Reclassifications

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Reclassifications Audit Case Example: ABC Manufacturing Company

Context

Throughout the fiscal year, ABC Manufacturing Company may make several reclassifications in its financial statements to correct errors, reflect changes in the use of assets, or align with changes in accounting standards or policies. These reclassifications can affect balance sheet items, income statement accounts, or cash flow statement categories.

Audit Objective

To obtain reasonable assurance that reclassifications made in the financial statements of ABC Manufacturing Company are appropriate, accurately reflect the underlying transactions, and are properly presented and disclosed in accordance with the applicable financial reporting framework.

Types of Audit Evidence and Documentation for Reclassifications Assertions

1. Accuracy and Occurrence

• Case: Verify that reclassifications accurately reflect the underlying transactions or adjustments and that they have actually occurred within the reporting period.

• Documentation: Document the examination of supporting documentation for significant reclassifications, including journal entries, board meeting minutes approving changes, and any relevant correspondence or agreements.

2. Completeness

• Case: Ensure that all necessary reclassifications have been made to present the financial statements in accordance with the applicable financial reporting framework.

• Documentation: Outline procedures for reviewing the completeness of reclassifications, such as comparing current year presentations with prior periods and reviewing changes in accounting policies or standards that might necessitate reclassifications.

3. Classification and Understandability

• Case: Assess whether reclassifications result in financial statements that are classified in a manner consistent with the financial reporting framework and are understandable to users.

• Documentation: Document the review of reclassified items for proper classification and the impact on the understandability of the financial statements, including the rationale for significant reclassifications.

4. Presentation and Disclosure

• Case: Review the financial statements and notes to ensure that reclassifications and their effects are properly disclosed and presented, including disclosures of changes in accounting policies or corrections of errors.

• Documentation: Note the evaluation of disclosures related to reclassifications, verifying that they are complete, clear, and in compliance with the financial reporting framework, especially regarding the nature, reason, and impact of the reclassifications.

5. Assessment of Internal Controls over Reclassifications

• Case: Evaluate the design and implementation of internal controls related to the process of identifying, approving, and recording reclassifications.

• Documentation: Document the review of internal controls over reclassifications, identifying any control deficiencies that could impact the accuracy and presentation of reclassified amounts in the financial statements.

6. Inquiries of Management

• Case: Perform inquiries with management regarding the reasons for significant reclassifications, including understanding management’s judgment in classifying and disclosing these adjustments.

• Documentation: Summarize inquiries with management, including explanations for the reclassifications, the process for determining them, and how they are reflected in the financial statements.

7. Communication with Those Charged with Governance

• Case: Discuss significant findings related to the audit of reclassifications with management and those charged with governance, especially any concerns about the propriety and disclosure of these adjustments.

• Documentation: Prepare a summary of communications regarding reclassifications, including discussions about their impact on the financial statements and any concerns or disagreements with management’s approach.

Conclusion

The audit of reclassifications is integral to ensuring the financial statements accurately reflect the company’s financial position and performance in accordance with the applicable reporting framework. Documenting the audit procedures and findings related to each relevant assertion for reclassifications provides a foundation for the auditor’s opinion on the financial statements. This meticulous approach enhances stakeholder confidence in the integrity of the financial reporting process and the reliability of the presented financial information.