Problem 13 12 Page 455 In testing the
Problem 13 -12, Page 455 In testing the cutoff of accounts payable at the balance sheet date, explain why it is important that the auditors coordinate their tests with the physical observation of inventory. What can the auditor do during the physical inventory to enhance the likelihood of an accurate cutoff? Payments Cycle-1
Problem 13 -12 Solution It is important that the cutoff of accounts payable be coordinated with that of the physical inventory to determine that they are established at the same point in time. If these cutoffs are not consistent, goods may be counted in the physical inventory for which no liability in accounts payable has been recorded, or vice versa. Such a situation would result in an understatement of accounts payable and cost of goods sold or an overstatement of these two accounts respectively. During the physical inventory, the auditor should gather cutoff information (e. g. , the last several receiving reports, shipping documents, transfer documents) to assist in the determination that an accurate cutoff was established. Payments Cycle-2
Problem 13 -25, Page 457 Audit Procedure Balance-Related Audit Objective x Trace from the general ledger trial balance and supporting documentation to determine whether accounts payable, related parties, and other related assets and liabilities are properly included on the financial statements. x For liabilities that are payable in a foreign currency, determine the exchange rate and check calculations. x Discuss with the bookkeeper whether any amounts included on the accounts payable list are due to related parties, debit balances, or notes payable. x Obtain vendors’ statements from the controller and reconcile them to the listing of accounts payable. x x Obtain vendors’ statements from vendors and reconcile them to the listing of accounts payable. x x Examine supporting documents for cash disbursements several days before and after yearend. Examine the acquisitions and cash disbursements journals for the last few days of the current period and the first few days of the succeeding period, looking for large or un usual amounts. Obligations Cutoff Classification Accuracy Completeness Existence Detail Tie-in Obtain a list of accounts payable. Re-add and compare with the general ledger. x x x Payments Cycle-3
Problem 13 -26, Page 457 Each year near the balance sheet date, when the president of Bargon Construction, Inc. , takes a three-week vacation to Mexico, she signs several cheques to pay major bills during the period she is absent. Jack Morgan, head bookkeeper for the company, uses this practice to his advantage. Morgan makes out a cheque to himself for the amount of a large vendor’s invoice, and because there is no acquisitions journal, he records the amount in the cash disbursements journal as an acquisition from the supplier listed on the invoice. He holds the cheque until several weeks into the subsequent period to make sure that the auditors do not get an opportunity to examine the cancelled cheque. Shortly after the first of the year when the president returns, Morgan resubmits the invoice for payment and again records the cheque in the cash disbursements journal. At that point, he marks the invoice “paid” and files it with all other paid invoices. Morgan has been following this practice for several years and feels confident that he has developed a foolproof method. REQUIRED: a) What is the auditor’s responsibility for discovering this type of embezzlement? b) What weaknesses exist in the client’s internal control? c) What evidence could the auditor use to uncover the fraud? (Adapted from AICPA) Payments Cycle-4
Solution to Problem 13 -26 a) b) c) The auditor must conduct the audit to detect errors and fraud, including embezzlement, that are material to the financial statements. It is more difficult to discover embezzlements than most types of errors, but the auditor still has significant responsibility. In this situation, the weaknesses of internal control are such that it should alert the auditor to the potential for fraud. On the other hand, the fraud may be immaterial and therefore not have an effect upon the financial statements. The following weaknesses in internal control exist: • The person who reconciles the bank account does not compare payees on cheques to the cash disbursements journal. • The president signs blank cheques, thus providing no control over expenditures. • No one checks invoices to determine that they are cancelled when paid. To uncover the fraud, the auditor could perform the following procedures: • Compare the payee on cheques to the cash disbursements journal. • Follow up all outstanding cheques that did not clear the bank during the engagement until they clear the bank. Compare payee to the cash disbursements journal. Payments Cycle-5
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