Chapter 14: Audit of the Sales and Collection Cycle: Test of Controls and Substantive Tests of Transactions

Question 1

Which of the following is an account that is notaffected by the sales and collection cycle?

A) cash

B) accounts receivable

C) allowance for doubtful accounts

D) accounts payable

Answer 1

D) accounts payable

Question 2

The auditor’s objectives for the sales and cash collections activities when the client is primarily an e-commerce business as compared to a “brick and mortar” business are

A) unchanged.

B) expanded.

C) mitigated.

D) decreased.

Answer 2

A) unchanged.

Question 3

The overall objective in the audit of the sales and collection cycle is to evaluate whether the account balances affected by the cycle are fairly presented in accordance with accounting standards.

TRUE OR FALSE

Answer 3

TRUE

Question 4

The sales and collection cycle applies to businesses that sell goods to customers or provide services to customers.

TRUE OR FALSE

Answer 4

TRUE

Question 5

Which of the following is notone of the five classes of transactions included in the sales and collection cycle?

A) sales returns and allowances

B) write-off of uncollectible accounts

C) bad debt expense

D) interest income

Answer 5

D) interest income

Question 6

What event initiates a transaction in the sales and collection cycle?

A) receipt of cash

B) delivery of product to a customer

C) identification of a new customer

D) customer request for goods or services

Answer 6

D) customer request for goods or services

Question 7

A ________ is a document that indicates a request for merchandise by a customer.

A) sales invoice

B) vendor invoice

C) customer order

D) sales order

Answer 7

C) customer order

Question 8

A ________ is a document for communicating the description, quantity, and related information for goods ordered by a customer.

A) sales order

B) customer order

C) vendor invoice

D) sales invoice

Answer 8

A) sales order

Question 9

What critical event must take place before goods can be shipped in order to assure payment can be reasonably expected?

A) determination of correct delivery address

B) credit approval

C) matching of shipping document with sales invoice

D) receipt of sales order from the customer

Answer 9

B) credit approval

Question 10

Before goods are shipped on account, a properly authorized person must

A) prepare the sales invoice.

B) approve the journal entry.

C) approve the customer’s credit.

D) verify that the unit price is accurate.

Answer 10

C) approve the customer’s credit.

Question 11

One type of shipping document is the ________, which is a written contract between the carrier and the seller of the receipt and shipment of goods.

A) sales order

B) bill of lading

C) sales invoice

D) customer order

Answer 11

B) bill of lading

Question 12

The document used to indicate to the customer the amount of a sale and payment due date is the

A) sales invoice.

B) bill of lading.

C) purchase order.

D) sales order.

Answer 12

A) sales invoice.

Question 13

Which of the following is notan important aspect of billing?

A) All shipments made have been billed.

B) No shipment has been billed more than once.

C) Each customer is billed for the proper amount.

D) Credit is approved to customers for sales on account.

Answer 13

D) Credit is approved to customers for sales on account.

Question 14

Most companies recognize sales revenue when

A) sales are invoiced.

B) payment is received from the customer.

C) goods are shipped.

D) the customer’s order is received.

Answer 14

C) goods are shipped.

Question 15

Which of the following is nota business function within the “Sales” class of transactions?

A) processing customer orders

B) granting credit

C) processing and recording sales returns and allowances

D) shipping goods

Answer 15

C) processing and recording sales returns and allowances

Question 16

The total of the individual account balances in the accounts receivable master file should equal the

A) total sales for the period.

B) balance of the sales account in the general ledger.

C) total sales less the total cash received for the period.

D) balance of the accounts receivable account in the general ledger.

Answer 16

D) balance of the accounts receivable account in the general ledger.

Question 17

In the accounts receivable master file, the length of time the account has been due can be useful to the client and the auditor in preparing the

A) trial balance.

B) working trial balance.

C) accounts receivable trial balance.

D) aged accounts receivable trial balance.

Answer 17

D) aged accounts receivable trial balance.

Question 18

A document sent to each customer showing his or her beginning accounts receivable balance and the amount and date of each sale, cash payment received, any debit or credit memo issued, and the ending balance is the

A) accounts receivable subsidiary ledger.

B) monthly statement.

C) remittance advice.

D) sales invoice.

Answer 18

B) monthly statement.

Question 19

The document that accompanies the customer’s payment is the

A) credit memo.

B) remittance advice.

C) vendor invoice.

D) monthly statement.

Answer 19

B) remittance advice.

Question 20

A ________ indicates a reduction in the amount due from a customer because of returned goods or an allowance.

A) bill of lading

B) sales invoice

C) credit memo

D) monthly statement

Answer 20

C) credit memo

Question 21

A ________ is a list prepared when cash is received by someone who has no responsibility for recording sales, accounts receivable, or cash, and who has no access to the accounting records.

A) prelisting of cash receipts.

B) sales invoice.

C) packing ticket.

D) vendor invoice.

Answer 21

A) prelisting of cash receipts.

Question 22

When dealing with the processing and recording of cash receipts,

A) the most important concern is the theft of cash.

B) theft can only occur before the receipts are entered into the records.

C) cash receipts should be deposited at least monthly.

D) the monthly statement is used to prepare the cash receipts journal.

Answer 22

A) the most important concern is the theft of cash.

Question 23

Some companies have customers send payments directly to an address maintained by a bank. This is called a(n) ________ system.

A) direct deposit

B) funds transfer

C) lockbox

D) interbank transfer

Answer 23

C) lockbox

Question 24

Which of the following is a business function related to sales returns and allowances?

A) processing customer orders

B) writing off uncollectible accounts

C) processing and recording credit memos

D) granting credit

Answer 24

C) processing and recording credit memos

Question 25

For a firm that practices good internal controls in the sales and collections cycle, the function of indicating credit approval should be recorded on which of the following documents?

A) sales order

B) sales invoice

C) customer order

D) remittance advice

Answer 25

A) sales order

Question 26

Which document or record is used in the write-off of uncollectible accounts classes of transactions?

A) general journal

B) remittance advice

C) sales transaction file

D) sales order

Answer 26

A) general journal

Question 27

Who is generally responsible for opening receipts when a company uses a lockbox to speed the handling of cash receipts?

A) company personnel

B) temporary employees in the town where the lockbox is located

C) bank employees

D) company controller

Answer 27

C) bank employees

Question 28

Which of the following is a correct statement regarding the shipment of goods?

A) The shipping document must be in paper form.

B) The shipping document is used to update the perpetual inventory records.

C) Only one copy of the shipping document is needed.

D) All of the above are correct statements.

Answer 28

B) The shipping document is used to update the perpetual inventory records.

Question 29

Which accounts are involved in the sales class of transactions?

A) accounts receivable and sales returns and allowances

B) cash and allowance for uncollectible accounts

C) sales allowances and accounts receivable

D) accounts receivable and sales

Answer 29

D) accounts receivable and sales

Question 30

A sales invoice is a document that usually indicates credit approval.

TRUE OR FALSE

Answer 30

FALSE

Question 31

Credit should be approved before a customer’s order is received.

TRUE OR FALSE

Answer 31

FALSE

Question 32

Credit should be approved before goods are shipped to a customer.

TRUE OR FALSE

Answer 32

TRUE

Question 33

The receipt of a customer order from a customer is the starting point for the entire sales and collection cycle.

TRUE OR FALSE

Answer 33

TRUE

Question 34

The preparation of a sales invoice is the final step in the sales and collection cycle.

TRUE OR FALSE

Answer 34

FALSE

Question 35

A bill of lading is a special type of sales invoice used when goods are shipped interstate.

TRUE OR FALSE

Answer 35

FALSE

Question 36

The shipping point is critical because it is the first point at which company assets are released to another party.

TRUE OR FALSE

Answer 36

TRUE

Question 37

A bill of lading is a written contract between the seller and the buyer.

TRUE OR FALSE

Answer 37

FALSE

Question 38

In a lockbox system, bank employees are responsible for opening cash receipts and maintaining records of all payments made by customers at the lockbox address.

TRUE OR FALSE

Answer 38

TRUE

Question 39

Sales transactions are the result of the following five functions in the sales and collection cycle: processing customer orders, granting credit, shipping goods, billing customers, and recording sales.

TRUE OR FALSE

Answer 39

TRUE

Question 40

The prelisting of cash receipts should be prepared by the individual who has primary responsibility for the recording of cash receipts.

TRUE OR FALSE

Answer 40

FALSE

Question 41

A credit memo is a document used internally that indicates authority to write-off an account receivable as uncollectible.

TRUE OR FALSE

Answer 41

FALSE

Question 42

If a company uses a periodic inventory system, the shipping records are used to update the inventory quantities.

TRUE OR FALSE

Answer 42

FALSE

Question 43

The sales journal is generated from the sales transaction file.

TRUE OR FALSE

Answer 43

TRUE

Question 44

When customers purchase goods by credit card, the issuer of the credit card uses EFT to transfer funds into the company’s bank account.

TRUE OR FALSE

Answer 44

TRUE

Question 45

The theft of cash can occur before receipts are entered in the records or after they are entered in the records.

TRUE OR FALSE

Answer 45

TRUE

Question 46

When designing audit procedures, tracing of source documents to the customers subsidiary ledger and subsequently to the general ledger is done to satisfy what assertion?

A) valuation

B) cutoff

C) completeness

D) classification

Answer 46

C) completeness

Question 47

When assessing risk control, the auditor must do all of the following except

A) assess control risk for each objective by evaluating the controls and deficiencies for each objective.

B) perform the detailed test of balances.

C) identify the key internal controls and deficiencies.

D) associate the key controls and deficiencies with the objectives.

Answer 47

B) perform the detailed test of balances.

Question 48

When sales invoices are automatically calculated and posted by a computer, the auditor may be able to reduce substantive tests of transactions for which, if any, assertion?

A) accuracy

B) existence

C) completeness

D) none of the above

Answer 48

A) accuracy

Question 49

In many audits, no substantive tests of transactions are made for the ________ assertion on the grounds that understatement of sales is nota concern.

A) accuracy

B) existence

C) completeness

D) none of the above

Answer 49

C) completeness

Question 50

Which one the following procedures performed for the billing function provides evidence for the completeness assertion?

A) making sure that all shipments have been billed

B) making sure that no shipment has been billed more than twice

C) making sure that each shipment is billed at the correct amount

D) making sure that each shipment is billed to the proper customer

Answer 50

A) making sure that all shipments have been billed

Question 51

When assessing planned control risk for sales,

A) the key internal controls and deficiencies for sales will be the same for every company.

B) the audit objectives for sales will differ from company to company.

C) a flowchart is required to help assess control risk for sales.

D) assessing control risk for sales is a highly subjective decision.

Answer 51

D) assessing control risk for sales is a highly subjective decision.

Question 52

Which of the following is an accurate statement relating to separation of duties?

A) Management should deny cash access to anyone responsible for entering sales and cash receipts transaction information into the computer.

B) All disagreements on the monthly statements should be directed to a designated person who has no responsibility for handling cash or recording sales or accounts receivable.

C) The credit granting function should be separate from the sales function.

D) All of the above are accurate statements.

Answer 52

D) All of the above are accurate statements.

Question 53

Which of the following is nota key control for sales and cash receipts?

A) active board of directors

B) adequate separation of duties

C) internal verification procedures

D) adequate documents and records

Answer 53

A) active board of directors

Question 54

Which one of the following statements is true? In deciding on substantive tests of transactions

A) some procedures are commonly employed on every audit regardless of the circumstances.

B) all procedures are dependent on the adequacy of the controls and the results of the tests of controls.

C) results obtained in the prior year’s audit will not affect the procedures used this year.

D) the materiality of the item will not influence the choice of procedures used.

Answer 54

A) some procedures are commonly employed on every audit regardless of the circumstances.

Question 55

To test for recorded sales for which there were no actual shipments, the auditor vouches from the

A) bill of lading to the sales journal.

B) sales journal to the shipping documents.

C) sales journal to the accounts receivable subsidiary ledger.

D) bill of lading to the supporting customer order and sales order.

Answer 55

B) sales journal to the shipping documents.

Question 56

An effective procedure to test for unfilled shipments is to trace from the

A) sales journal to the shipping documents.

B) shipping documents to the sales journal.

C) sales journal to the accounts receivable ledger.

D) sales journal to the general ledger sales account.

Answer 56

B) shipping documents to the sales journal.

Question 57

The auditor traces items from the source documents to the journals in order to accumulate audit evidence that will satisfy the

A) existence objective.

B) completeness objective.

C) ownership objective.

D) valuation objective.

Answer 57

B) completeness objective.

Question 58

In many audits of sales transactions substantive tests of transactions can be reduced in determining the completeness objective because

A) understatements of assets and income are a greater concern than overstatements.

B) overstatements of assets and income are a greater concern than understatements.

C) it doesn’t matter if income is understated because the savings on income tax offsets the reduced revenue and net income is correct.

D) the unrecorded sales cause a reduction of accounts receivable; therefore, the ratios of the two financial statements will not be misleading.

Answer 58

B) overstatements of assets and income are a greater concern than understatements.

Question 59

To determine that sales are accurately recorded, the unit prices on the duplicate sales invoices are normally compared with

A) the original invoices.

B) an approved master price list.

C) the amounts recorded in the sales journal for that transaction.

D) the amounts posted to the customer’s account in the accounts receivable master file.

Answer 59

B) an approved master price list.

Question 60

Prenumbered documents will only be useful for control purposes if

A) a different numerical sequence is used for each company.

B) the sequence is accounted for periodically.

C) employees are allowed to use documents out of numerical sequence.

D) the same numerical sequence is used each accounting period.

Answer 60

B) the sequence is accounted for periodically.

Question 61

________ tests are for omitted transactions, while ________ tests are for nonexistent transactions.

A) Tracing; vouching

B) Vouching; tracing

C) Verifying; tracking

D) Tracking; verifying

Answer 61

A) Tracing; vouching

Question 62

Which one of the following best describes the auditors responsibilities regarding appropriate authorizations in the sales/collections cycle?

A) Credit must be authorized before the sale.

B) Goods must be shipped after the authorization

C) Prices must be authorized.

D) All of the above should be of concern to the auditor.

Answer 62

D) All of the above should be of concern to the auditor.

Question 63

Which type of misstatement is always a fraud?

A) sales included in the journals for which no shipment was made

B) sales to related parties, such as officers and subsidiaries

C) shipments made to nonexistent customers and recorded as sales

D) sales recorded more than once.

Answer 63

C) shipments made to nonexistent customers and recorded as sales

Question 64

An auditor needs to determine whether all customers of an electric utility company are being billed. The auditor should test from the

A) sales register to the accounts receivable ledger.

B) sales register to the meter department records.

C) accounts receivable ledger to the sales register.

D) meter department records to the sales register.

Answer 64

D) meter department records to the sales register.

Question 65

Which one of the following would the auditor consider to be an incompatible operation if the cashier receives remittances from the mail room?

A) The cashier prepares the daily deposit.

B) The cashier makes the daily deposit at a local bank.

C) The cashier posts the receipts to the accounts receivable subsidiary ledger cards.

D) The cashier endorses the checks.

Answer 65

C) The cashier posts the receipts to the accounts receivable subsidiary ledger cards.

Question 66

Which of the following would least concern an auditor regarding the lack of a specific authorization to conduct the sales transaction?

A) granting of credit

B) shipment of goods

C) determination of discounts

D) selling of goods for cash

Answer 66

D) selling of goods for cash

Question 67

As a test of control, the auditor examines sales invoices for supporting documents. The relevant transaction-related audit objective is

A) accuracy.

B) occurrence.

C) classification.

D) timing.

Answer 67

A) accuracy.

Question 68

The accurate recording of sales transactions concerns all of the following exceptfor

A) proper credit authorization.

B) shipping the amount of goods ordered.

C) accurately billing for the amount of goods shipped.

D) accurately recording the amount billed in the accounting records.

Answer 68

A) proper credit authorization.

Question 69

Separation of duties in the sales and collection cycle should mandate that the credit-granting function be separate from the sales function.

TRUE OR FALSE

Answer 69

TRUE

Question 70

Tracing from source documents to the journal is useful for testing the existence objective.

TRUE OR FALSE

Answer 70

FALSE

Question 71

The extent of tests of controls in audits of nonpublic companies depends on the effectiveness of the controls and the extent to which the auditor believes they can be relied on to reduce control risk.

TRUE OR FALSE

Answer 71

TRUE

Question 72

For each key control, one or more tests of controls must be designed to verify its effectiveness.

TRUE OR FALSE

Answer 72

TRUE

Question 73

Misstatements involving the completeness objective for sales lead to overstatements of assets and income.

TRUE OR FALSE

Answer 73

FALSE

Question 74

Violations of the occurrence/existence objective for sales are of greater concern to the auditor than violations of the completeness objective.

TRUE OR FALSE

Answer 74

TRUE

Question 75

An effective procedure to test the occurrence/existence objective for sales is to vouch sales journal entries to copies of sales orders, shipping documents, and sales invoices.

TRUE OR FALSE

Answer 75

TRUE

Question 76

For each significant internal control deficiency identified by the auditor, he or she should design one or more tests of controls to assess the extent of the deficiency and its effect on the financial statements.

TRUE OR FALSE

Answer 76

TRUE

Question 77

The appropriate tests of controls for separation of duties are ordinarily restricted to the auditor’s observations of activities and discussions with personnel.

TRUE OR FALSE

Answer 77

TRUE

Question 78

Auditing standard indicate that if the auditor identifies a significant risk at the assertion level, the auditor is notrequired to perform substantive procedures.

TRUE OR FALSE

Answer 78

FALSE

Question 79

Except for two key differences, the transaction-related audit objectives are essentially the same for the processing of credit memos as they are for sales. Which of the following are the two key differences?

A) risk and emphasis on the completeness objective

B) materiality and emphasis on the accuracy objective

C) risk and emphasis on the classification objective

D) materiality and emphasis on the occurrence objective

Answer 79

D) materiality and emphasis on the occurrence objective

Question 80

Smith Manufacturing Company’s accounts receivable clerk has a friend who is also a customer of Smith Manufacturing. The accounts receivable clerk has issued fictitious credit memos to his friend for goods supposedly returned. The most effective procedure for preventing this activity is to

A) prenumber and account for all credit memorandums.

B) require receiving reports that provide evidence of returned inventory items to support all credit memorandums before they are approved.

C) have independent sales and accounts receivable departments.

D) mail monthly statements to customers.

Answer 80

B) require receiving reports that provide evidence of returned inventory items to support all credit memorandums before they are approved.

Question 81

When auditors evaluate sales returns and allowances, a primary emphasis is on the objective of occurrence.

TRUE OR FALSE

Answer 81

TRUE

Question 82

Sales returns and allowances are often ignored by auditors because they are often immaterial.

TRUE OR FALSE

Answer 82

TRUE

Question 83

When auditing sales returns and allowances, the emphasis is normally on testing the completeness objective.

TRUE OR FALSE

Answer 83

FALSE

Question 84

When an employee who is authorized to make customer entries in the accounts receivable subsidiary ledger purposefully enters cash received into the wrong customer’s account that employee may be suspected of

A) kiting.

B) lapping.

C) floating.

D) shorting.

Answer 84

B) lapping.

Question 85

An audit procedure that compares the name, amount, and dates shown on remittance advices with cash receipts journal entries and with related duplicate deposit slips would be effective in detecting

A) kiting.

B) lapping.

C) unauthorized write-offs of customers as uncollectible accounts.

D) sales without proper credit authorization.

Answer 85

B) lapping.

Question 86

Which of the following tests of controls is useful to test the transaction-related audit objective of posting and summarization?

A) Observe whether monthly statements are sent.

B) Observe unrecorded cash at a point in time.

C) Observe whether the accountant reconciles the bank account.

D) Observe endorsement of incoming checks.

Answer 86

A) Observe whether monthly statements are sent.

Question 87

The audit procedure referred to as proof of cash receipts is particularly useful to test

A) time lags in making deposits.

B) whether all recorded cash receipts have been deposited in the bank.

C) whether there are cash receipts that have not been recorded in the journals.

D) the client’s reconciliation between cash receipts and bank deposits.

Answer 87

B) whether all recorded cash receipts have been deposited in the bank.

Question 88

Which of the following test of controls is useful to test the completeness objective for cash receipts?

A) Compare shipping documents with sales records.

B) Observe endorsement of incoming checks.

C) Examine evidence that the receivable master file is reconciled to the general ledger.

D) Observe if the client reconciles the bank account.

Answer 88

B) Observe endorsement of incoming checks.

Question 89

When designing tests of controls and substantive tests of transactions for cash receipts, it is important to remember that

A) the test of controls are designed to test for monetary misstatements.

B) auditors use the same methodology for designing tests of controls and substantive tests of transactions for cash receipts as they use for sales.

C) the tests of controls are not dependent on the controls the auditor identifies.

D) the tests of controls is not dependent on whether the company being audited is publicly traded.

Answer 89

B) auditors use the same methodology for designing tests of controls and substantive tests of transactions for cash receipts as they use for sales.

Question 90

Cash receipts from sales on account have been misappropriated. Which of the following acts would conceal this fraud and be least likelyto be detected by an auditor?

A) understating the sales journal by not recording cash sales

B) overstating the accounts receivable control account by intentionally misstating prices charged for goods sold

C) overstating the accounts receivable subsidiary ledger by not recording payments made by customers

D) understating the cash receipts journal by purposely recording incorrect amounts

Answer 90

A) understating the sales journal by not recording cash sales

Question 91

Which of the following would offer the best protection for a company that wishes to prevent a reoccurrence of a previously detected “lapping” problem with trade accounts receivable?

A) Separate duties so that the bookkeeper in charge of the general ledger has no access to incoming mail.

B) Separate duties so that no employee has access to both checks from customers and currency from daily cash receipts.

C) Have a mandatory vacation policy for employees who both handle cash and enter cash receipts into the system.

D) Request that customer’s payment checks be made payable to the company and addressed to the treasurer.

Answer 91

C) Have a mandatory vacation policy for employees who both handle cash and enter cash receipts into the system.

Question 92

The most difficult type of cash embezzlement for auditors to detect is when it occurs

A) after the merchandise has been shipped.

B) before the merchandise has been shipped.

C) before the cash is recorded in the cash receipts journal or other cash listing.

D) after the cash is recorded in the cash receipts journal or other cash listing.

Answer 92

C) before the cash is recorded in the cash receipts journal or other cash listing.

Question 93

The most difficult type of cash embezzlement for the auditor to detect is when the cash is stolen before it can be recorded in the cash receipts journal.

TRUE OR FALSE

Answer 93

TRUE

Question 94

An essential part of the auditor’s responsibility in auditing cash receipts is to identify deficiencies in internal control that increase the likelihood of fraud.

TRUE OR FALSE

Answer 94

TRUE

Question 95

The auditor’s primary concern in performing audit procedures of the write-off of uncollectible accounts relates to the risk that the client writes off customer accounts that have already been collected. The primary control for preventing this fraud is

A) examining authorized credit memos.

B) examining the uncollectible account authorization form.

C) examining debit memos.

D) examining the vouchers payable register.

Answer 95

B) examining the uncollectible account authorization form.

Question 96

The estimation of bad debts expense relates to the write-off of uncollectible accounts.

TRUE OR FALSE

Answer 96

TRUE

Question 97

There should generally be correspondence in the client’s file establishing the uncollectibility of their account.

TRUE OR FALSE

Answer 97

TRUE

Question 98

Realizable value is an essential balance-related audit objective for accounts receivable.

TRUE OR FALSE

Answer 98

TRUE

Question 99

The most significant effect of the results of the tests of controls and substantive tests of transactions in the sales and collection cycle is on

A) bad debt expense.

B) the analytical tests to be performed.

C) the confirmation of accounts receivable.

D) the impact of processing cash receipts.

Answer 99

C) the confirmation of accounts receivable.

Question 100

At the completion of the tests of controls and substantive tests of transactions, auditors must analyze each exception to determine its cause and the implication of the exception on assessed control risk.

TRUE OR FALSE

Answer 100

TRUE