auditing chapter 13
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AUDITING CHAPTER 13. Accounts Payable, Prepaids, & Accrued Liabilities By David N. Ricchiute. TOPICS. Relationship assertions & audit procedures Relationship audit risk, nonfinancial measures, substantive tests Substantives tests for A/P - PowerPoint PPT PresentationTRANSCRIPT
AUDITINGCHAPTER 13Accounts Payable, Prepaids, & Accrued LiabilitiesBy David N. Ricchiute
GBW 8th ed., Ch. 132
TOPICSRelationship assertions & audit proceduresRelationship audit risk, nonfinancial measures, substantive testsSubstantives tests for A/PSubstantive tests for prepaid expenses, accrued liabilitiesExpense recognition & earnings manipulation2Audit sampling & A/PComputer-assisted audit techniques for A/P
GBW 8th ed., Ch. 133
ASSERTIONS & OBJECTIVESManagement assertions: Recorded
Purchases & A/P Exist Include all transactions
(completeness) Represent rights, obligations of entity Are valued appropriately Are presented & disclosed properly
GBW 8th ed., Ch. 134
AUDIT RISKSPayment problems Insufficient cashOverstated purchasesUnderstated payables
GBW 8th ed., Ch. 135
OBJECTIVES & PROCEDURES: Existence/Occurrence
Objective: determine whether all payables exist & all purchases occurred Exist
Confirm with creditors Transactions occurred
Cutoff testing for proper period
GBW 8th ed., Ch. 136
OBJECTIVES & PROCEDURES:Completeness
Objective: determine whether all purchases, payables are actually presented Complete
Test for unrecorded liabilities Analytical procedures Test cutoff
FOB shipping point FOB destination
GBW 8th ed., Ch. 137
OBJECTIVES & PROCEDURES:Rights & ObligationsObjective: determine whether
payables & other recorded liabilities are bona fide obligations Rights & obligations
Confirm with creditors Test for unrecorded liabilities
GBW 8th ed., Ch. 138
OBJECTIVES & PROCEDURES:Valuation, Allocation
Objective: determine whether payables are reported at appropriate dollar amounts Valuation, allocation
Verify A/P trial balance Confirm with creditors Test for unrecorded liabilities
GBW 8th ed., Ch. 139
OBJECTIVES & PROCEDURES:Presentation, DisclosureObjective: determine whether
payables are properly classified, described, disclosed Presentation, disclosure
Compare statement presentation, disclosure with GAAP requirements
GBW 8th ed., Ch. 1310
NONFINANCIAL MEASURES OF RISK
Examples for payables: Failure to get low price provider Unfavorable price variances Significant lag in product
development
GBW 8th ed., Ch. 1311
AUDIT RISK MODELAR = CR x IR x DR
Detection risk (DR): likelihood that error could occur & not be detectedBased on Control risk (CR)
Likelihood of material error Inherent risk (IR)
Strategies & threats
GBW 8th ed., Ch. 1312
DETECTION RISK
DR = ____AR___ IR x CR
Nature, extent, timing substantive tests Nature: more/less persuasive tests Extent: larger/smaller samples Timing: balance sheet date or interim
GBW 8th ed., Ch. 1313
ASSERTIONS & PROCEDURESPurchases & Payables-1Valuation
Verify mathematical accuracy A/P Foot, cross-foot aged trial
balance Compare trial balance total to GL Trace sample vendor accounts to
voucher packages Examine supporting documents
GBW 8th ed., Ch. 1314
ASSERTIONS & PROCEDURESPurchases & Payables-2
Existence, Obligations, ValuationConsider confirming year-end payables with creditors
Existence, Occurrence, Completeness Test cut-off for recording in proper period
GBW 8th ed., Ch. 1315
ASSERTIONS & PROCEDURESPurchases & Payables-3Completeness, Valuation,
ObligationsTest for unrecorded liabilities
Existence, Occurrence, Completeness, ValuationPerform analytical procedures
GBW 8th ed., Ch. 1316
ASSERTIONS & PROCEDURESPurchases & Payables-4Presentation & Disclosure
Review statements to determine Payables, other liabilities properly
classified, described Disclosures adequate
GBW 8th ed., Ch. 1317
SUBSTANTIVE TESTS:Payables Confirmation
Not commonly confirmed unless Controls inadequate Concern with liabilities overstatementMain concern for payables: understatement Confirmation not effective for
detecting unrecorded liabilities Not listed on trial balance Not in sample
GBW 8th ed., Ch. 1318
TESTING UNRECORDED LIABILITIES
Four sources Year-end A/P trial balance Cash disbursements journal Canceled voucher packages File unmatched receiving reports
GBW 8th ed., Ch. 1319
CAPITALIZED COSTS:AOL
In fiscal 1995, 1996, AOL capitalized advertising costs in an account called “Deferred Membership Acquisition Costs,” & amortized costs over a 24 month period$77 million, 19% assets$314 million, 33% assets
Is this the proper accounting treatment?What was the effect on the financial
statements?
GBW 8th ed., Ch. 1320
ASSERTIONS & PROCEDURES: Prepaid ExpensesExamples: Prepaid insurance, rent, advertising, & suppliesExistence, rights, obligations Examine insurance policies
Completeness: Insurance coverage exceeds replacement
cost Cutoff testing from A/P
Valuation Recalculate unexpired premiums
GBW 8th ed., Ch. 1321
ASSERTIONS & PROCEDURES : Accrued Liabilities
Examples: accrued taxes, warranty costs, rent, interestOccurrence, obligations, valuation Examine property tax bills Compare provisions to prior year:
reasonableness Additions/disposals assets
Completeness Unusual fluctuations
GBW 8th ed., Ch. 1322
EXCESS RESERVES:W. R. Grace
From 1991 – 95, Grace recorded $20 million in excess reserves on statements of a health-care subsidiary that produced a large portion of Grace’s consolidated net income. “Extra earnings could be used when they wanted to goose up the numbers.”
Specifically, how would they “goose up the numbers?”
GBW 8th ed., Ch. 1323
EARNINGS MANIPULATIONEnvironmental Liabilities
Columbia Transmission in recent years recorded projected compliance costs related to low levels of contamination by PCB-based lubricating oils. . . resulted in additional pre-tax charges of $65 million
GBW 8th ed., Ch. 1324
MANAGEMENT, AUDITOR INCENTIVES
Management Incentive to understate cleanup costs Examples
Arco, Exxon, Phillips’ stock prices declined due to environmental disasters
Auditor Incentive for reasonable assurance
that material environmental liabilities are disclosed Shareholders may sue if unreported
GBW 8th ed., Ch. 1325
NONSTATISTICAL SAMPLING: Accounts Payable
Assess control riskSelect sampling planDetermine Population, sampling unit, sample sizeEvaluate results Decision rule: if likely error <
tolerable error then payables not likely materially misstated
GBW 8th ed., Ch. 1326
COMPUTER-ASSISTED TESTS: A/P Accuracy
Verify footings, cross-footings, extensions of aged trial balance or subsidiary recordsCompare details of trial balance with subsidiary recordsCompare details subsidiary records with source documents
GBW 8th ed., Ch. 1327
COMPUTER-ASSISTED TESTS: Summarizing Data
Age A/P according to due datesList debit balances for reclassification to A/R
GBW 8th ed., Ch. 1328
COMPUTER-ASSISTED TESTS: Sample Selection, Comparison
Use random number generator to select sample from aged A/P trial balanceCompare charges/credits from subsidiary records with purchases/cash disbursements