Comprehensive Question

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5-30 (Assertions) In planning the audit of a client’s financial statements, an auditor identified the following issues that need audit attention.

1. The allowance for doubtful accounts is fairly presented in amount.

2. All accounts payable owed as of the balance sheet date are included in the financial


3. All purchase returns recorded in the general ledger are valid.

4. There is a risk that purchases made in the last week of the month might be recorded in

the following period.

5. The client may have factored accounts receivable.

6. The client has used special-purpose entities to finance a building. Neither the building

nor the debt is included in the financial statements.

7. A retail client values its inventory using the retail method of accounting.

8. A construction client uses the percentage of completion method for recognizing revenues.

9. A client has a defined benefit pension plan and does not have competent employees to

write footnote disclosures.

10. A client acquired a subsidiary company and paid a high amount of goodwill when the

stock market, and resulting values, were at all-time highs.

11. A client financed the acquisition of assets using preferred stock that pays a 3 percent

dividend and must be redeemed from the shareholders next year.


Identify the assertions for items 1 through 11 above.

6-22(Audit evidence) During the course of an audit, the auditor examines a wide variety of documentation. Listed below are some forms of documentary evidence and the sources from which they are obtained.

1. Bank statement sent directly to the auditor by the bank.

2. Creditor monthly statement obtained from client’s files.

3. Vouchers in client’s unpaid voucher file.

4. Duplicate sales invoice in filled order file.

5. Time Tickets filed in payroll department.

6. Credit memo in customer’s file.

7. Material requisitions filed in storeroom.

8. Bank statement in client’s files.

9. Management working papers in making accounting estimates.

10. Paid checks returned with bank statement in (1) ABOVE.

11. Letter in customer file from collection agency on collectability of balance.

12. Memo in customer file from treasurer authorizing the write-off of the account.


a. Classify the evidence by source into one of four categories: (1) directly from outsiders, (2) indirectly from outsiders, (3) internal but validated externally, and (4) entirely internal.

b. Comment on the reliability of the four sources of documentary evidence.

7-22 (Understanding the entity and its environment) You have just been assigned as in-charge accountant in HipStar, Inc. a new audit client in the recording industry. HipStar is an emerging growth company that finds new recording artists, records therir music, and distributes the music directly to consumers exclusively over the Internet. The company does not produce CDs or tapes and does not distribute the artist’s music through traditional distribution channels. In order to better understand HipStar, you have set out to understand the following:

1. Industry conditions

2. The regulatory environment

3. Other external factors affecting the business

4. The entity’s business operations

5. The tntity’s investing activities and financing activities

6. The entity’s financial reporting activities

7. The entity’s objectives, strategies, and related business risks

8. How the entity measures and reviews its financial performance


For each of these eight categories (1) describe the knowledge and understanding you want to obtain about HipStar to develop a knowledgeable perspective about the entity and (2) identify how this knowledge might assist in assessing the risk of material misstatement.

Use the following format:

|Key Categories...
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