Question

Which of the following procedures would an auditor most likely perform to obtain evidence about an entity's subsequent events?

1) Reconcile bank activity for the month after the balance sheet date with cash activity reflected in the accounting records.
2) Obtain a letter from the entity's attorney describing any pending litigation, unasserted claims, and loss contingencies.
3) Review the treasurer's monthly reports on temporary investments owned, purchased, and sold.
4) Examine on a test basis the purchase invoices and receiving reports for several days after the inventory date.

Answer 1

Auditors likely obtain a letter from the entity's attorney for subsequent events evidence. Money listed as assets on a bank's balance sheet may not be physically present due to lending. Loan values in the secondary market vary with payment history and interest rates.

Step-by-step explanation:

An auditor would most likely perform the following procedure to obtain evidence about an entity's subsequent events:
Obtain a letter from the entity's attorney describing any pending litigation, unasserted claims, and loss contingencies. This engagement is known as the legal letter and it is a crucial aspect of the audit process. The legal letter helps auditors to identify if there are any legal matters that could have a material effect on the financial statements after the balance sheet date.

As for the student asked about bank balance sheets and the value of loans, the money listed under assets on a bank balance sheet may not actually be in the bank because banks lend out the majority of the money they receive to earn interest, a process known as fractional-reserve banking. In the scenario of buying loans in the secondary market, the value paid for a loan would change based on the borrower's payment history, the current interest rate environment, and borrower's financial strength, among other factors.