There are two types of confirmation - positive and negative. In a positive confirmation, the auditor prepares a standard letter [fn] to a number of the client's customers requesting the customer to confirm that the balance stated in the letter is the correct amount owing at a particular point of time. Each letter is normally signed by the client. In the letter, the customer is requested to confirm the amount owing by signing either the bottom half of the letter or an enclosed duplicate of the letter and returning it directly to the auditor in an enclosed reply paid envelope. If the customer disagrees with the amount owing, the customer is invited to provide details of the disagreement. It is called a positive confirmation because the customers are asked to respond irrespective of whether or not they agree with the balance stated as owing.
In a negative confirmation, the auditor arranges for a few words to be either affixed to, stamped or printed on the statements prepared by the client's staff for each customer. The words state something along the following lines:
| If you disagree with the amount shown as
owing on this statement, please contact our auditors below at the following address: xxxxxxxxxxxxx |
It is called a negative confirmation as the customers are only asked to respond if they disagree with the amount owing.
In both types of confirmations, the account balances to be confirmed are selected by the auditor. The customers' statements together with, where appropriate, the accompanying letter, are enveloped and mailed by the auditor to each customer in an envelope printed with the auditor's return address. Thus, any mail that is undelivered is returned to the auditor rather than to the client. Auditors always retain complete control over the entire confirmation process, otherwise the reliability of the evidence gathered is likely to be very much diminished. (See Journal of Accountancy article Top 10 Audit Deficiencies.)
Auditors exercise a high degree of professional skepticism if management requests details of those accounts to be confirmed. There may be a legitimate reason for such a request, but fraud involving the interception of confirmations by management is not an infrequent occurrence (for example, see the summary by Capital Confirmations Inc of the 1999 fraud by the management of CF Foods).
The receipt of a positive confirmation provides highly reliable evidence as to the existence [validity] of the debt but not evidence as to the collectibility [accuracy of valuation] of the debt. Note, however, that the return of mail not delivered to a customer indicates to the auditor the fact that the debt may not exist, or if it does exist, may not be collectible. Consistent with sampling principles, if any of the customers selected for positive confirmation do not respond to the confirmation request, auditors gather other evidence of the existence of the debt. (However, see Journal of Accountancy article Top 10 Audit Deficiencies.)
The non-receipt of a negative confirmation provides less than reliable evidence as to the existence (i.e. validity) and collectibility (i.e. accuracy of valuation) of a debt. However, the return of mail not delivered to a customer similarly indicates to the auditor the debt may not exist, or if it does exist, may not be collectible.
The preparation and mailing of positive confirmations is a costly procedure compared to the preparation and mailing of negative confirmations. However, the number of customers to whom the confirmations are sent and the mix of positive and negative requests (i.e. the quantity and quality of evidence) and when the requests are sent (the timing of the procedure) is largely dependent upon the risk of material misstatement relating to accounts receivable. The higher the risk, the greater is the quantity and the higher the quality of evidence required and the more critical is the timing.
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