Auditing Study Guide Questions
Course Introduction
Auditing provides an in-depth examination of the theory, principles, and practices involved in examining financial statements and supporting records. The course focuses on the auditing process, including audit planning, risk assessment, internal control evaluation, evidence gathering, and reporting. Students will learn about the ethical and legal responsibilities of auditors, as well as generally accepted auditing standards and procedures. Real-world case studies and practical examples help develop the skills necessary to detect errors, fraud, and misstatements, ensuring the integrity and reliability of financial information.
Recommended Textbook
Financial Reporting
Financial Statement Analysis and Valuation 9th Edition James M. Wahlen
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Page 2
Chapter 1: Overview of Financial Reporting, Financial
Statement Analysis, and Valuation
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Sample Questions
Q1) How easily can customers switch to substitute products is a question one might ask when assessing the ___________________________________.
Answer: threat of substitutes
Q2) The third step in financial statement analysis is to assess the quality of the firm's financial statements.Which of the following is a question an analyst should ask when performing this step?
A) Are industry sales growing rapidly or slowly?
B) Do earnings include revenues that appear mismatched with the business model employed by the firm?
C) Does the industry include a large number of firms selling similar products?
D) What is the company's degree of geographical diversification?
Answer: B
Q3) Which forces typically represent vertical competition in a value chain?
A) Potential entry and substitutes.
B) Buyer power and rivalry among existing firms
C) Supplier power and potential entry.
D) Buyer power and supplier power
Answer: D
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Chapter 2: Asset and Liability Valuation and Income Recognition
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Sample Questions
Q1) The accounting equation is represented by Assets= Liabilities + Stockholders' Equity which of the following would cause a change in the stockholders' equity accounts:
A) Sale of Land for cash and a note receivable for the balance
B) Collection of an account receivable
C) Purchased an asset for cash and 10,000 shares of preferred stock
D) Purchased inventory on account
Answer: C
Q2) ________________________________________ is the net amount that a firm would receive if it sold an asset or the net amount it would have to pay to settle a liability.
Answer: Net realizable value
Q3) Refer to Balance Sheet Equation.JCP Company purchased marketable securities for $5,000 during the year,at the end of the year the company revalues the securities to $5,700.This revaluation would result in an increase to non-cash assets and
Answer: accumulated other comprehensive income
Q4) The amount initially paid to acquire an asset is called ______________________________.
Answer: acquisition cost
Page 4
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Chapter 3: Income Flows versus Cash Flows: Understanding
the Statement of Cash Flows
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Sample Questions
Q1) Cash flow from operations should include none of the cash flows associated with marketable securities if such transactions are viewed as
Answer: investing activities
Q2) While preparing a statement of cash flows,you encountered the following transaction:
February 1,2011: Galvinize Corporation acquired a small office building in exchange for 5,000 shares of its own common stock; par value $10 per share; market value $15 per share.
A.Should this transaction be shown on the statement of cash flows?
B.Why or why not?
Answer: A.Yes
B.Because it is a direct exchange,it is reported on the statement of cash flows in a supplemental schedule or note as "Office building,acquired for 5,000 shares of Galvinize Corporation's common stock,$75,000."
Q3) ____________________ ___________________ equals current assets minus current liabilities
Answer: Working capital
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Chapter 4: Profitability Analysis
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Sample Questions
Q1) All else being equal,firms with high levels of ________________________________________ incur more risk in their operations and should earn higher rates of return.
Q2) Refer to the information for Ramos Company.In a common size income statement for 2009,the cost of goods sold is expressed as:
A) 64.3%
B) 40.0%
C) 87 %
D) 103%
Q3) Refer to the information for Extreme Sports Company and All Sports Corporation. What is the return on assets for All Sports?
A) 11.9%
B) 10.8%
C) 9.2%
D) 8.6%
Q4) The ___________________________________ of interest expense on net income equals one minus the marginal tax rate times interest expense.
Q5) When calculating the return on fixed assets sales is divided by
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Chapter 5: Risk Analysis
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Sample Questions
Q1) Working capital is defined as ______________________ minus
Q2) Caraway Company's net accounts receivable was $300,000 at December 31,2012 and $450,000 at December 31,2013.Net cash sales for 2008 were $425,000.The accounts receivable turnover for 2013 was 7.0,and this turnover figure was computed from net credit sales for the year.
Required: What were Caraway's total net sales for 2013?
Q3) The source of risk related to political unrest and exchange rate changes are _________________________.
Q4) Refer to the information for Mobile Company.Mobile's Operating Cash Flow to Current Liabilities ratio in 2010 was:
A) .70
B) 1.39
C) 1.00
D) .72
Q5) The source of risk related to technology,regulation and availability of raw materials is ____________________.
Q6) The current ratio is one of the measures of the __________ of the firm.
Page 7
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Chapter 6: Accounting Quality
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Sample Questions
Q1) An extraordinary gain or loss is unusual in nature,_____________________________________________,and material in amount.
Q2) Which one of the following is an example of sustainable earnings?
A) A gain from corporate restructuring.
B) A loss from debt retirement.
C) A settlement paid by the company for a class action suit.
D) Earnings from repeat customers.
Q3) Users of financial statements should consider which of the following when evaluating the quality of accounting information?
A) Economic faithfulness of accounting measurements and classifications.
B) Reliability of the measurements.
C) Reasonableness of the estimates made in applying GAAP or IFRS.
D) All of these should be considered.
Q4) Firms' choices and estimates within U.S.GAAP or IFRS should be determined by all of the following except:
A) firms' underlying economic circumstances.
B) conditions in the company's industry.
C) the company's competitive strategy.
D) accelerated management efforts to meet earnings projections.
Page 8
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Chapter 7: Financing Activities
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Sample Questions
Q1) One criterion that must be satisfied for a firm to recognize an obligation is that the transaction or event giving rise to the obligation has already
Q2) Discuss the difference between transferring receivables with and without recourse. When a company transfers receivables to the factor without recourse the factor pays the company a percentage of the total receivables and in effect it is a sale of the receivables to the factor.
The factor takes the receivables with recourse if any uncollected receivables can be returned to the company for a refund.
Q3) The _________________________ is the date a firm gives a stock option to employees.
Q4) Which of the following is not one of the GAAP classifications for derivatives?
A) Speculative investment
B) Fair value hedge
C) Asset-liability hedge
D) Cash flow hedge
Q5) Convertible preferred stock has both the attributes of _____________ and __________________________.
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Chapter 8: Investing Activities
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Sample Questions
Q1) Olivia Co.owns 4,000 of the 10,000 outstanding shares of Hobbitt Corp.common stock and exercises significant influence over the company.During 2011,Hobbitt earns $80,000 and pays cash dividends of $30,000.For the year ended December 31,2011,Olivia should report income related to the investment equal to:
A) $0
B) $12,000
C) $32,000
D) $20,000
Q2) All of the following are difficulties encountered in determining fair values except:
A) the need to make assumptions about the effect of technological and other improvements when using the prices of new assets currently available on the market in the valuation process
B) the need to identify comparable assets currently available in the market to value assets in place
C) the absence of U.S.GAAP and IFRS standards related to reporting long-lived assets
D) the absence of active markets for many used fixed assets, particularly those specific to a particular firm's needs
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Page 10
Chapter 9: Operating Activities
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Sample Questions
Q1) Which of the following calculations is used to determine the amount of the liability reported on the balance sheet for underfunding?
A) Plan assets less projected benefit obligation.
B) Projected benefit obligation less plan assets.
C) Plan assets less accumulated benefit obligation.
D) Accumulated benefit obligation less plan assets.
Q2) Under U.S.GAAP,application of the LIFO and FIFO inventory methods result in differences in the balance sheet,income statement and cash flow statement.Compare and contrast the effect of the two methods on each financial statement and determine the advantages and disadvantages of each method.
Q3) Using the information provided by Falcon Networks determine the combined effective tax rate for 2012.
A) 33.52%
B) 35.00%
C) 42.25%
D) 45.49%
Q4) ____________________ differences result from including revenues and expenses in income before taxes in a different period than those items affect taxable income.
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Chapter 10: Forecasting Financial Statements
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Sample Questions
Q1) In developing forecasts of expenses the analyst must take into consideration that expenses can be broken down into ________________________ or ______________________ components.
Q2) To ensure that the financial statements articulate,it is important that the change in the cash balance on the balance sheet each year agrees with:
A) the cash collections from sales in the projected income statement.
B) the cash provided by or used by operations on the projected statement of cash flows.
C) the net change in cash on the projected statement of cash flows.
D) the net change in working capital from period to period.
Q3) All of the following are the fundamental bases for future payoffs to equity shareholders and share value except:
A) earnings
B) cash flows
C) dividends
D) depreciation
Q4) For some types of assets,such as plant,property and equipment,asset growth typically ____________________ future sales growth.
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12
Chapter 11: Risk-Adjusted Expected Rates of Return and the Dividends Valuation Approach
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Sample Questions
Q1) Determine the weight on equity capital that should be used to calculate Zonk's weighted-average cost of capital:
A) 79.00%
B) 78.3%
C) 41.8%
D) 50%
Q2) Returns on systematic risk-free securities (like U.S.Treasury securities)should exhibit what type of correlation with returns on a diversified market wide portfolio of stocks?
A) Nearly perfect correlation
B) Perfect correlation
C) No correlation
D) Unable to tell without specifics about the portfolio
Q3) Why are dividends value-relevant to common equity shareholders?
Q4) Under the assumption of clean surplus accounting,how would you compute total dividends paid to common equity holders in order to value the firm?
Q5) According to the text,dividends are value-relevant even though the firm's dividend policy is irrelevant.How can that be true? What is the key assumption in the theory of dividend policy irrelevance?
Page 13
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Chapter 12: Valuation: Cash-Flow-Based Approaches
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Sample Questions
Q1) Suppose a firm faces the following costs of capital: \(\begin{array}{|l|l|l|l|l|l|l|} \hline&\text { Proportion in }\\ &\text { Capital }&\text { Pretax }&\text { Tax }& \text { After-tax } &\text { Weighted Average Cost } \\ &\text { Structure }&\text { Cost }&\text { Effect }&\text { Cost }&\text { of Capital }\\ \hline&& & & & \text { Pretax } &\text { After Tax }\\ \hline \text { Debt } & .33 .40 & 12 \% & .35 & 4.2 \% & 4.8 & 2.00 \% \\ \hline \text { Equity } & .67 .65 & 20 \% & -- & 20 \% & 13.00 \% & 13.00 \% \\ \hline & \underline{1.00} & & & & \underline{17.20 \%} & \underline{15 \%} \\ \hline \end{array}\)
Assume that this firm expects to generate $95 million of pretax-free cash flows. Required:
(1)What would be the after-tax free cash flows one year from today?
(2)Assuming a one-year horizon,what is the appropriate valuation to be used by the analyst?
Q2) What is the purpose of a free cash flow analysis?
Q3) Provide the rationale for using expected free cash flow in valuation.
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Page 14
Chapter 13: Valuation: Earnings-Based Approaches
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Sample Questions
Q1) Clean surplus accounting means that net income includes all of the recognized elements of income for the firm for
Q2) Investors have invested $25,000 in common equity in a company.Given the risk inherent in the company the investors expect to earn a 15 percent return.In addition,the investors expect that the company will reinvest all income in projects that will earn 16%.The company is forecasted to earn $6,000 the first year,$5,000 the second year,$5,500 the third year and $6,244 each year after the third year.For this company determine the company's residual income valuation (round all numbers to the nearest dollar).
Q3) Over sufficiently long periods,_________________________ equals free cash flows to common equity.
Q4) When debating the issue of whether to use free cash flows or earnings in a valuation model,economists sometimes argue that ____________________ can be subject to purposeful management by a firm and thus make them less useful.
Q5) Accounting principles make accrual accounting earnings closer to the firm's underlying economic performance in a given period than are
Q6) What is the rationale for using expected earnings as a basis for valuations?
Page 15
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Chapter 14: Valuation: Market-Based Approaches
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Sample Questions
Q1) The value-to-book model indicates that a firm in steady state equilibrium earnings ROCE=RE will be valued at _________________________.
Q2) Strictly speaking,the price-earnings ratio assumes that firm value is the:
A) future value of a constant stream of expected future earnings, discounted at a constant expected future risk-free rate.
B) future value of a constant stream of expected future earnings, discounted at a constant expected future discount rate.
C) present value of a constant stream of expected future earnings, discounted at a constant expected future risk-free rate.
D) present value of a constant stream of expected future earnings, discounted at a constant expected future discount rate.
Q3) The differences in industry market-to-book ratios may be the result of differences in growth,ROCE relative to RE,as well as differences in
Q4) To estimate security's risk-neutral value we can use the _____________________________________________ and risk-free rates of return.
Q5) Explain the analysts' role in making the capital markets efficient.
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