Fixed Asset Controls and Reporting:

Who’s Paying Attention To Your Largest Assets?

S P R I N G 2 0 19

Often an element of fraud and Fixed assets represent the long-term tangible assets an
organization utilizes to produce and deliver its products or
financial misstatement, fixed assets services and manage its operations. In many capital-intensive
get no respect. Although they’re industries, fixed assets represent the largest item on the balance
sheet. However, fixed assets have historically received little
considered low risk by auditors, fixed audit scrutiny. As a result, some major financial frauds have been
assets need attention. Are the internal perpetrated through significant misstatements of fixed asset
balances in the financial statements of public companies.
controls really effective over this
perceived low-risk area? Best The typical audit approach
Fixed assets are probably one of the simplest and most repetitive
practices enhance proper accounting, areas of accounting. Prior to the passage of the Sarbanes-Oxley
valuations and financial reporting. Act (SOX), auditors viewed fixed assets as having the
appropriate internal controls and, therefore, deemed them a
low-risk area. Audits of fixed assets were allocated little time,
Are you confident your fixed assets are accurately represented in
and were usually assigned to an entry-level staff auditor. Fixed
your organization’s year-end financial statements? In many
asset audit procedures were limited to:
cases, your answer will be “Yes.” However, audits may yield a
different answer. While many organizations never perform an • Reviewing a rollforward analysis for the cost and
inventory of current fixed assets and corresponding depreciation account balances
reconciliation, these tasks provide an essential internal control
for the financial reporting of fixed assets. • Vouching of current-year purchases

The historical cost of property, plant, and equipment and the • Reasonableness testing of current-year depreciation
related accumulated depreciation are reported in the financial expense calculations
statements. However, historical audit procedures focused on
• Performing very limited reconciliation procedures
the current-year acquisition of fixed assets and the reporting of
the net book value of the aggregate investment in fixed assets. Back then, this approach was well understood by the external
These procedures fail to address that most organizations have audit profession, their clients’ accounting managers, corporate
very poor controls over the disposal of fixed assets. Although controllers and chief financial officers.
this approach may result in a fair representation of the net book
value of property, plant and equipment (PP&E), it has generally What changed? The credibility of the financial reporting of

led to the overstatement of both the historical cost of PP&E and publicly owned companies was significantly damaged by

the related accumulated depreciation. corporate scandals, beginning when a number of major
 Fixed Asset Controls and Reporting: Who’s Paying Attention To Your Largest Assets?

corporations collapsed in late 2001 and early 2002. Investor • Assignment of unreasonable lives for depreciation
confidence was severely eroded, and Congress enacted SOX. calculations

Central to SOX is the increased testing of internal controls. • Infrequent or no periodic physical inventory/reconciliation
Another noteworthy requirement is that publicly owned
Not as low risk as you think
companies maintain an internal audit function. The increased
The fixed asset accounting records of an organization have
testing of internal controls, coupled with the required role of
far-reaching effects. As noted earlier, depending on the type of
internal auditors, has led to increased scrutiny of fixed assets.
institution, fixed assets can represent the largest item on the
Controls over fixed assets balance sheet. Therefore, deficient fixed asset records can lead
Fixed asset transactions typically represent the acquisition and to inaccurate financial reporting…and inaccurate financial
disposal of assets and the allocation of related costs to reporting reporting can lead to a qualified audit opinion, which can
periods through depreciation expense. Internal controls over the damage management’s credibility with shareholders, lenders and
acquisition of fixed assets are straightforward, easy to test and suppliers.
include the following:
Depending on the city and state in which it resides, a company
• Issuance and approval of a purchase order can be subject to personal property tax. Tax assessments are
typically based on the fixed asset accounting records, with rates
• Receipt of assets and preparation of a receiving report
applied to the assessed value. Unfortunately, it is not uncommon

• Receipt of the vendor invoice for organizations to be overpaying taxes by 10% to 20%,
because of assets that no longer exist but are still on the books.
• Reconciliation of the vendor invoice to the related receiving
report and purchase order Similarly, fixed asset accounting records are used to determine
the replacement cost of personal property for insurance
• Authorization of the payment of the vendor invoice placement purposes. When it comes to insurable values,
accuracy is critical—especially if a loss has occurred.
• Issuance of a check for payment of the vendor invoice
Organizations routinely use the net book value of existing fixed
• Posting the entry in the equipment subledger
asset accounting records to assist in negotiations when
• Posting the equipment subledger activity to the related acquiring entities. The net book value of the fixed assets may
general ledger control accounts serve as a proxy for their fair value. Therefore, it is critical for the
acquiring entity to employ the appropriate due diligence to make
• Reconciliation of the general ledger control accounts to the sure it is getting the assets it is paying for.
equipment subledger
Auditors still believe fixed assets to be low risk. In view of the
However, in a number of other fixed asset transactions, internal high-profile fraud cases, the personal property tax and insurance
controls are not typically addressed. These include the following: implications, and the impact on purchase price allocations, this
is a bit surprising.
• Inadequate asset descriptions including missing
manufacturer, model and serial number information While organizations should not be alarmed, they should
understand the implications of not maintaining accurate fixed
• Bulk purchases of equipment
asset accounting records. The ability to maintain accurate
• Little or no use of property identification tags records can be very challenging for organizations, especially
those that are large, capital intensive and decentralized. Two
• Inconsistent application of the capitalization threshold solutions are available: diagnostic consulting, and fixed asset
inventory and reconciliation.
• Construction-in-progress projects not properly segregated
into building and equipment accounts How effective are your controls?
Typically, organizations maintain written policies and procedures
• Poor documentation of asset movement including disposal
for purchasing capital assets – but are these policies effective,
activity and transfers
and does the organization adhere to them? In many cases, the

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 Fixed Asset Controls and Reporting: Who’s Paying Attention To Your Largest Assets?

same procedures have been in place for years, without updates

to reflect changes in the business, regulations and economy.
What are best practices?
Sometimes, procedures are updated but not practiced
effectively.
Conduct an inventory at least once every five years,
Regardless of the type of business, it is important to have selecting an independent firm with:
effective policies and to review them periodically to ensure their
• Specific industry and qualifications and experience
continued effectiveness and practicality. Equally important is
following policy. Organizations with concerns in this area can • Physical inventory and reconciliation expertise,
engage an external consultant to assess and recommend including performing a detailed line by line
improvements. reconciliation of the physical inventory to the fixed
asset accounting records
These engagements typically begin with a thorough analysis of
existing policies and procedures as well as interviewing staff Affix property tags to all untagged assets.
members responsible for asset life cycles (acquisition to
disposition). Recommendations are made to senior management Consistently apply the capitalization threshold while
regarding identified weaknesses, and implicated policies and conducting the inventory.
procedures can be modified or rewritten. The result will be a
Record all descriptive and locational information
best-practice approach to asset management.
possible.
Button, button, who’s got the button?
Complete the inventory as quickly as possible to
Even when an organization has good procedures in place,
minimize asset movement.
equipment tends to be moved, transferred and disposed of
without proper documentation. Therefore, it is important to
conduct a periodic fixed asset inventory, followed by reconciling
the inventory to the fixed asset accounting records.

Many organizations attempt to perform this in-house, which

poses challenges. Lack of experience, poor descriptions on the
The reconciliation process
If the right steps are followed, a comprehensive inventory can be
fixed asset accounting records and allocating the appropriate
completed simply and painlessly.
amount of time are just a few of the challenges.

Reconciliation can be an entirely different experience, but

In addition, in-house inventories are usually conducted by the
various approaches can help organizations simplify this process.
custodians of the equipment, who may be hesitant to report
Briefly, the reconciliation process will identify the following:
unrecorded retirements. For instance, who wants to report that
their respective area is part of the reason for a personal property • Matched assets – items found during the inventory process
tax overstatement? Independence and objectivity are casualties and traced to the fixed asset accounting records
of an in-house inventory and reconciliation. Lack of objectivity is
the most significant concern expressed by management • Unrecorded additions – items found during the inventory
regarding employees performing the physical inventory. process but not found in the fixed asset accounting records

Therefore, you should select an independent firm that has both • Unrecorded retirements – items found in the fixed asset
specific industry and physical inventory and reconciliation accounting records but not found during the inventory
qualifications and experience. Firm staff should understand the process
organization of institutions, be familiar with all types fixed assets,
The approaches to reconciliation can be broken into three
and understand the protocol for operating in unique environments
categories: tag number match, hybrid reconciliation and
and interacting with professionals and staff.
comprehensive line-by-line reconciliation. Depending on the
approach, the number of assets and the associated historical
cost of the matches, retirements and additions will vary
significantly.

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 Fixed Asset Controls and Reporting: Who’s Paying Attention To Your Largest Assets?

Tag number Simple transaction codes are:

By definition, the tag number match is the comparison of existing
• “A” – Unrecorded addition
tag numbers to those found in the fixed asset accounts. The tag
number is the primary mechanism for identifying a fixed asset. In • “M” – Matched asset
many cases, this can result in a 50% or less match rate, and the • “R” – Unrecorded retirement
auditors will have difficulty accepting the credibility of the
Each line item on the fixed asset accounting record will receive a
inventory process because of the large variances.
transaction code to link it to the reconciled inventory file.
Hybrid
Independence and objectivity are critical in any audit, so it may
The hybrid reconciliation takes the tag number approach a step
be desirable to hire a consultant to assist with this process. You
further. Going beyond the tag number match, additional effort is
should only consider firms that have:
made to address matches by description, manufacturer, model
and serial number that appear in the rest of the record. If the • Specific industry qualifications and experience
quality of the fixed asset accounting records is very good, this
• Extensive experience working with the Big Four and other
approach may yield acceptable results. However, many
public accounting firms
organizations’ fixed asset accounting records are of poor quality,
and this approach may not yield completely acceptable results. • The latest technology, including accounting software that is
audited annually, so that proper depreciation calculations
Line by line are made
The comprehensive line-by-line reconciliation is considered a • The ability to perform comprehensive line by line
best-practice approach. This approach goes beyond hybrid reconciliation of the physical inventory to the accounting
reconciliation to address each asset until it is verified as a match, records that will withstand audit scrutiny
retirement or addition. It involves the following steps:
In addition, the firm should be able to provide appropriate
• Tag number matches are addressed first. references.
• Manufacturers and models are compared.
Conclusion
• Additional description, location and department numbers
Fixed asset inventory and reconciliation procedures can help an
are considered.
organization withstand today’s increased level of fixed asset
• Fiscal year additions are analyzed against estimated scrutiny. For many organizations, fixed assets represent the largest
acquisition dates from the inventory. item on the balance sheet. To ensure proper valuation of these
• Bulk purchase entries and grouped purchases are allocated assets and accurate financial reporting, organizations need to
to the individual assets (computer equipment, furniture, confirm the proper handling of these transactions. Internal
manufacturing equipment, etc.). auditors can add value by ensuring their management gives an
• Follow-up visits with departments are conducted to verify appropriate amount of attention to this area.
any residual assets.
C O N TAC T
Regardless of approach, a consistent audit trail should be used
Mark Bobber
to link the reconciled inventory file with the existing fixed asset
Managing Director
accounting records. It is important to assign a transaction code
+1 414 225 1288
in order to establish an audit trail on each item. The transaction
[email protected]
code identifies the actual disposition of each asset.

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