Auditing Principles & Procedures Flashcards

An auditor reviews a company's equity plan and finds that options were granted with a reload feature. What specific audit risk does a reload option create?

Answer: It can result in variable accounting treatment and potential understatement of compensation expense

Reload options historically required variable accounting, and improper treatment can understate total equity compensation expense; auditors must confirm correct ASC 718 application.

Under IRS rules, what is the consequence if an NQSO is granted with an exercise price below the fair market value of the stock on the grant date?

Answer: The discount is subject to Section 409A, potentially causing immediate income inclusion and a 20% excise tax

Discounted NQSOs are treated as deferred compensation under Section 409A, causing the spread to be included in income when vested and subject to an additional 20% excise tax plus interest.

When auditing equity award modifications under ASC 718, which THREE elements must be compared to determine if incremental compensation cost exists?

Answer: Fair value before modification, fair value after modification, and the original vesting schedule

Under ASC 718, a modification requires comparing the award's fair value immediately before and after the change; any increase, combined with the original unamortized cost, determines total incremental expense.

A company grants performance shares with a market condition (TSR relative to a peer index). How should the probability of achieving the market condition affect the grant-date fair value under ASC 718?

Answer: Market conditions are incorporated into the grant-date fair value using a Monte Carlo simulation and are not subsequently adjusted for changes in probability

Unlike performance conditions, market conditions are embedded in the grant-date fair value via Monte Carlo simulation, and the expense is recognized regardless of whether the market condition is ultimately achieved.

During an audit of a company's equity plan, the auditor discovers that the plan's fungible share ratio was not applied when shares underlying full-value awards were deducted from the reserve. What is the likely impact?

Answer: The share reserve is overstated, creating potential shareholder dilution beyond the approved limit

Fungible pool ratios require full-value awards to consume more shares from the reserve (e.g., 1.5x–2x) per share granted; failing to apply this inflates the reported remaining reserve and could allow over-granting beyond the approved limit.

Which of the following is the best audit evidence to confirm that the company properly classified an equity award as an employee award rather than a non-employee award for ASC 718 purposes?

Answer: A signed offer letter and payroll records confirming W-2 employment status

A signed offer letter and payroll records confirming W-2 status provide direct evidence of an employment relationship required for employee award classification under ASC 718.

A CEP auditor reviewing a company's equity disclosures under ASC 718 notices that the weighted-average grant-date fair value of options is missing from the footnote. Which specific disclosure requirement has been violated?

Answer: ASC 718-10-50-2(c): tabular disclosure of option activity including weighted-average grant-date fair values

ASC 718-10-50-2(c) requires a tabular rollforward of option activity that includes weighted-average grant-date fair values for options granted, exercised, forfeited, and expired during the period.