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CHAPTER 18 AUDIT INVESTMENTS AND CASH BALANCES

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18-1. The nature of investments in securities issued by other entities the ownership of certificates of deposit, preferred and common stocks of other entities, and corporate and government bonds. The audit area of investments in marketable securities interfaces with two other cycles. The receipt of interest and dividends from investments relates to the revenue cycle. The purchase of securities for cash pertains to cash disbursement transactions in the expenditure cycle.

18-2. The audit ob ectives for each of the management assertions that pertain to investments in marketable securities are! "xistence or occurrence • #ecorded investment asset and e$uity balances represent investments that exist at the balance sheet date. • %nvestment revenues, reali&ed gains and losses, and unreali&ed holding gains and losses included in income resulted from transactions and events that occurred during the period. 'ompleteness • (ll investments are included in the balance sheet investment accounts.. • The income statement effects of all investment transactions and events during the period are included in the income statement accounts. #ights and obligations • (ll recorded investments are owned by the reporting entity. )aluation or allocation • %nvestments are reported on the balance sheet at fair value, cost, amorti&ed cost, or the amount determined by the e$uity method, as appropriate for particular investments. • %nvestment revenues, and reali&ed and unreali&ed gains, and losses are reported at proper amounts. *resentation and disclosure • %nvestment balances are property identified and classified in the financial statements. • (ppropriate disclosures are made concerning +1, related party investments, +2, the bases for valuing the investments, and +-, the pledging of investments as collateral.

.olutions /anual to Modern Auditing: 'opyright © 2001, 2ohn 3iley and .ons, %nc.

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18--. a.

.had is incorrect about the balance sheet inasmuch as marketable securities held as short-term investments may be material to a company4s short-term solvency, and securities held as long-term investments may be material to total assets. .had may be incorrect about the income statement for a company that has trading securities, held to maturity securities when amorti&ation is significant, or available-for-sale securities for which unreali&ed holding gains and losses become reali&able due to sale or reclassification. 5eri is incorrect. The audit strategy decision is generally based on the fre$uency of investing transactions. 3hen there are relatively few transactions, the auditor generally uses a primarily substantive approach. 3hen there are many transactions, it may be more cost-efficient for the auditor to use a lower assessed level of control risk approach.

b.

18-6. Typically, the control environment pertaining to investments in marketable securities enhances internal control. 7or example, the authority and responsibility for investing transactions is often assigned to a company officer such as the treasurer. The accounting system must include provision for capturing and retaining all the necessary cost, fair value, and other data re$uired for each method of accounting for the various categories of investments in e$uity and debt securities, both at ac$uisition and at subse$uent reporting dates. "ach of the categories of control activities is applicable. .everal common documents and records are used in investing activities, and internal auditors may be involved in monitoring investment activities and balances. 18-1. a. The functions and related controls in the investing cycle consist of the following! • (uthori&ing investment transactions! o *urchasing securities. • #eceive or deliver securities! o #eceiving8 safeguarding8delivering securities. o #eceiving periodic income. • #ecording transactions! o #ecording purchases, sales, and income. o #ecording market ad ustments and reclassifications. • .ettle transactions! o #eceiving cash. o 9isbursing cash. o (ssessing investment performance and reporting. The following table summari&es internal controls that might be found in the investing cycle for each assertion +audit ob ective,.

b.

.olutions /anual to Modern Auditing: 'opyright © 2001, 2ohn 3iley and .ons, %nc.

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all securities. <se '((Ts to test the control by submitting data that should be re ected by the control.s advice. the possibility of misclassification of investments +presentation and disclosure assertion.s statements and reperform control on a test basis. completeness. #eview documentation of follow-up on disclosure committee actions. #ead the minutes of the disclosure committee and make in$uiries about issues discussed by a disclosure committee. #ecorded securities are regularly compared with broker. . "xistence and :ccurrence +:ccurrence. and +6. +b. 2ohn 3iley and . #ead the minutes of the disclosure committee and make in$uiries about issues discussed by a disclosure committee. The computer compares recorded $uantities and prices with the underlying broker.s statements. The computer compares the accounting period in which the transaction was recorded with the settlement date on the broker. ( disclosure committee reviews security transactions to determine if disclosures are appropriate of securities are pledged as collateral for loans or margin trades. +-. rights and obligations.. a receipt should be obtained from the custodian when the securities are returned to the client. a. 'ompleteness +'ompleteness. <se '((Ts to test the control by submitting data that should be re ected by the control. +2. #ights and :bligations 18-=. This test applies to four assertions! +1. ( disclosure committee reviews classification of securities as held to maturity. The acceptable level of detection risk is derived from the audit risk model. and +-. )aluation and (llocation +(ccuracy. 18-- . The precautions are! +1.(ssertion +(udit :b ective. existence or occurrence. *resentation and 9isclosure +'lassification. cash and other negotiable investments should be controlled during the count. presentation and disclosure. %n such cases. #eview documentation of follow-up on disclosure committee actions. 18->. 'ontrol risk. <se '((Ts to test the control by submitting data that should be re ected by the control.s advice. the custodian should be present during the count. and +c. Test of 'ontrols <se '((Ts to test the control by submitting data that should be re ected by the control. The computer prepares an exception report of authori&ed investment transactions that have not been recorded. %nherent risk for investment balances involves consideration of +a. :bserve evidence of reconciling recorded securities with the broker. the vulnerability of the securities to theft and misappropriation +existence or occurrence assertion. the acceptable level of detection risk will be low.. 'ontrol The computer checks for authori&ation to purchase or sell securities before recording the transaction. b. under the primarily substantive approach is at the maximum or slightly below the maximum. or trading securities.ons. %nc. the complexities pertaining to the valuation methods such as the e$uity method of accounting +valuation or allocation assertion. available for sale. +2..olutions /anual to Modern Auditing: 'opyright © 2001. "xistence and :ccurrence 8 'ompleteness +'utoff.

'ash accounts that should be included as cash balances on the balance sheet include undeposited receipts on hand. This date is often at or near the balance sheet date. Completeness. Classification. certain foreign currency balances. the purchase and sale of treasury stock. • 7inancing +%ssuing debt and e$uity securities. b. and +-.. 2ohn 3iley and . 18-11. #ecorded cash balances are reali&able at the amounts stated on the balance sheet and agree with supporting schedules #'A"%. The transaction cycles that affect cash are! • #evenue +cash sales and receivable collections. Cutoff. a.olutions /anual to Modern Auditing: 'opyright © 2001. • "xpenditure +cash purchases and payments on account.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. +2.. number of shares or bonds. . 18-12. The account balance audit ob ectives for cash are as follows! Specific Audit Objectives Transaction Objectives Occurrence.. . 18-10. Accuracy. name of owner. . description of the security. The entity has legal title to all cash balances shown at the balance sheet date +&O". &ights and Obligations. This test provides evidence about four assertions. +1. and other accounts that have restrictions on their use. 'aluation and Allocation. #ecorded cash balances include the effects of all transactions that have occurred +C". existence or occurrence. . %nc. the purchase and sale of securities. 18-?. valuation at historical cost. The working papers for securities should show the certificate number. • *ersonnel services +payment of employees and taxing authorities. payment of interest and dividends. +-. #ecorded cash balances exist at the balance sheet date + O". These accounts should be classified as investments. completeness. Balance Objectives !istence... @ear end transfers of cash between banks are recorded in the proper period +C$. redeeming bonds and retiring stock. . cash in bank in general checking and saving accounts.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements.ons. .ecurities held by others for the client should be positively confirmed with the custodian as of the date securities held by the client are counted. and imprest accounts such as petty cash and payroll bank account.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements.18-8.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. Completeness. and the receipt of interest and dividends. and name of issuer. 18-6 .ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. bond sinking fund cash. 'ash accounts that should not be classified as cash balances on the sheet include certificates of deposit. a. rights and obligations.. • %nvesting +The purchase of long-term assets. . @ear end transfers of cash between banks are recorded in the proper period # O$%.

ons. • Trace bank transfers. Because of the uni$ue aspects of cash. 'ash information is disclosed accurately and at appropriate amounts #)(.%. • *repare proof of cash. 18-16. a. Accuracy and 'aluation. (lthough the portion of current or total assets at any point in time represented by cash balances may be very smallA with five of the six transaction cycles affecting cash the amount of cash flowing through the accounts over a period of time that is susceptible to misappropriation can be very large. a. and the susceptibility of a valuable asset to misappropriation are the key reasons that strong internal controls over cash is important. Completeness. 7urther. Cowever. ( proof of cash need not be prepared when control risk pertaining to cash transactions and balances is low and the entity4s bank accounts have been reconciled. 18-11. *nderstandability. .(isclosure Objectives Occurrence and &ights and Obligations. 3hen an entity has strong internal controls and many cash accounts the lower assessed level of control risk approach may be used to limit the number of cash accounts where substantive tests may be performed. %n contrast. 18-1-. 9isclosed cash events and transactions have occurred and pertain to the entity #)("%. management may re$uest that the auditor plan work in the cash areas with a more extensive scope than would otherwise be re$uired due to the inherent risks in this area. b. (ll cash disclosures are appropriately presented and information in disclosures is understandable to users #)(+%. lower assessments of inherent risk may be made for the other assertions because they do not involve any contentious accounting issues. (ll cash disclosures that should have been included in the financial statements have been included #)($%. 18-1=. b. The check is included in the 9ecember -1 deposit of bank B. To illustrate. an unauthori&ed check is drawn on bank ( to cover a shortage in bank B. Three different tests of details of transactions that can be performed in auditing cash balances are! • *erform cash cutoff tests for cash receipts and cash disbursements. 5iting is an irregularity in which a bank transfer is recorded as a deposit in the receiving bank and is intentionally not recorded as a deduction from the bank on which it is drawn. auditors tend to plan their procedures to detect much smaller levels of misstatements than for other accounts. 2ohn 3iley and . 18-1 . Cence. the auditor may follow a primarily substantive approach. no 9ecember book entries are made for the check on Bank (. %nc. The volume of transactions.olutions /anual to Modern Auditing: 'opyright © 2001. %nherent risk for cash balances is fre$uently assessed as high for the existence or occurrence and completeness assertions because of the high volume of cash transactions and the vulnerability of cash to misappropriation.

b. %nc. %n an effort to conceal the shortage. insist that the custodian of the cash be present throughout the count. Tests to detect lapping are only performed when control risk for cash receipts transactions is moderate or high. 'onditions conducive to lapping exist when an individual who handles cash receipts also maintains the accounts receivable ledger. other deposit and loan accounts that may have come to the attention of the authori&ed bank official. 18-1?. 18-21. 2ohn 3iley and . .s account can be explained as a delay in receiving the money or posting. b. correct the customer.olutions /anual to Modern Auditing: 'opyright © 2001. 18-1>. There are three procedures that should detect lapping! o 'onfirm (ccounts #eceivable. This test provides evidence primarily for the existence or occurrence and rights and obligations assertions for cash balances. deposit balances. ascertain that all undeposited checks are owned by the client either directly or through endorsement. Dapping is usually associated with collections from customers. +-. ( compensating bank balance is the minimum balance the depositor must maintain to have an established line of credit with a bank. 18-= . The information re$uested in confirming bank deposit and loan balances consists of +1. %t may involve either a temporary or a permanent abstraction of cash receipts for the personal use of the individual perpetrating the unauthori&ed act. keep bank and book amounts in daily agreement so that a bank reconciliation will not detect the irregularity and +2. 5iting can be detected by +1. and +-. a. a.urprise 'ash 'ount. the auditor should +1. by using a bank cutoff statement. Dapping is an form of fraud that results in the deliberate misappropriation of cash receipts. control all cash and negotiable instruments held by the client until all funds have been counted. tracing bank transfers and +2.lips.s account within three to four days of actual collection so that any discovered discrepancy in the customer. o /ake a . 18-20. +2.b. +2. To property count cash on hand. obtain a signed receipt from the custodian on return of the funds to the client.ons. 18-18 a. o 'ompare 9etails of 'ash #eceipts 2ournal "ntries with the 9etails of 'orresponding 9aily 9eposit . a. b. loan balances. but it may also involve other types of cash receipts. and +6. %t contributes to the completeness assertion but it cannot be relied upon entirely because the respondent is not re$uired to search bank records for deposit and loan balances other than the ones listed on the re$uest. the embe&&ler usually attempts to +1.

the auditor should! • Trace all prior-year dated checks to the outstanding checks listed on the bank reconciliation. and has custody of the resulting assets.ons. a bond sinking fund that should be classified as a noncurrent asset. a. 2ohn 3iley and . and the cutoff statement should be obtained by the auditor directly from the bank. The bank cutoff statement should be obtained at a point in time that will permit the outstanding checks to clear the bank. 3hen the acceptable level of detection risk is high. . +"stimated time . . • Trace deposits in transit on the bank reconciliation to deposits on the cutoff statement • .egregation of duties. They should be registered in the name of the company. 18-22.everal of the categories of internal control activities have been violated. +b. the board of directors +or a finance committee of the board. the auditor may review the client4s reconciliation. Comprehensive -uestions 18-21. %f detection risk is moderate. disclosure of arrangements with banks. The auditor4s primary source of evidence for compensating bank balances is obtained from confirming other arrangements with banks. The securities are apparently registered in the name of the treasurer. b. 18-2-. The auditor should review the minutes of board of directors meetings as well as make in$uiry of management as to restrictions on the use of cash balances. "xamples of circumstances that affect the presentation and disclosure assertion for cash include the existence of +a. %nc. 3hen the acceptable level of detection risk is low. ( review includes vouching reconciling items to supporting documentation.b.can the cutoff statement and enclosed data for unusual items. 3hen detection risk is very low. should authori&e each purchase and sale of securities. 7or proper control. • 9ocuments and records. the auditor may scan the client prepared bank reconciliation and verify its mathematical accuracy. and +c. %t is proper for the treasurer to execute the securities transactions. 18-26.21 minutes. and another officer or an outside independent agent should be the custodian. the auditor may obtain the bank statement directly from the bank for use in preparing the bank reconciliation. The treasurer executes transactions. • . Cowever. records the transactions. • *roper authori&ation.olutions /anual to Modern Auditing: 'opyright © 2001. The primary assertion related to compensating bank balances is presentation and disclosure.. accounting personnel should record the transactions. a bank overdraft that should be reported as a current liability. a. (fter receiving the cutoff bank statement. and investigating old and unusual items. 18-> . the auditor may prepare the bank reconciliation using bank data in the client4s possession.

This should be done independently at reasonable intervals and investigation should be made of any difference. 2. 1. recalculate revenue earned. b. 'onfirm securities held by others %nspect and count securities on hand )ouch entries in investment accounts to broker. 18-8 . schedules and subsidiary ledgers 'ompare statement presentation with F((* 'ompare statement presentation with F((* b. Eo mention is made of storing the '9s in a vault or safety deposit box.s advice. -. =. Eo comparison is made of recorded accountability with existing assets. completeness.inancial Statement Assertion )aluation of allocation (ll assertions "xistence or occurrence.uch controls should be used and access should be limited to authori&ed personnel. #ecalculate revenue earned )ouch entries in investment accounts to broker.• • (ccess controls. >. documentary 9ocumentary /athematical 9ocumentary 9ocumentary . rights and obligations (ll except rights and obligations (ll assertions (ll except rights and obligations )aluation or allocation )aluation or allocation *resentation and disclosure *resentation and disclosure c. . . 18-2=. a. and +-. 2ohn 3iley and .s advice. %nspect and count securities on hand #eview documentation concerning market values )erify accuracy of balances. %ndependent checks.ons. Type of vidence /athematical 9ocumentary 'onfirmation *hysical. 10. +"stimated time . The substantive tests that would detect the irregularity are +1. ?.21 minutes. vouch entries in investment accounts. 6. Substantive Test 1. 8. inspect and count securities on hand. %nc. +2.olutions /anual to Modern Auditing: 'opyright © 2001. documentary 9ocumentary *hysical.

@ear end transfers of cash between banks are recorded in the proper period +C$.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. The '*( would accept a confirmation of the securities on hand from the custodian in lieu of personally inspecting and counting the securities after investigating and satisfying him or herself as to the standing of the custodian. . Balance Objectives !istence. a. Completeness.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. 18-? . Cutoff. The '*( would probably be satisfied upon finding the custodian to be a well-known. (ll cash disclosures that should have been included in the financial statements have been included #)($%. 2ohn 3iley and . #ecorded cash balances include the effects of all transactions that have occurred +C". Accuracy. completely independent of the client and with resources substantially larger in amount than the securities of the '*(4s client that are on deposit. the confirmation should be delivered directly to the '*( by the custodian without passing through the client4s hands. b.. Classification. reliable financial institution. Specific Audit Objectives Transaction Objectives Occurrence. &ights and Obligations.18-2>. %n examining the investment account and the custodian4s detailed statements. . *nderstandability.-0 minutes. .ons.olutions /anual to Modern Auditing: 'opyright © 2001. (isclosure Objectives Occurrence and &ights and Obligations. 9isclosed cash events and transactions have occurred and pertain to the entity #)("%. @ear end transfers of cash between banks are recorded in the proper period # O$%.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. #ecorded cash balances are reali&able at the amounts stated on the balance sheet and agree with supporting schedules #'A"%.ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements. . 'ash information is disclosed accurately and at appropriate amounts #)(. #ecorded cash balances exist at the balance sheet date + O".ee 'hapter 16 for audit ob ectives related to cash receipts and 'hapter 11 for audit ob ectives related to cash disbursements.%. The entity has legal title to all cash balances shown at the balance sheet date +&O". . +"stimated time .. The confirmation should contain a statement to the effect that securities were the property of the depositor on a specified date. 7urthermore. (ll cash disclosures are appropriately presented and information in disclosures is understandable to users #)(+%. to be acceptable as accounting evidence. the '*( would expect to find few. The ob ectives of the '*(4s examination of the investment account can be summari&ed as follows. errors made by the custodianA the discovery of errors on the part of the custodian would cast serious doubt on the reliability of the confirmation.. %nc. if any. Accuracy and 'aluation. . Completeness.. 'aluation and Allocation. Completeness.

• 'omputations of year-end accruals were not made. 1?G1. The sale of the securities resulted in cash that could have been used to purchase other securities or in other ways. The following information is missing! • The date of purchase of . The '*( would recommend that full disclosures be made in a footnote of the sale and repurchase of the securities so that readers of the financial statements will have ade$uate information to compare the current report with reports for prior years. The following substantive tests were not noted as having been performed +this was not a stated re$uirement of the $uestion. • The stated interest rates. revenue accruals • 9ata re$uired to evaluate the classification of securities b. security • The date of purchase and sale of # security • 9ata concerning the accrual and8or receipt of interest due on # to date of sale • 9ata concerning the accrual and8or payment of interest due on . 18-10 . +"stimated time . 18-28. and market values were not verified. . • The broker4s advice +or other independent corroborating evidence. to the date of purchase.c. 2ohn 3iley and .ubstantive tests noted as having been performed are! • The initial procedure of tracing beginning balances to prior year4s working papers. The same treatment should be accorded to the actual transactions. • 2ustification for accrual of dividends • (ccounting treatment of bond discount • 9ata concerning the 9ecember -1. verifying the sale of # was not examined. %f the cash had been used to buy other securities.tandard H *oor4s. of dividend declarations. • The initial procedure of obtaining a client-prepared schedule of investments and footing and crossfooting the schedule and reconciling selected totals with corresponding general ledger balances. %nc. maturity dates. • 9ividend rates were not verified by reference to public records +.olutions /anual to Modern Auditing: 'opyright © 2001. a. • Dimited vouching of transactions to supporting documentation.! • The securities were not physically inspected or confirmed. .21 minutes.ons. The gain on the securities transactions would be reported in the income statement on a separate line after the results of operations for the year. these new securities would have been recorded at their cost--the cash expended to ac$uire them. The securities should be reported in the balance sheet at their new cost or repurchase price. The loss on operations for the year must be clearly set forth in the income statement so that readers can make meaningful comparisons with prior years. That management had planned to repurchase the same securities does not alter the fact that alternative uses for the cash existed.

"valuate the completeness of presentation and disclosures for receivables in drafts of financial statements to determine conformity to F((* by reference to disclosure checklist. The entity. review. 'alculate cash as a percent of current assets and compare with expectations. The significance of cash balances and transactions on the entity. 1. 10. duplicate deposit slips. c. #eview documentation such as daily cash summaries. %nc. +"stimated time . 'onfirm other arrangements with banks such as lines of credit. c. 'ompare cash balances with budgeted amounts. 'ount undeposited cash on hand and determine that such amounts are included in cash balances. compensating balance agreements. :btain client-prepared schedules of cash on hand and in bank. -. 'ompare dates on checks issued for several days before and after the year-end date to the dates the checks were recorded to determine proper cutoff. 11. b.ons. d. b. #eview activity in general ledger accounts for cash and investigate entries that appear unusual in amount or source. :bserve the last check issued and mailed on the last business day of the fiscal year and trace to accounting records to determine the accuracy of the cash disbursements cutoff. 'onfirm bank deposit and loan balances with banks. 18-11 . 9etermine that bank overdrafts are reclassified as current liabilities. #ead disclosures and independently evaluate their understandability.20 minutes. loan guarantees. or other expected amounts. 8. review correspondence with banks.s working papers. Category %nitial *rocedures Substantive Test 1. *erform analytical procedures! a. prior year balances. verify mathematical accuracy and determine agreement with general ledger. 2ohn 3iley and . 6. and review minutes of board of directors meetings to determine matters re$uiring disclosure such as lines of credit. :btain an understanding of the business and industry and determine! a. :bserve that all cash received through the close of business on the last day of the fiscal year is included in cash on hand or deposits in transit and that no receipts of the subse$uent period are included. a. loss on sale of #.• Eot all amounts +for example.! a. *erform cash cutoff tests +note these test may have been performed as part of the audit programs for accounts receivable and accounts payable. and prepare bank reconciliations as appropriate. 9etermine that cash balances are properly identified and classified in the financial statements. or b. or d. 'ompare statement presentation with F((*. *repare proof of cash for any bank accounts that the entity has been unable to reconcile or for which there is a high risk that fraudulent transactions have occurred. (nalytical *rocedures Tests of 9etails of Transactions Tests of 9etails of Balances *resentation and 9isclosure . *erform initial procedures on cash balances and records that will be sub ected to further testing. and loan guarantees or other parties. >. detect any unrecorded checks that have cleared the bank. and bank statements covering several days before and after year-end date to determine proper cutoff. :btain scan. =. ?. Trace bank transfers for several days before and after the year-end date to determine that each transfer is properly recorded as a disbursement and a receipt in the same accounting period and is properly reflected in bank reconciliations when applicable. /ake in$uires of management. Trace beginning balance for cash on hand and in bank to prior year. 18-2?.olutions /anual to Modern Auditing: 'opyright © 2001. were traced to the general ledger. 2. or other restrictions on cash balances. and look for evidence of window dressing. :btain and use bank cutoff statements to verify bank reconciliation items. b. b. compensating balance agreements. a. a.s policies for forecasting cash balances and investing surplus cash balances. c. 12.

18-12 .11-. validity of all other sources of cash receipts which are not recorded in these ournals. o .10 The cashier removed I>1?. +"stimated time .00 I1?. *atricia 'ompany 'omputation of (mount (bstracted by 'ashier Eovember -0. other than from cash receipts ournals.-0 minutes.18--0. 20G: 'ash balance.=2 100. 2ohn 3iley and .>1 I 6.0=2.ubtracting an item from the bank balance that should be added to book balance. +"stimated time .>?6. 20G: (dd! 'redit by bank (d usted cash balance +on hand and in bank.001.ons.ince the auditor. %nc. Dess ad usted bank balance! Bank balance.68>. procedures.=2 I11.omeone other than the cashier should be responsible for preparing bank reconciliation. 20G: Dess outstanding checks! =2 182 286 8=21 8=28=-2 'ash which should be on hand for deposit 'ash reported (mount of theft b.omeone other than the cashier should trace cash receipts to the deposits in the bank o .110. Ce attempted to conceal his theft by! o Eot listing all outstanding checks. per books Eovember -0.61 I >1?. I11=. o <nderfooting outstanding checks shown on the reconciliation.00 1. Other Audit )rocedures &eason for Other Audit )rocedures . only examines the cash receipts should be investigated and supporting ournal. using standard account.10.00 21-. .21 minutes. Eovember -0. 18--1.olutions /anual to Modern Auditing: 'opyright © 2001.28 I18.ources of debit entries in general ledger cash .80 161.21 1?0.2? 16. c. he or she must investigate the documents examined.21 110.?1 -.>1 20=.?01. Two controls that were lacking are! o . a.

a surprise examination is the only method of determining if cash receipts are being recorded and deposited properly.ince there are no initial controls over cash receipts established prior to the time the accounts receivable clerk obtains the cash. %f the accounts receivable clerk was careless in performing posting duties. the accounts receivable clerk may have appropriated discounts which could have been. . the auditor should make a list of them without the clerk4s knowledge. this procedure may also disclose whether the accounts receivable clerk may have been lapping the accounts. *rior to the accounts receivable clerk obtaining the cash receipts. 18-1- .ince there are no initial controls over cash . *ostings from other deposit slips should be traced to the cash receipts ournal and the subsidiary accounts receivable ledger.olutions /anual to Modern Auditing: 'opyright © 2001. %f Fut&ier allows customers to take discounts. This procedure may also disclose whether the accounts receivable clerk may have been lapping the accounts. the amount of such discounts and the discount period should be checked. or may have been careless in checking the appropriateness of discounts taken. &eason for Other Audit )rocedures . The auditor should ask Fut&ler to ask the bank to send the statement containing that deposit directly to the auditor.ons. the accounts receivable clerk may have been careless in performing posting duties. :nce more. %nc. The deposit slip should be totaled and compared to the remittances and the list prepared by the auditor for accuracy. entries in the subsidiary accounts receivable ledger should be traced to the cash receipts ournal and to the deposit slips. 9ates and amounts of daily deposits per bank . The undeposited mail receipts should then be controlled after completion of their preparation for deposit and after postings have been made to the subsidiary accounts receivable ledger.ince there is no separation of duties between cash receipts and accounts receivable. 2ohn 3iley and . (lso. but were not.Other Audit )rocedures ( surprise examination of cash receipts should be performed. there is no separation of duties between cash receipts and accounts receivable. . taken.ince there is no separation of duties between cash receipts and accounts receivable. %ndividual items on the deposit slip should be compared to postings to the subsidiary accounts receivable ledger. #eview the subsidiary accounts receivable ledger and confirm accounts that have abnormal transaction activity such as consistently late payments.

-0 minutes.000 100. Bank (ccounts Ck.olutions /anual to Modern Auditing: 'opyright © 2001. determine that bank balances are correctly stated at the balance sheet date and +2. *repare a ratio analysis of monthly collections to total sales of the preceding month or monthly collections to total accounts receivable at the beginning of the month and compare this analysis with a similar analysis for the preceding year.000 21. +"stimated time . . )isit the client on the balance sheet date or the next business day to determine that an appropriate cutoff of cash receipts has been made. 7or those periods for which the above audit procedures were not performed and for a period after the balance sheet date. the auditor needs to be satisfied that cash receipts are recorded in the appropriate period. 2ohn 3iley and . 18--2.pec '--pay '--#eg /--.000 (isbursement (ate Books =82=821 =828 =82? =8-0 >81 Bank =8-0 >82 >81 >8= >8> >81 #eceipt 9ate Books =821 =82> =8-0 >81 >82 =8-0 Bank =821 =82> =8-0 >81 >82 =8-0 .Other Audit )rocedures statements should be compared with entries in the cash receipts ournal ( proof-of-cash working paper should be prepared which reconciles total cash receipts with credits per bank statements.ince internal control over cash receipts is weak.pec /--.pec (mount of 'heck I100. 18-16 . the auditor should perform that review to help substantiate that all material items not covered during other tests have been investigated. &eason for Other Audit )rocedures receipts established prior to the time the accounts receivable clerk obtains the cash.rom '--#eg '--#eg '--#eg /--.pec '--#eg To '--*ay '--*ay /--. 26>= 28?0 -160 (100= (1261 -602 .000 200.ince internal control over cash receipts is weak. to detect kiting. b. /o. the auditor should perform that overall check to help substantiate that he or she has investigated all material items during the detail tests. this overall test may highlight points of irregularities. The opening and closing reconciliation of the proof of cash should be compared to the comparable reconciliation prepared by the controller. . The purposes of auditing bank transfers are to +1.000 10. a.000 121.ince internal control over cash receipts is weak. is such exist. the clerk may have become careless about promptly depositing the daily receipts.ons. %nc. scan the cash receipts ournal and bank statements for unusual items. .ince internal control over cash receipts is weak. .

and the accounts receivable control account.10 minutes. 'ity Bank--#egular d. sales discounts. Cases 18--6. dates. (100=. o #econcile the total of the individual customers4 accounts with the accounts receivable control account. 18-11 . -602.tanley would test the aging of accounts receivable and then o /ail positive accounts receivable confirmation re$uests directly to all customers with old balances. o )erify the propriety of noncash credits to accounts receivable +for example.000 :utstanding checks! 28?0. 10. o %nvestigate all exceptions noted on confirmations.ons.000 121. o 7oot the cash receipts ournal. Bank 'learing +9ue from /etro Bank--. . . but was not recorded as a disbursement until 2uly 1. and b. 18---. +"stimated time .olutions /anual to Modern Auditing: 'opyright © 2001. and deposit slips +if practicable.c.11 minutes.pecial. the customers4 ledger accounts. o 'ompare information in copies of monthly customers4 statements with information in customers4 ledger accounts. +"stimated time . o :btain authenticated deposit slips directly from the bank. %n order to determine whether lapping exists.pecial.. a.000 10. o *erform a surprise inspection of deposits.000 21. and deposited on 2une -0. bad debt write-offs. individual customer ledger accounts. 2ohn 3iley and . (1261 9eposits in transit! -602 'heck -602 is indicative of kiting because the check was received.000 121. and amounts shown on the customer4s remittance advices with the names. recorded.pecial.. and amounts recorded in the cash receipts ournal.000 21. -160. sales returns. e. 'ity Bank--#egular Bank 'learing +9ue to /etro Bank--. dates. 'ity Bank--*ayroll Bank 'learing +9ue to /etro Bank--. o 'ompare individual customers4 names. %nc.

(ppropriate.ons. Because of strong internal control. o #eview monthly statements. completeness. the count may be made at any time close to 9ecember -1. (ssertions are existence or occurrence. %nappropriate. This information should be provided by the client. only material gains or losses need to be verified. The auditor should verify accuracy of schedule and some market values. %f no ustification. since it is contrary to the presumption stated in (*B Eo. and valuation or allocation. (vailable-for-sale securities o *repare analysis.. etc. completeness. This audit test relates to the valuation or allocation ob ective. (ppropriate. and valuation or allocation. This ordinarily is done as part of vouching purchases and sales. Fovernment securities o *repare schedule of securities. Cowever. The assertions are existence or occurrence. %n principal. 2ohn 3iley and . <. o 'ompare dividends received with published dividend record. this only needs to be done on a select basis. the auditor should only verify the accuracy of the schedule and compare it with the ledger balance. rights and obligations. Cowever. and rights and obligations. 18-1= . o )ouch purchases and sales. 18. (ppropriate. test only needs to be done on a limited basis because of internal control. The main concern here is to determine whether management can ustify using this method. o 'ount securities at 9ecember -1. %nc. (ppropriate. (ppropriate. (ssertions are existence or occurrence. .. o Trace confirmations to schedules. and extent of resulting substantive tests is essential.This case study contains information for a discussion of audit procedures for investment securities and related income in a situation involving strong internal controls. timing. completeness. rights and obligations. including market values. and valuation or allocation. This is necessary to meet the existence or occurrence. The schedule should be prepared by the client. (ppropriate. the client should change method or auditor should $ualify the audit report. %nvestment in =0J owned subsidiary o #e$uest confirmation. if done on a test basis. (ssertions are existence or occurrence. The program fails to specify that the auditor should determine whether or not the securities have been endorsed to other parties. (ssertion is valuation or allocation. o :btain direct confirmation from <tah Banking. (ppropriate.olutions /anual to Modern Auditing: 'opyright © 2001. and rights and obligations assertions. o )erify interest earned and accrued. %nappropriate. The subsidiary investment is carried at cost. (ssertions are the same as for vouching purchases and sales. and rights and obligations assertions. (ppropriate. the count is necessary to meet the existence or occurrence. (ssertion is valuation or allocation. %nappropriate. Cowever. Thus. o )erify recorded gain on sale. completeness. (ssertions are the same as +2. o Trace appropriate totals to general ledger. The solution provides for an evaluation of the appropriateness of each procedure in the order in which they are presented in the audit program. (ppropriate. completeness. recognition of the effect of such controls on the nature. rights and obligations..

o #ecord e$uity in net assets. This procedure is needed to meet the valuation or allocation assertion.s intent and ability to hold them to their maturity.s ability to significantly influence the investee. 1= Fenerally accepted accounting principles re$uire that management. L "$uity securities are classified as trading or available-for-sale depends on management. and comparing the financial statement presentation to F((*. including the proper classification of the investment securities as trading. c. 2ohn 3iley and .s intent and ob ectives in investing in the securities. o The program does not re$uire the auditor to determine the propriety of the statement presentation and disclosure. and presentation and disclosure assertions.s intent and ability.ons. not unrecorded amounts.1> and . valuation or allocation. %nc. (ppropriate. This substantive test is important in meeting the existence or occurrence. including the treatment of any reali&ed and unreali&ed gains and losses due to changes in market value.18 addresses how the auditor should obtain to evaluate assertions about securities based on management. %f client agrees to adopt e$uity method. The company is using the cost method. 18-1> . )rofessional Simulations &esearch Situation Audit )lanning Audit )rocedures (< --2.s intent and ability be considered in valuing certain securitiesA for example. %nappropriate. whetherK L 9ebt securities are classified as held-to-maturity and reported at their cost depends on management. . completeness. The auditor may learn of the existence of any liens from an inspection of the minutes book and by in$uiry of management. %nappropriate. The program also fails to re$uire the auditor to determine whether the investment should be written down at 9ecember -1. an ad ustment should be proposed by the auditor to meet the valuation or allocation assertion. or e$uity method investments. :ther points o The program does not re$uire the auditor to apply analytical procedures on the investment accounts.o 9iscuss 9ecember -1 statements with management. (lso inappropriate in that auditor would be making the entry. These paragraphs are presented below. since internal control is strong. assessing its abilities regarding holding periods. held-to-maturity. This should be done by making appropriate in$uiries of management to learn management4s intent regarding holding periods. 9iscussion should be directed at propriety of method used.olutions /anual to Modern Auditing: 'opyright © 2001. L "$uity securities are reported using the e$uity method depends on management. available-for-sale. o "stablish that intercompany accounts are in agreement.

:btain an understanding of the process used by management to classify securities as trading. 9etermine whether management. or the entity. %f the entity asserts that it maintains effective control over securities transferred under a repurchase agreement. b. %nc. in$uire of management as to whether the entity has the ability to exercise significant influence over the operating and financial policies of the investee and evaluate the attendant circumstances that serve as a basis for management. +2. +6. working capital needs..s inability to obtain information from an investee may suggest that it does not have the ability to significantly influence the investee. may provide evidence about an entity. d. the auditor shouldK a. operating results. 7or an investment accounted for using the e$uity method.s financial position. the auditor should evaluate an assertion that management intends to hold debt securities to their maturity by examining evidence such as documentation of management. fn 1? The auditor should inspect the documentation and obtain evidential matter about its timeliness. . contractual agreements.ons. /anagement. 'onsider whether management. +-.s ability to hold debt securities to their maturity. %f the entity accounts for the investment contrary to the presumption established by generally accepted accounting principles for use of the e$uity method. debt agreements. 9etermine whether generally accepted accounting principles re$uire management to document its intentions and specify the content and timeliness of that documentation.olutions /anual to Modern Auditing: 'opyright © 2001. The entity. f.s strategies and sales and other historical activities with respect to those securities and similar securities. 18-18 .s financial condition provide evidence of its ability.s intent and ability.s conclusions. /anagement.1> %n evaluating management.s activities corroborate or conflict with its stated intent. c. "xamples follow! +1. or held-to-maturity. guarantees. available-for-sale. as well as laws and regulations.s activities. the contractual agreement may be such that the entity actually surrendered control over the securities and therefore should account for the transfer as a sale instead of a secured borrowing. <nlike the formal documentation re$uired for hedging activities. and other relevant contractual obligations. evidential matter supporting the classification of debt and e$uity securities may be more informal.s cash flow pro ections may suggest that it does not have the ability to hold debt securities to their maturity. e. alternate sources of li$uidity. 7or example. obtain sufficient competent evidential matter about whether that presumption has been overcome and whether appropriate disclosure is made regarding the reasons for not accounting for the investment in keeping with that presumption. 2ohn 3iley and .

This procedure will prevent the client from making alterations of the data to cover any misstatements.ons. the auditor may obtain the year-end bank statement directly from the bank and prepare the bank reconciliation.. The evidence provided by a bank reconciliation alone is generally not considered sufficient to verify the balance of cash in bank because of uncertainties concerning the following two most important reconciling items! +1. outstanding checks. 0ood 1nternal Controls over Cash Transactions and Cash Balances 3hen control risk is low +and detection risk is high.taff Training for (udit of 'ash Balances 7rom! '*( 'andidate The following table contrasts the audit of cash balances when the client has good controls over cash balances vs. . for this purpose. The procedure of obtaining a bank cutoff statement is designed. deposits in transit and +2. the auditor may scan the client-prepared bank reconciliation and verify the mathematical accuracy of the reconciliation. the reliance that an auditor can place on a bank reconciliation is significantly enhanced. 2ohn 3iley and . the auditor may prepare the bank reconciliation using bank data in the client. in part. directly to the auditor..s possession. etc. having poor controls over cash balances. the auditor may review the client. %nc. the auditor must re$uest the client to instruct the bank to send the bank statement and accompanying data +paid checks. 3hen detection risk is very low or the auditor suspects possible material misstatements. To do so. 3hen the cutoff statement validates these and other reconciling items.s bank reconciliation more carefully.olutions /anual to Modern Auditing: 'opyright © 2001.uch evidence is obtainable only by tracing these items to the bank statement in the next accounting period. %f detection risk is moderate. debit memos.Audit )lanning &esearch Situation Audit )rocedures To! (udit 7ile #e! . The review will normally include • 'omparing the ending bank balance with the balance confirmed on the bank confirmation form • )erifying the validity of deposits in transit and outstanding checks • "stablishing the mathematical accuracy of the reconciliation • )ouching reconciling items such as bank charges and credits and errors to supporting documentation • %nvestigating old items such as checks outstanding for a long period of time and unusual items 2eak 1nternal Controls over Cash Transactions and Cash Balances 3hen control risk is high or maximum +and detection risk is low. 18-1? .. .

through i. )ouched to bank cutoff statement. e. c. h.olutions /anual to Modern Auditing: 'opyright © 2001. 'ash receipts ournal show deposit in 9ecember of 20G. foot . b. %nc. Bank charges vouched to bank statement received in 2anuary 20x6. E. bank statement. d. 20Gand it check cleared the bank in 2anuary 20G6. f. The check was dated prior to 9ecember -1. )ouched to remittance advice received from the bank with notification of collection of note from customer.ons. )ouched to actual check that cleared the bank. )ouched to bank cutoff statement. 'heck number was recorded in error. 20x6.. Legend a. Audit )rocedure (greed bank cutoff statement received directly from the bank. and cash disbursements ournal. 2ohn 3iley and .Audit )rocedures &esearch Situation Audit )lanning The following table explains the auditing procedures that should be performed associated with the legend identified as a.and bank cutoff statements shows deposit per bank in 2anuary 20G6. Traced to general ledger at 9ecember -1. 18-20 . i. g.7 check vouched to bank documentation accompanying the return of the customers check.