Chapter 19 Audit of Acquisition and Payment Cycle:

Tests of Controls, Substantive Tests of Transactions, and

Account Payable

Objective 1: Identify the accounts and the classes of transactions in the acquisition and

payment cycle

Objective 2: Describe the business functions and the related documents and records in the

acquisition and payment cycle

Accounts and Classes of Transactions in the Acquisition

and Payment Cycle

Acquisition of goods and services Cash disbursements Purchase returns and allowances and

purchase discounts

Acquisitions

Accounts: Inventory Property, Plant, and Equipment Prepaid Expenses Leasehold Improvements Accounts Payable Manufacturing Expenses Selling Expenses Administrative Expenses

Acquisitions

Business Functions Documents and Records

Processing purchase orders Purchase requisitionPurchase order

Receiving goods and services Receiving report

Recognizing the liability Acquisitions journalSummary acquisitions reportVendor’s invoiceDebit memoVoucherAccounts payable master fileAccounts payable trial balanceVendor’s statement

Cash Disbursements

Accounts Business Functions Documents and Records

Cash in bankAccounts payablePurchase discounts

Processing and recording cash disbursements

CheckCash disbursement

journal

Objective 3: Understand internal control and design and perform tests of controls and substantive tests

of transactions for the acquisition and payment cycle

Methodology for Designing Tests of Controls and Substantive Tests of

Transactions Understand internal control Assess planned control risk Evaluate cost-benefit of testing controls Designing test of controls and

substantive tests of transactions to meet transaction-related audit objectives

Key Internal Control

Authorization of purchases Separation of asset custody from other

functions Timely recording and independent review

of transactions Authorization of payments

Transaction-related audit objective

Key internal control

Common test of control

Common substantive tests of transactions

Existence Purchase requisition, purchase order, receiving report, and vendor’s invoice are attached to the voucher

Examine documents in voucher package for existence

Review the acquisitions journal, general ledger, and accounts payable master file for large or unusual amounts

Completeness Purchase orders are prenumbered and accounted for

Account for sequence of purchase order

Trace from a file of receiving reports to the acquisitions journal

Accuracy Calculations and amounts are internally verified

Examine indication of internal verification

Compare recorded transactions in the acquisitions journal with the vendor’s invoice, receiving report, and other supporting documentation

Classification An adequate chart of accounts is used

Examine procedures manual and chart of accounts

Compare classification with chart of accounts by reference to vendor’s invoices

Timing Procedures require recording transactions as soon as possible after goods and services have been received

Examine procedures manual and observe whether unrecorded vendors’ invoices exist

Compare dates of receiving reports and vendors’ invoices, with dates in the acquisitions journal

Posting and summarization

Accounts payable master file contents are internally verified

Examine indication of internal verification

Test clerical accuracy by footing the journals and tracing postings to general ledger and accounts payable and inventory master files

Transaction-related audit objective

Key internal control

Common test of control

Common substantive tests of transactions

Existence There is adequate segregation of duties between accounts payable and custody of signed checks

Discuss with personnel and observe activities

Review the cash disbursement journal, general ledger, and accounts payable master file for large or unusual amounts

Completeness Checks are prenumbered and accounted for

Account for sequence of checks

Reconcile recorded cash disbursements with the cash disbursements on the bank statement

Accuracy Calculations and amounts are internally verified

Examine indication of internal verification

Compare cancelled checks with the related acquisitions journal and cash disbursement journal entries

Classification An adequate chart of accounts is used

Examine procedures manual and chart of accounts

Compare classification with chart of accounts by reference to vendor’s invoices and acquisition journal

Timing Procedures require recording transactions as soon as possible after the checks have been signed

Examine procedures manual and observe whether unrecorded checks exist

Compare dates on cancelled checks with the cash disbursement journal

Posting and summarization

Accounts payable master file contents are internally verified

Examine indication of internal verification

Test clerical accuracy by footing the journals and tracing postings to general ledger and accounts payable master files

Objective 4: Describe the methodology for designing tests of detail balances for

accounts payable usig the audit risk model

Methodology for Designing Tests of Detail of Balances for Accounts Payable

Set tolerable misstatement and assess inherent risk for accounts payable

Assess control risk for accounts payable Design and perform tests of controls and

substantive tests of transactions for the acquisition and payment cycle

Design and perform analytical procedures for the acquisition and payment cycle

Design tests of details of accounts payable balance to satisfy balance-related audit objective

Objective 5: Design and perform analytical procedures for accounts payable

Analytical Procedures for the Acquisition and Payment Cycle

Analytical Procedure Possible Misstatement

Compare acquisition-related expense account balances with prior years

Misstatements of accounts payable and expenses

Review list of accounts payable for unusual, nonvendor, and interest-bearing payables

Classification misstatement for nontrade liabilities

Compare individual accounts payable with previous years

Unrecorded or nonexist accounts, or misstatement

Calculate ratios such as purchases divided by accounts payable, and accounts payable divided by current liabilities

Unrecorded or nonexist accounts, or misstatements

Objective 6: Design and perform tests of details of balances for accounts payable,

including out-of-period liability tests

Balance-related audit objective

Common test of details of balances procedures

Detail tie-in Re-add or use the computer to total the accounts payable list

Existence Trace from accounts payable list to vendors’ invoices and statements

Completeness Perform out-of-period liability tests

Accuracy Perform same procedures as those used for existence objective and out-of-period liability tests

Classification Review the list and master file for related parties, notes or other interest-bearing liabilities, long-term payables, and debit balances

Cut-off Perform out-of-period liability tests

Obligations Examine vendors’ statements and confirm accounts payable

Presentation and disclosure

Review statements to make sure material related parties, long-term, and interest-bearing liabilities are segregated

Out-of-Period Liability Tests

Examine underlying documentation for subsequent cash disbursement

Examine underlying documentation for bills not paid several weeks after the year-end

Trace receiving reports issued before year-end to related vendor’s invoices

Trace vendors’ statements that show a balance due to the accounts payable trial balance

Send confirmations to vendors with which the client does business

Cutoff Tests

Examine underlying documentation for subsequent cash disbursement

Examine underlying documentation for bills not paid several weeks after the year-end

Trace receiving reports issued before year-end to related vendor’s invoices

Examination of receiving reports Determination of the amount of inventory

in transit

Objective 7: Distinguish the reliability of vendors’ invoices, vendors’ statements, and confirmations

of accounts payable as audit evidence

Vendors’ Invoices vs Vendors’ Statements

The vendors’ statements is superior for verifying accounts payable

The vendors’ invoice is superior for verifying transactions

Confirmations of accounts payable are regarded as more reliable than vendor’s statements