Question

To better monitor the performance of operating management, executive management has requested that the internal auditors examine interim financial statements that are prepared for internal use only. Although interim financial statements have been prepared for several years, this will be the first time that the internal auditors have been involved. The primary reason for this request was that executive management was surprised at the lower-than-anticipated net profit eventually reflected in last year's audited financial statements. Earnings had been artificially manipulated on quarterly financial statements. In their work on this year's interim financial statements, internal auditors are likely to focus on which of the following?

A. Whether payables have been accrued properly at the end of the interim period.
B. Whether there have been changes in accounting principles that materially affect the financial statements.
C. The timing of revenue recognition and the valuation of inventories.
D. Whether accounting estimates are reasonable given past actual results.

Answer 1

Internal auditors are likely to focus on the timing of revenue recognition and the valuation of inventories, as well as whether accounting estimates are reasonable given past actual results. Option C is correct.

Step-by-step explanation:

Based on the information provided, the internal auditors are likely to focus on C. The timing of revenue recognition and the valuation of inventories. This is because the manipulation of earnings on quarterly financial statements suggests a need to examine the accuracy and completeness of revenue recognition and inventory valuation methods. By examining these areas, the internal auditors can assess whether there are any discrepancies that could lead to artificially inflated net profit figures.

In addition, the internal auditors may also look into D. Whether accounting estimates are reasonable given past actual results. This is important to ensure that the accounting estimates used in the interim financial statements are consistent with past performance and reflect the true financial position of the organization.

While A. Whether payables have been accrued properly at the end of the interim period and B. Whether there have been changes in accounting principles that materially affect the financial statements may also be areas of focus for internal auditors, they may be of lesser importance in this specific situation compared to revenue recognition, inventory valuation, and accounting estimates.