Efficient Test of Balances Series—No. 18: A Key to Auditing Investments

For most small to medium-size entities, internal controls over investments will usually be few in number. On the other hand, limiting the authority for making purchases and sales of investment securities, for business combinations and other investment acquisitions to those individuals charged with governance can create entity-level (key) controls that reduce the risk of material misstatement. Without such controls, the assessed level of risk of material misstatement will ordinarily be high.
 
The focus of this blog is on understanding the accounting and auditing standards that affect auditing procedures for investment securities and other investments. The auditor’s knowledge of the applicable standards is a major key to managing detection risk in this audit area.
 
Accounting Standards
 
Generally accepted accounting principles in the United States for investments are primarily included in these pronouncements:
 
  • ARB No. 51, ( FASB ASC 810): Consolidated Financial Statements
  • APB Opinion No. 18 (FASB ASC 323-10; 325-20): The Equity Method of Accounting for Investments in Common Stock
  • SFAS No. 115 (FASB ASC 320-10; 942-320): Accounting for Certain Investments in Debt and Equity Securities
  • SFAS No. 141 (R) (FASB ASC 805): Business Combinations
  • SFAS No. 157 (FASB ASC 820-10): Fair Value Measurements
  • SFAS No. 159 (FASB ASC 825-10): The Fair Value Option for Financial Assets and Financial Liabilities
  • SFAS No. 160 (FASB ASC 810): Noncontrolling Interests in Consolidated Financial Statements
  • FIN No. 46 (R) (FASB ASC 810): Consolidation of Variable Interest Entities
  • SFAS No. 167 (FASB ASC 810): Amendments to FIN 46 (R)
 
Beyond simply completing a detailed disclosure checklist, it is every auditor’s responsibility to understand the contents of the individual references to the AICPA Professional Standards in those checklists. Because of the enormous volume of requirements in the Financial Accounting Standards Board’s Accounting Standards Codification, some auditors rely on the sufficiency of disclosure checklists to determine financial statements presentations and necessary disclosures. Many auditors have learned that without an in-depth knowledge of the accounting standards, however, presentation and disclosure errors and omissions can still occur.
 
Auditing Standard
 
The principal auditing standard specifically applicable to investments is in AU Section 328, www.aicpa.org/Research/Standards/AuditAttest/DownloadableDocuments/AU-00328.pdf , Auditing Fair Value Measurements and Disclosures. Some of the key issues in AU Section 328 include:
 
  • For certain assets and liabilities, fair value measurements may be fairly simple. Determining fair values for investments, for example, that are bought and sold in active markets that provide readily available and reliable information on exchange prices will be fairly simple. Published exchange prices in an active market are level one inputs.
  • The auditor is required to obtain an understanding of the entity’s process for determining fair values and disclosures, as well as related internal controls to use in the design of an effective audit strategy.
  • While this section contains a detailed list of considerations the auditor may use to gain an understanding of the entity’s fair value determination process, most small to medium-size entities rarely have effective, documented controls over this process. When persons charged with governance or others have such control, their procedures should be documented and used in determining the extent of yearend tests of balances. Otherwise, risk of material misstatement will be high and the testing of the valuation will be extensive.
  • If management is unable to determine the fair value of investments, an outside specialist should be engaged to perform the work. Should the auditor be required to perform the work, to avoid impairment of the auditor’s independence the entity would be required to provide a person with suitable skill, knowledge and experience to oversee and approve the process and its results.
  • The auditor’s review of subsequent events may reveal events or circumstances that bear on valuations of investments at the engagement date. The sale of a security, for example may reveal fair value different than recorded amounts. This would be a Type I subsequent event that, if material, should result in an adjustment of the engagement date values.
  • When investments valued a fair values are significant, management’s representations about the appropriateness of measurement methods and disclosures, their consistency, completeness and adequacy should be included in the representation letter.
 
My webcast and self-study courses in the Basic Staff Training Series provide more information about auditing investments and other financial statement classifications. Your can download syllabuses and register by clicking the applicable box on the left side of my home page, www.cpafirmsupport.com.
 
 

This blog

by Larry Perry, CPA, CPA Firm Support Services, LLC - Larry has over 40 years experience as a CPA practitioner, author of accounting and auditing manuals, author and presenter of live staff training seminars and author of webcast and self-study CPE programs.  He is co-founder of CPA Firm Support Services, LLC (www.cpafirmsupport.com), an organization providing resources, training and consulting to smaller CPA firms.  Larry writes a weekly blog on AccountingWEB.com focusing on small audits, reviews and compilations.  He is currently developing documentation manuals and handbooks for small audits, reviews and compilations and related electronic practice aids.

More from this blog

Bloggers crew

Steve Knowles has spent 25 years in business and practice in the UK, but he also worked in the states and the years haven't dulled his way of seeing an alternative view to everyone else, and every day is a new adventure.

44742

Joel M. Ungar, CPA is a lifelong resident of the Detroit area and a graduate of The University of Michigan. He is a principal with Silberstein Ungar, PLLC, a Top 15 auditor of SEC public reporting companies.

77363

Allan Boress, CPA, with over 25 years as a practitioner and consultant to the accounting profession. Mr. Boress is the author of 12 published books in 6 different languages, including a best-seller, The "I-Hate-Selling" Book.

49733

Larry Perry, CPA, CPA Firm Support Services, LLC, is the author of accounting and auditing manuals, author and presenter of live staff training seminars, and author of webcast and self-study CPE programs. He blogs about small audits, reviews, and compilations.

90948
Sandra Wiley, COO and Shareholder, is ranked by Accounting Today as one of the 100 Most Influential People in Accounting as a result of her prominent role as an industry expert on HR and training as well as influence as a management and planning consultant. She is also a founding member of The CPA Consultant's Alliance. Sandra is a certified Kolbe™ trainer who advises firms on building balanced teams, managing employee conflict and hiring staff.
21631

Maria Calabrese, CIR, Human Resources manager for Fazio, Mannuzza, Roche, Tankel, LaPilusa, LLC in Cranford, New Jersey, Maria's topics revolve around the world of: Mentoring, Performance management, and The "Y Generation," a.k.a. "The whY generation".

56995

William Brighenti is a CPA, Certified QuickBooks ProAdvisor, and Certified [Business] Valuation Analyst, operating an accounting, tax, and QuickBooks consulting firm in Hartford, Connecticut, Accountants CPA Hartford.

82173

Ken Garen, CPA, is the co-founder and President of Universal Business Computing Company (www.ubcc.com), a software development firm of high-volume, high-productivity accounting and payroll technology.

25815

Eva Rosenberg, MBA, EA, is the publisher of TaxMama.com, and author of the weekly syndicated Ask TaxMama column. She provides answers to tax questions from taxpayers and tax professionals worldwide.

65556

Amy Vetter, CPA, CITP is the CPA Programs Leader for Intacct Corporation responsible for leading the CPA/BPO Partners nationally.

35308
Brian Strahle is the owner of LEVERAGE SALT, LLC where he provides state and local tax technical services to accounting firms, law firms and tax research organizations across the United States. He also writes a weekly column in Tax Analysts State tax Notes entitled, "The SALT Effect." For more info, visit his website: www.leveragestateandlocaltax.com
104406
Scott H. Cytron, ABC, is president of Cytron and Company, known for helping companies and organizations improve their bottom line through a hybrid of strategic public relations, communications, marketing programs and top-notch client service. An accredited consultant, Scott works with companies, organizations and individuals in professional services (accounting, finance, medical, legal, engineering), high-tech and B2B/B2C product/service sales.
26977

Rita Keller is a nationally known CPA firm management consultant, speaker, author, mentor and blogger. She has over 30 years hands-on experience in CPA firm management, marketing, technology and administrative operations.

53920
Stacy Kildal is the mom of two fantastic kids, an Advanced Certified QuickBooks ProAdvisor, Certified Enterprise Solutions ProAdvisor, Sleeter Group Certified Consultant, a nationally recognized member of the Intuit Trainer and Writer Network, and co-host of RadioFree QuickBooks.
28896
Michael Alter's blog specializes in providing practical advice to those who seek greater profitability and practice management tactics that enhance deeper client relationships.
33260

Sally Glick, CMO, Principal, Marketer of the Year in 2003 and AAM Hall of Famer in 2007, leads a lively discussion of the constantly expanding roles of marketing and the professional marketers that drive this initiative in accounting firms of all sizes.

102344

The IMA Young Professionals Blog features the insights of IMA’s Young Professionals Committee. Committee members share advice and experiences on careers, continuing education, work/life balance, and other issues affecting young accounting and finance professionals.

34572

FEI Financial Reporting Blog provides highlights from SEC, PCAOB, FASB, IASB, and other regulatory news, including reporting under Sarbanes-Oxley Sect 404. It is written by Edith Orenstein, Director of Technical Policy Analysis at FEI.

113431

Sue Anderson has 30 years of experience in continuing education for accountants. Currently she is the program director for online CPE provider CPE Link.

62487

Jim Fahey is COO of Apple Growth Partners, a regional CPA firm in Ohio. His focus is on the effective and efficient use of technology within the firm by all team members.

40612
Caleb Newquist is the Editor-in-Chief of Sift Media US, overseeing content for both AccountingWEB and Going Concern.
67659

Leita Hart-Fanta, CPA, CGFM, and CGAP is the author of "The Yellow Book Interpreted" and owner of Yellowbook-CPE.com a website devoted to training for governmental auditors.

93762

AccountingWEB is more than just a U.S. team of journalists and financial and technology experts - we have an international side, too! Members of our British team who publish AccountingWEB.co.uk share their ideas, insights, and perspectives from across the pond.

54840