Identification of Issues

This case focus on the Nefret Stores. The Nefret Stores is a large discount cosmetic
department store chain and recenlty expanded from 5 to 15 stores. In this case,
Nefret has overstated net income and understated their accounts payable and
recorded fictitious supplier credits that further reduced accounts payable' As a
result, an Income & Sales Tax Department investigation was critical of the evidence
gathered by Nefret's audit firm, Abdul & El-Emir, in testing accounts payable and
the supplier credits. The
companys deficiencies in the sufficiency and
appropriateness of the evidence in the audit of accounts payable follows:
Kashir Advertising Credits An insufficient number of confirmations (8) were sent.
The use of alternative procedures is probably acceptable. However, one credit was
confirmed by telephone, rather than by written confirmation. Although the
differences found were immaterial, the auditors should have determined the reason
for the differences, and any errors should have been projected to the population.
Also, only 6 confirmations were received back and the other 2 were not followed up
on. Thirty additional credits were selected for testing. Whether this is a sufficient
number is a matter of judgment, and depends on several factors. With a fairly small
sample, it is critical that the items selected for testing adequately represent the
population. The testing relied on internal documentation, which is insufficient to
support the credits. The placing of the ad is insufficient evidence without supporting
evidence from the vendor supporting the reduction in accounts payable.
Nashwa Credits These credits were confirmed by telephone, and were not
supported by a written confirmation. The staff auditor was suspicious of the clients
unwillingness to allow written confirmation of the amounts, as well as the clients
changing explanation of the nature of the credits, but did not perform additional
testing to resolve any doubts about the validity of the credits.
Zaki Credits The auditor obtained an oral confirmation that these credits were not
valid. The client indicated that the auditor's information was incorrect, but would
not allow the auditor to obtain written confirmation for these credits. In addition, the
credit memos had been altered, which should have further indicated to the auditor
that the credits were not valid.
Accounts Payable Accrual The auditors sent 50 accounts payable confirmations.
Whether this is a sufficient number of confirmations is a matter of auditor judgment.
However, the adequacy of the confirmations as evidence is significantly undermined
by the knowledge that the client told suppliers how to respond. As a result, the
auditor should have verified the confirmed balances using alternative procedures.
There is no discussion of the performance of alternative procedures for nonresponses, or the resolution of the six responses that were not reconciled to
Grandes records. There is no action on the $290,000 unrecorded liability found
through extrapolating confirm testing. The auditors agreed to an adjustment of
$260,000 when their cutoff tests indicated a potential liability of $500,000 for cutoff
and $290,000 for confirms. It would be appropriate for the auditors to agree to a
lower amount only if additional testing supported a lower accrued liability.

Connection to Theoretical and Empirical Research

Audit Evidence of Nefret Store Case

When it came to the audit of the Nefret Store there was insufficient numbers (eight out of 2,500)
to be an exact for the confirmations that were made regarding what was spent by Nashwa Credits.
With 250 pages, 1,000 vendors and $500,000 at least 1% should have been audited for each
vendor. Getting information to confirm by an outsider who has the qualifications is reliable and
acceptable but it should be in written form. The auditors of Nefret Store used the phone. This
alternative procedure might be acceptable but it should never be used. The auditors felt the
differences in the audit were immaterial, but the auditors should have went further and found out
the reason for these differences. If the auditors had kept track of the differences they might have
found that there were many errors this causing them to find the reason why there were so many
differences (Arens, Elder, & Beasley, 2012, pp. 175-206).

When it came to testing the ads the auditors should never rely on just internal documentation. By
trusting the internal documentation they did not have sufficient enough evidence to support the
credits. Placing an ad is not sufficient enough evidences without quality supporting evidences
from the vendor that it was a reduction in accounts payable. When using such a small sample it is
critical that the items selected can adequately represent the entire population of the list.

Management is responsible for the preparation of the financial statements based on the
accounting records of the entity. The auditor should obtain audit evidence by testing the
accounting records, for example, through analysis and review, re performing procedures followed
in the financial reporting process, and reconciling related types and applications of the same
information. Through the performance of such audit procedures, the auditor may determine that
the accounting records are internally consistent and agree to the financial statements. However,
because accounting records alone do not provide sufficient appropriate audit evidence on which
to base an audit opinion on the financial statements, the auditor should obtain other audit
evidence.(Paragraph 04.)

The reliability of audit evidence is influenced by its source and by its nature and is dependent on
the individual circumstances under which it is obtained. Generalizations about the reliability of
various kinds of audit evidence can be made; however, such generalizations are subject to
important exceptions. Even when audit evidence is obtained from sources external to the entity,
circumstances may exist that could affect the reliability of the information obtained. For
example, audit evidence obtained from an independent external source may not be reliable if the
source is not knowledgeable. While recognizing that exceptions may exist, the following
generalizations about the reliability of audit evidence are useful:
o Audit evidence is more reliable when it is obtained from knowledgeable
independent sources outside the entity.
o Audit evidence that is generated internally is more reliable when the related
controls imposed by the entity are effective.
o Audit evidence is more reliable when it exists in documentary form, whether
paper, electronic, or other medium (for example, a contemporaneously written
record of a meeting is more reliable than a subsequent oral representation of the
matters discussed).(Paragraph 8.Sec 328.aicpa.org)

Analysis and Evaluation

The Nefret Stores is a large discount cosmetic department store chain and recently expanded
from 5 to 15 stores. Nefret Stores has overstated net income and understated their accounts
payable and recorded fictitious supplier credits that further reduced accounts payable. As a result,
an Income and Sales Tax Department investigation was critical of the evidence gathered by
Nefret's audit firm, Abdul and El-Emir, in testing accounts payable and the supplier credits.
An insufficient number of confirmations 8 were sent. The use of alternative procedures is
probably acceptable but one debt confirmed by phone and did not use a written confirmation. In
addition, although the difference was found the amount is not material, but the auditor should
keep looking because the differences that occur so that the errors found can be projected to the
total population. With a very few samples, it is important to ensure that the samples taken truly
represents the entire population. The test is highly dependent on internal documentation, which is
insufficient to support the evidence of a credit account. Advertising is insufficient evidence if it
is not supported by the data vendor associated in the decrease of accounts payable.
The accounts Payable Nashwa confirmed of credit were conducted by telephone and not
supported by written confirmation. The staff auditor actually suspect's objection to the client to
allow the written confirmation of the amount and an explanation of changing the credit memos,
but the auditor does not perform additional test to address the doubts related to whether or not
the debts are valid.
The accounts Payable the auditor obtained from Zaki directly confirms that the credits is not
valid. The client indicated that the information obtained by the auditor is not true, but would not
allow the auditor to obtain written confirmation of the credit. In addition, the credit memo has
been changed, and should be a strong indication for the auditor that the credit is not valid.
Accrual Loans Auditor sending 50 samples to be confirmed. As a result, the auditor should have
verified the confirmed balances using alternative procedures. There is no discussion of the
performance of alternative procedures for non-responses, or the resolution of the six responses
that were not reconciled to Grandes records. There is no action on the $290,000 unrecorded
liability found through extrapolating confirm testing.
The auditors agreed to an adjustment of $260,000 when their cutoff tests indicated a potential
liability of $500,000 for cutoff and $290,000 for confirms. It would be appropriate for the
auditors to agree to a lower amount only if additional testing supported a lower accrued liability.