ASCA301

Auditing and Assurance Concepts and Applications 1 – Midterm

ASCA301
STUDENT
Name:
Student Number:
Program:
Section:
Home Address:
Email Address:
Contact Number:

PROFESSOR
Name: Winston Alcalde, CPA, MM
Academic Department: Department of Business and Accountancy
Email Address: wbalcalde@ccc.edu.ph
Contact Number: 09354067813

ASCA301
 30

Lesson 1: Investments (Debt and Equity)

Lesson Objectives: At the end of this lesson, you should be able to:
• Explain objectives in auditing investments in financial instruments;
• Apply audit procedures to establish management assertions on investments in financial instruments;
• Prepare working papers and formulate audit adjustments; and
• Evaluate the appropriateness of the presentation of investments in financial instruments in the statement of
financial position.

Discussion
Investments in financial instruments consist principally of government bonds, commercial papers, stock certificates and
treasury bills. Because these financial instruments are readily negotiable, the need for their physical protection and for
strong internal controls is almost as great as in the case of cash.

Assertions Audit Objectives Audit Procedures

To obtain an understanding of
internal control procedures See the details of internal control procedures
By the auditors
adopted by the entity over for investment securities below.
financial instruments.
Confirm securities held by others (e.g. trustee or broker)
if the financial instruments are in the custody of an
independent outside entity;
To determine the existence of
Existence / Rights and Physically inspect and count all securities on hand;
investment and that the client has
obligations Examine supporting brokers’ advices and paid checks
rights to the instruments.
for investments acquired during the period; and
Examine remittance advices for dividends, interest and
disposals of investments
To determine that all financial
Inspect securities on hand and trace to list;
instruments held by the entity are
Cutoff testing;
Completeness reported and transactions affecting
Apply analytical procedures; and
the investments are properly
Recomputations of gains and losses
accounted for.
Validate by referring to published price quotations for
To establish the proper
securities measured at FV;
measurement of investments in
Obtain estimates of FV from security dealers/brokers or
financial instruments; and
other third-party sources, if published price quotations
Valuation or allocation To establish accuracy of the
is not available; and
amounts recognized in profit or
Obtain recent audited financial statements of the
loss and OCI relating to
investee to verify share of net assets (for securities
investments.
accounted for on the equity basis of accounting).
To determine that the presentation Obtain understanding of management’s process for
Presentation and
and disclosure of the investments classifying securities at FVTPL or at FVOCI or at
disclosure
is adequate amortized cost for debt securities.

ASCA301
 31

Internal Control Procedures

The major elements of adequate internal control over the investment securities focus on the following:
1. Separation of duties between the custody of the instruments, the maintenance of accounting records and the
authorization of purchases and disposals;
2. Joint control (of at least two officials) over the investment securities, or the use of an independent outside custodian;
3. Complete detailed records of all securities owned, and the related revenue from interest and dividends;
4. Registration of securities in the name of the company;
5. Periodic physical inspection of securities by an internal auditor or other independent official;
6. Preparation of a budget of investment revenue;
7. Formulation and implementation of investment policies; and
8. Registration of securities in the name of the company.

Notes on Classification and Measurement of Financial Assets

Investments in debt instruments (such as bonds) are financial assets since they represent a contractual right to receive cash
or another financial asset from another entity. PFRS 9 requires entities to measure their financial assets based on both
(a) the contractual cash flow characteristics of the financial asset, and
(b) the entity's business model for managing its financial assets.

Here's the summary of the classification of financial assets in accordance with PFRS 9:

Subsequently Measured At SPPI*? Business Model Type of Instrument

Amortized Cost (AC) Yes Held for collection Debt
Fair Value Through Other
Comprehensive Income Yes Held for collection and for sale Debt or equity**
(FVTOCI)
Other than held for collection
Fair Value Through Profit or Yes or
and held for collection and for Debt or equity
Loss (FVTPL) No
sale

*Solely Payments of Principal and Interest

**At initial recognition, an entity may make an irrevocable election to present in other comprehensive income subsequent
changes in the fair value of an investment in an equity instrument within the scope of PFRS 9 that is neither held for
trading nor contingent consideration recognized by an acquirer in a business combination to which PFRS 3 applies.

A financial asset shall be measured at fair value through profit or loss unless it is measured at amortized cost or at fair
value through other comprehensive income (PFRS 9 par.4.1.4)

ASCA301
 32

Here's the summary of the measurement of financial assets in accordance with PFRS 9:

Classification Initial measurement Subsequent measurement Changes in fair value

FA at FVTPL Fair value Fair value Recognized in profit or loss
FA at Fair value plus transaction Recognized in OCI and
Fair value
FVTOCI costs accumulated in equity*
Fair value plus transaction Amortized cost using the effective interest
FA at AC Not recognized
costs method

*For debt instruments, amounts recognized in OCI are recycled to profit or loss when the asset is derecognized or
reclassified. For equity instruments, amounts presented in OCI shall not be subsequently transferred to profit or loss, but
the entity may transfer the cumulative gain or loss within equity.

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date.

Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal of a financial
asset or financial liability An incremental cost is one that would not have been incurred if the entity had not acquired,
issued or disposed of the financial instrument.

Transaction costs include fees and commissions paid to agents (including employees acting as selling agents), advisers,
brokers and dealers, levies by regulatory agencies and security exchanges, and transfer taxes and duties. Transaction costs
do not include debt premiums or discounts, financing costs or internal administrative or holding costs.

Amortized cost of a financial asset is the amount at which the financial asset is measured at initial recognition minus the
principal repayments, plus or minus the cumulative amortization using the effective interest method of any difference
between that initial amount and the maturity amount and adjusted for any loss allowance.

Notes on Accounting for Investments in Equity Instruments

Accounting for Investments in Ordinary Shares Summary

Level of Influence Classification of Investment Accounting Method Applicable PFRSs
PFRS 9
Little or none Financial asset Fair value PAS 32
PFRS 7
PAS 28
Significant Investment in Associate Equity
PFRS 12
PFRS 10
Control Investment in Subsidiary Consolidation
PFRS 12
PAS 28
Joint control Investment in Joint Venture Equity
FRS 12

ASCA301
 33

Investments in equity instruments within the scope of PFRS 9 shall be measured at fair value through profit or loss unless
the entity elected to present in OCI subsequent changes in the fair value.

At initial recognition, an entity may make an irrevocable election to present in OCI subsequent changes in the fair value
of an investment in an equity instrument within the scope of PFRS 9 that is neither held for trading nor contingent
consideration recognized by an acquirer in a business combination to which PFRS 3 applies.

Application
A. During your audit of the financial statements of the Evos Corporation for the year 2020, you found the following
postings to the FVPL (Financial Assets at Fair Value through Profit or Loss) account:

Date Particulars Debit/(Credit)

Jan. 3 Purchased 1,000 shares, A Corporation 54,000
8 Purchased 1,000 shares, B Corporation 60,000
Apr. 2 Cash dividends, A Corporation (1,000)
5 Sold 500 shares, A Corporation (28,000)
8 Purchased 1,000 shares, C Corporation 30,000
8 Purchased 1,000 shares, D Corporation 36,000
July 15 Purchased 200 shares, Evos Corporation 33,000
15 Purchased 500 shares, E Corporation 20,000
Aug. 15 Sold 100 shares, Evos Corporation (20,000)
Dec. 8 Received 10% bonus issue from E Corporation 2,000

Cash dividend, C Corporation

1 (1,200)

The following information was discovered from your audit procedures:

a. The Evos Corporation purchased 200 of its own ordinary shares held by a deceased shareholder at P165 per share.
100 of these shares were sold at its market price of P200 per share on August 15.
b. On December 8, fifty shares of E Corporation were received. Evos credited dividend income equal to the market
price of the shares received.
c. On December 15, D Corporation declared a P5 cash dividend per share, payable on January 10, 2021 to
shareholders of record as of December 29, 2020. No accrual has yet been taken up by Evos.
d. The market price of the shares are as follows at December 31, 2020:
A Corporation P55
B Corporation 54
C Corporation 32
D Corporation 39
E Corporation 38

ASCA301
 34

Required:
(a) Prepare all audit adjusting entries as a result of the foregoing:
(b) Compute the following:
1. Carrying amount of FVPL at December 31, 2020
2. Gain or loss on the sale of FVPL
3. Dividend Income
4. Unrealized gain or loss taken to profit or loss

B. The following investment account was taken from the general ledger of OMG Investment Company:

Debt Investments - 6% Bonds (P2,000,000 face value)

(Due December 31, 2025)
Date PR Debit Credit Balance
January 2, 2020 VR P1,815,000
June 30, 2020 CRJ 60,000
Dec. 31, 2020 CRJ 60,000
Dec. 31, 2020 195,000

In the course of your examination, you obtained the following information:

a) Interest checks were received on time on June 30 and December 31 and were credited to the Investment account.
b) OMG sold P200,000 of its investment on December 31, 2020 for P195,000.
c) Effective interest rate on this investment, as computed by your audit staff is 8%.
d) OMG included this investment in a portfolio that is held to collect and for sale, and exercised its option to measure
them at fair value through other comprehensive income.
e) Fair value at December 31, 2020 is 97.5, at December 31, 2021 is 96.

Required:
1. Give the entries that should have been made relative to the investment in bonds, including any adjusting entries that
would be made on December 31, 2020.
2. Give the audit adjustments at December 31, 2020.
3. Determine the correct balance of the Investment that will be shown on the statement of financial position at December
31, 2020 and the amounts and accounts that will be presented in the profit or loss section and other comprehensive
income section of the statement of comprehensive income for the year then ended.

C. On April 1, 2020, ECH Corporation purchased 5-year P10,000,000 10% bonds dated January 1, 2020. The bonds were
purchased to yield 12%. Interest is payable annually every December 31. The entity holds investment in bonds in order to
collect contractual cash flows.

The entity monitors the change in credit quality of the investment since initial recognition and taking into account
historical information, current conditions and, forward-looking information, the entity computes the required expected
credit losses (ECL) as follows:

ASCA301
 35

Date Credit risk assessment Required allowance for ECL

12/31/20 Credit risk has not increased significantly since initial recognition P47,000
12/31/21 Credit risk has increased significantly since initial recognition 95,200
12/31/22 Credit-impaired ?
12/31/23 Credit risk has increased significantly since initial recognition,
but the investment is no longer considered credit impaired 98,200

On December 31, 2022, the issuer of the bonds is in financial difficulties and ECH estimated that the issuer will not be
able to pay interest for 2022 and 2023 and will be able to collect only P10,000,000 on December 31, 2024.

Based on the above and the result of your audit, answer the following: (Round off present value factors to four decimal
places)
1. How much was the total amount paid to acquire the investment in bonds on April 1, 2020?
a. P9,278,800 b. P9,307,164
c. P9,528,800 d. P9,557,164

2. How much is the amortized cost of the investment in bonds on December 31, 2020?
a. P9,157,450 b. P9,342,256
c. P9,345,256 d. P9,392,256

3. How much should be recognized as impairment loss in 2021?

a. Nil b. P48,200
c. P71,700 d. P95,200

4. How much should be recognized as impairment loss in 2022?

a. Nil b. P1,642,046
c. P1,594,446 d. P1,689,646

5. How much should be recognized as interest income in 2023?

a. Nil b. P1,159,398
c. P1,000,000 d. P956,640

6. How much should be recognized as impairment gain in 2023?

a. Nil b. P1,594,446
c. P 892,404 d. P794,204

ASCA301
 36

D. BLCK Inc. carries the following marketable equity securities on its books at December 31, 2020 and 2021. All
securities were purchased during 2020. Transaction costs paid on each acquisition is 1% of the purchase price.

FA at FVTPL Fair Value

Purchase price 12/31/2020 12/31/2021
C Company P 300,000 P 260,000 P 310,000
P Company 250,000 300,000 290,000
A Company 700,000 660,000 640,000
Total P1,250,000 P1,220,000 P1,240,000

FA at FVTOCI Fair Value

Purchase price 12/31/2020 12/31/2021
M Company P4,100,000 P3,800,000 P3,830,000
E Company 1,000,000 1,200,000 1,240,000
Total P5,100,000 P5,000,000 P5,070,000

On December 31, 2021, BLCK transferred its investment in C Company to FA at FVTOCI while investment in E
Company to FA at FVTPL.

Based on the above and the result of your audit, answer the following:
1. The amount to be recognized as fair value adjustment loss in the entity's 2020 profit or loss is
a. P30,000 b. P42,500
c. P151,000 d. P181,000

2. The amount to be recognized as fair value adjustment loss in the entity's 2020 OCI is
a. P151,000 b. P142,500
c. P100,000 d. P181,000

3. The amount to be recognized as fair value adjustment gain or loss in the entity's 2021 profit or loss is
a. P10,000 loss b. P10,000 gain
c. P20,000 gain d. P22,500 loss

4.The amount to be recognized as fair value adjustment gain or loss in the entity's 2021 OCI is
a. P30,000 loss b. P70,000 gain
c. P80,000 gain d. P81,000 loss

5. The net unrealized gain or loss in accumulated other comprehensive income in equity as of December 31, 2021 is
a. P30,000 loss b. P81,000 loss
c. P80,000 gain d. P70,000 gain

ASCA301
 37

E. FLP Inc. acquired 50,000 ordinary shares of AAA for P5 per share and 125,000 ordinary shares of BBB for P10 per
share on January 2, 2020. Both AAA Inc. and BBB Corp. have 500,000 ordinary shares outstanding. FLP classifies
investments in ordinary shares as FA at FVTOCI if equity method is not required. Changes in retained earnings for AAA
and BBB for 2020 and 2021 are as follows:
AAA, Inc. BBB Corp.
Retained earnings (deficit), 1/1/20 P1,000,000 (P175,000)
Cash dividends, 2020 (125,000) -
Profit for 2020 200,000 325,000
Retained earnings, December 31, 2020 1,075,000 150,000
Cash dividends, 2021 (150,000) (50,000)
Profit for 2021 300,000 125,000
Retained earnings, December 31, 2021 P1,225,000 P225,000
Fair value per share: 12/31/2020 P7.00 P12.00
12/31/2021 6.50 15.00

Based on the given information and the result of your audit, determine the following:
1. Income from investment in AAA, Inc. to be recognized in 2021 profit or loss
a. Nil b. P1,000
c. P15,000 d. P12,500

2. Income from investment in BBB Corp. to be recognized in 2020 profit or loss

a. Nil b. P2,500
c. P31,250 d. P81,250

3. Carrying amount of Investment in AAA, Inc. as December 31, 2021

a. P250,000 b. P252,500
c. P325,000 d. P350,000

4. Carrying amount of Investment in BBB Corp. as December 31, 2021

a. P1,350,000 b. P1,268,750
c. P1,250,000 d. P1,875,000

5. Accumulated OCI to be reported as separate component of equity at December 31,2021

a. Nil· b. P25,000 loss
c. P25,000 gain d. P75,000 gain

ASCA301
 38

Summary of the Lesson

• The primary relevant investment assertions include existence, accuracy, valuation, and cutoff. An auditor must
perform a walkthrough of investments by making inquiries, inspecting documents, and making observations.
• As an auditor, you must be equipped with the related accounting standards (PAS39/PFRS9) for you to execute
proper audit procedures in order to obtain sufficient appropriate audit evidence for making a proper conclusion on
Investments accounts.

ASCA301