How to Audit Cash and Cash Equivalent?
cash and cash equivalent is the balance sheet line refers to the cash on hand, cash at the bank, and the items that can convert to cash immediately such as cheques.
They include the short-term investment that can be sold for cash with a maturity date of three months or less.
Cash and cash equivalents are high-risk items for the company as they are easily lost due to fraud or accidents. Cash on hand will face the risk of the thief from both internal and external parties, so the company needs to have strong internal control to safeguard the assets. The nature of cash will lead to the risk of fraud from both internal and external parties. Too much cash on hand will face a high risk of accidents such as fire or other disasters.
Cash is also a high-risk item for the auditors. If there is no strong control, the account balance may contain a misstatement due to fraud or error. As mentioned above, there are risks that lead to material mistreatment in cash. In addition, the company itself may want to manipulate the cash balance for some reasons such as improving its liquidity position. The management may use the cash to serve their own benefit. As a result, it will put more risk on the auditor to ensure the cash balance is free from material misstatement.
The cash at bank has less risk as the movement is recorded by the bank. It easily tracks the movement from one account to another.
Audit Assertion for Cash and Cash Equivalent
- Existence: The cash must exist under company control at the reporting in order to present it on the balance sheet.
- Right and Obligation: The company must have the full right to use cash to settle for any obligation. It does not make sense to record the cash while we cannot use it.
- Completeness: All the cash and cash equivalent must include the account balance. It includes cash at the bank, cash on hand, and petty cash.
- Accuracy: The cash record must have the same value as the actual cash on hand and bank. If company has other currencies, they have to be translated to functional currency using the year-end exchange rate.
- Classification & Presentation: The cash must be present in the correct classification on balance sheet. Any cash restriction needs to be present in a separate account with the proper disclosure.
Substantive Analytical Procedure for Cash
Cash and cash equivalent are the most liquidated assets on the financial statement. It is considered high risk for both company and auditors.
Auditor has to check if the cash on hand balance is reasonable for the size and nature of the business. It is very easy for company to bring any cash on hand and declare it as their cash. There is no proof on cash that show the evidence of ownership. The company can bring anyone money and put in the safe and record as their cash on hand.
For cash at the bank, it is more reliable as we have bank statements and confirmation from bank. However, auditors are still required to pay high attention to the fluctuation balance from month to month. They have to check the source of cash and compare it with actual cash if it is reasonable. If the company did not make any good sales, it should not have huge cash on balance sheet unless there is capital contribute.
Auditor has to review the monthly cash flow which will show the movement of cash every month. It can tell the source of cash that company obtains. It also presents the usage of cash during the month. Each month-end balance can be compared with the year-end balance. It ensures the company does not try to increase the cash at year-end.
Test of Detail for Cash and Cash Equivalent
- Existence: Similar to all assets, company should record only the cash that really exist within the company. The cash include both cash on hand and cash at bank.
Auditor can perform physical inspections of the cash on hand which keeps in the vault. If the auditor conducts the audit after year-end, they perform the cash count on the current date and roll it back to the year-end balance. At the same time, they have to inspect the supporting document of cash in and out too. It can ensure both strong control and cash existing at year-end.
For the cash at bank, auditors must require the company to prepare bank confirmation and send it on behalf of the client.
- Right and Obligation: The company has to ensure that they have the right to use the cash to settle with the supplier or any parties. If the cash is under any restriction, It has to be present separately.
It is very hard to access the restriction on cash on hand unless the company has strong policy. For cash at bank, auditor can include some questions regarding to the restriction which require a proper response from the bank. It is more reliable when evidence is received from a third party.
- Completeness: All cash balance must be included in the company report. It includes cash at bank, cash in the vault, and petty cash.
Auditors have to understand the nature of business if they are required to have petty cash in any specific location such as a branch or construction site. Some company stores temporary cash collection in the vault before depositing to bank. Auditors have to reconcile these cash balances to the trial balance to ensure completeness.
During the physical inspection, auditor can ask the accountant to ensure that all cash in the vault is included in the cash-on-hand listing.
In bank confirmation, auditor must ask the bank to list all the bank under the company name to ensure all accounts are recorded on the balance sheet.
- Accuracy and valuation: The cash amount on record must be the same as the actual cash on hand and bank.
Auditor can compare cash on hand balance with all the cash count reports and petty cash book. They are also required to reconcile cash at bank with bank confirmation and bank reconciliation.
If the company has cash in other currencies, auditors have to recalculate the balance. First, they have to ensure the balance of the original currency. Then use the official exchange rate to convert them to functional currency.
- Classification & Presentation: The cash and cash equivalent must be classified as the current assets on the balance sheets. Auditors can review the balance sheet account and note disclosure to ensure cash balance is present properly.