Question

Question

In auditing various accounts, there may be a choice of the types or amounts of evidence available to evaluate management's assertions.

Requirements:

For the following two accounts, describe some high-quality forms of evidence that the auditor should obtain.

(1) The net balance in accounts receivable
(2) The accounts payable

Answer 1

Answer.
The Audit Evidence is the information that the auditor of the company collects from the company as the part of its auditing work for reviewing and verifying company’s different financial transactions, internal control in place and other things required for the purpose expressing his opinion on the true and fair view of the financial statements of the company during the period under consideration.

Types of Audit Evidences:

#1 – Physical Examination

Physical examination is where the audit actually inspects the asset physically and counts them whenever required. This evidence is collected wherever possible on the basis of the nature of the audit.

#2 – Documentation

Under the documentation written documents are collected by the auditor like purchase invoices, sales invoices, policy document of company etc which can be internal or external. This evidence is considered to be more reliable as there is some proof in writing on the basis of which the auditor is forming his opinion.

#3 – Analytical Procedures

Auditor uses the analytical procedure in order to derive the required information or to know the correctness of different information. This includes the usage of the comparisons, calculations and the relationships between the various types of data by the audit of the company under consideration.

#4 – Confirmations

Many times the auditors require the balances confirmations from the third party in order to ensure that the balances reflected in the financial statements are not manipulated by the clients. This receipt of the written response directly from the third party in order to verify the accuracy and authenticity of various different information required by the auditor.

#5 – Observations

Observation is where the auditor of the company observes the various activities of the clients and their employees before making any conclusion.

#6 – Inquiries

Inquiries are the different questions asked by the auditor of the company to the management or the concerned employee of the company in the areas where the auditor is having the doubt. The answers to these questions obtained by the auditor.

Audit Evidence for Accounts Receivable - Complete list:

• Trace receivable report to general ledger. The auditors will ask for a period-end accounts receivable aging report, from which they trace the grand total to the amount in the accounts receivable account in the general ledger. (If these totals do not match, you may have a journal entry somewhere in the general ledger account that should not be there)

• Calculate the receivable report total. The auditors will add up the invoices on the accounts receivable aging report to verify that the total they traced to the general ledger is correct.

• Investigate reconciling items. If you have journal entries in the accounts receivable account in the general ledger, the auditors will likely want to review the justification for the larger amounts. This means that these journal entries should be fully documented.

• Test invoices listed in receivable report. The auditors will select some invoices from the accounts receivable aging report and compare them to supporting documentation to see if they were billed in the correct amounts, to the correct customers, and on the correct dates.

• Match invoices to shipping log. The auditors will match invoice dates to the shipment dates for those items in the shipping log, to see if sales are being recorded in the correct accounting period. This can include an examination of invoices issued after the period being audited, to see if they should have been included in a prior period.

• Confirm accounts receivable. A major auditor activity is to contact your customers directly and ask them to confirm the amounts of unpaid accounts receivable as of the end of the reporting period they are auditing. This is primarily for larger account balances, but may include a few random customers having smaller outstanding invoices.

• Review cash receipts. If the auditors are unable to confirm accounts receivable, their backup auditing technique is to verify that customers have paid the invoices, for which they will want to review check copies and trace them through your bank account.

• Assess the allowance for doubtful accounts. The auditors will review the process that you follow to derive an allowance for doubtful accounts. This will include a consistency comparison with the method used in the last year, and a determination of whether the method is appropriate for your business environment.

• Assess bad debt write-offs. The auditors will compare the proportion of bad debt expense to sales for this year in comparison to prior years, to see if the current expense appears reasonable.

• Review credit memos. The auditors will review a selection of the credit memos issued during the audit period to see if they were properly authorized, whether they were issued in the correct period, and whether the circumstances of their issuance may indicate other problems. They may also review credit memos issued after the period being audited, to see if they relate to transactions from within the audit period.

• Assess bill and hold sales. If you have situations where you are billing customers for sales despite still retaining the goods on-site (known as "bill and hold"), the auditors will examine your supporting documentation to determine whether a sale has actually taken place.

• Review receiving log. The auditors will review the receiving log to see if it records an inordinately large amount of customer returns after the audit period, which would suggest that the company may have shipped more goods near the end of the audit period than customers had authorized.

• Related party receivables. If there are any related party receivables, the auditors may review them for collectibility, as well as whether they should instead be recorded as wages or dividends, and whether they were properly authorized.

• Trend analysis. The auditors may review a trend line of sales and accounts receivable, or a comparison of the two over time, to see if there are any unusual trends. Another possible comparison is of receivables to current assets. They may also measure the average collection period. If so, expect them to make inquiries about the reasons for changes in the trends.

Accounts Payable Audit:

AUDIT FOR COMPLETENESS

Auditing for completeness addresses the main auditing objective that is the most vital part of the accounts payable auditing process.

Cut-off tests, reconciliation and audit trails are the primary ways auditors can indicate whether documents have been properly recorded and calculated. A company must show in their year-end financial statements cut-off tests for purchases and cash payments for goods and services received by the end of that year. Auditors will use an audit trail to match payments to recorded payables and will seek out open files with unmatched documents.

AUDIT FOR VALIDITY

Auditors will look at the validity of accounts payable transactions. Most commonly, an auditor can establish the legitimacy of a transaction by reaching out to vendors and suppliers to get a confirmation request.

The number of vendors and which specific vendors and suppliers that receive requests can vary depending on the business. Most auditors will contact regular vendors and suppliers, whether there is an outstanding balance or not.

When an auditor discovers one or more open invoice, they will reach out a percentage of your business partners too.

AUDIT FOR COMPLIANCE

There are general accounting principles that accounts payable transactions must follow.

When auditors are auditing for compliance, they are determining whether accounting procedures and principles were followed.

Audits usually start backwards by starting with year-end financial statements like balance sheets, income statements and cash flow statements. They then choose random entries in your business’s general ledger to trace back to their origin.

Tracing your company’s audit trail allows auditors to discover the exact path of a transaction and evaluate whether the right accounting procedures were used.

4) AUDIT FOR DISCLOSURE

The final step to the accounts payable audit process is to ensure your payable balance was properly disclosed in your year-end financial statements.

An auditor can audit for disclosure by inspecting financial statements to verify things such as current liability and if purchases are included in the cost of goods calculations. Footnotes that provide details for unusual transactions may be required for further explanation that can’t be garnered by the simple recording of the transaction.

As a final auditing method, auditors might ask a business to disclose a mandatory management representation letter attesting that all financial statements fully represent accounts payable and purchases.