Debra, CPA, is engaged in the audit of Company for the year ended December 31. D

Question

Debra, CPA, is engaged in the audit of Company for the year ended December 31. Debra obtained an understanding of internal control relating to the purchasing, receiving, trade accounts payable, and cash disbursement cycles and has decided not to proceed with tests of controls. Based upon analytical procedures, Debra believes that the trade accounts payable on the balance sheet as of December 31 may be understated.

Debra requested and obtained a client-prepared trade accounts payable schedule listing the total amount owed to each vendor.

What additional substantive audit procedures should Debra apply in examining the trade accounts payable?

Explanation / Answer

The audit objectives that should be addressed when auditing assertions in respect of payables are verifying the completeness, accuracy and valuation of liabilities as often there is a specific risk that payables are not completely recorded in the accounts, particularly where there is doubt about the entity’s ability to continue trading or when there are pressures on the entity to meet certain profit targets.

Addressing the completeness objective for payables is not easy and should be approached from two angles: assessing whether the list of creditor balances includes all payables existing at the year end, and assessing whether each creditor balance recorded is complete in respect of all transactions up to the year end.

An effective procedure to verify completeness and valuation is that of reconciling a sample of accounts payables with suppliers’ statements. Many suppliers provide monthly statements to their customers and these may therefore be available for examination. Such statements are documentary evidence originating from outside the entity and therefore are an independent and reliable source of evidence. In any case the auditor should be aware that such statements may have been tampered with by the entity and, in case of doubt, the auditor should request a copy directly from the supplier.

The use of direct confirmation using a payables circularisation is also an option to confirm completeness and valuation, although it is less commonly utilised in practice given that it yields levels of returns, and therefore evidence, that is lower than that obtainable from suppliers’ statements.

The use of analytical procedures can also be very relevant for the objective of verifying completeness and valuation, for example the auditor’s background knowledge of the client may indicate the major suppliers that would be expected to be present in the list of payables at the year end. The auditor may therefore compare the list of balances with those outstanding at the previous year end and also consider the main suppliers during the year (by reviewing an activity report), and ensure that there is a realistic balance outstanding at the year end for each of them.

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