Question

1) Which of the following analytical procedures would not provide information on a potential misstatement( either understatement or overstatement) of the allowance for uncollectible accounts?

a- compare allowance for uncollectible accounts as a percentage of accounts receivable with previous years

b- compare aging categories as a percentage of accounts receivable with previous years

c- compare current year gross margin percentage with previous year gross margin

d- compare number of days accounts receivable are outstanding with previous years

2) An appropriate response to finding significant exceptions in tests of controls is as follows:

a- decrease reliance on controls and adjust substantive test accordingly

b- Increase tolerable misstatement( and overall materiality) for relevant accounts in the cycle where the controls were found lacking

c- None of the other responses is correct

d- decrease your reliance on substantive testing of accounts in the cycle where the controls were found lacking

Answer 1

Question 1:-

1) Which of the following analytical procedures would not provide information on a potential misstatement( either understatement or overstatement) of the allowance for uncollectible accounts?

With respect to the above question and the answer options available, the correct answer is Option C.

Option A is incorrect. Comparing allowance for uncollectible accounts as a percentage of accounts receivable would enable an auditor to compare the trends and whether the allowance this year is reasonable.

Option B is incorrect. Aging of accounts receivable is done to keep a track of the accounts receivable according to different time periods. Whenever we prepare an aging schedule, we can be in a position to compare with previous years to understand if the aging is in line with that of previous years and whether the allowance account established using the agin schedule is reasonable.

Option C is correct. as this is not the analytical procedure that would provite information on a potential misstatement on uncollectible accounts.  Gross margin is calculated by the following formula = Sales - Variable costs. Only after gross margin is determined, we would go ahead to create a provision for allowance for bad debts. Comparing gross margin with previous year gross margin would not help us to analyze the reasonableness of allowance for accounts receivable.

Option D is incorrect. The number of days of accounts receivable gives us information on the speed with which the company is able to collect its amounts due which can be a useful measure in helping us to analyze the reasonableness for allowance for accounts receivable.

2) An appropriate response to finding significant exceptions in tests of controls is as follows:

With respect to the above question and options available, the correct answer is Option A.

Option A is correct. An audit involves performing a mix of test of controls and substantive procedures. The higher the reliance obtained on controls, the lesser the substantive procedures and vice versa. In this situation , we note that there are significant exceptions to the test of control procedures performed. As such, the auditor can decrease the reliance on controls and also adjust the substantive procedures accordingly.

Option B is incorrect.If we increase the TE and overall materiality, we will be subjecting lesser accounts to testing. When a control has failed, we should be increasing the testing and should not focus on lowering the testing. As such, this option is incorrect.

Option C is incorrect. This option is incorrect as , Option A would be the right answer for this question and so this is not valid.

Option D is incorrect. The significant exceptions noted in test of controls should increase our reliance on substantive testing and as such this option is not valid.