F8 aa (int)session26 j08

SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

OVERVIEW
Objective
¾

To describe practical methods used to collect audit evidence.

SOURCES OF
EVIDENCE

RISKS

C

A

¾
¾

Trade payable & accrued expense
Provisions

¾
¾

Trade payable & accrued expense
Provisions

P

E

R

IAS 37
¾
¾
¾

Provisions
Contingencies
Litigation

¾
RECONCILIATIONS ¾
¾

Control a/c
Individual supplier’s a/c
“Cutoff”

A comprehensive audit program for payables, accrued expenses and provisions is set out in
Appendix 3.

2601


SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

1

SOURCES OF EVIDENCE

1.1

Trade payables and accrued expenses

1.1.1

Distinction

¾

Both are liabilities to pay for goods/services received, however:
‰
‰

¾

trade payables have been invoiced or formally agreed with suppliers
accrued expenses have not.

Accruals are often reported as part of trade and other payables.

Example 1
Complete the following ideas list for trade accounts payable and accrued
expenses.

Solution
1.1.2

“Ideas list”

1.1.3

¾

Accounting systems

⇒

¾

Documentation

⇒

¾

Tangible assets

⇒

¾

Management and employees

⇒

¾

Customers and suppliers

⇒

¾

Other third parties

⇒

¾

Analytical procedures

⇒

1.2

Provisions

1.2.1

Definition

Examples

Liabilities of uncertain timing or amount.

1.2.2

Recognition criteria [IAS 37]

(a) A present obligation (legal or constructive) as a result of a past event
(b) An outflow of resources to settle the obligation is probable
(c) A reliable estimate of the amount can be made.

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SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

2

RISKS

2.1

Trade payables and accrued expenses

¾

Liabilities incurred may be unrecorded (e.g. purchase invoices not processed). Financial
statements do not reflect extent of liability and expenditure is understated.

¾

Secured liabilities may not be identified and security may not be disclosed.

¾

Accrued expenses (e.g. for goods/services received but not invoiced) relating to current
year expenditure may be omitted.

¾

Liabilities may be recorded/payments to suppliers made for goods not received (due to
error or fraud).

2.2

Provisions

¾

Liability may be excessive (i.e. overstated) – due to uncertainty in estimating amount.

¾

Classification as current or non-current may be inappropriate – due to uncertainty of
timing.

¾

Liability may be overstated if a provision is not reversed when its settlement is no
longer probable.

3

RECONCILIATIONS

A comprehensive audit program for trade payables and accrued expenses is set
out in Appendix 3.

3.1

Control account reconciliation

3.1.1

Proforma control a/c
Trade payables ledger control a/c
$

$
Cash a/c (cash book)

x

Discounts received a/c (CB) x
Purchase returns a/c
(purchase returns day book) x

Balance b/f
(opening trade payables)

x

Purchases (credit) a/c
(PDB)

x

Trade receivables ledger contra
(journal)
x
Balance c/f
(closing trade payables)

x
__

__

x
__

x
__
Balance c/f

x

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SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

3.1.2

Reconciliation

¾

To check the accuracy of client’s postings of individual transactions to individual
suppliers’ a/cs and totals to the payables (ledger) control a/c.

¾

Procedure as for trade accounts receivable.

3.2

Suppliers’ statement reconciliations

¾

Unlike accounts receivable, good quality third party evidence in the form of suppliers’
statements may exist. These are the suppliers’ trade account receivable, sent to their
customers to prompt payment.

¾

The main audit procedure for the verification of trade payables and accrued expenses is
the examination of suppliers’ statement reconciliations. It is essential that reconciling
items are properly accounted for.

¾

A limitation of this procedure is that the customer may not receive or keep statements

from all suppliers. Additional steps will then be necessary to confirm existence and
completeness of amounts payable, including:
‰
‰
‰

direct confirmation (i.e. requesting that the supplier provide a statement);
cutoff tests on goods received; and
examination of post year-end payments and invoices.

Example 2
Describe how would you confirm the following items on a reconciliation of a
balance per a supplier’s statement to the balance per the payables ledger a/c.
(Assume suppliers’ statement and ledger a/c balances both as at the end of the
reporting period.)

Solution
3.2.1
¾

Reconciling item

Purchase invoices on supplier’s
statement not included in ledger
a/c balance

3.2.2
−
−
−

¾

Cash payments in payables’
ledger a/c not on supplier’s
statement

2604

−
−

How verified


SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

3.3

Cut-off

3.3.1

Purchases and payments

¾

Individual suppliers statement reconciliations identify items (see above) which are
checked to ensure that cutoff between purchases/payables and cash is correct.

3.3.2

Purchases and inventory

¾

The source document for checking the accuracy of cutoff it the goods received note
(GRN).

¾

Goods received before the end of the reporting period (i.e. included in inventory as at
the end of the reporting period) must be included in purchases for the year and trade
payables (or goods received not invoiced accrual)

¾

Goods received after the end of the reporting period (i.e. excluded from end of the
reporting period inventory) must be included in purchases for the next year and not
included in trade payables at the end of the reporting period.

4

IAS 37 PROVISIONS

4.1

Provisions

¾

See section 1.2 above for definitions and recognition criteria.

4.1.1
¾

Amounts
‰
‰
‰
‰

¾

carrying amount at beginning and end of period
additions and increases
amounts used (i.e. incurred and charged)
unused amounts reversed

Narrative
‰
‰

¾

Disclosure

nature of obligation and expected timing of outflows
uncertainties about amount or timing (and major assumptions made).

In extremely rare cases, when information may be seriously prejudicial, it need not be
disclosed. But general nature of dispute and reason for not disclosing info should be
disclosed.

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SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

4.2

Contingent liabilities and contingent assets

4.2.1

Definitions [IAS 37]

¾

Contingent liability

(a) A possible obligation arising from past events whose existence will be confirmed only by
the occurrence or non-occurrence of one or more uncertain future events not wholly
within the control of the enterprise; or
(b) A present obligation arising from past events (an “obligating event”) which is not
recognised because:
(i) an outflow of resources is not probable; or
(ii) it cannot be measured with sufficient reliability.

¾

Contingent asset – A possible asset arising from past events whose existence will be
confirmed only by the occurrence or non-occurrence of one or more uncertain future
events

¾

Uncertainty – Can be expressed by a range of outcomes.

Quantified probabilities
‰

4.2.2

Suggest a level of precision that
is unlikely to be supported by
available info

General description
‰

Using terms ranging from
“probable” to “remote”

Accounting treatment [IAS 37] — Summary

Flow of resources

Obligation

Asset

Remote

No disclosure

No disclosure

Probably not/ Possible

Contingent liability disclosure

No disclosure

Probable

Provision (if reliable estimate) –
otherwise a contingent liability

Disclosure required

Expected/ virtually certain

Provision

Asset (not contingent)

4.2.3

Disclosure

¾

Nature of the contingent liability/asset

¾

Estimate of financial effect (where practicable)

¾

Uncertain factors affecting amount or timing

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SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

4.3

Litigation and claims

4.3.1

Procedures [ISA 501]

¾

Make inquiries of management and obtain representations.

¾

Review board minutes and correspondence with entity’s lawyers.

¾

Examine legal expense accounts.

¾

Use information obtained from discussions with any in-house legal department.

¾

Seek direct communication with the entity’s lawyers.
‰

Letter prepared by management and sent by auditor, requests the lawyer to
communicate directly with the auditor.

‰

Ordinarily specifies

−
−
‰

Requests lawyer to

−
−
¾

confirm reasonableness of management’s assessments
provide further information if the list is incomplete/incorrect.

In certain circumstances meet lawyer to discuss the likely outcome of
litigation and claims.

4.3.2
¾

a list of litigation and claims
management’s assessment of the outcome and estimate of financial
implications, including costs involved.

Permission to communicate refused

Scope limitation ⇒ a qualified opinion or a disclaimer of opinion (see later session).

FOCUS
You should now be able to:

¾

distinguish between:
‰
‰

trade payables and accrued expenses;
provisions per IAS 37 and allowances against asset values;

¾

identify risks of misstatements and sources of evidence;

¾

select appropriate audit procedures (including verification of suppliers’ statement
reconciliations) for inclusion in a work program (see also Appendix 3) relating to financial
statement assertions concerning trade payables and accruals;

¾

recognise and account for contingent liabilities and contingent assets in accordance with
IAS 37.

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SESSION 26 – TRADE PAYABLES, ACCRUED EXPENSES AND PROVISIONS

EXAMPLE SOLUTION
Solution 1 — Sources of evidence
¾

Accounting systems

⇒

e.g. PDB = book of prime entry

¾

Documentation

⇒

Purchase
requisitions/orders/invoices/GRNs, cheque
payments

¾

Tangible assets

⇒

Inventories (raw materials, goods for resale)

¾

Management and employees

⇒

Buyer, purchase ledger supervisor/clerks,
chief cashier

¾

Customers and suppliers

⇒

Suppliers (provide monthly statements?)

¾

Other third parties

⇒

Intermediaries (e.g. warehousing agents)

¾

Analytical procedures

⇒

Payable days outstanding, current ratio,
accrued expenses to trade payables % or ratio

Solution 2 — Supplier’s statement reconciliation
¾

¾

Purchase invoices on supplier’s
statement not included in ledger
a/c balance

Cash payments in payables’
ledger a/c not on supplier’s
statement

2608

¾

If accrued by client, inspect GRN (should be
cross-referenced) and confirm dated before the
end of the reporting period

¾

If not accrued by client, confirm GRN dated
after the end of the reporting period

¾

Confirm any other reason for non-inclusion
(e.g. if client wrongly invoiced should be
supplier’s credit note on a statement after the
end of the reporting period)

¾

I.e. “cash-in-transit” – cheque should be raised
in the cash book shortly before the end of the
reporting period and clear bank shortly
afterwards

¾

Confirm payment on next month’s supplier’s
statement