Audit of the Capital Acquisition and Repayment Cycle

Audit of the Capital Acquisition and Repayment Cycle

Identify the accounts and the unique characteristics of the capital acquisition and repayment cycle.

Characteristics of the Capital Acquisition and Repayment Cycle Few transactions affect the account 1 balances, but each one is often highly material in amount. The exclusion of a single transaction 2 could be material in itself.

Characteristics of the Capital Acquisition and Repayment Cycle There is a legal relationship between the 3 client entity and the holder of the stock, bond, or similar ownership document. There is a direct relationship between 4 the interest and dividends accounts and debt and equity.

Accounts in the Cycle § Notes Payable § Contracts Payable § Mortgages Payable § Bonds Payable § Interest Expense § Accrued Interest § Cash in the Bank § Capital Stock – Common § Capital Stock – Preferred

Accounts in the Cycle v Paid-in Capital in Excess of Par v Donated Capital v Retained Earnings v Appropriations of Retained Earnings v Treasury Stock v Dividends Declared v Dividends Payable v Proprietorship – Capital Account v Partnership – Capital Account

Methodology for Designing Tests of Balances – Notes Payable Identify client business risks affecting notes payable. Set tolerable misstatement and assess inherent risk for notes payable. Assess control risk for notes payable.

Methodology for Designing Tests of Balances – Notes Payable Design and perform tests of controls and substantive tests of transactions. Design and perform analytical procedures for notes payable balance.

Methodology for Designing Tests of Balances – Notes Payable Design tests of details of notes payable to satisfy balance-related audit objectives. Audit procedures Sample size Items to select Timing

Design and perform audit tests of notes payable and related accounts and transactions.

Notes Payable A note payable is a legal obligation to a creditor. It may be unsecured or secured by assets.

Notes Payable and the Related Interest Accounts Notes Payable Payments Beginning balance of principal Issue of new notes Ending balance Cash in Bank Issue of Payments of new notes principal Payments of interest Interest Expense Interest expense Interest Payable Payments Beginning of balance interest Interest expense Ending balance

Internal Controls 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

Tests of Controls and Substantive Tests of Transactions Tests of notes payable transactions involve the issue of notes and the repayment of principal and interest.

Analytical Procedures for Notes Payable 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 an outstanding note payable

Analytical Procedures for Notes Payable Analytical Procedure Possible Misstatement Compare individual notes outstanding with those of the prior year. Omission or misstatement of a note payable Compare total balance in notes payable, interest expense, and accrued interest with prior year balances. Misstatement of interest expense and accrued interest or notes payable

Major Balance-Related Audit Objectives in Notes Payable Existing notes payable are included 1 (completeness). Notes payable in the schedule are 2 accurately recorded (accuracy). Notes payable are properly presented and 3 disclosed (presentation and disclosure).

Types of Audit Tests for Notes Payable Cash in Bank Notes Payable Payments of principal Audited by TOC and STOT Issue of new notes Payments of interest Audited by TOC, STOT, and AP Audited by TOC and STOT Interest Payable Ending balance Audited by AP and TDP TOC + STOT + AP + TDP = Sufficient competent evidence per GAAS

Types of Audit Tests for Notes Payable Interest Expense Interest expense Ending balance Audited by AP and TDP Audited by TOC, STOT, and AP Ending balance Audited by AP TOC + STOT + AP + TDP = Sufficient competent evidence per GAAS

Identify the primary concerns in the audit of owners’ equity transactions.

Owners’ Equity Publicly held corporation Closely held corporation

Owners’ Equity and Dividend Accounts Cash in Bank Capital Stock – Common Redemption Beginning of stock balance Paid-in Capital in Excess of Par – Common Redemption Beginning of stock balance Issue of stock Ending balance

Owners’ Equity and Dividend Accounts Cash in Bank Dividends Payable Beginning Payment of balance dividends Dividends declared Ending balance Retained Earnings Beginning balance Dividends Net declared earnings Ending balance

Internal Controls Proper authorization of transactions Proper record keeping and segregation of duties Independent registrar and stock transfer agent

Design and perform tests of controls, substantive tests of transactions, and tests of details of balances for capital stock and retained earnings.

Audit of Capital Stock and Paid-in Capital Existing capital stock transactions are 1 recorded (completeness). Recorded capital stock transactions 2 exist and are accurately recorded (existence and accuracy).

Audit of Capital Stock and Paid-in Capital stock is accurately recorded 3 (accuracy). Capital stock is properly presented and 4 disclosed (presentation and disclosure).

Audit of Dividends 1. Recorded dividends exist (existence). 2. Existing dividends are recorded (completeness). 3. Dividends are accurately recorded (accuracy). 4. Dividends as paid to stockholders exist (existence). 5. Dividends payable are recorded (completeness). 6. Dividends payable are accurately recorded (accuracy).

Audit of Retained Earnings 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

Identify capital acquisition issues for Internet-based companies.

E-Commerce and Capital Acquisition Auditors may identify specific business risks associated with the method used by start-up companies to acquire capital. The complexity of the capital transactions may create unique financial reporting and disclosure issues.