Efficient Tests of Balances Series—No. 9: How to Audit Cash Efficiently | AccountingWEB

Efficient Tests of Balances Series—No. 9: How to Audit Cash Efficiently

Learning “how” to audit cash is mainly learning “when” to audit cash and to “what extent” cash auditing procedures should be applied.  The cause of much over-auditing on many engagements, the amount of audit work necessary depends on risk of material misstatement (RMM) evaluations at both the financial statement and classification (assertion) levels. For example, when RMM is low at the financial statement and assertions level for cash, few substantive procedures may be necessary.  Substantive procedures may, in these circumstances, consist almost entirely of analytical procedures.

COMMON YEAREND SUBSTANTIVE PROCEDURES FOR CASH

Analytical Procedures

Reading the General Ledger:

One of the most pervasive analytical procedures is reading, or scanning, the general ledger account activity.  Whether done manually, or with the assistance of data extraction software, this analytical procedure is discussed for the first time in professional standards in SAS Nos. 106 and 109.  

Many auditors customarily perform this procedure but fail to consider its affect on their audit strategy.  After any errors are corrected by proposed journal entries, the auditor has obtained significant, substantive evidence that relevant assertions for many account balances are reasonable.  The evidence obtained from this risk assessment procedure should enable the auditor to reduce the assessed level of risk of material misstatement and, therefore, the extent of evidence desired from detailed tests of balances.

This procedure is usually performed by looking for (1) unusual amounts or postings, (2) transactions or general journal entries greater than the lower limit for individually significant items, (3) checks or disbursements to be used in support tests, and (4) other unusual matters.  Documentation of the procedure should include the parameters of the test, the exceptions the test revealed and the resolution of the exceptions in a spreadsheet, memo or other working paper.

Other Analytical Procedures:

For all levels of risk of material misstatement, other analytical procedures normally performed for cash would include:
•    Compare account balances with the preceding year or years.  Investigate significant changes in amounts or deviations from trends.
•    Investigate accounts opened or closed during the year.
•    Investigate credit balances to determine if they represent actual bank overdrafts.
•    Compute quick current ratio (cash and net receivables to current liabilities) and compare to prior year or years.

Other Substantive Tests of Balances Procedures for Cash:

The nature, extent and timing of detailed tests of balances procedures should be determined based on the assessed level of misstatements for each financial statement classification (assertion level).  The assessed level of risk should be determined based on the documentation of the auditor’s risk assessment procedures.  The following illustration demonstrates the effects of the assessed level of risk of material misstatement on cash tests of balances procedures.

High assessed risk:

Prove all major bank reconciliations at the engagement date.  Trace most reconciling items to cutoff statements.  Confirm all accounts.  Perform extensive search for unrecorded transfers.

Slightly less-than high assessed risk:

Prove all major bank reconciliations at the engagement date. Reduce the number of reconciling items traced to subsequent month’s statements.  No cutoff statements may be necessary; next month’s statements may be used.  Reduce the extent of the search for unrecorded transfers. Confirm all accounts.

Moderate to low assessed risk:

Prove only major reconciliations at engagement date; review others for reasonableness.  No cutoff statements; use next month’s statements.  Review records for only larger unrecorded transfers. Confirm all accounts.

My live and on-demand webcasts entitled, Basic Staff Training Series, contain detailed training on how to audit cash and other account classifications.  You can download syllabuses and register by clicking the applicable box on the left side of my home page, www.cpafirmsupport.com.

 

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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.

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