2

Audit of cash and marketable

securities
 2.1 Audit of cash
Sources and nature of cash
Cash includes:
 General account: It is a checking account that
increases by cash sales, collection of receivables, and
investment of additional capital. Business expenditures
decrease it.
 Payroll account: It is an account set for payment to
employees. A check is drawn on the general account to
deposit funds in the payroll account when ever payroll is
paid
 Petty cash account: Is used for small expenditures and
is replenished by a check drawn on the general account
 …
• The auditor’s objectives in examining
cash:
 Internal control over cash transactions is
adequate,
 The recorded cash is valid (the most important)
 All cash accounts are recorded
 Cash transactions are mathematically correct
 Presentation and disclosure is adequate
 ...
Auditors devote much time in audit of cash
though it is usually the smallest among other
balance sheet items. This is because:
 The amount that flows into and out of it is often
the largest than any other account
 Liabilities, revenue, expense, and most of other
assets flow through cash account
 Inherent risk is higher for cash as a result of its
liquid nature.
 Internal control over cash
• Control wise, the finance and accounting
department must integrate to provide
assurance that:
 All cash that should have been received was in
fact received, accounted for, and deposited
promptly
 Cash disbursements have been made only for
authorized purposes and have been appropriately
recorded
 …
Some of the guidelines that would enable achieve
internal control over cash are:
 Separation of duties between handling and
record keeping
 Record cash receipts immediately
 Deposit cash receipts intact
 Make all disbursements by check
 Independent reconciliation of bank accounts
 Internal control over cash receipts

 For cash sales, control is exercised by having two or more

employees involved in each transaction.

 For sales made on account, control over receipts is

strengthened by using mail to receive checks. However, no
one employee shall be responsible to receive the checks,
deposit them, and record the credits to customers’ accounts.

 Prelisting of cash receipts and remittance advices can be used

to prevent misappropriation.
Internal control over cash payments
• Adequate internal Control over cash
payments can be achieved by the use of
pre numbered checks.

• The voucher system provides assurance

that disbursements have been made only
for transactions that have been authorized.
 Audit program for cash
A) Consider internal control for cash

1) Obtain an understanding of client’s internal control

2) Asses control risk and design additional tests of controls
3) Perform additional tests of controls. Tests include:
a. Prove footings of cash journals and trace postings to
ledger accounts.
b. Compare details of cash receipts listings to CRJ, A/R
postings, and deposit slips.
c. Compare the detail of a sample of recorded disbursements
in CPJ, A/P postings, purchase orders, receiving reports,
invoices and paid checks.
4) Reassess CR and design substantive tests
 …
B) Substantive tests

5) Obtain analysis of cash balances and reconcile to

general ledger.
For cash in bank accounts, a schedule that lists banks,
the account number, account type, and the year end
balance per book is prepared.

6) Send confirmation letters to banks. The forms are

prepared by the client, mailed personally by the
auditors, the return address being the auditors’ office.
The form not only confirms the validity of recorded
information, but also may lead to discovery of
additional accounts, loans, or other transactions.
 …
7) Obtain or prepare reconciliations of bank balances
as of the balance sheet date.

 Auditors should make a detailed investigation of the

reconciling items. This helps to:
• Verify arithmetical accuracies
• Uncover concealment of a cash shortage by, for example,
omitting a check from outstanding check list.

 For environments where the client’s control over

receipts and disbursements is weak, the proof of
cash is used to:
a) verify receipts and deposits during the test period
b) Verify cash disbursements during the test period
 …
8) Obtain a cutoff bank statement for transactions of
at least 7 business days subsequent to balance
sheet date.
 Outstanding checks in balance sheet date
reconciliation are traced to the cut off bank
statement for the date the checks cleared the bank.
9) Count and list cash on hand- Includes
receipts undeposited, petty cash funds and
change funds.
 Auditors should insist that custodian of the funds be
present during the count.
 Control over all negotiable assets must be
established.
 …
10) Verify the client’s cut off of cash transactions.

 Cut off of cash receipts can be verified by

examining if deposits in transit as shown on the
year end bank reconciliation appear as credits on
the bank statement on the first business day of the
new year.

 For disbursements, determination of the serial

number of the last check on the balance sheet date
and making enquiries if all checks have been mailed
help verify the accurate cut off.
 …
11) Trace all bank transfers for the last week of audit year and
first week of the following year.
 It helps to disclose overstatements of cash balances resulting
from kitting (a manipulation that is used to conceal cash
shortage or meet short term cash need).
 Auditors prepare a schedule of bank transfers for a few days
before and after the balance sheet date as shown as follows

Bank Accounts Date of Date of Receipt

Check no. Amount disbursement
From To Books Bank Books Bank

6006 General Branch 4 24,048 1/2 1/4 12/30 12/30

6029 Branch 2 General 10,000 1/3 1/5 1/3 12/31
 …
• By not recording the disbursement made out of the
general account and recording the receipts of branch
4(Ck. No 6006), the client has not only overstated the
balance of cash, but might have also overstated the
results of its operations.

• Check no. 6029 is an example of a situation where kitting

is used to conceal a cash shortage that resulted from
misappropriating the general checking account.
 …
12) Investigate any checks representing large or
unusual payments to related parties.
Such checks should be carefully reviewed to determine
whether the transactions were properly authorized,
recorded and, adequately disclosed in the financial
statements.

13) Determine proper financial statement presentation

and disclosure of cash.
Auditors should be cautious of window dressing of a
nature that causes financial statements to be misleading.
 Exercises
Recommend an audit procedure that auditors
should employ to uncover each of the following
possible irregularities.

1. A check was paid to a vendor for a carload of raw

materials that was never received by the client.

2. A discount on a purchase was not taken even though

the check was mailed before the discount period has
expired.
 …
3. Cash receipts for the last two days of the year were
recorded in the CRJ for the subsequent period and
listed as DIT on year end bank reconciliation.

4. A check written for a vendor during the last month of

the year was recorded in the cash disbursements
journal twice to cover an existing fraud. The check
cleared the bank and did not appear on the bank
reconciliation.

5. During the first few months of the year, John smith,

the cashier in a small company, was engaged in
lapping. However he was able to restore the amount
of cash borrowed by march 31 and he refrained from
any fraudulent activities.
 ...
1. The first case might be discovered, as part of test of
control, auditors:

 Trace recorded disbursements in CPJ to voucher

register ,
 Examine voucher for arithmetical accuracy and
check agreement with all the related documents,
and
 Examine the supporting documents if each has
been signed by authorized personnel.

N.B. It is possible that the irregularity will not be discovered at

all, for, auditors take a sample of disbursements the extent of
which depends on assessed level of control risk.
 …
2. In addition to procedures in (1) above, comparing
details (terms, date approved, date paid, and amount
paid) of selected entries in the CPJ (Check register),
vouchers, and purchases invoices help to uncover this.

3. To discover this auditors should prepare/obtain Bank

Reconciliation for the last month and trace amounts
reported as DIT to cash receipts journal.
 …
4. As the checks have been paid and don’t appear in the bank
reconciliation, auditors should
 Prepare proof of cash
 Compare the details of checks cleared the bank to the details
of related record in the CPJ

5. Compare details of entries in CRJ, pre listings, accounts

receivable and authenticated deposit slips. (tests of controls
should be designed in such a way that would enable auditors
discover lapping activity in any of the months of the year. Unlike
the situation in 1 and 2 auditors have a better chance of
discovering this one)