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Chapter 16 Auditing the Financing/Investing Process: Cash and Investments McGraw-Hill/Irwin ©2008 The McGraw-Hill Companies, All Rights Reserved.

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Presentation on theme: "Chapter 16 Auditing the Financing/Investing Process: Cash and Investments McGraw-Hill/Irwin ©2008 The McGraw-Hill Companies, All Rights Reserved."— Presentation transcript:

1 Chapter 16 Auditing the Financing/Investing Process: Cash and Investments McGraw-Hill/Irwin ©2008 The McGraw-Hill Companies, All Rights Reserved

2 Balance Sheet Assets Cash Investments Receivables Prepaids Inventory PP and E Other assets - intangibles Liabilities and Equity Accounts payable Accrued liabilities Debt Common stock Retained earnings

3 16-3 Cash and the Effect of Other Business Processes Cash reported in the financial statements represents currency on hand and cash on deposit in bank accounts, including certificates of deposit, time deposits, and savings accounts. Cash equivalents are frequently combined with cash for presentation in the financial statements. Definition: Short-term, highly liquid investments that are readily convertible to cash or so near their maturity that there is little risk of change in their value. Examples: Treasury bills; commercial paper; and money market funds. LO# 1

4 16-4 Cash and the Effect of Other Business Processes LO# 1

5 16-5 Types of Bank Accounts In order to maximize its cash position, an entity implements procedures for accelerating the collection of cash receipts and properly delaying the payment of cash disbursements. General Cash Account Impress Cash Accounts Branch Accounts Types of Bank Accounts LO# 2

6 16-6 Substantive Analytical ProceduresCash This limited use of substantive analytical procedures is normally offset by (1) extensive tests of controls and/or substantive tests of transactions for cash receipts and disbursements or (2) extensive tests of the entitys bank reconciliations. Because of the residual nature of the cash account, the auditors use of substantive analytical procedures for auditing cash is limited to... comparisons with prior years cash balances. comparisons with budgeted amounts. LO# 3 & 4

7 16-7 Substantive Tests of Details of Transactions and Balances LO# 3 & 4

8 16-8 The Effects of Controls The reliability of the clients controls over cash affects the nature and extent of the auditors tests of details. Controls for Cash Receipts Controls for Cash Disbursement s Completion of Monthly Bank Reconciliation LO# 3, 4, & 5

9 16-9 Balance-Related Assertions LO# 3 & 4

10 16-10 Auditing the General Cash Account Copy of Bank Reconciliation Standard Bank Confirmation Cutoff Bank Statement To audit a cash account, the auditor should obtain these items. LO# 5

11 16-11 Bank Reconciliation Working Paper LO# 5

12 16-12 Standard Bank Confirmation Form LO# 5

13 16-13 Cutoff Bank Statement Date of Last Bank Reconciliation 7 to 10 Days A cutoff bank statement normally covers the 7- to 10-day period after the date on which the bank account is reconciled. Any reconciling item should have cleared the clients bank account during the 7- to 10-day period. LO# 5

14 16-14 Tests of the Bank Reconciliation The auditor uses the following audit procedures to test the bank reconciliation: 1.Test the mathematical accuracy and agree the balance per the books to the general ledger. 2.Agree the bank balance on the reconciliation with the balance shown on the standard bank confirmation. 3.Trace the deposits in transit on the bank reconciliation to the cutoff bank statement. 4.Compare the outstanding checks on the bank reconciliation with the canceled checks in the cutoff bank statement for proper payee, amount and endorsement. 5.Agree any charges included on the bank statement to the bank reconciliation. 6.Agree the adjusted book balance to the cash account lead schedule. LO# 5

15 16-15 Auditing a Payroll or Branch Impress Account The audit of any impress cash account such as payroll or a branch account follows the same basic audit steps discussed under the audit of the general cash account. LO# 5

16 16-16 Auditing Petty Cash Usually not material. Potential for defalcation. Seldom perform substantive tests. Document controls. LO# 5

17 16-17 Disclosure Issues for Cash LO# 5

18 16-18 Disclosure Issues for Cash LO# 5

19 16-19 Disclosure Issues for Cash LO# 5

20 16-20 Fraud-Related Audit Procedures Extended Bank Reconciliation Procedures Proof of Cash Tests for Kiting LO# 6

21 16-21 Extended Bank Reconciliation Procedures In some instances, the year-end bank reconciliation can be used to cover cash defalcations. This is usually accomplished by manipulating the reconciling items in the bank reconciliation. For example, suppose a client employee was able to steal $5,000 from the client. The clients cash balance at the bank would then be $5,000 less than reported on the clients books. The employee could hide the $5,000 shortage in the bank reconciliation by including a fictitious deposit in transit. LO# 6

22 16-22 Proof of Cash LO# 6

23 16-23 Kiting Cash stolen by employee Transfers money from one bank account to another Recorded improperly on books.

24 16-24 Tests for Kiting LO# 6

25 16-25 Investments Common StockPreferred Stock Debt SecuritiesHybrid Securities LO# 7

26 16-26 Control Risk Assessment Investments Occurrence and Authorization Completeness Accuracy and Classification Here are some of the more important assertions for investments. LO# 8

27 16-27 Segregation of Duties LO# 9

28 16-28 Substantive Procedures for Testing Investments LO# 10

29 16-29 Tests of DetailsInvestments Existence Auditing Standards state that the auditor should perform one of the following procedures when gathering evidence for existence: Physical examination Confirmation with the issuer Confirmation with the custodian Confirmation of unsettled transactions with the broker-dealer Confirmation with the counterparty Reading executed agreements

30 16-30 Tests of DetailsInvestments Valuation and Allocation The auditor must also determine if there has been any permanent decline in the value of an investment security. Auditing and accounting standards provide guidance for determining whether a decline in value below amortized cost is other than temporary.

31 16-31 Tests of DetailsInvestments Valuation and Allocation Here are some factors that may indicate a non-temporary impairment of investment value: Fair value is significantly below cost Decline in fair value is attributable to specific adverse conditions Management does not possess both the intent and ability to hold the investment long enough to allow for recovery in fair value A debt security has been downgraded by a rating agency The financial condition of the issuer has deteriorated Permanently Impaired = Write down to new carrying amount

32 16-32 Tests of DetailsInvestments Disclosure Assertions Marketable securities need to be properly classified as held-to-maturity, trading, and available-for-sale. Held-to-maturity securities and individual available-for-sale securities should be classified as current or non-current assets based on whether management expects to convert them to cash within 12 months All trading securities should be classified as current assets

33 16-33 End of Chapter 16

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