Account payable balance: Week 4 Homework Questions
Questions 1 and 2 were taken directly from the text and I am aware that the answers are available through an internet search. I want to remind you that searching the internet for the answers and using those answers is a violation of UMUC academic integrity policies. In addition, using any outside source without citation is plagiarism. However, just gaining access to the answers will not satisfy the homework assignment because I have added the requirement that you explain your answers, which cannot be found on the internet and needs to be reasoned out from the material in the chapter. In grading, I will place more emphasis you explanation than your selection of the correct alternative.
1) The following are several multiple choice questions adapted from the CPA exam that concern the persuasiveness of evidence. For each question, selected the best answer and then explain why it is better than all the alternatives. Your explanations should address all the possible alternatives presented in the question.
a) Which of the following types of documentary evidence should the auditor considered to be the most reliable and why?
i) A sales invoice issued by the client and supported by a delivery receipt from an outside trucker.
ii) Confirmation of an account payable balance mailed by and returned directly to the auditor.
iii) A check, issued by the company and bearing the payee’s endorsement, that is included with the bank statements mailed directly to the auditor.
iv) An audit schedule prepared by the client’s controller and reviewed by the client’s treasurer.
b) Which of the following statements concerning audit evidence is true?
i) To be appropriate, audit evidence should be either persuasive or relevant, but need not be reliable.
ii) The measure of the quantity and quality of audit evidence lies in the auditor’s judgment.
iii) The difficulty and expense of obtaining audit evidence concerning an account balance is a valid basis for omitting the test.
iv) A client’s accounting records can be sufficient audit evidence to support the financial statements.
c) Audit evidence can come in different forms with different degrees of persuasiveness. Which of the following is the least persuasive type of evidence?
i) Vendor’s invoice
ii) Bank statement obtained from the client
iii) Computations made by the auditor
iv) Prenumbered sales invoices
d) Which of the following presumptions is correct about the reliability of audit evidence?
i) Information obtained indirectly from outside sources is the most reliable audit evidence.
ii) To be reliable, audit evidence should be convincing rather than merely persuasive.
iii) Reliability of audit evidence refers to the amount of corroborative evidence obtained.
iv) Effective internal control provides more assurance about the reliability of audit evidence.
2) The following questions that were adapted from the CPA exam concern audit documentation. For each question, selected the best answer and then explain why it is better than all the alternatives. Your explanations should address all the possible alternatives presented in the question.
a) Which of the following is not a primary purpose of audit documentation?
i) To coordinate the audit.
ii) To assist in preparation of the audit report.
iii) To support the financial statements.
iv) To provide evidence of the audit work performed.
b) During an audit engagement, pertinent data are compiled and included in the audit files. The audit files primarily are considered to be
i) a client-owned record of conclusions reached by the auditors who performed the engagement.
ii) evidence supporting financial statements.
iii) support for the auditor’s representations as to compliance with auditing standards.
iv) a record to be used as a basis for the following year’s engagement.
3) The following audit procedures were performed in the audit of inventory to satisfy specific balance-related audit objectives as discussed in Chapter 6. The audit procedures assume that the auditor has obtained the inventory count sheets that list the client’s inventory. For each audit procedure, identify what type of evidence it is and what balance-related audit objective(s) it meets. Explain you selection of audit objective(s). Some procedures may meet more than one objective.
|Audit Procedure||Type of Evidence||Balance-related Audit Objective(s)||Explanation of How the Procedure meets the Audit Objective(s)|
|Vouch selected quantities from the inventory list to the physical inventory to make sure that the inventory items exist and the quantities are the same.|
|Compare the quantities on hand and unit prices on this year’s inventory count sheets with those in the preceding year as a test for large differences.|
|Test extend unit prices times quantity on the inventory list, test foot the list, and compare the total to the general ledger.|
|Audit Procedure||Type of Evidence||Balance-related Audit Objective(s)||Explanation of How the Procedure meets the Audit Objective(s)|
|Question operating personnel about the possibility of obsolete or slow-moving inventory.|
|Send letters directly to third parties who hold the client’s inventory requesting that this list the items and amounts of all inventory in their procession, and request that they respond directly to the auditors.|
|Select a sample of quantities of inventory in the factory warehouse and trace each item to the inventory count sheets to determine if it has been included and if the quantity and description are correct.|
|Examine sales invoices and contracts with customers to determine whether any goods are out on consignment with customers. Similarly, examine vendors’ invoice and contracts with vendors to determine whether any goods on the inventory listing are owned by vendors.|
4) Southwest Appliance – Inherent risk and Preliminary Analytical Procedures
All the tasks and results use the “SW Working paper Template” Excel file and the “SW Risk Memo template” Word file. Complete the audit steps listed in Section B.2, B.3, and B.4. in the audit program presented in the spreadsheet file. Document your work as required in these steps. Rename the spreadsheet file with your own name (e.g., “Jim Peters SW.xls) and the Risk Memo (e.g., Jim Peters SW.doc) and attach to your assignment as your solutions to this week’s homework assignment.
The description of Southwest Appliance is attached to the end of this document. It contains the information on which you are to base your answers to the assignment except for their financial data. Southwest’s financial statements and data are included in the “SW Working paper Template” file.
Clearly, this is an incomplete audit program. I have selected isolated steps to test your abilities on several common audit tasks related to initial audit planning and risk assessment.
This is an individual assignment. Please refer to the statement on academic integrity in the course syllabus about what constitutes cheating on this assignment.
Note – The working paper you will use for this assignment contains headings as well as action items. Only the items with working paper references next to them are action items you need to perform for this assignment. Also, in all cases, you are the preparer of the working paper, not the reviewer, and you cannot review your own work. I included the reviewer’s section simple to provide a little more realism to the working papers.
a) Perform the step in Section B.2 of the partial audit program in the Southwest Appliances spreadsheet file. Initial and date the step on the program when you complete it by entering your initials and the date into the appropriate cells in the Program worksheet. Also, initial and date any supporting working papers you used.
b) Perform the steps in Section B.3 of the partial audit program in the Southwest Appliances spreadsheet file. Initial and date each step on the program as you complete it by entering your initials and the date into the appropriate cells in the Program worksheet. Also, initial and date any supporting working papers you used.
Southwest Appliances, Inc. specializes in supplying a relatively small line of high quality household appliances to residential construction contractors in a large and growing metropolitan area. Southwest has a large list of customers, mostly custom builders of single family dwellings and some large builders of single and multiple family units. Southwest basic marketing strategy is to have inventory available at all times and to sell at competitive prices. At the end of every quarter, the President, Joe Navarro, reviews product costs and adjusts the authorized selling prices of products as necessary. These adjustments are based on Mr Navarro’s assessment of what the competition will do as well as what is required to provide competitive profits to the owners.
The wholesale appliance industry has been affected by a global recession and by a slow economic recovery for the last three years, but is showing signs of recovery. Prior to the recession, the industry’s gross sales were growing at a real rate of about 7% per year (with the usual wide variations from year to year due to fluctuations in the residential housing starts). During the recession, their sales fell by 15%. However, real growth rates for the industry are starting to increase to about 2% in the current year. Southwest management expects future growth in the industry to be around the same level for the next three to five years. Mr. Navarro’s market strategy does not seem to be very effected because prior to year X1, Southwest’s sales have not grown as fast as the industry in recent years and fell more than the industry during the recession.
Southwest’s facilities are located in a single warehouse and office building adjacent to a railroad siding. Warehouse personnel simply unload rail deliveries with the forklifts and flat trucks that are used to handle inventory inside the warehouse. Because sales are made on a customer pickup basis, this location allows the company to avoid the expense of maintaining its own vehicles for transportation in and out. However, Southwest does have an arrangement with the trucking business next door to handle additional deliveries for customers on a freight collect basis (i.e., FOB shipping point). In the cases of customer pickup and the occasional delivery, sales are considered final when the appliances leave Southwest’s loading dock.
Southwest is incorporated in the same state in which its home office is located. It does business in its home state and three surrounding states. The company’s stock is held by almost 300 individuals and businesses, but is not yet publicly traded. Currently, Southwest’s top management holds over 50% of the stock. The Board wants to expand their business and is anticipating going public with an initial public offering (IPO) within the next year. Executing an IPO will require that the Board make public their historic financial statements and have them auditing as part of the IPO prospectus to potential investors.
Southwest currently provides audited financial statements to banks when requesting loans and, therefore, has had audits for each of the last five years. Because Southwest is small, their local bank insisted that restrictive covenants be added to the firm’s last loan agreement. These covenants require that the loan be repaid immediately in full if Southwest’s current and debt to equity ratios fall below specified levels. The covenants also set limits on how much the firm can pay in dividends if they are violated.
To help stimulate sales Southwest recently instituted a profit sharing bonus agreement for its employees. This plan was negotiated because employees have gone without raises for the last two years due to the recession. The agreement specifies that employee bonuses will be based on unaudited net income for the past year because of the need to adjust employees’ salaries at the beginning of each year. However, future bonuses are adjusted for any audit adjustments that are made after the bonuses are set based on unaudited data. No accrual has been made for the current year. Individual bonuses are to be based on an employee’s position, length of service, and certain specific negotiated terms with individual officers. They will therefore vary in amount, but generally, the bonuses will average about 15% of the base net income.
Southwest’s Board of Directors includes their current president, secretary/treasurer, and controller. It also includes two shareholders, who each hold about 5% interest in the firm, and one retired CPA, Jack Washington. While there is no audit committee, the board as a whole takes an active role in hiring and monitoring the firm’s outside auditor. It also relies on the leadership of Mr. Washington to determine the scope of the audit engagement. Mr. Washington was recruited to the Board last year to help compensate for the fact that the prior president and controller retired during the new year and, therefore, the current president and controller have been in their positions for less than one year. The new controller was promoted from within, but the new president was recruited from outside the firm.
Southwest selected a new auditor for this year’s audit engagement because their previous auditor had been with them for ten years and the Board felt it was time to get new insights into their operations. In addition, they wanted to hire a larger auditor with a more established reputation to support their anticipated IPO.
Southwest’s accountant, Bob Smith, prepares financial statements and various financial statistics for the officers to review monthly. The board reviews similar statistics on a quarterly basis at the regular board meetings and questions the officers closely about what is going on the business. In addition, Mr. Navarro personally follows sales figures and gross profit margins.
Supervisors interview all perspective employees for positions they supervise. In addition, at least one of the corporate officers also interview each perspective employee. Most of the key employees, including the officers, have been with Southwest for more than ten years. However, due to the high demand for accountants, Bob Smith, and most of the accounting staff, has been with Southwest for less than 3 years. While Southwest does check references for any prospective employee, they do not have the resources to check for criminal records and do other forms of background checks.
Southwest’s accounting and inventory management are supported by a network are personal computers with units at locations in the offices and warehouse, and a central server to handle all accounting and inventory files. Printers are located in areas in which printed documents and other records are needed routinely. The computer is used to control and process most transactions, to print documents, prepare accounting records, and prepare periodic financial statements. Southwest uses commercial software recommended by their auditor. To date, they have had only the usual startup problems (the system has been in use two years and has been upgraded once).
Only employees with jobs requiring computer data entry or access to file information and reports are given accounts and passwords. Passwords are required to enter the system and access is keyed to individual accounts such that employees only have access to the information they need to perform their duties. Normal access to the files takes place via the software, which subjects any input to various logical and numerical tests. Most input is backed up by paper trails of source documents and other business papers.
Southwest has a complete set of policies and procedures manuals that employees are required to use. Management is aggressive about keeping them up to date and insuring that new employees are properly trained in the policies and procedures that affect their duties. Management also requires employees to attend brief review seminars on the policies and procedures that affect their positions once a year.
|Franklin Peters||Major shareholder, Chairman of the Board|
|Jack Washington||Retired CPA and Board member|
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