UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

AUDIT OF INVESTMENTS

NATURE & SOURCES OF INVESTMENTS 3. Ascertain that all investments owned by the client at the balance sheet date are included
in the investment accounts (completeness)
“Investments” is a broad term used to describe non-operating, income-producing assets of a 4. Ascertain that the values at which investments are carried in the financial statements are
commercial or industrial enterprise that are held either as a means of using excess cash or to appropriate
accomplish some special purpose. 5. Ascertain that the presentation and disclosure of investments, including
current/noncurrent classifications and necessary disclosures, is adequate.
“Short-term investments” usually consist of marketable securities acquired for income producing 6. Ascertain that income from investments, including gains and losses on sales and
purposes by temporarily using excess cash. In a classified balance sheet, short-term investments adjustments in valuation allowances, is appropriately reflected in the financial
are classified as current. The term “investments” without any modifier often identifies assets held statements.
for long-term yield and market appreciation and consequently classified as noncurrent assets.
INTERNAL CONTROL FOR INVESTMENTS
The phrase “marketable securities” indicates a high degree of liquidity, that is, securities for which
an organized and active market exists. Such securities may be held in either a current or long-term The major elements of adequate internal control over investments include the following:
investment account and may consist of equity or other securities.
1. Separation of duties between the executive authorizing purchases and sales of securities,
“Long-term investments,” “investments in associates,” or “investments” may also represent the custodian of the securities, and the person maintaining of the record of investments.
holdings of securities for purposes of control, affiliation, or financing of enterprises related to the 2. Complete detailed records of all securities owned and the related revenue from interest
investing company’s operations. Those investments, which are classified as noncurrent assets, and dividends
may require using the equity method of accounting. Sinking funds, building funds, and other funds 3. Registration of securities in the name of the company
accumulated for special purposes may consist of investments in securities and are classified as 4. Periodic physical inspection of securities by an internal auditor or an official having no
noncurrent assets. responsibility for the authorization, custody, or record keeping of investments.

Income statement accounts related to investments are generally, “interest revenue” (including AUDIT WORKING PAPERS FOR INVESTMENTS AND RELATED REVENUES
amortization of premium and discount, as appropriate), “dividend revenue,” realized gain or loss
on sale of securities,” unrealized gain or loss from holding marketable equity securities,” and The audit working papers for investments and related revenues may include, among others, the
“earnings or losses from investments accounted for by the equity method.” Market value following:
adjustments made for long-term marketable equity securities are reflected in the equity section
of the balance sheet and not on the income statement. 1. Securities count sheet
2. Analysis of changes in investment accounts
AUDIT OBJECTIVES IN THE EXAMINATION OF INVESTMENTS 3. List of securities composing end-of-year balance
4. Schedule of income, gains and losses related to investments
The objectives of the audit of investments are to:
AUDIT PROGRAM FOR INVESTMENTS AND RELATED REVENUES
1. Ascertain the adequacy of internal control structure policies and procedures over
investments; The following audit procedures are generally performed during the audit of investments to obtain
2. Ascertain that the investments are valid in that they exist and are the property of the supporting evidence of the objectives defined for the following assertions.
client (existence and rights)

Auditing Problems 1
UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

 Presentation and Disclosure December 31, 2008

Trading securities 5,000,000 5,500,000
o Examine financial statement presentation of investments Available for sale securities 3,000,000 3,300,000
o Inquire of management and review loan documents as to possible pledging of 8,000,000 8,800,000
securities for appropriate disclosure purposes
Required: Prepare the necessary entries to recognize the changes in market value
 Existence or Occurrence
2. Global Company had investments in marketable debt securities with face value of P
o Inspect and count securities on hand 6,000,000 and which were acquired for P 6,000,000 on January 1, 2007 as “available for
o Obtain confirmation of securities from third-party custodian sale.” On December 31, 2008, Global decided to hold the investments to maturity and
accordingly reclassify them as “held to maturity” on that date. The investments’ market
 Rights and Obligations value was P 5,700,000 at December 31, 2007 and P 5,200,000 on December 31, 2008.

o Verify entries in investment accounts Required: Prepare all necessary entries for the years 2007 and 2008.

 Completeness 3. The following transactions occurred in the order mentioned

a. Free company acquired 40,000 ordinary shares of XYZ Company at P 50 per share
o Obtain or prepare an account analysis for the investment and related revenue or b. The shares are exchanged in a 5-for-1 split
loss accounts c. Received a preference share dividend of 1 share for every 10 ordinary shares
o Perform analytical procedures held. Ordinary share is selling ex-dividend at 15 and preference share is selling at
10
 Valuation d. Received a dividend in kind of 1 ordinary share of ABC Company, market price, P
6, for every 4 ordinary shares held
o Investigate method of accounting for equity securities e. Sold 80,000 ordinary shares of XYZ Company at P 15 per share
o Determine fair market value of securities on balance sheet dates
o Verify revenue earned on investments Required: Journal entries to record the foregoing transactions
o Examine financial statements of investee companies
o Test calculations of premium and discount amortization for accuracy 4. Civil Company owns 40,000 shares purchased for P 75 per share as noncurrent
investment. The following transactions pertain to such investment in the chronological
order.
PRACTICE PROBLEMS: a. Received stock rights to purchase one share at P 80. Two rights are required to
acquire one share. The market values of the stock and rights at issuance date are
1. International Company was very active in acquiring and selling investments in equity P 90 and P 10 respectively
securities. Data regarding the securities are: b. Exercised 30,000 rights
Cost Market Value c. Sold 6,000 rights at P 10 per right
December 31, 2007 d. The remaining rights expired
Trading securities 5,000,000 4,600,000
Available for sale securities 3,000,000 3,100,000 Required: Prepare journal entries to record the transactions
8,000,000 7,700,000

Auditing Problems 2
UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

5. The following transactions pertain to Benguet Company: 9. On January 1, 2007, Wise Company acquired for P 3,700,000 the entire P 4,000,000 issue
a. Purchased 20,000 ordinary shares of XYZ Company for P 2,400,000 representing of 12% serial bonds to be held to maturity. Bonds of P 1,000,000 mature at annual interval
20% interest on January 1, 2007. The net assets of XYZ are fairly stated at P beginning December 31, 2007. Interest is payable annually on December 31.
8,000,000.
b. XYZ Company reported a net income of P 1,500,000 for 2007. Required: Prepare a schedule of annual amortization following the bond outstanding
c. Received a 10% stock dividend from XYZ Company. method; prepare the journal entries for 2009 and 2010
d. XYZ Company reported a net loss of P 300,000 for 2008
e. XYZ Company paid a cash dividend of P 500,000 to ordinary shareholders on 10. On January 1, 2007, Fatima Company acquired P 4,000,000 16% face value bonds. The
December 31, 2008 interest is payable annually every December 31. The bonds are expected to yield a 12%
f. Sold 5,500 ordinary shares of XYZ at P 200 per share interest and mature December 31, 2011.

Required: Prepare journal entries to record the transactions under equity method and Required: Compute the purchase price of the bonds; prepare a table of amortization using
cost method the effective interest

6. On January 1, 2007, Remar Company purchased 15% of the ordinary shares of ABC 11. Alaminos, Inc. completed the construction of a building at the end of 2008 for a total cost
Corporation for P 6,000,000 to be accounted for under the cost method. The net assets of P 100 million. The building is estimated to be economically useful for 25 years. The
of ABC are fairly stated and include the following: building was constructed for the purpose of earning rentals under operating leases. The
Ordinary share capital 25,000,000 tenants began occupying the building after its completion. The company opted to use the
Retained earnings 5,000,000 fair value model to measure the building. An independent valuation expert was used by
For the year 2007 ABC realized a net income of P 3,000,000 and paid cash dividends of P the company to estimate the fair value of the building on an annual basis. According to
4,000,000 on December 31, 2007. the expert, the fair values of the building at the end of 2008, 2009 and 2010 were P 105
million, P 120 million and P 118 million respectively.
Required: Prepare all indicated entries to record the information given
Based on the above and the result of your audit, answer the following:
7. Durable Company purchased P 3,000,000 face value bonds for P 3,111,510 on January 1, a. How much should be recognized in profit or loss in 2008 as a result of the
2007 to be held to maturity. The bonds carry a nominal rate of 8% payable semiannually completion of the building at the end of 2008?
on June 30 and December 31. The bonds mature on January 1, 2009 with an effective rate b. The depreciation expense in 2008 is?
of 6%. c. How much should be recognized in profit or loss in 2009 as a result of the fair
value changes?
Required: Prepare a table of amortization following the effective interest method and d. How much should be recognized in profit or loss in 2010 as a result of the fair
prepare the indicated entries for 2007 value changes?
e. How much is the carrying amount of the shopping mall on December 31, 2010 if
8. On April 1, 2007 Agila Company purchased Jay Company bonds, face P 2,000,000 for P Alaminos used the cost model?
2,200,000. Bonds pay interest of 12% semiannually on April 1 and October 1 and they
mature on April 1, 2011. The bonds are quoted at 115 on December 31, 2007 and 97 on 12. Dagupan, Inc. owns a building purchased on January 1, 2006 for P 100 million. The building
December 31, 2008 was used as the company’s head office. The building has an estimated useful life of 25
years. In 2010, the company transferred its head office and decided to lease out the old
Required: Give entries on the books of Agila Company for the years 2007 and 2008 building. Tenants began occupying the old building by the end of 2010. On December 31,
assuming: the bonds are held as trading securities; the bonds are held to maturity. 2010, the company reclassified the building as investment property to be carried at fair
Assume the straight line method of amortization is used

Auditing Problems 3
UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

value. The fair value on the date of reclassification was P 85 million. How much should be b. How much should be recognized on Vigan’s December 31, 2010 statement of
recognized in the 2010 profit or loss as a result of the transfer from owner-occupied to financial position in relation to the interest rate swap?
investment property? c. How much is the net interest expense in 2011?
d. If the interest rate on January 1, 2011 is 9%, how much should be recognized on
13. The following information is available concerning the San Carlos Corporation’s sinking Vigan’s December 31, 2010 statement of financial position in related to interest
fund transactions in 2010. rate swap

Jan. 1 Established a sinking fund to retire an outstanding bond issue by contributing P 16. On January 1, 2010, Cauayan Corporation purchased a five-year bonds that has a principal
4,250,000 amount of P 1,000,000 and pays annually fixed interest rate of 12% per year. Cauayan
Jan. 15 Purchases securities for P 4,000,000 Corporation classified the bond as available-for-sale. Current market interest rates for
Jul. 30 Sold securities originally costing P 480,000 for P 450,000 similar five-year bonds are also 12% Because the interest rate is fixed, Cauayan
Dec. 31 Collected dividends and interest on the remaining securities in the amount of P Corporation is exposed to the risk of declines in fair value due to increases in market
490,000; the securities had a market value of P 3,600,000 at this time. interest rates, Cauayan Corporation enters into an interest rate swap on January 1, 2010
to exchange the fixed interest payments it receives on the bond for floating interest rate
The sinking fund balance on December 31, 2010 is? payments. Cauayan Corporation designated and documented the swap as hedging
instrument of the bond. On December 31, 2010, market interest rates have increased to
14. On January 1, 2010, San Fernando Corporation created a special building fund by 14%
depositing a single sum of P 200,000 with an independent trustee. The purpose of the
fund is to provide resources to build an addition to the older office building during the Based on the above and the result of your audit, answer the following:
latter part of 2014. The company anticipates a total construction cost of P 1,000,000 and a. The carrying amount of the investment in bonds on December 31, 2010 is?
completion by January 1, 2015. The company plans to make equal annual deposit from b. The amount to be recognized in 2010 profit or loss due to the challenge in the
December 31, 2010 through 2014, to accumulate the P 1,000,000. The independent fair value of the investment is?
trustee will increase the fund each December 31 at an interest rate of 10%. The c. The amount to be recognized as derivative asset on December 31, 2010 is?
accounting periods of the company and the fund end on December 31. How much is the d. The net amount to be recognized in 2010 profit/loss related to the investing and
annual deposit to the fund? hedging activities

15. On January 2, 2010, Vigan Company received a 2-year, P 33,000,000 loan, with interest 17. Malolos Agriculture sells approximately 100,000 bushels of corn month. On January 1,
payments occurring at the end of each year and the principal to be repaid on December 2010, Malolos purchased an option to sell 100,000 bushels of corn on January 1, 2011, at
31, 2011. The interest rate for the first year is the prevailing market rate of 8%, and the a price of P 100 per bushel. The market price on January 1, 2010 is P 100 per bushel,
rate in 2011 will be equal to the market interest rate on January 1. In conjuction with this Malolos had to pay P 200,000 to purchase this corn put option, which it designated as a
loan, VIgan enters into an interest rate swap agreement to receive a swap payment heavy agains price decreases for its January 2011 sale of corn.
(based on P 33,000,000) if the January 1, 2011, interest rate is greater than 8% and will
make a swap payment if the rate is less than 8%. The interest rate swap payment will be Based on the above and the result of your audit, answer the following:
made on December 31, 2011. On January 1, 2011, the interest rate is 7%. Assume that all a. If the price of the corn on January 1, 2011 is P 105 per bushel, Malolos shall
conditions for hedge accounting are met. recognize a gain or loss on put option in 2011 at?
b. If the price of the corn on January 1, 2011 is P 90 per bushel. Malolos shall
Based on the above and the result of your audit, answer the following: recognize a gain or loss on put operation in 2011 at?
a. What is the net amount that Vigan will pay or receive as a result of the interest
rate swap?

Auditing Problems 4
UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

AUDIT OF INVESTMENTS POST-TEST

The following two subsidiary accounts reflect the Trading Securities of Angola Corporation for the San Felipe purchased several marketable securities during 2010. At December 31, 2010, the
year 2010 company had the investments in equity securities listed below. None was held at the last reporting
date, and all securities are considered as available-for-sale.
Noel Company No. of shares Cost Market Value per
Date Transactions Shares Ref. Debit Credit Share
2/22 Purchase 2,000 CO 190,000 San Miguel “A” 2,000 150,000 58.50
2/28 Raised to market value; offset Seniority Bank 2,000 110,000 49.25
credit to retained earnings GJ 10,000 Multivit 5,000 54,600 9.10
3/15 Sale at P 150 1,000 CR 150,000
6/30 Stock dividend at par 1,000 GJ 100,000 Your physical count of stock certificates disclosed that stock dividend of the following issues
7/15 Sale at P 110 1,000 CR 100,000 were not yet recorded.
Issue No. of Shares
Ilan Corporation Seniority Bank 500
Date Transactions Shares Ref. Debit Credit Multivit 200
9/5 Purchase 20,000 CD 1,000,000
9/28 Cash dividend to stock of record 6. How much is the carrying amount of the available-for-sale securities as of December 31,
September 15, declared August 15 CR 50,000 2010?
10/1 Sale at P 65 20,000 CR 7. How much is the unrealized gain/loss on the available-for-sale securities for the year
10/5 Purchase 50,000 CD 2,500,000 ended December 31, 2010?
11/30 Cash collected for sale made on
November 10 after a November 1 8. When negotiable securities are of considerable volume, planning by the auditor is
declaration of P 5 cash dividend per necessary to guard against
share to shareholders of record as of a. Substitution of securities already counted for other securities which should be on
December 1 20,000 CR 3,300,000 hand but are not
12/15 Cash dividend received CR 150,000 b. Substitution of authentic securities with counterfeit securities
c. Unauthorized negotiation of the securities before they are counted
The above trading securities had the following fair values at December 31, 2010: d. Unrecorded sales of securities after they are counted
Noel Company P 50 per share
Ilan Corporation 30 per share 9. An audit procedure that provides evidence about proper valuation of trading securities
arising from a short-term investment of excess cash is
1. What is the gain on sale of Noel Company shares on March 15, 2010? a. Recalculation of investment carrying value by applying the equity method
2. What is the gain on sale of Noel Company shares on July 15, 2010? b. Comparison of carrying value with current market quotations
3. What is the gain on sale of Ilan Corporation shares on October 1, 2010? c. Confirmation of securities held by broker
4. What is the gain on sale of Ilan Corporation shares on November 10, 2010? d. Calculation of premium or discount amortization
5. At what amount should Angola report its investment in trading securities on its
statement of financial position at December 31, 2010?

Auditing Problems 5
UNIVERSITY OF MINDANAO COLLEGE OF ACCOUNTING EDUCATION

10. In testing the reasonableness of interest income, an auditor could most effectively use 13. What is the total interest income on bonds that should be reported in WASHINGTON
analytical tests involving income statement for the year ended December 31, 2013?
a. Documentary support of specific entries in the account 14. What is the unrealized gain (loss) on trading securities that should be reported in
b. The beginning balance in the investments account for fixed income securities WASHINGTON income statement for the year ended December 31, 2013?
c. The average monthly balance in the investments account for fixed income 15. What is the accrued interest receivable on bonds that should be reported in
securities WASHINGTON statement of financial position at December 31, 2013?
d. The ending balance in the investments accounts for fixed income securities
The following transactions of the ATLANTA Company were completed during the year 2010:
The statement of financial position of WASHINGTON on December 31, 2012 reports Trading
Securities at fair value of P 670,770. Supporting records of the company show the following Jan. 2 Purchased 20,000 shares of BROOKLYN Co. for P 40 per share plus brokerage costs of
debt and equity securities: P 4,500. These shares were classified as held for trading
Security Cost Fair Value Feb 1 Purchased 20,000 shares of MEMPHIS Co. ordinary shares at P 125 per share plus
600 Condura Co. ordinary shares P 76,350 P 72,900 brokerage fees of P 19,000. ATLANTA classifies these shares as available for sale
P 240,000 Sinker Co. 7% bonds 238,950 232,200
Apr 1 Purchased P 2,000,000 of FD Treasury 7% bonds, paying 102.5 plus accrued interest
P 360,000 Floater Co. 7.5% bonds 362,250 365,670 of P 35,000. In addition, the company paid brokerage fees of P 18,000. ATLANA
Total P 677,550 P670,770 classified these bonds as held for trading
Jul 1 Received semi-annual interest on the FD Treasury Bonds
Interest on bonds is paid semiannually on January 1 and July 1. WASHINGTON uses the income
Aug 1 Sold P 500,000 of FD Treasury 7% bonds at 103 plus accrued interest
approach to record the acquisition of bonds with accrued interest. The following transactions Oct 1 Sold 3,000 shares of MEMPHIS at its fair value of P 132 per share
occurred during 2013:
The market values of the shares and bonds on December 31, 2010, are as follows:
January 1 Received semiannual interest on bonds BROOKLYN Co. P 45 per share
April 1 Sold P 180,000 of the Floater Co. bonds at 102 plus accrued interest. MEMPHIS Co. 130 per share
Brokerage fees were P 600
FD Treasury 7% Bonds 102
May 21 Received dividend of P 0.25 per share on the Condura ordinary share
July 1 Received semiannual interest on bonds. Sold the Sinker Co. bonds at 97 ½ Based on the above and the result of your audit, answer the following:
Brokerage fees were P 750 16. Gain or loss on sale of P 500,000 FD Treasury Bonds on August 1, 2010
August 15 Purchased 300 Bobber Co. ordinary shares at P 116 plus brokerage fees of P 17. Gain or loss on sale of 3,000 MEMPHIS shares on October 1, 2010
150 18. Gain or loss arising from change in the fair value of securities to be recognized in 2010
November 1 Purchased P 150,000 of 8% Leader Co. bonds at 101 plus accrued interest. profit or loss
Brokerage fees were P 375. Interest dates are January 1 and July 1 19. NRV of Trading Securities and Available for Sale Securities
December 31 FMV of securities: Condura, P 110; Floater bonds 101¾, Leader bonds, 101; 20. Net unrealized gain in accumulated other comprehensive income in equity as of
Bobber P 116.75
December 31, 2010
Based on the above and the result of your audit, answer the following:
11. What is the gain on the sale of P 180,000 Floater Co. bonds on April 1
12. What is the gain (loss) on the sale of Sinker Co. bonds on July 1, 2013?

Auditing Problems 6