1. GROUP 6 CHAPTER 3 (4) :UNDERSTAND THE AUDITING AT TRADE RECEIVABLES AND PAYABLES PREPARED BY : MOO ZIOW CHENG 06DAT10F1004 RATNA DEWI A/P PALANIAPPAN06DAT10F1024 YONG YUE LING 06DAT10F1022 YEO SHU CHIN06DAT10F1006

2. PURPOSE OF AUDITING TRADERECEIVABLE Trade receivables are due from customers formerchandise sold or services performed in theordinary course of business. Trade receivablesmay either be accounts receivable or notesreceivable. Nontrade receivables come into being fromother types of transactions and may he writtenpromises to pay monies or deliver services.Examples are advances to employees, claimsagainst other entities (i.e., tax refunds,insurance receipts), deposits, and financialreceivables (i.e., interest receivable, dividendreceivable). 3. The auditor should obtain an understanding ofthe accounting policies relevant to tradeaccounts receivable, the significant types ofsales transactions and the monetary volume oftransactions flowing through the account. Theauditor should evaluate the divisions revenuerecognition policy and, if buyers of some or all ofthe divisions products have the right to returnthem, consider whether the revenue recognitionpolicy is appropriate. When preparing thisprogram the auditor should consider and designaudit procedures thataddress relevantpresentation and disclosure requirements. 4. Trade creditors in many countries routinely providetheir debtors with a monthly statement showingthe invoices outstanding. Some businessesroutinely reconcile their own records to statementsprovided by their suppliers. This means that direct confirmation of creditorbalances is not always necessary, as documentary,third party evidence, confirming the balancealready exists. 5. Auditors are likely to assess receivables as being subject tothe risk of overstatement, and payables as subject to therisk of understatement and this affects the populationsfrom which samples are drawn. Recorded receivables (i.e. the sales ledger), arescrutinised to establish whether there is any need forwriting down through the bad debt provision, auditors areless likely to be concerned with unrecorded receivables.Recorded payables on the other hand, may be incompleteand the auditor will tend to look outside the entity forevidence of unrecorded liabilities. 6. purpose of auditing trade payables Accounts payable is money owed by a business toits suppliers and shown on its Balance Sheet as aliability. An accounts payable is recorded in theAccount Payable sub-ledger at the time an invoiceis vouchered for payment. Vouchered, orvouched, means that an invoice is approved forpayment and has been recorded in the GeneralLedger or AP sub ledger as an outstanding, oropen, liability because it has not been paid. 7. Accounts payable include liabilities for whichinvoices have been received and liabilities forgoods and services received that have not beenmatched with the related invoices.Completeness and cutoff are generally high-riskobjectives, and existence is generally a low-riskobjective for accounts payable. The valuationobjective does not apply to trade accountspayable; however, when appropriate, the auditorshould estimate potential losses from openpurchase commitments. 8. The auditor should obtain an understanding of thesignificant types of purchase transactions and themonetary volume of transactions flowing through theaccount. Particular consideration should be given to theconsistent and appropriate accounting treatment of specialtransactions such as volume rebates from suppliers,interest on overdue liabilities, balances not due within 12months and purchase transactions subject to reservationof title. When appropriate, substantive tests should be developedfor these types of transactions to provide the necessaryassurance about each relevant audit objective. Whenpreparing this program the auditor should consider anddesign audit procedures that address relevantpresentation and disclosure requirements. 9. Define the evidence to audit tradereceivables and trade payables Audit evidence is all the information used by auditorsin arriving at the conclusions on which the auditopinion is based. The basic sources of evidence areknowledge of the business and industry, analyticalprocedures, tests of controls, and direct tests ofaccount balances and transactions. Direct confirmation provides evidence as toexistence and accuracy, but not as to collectibility, orunrecorded balances. Indirectly, it confirms theaccuracy of cut-off and may draw attention toirregularities such as teeming and lading and windowdressing. It gives comfort on the proper operation ofcontrols in the area. 10. A combination of positive and negative confirmations canbe used where there is a small number of large balanceswhich can be confirmed positively, and a large numberof small balances which can be confirmed negatively. Direct confirmation constitutes good quality, third party,documentary evidence, however, debtors may agreewith a balance without checking it, and they may alsoagree with a balance that is understated. Positive confirmations, where the debtor is requested toreply whether he agrees or not, are more reliable thannegative confirmations, which only request a reply in thecase of disagreement 11. Direct confirmation is a time consuming process and theresponse rate is often very low. Any audit procedureinvolving the use of sampling is subject to sampling risk,and where confirmations are carried out at a date otherthan the period-end, the intervening period must beaudited. Direct confirmations require the co-operation ofmanagement but must be controlled by the auditor.There is scope for fraudulent responses to requests fordirect confirmation, in the absence of proper control. 12. Apply suitable audit objectives and assertions on trade receivables and trade payables Main audit objectives for (i) trada payables and (ii) trade receivables Assertions(I) trade payables and (ii) trade receivables objectives Existence :Recorded sales transactions represent goods shipped during the period Recorded cash receipts transactions represent cash received during the period Recorded sales adjustment transactions represent authorized discounts, returns and allowances, and bad debts applicable to the period Accounts receivable represent amounts owed by customers at the balance sheet date 13. Ownership : The entity has rights to the accounts receivablesand cash resulting from recorded sale transactionsAccounts receivables at the balance sheet daterepresent legal claims of the entity on customersfor payment.Completeness: All sales, cash receipts and sales adjustmenttransactions occurred during the period have beenrecorded Accounts receivables includes allclaims on customers at the balance sheet date. 14. Valuation All sales, cash receipts and sale adjustment transactionsare correctly journalized, summarized and posted Accounts receivable represent gross claims on customersat the balance sheet date and agree with the sum of theaccounts receivable subsidiary ledger The provision forbad debts represents a reasonable estimate of thedifference between gross accounts receivable and their netrealizable value Disclosure The details of sales, cash receipts and adjustmenttransactions support their presentation in the financialreport, including their classification and related disclosures Accounts receivable are properly identified and classifiedin the balance sheet Appropriate disclosures have beenmade concerning accounts receivable that have beenfactored or otherwise assigned. 15. Management is responsible for the fairpresentation of financial statements that reflectthe nature and operations of the entity. Assertions used by the auditor fall into thefollowing categories: a. Assertions about classes of transactions andevents for the period under audit: i. Occurrence. Transactions and events that havebeen recorded have occurred and pertain to theentity. ii. Completeness. All transactions and events thatshould have been recorded have been recorded. iii. Accuracy. Amounts and other data relating torecorded transactions and events have beenrecorded appropriately. iv. Cutoff. Transactions and events have beenrecorded in the correct accounting period. 16. v. Classification. Transactions and events have beenrecorded in the proper accounts. b. Assertions about account balances at the period end: i. Existence. Assets, liabilities, and equity interests exist. ii. Rights and obligations. The entity holds or controlsthe rights to assets, and liabilities are the obligations of the entity. iii. Completeness. All assets, liabilities, and equityinterests that should have been recorded have been recorded. 17. c. Assertions about presentation and disclosure: i. Occurrence and rights and obligations. Disclosedevents and transactions have occurred and pertain tothe entity. ii. Completeness. All disclosures that should have beenincluded in the financial statements have been included. iii. Classification and understandability. Financialinformation is appropriatel presented and described anddisclosures are clearl expressed. iv. Accuracy and valuation. Financial and otherinformation are disclosed fairly and at appropriateamounts. 18. The auditor should use relevant assertionsfor classes of transactions, accountbalances, and presentation and disclosuresin sufficient detail to form a basis for theassessment of risks of materialmisstatement and the design andperformance of further audit procedures.The auditor should use relevant assertionsin assessing risks by considering thedifferent types of potential misstatementsthat may occur, and then designing furtheraudit procedures that are responsive to theassessed risks. 19. Relevant assertions are assertions that have a gmeaningful bearing on whether the account is fairlystated. For example, valuation may not be relevant tothe cash account unless currency translation isinvolved; however, existence and completeness arealways relevant. Similarly, valuation may not berelevant to the gross amount of the accountsreceivable balance but is relevant to the relatedallowance accounts. Additionally, the auditor might,in some circumstances, focus on the presentationand disclosure assertion separately in connectionwith the period-end financial reporting process. 20. The auditor may use the relevant assertions as theyare described above or may express them differentlyprovided aspects described above have beencovered. For example, the auditor may choose tocombine the assertions about transactions andevents with the assertions about account balances.As another example, there may not be a separateassertion related to cut-off of transactions andevents when the occurrence and completenessassertions include appropriate consideration ofrecording transactions in the correct accountingperiod. 21. suitable audit test to be used whenauditing the trade receivables andtrade payables Substantive tests provide evidence about managementsassertions and the corresponding audit objectives. In thesubstantive testing phase, the auditor obtains,evaluates, and documents evidence to corroboratemanagements assertions embodied in the accounts andother information in the financial statements and relatednotes. The auditors purpose in performing substantivetests is to determine whether the audit objectives havebeen achieved. Substantive procedures include tests ofdetails of account balances and transactions, andanalytical comparisons and other procedures.. 22. The nature of substantive tests, when they areperformed, and the extents to which they areperformed depend on the auditors materialityjudgments and risk assessments. Furthermore, theassurance required from substantive tests may beobtained from tests of details, analyticalprocedures, or some combination of both, with theassurance obtained from one reducing the assuranceneeded from the other. Substantive tests may also provide evidence aboutthe control structure such as when a misstatementdiscovered through a substantive test is, upon furtherinvestigation, found to have resulted from deficiencyin the control structure. In that situation, the auditormay have to reassess his or her prior conclusionsabout the control structure 23. Suitable audit procedures on tradereceivables and trade payablesAccounts Payable Audit Procedures Accounts payable is a critical portion of yourfinancial records and can be subject to fraud withoutcareful reconciliation and oversight. Strong accountspayable audit procedures can ensure the accuracyand timeliness of your bill payments. The bestaccounts payable audit procedures allow a mixture ofdaily checks, routine internal controls and externalaudit procedures. 24. Routine Procedures Accounts payable should be balanced daily to reconcilepayments to recorded entries. Any discrepancy betweenthe total amount paid and the total recorded should beexamined and reconciled immediately. Managementoversight of every individual involved in accountspayable should be stringent and should include routinemonitoring of activities. Managers should be trained towatch for any signs of misconduct by accounts payablestaff. Sign-off procedures that help establish an audit trailshould be enacted. These sign-offs should includemanagement review of daily reconciliations, monthlydiscrepancy reports and individual sign-offs for largetransactions to ensure that all information is correct. 25. Internal Controls Internal controls for accounts payable should include signaturerequirements according to payment amounts. Considerimplementing several tiers of signature requirements. For example,you could require an accounting managers signature for items ofmore than $5,000, an executive sign-off for items of more than$10,000 and dual signature requirement for payments of more than$25,000. Match your signature requirements to your revenue totalsand the susceptibility of your business to fraud for maximumbenefit. Establish routine control procedures for accounts payable. Includespot checks on individual payments to ensure accuracy. Forexample, review five payables every day and check the paymentamount and payee information and ensure that accounting recordshave been completed correctly. During book closing procedures at the end of a month or financialperiod, include sign-off procedures for all account payable workincluding summary totals and account reconciliations. Additionally,keep a running report that monitors payment levels from accountspayable processing. If payment levels suddenly increase ordecrease, an automatic investigation into the causes can head offpotential problems. 26. External Audits Most external audits include accounts payable as a testingarea. External audits should take a detailed accountspayable listing and trace totals from the details through allaccounting records to the summary total and should includethe bank withdrawals. Select items should be chosen for in-depth testing. Select payees should be contacted to verifyreceipt of payments. Additionally, routine reconciliationsshould be reviewed for accuracy and logical processing. Anyreconciliations with large discrepancies should beinvestigated completely. External audits should test for unrecorded liabilities.Consider selecting all invoices over a specified threshold anda random selection of routine invoices for in-depth review.Look at disbursement records, credits for returns, goodsreceived but not invoiced, and any invoice-specific accounts.Ensure that every invoice is recorded properly in the correcttime period. Review the account for to see if it was recordedas a liability or if it was properly excluded from the timeperiod. 27. Substantive Audit Proceduresfor Accounts Receivable Audits are internal and external reviews of acompanys financial information. Companies useaudits to ensure its financial information is accurateand represents the true nature of the companysfinancial transactions. Accounts receivablerepresents the money owed to the company by clientand consumers. Auditors use substantive auditprocedures to test the balances of accountsreceivable accounts. Substantive audit proceduresare direct tests using specific information from thecompanys accounting system and financialstatements 28. Reviewing Accounts Receivable Process The first step in auditing a companys accountsreceivable process is scouring out the originatinginformation. Auditors usually pull a sample of clientsor customers from the companys accountreceivables ledger and review the originatinginformation that resulted in the current balance. Thisis an important step because companies can easilycreate fraudulent accounting balances by simplyadding fake clients and receivables balance tobolster its financial statement. Reviewing the originalsales information will prove to the auditors that asales on account actually occurred, resulting in theaccounts receivable balance. 29. Interview Accounting Employees Auditors will usually interview the employees whohandle customer accounts to determine how well thecompany operates. Accounting employees may berequired to math check the receivables informationand ensure that sufficient backup is included with thecustomers paperwork. Interviewing these employeescan also help auditors determine how much trainingis involved in the accounts receivable process. A lackof employee training may indicate the potential forerrors to occur in the accounts receivable process. 30. Verifying Balances with Clients Another important audit procedure is contacting thecompanys major clients and requesting the client toverify their accounts payable amounts owed to thecompany. Auditors will take this external informationand match it to the companys internal information.Variations in the dollar amounts will result in furthertests or more information needing to be provided bythe company to determine why the variationoccurred. Auditors will usually review information forseveral months of the accounts receivable account todetermine how well the company operates over anextended period of time. 31. Tracking the Payoff Process Testing the payoff process for accounts receivable isanother important part of the auditing process.Auditors will review when the company was paid forgoods and services and how long it took the companyto apply the money received to the open accountsreceivable balance. Variation between the amountpaid and the amount owed will also need to bejustified by the company. Auditors may need toreview the companys bank statements to completelysource the depositing of the check from the client. 32. THANK YOU