Auditing

Easy

1. Which of the following would be least likely to be considered an audit planning procedure?

a. Use an engagement letter.

b. Develop the overall audit strategy.
c. Perform risk assessment.
d. Develop the audit plan.

Answer: C

Performing the risk assessment occurs subsequent to audit planning.

2. A successor auditor should request the new client to authorize the predecessor auditor to allow a
review of the predecessor’s
Engagement letter Working papers
a. Yes Yes
b. Yes No
c. No Yes
d. No No

Answer: C

The requirement is to determine whether a successor auditor should request a new client to authorize the
predecessor auditor to allow a review of the predecessor’s engagement letter, working papers, or both.
Answer c is correct because standard states that it is advisable that a successor auditor request to be
allowed to review the predecessor’s working papers.

3. Professional skepticism requires that an auditor assume that management is

a. Honest, in the absence of fraud risk factors.

b. Dishonest until completion of audit tests.
c. Neither honest nor dishonest.
d. Offering reasonable assurance of honesty

Answer: C

Professional skepticism requires that an auditor neither assume dishonesty nor unquestioned
honesty.

4. Which of the following most likely would not be considere an inherent limitation of the potential
effectiveness of an entity’s internal control?

a. Incompatible duties.
b. Management override.
c. Mistakes in judgment.
d. Collusion among employees.

Answer: A

The requirement is to identify the reply that most likely would not be considered an inherent limitation of
the potential effectiveness of an entity’s internal control. Answer A is correct because incompatible duties
may generally be divided among individuals in such a manner as to control the problem.
 5. Which of the following is not a component of an entity’s internal control?

a. Control risk.
b. Control activities.
c. Monitoring.
d. Control environment.

Answer: A

While auditors assess control risk as a part of their consideration of internal control, it is not a component
of an entity’s internal control.

6. To obtain audit evidence about control risk, an auditor selects tests from a variety of techniques
including

a. Inquiry.
b. Analytical procedures.
c. Calculation.
d. Confirmation.

Answer: A

Auditors test controls to provide evidence for their assessment of control risk through inquiries of
appropriate personnel, inspection of documents and records, observation of the application of controls,
and reperformance of the application of the policy or procedure.

7. Which of the following is not an assertion relating to classes of transactions?

a. Accuracy.
b. Consistency.
c. Cutoff.
d. Occurrence.

Answer: B

The assertions for classes of transactions are occurrence, completeness, accuracy, cutoff and
classification.

8. Operational auditing is primarily oriented toward

a. Future improvements to accomplish the goals of management.

b. The accuracy of data reflected in management’s financial
records.
c. The verification that a company’s financial statements
are fairly presented.
d. Past protection provided by existing internal control.

Answer: A

Operational audits deal primarily with evaluating the efficiency and effectiveness with which operations
function, often with the intention of making improvements to accomplish the goals of management.
 9. Which of the following types of evidence would an auditor most likely examine to determine
whether controls are operating as designed?

a. Confirmations of receivables verifying account balances.

b. Letters of representations corroborating inventory
pricing.
c. Attorneys’ responses to the auditor’s inquiries.
d. Client records documenting the use of computer programs.

Answer: D

Inspection of client records documenting the use of computer programs will provide evidence to help the
auditor evaluate the effectiveness of the design and operation of internal control; the client’s control over
use of its computer programs in this case is documentation of the use of the programs. In order to test
this control, the auditor will inspect the documentation records.

10. A procedure that involves tracing a transaction from its origination through the company’s
information systems until it is reflected in the company’s financial report is referred to as a(n)

a. Analytical analysis.
b. Substantive procedure.
c. Test of a control.
d. Walk-through.

Answer: D

Walk-through is a procedure that involves tracing a transaction from origination through the company’s
information systems until it is reflected in the company’s financial report.

11. Which of the following is an accurate statement about internal control weaknesses?

a. Material weaknesses are also control deficiencies.

b. Significant deficiencies are also material weaknesses.
c. Control deficiencies are also material weaknesses.
d. All control deficiencies must be communicated to the audit committee.

Answer: A

All material weaknesses are control deficiencies.

12. In an integrated audit, which of the following is defined as a weakness in internal control that is
less severe than a material weakness but important enough to warrant attention by those
responsible for oversight of the financial reporting function?

a. Control deficiency.
b. Unusual weakness.
c. Unusual deficiency.
d. Significant deficiency.

Answer: D

Significant deficiency is defined as a weakness in internal control that is less severe than a material
weakness but important enough to warrant attention by those responsible for oversight of the financial
reporting function.
 13. Proper authorization of write-offs of uncollectible accounts should be approved in which of the
following departments?

a. Accounts receivable.
b. Credit.
c. Accounts payable.
d. Treasurer.

Answer: D

The treasurer’s department is the department responsible for bad debt write-offs. It should be
independent of the sales, credit, and the recordkeeping for that function, and should have knowledge to
help make proper decisions of this nature.

14. Proper segregation of functional responsibilities calls for separation of the functions of

a. Authorization, execution, and payment.

b. Authorization, recording, and custody.
c. Custody, execution, and reporting.
d. Authorization, payment, and recording.

Answer: B

Authorizing transactions, recording transactions, and maintaining custody of assets should be

segregated.

15. Relationship between control risk and detection risk is ordinarily

a. Parallel.
b. Inverse.
c. Direct.
d. Equal.

Answer: B

Control risk and detection risk has an inverse relationship with each other. As control risk increases
(decreases) detection risk must decrease (increase).

Average

1. As the acceptable level of detection risk decreases, the assurance directly provided from

a. Substantive tests should increase.

b. Substantive tests should decrease.
c. Tests of controls should increase.
d. Tests of controls should decrease.

Answer A

The requirement is to identify an effect of a decrease in the acceptable level of detection risk. Answer (a)
is correct because as the acceptable level of detection risk decreases, the assurance provided from
substantive tests should increase. To gain this increased assurance the auditors may (1) change the
nature of substantive tests to more effective procedures (e.g., use independent parties outside the entity
rather than those within the entity), (2) change the timing of substantive tests (e.g., per form them at year-
end rather than at an interim date), and (3) change the extent of substantive tests (e.g., take a larger
sample). Answer (b) is incorrect because the assurance provided from substantive tests increases, it
does not decrease. Answers (c) and (d) are incorrect because the acceptable level of detection risk is
based largely on the assessed levels of control risk and inherent risk. Accordingly, any tests of controls
will already have been performed.

2. According to the standards of the profession, which of the following activities would most likely not
impair a CPA’s independence?

A. Providing advisory services for a client.

B. Contracting with a client to supervise the client’s office personnel
C. Signing a client’s checks in emergency situations.
D. Accepting a luxurious gift from a client.

Answer A

The requirement is to determine the activity that would most likely not impair a CPA’s independence.
Accounting and consulting services do not normally impair independence because the member’s role is
advisory in nature. Answers (b) and (c) are incorrect because management functions are being
performed. Answer (d) is incorrect because accepting a luxurious gift impairs a CPA’s independence.

3. The bank statement for December 2017 contains the following data:

Total deposits P110,000

Total charges. including an NSF check of P8,000 and a

service charge of P400 96,000

All outstanding checks on November 30, 2017, including the bank credit, were cleared in the bank
in December 2017.
There were outstanding checks of P30,000 and deposits in transit of P38,000 on December 31, 2017.

How much is the cash balance per bank on December 31, 2017?

a. P154,000 c. P164,000

b. P150.000 d. P172,400

Answer: C

Balance per bank, Nov. 30, 2006 P 150,000

Add: Total deposits per bank statement 110,000
Total 260,000
Less: Total charges per bank statement 96,000
Balance per bank, Dec. 31, 2006 P164,000

4. The management of a client company believes that the statement of cash flow is not a useful document
and refuses to include one in the annual report to stockholders. As a result, the auditor's opinion should
be
 a. Qualified due to inadequate disclosure.
b. Qualified due to a scope limitation.
c. Adverse.
d. Unqualified.

Answer A

A management that refuses to include one in the annual report to stockholders would result to a qualified
opinion due to inadequate disclosure

5. An auditor would issue an adverse opinion if

a. The audit was begun by other independent auditors who withdrew from the engagement.
b. A qualified opinion cannot be given because the auditor lacks independence.
c. The restriction on the scope of the audit was significant.
d. The statements taken as a whole do not fairly present the financial position, results of operations,
and cash flows of the company.
e.
Answer D.
An auditor would issue an adverse opinion if the statements taken as a whole do not fairly present the
financial position, results of operations, and cash flows of the company.

6. The fourth reporting standard requires that the auditor's report contain either an expression of opinion
regarding the financial statements taken as a whole or an assertion that an opinion cannot be
expressed. The objective of the fourth standard is to prevent

a. An auditor from reporting on one basic financial statement and not the others.
b. An auditor from expressing different opinions on each of the basic financial statements.
c. Management from reducing its responsibility for the basic financial statements.
d. Misinterpretations about the degree of responsibility the auditor assumes.

Answer: D

The objective of the fourth standard is to prevent misinterpretations about the degree of responsibility the
auditor assumes.

7. An auditor's opinion reads as follows: "In our opinion, except for the above-mentioned limitation on
the scope of our audit...” This is an example of a

a. Review opinion.
b. Emphasis on a matter.
c. Qualified opinion.
d. Unacceptable reporting practice.

Answer: D
“Except for the above-mentioned limitation on the scope of our audit” is unacceptable phrase in reporting
practice

8. An auditor's report includes a statement that "the financial statements do not present fairly the
financial position in conformity with generally accepted accounting principles." This auditor's
report was probably issued in connection with financial statements that were
 a. Prepared on a comprehensive basis for accounting other than GAAP.
b. Restricted for use by management.
c. Misleading.
d. Condensed.
Answer: C
An auditor's report that says "the financial statements do not present fairly the financial position in
conformity with generally accepted accounting principles." was issued in connection with financial
statements that were misleading.

9. If the auditor believes there is minimal likelihood that resolution of an uncertainty will have a material
effect on the financial statements, the auditor would issue a(n)

a. Qualified opinion.
b. Adverse opinion.
c. Unqualified opinion.
d. Disclaimer of opinion.
Answer: C
The auditor would issue an unqualified opinion if a minimal likelihood that resolution of an uncertainty will
have a material effect on the financial statements

10. If an accounting change has no material effect on the financial statements in the current year but the
change is reasonably certain to have a material effect in later years, the change should be

a. Treated as a consistency modification in the auditor's report for the current year.
b. Disclosed in the notes to the financial statements of the current year.
c. Disclosed in the notes to the financial statements and referred to in the auditor's report for the
current year.
d. Treated as a subsequent event.

Answer B
If the change is reasonably certain to have a material effect in later years, the change should be
disclosed in the notes to the financial statements of the current year.

11. In which of the following situations would the auditor appropriately issue a standard unqualified report
with no explanatory paragraph concerning consistency?

a. A change in the method of accounting for specific subsidiaries that comprise the group of
companies for which consolidated statements are presented.
b. A change from an accounting principle that is not generally accepted to one that is generally
accepted.
c. A change in the percentage used to calculate the provision for warranty expense.
d. Correction of a mistake in the application of a generally accepted accounting principle.

Answer: C

A change in the percentage used to calculate the provision for warranty expense would result to a
standard unqualified report with no explanatory paragraph concerning consistency.
12. When financial statements are presented that are not in conformity with generally accepted
accounting principles, an auditor may issue a(n)

Qualified Adverse
opinion opinion

a. Yes No
b. Yes Yes
c. No Yes
d. No No

Answer B

A qualified or an adverse opinion is issued when the financial statements are not presented in conformity
with generally accounting principles.

13. The tolerable rate of deviation for tests of controls necessary to justify a control risk assessment
depends primarily on which of the following?

a. The cause of errors.

b. The extent of reliance to be placed on the procedures.
c. The amount of any substantive errors.
d. The limit used in audits of similar clients.

Answer B

The tolerable rate of deviation for tests of controls necessary to justify a control risk assessment depends
primarily on the extent of reliance to be placed on the procedures.

14. Which of the following is an element of sampling risk?

a. Choosing an audit procedure that is inconsistent with the audit objective.

b. Choosing a sample size that is too small to achieve the sampling objective.
c. Failing to detect an error on a document that has been inspected by the auditor.
d. Failing to perform audit procedures that are required by the sampling plan.

Answer B

Choosing a sample size that is too small to achieve the sampling objective is an element of sampling risk

15. At times, a sample may indicate that the auditor's assessed level of control risk for a given control is
reasonable when, in fact, the true compliance rate does not justify the assessed level. This situation
illustrates the risk of

a. Assessing control risk too low.

b. Assessing control risk too high.
c. Incorrect precision.
d. Incorrect rejection.

Answer A

Assessing control risk too low indicates that the auditor's assessed level of control risk reasonable when
in fact not.
Difficult

1. According to the ethical standards of the profession, which of the following acts is generally
prohibited?

a. Purchasing a product from a third party and reselling it to a client.

b. Writing a financial management newsletter promoted and sold by a publishing company.
c. Accepting a commission for recommending a product to an audit client.
d. Accepting engagements obtained through the efforts of third parties.

Answer: C
The requirement is to determine which act is generally prohibited. Answer (c) is correct because
“a member in public practice shall not for a commission recommend or refer to a client any
product or service, or for a commission recommend or refer any product or service to be supplied
by a client, or receive a commission when the member or the member’s firm perform for that
client: (1) an audit of a financial statement; or (2) a compilation of a financial statement when the
member expects that a third party will use the financial statement and the member’s

2. On June 1, 20X8, a CPA obtained a $100,000 personal loan from a financial institution client for
whom the CPA provided compilation services. The loan was fully secured and considered
material to the CPA’s net worth. The CPA paid the loan in full on December 31, 20X9. On April 3,
20X9, the client asked the CPA to audit the client’s financial statements for the year ended
December 31, 20X9. Is the CPA considered independent with respect to the audit of the client’s
December 31, 20X9 financial statements?

a. Yes, because the loan was fully secured.

b. Yes, because the CPA was not required to be independent at the time the loan was
granted.
c. No, because the CPA had a loan with the client during the period of a professional
engagement.
d. No, because the CPA had a loan with the client during the period covered by the financial
statements.

Answer: B
Independence was not required at the time the loan was obtained, and because it is fully secured
it is grandfathered by 101-5. Answer (a) is incorrect because if the CPA is required to be
independent, a mortgage loan would not be permitted even if it was fully secured. Answer (c) is
incorrect because the CPA was not required to be independent of the client. Answer (d) is
incorrect because the CPA was not required to be independent of the client.

3. Which of the following is not true about international auditing standards?

a. International auditing standards do not require an audit of internal control.

b. International auditing standards do not allow reference to division of responsibilities in the
audit report.
c. International auditing standards require obtaining an attorney’s letter.
d. International auditing standards are based on a risk assessment approach.

Answer: C
The requirement is to identify the item that is not true about international auditing standards.
Answer (c) is correct because international auditing standards require obtaining an attorney’s
 letter only if the auditors assess a risk of material misstatement. Answers (a), (b) and (d) are
incorrect because they are all true about international auditing standards.

4. Which of the following is most likely to be a response to the auditor’s assessment that the risk of
material misstatement due to fraud for the existence of inventory is high?

a. Observe test counts of inventory at certain locations on an unannounced basis.

b. Perform analytical procedures rather than taking test counts.
c. Request that inventories be counted prior to year-end.
d. Request that inventory counts at the various locations be counted on different dates so as
to allow the same auditor to be present at every count.

Answer: A
The requirement is to identify the most likely response to the auditor’s assessment that the risk of
material misstatement due to fraud for the existence of inventory is high. Answer (a) is correct
because observing test counts of inventory on an unannounced basis will provide evidence as to
whether record inventory exists. Answer (b) is incorrect because replacing test counts with
analytical procedures is not likely to be particularly effective. Answers (c) and (d) are incorrect
because the inventories might well be counted at year-end, all on the same date, rather than prior
to year-end and at differing dates.

5. Which of the following statements best describes the auditor’s responsibility to detect conditions
relating to financial stress of employees or adverse relationships between a company and its
employees?

a. The auditor is required to plan the audit to detect these conditions on all audits.
b. These conditions relate to fraudulent financial reporting, and an auditor is required to plan
the audit to detect these conditions when the client is exposed to a risk of
misappropriation of assets.
c. The auditor is required to plan the audit to detect these conditions whenever they may
result in misstatements.
d. The auditor is not required to plan the audit to discover these conditions, but should
consider them if he or she becomes aware of them during the audit.

Answer: D
The requirement is to identify an auditor’s responsibility for detecting financial stress of
employees or adverse relationships between a company and its employees. Answer (d) is correct
because AU-C 240 states that, while the auditor is not required to plan the audit to discover
information that is indicative of financial stress of employees or adverse relationships between
the company and its employees, such conditions must be considered when an auditor becomes
aware of them. Answers (a), (b), and (c) are all incorrect because the auditor does not plan the
audit to detect these conditions.

6. Chapel Company provided the following information in relation to the audit of its financial
statements:

2017 2016
Cash and cash equivalents 5,300,000 1,200,000
Accounts receivable 5,000,000 2,500,000
Inventory 2,000,000 1,500,000
Prepaid expenses 1,100,000 1,600,000
Investment in associate – 40% 22,000,000 19,000,000
Property, plant and equipment 17,000,000 22,500,000
 Accumulated depreciation 5,000,000 6,000,000
Accounts payable 5,000,000 12,500,000
Income tax payable 2,000,000 1,000,000
Deferred tax liability 3,000,000 2,000,000
Share capital 13,000.000 6,500,000
Retained earnings 24,500,000 20,000,000
 The net income for 2017 was P16,500,000.
 Equipment with carrying amount of P7,500,000 and original cost of 10,500,000 was sold for
P7,000,000 during 2017. New equipment was purchased for cash in 2017.
 The entity issued share capital and declared and paid cash dividends of P12,000,000 to
shareholders on December 31, 2017.
 The sales amounted to P30,000,000 and the cost of goods sold was P10,000,000 for the current
year.
 The associate reported net income of P10,000,000 and paid cash dividend of P2,500,000 during
2017.

What is the net cash provided by operating activities?

a. 11,000,000
b. 12,000,000
c. 9,000,000
d. 8,000,000

Answer: D

Net income 16,500,000

Loss on disposal 500,000
Share in net income (4,000,000)
Dividend received 1,000,000
Accounts receivable (2,500,000)
Inventory (500,000)
Prepaid expenses 500,000
Depreciation 2,000,000
Accounts payable (7,500,000)
Income tax payable 1,000,000
Deferred tax liability 1,000,000
Net cash provided by operating activities 8,000,000

7. Red Company reported net income of P7,410,000 for the current year. The auditor raised
questions about the following amounts that had been included in the net income:

Equity in earnings of Chester Company – 40% interest P1,700,000

Dividend received from Chester Company 300,000
Unrealized loss on available for sale investments (540,000)
Gain on early retirement of bonds payable 2,100,000
Adjustment of profit of prior year for error in depreciation, net of tax effect (750,000)
Loss from fire (1,500,000)
Gain from change in fair value attributable to credit risk of financial liability 500,000
at FVPL
What should be reported as adjusted net income?

a. 8,200,000
b. 9,500,000
 c. 7,900,000
d. 8,400,000

Answer: C

Unadjusted net income 7,410,000

Dividend received from Chester Company (300,000)
Unrealized loss on available for sale investments 540,000
Adjustment of profit of prior year for error in depreciation, net of tax effect 750,000
Gain from change in fair value attributable to credit risk of financial liability 500,000
at FVPL
Adjusted net income 7900,000

8. Blue, Inc. was organized on January 1, 2017. On December 31, 2018, the company lost most of
its inventory in a warehouse fire just before the yearend count of inventory was to take place. The
company’s records disclosed the following data:

2017 2018
Inventory, January 1 P 0 P204,000
Purchases 860,000 692,000
Purchase returns and allowances 46,120 64,600
Sales 788,000 836,000
Sales returns and allowances 16,000 20,000
On January 1, 2018, Blue’s pricing policy was changed so that the gross profit rate would be
three percentage points higher than the one earned in 2017. Salvaged undamaged merchandise
was marked to sell at P24,000 while damaged merchandise marked to sell at P16,000 had an
estimated realizable value of P3,600. How much is the inventory fire loss?

a. P189,000
b. P183,640
c. P164,920
d. P254,000

Answer: A

Inventory, January 1. 2018 P204,000

Add: Net Purchases (P692,000-64,600) 627,400
Goods available for sale 831,400
Less: Cost of goods sold:
Net Sales (836,000-20,000) P816,000
Cost ratio (100%-24%*) X76% 620,160
Estimated ending inventory 211,240
Less: Salvaged undamaged merchandise (P24,000x76%) P18,240
Net realizable value of damaged merchandise 3,600 21,840
Inventory fire loss P189,400
*The gross profit rate used for 2018 is computed by adding 3% to 21% gross profit rate for 2017
which is computed as follows:

Net Sales (P788,000-16,000) P772,000

Cost of goods sold:
Net purchases (P860,000-46,120) P813,880
Less: Inventory, December 31, 2017 204,000 609,880
 Gross Profit, 2017 P162,120
Gross Profit rate, 2017 (P162,120/772,000) 21%

9. Ashley, Co. is authorized to issue 300,000 of P2 par value ordinary shares. The company has the
following transactions:

 Issued 60,000 shares at P30 per share; received cash.

 Issued 750 shares; selling at P35 per share, to lawyers for services in connection
with the organization of the corporation. The value of legal services was P27,000.
 Issued 900 shares, valued objectively at P30,000, to the employees instead of paying
them cash wages.
Issued 37,500 shares in exchange for a building valued at P885,000 and land valued
at P240,000. (The building was originally acquired by the investor for P750,000 and
has P300,000 of accumulated depreciation; the land was originally acquired for
P90,000)
 Received cash for 19,500 shares issued at P38 per share.
 Issued 12,000 shares at P45 per share; received cash.

The statement of financial position will report share premium of:

a. P4,000,950
b. P3,973,500
c. P4,001,700
d. P3,326,700

Answer: C

 P28 x 60,000 P1,680,000

 P27 – (2 x 750) 25,500
 P30,000 – (P2 x 900) 28200
 P885,000 + P240,000 = P1,125,000 – (P2 x 37,500) 1,050,000
 P36 x 19,500 702,000
 P43 x 12,000 516,000
Total share premium P4,001,700

10. Kim Company and its subsidiaries provided the following properties owned by the group.

Land held for undetermined future use P2,000,000

Vacant building to be leased out under an 3,000,000
operating lease
Property held for use in production 5,000,000
Property held by a subsidiary, a real estate 4,000,000
firm, in the ordinary course of business
Building owned by subsidiary and for which the 3,500,000
subsidiary provides security and maintenance
services to the lessees
Land leased to a subsidiary under an operating 2,500,000
lease
Equipment leased to an unrelated party under 1,000,000
an operating lease
Building under construction for use as 3,500,000
investment property
 In the consolidated statement of financial position of the parent and its subsidiaries, what total
amount should be reported as investment property?
a. 12,000,000
b. 10,000,000
c. 8,500,000
d. 6,500,000

Answer: A

Land held for undetermined future use P2,000,000

Vacant building to be leased out under an operating lease 3,000,000
Building owned by subsidiary and for which the subsidiary provides
security and maintenance services to the lessees 3,500,000
Building under construction for use as investment property 3,500,000
TOTAL P12,000,000

11. Jewel Corp. expended P510,000 in research and development costs. These activities resulted to
a new perfume called Touch. It was patented at additional legal and other costs of P54,000. The
patent application was filed on October 1, 2017, and the patent was estimated to have a useful
life of 10 years.

On June 1, 2019, Jewel spent P28,440 to successfully prosecute a patent infringement. In

addition, the patent’s estimated useful life was extended to 12 years from June 1, 2019. At the
beginning of 2021, Jewel determined that a competitor’s product would make the Secret Love
Song obsolete and the patent worthless by December 31, 2022. What is the amortization
expense for 2021?

a. P31,875
b. P19,531
c. P39,062
d. P3,750

Answer: B

Cost of Patent P54,000

Less: Amortization expense
2017 (P54,000/10 x 3/12) P1,350
2018 (P54,000/10) 5400
2019 Jan 1 – Jun 1 (P54,000/10 x 5/12) 2,250
Jun 1 – Dec 31 (P45,000/12 x 7/12) 2,188 4,438
2020 (P45, 000/12) 3,750 14,938
Unamortized cost, Jan 1, 2021 P39,062
Revised remaining life / 2yrs
Revised annual depreciation P19,531

12. BLUE, Inc. estimates its bad debts losses by aging its accounts receivable. The aging schedule
of accounts receivable at December 31, 2017, is presented below:

Age of Accounts Amount

0 – 30 days P 843,200
 31 – 60 days 461,000
61 – 90 days 192,400
91 – 120 days 76,650
Over 120 days 39,400
P1,612,650
BLUE’s uncollectible accounts experience for the past 5 years are summarized in the following
table.

Year AR Balance, 0 – 30 31 – 60 61 – 90 91 – 120 Over 120

Dec 31 days days days days days
2016 P1,312,500 0.3% 1.8% 12% 38% 65%
2015 999,999 0.5% 1.6% 11% 41% 70%
2014 465,000 0.2% 1.5% 9% 50% 69%
2013 816,000 0.4% 1.7% 10.2% 47% 81%
2012 1,243,667 0.9% 2.0% 9.7% 33% 95%
The balance of the allowance for bad debts account at December 31, 2017, (before adjustment)
is P84,500. The net realizable of the company’s account receivable on December 31, 2017
should be:
a. P1,518,887
b. P1,612,650
c. P1,528,150
d. P1,603,358

Answer: A

The average bad debts expense for each category is computed first, as follows:

Year 0 – 30 31 – 60 61 – 90 91 – 120 Over 120

days days days days days
2016 0.3% 1.8% 12% 38% 65%
2015 0.5% 1.6% 11% 41% 70%
2014 0.2% 1.5% 9% 50% 69%
2013 0.4% 1.7% 10.2% 47% 81%
2012 0.9% 2.0% 9.7% 33% 95%
Total 2.30% 8.60% 51.90% 209% 380%
Averag 0.46% 1.72% 10.38% 41.80% 76.00%
e

Then, the computation of required allowance for bad debts:

Age of Accounts AR Balance, Rate Estimated

12/31/17 Uncollectible
0 – 30 days P 843,200 0.46% P3,878.72
31 – 60 days 461,000 1.72% 7,929.20
61 – 90 days 192,400 10.38% 19,971.12
91 – 120 days 76,650 41.80% 32,039.70
Over 120 days 39,400 76% 29,944.00
P1,612,650 P93,762.74

Accounts receivable P1,612,650

Less: Required allowance balance per aging 93,763
Net realizable value, December 31, 2017 P1,518,887
13. You were able to obtain the following from the accountant for Isabella Corp. related to the
company’s liabilities as of December 31, 2017.

Accounts payable P 650,000

Notes payable – trade 190,000
Notes payable – bank 800,000
Wages and salaries payable 15,000
Interest payable ?
Mortgage notes payable – 10% 600,000
Mortgage notes payable – 12% 1,500,000
Bonds payable 2,000,000
The following additional information pertains to these liabilities.

o All trade notes payable are due within six months of the balance sheet date.
o Bank notes-payable include two separate notes payable to Allied Bank.
 A P300,000, 8% note issued March 1, 2015, payable on demand. Interest is
payable every six months.
 A 1-year, P500,000, 11 ½% note issued January 2, 2017. On December 30,
2017, Isabella negotiated a written agreement with Allied Bank to replace the
note with a 2-year, P500,000, 10% note to be issued January 2, 2018. The
interest was paid on December 31, 2017.
o The 10% mortgage note was issued October 1, 2014, with a term of 10 years. Terms of
the note give the holder the right to demand immediate payment if the company fails to
make a monthly interest payment within 10 days of the date the payment is due. As of
December 31, 2017, Isabella is three months behind in paying its required interest
payment.
o The 12% mortgage note was issued May 1, 2011, with a term of 20 years. The current
principal amount due is P1,500,000. Principal and interest payable annually on April 30. A
payment of P220,000 is due April 30, 2018. The payment includes interest of P180,000.
o The bonds payable is 10-year, 8% bonds, issued June 30, 2008. Interest is payable semi-
annually every June 30 and December 31.

Based on the above and the result of your audit, Interest payable as of December 31, 2017 is

a. P155,000
b. P143,000
c. P203,000
d. P215,000

Answer: B

P300,000 note payable to bank (P300,000 x 8% x 4/12) P8,000

Mortgage note payable – 10% (P600,000 x 10% x 3/12) 15,000
Mortgage note payable – 12% (P1,500,000 x 12% x 8/12) 120,000
Total interest payable, 12/31/17 P143,000
14. When an auditor is unable to inspect and count a client’s investment securities until after the
balance sheet date, the bank where the securities are held in a safe-deposit box should be asked
to
a. Verify any differences between the contents of the box and the balances in the client’s
subsidiary ledger.
b. Provide a list of securities added and removed from the box between the balance sheet
date and the security-count date.
 c. Confirm that there has been no access to the box between the balance sheet date and
the security-count date.
d. Count the securities in the box so the auditor will have an independent direct verification.

Answer: C

Banks maintain the access to safe-deposit boxes. Thus, the confirmation of no access during the
period will provide the auditor with evidence that the securities in the safe-deposit box at the time
of count were those available at year-end.

15. A group engagement partner decides not to refer to the audit of another CPA who audited a
component of the overall group financial statements. After making inquiries about the other CPA’s
professional reputation and independence, the principal auditor most likely would

a. Add an emphasis-of-matter paragraph to the auditor’s report indicating that the

subsidiary’s financial statements are not material to the consolidated financial statements.
b. Document in the engagement letter that the principal auditor assumes no responsibility
for the other CPA’s work and opinion.
c. Obtain written permission from the other CPA to omit the reference in the principal
auditor’s report.
d. Perform additional audit procedures based on the significance of the subsidiary.

Answer: D
When a decision is made not to make reference to the component auditor—that is, to take
responsibility for that auditor’s work—the group auditor should perform additional procedures
dependent upon the significance of the component.