©2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley...

©2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley 21 - 1

Audit of the CapitalAcquisition and

Repayment Cycle

Chapter 21


Learning Objective 1

Identify the accounts and the

unique characteristics of the

capital acquisition and

repayment cycle.


Characteristics of the CapitalAcquisition and Repayment

Cycle

Few transactions affect the accountbalances, but each one is oftenhighly material in amount.

The exclusion of a single transactioncould be material in itself.

1

2


Characteristics of the CapitalAcquisition and Repayment

Cycle

There is a legal relationship between theclient entity and the holder of the stock,bond, or similar ownership document.

There is a direct relationship betweenthe interest and dividends accountsand debt and equity.

3

4


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

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


Methodology for Designing Tests of

Balances – Notes Payable

Identify client business risksaffecting notes payable.

Set tolerable misstatement andassess inherent risk for notes payable.

Assess control risk for notes payable.




Design and perform tests ofcontrols and substantive tests

of transactions.

Design and perform analyticalprocedures for notes payable

balance.




Design tests of detailsof notes payable to

satisfy balance-relatedaudit objectives.

Audit proceduresSample size

Items to selectTiming



Design and perform audit tests

of notes payable and related

accounts and transactions.


Notes Payable

A note payable is a legalobligation to a creditor.

It may be unsecuredor secured by assets.


Notes Payable and the Related Interest Accounts

Notes Payable Interest Expense

Cash in Bank

Interest Payable

Paymentsofprincipal

Beginning balance

Issue ofnew notes

Payments ofprincipal

Interestexpense

Paymentsofinterest

Beginningbalance

Issue of new notes

Ending balance

Payments ofinterest

InterestexpenseEndingbalance


1. Proper authorization for the issue of new notes2. Adequate controls over the repayment of principal and interest3. Proper documents and records4. Periodic independent verification

Internal Controls


Tests of notes payable transactionsinvolve the issue of notes and the

repayment of principal and interest.

Tests of Controls and Substantive

Tests of Transactions


Analytical Proceduresfor Notes Payable

Analytical Procedure Possible Misstatement

Recalculate approximate Misstatement ofinterest expense on the interest expense andbasis of average interest accrued interest, orrates and overall monthly omission of annotes payable. outstanding note

payable


Analytical Proceduresfor Notes Payable

Analytical Procedure Possible Misstatement

Compare individual notes Omission oroutstanding with those of misstatement of athe prior year. note payable

Compare total balance in Misstatement ofnotes payable,interest interest expense andexpense, and accrued interest accrued interest orwith prior year balances. notes payable


Major Balance-Related Audit Objectives in Notes Payable

Existing notes payable are included(completeness).

Notes payable in the schedule areaccurately recorded (accuracy).

Notes payable are properly presented anddisclosed (presentation and disclosure).

1

2

3


Types of Audit Testsfor Notes Payable

Cash in Bank Notes PayablePayments of principal

Issue of new notes

Paymentsof interest Interest Payable

Endingbalance

TOC + STOT + AP + TDP= Sufficient competent evidence per GAAS

Audited byTOC, STOT,

and AP

Audited byAP and TDP

Audited byTOC and STOT

Audited byTOC and STOT


Types of Audit Testsfor Notes Payable

Interest Payable

Endingbalance

Audited byAP and TDP

Audited byTOC, STOT,

and AP

Interest Expense

Interest expense

Endingbalance

Audited byAP

TOC + STOT + AP + TDP= Sufficient competent evidence per GAAS



Identify the primary concerns

in the audit of owners’

equity transactions.


Publicly heldcorporation

Closely heldcorporation

Owners’ Equity


Owners’ Equity andDividend Accounts

Cash in Bank

Capital Stock – Common

Paid-in Capital in Excessof Par – Common

Redemptionof stock

Redemptionof stock

Beginningbalance

Issue ofstock

Endingbalance

Beginningbalance

Issue ofstock

Endingbalance


Owners’ Equity andDividend Accounts

Cash in Bank

Dividends Payable Retained Earnings

Payment ofdividends Dividends

declared

Beginningbalance

Dividendsdeclared

Endingbalance

Beginningbalance

Netearnings

Endingbalance


Proper authorization of transactions

Proper record keeping and segregation of duties

Independent registrar and stock transfer agent

Internal Controls



Design and perform tests of

controls, substantive tests of

transactions, and tests of details

of balances for capital stock

and retained earnings.


1Existing capital stock transactions arerecorded (completeness).

2Recorded capital stock transactionsexist and are accurately recorded(existence and accuracy).

Audit of Capital Stockand Paid-in Capital


3Capital stock is accurately recorded(accuracy).

4Capital stock is properly presented anddisclosed (presentation and disclosure).

Audit of Capital Stockand Paid-in Capital


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.


Auditors may identify specific business risksassociated with the method used by start-up

companies to acquire capital.

The complexity of the capital transactionsmay create unique financial reporting

and disclosure issues.

E-Commerce andCapital Acquisition


End of Chapter 21

©2003 Prentice Hall Business Publishing, Auditing and Assurance Services 9/e, Arens/Elder/Beasley...

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