Audit of the Acquisition and

Payment Cycle: Tests of

Controls, Substantive Tests
of Transactions, and
Accounts Payable.
Chapter 19

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 1

 Learning Objective 1

Identify the accounts and the

classes of transactions in the
acquisition and payment cycle.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 2

 Transactions in the Acquisition
and Payment Cycle
1. Acquisitions of goods and services
2. Cash disbursements
3. Purchase returns and allowances
and purchase discounts

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 3

 Accounts in the Acquisition
and Payment Cycle
Raw Material
Cash in Bank Accounts Payable Purchases
Cash Acquisitions
disbursements of goods and
services
Purchase Returns Property, Plant
and Allowances Purchase and Equipment
returns and
allowances

Purchase
Purchase discounts Prepaid
Discounts Expenses

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 4

 Accounts in the Acquisition
and Payment Cycle
Manufacturing Expense Control Account
Subsidiary accounts
Repair and maintenance
Taxes, Supplies
Freight in, Utilities

Accounts Payable Selling Expense Control Account

Acquisitions Subsidiary accounts
of goods and Commissions
services Travel, delivery expenses
Repairs, Advertising

Administrative Expense Control Account

Subsidiary accounts
Supplies, Officers’ travel
Legal fees
Auditing fees, Taxes
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 5
 Learning Objective 2

Describe the business functions

and the related documents and
records in the acquisition and
payment cycle.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 6

 Classes of Transactions
and Accounts
Acquisitions:
 Inventory
 Property, plant, and equipment
 Prepaid expenses
 Leasehold improvements
 Accounts payable
 Manufacturing expenses
 Selling and administrative expenses
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 7
 Classes of Transactions
and Accounts
Cash disbursements:
 Cash in bank (from cash disbursements)
 Accounts payable
 Purchase discounts

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 8

 Business Functions in the
Cycle
 Processing purchase orders

 Receiving goods and services

 Recognizing the liability

 Processing and recording cash disbursements

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 9

 Related Documents
and Reports
Processing purchase orders:
 Purchase requisition
 Purchase order

Receiving goods and services:

 Receiving report

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 10

 Related Documents
and Reports
Recognizing the liability:
 Vendor’s invoice
 Debit memo
 Voucher
 Acquisitions transaction file

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 11

 Related Documents
and Reports
Recognizing the liability:
 Acquisitions journal or listing
 Accounts payable master file
 Accounts payable trial balance
 Vendor’s statement

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 12

 Related Documents
and Reports
Processing and recording cash disbursements:
 Check
 Cash disbursements transaction file
 Cash disbursements journal or listing

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 13

 Learning Objective 3

Describe how e-commerce

affects the acquisition of
goods and service.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 14

 How E-Commerce Affects the
Acquisition and Payment Cycle
Internet-based technologies allow for electronic
linkages between suppliers and customers.

Information about products is available over

the Internet.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 15

 How E-Commerce Affects the
Acquisition and Payment Cycle
Some companies use extranets which allow
companies to communicate and conduct
business in a secure setting.

Other companies use business-to-business

auctions hosted on the Internet to
negotiate purchases.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 16

 Learning Objective 4

Understand internal control, and

design and perform tests of
controls and substantive tests
of transactions for the acquisition
and payment cycle.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 17

 Methodology for Designing Controls
and Substantive Tests
Understand internal control –
acquisitions and cash disbursements

Assess planned control risk –

acquisitions and cash disbursements

Determine extent of testing controls

Design tests of controls and Audit procedures

substantive tests of transactions Sample size
for acquisitions and cash
disbursements to meet Items to select
transaction-related audit objectives Timing
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 18
 Understand Internal Control

 Study the client’s flowcharts

 Review internal control questionnaires

 Perform walk-through tests

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 19

 Assess Planned Control Risk
 Authorization of purchases

 Separation of asset custody from

other functions

 Timely recording and independent

review of transactions

 Authorization of payments

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 20

 Determine Extent of Testing
of Controls
 The auditor identifies the key internal controls
and weaknesses and assesses control risk

 The auditor performs tests of controls to obtain

evidence that controls are operating effectively

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 21

 Controls and Substantive Tests
of Transactions for Acquisitions
 Recorded acquisitions are for goods
and services received (occurrence)

 Existing acquisitions are recorded

(completeness)

 Acquisitions are accurately recorded

(accuracy)

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 22

 Controls and Substantive Tests
of Transactions for Acquisitions
 Acquisitions are correctly included
in the master files (posting and
summarization)

 Acquisitions are correctly classified

(classification)

 Acquisitions are recorded on the

correct dates (timing)

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 23

 Attributes Sampling

Because of the importance of tests of controls

and substantive tests of transactions for
acquisitions and cash disbursements, the use
of attributes sampling is common in this
audit area.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 24

 Important Differences

 Larger number of transactions

 Significant judgment

 Wide range of dollar amount

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 25

 Learning Objective 5

Describe the methodology for

designing tests of details of
balances for accounts payable
using the audit risk model.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 26

 Methodology for Designing Tests
of Balances for Accounts Payable
Identify client business
risks affecting Phase I
accounts payable
Set tolerable misstatement
and assess inherent risk Phase I
for accounts payable
Assess control risk for
the acquisition and Phase I
payment cycle
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 27
 Methodology for Designing Tests
of Balances for Accounts Payable
Design and perform
tests of controls and
substantive tests
Phase II
of transactions
for the acquisition
and payment cycle

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 28

 Methodology for Designing Tests
of Balances for Accounts Payable
Design and perform
analytical procedures
Phase III
for accounts
payable balance
Design tests of Audit procedures
details of accounts
payable balance to Sample size
Phase III
satisfy balance- Items to select
related audit
objectives Timing
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 29
 Learning Objective 6

Design and perform analytical

procedures for accounts payable.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 30

 Analytical Procedures for the
Acquisition and Payment Cycle
Analytical procedure Possible misstatement

Compare acquisition-related Misstatement of accounts

expense account balances payable and expenses
with prior years.

Review list of accounts payable Classification misstatement

for unusual, nonvendor, and for nontrade liabilities
interest-bearing payables

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 31

 Analytical Procedures for the
Acquisition and Payment Cycle
Analytical procedure Possible misstatement

Compare individual accounts Unrecorded or nonexistent

payable with previous years accounts, or misstatements

Calculate ratios, such as Unrecorded or nonexistent

purchases divided by accounts accounts, or misstatements
payable, and accounts payable
divided by current liabilities

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 32

 Learning Objective 7

Design and perform tests of

details of balances for accounts
payable, including out-of-period
liability tests.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 33

 Out-of-Period Liability Tests

 Examine underlying documentation for

subsequent cash disbursements

 Examine underlying documentation for bills

not paid several weeks after the year-end

 Trace receiving reports issued before

year-end to related vendors’ invoices

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 34

 Out-of-Period Liability Tests

 Trace vendors’ statements that show a balance

due to the accounts payable trial balance

 Send confirmations to vendors with which

the client does business

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 35

 Cutoff Tests

 Relationship of cutoff to physical

observation of inventory

 Inventory in transit
 FOB destination
 FOB origin

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 36

 Learning Objective 8

Distinguish the reliability of

vendors’ invoices, vendors’
statements, and confirmations
of accounts payable as audit
evidence.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 37

 Reliability of Evidence

 Distinction between vendors’ invoices

and vendors’ statements

 Difference between vendors’ statements

and confirmations

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 38

 Sample Size

Sample sizes for accounts payable tests vary

considerably, depending on many factors.

Statistical sampling is less commonly used

for the audit of accounts payable than
for accounts receivable.

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 39

 Types of Audit Tests for the
Acquisition and Payment Cycle
Cash in Accounts Acquisition
Bank Payable Expenses
Payments Expenses
Audited by Audited by
TOC, STOT, and AP TOC, STOT, and AP

Ending Ending
balance balance
Audited by Audited
AP and by AP
TDB
TOC + STOT + AP + TDB
= Sufficient appropriate evidence per GAAS
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 40
 Types of Audit Tests for the
Acquisition and Payment Cycle
Accounts Acquisition
Payable Assets
Acquisition
of assets
Audited by
TOC, STOT, and AP

Ending
balance
Audited by
AP and
TDB
TOC + STOT + AP + TDB
= Sufficient appropriate evidence per GAAS
©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 41
 End of Chapter 19

©2008 Prentice Hall Business Publishing, Auditing 12/e, Arens/Beasley/Elder 19 - 42