Verification procedures in the audit of liabilities

Amounts falling Due within one Year- Current
Liabilities

Into
this category will fall:
·        
Trade creditors
·        
Accruals
·        
Provisions
·        
Bank overdraft and short-term loan (or part of loan due to the next 12
months)

·        
Amounts due to other group or related companies.
TRADE CREDITORS
Compliance Testing of Internal Control Procedures
As
part of their audit of balance sheet items auditors will have regard to the
internal control incorporated into the system in which the liability is
recorded. For example, the figure for trade creditors is largely derived from
the purchase ledger which is part of the purchase system, so controls within
the purchases system are relevant to the auditor’s evidence gathering
procedures for trade creditor’s verification.
The
auditors will consider control designed to ensure that:
·        
Purchased goods and services are properly authorised and documented.
·        
Purchases of goods and services are only made for the business.
·        
Invoices and similar document are properly checked before being
accepted.
·        
Only valid transactions are entered into the accounting records.
Substantive Testing
In
addition to testing control procedures the auditors will carry out substantive
testing procedures. These include:
·        
Reconciling the list of trade creditors with the control account-note
that in most cases with computerised system these will automatically agree.
·        
Reviewing year end cut-off procedures
·        
In addition a sample of balance should be subject to specific test such
as:
·        
Is the balance made up of specific amount over a reasonable period?
·        
Have all the entries making up the balance been authorised?
·        
Was the balance paid in full after the year end?
·        
Carrying out an analytical review of the creditors figure, i.e. look at
creditor days, comparison of creditors with previous periods etc. For
reasonableness.
Accruals
Students
should understand the definition of an accrual. An accrual is an amount set
aside for a specific liability i.e. where the expenditure has been incurred in
the period but for which no invoice has been received.
Commonly
these cover such expenses as gas, electricity, telephone, etc. They are often
relatively immaterial and analytical procedure will often provide sufficient
evidence.
Key
audit procedures include:
·        
Identifying how the client identifies all accruals required to be
made-discover and test the procedures.
·        
Check the schedule of accruals for arithmetical accuracy.
·        
Check the calculation of accruals.
·        
Compare with previous period to ensure consistency.
·        
If material include reference to accruals in the management letter.
Provisions
Provisions
differ from accruals. FRS 12 defines a provision as a liability which exists
but for which the amount or its timing is uncertain. An example of a provision
is an amount set aside to meet the cost and any penalties arising from claims
against the business. It may not be known when the claims will be made and how
much they might amount to, particularly if the company is contesting them.
Auditors
should establish procedure to ensure:
·        
There is a liability of some amount e.g. ledge document, claim letters,
minutes of meetings (existence).
·        
That the company may be liable and that the liability will not be met by
someone else, e.g. an insurer (right and obligation).
·        
That the management have made as reasonable an estimate in the circumstances,
that the assumption they have use are valid and that the basis on which it has
been calculated is on a similar basis to that of pervious years, if appropriate
(valuation).
The
auditors may have to use a certain amount of judgement in order to satisfy
themselves as to the value of the liability. They may well, if the provision is
material, want to receive specific assurances from management in the letter of
representation (see chapter 25), but these will not replace the auditors own
evidence-gathering procedures.
Finally,
the auditors must ensure that provisions are properly disclosed in the
financial statements, including any explanatory note (classification).
Bank Overdrafts and Short-Term Loans
These
will be disclosed separately on the balance sheet even if there are other bank
balances in credit unless there is a right of set-off of accounts-which the
bank will advise on.
Verification
of these overdrawn bank balance is similar to verifying bank balance as
detailed above and basically requires the auditors to check the bank
reconciliation and obtain independent third party evidence from the bank.
Verification
of amount due on loans will require the auditors to review the loan
documentation and confirm any calculations.
It
will be necessary to review original documentation and to obtain confirmation
that the company has met all its obligations to date and has not defaulted on
any loan repayment. If necessary these should be traced through the records.
Amounts Due to Group and Related Companies
If the
auditors are auditors to the other companies in the group, the balance can be
reconciled with each other.
Particular
attention should be paid to the balances have arisen to ensure that only bona
fide inter-company transactions are included such as head office charges,
recharges of costs and expenses, management fees, etc. And that related
companies, i.e. those that are not full subsidiaries, in particular are being
used to hide trading losses etc.
Again
assurance from management may be required in respect of transactions with
related ort associated companies.

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