Auditing and Assurance Services Louwers 6th Edition Test Bank

Auditing and Assurance Services Louwers 6th Edition Test Bank
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Chapter 06
Employee Fraud and the Audit of Cash
Multiple Choice Questions
1. When auditing financial statements and finding indications of a possible misappropriation of

assets, independent auditors should
A. investigate fully to determine the total amount of the misappropriation.

B. determine which accounts are affected and the amount by which they are overstated or
understated.
C. determine the methods by which the misappropriation was carried out.
D. identify a person(s) who are likely responsible for the misappropriation and obtain evidence
about some other fraud indications in their work.
E. all of these.
2. When an employee embezzles company funds from an electric utility company for the purpose of
paying expenses of an anti-nuclear protest organization, the fraudster's motive is said to be
A. psychotic.
B. egocentric.
C. ideological.
D. economic.
3. Which of the following management policies would increase the probability of fraud in a
company?
A. Diversifying authority throughout divisions and subsidiaries in the organization

B. Measuring performance and awarding bonuses based on short-term operating results
C. Giving employees performance feedback that considers positive and constructive praise along
with critical and negative observations on their work
D. Establishing work teams that share responsibilities, performance, and bonuses based on
collective efforts
6-1
4. An auditor has identified the controller's review of the bank reconciliation as a control to test. In
connection with this test, the auditor interviews the controller to understand the specific data
reviewed on the reconciliation. In addition, the auditor verifies that the bank reconciliation is
properly prepared by the accountant and reviewed by the controller as evidenced by their
respective sign-offs. Which of the following types of audit procedures do these actions illustrate?
A. Observation and inspection of records

B. Confirmation and reperformance
C. Inquiry and inspection of records
D. Analytical procedures and reperformance
5. Each of the following is a type of known misstatement, except
A. an inaccuracy in processing data.

B. the misapplication of accounting principles.
C. differences between management and the auditor's judgment regarding estimates.
D. a difference between the classification of a reported financial statement element and the
classification according to generally accepted accounting principles.
6. Which of the following situations most likely represents the highest risk of a misstatement arising
from misappropriation of assets?
A. A large number of bearer bonds on hand

B. A large number of inventory items with low sales prices
C. A large number of transactions processed in a short period of time
D. A large number of fixed assets with easily identifiable serial numbers
7 A company employs three accounts payable clerks and one treasurer. Their responsibilities are as
. follows:
Which of the following would indicate a weakness in the company's internal controls?
A. Clerk 1 opens all of the incoming mail.

B. Clerk 2 reconciles the accounts payable ledger with the general ledger monthly.
C. Clerk 3 mails the checks and remittances after they have been signed.
D. The treasurer uses a stamp for signing checks.
6-2
8. An auditor is considering whether the omission of the confirmation of investments impairs the
auditor's ability to support a previously expressed unmodified opinion. The auditor need not
perform this omitted procedure if
A. the results of alternative procedures that were performed compensate for the omission.
B. the auditor's assessed level of detection risk is low.
C. the omission is documented in a communication with the audit committee.
D. no individual investment is material to the financial statements taken as a whole.
9. Which of the following is not considered one of the three factors increasing the probability of
fraud?
A. Motive
B. Lack of training
C. Opportunity
D. Rationalization
10. Which of the following is ordinarily considered an "extended procedure" during the independent
audit of financial statements?
A. Send positive confirmations on recorded customer accounts receivable balances.

B. Perform physical observation and test count during the client's inventory taking.
C. Measure the time lag between the date of recording cash receipts in the books to the date of
deposit credit in the bank.
D. Conduct interviews with the client's sales billing personnel to learn about sales recording
control activities.
11. If the amount of a check is altered by an employee after it has cleared the bank, the change can
be detected by
A. comparing the amount written on the check face to the amount written in the cash
disbursements journal.
B. comparing the magnetic imprint of the amount paid to the amount written on the check face.
C. examining the endorsement on the back of the check.
D. comparing the check number on the face of the check to the check number in the cash
12. Which of the following would be consistent with an employee taking cash receipts from customers
on account?
A. The total of the accounts receivable subsidiary ledger balances is less than the accounts
receivable control account.
B. The total of the accounts receivable subsidiary ledger balances is greater than the accounts
C. Total cash receipts from customers for the month are less than credit sales for the month.
D. Total cash receipts from customers for the month are greater than credit sales for the month.
6-3
13. An audit plan of substantive procedures for cash would not include
A. request a cutoff bank statement be mailed to the client.

B. request client to prepare bank reconciliations.
C. prepare a schedule of interbank transfers for a period of ten business days before and after
year-end date.
D. obtain a written client representation concerning compensating balance agreements.
14. In the audit of cash the auditor obtains a bank cutoff statement primarily to
A. identify old outstanding checks that the client may exclude from the year-end bank
reconciliation in order to misappropriate cash.
B. obtain sufficient information to reconcile the client's bank account as of year-end.
C. obtain direct confirmation of the client's bank balances as of year-end.
D. test the propriety of items appearing on the client's year-end bank reconciliation.
15. Auditors ordinarily send a standard confirmation request to all banks with which the client has
done business during the year under audit, regardless of the year-end balances. A purpose of
this procedure is to
A. provide the data necessary to prepare a proof of cash.

B. request that a cutoff bank statement and related checks be sent to the audit.
C. detect questionable bank activities that may otherwise not be discovered.
D. seek information about contingent liabilities and security agreements.
16. To gather evidence regarding the bank's balance in a bank reconciliation, an auditor would
examine all of the following except the
A. cutoff bank statement.

B. general ledger.
C. bank confirmation.
D. year-end bank statement.
17. An entity with a large volume of customer remittances by mail could most likely reduce the risk of
employee misappropriation of cash by using
A. employee fidelity bonds.

B. independently prepared mailroom prelists.
C. daily check summaries.
D. a bank lockbox system.
18. Which of the following sets of information does an auditor usually confirm on one form?
A. Accounts payable and purchase commitments

B. Cash in bank and collateral for loans
C. Inventory on consignment and contingent liabilities
D. Accounts receivable and accrued interest receivable
6-4
19. An unrecorded check issued during the last week of the year would most likely be discovered by
the auditor when the
A. check register for the last month is reviewed.

B. cutoff bank statement is reconciled.
C. bank confirmation is reviewed.
D. search for unrecorded liabilities is performed.
20. An auditor wishes to perform tests of controls on a client's cash disbursements procedures. If the
control activities leave no audit trail of documentary evidence, the auditor most likely will test the
activities by
A. confirmation and observation.

B. observation and inquiry.
C. analytical procedures and confirmation.
D. inquiry and analytical procedures.
21. To provide assurance that each voucher is submitted and paid only once, an auditor most likely
would examine a sample of paid vouchers and determine whether each voucher is
A. supported by a vendor's invoice.

B. stamped "paid" by the check signer.
C. prenumbered and accounted for.
D. approved for authorized purchases.
22. In order for auditors to be able to recognize potential fraud, they must be aware of the basic
characteristics of fraud. Which of the following is not a characteristic of fraud?
A. Intentional deception
B. Taking unfair or dishonest advantage of other people
C. Perpetration for the benefit or detriment of the organization
D. Negligence on the part of executive management
23. An auditor who discovers that client employees have committed an illegal act that has a material
effect on the client's financial statements most likely would withdraw from the engagement if
A. the illegal act is a violation of generally accepted accounting principles.

B. the client does not take the remedial action that the auditor considers necessary.
C. the illegal act was committed during a prior year that was not audited.
D. the auditor has already assessed control risk at the maximum level.
6-5
24. An auditor would least likely initiate a discussion with a client's audit committee concerning
A. the methods used to account for significant unusual transactions.

B. the maximum dollar amount of misstatements that could exist without causing the financial
statements to be materially misstated.
C. indications of fraud and illegal acts committed by a corporate officer that were discovered by
the auditor.
D. disagreements with management as to accounting principles that were resolved during the
current year's audit.
25. Which of the following statements is correct with respect to the elements of the "fraud triangle"?
A. Motive is a cause that pressures people into action.

B. Opportunity refers to a situation that allows someone with motive to carry out fraud.
C. A lack of integrity describes a person who does not stick to the social or organizational ethical
code.
D. Fraud is most common when these three factors exist together.
E. All of these statements are correct.
26. Narbona, CPA is reviewing controls over cash received through a bank night depository. Which
controls would she find most important?
A. Responsibilities are rotated for processing night depository receipts among employees of the
various departments.
B. Dual control (joint custody) is established over the contents of the night depository box from
the time of removal until initial recording is completed.
C. Vacations are required for all employees engaged in night depository activities.
D. All deposit tickets related to night deposits are numbered.
27. Your client is in the process of acquiring another company. You have been requested to verify
that cash for the company being acquired is properly stated. The audit technique that will yield the
most persuasive evidence is
A. examination of the company's escrow account.

B. interview with the company's treasurer and cash manager.
C. preparation and review of standard bank confirmation inquiries.
D. analytical computations comparing current cash in the bank with previous accounting periods.
28. A proof of cash
A. is required by GAAS.
B. can be used to test the transactions process.
C. is most helpful when control risk for cash is low.
D. always detects lapping.
6-6
29. When counting cash on hand the auditor must exercise simultaneous control over all cash and
other negotiable assets to prevent
A. theft.
B. irregular endorsement.
C. replacement or substitution of stolen assets.
D. deposits in transit.
30. As payments are received, one mailroom employee is assigned the responsibility of prelisting
receipts and preparing the deposit slip prior to forwarding the receipts, deposit slip, and
remittance advices to accounts receivable for posting. Accounts receivable personnel re-foot the
deposit slip, stamp a restrictive endorsement on the back of each check, and then forward the
receipts and deposit slip to the treasury department. Evaluate the internal control of the described
process. Which of the following is a reasonable assessment of internal control in this process?
A. Adequate internal control

B. Inadequate internal control because mailroom employees should not have access to cash
C. Inadequate internal control because treasury employees should prepare the deposit slip
D. Inadequate internal control because of a lack of separation of duties
31. Which of the following should be performed by the persons opening the mail and recording
payments?
A. Restrictive endorsement on all checks

B. Entering of payment information into customer accounts
C. The preparation of the deposit slip and the delivery of the checks to the bank
D. The segregation of all payments made on accounts listed as past due
32. At the end of each business day, Safe Company sends its bank a listing of all checks written
during the day including the check number, payee, and amount. When a check is sent to the bank
for payment the bank compares the payee and the amount with the listing provided by Safe
Company. This system is called
A. PayChex.
B. Pay-As-You-Go.
C. Positive Pay.
D. Pay Master.
33. The mail which includes payments should be opened by two people. This control is called
A. separation of duties.
B. joint custody.
C. anti-collusion.
D. lapping.
6-7
34. Most fraud investigators utilize the fraud triangle theory. A new theory called the fraud diamond
has been proposed. Which of the following is an element of the fraud diamond and is not an
element of the fraud triangle?
A. Motive
B. Opportunity
C. Capability
D. Liquidity
Short Answer Questions
35. Auditors are auditing the cash receipts for Great Wall Corporation. For each audit procedure
performed (numbered 1 - 5 below) select the control objective being tested by placing the correct
letter in the blank.
A. Existence
B. Completeness
C. Authorization
D. Accuracy
E. Classification
F. Accounting and posting
G. Proper period
____ 1. For a sample of recorded cash receipts, the auditors compared the date of receipt to the
recording date.
____ 2. The auditors traced a sample of daily cash reports to the cash receipts journal.
____ 3. The auditors vouched a sample of recorded cash receipts to the deposits in the bank
statement.
____ 4. The auditors recalculate the cash listed on the daily deposit for a sample of recorded
cash receipts.
____ 5. The auditors traced a sample of recorded cash receipts to postings in the correct
customers' accounts.
Essay Questions
6-8
36. When you examine canceled checks returned in the bank statement by a client's bank, how could
you tell whether the amount on the check had been skillfully raised (increased, say, from $75.00
to $7,500 in the amount box, and altered in the written line from "Seventy-five dollars" to
"Seventy-five hundred dollars") after the check was cleared by the bank? (An employee might do
this to "support" a $7,500 cash disbursement journal entry.)
37. After checks are signed for vendor invoices, why should vouchers be marked "paid" or otherwise
mutilated?
38. List, and briefly describe, the three factors that increase the probability of fraud.
6-9
39. What kind of error or fraud could happen if the inventory warehouse manager also had
responsibility for making the physical inventory count and reconciling discrepancies to the
perpetual inventory records?
40. Describe how a lockbox works and indicate the advantages of such a system.
41. Ed's wife Diane owns a printing business in town. Ed works in the accounts payable department
of Jiffy Abs Vitamin Company. Diane prints invoices for work supposedly done for Jiffy Abs (no
actual work was performed) and Ed places in the invoice in the approved for payment invoice
pile. Jiffy Abs pays these invoices and sends Diane a check.
1. Name two internal controls that might prevent or detect these fraudulent payments.
2. Name two audit procedures that might detect this fraud.
6-10
42. Micro Chip Corporation (MCC) has a special PO Box for customer payments. Jane is responsible
for:
• going to the post office every day,

• emptying the post office box,
• opening the mail,
• making a prelist,
• sending the remittance advices to accounts receivable, and
• sending the checks to the cashier's office.
Jane has opening a business account at her bank for Master Cleaning Company (MCC). Several
of Micro Chips checks are made out with only the initials MCC. Jane selects certain checks made
out only with the initials MCC and deposits them in her business account. She would destroy the
remittance advice.
1. Name two controls that would prevent or detect this fraud.

6-11
Chapter 06 Employee Fraud and the Audit of Cash Answer Key
Multiple Choice Questions
1. When auditing financial statements and finding indications of a possible misappropriation of

assets, independent auditors should
A. investigate fully to determine the total amount of the misappropriation.

B. determine which accounts are affected and the amount by which they are overstated or
understated.
C. determine the methods by which the misappropriation was carried out.
D. identify a person(s) who are likely responsible for the misappropriation and obtain evidence
about some other fraud indications in their work.
E. all of these.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Accessibility: Keyboard Navigation
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 06-07 Describe some extended procedures for detecting employee fraud schemes involving cash.
Source: Original
Topic: "Extended Procedures" to Detect Fraud
2. When an employee embezzles company funds from an electric utility company for the purpose
of paying expenses of an anti-nuclear protest organization, the fraudster's motive is said to be
A. psychotic.
B. egocentric.
C. ideological.
D. economic.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 06-02 Identify and explain the three conditions (i.e.; the fraud triangle) that often exist when a fraud occurs.
Source: Original
Topic: The Fraud Triangle
6-12
3. Which of the following management policies would increase the probability of fraud in a
company?
A. Diversifying authority throughout divisions and subsidiaries in the organization

B. Measuring performance and awarding bonuses based on short-term operating results
C. Giving employees performance feedback that considers positive and constructive praise
along with critical and negative observations on their work
D. Establishing work teams that share responsibilities, performance, and bonuses based on
collective efforts
AACSB: Analytic
AICPA: BB Critical Thinking
AICPA: FN Risk Analysis
Blooms: Apply
Learning Objective: 06-03 Describe techniques that can be used to prevent employee fraud.
Source: Original
Topic: Fraud Prevention
4. An auditor has identified the controller's review of the bank reconciliation as a control to test. In
connection with this test, the auditor interviews the controller to understand the specific data
reviewed on the reconciliation. In addition, the auditor verifies that the bank reconciliation is
properly prepared by the accountant and reviewed by the controller as evidenced by their
respective sign-offs. Which of the following types of audit procedures do these actions
illustrate?
A. Observation and inspection of records

B. Confirmation and reperformance
C. Inquiry and inspection of records
D. Analytical procedures and reperformance
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 3 Hard
Learning Objective: 06-04 Describe the control activities over the receipt and disbursement of cash.
Source: AICPA
Topic: Cash Internal Control Considerations
5. Each of the following is a type of known misstatement, except
A. an inaccuracy in processing data.

B. the misapplication of accounting principles.
C. differences between management and the auditor's judgment regarding estimates.
D. a difference between the classification of a reported financial statement element and the
classification according to generally accepted accounting principles.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Learning Objective: 06-01 Define and explain the differences among several kinds of employee fraud that might occur at an
6-13
audit client.
Source: AICPA
Topic: Employee Fraud Overview
6. Which of the following situations most likely represents the highest risk of a misstatement
arising from misappropriation of assets?
A. A large number of bearer bonds on hand

B. A large number of inventory items with low sales prices
C. A large number of transactions processed in a short period of time
D. A large number of fixed assets with easily identifiable serial numbers
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 3 Hard
audit client.
Source: AICPA
7 A company employs three accounts payable clerks and one treasurer. Their responsibilities are as
. follows:
Which of the following would indicate a weakness in the company's internal controls?
A. Clerk 1 opens all of the incoming mail.

B. Clerk 2 reconciles the accounts payable ledger with the general ledger monthly.
C. Clerk 3 mails the checks and remittances after they have been signed.
D. The treasurer uses a stamp for signing checks.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 3 Hard
Source: AICPA
6-14
8. An auditor is considering whether the omission of the confirmation of investments impairs the
auditor's ability to support a previously expressed unmodified opinion. The auditor need not
perform this omitted procedure if
A. the results of alternative procedures that were performed compensate for the omission.
B. the auditor's assessed level of detection risk is low.
C. the omission is documented in a communication with the audit committee.
D. no individual investment is material to the financial statements taken as a whole.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 3 Hard
Learning Objective: 06-05 Describe the types of substantive procedures that are conducted during the audit of cash.
Source: AICPA
Topic: The Audit of Cash
9. Which of the following is not considered one of the three factors increasing the probability of
fraud?
A. Motive
B. Lack of training
C. Opportunity
D. Rationalization
AACSB: Analytic
AICPA: BB Legal
Blooms: Remember
Difficulty: 1 Easy
Source: Original
10. Which of the following is ordinarily considered an "extended procedure" during the
independent audit of financial statements?
A. Send positive confirmations on recorded customer accounts receivable balances.

B. Perform physical observation and test count during the client's inventory taking.
C. Measure the time lag between the date of recording cash receipts in the books to the date
of deposit credit in the bank.
D. Conduct interviews with the client's sales billing personnel to learn about sales recording
control activities.
AACSB: Analytic
AICPA: BB Resource Management
Blooms: Apply
Source: Original
6-15
11. If the amount of a check is altered by an employee after it has cleared the bank, the change
can be detected by
A. comparing the amount written on the check face to the amount written in the cash
B. comparing the magnetic imprint of the amount paid to the amount written on the check
face.
C. examining the endorsement on the back of the check.
D. comparing the check number on the face of the check to the check number in the cash
AACSB: Analytic
Blooms: Understand
Source: Original
12. Which of the following would be consistent with an employee taking cash receipts from
customers on account?
A. The total of the accounts receivable subsidiary ledger balances is less than the accounts
B. The total of the accounts receivable subsidiary ledger balances is greater than the
accounts receivable control account.
C. Total cash receipts from customers for the month are less than credit sales for the month.
D. Total cash receipts from customers for the month are greater than credit sales for the
month.
AACSB: Analytic
Blooms: Apply
audit client.
Source: Original
13. An audit plan of substantive procedures for cash would not include
A. request a cutoff bank statement be mailed to the client.

B. request client to prepare bank reconciliations.
C. prepare a schedule of interbank transfers for a period of ten business days before and after
year-end date.
D. obtain a written client representation concerning compensating balance agreements.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 1 Easy
6-16
Source: Original
14. In the audit of cash the auditor obtains a bank cutoff statement primarily to
A. identify old outstanding checks that the client may exclude from the year-end bank
reconciliation in order to misappropriate cash.
B. obtain sufficient information to reconcile the client's bank account as of year-end.
C. obtain direct confirmation of the client's bank balances as of year-end.
D. test the propriety of items appearing on the client's year-end bank reconciliation.
AACSB: Analytic
Blooms: Apply
Source: Original
15. Auditors ordinarily send a standard confirmation request to all banks with which the client has
done business during the year under audit, regardless of the year-end balances. A purpose of
this procedure is to
A. provide the data necessary to prepare a proof of cash.

B. request that a cutoff bank statement and related checks be sent to the audit.
C. detect questionable bank activities that may otherwise not be discovered.
D. seek information about contingent liabilities and security agreements.
AACSB: Analytic
AICPA: BB Legal
Blooms: Apply
Source: Original
16. To gather evidence regarding the bank's balance in a bank reconciliation, an auditor would
examine all of the following except the
A. cutoff bank statement.

B. general ledger.
C. bank confirmation.
D. year-end bank statement.
AACSB: Analytic
AICPA: BB Legal
Blooms: Apply
Source: Original
6-17
17. An entity with a large volume of customer remittances by mail could most likely reduce the risk
of employee misappropriation of cash by using
A. employee fidelity bonds.

B. independently prepared mailroom prelists.
C. daily check summaries.
D. a bank lockbox system.
AACSB: Analytic
Blooms: Apply
Source: AICPA
18. Which of the following sets of information does an auditor usually confirm on one form?
A. Accounts payable and purchase commitments

B. Cash in bank and collateral for loans
C. Inventory on consignment and contingent liabilities
D. Accounts receivable and accrued interest receivable
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Apply
Source: AICPA
19. An unrecorded check issued during the last week of the year would most likely be discovered
by the auditor when the
A. check register for the last month is reviewed.

B. cutoff bank statement is reconciled.
C. bank confirmation is reviewed.
D. search for unrecorded liabilities is performed.
AACSB: Analytic
Blooms: Apply
Source: Original
6-18
20. An auditor wishes to perform tests of controls on a client's cash disbursements procedures. If
the control activities leave no audit trail of documentary evidence, the auditor most likely will
test the activities by
A. confirmation and observation.

B. observation and inquiry.
C. analytical procedures and confirmation.
D. inquiry and analytical procedures.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Apply
Source: AICPA
21. To provide assurance that each voucher is submitted and paid only once, an auditor most
likely would examine a sample of paid vouchers and determine whether each voucher is
A. supported by a vendor's invoice.

B. stamped "paid" by the check signer.
C. prenumbered and accounted for.
D. approved for authorized purchases.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
Source: AICPA
22. In order for auditors to be able to recognize potential fraud, they must be aware of the basic
characteristics of fraud. Which of the following is not a characteristic of fraud?
A. Intentional deception
B. Taking unfair or dishonest advantage of other people
C. Perpetration for the benefit or detriment of the organization
D. Negligence on the part of executive management
AACSB: Analytic
AICPA: BB Legal
Blooms: Remember
audit client.
Source: Original
6-19
23. An auditor who discovers that client employees have committed an illegal act that has a
material effect on the client's financial statements most likely would withdraw from the
engagement if
A. the illegal act is a violation of generally accepted accounting principles.

B. the client does not take the remedial action that the auditor considers necessary.
C. the illegal act was committed during a prior year that was not audited.
D. the auditor has already assessed control risk at the maximum level.
AACSB: Analytic
Blooms: Apply
audit client.
Source: AICPA
24. An auditor would least likely initiate a discussion with a client's audit committee concerning
A. the methods used to account for significant unusual transactions.

B. the maximum dollar amount of misstatements that could exist without causing the financial
statements to be materially misstated.
C. indications of fraud and illegal acts committed by a corporate officer that were discovered
by the auditor.
D. disagreements with management as to accounting principles that were resolved during the
current year's audit.
AACSB: Communication
AICPA: BB Legal
AICPA: FN Reporting
Blooms: Remember
Source: AICPA
25. Which of the following statements is correct with respect to the elements of the "fraud
triangle"?
A. Motive is a cause that pressures people into action.

B. Opportunity refers to a situation that allows someone with motive to carry out fraud.
C. A lack of integrity describes a person who does not stick to the social or organizational
ethical code.
D. Fraud is most common when these three factors exist together.
E. All of these statements are correct.
AACSB: Ethics
AICPA: BB Legal
Blooms: Remember
6-20
Source: Original
26. Narbona, CPA is reviewing controls over cash received through a bank night depository.
Which controls would she find most important?
A. Responsibilities are rotated for processing night depository receipts among employees of
the various departments.
B. Dual control (joint custody) is established over the contents of the night depository box
from the time of removal until initial recording is completed.
C. Vacations are required for all employees engaged in night depository activities.
D. All deposit tickets related to night deposits are numbered.
AACSB: Analytic
AICPA: BB Legal
Blooms: Apply
Difficulty: 3 Hard
Source: Original
27. Your client is in the process of acquiring another company. You have been requested to verify
that cash for the company being acquired is properly stated. The audit technique that will yield
the most persuasive evidence is
A. examination of the company's escrow account.

B. interview with the company's treasurer and cash manager.
C. preparation and review of standard bank confirmation inquiries.
D. analytical computations comparing current cash in the bank with previous accounting
periods.
AACSB: Analytic
AICPA: FN Decision Making
Blooms: Understand
Source: Original
28. A proof of cash
A. is required by GAAS.
B. can be used to test the transactions process.
C. is most helpful when control risk for cash is low.
D. always detects lapping.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Difficulty: 3 Hard
Source: AICPA
6-21
29. When counting cash on hand the auditor must exercise simultaneous control over all cash and
other negotiable assets to prevent
A. theft.
B. irregular endorsement.
C. replacement or substitution of stolen assets.
D. deposits in transit.
AACSB: Analytic
AICPA: BB Legal
Blooms: Apply
Difficulty: 3 Hard
Source: Original
30. As payments are received, one mailroom employee is assigned the responsibility of prelisting
receipts and preparing the deposit slip prior to forwarding the receipts, deposit slip, and
remittance advices to accounts receivable for posting. Accounts receivable personnel re-foot
the deposit slip, stamp a restrictive endorsement on the back of each check, and then forward
the receipts and deposit slip to the treasury department. Evaluate the internal control of the
described process. Which of the following is a reasonable assessment of internal control in
this process?
A. Adequate internal control

B. Inadequate internal control because mailroom employees should not have access to cash
C. Inadequate internal control because treasury employees should prepare the deposit slip
D. Inadequate internal control because of a lack of separation of duties
AACSB: Analytic
AICPA: BB Legal
Blooms: Understand
Difficulty: 3 Hard
Source: AICPA
31. Which of the following should be performed by the persons opening the mail and recording
payments?
A. Restrictive endorsement on all checks

B. Entering of payment information into customer accounts
C. The preparation of the deposit slip and the delivery of the checks to the bank
D. The segregation of all payments made on accounts listed as past due
AACSB: Analytic
AICPA: BB Legal
Blooms: Understand
6-22
Source: Original
32. At the end of each business day, Safe Company sends its bank a listing of all checks written
during the day including the check number, payee, and amount. When a check is sent to the
bank for payment the bank compares the payee and the amount with the listing provided by
Safe Company. This system is called
A. PayChex.
B. Pay-As-You-Go.
C. Positive Pay.
D. Pay Master.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Remember
Source: Original
33. The mail which includes payments should be opened by two people. This control is called
A. separation of duties.
B. joint custody.
C. anti-collusion.
D. lapping.
AACSB: Analytic
AICPA: BB Legal
Blooms: Remember
Difficulty: 1 Easy
Source: Original
34. Most fraud investigators utilize the fraud triangle theory. A new theory called the fraud
diamond has been proposed. Which of the following is an element of the fraud diamond and is
not an element of the fraud triangle?
A. Motive
B. Opportunity
C. Capability
D. Liquidity
AACSB: Analytic
AICPA: BB Legal
Blooms: Remember
Source: Original
6-23
Short Answer Questions
35. Auditors are auditing the cash receipts for Great Wall Corporation. For each audit procedure
performed (numbered 1 - 5 below) select the control objective being tested by placing the
correct letter in the blank.
A. Existence
B. Completeness
C. Authorization
D. Accuracy
E. Classification
F. Accounting and posting
G. Proper period
____ 1. For a sample of recorded cash receipts, the auditors compared the date of receipt to
the recording date.
____ 2. The auditors traced a sample of daily cash reports to the cash receipts journal.
____ 3. The auditors vouched a sample of recorded cash receipts to the deposits in the bank
statement.
____ 4. The auditors recalculate the cash listed on the daily deposit for a sample of recorded
cash receipts.
____ 5. The auditors traced a sample of recorded cash receipts to postings in the correct
customers' accounts.
1. G, 2. B, 3. A, 4. D, 5. F
AACSB: Analytic
Blooms: Apply
Source: Original
Essay Questions
6-24
36. When you examine canceled checks returned in the bank statement by a client's bank, how
could you tell whether the amount on the check had been skillfully raised (increased, say, from
$75.00 to $7,500 in the amount box, and altered in the written line from "Seventy-five dollars"
to "Seventy-five hundred dollars") after the check was cleared by the bank? (An employee
might do this to "support" a $7,500 cash disbursement journal entry.)
The bank imprints the check with the amount paid by the bank (magnetic print in the lower
right corner). It will be 00007500, meaning $75.00.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Apply
Difficulty: 3 Hard
Source: Original
37. After checks are signed for vendor invoices, why should vouchers be marked "paid" or
otherwise mutilated?
To show they have been processed so they cannot be paid again.
AACSB: Analytic
AICPA: BB Legal
Blooms: Apply
Source: Original
38. List, and briefly describe, the three factors that increase the probability of fraud.
Motive, opportunity, and lack of integrity are the three factors that increase the probability of
fraud. Motive is a cause that pressures people into action. Economic motives are common in
business fraud. Opportunity refers to a situation that allows someone with motive to carry out
fraud. An example would be a lack or lapse of a specific control or controls in an organization.
A lack of integrity describes a person who does not stick to the social or organizational ethical
code. They may rationalize their actions to defend such a lack of integrity. Fraud is most
common when these three factors exist together.
AACSB: Analytic
AICPA: BB Legal
Blooms: Remember
Source: Original
6-25
39. What kind of error or fraud could happen if the inventory warehouse manager also had
responsibility for making the physical inventory count and reconciling discrepancies to the
perpetual inventory records?
The inventory manager could
1. Commit an inadvertent error of miscounting and adjust the error into the accounts and
inventory records.
2. Steal inventory and adjust the inventory records permanently to cover up the theft.
AACSB: Analytic
Blooms: Apply
Source: Original
40. Describe how a lockbox works and indicate the advantages of such a system.
A lockbox is a post office box under the control of the bank. The bank will send employees to
retrieve checks from the box and deposit them in the company's account. The bank will
provide a listing of deposits and the remittance advises to the company. The bank may also
provide images of the checks (if the company is willing to pay for these additional services).
There are two main advantages to this system:
1. Checks are retrieved by the bank and never enter the company. Therefore the risk that
checks will be misplaced or end up in the hands of the wrong individuals is eliminated.
Separation of duties also becomes easier since the custody of the asset is no longer a
possible for record keepers or authorizers.
2. The money is placed immediately into the bank allowing for immediate access to the use of
the funds or interest on the funds.
AACSB: Analytic
AICPA: BB Legal
AICPA: FN Research
Blooms: Apply
Source: Original
6-26
41. Ed's wife Diane owns a printing business in town. Ed works in the accounts payable
department of Jiffy Abs Vitamin Company. Diane prints invoices for work supposedly done for
Jiffy Abs (no actual work was performed) and Ed places in the invoice in the approved for
payment invoice pile. Jiffy Abs pays these invoices and sends Diane a check.
1. Name two internal controls that might prevent or detect these fraudulent payments.
1. Controls include:
• Voucher package that includes a receiving report

• An approved vendor list and the requirement that the vendor be on the approved vendor list
• The inclusion of an expense account for the charging of all material. Each department gets a
report of all expenses each month for review.
2. Procedures include:
• Review of voucher packages to ensure goods were received

• Review of voucher packages to ensure vendors are on the approved vendor list
• Analytical procedures to identify increases in expenditures for specific types of products
(printing services)
• Analytical procedures to identify increases in expenditures to specific vendors.
AACSB: Analytic
Blooms: Apply
Source: Original
6-27
Auditing and Assurance Services Louwers 6th Edition Test Bank
42. Micro Chip Corporation (MCC) has a special PO Box for customer payments. Jane is
responsible for:
• going to the post office every day,

• emptying the post office box,
• opening the mail,
• making a prelist,
• sending the remittance advices to accounts receivable, and
• sending the checks to the cashier's office.
Jane has opening a business account at her bank for Master Cleaning Company (MCC).
Several of Micro Chips checks are made out with only the initials MCC. Jane selects certain
checks made out only with the initials MCC and deposits them in her business account. She
would destroy the remittance advice.
1. Name two controls that would prevent or detect this fraud.

Controls include:
1. A separate person could empty the PO Box, record how many envelops were in the box
and deliver the unopened mail to Jane. Jane would be required to account for each envelop.
• The mail could be picked up under joint custody

• The mail could be opened under joint custody
• Surveillance equipment could be used to monitor the opening and recording of payments
• Since customer complaints would be made because payments would not be credited to their
account, and independent and vigorous complaint resolution process would be a good control
• Mailing of statements each month to customers with balances or activity in their account
• Follow up communication on customer accounts that are past due by someone independent
of accounts receivable
2. Procedures would include:
• Observe the opening of the mail and the recording of cash

• Review of customer complaints for patterns and appropriate follow up by company personnel
• From a sample of customer complaints, ask customers to send a copy of their payment (front
and back) and review check for endorsement and bank account
• Review of the aging of accounts receivable schedule (accounts where payments were
diverted would begin to have past due balances)
• Confirm account balances with customers
• Review responses to follow up communications on customer past due accounts.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
Source: Original
6-28
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Employee Fraud and the Audit of Cash

Multiple Choice Questions

1. When auditing financial statements and finding indications of a possible misappropriation of

A. investigate fully to determine the total amount of the misappropriation.

A. Diversifying authority throughout divisions and subsidiaries in the organization

A. Observation and inspection of records

5. Each of the following is a type of known misstatement, except

A. an inaccuracy in processing data.

A. A large number of bearer bonds on hand

A. Clerk 1 opens all of the incoming mail.

A. Send positive confirmations on recorded customer accounts receivable balances.

A. request a cutoff bank statement be mailed to the client.

A. provide the data necessary to prepare a proof of cash.

A. cutoff bank statement.

A. employee fidelity bonds.

A. Accounts payable and purchase commitments

A. check register for the last month is reviewed.

A. confirmation and observation.

A. supported by a vendor's invoice.

A. the illegal act is a violation of generally accepted accounting principles.

A. the methods used to account for significant unusual transactions.

A. Motive is a cause that pressures people into action.

A. examination of the company's escrow account.

28. A proof of cash

A. Adequate internal control

A. Restrictive endorsement on all checks

Short Answer Questions

• going to the post office every day,

1. Name two controls that would prevent or detect this fraud.

Multiple Choice Questions

1. When auditing financial statements and finding indications of a possible misappropriation of

A. investigate fully to determine the total amount of the misappropriation.

A. Diversifying authority throughout divisions and subsidiaries in the organization

A. Observation and inspection of records

5. Each of the following is a type of known misstatement, except

A. an inaccuracy in processing data.

A. A large number of bearer bonds on hand

A. Clerk 1 opens all of the incoming mail.

A. Send positive confirmations on recorded customer accounts receivable balances.

A. request a cutoff bank statement be mailed to the client.

A. provide the data necessary to prepare a proof of cash.

A. cutoff bank statement.

A. employee fidelity bonds.

A. Accounts payable and purchase commitments

A. check register for the last month is reviewed.

A. confirmation and observation.

A. supported by a vendor's invoice.

A. the illegal act is a violation of generally accepted accounting principles.

A. the methods used to account for significant unusual transactions.

A. Motive is a cause that pressures people into action.

A. examination of the company's escrow account.

28. A proof of cash

A. Adequate internal control

A. Restrictive endorsement on all checks

Short Answer Questions

To show they have been processed so they cannot be paid again.

The inventory manager could

There are two main advantages to this system:

• Voucher package that includes a receiving report

• Review of voucher packages to ensure goods were received