Auditing Problems, CRC-ACE

AUDITING PROBLEMS INSTRUCTIONS: Select the correct answer for each of the following questions. Mark only one answer for each item by writing a VERTICAL LINE corresponding to the letter of your choice on the answer sheet provided. STRICTLY NO ERASURES ALLOWED. Use Pencil No. 2 only. PROBLEM 1 During your audit of Azkals Corp., you established the following data concerning the cash position as of December 31, 2010: Cash and cash equivalents per ledger P 8,425 Cash on hand per count 2,032 Unrecorded Credit memo from bank 100 Unrecorded Debit Memo from bank 5 Cash balance, per bank statement 4,750 30-day time deposit 2,000 Total outstanding checks 817 The cashier prepared the following reconciliation: Balance per bank statements Add: Unrecorded Credit Memo 100 Cash per 2,032 Less Outstanding checks Cash per ledger, December 31, 2010

P 6,750 P count

2,132 P 8,882 457 P 8,425

Required: In preparing your own reconciliation, the adjusted cash and cash equivalents should be a. P7,965 b. P4,833 c. P 5,933 d. P6,393 From your investigation, the cash shortage (if any) is a. P105 b. P360 c. P555 d. P 0

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PROBLEM 2 You were able to obtain the following from the accountant for Younghusband Corp. related to the company’s liabilities as of December 31, 2010. Accounts payable Notes payable – trade Notes payable – bank Wages and salaries payable Mortgage notes payable – 10% Mortgage notes payable – 12% Bonds payable

P 650,000 190,000 800,000 15,000 600,000 1,500,000 2,000,000

The following additional information pertains to these liabilities. All trade notes payable are due within six months of the balance sheet date. Bank notes-payable include two separate notes payable to Allied Bank. (1) A P300,000, 8% note issued March 1, 2006, payable on demand. Interest is payable every six months. (2) A 1-year, P500,000, 11 ½% note issued January 2, 2010. On December 30, 2010, Phil negotiated a written agreement with Allied Bank to replace the note with a 2-year, P500,000, 10% note to be issued January 2, 2009. The interest was paid on December 31, 2010. III. The 10% mortgage note was issued October 1, 2005, with a term of 10 years. Terms of the note give the holder the right to demand immediate payment if the company fails to make a monthly interest payment within 10 days of the date the payment is due. As of December 31, 2010, Phil is three months behind in paying its required interest payment. IV. The 12% mortgage note was issued May 1, 2000, with a term of 20 years. The current principal amount due is P1,500,000. Principal and interest payable annually on April 30. A payment of P220,000 is due April 30, 2009. The payment includes interest of P180,000. V. The bonds payable is 10-year, 8% bonds, issued June 30, 1999. Interest is payable semiannually every June 30 and December 31. I. II.

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Based on the above and the result of your audit, answer the following: Interest payable as of December 31, 2010 is a. P155,000 b. P143,000 c. P203,000 d. P215,000 The portion of the Note Payable-bank to be reported under current liabilities as of December 31, 2010 is a. P300,000 b. P500,000 c. P800,000 d. P0 Total current liabilities as of December 31, 2010 is a. P3,950,000 b. P4,138,000 c. P3,938,000 d. P3,998,000 Total non-current liabilities as of December 31, 2010 is a. P1,760,000 b. P2,560,000 c. P3,960,000 d. P1,960,000 PROBLEM 3 Phil Company included the following in its note receivable as of December 31, 2011: Note receivable from sale of land Note receivable from consultation Note receivable from sale of equipment

P

880,000 1,200,000 1,600,000

In connection with your audit of the company, you gathered the following transactions during 2011 and other information pertaining to the company’s note receivable: 

On January 1, 2011, Phil sold a tract of land to three doctors as an investment. The land, purchased 10 years ago, was carried on the company’s books at P500,000. Phil received a non-interest bearing note for P880,000 from the doctors. There is no readily available market value for the land, but the current market rate of interest for comparable note is 10%.



On January 1, 2011, Phil finished consultation services and accepted in exchange a promissory note with a face value of P1,200,000, due on December 31, 2011, and with stated rate of 5%with such interest receivable at the end of each year. The fair value of the services is not readily determinable and the note is not readily marketable. Under the circumstances ,the note is considered to have an appropriate imputed rate of interest of 10%.

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On January 1, 2011, Phil sold equipment with a carrying amount of P1,600,000 to X Company. As payment, X gave Phil a P2,400,000 note. The note bears an interest rate of 4% and is to be repaid in 3 annual installments of P800,000 ( plus interest on the outstanding balance ). The first payment was received on December 31, 2011. The market price of the equipment is not readily determinable. The prevailing rate of interest for notes of this type is 14%.

Based on the above and the result of your audit, answer the following: The consultation service fee revenue that should be recognized in 2011 is a. 901,600 b. 1,050,800 c. 1,095,800 The gain on sale of equipment that should be recognized in 2011 is a. 257,280 b. 331,600 c. 412,400

d. 1,200,000

d. 800,000

The non-current notes receivable as of December 31, 2011 is a. 1,825,800 b. 2,494,000 c. 2,605,706 d. 2,625,700 The current portion of long-term notes receivable as of December 31, 2011 is a. 800,000 b. 1,468,200 c. 1,600,000 d. 1,680,000 The interest income to be recognized in 2011 is a. 156,000 b. 435,800

c. 459,500

d. 464,000

PROBLEM 4

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Cloud Nine Corporation manufactures and sells food products and food processing machinery. Its balance sheet date is December 31. Relevant extracts from its financial statements at December 31, 2009 are as follows: Current liabilities Provision Provision for warranties Noncurrent liabilities Provision Provision for warranties

P270,000

Note 36 - Contingent Liabilities

Cloud Nine is engaged in litigation with various parties in relation to allergic reactions to traces of peanuts alleged to have been found in packet of fruit gums. Cloud Nine strenuously denies the allegations and, as at the date of authorizing the financial statements for issue, is unable to estimate the financial effect, if any, of any costs or damages that may be payable to the plaintiffs. 180,000

The provision for warranties at December 31, 2009 was calculated using the following assumptions: There was no balance carried forward from the prior year. Estimated cost of repairs - products with minor defects P1,000,000 Estimated cost of repairs - products with major defects P6,000,000 Expected % of products sold during 2009 having no defects in 2010 80% Expected % of products sold during 2009 having minor defects in 15% 2010 Expected % of products sold during 2009 having major defects in 5% 2010 Expected timing of settlement of warranty payments - those with All in 2010 minor defects Expected timing of settlement of warranty payments - those with 40% in 2010, major defects 60% in 2011 During the year ended December 31, 2010, the following occurred: 1. In relation to the warranty provision of P450,000 at December 31, 2009, P200,000 was paid out of the provision. Of the amount paid, P150,000 was for products with minor defects and P50,000 was for products with major defects, all of which related to amounts that had been expected to be paid in 2010. 2. In calculating its warranty provision for December 31, 2010, Cloud Nine made the following adjustments to the assumptions used for the prior year: Estimated cost of repairs - products with minor defects No change Estimated cost of repairs - products with major defects P5,000,000 Expected % of products sold during 2010 having no defects in 2011 85% Expected % of products sold during 2010 having minor defects in 13% 2011 Expected % of products sold during 2010 having major defects in 2% 2011 Expected timing of settlement of warranty payments - those with All in 2011 minor defects Expected timing of settlement of warranty payments - those with 20% in 2011, major defects 80% in 2012 3. Cloud Nine determined that part of its plant and equipment needed an overhaul - the conveyor belt on one of its machines would need to be replaced in about December 2011 at an estimated cost of P250,000. The carrying amount of the conveyor belt at December 31, 2009 was P140,000. Its original cost was P200,000.

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4. Cloud Nine was unsuccessful in its defense of the peanut allergy case and was ordered to pay P1,500,000 to the plaintiffs. As at December 31, 2010, Cloud Nine had paid P800,000. 5. Cloud Nine commenced litigation against one of its advisers for negligent advice given on the original installation of the conveyor belt referred to in (3) above. In October 2010, the court found in favor of Cloud Nine. The hearing for damages had not been scheduled as at the date the financial statements for 2010 were authorized for issue. Cloud Nine estimated that it would receive about P425,000. 6. Cloud Nine signed an agreement with Choc Nut Bank to the effect that Cloud Nine would guarantee a loan made by Choc Nut Bank to Cloud Nine’s subsidiary, Nougat Ltd. Nougat’s loan with Choc Nut Bank was P3,200,000 as at December 31, 2010. Nougat was in strong financial position at 31 December 2010 Based on the above and the result of your audit, answer the following: The warranty expense in 2010 is a. P100,000 b. P400,000 c. P160,000 d. P230,000 The provision for warranties as of December 31, 2010 is a. P580,000 b. P230,000 c. 480,000 d. P410,000 The provision for warranties to be reported as current liability as of December 31, 2010 is a. P220,000 b. P150,000 c. P400,000 d. P330,000 The provision for warranties to be reported as noncurrent liability as of December 31, 2010 is a. P80,000 b. P260,000 c. P150,000 d. P330,000 Total provisions to be reported in the balance sheet as of December 31, 2010 is a. P480,000 b. P410,000 c. P1,180,000 d. P1,360,000

PROBLEM 5 FIFA Corp. invested its excess cash in available-for-sale securities (AFS) during 2009. As of December 31, 2009, the company’s AFS securities portfolio consisted of the following: Shares Cost Fair Value J 30,000 P 450,000 P 630,000 G 60,000 1,500,000 1,260,000 S 60,000 2,160,000 1,800,000 During the year 2010, FIFA sold 60,000 shares of G for P1,146,000 and purchased 60,000 additional shares of J and 30,000 and V Company. On December 31, 2010, FIFA’s portfolio of AFS securities comprised the following Shares Cost Fair Value J 30,000 P 450,000 P 600,000 J 60,000 1,140,000 1,200,000 V 30,000 480,000 360,000 S 60,000 2,160,000 660,000 During the year 2011 Luxor sold all the J shares for P1,197,000 and 15,000 shares of V at a loss of P81,000. On December 31, 2011, FIFA’s portfolio of AFS consisted of the following: Shares Cost Fair Value V 15,000 P 240,000 P 180,000 S 60,000 2,160,000 2,460,000 Required: What should be reported on FIFA’s balance sheet as of December 31, 2009? AFS Securities Unrealized Holding Loss a. 3,690,000 4,200,000 b. 4,110,000 0 Page 4 of 9

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c. 3,690,000 0 d. 3,150,000 600,000 What should be reported on FIFA’s balance sheet as of December 31, 2010? AFS Securities Unrealized Holding Loss a. 2,820,000 0 b. 4,230,000 0 c. 2,820,000 1,410,000 d. 2,610,000 1,620,000 What should be reported on FIFA’s balance sheet as of December 31, 2011? AFS Securities Unrealized Holding Loss a. 2,640,000 240,000 b. 2,340,000 60,000 c. 2,400,000 0 d. 2,640,000 0 What is the realized gain or loss on sale of G shares in 2010? a. 354,000 loss c. 354,000 gain b. 114,000 gain d. 114,000 gain What amount should be reported on Causeway’s 2011 income statement at realized gain or loss on sale of securities? a. 234,000 gain c. 474,000 loss b. 714,000 gain d. 393,000 loss

PROBLEM 6 The net income for Alfred Gomez Co. for 2010 was P303,000 and P232,200 for 2011. However, the accountant noted that the following errors had been made: Deposits received from customers in the amount of P114,600 for goods to be delivered in 2011 were recorded as sales in 2010 The inventory on December 31, 2010, was understated by P25,920 due to error in physical count. The bookkeeper recorded interest expense of 15,000 in both 2010 and 2011 in relation to P250,000 face value bonds. Further examination disclosed that these bonds were issued for P235,000 on January 1, 2010, to yield 7% annually. Ordinary repairs to equipment had been erroneously charged to the Equipment account during 2010 and 2011 for P25,500 and P30,000, respectively. The Company applies a rate of 10% to the balance in the equipment account at the end of the year in its determination of depreciation charges. Questions The adjusted 2010 net income is: a. P 422,120 b. P 419,120

c. P 192,920

d. P 189,920

The adjusted 2011 net income is: a. P 294,878 b. P 291,878

c. P 180,278

d. P 65,678

PROBLEM 7 The controller of R.M.D. Company is attempting to determine the amount of cash to be reported on its December 31, 2011 balance sheet. The following information is provided: I.

Commercial savings account of P1,000,000 and a commercial checking account balance of P900,000 are held at Phil. Banking Corporation.

II. Money market fund account held at Allied Bank, P600,000 Page 5 of 9

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III. Travel advance of P180,000 for executive travel for the first quarter of next year (employee to reimburse through salary reduction) IV. A separate fund in the amount of P1,500,000 is restricted for the retirement of long-term debt. V. Petty cash fund, P5,000 VI. An IOU from Ronel David, a company officer, in the amount of P10,000. VII. A bank overdraft of P110,000 from BPI. VIII. The company has two certificates of deposit, each totaling P500,000. These certificates of deposit have a maturity of 120 days. IX. R.M.D. Company has received a check from a customer dated January 12, 2007 in the amount of P125,000. X. Currency and coins on hand amounted to P5,300. R.M.D. COMPANY’S adjusted cash and cash equivalents balance at December 31, 2011 is: a. P 1,910,300 b. P 2,400,300 c. P 2,510,300 d. P 3,510,300 PROBLEM 8 On January 1, 2012, D4D Corporation engaged an independent CPA to perform an audit for the year ended December 31, 2011. The company uses a periodic inventory system. The CPA did not observe the inventory count on December 31, 2011, as a result, a special examination was made of the inventory records. The financial statements prepared by the company showed the following: ending inventory, P72,000; accounts receivable, P60,000; accounts payable, P30,000; sales, P400,000; net purchases, P160,000, and pretax income P51,000. The following data were found during the audit: 1. Merchandise received on January 2, 2012, costing P800 was recorded on December 31, 2011. An invoice on hand showed the shipment was made fob supplier’s warehouse on December 31, 2011. Because the merchandise was not on hand at December 31, 2011, it was not included in the inventory. 2. Merchandise that cost P18,000 was excluded from the inventory, and the related sale for P23,000 was recorded. The goods had been segregated in the warehouse for pick up by the customer who ordered over the phone. 3. Merchandise that cost P10,000 was out on consignment for Valentin Distributing Company and was excluded from the ending inventory. The merchandise was recorded as a sale P25,000 when shipped to Valentin on December 29, 2011. 4. A sealed packing case containing a product costing P900 was in D4D’s shipping room when the physical inventory was taken. It was included in the inventory because it was marked “Hold for customer’s shipping instructions.” Investigation revealed that the customer signed a purchase contract dated December 18, 2011, but that case was shipped and the customer billed on January 10, 2012. A sale for P1,500 was recorded on December 31, 2011. 5. A special item, fabricated to order for a customer, was finished and in the shipping room on December 31, 2011. The customer has inspected it and was satisfied. The customer was billed in full on that sale in the amount of P5,000. The item was included in inventory at cost, P1,000 because it was shipped on January 4, 2012. 6. Merchandise costing P15,600 was received on December 28, 2011. The goods were excluded from inventory, and a purchase was not recorded. The auditor located the related papers in the hands of the purchasing; they indicated, “On consignment from Roselyn Company”. 7. Merchandise costing P2,000 was received on January 8, 2012, and the related purchase invoice recorded January 9. The invoice showed the shipment was made on December 29, 2011, fob destination. The merchandise was excluded from the inventory. Page 6 of 9

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8. Merchandise that cost P6,000 was excluded from the ending inventory and not recorded as a sale for P7,500 on December 31, 2011. The goods had been specifically segregated. According to the terms of the contract of sale, ownership will not pass until actual delivery. 9. Merchandise that cost P15,000 was included in the ending inventory. The related purchase has not been recorded. The goods had been shipped by the vendor fob destination, and the invoice was received on December 30, 2011. The goods was received on January 5, 2012. 10.Merchandise in transit that cost P7,000 was excluded from inventory because it was not on hand. The shipment from the vendor was fob shipping point. The purchase was recorded on December 29, 2011, when the invoice was received. 11.Merchandise in transit that cost P13,000 was excluded from inventory because it had not arrived. Although the invoice had arrived, the related purchase was not recorded by December 31, 2011. The merchandise shipped fob shipping point by the vendor. 12.Merchandise that cost P8,000 was included in the ending inventory because it was on hand. The merchandise had been rejected because of incorrect specifications and was being held for return to the vendor. The merchandise was recorded as a purchase on December 26, 2011. Questions: Based on your analysis and the information above, answer the following: The adjusted balance a. P 101,900 The adjusted balance a. P 10,500 The adjusted balance a. P 43,000 The adjusted balance a. P 377,000 The adjusted balance a. P 152,000 The adjusted balance a. P 27,300

of inventory at year-end is: b. P 102,000 c. P 102,800 d. P 120,400 of accounts receivable at year-end is: b. P 12,000 c. P 35,000 d. P 37,000 of accounts payable at year-end is: b. P 35,000 c. P 30,000 d. P 22,000 of Sales at year-end is: b. P 352,000 c. P 350,500 d. P 347,000 of Net Purchases at year-end is: b. P 165,000 c. P 173,000 d. P 181,000 of Pre-tax income at year-end is: b. P 29,000 c. P 29,800 d. P 35,800

PROBLEM 9 You are the risk management partner of RT & Company. The following issues relating to property and equipment were brought to your attention. For each of the following issue, determine the amount of depreciation expense that should be recognized each year. 1. As part of their remuneration package an entity provides each senior manager with the private use of a luxury motor vehicle of the manager’s choice. The executive motor vehicles cost P2,000,000 each and are replaced every two years irrespective of usage. The entity sells its motor vehicles at 25% if its original price after two years when the vehicles are expected to be economically usable by other users for at least another three years. 2. An entity bought an equipment for P300,000. An entity does not service its equipment regularly. With regular servicing the equipment would be available for use for five years. However, the expected equipment servicing pattern is expected to render the equipment unusable in three years. 3. An entity’s equipment used to manufacture a patented drug is expected to be capable of producing the drug for ten years. However, the entity expects to stop manufacturing the drug and scrap the equipment after five years of production when its patent expires and low cost generic drugs are expected to render the entity’s manufacturing of this drug unprofitable. The cost of this equipment is P4,000,000. 4. An entity has the right to use an item of equipment in accordance with the terms of a finance lease. The equipment is capable of operating for 15 years. However, the lease term is 10 years and the entity is required to return the equipment to the lessor at the Page 7 of 9

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end of the lease term. The fair value of the equipment at the inception of the lease is P600,000. How much should be recognized as depreciation expense for the luxury motor vehicle? a. P1,000,000 b. P 750,000 c. P 400,000 d. P 300,000 The correct amount of depreciation expense to be recognized each year is: a. P 1,210,000 b. P 1,270,000 c. 820,000 d. P 1,710,000 33. An auditor analyze repairs and maintenance accounts primarily to obtain evidence in support of the audit assertion that all a. Noncapitalizable expenditures for repairs and maintenance have been recorded in the proper period b. Expenditures for property and equipment have been recorded in the proper period c. Noncapitalizable expenditures for repairs and maintenance have been properly charged to expense d. Expenditures for property and equipment have not been charged to expense 34. The auditor may conclude that depreciation charges are insufficient by noting a. Insured values greatly in excess of book values b. Continuous trade-ins of relatively new assets c. Large numbers of fully depreciated assets d. Excessive recurring losses on assets retired PROBLEM 10 In connection with your examination of different clients covering the period January 1 to December 31, 2011, you were faced with the following issues involving revenue recognition. 1. On 1 January 20X1 a gold merchant that had recently acquired an executive jet received landing rights at a local airport in exchange for 100 ounces of gold, when gold was trading at P10,000 per ounce. 2. On 1 January 20X1, in order to fulfil an urgent order from a customer, fuel retailer X received 180,000 litres of motor fuel in City A from another fuel retailer Y in exchange for 180,000 litres of its motor fuel in City B. Motor fuel costs P30 per litre. 3. A retailer sells goods for P103 per unit, inclusive of P3 sales tax that it collects on behalf of the national government. 4. A manufacturer sells goods to its customers through an intermediary. The intermediary holds the goods on consignment from the manufacturer. The intermediary may return any goods not sold to the manufacturer. The manufacturer instructs the intermediary to sell the goods at P100 per unit. The intermediary deducts fixed commission of P10 for each unit sold and transfers the balance (P90) to the manufacturer. If goods are found to be defective, the customers must return the goods to the manufacturer for repair or replacement 5. A manufacturer sells goods to an intermediary at P90. The intermediary purchases the goods for resale to others. Only the intermediary has the right to return any defective units to the manufacturer. The intermediary wishes to make a P10 margin on its sales and so it sells the goods at P100 per unit to customers. If goods are found to be defective, the customers must return the goods to the intermediary for repair or replacement. 6. A car dealership sells new cars to customers. Furthermore, as a limited period offer at no extra charge, the dealer undertakes to maintain the car for three years from the date of purchase. Normally the dealership charges extra for the maintenance services and it is possible for a customer to purchase both the car and the maintenance services separately. 7. A luxury yacht manufacturer sells a yacht to a bank for P1,000,000 and simultaneously enters into an agreement to repurchase the yacht from the bank for P1,080,000 one year later. On the date of entering into the transaction, the fair value of the yacht was P2,000,000 and the manufacturer’s incremental borrowing rate approximated 8% per year. The bank does not have the right to sell the yacht. 8. A grocery retailer operates a customer loyalty programme. It grants programme members loyalty points when they spend a specified amount on groceries. Programme members can redeem the points for further groceries. The points have no expiry date. A grocery retailer operates a customer loyalty programme. It grants programme members loyalty points when they spend a specified amount on groceries. Programme members can redeem the points for further groceries. The points have no expiry date. 9. A manufacturer of vending machines sells ten vending machines to an amusement park on credit. Payment is due within three months of delivery. For all sales on credit Page 8 of 9

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the manufacturer writes into the contract a clause that legal title passes only when consideration is received and not on delivery. 10.A retailer offers its customers a lifetime right of return on sales of torches. Customers may return their torches for any reason, at any time, on presentation of a valid receipt and have their money refunded. Consistent historical data show that approximately 1 per cent of sales are refunded. The retailer expects this refund rate to continue in the future. How much total revenue should be recognized for items 1 and 2 a. P0 b. P1,000,000 c. P5,400,000 d. P6,400,000

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How much revenue should recognized for items 3 to 5 assuming 1 unit of each product is sold? a. P300 b.P280 c. P290 d. P293

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What type of revenue should be recognized in for item 6? a. Sale of goods c. Sale of goods and services b. Sale of services d. No revenue should be recognized.

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How much revenue should be recognized for item 7? a. P1,000,000 c. P2,000,000 b. b. P1,080,000 d. no recognized.

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How should the customers’ loyalty points in item 8 be accounted for a. as a contra-asset c. As a revenue b. as a liability d. not accounted for

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Which of the two remaining items (9 and 10) will result in a recognition of revenue a. Item 9 only b. item 10 only c. both 9 and 10 d. none of the above

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