8-1

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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Presentation Outline
I. The Expenditure Cycle
II. Expenditure Cycle Risk, Control
Procedures, and Testing
III. Audit Evidence in Management Reports
and Data Files
IV. Other Accounts in Cycle

I. The Expenditure Cycle

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A. Requisitioning in Stores
B. Order Processing in Purchasing
C. Receiving
D. Delivery Acknowledgement in Stores
E. Invoice Verification in Purchasing
F. Accounts Payable Prepares the Voucher
Package
G. Cash Disbursements
H. General Ledger
I. Internal Audit

A. Requisitioning in Stores

Prepare
Requisition

Requisition
Processing

Purchase
Database

8-4

Requests for purchases

originate outside the
purchasing department.
Purchase requisitions
arise in stores or other
departments.
Requisitions should be
approved in the
originating department.
Purchasing has access to
the requisition thru the
purchase database.

B. Order Processing in Purchasing

Prepare
Order
Purchase
Requisition
Select
Vendor

Retrieve
Purchase
Requisition

Purchase
Database

Order
Processing

Purchase
Order

To Vendor

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Purchase requisitions may

be overridden due to a
lack of funds, improper
authorization by the
requesting department,
etc.
Purchasing selects a
vendor using an approved
vendor list or a bidding
process.
Accounts payable, the
requesting department,
and receiving all have
access to the purchase
order through the
purchase database.

From Vendor

Delivery

Blind
Count

Delivery

C. Receiving
Match to
Purchase
Order

Enter
Receipt

To Stores

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Receiving accesses the

Purchase
purchase order and matches
Order
it with the vendor delivery.
Receiving only accepts
Retrieve
deliveries for which there is
Purchase
Order
an existing purchase order.
Blind counts are often used to
force counters to actually
Purchase
count the items received.
Database
A receiving supervisor later
verifies the quantity against
Order
the purchase order.
Processing
Stores has access to this
report thru the purchase
database.

D. Delivery Acknowledgement in Stores

8-7

From
Receiving

Delivery

Match to
Delivery

Receiving
Report

Retrieve
Receiving
Report

Goods
Receipt
Processing

Purchase
Database

The stores department

acknowledges receipt of
the delivery on the
receiving report in the
purchase database.
Purchasing and
accounts payable have
access to the
acknowledged report
thru the purchase
database.

E. Invoice Verification in Purchasing

From Vendor

Vendor
Invoice

Purchase
Database

Invoice
Verification

Vendor
Invoice

To Accounts
Payable

8-8

Purchasing uses the

purchase database to
compare the purchase order,
acknowledged receiving
report, and vendor invoice
for any discrepancies.
Purchasing authorizes the
invoice for payment once
they are satisfied that the
invoice is correct per the
order and what was
received.

F. Accounts Payable Prepares the Voucher Package

8-9
From Purchasing

Vendor
Invoice
Prepare
Voucher

Purchase
Requisition
Purchase
Order
Receiving
Report

Retrieve
Documents

Purchase
Database

Voucher
Processing

Voucher
Check

Voucher

To Cash
Disbursements

Accounts
Payable
or
Voucher
Register
Journal
Voucher

To General
Ledger

The purchase
requisition, purchase
order, acknowledged
receiving report, and
approved vendor
invoice provide the
support for the
preparation of a
voucher.
The voucher serves to
summarize the
purchase for entry on
the records as a
liability.

Voucher
From Accounts
Payable

G. Cash Disbursements
Cancel
Voucher
after
Signing
Check

Sign
Checks

Voucher
Check

Voucher
Check

Voucher

Post

Check
Register

Voucher
Check

Forward to
Payee

Control
Total

To General
Ledger

8-10

Cash
disbursements
received the
voucher
package and
check for
signing.
Cash
disbursements
maintains a
check register
and forwards a
journal entry to
general ledger.

H. General Ledger
From Cash
Disbursements

Control
Total

Journal
Voucher

From Accounts
Payable

Compare
Post

General
Ledger
Processing

Control
Total
Journal
Voucher

General
Ledger

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General ledger
receives the journal
entry from accounts
payable (Debit
Accounts payable
and Credit Cash)
and compares it to
the control total for
cash disbursements.
The journal entry is
then posted into the
general ledger.

I. Internal Audit

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Bank
Statement
From
Bank

Cancelled
Checks

Bank
Reconciliation

Bank
Reconciliation
Bank
Statement
Cancelled
Checks

Check
Register

An independent
reconciliation
of the bank
account is
performed by
internal audit.

8-13

II. Expenditure Cycle Risk, Control

Procedures, and Testing
A. Inherent Risks
B. Cost and Expense Capers Exhibit 8.2
C. Expenditure Control Procedures
D. Assertions of Classes of Transactions and Events
for the Period: Acquisition and Expenditure
Cycle Exhibit 8.4
E. Direction of Tests Exhibit 8.3
F. The Completeness Assertion
G. Purchase Cutoffs

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A. Inherent Risks
Unrecorded liabilities may arise when invoice
verification has not been completed for what should be a
liability.
Noncancelable purchase agreements drop in market
prices below agree contractual price should result in loss
recognition.
Capitalizing expenses expenditures with no future
value may be capitalized when they should be expensed.

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B. Cost and Expense Capers Exhibit 8.1 on p. 293

C. Expenditure Control Procedures

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Information processing controls

Compare quantities against receiving report and purchase order

Compare prices against purchase order (i.e., quoted price)
Mathematically verify vendor's invoice
Determine when to pay invoice and prepare VOUCHER

Segregation of duties
AUTHORIZATION of the purchase is done 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) or vouchers payable

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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D. Assertions
of Classes of
Transactions
and Events
for the
Period:
Acquisition
and
Expenditure
Cycle
Exhibit 8.4 on
p. 299

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E. Direction of Tests Exhibit 8.3 on p. 298

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F. The Completeness Assertion

Search for Unrecorded Liabilities
Inquire of client about their procedures
Scan open purchase order file
Examine all UNMATCHED VENDOR
STATEMENTS/INVOICES
Examine all UNMATCHED RECEIVING REPORTS
occurring near year-end
Confirm A/P with NORMAL SUPPLIERS (even those
with zero balances)
Review CASH DISBURSEMENTS occurring after
year-end

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G. 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.

8-21

III. Audit Evidence in Management

Reports and Data Files
A. Open Purchase Orders
B. Unmatched Receiving Reports
C. Unmatched Vendor Invoices
D. Accounts (Vouchers) Payable Trial
Balance
E. Purchases Journal
F. Fixed Asset Reports

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A. Open Purchase Orders

Purchase orders are open from the time they
are issued until goods are received.
Auditors can find evidence of losses on
purchase commitments in this file (i.e.,
market prices are below price in purchase
order).

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B. Unmatched Receiving
Reports
Auditors can inspect unmatched receiving
report file to determine whether the
company has material unrecorded liabilities
on the financial statement date.

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C. Unmatched Vendor Invoices

Auditors can inspect unmatched vendor
invoice file and compare it to the
unmatched receiving report file to
determine whether the company has
material unrecorded liabilities on the
financial statement date.

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D. Accounts (Vouchers) Payable

Trial Balance
The trial balance is a list of payable amounts by
vendor, and the sum should agree with the
accounts payable control account.
Some organizations have a trial balance of
individual unpaid vouchers rather than vendor
names.
Search for unrecorded liabilities should emphasize
small and zero balances, especially for regular
vendors.

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E. Purchases Journal
Purchases can be scanned for purchasing
patterns indicating error or fraud:
Purchase with unapproved vendors
Purchases to multiple companies at the
same address
Duplicate payments
Vendors whose address matches an
employee

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F. Fixed Asset Reports

Information for depreciation calculation (cost,
useful life, method salvage) can be used for
the audit of depreciation on a sample basis
or by computer applications to recompute
all depreciation.

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IV. Other Accounts in Cycle

A. Accrued Liabilities v. Accounts Payable
B. Auditing Accrued Liabilities and Prepaid
Expenses
C. Account Analysis for Prepaid Expenses
Exhibit 8.5
D. Auditing Property Plant and Equipment
E. Sample PP&E and Depreciation
Document Exhibit 8.6

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A. Accrued Liabilities v. Accounts

Payable
Major differences between ACCRUED Liabilities
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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B. Auditing Accrued Liabilities and Prepaid

Expenses

Agree balances to PRIOR YEAR WORKPAPERS

Verify PAYMENTS
Examine UNDERLYING AGREEMENTS
RECALCULATE amounts
Agree EXPENSE ACCOUNTS to trial balance

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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C. Account Analysis for Prepaid Expenses Exhibit 8.5

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D. AUDITING PROPERTY, PLANT, AND

EQUIPMENT
GENERAL 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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D. AUDITING PROPERTY, PLANT, AND

EQUIPMENT (Continued)
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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D. AUDITING PROPERTY, PLANT, AND

EQUIPMENT (Continued)
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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D. AUDITING PROPERTY, PLANT, AND

EQUIPMENT (Continued)
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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E. Sample PP&E and Depreciation Documentation Exhibit 8.6
on p. 304

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Summary
Segregation of Duties in Expenditure Cycle
Risk and Testing in Expenditure Cycle
Searching for Unrecorded Liabilities
Audit of Property, Plant & Equipment