AuditingtheExpenditureCycleTransactionandAccountBalances1. Transactions and account balances involve in expenditures cycle are those involve in expenditures cycle are those related to providing goods and services for operational acti ities incl ding the for operational activities, including the payment of its payable.2. However in this chapter the discuss will be focused on the transactions related to purchase of inventory, it can be raw material or merchandise inventory. yTransactionandAccountBalancesCredit Debit CreditDebitAccountPayableDebit Merchandise Inventory Rawmaterial inventoryCredit Cash Purchase discounts Raw material inventory Purchases Prepaid expensesPl t t Purchase discounts Purchase returns Plant assets Other assets Various expenses pPurchasePaymentAuditObjectivesAssertion CategoryTransaction or BalanceSpecific Audit ObjectivesExistence orTransactionRecorded purchases represent goodsExistence or OccurrenceTransactionRecorded purchases represent goods, services, and productive assets received during the period. Recorded cash disbursement transactions Recorded cash disbursement transactions were made during the period to suppliers and creditors. B lR d dt bl t th BalanceRecorded accounts payable represent the amounts the entity owes at the balance sheet date.C l t T tiAllh dh di b t Completeness TransactionAll purchases and cash disbursements made during the period were recorded.BalanceAccounts payable include all amounts owed to suppliers of goods and services at the balance sheet date.AuditObjectivesAssertion CategoryTransac-tion or BalanceSpecific Audit ObjectivesBalanceRights and ObligationsTransaction The entity is liable for the payables resulting from the recorded purchase transactions.BalanceAccounts payable are obligations of the entity at the obligations of the entity at the balance sheet date.Valuation or AllocationsTransac-tion All purchase transactions and cash disbursements are valued Allocations tion cash disbursements are valued using GAAP and correctly journalized, summarized, and posted.AuditObjectivesAssertion CategoryTransac-tion or BalanceSpecific Audit ObjectivesBalanceAccounts payable are stated at the correct amount owed. Related expense balances are in conformity with GAAP GAAP.Presentation and Di lTransactionThe details of purchases and cash disbursements support their presentation in the financial i l di h i l ifi i dl dDisclosure statements including their classification and related disclosures.BalanceAccounts payable and related expenses are properly identified and classified in the financial statements. Adequate disclosures have been made pertaining to commitments contingent liabilities andto commitments, contingent liabilities, and collateralized and related party payables.MaterialityandInherentRisks1. Materiality is depend on the level of control risks and inherent risks. co o s s a d e e s s2. Inherent risksP t d t t t a. Pressures to understate expenses to increase profitability targets or industry norms norms.b. Pressures to understate payables to increase liquidity increase liquidity.c. The high volume of transactions, it cause increasing risk of material misstatement, increasing risk of material misstatement, except otherwise supported by reliable ICSMaterialityandInherentRisksd. Unauthorized purchases and cash disbursements may be made. ye. Purchase assets may be misappropriated.f. There may be duplicate payment of vendorsy p p yinvoices.g. Contentious accounting issues may arise concerning such matters as whether a cost should be capitalized or expensed (e.g. the treatment of repairs and maintenance costs or treatment of repairs and maintenance costs or the classification of a lease as an operating or capital lease). capital lease).AnalyticalProcedures Analytical procedures are commonly cost effective. If the company is growing it is common to expect purchase, inventory, and to expect purchase, inventory, and accounts payable to grow at consistent rates rates. The auditors knowledge of the volume or purchases combined with prior or purchases, combined with prior experience is useful in estimating c rrent ears pa ables current years payables.AnalyticalProceduresRatio Formula Audit SignificanceAccount Average Prior experience in accounts Account payable turn daysAverage Accounts Payable : P hPrior experience in accounts payable turn days combined with knowledge of current h b f l i Purchases x 365purchases can be useful in estimating current payables. A shortening of the period may indicate completeness problems.Cost of Cost of Unless the company has Cost of goods sold to accounts payableCost of Goods Sold : Accounts PayableUnless the company has changed its payment policy, these amounts should change by approximately the same payable Payable by approximately the same percentage from year to year.AnalyticalProceduresPayable as a % of total Account Payable : Common-sized balances in accounts payable are useful in assetsyTotal Assetsp ycomparing with industry data. A significant decline in this ratio i di t l t may indicate completeness problems.Current ratio CurrentA significant increase in theCurrent ratio Current Assets : Current A significant increase in the current ratio compared to prior years experience may indicate a Liabilities completeness problem. However, this ratio may also be influenced by changes in asset accounts by changes in asset accounts.AnalyticalProceduresQuick tiCurrent M tA significant increase in th tti ratio Monetary Assets : C t the current ratio compared to prior years ii di t Current Monetary Liabilitiesexperience may indicate a completeness problem. Ho e erthis ratio ma Liabilities However, this ratio may also be influenced by changes in assetchanges in asset accounts.DocumentsandRecords Payable1. Purchase requisition. Written request for goods or services by an authorized individual or d t t t th h i d t t department to the purchasing department.2. Purchase order. Written offer from the purchasing department to a vendor or supplier to purchase department to a vendor or supplier to purchase goods or services specified in the order.3. Receiving report. Report prepared on the receiptg p p p p pof goods showing the kinds and quantities of goods received from vendors. 4. Vendor invoice. The bill from the vendor stating the items shipped or services rendered, the amount due the payment terms and the date amount due, the payment terms, and the date billed.CommonDocumentsandRecords5. Voucher. An internal form indicating the vendor, the amount due, and payment date for purchase received. It is used to authorize recording and paying a liability It is used to authorize recording and paying a liability.6. Exception reports. Reports with information about transactions identified for further investigation by computer application controls.7. Voucher summary. Report of total vouchers processed in a batch or during a day processed in a batch or during a day.8. Voucher register. Formal accounting record of recorded liabilities approved for payment. pp p y9. Approved vendor master file. Computer file containing pertinent information on vendors and suppliers that have been approved to purchase service suppliers that have been approved to purchase service from and make payments to.CommonDocumentsandRecords10. Open purchase order file. Computer file of purchase orders submitted to vendors for which th d i h t b i d the goods or services have not been received.11. Receiving file. Computer file with receiving information on quantities or inventory received information on quantities or inventory received from vendors.12. Purchase transactions file 13. Account payable master file14. Suspense files. Computer files that holdp ptransactions that have not been processed because the have rejected by computer application controls application controls.Functions1. Initiating purchases, including: placing vendors on an authorized vendor list, requisitioning goods and services, preparing purchases orders.2. Receipt of goods and services, including: receiving the goods, storing goods received for inventory, returning goods to vendor.3. Recording liabilities, including: preparing the payment voucher and recording the liability, accountability for recorded transactions.ControlRisk PurchaseTransactionsInitiating PurchasesPotential Misstatement Potential Misstatement Lack of control over purchases and unrecorded liabilities, control: prenumbered purchase requisitions and purchase order, and checks numerical sequence.P h f th i d t l Purchases for unauthorized purposes, control:verification of employee authorization code to enter requisition or purchase order. q p Fictitious vendor and bill for services not received, control: compare vendor on purchase order to t fil d A t l t d t master file vendor. Access control to vendor master file.ControlRisk PurchaseTransactionsR i i G d bd S i Receiving Goods abd ServicesPotential MisstatementG d b i d b t t d d t l Goods may be received but not recorded, control:checks for goods ordered and not received within a reasonable period of time.p Accepting goods that were not ordered or authorized, control, checks validity of purchase order in order to i iti t i i t initiate receiving report.Recording LiabilitiesPotential Misstatement Potential Misstatement Goods or services may be received but not be recordedappropriately, control, checks the record of recorded appropriately, control, checks the record of liabilities for reasonable period of time.ControlRisk PurchaseTransactions Liabilities may be recorded for goods or services not received or may be recorded at an incorrect amount, control matching information inside the voucher with control, matching information inside the voucher with the underlying supporting documents, such as purchase orders and receiving report. Payment invoice twice, control, stamp paid to the paid invoice, and review prior payment before decide t th h to pay the voucher. Recording in the wrong accounting period, control,comparingthe date in the invoice with the date of comparing the date in the invoice with the date of recording the invoice. Mathematical error may be made in processing the vouchers, control, checks the mathematical accuracy of the vouchers and supporting documents.ControlRisk PurchaseTransactions Purchase may be incorrectly posted or summarized, control, compare sum of the subsidiary ledger accounts with the general ledger control account accounts with the general ledger control account. Purchase may be posted to the wrong accounts, control, compares account distribution on the control, compares account distribution on the voucher with the account distribution on purchase requisition or purchase order. Purchase may be recorded for goods or services not received, they may be posted to the wrong account, or in the wrong amount, control independent review or in the wrong amount, control independent review to all purchases charged to the responsibility centeras well as reviewing vendors, amount, and accounts h d ti l b i charged on timely basis.DocumentsandRecords1. Check2 Check summary 2. Check summary3. Cash disbursements transaction file. Information on payments by check to Information on payments by check to vendors and others. Used for posting to the accounts payable and general ledger the accounts payable and general ledger master files.4 C h di b t j l h k 4. Cash disbursements journal or check register. Formal accounting record of h k i d t d d th check issued to vendors and others.ControlRisk CashDisbursement A check may not be recorded, control, computer accounts for prenumbered check computer accounts for prenumbered check series, compare total on check summary to total vouchers submitted for payment, control access to blank check and signature plates. A check may not be recorded promptly, control, prints report of checks due but not yet paid, compare beginning cash less cash disbursement with ending cash balance as well disbursement with ending cash balance, as well as, beginning payable less disbursement with ending payable ending payable.ControlRisk CashDisbursement A check may be issued for unauthorized purchases control compare checks with purchases, control, compare checks with its supporting documents, such as authorized purchase order receiving authorized purchase order, receiving report, and voucher. Also limit test on large disbursement and these check large disbursement, and these check must be manually signed.Avoucher may be paid twice control A voucher may be paid twice, control, stamp paid to paid voucher package. ControlRisk CashDisbursement A check may be issued for wrong amount, control, independent check matching the control, independent check matching thecheck with related voucher package. A check may be altered after signed, control,y g , ,put certain sign in the beginning and ending part of the amount of check which written in word, i.e. by putting sign # and word only# Error in recording check, control, independent h k i h k h d h k check comparing check, voucher, and check register.PurchaseAdjusments Documents Purchase return authorization, it is a form showing the description, quantity, and other showing the description, quantity, and other data pertaining to the goods that the vendor has authorized to return. Shipping report, it is a report prepared on the shipment of goods to vendor showing the kinds and quantities of goods shipped. Debit memo, it is a form stating the particulars f d bit t t bl i l di th of a debit to account payable, including the specific items returned, prices, and amount credited credited. SubstantiveTestsofPayableInitial Procedures1 Obtain understanding of business and industry and 1. Obtain understanding of business and industry and determine:a. The significance of purchases and accountg ppayable to the entity.b. Key economic drivers that influence the entitys purchases and resultant account payables.c. Standard trade terms in the industry, including seasonal dating seasonal dating.d. The extent of concentration of activity with the suppliers and related purchase commitments suppliers and related purchase commitments.SubstantiveTestsofPayableInitial Procedures1 Obtain understanding of business and industry and 1. Obtain understanding of business and industry and determine:a. The significance of purchases and accountg ppayable to the entity.b. Key economic drivers that influence the entitys purchases and resultant account payables.c. Standard trade terms in the industry, including seasonal dating seasonal dating.d. The extent of concentration of activity with the suppliers and related purchase commitments suppliers and related purchase commitments.SubstantiveTestsofPayable2. Perform initial procedures on the A/P balance and records that will be subjected to furtherjtesting.a. Trace beginning balance to prior years working papers.b. Review activities in the GL accounts and i ti t t i th t l i investigate entries that appear unusual in amount or source.c Obtain listing of A/P at balance sheet date and c.Obtain listing of A/P at balance sheet date and determine that it accurately represents the underlying accounting records by: underlying accounting records by:SubstantiveTestsofPayablei. Footing the listing and determining agreement with (1) the total of unpaid voucher file, subsidiary ledger, or A/P master file, and (2) the GL controlg , , ( )account balance.ii. Testing agreement of vendors and balance on listing with those included in the underlying listing with those included in the underlying accounting records.Analytical Procedures:1. Develop an expectation for A/P using knowledge of entitys business activities, normal trade terms, and history of A/P turnover of A/P turnover.2. Calculate ratio and analyze the results relative to expectations. Pay attention to indication of d understatement.SubstantiveTestsofPayableTests of Details of Transactions1. Vouch sample of recorded transactions to ti d t C ditA/P t h supporting documents. Credit A/P to vouchers package (vouchers + vendor invoices + receiving reports +purchase orders +other supporting reports purchase orders other supporting information. Debit A/P to cash disbursements or purchase returns memoranda. 2. Perform purchases cut-off test.a. Select sample of recorded purchase t ti l d b f d ft transactions several days before and after balance sheet date, and examine the supporting documents and tests the appropriateness of documents and tests the appropriateness of cut-off transactions.SubstantiveTestsofPayableb. Observe the numbers of the last receiving report issued on the last day of the audit period and trace sample of lower and higher and trace sample of lower and higher numbered receiving reports to ensure that purchases were recorded in the proper period.3. Perform cash disbursements cut-off test.a. Observe the number of check issued and mail or the last payment of payable, on the last day of accounting period, and trace to the accounting records to verify accuracy of cutoff accounting records to verify accuracy of cutoff.b. Trace dates of paid checks returned with year-end cut-off bank statements to dates recorded. end cut off bank statements to dates recorded.SubstantiveTestsofPayable4. Purchase return cut-off.a. Review purchase return on the last days of accounting period to ensure accuracy the date of recording.b. Vouch the last purchased returns in the books of original entry (journal) to vendors th i ti d hi i t authorization and shipping reports.8.Perform search for unrecorded liabilities.a. Examine subsequent payments until the end date of fieldwork and trace it to the bl b l t th b l h t payable balance at the balance sheet.SubstantiveTestsofPayableb. Investigate unmatched purchase documents.c. Inquire accounting and purchasing personnel b t d d li biliti about unrecorded liabilities.d. Review capital budgets, work orders, and construction contracts for evidence of construction contracts for evidence of unrecorded payables.Tests Details of Balances1.Confirm account payable.a. Identify major vendors by reviewing vouchery j y gregister or account payable subsidiary ledger and send confirmation to vendors with large balance balance.SubstantiveTestsofPayableb. Investigate and reconcile the differences.2. Reconcile unconfirmed payable to monthly t t t i d b li t f d statements received by client from vendors.Presentation and DisclosuresCompare presentation with GAAP Compare presentation with GAAP.a. Identify the proper identification and classification of payable classification of payable.b. Determine the existence of debit balance of payable that need to be reclassified. p yc. Determine the sufficiency of disclosures.d. Inquire about undisclosed commitment and contingent liabilities.SubstantiveTestsofPayablee. Evaluate completeness of presentation and disclosures.f R d th di l d i d d tl f. Read the disclosures and independently evaluate the appropriateness of classification and disclosures, as well as the and disclosures, as well as the understandability of classification and disclosures.ExampleofConfirmationTitle and addresseeDear Sir or MadamWill you please send directly to our auditors, Bla & Bla, Certified Public Accountants, and itemized statement of the amount owed to you by us at the close of of the amount owed to you by us at the close of business on December 31, 20xx? Will you please also supply the following information:Amount not yet due Rp..Amount past due RpAmount of purchase commitments Rp.Description of any collateral held. Etc.Very truly yours etc etc..ThankYou