AUDITING THE FINANCING CYCLES

Summary of Modern Auditing Chapter 17

By:

BONY FERYANTO MARYONO (A311 10 279)

Accounting Department Faculty of Economics and Business Hasanuddin University 2012

AUDITING THE FINANCING CYCLES

Significant investing transactions are usually accompanied by significant financing transactions. The financing cycle includes 2 major transaction classes as follows: 1. Long-term debt transactions include borrowings from bonds, mortgages, notes, and loans, and the related principal and interest payments. 2. Stockholders equity transactions include the issuance and redemption of and dividend

preferred and common stock, treasury stock transactions, payments.

The financing cycle interfaces with the expenditure cycle when cash is disbursed for bond interest, the redemption of bonds, cash dividends, and the purchase of treasury stock. The accounts used in recording financial cycle transactions include:
LONG-TERM DEBT TRANSACTIONS Bonds, Mortgages, Notes, and Loans Payable Bond Premium (Discount) Interest Payable Interest Expense Gain (Loss) on Retirement of Bonds STOCKHOLDERS EQUITY TRANSACTIONS Preferred Stock Common Stock Treasury Stock Paid-in Capital Retained Earnings Dividends Dividends Payable

Materiality Financing liabilities are normally a material aspect of the financial statements. The primary consideration in evaluating the allocation of materiality is the determination of the magnitude of misstatement that will influence the decisions of a reasonable financial statement user. The auditor also needs to consider the significance of omissions of debt or obligations. Inherent Risk Long-term debt is not usually vulnerable to theft

Complexity of determining capital lease Consolidation of variable interest entities and off balance sheet financing Calculation and reporting of interest expense

Functions and Related Controls The following financing functions and related control activities are associated with the financing cycle: 1. Authorizing bonds and capital stock. The board of directors usually authorizes

financing transactions based on its strategic plans and investing activities. 2. Issuing bonds and capital stock. Issues are made in accordance with board of

directors authorizations and legal requirements, and proceeds are promptly deposited intact; unissued bond and stock certificates are physically safeguarded. 3. Paying bond interest and cash dividends. Payments are made to proper payees in accordance with board of directors or management authorizations. 4. Redeeming financing transactions. Transactions are executed in accordance with board of directors authorizations; treasury stock certificates are physically safeguarded. 5. Recording financing transactions. Transactions are correctly recorded as to amount, classification, and accounting period based on supporting authorizations and documentation; the duties of executing and recording financing transactions are segregated; periodic independent checks are made of agreement of subsidiary

ledgers and control accounts, including confirmation with the bond trustee or transfer agent, if applicable.
Ratio or Other Financial Information Free Cash Flow Audit Significance Negative free cash flows indicate the need for, and approximate amount of, expected financing to prevent drawing down on cash or investments. Provides a reasonableness of the entitys proportion of debt that may be compared with prior years experience or industry data. Provides a reasonableness of the entitys proportion of equity that may be compared with prior years experience or industry data.

Formula Cash Flow from Operations Capital Expenditures

Interest-Bearing Debt to Total Assets Shareholders Equity to Total Assets

Interest-Bearing Debt Total Assets

Shareholders Equity Total Assets