Chapter 9. Auditing the Revenue Cycle

Chapter 9. Auditing the Revenue Cycle/ Chapter 9: Auditing the Revenue Cycle 1. The revenue cycle considered by auditors includes the sales process but not collections. True False 2. The revenue cycle involves the procedures in generating a sales order, shipping the products, recording the transaction and collecting the receivable. True False 3. The shipping department confirms the shipment of goods by completing the packing slip and returning it to the purchasing department. True False 4. Monthly statements provide a detailed list of the customer’s activity for the previous month and a statement of all open items. True False 5. Invoices are processed, including their mailing to customers, only subsequent to proof of valid delivery to customers. True False 6. The use of prenumbered sales invoices is the primary control procedure to satisfy the objective of authorization. True False 7. A comprehensive chart of accounts and a review of complex or unusual transactions by supervisory personnel are control procedures necessary for proper classification of accounts. True False 8. Formal procedures for approving acceptance of returns that are beyond the warranty period are an appropriate control procedure for identifying and recording returned goods. True False 9. One of the benefits of establishing a formal credit policy for granting credit is that management is freed from the burden of monitoring accounts receivable. True False 10. Monitoring of the revenue cycle may be accomplished partially through the use of exception reporting. True False 11. An appropriate mix of evidence for a low risk client could include 20% tests of details, 40% analytics, and 40% tests of controls; an appropriate mix of evidence for a high risk client could include 60% tests of details, 20% analytics, and 20% tests of controls. True False 12. The audit team is required by auditing standards to make an ordinary presumption of the risk of fraud due to revenue misstatements on every engagement. True False 13. A company that ships a large quantity of its products from its manufacturing plant to a warehouse that it leases until the customer is ready for the product should record the delivery as revenue. True False 14. The intentional loading of sales at the end of a period to customers that do not need the goods at that time should not be recorded as revenues. True False 15. All companies attempting to comply with GAAP should refer to the Securities and Exchange Commission for guidance as it supersedes all AICPA, PCAOB, FASB and EITF literature. 16. A certain tendency for fraud exists when stock options are close to becoming exercised by executives and financial personnel. True False 17. A red flag that may alert the auditor to fraud in the revenue cycle is a trend of revenue growth that is consistent with industry results. True False 18. Financial accounting personnel who do not have the proper education, experience and backgrounds may signal the auditor to the risk of financial statement fraud. True False 19. The auditor of James Corporation should be alert to the risk of material misstatements when James Corporation's cash flows from operations are negative and net income (rather than loss) is reported. True False 20. Ratio analysis performed by the audit team may include the comparison of gross sales to industry averages and previous periods. True False 21. The auditor's determination that day's sales in accounts receivable increased from 44 days to 100 days would usually be found through the use of ratio analysis. True False 22. Edge and Gregg, LLP would most likely discover channel stuffing in the financial statements of a client through the use of trend analysis. True False 23. Use of reasonableness tests by Bono Mullins, PC will include relationships between financial but not non- financial data. 24. The auditor has determined that the control risk for the existence assertion is low; therefore the auditor may reduce the number of items tested on a substantive basis. True False 25. Confirmations of bank accounts may help the auditor to determine if material amounts of accounts receivable have been pledged or discounted. True False 26. When the auditor seeks evidence concerning the allowance for doubtful accounts he or she would most likely use an aged trial balance to help identify past due balances. True False 27. Current auditing standards do not require the confirmation of receivables if accounts receivable are not material. True False 28. Accounts receivable confirmation letters should be prepared on the auditing firm's letterhead. True False 29. Alternative procedures to the confirmation of receivables include review of subsequent collections and examination of supporting evidence. True False 30. Lapping of accounts receivable is least likely to occur when there is an inadequate segregation of duties. True False 31. Positive accounts receivable confirmations should be used on all accounts which represent small immaterial balances. True False 32. When the client has a large number of relatively small accounts receivable and the assessed level of control risk for receivables and related revenue transactions is high, the auditor is more likely to use negative confirmations. True False 33. The auditor would examine a sample of sales transactions throughout the entire period to determine if sales were recorded in the proper period when performing a sales cutoff test. True False 34. An example of a control over the sales cycle is the authorization of price lists by the appropriate sales and marketing manager. True False 35. An auditor would test control over the objective of the occurrence of sales transactions by sampling recorded revenues and tracing them back to invoices and shipping documents. True False 36. If control risk is assessed high, the auditor may send significantly fewer confirmations for a sample of accounts receivable than if the control risk is assessed low. True False 37. In planning an audit for the revenue cycle, the auditor must realize the integrated relationship of evidence found between the accounts receivable and the notes payable accounts. True False 38. A method of testing for the completeness of sales is to test the sequence of sales invoices used during the period under audit. True False 39. A review of the terms of client debt agreements assists the audit of the presentation and disclosure assertion for accounts receivable. True False 40. The use of audit software makes the audit of the revenue cycle more effective, but not more efficient. True False 41. Testing cutoff involves procedures applied to sales transactions selected from those recorded immediately prior to period end and immediately following period end. True False 42. Valid evidence obtained in an audit for testing the cutoff of gross sales includes receiving reports for returned merchandise. True False 43. An example of a test for completeness in the revenue cycle includes the sampling of shipping documents and tracing them to the sales journal and general ledger. True False 44. Negative confirmations are used as an appropriate test with statistical sampling techniques. True False 45. Exceptions found in the confirmations of accounts receivable balances need not be projected as errors to the population as they are typically isolated errors. True False 46. A timing difference type of exception in the confirmation process may include a misunderstanding by the reader as to the date being confirmed. True False 47. Negative confirmations are considered to be more persuasive than positive confirmations. True False 48. The purpose of summarizing confirmation results is to list the extent of sales tested in relation to the response rate. True False 49. An auditor's primary concern with identifying related party sales and receivables rests with the presentation and disclosure assertion. True False 50. Customer complaints noted in returned accounts receivable confirmations may be an indicator of fraud. True False 51. The audit team typically reviews journal entries in the receivables ledger for unusual entries that may be indicators of fraudulent activity. True False 52. Estimation of the allowance for doubtful accounts is a simple management decision as it is determined as a percentage of sales. True False 53. The auditor will come up with an independent estimation of the allowance for doubtful accounts based on a thorough understanding of the client and the client's business that is compared to the recorded allowance. True False 54. It is beneficial in the testing of notes receivable to confirm not only the balance of the notes, but also their terms. True False 55. The most important control to ensure completeness of sales and shipping is pre-numbered shipping and billing documents. True False 56. An aging of accounts receivable is useful in estimating the reasonableness of the allowance for doubtful accounts. True False 57. Which of the following processes are included in the revenue cycle? A. Shipping products to customers. B. Sending disbursements to suppliers. C. Issuance of capital stock. D. Preparation of a time card. 58. Which of the following is the best example of the control objective in the revenue cycle that all transactions are recorded accurately? A. Sales are recorded at the invoice price expected to be collected from customers. B. Sales orders have sequential numbering. C. Recorded sales transactions are evidenced by valid invoices and shipping documents. D. Credits to customer accounts are classified as liabilities. 59. The relationship between the sales cycle and an inventory system can best be noted in which of the following examples? A. Credit is established prior to completion of a sales order. B. Invoices are sent to customers only after shipment is evidenced. C. Availability of products ordered are verified prior to processing a sale. D. Billing information is added to the database for new customers. 60. Credit approval policies are implemented by organizations primarily to accomplish which of the following objectives? A. To determine revenue recognition policies. B. To ensure customer satisfaction. C. To prevent lapping by the accounts receivable department. D. To ensure the realization of receivables. 61. Sales transactions should be documented at initiation in order to accomplish which of the following objectives? A. To provide the customer a copy of the transaction. B. To provide evidence of authorization and recording. C. To offer credit to customers. D. To generate back orders. 62. The significance of the bill of lading is to provide which of the following? A. The warehouse personnel with the product that must be shipped to customers. B. Invoices to customers for proper collection. C. A credit application for customer approval. D. Evidence of title transfer of goods to customers. 63. The risk of material misstatement due to fraud relating to revenue recognition should be A. approached in a manner that is identical to control risk assessment. B. given lower priority to the risk of embezzlement. C. ordinarily presumed by the auditor. D. assumed to have been considered by the FASB. 64. A method used by companies to fraudulently inflate revenues includes which of the following? A. Use of hidden “side letters” giving the customer an irrevocable right to return the product. B. Recording of fictitious sales. C. Shipment of product not ordered by customers. D. All of the above. 65. Which of the following evidences delivery of product to customers sufficient for company recording as revenues? A. A check received from the customer. B. An agreement to purchase product signed by the customer. C. A pick ticket in the warehouse. D. A bill of lading and tracking number with the shipper. 66. Which of the following must exist prior to the recognition of revenue by a company from the sale of a product? A. The cash is realized on the sale of the product. B. A price is discussed based upon the customer's resale of the product. C. The customer is given the option to return the product at any time. D. The product is adequately delivered to the customer. 67. Fraud related to revenue recognition will most likely be identified by the auditor through which of the following independent situations? A. Sales have increased 5% in the current period over the previous period and is consistent with the results of competitors. B. Gross margin is equivalent in the current period to previous periods and is below that of the industry. C. Sales are higher in the month preceding each quarter end. D. The sales of a revolutionary new product are increasing beyond that of the competition in the periods immediately following its introduction. 68. Calculating the turnover of receivables is often used in testing the sales cycle by auditors when performing which of the following? A. Trend analysis. B. Ratio analysis. C. Reasonableness testing. D. Non-statistical sampling. 69. Hardman and Jennings, LLP, an audit firm, compares bad debt expense of a client in the current period to bad debt recorded for the past three periods. Hardman and Jennings is performing which type of analysis? A. Trend. B. Ratio. C. Critical. D. Reasonableness. 70. Lithgow and Harris, CPAs are performing the audit of WildFlower Grocery Stores. Lithgow and Harris relates annual revenue by sales per square feet and sales per customer. What type of analysis is Lithgow and Harris most likely performing? A. Ratio analysis. B. Critical analysis. C. Reasonableness tests. D. Non-statistical analysis. 71. In an audit of financial statements, the risk of the high rate of return of products sold includes relates to which of the following? A. Sales that are recorded improperly. B. An estimate of accrued returns that reduces net income. C. A reduction of net sales for an increase to the sales returns and allowance account. D. Consignment goods that are returned and forwarded to third parties. 72. The major risk associated with receivables is related to which of the following? A. They may be sold to a bank with recourse. B. They may be recorded as long-term when in fact they will be realized in the current period. C. They will not be realized for the entire amount due. D. They are pledged as collateral as disclosed in the footnotes to financial statements.