Auditing Investments

Investments are often a complex and highly scrutinized area in financial audits. This subject holds notable weight in the U.S. CPA exams, especially within the Auditing and Attestation (AUD) section. Whether these are investments in stocks, bonds, or other financial instruments, they carry significant implications for a company’s financial standing. Key audit procedures for investments include Securities Confirmation, Income Verification, and Ownership Documents.

Each of these procedures targets different financial statement assertions such as existence, completeness, and rights, making them indispensable tools in the auditor’s toolkit.

Securities Confirmation

Securities Confirmation is a primary procedure aimed at substantiating the “existence” and “valuation” assertions of investment balances. This often involves contacting third parties like brokers or financial institutions to confirm the details of the securities held by the company at the balance sheet date.

Example: Let’s say you are auditing a technology company that claims to have $5 million in a diversified portfolio of tech stocks. To confirm the existence of these securities, you send a confirmation request to the broker, asking them to verify the holdings. When you get the confirmation, you notice discrepancies between the company’s records and the broker’s statement. This raises questions about the accuracy of the recorded investment balances, triggering a deeper investigation.

Income Verification

Income Verification focuses on the “accuracy” and “completeness” of income generated from investments. This could include dividends, interest, and any gains or losses on the sale of investments. The procedure typically involves reviewing bank statements, dividend receipts, and other supporting documents to confirm the income recognized during the period.

Example: During your audit of a real estate company, you observe that it has reported significant rental income from its investment properties. You decide to corroborate this by reviewing bank statements and lease agreements. You find that the company had not accounted for a significant breakage fee from a tenant who terminated a lease early. This omission affects the completeness and accuracy of the reported investment income.

Ownership Documents

Ownership Documents are crucial for verifying the “rights and obligations” assertion related to investments. This procedure may include reviewing share certificates, deeds, or any legal agreements that provide evidence of ownership and any associated obligations or restrictions.

Example: Imagine you’re auditing a manufacturing company that claims to own a 25% stake in a smaller supplier. To verify ownership, you request and review the share certificates and shareholder agreements. You discover that the company indeed owns a 25% stake, but it also has a buy-sell agreement that places restrictions on selling the stake. These restrictions could affect the valuation of this investment and thus need to be disclosed in the financial statements