CH 10: Finance and Investment Cycle

stock certified book

A book (similar to a checkbook) with prenumbered stock certificates. These certificates are issued to investors with the custodian of the book recording the number of shares, the owner's name, the date of issue, and other identification information; they are used only by small companies that are not publicly traded.

Loan covenant.

A clause in a loan agreement that is intended to keep the borrower's financial position at the same level it was when the loan was made is called a

Request the client to have the bank seal the safe deposit box until the auditors can count the securities at a subsequent date.

A client has a large and active investment portfolio that is kept in a bank safe deposit box. If the auditors are unable to count securities at the balance sheet date, they most likely will

Compensation control

A control activity instituted by a company to offset the risk imposed by a weakness in another activity.

registrar

A financial institution appointed to record issues and ownership of company securities.

Capital budget

A listing of the proposed expenditures for property, plant, and equipment or other capital items for a period of time (usually annually). The capital budget is submitted to senior management with corporate governance responsibilities for approval; is often a part of the annual budget

Accounting estimates

A measurement or recognition in the financial statements of (or a decision to not recognize) an account, disclosure, transaction, or event that generally involves subjective assumptions and measurement uncertainty.

special purpose entity (SPE)

A partnership formed by a company to pursue particular lines of business is often used to keep risky enterprises off the company's books. QSPE (qualified special purpose entity) is the newer term used by the FASB.

Can exert significant influence over or be influenced by the company.

A related party is a person or entity that

There had been unauthorized buying and selling of investment securities.

ABC Company has 100 shares of IBM stock that it holds as an investment. The stock was purchased three years ago and has been in the client's safe deposit box along with other investment securities. During an inspection of securities held by the client, the auditor noted the 100 shares of IBM stock had a different CUSIP number than the number listed when purchased and the number verified during the previous audit. Which of the following would be the auditor's main concern about this discovery?

Minutes of the meetings of the board of directors.

All corporate capital stock transactions should ultimately be traced to the

Completeness of recorded investment income.

An audit team testing long-term investments would ordinarily use analytical procedures to ascertain the reasonableness of the

Recomputing the interest earned on the basis of face amount, interest rate, and period held.

An audit team would most likely verify the interest earned on bond investments by

Classification.

An audit team's purpose in reviewing the documentation concerning the renewal of a note payable shortly after the balance-sheet date most likely is to obtain evidence concerning management's assertions about

Transfer agent

Company bonds and stocks are normally handled by an intermediary called a

Ensuring the effects of the estimate are in line with analysts forecasts.

Controls over making estimates include all of the following except

-A reporting unit's fair value. -Valuation of equity investments. -Actuarial assumptions for pension costs.

Estimates in the finance and investment cycle include

A decline in value of recorded goodwill.

Goodwill impairment refers to

Dual Control

Having two people perform a task (e.g., open the mail) as a control over the process.

Using derivatives to protect companies from market uncertainties.

Hedging refers to

Their own assumptions as long as there are no contrary data.

If market prices are not readily available for fair value measurements, management should use

The loss in value is recognized in the financial statements.

If the auditors discover that the carrying amount of a client's investments is overstated because of a loss in value that is other than a temporary decline in market value, they should insist that

Compare interest expense with the bond payable amount for reasonableness.

In auditing for unrecorded long-term bonds payable, an audit team most likely will

Ascertain that the client has obtained the opinion of counsel on the legality of the issue.

In connection with the audit of an issue of long-term bonds payable, the audit team should

Existence.

Inspecting marketable securities provides primary evidence about the ASB balance assertion of

To protect the lender from the borrower's financial position substantially weakening.

Loan covenants are used for which of the following reasons?

The board of directors.

Sales of capital stock and large debt financing transactions are usually authorized by

Acknowledge the receipt of securities returned.

The auditors should insist that a representative of the client be present during the inspection and count of securities to

Detect unrecorded liabilities.

The primary reason for preparing a reconciliation between interest-bearing obligations outstanding during the year and interest expense in the financial statements is to

The number of shares issued and outstanding.

When a client company does not maintain its own capital stock records, the auditors should obtain written confirmation from the transfer agent and registrar concerning

Trust company has no direct contact with the entity employees responsible for maintaining investment accounting records.

When an entity uses a trust company as custodian of its marketable securities, the possibility of concealing fraud most likely would be reduced if the

Be defaced to prevent reissuance and attached to their corresponding stubs.

When independent stock transfer agents are not employed and the corporation issues its own stock and maintains stock records, canceled stock certificates should

Gain an understanding of internal controls and perform extensive substantive procedures.

Which of the following approaches is most suitable for auditing the finance and investment cycle?

Confirm investments with registrar.

Which of the following audit procedures would not likely be performed for audits of investments?

Compare valuation of stock to published market prices.

Which of the following audit procedures would not likely be performed for audits of shareholders' equity?

All direct borrowings on notes payable are authorized by the board of directors.

Which of the following internal control activities would most likely justify reducing the assessment of the risks of material misstatement for long-term notes payable?

Observing whether estimates are prepared by qualified personnel

Which of the following is not a substantive audit procedure for estimates of management?

transfer agent

a bank or other company employed by a corporation to maintain shareholder records, including purchases, sales, and account balances

derivative instrument

a financial instrument whose value is based on an index or value of another financial instrument

loan covenants

a provision in a loan agreement that requires the borrower to undertake or refrain from specified actions and to maintain specified financial levels and ratios

related party

a relationship between two businesses that have a personal or other association that might destroy the self-interest of one of the parties to an extent that one of them might be prevented from fully pursuing its own separate interests

indenture

a written agreement between the issuers of bonds and the bondholders, usually specifying interest rate, maturity date, convertibility, and other terms

trustee

agent of a bond issuer who handles the administrative aspects of a loan and ensures that the borrower complies with the terms of the bond indenture.

hedging instrument

an investment made to reduce the risk of adverse price movements in a security or future transaction by taking an offsetting position in a related security such as an option or a short sale

joint custody

the safeguarding of assets by placing them in a secured area that requires two people to access.