Question 1

If a potential loss on a contingent liability is unlikely and the event will not likely have a significant adverse financial effect, the liability should be

Accepted Answer

A)   accrued and indicated in the body of the financial statements.
B)   disclosed in footnotes but not accrued.
C)   neither accrued nor disclosed in footnotes.
D)   disclosed in the auditor's report but not disclosed on the financial statements. C

Question 2

As part of the review for subsequent events, the auditor will review financial statements prepared after the balance sheet date. The statements should be discussed with management to determine whether they

Accepted Answer

A)   were approved by the controller prior to your review.
B)   are mathematically correct, including calculation of depreciation.
C)   are prepared on the same basis as the current-period statements.
D)   were completed on a comparative basis, showing the last three years. C

Question 3

The audit procedures for the subsequent events review can be divided into two categories: 1) procedures normally integrated as a part of the verification of year-end account balances, and 2) those performed specifically for the purpose of discovering subsequent events. Which of the following procedures would be in the first category?

Accepted Answer

A)   Make inquiries of client regarding contingent liabilities.
B)   Obtain a letter of representation written by client.
C)   Examine subsequent period sales and purchases transactions to determine whether the cutoff is accurate.
D)   Review the minute book to determine the existence of any transaction related to year 1. C

Question 4

If a potential loss on a contingent liability is likely and the amount of the loss can be reasonably estimated, the liability should be

Accepted Answer

A)   accrued and indicated in the body of the financial statements.
B)   disclosed in footnotes but not accrued.
C)   neither accrued nor disclosed in footnotes.
D)   disclosed in the auditor's report but not disclosed on the financial statements.

Question 5

A) Discuss the purposes of performing analytical procedures during the audit completion phase.
B) State the two purposes of the client representation letter.

Accepted Answer

The answer of A) Discuss the purposes of performing analytical...

Question 6

What situation represents a contingent liability for a company?

Accepted Answer

A)   A candy company's monthly production requires 1000 kg of chocolate. The company entered into a contract with a chocolate producer to purchase 6000 kg of chocolate over the next six months at the market price.
B)   A bike company learned that a racer using its bike was seriously injured in an accident on December 30th, 2015, as the front wheel of the bike was released as the result of a manufacturing defect. The company had not received a claim at December 31st, 2015, but management expects to receive a claim.
C)   A restaurant received a $10 000 claim from a customer for emotional damages as a result of poor service. The legal counsel of the restaurant indicated that the claim was not supported and there was less than a 5% chance that the restaurant would have to pay.
D)   A hotel chain was found guilty by a judge for not refunding customers who had online reservations. The hotel chain will have to pay $50 000 to various customers in the following year.

Question 7

IFRS uses specific terminology to refer to the likelihood of the occurrence of an organizational event. Which of the following would need to provide for the (i.e. the financial statements adjusted)?

Accepted Answer

A)   outflow of resources is required, but cannot be reliably estimated
B)   possibility that an outflow of resources is required
C)   likelihood is remote
D)   amount is yet to be confirmed

Question 8

Describe the items the auditor is required to report to the audit committee.

Accepted Answer

The answer of Describe the items the auditor is required...

Question 9

Which of the following procedures might be useful in discovering a contingent liability for a lawsuit that management is intentionally neglecting to disclose?

Accepted Answer

A)   inquiries (orally and in writing)  of management
B)   analyzing legal expense and reviewing invoices and statements from outside legal counsel
C)   reviewing current and previous years' Canada Revenue Agency correspondence
D)   obtaining a letter of representation from management that it is not aware of any undisclosed contingent liabilities

Question 10

Discuss three audit procedures commonly used to search for contingent liabilities.

Accepted Answer

The answer of Discuss three audit procedures commonly used to...

Question 11

The standard letter of confirmation sent to the client's legal counsel should be prepared on

Accepted Answer

A)   the auditor's stationery and signed by an audit partner.
B)   the lawyer's stationery and signed by the lawyer.
C)   the client's stationery and signed by a company official.
D)   plain paper and be unsigned.

Question 12

There are often a large number of immaterial errors discovered that do not require an adjustment at the time they are found. How should these errors be dealt with by the auditor?

Accepted Answer

A)   Since these items are individually immaterial, the auditor would not recommend adjusting entries to the client.
B)   Since there are a large number of these, the auditor would recommend adjusting entries to the client.
C)   The auditor must combine the individually immaterial errors and evaluate whether the combined amount is material.
D)   The auditor would never combine these individually immaterial amounts because that would mix apples and oranges.

Question 13

What action will a lawyer likely take if they have information about a lawsuit that was not mentioned by the client?

Accepted Answer

A)   They will tell the auditor the number of suits and request the auditor to contact the client.
B)   They will request the client to notify the auditor about the lawsuit.
C)   They will not mention the lawsuits since they are confidential.
D)   They will refuse to answer the legal letter, since it is incorrect.

Question 14

The auditor has sent inquiry letters to all of the client's law firms. Two law firms stated that the client was unlikely to win the lawsuits in question, whereas the client had said the opposite. What action should the auditor take?

Accepted Answer

A)   Ask management for invoices supporting the omitted lawsuits.
B)   Request a meeting with management and the respective law firms.
C)   Ask the law firms to provide additional details with respect to the lawsuits.
D)   Change control risk to maximum and increase substantive testing.

Question 15

In addition to the financial statements, MD&A (management discussion and analysis) are appended to the financial statements to inform users of management's expectations for the foreseeable future, as well as to provide management's assessment of the financial results. MD&A is prepared primarily because it is

Accepted Answer

A)   an additional piece of evidence used by auditors to assess the financial statements.
B)   generally required by securities regulators in Canada.
C)   an unbiased view of the prospective future results of the company.
D)   required so that the company can borrow more funds or sell more shares to the public.

Question 16

Which of the following scenarios regarding a lawsuit filed against a client by a third party would qualify as a "contingent liability"?

Accepted Answer

A)   A lawsuit has been filed but not yet resolved.
B)   A lawsuit was filed and concluded with the client winning.
C)   A lawsuit was filed and concluded with a third party winning an award of $100 000, but the client hasn't paid yet.
D)   A lawsuit was filed and concluded with a third party winning an award of $100 000, which the client paid after the balance sheet date but before the statements were issued.

Question 17

A client has a calendar year-end. Listed below are four events that occurred after December 31. Which of these subsequent events might result in adjustment of the December 31 financial statements?

Accepted Answer

A)   adoption of accelerated depreciation methods
B)   write-off of a substantial portion of inventory as obsolete
C)   collection of 90% of the accounts receivable existing at December 31
D)   sale of a major subsidiary

Question 18

An agreement that commits the firm to a set of fixed conditions in the future regardless of what happens to profits or the economy as a whole is a definition of a

Accepted Answer

A)   contingent liability.
B)   potentially hazardous agreement.
C)   commitment.
D)   conditional contract.

Question 19

Which of the following is a required condition for a contingent liability to exist?

Accepted Answer

A)   There is a potential liability to an employee of the client.
B)   The amount of the future payment is known.
C)   The liability resulted from known events.
D)   The outcome has been resolved by a current event.

Question 20

Management furnishes the auditor with information concerning litigation, claims, and assessments. Which of the following is the auditor's primary means of initiating action to corroborate such information?

Accepted Answer

A)   Request that the client's lawyers undertake a reconsideration of matters of litigation, claims, and assessments with which they were consulted during the period under examination.
B)   Request that the client's management send a letter of inquiry to those lawyers with whom management consulted concerning litigation, claims, and assessments.
C)   Request that the client's lawyers provide a legal opinion concerning the policies and procedures adopted by management to identify, evaluate, and account for litigation, claims, and assessments.
D)   Request that the client's management engage outside lawyers to suggest wording for the text of a footnote explaining the nature and probable outcome of existing litigation, claims, and assessments.

Exam 18: Completing the Audit