Auditing Investment: Assertions, Risks, and Key Procedures

Meaning of Investments

Investment is the deployment of capital in order to earn interest, dividend, or capital appreciation. Investments are basically either held to maturity or available for sale securities. Held to maturity securities are those that are held with intent until maturity.

These are reported at cost, provided for amortization and accretion of discounts. Available for sale investments are reported at fair value where any unrealized profits or losses form part of stockholders’ equity.

While auditing the investment of any entity, the auditor needs to be aware of applicable accounting guidance. They should be familiar with the knowledge of client business and the nature of investment it holds.

Audit assertions for Investments

Investments are audited by testing various audit assertions as existence, completeness, valuation, and rights and obligations. These are explained in detail below:

ExistenceInspecting investment securities on hand and comparing with previous year balances and accounts along with purchases and sales in the current year. This also takes into the movement of cash from and towards the investment
ValuationExamining financial statements to check recognition of gains or losses from investment. This also would mean checking carrying amounts of securities under the equity method
CompletenessThe investments have been completely recorded with respect to interest, dividends and fair value, if applied.
Rights and obligationsChecking and verifying that the client has ownership rights for investments on the date of balance sheet.
Presentation and disclosureVerifying that all investments have been properly classified and notes have been placed with respect to restrictions in investments.

Primary risks for Investments

The inherent risk and control risk in the obligations form the risk of material misstatement in investment reporting and compliance. The risk of being susceptible to misstatement due to the nature of the investment is the inherent risk of the investment.

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Control risk occurs when the internal control system of the auditee fails to prevent or detect material misstatement in the investment. The inherent risk further involves issues related to existence and valuation of investment on books.

When the value of investment is overstated, there is higher risk it could be due to fraud with intention. The investment of the client may come with certain restriction which have not been disclosed and circumstances would lead to non-detection of such restriction.

These are where internal control fails due to complexity of terms and conditions in arrangements of investments being done.

The various other risks for investments would include:

  1. Investments are intentionally overstated to cover up fraud
  2. Investments are not correctly valued due to complexity and management’s lack of accounting knowledge
  3. Misstatement of investment with improper cut-off
  4. Proper disclosures not made with respect to investments.

Substantive audit procedures for investment

Auditing investment requires a deep working knowledge of accounting and auditing standards along with knowledge of client business and the type of investments they hold.

The substantive audit procedures related to investments should respond to risks identified by the management and auditors which involves confirmation of investments, an inspection of cut off of investment with respect to date and amount, and vetting the investment documents for the requirements related to disclosure and checklists.

It would better to show the audit assertions and relevant substantive audit procedures carried out for such assertions as:

Audit AssertionsSubstantive audit procedures
ExistenceBalance confirmation from broker company in respect of securities held. Inspecting the investments that are tangible physically. Vouching and verification of all the purchases and disposals of the investments.
ValuationVerifying that investment balances reflect market values at the reporting date, if applicable. Re-computation of interest and dividends Determining if gains and losses have been properly recorded
CompletenessChecking arithmetic accuracy of the schedule by footing and cross-footingPreparing and verifying the balances with reconciliation of investment balances from previous year.Verifying that all investment related transactions have been recorded in the proper accounting period.
Rights and obligationsInquiring the management on restrictions if any on investment studying the terms and conditions of investments and checking if they have complied.
Presentation and disclosureVerifying that if any restrictions have been placed on investments are properly disclosed in the notes to accounts. Verifying that investments have been properly classified and reported.