Audit of Cash and Financial Instruments

Misstatements which may not be discovered as part of the audit of the bank rec:

1. Failure to bill a customer 2. An embezzlement of cash receipts from customers 3. Duplicate payments 4. Improper payments of personal expenses 5. Payment for raw materials not received 6. Payment to employee for hours not worked 7. Payment of excessive interest to related party

Misstatements which are normally discovered as part of the tests of a bank rec:

1. Failure to include a check on the outstanding check list 2. Cash received by the client recorded in the wrong period 3. Deposits recorded near year end, deposited in the bank in the same month, and included in the bank rec as a deposit in transit 4. Payments on N/P debited directly to the bank bal but not entered in the client's records

Steps involved with performing cutoff bank statement verification in the month subsequent to the B/S date:

1. foot lists of all cancelled checks, debit/credit memos and deposits 2. verify that the bank statement bal when the footed totals are used 3. Review the items included in the footings to make sure that they were cancelled by the bank in the proper period and don't include any erasures or alterations

Factors affecting inherent risk with financial instruments:

1. management's objectives related to investment activity 2. complexity of securities/derivatives 3. company's prior experience w/ certain investments 4. whether external factors such as credit risk/inherent rate risk impact relevant assertions

Audit implications of Check 21 Act: (2)

1. need to rely on substitute checks for evidence of cash 2. impossible for clients to kite checks

Proof of cash includes 4 reconciliation tasks:

1. reconcile bal on bank statement w/ gen ledger bal at the beg of proof-of-cash period 2. reconcile cash receipts deposited per the bank w/ receipts recorded in the cash receipts journal for a given period 3. reconcile electronic payments and cancelled checks clearing the bank w/ those recorded in the cash disbursements journal for a given period 4. reconcile the bal on the bank statement w/ the gen ledger bal at the end of the proof of cash period

Relationship between cash in bank and other transactions cycles serves a dual function:

1. shows importance in bank of various transaction cycles on the audit of cash 2. aids further understanding the integration of the different transaction cycles 3. amount of cash flowing into-out of cash acct is often larger than any other account 4. auditors must distinguish between verifying the client's reconciliation of the balance on the bank statement to the balance in the general ledger and verifying whether recorded cash in the gen ledger correctly reflects all cash transactions that took place during the year

___________ has approved the use of a standard bank confirmation form

AICPA (important because bank confirms loan info and bank balances on the same form)

What balance-related audit objectives does the audit of financial instrument accounts use?

All 8 (existence, completeness, accuracy, classification, cutoff, detail tie-in, realizable value, rights and obligations)

Sources of audit evidence for audit of cash:

Cash receipts journal, cash disbursements journal, bank reconciliations, cancelled checks, bank statements, and cutoff statements from banks

If cash receipt was recorded in the current fiscal year and the disbursement in the subsequent fiscal year, it may be an attempt to cover a _______________.

Cash shortage

Allows check to be processed electronically and is the legal equivalent of original check for all purposes

Check 21 Act

More extensive testing related to __________ is necessary if derivative financial instruments exist, such as examining contracts for embedded derivatives as well as reading minutes from board of directors meeting related to hedging and investment activity

Completeness

If transfer from bank A to bank B but only disbursement recorded, this is evidence of an attempt to _________________.

Conceal a cash theft

Most important objectives are ____________(3) for investments in securities, while _________ is also important for derivative financial instruments

Existence, accuracy, and realizable value; completeness

Must evaluate whether cash is fairly stated and properly disclosed in accordance with ________________ of the balance-related audit objectives used for all tests of details of balances

Existence, completeness, accuracy, cutoff, and detail tie-in

Most important objectives when auditing cash is _________________ (3)

Existence, completeness, and accuracy

Because cash is more susceptible to theft than other assets, there is ________- inherent risk for the _____________, _________, and _________ objectives

High; existence, completeness, and accuracy

Overall market volatility is _________ due to increased program trading activity in the markets

Higher

Typically, the only reconciling items are outstanding checks during an audit of _________________.

Imprest bank accounts

Not a bank account but is sufficiently similar to cash in the bank to merit inclusion; more likely to be used in smaller organizations than larger ones

Imprest petty cash fund

Monthly bank rec of the gen bank account on a timely basis by someone ___________ of handling or recording of cash receipts and disbursements is an essential control over ending cash balance

Independent

What is the purpose of the cutoff bank statement?

It is used to test whether the client's employees have omitted, added, or altered any of the documents accompanying the statement

Transferring money from one bank to another and incorrectly recording the transaction

Kiting

What are the FMV estimates?

Level 1- observable Level 2- estimates use observable inputs other than quoted prices Level 3- estimates use unobservable inputs

Statement near the bottom of the form obligates banks to inform CPA firm of any ________-- not included on the confirmation about which the bank has knowledge, but isn't expected to inform auditors of ___________________ (3)

Loans; open lines of credit, compensating balance requirements, or contingent liabilities for guaranteeing the loans of others

__________ is a unique account since it is often immaterial in amount, yet verified on many audits

Petty cash

Why is petty cash verified?

Primarily because of the potential for defalcation and the client's expectation of an audit review

Used to determine if the following were done: 1. all recorded cash receipts were deposited 2. all deposits in the bank were recorded in the accounting records 3. all recorded cash disbursements were paid by the bank 4. all amounts that were paid by the bank are recorded

Proof of cash

3 cash procedures that are important/complex:

Receipt of a bank confirmation, receipt of a cutoff bank statement, tests of the bank rec

Confirmation of amounts on deposit by direct communication with financial institution officials. Who is it agreed to by?

Standard confirmation; agreed to by AICPA, American Bankers Association, and Bank Administration institute

Investments in financial instruments can be classified as __________, ______________-, or ____________, while derivatives can be classified as ______ or ___________.

trading securities, available-for-sale securities, or held to maturity securities; assets or liabilities

Proof of cash receipts is a test of ___________-, whereas a bank rec is a test of the bal in cash at a point in time

Recorded transactions

If business defers preparing bank recs for longer periods, value of control is _______ and may effect the auditor's assessment of control risk of cash

Reduced

Things that are audited during an interbank transfer schedule:

1. Accuracy of the info on the interbank transfer schedule should be verified 2. interbank transfers must be recorded in both the receiving and disbursing banks 3. date of the recording of the disbursements and receipts for each transfer must be in the same fiscal year 4. disbursements on the interbank transfer schedule should be correctly included in or excluded from year-end bank rec as outstanding checks 5. receipts on internbank transfer sched should be correctly included in/excluded from year-end bank rec as deposits in transit

Phases of Audit of general cash

1. Identify client and business risks affecting cash, set performance materiality and assess inherent risk, and assess control risk 2. perform tests of controls and substantive tests of transactions 3. design and perform substantive analytical procedures, design tests of details of cash balance

Phases of audit of financial instrument accounts:

1. Identify client business risks affecting financial instruments, set performance materiality and assess inherent risk, and assess control risk 2. design and perform tests of control and substantive tests of transactions and design and perform substantive analytical procedures 3. design tests of details of financial instrument balances

Verification of bank rec includes:

1. Verify that client's bank rec is mathematically correct 2. Trace bal on the bank confirmation and/or beg bal shown in online client banking records or in the cutoff bank statement to the bal per bank on the bank rec to ensure they are the same 3. trace checks written/recorded before year-end and included with the cutoff bank statement to the list of outstanding checks on the bank rec and to the cash disbursements journal in the period prior to B/S date 4. investigate all significant checks included on the outstanding check list that haven't cleared the bank on the cutoff statement 5. trace deposits in transit to the cutoff bank statement 6. account for other reconciling items on the bank statement and bank rec

Careful bank rec includes following actions:

1. compare cancelled checks/electronic bank records of payments w/ cash disbursements records for date, payee and amount 2. examine cancelled checks/electronic bank records of payments for signature, endorsement, and cancellation 3. compare deposits in bank w/ recorded cash receipts for date, customers, and amount 4. account for numerical sequence of checks and investigate missing ones 5. reconcile all items causing a dif between book/bank bal and verify their appropriateness for client's business 6. reconcile total debits on the bank statements w/ totals in cash disbursement records 7. reconcile total credits on the bank statement w/ totals in cash receipts records 8. review month-end interbank transfers for appropriateness and proper recording 9. follow up on outstanding checks/stop-payment notices

Procedures to uncover fraud in the cash receipt area:

1. confirmation of A/R 2. tests performed to detect lapping 3. review of the gen ledger entries in the cash account for unusual items 4. comparison of customer orders to sales and subsequent cash receipts 5. examination of approvals and supporting documentation for bad debts and sales returns and allowances

Misstatements from kiting:

1. date of recording per transfer per the books are from different financial statement periods 2. date the check was recorded by the bank is from financial statement period prior to books

Separate bank balance at each company location and is useful for building banking relations in local communities and permitting the centralization of operations at the branch level

Branch bank account

Time deposits, CDs, and money market funds

Cash equivalents

A partial period bank statement and the related copies of or digital access to cancelled checks, duplicate deposit slips, and other documents included in bank statements, provided by the bank directly to the CPA firm's office or through online access to the bank's electronic records of the client's bank account info

Cutoff bank statement

Include investments in marketable securities such as debt and equity securities, derivative instruments, and hedging activities

Financial instruments

Focal point of cash for most organizations because virtually all cash receipts and disbursements flow through this account

General cash account

Financial services are exposed to ______-- risk due to the sheer volume of activity and types of instruments traded

Greater

Risks will be __________ for companies investing in less liquid securities or derivative financial instruments, and when investments represent a greater proportion of total assets

Higher

Usually obtains a direct receipt of a confirmation from every bank/other financial institution with which the client does business, except when there is an unusually large number of inactive accounts

Receipt of a bank confirmation

When doing a proof of cash, the auditor is combining ______ and _____________.

Substantive tests of transactions; tests of details of balances

What is included in tests of transactions for financial instruments:

Tests of purchases and sales of securities and derivatives or settling of hedging transaction, associated gains or losses, and interest and dividend income

Test to determine whether client personnel have carefully prepared the bank rec and to verify whether the client's recorded bank bal is the same amount as the actual cash in the bank except for deposits in transit, outstanding checks, and other reconciling items

Tests of the bank rec