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Chapter 8 Acquisition and Expenditure Cycle “Show those numbers to the damn auditors and I'll throw you out the $%*@@ window.”----(Buddy Yates, director of WorldCom, Inc. general accounting, to an employee asking for an explanation of a large accounting discrepancy). Learning Objectives

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Chapter 8

Acquisition and Expenditure Cycle

“Show those numbers to the damn auditors and I'll throw you out the $%*@@ window.”----(Buddy Yates, director of WorldCom, Inc. general accounting, to an employee asking for an explanation of a large accounting discrepancy).


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Learning Objectives

  • Identify significant inherent risks in the acquisition and expenditure cycle.

  • Describe the acquisition and expenditure cycle, including typical source documents and controls.

  • Give examples of tests of controls over purchases of inventory and services.

  • Explain the importance of the completeness assertion for the audit of accounts payable liabilities, and list some procedures for a “search for unrecorded liabilities.”


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Learning Objectives (cont.)

  • Discuss audit procedures for other accounts affected by the acquisition and expenditure cycle.

  • Specify some ways fraud can be found in accounts payable and cash disbursements.

  • Describe some common errors and frauds in the acquisition and expenditure cycle, and design some audit and investigation procedures for detecting them.


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Acquisition and Expenditure Cycle

Concerned with transactions involving:

  • The purchase of merchandise and materials necessary for the continued operations of business and

  • The subsequent payment for such purchases.


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Inherent Risks

  • Unrecorded liabilities

  • Noncancelable purchase agreements

  • Capitalizing expenses


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Acquisition and Expenditure Cycle: Typical Activities

  • Department requesting purchase of item(s) prepares a PURCHASE REQUISITION

  • Purchase is approved by preparation of a PURCHASE ORDER

  • After vendor approval, goods are received by company and evidenced by preparing a RECEIVING REPORT

  • Vendor bills company for goods using a VENDOR'S INVOICE


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EXHIBIT8.2 ACQUISITION AND EXPENDITURE CYCLE


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Control Procedures

  • Information processing controls

    • Compare quantities against receiving report and purchase order

    • Compare prices against quoted price or catalog listing

    • Mathematically verify vendor's invoice

    • Determine when to pay invoice and prepare VOUCHER

  • Segregation of duties

    • AUTHORIZATION of the purchase by the purchasing department.

    • Custody of the inventory item(s) is held by the receiving department and, ultimately, the requesting department.

    • Transactions are recorded by general accounting (control account) and accounts payable department (subsidiary accounts)

  • Physical controls

    • Prepare a receiving report upon initial receipt of inventory

    • Count and verify inventory quantities upon delivery to the inventory warehouse

    • Restrict access to inventories by keeping them in a secured location

  • Performance reviews

    • Compare purchases data to data from previous years or expected purchases data


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Audit Evidence in Management Reports and Data Files

  • Open purchase orders

  • Unmatched receiving reports

  • Unmatched vendor invoices

  • Accounts payable trial balance

  • Purchases journal

  • Inventory reports



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The Completeness Assertion

  • Search for Unrecorded Liabilities

    • Scan open purchase order file

    • Examine all UNMATCHED VENDOR STATEMENTS/INVOICES

    • Examine all UNMATCHED RECEIVING REPORTS occurring near year-end

    • TRACE from unpaid VOUCHERS in A/P

    • Confirm A/P with NORMAL SUPPLIERS (even those with zero balances)

    • Review CASH DISBURSEMENTS occurring after year-end


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Purchase Cutoffs

  • Verify CUT-OFFs for purchases

    • Examine Receiving Reports and Vendor Sales Invoices occurring around year-end to ensure inventory received is included in the appropriate period.


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Other Accounts in Cycle

  • Accrued Expenses

  • Prepaid Expenses

  • Expenses

  • Inventory

  • Property Plant and Equipment


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Accrued Payables

  • Major differences between ACCRUED PAYABLES and ACCOUNTS PAYABLE

    • Examples include INTEREST, PROPERTY TAXES, WAGES, and INCOME TAXES PAYABLE

    • These payables are not normally INVOICED or EVIDENCED by the RECEIPT OF GOODS

  • These differences may make it more difficult to detect UNRECORDED ACCRUALS


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Auditing Accrued Payables and Prepaid Expenses

  • Agree balances to PRIOR YEAR WORKPAPERS

  • Verify PAYMENTS

  • Examine UNDERLYING AGREEMENTS

  • RECALCULATE amounts

  • Search for UNRECORDED ACCRUALS

    • Review CASH DISBURSEMENTS at year-end

    • Look for expected accruals at other stages of the audit (BONDS, NOTES, employees paid on 15th, etc.)

  • ANALYTICAL PROCEDURES


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Auditing Property, Plant, and Equipment

  • GENERAL APPROACH

    • Use TEST OF TRANSACTION approach

      • Small number of transactions

      • Relatively high dollar transactions

    • Authorization of Transactions (Board of Directors) takes on added importance.

    • Less concern for ACCESS to ASSETS

    • More concerned with UNRECORDED DISPOSALS


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Auditing Property, Plant, and Equipment

  • Agree balances to prior year documentation

  • PURCHASES OF PPE

    • VOUCH to INVOICE or COST RECORDS

    • Inspect TITLE

    • VOUCH to BOARD MINUTES

  • EXPENDITURES SUBSEQUENT TO ACQUISITION

    • VOUCH to INVOICE and WORK DESCRIPTIONS

    • Consider propriety of classification (EXPENSE or CAPITALIZE)


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Auditing Property, Plant, and Equipment

  • DISPOSAL OF PPE

    • VOUCH from PPE to BOD MINUTES (AUTHORIZATION)

    • Vouch to cash receipts journal and validated deposit slip

    • Recalculate gain/loss

    • TRACE from BD MINUTES to PPE for disposals (COMPLETENESS)

  • Look for unrecorded disposals

    • Agree balances to PRIOR YEAR WORKPAPERS

    • Examine insurance policies, property tax records, etc.

    • PHYSICALLY INSPECT or CONFIRM fixed assets

      • Both existing and newly-acquired items

      • Confirm assets LEASED to others under capital leases


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Auditing Property, Plant, and Equipment

  • DEPRECIATION EXPENSE

    • Recalculate using USEFUL LIFE, SALVAGE VALUE, COST, and METHOD (VA)

    • Evaluate REASONABLENESS of USEFUL LIFE, SALVAGE VALUE, etc.

    • Is depreciation consistent with COMPANY POLICY (half year conventions)?

  • LEASE AGREEMENTS

    • Verify proper treatment (Capitalized or Operating)

    • Ensure disclosure in footnotes is appropriate



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Auditing Expense Accounts

  • Analytical procedures (e.g. sales commissions)

  • Agree to related balance sheet account (depreciation)

  • Substantive tests of transactions (e.g. payroll)

  • Vouch detail (e.g. legal expense)


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Photocopies of invoices

Invoices in numerical order

Round numbers

Slightly below threshold

P.O. Boxes

No listed phone #

Vendor and Employee addresses the same

Multiple vendors at same location

Fraud Signs


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