You are auditing the receivables and the companys bank accou

You are auditing the receivables and the company’s bank accounts for XYZ Ltd, a small manufacturer of high quality furniture.  XYZ makes cabinets to order for local contractors and home renovators, and some stock items for local furniture stores.  XYZ Ltd has several bank accounts.  Customers pay by cheque.  All suppliers are paid by cheque.  Salaries are paid by cheque or via bank transfer.

As part of the audit, you have:

1.  conducted some confirmations by telephone because in previous years, the response rate to written request has been extremely low.

2.  spoken by telephone with the accounts payable clerk of ABC Co. to verify account balance.  The clerk does not understand the importance of confirmations.

3.  gained confirmation from TDH.  There has been either a receivable to TDH., or a payable to TDH.  TDH is a subsidiary of XYZ Ltd.

Required:

(a)Explain how each of the notes above affects the reliability of the evidence obtained by confirmation?

Solution

Answer:-

1. Conducted some confirmations by Telephone because in previous years the response rate to written request has been extremely low:-

– the above substantive audit procedure performed by the audior falls under external confirmations, so 1st we need to know what is external confirmation:-

- Audit evidence relating to assertions in the financial statements or related disclosures either as a direct response to the auditor from a confirming party as a result of a positive or a negative confirmation request, or the lack of response to a negative confirmation request .

so while considering reliablity of audit evidence obtained through such telephonic confirmation, audior should:-

1. Check whether There was a situations in which the respondent, because of timeliness or other considerations, responds to a confirmation request other than in a written communication mailed to the auditor.

2. When such responses are received, additional evidence may be required to support their validity. For example, facsimile responses involve risks because of the difficulty of ascertaining the sources of the responses. To restrict the risks associated with facsimile responses and treat the confirmations as valid audit evidence,

3.the auditor should consider taking certain precautions, such as verifying the source and contents of a facsimile response in a telephone call to the purported sender.

4.In addition, the auditor should consider requesting the purported sender to mail the original confirmation directly to the auditor.

5.Oral confirmations should be documented in the workpapers. If the information in the oral confirmations is significant, the auditor should request the parties involved to submit written confirmation of the specific information directly to the auditor

.2. Understanding the importance of External Confirmation ( Telephponic call to clerk for balance confirmation )

- Unusual or complex transactions may be associated with high levels of inherent risk and control risk. If the entity has entered into an unusual or complex transaction and the combined assessed level of inherent and control risk is high, the auditor should consider confirming the terms of the transaction with the other parties in addition to examining documentation held by the entity.

For example, if the combined assessed level of inherent and control risk over the occurrence of revenue related to an unusual, year-end sale is high, the auditor should consider confirming the terms of that sale.

The auditor shall seek external confirmations when that is the only means of obtaining sufficient appropriate audit evidence in response to an assessed risk of financial statement misstatement.

In this case all the payments where directly made through bank accounts of respective parties there were no personal interaction between parties and company this may led to non-payment or false payment to parties,
confirming balance with them , will provide sufficient appropriate audit evidence in determining whether company books accurate amount of sales and purchases and whether the payment made to such person are actually made or whether such payments are authorized or not.

3. Gained confirmation from TDH.  There has been either a receivable to TDH., or a payable to TDH.  TDH is a subsidiary of XYZ Ltd.

Transactions with subsidiary company should be finalized at the end of the year as there is statutory requirment of consolidation, and any difference arising out of it will draw special attention of auditor, as the chances of fraud is maximum , because transactions with subsidiary is merly a book adjustement entry , they wil never pay back to holding company or they will never receives any payment form such holding company.

regarding reliability of audit evidence auditor should check whether accounts and records of the subsidiary company is audited or not.

auditor should ask management about how they reach to such balance at the end , and try to match such entries with how holding company arives at such balance, if both the explanation match with each other auditor can rely on audit evidence obtained through external confirmation.