Copyright © 2014 Pearson Education
Chapter 22
Audit of the
Capital Acquisition
and Repayment
Cycle
Copyright © 2014 Pearson Education 22-2
Identify the accounts and the unique
characteristics of the capital acquisition
and repayment cycle.
Design and perform audit tests of notes
payable and related accounts and
transactions.
Identify the primary concerns in the audit
of owners’ equity transactions.
Copyright © 2014 Pearson Education 22-3
Design and perform tests of controls,
substantive tests of transactions, and tests
of details of balances for capital stock and
retained earnings.
Copyright © 2014 Pearson Education
Identify the accounts and the unique characteristics of the capital acquisition and repayment cycle.
22-4
1
Copyright © 2014 Pearson Education 22-5
1. Relatively few transactions affect the
account balances, but each one is
often highly material in amount.
2. The exclusion of a single transaction
could be material in itself.
Copyright © 2014 Pearson Education 22-6
3. A legal relationship exists between the
client entity and the holder of the stock,
bond, or similar ownership document.
4. A direct relationship exists between the
interest and dividends accounts and
debt and equity.
Copyright © 2014 Pearson Education 22-7
Notes payable
Contracts payable
Mortgages payable
Bonds payable
Interest expense
Accrued interest
Appropriations of retained earnings
Treasury stock
Dividends declared
Copyright © 2014 Pearson Education 22-8
Cash in the bank
Capital stock – common
Capital stock – preferred
Paid-in capital in excess of par
Donated capital
Retained earnings
Dividends payable
Proprietorship – capital account
Partnership – capital account
Copyright © 2014 Pearson Education 22-9
Identify client
business risks
affecting notes payable
Set performance materiality
and assess inherent
risk for notes payable
Assess control
risk for
notes payable
Phase I
Phase I
Phase I
Copyright © 2014 Pearson Education 22-10
Design and perform
tests of controls and
substantive tests of
transactions for
capital acquisition and
repayment cycle
Phase II
Copyright © 2014 Pearson Education 22-11
Design and perform
analytical procedures
for notes payable
Design tests of
details of notes
payable to satisfy
balance-related
audit objectives
Phase III
Audit procedures
Sample size Phase III
Items to select
Timing
Copyright © 2014 Pearson Education
Design and perform audit test of notes payable and related accounts and transactions.
22-12
2
Copyright © 2014 Pearson Education 22-13
Legal
Obligation
Secured or
unsecured
by assets
Copyright © 2014 Pearson Education 22-14
Objectives of the audit of notes payable:
Internal controls are adequate
Transactions are properly authorized
and recorded
The related liabilities and expenses are
properly stated
Copyright © 2014 Pearson Education 22-15
1. Proper authorization for the issue of
new notes.
2. Adequate controls over the repayment
of principal and interest.
3. Proper documents and records.
4. Periodic independent verification.
Copyright © 2014 Pearson Education 22-16
Copyright © 2014 Pearson Education 22-17
Tests of notes payable transactions
involve the issue of notes and the
repayment of principal and interest.
Copyright © 2014 Pearson Education 22-18
Analytical procedure Possible misstatement
Recalculate approximate
interest expense on the
basis of average interest
rates and overall monthly
notes payable
Misstatement of
interest expense and
accrued interest, or
omission of a
note payable
Copyright © 2014 Pearson Education 22-19
Analytical procedure
Compare individual notes
outstanding with those
of the prior year
Compare total balance in
notes payable, interest
expense, and accrued
interest with prior-year
balances
Possible misstatement
Omission or
misstatement of
a note payable
Misstatement of interest
expense and accrued
interest or notes
payable
Copyright © 2014 Pearson Education 22-20
The two most important balance- related audit objectives in notes payable are: 1. Completeness: Existing notes payable are included. 2. Accuracy: Notes payable in the schedule are accurately recorded.
Copyright © 2014 Pearson Education 22-21
Cash in Bank
Payments of interest Audited by TOC, STOT,
and AP
Payments of principal
Audited by TOC and STOT
Issue of new notes
Audited by TOC and STOT
Interest Payable
TOC + STOT + AP + TDB = Sufficient appropriate evidence
Notes Payable
Ending balance
Audited by AP and TDB
Copyright © 2014 Pearson Education 22-22
Copyright © 2014 Pearson Education 22-23
Copyright © 2014 Pearson Education
Identify the primary concerns in the audit of owners’ equity transactions.
22-24
3
Copyright © 2014 Pearson Education 22-25
Publicly
held
corporation
Many shareholders Frequent transactions
Versus
Closely
held
corporation
Simple, few transactions Few shareholders Occasional transactions
Copyright © 2014 Pearson Education 22-26
Copyright © 2014 Pearson Education 22-27
Proper authorization of transactions
Proper record keeping and segregation of duties
Independent registrar and stock transfer agent
Copyright © 2014 Pearson Education
Design and perform tests of controls, substantive tests of transactions, and tests of
details of balances for capital stock and retained earnings.
22-28
4
Copyright © 2014 Pearson Education 22-29
Auditor concerns in auditing Capital
Stock and Paid-in-Capital accounts
Completeness
Accuracy
Occurrence
and
Accuracy
Presentation
and
disclosure
Copyright © 2014 Pearson Education 22-30
1. Occurrence:
Recorded dividends occurred.
2. Completeness:
Existing dividends are recorded.
3. Accuracy:
Dividends are accurately recorded.
Copyright © 2014 Pearson Education 22-31
4. Occurrence:
Dividends are paid to stockholders
that exist.
5. Completeness:
Dividends payable are recorded.
6. Accuracy:
Dividends payable are accurately
recorded.
Copyright © 2014 Pearson Education 22-32
Transactions involving retained earnings:
Net earnings for the year
Dividends declared
There may be corrections to:
Prior-period earnings
Prior-period adjustments
Appropriations of retained earnings
Copyright © 2014 Pearson Education 22-33
Copyright © 2014 Pearson Education
Copyright
All rights reserved. No part of this publication may be reproduced,
stored in a retrieval system, or transmitted, in any form or by any
means, electronic, mechanical, photocopying, recording, or
otherwise, without the prior written permission of the publisher.
Printed in the United States of America.
22-34