Red Corporation to maintain its required debt/equity ratio and obtain the cash it needs?
B) What tests of controls and/or substantive procedures would lead an auditor to detect this scheme?

Question 24

It is very common for auditors to perform substantive procedures on 100% of the transactions and general ledger balances for investment accounts and finance accounts.

Question 25

Auditors should expect to find the authorizing signatures of the CEO, CFO, chair of the board of directors, and perhaps other high-ranking officers on financing documents.

Question 26

What is off-balance-sheet financing? Define the term and provide at least two examples.

Question 27

It is easier to segregate functional responsibilities in middle management than in upper-level management.

Question 28

What are the contributions that a board of directors can make to internal control?

Question 29

Letters of credit are an example of "off-balance-sheet" financing.

Question 30

The auditor's tests of controls over the appropriateness of accounting estimates consist primarily of enquiry and observation.

Question 31

Name the typical specific management assertions relating to long-term liabilities.

Question 32

In the area of finance and investment, the involvement of two or more persons in each important functional responsibility could be considered a compensating control.

Question 33

The auditor selected a sample of journal entries related to notes payable and traced interest expense to the general ledger. The auditor is testing controls over accuracy.

Question 34

Confirmation requests should be sent to lenders only if there is a balance owing to the lender at the confirmation date.

Question 35

The auditor can use analytical procedures in the audit of interest expense related to long-term debt. Describe how this is done.

Question 36

The sale of share capital and the decision to finance the company with debt are transactions usually authorized by shareholders.

Question 37

Discuss the custody of investments and intangible assets.

Question 38

What is a compensating control? Describe a compensating control in the finance and investment cycle.

Question 39

According to generally accepted auditing standards, the relevant aspects of a control system over the preparation of accounting estimates include:
> Identifying where accounting estimates are required.
> Gathering relevant, sufficient, and reliable data for the estimates.
> Developing assumptions about the estimates.
> Preparation of estimates by qualified personnel.
> Adequate review and approval by appropriate levels of authority.
> Comparison of previous estimates with actual results.
> Consideration by management of whether the accounting estimates are reasonable and consistent with the company's operational plans.
Required:

A) How would the auditor test controls over the preparation of accounting estimates?
B) What substantive audit procedures could the auditor use in testing the estimates?

Question 40

Management's statement that a marketable security is a long-term investment may be the only evidence available to support classifying the investment as a non-current asset.