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Chapter 16

Management and Organizational Studies 3363A/B Chapter Notes - Chapter 16: Purchase Order, Audit Risk, Cheque


Department
Management and Organizational Studies
Course Code
MOS 3363A/B
Professor
Michelle Loveland
Chapter
16

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Chapter 16 – Audit of the acquisition and payment cycle
Two distinct classes:
1. Acquisition of goods and services
Accounts payable, cash, purchases returns and allowances, purchase
discounts, manufacturing expense control account, raw material
purchases, PP&E, prepaid expenses, leasehold improvements,
administrative expense control account, selling expenses control
account
2. Cash disbursements
Can be by cheque, electronic payment or other (i.e bank draft)
- Involves the decisions and processes necessary for obtaining the goods and
services for operating a business.
- Typically begins with the initiation of a purchase requisition by an authorized
employee who needs the goods or services
- Ends with payment for benefits received
Risk of Fraud or Error
- Error:
oAmounts posted to A/P are for goods in trans where shipping terms
indicate that the risk/reward of ownership have not yet been passed to
entity (FOB shipping point vs. FOB destination)
oProvisions are understated because a provision has not been recorded
oPayments are posted in the wrong vendor account
oIncorrect rates used to amortize PP&E
- Misappropriation, other fraud, or illegal acts:
oDeliberately recording A/P in the next period
oUse fictitious vendor allowances to reduce A/P
oIssue payments to fictitious vendors and steal funds (most common; can
be prevented by allowing payments to be made only to approved vendors
and by having authorized personnel carefully scrutinize documents
supporting the acquisition before payments are made)
oTheft of fixed assets, such as portable computing equipment
- Risk of inadequate disclosure or incorrect F/S
oOmitting disclosure of related party transactions
oOmitting disclosure of contingent liability
oIncorrect disclosures relating to various components of PP&E
oIncorrect and confusing information disclosed about vendor allowances

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Functions in the Cycle, Related Documents and Records, and Internal Controls
Five business functions:
1. Processing purchase orders
1) Documents and Records:
Normally starts with an approved purchase order requisition that is
used to create an approved purchase order for an authorized vendor.
oPurchase order rec provides a written internal record by an
authorized employee to the purchasing department
oPurchase order records description, quantity and related
information; this constitutes as a contract with vendor
As purchase commitments are made, trans details are recorded in the
purchase order transaction file; purchase orders are automatically
numbered sequentially and help in tracking purchase commitments,
expected delivery dates, and items on backorder
Proper authorization is given for acquisitions and changes to the
vendor master file.
oEnsures that goods and services acquired are for authorized
company purposes; avoids acquisition of excessive or
unnecessary items
oExample of authorization: capital assets over a certain amount
must be authorized by board of directors
oMaintains a record for each vendor of individual acquisitions,
cash disbursements, acquisition returns and allowances, and
vendor balances
For good internal controls, purchasing department should not be
responsible for authorizing the acquisitions or receiving the goods
2. Receiving goods and services
1) Documents and Records:
When goods are received, adequate control requires examination
for description, quantity, timely arrival, and condition by a
person who is independent of the A/P function. This should be
compared to the receipt received from vendor.
oReceipt should be entered into the computer system
Receiving department then initiates receiving report as evidence
of the receipt and examination of goods
oReceiving report indicates the description of the goods,
quantity received, the date received, and other relevant
data
oReceiving report is then send to the A/P department for
matching with vendor invoices

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oReceiving personnel should be independent of warehouse
personnel and accounting department
oAccounting records should transfer responsibility for
goods as they are transferred from receiving to storage
3. Recognizing the liability
1) Documents and Records:
Vendor invoices should be matched to both receiving reports.
oVendor invoices specify the details of an acquisition
transaction and the amount of money owed to the vendor
Authorized purchase documents are recorded as an A/P and listed
in the acquisition journal. Acquisition journal totals are posted
to the general ledger
oAcquisition journal lists vendor invoices received for
physical goods and services, May also include returns and
allowances
The summary acquisition report typically includes information
analyzed by key components such as account classification, type
of inventory and division.
Unpaid transactions are used to prepare the A/P trial balance.
This sum should always agree with the sum of liabilities in the
vendor master file and with the g/l A/P total.
oA/P trial balance is a listing by each vendors of the
amount owed at the time
The A/P department typically has responsibility of recalculating
footings and extensions and verifying details on documents and
records are correct
Personnel who record acquisition should not have access to cash,
marketable securities or other assets
Other documents and records include:
oDebit memo: a document indicating a reduction in the
amount owed o a vendor due to returned goods or
allowances granted
oVendor transaction file: tracks details of acquisition
transactions: invoices, debit memos, payments, and other
adjustments
oVendors statement: a statement prepared monthly by
vendor; indicates the customers beginning balance,
acquisitions, payments and end balances
4. Processing and recording master file changes
1) Documents and Records:
New suppliers should undergo credit checks while other
suppliers should be subject to periodic review for quality of
service, product, delivery time, and other criteria approved my
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