As you know, companies cannot possibly pay their debts by the last day of the fi

Question

As you know, companies cannot possibly pay their debts by the last day of the fiscal year.

You will discuss how auditors treat the timing issues encountered in accounts payable audits.

As part of the audit process, auditors like to try to get as much work as possible done before the balance sheet date. This is possible with several accounts due to their nature and the extent of the testing done. However, the accounts payable audit is performed after the balance sheet date.

• What are some of the reasons that accounts payable testing should not be performed until after the company year end?

• What are the specific timing issues that come into play when the auditor tries to determine the true value of accounts payable?

• Why are audit confirmations so critical in valuing accounts payable?

Explanation / Answer

Auditors treat the timing issues encountered in accounts payable audits:

Testing accounts payable provides evidence about the most significant current liability of many companies. The most common liability called "trade payables" when the obligation is related to acquisition of goods for resale or manufacture. Accounts payable reference the obligations to vendors for purchases of inventory, supplies, or services on credit. Purchases related to accounts payable may be reported at the gross method or the net method. When testing accounts payable as assertions about purchases, the timing is important because here differentiation between the closing stock and cost of goods sold are also involved.

Completeness testing of Accounts Payable is the most important test, which involves:

    1.    Reconcile accounts payable ledger with control account.

    2.    Purchases cutoff test tests to determine if goods for which title has passed or not passed are appropriately accounted for. FOB shipping point and FOB destination are critical to this test.

    3.    Analytical procedures. Accounts payable turnover is very important. Unusual transactions should be investigated.

    4.    Cash disbursements cutoff test: The specific timing issues that come into play when the auditor tries to determine the true value of accounts payable through cutoff test where cash disbursement and accounts payable reduction are reconcilable. Inspect the last check written and trace it to the accounts payable subsidiary ledger of various clients.

    5.    Trace subsequent payments to recorded payables. Match checks issued subsequent to year end with the related payable which involves the matching of the balances. Checks should be issued only for payables that existed on the balance sheet at year end. Any check that cannot be matched may represent an unrecorded liability at year end. Companies may delay recording a liability to improve their current ratio. Most important test for completeness of accounts payable.

    6.    Search for unvouchered payables. In a voucher system, a voucher is not prepared until the requisition, receiving report, and sellers invoice are reconciled with the purchase order. Auditors search open files for unmatched documents.

Confirmations of transactions and balances: If confirmations are used, small and zero balances should be sampled as well as large balances. For example, if orders are placed with a vendor on a consistent basis, a confirmation should be sent to the vendor regardless of the balance due at year end. Inquire of management about the types of payables. Unusual transactions involving accounts payable should be disclosed, such as related party transactions involving accounts payable. Auditors must obtain a management representation letter with assertions relating to accounts payable and purchases.

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