Operating expenses refer to the costs incurred by a business in the company’s day-to-day operations. These expenses are a crucial part of the financial statements as they provide a picture of the company’s operational performance.
This article will discuss the accounting treatment of operating expenses under IFRS, the audit risks associated with these expenses, audit assertions, and the audit procedures that auditors can use to verify their accuracy.
Accounting Under IFRS:
Under International Financial Reporting Standards (IFRS), operating expenses are recognized in the financial statements when they are incurred and measured at their cost.
The cost of operating expenses includes all expenses incurred in generating revenue, such as salaries, rent, and utilities.
IFRS requires that operating expenses be disclosed in the financial statements, including a breakdown of the types of expenses incurred. The disclosure should also include any amounts that have been capitalized, reclassified, or deferred.
There are several audit risks associated with operating expenses, and auditors should be aware of them to ensure that they are addressed adequately. Some of these risks include:
- Misstatement of expenses due to errors in the preparation of the accounts.
- Misstatement of expenses due to fraud or unethical behavior.
- Misstatement of expenses due to changes in accounting policies and estimates.
- Misstatement of expenses due to incorrect classification of expenses as capital or operating expenses.
- Misstate expenses due to discrepancies between the amounts recorded in the financial statements and the actual amounts incurred.
- Misstatement of expenses due to inadequate internal controls.
- Misstatement of expenses due to inadequate disclosure of expenses in the financial statements.
- Misstatement of expenses due to inadequate segregation of duties in the accounting process.
- Misstatement of expenses due to incorrect timing of the recognition of expenses.
- Misstatement of expenses due to the incorrect measurement of expenses.
When auditing operating expenses, auditors must consider the following audit assertions:
- Existence: The assertion that the operating expenses recorded in the financial statements exist and are incurred by the company.
- Completeness: The assertion that all operating expenses incurred by the company have been recorded in the financial statements.
- Valuation: The assertion that the operating expenses have been recorded at the correct amounts.
- Rights and Obligations: The assertion that the company has the right to the benefits received from the operating expenses and the obligation to pay the amounts incurred.
- Presentation and Disclosure: The assertion that the operating expenses have been presented and disclosed following IFRS.
Walkthrough testing is an audit procedure that involves reviewing the documentation of the transactions that make up the operating expenses and tracing them back to the source documents.
This procedure helps auditors understand the transactions and assess the internal controls.
Test of Control:
A test of control is an audit procedure that involves evaluating the effectiveness of internal controls over recording operating expenses.
This procedure helps auditors to identify any control deficiencies and assess the risk of misstatement in the financial statements.
Substantive Audit Procedures:
- Review and understand the client’s policies and procedures regarding recognizing, measuring, and disclosing operating expenses.
- Examine supporting documents, such as invoices, contracts, and other relevant records, to verify the accuracy and validity of operating expenses.
- Assessment of the completeness of operating expenses, including the review of any accruals, deferrals, and provisions.
- Review the classification of operating expenses in the financial statements to ensure they are properly accounted for and disclosed.
- Analyse trends and fluctuations in operating expenses over time, including comparison with prior periods, industry benchmarks, and budget.
- Examine the internal control system to ensure adequate controls are in place to prevent and detect fraudulent activities.
- Testing of selected transactions for the accuracy of the amounts and classification of operating expenses.
- Recalculate any calculated amounts, such as commissions, bonuses, and other forms of compensation, to ensure accuracy.
- Review the segregation of duties and responsibilities related to operating expenses to prevent fraud or errors.
- Comparison of operating expenses with budgeted amounts to identifying any significant variances.