MODULE 10: TESTS OF CONTROLS AND SUBSTANTIVE PROCEDURES

Question 1

1. Which of the following business functions is associated with the revenue/receipts cycle?
   A. Obligations are paid to vendors and employees.
   B. Resources are distributed to outsiders in exchange for promises of future payments.
   C. Resources are used, held, or transformed.
   D. Capital funds are received from investors and creditors.

Answer 1

B. Resources are distributed to outsiders in exchange for promises of future payments.

Question 2

2. Which of the following is not a common activity in the revenue/receipt cycle?
   A. Order entry
   B. Receiving
   C. Inventory control
   D. Cash collection

Answer 2

B. Receiving

Question 3

3. The cash account is involved in which cycle?
   A. Revenue and collection.
   B. Acquisition and expenditure.
   C. Production and conversion.
   D. All of the given choices.

Answer 3

D. All of the given choices.

Question 3

4. Which of the following is an appropriate audit procedure to test cancelled checks for authorized signatures?
   A. Compare the check date with the first cancellation date.
   B. Determine that all checks are to be signed by individual officers who are authorized by the board.
   C. Examine a representative sample of signed checks and trace their signatures to the specimen
   signature book of authorized signatories.
   D. Confirm the signatures from a sample of checks directly with the bank.

Answer 3

C. Examine a representative sample of signed checks and trace their signatures to the specimen signature book of authorized signatories.

Question 3

5. Which of the following is not likely a source of information about the accounting system in the revenue area?
   A. Direct inquiry of customers.
   B. Prior experience with the client.
   C. Systems flowcharts prepared by the EDP department.
   D. Financial reporting manuals.

Answer 3

A. Direct inquiry of customers.

Question 3

6. Which of the following gives an indication of a potential fraudulent activity?
   A. Numerous credit memoranda have been issued to the company’s biggest customer.
   B. Internal auditor cannot locate several credit memoranda to support reductions of customers’ balances.
   C. The year-end bank reconciliation has no outstanding checks or deposit older than 15 days.
   D. No one was absent the day the auditors handed out the paychecks.

Answer 3

B. Internal auditor cannot locate several credit memoranda to support reductions of customers’ balances.

Question 3

7. Which of the following procedures could prevent or detect errors or frauds arising from shipments made to unauthorized parties?
   A. Document policies and procedures for scheduling the shipments of goods.
   B. Establish procedures for reviewing and approving the prices and sale terms before sale.
   C. Prenumber the bills of lading and assure that the related billings are made on a periodic basis.
   D. Prepare and periodically update the lists of authorized customers.

Answer 3

D. Prepare and periodically update the lists of authorized customers.

Question 4

8. Which of the following control procedures would most likely assure that access to shipping, billing, inventory control, and accounting records is restricted to personnel authorizedby management?
   A. Segregate the responsibilities for authorization, execution, and recording, and prenumber and control the custody of documents.
   B. Establish the cash receipts function in a centralized location and require a daily reconciliation of cash receipts records and deposit slips.
   C. Establish policy and procedures manuals, organization charts, and supporting documents.
   D. Periodically substantiate and evaluate the recorded account balances.

Answer 4

A. Segregate the responsibilities for authorization, execution, and recording, and prenumber and control the custody of documents.

Question 4

9. An entity has implemented a control procedure which requires that authorized personnel reconcile the total of individual customer accounts receivable of the following control objectives?
   A. Sales, cash receipts, and related transactions should be recorded at the correct amounts, in the proper period, and should be properly classified.
   B. Recorded accounts receivable balances should reflect underlying transactions and events.
   C. Billings, collections, and related adjustments transactions should be posted accurately to individual customer accounts.
   D. Access to cash and cash-related records should be restricted to personnel authorized by management.

Answer 4

C. Billings, collections, and related adjustments transactions should be posted accurately to individual customer accounts.

Question 5

10. Which of the following internal control procedures most likely would deter lapping of collections from customers?
    A. Independent internal verification of dates of entry in the cash receipts journal with dates of daily cash summaries.
    B. Authorization of writeoffs of uncollectible accounts by a supervisor who is independent of credit approval.
    C. Segregation of duties between receiving cash and posting collections to the accounts receivable.
    D. Supervisor’s comparison of the daily cash summary with the sum of cash receipts journal entries.

Answer 5

C. Segregation of duties between receiving cash and posting collections to the accounts receivable.

Question 6

11. What sequence of steps does an auditor undertake when identifying control procedures that are potentially reliable in assessing control risk below the maximum?
    A. Consider the error or frauds that might occur, determine control procedures, identify control objectives, and design tests of controls.
    B. Determine control procedures, design tests of controls, consider the errors or frauds that might occur identify control objectives.
    C. Identify control objectives, consider the errors or frauds that might occur, determine control procedures, and design tests of controls.
    D. Design tests of controls, determine control procedures, consider the errors or frauds that might occur, and identify control objectives.

Answer 6

C. Identify control objectives, consider the errors or frauds that might occur, determine control procedures, and design tests of controls.

Question 7

12. Assuming cash receipts from credit sales have been misappropriated, which of the following is likely to conceal the misappropriation and unlikely to be detected?
    A. Understanding the sales journal.
    B. Overstating the accounts receivable control account.
    C. Overstating the account receivable subsidiary ledger.
    D. Overstating the cash receipts journal.

Answer 7

A. Understanding the sales journal.

Question 8

13. Which of the following is most likely to provide management with incentives to overstate earnings?
    A. Projected quarterly dividends.
    B. Issuance of preferred stock.
    C. Unbudgeted increase in materials prices.
    D. A projected stock split.

Answer 8

C. Unbudgeted increase in materials prices.

Question 9

15. After preparing a flowchart of internal control for sales and cash receipts transactions and evaluating the design of the system, the auditor would perform tests of controls on all control procedures
    A. That are documented in the flowchart
    B. That is considered to be deficiencies that might allow errors to enter the accounting system.
    C. That are considered to be strengths that the auditor plans to rely on in assessing control risk.
    D. That would help in preventing irregularities.

Answer 9

C. That are considered to be strengths that the auditor plans to rely on in assessing control risk.

Question 9

14. Under which of the following of the following circumstances does management have some discretion in timing the recognition of revenue?
    A. The timing of revenues is not reasonably determinable and the earnings process is not complete.
    B. The amount and timing of revenue is reasonably determinable.
    C. The earning process is complete or reasonably complete.
    D. The transaction is at arm’s length.

Answer 9

A. The timing of revenues is not reasonably determinable and the earnings process is not complete.

Question 10

16. Which of the following would the auditor consider to be an incompatible operation if the cashier receives remittances from the mail room?
    A. The cashier posts the receipts to the accounts receivable subsidiary ledger.
    B. The cashier makes the daily deposit at a local bank.
    C. The cashier makes the daily deposit of cash collections.
    D. The cashier endorses the checks.

Answer 10

A. The cashier posts the receipts to the accounts receivable subsidiary ledger.

Question 11

17. Which of the following is not a universal rule for achieving control over cash?
    A. Separate the cash-handling and record-keeping functions.
    B. Decentralize the receiving of cash as much as possible.
    C. Deposit each day’s cash receipts by the end of the day.
    D. Have bank reconciliation prepared by employees who do not handle cash.

Answer 11

B. Decentralize the receiving of cash as much as possible.

Question 12

18. On conducting an audit in which point in an ordinary sales transaction of a wholesaling business is a lack of specific authorization of least concern of the auditor?
    A. Granting of credit.
    B. Shipment of goods.
    C. Determination of discounts.
    D. Selling of goods for cash.

Answer 12

D. Selling of goods for cash.

Question 13

19. A company has computerized sales and cash receipts journals. The computer peograms for theses journals have been properly debugged. The auditor discovered that the total of the accounts receivable subsidiary accounts differs materially from the accounts receivable control account. This discrepancy could indicate
    A. Lapping of receivables.
    B. Credit memoranda being improperly recorded.
    C. Receivables not being properly aged.
    D. Statements being intercepted prior to mailing.

Answer 13

B. Credit memoranda being improperly recorded.

Question 14

20. To achieve control when there is no billing department, the billing function should be performed by
    A. Accounting department.
    B. Sales department.
    C. Shipping department.
    D. Credit and collection department.

Answer 14

A. Accounting department.

Question 15

21. The person who opens the mail commonly prepares a remittance advice when a customer fails to return one with the payment. Consequently, mail should be opened by
    A. Credit manager.
    B. Receptionist.
    C. Sales manager.
    D. Accounts receivable clerk.

Answer 15

B. Receptionist.

Question 16

22. Which of the following control procedures will likely prevent the concealment of a cash shortage that was perpetrated by improperly writing off a trade account receivable?
    A. Write off must be approved by a responsible officer after reviewing the credit department’s recommendation and supporting evidence.
    B. Write off must be supported by an aging schedule showing that only receivables that are several months overdue have been written off.
    C. Write off must be approved by the cashier.
    D. Write off must be authorized by field sales representatives.

Answer 16

A. Write off must be approved by a responsible officer after reviewing the credit department’s recommendation and supporting evidence.

Question 16

23. Which of the following would unlikely improve control over an entity’s cash?
    A. Separate cash record keeping from the custody of cash.
    B. Preparing the monthly bank reconciliation.
    C. Processing of check in batches, rather than intermittently.
    D. Separating cash receipts from cash disbursements.

Answer 16

C. Processing of check in batches, rather than intermittently.

Question 17

24. Which of the following would best protect a company that wishes to prevent lapping?
    A. Segregating duties so that accounting staff has no access to an incoming mail.
    B. Segregating duties so that no employee has access both to checks from customers and money from money from daily cash receipts.
    C. Arrange that customer’s send payments directly to the company’s bank.
    D. Requesting that customer checks be made payable to the company and be addressed to the treasurer.

Answer 17

C. Arrange that customer’s send payments directly to the company’s bank.

Question 18

25. Which of the following is the greatest drawback of using subsequent collections that are evidenced only by a deposit slip as an alternative procedure when responses to positive accountsreceivable confirmations are not received?
    A. Checking of subsequent collections can never be used an alternative auditing procedure.
    B. A deposit slip is not received directly by the auditor.
    C. A customer may not have made a payment on a timely basis.
    D. By examining a deposit slip only, the auditor does not know whether the payment is for the receivable at the balance sheet date or a subsequent transaction.

Answer 18

D. By examining a deposit slip only, the auditor does not know whether the payment is for the receivable at the balance sheet date or a subsequent transaction.

Question 19

26. In considering internal control within the revenue/receipt cycle, what is the purpose of a transaction walk through?
    A. To gain an assurance that employees are performing assigned functions accurately.
    B. To confirm the results of the auditor’s understanding of the internal control structure.
    C. To select documents for detailed tests of controls.
    D. To verify the results of the auditor’s sampling plan.

Answer 19

A. To gain an assurance that employees are performing assigned functions accurately.

Question 20

27. Which of these assignments of duties would least likely lead to an embezzlement or theft?
    A. Inventory warehouse manager has responsibility for making the physical inventory observation and reconciling the discrepancies to the perpetual inventory records.
    B. The cashier prepares the bank deposit, endorses the checks with the company stamp, takes the cash and checks to the bank for deposit, and reconciles the bank statement.
    C. Accounts receivable clerk opens customer payments so he could make entries in the customers’ accounts receivable subsidiary accounts.
    D. Financial vice president receives the checks payable to suppliers and the supporting invoices, signs the checks, and mails them to the payees.

Answer 20

D. Financial vice president receives the checks payable to suppliers and the supporting invoices, signs the checks, and mails them to the payees.

Question 21

28. Standard control procedures over customer remittances received through the mail include the policy that requires the mailroom personnel to
    A. Forward the remittances, unopened, directly to the cashier.
    B. Open the mail, restrictively endorses the checks, and then prelists each remittance in triplicate copies.
    C. Forward the remittances, unopened, directly to the account receivable clerk.
    D. Open the mail, restrictively endorses the checks, then, forwards the remittances directly to the accounts receivable clerk.

Answer 21

B. Open the mail, restrictively endorses the checks, and then prelists each remittance in triplicate copies.

Question 22

29. After making the deposit, the daily cash summaries and the validated deposit slips should be forwarded by the cashier directly to the:
    A. Treasurer.
    B. Accounts receivable clerk.
    C. General accounting.
    D. Internal auditor.

Answer 22

C. General accounting.

Question 23

30. The accounting and the cash receipts functions should be handled by which department(s)?
    A. Both functions should be under the control of the company Treasurer.
    B. Both functions should be under the control of the company Controller.
    C. The Controller should have control of accounting functions and the treasurer should have control of cash receipt functions.
    D. The Treasurer should have control of accounting functions and the Controller should have control of cash receipt functions.

Answer 23

C. The Controller should have control of accounting functions and the treasurer should have control of cash receipt functions.

Question 24

31. When auditing cash, the auditor should mostly be concerned with:
    A. Detective risk.
    B. Inherent risk.
    C. Adjunct risk.
    D. Nonsampling risk.

Answer 24

B. Inherent risk.

Question 25

32. Which of the following is most likely to indicate fraud?
    A. Several overpayments are made for goods received from a supplier.
    B. The year-end cash balance cash balance does not include cash in transit to the company at year-end.
    C. A check received after year end is inadvertently recorded as if received before year-end.
    D. A documented loan to an officer of the company.

Answer 25

A. Several overpayments are made for goods received from a supplier.

Question 26

33. Jolas embezzled P50,000 from the company’s account in Bank A. At year-end he concealed the shortage by drawing a check in Bank B and deposited it in Bank A. He has not recorded the transaction on the books. This is an example of:
    A. Lapping.
    B. Kiting.
    C. An effective cash management.
    D. Related-party transactions.

Answer 26

B. Kiting.

Question 27

34. A client maintains two bank accounts. One of the accounts, Bank A, has an overdraft of P10,000. The other account, Bank B, has a positive balance of P5,000. To conceal the overdraft from the auditor, the client may decide to
    A. Draw a check for at least P10,000 on Bank A for deposit in Bank B. Record the receipt
    but not the disbursement and list the receipt as a deposit in transit. Record the disbursement at the beginning of the following year.
    B. Draw a check for P10,000 on Bank B for deposit in Bank A. Record the disbursement but not the receipt. List the disbursement as an outstanding check, but do not list the receipt as a deposit in transit. Record the receipt at the beginning of the following period.
    C. Draw a check for at least P10,000 on Bank B for deposit in Bank A. Record the receipt but not the disbursement and list the receipt as a deposit in transit. Record the disbursement at the beginning of the following year.
    D. Draw a check for at least P10,000 on Bank A for deposit in Bank B. Record the disbursement but not the receipt and list the disbursement as an outstanding check. Record the receipt at the beginning of the following year.

Answer 27

C. Draw a check for at least P10,000 on Bank B for deposit in Bank A. Record the receipt but not the disbursement and list the receipt as a deposit in transit. Record the disbursement at the beginning of the following year.

Question 28

35. A company has a policy of rotating employees’ assigned duties. This policy is most important for employees who:
    A. Are not bonded.
    B. Maintain the detailed accounting records.
    C. Handle cash receipts.
    D. Have access to the general ledger.

Answer 28

C. Handle cash receipts.

Question 29

36. Alpha company uses its sales invoices for posting to perpetual inventory records. Inadequate internal control procedures over the invoicing function allow goods to be shipped that are not yet invoiced.
    The inadequate controls could cause an
    A. Understatement of revenues, receivables, and inventory.
    B. Overstatement of revenues and receivables, and an understatement of inventory.
    C. Understatement of revenues and receivables, and an overstatement of inventory.
    D. Overstatement revenues, receivables, and inventory.

Answer 29

C. Understatement of revenues and receivables, and an overstatement of inventory.

Question 30

37. Which of the following control procedures may prevent the failure to bill customer for some shipments?
    A. Each shipment should be supported by a pre-numbered sales invoice that is accounted for.
    B. Each sales order should be approved by authorized personnel.
    C. Sales journal entries should be reconciled to daily sales summaries.
    D. Each sales invoice should be supported by a shipping document.

Answer 30

A. Each shipment should be supported by a pre-numbered sales invoice that is accounted for.

Question 31

38. The most effective control for ensuring that customers are billed only for goods shipped is to
    A. Require that carriers sign properly completed bills of lading.
    B. Implement a policy that prevents the mailing of sales invoices to the customers in the absence of a properly approved shipping order and a bill of lading signed by the carrier.
    C. Require that all shipments be approved by an accounting personnel.
    D. Prevent goods from leaving the warehouse without being accompanied by a signed bill of lading and a properly approved shipping order.

Answer 31

B. Implement a policy that prevents the mailing of sales invoices to the customers in the absence of a properly approved shipping order and a bill of lading signed by the carrier.

Question 32

39. A company policy should clearly indicate that defective merchandise returned customers is to be delivered to the
    A. Sales clerk
    B. Receiving clerk.
    C. Inventory control clerk.
    D. Accounts receivable clerk.

Answer 32

B. Receiving clerk.

Question 33

40. During a review of a small business client’s internal control system, the auditor discovered that the accounts receivable clerk approves credit memos and has access to cash. Which of the following would be most effective in offsetting this weakness?
    A. The owner reviews errors in billing to customers and postings to the subsidiary ledgers.
    B. The controller receives the monthly bank statement directly and reconciles the checking accounts.
    C. The owner reviews credit memos after they are recorded.
    D. The controller reconciles the total of the detailed accounts receivable to the amount shown in the ledger.

Answer 33

C. The owner reviews credit memos after they are recorded.