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The accounts payable (AP) department handles a considerable number of transactions at most companies, making the AP department especially vulnerable to ledger errors or to being used for fraudulent journal entries. Auditors, therefore, take a special look at AP departments. Auditors use four key procedures in evaluating the AP account to ensure it is free from material misstatements as well as compliant with U.S. Generally Accepted Accounting Principles (GAAP).
1- Examination of standard operating procedures
When SOPs do exist, auditors carefully review them. They also test a sample of transactions to ensure that employees are following procedure.
Standard operating procedures (SOP) are a central aspect of a properly functioning AP department. Despite their importance, some companies have no written SOPs, and many don’t follow the ones they have written.
AP departments that have not created SOPs, or when existing SOPs are not followed, the audit team will stop fieldwork until the department issues formal SOPs or updated them to match the procedures being executed by the company.
2-Analysis of paper trails
Analyzing a paper trail requires that auditors review original source documents including:
- Purchase orders
- Vendor invoices
- Journal entries for AP inventory
- Bank records
The audit team can select transactions in a few ways. Sometimes selection is random. Auditors also select transactions based on the magnitude or frequency. Auditors also ascertain if the company is in compliance with invoice terms and has received the appropriate discounts.
Auditors can request from vendors confirmation of balanced owed. Confirmation forms can request the amount due based on the company’s accounting records, or leave the balance blank and ask the vendor to complete it.
In instances when the amount confirmed by the vendor does not match the amount recorded in the AP ledger the audit team will note the exception. The audit team will ask the AP department about the cause of the discrepancy. When discrepancies cannot be adequately explained and accounted for, they can lead to additional testing procedures.
Depending on nature and size, discrepancies of the balance owed can lead to a qualified adverse audit opinion.
4-Verification of financial statements
Auditors review the congruence of amounts recorded in the company financial statement and the records maintained by the AP department. This process includes reviewing the month-end close process; this review ensures that items are posted in the correct accounting period (the period when expenses are incurred).
Auditors also review the process for recording and identifying related-party transactions. Auditors also look at vendor invoices paid with cash and unrecorded liabilities that involve services or goods received but not yet processed for payment.
These procedures can be used as part of a routine financial statement audit, or you might hire an auditor to target the AP department specifically. In either circumstance, having AP personnel prepare formal SOPs and source documents will boost efficiency. For more information about what to expect during your next audit, contact us at 949-860-9902 or click here, and we will contact you.