External confirmations

Definition

External confirmations are inquiries made by auditors to independent third parties to obtain evidence regarding specific financial statement assertions. These confirmations serve as a key substantive testing procedure, enabling auditors to validate account balances, transactions, or conditions reported by the company being audited.

5 Must Know Facts For Your Next Test

1. External confirmations can be classified into positive confirmations, where the recipient is requested to respond regardless of agreement, and negative confirmations, where they only respond if they disagree.
2. These confirmations are particularly useful for verifying account receivables, payables, and bank balances, which are critical areas in assessing a company's financial health.
3. The reliability of external confirmations depends on the independence of the third party and the nature of the information being confirmed.
4. Auditors must consider whether external confirmations are sufficient in quantity and appropriateness to reduce audit risk effectively.
5. If responses to external confirmations are not received or are inconsistent with company records, auditors may need to perform additional procedures to resolve these discrepancies.

Review Questions

• How do external confirmations contribute to the overall audit process?
  • External confirmations play a vital role in the audit process by providing independent evidence that supports the assertions made by management in financial statements. By reaching out to third parties, auditors can validate account balances and transactions, which helps increase the reliability of financial reporting. This procedure helps auditors identify potential misstatements and assess the accuracy of information presented by the company.
• Discuss the different types of external confirmations and their relevance in verifying financial statement assertions.
  • There are two main types of external confirmations: positive and negative confirmations. Positive confirmations require recipients to respond regardless of their agreement with the information, ensuring a higher level of assurance. Negative confirmations only ask for a response if there is a disagreement. Both types serve distinct purposes in verifying financial statement assertions; positive confirmations provide stronger evidence while negative confirmations can be more efficient in certain scenarios. Auditors choose based on factors like materiality and risk.
• Evaluate the implications of not receiving responses to external confirmation requests during an audit.
  • Not receiving responses to external confirmation requests can significantly impact an audit's conclusions. It raises questions about the reliability of the financial information presented and increases audit risk. In such cases, auditors must consider alternative procedures to gather sufficient evidence. They might need to conduct additional tests or inquiries to address discrepancies or gaps in evidence. The lack of responses may also indicate potential issues with internal controls or management integrity that auditors need to assess further.

Related terms

Substantive Procedures: These are audit processes designed to detect material misstatements in financial statements through direct testing of transactions and balances.

Audit Evidence: Information collected by auditors to support their conclusions on the financial statements, which can include external confirmations, observations, and analytical procedures.

Confirmation Request: A formal request sent by an auditor to a third party to confirm the accuracy of information provided by the client, such as account balances or terms of agreements.