Auditing and Assurance Services, 16e (Arens/Elder/Beasley)

Chapter 19 Completing the Tests in the Acquisition and Payment Cycle:

Verification of Selected Accounts

19.1 Learning Objective 19-1

1) Which of the following accounts is not associated with the acquisition and payment cycle?
A) common stock
B) property, plant and equipment
C) accrued property taxes
D) income tax expense
2) Which of the following expenses is not typically evaluated as part of the audit of the
acquisition and payment cycle?
A) depreciation expense
B) insurance expense
C) estimated liability for warranties
D) property tax expense

19.2 Learning Objective 19-2

1) You are auditing the acquisition and payment cycle and note the presence of excessive
recurring losses on retired assets. You may conclude that
A) insured values are greater than book values.
B) there are a large number of fully depreciated assets.
C) depreciation charges may by insufficient.
D) the company has a policy of selling relatively new assets.
2) Which of the following would generally not be a component of the audit of the acquisition
and payment cycle?
A) adequacy of controls over acquisitions of long-lived assets
B) tracing disposals of long-lived assets to the fixed asset master file
C) determining the adequacy of the funds available for capital expenditures
D) reperformance of recorded depreciation expense
3) Normally it may be unnecessary to examine supporting documentation for each addition to
property, plant, and equipment, but it would be customary to verify
A) all large transactions.
B) all unusual transactions.
C) a representative sample of typical additions.
D) all of the above.

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4) The auditor must know the client's capitalization policies to determine whether acquisitions
are
A)
Treated consistently with
Recorded at historical cost those of the preceding year Necessary
Yes Yes Yes

B)
Treated consistently with
Recorded at historical cost those of the preceding year Necessary
Yes No No

C)
Treated consistently with
Recorded at historical cost those of the preceding year Necessary
No No No

D)
Treated consistently with
Recorded at historical cost those of the preceding year Necessary
No Yes No

5) Which is not one of the tests that would be used in the audit of equipment, depreciation
expense, and accumulated depreciation?
A) Verify the ending balance in the asset account.
B) Send confirmations to the sales personnel who sold the equipment to the company.
C) Perform substantive analytical procedures.
D) Verify current year acquisitions.

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6) The primary accounting record for manufacturing equipment and other fixed assets is the
A) depreciation ledger.
B) fixed asset master file.
C) asset inventory.
D) equipment roster.
7) Which of the following statements about the audit of fixed assets is the least correct?
A) The primary accounting record for manufacturing equipment and other property, plant and
equipment is generally a fixed asset master file.
B) Manufacturing equipment and current assets are normally audited in the same fashion
regardless of the activity within a particular account.
C) The emphasis on auditing fixed assets is on verification of current-period acquisitions.
D) Failure to record the acquisition of a fixed asset affects the income statement until the assets
are fully depreciated.
8) You are the in-charge auditor for a company who has been an audit client for several years.
Which of the following is not a category of tests commonly associated with the audit of
manufacturing equipment?
A) verification of depreciation expense
B) analytical procedures
C) verification of current-period disposals
D) verification of the beginning balance in the equipment account

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9) The audit procedure that requires an auditor to "foot the acquisition schedule" relates to which
balance-related audit objective?
A) classification
B) detail tie-in
C) existence
D) cut-off
10) You are auditing Manufacturing Company and testing the audit related objective of
completeness for the equipment accounts. Which of the following audit procedures is most likely
to achieve your objective?
A) Examine vendor invoices and receiving reports.
B) Physically examine assets.
C) Examine vendor invoices of closely related accounts such as repairs and maintenance.
D) Trace individual acquisitions to the fixed asset master file.
11) Which of the following audit procedures would be the most correct in determining the audit
objective of existence for the equipment account in the fixed asset master file?
A) Examine vendor invoices and receiving reports.
B) Review transactions near the balance sheet date.
C) Recalculate vendor invoices.
D) Examine vendor invoices for correct accounting treatment.

12) The source of debits in the equipment account is the

A) sales schedule.
B) cash disbursements journal.
C) cash receipts journal.
D) acquisitions schedule.

13) Failure to capitalize a fixed asset at the correct amount would impact which financial
statements?
A) the balance sheet only
B) the income statement only
C) the cash flow statement only
D) both the income statement and the balance sheet

14) Which of the following tests are typically not necessary when auditing a client's schedule of
recorded disposals?
A) footing the schedule
B) tracing the totals on the schedule to the recorded disposals in the general ledger
C) tracing cost and accumulated depreciation of the disposals to the property master file
D) All of the above are necessary.

15) Which of the following is a substantive analytical procedure to determine if there is idle
equipment or equipment that was disposed of but not written off?
A) Compare depreciation expense divided by gross equipment cost with previous years.
B) Compare gross manufacturing cost divided by some measure of production with previous
years.
C) Compare accumulated depreciation divided by gross equipment cost with previous years.
D) Compare annual repairs and maintenance accounts with previous years.
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16) A set of records for each piece of equipment that includes descriptive information, date of
acquisition, original cost, current year depreciation, and accumulated depreciation is the
A) acquisitions schedule.
B) depreciation schedule.
C) fixed asset master file.
D) file of purchase requisitions.
17) In testing acquisitions the auditor needs to understand the appropriate accounting guidance
related to acquisition accounting. Which of the following is not an accounting consideration for
the auditor as regards to acquisition cost?
A) inclusion of material transportation and installation costs
B) recording of trade-in costs
C) allocating costs when building and equipment are purchased at one price
D) verifying that purchased equipment amounts correspond to the budgeted amount

18) Methods used to determine if there are legal encumbrances related to fixed assets include all
but which of the following?
A) Read the terms of loan and credit agreements.
B) Send loan confirmation requests to banks and other lending institutions.
C) Have discussions with the client or send letters to legal counsel.
D) All of the above may be used to identify legal encumbrances.

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19) When performing the test of details of balances, the balance-related audit objective of
classifications is closely related to the objective of
A) accuracy.
B) detail tie-in.
C) existence.
D) completeness.

20) The test of details of balances procedure to "examine vendors' invoices of closely related
accounts such as repairs to uncover items that should be property, plant, and equipment" satisfies
the audit objective of
A) completeness.
B) detail tie-in.
C) cutoff.
D) existence.
21) The auditor's starting point for verifying disposals of property, plant, and equipment is the
A) equipment account in the general ledger.
B) file of shipping documents.
C) client's schedule of recorded disposals.
D) equipment subsidiary ledger.

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22) Improperly classifying a fixed asset by recording the amount in the repairs and maintenance
expense account will have an effect on which of the following financial statements until the asset
would normally have been depreciated?
A) the balance sheet
B) the income statement
C) the cash flow statement
D) both the income statement and the balance sheet

23) Because the failure to record disposals of property, plant, and equipment can significantly
affect the financial statements, the search for unrecorded disposals is essential. Which of the
following is not a procedure used to verify disposals?
A) Make inquiries of management and production personnel about the possibility of the disposal
of assets.
B) Review whether newly acquired assets replace existing assets.
C) Test the valuation of fixed assets recorded in prior periods.
D) Review plant modifications and changes in product line, property taxes, or insurance
coverage.

24) When the auditor is determining whether the client followed a consistent depreciation policy
from period to period, and the client's depreciation calculations are correct, the balance-related
audit objective of ________ is being determined for depreciation expense.
A) completeness
B) existence
C) classification
D) accuracy

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25) A major consideration in verifying the ending balance in fixed assets is the possibility of
existing legal encumbrances. Tests to identify possible legal encumbrances would satisfy the
audit objective of
A) existence.
B) presentation and disclosure.
C) detail tie-in.
D) classification.
26) When auditing depreciation expense, the two major concerns related to the accuracy audit
objective are
A) consistent application of depreciation method and useful lives.
B) consistent application of depreciation method and classification of assets.
C) correctness of calculations and consistent application of depreciation policies.
D) cost of the fixed asset and useful lives.
27) The auditor needs to gain reasonable assurance that the equipment accounts in the fixed asset
master file are not understated. Which of the following accounts would most likely be reviewed
in making that determination?
A) depreciation expense
B) repairs and maintenance expense
C) gains/losses on sales and retirements
D) cash

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28) Changing circumstances may require a change in the useful life of an asset. When this
occurs, it involves a change in
A) accounting estimate rather than a change in accounting principle.
B) accounting principle rather than a change in accounting estimate.
C) both accounting principle and accounting estimate.
D) neither accounting principle nor accounting estimate.
29) The auditor normally does not need to test the accuracy or classification of fixed assets
recorded in prior periods if they are the continuing auditor because
A) they are rarely material to the audit.
B) they rarely contain misstatements.
C) they are verified in previous audits.
D) they don't affect the balance sheet.

30) The auditor is examining the accounting entries made to the accumulated depreciation
account during the year and notices a significant amount of debits to the account. Which of the
following provides the most logical explanation?
A) large number of asset retirements
B) salvage values were revised downward
C) useful lives were revised downward
D) allocation of fixed overhead were revised

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31) In determining the reasonableness of the client's amount for depreciation expense the auditor
is primarily concerned that the client has followed a consistent policy and the calculations are
correct. Which of the following audit objectives best addresses the above concerns?
A) existence
B) accuracy
C) valuation
D) allocation
32) Which of the following audit procedures would be least likely to lead the auditor to find an
unrecorded fixed asset disposal?
A) Examination of insurance policies
B) Review of repairs and maintenance expense
C) Review of property tax files
D) Scanning of invoices for fixed asset additions
33) The most common audit test to verify equipment additions is to
A) examine vendors' invoices.
B) perform an inventory of the fixed assets.
C) confirm the additions with the vendors.
D) trace the vendor invoices to the cash disbursements journal.

34) The auditor is testing for unrecorded retirements/disposals of equipment. Which of the
following audit procedures would the auditor most likely use?
A) Select items from the fixed asset master file and then physically locate them.
B) Examine the repairs and maintenance amount for large debits.
C) Compare current year's depreciation expense with the previous year's depreciation expense.
D) Trace acquisition documents to the fixed asset master file.

35) The failure to capitalize a permanent asset, or the recording of an asset acquisition at the
improper amount, affects the balance sheet
A) forever.
B) for the current period.
C) for the depreciable life of the asset.
D) until the firm disposes of the asset.

36) One of the primary objectives in examining the repairs and maintenance accounts is to obtain
evidence that
A) expenditures of equipment have not been charged to expense.
B) the actual amount recorded is the same as the budgeted amount.
C) expenditures for equipment have been recorded in the proper period.
D) revenue expenditures made on behalf of equipment have been recorded in the proper period.
37) The auditor's main objectives in the verification of the sale, trade-in, or abandonment of
equipment are to gather sufficient appropriate evidence that all disposals are ________ and at the
________.
A) verified; historical cost
B) recorded; correct amounts
C) accurate; proper gain or loss amount
D) classified properly; net realizable value

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38) Which of the following explanations might satisfy an auditor who discovers significant
debits to an accumulated depreciation account?
A) Extraordinary repairs have lengthened the life of an asset.
B) Prior years' depreciation charges were erroneously understated.
C) A reserve for possible loss on retirement has been recorded.
D) An asset has been recorded at its fair value.
39) Which of the following is not one of the reasons auditors verify equipment differently from
current asset accounts?
A) There are usually fewer current period acquisitions of equipment.
B) The amount of any given acquisition is often material.
C) The equipment is likely to be kept and maintained in the accounting records for several years.
D) Current assets are subject to liens and encumbrances while equipment is not.
40) The primary accounting record for property, plant, and equipment accounts is the fixed asset
master file. What is included for each fixed asset in the master file?
41) The auditor receives the client's schedule of recorded disposals and then performs detail tie-
in tests of the recorded disposals schedule. What procedures does the auditor perform on the
client's schedule of recorded disposals?

42) In auditing depreciation expense, one of the auditor's concerns is determining that the client's
calculations are correct. In making this determination, the auditor must weigh four
considerations. List these four considerations.

43) In testing acquisitions, the auditor must understand the relevant accounting standards to
insure the client adheres to accepted accounting practices for property, plant, and equipment.
Describe three of the auditor's concerns in this area.

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44) Property, plant, and equipment is normally audited in a different manner than current asset
accounts. State three reasons why this is so, and discuss the differences in how property, plant,
and equipment is audited compared to current assets.
45) State four of the seven specific balance-related audit objectives for property, plant, and
equipment additions and, for each objective, describe one common test of details of balances.

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46) When auditing disposals of property, plant, and equipment, the search for unrecorded
disposals is essential. State the four audit procedures frequently used for verifying disposals.
47) Discuss the key internal controls related to the disposal of property, plant, and equipment.
48) One of the auditor's primary objectives when auditing manufacturing equipment is
completeness.
49) Completeness and existence are the auditor's primary objectives in auditing manufacturing
equipment.

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50) The primary characteristic that distinguishes property, plant, and equipment from inventory,
prepaid expenses, and investments is the intention to use property, plant, and equipment as a part
of the operations of the client's business over their expected life.
51) The emphasis in auditing manufacturing equipment is on the verification of current-period
disposals and acquisitions.
52) The starting point for the verification of current-year acquisitions of property, plant, and
equipment is normally a client-prepared schedule of all acquisitions recorded in the general
ledger during the year.

53) Depreciation amounts are determined by exchange transactions with outside parties.
54) Depreciation expense is normally verified as a part of tests of details of balances rather than
as part of tests of controls or substantive tests of transactions.

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55) The most important audit objective for depreciation expense is detail tie-in.

56) One of the reasons that auditors verify equipment differently from current assets is the
amount of any given equipment acquisition is often material.
57) The transportation and installation costs for a piece of equipment should be charged to an
expense account.

58) The auditor's tests for proper cutoff of current year acquisitions of property, plant, and
equipment are usually done as part of accounts payable cutoff tests.
59) The company's choices for determining the fixed asset's useful life and residual value impact
the amount of depreciation recorded.
60) The audit procedure "foot the schedule of fixed assets acquisitions and trace the total to the
general ledger" relates most closely to the completeness objective for fixed assets acquisitions.
61) Confirmations are commonly used to verify additions of property, plant, and equipment.

62) One very useful method of auditing depreciation is to use an analytical procedure to test for
reasonableness.
63) The approach to auditing patents and copyrights is similar to that used for property, plant,
and equipment accounts.
64) Recording an acquisition of a fixed asset at an improper amount affects the balance sheet
until the company disposes of the asset, but the income statement is not affected.
65) Ordinarily, if you are auditing a continuing client, it is unnecessary to test the accuracy
objective or the classification objective for fixed assets acquired in prior years.
66) When auditing acquisitions of property, plant, and equipment, the auditor's review of lease
and rental agreements most closely relate to the cutoff objective.
67) Performance materiality is important for verifying current year additions because these
transactions have consistent dollar amounts from year to year.
19.3 Learning Objective 19-3

1) Which of the following accounts would normally not be a part of the acquisition and payment
cycle of prepaid insurance?
A) cash
B) insurance payable
C) insurance expense
D) prepaid insurance
2) Which type of audit procedure would normally be sufficient for purposes of auditing prepaid
expenses and deferred charges?
A) tests of controls
B) tests of transactions
C) tests of details of balances
D) substantive analytical procedures

3) When an auditor recomputes the unexpired portion of prepaid insurance, they are satisfying
which audit objective?
A) completeness
B) existence
C) accuracy and detail tie-in
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D) rights

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4) A record of insurance policies in force and the due date of each policy is contained in the
A) voucher register.
B) insurance register.
C) insurance expense account.
D) prepaid insurance account.

5) Insurance expense for the period is a function of which of the following?

A) the beginning prepaid balance, current premium payments and the ending prepaid balance
B) the beginning prepaid balance and the current period premium payments
C) the current period premium payments
D) the current period premium payments and the ending prepaid balance
6) In connection with a review of the prepaid insurance account, which of the following audit
procedures would you be least likely to use?
A) Recompute the portion of the premium that expired during the year.
B) Prepare excerpts of insurance policies for audit working papers.
C) Confirm premium rates with an independent insurance broker.
D) Examine support for premium payments.
7) Controls over the acquisition and recording of insurance are a part of which of the following
transaction cycles?
A) inventory and warehousing cycle
B) capitalization cycle
C) treasury cycle
D) acquisition and payment cycle

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8) Which balance-related audit objective is not relevant to an audit of prepaid expenses?
A) rights
B) accuracy
C) detail tie-in
D) realizable value

9) When auditing prepaid insurance,

A) for many audits, significant substantive procedures are needed if the control risk is low.
B) companies often have a standard monthly journal entry to reclassify prepaid insurance as
insurance expense.
C) the emphasis in the tests of details of balances is on insurance expense.
D) the auditor must prepare the insurance register.
10) Describe the two tests auditors can perform to test for the existence and completeness of
insurance policies in force.

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11) What are several substantive analytical procedures used in the audit of prepaid insurance and
insurance expense?

12) Describe the audit procedures used to verify the accuracy and detail tie-in objectives for
prepaid insurance.
13) Discuss the key internal controls for prepaid insurance that affect the auditor's extent of
testing of the prepaid insurance account.

14) The realizable value audit objective is not applicable when auditing prepaid insurance or
insurance expense.

15) Problems commonly encountered in the audit of prepaid insurance are not typical of the
problems found in other prepaid assets.

16) Cutoff for acquisitions of insurance is normally not a significant problem for the auditors.

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17) When auditing insurance expense, auditors normally rely on analytical procedures and
limited testing of the debits to ensure that they arose from credits to prepaid insurance.
18) The auditor should keep in mind that the amount in insurance expense is a residual amount.

19.4 Learning Objective 19-4

1) When auditing accrued property taxes,

A) the source for the debits to the liability account is the acquisitions journal.
B) realizable value is an important balance-related audit objective.
C) the ending balance in the account should be confirmed with the applicable taxing authority.
D) the most important consideration for the auditor is that the same portion of each tax payment
for the accrual that was used in the preceding year is used in the current year.
2) The estimated unpaid obligations for services or benefits that have been received before the
balance sheet date are
A) accounts payable.
B) accounts receivable.
C) unearned liabilities.
D) accrued liabilities.

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3) When auditors verify accrued property taxes, two audit objectives are especially significant.
These are
A) completeness and accuracy.
B) completeness and net realizable value.
C) detail tie-in and completeness.
D) accuracy and classification.
4) When auditing accrued property taxes,
A) the auditors will generally only verify the larger payments since there are usually many
property tax payments.
B) property taxes should only be charged to one expense account.
C) the auditor begins by obtaining a schedule of property tax payments from the client.
D) the auditor must generally spend a considerable amount of time in this area.

19.5 Learning Objective 19-5

1) Which of the following audit tests both have the effect of simultaneously verifying balance
sheet and income statement accounts?
A) analytical procedures and substantive tests of transactions
B) tests of controls and substantive tests of transactions
C) tests of details of balances and substantive tests of transactions
D) tests of controls and analytical procedures
2) The most effective and efficient audit approach in the examination of the income statement
would be which of the following?
A) Examine income statement accounts concurrently with the related balance sheet accounts.
B) Compare company's components of net income to other businesses in the same industry.
C) Compare company's components of net income to the previous two years.
D) Examine changes in all balance sheet accounts.

3) The auditor needs to be aware that most users of financial statements rely most heavily on the
________ for making decisions.
A) balance sheet
B) income statement
C) statement of cash flows
D) statement of stockholders' equity

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4) ________ expense is rarely analyzed unless analytical procedures indicate high potential for
material misstatement.
A) Repairs and maintenance
B) Legal
C) Utilities
D) Rent and lease
5) Explain the audit objective allocation and why it is important to have accurate allocation
within the financial statements, particularly for property, plant, and equipment.

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