You are required to List and briefly explain the substantive tests the auditor would carry out to verify the values attributed to:
i) Trade debtors in a company’s financial statements.
Substantive tests are the tests that the auditor carries out to obtain evidence as to the completeness and validity of the balances reported in the financial statements i.e. procedures carried out to test the management assertions.
In regard to debtors the following substantive procedures will be necessary:
- To carry out a trend analysis on the level of debtors by comparing the current year debtors with the previous two years and obtaining explanations for the reported trend. The evidence obtained from this analysis will assist the auditor in identifying circumstances that could lead to the misstatement of debtors balances;
- Compute the debtors‘ days, debtors‘ turnover and the ratio of provisions for doubtful debts to trade debtors‘ balances. Compare the ratios with the previous year and obtain explanations for any significant variations. Such an analysis will assist the auditor in evaluating the recoverability of the debtors‘ balances and whether an adequate provision has been made;
- Obtain a listing of balances as at the year end and agree the total to ledger balance;
- Select a sample of debtors‘ balances and perform circularization. This will assist in confirming existence of the balances;
- Obtain a sample of significant balances and verify if any payments have been received after the year-end. This will provide good evidence as to the recoverability of debtors balances;
- Discuss with management accounts that appear doubtful. This will include accounts above the authorised credit limits, accounts with disputed balances and balances that have been outstanding for a long period of time. Ensure that an adequate provision has been made for these balances;
- Test the operation of the cut-off procedures by obtaining details of the last dispatch note processed during the year and ensure that all transactions that relate to the current financial period have been recorded.
(ii) Trade creditors in a company’s financial statements.
a) Compare the current years creditors balance with the previous year and obtain explanations for any significant movements. Such an analysis will give indications for example on the completeness on creditors.
b) Compute the creditors days and compare with the previous years and obtain explanations for any significant movements. Creditors days give an indication of the number of days it takes on average to pay creditors.
c) Obtain a creditors listing and verify that the total per the listing agrees with the total per the ledger.
d) From the listing select a sample of creditors and carry out the following procedures:
- Obtain or prepare a reconciliation of the creditors balance per the ledger to the suppliers‘ statements;
- Obtain explanations for all the reconciling items and where appropriate ensure that the reconciling items have been adjusted in the books of account. The reconciling items will mainly include suppliers invoices not posted in the clients ledger or payments not reflected in the suppliers statements.
e) Obtain a sample of payments made to suppliers after year- end and verify that all the invoices that related to the period under review had been accrued for.
f) Obtain all the pending invoices that relate to the financial period under review and verify that these had been accrued for.