Audit Procedures For Property, Plant And Equipment And Observations On Inventory Count

Physical Verification for Ownership

Question:

Discuss about the Auditing and Assurance Services Depreciation.

1. Based on management letter from last year the revenue and capital expenditures were not properly classified. Some revenue expenditure had been capitalized I.e. repair and maintenance expense must have been recorded in Income statement. Similarly there was big irregularity in treatment of depreciation. That is depreciation had range fluctuations in each asset category and the recorded rate of depreciation on buildings, plant and machinery, fixtures fittings and equipment.

The Audit procedure adopted to ensure accuracy of property plant and equipment is as follow:

Firstly the auditor should verify the opening balances. The opening balances must be matched with last year closing figures. The auditor should also examine whether the balance as per the fixed assets records reconcile with those as per the ledger and the final statements after that he should opt for

Ownership, Existence & Valuation and Insurance

In carrying out the audit of property, plant and equipment the auditor is concerned primarily with obtaining evidence about their ownership, existence, valuation and insurance.

As the items of capital expenditure are included in additions for the year and expenditure of revenue nature must not be capitalized.

For ownership the auditor must check

• Bill must be in the name of Green Brown ltd.
• Bill must be authentic
• In case of doubt the auditor can seek external confirmation – from third parties
• Leasing agreement
• Title deeds and records of payment in regard to acquisition of new such asset should be verified

Physical verification	The auditor should pay particular attention to the system of recording the movements as well as other controls over such fixed assets e.g. their physical verification at periodic intervals by the branch management and / or by inspection/internal/concurrent audit team.
Any Discrepancy	The auditor should also examine whether discrepancies have been properly dealt with in the books of accounts and adequate provision in respect of any damaged assets has been made.
Substantial expenditure	The auditor should examine whether any expenditure incurred on a fixed asset after it has been brought to its working condition for its intended use, has been dealt in accordingly.
Classification	It should be examined whether the plants and equipment have been properly classified. Plant and equipment’s of similar nature only should be grouped together.
Transfer	Many a times equipment’s are transferred from one branch to another.
Under construction	Where premises or plant are under construction it should be seen that they are shown under a separate heading like premises under construction

The valuation should be done as per the relevant laws and regulations. On prudence basis the value should be lower of 1) value as per records or 2) The value of sale.

The rate of depreciation is to be vouched thoroughly as it is likely that the rate of depreciation applied is not as the depreciation policy of the company i.e. for building 2 – 4% Straight line, plant and machinery 5-10% straight line method and for fixture fitting and equipment 5-20% straight line method. For this a separate valuation sheet should be prepared by the auditor and reconciled cautiously as there are chances of inter setoffs and intra setoffs of depreciation.  In case of transfer the auditor should examine whether accumulated depreciation in respect of such asset is also transferred. The auditor must ensure that no revenue expenditure is capitalized particularly for under construction asset this can be done by adopting substantive procedures. Also the repair and maintenance ledger should be checked accordingly. The borrowing cost allocated to such assets must be capitalized as per relevant standard on accounting. In case of composite acquisition the costs must be allocated to different assets on a rational basis.  The auditor ensure that the cost incurred by way of commission or installation expense or any other cost which incurred to bring plant or equipment to the company are capitalized. Ensure that in case of imported plant and equipment’s the duties of which no credit is available must be capitalized. Profit or loss on sale of asset must not be capitalized to asset account also the cost, accumulated depreciation should be reduced from such assets for items which were scrapped and have no residual value. The amortization records must be vouched thoroughly. In case of leasehold premises, capitalization and amortization of lease premium should be examined. Any improvement to leasehold asset should be amortized over their residual life.  

Where the property plant and equipment are revalued the auditor should examine the appropriateness of the basis of revaluation. The auditor should check whether the revaluation / impairment have been made in accordance with relevant standard. The property, plant and equipment is to be treated in accordance of capitalized product on purchase, however any repair and maintenance must be treated as revenue item and shown in Income statement.

System of Recording and Other Controls

The auditor must ensure that the property plant and equipment’s are adequately insured. As insurance safeguard the company against any unexpected or contingent losses. The cost of insurance is a bearable cost that must be paid to ensure safety.

The above specified audit procedures as per the relevant standards are must to vouch for accuracy of financial statements. Any deviations in depreciation and other financial figures must either be rectified and if not, must be reported in audit report.

Audit procedure ensures that all financial errors are tracked and any discrepancy is reported.

Audit procedure in respect of depreciation explained above. The concerned risk is that there is range of depreciation rate between categories that is the depreciation is not uniform for different classes of assets. Such range is not correct and one stable rate system must be adopted. The rate of depreciation applied to the asset is also too low. The depreciation rate must be as per the law in force and any deviation in depreciation rates must be reported

2. On attending the inventory count of the client Davis Hydraulics Ltd the observations made were:

The counting of stock was done on instruction of Supervisor, and the allocations made were based on his direction thus the counting was done on basis of single person direction on basis of divided efforts so there are upmost changes of error , i.e. under or over statement

The entire stock count was based on random employee based counting. The figures of stock counting were done on plain paper with pencil making it even more variable to quality vouching and optimizing chances of error. There were multiple involvement of staff also as the staff member who has completed his work was assigned to help another member.

Then at end also the complete consolidation was done by supervisor himself.

Weakness	Improvement
Supervisor involve in stock recording at primary level	The supervisor must not involve in stock recording at primary level as it may not give the true and fair view of stock. The supervisor needs to supervise all the sub-ordinates involve in stock recognition; if he himself indulges in the same activity then he cannot effectively supervise all the sub-ordinates. The supervisor had complete control of assignment and the subordinate were bound to follow his instructions only. A single person control leads to chances of manipulation and thus random audit to his figures must be vouched.
Stock recording on blank papers	The stock recording must be on the printed sheets having company name on it also the sheets should be serially numbered so that chances for manipulation are very low. Also the sheets must be secured from access by junior staff.
Name and Signature	All the sheets must be signed with name of staff to make them accountable for the stock recording. The accountability of each staff must be determined so that in case of variances the accountable person could be cross questioned
Stock recording with pencil	This activity must be stopped as one can easily manipulate the records. The recording must be by pen as any change can easily be identified. Also the effectiveness of stock calculation enhances as one knows that the rectification can be seen easily.  Proper error free practice must be implemented and the stock vouching must be done in an organized way with pen.
Staff Assistance to another staff	This is a bad practice as if any discrepancy is found then the identification of the staff responsible for the same is difficult and thus no one can held responsible. Also one may complete the task just for the sake of their personal talks with the other subordinate which defeat the whole concept of stock recording. The staff who has completed his work and is assisting the other may not give his best and may affect accuracy of results too, so only each staff must be allocated equal segment and it must not be shared
Sampling	The supervisor must be checking the work done by the staff on sample basis to ensure the effectiveness. The practice of random sampling, observations and monitoring must be done to ensure that the chances of deviation are least.
Supervisor final stock count	In Audit the maker should not be the checker so work done by supervisor must be cross check by higher officials, only then the final stock recording can be done. There must be cross check of figures provided by supervisor and internal audit or third-party assistance can be taken to vouch the same

Stock monitoring system like bin cards , online inventory management , proper accounts must be practices so that the figures given by supervisor or revealed through stock audit could be matched with one as per records and based on which any deviations resulting from manipulations , theft , etc could be analyzed and reported.

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