Question

Auditing Property, Plant, and Equipment

A common error the auditor may find during the audit of property, plant, and equipment is that the client neglected to make a journal entry when disposing of an asset that has no value. When no consideration is received (for example, when the asset is donated or tossed out), it is easy to not record an entry and keep the asset on the books.

Clients often make an error by "forgetting" to record a disposal of assets that are discarded for no value. For example, technology can often become obsolete or without value, and clients may dispose of something when replacing it. The asset, however, stays on the books, which creates an overstatement of assets and overstated depreciation expense moving forward.

Read the case. Then answer the questions based on it.

As some assets, especially technology-related assets, become less valuable more quickly, clients may simply choose to discard the assets when replaced. However, because there is no consideration received, oftentimes clients will forget to record the entry removing the replaced asset from the books. As a result, as the new asset is recorded, the total assets are overstated, and, going forward, depreciation expense is also overstated as the disposed asset continues to be depreciated.

Very Best CPA is conducting a second-year audit on its client, Advanced Manufacturing, Inc. Consistent with the policy disclosed in the prior year financial statements, technology and computer equipment is depreciated over five years. During its first year audit, Very Best tested beginning balances and gained comfort on the Property, Plant, and Equipment balances. While auditing this year, the assistant controller offered to put a printer and scanner in the audit conference room since "they had so many extras lying around." In addition, he noted that most of the accounting personnel were printing to a new central station and everyone had a scanner on their desk. When auditing current year acquisitions, this seemed consistent with activity, as there were many technology purchases in the current year.

1. What should have first alerted Very Best that its audit approach possibly needed to be modified?

2. If Very Best's audit approach was modified, what is a potential audit procedure that can be added?

3. What additional observations could have alerted Very Best that its audit procedures needed to be modified?

Answer 1

Hello! Here is the answer to your question. Hope it helps.

In the present case, the CPA checked the opening balances of property, plant and equipment during his first year of engagement. Now during his second year, he comes across some things which may require him to modify his audit procedures.

1. When the assistant controller stated that “they had so many extras lying around”, the CPA would have known that many extra printers and the scanners are there in the company. As the company is not a loss making enterprise or downsizing, there is no reason for this to happen, other than that the company has purchased new printing and scanning equipment.

As a result, many old printers and scanners have become obsolete and now are lying around being useless.

Also, as the CPA would have entered the client office and held initial discussions with the management, before start of the audit procedures, he would have noticed the many scanners on each employees’ desk, but no printer. That too have alerted the CPA regarding the company’s change of equipment usage.

2. Now, as the company has purchased many new equipment, the audit procedure which can be added are:

- Verify the physical equipment with the invoices being entered in the system

- The reasonableness of the new purchases

-The treatment of the old equipment, whether discarded and written off from the books or not

- The cost booked in the profit and loss account, for the equipment lying around the office, but with no usage and scrap value left

- As the company has made many changes with the assets of the company, physical verification of the assets should be definitely considered in the audit program

3. The expense regarding the new equipment in the financials would have provided the CPA with the information that company has incurred expenses on the new equipment.

The increased depreciation expense would have raised the suspicion.

The discussions with the management about the general working of the company and the progress of the company would have highlighted this topic in the conversation.

Besides this, random tour of the office and discussions with few of the employees would have highlighted this practice of the company to the auditor.