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Table of Contents
Title I: Auditing and Professional Regulation
Accountancy Law ..................................................................................................... 1
Fields in the Profession ............................................................................................ 1
The Professional Regulatory Board of Accountancy ............................................................ 1
The Board Licensure Examination for Certified Public Accountants ......................................... 2
Regulatory Documents.............................................................................................. 2
Practice of Accountancy ........................................................................................... 3
Penal and Final Provisions ......................................................................................... 3
Continuing Professional Development ............................................................................ 3
Organization Affecting the Profession ........................................................................... 4
Assurance Engagements and Other Services..................................................................... 5
Objective of Assurance Engagements ............................................................................ 5
Typical Engagements ............................................................................................... 5
Related and Other Services ........................................................................................ 6
Assurance Reports ................................................................................................... 8
Changes in Nature of Engagement ................................................................................ 8
Code of Ethics for Professional Accountants .................................................................... 9
Structure of the Code: ............................................................................................. 9
Part 1 – General Principles Applied to All Accounting Professionals ......................................... 9
Part 2: PAIB – Accountants in Commerce and Industry, and Government .................................. 10
Part 3: PAPP – Accountants Engaged in Public Practice ...................................................... 11
Part 4a – Code of Ethics for Audit Engagements ............................................................... 11
Other Matters related to Public Practice ....................................................................... 12
Part 4b Code of Ethics for Other Related Services ............................................................ 12
On Long Association................................................................................................ 13
On Financial Interest .............................................................................................. 13
Auditing and its Professional Standards ........................................................................ 14
Types of Audits ..................................................................................................... 14
Types of Auditors................................................................................................... 14
The Financial Statement Audit ................................................................................... 14
General Principles ................................................................................................. 14
Necessity of an Independent Financial Statement Audit ..................................................... 15
Theoretical Framework of Auditing ............................................................................. 15
The Audit Process .................................................................................................. 15
Professional Standards and Quality Control .................................................................... 16
System of Quality Control ......................................................................................... 16
Auditor’s Responsibility ........................................................................................... 17
Management Assertions ........................................................................................... 18
Discontinuance of Engagement................................................................................... 18
Communication with Those Charged with Governance ....................................................... 18
Reporting Non-compliance ........................................................................................ 18
Pre-engagement Procedures and Audit Planning ............................................................. 19
Preconditions for Accepting Clients or Continuing Engagements............................................ 19
Other Considerations .............................................................................................. 20
Audit Planning ...................................................................................................... 20
Nature and Extent of Planning ................................................................................... 20
Obtaining a Preliminary Understanding of the Entity ......................................................... 21
Audit Strategy and Audit Plan .................................................................................... 21
Major Audit Planning Activities .................................................................................. 21
Considerations for First-time Audits/Initial Engagements.................................................... 21
Risk Assessment Procedures ...................................................................................... 22
Assessment of Audit Risk and Materiality ....................................................................... 22
Risk Responses to Materiality ..................................................................................... 22
Consideration of Internal Control ................................................................................ 23
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Limitations of Internal Control ................................................................................... 23

Components of Control ............................................................................................ 23
Principles of Internal Control ..................................................................................... 24
Internal Control Objectives ....................................................................................... 24
Obtaining an Understanding of Internal Control ............................................................... 25
Tests of Control .................................................................................................... 25
Other Considerations .............................................................................................. 25
Operating Effectiveness vs Implementation .................................................................... 25
Responses to Assessed Risk from Initial Understandings and Tests of Control ............................ 25
Communications on Internal Control with Those Charged with Governance .............................. 26
Corporate Governance and Risk Management ................................................................. 27
Corporate Risk Management ...................................................................................... 27
Risk Governance .................................................................................................... 27
SOX Notable Provisions ............................................................................................ 28
Risk Management Considerations and Tools .................................................................... 28
Other Concerns ..................................................................................................... 28
Transaction Cycles .................................................................................................. 29
Key Concepts ....................................................................................................... 29
Record to Report Process/Close, Consolidate, and Report Process ......................................... 29
Revenue and Receipt Cycle or Order to Receipt Process ..................................................... 30
Expenditure and Disbursement Cycle or Procure to Pay Process ............................................ 32
Human Resources and Payroll Cycle or Hire to Exit Process ................................................. 33
Production or Conversion Cycle or Plan to Deliver Process .................................................. 34
Financing and Investing Cycles or Acquire to Retire .......................................................... 35
Appendix: List of Common Internal Controls ................................................................... 36
Auditing in CIS Environments ..................................................................................... 44
Characteristics of CIS Environments ............................................................................. 44
Roles and Duties in CIS Environments ........................................................................... 45
Internal Control in CIS Environments ............................................................................ 46
Business Continuity Management ................................................................................ 46
Systems Analysis and Design ...................................................................................... 47
IS in Business Operations .......................................................................................... 47
Information Security Management ............................................................................... 50
Auditing Around the Computer ................................................................................... 53
Computer-Assisted Auditing Techniques (Auditing Through the Computer) ............................... 53
Evidence Gathering, Documentation, and Sampling ......................................................... 56
Substantive Testing ................................................................................................ 56
Typical Audit Procedures per PSA 501 .......................................................................... 57
Other Parties ....................................................................................................... 58
Documentation ..................................................................................................... 58
Audit Sampling ..................................................................................................... 59
Attribute Sampling ................................................................................................. 60
Sample Selection Methods for Tests of Control ................................................................ 60
Responses to Attribute Sampling Procedures .................................................................. 60
Variable Sampling .................................................................................................. 61
Sampling Techniques for Substantive Tests .................................................................... 61
Responses to Variable Sampling .................................................................................. 61
Appendix: Summary Audit Procedures .......................................................................... 62
Reliance on Other Experts and Professionals.................................................................. 65
The Predecessor Auditor .......................................................................................... 65
Service Organization Auditor ..................................................................................... 65
Internal Auditors ................................................................................................... 66
Auditor’s Hired Expert............................................................................................. 66
Component Auditors ............................................................................................... 66
Completing the Audit & Post-Audit Responsibilities ......................................................... 67
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Written Management Representation ........................................................................... 67

Wrap-up Procedures ............................................................................................... 68
Omitted Procedures ............................................................................................... 68
Post-Audit Responsibilities ........................................................................................ 68
Audit Reporting and Other Matters .............................................................................. 69
The Unmodified Auditor’s Report ................................................................................ 69
Modifications to the Opinion Section ............................................................................ 70
Basis for Modified Opinions ....................................................................................... 70
Auditor’s Responsibility ........................................................................................... 70
Key Audit Matters .................................................................................................. 71
Emphasis of Matter Paragraphs .................................................................................. 71
Other Matters Paragraphs ......................................................................................... 71
Other Information Accompanying the Audited FS ............................................................. 72
Audit of Group Financial Statements ............................................................................ 72
Reports on Special Purpose Financial Statements ............................................................. 72
Title II: Financial Accounting and Reporting
Accounting ........................................................................................................... 73
The Accounting Process ........................................................................................... 73
Single Entry vs Double Entry Bookkeeping ...................................................................... 73
Accounts ............................................................................................................. 73
The Standards (IFRS and GAAP) .................................................................................. 74
The Standard Setting Bodies ...................................................................................... 74
The Standard Setting Process .................................................................................... 74
Revised Conceptual Framework ................................................................................. 74
Purpose of the Conceptual Framework ......................................................................... 74
Authoritative Status of the Framework ......................................................................... 75
Underlying Assumptions and Elements of Financial Statements ............................................. 75
Objectives of Financial Reporting ............................................................................... 75
Limitations of Financial Reporting ............................................................................... 75
Characteristics of Financial Statements ........................................................................ 75
Recognition, Derecognition, Measurement, Presentation & Disclosure .................................... 76
Value Measurement (Revised Conceptual Framework) ....................................................... 77
Financial Capital and Physical Capital .......................................................................... 78
Capital Maintenance Approach in Determining Net Income .................................................. 78
Cash & Cash Equivalents–PAS 1, PFRS 7, PFRS 9 .............................................................. 79
Other Issues on Cash ............................................................................................... 80
Imprest Cash Control System ..................................................................................... 80
Petty Cash Balance ................................................................................................ 81
Bank Reconciliation ................................................................................................ 81
Proof of Cash ....................................................................................................... 82
On Error Correction ................................................................................................ 82
Special Audit Considerations for Cash ........................................................................... 83
Disclosures on Cash and Cash Equivalents ...................................................................... 84
Substantive Tests for Cash and Cash Equivalents .............................................................. 84
Trade & Other Receivables–PFRS 15, PAS 18, PFRS 9........................................................ 85
Trade Receivables.................................................................................................. 85
Non-Trade Receivables ............................................................................................ 85
Special Sales Considerations ...................................................................................... 85
Accounts Receivable and Doubtful Accounts ................................................................... 86
The Cut-off Test of Accounts Receivable ....................................................................... 86
Notes Receivable ................................................................................................... 87
Receivable Impairment ............................................................................................ 88
Receivable Financing .............................................................................................. 88
Loans Receivable ................................................................................................... 89
Derecognition of Receivables ..................................................................................... 90
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Presentation ........................................................................................................ 90
Disclosures on Receivables ........................................................................................ 90
Substantive Tests for Receivables ............................................................................... 90
Inventories–PAS 2 ................................................................................................... 91
Inventory Cut-off ................................................................................................... 92
Freight Terms ....................................................................................................... 92
Inventory Estimation............................................................................................... 93
Purchase Commitments ........................................................................................... 93
Disclosures on Inventories ........................................................................................ 94
Substantive Tests of Inventories ................................................................................. 94
Agriculture–PAS 41 ................................................................................................. 95
Applicability of PAS 41 – Agriculture ............................................................................ 95
Measurement ....................................................................................................... 95
Gains and Losses ................................................................................................... 96
Inventory vs Biological Assets vs Non-current Held for Sale vs PPE ......................................... 96
Property, Plant, and Equipment–PAS 16, PFRS 13 ............................................................ 97
Initial Measurement ................................................................................................ 97
Machinery and Equipment ........................................................................................ 97
Land .................................................................................................................. 97
Building – Old Building ............................................................................................. 98
Building – Constructed Asset ...................................................................................... 98
Common Costs of Land and Building, acquired in a Basket Price ........................................... 98
Other Concerns ..................................................................................................... 98
Modes of Acquisition ............................................................................................... 98
Government Grants PAS 20 ..................................................................................... 100
Borrowing Cost PAS 23 ........................................................................................... 100
Subsequent Expenditures ....................................................................................... 102
Derecognition ..................................................................................................... 102
Depreciation Policies ............................................................................................ 102
Note on Impairment Loss on Property, Plant, and Equipment ............................................. 103
Wasting Assets–PFRS 6 ............................................................................................ 104
Exploration and Evaluation Assets ............................................................................. 104
Depletion .......................................................................................................... 104
Special Depreciation Policies on PPE Expenditures for Wasting Assets ................................... 105
Wasting Asset Doctrine .......................................................................................... 105
Inventory of Wasting Asset Corporations ..................................................................... 105
Impairment Test on Wasting Assets ........................................................................... 105
Overall Effect to Profit or Loss ................................................................................. 105
Investment Property–PAS 40 ..................................................................................... 106
Initial Measurement .............................................................................................. 106
Subsequent Measurement ....................................................................................... 106
Reclassification ................................................................................................... 106
Change of Use .................................................................................................... 106
Substantive Tests for Property, Plant, and Equipment ..................................................... 107
Intangibles & Goodwill–PAS 38, PFRS 3 ........................................................................ 108
Non-capitalizable Intangibles .................................................................................. 108
Presentation of Intangibles ..................................................................................... 108
Research and Development Cost ............................................................................... 108
Common Intangibles ............................................................................................. 109
Computer Software .............................................................................................. 110
Website Cost ...................................................................................................... 110
Goodwill ........................................................................................................... 110
Amortization ...................................................................................................... 111
Substantive Tests for Intangibles and Other Assets ......................................................... 111
Revaluation & Impairment–PAS 16, PAS 36 ................................................................... 112
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Impairment PAS 36 ............................................................................................... 112

Impairment Recovery ............................................................................................ 113
Cash-generating Units - CGUs .................................................................................. 113
Non-Current Assets Held for Sale–PFRS 5 ..................................................................... 114
Non-current Asset held for Sale ................................................................................ 114
Discontinued Operations and Disposal Groups ............................................................... 114
General Procedural Computation .............................................................................. 114
Financial Instruments–PFRS 9, PAS 32, PAS 39 ............................................................... 115
Profit or Loss and Other Comprehensive Income ............................................................ 116
Derecognition of Financial Assets .............................................................................. 116
Trade and Settlement Date Accounting ....................................................................... 116
Investment in Equity Securities–PFRS 9, PAS 32 ............................................................. 117
Share Capital Investments ...................................................................................... 117
Gains and Losses ................................................................................................. 117
Dividends out of Earnings ....................................................................................... 118
Other Transactions ............................................................................................... 118
Summary of Transactions ....................................................................................... 119
Investments in Associates PAS 27, PAS 28 .................................................................... 119
Step-Acquisition PFRS 3 ......................................................................................... 120
Equity Method .................................................................................................... 120
Discontinuance of the Equity Method ......................................................................... 120
Impairment and Investee with Heavy Losses ................................................................. 121
Intercompany Transactions ..................................................................................... 121
Investment in Debt Securities–PFRS 9 ......................................................................... 122
Presentation - FAAC ............................................................................................. 123
Presentation – FVOCI ............................................................................................ 124
Presentation – FVPL .............................................................................................. 124
Derecognition ..................................................................................................... 124
Reclassification ................................................................................................... 124
Impairment for Credit Losses in PFRS 9 ....................................................................... 125
Three-Bucket Approach on Impairment Assessment ........................................................ 125
Investments in Derivatives and Other Funds –PFRS 9 ....................................................... 127
Hedge Accounting ................................................................................................ 127
Interest Rate Swaps .............................................................................................. 127
Forwards and Futures............................................................................................ 128
Options ............................................................................................................ 128
Funds & Other Investments–PFRS 9 ............................................................................ 129
Substantive Tests for Investments ............................................................................. 130
Liabilities–PFRS 9, PAS 37 ........................................................................................ 131
Accounts Payable ................................................................................................ 131
Estimated Liabilities ............................................................................................. 131
Provisions & Contingent Liabilities PAS 37 ................................................................... 132
Financial Liabilities at FVPL .................................................................................... 133
Financial Liabilities at Amortized Cost ........................................................................ 133
Compound Financial Instruments .............................................................................. 134
Debt Restructuring ............................................................................................... 135
Substantive Tests for Liabilities ................................................................................ 135
Lease Contracts–PFRS 16, PAS 17 ............................................................................... 137
Finance Lease (IAS 17)........................................................................................... 137
Lessee Accounting ............................................................................................... 137
Lease Liability and Right of Use Asset ........................................................................ 138
Lease Remeasurement and Modifications .................................................................... 139
Lessor Accounting ................................................................................................ 140
Operating Lease (PAS 17) ....................................................................................... 140
Sales and Leaseback ............................................................................................. 141
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Sublease ........................................................................................................... 141

Deferred Tax Assets & Liabilities–PAS 12...................................................................... 142
Presentation ...................................................................................................... 142
Income Statement Liability Method ........................................................................... 143
Balance Sheet Method ........................................................................................... 143
Summary of Other Tax Transactions and Other Issues ...................................................... 143
Employee Benefits–PAS 19R ..................................................................................... 144
Short-term Employee Benefits ................................................................................. 144
Post-Employment Benefits ...................................................................................... 145
Defined Benefit Plan ............................................................................................. 145
Other Long-term Benefits ....................................................................................... 148
Termination Benefits ............................................................................................ 148
Other Funds ....................................................................................................... 148
Presentation and Disclosures ................................................................................... 148
Shareholders’ Equity–PAS 1, PAS 32 ........................................................................... 149
Trust Fund Doctrine.............................................................................................. 149
Notes on Shareholders’ Equity ................................................................................. 150
Substantive Tests for Shareholders’ Equity ................................................................... 154
Share-based Compensation–PFRS 2 ............................................................................. 155
Share Options ..................................................................................................... 155
Stock Appreciation Rights or Shadow Shares ................................................................. 157
Cash-settled and Equity-settled Alternatives ................................................................ 158
Earnings per Share & Book Value per Share-PAS 33 ........................................................ 159
Book Value per Share ............................................................................................ 159
Earnings Per Share ............................................................................................... 161
Diluted Earnings Per Share ...................................................................................... 162
Multiple Sources of Potential Dilutive Securities ............................................................ 163
Other Sources of Dilutive Potential ............................................................................ 164
Presentations and Disclosures on EPS and DEPS ............................................................. 164
Financial Statements–PAS 1 ...................................................................................... 165
Statement of Financial Position ................................................................................ 165
Statement of Comprehensive Income ......................................................................... 166
Statement of Changes in Equity ................................................................................ 166
Statement of Cash Flows–PAS 7 ................................................................................ 167
Other Considerations in the Financial Statements .......................................................... 168
Notes to Financial Statements ................................................................................. 168
Events after the Reporting Period PAS 10 .................................................................... 168
Related Party Disclosures PAS 24 .............................................................................. 168
Changes in Accounting Estimates PAS 8 ....................................................................... 169
Changes in Accounting Policies PAS 8 ......................................................................... 169
Cash to Accrual Basis of Accounting ........................................................................... 170
Reconciliation of Cash Basis of Accounting to Accrual Basis of Accounting .............................. 171
Single Entry Bookkeeping ....................................................................................... 171
Error Correction–PAS 8 .......................................................................................... 172
Special Reporting Concerns ...................................................................................... 175
Operating Segments–PFRS 8 .................................................................................... 175
Quantitative Thresholds ......................................................................................... 175
Disclosure Principles ............................................................................................. 175
Interim Reporting–PAS 34 ....................................................................................... 176
Integral View...................................................................................................... 176
Independent/Discrete View .................................................................................... 176
Components of Interim Reports ................................................................................ 176
Presentation Principles .......................................................................................... 176
Accounting Standards for SMEs ................................................................................. 177
Exemptions from Applying PFRS for SMEs: .................................................................... 177
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Full PFRS vs PFRS for SMEs and SEs ............................................................................ 178

IFRS vs US GAAP .................................................................................................. 181
Substantive Tests for the Income Statement and Cashflow Statement .................................. 183
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Title I: Auditing and Professional

Regulation
Accountancy Law
RA 9298 – The law regulating the practice of accountancy in the Philippines otherwise known as the
Philippine Accountancy Act of 2004. The PRBOA is the body authorized by law to promulgate the rules
and regulations
• Provides for and governs the following
o Standardization and regulation of accounting education
o Examination for registration of CPAs
o Supervision, control, and regulation of practice of accountancy in the Philippines
Fields in the Profession
1. Public Practice – involves rendering accounting and auditing services to one or more clients on
a fee basis. (Includes Auditing Services, Taxation Services, and Management Advisory Services)
The CPA must have a Certificate of Accreditation, which is only issued upon acquiring 3 years of
meaningful experience and compliance with the CPD Program of the PRC. Further, CPAs cannot
incorporate in the practice of the public profession
2. Commerce and Industry – Private accounting; distinguished by an employment contract to
provide the expertise and command over accounting knowledge
3. Education or Academe – Employment in any educational institution, limited only to the teaching
of the profession and the allied commerce programs
4. Government – Employment with the government or any GOCC
The Professional Regulatory Board of Accountancy
• A chairman (at least 40 y/o) and 6 members appointed by the Philippine President
• A vice chairman is elected among the 6 other members serving a term of 1 year
• In total, there are 7 persons.
Qualification of Members
• Natural-born citizen and a Philippine Resident, who is a CPA with at least 10 years of work
experience in any field of the profession, of good moral character and have not been convicted
of any crime involving moral turpitude, having no pecuniary interest in any school, college,
university or institution conferring an accounting degree, and must not be a Director or Officer
of the APO at the time of his appointment.
• The APO (PICPA) sends a list of 5 nominees for approval to the PRC; the PRC then short-lists the
nominees by the PRC into 3; from which the President of the Philippines appoints a chairman.
Term of Office
• Chairman and members of the board may hold office for a term of 3 years
• No person who has served 3 successive complete terms shall be eligible for reappointment until
the lapse of 1 year
• The max term of office is 12 yrs.; 6 yrs. if there is no lapse of 1 yr.; in special cases, 8.
Board Functions in General
• Carry-out the Accountancy Law’s IRRs
• Administer oaths and handle suspensions and revocations of the license
• Handling registration of CPAs, and examination of CPALE examinees
• Adopt an official seal
• Prescribe a Code of Ethics and to Regulate the profession in terms of quality of outputs
• Conduct investigations over the violations of the act
• Coordinate with CHED to regulate the academe
• Other powers implied and apparent
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Administrative Supervisions of the Board, Custodian of its Records, Secretariat and Support Services
The board shall be under the administrative supervision of the Commission. All records of the Board,
including applications for examination, examination questions, answer sheets, and other records and
documents pertaining to the CPALE, and administrative and other investigative cases conducted by the
Board shall be under the custody of the Board and shall provide the secretariate other support services
to implement the provision of RA 9298.
Annual Report
The board shall at the close of each calendar year, submit an annual report to the President of the
Philippines through the Commission giving a detailed account of its proceedings and accomplishments
during the year and making recommendations for the adoption of measures that will upgrade and improve
the conditions affecting the practice of Accountancy in the Philippines.
Grounds for Suspension or Removal of Members of the Board
The President of the Philippines, upon the recommendation of the Commission, after giving the
concerned member an opportunity to defend himself in a proper administrative investigation to be
conducted by the Commission, may suspend or remove and member on any of the following grounds:
• Neglect of duty or incompetence
• Violation or tolerance of any violation of the Act, its IRRs, and the Code of Ethics, and the
technical standards of practice of CPAs
• Final Judgement of crimes involving moral turpitude
• Manipulation or rigging of the CPALE results, disclosure of secret and confidential information in
the examination questions prior to the conduct of the said exam or tampering of grades
The Board Licensure Examination for Certified Public Accountants
R.A. 8961 – The PRC Modernization Act of 2000 – is the act designating the exams administered by PRC
Qualifications
• A Filipino Citizen (Natural-born or naturalized)
• Of Good Moral Character (NBI Clearance and the Transcript of Records)
• Holder of a BSA degree recognized by CHED
• Not been convicted of any criminal offense involving moral turpitude
Scope of Exam: TAX, FAR, AFAR, MAS, AUD, RFBT
Passing Conditions
• Passed if: General Average is 75%, with no grades lower than 65% in any given subject
• Conditional if: General Average is less than 75% and or has a grade less than 65% but has obtained
a 75% in at least majority of the subjects covered (4/6); the remaining 2 subjects must be taken
within 2 years from the preceding examination
• Any candidate failing in 2 complete CPALEs (cumulative or consecutive) is disqualified from
taking another unless they take refresher courses equivalent to 24 units of the board exam
Report of Ratings – generally 10 calendar days after the exam, unless extended for just-cause. The
Commission shall send by mail the rating received by each examinee at his/her given address using the
mailing envelope submitted during the examination; passing the exam will require the candidate to go
into an oath-taking ceremony along with others in the Roster of new CPAs. (No publication in the national
gazette is necessary)
Regulatory Documents
• Certificate of Registration – issued to board passers, and those permitted under reciprocity or
other international agreements
o It shall bear the full name and the assigned registration number of the registrant
o Signature of the Chairperson of the Commission, and the Board Members
o Official Seals of the Board and the Commission
• Profession Identification Card – bearing the registration number, date of issuance, expiry date,
duly signed by the chairperson of the commission, shall be likewise issued to every registrant
renewable every 3 years
• Special/Temporary Permit – may be issued by the board subject to the commission’s approval
and payment of fees prescribed by the latter and charged thereof to the following persons:
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o Foreign CPA called for specific purpose

o Foreign CPA engaged as professor, lecturer, or critic in fields in accounting education
o Foreign CPA who is an internationally recognized expert or with specialization in any
branch of accountancy and their service essential for advancement of PH accountancy
• Indication of Certificate of Registration, Identification Card, and Professional Tax Receipt –
The CPA shall be required to indicate their certificate of registration number, and the date of
issuance, the duration of the validity, including the professional tax receipt number on the
document he or she signs, uses or issues in connection with the practice of his/her profession.
• Refusal to Issue by the Board – the board shall not register and issue a certificate of registration
and professional identification card to any successful examinee
o Convicted by a court of competent jurisdiction of a criminal offense involving moral
turpitude
o Guilty of immoral and dishonorable conduct
o Of unsound mind
• Suspension and Revocation
o As mentioned in the grounds for refusal to issue
o Any unprofessional or unethical conduct
o Malpractice
o Violation of any of the provisions of RA 9298 and its IRR, the code of ethics, and technical
and professional standards of CPAs
• Reinstatement, Reissuance and Replacement
o Only after 2 years from the date of revocation, and may or may not exempt an applicant
from taking another examination
Practice of Accountancy
• Prohibition in the Practice of Accountancy – non-CPAs are not allowed to use the CPA title to
advertise and perform the services of a CPA
• Accreditation to Practice Public Accountancy – A certification of accreditation is issued to CPA
after 3 years of meaningful experience; registration is renewable every 3 years on or before
September 30 on the year of expiry upon compliance of requirements
• The Certificate of Accreditation – required to practice Accounting in Public Practice
o For Partnerships – Does business as registered with the SEC
▪ A partner surviving death or withdrawal of all other partners may continue
practicing under the same firm name for 2 years.
o For Individual Practitioners – Does business as registered with the PRBOA
o For Firms in Public Practice – Does business as registered with the DTI
• Seal and Use of Seal – All CPAs shall obtain and use a seal of a design prescribed by the Board
bearing the registrant’s name, registration number and title. The auditor’s reports shall be
stamped with the said seal, indicating therein his/her Professional Tax Receipt Number,
date/place of payment when filed with government authorities or when used professionally
• Generally, the CPA owns the working papers and are confidential to him
• Subject to reciprocity
• The PICPA – is the accredited professional organization for CPAs; registered with the SEC as a
non-profit recognized by the Board and subject to the approval of the Commission.
Penal and Final Provisions
• Any person violating the provisions of the act, upon conviction, be punished by a fine of not less
than P50,000.00 and or imprisonment for a period not exceeding 2 years
Continuing Professional Development
• Based on RA 10912 or the Continuing Professional Development Act of 2016
• Mandates CPD program for all regulated professions, creating a council, and appropriating funds
therefor, and for other related purposes.
• Required CPD Units for CPAs
o Renewal of PRC ID – 15 Units, except for OFWs & newly licensed professionals for 1st renewal
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o For Accreditation and Renewal – 120 Units

o 40 Minimum Mandatory Units under required competency areas (Technical Competence – 30
units; Professional Skills – 5 units; Professional Values, Ethics, and Attitudes – 5 Units)
o 80 Flexible CPD Units; Minimum roll-over units per year: 20 units
***R.A. 9298 refers to CPDs in its own provisions as CPEs, where accountants are only required 60 credit
units, minimum of 15 units per year, rolled-over for 3 years. It is in this law where professionals aged
65 and above are exempted from taking further continuing education.
• Other professionals working abroad are exempted for at least 2-3 years from accumulating CPEs.
Organization Affecting the Profession
FRSC AASC QRC ETC
Chairman 1 1 1 1
BOA 1 1 1 1
COA 1 1 - -
SEC 2 1 - -
BSP 1 1 - - The FRSC, AASC, QRC,
BIR 1 - - - ETC all have a term of 3
Insurance Commission 2 years, renewable for
another term
FINEX*/ACPAPP** 1* 1** - -
PP 2 9 2 1
CI 2 1 1 1
A/E 2 1 1 2
Gov't 2 1 1 1
TOTAL 18 18 6 6
• The PICPA
• Recognized by the Commission as the APO on October 2, 1975
• Membership is open to all registered CPAs
• PICPA shall have adequate chapters/regions in major areas in the PH to effectively attend to
the needs of its members
• There share only be 15 national directors, unless there is a valid reason to have more
• PICPA Accreditation
• Renewal of Certificate of Accreditation once every 3 years
• Cancellation of accreditation may be caused by:
o Cease to possess any of the qualifications for accreditation
o No longer serves the best interest of CPAs
o Did not achieve its plan within 3 years
o It has committed acts inimical to its members and to the profession
o Failure to renew its accreditation after a lapse of unreasonable period
• The PICPA CPE Council
o Oversees concerns on CPDs (CPE formerly)
o Composed of a Chairperson and 2 members
o Chairperson chosen among Board Members
o First member could either be the president or any officer chosen by PICPA BOD
o Second member could be either the president of any officer of the organization of
deans or department heads of schools, colleges, or universities offering BSA
o Term of office is co-terminus with respective incumbency in PICPA and BOA
• Other Organizations: BIR, SEC, COA, BSP, Insurance Commission
• Sectoral Organizations
Association of CPAs in PP (nACPAPP) Association of CPAs in C&I (nACPACI)
Association of CPAs in the Academe (nACPAE) Government Association of CPAs (GACPA)
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Assurance Engagements and Other Services

• Assurance – the auditor’s satisfaction as to the reliability of an assertion being made by one
party for the use of another. A disinterested opinion over the performance of one, for the
decision-making process of the other
• Attestation Engagement – An assurance engagement where the practitioner is engaged to issue
a written report based on written assertions; available to intended users.
• Direct Reporting Engagement – A type of an assurance engagement where the practitioner
directly performs the evaluation or measurement of a subject matter, and obtains a written
representation from the responsible party that has performed the evaluation or measurement
that is not available to the intended users.
• Assurance Engagement – A practitioner expresses a conclusion designed to enhance the
degree of confidence of the intended users other than the responsible party about the outcome
of the evaluation or measurement of a subject matter against criteria
• Reasonable Assurance – Acceptable low level of risk (positively expressed opinion; or a presence
of substantiated claims)
• Limited Assurance – Greater risk than reasonable assurance (negatively expressed opinion; or an
absence of detectable reason for risk)
• Non-assurance Engagement – Engagement rendered by professional accountants, regardless
of independence, that uses their expertise in accounting, consultancy, taxation, and other
related skills.
Objective of Assurance Engagements
For a practitioner to evaluate or measure a subject matter that is the responsibility of another party
against identified criteria; being able to express an opinion that will provide the intended users a level
of assurance about the subject matter; it includes:
Assurance Engagements Reviews
Audits Examinations/Other Assurance Engagements
Elements
• Three-party Relationship (Auditor/Practitioner, Responsible Party, Intended Users)
• Appropriate Subject Matter (F/S, Operational Performance, Compliance Matters)
• Suitable Criteria (PFRSs, Laws and Regulations, Quality Standards)
• Sufficient and Appropriate Evidence (Substantiations of Assertions by the Responsible Party)
• A written Assurance Report for Reasonable or Limited Assurance (Audit Report)
Limitations
• Selective Testing
o Use of Sampling and Non-sampling Techniques
• Inherent Limitations of Internal Control
o Management Override
o Collusion among Employees
• Evidence may be Persuasive than Conclusive (Convincing, but not substantial enough)
• Use of Professional Judgment
• Characteristics of the subject matter may not be appropriate for criteria used
Demand for Assurance
• Bias of the Information Provider in providing ‘good’ information
• Remoteness between information user and information provider
• Complexity of subject matter information and expertise as well as independence of practitioners
• Risk Management of Information Risk
• Reduction of Cost of Capital
Typical Engagements
• Audit – Enabling an auditor to express an opinion whether the FS are prepared in accordance
with appropriate criteria; these are covered by the PSAs
o Absolute Assurance is impossible
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• Reviews – Enabling an auditor to state whether anything, on the basis of procedural checks,
comes to their attention that causes them to believe that the FS are not prepared in accordance
with appropriate criteria; these are covered by the Philippine Standards for Review Engagements
o Comprises Inquiry & Analytical Procedures only; no consideration of internal control
o Expresses Moderate Assurance
• Other Assurance Engagements – Performance Measurement (Internal Audit); Risk Information
Assessment, Information Systems Analysis, Design, and Operation Assessments.
Related and Other Services
• Agreed-upon Procedures
o Carrying out procedures of an audit nature to which the auditor and the entity and any
appropriate 3rd party may have agreed.
o A Factual Findings Report is issued after conducting the procedures and is restricted for
the use of only the parties concerned.
o Recipients form their own opinion based on the facts discovered by the Auditor.
o No Assurance is expressed
• Compilations
o An Accountant is engaged to use accounting expertise to collect, classify, and summarize
financial information
o No Assurance is expressed
o The Practitioner has the right to amend the amounts in the compilation reports after
discovering errors, discovering that the financial information is misleading, or if the
report does not properly reflect the use of the applicable financial reporting framework
o If management fails to furnish the requested documents, or declines amendments, the
practitioner must withdraw from the engagement.
o Management and Those Charged with Governance are bound to acknowledge their
responsibility on the final version of the compilation.
• Examination of Prospective Financial Information
o Based on assumptions about events that may occur in the future. It is highly subjective
and requires considerable judgment
▪ Forecasts,
▪ Projections, or
▪ a Combination of Both
o A forecast is prepared based on assumptions as to future events which management
expects to take place (Based on best estimates)
o A projection is prepared based on hypotheses about future events and management
actions which are not necessarily expected to take place.
o These may be prepared for internal use and or third-party issue
o Assurance of the Auditor – Moderate only, however, the auditor is not precluded from
issuing positive assurance if an appropriate level of satisfaction is obtained.
• Assurance Reports on Controls of a Service Organization
o PSAE 3402 deals with assurance engagements undertaken by a professional accountant
in public practice to provide a report for use by user entities and their auditors on the
controls at a service organization that provides a service to user entities that is likely to
be relevant to user entities’ controls as it relates to financial reporting. It complements
PSA 402 in that reports prepared in accordance with PSAE are capable of providing
appropriate evidence under PSA 402.
o Type 2 Reports – Internal Controls of Service Organization are described to be designed
and implemented throughout the period
o Type 1 Reports – Internal Controls of Service Organization are described to be designed
and implemented as at the date specified
o The User Organization’s Auditor may choose to rely on the Type 1 & 2 Reports of the
Service Organization’s Auditor’s Opinion on Internal Control to arrive at a conclusion on
internal controls of the user organization.
o Assurance of the Service Auditor – may be Reasonable, and modified as appropriate
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• Assurance on Greenhouse Gas Statements

o Given the link between greenhouse gas (GHG) emissions and climate change, many
entities are quantifying their GHG emissions for internal management purposes, and
many are also preparing a GHG statement:
o As part of a regulatory disclosure regime.
o As part of an emissions trading scheme; or
o To inform investors and others on a voluntary basis. Voluntary disclosures may be, for
example, published as a stand-alone document; included as part of a broader
sustainability report or in an entity’s annual report; or made to support inclusion in a
“carbon register.”
o The engagements on GHG statements may be either a reasonable assurance
engagement or a limited assurance engagement, which deal only with assertion-
based engagements.
• Examination of Compilation of Pro-Forma Financial Information in a Prospectus
o The purpose of pro forma financial information included in a prospectus is solely to
illustrate the impact of a significant event or transaction on unadjusted financial
information of the entity as if the event had occurred or the transaction had been
undertaken at an earlier date selected for purposes of the illustration. This is achieved
by applying pro forma adjustments to the unadjusted financial information. Pro forma
financial information does not represent the entity’s actual financial position, financial
performance, or cash flows
o Prospectus is a document issued pursuant to legal or regulatory requirements relating to
the entity’s securities on which it is intended that a third party should make an
investment decision.
o The practitioner shall express an unmodified opinion when the practitioner concludes
that the pro forma financial information has been compiled, in all material respects, by
the responsible party on the basis of the applicable criteria. Otherwise, the practitioner
shall express a modified opinion unless prohibited by relevant law or regulation to do so.
Where this is the case, the practitioner shall discuss the matter with the responsible
party. If the responsible party does not agree to make the necessary changes, the
practitioner shall:
▪ Withhold report;
▪ withdraw from engagement; or
▪ consider seeking legal advice.
• Comfort Letters
o When a company wishes to issue new securities to the public, the underwriters of the
securities will generally ask the company’s auditor to provide “comfort” on the financial
and accounting data in the prospectus that is not covered by an accountant’s report of
some form (e.g., an audit report on the financial statements). In comfort letters, the
CPAs will provide positive assurance that they are independent and that their audit
followed SEC standards. They will provide negative assurance or a summary of findings
on various types of accounting related matters such as the following: unaudited
condensed and summarized interim information, pro forma financial information, change
subsequent to the balance sheet date, and on various tables of data.
o This is also akin to an audit of a due diligence review
• Management Discussion and Analysis
o Among other things, the MD&A provides an overview of the previous year of operations
and how the company fared in that time period. Management will usually also touch on
the upcoming year, outlining future goals and approaches to new projects.
o MD&A is included in reports filed with the SEC and in annual reports sent directly to
shareholders. In addition, a number of companies that do not report to the SEC prepare
such information. This service allows a CPA to provide assurance:
▪ “Negative assurance” for a review, and
▪ “Reasonable assurance” for an examination on a client’s MD&A.
▪ Although many MD&As published in practice are unaudited.
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• Trust Services
o The CPA is engaged to examine both that a client complied with the Trust Services
criteria (e.g., the company uses procedures in accordance with its defined policies) and
that it maintained effective controls over the system based on Trust Services criteria
(e.g., the company’s procedures are effective).
o SysTrust provides assurance on any defined electronic system. In a SysTrust, the CPA
examines only that a client maintained effective controls over the system based on Trust
Services Criteria
Assurance Reports
Standard Application Practice Statements
Philippine Standards on Audit of Historical Information Philippine Audit Practice
Auditing (PSA) Statements
Philippine Standards on Review Review of Historical Financial Philippine Review Engagement
Engagements (PSRE) Information Practice Statements (PREPS)
Philippine Standards on Other Assurance services other Philippine Assurance
Assurance Engagements than those dealing with Engagement Practice
Historical Financial Information Statements (PAEPS)
(Budgets, Tax Compliance, IT)
Philippine Standards on Related Non-assurance services Philippine Related Services
Services Compilations, Agreed-upon Practice Statements (PRSP)
Procedures

Assurance Engagements Non-assurance Engagements

Output is assurance through issuing an opinion Output is any recommendation on how to act on
the information provided
Designed to improve the quality or enhance Designed to provide comments, suggestions or
credibility of subject matter (FS) recommendations on how to use the information
3-party Contract 2-party Contract
Independence is required Independence is not required
e.g., Audit, Review, and Examination of Budgets e.g., Agreed-upon procedures, Compilation, Tax
(There is either High or Moderate Assurance) Return preparation, Management Consultancy
Changes in Nature of Engagement
• Assurance to Non-assurance – Not Allowed
• Reasonable Assurance to Limited Assurance – Generally, not allowed unless it is justified.
Assurance Level Matrix
Engagement Assurance Level Independence
Audit High Yes
Review Moderate Yes
Agreed-upon Procedures None No
Compilations None No
Examination of Prospective Info Moderate Yes
Examination of Internal Control High Yes
Greenhouse Gas Statements Yes Yes
Examination of Proforma Info Yes Yes
Comfort Letters Moderate Yes
Management Discussion & Analysis IF Review Moderate IF Examination Reasonable Yes
Trust Services High Yes
Internal Audits (AUP) None Yes*
Operational Audits (AUP) None Yes*
Forensic Audits (AUP) None Yes*
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Code of Ethics for Professional Accountants

The Code has been published with a purpose of reflecting the accountancy profession’s recognition of its
public interest responsibility. With this, the following overarching requirements have been set out in the
Code to exemplify this responsibility:
Overarching Requirement Discussion
• Integrity
• Objectivity
Fundamental principles of ethics for
• Professional Competence and Due Care
professional accountants
• Confidentiality
• Professional Behavior
Apply the framework in order to identify,
Conceptual Framework of the Code of Ethics evaluate, and address threats to compliance with
the fundamental principles.
Established for audits, reviews and other
International Independence Standards assurance engagements regarding threats to
independence specific to these requirements
Structure of the Code:

Code of Ethics

Part 1: Compliance with the Code, Fundamental Principles and Conceptual Framework

Part 2: Professional
Accountants in
Business Part 3: Professional Accountants in Public Practice

Part 4B: Independence for

Assurance Engagements other
Part 4A: Independence for than Audit and Review
Audit and Review Engagements Engagements

**Principles in Part 1 apply to both Parts 2 and 3; Principles in Part 3 apply to both parts of part 4.
**Part 2 Covers professional accountants engaged in both executive and non-executive capacity
Part 1 – General Principles Applied to All Accounting Professionals
Fundamental Principles
• Integrity – to be straightforward and honest in all professional and business relationships
• Objectivity – not to compromise professional or business judgments because of bias, conflict of
interest, undue influence of others
• Professional Competence and Due Care – To attain and maintain professional knowledge and
skill at the level required; and to act diligently in accordance with applicable technical and
professional standards
• Confidentiality – to respect the confidentiality of information required as a result of
professionalism, even until the end of the relationship between the accountant and a client or
employer
• Professional Behavior – compliance with relevant laws and regulations, avoiding any conduct
that the accountant knows and should know will discredit the profession
The Conceptual Framework of the Code of Ethics – The environment and circumstances in which a PA
renders its services and activities may create threats to compliance with the fundamental principles as
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previously discussed. As such, the conceptual framework has been set out on the code to set out
requirements on how to appropriately deal with these threats
I. Identifying the Threats
a. Self-interest threats – any financial interest that will impair judgement or behavior
b. Self-review threats – the threat that an accountant will not appropriately evaluate the
results of a previous judgment made
c. Advocacy threat – when an accountant promotes a client/employing organization’s
position
d. Familiarity threat – threats arising from long or close relationships with a client or
employing organization
e. Intimidation threat – whenever an accountant will be deterred from performing his
functions objectively because of perceived pressures, including undue influence
II. Evaluating the Threat – checking adequacy of existing safeguards against threats above
described such as corporate governance requirements, educational and training
requirements, effective complaints and grievance systems, an explicitly stated duty to report
breaches of ethical requirements, professional or regulatory monitoring and disciplinary
procedures
III. Addressing the Threat – either eliminating the circumstances causing the threat, applying
safeguards, and declining or ending the specific professional activity
Third-party Test – To assess whether the circumstance is tolerable in terms of the existing threats, the
accountant must step back by conducting a review of any significant judgments made or conclusions
reached and using reasonable and informed third-party test (If the PA were a third party, would the
circumstance constitute a significant threat?)
IV. Establishment of Safeguards that may Eliminate/Reduce Threats to an Acceptable Level
V. Communication with Those Charged with Governance
a. Upon engagement, a professional accountant may find it necessary to initiate
communication with those charged with governance concerning the ethical implications
of their engagement.
b. The PA must determine first the appropriate individual with whom they shall
communicate the concern to
c. Furthermore, the PA must consider the Nature and Importance of the Circumstances.
d. Safeguards regarding communication:
i. Restructuring or Segregating Duties
ii. Obtain Appropriate Oversight i.e., supervision
iii. Withdrawing from decision-making processes
e. Disclosures required for Communication with TCWG:
i. Nature of Conflicts of Interest if any, and how they were addressed
ii. Obtain consent from relevant parties to undertake the professional activity.
VI. Consideration of Independence (Audits, Reviews, and Other Related Services)
a. Independence of Mind – Objectivity to Express a conclusion
b. Independence in Appearance – Avoidance of Facts and Circumstances that impairs
integrity, objectivity, or professional skepticism
c. Professional Skepticism – Having a questioning mind as to the validity of evidence
obtained and being alert to evidence that contradicts the reliability of management’s
representation; it considers the responsible party as neither honest nor dishonest.
Breach of the Code
• Breach of International Independence Standards – see parts 4a and 4b
• Any other provision in the code – evaluate the significance and impact of the breach, take
whatever available actions to address consequences, and determine whether to report the breach
to the relevant parties
Part 2: PAIB – Accountants in Commerce and Industry, and Government
Part 2 covers Professional Accountants in Business, and this portion of the code visits the role of the
accountant as to the reliability of information that investors, creditors, employing organizations and
other sectors of the business community, as well as the governments and the general public may rely
upon.
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Circumstances Main Threats Created Principles Affected

Conflict of Interest Self-Interest Objectivity
Preparation and Presentation of Self-Interest ALL
Information
Compensation, Financial Self-Interest Objectivity; Confidentiality
Interest, Incentives
Inducements, Including Gifts Self-Interest; Familiarity; Integrity; Objectivity; Professional
and Hospitality Intimidation Behavior
Responding to Non-compliance Self-interest; Intimidation Integrity, Professional Behavior
with Laws and Regulations
Pressure to Breach the Intimidation ALL
Principles
Part 3: PAPP – Accountants Engaged in Public Practice
Part 3 Covers the guidance for Public Practice.
Circumstances Main Threats Created Principles Affected
Conflict of Interest Self-Interest Objectivity
Professional Appointments All All
Second Opinions Self-interest Professional Competence and Due
Care
***Fees and other types of Self-interest Professional Competence and Due
Remunerations Care; Objectivity
Inducements, Gifts and Self-interest, Familiarity, Integrity; Objectivity and
Hospitality Intimidation Professional Behavior
Custody of Client Assets Self-interest Objectivity; Professional Behavior
Responding to NOCLAR Self-interest, Intimidation Integrity, Professional Behavior
Part 4a – Code of Ethics for Audit Engagements
Part 4a adds additional considerations for audits and reviews namely:
• Independence of mind and of appearance
• Professional skepticism
Part 4a also applies only during the engagement period and during the period covered by the F/S.
General Documentation of Independence for Audit and Review Engagements
• When safeguards are applied to address a threat, the firm shall document the nature of the
threat and the respective safeguard applied
• When a threat requires significant analysis and the firm concluded that the threat was already
at an acceptable level, the firm shall document the nature of the threat and the rationale for
the conclusion
Mergers and Acquisitions
• An entity might become a related entity of an audit client because of an M&A. Such is a threat
to independence, and therefore to the ability of a firm to continue an audit engagement. In
these circumstances, the following is done:
o The firm shall identify and evaluate previous and current interest and relationships with
the related entity after the effective date of the M&A
o The firm shall take steps to end any interests or relationships that are not permitted by
the Code by the effective date of the M&A
Breach of Independence Provision for Audit and Reviews
1. End, suspend or eliminate interests or relationships (No exceptions; mere reduction of
interest is insufficient and impairs independence.)
2. Consider whether any legal or regulatory requirements apply to the breach, and if so
a. Comply with those requirements
b. Consider reporting the breach to a professional or regulatory body as applicable
3. Promptly communicate the breach in accordance with its policies and procedures to
a. The engagement partners
b. Those with responsibility for the policies and procedures relating to independence
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c. Other relevant personnel in the firm and the network

d. Those subject to the independence requirements in part 4a
4. Evaluate the significance of the breach and its impact on objectivity and ability to issue audit
reports
5. Depending on the significance of the breach
a. Determine whether to end the engagement
b. Or determine whether it is possible to take action that satisfactorily addresses the
consequences of the breach
Provision of Non-assurance Services to an Audit Client
Prohibited regardless of Materiality Prohibited if Material to Financial Statements
Assuming Management Responsibility Valuation Services
Serving as General Counsel Calculations of Current/Deferred Taxes
Accounting and Bookkeeping services Tax or Corporate finance advice that depends on
**can only be provided to divisions/related parties a particular accounting treatment/presentation
if routing or mechanical if specified conditions are with respect to which there is reasonable doubt
met as to its appropriateness
Promoting, dealing in or underwriting client Acting as an advocate before a public tribunal or
shares court to resolve tax matters
Negotiating for the client as part of a recruiting Internal audit services relating to internal controls
service over financial reporting, financial accounting
systems or financial statement amount or
disclosures
Recruiting directors/officers or senior Designing/implementing financial reporting
management who will have significant influence systems
over accounting records or financial statements
Evaluation or compensating a key audit partner Estimating damages or other amounts part of
based on that partner’s success in selling non- litigation support services and acting as an
assurance services to the partner’s audit client advocate to resolve a dispute in litigation
** For Entities vested with Public Interest, (PIEs), all non-assurance services must undergo a Pre-
concurrence with those charged with Governance before initiating the delivery of Non-assurance
Services, regardless of Materiality. This will cover the PIE’s immediate Parent Company, as well as its
subsidiaries.
Other Matters related to Public Practice
• Conflicts of Interest – a PA must identify circumstances that give rise to conflicts of interest,
which are normally threats to objectivity, and evaluate such threats and apply appropriate
safeguards to eliminate the conflict of interest to an acceptable level. If the Conflict-of-Interest
breaches more than one of the principles, do not accept the engagement.
• Second Opinions – If a company, not an assurance client, asks for a second opinion on the
application of accounting and auditing standards on specific transactions by or on behalf of a
company (This creates a threat to competence and due care), the PA shall evaluate the
significance of the threats and if they are other than clearly insignificant, safeguards must be
considered. If the entity seeking the opinion will not permit communication with the existing
accountant, a PAPP should consider whether it is appropriate to provide the opinion sought.
• Marketing and Professional Services – Apparently, the code of ethics distinguishes excessive
marketing and self-promotion as a threat to the reputation of the profession, which threatens
competence.
Part 4b Code of Ethics for Other Related Services
Independence is required during both the engagement period and the period covered by the subject
matter information. Apparently, the same documentation requirements in Part 4a are required for 4b.
Breach of an Independence Provision for Other Assurance Engagements
1. End, suspend, or eliminate the interest or relationship that created the breach
2. Evaluate the significance of the breach and its impact on the firm’s objectivity and ability to
issue an assurance report, and
3. Determine whether action can be taken that satisfactorily addresses consequences of the breach
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Other sections of part 4b discuss other circumstances that create a threat to compliance of the
overarching requirements of the code. Some discussions found on part 4a are also applicable to the below
circumstances found on part 4b but are applied in the context of other assurance engagements.
1. Fees
a. Relative size
b. Overdue fees
c. Contingent Fees
2. Gifts and Hospitalities
3. Actual or threatened litigation
4. Loans and guarantees
5. Business relationships
a. Between a firm, assurance team member or immediate family and as assurance client or
its management
b. Buying goods or services
6. Family and personal relationships
7. Recent service with an assurance client
8. Serving as a director or officer of an assurance client
a. Threats, as with any other form of engagement, are assessed and evaluated.
Reports that include a Restriction on Use and Distribution (RUD) – circumstances:
• The firm communicates with the intended users of the report regarding the modified
independence requirements that are to be applied in providing the service and
• The intended users of the report understand the purpose and limitations of the report and agree
explicitly to the application of the modification to restrict use and distribution
On Long Association
In respect of an audit of a public interest entity, an individual shall not act in any of the following roles,
for a period of more than 7 cumulative years. (This is also known as the time-on period.) After which,
the individual shall serve a cooling-off period to protect the entity against self-interest and familiarity
threats to independence. (Old Provisions)
• For Non-Key Audit Personnel, the time-on period shall not be longer than 2 years.
In the new provisions, the Time-on period for:
Engagement Professionals (Effective on or before 12/31/2023) 3 years
Key Audit Personnel 5 years
The Engagement Quality Control Reviewer is required to have a cooling-off period of 3 years; While KAPs
are required to have a cooling-off of 2 years.
On Financial Interest
• Any direct interest in the client is an automatic threat to independence. If the interest can be
eliminated, the engagement may continue; otherwise, it impairs independence of the auditor.
For PAIBs, it may be reduced generally. For PAPPs, it must be eliminated entirely.
• Any indirect interest must be assessed if it materially impairs the practitioner’s independence.
Immaterial financial interest may be reduced or be tolerated. Material financial interest must
be reduced to continue with the engagement.
• Referral Fees – these give rise to threats to objectivity, professional competence, and due care
since it allows the by-pass of due diligence review by passing over a client to another practitioner
who may or may not be qualified for a specific engagement, and are thus generally not allowed
to be given or received.
• Professional fees must be given before the audit report is issued so as to preserve independence.
• Contingent Fees – give rise to self-interest and advocacy threats, these threaten objectivity
since the size of the fee depends on the feedback over the performance
• Marketing – of any form, must not be excessive as per BoA resolutions; but are not allowed as
per the Code of Ethics
• Gifts and Hospitality – Creates self-interest threats and intimidation threats to objectivity; the
Professional Accountant must not accept gifts and hospitality of significant value
o Minor Niceties are not barred by the Code of Ethics
o Those equivalent to large considerations and fringe benefits are not allowed.
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Auditing and its Professional Standards

• A systematic process of objectively obtaining and evaluating evidence regarding assertions about
economic actions and events to ascertain the degree of correspondence between those assertions
and established criteria and communicating the results to interested users
• It is a Systematic process
o Begins with a plan, evidence is gathered based on the plan, the evidence is weighed
against criteria, and an opinion is expressed based on the evidence gathered
• Involves obtaining & evaluating evidence about assertions regarding economic actions/events
o Assertions – Representations made by a responsible party about its economic actions and
events. It is the auditor’s concern to validate these expressions.
• It is conducted Objectively
o No bias in all steps of the audit
• Auditors ascertain the degree of correspondence between assertions and established criteria
• Auditors communicate the audit results to the intended users
Types of Audits
• Financial Statements Audit
• Compliance Audit – Review of an organization’s processes to determine whether the organization
operates within regulatory standards (e.g., BIR Tax Audits)
• Operational Audits – The study of a specific unit of an organization for the purpose of measuring
its performance (Performance Evaluation of Program Results, Economy/Efficiency)
• Internal Audits – Audits under an employment contract requiring independence, and expresses
assurance relating to governance, risk management, and control procedures of their employer.
Types of Auditors
• External Auditors – Independent CPAs providing services to clients on a contractual basis
• Internal Auditors – An entity’s own employees who investigate and appraise operational
performance and internal control measures
• Government Auditors – those under COA and BIR
The Financial Statement Audit
• The same as the objective of any assurance service, but applied to Financial Statements as the
subject matter
• Responsibility for the Financial Statements are borne by the Management
• Limitations of Assurance – Assurance Provided by the auditor comes from the auditor. It is not
absolute, and are limited by:
o Sampling Risk/Use of Testing – not all evidence is practicably measurable and not all
evidence is 100% taken into consideration
o Non-sampling Risk/ Error in judgment – Auditors are human too
o Reliance on the Management’s Representation – The auditor may only understand what is
given to them; in other words, it would be fruitless to give an opinion on a subject matter
that has for its origins, been fabricated and intends to misrepresent
o Inherent Limitation of the Internal Control Systems – Internal control is not 100% reliable
o Nature of Evidence – Some objects of evidence may not prove to be conclusive, and even in
some cases, persuasive enough to warrant further procedures and interpretation
General Principles
• Code of Professional Ethics – Established to make the public acknowledge the auditing
profession, and in so doing, create a system of accountability toward the profession
• Philippine Standards on Auditing – The essential procedures that auditors adhere to when
conducting assurance services and engagements
• Professional Skepticism – The auditor recognizes that there are circumstances that go beyond
their control and oversight; hence they must prevent all probable causes of misrepresentation
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as they conduct the audit process. It is to maintain a disinterested state of mind as regards the
management’s integrity
Necessity of an Independent Financial Statement Audit
• Conflict of Interest between Management and the Intended Users – Management is always
interested in garnering higher salaries from the entity and investors. The Intended users are
interested in generating wealth; at times, these interests align, but in others, an auditor may be
needed to settle the impasses between them. The opinion issued will indicate whether or not
the management is indeed performing well and in order.
• Expertise – A qualified person would have spent five years or more merely to acquire a basic
understanding of business. Business processes are complex, but the statements are simplified. It
takes a professional to see through the correctness of each simplified line item, going back to
the complex process.
• Remoteness – Intended users do not have a full grasp of the entity. They would rather have an
independent professional to assure them of their concerns.
• Financial Consequences – Misleading information could lead to misinformed decisions that cost
millions in terms of investments. No one wants to shoulder the risk of investing in defrauded
business activities.
• Management of Business and Information Risk
o Business Risk – the risk that business objectives may not be met
o Information Risk – Risk that the information provided by management to its external
parties contain misstatements. (As Information risk increases, Reliability decreases)
▪ Caused by Voluminous data, Complex transactions, remoteness or information
asymmetry, and conflicts of interest
▪ Reduced by verification of information, audits, and sharing information risk with
management
• Value of Financial Statement Audits – Leads to reduction of the Cost of Capital, and may deter
inefficiency and fraud
Theoretical Framework of Auditing
• All Financial Information can be verified
• The auditor should maintain independence w/ respect to the Financial Statements being audited
• No Long-term conflict is allowed between the auditor and management
• Effective Internal control reduces the possibility of errors and fraud
• Consistent application of GAAP and PFRS results in fairly represented Financial Statements
• What is true in the past, is likely to be true in the future, unless there is contrary evidence
• Audit benefits the public
The Audit Process
Preliminary Requires a Decision form the Auditor whether or not to accept a new client or
Engagement continue a relationship with an existing one. This process would require
Activities evaluation not only of the auditor’s qualification, but also the client’s
auditability and integrity.
Planning Involves the development of an overall audit strategy, audit plan, and audit
program. This phase is where the auditor gathers a detailed knowledge of the
client’s business and industry in order to understand the transactions and
vents affecting the financial statements.
This also involves the initial assessment of risk and materiality.
Consideration of The consideration of internal control is interwoven into the reliability of the
Internal Control records of the entity, and directly affects the financial statements
Evidence Using the information in audit planning and internal control consideration, the
Gathering auditor performs tests to determine whether the financial statements of the
(Substantive client are materially misstated, or if these are in conformance with the IFRS.
Tests) They are either in the form of Substantive Analytical Procedures, Tests of
Details, or Tests of Balances. This is always required to be performed.
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Completion Phase Wrap-up procedures are performed to ascertain audit quality and conclusions
are reached and reviewed. The Overall opinion is formed in this phase
Issuance of the The Auditor prepares and issues the audit report which describes the scope of
Report the audit and states the auditor’s conclusions regarding the fairness of the
financial statements
Post-audit Phase After completion, the auditor performs procedures that will enable them to
identify areas for improvement in the current and future engagements.
Professional Standards and Quality Control
Standards are set to make performance measurable; auditing should also be measurable in order to
provide quality opinions on financial statement assertions
Generally Accepted Auditing Standards (GAAS)
Represents the measures of quality of audit performance; it is the bare minimum of what an auditor
should be capable of:
• General Standards – Technical Training and Proficiency; Independence; Professional Care
• Standards of Fieldwork – Planning; Internal Control Consideration; Evidential Matters
• Standards of Reporting
o GAAP; Disclosure Concerns; and Opinions
o Resolution of Inconsistency (areas where the GAAP were not applied, identified in the
report)
Philippine Standards on Auditing (PSAs)
• The Auditing and Assurance Standards Council AASC is tasked to promulgate standards, practices
and procedures for the conduct of audit
o Adopted International Standards
▪ International Standard of Auditing (ISA)
▪ International Standard on Assurance Engagements (ISAE)
▪ International Standards on Review Engagements (ISRE)
▪ International Standards on Related Services (ISRS)
System of Quality Control
Policies and procedures adopted by CPAs to provide reasonable assurance, while being in conformance
with professional and ethical standards in performing audits and other related services
• Philippine Standards on Quality Control PSQC
o Mentions that firms have the obligation to establish a system of quality control, its
personnel to comply with professional standards and laws, and to issue appropriate
reports
• Elements of Quality Control as per PSQC 1
o Human Resources
▪ Recruitment, Education, and Development
▪ Performance Evaluation
▪ Assignment of Engagement Teams
o Acceptance and Continuance of Client Relationships (Pre-engagement Consideration)
▪ Client Integrity; Firm’s Competence; Ethical Compliance
o Relevant Ethical Requirements
▪ Those in the Code of Ethics plus Independence (PAPP)
o Leadership Responsibility within the Firm
o Engagement Performance
▪ Consultation, Review, Direction, Supervision
o Monitoring
▪ Inspection, Communication of Results, Conclusions drawn
• Inspection or Cold Review – a Review of compliance with quality controls which is conducted
after the report is issued; performed by a reviewer (usually an audit partner) with objectivity; a
single engagement has an inspection cycle of 3 years
• Engagement Quality Control Review or Hot Review – a Review of significant judgments in the
audit, conducted before the report is issued, by an EQC reviewer that is technically qualified and
objective. (i.e., an external party). The Hot Review is required for Listed Entities.
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Auditor’s Responsibility
• To design the audit procedure to provide reasonable assurance of detecting material
misstatements in the financial statements; arising from Error, Fraud, and Non-compliance
with Laws and Regulations
• In contrast: It is both Management (CEOs) and those Charged with Governance (Board and
Committees) to prevent fraud and error, as well as be well within compliance of regulations
o Management is tasked to create and implement a control system
o Those Charged with Governance are tasked to ensure integrity of the records & reports
• The auditor is merely responsible for assessing the degree of material misstatement that these
activities cause.
Errors – Unintentional misstatements in the FS
• Mathematical/clerical mistakes in accounting data
• Incorrect Estimate used
• Mistake in applying accounting policies
• The auditor is expected to suggest corrections and provide correcting entries for these
misstatements
Fraud – Intentional misstatements, with the act of concealing the misstatement. There is an incentive
or pressure to commit fraud, a perceived opportunity, and some sort of rationalization to go through
with the act.
• Fraudulent Financial Reporting – omissions & misstatements in the amounts presented in the FS
• Misappropriation of Assets/ Employee Fraud – theft of assets committed by employees
Non-compliance – Omissions or commissions, intentional or not, that are contrary to laws or regulations
o Tax Evasion, Violation of Environmental protection laws, Insider Trading
Auditor’s Responsibility Fraud and Error Non-compliance
Obtain understanding of Legal
and Regulatory Framework
Inquiries with Management
Planning Phase Inquiries with Management
Assess Risk Factors
Design procedures to address
non-compliances
Identify discrepancies in the
Evaluate possible effect on
documents
Financial Statements (Taxes)
Determine if discrepancy is
Testing Phase from Fraud or Error
Document the Findings and
Reconsider Management’s
consider the implications of the
Integrity if discrepancy cannot
same
be ascertained as to source
Obtain Written representations
from Management Obtain Written Representations
Management acknowledges from Management (no
Completion Phase responsibility representation letter means the
All data is available to audit auditor must disclaim their
Sufficient disclosures are in opinion)
place
Request a Revision Request a Revision
Scope Limitations will entail a Any Scope Limitations will
Effect on Auditor’s Report
qualified or disclaimer of entail a qualified or disclaimer
opinion or opinion
In consideration thereof, the auditor must perform risk assessments and related activities to:
1. Obtain an understanding of the entity and its environment, and in so doing, identify the fraud
risk factors and non-compliance risk factors present.
2. Assess the effect of the misstatements caused by fraud, error, and non-compliance
3. Obtain Management Representations to bind management as to its responsibilities
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Management Assertions
Classes of Transaction for the About Balances at Period-end (B/S) Presentation &
Period (I/S) Disclosure
Occurrence – Transactions Existence – Assets, Liabilities, Equity exist Occurrence, Rights
‘actually’ happened or are substantiated and Obligations
Completeness – All transactions Rights and Obligations – The entity is Completeness
that should be recorded are actually entitled to hold its assets and does
indeed recorded acknowledge its liabilities
Accuracy – Amounts and other Completeness – All transactions that Classification and
data are recorded properly should be recorded are indeed recorded Understandability
Cut-off – Transactions and Valuation and Allocation – Assets, Accuracy and
events are recorded in the Liabilities, and Equity are included in the Valuation
proper accounting period F/S at proper amounts by adjustments
Classification – Transactions are
recorded in proper accounts
• These same assertions serve as the auditor’s basis in forming risk assessments of material
misstatements in the client’s F/S as well as the design and performance of further audit
procedures.
• Audit procedures should enable the auditor to gather evidence about a particular assertion
Discontinuance of Engagement
• As a result of misstatement due to fraud or non-compliance, the auditor encounters exceptional
circumstances that bring into question the auditor’s ability to continue the engagement, they
should:
o Consider the professional and legal responsibilities applicable in the circumstances,
including the requirement for the auditor to report to the persons who made the
appointment or regulatory authorities in some cases
o Consider the possibility of withdrawal
o In the event of withdrawal, discuss with the appropriate level of management and those
charged with governance the reason for the withdrawal.
Communication with Those Charged with Governance
• Upon detecting fraud or non-compliance, report to superiors at least one level higher
• Communicate the matter in writing or orally as soon as practicable; discussing material
weaknesses in internal control and collusion among the employees.
• Though it is the Auditor’s responsibility to remain confidential with the client’s information, the
auditor must consult with legal experts and professionals to determine the appropriate course of
action if they are to consider reporting the fraud or non-compliance to the appropriate regulatory
entities. Confidentiality may be overridden by statute or by the courts.
Reporting Non-compliance
1. Those Charged with Governance – as soon as practicable, to any higher-level management
chamber
2. In the Auditor’s Report
a. Non-compliance has material effect – issue qualified or adverse opinion
b. Non-compliance is the cause of preclusion of auditor’s function – qualified or disclaimer
c. Unable to determine whether non-compliance occurred – reevaluate the audit opinion
d. Withdraw from engagement as necessary even if non-compliance is immaterial
3. To Regulatory Entities – Follow the confidentiality rules
4. To the Proposed or upcoming auditor – advise them of the possible reasons not to engage with
the former client, considering the ethical requirements related to such disclosure
5. If it is suspected that the management or those charged with governance are involved in non-
compliance, the auditor must communicate the matter to the next higher level of authority such
as an audit committee or a supervisory board. The communication itself serves as an alarm for
the board to look into possible collusion.
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Pre-engagement Procedures and Audit Planning

Pre-engagement Procedures – The first step in the audit process is to consider whether or not a client
is worth auditing; the main objective is to obtain a Preliminary Understanding of the Entity
Preconditions for Accepting Clients or Continuing Engagements
Competence – Does the auditor have the bare minimum skills to audit the client? Is the client Auditable
with respect to the auditor?
Independence – Is the auditor related to the client in such a way that would harm/threaten their
independence? Are there Safeguards in place?
Ability to Serve the Client properly – Does the client have features that require the auditor to possess
any form of specialized knowledge? Is the client Auditable with respect to itself?
Integrity of Management – Does the Management have any history with fraud? Associations with shady
characters?
• Make Inquiries with the right people and authorities (Information that may bear on the
Integrity of Management)
• Communicate with the predecessor auditor, with the client’s permission
• Ask the old auditor why the change in auditor happened (Reasons for Change)
• Any disagreements as well between the Predecessor Auditor and Management
Agreement on Terms of Engagement
The Engagement Letter is prepared***
• Retention of Existing Clients – Clients should be evaluated by the auditor once a year upon
occurrence of major events (Changes in management)
• Engagement Letter – This serves as the written contract between the auditor and the client. It
contains, at the bare minimum:
o The Auditor’s Acceptance
o The Objective of the audit of FS which is to express an opinion
o The Management’s Responsibility for the Fair Presentation of Financial Statements
o The Scope of the Audit
o The forms or any reports or other Communications that the Auditor expects to issue
o The Admittance of the limitations of the audit, and the unavoidable risk that material
misstatements may not be discovered
o The responsibility of the client to allow the auditor to have unrestricted access to
whatever records or documentation
o Reporting Framework used
• It may also contain, optionally:
o Basis of Fees and Billing Arrangements
o Expectation of Receiving a Representation Letter
o Acknowledgement of Management of terms of Agreement
o Arrangements regarding Audit Planning
o Description of any other letters or Reports
• Other Relevant Matters
o The involvement of other professionals and experts in some aspects of the audit
(Actuaries, Architects, etc.)
o Arrangements concerning the involvement of Internal Auditors and other staff
o Arrangements made with the predecessor Auditor
o Any restriction of Auditor’s Liability
o A reference to further agreements between Auditor and Client
• The Engagement Letter – is written to avoid misunderstandings with regarding the engagement,
it is also confirmatory of the auditor’s acceptance of the appointment. It is not always
required.
A Representation Letter – A letter penned by management that expresses its acknowledgement of its
responsibilities over the preparation of its financial statements, and that all records are available for
audit. It is always required.
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Other Considerations
Recurring Audits – Engagement letters are not sent every year. New engagement letters are given if:
• There are indications of misunderstandings by the client on the scope and objective of the audit
• Any revised/special terms on the engagement
• Major changes in management
• Significant change in nature and size of the entity
• Legal requirements and other government agency pronouncements
Audits of Components
An auditor may be the same auditor for both the parent and subsidiary companies, branches or divisions,
the auditor should consider:
• Who appointed the auditor of the component?
• Whether a separate audit report is necessary for a component or not
• Legal Requirements
• Extent of Work Performed
• Degree of Independence of the Component’s Management
• Degree of Ownership/Control of the Parent over the subsidiary
• The following are also the matters included in the letter in an engagement letter for the audit
of components. (The above matters may also be appended in the main engagement letter.)
Communications with the Predecessor Auditor
• Consent of the Management is Necessary before communicating with the predecessor auditor
• Refusal by the management may cast doubt upon the Integrity of the Management.
• Communications are necessary in order to evaluate:
o Integrity of the Management
o Disagreement between the predecessor and client about accounting/audit procedures
o Understanding for the reasons for the change in auditors
Accepting a Change in Engagement
• With Reasonable Justification
o Stop the Engagement
o Stop Referring to the Old Engagement (unless the new one involves Agreed-upon
procedures)
o Start Performing the New Engagement
• With No Reasonable Justification
o Continue the Original Engagement
o If there are prohibitions to continue, WITHDRAW
• Upon every withdrawal, consider reporting the reasons to appropriate level of management
Audit Planning
• The auditor obtains more detailed knowledge about the client’s business & industry in order
to understand the transactions & events affecting the financial statements, and to identify
potential problems & risk areas that may be encountered during audit. (Primary Purpose)
o In so doing, the auditor may consider the need for an expert’s input on the client’s
environment. (Architects, IT Professionals, Actuaries, etc.)
o During this stage, the Auditor may perform preliminary analytical procedures for the
purpose of identifying risk areas.
• It is also done to make audit work efficient (Secondary Purpose)
• Planning occurs THROUGHOUT the audit, and is ITERATIVE; thus, changes in formalities are also
expected (Documentation is necessary for each iteration, citing the reasons for change)
Nature and Extent of Planning
• Size and Complexity of Entity
• Previous Experience with Key Management Personnel
• Changes in circumstances that happen during the engagement
• Timing and Appointment of Independent Auditor
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Obtaining a Preliminary Understanding of the Entity

• Identify and understand events, transactions, and practices such as the client’s objectives,
strategies, and business risks
• Minimum Requirements:
o Understanding of Industry, Regulation, Reporting Framework
o Internal Control
o Nature of the entity, and selection and application of Accounting Policies
o Objectives and Strategies related to managing business risks
o Measurement and Review of the Entity’s performance
Audit Strategy and Audit Plan
Audit Strategy – The general approach to the audit client
• Identify characteristics of engagement that define its scope
• Ascertain reporting objectives
o Set the timing of the audit and nature of communication required
• Consider factors under professional judgment that is significant in directing the audit team
• Consider results of preliminary engagement activities
• Ascertain nature, timing, and extent of resources needed to accomplish the engagement
Audit Plan – A specialized and formal approach to address the Audit Strategy
• More detailed than Audit strategy
• Includes Nature, Timing, and Extent of Further AUDIT PROCEDURES documented in the Audit Program
(Substantive Tests, and Tests of Control if applicable)
Audit Program – A set of instructions to assistants involved in auditing, intended to set control and
proper execution of work
• Includes Audit objectives and a Time Budget for each Audit Area (Accounts/Line Items/Transaction
Cycle)
• Only available to Audit Team
All of the Above are required to be documented; any changes thereto are in paper, appended
therewith, the reasons for changes in the audit plan.
Direction, Supervision, Review
• Review audit work procedures on the basis of:
Risk Assessments Area of Audit
Size and Complexity of the Entity Capability and Competence of Personnel
Major Audit Planning Activities
• Obtaining an Understanding of the Entity and its Environment
• Determining the Need for Experts
• Establishing Materiality and Assessing Risks
• Assessing Possibility of Non-compliance
• Identifying Related Parties
• Performing Preliminary Analytical Procedures
• Development of the Overall Audit Strategy, Detailed Audit Plan, Preliminary Audit Program
Considerations for First-time Audits/Initial Engagements
• Arrangements made with the predecessor auditor to review prior years’ working papers
o Check the Opening Balances for any material misstatements
o Prior period closing balances have been correctly carried-over to the current period
o Accounting policies are consistently applied. Changes in Estimates are properly
accounted for and disclosed.
• Major issues discussed with management
o On Initial Selection of Auditors
o Communication of Major issues with those CHARGED WITH GOVERNANCE
o How major issues affect audit strategy and plan
• Planned Audit Procedures
• Other Procedures required to fit quality controls
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Risk Assessment Procedures

• Performed to obtain an understanding of an entity and its environment, including consideration
of Internal Control i.e., Check the risk of material misstatement at F/S Level & Assertion Level
o What are the risks?
o What could go wrong if these risks are ignored?
o What is the magnitude of the risk and the consequence?
o How likely will these risks create misstatements?
Inquiries with Management to identify risk areas Analytical Procedures
Observation and Inspection Inquiries with External Professionals
These are not substantial enough to stand as Evidence in themselves; rather, these are areas for
which evidence COULD BE GATHERED
Assessment of Audit Risk and Materiality
Materiality – How big of a difference an Omission or Misstatement could make in making economic
decisions of investors (RELATIVE SIZE and NATURE); assessed in both the planning phase and completion
phase. Determination of such is a matter of professional judgment, in both qualitative and
quantitative aspects.
• Financial Statement Level of Materiality – Smallest Aggregate Amount of Misstatement in the
FACE of FS (Low tolerance for FS, more misleading)
• Performance Level – Used for scoping the line items found in the F/S to be stated; ensures
significant accounts are covered.
• Assertion Level of Materiality – Classes of Transactions; Largest Tolerable Misstatement in a
Transaction (High tolerance for Transactions, less misleading);
o Considers Understanding the view of those charged with governance, the reporting
framework, laws and regulations, industry disclosures, and some particular aspects in
the business.
• Materiality is flexible and can be revised throughout the audit
• The Auditor is required to document the determination of materiality levels including the basis
for revisions to those levels. It should demonstrate the judgment and rationale used by the
auditor in determining the materiality level.
Audit Risk – The risk that an Auditor will issue an incorrect opinion on Management Assertions
• Inherent Risk – The susceptibility of an account balance or class of transactions to misstatement;
o The auditability of the account itself, ceteris paribus. (Property, Plant, and Equipment
may be easier to audit than Miscellaneous Expenses)
• Control Risk – How internal controls could be relied upon to check the account balance or class
of transactions
o Is there separation of duties between treasurer and controller? Is Imprest System used?
• Detection Risk – The auditor’s skill level. If the auditor wishes to reduce detection risk:
o Nature – Provide more Effective Procedures (Use Proof of Cash instead of Simple
Reconciliation)
o Timing – Closer or nearer to Year-end (Revenue and Receipt Cycles)
o As to Extent – Use a Larger Sample Size (Sales and Purchases)
**Inherent risk is generally beyond the auditor or management’s control; this is subjective
** Perform R.A.P → Identify Control and Inherent Risks → Determine Level of Audit Risk → Set the
Level of Detection Risk → Design the Substantive Tests
𝐴𝑢𝑑𝑖𝑡 𝑅𝑖𝑠𝑘 = 𝐼𝑛ℎ𝑒𝑟𝑒𝑛𝑡 𝑅𝑖𝑠𝑘 × 𝐶𝑜𝑛𝑡𝑟𝑜𝑙 𝑅𝑖𝑠𝑘 × 𝐷𝑒𝑡𝑒𝑐𝑡𝑖𝑜𝑛 𝑅𝑖𝑠𝑘
Independent Variables Dependent Variable
Risk Responses to Materiality
• In the presence of Inherent and Control Risk, More Intense Substantive Testing is Required
• More Intense Substantive Testing, Smaller Detection Risk
• Smaller Materiality Levels mean more Intense Substantive Testing mean Most Reasonable
Assurance
• Materiality is Inversely related to Audit Risk, and is Directly related with Detection Risk
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Consideration of Internal Control

The auditor should give adequate consideration to the entity’s internal control because the condition
thereof directly affects the reliability of the financial statements. Limited to Reasonable Assurance
• Internal Control System =/= Accounting System
o The Internal Control System is embedded in the other Systems of the Business Process
Internal Control – Is the process effected by those Charged with Governance, Management, and other
Personnel designed to provide reasonable assurance regarding the achievement of objectives in
• Effectiveness and Efficiency of Operations
• Reliability of Financial Reporting
• Compliance with Regulatory Frameworks
Limitations of Internal Control
• Cost-benefit of establishing control structure
• Management Override circumstances (routine and non-routine decisions)
• Collusion of Parties (Conspiring outside the controls of the entity)
• Changes in Condition (Inadequacy of Procedures in place)
• Human Error
• Emphasis on Routines over non-routine transactions
**These considerations apply both on Administrative Controls and Accounting Controls
Administrative Controls – Checking by Authority (Separation of Duties, Chain of Command)
Accounting Controls – Checking by Integrity (Input Checking, Independence and Safeguard of Records)
Components of Control
• Control Environment – The governance & management functions, attitude, awareness & risk
appetite
• Communication and Enforcement of Integrity • Assignment of Authority and Responsibility
• Management Philosophy • Human Resource Policy and Procedure
• Commitment to Competence • Organizational Structure
• Participation by those Charged with
Governance
• Risk Assessment Process of the Entity – How the entity identifies risks and consequences
• Any change will usually bring about risk • It must assess the significance of the risks
• A Business should Identify Business risks • And it must decide how it must Manage the
Risk
• The Information System and Related Business Process relevant to Financial Reporting
• Infrastructure (Physical and Hardware) • Input and Data
• Software • Output and Information
• People
• Control Activities – Management directives to look out for in business organizations
• Authorization • Independent Checks & Balances
• Performance Reviews • Custody over Assets
• Information Processing Integrity • Authority over Transactions
• Physical Access Controls • Record over transactions
• Segregation of Duties • Execution of Transactions
• Monitoring of Controls – Assessing the quality of internal control performance over time
o Ongoing Monitoring and Separate Evaluation
**The auditor must then design and implement an appropriate risk response procedure (i.e., Control Test
or Substantive Test) taking into account, at the assertion level, both control and inherent risks if they
see to it that the information about the entity is sufficient. Otherwise, the auditor may need to gather
more persuasive audit evidence, but in consequence, must set the overall audit risk at a higher level.
• Controls in Accounting Systems
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Principles of Internal Control

Control Environment 1. There is a commitment to integrity and
Ethical Values
2. The Board of Directors exercises oversight
and responsibility over internal control
3. Management establishes structures,
authorities, and responsibilities
4. There is a commitment to competence
5. Individuals are held accountable for their
internal control responsibilities
Risk Assessment 6. Objectives are specified so risks to their
achievement can be identified and assessed
7. Risks are identified and analyzed
8. Potential for fraud is considered
9. Changes that could impact internal control
are identified and assessed
Control Activities 10. Control activities to mitigate risks are
selected and developed
11. General control activities over technology
are selected and developed
12. Control activities are deployed through
policies and procedures
Information and communication 13. Relevant, quality information is obtained or
generated and is used
14. Information is communicated internally
15. The organization communicates with
external parties
Monitoring 16. Ongoing and separate evaluations are
performed of the internal control system
17. Internal control deficiencies are evaluated
and communicated for corrective action
Internal Control Objectives
• Authorization – All transactions are approved by someone with the authority to approve the
specific transactions
• Completeness – All valid transactions are included in the accounting records
• Accuracy – All transactions are accurate, are consistent with the originating transaction data,
and the information is recorded in a timely manner
• Validity – All recorded transactions fairly represent the economic events that occurred, are
lawful, and have been executed in accordance with management authorization
• Physical safeguards and Security – Access to Physical Assets and Information Systems are
controlled and restricted to authorized personnel
• Error Handling – Errors detected at any point in processing are promptly corrected and reported
to the appropriate level of management
• Segregation of Duties – Duties are assigned in a manner that ensures that no one person is in
position to both perpetrate and conceal an irregularity
***For SOX Audits, an opinion on Internal Control Effectiveness is also communicated by the external
auditor along with the Financial Statement opinion. This also means that Management will have to
provide assertions relating to the Fairness of the Financial Statements as well as the proper Performance
of Internal Controls over Operations as required by the PCAOB as part of Enhanced Financial Disclosures
or Title IV of the Sarbanes-Oxley Act.
• Internal Auditors are allowed to be taken as the External Auditor’s support in assessing
Management’s Attestation as to Internal Controls Objectives.
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Obtaining an Understanding of Internal Control

• The main objective of Internal Control Consideration is to evaluate the design and
implementation of internal controls, and to determine whether these have been properly
implemented, which are oriented towards directing the Further Audit Procedures
(Substantive Tests) rather than appraising control structures for reliance on controls.
• The auditor is not required to obtain knowledge of the Entity’s Internal Control Effectiveness
(This is done in Tests of Control)
• These are performed to identify types of potential misstatements, the factors that affect the
risk of material misstatement, and to design the nature, timing, extent of audit procedures.
• Procedures done in this phase:
Inspection Inquiry
Observation Walkthroughs
• Walkthroughs – confirms auditor’s understanding of accounting system and control procedures
• Documents made by the Auditor during this phase:
Flowcharts Internal Control Questionnaires
Narrative Descriptions Dataflow Diagrams
Tests of Control
• When are they Necessary? – These are Tests performed to check and gather evidence as to the
operating effectiveness of relevant controls if they expect the controls to be effective and or if
they expect that substantive tests alone cannot provide sufficient appropriate audit evidence at
the assertion level
• In so doing, the auditor may convert the risk-assessment into a reliance approach if they
determine that the internal controls appraised are strong and sufficient so as to perform less
intense substantive tests.
• Includes: Inquiry, Observations, Inspections, Reperformance, and Walk-through tests (via
Flowcharts and Data Flow Diagrams)
• For Recurring Audits: The auditor should establish a continuing relevance of the evidence
gathered from previous audits about the operating effectiveness of specific controls by obtaining
audit evidence about whether significant changes in those controls have occurred. Per PSA, the
period of not conducting any retesting shall not exceed 3 Audits.
• Consider Fraud, Error, and Non-compliance, and their associated risks
Other Considerations
Audit Risk Areas
• Those with a risk of fraud
• Those of recent accounting significance (i.e., early adoption of a standard)
• Complexity of transactions
• Related-party transactions
• Degree of Subjectivity
• Non-routine transactions
Operating Effectiveness vs Implementation
The operating effectiveness of controls is different from obtaining audit evidence that controls have
been implemented.
• Evidence for Implementation – auditor determines that the relevant controls exist, and that the
entity uses them appropriately. It answers “which controls exist” if there are any.
• Evidence for Effectiveness – auditor gathers evidence that the controls operate effectively. This
includes obtaining evidence about how the controls are applied. It answers, “do the controls
work?” if there are any.
Responses to Assessed Risk from Initial Understandings and Tests of Control
• If after Risk Assessment, the Control Risk is set at Maximum, Substantive Tests are Performed
• If after Risk Assessment, the Control Risk is set at the Minimum Level, Tests of Controls may be
done to reduce the extent of Substantive Testing
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• In case of Reassessments, Substantive Tests are always performed

o On the Reliance Approach, A Substantive Test may be less extensive, requires smaller
sample sizes, and Interim Testing may be Appropriate
o On No Reliance Approach, the inverse of the above is true
• Documentation Requirements:
Control Risk Understanding of Control Risk Basis for the Control
Assessment Internal Control Assessment Risk Assessment
High Required Required Not Required
Less than High Required Required Required
• Practical Responses such as:
o Emphasis to maintain professional skepticism to the audit team throughout the audit
o Assign more experienced staff
o Provide more supervision
o Incorporate unpredictability
o Make changes to nature, timing, and extent of further audit procedures
• Timing of tests:
Point in time – Either Interim or Year-end Period of Time – Reliance vs Non-reliance on Internal Control
Communications on Internal Control with Those Charged with Governance
During the Planning Phase – done only to facilitate the audit’s execution
After Further Audit Procedures – After the Control Tests and the Substantive Tests, the Auditor
communicates the material weaknesses in internal control identified during the audit on a timely basis
to both management and those charged with governance.
• Communication of Internal Control Weakness through the Management Letter
o The auditor is required to report to the appropriate level of management the material
weaknesses in the design or operation of the accounting and internal controls which
have come to the auditor’s attention
o Significant Deficiency – Placed in writing
o Not Significant Deficiency – Formally or Orally
o Auditors are not required to search for and or identify internal control weaknesses,
only those that come to their attention during the audit
• Communicating Deficiencies in Internal Control to Those Charged with Governance and to
the Management (PSA 260, 265)
o Deficiency in Internal Control/Control Deficiency
▪ Design or operation of control does not allow management or employees, in the
normal course, to prevent, detect, or correct misstatements on a timely basis.
▪ Communicated if deficiency needs management attention; not always required.
o Significant Deficiency – a deficiency or combination of deficiencies in internal control,
that, in the auditor’s professional judgment, is of sufficient importance to merit the
attention of those charged with governance.
▪ Required to be Communicated in writing and on a timely basis
o Control Weakness – The controls are inappropriate for the threat it is intended to
suppress
o Material Weakness – is a deficiency, or a combination of deficiencies, in internal control
over financial reporting, such that there is a reasonable possibility that a material
misstatement of the company's annual or interim financial statements will not be
prevented or detected on a timely basis.
▪ Required to be Communicated in writing on a timely basis.
• Effective internal control over financial reporting often includes a combination of preventive
and detective controls:
o Preventive Controls have the objective of preventing errors or fraud that could result
in a misstatement of the financial statements from occurring.
o Detective Controls have the objective of detecting errors or fraud that has already
occurred that could result in a misstatement of the financial statements.
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Corporate Governance and Risk Management

Corporate Governance – the processes and structures by which the business and affairs of an institution
are directed and managed. This is done to improve long-term shareholder value by enhancing corporate
performance and accountability, whilst considering the best interest of the stakeholders.
Aspects of Corporate Governance
Good Performance of the Proper Accountability to all Mitigation of Conflict of
Organization Stakeholders Interests
Pillars
Fairness Accountability Independence Transparency
Make sure that Governing bodies are They are not They uphold clear
actions are the first to take action associated with any communication, and
empathetic and and amends over personal pursuits and their intentions can be
judicious to parties mistakes of are objectively easily trusted by anyone
involved subordinates dispassionate asking
Roles:
Shareholders BoD C-suites Process Owners
(Votes) (Prescribes to SH’ers) (Designs for BoD) (Executes)
Good Corporate Governance
Functional and
Good Board Well-defined
Board Effective Transparent
Practices/ Shareholder
Commitment Control Disclosure
Fiduciary Duty Rights
Environment

Corporate Risk Management

• The identification, assessment, and prioritization of risks
• ISO 31000 – the effect of uncertainty on objectives (whether positive or negative) followed by
coordinated and economical application of resources to minimize, monitor, and control the
probability and or impact of unfortunate events or to maximize the realization of opportunities.
Probability Severity Strategic Plan
Risk Response Matrix
Part of the risk response is the
plan to manage it as well as the
Internal Control Avoid
culture it takes to control the
Probability risk. Management and TCWG
must strike a balance at
Tolerate Take Insurance
meeting profitability within the
constraints of risk control
Severity
Risk Governance
The Board of Directors has the following responsibilities:
• Select competent board members and establishing guidelines to govern the board organization
and structure (e.g., Staggering the Board)
• Select competent Officers and evaluate and compensate accordingly
• Review Strategy developed by the Management
• Monitor Controls of the Environment
• Ensure necessary corrections are taken to remedy risk
• Ensure the compliance of the institution
• Always consider the best interest of the stakeholders
The Guidance for setting Policies must follow a risk-based, and top-down approach in assessing internal
controls.
• Evaluation of evidence should be based on risk assessment
• Management should determine whether implemented controls adequately address the risk that
a material misstatement of the financial statements would not be prevented or detected on a
timely manner.
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SOX Notable Provisions

• Title I – The PCAOB’s establishment
• Title II – Mandatory Auditor Independence
o 201 – Prohibit Accounting Firms from providing non-audit services to audit clients (such
as systems development, design, and evaluation) (See Pre-concurrence Code of Ethics)
o 203 – Audit partner Rotation (See Code of Ethics)
• Title III – Corporate Responsibility
o 301 – Mandatory establishment of audit committees
o 302 – Management is mandated to take responsibility for misstatement (CEO/CFO)
▪ It is formed by a committee of sponsoring organizations: AICPA, FINEX, IMA, IIA
• Title IV – Enhanced Financial Disclosures
o 404 – Establish Internal Control Requirements and contain the assessment over adequate
internal control
o 407 – Qualify at least 1 committee member to be a financial expert
Risk Management Considerations and Tools
Considerations Tools
• Oversight of Risk Governance and disclosures Qualitative Assessments:
• Risk Profiling • Risk Ranking
• Risk-Reward Strategy • Risk Mapping
• Risk Management Framework Quantitative Assessments
• Key Risk Identification • Earnings Distribution
• Adequacy of Detection, Prevention, and • Earnings and Value at Risk
Reporting Mechanisms • Sensitivity Analysis
Other Concerns
1. Statutory Audit Committees – to ensure independent and quality external audits for the
organization
a. Suitably qualified audit committees are created
b. Oversight over Internal and External Audits, Financial Reporting, and Compliance
c. Provides assurance on effectiveness of internal controls and risk management
d. Oversees Management processes for identification of significant fraud risks and ensures
adequacy of detection, prevention, and reporting controls
2. Delegation of Authority Framework – This is a formal and properly defined document for
delegation of authority over financial and non-financial matters
3. Board Evaluation – Formal and rigorous annual evaluation of the Board, the committees, and
individual directors
4. Board Training – Induction or ongoing training to update knowledge and skills to enable effective
discharge of functions
5. Strengthening Assurance
a. Create an internal audit function
b. Report at least once a year audit meeting
c. External audit of effectiveness of internal audit function at least once every 3 years
6. Rotation of External Auditors
a. The firm should ideally require its external auditor an appropriate balance between
going-concerns, risk management, independence, and credibility
b. Rotations of the signing or lead auditors and concurring or reviewing partner of the
Company Audit is considered after a period of 4 fiscal ears from date of appointment
c. Rotation is required after the maximum period of 7 fiscal years from their appointment
d. These partners may not rotate to a different position within the company audit team for
a period of 2years
7. Disclosure Requirements
a. Provide adequate information on capital structure, corporate governance practices,
related party transactions, risk management policies, levels of compliance, etc.
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Transaction Cycles
Transaction Cycles – the means an accounting system processes transactions of related activities.
Concerned with how accounting data and authority flows in order to maintain internal control.
Transaction – An agreement between two entities to exchange resources (goods, services, information,
authority)
• A department that initiates a form approves it by issuing it,
• A department will be accountable for transactions not covered by forms (unused forms)
• Issuing departments will always issue in copies (duplicates and triplicates)
Key Concepts
• Preventive Controls – These are the most effective controls since the root cause of a
misstatement is avoided
• Detective Controls – These are used to identify misstatements.
• **Corrective Controls – These are used to address misstatements when the misstatement may
have been detected too late. These are not typically within internal control anymore if correction
transgresses into external parties such as customers or suppliers
• Segregation of Duties – When an entity performs any two of the functions below, there is no
segregation of duties, this is because performing both at the same time opens the potential to
leave no audit trail in cases of fraud:
o Authorization – Allowing a transaction to take place
o Recordkeeping – Placing the transaction in the books
o Custodianship – Safeguarding the asset
o In cases where the other two functions collude, the auditor usually gathers evidence
from the third function.
o Other functions include Execution which involves the release of assets, and
Audit/Reconciliation, which involves reconciliation and review which are supplemental
to the above three.
Authorization Recordkeeping Custodianship
Unauthorized Assets may be
Authorization Compatible Transactions may be misappropriated thru
erased from the books abuse of authority
Unauthorized Assets misappropriated
Recordkeeping Transactions may be Compatible will not leave an audit
erased from the books trail
Assets may be Assets misappropriated
Custodianship misappropriated thru will not leave an audit Compatible
abuse of authority trail
Record to Report Process/Close, Consolidate, and Report Process
Record to Report

Data Collection &

Reconciliation,
Management/ Closing Process/ Reporting
Validation,
General Ledger Financial Close & Analysis
Consolidation
Accounting

Internal Reports
General Ledger Close
Transaction Processing Consolidate External Reports
Non-financial
Compliance Reports
Information

Governance

Organization and People

Policies and Processes

Information Systems and Technology

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Transaction Processing Master Data Reconciliation, Validation, Reporting and

Management Consolidation Analysis
Journal Entries and Chart of Accounts Intercompany/Intracompany Audit Support
Accruals at Year-end Maintenance Reconciliation Working
Sub-processes

Paper
Period-end Close Fixed Asset GL Account Reconciliation Query Handling
Register (ad hoc basis)
Maintenance
Tax Accounting User Bank Reconciliation Management
Authorization Reporting and
Analysis
Fixed Assets Accounting
The record to report process encompasses all the other transaction cycles in a business. The Record to
Report Process will typically produce the following outputs:
• Financial Performance, Financial Position, Cash flow, Changes in the Accounts
• Key Performance Indicators
• Business Commentary or Performance
• Non-financial information relevant to the use of end-users
• Reconciliations of Budgets to Actuals
• Forecasts for the coming periods
Revenue and Receipt Cycle or Order to Receipt Process
Sell goods to get Cash Affects Cash, A/R, Sales, Sales Returns, Discounts, and Allowances, Bad
Debts, Allowance for Bad Debts
Order to Cash

Demand Planning
Customer Payment Working
and Order
Credit Invoicing & Capital
Customer Fulfillment
Screening Collection Management
Order gathered
Forms Descriptions From To
Customers
Sales Order Form Contains details of
Credit
Sales Order Slip goods ordered from the Sales Department
Shipping
Customer Order Customer
Billing
Describes the Goods to
be shipped out
Shipping Document Carrier
Contract between
Bill of Lading Shipping Customer
entity and carrier. It
Delivery Receipt Billing
serves as a trigger for a
Sale
Goods Sold Described
in detail. It serves as a Customer
Sales Invoice Billing
trigger for a Accounting
Receivable.
A document used to
determine to which
Remittance Advice Billing Customer
invoice or obligation a
payment refers to
Receivable Accounting
Summarized
Daily Summary Treasury Treasury
transactions
Mail Room Receivable
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Sales Department
Activities Controls
Sales should be the only one communicating with
Locates and encourages buyers
customers
Negotiates Terms Maintains a Customer List
Accepts Customer Orders Entity maintains a catalogue
Prepares Sales Orders
Monitor Status of Sales Order
Update Customer as to Sales Status
Credit Department
Activities Controls
Receive and Review Sales Orders Independent from Sales
Conducts Credit Investigations Issues Credit List
Accepts Credit Requests (Approved on SO) Entity maintains a catalogue
Notifies Sales as to Approval of Credit
Forwards approved SO to Inventory Control
Inventory Control/ Warehousing
Activities Controls
Reviews Sales Orders Provide Sales Product Availability Information
Monitor Availability of Goods Apply Inventory Management Concepts
Authorize Issuance of Goods
Shipping
Activities Controls
Compare Sales Order with Goods Approved Issue Shipping Documents in a Numbered
Release Goods to Carrier Sequence
Notify Sales and Billing of goods for shipping
Billing
Activities Controls
Prepare Sales Invoice Prenumber Sales Invoices
Prepare Remittance Advice Presence of Shipping Documents
Notify Sales and Billing of goods for shipping
Mail Room/ Reception
Receive Remittance Advice and Customer Checks
Prepare List of Receipts
Endorse checks and list to Treasury
Endorse Remittance Advice and list to Accounting
Treasury
Authorized to Write-off
Update Cash Records
Prepare Deposit Slips
Prepare Cash Summaries, send to A/R and Accounting, keeps a copy
Deposit Cash Collection to Bank
• Processing Sales Returns falls on the accountability of the Sales Department (whom issues the
credit memo since the customer issues a return slip) while the goods are in the custody of the
Receiving Department, and must always accompany a Receiving Report referencing the Credit
Memo that it was received for.
• The credit memo will be sent to the Accounts Receivable Department/Billing Department for
reduction in the subsidiary ledger, and another copy to Warehousing for Inventory Debit if the
goods are still salable.
• Purchase Returns on the other hand is under the requesting department’s accountability, as
such, prepares the Debit Memo and routes it to Accounts Payable for reducing obligations. The
returnable goods are sent to the Shipping Department for return.
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Expenditure and Disbursement Cycle or Procure to Pay Process

Use Debt to Get Goods Affects Purchases, Payables, Cash, Other Current Assets, Inventories
Procure to Pay

Working
Requirements Purchase Invoice
Requisitioning Delivery Capital
Planning Order Payment
Management

Forms Descriptions From To

Requisition Slip Details of a purchase
User Department Purchasing
(Purchase Requisition) request
Vendor
Describes the
User
Purchase Order Authorized Goods to be Purchasing
Receiving
acquired
Accounts Payable
Describes Goods
Purchasing
Receiving Report Received. Serves as a Receiving
Accounts Payable
trigger for Inventory In
Describes Goods to be
Receiving
Shipping Documents Shipped and Service Vendor
Contract with Carrier
Describes Goods sold,
amount due, terms of
Vendor’s Invoice Vendor Accounts Payable
payment. Serves as a
trigger for a Payable
Summarize Accounts Payable
Daily Summary General Accounting
Transactions Treasury

Purchasing and Procurement

Activities Controls
Receives approved Requisition Slip Exclusive with Vendor
Locates Vendor and negotiates terms Maintains Vendor List
Prepares purchase orders Compares Purchase Price with Market Prices
Monitor Status of Order
Updates User department on status of order
Receiving Department
Activities Controls
Files Purchase Orders until receipt of goods To ensure that the receiving department
Counts and checks goods for quantity and quality performs a count, blank PO’s
Review and compare purchase orders from are used.
purchasing and shipping document
Prepare receiving reports
Accounts Payable/Vouchers Department
Activities Controls
Review Requisitions, Orders, and Receiving Report Voucher should be supported by PO, RR, Invoice
Prepare: 3-way Match, Voucher, AP Summary File Vouchers by due date to pay on time
Treasury
Activities Controls
Review Voucher Package Last person to sign the check marks with
Paid/Cancelled
Prepare Check and signed by signatories Identify Payee, Certain Amount, and signed by
Forward the Check two authorized persons
Prepare a Summary
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Human Resources and Payroll Cycle or Hire to Exit Process

Hire Employees to Add Affects Salaries, Withholding Taxes, Inventories, Share Premium, Cash,
Company Value Inventories, PPE, etc.
Recruit to Retire

Requirements & Pay

Compensation Staffing Onboarding Working Travel &
Planning Close

Forms Descriptions From To

HR Records
All Employee Information from HR Payroll (Payroll
(Personnel Records or
hiring to termination department related only)
201 file)
Daily Time Record User
Number of hours worked in a day Payroll
(DTR) Department
Treasury
Payroll Register All Payroll related info Payroll
General Accounting
Show payroll information Production
Labor Cost Summary Payroll
capitalizable to inventory
Employee Earnings
Cumulative Salaries of EEs Payroll Accounts Payable
Record
Payroll
Daily Summaries Summarize Transactions Production General Accounting
Treasury

User Department
Activities Controls
Monitors DTR Appropriate Review Activities
Prepare Check and signed by signatories Approval of Exceptions in Computerized systems
HR
Activities Controls
Initiates, updates, and maintains HR Records Access is limited only to HR
Forwards the payroll info to Payroll Department Information irrelevant to payroll computation is
Determine terms of settlement of termination not shared to other departments
Immediately notify payroll of termination
Payroll
Activities Controls
Receive and review payroll info from HR Chain of command in review of payroll register for
accuracy and reasonableness
Considers update on pay rates and deductions Assure adequacy of segregation of duties
Prepare payroll register
Update EE earnings record
Treasury
Activities Controls
Receive and review payroll info from HR Chain of command in review of payroll register for
accuracy and reasonableness
Considers update on pay rates and deductions Assure adequacy of segregation of duties
Prepare payroll register Issue Paychecks on a Surprise Basis (identify
fictitious employees)
Update EE earnings record Redeposit unclaimed payroll
Identify payroll record & send to production Use Wireless Fund Transfers
• The Board of Directors determines the C-suite level’s compensation in conjunction with
bonuses
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Production or Conversion Cycle or Plan to Deliver Process

Use Goods to Make Assets Affects Depreciation, Inventory, Salaries, Amortization
Production Cycle or Plan to Output Process

Production
Production Gather Returns
Process/ Goods Delivery Retain Value
Planning Resources Management
Service Delivery

Forms Descriptions From To

An internally-generated Production Purchasing
Sales Forecast
prediction on customer demand Sales
A description of the Product
Production or
Bill of Materials components needed to make -
Solutions Designing
goods
Cost Accounting or
The output of Forecasting and Production or
Inventory Plan Fixed Assets
consideration of required goods Project Lead
Accounting
Sales
HR
A description of Labor and Production or
Production Plan Cost Accounting or
Overhead required Solutions Designing
Fixed Assets
Accounting
Inventory Control
Production or Cost Accounting or
Production Orders The output of all plans
Solutions Designing Fixed Assets
Accounting
Transfer authority from one Inventory Control Production
Transfer Tickets
department to another Various Departments Various Departments
General Accounting
Quality Control Details the quality controls and Cost Accounting or
Sales
and Production the status reports on the batch or Fixed Assets
HR Payroll
Reports job order (Standard Costs) Accounting
Production

Duties & Authority/Responsibility over

Testing Procedure
Responsibilities Function
Observe Physical Counts or
Custody Production
Conduct Sampling
Production Review Production Orders and related
Authorization
Or Board of Directors documents
Cost Accounting Competency of Records & Recorder
Recording
General Accounting Reconcile Subsidiary & General Ledger
• The production process is not limited to only producing goods/a manufacturing concern. It may
also involve a servicing concern, or a project pursuit of some sort.
• The production process in a way resembles an overall project management approach where needs
are determined, a solution is developed in order to address a business issue
• The tone for the production process begins from a strategic point of view, and trickles down to
the operations level of the firm
• The resources here involve as well the human resources (whether internal or outsourced) and
intangibles (those qualifying as assets and those that do not)
• The typical controls for production are focused on quality and efficiency, as such, each
production system may differ across companies and industries
• Incorporated in production is Standard Costing, hence Variance Analysis is typically performed
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Financing and Investing Cycles or Acquire to Retire

Use Existing Assets, Affects Long-term Debt, Share Capital, Reserves, Investments, PPE,
Debt, and Equity to Add Intangibles, Amortization, Depreciation, Repairs and Maintenance Expense,
Shareholder Wealth Research and Development Expense, etc.
Financing and Investing Cycle

Operating,
Resource
Feasibility Planning & Investment Monitoring/ Evaluation &
Allocation/
Study Budgeting Acquisition Portfolio Reporting
Financing
Management
• Financing Phase (Acquire)
Authority/Responsibility over
Duties and Responsibilities Testing Procedure
Function
Corporate Secretary or
Custody Inquiry and Confirmation
External Custodian
Authorization Board of Directors Review Minutes of Meeting
Competency of Records and
Recorder
Recording General Accounting
Reconcile Subsidiary and
General Ledger
• Investment Phase (Retire)
Authority/Responsibility
Duties and Responsibilities Testing Procedure
over Function
Brokerage Accounts
Custody Confirmation
Bank as Safekeeper
Board of Directors
Authorization Review Minutes of Meeting
Investment Committee
Competency of Records & Recorder
General Accounting and
Recording Reconcile Subsidiary & General
Treasury
Ledger
**Certificates are given to at least two high-ranking officers
**At settlement, perforation of securities is done to avoid double counting
Authorities and Plans Descriptions From To
An internally-
generated prediction Board of Directors
Capital Budget Investment Committee
on returns on Higher Management
investments
A forecast for liquidity Board of Directors
Cashflow Forecast Investment Committee
indicators Higher Management
SEC, BIR Files and Regulatory Administration
Government Agencies
Other Regulatory Files Requirements General Accounting
A scribed report of the
annual meeting
Board of Directors
Minutes of Meetings concerning strategic -
Higher Management
plans and other
matters
A consolidated report
on the overall
Master Budget appropriation and Higher Management Various Departments
allocation of funds and
quotas
Disbursement
Forms allowing the
Authorities and Cheque Treasury Various Departments
disbursement of funds
Issuance
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Appendix: List of Common Internal Controls

Order to Cash
Activity Threat Controls
General 1. Inaccurate/Invalid Master • Data processing Integrity controls
Issues Data (Customers) • Restriction of access to master data
• Review of all changes to master data
2. Unauthorized Disclosure of • Access controls
Sensitive Information • Encryption
• Tokenization of customer personal
information
3. Loss or Destruction of Data • Backup and disaster recovery procedures
4. Poor Performance • KPIs and Managerial Reports
Sales 5. Incomplete/Inaccurate Orders • Data entry edit controls
Order • Restriction of Access to Master Data
Entry 6. Unauthorized Orders • Digital Signatures or written signatures
7. Uncollectible Accounts • Credit Limits
• Specific Authorization to approve sales
that exceed credit limits
• A/R Aging
8. Stockouts or Excess Inventory • Perpetual Inventory Control System
• Use of Bar Codes or RFID
• Training
• Perioding Physical Counts of Inventory
• Sales Forecasting and Activity Reports
9. Loss of Customers • CRM Systems, self-help websites, and
customer service ratings
Shipping 10. Wrong Items Shipped (Type or • Bar-codes and RFID Technology
Quantity) • Reconciliation of picking lists to sales
order details
11. Theft of Inventory • Restrict physical access to inventory
• Documentation of all inventory transfers
• RFID and Bar-code Technology
• Perioding Physical Counts
12. Shipping Errors (delays) • Reconciliation of shipping documents with
sales orders, picking lists, and packing slips
• Use RFID to identify delays
• Data entry via bar-code scanning
• Data entry edit controls (if shipping data is
entered on terminals)
• Configuration of ERP to prevent duplicate
shipments
Billing 13. Failure to Bill • Separate billing and shipping
• Periodic reconciliation of invoices with
sales orders, picking tickets, and shipping
documents
14. Errors in Billing • Configuration of system to automatically
enter pricing data
• Restrict access to pricing master data
• Data entry edit controls
• Reconciliation of shipping documents to
sales orders
15. Posting Errors in A/R • Data entry controls
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• Reconcile batch totals

• Mail monthly statements to customers
• Reconciliation of subsidiary accounts to
general ledger accounts
16. Inaccurate or Invalid Credit • Configuration of system to block credit
Memos memos unless there is either corresponding
documentation of return of damaged goods
or specific authorization by management
Cash 17. Theft of Cash • Segregation of duties: person handling
Collection deposits should not also handle posting
remittances, authorize credit memos,
prepare reconciliations
• Use of EFT, FEDI, Lockboxes to minimize
handling of payments by employees
• Obtain and use a Universal banking address
to receive EFT and FEDI payments from
Customers
• Upon opening mail, a list is created for all
customer payments immediately
• Prompt restrictive indorsements of all
customer checks
• Have two people open all mail likely to
contain customer payments
• Use cash registers
• Daily deposits of cash receipts
18. Cashflow Problems • Lockboxes, EFTs, FEDIs, or credit cards are
preferred over cash transactions
• Discounts for prompt payments is given
• Cashflow budgets are established
Procure to Pay (Including PPE)
Activity Threat Controls
General Issues 1. Inaccurate/Invalid • Data processing Integrity controls
Master Data (Vendor, • Restriction of access to master data
Inventory & Fixed • Review of all changes to master data
Assets)
2. Unauthorized Disclosure • Access controls
of Sensitive Information • Encryption
• Tokenization of customer personal
information
3. Loss or Destruction of • Backup and disaster recovery procedures
Data
4. Poor Performance • KPIs and Managerial Reports
Ordering 5. Stockouts and Excess • Use perpetual inventory
Inventory • Bar coding or RFID Tags
• Perioding physical counts are conducted
6. Purchasing Items not • Perpetual Inventory used
needed • Review and approval of PRs
• Centralized Purchasing (a buyer group)
7. Purchasing Items at • Keeping price lists
inflated prices • Competitive bidding for large
disbursements
• Review of Purchase Orders
• Budgeting
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8. Purchasing goods at • Purchase only from approved suppliers

inferior quality • Review and approval of purchases from
new suppliers
• Tracking and monitoring product quality
by supplier
• Holding purchasing managers responsible
for rework and scrappage
9. Unreliable Suppliers • Requiring suppliers to possess quality
certification
• Collecting and monitoring supplier KPIs
10. Purchasing from • Maintain a catalogue of approved suppliers
Unauthorized Suppliers and configuring the system to permit POs
only to approved suppliers
• Review and approval of purchases from
new suppliers
• EDI App-level controls
11. Kickbacks • Prohibit acceptance of gifts from suppliers
• Job rotation and mandatory vacations
• Requiring purchasing agents to disclose
financial and personal interests in
suppliers
• Supplier Audits
Receiving 12. Accepting Unordered • Requiring existence of approved PO prior
Items to accepting delivery
13. Mistakes in counting • Do not inform receiving employees of
quantity ordered
• Require receiving employees to sign
receiving report
• Incentivize correct counting
• Use Bar Codes and RFID tags
• Configure ERP system to flag discrepancies
between received and ordered quantities
that exceed tolerance threshold for
investigation
14. Not verifying receipt of • Budgetary controls
services • Audits
15. Theft of Inventory • Restrict Physical access to inventory
• Documentation of all transfers of
inventory between receiving and inventory
employees
• Periodic physical counts of inventory and
reconciliation of ordered quantities
• Segregation of duties: Custody of
inventory versus receiving
Approving 16. Errors in Supplier • Verify invoice accuracy
Supplier Invoices Invoices • Require detailed receipts for procurement
card purchases
• ERS
• Restriction of access to supplier master
data
• Verify freight bill and use of approved
delivery channels
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17. Mistakes in Posting to • Data entry edit controls

Accounts Payable • Reconciliation of detailed AP records with
GL Accounts
Cash 18. Failure to take • Filing of invoices by due date for discounts
Disbursements- advantage of discounts • Cashflow budgets
19. Inaccurate or Invalid • Budgeting for Services are required
Credit Memos • Requiring receipts for Travel Expenses
• Use of Corporate Credit Cards for Travel
Expenses
20. Duplicate Payments • Requiring complete voucher package 3-
way match
• Policy to pay only from original copies of
supplier invoices
• Cancel all supporting documents when
payment is made
21. Theft of Cash • Physical security of blank checks and
check signing machine
• Periodic accounting of all sequentially
numbered checks by cashier
• Access controls to EFT terminals
• Use of dedicated computer and browser
for online banking
• ACH blocks on accounts not used for
payments
• Separation of check-writing from A/P
• Requiring dual signatures on checks that
exceed a threshold
• Regular reconciliation of bank account
with recorded amounts by someone
independent of cash disbursements
• Restrict access to supplier master file
• Limit number of employees with ability to
create spot purchases and to process
invoices from spot suppliers
• Running petty cash as an imprest fund
• Surprise audits of petty cash fund
22. Check alteration • Check protection machines
• Use of special inks and papers
• Positive Pay arrangements with Banks
23. Cashflow problems • Cashflow budgets
Provisioning for 24. Unreasonable Accounting • Discuss Accounting Policies and Estimates
Contingencies Estimates for Accruals, in Board Meetings
and Accounting Deferred Taxes, etc. • Check reasonableness from actual and
Estimates eventual disbursement through review
Plan to Deliver
Activity Threat Controls
General 1. Inaccurate/Invalid • Data processing Integrity controls
Activities Master Data • Restriction of access to master data
• Review of all changes to master data
2. Unauthorized • Access controls
Disclosure of • Encryption
Sensitive Information • Tokenization of customer personal
information
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3. Loss or Destruction • Backup and disaster recovery procedures

of Data
Product Design 4. Poor Design • Accounting analysis of costs arising from
design choices
• Analysis of warranties and repair costs
• Project Design Appraisal
Planning and 5. Over and Under • Use of Production Planning systems
Scheduling production • Review and approval of production
schedules and orders
• Restriction of access to production orders
and production schedules
Production 6. Theft of Inventory • Physical access controls
Operations • Documentation of all inventory movement
• Segregation of duties – custody of assets
from recording and removal authorization
• Restriction of access to inventory master
data
• Periodic physical counts and reconciliation
to records
7. Theft of Fixed Assets • Physical inventory of all fixed assets
• Restriction of physical access to fixed assets
• Maintaining detailed records of fixed assets
including disposal
8. Poor Performance • Training
• Performance Reports
• Post-audit of Projects
9. Suboptimal • Proper approval of fixed asset acquisition
Investment in Fixed including use of RFQs and RFPs
Assets • Solicit multiple bidders
• Capital Budgeting
10. Loss of Assets due to • Physical safeguards such as fire sprinklers
acts of nature • Insurance
11. Disruption of • Backup and Recovery plans
Operations
Cost 12. Inaccurate Cost Data • Source data automation
Accounting • Data processing integrity controls
13. Inappropriate OH • Time-driven Activity-based Costing
allocation
14. Misleading Reports • Innovating Performance Metrics
(Throughput costing)
Hire to Exit Process
Activity Threat Controls
General Issues 1. Inaccurate/Invalid • Data processing Integrity controls
Master Data • Restriction of access to master data
• Review of all changes to master data
2. Unauthorized Disclosure • Access controls
of Sensitive Information • Encryption
• Tokenization of customer personal
information
3. Loss or Destruction of • Backup and disaster recovery procedures
Data
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4. Hiring unqualified or • Sound hiring procedures, including

larcenous employees verification of job applicants’ credentials,
skills, references, and employment history
• Criminal background investigation checks of
all applicants for finance related positions
5. Violations of • Thorough documentation of hiring,
Employment Laws performance evaluation, and dismissal
procedures
• Continuing education on changes in
employment laws
Update Payroll 6. Unauthorized changes to • Segregation of duties: HRM department
Master data payroll master data updates master data, but only Payroll
department issues paychecks
• Access controls
7. Inaccurate updating of • Data processing integrity controls
payroll master data • Regula review of all changes to master
payroll data
Validate Time 8. Inaccurate time and • Source data automation for data capture
and attendance data • Biometric authentication
Attendance • Segregation of duties (reconciliation of job-
time tickets to time cards)
• Supervisory review
Prepare 9. Errors in processing • Data processing integrity controls (batch
Payroll payroll totals, cross-footing of the payroll register,
use of a payroll clearing account and a
zero-balance check)
• Supervisory review of payroll registers and
other reports
• Issuing earnings statements to employees
• Review of BIR guidelines to ensure proper
classification of workers as either
employees or independent contractors
Disburse 10. Theft or fraudulent • Restriction of physical access to blank
Payroll, distribution of paychecks payroll checks and check signature machine
Benefits, etc. • Restriction of access to the EFT system
• Prenumbering and periodically accounting
for all paychecks
• Use of a separate checking account for
payroll, maintained as an imprest fund
• Segregation of duties (cashier vs AP; check
distribution from hiring/firing; independent
reconciliation of the payroll checking
account)
• Restriction of access to Master Payroll
database
• Verification of identity of all employees
receiving paychecks
• Redepositing unclaimed paychecks and
investigating cause
Disburse 11. Failure to make required • Configure system to make required
Withholdings, remittances, payments, payments using current instruction from BIR
and withholdings
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taxes, and 12. Untimely payments • Configure system to make required

other advances payments using current instruction from BIR
13. Inaccurate Payments • Supervisory review of reports
• Employee review of earnings statements
Financial Statement Close and Consolidation Procedure (Record to Report)
Activity Threat Controls
General 1. Inaccurate/Invalid • Data processing Integrity controls
Issues Master Data • Restriction of access to master data
• Review of all changes to master data
2. Unauthorized Disclosure • Access controls
of Sensitive Information • Encryption
• Tokenization of customer personal information
3. Loss or Destruction of • Backup and disaster recovery procedures
Data
Update 4. Inaccurate updates to • Data entry processing integrity controls
General the General Ledger • Reconcile and control reports
Ledger/ GL • Audit trail creation and review
Maintenance • Access controls
and Mapping 5. Unauthorized Journal • Reconciliation and control reports
Entries • Audit trail creation and review
Post the 6. Inaccurate Adjusting • Data entry processing and integrity controls
adjusting Entries • Spreadsheet error protection controls
entries • Standard adjusting entries
(DEPEX, • Reconciliation and control reports
Amort., • Audit trail creation and review
Allowance, 7. Unauthorized Adjusting • Access Controls
Accruals, entries • Reconciliations and control reports
Deferrals)
• Audit trail creation and review
Prepare 8. Inaccurate Financial • Processing integrity controls
Financial Statements • Use of packaged software
Statements • Training and experience in applying PFRS and
XBRL
• Auditing
9. Fraudulent Financial • Auditing
Reporting
Produce 10. Poorly Designed Reports • Responsibility Accounting
Managerial and Graphs • Balanced Scorecard
Reports and • Training on Data Analytics and Data
Compliance visualization
Forms (Tax)
Financing and Investing Cycles or Treasury
Activity Threat Controls
Long-term 1. Inaccurate Records • Hire qualified personnel/incorporate reviews
Debts • Automate the system
2. Fully-paid loans are not • BOD authorizes all issuances of Long-term
removed in lists Notes and Bonds
3. Off-balance Sheet • SOD of Lease Accounting and Lease Relations
accounting (Leases) Management
4. Failure to Reclassify • Ensure active oversight of independent
Investments financial experts from the Audit Committee
5. Failure to disclose • Ensure active oversight of independent
minimum debt payments financial experts from the Audit Committee
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6. Failure to disclose • Ensure active oversight of independent

violation of debt financial experts from the Audit Committee
covenants
Capital 7. Stock Issues are not • Management regularly obtains register of
Stock recorded issued stock from 3rd party registrar and
compares with recorded capital stock
8. Treasury Repurchases • Require BOD Authorization for Stock
are not recorded Repurchases
9. Stock Options exercised • Hire qualified staff and review their work
are not allocated
correctly
Retained 10. Declared Dividends are • Management periodically reviews Equity
Earnings not recorded Accounts
11. Prior-period errors are • Hire qualified staff and review their work
not recorded properly
12. Retained Earnings are • Hire qualified staff and review their work
not properly classified
(NCI, OCI, Approp.)
Financial 13. Management sells • Broker transaction confirmation should be
Investments investment for their own periodically reviewed by the Investment
benefit Committee of the BOD
14. Theft of Securities • Securities are held in lockboxes
• Custody should be separated from
recordkeeping
• 2 high ranking officials have access to the
safe, and always in the presence of both
15. Fictitious Interest • The Investment committee of the BOD should
Income regularly compare Investment Performance to
expectations
16. Investments form the • The responsibility for authorization of
current period may be purchases of securities should be separated
recorded in the from recording them in the ledger
subsequent period
17. Failure to record in • Qualified staff is responsible for record of FV
Market Value estimates.
18. Equity Method • Ensure accurate Financial Statements from
Investments may not be Investees are obtained on a timely basis
adjusted accordingly
19. Impairments to Cost • Management reviews investment securities for
Method and Equity evidence of other than temporary declines in
Method Securities are value.
not recorded • Separate duties of Acquisition and Valuation
20. Management fails to • Properly trained employees supervise the
appropriately account estimation process for derivative securities
for Derivatives that do
not qualify for Hedge
Accounting
21. OCI Debt Securities are • Ensure the investment committee of the BOD
misclassified as has a written policy on investment
Amortized Cost classification
22. Goodwill is not properly • Conduct Due Diligence
valued • Management regularly reviews indicators for
impairment
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Auditing in CIS Environments

In a CIS Environment, the audit scope and overall objectives do not change. However, the use of CIS
changes the processing, storage, and communication of financial information and may affect accounting
and internal control system of the entity. It may affect:
o Procedures for obtaining an understanding o The auditor’s design and performance of tests
o Consideration of Risk of Material Misstatement of control and substantive procedures
appropriate to meet the objective
Characteristics of CIS Environments
• Lack of Visible Transaction Trails – Physical files and authorities are less pronounced in CIS, and are
instead stored electronically through memory
• Consistency of Performance – Repetitive tasks can now be done efficiently and swiftly with the use
of CIS environments. The auditor can rely on similarities in formats of transactions as well as fewer
clerical errors committed, and can expect fewer deviations in control tests unless the system itself is
incorrectly set-up
• Ease of Data Access and Program Use – The auditor should expect tighter controls on authorized
access in CIS environments as well as accountability trails set up to mitigate this risk
• Concentration of Duties and Data – Since data can now be processed easily, a CIS environment may
combine data sets that interfere with segregation of duties
• Systems Generated Transactions – Programmed computations that update themselves need to be
verified, and checked for input correctness and integrity
• Vulnerability of Data and Program Storage Media – Storage media have tended to be small and
compact, and are prone to loss; adding to it the ease of leaving no visible trail of accountability/use
• Risk Management – This is the process of identifying threats/risks and vulnerabilities to the
information resources used by an organization in achieving business objectives and deciding the
countermeasures if any, to take in reducing risks. After proper risk reduction, residual risks will
remain. Managing risks generally take in these forms:
o Risk Avoidance – Eliminate the cause of the risk, essentially choosing not to implement certain
processes that would incur risk
o Mitigation – Lowering the likelihood of the risk/addressing vulnerabilities through internal controls
o Risk Sharing/ Risk Transfer – allow another party to assume the consequence of the risk
(Insurance, or outsourcing human resources)
o Risk Retention/ Risk Acceptance – accepting risks and not taking action
IS Responsibilities
Systems Administrator – responsible for maintaining multiple computer systems and networks
▪ Adding and configuration of workstations ▪ Perform procedures to
▪ Setting up user accounts/master data prevent/detect/correct viruses
▪ Installing system-wide software ▪ Allocating storage space
Security Administrator – responsible for systems security/ custody over intellectual property
▪ Monitoring security violations and taking ▪ Prepare and monitor security awareness
corrective action ▪ Stress testing security architecture and to
▪ Maintain access rules to IT/IS resources detect possible threats
▪ Periodic review of security policy
Database Administrator – responsible for organization data management, defines and maintains the data
structure of the corporate database system.
▪ Specifying physical data definition ▪ Manages IS segregation of duties
▪ Changing physical data definition to ▪ Manage approval of Database
improve performance Administration activities
▪ Selecting and implementing data ▪ Supervisor review of access logs and
optimization tools activities
▪ Testing and evaluating programmer and ▪ Implementing database controls and
optimization tools concurrency controls
Network Administrators – responsible for key components of network infrastructure (routers, switches,
firewalls, network segmentation, performance management, remote access, etc.)
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Roles and Duties in CIS Environments

Separate Information Systems from Other Departments
IS department personnel should be separated from the departments and personnel that they support
• Users initiate and authorize all systems changes, and a formal written authorization is required.
• Asset custody remains with the user departments.
• An error log is maintained and referred to the user for correction. The data control group follows
up on errors.
Separate Responsibilities within the Information Systems Department
Responsibilities within the Information Systems Department should be separated from one another. An
individual with unlimited access to a computer, its programs, and its data could execute a fraud and at
the same time conceal it. Therefore, effective segregation of duties should be instituted by separating
the authority for and the responsibility for the function.
• Systems analysts are responsible for reviewing the current system to make sure that it is meeting
the needs of the organization, and when it is not, they will provide the design specifications to the
programmers of the new system. Systems analysts should not do programming, nor should they
have access to hardware, software or data files.
• Programmers are the individuals who write, test and document the systems. They can modify
programs, data files and controls, but should not have access to the computers and programs that
are in actual use for processing. For instance, if a bank programmer were allowed access to actual
live data and had borrowed money from the bank, he or she could delete their own loan balance
while conducting a test. When programmers must do testing, they should work with copies of
records only and should not have the authority, opportunity or ability to make any changes in
master records or files.
• Computer operators perform the actual operation of the computers for processing the data. They
should not have programming functions and should not be able to modify any programs. Their job
responsibilities should be rotated so no one operator is always overseeing the running of the same
App. The most critical segregation of duties is between programmers and computer operators.
• The data control group receives user input, logs it, monitors the processing of the data, reconciles
input and output, distributes output to authorized users, and checks to see that errors are
corrected. They also maintain registers of computer access codes and coordinate security controls
with other computer personnel. They must always keep the computer accounts and access
authorizations current. They should be organizationally independent of computer operations.
Systems control personnel should be responsible for detecting and correcting errors, not computer
operators.
• Transaction authorization: Users should submit a signed form with each batch of input data to
verify that the data has been authorized and that the proper batch control totals have been pre-
pared. Data control group personnel should verify the signatures and batch control totals before
submitting the input for processing. This would prevent a payroll clerk, for instance, from
submitting an unauthorized pay increase. Furthermore, no personnel in the Information Systems
group should have authority to initiate or authorize any entries or transactions.
• Data conversion operators perform tasks of converting and transmitting data. They should have no
access to the library or to program documentation, nor should they have any input/output control
responsibilities.
• Librarians maintain the documentation, programs and data files. They should have no access to
equipment. The librarian should restrict access to the data files and programs to authorized
personnel at scheduled times. Furthermore, the librarian maintains records of all usage, and those
records should be reviewed regularly by the data control group for evidence of unauthorized use.
• Only authorized people should be able to call program vendor technical support departments. If
vendor-supplied systems are used, the vendors’ technical support area should have a means of
identifying callers and should give technical instructions for fixing problems only to employees who
are authorized to receive such instructions.
• The database administrator controls access to various files, making program changes, and making
source code details available only to those who need to know.
• The location of any off-site storage facilities should be known by as few people as possible.
• No IS personnel should have access to any assets that are accounted for in the computer system.
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Internal Control in CIS Environments

• CIS Departments must be segregated and separated physically & administratively from user
departments
• Programmers, Auditors, and other users must not be the same people; Duties must still be segregated
• Segregation of Duties – Incompatible Duties in an IS Environment
o Systems Developer must not be assigned to Computer Operations/User as there is a risk
of manipulating controls set-up to control operations
o Database Administrators from all other functions – There are significant risks of privacy
breaches when a database administrator has access to all other IS functions
o Systems Developer from Maintenance – Maintenance groups generally need
documentation from the Systems developer. If the Same person holds both functions, there
is a risk of fraud around the IS systems development (concealing functions that may
misappropriate assets such as receivables, cash, etc.)
• Systems Documentation must be provided to aid in the understanding of the entity, not only for the
auditor, but also for the users and future programmers who will run codes
• Access Controls, especially for sensitive data must be in place
• Data Recovery Controls such as back-up files preserve databases in the long run
• Monitoring Controls must be in place to keep periodic evaluation and effectiveness on check
• Application Controls – How can users properly use the CIS environment to their advantage?
o Input Controls – Data entry to a system (Keying, field checks, validity checks, etc.)
o Processing Controls – Database Safety and Organization (code usage, internet security)
o Output Controls – Restricted access to unauthorized personnel
Business Continuity Management
Business Continuity Management – Process Companies should conduct business continuity planning on
an enterprise-wide basis. A BCP is not limited to restoration of IT systems and services, or restoration of
data maintained in electronic form.
Business Continuity Planning – Which part of the business must be maintained ‘healthy’ at all costs?
• Prioritizing critical business functions • Reviewing test results
• Allocating sufficient resources & personnel • Ensuring maintenance of the BCP.
• Approving the Business Continuity Plan (BCP)
Phases of a Business Continuity Plan:
1. Formulation of Business Impact Analysis
2. Risk assessment /Gap Analysis of BCP and Threats Analysis
3. Risk management/Written, disseminated, enterprise wide applied BCP
4. Risk monitoring/ IT Audit and BCP Updates
Business Impact Analysis (BIA)
• BIA is the first step in developing a BCP. It should include:
• Identification of potential impact of uncontrolled, nonspecific events on the entity’s business
processes and its customers; •
• Consideration of all departments and business functions, not just data processing; and
• Estimation of maximum allowable downtime and acceptable levels of data, operations, and financial
losses. Management should establish recovery priorities for business processes.
Recovery Objectives such as the recovery time and point objectives shall be made by management to
determine appropriate recovery strategies.
• Recovery Time Objective (RTO)
o How much time can an entity afford to pass before it suffers from significant losses brought
about by any business disruption?
o How soon does an entity need to recover critical business functions affected by any disruption
before it experiences intolerable damages?
• Recovery Point Objective (RPO)
o How much data can an entity afford to lose before it incurs significant costs to restore them?
o At what point should data be restored before an entity would experience losses and damages?
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Systems Analysis and Design

Systems Development Life Cycle (SDLC) is:
• a systematic approach to solving business problems.
• a logical sequence of activities used to identify new systems needs and to develop new systems
to support those needs.
Participants in Systems Development
1. Systems professionals – are systems analysts, systems engineers, and programmers. These
individuals actually build the system.
2. End users – are those for whom the system is built. These include managers, operations
personnel, accountants, and internal auditors.
3. Stakeholders – are individuals either within or outside the organization who have an interest in
the system but are not end users. These include accountants, internal and external auditors, and
the internal steering committee that oversees systems development.
4. Control Professionals – those who address the controls, accounting, and auditing issues for
systems development. Control professionals (such as auditors) are involved in SDLC in three ways:
a) End users
b) Members of the systems project or development team
c) Independent auditors
Phases in the SLDC
• Systems Analysis – involves a survey of the current system and an analysis of the user’s needs.
The primary purpose for conducting a systems analysis is to identify user needs and specify
requirements for the new system.
• Systems Design – The purpose of the detailed system design is to produce a detailed description
of the proposed system that both satisfies the system requirements identified during systems
analysis and is in accordance with the conceptual design.
• System Development, Programming and Testing – Test the Application Software All program
modules must be thoroughly tested before they are implemented. The results of the tests are
then compared against predetermined results to identify programming and logic errors.
o The auditor’s role is to verify systems personnel and projects used for testing procedures.
The auditor should inquire into the testing of systems offline prior to deployment online,
and test data and test results. The auditor may even want to use the test data to test
controls in applications.
• System Implementation – In the system implementation phase, database structures are created
and populated with data, equipment is purchased and installed, employees are trained, the
system is documented, and the new system is installed. The system’s documentation provides
the auditor with essential information about how the system works.
• Systems Maintenance Systems – maintenance involves changing systems to accommodate
changes in user needs.
IS in Business Operations
Network – A network is a communication system that enables computer users to share computer
equipment, application software, data and voice and video transmissions.
Local Area Networks (LANs) – arrangement where two or more personal computers are linked together
through the use of special software and communication lines.
Metropolitan Area Network (MAN) – type of network that multiple buildings are close enough to create
a campus, but the space between the buildings is not under the control of the company, so a service
provider must be used to connect the buildings
Wide Area Network (WAN) – created to connect two or more geographically separated LANs.
Network Topologies
• Bus Topology
o The nodes are all connected to a common cable – the bus.
o It is generally less costly to install than a ring topology.
• Ring Topology
o This configuration eliminates the central site. All nodes in this configuration are of equal
status (peers).
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o Responsibility for managing communications is distributed among the nodes.

o Common resources that are shared by all nodes can be centralized and managed by a file
server that is also a node.
• Hierarchical or Tree Topology
o A host computer is connected to several levels of subordinate smaller computers in a master-
slave relationship.
• Star Topology
o A network of computers with a large central computer (the host) • The host computer has
direct connections to smaller computers, typically desktop or laptop PCs. Mesh or
• Double Star Topology
o Similar to star topology but with greater redundancy
o Offers the greatest resiliency but most expensive to implement
• Client-Server Architecture
o This configuration distributes the processing between the user’s (client’s) computer and the
central file server.
Network Devices and Peripherals
• Network Interface Cards (NICs) – NICs are circuit boards used to transmit and receive commands and
messages between a PC and a LAN.
• Modems – is a device that modulates and demodulates signals. They are primarily used for converting
digital signals into quasi-analog signals for transmission over analog communication channels and for
reconverting the quasi-analog signals into digital signals.
• Repeaters – Repeaters offer the simplest form of interconnectivity. They merely generate or repeat
data packets or electrical signals between cable segments.
• Hubs – Hubs concentrate connections. In other words, they take a group of hosts and allow the
network to see them as a single unit.
• Bridges – a bridge is a device that connects similar or dissimilar LANs together to form an extended
LAN.
• Switches - Workgroup switches add more intelligence to data transfer management. They can
determine if data should remain on a LAN and transfer data only to the connection that needs it.
• Routers - Routers are the backbone devices of large intranets and of the Internet. The two main
functions of a router are the selection of best path and the switching of packets to the proper
interface.
• Gateways – Gateways are used to connect LANs to host computers. Gateways act as translators
between networks using incompatible transport protocols. A gateway is used to interconnect
networks that may have different architectures.
Types of Online Computer Systems
Online computer systems may be classified according to how information is entered into the system, how
it is processed and when the results are available to the user.
For purposes of this Statement, online computer systems functions are classified as follows:
• Online/Real Time Processing – Individual transactions are entered at workstations, validated and
used to update related computer files immediately.
• Online/Batch Processing – Individual transactions are entered at a workstation, subjected to
certain validation checks and added to a transaction file that contains other transactions
entered during the period. Later, during a subsequent processing cycle, the transaction file may
be validated further and then used to update the relevant master file.
• Online/Memo Update (and Subsequent Processing) – Also known as shadow update, combines on-
line/real time processing and on-line/batch processing. Individual transactions immediately
update a memo file containing information which has been extracted from the most recent
version of the master file. Inquiries are made from this memo file. These same transactions are
added to a transaction file for subsequent validation and updating of the master file on a batch
basis.
Other IS Capabilities
Database Systems – A database is composed of data which are set up with defined relationships and are
organized in a manner that permits many users to use the data in different application programs.
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• Database systems are comprised principally of two essential components—the database and
the database management system (DBMS).
• The DBMS is a special software system that is programmed to know which data elements
each user is authorized to access. The user’s program sends requests for data to the DBMS,
which validates and authorizes access to the database in accordance with the user’s level
of authority. If the user requests data that he or she is not authorized to access, the request
is denied.
Cloud Computing – is Internet-based computing, whereby shared resources, software, and information
are provided to computers and other devices on demand, like the electricity grid. In general, Cloud
computing customers do not own the physical infrastructure, instead avoiding capital expenditure by
renting usage from a third-party provider. They consume resources as a service and pay only for resources
that they use.
• Software as a Service (SaaS) – Using the service provider’s applications running on cloud
infrastructure. Consumer does not manage cloud infrastructure including networks, servers,
operating systems, storage, or even individual app capabilities with the exception of limited
application configuration settings
• Platform as a Service (PaaS) – the consumer deploys onto the cloud consumer related or
acquired applications created using programming languages, libraries, services, and tools
supported by the provider. Consumer does not manage cloud infrastructure including networks,
servers, operating systems, storage but has control over individual app capabilities
• Infrastructure as a Service (IaaS) – The consumer is allowed to provide processing, storage,
networks, and other fundamental computing resources where the consumer is able to deploy
and run arbitrary software, which can include operating systems and applications. The consumer
does not have control over cloud infrastructure, but has control over operating systems, storage,
and deployed applications, and even possible limited control of select network components
• Disaster Recovery as a Service (DRaaS) – Refers to an always on hosted disaster recovery
solution. The service provider is responsible for deploying and managing applications and
services required to support an organization’s mission critical activities
Big data – is a term used to refer to the study and applications of data sets that are so big and complex
that traditional data processing application software are inadequate to deal with them. Big data can be
described by the following characteristics:
1. Volume – The quantity of generated and stored data. The size of the data determines the value and
potential insight, and whether it can be considered big data or not.
2. Variety – The type and nature of the data. This helps people who analyze it to effectively use the
resulting insight. Big data draws from text, images, audio, video; plus it completes missing pieces
through data fusion.
3. Velocity – In this context, the speed at which the data is generated and processed to meet the
demands and challenges that lie in the path of growth and development. Big data is often available
in real-time.
4. Veracity – The data quality of captured data can vary greatly, affecting the accurate analysis. Data
must be processed with advanced tools (analytics and algorithms) to reveal meaningful information.
For example, to manage a factory one must consider both visible and invisible issues with various
components. Information generation algorithms must detect and address invisible issues such as
machine degradation, component wear, etc. on the factory floor.
Big data analytics – is the process of examining large and varied data sets – i.e., big data – to uncover
hidden patterns, unknown correlations, market trends, customer preferences and other useful
information that can help organizations make more-informed business decisions.
The Internet of things\(IoT) – is the network of physical devices, vehicles, home appliances, and other
items embedded with electronics, software, sensors, actuators, and connectivity which enables these
things to connect, collect and exchange data, creating opportunities for more direct integration of the
physical world into computer-based systems, resulting in efficiency improvements, economic benefits,
and reduced human exertions. IoT involves extending Internet connectivity beyond standard devices,
such as desktops, laptops, smartphones and tablets, to any range of traditionally dumb or non-internet-
enabled physical devices and everyday objects. Embedded with technology, these devices can
communicate and interact over the Internet, and they can be remotely monitored and controlled.
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Blockchain – is a digital ledger of economic transactions that can be programmed to record not just
financial transactions but virtually everything of value. It is a growing list of records, called blocks, which
are linked using cryptography. Each block contains a cryptographic hash of the previous block, a
timestamp, and transaction data.
By design, a blockchain is resistant to modification of the data. It is "an open, distributed ledger that can
record transactions between two parties efficiently and in a verifiable and permanent way". For use as
a distributed ledger, a blockchain is typically managed by a peer-to-peer network collectively adhering
to a protocol for inter-node communication and validating new blocks. Once recorded, the data in any
given block cannot be altered retroactively without alteration of all subsequent blocks, which requires
consensus of the network majority.
Artificial Intelligence and Machine Learning
Artificial Intelligence (AI) is the branch of computer sciences that emphasizes the development of
intelligence machines, thinking and working like humans.
Research associated with artificial intelligence is highly technical and specialized. The core problems of
artificial intelligence include programming computers for certain traits such as:
• Knowledge • Perception
• Reasoning • Learning
• Problem solving • Planning
• Ability to manipulate and move objects
Machine Learning (ML) is an application of AI that provides systems the ability to automatically learn
and improve from experience without being explicitly programmed. ML focuses on the development of
computer programs that can access data and use it learn for themselves.

Common applications of AI and ML include: virtual assistants, driverless cars, drones, fraud detection,
email spam filtering, facial and speech recognition and surveillance, continuous audit, medical diagnosis,
learning associations (e.g, association between products people buy), financial services (e.g., market
analysis, customer spending patterns, credit decisions, etc.), traffic predictions, social media services
(e.g., ads targeting, product recommendations, people you may know), search engine results refining,
etc. Key differences between AI and ML
Artificial Intelligence Machine Learning
Aims to Increase chance of success Aims to increase accuracy and not success
Works as a computer program that does smart Takes data and learn from data
work
The goal is to simulate natural intelligence to The goal is to learn from data on certain tasks to
solve complex problems maximize performance of the machine on a task
AI is for Decision Making Machine Learning allows systems to learn new
things from data
Leads to development of a system to mimic Involves creating self-learning algorithms
humans to respond or behave in circumstances
AI goes for finding the best and optimal solution ML only goes for solutions whether or not it is
optimal
AI leads to intelligence or wisdom ML leads to knowledge
Information Security Management
Key Elements of Information Security Management
• Senior management commitment and support • Security awareness and education
• Policies and procedures • Monitoring and compliance
• Organization • Incident handling and response
Classification of Information Assets
Classification of information assets reduces the risk and cost of over or under protecting information
resources in tying security in with business objectives.
System Access Permissions System
Physical or logical access to any computerized information should be on a documented need-to-know
basis, where there is a legitimate business requirement based on least privilege & segregation of duty.
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Computer Crimes and Exposures

Computer systems can be used to steal money, goods, software, or corporate information. Loss of
customers, embarrassment to management and legal actions against the organizations can be a result.
Perpetrators in computer crimes are often the same people who exploit physical exposures, although
skills needed to exploit logical exposures are more technical & complex. Possible perpetrators include:
• Hackers and Script kiddies • Interested and Educated Outsiders such as
• Crackers Competitors, Terrorists, Organized Criminals
• Insider Threats • Part-time and temporary or contractual or
• Third parties project-based personnel
• Accidental Ignorant or Village Fools
Logical Access Exposures
Malwares such as Round-down technique
• Bugs, Bots, Viruses, Worms, Adware, Spyware, Trojans
Salami Techniques Logic Bombs
Trapdoors or Backdoors Data Leaking/Wire tapping
Piggybacking Denial of Service or Distributed DoS
Social Engineering Phishing
Baiting Vishing/ID Spoofing
Juice Jacking Cyber Extortion
Brute force attack Dial-in penetration attacks
Man-in-the-middle attack Spamming
IT General Application Controls
• IT General Controls (ITGC) pertain to all activities involving a firm’s IS activities and resources.
The purpose of general controls is to establish a framework of overall control over the IS activities
and to provide a reasonable assurance that the overall objectives of internal control are
achieved. ITGC represent the foundation of the IT control structure.
• They help ensure the reliability of data generated by IT systems and support the assertion that
systems operate as intended and that output is reliable. ITGC are grouped into:
1) Control environment/governance or those controls designed to shape the corporate culture.
2) SDLC standards and practices – controls designed to ensure IT projects are effectively managed.
a) Source code/document version control procedures – controls designed to protect the integrity
of program code.
b) Change management procedures – controls designed to ensure the changes meet business
requirements and are authorized.
c) Hardware/software configuration, installation, testing, management standards, policies and
procedures.
3) Logical access policies, standards and processes – controls designed to manage access based on
business need.
4) Incident management policies and procedures – controls designed to address operational
processing errors.
5) Problem management policies and procedures – controls designed to identify and address the root
cause of incidents.
6) Technical support policies and procedures – policies to help users perform more efficiently and
report problems.
7) Disaster recovery/backup and recovery procedures, to enable continued processing despite
adverse conditions.
8) Physical security – controls to ensure the physical security of IT from individuals and from
environmental risks.
IT Application Controls
• IT Application controls pertain directly to the transaction processing systems. The purpose of
application controls is to establish specific control procedures over the application systems in
order to provide reasonable assurance that all transactions are authorized and recorded, and are
processed completely, accurately and on a timely basis. Application controls are subdivided into
input, processing and output controls.
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Controls over Input

Assertions:
• Transactions are properly validated and • Transactions are not lost, added, duplicated or
authorized before being processed by the improperly changed.
computer. • Incorrect transactions are rejected, corrected
• Transactions are accurately converted into and, if necessary, resubmitted on a timely basis.
machine readable form and recorded in the
computer data files.
Controls:
Data Observation and Recording
• The use of pre-numbered documents
• Keeping blank forms under lock and key
• Online computer systems offer the following features:
o Menu screens o Preformatted screens
o Feedback mechanisms such as a o Scanners that read bar codes or other
confirmation slip to approve a transaction preprinted documents to reduce input errors
Data Transcription (Batching and Converting)
• Carefully structured source documents and input screens
• Batch control totals that help prevent the loss of transactions and the erroneous posting of
transaction data
o Batch Control Logs, Amount Control Total, Hash Totals, Record Counts
• Key Verification
• Visual verification
Edit Tests of Transaction Data
• Validity Checks (e.g., M = Male, • Sequence Check (successive input is done
F = Female, X = Non-binary) in some order
• Limit Checks (X is either =,<,>, ><, etc. • Range Check (particular fields fall within
• Reasonableness Check particular ranges, depending on some
• Field Checks criteria)
Transmission of Transaction Data
• Echo Check – transmitting data back to the originating terminal for comparison with the
transmitted data
• Redundancy Data Check – transmitting additional data to aid in the verification process
• Completeness Check – all required data is entered and transmitted
Controls over Processing and Computer Data Files
Assertions:
• Transaction, including system generated • Transactions are not lost, added, excluded,
transactions are properly processed by the duplicated or improperly changed
computer • Processing errors are identified and corrected
on a timely basis
Controls:
Manual Cross-Checks – include checking the work of another employee, reconciliations and
acknowledgments.
Processing Logic Checks – many of the programmed edit checks, such as sequence checks and
reasonableness checks (e.g., payroll records) used in input stage, may also be used during processing.
Run-to-Run Totals – batched data should be controlled during processing runs so that no records are
omitted or incorrectly inserted into a transaction file.
File and Program Changes – to ensure that transactions are posted to the proper account, master files
should be checked for correctness, and programs should be validated.
Audit Trail Linkages – a clear audit trail is needed to enable individual transactions to be traced, to
provide support in general ledger balances, to prepare financial reports and to correct transaction
errors or lost data.
Others – recalculations and cross-checks, editing, programmed controls, reconciliation of file totals,
and exception reports.
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Controls over Outputs

Assertions:
• Results of the processing are accurate • Output is provided to appropriate
• Access to Output is restricted to authorized personnel authorized personnel on a timely basis
Controls:
Logging and Storage of Negotiable, Sensitive and critical forms in a secure place
Computer generation of negotiable instruments, forms, and signatures
Report Accuracy, completeness, and timelines
Output Error Handling
Output Report Retention
Verification of Receipt of Records
Implications on the use of Tests of Controls:
The general IS controls may have a pervasive effect on the processing of transactions in application
systems. If these controls are not effective, there may be a risk that misstatements might occur and go
undetected in the application systems. Thus, weaknesses in general IS controls may preclude testing
certain IS application controls; however, manual procedures exercised by users may provide
effective control at the application level.
Procedures in Tests of Control
• Review written policies, procedures & standards • Formal security awareness and training – should
• Logical access security policies – “need-to- be directed by the security administrator
know” basis or least privilege principle • Documented authorization
Auditing Around the Computer
Instead of understanding how a CIS Process works, an auditor could ignore the procedure, and instead,
check the Input Integrity and Assess the Output Quality. The two should refer to a common procedure
when they are reconciled (a.k.a. Black Box Approach). Useful when the input data is physical, stored,
or authentic.
Computer-Assisted Auditing Techniques (Auditing Through the Computer)
Here, with the aid of Auditing Software and data, the Auditor aims to understand the Accounting system
through its intricacies. This is especially useful when the system leaves no physical trace of transactions
(a.k.a. White Box Approach)
Program Analysis Program Testing Systems Review
Used to gain understanding Use of auditor-controlled actual or Review of active systems; requiring the
of client program simulated data to acquire direct auditor to understand database
evidence management
Code Reviews Test Data Job Accounting Data
Comparison Programs Base-case System Evaluation Library Management Software
Flowcharting Software Integrated Test Facility Access Control and Security Software
Program Mapping Parallel Simulation
Snapshots Controlled Reprocessing
Concurrent Testing
A critical thing to note in using CAATs is the fact that auditors have to decide whether a test will require
creating a testing environment within the system or if a test will require operating within the actual
system in use (a.k.a. Production Environment).
• Packaged or General Audit Software – Used to perform common tasks. The computer can select,
extract, and process sample data from computer files. Generalized audit software can be used on
mainframe computers and on PCs. Generalized audit software can check computations, search files
for unusual items, and perform statistical selection of sample data. It can also prepare
confirmation requests.
• Customized/Purpose-written programs – for specific circumstances where GAS is unsuitable.
• Utility Programs – Audit capabilities that are integrated into the software package used by client,
unlike Embedded Audit Routines, this is already included in the software package, whereas EARs
need to be built first.
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• Embedded Audit routines – built-in audit programs by the auditor into client system, some systems
include audit modules that only auditors (internal and external) should be able to access.
o Embedded audit routines involve modifying a regular production program by building
special auditing routines into it so that transaction data can be analyzed. Embedded audit
data collection is one type of embedded audit routine, and it uses specially programmed
modules embedded as inline code within the regular program code. The embedded routine
selects and records data as it is processing the data for normal production purposes, for
later analysis and evaluation by an auditor.
o Transactions are selected by the embedded audit routine according to auditor-determined
parameters for limits and reasonableness. Transactions that violate those parameters are
written to a file as exceptions. Alternatively, transactions might be selected randomly. If
transactions are selected randomly, the objective is to create a statistical sample of
transactions for auditing.
o The approach that selects transactions that violate established limits is called a system
control audit review file (SCARF). The approach that selects random transactions is called a
sample audit review file (SARF).
o It is easier to develop embedded audit routines when a program is initially developed than
to add them later.
• Test data techniques in audits – Use a sample of dummy transactions into client’s system and
comparing results obtained with predetermined results.
o Data used as test data might be real data, or it might be fictitious transactions. Since test
data is not data that should be processed, it is important to ensure that the test data do
not actually update any of the real data files maintained by the system.
o Test data can only evaluate programs. Other tests that verify the integrity of input and
output are required as well. And the test data usually cannot represent all possible
conditions that a computer program might encounter in use. Furthermore, test data can be
run only on a specific program at a specific time. Because the test data must be processed
separately from other data, the auditor cannot be sure that the program being tested is
the same program that is used in actual processing.
• Integrated Testing Facility - An Integrated Test Facility (ITF) involves the use of test data and
creation of test entities that do not really exist, such as vendors, employees, products, or
customers. The fictitious entities are included in the system’s master files, and the test data are
processed concurrently with real transactions. The transactions are processed against live master
files that contain the real records as well as the fictitious records.
o The major difference between test data and an ITF is that the test data in an ITF are
processed along with real data. No one knows that the data being processed includes
these fictitious entries to fictitious records. In this way, the auditor can be sure that the
programs being checked are the same programs as those that are being used to process the
real data.
o The difficulty with using the ITF approach is that the fictitious transactions have to be
excluded from the normal outputs of the system in some way. This may be done manually,
or it may be done by designing or modifying the application programs. Either way, the
fictitious transactions must be identified by means of special codes so they can be
segregated from the real data. Careful planning is required to make sure that the ITF data
do not become mixed in with the real data, corrupting the real data.
o If this careful planning is done, the costs of using ITF are minimal, because there is no
special processing required and thus no interruption of normal computer activity. There are
costs involved in developing an ITF, both while the application is being developed and as
later modifications are made to it. However, once the initial costs are past, the ongoing
operating costs are low.
o ITF is normally used to audit large computer systems that use real-time processing.
• Parallel Simulation - Parallel simulation is an audit technique that uses real data rather than
simulated data but processes it through test or audit programs. The output from the parallel
simulation is compared with the output from the real processing.
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o Parallel simulation is expensive and time-consuming and is usually limited to sections of an

audit that are of major concern and are important enough that they require an audit of
100% of the transactions.
o Since parallel simulation is done using test programs, the parallel simulation can be done
on a computer other than the one used for the real processing. However, the auditor
should make sure that the system used for the real processing of the output that is used for
comparison is the same one that is used all the time.
• Extended Records and Snapshots - Extended records refers to modifying a program to tag
specific transactions and save all their processing steps in an extended record, permitting an audit
trail to be reconstructed from one file for those transactions. Transactions might be selected
randomly, or they might be selected as exceptions to edit tests.
o The snapshot technique “takes a picture” of a transaction as it is processed. Program code
is added to the application to cause it to print out the contents of selected memory areas
when the snapshot code is executed. A snapshot is used commonly as a debugging
technique. As an audit tool, snapshot code can be used only for transactions that exceed
predetermined limits.
o Extended records and snapshot are very similar. The difference is that snapshot generates
a printed audit trail, while extended records incorporates snapshot data in the extended
record file rather than on hard copy.
• Mapping - Mapping involves using special software to monitor the execution of a program. The
software counts the number of times each program statement in the program is executed. This
originally was a technique used for program design and testing, but auditors use it to determine
whether program statements are being executed. Mapping can help determine whether program
application control statements that appear in the source language listing of the program are
executed when the program runs and have not been bypassed. It can also locate “dead” program
codes and can flag codes that may be being used fraudulently.
o Mapping can be used with a program running test data. The output of the mapping program
can indicate whether there is unused code in the program. All unused codes are
investigated, and the purpose of the unused code is evaluated to determine whether it
should stay in the program or be removed.
• Base-case System Evaluation – test data that include every possible error in a single transaction
o Base case system evaluation is a special case of test data that requires an all-inclusive set
of test data in order to test every possible data and processing condition. This method is
time-consuming and expensive and best developed by an internal audit staff. The external
auditor should refer to professional standards in deciding whether to rely upon the work of
an internal audit department
• Concurrent Testing - Concurrent testing is performed to test the stability of a client software when
a multiple number of users access and utilize its services, at a same time. This helps in getting a
rough idea of the problems arising out of multiple usages such as increased response time, crashes,
deadlocks and throughputs.
• Controlled Reprocessing – involves reprocessing client data through copies of client applications.
o Reprocessing does not ordinarily continuously test controls within a computer system.
Controlled reprocessing, a variation of parallel simulation, processes actual client data
through a copy of the client's application program using software provided by the auditor
• Audit hooks – Auditors on many occasions come across suspicious transactions. Audit hooks are
software that enables the auditors to tag these transactions. Whenever similar transactions recur,
reports are immediately generated and sent to the auditors. This keeps the auditor informed and
alert to any deviations and instances of fraud.
• Job Accounting - Job accounting is a function that can be used to track usage of system resources.
The journal accounting information system value determines what type of system usage information
is journaled to the system accounting journal.
• Library Management Software – This is an audit software that allows the auditor to monitor changes
to data, who used which system on what date, the frequency of use, level of authority, etc.
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Evidence Gathering, Documentation, and Sampling

The Auditor’s Objective when gathering evidence should be to acquire evidence both sufficient and
appropriate, in order to acquire a basis for arriving at a conclusion about the audit opinion.
Procedure Risk Assessment Test of Control Substantive Test Wrap-up ***
Inquiry / / / /
Inspection / / / -
Observation / / / -
Reperformance - / - -
Confirmation - - / /
Recalculation - / / -
Analytical Procedures / - / /
• Inspection – Viewing records, actual assets, or entitlements thereto
• Inquiry – simple correspondence verbally or in writing with parties related to the firm
• Observation – Watching how a procedure is done
• Reperformance – Redoing the same control procedure
• Confirmation – Asking from a third party
• Recalculation – Redoing the same steps to a computation
• Analytical Procedures – Viewing relationships between amounts, data and information
Classification of Audit Evidence
• Information contained in the accounting records
• Other Corroborating Information found in previous audits, the quality control procedures of the
firm for client acceptance, and others
• These may be obtained in the Risk Assessment and Planning Phase, Tests of Controls, and
Substantive Tests.
Sufficiency – The quantity of audit evidence
Appropriateness – The quality of audit evidence
• Relevant Evidence – are those pieces of evidence that are related directly to the management
assertion
• Reliable Evidence – ultimately refers to the true state of an assertion, influenced by source,
nature, and the circumstance of obtaining said piece of evidence
o External Evidence is more reliable than Internal Sources
o Internally generated evidence is more reliable when controls are effective
o Evidence obtained directly by the auditor are more reliable than those obtained by
inference
o Evidence in documentary form is more reliable than those orally represented
o Evidence is more reliable when these are the true original copies, instead of their
photocopies
• More quantities of evidence do not necessarily compensate for their poor quality
Substantive Testing
Using the information obtained in Audit Planning and Consideration of Internal Control, the auditor
performs substantive tests to determine whether the entity’s financial statements are presented fairly
in accordance with financial reporting standards. The extent of substantive testing depends on the
evaluation of internal control. It is used to detect material misstatements at the assertion level.
• Test of Details of Transactions, Balances and Disclosures – A closer look into how amounts
under an account actually aggregates to be what is presented in the financial statements
o Conducted ideally before year-end
o Conduct tests on related accounts on a common date
• Tests of Transactions and Events are applied to accounts with small volumes of transactions
with relatively material amounts
• Test of Balances are applied to accounts with voluminous transactions with generally material
amounts
o Accordingly, the extent of Substantive Testing depends on the level of Detection Risk
determined by the auditor.
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• Analytical Procedures as Audit Evidence

o Involves considerations of comparisons
o Elements expected to fall into a pattern
o Relationship between financial and non-financial information
o Allows the auditor to determine the Reliability of Data (Source of Information,
comparability, nature and relevance, controls) in comparison with the auditor’s
expectations, in so doing, some acceptable and unacceptable differences may be
determined
o Analytical Review procedures may provide appropriate assurance for some assertions; it
determines the suitability of particular substantive analytical procedures for given
assertions, taking into account the assessed risks of material misstatements and tests of
details, if any
o Done primarily in consideration of Efficiency of Auditing in the FAP Phase
Phase Objective Outcome Required?
Planning Phase Assist in planning Identification of risk areas Yes
Substantive Design and perform Identified relationships that lead to inquiry No
Testing procedures or reperformance
Review Assist in arriving at Check if Relationship of accounts are Yes
conclusions consistent or not
Typical Audit Procedures per PSA 501
• Inventories - Physical Counts/Inspection (Existence)
o Evaluate instructions of conducting the count, and observe the performance.
o Perform Test Counts
o Attendance during the Count
▪ Unable – set at an alternative date and perform procedures on interim
transactions
▪ Impracticable – perform alternative procedures
▪ Under Custody – confirm with the warehouseman, or conduct an inspection
• Litigations and Claims (Completeness)
o Inquiry with management wherever applicable and in-house legal counsel
o Review minutes of meetings
o Review Legal Expense Accounts
o Direct Communication with External Legal Counsel through letter of general inquiry
▪ Acquire consent of management
▪ Prepared by management, mailed by and to the auditor
▪ Unlikely to Respond – issue letter of specific inquiry that contains
• List of litigation and claims, management’s assessment, confirmation of
reasonableness of estimates
o Refusal by management will require an inquiry for the reasons of non-issuance of
confirmation letter; any pervasive and material preclusions will warrant a disclaimer of
opinion.
• Segment Information (Presentation and Disclosure)– Obtain understanding of methods used by
the management in determining segment information:
o Evaluate whether those methods result in reliable disclosure in accordance with
applicable framework
o Test the application of methods
o Perform analytical procedures to detect significant differences
• Confirmation (Existence)
o Auditor maintains control over requests such as determining the information requested,
selecting the appropriate confirming party, designing the requests, and sending the same
(the letter is headed by the management, and is mailed by and back to auditor)
o Positive Conformation – High risk of material misstatement and for small transaction
volumes; unlikely response, involving large amounts, amounts are in dispute
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o Negative Confirmation – Low risk of material misstatement, and for large transaction
volumes, with few to no exceptions expected
o Refusal by management will require an inquiry for the reasons of non-issuance of
confirmation letter. Alternative procedures are performed before finally concluding
a significant preclusion to gather evidence; if no evidence can be gathered, any
pervasive and material preclusions will warrant a disclaimer of opinion.
• Directional Testing
o Test to Discover Errors – Start from Records end with Source Documents
(Overstatements, Vouching)
o Test to Discover Omissions – Start from Source Documents end with Records
(Understatement, Tracing)
• Accounting Estimates (PSA 540; Valuation and Allocation) to check correctness, comparing
them to industry averages to check reasonableness
o Review and test the processes of management to develop the estimate
o Make an independent estimate
o Review subsequent events that confirm the estimate
• Related Parties (PSA 550; Presentation and Disclosure)) determine adequate disclosure,
including changes from the prior period.
o Make an inquiry with management and others within the entity and perform other Risk
Assessments to obtain understandings of controls
o Checking the disclosure and relationships in accordance with the framework
o Check for authorization of significant transactions with related parties
o Check for authorization of significant transactions in the ordinary course of business
o Related Parties are usually the sources of collusion, hence the auditor must be alert for
any unusual transactions and irregularities (Abnormal terms, lack of logical business
reasons, substance differs from form, etc.)
Other Parties
• Work of an Expert (PSA 620) – May be that of the management (Internal), or that of the auditor
(External)
o The auditor is concerned with competence of the expert, hence, the auditor must obtain
an understanding of the expert’s discipline
o The auditor shall not refer to the work of an expert in an Auditor’s Report containing an
Unmodified opinion unless required by disclosure laws.
o In a Modified Opinion, the work of an auditor’s expert may be referred but with the
consent of that expert (the reference shall not reduce the auditor’s responsibility over
the opinion he issues.)
• Work of Internal Auditors – The external auditor assesses the Internal Auditor’s compliance with
the Code of Ethics plus the scope of their function as to whether they are indeed independent
from the other branches of the firm.
o Their Assistance may be summoned in Tests of Control and Substantive Testing
o The External Auditor does not make any reference to the work performed by the
Internal auditors in all cases
Documentation
• Also known as Audit Working Papers
• It includes all the information the auditor needs to conduct the audit;
It serves as the formal basis of the audit The main pieces of evidence over the
report performance of the audit
• Information Included:
o Work adequately performed, planned, and supervised
o System of Internal control has been studied and evaluated
o Audit evidence obtained, and audit procedures and testing applied
• Permanent File – For historical or continuing nature, usually for recurring audits, generally slow
changes included whereas the Current File is only for a single, current engagement.
• Working Trial Balance – List of all FS before adjustments
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• Proposed Adjusting and Reclassifying Entries

• Lead Schedule – A collated cluster on information about similar accounts
• Supporting Schedules – Detailed schedules as basis for Proposed Adjusting and Reclassifying
Entries; is the largest and most tedious portion of the working papers
• Significant Matters included in Documentation
Areas of Significant Risk Findings that result in modifying the Auditor’s Report
(Emphasis of Matters), addressing the same
Results of Audit Procedures (Risk Circumstances that cause the auditor significant difficulty (Key
Assessments) Audit Matters)
• Working papers are the property of the auditor, but rights to own these are subject to ethical
standards
• Some allowed changes:
o Deleting outdated or superseded information
o Sorting, collating, cross-referencing working papers
o Signing off on completion checklists relating to assembly
o Documenting audit evidence that the auditor has obtained, discussed and agreed with
audit team before date of issuing the report
• Retained for 5 years before deletion, under the SRC, increased to 7 Years.
• For Tax purposes, the retention period is extended to 10 years per RR 15 2010
• The working papers should ideally be cross-referenced to facilitate navigation
• Assembly of the Final Audit File – 60 days after the date of the auditor’s report (PSQC 1)
• As per SOX, within 45 days after the date of the auditor’s report
o The above are reckoned from the last day of fieldwork
o No additional audit procedures may be performed after the audit conclusion is made
Audit Sampling
• Selecting all items – for small but valuable classes of transactions (Done for Test of Details,
unlikely for test of controls)
• Selecting Specific Items – For RAP and TOC, subject to Non-sampling risk. NOT A SAMPLING
PROCEDURE
Risk Assessment Test of Control Substantive Tests
Not usual, but done to Used to spot deviations Used to detect
acquire understanding in how the controls are probable material
Audit Sampling of design of controls implemented, to see if misstatements at the
the auditor can rely on assertion level.
controls or not
Attribute Sampling Variable Sampling
(Checking for (Checking for
Sampling Plan N/A Deviations in Variances in Balances)
transactions under
control scenarios)
Sampling Risk Type 1 – Type 1 – Incorrect
(Degree of Underreliance, Rejection of a
Efficiency/Effectiveness Deviation is too high; Misstatement; Account
of Audit Procedure) Controls may be may not be misstated
adequate
N/A
Type 1 (Alpha Risk)
Less Concerning Type 2 – Overreliance, Type 2 Incorrect
Deviation is too low; Acceptance of
Type 2 (Beta Risk) Controls may be Misstatement; Account
More Concerning inadequate may be misstated
Attribute Sampling Variable Sampling
How many sampling How much does the
Sampling Performed N/A
units do not meet misstatement cost in
certain criteria? peso terms?
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Sampling Risk – uncertainties related to sampling (The Correctness of an Auditor’s conclusion, had the
entire population been checked instead of taking samples)
• Controlling this risk would be to conduct a 100% population test
Non-Sampling Risk – Uncertainties in not taking samples
• Mitigated by proper planning, adequate oversight
Statistical Sampling Non-Statistical Sampling
More Efficient, More Scientific/Objective, Costly, Exclusive and Subjective judgment but typically is
Skepticism is underhanded, may not be subject to non-sampling risks
appropriate in all cases
Attribute Sampling
Factors Relationship to Sample Size
Acceptable Sampling Risk Inverse
Tolerable Deviation Rate Inverse
Expected Deviation Rate Direct
Population Negligible
Increase in Reliance Direct
Tolerable Deviation Rate – How many units of the sample are deviations? Always above Expected Pop.
Deviation Rate.
Expected Population Deviation Rate – How many units are expected to be deviants in the population?
The sample and the results thereof, are onto the rest of the population. Tests of control only need to
determine the strength of consistent attributes in some control procedures. For example, if invoices are
properly prepared. This will give the auditor a reasonable impression of the effectiveness of internal
controls. (Not applicable for assessment of control implementation)
Sample Selection Methods for Tests of Control
• Random Number
• Systematic Sampling – every nth Item is included in the sample (Sampling Intervals)
• Block Selection – All items in a subset is taken for sampling, high-risk (range of test items e.g.
1-200 of sales invoices is a block sample)
• Haphazard Sampling – No special conditions to commit to; it is actually not a sampling procedure
(It is only done when the records of a firm are so disorganized)
• Monetary Unit Sampling – A value-weighted approach, transactions are ranked according to peso
and month weights (Used more often variable sampling rather than attributes)
• Sequential Sampling/Stop or Go Sampling – it is used when the auditor expects very few
deviations. This is done for a flexible sample/evolving sample size. The auditor counts up until
which item in a sample it considers for testing controls
• Zero error Sampling or Discovery Sampling – It is used when no deviation is expected in the
population. If the sample taken contains no errors, then the actual error rate is below the
tolerable rate. Used for Fraud, and usually takes 100% of the population as the sample.
• Voided Documents – an item that is properly voided will simply be replaced in the sample
• Missing Documents and Improperly voided items – these are considered deviations and are not
replaced
Responses to Attribute Sampling Procedures
• Generally, the more an auditor relies on the controls, the sample size should increase
• If the auditor is willing to tolerate more risk (tolerable deviation rate), the sample size should
decrease
• If the auditor is willing to impose more risk on the population (expected deviation rate), the
sample size should increase
(1) Sample Deviation Rate = Errors/Sample Size
(2) Maximum Population Dev. Rate = Sample Deviation plus Allowance for Sampling Risk (A)
(3) Sample Deviation Rate (S) vs Maximum Population Deviation Rate (M)
S>M = Do not rely on controls
S<M = Continue to rely on controls
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Variable Sampling
Factors Relationship to Sample Size
Inherent Risk Direct
Control Risk Direct
Intensity of Substantive Tests Inverse
Allowance for Sampling Risk Inverse
Tolerable Misstatement Inverse
Stratification Inverse
Variation in the Population Projected Direct
Expected Misstatement Direct
Population Negligible
Expect a Type 1 Risk Direct
Expect a Type 2 Risk Inverse
• Substantive Procedures – more intense substantive tests will mean that less sampling will be
necessary (i.e., the less the sample, the larger the substantive tests must compensate)
• Tolerable Misstatement - misstatement the auditor is willing to accept
• Expected Misstatement – misstatement that the auditor expects to find in the population
• Stratification – the population is grouped into meaningful clusters with different characteristics
that may allow the auditor to decrease the sample size without affecting the sample’s reliability
• Stratified Sampling – the population is subdivided into relevant groups of the same characteristics
called ‘strata’
o Doing so decreases the effect of variation
o Gives emphasis to items of large monetary value
• Variation in the population – More variation means more samples are required
Sampling Techniques for Substantive Tests
Mean per Unit Difference Ratio Estimation Probability-
Estimation Proportional to Size
Definition Projects the Uses the average Uses the ratio of A.k.a. Monetary Unit
sample average to difference between audited amounts Sampling; every peso is
the total audited amounts to recorded considered a sampling
population. and individual amounts in the unit; each peso amount
recorded amounts sample to estimate is given equal change of
of a population and the total amount selection
an allowance for of the population
sampling risk and an allowance
for sampling risk
Values Uses Audited Used when the Uses Book Values Appropriate when no
used Values misstatement is not errors are expected or
affected by the if there are expected
Book Value overstatements.
Formula (Audited ((Aud. Sample – Act. Act. Complex statistical
for Sample/Sample Sample)/Sample Sample/Population formulas here
Projected Size) × Population Size × Population × Audited Sample
Population Size Size) + Actual
Population
Responses to Variable Sampling
Projected Misstatement + Allowance for Sampling Risk > Tolerable Misstatement; more intense
substantive tests, and request management to revise amounts, or perform alternative procedures.
Otherwise, no material misstatement is expected.
• Anomalous error – those that arise from isolated events that has not recurred other than
specifically identifiable occasions and are not representative of errors of the population
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Appendix: Summary Audit Procedures

Summary Audit Procedures: Cash, Receivables, Inventory
Assertion Cash Receivables Inventory
Presentation & Review disclosures for non- Review disclosures for non- Review disclosures for non-
Disclosure compliance with GAAP compliance with GAAP compliance with GAAP
Inquire about Compensating Inquire about attachments, Inquire about pledging
Balance and Restrictions pledges, liens, and
discounting
Review Loan agreements Review Purchase
Commitments
Existence or Confirmation Confirmation Confirmation of consigned
Occurrence goods
Cash Count on hand Inspect Notes Receivables Observe Inventory Count
Prepare bank transfer Vouching Inquire on inventory out on
schedule consignment
Rights & Review Bank Statements Inquire about Factoring Inquire on inventory held
Obligations on consignment
Completeness Review Cutoff of Cash Review Cutoff of Sales Review Cutoff of Inventory
& Cutoff Receipts & Disbursements
Analytical Procedures Analytical Procedures Analytical Procedures
Review Bank Reconciliation Test Counts vs Client Count
Obtain Bank Cutoff Statement Account for All Inventory
to verify reconciling items in tags and count sheets
Proof of Cash
Valuation, Foot the Summary Schedules Foot the Subsidiary Ledger Foot and Extend Summary
Allocation, Schedules
Accuracy Reconcile Summary Schedules Reconcile Summary Reconcile Summary
to General Ledger Schedules to General Schedules to General
Ledger Ledger
Test FOREX Translation Examine Subsequent Cash Test Inventory Costing
receipts
Aging Receivables is Test Inventory LCNRV
reasonable/adequate (Impairment Test)
Test Inventory quality and
obsolescence
Summary Audit Procedures: Trading Securities, PPEs, Intangibles and Prepayments
Assertion Trading Securities PPEs Intangibles/Prepayments
Presentation & Review disclosures for non- Review disclosures for non- Review disclosures for non-
Disclosure compliance with GAAP compliance with GAAP compliance with GAAP
Inquire about pledging, liens, Inquire about attachments, Inquire about insurance
and loan agreements pledges and liens coverage
Review Management Review Valuation Method Review Valuation Method
classification of securities for disclosure for disclosure
Existence or Confirm securities held by 3rd Inspect documents for Confirm deposits and
Occurrence parties additions insurance
Inspect and count with cash Vouch additions Vouch policies, certificates
of title/ownership
Rights & Same with Existence Review Minutes of meetings Same with Existence
Obligations for approval
Completeness Review cut-offs (examine Perform analytical Review cutoffs
& Cutoff transactions at year-end) procedures
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Analytical Procedures VOUCH major entries to Analytical Procedures

Repairs and Maintenance
Expenses
Reconcile Dividends received
to published records
Valuation and Foot Summary Schedules Foot Summaries Foot Summaries
Allocation
Reconcile Summaries to Reconcile Summaries to Reconcile Summaries to
General Ledger General Ledger General Ledger
Test Amortization of Recalculate depreciation Recalculate amortization
premiums and discounts
Determine market value of Test for impairment Test for impairment
securities at year-end
Review Audited FS of
investees
Summary Audit Procedures: Liabilities and Equity
Assertions Current Liabilities Long-term Debt Equity
Presentation & Review disclosures for Review disclosures for Review disclosures for
Disclosures compliance with GAAP, Laws, compliance with GAAP, compliance with GAAP,
and Regulations Laws, and Regulations Laws, and Regulations
Review Purchase Inquire about Review information on
Commitments pledged/mortgaged assets stock options, dividend
restrictions, appropriations
Review debt agreements,
covenants, and refinancing
Existence or Confirmation Confirmation Confirmation with
Occurrence registrar/transfer agent
Inspect copies of notes and Inspect copies of notes and Inspect stock certificate
note agreements note agreements books (when no
registrar/transfer agent)
Vouch Payables (3-way match) Trace receipts of funds to Vouch capital stock entries
bank account/receipt
journal
Rights and (Same as existence) Review minutes for proper Review minutes for proper
Obligations authorization authorization
Inquire legal counsel on
issues
Review articles of
incorporation
Completeness Review purchase cutoffs Review cutoffs Analytical Procedures
and Cutoff Analytical Procedures Analytical Procedures Inspect Treasury Stock Cert
Search for unrecorded Inquire on completeness
payables
Inquire on completeness Review bank confirmation
on unrecorded debts
Valuation, Foot subsidiary ledger Foot summary schedules Reconcile amounts to
Allocation, general ledger
Accuracy Reconcile SL to GL Reconcile Summary to GL Vouch dividend payments
Recalculate Interest and other Vouch entries to account Vouch R/E entries
liabilities
Review Year-end accruals Recalculate Interest Recalculate Treasury stock
such as payroll
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Reliance on Other Experts and Professionals

The Predecessor Auditor
An auditor provides an opinion over the opening balances of the Financial Statements. There are two
scenarios where an opening balance may be subject to the auditor’s scrutiny:
• The Opening Balances were from unaudited periods
• The Opening Balances were audited by the Predecessor Auditor
In an initial audit, the successor auditor expresses an opinion that pertains only to the current period
F/S. However, the auditor should consider prior period balances because they can affect current period
F/S. These are the main considerations for this scenario:
• Whether the Opening Balances contain material misstatements that affect current period F/S
• Whether Accounting Policies are applied consistently
Procedures to conduct:
• Read most recent F/S and predecessor auditor’s report if available
• Tie-out opening balances with prior period audited balances
• Determine consistency of accounting policies
• Review predecessor auditor’s working papers
• Evaluate evidence obtained from current period procedures
• Perform specific auditing procedures
Auditor’s Opinion based on Predecessor’s work
Result Opinion
No material misstatement and with Sufficient and Unmodified
appropriate evidence
No sufficient appropriate audit evidence Qualified or Disclaimer;
Qualified or Disclaimer for results of operations
and cashflows, while an unmodified opinion for
the Financial Position
With Material Misstatements Qualified or Adverse
Accounting Policies not consistently applied Qualified or Adverse
Modification to the Opinion of the Predecessor Unmodified Opinion on Current Period FS
Auditor’s Report not Material to Current Period
F/S
Modification is material Modified as appropriate
Service Organization Auditor
Many entities outsource certain aspects of their business ranging from a specific task to replacing its
entire business units or functions, such as the tax compliance, payroll processing, etc. The user auditor’s
considerations, when the entity uses the services of a service organization, are:
• To obtain understanding of the nature and significance of services provided by service
organization and their effect on the user entity’s internal control relevant to the audit; sufficient
to identify and assess risk of material misstatement
• To design and perform audit procedures responsive to those risks
• Considerations: Competence, Independence, Standards/Framework used
• Service Auditor’s Report
Type 1 Type 2
Report on description and design of controls; used Report on description, design, and effectiveness
for RAP only of controls; used for RAP and TOC

Risk Assessment Risk Response Conclusion Phase

Understand Entity and assess Obtain evidence, perform test No reference to the work of a
risk of material misstatement of controls, and inquiries on service auditor is placed, unless
some items a modified opinion is expressed.
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Internal Auditors
The external auditor typically considers the following if they wish to rely on internal auditors’ work:
a. The objectivity of the internal audit function (e.g., the reporting of internal audit results directly
to BOD’s audit committee);
b. The technical competence of the internal auditors (such as education, experience, professional
certification, etc.);
c. Whether the work of the internal auditors is likely to be carried out with due professional care
(e.g., adequate planning, supervision and documentation); and
d. Whether there is likely to be effective communication between the internal auditors and the
external auditor
The external auditor assumes the sole responsibility for the opinion they express, and no reference to
the internal auditor’s work is issued regardless of modifications of opinion.
Auditor’s Hired Expert
An expert (or specialist) refers to a person or firm possessing special skill, knowledge, and experience in
a particular field other than accounting and auditing. Examples of such fields are:
• Valuations complex financial instruments;
• Appraisals of properties, artworks, precious stones, and inventory;
• Performing actuarial valuation;
• Estimating quantities such as minerals reserves;
• Estimating useful lives;
• Analysis of complex or unusual tax-compliance issues;
• Determination of work in progress; and
• Interpreting legal opinions concerning contracts, statutes and regulations.
PSA 620 classifies experts into the following two categories:
a. Auditor’s expert—An expert whose work is used by the auditor to assist the auditor in obtaining
sufficient appropriate audit evidence. An auditor’s expert may be either an auditor’s internal
expert (who is a partner or staff, including temporary staff, of the auditor’s firm or a network
firm), or an auditor’s external expert.
b. Management’s expert—An expert whose work is used (engaged or employ ed) by the entity to
assist the entity in preparing the F/S.
The auditor generally assumes the responsibility for issuing the opinion, and will never refer to the
expert’s work, unless the auditor issues a modified opinion.
Component Auditors
The group auditor shall obtain an understanding of:
• Whether the component auditor understands and will comply with relevant ethical requirements
and, in particular, is independent;
• The component auditor’s professional competence;
• Whether the group engagement team will be involved in the work of the component auditor;
• Whether the component auditor operates in a regulatory environment that actively oversees
auditors.
Perform Procedures on Component
The amount and nature of work required of the group auditor relating to component depends whether
the component is a significant component; a significant component is a component (i) that is of individual
financial significance to the group, or (ii) that is likely to include significant ROMM of the group F/S.
A significant component can be identified by using a benchmark (e.g., group assets, liabilities, cash
flows, profit or turnover).
Component Audit Procedures
Not Significant The group Auditor performs analytical procedures
at the group level
Individual Financial Significance to the Group Group Auditor performs a full audit of component
based on component materiality.
Significant Risk of Material Misstatement in Group Group Auditor performs full audit based on
FS component materiality plus specific procedures.
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Completing the Audit & Post-Audit Responsibilities

• After evidence is gathered, these must be sufficient and appropriate in order to reach to a
conclusion as to the assertions made by management
• The audit file must be completed not later than 60 days after the date of the auditor’s report
• Subsequent Events – Events after the reporting period, lasts from balance sheet date up until
the auditor issues the audit report
o Type 1 – Requiring Adjustments – Evidence of conditions that existed at FS date
▪ Settlement of Litigation in excess of contingent liability recorded
▪ Loss on uncollectible receivables due to deteriorating financial condition
o Type 2 – Requiring Disclosures – Indicates conditions that arose after balance sheet date
▪ Issuances of securities; Inventory loss
o The Auditor should inquire with management
o Review procedures established by management to identify subsequent events
o Review minutes of board meetings
o Read latest available interim reports
o Inquire lawyers on litigations, claims, and assessments
• For audit’s concerns, subsequent events do not necessarily identify to adjusting events, but may
still qualify as such if the audit report is issued before the financial statements are authorized
for issue
o The information arising from this period is management’s responsibility
o Failure by the client to make amendments will entail either a qualified or adverse
opinion
o Anything coming to the auditor’s attention after issuance of the auditor’s report that
makes them believe that reliance should not be placed on the information, will make
the auditor prevent the intended users from relying on the information
• Effect of Adjusting Events – FS adjusted, but auditor will keep original date of report (condition
existing before balance sheet date, but not in subsequent event)
• Requiring disclosure – change date to date of subsequent event or dual date
o This in effect will make the auditor responsible to the reliability of the report up to that
date
o Dual Dating and Redating – Done after fieldwork and issue of Audit Report but before
issue of FS. This extends audit responsibility (Dual Dating is limited to a specific matter,
while redating applies when the subsequently discovered fact is pervasive.)
• Litigation, Claims, Assessments
o Management is responsible for being the primary source of the auditor’s information asking
the client to send letters of audit inquiry to lawyers (prepared by management, sent by
auditor, received by auditor)
o Any prevention will result to a scope limitation, which entails either a disclaimer of opinion
or qualified opinion
o If the lawyer cannot estimate any outcome (unfavorable usually) the auditor should consider
adding an emphasis of the matter paragraph to an unmodified audit report
o The Legal counsel may limit their response to those relevant to his understanding with
respect to the client. Unasserted claims are not required for disclosure.
Written Management Representation
• Management has acknowledged that it has fulfilled its responsibility for the preparation and
presentation of fair financial statements
• Has approved the Financial Statements
• These complement audit evidence, but are not evidence per se
o Contents: Acknowledgement and Fulfillment of Responsibility to prepare FS, FS are prepared
in Framework, Management provided all requested information by auditor, Management’s
responsibility, other representations required
o Elements: Addressed to Auditor, near but not after auditor’s report, signed by appropriate
management level
o No RL = Disclaimer of Opinion
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Wrap-up Procedures
• Final Analytical Procedures
o To identify unusual fluctuations that were not previously identified
o Assessing the validity of the conclusions reached and evaluating the overall financial
statement presentation
• Evaluation of the entity’s ability to continue as a going-concern
o Management Responsibility – To make the assessment of being a going-concern twelve
months from report date
o Auditor’s Responsibility – Consider appropriateness of management’s use of the going-
concern assumption, given events and conditions, mitigating factors of those conditions,
as well as the entity’s capability of being one
Reasonable Assurance of Going-concern– Unmodified Audit Report
No Reasonable Assurance of Going-concern and adequately disclosed – Unmodified Audit Report,
with Emphasis of a Matter Paragraph
Inappropriate use of assumption and not adequately disclosed – Adverse Opinion
Multiple Uncertainties – Disclaimer of Opinion
• Evaluating Audit Findings and Preparing Adjusting Entries
o Management Accepts Correcting Entries – Unmodified Audit Report
o Management Refuses Correcting Entries – Qualified or Adverse Opinion
Omitted Procedures
• A quality control inspection or review may reveal omitted procedures
• In this case, the auditor must assess the relevance of the omitted procedures, and their effects
on the opinions expressed in the Financial Statements as a whole
o The auditor must also consider whether the conducted procedures can compensate for
omitted procedures in the audit
o If there are no compensating procedures, the auditor shall undertake to apply the
omitted procedure or an alternative procedure that would provide satisfactory basis for
the issuance of opinions
• These may lead the auditor to conclude that revisions may or may not be necessary; and as
follows, further communication may or may not be needed to be addressed. Any material effect
must be taken into consideration for assessment as to whether or not these constitute a
subsequent event requiring adjustment or subsequent event requiring disclosure.
Post-Audit Responsibilities
Subsequent Discovery of Material Facts
• AUDITOR PROVIDES INQUIRY UPON:
o Awareness of a fact that existed at the date of the audit report
o Had facts been known at Audit Report Date, it would have caused auditor to modify it
• Auditor must discuss these matters with appropriate level of management and consider needs
for revisions
o Accepted Revisions, the Audit Report shall include an emphasis of the matter paragraph
• Advise Management to take necessary steps to ensure that users are informed of the situation
Subsequent Discovery of Omitted procedures
• Working papers are not usually reviewed after the issuance of the audit report, but a quality
control review may disclose the omission of auditing procedures necessary.
• Auditor must assess the importance of the omitted procedures to that auditor’s ability to support
their opinion
o Review working papers
o Discuss circumstances with engagement personnel
o Reevaluate scope of audit
• Undertake to apply omitted procedures/alternative procedures
o After applying these procedures, and FS are still at significant risk of misstatement, the
matter should be discussed with appropriate level of management to prevent reliance
on the report
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Audit Reporting and Other Matters

On the basis of audit evidence gathered, an audit opinion is finally formed. These opinions are based on
whether the client has, in all material respects, complied with the relevant reporting frameworks.
Compliance Framework – A Financial reporting framework that requires compliance in a specific
framework, in the Philippines’ case, the PFRS and PFRS for SMEs.
Fair Presentation Framework – Requires compliance with the existing applicable frameworks, and
acknowledges, explicitly or not, that the client must provide disclosures beyond those specifically
required by the standards and those where fair presentation requires departures from the standards.
The Unmodified Auditor’s Report
• Title – clearly indicates the work of an independent auditor
• Addressee – the Board of Directors or Shareholders of the client
• Auditor’s Opinion – Placed first, and headed with “Opinion”
o Name of Client Entity
o FS are audited
o Title of each of the FS audited and period covered
o Summary of significant policies and explanatory notes
• Basis for Opinion – immediately after the Opinion section
o Audit was conducted in accordance with PSA
o Refer to the section that describes auditor’s responsibility
o Include statement on auditor’s independence, and fulfillment of ethical responsibilities
o Statement of sufficient evidence gathered for the audit opinion
• Responsibilities of Management and those Charged with Governance for the FS
o Headed as “Management’s Responsibility for the Financial Statements”
o Responsibility in assessing the going-concern of the entity
o Responsibility of Those Charged with Governance in overseeing the FS reporting process
• Auditor’s Responsibilities for the Audit of Financial Statements (Either w/in Body of report or
appended to the Audit Report, indicating its location therein)
o State Objectives of Audit
o State Reasonable Assurance is at a high level, but not a guarantee
o State that misstatement can arise from fraud or error and either
o Definition of Materiality
o State use of professional judgement and which areas these pertain to
o Describe an audit by stating Auditor’s Responsibilities
▪ Identify and Assess Risks of Material Misstatements
▪ Obtain Understanding of Internal Control
▪ Evaluate Appropriateness of accounting policies
▪ Conclude on Appropriateness of Management’s use of Going Concern
▪ Evaluate Fair Presentation of FS
o State that the auditor communicates with those charged with governance on the scope
and timing of audit, significant findings, and deficiencies on internal control
• Other Reporting Responsibilities (Headed as “Report on Other Legal, Regulatory Requirements”)
o Presented either in a section in the Audit Report or IN the same section as the related
report elements
• Name of Engagement Partner (For Listed Entities)
• Auditor’s Signature – Signed by personal name of partner (Submitted to SEC)
• Auditor’s Address – Place of Business
• Date of Report – Important to see when the Subsequent Responsibilities start after the audit;
cannot be earlier than the date of approval; generally, after the representation letter by
management is received
• Going-concern Paragraph
• Key Audit Matters
• Other Information Paragraph
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Modifications to the Opinion Section

• Material Misstatement/Departure from PFRS
o Arises from Inappropriate accounting policy used or misapplication thereof
o Inadequate or Inappropriate Disclosure
• Scope Limitations
o The auditor is prevented by the client or any other forces, to complete the necessary
audit procedures needed to form an audit opinion
o If imposed by client, the auditor must request to remove the limitation
▪ Otherwise, the auditor may express a qualified opinion or
▪ Resign from engagement/disclaim an opinion
o May depend on which phase this scope limitation is imposed
▪ Earlier, resign; close to completion, disclaim
o Alternative procedures must be done for those procedures not limited by the client, with
no other procedures, the auditor may either issue a qualified or disclaimer of opinion
Material Misstatement Scope Limitation
Material only Qualified Opinion Qualified Opinion
Material and Pervasive Adverse Opinion Disclaimer of Opinion
• Qualified Opinion – there are certain respects that you should be aware of, with regards to the
FS, some areas may be materially misstated, but it may not be the client’s fault
o Material Misstatement – Except for the effects of the matters described…
o Scope Limitation – Except for the POSSIBLE effects of the matters described
• Disclaimer of Opinion – do not take my word for relying on these papers because there are some
factors that prevented me from doing my job to properly issue an opinion; no opinion is issued
• Adverse Opinion – the management is perhaps seeking to misrepresent the financial information
on these papers; there is a need to restate their papers and financials
Basis for Modified Opinions
Material Misstatement Omission of Narrative Disclosure Scope Limitation
Qualified or Disclaimer of
Qualified or Adverse Qualified or Adverse
Opinion
Describe Nature of Explain Reason for inability to
Describe Nature of Omission
Misstatement conduct audit procedure
OMIT any reference the to
Auditor’s Responsibility and
Statements that the Audit
A quantification of effects Include Omitted information
Evidence obtained in sufficient
and appropriate in BASIS FOR
OPINION SECTION
Auditor’s Responsibility
• DO NOT MODIFY FOR UNQUALIFIED, QUALIFIED, or ADVERSE OPINIONS
• Modification on the Auditor’s Responsibility is only done when there is a DISCLAIMING OPINION
Report should be revised to ONLY include
• Auditor’s responsibility to conduct an audit of FS in accordance w/ PSA & issue an audit report
• The matter described in the Basis of Opinion section; the auditor could not obtain evidence to
provide a basis for an audit opinion
• The Auditor is independent and has fulfilled ethical responsibilities during the course of the audit
• OMIT REFERENCES TO R.A.P., Internal Control Considerations, and Management’s fair use of
assumptions (policies, estimates, going-concern), and fairness of FS.
• Piecemeal Opinions – issuing unqualified opinions on one section, and then issuing an adverse,
qualified, or disclaimer of opinion in others is not allowed.
• Considerations for the Entity’s Capability to continue as a going-concern are discussed in the
Wrap-up procedures, these are included in the Unmodified Audit Report, under a Separate
section called “Material Uncertainty Related to Going-Concern”
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Key Audit Matters

• Required for listed entities, and for the current period only, may be done for non-listed too
• For matters that are most significant during the audit period
• Identify Key Audit Matters, and narrow down to preserve understandability
o Categorize the matters that were communicated with Those Charged with Governance
▪ Areas with significant risk/ required significant judgment
▪ Areas that where the auditor had difficulty in carrying-out the procedures
▪ Circumstances that required any significant modification of the audit plan
o Determine which of these Matters required significant audit attention
o Rank these matters as to significance
• Note clearly each key audit matter; in the absence of any matter, mention its absence,
• Explain why the matter is considered significant
• How the matter is addressed in the audit
• Modifications of opinions are not communicated here
Emphasis of Matter Paragraphs
Matter presented and disclosed in FS that is, in the auditor’s judgment, essential in acquiring an
understanding of the FS. (No item under this paragraph is a Key Audit Matter)
• Significant Uncertainties, adequately disclosed & accounted for (contingencies, going-concern)
• Early Application of New Accounting Standards in advance of its effective date (IFRS 17)
• A major catastrophe that has a significant effect on the entity’s FS
• A subsequent discovery of facts affecting the previously issued opinion
• FS prepared using a Special Purpose Framework
Other Matters Paragraphs
Matter neither presented nor disclosed in the FS, but is essential in acquiring an understanding of the
AUDIT and or AUDITOR’S REPORT
• Reporting on Comparative Information
o Comparative FS (See Interim and Segment Reporting)
o Corresponding Figures (Past data are included merely for reference)
o These reports are specifically identified, and an auditor’s opinion expressed on each
class of comparative information
Event Action taken
Prior period FS Audited by continuing auditor Update the report by re-expressing the audit
opinion/issuing a new opinion, including reasons
for change/no change
Prior Period FS audited by predecessor auditor Predecessor should reissue report/Current
Auditor make reference to predecessor
Predecessor reissues report on prior period FS A comparison, with discussion and representation
letter from predecessor auditor, bearing the
original date and wording for reissuing is needed
Predecessor does not reissue audit report on prior Other matters will include the fact that a new
period FS auditor audited the FS, Date of Predecessor
auditor’s report, type of Opinion issued
Prior period FS not audited (Newly incorporated) current auditor should take steps to provide
reasonable assurance that prior year papers are
not materially misstated
**Comparatives are not Separately identified. The auditor’s opinion is not based on comparison.
• FS Prepared using more than one framework
o Other matters will refer to another set of FS using a different framework
• Limiting the Use of the Auditor’s Report
o Other matters will include the auditor’s intention to provide the report for only a specific
set of users
• Any Subsequent Discovery of Facts
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Other Information Accompanying the Audited FS

• Referred to as Other Information (Annual Report Contents other than AFS. Projections, etc.)
• Standard requires the auditor to consider whether material inconsistencies exist between other
information and FS
• Whether material inconsistency exists between the other information and the auditor’s
knowledge of the entity
Material Inconsistency – Identified later on, the auditor must discuss the matter with management
whether amendments must be in place, other information must be amended
Amendment on FS Amendment on Other Information
If amended, an unqualified opinion will be issued If amended, an unqualified opinion will be issued
If not amended, either a qualified/adverse Issue an Unqualified opinion because the FS are
opinion is issued fairly stated, however:
• Users must be informed of inconsistency
• An explanation in Other Matters is required
• Material Misstatement of Fact – Auditor should consider this information in the name of
preserving integrity. If Management refuses to correct any of these facts, the Auditor should
notify the Audit Committee, and if necessary, obtain legal advice on these matters.
Audit of Group Financial Statements
Group Auditor – The auditor with the responsibility for reporting on the FS on an entity whose FS include
the financial information audited by another auditor. Opinions on FS Representations are audited based
on the Group Auditor whose participation is sufficient and appropriate. This is based on Materiality of
the portion audited, the auditor’s knowledge of the overall Financial Statements, and the Importance of
the Components audited.
Reliance on other Auditors’ Work
• Compliance with ethical and independence requirements
• Professional’s competence
• Sufficient Evidence from their work could be obtained
• Non-satisfactory outputs will require a separate procedure to be conducted
• Component Auditors will not be referred to on the Group Financial Statements
• Checking the components is done through Analytical Review Procedures
Reports on Special Purpose Financial Statements
• Auditors may provide assurance over compliance with laws and regulations, which is the purpose
of auditing special purpose FS.
• Users are alerted of the special framework used in reporting the statements as a matter of
compliance with regulatory agencies in the Emphasis of Matter Paragraphs of the Audit Report
• Audit of Single FS or Specific Element of a Financial Statement
o Opinion is only confined to specific element of concern
o Auditor may consider other accounts affected, and Materiality should be related to
specific accounts
o This type of Auditor’s Report SHOULD NOT ACCOMANY THE FS
o Modified Opinions over the General FS will bear on the Component Opinion
▪ Adverse and Disclaimer of Opinion in General FS will PREVENT the component
auditor from issuing UNMODIFIED opinions on the components unless:
• No Laws are violated by the component auditor
• Specific element is not published together with complete set
• Specific element is not a MAJOR portion of the complete set
• Summary Financial Statements
o May only be done if the auditor had already been tasked with issuing an opinion on the
general FS from which the summary was derived
o Thus, opinions should be consistent
▪ Qualified Opinions will be stated in Summary FS Audit Report
▪ Disclaimer and Adverse Opinions on General FS will prevent the Auditor from
expressing further opinions on the Summary
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Title II: Financial Accounting and

Reporting
Accounting
As defined by various organizations:
• By ASC (Accounting Standards Council) – It is a service activity whose function is to provide
quantitative information, primarily financial in nature, about economic entities, that is intended
to be useful in making economic decisions
• By AICPA (American Institute of Certified Public Accountants) – It is the art of recording,
classifying, and summarizing in a significant manner and in terms of money, transactions and
events which are in part at least of a financial character and interpreting the results thereof
• By AAA (American Accounting Association) – It is the process of identifying, measuring, and
communicating economic information to permit informed judgment and decisions by users of the
information. (AAA Definition has been the most relied-upon definition)
Identifying Transactions (Analytical Component)
• Analyzing events and determining whether or not they can be journalized, in other words, can
the transaction be attributed to an account and be expressed in monetary terms
Accountable Events – Events, in the form of relevant data that are typically the object of accounting
• External Events – The entity and another are involved
o Exchange – A reciprocal transfer and receipt of resources between the two entities
o Non-reciprocal Transfer – A one-way transaction (i.e., payment of taxes, giving donations)
o Other External Events – Non-transfers such as theft, changes in fair value, vandalism
• Internal Events – happen without any other entity involved such as production of goods, and
casualties
Measuring Process (Technical Component)
• Process of determining the monetary amounts and at which elements of the financial statements
are to be recognized and carried in the balance sheet and income statement
Communicating Process (Formal Component)
• The process of preparing and distributing accounting reports to potential users of accounting
information; involving Recording or Journalizing, Classifying or Posting, and Summarizing or
Preparation of the Financial Statements
The Accounting Process
Post-closing
Analyzing Unadj. Trial Adjusting Adjusting TB Closing Reversing
Journalizing Posting TB (Roll-
Transactions Balance Entries & FS Prep Entries Entrie
forward)

The Accounting Process is Classified into 2 parts: Recording (Steps 1 through 4) and Summarizing (Steps
5 through 9). Also note that the Post-closing Trial Balance, Reversing Entries and the Worksheet
Preparation are optional steps in preparing Financial Statements.
Single Entry vs Double Entry Bookkeeping
Single Double
Capital Maintenance Approach Transactional Approach
Limited Accounts Complete Accounts
Cash Books and Subsidiary Ledgers Journals, Special Journals, Ledgers, Subsidiary
Ledgers, and other Important Books
Accounts
The Basic Storage of Information in Accounting.
Real Accounts Nominal Mixed Contra Adjunct Valuation
Accounts Accounts Accounts Accounts Accounts
A, L, E Inc., Exp. A, L, E, Inc., Decreases Increases main Inc. or Dec.
Exp. main account account Main Accounts
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The Standards (IFRS and GAAP)

• These are the laws in accounting, used as a guide in the preparation of financial statements.
PFRS are guiding principles rather than laws. These set out the recognition, measurement,
presentation and disclosure requirements in dealing with transactions and events that are
important in general purpose financial statements
• The PFRS applies to all profit-oriented entities preparing general purpose financial statements.
These FS are directed towards the common information needs of a wide range of users
• Paragraphs and pronouncements in bold and plain wordings have equal authority; those in bold
dictate the principles, and those in plain text are the supporting principles. Limitations are made
explicit in the standard
The Standard Setting Bodies
The current setting body in the Philippines is the Financial Reporting Standards Council (FRSC),
established in 2006 by the BOA; while the current international setting body is the International
Accounting Standards Board Established by the IFRS Foundation in 2001. FRSC is the successor to the
Accounting Standards Council (ASC), while the IASB is the Successor of the International Accounting
Standards Council (IASC)
Currently, the FRSC is composed of a Chairman and 14 other members (a total of 15). The following
Agencies have 1 representative each: COA, BOA, SEC, BSP, BIR, and the FINEX. The PICPA is distinguished
of having 8 representatives, all coming from the respective fields in the profession.
• The Chairman and the members are appointed by the PRC upon the BOA and APO’s
recommendation with a term of 3 years and are renewable for another term. Any member of ASC
is not disqualified from being appointed to the FRSC.
• All members are required to render service to the council on a part-time basis without
compensation
• The Chairman should be a senior practitioner in any field of profession
The Standard Setting Process
A Due process that involves accountants and various interested parties and individuals.
1. Consideration of the IASB Pronouncements
2. Formulation of a task force to advise the FRSC
3. Issuance for comment an exposure draft approved by a majority of the FRSC members; the
comment period will be at least 60 days unless a shorter period (min 30 days) is considered
appropriate by the FRSC
4. Consideration of all comments received within the comment period and, when appropriate,
preparing a comment letter to the IASB
5. Approval of a standard or an interpretation by a majority of the FRSC members
Revised Conceptual Framework
The Conceptual Framework for Financial Reporting is a complete, comprehensive, and single document
promulgated by the International Accounting Standards Board. It is a summary of the terms and concepts
that underlie the preparation and presentation of financial statements. It is the Theory of Accounting.
Generally, it is intended to help Financial Statement Users identify which information is most useful for
making sound economic decisions.
Purpose of the Conceptual Framework
• To serve as a guide in developing future PFRS and as a guide in resolving accounting issues not
directly addressed by existing PFRSs
- Create & Review Future and Existing PFRS
- Promote harmonization of regulations,
To Assist FRSC in
and accounting standards and procedures
to the presentation of FS
To Assist Preparers of F/S - In Applying the standards
To Assist Users of F/S - In Interpreting the information on the F/S
To Assist Auditors - In forming an opinion over F/S audits
- To Provide Information to those who are interested with the FRSC’s works
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Authoritative Status of the Framework

• It is not a PFRS and does not define any instruction for measurement or disclosure. Nothing in
the Framework overrides the PFRS
• In case of conflict, the PFRS must prevail over the framework
• In the absence of a standard or an interpretation that specifically applies to a transaction,
management shall consider the applicability of the Conceptual Framework in developing and
applying an accounting policy that results in information that is relevant and reliable
Underlying Assumptions and Elements of Financial Statements
In the old framework, Only the Going-concern and Accrual Principle were explicitly mentioned. Under
the Revised Framework, only the Going-concern remains. Technically, all other assumptions are off-
shoots of the going-concern assumption.
• The Reporting Entity – The main entity required or chooses to prepare financial statements
• The Reporting Period – The span of time in which transactions are accounted for and presented
• The Going-concern Assumption – Operations of an entity is presumed to be indefinite
• The Monetary Unit Assumption – Generally states that all those that make up a Reporting Entity,
and changes thereto are measurable in terms of an economic measure; money is stable
• Assets – Present Economic Resource controlled by the Entity as a result of Past Events
o NO LONGER NEEDS TO BE EXPECTED TO FLOW TO THE ENTITY
o An Economic Resource is a Right that has the potential to produce Economic Benefits
• Liabilities – Present Obligation of an Entity to transfer an Economic Resource as a result of Past
Events
o NO LONGER NEEDS TO BE EXPECTED TO FLOW OUT OF THE ENTITY
o An Obligation is a duty (legal) or responsibility (constructive) that an entity has no
practical ability to avoid
• Equity remains to be the Entity’s residual interest over its assets
• Income and Expenses now refer to changes in Assets, Liabilities, Equity other than those brought
about by equity holders, no longer through flows of resources; encompassing gains/ losses
o Income and Expenses are now indicators measures in the Statement of Financial
Performance (Formerly Statement of Comprehensive Income)
o There are no unique Items in the Statement of Changes in Equity
Objectives of Financial Reporting
To provide Financial Information for Decision-making. Encompasses all forms of financial information,
but incorporates into it, some considerations on non-financial information.
More succinctly, it aims to:
• Provide information useful in making decisions about providing resources to the entity
• Provide information useful in assessing the cash flow prospects of the entity
• Provide information about entity resources, claims, and changes in resources and claims

Limitations of Financial Reporting

• General-purpose Financial Reports do not & cannot provide all information that final users need
• General-purpose Financial Reports are not designed to be a discrete basis of value of the entity;
but rather, attempts to create a reliable approximation of what the firm could be worth
• Financial Reports are intended to provide common information to users and cannot accommodate
every query
• Financial Reports are based on estimations rather than exact depictions
Characteristics of Financial Statements
Qualitative Characteristics
The qualities or attributes that make financial accounting information useful, broken-down in two:
Fundamental and Enhancing Characteristics
Fundamental Characteristics (Both must be present to make information useful)
• Relevance – The capacity of information to influence a decision
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o Predictive Value – Information can inform conditions about the future

o Confirmatory Value – Information can refer to the past and be used to resolve
yesterday’s questions
o Materiality – the Doctrine of Convenience, a qualitative threshold in which relevance
begins to exist
▪ It is a relative measure, that is it depends on the nature and relative size
o In the revised framework, materiality alludes to the reasonable expectation to influence
decisions of primary users if it would have been obscured; in other words, it is the extent
to which a decision changes, had the information been correctly represented or not.
o Obscuring Information does not necessarily pertain to lying categorically. It may also
include vagueness, disorderly arranged information, inappropriate aggregation and
disaggregation.
• Faithful Representation – Whatever happened, is exactly described in words and numbers. Such
is the essence of accounting. To faithfully represent a fact, it must be:
o Complete – Information is adequately contextualized, salient information is enough to
deliver a point, no omissions
o Neutral – Information is for general use, favoring none
▪ Prudence – Exercise of caution in uncertainty; assuming the worst
▪ Conservatism – Take the transaction with the least effect to equity
o Free from Error – Information is correct in substance, and appropriate in estimates
o *Substance over Form – In the absence of one, Substance should always entail Form, not
vice versa
Enhancing Characteristics (Supports the Fundamental Characteristics in making information useful)
• Understandability – Information is made simple enough to users with average, reasonable
knowledge of business
• Comparability – Information can be understood in reference to other information. **Though this
is a general feature of any piece of information, comparability should be understood such that
the information is arranged in such a way to make the referencing digestible and doable for
users.
• Consistency – The uniform application of accounting methods from period to period, account to
related account. It is what allows information to be comparable in principle.
• Verifiability – Users of different background can generally agree with each other and with the
information they are presented with
• Timeliness – Information is given at a reasonably recent time to keep decision-making relevant.
• Cost constraint – If it takes more to acquire information than to benefit from it, then it should
not be pursued

Recognition, Derecognition, Measurement, Presentation & Disclosure

Recognition – The process of capturing for inclusion in the financial statements an item that meets the
definition of an asset, liability, equity, income or expense. Balance Sheet amounts are recognized at
Carrying Amount generally.
• Point of Sale – Income is recognized when earned; passing of legal title
Revenue Gains
Arises from Ordinary Business Incidental to Operations
Presented at the Gross Amount Presented at the Net Amount (Direct Cost of
Acquisition)
• Income encompasses both Revenues and Gains
• Expense Recognition – Expense is recognized when incurred
o Cause and Effect Association – Expense is directly related to revenue (Cost of Sales)
o Systematic and Rational Allocation – Expense is estimated as a consequence of the use
of assets or incurring of liabilities (Depreciation, Amortization)
o Immediate Recognition – Expense is recognized immediately due to uncertainty of
revenue (Direct Write-off Method)
Derecognition – Removal of Assets, Liabilities, and Equity from the balance sheet
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Measurement – Quantifying information in monetary terms

• Historical Cost – the Entry price to acquire an asset or incur a liability
• Current Value – the Exit Price to dispose of an asset or extinguish a liability
o Fair Value – price received and paid in an orderly, arms-length transaction
o Value in Use (Asset) – same as Fair Value but, includes transaction cost only upon exit,
not entrance
o Fulfillment Value (Liability) – same as Fair Value but, includes transaction cost only upon
exit, not entrance
**Note that as an entrance value, Historical Cost and Current Value match. Historical Cost refers to Entry
to the Books (Any transaction acquired is taken at Fair Value, being the Historical Cost). Upon Disposal,
or Exit from the Books, Historical Cost and Current Value no longer match.
Classification – the sorting of the elements based on shared similarities in characteristics
• E.g., Current/Non-current Distinction, Legal Restriction/Non-restriction (In the case of Equity)
Aggregation – The adding of components based on strict classification (Instead of characteristics and
similarity)
• Summarizes volumes of information and detail into line-items in the financial statements
• Detail is provided for in the notes to the Financial Statements
o The Notes follow Disaggregation and detail
Value Measurement (Revised Conceptual Framework)
It is worthy to note that various accounting transactions use various bases for measurement. A good
understanding on what these values are is crucial to understanding why one way to measure a transaction
is more principally appropriate in terms of GAAP than another.
• Under PAS 1, there is no detailed guidance on when a particular measurement basis would be
suitable. It describes various measurement bases, the information they provide, and the factors
to consider in their selection.
• Consideration of the qualitative characteristics of useful financial information and of the cost
constraint in gathering said information is likely to result in the selection of different
measurement bases for different assets, liabilities, income and expenses.
Historical Cost
• The historical cost of an asset is the consideration given in acquiring or creating the asset
comprising the consideration paid plus the transaction cost
• The historical cost of a liability is the consideration received to incur the liability minus the
transaction cost
• It is simply the Entry Value i.e., the value entered into the books upon Initial Recognition and
Measurement, updated by Subsequent Measurement
• This is updated by depreciation, impairment, disposal/payment, accrual or amortization
• Historical Cost, on its own, stands for how an account’s measurement changes over time. Through
the entity concept, the historical cost enters into the entity as information, and stays there until
there is ultimate disposal or derecognition
Current Value
• Includes: Fair Value, Value in Use, Fulfillment Value for a Liability, and Current/Replacement
Cost
• Fair Value of Assets and Liabilities – the price that would be received to sell an asset or transfer
a liability in an orderly transaction between market participants at the measurement date
• Value in Use – the present value of cash flows that an entity expects to derive from continuing
use of an asset and from its ultimate disposal. It does not include transaction costs on acquisition,
but includes transaction cost of disposal
• Fulfillment Value – the present value of cash flows that an entity expects to transfer in paying
or settling a liability. It does not include transaction costs on incurring the liability, but it includes
the transaction cost on fulfilling the liability
• Current Cost – similar to fair value, but instead, is the cost of an equivalent asset at the
measurement date comprising the consideration and the transaction cost
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o For Assets, it is the consideration paid plus transaction cost

o For Liabilities, it is the consideration transferred less the transaction cost
• All Current Values are Exit Values i.e., the value an entity agrees to part with in a transaction.
• Observe that current values initiate transactions; it will always prompt a derecognition on a
party engaged in a transaction. On its own, current value is a measurement on a point in time
Financial Capital and Physical Capital
Capital Maintenance – The financial performance of an entity is determined using Transaction Approach
(traditional approach to determining income) and Capital Maintenance Approach; this is the tracing of
capital transactions from beginning to end of a period. The changes thereto, other than transactions of
with equity holders, should be income and expenses.
Return on Capital – The income derived from investment
Return of Capital – The derecognition of capital (equity) on a business back to personal equity
Financial Capital – The nominal/monetary amount of net assets, based on historical cost
Physical Capital – The actual concern for cashflow generation/Investments, based on current cost
Perspectives on Capital Maintenance
Theory Entity Theory Proprietary Fund Theory Enterprise Residual
Theory Theory Theory
Emphasizes Emphasizes Emphasizes Emphasizes Emphasizes
Separate Investor’s Corporal economic legal/obligatory
Juridical vested interest Identity of the impact of the entitlement to
Description Personality of (invested Fund of which firm to assets
Firm, thus assets) in the not one society remaining.
reports on own firm investor is
performance vested
I/S B/S Cashflow Economic Statement of
Statement
Value-added Realization &
Emphasis
Liquidation
Return Return on Return on Return of Return on Return of
emphasis Capital Capital Capital Capital Capital
Capital Financial Financial Financial Physical Physical Capital
emphasis Capital Capital Capital Capital
A=L+E A–L=E A – L = Funds Investment – A – L – Pref.
Accounting
Cost of Capital Equity
Equation
= EVA = Residual Eqty
Equity is Equity is Accounting for Corporate Corporate
dispersed attributed to NPOs, Valuation, Liquidation,
(Corporation) specific persons Cooperatives, Securities Partnership
Manifestation
(Partnership Government, Valuation Liquidation
and Sole-props) Pension and
Mutual Funds
Capital Maintenance Approach in Determining Net Income
Account Relationship with Equity or Capital
Asset Direct
Liability Inverse
Using the Capital Maintenance Approach, the Net Income can be determined by isolating the changes in
net assets and segregating the changes in share capital and other items of retained earnings.
Decrease (Increase) in Net Assets XX
Drawings or Dividends Declared XX
Increases (Decreases) in Share Capital (XX)
Net Income XX
Do note that the dividends must be those that have been declared. If there are no other indication that
the dividends are declared, and that are merely paid, these constitute instead, a decrease in assets
and liabilities, but no effect to equity (such is the case if the dividends are in arrears).
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Cash & Cash Equivalents–PAS 1, PFRS 7, PFRS 9

Cash – Money and negotiable instruments acceptable by the bank for deposit and immediate credit
• Recognize cash if these are UNRESTRICTED and READILY AVAILABLE FOR CURRENT OPERATIONS
o Unrestricted – no appropriations for long-term use
o Readily available for current operations – for current OPERATING ACTIVITIES ONLY
▪ Cash for Investment is usually for Non-current Assets
▪ Cash for Financing should always match the liability the cash is used for
o FOLLOW THE 3-months to maturity rule
• Composed of Cash on Hand, Cash in Bank, and Cash Funds
Cash on Hand
Undeposited Customer Checks Good Checks only
Undeposited Cash Collections Currencies and Coins
Traveler’s Check Replaceable checks
Cashier, Official, Treasurer, Managers Checks in the name of these individuals, to which they
Checks are accountable for
Postal Money Orders Demand credit instrument payable by a post office
Bank Drafts Order to a bank to pay money to the order of the maker
• Undelivered Company Checks are recorded disbursements in the cash disbursements journal that
have not been delivered to the Bank for clearing. As such, the Payable is reverted and Cash is
returned to the balance until these are actually sent to the bank
• Undelivered Customer Checks are checks from the customer that have not been received by the
company. The Entity may have recognized cash through communication with the customer. The
Receivable is reverted, and the cash balance is reduced. In contrast with Undeposited Customer
Checks, which have been received by the company already, but is not deposited in the bank;
these are technically deposits in transit, included in cash
Cash in Bank
Current, Checking, Demand Deposit, Commercial Non-interest bearing
Deposit Withdrawable by Checks
Non-interest bearing, ATM cards and passbooks
Savings Deposit are needed; Withdrawn via ATM or Bank
transactions
Cash Funds
Include the: Change Fund, Payroll Fund, Purchasing Fund, Revolving Fund, Interest Fund, Petty Cash
Fund, Dividend Fund, Travel Fund, Tax Fund, these are funds available for current use, although are
restricted, nonetheless, these are considered as cash. Non-current funds are not cash,
Becomes cash as it becomes current (OPERATING
Pension Fund
ACTIVITY – PAYROLL)
Becomes Investment (FINANCING ACTIVITY)
Preferred Redemption Fund Becomes cash if redemption is mandatory and
currently redeemable
Always non-current
Appropriation for PPE and Intangibles
(INVESTING ACTIVITY)
Contingency Fund Always non-current
Insurance Fund Always non-current
Becomes Investment, never cash
Bond Sinking Fund
(FINANCING ACTIVITY)
Cash Equivalents – Short-term and highly liquid investments readily convertible to cash, so near maturity
that they present insignificant risk of changes in value
• Applies to: Time Deposits, Money Market Instruments, Commercial Papers, Treasury Bills, Treasury
Notes, Treasury Bonds, Redeemable Preference Shares with Mandatory Redemption Period
o ONLY IF These were ACQUIRED and WILL MATURE in 3-months or less from report date’
o Otherwise, they may qualify as either Short-term or Long-term Investments
**3-month rule will not convert a 6-month investment into cash**
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Other Issues on Cash

General Cash Measure at Face Value
Cash in Foreign Currency Record at Spot Rate or Closing Rate
Unrestricted – Cash
DEPOSIT in Foreign Currency
Restricted – Other Receivables
Cash in Closed Banks/Bankruptcy Measured at NRV as Other Assets
A negative Bank Balance
Different Banks – Current Liability, separate from
Cash, nettable if immaterial
Bank Overdrafts
Same Bank – Nettable always
Necessary for Working Capital Management/Strategy,
regardless of bank - Netted
A Balance that is required for borrowing funds
Compensating Balance
Not Legally Restricted – Cash
Yield Rate =
Legally Restricted – Receivable, current or not
[(Loan Requirements + CB) *i% - Interest
depending on Maturity
Income]/ Loan Proceeds
Silent = NLR
Undelivered Company Check Revert to Cash and A/P
Stale Company Checks/Long-outstanding Revert to Cash and A/P or Misc. Income
Postdated Company Check Revert to Cash and A/P
Stale Customer Check Revert to A/R
Postdated Customer Check Revert to A/R
IOUs or Advances to Employees Receivables
Equity Securities Investments
Redeemable Preference Shares Mandatorily Redeemable w/in 3 Mos. – Cash Equiv.
Callable Shares Investments
NSF/DAUD/DAIF – Company Revert to Payable
NSF/DAUD/DAIF – Customer Revert to Receivable
Expense Advances Prepayment
Advances to EEs Receivables
Temporary Investments Investments
Unused Credit Line Disclosure only
Treasury Warrants Cash Equivalent
Escrow Deposit Other Asset AND Liability
Certificate of Deposits Investment or Cash, 3-month Rule
Postage Stamps Prepayments
Imprest Cash Control System
All Receipts are deposited intact Imprest System does not apply to PCF
All disbursements are coursed through the bank via checks Proper separation of duties is observed
*Any cash items from other funds or authorities are NOT the accountability of the petty cashier
Entry Imprest Fluctuating
Establish Fund PCF; CIB PCF; CIB
Payment of Expenses Memo Exp; PCF Cash Short – Debit
Replenishment Exp; CIB PCF; CIB Cash Over – Credit
Adjustment of PCF Balance at Period End Exp; PCF No Entry
Increase/Decrease PCF; CIB PCF; CIB
• Neither case is ideal since these both indicate misappropriation and even concealment
• A Cash Count is conducted to check for shortages and overages
• The Petty Cash Fund may sometimes include impurities like contributions and various checks
• Petty Cash Count Sheet include
Cash Accounted for Petty Cashier’s Acknowledgement
Accountability for the Fund Auditor’s Adjusting Entries
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• Cash counts sometimes include in its breakdown the impurities found

o Cash collections in bills and in checks, not in the custody of petty cashier
o Checks issued for utility bills payments, which are custodies of disbursing officers
o Checks issued by employees in payment of personal advances, which are custodies of
payroll
o Employee contributions for birthdays and parties
• Accommodated Checks – not considered accountabilities since these are drawings out of the fund
allowed/acknowledged by the petty cashier as ‘pay to cash’, thus are not irregularities, and not
accountabilities of the petty cashier.
o These are usually salaries of employees or the custodian themself so as to easily acquire
petty bills and coins over the check.
o In some cases, the cashier’s check is required to be left in the cash box or register to act
as a surety in cases of cash short or over.
Control Scenario over Petty Cash:
Accounted For Accountability
Coins and Currency Ledger Balance
Petty Cash Impurities except checks issued to
Unreplenished Vouchers
client in payment of cash advanced from PCF
Control scenario over Undeposited Collections:
Accounted For Accountability
Coins and Currency Adjusted Sales Balance or Invoices w/ Official
Receipts
Undeposited Collections Expenses paid out of collections
Total Imprest Fund Control Scenario
Accounted For Accountability
Coins and Currency PCF Ledger Balance
Unreplenished Vouchers Adjusted Sales Balance
Checks for Deposits Petty Cash Impurities: INTACT OR NOT
Good and readily depositable checks IOUs
Accommodated Checks (i.e. EE Checks) Good EE Checks
Custodian’s Salary Post-dated, NSF, DAIF, DAUD, Stale Checks
Replenishment Checks Unclaimed Salary and EE Contributions
Undeposited Collections Company Checks for payment of Liability
Segregated amounts must be INTACT Undeposited Collections with ORs and Invoices
Postage Stamps Postage Stamps – Undeposited Collections
Undeposited Impurities – MUST BE INTACT Expenses out of Undeposited Collections with
EE Contributions SUPPORTING DOCUMENT
Unclaimed Salaries
Stale and Post-dated Checks Returns of Expense Advances
Petty Cash Balance
Coins and Currencies XX
Expenses paid out of PCF AFTER Report Date XX
Replenishment Checks for PCF XX
Salary of PC Custodian XX
Good Employee Checks XX
PCF BALANCE XX
ACCOUNTED per Cash Count – ACCOUNTABILITY per Reliable Records = SHORTAGE
Bank Reconciliation
Book Bank
Credit Memorandum Deposits in Transit Correct Bank Bal. – Unadjusted Book Bal. =
(Debit Memorandum) (Outstanding Checks) Net Adjustment to Cash in Bank
Book Errors Book Errors Bank > Book = Under; Bank < Book = Over
CORRECT BALANCE CORRECT BALANCE
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Proof of Cash
Beg. Rec. Dis. End
XX XX XX XX
DITB XX (XX)
DITE XX XX
OCB (XX) (XX)
OCE XX (XX) Book Debits; Book Credits,
CMB XX (XX) Bank Credits XX Bank Debits XX
CME XX XX CMB – book; DMB – book;
DMB (XX) (XX) CME – bank (XX) DME – bank (XX)
DME XX (XX) USRB, OSDB, USDB, OSRB,
OSRB (XX) (XX) OSRE (XX) OSDE (XX)
OSRE (XX) (XX) USRE XX USDE XX
USRB XX (XX) Deposits Checks
USRE XX XX made/ issued/ paid
OSDB XX (XX) acknowledged XX by Bank XX
OSDE (XX) (XX)
USDB (XX) (XX)
USDE XX (XX)
Balances XX XX XX XX
B – Beginning E – Ending; Beginning Balance + Receipts Disbursements = End Balance
DITB XX OCB XX
Deposits Made this month XX Checks issued this month XX
Deposits Acknowledged by Bank this month (XX) Checks paid by the Bank this month (XX)
DIT, E XX OC, E XX
Notes for Bank Reconciliation
• Cash on Hand should as of the end of the period should be considered as an Undeposited
Collection, hence should be a Deposit in Transit as of the period-end.
• If data given do not indicate any record of credit or debit memoranda from the previous period,
then an automatic adjustment to Beg and End columns are necessary
• Receipts and Disbursements MAY OR MAY NOT match between banks and books
• Any item falling under the column will usually affect DIT or OC, this means that NC and R&Rs can
affect the resulting balance
• Certified checks are checks that are honored by the bank; these reduce outstanding checks since
these are automatically cleared in the bank they were issued to. (This is usually the case when
the check is from the bank’s own checkbooks given to the entity.
On Error Correction
• There can be no negative entries during the period, this is to preserve an audit trail, and
preserve completeness of records. The only way to correct the error would be to apply the
adjustment to total debits or credits. For instance, in an overstated receipt error, the adjustment
of the overstated receipt must not be corrected in the receipts journal, rather it must be applied
to the disbursement journal. This subsequently carries-over the correction into the
subsequent period, overstating the disbursements for the next month.
• Errors discovered and corrected in the same period constitute adjustments for the receipts
and disbursements columns since the error does not persist to be part of the ending balance
Bank Records
• The NSF check returned and redeposited in the same month is a bank reconciling item. This is
the case if the Customer directly deposits checks to the entity’s bank account.
o Reduce Receipts & Reduce Disbursements if no entry is made on the books for both transactions
(Although it would be also correct to record this as an increase in the receipts and
disbursements of the book, it would be more appropriate to apply this to the bank statement
to avoid double-counting since the return and redeposit are both in the bank records already.)
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o Reduce Receipts & Reduce Disbursements if the NSF Customer check is reduced from the
receipts, correct the error by reducing disbursements. (This is not standard procedure in banks)
• Payment out of Collections – Increase Receipts and Increase Disbursements of the Bank Records.
This is a violation of internal control procedure by the cashier/custodian of the entity; to
correctly impose accountability, it is applied to the bank balances as if a check had been issued
for payment. The bank credits and debits will not have reflected this transaction when the books
have it subsumed in its balances. This is actually a possible avenue for Lapping Receivables.
Book Records
• The NSF customer check returned and recorded is a book reconciling item, if the problem
prefers to reflect the change in the entity’s books (Be keen on whether the check had been
delivered to the entity or to the entity’s bank.)
• The Stop Payment Order is a deduction from the entity’s disbursements, while its immediate
replacement is an increase in the company’s disbursements. A write-off in the company records
will result to a negative entry, hence, a corresponding reduction of receipts must be recorded
to correct the transaction. (If there have been no write-offs prior to the SPO, record the SPO and
the replacement separately.)
• A Mutilated Company Check from last month that was disbursed and returned. If the check was
replaced, but not cancelled, increase both the beginning balance and the ending balance. This
is because the beginning balance had not written-off the cancelled check in time, and so it should
not form part of the current period’s outstanding checks. It is akin to a prior-period error.
Special Audit Considerations for Cash
Proof of Cash – Made to reconcile receipts, disbursements in between periods among the entity’s books
and its bank’s records. It does not provide any information on erroneous amounts in the face of the check
as it is reliant on records between the parties; it also does not provide information on any unrecorded
checks nor uncleared checks as it merely checks the Completeness of the Cash balances per books
Standard Bank Confirmations – These are requests by the auditor for information on the deposits and
loans by the client to confirm their balances and details. It is also a necessary procedure to ascertain the
loan proceeds for receivable financing; as such, it is an Existence Test.
Bank Cut-off Statements – These are statements issued by the banks at around 8 to 10 days after the
period-end. It is a means of providing a verification for outstanding checks and deposits in transit, directly
mailed from the bank to the auditor, in the title or letterhead of the client.
Bank Transfer Schedules – These are schedules used to detect possible kiting by the employees of the
client, which are contrasted against the information in the Receipts and Disbursements Journal.
Kiting – Overstating cash by exploiting bank transfers and floats; the absence of the disbursements
through bank fund transfers will overstate cash balances
Lapping – Taking receivable collections by recording a fake sale to misappropriate cash
Window-dressing – Ignoring the effects of the Cash float to overstate receipts and understate
disbursements
Inter-Bank Transfers
• Book Entries must be conducted within the same month so that the transfer will not be
construed as kiting (i.e., Dr. CIB – A; CIB – B)
• Book entries may be made in the earlier month, but never in the prior month
o The Bank Receipt must occur after the Book Disbursement, otherwise, there is Kiting.
o The attempt to kite the funds is seen when the Book Disbursement happens after the
bank had received the checks or funds, thus overstating cash for this period, and
understating the cash for the next period.
Book Book Disbursement or Bank Receipt or Bank
Rec. Disbursing Bank (Source) Receiving Bank (Destination) Dis.
Kited Check Ignore 1/3/22 12/27/22 Ignore
Not Kited Check ignore 12/24/22 12/25/22 Ignore
• The same principles apply to checks kited between company branches. In that case, check for
Check Numbers. The overstatement and understatements are concealed in such a way that a
branch with enough cash understates its receipts and kites a check to another branch with
insufficient cash. This is done mainly to reduce taxes especially for entities on cash basis.
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Disclosures on Cash and Cash Equivalents

• Policy for determining cash and cash equivalent composition and overall cash balance
• Significant judgements in determining whether a particular asset should be cash equivalent
• The amount of cash & cash equivalents held by the entity that are not available for use
• Temporary placements of excess cash which can be pre-terminated included in the cash balance
• Compensating Balance of cash
Substantive Tests for Cash and Cash Equivalents
Audit Objectives:
a. Balances at end represent all cash on hand, in transit, in funds, and in banks
b. Cash transactions are properly recorded
c. Cash balances are properly described and classified, and adequate disclosures with respect to
restrictions on withdrawal are made
Audit Procedures
a. Cash Counts
• Obtain Custodian’s signature to acknowledge return of items counted
• Reconcile counts with ledger balances
• Trace undeposited collections counted to reconciliation
• Follow up dispositions of items in cash counted:
i. Undeposited collections in bank deposits
ii. Accommodated Checks in PCF are deposited after count to establish validity
iii. IOUs undergo confirmation and traced to collections in next payroll period
iv. Expense Vouchers should be traced to succeeding replenishment voucher
• Coordinate cash count with count of trading securities and other negotiable assets
• Obtain confirmation of year-end fund balances of cash not counted in branches/offices
(simultaneous, surprise cash counts if possible)
b. Confirmation of Bank Balances with direct correspondence with banks and institutions transacted
with during the year
c. Obtain Bank Reconciliation
• Check accuracy of reconciliation
• Trace balance per book to general ledger
• Trace balance per bank to the bank statement and compare with amount confirmed by
bank
• Establish authenticity of reconciling items by reference to respective sources
• Investigate checks outstanding for long periods of time
i. Consider if the checks may be stale
ii. Consider possibility of defects in the check
• Obtain cut-off bank statement showing client’s transactions with the bank at least one
week after report date
i. Trace reconciling items (DIT, Undeposited Collections, OC, Errors by Bank)
ii. Examine Supporting documents that did not clear the cut-off bank statement
d. Obtain list of interbank transfers of funds a few days before and after the report date
• Vouch supporting documents
• Ascertain the booking of related receipts and disbursements within the same day or at
least within the same month
e. Test reasonableness of cutoff
• Compare check dates returned with bank statements
• Trace receipts recorded a few days before reporting date to bank deposits
f. Inspect savings account passbook and certificates of deposits
• Reconcile with book balances
• Update Interest and Principal balances
• Compare with bank confirmation
g. Determine Restrictions
h. Determine Propriety of FS Presentation and Adequacy of Disclosures
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Trade & Other Receivables–PFRS 15, PAS 18, PFRS 9

• A financial asset that represents a contractual right to receive cash or another financial asset
from another entity
• Recognized simultaneously with the recognition of revenue under PFRS 15 at the Transaction
Price or Invoice Price (Fair Value plus Transaction Cost)
• Subsequently recorded at Net Realizable Value or Amortized Cost (Net of Allowances,
Amortization, and Impairment)
Trade Receivables
• Claims arising from sale of merchandise or services in the ordinary course of business
• Normal Operating cycles are periods between acquisition of materials thru processes until realization
in cash or any cash equivalent
• Always net of Trade Discounts, but not Cash discounts
• Trade Discount = Volume; Cash Discount = Prompt Payment
• Invoice Price is the Billed Price or List Price or Retail Price less all Trade Discounts
• Includes: A/R, Customers’ Accounts, Trade Debtors
• Notes Receivable Trade **Dishonored Notes are reclassified as A/R with accrued Interest
• The Gross Method is Practically the correct method to Record Receivables, uses Sales Discount
• The Net Method is Theoretically the correct method to Record Receivables, uses Sales Discount Lost
• Receivables have 4 Allowances: Allowance for Sales Discounts, Returns, Freight Charge, and Bad Debts.
• Allowance for Freight Charge only occurs when the terms are FOB Destination, Freight Collect, and is
set-up to avoid applying the sales discount to the freight charge
Non-Trade Receivables
Loans to Officers, Shareholders, Non-current if due more than 12 Months
Directors and Employees
Advances to Affiliates Investments, depending on term
Advances to Supplier Current Asset
Accrued Receivables Current Assets
Deposits to guarantee performance Current Assets
Deposit with Creditors with claims for Current Assets
losses
Claims from Common Carrier/creditor Other Current Asset
for lost or damaged goods
Claims for Tax Refunds or Rebates Current Assets
Special Deposit for contract bids Other Non-current asset if due more than 12 months
Subscriptions Receivable Net Against Subscribed Share Capital if not currently
collectible, Receivable if otherwise (The Exception)
Special Sales Considerations
Sold upon the issuance of the Bill/Invoice, but not the goods
Bill and Hold Arrangement
(Segregated and unused by seller)
Layaway Sales Goods are delivered upon final installment, Sold in installments
Goods shipped awaiting
Sold upon completion of installation and inspections
instructions
Sales on Approval Sold upon formal acceptance or when right of return period lapses
Treated as consigned out to the buyer-consignee, actual sale of
Sales to distributors
goods by consignee is the extent of sales recognized
Sales partially paid in advance
Sold upon completion of delivery
(Conditional Sale)
Subscription Sales Sales is recognized over a straight-line basis
Installment Sales Exclusive of interest, recognize sale upon delivery of goods
Credit Card Sales Sold upon purchase by buyer
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Accounts Receivable and Doubtful Accounts

Accounts Receivable Allowance for Doubtful Accounts
Beginning Balance Collections of A/R Write-off of Accounts Beginning Balance
Credit Sales Sales Returns Bad Debts Expense
Recoveries of A/R Sales Discounts Recoveries of A/R
Sales Allowances Ending Balance
Write-off of Accounts
Refinanced to N/R
Ending Balance
• If the collections of A/R mention including recoveries, place the Recovery in the T-account.
• If the collections of the A/R mention excluding recoveries, do not record the recovery.
• Estimation of Doubtful Accounts (ONLY Allowance Method is allowed as per standard)
o Percentage of Sales = BD%*NET SALES
o Percentage of A/R = BD%*A/R, End
o Aging of A/R = BD%*A/R, End per class
• Percent of Sales – Bad Debts Expense, I/S approach
• Aging and Percent of A/R – Allowance, end, B/S approach
• All methods may be used in tandem, Percentage of sales is used for early recognition of expense,
Percentage of A/R is used for reasonable estimation of balance, and aging is used for rational
allocation of bad debts expense, oft used in audit
• Different Rates may be used for Each, a Debit Balance is possible for Bad Debts Allowance
• Direct write-off is only done for TAX PURPOSES
• Bad Debts are considered Selling and Administrative Expense, but for stricter classification, it is
a Selling Expense if collection is the Selling Department’s Custody, and Administrative Expense
if it is in the Credit Department’s Custody
Account 1 Account 2 …Total
Beg. Bal XX XX XX
Adjustments to Sales and A/R XX(XX)
XX(XX) XX(XX)
(Other Allowances and Corrections)
Adjusted Balance XX XX XX
Multiply by: Percentage of A/R X% X% X%
Doubtful Accounts (XX) (XX) (XX)
Net Realizable Value XX XX XX
(Net Sales + or – Sales Adjustments) *% of Sales BD= Bad Debts Expense
End Balance of ABD – Predetermined BD – Recoveries + Write-offs = Adjustment to Bad Debts Expense
FOB, D FC -> Decrease A/R; FOB, SP FP -> Increase A/R
• Bad Debts Recovered under Direct Write-off Method are considered Gains on Reversal, or Credit
to R/E.
Write-offs − Recoveries
Bad Debts Percentage =
Credit Sales less Other Allowances
• Some Accounts are by Contract Basis, and are generally outstanding for X years, this means that
the bad debts estimation start counting when the Receivables have been outstanding for more
than X years.
o A Beginning Balance and Ending Balance for ABD may be computed using a BD%
o Projected write-offs in future periods that originate from the year of sale will apply as a
write-off for the year of sale for computing the percentage only, and not the balance
The Cut-off Test of Accounts Receivable
Valid Sale? Recorded Sale? Excluded in Count? Action
Yes Yes Yes NO AJEs
Yes No No Record Sale & Adjust Inventory
No No No NO AJE
No Yes Yes Reverse Sale and Bring Back Inventory
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Notes Receivable
Classified as either Interest-bearing or non-interest Bearing, with Realistic Interest Rate and Unrealistic
Interest Rate; Principal and Interest are entirely different receivables
• Realistic Interest –> Nominal = Effective
• Unrealistic Interest –> Nominal =/= Effective
Nominal > Effective = Premium; Nominal < Effective = Discount
Effective Interest – Effective Interest is generally an interest rate an active market would be willing to
pay for a specific type of note. It is what determines the Income Portion of the Note Receivable; the
Cashflow being determined by the Nominal Rate, which is found in the face of the instrument.
• The Effective Rate is influenced by many factors such as the risk-return trade-offs of investors
as well as inflation. The market believes that the note should earn at the rate it dictates in order
to match the supply and demand of money. All this despite the note’s tenor of paying only at the
nominal rate.
Observe that under Amortization, the instrument eventually catches-up to a point where it equals
the effective rate; this is the maturity date since the instrument promises that it should pay the maturity
value at the maturity date even if it only actually pays at the nominal rate. Under this model of
understanding, the nominal interest received currently would be equivalent to the effective interest
received in the future. This is to say that a P12,000 Interest Received today would be equivalent to a
P14,000 Interest Income in the future, since the Effective Interest Method is a means of pricing future
cashflows that reflect economic conditions.
Measurement and Presentation – The Notes Receivable, as a line item, is recorded at Face, the Premium
or Discount/Unearned Interest Income is presented and amortized accordingly; thus, the Notes
Receivable are presented at Amortized Cost
• Amortize the Premium or Discount over the collection of Interest
• When Principal is collected over the term of the Notes, mind the declining nominal interest
• Interest Bearing, Lump-sum
o Principal @ PV of 1
o Interest @ PV of Ordinary Annuity of 1
o Non-Current
• Non-Interest Bearing, Lump-sum
o Face Amount @ PV of 1
o Interest Expense will increase Carrying Amount
o Non-Current generally
• Interest Bearing, in Installments (Uniform or Non-Uniform)
o Principal Payments + Declining Nominal Interest @ PV of 1; for all payments
o Amount Paid = Current; Amount outstanding = Non-current
• Non-Interest Bearing, in Installments
o Annual Payments @ PV of Ordinary Annuity of 1
o Amount Paid = Current; Amount outstanding = Non-current
• The Cash Price Equivalent is automatically the Present Value at the date of issuance.
• If the Interest is collectible more than once a year, the effective and nominal rates are
compounded (Rate ÷ frequency), and the payments made more frequent (time × frequency)
• If the Interest Collection Date and or Installment Date does not match the Calendar Year, the
Accrued Interest Income is recognized and is prorated over the months elapsing
o This has an effect over Interest Income since some arrangements call for later payments to the
principal despite the accrual of Interest Income (which is the case for Annuity Due
arrangements)
• Installment Sales Method (IAS 18) – Total Annual Payments * Life of Receivable = CV at
acquisition
o Interest Income = Face of Note * i%; Applied to Principal = Annual Pmt – Interest
o The Interest Income after year 1 is based on the Principal Remaining
Dishonored Notes – When the Notes Receivable are dishonored, the transaction is effectively a transfer
from Notes Receivable to Accounts Receivable; (Following the class of account whether trade or non-
trade).
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Receivable Impairment
• Short-term Receivables – Doubtful Accounts
• Long-term Receivables – Credit Risk Adjusted PV of Future Cash Flows (See PFRS 9)
• Impairment is Applied on INTEREST FIRST and then to Principal
o Since the Carrying Amount of the Receivable includes both interest and principal, so too should
the PV of all Future cash flows hence the need to separate the components for purposes of
adjusting the accounts separately
• The ALLOWANCE FOR IMPAIRMENT LOSS is reduced by interest income and for Presentation
Purposes, the Loan/Note is PRESENTED at FACE, and is reduced by ALLOWANCE FOR LOAN
IMPAIRMENT
Principal CA at Impairment Nearest CA to Impairment
XX Date XX Date XX
Accrued Interest Recorded, Unpaid Accrued Interest
Prorated XX PV of Cash flows (XX) Recorded XX
Unamortized Carrying Amount XX Impairment Loss XX Carrying Amount XX
Impairment Reversal (Follow PFRS 9)
PV of All Future Cashflows XX
Actual Amortized Cost (XX)
Impairment Reversal XX

Original Face of Receivable XX

Projected Actual CF (XX)
Cash Shortfall XX
Impairment Loss XX
Initial Balance of Allowance XX This requires a reduction in the balance of impairment.
Receivable Financing
Securitizing Cashflows from creditors with existing receivables
• Pledging/Hypothecating – Securitizing loans with A/R GENERALLY (Control Account)
o The Pledge of A/R is merely recognized by a memorandum entry
o The discount provided due to hypothecating is amortized and charged to Interest Expense
o The discount is separately presented in the SFP (Discount – Amortization), while in the SCI, it is
merely presented as interest Expense (Amortization)
• Assignment – Securitizing loans with A/R Specifically (Subsidiary Ledger); under an Assignment of A/R
transaction, the Assignee reserves the right to acquire the proceeds of the sales made by the assignor;
the right to collect the proceeds may be done either on a recourse or no recourse basis.
o The assignment is accomplished by actually reclassifying A/R into A/R Assigned
o Equity on Assignment (A/R Carrying Amount – Carrying amount of Loan) do not apply A/R to
the Interest Expense if the problem is silent.
o Non-notification basis – debtor assigned may or may not be notified of the assignment
▪ Under this arrangement, the Cash Proceeds are reflected in the books
▪ Collection of A/R is debited to Cash, net of discount
▪ Remittance of Loan is debited to Notes Payable and Interest Expense
o Notification/ Sans or with Recourse
▪ Under this Arrangement, the Cash Proceeds are not reflected in the books
▪ Collection of A/R is debited to Notes Payable, net of discount
▪ Only Interest Expense is remitted since the loan is directly paid-off with A/R Collection
o Same procedures with usual A/R are followed for Allowances, Write-offs, and Recovery
• Factoring – Sale of receivable to a finance company called a factor, assuming risk of collection,
handling billing and collection. An Account Receivable from Factor is presented as a Current Asset
o Casual Factoring – It is an outright sale of receivable, with or without recourse; it is a
transaction that is not regularly entered into by the entity, hence the loss on factoring is NOT
considered an Interest Expense
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o Regular Factoring – It is a true Financing Transaction; the cost of factoring is debited to Interest
Expense, since the entity regularly engages in financing with its receivables. It may be done
with or without recourse (No Loss, expenses are losses)
o Without Recourse – The entity will recognize no Estimated Recourse Obligation, since loss is
entirely assumed by factor. The entity and the factor, under this arrangement, agree that any
holdback, if any, will be sufficient to cover bad debts, discounts, and allowances; hence the risk
of non-collection rests with the factor.
o With Recourse – Estimated Recourse Obligation is recognized, and additional cash payment
may or may not be required by the factor depending on the amount the factor collects; resulting
in either a Gain or Loss on Extinguishment of Recourse Obligation. The factor’s holdback may not
be sufficient to cover the risk of non-collection.
▪ Upon a Loss on Factoring, additional cash is credited or an Increase in Estimated
Recourse Obligation may be recorded
▪ There is no Gain on Factoring, however, a Gain on Extinguishment of Recourse
Obligation may be recognized if no further payments to the factor are necessary.
o Receivable from Factor (Debit) is the Balancing Figure when the Factor is able to collect the
whole NRV of the A/R
o Interest Expense is equal to Loss on Factoring, while Factoring Fee is an outright expense
Gross Amount of Receivable XX
Factor’s Fee (XX) Net Selling Price XX
Finance Charge and Interest (XX) Recourse Obligation (if with recourse) (XX)
Net Selling Price XX Book Value of A/R (NRV) (XX)
Factor’s Holdback (XX) Gain or Loss from Factoring XX
Net Cash Received from Factoring XX
• Note Discounting
o With Recourse – the debtor’s default (issuer of the note receivable) will make the entity liable
to the bank for the note; the Bank is hence secured from losses, making the transaction a true
Financing Transaction. (Secured Borrowing, no Gain or Loss or Conditional Sale)
o Without Recourse – No liability over the default of the debtor is assumed but the bank
nonetheless takes all the risks and rewards associated with the instrument, hence the
receivable is “sold” at a discount; requiring a gain or loss on discounting (Unconditional Sale)
Principal XX Net Proceeds from Discounting XX
Accrued Interest, prorated until reckoned date XX Carrying Amount at Discount Date (XX)
Gain or (Loss) on Discounting
Carrying Amount at Discount Date XX XX
Net Proceeds = (Maturity Value + Surcharges + Penalties – Costs Incurred) * (1-d%)
o Discounting without recourse – N/R will be net of discounted note, because the note is sold.
o Discounting with recourse, contingent Liability or conditional sale – N/R is totaled, with
discounted N/R separately indicated to be deducted, with disclosure since the note is sold
upon the bank’s collection on the note
o Discounting with Recourse, Secured Borrowing – Notes Receivable is not affected, mere
disclosure required since the Note is merely pledged to the Bank.
o At Maturity, if honored note, derecognize notes receivable discounted.
• Discounting own note (Note Payable) is treated as a regular loan, recognizing a Contra-Liability
Account; Considered either as a Conditional Sale under General Rule with gain or loss;
and as Secured Borrowing as the Exception, no Gain or Loss is Recognized
Loans Receivable
• Receivables for Financial Institutions and Banks
Principal Amount XX Add Direct Origination Cost
Direct Origination Cost XX Deduct Direct Origination Fees
Direct Origination Fees (XX) Expense Indirect Origination Costs
Initial Present Value or Carrying Amount XX
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Derecognition of Receivables
• Contractual Right to receive cash expires or
• The entity transfers the financial asset ceding its control to some other entity
• Gain or Loss = Net Proceeds – Book Value
Presentation
• Presented as one line-item as Trade and Other Receivables under Current Assets
• Long-term Receivables are reported as Long-term Investments and or Other Non-Current Assets
• Translate Receivables at spot rate
• A Credit Balance on Receivables is a current liability, but is not Offset against the whole balance
Disclosures on Receivables
• Nature of the receivables, including significant terms/conditions affecting the amount
• Accounting policies adopted for measurement and recognition criteria
• Credit risk exposures; without taking into account any collaterals, in the event of default/failure
to perform obligations by the counter party
• Information regarding interest rate risk exposures including repricing and maturiities
• Receivable Financing, as to the nature, the terms/conditions, fair values of collaterals and
carrying amounts
• Interest Income, Accrued Interest, and Impairment Losses
Substantive Tests for Receivables
Audit Objectives
• Receivables represent valid claims against customers and other parties, and are recorded
• Related allowance for doubtful accounts, returns, allowances, and discounts are reasonable
• Receivables are properly described
• Disclosures with respect to the accounts are adequate
Audit Procedures
a. Obtain list of aged AR balances from Subsidiary Ledger
• Foot and cross-foot the list
• Check if the list reconciles with ledger and control account
• Trace individual balances to subsidiary ledger
• Test accuracy of aging
• Adjust non-trade accounts erroneously recorded in customer list
• Investigate and reclassify significant credit balances
b. Test accuracy of balances appearing in subsidiary ledger
c. Confirm accuracy of individual balances by Direct communication with customers
• Investigate exceptions reported by customers and discuss with appropriate officers the
matters
• Send a second request for positive confirmation to customers with no replies
• If the second request does not prosper
i. Review collections after year-end
ii. Check supporting documents
iii. Discuss the account with appropriate officer
iv. Perform extended procedures and prepare a summary
d. Review correspondence with customers for possible adjustments
e. Test propriety of cut-off
• Examine sales records and shipments made a week before and after reporting period
• Investigate large amounts of sales returned shortly after end of report period
f. Perform analytical procedures
g. Preview individual balances & age of accounts to determined write-offs & adequacy of bad debts
h. Obtain analysis of other receivables
i. Ascertain if some receivables are pledged, factored, discounted, or assigned
j. Determine propriety of FS presentation and adequacy of disclosure
k. Obtain Receivable Representation Letter from client
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Inventories–PAS 2
• Held for Sale in the ordinary course of business
• In the process of production for such sale
• In the form of materials or supplies to be consumed in the production process or rendering of services
Raw Materials, Beginning XX
Raw Materials Purchased XX • Initially Measured at Cost
Raw Materials Available for Use XX (Purchase, Conversion, and other
Raw Materials, Ending (XX) Costs incurred to bring the asset
to its intended use)
Raw Materials Used XX
Direct Labor XX • Non-inventoriable Costs:
Factory Overhead XX o Storage Costs (unless
essential to goods)
Total Manufacturing Cost XX
o Cost to Sell/Distribute
Work in Process Beginning XX
o General and Administrative
Total Goods Placed into Process XX
Costs
Work in Process Ending (XX)
o Abnormal Spoilages,
Cost of Goods Manufactured XX
Wastage, Shrinkages, etc.
Finished Goods Beginning XX
• Subsequently measured at
Total Goods Available for Sale XX
Lower of Cost & Net Realizable
Finished Goods, Ending (XX)
Value
Cost of Goods Sold (With Loss on Write-down) XX
Inventories Allowance for Inventory Write-down
Beginning Balance Cost of Sales Gain on Recovery Beginning Balance
Cash Purchases Purchase Returns (Reduction to Loss on Write-down
Credit Purchases Purchase Discounts COGS) (Add to COGS)
Direct Labor Purchase Allowances Ending Balance
Factory Overhead
Ending Balance
• Inventory may be accounted for using the Periodic System where the inventory is counted at
period end, seeing how much inventory is sold and remaining (w/ Purchase Accounts, I/S)
• Inventory may also be accounted for using the Perpetual System where inventories are counted
every after purchase or sale. This means that inventories and the cost per unit are constantly
updated upon sales/purchases. (No Purch/ MI, b) This method does not require y/e adjusting
entries.
Inventory Cost Flow
• Inventory may be costed using Specific Identification of items, First in First out, Average Method
• FIFO, for both periodic and perpetual, are the same.
o Counting inventory sold starts from the first unit available for sale until period cut-off,
whatever inventory is counted is considered the Ending Inventory, all else are deemed
sold as evidenced by sales invoices
Inventory, end Units * Unit Cost of the transaction
• Weighted Average Method – Periodic Inventory
o The Cost of Inventory is recomputed once for the entire year
(TGAS pesos/TGAS units) * Inventory, end Units
• Moving Average Method – Perpetual Inventory
o The Cost per unit is recomputed for each purchase transaction
o Note that Purchase Returns will take the last moving average cost and will not need re-
computation but the number of units will change
o Sales will change Total Quantity (ignore sales returns unless otherwise mentioned)
(Total Cost after Purchase Order/ Total Quantity after Purchase Order) * Inventory, end Units
For both Moving Average and Weighted Average Methods, the Purchase Discounts and PRAs are not applied
to the ending inventory balance for estimation. They are directly credited against Purchases under the
Periodic Method, and to Merchandise Inventory under Perpetual Method
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Subsequent Valuation – at LCNRV

• Also termed as Impairment of Inventory
Net Realizable Value XX
Historical Cost (XX)
Loss on Inventory Write-down XX
• Done on a per item basis
o May be done on a per class basis as the case may be (similar and homogenous goods)
• DIRECT WRITE-OFF METHOD – immediately charge to loss, no recoveries allowed; LOSS IS A
SEPARATE ITEM IN THE I/S
• ALLOWANCE METHOD – create an allowance to allow recoveries; LOSSES OR GAINS ARE INCLUDED
IN COST OF GOODS SOLD; Recoveries cannot exceed the allowance
Finished Goods Work-in-Process Raw Materials
Estimated Selling Price XX Estimated Selling Price XX Impaired only if FG is impaired;
Cost to Sell (XX) Cost to Complete (XX) NRV=Current Replacement Cost
NRV XX Cost to Sell (XX)
NRV XX
o Estimated Selling Price of WIP is the same as with FG
• Changes in Inventory Method are accounted for as a Change in Accounting Policy
Beginning Inventory if Using FIFO XX
Beginning Inventory if Using Average Method (XX)
Over (Under)statement of Inventory XX
Inventory Cut-off
• Determine VALIDITY of SALES AND PURCHASES
• Determine whether the transactions are RECORDED or ADJUSTED
• Determine whether the INVENTORY is Included or Excluded
o Transactions above are considered VALID if the question is silent as to their status
o For Freight, these are adjustments to both Inventory and Accounts Payable
o Freight does not apply the gross profit rate
Freight Terms
• FOB SP, FOB Seller – Control transfers upon shipment
• FOB D, FOB Buyer – Control transfers upon actual receipt of goods by Buyer
• CIF (Cost, Insurance, Freight) – Control transfers upon delivery to the carrier inclusive of insurance
and freight
• FAS (Free alongside) – Buyer takes control upon receipt of goods by Carrier (FOB SP Maritime)
• Ex-Ship – Seller passes upon buyer’s port (FOB Destination Maritime, BP to buyer – buyer’s cost)
• Freight Collect – Freight charge is not yet paid by seller, carrier collects from buyer
• Freight Prepaid – Freight Charge is paid by seller FOB, D FC – Reduce A/P; FOB, SP FP – Increase A/P
• Goods on Consignment – Include as consignor: Out on – OR, Held on – EE
• Goods on Trial – Testing before mass sourcing: Out on – owned, held on – not owned
• Inventory Financing, Park Sale/Goods with Right of Repurchase – No Sale
• Installment Sales – Sold upon physical delivery
• Segregated Goods – Not Sold
• Bill and Hold – Sold
• Special Order – Sold
• Goods in Transit – Sold if FOBSP, unsold if FOBD
o These are also most likely not yet included in the inventory count
• Damaged Inventory – Other Assets
• Sale with Right of Return – Silent, sold; if there is an indication of expected return, no sale.
• Layaway Sales – if the inventory is already held by the buyer, there is a sale (and the full payment
is already received.)
• Inventory borrowed to be replaced – Sold
• Inventory borrowed to be returned – Not Sold (Lease)
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Inventory Estimation
• Reproducing Inventory amounts without physical counts, done when physical count is not
practical (interim reporting and strong internal control) or when significant quantities inventories
are lost
Adjusted Goods Available for Sale XX
Adjusted Sales (XX)
Estimated Ending Inventory XX
• Cost of Sales = Gross Sales * Cost Rate (Based on Sales)
• Cost of Sales = Gross Sales/Selling Price Rate (Based on Cost)
• Gross Profit Rates
o Average GPR = Ave. of GPR
o Overall GPR = GPR per Year/ Sales per Year
• Assumptions for Sales:
o Ignore Sales Discounts
o Add back Special Discounts
o Deduct Sales Returns ONLY
o Ignore Sales Allowances (Deduct if Sales Returns and Allowances is used)
o Normal Spoilage, breakage, losses are added back, IGNORE Abnormal Spoilage
Gross Sales XX Goods Available for Sale at Retail (Use Ave Method) XX
Sales Returns (XX) Gross Sales (Cost of Sales at Retail) (XX)
Employee Discounts XX Estimated Ending Inventory at Retail XX
Normal Spoilage XX Multiply by: Cost Rate (LCA, or Average) X%
Net Sales XX Estimated Ending Inventory at Cost XX

Cost Retail Cost

(A) (B) Rate
(A/B)
Beginning Inv. XX XX
Purchases XX XX
Freight IN XX
P. Returns (XX) (XX)
P. Allowance (XX)
P. Discount (XX)
Departmental Transfer In XX XX
Departmental Transfer Out (XX) (XX)
Stolen Merchandise/Abnormal Spoilage of XX XX
FG
Net Mark-up XX XX
COGAS -LCA XX XX X%
Net Mark-down (XX) (XX)
COGAS -Ave XX XX X%
Beginning Inv. (XX) (XX)
COGAS -FIFO Ave XX XX X%
Purchase Commitments
• Follows the Principle of Conservatism, and NRV recognition. Accounts Payable is Fixed,
Purchases can go down, but never go above the contract terms. Upon incurrence of Losses,
Gains can be recovered up to the extent of the loss only.
• Recognizing declines in prices makes the recognition of Estimated Liabilities necessary. No
Estimated Gains to follow conservatism; Gains and Losses are recognized in Different Periods
• These Purchase Commitments are outside the scope of Hedge Accounting under IFRS 9
• The Loss on Purchase Commitments is Absorbed by the Inventory purchased, and is effectively
realized along with the actual cost of inventory upon ultimate sale.
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Trade Date Change Year-end Change Settlement Date

Underlying XX XX XX
Cost per unit X Y Z
TOTAL XX XY YY YZ ZZ
Reversals XX 0 YY AA XX
Disclosures on Inventories
• Accounting policies in measurement, and cost flow method used
• Total Carrying Amount of inventories and carrying amount in classifications appropriate to the
enterprise
• The total carrying amount of inventories carried at Fair Value less Cost to Sell
• The amount inventories expensed during the period (Cost of Sales)
• The amount of any write-down of inventories recognized as an expense in the period
• The amount of any reversal of any write-down that is recognized as income in the period and the
circumstances/events that led to reversal
• The carrying amount of inventories pledged to secure liabilities
Substantive Tests of Inventories
Audit Objectives
• Inventories included in the SFP physically exist
• Inventories represent items in the definition of Finished Goods, Work in Process, Raw Materials,
and Merchandise/Supplies used for rendering service
• Inventory quantities include products, materials, supplies (On hand, in transit, or stored at
outside locations)
• The entity has legal title to the inventories
• Inventories are properly stated at LCNRV
• Inventories are properly described and classified in the FS and disclosures are adequate
Audit Procedures
a. Observe Physical counts
• Test shipping and receiving cutoff procedures
• Account for all inventory tags and count sheets used in recording the physical inventory
counts
• Test the clerical accuracy of inventory listings
• Trace test counts recorded during the physical inventory observation to the listing
• Reconcile Physical counts to perpetual records and general ledger balances and
investigate variations
• Test Inventory Transactions between preliminary physical inventory date and the end of
the report period
b. Obtain confirmation of inventories at locations outside the entity
c. Review perpetual inventory records, production records, and purchasing records for indications
of current activities
d. Analytically review the relationship of inventory balances to recent purchasing, production,
and sales activities and to anticipated sales volume to test obsolescence of inventory
e. Examine paid vendors’ invoices, consignment agreements and contracts
f. Review labor and overhead rates
g. Test the computation of standard and budgeted overhead rates
h. Examine analysis of purchasing and manufacturing standard cost variances
i. Examine inventory turnover analysis
j. Review industry experience and trends
k. Tour the manufacturing plant. Inquire production and sales personnel on possibility of excess
and obsolescence
l. Examine sales after year-end, and open purchase order commitments
m. Obtain confirmation of inventories pledged under loan agreements
n. Review drafts of the financial statements
o. Compare the disclosures made in the financial statements to the requirements of the PFRS
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Agriculture–PAS 41
Agricultural activity is the management by an entity of the biological transformation of biological
assets for sale into agricultural produce or additional biological assets
• Capability to Change physically and biologically
• Management of the Change via farming, aquaculture, etc.
• Measurement of Change i.e., weight, ripeness, fiber lengths, etc.
• Biological Transformation follows these following outcomes: Growth, Degeneration,
Procreation/Birth. This transformation is manifested by the Unrealized Gains in the Books
Agricultural Produce XX
Unrealized Gain on Agricultural Produce XX
Applicability of PAS 41 – Agriculture
Biological Assets (LIVING animal or Plant ready for Harvest)
• Consumables – harvestable/culled
• Bearer Animals – May be Mature or Immature; intended for rearing and harvesting
• Bearer Plants are considered PPE, in terms of valuation & classification, and disclosure
o Bearer plants that are harvested at the end of their life (dual-purpose bearer plants) may
be accounted as Biological Assets rather than PPE, depending on the intended purpose
• Agricultural Produce at the POINT OF HARVEST
o Harvesting these will qualify them as Inventory instead (After Point of Harvest)
Unconditional Government Grants related thereto measured at Fair Value less Cost to Sell
• Conditional Government Grants are recognized only when the condition/s have been met
o As such, any and all grants related to agriculture are covered by PAS 41, and not by PAS
20 (Except if these relate to Bearer Plants under PAS 16)
NOT APPLICABLE TO: (In terms of Measurement, Classification, and Disclosure)
• Agricultural produce after the point of harvest (Inventories IAS 2)
• Land related to agricultural activity (PPE IAS 16)
Combined Cost XX
Land and other Land Improvements (XX)
Fair Value of Biological Assets attached XX
• Agricultural Activity that are Extractive in nature (Ocean Fishing, Foraging, Deforestation)
Covered by Wasting Assets IFRS 6
• Animals for recreational and other ancillary purposes such as zoo animals and service animals
are covered by Property, Plant, and Equipment IAS 16
Measurement
• Initially at FVLCTS, except when fair value is not measured reliably; there is a rebuttable
presumption that FV is always readily determinable.
• If the fair value is not determinable, the Biological Asset is measured at historical cost until
a ready market is known, available, and that the fair value is measured reliably.
IFRS 13 provides for the following indicators of and qualities of various markets:
Level 1 Markets or Fair Examples: The unadjusted quoted prices in active
Observable
Values markets for identical assets
Examples:
• Quoted prices of similar assets
Level 2 Markets or Fair Observable
• Quoted prices of identical assets in an inactive
Values but less so
market
• Inputs other than quoted prices that are observable
Level 3 Markets or Fair Value Unobservable The Present Value of Future Cash Flows
• Cost incurred after harvests are expensed
• Cost incurred for cultivation are typically expensed; the standard does not specify any treatment.
• If the fair value is already given, do not deduct the transport costs anymore.
• Contract Prices – are typically ignored for valuation of the Agricultural Produce, but are the
basis for determining gains or losses on disposal or quite literally, sales.
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• The Fair Value Less Cost to Sell is in the perspective of current salability, if the produce is
unsalable, or has no use, there is no fair estimated selling price determinable.
Estimated Selling Price XX Cost of Contracts – Ignored; this is transaction
Transport and Other Cost to bring to Market (XX) specific and has no bearing over market conditions
Fair Value XX
Cost to Sell (Commissions, Taxes, Levies) (XX) Costs to sell are always incremental, in that the
Fair Value less Costs to Sell XX sale will never occur if these are not incurred.
Gains and Losses
Consider: Age and Price (FVLCTs)
Closing Price by Closing Age XX Closing Price by Beginning Age XX
Closing Price by Beginning Age (XX) Beginning Price by Beginning Age (XX)
Gain or Loss per Unit XX Gain or Loss per Unit XX
Multiply by Quantity XX Multiply by Quantity XX
Total Gain XX Gain or Loss due to Price Change XX
Price of Newborns (FVLCTS*Qty) XX
Gain or Loss due to Physical Change XX
• Gains on Harvest and Disposal are accounted for as Inventories
• Sudden Deaths cannot be sold, thus, a loss is expected and is accounted for separately
Inventory vs Biological Assets vs Non-current Held for Sale vs PPE
Inventory Biological Assets NCAHFS PPE
Intention Held for Sale Held for Sale Immediate Sale Held for Use
LCNRV FVLCTS FVLCTS Book Value or FV
thru revaluation
LCNRV is generally FVLCTS is applied FVLCTS is Continued use is the
applied when the when the applied when best reason to value
inventory at the end intention is for the intention is properties that
of the period (i.e., current and for current and extend for more
those unsold) are immediate resale. immediate than one accounting
still intended for Biological Assets resale. NCAHFS period. As such, the
Subsequent resale, only that in general are do not have a benefit is
Valuation they are reflected under the rebuttable claimed/manifested
for future market rebuttable presumption through
conditions. presumption that regarding ready Depreciation
there is always markets, which Expense and or
are ready market is why IFRS 5 Revaluation Surplus.
for their resale. requires a high
Evidence is probability of a
required for the sale occurring.
contrary.
The Basis for Impairment does Impairment Impairment is
impairment would be not apply applies only assessed on the
the difference of upon initial larger recoverable
Cost and the recognition and amount. (Value in
Impairment
Recoverable Amount is reversible to Use vs. FVLCTS). It is
at sale. It is the extent of the reversible, may be
reversible to the loss. It is the CV accumulated like
extent of the loss. vs FVLCTS DEPEX.
Through Sale or Through Sale or Through Sale Through Use
Benefit
Further Conversion to Conversion to
Realized
Finished Goods Inventory
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Property, Plant, and Equipment–PAS 16, PFRS 13

These are Assets Held for use in production of goods/services, rental, administrative functions and
are Expected for use for more than one period
• Major spare parts for equipment and machinery
o Recognize as PPE if it is USED and is for MORE THAN ONE PERIOD
o Or if it is a major component for the use of PPE
▪ Intangibles like Software Installed for Machine used is Capitalized as PPE
• Cost incurred to ensure Safety and Environmental Care is capitalized to PPE
• In Principle, if the Item is Useful, is Generally used for the long-term, it is capitalizable as PPE
• Basket Price Acquisition will require prorating for common costs (for Land & Building usually)
Initial Measurement
• Purchase Price • Asset Retirement Obligation (Cost of
• Non-refundable Import Duties and VAT Dismantling)
• Property Taxes • Installation Costs
• Cost of Testing, net of proceeds from • Initial Delivery and Handling
samples**(No longer applicable 2022 onward) • Cost of Employee Benefits from Construction
• Cost of Site Prep • Borrowing Cost
• Professional Fees
Machinery and Equipment
• Purchase Price • Cost of Testing and Trial Runs, net of Proceeds***
• EXCLUDE VAT ON PURCHASE (VAT Input Set-off) • Consultant’s advice on Acquisition Unloading
if silent; if non-VAT entity, include Charge
• Cost of Cooling Devices • Installation Cost
• Cost of Adjustments to Machinery to improve • Cost to Replace old machinery is expensed
Efficiency, Capacity, Productivity • Asset Retirement Obligation
• Major Repairs • Borrowing Cost
• Construction of Installation Settings • Royalties on Machines and Equipment
• Insurance while in Transit o Royalties is based on Production – Overhead
• Freight, Handling, and Storage o Royalties is based on Sales – Selling Expense
Land
• Purchase Price • Option Cost of Land Required
• Surveying Cost o Taken Option – Capitalized
• Cost to Register and transfer of Title o Forgone Option – Expensed
• Legal Fees • Earnest money – Part of Purchase Price,
• Mortgages and Other Liabilities assumed which capitalizable
are Attached to the Title of the Land • Special Assessments paid to LGU
• Unpaid Real Property Taxes in Arrears • Improvements of Land
• Commission to Brokers and Agents o Surveying, Clearing, Grading, Leveling,
• Cost of Clearing Structures, less Proceeds*** Subdividing, Canal works to the Land
o Not the same with Demolition Cost and (Anything to do with Space) charge to Land
Inducing Tenants/Illegal Settlers to Vacate • Improvements to Land/Land Improvements
Premises (To Building) ▪ If part of Building Blueprint – Capitalizable to
o a.k.a. Razing Land Building
• Other Demolition Costs ▪ If not, A separate Account (Parking Lot,
o Payments to Tenants to induce vacancy Driveways, Lighting, fences, etc.)
o Cost to Relocate Tenants ▪ Land with no Intended Use/Idle Land –
o Cost to reconstruct buildings of tenants Investment Property
induced to leave • Condemned Land/Unusable Land – Other Assets
o PIC 2012-02: No indication of construction – • Land for Operating Lease – Investment Property
only Land; Intent to construct – Building only • Land for Developed for Resale – Inventory
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Building – Old Building

• Purchase Price • Renovation and Remodeling Cost of Old Building
• Legal Fees Payment to Tenants to induce them to leave
• Liabilities assumed
Building – Constructed Asset
• Construction Cost • Cost of Demolishing Old Building, less
• Building Permit and License Proceeds**
• Architect’s Fee • Insurance
• Fees paid for Supervision o During Construction – Capitalized
• Excavation Costs o Not Taken, Damages claimed – Expense
• Cost for Service Equipment Borrowing Cost • Building Fixtures
• Cost of Security Fences and Scaffolding o Immovable – Capitalized as building
• Cost of removing safety fences and scaffolding Movable – Furniture and Fixture

Common Costs of Land and Building, acquired in a Basket Price

• Purchase Price • Relocation of Tenants, Reconstruction of
• Mortgages, Liens, and Other Encumbrances Tenants’ housing, Payments to Tenants to
• Real Property Taxes in Arrears induce to Vacate
• Broker’s Fees and Real Estate Agent’s • Option Payments exercised
Commissions • Employee benefits and Advisory Salaries for
• Escrow Fees acquiring the Real Properties
Other Concerns
• Demolition Costs – Charged to Land if no buildings are constructed (This also includes cost of
relocating and inducing tenants and illegal settlers to leave.)
• Cost of the Demolished Building – Charged as a Loss in P/L; This occurs even if the common costs to
the old building had been allocated already. If the acquired property is Inventory, the cost is capitalized
• Building has a Minimal Fair Value – Allocate all common costs to land; and No Building is recognized
unless the cost is exclusive to it (This is when the Building acquired with the land is unusable).
• Repairs upon installing PPE and cost to correct installation errors – Expensed generally
• Proceeds on Salvaged Goods and Goods from Testing – No longer deducted from Cost of Building and
is reported as Other Gains in P/L
• Allocated Overhead – Based on Direct Labor Hours or Incremental Value (The units sacrificed to
accommodate construction.)
• Dismantling Costs vs Demolition Costs – Dismantling costs are literally for the end or decommissioning
of the property, while demolition costs are for the construction of another property in place of the
demolished one.
Modes of Acquisition
Cash Basis or on Accrual Basis
• Always net of Cash and Trade Discounts;
• Deduct Recoverable Taxes (This is in respect to the Entity’s VAT Classification; VAT payers must
deduct the VAT, while non-VAT payers must not deduct the VAT.)
• Property purchased in a basket consideration should be valued at the relative fair value, if one of the
properties do not have a determinable fair value, use the residual approach.
• In a basket acquisition, the cost of PPE is allocated on the basis of relative fair values. This also applies
to incremental costs incurred to effect the transfer of PPE to the entity.
Installment Basis
Recognize PPE Immediately upon receipt or constructive receipt, paying interest and credit over time (In
this order FV of PPE Received, FV of Debt Issued, Cost of PPE Received)
Cash Price Available Cash Price not Available
Cash Price Equivalent XX PV of Principal XX
Face of the Note (XX) PV of Interest (XX)
Interest Expense Amortizable XX Cost of PPE XX
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Bond Issuance (IFRS 9)

This is technically also a cash price equivalent; some scholars believe that the Fair Value of the Bonds
should prevail over the Fair Value of the Property Received. This is still contentious, however, in regard
to the standard applied, for exam purposes, take the Fair Value of the Bonds over the Fair Value of
the Property. (Refer to IAS 16 p23; IFRS 9 pB5.1.2a; IFRS 13 13.57)
Share Issuance Basis (IFRS 2)
• FMV of Property Received -> FMV of Shares Issue -> Par Value of Shares Issued in that order
• (Gain is credited to Share Premium, Loss is debited to Discount on Share Premium or Retained
Earnings if the Balance of the Share Premium in that transaction is insufficient)
Trade-in Transaction
Trade-ins are transactions whereby a sale normally for cash is reduced for an additional boot of a
similar property. The property would have been sold below its cost, hence to in order to maximize its
use, an exchange is done instead. The list price is the cost to acquire property without trade-in
consideration. The trade-in adjusted cash price or contract price is the amount adjusted for property
traded-in (FMV of property given + Cash). The Allowance or Trade-in Value (FMV Given) is the
differential between the property given-up and the property received, i.e., it is the amount a dealer
would consider when buying the property given-up on its own.
• Measure at Fair Market Value, except if:
o There is No Commercial Substance (NCS) or if there is No FMV Available
Commercial Substance is the overall effect of the trade-in transaction in terms of benefits for both of
the trading parties. For example, a construction company enters into a trade-in with another one,
requesting to acquire a specialized equipment that the other has. The former cannot pursue their
construction contracts without entering into the exchange, the latter sees an opportunity to put their
assets to use through disposal. In this case, there is an adequate consideration to enter into the trade-
in. The Trade-in may have commercial substance even in the absence of fair values on the basis of the
opportunity cost of foregoing their respective contracts alone, but in this case, the trade-in is only at
book value adjusted for trade-in allowance.
The Trade-in loses commercial substance if there is no adequate consideration to enter into the
contract, that is, the exchange of the properties is incidental and there are no significant changes in
profits or cashflows before the trade-in and after the trade-in.
• If at FMV, compute Gain or Loss
No Cash With Cash – Payor NCS Payor
FMV Received FMV Given + Cash BKV Given +Cash
FMV Given No Cash – Payee NCS Payee
Cost or Book Value FMV Received – Cash BKV Received – Cash

No Cash With Cash

FMV Given XX Trade-in Value XX List Price XX
BKV Given (XX) BKV Given (XX) Trade-in Adjusted Cash Price (XX)
Gain or (Loss) on Exchange XX Gain or Loss XX Trade in Value or Allowance XX
Donation
• From Shareholder – Credited to share premium or share capital, costs incurred to acquire costs
and share issue costs are netted against donated capital; any that are capitalizable but are not
part of the donation are not charged against donated capital
• From Outsiders – Credit to subsidies or liability account until conditions are met, liability
transferred to income upon satisfying condition, DIRECT COSTS ARE CAPITALIZED
• Deduct any Share Subterfuge to the Cost of PPE (Excessive shares are issued for PPE i.e., par
value or cost of shares > FMV of PPE, then these are subsequently donated back into the entity.)
Through a Finance Lease (IFRS 16)
• The property is valued at the lower of the Fair Value and the Present Value of all cashflows in
the lease. (See Lease Contracts PFRS 16 in this text.)
• Depreciation of Right of Use Asset will depend on the intent to purchase at the end of lease term.
• Be mindful that due to IFRS 16’s requirement of finance lease reporting for lessees, an operating
lease not qualifying as either short-term lease or low-value lease is required to be reported in
the lessee’s books as Right of Use Asset with Lease Liability.
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Government Grants PAS 20

Assistance by Governments in the form of transfers of resources to an entity in return for past or
future compliance with condition relating to operations
• Excludes accounting assistance such as advise and expertise
• There are Asset Grants and Income Grants
o Asset Grants – Entity is qualified a grant on the condition that they purchase or construct
long-term assets, subsidiary conditions may be attached
o Income Grants – Non-asset grants (Debt condonation, zero-rate loans, free transfers)
• Recognized at Fair Value
o Upon probable compliance
o Upon probably receipt of grant
• Recognized at P/L over a systematic basis, following the matching principle
o Income on GGs recognized in the same period of the related expense
o GGs that are receivable as compensation for losses are recognized immediately as Income
o Grant Income will match Depreciation of Depreciable Assets
o Grant Income will match P/L over the periods in which Grant conditions are fulfilled if
the Asset is Land/Non-depreciable
• Presented as Either DEFERRED GRANT INCOME or AS A DEDUCTION TO THE RELATED ASSET
CONSTRUCTED
• Upon Realization, Grant Income is presented as OTHER INCOME or AS A DEDUCTION TO THE
EXPENSE INCURRED in performing an obligation
• Governments may demand repayments of Government Grants, here, the balances to deferred
income/asset will cease to recognize income and will be treated as a loss
Cash Repayment by Entity XX
Unamortized Deferred Income from GG (XX)
Loss on Repayment XX
• The differential under Net and Gross Method is the Unearned Grant Revenue. This causes also a
differential in Depreciation Expense on the Grant Asset. This is actually a Change in
Accounting Estimate and is accounted for prospectively. Any catch-up depreciation is applied
as Depreciation Expense, and not as a retrospective adjustment in Accumulated
Depreciation.
• For Depreciable Assets, an Increase in the Asset’s Carrying Value or Decrease in the Deferred
Income is Debited
o It is the ACCUMULATED AMORTIZATION OF THE GRANT or Grant*Age/Original Life
• Net Method – Deferred Income is charged against the Cost of PPE, thus depreciation is reduced
• Gross Method – Deferred Income is not charged against the Cost of the PPE upon initial
recognition
• The Capital Approach or Net Method is applied on the basis that the entity does not earn the
benefit from the government grant.
• If the Revaluation Model is used for Properties covered under Government Grants under Net
Method, only the carrying value is revalued. Government Grant is not applied to revaluation.
• The Income Approach or Deferred Income method argues that grants are actually income since
it comes from non-stockholders, and that it is actually earned through compliance.
Book Value under Net Method (Larger) XX
Depreciation Differential (GG*Age/life) (XX)
Book Value under Gross Method (Smaller) XX
Borrowing Cost PAS 23
• Interest and Other costs an entity incurs in connection with borrowing funds
• Includes Interest Expense from Effective Interest Method, Interest in Lease Liabilities, Exchange
Differences in FOREX
• Allowed for: Bearer Plants, Inventories, Manufacturing Plants, Power Generation Facilities,
Intangibles, Investment Properties in Cost Model
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• Not allowed for: Investment Properties in FV Model, Bio-assets, Inventories under Process
Costing that take a long time to get them ready for sale. (e.g., Whisky)
• Interest starts to be capitalized when (in order of priority):
o Incurring Expenditures
o Incurring Borrowing Cost/Funds
o Undertakes Activities necessary to prepare asset to intended use/sale
• Suspends when there is no active development over the construction/acquisition of an asset
• Ceases when all activities are complete with respect to construction of asset
o Either no Activities or No more Funds for construction, whichever is earlier
Specific Borrowing Only
Actual Borrowing Cost XX Actual Borrowing Cost XX
Capitalized Borrowing Cost (XX) Interest Income from Temporary Investments (XX)
Interest Expense XX Capitalizable Borrowing Cost XX
Total Construction Expenditures XX
Capitalizable Borrowing Cost XX
Other Direct Cost Incurred XX
Cost of PPE XX
General Borrowing Only
Date Expenditure Weight Peso Weight Total Interest per GB funds XX
1/1 100,000 12/12 100,000 Divided by: Total Principal – GB XX
1/31 100,000 11/12 91,667 Capitalization Rate C%
12/1 100,000 1/12 8,333 WAE XX
12/31 100,000 0/12 0 Average or Avoidable Interest XX
WAE 400,000 200,000
Mixed Source Borrowing
Specific Borrowing: Net Cost from Specific Borrowing XX
Actual Borrowing XX General Borrowing XX
Interest Income (XX) XX Capitalizable Borrowing Cost (XX)
General Borrowings: Interest Expense XX
WAE XX ***The weight of expenditures will
Principal of Specific Borrowings (XX) depend on how many months the
Expenditures to General Borrowing XX expenditure is incurred (e.g., for a
Multiply by: Cap. Rate C% year, construction began mid-year,
Multiply by: Months in Construction A/B XX WAE is weighted only for 6 months)
Ave/Avoidable Borrowing Cost XX
Other Rules on Borrowing Cost
• Take the LOWER of the AVERAGE BORROWING COST and the TOTAL BORROWING COST
• Recompute the Capitalization Rate every time a Fund is fully exhausted or introduced
• Interest Income is deductible for Specific Borrowing Funds ONLY since it is unlikely that idle
funds from GB is directly related to Construction
• Borrowing Cost is recomputed every year
o The Borrowing Cost of Year 1 is carried-over as an initial expenditure at Year 2’s
Beginning period, applying full weight.
• If the Expenditures are evenly incurred, the WAE is simply the Total Expenditures/2
• If the Specific Borrowing Loan is LARGER than the overall WAE, there is no funds from General
Borrowing. Only the Specific Interest is applied.
• If the Specific Borrowing Loan outlasts construction, the interest after construction is treated
as interest expense (unavoidable interest)
• Traditional Approach – Deduct Specific Borrowing only after computing WAE
• Contemporary Approach – Deduct Specific Borrowing at Day 1 of expenditures
o There should be no difference as among the two methods.
• Specific Funds used for General Purpose – treat as a general borrowing arrangement
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Subsequent Expenditures
In order for an expenditure to be capitalized as opposed to being expensed, there must be Evidence
of Future Economic Benefit such as:
• Bigger – Larger Capacity or addt’l units; Better – More Efficiency; Longer – Larger Useful Life
• Improvements – If no replacements are involved, these are simply added to the cost of the asset,
applying the same remaining life
• Rearrangements – Amortized over REMAINING LIFE of the asset over whichever part it applies
• Repairs
o Major, Extraordinary – Capitalized and derecognize assets
o Minor – Expensed
• Separate Identification is practical – depreciate the part separately
o Otherwise, revise the depreciation of the principal asset
Derecognition
Old Remaining Newly Old Total Effect on P/L Intervening events:
Change in Estimates (RV, BV),
Acquired Disposed Cancellation/Revaluation of
Book Value Book Value Book Value XX Carrying Value Gov. Grant, Subsequent Exps,
will result in the need to apply a
(Depreciation) (Depreciation) (Depreciation) (XX) (Consideration) new useful life for PPE.
Balance Balance Balance XX G/L Disposal
• Change in Depreciation Policy is considered as a Change in Accounting Estimate, Prospective
• Change from Cost to FV Model and Revaluation – Change in Accounting Policy, Retrospective
• Fully Depreciated but used – Disclosed, not removed
• PPE is sold for scrap (The Salvage value is zero for valuation; but there must be a gain on sale.)
Depreciation Policies
• The systematic allocation of the depreciable amount of an asset over its useful life, reported in P/L
• Impairment Loss will be charged to Accumulated Depreciation
• Commences when the Asset is Available for Use, and does not cease unless it becomes idle/retired
• Component Depreciation – Each part of an Item of PPE with a significant cost is depreciated
separately from the whole
o A single Equipment may have a combination of depreciation expenses with varying lives due to
different parts involved
Method Basis
Equal or Uniform Charge or Straight Line Depreciable Amount
Composite Method Depreciable Amount
Group Method Depreciable Amount
Variable Charge/Use-factor /Service Hours Depreciable Amount
Output Basis Depreciable Amount
Sum of Years’ Digits Depreciable Amount
Declining Balances Initially at Cost, then Book Value
Others BOOK VALUE
Inventory Method As if Inventory (Cost of Sales)
Retirement method Depreciate only when Retired
Replacement Method Depreciate only when Retired and Replaced
DEPEX BKV
Straight Line Basis
Cost − SV Cost − SV
Acquisition Cost − ∗ Age
Life Life
Working Hours
Cost − SV Cost − SV
Acquisition Cost − ∗ Hrs Used
Service Hrs Service Hrs
Output Method
Cost − SV
Cost − AD
Units Produced
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Sum of Years’ Digits

L(L + 1) Cost − AD for Half-years, multiply by a factor
S= D=Depreciable Amount,
2 AD that returns a whole year, which will
S=SYD, E=Depreciation
Ln ∑ni=1 Ln give it its frequency of recording
E=D∗( ) = Expense, L=Life, n=nth Year
S S depreciation in a year
Declining Balance
E = R ∗ Bn
Let
E=Depreciation Expense Cost − AD
R=Diminishing Rate BV = BVn−1 ∗ R
B=Declining balance
n= nth Year BV shall not be reduced lower than SV. If BV reaches
SV = Salvage Value lower than SV, SV will be the BV
C=Cost R may be prorated depending on the time of year it is
acquired
n SV 200% 150%
R=1− √ R = R150 =
C 200 L L
Inventory Method (use T-accounts as if Inventory)
Dep. Exp = Cost – Ending Balance BKV = Ending Balance (Counted as if Inventory)
Retirement Method (use T-accounts as if Inventory)
Dep. Exp. = Original Cost Retired – Proceeds Total Cost – Assets Retired
Replacement Method (use T-accounts as if Inventory)
Dep. Exp., Retirement = Replacement Cost – Proceeds
(Total Assets Replaced – Assets Retired) *
Dep. Exp., Retired & Replaced = Original Cost –
Replacement Cost
Proceeds
Composite/Group Depreciation
Composite Rate = Total Annual Depreciation/Total Cost
Composite Life =Total Depreciable Cost/Total Annual Depreciation
Depreciation Expense = Composite Rate * Total Cost
Book Value = Total Cost – Total Depreciation
• Accordingly, no gain or loss could be recognized when using Composite or Group Method
• Depreciation is not directly attributable to any single depreciable asset in the group, hence, a general
control account for Accumulated Depreciation and Depreciation Expense is maintained
• Composite Method is used for Different Depreciable Assets, while Group Method is for Similar
Depreciable Assets
• Only one Depreciation Rate is applied (The initial acquisition of a group is the basis of the depreciation
rate or composite rate or group rate) even in the case of new acquisitions and disposals
• This means that the Group or Composite Life may change over the course of subsequent acquisitions
PPE Cost SV DC Life Dep Ex
A 100,000 5,000 95,000 5 19,000 DEPEX % =64/275 = 23.27 %
B 200,000 20,000 180,000 4 45,000 Composite Life = 4.3 Years
Total 300,000 15,000 275,000 64,000 Annual DEPEX = 69,810
Note on Impairment Loss on Property, Plant, and Equipment
While it is true that the valuation of the PPE is Historical Cost less Accumulated Depreciation and
Accumulated Impairment loss, these accumulated amounts should not be combined into Accumulated
Depreciation. It should be noted that Accumulated Depreciation is an allowance recognized to
disclose for how much an expected remaining benefit is valued (This is the Book Value), its nature is
certain for as far as it is reasonably set by the entity. Accumulated Impairment loss on the other hand,
while it has an impact on the Depreciable Amount, is reversible; and the appropriate accounting
treatment should be followed in the case where an entity begins to decides commit to an article of PPE’s
resale versus its continued use, with strict compliance to obtaining objective evidence of impairment
(This must always be indicated for exam purposes to invoke impairment loss accounts.).
Subsequent recovery of the impairment loss may increase or decrease the depreciable amount.
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Wasting Assets–PFRS 6
• Assets and Efforts where resources that cannot be renewed once consumed are derived from
• Assets and Efforts involved in Exploration and Evaluation of Natural Resources are measured at Cost
o Expenditures from Exploration and Evaluation Phases (can be written off as expense i.e.,
Successful Efforts Method or taken in as assets i.e., Full Cost Method)
o Expenditures from Development Phase
▪ Tangible Development Cost i.e., Equipment purchased and Buildings Constructed
▪ Intangible Development Costs such as Labor
o Asset Retirement Obligation/Estimated Restoration Cost
• Does not Apply to:
o the Pre-exploration/Pre-evaluation phase of mineral resource extractions (Expense)
▪ i.e., Acquisition of legal rights
o the demonstration of technical Feasibility and Commercial Viability of the extraction
activity from Production until Closure (Inventory)
• Measured Subsequently through Cost or Revaluation Model
Acquisition Cost XX
Exploration and Evaluation Cost XX
Intangible Development Cost (Drilling, Professional Services, etc.) XX
Asset Retirement Obligation – Initial or Land Value or Salvage Value XX
Initial Cost of Wasting Asset XX
Accumulated Depletion (XX)
Book Value of Wasting Asset XX
• Changes in Asset Retirement Obligations affects the Book Value of the Wasting Asset
o Increase – Debit Interest Expense, Credit ARO
o Decrease – Debit ARO, Credit Wasting Asset
• Wasting Assets under Revaluation Model are treated like Land (No Depletion)
Exploration and Evaluation Assets
All Intangible Expenditures incurred in connection with exploration and evaluation of mineral resources
before Technical Feasibility & Commercial Viability of extracting Natural Resources are demonstrated:
• Only after the LEGAL RIGHT is acquired and used to determine technical feasibility and
commercial viability
• If after technical feasibility and commercial viability are established, all Exploration and
Evaluation assets are expensed
Intangible Development Costs:
• Acquisition of Rights to Exploration • Trenching
• License to Mine or Excavate the Area • Sampling
• Topographical, Geological, • Activities in relation to Evaluating Technical
Geochemical, and Geophysical Feasibility and Commercial Viability
Studies General, Administrative Costs or Direct Attributable
• Exploratory Drilling Costs to Exploration & Evaluation Activities
Depletion
• Uses units of Output Method
• Depletion is also the analog to raw materials in a manufacturing concern.
D
Depletion = ∗ X
E
Let
D = Cost of Wasting Asset – Estimated Residual Value or Depletable Cost
E = Estimated Units for Extraction
X = Units Extracted
**Be reminded that Estimates are subject to changes, with no other indication, the estimated units for
extraction will be reduced by the number of units extracted for the following year
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Special Depreciation Policies on PPE Expenditures for Wasting Assets

• Tangible Development Costs (Constructed Roads, PPE, Buildings, etc.) are separately depreciated
• Useful life depends on the Asset’s Movability
If Immovable: Shorter of
Equipment’s Useful Life Wasting Asset’s Useful Life
If this is Shorter: If this is Shorter:
C − SV Cost − SV
Le Estimated Extraction Units

If Movable: Shutdown – Depreciation Policies

During Shutdown BKV Before Shutdown
-SL Method Depreciation =
Remaining Life
Resumption of BKV After Shutdown
Activity Depreciation per Unit =
Revised Estimated Production
-Units of Output Depreciation = Depreciation per Unit ∗ Units Extracted
• Any other Depreciation Method mentioned pertinent to it
• Shutdowns relating to Wasting Assets are common, especially in slumps and labor conflicts
Wasting Asset Doctrine
• A Wasting Asset Corporation can legally return capital to stockholders during its lifetime since
the return on investment is sourced from non-renewable resources; quite literally, the
investment is not indefinite, and will certainly be depleted, because clearly, a wasting asset
corporation cannot hold, in trust for its investors over a going-concern, the investments placed
for the extraction of non-renewable resources. In this case, the profits consist as the Return on
Capital and the Depletion consists as the Return of Capital (Capital here is the non-renewable
resource both sold and unsold.)
• Dividends are paid to the extent of Unappropriated Retained Earnings & Accumulated Depletion
Accumulated Profits – Unappropriated or Net Income if it is the 1st yr. of operations. XX
Accumulated Depletion XX
Total XX
Liquidated Capital in Arrears (XX)
Depletion in Ending Inventory (Depletion Rate * Units in Ending Inventory) (XX)
Maximum Dividends for Declaration XX
Inventory of Wasting Asset Corporations
Extracted Goods, beginning (Depletion as Beginning Inventory.) XX
Goods Extracted (Depletion for the Current Period) XX
Labor from Extraction XX
Overhead from Extraction (Depreciation) XX
Cost of Goods Available for Sale or Total Extraction Cost XX
Extracted Units, Ending (Total Extraction Cost *Ending Units/GAS) (XX)
Cost of Extracted Units Sold XX
Impairment Test on Wasting Assets
• Rights on Property have Expired
• Substantive Expenditures were not budgeted nor planned
• Exploration has not led to discovery of valuable wasting assets under Full Cost Method
• Sufficient data is available to indicate less than full recovery of Costs incurred
Overall Effect to Profit or Loss
• Impairment Losses, Amortization, and Depreciation not capitalized into inventory
• Cost of Sales (Depletion is taken into Cost of Sales), and Operating Expenses
• Interest on Asset Retirement Obligations
• Excess Interest on Borrowing Cost
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Investment Property–PAS 40
FOR LAND & BUILDING ONLY – These can only be held for earning rentals or capital appreciation, or both
• May be held for no particular purpose (Idle Land)
o Unusable Land still held for undetermined use are classified as Other Assets
• Held for sale investment property and Owner-occupied property are not covered by PAS 40
o Property out on a finance lease are derecognized by the lessor
o However, if the lessee holds the property in an OPERATING sublease contract to a sublessee, the
lessee may record the leased property as Investment Property
• Investment Property RECEIVED from a Finance Lease (Lower of FV and PV of All cashflows)
• Real-properties may be ‘separated’ into owner-occupied portions and rental portions
o Those portions specifically identifiable are covered under their respective standards PAS 40 for
rented out property; and PAS 16 for PPE.
• If the portions cannot be leased/sold separately, whichever portion is more significant takes the
account title.
• Ancillary Services offered to occupants are:
o Significant (for example, Hotels) – PPE; Insignificant (Security Services) – Investment Property
• Intracompany Rentals
o Consolidated FS – PPE; Separate FS – Investment Property
Initial Measurement
At Cost + Transaction Cost
• Self-constructed Property – Cost incurred to date (Construction in Progress at Cost until completion)
• Non-cash acquisition (GIVEN – RECEIVED – GIVEN)
• In any case that the Fair Value is undeterminable the property is measured consistently at cost, and is
depreciated (for Building.) The Salvage Value of such a property is zero; but this does not preclude the
recognition of any gains on disposal based on Fair Value.
Subsequent Measurement
• At FAIR VALUE or COST MODEL
• Cost Model – Continue Depreciating the Property (Preferred if silent)
• Fair Value Model – Remeasure the Property at Fair Value at the end of the reporting period in P/L
Reclassification
Reclassification from Cost to Fair value model is allowed only if it reflects changes in the financial
statements more reliably; the opposite is not allowed. This is done to impose strict compliance with
valuation disclosures, since it is highly unlikely that the cost model reflects changes more reliably than
fair value model.
Change of Use
• I/P to PPE or Owner-occupation – Cost Model; and PPE to I/P (Cost Model to Cost Model)
o DO NOT CHANGE CARRYING AMOUNT, CONTINUE DEPRECIATING, Record at Book Value
• I/P to PPE – Fair Value Model (Fair Value Model to Fair Value Model, not Revaluation Model)
o Remeasure the asset each end of accounting period, based on the Fair Value at the date of
reclassification
o Ignore Depreciation Implications (PAS 40 forbids transitioning from Fair Value Model to Cost Model
for Investment Property)
• PPE to I/P – Fair Value Model (From Revaluation Model to Fair Value Model)
o Continue Depreciating and Impairing until the Fair Value model is used. This means that depreciation
or impairment may be recorded in between report dates.
o The asset will now be carried at Fair Value
o The fact that Fair Value is subsequently used after applying the Cost model implies that the asset
has been revalued. Therefore, rules on Revaluation shall apply hereon until the entity elects to use
the cost model again. (PAS 16 permits transitioning from Fair Value Model to Fair Value Model, PAS
40 permits the change in use of the Property, hence this is allowed)
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Substantive Tests for Property, Plant, and Equipment

Audit Objectives–Determine if:
• All PPE on FS are owned by entity and held by entity or by others for the entity
• All PPE owned or leased under finance lease by entity at year0end are included in the balance sheet
• PPE are recorded at appropriate amount
• Cost of PPE is allocated using appropriate accounting estimates, in appropriate accounting periods
• Impaired PPE are recorded at Estimated Realizable Value
• PPE held for disposal are carried at LCA and FVLCTS according to PFRS 5
• PPE-related accounts are described, classified, and disclosed in the FS including notes
Audit Procedures
a.For recurring engagements on Opening Balances
• Trace opening balances to last year’s working papers
b. For Initial audit where previous years have been audited
• Vouch significant transactions (Authorization, Propriety, Principles applied), and documents
evidencing ownership
• Obtain permission from client to refer to predecessor auditor working paper
c. For Initial audit where previous years are not audited
• Vouch significant transactions (Authorization, Propriety, Principles applied), and documents
evidencing ownership
• Vouch documents evidencing ownership
d. Obtain or prepare schedules of PPE and check the footings and cross footings
• Determine if the schedules are in agreement with control accounts
• Trace individual balances to the detailed records or property cards
• Consider physical inspection of significant items
e. For acquisitions of PPE
• Determine authorization by examining invoices, capital expenditure authorizations, leases, and
other evidence (Construction files, permits) supporting additions to PPE
• Test borrowing cost calculations to determine appropriateness of rates, amounts, time period
• Ascertain business reasons for unusual acquisitions
f. For disposals of PPE
• Examine authority and data supporting disposals (deeds of sale, clearing/excavation permits)
• Test computations resulting in gains and losses on disposal
• Determine the actual disposal of assets and related depreciation
• Ascertain business reasons for unusual disposals
g. For Impaired PPE
• Determine whether management has appropriately identified indication of impairment
• Determine that the assumptions and methods are reasonable
• Ascertain if the impairment is recorded
h. Examine Lease contracts to know if leases are properly accounted for under PFRS 16
i. Examine support for significant charges to repairs and maintenance, and other expenses to
determine if these should be capitalized or not
j. Test computations for depreciation, depletion, and amortization to determine appropriateness of
the methods and estimated lives used. Determine consistency of application
k. Review minutes of meetings and legal documents for evidence of liens, pledges, and restrictions
l. Search for unrecorded retirements
• Assess cash receipts, tax declarations, insurance records, scrap sales, and inquiries
• Tour the company
m. Identify Idle, Unused, or Obsolete property and determine appropriate recognition
n. Reconcile payments to governments for taxes and registration fees
o. Ascertain the fully depreciated assets still in use or held for sale are not further depreciated
p. Determine and discuss with appropriate official for adequacy of insurance cover
q. Determine PPE that are held for disposal or sale are carried at appropriate FVLCTS
r. Determine propriety of FS and adequacy of disclosures
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Intangibles & Goodwill–PAS 38, PFRS 3

These are Identifiable non-monetary asset without physical substance
Recognition Criteria
• Identifiability
o Separable in that it can be the object of a transaction without much confusion
o Arises from contractual arrangements
• Control – Entitlement to future economic benefits and encumbrances attached
• Future Economic Benefits – Through Revenue or Savings
• Initially recognized at Cost, if recognition criteria are not met, these are Expensed
Modes of Acquisition
Separate Purchase Government Grants
Business Combination IFRS 3 (Goodwill is not Exchange
an Intangible but is reported under the line- Self-creation (Only for R&D, Software, and
item Intangibles and Other Assets) Websites at Development Phase)
• It is also useful to note that all intangibles, upon reaching their legal life’s end, are ultimately
useless, since the rights associated with them can no longer be enjoyed, hence, no salvage value
can be realized upon the end of the legal life. Amortization Expense will be affected by this
presumption.
• There can be a Residual Value for Intangibles if there are Active Markets OR 3 rd parties committed to
purchase the Intangible at the end of its useful life. (Information must be express to give effect to
RV)
Valuation – Initially at Historical Cost or Fair Value;
• Carrying Amount = Cost – Accumulated Amortization – Accumulated Impairment Loss under Cost;
• Revalued Amount at the Revaluation Model.
• Impairment will change annual amortization
Derecognition – Proceeds less Carrying Amount = Gain or Loss on Disposal
Non-capitalizable Intangibles
• Internally Generated Brands • Publishing Titles
• Mastheads • Organization Costs
• Customer Lists internally generated • Internally Generated Goodwill
** These intangibles may be capitalized if they are acquired externally. Generally, these intangibles are
able to be acquired internally but no recognition of internally-generated intangibles are allowed.
Presentation of Intangibles
Intangible Assets are separately identified from Goodwill. Therefore, in the face of the financial
statements, a line item must indicate any goodwill included in the Balance. This should not be
presumed since there is a different standard governing Goodwill; furthermore, Goodwill appears
only in the consolidated financial statements.
Research and Development Cost
• Research – Expensed outright as R&D
o Such as Discovery of theories, Testing of theories, Conceptual, Searching for uses or alternatives
• Development
o Capitalized IF the following are demonstrated
Technical Feasibility Probability of Economic Benefit
Intention to Complete Reliable Measurement
Ability to use or sell
o Expense if otherwise
o Any costs of development incurred before the demonstration of the above are expensed as
Development Costs Expense. After the criteria is demonstrated, they are not reclassified, as
these are accounted for prospectively.
o Think of Preproduction activities, Tools jigs and dyes, Pilot test, Design Alternatives, Prototypes
• PPE Acquired for R&D with no alternative use are charged to R&D Expense
• PPE acquired for R&D with an alternative use will have Depreciation charged to R&D Expense
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• Other intangibles acquired to get research & development rights will be classified as R&D Exp/Asset.
• Non-R&D Expenses
o Routine, Trouble Shooting, Commercial Production, Quality Control, Motion Studies, Industrial Engg
o These are incurred when Economic Feasibility is acquired, and activities to begin production are on
the way. Any Development Costs incurred during the Production Phase is Expensed.
• Capitalizable Costs
o Materials Used o Amortization of Patents and Licenses used to
o Employee Benefits and Consulting Fees Generate the Asset
o Other Direct Costs Legal Fees o Borrowing Cost
• In a Business Combination, R&D projects by the subsidiary are capitalized in research phase (IFRS 3).
Common Intangibles
Cost Amortization
Patent Exclusive right to use a product
Shorter of 20 years and Legal Life
Purchased – Purchase Price (PP) and Directly
Attributable Costs (DAC) Related Patent Extended Life -OLD and NEW
patent amortized over extended Life
Internally Generated – Licensing and Legal Fees
No Extended Life – Separate Amortization
Expenses:
R&D, and Defense Litigation Competitive Patents – OLD and NEW patent
amortized over OLD LIFE
Copyright Exclusive right to publish literature
Useful life,
Purchased – PP and DAC
Copyright is written off against the revenue of
Developed – All expenses incurred incidental to it
first printing
Agreement to take-on business activity under a
Franchise/License (Gov’t) (Franchisee)
brand name
Initial Franchise Fee PV of acquisition cost, and Granted for a definite period, Shorter of Useful
all legal fees and expenses incurred life and Definite period

Continuing Franchise Fee – Expensed Granted indefinitely, no amortization

Leasehold/Lease rights Right to use property
Lump sum payment – Capitalized Amortized over lease term

Payment for assignment – Capitalized Renewal Option

Uncertain – Depreciate Leasehold improvement
Periodic Payments – Expensed over shorter life between lease right and
leasehold improvement
Probable – Depreciate it over extended lease
Leasehold Improvement: If the Renewal Option is: period or leasehold improvement life, shorter
Trademark Visible sign for distinguishing goods
Purchased – PP and DAC No Amortization, renewed indefinitely
Internally Developed – Filing, Registration, other
costs incurred
Customer List List of Contacts
Purchased – PP and DAC Amortized over life
Internal – Expensed
Goodwill See IFRS 3
Measured initially thru Indirect Approach in IFRS 3. Full IFRS – No Amortization, only impairment
IFRS for SMEs – Amortize over Economic Life or
10 Years, whichever is shorter.
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Computer Software
• Costs incurred to create software are expensed UNTIL technological feasibility is established
o Capitalizable:
▪ Cost of Coding and Testing; Cost to Produce Product Masters
▪ All costs incurred to produce Program Design/Working model
• Generally, this is an Intangible Asset
• However, if this is intended for resale, it is Inventory (after Commercial Viability is established)
• If it is used to make Machinery and Equipment usable, it is capitalized as PPE
o If it is not integral to the PPE, it is an Intangible
• Packaging Costs and Costs to Duplicate Product Masters – Inventory IAS 2
• These are amortized over the pattern of benefits recognized (i.e., sales)
Website Cost
• Planning Phase (Feasibility, Research, Alternatives) Expensed
• Application and Infrastructure Development (Hardware, Software, Developing Codes) Capitalized.
• Graphical Design Development – Capitalizable
• Content Development (Adding links, purchasing, preparing, information) Capitalizable
• Operations (New Contents, Graphics, Registry with Search Engines) Cost of Sales/Expensed
• Others (Selling and Admin, Addressing Errors, Training) Expensed
• Generally Expensed (Operating), except when it meets the criteria of PAS 38 (Capitalized)
• Capitalize Website Cost when the expenditure is directly attributable to preparing the website to
operate in the manner intended by Management, meeting the requirements of PAS 38;
o Internal and External where Customers can place orders – Capitalized
o External Only, customers cannot place orders – Expensed
• These are amortized over the pattern of benefits recognized (i.e., sales)
Goodwill
Assets arising from the excess of the consideration transferred over value of the net assets acquired
Consideration Transferred XX
Fair Value of Net Assets of Subsidiary/Associate (XX)
Goodwill (Gain on Bargain Purchase) (PFRS 3 – Indirect Valuation) XX
Direct Valuation – Not in accordance with PFRS, but is used for estimating reasonability of balance
Step 1. Adjust Tangible Net Assets to Fair
Step 2 Compute for Average Earnings
Value and Compute for Normal Earnings
Total Earnings for n Periods XX
Adjusted FV of Assets (Excluding Goodwill) XX (Gain)Loss on Sale (XX)
Adjusted FV of Liabilities (XX) Bonus to Management Personnel XX
Adjusted Net Assets XX Adjusted Earnings XX
Normal Rate of Return R% Divided by: n Periods N
Normal Earnings XX Average Earnings XX
Step 3. Compute for Goodwill under:
Purchase of Average Excess Earnings Capitalization of Average Excess Earnings
Average Earnings XX Average Earnings XX
Normal Earnings (XX) Normal Earnings (XX)
Average Excess XX Average Excess XX
Multiply by: N periods N Divided by: Capitalization Rate R%
Goodwill XX Goodwill XX
Capitalization of Average Earnings Discounted Value of Earnings
Average Earnings XX Average Earnings XX
Divided by: Capitalization Rate (XX) Normal Earnings (XX)
FVNA, with Goodwill XX Average Excess Earnings XX
FVNA, excluding Goodwill (XX) Multiply by: PV of an Ordinary Annuity R
Goodwill XX Goodwill XX
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Amortization
• Begins when the asset is available for use; i.e., when it is in the location and manner necessary for it
to be operating as intended.
• It shall cease at the earlier of the date the asset is classified as held for sale or date of derecognition
• Generally, done on a straight-line basis, or another basis allowed by the standard
• Unlike PPE, it is acceptable to directly net the amortization to the intangible because intangibles are
generally not resalable.
Revenue-based Amortization – there is a rebuttable presumption that an amortization method that is
based on the revenue generated by an activity that includes the use of an intangible is inappropriate.
• This because the direct benefit associated with the revenue-generating activity is not precisely
attributable to the intangible, since other inputs are comingled with it. Without this
presumption, it would follow that selling expenses ideally should be capitalized. It is well-settled
that capitalizing selling expenses is not allowed in the standard due to lack strong attributable
links between the cost and the benefit under the matching principle.
• The standard permits revenue-based amortization on a few grounds:
o The intangible is expressed as a measure of revenue (such as for royalties) or
o When it can be proven that revenue and the use of the benefit are highly-correlated
• The predominant limiting factor inherent in an intangible must be identified such as:
o Contract for entitlements to rights
o Number of units produced
o Fixed total amount of revenue determined (This is one of the few cases where revenue-
based amortization is allowed.)
▪ For example, the rights attributable to a contract is limited to a threshold of
revenue, after which the intangible ceases to produce economic benefit as
barred by contract.
On Residual Value – The residual value of an intangible with a finite life shall be assumed 0, except:
• There is a committed third party willing and ready to purchase the asset at the end of its life
• There is an active market and that the residual value can be inferred through it and it is probable
that the market still exists at the end of the life.
Substantive Tests for Intangibles and Other Assets
Audit Objectives
• Charges to prepayments represent amounts that are reasonably expected to be realized through future
operations
• Prepayments are properly recorded
• The accounts are properly classified and described, and adequate disclosures have been made
• Assets represent amounts that are reasonable expected to be realized through future operations or
otherwise, and that they are properly recorded
• The assets are properly described and classified, and adequate disclosures are made
Audit Procedures
a. Obtain or prepare analysis of prepayments
b. Verify accuracy of analysis by re-computation of amortization
c. Determine the nature of the accounts included in the analysis
d. Determine the reasonableness of the amounts
e. Examine Supporting Documents
f. Obtain Analysis of intangibles
g. Verify accuracy of analysis by re-computation
h. In an initial audit, examine transactions of the prior periods to determine cost capitalization
i. In a recurring audit, trace the beginning balances to last year’s working papers
j. Vouch current year transactions to supporting documents
k. Determine if the company’s amortization policies are in accord with PAS 38. Perform re-computation
l. Determine if there is proper allocation of the amortization prepared
m. Determine if there is need to impair the intangible
n. Determine Propriety of FS presentation and Adequacy of Disclosures
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Revaluation & Impairment–PAS 16, PAS 36

Revaluation Surplus - A revaluation surplus is an equity account in which is stored any upward
changes in the value of capital assets. If a revalued asset is subsequently dispositioned out of a
business, any remaining revaluation surplus is credited to R/E account of the entity.
It is a Strategic Equity Item (OCI in the Financial Position is also referred to as strategic equity)
since it is not really due to the entity’s own efforts, but rather, by mere appreciation in value of the
property. Which in turn, appreciates the value of an entity’s book value per share as an equity reserve;
increasing an investor’s incentive to acquire more stocks.
It does not recycle into profit or loss because it is not a ‘misplaced’ profit, rather it is literally, an
‘other income’ that occur due to changes in valuation bases. (i.e., Plan Assets IAS 19, Revaluation
Surplus IAS 16, and FVOCI Equity Securities – IFRS 9 or AFS Securities – IAS 39)
• Impairment and Revaluation happens on both Fair Value Model and Cost Model.
• Revaluation applies to an entire class of PPE or I/P
• Revaluation Surplus:
o Carrying Value – Salvage Value or Carrying Value – Fair Value
o If the problem uses Fair Value instead of Gross Replacement Cost, then Fair Value = Sound Value
▪ Sound Value is based on the NEW Salvage value if it is mentioned
▪ In any case, the ORIGINAL Life is used for both Historical Cost and Replacement Cost.
• If for some reason a subsequent revaluation surplus is negative, this is considered as a revaluation
decrease which is netted against the surplus. If the negative balance is still larger than the surplus,
the excess is an Impairment Loss.
• The Revaluation Surplus, an Equity account, is transferred directly to Retained Earnings on a piecemeal
basis, based on the revised remaining useful life.
• The Revaluation Model is allowed for Intangibles ONLY IF THERE ARE ACTIVE MARKETS FOR THE
ASSETS MEASURED AT REVALUATION MODEL.
Impairment PAS 36
Impairment is the decline in an asset’s value other than through realization of benefits. It is the
decline in value of future potential benefits that are typically realized either through continued
use or eventual sale. Applies to:
o PPE, I/P, Intangibles, Wasting Assets, Biological Assets, Investments-Equity Model, Goodwill, CGUs
o ANYTHING ELSE DO NOT QUALIFY (Receivables, Inventory, Cash, Equity Securities in Cost Model; so
long as that standard has its own impairment recognition, PAS 36 will not apply)
• ALWAYS Choose between the Higher between Fair Value less Cost to Sell and Value in Use. This is
done because any rational owner would choose whichever option (either continued use or
eventual sale) yields the most benefit.
o Fair Value Less Cost To Sell → FV – CTS
o Value in Use → PV of All Net CASH Flows (Amounts are Pre-Tax with no risk adjustments)
▪ For PPE, all Revenues less Expenses (Excluding Depreciation) * Present Value
▪ Uniform Cash Flow = use ordinary annuity
▪ Non-uniform = lump-sums for each year. Nth period is based on its nearness to impairment date.
▪ Salvage Value of PPE is a Cash Flow.
▪ PROJECTIONS IDEALLY SHOULD NOT EXCEED 5 YEARS (Otherwise, an extrapolation may be needed)
• ALWAYS prepare 3 Schedules:
o Depreciation Schedule for the Carrying Amount/Book Value (Revalued If ever)
o Depreciation Schedule adjusted for Impairment (For recovery of impairment losses)
o Schedule of Piecemeal Realization of Revaluation Surplus if applicable
Traditional Schedule Cost Sound (RS(RD)/IL) ***The Sound Value is Depreciated on
the basis of new residual value using the old Life;
Carrying Value XX XX XX
the reason behind this is that the property would
A/D (XX) (XX) (XX) have been acquired at the Replacement Cost in the
Book Value/ Fair past, and would have been disposed based on values
Value/Revaluation XX XX XX today.
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Piecemeal Realization – is performed to reflect the Revaluations Surplus being realized throughout the
use of the depreciable property. Realization is manifested through direct benefit, for Revaluation
Reserves, this is by continuing use or disposal, hence, if property with a revaluation reserve is disposed,
the entire reserve is reclassified into retained earnings, now allowed for distribution as dividends.

Revaluation Surplus − Revalauation Decrease

Piecemeal Realization =
Remaining Useful Life
Impairment Recovery
• Impairment Recovery can only be applied up until the carrying amount, as if no impairment ever
occurred – Charged as Gain on Impairment Reversal to Profit or Loss
• If Impairment Reversal exceeds the Impairment Loss, credit it to Revaluation Surplus, realizing in
piecemeal subsequently, only if revaluation model is used; do not apply if cost model is used.
• Always remember to TRANSFER TO RETAINED EARNINGS the Revaluation Surplus in piecemeal before
netting the Impairment Loss.
o When PPE is impaired, credit is assigned to Accumulated Depreciation
o When an Intangible is impaired, it is sufficient to net it against the Book Value of the Intangible
Cash-generating Units - CGUs
• Smallest identifiable group of assets that generate cash inflows independently from other assets.
o i.e., A Branch Office is a collection of Assets that generate its own cashflows.
o A Subsidiary, Associate, or Joint Venture/Joint Operation may also be cash-generating units
o A factory plant that sells its own produce independently from the selling department may be a CGU.
• Impairment of CGUs
o Applicable to assets enumerated in PAS 36.
o Use the Higher between FVLCTS and Value in Use (Total Carrying Amount – FVLCTS or Value in Use)
o Allocation of Impairment Loss is based on the Carrying Values before Impairment. DO NOT INCLUDE
GOODWILL in allocation. Exhaust the Goodwill balance first, and then allocate the residue to the
Book Value of applicable assets in PAS 36 on a pro-rata basis
o Reallocation of Impairment Loss is necessary when one of the assets in the CGU may NOT be reduced
below the HIGHEST of FVLCTS or Value In Use or zero. Assets that may be impaired more, should
shoulder the burden of this amount. Same allocation process is done to the difference between the
balance after impairment and FVLCTS (FVLCTS must always be given)
• Do note that a CGU as an entirety includes assets not enumerated in PAS 36. i.e., Receivables,
and Inventory. What this does is that it merely increases the impairment burden that qualified assets
have to shoulder, and makes it harder to recover from an impairment.
• Impairment Reversals for CGUs is similar to impairment recovery for individual assets. The Lower
of the Recoverable amount of the CGU and total Maximum Gain on reversal is taken.
o Maximum Gain on Reversal is merely the carrying value of the asset as if no impairment had occurred.
Each individual asset is computed for this amount, get the total amount and compare it against the
CGU’s recoverable amount. Take the lesser of the two values.

Total Carrying Value in CGU XX Asset Bk V. Fraction I/L CV

Recoverable Amount (XX) A A A/ABC L*A/ABC A-IL
Total Impairment Loss XX B B B/ABC L*B/ABC B-IL
Goodwill (XX) C C C/ABC L*C/ABC C-IL
Allocable Impairment Loss XX Total ABC L ABC-IL
• IF ASSET C IS REDUCED BELOW FV, REALLOCATE THE DIFFERENCE TO A AND B
Asset CV Fraction Reallocation. Bal.
A A A/AB L*A/AB A-IL
B B B/AB L*B/AB B-IL
C C (Reallocation). C@FV
Total ABC-IL -0- XX
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Non-Current Assets Held for Sale–PFRS 5

Non-current Asset held for Sale
• Asset is available for immediate sale in its present condition subject only to terms that are usual and
customary for sale of such assets; it is recovering the Carrying Amount through disposal.
• Sale is highly probable
o There is a commitment to a plan to sell
o An active program to locate a buyer; and to sell at a reasonable price
o Sale qualifies for recognition and is accomplished within a year from classifying HFS
o Actions are taken, there is little to no chance of changing the plan or withdrawing
• Impairment test is done at time of classification and subsequently until sale is accomplished
o Measured at Lower of Carrying Amount and Fair Value less Cost to Sell (FVLCTS)
o Only Impairment and Impairment reversals are allowed, cannot exceed the recognized I/L throughout
date of classification until eventual sale
o The Cost to Sell does not include associated finance charges and income taxes on disposal.
• Upon Change of Plan/ Withdrawal
o Measured at Lower of Carrying Amount, adjusted for Depreciation and Impairment (as if not held
for sale) and Recoverable Amount
• An NCAHFS is not depreciable, and is reported separately as a Current Asset on the Face of the
Statement of Financial Position; Gain on Disposal is presented in Continuing Operations
• IFRS 5 Does not Apply to Assets under IFRS 9 and IAS 40.
Discontinued Operations and Disposal Groups
• A component of an entity that has been disposed of or is classified as HFS and
o Represents a major line/geographical area of operations
o Part of a single coordinated plan to dispose of a separate major line
o A subsidiary acquired exclusively with a view to resale and the disposal involves a loss of control
• Presented as a SINGLE AMOUNT on the face of the Income Statement
o The sum of post-tax profit or loss of the discontinued operation
o Post-tax gain or loss recognized on FVLCTS or Fair Value adjustments
• Presented separately in the cashflow statement, having its own Operating, Investing, and Financing
• Cannot be retroactively classified as prohibited by PFRS 5 after the reporting period
• Any non-current liabilities attached to the discontinued operations or NCAHFS is presented as current
• An asset part of Discontinued Operations (after being classified as discontinued, are not depreciated)
Non-current Assets Held for Sale – Investment in Associate
• The entity shall cease the use of the equity method, and valued at lower of CA and FVLCTS.
• Carrying Amount is the amount immediately before classification as Held for Sale without retroaction
or fair value adjustments
General Procedural Computation
1. Compute for the Carrying Amount (Depends on Cost Model or Revaluation Model)
2. Revalue the Asset’s Carrying Amount to Fair Value Upon
a. Increase = Reversal of Impairment Loss, excess to Revaluation Surplus Classification
b. Decrease = Revaluation Decrease, if not enough, Impairment Loss into NCAHFS
3. Compare/Update the Fair value using CA vs FVLCTS Updating FV
• Under the Cost Model, recovery is limited to updated historical cost/book value.
• It is worthy to note that a NCAHFS, when there is failure to sell, and is set to be idle, it could either be
reported as Investment Property if it is Land, or it could be reported as a part of Other Assets.
• If the NCAHFS still generates cashflows, but it still qualifies within the criteria set by PFRS 5, it still
reports income, and thus, upon sale, are reported in the income statement as a Discontinued
Operation; its eventual sale and operating income reported as a single item, analyzed post-tax.
• Impairment on CGU’s apply to Discontinued Operations.
• The Recoverable Amount is between the Cost and the Fair Value less Cost to Sell, whichever is lower.
CV, NCAHFS − LCRA = Loss (Gain)on Reclassification
Impairment Loss = Cost to Sell
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Financial Instruments–PFRS 9, PAS 32, PAS 39

Investments – Assets held by an entity for the accretion of wealth through distribution such as interest,
royalties, dividends, and rentals for capital appreciation or for other benefits to the investing entity
such as those obtained through trading relationships
• Financial Instrument – Contracts that give rise to financial assets & financial liability or equity
• Financial Assets:
o Cash
o Equity Instruments of Another Entity (Shares, Stock Rights, etc.)
o Contractual Rights to Cashflows (Receivables and Debt Instruments)
o Contractual Rights to exchange financial assets/liabilities with another entity under
potentially favorable conditions (Derivatives)
o Contracts settled with the entity’s own equity instruments
▪ Stock Right, Detachable Warrant, Ordinary Share Options, Attached Call Option
• Financial Liabilities
o Obligation to deliver cash or financial assets (Payables)
o Contractual obligation to exchange financial instruments with another entity under
potentially unfavorable conditions
o Contracts settled with the entity’s own equity instruments
▪ Stock Appreciation Rights, Redemption Options
• Equities – Any instrument evidencing residual interest in an entity
Basis of Classification
Investments are classified into three categories, FVTPL, FVTOCI, FAAC; the standard (PFRS 9) provides
two main bases to determine the proper accounting for the investment.
Business Model Contractual Cashflow
For short-term gains, realized or not – FV For short-term gains, realized or not – FV
Mandatory or P/L Mandatory or P/L
For Strategic Reserves –or OCI;
For Strategic Reserves – FV Elect or OCI Collection of Principal and Interest Only – FAAC
For Principal, Interest, and Gains – OCI
The Business Model requirement classifies the investment depending on the entity’s intention with
holding the investment; while the Contractual Cashflow Characteristics on the other hand, classifies
investments depending on how they realize wealth.
• It is worth to note that the difference between equity OCI and debt OCI lies in the nature of the
investment itself. Equity does not amortize, hence the OCI Reserve does not reclassify into profit
or loss, while on the other hand Debt amortizes, hence the OCI Reserve is effectively realized
back into profit or loss as the opportunity cost of disposing it declines as it nears maturity. One
is determinate as to period of disposal, the other is not, making a timing-based reclass for debt
appropriate, and a basis-based reclass for equity appropriate.
• If the Problem is silent, the Investment is regarded as a Trading Security by default, in the
absence of any contrary indicator
Categories of Financial Assets
• Debt Securities – FAAC, P/L, OCI
o May be Impaired and Reclassified, may follow Cost or FV Model, in Effective Interest Method
• Equity Securities – P/L, OCI;
o Significant Influence – Accounted for using Equity Method
o Control – Equity/Cost Method in Separate Books, Consolidated as one Entity every period end
o May be accompanied with Goodwill
o Investment asset can be impaired (Debt Securities OCI and AC, and Investments in Associates
and Subsidiaries, and Joint Ventures)
o No Impairment and Reclassification Allowed if following only FV Model
• Derivatives
Cashflow Hedge – OCI Speculation – P/L
Fair Value Hedge – P/L
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Profit or Loss and Other Comprehensive Income

P/L OCI
Indicates gains and Performance Accumulated first within equity, and then subsequently recycled or
in operations reclassified in PL or Retained Earnings.
Closed to Retained Earnings Disposal of an OCI Asset/Liability will result in recycling, which is
Immediately the transfer from OCI to either P/L or within Equity
All Items Not INCLUDED IN OCI Recycled/Reclassified into P/L
Operating Income and Expense FOREX Translation Gain or Loss
Depreciation and Amortization Unrealized Gain or Loss on Derivatives designated as CF Hedge
Interest Income and Expense Unrealized Gain or Loss Through OCI – Debt Sec.
Derivatives designated as Fair Recycled/Reclassified into R/E (Not available for Dividends)
Value Hedge and for Speculation Unrealized Gain or Loss through OCI – Equity Sec.
Impairment Losses Revaluation Surplus
Impairment Reversals Remeasurement of Defined Benefit Plan
Change in Fair value due to Credit Risk of Fin. LIABILITY P/L
The reason why OCI is maintained is because there are some transactions that do not fit into the
general business model of a firm. In order make profits fairly represented, the effect of Other
Comprehensive Income is not presented along with profits and are separately presented. This is also
the reason why OCI Reserves in Equity cannot be released as dividends, since the assets that hold the
unrealized gains are not really sold and are not committed to any sale, or at least, the intent to sell
is not established. Only upon sale will the reclassification within Equity justify a release of dividends.
Derecognition of Financial Assets
• Contractual Rights to Cashflows Expire
• The Transfer of Financial Asset/Liability qualifies for Derecognition
o Actual Transfer, thru sale/disposal
o Retain rights, but assumes contractual obligations to pay cashflows
▪ This applies only if the rights are:
▪ Not originally attached with obligations
▪ Not allowed for transfer by sale or pledge other than securitizing to recipients
▪ Obligation to deliver w/o material delay
Trade and Settlement Date Accounting
Trade and settlement date accounting are applied to the acquisition and disposal of investments under
strictly regulated market environments. This will have an implication as to the cut-off tests
PURCHASE Trade Date Accounting Settlement Date Accounting
Contract Date/Commitment Date T/S No Entry
(Use FV at that date) A/P – non-trade
Report Date T/S A/P – non-trade
(FV change from commitment until URG URG (Same amount as Trade
report date) Date Acctg)
Settlement Date A/P T/S
(Use FV at that date against committed T/S A/P
amount) Cash Cash
URG URG
SALE Trade Date Accounting Settlement Date Accounting
Contract Date/Commitment Date A/R FVOCI
(Use FV at that date, remeasure FVOCI (at cost) URGOCI (remeasurement)
securities for sale) Gain on Sale or R/E
Report Date (Ignore all changes in Fair No Entry No Entry
Value in between Contract and
Settlement Dates for all sales)
Settlement Date Cash Cash
A/R (at cost) FVOCI (at carrying amount)

URGOCI
R/E (at contract date amount)
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Investment in Equity Securities–PFRS 9, PAS 32

• Equity instrument is any contract that evidences residual interests in the net assets of an entity
• Percentage Owned is counted by Existing and Potential Ownership
• Entitlement to Dividends is defined only by Existing Ownership
• Redeemable Pref. Shares are considered Equity Securities, but are Liabilities to the Issuer
Share Capital Investments
% Owned Preference SH Ordinary SH
<20% P/L or OCI P/L or OCI
20%-50% P/L or OCI Inv. In Assoc.
51%-100% P/L or OCI Inv. In Subsid.

Type Initial Measurement Subsequent Measurement Current/Not

FV less Dividends-on ALWAYS
FV through P/L (ignore transaction FV at Report Date (Derivatives are also
cost) thru FVPL)
FV plus Transaction Can be Current or
FV through OCI FV at Report Date
Cost less Dividends-on Non-Current
• Dividend-on: Shares were acquired after dividend declaration but before dividend payment,
hence the price of the shares naturally includes the dividends to which they are entitled to
receive
• Ex-dividends: No Accounting Issue
Gains and Losses
Fair Value at Report Date, FVPL XX Derecognition
Carrying Value at Report Date (XX) Consideration Transferred XX
Unrealized Gain or (Loss) through P/L XX Dividends-on (XX)
Transaction Cost (XX)
Fair Value at Report Date, FVOCI XX Net Selling Price XX
Carrying Value at Report Date (XX) New Asset (Liability) Assumed XX(XX)
Unrealized Gain or (Loss) FVOCI – SCI XX Carrying Amount** (XX)
Realized Gain or Loss (P/L or OCI) XX
Fair Value at Report Date, FVOCI XX ** Carrying Amount for P/L, Cost for OCI
Initial Cost of Investment (XX) Effect to Retained Earnings Balance:
Unrealized Gain or (Loss) FVOCI – SFP XX Retained Earnings Beginning XX
Dividend Income from Investments XX
Simple enough, Equity Securities through P/L and Unrealized Gain/Loss through FVPL XX
OCI are inherently held for attaining positive Unrealized Gain/Loss through OCI XX
changes in their valuation, hence the risk of a Realized Gain/Loss through OCI XX
losing price is inherent, thus, making any P/L or Realized Gain/Loss through P/L
OCI security excused from impairment losses. (Gain on Sale)
Retained Earnings Ending XX

Under the BSP Circular 708 guidance on application of PFRS 9, disposal of OCI securities should measure
the gain or loss on disposal based on cost. Any balance of Unrealized OCI Gains is recycled within equity
proportionately from the balance disposed and balance remaining.

Also note that all OCI Transactions are Net of Tax. This means that if any tax rate is provided in the
problem, the OCI Item is netted of tax immediately, and a Deferred Tax Liability (Asset) is recognized
as the accompanying credit (debit) to either Retained Earnings if the OCI recycles to Equity or
Unrealized Gain or (Loss) through OCI

It is also good to note that the impact of tax applies also to non-controlling interest valuation and
incidentally, Full Goodwill in Business Combinations though respective deferred tax assets/liabilities.
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Dividends out of Earnings

Date of Declaration –Dividend Receivable, Dividend Income; Date of Payment – Dr. Asset, Cr. Receivable
Form Unquoted FVPL FVOCI
Share Dividends from Memo Entry Dr. Inv. Dr. Inv.
the Same Class Cr. URG Cr. URG
Remeasurement** Remeasurement**
Share Dividends from Allocate ORIGINAL Dr. Inv. Dr. Inv.
Different Classes COST based on PAR. Cr. URG Cr. URG
(Assuming PS were Dr. Inv PS Remeasurement** Remeasurement**
Received) Cr. Inv OS
Cash Dividends Dr. Cash Dr. Cash Dr. Cash
Cr. Div. Inc. Cr. Div. Inc. Cr. Div. Inc.
Property Dividends Dr. Asset Dr. Asset Dr. Asset
Cr. Div. Inc. Cr. Div. Inc. Cr. Div. Inc.
Remeasured No Entry Dr. Inv. Dr. Inv.
Cr. URG Cr. URG
Cash in Lieu of Share Dividends – As if shares were received and sold. Gain or Loss is the difference
between Net SP and CV.
𝐶𝑉 𝑜𝑓 𝑂𝑟𝑖𝑔𝑖𝑛𝑎𝑙 𝑆ℎ𝑎𝑟𝑒𝑠
𝐶𝑉 = ∗ 𝑆ℎ𝑎𝑟𝑒 𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠
𝑇𝑜𝑡𝑎𝑙 𝑆ℎ𝑎𝑟𝑒𝑠
• Declaration: Memorandum;
• Receipt: Dr. Cash; Cr. Investment (PL, OCI, Unquoted), Gain on Sale
• CV is the FV at Date of Declaration or Cost for unquoted securities
• CV of Original Shares also includes share dividends previously acquired
Shares in Lieu of Cash – Dividend Income is equal to cash dividends that would have been received (In
Priority: At Fair Value of Shares; Amount of Cash Received if FV not available)
o Declaration: Dr. Dividend Receivable; Cr. Dividend Income;
o Receipt: Dr. Investment; Cr. Dividend Receivable, Dividend Income
• Apparently, Dividend Income is technically a Civil Fruit; which under Philippine Laws, are
interpreted to retroact to the date of the constitution of the obligation. (Date of Declaration)
o When using the FIFO method for selling Investment Portfolios with Share Dividends, these
are deemed to have been acquired on the date their principal shares were acquired, this
is based on the As-if method in determining the weighted-average cost of shares.
Other Transactions
• Stock Splits – Manipulating capital by allowing for the easier issue of shares
o Special Assessment – Additional Contributions Required
o Split-up – Reduce par, increase Shares; Split-down – Increase par, decrease shares
• Conversion Option – Convert from PS to OS vv., considered a retirement of shares, hence a
derecognition of old shares into new shares or instruments are required
• Stock Rights – Preemptive rights, issued to existing shareholders to protect the value of their
shares from dilution (decrease in book value per share due to increased outstanding shares)
o Ex-rights – shares have no attached rights (A separate Financial Instrument)
o Rights-on – shares have attached rights (Not a Separate Financial Instrument)
o Share Warrants are the instruments evidencing ownership of shares
o Stock Rights, Options and Warrants are all considered Derivatives, and are therefore either
accounted for separately or not; as Derivatives, they are considered as a Fair Value Hedge
for the Change in Value of the Security (preventing dilution) hence, carried over through P/L;
they are never carried over as OCI since they do not protect cash flows.
o Generally, accounted for separately (as provided in the description above)
o If not accounted for separately, the Increase in Investment at exercise is measured at exercise
price; and the loss upon expiration is simply not recorded. This is especially the case for
financial instruments with a conversion option (The option is not split from the principal)
o The reason why PL is always right-on and OCI is always ex-rights is because of split accounting,
which requires separating P/L components from OCI components.
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Transaction Unquoted FVPL FVOCI

Memo Memo Dr. SR
Receipt of Stock Rights
Cr. URG - PL
Dr. Inv; Dr. Inv; Dr. Inv;
Exercise Cr. Cash Cr. Cash Cr. Cash,
Cr. SR.
Memo Memo Dr. LSR,
Expiration
Cr. SR.
Dr. Cash; Dr. Cash; Dr. Cash
Sale
Cr. Inv Cr. Inv Dr. LSR
**SR – Stock Right,
No G/L No G/L Cr. SR
**G/L – Gain or Loss
Cr. GSR
• When Exercising a Right, Conversion Cost is incurred, which is the credit in Cash
• The Investment is Conversion Cost or Exercise Price + Stock Rights Exercised
• The Stock Rights remain to be the same value
• Value of Rights, Rights On • Value of Rights, Ex-rights
MV of SR − Exercise or Subscription Price MV of SR − Exercise or Subsciption Price
SR = SR =
Shares Received per Right + 1 Shares Received per Right
Summary of Transactions
The Transactions’ Effect in:
Transaction CV Shares Income Statement
Issuance Increase Increase No Effect
Dividends on Decrease No Effect No Effect
Sale/Transfer Decrease Decrease Inc/Dec
Share Dividends Increase Increase No Effect
Cash/Property Dividends No Effect No Effect Increase (ALL P/L)
Split Up No Effect Increase No Effect
Split Down No Effect Decrease No Effect
Special Assessment Increase No Effect No Effect
Receipt-SR No Effect No Effect Increase – OCI Only
Exercise-SR Increase Increase No Effect
Expiration-SR No Effect No effect Decrease
Sale/Disposal of SR Decrease for UQ and No Effect Inc/Dec – for OCI only
P/L not for OCI
Remeasured Inc/Dec No Effect Inc/Dec
Conversion Inc/Dec Inc/Dec Inc/Dec
Investments in Associates PAS 27, PAS 28
Investments in Associates are when Equity Interests have significant influence (20% to 50%) over an
Investee; as such, more participation in management and policy-making is expected. It must follow the
Equity Method or One-line Consolidation Approach.
Investment in Associates Net Investment Income
Beginning Balance Dividends Received Amort. of Excess Share in Net Income
Share in Net Income Amortization of Excess Impairment Loss
over Book Value Net Amount
Share in OCI(L) Impairment Loss
Deemed Sales/Dilution Net Income of the Associate XX
Actual Disposal/ Preference Share Dividends (XX)
Cessation Net Income for OS Dividends XX
Ending Balance Multiply: Percentage of Ownership X%
Share in Net Income of Assoc. XX
**Intercompany transactions must be accounted for as well.
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• Cumulative Preference Share Dividends

PSD = Fixed Rate ∗ Par of Outstanding PS
o Can be in arrears for up to 1 year, declared or not
• Non-cumulative Preference Share Dividends
Actual Dividends Declared
• Redeemable Preference Shares are not deducted from Net Income of Associate anymore
• An Investor sharing in the OCI of an Investee i.e., Revaluation Surplus, FVOCI – Unrealized Gains
or Losses, Gains or Losses from Cashflow Hedge Derivatives, Actuarial Gains or Losses have for
their share in these OCI items to be transferred to Retained Earnings – OCI.
• Eventual Disposal of the Investee will require the Investor to recycle the OCI accumulated in RE
Step-Acquisition PFRS 3
Ideally, any Investment accounted for under financial asset through Profit or Loss or through Other
Comprehensive Income or Loss must be irrevocably declared as such, unless the investment is intended
to be held for trading. However, upon the instance where the Investment have been continually
managed as that for an Associate or Joint Venture, provided either Significant Influence or Joint
Control had been manifested, the substance of the transaction must prevail over the policy applied
or form of accounting applied to the investment. Hence, FVPL or FVOCI Investments acquiring
Significant Influence or Control must be accounted for through Equity Method as prescribed by PFRS 11
and PAS 28.
Cost to Equity Method –e.g. 10% to 30%
Cost-based, with Retrospective Adj to R/E
• Accumulated Investment Income in
Equity Method – as if Investment had
Fair Value Approach – PFRS 3
always been under Equity Method
Fair Value of Old Investment XX
Accumulated Investment Income - XX
Fair Value of New Investment XX
Equity
Balance of Investment XX
Accumulated Investment Income – (XX)
Cost
Retroactive Adjustment to R/E XX
Cost-based, no Retrospective Adj to R/E Remeasurement Gains/Losses – P/L or OCI
Original Cost of Old Investment XX Fair Value of Old Investment XX
Original Cost of New Investment XX Carrying Value of Old Investment (XX)
Balance of Investment XX Remeasurement Gain/Losses XX
Equity Method
The equity method is also called the one-line consolidation method. This means that an investor acquires
enough influence in the investee entity such that it may participate in the investee’s policy-making and
decision-making body. This blurs the line between the separability of the entities. The accounting for
equity method approaches the relationship as if the investor is actually part of the equity of the investee.
One-line consolidation also implies that goodwill from the acquisition is included in the acquisition cost
plus transaction cost of the investment, thus, impairment tests for the investment must not account for
goodwill separately, in other words, the goodwill remains to be unidentifiable and inseparable
(subsumed) unlike in the Consolidated Financial Statements under PFRS 3.
Discontinuance of the Equity Method
Cessation
The actual Disposal of the Investment will require a remeasurement of the amount of the amount
remaining. As such, the amount or portion of interest that is held for disposal must first be restated at
fair value and then must be accounted for under PFRS 5, as a Non-current Asset Held for Sale.
Fair Value of Remaining Investments XX
Net Proceeds XX
Carrying Amount of Investment at Date of Discontinuance of Equity Method (XX)
Total Gain or Loss (Sale and Reclass) XX
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Realized (Sale) Unrealized (Reclass) Total

Proceeds from Portion Disposed XX - XX
FMV of Portion unsold and reclassed - XX XX
CV of Investment** (XX) (XX) (XX)
Gain or Loss before Recycling XX XX XX
OCI** XX XX XX
Gain or Loss on Cessation XX XX XX
R = Realized Portion, U = Unrealized Portion; **Prorated to sold and unsold if there is no loss of control,
significant influence, or joint control; if there is loss of control, significant influence or joint control, the
entire OCI Balance is recycled through Profit or Loss or within Equity as the case may be.
Dilution/Deemed Sales
Dilution or Deemed Sale is an event where an investor fails to protect themself from losing interest in
the capital stock of the investee. This occurs if the investor does not exercise its preemptive right against
dilution from additional issuance of shares or from failing to acquire stock dividends from the investee.
This means that as other shareholders acquire shares from the investee, the associate losses capital
interest by virtue of the other investors improving their capital positions (i.e., 20 from 100 (20%) is
different from 20 from 120 (16.67%)).
Proceeds from Issuance of New Shares * New • (1) The Proceeds are technically
Interest owned after Dilution (1) XX shared Increases in Net Asset (thru
CV*(Change in Interest/Original Interest) (2) XX Cash) from Investee’s Share Issuance
Gain or Loss before Recycling XX • (2) This is the opportunity cost of
OCI (L) Recycled XX foregoing the interest held in the
Dilution Gain/Loss XX Investee
**Do note also that the Capital Interest of the Associate may increase due to the Investee Company
reacquiring shares or retiring shares. As the Investment has no change in balance, only its share in net
income and dividends may apply the new interest. As no consideration is received for the increase in
interest, no entry is recognized.
Impairment and Investee with Heavy Losses
An investee incurring heavy losses will eventually be subject to impairment. This may continue on until
the Investment Balance reaches zero. A negative or deficit balance in an Equity Method Investment is
not allowed.
CV before Impairment Loss XX
Recoverable Amount (FVLCTS or VIU) (XX)
Impairment Loss XX
To accommodate the above-mentioned rule, the standard provides for the recognition of a Liability
Account (Unabsorbed Impairment Loss) to cover any balances of impairment loss beyond zero.
Unabsorbed Impairment Loss – A share in net loss is recognized larger than the Carrying Value of the
Investment in associate, a Liability account is setup, and is derecognized only when the Associate
recovers in profits, the net deficit in balance.
• Accounts Absorb the Accumulated Losses in this Order:
a. Carrying Amount of Investment in Joint Venture/Associate
b. Investment in Preferred Shares over the Joint Venture/Associate
c. Unsecured Long-term Receivables or Unsecured Loans
Intercompany Transactions
The same core principles apply to any other arrangement such as for Subsidiaries, Associates, and Joint
Ventures accounted for under Equity Method. All intercompany transactions are eliminated, and
dividends are construed as returns of capital.
**Upstream = Equity Interest %, Downstream = 100%
Investment Income XX
Impairment Loss (Net of Reversals) (XX)
P/L under Equity Model XX
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Investment in Debt Securities–PFRS 9

Financial debt instrument that can be bought or sold, having for it defined are the amount borrowed,
interest rate, maturity date and renewal date.
Most common is the Bond, evidenced by a Bond Certificate, entitling the holder to contractual cashflows.
It is accompanied with the Bond identure that specifies the terms of the Bond
Type Description
Term Bond One Maturity Date
Serial bond Multiple Maturity Dates
Mortgages Attached to Properties
Collateral Trusts Bonds collateralized by Equity Securities
Guaranteed bonds Guaranteed of Cash Payment by a guarantor
Debenture Bonds Bonds not collateralized
Convertible Bonds Converts to Shares upon Exercise
Callable Bonds Bonds Redeemed before Maturity
Junk Bonds High Risk Bonds
Zero-interest Bonds Bonds with no Nominal Interest
• FVPL – Short-term gains always CURRENT (Effective Interest or Quotation may be used)
• FAAC – To Collect contractual cashflows (Effective Interest Only)
• FVOCI – To report Gains and collect contractual cashflows (EI% or Quotation may be used)
Type Initial Measurement Subsequent Measurement Current/Not
FV ALWAYS
FV through P/L FV at Report Date
(Interest-on)
FV Can be Current or
FV through OCI + Transaction Cost FV at Report Date Non-Current
(Interest-on)
Initial FV Amortized Cost at Split Current and
FAAC
+ Transaction Cost Effective Interest Rate Non-current portions
• Premiums or Discounts at FVPL are not Amortized
o Only Interest Income from Nominal Interest is recognized, prorated by the months
• Initial FV = PV of all Future Cashflows OR Bonds at Quotation
Issued at: Proceeds vs Face Amount Effective Rate vs Nominal Rate
i=Interest Income
Face Value (1) P=F, i=0 E=N
Premium (1.x) P>F, i=decrease E<N
Discount (0.x) P<F, i=increase E>N
• Amortize the Premium or Discount over the collection of Interest
• Interest Bearing, Lump-sum (Term Bond) • Non-Interest Bearing, Lump-sum
o Principal @ PV of 1 (Term Bond)
o Interest @ PV of Ordinary Annuity of 1 o Face Amount @ PV of 1
o Non-Current o Interest Expense will increase CA
Date Received Income Amort. CV o Non-Current generally
1/1/X1 AC Date Income Amort. CV
12/31/X1 N E1 N-E1 AC1 1/1/X1 AC
12/31/X2 N E2 N-E2 AC2 12/31/X1 E1 E1 AC1
12/31/X3 N E3 N-E3 AC3 12/31/X2 E2 E2 AC2
… 12/31/X3 E3 E3 AC3 …
ACn+1 = AC- E1 ACn+1 = AC- E1
• Interest Bearing, in Installments (Uniform • Non-Interest Bearing, in Installments
or Non-Uniform Serial Bond) (Serial Bond)
o Principal Payments + Declining Nominal o Annual Payments @ PV of Ordinary
Interest @ PV of 1; for all payments Annuity of 1
o Amount Paid = Current; Amount o Amount Paid = Current; Amount
outstanding = Non-current outstanding = Non-current
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Date Rec. Income Amort. Prin. CV Date Income Amort. Prin. CV

1/1/X1 AC 1/1/X1 AC
12/31/X1 N E1 N-E1 P1 AC1 12/31/X1 E1 E1 P1 AC1
12/31/X2 N E2 N-E2 P2 AC2 12/31/X2 E2 E2 P2 AC2
12/31/X3 N E3 N-E3 P3 AC3 … 12/31/X3 E3 E3 P3 AC3 …
ACn+1 = AC- E1-P1 ACn+1 = AC- E1-P1
• Debt Securities with Interest-on (Acquired in between interest dates)
o Date of Issuance is different from Date of Acquisition; therefore, the Bonds are no longer
entitled to the Interest that is not ‘owned’ or has not accrued to the holder
Initial Fair Value (Date of Issuance) XX
Prorated Discount or (Premium) Amortization:
Prorated Nominal Interest (Months not Owned from latest payment
period) (XX)
Prorated Effective Interest (Months not Owned from latest payment
period) XX XX(XX)
Present Value (Date of Acquisition)/FV of Bonds (Clean Price) XX
Prorated Nominal Accrued Interest (Months not Owned) XX
Purchase Price of the Bonds, Interest On/’Dirty Price’ XX
• For the use of the Amortization Table, it is useful to proceed using the Date of Issuance (Usually
Jan or Dec) and to just prorate the Accrued Interest to the Months the bonds were actually owned
(RECOGNIZE ACCRUED INTEREST)
Date Received Income Amort. CV
1/1/X1 AC
12/31/X1 N E1 N-E1 AC1
4/30/X2 N*4/12 E2*4/12 N-E2 AC2
12/31/X2 N*8/12 E2*8/12 N-E2 AC2
12/31/X3 N E3 N-E3 AC3 …

Date Rec. Income Amort. Prin. CV

1/1/X1 AC
12/31/X1 N E1 N-E1 P1 AC1
4/30/X2 N*4/12 E2*4/12 N-E2 - AC2
12/31/X2 N*8/12 E2*8/12 N-E2 P2 AC2
12/31/X3 N E3 N-E3 P3 AC3 …
• Simply stated, if a security excludes interest, the interest must be determined
• If a security includes interest, the interest is already incorporated into the balance and there
should be no change necessary for the purposes of computing the purchase price of bonds.
• Debt Securities with Attached Warrants – A compound financial instrument entitling the holder
to both Equity and Debt Securities (Recall that Warrants and Stock Rights are Derivatives)
The Acquisition Cost of the Investment and the Fair Value of the Stock Rights are weighted to get the
allocated Initial Cost of both. No Unrealized Gains are recognized from Stock Rights attached to Bonds.
Instruments FV Fraction Cost
Bonds A A/AB C*A/AB
Stock Rights B B/AB C*B/AB
Total AB 100% C
• C = Acquisition Cost of Compound Instrument; C =/= FV of Bonds and Stocks
N.B. For asset sides in investments, use relative FV allocation. For liabilities and equity, use
residual method.
Presentation - FAAC
• Interest Income in the Amortization Table for that year is reported in the Income Statement
• Current Portion of the Investment is the next year’s Principal Collection + - Amortization
• Non-current is Initial Fair Value Less Current Portion
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Presentation – FVOCI
• Interest Income in the Amortization Table for that year is reported in the Income Statement
• Unrealized Gains or Losses are Reported in the Statement of Financial Position (Negative Balance
in URG is a Contra-asset, not a Liability)
• Reported at FAIR VALUE – In the Amortization Tables, just add a Fair Value Column, a URG – SFP
Column, and URG – SCI Column
o URG SFP = FV-AC; URG SCI = URG SFP Prior year – URG SFP Current year
Presentation – FVPL
• Interest Received in the Amortization Table for the year is reported in the Income Statement
• Unrealized Gains or Losses are Reported in SCI
• Always reported as Current
• Report Accrued Interest if acquired in between interest dates (Same applies for FAAC, FVOCI)
Derecognition
Consideration Transferred (Purchase Price) XX Accrued Interest is sold, but
Accrued Interest-on (XX) not at a premium, since the
Transaction Cost (XX) gain should only ever be
Net Selling Price XX attributed to the Instrument
Unrealized Gain or (Loss) SFP for OCI only XX alone.
Amortized Cost – at Date of Disposal (XX)
Realized Gain or Loss (P/L or OCI) XX
• Derecognition does not prejudice the Debt Security’s classification. Therefore, even if a FAAC
security is not intended for disposal, but is disposed prematurely, it will not result into a
reclassification from FAAC to either FVPL or OCI
Reclassification
When an entity changes its business model in managing securities, it will require the reclassification of
debt securities according to the new business model, i.e., a change in the emphasis from Short and Long-
term Gains, Fair Value Gains to Cashflow Gains, and vice versa.
• It is not fair or consistent to allow rapid changes in business model, hence IFRS 9 expressly
mentions that reclassification should not be done often.
• This is treated Prospectively
o Hence, the Reclassification shall take place in the next accounting period from the
change in business model
o Reclassification Gains or losses are reported in the next period
o Reclassification Gains or Losses follow the type of investment they go into
▪ FAAC to FVPL – PL
▪ FAAC to FVOCI – OCI
▪ FVPL or OCI to FAAC – No Reclassification Gains or Losses, not allowed
• Do note that PV of Cashflows can also be Quotations instead as basis for FV
• FVPL to OCI
PV of Principal at Reclassification Date, for the Remaining Term XX
PV of Interest at Reclass, for Remaining Term XX
FVOCI XX
o FV at Reclass = Initial CV
o New Effective Interest, New term, measured at FV
o No Reclassification Gains or Losses
o Incur Transaction Costs if there are any
• FVPL to FAAC
PV of Principal at Reclassification Date, for the Remaining Term XX
PV of Interest at Reclass, for Remaining Term XX
FAAC XX
FVPL (XX)
Interest to be Amortized XX
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o FV at Reclass = Initial CV
o New Effective Interest, New term, measured at AC
o No Reclassification Gains or Losses
• FVOCI to FVPL
PV of Principal at Reclassification Date, for the Remaining Term XX
PV of Interest at Reclass, for Remaining Term XX
Financial Asset through FVPL XX
o FV at Reclass = Initial CV
o New Effective Interest, New term, measured at FV
o Cumulative Gain or Loss is RECYCLED entirely to P/L as a Reclassification Gain or Loss
• FVOCI to FAAC
FV at Reclassification Date XX
Unrealized Loss (Gain) – SFP XX
Initial CV for Financial Asset at AC XX
o FV at Reclass = Initial CV
o Old Effective Interest, New term, measured at FV
o Cumulative Gain or Loss is transferred entirely to Carrying amount as if it has always
been a FAAC instrument
• FAAC to FVPL or OCI
PV of Principal at Reclassification Date, for the Remaining Term XX
PV of Interest at Reclass, for Remaining Term XX
Financial Asset through FVPL/FVOCI XX
FAAC (XX)
Reclassification Gain or Loss (P/L or OCI) XX
o FV at Reclass = Initial CV
o Subsequently measured at FV
• Reclassification Adjustment = Recycling from OCI to P/L for Debt Securities
• Reclassification Adjustment = Recycling from OCI to R/E for Equity Securities
Impairment for Credit Losses in PFRS 9
• Similarly, with receivables, the impairment of debt securities arises from collectability of the
debt, instead of market rates of sale.
• Equity Securities are NOT subject to Impairment
• Encompasses:
o FAAC, FVOCI Debt Securities, Lease Receivables, Contract Assets, Loan Commitments,
Financial Guarantee Contract
• Credit Loss = Actual Contractual Cash Flows – Expected Cash Flows
o The Expected Cashflows include Weighted probabilities of Collection
• Discounted at Original Effective Interest Rate
• 12-month Expected Credit Losses – Credit Risk has not significantly increased since initial
recognition, but empirical evidence shows that impairment is possible within 12 months
• Lifetime Expected Credit Losses – There is a significant increase in Credit Risk from initial
recognition
Allowance for Expected Credit Loss
Gain on Recovery Beginning Balance
Impairment Loss
Ending Balance
Three-Bucket Approach on Impairment Assessment
• The asset is a Contract asset, a Lease Receivable, a Trade Receivable (PFRS 15, 16, 9)
o With Significant Financing Component – decide to assess credit risk at least annually or
use lifetime expected credit losses (Decide whether or not to Age the receivable)
o No significant financing component – Use only the Lifetime Expected Credit Loss Model
for Impairment since the financing component is not significant, and that these are
usually applied to short-term receivables. (Bad Debts)
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• The Asset is Originated or Purchased as Impaired (Purchased with high credit risk)
o Use the Credit Adjusted Effective Interest rate if possible
o Perform regular assessment of impairment
o Maintain an Impairment Allowance
o This means that the asset uses the Lifetime Expected Credit Loss Model unless there are
significant improvements in the credit risk exposure
• The Asset is not originated or purchased as impaired
o There are NO SIGNIFICANT increases in risk at the report date
▪ Recognize 12-month ECL and recognize Revenue from the Gross Carrying Amount
o There are SIGNIFICANT INCREASES in the risk since INITIAL RECOGNITION (risk has since
then been in an increasing trend)
▪ Recognize Lifetime ECL
– If the Asset has been credit-impaired, recognize Revenue based on the
NET of the Allowance
– If the asset has NOT been credit-impaired, recognize Revenue based on
the Gross Carrying amount.
For assessing impairment of credit-based financial assets, evidences of impairment must be observed to
properly decide at which stage the credit risk is at.
Also, it is necessary to separate the connotations of impairment and credit risk. A risky investment does
not necessarily imply an impaired investment; hence the stages of credit quality are determined.
Stage 1 Stage 2 Stage 3
Use 12-month ECL Use Lifetime ECL Use Lifetime ECL
Revenue on a Gross Basis Revenue on a Gross Basis Revenue on a Net Basis
No significant deterioration of Significant deterioration in Already Credit-impaired
credit quality or investment credit quality, and no longer Actual Loss has already
grade investment grade occurred i.e., Payor
Rebuttable presumption exists if communicates inability to meet
the credit is more than 30 days payments as they come due
past due and outstanding Empirical Evidence of
Impairment are available
Uses PV of 1 for 12 months Uses PV of 1 for n periods
• FVOCI Loss Allowance shall not reduce the balance of the Investment. The Credit Loss is Charged
immediately against OCI in the SCI
o Impairment Loss =/= Estimated Credit Loss
o Impairment Loss is charged in P/L
o ECL is charged in OCI first, any excess ECL is charged as an impairment loss
o The Overall Change in Fair Value has to be segregated into:
▪ Amortization
▪ Change in FV (quotation/rate) – Unrealized Gain or Loss – OCI
(A-B) + ECL
▪ Change in Credit Risk – ECL –
(B-C) – ECL
▪ Total Change = A-C
No Change FV Change Credit Risk Change
PV A B C
• FAAC Loss Allowance shall reduce the balance of the investment, treated like Loan Receivable
• Impairment reversal cannot exceed the amount where Amortized Cost is not Impaired
Amortized Cost XX
Multiply: Probability of Default (PD) σ%
Multiply: Estimated Loss on Loan (1- Recovery Rate) L%
Impairment Loss or ECL XX
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Investments in Derivatives and Other Funds –PFRS 9

Derivative – A Financial Instrument that derives value from the movement in commodity price, foreign
exchange rates, or interest rates of an underlying asset or financial instrument.
• These are generally Executory Contracts, i.e., an exchange of promises about future action
• On one party, it grants a contractual right to EXCHANGE financial assets or liabilities under
conditions that are favorable; on the other hand, it imposes a contractual obligation to the other
party to EXCHANGE under unfavorable conditions
• Underlying – A basis (rate or price); Notional – A quantity, volume, or number of units
• No Initial or Small Initial Investment required
• Settled at a Future Date by a Net Cash Payment
• Measured at Fair Value, either as an Asset/Liability that may change into Liability or Assets.
• Embedded Derivative – A derivative which is a component of a hybrid instrument; this is
accounted for separately from the host contract from which it belongs
o Combined Contracts are not Measured at FVPL
o If the Host Contract is a Financial Asset, the Derivative is not separated or split
Interest Rate Swap A contract where parties agree to exchange cashflows for future interest
payments based on loan arrangements they may be fixed to floating and vv.
Forwards A Commitment to purchase or sell a specified commodity at some future
date at a specified price
Futures Same as Forwards, but that Futures are traded in an Exchange Market
Options A contract that gives the holder the right to purchase or sell an asset at a
specified price during a definite period at some future time
• Derivatives for Speculation – FVPL; Changes in Value is closed to P/L
Hedge Accounting
• Cashflow Hedge – Preventing Variations on Cashflows (Keeping cashflows predictable)
• Fair Value Hedge – Preventing changes in Fair Values from affecting I/S
Hedged Items
o Firm Commitment – A price and date of sale is fixed
o Highly Probable Future Transaction – Anticipating a Transaction, uncertain
Cashflows/transaction
Fixed to Floating Rate Swap and Floating to Fixed Rate Swap
Transaction Hedge Type Remarks
Firm Commitment Fair Value Hedge Cashflows will not change
Highly Probable Future Transaction Cashflow Hedge Cashflows will change
Fixed to Floating Rate Fair Value Hedge Cashflows will not change
Floating to Fixed Cashflow Hedge Cashflows will change
The Transaction will follow the Hedged Item, not the Hedging Instrument
Fair Value Cashflow
Hedging Instr. P/L Gain OCI Gain or Loss
Hedged Items P/L Loss Normal Accounting Depends on the
Cash outlay
Interest Rate Swaps
• Determine the Host Contract/Primary Financial Instrument (interest rate swaps, loans)
o Determine if the interest rate is a Floating/Variable Rate or Fixed Rate
• Determine the Derivative Contract
o Keep in mind the salient contractual conditions of the swap
• Net Cash payment is the Basis for whether the Derivative is classified as an Asset/Liability
• Valuation of Interest Rate Swaps:
o PV of All Cashflows from entry into Primary Contract until Settlement Date
o Settlement Date is the date where interest is paid on the Loan
o At the end of the Host Contract, the balance of the derivative will also be zero
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Essentially, it is the Incremental Interest Paid or Received multiplied by a PV Factor if applicable (If less
than one year, no PV; if only for a year PV of 1; if for multiple years, PV OA of 1)
Interest Rate Swap
Beginning Balance Interest Amortization
Unrealized Gain (SQZ) (SQZ) Unrealized Loss
Ending Bal. Receivable Ending Bal. Payable

Inception Δ Accrual Δ Accrual Δ Settlement

Fixed Cashflow F F F F
Variable Cashflow (V1) (V2) (V3) (V4)
Net Cashflow XX XX XX XX
PV OA at Effective Rate A1% *SQZ B2% *SQZ C3% *SQZ D4%
Dvtv Asset (Liab.) XX XX* XX XX* XX XX* XX
Interest Amortization A (AA) B (BB) C (CC)
Net Change in Dvtv XX XX XX

Inception Interest Payment Recycling

Derivative X Interest Expense X Unrealized Gain X URG X
Unrealized Gain X Cash X Interest Expense X Interest Expense X
• The real interest expense is applied using the original (Hedge Accounting) • When the favorability of
contract’s terms. the Swap changes, the
• The hedging loan (speculator’s loan) is applied to follow Cash X OCI balance is recycled
the hedge arrangement; Receive Variable, Pay Fixed/ Unrealized Gain X into profit or loss
Receive Fixed, Pay Variable Derivative (SQZ) X through a
• Interest amortization is applied to the beginning (Interest Amortization) reclassification
balance at the effective rate determined at period-end. adjustment.

Forwards and Futures

Forwards and Futures usually are applied as perfect hedges. Whatever is gained/lost is hedged entirely.
Primary Fin. Inst Report Date 1 Report Date 2 **Apply time value if given
Market Price XX XX **Apply a basis adjustment or
Underlying Price (XX) (XX) reclassification adjustment as
Forward Contract Rec/(Pay) XX XX appropriate. (See AFAR,
Prior Balance -0- (XX) Derivatives)
Unrealized Gain XX XX
Options
• Always a Right, and never an Obligation, hence the non-exercise of a transaction allowed
• Call Options are for Buyers – Right to Buy while Put Options are for Sellers – Right to Sell
• Option Premiums are required to execute the hedging; A derivative asset.
• Strike Price – the exercise price of option; Asking Price – Seller’s Rate; Bid Price – Buyer’s Rate
• In Options, if an option is UNEXERCISED but the Prices remain lower, the OPTION IS FOREGONE,
and the Option Premium is Charged as a LOSS. (i.e., Out the Money) A loss will be recognized
to the extent of the option premium if the options have never been exercised due to it being
out the money for the entire exercise period.
Call Option Put Option Time Value = Strike
Out the Money Strike Price > Market Price Strike Price < Market Price Price or FV at Trade
In the Money Strike Price < Market Price Strike Price > Market Price date
At the Money Strike Price = Market Price Strike Price = Market Price
Intrinsic Value Market Price – Strike Price Strike Price – Market Price Intrinsic Value = FV-TV
‘Applying Split Accounting’ means to designate only the Intrinsic Value as the Hedging Instrument
 = amounts reported in P/L or OCI; Net Gain = IV, end – Option Premium
Split Accounting: Trade  Report  Settled
Time Value (OCI) 30,000 -10,000 20,000 -20,000 0
Intrinsic Value (P/L) 0 50,000 50,000 -20,000 30,000
Fair Value 30,000 40,000 70,000 -40,000 30,000
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Funds & Other Investments–PFRS 9

Sinking Funds
• May be managed by the entity itself (a non-insurance) or by a trustee
• Transfer Cash, and Appropriate R/E, matches the liability in reporting
Sinking Fund Securities Balance XX
Sinking Fund Cash Balance Cash, end**(Adjusted by Interest Income, Dividend Income, Gains) XX
Sinking Fund Expenses (Commissions, Taxes, etc.) (XX)
Appropriated Retained Earnings, beginning (XX)
Adjustment to Retained Earnings Appropriated XX
• Same Cash can be Reinvested elsewhere to earn interest as Sinking Fund Income
• To Prepare a Fund, PV computations are necessary, depending on Lumpsums or Annuities
• Presentation of the Fund is parallel to the Liability (i.e., the Bonds Payable) hence if the bonds
mature currently, then the fund is presented as a Current Asset.
Preference Share Redemption Fund
• Transfer Cash, no Appropriation necessary
• Apply to Preferred Capital and Retained Earnings/Share Premium upon disbursement
Insurance Funds
• Non-life Insurance Funds Transfer Cash to a Fund Credit the Fund against PPE destroyed as long
as these are insured
• Life Insurance on Employees
Cash Surrender Value - Indemnifying the Entity from the losses, pecuniary or nominal, incurred from
the death of its key management personnel
• CSV is the amount which the insurance firm will pay upon the surrender and cancellation of life
insurance policy
o A return of LIFE INSURANCE ONLY; PREMIUMS FOR 3 FULL YEARS PAID
o POLICY IS NOT SURRENDERED BEFORE 3 YEARS (Generally)
• Loan Value – The amount the entity can borrow with CSV as a security; Not offset against CSV
Procedure for Life Insurance:
• Pay the premiums and charge as expense
• Adjust the Premiums by unexpired and expired
• Credit Life Insurance Expense on Dividends from Life Insurance
• Recognize CSV and credit Life Insurance Exp. and R/E at the end of the Third Year
o At Initial Recognition, allocate the CSV between the R/E and the Life Insurance Expense (That
is, 1/3 goes to Life Insurance Expense, and 2/3 goes to Retained Earnings)
• CSV increases instead of Premiums after yr. 3 (As per usual practice, a holding period of 3 years is
required to transition from insurance premium to CSV)
• Track only the changes in the CSV, usually, the balances of the CSV are provided instead of the changes
• Receive the proceeds, crediting Life Insurance Expense, Gain, and CSV
• If the Policyholder dies, the CSV is applied only to the extent of the months where the policyholder
was still alive (e.g., the CSV of an insurance policy with the policyholder who dies on November 1, will
only be counted from January to October 31, assuming a calendar year.)

Cash Surrender Value Face of Policy XX

Premium Paid in Prior Dividends after 3rd Yr. CSV, ending (CSV & Unexpired
(XX)
Premiums are set-off against Policy)
Premium Paid after 3rd Yr. (Dividends are set-off against
Unexpired Premium (XX)
premiums due)
Ending Bal. Receivable Ending Bal. Payable Gain on Settlement XX
CSV CSV Cash
Life Insurance Expense Life Insurance Expense CSV
R/E
Initial Recognition Increase in CSV (Reverse for Receipt of
Decrease) Dividends
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If the Insured dies in the middle of the year:

CSV for the Year (Prior balance vs current balance) XX
Premiums paid for the entire year (XX)
Policy Attributable to the current Year XX
Multiply by: Months the insured was still alive n/12
Applicable to CSV XX
Prior Balance of CSV XX
CSV, ending XX
Loan Value – the entity’s loan from an insurance company that is collateralized by the cash surrender
value, which is accounted for separately from the cash surrender value
Contingency Funds – set aside for pending obligations such as litigations, constructive obligations, etc.
Fund for Plant Expansion – Set aside for acquisition/construction of PPE
Substantive Tests for Investments
Audit Objectives
• Investments exist and are owned by the entity (held by entity/fund manager)
• All recorded income from investments have accrued to the entity at period-end
• All investments owned at period-end are included in the balance sheet
• All income accrued from investments have been recorded
• Investments are included in the balance sheet at appropriate amounts; the associated income
account at also appropriate amounts and accounts
• All investments are free of liens, pledges, or other security interests, or if not, adequately
disclosed
• Investments and related income are properly classified, described, and disclosed, conforming to
PFRS
Audit Procedures:
a. Prepare or obtain analysis of investment accounts
• Trace to applicable general ledger balance
• Vouch changes during the year by reference to board minutes or brokers’ advice
• Verify completeness of dividend and interest income, and where necessary, by reference to
outside published sources
• Check footings and cross-footings
b. Conduct securities count and
• Inspect securities as registered to owner
• Reconcile and compare details with investment analysis
c. For securities held by an outside custodian
• Arrange for a visit to conduct a count
• Confirm from the custodian the details of securities held for the account of the entity
d. If the entity assigns in-house custodians, make sure that:
• The investments are kept in a safe/vault or otherwise secure location
• That there are at least 2 custodians upon every access of the securities
e. Review minutes, agreements, and confirmation replies for evidence of liens, pledges, or other
security interests in the entity’s investments & of commitments to acquire or dispose of investments
f. Inspect market quotations, investee’s FS & other evidence to determine current valuation
g. Discuss with the entity the process used by management in classifying investments
h. Determine whether the client’s investment activities are consistent with its business model for
managing financial assets
i. Determine whether the decline in fair value of OCI securities below amortized cost is other than
temporary and is recognized (Debt Security, OCI)
j. Verify computations of gains and losses from disposals
k. Verify computations of amortization of premium or discounts on OCI and AC securities
l. Determine propriety of FS and adequacy of disclosures
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Liabilities–PFRS 9, PAS 37
Financial Liabilities
• Accounts Payable, Notes Payable (Trade/Non-trade), Loans Payable, Bonds Payable, Mortgages,
Lease Liability, Salaries Payable, Interest Payable, Utilities Payable, Cash Dividends Payable
• Financial Liabilities are measured at either Fair Value through P/L or Amortized Cost.
• Amortized Cost Liabilities are adjusted for Transaction Cost as a deduction to the fair value.
• P/L – Transaction Cost is expensed
Non-financial Liabilities
• Advances from Customers or Shareholders, Deferred Revenues, Estimated Liabilities (Warranties,
Premiums, Employee Benefits), Property Dividends Payable, SSS, PHIC, PAGIBIG Contributions
Payable, Withholding Taxes Payable, Income Tax Payable, Asset Retirement Obligations, Provision
for Refinancing Agreements – In reference to Current Year FS
Discretion to Refinance
If an entity has the discretion or choice to extend the term for which a currently maturing debt may be
held outstanding, the entity usually records this as a non-current liability, unless the new terms are for
less than a year from the report date, in which case, the liability is current. The Opposite is true.
If the entity has already exercised its right to refinance the obligation on or before the report date, the
terms being extending the debt for more than a year outstanding, then the liability is non-current
Breach of Contract
A breach of contract makes a debt immediately due and demandable. If in any case, the creditor grants
the debtor entity a grace period before the balance sheet lasting at least 12 months thereafter, the
obligation remains to be non-current.
Accounts Payable
Gross Method Net Method
▪ Trade discount is netted ▪ Both Trade & Cash discounts are netted
▪ Cash discount is NOT netted
▪ Freight Charge is not affected by the
discount
• Freight Arrangements (Prepayment of Freight has no effect on Accounts Payable)
o 2P increase, no P decrease; 2P = FOB SP, Prepaid = Increase A/P
o No P = FOB D, collect = Decrease A/P; FOB SP, Collect and FOB D,
Estimated Liabilities
Bonuses Payable
These qualify as Short-term Employee Benefits under PAS 19. They are presented as incremental Salaries
Expense; if the bonus is payable over more than one period, apply the time value of money.
• Net Income before Bones and Taxes
B = B% × Adjusted Net Income; 10% ∗ ANI
• Net Income after bonus, but before taxes
Adjusted Net Income ANI
B = B% × ; 10% ∗
100% + B% 1.10
• Net Income after bonus and tax
Adjusted Net Income × (100% − T%) ANI ∗ 70%
B = B% × ; 10% ∗
100% + (B% × (100% − T%)) 1.07
o Case 3 applies the Bonus after tax, hence the Bonus of 10% had already been taxed (Grossing it
up to 1.07%; 70% of 10%)
• Net Income after Tax, before Bonus
Adjusted Net Income × (100% − T%) ANI ∗ 70%
B = B% × ; 10% ∗
(100% − B%) + (B% × (100% − T%)) 0.97%
• Case 4 also applies the Bonus after tax, the Bonus of 10% is already taxed, but the Net Income
excludes the bonus expense (100% - 10% + 70% of 10% = 97%)
• Adjusted Net Income is assumed to be before tax
• Be sure to adjust the Net Income as appropriate (it may be normalized, averaged, etc.)
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Unearned Revenues, Warranties, Premiums

Unearned/Deferred Revenues 𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑦, 𝑊𝑎𝑟𝑟𝑎𝑛𝑡𝑖𝑒𝑠
= 𝑇𝑜𝑡𝑎𝑙 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑊𝑎𝑟𝑟𝑎𝑛𝑡𝑦 𝑅𝑎𝑡𝑒 × 𝑇𝑜𝑡𝑎𝑙 𝑆𝑎𝑙𝑒𝑠
Service Delivery Beginning Balance 𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑦, 𝑃𝑟𝑒𝑚𝑖𝑢𝑚𝑠
Expirations Estimated Liability = 𝑁𝑒𝑡 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡
Ending Balance 𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝐼𝑡𝑚𝑒𝑠 𝑡𝑜 𝑏𝑒 𝑅𝑒𝑚𝑖𝑡𝑡𝑒𝑑
×
𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑 𝑅𝑒𝑚𝑖𝑡𝑡𝑎𝑛𝑐𝑒 𝑒𝑎𝑐ℎ 𝑈𝑛𝑖𝑡
• Significant changes have been introduced by IFRS 15 regarding initial recognition of Unearned
Revenues, where Performance obligations must be recognized. For proper accounting, a problem
should mention:
o which warranties are required by law, and which are merely additions to the main service
delivery (In this case, which qualify as Assurance Warranties (IAS 37), and as Service Warranties
(IFRS 15); in which case, the premium/warranty’s prices are subsumed in the product offer.
o whether a standalone selling price is available for any premiums or service warranties
Total Stand-alone Price Allocated Bundled Selling Price
Main Product (PX * Qty) X% XX
Service warranty/Premium (PY * Qty * Probability) Y% YY*
Total FV PXY* 100% XX
• The bundled price is the fair value of the main product*
• The actual amount realized (in the absence of any other information) is computed as:
𝑈𝑛𝑖𝑡𝑠 𝑅𝑒𝑑𝑒𝑒𝑚𝑒𝑑 𝐹𝑉 𝑜𝑓 𝑃𝑟𝑜𝑑𝑢𝑐𝑡
𝐴𝑚𝑜𝑢𝑛𝑡 𝑅𝑒𝑎𝑙𝑖𝑧𝑒𝑑 = ( ∗ 𝑆𝑆𝑃) × ( )
𝑈𝑛𝑖𝑡𝑠 𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑 𝑇𝑜𝑡𝑎𝑙 𝐹𝑉
• Provide a different computation for the next set of premiums, while carrying over any balances
• Rebate Liabilities are in the same nature as warranties and premiums, only that these are in cash
• Gift Cards operate in the same manner as Premiums (See AFAR Other Revenue Recognition Concepts)
• Estimated Liabilities are recognized upon Sale of Main Good for Assurance Warranties
• Estimated Liabilities are recognized upon delivery of warranty for Service Warranties
Provisions & Contingent Liabilities PAS 37
• No Provisions on the Faces of FS, only contingent liabilities are allowed
Loss Contingency Treatment Remote – Do Nothing
Possible (50/50) – Disclose the Amount
Level of Uncertainty Reliably Measurable Accrue Disclose or Range
Probable Yes Yes Yes Probable (More than 50%) – Record a
Probable No No Yes Liability
Possible Yes or No No Yes If a Best Estimate is given, use that
Remote Yes or No No If a Range is given:
Gain Contingencies Treatment
Use Midpoint Method if the Event has
Level of Uncertainty Reliably Measurable Accrue Disclose equal probability
Certain Yes Yes Yes
Certain No No Yes Use Expected Value if the events do
Probable Yes or No No No not have equal probability.
Possible/Remote Yes or No No No
• Provisions are accrued depending on the Method used
• Best Estimate if Given or determinable.
• High-low Method or Midpoint Method = Lowest Estimate + Highest Estimate all over 2
• Expected Value Method = Sum of all Monetary Value multiplied by the probability
• For each instance of provision, in the probabilities they are assigned.
• Asset Retirement Obligations are Contingencies
o These are amortized as a lump-sum; thus, interest expense increases the balance
o Any Increase in ARO is charged to either an Asset or Impairment Loss
o Any Decrease in ARO is charged against the Asset or Gains
• A Risk Adjustment Factor is applied to the debt in the case of expected values, if it is provided.
Simply add the risk adjustment (or multiply by 1+r%) to the expected value of the obligation.
• Deductibility Clauses – these are the absolute obligations incurred to collect insurance proceeds
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Financial Liabilities at FVPL

As per PFRS 9, Financial Liabilities are any contractual obligation to deliver cash/financial assets
• Unrealized Gains and Losses at P/L
• Transaction Costs are Expensed
• Usually used for Debenture Bonds (High Interest Rates)
PFRS 7 Treatment of Credit Risk
Credit Risk is the risk that the issuer of the liability would cause a financial loss to the other party by
failing to discharge the obligation. PFRS 9 provides the following steps to address changes in fair value
due to credit risk.
o Compute for IRR and then Deduct Benchmark Rate, Beg. From IRR
o Add the Difference to Benchmark Rate, end = Instrument Specific of IRR
o Compute for the PV at Instrument Specific IRR (ISIRR)
Compute for PV at Fair Value Interest Rate at the End of the period
• Shortcut: IRR – BM, beg. + BM, end = ISIRR
• Always be mindful of the remaining periods that the instrument is due for.
• The difference between the Fair Value Rate and the ISIRR PVs are reported in OCI.
• The difference between the Fair Value and the Carrying Amount (NOT THE ISIRR) is the total
change, deducting the OCI component will reveal the P/L Component (Unrealized Loss or Gain)
PFRS 9 allows the entity to report the OCI component in Profit or Loss instead if there is an Accounting
Mismatch. An Accounting Mismatch is created or enlarged if presenting the effects of changes in the
credit risk in OCI would result in a material difference than if those amounts were reported in profit or
loss itself. In other words, transferring the amount in OCI would be tantamount to concealment of a
probable impairment loss under PFRS 9, misstating the profitability of the entity; n concurrence with
the standard, a significant change in credit risk would resemble an impairment in terms of the
collectability of the instrument; in the issuer’s case, a change in the basis of the Debt is needed to
reflect credit risk.
• DERECOGNITION – Disposed at Retirement Price and Cancel the Carrying Value to report a Gain or
Loss on Derecognition of Liability
Financial Liabilities at Amortized Cost
Any Financial Liability not qualifying as Financial Liabilities through Profit or Loss; since these are not
acquired on the basis of the net benefit of the profit position of the contract, but rather to finance the
firm’s operations.
• Initially recognized at either (in order of priority): At Quoted Price or Present Value of Cashflows.
• Transaction Costs are deducted from the Quotation or PV.
• Yield > Nominal = Discount
• Yield < Nominal = Premium
• (Recognize at Face, report Discount as Contra-liability(added-back), and Premium as a Liability)
Notes and Bonds Payable
Notes and Bonds Payable are generally recorded at the Face amount, and are presented in the financial
statements at Amortized Cost.
• Serialized Notes and Bonds will have declining Nominal Interest
• Issuances between interest dates: Simply Prorate the Amortization and Nominal Interest according
to the months actually outstanding, added to the Balance at its inception
• Premature Retirement of Bonds will yield a gain or loss on Bonds (Retirement Price – Amort. Cost)
• Retired at Maturity – NO GAIN OR LOSS
• The Cash Price Equivalent is automatically the Present Value at the date of issuance, as well as
the book value of non-cash asset at recognition.
Loans Payable
• Measured at Fair Value less Transaction Cost or Origination Fee
• See treatment for Notes Payable for treatment of Present Value
• Subsequently measured at Amortized Cost; Ignore Origination COST
• It is necessary to recompute for the effective interest rate after the origination fees by Interpolation
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Compound Financial Instruments

For All Compound Financial Instruments, the accounting procedure involves the amortization of the debt
component separately from the equity component.
Bonds with Detachable Warrants
These are instruments with warrants attached. As such, the warrants are detachable and accounted for
separately. The warrants are generally used to acquire shares of stock of the bond issuer.
• Total Proceeds – FV of Bonds = FV of Warrants
• Exercise of Warrants = Debit Share Premium warrants, Credit Share Capital and Share Premium
• For Detachable Warrants, the quotation usually refers to the entire compound instrument. Therefore,
unless stated, the PV of Cashflows will be used as the FV of the Bonds. If the quotation expressly
refers to the Bonds exclusively, then the computation will be much simpler.
• Retiring the Bond will not retire the warrants. As such, these are accounted for separately.
• Expiration of Warrants is a simple transfer of the remaining balance to a share premium account
Redeemable Bonds/Preference Shares
Redeemable Bonds and Preferred Shares are compound instruments whose maturities depend on the
holder’s option. Accordingly, the Redeemable Bonds along with the Redemption Option or Premium, are
applied at the effective rate. At the Redemption date, redemption option and bonds are retired.
• An instrument which entitles the holder to redeem the bonds at a premium at the maturity date
PV of Principal + Premium @ PV of 1 Principal * (1+ Premium Rate % ) XX
Interest @ PV of Ordinary Annuity of 1 (Principal * Nominal Rate* PVOA 1) XX
Present Value of the Compound Instrument Total XX
Amount Payment Ratio
Discount (Discount Rate) Principal * Effective Rate AA/AB
Premium (Premium Rate) Principal * Premium Rate BB/AB
• Amortization is Prorated between Bond Premium & Discount respectively
• For Redeemable Preferred Shares, It follows the same procedure above, except that there is no need
to prorate the amortization since the Carrying Amount of Debt is equal to Redemption Price
• The Interest Payments on the Compound Instrument is based on the rate at the face of the
instrument. The discount rate and the premium rates are indicated distinctly in the indenture.
• Furthermore, the Effective Interest is also a different rate from the discount rate; it is interpolated
in account for both the discount and premium. (This must always be given for redeemable bonds).
Journal Entry to Recognize Amortization:
Interest Expense (PV * Effective Rate) XX
Discount on Bonds (Amortization * AA/AB) XX
Premium on Bond Redemption (Amortization *BB/AB) XX
Cash (Face of Bonds * Nominal Rate) XX
Convertible Bonds
Convertible Bonds are Bonds that allow the bondholder to exercise a conversion option, turning the bonds
into any other instrument. Usually, these become equities. Upon conversion, both the debt and the
conversion option are extinguished. Conversion of these bonds are considered Equity Financing.
• The Conversion premium is likewise expired proportionately with the bonds retired
• Exercising the Conversion Privilege will have Extinguished the Liability in exchange for Capital
Recognition Exercise Retirement
Cash Conversion Privilege Conversion Privilege
Discount on BP Bonds Payable Bonds Payable
Premium on BP Premium on BP Premium on BP
Bonds Payable Discount on BP Loss on Conversion
Conversion Privilege Ordinary Share Capital Discount on BP
Share Premium – Ordinary Gain on Conversion
No Gain or Loss on Conversion Cash (Retirement Price)

Transfer of Excess to Equity Transfer of Excess to Equity

Conversion Privilege Conversion Privilege
Share Premium - Ordinary Share Premium - Ordinary
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Acquisition Upon Exercise: Upon Retirement Date: ***The excess of FV of

FV of CFI XX BCP Exercised XX FV of Debt XX Equity over BCP Exercised
FV of Bonds (XX) FV of Equity (XX) CA of Debt (XX) at the date of
exercise/retirement is
Conv. Privilege XX Change in Equity XX Conversion Loss XX APIC
**BCP Transferred to Equity = Beg. Balance of BCP – BCP Extinguished
Induced Conversion
Induced Conversion involves any other Bond being converted into another security. These bonds hold no
conversion option, but are converted nonetheless with the consent of the bondholder and the issuer. As
such, the conversion gain or loss is not a result of equity financing, but of debt financing.
• Gain or Loss on Conversion is recognized, Debt Conversion Expense is Recognized
• Recognize Equity at Par and Excess at Share Premium
Old Term A New Term B
Face Amount 1,000,000.00 1,000,000.00
Divided by: Conv. Price 50.00 40.00
# of Shares issued on Conv. 20,000 25,000
Multiply by FV of Shares on Conv. Date 30.00 30.00
FV of Shares Converted 600,000.00 750,000.00
Loss on Conversion (B-A) 150,000.00
• If the problem is silent, the bonds are NOT convertible
• Since the Liability is Extinguished upon Conversion, Gain or loss on Settlement is also Recognized
computed as follows: Fair Value of Liability – Carrying Amount Bonds = Gain or Loss on Settlement
Debt Restructuring
Debt Forgiveness/Condonation – Extinguish the Liability, and recognize a Gain on Extinguishment for
the entire Liability plus Accrued Interest
Asset Swap/Dacion Equity Swap Debt Swap
CV of Asset – CV of Liability FV of Equity, initially – CV of Liability; FV of Liability – CV of Liability
**FV of Equity is underminable;
FV of Liability – CV of Liability
Modification of Terms
• The Yield Rate is ALWAYS the same
• The Nominal Rate can be changed
• Be mindful of the remaining term of the Liability for calculating PV
• FV of Liability – CV of Liability = Gain or Loss
• Check if the Gain is larger than 10% of the Total Debt (Gain / Total Debt)
o Larger than 10% = Extinguish the Liabilities, credit the Gain
o Less than 10% = Debit Discount on Note, Credit Gain on Debt Modification
• Treatment of Restructuring Fees
o When there is Substantial Gain or larger than 10% - Report directly to P/L
o Not Substantial Gain or 10% and below – Amortize the fees over the restructuring term using
Effective Interest Method
Substantive Tests for Liabilities
Audit Objectives
• To determine that AP represents amounts currently payable to trade creditors for purchases and
services at the end of the period
• AP are properly recorded, described, and classified with adequate disclosures
• Liabilities incurred are authorized
• Validity of Recorded liabilities
• Recognition and recording of significant liabilities
• Compliance with terms, restrictions, conditions, and other requirements of debt agreements
• Assets pledged or mortgaged and other guarantees related
• Accuracy of interest and other charges
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Audit Procedures
a. Obtain list of A/P from subsidiary ledger
• Check footing
• Reconcile with General Ledger Control
• Trace individual balances to subsidiary ledger
• Test accuracy of balances in subsidiary ledger
• Adjust non-trade accounts erroneously included in suppliers’ accounts
• Investigate and reclassify significant debit balances
b. Confirm accuracy of individual balances appearing in the subsidiary ledger by requesting
statements of accounts from suppliers, and:
• Reconcile statements of accounts with client records, investigate discrepancies
• No response? Perform extended procedures by reviewing payments after year-end,
checking supporting documents, discussing the account with the appropriate officer
c. Review correspondence with suppliers for possible adjustments
d. Test cut-off
• Examine Purchases recorded and suppliers’ deliveries made a week before and after the
end of the report date, ascertain if the purchases should have been recorded
• Investigate large amounts of purchases
e. Ascertain whether some payables are secured with asset pledges
f. Compare payments after the report date with year-end schedule of accounts payable
g. Review propriety of FS presentation and adequacy of disclosures
h. Perform analytical review procedures
i. Obtain AP Representation letter
j. Obtain schedules on non-current liabilities indicating
Description/Nature of liability Additions during the year
Creditors Repayments or renewals during the year
Original Principal Amount Balance at year-end
Interest Rate Accrued/prepaid interest, beginning
Collateral and or guarantees Interest Expense incurred during the year
Terms, restrictions, conditions, & requirements Payments
Beginning of the year balance Accrued or Prepaid Interest at year-end
k. Foot and cross foot the aforesaid schedule
l. Verify Accuracy of schedule
• Obtain copies of debt instruments and trace the data to the schedule
• Trace beginning balances to last year’s working papers, or in an initial audit, establish
accuracy by
i. Referencing debt instruments and prior year’s recordings
ii. Tracing to beginning ledger balances
iii. Performing independent calculation of interest based on identure
iv. Recompute interest incurred, accrued, and prepaid
• Trace proceeds to cash receipts
• Trace outlays to cash disbursements and cancelled checks
• Vouch to supporting documents the renewals in the current year
• Reconcile working paper ending balances with the general ledger accounts
m. Verify authorizations by referencing to the minutes of the meeting
n. Confirm directly with creditors or trustees
Principal, Interest Rate, Accrued Interest Collateral Guarantees
Determine client’s compliance with loan agreements
o. Account for the used and unused debt instruments like bond certificates and promissory notes
p. Ascertain proper cancellation of paid or retired debt instruments (Perforation is done)
q. Recompute discount or premium amortization
r. Reconcile interest payments with recorded liabilities
s. Verify Propriety of FS Presentation and Adequacy of Disclosure
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Lease Contracts–PFRS 16, PAS 17

Lease – a contract or part therein that conveys a right of use of assets for time period for consideration
Finance Lease – all substantial risks & rewards attached to the use & control of the asset is transferred
Operating Lease – Any conveyance of assets, or rights thereto that do not qualify as Finance Lease
• Inception Date – Perfection of the lease contract
• Commencement Date – The date where the lessee begins to exercise lease rights; is the date for Initial
recognition
PFRS 16, in contrast to PAS 17, remedies the lease accounting of the Lessee. The new standard generally
requires the lessee to report the lease contract always as a Finance Lease. PFRS 16 addresses the off-
balance sheet accounting that PAS 17 could not. It facilitates a proper reporting of the Lessee’s
participation on the lease contract by presenting the Right-of-use Asset and the Lease Liability on the
face of the financial statements even in the case of an operating lease, thereby presenting the impact
of the lease contract fairly.
Identifying a Lease (IFRS 16)
A Lease confers both the rights to obtain substantially all economic benefits from the use of the
identified assets and the right to direct the use of the identified asset
• A Lease does not confer these rights if any of the following rights are retained by the Lessor:
o The Lessor holds a substantive right to substitute the identified asset (This is tantamount to not
transferring any rights at all to the lessee.)
o The Lessor holds a practical ability to substitute the asset any time
o The Lessor has a compelling, economic reason to execute a substitution in the future
• Identified Assets – these are the assets specified for use in the lease contract. It may be identified
implicitly through the lease contract.
Finance Lease (IAS 17)
• Criteria: ANY OF THE FOLLOWING
o Transfer of Ownership (TO)
o Bargain Purchase Option (BPO)
▪ Lessee may purchase the leased asset at significantly lower than FV at the Exercise Date
and An Option to Exercise is available at Date of INCEPTION
o In case there is a Guaranteed Residual Value, the Lease is automatically deemed to have no
Bargain Purchase Option, and that the leased asset will certainly return to the lessor
o Lease Term consists of at least 75% of the leased asset’s useful life
o The PV of the minimum lease payments (MLP) >= 90% the FV of Leased Asset
• Other Criteria:
o Specialized Nature – So specific a purpose that only the lessee could use the asset
o If losses are Borne by the Lessee, and if the Lessee can cancel the lease (Control and Ownership of
Significant Risks and Rewards)
o Gains or Losses on FV Changes accrue to the lessee
o The lessee can continue the lease for a secondary period at a rent substantially lower than market
rates
o Leases can be extended and remeasured
Lessee Accounting
The lessee generally accounts for the Lease under the new lease standard. Regardless of the lease
classification, the Lessee is mandated to construe the Lease as a Direct Financing Lease only, unless
there is a reasonable basis to apply IAS 17 to the Lease (i.e., the Lease is an Operating Lease.) Effective
Interest and Depreciation reckons from the COMMENCEMENT DATE and not at the Inception date, even
if FV is based on the inception date.
Rules on Lease Payments
• Rentals, are all Guaranteed Payments by Lessee or any related party to lessee (RPTL)
• Residual Value may be Guaranteed TO THE LESSOR by Lessee, RPTL, Guarantor
PV of Periodic Rentals XX PV of Periodic Rentals XX
PV of Bargain Purchase Option XX PV of Guaranteed Residual Value XX
Total Lease Payments at PV XX Total Lease Payments at PV XX
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• Ignore Guaranteed RV(GRV) if TO/BPO are present since ownership will revert to Lessor after term
• Guaranteed RV – Amount payable at the end of the lease term from the lessee (i.e., the leased asset
will return to lessor or is paid for at the amount agreed-upon by both parties.)
• Unguaranteed RV – Amount payable to the guarantor (3rd party) who pays in place of lessee.
• If the Fair Value of the Leased Asset is less than the Guaranteed RV, the difference is charged to a
loss at the end of the Lease Term. This is because the Lessee is required to pay the Guaranteed
Residual Value at the end of the Lease Term, any deficiency is the Lessee’s obligation to the lessor.
• Use the Implicit Rate for Discounting (where MLP = RUA, interpolated using IRR)
• Use Incremental Borrowing Rate if there is no Implicit Rate (Given)
Lease Liability and Right of Use Asset
Initial Measurement of Lease Liability
All Lease Payments are discounted at implicit rate (or incremental borrowing rate if i% is not given).
PV of Fixed Lease Payments XX The BPO and GRV are always mutually-
PV of Variable Lease Payments XX exclusive. Determine if the Lessee is more
PV of Bargain Purchase Option (BPO) XX likely to exercise one over the other. A
PV of Guaranteed Residual Value (GRV) XX Transfer of Title at the end of term is a BPO
PV of Termination Penalty (Expected Value) XX Always compare the PV MLP and FV to
Total Lease Payments XX establish the Lease Liability. The Liability
Vs Fair Value of the Lease at the Inception Date XX at Fair Value will need to determine a new
Lower of PV MLP and FV XX implicit rate through interpolation.
• Lease Payments at Commencement Date are not included in measuring the Lease Liability.
• Executory Costs are not part of the Lease Liability nor Right of use Assets. These include Real Property
Taxes, Insurance, etc.
Subsequent Valuation of Lease Liability (Presented Separately or added with related accounts)
• Amortize using Effective Interest; Separate Current and Non-current Portions as they come due
Initial Measurement of Right of Use Asset
Lease Liability XX Initial Direct Costs are costs of obtaining a
Payments to Acquire Lease XX lease. The lease would not have been acquired
Lease payments at Commencement Date XX if these are not paid. These are finder’s fees,
Initial Direct Cost XX broker’s fees, commissions, and upfront fees.
Lease Incentives given by Lessor (at PV) (XX) Lease Incentives may come in the form of
Right of Use Asset XX reimbursements by the Lessor or free rents
Asset Retirement Obligation XX Payments to acquire the lease include the down
Total Cost of Right of Use XX payment, contract costs, bidding costs, and
Non-refundable deposits.
Annual Executory Costs and Refundable Deposits are not included in the Right of Use Asset, unless
these represent Lease Incentives that are paid by the Lessor, for instance, the Lessor offers to pay the
Real Property Taxes, Insurance, and other Charges related to the lease in order to induce the Lessee to
acquire the Lease.
Subsequent Valuation of Right of Use Asset –Depreciated according to PAS 16, presented in PPE
With TO/BPO Without TO/BPO
Use Leased Asset’s Life Shorter of Term and Life
UGRV = Estimated amount to be realized at END RV = Gross Amount of Guaranteed RV to be paid
OF USEFUL LIFE (Unguaranteed Residual Value) or returned to the Lessor
Lessee uses its own Residual Value to Depreciate If the GRV is secured by a 3rd party, do not include
the GRV for DEPEX computation.
Lease of Real Properties (Land and Building)
There is a Reliable Allocation Basis Allocate MLP
There is No Reliable Basis Account for as single item
The Land is Immaterial Singe Item and depreciated by Bldg. life
Using FV Model Single Item, no Dep Exp.
Cost Model Allocate MLP as if separate Leases.
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Lease Remeasurement and Modifications

A Lease is remeasured using either the Revised Discount Rate or the Original Discount Rate.
Use Revised Discount Rate Use Old Discount Rate
A Change in the Lease Term Change in the Expected Residual Value
Change in the Probability of exercising the A Change in Future Lease Payments resulting in
Bargain Purchase Option changes in the Index or Rate of Variable Lease
Payments.
Change in Scope of the Lease
All terms are later revised in this manner if those terms initially thought to be improbable become
probable. The Remeasurement is based on the notion that the lease has actually earned on the new
terms from the inception of the contract.
PV of Lease Payments of the Old term (Use the appropriate rate for Remaining Periods) XX
PV of Lease Payments of the New Term and Extended Terms (Use the New Rate at the New XX
Term)
Multiply by: PV of 1 for the Number of Periods Remaining in the Old Term (Rediscounting) X XX
Revised Lease Liability XX
Original Lease Liability (XX)
Increase in Liability (Also an increase in Right of Use Asset) XX
Variable Lease Payments
Variable Lease Payments are measured at their expected value. In that case, the above computation is
applied every year in order to determine the increases or decreases in the Lease Liability as well as the
Right of Use Asset.
Extension Option
This option is not usually expected to be availed at the inception of the lease. If the entity determines
that it is likely or probable to exercise this option in the future at inception date, it is included in the
Initial Measurement of Lease Liability. Otherwise, it qualifies as a lease remeasurement.
Lease Pre-termination Clause or Pre-termination Penalty
The Pre-termination clause is assessed at the inception of the lease whether it will be likely to be
exercised. It is usually exercised at the expense of incurring a penalty to the Lessor. If it had not been
included in the initial Lease Liability, a Lease Remeasurement will be done.
Lease Modifications
All Lease Modifications, agreed to by the lessor and the lessee, are accounted separately as different
leases, hence the original lease persists along with the new lease, which applies to the remaining term
and the incremental or decremental payments. These include changes in the Scope of the Lease such as:
Change in Lessee/Lessor (Remeasurement only), or Changes in Identified Assets
Change in
Change in Scope
Consideration
Remeasure LL Extend Add Assets Remove Shorten Lease
and ROUA Term Assets Term
Remeasure LL and ROUA At Stand Alone Not at Stand Alone Price Reduce ROUA and LL
Price proportionately to change in
scope by Recognizing the
reduction in P/L
New Asset – Allocate Modified Remeasure the Lease
Separate Lease Consideration to Old Liability and ROUA to the
and New Asset Modified Carrying Amount.
Existing Asset – No New Asset – New Lease
Remeasurement Old Asset – Remeasured
Changes in Estimate for Right of Use Asset
The changes in the Lease term may affect the depreciation assumptions for the Right of Use Asset. In
such a case, the above guide should be followed. In some cases, the above guide may not be needed such
as through changes in depreciation methods, or transitions from Cost to Revaluation Model if applicable.
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Lessor Accounting
The Lessor’s Accounting depends on the treatment of the Initial Direct Cost & Transfer of Title.
Direct Financing Sales-type
Feature No Dealer’s/Manufacturers Profit (PV of MLP = Cost of Involves Dealer’s Profit.
Leased Asset); Lessor is a bank/financing institution. Lessor is a dealer.
Initial Direct Cost Included in initial measurement of Net Lease Expensed outright
Paid by Lessor Receivable (Capitalized to Cost of Leased Asset)
Effect of IDC Interpolate an Implicit Interest Rate No Effect
Income Stream Interest Income Only Interest and Profit
Sales-type Lease Direct Finance Lease Remarks
Total Lease Payments XX Total Lease Payments For Sales-type, GRV is included in Sales,
Guaranteed Residual Value** XX G or U Residual Value while the URV is a deduction in COGS.
Gross Receivable XX Gross Investment Thus, the GRV is included in the MLP,
while the URV is excluded in MLP.
PV of Gross Receivable XX Cost of Leased Asset The Residual Value, Guaranteed or not,
PV Unguaranteed RV or BPO XX Initial Direct Cost is a sufficient indication that the Asset
Net Receivable XX Net Investment always reverts back to the Lessor.
If the Lessee Buys the asset, then the
Gross Investment XX Gross Investment BPO is realized at either a discount or
Net Investment (XX) Net Investment premium. If the asset reverts back, at
Unearned Interest XX Unearned Interest any price, then the RV is realized either
*The Initial Direct Cost may be reported as either Cost of at a discount or premium since there
Sales/Expense for Sales-type Lease, and is only reported as was a flow of economic benefits.
part of Cost of Leased Asset for Direct Finance Lease. The guarantee of the Residual Value
Sales (PV MLP + PV GRV or XX Consideration Received does not affect the Unearned Interest
FV; lower) Income. Ignore the RV if a transfer of
COGS (Cost – PV URV) + IDC (XX) Cost of Leased Asset title is expected to occur (Sales-type).
Gross Profit XX Gain on Finance Lease
**Guaranteed – Recovered from Customer (Sold); Unguaranteed – Recovered from 3rd person (Not Sold)
Actual Purchase-Sale of Leased Asset under Finance Lease
Carrying Amount of Leased Asset XX Consideration Received XX
Consideration Paid XX Balance of Lease Receivable (XX)
Lease Liability (XX) Balance of Unearned Interest (XX)
Cost of Leased Asset – Lessee’s Books XX Gain/Loss on Sale of Leased Asset (Lessor) XX
Operating Lease (PAS 17)
The lessee may opt to report using an operating lease model only if the lease is a low-value lease or if
the lease is a short-term lease (12 months); a low-value lease is determined through subjectively.
Payments by Lessee Lessee Books Lessor Books
Even Rent Paid Rent Expense Rent Income
Uneven Rent Paid Total Payments over the Lease term Total Collections over the Lease term
Unearned Rent amortized over lease
Lease Bonuses paid
term if Lease Bonus
by Lessee, Non- Prepaid Rent/Leasehold Rights over
Unearned Rent amortized along with
refundable Deposits, Lease term
Unequal Rents if payment is Advanced
Advanced Rent
or is a Non-Refundable Deposit
Contingent Rent
Rent Expense immediately recorded Rent Income immediately recorded
(Rent based on Sales)
A Non-current Liability, discounted
If the Lessor is unable to demonstrate
Refundable Deposit A Non-current Asset, time valued the substance of the Lease, all
payments made are considered
refundable deposits
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Other Costs Incurred Lessee Lessor

Initial Direct Costs (If
If paid by lessee, If paid by Lessor, Capitalized and expensed over
one party pays, the
Expense lease term
other has no entry)
Property Taxes, Expensed Expenses paid by the lessee is income to lessor.
Insurance, Maintenance If Lessor Pays, no Payments to 3rd parties
(Executory Costs) entry Are expensed if the lessor pays expenses outright
Other Entries Lessee Lessor
Leased Assets Not Recognized Maintained in the Books and depreciated as usual
Capitalized,
Leasehold depreciated over
Not Recognized
Improvements shorter of life and
lease term, no RV.
Sales and Leaseback
• A party sells property to another, the other party leases out its purchased property back to the seller
of the property; Seller-Lessee; Buyer-Lessor; the transaction qualifies with both IFRS 15, 16.
• This is done mainly to enjoy a quick injection of cash to be used for other purposes, while at the
same time, reacquiring the asset for essential functions thru a leaseback (For specialized equipment
needed for special manufacturing, construction contract engagements, etc.)
Leaseback as a Direct Financing Lease
• Deferred Gain is Amortized; Loss is Expensed outright
Selling Price or Proceeds (SP = FV) XX SP = FV No Interest SP < Cost =
Carrying Amount of Leased Asset (XX) SP > FV Additional Financing Deferred
Total Gain (Loss on Leaseback) XX SP < FV Prepaid Lease Loss
Realized Gain (Profit or Loss)
The Amount Capitalized to
SP = FV CA of ROUA * (LL/FV of Asset) the Asset =
SP > FV CA of ROUA *(LL – excess of SP over FV)/FV of Asset Total Gain less Realized Gain
SP < FV CA of ROUA *(LL+ excess of FV over SP)/ FV of Asset
Leaseback as an Operating Lease
SP = FV < CV Outright Loss
SP = FV > CV Outright Gain
SP > FV AND (Additional Financing in the Lease) Excess of SP over FV = Deferred Gain on Leaseback
FV > CV Excess of FV over CV = Gain on Sale on Leaseback
SP < FV AND (Prepaid Lease) Excess of SP over FV = Ignored
FV > CV Excess of FV over CV = Gain on Sale on Leaseback
Sublease
The Lessee/Sublessor derecognizes the Right of Use of Asset but recognizes Lease Receivable
• A Sublessee takes on the final role of leasing property, recognizing the Right of Use Asset and Lease
Liability; In this case, the Interceding Lessee recognizes a Deferred gain on Subleasing.
• The Sublessee shall account for the lease as does any other Lessee.
• This does not mean, however, that the Original Lessee derecognizes the Lease Liability. Both Lessees
shall recognize Interest Expense on the Lease Liability outstanding.
Lease Receivable XX
Right of Use Asset, end (XX)
Deferred Gain on Sublease XX
Sub-lease term XX
Amortization Expense on Sublease XX
• The Depreciation Expense is converted to an amortization expense; this increases taxes, but also
increases overall profit. It is a form of financing arrangement to increase cashflow.
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Deferred Tax Assets & Liabilities–PAS 12

• PAS 12 provides guidelines on how to account for differences in Taxable Income and Accounting
Income, as well as other tax benefits/obligations
• Taxable Income and Accounting Income are different in the manner that they refer to different rules
applied (Tax = NIRC; Accounting = PFRS)
PFRS NIRC
Revenues XX Taxable Revenues XX
Expenses (XX) Deductions (XX)
Net Income (NI) XX Taxable Income (TI) XX
Presentation
• DTA – All Deductible Temporary Differences and NOLCO (Loss* Tax Rate) if it is PROBABLE that these
will be used in the future
• DTL – All Taxable Temporary Differences Except:
o Goodwill
o Initial Recognition of Assets or Liabilities that do not affect both TI or NI
o Undistributed Earnings on Subsidiaries, Joint Ventures, and Associates where the entity has
control over the timing of the reversal of the DTL. (Silent = no control)
• Permanent/Nontaxable Differences
Nontaxable Revenue Nondeductible Expenses
Interest Income subject to Final Tax Fines, Penalties, and Surcharges
Interest Income on Savings Deposits Premiums paid on Life Insurance for Officers and
EEs
Interest Income on Government Bonds, Bills Loss on Expropriation of Property
Gains subject to CGT Impairment of Goodwill
Intercompany Dividends from Domestic Charitable Contributions in excess of Tax
Corporations Liabilities
Proceeds from Life Insurance where Entity is
beneficiary (Premiums and CSV)
• Items subject to final tax are considered permanent differences. In other words, only those items
presented in the income tax return are considered differences (temporary or permanent)
• Temporary Difference = 𝐶𝑎𝑟𝑟𝑦𝑖𝑛𝑔 𝐴𝑚𝑜𝑢𝑛𝑡 (𝑪𝑨) 𝑉𝑆 𝑇𝑎𝑥 𝐵𝑎𝑠𝑒 𝑜𝑓 𝐴𝑠𝑠𝑒𝑡/𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑦 (𝑻𝑩)
FTA (Liability) FDA (Asset)
Taxable Temporary Diff. (TTD) or Future Taxable Deductible Temporary Diff. (DTD) or Future
Amount (FTA) Deductible Amount (FDA)
Deferred Tax Liability (DTL or DTE) = FTA * Income Deferred Tax Assets
Tax Rate (DTA or DTB) = FDA * Income Tax Rate
Accrued Expenses Accrued Revenues
Deferred Revenue Prepayments
NI>TI I/S Method NI<TI
CA of Asset >TB B/S Method CA of Asset <TB
CA of Liability < TB B/S Method CA of Liability > TB
• The Tax Base
For any Asset, the Tax Base is any Future Deductible Amount
• The Future Deductible amount for a Depreciable or Amortizable Asset is the Tax basis Dep’n/Amort’n
• The Future Deductible amount for Cash Basis Tax transactions is always zero
• The Future Deductible amount for transactions with no tax consequence is the Carrying Amount
These are the cases because the Tax Base vs the Carrying Amount will be multiplied by the Tax rate to
get the Deferred Tax Liability or Deferred Tax Asset
For Any Liability, the Tax Base is the Carrying Amount less Future Taxable Amount
N.B. Apparently, the Tax Base for any account is whatever is recognized in taxation; i.e., those set
by the BIR, and any payments or receipts. The Tax Base of Assets is the Amount Deductible in the
Future, while the Tax Base of Liabilities is the amount deductible currently.
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Income Statement Liability Method

Accounting Income XX X% Current Tax Rate
Nondeductible Expenses XX Y% Future Tax Rate
Nontaxable Revenues (XX)
Accounting Income Subject to Tax XX X% TITE
Increase (Decrease) FDA XX Y% DTE/DTL
(Increase) Decrease FTA (XX) Y% DTB/DTA
Taxable/Returnable Income XX X% CTE(CTA)
Current Tax Expense (CTE)=/=Total Income Tax Expense (TITE)
• The Increase or Decrease in FDA and FTA or TTD and DTD is subject to the Expected Future Tax Rate
• If the Expected Future Tax Rates are the same as the current tax rate (that applied to Taxable Income),
the Income Tax Expense is simply the Profit Before Tax times the tax rate
• Current Tax Liability = Current Tax Expense – Prior Tax Payments – Tax Credits
• Current Tax Asset = Overpayments or Tax Credit Balance
Balance Sheet Method
Carrying Amount of Asset XX Carrying Amount of Liability XX
Tax Base (XX) Tax Base (XX)
FTA Increase (Decrease) XX FDA Increase/(Decrease) XX
Multiply by: Future Tax Rate X% Multiply by: Future Tax Rate X%
Deferred Tax Liability (Asset) XX Deferred Tax Asset (Liability) XX
Current Tax Expense (Taxable Income * Current Tax Rate) XX
Net Deferred Tax Expense (Benefit) (DTA or DTL end. – DTA or DTL, beg.) XX
Total Income Tax Expense XX
Summary of Other Tax Transactions and Other Issues
Deferred Tax Liabilities Deferred Tax Assets
CA of Investments in Subsidiary, Associate, Joint Depreciation for Accounting is different for
Venture greater than Tax Base because income is Depreciation for Taxation
not entirely distributed
Cost of Business Combination not taxed Bad Debt Expense under allowance method
Contracts under Percentage of Completion Losses and Tax Credits Carryforwards (NOLCO and
Input VAT Carryover, Tax Credit Certificates)
Investments under Equity Method for Accounting, Retirement Benefit Costs are deductible in
Cost method for Taxation accounting but not in tax
Gain on conversion of nonmonetary Asset Research Costs expensed in profit but not
recognized in Accounting, deferred for Tax immediately taxed in taxation
Unrealized Gains or (Losses are DTAs) Expenses deductible after recognition
Residual Equity in Compound Financial Contingent Liabilities/Contra-assets
Instruments
Revaluation Surplus (DTA for Reval. Down) Stock Based Compensation Expense
• Inter-period Allocation – Recognition of DTA/DTL
• Intra-period Allocation – Allocation of ITE to Various Income Items in I/S, basically, report the Tax
Expense wherever the tax expense is derived
o CTE, DTE or DTB – presented in P/L, OCI, or Equity
o DTA and DTL are Never offset in the face of the FS, and are always non-current regardless of
the report date; these are only netted for computation of the Total Income Tax Expense
o CTL and CTA are always current
• If an item has a portion that is exempt, do not apply the tax rate to that portion
• Deferred Tax Liability on Revaluation Surplus – since there is a piecemeal realization of Revaluation,
the DTL will likewise be reduced proportionately; CTE = TITE + Amortization of DTL
• Valuation Allowance for Deferred Tax Assets – the DTA must be reviewed for likelihood of being
exercised. The amount not realized is debited to Income Tax Expense. The Valuation Allowance is a
contra-asset account.
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Employee Benefits–PAS 19R

Employee Benefits – Considerations in all forms given by an entity in exchange for services rendered or
for the end of employment
Short-term Employee Benefits
• Wages, Salaries, Social Security Contributions
• Compensated Absences
• Profit Sharing and Bonuses
• Non-monetary Benefits (De Minimis)
• Insurances
• Vales
• Record as either an Asset (Prepaid Expense) if it will lead to a reduction in future payments/refunds
• or Liability (Accrued Expense) after deducting payments or
• Actual Expense, unless the benefit is actual inventories or PPE
• Paid Absences, Leaves, and Vacations
o Accumulating – carries forward; a Provision
▪ Vesting – Cash paid for unused entitlement (Vacations)
▪ Non-vesting – Cash is not monetized
o or Non-accumulating – for one period only (Sick Leaves, Maternity Leaves), Obligation only arises
upon absence of employee
Accumulating Vesting Cancelled entirely with
- Record a Provision allowed for each EE Cash
- Record Salaries Expense Non-Vesting AJE with remaining
balance of unused
(Salaries Payable) leaves. Not monetized
means not repaid to
employees after
resigning.
Non-Accumulating (automatically, non-vesting) Salaries Expense; Payable
Vesting – The grant of a right upon the happening of a condition. In the context of employee benefits,
the right pertained to is the right to have unused leaves during the employ be monetized. If a benefit is
non-vesting, it means that the ceasing of employment will curtail the employee their right to monetize
the leave.
Year 1 Year 2 ***Companies usually have an
estimated limit as to the number of
Number of Employees 50 50
EEs who will take Leaves and how
Multiply by Number of Leaves for each employee 15 15 much is annually taken. These will
Total 750 750 determine the estimated liability to
be accrued.
Leaves taken during the year (400) (130) Cash Expense
Leaves not taken during the year 350 620 Current Accrued Expense
Leaves taken in the year from last year - (350) Carry-over Accrual (Payment)
Unused Leaves 350 270 Salaries Payable, end
Salary Rate for the Year 900 990
Also assume that only 25% of the employees are expected to resign or retire from the company.
If the Leaves are Accumulating and Vesting 2019 2020
Vacation Pay Expense (400*900) + (350*990); (130*990) + (620*990) 706,500 742,500
Accrued Vacation Pay Expense (350*990); (620*990) 346,500 613,800
If the Leaves are Accumulating and Non-vesting (apply 75%) 2019 2020
Vacation Pay Expense (400*900) + (350*990*75%); (130*990) + (620*990*75%) 619,875 675,675
Accrued Vacation Pay Expense (350*990*75%); (620*990*75%) 259,875 460,350
If the Leaves are Non-accumulating 2019 2020
Vacation Pay Expense (400*900); ((130+350) *990) 360,000 475,200
Accrued Vacation Pay Expense -0-; -0- 0 0
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Post-Employment Benefits
Payable after Employment Retirements and Pensions Others (Insurance/Medicare)
Defined Contribution Plan Defined Benefit Plan
Entity is OBLIGATED to Contribute to a Fund with Entity is OBLIGATED to provide the EE with a
the EE specifically defined Post-employment benefit
Contribution or the Annual payments are fixed Benefits or the End-of-contract Obligation is Fixed
Benefits are Variable, charged either in Accrued Contributions are Variable based on actuarial
Pension or Prepaid Pension Expense assumptions
EE absorbs Actuarial Risk ER absorbs Actuarial Risk
Accounted for Like Short-term Employee Benefits Requires an Actuary’s services for valuation of
and is straightforward Plan Asset and Obligation
• For a Defined Contribution Plan, any contribution made is a cash outlay. This cash outlay will cover
both Accrued Balances of a previous period up to a Prepaid Balance to the next
Defined Benefit Plan
• Determine Deficit or Surplus
o Gather Actuary’s data (Projection of Benefit)
o Discount the Benefit (PV of Projections)
o Deduct FV of Plan Asset from PV of Defined Benefit Obligation to get Deficit/Surplus
• Determine Net Defined Benefit Liability (Asset)
o Deficit/Surplus adjusted for Asset Ceiling
• Determine Amounts to be recorded in P/L
o Current Service Cost
o Past Service Costs, Gain or Loss on Settlement
o Net Interest on the Defined Benefit Liability
• Determine Remeasurements of Net Defined Benefit Liability (Asset) to be recognized in OCI
o Actuarial Gains/Losses
o Return on Plan Assets – excluding amounts in net interest on Net Defined Liability
o Any Change in the effect of the Asset Ceiling, excluding amounts included in net interest on the
net defined liability
Item Description Remarks
The Present Value of the Benefit Determine the Salary Basis
PV of Defined Benefit
Obligation by some future amount Determine which Amount
Obligation (PBO)
Increased by Current Service Cost, belongs to CSC and Interest
Past Service Cost AND Interest
from the Balance of PBO
Any Invested fund by the Employer Compute for the Return on Plan
Fair Value of Plan Assets that gains value and is set-up in Assets (Interest, Dividends) it is
(FVPA) order to pay the PBO in the Future A separate entity
Earns Interest/Dividend Income
The Difference of the PBO & FVPA As a Liability, no Accounting
FVPA may be limited by Asset Issue
Net Benefit Liability (Asset
Ceiling As an Asset, record at Lower of
or Surplus)
Asset Ceiling is the limit to which Asset Ceiling and Surplus
(NBA/NBL)
a fund is refundable to the
Employee
PV of Refunds to the Company/ If the Surplus is Higher than the
Reductions in Future Contributions Asset Ceiling, then the Interest
Asset Ceiling (AC)
(Both Beginning & Ending Expense is reported in P/L
Balances)
Net Benefit Liability * i% or It is strictly based on either High
Net Interest on Net Benefit Net Benefit Asset * i% Performing Bonds, or
Liability FVPA, beg * i% = Income Government Bonds (In that
DBO, beg *i% = Expense order of priority)
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Current Service Cost (CSC) ***see determination of CSC. Determines the Salary Basis
All the Service Costs that were Treat as an Outright Expense
supposed to be incurred before a
Benefit Plan is made (Since the Caused by Amendments to the
Past Service Cost (PSC)
employee could have had the plan and or Significant
pension plan before the plan is reduction in employees
established)
A Pay now instead of Pay later + Settlement Price
arrangement since Pension Plans + FVPA
Settlement Gains or Losses are generally expensive + Payments to PBO
- PBO
= G/L on Settlement
Caused by Changes in estimates on Actual Return vs Estimated
Actuarial/Remeasurement
the Projected Benefit Obligation Return (FVPA & DBO)
Gains or Losses
’s in i%, ’s in Asset Ceiling
Determination of the Current Service Cost
Any indication for annual increase in annual salary bears on the final salary; as such, the final salary is
composed of the Future Value of the Annual Increase in Salary (increasing only at the end of the year.)
Any portion thereof designated to be the contribution is discounted at the Present Value of each
Retirement Benefit, discounted and amortized accordingly. This is done because each Discounted
payment will yield an interest cost that increases the Defined Benefit Obligation.
If a problem reveals the life expectancy of an employee, the service cost involves an annuity.
Annual Benefit (X%* Current Year’s Salary * FV of 1 for remaining service period * Service years) XX

Annual PV Factor – Lump PV of Contribution Interest Expense DBO (C+D+ Last yr.
Contribution (A) Sum (B) (A*B =C) (DBO*i%=D) Balance)
XX 0.X3 XX 0 XX
XX 0.X2 XX XX XX
XX 0.X1 XX XX XX
XX 1 XX XX XX = A*n periods
DBO = CSC
Actual Return less Interest Income FVPA = Remeasurement Gain (Loss)
P/L OCI FVPA DBO
Beg. Bal - - X X PV of Settlement XX
Obligation
Current Service Cost (X) - - X Settlement Price (XX)
Past Service Cost (X) - - X Gain (Loss) on Settlement XX
Contributions - - X -
Net Interest Income (Expense) X X X
Settlements or Payments - - (X) (X) Total Debits in P/L XX
Settlements in Advance X(X) - (X) (X) Total Debits in OCI XX
Remeasurement Gain FVPA - X X - Defined Benefit Cost XX
Remeasurement Loss FVPA - (X) (X) -
Remeasurement Gain DBO - X - (X) Total Contributions XX
Remeasurement Loss DBO - (X) - X Defined Benefit Cost (XX)
Remeasurement Gain EAC - X - - Over (Under) Funding XX
Interest Income Reversal due to (X) - - - FVPA > DBO = Prepaid Pension;
EAC FVPA < DBO = Accrued Pension
Total or Ending Balance X X XX XX
• Settled Liability may or may not equal the Plan Asset that is funded (Balance of Obligation =/= FVPA)
• Offsetting – T-accounts are not actually not maintained by the entity, rather maintained by the
trustee or estate administrator, hence allowed in entity’s books and FS.
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• Projected Credit Unit Method – a.k.a. accrued benefit method is pro-rated on services method, or
as the benefit/years of service method, sees each period of service as giving rise to an additional
unit of benefit entitlement and measures each unit separately to build up the final obligation.
o The benefits are attributed to periods of services, and is measured on a discounted basis
• Memorandum Records – the entity prepares these memoranda per standard: Fair Value Plan Assets,
Reimbursement Rights from 3rd party, Projected Benefit Obligation, Accumulated Benefit Obligation
or actuarial present value of all benefits (based on last month’s salary), Actuarial Gains/Losses
• These are the only accounting entries in the books of the entity:
Net Defined Benefit Net Defined Benefit
Accrued Pension (IF DBO > FVPA) Prepaid Pension
To recognize Accrued Pension To adjust the FVPA down to the ceiling.
Net Defined Benefit
Actuarial Gains
Pension Expense
Remeasurement Gains or Losses
Cash
(FVPA&EAC)
To record contributions
Interest Income
To record P/L OCI items in the books
Case 1 – Defined Benefit Obligation
• Compute for Net Defined Benefit Obligation
PV of Defined Benefit Obligation XX • Charge Interest Expense from DBO
Fair Value of Plan Asset (XX) • Accrue Interest Income from FVPA
Net Defined Benefit Obligation (Asset) XX • Apply same discount rate to DBO & FVPA – PAS19R
Case 2 – Defined Benefit Asset
• Take the lower of the Net Defined Benefit Asset and the Asset Ceiling
• Asset Ceiling may be given by the problem as the PV of refunds/economic benefits available
• Net Benefit Asset = Lower of the Asset Ceiling or Net Defined Benefit Asset
o The Net Interest is an Income, but Interest Expense on EAC is recognized, based on EAC, beg.
o The below scenario only happens if the EAC is breached at the beginning and end of the period
Effect of Asset Ceiling, Beginning (Surplus-Asset Ceiling, beg.) XX
Effect of Asset Ceiling, Ending (Surplus-Asset Ceiling, end) (XX)
Decrease (Increase or Write-off of Actuarial Gains - OCI) in Asset Ceiling XX
Interest Income Reversal – P/L, EAC Beg XX
Remeasurement Loss (Reversal) from EAC XX
**The reason why it is called merely as an “effect” is because the actuarial adjustments as well as the
associated interest income are not real in the sense that these are only estimates. Bringing the Plan
Assets down to the ceiling requires this adjustment in order to conservatively reflect the estimated
value of the Pension Fund.
Service Costs (P/L) XX Current Service Costs XX Interest Expense (PBO) XX
Net Interest (P/L) XX Past Service Costs XX Interest Income (FVPA) (XX)
Remeasurements/Actuarial Net Loss or (Gain) on
Gains/Losses (OCI) Advanced Settlement Interest Income Reversal –
XX of Obligation XX Effect of Asset Ceiling XX
Defined Benefit Cost XX Service Cost, P/L XX Net Interest, P/L XX
Upon changes in EAC Assumptions, even the T-Account Balances will have an effect on which amounts to
use on the next period. The Net DBO may be a liability on one year, and an asset in another
Remeasurements of FVPA (Actual Returns – Interest Income) XX(XX)
Remeasurements of PVDBO XX(XX)
Decrease (Increase) in Asset Ceiling XX(XX)
Net Remeasurement Gain/Loss, OCI XX(XX)
On the Asset Ceiling
The asset ceiling is set-up to maintain conservatism in accounting. The amounts of investment maintained
in the Plan Assets are not all actual amounts, hence the allocation of remeasurement gains or losses from
the actual interest income; and as these are estimates, they are better of being reported in the most
realistic estimation conceivable. Thus, the asset ceiling is also called the Present value of all possible
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future refunds, benefits, and possible remeasurements. Thus, the Effect of the Asset Ceiling also
becomes by default, the Prepaid Pension Cost.
Changes in Asset Ceiling Assumptions = PBO, Beg. – FVPA, Beg. = Effect of Asset Ceiling Beg.
This implies that the FVPA had not exceeded the asset ceiling or that there had been no prior asset
ceiling at all. It also means that if there is no given asset ceiling, beginning, but an ending asset
ceiling is given, the net remeasurement will always involve the net surplus balances as basis changes.
(Recycled in Equity).
Asset Ceiling Beg. – Asset Ceiling End – Interest Income Reversal, Beg. = Dec. (Inc) in Asset Ceiling
Other Long-term Benefits
• Long-term paid absences, jubilees, long-term disabilities, profit sharing, deferred remunerations
• Accounted for like Post-employment Benefits, only that NO OCI Items are recognized. All items are
reported in Profit or Loss.
Termination Benefits
These are benefits provided and recognized at the earlier of either the:
• Recognized at the earlier of:
o Date where entity can no longer withdraw the benefit/offer the benefit; i.e., employee decides to
accept termination offer by management
o Date where the entity recognizes restructuring costs of payment of termination benefits
• These include:
o Enhancements of Post-employment benefits, salaries unworked, etc.
o They must not be conditional on future services rendered, and takes the shorter period
o Accounted for like post-employment benefits, but differ in discounting
▪ Settled in whole before 12-months is not discounted
▪ Settled in whole beyond 12 months is discounted
• Pending a closure, the Termination Benefits shall include the salaries assured to employees who decide
to discontinue employment before full closure of the entity
• Any special duties done to effect the closure however, are not termination benefits, rather these are
Short-term Employee Benefits such as clearing-up bonuses and differentials.
Other Funds
Multi-employer Funds
o Post-employment funds that are pooled assets of various entities not under common control
o Provides benefits to EEs of more than one entity
o Accounted for like a Defined Benefit Plan, taking a Proportionate Share Basis, unless no sufficient
information is available, then it is accounted for as a Defined Contribution Plan
State Plans
o A Multi-employer fund that is sponsored by the State w/Private Entities
o May be accounted for as a Defined Benefit Plan, but the State is usually the Obligor, hence the
Entities are only required to pay contributions, and not benefits in plans like a Defined Contribution
Presentation and Disclosures
• Short-term Employee Benefits are reported as part of Salaries Payable
• Long-term Employee Benefits:
o Defined Contributions are reported as Pension Liabilities, Non-current charged to Expense
o No prescription by standard to distinguish between current and non-current portions
o Defined Benefit Obligations (Assets) may switch from Asset or Liability in between periods
o Entity may offset Different Plan Assets with Different Plan Obligations if:
▪ Legal right to use a surplus to settle the others’ obligation exists
▪ Intends to settle on a net basis
• The Standard does not encompass Employee Benefits under PAS 2, Share-based Compensation
• Consider PAS 24 Related Party Disclosure, and PAS 26 Reporting by Retirement Benefit Plans, since
Pension Funds are separate from the entity/is an entity itself
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Shareholders’ Equity–PAS 1, PAS 32

Share Capital Retained Earnings
Ordinary Share Capital XX Retained Earnings, Appropriated XX
Preferred Share Capital XX Retained Earnings, Unappropriated XX
Subscribed Share Capital XX Retained Earnings, OCI XX
Subscriptions Receivable (XX) Stock Dividends Payable (XX)
Share Capital XX Total Retained Earnings XX
Additional Paid-in Capital Reserves
Share Premium – OSC XX Additional Paid-in Capital XX
Share Premium – PSC XX Retained Earnings XX
Share Premium – Treasury XX Total Reserves or Excess over Par XX
Other (OSWO, OSOO, Donated Capital) XX Total SHE
Discount on Share Capital (XX) Share Capital XX
Additional Paid-in Capital XX Additional Paid-in Capital XX
Total Paid-in or Contributed Capital Total Retained Earnings (Deficits) XX
Share Capital XX Treasury Shares (XX)
Add’l Paid-in Cap’l XX Capital Liquidated (XX)
Paid-in or Contributed Capital XX Shareholders’ Equity (Capital Deficit) XX
Trust Fund Doctrine
Shareholders’ Equity has no specific standard, but has significant regulation from the Revised Corporation
Code and the Securities Regulation Code. Most notable is the Trust Fund Doctrine, essentially holding the
corporation as merely, the trustee for the investment of the equity holders. In so doing, the Trust Fund
Doctrine is apparently not established for the benefit of equity, but rather for the protection of debt
investors and creditors. It ensures that the creditors acquire their returns first before equity holders;
following the constitutional provision on the non-impairment of obligations and contracts despite
the corporation’s limited liability which is consistent with equity being a residual interest; for Example:
• Prohibition of issuing a Return of Capital during a going-concern (Returning capital during a going
concern would slowly whittle down claimable assets that debt investors should have claim over)
• The Notion of Legal Capital (The portion that is prohibited from being returned to investors)
Share Capital (Total Paid-in Capital if no par) XX
Subscriptions Receivable*** XX
Stock Dividends Payable XX
Legal Capital XX
o Legal Capital adds-back the subscriptions receivable because even subscribed shares are
prohibited from being returned during a going-concern; furthermore, the law considers even
the stock dividends payable to be legal capital since it forms part of the full extent of
represented equity rights; shareholders and subscribers who hold or are entitled to stock
dividends are still actually holding shares. Note that subscribed shares hold the same rights as
issued & outstanding stocks.
• The Preference toward creditors in a quitting-concern
• Interest Expense being deducted in Profit or Loss, and Dividends only being drawn against Retained
Earnings, (Earnings are net of Interest, Depreciation, and Taxes when closed to Retained Earnings)
• The Mandatory Requirement to appropriate Retained Earnings to the extent of Reaquired Shares
(Treasury Shares); A corporation may only reacquire shares if it has enough retained earnings to cover
the cost of reacquiring its own shares; in this manner, creditors may still hold claim over their share
of assets without any threat of deficit due to reacquisition of the treasury shares. As these are still
issued, but no longer outstanding, these can be charged against is R/E only.
• Stock Issue Costs are charged against Equity, not expensed (the share issuance does not claim P/L)
• An Exception to this rule is the Wasting Asset Corporation, whose going-concern is contingent on the
existence and availability of non-renewable resources. As such, wasting asset corporations may issue
liquidating dividends on their going-concern; subject however to the extent of liquidated capital,
accumulated depletion, & presently extracted goods (Depletion in Ending Inventory).
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Notes on Shareholders’ Equity

Share Capital
• Record at either par or stated value & Excess of FV over Par is credited to the respective Share
Premium
• Memorandum Method VS Journal Entry Method
o Any entry involving Share Capital will be replaced by Unissued Share Capital in Journal Entry
Method
o The Authorization of Shares requires only a Memorandum on Memo Method, while a Debit of
Unissued Share Capital and Credit to Authorized Capital is done in the Journal Entry Method
o Authorized Capital + Net Unissued Capital = Issued Capital in Memo Method
• Organization Costs are expensed outright
• Share Issue Costs are drawn against share premium first and then retained earnings (per transaction)
• Watered Shares = Discount on Share Capital (When shares are accepted for less than par, they are
still recorded at par, however, the difference is charged to share premium)
• Secret Revaluation Reserves = Understated Net Assets
Issuance of Share Capital
• Recognize Capital at Par or Stated Value and attribute the excess to Share Premium
• Non-cash Assets Received for Issuance (Order of priority Left to Right)
FV Asset Received FV Shares Issued Par Value of Shares Issued
• Issuance of Capital for Extinguishment of Liability (Order of priority Left to Right) (IFRIC 19)
FV Share Issued FV of Liability Carrying Value of Liability
• Modes of Issuance of Shares
o Separately Identifiable Shares – issue separately
o Basket Acquisition
▪ Pro-rate the Consideration according to the FV of each class of share
▪ If only one class has available fair value, then simply deduct the FV of that class from the
total proceeds to acquire the FV of the other class
▪ If no FV is given, prorate the proceeds according to PAR
Stock Issue Costs To P/L To Equity
Listing Costs XX -
Road Shows and Public Relations Costs (Consultation and XX -
Implementation)
Audit and other Professional Advice XX XX
Financing Opinion XX XX
Tax Opinion XX XX
Due Diligence Costs XX XX
Fairness Opinion XX XX
Valuation Report XX XX
Prospectus Design and Printing Stock Certificates XX XX
Pre-incorporation Costs XX -
Documentary Stamp Taxes XX XX
IPO Tax if any (Initial Offering to Equity, Secondary Offering to P/L) XX XX
Underwriting Fees XX XX
Cost of Registering with the SEC XX XX
Cost of Registering with the PSE XX -
All of these costs are generally paid outright. These cannot be deferred. Allocate based on par.
There are costs that are incurred upon both Profit or Loss or APIC or R/E. These will depend on
whether the shares are already outstanding or if they are under an IPO.
Subscription Transactions
• Under the RCC, mandatory pre-incorporation subscription and payment for subscription is generally
no longer required. These are partially paid shares, but as the law requires full payment of shares,
no right to a stock certificate is conferred to the subscriber upon payment.
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• Delinquency
o Delinquency can lead to either an Auction or Forfeiture. Generally, the delinquent subscriber
can either arrange for an auction to retain the shares they paid and for another to pay for the
portion unpaid; or they may simply forfeit their initial payment.
o Forfeiture – Cancel the subscribed capital and all associated accounts, and credit Share premium
– forfeited payment along with the subscription receivable. Essentially, the forfeiture is a
relinquishment over the prior payment, thus consists a transfer of the unpaid balance from
Subscribed Capital to Share Premium.
o Successful Auction
▪ Debit Receivable from highest bidder for the transaction cost
▪ Record Collection and Issuance of Stock Certificate
▪ Highest Bidder is willing to pay transaction cost, interest, etc. for the least amount of shares
▪ If the delinquent subscriber forfeits the shares, the highest bidder is not necessarily entitled
to entire subscription
▪ The delinquent subscriber is still entitled to any amount he has paid as down payment. Hence,
the entire subscription can be finally issued into Share Capital.
o Unsuccessful Auction
▪ Transfer the entire Subscription to Treasury Shares or If the Corporation is prohibited from
reacquiring the shares, transfer the balance to Share Premium Delinquency
Treasury Share Transactions
• Cost Method – Treasury Shares are always at Cost during initial recognition, and retired at cost.
• Par Value Method – Treasury Shares are recorded at par
• Retirement – Perceived Loss (Loss on Retirement)
o Cancel Share Capital & Share Premium; Cancel the Treasury Shares & Share Premium Treasury
o Any remainder is charged against Retained Earnings
• Retirement – Perceived Gain (Gain on Retirement)
o Increase the Balance of Share premium Treasury
• Upon acquisition of Treasury Shares, a portion of Retained Earnings is appropriated automatically
• Order of Priority of Charging Losses on Reissuance – SP – Treasury, Retained Earnings
• Order of Priority of Charging Losses on Retirement – SP – Original Shares, SP – Treasury, - R/E.
Donated Capital
• Donations of Assets = Increase in Donated Capital (See PPE for rules on Donated Capital)
• Donations for Stocks = Memorandum
o Decreases Shares outstanding; increases Treasury Shares; since these are free, no increase in
balance until eventual sale. (If FV at date of donation is given, recognize Donated Capital)
• Sale/Issuance of Shares = Increase in Donated capital (Based on value from date of donation.)
Preferred Share Capital
• Redeemable Preference Shares: Derecognize Share Capital & Share Premium on original issuance
Gain to Share Premium – Retirement Loss to Retained Earnings (Debit)
• Convertible Preference Shares: Derecognize Share Capital and Share Premium, record respective
Ordinary Share capital. Any excess to Share Premium Ordinary, any deficits to Retained Earnings
• Callable Preferred Shares: The same with Redeemable Preferred Shares
• Callable Shares vs Redeemable Shares – the difference lies in who must pay for the exercise of the
redemption; for Redeemable Shares, the counterparty pays; for Callable Shares, the issuer pays for
the redemption; hence the gain or loss depends on the amount paid or received.
Share Warrants and Share Rights
• Issuance of Warrants – Recognize OSWO as the Residual value of the Compound Instrument
• Exercise of Warrants – Increase Share Capital
• Expiration – Transfer within Share Premium
• Share Warrants issued with preference shares (Reverse the order of priority if attached with bonds)
o All Fair Values are known – Prorate; Only one Fair Value is known – Residue
o No Fair Value known:
▪ Market Value per Share – Option Price = Intrinsic Value of Warrants
▪ Intrinsic Value of Warrants * Claimable Ordinary Shares = MV of Warrants
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Warrants Rights Options

Attached to investor’s Financial Issued only to Shareholders already Issued usually to Employees
Instrument (Shares or Bonds) holding Equity on a 1 to 1 basis and third-parties (PFRS 2,
PFRS 9)
Apply split-accounting No split-accounting Apply split-accounting
Detachable Issued only, entry only on exercise Not Detachable
Retained Earnings
• The only account available for Dividend Distribution; if in a deficit, no dividends can be declared
• Trust Fund Doctrine prohibits drawing dividends against Legal Capital
Unadjusted Retained Earnings Beginning XX
Effects of Prior Period Error Corrections X(X)
Effects of Changes in Accounting Policies X(X)
Adjusted Retained Earnings Beginning XX
Closing Net Income XX
Dividends Declared XX
Total Retained Earnings XX
Net Appropriations (XX)
Unappropriated Retained Earnings XX
Dividends out of Capital
• Liquidate appropriate account (OSC/PSC) or Share Premium, Credit Cash (Liquidation)
• Wasting Asset Doctrine – Only corporations engaged in wasting asset activities are allowed to cancel
Retained Earnings over the course of operations
Dividends out of Earnings
• Shares entitled to Dividends are Issued and Outstanding Shares plus Subscribed Shares
• Cash Dividends due to Delinquent Subscribers are applied first to the subscription due plus costs
• Stock Dividends due to delinquent subscribers are withheld until the subscription is fully paid
Declaration Record Payment
Dr. R/E Cr. Dividends Payable No entry Dr. Dividends Payable Cr.
Asset
Cash Dividends
• Compute for Dividends due to PCS, then the balance of the declaration to OCS.
• Participating Preferred Shares include dividends that they themselves are entitled to plus dividends
that ordinary shareholders receive.
• Cumulative Preferred Shares are due to receive dividends that remained undeclared in prior periods
for the current period. These are referred to as Dividends in Arrears.
• If the Preferred Shares are Preferred as to Assets, All Dividends in Arrears are claimable currently
Property Dividends (See NCAHFS and Discontinued Operations)
• At Declaration, record the Dividend Payable at Fair Value of Assets to be distributed
• Noncurrent Assets are reclassified to NCAHFS, at LCNRV (Record Impairment initially if any)
• Inventories are no longer reclassified, since they are naturally & subsequently recorded at LCNRV
• Adjust the Property Dividend Payable & R/E accordingly every end of accounting period to FV
• Inventory write-up (for both Inventory and NCAHFS) are done only to the extent of I/L
• Recognize a disposal accordingly based on Carrying Amount & FV, and any GL on Disposal
Non-cash/Cash Alternative
• Initially declared portion on Retained Earnings, and estimated shareholders’ election to receive Cash
or Non-Cash Dividends (Computation resembles Expected Value estimation)
• Balancing Figures are either Retained Earnings for Gains and Loss on Distribution for Debits
Liability Dividends or Scrip Dividends
• Dividends entitled to receive Interest, and the Entity records interest expense
Stock Dividends
• Small Dividends – The higher of FV or Par
o Less than 20% of outstanding Shares; may require Share Premium
• Large Dividends – ONLY at PAR
• Effectively a transfer of Retained Earnings to Share capital
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• Treasury Shares as dividends – instead of Capital Stock, Treasury Shares are credited at COST.
• Treasury Shares decrease Share Dividends Payable in case they are declared simultaneously
Fractional Dividends
• Fractional Warrants Outstanding (Share Premium) – usually given as to which amount refers to full
shares, and which refers to fractional shares
• Exercise of warrants – Cancel the warrants, and record Share Capital
Statement of Retained Earnings
• No Longer required by the standard, no longer included in a full set of financial statements
• The use of appropriated funds/exhaustion thereof, will not reduce the retained earnings balance
• Appropriation is done to reserve a right to net assets against dividend claims. It prevents the
appropriated fund from being converted into dividends.
Recapitalization
• Par to No Par and vice versa – Cancel old shares, and replace with new shares at no-par or par basis,
depending on the case. Any deficits are charged against Retained Earnings, any excess to Share
Premium, recapitalization
• Reduction of Par or Stated Value
o Debit the portion of Ordinary Shares involved, & credit to Share Premium Recapitalization
• Split up or Split Down
o Read as it is presented i.e., 4/1 = there are 4 more shares for every old share after SPLIT UP
o Read as presented; ¼ = there is only 1 new share for every old 4 shares.
o Merely a memorandum entry
o Will increase cash dividends payable since there are more shares entitled to dividends
Quasi-reorganization
• Undertaken by a corporation experiencing recurring losses, at a deficit, after approval by Board of
Directors and Stockholders along with, as far as needed, creditors and Government agencies
• Deficit Reclassification – The Deficit in Retained Earnings is written off against Share Premium
without Net Asset Revaluation. This is preceded by a Recapitalization to increase APIC.
• Accounting for Reorganization – Revalue Net Assets first
▪ Downward – charge against APIC and then Recapitalize
▪ Upward – Write off the deficit, and any balance to Revaluation Surplus from PPE
Transaction OSC SP-Ordinary Retained
# of SH Balance Earnings
Balances XX XX XX XX
Issuance XX XX XX XX
Stock Issue Costs - - (XX) (XX)
Purchase/Treasury - (XX) - (XX)
Reissuance - XX XX XX
Retirement of Shares (XX) (XX) (XX) (XX)
Retirement of Treasury Shares (XX) (XX) (XX) (XX)
Subscribed Shares XX - XX -
Subscription Receivable - - - -
Delinquency - - - -
Forfeiture (XX) - X(X) -
Sale to Highest Bidder - - XX -
Equity Financing through XX XX XX -
Conversion, Warrants, and Rights
Donated Capital at Fair Value - - XX -
Issuance of Donated Shares - - XX -
Cash, Property, Scrip Dividends - - - (XX)
Stock Dividends, Fractional Divs. XX - - (XX)
Stock Splits X(X) - - -
Reorganization XX XX (XX) (XX)
Ending Balance XX XX XX XX
For other classes of shares, simply do the same procedure as with Ordinary Shares.
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Substantive Tests for Shareholders’ Equity

Audit Objectives
• Proper authorization of transactions involving SHE accounts
• Proper accounting treatment of transactions involving SHE
• Compliance with legal requirements related to Corporate Capitalization
• Propriety of FS presentation and Adequacy of disclosures
Audit Procedures
a. Obtain a copy of the latest articles of incorporation and by-laws and determine for each class of
shares, the:
• Authorized Share Capital
• Par or stated Value
• Preferences and Limitations if any
• Other Equity Accounts and Reserves
b. Obtain a schedule of the share capital, subscribed share capital, and treasury share accounts
indicating the number of shares and amounts for:
o Beginning Balances
o Additions and Deductions for the current year
o Ending Balances
c. Foot and cross-foot the schedule
d. Verify accuracy of schedule
o Trace Beginning balances to last year’s working papers or in the case of an initial audit,
establish accuracy of beginning balances by
i. Test tracing prior years’ recordings and supporting documents
ii. Tracing beginning balances to general ledger balances
o Trace proceeds to cash receipts for additional issuances or subscriptions or reissuances
of treasury
o Trace payments for share capital retirements and acquisitions of treasury to cash
disbursements
o Reconcile working papers ending balances with general ledger balances
o Trace authorizations by reference to minutes of the meetings
e. Where the client is being serviced by an independent transfer agent or registrar:
o Confirm share capital issued and treasury shares
o Arrange for the inspection and count of treasury shares
f. Where the client does not maintain an independent transfer agent or registrar
o Obtain from the corporate secretary:
i. Shareholders
ii. Subscribers
iii. Subscription receivable
iv. Treasury Shares
o Foot and cross-foot the schedule
o Test-trace to stock and transfer book
o Trace balances per schedule to general ledger balances
o Inspect and account for unissued, cancelled, treasury share balances
o Determine if the treasury shares had been properly endorsed in favor of the corporation
g. Confirm subscriptions receivable and consider collectability
h. Review articles of incorporation, by-laws, and minutes of meetings of the board shareholders
relating to share capital and related accounts
i. Reconcile Dividends paid to rates authorized in minutes of the meetings
j. Ascertain compliance with SEC and other Regulatory Bodies and Contractual obligations relating
to capitalization of Retained Earnings (Share Dividends)
k. Determine Propriety of FS Presentation and Adequacy of Disclosures
l. Check for Prior period errors
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Share-based Compensation–PFRS 2
Share-based Compensation – Settlement for the services rendered by an employee of the firm through
equity instruments. PFRS 2 covers all equity-settled transactions except those covered in PFRS 3; those
involving equity transactions with the owners (Pre-emptive Rights), and those issued along with forwards-
based contracts under PFRS 9.
• FV is based on Equity Instruments, not on services performed (for EEs and others providing service)
since the Fair Value of the Services is impossible to determine, especially since the employee is not
an external party, hence no Fair Value of services can be estimated.
• FV for transactions other than employees is prima facie based on reliable estimates
• Liability components of hybrid instruments are remeasured at fair value on settlement (Especially
for instruments providing an option to have compensation be settled with cash or equity
• Withholding Tax Obligations are charged against Share Options Outstanding (Tax rate * FMV)
Vesting – A grant of a right upon meeting of certain conditions either immediately or within a period.
Share Options
Normally issued to key executives and officers as additional compensation for either past or future
services provided to the company
o Vesting – Options issued for Past Service
o Non-Vesting – Options issued for Future Service, can be fixed or variable
o Fixed Option Plan – Only vesting condition is to stay employed during the vesting period
o Variable Option Plan – Any plan other than Fixed (Various conditions to be met within vesting
period like Profit margins, productivity, etc.), may be Market-based or Non-market Based
▪ Market Based – Based on Share FMV TARGET and treated as if a Fixed Option Plan,
but the options have to be exercisable nonetheless
▪ Non-Market Based –other criteria
o FMV – Option is valued consistently at FMV at Grant Date
o Intrinsic Value (IV) = FMV OF SHARES – Exercise price; FMV Changes each period until options
are exercised, treated periodically as Change in Estimate; the Strike Price is fixed.
• Exercise:
Issuance Exercise Expiration Remeasurement (if at IV)
Dr. Compensation Dr. Cash at Exercise Price Dr. Share Options Dr. Compensation Expense
Expense @ FV or IV Dr. Share Options Outstanding Cr.Share Options Outstanding
Cr Share Options Outstanding @ CV Cr. Share Premium – (or vice versa)
Outstanding Cr. Ordinary Share Capital Share Options
Cr. Share Premium
• Variable Conditions may change due to Non-market Based conditions:
Number of Options Vesting Period FV of Options
Observe that if the options vest immediately, the Fair Value of the Options are deemed
exercisable immediately, in this case the employees will exercise the options once they are in-the-
money; in other words, it is only a matter of the employees exercising the options or not.
If the Options do not vest immediately, the standard provides that the options must be based only
on the fair value at the grant date. This is done so that the options fairly reflect the amount of
compensation payable at the end of the vesting period, changing only by the likelihood of meeting the
vesting conditions. (This supports the assumption that the fair value of services by employees are actually
impossible to determine.)
If the vesting conditions are market-based, whether vesting immediately or not, this apparently is
the case since the employees do not have control over market forces affecting the vesting conditions.
If the Vesting Conditions are non-market based; i.e., the Vesting Conditions are internal such as
the volume of sales, amount of profit, etc., the employees technically have influence over the
happening of the vesting condition. In this case, the number of options, the vesting period, and the fair
value of the options (in the case of intrinsically valued options), may affect the Compensation Expense
that may change over the vesting period, especially if different vesting rights accrue upon varying vesting
conditions; this is an example of a Change in Accounting Estimates. This of course, would still be fairly
valued at the amount during the grant date or at intrinsic value if no fair value can be determined.
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Fair Value Method

Year 1 Year 2 Year 3
Total Number of Employees XX XX XX
Employees that Left (XX) (XX) (XX)
Employees Expected to Leave (XX) (XX) (XX)
Employees entitled to Options XX XX XX
Multiply by Options per Employee XX XX XX
Total Options XX XX XX
Multiply by FMV XX XX XX
FMV of Options XX XX XX
Ratio (Yr./Total Years) 0.X 0.X 0.X
FMV to Date XX XX XX
Prior Years’ Compensation - (XX) (XX)
Compensation Expense XX XX XX
Modification of Terms
… Year 1 Year 2 Year 3
Cumulative Salaries XX XX XX
Incremental Expense:
No. of Stock Options XX XX
Entitled Employees XX XX
Incremental Value (FV-IV) X X
Total FV of Options XX XX
Ratio (Remaining Years) 0.X 0.X
Total Incremental Expense - XX XX
Cumulative Incremental Salaries XX XX XX
Cumulative Incremental Compensation XX XX XX
Prior Years’ Compensation (XX) (XX) (XX)
Current Incremental Compensation Expense XX XX XX
• Only for Increases in Intrinsic Value and Increases in Stock Options Available per Employee
• Not done for decreases in Intrinsic Value and decreases in Stock Options
• Making the Performance Condition and Vesting Period beneficial to the employees will be accounted
for; the opposite will make the original vesting conditions prevail. Making the vesting conditions more
difficult would make probability estimates less reliable, hence the original vesting conditions for
recognizing compensation expense will be used.
Intrinsic Value Method
When the FV cannot be determined reliably, the Intrinsic Value is used instead. Additional compensation
expense is determined when the vesting period lapses and when the vesting conditions are met and
during the exercise period.
• Computation for incremental changes in fair value will apply ratios only until the year before exercise
i.e., if the first exercise of options occurs three years within the vesting period, then the ratio applied
will be based on 3. (This is based on the fact that Intrinsic Value for the current period is treated as
if it were the same intrinsic value at the grant date, hence the usage of the Incremental Intrinsic
Value upon the number of options expected to be exercised within the vesting period i.e., all
those exercised and unexercised until the exercise period expires or until all options are
exercised) Under this method, the options are attributed no value at the grant date.
• If the exercise of the shares occurs after the vesting period, these are expensed immediately.
… Year 4 Year 5
Change in Intrinsic Value (Y3-Y4) XX XX
X by: Options Unexercised for the year XX XX
Unexercised Options @ Incremental Intrinsic Value XX -
Ratio 0.X 1
Total XX XX
Total Salaries Expense (Gain on Change report in P/L) XX XX
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Cancellation and Settlement

• An Accelerated Vesting; all remaining years of compensation recognized at once
• Accounted for as a repurchase of interest
Dr. Share Options Outstanding;
Cr. Share Premium – Unexercised Options
• Issuance of New Shares for Settlement of Remunerations– Accounted for as a modification of terms
(mix of Change in FV and Change in No. of Share Options per EE)
• Discretion of Entity is provided as to whether it accounts for the cancellation as a replacement of
equity instruments (Modification of Terms) or issuance of new equity instruments (Termination of
Old Settlement contract in place of a new one).
Stock Appreciation Rights or Shadow Shares
Stock Appreciation Rights are based on the Fair Value of the Equity Instruments issued by the Entity, but
are cash-settled. In this case, the changes in value are accounted for at fair value at the end of each
period. As they are based on the value of the Stocks, they are still considered Share-based Payments.
• Accounted for like Share Options, but is paid in Cash instead, hence credited as a Liability over Equity
• The Cash Payment is based on the Fair Value of Stock Appreciation, that is any change in fair value
of stocks is paid in cash (recognized in P/L)
• Stock Appreciation Rights Payable is valued at the settlement date, and updated each report
date during and after the vesting period until settlement
• Changes are treated as if a change in accounting estimate
Year 1 Year 2 Year 3 Year 4 Year 5
Fair Value AA BB CC DD EE
Exercise Price (XX) (XX) (XX) (XX) (XX)
Intrinsic Value AA BB CC DD EE

Year 1 Year 2 Year 3 Year 4 Year 5

Total Number of Employees XX XX XX XX XX
Employees that Left (AA) (BB) (CC) (CC) (CC)
Employees Expected to Leave (AA) (BB) (CC) - -
Employees who Exercised their SAR (Cumulative) - - (CC) (DD) (EE)
Remaining Employees entitled to SAR XX XX XX XX XX
Multiply by SARs per Employee XX XX XX XX XX
Total SARs UNEXERCISED XX XX XX XX XX
Multiply by FMV AA BB CC DD EE
FMV of SAR XX XX XX XX XX
Ratio (Yr./Total Years) 0.X 0.X 0.X 1 1
FMV to Date XX XX XX XX XX
Prior Years’ Compensation - (XX) (XX) (XX) (XX)
Compensation Expense XX XX XX XX XX
Employees who Exercised their SAR each Year - - XX XX XX
Multiply by SARs per Employee - - XX XX XX
Total SARs Exercised - - XX XX XX
Multiply by: Intrinsic Value - - CC DD EE
Additional Compensation Expense - - CC DD EE
Total Compensation Expense XX XX XX XX XX
Under the issuance of Stock Appreciation Rights, it is expected that the Ending Balance of the
SARs Payable be at nil or zero. This is true because certainly, at the end of the vesting period, and into
the exercise period of the SARs, the full value of the SARs unexercised less all the cumulative SARs
Payable from the vesting period will be offset since the estimate set out during the vesting period will
eventually be ‘transferred’ to those that have exercised the SAR. In a sense, it is actualizing and
correcting the estimate into those SARs that have actually been exercised, and eliminating all obligations
to pay all employees who do not exercise their SAR.
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Cash-settled and Equity-settled Alternatives

When an entity allows the employee an option to acquire either Cash-settled or Equity-settled
compensation, split-accounting is generally applied to remuneration. The Cash-settled portion and the
Equity-settled compensation are separately accounted for under Residual Approach.
The Remuneration Offers Both Cash-settled and Equity-settled alternatives:
• If the remuneration is both Cash and Equity-settled and simultaneously, the accounting is
straightforward, accounted for separately.
• If the remuneration is both Cash and Equity-settled and the other is added subsequently, the
accounting is straightforward, accounted for separately.
The Remuneration Offers either Cash or Equity in settlement:
• The Entity bears the right of choice or if the counterparty cannot make the choice of settlement:
o It must determine whether the present obligation to settle in cash exists and has commercial
substance
▪ If there is existence and commercial substance, the obligation is settled with cash
▪ If it does not exist or has no commercial substance, obligation is settled w/ equity
• The Counterparty bears the right of choice
The entity determines the value of the equity component embedded within the share alternative.
Hence, it must take the difference between the share alternative and the cash alternative. This works
because the Share alternative initially, is in fact, a compound financial instrument at inception, given
the option to acquire either cash or shares.
Fair Value of the Share Issue XX
Fair Value of the Cash Alternative (XX)
Equity Alternative XX
Divided by the Vesting Period X
Annual Compensation Expense from Equity XX
The Cash-alternative is Accounted for separately.
Year 1 Year 2 Year 3
Total Number of Employees XX XX XX
Employees that Left (XX) (XX) (XX)
Employees Expected to Leave (XX) (XX) (XX)
Employees entitled to Options XX XX XX
Multiply by SAR per Employee XX XX XX
Total SAR XX XX XX
Multiply by FMV AA BB CC
Cumulative Compensation XX XX XX
Ratio (Yr./Total Years) 0.X 0.X 0.X
FMV to Date XX XX XX
Prior Years’ Compensation - (XX) (XX)
Compensation Expense - Liabilities XX XX XX
Compensation Expense – Equity XX XX XX
Total Compensation Expense XX XX XX
In this case, the compound instrument should be treated as a SAR, whose fair value changes and is
consistently remeasured at the end of the period. However, since these do not include an option to
exercise, instead offering an option to convert into equity, the SARs are not adjusted for the effects
of exercising the receipt of cash.
Accounting for Modifications and Accelerated Vesting apply here as well.
Counterparty chooses Cash-alternative Counterparty chooses Equity-alternative
SARs Payable XX SARs Payable XX
Cash XX OSOO XX
OSOO XX Share Capital XX
Share Premium – OSOO XX Share Premium - Ordinary XX
Effectively, the SARs (Liability) is extinguished when the cash-alternative is chosen; the SARs is
transferred to Equity when the equity-alternative is chosen.
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Earnings per Share & Book Value per Share-PAS 33

EPS and BVPS are required to be presented in the Financial Statements in order to simplify the
assimilation of the information regarding the firm’s financial position (BVPS) and performance (EPS).
Book Value per Share
The Book Value per Share is presented under an “as if” approach, The Assumptions are as follows:
• All the Treasury Shares are Retired (loss charged to APIC and R/E)
• Subscriptions Receivable are ignored and Subscribed Shares are deemed fully paid.
This is because the book value per share reflects the share’s entitlement to net assets in the event of a
Liquidation. Under a quitting concern therefore, no treasury shares are kept, and are thus retired at
cost. (An ‘as if’ adjustment reflecting the same.) and subscribed shares are treated as if these were fully
issued, but only at par.
𝑇𝑜𝑡𝑎𝑙 𝑆𝐻𝐸
𝐵𝑉𝑃𝑆 =
𝑁𝑜. 𝑜𝑓 𝑂𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔 𝑆ℎ𝑎𝑟𝑒𝑠
• Done for Each Class of Stock
• As for Subscribed Share Capital, DO NOT NET THIS AGAINST Subscriptions Receivable
Share Capital XX
Subscribed Share Capital XX Final Total Shareholders’ Equity XX
Treasury Shares (XX) Subscriptions Receivable XX
No. of Outstanding Shares XX Par Value of Share Capital (Each Class) (XX)
Multiply by Par Value per Share XX Excess Over Par XX
Par Value of Outstanding Shares XX
Residual Equity Theory – Under this theory, Ordinary Shares shall receive dividends, and their excess
over par after the fully payment of dividends and allocation of excess over par to Preferred Shares. In
other words, certain provisions on preferred shares are to be considered.
𝑃𝑟𝑒𝑓𝑒𝑟𝑟𝑒𝑑 𝑆ℎ𝑎𝑟𝑒 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 + 𝐿𝑖𝑞𝑢𝑖𝑑𝑎𝑡𝑖𝑜𝑛 𝑃𝑟𝑒𝑚𝑖𝑢𝑚 + 𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠
𝐵𝑉𝑃𝑆, 𝑃𝑟𝑒𝑓𝑒𝑟𝑒𝑛𝑐𝑒 =
𝑁𝑜. 𝑜𝑓 𝑂𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔 𝑃𝑟𝑒𝑓𝑒𝑟𝑟𝑒𝑑 𝑆ℎ𝑎𝑟𝑒𝑠
𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑆ℎ𝑎𝑟𝑒 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 + 𝑅𝑒𝑚𝑎𝑖𝑛𝑖𝑛𝑔 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑓𝑟𝑜𝑚 𝐸𝑥𝑐𝑒𝑠𝑠 𝑜𝑣𝑒𝑟 𝑃𝑎𝑟
𝐵𝑉𝑃𝑆, 𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 =
𝑁𝑜. 𝑜𝑓 𝑂𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔 𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑆ℎ𝑎𝑟𝑒𝑠
Number of Shares 50,000.00 1,000,000.00
Non-cumulative & Non-participating Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
to Preferred Shares (300,000.00) 300,000.00 -
to Ordinary Shares (7,200,000.00) - 7,200,000.00
Total - 2,800,000.00 12,200,000.00
Book Value per Share 56.00 12.20
Cumulative for 3 years & Non-
participating Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
to Preferred Shares (900,000.00) 900,000.00 -
to Ordinary Shares (6,600,000.00) - 6,600,000.00
Total - 3,400,000.00 11,600,000.00
Book Value per Share 68.00 11.60
Non-cumulative and Participating Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
Distribution at Preference Rate (900,000.00) 300,000.00 600,000.00
Participation of Preference -Residue (6,600,000.00) 2,200,000.00 4,400,000.00
Total - 5,000,000.00 10,000,000.00
Book Value per Share 100.00 10.00
Notes:
• The Preferred Shares take at their dividend rate multiplied by their par value
• When Preference Shares participate, the Ordinary shares must be allocated a basic dividend equal
to the dividend rate of the preferred share times the par value of ordinary shares. If the preferred
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shares do not participate in excess of the dividend rate, the residue after the participation premium
is pro-rated according to the relative par values of the shares. (Only prorate when it Participates.)
• Each feature of the preference shares is independent, participation does not affect cumulative
feature and vice versa.
Cumulative for 3 Years and Participating Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
to Preferred Shares (1,500,000.00) 900,000.00 600,000.00
Participation of Preferred Share in Residue (6,000,000.00) 2,000,000.00 4,000,000.00
Total - 5,400,000.00 9,600,000.00
Book Value per Share 108.00 9.60
Participating at 16% Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
to Preferred Shares (900,000.00) 300,000.00 600,000.00
Balances 6,600,000.00 2,800,000.00 5,600,000.00
Preferred Share Participation at 4% (100,000.00) 100,000.00 -
to Ordinary Shares (6,500,000.00) - 6,500,000.00
Total - 2,900,000.00 12,100,000.00
Book Value per Share 58.00 12.10
**Note: When Preferred Shares participate at a rate higher than the dividend rate, the ordinary shares
participate still at the preference share rate, but the excess 4% will mean that the residue will be
allocated to the preferred shares first at 4%, and the rest is transferred to ordinary shares.
Preferred at a Liquidation Value of P55 Excess over Par 12% Preferred Shares Ordinary Shares
Balances 7,500,000.00 2,500,000.00 5,000,000.00
to Preferred Shares (300,000.00) 300,000.00 -
Liquidation Premium (P55-P50) (250,000.00) 250,000.00 -
to Ordinary Shares (6,950,000.00) - 6,950,000.00
Total - 3,050,000.00 11,950,000.00
Book Value per Share 61.00 11.95
**Note: When a liquidation value is in excess of the Par value of the preferred shares (P50.00 in the
illustration), it is allocated to the preferred shares first and foremost. In no case will the liquidation
value be less than par.
Preference as to Dividends Deficit 12% Preferred Shares Ordinary Shares
Balances (750,000.00) 2,500,000.00 5,000,000.00
Share in Deficit 750,000.00 (250,000.00) (500,000.00)
Balances - 1,125,000.00 2,250,000.00
Book Value per Share 22.50 2.25
Preference as to Assets Deficit 12% Preferred Shares Ordinary Shares
Balances (750,000.00) 2,500,000.00 5,000,000.00
Dividends in Arrears (3 Years) (900,000.00) 900,000.00 -
Balance to Ordinary Shares (1,650,000.00) (1,650,000.00)
Balances (3,300,000.00) 3,400,000.00 3,350,000.00
Book Value per Share 68.00 3.35
**Note: When the preferred shares have preference as to Assets, it will still be given allocation, this
also includes dividends in arrears if any. However, if it merely has preference as to Dividends, it will
not be allocated any value as it only has a preference, and not an absolute right; it will share with the
ordinary shares the deficit based on the relative par value.
Other Important Facts
• In case of an instance where there would be more than one kind of preferred share, the ordinary
share will participate only to the extent of the lowest participating dividend rate.\
o Case 1: Two Classes of Preferred Shares, one Participates, the other does not
▪ OS participates at with the PS at its Dividend Rate
▪ In this case, the Non-participating PS does not pro-rate with the OS and Participating
PS when it comes to allocating the Residue.
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o Case 2: Two classes of PS, both participating

▪ The OS will participate at the lowest among the dividend rates
▪ In this case, All Shares shall share proportionately the residue based on relative par
• Retire the treasury shares before computing the Book Value per share; the perceived gain or loss will
affect the excess over par
• Dividends in arrears usually include the current year dividends if the current year dividends are not
mentioned. The problem must indicate if the dividends are in fact in arrears, otherwise, the
dividends provided in the given are assumed as only for the current year.
• The Silence of the problem means that the preferred shares are non-cumulative, non-participating
• The same procedural computations above may be used to compute the dividends for the year
• Dividends in Arrears – These are dividends that are not declared. From Incorporation, the Dividends
In arrears will be the Age of the Corporation less 1 year.
Earnings Per Share
EPS – Determines how much Current period Earnings are assigned to each ordinary share. The EPS of
Preferred Shares are already provided as their dividend rates, with an exception made for Participating
Preferred Shares. It is used to assess the value of ordinary shares, especially when the returns on
ordinary shares are not stable. It promotes relative comparability among firms, it becomes a firm’s basis
for setting dividend policies (to prevent Improperly Accumulated Earnings Tax)
• Basic EPS
Net Income or (Loss) − Preference Dividends
Basic EPS =
Weighted Average Actual Ordinary Shares Outstanding
o Net Income is After Tax
o Silent Problem = NI is after Tax
o Loss per Share is still required for disclosure
• Preference Share Dividends
o Cumulative – Dividends for 1 year are deducted whether declared or including those expressed.
o Non-cumulative – Actual Dividends declared, regardless of fixed dividend plan
• Weighted Average Ordinary Shares Outstanding
o On Bonus Issues, Share Splits, and Recapitalization, and Rights Issue
▪ All share issuances will be applied from the beginning of the period, even if these
have been done later in the fiscal year or in the next fiscal year.
▪ i.e., A share split in June will retroact as if applied since January.
▪ If before after the reporting period, but before authorization for issue, these changes
shall be applied to that year
Date Shares Month Shares
Treasury shares are treated as a
Outstanding Unchanged Weight
negative figure in the
1/1/X1 100,000 1/12 100,000.00
determination. Furthermore, In the
1/31/X1 200,000 11/12 91,666.67
interest of conservatism, only the
12/1/X1 300,000 1/12 8,333.33
effect of retirement is accounted
12/31/X1 400,000 0/12 0
for if it succeeds treasury purchase.
WAAOO 400,000 200,000.00
• Rights Issue
Since Share rights are generally exercised at a price less than fair value, it will always be dilutive. In a
sense, it is the entity that absorbs the consequence of dilution instead of the shareholders whom will
otherwise lose value in their shares had they not been provided share rights. The procedure for computing
for Basic EPS from Rights issue is based on the notion that the exercise price at less than fair value has
an equivalent in shares quantity; the bonus feature
These are ALWAYS Dilutive, and are no longer considered a Dilutive Source for computation since the
rights are as good as exercised. It affects the basis for which Basic EPS is computed, and consequently,
Diluted EPS from other potential sources.
Fair Value per Share Ex−rights
𝐀𝐝𝐣𝐮𝐬𝐭𝐦𝐞𝐧𝐭 𝐅𝐚𝐜𝐭𝐨𝐫 = Outstanding Ordinary Shares, before Rights Issue ×
Fair Value per Share Right−on
FV per Share − (Right on − Exercise Price)
Value of one Right =
Rights to purchase a share + 1
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** For fiscal years where rights are exercised in the middle of the year, the effect of the adjustment
factor applies on the months before the rights issue only, thus prorated against those coming after.
The number of shares will then be added, but weighted with the remaining time for the year. They are
applied in exactly the same manner as Stock Dividends and Share Splits. Its difference with the Bonus
Issue and Splits is merely the consideration for which the rights are exercised, hence the Adjustment
Factor computation.
• Participating Preferred Shares
Treated as Special Ordinary Shares, included in the WAOTO and Net Income for OS (NI*PS%)
Adjustment to Net Income for OSC BEPS BEPS of Participating PS
(N/I b4 Divs)*PS% + (N/I less Divs) (N/I b4 Divs)*PS%/PS
Diluted Earnings Per Share
Computations will change based on the number of sources of dilutive potential. Dilution generally means
that the value per share decreases because of the increase in the number of ordinary shares outstanding
sharing in the earnings available
Dilutive Potential Ordinary Shares – the exercise of equity instruments will probably result in the
decrease in EPS or increase in LPS; e.g., Hybrid Instruments, Options, and Warrants
Convertible Bonds
Earnings 𝐛𝐞𝐟𝐨𝐫𝐞 𝐈𝐧𝐭𝐞𝐫𝐞𝐬𝐭 𝐛𝐮𝐭 𝐀𝐟𝐭𝐞𝐫 𝐓𝐚𝐱
Diluted EPS, Convertible Bonds =
Weighted Average Total Ordinary Shares Outstanding
Beginning Shares XX
Other Issuances (M/12) XX
Ordinary Shares from Actual Conversion (M/12) XX
Total WAOSO (Used for EPS) XX
Assumed Converted OSC (M/12) XX
Total WAOSO (Used for DEPS) XX
o Actual Conversion goes into EPS, Assumed Conversion goes into DEPS (as-if assumption used)
o If issued in the middle of the year, the as-if assumption prorates from the issuance to year-end.
o If no other transactions regarding potential dilutive securities occur during the year, only the
EPS is reported as there are no more potentially dilutive instruments pending for exercise.
o E.g., Conversion occurs on October 1, hence its weight shall be counted for 3 months, while its
dilutive potential counts from January 1 to December 31 following the ‘As if’ Approach.
o under the “As if” method, the convertible bonds are treated as if the conversion option had
already occurred at the beginning of the period, but only at par (avoiding any effect in P/L)
o If the Convertible Bonds are settled with a Cash Alternative instead of Shares, the as-if method
will take the Equity Alternative to determine the Diluted EPS.
Convertible Preference Shares
Net Income 𝐛𝐞𝐟𝐨𝐫𝐞 𝐃𝐞𝐝𝐮𝐜𝐭𝐢𝐧𝐠 Preference Dividends
Diluted EPS, Convertible Preference Shares =
Weighted Average Total Ordinary Shares Outstanding
Beginning Shares XX
Other Issuances (M/12) XX
Ordinary Shares from Actual Conversion (M/12) XX
Total WAOO (Used for EPS) XX
Assumed Converted OSC (M/12) XX
Total WATOO (Used for DEPS) XX
o Same Procedure with Convertible Bonds; under the “As if” method, the convertible preference
shares are treated as if the conversion option had already occurred, but only at par (avoiding
any incremental share premium)
Options and Warrants
o Will only have dilutive potential when the Average Market Price of OSC during the period exceeds the
Exercise Price of the Options or Warrants (Average FMV of SHARES > Exercise Price of OPTION)
o Proceeds from issuing Options and Warrants are treated as having been received from Issuances of OSC
at the Average FMV during the period (a.k.a. Treasury Shares Method)
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Option Shares XX Some problems refer to the intrinsic

Multiplied by: Intrinsic Value of Shares value of the shares as already the
Exercise Price XX exercise price. This is usually to
FV of Share Options XX XX simplify computation. However, if
there are indicators of the share
Total Potential Proceeds of Option Exercise XX options having a FV, these are
Divide by: Market Price * added to the Exercise price to
Avg. Mkt Price for DEPS Mkt Price Conv. Date for BEPS NM determine the actual value of
Treasury Shares XX holding the shares.

Not Exercised: (FOR DEPS) Exercised: (FOR EPS)

Proceeds from Assumed Exercise XX Proceeds from Assumed Exercise XX
Divided by: Average Market Price XX Divided by: Market Price at Conversion XX
Assumed Qty. of Treasury Shares XX Assumed Qty. of Treasure Shares XX
Option Shares (XX) Option Shares (XX)
Incremental Shares XX Incremental Shares XX
Multiply by: Period before exercise N/12 Multiply by: Period after exercise M/12
Dilutive Shares NN WAOSO (Exercised) MM
WAOSO (Exercised) MM
WAOSO (Dilutive) NM
Non-exercise will only count dilutive potential from issuance until fiscal year end, over 12 months.
If exercised, it shall count from the later of the Beginning of the Fiscal Year or Date of Issuance. E.g.,
Exercise occurs on October 1, hence its actual weight shall be counted for 3 months, while its dilutive
potential weight counts from January 1 to December 31.
The Reason it is called the Treasury Shares Method is that Treasury Shares are generally reacquired to
minimize dilution; or to saturate significant influence or control over to fewer shares. The Exercise of
the Options, and then the Reacquisition at the average market price will mean that the dilution will be
minimized only if the Average Fair Market value is Larger than the Exercise Price; they are always dilutive
if this is the case. If the opposite is true, the Options and Warrants will become anti-dilutive.
Multiple Sources of Potential Dilutive Securities
1. Compute for Basic EPS 2. Check Dilutive Potential of each Potential Source
Dilutive Antidilutive
Options and Warrants Exercise Price < Average FMV Exercise Price > Average FMV
Convertible Preference Shares Incremental EPS < Basic EPS Incremental EPS > Basic EPS
Convertible Bonds Incremental EPS < Basic EPS Incremental EPS > Basic EPS
Preference Dividends
Incremental EPS, Convertible Preference Shares =
Weighted Average Potential Ordinary Shares Outstanding
Interest Expense, Net of Tax
Incremental EPS, Convertible Bonds =
Weighted Average Potential Ordinary Shares Outstanding
3. Rank all Securities based on Dilutive Potential (Smaller Incremental EPS, higher rank)
4. Include Dilutive Convertibles one by one, recompute the Basic EPS for each instance of Security
Options and Warrants are always the most dilutive among all the securities. This is because their exercise
involves no effect or adjustment in PL, unlike Convertible Bonds & Convertible Preferred Sh.
Component Profit (A) Total OS (B) DEPS (A/B)
Basic EPS from Continuing Operations XX XX XX
Options and Warrants - XX
Total XX XX XX Smaller deps, more
dilution. Larger
Convertible Bonds XX XX deps, less dilution
Total XX XX XX
Convertible Preferred Shares XX XX
Total; Diluted EPS XX XX XX
**RANK THE DILUTIVE SECURITIES, **NET INCOME WILL ALWAYS BE NET OF PREFERED DIVIDENDS
Once the securities become anti-dilutive (i.e., the EPS starts to increase following the dilutive potential
ranking), the Diluted EPS to be reported will be the one before the increase/anti-dilution.
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Other Sources of Dilutive Potential

Contingent Ordinary Shares
• These are equity instruments that are only issued upon the compliance of a certain condition. These
resemble convertible securities in that these are probably dilutive.
• Shares issued after a passage of a period are not contingent because passage of time is a certainty
• Outstanding shares that are returnable upon contingency are not treated as outstanding and are
excluded from computation until these are no longer subject to recall
• These are treated similarly as convertibles, included either on the beginning of the fiscal year or
date of agreement on the contingency; the date where the conditions are met function the same as
if a convertible instrument were exercised.
• If conditions are not met. The number of contingent shares included on Diluted EPS is based on the
issuable of shares, if and only if, the end of the fiscal year is also the end of the contingency period.
Otherwise, restatement is not allowed.
Basic EPS Diluted EPS
Beginning Ordinary Shares XX Beginning Ordinary Shares XX
Shares from Contingency XX Shares from Contingency XX
(Average from Condition Date to Report Date)
Total Ordinary Shares Outstanding XX Shares from Earnings Condition XX
Total Ordinary Shares Outstanding XX
Written Put Options
• Contracts that entitle the entity to sell shares on a given date, and then to repurchase the same on
a later date.
• These contracts are dilutive when it is out-the-money for the entity; Exercise Price > FMV (shares
are repurchased at a price higher than what it was issued for; a counterparty will certainly exercise
the right to sell the shares back to the entity (repurchaser) when the shares offered at the Exercise
Price is greater than Fair Value) In this case, it returns at a loss, mitigating the EPS
o Issued at the beginning of the period to raise proceeds for contract at Avg. Market Price (retroacts
at Jan. 1)
o Proceeds are used to satisfy the repurchase
o Incremental shares are included in computation
(𝐸𝑥𝑒𝑟𝑐𝑖𝑠𝑒 𝑃𝑟𝑖𝑐𝑒 − 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐹𝑀𝑉) ∗ # 𝑜𝑓 𝑊𝑟𝑖𝑡𝑡𝑒𝑛 𝑃𝑢𝑡 𝑂𝑝𝑡𝑖𝑜𝑛𝑠
𝐼𝑛𝑐𝑟𝑒𝑚𝑒𝑛𝑡𝑎𝑙 𝑆ℎ𝑎𝑟𝑒𝑠 =
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐹𝑀𝑉
Purchased Put and Call Options
These are generally Antidilutive, and are not included in BEPS and DEPS because these are actually
options that the entity had purchased on its own shares; and will be certain to exercise when in-the-
money (Exercise Price < FMV). In other words, the ordinary shares backing the option will be placed into
treasury, returning a gain, saturating the existing interest. This makes it anti-dilutive.
Presentations and Disclosures on EPS and DEPS
• EPS is required to be presented by Public Entities; Non-public entities are encouraged to report EPS,
but are not required to do so.
• Adjustment Factors, Splits, Bonus Issues apply also to Comparative Figures
• Basic Earnings per Share or Basic Loss Per Share and DEPS are presented in the face of the Income
Statement for Continuing Operations (Diluted Loss per Share in Continuing Operations is not reported)
• A Basic Loss per Share follows an opposite pattern from Basic EPS.
• BEPS and DEPS are NOT Computed for OCI(L)
• BEPS and DEPS from Discontinued Operations may either be presented in the Notes to the Financial
Statement or in the Face of the Profit or Loss Statement (Income Statement)
• In the Consolidated FS, it must use the Consolidated Figures
• If presented in the Separate FS, it must be presented at the Face of the Income Statement, but using
the Separate Figures only.
• Diluted Loss Per Share DLPS is computed ONLY FOR DISCONTINUED OPERATIONS (this is because a
diluted loss is equivalent to an anti-dilutive gain, reducing the amount of loss per share each share
already holds.)
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Financial Statements–PAS 1
A complete set of Financial Statements include the Statement of Financial Position, Statement of
Comprehensive Income and Income Statement, Statement of Changes in Equity, Statement of Cashflows,
Notes to Financial Statements, and the Statement of Financial Position adjusted at the beginning of the
period after application of Changes in Accounting Policies and Reclassifications of Items (6 Statements
in total)
General Features of Financial Statements:
1. Fair Presentation and Compliance with the PFRS. A Statement to this effect is placed in the Notes
to FS
2. Reported under the Going-concern Assumption, within the basis range of 12 months
3. Reported under the Accrual Basis
4. Materiality and Aggregation – Like and similar accounts may be aggregated under a single line-
item, dissimilar items are presented separately if they are material, otherwise, they may be
offset.
5. Offsetting – allowed only for Income Statement Items provided that a standard permits it
6. Frequency of Reporting – generally for one year, exceptions allow a shorter or longer period, as
long as the reasons for such are disclosed in the notes
7. Comparative Information are presented for all amounts and certain narrative information.
Comparative figures are presented along with the current figures (comparatives = prior year
balance)
8. Consistency of Presentation
Headings and Titles – All information shown in the headings must be displayed prominently and
repeatedly: Name of Reporting Entity, Indication of Group of Entities or not, Date of the End of Reporting
period, Presentation Currency, and the Level of Truncation (Rounding)
• SMEs may combine SCI and SCE IF AND ONLY IF Equity does not have OCI nor treasury shares
Statement of Financial Position
• Aside from the usual items, additional line items may be added in order to add to a better
understanding of the entity
• Current/Noncurrent Distinction – is the general rule, unless a better understanding may be acquired
by omitting the distinction
• Presentation will always be arranged by Liquidity (Convertibility into cash)
• Current Assets
o Expects to realize or intends to sell/consume in the normal operating cycle
o Holds the asset for trading
o Expects to be realized within 12 months after the reporting period
o Asset is Cash or Cash Equivalent (PAS 7) unless restricted for use for more than twelve months
after the reporting period
o Those defined under PFRS 5 as Held for Sale
▪ Liabilities attached to the disposal group HFS will be reported separately, and not offset
against the asset disposal group
• Current Liabilities
o Expects to be settled within the Normal Operating Cycle
o Holds the Liability as a consequence of trading/ for the purpose of trading
o Liability is due to be settled within twelve months after the reporting period
o There is no unconditional right to defer settlement of liability for at least twelve months after
the reporting period
• Non-Current Items – All that do not fall within the definition of Current
• Equity (No minimum line items except for separate movements in NCI and CI for CFS)
Residual Interest in Assets of the firm Reconciliation of shares outstanding at the
Disclose the no. of shares authorized beginning and end of the period
No. of shares issued; fully paid and not fully paid Shares in the entity held by affiliates and non-
Par value per share/shares with no par but stated controlling interests
value Shares reserved for issue/contingent shares
Description of each class of reserve within equity
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Statement of Comprehensive Income

Income Statement and the Statement of Comprehensive Income (Income Statement + OCI)
• Extraordinary Items (Those out of the exhaustive list of the standard) are not allowed
• Minimum Items
Revenue Profit or Loss
Finance Costs Each Component of OCI
Investment Income under Equity Method Share in OCI on Associates, Joint Ventures under
Tax Expenses Equity Method
A single amount on the total post-tax Other Comprehensive Income or Loss
revenue(loss) and post-tax gains(loss) on
discontinued operation
• Disclosures
P/L attributable to Non-controlling interest OCI attributable to Non-controlling interest
P/L attributable to Owners of the Parent OCI attributable to owners of the parent
• Other Comprehensive Income
o Transferred within Equity
▪ Realization in Revaluation Surplus and Revaluation Decrease
▪ Remeasurements in Defined Benefit Plans
▪ Realized Gain or Loss – OCI Equity Instruments
▪ Gains and Losses on Hedging Instruments designated for OCI Equity Instruments
▪ Change in FV of Financial Liabilities attributable to Credit Risk
▪ Changes in Value of Forward elements of forward contracts when separating the
forward and spot element; designating the hedging element to the spot element
o Transferred into P/L
▪ FOREX Translation Gains
▪ Realized Gain or Loss – OCI Debt Instruments
▪ Effective portion of gains and losses on Hedging Instruments in a cashflow hedge
▪ Change in Time Value of Options (Hedging only the Intrinsic Value)
• Presentations
o Nature of Expense Method (Revenues and all Expenses are laid-out in a line)
o Function of Expense Method/Cost of Sales Method (Revenues are placed along with the expenses
that these are matched with)
o Income from Discontinued Operations include changes before and after discontinuation.
…
Profit before Tax XX Sales or Revenue XX
Income Tax Expense (XX) Expenses (XX)
Income from Continuing Operation XX Impairment Loss (XX)
Income from Discontinued Operations, Gain or Loss on Disposal XX
Net of Tax XX
Net Income XX Termination Costs (XX)
Other Comprehensive Income XX Income from Discontinued Operations b4 Tax XX
Income Tax and Other Taxes on OCI (XX) Income Tax on Discontinued Operations (XX)
OCI net of Taxes XX Presentation in Profit or Loss XX
Comprehensive Income XX
Statement of Changes in Equity
• PAS 1 requires the distinction of Changes in Equity from the other financial statements.
• Total Comprehensive Income for the period; separating NI-ATOP; OCI-ATOP
and NI-NCI; OCI – ANCI
• For EACH Component of Equity, effects of Changes in Accounting Policies and Prior Period Errors
• Reconciliation of Beginning and Ending components of each component of equity
• Separately disclosing: P\L, EACH ITEM OF OCI, Drawings and Changes in Ownership Interest
**May be presented in Face or Disclosed; Dividends distributed; Related amounts per share
(Par/Stated/FV)
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Statement of Cash Flows–PAS 7

• A statement analyzing the movement of cash from one period to another
Beginning Cash – Ending Cash = Cash Inflow (Cash Outflow)
• Operating Activities – the Principal revenue-producing activities of the entity
o Direct Method – Cash Receipts & Disbursements are substantiated & disclosed, encouraged by
PAS 7
o Indirect Method – Conversion from Accrual Basis of Accounting to Cash Basis of Accounting
Accrual Basis Net Income XX
Depreciation/Amortization/Depletion/Impairment Add
Discount Amortization Asset Deduct
Discount Amortization Liability Add
Premium Amortization Asset Add
Premium Amortization Liability Deduct
Cash Dividends Add
Share in Net Income of Associate Deduct
Share in Investment Amortization (UV) Add
Share in Investment Amortization (OV) Deduct
Salaries Expense (Share-Based) Add
Unrealized Loss on Investment Property FV Add
Unrealized Gain on Investment Property FV Deduct
Decreases (Increase) in Assets Add
Decreases (Increase) in Liabilities Deduct
Losses (Gains) on Sales and Settlements (Ignore for OCI Equity Instruments) Add
Unrealized Losses (Gains) on T/S through P/L (effected through Assets) Ignore
Realized Losses (Gains) on T/S through P/L (Cashed, and included in income) Ignore
Cash Basis Net Income XX
• Investing Activities – Disposal and Acquisition of Long-term Assets and other investments
• Financing Activities – Transactions that affect the changes in size and composition of Equity and Debt
of the Entity; (if the transaction does not involve cash, ignore)
o Issuances of Equity, Share Redemptions, Debt Issuances, Repayments of Borrowings, Lease
Payments
Interest Received Operating or Investing
Interest Paid Operating or Financing or Investing
Dividend Received Operating or Investing
Dividend Paid Financing or Operating
Tax Refunds Operating or Financing or Investing (Trace the Act.)
Tax Paid Operating or Financing or Investing (Trace the Act.)
Finance Lease Liability Principal Financing
Finance Lease Liability Interest Operating
Finance Lease Receivable Principal Investing
Finance Lease Receivable Interest Operating
Loan Receivable Principal Investing
Loan Receivable Interest Operating
Loan Payable Principal Financing
Loan Payable Interest Operating
Receivable Factoring, w/ or w/o recourse Operating
Receipt of Cash from Pledging Financing
Additional Subsidiary Acquisition – Loss of Financing
Control
Additional Subsidiary Acquisition – No Loss Investing
Partial Disposal (Cessation) – Loss of Control Investing
Partial Disposal (Cessation) – No Loss Financing
**Differs from industry to industry **Subsidiary Transactions are PRESENTED IN SEPARATE FS ONLY
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Other Considerations in the Financial Statements

Notes to Financial Statements
• Additional information to enhance understandability of other financial statements
• Presents information on basis of preparation (Relevant PFRSs and Accounting Policies used)
• Information Required by PFRS not presented in FS
• Order of Presentation
o Statement of Compliance with PFRS
o Summary of Significant Accounting Policies
▪ Use of Professional Judgment
▪ Expression of Estimations under Uncertainty
o Supporting Information or Computations for EACH Line Items presented in FS
o Other Disclosures such as for Contingent Liabilities, Contracts, and non-financial disclosures
Events after the Reporting Period PAS 10
• Events which could either be favorable or not that occurs between the period end and the date that
the financial statements are authorized for issue
Adjusting Events (Type 1) – FS need to be adjusted;
o these are events that occur after the report date, but before the Statements are authorized for
issue; AND
o they refer to facts and circumstances that existed in the current period (a good clue for these
events is that journal entries have been recorded for their eventual occurrence)
Non-adjusting Events (Type 2) – No Adjustment, but disclosure required
o these are events that occur after the report date, but before the Statements are authorized for
issue; BUT
o they DO NOT have any facts or circumstances that existed in the current period
Type 1 Type 2
Loss on receivables from Major Customer’s Decline in Market value of Investments
Bankruptcy
Settlement of Litigation for an amount different Sale of Bonds/Stock Issue
from estimate
Settlement of recorded year-end estimated Declaration of Dividends
product warranty liabilities
Determination of profit-sharing bonus payments, Business Combination
having recognized a constructive obligation to
make such payments
Discovery of Fraud and Errors Settlement of a litigation giving rise to a claim
for the next period
Investment disposal or disposal of obsolete Commencement of litigation after reporting
inventory period
Disposal of a Segment that is significantly Loss of PPE and Inventories due to acts of nature
impaired and has been incurring losses Loss on receivables arising from conditions
subsequent to reporting period
• A Quitting-concern is when an entity chooses to liquidate; traditional FS shall not be prepared on
this basis anymore either if it chooses to do so on its own or if it has no other choice but to do so
• Type 2 Events disclose the Nature of the Event, Estimate of its Financial Effect, or a statement as to
the measurability of the effect
Related Party Disclosures PAS 24
• A person or entity related to the entity that is preparing its FS is considered a related party
A person or close member of that person’s family that possesses/is a
a. Control/ Joint Control
Persons b. Significant Influence
c. Member of Key Management Personnel of the reporting/parent of the reporting
entity
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a. Entity and Reporter are of the affiliates of the same group

b. Entity and Reporter are joint ventures of the same third parties
c. Either entity or reporter fills these roles from a third-party: JV or Associate or Member
Other
d. Entity is a Post-employment Defined Benefit Plan
Entities
e. Entity and reporter are under control, joint control, significant influence of a single
person
f. Family Members and Dependents of Key Management personnel
• Related-party transaction – a transfer of resources, services or, obligations regardless of price
• Group – refers to subsidiaries under a Common Parent; and Joint Ventures under a Common Venturer.
o Significant Influence will be included in the Group if either the Ultimate Parent or one of the
Subsidiaries acquires Significant Influence over another entity
o Mere Significant Influence is not enough to establish a group
Not a. Co-venturers as to each other
Related b. Major Suppliers
Parties c. Major Customers
d. Entities under a Common KMP (under an Interlocking Employee or Director)
e. Entities under a common Investor with only Significant Influence
Disclosure Requirements
• Relationship between parties (regardless if there are transactions between them)
o Nature of relationship
o Transactions and outstanding balances and commitments
Amount of transactions Provisions for Doubtful Debts
Terms and Conditions Bad Debt Expenses
Details of guarantees
• Name of Parent/Ultimate Controller
o Parent/Ultimate Controller have no FS for public use, name of next most senior
parent/immediate parent with available FS for public use
• No such disclosures are presented in the Consolidated Financial Statements, only in the SFS
• On Government Entities – Nature of Relationship and Name of Agency
• On Key Management Personnel – Their Compensation in Total and per Category (Pension and SBP)
Changes in Accounting Estimates PAS 8
• Changes in the Carrying Amount of Assets, Liabilities, or how these are accounted for and allocated
• Applied Currently and Prospectively
Inventory Write-down Warranty Costs
Depreciation Estimates Changes in Fair Value of Financial Instruments (Fair
Bad Debts, and Estimation Methods Value Quotations and Reclassifications
• The changes are reported in Profit or Loss that affects the current period and future periods (If
Deferrals and Accruals were recorded and are in place)
Changes in Accounting Policies PAS 8
• Changes in the rules applied for accounting transactions
• Encompasses specific principles, bases, conventions, rules, and practices applied by an entity
• Should not be frequently done
• Applied Retroactively and Retrospectively voluntarily, unless a guideline is provided by a standard
Changes in Inventory Flow (FIFO to Weighted Average)
Change from Cost-Recovery to Percentage of Completion (Long-term Construction Contracts)
Change from Cost model to Revaluation model of PPE
Change from Cost model to Fair Value model for Investment Property
Change to a New policy resulting from a new PFRS Standard (PAS 39 to PFRS 9; PFRS 4 to PFRS 17)
Change from Equity Method to Consolidation Method (a.k.a. Change in reporting Entity) (PFRS 3, 10)
• Always adjusted to Retained Earnings, Beginning, effected from earliest instance of error
Retrospective application is not required if:
• Effects of retroactivity cannot be determined
• Retrospection requires assumption of management’s intention that would have been taken
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• Retrospection requires a significant estimate, so much so that the cost of acquiring the information
exceeds the benefits it provides
• Evidence could not be substantiated to apply retrospection
Prospective Application – Done for new accounting policies, and applied to the earliest period possible
Cash to Accrual Basis of Accounting
**All Amounts refer to Subsidiary Ledger Accounts unless otherwise indicated
Receivables and Advances
Beginning Balance Receivables Ending Balance, Receivables
Ending Balance Advances Beginning Balance Advances
Credit Sales Sales Discounts, Returns, Allowances
Recoveries Collections and Recoveries
Write-offs
Doubtful Accounts
Write-offs Beginning Balance
Ending Balances Doubtful Accounts Expense
Recoveries
Payables and Advances
Beginning Balance, Advances Beginning Balance, Payables
Ending Balance, Payables Ending Balance, Advances
Purchase Discounts, Returns, Allowances Credit Purchases
Inventories
Beginning Balance Ending Balance
Purchases, Net* Raw Materials Used*
Total Manufacturing Cost** Cost of Goods Manufactured**
Total Goods Available for Sale*** Cost of Goods Sold***
!!! Inventory Write-down is included in Cost of Goods Sold in some cases
Property, Plant, and Equipment/Intangibles
Beginning Balance Disposed Asset
Asset Acquired Ending Balance
Accumulated Depreciation and Amortization
Ending Balance Beginning Balance
Depreciation/Amortization of Asset Disposed Depreciation Expense (Old and New)
Accrued and Deferred Income
Beginning Balance, Accrued Income Ending Balance, Accrued Income
Ending Balance, Deferred Income Beginning Balance, Deferred Income
Accrual Income Cash Income
Accrued and Prepaid Expense
Beginning Balance, Prepaid Expense Ending Balance, Prepaid Expense
Ending Balance, Accrued Expense Beginning Balance, Accrued Expense
Cash Expense Accrued Expense
Retained Earnings
Ending Balance Beginning Balance
Prior Period Error Prior Period Error
Dividends Declared Net Income
Appropriations Other Comprehensive Income
Cash
Beginning Balance Ending Balance
Collections and Other Receipts Disbursements
Net Assets
Increase in Assets Decrease in Assets
Decrease in Liabilities Increase in Liabilities
Dividend Declaration Increase in Equity
Net Loss Net Income
171 Auditing & Financial Accounting and Reporting

Reconciliation of Cash Basis of Accounting to Accrual Basis of Accounting

Cash Basis Income XX Cash Basis Expense XX
Ending Receivables XX Ending Payables XX
Beginning Advances XX Beginning Advances XX
Sales Discounts XX Purchase Discounts XX
Sales Returns and Allowances, NO XX Purchase Returns and Allowances, XX XX
REFUNDS NO REFUNDS
Write-offs XX XX Total XX
Total XX Beginning Payables XX
Beginning Receivables XX Ending Advances XX (XX)
Ending Advances XX Accrual Basis Purchases XX
Recoveries XX (XX)
Accrual Basis Sales XX

Net Sales:
Accrual Basis Sales XX
Sales Discounts (XX)
Sales Returns and Allowances (w/ Refunds) (XX) XX
Cost of Sales:
Accrual Basis Purchases XX
Purchase Discounts (XX)
Purchase Returns and Allowances (w/ Refunds) (XX)
Net Purchases XX
Beginning Inventory XX
Ending Inventory (XX) XX
Gross Profit XX
Operating Expenses (XX)
Depreciation (XX)
Net Income XX
** No Bad Debt Adjustments since as an estimate from Accrual Basis, no Expense could have been
recognized in Cash Basis (A/R does not Exist in Cash Basis)
** Cash Refunds are not included in reconciling since these are already adjusted in the Cash Basis Income
** Refunds are returned in Accrual income since the accrual basis amounts are Grossed
**Depreciation Expense and Amortization Expense is Allowed in Cash Basis
Single Entry Bookkeeping
Net Income is generally determined using Capital Maintenance Approach
Net Assets
Increase in Assets Decrease in Assets
Decrease in Liabilities Increase in Liabilities
Dividend Declaration Increase in Equity
Net Loss Net Income
The procedure resembles reconciling Cash to Accrual Basis since the data that could only be worked
with are changes in the balance sheet. As such, there is no running data for Income Statement Items.
On Cashflows, Error Correction, and Cash to Accrual basis Accounting,
N.B. Deferred Tax Assets and Liabilities are considered Current Tax Benefits and Expenses under the
Cash Basis of Accounting; furthermore, these are offset. Under a cash-basis financial statement, these
two are offset. (In an accrual basis income statement, DTA and DTL are not offset, but prepaid taxes
are considered current tax benefits, while accrued taxes are considered current tax expenses.)
N.B. If the problem presents an unadjusted or adjusted trial balance, the nominal accounts are not yet
closed to retained earnings. In a post-closing trial balance, the nominal accounts are closed.
N.B. Some adjustments only apply to balances (ends and beginnings), and some only to the nominal
accounts

NOTES
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Error Correction–PAS 8
Prepayment Pre-collection Acc. Exp Acc. Revenue
CBE
Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2
Expense O U - - U O - -
Asset U X - - - - U X
Revenue - - O U - - U O
Liability - - U X U X - -
Net Income U O O U O U U O
Closed R/E U X O X O X U X
Wk. Capital U X O X O X U X
DR(CR
) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR)
JOURNAL AST R/E INC R/E EXP R/E AST INC
ENTRIES (EXP) (EXP) (LIA) (INC) (LIA) (EXP) (INC) (R/E)
*UNEXPIRE *UNEXPIRED *UNEXPIRED *UNEXPIRED *ENTIRE *ENTIRE *ENTIRE *ENTIRE
D PORTION PORTION PORTION PORTION ACCRUAL ACCRUAL ACCRUAL ACCRUAL
Adv. Fr.
CBE Customer Adv. To Supp. Unrecorded Sales Unrecorded Purch
Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2
Sales O U - - U O - -
A/R - - - - U X - -
Purchases - - O U - - U O
A/P - - - - - - U X
AFC O X - - - - - -
ATS - - O X - - - -
Net Income O U U O U O O U
Closed R/E O X U X U X O X
Wk. Capital O X U X U X O X
DR(CR) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR) DR(CR)
SALES R/E ATS PURCH A/R SALES PURCH R/E
JOURNAL (PURCH
ENTRIES (AFC) (SALES) ) (R/E) (SALES) (R/E) (A/P) (PURCH)
*ENTIRE *ENTIRE *ENTIRE *ENTIRE *ENTIRE *ENTIRE *ENTIRE
ACCRUAL ACCRUAL ACCRUAL ACCRUAL ACCRUAL ACCRUAL ACCRUAL *ENTIRE ACCRUAL

COUNTERBALANCING Understated Ending Inventory Overstated Ending Inventory

**NONCOUNTERBALANCING Year 1 Year 2 Year 1 Year 2
COGS O U U O
Inventory, ending balance U X O X
Net Income U O O U
Closed Retained Earnings U X O X
Working Capital U X O X
DR(CR) DR(CR) DR(CR) DR(CR)
JOURNAL ENTRIES MI MI, B COS R/E
(COS) (R/E) (MI) (MI,B)
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Prepayments - Asset Method Pre-collections - Liability Method

NCB
Year 1 Year 2 Year 1 Year 2
Expense U U - -
Asset O O - -
Revenue - - U U
Liability - - O O
Net Income O O U U
Closed Retained
Earnings O O U U
Working Capital at Year
End O O U U
DR(CR) DR(CR) DR(CR) DR(CR)
EXP EXP (EXPIRED) LIA INC (EXPIRED)
JOURNAL ENTRIES
(AST) R/E (INC) (R/E)
*EXPIRED PORTION (AST) TOTAL *EXPIRED PORTION (LIA) TOTAL
Understated Depreciation Expense Overstated Depreciation Expense
NCB
Year 1 Year 2 Year 1 Year 2
Depreciation Expense U X O X
Accumulated
Depreciation U U O O
Net Income O X U X
Closed Retained
Earnings O O U U
DR(CR) DR(CR) DR(CR) DR(CR)
JOURNAL ENTRIES DEPEX R/E A/D A/D
(A/D) (A/D) (DEPEX) (R/E)
Understated Bad Debts Expense Overstated Bad Debts Expense
NCB
Year 1 Year 2 Year 1 Year 2
Bad Debts Expense U X O X
Allowance for Bad
Debts U U O O
Net Income O X U X
Closed Retained
Earnings O O U U
Working Capital End O O U U
DR(CR) DR(CR) DR(CR) DR(CR)
JOURNAL ENTRIES BDEX R/E ADA ADA
(ADA) (ADA) (BDEX) (R/E)
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Expense Erroneously Capitalized Expenditure Erroneously Expensed

NCB
Year 1 Year 2 Year 1 Year 2
Expense U X O X
Depreciation Expense O O U U
Net Income O U U O
Closed Retained Earnings O O U O
PPE O O U O
Accumulated
Depreciation O O U O
DR(CR) DR(CR) DR(CR) DR(CR)

EXP R/E PPE PPE

PPE PPE EXP R/E
JOURNAL ENTRIES
A/D A/D DEPEX DEPEX
DEPEX R/E A/D R/E
DEPEX A/D
Cash Proceeds on PPE Sale Erroneously Classified as Income and Closed
Year 1 Year 2
Income O X
Loss on Sale (More often than not) U X
Net Income O X
Closed Retained Earnings O O
Working Capital at Year End X X
PPE O O
A/D O O
DR(CR) DR(CR)
Other Income -
Proceeds R/E = (Proceeds + Loss - Gain)
JOURNAL ENTRIES A/D A/D
Loss on Sale PPE
PPE - Cost
Gain on Sale (If Ever)

1. Year 1 and Year 2 are independent cases. If the error is corrected in Year 1, there is no effect in
Year 2
2. If the error is not corrected in Year 1, the effect will persist in Year 2, instead of Income being
affected, the charge will be done against Retained Earnings as a prior period error
3. Corrections in the SFP Deferral Accounts still have effects on Net Income because the Asset is
assumed to have expired entirely on the second year, having only the expired and unrecorded
portion on Retained Earnings and the rest as reflected appropriately in Year 2 income.
4. For Counterbalancing Errors – If the Error has not counterbalanced yet, it will affect unadjusted
retained earnings. If they have counterbalanced, there is no effect on retained earnings.
5. Working Capital, will generally not include Non-counterbalancing errors.
6. For Non-counterbalancing Errors, if a non-current asset/liability is retired, the entire error is
counterbalanced for as long as the initial carrying amount is correct. (This means that the
method of amortization is the only item incorrect)
7. Changes in Accounting Principles or Reporting Entity will have the same effect as any other
prior period error. As such, some may be counterbalancing such as changes from FIFO inventory
to WAVG, or non-counterbalancing such as Investment in Subsidiary into Consolidated balances.
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Special Reporting Concerns

Operating Segments–PFRS 8
Operating Segment Reporting is engaged with by entities with diversified operations, usually
international in scale (taking note of significant geographical considerations)
• A component of an entity engaging in business activities (earning revenues & incurring expenses)
• A component whose results are evaluated by a Chief Operating Decision Maker
• That which has financial information/data about it available
The Chief Operating Decision Maker:
o Identifies a role, but not a specific title
o Functions to allocate resources, and assesses performance
o Takes information usually from internal management reporting to some extent
Quantitative Thresholds
• Segment revenue (Intersegment sales and External Sales and transfers) comprises 10% of combined
revenue of all segments (including all Intercompany Transactions)
• Absolute profit or loss is 10% or more of the greater of Combined Profit or Combined Loss
If losses are larger, the absolute value of the loss. If profits are larger, value of profit. NEVER COMBINE
• Assets of the Segment comprise 10% of all Operating Segments
• On the discretion of the Chief Operating Decision Maker
• 75% of Entity Revenue
o IF the Total External Revenue of the Segment LESS than 75% of Entity External Revenue,
additional operating segments shall be identified and aggregated as reportable even if these do
not meet the quantitative thresholds cited above (Exclude Intercompany Revenues)
o Done to represent faithfully the magnitude of diversified operations
• If there are more than 10 segments, the standard suggests that the information may become too
detailed to be understandable, and loses usefulness
• Two or more segments may be aggregated if these are similar in majority of respects:
o Nature of Product, Process, Class of Customers, Marketing Method, Regulatory Framework
o May be done to make a segment reach the 75% Quantity Threshold
• All other segments that do not meet reporting criteria are aggregated into “Other Segments”
Disclosure Principles
• Providing a holistic understanding an entity under specific circumstances brought about by
compliance requirements and diversified operations
• Applied to SEPARATE FINANCIAL STATEMENTS AND CONSOLIDATED FINANCIAL STATEMENTS of the
Parent Entity (If both SFS and CFS hold Operating Segments, disclosures are included in the CFS)
o If a financial report contains both, it may only appear on the consolidated financial statements
o Debt and Equity instruments MUST be traded in a public market
o Files or is filing the Conso. FS w/ SEC or other regulatory orgs for issuances of instruments
• General Information about Segment
o Factors (Threshold and Discretion) to identify reportable segments
o Types of products/services done to derive revenue
• Information about Segment Profit or Loss (e.g., Branch Net Income)
• Information about Assets and Liabilities of Segment
• Reconciliations of Segment Revenues, Expenses, Assets, Liabilities, etc. against Entity’s FS
Total Revenue Total Assets and Liabilities
P/L before Income Tax & Discontinued Operations Other Material Item of Information
Entity-wide Disclosures
• Additional Information required to be disclosed by all entities if such information is not provided as
part of the reportable segment information
• Products/Services, Geographical Areas, Major Customers
o Major Customer – Major party accounting for 10% or more of an entity’s EXTERNAL Revenue
o Discloses the reliance thereto, Total Revenue, Identity of Segment reporting the revenue (Not
Required, but recommended)
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A B C D E F G H I Is Total External Revenue

less than 75% of Total Revenue?
10% Combined Revenue? / / / X X X / / X If Not, then ABCEFGH are reportable.
10% of P/L? / / X X X / / / X If Yes, then DI must be assessed if it can be combined
together (and meet other thresholds) to meet 75% in
10% of All Assets? / / / X / / / / X Overall Size. 3 out of 5 characteristics must be similar
Reportable? / / / X / / / / X enough to allow combination.

Interim Reporting–PAS 34
• Preparation of FS for periods of less than a year
• Interim Reporting is allowed for compliance with necessary agencies such as BIR, SEC, and non-
extensive audit procedures
• Not mandated by the standard; merely a compromise for reporting and regulatory agencies
Integral View
• Each Interim period is an integral part of the annual accounting period; each period builds up on
another to form an annual accounting period
• Annual Operating Expenses are estimated and then allocated based on forecasted revenue
• Periods that enjoy the benefit of a cost share in a single annual cost
Independent/Discrete View
• Each Interim period stands on its own, as if an interim period were a single fiscal year
• No estimations are prepared, unless allowed for annual reporting (Bad Debts, Depreciation)
• Periods in which an expense is incurred will solely shoulder that cost
**Neither views are expressed in the standard; hence Cost and Revenue Recognition Principles prevail
over the views on interim reporting
**The standard does not discourage detailed and complete reporting
**The standard however, assumes that the entity has access to its earliest records along the year
Components of Interim Reports
• Condensed Statement of Financial Statements
o Each of the headings and subtotals do not require great detail unless specifically required by
some other standard or regulatory body (SFP, SCI, SOCE. SCF, Selected Explanatory Notes)
• Selected Explanatory Notes
o Avoid excessive/repetitive reporting by not providing the same notes in the interim statements
in the annual report
• Required Disclosures
o Inventory Write-down, Impairment Losses, Reversals on Debt Restructuring, Acquisition and
Disposal of PPE, Purchase Commitments on PPE, Litigation Settlements, Corrections of Prior
Period Errors, Debt Default/Breach of Debt Covenants, Related Party Transactions
Presentation Principles
• Same Accounting Policies are applied consistently and will be no different once aggregated, to the
annual results, therefore, measurements should be on a Year-to-Date Basis
• Revenues are recognized as they are earned on the same period
• Costs and Expenses are recognized as incurred
o Directly Matched Expenses – recognized with revenue as earned
o Indirectly Matched Expenses - Recognized in the period incurred or allocated over those periods
benefitted
• For entities with business cycles (seasonal activity) financial information is encouraged to be
disclosed of the latest 12 months, and the comparative information for the prior comparable 12-
month period
• The Statement of Financial Position is an “As of” Statement, hence, the amounts are cumulative
• The Statements of Comprehensive Income, Cashflows, and Changes in Equity are “Period Ended”
Statements, hence the amounts do not cumulate
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Comparative Interim Statements: Calendar Year

Statement Interim Period Annual
SFP (As of) End of Current Interim Period End of Prior Year
SCI (For the Period Ended) End of Current Interim Period & Same Interim Period Prior Year
Cumulative to Date &
Cumulative Same Interim Period
SCE (As of) Cumulative to Date Cumulative Same Interim Period
SCF (As of) Cumulative to Date Cumulative Same Interim Period

Account/Transaction Treatment View

Inventory Write-down Recognize even if temporary or Discrete View
not, reversal applies to
NEXT/FUTURE interim period
Seasonal/Occasional Recognize in the period earned Discrete View
Revenue only
Uneven Costs Depends on Matching Principle Integral View
Employee Bonuses Usually allocated Integral View
Depreciation/Amortization Counts on when asset is acquired Integral View
Paid Vacation Leave Allocated Integral View
Prepaid and Income Taxes Allocated Integral View
Contingent No restatement, report Discrete View
Liabilities/Expenses adjustments in period applicable
Gains & Losses, In Period earned/incurred Discrete View
Impairment
Change in Accounting Retroacts to beginning, No Effect in Income Statement,
Policy adjustments done in interim Discrete View or Integral View
Change in Estimates Prospectively Discrete View
**Combine the effects of the transactions with the comparative information presentation principles to
arrive at the REPORTED AMOUNTS. (Not necessarily corrected amounts)
Accounting Standards for SMEs
The IASB defines SMEs as entities that do not have public accountability but publishes general purpose
financial statements for external users. An entity has public accountability if:
• Its debt or equity instruments are traded in public market or it is in the process of issuing such
instruments for trading in the public market
• It holds assets in fiduciary capacity for a broad group of outsiders as one of the primary businesses.
i.e., banks, credit unions, insurance companies, securities dealers or brokers, mutual funds, and
investment banks.
The SEC defines the following:
Medium Entity Small Entity
Total Assets or Liabilities of P100M to P350M Total Assets or Liabilities of P3M to P100M
Not required to file FS under SEC rule 68.1 (They are not Listed Entities)
Not in the process or has no plan of filing financial statements for the purpose of issuing any class of
instruments in a public market (Listed Entities are those whose Assets are of at least P50M, with 200
or more Shareholders, owning 100 shares each)
Not a holder of secondary licenses issued by regulatory agencies such as banks, investment houses,
insurance companies, finance companies, securities broker or dealer, mutual fund, and pre-need
company
Not a Public Utility
Exemptions from Applying PFRS for SMEs:
• A subsidiary of a parent reporting under the full PFRS
• A subsidiary of a foreign parent that will be moving toward full IFRS pursuant to the foreign country’s
published convergence plan
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• It is a subsidiary of a foreign parent that has been applying the standards for a non-publicly accountable
entity for local reporting purposes and is considering moving to full PFRS instead of the PFRS for SMEs
• It has short-term projections that show that it will breach the quantitative thresholds set in the criteria
for an SME, and the breach is expected to be significant and continuing
• It is part of a group, either as a significant joint venture or an associate, which is reporting under the
full PFRS
• It is a branch office of a foreign entity reporting under the full IFRS
• It has concrete plans to conduct and initial public offering within the next 2 years
• It has a subsidiary that is mandated to report under the full PFRS
• It has been preparing financial statements using the PFRS and has decided to liquidate its assets
Transitions from Full PFRS to PFRS to SMEs
If an SME that uses the PFRS for SMEs in a current year breaches the floor and ceiling size criteria at the
end of the current year, the entity shall be required to transition to the full PFRS in the next year if the
ceiling threshold is breached or another acceptable accounting basis if the floor threshold is breached
On the other hand, if an SME ceases to qualify as an SME because its total assets or liabilities fall below
the floor of the criteria, such entity may transition into another acceptable accounting basis also in the
next accounting period unless the micro-entity opts to still adopt the PFRS for SMEs
Full PFRS vs PFRS for SMEs and SEs
Full PFRS PFRS for SME PFRS for SE
Conceptual Framework – Qualitative Characteristics
More Detailed Less Detailed None
Conceptual Framework – Measurement
Historical Cost and Updated N/A N/A
Value
FS Presentation – Presentation of Additional Balance Sheet
Required under certain cases N/A N/A
FS Presentation – Presentation of Comprehensive Income
Comprehensive income is always If it has no OCI Items, it may only No concept of Comprehensive
required present P/L income and does not require to
present such statement

Components of OCI and OCL

• Revaluation Surplus • Revaluation Surplus N/A
• Unrealized Gain or Loss OCI • Unrealized Gain or Loss OCI
• Remeasurement Gain or Loss • Remeasurement Gain or Loss
on Defined Benefit Plans on Defined Benefit Plans
• FOREX Translation Gain or Loss • FOREX Translation Gain or Loss
• Effective portion on Hedging • Effective portion on Hedging
Instrument Cashflow Hedge Instrument Cashflow Hedge
• Change in FV of Financial
Liability due to Credit Risk
• Changes in Time Value of
Option where Intrinsic Value is
the hedging Instrument
• Changes in the Forward
Element of a Forward Contract
when splitting with the Spot
Element that is designated as
a hedging instrument

Minimum Line Items in the SFP

Explicit in PAS 1 Explicit in Sec. 4 of PFRS for SME N/A
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Prescribed Order of Presentation in SFP

Current-Non-current or Order of Current-Non-current or Order of No Explicit mention
Liquidity Liquidity
EPS
Required under PAS 33 Omitted Omitted
Presentation of Changes in Equity
Required under PAS 1 If only changes to equity in the If only changes to equity in the
current period is P/L, Dividends, current period is P/L, Dividends,
Prior Period Errors, Changes in Prior Period Errors, Changes in
Accounting Policy, it may be Accounting Policy, it may be
combined with P/L combined with P/L
Statement of Cashflows
PAS 7 encourages use of direct No explicit mention as to direct No explicit mention as to direct
method or indirect or indirect
Notes to Financial Statements
Voluminous, complex and Reduced, simplified with Simple and minimal with no
detailed with disclosures of disclosures of judgments and disclosures of judgments and
judgments and key estimates key estimates key estimates
Revenue Recognition
Apply PFRS 15 Apply simple principle of Apply simple principle of
transfer of risk and rewards (US transfer of risk and rewards (US
GAAP) GAAP)
Non-current Asset Held for Sale
Apply PFRS 5 No similar classification No similar classification
provided provided
Operating Segments
PFRS 8 required for listed No disclosure required No disclosure required
entities
Condensed FS - Interim Reporting
Apply PAS 34 No similar provisions No similar provisions
Financial Instruments
Apply PFRS 9 Classifies Financial Instruments Classifies Financial Instruments
as either Basic or non-basic; as either Basic or non-basic
basic instruments are those that
are commonly known, and have
no attached derivatives.
• Cash
• Demand and Fixed Term Deposits in
Banks
• Trade Accounts and Notes
• Loans
• Commercial Papers
• Investments in Non-puttable Ordinary
Shares
• Investments in non-convertible and non-
puttable preference shares
• Commitment to receive a loan if the
commitment cannot be net settled in
cash
• Accounts Payable in Local and Foreign
Currencies
• Loans from Banks and other Third Parties
• Bonds and Similar Debt Instruments
• Loans to or from subsidiaries or
associates that are due on demand
Subsequent Measurement – PFRS 9
FVPL & OCI at FV Debt Instruments – AC only Debt Instruments – AC only
FAAC – Amortized Cost Equities: FV if publicly traded or Equities: FV if publicly traded or
measured reliably, Cost if not measured reliably, Cost if not
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Election to Measure at P/L

Allowed if it eliminates No similar provisions No similar provisions
mismatch
Investment in Associates and JV
Equity Method only Cost, FV, Equity Method Cost or Equity Method
Implicit Goodwill is included in Goodwill is recognized and Goodwill is recognized and
Carrying amount and not amortized over the lower of 10 amortized over the lower of 10
separately accounted for year or its useful life year or its useful life
Difference in accounting period No similar provisions No similar provisions
is tolerable for up to 3 months
Inventories – Subsequent Measurement
Subsequently measured at Subsequently measured at Lower of Cost or Market Value,
LCNRV LCNRV where the NRV < Market value <
(MV-Margin)
Agriculture
Bearer Plants are PPE No similar provision No similar provision
Biological Assets are measured Fair Value (determinable with Apply Current Price Model or
at FVLCTS undue cost or effort) Cost Model
FV is prima facie determinable Cost less Depreciation and Subsequently measured at
Impairment if FV cannot be Current Market Price; under
determined Cost model it is less DEPEX and
I/L.
Intangibles
Research and Development Always expensed Always expensed
generally expensed/capitalized
Intangibles are amortized if they All intangibles can be amortized All intangibles can be amortized
have a finite life; indefinite life either at the lower of 10 years either at the lower of 10 years
is checked for impairment or estimated life or estimated life
Goodwill
Arises only from business Arises only from business Arises only from business
combination combination and can be combination and can be
amortized either at the lower of amortized either at the lower of
10 years or estimated life 10 years or estimated life
Annual review of Amortization
Reviewed Annually (PAS 16 and Review only if indicators exist Review only if indicators exist
PAS 38) since the most recent report since the most recent report
date date

Government Grants
Apply PAS 20 either Grant Asset No Distinction made No Distinction made
or Grant Income
Matched, amortized over a Recognized only if Recognized only if
systematic basis • Unconditional • Unconditional
• Condition is met • Condition is met
• A liability is recognized until • A liability is recognized until
compliance compliance
Borrowing Costs
Capitalized Expensed Expensed
Employee Benefits
Defined contribution plans may No discounting needed No discounting needed
be discounted if they do not fall
due wholly within 12 months
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Defined benefit plans are Projected unit credit method is Apply accrual approach in
measured using projected unit used only if it is doable without accordance with R.A. 7641;
credit method undue cost or effort; Actuarial Actuarial G/L may be reported
G/L may be reported P/L or OCI in P/L
Leases
Classification of Leases either at Classification of Leases either at No classification provided
Operating Lease or Finance Operating Lease or Finance
Lease Lease
Lessee must always account for Lessee must account for the Lease Payments are recognized
the lease as a finance lease lease either as a finance or as expense by the lessee
operating lease
Sales and Leaseback must Use PAS 17 No Provision
qualify both under PFRS 15 & 16
Events after the Reporting Period - Declaration of Dividends after Reporting Period
Non-adjusting event and Non-adjusting event and Non-adjusting event and
disclosed disclosed, but the entity has an disclosed, but the entity has an
option of presenting dividend as option of presenting dividend as
a segregated component of a segregated component of
retained earnings at the end of retained earnings at the end of
the reporting period the reporting period
(Appropriation of R/E) (Appropriation of R/E)
Related Party Disclosures
Key Management compensation Key Management compensation Key Management compensation
is required to be disclosed in is disclosed only in total is disclosed only in total
total and for each of the
following categories: SPOTS
(Short-term benefits, Post-
employment, Other long-term
Benefits, Termination Benefits,
and Share-based Pmt.)
Impairment
Value in Use is computed using a No Limit in projection No Limit in projection
projection not exceeding 5
years. Excess is extrapolated
Impairment loss is in P/L unless Recognized in P/L unless offset In P/L Only
carried at a revalued amount against Revaluation Surplus
Reversal to Goodwill– not Reversal to Goodwill– not Reversal on Goodwill is allowed
allowed allowed
IFRS vs US GAAP
IFRS US GAAP
Share-based Compensation
Use only fair value approach; intrinsic value Use intrinsic value method or fair value method;
method is not allowed (PFRS follows a fair prefer fair value method if applicable
presentation framework and may use US GAAP).
Compensation expense may only be recognized on Compensation expense may be recognized either
an accelerated basis an accelerated basis or straight-line amortization
basis (SL is applied in the illustrations of this text)
Intangible Assets
Cost, Fair Value, Revaluation Models allowed Only Cost model allowed
Research Cost is expensed Research Cost is Expensed
Development Cost is capitalized based on criteria Development cost is generally EXPENSED except
(see Intangibles) for Software Development Costs and Graphical
Multimedia arts that follow the IFRS Criteria (see
Intangibles)
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Inventory
IFRS prohibits LIFO (Uses LCNRV on all cost flows) US GAAP allows LIFO (Uses LCM under LIFO)
Inventory can recover losses from Write-downs Inventory can only recover losses from write-
regardless of time-period. downs only if the recovery occurs in the same year
as the loss; any recovery beyond the fiscal year is
not recognized.
Biological Assets
Distinct from Inventory, with own standard Considered as Inventory,
Contingent Liabilities
Recognized when more likely than not (>50%) Recognized when more likely than not (>75%)
Leases
IFRS does not distinguish between operating and US GAAP distinguishes between Operating Lease
finance leases. and Finance Lease;
• Finance Leases apply effective interest
In the cases of low-value leases (IAS 17), in which method in amortizing the lease
Lease Accounting under IFRS 16 does not apply • Operating Leases are determined in the same
(see Leases) manner as Finance Leases under IFRS,
however, the Lease is amortized over a
straight-line basis. Interest and Rent
combined in a single flow of payment.
Income Taxes
Deferred Tax Assets are recognized only when Deferred Tax Assets are recognized regardless of
probable benefit is present likelihood of use
Valuation Allowance is separately presented Valuation Allowance is offset
Long-lived Tangible Assets (PPE)
Separate Depreciation for Component Assets are A single rate of depreciation is appliable to an
encouraged and may be used asset that include components which would
otherwise have been separately depreciated
under IFRS.
Cost, Fair Value, Revaluation Model Allowed Cost Model Only
Investment Property
Distinct from PPE Not Distinct from PPE
Borrowing Cost
IFRS only allows specific borrowing of loans to be US GAAP allows both general and specific loan
capitalized sources to be capitalized (see Borrowing Costs)
Impairment
Impaired at a CGU Level Impaired at an individual Asset Level
A One-step test is taken: A Two-step test is taken:
• Recoverable Amount is determined • Recoverability Test – Future undiscounted
• It is the higher of the FV of CGU or cashflow vs Book Value (FUCF < BV, proceed
• Value in Use to step 2
• Determine Fair Value: (in order)
o Quotations
o Appraisals
o Discounted Cashflows
• Asset with indefinite life takes one-step test
Reversals are allowed Reversals are not allowed
Goodwill is tested indirectly (Subsumed into the Goodwill is tested directly (Treated as its own
CGU) asset)
Financial Instruments
Debt Instruments: P/L, AC, OCI Allowed Debt Instruments – Same with IFRS
Equity Instruments: P/L, OCI, Cost, Equity Equity Instruments
methods allowed (Wider scope) • FV) AFS, Cost, Equity Method only.
• URGPL and OCI are both allowed
 Practical Auditing of Financial Statements and Accounts – :)(:, CPA, CTT, CMA
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• Dividend Income follows the investment • URG P/L not allowed; URG-OCI is directly
• Cost Method is allowed only when FV is not credited to Equity
readily determinable • Dividend Income in PL
• No guidance yet on FV Elect/Mandatory on • Cost Method strictly limited: (No ready FV or
Step acquisition to significant influence Net Asset Valuation is not possible)
Comparative Financial Statements
2 Years of comparison allowed 3 years of comparison is required
Current and Non-current Distinction
Current Assets typically first (Or any other Non-current assets first
form of presentation that facilitates better
understanding)
Statement of Cashflows
Interest Income, Interest Expense, Dividend Interest Income, Interest Expense, Dividend
Income can be flexibly assigned depending on Income are strictly Operating Cashflows
actual purpose.
Interim Reporting
Takes Discrete view more prominently (PFRS Takes Integral view more prominently
takes both views as necessary)
Compliance Requirements
Management Discussion and Analysis (MD&A) Management Discussion and Analysis (MD&A)
is not required is required
Non-standardized metrics/KPIs are allowed to Non-standardized metrics/KPIs are not
be interfaced with the Financial Statements allowed to be interfaced with the Financial
themselves Statements themselves
Alternative EPS allowed Alternative EPS not allowed
**Alternative EPS considers unusual items in the EPS computation if it facilitates better faithful
representation of economic events.
• GAAP or IFRS EPS – (See Earnings per Share)
• Ongoing EPS or Pro-forma EPS – excludes one-time gains and losses (helps in determining future
income)
• Retained EPS – deducts dividends paid from Net Income. (helps in faithful representation for
Growth Stock Companies rather than Paying Stock Companies)
• Cash EPS – uses operating cashflow as basis for earnings (helps in determining future
cashflows); it is also quite difficult to manipulate or distort earnings under cash basis.
In order to present the Alternative EPS:
• A reconciliation between Earnings figure in the Statement of Total Comprehensive Income and
EPS figure in the alternative EPS is required for disclosure
• The Alternative EPS is not presented in the face of the Income Statement or SCI.
• Both basic and diluted EPS are presented with equal prominence
• The alternative figures are only found in the notes to financial statements.
Substantive Tests for the Income Statement and Cashflow Statement
Audit Objectives
• Operating Expenses represent all amounts incurred for period-type expenditures (revenue
expenditures) in the company’s operations and are properly recorded
• All other revenue and expenses are properly recorded and represent unusual or infrequent
transactions that occurred during the current period (Gains and Losses too)
• Operating expenses and other revenue and expenses are properly described, classified, and
adequate disclosures are made
Audit Program
• Incorporated in the audit programs of other accounts, typically includes analytical review and a
few substantive tests
Nothing follows