CHAPTER

SUBSTANTIVE TESTS OF
16 INCOME STATEMENT ACCOUNTS

16-1. a

16-2. d

16-3. Red Company

Requirement (1)

2006 2005
Reported net income P 35,000 P 27,000
Subtract ending inventory overstatement (2,000) (5,000)
Add beginning inventory overstatement 5,000
Subtract wages payable when incurred (800) (700)
Add wages payable when expensed 700
Subtract bad debts (400)* (1,300)
Add back prepayments in year recorded as expense 200 500
Subtract prepayments in year expense is incurred (500)
Correct net income P 37,200 P 20,500

* P1,700 P1,300

Requirement (2)

2007
Jan. 1 Retained Earnings 4,300
Insurance Expense 200
Inventory 2,000
Wages Expense 800
Allowance for Doubtful Accounts 1,700
16-2 Solutions Manual to Accompany Applied Auditing, 2006 Edition

16-4. Orange Corporation

Requirement (1)

(1) Allowance for Uncollectible Accounts 17,400

Administrative Expenses (37,000 19,600) 17,400
To reflect reduction in loss experience
rate.
(2) Unrealized Holding Loss on Trading Marketable
Securities 19,000
Valuation Allowance 16,000
Retained Earnings 3,000
To reduce marketable securities to
market valuation and correct prior
years profit.
(3) Retained Earnings 4,000
Cost of Sales 2,100
Merchandise Inventory 6,100
To adjust for overstatements in opening
and closing inventories.
(4) a. Equipment 12,000
Operating Expenses 1,100
Retained Earnings 10,900
Accumulated Depreciation: Equipment 2,200
To adjust for error in recording of
equipment purchase in 2005 and
related depreciation for 2005 and
2006.
b. Accumulated Depreciation: Equipment 17,500
Equipment 15,000
Other Income 2,500
To adjust for misposting of
equipment sale.
(5) Prepaid Expenses 900
Operating Expenses 900
Retained Earnings 1,800
To adjust for nonrecognition of prepaid
expense in 2005 and 2006.
(6) Ordinary Shares 60,000
Capital in Excess of Par 60,000
To adjust for capital contributed in
excess of par value.
 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

2006 2005
Debit (Credit) Debit (Credit)
Reported income P(220,000) P(195,000)
Change in accounts receivable loss
experience rate (17,400) ---
Unrealized loss (gain) on marketable securities 19,000 (3,000)
Ending merchandise inventories overstated:
December 31, 2005 (4,000) 4,000
December 31, 2006 6,100
Misposting of equipment purchase:
Decrease in operating expenses 2005 (10,900)
Increase in operating expenses 2006 1,100
Misposting of proceeds of equipment sold (2,500)
Recognition of prepaid insurance 900 (1,800)
Corrected net income 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 Adjustments to Balance Sheet Accounts
Retained Prepaid Prepaid Accrued Accrued
2004 2005 2006 Inventory Earnings Expenses Income Expenses Income

Unadjusted balance P 7,500 P 6,500 P 5,500 P25,000 P27,000

Add (Deduct) Adjustments
(1) Overvaluation of inventory
2004 (7,000) 7,000
2005 (8,000) 8,000
(2) Undervaluation of inventory
2003 (6,000)
2006 9,000 9,000 9,000
(3) Prepaid expenses omitted at
end of year
2003 (900)
2004 700 (700)
2005 500 (500)
2006 600 600 600
(4) Prepaid income omitted at
end of year
2004 (400) 400
2006 (300) (300) 300
(5) Accrued expenses omitted at
end of year
2003 200
2004 ( 75) 75
2005 (100) 100
2006 ( 50) ( 50) 50
(6) Accrued income omitted at
end of year
2004 125 (125)
2006 150 150 150

Adjusted amount P(5,850) P 5,550 P22,500 P34,000 P36,400 P 600 P 300 P 50 P 150
 Substantive Tests of Income Statement Accounts 16-5
16-6. Sun Freight Company

1. a P107,700 (P112,500 P4,800)

2. c P376,800
3. c P159,000 (P204,000 P45,000)
4. a P320,550
5. a P25,000
6. c P125,000
7. a P68,600
8. d P179,650
9. a P703,250
10. a P144,250 (P9,500 + P25,000 + P16,250 + P18,250 + P75,250)