Meaning of share capital

Share capital is the amount invested by a company’s shareholders for use in the business. After the creation of the company, the shareholders bring in the contribution through cash which is shown on the balance sheet on the liability side as an equity account. Share capital is also called shareholders’ capital, equity capital, contributed capital, or paid-in capital.

Share capital is the primary item of interest in the balance sheet. It is further divided into various kinds as common stock and preferred stock. The paid value is represented on the balance sheet.

Audit Assertions for Share capital

If the company shows equity on the balance sheet, it asserts that it exists on the balance sheet date and that related transactions with equity have been made. Take, for example, if equity is issued, then certain cash would be received at the other end. The double entry system of bookkeeping keeps both cash and equity share capital in check over here.

The share capital has certain rights and obligations. Take, for example, common share capital has rights over retained earnings while preferred share capital has a preference to be paid a dividend before the dividend is paid to equity shareholders. Preference shareholders enjoy priority over equity shareholders.

Both these equity share capital and preference share capital are different classifications of share capital, which again is a separate assertion. Further, preference share capital is further divided into contributing, participating, non-participating, non-contributing, and further sub-classifications.

As of the date of reporting, the firm’s management and shareholders are subject to share capital assertions as per applicable auditing and accounting standards. This would include disclosures of the existence, rights, and obligations of the company and maintenance of the records of share capital. The following are major audit assertions related to shares capital.

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ExistenceEnsuring that reported capital actually exists on the date of reporting
CompletenessThe nature and types of share capital transactions that have been issued should be recorded.
ValuationShare capital is recorded in line with applicable accounting standards.
Present and disclosureAn appropriate level of information about share capital is disclosed in accordance with applicable accounting standards.

Primary risks of share capital

The risks associated with share capital have decreased with the advent of the digital mechanism of the share issues and other related aspects. Hardly, the big public listed companies have share related issues. However, the risk of error in a presentation in the balance sheet may happen as a result of accounting mistakes.

When equity share capital is overstated, it means that the balance sheet is strong. Hence, primary risks for equity share capital would be misrepresentation in the balance as a result of error and intentional overstatement that does happen in the case of entities other than corporate forms.

Substantive audit procedures for Share capital

These are the extensive audit procedures needed to perform when a large sum of money is involved in the accounts. The number of transactions in share capital is minimal and the amount involved is major in comparison to the balance sheet. Hence, auditors shall apply substantive procedures as:

AssertionsSubstantive audit procedures
ExistenceVerification with a certificate of incorporation, articles of association, and Memorandum of association. Matching the balances with SEC/relevant authority filings.
CompletenessVerification of authorized and issued share capital with supporting documents like bylaws, AOA, and others.Reconciliation of share capital balances with SEC and other filings and general ledger prepared by the company.
ValuationMatching those share capital transactions has occurred in line with board meetings. Reconciliation of share capital receipts with escrow account along with paid-up capital portion, treasury portion, and amount of refunds share capital has been issued in lieu of fixed asset or for some other arrangement, ensuring that exchanged assets are properly valued and take professional experts to help if necessary.
Presentation and disclosureEnsuring the following items are disclosed in the financial statements as Classes of share capital rights related to each class of share capital authorized share capital and issued share capital. Share capital with conversion rights or options adjustment required in comprehensive income.

In a nutshell, substantive audit procedures for share capital would include summarizing and reviewing all the equity-related transactions, their proper classifications, reconciliation of the opening balances to the balance as on the reporting date and further reviewing disclosure for compliance in accordance with the applicable financial framework.