Handling Unpurchased Assts in an Audit

Auditing purchased assets is relatively easy, because you can test most management assertions by looking at the purchase source documents. But what about assets that aren’t purchased? Here are three examples of nonpurchased assets and explanations of how your client should add them to the balance sheet:



  • Self-constructed assets: These are assets that the company doesn’t buy from a vendor but makes itself in-house. For example, maybe a candy manufacturer decides to make its own candy-wrapping machine rather than buy one from an outside vendor.


    What should your client add to its balance sheet for this asset? It adds the direct materials and labor to build the candy-wrapping machine, plus any associated indirect manufacturing overhead costs (utilities, supplies, and insurance). Additionally, GAAP dictates that interest expense associated with the asset’s construction is added to the asset’s cost on the balance sheet and not deducted as an expense on the income statement.


    Figuring out the cost of labor and materials is easy because you can trace the balance sheet asset costs directly to the work and material orders for the self-constructed asset. Indirect and interest costs are a bit trickier. Get guidance from your audit team leader on how you should test these costs.


    A self-constructed asset shouldn’t be recorded at an amount that exceeds what the asset would cost if it were purchased from an outside vendor.



  • Donated assets: If your client receives an asset and gives up nothing in the exchange, the asset is donated. For example, your client may receive a gift or a grant. The client should record the asset’s fair market value as its cost.


    Determining fair market value of a noncash donated asset is done by figuring out how much the asset would have cost on the date of donation if it were purchased from an outside vendor. A possible way to figure out cost is to do an Internet search checking for the purchase price of similar assets. The fair market value of a cash gift or grant is the amount of cash received.



  • Nonmonetary exchanges: If your client trades in an asset during the purchase of another asset, it’s a nonmonetary exchange. You’ve done this type of exchange yourself if you’ve traded in an old car during the purchase of a new one. The transaction doesn’t have any effect beyond lowering the amount you have to pay for the new car. However, your audit client has to figure up nonmonetary exchanges for business assets because the transaction can affect both the balance sheet and income statement.


    For example, suppose a company trades in a forklift it uses to move inventory around the floor of one of its shops for a trailer and hitch to move inventory among different shop locations. The forklift cost $5,000, and its accumulated depreciation is $2,000, so its book value is $3,000. The forklift’s fair market value (FMV) is $2,500.


    The book value of the trailer and hitch is $2,500. This sale has a loss of $500 — the difference between the book value of the old asset ($3,000) and its FMV of $2,500.


    Your auditing task is to verify that the FMV the company assigns to the forklift is reasonable and to make sure the forklift is completely removed from the balance sheet. This step is done by zeroing out the accumulated depreciation and the forklift asset accounts.






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Source:http://www.dummies.com/how-to/content/handling-unpurchased-assts-in-an-audit.html

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