Audit of Sales and Account Receivables

8/12/2019 Audit of Sales and Account Receivables

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AUDITING THE REVENUEPROCESS

AUDIT IPrepared by: Siti Hajar Asmah bt Ali


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REVENUE RECOGNITIONRevenue is defined as the gross inflowof

economic benefits during the period arising in

the course of the ordinary activities of anentity when those inflows result in increases in

equity, other than increases relating to

contributions from equity participants.


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Overview of the Revenue Process

Purchases

Inventory

Credit sales

Account

receivable

Cash

collectionPurchases

Inventory

Cash

sales

Cash Sale Credit Sale


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Types of documents and recordsCustomer Sales Order

Contains the details of the type and quantity of products or services

ordered by the customer.

Credit Approval Form

For credit sales, the client must have a formal activity (procedure) for

investigating the creditworthinessof the customer.

Open-Order Report

A report of all customer ordersfor which processing has no tbeen

completed.


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Shipping Document

This document generally serves as a bill of lading and contains

information on the type of product shipped, the quantity shipped and otherrelevant information.

Sales Invoice

The document is used to bill the customer. This document containsinformation on the type of product or service, the quantity, the price and the

terms of trade.

Sales Journal

Once a sales invoice has been issued, the sale needs to be recorded in theaccounting records. The sales journal is used to record information about

the sales transaction.


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Customer Statement

This document is mailed to the customer and contains details of all sales,

cash receipts, and credit memorandum transactions.

Accounts Receivable Subsidiary Ledger

This ledger contains an account and the details of transactionsfor eachcustomer.

Aged Trial Balance of Accounts Receivable

This report summarizes all the customer balances in the accounts

receivable subsidiary ledger. Each account is classified as current or

placed into one of several past due categories.


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Types of Documents and Records

Shipping

Goods should not be shipped, nor should

services be provided without properauthorization. The main control is

payment or proper credit authorization.

Billing

The objective of proper billing is to ensure that all goodsshipped and all services rendered are billed to thecustomer.

Credit Authorization

The credit authorization process must

determine that the customer is able to payfor the goods or services purchased.

Failure to properly authorize credit canlead to extensive bad debtsfor the entity.


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Assertions about Classes of Transactions(Revenue cycle)

Occurrence

All revenue and cash receipt transactions and events

that have been recorded have occurred and pertain to

the entity.

CompletenessAll revenue and cash receipt transactions and events

that should have been recorded have been recorded.

Accuracy

Amounts and other data relating to recorded revenue

and cash receipt transactions and events have been

recorded appropriately.

Cutoff All revenue and cash receipt transactions and events

have been recorded in the correct accounting period.

ClassificationAll revenue and cash receipt transactions and events

have been recorded in the proper accounts.


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Occurrence

The auditor is concerned about two major types of

material misstatements:

1. Sales to fictitious customers.2. Recording revenue when goods have not been shipped or services

have not been performed.

The auditor needs assurance that all recorded

revenue transactions are valid.


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In order to prevent fictitious sale, belowcontrol procedures should be practiced by

management:

Segregation of duties ( shipping function &order entry & billing function)

Sales recorded only with approved customer

order and shipping document Customer monthly statementshandled

independently


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Completeness

The major misstatement that concerns both

management and the auditor is that goods are

shippedor services are performed and no

revenue is recognized.Control procedure to prevent violation of

completeness:

Maintain numerical sequence of

document ( shipping document & sales

invoice) Shipping documents matched to sales

invoices

Sales invoices reconciled to daily sales

report


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Accuracy

The presence of an authorized price list and

terms of trade reduces the risk of inaccuracies.

The sales invoice should also be verified for

mathematical accuracy before being sent to thecustomer.

Control procedure to prevent violation of

valuation & allocation:

Sales invoice must always agreed to shippingdocument and customer order for producttype and quantity, mathematical accuracy of

sales invoice verified

Reconcile sales invoice to daily sales report


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Cutoff

Sales may be recorded in the wrong accounting

period.

Possible misstatements Control procedure

Revenue transactions recorded in

the wrong period

All shipping documents forwarded

to the billing function daily

Daily billing of goods shipped


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Classification

The use of a chart of accounts and proper codes

(for a different products) for recording

transactions should provide adequate assurance

about the proper classification of revenue

transactions.


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Understanding and Documenting Internal

ControlThe auditor identifies what controls ensure that the

assertions for transactions and events are being met.

Documentation of the auditors understanding of the

revenue process can be accomplished by using:

Procedures

manuals

Narrative

descriptionsFlowcharts

Internal control

questionnaires


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Substantive Procedures

Select a sample of sales transactions from sales journaland trace sales invoices back to customer orders andshipping documentsOccurrence

Trace a sample of shipping documents to the details in theSI and to the sales journal and debtors subsidiary

Completeness

Compare prices and terms on a sample of SI with theauthorized price list and terms of tradeAccuracyCompare dates on a sample of SIwith the dates ofshipmentand with the dates they were recorded in thesales journalCutoffExamine a sample of SI for proper classification in torevenue accounts

Classification

Assertions about classes of transactions


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Management assertions about account

balances

(Account Receivable)

Recorded account receivable andrelated balances existExistence

The entity holds or controls the rightsto the ARRights &obligations

All AR that should have been recordedhave been recordedCompleteness

AR & related accounts are included inthe f/s at appropriate amounts

Valuation &allocation


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Substantive Procedures

Obtain confirmation for a selected sample of accountsreceivable

Existence

Review bank confirmations for any liens on receivablesRights and

obligations

Obtain aged trial balance of accounts receivable andagreeing of total to general ledgerCompletenessExamination of a sample of sales invoices and shipping

documents for a few days before and after year end forrecording sales in proper period.CutoffEvaluate the results of the confirmations of selectedaccount receivables

Valuation &allocation

Assertions about account balances


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The Confirmation Process

Confirmation is the process of obtaining

information from third parties about the account

receivable balance.

Confirmation is a good source of evidence about

the validity of the account receivable.

The confirmation process should be controlled by

the auditor.


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Type of confirmation

Positive Confirmation

Requests that customers

indicate whether they

agreewith the amount

due to the client.

A response is expected

whether the customer

agrees or disagrees with

the balance indicated.

Negative Confirmation

Requests that the

customer respond only

when they disagree with

the amount due to theclient.

Negative confirmations are

used when the client has

many small accountbalances and control risk

is assessed as low.


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Confirmation Procedures

The auditorshould mail the confirmation requestsoutside the clients facilities. A record should be

maintained of the confirmations mailed and those

returned. A second request may be necessary in somecases.

For each exception received, the

auditor should examine the reasons for

the difference between the balance onthe clients books and the balance

indicated by the customer.


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Timing difference

Goods delivered to wrong customer

Invoice sent to wrong customer

Fictitious sale

Goods not received bycustomer

Timing differenceCash misappropriate

Payment applied to wrong customer account

Payment not recordedin entitys sale

Incorrect quantity or price

Recording the errorProcessing error

Price of goods in dispute

Goods damage in transitAmount dispute

Examples of exceptions to confirmation

requests


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In some circumstances, sending

confirmation is notreliable:

The response rates would beinadequate.

The responses are expected

unreliable.Inadequacy of information.


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Alternative Procedures

When the auditor does not receive responses

to positive confirmations, alternative audit

procedures are used. These alternative

procedures include:1. Examination of subsequent cash receipts.

2. Examination of customer orders, shipping documents and duplicate

sales invoices.

3. Examination of other client documentation.


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Evaluating the Audit Findings

When the auditor has completed the planned

substantive procedures, the likely misstatement for

accounts receivable is determined.

Likely misstatement*

less than tolerable

misstatement

Likely misstatement*

greater than tolerable

misstatement

Accept the account

as fairly presented

Account is not fairly

presented.


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The end