Meta Description: Explore key audit areas including cash, fixed assets, and depreciation. Learn how auditors evaluate these areas with procedures, risks, and practical examples for effective assurance.
Introduction
In every financial audit, some areas are considered key due to their susceptibility to error, fraud, or material misstatement. Among the most scrutinized by auditors are cash, fixed assets, and depreciation. These areas impact both the balance sheet and income statement and often involve judgments, estimates, and internal control processes.
In this blog post, we will explore how auditors approach these audit areas, the common risks, control assessments, and substantive procedures, and provide examples from real-world audit practices.
1. Auditing Cash and Cash Equivalents
Cash is one of the most liquid assets and a frequent target for fraud or misappropriation, making it a high-risk audit area.
Common Risks
- Misstatement of balances
- Unrecorded bank accounts
- Check kiting or lapping schemes
- Inadequate segregation of duties
Key Audit Procedures
- Obtain a bank confirmation for each bank account.
- Perform bank reconciliations and verify the accuracy of adjustments.
- Test cut-off procedures to ensure receipts and disbursements are recorded in the correct period.
- Review cash count reports (for petty cash and cash-on-hand).
Example: Cash Reconciliation Test
An auditor obtains the bank reconciliation for December 31. The GL shows $105,000, while the bank statement shows $100,000. The reconciling items include outstanding checks ($7,000) and deposits in transit ($2,000). The auditor verifies these items on January’s bank statement to confirm validity.
2. Auditing Fixed Assets (Property, Plant, and Equipment)
Fixed assets are long-term investments that depreciate over time. Errors can occur in capitalization policies, asset impairment, or disposal recognition.
Common Risks
- Capitalizing expenses that should be expensed
- Omitting disposals from the books
- Failing to account for impairment losses
- Inaccurate asset lives or depreciation methods
Key Audit Procedures
- Review the fixed asset register for completeness and accuracy.
- Perform a physical inspection of a sample of assets.
- Test additions to ensure proper authorization and supporting documentation.
- Review disposals and related gains/losses.
- Recalculate depreciation expense based on asset life and policy.
Example: Fixed Asset Addition Testing
Suppose the client added a $50,000 CNC machine during the year. The auditor verifies the purchase invoice, board approval, and correct accounting treatment. They also physically inspect the asset to confirm its existence and condition.
3. Auditing Depreciation
Depreciation involves allocating the cost of fixed assets over their useful lives. While often automated, it still requires judgment and can materially impact earnings.
Common Risks
- Incorrect useful lives or salvage values
- Inconsistent depreciation methods
- Not adjusting depreciation for impairments or disposals
- Lack of review for changes in asset use
Key Audit Procedures
- Review and validate the depreciation policy for GAAP or IFRS compliance.
- Recalculate depreciation for a sample of assets.
- Verify changes in asset life or method are justified and approved.
- Check for indicators of impairment, such as idle assets or poor performance.
Example: Depreciation Recalculation
An auditor selects a vehicle costing $40,000 with a 5-year life and no salvage value. The client’s depreciation is $8,000 per year (straight-line). The auditor recalculates and confirms the same, ensuring consistency across similar assets.
Best Practices in Auditing These Key Areas
| Area | Best Practice Audit Techniques |
| Cash | Bank confirmations, digital audit trails, analytics |
| Fixed Assets | Fixed asset roll-forward schedules, physical inspection |
| Depreciation | Depreciation expense trend analysis, recalculations |
Real-World Insights: What Auditors Often Discover
- Cash: A mid-size manufacturing company was found to have a dormant bank account not listed on the trial balance. Including this account revealed an additional $28,000 in assets and minor interest income that had gone unrecorded.
- Fixed Assets: In a retail chain audit, auditors discovered that computer hardware purchases under $500 were capitalized instead of expensed, overstating fixed assets and net income.
- Depreciation: A construction firm failed to update depreciation schedules after revising useful lives post-asset renovation. This resulted in understated depreciation expense by $22,000.
Common Audit Findings and Adjustments
| Finding | Impact on Financials |
| Cash reconciliation errors | Misstatement of cash balances |
| Improper capitalization of small items | Overstated assets and net income |
| Depreciation not updated after asset changes | Understated expenses and overstated profit |
Conclusion
Cash, fixed assets, and depreciation are key audit areas that require a combination of analytical review, detailed substantive testing, and strong understanding of internal controls. Mistakes or fraud in these areas can materially impact financial statements and distort the true performance of a company.
Auditors must stay vigilant, leverage technology where appropriate, and always test management’s assumptions critically. By applying best practices and professional skepticism, audit quality can be enhanced significantly.
References
- AICPA Audit Guide – Audit Sampling and Internal Control Considerations
- Messier, W.F., Glover, S.M., & Prawitt, D.F. (2022). Auditing & Assurance Services, 11th Edition.
- PCAOB Standards AS 2110: Identifying and Assessing Risks of Material Misstatement
- IFRS and IAS 16: Property, Plant, and Equipment