Chapter 8: Audit of the Financing and Investing Cycle: Tests of

Controls and Substantive Tests of Transactions

8-19. For each of the following errors in property, plant, and equipment
accounts, state an internal control the client could install to prevent the error
from occurring and a substantive audit procedure the auditor could use to
discover the error.

1) The asset lives used to depreciate equipment are less than

reasonable, expected useful lives.

Internal Control: Application of the government study

depreciation table.
Substantive Audit Procedure: Compare the lives used to the
government study depreciation table.

2) Capitalizable assets are routinely expensed as repairs and

maintenance, perishable tools, or supplies expense.

Internal Control: Require approval for all the expenditures.

Substantive Audit Procedure: Verify all the expense charges
to these accounts.

3) Construction equipment that is abandoned or traded for

replacement equipment is not removed from the accounting
records.

Internal Control: Require a construction foreman to report to

the accounting department periodically.
Substantive Audit Procedure: Review all the equipment listed
on the accounting records.
4) Depreciation expense for manufacturing operations is charged to
administrative expenses.

Internal Control: Ensure that all the expense records are

internally verified.
 Substantive Audit Procedure: Review all the depreciation and
administrative expenses by ratio comparison to the previous
years.

5) Tools necessary for the maintenance of equipment are stolen by

company employees for their personal use.

Internal Control: Allocate the tools to every foreman and count

the tools periodically.
Substantive Audit Procedure: Have a physical count of the
tools.

6) Acquisitions of property are recorded at an improper amount.

Internal Control: Ensure that all the records of property

acquisition are internally verified.
Substantive Audit Procedure: Review all the supporting
documentations on the property acquisitions and compare the
amounts to the recorded ones.

7) A loan against existing equipment is not recorded in the

accounting records. The cash receipts from the loan never
reached the company because they were used for the down
payment on a piece of equipment now being used as an
operating asset. The equipment is also not recorded in the
records.

Internal Control: Deposit all the cash directly into the bank
account.
Substantive Audit Procedures:
(1) Confirm the bank accounts and all the other tests for the
unrecorded loans.
(2) Take a physical examination of the plant assets.

8-20. As part of the audit of different audit areas, it is important to be alert

for the possibility of unrecorded liabilities. For each of the following audit
areas or accounts, describe a liability that could be uncovered and the audit
procedures that could uncover it.
a. Minutes of the board of directors’ meetings

Liability that could be uncovered: A lawsuit

Audit Procedure: Review the minutes of the board of directors’
meetings.

b. Land and buildings

Liability that could be uncovered: A building used as a

collateral
Audit Procedure: Review the documents of ownership and the
bank confirmations.

c. Rent expense

Liability that could be uncovered: An unrecorded lease

Audit Procedure: Review all the lease agreements.

d. Interest expense

Liability that could be uncovered: A note payable

Audit Procedure: Review all the preliminary records for the
related loans.

e. Cash surrender value of life insurance

Liability that could be uncovered: A policy loan

Audit Procedure: Confirm with the life insurance company.

f. Cash in the bank

Liability that could be uncovered: A note payable

Audit Procedure: Secure a confirmation from the bank.

g. Officers’ travel and entertainment expense

Liability that could be uncovered: An income taxes payable

Audit Procedure: Review all the travel and the expense
reports.