AUDITING PROBLEMS

First Pre-Board Examination

MULTIPLE CHOICE

INSTRUCTION: Select the correct answer for each of the following question. Mark
only one answer for each item by shading the box corresponding to the letter of your
choice on the sheet provided. STRICTLY NO ERASURES ARE ALLOWED. Use
pencil no. 2 only.

PROBLEM 1: ERROR CORRECTION

You are auditing for the first time, the financial statements of Ubix Textile Inc. For the
period ended December 31, 2013. The company started its operation in 2011 and since
then has not subjected its records to audit. Its unaudited statement of comprehensive
income for from 2011 indicated the following net income:

2011 P1,500,000
2012 1,750,000
2013 2,000,000

An examination of the accounting records from the inception of operations to December

31, 2013 indicates that several errors were made. The following errors were discovered:

a. Salary accruals were consistently omitted at the end of the following years:
2011 P110,000
2012 100,000
2013 140,000

b. The footing and extensions showed that the inventory on December 31, 2012 was
overstated by P190,000 and inventory on December 31, 2013 was understated by
P120,000.

c. P150,000 worth of inventories were received on January 4, 2014.Upon

investigation you discovered that these goods were shipped by the supplier on
December 30, 2013 FOB Shipping point. The invoice on these merchandise were
received on December 31 and was recorded as purchases but the goods were not
included in the physical count as of December 31.

d. Unused supplies were consistently omitted at the end of each year:

2011 P50,000
2012 75,000
2013 60,000

e. A P200,000, 2-years insurance was paid in July 1, 2012 and was charged to
insurance expense. The premium however covers the period July 1, 2012 to June
30, 2014.
 f. On January 1, 2012 an equipment costing P400,000 was sold for P220,000. At the
date of sale the equipment had carrying value of P160,000. The received was
recorded by the company as miscellaneous income.

g. You also discovered that on January 1, 2012, the company completed the
construction of the left wing of its factory building incurring a total cost of
P280,000, which it had charged to repairs expense. The said building has a total life
of 15 years from the beginning of operations in 2011.

Required:
1. What is the correct net income in 2011?
a. 1,500,000 c. 1,440,000
b. 1,550,000 d. 1,390,000

2. What is the correct net income in 2012?

a. 1,955,000 c. 1,845,000
b. 1.885.000 d. 1,785,000

3. What is the correct net income in 2013?

a. 2,285,000 c. 2,385,000
b. 2,305,000 d. 2,405,000

4. What is the retroactive adjustment to the 2013 retained earnings beginning as a result
of the audit?
a. 35,000 c. 195,000
b. 15,000 d. 175,000

5. What is the net effect of the errors to the 2013 working capital?
a. 120,000 c. 190,000
b. 150,000 d. 240,000

PROBLEM 2: ERROR CORRECTION

You were assigned to audit the financial statements of Exxon Corp. For the first time as
of the period ended December 31, 2013. Exxon Corp. Has commenced its operations in
2011 and has reported the following net income:

2011 P1,000,000
2012 2,000,000
2013 3,600,000

The following reflects the result of your investigations:

a. Collections of a P40,000 accounts receivable in 2013 has been erroneously

credited to notes receivable.

b. Purchase of P20,000 office supplies has been debited to the Purchases account in
2013. P5,000 from office supplies remained unused by the end of 2013 and was not
reflected in the accounting records by the year end.

c. The physical count of inventories at the end of each year were misstated as
follows:
2011, overstated P20,000
2012, understated 30,000
2013, overstated 5,000

d. The following year-end advance payments to suppliers for deliveries made the
following year were debited to purchases upon payment:
2011 P60,000
2012 80,000

e. The following year-end advance payments from customers for deliveries made the
following year were credited to sales upon receipt of cash:
2011 P50,000
2012 100,000
2013 40,000

f. Remodeling costs amounting to P200,000, incurred prior the use of the building
acquired on January 1, 2011 had been charged to expense. The building had a cost of
P1,600,000 and has been depreciated over its useful life of twenty years with no salvage
value.

g. From inception of operations, the company has declared and paid dividends
amounting to P500,000 in 2011, P250,000 in 2012. On December 15, 2013 the BOD
approved the declaration of 2013 cash dividends totaling to P150,000 to stockholders as
of December 28, 2013 payable on January 31, 2014. The December 15 declaration of
dividends is yet to be recorded by the company.

Required:
6. What is the adjusted net income in 2011?
a. 1,180,000 c. 940,000
b. 1,235,000 d. 950,000

7. What is the adjusted net income in 2013?

a. 3,360,000 c. 3,530,000
b. 3,490,000 d. 3,540,000

8. What is the retroactive adjustment to the retained earnings, beginning 2013?

a. 190,000 c. 192,500
b. 190,500 d. 195,000

9. What is the effect of the errors to the 2013 working capital?

a. 190,000 overstated c.40,000 overstated
 b. 150,000 overstated d. 40,000 understated

10. What is the adjusted retained earnings, end 2013?

a. 5,280,000 c. 5,630,000
b. 5,830,000 d. 5,880,000

PROBLEM 3: CASH/ACCRUAL, SINGLE ENTRY:

An analysis of incomplete records of Maxwell Corp. produced the following information
applicable to 2013:

Summary of cash transactions were as follows:

CASH RECEIPTS:
Collections on accounts receivable 27,600,000
Collections on notes receivable 2,400,000
Purchase returns and allowances (note a) 500,000
Pecovery of previously written off
accounts (not included in the
collections on accounts receivable
Above, note b) 70,000

CASH DISBURSEMENTS:
Payments on accounts payable 13,200,000
Payments of notes payable, trade 2,300,000
Sales returns and allowances (note c) 400,000
Insurance 700,000
Salaries 10,000,000
Other expenses 1,500,000
Dividends 1,000,000

Additional Information:
a. Total purchase returns and allowances amounted to P800,000. Purchase discounts
taken was at P350,000.

b. Write-off of accounts receivable during the year amounted to P310,000.

c. Total sales returns and allowances amounted to P1,200,000. Sales discount taken
by customers was at P1,800,000.

d. The following information regarding increases and decreases in relevant balance

sheet accounts were also ascertained:

ACCOUNT INCREASES ACCOUNT DECREASES

Cash ? Inventory 1,000,000
Account receivable 1,400,000 Notes receivable 600,000
Allow for bad debts 180,000 Accrued salaries 330,000
Accounts payable 850,000 Notes payable-trade 950,000
 Prepaid insurance 200,000
Accum. Depr. 900,000

Required: Determined the audited balances under accrual basis of the following:
11. Gross sales
a. 33,510,000 c. 33,710,000
b. 33,780,000 d. 33,810,000

12. Gross purchases

a. 16,000,000 c. 16,450,000
b. 16,050,000 d. 16,300,000

13. Gross profit

a. 13,960,000 c. 14,810,,000
b. 13,910,000 d. 14,910,000

14. Bad debt expense

a. 380,000 c. 420,000
b. 200,000 d. 490,000

15. Net income

a. 1,160,000 c. 1,050,000
b. 1,150,000 d. 1,060,000

PROBLEM 4: STOCKHOLDERS’ EQUITY

The Orion Corp. has requested you to audit its financial statements for the year 2013.
During your audit, Orion Corp. presented to you its statement of financial position as of
December 31, 2012, which had the following shareholders’ equity section:

Convertible Preference shares, P10 par; 90,000 shares P900,000 authorized and issued,
9,000 in the Treasury.
Ordinary shares, P4 par value, 900,000 shares 2,700,000 authorized, 675,000 shares
issued and outstanding
Share premium - Preference 450,000
Share premium - Ordinary 1,350,000
Reserve for depreciation 1,260,000
Reserve for plant expansion 290,000
Accumulated profits 3,375,000
Treasury shares at cost (108,000)

Audit notes:
a. On March 1, 2013, the Reserve for plant expansion was increase by P100,000.

b. 4,500 of the treasury shares were resold for P18 per share on August 30, 2013.

c. The preference shares are convertible to ordinary shares at the rate of 1 preference
share to 3 ordinary shares. 20,000 of the preference share were converted on October 2,
2013.

d. A cash dividend of P3 per share was declared on December 1, 2013 to preference

shareholders and P0.50 per share to ordinary shareholders as of record December 15,
2013. The dividends are payable on January 15, 2015.

e. On December 31, 2013, the Reserve for plant expansion was decreased by P45,000
which represents the carrying value of a machine destroyed by fire on that date (Cost
P450,000, accumulated depreciation P405,000). Additional fire cleanup costs of P5,000
were incurred and does not appear in the records yet.

f. The December 31, 2012 accumulated profits consists of the following:

Donated land from a stockholder P675,000
Gains from treasury stock transactions 76,500
Earnings retained in the business 2,623,500
P3,375,000

g. The unadjusted net income for the year ended December 31, 2013 was P990,000.

Based on the information above, answer the following:

16. The conversion of the preference shares on October 2, 2013 shall require a credit to:
a. Ordinary shares, P200,000 c. Share premium, P240,000
b. Share premium, P60,000 d. Accum. Profits, P60,000

17. How much is the total cash dividends declared on December 1?

a. 550,000 c. 564,000
b. 534,000 d. 577,000

18. What is the total additional paid-in capital as of December 31, 2013?
a. 2,435,000 c. 2,538,500
b. 2,535,500 d. 2,588,500

19. What is the total unappropriated accumulated profits as of December 31, 2013?
a. 2,935,500 c. 2,899,500
b. 2,904,500 d. 2,845,500

20. What is the total stockholders’ equityas of December 31, 2013?

a. 9,414,000 c. 9,514,000
b. 9,468,000 d. 9,528,000

PROBLEM 5: STOCKHOLDERS EQUITY

The stockholders’ equity accounts of Nextel Inc. had the following balances as of
December 31, 2012:
Ordinary shares, P10 par value, 1,000,000 shares
 authorized, 750,000 shares issued 7,500,000
Share premium 6,000,000
Accumulated profits 4,500,000

The following transactions occurred in 2013:

a. On January 5, 2013 the company reacquired 50,000 shares at P1,050,000.
b. On February 20, the company issued additional 20,000 shares (from previously
unissued lot) in exchange of a piece of equipment. The shares were currently
selling on this date at P22/share.
c. On March 31, Nextel Inc. declared a 4 to 1 share split down.
d. On June 1, the company reissued 3,000 of the treasury shares at P90 per share.
e. On August 2, the company reissued another 5,000 of the treasury at P75 per share.
f. On September 20, received subscriptions from various subscribers for 15,000
shares at P80 per share subscription price. The company received 20 downpayment from
these subscriber.
g. On October 1, Nextel Inc. Declared a piece of land carried in its book at
P2,000,000 as property dividends distributable to its shareholders on January 31, 2014.
The fair value of the land on October 1 is at P2,500,000. By the end of the year the fair
value of the land increased to P2,800,000 and is not expected to change by the settlement
date on January 31.
h. On December 1 the company declared a P3 per share cash dividends to
stockholders of record December 20, payable on January 31, 2014.
i. The adjusted net income for 2013 was at P1,350,000.

Required:
21. The entry to record reissue of treasury on August 2 required a debit to:
a. Share premium, P45,000 c. Accum. profits, P45,000
b. Share premium, P27,000 d. Accum. profits, P27,000

22. The entry to record the property dividend declaration on October 1 shall require a
debit to accumulated profits at:
a. 2,100,000 c. 2,800,000
b. 2,500,000 d. None

23. How much shall be recognizes in the profit/loss that will result from the settlement of
the property dividends on January 31, 2014?
a. None c. 400,000
b. 300,000 d. 700,000

24. How much is the total cash dividends declared in December 1?

a. 564,000 c. 609,000
b. 585,000 d. 662,500

25. What is the adjusted balance of the Accumulated profits unappropriated account as of
December 31, 2013?
a. 2,414,000 c. 2,063,000
 b. 2,036,000 d. 2,441,000

PROBLEM 6: LIABILITIES
In line with your audit of Colombus Corp.’s liabilities account as of Decembe 31, 2013,
the following schedule was provided to you by the client’s accountant:
Current liabilities
Accounts payable P225,000
Warranties liabilities 140,000
Accrued salaries 184,800 P549,800
Noncurrent liabilities
10%, Serial notes payable P2,000,000
8%, Bonds payable 5,000,000 P7,000,000

Audit notes:
a. The accounts payable is for purchases of merchandise from suppliers. The amount
exclude goods costing P25,000, purchased and received on December 31, 2013 but the
invoice for which has not been received from the supplier yet as of December 31, 2013.
b. The company commenced a one-year warranty program in 2012. In relation to
this, the company estimates that 40% of goods sold shall be returned for repairs. The
company estimates further that cost to repair goods returned is at P75 in parts and labor.
Details about the said warranty program are as the follows:
2012 2013
Sales in units P12,000 P14,500
Actual warranty costs 220,000 368,000
Actual warranty costs incurred for each year were appropriately charged to warranty
expense. The balance in the warranties liability account is the accrued liability in 2012.
No adjustment had been made yet to the same account as of December 31, 2013.
c. The accrued salary is the balance of the company’s liability for compensated
absences in 2012. Adjustments are yet to be made on the account as of December 31,
2013. The company allows employees to carry forward unused leaves earned during the
current year up to two years only, thereafter it shall expire. As per past experience, only
80% of the leaves allowed to be carried forward from previous years are ultiimately
exercised. The following information are deemed relevant in your audit of the said
account:
2012 2013
Leaves earned in 2011 forwarded to 240 days
Leaves earned in the current years 1,200 days 1,320 days
Leaves used earned in prior years 180 days 220 days
Leaves used earned in the current year 710 days 930 days
Average daily salary rate P420 P450

d. The 10% serial notes payable was originated in September 30, 2012 and had an
original face value of P2.5M. The same is payable at P500,000 plus interest every
September 30 starting 2013. The principal and interest payment was and appropriately
recorded during the current year. Accrual of interest at year-end is yet to be made.
e. The 8% bonds was originated on January 2, 2013 when the prevailing market rate
of interest was at 10%. The bonds shall mature on December 31, 2015. The same was
recorded as a debit to cash for the cash consideration received, credit to bonds payable at
face value with the difference being charged to interest expense. Semi-annual interest
payments on the bonds were made and appropriately recorded in June 30 and December
31. You ascertained that amortization of any premium or discount should be made under
the effective interest method.

Required:
26. What is the correct warranties payable balance as of December 31, 2013?
a. 207,000 c. 360,000
b. 435,000 d. 225,000

27. What is the correct salaries payable for compensated absences as of December 31,
2013?
a. 229,100 c. 237,600
b. 259,200 d. 297,000

28. How much is the proceeds from the issuance of the bonds payable?
a. 4,746,215 c. 4,822,702
b. 4, 783,526 d. 4,863,838

29. What is the total current liabilities as of December 31, 2013?

a. 1,169,600 c. 1,194,600
b. 1,219,600 d. 1,224,600
30. What is the total non-current liabilities as of December 31, 2013?
a. 6,246,215 c. 6,322,702
b. 6,283,526 d. 6,363,838

PROBLEM 7: LIABILITIES
You were assigned to audit the various liability accounts Tango Corp., a washing machine
manufacturer, for the year ended December 31, 2013. Upon your request, the following
schedule was furnished to you by the accountant:

Estimated premium payable P1,400,000

Provision for litigation cases 3,000,000
Lease liability 4,500,000

Audit notes:
a. The company has an on-going promotional program whereby each washing
machine sold comes with 5 coupon. 25 coupons plus P2,000 shall entitle the
customer/distributor a dryer which originally costs P6,000. The dryers can be
redeemed 2 years after receipt of the coupon from purchases. The company
estimates that 40% of the coupon issued with the washing machines sold will
ultimately be presented for the premium redemption. The balance in the
estimated premium payable account is the accrued liability in the prior year. The
beginning inventory of dryers was at 300 units. During the year additional 1,000
 dryers were acquired. An inventory of the remaining dryers on hand at year-end
places the count at 240 units. The company sold 12,000 units of washing
machines during the current year. The redemption of premium for the current
year were appropriately recorded by the company.
b. During 2013, Tango was sued by a competitor for P5,000,000 infringement suit
of a trademark. Based on the legal counsel’s advise, Tango accrued the sum of
P3,000 as a provision. On February 15,2014, the Supreme Court decided in favor
of the party alleging the infringement and ordered the defendant to pay the
aggrieved party a sum of P3,500,000. The financial statements of Tango were
approved by the BOD for issue on February 20, 2014.
c. The company entered into a 10 year lease agreement with Jack Corp. on January
1, 2013 on a warehouse. The agreement requires a periodic payment of P500,000
every December 31. The implicit lease rate known to both parties was at 9%.
There is no bargain purchase option and the asset shall be revered back to Jack
Corp. at the expiration of the lease term. The building which had a 15 year useful
life had a by the client were as follows:

Jan. 1, Building P5,000,000

Lease Liability P5,000,000
Dec. 31, Lease Liability 500,000
Cash 500,000

Requirements:
31. What is the correct estimated premiums payable as of December 31, 2013?
a. 960,000 c. 1,000,000
b. 990,000 d. 1,120,000

32. What is the correct provision for litigation case as of December 31, 2013?
a. 3,000,000 c. 4,000,000
b. 3,500,000 d. 5,000,000

33. What is the correct carrying value of the lease liability as of December 31, 2013?
a. 4,500,000 c. 2,997,623
b. 3,208,829 d. 2,767,410

34. What is the carrying value of the warehouse under lease as of December 31, 2013?
a. 4,500,000 c. 3,150,000
b. 2,887,946 d.2,997,623

35. What is the total current liability as of December 31, 2013?

a. 4,230,214 c. 4,769,786
b. 4,730,214 d. 5,000,000

PROBLEM 8: LIABILITY AND STOCKHOLDERS’ EQUITY

The following post-closing trial balance has been presented to you by the accountant of
PX Corp. in line with your audit of its financial statements as of and for the period ended
December 31, 2013:
Cash P252,000
Trading Securities 500,000
Receivable 450,000
Inventories 329,000
Prepayments 80,000
Building 1,250,000
Accumulated Depreciation P250,000
Equipment 850,000
Accumulated Depreciation 255,000
Accounts Payable 325,000
Accrued Expenses 75,000
12% Notes Payable – Bank,
Due Dec. 31, 2015 200,000
Bonds Payable
Due Dec. 31, 2016 1,000,000
Ordinary Shares, P5 par,
100,000 authorized 500,000
10%, Preference Shares,
P20 par, 50,000 authorized 650,000
Accumulated Profits 456,000
Total P3,711,000 P3,711,000

Audit notes:
a. Of the authorized ordinary shares, 50,000 shares were issued 5,000 of which
were reacquired at P8 per share.
b. Of the authorized preference shares, 15,000 shares were issued and outstanding.
c. The trading securities balance, included PX Corp. ordinary shares reacquired and
were restated at its prevailing fair value of 10 at year-end. Gain on the
restatement was recognized in the profit/loss of the current year.
d. On December 28, 2013, the BOD of PX Corp. declared the annual cash dividends
to preference shares and a 15% stock dividends to ordinary shares. The same has
not been reflected in the company’s books as of the end of reporting date. The
fair value of the shares on this date was at P10.
e. The 12% notes payable to the bank is due on December 31, 2015. Interest are
payable annually every December 31. The agreement with the bank includes the
maintenance of an equity to debt ratio of 2:1. As of December 31, 2013, the
company is in violation of this covenant. On January 15, 2014 the bank gave the
company a grace period up to January 2015 to rectify the breached agreement
during which the bank will not be demanding payment of the loan.
f. On January 25, 2014, a customer filed a P300,000 lawsuit against the company
for damages it suffered when it used an allegedly defective merchandise sold to
the same customer in 2013. Through your letter of audit inquiry, the company
lawyers opined that it is probable that the company will be liable for such
damages and that the extent of liability will be within the range of P150,000 to
P250,000. On March 1, 2013, the company agreed to settle out of court paying
 P220,000 to the customer.
g. The financial statement were authorized for issue on April 15, 2013.

Required:
36. The stock dividends declaration shall require a debit to accumulated profits at:
a. 33,750 c. 37,500
b. 67,500 d. 75,000

37. What is the amount of provision if there are any to be accrued as a result of the audit
note e?
a. NONE c. 220,000
b. 200,000 d. 300,000

38. What is the total current liabilities to be reported in the 2013 statement of financial
position?
a. 620,000 c. 820,000
b. 650,000 d. 850,000

39. What is the net adjustment to the 2013 net income?

a. 210,000 c. 230,000
b. 220,000 d. 240,000

40. What is the adjusted balance of accumulated unappropriated as of December 31,

2013?
a. 88,500 c.118,500
b. 128,500 d. 132,500