Chapter16 - Answer

CHAPTER

16 16-1.

a

16-2.

d

16-3.

SUBSTANTIVE TESTS OF INCOME STATEMENT ACCOUNTS

Red Company Requirement (1)

Reported net income Subtract ending inventory overstatement Add beginning inventory overstatement Subtract wages payable when incurred Add wages payable when expensed Subtract bad debts Add back prepayments in year recorded as expense Subtract prepayments in year expense is incurred Correct net income

2006

2005

P 35,000

P 27,000

(2,000) 5,000 (800) 700 (400)* 200

(5,000) (700) (1,300) 500

(500) P 37,200

P 20,500

* P1,700 – P1,300 Requirement (2) 2007 Jan. 1

Retained Earnings Insurance Expense Inventory Wages Expense Allowance for Doubtful Accounts

4,300 200 2,000 800 1,700

16-2

Solutions Manual to Accompany Applied Auditing, 2006 Edition

16-4.

Orange Corporation Requirement (1) (1)

(2)

(3)

(4)

Allowance for Uncollectible Accounts Administrative Expenses (37,000 – 19,600) To reflect reduction in loss experience rate. Unrealized Holding Loss on Trading Marketable Securities Valuation Allowance Retained Earnings To reduce marketable securities to market valuation and correct prior year’s profit. Retained Earnings Cost of Sales Merchandise Inventory To adjust for overstatements in opening and closing inventories. a.

b.

(5)

(6)

17,400 17,400

19,000 16,000 3,000

4,000 2,100 6,100

Equipment Operating Expenses Retained Earnings Accumulated Depreciation: Equipment To adjust for error in recording of equipment purchase in 2005 and related depreciation for 2005 and 2006.

12,000 1,100

Accumulated Depreciation: Equipment Equipment Other Income To adjust for misposting of equipment sale.

17,500

Prepaid Expenses Operating Expenses Retained Earnings To adjust for nonrecognition of prepaid expense in 2005 and 2006. Ordinary Shares Capital in Excess of Par To adjust for capital contributed in excess of par value.

10,900 2,200

15,000 2,500

900 900 1,800

60,000 60,000

Substantive Tests of Income Statement Accounts

16-3

Requirement (2) Orange Corporation Computation of Corrected Net Income For Years Ended December 31, 2006 and 2005

Reported income Change in accounts receivable loss experience rate Unrealized loss (gain) on marketable securities Ending merchandise inventories overstated: December 31, 2005 December 31, 2006 Misposting of equipment purchase: Decrease in operating expenses – 2005 Increase in operating expenses – 2006 Misposting of proceeds of equipment sold Recognition of prepaid insurance Corrected net income

2006 Debit (Credit)

2005 Debit (Credit)

P(220,000)

P(195,000)

(17,400) 19,000

--(3,000)

(4,000) 6,100

4,000 (10,900)

1,100 (2,500) 900

(1,800)

P(216,800)

P(206,700)

16-4

Solutions Manual to Accompany Applied Auditing, 2006 Edition

16-5.

XOR Corporation XOR Corporation Worksheet to Correct Net Profit and Balance Sheet Accounts From 2004 to 2006 Net Profit

Unadjusted balance Add (Deduct) Adjustments (1) Overvaluation of inventory 2004 2005 (2) Undervaluation of inventory 2003 2006

2004

2005

2006

Inventory

Retained Earnings

P 7,500

P 6,500

P 5,500

P25,000

P27,000

(7,000)

7,000 (8,000)

8,000

9,000

9,000





Accrued Income





(6,000) 9,000

(3) Prepaid expenses omitted at end of year 2003 2004 2005 2006

(900) 700

(4) Prepaid income omitted at end of year 2004 2006

(700) 500

(400)

(5) Accrued expenses omitted at end of year 2003 2004 2005 2006

75 (100)

125 

600

(300)

(300)

100 ( 50)

( 50)

600

300

50

(125) 

P(5,850)

(500) 600

400

200 ( 75)

(6) Accrued income omitted at end of year 2004 2006 Adjusted amount

Adjustments to Balance Sheet Accounts Prepaid Prepaid Accrued Expenses Income Expenses

P 5,550

150  P22,500

 P34,000

150  P36,400

150  P

600

 P

300

 P

50

 P

150

Substantive Tests of Income Statement Accounts 16-6.

Sun Freight Company 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

a c c a a c a d a a

P107,700 P376,800 P159,000 P320,550 P25,000 P125,000 P68,600 P179,650 P703,250 P144,250

(P112,500 – P4,800) (P204,000 – P45,000)

(P9,500 + P25,000 + P16,250 + P18,250 + P75,250)

16-5